Fameglow Holdings Limited (HKG:8603) shares have continued their recent momentum with a 62% gain in the last month alone. The last month tops off a massive increase of 123% in the last year.

Since its price has surged higher, you could be forgiven for thinking Fameglow Holdings is a stock to steer clear of with a price-to-sales ratios (or "P/S") of 4.5x, considering almost half the companies in Hong Kong's Consumer Services industry have P/S ratios below 1.8x. However, the P/S might be quite high for a reason and it requires further investigation to determine if it's justified.

See our latest analysis for Fameglow Holdings

What Does Fameglow Holdings' P/S Mean For Shareholders?

For example, consider that Fameglow Holdings' financial performance has been poor lately as its revenue has been in decline. It might be that many expect the company to still outplay most other companies over the coming period, which has kept the P/S from collapsing. However, if this isn't the case, investors might get caught out paying to much for the stock.

What Are Revenue Growth Metrics Telling Us About The High P/S?

Fameglow Holdings' P/S ratio would be typical for a company that's expected to deliver very strong growth, and importantly, perform much better than the industry.

In reviewing the last year of financials, we were disheartened to see the company's revenues fell to the tune of 20%. Even so, admirably revenue has lifted 50% in aggregate from three years ago, notwithstanding the last 12 months. Although it's been a bumpy ride, it's still fair to say the revenue growth recently has been more than adequate for the company.

This is in contrast to the rest of the industry, which is expected to grow by 45% over the next year, materially higher than the company's recent medium-term annualised growth rates.

With this in mind, we find it worrying that Fameglow Holdings' 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 good chance existing shareholders are setting themselves up for future disappointment if the P/S falls to levels more in line with recent growth rates.

What Does Fameglow Holdings' P/S Mean For Investors?

The strong share price surge has lead to Fameglow Holdings' P/S soaring as well. 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.

Our examination of Fameglow Holdings revealed its poor three-year revenue trends aren't detracting from the P/S as much as we though, given they look worse than current industry expectations. When we observe slower-than-industry revenue growth alongside a high P/S ratio, we assume there to be a significant risk of the share price decreasing, which would result in a lower P/S ratio. Unless the recent medium-term conditions improve markedly, it's very challenging to accept these the share price as being reasonable.

And what about other risks? Every company has them, and we've spotted 3 warning signs for Fameglow Holdings (of which 1 is significant!) you should know about.

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).

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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.