Despite an already strong run, Shanghai STEP Electric Corporation (SZSE:002527) shares have been powering on, with a gain of 27% in the last thirty days. Not all shareholders will be feeling jubilant, since the share price is still down a very disappointing 21% in the last twelve months.

Although its price has surged higher, Shanghai STEP Electric may still be sending bullish signals at the moment with its price-to-sales (or "P/S") ratio of 1.9x, since almost half of all companies in the Machinery industry in China have P/S ratios greater than 3.2x and even P/S higher than 6x are not unusual. However, the P/S might be low for a reason and it requires further investigation to determine if it's justified.

How Shanghai STEP Electric Has Been Performing

As an illustration, revenue has deteriorated at Shanghai STEP Electric over the last year, which is not ideal at all. 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. Those who are bullish on Shanghai STEP Electric 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 Shanghai STEP Electric?

There's an inherent assumption that a company should underperform the industry for P/S ratios like Shanghai STEP Electric's to be considered reasonable.

In reviewing the last year of financials, we were disheartened to see the company's revenues fell to the tune of 6.3%. The last three years don't look nice either as the company has shrunk revenue by 27% in aggregate. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.

Weighing that medium-term revenue trajectory against the broader industry's one-year forecast for expansion of 25% shows it's an unpleasant look.

In light of this, it's understandable that Shanghai STEP Electric'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. There's potential for the P/S to fall to even lower levels if the company doesn't improve its top-line growth.

The Bottom Line On Shanghai STEP Electric's P/S

Shanghai STEP Electric's stock price has surged recently, but its but its P/S still remains modest. We'd say the price-to-sales ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

As we suspected, our examination of Shanghai STEP Electric 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. 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.

Before you take the next step, you should know about the 1 warning sign for Shanghai STEP Electric that we have uncovered.

If you're unsure about the strength of Shanghai STEP Electric'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.