Subdued Growth No Barrier To IHI Corporation (TSE:7013) With Shares Advancing 25%

The IHI Corporation (TSE:7013) share price has done very well over the last month, posting an excellent gain of 25%. The last month tops off a massive increase of 139% in the last year.

Following the firm bounce in price, when almost half of the companies in Japan's Machinery industry have price-to-sales ratios (or "P/S") below 0.7x, you may consider IHI as a stock probably not worth researching with its 1.9x P/S ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/S.

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See our latest analysis for IHI

What Does IHI's P/S Mean For Shareholders?

IHI certainly has been doing a good job lately as it's been growing revenue more than most other companies. The P/S is probably high because investors think this strong revenue performance will continue. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

If you'd like to see what analysts are forecasting going forward, you should check out our free report on IHI.

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 IHI's to be considered reasonable.

Taking a look back first, we see that the company grew revenue by an impressive 18% last year. The strong recent performance means it was also able to grow revenue by 36% in total over the last three years. Therefore, it's fair to say the revenue growth recently has been superb for the company.

Turning to the outlook, the next three years should generate growth of 5.2% per annum as estimated by the twelve analysts watching the company. With the industry predicted to deliver 5.1% growth per annum, the company is positioned for a comparable revenue result.

In light of this, it's curious that IHI's P/S sits above the majority of other companies. Apparently many investors in the company are more bullish than analysts indicate and aren't willing to let go of their stock right now. Although, additional gains will be difficult to achieve as this level of revenue growth is likely to weigh down the share price eventually.

The Final Word

IHI shares have taken a big step in a northerly direction, but its P/S is elevated as a result. Using the price-to-sales ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

Given IHI's future revenue forecasts are in line with the wider industry, the fact that it trades at an elevated P/S is somewhat surprising. Right now we are uncomfortable with the relatively high share price as the predicted future revenues aren't likely to support such positive sentiment for long. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

You always need to take note of risks, for example - IHI has 2 warning signs we think you should be aware of.

If you're unsure about the strength of IHI's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.