Thursday evening, weapons maker Smith & Wesson Holding (NASDAQ:SWHC) turned in an earnings report tailor-made to please the investing public. Problem is, it didn't. Not one bit.

No, upon hearing that S&W grew its sales 43% compared with last year's fiscal second quarter, and its net earnings 312%, investors first gasped in shock. Once recovered, they took the stock behind the woodshed and gave it the Old Yeller treatment, knocking the price down 16% over the course of a few short hours' worth of trading.

Inflated expectations
How does such impressive sales and earnings growth translate into such a market cap walloping? Did S&W perhaps promise more last quarter than it could deliver last week? Close: Wall Street overpromised, and S&W proved unable to deliver the goods.

You see, last quarter, management did give earnings guidance -- but only for fiscal 2007; not for Q2 in particular. Back in September, it promised the following results this year:

  • $200 million in revenues
  • $0.36 per diluted share in profits
  • Gross margins of 34%
  • Operating margins of (I'm reading between the lines here) about 11%.

So how's it going?
Judged against the standards that S&W set for itself, here's my assessment of how the company is proceeding:

  • Revenues of $98 million through the first six months of the year hit very close to the halfway mark for the sales target. And with those sales up 46% in comparison with last year's first half, and CEO Michael Golden highlighting strong sales of S&W's new lines of "Military & Police (M&P) polymer pistols and tactical rifles" to law enforcement, I'd say the company should clear this hurdle by year-end.
  • Profits are looking iffier. At $0.15 year to date, the business is tracking toward missing its own earnings goal. Then again, if it can maintain in the second half the 67% year-over-year earnings growth it has demonstrated so far, $0.36 is still attainable. Barely.
  • The firm has fallen short on gross margins, and this looks to be the key to investor disappointment -- and the reason it missed "its" earnings target. I calculate a gross margin of about 33% so far this year.
  • Regardless, S&W has achieved a slightly better than 11% operating margin as it shaved a full 500 basis points off of its operating expenses in Q2. Reminder: The company's aim was to just "hold operating expenses constant as a percentage of sales and licensing." So that qualifies as an unqualified success.

There is some danger that S&W will manage to disappoint investors once again. Golden predicted that "third quarter fiscal 2007 net income will mirror second quarter results, due to our annual, planned one-week holiday shutdown in December." Translated, he's predicting $0.07 per share in profits, which would bring the firm to $0.22 for the first three quarters of fiscal 2007 -- that creates a pretty high ($0.14 per share) hurdle to leap in Q4, if it's to make its own earnings target for the year. I shudder to think what will happen if the next time the firm trips, it's over a threshold it set for itself.

What did we expect to see at Smith & Wesson last quarter, and what did it produce? Find out in:

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Fool contributor Rich Smith does not own shares of any company named above.