We believe that XP Power (XPP) is an electronics engineering gem. The shares may be close to all-time highs but we see long-run, well managed upside more than capable of outperforming current single-digit earnings growth expectations.

For those unfamiliar with the investment story, XP Power is a science-based engineer of complex power equipment solutions. Many power systems require custom output voltage combinations, unique control or status signals and specific mechanical packaging for optimal performance and integration.

This is kit designed for when off-the-shelf solutions simply won’t do, such as AC-DC (alternating current – direct current) power supplies, DC-DC converters, high voltage power and radio frequency power capability. Target markets include defence, aerospace, healthcare, rail and a few other custom power niches. Semiconductors have been particularly strong area of business in recent months.

This is where XP’s engineering stands out. It spends a lot on research and development (R&D), about 12% of revenue a year on average since 2002, giving it in-house designed intellectual property that few peers can match. That makes customers and revenues relatively sticky and resilient for an equipment manufacturer.

But there remains a huge, still untapped opportunity. Analysts estimate that last year’s rough £200 million revenue still gave it barely a 6% global market share, while the company has cleverly used select acquisitions to open its markets even wider.

Roughly £60 million has been put towards M&A since 2015, most notably in 2018 with the £31.8 million purchase of Glassman High Voltage. This expanded XP’s product range into specialised high voltage and high powered product markets.

XP’s operating track record is outstanding. Order intake typically runs ahead of revenues, which tells investors that future demand is growing faster than work currently on its plate. Return on capital employed is modelled for 2020 at 20%-plus.

2020 has been a bit more bumpy than most years – for obvious reasons – but the firm’s product, client and industry diversification has helped the firm navigate pandemic challenges very well.

Sensibly using cheap borrowings rather than issuing shares that might dilute investors, about £40 million is predicted at the end of 2020, implying very comfortable net debt to earnings before interest, tax, depreciation and amortisation of about 0.8 times, miles below the three times or so when lenders tend to get nervous.

A 2021 price to earnings multiple of around 24.7 should drop sharply to less than 21 the following year, while XP’s quarterly-paid dividends will recover next year to past levels for a 2.1%-odd yield, decent for a company with a clear growth path.

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