Haidilao International Holding Ltd. (HKG:6862) shareholders would be excited to see that the share price has had a great month, posting a 30% gain and recovering from prior weakness. Not all shareholders will be feeling jubilant, since the share price is still down a very disappointing 18% in the last twelve months.

Following the firm bounce in price, given close to half the companies operating in Hong Kong's Hospitality industry have price-to-sales ratios (or "P/S") below 0.9x, you may consider Haidilao International Holding as a stock to potentially avoid with its 2.5x P/S ratio. However, the P/S might be high for a reason and it requires further investigation to determine if it's justified.

What Does Haidilao International Holding's Recent Performance Look Like?

With revenue growth that's inferior to most other companies of late, Haidilao International Holding has been relatively sluggish. It might be that many expect the uninspiring revenue performance to recover significantly, which has kept the P/S ratio from collapsing. However, if this isn't the case, investors might get caught out paying too much for the stock.

What Are Revenue Growth Metrics Telling Us About The High P/S?

In order to justify its P/S ratio, Haidilao International Holding would need to produce impressive growth in excess of the industry.

If we review the last year of revenue, the company posted a result that saw barely any deviation from a year ago. Although pleasingly revenue has lifted 41% in aggregate from three years ago, notwithstanding the last 12 months. So while the company has done a solid job in the past, it's somewhat concerning to see revenue growth decline as much as it has.

Shifting to the future, estimates from the analysts covering the company suggest revenue should grow by 15% per annum over the next three years. Meanwhile, the rest of the industry is forecast to expand by 18% each year, which is noticeably more attractive.

With this in consideration, we believe it doesn't make sense that Haidilao International Holding's P/S is outpacing its industry peers. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. Only the boldest would assume these prices are sustainable as this level of revenue growth is likely to weigh heavily on the share price eventually.

The Key Takeaway

The large bounce in Haidilao International Holding's shares has lifted the company's P/S handsomely. 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.

We've concluded that Haidilao International Holding currently trades on a much higher than expected P/S since its forecast growth is lower than the wider industry. The weakness in the company's revenue estimate doesn't bode well for the elevated P/S, which could take a fall if the revenue sentiment doesn't improve. Unless these conditions improve markedly, it's very challenging to accept these prices as being reasonable.

The company's balance sheet is another key area for risk analysis. Our free balance sheet analysis for Haidilao International Holding with six simple checks will allow you to discover any risks that could be an issue.

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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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.