With a price-to-sales (or "P/S") ratio of 5.8x Silicon Laboratories Inc. (NASDAQ:SLAB) may be sending bearish signals at the moment, given that almost half of all Semiconductor companies in the United States have P/S ratios under 4x and even P/S lower than 1.6x are not unusual. Although, it's not wise to just take the P/S at face value as there may be an explanation why it's as high as it is.

How Silicon Laboratories Has Been Performing

While the industry has experienced revenue growth lately, Silicon Laboratories' revenue has gone into reverse gear, which is not great. It might be that many expect the dour revenue performance to recover substantially, which has kept the P/S from collapsing. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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Is There Enough Revenue Growth Forecasted For Silicon Laboratories?

In order to justify its P/S ratio, Silicon Laboratories would need to produce impressive growth in excess of the industry.

Retrospectively, the last year delivered a frustrating 47% decrease to the company's top line. As a result, revenue from three years ago have also fallen 10% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.

Turning to the outlook, the next three years should generate growth of 30% per annum as estimated by the nine analysts watching the company. Meanwhile, the rest of the industry is forecast to expand by 28% per annum, which is not materially different.

With this in consideration, we find it intriguing that Silicon Laboratories' P/S is higher than its industry peers. It seems most investors are ignoring the fairly average growth expectations and are willing to pay up for exposure to the stock. These shareholders may be setting themselves up for disappointment if the P/S falls to levels more in line with the growth outlook.

The Key Takeaway

We'd say the price-to-sales ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

Analysts are forecasting Silicon Laboratories' revenues to only grow on par with the rest of the industry, which has lead to the high P/S ratio being unexpected. Right now we are uncomfortable with the relatively high share price as the predicted future revenues aren't likely to support such positive sentiment for long. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

The company's balance sheet is another key area for risk analysis. You can assess many of the main risks through our free balance sheet analysis for Silicon Laboratories with six simple checks.

If companies with solid past earnings growth is up your alley, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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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.