Despite an already strong run, Freshpet, Inc. (NASDAQ:FRPT) shares have been powering on, with a gain of 28% in the last thirty days. The last 30 days bring the annual gain to a very sharp 81%.
Since its price has surged higher, you could be forgiven for thinking Freshpet is a stock to steer clear of with a price-to-sales ratios (or "P/S") of 7.1x, considering almost half the companies in the United States' Food industry have P/S ratios below 0.8x. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/S.
What Does Freshpet's P/S Mean For Shareholders?
Freshpet certainly has been doing a good job lately as it's been growing revenue more 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.
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Do Revenue Forecasts Match The High P/S Ratio?
There's an inherent assumption that a company should far outperform the industry for P/S ratios like Freshpet's to be considered reasonable.
Retrospectively, the last year delivered an exceptional 29% gain to the company's top line. Pleasingly, revenue has also lifted 141% in aggregate from three years ago, thanks to the last 12 months of growth. 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 24% each year over the next three years. Meanwhile, the rest of the industry is forecast to only expand by 2.8% per year, which is noticeably less attractive.
In light of this, it's understandable that Freshpet's P/S sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.
The Final Word
The strong share price surge has lead to Freshpet's P/S soaring as well. It's argued the price-to-sales ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.
Our look into Freshpet shows that its P/S ratio remains high on the merit of its strong future revenues. At this stage investors feel the potential for a deterioration in revenues is quite remote, justifying the elevated P/S ratio. Unless the analysts have really missed the mark, these strong revenue forecasts should keep the share price buoyant.
Many other vital risk factors can be found on the company's balance sheet. Take a look at our free balance sheet analysis for Freshpet with six simple checks on some of these key factors.
If companies with solid past earnings growth is up your alley, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.
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