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Smith & Wesson Holding 10-K 2006 Documents found in this filing:Table of Contents
UNITED STATES SECURITIES AND
EXCHANGE COMMISSION
Washington, D.C. 20549
Commission File Number 1-31552
2100 Roosevelt Avenue
Springfield, Massachusetts 01104 (800) 331-0852 (Address including zip code, and telephone number, including area code, of principal executive offices)
Securities registered pursuant to Section 12(b) of the
Act:
None
Indicate by check mark if the registrant is a well-known
seasoned issued, as defined in Rule 405 of the Securities
Act.
Yes o No þ
Indicate by check mark if the registrant is not required to file
reports pursuant to Section 13 or Section 15(d) of the
Act. Yes o No þ
Indicate by check mark whether the registrant (1) has filed
all reports required to be filed by Section 13 or 15(d) of
the Securities Exchange Act of 1934 during the preceding
12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been
subject to such filing requirements for the past
90 days. Yes þ No o
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of
Regulation S-K
is not contained herein, and will not be contained, to the best
of registrant’s knowledge, in definitive proxy or
information statements incorporated by reference in
Part III of this
Form 10-K
or any amendment to this
Form 10-K. o
Indicate by check mark whether the registrant is a large
accelerated filer, an accelerated filer, or a non-accelerated
filer. See definition of “accelerated filer and large
accelerated filer” in
Rule 12b-2
of the Exchange Act. (Check one):
Large accelerated
filer o Accelerated
filer þ Non-accelerated
filer o
Indicate by check mark whether the registrant is a shell company
(as defined in
Rule 12b-2
of the
Act). Yes o No þ
The aggregate market value of Common Stock held by nonaffiliates
of the registrant (21,352,079 shares) based on the last
reported sale price of the registrant’s Common Stock on the
American Stock Exchange on October 31, 2005, which was the
last business day of the registrant’s most recently
completed second fiscal quarter, was $108,895,603. For purposes
of this computation, all officers, directors, and 10% beneficial
owners of the registrant are deemed to be affiliates. Such
determination should not be deemed to be an admission that such
officers, directors, or 10% beneficial owners are, in fact,
affiliates of the registrant.
As of June 30, 2006, there were outstanding
39,485,543 shares of the registrant’s Common Stock,
par value $.001 per share.
Portions of the registrant’s definitive proxy statement for
the 2006 Annual Meeting of Stockholders are incorporated by
reference into Part III of this
Form 10-K.
SMITH &
WESSON HOLDING CORPORATION
ANNUAL
REPORT ON
FORM 10-K
For the
Fiscal Year Ended April 30, 2006
The statements contained in this report on
Form 10-K
that are not purely historical are forward-looking statements
within the meaning of applicable securities laws.
Forward-looking statements include statements regarding our
“expectations,” “anticipation,”
“intentions,” “beliefs,” or
“strategies” regarding the future. Forward-looking
statements also include statements regarding revenue, margins,
expenses, and earnings analysis for fiscal 2007 and thereafter;
future products or product development; our product development
strategies; beliefs regarding product performance; the success
of particular product or marketing programs; and liquidity and
anticipated cash needs and availability. All forward-looking
statements included in this report are based on information
available to us as of the filing date of this report, and we
assume no obligation to update any such forward-looking
statements. Our actual results could differ materially from the
forward-looking statements. Among the factors that could cause
actual results to differ materially are the factors discussed
under Item 1A, “Risk Factors.”
Table of Contents
PART I
We are the largest manufacturer of handguns in the United States
and the largest U.S. exporter of handguns. We manufacture
revolvers, pistols, and related products and accessories for
sale primarily to gun enthusiasts, collectors, hunters,
sportsmen, protection focused individuals, public safety
agencies and officers, and military agencies in the United
States and throughout the world. We also market tactical rifles.
We have manufacturing facilities in Springfield, Massachusetts
and Houlton, Maine, both of which are primarily used to
manufacture our products. In addition, we pursue opportunities
to license our name and trademarks to third parties for use in
association with their products and services. We plan to
increase substantially our product offerings and our licensing
program to leverage the 150-plus year-old “Smith &
Wesson” name and capitalize on the goodwill developed
through our historic American tradition by expanding consumer
awareness of products we produce or license in the safety,
security, protection, and sport markets.
Our objective is to become a leader in the safety, security,
protection, and sport businesses. Key elements of our strategy
to achieve this objective are as follows:
Based upon 2004 reports by the U.S. Bureau of Alcohol,
Tobacco and Firearms, or ATF, we believe the domestic and export
non-government market is approximately $138 million for
revolvers and $467 million for pistols with our current
market share being approximately 38% and 10%, respectively; and
$510 million for rifles, and $346 million for
shotguns, and $132 million for tactical rifles, with our
current market share being less than 2% in the tactical rifle
market.
Our wholly owned subsidiary, Smith & Wesson Corp., was
founded in 1852 by Horace Smith and Daniel B. Wesson.
Mr. Wesson purchased Mr. Smith’s interest in
1873. The Wesson family sold Smith & Wesson Corp. to
Bangor Punta Corp. in 1965. Lear Siegler Corporation purchased
Bangor Punta in 1984, thereby gaining ownership of
Smith & Wesson Corp. Forstmann Little & Co.
purchased Lear Siegler in 1986 and sold Smith & Wesson
Corp. shortly thereafter to Tomkins Corporation, an affiliate of
UK-based Tomkins PLC. We purchased Smith & Wesson Corp.
from Tomkins in May 2001 and changed our name to
Smith & Wesson Holding Corporation in February 2002.
We maintain our principal executive offices at 2100 Roosevelt
Avenue, Springfield, Massachusetts 01104. Our telephone number
is
(800) 331-0852.
Our website is located at www.smith-wesson.com. Through
our website, we make available free of charge our annual reports
on
Form 10-K,
our proxy statements, our quarterly reports on
Form 10-Q,
our current reports on
Form 8-K,
and amendments to any of them filed or furnished pursuant to
Section 13(a) or 15(d) under the Securities Exchange Act.
These documents are available as soon as reasonably practicable
after we electronically file those documents with the Securities
and Exchange Commission. We also post on our website the
charters of our Audit, Compensation, and Nominations and
Corporate Governance Committees; our Corporate Governance
Guidelines, our Code of Conduct, our Code of Ethics for the CEO
and Senior Financial Officers, and any amendments or waivers
thereto; and any other corporate governance materials
contemplated by the regulations of the SEC and the exchange on
which our common stock is listed. The documents are also
available in print by contacting our corporate secretary at our
executive offices.
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Products
and Services
The sale of firearms accounted for approximately
$147.4 million in net product sales, or approximately 93.4%
of our net product sales, in the fiscal year ended
April 30, 2006 and approximately $113.6 million in net
product sales, or approximately 91.6% of our net product sales,
in the fiscal year ended April 30, 2005. With the exception
of Walther pistols, all of our firearms are sold under the
Smith & Wesson name.
We manufacture high-quality, center-fire revolvers and pistols
with forged components. We have never manufactured or sold
inexpensive concealable firearms, sometimes known as
“Saturday Night Specials,” and we do not produce
“assault weapons” as defined in the Violent Crime
Control and Law Enforcement Act of 1994.
We offer a complete line of handguns to meet the needs of our
customers. We currently offer more handgun models, in more
calibers, for more applications than any other handgun
manufacturer. We currently offer 75 different standard
models of handguns with a wide variety of calibers, finishes,
sizes, compositions, ammunition capacities, barrel lengths,
grips, sights, actions, and other features. In order to enhance
our competitive position, we continually introduce new handgun
models. We introduced seven new revolver models and eight new
pistol models in fiscal 2006, and seven new revolver models and
11 new pistol models in fiscal 2005.
In January 2006, we introduced our M&P15 tactical rifle.
This is our first entry into the long gun market.
Revolvers. A revolver is a handgun with a
cylinder that holds the ammunition in a series of chambers that
are successively aligned with the barrel of the gun during each
firing cycle. There are two general types of revolvers:
single-action and double-action. To fire a single-action
revolver, the hammer is pulled back to cock the gun and align
the cylinder before the trigger is pulled. To fire a
double-action revolver, a single trigger pull advances the
cylinder and cocks and releases the hammer.
We currently manufacture 39 different models of revolvers. The
suggested retail prices of our revolvers range between $457 and
$1,378. The following table sets forth information regarding
some of our most popular revolvers.
Revolvers accounted for approximately $61.4 million in net
product sales, or approximately 38.9% of our net product sales
in the fiscal year ended April 30, 2006 and for
approximately $54.0 million in net product sales, or
approximately 43.6% of our net product sales, in the fiscal year
ended April 30, 2005. As of April 30, 2006, we had a
backlog of approximately $6.3 million, or 13,643 units.
Pistols. A pistol is a handgun in which the
ammunition chamber is an integral part of the barrel and which
is fed ammunition from a magazine contained in the grip. The
firing cycle ejects the spent casings and loads a new round into
the chamber.
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We currently manufacture 27 different models of pistols. The
suggested retail prices of our pistols range between $249 and
$1,274. The following sets forth information regarding some of
our most popular pistols.
Our pistol sales accounted for approximately $48.9 million
in net product sales, or approximately 31.0% of our net product
sales, in the fiscal year ended April 30, 2006 and for
approximately $29.0 million in net product sales, or
approximately 23.4% of our net product sales, in the fiscal year
ended April 30, 2005. As of April 30, 2006, our
backlog for Smith & Wesson pistols was approximately
$21.1 million, or 75,160 units.
In fiscal 2006 we introduced the M&P pistol
series. This polymer frame pistol was specifically designed
with input from over a dozen law enforcement agencies. Sales of
the M&P pistol began in the third fiscal quarter with the
introduction of the .40 caliber version. A 9mm model began
shipment in May 2006 with additional calibers and compact
versions to be introduced in fiscal 2007. We believe the M&P
pistol is the most feature rich, durable, and safe polymer
service weapon available on the market.
In fiscal 2006 we received orders from the U.S. Government
for Sigma pistols for the Afghanistan National Police and Border
Patrol. These orders totaled approximately $20.0 million,
of which approximately $10.0 million was shipped in fiscal
2006, with the balance to ship in the first half of fiscal 2007.
These orders represent the first major pistol orders from the
federal government and represent our first significant order
from the federal government in over 15 years.
We are the exclusive U.S. importer of Walther firearms and
hold the production rights for the popular Walther PPK pistol in
the United States. Walther sales accounted for approximately
$16.0 million in net product sales, or approximately 10.1%
of our net product sales, in the fiscal year ended
April 30, 2006 and for approximately $17.3 million of
our net product sales, or approximately 14.0% of our net product
sales, in the fiscal year ended April 30, 2005. As of
April 30, 2006, we had a backlog of approximately
$3.4 million of orders for Walther pistols, or
12,160 units.
Rifles. We market the M&P15, M&P15A,
and M&P15T models of tactical rifles, which are an addition
to our Military Police (M&P) series of pistols. The
M&P15 series is produced entirely in the United States under
manufacturing alliances with several domestic companies.
The M&P15, M&P15A, and M&P15T are rugged,
lightweight, semi-automatic rifles that fire 5.56 mm ammunition
and are designed to perform under a diverse range of conditions.
These rifles are gas operated and include a chrome-lined gas
tray, bolt carrier, and barrel with a six-position adjustable
stock.
The M&P15 incorporates a traditional AR-15 design featuring
a removable carry-handle and adjustable rear and front post
sights, allowing for quick target acquisition and convenient
handling. The M&P15A has a folding rear sight and does not
have the carry handle. The M&P15T, with its high-end
accessory package, features folding front
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and rear battle sights and a four-sided equipment rail system
that allows the addition of accessories, such as lights,
laser-aiming devices, and vertical grips.
Launched in January 2006, the sale of rifles accounted for
approximately $2.0 million in net product sales, or
approximately 1.2% of our net product sales, in the fiscal year
ended April 30, 2006.
Premium and Limited Edition Handguns. Through
our S&W Performance
Center®
and Engraving Department, we design, manufacture, and assemble
premium and limited edition pistols and revolvers. The 22
employees in these departments are all trained experts in their
fields, who undergo periodic peer review and personally select
new employees when needed. Our premium and limited edition
handguns include high-quality features found only in firearms
produced by custom gunsmiths. Our premium and limited edition
handguns generated approximately $15.2 million in net
product sales, or approximately 9.6% of our net product sales,
in the fiscal year ended April 30, 2006 and for
$10.2 million in net product sales, or approximately 8.2%
of our net product sales, in the fiscal year ended
April 30, 2005. While Performance Center products are
typically made in limited production quantities, we do offer
nine catalog Performance Center model variations to all
distributors in order to expand product availability.
Parts and Used Guns. Parts and used gun sales
accounted for approximately $3.9 million in net product
sales, or approximately 2.5% of our net product sales, in the
fiscal year ended April 30, 2006 and for approximately
$3.1 million in net product sales, or approximately 2.5% of
our net product sales, in the fiscal year ended April 30,
2005.
We are one of the largest manufacturers of handcuffs and
restraints in the United States. These products are fabricated
from the finest quality carbon or stainless steel and feature
heat-treated internal lock works. Double locks help prevent
tampering and smooth ratchets allow for swift cuffing and an
extra measure of safety. We can customize handcuffs to fit
customer specifications. Handcuffs accounted for
$5.1 million in net product sales, or approximately 3.2% of
our net product sales, in the fiscal year ended April 30,
2006 and for approximately $4.3 million in net product
sales, or approximately 3.4% of our net product sales, in the
fiscal year ended April 30, 2005.
We offer an extensive line of licensed accessories, branded
products, and apparel through our website, our catalog, and our
toll free phone number. These items include polo shirts, tee
shirts, denim shirts, field shirts, jackets, hats, gloves,
safety glasses, knives, shooter bags, desk sets, presentation
cases, gun rugs, belt buckles, coffee mugs, key chains, and
watches. Sales of apparel, accessories, and collectibles
accounted for approximately $544,000 in net product sales, or
approximately 0.3% of our net product sales, in the fiscal year
ended April 30, 2006 and for approximately $650,000 in net
product sales, or approximately 0.5% of our net product sales,
in the fiscal year ended on April 30, 2005.
Established in 1969, the Smith & Wesson Academy is the
nation’s oldest private law enforcement training facility.
The Academy has trained law enforcement personnel from all
50 states and more than 50 foreign countries. Classes are
conducted at a modern facility in Springfield, Massachusetts or
on location around the world. Through the Smith &
Wesson Academy, we offer
state-of-the
art instruction designed to meet the training needs of law
enforcement worldwide.
We utilize our substantial capabilities in metal processing and
finishing to provide services to third-party customers. Our
services include forging, heat treating, finishing, and plating.
Specialty services accounted for approximately $2.8 million
in net product sales, or approximately 1.7% of our net product
sales, in the fiscal year ended April 30, 2006 and for
approximately $3.5 million in net product sales, or 2.8% of
our net product sales, in the fiscal year ended April 30,
2005.
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Forging. The fundamental strength of our
handguns results from the forgings used in our products. We
strive to produce near net shaped forgings, minimizing excess
material. Our skilled die makers review each customer’s
special requirements, specifying the most effective die layout
and determining the most efficient size and type of forging
equipment to be utilized. The die makers oversee the manufacture
of the forge, trim and coin die sets from design through first
piece acceptance. Once into production, the dies are maintained
on a routine basis. Our process capabilities run from small 1/4
pound to larger 20 pound parts. We can produce components with
lengths of up to 15 inches, utilizing drop hammers ranging
in size from 1,500 pounds to 5,000 pounds. We also have a
variety of mechanical presses for cold and hot trimming. Our
forging capabilities give us the ability to forge products from
carbon, stainless, and alloy steel as well as aluminum, brass,
and copper.
Heat Treating. Our handguns are well known for
their durability and dependability. We perform the controlled
processes required to improve and enhance the physical
properties of components in our
“state-of-the
art” heat treating area. Each process is electronically
controlled to ensure that customers’ specific requirements
are met. The equipment allows a wide variety of processes to be
performed while minimizing distortion. We also offer a variety
of controlled quenching atmosphere processes, such as oil,
vacuum, water, nitrogen, and salt. Our in-process inspection
area is able to verify hardness requirements, but more critical
parameters, such as superficial hardness testing and tensile
testing, are verified by our in-house metallurgical lab.
Plating and Finishing. We are recognized for
the deep, rich blue of our handguns. In addition to our metal
plating capabilities, we offer a variety of metal finishing
processing, ranging from polishing, buffing, and sandblasting to
isotropic vibratory finishing of a variety of base metals. Our
processes are adaptable to batch, barrel, or tumbling and
racking methods of component handling. We can process parts up
to 60 inches in length. Our plating and finishing
capabilities include black oxide; passivate for stainless steel;
anodized aluminum offering clear, black, and various colors,
electrolytic nickel for steel, aluminum, brass, or copper;
barrel nickel; electroless nickel; chemical brightening;
stripping; zinc phosphate; chromate conversion coatings;
ultrasonic cleaning; and vibratory finishing processes
specializing in elimination of manual polishing requirements.
Our objective is to become a global leader in the safety,
security, protection, and sport businesses. Key elements of our
strategy to achieve this objective include the following:
We continually seek to enhance our existing products and to
introduce new products. During the last two fiscal years, we
have introduced 14 new revolver models and 19 new pistol models
including the launch of our M&P pistol designed for the
military and police and other law enforcement agencies. We also
introduced our first entry into the tactical rifle market with
our M&P15 rifle. We plan to continue to introduce new
products in fiscal 2007 in both the handgun and long gun
markets. Some of these new products will be intended for markets
and customers that we currently do not serve.
Historically, the largest portion of our business has resulted
from the sale of revolvers in the domestic sporting goods
market. With the introduction of the M&P pistol and a full
line of 1911 style pistols, we have significantly expanded the
breadth and quality of our pistol offerings. In fiscal 2007, we
will expand the M&P pistol line with additional calibers and
compact versions. The M&P pistol was designed specifically
for military and law enforcement, and we expect this new line to
help increase our share in those markets both within the
United States and internationally.
In fiscal 2006, we began our diversification efforts with our
entry into the tactical rifle market. We are evaluating the
other categories in the long gun market, such as hunting rifles
and shotguns. We are also evaluating other opportunities, such
as less lethal guns, ammunition, security systems, and homeland
defense products and services. Other products and services being
considered will be intended for other aspects of the safety,
security, protection, and sports markets.
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We are continuing our efforts to enhance our manufacturing
productivity in terms of added capacity, increased daily
production quantities, increased operational availability of
equipment, reduced overtime, and enhanced product quality. The
recent introduction of new production methods and additional
machinery has resulted in significant improvements in our
production. For example, we have been able to increase our
average daily handgun production from 922 in May 2004 to 1,914
in May 2006, while improving product quality, reducing waste,
and reducing overtime. We plan to continue to seek gains in
manufacturing efficiency.
We plan to capitalize on our well-known Smith & Wesson
brand name. We believe our brand name will enable us to offer
new products and services that we do not currently offer and to
achieve license revenue from third parties that believe our
brand name will facilitate the sale of their products or
services.
We plan to continue to emphasize customer satisfaction and
loyalty by offering high-quality products on a timely and
cost-effective basis and by offering customer training and
support.
We intend to develop and expand strategic relationships and
strategic acquisitions to enhance our ability to offer new
products and penetrate new markets.
