The Dalian Zhiyun Automation Co., Ltd. (SZSE:300097) share price has softened a substantial 27% over the previous 30 days, handing back much of the gains the stock has made lately. Looking at the bigger picture, even after this poor month the stock is up 57% in the last year.

Although its price has dipped substantially, given around half the companies in China's Machinery industry have price-to-sales ratios (or "P/S") below 3.1x, you may still consider Dalian Zhiyun Automation as a stock to avoid entirely with its 5.2x 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.

See our latest analysis for Dalian Zhiyun Automation

How Has Dalian Zhiyun Automation Performed Recently?

For instance, Dalian Zhiyun Automation's receding revenue in recent times would have to be some food for thought. Perhaps the market believes the company can do enough to outperform the rest of the industry in the near future, which is keeping the P/S ratio high. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

How Is Dalian Zhiyun Automation's Revenue Growth Trending?

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

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 16%. This means it has also seen a slide in revenue over the longer-term as revenue is down 39% in total over the last three years. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.

Weighing that medium-term revenue trajectory against the broader industry's one-year forecast for expansion of 31% shows it's an unpleasant look.

With this information, we find it concerning that Dalian Zhiyun Automation is trading at a P/S higher than 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 heavily on the share price eventually.

The Key Takeaway

Even after such a strong price drop, Dalian Zhiyun Automation's P/S still exceeds the industry median significantly. 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 Dalian Zhiyun Automation revealed its shrinking revenue over the medium-term isn't resulting in a P/S as low as we expected, given the industry is set to grow. Right now we aren't comfortable with the high P/S as this revenue performance is highly unlikely to support such positive sentiment for long. Should recent medium-term revenue trends persist, it would pose a significant risk to existing shareholders' investments and prospective investors will have a hard time accepting the current value of the stock.

Don't forget that there may be other risks. For instance, we've identified 2 warning signs for Dalian Zhiyun Automation that you should be aware of.

If you're unsure about the strength of Dalian Zhiyun Automation's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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