Despite an already strong run, Zhejiang Kan Specialities Material Co., Ltd. (SZSE:002012) shares have been powering on, with a gain of 26% in the last thirty days. Not all shareholders will be feeling jubilant, since the share price is still down a very disappointing 23% in the last twelve months.

Following the firm bounce in price, you could be forgiven for thinking Zhejiang Kan Specialities Material is a stock not worth researching with a price-to-sales ratios (or "P/S") of 3.3x, considering almost half the companies in China's Forestry industry have P/S ratios below 1.5x. However, the P/S might be high for a reason and it requires further investigation to determine if it's justified.

How Zhejiang Kan Specialities Material Has Been Performing

As an illustration, revenue has deteriorated at Zhejiang Kan Specialities Material 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. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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

There's an inherent assumption that a company should outperform the industry for P/S ratios like Zhejiang Kan Specialities Material's to be considered reasonable.

Taking a look back first, the company's revenue growth last year wasn't something to get excited about as it posted a disappointing decline of 47%. The last three years don't look nice either as the company has shrunk revenue by 69% in aggregate. Therefore, it's fair to say the revenue growth recently has been undesirable for the company.

Weighing that medium-term revenue trajectory against the broader industry's one-year forecast for expansion of 13% shows it's an unpleasant look.

With this in mind, we find it worrying that Zhejiang Kan Specialities Material'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. 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.

The Final Word

Zhejiang Kan Specialities Material shares have taken a big step in a northerly direction, but its P/S is elevated as a result. Using the price-to-sales ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

We've established that Zhejiang Kan Specialities Material currently trades on a much higher than expected P/S since its recent revenues have been in decline over the medium-term. When we see revenue heading backwards and underperforming the industry forecasts, we feel the possibility of the share price declining is very real, bringing the P/S back into the realm of reasonability. If recent medium-term revenue trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

It is also worth noting that we have found 3 warning signs for Zhejiang Kan Specialities Material (2 are significant!) that you need to take into consideration.

If you're unsure about the strength of Zhejiang Kan Specialities Material's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.