There wouldn't be many who think Hainan Haiyao Co., Ltd.'s (SZSE:000566) price-to-sales (or "P/S") ratio of 3.3x is worth a mention when the median P/S for the Pharmaceuticals industry in China is similar at about 3.1x. While this might not raise any eyebrows, if the P/S ratio is not justified investors could be missing out on a potential opportunity or ignoring looming disappointment.

What Does Hainan Haiyao's P/S Mean For Shareholders?

For instance, Hainan Haiyao's receding revenue in recent times would have to be some food for thought. One possibility is that the P/S is moderate because investors think the company might still do enough to be in line with the broader industry in the near future. If you like the company, you'd at least be hoping this is the case so that you could potentially pick up some stock while it's not quite in favour.

What Are Revenue Growth Metrics Telling Us About The P/S?

Hainan Haiyao's P/S ratio would be typical for a company that's only expected to deliver moderate growth, and importantly, perform in line with the industry.

Retrospectively, the last year delivered a frustrating 22% decrease to the company's top line. The last three years don't look nice either as the company has shrunk revenue by 40% in aggregate. So unfortunately, we have to acknowledge that the company has not done a great job of growing revenue over that time.

Weighing that medium-term revenue trajectory against the broader industry's one-year forecast for expansion of 17% shows it's an unpleasant look.

With this information, we find it concerning that Hainan Haiyao is trading at a fairly similar P/S compared to the industry. 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 on the share price eventually.

The Key Takeaway

Typically, we'd caution against reading too much into price-to-sales ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

Our look at Hainan Haiyao revealed its shrinking revenues over the medium-term haven't impacted the P/S as much as we anticipated, given the industry is set to grow. Even though it matches the industry, we're uncomfortable with the current P/S ratio, as this dismal revenue performance is unlikely to support a more positive sentiment for long. Unless the the circumstances surrounding the recent medium-term improve, it wouldn't be wrong to expect a a difficult period ahead for the company's shareholders.

You should always think about risks. Case in point, we've spotted 1 warning sign for Hainan Haiyao you should be aware of.

If companies with solid past earnings growth is up your alley, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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