Smith & Wesson Brands Inc (SWBI) 2006 Q4 法說會逐字稿

Good day, ladies and gentlemen. Thank you for standing by, and welcome to the Smith & Wesson Holding Corp.'s Q4 2006 earnings conference call. My name is Carlo and I will be your coordinator for today's presentation. At this time, all of our participants are in a listen-only mode, and we will be facilitating a question-and-answer session toward the end of today's prepared remarks. (OPERATOR INSTRUCTIONS).

It is now my pleasure to turn the presentation over to your host for today's conference, Liz Sharp, Vice President of Investor Relations. Please proceed, ma'am.

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 other similar expressions is intended to identify those forward-looking statements.

Any forward-looking statements that we might make represent our current judgment 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 our securities filings, including our Forms S-3, 10-K and 10-Q. I encourage you to review those documents.

A replay of this call can be found on our website later today at www.smith-wesson.com. 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 contents herein. Our actual results could differ materially from these statements.

Our speakers on today's call are Mike Golden, President and CEO, and John Kelly, Chief Financial Officer. And with that, I will turn you over to Mike.

Thank you, Liz. Let me begin by giving you the agenda for today's call. First, John will review our financial results. Then I will share my thoughts with you regarding our performance for the quarter and the year, as well as our strategy and outlook for the future. After that, I will open up the call for questions from our analysts.

Now I will turn the call over to John for a review of our financial performance. Please go ahead, John.

Thank you, Mike. Sales for the year ended April 30, 2006, were $157.9 million, a $33.9 million or 27.4% increase over sales of $124 million for the year ended April 30, 2005. Firearm sales increased by $33.9 million or 29.8% over the previous year. Net income for the year ended April 30, 2006, was $8.7 million or $0.22 per diluted share, compared with $5.2 million or $0.14 per diluted share for the year ended April 30, 2005.

The increase in firearm sales in fiscal 2006 was primarily attributable to a 69% increase in pistol sales and the continued growth of our revolver line. Revolvers grew at a rate of 13.7% year over year. Pistol sales were driven by federal government orders for Afghanistan and by the introduction of the M&P pistol. Our engraving business grew over 250%, with sales increasing from $1.7 million in fiscal 2005 to $6 million in fiscal 2006.

Gross margin for the year ended April 30, 2006, increased by $8.7 million over the previous year. Gross margin as a percentage of sales and licensing was 31%, compared with 32.5% for the year ended April 30, 2005. However, cost of goods sold for the year ended April 30, 2005, included a $4.1 million insurance adjustment. Without this adjustment, gross profit for the year ended April 30, 2005, would have been 29.3% versus the 32.5% reported.

Operating expenses for the year were 35.1 million or 38.2 million when the $3.1 million reduction of environmental reserves is excluded. As a percentage of sales and licensing, operating expenses, including the environmental reserve reduction, were 23.8%, compared with 23.6% in fiscal 2005.

Operating expenses for fiscal 2006 included $2.1 million in stock option expense, compared with $626,000 in fiscal 2005. We also incurred approximately $1.6 million in consulting fees for the implementation of Sarbanes-Oxley 404, compared with $288,000 in fiscal 2005.

Capital expenditures for fiscal 2006 totaled $15.6 million, a $7.2 million increase over fiscal 2005. Most of these expenditures were related to the expansion of our pistol capacity, new products and process improvements.

We ended the year with a very strong balance sheet. Our receivable balance at year end essentially reflects one month's sales. From an inventory aspect, operational improvements continued to yield benefits. We reduced inventories by almost $800,000 while growing the business by over 27%.

We have repaid the $2.5 million in short-term debt that was outstanding at the end of the third quarter. For the quarter ended April 30, 2006, sales were a record $51.9 million, a $15.9 million or 44.2% increase over sales of $36 million for the fourth quarter of fiscal 2005. In April alone, we achieved a monthly sales record of over $27 million.

Net income for the quarter ended April 30, 2006, was $4.2 million or $0.10 per diluted share, compared with $1.8 million or $0.05 per diluted share for the fourth quarter of 2005.

Now for our outlook. Please note that our guidance for the fiscal year ended April 30, 2007, is based upon results from our existing business and does not include any additional revenue or profits from potential business ventures we may pursue.

Net core product sales for fiscal 2007 are expected to increase to between $180 and $186 million, and increase to between 14 and 18% over fiscal 2006. This increase is expected to come from the full-year benefit of the M&P pistol and rifle lines and from continued growth in the revolver business.

We expect to see year-over-year increases in law enforcement, federal government and international sales as the M&P supports further market penetration. On the consumer side, we expect to see significant year-over-year improvement for the first two quarters of fiscal 2007 as we continue to benefit from the direct sales force implemented in the third quarter of fiscal 2006.

Net income for fiscal 2007 is expected to increase to between $12.5 million and $13.5 million or between $0.30 and $0.32 per diluted share. This would represent an increase of between 44 and 55% over fiscal 2006.

If the fiscal 2006 environmental reserve reduction were excluded, this would represent an increase in net income of between 84 and 99% over fiscal 2006. The increase in our annual earnings projection from our previous estimates reflect the increased sales volume and improved gross margins.

Gross margin as a percentage of sales and licensing is expected to increase from 31% in fiscal 2006 to approximately 34% in fiscal 2007. This increase will be driven by improved efficiencies in manufacturing operations, offset by increased depreciation expense related to capital expenditures in fiscal 2006 and the full-year impact of increased utility costs.

Please note that the 34% gross margin for fiscal 2007 is an average and that quarterly gross margins will fluctuate around that number due to the impact of plant shutdowns and holidays.

