The Shenzhen GuoHua Network Security Technology Co., Ltd. (SZSE:000004) share price has fared very poorly over the last month, falling by a substantial 30%. The last month has meant the stock is now only up 8.7% during the last year.

Although its price has dipped substantially, when almost half of the companies in China's Software industry have price-to-sales ratios (or "P/S") below 4.8x, you may still consider Shenzhen GuoHua Network Security Technology as a stock not worth researching with its 9.1x 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 so lofty.

What Does Shenzhen GuoHua Network Security Technology's Recent Performance Look Like?

For example, consider that Shenzhen GuoHua Network Security Technology's financial performance has been poor lately as its revenue has been in decline. Perhaps the market believes the company can do enough to outperform the rest of the industry in the near future, which is keeping the P/S ratio high. If not, then existing shareholders may be quite nervous about the viability of the share price.

Do Revenue Forecasts Match The High P/S Ratio?

In order to justify its P/S ratio, Shenzhen GuoHua Network Security Technology would need to produce outstanding growth that's well in excess of the industry.

In reviewing the last year of financials, we were disheartened to see the company's revenues fell to the tune of 21%. This has soured the latest three-year period, which nevertheless managed to deliver a decent 11% overall rise in revenue. Accordingly, while they would have preferred to keep the run going, shareholders would be roughly satisfied with the medium-term rates of revenue growth.

Comparing the recent medium-term revenue trends against the industry's one-year growth forecast of 28% shows it's noticeably less attractive.

In light of this, it's alarming that Shenzhen GuoHua Network Security Technology's P/S sits above the majority of other companies. It seems most investors are ignoring the fairly limited recent growth rates and are hoping for a turnaround in the company's business prospects. 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.

The Key Takeaway

A significant share price dive has done very little to deflate Shenzhen GuoHua Network Security Technology's very lofty P/S. 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.

The fact that Shenzhen GuoHua Network Security Technology currently trades on a higher P/S relative to the industry is an oddity, since its recent three-year growth is lower than the wider industry forecast. 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. 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.

Having said that, be aware Shenzhen GuoHua Network Security Technology is showing 2 warning signs in our investment analysis, and 1 of those is a bit unpleasant.

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.