Broker snap: Brokers tip Topps

27th May 2009 11:05

The prospect of a breach of debt covenants is receding at cash-strapped tile and flooring specialist Topps Tiles as the slide in sales is showing signs of easing.Like-for-like (LFL) revenues in the six months to end-March were down by 18.5%, whereas the rate of LFL decline in the seven weeks since the beginning of April has slowed to 11.9%.The Topps board said that based on current trading and current expectations for the next 12 months it expects to operate within its current financial covenants, a statement that brokers Singer Capital Markets and KBC Peel Hunt found reassuring.'We take great confidence from Topps Tiles' statement that it does not anticipate the need to renegotiate its financial covenants and debt facilities under current trading conditions. While the worst-case scenario would have been more expensive facility costs and arrangement fees, we gain comfort that this outcome appears less likely, noting any further improvement in trading will provide an increasing margin of safety,' said KBC analyst John Stevenson.'Concerns over the group's debt position and potential covenant breaches have dogged the shares for much of the past year,' observes Singer analyst Matthew McEachran. 'Key to the underlying investment case is continuing support from Topps Tiles' lenders,' McEachran believes. Both brokers have 'buy' ratings on the stock, with Singer's target price 80p and KBC's raised from 80p to 100p. KBC has upgraded its full-year profit before tax forecast by £3m and believes that if sales volumes can be maintained over the second half of Topps's financial year there is scope for further upgrades'More pertinently, we believe Topps remains well placed to recover lost EBIT [earnings before interest and tax] margins over the medium term, as conditions stabilise. Trading on a FY2010E PER [price/earnings ratio] of 10.7x, Topps is trading on a material sector discount. With the shares on just 4.4x peak earnings, when EBIT margins were greater than 20%, we believe the share price has yet to factor in the group's recovery potential,' KBC believes.'We have a target price of 80p based on 8.25x target EV/EBITDA [enterprise value/earnings before interest, tax, depreciation and amortisation]. This valuation approach is warranted given the heavily depressed earnings base and scope for operational gearing to partially restore profits going forward,' Singer said.