Operating expenses for fiscal 2007 are expected to decline as a percentage of sales and licensing compared with fiscal 2006 expenses, excluding the environmental reserve reduction. We will continue to expand our sales and marketing activities, while general and administrative expenses should decline, now that Sarbanes-Oxley 404 has been implemented. Capital expenditures of $8 million and depreciation of $6 million remain unchanged from our previous projections.

We expect positive cash flow for fiscal 2007 of $14 million due to increased profitability. Receivables should increase as a result of the higher sales volume, but our objective is to keep inventories at current levels while growing the business.

We do not expect to be cash flow positive in the first half of fiscal 2007 due to anticipated payments for insurance premiums, profit-sharing and bonuses, as well as a heavily front-loaded capital expenditure plan. Traditionally, our fourth quarter has been our strongest from a cash generation perspective, and we expect fiscal 2007 to follow that trend.

That concludes my financial discussion. I will now turn the call back over to Mike.

Thank you, John. For the past year, you have often heard me say that we intend to make Smith & Wesson a leading force in the business of safety, security, protection and sport. Well, today I'm happy to report that our efforts in 2006 were met with resounding success and we have exceeded expectations on all fronts.

We had a number of objectives this past year, focused primarily on getting deeper into the handgun business, leveraging our very strong Smith & Wesson brand and diversifying our Company into new markets where we can successfully transfer the brand. We made notable progress throughout fiscal 2006 in all areas. Yet even with these great results, we think the best part of our story is still yet to come. First, let me cover the highlights from the year.

We continued our record-setting trend as we wrapped up fiscal 2006, setting new all-time highs in revenue and operating profit for both the quarter and the full year. There were a variety of initiatives on the sales and marketing front, which I will talk to you about later, which helped to deliver an impressive year-over-year growth in our firearms business of 30%.

We fueled our growth in fiscal 2006 with a significant product launch, namely the M&P 40, our new polymer pistol, which has now been either approved or purchased by 58 law enforcement agencies. We secured our first major order in 15 years from the U.S. government, and over the course of the year won $20 million in business, representing over 73,000 pistols to the U.S. government for shipment to the Afghanistan National Police and Border Patrol.

Despite federal export restrictions that we are working hard to change, we delivered exceptional growth for the year of over 58% in the international market. And that occurred even before we began shipping our M&P 9mm.

We took our first step toward diversification in fiscal 2006 with our entry into the long gun market. We launched our new M&P 15 tactical rifle geared at taking market share in the sporting good and law enforcement market. The consumer response has been very strong, and we have also secured orders from 10 law enforcement agencies, the largest being the Las Vegas Metro Police Department for 367 units.

And we kept our focus in Washington. I had the honor of attending the signing of the Protection of Lawful Commerce and Arms Act by President Bush, a great day for our industry and for me personally.

We accelerated our capital expenditures this year in order to expand manufacturing capacity for pistols, a business that grew 69% over the previous year's level. We relentlessly drove efficiency improvements in our factory over the course of fiscal 2006 and increased production rates significantly.

We leveraged the Smith & Wesson brand by improving the quality of our licensing network with the elimination of several underperforming licensees and the addition of three new licensees. We executed a variety of innovative marketing programs, including NASCAR sponsorship and our M&P promotional materials, some of which were unprecedented in our industry.

And last but by no means least, Smith & Wesson was recently named Manufacturer of the Year at the NRA's annual convention in Milwaukee, Wisconsin. It was a tremendous honor for us to win our industry's most prestigious award, and it serves as a real testament to the high regard in which our dealers hold us.

Well, that is a long list, but this was a big year. Now I want to focus on a couple of key areas and accomplishments that are closely tied to our recent and future success.

Sales growth for the year was an astonishing and record-setting 27%. That growth was fueled by a number of initiatives. To begin with, last summer we reorganized our sales team, replacing our manufacturer representatives with direct Smith & Wesson sales employees.

Moreover, we made sure the people we hired on the sales team came from within our own industry, bringing along their existing knowledge of territories and opportunities. The result -- dramatic increases in sales growth for every quarter after the transition.

For instance, sales growth in the sporting good channel for both the first and the second quarters was a steady 8%. We completed the transition at the end of Q2 and delivered sales growth of 24% in Q3 and 32% in Q4. This high impact was exactly what we expected to see.

Next, we put a solid experienced law enforcement sales team in place. Again, we chose people that came from within the industry. They had the right contacts, along with first-hand knowledge of professional firearms and the unique sales process that exists in the law enforcement world. In several cases, they came directly from competitors. They chose the Smith & Wesson team for many reasons, among them the product innovation reflected in our M&P pistol product line for law enforcement.

Next, we backed up those sales teams with innovative new products. On the consumer side, we delivered the 460 XVR, the world's highest-velocity revolver. Launched at the 2005 SHOT Show, and winner of a number of industry accolades and awards, the 460 XVR recently received the Golden Bullseye Award for Handgun of the Year from the NRA.

We then equipped our law enforcement sales team with the new M&P polymer pistol launch last December. Underscoring our deep commitment to penetrate the law enforcement market, the M&P series was developed hand in hand with law enforcement professionals and was designed specifically to meet their professional demands. The result -- to date, 58 agencies have either purchased orders or approved for purchased our M&P 40. What a great response.

We also turned to Washington. Shortly after my arrival at Smith & Wesson, it became clear that our Company needed representation in Washington, not only to ensure safe passage of the PLCA legislation to reduce gun manufacturer liability, but also to make the environment more favorable for U.S. gun-based manufacturers.

