Investors should beware Games Workshop’s fantastical share price

What value do you put on escapism? Answers to that question have changed quite a bit over the course of 2020, which has been to the benefit of Games Workshop.

Hobbyist retailers are among the biggest winners from pandemic lockdowns. Games Workshop’s shares have more than doubled over the past 12 months, having already increased eightfold in the previous three years. A record high this week gave the Nottingham-based company a £3.3bn market capitalisation, bigger than broadcaster ITV.

It is easy to be sniffy about Games Workshop, whose main business is to sell fantasy figurines that customers build, paint and send into war across their dinner tables. Only relatively recently have investors come to recognise the intellectual property value of nearly four decades of lore and rule books.

Warhammer, Games Workshop’s flagship brand, was already more than a decade old by the time of the company’s London Stock Exchange float in 1994. Tabletop gaming seemed out of kilter with the dotcom zeitgeist and group sales stagnated, however. So did the share price, which seemed to be of little interest to a management team that would repeat a mantra of quality over mass-market appeal.

What pulled Games Workshop shares out of their rut was the arrival of Kevin Rountree as chief executive in 2015. The company had previously been at war with its best customers, firing off reams of cease-and-desist letters to internet fan sites for breach of copyright. Mr Rountree rebuilt bridges with the community, having recognised the marketing value of social media.

The ‘Warhammer’ community has been expanded through tutorials and demonstrations

He was also, literally, a game-changer. The relaunch of Warhammer 40k in 2017 slimmed down the rule book and gave new players a more gentle learning curve. An accelerated rollout of hobby centres helped grow the community further through painting tutorials and demonstrations.

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So began one of the London market’s most successful reinventions. An update from Games Workshop this week confirmed that online and trade sales had compensated for disruption to stores, meaning that revenue for the three months to August rose 15 per cent year-on-year. That puts Mr Rountree on course to maintain a record of increasing annual earnings by around 25 per cent, according to forecasts from house broker Peel Hunt.

Explosive growth and niche appeal make a volatile combination, however. Investor demands are not easy to balance with those of a very particular band of customers and stakeholders. A valuation of more than 40 times 2021 earnings leaves little room for error.

Games Workshop’s recent stellar performance is in part thanks to a Warhammer update, but amid the hype some independent retailers accused the company of cutting allocations of popular products to drive its own direct sales. Fans, meanwhile, have grumbled about the addition of new figure armies that they say lack back-story, but whose purchase makes battles easier to win. Games Workshop staff also have reason to be upset, having not received discretionary bonus payments of around £1,500 even after delivering record profits for the 2020 financial year.

The quality of growth is another concern. Analysis from research house Stockviews shows that since 2016, Games Workshop has become increasingly reliant on trade channels, whereas retail and online sales per hobby centre have stalled. A pause on shop openings since the start of the pandemic suggests that trend is unlikely to reverse any time soon.

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Greater reliance on independently operated stores increases the risk of disappointment. Not only are profit margins lower, but the reseller network suffers more during disruption than the core. Games Workshop’s full-year earnings showed trade-channel revenue down 16 per cent in the six months to the end of May versus the previous six months, compared with an 11 per cent decline in sales made through owned stores and online.

Stockviews’ analysis also argues that full-year profit was flattered by reduced amortisation rates and the accounting treatment of royalty revenues. Though none of these factors was individually significant for the bottom line, they reinforce an impression that Games Workshop is “pandering to the market”, it says.

Charles Hall, analyst at Peel Hunt, said the company was employing accounting best practices, and that the effect on reported earnings was largely irrelevant.

However, companies with fans for customers cannot afford to worry too much about shareholders. Risks grow in parallel with the market value that management will be tempted to chase, opting for short-term wins that deliver long-term damage.

Games Workshop has been a remarkable success story, but a fantastical valuation risks overestimating its powers to keep everyone happy. The problem with escapism is that reality tends to creep back in.



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