Subdued Growth No Barrier To CarGurus, Inc.'s (NASDAQ:CARG) Price

When you see that almost half of the companies in the Interactive Media and Services industry in the United States have price-to-sales ratios (or "P/S") below 1.6x, CarGurus, Inc. (NASDAQ:CARG) looks to be giving off some sell signals with its 2.7x P/S ratio. However, the P/S might be high for a reason and it requires further investigation to determine if it's justified.

See our latest analysis for CarGurus

How Has CarGurus Performed Recently?

CarGurus hasn't been tracking well recently as its declining revenue compares poorly to other companies, which have seen some growth in their revenues on average. One possibility is that the P/S ratio is high because investors think this poor revenue performance will turn the corner. If not, then existing shareholders may be extremely nervous about the viability of the share price.

Keen to find out how analysts think CarGurus' future stacks up against the industry? In that case, our free report is a great place to start.

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

The only time you'd be truly comfortable seeing a P/S as high as CarGurus' is when the company's growth is on track to outshine the industry.

Retrospectively, the last year delivered a frustrating 45% decrease to the company's top line. Still, the latest three year period has seen an excellent 66% overall rise in revenue, in spite of its unsatisfying short-term performance. So we can start by confirming that the company has generally done a very good job of growing revenue over that time, even though it had some hiccups along the way.

Shifting to the future, estimates from the analysts covering the company suggest revenue should grow by 7.4% each year over the next three years. That's shaping up to be materially lower than the 12% per annum growth forecast for the broader industry.

With this in consideration, we believe it doesn't make sense that CarGurus' P/S is outpacing its industry peers. Apparently many investors in the company are way more bullish than analysts indicate and aren't willing to let go of their stock at any price. Only the boldest would assume these prices are sustainable as this level of revenue growth is likely to weigh heavily on the share price eventually.

What Does CarGurus' P/S Mean For Investors?

We'd say the price-to-sales ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

It comes as a surprise to see CarGurus trade at such a high P/S given the revenue forecasts look less than stellar. When we see a weak revenue outlook, we suspect the share price faces a much greater risk of declining, bringing back down the P/S figures. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.

You should always think about risks. Case in point, we've spotted 1 warning sign for CarGurus you should be aware of.

If these risks are making you reconsider your opinion on CarGurus, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.