As a lover of cheap stocks, I don’t often find UK shares that have risen by 1,900% in five years and are still tempting me to buy.
I often rule out such big winners as too expensive. But investing in shares with strong momentum — rising earnings and share prices — can be a successful strategy, as long as the underlying business is of good quality.
A long-term winner?
The stock I’ve been looking at is wargaming specialist Games Workshop (LSE: GAW). Shareholders who’ve held this popular UK share for five years have seen the value of their stock rise by a staggering 1,940%. That’s equivalent to an average annual gain of 83% for five years.
Games Workshop’s share price growth has slowed slightly over the last year, which has seen the stock rise by about 50%. But the business is still performing well, despite the disruption caused by the pandemic.
The Warhammer hobby appears to have attracted an army of new followers keen to build and paint models and take part in games. Sales rose by 26% to £187m during the six months to 29 November, while pre-tax profit rose by 6% to £92m.
In addition to strong sales of the company’s miniature figures, profits are being boosted by royalties generated from licensing the group’s assets for use in media such as video games and television. Royalties have totalled around £15m over the last 12 months. This is almost pure profit — the company says there’s little cost involved in these licensing deals.
As far as I can see, the big risk facing Games Workshop is that interest in Warhammer could stagnate or even decline. So far there’s no sign of this, but future trends are hard to predict.
Another risk is that something might go wrong with the business itself. Again, I can’t see any sign of this at the moment. Games Workshop has high profit margins and generates lots of surplus cash. The group’s expansion seems to have been well handled, without operational issues.
CEO Kevin Rountree also takes a conservative approach to financing the business. Games Workshop has no debt and only makes dividend payments using “truly surplus cash”.
I’d still buy this UK share
Games Workshop shares currently trade on 30 times 2020–21 forecast earnings, falling to 28 times earnings for 2021–22.
That’s more than I’d usually pay for a share. But in this case, I think it’s reasonable. After all, Games Workshop has generated a profit margin of 40% and earnings growth of 50% over the last year.
A common feature of the best momentum stocks is that they appear fully priced at first, but still have further to rise. I think Games Workshop could be an example of this.
Broker forecasts suggest earnings growth will slow to 10% during the 2021–22 financial year. Although that’s a big drop from the rate seen over the last year, it shows that the company is expected to hold onto the gains achieved during the pandemic. It’s worth noting that forecasts can change based on future developments, and should not be relied on.
That matches up with my impression that Warhammer enthusiasts are loyal customers. I think this business could keep growing. I’d be happy to buy Games Workshop today.
Roland Head has no position in any of the shares mentioned. The Motley Fool UK owns shares of Games Workshop. 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.