There wouldn't be many who think New World Development Company Limited's (HKG:17) price-to-sales (or "P/S") ratio of 0.2x is worth a mention when the median P/S for the Real Estate industry in Hong Kong is similar at about 0.6x. 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.

What Does New World Development's P/S Mean For Shareholders?

With revenue growth that's superior to most other companies of late, New World Development has been doing relatively well. Perhaps the market is expecting this level of performance to taper off, keeping the P/S from soaring. If the company manages to stay the course, then investors should be rewarded with a share price that matches its revenue figures.

Do Revenue Forecasts Match The P/S Ratio?

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

Taking a look back first, we see that the company grew revenue by an impressive 61% last year. Pleasingly, revenue has also lifted 44% in aggregate from three years ago, thanks to the last 12 months of growth. So we can start by confirming that the company has done a great job of growing revenue over that time.

Shifting to the future, estimates from the analysts covering the company suggest revenue growth is heading into negative territory, declining 22% per annum over the next three years. With the industry predicted to deliver 5.6% growth per year, that's a disappointing outcome.

In light of this, it's somewhat alarming that New World Development's P/S sits in line with the majority of other companies. Apparently many investors in the company reject the analyst cohort's pessimism and aren't willing to let go of their stock right now. There's a good chance these shareholders are setting themselves up for future disappointment if the P/S falls to levels more in line with the negative growth outlook.

The Key Takeaway

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.

While New World Development's P/S isn't anything out of the ordinary for companies in the industry, we didn't expect it given forecasts of revenue decline. When we see a gloomy outlook like this, our immediate thoughts are that the share price is at risk of declining, negatively impacting P/S. If we consider the revenue outlook, the P/S seems to indicate that potential investors may be paying a premium for the stock.

You should always think about risks. Case in point, we've spotted 3 warning signs for New World Development you should be aware of, and 2 of them are concerning.

Of course, profitable companies with a history of great earnings growth are generally safer bets. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com