Cheetah Mobile Inc. (NYSE:CMCM) shareholders won't be pleased to see that the share price has had a very rough month, dropping 27% and undoing the prior period's positive performance. Of course, over the longer-term many would still wish they owned shares as the stock's price has soared 108% in the last twelve months.

After such a large drop in price, Cheetah Mobile's price-to-sales (or "P/S") ratio of 1.3x might make it look like a strong buy right now compared to the wider Software industry in the United States, where around half of the companies have P/S ratios above 5.3x and even P/S above 13x are quite common. Although, it's not wise to just take the P/S at face value as there may be an explanation why it's so limited.

How Cheetah Mobile Has Been Performing

As an illustration, revenue has deteriorated at Cheetah Mobile 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 Cheetah Mobile will be hoping that this isn't the case so that they can pick up the stock at a lower valuation.

What Are Revenue Growth Metrics Telling Us About The Low P/S?

There's an inherent assumption that a company should far underperform the industry for P/S ratios like Cheetah Mobile'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 3.7%. This means it has also seen a slide in revenue over the longer-term as revenue is down 15% in total over the last three years. 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 27% shows it's an unpleasant look.

With this information, we are not surprised that Cheetah Mobile is trading at a P/S lower than the industry. 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.

The Key Takeaway

Cheetah Mobile's P/S looks about as weak as its stock price lately. 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.

Our examination of Cheetah Mobile confirms that the company's shrinking revenue over the past medium-term is a key factor in its low price-to-sales ratio, given the industry is projected 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. Unless the recent medium-term conditions improve, they will continue to form a barrier for the share price around these levels.

You need to take note of risks, for example - Cheetah Mobile has 3 warning signs (and 1 which is significant) we think you should know about.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.