Kunming Longjin Pharmaceutical Co., Ltd.'s (SZSE:002750) price-to-sales (or "P/S") ratio of 48.5x may look like a poor investment opportunity when you consider close to half the companies in the Pharmaceuticals industry in China have P/S ratios below 3.9x. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.

View our latest analysis for Kunming Longjin Pharmaceutical

How Has Kunming Longjin Pharmaceutical Performed Recently?

As an illustration, revenue has deteriorated at Kunming Longjin Pharmaceutical over the last year, which is not ideal at all. 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. If not, then existing shareholders may be quite nervous about the viability of the share price.

Is There Enough Revenue Growth Forecasted For Kunming Longjin Pharmaceutical?

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

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 57%. The last three years don't look nice either as the company has shrunk revenue by 64% 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 40% shows it's an unpleasant look.

With this in mind, we find it worrying that Kunming Longjin Pharmaceutical's 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. There's a very good chance existing shareholders are setting themselves up for future disappointment if the P/S falls to levels more in line with the recent negative growth rates.

The Bottom Line On Kunming Longjin Pharmaceutical's P/S

It's argued the price-to-sales ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

Our examination of Kunming Longjin Pharmaceutical 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.

Having said that, be aware Kunming Longjin Pharmaceutical is showing 2 warning signs in our investment analysis, and 1 of those is a bit unpleasant.

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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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.