Smith & Wesson Brands Inc (SWBI) 2007 Q3 法說會逐字稿

Good day, ladies and gentlemen. And welcome to the third quarter 2007 Smith & Wesson Holding Corporation earnings conference call. My name is Michelle, and I'll be your audio coordinator for today.

[OPERATOR INSTRUCTIONS]

I would now like to turn the presentation over to your host for today's call, Ms. Liz Sharp, Vice President Of Investor Relations. Please proceed ma'am.

Thank you and good morning. Before we begin the formal part of our presentation, let me tell you that what we're 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 Web site 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 content 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. With that, I'll turn you over to Mike.

Thank you, Liz. And good morning, everyone. 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 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'll turn the call over to John to review our financial performance. Please go ahead, John.

Thanks, Mike. Net product sales for the three months ended January 31, 2007 were $53.9 million -- $15.2 million or 39.5% increase over sales of 38.6 million for the three months ended January 31, 2006.

Firearms sales, our core business, increased by $14.7 million or 41% over the comparable three months of the previous year.

Net income of 1.6 million or $0.04 per diluted share for the three months ended January 31, 2007 was $458,000 or $0.02 per diluted share higher than the $1.1 million or $0.02 per diluted share for the three months ended January 31, 2006.

The 41% increase in firearms sales in the three months ended January 31, 2007 includes $2.7 million in Thompson product sales and also reflects a 59.5% increase in Smith & Wesson pistol sales, and a 66.5% increase in Walther sales.

Pistol growth has been driven by the success of the M&P pistol in both the consumer and law enforcement market. Walther sales reflected the continued demand for the P22 and PPK pistol lines.

A portion of our revolver production was diverted in the third quarter to engraved products, which grew 133% for the quarter, and which typically contribute a significantly higher gross margin. On a combined basis, revolvers and engraving grew 4.4%.

Gross profits of $17 million for the three months ended January 31, 2007 increased by approximately $5.7 million year-over-year. Gross margin as a percentage of sales and licensing was 31.3% compared to 28.9% for the three months ended January 31, 2006.

Gross profits for the three months ended January 31, 2007 included $1.3 million in amortization of fair market valuation of the Thompson inventory. Excluding this item, gross margin for the three months ended January 31, 2007 would have been 33.6%.

Cost of goods sold for the three months ended January 31, 2007 was $37.4 million, and included $196,000 in higher utility expense as well as $382,000 in additional depreciation expense related to capital expenditures in fiscal 2006 and 2007 undertaken to support the strong demand for our pistols and new product startups.

Operating expenses for the three months ended January 31, 2007 were $13.3 million, a 41.9% increase over expenses of 9.4 million for the comparable three months of last year. The increase was driven by higher compensation expense for our expanded sales force as well as increased profit-sharing expense as a result of the higher operating profit.

The SHOT Show, which is our industry's largest annual trade show, was held in January this year compared to February of 2006. As a result, there is approximately $500,000 in expenses included in the quarter ended January 31, while in fiscal 2006, those trade show expenses occurred in the fourth quarter.

General administrative expenses, all as a category, also included $415,000 in expenses related to the amortization of intangible long-lived assets acquired in the Thompson purchase.

In the operating expenses, approximately $1.7 million was related to the Thompson acquisition -- to the Thompson expenses for the period. Income from operations for the three months ended January 31, 2007 grew to $3.7 million, 6.7% of sales and licensing, compared to 1.9 million or 4.8% of sales and licensing for the three months ended January 31, 2006.

Now, let's look at the nine month results. Net product sales for the nine months ended January 31, 2007 were $152.3 million. 46.2 million or 43.6% increase over sales of $106 million for the comparable nine months of last year. Firearms sales, our core business increased by $45.2 million, or 45.9% over the comparable nine-month period of the previous year.

Net income of $7.8 million or $0.19 per diluted shares for the nine months ended January 31, 2007 was $3.3 million or $0.08 per diluted share higher than the $4.5 million or $0.11 per diluted for the comparable nine months of last year.

Results for the nine months ended January 31, 2006 included a $3.1 million favorable environmental reserve reduction, which represented $0.05 per diluted share on an after-tax basis. Without that reduction, earnings would have been $0.06 per diluted share for the nine months ended January 31, 2006 compared to $0.19 in earnings per share for the same nine months of fiscal 2007.

Gross profit for the nine months ended January 31, 2007 of $49.7 million increased by approximately $18.3 million year-over-year. Gross margin as a percentage of sales and licensing increased to 32.3% compared with 29.2% for the comparable nine months last year.

Excluding the amortization of the Thompson fair market valuation adjustment, gross margin was 33.2% for the nine months ended January 31, 2007. The increase in gross margin percentage was driven through higher standard margins on new products and improved operating efficiencies.

We continue to realize substantial benefits from leveraging our fixed costs. While sales volume increased by 43.6% in the first nine months of fiscal 2007 on a year-over-year basis, fixed manufacturing costs increased by only 21%.

