Unfortunately for some shareholders, the Interlink Electronics, Inc. (NASDAQ:LINK) share price has dived 25% in the last thirty days, prolonging recent pain. Indeed, the recent drop has reduced its annual gain to a relatively sedate 3.2% over the last twelve months.

Even after such a large drop in price, you could still be forgiven for thinking Interlink Electronics is a stock not worth researching with a price-to-sales ratios (or "P/S") of 3.9x, considering almost half the companies in the United States' Electronic industry have P/S ratios below 2.2x. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/S.

How Interlink Electronics Has Been Performing

For example, consider that Interlink Electronics' financial performance has been poor lately as its revenue has been in decline. 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.

We don't have analyst forecasts, but you can see how recent trends are setting up the company for the future by checking out our free report on Interlink Electronics' earnings, revenue and cash flow.

Do Revenue Forecasts Match The High P/S Ratio?

There's an inherent assumption that a company should outperform the industry for P/S ratios like Interlink Electronics' to be considered reasonable.

Retrospectively, the last year delivered a frustrating 19% decrease to the company's top line. Still, the latest three year period has seen an excellent 42% overall rise in revenue, in spite of its unsatisfying short-term performance. 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.

Comparing that to the industry, which is predicted to deliver 18% growth in the next 12 months, the company's momentum is weaker, based on recent medium-term annualised revenue results.

With this information, we find it concerning that Interlink Electronics is trading at a P/S higher than the industry. It seems most investors are ignoring the fairly limited recent growth rates 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 Final Word

Despite the recent share price weakness, Interlink Electronics' P/S remains higher than most other companies in 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.

Our examination of Interlink Electronics 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 there is a significant improvement in the company's medium-term performance, it will be difficult to prevent the P/S ratio from declining to a more reasonable level.

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).

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.