Shenzhen JT Automation Equipment Co.,Ltd (SZSE:300400) shares have continued their recent momentum with a 45% gain in the last month alone. Unfortunately, despite the strong performance over the last month, the full year gain of 4.4% isn't as attractive.

Since its price has surged higher, you could be forgiven for thinking Shenzhen JT Automation EquipmentLtd is a stock to steer clear of with a price-to-sales ratios (or "P/S") of 6.8x, considering almost half the companies in China's Machinery industry have P/S ratios below 2.8x. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.

What Does Shenzhen JT Automation EquipmentLtd's Recent Performance Look Like?

For example, consider that Shenzhen JT Automation EquipmentLtd's financial performance has been poor lately as its revenue has been in decline. 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. If not, then existing shareholders may be quite nervous about the viability of the share price.

How Is Shenzhen JT Automation EquipmentLtd's Revenue Growth Trending?

There's an inherent assumption that a company should far outperform the industry for P/S ratios like Shenzhen JT Automation EquipmentLtd's to be considered reasonable.

Retrospectively, the last year delivered a frustrating 24% decrease to the company's top line. The last three years don't look nice either as the company has shrunk revenue by 28% in aggregate. 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 23% over the next year, which really puts the company's recent medium-term revenue decline into perspective.

With this in mind, we find it worrying that Shenzhen JT Automation EquipmentLtd's P/S exceeds that of its industry peers. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. 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 Shenzhen JT Automation EquipmentLtd 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.

Our examination of Shenzhen JT Automation EquipmentLtd 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. Right now we aren't comfortable with the high P/S as this revenue performance is highly unlikely to support such positive sentiment for long. 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.

You should always think about risks. Case in point, we've spotted 4 warning signs for Shenzhen JT Automation EquipmentLtd you should be aware of, and 2 of them are potentially serious.

If strong companies turning a profit tickle your fancy, then you'll want to check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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.