Smith Wesson Holding Corporation F4Q08 Qtr End 04
Thank you, and good afternoon! Before we begin the formal part of our presentation, let me tell you that what we are about to say as well as any questions we may answer could contain predictions, estimates, and other forward looking statements. Our use of words like project, estimate, forecast, and similar expressions is intended to identify those forward looking statements. Any forward looking statements that we might make represent our current judgement on what the future holds. As such, those statements are subject to a variety of risks and uncertainties. Important risk factors and other considerations that could cause our actual results to be materially different are described in securities filings including our forms S3, 10 K, and 10 Q. I encourage you to review those documents.
This conference contains time sensitive information that is accurate only as of the time hereof. If any portion of this presentation is rebroadcast, retransmitted, or redistributed at a later date, we will not be reviewing or updating the material content herein. Our actual results could differ materially from these statements. Our speakers on todays call are Mike Golden, President and CEO, and John Kelly, Chief Financial Officer, and with that Ill turn the call over to Mike.
Thank you Liz, and thanks everyone for joining us. Let me give you the agenda for todays call. First, John will review our financial results, then I will share my thoughts with you regarding our performance for the quarter as well our strategy and outlook for the future. After that, well open up the call for questions from our analysts. Go ahead John.
Thanks Mike. Sales for the year ended April 30, 2008, were $293.3 million, up $59.1 million or 25.2% increase over sales of $234.8 million for the year ended April 30, 2007. Firearm sales increased by $53 million, or 23.9% over the previous year. Net income for year ended April 30, 2008, was $9.1 million or $0.22 per diluted share, compared with $13 million or $0.31 per diluted share for the year ended April 30, 2007.
The increase of firearm sales in fiscal 2008 was primarily attributable to the full year impact of Thompson/Center Arms which was acquired in January 2007 and accounted for $46.6 million or the $53 million sales increase. Revolvers grew at a rate of 9.6% year over year. Sales of our M tactical rifle increased by 30.5% over the previous year. Pistol sales declined by $8.5 million or 10.9%. It should be noted, however, that pistol sales in fiscal 2007 included $8.7 million shipped to the Afghanistan National Police and $6.2 million shipped to the California Highway Patrol. Excluding those two sizable contracts, pistol sales were up 10.1% year over year. Walter product sales grew by $3.8 million or 16.4%, benefiting from continued strong growth for the P22 pistol as well as the introduction of two new pistols.
Gross profit for the year ended April 30, 2008, increased by approximately $16 million over the previous year. On a quarterly basis, gross margins of 30.6% for the quarter of fiscal 2008 showed dramatic sequential improvement over gross margins of 25% for the third quarter of fiscal 2008. Gross margins as a percentage of sales and licensing was 31.2% in fiscal 2008, compared with 32.3% in fiscal 2007.
Gross margin was adversely impacted by approximately $8.9 million in promotional costs and $2.6 million in unabsorbed fixed costs related to plant shutdowns, a 3 week shutdown at our Springfield facility in the third quarter and a 1 week shutdown at our Rochester facility during the fourth quarter. Historically, we have always scheduled a 1 week holiday shutdown in Springfield during the third quarter. This year, that shutdown was extended by 2 additional weeks to reduce inventories.
Cost of goods sold for the year ended April 30, 2007, included $2.7 million and increased cost related to the effects of purchase accounting on Thompsons inventory. Operating expenses for the year were $68.2 million, $16.3 million higher than fiscal 2007. Approximately $13 million of the increase was attributable to a full year of Thompson operating expenses. As a percentage of sales and licensing, operating expenses were 23.1% compared with 21.9% fiscal 2007. Operating expenses also included $4.1 million in amortization of acquisition related tangibles, compared with $1.6 million in fiscal 2007.
Capital expenditures for fiscal 2008 totalled $14 million, approximately $1.7 million lower than the capital expenditures for fiscal 2007. Majority capital expenditures were related to new product introductions, expansion of our pistol capacity, and process improvement. Free cash outflow for the year was $7.9 million. Cash flow was adversely affected by higher inventory levels. Inventories peaked at $56.5 million in November 2007, ended the year at $47.2 million, $15.1 million higher than inventory levels of April 30, 2007. On a positive note, during the fourth quarter, spending decreases and inventory management drove significant improvement in the balance sheet. Short term borrowings were reduced by $12.1 million in the fourth quarter to $7 million.
We reduced inventories by $4.3 million even though our year end inventory included two large international orders which are awaiting shipment. Reducing inventories will remain a focus for us in fiscal 2009. Free cash flow was a positive $13.1 million for the fourth quarter of fiscal 2008, compared with $565,000 in the fourth quarter of fiscal 2007.
