Investing in obscure or boring companies can sometimes be extremely profitable. For income investors it can mean gaining access to more attractive and robust dividend yields than those offered by more fashionable stocks.
Today I’m going to look at two stocks which I believe tick all the right boxes for income investors.
Packing a profit
Today’s trading statement from packaging group DS Smith (LSE: SMDS) reported that the group is on course to meet expectations this year, after “an encouraging start”.
This firm makes packaging for a wide range of purposes, including automotive parts, drinks, chemicals and pharmaceuticals. The shares recently hit an all-time high of 507p, and remain close to this level at the time of writing.
You might expect this to mean that the group is expected to deliver record profit growth this year. Interestingly, that’s not actually the case. On an adjusted basis, the group’s earnings are expected to be broadly unchanged from last year in 2017/18. What is exciting, in my view, are the long-term growth potential of this business and its rising geographic diversity.
DS Smith has a sizeable presence in UK and European markets, and has recently completed a substantial acquisition in the US. This is expected to become a key area of growth for the group.
Although sales and profits may dip during recessions, I believe underlying demand for sophisticated packaging is likely to rise over the next decade. On this basis, DS Smith shares look quite affordable to me. The stock has a forecast P/E of 15 for the current year, with a prospective yield of 3.2%.
This dividend payout has bounced back rapidly since 2009, when it was halved. Last year’s payout of 15.2p per share was almost double the level seen in 2008. This strong growth appeals to me and I think the stock remains worth buying.
Safer than banks?
It’s not been easy to generate reliable dividends from financial companies since 2008. But one business that’s gone from strength to strength is financial software firm Fidessa Group (LSE: FDSA).
The company’s main business is providing software for institutional investors, allowing them to manage functions such as trading, risk management, compliance and analytics. Such systems are complex and highly interconnected. Unsurprisingly, the firm’s customers are reluctant to switch to rival offerings. In its recent half-year results, Fidessa said that 88% of revenue is recurring.
This stickiness helps to give the group considerable pricing power. Fidessa has generated an average operating margin of about 15% since 2011. Return on capital employed, a more meaningful measure of profitability, has averaged 25% over the same period.
Such high levels of profitability mean that Fidessa generates a lot of cash. It has been able to fund its growth without needing any debt. Today, the group has net cash of about £70m and a well-covered forecast dividend yield of 4.2%.
That’s a high yield for a share which has a P/E of about 22. I’d normally shy away from such premium valuations, but the profitability and stickiness of Fidessa’s services suggest to me that this could be a fair price. In my view, this is a stock that could be worth buying on the dips.