China Digital Video Holdings Limited's (HKG:8280) Shares Bounce 26% But Its Business Still Trails The Industry

China Digital Video Holdings Limited (HKG:8280) shareholders would be excited to see that the share price has had a great month, posting a 26% gain and recovering from prior weakness. Unfortunately, the gains of the last month did little to right the losses of the last year with the stock still down 15% over that time.

In spite of the firm bounce in price, China Digital Video Holdings' price-to-sales (or "P/S") ratio of 0.2x might still make it look like a buy right now compared to the Entertainment industry in Hong Kong, where around half of the companies have P/S ratios above 1.4x and even P/S above 4x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the reduced P/S.

View our latest analysis for China Digital Video Holdings

How China Digital Video Holdings Has Been Performing

For instance, China Digital Video Holdings' receding revenue in recent times would have to be some food for thought. It might be that many expect the disappointing revenue performance to continue or accelerate, which has repressed the P/S. Those who are bullish on China Digital Video Holdings will be hoping that this isn't the case so that they can pick up the stock at a lower valuation.

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

What Are Revenue Growth Metrics Telling Us About The Low P/S?

There's an inherent assumption that a company should underperform the industry for P/S ratios like China Digital Video Holdings' to be considered reasonable.

In reviewing the last year of financials, we were disheartened to see the company's revenues fell to the tune of 33%. As a result, revenue from three years ago have also fallen 57% overall. Therefore, it's fair to say the revenue growth recently has been undesirable for the company.

In contrast to the company, the rest of the industry is expected to grow by 12% over the next year, which really puts the company's recent medium-term revenue decline into perspective.

In light of this, it's understandable that China Digital Video Holdings' P/S would sit below the majority of other companies. However, we think shrinking revenues are unlikely to lead to a stable P/S over the longer term, which could set up shareholders for future disappointment. There's potential for the P/S to fall to even lower levels if the company doesn't improve its top-line growth.

The Key Takeaway

The latest share price surge wasn't enough to lift China Digital Video Holdings' P/S close to the industry median. 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.

As we suspected, our examination of China Digital Video Holdings revealed its shrinking revenue over the medium-term is contributing to its low P/S, given the industry is set to grow. Right now shareholders are accepting the low P/S as they concede future revenue probably won't provide any pleasant surprises either. If recent medium-term revenue trends continue, it's hard to see the share price moving strongly in either direction in the near future under these circumstances.

You always need to take note of risks, for example - China Digital Video Holdings has 3 warning signs we think 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.