You may think that with a price-to-sales (or "P/S") ratio of 11.9x HubSpot, Inc. (NYSE:HUBS) 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 HubSpot's P/S Mean For Shareholders?
HubSpot certainly has been doing a good job lately as it's been growing revenue more than most other companies. The P/S is probably high because investors think this strong revenue performance will continue. If not, then existing shareholders might be a little nervous about the viability of the share price.
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Is There Enough Revenue Growth Forecasted For HubSpot?
The only time you'd be truly comfortable seeing a P/S as steep as HubSpot's is when the company's growth is on track to outshine the industry decidedly.
Retrospectively, the last year delivered an exceptional 33% gain to the company's top line. The strong recent performance means it was also able to grow revenue by 156% 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 annum as estimated by the analysts watching the company. With the industry only predicted to deliver 13% each year, the company is positioned for a stronger revenue result.
With this in mind, it's not hard to understand why HubSpot's P/S is high relative to its industry peers. Apparently shareholders aren't keen to offload something that is potentially eyeing a more prosperous future.
The Key Takeaway
We'd say the price-to-sales ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.
As we suspected, our examination of HubSpot's analyst forecasts revealed that its superior revenue outlook is contributing to its high P/S. At this stage investors feel the potential for a deterioration in revenues is quite remote, justifying the elevated P/S ratio. Unless these conditions change, they will continue to provide strong support to the share price.
Don't forget that there may be other risks. For instance, we've identified 1 warning sign for HubSpot that you should be aware of.
If these risks are making you reconsider your opinion on HubSpot, explore our interactive list of high quality stocks to get an idea of what else is out there.
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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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