Shenzhen Ruihe Construction Decoration Co., Ltd. (SZSE:002620) shareholders that were waiting for something to happen have been dealt a blow with a 26% share price drop in the last month. The drop over the last 30 days has capped off a tough year for shareholders, with the share price down 33% in that time.

Since its price has dipped substantially, Shenzhen Ruihe Construction Decoration's price-to-sales (or "P/S") ratio of 0.9x might make it look like a buy right now compared to the Professional Services industry in China, where around half of the companies have P/S ratios above 2.8x and even P/S above 8x are quite common. However, the P/S might be low for a reason and it requires further investigation to determine if it's justified.

What Does Shenzhen Ruihe Construction Decoration's Recent Performance Look Like?

For instance, Shenzhen Ruihe Construction Decoration's receding revenue in recent times would have to be some food for thought. One possibility is that the P/S is low because investors think the company won't do enough to avoid underperforming the broader industry in the near future. Those who are bullish on Shenzhen Ruihe Construction Decoration will be hoping that this isn't the case so that they can pick up the stock at a lower valuation.

Do Revenue Forecasts Match The Low P/S Ratio?

The only time you'd be truly comfortable seeing a P/S as low as Shenzhen Ruihe Construction Decoration's is when the company's growth is on track to lag the industry.

Retrospectively, the last year delivered a frustrating 36% 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 55% in total over the last three years. 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 information, we are not surprised that Shenzhen Ruihe Construction Decoration is trading at a P/S lower than the industry. However, we think shrinking revenues are unlikely to lead to a stable P/S over the longer term, which could set up shareholders for future disappointment. There's potential for the P/S to fall to even lower levels if the company doesn't improve its top-line growth.

The Key Takeaway

The southerly movements of Shenzhen Ruihe Construction Decoration's shares means its P/S is now sitting at a pretty low level. While the price-to-sales ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of revenue expectations.

As we suspected, our examination of Shenzhen Ruihe Construction Decoration revealed its shrinking revenue over the medium-term is contributing to its low P/S, given the industry is set to grow. At this stage investors feel the potential for an improvement in revenue isn't great enough to justify a higher P/S ratio. Unless the recent medium-term conditions improve, they will continue to form a barrier for the share price around these levels.

Before you settle on your opinion, we've discovered 2 warning signs for Shenzhen Ruihe Construction Decoration (1 is significant!) that you should be aware of.

If these risks are making you reconsider your opinion on Shenzhen Ruihe Construction Decoration, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.