Subdued Growth No Barrier To Oriental Aromatics Limited (NSE:OAL) With Shares Advancing 29%

Oriental Aromatics Limited (NSE:OAL) shares have continued their recent momentum with a 29% gain in the last month alone. The last 30 days bring the annual gain to a very sharp 80%.

Since its price has surged higher, given close to half the companies operating in India's Chemicals industry have price-to-sales ratios (or "P/S") below 1.8x, you may consider Oriental Aromatics as a stock to potentially avoid with its 2.5x P/S ratio. 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 Oriental Aromatics

What Does Oriental Aromatics' P/S Mean For Shareholders?

The recent revenue growth at Oriental Aromatics would have to be considered satisfactory if not spectacular. One possibility is that the P/S ratio is high because investors think this good revenue growth will be enough to outperform the broader industry in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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 Oriental Aromatics' earnings, revenue and cash flow.

Do Revenue Forecasts Match The High P/S Ratio?

The only time you'd be truly comfortable seeing a P/S as high as Oriental Aromatics' is when the company's growth is on track to outshine the industry.

Taking a look back first, we see that the company managed to grow revenues by a handy 5.6% last year. Still, revenue has barely risen at all in aggregate from three years ago, which is not ideal. Accordingly, shareholders probably wouldn't have been overly satisfied with the unstable medium-term growth rates.

Comparing that to the industry, which is predicted to deliver 16% 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 Oriental Aromatics' 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. Only the boldest would assume these prices are sustainable as a continuation of recent revenue trends is likely to weigh heavily on the share price eventually.

The Final Word

Oriental Aromatics' P/S is on the rise since its shares have risen strongly. 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.

Our examination of Oriental Aromatics revealed its poor three-year revenue trends aren't detracting from the P/S as much as we though, given they look worse than current industry expectations. Right now we aren't comfortable with the high P/S as this revenue performance isn't likely to support such positive sentiment for long. If recent medium-term revenue trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

You should always think about risks. Case in point, we've spotted 2 warning signs for Oriental Aromatics you should be aware of, and 1 of them makes us a bit uncomfortable.

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.