Is Carpetright crash over?

In summer 2015, carpets and vinyl floorings were selling like hot cakes. Wilf Walsh, in charge of Carpetright for less than a year, had pulled the company out of a tailspin and the share price had doubled in seven months. But then it all went wrong. Now, the firm has returned to quarterly sales growth in the UK, the share price is up 8% and management is sounding bullish. But should investors be?

After backing the rally from 350p to 625p, we wrote "much is already priced in" and "those sitting on tasty returns should remember 'it's never wrong to take a profit'". Then began a sell-off that ended only in December 2016 at 149p, a new low.

Last month's interim results weren't great, but we did hear that like-for-like sales in the UK had risen 2.6% in the six weeks to 10 December.

Now, Walsh reports like-for-like sales rose 1.9% in the 13 weeks to 28 January, with sales up 6.8% in the past four weeks. And he's confident the "turnaround strategy is on track".

"The refurbished stores with our new brand identity continue to outperform the un-invested estate and we are confident of hitting our target of 150 stores - representing over one third of the UK estate by the financial year-end," he told shareholders Tuesday.

Crucially, Walsh also tips Carpetright to meet market expectations for annual underlying profit before tax of £13.9-£16.5 million. Last year, it made £17.3 million. We'll get a better idea in a fourth-quarter update on 25 April ahead of final results on 27 June.

Business in the Netherlands, Belgium and the Republic of Ireland was also better, with like-for-like sales up 5.4%, or 22.4% if you factor in the weak pound. A recovery in Dutch consumer spending was a key driver.

Temptation here is to call the end of the sell-off. We said at the peak that a forward price/earnings (PE) ratio of 29 times "looks toppy", and Carpetright does now trade on a more modest 11 times earnings estimates for April 2017, dropping to 9.3 times in 2018.

Clive Black, an analyst at Shore Capital, believes the shares offer "significant upside…supported by our view that the strategy adopted by management can materially improve the performance of the business and help deliver shareholder returns".

Predictably, house broker Deutsche Bank is bullish, too. An enterprise value/sales ratio of 0.24 is the lowest in 15 years, and the shares trade on a consensus single-digit PE for the first time since the financial crisis.

But Carpetright doesn't have it all its own way. A new rival - Tapi – was set up by the son of Carpetright founder Lord Harris just before Carpetright's share price began to tank.

Since then, the company has rebranded stores and shut underperforming ones, focused more on high-demand hard flooring, improved customer service and introduced interest free credit.

But Freddie George at Cantor Fitzgerald is still not convinced. "Any benefits to sales and earnings from these initiatives, we believe, will be more than offset by the negative impact from the development of start-up rival Tapi, which now has over 70 stores, and currency headwinds," he writes.

Repeating 'hold' advice and 210p price target, George also points out that fighting Tapi will probably further delay the reinstatement of dividends, scrapped in 2011.

Ramping up refurbishment of its store chain to 150 by April should at least dilute some of the impact from Tapi, but even broker Peel Hunt, a big fan of Carpetright with a 250p price target, is trimming forecasts. Look for £15.3 million of profit this year, giving adjusted earnings per share (EPS) of 17.1p, rising more modestly in 2018 to £18 million and 20.1p, respectively.

Walsh is doing most of the right things, and certainly the balance sheet is in much better shape. The share price valuation is hardly stretched either, but investors will be wary about pricing in the uptick in sales growth too early.

There are clear obstacles for all retailers if sterling remains at post-referendum levels or lower, and rising costs could put pressure on household budgets, leaving less money for carpets, perhaps.

Tempting as it may be, cautious investors might wait for evidence in the April update that this sales growth is actually a trend and not a one-off. If it is, the anticipated return to annual profit growth is much more likely to become a reality, making the shares far more investible.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.