Guangzhou Haozhi Industrial Co.,Ltd.'s (SZSE:300503) 25% Price Boost Is Out Of Tune With Revenues

Guangzhou Haozhi Industrial Co.,Ltd. (SZSE:300503) shareholders are no doubt pleased to see that the share price has bounced 25% in the last month, although it is still struggling to make up recently lost ground. Looking back a bit further, it's encouraging to see the stock is up 61% in the last year.

After such a large jump in price, given around half the companies in China's Machinery industry have price-to-sales ratios (or "P/S") below 2.7x, you may consider Guangzhou Haozhi IndustrialLtd as a stock to avoid entirely with its 5x 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.

See our latest analysis for Guangzhou Haozhi IndustrialLtd

What Does Guangzhou Haozhi IndustrialLtd's P/S Mean For Shareholders?

Revenue has risen at a steady rate over the last year for Guangzhou Haozhi IndustrialLtd, which is generally not a bad outcome. One possibility is that the P/S ratio is high because investors think this good revenue growth will be enough to outperform the broader industry in the near future. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Want the full picture on earnings, revenue and cash flow for the company? Then our free report on Guangzhou Haozhi IndustrialLtd will help you shine a light on its historical performance.

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

There's an inherent assumption that a company should far outperform the industry for P/S ratios like Guangzhou Haozhi IndustrialLtd's to be considered reasonable.

Retrospectively, the last year delivered a decent 2.9% gain to the company's revenues. Revenue has also lifted 26% in aggregate from three years ago, partly thanks to the last 12 months of growth. Therefore, it's fair to say the revenue growth recently has been respectable for the company.

Comparing the recent medium-term revenue trends against the industry's one-year growth forecast of 28% shows it's noticeably less attractive.

In light of this, it's alarming that Guangzhou Haozhi IndustrialLtd's P/S sits above the majority of other companies. Apparently many investors in the company are way more bullish than recent times would indicate and aren't willing to let go of their stock at any price. 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.

What Does Guangzhou Haozhi IndustrialLtd's P/S Mean For Investors?

The strong share price surge has lead to Guangzhou Haozhi IndustrialLtd's P/S soaring as well. 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.

The fact that Guangzhou Haozhi IndustrialLtd currently trades on a higher P/S relative to the industry is an oddity, since its recent three-year growth is lower than the wider industry forecast. 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. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these the share price as being reasonable.

It is also worth noting that we have found 2 warning signs for Guangzhou Haozhi IndustrialLtd that you need to take into consideration.

If strong companies turning a profit tickle your fancy, then you'll want to check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).

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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.