FFRI Security, Inc.'s (TSE:3692) 54% Share Price Surge Not Quite Adding Up

FFRI Security, Inc. (TSE:3692) shares have continued their recent momentum with a 54% gain in the last month alone. The annual gain comes to 176% following the latest surge, making investors sit up and take notice.

After such a large jump in price, given around half the companies in Japan's Software industry have price-to-sales ratios (or "P/S") below 2x, you may consider FFRI Security as a stock to avoid entirely with its 15.1x P/S ratio. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.

We've discovered 1 warning sign about FFRI Security. View them for free.

Check out our latest analysis for FFRI Security

What Does FFRI Security's P/S Mean For Shareholders?

FFRI Security has been doing a good job lately as it's been growing revenue at a solid pace. One possibility is that the P/S ratio is high because investors think this respectable revenue growth will be enough to outperform the broader industry in the near future. However, if this isn't the case, investors might get caught out paying too much for the stock.

Although there are no analyst estimates available for FFRI Security, take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.

How Is FFRI Security's Revenue Growth Trending?

FFRI Security's P/S ratio would be typical for a company that's expected to deliver very strong growth, and importantly, perform much better than the industry.

Retrospectively, the last year delivered a decent 12% gain to the company's revenues. Pleasingly, revenue has also lifted 48% in aggregate from three years ago, partly thanks to the last 12 months of growth. So we can start by confirming that the company has done a great job of growing revenues over that time.

Weighing that recent medium-term revenue trajectory against the broader industry's one-year forecast for expansion of 13% shows it's about the same on an annualised basis.

In light of this, it's curious that FFRI Security's P/S sits above the majority of other companies. Apparently many investors in the company are more bullish than recent times would indicate and aren't willing to let go of their stock right now. Although, additional gains will be difficult to achieve as a continuation of recent revenue trends would weigh down the share price eventually.

What Does FFRI Security's P/S Mean For Investors?

The strong share price surge has lead to FFRI Security's P/S soaring as well. Generally, our preference is to limit the use of the price-to-sales ratio to establishing what the market thinks about the overall health of a company.

We didn't expect to see FFRI Security trade at such a high P/S considering its last three-year revenue growth has only been on par with the rest of the industry. When we see average revenue with industry-like growth combined with a high P/S, we suspect the share price is at risk of declining, bringing the P/S back in line with the industry too. Unless the recent medium-term conditions improve, it's challenging to accept these prices as being reasonable.

Before you take the next step, you should know about the 1 warning sign for FFRI Security that we have uncovered.

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

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.