There's Reason For Concern Over Shanghai DragonNet Technology Co.,Ltd.'s (SZSE:300245) Massive 50% Price Jump

Shanghai DragonNet Technology Co.,Ltd. (SZSE:300245) shareholders would be excited to see that the share price has had a great month, posting a 50% gain and recovering from prior weakness. Unfortunately, the gains of the last month did little to right the losses of the last year with the stock still down 16% over that time.

Following the firm bounce in price, you could be forgiven for thinking Shanghai DragonNet TechnologyLtd is a stock to steer clear of with a price-to-sales ratios (or "P/S") of 5.9x, considering almost half the companies in China's IT industry have P/S ratios below 3.2x. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/S.

See our latest analysis for Shanghai DragonNet TechnologyLtd

What Does Shanghai DragonNet TechnologyLtd's P/S Mean For Shareholders?

For instance, Shanghai DragonNet TechnologyLtd's receding revenue in recent times would have to be some food for thought. It might be that many expect the company to still outplay most other companies over the coming period, which has kept the P/S from collapsing. If not, then existing shareholders may be quite nervous about the viability of the share price.

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 Shanghai DragonNet TechnologyLtd's earnings, revenue and cash flow.

Is There Enough Revenue Growth Forecasted For Shanghai DragonNet TechnologyLtd?

Shanghai DragonNet TechnologyLtd'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 37%. This means it has also seen a slide in revenue over the longer-term as revenue is down 23% in total over the last three years. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.

Comparing that to the industry, which is predicted to deliver 28% 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 Shanghai DragonNet TechnologyLtd'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 Final Word

The strong share price surge has lead to Shanghai DragonNet TechnologyLtd's P/S soaring as well. 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.

Our examination of Shanghai DragonNet TechnologyLtd 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. 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. Unless the the circumstances surrounding the recent medium-term improve, it wouldn't be wrong to expect a a difficult period ahead for the company's shareholders.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 2 warning signs with Shanghai DragonNet TechnologyLtd, and understanding these should be part of your investment process.

If these risks are making you reconsider your opinion on Shanghai DragonNet TechnologyLtd, 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com