Discontinued
Products and Services
We are focusing our business on what we consider to be
significant opportunities in the safety, security, protection,
and sport markets. During the fiscal year ended April 30,
2004, we discontinued our Crossings catalog business,
discontinued our Smith & Wesson Advanced Technology, or
SWAT division, and moved our corporate headquarters from
Scottsdale, Arizona to Springfield, Massachusetts. On
June 3, 2004, we entered into a Purchase and License
Agreement with Copia Partners, LLC, an Arizona limited liability
company controlled by two former employees. Pursuant to the
Agreement, we sold to Copia all of our intellectual property
used in connection with Identi-Kit, a software-based facial
construction tool generally used in lieu of a police sketch
artist. This intellectual property includes, among other things,
the software, technical specifications and design documents, the
internet domain name, four U.S. trademark registrations on
the mark IDENTI-KIT, and 27 foreign registrations on the same
mark. The agreement also provides for a non-exclusive limited
license to use the SMITH & WESSON word mark and
monogram logo. The purchase price was $300,000, plus 6% of net
revenues from Identi-Kit products for 10 years.
We market our products primarily through creative distributor,
dealer, and consumer promotions; vertical print advertising in
magazines, such as Guns and Ammo, Shooting Times,
American Handgunner, Outdoor Life, and
Field & Stream; sponsorship of various shooting
events carried on cable television channels; and sponsorship of
a car in the NASCAR Busch Series. We print various catalogs
displaying our products that are distributed to our dealers and
mailed directly, on a limited basis, to end consumers. We also
attend various trade shows, such as the SHOT Show, the NRA Show,
the International Association of Chiefs of Police Show, the IWA
Show in Europe, and various buying group shows. We also receive
significant publicity through features in trade magazines. In
the fiscal year ended April 30, 2006, advertising and
promotion expenses amounted to approximately $7.4 million.
In fiscal 2006, we transitioned from a consumer sales force made
up of both direct employees and manufacturers representatives to
an all-direct employee sales force. We currently employ 41
direct sales people who service distributors, dealers, and law
enforcement agencies. As of April 30, 2006, we had 26
commercial distributors and 41 law enforcement distributors.
Five distributors accounted for a total of 27.7% of our net
product
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sales in the fiscal year ended April 30, 2006.
Historically, commercial and law enforcement distributors have
been primarily responsible for the distribution of our handguns
and restraints.
We also sell a significant amount of firearms directly to law
enforcement agencies. Our overseas sales are primarily made
through distributors, which in turn sell to retail stores and
government agencies.
We utilize our website, www.smith-wesson.com, to
market our products and services and provide information
regarding our company to customers, consumers, dealers,
distributors, and law enforcement agencies worldwide. We
recently upgraded our website and are exploring ways to enhance
our ability to utilize the website to provide additional
products and services to our customers.
We operate a retail store, including a commercial shooting
range, in Springfield, Massachusetts. Our store sells our
licensed accessories, branded products, apparel, handguns,
ammunition, and related shooting supplies.
We operate a toll free customer service number from
8:00 a.m. to 8:00 p.m. Eastern Time to answer
questions and resolve issues regarding our handgun products. In
addition, we offer a limited lifetime warranty program under
which we repair defects in material or workmanship in our
firearms products without charge for as long as the original
purchaser owns the handgun. We also maintain a number of
authorized warranty centers throughout the world and provide
both warranty and charge repair services at our Springfield,
Massachusetts facility.
Several of our registered trademarks, including the
“S&W®”
logo and script “Smith &
Wesson®,”
are well known throughout the world and have a reputation for
quality, value, and trustworthiness. As a result, licensing our
trademarks to third parties for use in products and services
provides us with an opportunity that is not available to many
other companies.
We plan to enhance our licensing program through the expansion
of our licensing personnel and the identification of additional
licensees. Our future plans include the expansion of our
licensing program to build greater awareness of the 150-plus
year old Smith & Wesson name and capitalize on the
goodwill developed through our historic American tradition by
expanding consumer awareness of licensed products.
We expect this further extension will provide added retail and
distribution channels, products, and markets for our licensed
goods and branded products. We believe that the use of and
capitalization of our brand through an increased licensing
program can leverage our historic reputation and increase
revenue with minimal risk exposure.
We are actively pursuing opportunities within the safety,
security, protection, and sport markets, including the following:
Our licensees are located throughout the world. As of
April 30, 2006, we licensed our Smith & Wesson
trademarks to 18 different companies that market products
complementing our products. In fiscal 2006, we signed agreements
with five new licensees and ended our relationship with six
licensees.
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The three principal new licensing arrangements in fiscal 2006
were Radiator Specialty Company, Sentry Group, and Joe Blow
Tees, Inc. The license agreement with Radiator Specialty
Company, an innovative developer, manufacturer, and distributor
of automotive chemicals, hardware, plumbing, and traffic safety
specialists since 1924, provides for Radiator to license the use
of the Smith & Wesson brand and logo on a new line of
gun cleaning products and related accessories. The license
agreement with Sentry Group, the world leader in residential and
light-commercial fire-resistance and security storage containers
and safes, provides for the use of the Smith & Wesson
brand and logo on a new line of large capacity safes. The
license agreement with Joe Blow Tees, Inc., a manufacturer and
marketer of high-quality apparel for such companies as General
Motors, Corvette, Ford, National Geographic, and Snap-On Tools,
provides for the license and use of the Smith & Wesson
brand name and logo to appear on a newly created line of
t-shirts, sweatshirts, and caps.
Licensing revenue in the fiscal years ended April 30, 2006,
April 30, 2005, and April 30, 2004 was approximately
$2.2 million, $1.8 million, and $1.6 million,
respectively.
We have two manufacturing facilities: a 530,323 square foot
facility located in Springfield, Massachusetts and a
38,115 square foot facility located in Houlton, Maine. We
conduct most of our firearms manufacturing and all of our
specialty services activities at our Springfield, Massachusetts
facility. We use our Houlton, Maine facility for the production
of .22 caliber pistols, the Walther PPK pistol, handcuffs, and
other restraint devices. Both of our facilities are ISO 9001
certified. We perform all assembly, inspection, and testing of
handguns manufactured at our manufacturing facilities. Each
handgun is test fired before shipment. Our major handgun
components are cut by computer-assisted machines, and we deploy
sophisticated automated testing equipment to assist our skilled
employees to ensure the proper functioning of our handguns.
We currently are operating on a three-shift,
40-hour
workweek basis. Currently, we have the capacity of producing
approximately 1,900 handguns per day. We seek to minimize
inventory costs through an integrated planning and production
system.
We believe we have a strong track record of manufacturing very
high-quality products with only a limited amount of recalls.
From time to time, we have experienced some manufacturing issues
with respect to some of our pistols and have had recalls of
pistols. Our most recent recalls occurred in August 2003 on the
SW1911 pistol and in June 2004 on the Model 329 Performance
Center revolver. In June 2004, we also recalled all of the P22
pistols sold in California in order to retrofit them to comply
with California law. The cost of these recalls was less than
$300,000, after tax.
Although we manufacture all major components for our revolvers
and pistols, we obtain certain parts, primarily magazines and
smaller parts, from third parties. All of our major suppliers
are U.S. based and include Carpenter Steel for raw steel,
Pioneer Tool for cutting tools, Tri-Town Precision Plastics for
polymer components, and Advanced Forming Technology and
Parmatech for metal-injected-molded components. The costs of
these materials are at competitive rates and could be obtained
from other suppliers if necessary.
Through our advanced products engineering department, we enhance
existing and develop new handgun products. In fiscal 2006, our
gross spending on research activities relating to the
development of new products was approximately $349,000. In
fiscal 2005, our gross spending on such research activities
amounted to approximately $386,000. Of this amount,
approximately $187,000 was reimbursed by the National Institute
of Justice based on grants received by us for development of an
authorized user-only firearm. As of April 30, 2006, we had
two employees engaged in research and development as part of
their responsibilities.
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We own numerous patents related to our revolvers, pistols, and
related products. We apply for patents and trademarks whenever
we develop new products or processes deemed commercially viable.
Historically, we have focused on primarily applying for utility
patents, but we are now also focusing on applying for design
patents when we believe that a particular handgun design has
merit worth protecting. Most recently, we have sought patent
protection for our new electronic “smart-gun,” which
is still under research and joint development with Remington
Arms Co., Inc. We have filed for 22 patents related to this
technology. We also filed for eight patents to protect our
polymer pistol, and we have filed for patents to protect
production of revolvers manufactured from titanium and scandium.
We do not believe our patents are critical to our business.
Trademarks and copyrights also are important to our handgun
business and licensing activities. We have an active global
program of trademark registration and enforcement. We believe
that our SMITH & WESSON trademark and our S&W
Monogram, registered in
1913-1914,
and the derivatives thereof are known and recognized by the
public worldwide and are very valuable assets. With the return
of our company to American ownership, we have renewed our
emphasis on strengthening our product branding and realize that
the reputation developed by the use of our name for over
150 years is helpful to leverage our reputation and image
among the general public. Many of the products we sell derive
higher margins as a result of our brand name.
In addition to our name and derivations thereof, we have
numerous other trademarks, service marks, and logos registered
both in the United States and abroad. Many of our products are
introduced to the market with a particular brand name associated
with them. Sometimes, we collaborate with other companies, such
as to develop ammunition suitable for a newly introduced
revolver or pistol. Some of our better known trademarks and
service marks include the following:
We intend to vigorously pursue and challenge any violations of
our trademarks, copyrights, or service marks, as we believe the
goodwill associated with them is a cornerstone of our branding
and licensing strategy.
The firearms industry is dominated by a small number of
well-known companies. We encounter competition from both
domestic and foreign manufacturers. Some competitors manufacture
both revolvers and pistols while the majority manufacture only
pistols. Based upon the reports most recently available from the
Bureau of Alcohol, Tobacco and Firearms, or ATF, we are the
largest U.S. manufacturer of revolvers, the third largest
U.S. manufacturer of pistols, and the largest
U.S. exporter of handguns. Our primary competitors are
Ruger and Taurus in the revolver market and Ruger, Glock, Sig
Sauer, and Beretta in the pistol market. We compete primarily
based upon product quality, reliability, price, performance, and
service. Our customer service organization is proactive in
offering timely responses to customer inquiries.
Peerless Handcuff Company is the only major handcuff
manufacturer with significant market share in the United States
that directly competes with us. As a result of competitive
foreign pricing, we sell more than 90% of our handcuffs and
restraints in the United States.
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We sell our products and services through a variety of
distribution channels. Depending upon the product or service,
our customers include distributors, state and municipal law
enforcement agencies and officers, retail accounts, and
consumers.
The ultimate users of our products include gun enthusiasts,
collectors, sportsmen, hunters, law enforcement personnel and
agencies, and other governmental organizations. During during
fiscal year 2006 approximately 14% of our sales are to state and
local law enforcement agencies and the federal government;
approximately 11% are sold internationally; and the remaining
approximately 75% are sold through the highly regulated
distribution channel to domestic consumers. Our domestic sales
are made to distributors that sell to licensed dealers that in
turn sell to the end user. In some cases, we sell directly to
large dealers.
We are regulated by the Bureau of Alcohol, Tobacco and Firearms,
or ATF, which licenses the manufacture and sale of firearms. ATF
conducts periodic audits of our facilities. The U.S. State
Department oversees the export of firearms, and we must obtain
an export permit for all international shipments.
There are also various state and local regulations relating to
firearm design and distribution. In Massachusetts, for example,
there are regulations related to the strength of the trigger
pull, barrel length, and the makeup of the material of the gun.
California has similar regulations, but also requires that each
new model be sampled by an independent lab before being approved
for sale within the state. Warning labels related to operation
of the handgun are contained in all boxes in which the weapons
are shipped. With respect to state and local regulations, the
local gun dealer is required to comply with those laws and we
seek to manufacture weapons complying with those specifications.
On March 17, 2000, we, the U.S. Department of the
Treasury, and the U.S. Department of Housing and Urban
Development, or HUD, signed a settlement agreement that was
subsequently signed by two states and 11 cities and
counties. The agreement imposed various terms and conditions
related to the design, manufacture, marketing, and distribution
of our handguns. Although the agreement has not been formally
rescinded, we do not believe that the agreement is legally
binding for numerous reasons. We have received confirmation that
HUD will not seek to enforce the agreement. Additionally, among
other terms, the agreement provided that any city or county that
was a party to the agreement and had a lawsuit pending against
us would dismiss us with prejudice from the lawsuit subject to a
consent order. As of March 17, 2000, lawsuits had been
filed against us by nine of the 11 cities and counties that
signed the agreement. None of those nine cities and counties has
dismissed us with prejudice from its lawsuit subject to a
consent order under the agreement. No assurance can be given,
however, that our position that this agreement is not legally
binding would ultimately prevail in any subsequent litigation on
this issue. If ultimately required to comply with the agreement,
it could have a harmful impact on our handgun sales particularly
because none of our competitors is bound by similar agreements.
We are involved in an effort to rescind the HUD agreement.
We are subject to numerous federal, state, and local laws that
regulate or otherwise relate to the protection of the
environment, including those governing pollutant discharges into
the air and water, managing and disposing of hazardous
substances, and cleaning up contaminated sites. Some of our
operations require permits and environmental controls to prevent
or reduce air and water pollution. These permits are subject to
modification, renewal, and revocation by the issuing authorities.
Environmental laws and regulations generally have become
stricter in recent years, and the cost to comply with new laws
may be greater than we estimate. Several of the more significant
federal laws applicable to our operations include the Clean Air
Act, the Clean Water Act, the Comprehensive Environmental
Response, Compensation and Liability Act, or CERCLA, and the
Solid Waste Disposal Act, as amended by the Resource
Conservation and Recovery Act, or RCRA. CERCLA, RCRA, and
related state laws can impose liability for the entire cost of
cleaning up contaminated sites upon any of the current and
former site owners or operators or parties that sent waste to
these sites, regardless of location, fault, or the lawfulness of
the original disposal activity.
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In our efforts to satisfy our environmental responsibilities and
to comply with environmental laws and regulations, we have
established, and periodically update, policies relating to the
environmental standards of performance for our operations. We
maintain programs that monitor compliance with various
environmental regulations. However, in the normal course of our
manufacturing operations, we may be subject to governmental
proceedings and orders pertaining to waste disposal, air
emissions, and water discharges from our operations into the
environment. We regularly incur substantial capital and
operating costs to comply with environmental laws, including
remediation of known environmental conditions at our main plant
in Springfield, Massachusetts. We spent approximately $563,000
in the fiscal year ended April 30, 2006 on environmental
compliance, comprising approximately $304,000 for disposal fees
and containers, $199,000 for remediation, $30,000 for DEP
analysis and fees, and $30,000 for air filtration maintenance.
Although we have potential liability with respect to the future
remediation of certain pre-existing sites, we believe that we
are in substantial compliance with applicable material
environmental laws, regulations, and permits.
We may become involved in various proceedings relating to
environmental matters, and we are engaged in environmental
investigation and remediation at one site. Our manufacturing
facilities are located on properties with a long history of
industrial use, including the use of hazardous substances. We
have identified soil and groundwater contamination at our
Springfield plant that we are investigating, monitoring, or
remediating.
We have provided reserves for potential environmental
obligations that we consider probable and for which reasonable
estimates of such obligations can be made. As of April 30,
2006, we had a reserve of $603,274 for environmental matters
that is recorded on an undiscounted basis. Environmental
liabilities are considered probable based upon specific facts
and circumstances, including currently available environmental
studies, existing technology, enacted laws and regulations,
experience in remediation efforts, direction or approval from
regulatory agencies, our status as a potentially responsible
party, or PRP, and the ability of other PRPs, if any, or
contractually liable parties to pay the allocated portion of any
environmental obligations. We believe we have adequately
provided for the reasonable estimable costs of known
environmental obligations. However, the reserves will be
periodically reviewed and increases or decreases to these
reserves may occur due to the specific facts and circumstances
previously noted.
We do not expect that the liability with respect to such
investigation and remediation activities will have a material
adverse effect on our liquidity or financial condition. However,
we cannot be sure that we have identified all existing
environmental issues related to our properties or that our
operations will not cause environmental conditions in the
future. As a result, we could incur additional material costs to
address cleanup of the environmental conditions.
In February 2003, we sold approximately 85 acres of our
135-acre Springfield
property for $1.75 million. The 85 acres have known
environmental liabilities related to past operating practices,
and the sales price reflected those issues. The buyer, the
Springfield Redevelopment Authority, or the SRA, is an agency of
the city of Springfield and had obtained governmental grants to
help defray costs related to the property. At the time of the
sale, we did not decrease our reserves as we were waiting for
the remediation (which would eliminate any potential liability)
to be completed. Remediation was completed by the SRA in May
2005 and we reduced our environmental reserves by
$3.1 million in the quarter ended July 31, 2005.
As of June 30, 2006, we had 832 full-time employees.
Of our employees, 705 are engaged in manufacturing, 64 in
sales and marketing, 22 in finance and accounting, 12 in
information services, six in our retail and sports center, and
23 in various executive or other administrative functions. None
of our employees is represented by a union in collective
bargaining with us. Approximately 52% of our employees have 10
or more years of service with our company, and approximately 40%
have greater than 25 years of service. We believe that our
employee relations are good.
As of April 30, 2006, we had a backlog of orders of
approximately $42.1 million. The backlog of orders as of
April 30, 2005 was approximately $22.8 million. Our
backlog consists of orders for which purchase orders have
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been received and which are scheduled for shipment within six
months. Our backlog as of a particular date may not be
indicative of net sales for any succeeding period. The increase
in our backlog as of April 30, 2006 was primarily
attributable to the most recent Sigma order for Afghanistan and
the M&P pistol and M&P15 rifle, which were introduced
during the second half of fiscal 2006.
The following table sets forth certain information regarding our
executive officers:
Michael F. Golden has served as the President and Chief
Executive Officer and a director of our company since December
2004. Mr. Golden was employed in various executive
positions with the Kohler Company from February 2002 until
joining our company, with his most recent position being the
President of its Cabinetry Division. Mr. Golden was the
President of Sales for the Industrial/Construction Group of the
Stanley Works Company from 1999 until 2002; Vice President of
Sales for Kohler’s North American Plumbing Group from 1996
until 1998; and Vice President — Sales and
Marketing for a division of Black and Decker where he was
employed from 1981 until 1996.
John A. Kelly has served as Chief Financial Officer and
Treasurer of our company since February 2004. Mr. Kelly
served as Vice President-Finance and Chief Financial Officer of
our wholly owned subsidiary, Smith & Wesson Corp., from
August 1994 until February 2004. From October 1984 to July 1994,
Mr. Kelly served at Smith & Wesson Corp. in a variety
of finance and accounting positions, including Accounting
Manager and Director of Accounting.
Leland A. Nichols has served as Vice
President — Sales of our company since January
2005. Mr. Nichols also has served as the Chief Operating
Officer of our subsidiary, Smith & Wesson Corp., since
April 2006. Mr. Nichols was Executive Vice President of the
Cabinetry Division of the Kohler Company from July 2002 until
joining our company. Mr. Nichols held various executive
positions with the Stanley Works from April 1998 until June
2002, including President of its Hardware Division.
Mr. Nichols spent the previous 14 years with the
Black & Decker Corporation, including positions in
sales, marketing, product management, and general management in
the United States and Asia.
Thomas L. Taylor has served as Vice
President — Marketing of our company since July
2004. Prior to joining our company, Mr. Taylor served for
more than 24 years in various sales and marketing positions
with the
Coca-Cola
Company and Frito-Lay. Prior to joining our company,
Mr. Taylor was Vice President — Sales and
Marketing for
Coca-Cola
Enterprises, New England Division.
Kenneth W. Chandler has served as Vice
President — Operations of our company since
November 2004. Mr. Chandler was Vice
President — Operations — Automotive
Division of Torrington Bearing Company, formerly a subsidiary of
Ingersoll Rand and now a subsidiary of the Timkin Company, from
2001 until joining our company.
Ann B. Makkiya has served as Secretary and Corporate
Counsel of our company since February 2004. Ms. Makkiya
served as Corporate Counsel of our wholly owned subsidiary,
Smith & Wesson Corp., from December 2001 until February
2004. Ms. Makkiya was associated with the law firm of
Bulkley, Richardson and Gelinas, LLP from 1998 to 2001.
