When close to half the companies in the IT industry in China have price-to-sales ratios (or "P/S") below 3.4x, you may consider Chengdu Information Technology of Chinese Academy of Sciences Co.,Ltd (SZSE:300678) as a stock to avoid entirely with its 11.5x P/S ratio. Although, it's not wise to just take the P/S at face value as there may be an explanation why it's so lofty.

What Does Chengdu Information Technology of Chinese Academy of SciencesLtd's Recent Performance Look Like?

The revenue growth achieved at Chengdu Information Technology of Chinese Academy of SciencesLtd over the last year would be more than acceptable for most companies. It might be that many expect the respectable revenue performance to beat most other companies over the coming period, which has increased investors' willingness to pay up for the stock. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Is There Enough Revenue Growth Forecasted For Chengdu Information Technology of Chinese Academy of SciencesLtd?

Chengdu Information Technology of Chinese Academy of SciencesLtd's P/S ratio would be typical for a company that's expected to deliver very strong growth, and importantly, perform much better than the industry.

If we review the last year of revenue growth, the company posted a worthy increase of 7.7%. The latest three year period has also seen a 20% overall rise in revenue, aided somewhat by its short-term performance. Accordingly, shareholders would have probably been satisfied with the medium-term rates of revenue growth.

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

In light of this, it's alarming that Chengdu Information Technology of Chinese Academy of SciencesLtd's P/S sits above the majority of other companies. 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. Only the boldest would assume these prices are sustainable as a continuation of recent revenue trends is likely to weigh heavily on the share price eventually.

What We Can Learn From Chengdu Information Technology of Chinese Academy of SciencesLtd's P/S?

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.

The fact that Chengdu Information Technology of Chinese Academy of SciencesLtd 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 Chengdu Information Technology of Chinese Academy of SciencesLtd you should know about.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com