Changchun Zhiyuan New Energy Equipment Co., Ltd (SZSE:300985) shareholders that were waiting for something to happen have been dealt a blow with a 25% share price drop in the last month. Looking back over the past twelve months the stock has been a solid performer regardless, with a gain of 21%.

In spite of the heavy fall in price, given close to half the companies operating in China's Machinery industry have price-to-sales ratios (or "P/S") below 2.6x, you may still consider Changchun Zhiyuan New Energy Equipment as a stock to potentially avoid with its 3.2x 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 as high as it is.

See our latest analysis for Changchun Zhiyuan New Energy Equipment

How Has Changchun Zhiyuan New Energy Equipment Performed Recently?

With revenue growth that's exceedingly strong of late, Changchun Zhiyuan New Energy Equipment has been doing very well. Perhaps the market is expecting future revenue performance to outperform the wider market, which has seemingly got people interested in the stock. However, if this isn't the case, investors might get caught out paying too much for the stock.

Do Revenue Forecasts Match The High P/S Ratio?

In order to justify its P/S ratio, Changchun Zhiyuan New Energy Equipment would need to produce impressive growth in excess of the industry.

Taking a look back first, we see that the company's revenues underwent some rampant growth over the last 12 months. Despite this strong recent growth, it's still struggling to catch up as its three-year revenue frustratingly shrank by 11% overall. 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 28% over the next year, which really puts the company's recent medium-term revenue decline into perspective.

In light of this, it's alarming that Changchun Zhiyuan New Energy Equipment's P/S sits above the majority of other companies. 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.

What Does Changchun Zhiyuan New Energy Equipment's P/S Mean For Investors?

Changchun Zhiyuan New Energy Equipment's P/S remain high even after its stock plunged. 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.

We've established that Changchun Zhiyuan New Energy Equipment 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. 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.

There are also other vital risk factors to consider before investing and we've discovered 1 warning sign for Changchun Zhiyuan New Energy Equipment that you should be aware of.

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.