Tanac Automation Co., Ltd. (SZSE:300461) shares have had a horrible month, losing 28% after a relatively good period beforehand. The drop over the last 30 days has capped off a tough year for shareholders, with the share price down 28% in that time.

Although its price has dipped substantially, when almost half of the companies in China's Machinery industry have price-to-sales ratios (or "P/S") below 2.8x, you may still consider Tanac Automation as a stock not worth researching with its 10.1x P/S ratio. Although, it's not wise to just take the P/S at face value as there may be an explanation why it's so lofty.

What Does Tanac Automation's P/S Mean For Shareholders?

Revenue has risen at a steady rate over the last year for Tanac Automation, which is generally not a bad outcome. It might be that many expect the reasonable revenue performance to beat most other companies over the coming period, which has increased investors' willingness to pay up for the stock. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Is There Enough Revenue Growth Forecasted For Tanac Automation?

In order to justify its P/S ratio, Tanac Automation would need to produce outstanding growth that's well in excess of the industry.

Retrospectively, the last year delivered a decent 6.9% gain to the company's revenues. Still, lamentably revenue has fallen 19% in aggregate from three years ago, which is disappointing. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.

Comparing that to the industry, which is predicted to deliver 22% growth in the next 12 months, the company's downward momentum based on recent medium-term revenue results is a sobering picture.

With this in mind, we find it worrying that Tanac Automation's P/S exceeds that of its industry peers. 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 Bottom Line On Tanac Automation's P/S

A significant share price dive has done very little to deflate Tanac Automation's 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 Tanac Automation 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.

It is also worth noting that we have found 2 warning signs for Tanac Automation (1 doesn't sit too well with us!) that you need to take into consideration.

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).

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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.