Unfortunately for some shareholders, the Dongguan Huali Industries Co.,Ltd (SHSE:603038) share price has dived 26% in the last thirty days, prolonging recent pain. Still, a bad month hasn't completely ruined the past year with the stock gaining 33%, which is great even in a bull market.

Although its price has dipped substantially, when almost half of the companies in China's Consumer Durables industry have price-to-sales ratios (or "P/S") below 1.9x, you may still consider Dongguan Huali IndustriesLtd as a stock probably not worth researching with its 2.7x 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.

What Does Dongguan Huali IndustriesLtd's P/S Mean For Shareholders?

Dongguan Huali IndustriesLtd 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.

How Is Dongguan Huali IndustriesLtd's Revenue Growth Trending?

The only time you'd be truly comfortable seeing a P/S as high as Dongguan Huali IndustriesLtd's is when the company's growth is on track to outshine the industry.

If we review the last year of revenue growth, the company posted a worthy increase of 2.6%. Still, lamentably revenue has fallen 8.4% in aggregate from three years ago, which is disappointing. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.

In contrast to the company, the rest of the industry is expected to grow by 12% 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 Dongguan Huali IndustriesLtd's P/S sits above the majority of other companies. 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 Key Takeaway

Despite the recent share price weakness, Dongguan Huali IndustriesLtd's P/S remains higher than most other companies in the industry. 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 Dongguan Huali IndustriesLtd 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. 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 3 warning signs for Dongguan Huali IndustriesLtd (1 is significant!) that you need to take into consideration.

If these risks are making you reconsider your opinion on Dongguan Huali IndustriesLtd, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.