Fixed cost increase was driven by higher utility costs and increased depreciation expense. Utilities and depreciation expenses were $2 million higher than the comparable nine months of last year.

Operating expenses for the nine months ended January 31, 2007 were $34.8 million, a 48.3% increase over expenses of 23.5 million for the comparable nine months last year. Operating expenses for the nine months ended January 31, 2006 were net of a $3.1 million favorable reduction in environmental reserves.

Excluding this reserve adjustment, operating expenses for the nine months ended January 31, 2007 increased by $8.3 million. This increase was driven by higher compensation expense relative to the expanded sales force, a $1.9 million increase of profiteering expense as a result of the higher operating profit, and an increase of $447,000 in additional stock-based compensation expense.

Operating expense as a percentage of sales and licensing was 22.7% for the nine months ended January 31, 2007, compared with 21.8% for the nine months ended January 31, 2006. However, excluding the environmental reserve reduction, operating expenses for the nine months ended January 31, 2006 were 24.7% of sales and licensing.

Income from operations for the nine months ended January 31, 2007 was $14.9 million, 9.7% of sales and licensing, compared with 7.9 million or 7.4% of sales and licensing for the comparable nine months last year -- an increase of $7 million or 87.7%. Again, of the 7.9 million income from operations in fiscal 2006, 3.1 million was attributable to the favorable environmental reserve adjustment.

Capital expenditures for the nine months ended January 31, 2007 totaled $9.1 million, a $342,000 increase compared with capital expenditures for the nine months ended January 31, 2006. The capital expenditures were related to the expansion annual production in new product [inaudible].

Net cash flow for the nine months ended January 31, 2007 was 819,000, compared with the cash outflow of 3.1 million for the nine months ended January 31, 2006. There were no short-term borrowings as of January 31, 2007, compared with $2.5 million as of January 31, 2006.

Now, for our outlook for fiscal 2007 -- please note that our guidance for the fiscal year ended April 30, 2007 is based upon expected results from our existing Smith & Wesson [inaudible - background noise] and businesses and excludes any additional revenue or profit potential business ventures may pursue.

Our performance for the first nine months of fiscal 2007 continues to track to our projections. When we announced the Thompson acquisition, we revised our guidance to $219 million in net product sales for full fiscal 2007 and approximately $11.5 million in net income, for $0.27 per diluted share.

The net income reflected non-cash charges relative the amortization intangibles acquired in the Thompson transaction, as well as the amortization of the inventory step-up to fair market value in compliance with accounting regulations.

We now expect net product sales to be approximately $225 million, a $6 million increase as compared with our previous projection. This increase reflects continuing growth in our firearms business and the acquisition of Thompson. First shipments of our shotgun line will commence in the fourth fiscal quarter, which ends April 30, and due to ramp-up will not significantly impact our sales projections for the current fiscal year.

We have now completed our first full year with a direct sales force, and are therefore comparing performance of the sales force on a year-over-year basis. The results are extremely positive. Sporting goods sales grew at a rate of almost 30%. And that's without the Thompson revenue.

As we have said earlier, we believe that stabilized growth rate in sporting goods will eventually settle in the very healthy range of 15%.

Beginning with the fourth quarter of this fiscal year, we will have year-over-year comparisons, which include not only the direct sales force, but full shipments of our M&P pistol. So, we expect to see continued strong growth in sporting goods in the fourth quarter, in the range of the high teens.

Year-over-year increases in law enforcement sales have also been strong. And we expected the introduction of .45 caliber version of the M&P pistol will further improve our penetration in this channel. International sales improved in the third quarter year-over-year. And we expect to see continued improvement in the fourth quarter.

We do not anticipate any orders for Iraq and Afghanistan during the fourth quarter, due to the current Department of Defense budget debate in Washington. Last year, we had over $5 million in government sales for Afghanistan in the fourth quarter.

Net income for fiscal 2007 is now expected to increase to approximately $12 million or $0.29 per diluted share, compared with our previous estimates of 11.5 million or $0.27 per diluted share. Gross margin as a percentage of sales and licensing is expected to increase from 31% in fiscal 2006 to approximately 34% in fiscal 2007 before the amortization of the fair market valuation of the Thompson inventory.

We now expect capital expenditures of approximately $16 million for fiscal 2007. This increase reflects an additional 1.9 million from our previous projections for expenditures related to new Thompson products. Depreciation expense of 6.2 million in fiscal 2007 reflects the addition of Thompson.

Now, for our outlook for fiscal 2008, which begins May 1, 2007. We continue to project net product sales of 320 million for fiscal 2008, which would reflect a $95 million or 42% increase over our forecasted results for the current fiscal year.

Net product sales for fiscal 2008 include 70 million for Thompson products. We expect to see continued penetration in all market channels, supported by a full line of M&P pistol products, which will be available for the entire fiscal year.

We expect the ramp-up of our shotgun line to continue to the first half of fiscal 2008. And the expansion of long gun products through fiscal 2008 should contribute to the strong top-line performance. We also plan entries of Smith & Wesson bolt-action rifle that will provide further growth in the long gun category.