On December 2, 2004, without admitting or denying the
charges against him, Thomas Taylor consented to an order of the
Securities and Exchange Commission (“SEC”)
Administrative Law Judge to cease and desist from committing or
causing violations of the SEC’s books and records
provisions, Section 13(a) of the Securities Exchange Act of
1934 and
Rules 13a-1,
12b-20 and
13b2-1 thereunder, and agreed to pay a civil penalty in the
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amount of $25,000. Mr. Taylor’s settlement arose out
of the SEC’s investigation of whether or not the Kmart
Corporation issued materially false financial statements for the
fiscal year ended December 31, 2001, by improperly
accounting for allowances obtained from its vendors for various
promotional and marketing activities. Mr. Taylor was
Frito-Lay’s Director of Sales in charge of the Kmart snack
account during the relevant period. Frito-Lay is a subsidiary of
PepsiCo, Inc. In entering into that settlement, Mr. Taylor
neither admitted, nor denied, the allegations of the SEC.
You should carefully consider the following risk factors, as
well as other information in this report, in evaluating our
company and our business.
We have expanded our business objective to become a leader in
the business of safety, security, protection, and sport. This
objective is designed to enable us to increase our business
significantly and reduce our traditional dependence on handguns
in general, and revolvers in particular, in the sporting gun
market. Pursuing our strategy to achieve this objective will
require us to hire additional managerial, licensing,
manufacturing, marketing, and sales employees; to introduce new
products and services, which may include shotguns and other
firearms products; to purchase additional machinery and
equipment; to expand our distribution channels; to expand our
customer base to include a leadership position in sales to law
enforcement agencies and the military; and to engage in
strategic alliances and acquisitions. We may not be able to
attract and retain the additional employees we require, to
introduce new products that attain significant market share, to
increase our law enforcement and military business, or to
penetrate successfully other safety, security, protection, and
sport markets.
A key element of our strategy is to enhance our manufacturing
productivity in terms of added capacity, increased daily
production quantities, lower machinery down time, extension of
machinery useful life, and enhanced product quality. From May
2004 until May 2006, we increased our daily production of
handguns from 922 to 1,914. There can be no assurance that we
will be able to continue the increases in our manufacturing
productivity.
We are currently defending several lawsuits brought by various
cities and counties against us and numerous other manufacturers
and distributors arising out of the design, manufacture,
marketing, and distribution of handguns. In these lawsuits, the
various governments seek to recover substantial damages, as well
as various types of injunctive relief that, if granted, could
affect the future design, manufacture, marketing, and
distribution of handguns by the defendant manufacturers and
distributors. Although the defense of these lawsuits has been
successful to date, we cannot predict the outcome of these
lawsuits.
We believe we are the only gun manufacturer to enter into
settlement agreements with the city of Boston, the Boston Public
Health Commission, and the U.S. Department of Housing and
Urban Development, or HUD, relating to the manner of selling
handguns. Adverse publicity regarding the settlement agreements
resulted in a boycott by certain of our dealers and customers. A
number of dealers stopped carrying our products altogether, and
many long time customers began purchasing products from our
competitors. Our settlement agreement with the Boston
authorities was vacated on April 8, 2002, and the HUD
settlement is not being enforced. However, we are still seeking
to recover fully from the consumer boycott.
The settlement agreement dated March 17, 2000 between us,
the U.S. Department of the Treasury, and HUD has not been
formally rescinded. The HUD settlement placed substantial
restrictions and obligations on the operation of our business,
including restrictions on the design, manufacture, marketing,
and distribution of our firearm products. It was subsequently
signed by two states and 11 cities and counties.
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As of the signing of the HUD settlement, lawsuits had been filed
against us by nine of the 11 cities and counties that
signed the HUD settlement. Among other terms, the HUD settlement
provided that any city or county that was a party to the HUD
settlement and had a lawsuit pending against us would dismiss us
with prejudice from its lawsuit subject to a consent order.
We do not believe that the HUD settlement is legally binding for
numerous reasons, including that the lack of consideration
received by us for entering into the settlement. No assurance
can be given, however, that our position that the HUD settlement
is not legally binding would ultimately prevail in any
subsequent litigation. We have received confirmation that the
HUD settlement will not be enforced but have no indication that
the HUD settlement will be formally rescinded. If enforced,
these restrictions contained in the HUD settlement could
substantially impair our ability to compete, particularly since
none of our competitors is subject to such restrictions.
Insurance coverage for firearms companies, including our
company, is expensive and relatively difficult to obtain. Our
insurance costs were approximately $3.7 million in the
fiscal year ended April 30, 2006. Our inability to obtain
insurance, the cost of insurance we obtain, or losses in excess
of our insurance coverage would have a material adverse effect
on our business, financial condition, and operating results.
The SEC is conducting an investigation to determine whether
there were violations of the federal securities laws in
connection with matters relating to the restatement of our
consolidated financial statements for fiscal 2002 and the first
three quarters of fiscal 2003. Although we have fully cooperated
with the SEC in this matter, the SEC may determine that we have
violated federal securities laws. We cannot predict when this
investigation will be completed or its outcome. If the SEC
determines that we violated federal securities laws, we may face
sanctions, including monetary penalties and injunctive relief.
In addition, we are incurring legal costs for our company as
well as a result of reimbursement obligations for several of our
current and former officers.
We operate in intensely competitive markets that are
characterized by competition from major domestic and
international companies. This intense competition could result
in pricing pressures, lower sales, reduced margins, and lower
market share. Any movement away from high-quality, domestic
handguns to lower priced or comparable foreign alternatives
would adversely affect our business. Some of our competitors
have greater financial, technical, marketing, distribution, and
other resources and, in certain cases, may have lower cost
structures than we possess and that afford them competitive
advantages. As a result, they may be able to devote greater
resources to the promotion and sale of products, to negotiate
lower prices on raw materials and components, to deliver
competitive products at lower prices, and to introduce new
products and respond to customer requirements more effectively
and quickly than we can.
Competition is primarily based on quality of products, product
innovation, price, and customer service and support. Product
image, quality, and innovation are the dominant competitive
factors in the firearms industry.
Our licensed products and non-gun products displayed in our
catalogs and sold by our licensees or us compete based on the
goodwill associated with our name and brand. A decline in the
perceived quality of our handguns, a failure to design our
products to meet consumer preferences, or other circumstances
adversely affecting our reputation could significantly damage
our ability to sell or license those products.
Our licensed products compete with numerous other licensed and
non-licensed products outside the firearms market.
We depend to a great extent on the success of our independent
licensees in distributing non-gun products. It is uncertain
whether the licensees we select will ultimately succeed in their
respective highly competitive markets.
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Our ability to compete successfully depends on a number of
factors, both within and outside our control. These factors
include the following:
Our Springfield, Massachusetts facility is critical to our
success. We currently produce the majority of our handguns at
this facility. The facility also houses our principal research,
development, engineering, design, shipping, sales, accounting,
finance, and management functions. Any event that causes a
disruption of the operation of the facility for even a
relatively short period of time would adversely affect our
ability to produce and ship our products and to provide service
to our customers. We are in the process of making certain
changes in our manufacturing operations and modernizing our
equipment as a result of the age of the facility and certain
inefficient manufacturing processes in order to produce our
anticipated volume of products in a more efficient and
cost-efficient manner. We may not be successful in attaining
increased production efficiencies.
The inability to obtain sufficient quantities of raw materials,
components, and other supplies from independent sources
necessary for the production of our products could result in
reduced or delayed sales or lost orders. Any delay in or loss of
sales could adversely impact our operating results. Many of the
materials used in the production of our products are available
only from a limited number of suppliers. In most cases, we do
not have long-term supply contracts with these suppliers. As a
result, we could be subject to increased costs, supply
interruptions, and difficulties in obtaining materials. Our
suppliers also may encounter difficulties or increased costs in
obtaining the materials necessary to produce their products that
we use in our products. The time lost in seeking and acquiring
new sources could hurt our net sales and profitability.
To remain competitive, we must make significant investments in
systems, equipment, and facilities. In addition, we may commit
significant funds to enhance our sales, marketing, and licensing
efforts in order to expand our business. As a result of the
increase in fixed costs and operating expenses, our failure to
increase sufficiently our net sales to offset these increased
costs would adversely affect our operating results.
The failure to manage our growth effectively could adversely
affect our operations. We have substantially increased the
number of our manufacturing and design programs and plan to
expand further the number and diversity of our programs in the
future. Our ability to manage our planned growth effectively
will require us to:
The expansion and diversification of our products and customer
base may result in increases in our overhead and selling
expenses. We also may be required to increase staffing and other
expenses as well as our expenditures on capital equipment and
leasehold improvements in order to meet the demand for our
products. Any increase in expenditures in anticipation of future
sales that do not materialize would adversely affect our
profitability.
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From time to time, we may seek additional equity or debt
financing to provide funds for the expansion of our business. We
cannot predict the timing or amount of any such financing
requirements at this time. If such financing is not available on
satisfactory terms, we may be unable to expand our business or
to develop new business at the rate desired and our operating
results may suffer. Debt financing increases expenses and must
be repaid regardless of operating results. Equity financing
could result in additional dilution to existing stockholders.
Various factors contribute to significant periodic and seasonal
fluctuations in our results of operations. These factors include
the following:
Accordingly, you should not rely on the results of any period as
an indication of our future performance. If our operating
results fall below expectations of securities analysts or
investors, our stock price may decline.
We anticipate that we will continue to enter into strategic
alliances. Among other matters, we continually explore strategic
alliances designed to expand our product offerings, enter new
markets, and improve our distribution channels. Any strategic
alliances may not achieve their intended objectives, and parties
to our strategic alliances may not perform as contemplated. The
failure of these alliances may impede our ability to introduce
new products and enter new markets.
We expect to review opportunities to acquire other businesses
that would complement or expand our current products, expand the
breadth of our markets, or otherwise offer growth opportunities.
While we have no current definitive agreements underway, we may
acquire businesses and products in the future. If we make any
future acquisitions, we could issue stock that would dilute
existing stockholders’ percentage ownership, incur
substantial debt, or assume contingent liabilities. Our
experience in acquiring other businesses is limited. Potential
acquisitions also involve numerous risks, including the
following:
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We may not be successful in overcoming problems encountered in
connection with any acquisitions, and our inability to do so
could disrupt our operations and reduce our profitability.
Our success and ability to compete depend in part on our ability
to protect our intellectual property. We rely on a combination
of patents, copyrights, trade secrets, trademarks,
confidentiality agreements, and other contractual provisions to
protect our intellectual property, but these measures may
provide only limited protection. Our failure to enforce and
protect our intellectual property rights or obtain the right to
use necessary intellectual property from third parties could
reduce our sales and increase our costs. In addition, the laws
of some foreign countries do not protect proprietary rights as
fully as do the laws of the United States.
Patents may not be issued for the patent applications that we
have filed or may file in the future. Our issued patents may be
challenged, invalidated, or circumvented, and claims of our
patents may not be of sufficient scope or strength, or issued in
the proper geographic regions, to provide meaningful protection
or any commercial advantage. We have registered certain of our
trademarks in the United States and other countries. We may be
unable to enforce existing or obtain new registrations of
principle or other trademarks in key markets. Failure to obtain
or enforce such registrations could compromise our ability to
protect fully our trademarks and brands and could increase the
risk of challenge from third parties to our use of our
trademarks and brands.
In the past, we did not consistently require our employees and
consultants to enter into confidentiality agreements, employment
agreements, or proprietary information and invention agreements,
however such agreements are now required. Therefore, our former
employees and consultants may try to claim some ownership
interest in our intellectual property and may use our
intellectual property competitively and without appropriate
limitations.
We may become involved in litigation regarding patents and other
intellectual property rights. Other companies, including our
competitors, may develop intellectual property that is similar
or superior to our intellectual property, duplicate our
intellectual property, or design around our patents and may have
or obtain patents or other proprietary rights that would
prevent, limit, or interfere with our ability to make, use, or
sell our products. Effective intellectual property protection
may be unavailable or limited in some foreign countries in which
we sell products or from which competing products may be sold.
Unauthorized parties may attempt to copy or otherwise use
aspects of our intellectual property and products that we regard
as proprietary. Our means of protecting our proprietary rights
in the United States or abroad may prove to be inadequate and
competitors may be able to independently develop similar
intellectual properties. If our intellectual property protection
is insufficient to protect our intellectual property rights, we
could face increased competition in the market for our products.
Should any of our competitors file patent applications or obtain
patents that claim inventions also claimed by us, we may choose
to participate in an interference proceeding to determine the
right to a patent for these inventions because our business
would be harmed if we fail to enforce and protect our
intellectual property rights. Even if the outcome is favorable,
this proceeding could result in substantial cost to us and
disrupt our business.
In the future, we also may need to file lawsuits to enforce our
intellectual property rights, to protect our trade secrets, or
to determine the validity and scope of the proprietary rights of
others. This litigation, whether successful or unsuccessful,
could result in substantial costs and diversion of resources,
which could have a material adverse effect on our business,
financial condition, and operating results.
Political and economic conditions abroad may result in a
reduction of our foreign sales, as a result of the sale of our
products in 50 countries and our importation of firearms from
Walther, which is based in Germany, and carbon and stainless
steel from suppliers in Great Britain and Italy, including
Osborn Steel Extrusion Limited in Great Britain, and Calvi
Special Steel Profiles S.P.A. and Stainless Bars S.A. in Italy.
Protectionist trade legislation in
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either the United States or foreign countries, such as a change
in the current tariff structures, export or import compliance
laws, or other trade policies, could reduce our ability to sell
our products in foreign markets, the ability of foreign
customers to purchase our products, and our ability to import
firearms and parts from Walther and other foreign suppliers.
While we transact business predominantly in U.S. dollars and
bill and collect most of our sales in U.S. dollars, a portion of
our revenue resulted from goods that were purchased, in whole or
in part, from a European supplier, in euros, thereby exposing us
to some foreign exchange fluctuations. In the future, customers
or suppliers may make or require payments in non-U.S.
currencies, such as the euro.
Fluctuations in foreign currency exchange rates could affect the
sale of our products or the cost of goods and operating margins
and could result in exchange losses. In addition, currency
devaluation can result in a loss to us if we hold deposits of
that currency. Hedging foreign currencies can be difficult,
especially if the currency is not freely traded. We cannot
predict the impact of future exchange rate fluctuations on our
operating results.
We do not enter into any market risk sensitive instruments for
trading purposes. Our principal market risk relates to changes
in the value of the euro relative to the U.S. dollar. Annually,
we purchase approximately $10 million of inventory from a
European supplier. This exposes us to risk from foreign exchange
rate fluctuations. A 10% drop in the value of the U.S. dollar in
relation to the euro would, to the extent not covered through
price adjustments, reduce our gross profit on that
$10 million of inventory by approximately $1 million.
In an effort to offset our risks from unfavorable foreign
exchange fluctuations, we entered into euro participating
forward options under which we purchase euros to be used to pay
the European manufacturer.
Our foreign sales of handguns and our importation of handguns
from Walther create a number of logistical and communications
challenges. These activities also expose us to various economic,
political, and other risks, including the following:
Changes in policies by the United States or foreign governments
resulting in, among other things, increased duties, higher
taxation, currency conversion limitations, restrictions on the
transfer or repatriation of funds, or limitations on imports or
exports also could have a material adverse effect on us. Any
actions by foreign countries to reverse policies that encourage
foreign trade also could adversely affect our operating results.
In addition, U.S. trade policies, such as “most favored
nation” status and trade preferences, could affect the
attractiveness of our services to our U.S. customers.
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We are self-insured for our employee medical plan. The average
age of our workforce is 47 years. More than 11% of our
employees are over age 60. While our medical costs in
recent years have generally increased at the same level as the
regional average, the age of our workforce could result in
higher than anticipated medical claims, resulting in an increase
in our costs beyond what we have experienced. We do have stop
loss coverage in place for catastrophic events, but the
aggregate impact may have an effect on profitability.
Our business is seasonal. Historically, our fiscal quarter
ending July 31 has been our weakest quarter. We believe that
this downturn in sales occurs primarily as a result of customers
pursuing other sporting activities outdoors with the arrival of
more temperate weather and the reduced disposable income of our
customers after using their tax refunds for purchases in March
and April, historically our strongest months. Generally, we do
not experience any significant increase in demand until
immediately prior to the opening of hunting season in the fall.
This decline in net sales may result in decreases in our stock
price during the summer months.
Our business, as well as the business of all producers and
marketers of firearms and firearms parts, is subject to numerous
federal, state, and local laws and governmental regulations and
protocols, including the National Firearms Act, the Federal
Firearms Act, and the Gun Control Act of 1968. These laws
generally prohibit the private ownership of fully automatic
weapons and place certain restrictions on the interstate sale of
firearms unless certain licenses are obtained. We do not
manufacture fully automatic weapons, other than for the law
enforcement market, and hold all necessary licenses under these
federal laws. From time to time, congressional committees
consider proposed bills and various states enact laws relating
to the regulation of firearms. These proposed bills and enacted
state laws generally seek either to restrict or ban the sale
and, in some cases, the ownership of various types of firearms.
We believe we are in compliance with all such laws applicable to
us and hold all necessary licenses. The regulation of firearms
could become more restrictive in the future and any such
restriction would harm our business. In June 2004, we recalled
Walter P22 pistols sold in California in order to retrofit them
to comply with California law.
We are subject to numerous federal, state, and local laws that
regulate or otherwise relate to the protection of the
environment, including the Clean Air Act, the Clean Water Act,
the Comprehensive Environmental Response, Compensation and
Liability Act, or CERCLA, and the Solid Waste Disposal Act, as
amended by the Resource Conservation and Recovery Act, or RCRA.
CERCLA, RCRA, and related state laws subject us to the potential
obligation to remove or mitigate the environmental effects of
the disposal or release of certain pollutants at our
manufacturing facilities and at third-party or formerly owned
sites at which contaminants generated by us may be located. This
requires us to make expenditures of both a capital and expense
nature.
In our efforts to satisfy our environmental responsibilities and
to comply with environmental laws and regulations, we maintain
policies relating to the environmental standards of performance
for our operations, and conduct programs to monitor compliance
with various environmental regulations. However, in the normal
course of our manufacturing operations, we may become subject to
governmental proceedings and orders pertaining to waste
disposal, air emissions, and water discharges into the
environment. We believe that we are generally in compliance with
applicable environmental regulations.
On February 25, 2003, we sold approximately 85 acres of
company-owned property in the city of Springfield, Massachusetts
to the Springfield Redevelopment Authority, or SRA. This
property is excess land adjacent to our manufacturing and office
facility. The 85 acres includes three of our five previously
disclosed release areas that have identified soil and
groundwater contamination under the Massachusetts Department of
Environmental Protection’s voluntary remediation program,
referred to as the Massachusetts Contingency Plan or MCP,
specifically the South Field, West Field, and Fire Pond. This
property was acquired by the SRA as a defined
“Brownfield” under CERCLA. We believe that the SRA
plans to create a light industrial and other commercial use
development park on the property. The SRA, with the support of
the city of Springfield, has received governmental
“Brownfield” grants
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or loans to facilitate the remediation and development of the
property. The remediation of the property was completed during
the quarter ended July 31, 2005.
We may not have identified all existing contamination on our
properties and we cannot predict whether our operations will not
cause contamination in the future. As a result, we could incur
additional material costs to clean up contamination. We will
periodically review the probable and reasonably estimable
environmental costs in order to update the environmental
reserves. Furthermore, it is not possible to predict with
certainty the impact on us of future environmental compliance
requirements or of the cost of resolution of future
environmental proceedings and claims, in part because the scope
of the remedies that may be required is not certain, liability
under federal environmental laws is joint and several in nature,
and environmental laws and regulations are subject to
modification and changes in interpretation. Additional or
changing environmental regulation may become burdensome in the
future, and any such development could have a material adverse
effect on us.