In May, we completed a registered direct offering of 6,250,000 shares of common stock which yielded net proceeds of $31.9 million and allowed us to repay the $28 million bank loan that financed a portion of the Thompson/Center acquisition. In conjunction with this repayment, we retired with $70 million acquisition line of credit. Covenants within the convertible debt agreement limit debt including open lines of credit to three times trailing 12 month EBITDA. Retirement of this line of credit gives us more options of financing future acquisitions. We expect to incur a $485,000 non cash charge in the first quarter fiscal 2009 for unamortized debt acquisition cost as a result of our decision to terminate the acquisition line of credit.
A combination of strong fourth quarter cash flow and the equity offering provide us with a strengthened balance sheet as we enter fiscal 2009. In fiscal 2007 and 2008, we issued restricted stock units to our officers. The RSUs vest evenly over a 3 year period. As they vest, the delivery of one third of these units each year creates a taxable event for the recipient and the appropriate income and payroll taxes are due at that time. For that reason, as they did last year, most of our officers have filed 10b5 1 sales plans to sell a portion of the shares they will receive later this month to cover the taxes due. Although less than 100,000shares, we want investors to be aware of this event when the relevant Form 4s are filed later in the month.
That concludes my financial discussion. I will now turn the call back over to Mike.
Thanks John. When I spoke to you all last year at this time, I laid out several objectives that we intended to deliver on in fiscal 2008. Those were growth in our core firearms business, growth in new markets with a focus on professional products, regular visits to Washington to heighten awareness of our capabilities, and a focus on profitable growth with each initiative. Despite the exceptionally tough challenges in both the general economy and the firearms industry, particularly during the second half of fiscal 2008, we were able to deliver partially or entirely on each of these commitments.
I want to first talk to you about the current environment and how we have addressed and will continue to address the challenges there. Then, I will recap our fiscal 2008 highlights and accomplishments in detail, and lastly, I will address our strategy for diversification and growth, a strategy that has remained intact despite the challenging environment that weve been facing.
As you all know, the domestic consumer firearms market experienced a decline in demand during our third fiscal quarter due to lower retail traffic driven by a variety of weak economic factors that caused a general showdown of consumer spending across many industries and products. Additionally, on unseasonable warm autumn weather throughout most of the United States also adversely affected retail traffic in the sporting goods channel. At the same time, significant purchases by distributors and retailers which had occurred earlier in the year across the industry in anticipation of a strong hunting season created unexpected high inventory levels in the channel and limited the ability of distributors and retailers to purchase additional products. We have taken many actions to address this situation. Let me give you an update.
Many of you have heard me explaining our use of the NICS data. For those of you new to our story, NICS data which is generated by the FBI gives us the number of federal background checks that are conducted each month and reflects general trends in the consumer purchases. This is only one of many tools we use at Smith Wesson to assess the health of the retail market and changes in our own market share. Very importantly, we also gather feedback from our distributors and large retailers on their sales.
So let me tell you where things stand now. In short, we continue to see encouraging signs, and as our release mentioned, we believe that the handgun inventories appear to be back to normal. However, long gun inventories in the channel have not yet cleared. NICS data for the first five months of calendar 2008 is very encouraging. The numbers have been improving. In fact, the most recent data indicates that NICS background checks for the month of May increased nearly 9% over checks done in May 2007. Thats encouraging news, especially when coupled with feedback our distributors on their Smith Wesson sales to dealers and POS feedback indicate that we continue to take market share.
Im pleased to say that in this difficult but seemingly rebounding market, Smith Wesson handguns grew 12% in the sporting goods channel in the fourth fiscal quarter. NICS data does not differentiate between handguns and long guns, so its important to realize while this is a very encouraging trend, it is not an indication that everything the industry is back on track just yet. We know from discussions with many of our distributors that there is still long gun inventory in the channel from various manufactures including Smith Wesson which must be cleared out. We also cannot know entirely which competitors may still have large supplies of inventory on hand. As a result, we will begin to scale back some of the promotional programs we launched over the past several months. We will continue to assess how inventories in this channel are moving, and we will adjust our marketing programs accordingly.
Now, Id like to turn my discussion toward the important progress weve made on our strategy on fiscal 2008, because it is our consistent focus on that long term strategy that will help us build a company that can successfully navigate short term changes in our environment. Our strategy is to grow our core handgun business while diversifying into new markets of safety, security, protection, and sport where the Smith Wesson brand can fuel growth. We grew our core business in fiscal 2008 by introducing a large number of new products and product line extensions including the addition of a compact and a midsized version of our M 45 polymer pistol as well as several line extensions to our M 15 tactical rifle. The entire M product line has been a tremendous success. These products were designed to cross multiple markets including military, law enforcement, and consumer, and they are hitting their mark in a big way.
Let me give you some facts. Since we launched our first M polymer pistol in January 2006, a 40 caliber version, we have continued to expand the product line. Today, it includes 4 calibers in both full size and compact and an entire series of M tactical rifles and M revolvers. The portfolio continues to grow, and the traction we are getting in both the consumer and the law enforcement market is very strong. So far, the M pistol has been chosen by 348 law enforcement and security agencies. That continues to translate to a win rate of over 80% of all the law enforcement contests in which it has competed.
