Fujian Rongji Software Co., Ltd.'s (SZSE:002474) 27% Dip Still Leaving Some Shareholders Feeling Restless Over Its P/SRatio

Fujian Rongji Software Co., Ltd. (SZSE:002474) shareholders won't be pleased to see that the share price has had a very rough month, dropping 27% and undoing the prior period's positive performance. The drop over the last 30 days has capped off a tough year for shareholders, with the share price down 49% in that time.

Even after such a large drop in price, you could still be forgiven for thinking Fujian Rongji Software is a stock to steer clear of with a price-to-sales ratios (or "P/S") of 7.7x, considering almost half the companies in China's IT industry have P/S ratios below 3.1x. 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 Fujian Rongji Software

How Fujian Rongji Software Has Been Performing

As an illustration, revenue has deteriorated at Fujian Rongji Software 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. However, if this isn't the case, investors might get caught out paying too much for the stock.

We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on Fujian Rongji Software's earnings, revenue and cash flow.

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

Fujian Rongji Software'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 44%. As a result, revenue from three years ago have also fallen 49% overall. So unfortunately, we have to acknowledge that the company has not done a great job of growing revenue over that time.

In contrast to the company, the rest of the industry is expected to grow by 34% over the next year, which really puts the company's recent medium-term revenue decline into perspective.

In light of this, it's alarming that Fujian Rongji Software'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 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

Fujian Rongji Software's shares may have suffered, but its P/S remains high. While the price-to-sales ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of revenue expectations.

We've established that Fujian Rongji Software currently trades on a much higher than expected P/S since its recent revenues have been in decline over the medium-term. Right now we aren't comfortable with the high P/S as this revenue performance is highly unlikely to support such positive sentiment for long. Should recent medium-term revenue trends persist, it would pose a significant risk to existing shareholders' investments and prospective investors will have a hard time accepting the current value of the stock.

And what about other risks? Every company has them, and we've spotted 2 warning signs for Fujian Rongji Software (of which 1 is significant!) you should know about.

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.