Colton R. Melby and Mitchell A. Saltz, each of whom is a
director and former executive officer of our company,
beneficially own approximately 12.7% and 9.8%, respectively, of
our common stock. These stockholders, acting together, would be
able to influence significantly all matters requiring approval
by our stockholders, including the election of directors. These
individuals may take certain actions even if other stockholders
oppose them. This concentration of ownership might also have the
effect of delaying or preventing a change of control of our
company even if such a change were in the best interests of
other stockholders.
Certain
provisions of our articles of incorporation and bylaws and
Nevada law make it more difficult for a third party to acquire
us and make a takeover more difficult to complete, even if such
a transaction were in the stockholders’ interest or might
result in a premium over the market price for the shares held by
our stockholders.
Our articles of incorporation, bylaws, and the Nevada General
Corporation Law contain provisions that may have the effect of
making more difficult or delaying attempts by others to obtain
control of our company, even when these attempts may be in the
best interests of our stockholders.
We also are subject to the anti-takeover provisions of the
Nevada General Corporation Law, which prohibits us from engaging
in a “business combination” with an “interested
stockholder” unless the business combination is approved in
a prescribed manner and prohibits the voting of shares held by
persons acquiring certain members of shares without obtaining
requisite approval. The statutes have the effect of making it
more difficult to effect a change in control of a Nevada company.
Our Stockholders’ Rights Plan may have the effect of
deterring, delaying, or preventing a change in control that
might otherwise be in the best interests of our stockholders. In
general and subject to certain exceptions as to existing major
stockholders, stock purchase rights issued under the Plan become
exercisable when a person or group acquires 15% or more of our
common stock or a tender offer or exchange offer of 15% or more
of our common stock is announced or commenced. After any such
event, our other stockholders may purchase additional shares of
our common stock at 50% of the then-current market price. The
rights will cause substantial dilution to a person or group that
attempts to acquire us on terms not approved by our board of
directors. The rights should not interfere with any merger or
other business combination approved by our board of directors
since the rights may be redeemed by us at $0.01 per stock
purchase right at any time before any person or group acquires
15% or more of our outstanding common stock. The rights expire
in August 2015.
Our Board of Directors has the legal power and authority to
determine the terms of an offering of shares of our capital
stock, or securities convertible into or exchangeable for these
shares, to the extent of our shares of authorized and unissued
capital stock.
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As of April 30, 2006, there were outstanding
39,310,543 shares of our common stock. Substantially all of
these shares are freely tradable without restriction or further
registration under the securities laws, unless held by an
“affiliate” of our company, as that term is defined in
Rule 144 under the securities laws. Shares held by
affiliates of our company, which generally include our
directors, officers, and certain principal stockholders, are
subject to the resale limitations of Rule 144 described
below.
In general, under Rule 144 as currently in effect, any
person or persons whose shares are aggregated for purposes of
Rule 144, who beneficially owns restricted securities with
respect to which at least one year has elapsed since the later
of the date the shares were acquired from us, or from an
affiliate of ours, is entitled to sell within any three-month
period a number of shares that does not exceed the greater of 1%
of the then outstanding shares of our common stock and the
average weekly trading volume in common stock during the four
calendar weeks preceding such sale. Sales under Rule 144
also are subject to certain
manner-of-sale
provisions and notice requirements and to the availability of
current public information about us. Rule 701, as currently
in effect, permits our employees, officers, directors, and
consultants who purchase shares pursuant to a written
compensatory plan or contract to resell these shares in reliance
upon Rule 144, but without compliance with specific
restrictions. Rule 701 provides that affiliates may sell
their Rule 701 shares under Rule 144 without
complying with the holding period requirement and that
non-affiliates may sell their shares in reliance on
Rule 144 without complying with the holding period, public
information, volume limitation, or notice provisions of
Rule 144. A person who is not an affiliate, who has not
been an affiliate within three months prior to sale, and who
beneficially owns restricted securities with respect to which at
least two years have elapsed since the later of the date the
shares were acquired from us, or from an affiliate of ours, is
entitled to sell such shares under Rule 144(k) without
regard to any of the volume limitations or other requirements
described above. Sales of substantial amounts of common stock in
the public market could adversely affect prevailing market
prices.
As of April 30, 2006, we had outstanding options to
purchase 2,908,167 shares of common stock under our stock
option plans and we had issued 744,902 of the
10,000,000 shares of common stock reserved for issuance
under our employee stock purchase plan. As of April 30,
2006, we also had outstanding warrants to purchase
1,320,000 shares of common stock. We have registered for
offer and sale the shares of common stock that are reserved for
issuance pursuant to our stock option plans and available for
issuance pursuant to the employee stock purchase plan as well as
the shares underlying the warrants. Shares covered by such
registration statements upon the exercise of stock options or
warrants or pursuant to the employee stock purchase plan
generally will be eligible for sale in the public market, except
that affiliates will continue to be subject to volume
limitations and other requirements of Rule 144. The
issuance or sale of such shares could depress the market price
of our common stock.
Many factors could affect the trading price of our common stock,
including the following:
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In addition, market demand for small-capitalization stocks, and
price and volume fluctuations in the stock market unrelated to
our performance, could result in significant fluctuations in
market price of our common stock. The performance of our common
stock could adversely affect our ability to raise equity in the
public markets and adversely affect the growth of our business.
We do not anticipate paying cash dividends in the foreseeable
future. Moreover, financial covenants under certain of our
credit facilities restrict our ability to pay dividends.
Item
1B. Unresolved Staff Comments
Not applicable.
We own two manufacturing facilities. Our principal facility
is an approximately 530,323 square foot plant located in
Springfield, Massachusetts. The other facility is a 38,115
square foot plant in Houlton, Maine. The Houlton facility is
primarily used to manufacture handcuffs, restraints, .22 caliber
pistols, and the Walther PPK, while the Springfield facility is
primarily used to manufacture our other pistols and revolvers.
We believe that each facility is in good condition and capable
of producing products at current and projected levels of demand.
In addition, we own a 56,869 square foot facility in Springfield
that we use for the Smith & Wesson Academy, a
state-accredited firearms training institution, a public
shooting facility, and a retail store.
We lease approximately 2,800 square feet of office space in
Scottsdale, Arizona, which houses our investor relations
department as well as offices for our Board of Directors. The
lease expires on December 31, 2010.
In February 2003, we sold approximately 85 acres of land to the
Springfield Redevelopment Authority. We had not developed that
property and it did not fit in our future plans. The parcel is
adjacent to the manufacturing facility in Springfield,
Massachusetts. The sales price was $1.75 million, which
included a down payment of $750,000 in cash at signing and a
20 year note for $1.0 million bearing an interest rate
of 6% due on March 1, 2022.
We believe that all our facilities are adequate for present
requirements and that our current equipment is in good condition
and is suitable for the operations involved.
No new cases of a material nature were filed against us during
the fiscal year ended April 30, 2006. The following
describes material updates to or resolution of cases previously
reported by us.
Cases
Dismissed Or Resolved
None
The rulings in the following cases are subject to certain
pending appeals:
Michael and Billie Sue Pavelka v. Beretta U.S.A. Corp.,
et al., in the Superior Court for the State of California,
for the County of Los Angeles. The complaint was filed on
October 18, 2005 and was served on our agent for service on
January 26, 2006. Plaintiffs are the parents of Matthew
Pavelka, a police officer killed in the line of duty on
November 15, 2003. The complaint alleges the firearms used
in the shooting included a Smith & Wesson firearm and
firearms of two other manufacturers. The complaint seeks
unspecified compensatory and punitive damages against the
manufacturers, a dealer, an alleged straw purchaser of one of
the firearms not manufactured by us, a shooter, the estate of a
second shooter, and numerous unnamed defendants. With respect to
the manufacturer defendants, plaintiffs assert claims for
negligence, negligent entrustment, and public nuisance. In
addition to the claim for compensatory and punitive damages, the
public nuisance count seeks an unspecified form of injunctive
relief. On March 14, 2006, we filed a motion to dismiss
based on the Protection of Lawful Commerce in Arms Act. On
May 19, 2006, the court granted our motion, dismissing the
case. Plaintiffs’ appeal period has not yet expired.
District of Columbia, et al. v. Beretta U.S.A. Corp., et
al., in the Superior Court for the District of Columbia. The
District of Columbia and nine individual plaintiffs seek an
unspecified amount of compensatory and exemplary
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damages and certain injunctive relief. On December 16,
2002, the Superior Court for the District of Columbia granted
defendants’ motion for judgment on the pleadings in its
entirety. On January 14, 2003, plaintiffs filed their
notice of appeal to the District of Columbia Court of Appeals.
The court of appeals issued its decision, which affirmed the
dismissal of plaintiffs’ common law negligence and public
nuisance claims, but reversed the dismissal of the statutory
strict liability count as to the individual plaintiffs. The
court also reversed the dismissal of the statutory strict
liability count as to the District of Columbia but only to the
extent that the District seeks subrogated damages for named
individuals for whom it has incurred medical expenses.
Plaintiffs and defendants each filed separate petitions for
rehearing on May 13, 2004. Oral argument was held before
the D.C. Court of Appeals on January 11, 2005. On
April 21, 2005, the D.C. Court of Appeals issued an opinion
affirming its earlier decision. On July 20, 2005,
defendants filed a Petition for Writ of Certiorari to the United
States Supreme Court. On October 3, 2005, the Supreme Court
denied defendants’ Petition for Certiorari. On
October 26, 2005, we filed our Answer to the Third Amended
Complaint. On October 27, 2005, defendants filed a Motion
for Judgment on the Pleadings based on the Protection of Lawful
Commerce in Arms Act. On November 10, 2005, a status
conference was held before Judge Brooke Hedge who set the
briefing schedule for defendants’ motion and stayed
discovery pending a decision on defendants’ motion.
Plaintiff’s opposition to defendants’ motion was filed
on December 19, 2005. Defendants’ reply was filed on
February 2, 2006. The United States Department of Justice
filed its brief defending the constitutionality of the
Protection of Lawful Commerce in Arms Act on January 30,
2006. Oral argument was held on March 10, 2006. On
May 22, 2006, the court granted defendants’ motion for
judgment on the pleadings and dismissed the case in its
entirety. On June 20, 2006, the Plaintiffs filed their
notices of appeal.
City of New York, et al. v. Arms Technology, Inc., et
al., in the United States District Court for the Eastern
District of New York. The complaint alleges that the defendants
have created, contributed to, and maintained a public nuisance
in the city of New York because of their allegedly negligent
marketing and distribution practices. Plaintiff seeks injunctive
relief. Defendants’ Petition for a Writ of Mandamus
requiring the recusal of Judge Weinstein was denied by the
Second Circuit Court of Appeals on May 21, 2004. On
April 8, 2004, the trial court denied plaintiff’s
Motion to Strike Defendants’ Jury Demands and granted
defendants a Seventh Amendment jury. On April 12, 2004, the
trial court denied defendants’ Motion to Dismiss. Our
Answer to the Second Amended Complaint was filed on May 17,
2004. On June 14, 2004, the court entered an order
releasing certain ATF trace data. On June 22, 2004,
Defendants filed a Motion to Certify the Court’s Order for
Interlocutory Appeal. On July 6, 2004, the court entered an
order denying an immediate separate appeal by Defendants. On
July 16, 2004, ATF filed a petition for Writ of Mandamus in
the Second Circuit Court of Appeals, seeking review of Judge
Weinstein’s June 14, 2004 order releasing certain
trace data. On August 24, 2004, the Second Circuit issued
an order denying ATF’s petition for Writ of Mandamus. On
September 20, 2004, the court entered a protective order
for confidential documents. Depositions of three of our former
employees were held in June of 2005. On October 26, 2005,
defendants filed a Motion to Dismiss based on the Protection of
Lawful Commerce in Arms Act (PLCA). On November 11, 2005,
the court stayed the November 28, 2005 trial date. On
December 2, 2005, the court denied defendants’ Motion
to Dismiss finding that PLCA is inapplicable to the claims
brought by plaintiff. The court certified the matter for
interlocutory appeal and continued the stay of the litigation
pending determination by the Second Circuit as to the
applicability of the legislation. On December 13, 2005,
defendants filed their appeal to the Second Circuit Court of
Appeals. On February 8, 2006, the District Court issued a
Rule to Show Cause as to why the case should not be dismissed
based on the language of the 2006 Appropriations Act, which
provides that ATF Trace Data shall not be admissible in civil
proceedings. A hearing was held before the court on
March 3, 2006 to address whether the court has authority to
consider the appropriations issue during the pendency of the
Second Circuit Appeal. On March 7, 2006, the court issued
an order finding that it retains jurisdiction and ordered the
parties to submit briefs by April 7, 2006 to address the
applicability and constitutionality of the Appropriations Act.
On March 7, 2006, the Second Circuit accepted
defendants’ appeal and issued a scheduling order.
Defendants filed their brief in support of the appeal on
May 8, 2006. Plaintiff filed its brief on July 6,
2006. On July 11, 2006, the New York Attorney General filed
an amicus brief supporting the City’s cross-appeal and
reversal of the portion of the district court’s decision
addressing the constitutionality of the PLCAA. Defendants will
have until August 7, 2006 to reply to plaintiff’s
brief. On April 27, 2006 during the pendency of the appeal,
Judge Weinstein issued an Order holding that the 2006
Appropriations Act did not preclude the admissibility of ATF
trace data in this proceeding. On May 11, 2006, defendants
filed a petition for permission to file an interlocutory appeal
on the April 27, 2006 Order. Plaintiff did not oppose
defendants’ petition to appeal the April 27, 2006
Order. The Second Circuit Court of Appeals has not yet ruled on
the defendants’ petition.
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Tenedora Tuma, S.A. v. Smith & Wesson Corp., in
the Civil and Commercial Court of the First District of the
Court of First Instance of the National District, Santo Domingo,
Dominican Republic. The plaintiff commenced this suit by
submitting a request for a preliminary reconciliation hearing.
After two preliminary reconciliation hearings, the
Reconciliation Committee issued a Certificate of Lack of
Agreement. Thereafter, a Summons and Notice of Claim was issued
to us on January 17, 2000. The plaintiff alleged we
terminated its distributor agreement without just cause and
sought damages of approximately $600,000 for alleged violations
of Dominican Republic Law 173 for the Protection of Importers of
Merchandise and Products. Briefing on the merits was completed
in the trial court in November 2002. On June 7, 2004, the
court granted our Motion to Dismiss in its entirety.
Notification of the judgment was filed on August 10, 2004.
On or about September 9, 2004, plaintiff purportedly
appealed the decision. On March 3, 2005, we were informed
that a hearing had been held in the Court of Appeals on
October 27, 2004, without notification to our counsel or us
and that the merits of plaintiff’s appeal have been taken
under advisement by that court. On June 23, 2005, a hearing
was held wherein we attempted to re-open the appeal based on the
lack of service of the appeal papers on us. On or about
November 11, 2005, the Court of Appeals rendered a final
decision. The Court refused plaintiff’s arguments on appeal
and upheld our petitions, confirming all aspects of the Judgment
rendered by the Court of First Instance in our favor. On
January 12, 2006, plaintiff appealed to the Supreme Court
in the Dominican Republic. Our response was filed on
February 10, 2006. No hearing has been scheduled to date.
The following describes the status of pending cases previously
reported by us.
City of Gary, Indiana, by its Mayor, Scott L. King
v. Smith & Wesson Corp., et al., in Lake
Superior Court, Indiana. Plaintiff’s complaint alleges
public nuisance, negligent distribution and marketing, and
negligent design and seeks an unspecified amount of compensatory
and punitive damages and certain injunctive relief.
Defendants’ motion to dismiss plaintiff’s complaint
was granted on all counts on January 11, 2001. On
September 20, 2002, the Indiana Court of Appeals issued an
opinion affirming the trial court’s dismissal of
plaintiff’s claims against the manufacturer defendants. On
December 23, 2003, the Indiana Supreme Court issued a
decision on plaintiff’s Petition to Transfer reversing the
decision of the court of appeals and remanding the case to the
trial court. The court held that plaintiff should be allowed to
proceed with its public nuisance and negligence claims against
all defendants and its negligent design claim against the
manufacturer defendants. We filed our answer to plaintiff’s
amended complaint on January 30, 2004. On November 23,
2005, defendants filed a Motion to Dismiss based on the
Protection of Lawful Commerce in Arms Act. Plaintiffs’
opposition to defendants’ motion to dismiss was filed on
February 22, 2006. Oral argument was held on May 10,
2006. No decision has issued to date. Trial is scheduled to
begin on June 15, 2009.
Peter Edward Fudali v. Smith & Wesson Corp.,
et. al., in the Frederick County Court in Maryland.
Plaintiff’s complaint was filed on March 4, 1999 and
stems from an incident that occurred on March 8, 1996. The
complaint alleges that our revolver discharged unexpectedly
while plaintiff was preparing to shoot the revolver in his
neighbor’s backyard, causing fragments of metal and burning
gunpowder to strike him in the forehead and eye. The complaint
asserts claims for negligence and strict liability and seeks
compensatory damages of $2.0 million dollars plus other
costs and fees. The court has entered an order granting summary
judgment in our favor; however, we are waiting for the
court’s ruling on certification of the dismissal as a final
order.
Oren Gorden v. Smith & Wesson Corp., et.
al., in the Territorial Court of the Virgin Islands,
District of St. Croix. The complaint was filed on
January 19, 2001 and seeks unspecified compensatory damages
for personal injuries allegedly sustained by Mr. Gorden.
The complaint alleges that Mr. Gorden’s
Smith & Wesson handgun malfunctioned and exploded when
he tried to load it. We filed an answer denying all allegations
of liability. On November 17, 2003, the firearm at issue in
this case was lost in transit by a commercial carrier while it
was being returned by us to plaintiff. On April 21, 2004,
the court denied our motion for summary judgment and extended
the pretrial deadlines. Mediation was conducted on
April 13, 2005. Expert discovery is ongoing. Trial has been
postponed. No new trial date has been scheduled by the court.
On October 26, 2005, President George W. Bush signed into
law the Protection of Lawful Commerce in Arms Act
(“PLCAA”). The PLCAA is designed to prohibit civil
liability actions from being brought or continued against
manufacturers, distributors, dealers, or importers of firearms
or ammunition for damages, injunctions, or other relief
resulting from the misuse of their products by others. The
legislation provides that any qualified civil liability action
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pending on the date of the enactment of the legislation shall be
immediately dismissed, and it precludes similar cases from being
brought in the future. The legislation excludes from the
definition of a qualified civil liability action any action for
death, physical injuries, or property damages resulting directly
from a defect in design or manufacture of the product when it is
used as intended or in a reasonably foreseeable manner, except
that where the discharge of the product was caused by a
volitional act that constituted a criminal offense, then such
action will be considered the sole proximate cause of any
resulting death, personal injuries or property damage. There
have been constitutional and other challenges to the legislation
in some of the pending cases, and there has yet to be an
appellate decision interpreting the constitutionality or
applicability of the PLCAA. Therefore, we cannot predict with
any certainty the impact that the PLCAA will ultimately have on
the pending cases.
Not applicable.
The following table sets forth the high and low sale prices of
our common stock for each quarter in our fiscal years ended on
April 30 indicated as reported on the American Stock Exchange.
On June 30, 2006, the last reported sale price of our
common stock was $8.22 per share. On June 30, 2006, there
were approximately 497 record holders of our common stock.
On July 7, 2006, our board of directors, through its
Nominations and Corporate Governance Committee, approved our
move from the American Stock Exchange to the Nasdaq Global
Select Market. We expect to begin trading on the Nasdaq Global
Select Market on July 20, 2006 under the symbol
“SWHC.”
We have never declared or paid cash dividends on our preferred
stock or our common stock. We currently plan to retain any
earnings to finance the growth of our business rather than to
pay cash dividends. Payments of any cash dividends in the future
will depend on our financial condition, results of operations,
and capital requirements as well as other factors deemed
relevant by our board of directors.
