Traders often purchase dividend shares for the passive revenue they supply. It’s uncommon to listen to of an revenue share that additionally has glorious development prospects. That’s why I believed I’d look additional into Topps Tiles (LSE:TPT) once I heard one analyst declare that the inventory could possibly be vastly undervalued.

Quantity crunching

Edison Funding Analysis used discounted money stream strategies to return up with a valuation of 116p a share. That is greater than 3 times the corporate’s present (31 January) share price. Nonetheless, whereas generally used, it’s necessary to notice that the outcomes of these kinds of calculations are delicate to the assumptions made. A unique mixture of inputs produces a variety of outcomes from 85p to 418p!

Maybe a greater information is to see how the corporate compares to its closest rivals. Edison checked out eight corporations “exposed to consumer spending on the house” and located they have been valued at 15 occasions forecast earnings for the 12 months ending 30 September 2025 (FY25).

The price-to-earnings (P/E) ratio for Topps Tiles is at present a extra modest 10.1. If it may obtain a a number of of 15, its shares can be valued at 55.5p. That’s a 48% premium to in the present day’s price.

The analyst believes the corporate may obtain a better valuation attributable to its ‘Mission 365’ initiative. The administrators have plans to extend annual income to £365m (FY24: £251.8m). And so they need to obtain an adjusted pre-tax margin of 8-10% (FY25: 4.8%). Nonetheless, no timescale’s been specified.

The corporate believes it’ll obtain a better charge of development from commerce prospects. It’s just lately established an internet one-stop store (Professional Tiler Instruments) for these within the enterprise.

The inventory’s additionally good for revenue. Primarily based on an annual dividend of two.4p, the shares are presently yielding 6.4%.

What’s to not like about an organization that’s doubtlessly undervalued by over 200% — and within the high 50 on the FTSE All-Share index for dividends?

Potential issues

Effectively, there are a couple of points that give me trigger for concern. Firstly, it’s a small firm. With a market-cap of round £70m, it doesn’t have the monetary firepower to resist a significant shock.

Additionally, the corporate’s largest shareholder isn’t comfortable. In line with The Instances, MS Galleon, an Austrian non-public fairness agency, just lately wrote to the corporate saying it had “grave concerns that the business has lost its way in recent years”. It was additionally vital of the group’s “complete failure” to embrace the net revolution.

A few of their dissatisfaction could possibly be defined by the Topps Tiles share price falling greater than 50%, since February 2020.

Lastly, I’m involved that the corporate’s completely reliant on a UK economic system that’s nonetheless displaying indicators of fragility.

What ought to I do?

Though by no means assured, I see no speedy risk to the present degree of dividend. Nonetheless, even with a yield in extra of 6%, it’s not sufficient to tempt me to take a position.

I feel the corporate has potential. However I don’t see it simply growing its income in a market the place it’s already the dominant participant.

And whereas I see there’s some scope to extend on-line gross sales – they presently account for round 18% of income – I feel most individuals would like to see the tiles they’re shopping for in-store.

For these causes, I feel there are higher alternatives for me elsewhere.