Toyou Feiji Electronics Co., Ltd.'s (SZSE:300302) price-to-sales (or "P/S") ratio of 15.6x might make it look like a strong sell right now compared to the Software industry in China, where around half of the companies have P/S ratios below 6.1x and even P/S below 3x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/S.

Check out our latest analysis for Toyou Feiji Electronics

What Does Toyou Feiji Electronics' P/S Mean For Shareholders?

For example, consider that Toyou Feiji Electronics' financial performance has been poor lately as its revenue has been in decline. It might be that many expect the company to still outplay most other companies over the coming period, which has kept the P/S from collapsing. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

How Is Toyou Feiji Electronics' Revenue Growth Trending?

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

In reviewing the last year of financials, we were disheartened to see the company's revenues fell to the tune of 12%. Still, the latest three year period has seen an excellent 35% overall rise in revenue, in spite of its unsatisfying short-term performance. 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.

This is in contrast to the rest of the industry, which is expected to grow by 36% over the next year, materially higher than the company's recent medium-term annualised growth rates.

With this information, we find it concerning that Toyou Feiji Electronics is trading at a P/S higher than the industry. It seems most investors are ignoring the fairly limited recent growth rates 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 Bottom Line On Toyou Feiji Electronics' P/S

Using the price-to-sales ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

Our examination of Toyou Feiji Electronics 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. If recent medium-term revenue trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 2 warning signs with Toyou Feiji Electronics, and understanding these should be part of your investment process.

If strong companies turning a profit tickle your fancy, then you'll want to check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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.