Investors Don't See Light At End Of Spacetalk Limited's (ASX:SPA) Tunnel And Push Stock Down 43%

Spacetalk Limited (ASX:SPA) shares have retraced a considerable 43% in the last month, reversing a fair amount of their solid recent performance. The drop over the last 30 days has capped off a tough year for shareholders, with the share price down 32% in that time.

After such a large drop in price, Spacetalk's price-to-sales (or "P/S") ratio of 0.6x might make it look like a strong buy right now compared to the wider Software industry in Australia, where around half of the companies have P/S ratios above 2.7x and even P/S above 7x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly reduced P/S.

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View our latest analysis for Spacetalk

How Has Spacetalk Performed Recently?

The revenue growth achieved at Spacetalk over the last year would be more than acceptable for most companies. One possibility is that the P/S is low because investors think this respectable revenue growth might actually underperform the broader industry in the near future. Those who are bullish on Spacetalk will be hoping that this isn't the case, so that they can pick up the stock at a lower valuation.

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

What Are Revenue Growth Metrics Telling Us About The Low P/S?

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

Taking a look back first, we see that the company grew revenue by an impressive 22% last year. However, this wasn't enough as the latest three year period has seen the company endure a nasty 1.6% drop in revenue in aggregate. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.

Comparing that to the industry, which is predicted to deliver 32% growth in the next 12 months, the company's downward momentum based on recent medium-term revenue results is a sobering picture.

With this in mind, we understand why Spacetalk's P/S is lower than most of its industry peers. Nonetheless, there's no guarantee the P/S has reached a floor yet with revenue going in reverse. There's potential for the P/S to fall to even lower levels if the company doesn't improve its top-line growth.

The Bottom Line On Spacetalk's P/S

Having almost fallen off a cliff, Spacetalk's share price has pulled its P/S way down as well. 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.

It's no surprise that Spacetalk maintains its low P/S off the back of its sliding revenue over the medium-term. At this stage investors feel the potential for an improvement in revenue isn't great enough to justify a higher P/S ratio. If recent medium-term revenue trends continue, it's hard to see the share price moving strongly in either direction in the near future under these circumstances.

You always need to take note of risks, for example - Spacetalk has 5 warning signs we think 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.