The remaining information called for by this item relating to
“Securities Authorized for Issuance under Equity
Compensation Plans” is reported in Item 15(a)(1),
note 17 to our consolidated financial statements.
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The selected financial data presented below is derived from our
consolidated financial statements and should be read in
connection with those statements.
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You should read the following discussion and analysis in
conjunction with our consolidated financial statements and
related notes contained elsewhere in this report. This
discussion contains forward-looking statements that involve
risks, uncertainties, and assumptions. Our actual results may
differ materially from those anticipated in these
forward-looking statements as a result of a variety of factors,
including those set forth under Item 1A “Risk
Factors” and elsewhere in this report.
Overview
Our fiscal 2006 net product and services sales of approximately
$157.9 million represented an increase of 27.4% over fiscal
2005. Firearms sales of approximately $147.4 million, our
core business, increased by 29.8%. Net income in fiscal 2006
increased by $3,452,623, or 65.8%, over fiscal 2005. There were
a number of initiatives that took place in fiscal 2006 that
contributed to this improvement in results, including the
following:
In August 2003, we amended various reports previously filed with
the SEC to modify certain accounting matters related to our
acquisition of Smith & Wesson Corp. We restated our
Form 10-KSB
Report for the fiscal year ended April 30, 2002 as well as
our
Form 10-QSB
Reports for the quarters ended July 31, 2001 and 2002,
October 31, 2001 and 2002, and January 31, 2002 and
2003. The
Form 10-KSB
Report for the fiscal year ended April 30, 2003 was filed
in December 2003 and included restated financial statements for
fiscal 2002. The amended
Form 10-QSB
Reports for the July and October quarters were filed in January
2004, and the amended
Form 10-QSB
Reports for the January quarters were filed in March 2004. The
SEC is conducting an informal inquiry regarding the
circumstances surrounding the restatement. We are cooperating
fully with the SEC in this inquiry. The inquiry is still ongoing.
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In fiscal 2005, we added several new senior managers to our
company, including a new Chief Executive Officer in December
2004. The new management team has been assessing our business,
including extensive market research about the Smith &
Wesson brand, the firearms market, and our competitors. Our
research has determined that the Smith & Wesson brand
stands for safety, security, protection, and sport. Our
management team has decided to focus its strategy around those
four items. All future ventures and licensing opportunities will
fit under the umbrella of safety, security, protection, and
sport. It is our view that opportunities for our company extend
beyond handguns. This belief is supported by brand research that
has identified several areas where the Smith & Wesson
brand has a strong recognition among prospective buyers. While
we will continue to focus on handguns, with an increased
emphasis on the military and law enforcement markets, we will
also look beyond handguns using safety, security, protection,
and sport as the guide for determining business expansion.
We are one of the largest handgun manufacturers in the world. We
offer one of the broadest lines of handguns in the industry. Our
product line consists of both revolvers and pistols. In fiscal
2006, we entered the long gun market with the introduction of
the M&P 15 rifles. We are also one of the largest
manufacturers of handcuffs and restraints in the United States.
We evaluate the performance of our business based upon operating
profit, which includes net sales, cost of sales, selling and
administrative expenses, and certain components of other income
and expense. We also use EBITDA (earnings before interest,
taxes, depreciation, and amortization) to evaluate our
performance. We evaluate our various product lines by such
measurements as cost per unit produced, units produced per day,
and incoming orders per day.
The handgun market in the United States has remained relatively
constant over the past 10 years. Handguns have been subject
to legislative actions in the past, and the market has reacted
to these actions. There was a substantial increase in sales in
the early 1990s during the period leading up to and shortly
after the enactment of the Brady Bill. In the 1992 through 1994
period, the U.S. handgun market increased by over 50%, as
consumers purchased handguns in fear of prohibition of handgun
ownership. The market levels returned to pre-1992 levels and
have remained relatively unchanged. Within the U.S. handgun
market, approximately 75% of the market is pistols and 25% is
revolvers. We are the largest manufacturer in the revolver
market and believe that we are the third largest manufacturer in
the pistol market.
There is very little market data available on the firearms
industry. Federal excise tax collections represent the best
measurement of U.S. market share. The U.S. Government issues
this information on a quarterly basis. By comparing our tax
payment to the reported collection, we can estimate our market
share. Based upon the most recent data, we believe that we have
approximately a 22% share of the U.S. consumer market for
handguns. This compares to 10% in the period just before we
acquired Smith & Wesson Corp. It also compares
favorably with market share figures of the 1990s when we had an
estimated 16% market share.
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Results
of Operations
Net
Product and Services Sales
The following table set forth certain information relative to
net product and services sales for the fiscal years ended
April 30, 2006, 2005, and 2004:
We recorded net product and services sales of $157,874,717 for
fiscal 2006, an increase of $33,910,744, or 27.4%, over fiscal
2005. Firearms sales increased by $33,875,064, or 29.8%. Total
handgun unit sales for fiscal 2006 were approximately 414,000
units, an increase of 28.2% over fiscal 2005 sales of
approximately 323,000 units. Non-firearm sales for fiscal 2006
increased by $35,680, or 0.3%, compared with fiscal 2005 as a
result of higher demand for handcuffs, partially offset by lower
Specialty Services sales.
Revolver sales increased by $7,420,175, or 13.7%, for fiscal
2006 to $61,441,295. The sale of small frame revolvers fueled
the increase in revolver sales. The increase in the number of
states passing concealed carry laws has increased demand for
smaller revolvers for personal protection. Sales of our extra
large frame revolvers were up slightly as a result of the
introduction of the Model 460 revolver. Our revolver order
backlog was $6,280,980 at April 30, 2006.
Pistol sales of $48,927,710 were $19,976,852, or 69.0% higher
than fiscal 2005. The increase in pistol sales was attributable
to Sigma pistol sales to the U.S. Government for the Afghanistan
National Police and Border Patrol, as well as the introduction
of the M&P pistol. Our pistol order backlog was $21,111,169
at April 30, 2006.
In January 2006 we introduced the M&P15 tactical rifle, our
first venture into the long-gun market. Sales for fiscal 2006
totaled $1,963,676, as production ramped up over the course of
the fourth quarter. Our rifle backlog was $8,188,834 at
April 30, 2006.
We are the exclusive U.S. distributor of Walther firearms.
Walther sales totaled $15,975,179 in fiscal 2006, a decrease of
$1,333,261, or 7.7%, compared with the previous fiscal year. The
decrease in Walther sales was attributable to lower demand for
the P99 pistol and G22 rifle. Sales of the PPK pistol that we
manufacture in Houlton, Maine were up by 12%, not including an
engraved 75th Anniversary Model. The Walther order backlog was
$3,445,409 at April 30, 2006.
Performance Center sales for fiscal 2006 increased by $734,936,
or 8.7%, to $9,219,736. Custom variations of the Model 500 and
Model 460 revolver were responsible for the increase in sales.
The Performance Center had an order backlog of $2,521,553 at
April 30, 2006.
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Engraving sales for fiscal 2006 increased by $4,304,683 to
$6,009,751. This 252.5% increase in sales results from our
emphasis on this very profitable segment of high-end,
high-margin engraved handguns.
Non-firearms sales increased by $35,680, or 0.3%, for fiscal
2006 as a result of higher handcuff sales, partially offset by
lower Specialty Services sales. Handcuff sales increased by
$824,909, or 19.4%, as a result of increased sales efforts.
Specialty Services sales reflected lower demand for forging and
heat-treating services.
Sales within the consumer market channel accounted for
approximately $119.1 million, a $17.5 million, or
17.2%, increase over fiscal 2005 consumer sales of approximately
$101.6 million. Sales to state and local and federal
government agencies were $21.2 million, a
$9.9 million, or 87.2%, increase over fiscal 2005.
International sales were $17.6 million, a
$6.7 million, or 61.1%, increase over fiscal 2005.
We recorded net product and services sales of $123,963,973 for
fiscal 2005, an increase of $6,071,466, or 5.2%, over fiscal
2004. Firearms sales increased by $11,277,896, or 11.0%. Total
handgun unit sales for fiscal 2005 were approximately 323,000
units, an increase of 7.7% over fiscal 2004 sales of
approximately 300,000 units. Non-firearm sales for fiscal 2005
declined by $5,206,430, or 33.4%, compared with fiscal 2004 as a
result of lower demand for handcuffs and our decision to exit
certain non-core businesses.
Revolver sales increased by $6,378,711, or 13.4%, for fiscal
2005 to $54,021,120. The continued success of the Model 500
revolver fueled the increase in revolver sales. We sold over
27,700 Model 500 revolvers in fiscal 2005, generating
approximately $17.6 million in sales. Our revolver order
backlog was $12,251,811 at April 30, 2005.
Pistol sales for fiscal 2005 of $28,950,858 were $2,011,102, or
7.5%, higher compared with fiscal 2004. The increase in pistol
sales was attributable to our aggressive pricing strategy on our
Sigma VE pistol. Sales of the SW1911 accounted for approximately
$3.8 million of the increase in pistol sales for fiscal
2004. The Sigma VE pistol sales increased from approximately
30,000 units for fiscal 2004 to approximately 46,000 units for
fiscal 2005, an increase in sales of $3.6 million.
Partially offsetting some of the gains in these two areas was a
decline in our traditional metal frame pistols and lower SW99
pistol sales. The higher cost of our traditional pistols puts us
at a competitive disadvantage, particularly against foreign
competitors whose labor costs are lower. Our pistol order
backlog was $6,082,826 at April 30, 2005.
Walther sales totaled $17,308,440 for fiscal 2005, an increase
of $129,257, or 0.8%, over the previous fiscal year. The
increase in Walther sales was attributable to the introduction
of the G22 rifle. The Walther order backlog was $1,977,404 at
April 30, 2005.
Performance Center sales increased by $1,099,246, or 14.9%, for
fiscal 2005 to $8,484,800. Custom variations of the Model 500
and SW1911 were responsible for the increase in sales. The
Performance Center had an order backlog of $2,120,714 at
April 30, 2005.
Engraving sales for fiscal 2005 increased by $1,419,891 over
fiscal 2004. We have increased our emphasis on this very
profitable segment of high-end, high-margin engraved handguns.
Non-firearms sales for fiscal 2005 declined by $5,206,430, or
33.4%, compared with fiscal 2004 sales as a result of lower
handcuff sales and the discontinuation of certain product lines
as part of our decision to focus more on the core business. The
decline in handcuff sales was a result of lower demand
domestically and competitive pressure from low-cost providers
internationally. In fiscal 2004, we closed our optics business
and sold the remaining inventory. Other sales for fiscal 2004
included $1,777,958 in optics sales. We also sold our Identi-Kit
business early in fiscal 2005. Fiscal 2004 other sales included
$469,786 relative to the Identi-Kit business.
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The following table sets forth certain information relative to
license revenue for the fiscal years ended April 30, 2006,
2005 and 2004:
License revenue for fiscal 2006 increased by $349,830, or 19.2%,
over fiscal 2005. The increase in license revenue was a result
of additional royalty payments following an audit that
determined that one of our licensees had underpaid the royalties
due to us. In fiscal 2005, we reached an agreement with one of
our licensees regarding termination of its agreement. The
licensee agreed to pay $175,000 as a buyout of future minimum
guaranteed payments. This one-time benefit did not recur in
fiscal 2006. We continue to focus on areas that have synergy
with our core products, our brand, and our customer base.
License revenue for fiscal 2005 increased by $201,949, or 12.4%,
over fiscal 2004. The increase in license revenue resulted from
new licensees added during the year.
The following table sets forth certain information regarding
cost of revenue and gross profit for the fiscal years ended
April 30, 2006, 2005, and 2004:
Gross profit for fiscal 2006 was $49,606,999, an $8,718,981, or
21.3%, increase over fiscal 2005. Gross profit as a percentage
of net revenue declined from 32.5% in fiscal 2005 to 31.0% in
fiscal 2006. Cost of revenue sold in fiscal 2005 included
approximately $4.1 million in favorable insurance-related
adjustments and reimbursement of defense costs previously paid
by us. The higher sales volume was responsible for the increase
in gross profit. Partially offsetting the increase from the
higher sales was increased depreciation expense and higher
utility costs. Depreciation expense included in cost of revenue
increased by $1,370,061 from $1,937,103 in fiscal 2005 to
$3,307,164 in fiscal 2006 as a result of the increased capital
expenditures over the past two years. Utility costs increased
substantially in the second half of fiscal 2006 as a result of
rising oil prices and the impact of Hurricane Katrina. Utility
costs charged to cost of revenue increased from $2,637,985 in
fiscal 2005 to $3,712,583 in fiscal 2006, a $1,074,598, or 40.7%
increase. Increases in the cost of raw materials were minimized
by a combination of alternative suppliers and process changes.
Warranty expense declined in fiscal 2006 by $276,356, or 18.0%,
from $1,539,400 in fiscal 2005 to $1,263,044 in fiscal 2006
despite the higher sales volume, reflecting lower cost of
revolver repairs.
Gross profit for fiscal 2005 increased by $1,758,103, or 4.5%,
over fiscal 2004. As mentioned above, cost of products and
services sold in fiscal 2005 included approximately
$4.1 million in favorable insurance related adjustments and
reimbursement of defense costs previously paid by us. Gross
profit as a percentage of net product sales and license revenue
declined from 32.7% in fiscal 2004 to 32.5% for fiscal 2005. The
decline in the gross margin percentage was attributable to a
number of factors. The substantial increase in capital
expenditures led to a significant increase in depreciation
expense. Depreciation expense included in cost of revenue
increased by $876,997 from $1,060,106 in fiscal 2004 to
$1,937,103 in fiscal 2005. In fiscal 2005, we also incurred an
additional $802,820 in manufacturing consulting fees relative to
studies of our manufacturing processes. In January 2005, we
moved several of our production departments to a seven-day
workweek. This required the hiring of approximately 25
additional production workers. We incurred an additional
$200,001 in costs in preparation for the move to a
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seven-day workweek. In addition, we incurred production
inefficiencies and higher than normal scrap as a result of the
start-up of
this new production schedule.
The following table sets forth certain information regarding
operating expenses for the fiscal years ended April 30,
2006, 2005, and 2004:
Operating expenses for fiscal 2006 increased by $5,355,653, or
18.0%, over fiscal 2005. Operating expenses were net of a
$3,087,810 reduction in our environmental reserves brought about
by the completion of remediation on property we had sold to the
city of Springfield in February 2003. The purchase and sale
agreement had called for remediation costs to be paid for by the
buyer. We maintained a reserve on our books until the
remediation was completed in May 2005. Spending before the
environmental adjustment increased by $8,443,463, or 28.4%.
Selling and marketing expenses increased by $2,964,732 for
fiscal 2006. We incurred $2,196,010 in additional salaries and
fringe benefits as a result of the expansion of our sales and
marketing efforts, including the switch to an all employee sales
force from a combination of direct sales personnel and
manufacturers’ representatives. We also incurred $638,635
in additional travel expense, primarily resulting from the
switch away from manufacturers’ representatives. We saved
$1,067,723 in commissions to independent sales representatives
as a result of the transition. We also incurred an additional
$1,201,459 in advertising expense as a result of promotional
costs related to the introduction of the M&P pistol, NASCAR
sponsorship, and higher co-op advertising costs related to the
increased sales volume.
General and administrative expenses for fiscal 2006 were
$5,373,485 higher than for the previous year. Salaries and
fringes increased by $2,615,563 over the previous year. This
number includes $1.75 million in senior and middle
management bonuses and $398,000 in payroll taxes related to
warrants exercised in September by two former officers. Stock
option expense was $2,139,693, an increase of $1,513,543 over
fiscal 2005 expense of $626,150. The increase in stock option
expense is primarily related to the increase in our stock price
and a full year impact of options granted to new employees
during the second half of fiscal 2005. We also incurred
approximately $1.2 million in consulting fees relative to
the implementation of the internal controls compliance and
reporting requirements of Section 404 of the Sarbanes-Oxley
Act of 2002.
Operating expenses for fiscal 2005 decreased by $4,612,199, or
13.4%, over fiscal 2004. Fiscal 2004 operating expenses included
$1,977,537 related to the disposed Crossings catalog and
advanced technology divisions, $1,000,931 related to the
restructuring costs relative to the closing our corporate office
in Scottsdale, $2,494,729 related to legal and accounting fees
relative to the restatement of our financial statements for
fiscal 2002 and the first three quarters of fiscal 2003 and the
SEC inquiry, for a total of $5,473,197 of expenses in fiscal
2004 that did not recur in fiscal 2005. Fiscal 2005 operating
expenses included $1,137,143 in recruiting and relocation
expenses for the Chief Executive Officer and several senior
management additions. This was an increase of $752,880 over
fiscal 2004 spending on recruiting and relocation. Stock option
expense, as calculated under SFAS 123(R), totaled $626,150
for fiscal 2005 compared with $819,507 for fiscal 2004. Profit
sharing expense of $2,403,019 in fiscal 2005 was $130,989 higher
compared with fiscal 2004 spending as a result of increased
profits.
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The following table sets forth certain information regarding
income from operations for the fiscal years ended April 30,
2006, 2005, and 2004:
Operating income was $14,544,319 for fiscal 2006, an increase of
$3,363,328, or 30.1%, compared with operating income of
$11,180,991 for fiscal 2005. The increase in operating income
was attributable to the higher sales volume, partially offset by
higher depreciation and utility expense as well as higher
spending in selling and marketing, and general and
administrative expenses. Fiscal 2006 included the $3,087,810
environmental reserve reduction, while fiscal 2005 included
$4.1 million in one-time insurance adjustments and refunds.
Operating income was $11,180,991 for fiscal 2005, an increase of
$6,370,302, or 132.4%, compared with operating income of
$4,810,689 for fiscal 2004. The increase in operating income was
primarily due to the $4.1 million in favorable insurance
adjustments and refunds as well as a reduction in operating
expenses. In fiscal 2004, there were a number of one-time
expenses totaling $5,473,197 that did not recur in fiscal 2005.
Other income totaled $745,577 for fiscal 2006 compared with
other expense of $120,373 for fiscal 2005, an $865,950
improvement. Included in other income was $462,358 in exchange
gains related to the purchase of inventory from Walther. We also
received a refund of $126,006 in industry dues.
Other expense totaled $120,373 for fiscal 2005 compared with
other expense of $1,302,959 for fiscal 2004. We realized a
$435,815 gain from the sale of our Identi-Kit business in fiscal
2005. Partially offsetting this gain was $682,927 in exchange
losses related to the purchase of inventory from Walther.
Interest income of $112,322 for fiscal 2006 was a decline of
$177,879 from fiscal 2005 due to a refinancing that occurred in
January 2005. Approximately $22.7 million in cash was held
as collateral for our debt prior to the January 2005
refinancing. This cash was used to repay debt as part of the
refinancing. Interest income of $290,201 for fiscal 2005
represented a decline of $28,667 compared with $318,868 in
fiscal 2004 due to reduced cash available for investment.
The following table sets forth certain information regarding
interest expense for the fiscal years ended April 30, 2006,
2005, and 2004:
Interest expense declined by $1,037,351 in fiscal 2006 due to
the refinancing that was completed in January 2005.
Interest expense declined by $665,002 in fiscal 2005 due to the
refinancing mentioned above.
Our income tax expense for fiscal 2006 was $5,062,617 compared
with an income tax expense of $3,426,490 in fiscal 2005 and an
income tax benefit of $346,062 in fiscal 2004. The tax provision
for fiscal 2006 included a federal and state deferred tax rate
change of $358,688. The tax provision for fiscal 2005 included a
$155,512 adjustment resulting from the write-off of an Internal
Revenue Code Section 382 limitation to our federal net
operating loss carryforward of $457,388 and $60,826 of tax
expense related to tax adjustments on exercises of employee
stock
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options under SFAS 123(R). The tax benefit for fiscal 2004
was primarily attributable to the federal net operating loss
adjustments and the reversal of $135,856 of our state tax
valuation allowance.