We continue to project net income of $27 million or $0.60 per diluted share for fiscal 2008. This would represent 125% increase in net income, and an increase of $0.31 or 107% earnings per diluted share over our projected fiscal 2007 results. Gross margins are expected to be between 35 and 36% in fiscal 2008. And operating expenses are expected to be about 20 to 21% of sales and licensing.

As we integrate Thompson into Smith & Wesson and get much deeper into hunting, we are beginning to map out how seasonality affects our combined business. Thompson brings with it the seasonality of the hunting business.

We believe that this will change how our earnings are delivered throughout the year by moving us to a model which reflects the seasonal lull during the first quarter, with subsequent quarters each delivering earnings that are at least double their comparable quarters in fiscal 2007.

Based on this model, we will therefore expect to see earnings for the first fiscal quarter of 2008, which are flat for the first quarter of fiscal 2007; and earnings in the second quarter of fiscal 2008, which are roughly double those we achieved in the second quarter of fiscal 2007.

Capital expenditures are expected to be approximately $16 million in fiscal 2008. We expect positive cash flow in fiscal 2008 of approximately $25 million. And we expect our cash flow to follow our historical patterns and strengthen in the second half of the year.

That concludes my financial discussion. And I'll turn the call over the Mike.

Thank you, John. And thank you, everyone, for joining us this morning. Well, there certainly has been a lot of activity at Smith & Wesson since I met with you in December, and it's all good. The third quarter marked some significant milestones for us along our strategic path to grow our core handgun business and to diversify our company into new markets. We've got a lot to cover, so let me get started.

Sales of $53.8 million for the third quarter set another record for us and demonstrated our commitment to growing our core handgun business. Note that these results include just three weeks of Thompson revenue in the quarter and that is traditionally Thompson's low season.

Note also that no new government bids were issued in the quarter. So, these results don't include any federal government or military sales which comprised $1.2 million in revenue in the third quarter last year.

This marks the first full quarter in which we are now comparing the results of our direct sales force on a year-over-year basis, rather than comparing the direct force to our original manufacturer's rep network. And those results are exceptional at 29.6% year-over-year growth for Smith & Wesson. And that's without the Thompson numbers.

Clearly, the increase in our growth rate over the past several quarters was not a temporary jump due only to the new sales organization, but was due to a fundamental shift in the way we expect our core business to grow in the future. That is, by using a fully direct sales force equipped with a growing pipeline of innovative new products.

Our sales performance in the law enforcement channel remained exceptionally strong with a growth rate of 135% over the same period a year ago. And this progress helped fuel the overall pistol sales growth of nearly 60%. We continue to penetrate law enforcement agencies across the country with our M&P line of powder pistols. And we expanded that line with some new offerings, which I'll talk about in a minute.

Today, we have received commitments from over 158 law enforcement agencies for the new M&P pistol. That includes agencies that have purchased, approved for purchase, or approved for on-duty carry, the M&P. Equally important is the win rate that we are achieving. For all agencies that have so far put it to the test, a full 80% of those have selected the M&P.

We also continue to gain traction in law enforcement with our M&P tactical rifle series, which has delivered a staggering rate of 96% for those agencies that have put the rifle through the test and evaluation process. Our tactical rifle sales have been exceptionally strong in both the sporting good and law enforcement channels since our launch one year ago.

In fact, we have been backlogged on tactical rifles for at least five quarters, carrying a backlog of $6 million at the end of the third quarter. To address this demand, we have now begun to supplement our external supplier with tactical rifles by building a portion of our demand in-house. We will continue to increase our internal capacity in the coming months to supplement our demand.

Our operational performance remains stellar. Gross margins of 31.3% were higher than last quarter and 2.4 points higher than the same quarter a year ago. And that result even takes into account the non-cash purchase accounting charges for the Thompson acquisition.

Gross margins for Smith & Wesson on a stand-alone basis without the acquisition was 33.8%, an improvement of 4.9 points over the same period a year ago.

Now, I want to talk about our diversification efforts. And in the third quarter, we literally made Smith & Wesson history on this front with the acquisition of Thompson/Center Arms, which was effective January 3rd.

As you know we acquired Thompson for a variety of reasons. Chief among them, the ability to accelerate our entry into the $1 billion long gun market. Thompson allowed us to acquire a profitable leader in the market through an acquisition that is immediately accretive, excluding non-cash purchase accounting charges. Thompson delivers gross margins which are accretive to our own and brings us long gun barrel manufacturing expertise that will be critical to our growth in long guns in the future.

Today, I'm happy to report that our integration of Thompson/Center is progressing very well and is meeting all of our expectations. Sales are strong. Gross margins are right on target. And the backlog is healthy. It's been just two months since the acquisition became effective.

And integration is occurring on several fronts in the factory. Most notable is our flagship integration project, which is the installation of the Smith & Wesson operating system at the Thompson facility. We're very excited about this project, because we experienced firsthand the benefits it delivered in our own Springfield factory last year.

