Zhejiang Wecome Pharmaceutical Company Limited (SZSE:300878) shareholders have had their patience rewarded with a 39% share price jump in the last month. Not all shareholders will be feeling jubilant, since the share price is still down a very disappointing 16% in the last twelve months.

After such a large jump in price, given around half the companies in China's Pharmaceuticals industry have price-to-sales ratios (or "P/S") below 3.5x, you may consider Zhejiang Wecome Pharmaceutical as a stock to avoid entirely with its 5.6x P/S ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/S.

What Does Zhejiang Wecome Pharmaceutical's P/S Mean For Shareholders?

As an illustration, revenue has deteriorated at Zhejiang Wecome Pharmaceutical over the last year, which is not ideal at all. It might be that many expect the company to still outplay most other companies over the coming period, which has kept the P/S from collapsing. If not, then existing shareholders may be quite nervous about the viability of the share price.

Is There Enough Revenue Growth Forecasted For Zhejiang Wecome Pharmaceutical?

In order to justify its P/S ratio, Zhejiang Wecome Pharmaceutical would need to produce outstanding growth that's well in excess of the industry.

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 9.6%. As a result, revenue from three years ago have also fallen 23% overall. Therefore, it's fair to say the revenue growth recently has been undesirable for the company.

Comparing that to the industry, which is predicted to deliver 141% growth in the next 12 months, the company's downward momentum based on recent medium-term revenue results is a sobering picture.

With this in mind, we find it worrying that Zhejiang Wecome Pharmaceutical's P/S exceeds that of its industry peers. 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 Bottom Line On Zhejiang Wecome Pharmaceutical's P/S

Shares in Zhejiang Wecome Pharmaceutical have seen a strong upwards swing lately, which has really helped boost its P/S figure. 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 Zhejiang Wecome Pharmaceutical currently trades on a much higher than expected P/S since its recent revenues have been in decline over the medium-term. Right now we aren't comfortable with the high P/S as this revenue performance is highly unlikely to support such positive sentiment for long. 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's always necessary to consider the ever-present spectre of investment risk. We've identified 3 warning signs with Zhejiang Wecome Pharmaceutical (at least 2 which are significant), and understanding them should be part of your investment process.

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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