What DeNA Co., Ltd.'s (TSE:2432) 38% Share Price Gain Is Not Telling You

DeNA Co., Ltd. (TSE:2432) shares have continued their recent momentum with a 38% gain in the last month alone. The annual gain comes to 170% following the latest surge, making investors sit up and take notice.

After such a large jump in price, when almost half of the companies in Japan's Entertainment industry have price-to-sales ratios (or "P/S") below 1.2x, you may consider DeNA as a stock probably not worth researching with its 2.8x 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.

View our latest analysis for DeNA

How DeNA Has Been Performing

With its revenue growth in positive territory compared to the declining revenue of most other companies, DeNA has been doing quite well of late. Perhaps the market is expecting the company's future revenue growth to buck the trend of the industry, contributing to a higher P/S. However, if this isn't the case, investors might get caught out paying too much for the stock.

Want the full picture on analyst estimates for the company? Then our free report on DeNA will help you uncover what's on the horizon.

Is There Enough Revenue Growth Forecasted For DeNA?

DeNA's P/S ratio would be typical for a company that's expected to deliver solid growth, and importantly, perform better than the industry.

Taking a look back first, we see that the company managed to grow revenues by a handy 8.5% last year. The solid recent performance means it was also able to grow revenue by 12% in total over the last three years. So we can start by confirming that the company has actually done a good job of growing revenue over that time.

Turning to the outlook, the next three years should generate growth of 3.0% each year as estimated by the four analysts watching the company. That's shaping up to be materially lower than the 16% each year growth forecast for the broader industry.

In light of this, it's alarming that DeNA's P/S sits above the majority of other companies. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. There's a good chance these shareholders are setting themselves up for future disappointment if the P/S falls to levels more in line with the growth outlook.

What We Can Learn From DeNA's P/S?

DeNA 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.

Despite analysts forecasting some poorer-than-industry revenue growth figures for DeNA, this doesn't appear to be impacting the P/S in the slightest. Right now we aren't comfortable with the high P/S as the predicted future revenues aren't likely to support such positive sentiment for long. At these price levels, investors should remain cautious, particularly if things don't improve.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 2 warning signs with DeNA (at least 1 which makes us a bit uncomfortable), and understanding these should be part of your investment process.

It's important to make sure you look for a great company, not just the first idea you come across. So if growing profitability aligns with your idea of a great company, take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.