So far, those initiatives have delivered in Rochester as well. And we've seen a 15% increase in production in the barrel manufacturing area. We're confident that, as we work through other areas, we'll be able to deliver similar levels of improvement.

Our diversification efforts this quarter weren't limited to the Thompson acquisition. The SHOT Show took place in late January this year. And it was a great show for Smith & Wesson. The SHOT Show served as a stage for the launch of a multitude of new Smith & Wesson products, several of which will help us drive continued growth in our core handgun business, and several others which represent our entry into the new long gun market.

We launched a total of 66 new products at the SHOT Show, including new product extensions. Media coverage of these products and the reception by our dealers and distributors was tremendous -- certainly, the strongest I have seen in my three years with attending the show.

Let me run through some of the more significant new products that we showed. First, this was the debut of our new shotgun line. The Silver Elite, Gold Elite and 1000 Series of over-and-under, side-by-side, and semi-automatic shotguns.

These products were truly the buzz of the show this year. The crowds were continually present around the display cases for these products. And it was evident that customers have long awaited our entry into this space.

Adding to the excitement was the fact that our shotguns were featured on the cover of the January issue of American Rifleman. We have begun to take orders for our shotguns and will commence shipping in the current fourth quarter.

Among the 30 new handguns that we launched this show, we debuted the M&P .45, our .45 caliber polymer pistol and the newest addition to our M&P product line. We developed the .45 for many reasons.

First, we want to provide consumers and law enforcement professionals with a full portfolio of these high-quality polymer pistols. To date, that portfolio includes a .40 caliber and a 9mm pistol, as well as compact versions of both. But we also developed the M&P .45, because the military has indicated their preference for a .45 caliber to replace their current 9mm pistols.

We are not alone in the launch of the .45. It was evident at the SHOT Show that our industry on a whole is awaiting news of a potential new U.S. military contract. And a variety of new .45s made their debut at the show. That's why we're especially proud that ours was selected as best in show by the U.S. Army Times Web site, and was highlighted in many industry articles.

We are also proud of the fact that the U.S. Army Marksmanship Unit attended the show this year. And they were wearing the Smith & Wesson M&P on their hips.

The M&P .45 was also displayed in the Smith & Wesson booth located in the law enforcement section of the show. And the crowds were continual.

The timing of the SHOT Show this year was also exciting, because it highlighted our very recent acquisition of Thompson. Thompson launched two new products at the show as well. First was the Triumph, a new muzzle-loading rifle.

Through our acquisition of Thompson, we now own just over 50% of market share for muzzle-loading rifles. And we intend to continue to develop new products, like the Triumph, to support our growth in that market.

We also launched the Icon, Thompson's first entry into the bold-action rifle market. The bold action rifle segment makes up just under one-half of the $1.1 billion market for long guns. And the Thompson brand name and sales distribution channel is already firmly established in hunting rifles. As a result, we expect solid and early traction in this new market.

So, let's talk about what's next for Smith & Wesson. Our strategy for growth in our core products, coupled with diversification, remains on track. In addition to the Thompson Icon, we will continue to expand our product portfolio with the launch of the Smith & Wesson i-Bolt, a bolt-action hunting rifle, at the NRA show in April 2007.

The i-Bolt has been designed, developed, and will be internally manufactured entirely in our factory in the United States. The i-Bolt will complement the new Thompson/Center Icon rifle to round out the portfolio of bolt-action hunting rifles under the Smith & Wesson and Thompson brand names.

We will maintain our focus in Washington, which is helping to ensure that legislators are aware of our competitive domestic capabilities and our intent to compete on future orders. Our M&P .45 polymer pistol will begin shipping in the current quarter. And we are prepared in the event that a Federal RFP should emerge.

To date, we have won the only new Federal government contracts for side arms that have been issued in the last 18 months. And those were for Afghanistan military last year. We're confident that our competitive position remains among the strongest in the industry to win potential Federal government and military business.

We will remain active in seeking out diversification opportunities through potential acquisitions. We have now established a presence in virtually all firearms segments.

We will continue to monitor the field for opportunities to supplement our strong organic growth and existing markets with attractive, accretive acquisitions. But we will also expand the scope of our search to include new businesses where the brand strength of Smith & Wesson has potential to earn market share.

New areas of interest to us include products and services in law enforcement, criminal investigation, homeland security and defense. Our plan has been, and will continue to be, building upon the Smith & Wesson reputation as a global leader in safety, security, protection and sport.

In closing, I want to thank you for your support. And I want to thank our employees for delivering another terrific quarter. We cannot be more pleased with the results we have delivered to date. And we remain enthusiastic about our opportunities to drive profitable growth well into the future. And with that, I'd like to open the call for questions.

Thank you, sir. [OPERATOR INSTRUCTIONS]

And our first question comes from the line of Eric Wold of Merriman, Curhan, Ford. Please proceed.

Good morning, guys.

Good morning, Eric. How are you doing?

