Qinghai Spring Medicinal Resources Technology Co., Ltd. (SHSE:600381) shares have had a really impressive month, gaining 30% after a shaky period beforehand. Still, the 30-day jump doesn't change the fact that longer term shareholders have seen their stock decimated by the 58% share price drop in the last twelve months.

Following the firm bounce in price, given around half the companies in China's Pharmaceuticals industry have price-to-sales ratios (or "P/S") below 3.8x, you may consider Qinghai Spring Medicinal Resources Technology as a stock to avoid entirely with its 7.8x P/S ratio. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.

How Has Qinghai Spring Medicinal Resources Technology Performed Recently?

Qinghai Spring Medicinal Resources Technology certainly has been doing a great job lately as it's been growing its revenue at a really rapid pace. It seems that many are expecting the strong revenue performance to beat most other companies over the coming period, which has increased investors' willingness to pay up for the stock. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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

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

Taking a look back first, we see that the company grew revenue by an impressive 31% last year. The strong recent performance means it was also able to grow revenue by 75% in total over the last three years. Therefore, it's fair to say the revenue growth recently has been superb for the company.

This is in contrast to the rest of the industry, which is expected to grow by 217% over the next year, materially higher than the company's recent medium-term annualised growth rates.

With this information, we find it concerning that Qinghai Spring Medicinal Resources Technology is trading at a P/S higher than the industry. 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. Only the boldest would assume these prices are sustainable as a continuation of recent revenue trends is likely to weigh heavily on the share price eventually.

What We Can Learn From Qinghai Spring Medicinal Resources Technology's P/S?

The strong share price surge has lead to Qinghai Spring Medicinal Resources Technology's P/S soaring as well. While the price-to-sales ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of revenue expectations.

Our examination of Qinghai Spring Medicinal Resources Technology 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 see slower than industry revenue growth but an elevated P/S, there's considerable risk of the share price declining, sending the P/S lower. 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 1 warning sign for Qinghai Spring Medicinal Resources Technology that you should be aware of.

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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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.