You may think that with a price-to-sales (or "P/S") ratio of 10.8x AppFolio, Inc. (NASDAQ:APPF) is a stock to avoid completely, seeing as almost half of all the Software companies in the United States have P/S ratios under 4.5x and even P/S lower than 1.8x aren't out of the ordinary. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.

View our latest analysis for AppFolio

How AppFolio Has Been Performing

Recent times have been advantageous for AppFolio 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. However, if this isn't the case, investors might get caught out paying too much for the stock.

Is There Enough Revenue Growth Forecasted For AppFolio?

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

Taking a look back first, we see that the company grew revenue by an impressive 29% last year. The latest three year period has also seen an excellent 88% overall rise in revenue, aided by its short-term performance. 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 six analysts covering the company suggest revenue should grow by 27% over the next year. Meanwhile, the rest of the industry is forecast to only expand by 15%, which is noticeably less attractive.

With this in mind, it's not hard to understand why AppFolio's P/S is high relative to its industry peers. Apparently shareholders aren't keen to offload something that is potentially eyeing a more prosperous future.

What We Can Learn From AppFolio's P/S?

We'd say the price-to-sales ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

We've established that AppFolio maintains its high P/S on the strength of its forecasted revenue growth being higher than the the rest of the Software industry, as expected. Right now shareholders are comfortable with the P/S as they are quite confident future revenues aren't under threat. Unless these conditions change, they will continue to provide strong support to the share price.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 1 warning sign with AppFolio, and understanding should be part of your investment process.

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.