Walk me through -- now you've had Thompson under your belt for a couple of months and been able to spend a little more time in the facilities there. Walk me through what you guys have done with the facility, but more importantly what you learned now you've gone in that you may not have learned before in terms of -- not saying this in a bad way -- but maybe how bad the manufacturing process was, how much potential for improvements there are. And if you looked out a year or two from now, where could potential margins go with the Thompson side?

Okay, it's a good question. You're right. We've had Thompson now for a little over two months. And much as we suspected, if you remember when we talked about the acquisition, our view of the manufacturing facilities were very, very similar to what Smith & Wesson's facility was like when we started here in this journey two years ago. In fact, it was almost spooky how similar it was. And has Ken has gotten in and gotten some of his guys involved, we found that exactly to be the case.

Some disciplines, such as just beginning to rearrange the factory, putting metrics in place, as simple as that sounds, has really gotten the organization focused on targets that they have to deliver. Our first objective really was to stabilize the output.

How many pieces -- and we used barrels as the key manufacturing metric there, because that really drives the production. How many are they making a day, and with specific targets? It sounds simple, but getting people focused on it.

So, the other thing that we found up at Thompson -- very, very similar to what we found at Smith & Wesson -- was the reception of the team to changing their business practices. You know, as we look at Thompson, our objective is to grow that business, and with a lot more volume into Rochester, New Hampshire.

So, we don't have the real threat of do this better or I'm going to lose my job, or any of that sort of thing. We're looking to grow this business. So, it's kind of basic blocking and tackling. The people are very good people that we found up there -- very receptive to change. And it's basic manufacturing that Ken's putting in at the early stages that we're seeing the results. And, as you heard, barrel production is up 15%, which is a really good sign early on.

Any sense on where margins could potentially go on that side?

You know, we're not going to give out a projection on that. The gross margin at Smith & Wesson has grown over the last two years, when you take out one-times and that kind of stuff, it's 6 to 7 points. Do we think that opportunity is on the top of the 39% Thompson started with, I don't know that I'd say that. But do we think it can better than it is, yes, we do.

And lastly on that, of the -- and here I don't know if I heard correctly -- but 15 or 16 million in CapEx for next year. How much of that is geared towards Thompson?

About 3 to $4 million, Eric.

Okay. And the last question, with the shotgun orders now starting to come in, can you give any sense on what you're seeing with shotgun orders so far compared to what you saw when you introduced the tactical rifle a year ago in terms of demand, excitement, et cetera?

That's a good question. Actually, it's --

We're very early stages, obviously, on this. But we're seeing the same sort of reception, quite honestly, with a little broader base, because of just the size of the shotgun market. So, we're going to be chasing production in this calendar year as we said, as we ramp up production on this.

But we've seen a very positive response from dealers and from distributors and the from the press on the product line and the quality that's built into the product, the price points we're hitting.

I think we said early on that, of the market that we're competing in in shotguns, we think in the first year, much like tactical rifles, we'll have somewhere in the range of 10 plus percent.

And then very last question, obviously one issue with the tactical rifle has been -- not a bad issue -- but having so much backlog that you can't get out the door. If you get the same level of demand for the shotguns, we talked about your production levels with that versus tactical. Will you expect to have similar type backlog issues?

The facilities and the folks we're working with on the shotguns have a far -- what's the right word for it? -- far deeper ability to expand their capacity than the partner we had originally in tactical rifles.

So, you know, it would be like any other manufacturing ramp-up that -- just getting capacity on takes a little bit of time. But we're much more comfortable that we have a lot more flex and room to grow on the shotgun side, than we're limited with in tactical rifles. That's why we're supplementing our tactical rifles in house now.

Yes, Eric. The shotguns are more of a labor issue in terms of ramping up; whereas the tactical rifles, it's a bunch of suppliers that are in it. It's much more difficult to ramp up 27 or 28 suppliers than it is to just bring out more people.

Perfect. Thank you, guys. I appreciate it.

Okay, thanks, Eric.

And our next question comes from the line of Cai von Rumohr of Cowen & Company. Please proceed.

Yes. Nice gross margin performance.

Thanks, Cai. Good morning.

Good morning. And I guess a couple of technical questions. Could you give us the expected full-year intangibles and amortization for Thompson? And how much is in gross margin? And how much is below the line?

For the current fiscal year for 2007, Cai, the gross margin piece, the inventory amortization is going to be about $3.6 million. For the intangibles that are in operating expenses, about $1.5 million in this year. Going forward, we're looking at about $4.3 million, hitting operating expenses next year. Nothing in gross margin.

Okay. And you mentioned that the Icon and the i-Bolt -- could you give us some sense in terms of how that -- the shipments of those would be ramping?

Yes. The hunting season in the United States, by and large, is in the fall. In the September, October, November time frame is when the hunting -- you get to go hunt. So, you got a seasonal effect on this.

We're going to be ramping up the -- or starting the production of the Icon, which is the Thompson branded product in the July time frame. The i-Bolt, which is the Smith & Wesson product, different product, will be starting in the June, July time frame also.

