What Should You Know About Games Workshop Group PLC’s (LON:GAW) Return On Capital?

The content of this article will benefit those of you who are starting to educate yourself about investing in the stock market and looking to gauge the potential return on investment in Games Workshop Group PLC (LON:GAW).

Purchasing Games Workshop Group gives you an ownership stake in the company. Owing to this, it is important that the underlying business is producing a sufficient amount of income from the capital invested by stockholders. This is because the actual cash flow generated by the business dictates the potential for income (dividends) and capital appreciation (price increases), which are the two ways to achieve positive returns when buying a stock. Therefore, looking at how efficiently Games Workshop Group is able to use capital to create earnings will help us understand your potential return. Investors use many different metrics but the analysis below focuses on return on capital employed (ROCE). Let’s take a look at what it can tell us.

Calculating Return On Capital Employed for GAW

When you choose to invest in a company, there is an opportunity cost because that money could’ve been invested elsewhere. The cost of missing out on another opportunity comes in the form of the potential long term gain you could’ve received, which is dependent on the gap between the return on capital you could’ve achieved and that of the company you invested in. Hence, capital returns are very important, and should be examined before you invest in conjunction with a certain benchmark that represents the minimum return you require to be compensated for the risk of missing out on other potentially lucrative investments. A good metric to use is return on capital employed (ROCE), which helps us gauge how much income can be created from the funds needed to operate the business. This metric will tell us if Games Workshop Group is good at growing investor capital. Take a look at the formula box beneath:

ROCE Calculation for GAW

Return on Capital Employed (ROCE) = Earnings Before Tax (EBT) ÷ (Capital Employed)

Capital Employed = (Total Assets – Current Liabilities)

∴ ROCE = UK£75m ÷ (UK£116m – UK£31m) = 87%

GAW’s 87% ROCE means that for every £100 you invest, the company creates £87. Comparing this to a healthy 15% benchmark shows Games Workshop Group is currently able to return a fantastic amount to owners for the use of their capital, which is a good sign for those who believe this will continue and the company’s management will find good uses for the earnings they create.

Does this mean I should invest?

Games Workshop Group’s relatively strong ROCE is tied to the movement in two factors that change over time: earnings and capital requirements. At the moment Games Workshop Group is in a favourable position, but this can change if these factors underperform. Therefore, investors need to be confident in the trend of the inputs in the formula above, so that Games Workshop Group will continue the solid returns. Looking three years in the past, it is evident that GAW’s ROCE has risen from 32%, indicating the company’s capital returns have stengthened. We can see that earnings have increased from UK£17m to UK£75m whilst capital employed also increased but to a smaller extent, which means the company has been able to improve ROCE by driving up earnings relative to the capital invested in the business.

Next Steps

ROCE for GAW investors has grown in the last few years and is above a benchmark that makes the company a potentially attractive stock that can achieve a solid return on investment. This makes the company an attractive place to put your money, but ROCE does not tell the whole picture so you need to pay attention to other fundamentals like future prospects and valuation. Without considering these fundamentals, you cannot be sure if this trend will continue or if you are getting a good deal for the future returns you are paying for. If you’re interested in diving deeper, take a look at what I’ve linked below for further information on these fundamentals and other potential investment opportunities.

1. Future Outlook: What are well-informed industry analysts predicting for GAW’s future growth? Take a look at our free research report of analyst consensus for GAW’s outlook.
2. Valuation: What is GAW worth today? Is the stock undervalued, even if its ROCE is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether GAW is currently mispriced by the market.
3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.