Inside Wall Street: The Supreme Court Gives Smith & Wesson Investors Plenty of Ammo

Gene Marcial's Inside Wall Street
Gene Marcial's Inside Wall Street

Gun-rights advocates -- and Smith & Wesson (SWHC) investors -- got fired up on June 28 when the Supreme Court handed down a landmark decision expanding individuals' gun rights. Firearms maker S&W saw its stock bump up that day. Having languished in the $4.07 to $4.10 range in the days before the ruling, the share price leaped to $4.33.

A couple of days later, the stock got another boost when S&W reported results for its fiscal fourth quarter and fiscal 2010 (ended Apr. 30) that beat Wall Street's forecasts. Earnings for the year soared 45% (excluding extraordinary items), and revenues leaped 21% to $406.2 million. It closed at $4.47 on Thursday, July 1.

But good as the quarterly and annual results were, the Supreme Court's ruling is most likely to excite investors and entice them to buy S&W shares. The high court's decision should have a positive long-term impact on S&W sales and earnings, argue analysts.

"Significant Repercussions"

"The Supreme Court decision represents a landmark ruling for the handgun industry -- with Smith & Wesson as a long-term beneficiary," says Rommel T. Dionisio, analyst at investment firm Wedbush Securities. S&W designs, manufactures and markets revolvers, pistols, rifles and shotguns. The company's customers are the military, law-enforcement agencies and retail stores located primarily in the U.S., Asia and Europe.

The decision, which tossed out the existing ban on handgun ownership in Chicago, is similar to the court's ruling in the District of Columbia v Heller case in June 2008. But the court's latest decision extends to all 50 states the right of individuals to bear arms, and it mandates that local governments respect the federal right under the Second Amendment to keep and bear arms.

The decision will have "significant repercussions for existing state and municipal regulations that ban handguns," says Dionisio, and will in all likelihood trigger numerous lawsuits. Advocates for and against gun control will troop to the courts to protect their respective constituents, he adds.

Nonetheless, Dionisio expects S&W sales to increase significantly across the country as challenges to existing handgun curbs mount -- and probably get struck down. Given that S&W is the largest player in the U.S. handgun industry, it stands to be the largest beneficiary among firearms manufacturers.

Upside in Firearms

The stock went into a downspin last fall when the post-election surge in firearms sales came to an end. So, the Supreme Court decision delivered a timely and badly needed lift to the industry -- and S&W. Dionisio notes that the stock is trading at 12 times his 2010 earnings estimate of 32 cents a share -- a 35% discount to its peers' average price-earnings ratio.

S&W President and CEO Michael F. Golden, in a conference call on June 30 with analysts, predicted that sales and earnings in fiscal 2011 would exceed the company's "solid" performance in fiscal 2010, noting that its total backlog has already increased 23% sequentially. He figures revenues in fiscal 2011 will rise to between $430 million and $445 million, which are higher than the Street's forecasts. In fiscal 2008, sales totaled $335 million.

Wedbush Securities' Dionisio, who rates S&W as outperform, says the company's firearms business accounted for all of the upside in fiscal 2010's impressive results. And that's why he has raised his estimates for fiscal 2011. Dionisio boosted his revenue forecast to $495 million, up from an earlier $416 million. And he increased his earnings estimate to 40 cents a share from his previous 38 cents. His price target for this year is $6 a share.

Attracting Fresh Attention

Dionisio is among the four analysts who recommend buying S&W shares. The three other bulls are James Barrett of C.L. King & Associates, Christopher W. Kreuger of Northern Securities and analysts at research firm EVA Dimensions. None of the eight analysts who track the stock recommend bailing out. The four others are staying neutral.

With the Supreme Court's emphasis on the Second Amendment, S&W is expected to attract fresh attention from individuals as as well from the large institutional investors, some of which are already in the stock. Among the believers are BlackRock, a couple of whose investment funds own a stake of about 5%; Rivanna Capital, which holds 4.66%; and Vanguard Group with 3.76%.

So, Smith & Wesson may no longer be just for gun-lovers. Long-term investors may want to own its shares, too -- for some security.