So, as we've said all along on bolt-action rifles, we'll have product in the market for the season, but we won't be at full production until calendar year 2008. So, we'll test the season. There's excitement on the Icon, because people saw it.

People that have the i-Bolt are very enthused about it. We're going to show that at the -- first public showing is at the NRA convention, which is late April. But you'll see us ramping through the season.

I am sure we'll have backlog on both products through the year. I don't believe we'll be able to meet anywhere near the demand. And that's at the timing of ramping up production.

Okay. And I guess the follow-up to that is: Assume you just had infinite demand. What's your rough guess you could get out the door in terms of all the rifles, all the long guns in fiscal '08?

Well, we will have infinite demand, Cai. What are you talking about?

Well, I'm saying --

I don't want to give production numbers. I mean, we haven't made the product yet. I would just think about it as we will be in the early stages of selling during the season. And the season's important. So, it'll have an impact on our 2008 numbers, but not nearly the impact that we'll see in the following year.

Right. So, I guess part of the point here is that you being in a start-up. And I guess you kind of alluded to that with the comment that the first quarter would be flat. So, obviously the fourth quarter is going to be a nice gain. And the fourth quarter is not hunting season. So really, you should be carrying substantial momentum into fiscal '09.

That's -- go ahead, John.

Hi. I wanted to just point out that the first, it has nothing to do with the ramp ups of products. I mean, that is a minor factor. But the seasonal nature of the Thompson business in the hunting season is one where that is an exceptionally soft quarter historically for them.

And that will cause the earnings to be flat. It's not so much driven by the fact that the Icon and the i-Bolt are coming on. That's going to be the case going forward even post launch of these products. It's just, that is their weakest quarter. Their second quarter is their strongest quarter. And that's going to kind of level out the earnings a little bit for us in the first half.

But you're right, the fourth quarter will -- the fourth fiscal quarter will continue to be our strongest quarter going forward.

And you mentioned 4.3 million in intangibles amortization next year. Will that be equally spread throughout the year? Or will that fall off as we go through the year?

That will be equally across the year, okay.

Thank you very much.

Thanks, Kay.

And our next question comes from the line of Chris Krueger of Northland Securities. Please proceed.

Good morning, guys. Nice quarter.

Thanks, Chris. Good to hear you.

A lot of questions are answered. But I guess one question I have -- you indicated you're doing some in-house production of the tactical rifles. Can you give an idea of how much of -- as a percentage of that -- you expect to do in house, in the couple of quarters from now, maybe?

We're ramping it up as we go forward. And we're going to respond and continue to add to that capacity as the demand -- remember on the tactical rifle, we've done fairly well with it. And we really haven't aggressively pursued it.

We've been successful in 96% of the law enforcement T&Es -- the count is over 50 departments -- without really trying to sell it, because we can sell everything without really pushing it. So, it's not inconceivable that, over time, the in-house production will significantly outstrip the -- what we're purchasing from a third party.

Okay. And just to be clear on that first and second quarter earnings guidance, just want to make sure I have the right numbers here. First quarter's expected to be flat year-over-year. And second quarter's expected to be double? Is that correct?

That's correct.

Yes, Chris, that's right.

And can you talk -- I don't know what you can talk about on the federal and military opportunities that are out there. I don't know if there's anything you can go over there -- any new things emerging in recent months through that?

We continue to be very optimistic on the opportunities with the Federal government. Right now -- in fact, I was in Washington about a week ago, everything's tied up in this budget today, for the supplement Department of Defense budget.

So, as we said, we're not anticipating anything major. In the quarter just ended, there was nothing. And in the fourth quarter, we're not expecting anything major. We have heard -- if you remember last, about November, the Air Force put out what's called an RFI, which is a request for information, on .45 pistols, .45 caliber pistols, which everyone responded to.

We have heard that we'll be hearing from them with an RFP, which is an actual request for product, sometime between -- in the spring or summer of this year. So, we're pretty enthused about that and waiting to hear that.

That's why we were really excited at the response that we got unsolicited at the SHOT Show from the U.S. Army Times Web site, when they picked our .45 as the best at the show; and the fact that the U.S. Military team was carrying M&Ps at their side at the show. So, we've got some pretty good support on our product.

But right now, it's kind of a wait and see. We anticipate that we'll see -- as the budget is approved, that there will be product for Afghanistan and Iraq -- there will be request for product like that. We don't know that for sure. We think that's what's going to come.

And the Air Force, we're expecting sometime spring or summer. What we do continue to see grass roots support of the M&P as our guys work with the guys that make the decisions, the guys that shoot the guns. So, we're excited about it. We're looking forward to it, as everybody in the industry is. But we've received some pretty positive, I call it unsolicited feedback I guess, from the military so far.

Okay, very. One last question -- I apologize if I missed this earlier in the call. I missed part of the call. What was your third quarter CapEx and third quarter depreciation?

For the nine months, Chris?

For nine, sure.

About $9.1 million in CapEx for the first nine months. And depreciation is about $4 million.

