When close to half the companies in the Biotechs industry in China have price-to-sales ratios (or "P/S") below 6.8x, you may consider Gan & Lee Pharmaceuticals. (SHSE:603087) as a stock to avoid entirely with its 11.3x 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.

What Does Gan & Lee Pharmaceuticals' P/S Mean For Shareholders?

Gan & Lee Pharmaceuticals certainly has been doing a good job lately as it's been growing revenue more than most other companies. It seems the market expects this form will continue into the future, hence the elevated P/S ratio. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Do Revenue Forecasts Match The High P/S Ratio?

Gan & Lee Pharmaceuticals' P/S ratio would be typical for a company that's expected to deliver very strong growth, and importantly, perform much better than the industry.

Taking a look back first, we see that the company grew revenue by an impressive 65% last year. However, this wasn't enough as the latest three year period has seen the company endure a nasty 24% drop in revenue in aggregate. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.

Turning to the outlook, the next year should generate growth of 49% as estimated by the four analysts watching the company. That's shaping up to be materially lower than the 270% growth forecast for the broader industry.

In light of this, it's alarming that Gan & Lee Pharmaceuticals' P/S sits above the majority of other companies. Apparently many investors in the company are way more bullish than analysts indicate and aren't willing to let go of their stock at any price. Only the boldest would assume these prices are sustainable as this level of revenue growth is likely to weigh heavily on the share price eventually.

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.

It comes as a surprise to see Gan & Lee Pharmaceuticals trade at such a high P/S given the revenue forecasts look less than stellar. The weakness in the company's revenue estimate doesn't bode well for the elevated P/S, which could take a fall if the revenue sentiment doesn't improve. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.

Before you settle on your opinion, we've discovered 1 warning sign for Gan & Lee Pharmaceuticals that you should be aware of.

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.