Revenues Not Telling The Story For Nelco Limited (NSE:NELCO) After Shares Rise 27%

Nelco Limited (NSE:NELCO) shareholders would be excited to see that the share price has had a great month, posting a 27% gain and recovering from prior weakness. Looking further back, the 23% rise over the last twelve months isn't too bad notwithstanding the strength over the last 30 days.

Since its price has surged higher, Nelco may be sending bearish signals at the moment with its price-to-sales (or "P/S") ratio of 6.3x, since almost half of all companies in the Communications in India have P/S ratios under 4.5x and even P/S lower than 1.3x are not unusual. Although, it's not wise to just take the P/S at face value as there may be an explanation why it's as high as it is.

View our latest analysis for Nelco

What Does Nelco's Recent Performance Look Like?

For example, consider that Nelco's financial performance has been pretty ordinary lately as revenue growth is non-existent. It might be that many are expecting an improvement to the uninspiring revenue performance over the coming period, which has kept the P/S from collapsing. If not, then existing shareholders may be a little nervous about the viability of the share price.

Although there are no analyst estimates available for Nelco, 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 High P/S?

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

Taking a look back first, we see that there was hardly any revenue growth to speak of for the company over the past year. Still, the latest three year period has seen an excellent 42% overall rise in revenue, in spite of its uninspiring short-term performance. Accordingly, shareholders will be pleased, but also have some questions to ponder about the last 12 months.

Comparing the recent medium-term revenue trends against the industry's one-year growth forecast of 46% shows it's noticeably less attractive.

In light of this, it's alarming that Nelco's P/S sits above the majority of other companies. Apparently many investors in the company are way more bullish than recent times would indicate and aren't willing to let go of their stock at any price. 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

The large bounce in Nelco's shares has lifted the company's P/S handsomely. It's argued the price-to-sales ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

The fact that Nelco 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. 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.

The company's balance sheet is another key area for risk analysis. Our free balance sheet analysis for Nelco with six simple checks will allow you to discover any risks that could be an issue.

If strong companies turning a profit tickle your fancy, then you'll want to check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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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.

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