When close to half the companies in the Healthcare Services industry in the United States have price-to-sales ratios (or “P/S”) below 2.5x, you may consider Phreesia, Inc. ($PHR) as a stock to avoid entirely with its 5.9x P/S ratio. Nonetheless, let us dig a little deeper to determine if there is a rational basis for the highly elevated P/S
What Does Phreesia's P/S Mean For Shareholders?
Recent times have been advantageous for Phreesia 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. However, if this isn't the case, investors might get caught out paying too much for the stock.
What Are Revenue Growth Metrics Telling Us About The High P/S?
The only time you'd be truly comfortable seeing a P/S as steep as Phreesia's is when the company's growth is on track to outshine the industry decidedly.
If I review the last year of revenue growth, the company posted a terrific increase of 32%. The strong recent performance means it was also able to grow revenue by 125% in total over the last three years. Therefore, it's fair to say the revenue growth recently has been superb for the company.
Shifting to the future, estimates from the analysts covering the company suggest revenue should grow by 26% per year over the next three years. That's shaping up to be materially higher than the 19% each year growth forecast for the broader industry.
With this information, I can see why Phreesia is trading at such a high P/S compared to the industry. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.
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.
Phreesia maintains its high P/S on the strength of its forecasted revenue growth is higher than the rest of the Healthcare Services industry, as expected. Right now shareholders are comfortable with the P/S as they are quite confident future revenues aren't under threat. Unless the analysts have really missed the mark, these strong revenue forecasts should keep the share price buoyant.
Leave a Reply