China Ocean Group Development Limited (HKG:8047) shareholders that were waiting for something to happen have been dealt a blow with a 26% share price drop in the last month. To make matters worse, the recent drop has wiped out a year's worth of gains with the share price now back where it started a year ago.

Even after such a large drop in price, given close to half the companies operating in Hong Kong's Logistics industry have price-to-sales ratios (or "P/S") below 0.2x, you may still consider China Ocean Group Development as a stock to potentially avoid with its 1.4x P/S ratio. However, the P/S might be high for a reason and it requires further investigation to determine if it's justified.

How Has China Ocean Group Development Performed Recently?

China Ocean Group Development has been doing a good job lately as it's been growing revenue at a solid pace. One possibility is that the P/S ratio is high because investors think this respectable revenue growth will be 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.

Do Revenue Forecasts Match The High P/S Ratio?

The only time you'd be truly comfortable seeing a P/S as high as China Ocean Group Development's is when the company's growth is on track to outshine the industry.

Taking a look back first, we see that the company managed to grow revenues by a handy 13% last year. Ultimately though, it couldn't turn around the poor performance of the prior period, with revenue shrinking 65% in total over the last three years. Therefore, it's fair to say the revenue growth recently has been undesirable for the company.

In contrast to the company, the rest of the industry is expected to grow by 4.9% over the next year, which really puts the company's recent medium-term revenue decline into perspective.

In light of this, it's alarming that China Ocean Group Development's P/S sits above the majority of other companies. It seems most investors are ignoring the recent poor growth rate 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.

The Final Word

There's still some elevation in China Ocean Group Development's P/S, even if the same can't be said for its share price recently. It's argued the price-to-sales ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

Our examination of China Ocean Group Development revealed its shrinking revenue over the medium-term isn't resulting in a P/S as low as we expected, given the industry is set to grow. Right now we aren't comfortable with the high P/S as this revenue performance is highly unlikely to support such positive sentiment for long. Unless the recent medium-term conditions improve markedly, investors will have a hard time accepting the share price as fair value.

Before you settle on your opinion, we've discovered 4 warning signs for China Ocean Group Development (2 are a bit concerning!) that you should be aware of.

It's important to make sure you look for a great company, not just the first idea you come across. So if growing profitability aligns with your idea of a great company, take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.