Reach New Holdings Limited (HKG:8471) shares have continued their recent momentum with a 62% gain in the last month alone. The last month tops off a massive increase of 129% in the last year.

Since its price has surged higher, when almost half of the companies in Hong Kong's Luxury industry have price-to-sales ratios (or "P/S") below 0.6x, you may consider Reach New Holdings as a stock not worth researching with its 3.1x 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 Reach New Holdings Has Been Performing

Reach New Holdings has been doing a good job lately as it's been growing revenue at a solid pace. Perhaps the market is expecting this decent revenue performance to beat out the industry over the near term, which has kept the P/S propped up. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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

There's an inherent assumption that a company should far outperform the industry for P/S ratios like Reach New Holdings' to be considered reasonable.

If we review the last year of revenue growth, the company posted a worthy increase of 11%. Still, lamentably revenue has fallen 1.8% in aggregate from three years ago, which is disappointing. So unfortunately, we have to acknowledge that the company has not done a great job of growing revenue over that time.

In contrast to the company, the rest of the industry is expected to grow by 13% 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 Reach New Holdings is trading at a P/S higher than the industry. Apparently many investors in the company are way more bullish than recent times would indicate and aren't willing to let go of their stock at any price. Only the boldest would assume these prices are sustainable as a continuation of recent revenue trends is likely to weigh heavily on the share price eventually.

The Final Word

Shares in Reach New Holdings have seen a strong upwards swing lately, which has really helped boost its P/S figure. 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.

We've established that Reach New Holdings currently trades on a much higher than expected P/S since its recent revenues have been in decline over the medium-term. When we see revenue heading backwards and underperforming the industry forecasts, we feel the possibility of the share price declining is very real, bringing the P/S back into the realm of reasonability. Unless the the circumstances surrounding the recent medium-term improve, it wouldn't be wrong to expect a a difficult period ahead for the company's shareholders.

Having said that, be aware Reach New Holdings is showing 5 warning signs in our investment analysis, and 3 of those are significant.

If these risks are making you reconsider your opinion on Reach New Holdings, 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.