More Unpleasant Surprises Could Be In Store For Dalian Friendship (Group) Co., Ltd.'s (SZSE:000679) Shares After Tumbling 29%

Dalian Friendship (Group) Co., Ltd. (SZSE:000679) shareholders that were waiting for something to happen have been dealt a blow with a 29% share price drop in the last month. Instead of being rewarded, shareholders who have already held through the last twelve months are now sitting on a 28% share price drop.

In spite of the heavy fall in price, you could still be forgiven for thinking Dalian Friendship (Group) is a stock to steer clear of with a price-to-sales ratios (or "P/S") of 9x, considering almost half the companies in China's Multiline Retail industry have P/S ratios below 1.7x. 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 Dalian Friendship (Group)

What Does Dalian Friendship (Group)'s Recent Performance Look Like?

For example, consider that Dalian Friendship (Group)'s financial performance has been pretty ordinary lately as revenue growth is non-existent. It might be that many are expecting an improvement to the uninspiring revenue performance over the coming period, which has kept the P/S from collapsing. 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 Dalian Friendship (Group), take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.

How Is Dalian Friendship (Group)'s Revenue Growth Trending?

There's an inherent assumption that a company should far outperform the industry for P/S ratios like Dalian Friendship (Group)'s to be considered reasonable.

Taking a look back first, we see that there was hardly any revenue growth to speak of for the company over the past year. Whilst it's an improvement, it wasn't enough to get the company out of the hole it was in, with revenue down 49% overall from three years ago. Therefore, it's fair to say the revenue growth recently has been undesirable for the company.

Comparing that to the industry, which is predicted to deliver 24% growth in the next 12 months, the company's downward momentum based on recent medium-term revenue results is a sobering picture.

With this in mind, we find it worrying that Dalian Friendship (Group)'s P/S exceeds that of its industry peers. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. There's a very good chance existing shareholders are setting themselves up for future disappointment if the P/S falls to levels more in line with the recent negative growth rates.

The Key Takeaway

Even after such a strong price drop, Dalian Friendship (Group)'s P/S still exceeds the industry median significantly. 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.

We've established that Dalian Friendship (Group) currently trades on a much higher than expected P/S since its recent revenues have been in decline over the medium-term. With a revenue decline on investors' minds, the likelihood of a souring sentiment is quite high which could send the P/S back in line with what we'd expect. 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.

We don't want to rain on the parade too much, but we did also find 1 warning sign for Dalian Friendship (Group) that you need to be mindful of.

If these risks are making you reconsider your opinion on Dalian Friendship (Group), 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.