The Harbin VITI Electronics Co., Ltd. (SHSE:603023) share price has softened a substantial 32% over the previous 30 days, handing back much of the gains the stock has made lately. Still, a bad month hasn't completely ruined the past year with the stock gaining 29%, which is great even in a bull market.

In spite of the heavy fall in price, you could still be forgiven for thinking Harbin VITI Electronics is a stock to steer clear of with a price-to-sales ratios (or "P/S") of 38.8x, considering almost half the companies in China's Auto Components industry have P/S ratios below 2.9x. 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 Harbin VITI Electronics

How Harbin VITI Electronics Has Been Performing

For example, consider that Harbin VITI Electronics' financial performance has been poor lately as its revenue has been in decline. One possibility is that the P/S is high because investors think the company will still do enough to outperform the broader industry in the near future. If not, then existing shareholders may be quite nervous about the viability of the share price.

Do Revenue Forecasts Match The High P/S Ratio?

There's an inherent assumption that a company should far outperform the industry for P/S ratios like Harbin VITI Electronics' to be considered reasonable.

Retrospectively, the last year delivered a frustrating 1.9% decrease to the company's top line. The last three years don't look nice either as the company has shrunk revenue by 20% in aggregate. Therefore, it's fair to say the revenue growth recently has been undesirable for the company.

In contrast to the company, the rest of the industry is expected to grow by 27% over the next year, which really puts the company's recent medium-term revenue decline into perspective.

With this in mind, we find it worrying that Harbin VITI Electronics' P/S exceeds that of its industry peers. 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.

The Key Takeaway

A significant share price dive has done very little to deflate Harbin VITI Electronics' very lofty P/S. 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.

We've established that Harbin VITI Electronics currently trades on a much higher than expected P/S since its recent revenues have been in decline over the medium-term. When we see revenue heading backwards and underperforming the industry forecasts, we feel the possibility of the share price declining is very real, bringing the P/S back into the realm of reasonability. 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 4 warning signs with Harbin VITI Electronics (at least 3 which are a bit concerning), and understanding them should be part of your investment process.

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.