You may think that with a price-to-sales (or "P/S") ratio of 8.8x Zai Lab Limited (NASDAQ:ZLAB) is a stock worth checking out, seeing as almost half of all the Biotechs companies in the United States have P/S ratios greater than 12.8x and even P/S higher than 50x aren't out of the ordinary. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the reduced P/S.

See our latest analysis for Zai Lab

How Has Zai Lab Performed Recently?

Recent times have been advantageous for Zai Lab as its revenues have been rising faster than most other companies. Perhaps the market is expecting future revenue performance to dive, which has kept the P/S suppressed. If the company manages to stay the course, then investors should be rewarded with a share price that matches its revenue figures.

How Is Zai Lab's Revenue Growth Trending?

The only time you'd be truly comfortable seeing a P/S as low as Zai Lab's is when the company's growth is on track to lag the industry.

Taking a look back first, we see that the company grew revenue by an impressive 34% last year. The latest three year period has also seen an incredible overall rise in revenue, aided by its incredible short-term performance. Accordingly, shareholders would have been over the moon with those medium-term rates of revenue growth.

Shifting to the future, estimates from the twelve analysts covering the company suggest revenue should grow by 57% per year over the next three years. With the industry predicted to deliver 237% growth each year, the company is positioned for a weaker revenue result.

With this in consideration, its clear as to why Zai Lab's P/S is falling short industry peers. It seems most investors are expecting to see limited future growth and are only willing to pay a reduced amount for the stock.

The Final Word

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.

We've established that Zai Lab maintains its low P/S on the weakness of its forecast growth being lower than the wider industry, as expected. At this stage investors feel the potential for an improvement in revenue isn't great enough to justify a higher P/S ratio. Unless these conditions improve, they will continue to form a barrier for the share price around these levels.

Before you take the next step, you should know about the 2 warning signs for Zai Lab that we have uncovered.

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.