The Guangzhou Sanfu New Materials Technology Co.,Ltd (SHSE:688359) share price has fared very poorly over the last month, falling by a substantial 27%. The drop over the last 30 days has capped off a tough year for shareholders, with the share price down 47% in that time.

In spite of the heavy fall in price, given around half the companies in China's Chemicals industry have price-to-sales ratios (or "P/S") below 1.8x, you may still consider Guangzhou Sanfu New Materials TechnologyLtd as a stock to avoid entirely with its 5.4x 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 Guangzhou Sanfu New Materials TechnologyLtd's Recent Performance Look Like?

With revenue growth that's exceedingly strong of late, Guangzhou Sanfu New Materials TechnologyLtd has been doing very well. Perhaps the market is expecting future revenue performance to outperform the wider market, which has seemingly got people interested in the stock. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

How Is Guangzhou Sanfu New Materials TechnologyLtd's Revenue Growth Trending?

There's an inherent assumption that a company should far outperform the industry for P/S ratios like Guangzhou Sanfu New Materials TechnologyLtd's to be considered reasonable.

If we review the last year of revenue growth, the company posted a terrific increase of 65%. Pleasingly, revenue has also lifted 80% in aggregate from three years ago, thanks to the last 12 months of growth. So we can start by confirming that the company has done a great job of growing revenue over that time.

Weighing that recent medium-term revenue trajectory against the broader industry's one-year forecast for expansion of 24% shows it's about the same on an annualised basis.

With this information, we find it interesting that Guangzhou Sanfu New Materials TechnologyLtd is trading at a high P/S compared to the industry. Apparently many investors in the company are more bullish than recent times would indicate and aren't willing to let go of their stock right now. Nevertheless, they may be setting themselves up for future disappointment if the P/S falls to levels more in line with recent growth rates.

The Final Word

Guangzhou Sanfu New Materials TechnologyLtd's shares may have suffered, but its P/S remains high. 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 look into Guangzhou Sanfu New Materials TechnologyLtd has shown that it currently trades on a higher than expected P/S since its recent three-year growth is only in line with the wider industry forecast. Right now we are uncomfortable with the high P/S as this revenue performance isn't likely to support such positive sentiment for long. Unless there is a significant improvement in the company's medium-term trends, it will be difficult to prevent the P/S ratio from declining to a more reasonable level.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 1 warning sign with Guangzhou Sanfu New Materials TechnologyLtd, and understanding should be part of your investment process.

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.

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