The result -- we were proud to be part of the team that helped drive the approval of the PLCA. And today, we are working hard to raise export thresholds and encourage our government to ensure that our military carries firearms made by a U.S. company in the United States so that both the intellectual property and the jobs remain in our country.

Finally, we supported all this work with an approach to marketing that is very new for the firearms industry. We signed up for NASCAR -- the fastest-growing spectator sport in the country and a venue where most fans will tell you their number one interest is hunting and shooting sports.

Last year, we sponsored eight races and made sure the Smith & Wesson name was highly visible. Then we debuted advertising designed to appeal to women and to hunters. We also launched a marketing campaign considered revolutionary in our industry in support of our new M&P pistol series. Bottom line -- an aggressive marketing program designed to appeal to a broader market than we have historically pursued.

Those were our key initiatives in 2006. The result was that we closed the fiscal year showing significant progress in every single channel. That includes sporting goods, law enforcement, government and international. What we are discovering as we explore our environment is that many of the opportunities are actually larger than we anticipated when we assembled our team about a year ago. Most exciting is the untapped potential that still lies ahead.

For instance, our performance in fiscal 2006 reflects only a fractional year of revenue for most of our new products, particularly the M&P series in both polymer pistols and tactical rifles. As we move through fiscal 2007, we will see the benefit of a full year of both of these products, including the M&P 9, the newest member of the M&P series.

The M&P 9mm has been designed for both domestic and international markets where NATO has approved 9mm as the caliber of choice for law enforcement and government agencies. We also expect to launch additional calibers and compact versions of the entire M&P pistol series.

In fiscal 2006, we made great progress with the government, securing the four orders for Afghanistan that I mentioned earlier. In the coming year, we will intensify our efforts to grow our military and government business. We will work to make sure our own troops are also armed with pistols manufactured by a U.S. company -- competitive, reliable products that generate American jobs and revenue. We will also pursue a host of government agencies, each of which offers sales opportunities for our new M&P series.

On the diversification front, we have taken just the first step with our entry into the long gun market and the launch of the M&P 15 tactical rifle. Our efforts to diversify will continue in fiscal 2007. We will explore opportunities in long guns such as rifles and shotguns, as well as Homeland Security products and services, less lethal products and criminal investigation devices. These are markets where there is a strong potential to tap into and build upon the Smith & Wesson brand. We'll keep you posted on our progress.

We also have tremendous opportunities that come as a result of efficiencies that were achieved in our factories this year under the leadership of Ken Chandler and his team. We've made great strides in productivity, and those improvements will continue in the new fiscal year. Today, our factory in Springfield is only about 60% space-utilized and getting increasingly more efficient. This accomplishment has created an environment where our future growth can more easily and positively impact gross margins.

And finally, we signed on a group of important new licensees to market our brand. The larger group of opportunities still remain here, however. Licensing relationships, if done correctly, require careful selection, as well as time and attention to detail. Bobbie Hunnicutt, our VP of Licensing, is working with some exciting companies that we will be talking to you more about in the new year.

And in addition to the opportunities for Smith & Wesson branded products, we are also exploring completely new markets where licensing arrangements would allow us to enter at a nominal cost and a chance to build the brand.

So in short, we have accomplished a tremendous amount during fiscal 2006 and delivered far beyond expectations. I believe we are just getting started. In 2007, we will continue our drive to establish Smith & Wesson as a leader in safety, security, protection and sport throughout the world.

With that, I would like to open the call up for questions.

(OPERATOR INSTRUCTIONS). Chris Krueger, Miller Johnson.

Congratulations. I've got a few questions. First, on your fiscal '07 sales guidance, the range is 180 to 186 -- does that include a couple million from licensing revenue or any licensing revenue?

That excludes licensing, Chris.

Very good. You commented on 58 commitments from domestic law enforcement. Can you comment on the timing of when those should turn into orders, or maybe the size of those as a group?

Yes, there were -- I believe the number is 15 that we've received the orders and we're shipping the product now as we speak. The way this works, Chris, is the department has -- I will make numbers up -- if they have 1000 officers, so they place an order, say we will take 1000 M&Ps. They may say we will take 200 a month for the next how many months that is because they have to train their officers and get them -- swap them out and what have you.

So we are shipping, it is between 15 and 20 departments right now. The others are either in the process of cutting POs and we just haven't gotten through the administration of getting it, or they're looking for funding. They have made a decision, they have done the T&Es, they've made a decision, they have picked the M&P -- now they're looking for funding to be able to pay for the M&Ps.

Is that something for those -- generally, would you expect the majority of them to occur within the next year?

Yes, yes, yes.

Can you comment on how many other domestic law enforcement agencies are currently looking at your new products? I think somewhere I read over 150 were initially --

Yes. So everybody understands, the way the police do this is they do a T&E process where they test and they pick the gun they want. There are today over 150 additional departments that are doing T&Es that the M&P is involved with.

I'm sorry, the number was what?

Over 150.

At the federal and military type of level, is that a process that tends to have a lot of RFPs, or how does that work? And if so, is there any kind of insight you can give us there?

Well, they will do -- each agency, whether it's the military or the agencies, they will do T&E processes similar to the way every police department does it. The big one is coming up or at least the contract expires next year, which is the military contract with Beretta, which I'm sure will be a massive T&E process. But every department does them. They all do them differently, because the requirements are different.

We do know that the FBI contract with Glock expired about a year ago, I think -- a little over a year ago. They have some inventory that they are going through of existing Glocks. We know that they have seen the T&E -- I mean the M&P. And as their inventory goes down, I'm sure they will be doing T&Es and what have you. But each agency is different, Chris.

