Despite an already strong run, Shenzhen Cheng Chung Design Co., Ltd. (SZSE:002811) shares have been powering on, with a gain of 28% in the last thirty days. Notwithstanding the latest gain, the annual share price return of 7.1% isn't as impressive.

After such a large jump in price, when almost half of the companies in China's Construction industry have price-to-sales ratios (or "P/S") below 1.3x, you may consider Shenzhen Cheng Chung Design as a stock probably not worth researching with its 2.4x P/S ratio. However, the P/S might be high for a reason and it requires further investigation to determine if it's justified.

How Has Shenzhen Cheng Chung Design Performed Recently?

For instance, Shenzhen Cheng Chung Design's receding revenue in recent times would have to be some food for thought. 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.

Do Revenue Forecasts Match The High P/S Ratio?

In order to justify its P/S ratio, Shenzhen Cheng Chung Design would need to produce impressive growth in excess of the industry.

In reviewing the last year of financials, we were disheartened to see the company's revenues fell to the tune of 4.8%. As a result, revenue from three years ago have also fallen 46% 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 14% 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 alarming that Shenzhen Cheng Chung Design'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.

What We Can Learn From Shenzhen Cheng Chung Design's P/S?

Shenzhen Cheng Chung Design shares have taken a big step in a northerly direction, but its P/S is elevated as a result. 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.

Our examination of Shenzhen Cheng Chung Design revealed its shrinking revenue over the medium-term isn't resulting in a P/S as low as we expected, given the industry is set to grow. With a revenue decline on investors' minds, the likelihood of a souring sentiment is quite high which could send the P/S back in line with what we'd expect. Should recent medium-term revenue trends persist, it would pose a significant risk to existing shareholders' investments and prospective investors will have a hard time accepting the current value of the stock.

There are also other vital risk factors to consider and we've discovered 3 warning signs for Shenzhen Cheng Chung Design (1 makes us a bit uncomfortable!) that you should be aware of before investing here.

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.