With a price-to-sales (or "P/S") ratio of 8.8x Freshworks Inc. (NASDAQ:FRSH) may be sending very bearish signals at the moment, given that almost half of all the Software companies in the United States have P/S ratios under 4.4x and even P/S lower than 1.8x are not unusual. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.

How Has Freshworks Performed Recently?

Freshworks certainly has been doing a good job lately as it's been growing revenue more 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 steep as Freshworks' 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 20% last year. The latest three year period has also seen an excellent 139% 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 analysts covering the company suggest revenue should grow by 20% per annum over the next three years. With the industry only predicted to deliver 15% each year, the company is positioned for a stronger revenue result.

In light of this, it's understandable that Freshworks' P/S sits above the majority of other companies. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

What Does Freshworks' P/S Mean For Investors?

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.

As we suspected, our examination of Freshworks' analyst forecasts revealed that its superior revenue outlook is contributing to its high P/S. Right now shareholders are comfortable with the P/S as they are quite confident future revenues aren't under threat. Unless the analysts have really missed the mark, these strong revenue forecasts should keep the share price buoyant.

There are also other vital risk factors to consider before investing and we've discovered 2 warning signs for Freshworks 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.