The fiscal 2004 tax provision included a $416,193 benefit for
federal net operating loss adjustments. This benefit related to
the filing of amended fiscal 2003 and 2002 federal income tax
returns to recognize tax deductions for warrant and option
exercises. We were previously not entitled to these deductions,
as we had not complied with federal statutory reporting
requirements. We have subsequently complied with these reporting
requirements, and we therefore are now entitled to realize these
tax benefits related to the warrant and option exercises.
Our income tax expense includes deferred income taxes arising
from temporary differences between the financial reporting and
tax bases of assets, liabilities, and net operating loss
carryforwards. These amounts are reflected in the balance of our
net deferred tax assets, which totaled approximately
$10.7 million, before valuation allowance, at
April 30, 2006. In assessing the realization of our
deferred income tax assets, we consider whether it is more
likely than not that the deferred income tax assets will be
realized. The ultimate realization of our deferred income tax
assets depends upon generating future taxable income during the
periods in which our temporary differences become deductible and
before our net operating loss carryforwards expire. We evaluate
the recoverability of our deferred income tax assets by
assessing the need for a valuation allowance on a quarterly
basis. If we determine that it is more likely than not that our
deferred income tax assets will not be recovered, a valuation
allowance will be established against some or all of our
deferred income tax assets. Recording a valuation allowance or
reversing a valuation allowance could have a significant effect
on our future results of operations and financial position.
No valuation allowance was provided on our deferred federal
income tax assets as of April 30, 2006, 2005, or 2004, as
we believe that it is more likely than not that all such assets
will be realized. We do, however, maintain a valuation allowance
of approximately $42,000, $300,000, and $500,000 provided
against our state deferred tax assets as of April 30, 2006,
2005, and 2004, respectively. This valuation allowance
specifically relates to state net operating loss carryforwards.
There is uncertainty related to the recognition of the benefit
attributable to these state net operating losses. We reached
these conclusions after considering both changes in our business
as well as the availability of taxable income in prior carryback
years, tax planning strategies, and the likelihood of generating
future taxable income exclusive of reversing temporary
differences and carryforwards. Differences between forecasted
and actual future operating results could adversely impact our
ability to realize our deferred tax assets.
We had federal net operating loss carryforwards amounting to
$4.2 million, $10.9 million, and $16.8 million as
of April 30, 2006, 2005, and 2004, respectively. The net
operating loss carryforward at April 30, 2006 expires in
fiscal years 2019 and 2020. Section 382 limits utilization
of these losses to $108,161 per year. Effective April 30,
2005, it was determined that $457,388 of net operating loss
carryforwards will expire unutilized. Therefore, the related
deferred tax asset of $155,512 was reversed to tax expense in
fiscal 2005. It is possible that future substantial changes in
our ownership could occur that could result in additional
ownership changes pursuant to Internal Revenue Code
Section 382. If such an ownership change were to occur,
there would be an annual limitation on the remaining tax loss
carryforwards which can be utilized. Federal net operating
losses account for $1.2 million of the total net deferred
tax asset of $10.7 million and $3.3 million of the
$13.9 million of deferred tax assets as of April 30,
2006 and 2005, respectively.
State net operating loss carryforwards amounted to
$1.2 million, $6.5 million, and $12.1 million as
of April 30, 2006, 2005, and 2004, respectively, most of
which expire from fiscal 2006 to fiscal 2008. Certain state
provisions may limit our ability to utilize state net operating
losses in any given year when certain events occur, including
cumulative changes in ownership interests over a three-year
period. In our opinion, due to the uncertainty of the
realization of the benefit from state net operating losses, a
valuation allowance will be maintained against most of these
deferred tax assets.
On October 22, 2004, the American Jobs Creation Act, or
AJCA was signed into law. The AJCA provides a deduction for
income from qualified domestic production activity, or QPA,
which will be phased in from 2005 through 2010. Pursuant to FASB
Staff Position
No. 109-1,
“Application of SFAS No. 109 (Accounting for
Income Taxes), to the Tax Deduction on Qualified Production
Activity provided by the AJCA of 2004,” the effect of this
deduction is reported in the period in which it is claimed on
our tax return. The QPA deduction is expected to be available to
us starting in fiscal 2007. No deduction will be available in a
year we have a tax loss or no taxable
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income due to operating loss carryforwards. As we have net
operating loss carryforwards, further analysis is required in
order to determine the timing and impact of the QPA on our
financial statements.
In return for the QPA, the AJCA provides for a two-year
transition from the existing Extraterritorial Income Exclusion,
or ETI, tax benefit for foreign sales, which the World Trade
Organization, or WTO, ruled was an illegal export subsidy. The
ETI benefit will be fully phased out for us in fiscal 2007. The
ETI benefit for us was approximately $55,000 and $40,000 for
fiscal 2006 and 2005, respectively.
The following table sets forth certain information regarding net
income and the related per share data for the fiscal years ended
April 30, 2006, 2005, and 2004:
The increase in net income and net income per share for fiscal
2006 was attributable to a 27.4% increase in sales, the
$3,087,810 one-time benefit from the reduction in the
environmental reserves, and a $1,037,351 reduction in interest
expense driven by the refinancing that took place in January
2005. Fiscal 2005 results also reflected the $4.1 million
benefit of an agreement reached with one of our insurance
carriers, which included a net cash refund of approximately
$2.0 million. The increase in net income and net income per
share for fiscal 2005 resulted primarily from a reduction in
operating expenses. Fiscal 2004 spending included $1,977,537
related to the discontinued Crossings catalog and advanced
technology divisions, $1,000,931 related to the restructuring
costs relative to the closing our corporate office in
Scottsdale, $2,494,729 related to legal and accounting fees
relative to the restatement of our financial statements for
fiscal 2002 and the first three quarters of fiscal 2003, and the
SEC inquiry.
Our principal cash requirements are to finance the growth of our
firearms and licensing operations and to service our existing
debt. Capital expenditures for new products, capacity expansion,
and process improvements represent important cash needs.
The following table sets forth certain information relative to
cash flow for the fiscal years ended April 30, 2006, 2005,
and 2004:
Operating activities represent the principal source of our cash
flow. Cash flow from operating activities increased by
$6,049,174 for fiscal 2006 compared with fiscal 2005. The
improvement in operating cash flow for fiscal 2006 was
attributable to improved profitability, that was further
enhanced by our use of tax loss carryforwards. Non-cash
expenses, such as depreciation and stock-based compensation
expense, also had a significant impact on fiscal 2006 results.
Depreciation and amortization increased by $1,609,925, while
stock-based compensation expense was $2,887,904 higher. The
substantial increase in accounts receivable at April 30,
2006 reflected record sales in the month of April 2006. Sales
for the month were $25.6 million, $11.6 million higher
than for April 2005.
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In fiscal 2005, cash flow from operating activities increased by
$5,420,383 compared with fiscal 2004. The improvement in
operating cash flow was attributable to improved profitability,
that was further enhanced by utilization of our tax loss
carryforwards. Accounts receivable improved substantially during
the year as a result of collecting the open receivable from the
fiscal 2004 fourth quarter sales promotion. Inventories
increased by $4,003,818 as a result of the increased volume and
replenishing finished goods inventory that was depleted below
normal levels in the fourth quarter of fiscal 2004.
Cash used for investing activities totaled $15,602,109 in fiscal
2006 compared with $16,139,844 provided by investing activities
for fiscal 2005, a decrease of $31,741,953. Capital expenditures
were $15,592,203 in fiscal 2006 compared with $8,423,144 in
fiscal 2005. In fiscal 2005, collateralized cash deposits
totaling $22,673,059 were used to repay debt as part of the
refinancing that was completed in January 2005. We intend to
spend $13.0 million in capital expenditures in fiscal 2007.
In fiscal 2005, cash provided by investing activities totaled
$16,139,844 compared with a cash use of $6,913,125 in fiscal
2004, an increase of $23,052,969. Collateralized cash deposits
decreased by $22,673,059 as a result of the refinancing that was
completed in January 2005. Capital expenditures of $8,423,144 in
fiscal 2005 were $2,746,530 higher than fiscal 2004 capital
expenditures of $5,676,614.
Cash used by financing activities totaled $196,678 in fiscal
2006 compared with cash used by financing activities of
$23,968,476 in fiscal 2005, an improvement of $23,771,798. In
fiscal 2006, we sold 6,000,000 shares of common stock in a
private equity placement. The proceeds from that sale were
$24,375,943. The proceeds from this sale were used to repurchase
8,970,300 warrants to purchase common stock from two former
officers of our company at a cost $23,950,701. Proceeds from the
exercise of common stock and warrants totaled $1,729,096 in
fiscal 2006 compared with $980,981 in fiscal 2005. In fiscal
2005, we completed a refinancing that resulted in our repaying a
$27.0 million note to Tomkins Corporation with a
combination of collateralized cash deposits and the proceeds
from an $18.0 million note we obtained from Banknorth N.A.
The $23,231,193 increase in cash used for financing activities
in fiscal 2005, resulted from our repayment of the
$27.0 million Tomkins note as well as the refinancing of
our BankNorth debt in January 2005. We incurred $654,843 in
costs relative to the refinancing effort.
At April 30, 2006, we had open letters of credit
aggregating $4,098,515.
At April 30, 2006, we had $731,306 in cash and cash
equivalents on hand. We have a $17,000,000 revolving line of
credit with BankNorth; there was no outstanding balance as of
April 30, 2006.
Other
Matters
We do not believe that inflation had a material impact on us
during fiscal 2006, 2005, or 2004.
The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of
America requires us to make estimates and assumptions that
affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities as of the date
of the financial statements and the reported amounts of income
and expenses during the reporting periods. Operating results in
the future could vary from the amounts derived from these
estimates and assumptions. In addition, future facts and
circumstances could alter our estimates with respect to the
adequacy of insurance reserves. The more significant estimates
and assumptions used by the us in the preparation of the
financial statements relate to the reserves established for
uncollectible accounts receivable, obsolete and slow moving
inventory, and certain accrued liabilities, including product,
environmental, and warranty liabilities and workers’
compensation.
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We primarily recognize revenue when the following four basic
criteria have been met: (1) persuasive evidence of an
arrangement exists; (2) delivery has occurred or services
have been provided; (3) the fee is fixed or determinable;
and (4) collection is reasonably assured.
Product sales account for a substantial portion of our revenues.
We recognize revenue from product sales when the earnings
process is complete and the risks and rewards of ownership have
transferred to the customer, which is generally upon shipment.
We also provide tooling, forging, heat treating, finishing,
plating, and engineering support services to customers; we
recognize these revenues when accepted by the customer, when no
further contingencies or material performance obligations exist,
and when collectibility is reasonably assured, thereby earning
us the right to receive and retain payments for services
performed and billed.
We recognize trademark licensing revenues for all individual
licensees on a quarterly basis based on actual receipts from
licensees. This revenue consists of minimum royalties and/or a
percentage of a licensee’s sales on licensed products.
Under our current licensing agreements, these revenues are
payable on a calendar quarter basis. We recognize fees received
upon initial signing of license agreements as revenues. As a
result of a combination of uncertain factors regarding existing
licensees, including current and past payment performance,
market acceptance of the licensee’s product and
insufficient historical experience, we believe that reasonable
assurance of collectibility does not exist based on the results
and past payment performance of licensees in general. Therefore,
we do not initially recognize minimum royalty payments, but
instead record such revenue when the minimum royalty is paid. As
of April 30, 2006, minimum royalties to be collected in the
future amounted to approximately $6.6 million.
We provide reserves for potential product liability defense
costs based on estimates determined in consultation with
litigation counsel. Adjustments to the provision for product
liability are evaluated on an ongoing basis and are charged or
credited to cost of products and services sold. This evaluation
is based upon information regarding potential or existing
product liability cases. Any future costs as a result of this
evaluation are recorded when considered both probable and
reasonably estimable. At this time, the estimated range of
reasonably possible additional losses, as that term is defined
in Statement of Financial Accounting Standards
(“SFAS”) No. 5, “Accounting for
Contingencies,” is zero.
We provide reserves for potential environmental obligations that
we consider probable and for which reasonable estimates of such
obligations can be made. As of April 30, 2006, we had a
reserve of $603,274 for environmental matters, which is recorded
on an undiscounted basis.
We value inventories, primarily consisting of finished firearms
components, finished firearms, and related products and
accessories, at the lower of cost, using the first-in, first-out
(FIFO) method, or market. An allowance for potential
non-saleable inventory due to excess stock or obsolescence is
based upon a detailed review of inventory components, past
history, and expected future usage.
We generally provide a lifetime warranty to the
“original” purchaser of our new firearms products. We
provide for estimated warranty obligations in the period in
which we recognize the related revenue. We quantify and record
an estimate for warranty related costs based on our actual
historical claims experience and the current repair costs. We
make adjustments to accruals as warranty claim data and
historical experience warrant. Should we experience actual
claims and repair costs that are higher than the estimated
claims and repair costs used to calculate the provision, our
operating results for the period or periods in which such
returns or additional costs materialize would be adversely
impacted.
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We extend credit to our domestic customers and some foreign
distributors based on their financial condition. We offer
discounts for early payment. When extension of credit is not
advisable, we rely on either a prepayment or a letter of credit.
We place past due balances for collection with an outside agency
after 90 days. We write off balances deemed uncollectible
by us against our allowance for doubtful accounts. We estimate
our allowance for doubtful accounts through current past due
balances, knowledge of our customers’ financial situations,
and past payment history.
The provision for income taxes is based upon income reported in
the accompanying consolidated financial statements. Deferred
income taxes reflect the impact of temporary differences between
the amounts of assets and liabilities recognized for financial
reporting purposes and such amounts recognized for tax purposes.
We measure these deferred taxes by applying currently enacted
tax laws.
We are self-insured through retentions or deductibles for our
workers’ compensation. Our liability for estimated premiums
and incurred losses are actuarially determined and recorded on
an undiscounted basis.
We account for stock-based employee compensation arrangements in
accordance with the provisions of SFAS No. 123(R),
“Shared-Based Payment (Revised).” Under
SFAS 123(R), compensation cost is calculated on the date of
the grant using the Black Scholes method. The compensation
expense is then amortized over the vesting period. The fair
value of each stock option or ESPP purchase was estimated on the
date of the grant using the Black-Scholes option pricing model
(using the risk-free interest rate, expected term, expected
volatility, and dividend yield variables.)
In May 2005, the FASB issued SFAS No. 154,
“Accounting Changes and Error Corrections,” a
replacement to Accounting Principles Board (“APB”)
Opinion No. 20, “Accounting Changes” and FASB
Statement No. 3 “Reporting Accounting Changes in
Interim Financial Statements.” This statement applies to
the accounting and reporting of all voluntary accounting
principle changes and corrections of errors. SFAS 154
requires such changes be retrospectively applied to financial
statements from previous periods unless it is impracticable to
determine either the period-specific effects or the cumulative
effect of the change. SFAS 154 carries forward many
provisions of APB 20 and SFAS 3 without change, including
those provisions related to reporting a change in accounting
estimate, a change in reporting entity, correction of an error,
and reporting accounting changes in interim financial
statements. SFAS 154 is effective for accounting changes
and corrections of errors made in fiscal years beginning after
December 15, 2005. While we do not believe the adoption of
SFAS No. 154 will have a significant impact on our
financial position, results of operations, or cash flows, the
impact of adopting SFAS No. 154 depends on events that
could occur in future periods and therefore, cannot be
determined until, and if, an event occurs in the future period.
In February 2006, the FASB issued SFAS No. 155,
“Accounting for Certain Hybrid Financial Instruments,”
which amends SFAS No. 133, “Accounting for
Derivative Instruments and Hedging Activities” and
SFAS No. 140, “Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of
Liabilities.” SFAS No. 155 simplifies the
accounting for certain derivatives embedded in other financial
instruments by allowing them to be accounted for as a whole if
the holder elects to account for the whole instrument on a fair
value basis. SFAS No. 155 also clarifies and amends
certain other provisions of SFAS No. 133 and
SFAS No. 140. SFAS No. 155 is effective for
all financial instruments acquired, issued or subject to a
remeasurement event occurring in fiscal years beginning after
September 15, 2006. Earlier adoption is permitted, provided
a company has not yet issued financial statements, including
interim periods, for that fiscal year. We do not expect the
adoption of SFAS No. 155 to have a material impact on
our financial position, results of operation, or cash flows.
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In March 2006, the FASB issued SFAS No. 156,
“Accounting for Servicing of Financial
Assets — an amendment to FASB Statement
No. 140.” SFAS No. 156 requires that all
separately recognized servicing rights be initially measured at
fair value, if practicable. In addition, this Statement permits
an entity to choose between two measurement methods
(amortization method or fair value measurement method) for each
class of separately recognized servicing assets and liabilities.
This new accounting standard is effective January 1, 2007.
The adoption of SFAS No. 156 is not expected to have
an impact on our financial position, results of operations, or
cash flows.
The following table sets forth a summary of our material
contractual obligations and commercial commitments as of
April 30, 2006:
We do not have any transactions, arrangements, or other
relationships with unconsolidated entities that are reasonably
likely to affect our liquidity or capital resources. We have no
special purpose or limited purpose entities that provide
off-balance sheet financing, liquidity, or market or credit risk
support; or engage in leasing, hedging, research and development
services, or other relationships that expose us to liability
that is not reflected on the face of the financial statements.
We do not enter into any market risk sensitive instruments for
trading purposes. Our principal market risk relates to changes
in the value of the euro relative to the U.S. dollar. A
portion of our gross revenues during the three and
12 months ended April 30, 2006 ($4.7 million and
$14.7 million, respectively, representing approximately
8.9% and 9.2%, respectively, of aggregate gross revenues) came
from the sale of goods that were purchased, wholly or partially
from a European manufacturer, in euros. Annually, we purchase
approximately $10 million of inventory from a European
supplier. This exposes us to risk from foreign exchange rate
fluctuations. A 10% drop in the value of the U.S. dollar in
relation to the euro would, to the extent not covered through
price adjustments, reduce our gross profit on that
$10 million of inventory by approximately $1 million.
In an effort to offset our risks from unfavorable foreign
exchange fluctuations, we entered into euro participating
forward options under which we purchase euros to be used to pay
the European manufacturer. As of April 30, 2006, our
outstanding contracts had a remaining balance of
3.6 million euros. The contracts are for 600,000 euros per
month with the last expiring in October 2006.
Participating forward options provide full protection for us
against the depreciation of the U.S. dollar to the euro and
partial benefit from the appreciation of the U.S. dollar to
the euro. If the euro strengthens above the average rate, we
will not pay more than the average rate. If the euro weakens
below the average rate, 50% of the euros are at the average rate
and the remaining 50% of the euros are paid for at the spot
rate. Each option, unless used on the first day, will be
converted to a forward contract, due when needed during the
month at a slight up charge in rate. During the three and
12 months ended April 30, 2006, we experienced a net
loss of $30,291 and $339,209, respectively, on foreign exchange
transactions that we executed during the period in an effort to
limit our exposure to fluctuations in the euro/dollar exchange
rate. As of April 30, 2006, we had participating forward
options totaling $3.6 million euros remaining, which were
reported as an asset of $54,483.
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Reference is made to the consolidated financial statements, the
notes thereto, and the report thereon, commencing on
page F-1
of this report, which consolidated financial statements, notes,
and report are incorporated herein by reference.
Not applicable.
