China Literature Limited's (HKG:772) Price Is Out Of Tune With Revenues

China Literature Limited's (HKG:772) price-to-sales (or "P/S") ratio of 4.7x may look like a poor investment opportunity when you consider close to half the companies in the Media industry in Hong Kong have P/S ratios below 1.2x. 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.

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View our latest analysis for China Literature

What Does China Literature's Recent Performance Look Like?

China Literature 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. Perhaps the market is expecting the poor revenue to reverse, justifying it's current high P/S.. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

Keen to find out how analysts think China Literature's future stacks up against the industry? In that case, our free report is a great place to start.

Do Revenue Forecasts Match The High P/S Ratio?

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

In reviewing the last year of financials, we were disheartened to see the company's revenues fell to the tune of 10%. As a result, revenue from three years ago have also fallen 15% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.

Shifting to the future, estimates from the analysts covering the company suggest revenue should grow by 8.4% per year over the next three years. With the industry predicted to deliver 6.6% growth per year, the company is positioned for a comparable revenue result.

With this in consideration, we find it intriguing that China Literature's P/S is higher than its industry peers. It seems most investors are ignoring the fairly average growth expectations and are willing to pay up for exposure to the stock. Although, additional gains will be difficult to achieve as this level of revenue growth is likely to weigh down the share price eventually.

The Final Word

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.

Analysts are forecasting China Literature's revenues to only grow on par with the rest of the industry, which has lead to the high P/S ratio being unexpected. Right now we are uncomfortable with the relatively high share price as the predicted future revenues aren't likely to support such positive sentiment for long. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

There are also other vital risk factors to consider before investing and we've discovered 2 warning signs for China Literature that you should be aware of.

Of course, profitable companies with a history of great earnings growth are generally safer bets. So you may wish to see this free collection of other companies that have reasonable P/E ratios and have grown earnings strongly.

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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.