Shanghai Electric Group Co., Ltd. (HKG:2727) shares have had a really impressive month, gaining 26% after a shaky period beforehand. The annual gain comes to 122% 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 Shanghai Electric Group's price-to-sales (or "P/S") ratio of 0.4x right now seems quite "middle-of-the-road" compared to the Electrical industry in Hong Kong, seeing as it matches the P/S ratio of the wider industry. However, investors might be overlooking a clear opportunity or potential setback if there is no rational basis for the P/S.
View our latest analysis for Shanghai Electric Group
What Does Shanghai Electric Group's Recent Performance Look Like?
With revenue that's retreating more than the industry's average of late, Shanghai Electric Group has been very sluggish. Perhaps the market is expecting future revenue performance to begin matching the rest of the industry, which has kept the P/S from declining. You'd much rather the company improve its revenue if you still believe in the business. If not, then existing shareholders may be a little nervous about the viability of the share price.
Want the full picture on analyst estimates for the company? Then our free report on Shanghai Electric Group will help you uncover what's on the horizon.Do Revenue Forecasts Match The P/S Ratio?
In order to justify its P/S ratio, Shanghai Electric Group would need to produce growth that's similar to the industry.
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 4.2%. As a result, revenue from three years ago have also fallen 24% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.
Turning to the outlook, the next three years should generate growth of 4.6% each year as estimated by the three analysts watching the company. That's shaping up to be materially lower than the 14% each year growth forecast for the broader industry.
In light of this, it's curious that Shanghai Electric Group's P/S sits in line with the majority of other companies. It seems most investors are ignoring the fairly limited growth expectations and are willing to pay up for exposure to the stock. These shareholders may be setting themselves up for future disappointment if the P/S falls to levels more in line with the growth outlook.
The Bottom Line On Shanghai Electric Group's P/S
Shanghai Electric Group's stock has a lot of momentum behind it lately, which has brought its P/S level with the rest of 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.
Given that Shanghai Electric Group's revenue growth projections are relatively subdued in comparison to the wider industry, it comes as a surprise to see it trading at its current P/S ratio. When we see companies with a relatively weaker revenue outlook compared to the industry, we suspect the share price is at risk of declining, sending the moderate P/S lower. Circumstances like this present a risk to current and prospective investors who may see share prices fall if the low revenue growth impacts the sentiment.
A lot of potential risks can sit within a company's balance sheet. You can assess many of the main risks through our free balance sheet analysis for Shanghai Electric Group with six simple checks.
If strong companies turning a profit tickle your fancy, then you'll want to check out this free list of interesting companies that trade on a low P/E (but have proven they can grow earnings).
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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.