It's not a stretch to say that The Scotts Miracle-Gro Company's (NYSE:SMG) price-to-sales (or "P/S") ratio of 1.2x right now seems quite "middle-of-the-road" for companies in the Chemicals industry in the United States, where the median P/S ratio is around 1.4x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/S.
How Has Scotts Miracle-Gro Performed Recently?
With revenue that's retreating more than the industry's average of late, Scotts Miracle-Gro has been very sluggish. It might be that many expect the dismal revenue performance to revert back to industry averages soon, which has kept the P/S from falling. If you still like the company, you'd want its revenue trajectory to turn around before making any decisions. If not, then existing shareholders may be a little nervous about the viability of the share price.
If you'd like to see what analysts are forecasting going forward, you should check out our free report on Scotts Miracle-Gro.
How Is Scotts Miracle-Gro's Revenue Growth Trending?
In order to justify its P/S ratio, Scotts Miracle-Gro would need to produce growth that's similar to the industry.
Taking a look back first, the company's revenue growth last year wasn't something to get excited about as it posted a disappointing decline of 12%. The last three years don't look nice either as the company has shrunk revenue by 24% in aggregate. Therefore, it's fair to say the revenue growth recently has been undesirable for the company.
Shifting to the future, estimates from the nine analysts covering the company suggest revenue should grow by 3.7% per year over the next three years. Meanwhile, the rest of the industry is forecast to expand by 7.7% each year, which is noticeably more attractive.
With this in mind, we find it intriguing that Scotts Miracle-Gro's P/S is closely matching its industry peers. Apparently many investors in the company are less bearish than analysts indicate and aren't willing to let go of their stock right now. These shareholders may be setting themselves up for future disappointment if the P/S falls to levels more in line with the growth outlook.
The Key Takeaway
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.
When you consider that Scotts Miracle-Gro's revenue growth estimates are fairly muted compared to the broader industry, it's easy to see why we consider it unexpected to be trading at its current P/S ratio. When we see companies with a relatively weaker revenue outlook compared to the industry, we suspect the share price is at risk of declining, sending the moderate P/S lower. A positive change is needed in order to justify the current price-to-sales ratio.
Having said that, be aware Scotts Miracle-Gro is showing 2 warning signs in our investment analysis, and 1 of those is significant.
If you're unsure about the strength of Scotts Miracle-Gro's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.
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