Optimistic Investors Push Dongguan Huali Industries Co.,Ltd (SHSE:603038) Shares Up 36% But Growth Is Lacking

Simply Wall St · 10/14 22:32

Dongguan Huali Industries Co.,Ltd (SHSE:603038) shares have continued their recent momentum with a 36% gain in the last month alone. The last 30 days bring the annual gain to a very sharp 40%.

After such a large jump in price, when almost half of the companies in China's Consumer Durables industry have price-to-sales ratios (or "P/S") below 1.9x, you may consider Dongguan Huali IndustriesLtd as a stock probably not worth researching with its 3.3x P/S ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/S.

Check out our latest analysis for Dongguan Huali IndustriesLtd

ps-multiple-vs-industry
SHSE:603038 Price to Sales Ratio vs Industry October 14th 2024

How Has Dongguan Huali IndustriesLtd Performed Recently?

Revenue has risen firmly for Dongguan Huali IndustriesLtd recently, which is pleasing to see. Perhaps the market is expecting this decent revenue performance to beat out the industry over the near term, which has kept the P/S propped up. You'd really hope so, otherwise you're paying a pretty hefty price for no particular reason.

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

Do Revenue Forecasts Match The High P/S Ratio?

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

Retrospectively, the last year delivered a decent 9.1% gain to the company's revenues. However, this wasn't enough as the latest three year period has seen an unpleasant 29% overall drop in revenue. So unfortunately, we have to acknowledge that the company has not done a great job of growing revenue over that time.

In contrast to the company, the rest of the industry is expected to grow by 9.3% over the next year, which really puts the company's recent medium-term revenue decline into perspective.

In light of this, it's alarming that Dongguan Huali IndustriesLtd's P/S sits above the majority of other companies. 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.

The Final Word

Dongguan Huali IndustriesLtd's P/S is on the rise since its shares have risen strongly. 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.

We've established that Dongguan Huali IndustriesLtd currently trades on a much higher than expected P/S since its recent revenues have been in decline over the medium-term. With a revenue decline on investors' minds, the likelihood of a souring sentiment is quite high which could send the P/S back in line with what we'd expect. Should recent medium-term revenue trends persist, it would pose a significant risk to existing shareholders' investments and prospective investors will have a hard time accepting the current value of the stock.

It is also worth noting that we have found 3 warning signs for Dongguan Huali IndustriesLtd (1 makes us a bit uncomfortable!) that you need to take into consideration.

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).