The tactical rifle is delivering equally impressive numbers, winning 160 law enforcement and security agencies, or over 90% of all law enforcement contests that it entered. With 800,000 officers and about 18,000 agencies nationwide and 150,000 federal agents, the law enforcement channel continues to provide a significant opportunity for us to diversify by growing in the professional market and non consumer channels.
In fiscal 2008, we also launched a classic version of our popular Thomson/Center Icon bolt action rifle, and we added new calibers for this product line. While the long gun market has been challenging to say the least, the Icon has been very well received. We continue to get accolades on the Icon, so we are particularly excited to think about what this new product under the strength of the highly regarded Thomson/Center brand will accomplish as the market for hunting rifle strengthens.
Innovation is an important legacy at Smith Wesson and Thomson/Center arms, and that innovation was highlighted in fiscal 2008 by our winning a number industry awards. We received the NRA Golden Bullseye Award for three of our products. Our Thomson/Center Icon bolt action rifle was name rifle of the year. Our Smith Wesson Elite Gold shotgun was named shotgun of the year, and our M 45 polymer pistol was named handgun of the year, and while we proud to claim these accomplishments as a reflection of our employees craftsmanship and skill, we are also excited about the exposures that these awards generate for Smith Wesson and Thomson/Center brands and products. For a company that for over 100 years primarily made revolvers, the awards for rifles, shotguns, and pistols reflect significant product diversification.
We achieved many synergies in fiscal 2008 as a result of our acquisition of Thomson/Center Arms. There are a host of services that each company was out sourcing independently that have now moved inside our combined organization. Our Springfield factory now produces several components for the Thomson/Center Icon rifle. One of the most high impact synergies weve obtained is our ability to eliminate an outside vendor for the Icon rifle receivers and manufacture that product completely in house. We just began to realize the resulting savings at the end of fiscal 2008, and will realize a full year of savings in fiscal 2009. On the Smith Wesson side, weve now moved all manufacturing for the M tactical rifle barrel into the Thomson/Center Rochester, New Hampshire, facility, again a notable savings that we will realize for a full a year in fiscal 2009. These are just two examples, but the key message here is that there are multiple synergies, and we expect to develop more in the future.
As promised last year, we maintained a heightened awareness in Washington through fiscal 2008. I personally spent a great deal of time in Washington on a regular basis, and let me say its time well spent. That change was a provision which for the first time will now require the Department of Defence to allow domestic manufactures to compete for future small arms contracts it issues for weapons that will ship to the Iraq and Afghanistan military and police, and while its true that we have actually won only few new contracts that the Defence Department has issued in the past few years for handguns, it is reassuring to know that we will have an opportunity to bid on every single new small arms contract for Iraq and Afghanistan, and as history shows, when we have a chance to compete, we do well.
Let me give you a brief update of where we are with the military because I know everyone is interested to know where that stands. This is the potential business opportunity that may arise from the militarys consideration from switching from their 9 mm to a new pistol, likely a .45 caliber. Let me tell you what we know so far. As I mentioned to you on our last call, the Air Force has requested $116.4 million for about 100,000 pistols in a larger caliber on its fiscal year 2009 unfunded requirements list. What this means is that the Air Force recognizes the need for a new handgun and is officially asking Congress for the money to purchasing new weapons. I am happy to report that positive developments continue in regard to the Air Force handgun program. In April, the US Army program manager for soldier weapons on behalf of the US Air Force issued a sourced sought announcement for a modular handgun system, and of course, we responded with our pistol recommendations. The sources sought announcement indicates that the procurement will be conducted in three phases. They are a competitive down selection process, a system development and demonstration phase, and a full rate production phase. At a recent National Defence Industry Association Conference, an air force officer announced that the request for proposal for the modular handgun system would likely be issued late this calendar year. We look forward to competing to provide the US military with the best pistol in the world, and were actively encouraging Congress to fund the new pistols for our war fighters.
We continue to make progress on the licensing front. Our strategy is to use licensing opportunities to diversify and to introduce our strong Smith and Wesson brand into new markets. We signed a licensing agreement in the fourth quarter with Nationwide Digital, a division of New York Merchants Protective Company. This is a very well established company, over 100 years old, which provides alarm systems and monitoring services to companies and residences. In fact, this company has installed systems and provides monitoring for many of the municipal buildings in New York City. Nationwide is in the process of developing and will be marketing later this calendar year a line of Smith Wesson brand security products and services.
That recaps the fiscal 2008 highlights, and I think you will agree there were many. They clearly indicated that we have delivered at every opportunity on a strategy that we set in place sometime ago and will fuel our ongoing growth and health of our business. With that, let me turn to fiscal 2009 and our key objectives.
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