Gun maker Smith & Wesson reported earnings last night -- and the crowd went wild. But why?
After all, for its second quarter of fiscal 2014, the gunsmith reported several disturbing numbers. Starting at the top, quarterly sales increased a mere 2% in comparison to second-quarter 2013. That's a pretty far cry from the "30% annualized profits growth" that analysts have been telling investors to expect from S&W over the next five years. And the news didn't get much better from there:
- Net profits for the quarter declined 20% year over year, to $17 million.
- Profits per diluted share dropped 10% to $0.28 -- despite a 10% reduction in share count.
- Free cash flow turned negative, erasing last quarter's positive performance and pushing S&W $2.1 million into the red.
So what's to like about that? Why were investors bidding the shares up by more than 4% in midday trading?
Hope springs eternal
Well, there are at least a few reasons for optimism. For one thing, if Smith & Wesson's numbers were worse than what it reported last year, they did at least exceed expectations. Revenue edged out analyst estimates. Profits "beat estimates" by a good $0.07 per share.
And looking out across the next six months, S&W management stuck to its guns on full-year guidance. Sales are still expected to come in between $610 million and $620 million, right on target with analyst expectations. Profits per diluted share from continuing operations should still exceed $1.30.
Plus, things may not be as bad as they look on the sales front. One big reason Smith & Wesson was unable to grow sales much was because the company has ceased distributing guns for Walther. That alone probably cost it more than $40 million in sales. Add in the missing Walther sales and S&W says revenue would have been up more than 9% in the second quarter.
Handgun sales are showing strength despite the lack of a tailwind from threatened gun legislation to push buyers into stores. Management says pistol sales in particular were up 27%. Finally, no longer depressed by the low-margin Walther distribution agreement, gross margin on S&W's guns soared 610 basis points to 41.6%.
Flush with cash, and trading for a P/E ratio of less than 10, Smith & Wesson continues to look attractive. If there's one thing holding me back from buying, though, it's that lack of positive free cash flow. If and when S&W manages to get that little detail repaired, it should be open season on the shares.
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The article What's Not to Like About Smith & Wesson? originally appeared on Fool.com.Fool contributor Rich Smith has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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