Questor share tip: Topps Tiles sales accelerate

Topps Tiles
133p+4
Questor says BUY

TOPPS Tiles said yesterday that trading was not only strong but accelerating into the new year.

The UK’s largest tile and wooden flooring specialist is certainly benefiting from the housing market boom fuelled by the Government’s Help to Buy scheme, and Questor thinks there should be more to come from the shares.

The company said that trading in the first quarter was strong, with like-for-like sales up 9.3pc.

When the company reported preliminary results, trading was up 7.4pc during the first eight weeks of the quarter, and that means sales are accelerating and hit roughly 11.2pc for the last four weeks of the quarter.

Why should investors get excited about this? Topps Tiles should see its profits rise very quickly if all else remains equal because it has a cost base that is well controlled, and once its fixed costs are covered then every additional sale has a greater proportional impact on the profits - something called operational leverage.

During the next two years analysts are expecting revenue to increase by roughly £10m each year. In terms of adjusted pre-tax profits, that will add about £2.5m this year and £3.5m next year, giving earnings per share of 6.1p and 7.6p respectively.

The current consensus forecast is for revenue to rise 5.6pc during the year to £188m. However, current trading is already surpassing this rate and if it continues to accelerate ahead of forecasts then both this year’s revenue and pre-tax profit forecasts will need upgrading.

Quarterly trading statements from retailers are always dangerous to rely on as customers are fickle; just because they spend on home improvements one month doesn’t mean it will be repeated. So, this encouraging start may not presage a long-term revival.

However, Help to Buy is a well-established support mechanism for the housing market and the signs are encouraging for the tiling business. Topps Tiles made no specific mention on profit margins or costs in this update, so Questor assumes these remained stable. In the full-year update gross margin edged up to 60.2pc, and the group had a leading UK market share that increased by 1.5pc to 28.5pc.

The balance sheet is also being strengthened, with net debt reduced to £36.6m at the end of September last year from £45.6m in the comparable period.

Back in 2007, the company made a pre-tax profit of £37.8m on revenues of £207.9m and that is only 11pc ahead of today’s forecasts (see table). Back then the shares were trading at 300p. Questor doesn’t expect a return to those heady days, but we don't need exceptional trading for the shares to rise further, just more of the same.

The opportunity on offer hasn’t escaped the notice of other professional value investors. The Capital Group, which was founded in the US in 1931 by Jonathan Bell Lovelace and is famously called “the largest investment fund nobody has ever heard of”, more than doubled its stake in Topps Tiles in early December from 2.6m shares to almost 6m shares, representing 3pc of the company. When an investor with more than $1 trillion under management makes such a move, it’s worth taking notice.

The shares have jumped 22pc in the six weeks since Questor tipped them as a buy (106.5p, November 27). Nothing has changed fundamentally apart from the sales being better than expected, so Questor retains the recommendation for some handy gains in the year ahead. Buy.