Portfolio Terror Alert

Since the Fool is investors writing for investors, we Foolish keyboardists sometimes express some strong opinions -- the kind of thing you don't get from the newswires. That, in turn, means we (OK, I) get plenty of email -- mostly from shareholders who are angry that I don't like their favorite stock.

But sometimes we get some great tips. After a recent article about Taser International (NASDAQ:TASR), several readers wrote me to express their enthusiasm for an outfit with a familiar name: Mace Security International (NASDAQ:MACE). Mace, of course, is synonymous with aerosol chemical deterrents. But this firm also makes security cameras and other gear, like biometric lock systems.

My good friend sTOCKjOCKnO1 -- not his real name -- said something like, "Chek [sic] out MACE!!! Its you're next Tasor [sic]!"

Meanwhile, ShortDisSucka666 advised me to "lookit [sic] Mace cuz [sic] itsa [sic] total POS!" (I guess POS is an Internet abbreviation for Pretty Outstanding Stock.)

I took their advice and did a bit of digging. I was impressed with what I found, and by impressed I mean horrified in an amused kind of way.

Turning up on terrorism
Mace Security, it turns out, has become one of this season's it stocks. Whenever America's spooked with another vague warning or the terrorism alert level is raised from mauve to puce, Mace shares are likely to shoot up, at least if you believe what Wall Street is telling us. This has happened often enough that one expert money manager recently recommended it as a great short-term play for "terror-proofing" your portfolio. A look at a long-term chart shows just what can occur when crowds begin to listen to this sort of advice.

Lumping the firm together with rising stars like DHB Industries (AMEX:DHB) and Armor Holdings (NYSE:AH) might seem to make sense on the surface. After all, both of those firms have benefited greatly from government contracts for the war in Iraq, along with the general atmosphere of heightened security that has gripped our country for the past few years.

Unfortunately, the Wall Street watchers who happily point out Mace's rocketing share price are not so willing to give you a glimpse of the company's true prospects.

Here's the truth: Mace's real corporate peers are quarter-gobbling, cinder block outfits with names like West-End Bubblematic and Joe's Spray 'n' Speed. That's right, folks, Mace Security is really a car wash company. And it's not such a great one.

Suds or security?
Companies that produce security cameras have gotten a lot of attention over the past few weeks. Magal Security Systems (NASDAQ:MAGS) and Ipix (NASDAQ:IPIX) saw huge jumps despite the fact that there's a ton of cutthroat competition in this industry, and there's little reason to believe that security cameras, in and of themselves, represent the future of counterterrorism. Ipix is a big loser, but Magal at least makes some money for investors and can stake a somewhat believable claim to being an up-and-coming player in the security biz. What about Mace?

In its press releases, the company describes itself as "a manufacturer of electronic surveillance and personal defense products, and an owner and operator of car and truck wash facilities," but that's a little like describing McDonald's (NYSE:MCD) as a provider of hot tea and ketchup packets. Sure, you can get those things, but that's not really what the company is all about.

A quick glance at Mace's latest financials reveals that this so-called security firm takes in about five times more protecting our cars from bird doody as it does guarding us against criminals and terrorists. Here are revenue figures from the last 10-Q, in thousands.

Sure, Mace sold 67% more security products during the current-year quarter as last year, but overall revenues were flat. Moreover, the gross margin on security products actually dropped 5% from the prior-year quarter to 37%. So, while it's supposedly ramping up production of these important products, it's actually making less money on those products. Dismal execution like that led to earnings per share of $0.02, 33% less than last year's $0.03 for the quarter.

For all of last year, sales rose just 5% while the company lost $0.28 per share. Performance like that wouldn't surprise you if you took a longer look back at the company's financials. This is a firm that has had flat sales of just less than $50 million per year for the past four years. It's managed to scrape up earnings only one time in the past decade -- $0.08 per share back in 2001. Results like that are enough to make any investor's eyes water.

Hijackers on the inside
If you needed more reasons to stay away from Mace, you'll find them by browsing through an annual report and doing a quick search for the words "certain relationships." There you'll find a cornucopia of delights -- if you're into scary relationships and insider perks. Over the past few years, Mace Chairman, CEO, and President Louis D. Paulino Jr. -- who already earns $400,000 per year running a company with no earnings -- has, through outside firms, leased buildings, furniture, and even Learjet services to his own company. Deals like these ensured that Paulino benefited even while shareholders saw red ink at the bottom of the income statements.

Real security
Forget about Mace. It's a proven underperformer that's ripe for its inevitable drop back into pennyland. But more important, forget about making ridiculous moves to "terror-proof" your portfolio. Rushing into faddish stocks in the hopes of selling to the next fear-motivated speculator is a sure way to watch your portfolio explode in front of your eyes.

Real financial security comes from "idiot-proofing" your investments. Learn to judge a firm's finances in less than five minutes. Don't invest with the herds. And above all, stay away from the short-term flipping that allows a few unscrupulous hypesters to take advantage of naive latecomers. Instead of offering protection, trading in firms like Mace is a quick way to become a victim.

If you're interested in small caps with real potential, join Tom Gardner, who's had his eye on DHB Industries, as well as other Hidden Gems . And if you believe that slow and steady wins the race -- and there's plenty of evidence that it does -- take a risk-free trial of Mathew Emmert's Motley Fool Income Investor .

Fool contributor Seth Jayson owns a can of pepper spray, but no company mentioned. View his Fool profile here . The Fool is investors writing for investors .