To the annoyance of some shareholders, Shanghai Yanhua Smartech Group Co., Ltd. (SZSE:002178) shares are down a considerable 26% in the last month, which continues a horrid run for the company. The last month has meant the stock is now only up 3.9% during the last year.

In spite of the heavy fall in price, when almost half of the companies in China's Construction industry have price-to-sales ratios (or "P/S") below 1.1x, you may still consider Shanghai Yanhua Smartech Group as a stock not worth researching with its 4x P/S ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/S.

How Has Shanghai Yanhua Smartech Group Performed Recently?

The revenue growth achieved at Shanghai Yanhua Smartech Group over the last year would be more than acceptable for most companies. One possibility is that the P/S ratio is high because investors think this respectable revenue growth will be enough to outperform the broader industry in the near future. If not, then existing shareholders may be a little nervous about the viability of the share price.

Is There Enough Revenue Growth Forecasted For Shanghai Yanhua Smartech Group?

The only time you'd be truly comfortable seeing a P/S as steep as Shanghai Yanhua Smartech Group's is when the company's growth is on track to outshine the industry decidedly.

Retrospectively, the last year delivered an exceptional 16% gain to the company's top line. However, this wasn't enough as the latest three year period has seen the company endure a nasty 2.7% drop in revenue in aggregate. So unfortunately, we have to acknowledge that the company has not done a great job of growing revenues over that time.

Comparing that to the industry, which is predicted to deliver 13% growth in the next 12 months, the company's downward momentum based on recent medium-term revenue results is a sobering picture.

In light of this, it's alarming that Shanghai Yanhua Smartech Group's P/S sits above the majority of other companies. 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 very 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

Shanghai Yanhua Smartech Group's shares may have suffered, but its P/S remains high. It's argued the price-to-sales ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

Our examination of Shanghai Yanhua Smartech Group revealed its shrinking revenue over the medium-term isn't resulting in a P/S as low as we expected, given the industry is set to grow. With a revenue decline on investors' minds, the likelihood of a souring sentiment is quite high which could send the P/S back in line with what we'd expect. Should recent medium-term revenue trends persist, it would pose a significant risk to existing shareholders' investments and prospective investors will have a hard time accepting the current value of the stock.

A lot of potential risks can sit within a company's balance sheet. You can assess many of the main risks through our free balance sheet analysis for Shanghai Yanhua Smartech Group with six simple checks.

If you're unsure about the strength of Shanghai Yanhua Smartech Group'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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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.