Two quick questions -- what was the CapEx and your depreciation for the quarter?

CapEx for the quarter was probably close to about $7 million. And depreciation was -- I don't have the number quite right in front of me, but about $2 million, Chris.

CapEx for the year, Chris, was 15.6, I think, 15.8 million.

15.6 for the year --

15.6 for the year last year.

One last thing -- you are about exactly halfway through the first quarter. Can you comment at all on the trends you're seeing right now?

As far as our business?

Yes, like sales growth trends or --

Here's what I will say about that. We just took our sales guidance up.

Ed Ching.

Congratulations, guys. Nice quarter. Let me start off -- I don't know if I missed this, but bookkeeping question -- the one-time expenses in the fourth quarter, how big were they?

There were no one-time expenses in the quarter.

No one-time expenses. All right, and off we go. Guys, on the M&P series in the law enforcement, how are leads generated? Are they mostly inbound or from the marketing that you put out to the agencies?

Well, our sales organization is out there talking to departments all the time. We certainly also -- when we launched -- some of you guys have seen the DVD that we made on the M&P, talking about the product, and there was a whole promotional material that went with it.

That DVD and was included in the premier issue of American Cop magazine late last year that was sent to every police department in the country. So that certainly spurred some interest in the M&P even before we're ready to start shipping them.

But our guys are out there; word-of-mouth is out there. Part of the [LE] channel of distribution operates through dealers. They have salespeople out there. So there's a lot of people calling the cops. And the M&P is really the only new thing out there to talk about.

Yes, and the average -- what is the average sales cycle, do you think, can you tell us, that you expect when they come and approach you and you go there, you show them the M&P and they do the tests -- how long does that take?

You know, I hate when people ask me that question, Ed, because the answer is it depends. But they're all different. Some of them are small departments -- just tag onto what a larger department has just purchased. If you had to pick a number, it is a couple of months typically when they do the testing -- six, seven months, I don't know.

We just put out a note talking about the new platforms that you guys are putting out, and you're leading the way there. I would expect in the long term the next big market is going to be carry/conceal. And I was wondering what do you guys feel about that? It is there any R&D going into there? Or do you think maybe you'll come out with some new carry/conceal?

Yes, one of the things you may have missed what I said is the M&P will have a complete line of compact pistols to go with it.

So there would not be maybe carry/conceal revolvers or just all pistols?

Ed, we've got the whole line of J-frame revolvers out there. We've been probably the leader in that since back to the '30s -- got that line still out there.

But M&P comp -- you're right about the conceal/carry permits expanding, Ed. And the M&P compacts will fill that void.

Okay, great. Now, the M&P has been out for a while. Can you tell us a little bit more color on where you're seeing the retail interest building as obviously you're putting out more of these press releases and more of the law enforcement guys are buying it. Is there any sort of backlash on the retail side coming from some of your customers out there?

Actually, our retail channel was up 32% last quarter. And part of that is fueled by the M&P. It is doing very well at retail. And the 9mm that I mentioned, we just started shipping. That really has a couple of markets. It's pretty interesting. It has the international market -- law enforcement outside the United States is primarily 9mm. So that opens that door for us.

There are many police departments that use 9mm, like New York, I believe, uses 9mm. LA uses 9mm. But also, in the sporting good channel, that will be a big seller, one, because it is a little easier to shoot, but second is because the price of ammo for 9mm is cheaper than it is for 40. So we think that that is going to be a big seller for us in the --

Plus you get more rounds with the 9mm.

Already gotten -- I think you guys probably saw the press release that went out, but Cincinnati has already adopted the 9mm M&P.

Right. Now the other thing, though, is when you mentioned the 9mm to me, what sprung out is the fact that possibly this could be something that could replace the Army's Beretta, or -- are you guys hearing that maybe the Army is going to stick to a 9mm, or will they go back to a 45 or what?

Who knows? But what we have heard is that it will be a 45. I am pretty sure that is what it is going to be.

Cai von Rumohr, Cowen & Co.

Impressive quarter, guys. Just a housekeeping issue. You gave us for some of the categories what the sales were. Could you give us kind of for the full year what the other categories were, for example, rifles, handcuffs, all of that stuff?

Year-on-year growth?

Just give us the number. What is the absolute number? You gave us the absolute number for the full year, 157.9. What did you do in rifles? What did you do in Performance Center? Just so we get a sense of where the growth came from it. We have some of the pieces -- so we can have the rest.

Cai, the revolvers -- we pretty much were in ramp-up mode during the fourth quarter. Sales were about $2 million.

No, not revolvers --

I'm sorry, rifles. Rifles, excuse me. Handcuffs were about $5 million. They were up fairly good. The specialty service business was up 20% -- the specialty service business was down, so that kind of offset it. If you notice, when we talk about the sales growth, the firearms business was the same as the overall sales growth. So the handcuff increase was offset by the specialty services decrease. And that is happening because basically we are using more of the business we do for the outside for our internal growth. The Performance Center had a steady year, not as [quite a] growth rate as the engraving business. We are looking for the Performance Center will pick up --

What was the Performance Center? What was the number?

Performance Center was up about 10%. And I think those are the major pieces. We've talked about the pistols --

We've talked pistols, talked about revolvers, talked about engraving. I think you got most of them --

No, I think we have -- I guess as I look at the numbers, I guess I am a little confused. You did 6 million in engraving, so by my calculations, you did 2.8 in the fourth quarter -- big step up, and you basically did a big step up sequentially in the pistols. Maybe give us a little bit more in terms of why you had that kind of a step-up in those two areas.

