Leon Technology Co., Ltd.'s (SZSE:300603) Shares Climb 49% But Its Business Is Yet to Catch Up

Despite an already strong run, Leon Technology Co., Ltd. (SZSE:300603) shares have been powering on, with a gain of 49% in the last thirty days. Unfortunately, despite the strong performance over the last month, the full year gain of 8.1% isn't as attractive.

After such a large jump in price, Leon Technology's price-to-sales (or "P/S") ratio of 7.4x might make it look like a strong sell right now compared to other companies in the IT industry in China, where around half of the companies have P/S ratios below 4.3x and even P/S below 2x are quite common. 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 Leon Technology

What Does Leon Technology's Recent Performance Look Like?

For example, consider that Leon Technology's financial performance has been pretty ordinary lately as revenue growth is non-existent. Perhaps the market believes that revenue growth will improve markedly over current levels, inflating the P/S ratio. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Want the full picture on earnings, revenue and cash flow for the company? Then our free report on Leon Technology will help you shine a light on its historical performance.

Is There Enough Revenue Growth Forecasted For Leon Technology?

In order to justify its P/S ratio, Leon Technology would need to produce outstanding growth that's well in excess of the industry.

If we review the last year of revenue, the company posted a result that saw barely any deviation from a year ago. This isn't what shareholders were looking for as it means they've been left with a 23% decline in revenue over the last three years in total. 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 20% over the next year, which really puts the company's recent medium-term revenue decline into perspective.

With this information, we find it concerning that Leon Technology is trading at a P/S higher than the industry. 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.

What Does Leon Technology's P/S Mean For Investors?

Shares in Leon Technology have seen a strong upwards swing lately, which has really helped boost its P/S figure. 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.

Our examination of Leon Technology 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. When we see revenue heading backwards and underperforming the industry forecasts, we feel the possibility of the share price declining is very real, bringing the P/S back into the realm of reasonability. 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.

Don't forget that there may be other risks. For instance, we've identified 1 warning sign for Leon Technology that you should be aware of.

It's important to make sure you look for a great company, not just the first idea you come across. So if growing profitability aligns with your idea of a great company, take a peek at this free list of interesting companies with strong recent earnings growth (and a low P/E).

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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.