Sumavision Technologies Co.,Ltd. (SZSE:300079) shareholders that were waiting for something to happen have been dealt a blow with a 25% share price drop in the last month. The recent drop has obliterated the annual return, with the share price now down 5.1% over that longer period.

Even after such a large drop in price, Sumavision TechnologiesLtd's price-to-sales (or "P/S") ratio of 12.9x might still make it look like a strong sell right now compared to other companies in the Communications industry in China, where around half of the companies have P/S ratios below 4.7x and even P/S below 2x are quite common. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.

What Does Sumavision TechnologiesLtd's P/S Mean For Shareholders?

For example, consider that Sumavision TechnologiesLtd's financial performance has been poor lately as its revenue has been in decline. Perhaps the market believes the company can do enough to outperform the rest of the industry in the near future, which is keeping the P/S ratio high. 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?

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

Retrospectively, the last year delivered a frustrating 43% decrease to the company's top line. As a result, revenue from three years ago have also fallen 47% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.

In contrast to the company, the rest of the industry is expected to grow by 36% 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 Sumavision TechnologiesLtd'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.

What We Can Learn From Sumavision TechnologiesLtd's P/S?

A significant share price dive has done very little to deflate Sumavision TechnologiesLtd's very lofty P/S. Generally, our preference is to limit the use of the price-to-sales ratio to establishing what the market thinks about the overall health of a company.

Our examination of Sumavision TechnologiesLtd 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. With a revenue decline on investors' minds, the likelihood of a souring sentiment is quite high which could send the P/S back in line with what we'd expect. Should recent medium-term revenue trends persist, it would pose a significant risk to existing shareholders' investments and prospective investors will have a hard time accepting the current value of the stock.

Before you take the next step, you should know about the 3 warning signs for Sumavision TechnologiesLtd (1 doesn't sit too well with us!) that we have uncovered.

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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