Xref Limited's (ASX:XF1) 28% Dip In Price Shows Sentiment Is Matching Revenues

The Xref Limited (ASX:XF1) share price has fared very poorly over the last month, falling by a substantial 28%. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 21% share price drop.

Following the heavy fall in price, Xref's price-to-sales (or "P/S") ratio of 1.2x might make it look like a buy right now compared to the Software industry in Australia, where around half of the companies have P/S ratios above 2.5x and even P/S above 7x are quite common. However, the P/S might be low for a reason and it requires further investigation to determine if it's justified.

See our latest analysis for Xref

What Does Xref's Recent Performance Look Like?

For example, consider that Xref's financial performance has been poor lately as its revenue has been in decline. Perhaps the market believes the recent revenue performance isn't good enough to keep up the industry, causing the P/S ratio to suffer. Those who are bullish on Xref will be hoping that this isn't the case so that they can pick up the stock at a lower valuation.

Want the full picture on earnings, revenue and cash flow for the company? Then our free report on Xref will help you shine a light on its historical performance.

How Is Xref's Revenue Growth Trending?

Xref's P/S ratio would be typical for a company that's only expected to deliver limited growth, and importantly, perform worse than the industry.

Taking a look back first, the company's revenue growth last year wasn't something to get excited about as it posted a disappointing decline of 2.6%. Even so, admirably revenue has lifted 37% in aggregate from three years ago, notwithstanding the last 12 months. Although it's been a bumpy ride, it's still fair to say the revenue growth recently has been more than adequate for the company.

This is in contrast to the rest of the industry, which is expected to grow by 23% over the next year, materially higher than the company's recent medium-term annualised growth rates.

With this in consideration, it's easy to understand why Xref's P/S falls short of the mark set by its industry peers. It seems most investors are expecting to see the recent limited growth rates continue into the future and are only willing to pay a reduced amount for the stock.

The Final Word

Xref's recently weak share price has pulled its P/S back below other Software companies. 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 Xref confirms that the company's revenue trends over the past three-year years are a key factor in its low price-to-sales ratio, as we suspected, given they fall short of current industry expectations. Right now shareholders are accepting the low P/S as they concede future revenue probably won't provide any pleasant surprises. If recent medium-term revenue trends continue, it's hard to see the share price experience a reversal of fortunes anytime soon.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 2 warning signs with Xref (at least 1 which is significant), and understanding them should be part of your investment process.

Of course, profitable companies with a history of great earnings growth are generally safer bets. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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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.