Huayu Expressway Group Limited's (HKG:1823) 28% Share Price Surge Not Quite Adding Up

Huayu Expressway Group Limited (HKG:1823) shares have had a really impressive month, gaining 28% after a shaky period beforehand. The annual gain comes to 185% following the latest surge, making investors sit up and take notice.

After such a large jump in price, when almost half of the companies in Hong Kong's Construction industry have price-to-sales ratios (or "P/S") below 0.4x, you may consider Huayu Expressway Group as a stock not worth researching with its 3.2x P/S ratio. Although, it's not wise to just take the P/S at face value as there may be an explanation why it's so lofty.

AI is about to change healthcare. These 20 stocks are working on everything from early diagnostics to drug discovery. The best part - they are all under $10bn in marketcap - there is still time to get in early.

See our latest analysis for Huayu Expressway Group

What Does Huayu Expressway Group's P/S Mean For Shareholders?

For example, consider that Huayu Expressway Group's financial performance has been poor lately as its revenue has been in decline. 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. If not, then existing shareholders may be quite nervous about the viability of the share price.

Although there are no analyst estimates available for Huayu Expressway Group, take a look at this free data-rich visualisation to see how the company stacks up on earnings, revenue and cash flow.

Is There Enough Revenue Growth Forecasted For Huayu Expressway Group?

The only time you'd be truly comfortable seeing a P/S as steep as Huayu Expressway Group's is when the company's growth is on track to outshine the industry decidedly.

Retrospectively, the last year delivered a frustrating 44% decrease to the company's top line. The last three years don't look nice either as the company has shrunk revenue by 62% in aggregate. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.

In contrast to the company, the rest of the industry is expected to grow by 18% 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 Huayu Expressway Group 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. Only the boldest would assume these prices are sustainable as a continuation of recent revenue trends is likely to weigh heavily on the share price eventually.

What We Can Learn From Huayu Expressway Group's P/S?

The strong share price surge has lead to Huayu Expressway Group's P/S soaring as well. We'd say the price-to-sales ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

We've established that Huayu Expressway Group 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. If recent medium-term revenue trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

You need to take note of risks, for example - Huayu Expressway Group has 2 warning signs (and 1 which is a bit concerning) we think you should know about.

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).

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

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.