The SEP Analytical (Shanghai) Co., Ltd. (SZSE:301228) share price has fared very poorly over the last month, falling by a substantial 28%. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 25% share price drop.

Even after such a large drop in price, you could still be forgiven for thinking SEP Analytical (Shanghai) is a stock not worth researching with a price-to-sales ratios (or "P/S") of 3.8x, considering almost half the companies in China's Professional Services industry have P/S ratios below 2.8x. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/S.

How SEP Analytical (Shanghai) Has Been Performing

SEP Analytical (Shanghai) has been doing a decent job lately as it's been growing revenue at a reasonable pace. Perhaps the market believes the recent revenue performance is strong enough to outperform the industry, which has inflated the P/S ratio. 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?

The only time you'd be truly comfortable seeing a P/S as high as SEP Analytical (Shanghai)'s is when the company's growth is on track to outshine the industry.

Taking a look back first, we see that the company managed to grow revenues by a handy 5.5% last year. The latest three year period has also seen a 8.6% overall rise in revenue, aided somewhat by its short-term performance. Therefore, it's fair to say the revenue growth recently has been respectable for the company.

This is in contrast to the rest of the industry, which is expected to grow by 22% over the next year, materially higher than the company's recent medium-term annualised growth rates.

In light of this, it's alarming that SEP Analytical (Shanghai)'s P/S sits above the majority of other companies. 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 We Can Learn From SEP Analytical (Shanghai)'s P/S?

There's still some elevation in SEP Analytical (Shanghai)'s P/S, even if the same can't be said for its share price recently. Typically, we'd caution against reading too much into price-to-sales ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

Our examination of SEP Analytical (Shanghai) 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. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these the share price as being reasonable.

Plus, you should also learn about this 1 warning sign we've spotted with SEP Analytical (Shanghai).

If you're unsure about the strength of SEP Analytical (Shanghai)'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.