In the pistol side, the pistol side was driven by the M&P. And the Sigma business, driven by both consumer demand for the Sigma and the Afghan orders. We basically shipped I think about half of the $20 million that went to the government, or went for Afghanistan, and that accounts for 10 million of the growth there, year over year.

And the engraving, why was that so strong?

We are just getting started with that business. This was really the first full year we have had somebody working that. We're doing a number of --

Engraving is a pretty interesting business, Cai. We put a guy and some people that are very qualified over that and set it up as a small business unit in the Company. And if you go back and look, every quarter we've been seeing pretty significant growth in engraving, once we've -- and we did a little marketing of it. We thought it was kind of a novel idea.

We've had a couple of commemorative models that we have done for the Model 29 50th anniversary. The PPK pistol had its 75th anniversary. And both of those were very well-received and contributed to that growth.

I guess the one kind of big overriding question I have is, you beat your fourth quarter by over -- what was it -- 8 million, okay? And you had this huge gain. And you yourself were saying, sports up 32% in the fourth quarter, only 8 in the first two. You're just starting to ramp the rifles. The rifles didn't really start to ramp. You have kicked them in the engraving. And yet you only increased your sales guidance for fiscal '07 by 6 million -- how come?

Well, Cai, what we try to do is as we see things that develop, we try to keep you guys informed. And we did that several times during the year where we took guidance up when different events happened that were above what we were thinking. We went from 172 to 180 to 180 to 186. At this point in time, that is the forecast we see. As events change, we certainly would react off of that.

Was there -- because it was just such an enormous quarter, I know this is your big quarter, was there anything particularly weird about like huge shipments of the Sigma that are going to kind of come down because -- the pistols were just monumental. If you kind of annualize that, you've got to be way over 186.

Well, certainly, we are shipping part of the Afghanistan order, the third -- the fourth order, excuse me -- that we received for Afghanistan. And we started shipping that in the quarter. That is spread out over -- I forget over what period of time.

It will go through October --

That will go through October, Cai, that order. And then that is the end of that order. And hopefully, there will be other orders that come on behind that. But that was a big driving force. And then we also ramped up the M&P. So we started shipping the M&P the end of the year -- call it January. We really had in third quarter, we probably had, I don't know, two weeks really worth of shipments of M&P.

M&P 15?

Well, [multiple speakers] pistols I am talking about. Them we ramped them up and we had a full quarter. Then in the fourth quarter, we were just starting to ramp up the M&P rifles.

Mike, you said your guidance excludes any new products. And you've obviously laid out a couple of areas that you are looking at. Could you give us a sense of maybe the one or two that looked the most interesting to you, and approximately when in the year could we see a new initiative? Presumably you plan on doing some of these things.

Yes, we certainly do. I'm spending a lot of time on it now, Cai. Certainly, the expanding into other categories of long guns is high on our radar screen, and we are working aggressively at that. So that is something that is right in front of us and we're moving quickly on.

The other is Homeland Security is a space that we're finding more and more opportunities for Smith & Wesson to play a role in, contribute to, and can be fairly big businesses for us. I can't give you the specifics at this point in time and I can't give you a timeline other than to say that we're spending a fair amount of time understanding those opportunities in Homeland Security products and services and how that can help diversify our Company.

And we really think our brand plays well and the market seems to think our brand plays well there. And that helps our core business, plus it puts us in new categories. So it is something that is very top priority for us as we look, as we go forward, as we diversify the Company.

That is why it was so important to get strategies in place and an effective team in place to run the handgun business, so I can spend my time now looking at these other opportunities.

Eric Wold, Merriman Curhan Ford.

I appreciate you guys keeping the '07 guidance on the conservative side. I think it is the right way to do it.

Quick question on the tactical rifle side -- I know you probably don't want to comment on when you'd want to bring those in-house from the contract manufacturers, but if they are brought in-house in '07, or just when they are brought in-house, how much additional retooling or CapEx to the facility would you need to do to bring those in-house?

If that's the decision we end up making, it is not overwhelming, Eric. It is, I don't know, $1 million.

I think, Eric, right now our focus is that we are comfortable with the supplier. We're working with that supplier to meet the demand, which has been very strong. At this point, we want to focus our efforts on broadening in the long gun market. And what we would prefer to do is if we are going to have to invest, we want to invest in other segments within that category to broaden our strategy there.

I prefer to be in all three categories and then try to understand how we supplement manufacturing maybe by coming inside, and that is what we're trying to understand.

What would the decision be if you go into a new area of long guns? What will be the decision whether you use a contract manufacturer for a new line versus doing it all in-house?

We are in the process of trying to make that decision now. And it may be different for rifles versus shotguns. We're doing all that evaluation heavily right now, Eric.

On the fourth quarter, there's nothing -- you said there's nothing one-time in the quarter. Could you talk maybe just a little bit about the G&A going up in the fourth quarter from wherever it was, kind of 5 and change in Q2, Q3, you're at 6.8 in the fourth quarter -- was that kind of overages for the bonus accrual? Was that the stock option? What was the main driver for bringing that higher and then what should we think about for a run rate into '07?

I think in terms of what happened in Q4, you had Sarbanes-Oxley expenses coming in during the quarter. That's really when you start to get into the game in terms of that. The bonus was slightly higher in terms of what the run was during the quarter. As things got picked up during the quarter, we had to accrue additional amounts. Your profit sharing was higher because the profitability was higher. The profit sharing rate usually runs about 15% of operating profit. And we fully had the -- the organization is fully up in terms of the sales and marketing side.

