When you see that almost half of the companies in the Diversified Financial industry in the United States have price-to-sales ratios (or "P/S") below 2.5x, Acacia Research Corporation (NASDAQ:ACTG) looks to be giving off strong sell signals with its 9.5x P/S ratio. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.

How Acacia Research Has Been Performing

Acacia Research 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. Perhaps the market is expecting the poor revenue to reverse, justifying it's current high P/S.. 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 Acacia Research?

Acacia Research's P/S ratio would be typical for a company that's expected to deliver very strong growth, and importantly, perform much better than the industry.

Retrospectively, the last year delivered a frustrating 58% decrease to the company's top line. Still, the latest three year period has seen an excellent 76% overall rise in revenue, in spite of its unsatisfying short-term performance. Accordingly, while they would have preferred to keep the run going, shareholders would definitely welcome the medium-term rates of revenue growth.

Looking ahead now, revenue is anticipated to slump, contracting by 25% during the coming year according to the lone analyst following the company. With the industry predicted to deliver 1.4% growth, that's a disappointing outcome.

In light of this, it's alarming that Acacia Research's P/S sits above the majority of other companies. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. There's a very 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.

What We Can Learn From Acacia Research's P/S?

While the price-to-sales ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of revenue expectations.

Our examination of Acacia Research's analyst forecasts revealed that its shrinking revenue outlook isn't drawing down its high P/S anywhere near as much as we would have predicted. Right now we aren't comfortable with the high P/S as the predicted future revenue decline likely to impact the positive sentiment that's propping up the P/S. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

Don't forget that there may be other risks. For instance, we've identified 1 warning sign for Acacia Research that you should be aware of.

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.