Dongguan Mentech Optical & Magnetic Co., Ltd.'s (SZSE:002902) Shares Climb 98% But Its Business Is Yet to Catch Up

Dongguan Mentech Optical & Magnetic Co., Ltd. (SZSE:002902) shareholders would be excited to see that the share price has had a great month, posting a 98% gain and recovering from prior weakness. The last month tops off a massive increase of 120% in the last year.

Even after such a large jump in price, you could still be forgiven for feeling indifferent about Dongguan Mentech Optical & Magnetic's P/S ratio of 3.2x, since the median price-to-sales (or "P/S") ratio for the Electronic industry in China is also close to 3.9x. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/S.

See our latest analysis for Dongguan Mentech Optical & Magnetic

How Has Dongguan Mentech Optical & Magnetic Performed Recently?

Dongguan Mentech Optical & Magnetic hasn't been tracking well recently as its declining revenue compares poorly to other companies, which have seen some growth in their revenues on average. It might be that many expect the dour revenue performance to strengthen positively, which has kept the P/S from falling. You'd really hope so, otherwise you're paying a relatively elevated price for a company with this sort of growth profile.

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Do Revenue Forecasts Match The P/S Ratio?

There's an inherent assumption that a company should be matching the industry for P/S ratios like Dongguan Mentech Optical & Magnetic's to be considered reasonable.

Retrospectively, the last year delivered a frustrating 5.2% decrease to the company's top line. Still, the latest three year period has seen an excellent 39% overall rise in revenue, in spite of its unsatisfying short-term performance. So we can start by confirming that the company has generally done a very good job of growing revenue over that time, even though it had some hiccups along the way.

Turning to the outlook, the next year should generate growth of 4.1% as estimated by the one analyst watching the company. With the industry predicted to deliver 25% growth, the company is positioned for a weaker revenue result.

With this information, we find it interesting that Dongguan Mentech Optical & Magnetic is trading at a fairly similar P/S compared to the industry. It seems most investors are ignoring the fairly limited growth expectations and are willing to pay up for exposure to the stock. These shareholders may be setting themselves up for future disappointment if the P/S falls to levels more in line with the growth outlook.

What We Can Learn From Dongguan Mentech Optical & Magnetic's P/S?

Its shares have lifted substantially and now Dongguan Mentech Optical & Magnetic's P/S is back within range of the industry median. 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.

When you consider that Dongguan Mentech Optical & Magnetic's revenue growth estimates are fairly muted compared to the broader industry, it's easy to see why we consider it unexpected to be trading at its current P/S ratio. At present, we aren't confident in the P/S as the predicted future revenues aren't likely to support a more positive sentiment for long. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

Plus, you should also learn about this 1 warning sign we've spotted with Dongguan Mentech Optical & Magnetic.

If these risks are making you reconsider your opinion on Dongguan Mentech Optical & Magnetic, 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.