Smith & Wesson Holding Corporation maintains
“disclosure controls and procedures,” as such term is
defined under the Securities and Exchange Act
Rule 13a-15e,
that are designed to ensure that information required to be
disclosed in our Exchange Act reports is recorded, processed,
summarized, and reported within the time periods specified in
the SEC’s rules and forms, and that such information is
accumulated and communicated to our management, including our
Chief Executive Officer and Chief Financial Officer, as
appropriate, to allow timely decisions regarding required
disclosures. In designing and evaluating the disclosure controls
and procedures, our management recognized that any controls and
procedures, no matter how well designed and operated, can
provide only reasonable assurance of achieving the desired
control objectives and our management necessarily was required
to apply its judgment in evaluating the cost-benefit
relationship of possible controls and procedures. We have
carried out an evaluation, as of the end of the period covered
by this report, under the supervision and with the participation
of our management, including our Chief Executive Officer and
Chief Financial Officer, of the effectiveness of the design and
operation of our disclosure controls and procedures. Based upon
that evaluation, our Chief Executive Officer and Chief Financial
Officer have concluded that our disclosure controls and
procedures were effective to ensure that information required to
be disclosed by us in this report was recorded, processed,
summarized and reported within the time periods specified in
Securities and Exchange Commission rules and forms for this
report.
During our year-end closing process for the reporting period
ended April 30, 2005, we carried out an evaluation, under
the supervision of our management, including the Chief Executive
Officer and the Chief Financial Officer, of the effectiveness of
the design and operation of our disclosure controls and
procedures pursuant to Exchange Act
Rules 13a-15.
Based upon that evaluation, we determined that we had a material
weakness in internal control over financial reporting for the
year ended April 30, 2005 related to stock awards. A
material weakness is a control deficiency, or combination of
control deficiencies, that results in a more than remote
likelihood that a material misstatement of the annual or interim
financial statements will not be prevented or detected.
Specifically, we determined that certain warrants issued in May
2001 to two employees, contained a cashless exercise feature
that required compensation expense to be recorded in our
financial statements. In addition, modifications in 2004 and
2005 to the terms of certain stock option agreements required
additional compensation expense to be recorded in the financial
statements. These matters resulted in the restatement of our
fiscal 2002, 2003, 2004 and the first three quarters of our
fiscal 2005 consolidated financial statements in the previously
filed April 30, 2005
Form 10-K.
As a result, our Chief Executive Officer and Chief Financial
Officer each concluded that our disclosure controls and
procedures were not effective as of April 30, 2005 due to
the matters relating to stock option accounting, and we
implemented remedial action. Specifically, we enhanced our
closing process and procedures related to accounting for stock
awards, including designating an individual to oversee the
accounting for stock awards. We also provided extensive training
in SFAS 123(R), which we adopted as part of our year-end
closing process in fiscal 2006.
There were no changes in the Company’s internal controls
over financial reporting during the Company’s fourth
quarter ended April 30, 2006 that materially affected, or
are reasonability likely to materially affect, the
Company’s internal controls over financial reporting.
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Our management is responsible for establishing and maintaining
adequate control over financial reporting (as defined in
Securities and Exchange Act
Rule 13(a) — 15(f) or
15(d) — 15(f)). Our internal control system was
designed to provide reasonable assurance to our management and
board of directors regarding the preparation and fair
presentation of published financial statements. All internal
control systems, no matter how well designed, have inherent
limitations. Therefore, even those systems determined to be
effective can provide only reasonable assurance with respect to
financial statement preparation and presentation.
Our management assessed the effectiveness of our internal
control over financial reporting as of April 30, 2006. In
making this assessment, we used the criteria set forth by the
Committee of Sponsoring Organizations of the Treadway Commission
(COSO) in Internal Control — Integrated
Framework. Based upon our management’s assessment, we
believe that as of April 30, 2006, our internal control
over financial reporting is effective based on those criteria.
Our independent registered public accounting firm has issued its
report on our assessment of our internal control over financial
reporting.
Smith & Wesson Holding Corporation
Springfield, Massachusetts
We have audited management’s assessment, included in the
accompanying Management’s Report on Internal Control, that
Smith & Wesson Holding Corporation (the
“Company”) maintained effective internal control over
financial reporting as of April 30, 2006, based upon the
criteria established in Internal
Control — Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission
(COSO). The Company’s management is responsible for
maintaining effective internal control over financial reporting
and for its assessment of the effectiveness of internal control
over financial reporting. Our responsibility is to express an
opinion on management’s assessment and an opinion on the
effectiveness of the Company’s internal control over
financial reporting based on our audit.
We conducted our audit in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether effective internal control
over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of
internal control over financial reporting, evaluating
management’s assessment, testing and evaluating the design
and operating effectiveness of internal control, and performing
such other procedures as we considered necessary in the
circumstances. We believe that our audit provides a reasonable
basis for our opinion.
A company’s internal control over financial reporting is a
process designed to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with
generally accepted accounting principles. A company’s
internal control over financial reporting includes those
policies and procedures that: (1) pertain to the
maintenance of records, that, in reasonable detail, accurately,
and fairly reflect the transactions and dispositions of the
assets of the company; (2) provide reasonable assurance
that transactions are recorded as necessary to permit
preparation of financial statements in accordance with generally
accepted accounting principles, and that receipts and
expenditures of the company are being made only in accordance
with authorizations of management and directors of the company;
and (3) provide reasonable assurance regarding prevention
or timely detection of unauthorized acquisition, use, or
disposition of the company’s assets that could have a
material effect on the financial statements.
Because of its inherent limitations, internal control over
financial reporting may not prevent or detect misstatements.
Also, projections of any evaluation of effectiveness to future
periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree
of compliance with the policies and procedures may deteriorate.
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In our opinion, management’s assessment that
Smith & Wesson Holding Corporation maintained effective
internal control over financial reporting as of April 30,
2006, is fairly stated, in all material respects, based on the
criteria established in Internal
Control — Integrated Framework issued by
COSO. Also in our opinion, the Company maintained, in all
material respects, effective internal control over financial
reporting as of April 30, 2006, based on the criteria
established in Internal Control — Integrated
Framework issued by COSO.
We have also audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States), the
consolidated balance sheet of Smith & Wesson Holding
Corporation as of April 30, 2006 and the related
consolidated statements of income and comprehensive income,
stockholders’ equity and cash flows for the year then ended
and our report dated July 14, 2006 expressed an unqualified
opinion thereon.
/s/ BDO
Seidman, LLP
BDO Seidman, LLP
Boston, Massachusetts
July 14, 2006
Not applicable.
The information required by this Item relating to our directors
is incorporated herein by reference to the definitive Proxy
Statement to be filed pursuant to Regulation 14A of the
Exchange Act for our 2006 Annual Meeting of Stockholders. The
information required by this Item relating to our executive
officers is included in Item 1,
“Business — Executive Officers” of this
report.
The information required by this Item is incorporated herein by
reference to the definitive Proxy Statement to be filed pursuant
to Regulation 14A of the Exchange Act for our 2006 Annual
Meeting of Stockholders.
The information required by this Item is incorporated herein by
reference to the definitive Proxy Statement to be filed pursuant
to Regulation 14A of the Exchange Act for our 2006 Annual
Meeting of Stockholders.
The information required by this Item is incorporated herein by
reference to the definitive Proxy Statement to be filed pursuant
to Regulation 14A of the Exchange Act for our 2006 Annual
Meeting of Stockholders.
The information required by this Item is incorporated herein by
reference to the definitive Proxy Statement to be filed pursuant
to Regulation 14A of the Exchange Act for our 2006 Annual
Meeting of Stockholders.
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(a) Financial Statements and Financial Statement
Schedules
(1) Financial Statements are listed in the Index to
Financial Statements on
page F-1
of this report.
(b) Exhibits
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44
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Pursuant to the requirements of Section 13 or 15(d) of the
Securities Exchange Act of 1934, the registrant has duly caused
this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
SMITH & WESSON HOLDING CORPORATION
Date: July 14, 2006
/s/ MICHAEL
F. GOLDEN
Michael F. Golden
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of
1934, this report has been signed below by the following persons
on behalf of the registrant and in the capacities and on the
date indicated.
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SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
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Management of Smith & Wesson Holding Corporation is
responsible for establishing and maintaining adequate internal
control over financial reporting, as such term is defined in
Exchange Act
Rule 13a-15(f).
With the participation of the Chief Executive Officer and the
Chief Financial Officer, management conducted an evaluation of
the effectiveness of the Company’s internal control over
financial reporting as of April 30, 2006 as required by
Rule 13a-15(c)
under the Securities Exchange Act of 1934. The Company utilized
the criteria and framework established by the Committee of
Sponsoring Organizations (COSO) of the Treadway Commission in
Internal Control — Integrated Framework in
performing this assessment. Based on this evaluation, management
concluded that the Company’s internal control over
financial reporting was effective as of April 30, 2006.
Internal control over financial reporting is a process designed
to provide reasonable assurance regarding the reliability of
financial reporting and the preparation of financial statements
for external purposes in accordance with generally accepted
accounting principles. Because of its inherent limitations,
internal control over financial reporting may not prevent or
detect misstatements.
Smith & Wesson Holding Corporation’s independent
auditor, BDO Seidman LLP, an independent registered public
accounting firm, has audited management’s assessment of the
effectiveness of the Company’s internal control over
financial reporting as of April 30, 2006 as stated in their
report, which appears on
page F-3
of this Annual Report on
Form 10-K.
/s/ Michael
J. Golden
Michael J. Golden
President and Chief Executive Officer
/s/ John
A. Kelly
John A. Kelly
Vice President,
Chief Financial Officer
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Board of Directors and Stockholders
Smith & Wesson Holding Corporation
Springfield, Massachusetts
We have audited the accompanying consolidated balance sheet of
Smith & Wesson Holding Corporation and subsidiaries as
of April 30, 2006 and the related consolidated statements
of income and comprehensive income, stockholders’ equity,
and cash flows for the year then ended. We have also audited the
schedule listed in the accompanying index for the year ended
April 30, 2006. These financial statements and schedule are
the responsibility of the Company’s management. Our
responsibility is to express an opinion on these financial
statements and schedule based on our audit.
We conducted our audit in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are
free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles
used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We
believe that our audit provides a reasonable basis for our
opinion.
In our opinion, the consolidated financial statements referred
to above present fairly, in all material respects, the financial
position of Smith & Wesson Holding Corporation and
subsidiaries at April 30, 2006, and the results of their
operations and their cash flows for the year then ended, in
conformity with accounting principles generally accepted in the
United States of America.
Also, in our opinion, the schedule referred to above presents
fairly, in all material respects, the information for the year
ended April 30, 2006, set forth therein.
We also have audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States), the
effectiveness of Smith & Wesson Holding
Corporation’s internal control over financial reporting as
of April 30, 2006, based on criteria established in
Internal Control — Integrated Framework
issued by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO) and our report dated July 14,
2006 expressed an unqualified opinion thereon.
/s/ BDO
Seidman, LLP
Boston, Massachusetts
July 14, 2006
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To the Board of Directors and Stockholders of
Smith & Wesson Holding Corporation:
In our opinion, the consolidated balance sheet at April 30,
2005 and the related consolidated statements of income and
comprehensive income, of changes in stockholders’ equity,
and of cash flows for the years ended April 30, 2005 and
2004, present fairly, in all material respects, the consolidated
financial position of Smith & Wesson Holding
Corporation and subsidiaries at April 30, 2005, and the
consolidated results of their operations and their cash flows
for years ended April 30, 2005 and 2004, in conformity with
accounting principles generally accepted in the United States of
America. In addition, in our opinion, the financial statement
schedule of valuation and qualifying accounts for the years
ended April 30, 2005 and 2004 presents fairly, in all
material respects, the information set forth therein when read
in conjunction with the related consolidated financial
statements. These financial statements and financial schedule
are the responsibility of the Company’s management. Our
responsibility is to express an opinion on these financial
statements and financial statement schedule based on our audits.
We conducted our audits of these statements in accordance with
the standards of the Public Company Accounting Oversight Board
(United States). Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether
the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant
estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.
/s/ PricewaterhouseCoopers
LLP
PricewaterhouseCoopers LLP
Hartford, Connecticut
August 15, 2005
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SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
As of:
The accompanying notes are an integral part of these
consolidated financial statements.
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SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
The accompanying notes are an integral part of these
consolidated financial statements.
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SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
The accompanying notes are an integral part of these
consolidated financial statements.
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SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
The accompanying notes are an integral part of these
consolidated financial statements.
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SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
Organization — We are the largest
manufacturer of handguns in the United States and the largest
U.S. exporter of handguns. We manufacture revolvers,
pistols, and related products and accessories for sale primarily
to gun enthusiasts, collectors, hunters, sportsmen, protection
focused individuals, public safety agencies and officers, and
military agencies in the United States and throughout the world.
On May 11, 2001, we purchased all of the outstanding stock
of Smith & Wesson Corp. from U.K. based Tomkins for
$15,000,000. (See Note 2 — “Acquisition
of Smith & Wesson Corp.”). At a special meeting of
stockholders held on February 14, 2002, our stockholders
approved a change of our company’s name to Smith &
Wesson Holding Corporation. Smith & Wesson Corp. was
incorporated under the laws of the state of Delaware on
January 13, 1987. Smith & Wesson Corp. and its
predecessors have been in business since 1852.
2. Acquisition
of Smith & Wesson Corp.
The Acquisition — The purchase price paid
by us for Smith & Wesson Corp. was as follows:
$5 million, which was paid at the closing in cash (See the
“Melby Loan”);
$10 million due on or before May 11, 2002 pursuant to
the terms of an uncollateralized promissory note issued by us to
Tomkins (the “Acquisition Note”) providing for
interest at a rate of 9% per year: and
A receivable of $464,500 due from Tomkins to us.
The purchase price resulted from negotiations between Tomkins
and us. This acquisition was accounted for under the purchase
method pursuant to APB 16, “Business
Combinations.” A summary of the net assets acquired is as
follows:
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SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS — (Continued)
Acquisition Note — Pursuant to the
acquisition agreement with Tomkins, we issued a promissory note
in the amount of $10 million as partial consideration for
the acquisition of Smith & Wesson Corp. During March
2002, we obtained a bank loan (See Note 4) and paid
off the entire loan balance in January 2005.
Tomkins Note — The acquisition agreement
required us to guarantee the obligations of Smith &
Wesson Corp. to Tomkins under a promissory note issued on
April 30, 1997 by Smith & Wesson Corp. to Tomkins
(the “Tomkins Note”). The Tomkins Note originally was
in the amount of $73.8 million, was due on April 30,
2004, and bore interest at the rate of 9% per annum. Prior
to the acquisition, Tomkins contributed $23.8 million of
the Tomkins Note to the capital of Smith & Wesson
Corp., leaving a balance of $50.0 million. Immediately
subsequent to the acquisition, we paid $20.0 million of the
Tomkins Note. We repaid an additional $2.0 million of the
outstanding principal balance in April 2003, another
$1.0 million in July 2003, and repaid the remaining balance
in January 2005.
The Melby Loan — We obtained financing in
the amount of $5 million from an individual pursuant to a
Promissory Note and Loan Agreement dated May 6, 2001
between us and this individual (the “Melby Note”).
Interest accrued on the Melby Note at a rate of 12% per
annum until maturity on May 15, 2002. Related to this loan,
we also granted warrants described below to purchase an
aggregate of approximately 8,700,000 shares of common stock
at exercise prices ranging from $0.40 per share to
$2.00 per share.
In consideration for the Melby loan, we issued to Colton Melby,
formerly the President and Chief Operating Officer and currently
a director of our company, a common stock purchase warrant dated
May 6, 2001 (the “Melby Warrant”). The Melby
Warrant provided for Mr. Melby to purchase up to
7,094,500 shares of common stock at an exercise price of
$.40 per share, subject to adjustment as set forth therein,
at any time from the date of issuance until six years from the
date of issuance. Also in consideration for the Melby loan, we
issued common stock purchase warrants, each dated May 11,
2001, to three affiliates of Mr. Melby (the “Affiliate
Warrants”). The Affiliate Warrants provided for each holder
to purchase at any time from the date of issuance until one year
from the date of issuance up to 300,000 shares of common
stock at an exercise price of (a) $.80 per share if
exercised on or before May 21, 2001,
(b) $2.00 per share if exercised from May 22,
2001 through June 30, 2001, and (c) $5.00 per
share if exercised after June 30, 2001. As a portion of a
finder’s fee for arranging the Melby loan, we issued common
stock purchase warrants each dated May 11, 2001, to two
unrelated parties (the “Finders’ Warrants”). The
Finders’ Warrants provided for each holder to purchase up
to 354,725 shares of common stock at an exercise price of
$1.00 per share at any time between the date of issuance
and two years from the date of issuance. All of the warrants
were exercised in full in March 2002, including by way of the
repayment of the Melby Note.
Use of Estimates — The preparation of our
consolidated financial statements in conformity with accounting
principles generally accepted in the United States of America
requires us to make estimates and assumptions that affect the
reported amounts of assets and liabilities and the disclosure of
contingent assets and liabilities at the financial statement
dates and the reported amounts of revenues and expenses during
the reporting periods. Our significant estimates include
accruals for warranty, product liability, workers’
compensation, environmental liability, excess and obsolete
inventory, and medical claims payable. Actual results could
differ from those estimates.
Principles of Consolidation — The
accompanying consolidated financial statements include the
accounts of Smith & Wesson Holding Corporation and its
wholly owned subsidiaries — Smith &
Wesson Corp., Smith & Wesson Firearms Training Centre
GmbH (Germany), Smith & Wesson Distributing, Inc.
(United States), Smith & Wesson, Inc. (United States),
Smith & Wesson Technology LLC (inactive),
Smith & Wesson Interactive Management LLC (inactive),
Smith & Wesson Licensing LLC (inactive), and Lost Coast
Ventures, Inc. (inactive). All significant intercompany accounts
and transactions have been eliminated in consolidation.
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SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS — (Continued)
Fair Value of Financial
Instruments — Unless otherwise indicated, the
fair values of all reported assets and liabilities, which
represent financial instruments, not held for trading purposes,
approximate the carrying values of such amounts due to their
short-term nature.
Derivative Instruments — We account for
derivative instruments under SFAS No. 133,
“Accounting for Derivative Instruments and Hedging
Activities,” as amended. SFAS 133 establishes
accounting and reporting standards for derivative instruments
and hedging activities and requires us to recognize these
instruments as either assets or liabilities on the balance sheet
and measure them at fair value. We have purchased foreign
exchange forward contracts to minimize the impact of
fluctuations in foreign exchange rates (Note 14).
Cash and Cash Equivalents — We maintain
our cash in bank deposit accounts that, at times, may exceed
federally insured limits. We have not experienced any losses in
such accounts.
Trade Receivables — We extend credit to
our domestic customers and some foreign distributors based on
their financial condition. We offer discounts for early payment.
When extension of credit is not advisable, we rely on either a
prepayment or a letter of credit. We place past due balances for
collection with an outside agency after 90 days. We write
off balances deemed uncollectible by us against our allowance
for doubtful accounts. We estimate our allowance for doubtful
accounts through current past due balances, knowledge of our
customers’ financial situations, and past payment history.
Concentrations of Credit Risk — Financial
instruments that potentially subject us to concentration of
credit risk consist principally of cash, cash equivalents, and
trade receivables. We place our cash and cash equivalents in
over-night U.S. government securities. Concentrations of
credit risk with respect to trade receivables are limited by the
large number of customers comprising our customer base and their
geographic and business dispersion. We perform ongoing credit
evaluations of our customers’ financial condition and
generally do not require collateral.
One customer accounted for approximately 8%, 10%, and 13% of our
net product sales for the fiscal years ended April 30,
2006, 2005, and 2004, respectively. This customer owed us
approximately $1.8 million, or 7% of total accounts
receivable, as of April 30, 2006 and $1.8 million, or
10% of total accounts receivable, as of April 30, 2005.
Inventories — We value inventories,
primarily consisting of finished firearms components, finished
firearms, and related products and accessories, at the lower of
cost, using the
first-in,
first-out (FIFO) method, or market. An allowance for potential
non-saleable inventory due to excess stock or obsolescence is
based upon a detailed review of inventory components, past
history, and expected future usage.