It will, as we go forward, we expect the G&A to come down. As we said, we spent about 1.6 million in [4 '04] costs. And we will probably -- I would think that number would be a fraction probably in the 3 to $400,000 range next year. There's still some ongoing costs there, but the outside consultants will come down. So I think you're going to see some savings there. It is probably going to be more over the back half of the year, because that is when the bulk of the costs were on the 4 '04 side.

On the claim that SiGARMS came out with with the S&P -- I'm sorry, the CHP contract, kind of semi-sour grapes there in terms of them not getting that. I know that they are complaining that it wasn't a fair process and that you've seen all -- we've talked about that.

What are your thoughts on that? Are you still on track to ship those guns to the CHP first time next month? And then has there ever been any precedent that you can think of where complaining from them or someone else has forced a department there to go back and either rebid or kind of adjust things?

There is a couple questions there. Here is what -- California Highway Patrol did their own testing and evaluation on their own. They had their own process they went through, like every department does. And the picked the Smith & Wesson product. And we are very flattered that they did that.

Our understanding was that that protest actually had been filed back in I'm going to say April, and it was pulled. It was dropped by SiG. So I'm not so sure that the information you are seeing is not old news. I don't know that for a fact. What I do know is this -- is that the California Highway Patrol armorers are going to be here next week for training. And we're getting ready to start shipping products. So I don't know that there's any more to it than that.

That is perfect. And then lastly, on the licensing side, haven't seen any deals announced for a while on that. Maybe kind of update us on what the opportunities are out there, if it's just a normal kind of lull until you find out what works for you. And then when should we start seeing the ones that were signed last year -- the gun safe, the gun cleaning products, etc., start kicking in in those numbers this year?

That is a good question. What we're finding on licensing is certainly the opportunities for our brand is big, if not bigger, than we originally thought. The difference is we were starting to go down a track that was looking for I am going to say multiple licensees that weren't necessarily in the best interest down the road for our Company. In fact, Bobbie spent a lot of time on doing a lot of these deals that were just not with quality manufacturers, just not representing our brand properly, not the message. And the brand is just far, far too important for that.

What we are learning is as our Company is growing in the consumer minds and channel, but then our focus is professional-type businesses -- Homeland Security, law enforcement, defense -- that that changes the arena and what you want to do from a licensing of your brand. It also opens opportunities in Homeland Security and criminal investigation-type products that by licensing, we can get our foot into categories and understand the categories and understand if it is an area that we want to get into.

So we have kind of redirected a little bit our thoughts from every Wal-Mart store has got 16 items in it that have Smith & Wesson on it to this brand is the strongest equity we have, and how do we do this with quality manufacturers in the space where we want to go.

We are just -- like the safe contract with Century Safe, which is a very reputable safe company, they just started shipping this month, product this month. So those deals are all going to start. The T-shirt company, which we think is a smart place for us to be, they are just getting up and running with the products. So those things are just starting to kick in.

[Spencer Ferrar], Cowen & Co.

Gentlemen, congratulations on a great quarter. A couple different questions here. First one on the XVR, I had read that there are some rebarreling issues -- specifically, after about 12 to 1400 rounds, the barrel has to be replaced due to the high pressure buildup. Is that something that you anticipate will have any adverse effect on sales? Or do people who typically own the XVR not really care about that?

We have not seen any kind of response to that that I am aware of, and I would have heard of it. So I don't believe that is an issue.

Second question regarding the M&P pistol -- if that is indeed the pistol of choice that you're going to present to the government for the replacement of the Beretta, there are some modifications that need to be made, the addition of manual safety, suppressors and so forth. Do you expect that being any manufacturing problem? Or do you already have prototypes of these military-ready pistols available for testing?

We are aware of a number of different requirements that will be part of the military contract. I don't think it has been finalized yet. But we don't anticipating manufacturing difficulties to be able to manufacture the product that they are looking for at the end of the day. And we know it will be different than the M&P, like the 40 that we are shipping today. We know there will be different requirements. The pre-solicitation that we have heard of is only for SOCOM, so we don't know what the big one is even going to -- we just don't know the details yet.

But I guess the short answer to your question is I'm sure there is going to be some work involved, but we don't anticipate it being anything that we can't handle.

And final question -- marketing against the Glock pistol -- obviously, that is sort of the mainstay right now in the law enforcement industry. It's -- firearm, a personal firearm, is very difficult to make a cultural change. And many people like the Glock.

So what is sort of your differentiation, if you will, vis-a-vis the Glock in terms of reliability, accuracy and so forth? I mean, obviously, the M&P has some characteristics which the Glock may not have, but how do you market that to a law enforcement community which is really ingrained off in their weapon and their use?

Well, what we are finding is that as our guys are putting M&Ps in the hands of people that are testing the product is that they very quickly recognize the accuracy of our product, the safety features that are built into our product, the versatility of our product, just the ergonomics itself on the barrel.

We are finding officers that are not particularly good shots due to their qualifications with whether it is Glock or Beretta or other pistols, when they use -- their score significantly improves, same scenario, same range, using the M&P. The interchangeability of the grips -- it is all the features that are part of it we think make it extremely competitive with Glock.

We think -- and officers are telling us, Spence, that it is demonstratably different. They notice the difference, and by and large, people like it. I mean, we designed it talking to law enforcement agencies to make sure we had -- that it filled a need to be able to take market share from Glock.

So there is a marked difference in their performance, from what you have been able to tell in your preliminary --

Substantially different.

Yes. Absolutely. And if you talk to departments that have tried it, they will tell you that. We hear that over and over and over again, which is why we are so excited about it.

