Roku, Inc.'s (NASDAQ:ROKU) price-to-sales (or "P/S") ratio of 2.6x may not look like an appealing investment opportunity when you consider close to half the companies in the Entertainment industry in the United States have P/S ratios below 1.3x. Although, it's not wise to just take the P/S at face value as there may be an explanation why it's as high as it is.

How Roku Has Been Performing

Recent times have been advantageous for Roku as its revenues have been rising faster than most other companies. It seems the market expects this form will continue into the future, hence the elevated P/S ratio. If not, then existing shareholders might be a little nervous about the viability of the share price.

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 high as Roku's is when the company's growth is on track to outshine the industry.

If we review the last year of revenue growth, the company posted a terrific increase of 16%. The latest three year period has also seen an excellent 78% overall rise in revenue, aided by its short-term performance. 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 12% per year over the next three years. That's shaping up to be materially higher than the 10% per year growth forecast for the broader industry.

In light of this, it's understandable that Roku's P/S sits above the majority of other companies. Apparently shareholders aren't keen to offload something that is potentially eyeing a more prosperous future.

The Final Word

Using the price-to-sales ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

We've established that Roku maintains its high P/S on the strength of its forecasted revenue growth being higher than the the rest of the Entertainment industry, as expected. 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.

Don't forget that there may be other risks. For instance, we've identified 2 warning signs for Roku that you should be aware of.

It's important to make sure you look for a great company, not just the first idea you come across. So if growing profitability aligns with your idea of a great company, take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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