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Would Games Workshop Group PLC (LON:GAW) Be Valuable To Income Investors?

Dividend paying stocks like Games Workshop Group PLC (LON:GAW) tend to be popular with investors, and for good reason - some research suggests a significant amount of all stock market returns come from reinvested dividends. Yet sometimes, investors buy a popular dividend stock because of its yield, and then lose money if the company's dividend doesn't live up to expectations.

With a 2.2% yield and a nine-year payment history, investors probably think Games Workshop Group looks like a reliable dividend stock. While the yield may not look too great, the relatively long payment history is interesting. Remember though, due to the recent spike in its share price, Games Workshop Group's yield will look lower, even though the market may now be factoring in an improvement in its long-term prospects. Some simple analysis can reduce the risk of holding Games Workshop Group for its dividend, and we'll focus on the most important aspects below.

Click the interactive chart for our full dividend analysis

LSE:GAW Historical Dividend Yield, November 18th 2019
LSE:GAW Historical Dividend Yield, November 18th 2019

Payout ratios

Companies (usually) pay dividends out of their earnings. If a company is paying more than it earns, the dividend might have to be cut. Comparing dividend payments to a company's net profit after tax is a simple way of reality-checking whether a dividend is sustainable. In the last year, Games Workshop Group paid out 62% of its profit as dividends. This is a fairly normal payout ratio among most businesses. It allows a higher dividend to be paid to shareholders, but does limit the capital retained in the business - which could be good or bad.

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In addition to comparing dividends against profits, we should inspect whether the company generated enough cash to pay its dividend. Games Workshop Group paid out 101% of its free cash flow last year, suggesting the dividend is poorly covered by cash flow. Games Workshop Group paid out less in dividends than it reported in profits, but unfortunately it didn't generate enough free cash flow to cover the dividend. Were it to repeatedly pay dividends that were not well covered by cash flow, this could be a risk to Games Workshop Group's ability to maintain its dividend.

With a strong net cash balance, Games Workshop Group investors may not have much to worry about in the near term from a dividend perspective.

Remember, you can always get a snapshot of Games Workshop Group's latest financial position, by checking our visualisation of its financial health.

Dividend Volatility

One of the major risks of relying on dividend income, is the potential for a company to struggle financially and cut its dividend. Not only is your income cut, but the value of your investment declines as well - nasty. Looking at the last decade of data, we can see that Games Workshop Group paid its first dividend at least nine years ago. It's good to see that Games Workshop Group has been paying a dividend for a number of years. However, the dividend has been cut at least once in the past, and we're concerned that what has been cut once, could be cut again. During the past nine-year period, the first annual payment was UK£0.25 in 2010, compared to UK£1.25 last year. Dividends per share have grown at approximately 20% per year over this time. The growth in dividends has not been linear, but the CAGR is a decent approximation of the rate of change over this time frame.

So, its dividends have grown at a rapid rate over this time, but payments have been cut in the past. The stock may still be worth considering as part of a diversified dividend portfolio.

Dividend Growth Potential

With a relatively unstable dividend, it's even more important to evaluate if earnings per share (EPS) are growing - it's not worth taking the risk on a dividend getting cut, unless you might be rewarded with larger dividends in future. Strong earnings per share (EPS) growth might encourage our interest in the company despite fluctuating dividends, which is why it's great to see Games Workshop Group has grown its earnings per share at 52% per annum over the past five years. With recent, rapid earnings per share growth and a payout ratio of 62%, this business looks like an interesting prospect if earnings are reinvested effectively.

Conclusion

When we look at a dividend stock, we need to form a judgement on whether the dividend will grow, if the company is able to maintain it in a wide range of economic circumstances, and if the dividend payout is sustainable. First, we think Games Workshop Group has an acceptable payout ratio, although its dividend was not well covered by cashflow. Next, earnings growth has been good, but unfortunately the dividend has been cut at least once in the past. In sum, we find it hard to get excited about Games Workshop Group from a dividend perspective. It's not that we think it's a bad business; just that there are other companies that perform better on these criteria.

You can also discover whether shareholders are aligned with insider interests by checking our visualisation of insider shareholdings and trades in Games Workshop Group stock.

We have also put together a list of global stocks with a market capitalisation above $1bn and yielding more 3%.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.