Iwatsu Electric Co., Ltd. (TSE:6704) Stock Rockets 39% As Investors Are Less Pessimistic Than Expected

The Iwatsu Electric Co., Ltd. (TSE:6704) share price has done very well over the last month, posting an excellent gain of 39%. Taking a wider view, although not as strong as the last month, the full year gain of 16% is also fairly reasonable.

Although its price has surged higher, there still wouldn't be many who think Iwatsu Electric's price-to-sales (or "P/S") ratio of 0.7x is worth a mention when it essentially matches the median P/S in Japan's Communications industry. 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 Iwatsu Electric

What Does Iwatsu Electric's Recent Performance Look Like?

For example, consider that Iwatsu Electric's financial performance has been poor lately as its revenue has been in decline. Perhaps investors believe the recent revenue performance is enough to keep in line with the industry, which is keeping the P/S from dropping off. If you like the company, you'd at least be hoping this is the case so that you could potentially pick up some stock while it's not quite in favour.

Want the full picture on earnings, revenue and cash flow for the company? Then our free report on Iwatsu Electric will help you shine a light on its historical performance.

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 Iwatsu Electric's to be considered reasonable.

Taking a look back first, the company's revenue growth last year wasn't something to get excited about as it posted a disappointing decline of 7.0%. As a result, revenue from three years ago have also fallen 1.9% overall. So unfortunately, we have to acknowledge that the company has not done a great job of growing revenue over that time.

Comparing that to the industry, which is predicted to deliver 43% growth in the next 12 months, the company's downward momentum based on recent medium-term revenue results is a sobering picture.

With this information, we find it concerning that Iwatsu Electric is trading at a fairly similar P/S compared to 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. There's a good chance existing shareholders are setting themselves up for future disappointment if the P/S falls to levels more in line with the recent negative growth rates.

What We Can Learn From Iwatsu Electric's P/S?

Iwatsu Electric's stock has a lot of momentum behind it lately, which has brought its P/S level with the rest of the industry. It's argued the price-to-sales ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

Our look at Iwatsu Electric revealed its shrinking revenues over the medium-term haven't impacted the P/S as much as we anticipated, given the industry is set to grow. Even though it matches the industry, we're uncomfortable with the current P/S ratio, as this dismal revenue performance is unlikely to support a more positive sentiment for long. If recent medium-term revenue trends continue, it will place shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 6 warning signs with Iwatsu Electric (at least 3 which are potentially serious), and understanding them should be part of your investment process.

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.