PowerTECH Co., Ltd. (SZSE:301369) shareholders that were waiting for something to happen have been dealt a blow with a 30% share price drop in the last month. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 43% share price drop.

Although its price has dipped substantially, PowerTECH may still be sending very bearish signals at the moment with a price-to-sales (or "P/S") ratio of 11.4x, since almost half of all companies in the Semiconductor industry in China have P/S ratios under 6x and even P/S lower than 3x are not unusual. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.

See our latest analysis for PowerTECH

How PowerTECH Has Been Performing

As an illustration, revenue has deteriorated at PowerTECH 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.

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

There's an inherent assumption that a company should far outperform the industry for P/S ratios like PowerTECH'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 38%. Regardless, revenue has managed to lift by a handy 23% in aggregate from three years ago, thanks to the earlier period of growth. So we can start by confirming that the company has generally done a good job of growing revenue over that time, even though it had some hiccups along the way.

Comparing that to the industry, which is predicted to deliver 36% growth in the next 12 months, the company's momentum is weaker, based on recent medium-term annualised revenue results.

With this in mind, we find it worrying that PowerTECH's P/S exceeds that of its industry peers. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. 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 Does PowerTECH's P/S Mean For Investors?

PowerTECH's shares may have suffered, but its P/S remains high. We'd say the price-to-sales ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

The fact that PowerTECH 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.

Before you take the next step, you should know about the 4 warning signs for PowerTECH (2 are a bit unpleasant!) that we have uncovered.

If these risks are making you reconsider your opinion on PowerTECH, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.