Sentiment Still Eluding X2M Connect Limited (ASX:X2M)

You may think that with a price-to-sales (or "P/S") ratio of 0.6x X2M Connect Limited (ASX:X2M) is a stock worth checking out, seeing as almost half of all the Electronic companies in Australia have P/S ratios greater than 1.6x and even P/S higher than 4x aren't out of the ordinary. 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 X2M Connect

What Does X2M Connect's P/S Mean For Shareholders?

With revenue growth that's exceedingly strong of late, X2M Connect has been doing very well. Perhaps the market is expecting future revenue performance to dwindle, which has kept the P/S suppressed. Those who are bullish on X2M Connect 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 X2M Connect, take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.

Do Revenue Forecasts Match The Low P/S Ratio?

The only time you'd be truly comfortable seeing a P/S as low as X2M Connect's is when the company's growth is on track to lag the industry.

Retrospectively, the last year delivered an exceptional 56% gain to the company's top line. This great performance means it was also able to deliver immense revenue growth over the last three years. Therefore, it's fair to say the revenue growth recently has been superb for the company.

This is in contrast to the rest of the industry, which is expected to grow by 16% over the next year, materially lower than the company's recent medium-term annualised growth rates.

With this in mind, we find it intriguing that X2M Connect's P/S isn't as high compared to that of its industry peers. It looks like most investors are not convinced the company can maintain its recent growth rates.

The Key Takeaway

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.

We're very surprised to see X2M Connect currently trading on a much lower than expected P/S since its recent three-year growth is higher than the wider industry forecast. When we see strong revenue with faster-than-industry growth, we assume there are some significant underlying risks to the company's ability to make money which is applying downwards pressure on the P/S ratio. It appears many are indeed anticipating revenue instability, because the persistence of these recent medium-term conditions would normally provide a boost to the share price.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 3 warning signs with X2M Connect (at least 2 which make us uncomfortable), and understanding these 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.

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

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.