Revenues Not Telling The Story For Zhejiang Renzhi Co., Ltd. (SZSE:002629) After Shares Rise 26%

Despite an already strong run, Zhejiang Renzhi Co., Ltd. (SZSE:002629) shares have been powering on, with a gain of 26% in the last thirty days. Unfortunately, the gains of the last month did little to right the losses of the last year with the stock still down 17% over that time.

After such a large jump in price, when almost half of the companies in China's Energy Services industry have price-to-sales ratios (or "P/S") below 2.7x, you may consider Zhejiang Renzhi as a stock not worth researching with its 7.8x 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 Zhejiang Renzhi

What Does Zhejiang Renzhi's P/S Mean For Shareholders?

For example, consider that Zhejiang Renzhi's financial performance has been poor lately as its revenue has been in decline. One possibility is that the P/S is high because investors think the company will still do 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.

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

Is There Enough Revenue Growth Forecasted For Zhejiang Renzhi?

Zhejiang Renzhi'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.

In reviewing the last year of financials, we were disheartened to see the company's revenues fell to the tune of 5.8%. Regardless, revenue has managed to lift by a handy 26% in aggregate from three years ago, thanks to the earlier period of growth. 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 14% 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 Zhejiang Renzhi'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 Key Takeaway

Zhejiang Renzhi's P/S has grown nicely over the last month thanks to a handy boost in the share price. 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.

The fact that Zhejiang Renzhi 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.

You should always think about risks. Case in point, we've spotted 2 warning signs for Zhejiang Renzhi you should be aware of, and 1 of them is a bit concerning.

Of course, profitable companies with a history of great earnings growth are generally safer bets. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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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.