Virtual Mind Holding Company Limited (HKG:1520) shareholders would be excited to see that the share price has had a great month, posting a 49% gain and recovering from prior weakness. Not all shareholders will be feeling jubilant, since the share price is still down a very disappointing 29% in the last twelve months.

Since its price has surged higher, when almost half of the companies in Hong Kong's Luxury industry have price-to-sales ratios (or "P/S") below 0.7x, you may consider Virtual Mind Holding as a stock not worth researching with its 3.2x P/S ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the highly elevated P/S.

Check out our latest analysis for Virtual Mind Holding

What Does Virtual Mind Holding's P/S Mean For Shareholders?

As an illustration, revenue has deteriorated at Virtual Mind Holding over the last year, which is not ideal at all. One possibility is that the P/S is high because investors think the company will still do 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.

Do Revenue Forecasts Match The High P/S Ratio?

In order to justify its P/S ratio, Virtual Mind Holding would need to produce outstanding growth that's well in excess of the industry.

Retrospectively, the last year delivered a frustrating 25% decrease to the company's top line. The last three years don't look nice either as the company has shrunk revenue by 31% in aggregate. Therefore, it's fair to say the revenue growth recently has been undesirable for the company.

Weighing that medium-term revenue trajectory against the broader industry's one-year forecast for expansion of 12% shows it's an unpleasant look.

With this information, we find it concerning that Virtual Mind Holding is trading at a P/S higher than the industry. 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 Key Takeaway

Virtual Mind Holding's P/S has grown nicely over the last month thanks to a handy boost in the share price. 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've established that Virtual Mind Holding 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. Unless the recent medium-term conditions improve markedly, investors will have a hard time accepting the share price as fair value.

Before you settle on your opinion, we've discovered 3 warning signs for Virtual Mind Holding that you should be aware of.

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.