Shanghai ZJ Bio-Tech Co., Ltd. (SHSE:688317) shareholders that were waiting for something to happen have been dealt a blow with a 27% share price drop in the last month. For any long-term shareholders, the last month ends a year to forget by locking in a 55% share price decline.

In spite of the heavy fall in price, there still wouldn't be many who think Shanghai ZJ Bio-Tech's price-to-sales (or "P/S") ratio of 4.6x is worth a mention when the median P/S in China's Medical Equipment industry is similar at about 5.4x. Although, it's not wise to simply ignore the P/S without explanation as investors may be disregarding a distinct opportunity or a costly mistake.

View our latest analysis for Shanghai ZJ Bio-Tech

What Does Shanghai ZJ Bio-Tech's P/S Mean For Shareholders?

For example, consider that Shanghai ZJ Bio-Tech's financial performance has been poor lately as its revenue has been in decline. One possibility is that the P/S is moderate because investors think the company might still do enough to be in line with the broader industry in the near future. If you like the company, you'd at least be hoping this is the case so that you could potentially pick up some stock while it's not quite in favour.

Do Revenue Forecasts Match The P/S Ratio?

The only time you'd be comfortable seeing a P/S like Shanghai ZJ Bio-Tech's is when the company's growth is tracking the industry closely.

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 73%. As a result, revenue from three years ago have also fallen 56% overall. Therefore, it's fair to say the revenue growth recently has been undesirable for the company.

In contrast to the company, the rest of the industry is expected to grow by 26% over the next year, which really puts the company's recent medium-term revenue decline into perspective.

With this information, we find it concerning that Shanghai ZJ Bio-Tech is trading at a fairly similar P/S compared to the industry. It seems most investors are ignoring the recent poor growth rate 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 the recent negative growth rates.

The Key Takeaway

With its share price dropping off a cliff, the P/S for Shanghai ZJ Bio-Tech looks to be in line with the rest of the Medical Equipment industry. While the price-to-sales ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of revenue expectations.

The fact that Shanghai ZJ Bio-Tech currently trades at a P/S on par with the rest of the industry is surprising to us since its recent revenues have been in decline over the medium-term, all while the industry is set to grow. Even though it matches the industry, we're uncomfortable with the current P/S ratio, as this dismal revenue performance is unlikely to support a more positive sentiment for long. If recent medium-term revenue trends continue, it will place shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 2 warning signs with Shanghai ZJ Bio-Tech (at least 1 which is potentially serious), and understanding them should be part of your investment process.

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.

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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.