Games Workshop (LSE:GAW) is set to end 2023 as a FTSE 250 stock, but I wouldn’t be surprised to see it break into the FTSE 100 next year. A £3.5bn market cap puts it ahead of Hargreaves Lansdown and St. James’s Place.
After a disappointing business update, the company’s share price fell sharply this week – undoing most of its gains this year. While I’m not buying the stock yet, it’s top of my watch list 2024.
The importance of licensing
At a price-to-earnings (P/E) ratio of 22, the company has to grow in order to justify its valuation. And investors have been finding out this week what happens when expected growth comes up short.
A disappointing update caused the stock to fall 13% on Thursday, 7 December. Total revenue for the second half of the year is expected to be up around 9% and profits are set to increase by 12%, but the news wasn’t all good.
The biggest issue is with the firm’s licensing division. Revenues in this part of the business are forecast to fall by around 16% and earnings are likely to be down by around 15%.
With licensing accounting for around 5% of revenues and 12% of profits, a decline might not seem significant. But a profit margin of 92%, compared to 35% for the rest of the company, makes it a key part of the investment thesis.
The outlook for Games Workshop is still overwhelmingly positive. A deal with Amazon offers some significant growth potential going forward. But I think 2024 could be a challenging year for the company.
Discretionary spending
Games Workshop’s products are discretionary – a lot of people want their products, but they don’t need them in the way they need food or electricity. And I think 2024 could be tough for consumer discretionary spending.
One of the best indications of this is credit card debt. Total credit card debt in the UK reached £67bn in August, up from £58bn at the start of 2021.
This tells me that UK consumers are relying on credit cards more and more to fund their lifestyles. This can’t go on forever – sooner or later either wages are going to have catch up or spending is going to have to slow down.
If consumers have to cut back, it will be interesting to see how Games Workshop fares. To an outsider, model figurines look like an unnecessary expense, but I think the company’s resilience might surprise some investors.
This is why I see 2024 as a crucial year for Games Workshop. It would be a terrific show of strength for the company to maintain its profits, but the stock will look very expensive very quickly if it can’t.
Should I buy Games Workshop shares before 2024?
I think Games Workshop is one of the best businesses in the FTSE 250. And while the consumer discretionary sector generally is already pricing in a tough year ahead, this particular stock still looks a little expensive to me.
I’ll be keeping a close eye on both the share price and the underlying business during 2024. It will be very impressive if the company can keep growing in the near term, but I’ll be on the lookout for an opportunity to buy this quality company at a good price if it doesn’t.
