Revenues Not Telling The Story For Guoguang Electric Co.,Ltd.Chengdu (SHSE:688776) After Shares Rise 26%

Guoguang Electric Co.,Ltd.Chengdu (SHSE:688776) shares have had a really impressive month, gaining 26% after a shaky period beforehand. Unfortunately, the gains of the last month did little to right the losses of the last year with the stock still down 13% over that time.

Following the firm bounce in price, when almost half of the companies in China's Electrical industry have price-to-sales ratios (or "P/S") below 2.6x, you may consider Guoguang ElectricLtd.Chengdu as a stock not worth researching with its 10.6x P/S ratio. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.

Check out our latest analysis for Guoguang ElectricLtd.Chengdu

How Has Guoguang ElectricLtd.Chengdu Performed Recently?

For example, consider that Guoguang ElectricLtd.Chengdu's financial performance has been poor lately as its revenue has been in decline. Perhaps the market believes the company can do enough to outperform the rest of the industry in the near future, which is keeping the P/S ratio high. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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 Guoguang ElectricLtd.Chengdu's earnings, revenue and cash flow.

Do Revenue Forecasts Match The High P/S Ratio?

Guoguang ElectricLtd.Chengdu's P/S ratio would be typical for a company that's expected to deliver very strong growth, and importantly, perform much better than the industry.

Taking a look back first, the company's revenue growth last year wasn't something to get excited about as it posted a disappointing decline of 20%. This has soured the latest three-year period, which nevertheless managed to deliver a decent 18% overall rise in revenue. Although it's been a bumpy ride, it's still fair to say the revenue growth recently has been mostly respectable for the company.

Comparing that to the industry, which is predicted to deliver 25% growth in the next 12 months, the company's momentum is weaker, based on recent medium-term annualised revenue results.

In light of this, it's alarming that Guoguang ElectricLtd.Chengdu's P/S sits above the majority of other companies. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. There's a good chance existing shareholders are setting themselves up for future disappointment if the P/S falls to levels more in line with recent growth rates.

The Final Word

The strong share price surge has lead to Guoguang ElectricLtd.Chengdu's P/S soaring as well. Generally, our preference is to limit the use of the price-to-sales ratio to establishing what the market thinks about the overall health of a company.

Our examination of Guoguang ElectricLtd.Chengdu 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. When we observe slower-than-industry revenue growth alongside a high P/S ratio, we assume there to be a significant risk of the share price decreasing, which would result in a lower P/S ratio. If recent medium-term revenue trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

Don't forget that there may be other risks. For instance, we've identified 3 warning signs for Guoguang ElectricLtd.Chengdu (1 is a bit unpleasant) you should be aware of.

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.