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Why I’d forget this rising dividend yield and where I’d invest instead

The slide in the XP Power (LSE: XPP) share price began in July, along with weakness in the general stock market. It’s almost as if investors saw the content of today’s fourth-quarter and year-end trading statement coming.

In the outlook statement, management said: “While we are not immune from macroeconomic conditions, we are encouraged by our ongoing new design wins and healthy order book.” Back in July, with the half-year results, the directors said they were conscious of potential risks arising from component cost inflation and, macroeconomic challenges,” but thought the strong order book and design wins would lead to a full-year outcome “in line with existing expectations.” Indeed today, the firm is reporting trading “in line with the board’s expectations.”

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Is caution warranted?

Yet I sense that investors and directors are waiting for and expecting a turndown in trade. My reading is that the directors are cautious with their wording in these announcements. The outlook statements seem muted, almost grudgingly expressing a positive outlook. Although I could be wrong about how the directors feel about the firm’s prospects.

XP Power designs and manufactures power controllers, which convert power from the electricity grid into the right form for electronic equipment. The firm designs its power solutions for the end-products of Original Equipment Manufacturers (OEMs) and then enjoys repeat sales as long as that end-product sells, which is typically for five to seven years.

Around 42% of XP Power’s revenue comes from the industrial sector, 26% from semiconductor manufacturing, 22% from healthcare, and 10% from technology. And I think the business set-up is the source of the nervousness surrounding XP Power. Operations are cyclical. If sales contract in the OEM end-markets, XP Power’s revenues will go down.

A strong finish and some negatives

There was a “good finish” to 2018 and “all regions and sectors recorded revenue growth.” However, there are a few negatives. Order intake and revenue from the semiconductor manufacturing equipment sector were both lower in the fourth quarter than achieved in the third quarter. Order intake can be a decent lead indicator of future business health. Overall, on a constant currency basis, the company took 6% fewer orders in Q4 than it did last year. However, for the full year, orders were still 12% up compared to 2017. But that does include the effect of acquisitions made during the year. On a like-for-like basis, XPP posted a 1% increase in orders for the year, which means the business remains in good health, at least for now.

For the whole year, currency-adjusted revenue came in a whopping 21% higher than last year, 7% up on a like-for-like basis. This isn’t a business on its knees, but it’s also  a share I wouldn’t want to be holding if I believed there was a general economic slowdown on the way. The valuation has been falling and the dividend yield has been rising, which is a process could go a lot further yet. So I’m watching from the side lines for the time being. Instead, I’d rather invest in an index tracker fund right now, which would mitigate some of the single-company risk from my investment.

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Kevin Godbold has no position in any of the shares mentioned. The Motley Fool UK has recommended XP Power. 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.