It's Down 28% But Youdao, Inc. (NYSE:DAO) Could Be Riskier Than It Looks

Youdao, Inc. (NYSE:DAO) shareholders won't be pleased to see that the share price has had a very rough month, dropping 28% and undoing the prior period's positive performance. Longer-term shareholders would now have taken a real hit with the stock declining 8.0% in the last year.

After such a large drop in price, it would be understandable if you think Youdao is a stock with good investment prospects with a price-to-sales ratios (or "P/S") of 1x, considering almost half the companies in the United States' Consumer Services industry have P/S ratios above 1.6x. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the reduced P/S.

Check out our latest analysis for Youdao

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

With revenue growth that's superior to most other companies of late, Youdao has been doing relatively well. It might be that many expect the strong revenue performance to degrade substantially, which has repressed the share price, and thus the P/S ratio. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's out of favour.

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

What Are Revenue Growth Metrics Telling Us About The Low P/S?

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

Retrospectively, the last year delivered an exceptional 25% gain to the company's top line. The latest three year period has also seen an incredible overall rise in revenue, aided by its incredible short-term performance. So we can start by confirming that the company has done a tremendous job of growing revenue over that time.

Turning to the outlook, the next three years should generate growth of 22% each year as estimated by the seven analysts watching the company. Meanwhile, the rest of the industry is forecast to only expand by 11% each year, which is noticeably less attractive.

With this information, we find it odd that Youdao is trading at a P/S lower than the industry. Apparently some shareholders are doubtful of the forecasts and have been accepting significantly lower selling prices.

The Final Word

Youdao's recently weak share price has pulled its P/S back below other Consumer Services companies. Typically, we'd caution against reading too much into price-to-sales ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

To us, it seems Youdao currently trades on a significantly depressed P/S given its forecasted revenue growth is higher than the rest of its industry. There could be some major risk factors that are placing downward pressure on the P/S ratio. It appears the market could be anticipating revenue instability, because these conditions should normally provide a boost to the share price.

And what about other risks? Every company has them, and we've spotted 2 warning signs for Youdao (of which 1 is potentially serious!) you should know about.

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.