You may think that with a price-to-sales (or "P/S") ratio of 0.6x Daqo New Energy Corp. (NYSE:DQ) is definitely a stock worth checking out, seeing as almost half of all the Semiconductor companies in the United States have P/S ratios greater than 3.9x and even P/S above 11x aren't out of the ordinary. Although, it's not wise to just take the P/S at face value as there may be an explanation why it's so limited.

What Does Daqo New Energy's P/S Mean For Shareholders?

Daqo New Energy hasn't been tracking well recently as its declining revenue compares poorly to other companies, which have seen some growth in their revenues on average. Perhaps the P/S remains low as investors think the prospects of strong revenue growth aren't on the horizon. So while you could say the stock is cheap, investors will be looking for improvement before they see it as good value.

Do Revenue Forecasts Match The Low P/S Ratio?

Daqo New Energy's P/S ratio would be typical for a company that's expected to deliver very poor growth or even falling revenue, and importantly, perform much worse than the industry.

Taking a look back first, the company's revenue growth last year wasn't something to get excited about as it posted a disappointing decline of 50%. However, a few very strong years before that means that it was still able to grow revenue by an impressive 164% in total over the last three years. Although it's been a bumpy ride, it's still fair to say the revenue growth recently has been more than adequate for the company.

Turning to the outlook, the next year should bring diminished returns, with revenue decreasing 11% as estimated by the eight analysts watching the company. Meanwhile, the broader industry is forecast to expand by 42%, which paints a poor picture.

With this information, we are not surprised that Daqo New Energy is trading at a P/S lower than the industry. Nonetheless, there's no guarantee the P/S has reached a floor yet with revenue going in reverse. There's potential for the P/S to fall to even lower levels if the company doesn't improve its top-line growth.

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.

With revenue forecasts that are inferior to the rest of the industry, it's no surprise that Daqo New Energy's P/S is on the lower end of the spectrum. At this stage investors feel the potential for an improvement in revenue isn't great enough to justify a higher P/S ratio. Unless there's material change, it's hard to envision a situation where the stock price will rise drastically.

Before you take the next step, you should know about the 2 warning signs for Daqo New Energy that we have uncovered.

Of course, profitable companies with a history of great earnings growth are generally safer bets. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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