A £10,000 investment in this UK dividend stock could earn me £2,500 per year in passive income

Long-term investors don’t have to take risks on dividend stocks that have high yields. Stephen Wright explains why he’s taking a different approach.

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With a 1.4% dividend yield, Judges Scientific (LSE:JDG) looks as much like a passive income stock as I do Chris Hemsworth. But I think it’s perfect for my portfolio – which is why I’ve been buying it.

The stock might not be the best choice for anyone looking to earn a second income in the next couple of years. But from a long-term perspective, things look quite different. 

Is this a dividend stock?

Judges Scientific is more of a dividend stock than it first looks. The yield might not be much to look at, but the company has a policy of increasing its shareholder distributions by at least 10% each year. 

That’s enough to turn a £10,000 investment today into something that generates £2,443 per year 30 years from now. And the reason that matters to me is because it’s when I reach State Pension age. 

Until then, I’m planning to reinvest whatever dividends I receive. With that in mind, I don’t think it’s at all unreasonable to think the eventual return on a £10,000 investment could be over £2,500.

Obviously, this depends on the company’s ability to keep increasing its dividends. And while this isn’t guaranteed, I think it has some really excellent prospects. 

Growth

Judges Scientific is a collection of scientific instrument businesses. These are established operations with strong positions in highly specialised markets that makes them hard for competitors to disrupt.

For example, Scientifica makes instruments that allow scientists to move electrodes to study individual brain cells. This requires deep technical knowledge, creating a high barrier to entry.

The downside to this type of operation is that it can be hard to grow. And while Judges Scientific can create some opportunities, this isn’t the primary source of growth for the overall company. 

Instead, the main focus is on adding new subsidiaries through acquisitions. The firm aims to identify and bring in new businesses that have the characteristics it looks for in its existing ones. 

Risks

This strategy of growing by acquisitions has been extremely effective, but there’s no denying it’s also risky. The biggest danger is the chance of destroying shareholder value by overpaying for a business. 

Judges Scientific isn’t entirely immune from this threat. But it does have some important principles that it looks to stick to in order to minimise the risk for the company. 

One of these is that it aims to avoid paying more than six times operating income for acquisitions. At that level, new subsidiaries don’t need to have terrific growth prospects to work out well. 

Another is by making part of the deal contingent on future results. These ‘earn out’ structures are a common part of Judges Scientific’s agreements and help reduce the risk for the company.

Long-term investing

Being able to take a long-term approach with investing has a lot of benefits. But one of the biggest is it means I can buy shares in companies that can generate spectacular returns, but need time to grow. 

One of these is Judges Scientific and with the stock close to a 52-week low, I’m looking past the current dividend yield. I see this as a great chance to invest in a business with outstanding future prospects.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Stephen Wright has positions in Judges Scientific Plc. The Motley Fool UK has recommended Judges Scientific Plc. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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