Rapid7, Inc.'s (NASDAQ:RPD) Price Is Out Of Tune With Revenues

With a median price-to-sales (or "P/S") ratio of close to 4.4x in the Software industry in the United States, you could be forgiven for feeling indifferent about Rapid7, Inc.'s (NASDAQ:RPD) P/S ratio of 4x. While this might not raise any eyebrows, if the P/S ratio is not justified investors could be missing out on a potential opportunity or ignoring looming disappointment.

Check out our latest analysis for Rapid7

How Rapid7 Has Been Performing

Recent revenue growth for Rapid7 has been in line with the industry. Perhaps the market is expecting future revenue performance to show no drastic signs of changing, justifying the P/S being at current levels. Those who are bullish on Rapid7 will be hoping that revenue performance can pick up, so that they can pick up the stock at a slightly lower valuation.

If you'd like to see what analysts are forecasting going forward, you should check out our free report on Rapid7.

Is There Some Revenue Growth Forecasted For Rapid7?

In order to justify its P/S ratio, Rapid7 would need to produce growth that's similar to the industry.

Retrospectively, the last year delivered a decent 14% gain to the company's revenues. This was backed up an excellent period prior to see revenue up by 89% in total over the last three years. Therefore, it's fair to say the revenue growth recently has been superb for the company.

Looking ahead now, revenue is anticipated to climb by 12% per annum during the coming three years according to the analysts following the company. With the industry predicted to deliver 15% growth per year, the company is positioned for a weaker revenue result.

In light of this, it's curious that Rapid7's P/S sits in line with the majority of other companies. It seems most investors are ignoring the fairly limited growth expectations and are willing to pay up for exposure to the stock. These shareholders may be setting themselves up for future disappointment if the P/S falls to levels more in line with the growth outlook.

The Bottom Line On Rapid7's P/S

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 Rapid7's 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.

And what about other risks? Every company has them, and we've spotted 3 warning signs for Rapid7 (of which 1 is significant!) you should know about.

If these risks are making you reconsider your opinion on Rapid7, 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.