Super. Final question. You've gotten some good sales and traction with Afghanistan with the Sigma. Any efforts or update you can provide for the Iraqi security forces or troops over in other parts of the world?

That is a good point, Spence. We have been fortunate -- we have received call it $20 million in orders from the government for Afghanistan. We haven't shipped one piece to Iraq yet. That is in my mind's eye and probably everybody on the call, that is the mother lode.

So we are in the process right now of talking to the folks in Washington about getting Smith & Wesson products shipped versus competitive foreign products shipped to the Iraqi military and police. There is a 28,000-piece solicitation that was granted to Glock that has been rescinded that was product going to Iraq. And Glock has historically had the product going to Iraq. And that's because we're trying to get ourselves -- we are down there, we're talking to people, we are going after that business. So we will see how that piece -- that comes out.

When do you expect the resolution for that to come out -- would that be [multiple speakers] quarter, potentially?

I think that would probably be in our -- probably our fiscal -- the resolution, that doesn't mean what the result will be, but probably will be resolved sometime in our fiscal second quarter, I guess. We're not sure. There will be a fair and open competition, which the government has not been doing for Iraq. And we forced that issued that there will be a fair and open competition. And we won them when it was for Afghanistan, so we have no question -- it's the same products we're competing against, so we think we have a fairly good shot.

Outstanding. Well, congratulations again, and thank you for answering the questions.

Cai von Rumohr.

Channel -- could you give us some guidance by channel? You talk about what the results were for '06, but where do you expect the growth to come in fiscal '07?

We are looking for across-the-board growth, Cai. I think it's -- definitely we expect the strong growth in the law enforcement side this year would be a full year of the M&P rifle and pistol. The consumer market, we expect that to be steady or good growth there. I think it will be stronger in the first half than the second half in terms of comparables in the consumer markets just because we're going to have -- the comps will be tougher when you get into the second half.

International will continue to grow now that we have -- it is the same story in the international market as the law enforcement in that we have the 9mm out there and we have sent out some samples for test and evaluation in the fourth quarter. Those will probably take 90 days or whatever to complete their test and evaluation. If we receive orders, they will probably ship in the second half of the year. So we are looking at it, the law enforcement piece and the international piece and the military are all going to be driven by the M&P.

And because of the whole bid process in test and evaluation, you probably will see the consumer side carry the load in the first half of the growth, and then the other pieces pick up in the second half, just the way we've kind of dialed it into our plan. Now, we may get pleasantly surprised in some cases. For example, North Carolina was a pleasant surprise in terms of our planning. We had built in a little more time for T&E, and that happened quite faster than we expected.

Can you give us any kind of guidance on either quantitatively or in terms of qualitative and color in terms of the seasonal pattern we should look for by the quarterly pattern in fiscal '07?

Why don't you walk through the seasonal --

Seasonal pattern in terms of the sales, Cai?

You mentioned some of these issues -- consumer should be stronger in the first part, but normally you have your strongest in the fourth quarter and you just basically blew the doors off totally this year. Is it going to be that kind of a pattern? Is it going to be more even? You talked of --

You are going to see, Cai, the year-on-year growth, okay? You're going to see, we believe the first quarter and the second quarter we are competing against -- in the sporting good channel, we're competing against a period when we did not have our own salesforce out there for the most part. We got these guys in place. Third quarter, they start competing against when we were up 24% last year. So you may see -- you will see growth, but you may see it moderate a little bit off the 20%-plus growth we're seeing.

The law enforcement, you will see a ramp-up as the year goes on as the M&P T&Es take hold and people find the money, and so you'll start to see that ramping up as the year goes on. The same will happen with international.

From a margin perspective, Cai, we have a planned plant shutdown in the second quarter for two weeks. And we have a one-week shutdown during the Christmas holidays, which would happen in the third quarter. So you will see margins be softer in Q2 and 3 versus Q1 and 4.

Tony Lisa, Crown Advisors.

Mike, could you comment on pricing for the M&P? And then I'm sure you are sensitive to giving out competitive information, but if you think about what you thought you were going to get when you started this both from not only a revenue perspective but cost of goods sold then net on the product, how does it compare to what you thought about, say, six months ago?

Yes, I can, Tony. We are very pleased with the results, both sales and profits that we are seeing with the M&P. You remember what I told you guys when we started, when we were doing our new product development process, that we are looking at handguns, that as we roll new product out, to have the gross margin be accretive to our gross margin. In other words, these are good for us.

When we launched the M&P, we came out at a premium to Glock very consciously. And we came out with a premium to Glock because we have a terrific product and we did not want to get into a price battle. And we tried to take that out of the equation. What we found was that there was an issue at retail -- this is in the sporting good channel -- at a retail price over $500. So we reacted off of that. That was not a total surprise to us. We tried to push the envelope a little bit and it was just -- it just wasn't -- that was a magic number there, $500. So we reacted accordingly.

But was that was not a total surprise to us. In law enforcement, I think it is fair to say we are about where we thought we would be. It is a competitive battle. And we're seeing the margins about what we thought we would see in that end of it. So from a top line and a margin standpoint, it is filling all of our objectives and expectations.

So just to follow up on that, the sort of incremental gross margin story over the course of, say, the next 18 months is still intact?

Tell me -- say what you said--?

Your growth in gross margins can still be expected --

Absolutely.

Absolutely. Our guidance talks about 34% for the coming year versus 31 for this past year.

Yes, absolutely.

