Yinsheng Digifavor Company Limited (HKG:3773) shares have had a really impressive month, gaining 29% after a shaky period beforehand. The last month tops off a massive increase of 228% in the last year.

Following the firm bounce in price, given around half the companies in Hong Kong's Wireless Telecom industry have price-to-sales ratios (or "P/S") below 1x, you may consider Yinsheng Digifavor as a stock to avoid entirely with its 14.1x 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 so lofty.

How Yinsheng Digifavor Has Been Performing

For example, consider that Yinsheng Digifavor's 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. However, if this isn't the case, investors might get caught out paying too much for the stock.

What Are Revenue Growth Metrics Telling Us About The High P/S?

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

In reviewing the last year of financials, we were disheartened to see the company's revenues fell to the tune of 5.9%. That put a dampener on the good run it was having over the longer-term as its three-year revenue growth is still a noteworthy 19% in total. So we can start by confirming that the company has generally done a good job of growing revenue over that time, even though it had some hiccups along the way.

It's interesting to note that the rest of the industry is similarly expected to grow by 7.2% over the next year, which is fairly even with the company's recent medium-term annualised growth rates.

With this information, we find it interesting that Yinsheng Digifavor is trading at a high P/S compared to the industry. It seems most investors are ignoring the fairly average recent growth rates and are willing to pay up for exposure to the stock. Although, additional gains will be difficult to achieve as a continuation of recent revenue trends would weigh down the share price eventually.

The Key Takeaway

Yinsheng Digifavor's P/S has grown nicely over the last month thanks to a handy boost in the share price. 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.

Our examination of Yinsheng Digifavor revealed its three-year revenue trends aren't impacting its high P/S as much as we would have predicted, given they look similar to current industry expectations. Right now we are uncomfortable with the high P/S as this revenue performance isn't likely to support such positive sentiment for long. Unless there is a significant improvement in the company's medium-term trends, it will be difficult to prevent the P/S ratio from declining to a more reasonable level.

Don't forget that there may be other risks. For instance, we've identified 2 warning signs for Yinsheng Digifavor (1 is a bit unpleasant) you should be aware of.

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

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.