Jiangxi Hongdu Aviation Industry Co., Ltd.'s (SHSE:600316) price-to-sales (or "P/S") ratio of 3.3x might make it look like a buy right now compared to the Aerospace & Defense industry in China, where around half of the companies have P/S ratios above 6.6x and even P/S above 11x are quite common. However, the P/S might be low for a reason and it requires further investigation to determine if it's justified.

How Has Jiangxi Hongdu Aviation Industry Performed Recently?

For example, consider that Jiangxi Hongdu Aviation Industry's financial performance has been poor lately as its revenue has been in decline. It might be that many expect the disappointing revenue performance to continue or accelerate, which has repressed the P/S. Those who are bullish on Jiangxi Hongdu Aviation Industry will be hoping that this isn't the case so that they can pick up the stock at a lower valuation.

Is There Any Revenue Growth Forecasted For Jiangxi Hongdu Aviation Industry?

There's an inherent assumption that a company should underperform the industry for P/S ratios like Jiangxi Hongdu Aviation Industry's to be considered reasonable.

Taking a look back first, the company's revenue growth last year wasn't something to get excited about as it posted a disappointing decline of 42%. As a result, revenue from three years ago have also fallen 29% overall. 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 32% over the next year, which really puts the company's recent medium-term revenue decline into perspective.

With this in mind, we understand why Jiangxi Hongdu Aviation Industry's P/S is lower than most of its industry peers. However, we think shrinking revenues are unlikely to lead to a stable P/S over the longer term, which could set up shareholders for future disappointment. Even just maintaining these prices could be difficult to achieve as recent revenue trends are already weighing down the shares.

The Key Takeaway

Generally, our preference is to limit the use of the price-to-sales ratio to establishing what the market thinks about the overall health of a company.

As we suspected, our examination of Jiangxi Hongdu Aviation Industry revealed its shrinking revenue over the medium-term is contributing to its low P/S, given the industry is set to grow. Right now shareholders are accepting the low P/S as they concede future revenue probably won't provide any pleasant surprises either. Unless the recent medium-term conditions improve, they will continue to form a barrier for the share price around these levels.

Before you settle on your opinion, we've discovered 3 warning signs for Jiangxi Hongdu Aviation Industry (1 shouldn't be ignored!) 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.