Photo: Greta Ceresini, Flickr

You've heard of socially responsible investing (SRI), where investors steer clear of certain industries -- for example, guns, alcohol, tobacco, gambling, military equipment, and prisons -- on principle, objecting to their role in society. But have you thought of investing in these industries on purpose, and adding a sin stock or two to your portfolio? If so, you might want to consider Smith & Wesson Holding Corp (NASDAQ:AOBC), a major gun manufacturer.

It's not such a crazy idea, as long as your values permit it. The USA Mutuals Barrier Investor (MUTF: VICEX) mutual fund, for example, focuses its assets solely on "sin" stocks, and has outperformed the S&P 500 over the past five and 10 years (though it lags it a bit over the past three).

Gun magazines -- the other kind -- reflecting a big business.
Photo: Rick, Flickr 

Why might you buy Smith & Wesson Holding Corp?

Guns have been popular in America for generations. You might think that revived interest in gun control following some of the mass shootings in recent years is hurting business for Smith & Wesson and Sturm, Ruger, and Company, the only two U.S.-based gun makers, but you'd be wrong. Indeed, between 2003 and 2013, Smith & Wesson's sales soared more than tenfold. Part of the reason for this is that some folks are stocking up in anticipation of tighter regulations, though some see this slowing down now, and management has ratcheted down expectations for 2015.

Indeed, in its last reported quarter, revenue dropped 23% year over year, while earnings per share plunged 35%. Rifle sales were especially weak. Still, profit margins, both gross and net, have been rising over the past decade, and recently topped 40% and 13%, respectively. Management has said that the company has been taking market share from its rivals, too.

Smith & Wesson's stock valuation is another appealing factor, as its P/E ratio has recently been near 8, and its forward-looking P/E near 11. (The higher future P/E may seem like a concern, as it reflects lower expected earnings in the coming year, but that's partly due to high inventory, which isn't a lasting condition.) Its price-to-sales ratio is 1.0, a bit higher than its five-year average of 0.9, but in the same ballpark.

Regulations challenge the industry.
Photo: David Ohmer, Flickr

Why might you steer clear of Smith & Wesson Holding Corp?

So why might you avoid Smith & Wesson as an investment, values and views on weaponry and violence aside? Well, there is a greater risk of tightened regulations on the industry these days. Smart guns are another new concern. They restrict who can shoot them, as they're wirelessly connected to a watch. They're expensive, though, and not a perfect solution. And Smith & Wesson isn't necessarily doomed if they take hold, as it can make them, too. (Though, interestingly, the company lost business more than a decade ago, when it tried to work with industry reformers.)

Still, the industry is in a bit of flux these days, as various states enact gun-control legislation and various gun-makers respond, often by moving geographically to friendlier regions. The company anticipates poor performance in 2015, and free cash flow has fallen since 2013.

The stock also offers no dividend, which might be a deal-breaker for some. Dividends are often present when a company is big and generating reliable cash beyond what is needed to fuel or maintain growth. Smith & Wesson is using its cash for other purposes, such as reinvesting in its business and buying back some shares -- a smart move when shares are undervalued.

Finally, steer clear of Smith & Wesson if you can't stomach volatility. In 2014, the stock surged some 30% and then plunged. Overall, it's down about 6% over the past year -- and has averaged annual gains of 21% over the past decade.

For those who can handle volatility, though, and who aren't troubled by a sin stock, Smith & Wesson is worth a closer look. Its low price offers a margin of safety for patient investors. Its future is far from certain, though, in a nation where there is mounting popular support for gun control, so risk-averse investors might want to look elsewhere.