Okay. Thank you.

All right, Chris.

Yes, Chris. Take care.

[OPERATOR INSTRUCTIONS]

And our next question comes from the line of Amit Dayal of Rodman and Renshaw. Please proceed.

Congratulations guys.

Thank you.

Very good margins, very good things. How are you guys doing?

Good. Thanks very much.

Great. I just kind of want to focus on the licensing side a little bit. Now we're going to enter the fiscal year 2008. And I was wondering if there is anything new brewing on that front that you'd like investors to be updated on.

Yes. And on the licensing, as we look forward, the market that's opening up to us for licensing is hunting -- hunting apparel, hunting equipment. We're really -- with our coming out to hunting at the SHOT Show, which was 60 days ago. And if you guys remember -- I guess it was -- I don't who was the caller.

Somewhere along the way we talked about the response that we've seen at the SHOT Show to our licensing program, and a number of suppliers of products for the hunting industry looking for us for opportunities to license both the Smith & Wesson brand the Thompson brand, which an extra piece for us -- apparel, footwear, tactical clothing, things like that, is what Bobby is pursuing as we speak, which are new opportunities that open for us.

The other area that is just getting started, and you haven't seen anything on this yet, is the license that we continue to very excited with, with Wilson's Leather. You're going to start to see product. And they showed this product at the SHOT Show in our booth.

I got to tell you, the response from dealers on the product is they can buy the product from Wilson. And also the product will be in Wilson's 400 or so own retail outlets has been absolutely terrific. You're going to start seeing product in the store late summer -- leather goods, hats, jackets, bags, things like that. So, you'll start to see that.

So, you'll see Wilson's coming on. And then we're opening the whole arena for ourselves for hunting as we go forward.

Thanks, great. And a very general question, if you will. When you have so many revenue lines that are contributing to the business now, what should investors expect management to focus on in fiscal 2008? I mean, what are the key priorities for you right now?

Well our priorities really haven't changed. What we said is our strategy is really three-fold. First, it's to become a much larger player in handguns. And you're seeing that with 30 to 40% growth for the last four or fives quarters in handguns; focusing on opportunities, certainly in the sporting good channel, but certainly opportunities with the Federal government.

There are major contracts on the horizon that we're positioning ourselves, we believe, very well for it; and growing and regaining our share with law enforcement, where we've been successful in the last 12 months or so in winning 80% of the T&Es with the M&P.

So, first piece is growing. And that's the core business of the company, which we will never take our eye off, is growing the handgun business, continuing to aggressively grow that.

The second is our diversification efforts. And long guns, being our first move, it's a market that's 80% larger than handguns. We think our brand is -- people already think we're in that business. We think we will be very successful in long guns, over time gaining a share in long guns similar to what we have in handguns.

So, you know, first is handguns -- deeper in handguns -- then beginning to broaden the earnings base of the company. Long guns is the first move.

We're beginning to look at other potential businesses that are related to firearms, but possibly are outside of firearms -- law enforcement products, homeland security products and defense products -- all under the umbrella of the Smith & Wesson brand. And how do we make the brand ubiquitous through marketing efforts and through licensing efforts.

So, the focus really hasn't changed for two years. You're starting to see us fill in some of the blanks as we begin to broaden the earnings base. And that's really what you can expect to continue to see -- you have seen for the last two years, and will continue to see in the future.

Great. And just a follow-up on the handgun side. How many law enforcement agencies do you now have using the M&P?

It's in excess of 155, 158, something like that.

Was that the number in the press release?

Yes.

Yes.

And one key question that kind of -- and I've talked to Liz about this in the past as well -- is did these replace Glocks or some other handguns? Or were these replacements for the Smith & Wesson model itself?

It's all of the above, Amit When a department does a T&E, typically all bets are off the table. And they start with a blank sheet of paper, bring all the competitors in.

But it's a combination of Smith & Wesson product, the existing Smith & Wesson departments, Glock departments, Beretta departments, and [inaudible] departments. Probably those four are kind of in the mix there. But it's a healthy combination of all of them.

Great thanks.

Okay?

And just one final question. Sales and marketing expense has kind of jumped from roughly 9% in the previous quarter to around 11% this quarter. Where should we expect these to settle at going forward?

The jump is a bit of an anomaly, because the SHOT Show, which is typically in the fourth quarter is now in the third -- was within the third quarter this year, just a scheduling thing. That was about $0.5 million.

Right.

That's a point in itself.

Yes. So, that's kind of the bulk of it. So, we don't see our expenses as a percent of sales skyrocketing or anything like that. In fact, as we've said over time, they will remain flat or down as a percent of sales as we grow and leverage the top line.

If you look at it, Ahmed, we're looking for next year that, with the Thompson additional expenses, and adding the $4.3 million of intangible amortization, we're still looking at expenses as a percentage of sales to be in the 20 to 21 range -- or 20 to 21% of sales.

The operating margins.

Yes.

Okay.

Operating expenses.

Operating expenses.

Right. And the gross margins you said were 35 to 36%.

