Getting In Cheap On Pegasystems Inc. (NASDAQ:PEGA) Is Unlikely

With a median price-to-sales (or "P/S") ratio of close to 5.1x in the Software industry in the United States, you could be forgiven for feeling indifferent about Pegasystems Inc.'s (NASDAQ:PEGA) P/S ratio of 5x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/S.

View our latest analysis for Pegasystems

What Does Pegasystems' P/S Mean For Shareholders?

Pegasystems could be doing better as it's been growing revenue less than most other companies lately. Perhaps the market is expecting future revenue performance to lift, which has kept the P/S from declining. You'd really hope so, otherwise you're paying a relatively elevated price for a company with this sort of growth profile.

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

Do Revenue Forecasts Match The P/S Ratio?

Pegasystems' P/S ratio would be typical for a company that's only expected to deliver moderate growth, and importantly, perform in line with the industry.

If we review the last year of revenue growth, the company posted a worthy increase of 9.3%. The latest three year period has also seen a 24% overall rise in revenue, aided somewhat by its short-term performance. So we can start by confirming that the company has actually done a good job of growing revenue over that time.

Turning to the outlook, the next three years should generate growth of 6.4% per annum as estimated by the ten analysts watching the company. Meanwhile, the rest of the industry is forecast to expand by 20% per year, which is noticeably more attractive.

With this in mind, we find it intriguing that Pegasystems' P/S is closely matching its industry peers. Apparently many investors in the company are less bearish than analysts indicate and aren't willing to let go of their stock right now. Maintaining these prices will be difficult to achieve as this level of revenue growth is likely to weigh down the shares 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.

When you consider that Pegasystems' revenue growth estimates are fairly muted compared to the broader industry, it's easy to see why we consider it unexpected to be trading at its current P/S ratio. When we see companies with a relatively weaker revenue outlook compared to the industry, we suspect the share price is at risk of declining, sending the moderate P/S lower. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

There are also other vital risk factors to consider before investing and we've discovered 1 warning sign for Pegasystems that you should be aware of.

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