The Hunan Huasheng CO.,Ltd (SHSE:600156) share price has done very well over the last month, posting an excellent gain of 28%. Not all shareholders will be feeling jubilant, since the share price is still down a very disappointing 18% in the last twelve months.

Since its price has surged higher, you could be forgiven for thinking Hunan HuashengLtd is a stock not worth researching with a price-to-sales ratios (or "P/S") of 2.9x, considering almost half the companies in China's Luxury industry have P/S ratios below 1.3x. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/S.

What Does Hunan HuashengLtd's Recent Performance Look Like?

For instance, Hunan HuashengLtd's receding revenue in recent times would have to be some food for thought. One possibility is that the P/S is high because investors think the company will still do enough to outperform the broader industry in the near future. 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 outperform the industry for P/S ratios like Hunan HuashengLtd's to be considered reasonable.

Retrospectively, the last year delivered a frustrating 33% decrease to the company's top line. The last three years don't look nice either as the company has shrunk revenue by 43% in aggregate. 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 14% over the next year, which really puts the company's recent medium-term revenue decline into perspective.

In light of this, it's alarming that Hunan HuashengLtd's P/S sits above the majority of other companies. 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. 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 Bottom Line On Hunan HuashengLtd's P/S

Hunan HuashengLtd shares have taken a big step in a northerly direction, but its P/S is elevated as a result. Typically, we'd caution against reading too much into price-to-sales ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

We've established that Hunan HuashengLtd 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. If recent medium-term revenue trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

There are also other vital risk factors to consider before investing and we've discovered 2 warning signs for Hunan HuashengLtd that you should be aware of.

If you're unsure about the strength of Hunan HuashengLtd's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.