Is Smith & Wesson Stock As Cheap As It Looks?

By Markets Fool.com


Smith & Wesson stock offers a golden opportunity to buy before earnings. Image source:Getty Images.

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Up on Wall Street, most of financial America is still busy reporting fiscal results for the second quarter of 2016. In just two short weeks, though, firearms specialist Smith & Wesson (NASDAQ: SWHC) will leap into the apparent future, and tell us about its financial results for the first quarter of fiscal 2017.

What should investors expect, and is it safe to buy Smith & Wesson ahead of earnings?

Running numbers, not just running guns

There are any number of reasons for investors to be attracted to Smith & Wesson stock right now, not least the fact that it's an election year -- and that those always pose the risk of putting an anti-gun president in the White House, which could spook gun owners into loading up on guns before they get banned. There's also the recent FBI NICS background check data that so many have written about, which seems to confirm that a lot of folks are indeed loading up on guns.

If you ask me, though, the primary factor in deciding whether to buy Smith & Wesson stock today is the same thing I look at when deciding to buy any stock: Is it cheap, or is it not?

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So is Smith & Wesson stock cheap?

On the surface, it's an open question whether Smith & Wesson stock is, in fact, cheap enough to buy. Valued on its GAAP earnings, the stock sells for 17.8 times trailing profits. That's slightly more than the 16.9 P/E on rival Sturm, Ruger (NYSE: RGR) stock, but it's less than the average stock on the S&P 500 costs today. (At an average P/E of 25.3, the S&P is, in fact, 42% more expensive than S&W stock).

On the other hand, analysts polled by S&P Global Market Intelligence tell us that Smith & Wesson is only likely to grow its earnings at about 14% annually over the next five years. (With no analysts officially following Sturm, Ruger, it's hard to say what it's growth rate might be. In Ruger's case, we simply don't know). Weighed against its17.8 P/E ratio, though, we can say that Smith & Wesson stock is selling for a PEG ratio of 1.3, which suggests it's at least modestly overpriced. This remains true even factoring debt and cash into the picture, and even acknowledging that Smith & Wesson carries slightly more cash than debt on its balance sheet.

On the third hand, though (yes, in the case of Smith & Wesson, we're going to need at least three to get a handle on this stock), Smith & Wesson may be significantly more profitable than it at first appears. S&P Global data, you see, confirm that over the past 12 months, while Smith & Wesson reported only $94 million in GAAP profits, the company produced $138 million in positive free cash flow from its business. Viewed from this perspective, the gunsmith is about 47% more profitable -- and 47% cheaper -- than first meets the eye.

The Foolish bottom line

Valued on free cash flow, Smith & Wesson stock is selling for a price-to-FCF ratio of just 12.4, which, relative to an anticipated growth rate of 13.8%, suggests the stock is in fact still cheap enough to buy.

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Fool contributorRich Smithdoes not own shares of, nor is he short, any company named above. You can find him onMotley Fool CAPS, publicly pontificating under the handleTMFDitty, where he's currently ranked No. 301 out of more than 75,000 rated members.

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.