The Shanghai Rychen Technologies Co., Ltd. (SZSE:301273) share price has fared very poorly over the last month, falling by a substantial 27%. The recent drop completes a disastrous twelve months for shareholders, who are sitting on a 55% loss during that time.

Even after such a large drop in price, given close to half the companies operating in China's Machinery industry have price-to-sales ratios (or "P/S") below 2.6x, you may still consider Shanghai Rychen Technologies as a stock to potentially avoid with its 4.3x P/S ratio. However, the P/S might be high for a reason and it requires further investigation to determine if it's justified.

View our latest analysis for Shanghai Rychen Technologies

How Shanghai Rychen Technologies Has Been Performing

For example, consider that Shanghai Rychen Technologies' financial performance has been poor lately as its revenue has been in decline. Perhaps the market believes the company can do enough to outperform the rest of the industry in the near future, which is keeping the P/S ratio high. However, if this isn't the case, investors might get caught out paying too much for the stock.

What Are Revenue Growth Metrics Telling Us About The High P/S?

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

In reviewing the last year of financials, we were disheartened to see the company's revenues fell to the tune of 26%. Regardless, revenue has managed to lift by a handy 13% in aggregate from three years ago, thanks to the earlier period of growth. Although it's been a bumpy ride, it's still fair to say the revenue growth recently has been mostly respectable for the company.

This is in contrast to the rest of the industry, which is expected to grow by 28% over the next year, materially higher than the company's recent medium-term annualised growth rates.

With this in mind, we find it worrying that Shanghai Rychen Technologies' P/S exceeds that of its industry peers. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. There's a good chance existing shareholders are setting themselves up for future disappointment if the P/S falls to levels more in line with recent growth rates.

What Does Shanghai Rychen Technologies' P/S Mean For Investors?

There's still some elevation in Shanghai Rychen Technologies' P/S, even if the same can't be said for its share price recently. 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.

Our examination of Shanghai Rychen Technologies revealed its poor three-year revenue trends aren't detracting from the P/S as much as we though, given they look worse than current industry expectations. When we observe slower-than-industry revenue growth alongside a high P/S ratio, we assume there to be a significant risk of the share price decreasing, which would result in a lower P/S ratio. Unless there is a significant improvement in the company's medium-term performance, it will be difficult to prevent the P/S ratio from declining to a more reasonable level.

Plus, you should also learn about these 3 warning signs we've spotted with Shanghai Rychen Technologies (including 1 which doesn't sit too well with us).

If these risks are making you reconsider your opinion on Shanghai Rychen Technologies, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.