The other question, Mike, and I don't know to the extent that you can answer this, but the number of media mentions that you're getting is really big, and obviously that speaks volumes for the all-in effort of the team. I'm just wondering what kind of competitive response you are getting at this point in time, because given who your competitors are and how much market share they have, I would assume the answer is not nothing.

I actually -- I really believe -- certainly, we have been fortunate enough -- we have a good strategy and a terrific company. And we're getting press tied to both, and the results have been positive. So there's a lot for the press to talk about at Smith & Wesson. There is a lot going on here. And we are pretty excited about it.

I think it's good for the industry, quite honestly, Tony, that there is a U.S. company that is a legacy brand that is doing well. It is made in America -- you know the whole story. There aren't a lot of competitors that have a story like ours to tell.

So we are really -- our results are outperforming competitors. And we have to stay diligent on that. We work hard every day to make sure of that. But I am not seeing any competitive press that in any way concerns me or is even reacting off of it, which I find interesting.

Nothing drastic on pricing, for example, from your competitors?

No. This is a product game. And our product is -- we have terrific product. And we are marketing. Our brand means a lot. Last year, we had over 60 covers in firearms magazines like Guns & Ammo and those sort of magazines -- over 60 covers, with more than 100 million impressions. It's new product; it is a revived company; it is a legacy brand.

If you think about the other players in the industry and they don't have a lot of -- I was going to say shots to take, but that is probably not the right wording -- our job today is to just stay two steps ahead. And that's what we work on every day. But we are not seeing that kind of reaction.

Tony, to the contrary, actually, one of our major competitors actually raised prices 5%, I think, last month. It is not being -- cutting -- it is more they are just going their own way.

Last question that I have relates to just in the retail channel and the direct sales effort, if you will. Can you be specific, Mike or John, and tell me how long we are into that?

How long like -- had our own guys?

In terms of time, yes.

Six months, maybe. The way it worked, Tony, was during the second quarter was when we began to make the transition -- second fiscal quarter. And we recruited and got some terrific people to join the organization. So five, six months -- six months.

November 1 we had them all in for training. So that was probably I would say the kickoff point.

And do I understand correctly in that you had a portion of your sales were direct in the past and a portion were through dealers and now they are now all direct?

And actually, interestingly, where we had our own guys, the sales per person where we used independent reps were 3 to 1.

I just wanted to make sure that I was right. So my question is, where are you on the new direct side, if you will, the group that is transitioning?

It is 100% direct now.

So in terms of getting up to that productivity level, are you halfway there? Are you a quarter of the way there?

I would say we're still on our way up. We are training people. So, fortunately, my background, Tom Taylor's background, Leland Nichols' background, are from pretty strong sales and marketing companies that training is a very important ingredient. And that is still an opportunity for us.

So it sounds like that still has more room to improve.

Yes, I think so.

Thank you very much for all your hard work.

[Kai Tow, Azgar] Capital.

Congratulations, guys. Just had a quick question. There was an article today in the Journal regarding another failed brand -- a former brand of [Glory] Winchester. And I was wondering, a lot of people have talked about you guys making acquisition opportunities. Does it make sense for you to look at identifying an additional brand like a Winchester, which has a strong history, to pursue in addition to your growth efforts?

I really don't want to comment on any acquisition, specific acquisition activity. I can tell you we looked at the company and you read the article in the paper today. There is a reason why we didn't do anything further on that. The brand is an interesting -- it is a good brand. And actually, the lever action rifle was actually developed by DB Wesson back in the 1850s. So it's kind of interesting the way that works. It is a good brand, let me say. There are a number of -- we have a terrific brand. So that is kind of the way I think about it.

Well, thank you for everything.

Operator, let's take one more and then we will wrap it up, okay?

Carter Dunlap, Dunlap Equity Management.

Two questions. I am not familiar with last year's fourth quarter. So to put this $27 million April month in perspective, was that -- that kind of surge you have seen, was it from your retail channel? Can you sort of explain a bit more about that?

It was a combination of a number of factors. We had done 36 million last year. Afghanistan of the $15 million increase was over $5 million of that. You also had the rifle -- the M&P 15 rifle, which was about $2 million of that. And then you had the full quarter of the M&P pistol, and then continued strong growth of our other product lines during that quarter.

And the sporting good channel is growing well for us.

Just a mixture of things as opposed to a back-end-loaded --

We have been working on a lot of initiatives all year. And they're all coming together, is what you are seeing.

Sure. Well, maybe that feeds into my second question, which is in light of your sort of front-end-loading of the CapEx in the first two quarters, is there a financing need for the working capital? And if so, how much and from where?

No, we have access to a $22 million line of credit. So there's plenty of room. We have no short-term debt on the books at the end of the year. So there is plenty of availability to handle that, so there's no need to raise any money. And as we indicated, we expect to be about $14 million cash flow positive for the year with our existing capital plan.

So timing-wise, Carter, having said that, timing-wise during the course of the year, we may be into the banks just because we are so heavily front-loaded. But by the end of the year, we will be out of the banks.

Okay. Well, thank you, everyone, for joining us today. And thank you for your support through our first full year as a new management team. I also want to take a moment and thank the management team and each employee at Smith & Wesson for delivering some exceptional results in the past year.

To those of you on the call, I look forward to meeting with you in the new fiscal year and sharing the results of our ongoing drive to make Smith & Wesson a major force in safety, security, protection and sport. Until then, watch for us at the Rodman & Renshaw Security Conference. John and I will be there this Monday, June 19, at the St. Regis Hotel in New York. And thanks again for your support.

Ladies and gentlemen, we thank you for your participation in today's conference. This concludes your presentation, and you may now disconnect. Good day.