What Digimarc Corporation's (NASDAQ:DMRC) P/S Is Not Telling You

Digimarc Corporation's (NASDAQ:DMRC) price-to-sales (or "P/S") ratio of 13x might make it look like a strong sell right now compared to the Software industry in the United States, where around half of the companies have P/S ratios below 4.2x and even P/S below 1.8x 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.

Check out our latest analysis for Digimarc

How Digimarc Has Been Performing

There hasn't been much to differentiate Digimarc's and the industry's revenue growth lately. Perhaps the market is expecting future revenue performance to improve, justifying the currently elevated P/S. However, if this isn't the case, investors might get caught out paying too much for the stock.

Keen to find out how analysts think Digimarc's 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?

Digimarc'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.

Taking a look back first, we see that the company managed to grow revenues by a handy 14% last year. The latest three year period has also seen an excellent 31% overall rise in revenue, aided somewhat by its short-term performance. Accordingly, shareholders would have definitely welcomed those medium-term rates of revenue growth.

Shifting to the future, estimates from the two analysts covering the company suggest revenue should grow by 6.9% over the next year. Meanwhile, the rest of the industry is forecast to expand by 13%, which is noticeably more attractive.

With this information, we find it concerning that Digimarc is trading at a P/S higher than the industry. 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.

The Key Takeaway

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.

We've concluded that Digimarc currently trades on a much higher than expected P/S since its forecast growth is lower than the wider industry. 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.

Don't forget that there may be other risks. For instance, we've identified 3 warning signs for Digimarc (1 makes us a bit uncomfortable) you should be aware of.

If these risks are making you reconsider your opinion on Digimarc, 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.