Risks To Shareholder Returns Are Elevated At These Prices For Zodiac Clothing Company Limited (NSE:ZODIACLOTH)

Zodiac Clothing Company Limited's (NSE:ZODIACLOTH) price-to-sales (or "P/S") ratio of 2.1x may not look like an appealing investment opportunity when you consider close to half the companies in the Luxury industry in India have P/S ratios below 1.1x. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/S.

See our latest analysis for Zodiac Clothing

What Does Zodiac Clothing's P/S Mean For Shareholders?

Revenue has risen at a steady rate over the last year for Zodiac Clothing, which is generally not a bad outcome. It might be that many expect the reasonable revenue performance to beat most other companies over the coming period, which has increased investors’ willingness to pay up for the stock. If not, then existing shareholders may be a little nervous about the viability of the share price.

We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on Zodiac Clothing's earnings, revenue and cash flow.

Do Revenue Forecasts Match The High P/S Ratio?

Zodiac Clothing's 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 worthy increase of 6.3%. Pleasingly, revenue has also lifted 47% in aggregate from three years ago, partly thanks to the last 12 months of growth. 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 23% growth in the next 12 months, the company's momentum is weaker, based on recent medium-term annualised revenue results.

In light of this, it's alarming that Zodiac Clothing's P/S sits above the majority of other companies. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. There's a good chance existing shareholders are setting themselves up for future disappointment if the P/S falls to levels more in line with recent growth rates.

The Key Takeaway

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.

The fact that Zodiac Clothing currently trades on a higher P/S relative to the industry is an oddity, since its recent three-year growth is lower than the wider industry forecast. When we see slower than industry revenue growth but an elevated P/S, there's considerable risk of the share price declining, sending the P/S lower. Unless there is a significant improvement in the company's medium-term performance, it will be difficult to prevent the P/S ratio from declining to a more reasonable level.

There are also other vital risk factors to consider and we've discovered 2 warning signs for Zodiac Clothing (1 can't be ignored!) that you should be aware of before investing here.

If these risks are making you reconsider your opinion on Zodiac Clothing, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.