Shenzhen Intelligent Precision Instrument Co., Ltd.'s (SZSE:301512) Share Price Could Signal Some Risk

When close to half the companies in the Machinery industry in China have price-to-sales ratios (or "P/S") below 3x, you may consider Shenzhen Intelligent Precision Instrument Co., Ltd. (SZSE:301512) as a stock to potentially avoid with its 3.6x P/S ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/S.

View our latest analysis for Shenzhen Intelligent Precision Instrument

What Does Shenzhen Intelligent Precision Instrument's P/S Mean For Shareholders?

As an illustration, revenue has deteriorated at Shenzhen Intelligent Precision Instrument over the last year, which is not ideal at all. 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.

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

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

There's an inherent assumption that a company should outperform the industry for P/S ratios like Shenzhen Intelligent Precision Instrument's to be considered reasonable.

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 6.4%. That put a dampener on the good run it was having over the longer-term as its three-year revenue growth is still a noteworthy 8.5% in total. Although it's been a bumpy ride, it's still fair to say the revenue growth recently has been mostly respectable for the company.

This is in contrast to the rest of the industry, which is expected to grow by 22% over the next year, materially higher than the company's recent medium-term annualised growth rates.

With this information, we find it concerning that Shenzhen Intelligent Precision Instrument is trading at a P/S higher than the industry. 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 Key Takeaway

Typically, we'd caution against reading too much into price-to-sales ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

The fact that Shenzhen Intelligent Precision Instrument 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 see slower than industry revenue growth but an elevated P/S, there's considerable risk of the share price declining, sending the P/S lower. Unless there is a significant improvement in the company's medium-term performance, it will be difficult to prevent the P/S ratio from declining to a more reasonable level.

And what about other risks? Every company has them, and we've spotted 4 warning signs for Shenzhen Intelligent Precision Instrument (of which 3 can't be ignored!) you should know about.

If these risks are making you reconsider your opinion on Shenzhen Intelligent Precision Instrument, explore our interactive list of high quality stocks to get an idea of what else is out there.

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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.