ArcSoft Corporation Limited (SHSE:688088) shares have had a horrible month, losing 35% after a relatively good period beforehand. The recent drop has obliterated the annual return, with the share price now down 2.8% over that longer period.

Even after such a large drop in price, when almost half of the companies in China's Software industry have price-to-sales ratios (or "P/S") below 5x, you may still consider ArcSoft as a stock not worth researching with its 16.7x 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 ArcSoft

What Does ArcSoft's Recent Performance Look Like?

ArcSoft certainly has been doing a good job lately as it's been growing revenue more than most other companies. It seems the market expects this form will continue into the future, hence the elevated P/S ratio. However, if this isn't the case, investors might get caught out paying too much for the stock.

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 steep as ArcSoft's is when the company's growth is on track to outshine the industry decidedly.

Retrospectively, the last year delivered an exceptional 24% gain to the company's top line. Still, revenue has fallen 1.3% in total from three years ago, which is quite disappointing. Accordingly, shareholders would have felt downbeat about the medium-term rates of revenue growth.

Turning to the outlook, the next year should generate growth of 37% as estimated by the three analysts watching the company. That's shaping up to be similar to the 35% growth forecast for the broader industry.

In light of this, it's curious that ArcSoft's P/S sits above the majority of other companies. It seems most investors are ignoring the fairly average growth expectations and are willing to pay up for exposure to the stock. These shareholders may be setting themselves up for disappointment if the P/S falls to levels more in line with the growth outlook.

The Key Takeaway

ArcSoft's shares may have suffered, but its P/S remains high. While the price-to-sales ratio shouldn't be the defining factor in whether you buy a stock or not, it's quite a capable barometer of revenue expectations.

Seeing as its revenues are forecast to grow in line with the wider industry, it would appear that ArcSoft currently trades on a higher than expected P/S. When we see revenue growth that just matches the industry, we don't expect elevates P/S figures to remain inflated for the long-term. This places shareholders' investments at risk and potential investors in danger of paying an unnecessary premium.

It is also worth noting that we have found 1 warning sign for ArcSoft that you need to take into consideration.

If companies with solid past earnings growth is up your alley, you may wish to see this free collection of other companies with strong earnings growth and low P/E ratios.

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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.