Zhe Jiang Headman Machinery Co.,Ltd.'s (SHSE:688577) 29% Share Price Surge Not Quite Adding Up

Zhe Jiang Headman Machinery Co.,Ltd. (SHSE:688577) shares have had a really impressive month, gaining 29% after a shaky period beforehand. The last 30 days bring the annual gain to a very sharp 27%.

After such a large jump in price, you could be forgiven for thinking Zhe Jiang Headman MachineryLtd is a stock not worth researching with a price-to-sales ratios (or "P/S") of 4x, considering almost half the companies in China's Machinery industry have P/S ratios below 2.5x. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/S.

Check out our latest analysis for Zhe Jiang Headman MachineryLtd

What Does Zhe Jiang Headman MachineryLtd's Recent Performance Look Like?

The revenue growth achieved at Zhe Jiang Headman MachineryLtd over the last year would be more than acceptable for most companies. It might be that many expect the respectable revenue performance to beat most other companies over the coming period, which has increased investors’ willingness to pay up for the stock. If not, then existing shareholders may be a little nervous about the viability of the share price.

We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on Zhe Jiang Headman MachineryLtd's earnings, revenue and cash flow.

Do Revenue Forecasts Match The High P/S Ratio?

Zhe Jiang Headman MachineryLtd's P/S ratio would be typical for a company that's expected to deliver solid growth, and importantly, perform better than the industry.

If we review the last year of revenue growth, the company posted a worthy increase of 11%. Pleasingly, revenue has also lifted 52% in aggregate from three years ago, partly thanks to the last 12 months of growth. Accordingly, shareholders would have definitely welcomed those medium-term rates of revenue growth.

This is in contrast to the rest of the industry, which is expected to grow by 23% over the next year, materially higher than the company's recent medium-term annualised growth rates.

With this in mind, we find it worrying that Zhe Jiang Headman MachineryLtd's P/S exceeds that of its industry peers. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. Only the boldest would assume these prices are sustainable as a continuation of recent revenue trends is likely to weigh heavily on the share price eventually.

The Final Word

Zhe Jiang Headman MachineryLtd's P/S is on the rise since its shares have risen strongly. 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 Zhe Jiang Headman MachineryLtd revealed its poor three-year revenue trends aren't detracting from the P/S as much as we though, given they look worse than current industry expectations. Right now we aren't comfortable with the high P/S as this revenue performance isn't likely to support such positive sentiment for long. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these the share price as being reasonable.

Plus, you should also learn about these 5 warning signs we've spotted with Zhe Jiang Headman MachineryLtd (including 2 which make us uncomfortable).

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.