When close to half the companies in the Diversified Financial industry in the United States have price-to-sales ratios (or "P/S") below 2.6x, you may consider Toast, Inc. (NYSE:TOST) as a stock to potentially avoid with its 3.5x P/S ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/S.

What Does Toast's Recent Performance Look Like?

Recent times have been advantageous for Toast 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. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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 high as Toast's is when the company's growth is on track to outshine the industry.

Taking a look back first, we see that the company grew revenue by an impressive 32% last year. The latest three year period has also seen an excellent 270% 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.

Turning to the outlook, the next three years should generate growth of 21% per annum as estimated by the analysts watching the company. Meanwhile, the rest of the industry is forecast to only expand by 8.6% each year, which is noticeably less attractive.

With this in mind, it's not hard to understand why Toast's P/S is high relative to its industry peers. It seems most investors are expecting this strong future growth and are willing to pay more for the stock.

The Key Takeaway

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.

We've established that Toast maintains its high P/S on the strength of its forecasted revenue growth being higher than the the rest of the Diversified Financial industry, as expected. It appears that shareholders are confident in the company's future revenues, which is propping up the P/S. It's hard to see the share price falling strongly in the near future under these circumstances.

And what about other risks? Every company has them, and we've spotted 1 warning sign for Toast you should know about.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.