When close to half the companies in the Oil and Gas industry in the United States have price-to-sales ratios (or "P/S") below 1.7x, you may consider Sitio Royalties Corp. (NYSE:STR) as a stock to potentially avoid with its 2.5x P/S ratio. However, the P/S might be high for a reason and it requires further investigation to determine if it's justified.

What Does Sitio Royalties' Recent Performance Look Like?

With its revenue growth in positive territory compared to the declining revenue of most other companies, Sitio Royalties has been doing quite well of late. Perhaps the market is expecting the company's future revenue growth to buck the trend of the industry, contributing to a higher P/S. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Is There Enough Revenue Growth Forecasted For Sitio Royalties?

Sitio Royalties' P/S ratio would be typical for a company that's expected to deliver solid growth, and importantly, perform better than the industry.

Retrospectively, the last year delivered a decent 14% gain to the company's revenues. Spectacularly, three year revenue growth has ballooned by several orders of magnitude, even though the last 12 months were fairly tame in comparison. Accordingly, shareholders would have been over the moon with those medium-term rates of revenue growth.

Looking ahead now, revenue is anticipated to slump, contracting by 1.3% during the coming year according to the four analysts following the company. With the industry predicted to deliver 9.2% growth, that's a disappointing outcome.

With this in mind, we find it intriguing that Sitio Royalties' P/S is closely matching its industry peers. 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. 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.

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.

For a company with revenues that are set to decline in the context of a growing industry, Sitio Royalties' 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. At these price levels, investors should remain cautious, particularly if things don't improve.

You should always think about risks. Case in point, we've spotted 1 warning sign for Sitio Royalties you should be aware of.

If strong companies turning a profit tickle your fancy, then you'll want to check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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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.