It's not a stretch to say that Hainan Haiyao Co., Ltd.'s (SZSE:000566) price-to-sales (or "P/S") ratio of 3.8x right now seems quite "middle-of-the-road" for companies in the Pharmaceuticals industry in China, where the median P/S ratio is around 3.9x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/S.

See our latest analysis for Hainan Haiyao

How Hainan Haiyao Has Been Performing

For instance, Hainan Haiyao's receding revenue in recent times would have to be some food for thought. One possibility is that the P/S is moderate because investors think the company might still do enough to be in line with the broader industry in the near future. If not, then existing shareholders may be a little nervous about the viability of the share price.

Is There Some Revenue Growth Forecasted For Hainan Haiyao?

In order to justify its P/S ratio, Hainan Haiyao would need to produce growth that's similar to the industry.

Retrospectively, the last year delivered a frustrating 17% decrease to the company's top line. This means it has also seen a slide in revenue over the longer-term as revenue is down 22% in total over the last three years. 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 271% over the next year, which really puts the company's recent medium-term revenue decline into perspective.

In light of this, it's somewhat alarming that Hainan Haiyao's P/S sits in line with the majority of other companies. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. There's a 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.

What We Can Learn From Hainan Haiyao's P/S?

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 find it unexpected that Hainan Haiyao trades at a P/S ratio that is comparable to the rest of the industry, despite experiencing declining revenues during the medium-term, while the industry as a whole is expected to grow. Even though it matches the industry, we're uncomfortable with the current P/S ratio, as this dismal revenue performance is unlikely to support a more positive sentiment for long. Unless the recent medium-term conditions improve markedly, investors will have a hard time accepting the share price as fair value.

Don't forget that there may be other risks. For instance, we've identified 2 warning signs for Hainan Haiyao (1 makes us a bit uncomfortable) you should be aware of.

Of course, profitable companies with a history of great earnings growth are generally safer bets. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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