Shenzhen InfoGem Technologies Co., Ltd. (SZSE:300085) shares have retraced a considerable 27% in the last month, reversing a fair amount of their solid recent performance. Of course, over the longer-term many would still wish they owned shares as the stock's price has soared 176% in the last twelve months.

Although its price has dipped substantially, given around half the companies in China's Software industry have price-to-sales ratios (or "P/S") below 7x, you may still consider Shenzhen InfoGem Technologies as a stock to avoid entirely with its 30x 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 Shenzhen InfoGem Technologies Has Been Performing

For example, consider that Shenzhen InfoGem Technologies' 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.

Do Revenue Forecasts Match The High P/S Ratio?

Shenzhen InfoGem Technologies' 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.

In reviewing the last year of financials, we were disheartened to see the company's revenues fell to the tune of 18%. As a result, revenue from three years ago have also fallen 32% overall. 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 30% 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 InfoGem Technologies' 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.

What We Can Learn From Shenzhen InfoGem Technologies' P/S?

A significant share price dive has done very little to deflate Shenzhen InfoGem Technologies' very lofty P/S. Using the price-to-sales ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

We've established that Shenzhen InfoGem Technologies currently trades on a much higher than expected P/S since its recent revenues have been in decline over the medium-term. 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.

Plus, you should also learn about these 2 warning signs we've spotted with Shenzhen InfoGem Technologies.

It's important to make sure you look for a great company, not just the first idea you come across. So if growing profitability aligns with your idea of a great company, take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.