There's Reason For Concern Over Design Capital Limited's (HKG:1545) Massive 75% Price Jump
Design Capital Limited (HKG:1545) shareholders have had their patience rewarded with a 75% share price jump in the last month. The annual gain comes to 107% following the latest surge, making investors sit up and take notice.
In spite of the firm bounce in price, it's still not a stretch to say that Design Capital's price-to-sales (or "P/S") ratio of 0.8x right now seems quite "middle-of-the-road" compared to the Trade Distributors industry in Hong Kong, where the median P/S ratio is around 0.6x. 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 Design Capital
What Does Design Capital's P/S Mean For Shareholders?
As an illustration, revenue has deteriorated at Design Capital over the last year, which is not ideal at all. One possibility is that the P/S is moderate because investors think the company might still do enough to be in line with the broader industry in the near future. If not, then existing shareholders may be a little nervous about the viability of the share price.
Want the full picture on earnings, revenue and cash flow for the company? Then our free report on Design Capital will help you shine a light on its historical performance.How Is Design Capital's Revenue Growth Trending?
The only time you'd be comfortable seeing a P/S like Design Capital's is when the company's growth is tracking the industry closely.
Retrospectively, the last year delivered a frustrating 28% decrease to the company's top line. The last three years don't look nice either as the company has shrunk revenue by 38% in aggregate. Therefore, it's fair to say the revenue growth recently has been undesirable for the company.
Comparing that to the industry, which is predicted to deliver 5.1% growth in the next 12 months, the company's downward momentum based on recent medium-term revenue results is a sobering picture.
In light of this, it's somewhat alarming that Design Capital's P/S sits in line with the majority of other companies. Apparently many investors in the company are way less bearish than recent times would indicate and aren't willing to let go of their stock right now. Only the boldest would assume these prices are sustainable as a continuation of recent revenue trends is likely to weigh on the share price eventually.
The Bottom Line On Design Capital's P/S
Design Capital appears to be back in favour with a solid price jump bringing its P/S back in line with other companies in the industry We'd say the price-to-sales ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.
We find it unexpected that Design Capital trades at a P/S ratio that is comparable to the rest of the industry, despite experiencing declining revenues during the medium-term, while the industry as a whole is expected 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.
Plus, you should also learn about these 3 warning signs we've spotted with Design Capital (including 2 which don't sit too well with us).
If these risks are making you reconsider your opinion on Design Capital, explore our interactive list of high quality stocks to get an idea of what else is out there.
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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.