Vista Outdoor (NYSE:VSTO) still has a number of challenges to meet after having abandoning the firearms market and needs to prove that being an outdoors-focused business was the right choice.

The market has been discounting its ability to do so, dropping its stock 25% over the past year even as the S&P 500 has risen by nearly 20%. With both its outdoors and shooting sports segment still in decline, when it reports fiscal third-quarter earnings on Wednesday, Feb. 6, Vista needs to show that it can handle the reversal.

Hiker with binoculars in the woods

Vista Outdoors is still searching for a way forward after selling its Savage Arms business. Image source: Getty Images.

Big, open spaces

The slump in outdoor gear isn't something Vista is experiencing alone. American Outdoor Brands (NASDAQ:AOBC), which is following its rival's lead by also abandoning firearms, reported that its own outdoor segment's sales fell 18% in its fiscal second quarter. 

That speaks to a general weakness in the industry. And though it's partially the trade war between the U.S. and China that has raised prices and cost sales, it still calls into question the decisions both companies have made to focus solely on that market.

While not nearly as volatile as firearms and with a much larger market opportunity, both companies will still be very tiny players in a sea of much larger competitors. Johnson Outdoors (NASDAQ:JOUT), which is about twice as large as Vista and will be some four times bigger than American Outdoor after it's separated from Smith & Wesson, just reported its fiscal first-quarter results and saw robust 23% sales growth, with operating profit doubling.

So while there's opportunity, it's going to be spread out, and the biggest players may take the lion's share.

Shooting for the stars

Vista will also need to get over the hurdle posed by Walmart's (NYSE:WMT) decision to end the sale of certain kinds of ammunition. 

Although Vista exited the manufacture of firearms, it retained its ammunition business and retains its leadership status among the world's commercial ammo manufacturers, with brands such as Federal, Speer, CCI, and Alliant Powder. But Walmart accounts for a large percentage of Vista's revenue, though it's across both of Vista's operating segments. 

Vista believes the full-year risk caused by Walmart could be as much as $40 million, and it ended up reducing its revenue guidance to a range of $1.75 billion to $1.85 billion as a result.

Near term, that means profits are also going to take a hit because Walmart wanted to get out of certain ammunition by the end of last year and was selling the ammo at a discount. That could place pricing pressure on Vista if it tried to remain competitive.

New doors opening

Walmart's exit does open up some new possibilities. For example, the ammo maker still has a relationship with the retailer, so it will still be selling into that channel, and Vista's other retail partners are salivating at the chance to gain the business Walmart doesn't want. Vista says it's ensuring it gets a good share of the business, since just because Walmart's not selling the ammo anymore doesn't mean demand for it is going away.

Also, Vista is the first major ammo maker to establish a direct-to-consumer business. Its leading Federal brand is seeing a lot of movement on its new direct-to-consumer platform, and Vista says much of it is for ammo that its partners don't carry. So the ammo maker expects to recapture a good part of the lost sales, but investors should expect the third and fourth quarters to bear the brunt of the shift.

A lot of work left to do

Vista Outdoor made progress in the second quarter on cost containment and debt reduction, and that's still a road it will be following. But cutting costs can go only so far, meaning it will need to show it can grow sales again.

The easing of trade tensions with China may aid that goal, and an improving firearms market ought to help lift ammunition with it, though both probably won't do much for third quarter's results. That means investors should see performance get worse before it gets better, so just because Vista's stock is selling for a fraction of its sales doesn't mean it's a good value stock to buy just yet.