Shanghai Welltech Automation Co.,Ltd. (SZSE:002058) shares have had a horrible month, losing 27% after a relatively good period beforehand. The drop over the last 30 days has capped off a tough year for shareholders, with the share price down 27% in that time.

In spite of the heavy fall in price, you could still be forgiven for thinking Shanghai Welltech AutomationLtd is a stock to steer clear of with a price-to-sales ratios (or "P/S") of 9.7x, considering almost half the companies in China's Electronic industry have P/S ratios below 3.5x. 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 Shanghai Welltech AutomationLtd

What Does Shanghai Welltech AutomationLtd's P/S Mean For Shareholders?

For instance, Shanghai Welltech AutomationLtd's receding revenue in recent times would have to be some food for thought. 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.

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 Shanghai Welltech AutomationLtd's to be considered reasonable.

Retrospectively, the last year delivered a frustrating 21% decrease to the company's top line. Still, the latest three year period has seen an excellent 91% 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.

Comparing the recent medium-term revenue trends against the industry's one-year growth forecast of 60% shows it's noticeably less attractive.

With this information, we find it concerning that Shanghai Welltech AutomationLtd 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.

What Does Shanghai Welltech AutomationLtd's P/S Mean For Investors?

Even after such a strong price drop, Shanghai Welltech AutomationLtd's P/S still exceeds the industry median significantly. 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 Shanghai Welltech AutomationLtd 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 observe slower-than-industry revenue growth alongside a high P/S ratio, we assume there to be a significant risk of the share price decreasing, which would result in a lower P/S ratio. 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 is also worth noting that we have found 2 warning signs for Shanghai Welltech AutomationLtd that you need to take into consideration.

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

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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.