Shenzhen Xunjiexing Technology Corp. Ltd. (SHSE:688655) shares have had a really impressive month, gaining 40% after a shaky period beforehand. Unfortunately, the gains of the last month did little to right the losses of the last year with the stock still down 15% over that time.

Even after such a large jump in price, you could still be forgiven for feeling indifferent about Shenzhen Xunjiexing Technology's P/S ratio of 3.4x, since the median price-to-sales (or "P/S") ratio for the Electronic industry in China is also close to 4x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/S.

How Shenzhen Xunjiexing Technology Has Been Performing

The revenue growth achieved at Shenzhen Xunjiexing Technology over the last year would be more than acceptable for most companies. One possibility is that the P/S is moderate because investors think this respectable revenue growth might not be enough to outperform the broader industry in the near future. Those who are bullish on Shenzhen Xunjiexing Technology will be hoping that this isn't the case, so that they can pick up the stock at a lower valuation.

Is There Some Revenue Growth Forecasted For Shenzhen Xunjiexing Technology?

There's an inherent assumption that a company should be matching the industry for P/S ratios like Shenzhen Xunjiexing Technology's to be considered reasonable.

Taking a look back first, we see that the company managed to grow revenues by a handy 8.2% last year. Ultimately though, it couldn't turn around the poor performance of the prior period, with revenue shrinking 11% in total over the last three years. Therefore, it's fair to say the revenue growth recently has been undesirable for the company.

In contrast to the company, the rest of the industry is expected to grow by 26% over the next year, which really puts the company's recent medium-term revenue decline into perspective.

With this in mind, we find it worrying that Shenzhen Xunjiexing Technology's P/S exceeds that of its industry peers. Apparently many investors in the company are way less bearish than recent times would indicate and aren't willing to let go of their stock right now. Only the boldest would assume these prices are sustainable as a continuation of recent revenue trends is likely to weigh on the share price eventually.

The Key Takeaway

Shenzhen Xunjiexing Technology's stock has a lot of momentum behind it lately, which has brought its P/S level with the rest of the industry. It's argued the price-to-sales ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

We find it unexpected that Shenzhen Xunjiexing Technology trades at a P/S ratio that is comparable to the rest of the industry, despite experiencing declining revenues during the medium-term, while the industry as a whole is expected to grow. Even though it matches the industry, we're uncomfortable with the current P/S ratio, as this dismal revenue performance is unlikely to support a more positive sentiment for long. 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 4 warning signs with Shenzhen Xunjiexing Technology (at least 2 which are significant), and understanding them should be part of your investment process.

Of course, profitable companies with a history of great earnings growth are generally safer bets. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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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.