What REA Group Limited's (ASX:REA) P/S Is Not Telling You

When you see that almost half of the companies in the Interactive Media and Services industry in Australia have price-to-sales ratios (or "P/S") below 2.4x, REA Group Limited (ASX:REA) looks to be giving off strong sell signals with its 15.8x P/S ratio. Although, it's not wise to just take the P/S at face value as there may be an explanation why it's so lofty.

See our latest analysis for REA Group

How Has REA Group Performed Recently?

REA Group could be doing better as it's been growing revenue less than most other companies lately. It might be that many expect the uninspiring revenue performance to recover significantly, which has kept the P/S ratio from collapsing. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Keen to find out how analysts think REA Group's future stacks up against the industry? In that case, our free report is a great place to start.

Is There Enough Revenue Growth Forecasted For REA Group?

There's an inherent assumption that a company should far outperform the industry for P/S ratios like REA Group's to be considered reasonable.

Taking a look back first, we see that the company managed to grow revenues by a handy 5.9% last year. This was backed up an excellent period prior to see revenue up by 72% in total over the last three years. Accordingly, shareholders would have definitely welcomed those medium-term rates of revenue growth.

Shifting to the future, estimates from the analysts covering the company suggest revenue should grow by 7.1% per annum over the next three years. Meanwhile, the rest of the industry is forecast to expand by 9.1% per year, which is not materially different.

With this information, we find it interesting that REA Group is trading at a high P/S compared to the industry. Apparently many investors in the company are more bullish than analysts indicate and aren't willing to let go of their stock right now. Although, additional gains will be difficult to achieve as this level of revenue growth is likely to weigh down the share price eventually.

What Does REA Group's P/S Mean For Investors?

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.

Given REA Group's future revenue forecasts are in line with the wider industry, the fact that it trades at an elevated P/S is somewhat surprising. When we see revenue growth that just matches the industry, we don't expect elevates P/S figures to remain inflated for the long-term. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

There are also other vital risk factors to consider before investing and we've discovered 1 warning sign for REA Group that you should be aware of.

If you're unsure about the strength of REA Group's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.