Other Comprehensive Income — Statement of
Financial Accounting Standards (“SFAS”) No. 130,
“Reporting Comprehensive Income,” requires companies
to report all components of comprehensive income in their
financial statements, including all non-owner transactions and
events that impact their equity, even if those items do not
directly affect net income (loss). Comprehensive income (loss)
consists of net income (loss) and unrealized gains (losses) on
available for sale securities, net of tax, as presented in our
consolidated statements of income and comprehensive income.
Property, Plant, and Equipment — We record
property, plant, and equipment, consisting of land, building,
improvements, machinery, equipment, computers, furniture, and
fixtures, at cost and depreciate them using the straight-line
method over their estimated useful lives. We charge expenditures
for maintenance and repairs to earnings as incurred; we
capitalize additions, renewals, and betterments. Upon the
retirement or other disposition of
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SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS — (Continued)
property and equipment, we remove the related cost and
accumulated depreciation from the respective accounts and
include any gain or loss in operations. A summary of the
estimated useful lives is as follows:
We capitalize tooling, dies, and fixtures as part of machinery
and equipment and depreciate them over a period not exceeding
five years.
Intangible Assets — We amortize intangible
assets over their estimated useful lives, which range from three
to 20 years. See Note 10 for additional information
regarding intangible assets.
Valuation of Long-lived Assets — We
evaluate the recoverability of long-lived assets, or asset
groups, whenever events or changes in circumstances indicate
that carrying amounts may not be recoverable. Should such
evaluations indicate that the related future undiscounted cash
flows are not sufficient to recover the carrying values of the
assets, such carrying values would be reduced to fair value and
this adjusted carrying value would become the asset’s new
cost basis. We determine fair value primarily using future
anticipated cash flows that are directly associated with and
that are expected to arise as a direct result of the use and
eventual disposition of the asset, or asset group, discounted
using an interest rate commensurate with the risk involved. We
have determined that there were no impairments to long-lived
assets in fiscal 2006, 2005, or 2004.
Revenue Recognition — We recognize revenue
when the following four basic criteria have been met:
(1) persuasive evidence of an arrangement exists;
(2) delivery has occurred or services have been provided;
(3) the fee is fixed or determinable; and
(4) collection is reasonably assured.
Product sales account for a substantial portion of our revenues.
We recognize revenue from product sales when the earnings
process is complete and the risks and rewards of ownership have
transferred to the customer, which is generally upon shipment.
We also provide tooling, forging, heat treating, finishing,
plating, and engineering support services to customers; we
recognize these revenues when accepted by the customer, when no
further contingencies or material performance obligations exist,
and when collectibility is reasonably assured, thereby earning
us the right to receive and retain payments for services
performed and billed.
We recognize trademark-licensing revenues for all individual
licensees on a quarterly basis based on cash receipts from
licensees. This revenue consists of minimum royalties
and/or a
percentage of a licensee’s sales on licensed products.
Under our current licensing agreements, these revenues are
payable on a calendar quarter basis. We recognize as revenues
non-refundable license fees received upon initial signing of
license agreements. As a result of a combination of uncertain
factors regarding existing licensees, including current and past
payment performance, market acceptance of the licensee’s
product and insufficient historical experience, we believe that
reasonable assurance of collectibility of future license amounts
does not exist based on the results and past payment performance
of licensees in general. Therefore, we do not initially
recognize minimum royalty payments upon
Table of Contents
SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS — (Continued)
contract signing, but instead record such revenue when the
minimum royalty is received. As of April 30, 2006, minimum
royalties to be collected in the future amounted to
approximately $6.6 million as follows:
Segment
Information — SFAS No. 131,
“Disclosures about Segments of an Enterprise and Related
Information,” requires public companies to report financial
and descriptive information about their reportable operating
segments. We identify our operating segments based on how we
internally evaluate separate financial information, business
activities, and management responsibility. At the present time,
we believe we operate in a single business segment. Through
April 30, 2006, 2005, and 2004, we have had no material
personnel or facilities operating outside of the United States.
The following is a breakdown of our net product sales:
Research and Development — We engage in
both internal and external research and development
(“R&D”) in order to remain competitive and to
exploit possible untapped market opportunities. Executive
management approves prospective R&D projects after analysis
of the cost and benefits associated with the potential product.
Costs in R&D expense include, among other items, salaries,
materials, utilities, and administrative costs.
In fiscal 2006, we spent approximately $349,000 on research
activities relating to the development of new products. In
fiscal 2005, we spent approximately $386,000 on research
activities. In fiscal 2004, we spent $1.3 million, of which
$441,000 related to our now discontinued Advanced Technology
product line. Of those annual amounts, we were reimbursed
$187,000 and $787,000, in fiscal 2005 and 2004, respectively, by
the National Institute of Justice based on grants received by us
for development of an authorized user firearm. Both grants
expired during fiscal 2005. We record research and development
expense net of such reimbursement in the accompanying
consolidated statements of income.
Earnings per Share — We calculate basic
and diluted earnings per common share in accordance with the
provisions of SFAS No. 128, “Earnings per
Share.” Basic earnings per common share equals net income
divided by the weighted average number of common shares
outstanding during the period. Diluted earnings per common share
is equal to net income divided by the weighted average number of
common shares outstanding during the period, including the
effect of stock options, warrants, and other stock-based
compensation, if such effect is dilutive.
Table of Contents
SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS — (Continued)
The following table provides a reconciliation of the income
amounts and weighted average number of common and common
equivalent shares used to determine basic and diluted earnings
per share.
As noted in Notes 16 & 18, the Company issued
warrants to purchase 1,320,000 shares of our common stock
during fiscal year 2006 which were classified as a liability in
the balance sheet through February 28, 2006 (see
Note 18) and which were being marked to market with the
changes in fair value being reported in net income. During the
year ended April 30, 2006, the mark to market adjustment
increased net income by $81,174. For our calculation of EPS,
such stock warrants are considered equity and are included in
diluted shares as their effect is dilutive. In accordance with
Emerging Issues Task Force, EITF, Topic D-72 and
paragraph 29 of SFAS 128, we adjusted net income (the
basic EPS numerator) for purpose of computing diluted earnings
per share.
Options and warrants to purchase 1,278,893, 313,685, and
116,666 shares of our common stock were excluded from the
fiscal 2006, 2005, and 2004 computation of diluted earnings per
share, respectively, because the effect would be antidilutive.
Income Taxes — The provision for income
taxes is based upon income reported in the accompanying
consolidated financial statements. Deferred income taxes reflect
the impact of temporary differences between the amounts of
assets and liabilities recognized for financial reporting
purposes and such amounts recognized for tax purposes. We
measure these deferred taxes by applying currently enacted tax
laws.
Stock Options and Warrants — As described
in Notes 16 and 17, we have issued stock warrants and
have a stock option plan under which employees and directors
receive options to purchase our common stock or other
stock-based compensation. During the fourth quarter of fiscal
2005, we adopted SFAS No. 123(R), “Share-Based
Payment” (Revised 2004), utilizing the modified
retrospective application method for all periods presented.
Prior to the adoption of SFAS 123(R), we applied the
provisions of APB Opinion No. 25, “Accounting for
Stock Issued to Employees and Related Interpretations”
(APB 25).
Product Liability — We provide reserves
for potential product liability defense costs based on estimates
determined in consultation with litigation counsel. We evaluate
adjustments to the provision for product liability on an
on-going basis and charge or credit them to cost of sales,
exclusive of any insurance reimbursements. This evaluation is
based upon information regarding potential and existing product
liability cases. We record any future costs as a result of this
evaluation when considered both probable and reasonably
estimable. Certain product liability costs are subject to
reimbursement by insurance carriers.
Environmental Liability — in accordance
with
SOP 96-1,
“Environmental Remediation Liabilities,” we have
provided reserves on an undiscounted basis, for potential
environmental obligations that we consider probable and for
which reasonable estimates of such obligations can be made. We
consider environmental liabilities probable based upon specific
facts and circumstances, including currently available
environmental studies, existing technology, currently enacted
laws and regulations, the timing of future expenditures,
experience in remediation efforts,
Table of Contents
SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS — (Continued)
direction or approval from regulatory agencies, our status as a
potentially responsible party (PRP), and the ability of other
PRPs or contractually liable parties, if any, to pay the
allocated portion of any environmental obligations. We believe
that we have adequately reserved for the reasonable estimable
costs of known environmental obligations. We review reserves and
may make additions or deletions to the reserves as a result of
the specific facts and circumstances previously noted.
A summary of our environmental liability reserve as of
April 30, 2006 and 2005 is as follows:
Environmental reserves increase (decrease) for the fiscal years
ended April 30, 2006, 2005, and 2004 amounted to
approximately ($3.1 million), $45,000, and $11,000,
respectively.
On February 25, 2003, we sold approximately 85 acres
of company-owned property in the city of Springfield,
Massachusetts to the Springfield Redevelopment Authority (SRA).
This property is excess land adjacent to our manufacturing and
office facility. The 85 acres includes three of our five
previously disclosed release areas that were identified as
having soil and groundwater contamination under the MCP,
specifically the South Field, West Field, and Fire Pond. This
property was acquired by SRA as a defined “Brownfield”
under the CERCLA. SRA, with the support of the city of
Springfield, received governmental “Brownfield” grants
or loans to remediate and development of the property. The
remediation of the property was completed during the quarter
ended July 31, 2005. Consequently, in the fiscal year ended
April 30, 2006, we eliminated the reserves related to the
property. This reserve adjustment totaled approximately
$3.1 million and is included as a reduction of operating
expenses.
Warranty — We generally provide a lifetime
warranty to the “original” purchaser of our new
firearms products. We provide for estimated warranty obligations
in the period in which we recognize the related revenue. We
quantify and record an estimate for warranty related costs based
on our actual historical claims experience and the current
repair costs. We make adjustments to accruals as warranty claim
data and historical experience warrant. Should we experience
actual claims and repair costs that are higher than the
estimated claims and repair costs used to calculate the
provision, our operating results for the period or periods in
which such returns or additional costs materialize would be
adversely impacted. Warranty expense for the fiscal years ended
April 30, 2006, 2005, and 2004 amounted to $1,263,000,
$1,539,400, and $1,591,741, respectively.
The change in accrued warranties in the fiscal years ended
April 30, 2006 and 2005 was as follows:
Sales and Promotional Related
Expenses — In accordance with EITF Issue No.
01-09,
“Accounting for Consideration Given by a Vendor to a
Customer (including a Reseller of the Vendor’s
Product),” we present product
Table of Contents
SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS — (Continued)
sales in the consolidated financial statements net of customer
promotional program costs that depend upon the volume of sales,
which amounted to approximately $318,000, $437,000, and $234,000
for the fiscal years ended April 30, 2006, 2005, and 2004,
respectively. We have other customer promotional programs, the
costs of which do not depend on the volume of sales. These costs
amounted to approximately $41,000, $182,000, and $197,000 for
the fiscal years ended April 30, 2006, 2005, and 2004,
respectively, and are included in selling and marketing
expenses. We have a co-op advertising program at the retail
level. We expensed these costs amounting to approximately
$1,064,000, $670,000, and $797,000 in fiscal 2006, 2005, and
2004, respectively, as selling and marketing expenses.
Shipping and Handling — In the
accompanying consolidated financial statements, we included
amounts billed to customers for shipping and handling in net
product and services sales. We included our costs relating to
shipping and handling charges in cost of products and services
sales.
Insurance Reserves — We are self-insured
through retentions or deductibles for the majority of our
workers’ compensation, automobile, general liability,
product liability, and group health insurance programs.
Self-insurance amounts vary up to $2.0 million, per
occurrence. Our liability for estimated premiums and incurred
losses are actuarially determined and recorded in the
accompanying consolidated financial statements on an
undiscounted basis.
Recently Issued Accounting
Pronouncements — In May 2005, the FASB issued
SFAS No. 154, “Accounting Changes and Error
Corrections,” a replacement to Accounting Principles Board
(“APB”) Opinion No. 20, “Accounting
Changes” (APB 20) and FASB Statement No. 3
“Reporting Accounting Changes in Interim Financial
Statements.” This statement applies to the accounting and
reporting of all voluntary accounting principle changes and
corrections of errors. SFAS 154 requires such changes be
retrospectively applied to financial statements from previous
periods unless it is impracticable to determine either the
period-specific effects or the cumulative effect of the change.
SFAS 154 carries forward many provisions of APB 20 and
SFAS 3 without change, including those provisions related
to reporting a change in accounting estimate, a change in
reporting entity, correction of an error and reporting
accounting changes in interim financial statements.
SFAS 154 is effective for accounting changes and
corrections of errors made in fiscal years beginning after
December 15, 2005. While we do not believe the adoption of
SFAS No. 154 will have a significant impact on our
financial position, results of operations, or cash flows, the
impact of adopting SFAS No. 154 depends on events that
could occur in future periods and, therefore, cannot be
determined until, and if, an event occurs in the future period.
In February 2006, the FASB issued SFAS No. 155,
“Accounting for Certain Hybrid Financial Instruments,”
which amends SFAS No. 133, “Accounting for
Derivative Instruments and Hedging Activities” and
SFAS No. 140, “Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of
Liabilities.” SFAS No. 155 simplifies the
accounting for certain derivatives embedded in other financial
instruments by allowing them to be accounted for as a whole if
the holder elects to account for the whole instrument on a fair
value basis. SFAS No. 155 also clarifies and amends
certain other provisions of SFAS No. 133 and
SFAS No. 140. SFAS No. 155 is effective for
all financial instruments acquired, issued, or subject to a
remeasurement event occurring in fiscal years beginning after
September 15, 2006. Earlier adoption is permitted, provided
a company has not yet issued financial statements, including
interim periods, for that fiscal year. We do not expect the
adoption of SFAS No. 155 to have a material impact on
our financial position, results of operations, or cash flows.
In March 2006, the FASB issued SFAS No. 156,
“Accounting for Servicing of Financial
Assets — an amendment to FASB Statement
No. 140.” SFAS No. 156 requires that all
separately recognized servicing rights be initially measured at
fair value, if practicable. In addition, this Statement permits
an entity to choose between two measurement methods
(amortization method or fair value measurement method) for each
class of separately recognized servicing assets and liabilities.
This new accounting standard is effective January 1, 2007.
The adoption of SFAS No. 156 is not expected to have
an impact on our financial position, results of operations, or
cash flows.
Table of Contents
SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS — (Continued)
Reclassification of financial
information — Certain prior year components
of the consolidated financial statements have been reclassified
to be consistent with the current year presentation.
Bank Loan (repaid January 2005) — In March
2002, we entered into a specific purpose loan agreement with our
bank. Under the terms of this agreement, we borrowed
$15.0 million to pay the Acquisition Note and the Melby
Note related to the acquisition of Smith & Wesson Corp
(see Note 2). The outstanding balance of $14.9 million
at April 30, 2004 accrued interest at a rate of
5.85% per annum and was collateralized by liquid assets up
to the face aggregate amount of the obligation. This note was
repaid in January 2005 as part of our debt refinancing discussed
below.
Tomkins Note (repaid January 2005) — The
acquisition agreement related to our acquisition of
Smith & Wesson Corp. required us to guaranty
obligations of Smith & Wesson Corp. to Tomkins under a
promissory note issued on April 30, 1997 by
Smith & Wesson Corp. to Tomkins (the “Tomkins
Note”). The Tomkins Note originally was in the amount of
$73.8 million, was due on April 30, 2004, and bore
interest at the rate of 9% per annum. Prior to the
acquisition, Tomkins contributed $23.8 million of the
Tomkins Note to the capital of Smith & Wesson Corp.,
leaving a balance of $50.0 million. Immediately subsequent
to the acquisition, we paid $20.0 million of the Tomkins
Note. In April 2003, we made an early repayment of
$2.0 million to Tomkins to bring the principal balance down
from $30.0 million to $28.0 million. In July 2003, we
made another early repayment of $1.0 million to Tomkins to
bring the principal balance down to $27.0 million. This
note was repaid in January 2005 as part of our debt refinancing.
Debt Refinancing — In January 2005, we
completed the refinancing of certain of our existing debt
utilizing our receivables, inventory, and property, plant, and
equipment as collateral. The financing was obtained through
BankNorth, with which we had previous loans. As a result of our
refinancing, we were able to repay the balance due on the
Tomkins Note, which had an interest rate of 9% per year and
restrictive covenants, along with the previously existing loans
from BankNorth. We used the cash that was collateralizing our
existing line of credit with BankNorth toward the repayment of
the Tomkins Note.
The new bank credit facility consists of the following:
(1) A revolving line of credit of up to a maximum amount of
the lesser of (a) $17.0 million; or
(b) (i) 85% of the net amount of Borrower’s
Eligible Receivables; (ii) plus the lesser of
$6.0 million or 70% of Eligible Raw Materials Inventory;
plus (iii) 60% of Eligible Finished Goods Inventory; and
(iv) 40% of Eligible Finished Parts Inventory, which will
be available until September 30, 2007 for working capital
needs. The revolving line of credit bears interest at a variable
rate equal to prime or LIBOR plus 250 basis points (the
250 basis point LIBOR spread may be reduced if we meet
certain targets with respect to our maximum leverage). There
were no amounts outstanding as of April 30, 2006.
(2) A seven-year, $12.1 million term loan, which bears
interest at a rate of 6.23% per annum. The monthly payment
is $178,671, with the final payment due January 11, 2012.
(3) A ten-year, $5.9 million term loan, which bears
interest at a rate of 6.85% per annum. The monthly payment
is $45,525 through December 11, 2014, with a balloon
payment due on January 11, 2015 of $3,975,611.
(4) A $5.0 million credit arrangement for capital
expenditure. The aggregate availability of the Equipment Line of
Credit Loan ceased on April 30, 2006. There were no amounts
outstanding as of April 30, 2006.
Debt issuance costs related to the new refinancing from
BankNorth amounted to $654,843, classified as other assets, of
which $293,797 was amortized to expense during the fiscal year
ended April 30, 2006. Debt issuance costs are being
amortized using the effective interest rate method. Future
amortization of expense is as follows: fiscal year 2007 is
$71,492; 2008 is $62,935; 2009 is $53,507; 2010 is $43,652; 2011
is $33,176; and thereafter $62,932.
Table of Contents
SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS — (Continued)
In addition, on the debt extinguished in January 2005, we
recognized expense for the year ended April 30, 2006 of
approximately $232,000, related to unamortized debt issue costs
that were written off on the retirement date.
Total long-term debt maturing in fiscal 2007, 2008, 2009, 2010,
2011, and thereafter is $1.7 million, $1.8 million,
$1.9 million, $2.0 million, $2.2 million, and
$6.4 million, respectively.
The carrying amounts of notes payable as of April 30, 2006
and 2005 were as follows:
The credit facility with BankNorth contains financial covenants
relating to maintaining minimum EBITDA, maximum leverage,
minimum debt service coverage, and maximum capital expenditures.
We were in compliance with the debt covenants as of
April 30, 2006, except for capital expenditures. We
received a waiver for our capital expenditures, which exceeded
the amount allowed under the loan agreement by approximately
$1.6 million.
Letters of Credit — At April 30,
2006, we had open letters of credit aggregating
$4.1 million, with workers’ compensation bond for
self-insurance, of $4.0 million, making up the majority of
this balance.
We sell our products worldwide. A breakdown of export sales,
which accounted for approximately 11%, 9%, and 10% of net
product sales for the fiscal years ended April 30, 2006,
2005, and 2004, respectively, is as follows:
No individual country represent more than 10% of net revenue.
Table of Contents
SMITH &
WESSON HOLDING CORPORATION and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS — (Continued)
The details of other income (expense) in the fiscal years ended
April 30, 2006, 2005, and 2004, are as follows:
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