When close to half the companies in the Capital Markets industry in the United States have price-to-sales ratios (or "P/S") below 2.3x, you may consider Puyi Inc. (NASDAQ:PUYI) as a stock to avoid entirely with its 14.6x P/S ratio. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.
How Puyi Has Been Performing
For example, consider that Puyi's financial performance has been poor lately as its revenue has been in decline. One possibility is that the P/S is high because investors think the company will still do enough to outperform the broader industry in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.
We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on Puyi's earnings, revenue and cash flow.
Do Revenue Forecasts Match The High P/S Ratio?
The only time you'd be truly comfortable seeing a P/S as steep as Puyi's is when the company's growth is on track to outshine the industry decidedly.
Retrospectively, the last year delivered a frustrating 26% decrease to the company's top line. This has soured the latest three-year period, which nevertheless managed to deliver a decent 10% overall rise in revenue. Accordingly, while they would have preferred to keep the run going, shareholders would be roughly satisfied with the medium-term rates of revenue growth.
Comparing the recent medium-term revenue trends against the industry's one-year growth forecast of 19% shows it's noticeably less attractive.
In light of this, it's alarming that Puyi's P/S sits above the majority of other companies. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. Only the boldest would assume these prices are sustainable as a continuation of recent revenue trends is likely to weigh heavily on the share price eventually.
The Key Takeaway
Generally, our preference is to limit the use of the price-to-sales ratio to establishing what the market thinks about the overall health of a company.
Our examination of Puyi revealed its poor three-year revenue trends aren't detracting from the P/S as much as we though, given they look worse than current industry expectations. Right now we aren't comfortable with the high P/S as this revenue performance isn't likely to support such positive sentiment for long. Unless there is a significant improvement in the company's medium-term performance, it will be difficult to prevent the P/S ratio from declining to a more reasonable level.
And what about other risks? Every company has them, and we've spotted 3 warning signs for Puyi (of which 2 are potentially serious!) you should know about.
If these risks are making you reconsider your opinion on Puyi, explore our interactive list of high quality stocks to get an idea of what else is out there.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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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