You may think that with a price-to-sales (or "P/S") ratio of 8.4x PagerDuty, Inc. (NYSE:PD) is a stock to avoid completely, seeing as almost half of all the Software companies in the United States have P/S ratios under 4.4x and even P/S lower than 2x aren't out of the ordinary. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/S.
What Does PagerDuty's Recent Performance Look Like?
Recent times have been advantageous for PagerDuty as its revenues have been rising faster than most other companies. It seems that many are expecting the strong revenue performance to persist, which has raised the P/S. If not, then existing shareholders might be a little nervous about the viability of the share price.
If you'd like to see what analysts are forecasting going forward, you should check out our free report on PagerDuty.
Do Revenue Forecasts Match The High P/S Ratio?
In order to justify its P/S ratio, PagerDuty would need to produce outstanding growth that's well in excess of the industry.
Retrospectively, the last year delivered an exceptional 32% gain to the company's top line. The strong recent performance means it was also able to grow revenue by 123% in total over the last three years. So we can start by confirming that the company has done a great job of growing revenue over that time.
Turning to the outlook, the next three years should generate growth of 22% per year as estimated by the ten analysts watching the company. That's shaping up to be materially higher than the 13% per annum growth forecast for the broader industry.
In light of this, it's understandable that PagerDuty's P/S sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.
The Final Word
While the price-to-sales ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of revenue expectations.
We've established that PagerDuty maintains its high P/S on the strength of its forecasted revenue growth being higher than the the rest of the Software industry, as expected. Right now shareholders are comfortable with the P/S as they are quite confident future revenues aren't under threat. Unless these conditions change, they will continue to provide strong support to the share price.
There are also other vital risk factors to consider before investing and we've discovered 2 warning signs for PagerDuty that you should be aware of.
If companies with solid past earnings growth is up your alley, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.
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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
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