Unpleasant Surprises Could Be In Store For Royalty Pharma plc's (NASDAQ:RPRX) Shares

Royalty Pharma plc's (NASDAQ:RPRX) price-to-sales (or "P/S") ratio of 5.3x might make it look like a strong sell right now compared to the Pharmaceuticals industry in the United States, where around half of the companies have P/S ratios below 2.8x and even P/S below 0.8x are quite common. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.

See our latest analysis for Royalty Pharma

How Royalty Pharma Has Been Performing

Recent revenue growth for Royalty Pharma has been in line with the industry. Perhaps the market is expecting future revenue performance to improve, justifying the currently elevated P/S. If not, then existing shareholders may be a little nervous about the viability of the share price.

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

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

In order to justify its P/S ratio, Royalty Pharma would need to produce outstanding growth that's well in excess of the industry.

If we review the last year of revenue growth, the company posted a worthy increase of 5.2%. Revenue has also lifted 11% 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 actually done a good job of growing revenue over that time.

Shifting to the future, estimates from the seven analysts covering the company suggest revenue should grow by 11% each year over the next three years. Meanwhile, the rest of the industry is forecast to expand by 17% per year, which is noticeably more attractive.

In light of this, it's alarming that Royalty Pharma's P/S sits above the majority of other companies. 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. 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.

The Key Takeaway

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.

Despite analysts forecasting some poorer-than-industry revenue growth figures for Royalty Pharma, this doesn't appear to be impacting the P/S in the slightest. The weakness in the company's revenue estimate doesn't bode well for the elevated P/S, which could take a fall if the revenue sentiment doesn't improve. At these price levels, investors should remain cautious, particularly if things don't improve.

It is also worth noting that we have found 3 warning signs for Royalty Pharma that you need to take into consideration.

If companies with solid past earnings growth is up your alley, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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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.