Optimistic Investors Push United Faith Auto-Engineering Co.,Ltd. (SZSE:301112) Shares Up 31% But Growth Is Lacking

United Faith Auto-Engineering Co.,Ltd. (SZSE:301112) shareholders would be excited to see that the share price has had a great month, posting a 31% gain and recovering from prior weakness. The last 30 days bring the annual gain to a very sharp 33%.

Since its price has surged higher, you could be forgiven for thinking United Faith Auto-EngineeringLtd is a stock to steer clear of with a price-to-sales ratios (or "P/S") of 6.1x, considering almost half the companies in China's Machinery industry have P/S ratios below 3.4x. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/S.

Check out our latest analysis for United Faith Auto-EngineeringLtd

How United Faith Auto-EngineeringLtd Has Been Performing

The revenue growth achieved at United Faith Auto-EngineeringLtd over the last year would be more than acceptable for most companies. Perhaps the market is expecting this decent revenue performance to beat out the industry over the near term, which has kept the P/S propped up. If not, then existing shareholders may be a little nervous about the viability of the share price.

Although there are no analyst estimates available for United Faith Auto-EngineeringLtd, take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.

Do Revenue Forecasts Match The High P/S Ratio?

The only time you'd be truly comfortable seeing a P/S as steep as United Faith Auto-EngineeringLtd's is when the company's growth is on track to outshine the industry decidedly.

Retrospectively, the last year delivered a decent 10% gain to the company's revenues. Ultimately though, it couldn't turn around the poor performance of the prior period, with revenue shrinking 3.8% in total over the last three years. So unfortunately, we have to acknowledge that the company has not done a great job of growing revenue over that time.

Weighing that medium-term revenue trajectory against the broader industry's one-year forecast for expansion of 23% shows it's an unpleasant look.

With this information, we find it concerning that United Faith Auto-EngineeringLtd is trading at a P/S higher than the industry. 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. 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 Key Takeaway

The strong share price surge has lead to United Faith Auto-EngineeringLtd's P/S soaring as well. We'd say the price-to-sales ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

Our examination of United Faith Auto-EngineeringLtd 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. When we see revenue heading backwards and underperforming the industry forecasts, we feel the possibility of the share price declining is very real, bringing the P/S back into the realm of reasonability. Unless the recent medium-term conditions improve markedly, investors will have a hard time accepting the share price as fair value.

Having said that, be aware United Faith Auto-EngineeringLtd is showing 4 warning signs in our investment analysis, and 1 of those is a bit concerning.

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.