Unpleasant Surprises Could Be In Store For Prophecy International Holdings Limited's (ASX:PRO) Shares

Prophecy International Holdings Limited's (ASX:PRO) price-to-sales (or "P/S") ratio of 3.2x may not look like an appealing investment opportunity when you consider close to half the companies in the Software industry in Australia have P/S ratios below 2.4x. However, the P/S might be high for a reason and it requires further investigation to determine if it's justified.

Check out our latest analysis for Prophecy International Holdings

What Does Prophecy International Holdings' Recent Performance Look Like?

Prophecy International Holdings has been doing a good job lately as it's been growing revenue at a solid pace. One possibility is that the P/S ratio is high because investors think this respectable revenue growth will be enough to outperform the broader industry in the near future. If not, then existing shareholders may be a little nervous about the viability of the share price.

Although there are no analyst estimates available for Prophecy International Holdings, take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.

Is There Enough Revenue Growth Forecasted For Prophecy International Holdings?

Prophecy International Holdings' P/S ratio would be typical for a company that's expected to deliver solid growth, and importantly, perform better than the industry.

If we review the last year of revenue growth, the company posted a terrific increase of 25%. The latest three year period has also seen an excellent 75% overall rise in revenue, aided by its short-term performance. Therefore, it's fair to say the revenue growth recently has been superb for the company.

Comparing that to the industry, which is predicted to deliver 22% growth in the next 12 months, the company's momentum is pretty similar based on recent medium-term annualised revenue results.

With this in mind, we find it intriguing that Prophecy International Holdings' P/S exceeds that of its industry peers. It seems most investors are ignoring the fairly average recent growth rates and are willing to pay up for exposure to the stock. Nevertheless, they may be setting themselves up for future disappointment if the P/S falls to levels more in line with recent growth rates.

The Final Word

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 look into Prophecy International Holdings has shown that it currently trades on a higher than expected P/S since its recent three-year growth is only in line with the wider industry forecast. When we see average revenue with industry-like growth combined with a high P/S, we suspect the share price is at risk of declining, bringing the P/S back in line with the industry too. Unless the recent medium-term conditions improve, it's challenging to accept these prices as being reasonable.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 1 warning sign with Prophecy International Holdings, and understanding should be part of your investment process.

If you're unsure about the strength of Prophecy International Holdings' 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com