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Is this small-cap stock a falling knife to catch after collapsing 25% today?

Until today, 2017 was shaping up to be a great year for luxury interior furnishing company Walker Greenbank (LSE: WGB). For the year to the end of September, the shares gained around 16% excluding dividends, and the company’s sales were accelerating. 

Indeed, for the six-month period to 31 July, sales jumped by nearly a third to £54.3m. This figure included a £10.3m contribution from Clarke & Clarke, the fabrics and wallpaper business acquired in October 2016. Adjusted operating profit before tax for the group as a whole hit £5.9m, compared with £3.8m for the first half of 2016/17.

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On the back of these impressive first half numbers, for the full-year City analysts were predicting 16% growth in earnings per share to 15.9p and 105% growth in pre-tax profit to £14.3. 

Unfortunately, it now looks as if these numbers were highly optimistic. 

Skidding to a halt

Today, shares in Walker Greenbank have slumped by around 25% after the company warned on profits for the full-year. According to the press release from the firm, the upbeat selling conditions experienced during the first half, which were expected to continue have “not been sustained, ” and brand sales (excluding Clarke & Clarke) have “weakened significantly against management’s expectations.”

It seems the trading weakness stems from the firm’s largest market, the UK. The release notes that while overall sales are suffering, “brand sales are ahead of the same period last year” internationally. Management expects full-year licensing income to be up approximately 15% on a like-for-like basis. 

Overall, considering the disappointing UK Brand sales and the knock-on effect on manufacturing, Walker Greenbank expects that “profits for the year ending 31 January 2018 are likely to be approximately 10% lower” than its expectations. A 10% decline isn’t that bad on its own, but the company is only halfway through the critical autumn selling period, so there’s still scope for trading to deteriorate further. That said, there’s also scope for it to pick up in the final weeks of trading. 

Buy, sell or hold? 

How should investors react to today’s news and should you catch this falling knife? 

Well, as noted above, a 10% decline in expected profit is not a disaster. However, there is the chance that sales could slow further in the weeks and months ahead. I believe that this is the reason why the shares have sold off so heavily today. 

With this being the case, there is an air of uncertainty overhanging the company, and as a result, it’s difficult to place a value on the shares. 

When Walker Greenbank had a bright growth outlook, placing a value on the business, and its projected growth was relatively easy. But that’s all changed. The UK retail sector as a whole is facing headwinds in the shape of Brexit uncertainty, falling real wages and online competition. These factors are unlikely to dissipate for some time, which indicates to me that the company’s struggles could be just beginning. 

With an unclear outlook, I believe it might be wise to avoid this falling knife. 

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Rupert Hargreaves owns no share mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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