Suzhou Longway Eletronic Machinery Co., Ltd (SZSE:301202) shares have had a really impressive month, gaining 137% after a shaky period beforehand. Longer-term shareholders would be thankful for the recovery in the share price since it's now virtually flat for the year after the recent bounce.

After such a large jump in price, when almost half of the companies in China's Tech industry have price-to-sales ratios (or "P/S") below 3.4x, you may consider Suzhou Longway Eletronic Machinery as a stock not worth researching with its 7.1x P/S ratio. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.

How Suzhou Longway Eletronic Machinery Has Been Performing

As an illustration, revenue has deteriorated at Suzhou Longway Eletronic Machinery over the last year, which is not ideal at all. 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. However, if this isn't the case, investors might get caught out paying too much for the stock.

How Is Suzhou Longway Eletronic Machinery's Revenue Growth Trending?

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

In reviewing the last year of financials, we were disheartened to see the company's revenues fell to the tune of 8.5%. Regardless, revenue has managed to lift by a handy 23% in aggregate from three years ago, thanks to the earlier period of growth. Although it's been a bumpy ride, it's still fair to say the revenue growth recently has been mostly respectable for the company.

Comparing the recent medium-term revenue trends against the industry's one-year growth forecast of 25% shows it's noticeably less attractive.

With this in mind, we find it worrying that Suzhou Longway Eletronic Machinery'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. 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 recent growth rates.

The Key Takeaway

Shares in Suzhou Longway Eletronic Machinery have seen a strong upwards swing lately, which has really helped boost its P/S figure. 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.

The fact that Suzhou Longway Eletronic Machinery currently trades on a higher P/S relative to the industry is an oddity, since its recent three-year growth is lower than the wider industry forecast. When we observe slower-than-industry revenue growth alongside a high P/S ratio, we assume there to be a significant risk of the share price decreasing, which would result in a lower P/S ratio. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these the share price as being reasonable.

And what about other risks? Every company has them, and we've spotted 2 warning signs for Suzhou Longway Eletronic Machinery (of which 1 doesn't sit too well with us!) you should know about.

If companies with solid past earnings growth is up your alley, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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