To the annoyance of some shareholders, Zhejiang Renzhi Co., Ltd. (SZSE:002629) shares are down a considerable 25% in the last month, which continues a horrid run for the company. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 50% share price drop.

In spite of the heavy fall in price, you could still be forgiven for thinking Zhejiang Renzhi is a stock not worth researching with a price-to-sales ratios (or "P/S") of 3.7x, considering almost half the companies in China's Energy Services industry have P/S ratios below 2.2x. Although, it's not wise to just take the P/S at face value as there may be an explanation why it's as high as it is.

What Does Zhejiang Renzhi's P/S Mean For Shareholders?

Zhejiang Renzhi has been doing a good job lately as it's been growing revenue at a solid pace. Perhaps the market is expecting this decent revenue performance to beat out the industry over the near term, which has kept the P/S propped up. However, if this isn't the case, investors might get caught out paying too much for the stock.

Is There Enough Revenue Growth Forecasted For Zhejiang Renzhi?

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

Taking a look back first, we see that the company grew revenue by an impressive 20% last year. The strong recent performance means it was also able to grow revenue by 73% in total over the last three years. So we can start by confirming that the company has done a great job of growing revenue over that time.

When compared to the industry's one-year growth forecast of 17%, the most recent medium-term revenue trajectory is noticeably more alluring

With this information, we can see why Zhejiang Renzhi is trading at such a high P/S compared to the industry. It seems most investors are expecting this strong growth to continue and are willing to pay more for the stock.

The Final Word

There's still some elevation in Zhejiang Renzhi's P/S, even if the same can't be said for its share price recently. 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 Zhejiang Renzhi revealed its three-year revenue trends are contributing to its high P/S, given they look better than current industry expectations. At this stage investors feel the potential continued revenue growth in the future is great enough to warrant an inflated P/S. If recent medium-term revenue trends continue, it's hard to see the share price falling strongly in the near future under these circumstances.

There are also other vital risk factors to consider before investing and we've discovered 1 warning sign for Zhejiang Renzhi that 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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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.