You may think that with a price-to-sales (or "P/S") ratio of 9.2x Giga Device Semiconductor Inc. (SHSE:603986) is a stock to avoid completely, seeing as almost half of all the Semiconductor companies in China have P/S ratios under 5.6x and even P/S lower than 2x aren't out of the ordinary. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.

What Does Giga Device Semiconductor's Recent Performance Look Like?

While the industry has experienced revenue growth lately, Giga Device Semiconductor's revenue has gone into reverse gear, which is not great. It might be that many expect the dour revenue performance to recover substantially, which has kept the P/S from collapsing. If not, then existing shareholders may be extremely nervous about the viability of the share price.

Do Revenue Forecasts Match The High P/S Ratio?

There's an inherent assumption that a company should far outperform the industry for P/S ratios like Giga Device Semiconductor'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 16%. Regardless, revenue has managed to lift by a handy 14% 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.

Looking ahead now, revenue is anticipated to climb by 28% during the coming year according to the analysts following the company. Meanwhile, the rest of the industry is forecast to expand by 36%, which is noticeably more attractive.

With this in consideration, we believe it doesn't make sense that Giga Device Semiconductor's P/S is outpacing its industry peers. Apparently many investors in the company are way more bullish than analysts indicate and aren't willing to let go of their stock at any price. There's a good chance these shareholders are setting themselves up for future disappointment if the P/S falls to levels more in line with the growth outlook.

The Key Takeaway

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.

Despite analysts forecasting some poorer-than-industry revenue growth figures for Giga Device Semiconductor, this doesn't appear to be impacting the P/S in the slightest. When we see a weak revenue outlook, we suspect the share price faces a much greater risk of declining, bringing back down the P/S figures. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

Before you settle on your opinion, we've discovered 2 warning signs for Giga Device Semiconductor that you should be aware of.

If you're unsure about the strength of Giga Device Semiconductor'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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