Zhongzheng International Company Limited's (HKG:943) Business Is Yet to Catch Up With Its Share Price
When you see that almost half of the companies in the Personal Products industry in Hong Kong have price-to-sales ratios (or "P/S") below 1.4x, Zhongzheng International Company Limited (HKG:943) looks to be giving off some sell signals with its 2.9x P/S ratio. Although, it's not wise to just take the P/S at face value as there may be an explanation why it's as high as it is.
See our latest analysis for Zhongzheng International
What Does Zhongzheng International's Recent Performance Look Like?
Revenue has risen firmly for Zhongzheng International recently, which is pleasing to see. One possibility is that the P/S ratio is high because investors think this respectable revenue growth will be enough to outperform the broader industry in the near future. However, if this isn't the case, investors might get caught out paying too much for the stock.
Want the full picture on earnings, revenue and cash flow for the company? Then our free report on Zhongzheng International will help you shine a light on its historical performance.What Are Revenue Growth Metrics Telling Us About The High P/S?
The only time you'd be truly comfortable seeing a P/S as high as Zhongzheng International's is when the company's growth is on track to outshine the industry.
If we review the last year of revenue growth, the company posted a terrific increase of 15%. However, this wasn't enough as the latest three year period has seen the company endure a nasty 16% drop in revenue in aggregate. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.
Weighing that medium-term revenue trajectory against the broader industry's one-year forecast for expansion of 22% shows it's an unpleasant look.
With this in mind, we find it worrying that Zhongzheng International's P/S exceeds that of its industry peers. Apparently many investors in the company are way more bullish than recent times would indicate and aren't willing to let go of their stock at any price. There's a very 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.
The Key Takeaway
Generally, our preference is to limit the use of the price-to-sales ratio to establishing what the market thinks about the overall health of a company.
We've established that Zhongzheng International currently trades on a much higher than expected P/S since its recent revenues have been in decline over the medium-term. When we see revenue heading backwards and underperforming the industry forecasts, we feel the possibility of the share price declining is very real, bringing the P/S back into the realm of reasonability. If recent medium-term revenue trends continue, it will place shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.
It's always necessary to consider the ever-present spectre of investment risk. We've identified 3 warning signs with Zhongzheng International (at least 2 which are a bit concerning), 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.