Unfortunately for some shareholders, the Hongbo Co.,Ltd. (SZSE:002229) share price has dived 32% in the last thirty days, prolonging recent pain. The recent drop completes a disastrous twelve months for shareholders, who are sitting on a 65% loss during that time.

Even after such a large drop in price, given around half the companies in China's Commercial Services industry have price-to-sales ratios (or "P/S") below 2.5x, you may still consider HongboLtd as a stock to avoid entirely with its 9.6x 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 HongboLtd's Recent Performance Look Like?

HongboLtd 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. If not, then existing shareholders may be a little nervous about the viability of the share price.

Do Revenue Forecasts Match The High P/S Ratio?

The only time you'd be truly comfortable seeing a P/S as steep as HongboLtd's is when the company's growth is on track to outshine the industry decidedly.

Retrospectively, the last year delivered a decent 11% gain to the company's revenues. The solid recent performance means it was also able to grow revenue by 13% in total over the last three years. So we can start by confirming that the company has actually done a good job of growing revenue over that time.

This is in contrast to the rest of the industry, which is expected to grow by 30% over the next year, materially higher than the company's recent medium-term annualised growth rates.

With this in mind, we find it worrying that HongboLtd'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. There's a good chance existing shareholders are setting themselves up for future disappointment if the P/S falls to levels more in line with recent growth rates.

What Does HongboLtd's P/S Mean For Investors?

A significant share price dive has done very little to deflate HongboLtd's very lofty P/S. 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.

Our examination of HongboLtd revealed its poor three-year revenue trends aren't detracting from the P/S as much as we though, given they look worse than current industry expectations. 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 there is a significant improvement in the company's medium-term performance, it will be difficult to prevent the P/S ratio from declining to a more reasonable level.

Don't forget that there may be other risks. For instance, we've identified 2 warning signs for HongboLtd (1 makes us a bit uncomfortable) you should be aware of.

If these risks are making you reconsider your opinion on HongboLtd, 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.

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