Shenzhen AOTO Electronics Co., Ltd.'s (SZSE:002587) Share Price Not Quite Adding Up

When close to half the companies in the Electronic industry in China have price-to-sales ratios (or "P/S") below 3.5x, you may consider Shenzhen AOTO Electronics Co., Ltd. (SZSE:002587) as a stock to potentially avoid with its 5x P/S ratio. However, the P/S might be high for a reason and it requires further investigation to determine if it's justified.

See our latest analysis for Shenzhen AOTO Electronics

How Shenzhen AOTO Electronics Has Been Performing

For example, consider that Shenzhen AOTO Electronics' financial performance has been poor lately as its revenue has been in decline. 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. 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 Shenzhen AOTO Electronics' earnings, revenue and cash flow.

Is There Enough Revenue Growth Forecasted For Shenzhen AOTO Electronics?

There's an inherent assumption that a company should outperform the industry for P/S ratios like Shenzhen AOTO Electronics' to be considered reasonable.

Retrospectively, the last year delivered a frustrating 27% decrease to the company's top line. The last three years don't look nice either as the company has shrunk revenue by 22% in aggregate. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.

Comparing that to the industry, which is predicted to deliver 26% 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 Shenzhen AOTO Electronics' P/S exceeds that of its industry peers. 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 Shenzhen AOTO Electronics' P/S Mean For Investors?

Typically, we'd caution against reading too much into price-to-sales ratios when settling on investment decisions, though it can reveal plenty about what other market participants think about the company.

We've established that Shenzhen AOTO Electronics currently trades on a much higher than expected P/S since its recent revenues have been in decline over the medium-term. 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. Unless the recent medium-term conditions improve markedly, investors will have a hard time accepting the share price as fair value.

Having said that, be aware Shenzhen AOTO Electronics is showing 4 warning signs in our investment analysis, and 1 of those can't be ignored.

If you're unsure about the strength of Shenzhen AOTO Electronics' business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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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.