More Unpleasant Surprises Could Be In Store For China Hongbao Holdings Limited's (HKG:8316) Shares After Tumbling 60%

Unfortunately for some shareholders, the China Hongbao Holdings Limited (HKG:8316) share price has dived 60% in the last thirty days, prolonging recent pain. The drop over the last 30 days has capped off a tough year for shareholders, with the share price down 47% in that time.

Even after such a large drop in price, you could still be forgiven for thinking China Hongbao Holdings is a stock not worth researching with a price-to-sales ratios (or "P/S") of 2x, considering almost half the companies in Hong Kong's Construction industry have P/S ratios below 0.3x. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/S.

See our latest analysis for China Hongbao Holdings

How China Hongbao Holdings Has Been Performing

With revenue growth that's exceedingly strong of late, China Hongbao Holdings has been doing very well. It seems that many are expecting the strong revenue performance to beat most other companies over the coming period, which has increased investors’ willingness to pay up for the stock. 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 China Hongbao Holdings' earnings, revenue and cash flow.

Do Revenue Forecasts Match The High P/S Ratio?

The only time you'd be truly comfortable seeing a P/S as high as China Hongbao Holdings' is when the company's growth is on track to outshine the industry.

Retrospectively, the last year delivered an exceptional 33% gain to the company's top line. However, this wasn't enough as the latest three year period has seen the company endure a nasty 5.5% drop in revenue 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 13% 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 China Hongbao Holdings is trading at a P/S higher than the industry. It seems most investors are ignoring the recent poor growth rate and are hoping for a turnaround in the company's business prospects. 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 China Hongbao Holdings' P/S?

China Hongbao Holdings' P/S remain high even after its stock plunged. Using the price-to-sales ratio alone to determine if you should sell your stock isn't sensible, however it can be a practical guide to the company's future prospects.

Our examination of China Hongbao Holdings 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. 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.

Having said that, be aware China Hongbao Holdings is showing 7 warning signs in our investment analysis, and 4 of those are significant.

If companies with solid past earnings growth is up your alley, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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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.