Freshworks Inc. (NASDAQ:FRSH) Stock Rockets 52% As Investors Are Less Pessimistic Than Expected

Freshworks Inc. (NASDAQ:FRSH) shareholders have had their patience rewarded with a 52% share price jump in the last month. While recent buyers may be laughing, long-term holders might not be as pleased since the recent gain only brings the stock back to where it started a year ago.

Since its price has surged higher, Freshworks may be sending bearish signals at the moment with its price-to-sales (or "P/S") ratio of 7.4x, since almost half of all companies in the Software in the United States have P/S ratios under 5x and even P/S lower than 1.8x are not unusual. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/S.

Check out our latest analysis for Freshworks

What Does Freshworks' P/S Mean For Shareholders?

Recent times have been advantageous for Freshworks as its revenues have been rising faster than most other companies. The P/S is probably high because investors think this strong revenue performance will continue. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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

Do Revenue Forecasts Match The High P/S Ratio?

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

Retrospectively, the last year delivered an exceptional 20% gain to the company's top line. The strong recent performance means it was also able to grow revenue by 103% in total over the last three years. Accordingly, shareholders would have definitely welcomed those medium-term rates of revenue growth.

Looking ahead now, revenue is anticipated to climb by 15% each year during the coming three years according to the analysts following the company. That's shaping up to be materially lower than the 20% each year growth forecast for the broader industry.

In light of this, it's alarming that Freshworks' 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. 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 We Can Learn From Freshworks' P/S?

Freshworks' P/S is on the rise since its shares have risen strongly. 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.

It comes as a surprise to see Freshworks trade at such a high P/S given the revenue forecasts look less than stellar. 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 2 warning signs for Freshworks that you should be aware of.

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.