When close to half the companies in the Communications industry in the United States have price-to-sales ratios (or "P/S") below 1.2x, you may consider Calix, Inc. (NYSE:CALX) as a stock to potentially avoid with its 2.7x P/S ratio. However, the P/S might be high for a reason and it requires further investigation to determine if it's justified.

How Calix Has Been Performing

Calix hasn't been tracking well recently as its declining revenue compares poorly to other companies, which have seen some growth in their revenues on average. One possibility is that the P/S ratio is high because investors think this poor revenue performance will turn the corner. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Do Revenue Forecasts Match The High P/S Ratio?

The only time you'd be truly comfortable seeing a P/S as high as Calix's is when the company's growth is on track to outshine the industry.

Taking a look back first, the company's revenue growth last year wasn't something to get excited about as it posted a disappointing decline of 13%. However, a few very strong years before that means that it was still able to grow revenue by an impressive 32% in total over the last three years. Although it's been a bumpy ride, it's still fair to say the revenue growth recently has been more than adequate for the company.

Shifting to the future, estimates from the seven analysts covering the company suggest revenue growth is heading into negative territory, declining 4.7% over the next year. That's not great when the rest of the industry is expected to grow by 11%.

In light of this, it's alarming that Calix's P/S sits above 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 at any price. Only the boldest would assume these prices are sustainable as these declining revenues are likely to weigh heavily on the share price eventually.

The Final Word

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.

For a company with revenues that are set to decline in the context of a growing industry, Calix's P/S is much higher than we would've anticipated. In cases like this where we see revenue decline on the horizon, we suspect the share price is at risk of following suit, bringing back the high P/S into the realms of suitability. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

The company's balance sheet is another key area for risk analysis. Take a look at our free balance sheet analysis for Calix 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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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.