Guangdong DP Co.,Ltd. (SZSE:300808) shareholders would be excited to see that the share price has had a great month, posting a 29% gain and recovering from prior weakness. Looking back a bit further, it's encouraging to see the stock is up 45% in the last year.

Since its price has surged higher, when almost half of the companies in China's Electrical industry have price-to-sales ratios (or "P/S") below 2.1x, you may consider Guangdong DPLtd as a stock not worth researching with its 7.5x 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.

What Does Guangdong DPLtd's P/S Mean For Shareholders?

For instance, Guangdong DPLtd's receding revenue in recent times would have to be some food for thought. 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. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Do Revenue Forecasts Match The High P/S Ratio?

The only time you'd be truly comfortable seeing a P/S as steep as Guangdong DPLtd's is when the company's growth is on track to outshine the industry decidedly.

Retrospectively, the last year delivered a frustrating 11% decrease to the company's top line. As a result, revenue from three years ago have also fallen 40% overall. So unfortunately, we have to acknowledge that the company has not done a great job of growing revenue over that time.

Weighing that medium-term revenue trajectory against the broader industry's one-year forecast for expansion of 23% shows it's an unpleasant look.

In light of this, it's alarming that Guangdong DPLtd's P/S sits above the majority of other companies. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. 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 Final Word

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

We've established that Guangdong DPLtd 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. Unless the recent medium-term conditions improve markedly, investors will have a hard time accepting the share price as fair value.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 3 warning signs with Guangdong DPLtd (at least 1 which is significant), and understanding these should be part of your investment process.

If you're unsure about the strength of Guangdong DPLtd'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.