Smith & Wesson Holding Corporation — Q1 FY2013 Form 10-Q
Reporting period: Three months ended July 31, 2012; unaudited. The filing identifies the registrant as Smith & Wesson Holding Corporation. Unless noted, amounts below are in U.S. dollars.
Business context
The company manufactures firearms and related products. Its security solutions division (SWSS) was sold to FutureNet Group on July 26, 2012 and is reported as discontinued operations. Results are compared with the three months ended July 31, 2011.
Financial performance and position
| Metric | Q1 FY2013 | Prior-year quarter | Change / context |
|---|---|---|---|
| Net sales from continuing operations | $136.0 million | $91.7 million | Up 48.3% |
| Gross profit / margin | $51.3 million / 37.7% | $26.5 million / 28.9% | Margin up 8.8 percentage points |
| Operating income / margin | $31.3 million / 23.0% | $5.5 million / 6.0% | Operating income up 465.5% |
| Income from continuing operations | $18.9 million; diluted EPS $0.28 | $2.3 million; diluted EPS $0.04 | Up 728.7% |
| Net income, including discontinued operations | $17.8 million; diluted EPS $0.27 | $0.8 million; diluted EPS $0.01 | SWSS loss was $1.1 million, versus $1.5 million |
| Operating cash flow | $9.3 million | $(15.6) million | Improved by $24.8 million |
| Cash and cash equivalents | $60.5 million | $56.7 million at April 30, 2012 | Includes $3.3 million restricted cash |
| Debt | $44.8 million notes payable, including $1.3 million current | $50.0 million notes payable at April 30, 2012 | Repurchased $6.4 million of 9.5% Senior Notes during the quarter |
Gross-margin improvement reflected higher volumes of higher-margin polymer pistols and modern sporting rifles, better fixed-cost absorption, restructuring efficiencies, favorable foreign-exchange price variances on purchases, and other manufacturing-spending benefits. Operating expenses declined 4.7% to $20.0 million; reduced legal and consulting costs were partly offset by higher incentive, profit-sharing, and stock-based compensation expenses.
At July 31, 2012, total assets were $272.9 million, total liabilities were $140.8 million, and stockholders’ equity was $132.1 million. The company had a $60.0 million revolving credit facility with no borrowings outstanding and reported compliance with its debt covenants. The filing says existing resources and credit facilities should be adequate for operations and commitments over the next 12 months.
Material changes and operating trends
- Firearms sales rose 51.7% to $132.6 million. Modern sporting rifles increased 100.2%, handguns 38.6%, and hunting firearms 38.1%; non-firearms sales fell 21.4%.
- Management attributed growth to strong industry demand, new products, increased production capacity, and improved hunting-product output following the production move to Springfield.
- Order backlog was $392.4 million, $243.6 million above the comparable prior-year quarter but $46.6 million below the prior sequential quarter. Management cautioned that backlog may not predict sales and orders may be cancelled.
- SWSS was sold for a stated purchase price of $8.3 million, including a working-capital adjustment. The company received $5.5 million cash and recorded a $2.8 million receivable. It recognized an additional $0.8 million sale loss in the quarter; fiscal 2012 had included a $5.8 million loss.
Outlook, risks, and unusual items
- Management expects fiscal 2013 capital expenditures of $32 million to $35 million, primarily for capacity, production efficiency, new-product tooling, manufacturing technology, and an ERP system planned for fiscal 2014.
- Management expected the effective tax rate to remain stable for the rest of fiscal 2013. It anticipated approximately $6.0 million of potential future tax deductions related to the SWSS sale, subject to completing required steps.
- The quarter’s operating cash flow benefited from a $7.9 million increase in income taxes payable; higher receivables and inventory used $5.1 million and $7.5 million, respectively. Inventory was being built ahead of hunting season.
- The company had incurred $0.652 million in costs for the Thompson/Center Arms Venture rifle recall and estimated $0.904 million of remaining recall costs, included in accrued warranty liabilities. Actual warranty claims and repair costs could exceed estimates.
- DOJ and SEC matters remained unresolved. The company said it was cooperating with both inquiries; it was not charged in the DOJ indictment, and indictments against remaining defendants, including a former company executive, were dismissed. Potential penalties, business restrictions, legal costs, and reputational effects remain uncertain.
- Other exposures include product-liability claims and litigation, environmental remediation reserves of $2.1 million, and dependence on a limited number of suppliers for certain inputs. Management stated the additional reasonably possible litigation loss range could not be estimated clearly.
- The company reported no impairment charges, no outstanding foreign-exchange forward contracts, and effective disclosure controls at quarter-end. Results for the quarter may not indicate full-year performance.
Important facts for investors to verify
- Whether demand, production capacity, and backlog convert into sustained sales and margins, particularly given seasonality and cancellable orders.
- Actual fiscal 2013 capital spending, cash conversion, and working-capital needs as inventory and receivables grow.
- Collection of the $2.8 million SWSS sale receivable and completion of the anticipated tax steps supporting potential deductions.
- Final costs of the rifle recall, environmental remediation, and litigation, and developments in the DOJ and SEC inquiries.
- Debt reduction, covenant compliance, and liquidity after planned investment and continued servicing of the 9.5% Senior Notes.