The Red phase INC. (SZSE:300427) share price has done very well over the last month, posting an excellent gain of 45%. Not all shareholders will be feeling jubilant, since the share price is still down a very disappointing 11% in the last twelve months.

In spite of the firm bounce in price, Red phase's price-to-sales (or "P/S") ratio of 2.7x might still make it look like a buy right now compared to the Electronic industry in China, where around half of the companies have P/S ratios above 4.5x and even P/S above 9x 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 Red phase Has Been Performing

For instance, Red phase's receding revenue in recent times would have to be some food for thought. One possibility is that the P/S is low because investors think the company won't do enough to avoid underperforming the broader industry in the near future. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's out of favour.

How Is Red phase's Revenue Growth Trending?

The only time you'd be truly comfortable seeing a P/S as low as Red phase's is when the company's growth is on track to lag the industry.

In reviewing the last year of financials, we were disheartened to see the company's revenues fell to the tune of 37%. As a result, revenue from three years ago have also fallen 36% overall. So unfortunately, we have to acknowledge that the company has not done a great job of growing revenue over that time.

Comparing that to the industry, which is predicted to deliver 26% growth in the next 12 months, the company's downward momentum based on recent medium-term revenue results is a sobering picture.

In light of this, it's understandable that Red phase's P/S would sit below the majority of other companies. Nonetheless, there's no guarantee the P/S has reached a floor yet with revenue going in reverse. Even just maintaining these prices could be difficult to achieve as recent revenue trends are already weighing down the shares.

What Does Red phase's P/S Mean For Investors?

Despite Red phase's share price climbing recently, its P/S still lags most other companies. 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.

As we suspected, our examination of Red phase revealed its shrinking revenue over the medium-term is contributing to its low P/S, given the industry is set to grow. At this stage investors feel the potential for an improvement in revenue isn't great enough to justify a higher P/S ratio. If recent medium-term revenue trends continue, it's hard to see the share price moving strongly in either direction in the near future under these circumstances.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 2 warning signs with Red phase (at least 1 which is a bit concerning), and understanding them should be part of your investment process.

It's important to make sure you look for a great company, not just the first idea you come across. So if growing profitability aligns with your idea of a great company, take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.