Yes.

For next year.

Next year, yes.

Thank you.

Great. Thanks Amit.

And our next question comes from the line of [Julian Glass] of ]Hudson Bay]. Please proceed.

Hi.

Julian, how are you doing?

I'm doing well.

Good.

I almost think that your vision's taking care of itself. Just coming back to Rodman's more mundane comment about law enforcement, which if you could give more clarification on where you see earnings, how much incremental earnings to contribute; because as far as I understand, that's a five-year repeating cycle.

So, it's almost as though your baseline rises as you get more earnings from the police. I just wondered if you could somehow give some kind of estimate of how much incremental earnings you expect from that area.

We're not breaking out our earnings going forward by segment. But you're exactly right, Julian. The opportunity in law enforcement -- there's 800,000 law enforcement agents or officers in the United States alone. And we think that we are just scratching the surface with the -- very successfully in the first year.

We won 80% of the competitions. But we're in the early stages. Don't forget, at one point in time, Smith & Wesson had 98% of the police business. Today we've got somewhere between 10 and 12%. So, the road right in front of us, we are really excited about, both with the M&P and -- with the M&P pistol, and the with M&P tactical rifle.

There are departments that use .45s, which we've -- we're just launching, starting to ship the M&P .45. We just, at the end of last year, started shipping the compact versions of the 9 and the 40. There's a number of departments that want their officers to carry both their concealed carry, or -- is that the right word for it? -- conceal carry and their main service weapon as the same product. So, we're very excited about the runway that's in front of us in law enforcement and very encouraged by the response that we've seen.

Typically, law enforcement officers are not early adopters of new firearms products for obvious reasons. They're protecting themselves or other citizens. So, the early very positive response we've seen with the M&P really makes us excited about our road to regain our rightful position with law enforcement.

[Inaudible] there's actually delayed reaction. So, we can expect additional improvements in the baseline even from the first year of acceptance.

Well, it is -- law enforcement is very much word of mouth. One department looks at what the other departments use. And it does tend to snowball. So, from my perspective, everywhere I look at it, the opportunity in front of us is huge. We're making great progress towards it. And there's no reason to think that you would continue to see success.

Right. Thank you very much. The second question I had is I understand of course in Afghanistan, the military orders aren't coming through, because of course looking how to time these things. Did you have anything in your budget previously for it, that if we strip that out you'll say you're actually achieved your earnings without any expectation of...

That's exactly right. The numbers for the quarter, and the projection for the fourth quarter do not include any major orders for Afghanistan or for Iraq, or any major government contracts.

Yes. But Julian, one thing to keep in mind as you compare Q4 this year versus last year, last year had about 5.3 million in orders for Afghanistan.

Exactly.

That's your point. Right, Julian?

Exactly right.

Yes. So, on top of not getting business from -- but hey, maybe the budget will be solved next week. I don't think so. You guys read the same papers we do. But we're not anticipating that to happen in the quarter.

Right, exactly. When you're comparing to analysts' forecast for this quarter, the fact that you did better than those forecasts, which probably isolated some kind of [inaudible].

Well, we continue to be encouraged with the performance of every -- the entire organization. And the results show that.

Well done.

Thank you very much.

Thank you.

And our next question comes from the line of [Spencer Ferrara] of Cowen & Company. Please proceed.

Gentleman, how are you doing?

Hey, Spence. How are you doing?

Hey, Spence. How are you doing?

Just a couple quick questions -- I know we're focusing on the bolt-action hunting rifle market. But going back quickly to the muzzle-loading market, during SHOT Show, it was a lot more prevalent than I had seen or thought it would be in the past.

And I was wondering I realize there has been sort of a plateauing of the revenues in the muzzle-loading market in the last few years, but was curious if that was because of production constraints from Thompson. And if so, now that you are part of -- they're part of Smith & Wesson, more production synergies and other capital capabilities -- is there any more room for production in that market?

You're exactly right. In fact, a year ago when I looked at the black powder market, kind of like you, I was surprised it's as big as it is. It's about $80 million, is the size of that market. But as we looked at Thompson, one of the opportunities that we saw there was that they were capacity-constrained, and quite honestly, marketing dollars-constrained.

So, as we looked ahead and as we continue to increase capacity in the factory, we certainly think there are opportunities to grow that business that were just lost in the past, because product was not available.

So, yes. I think your assessment is kind of the same as we see it. And as we get production off, you can certainly respond accordingly. And there are a lot of places we can go with barrels -- our own production, new products. So, we've got more work to do up there certainly. But we think that there is an opportunity and saw that in the acquisition by infusing some capital into the business.

And the other thing is I realized in the last few months you also had another management hire VP of business development.

Right.

Can you just briefly outline some of the his mandate and initiatives that you plan in moving forward?

Yes, that's a good question. We did hire a fellow, Devin Standard to head up business development for us. And there are a number of different facets that we have him involved with. Certainly helping us to identify opportunities to grow our core business -- and that could be with supplemental product offerings, different licensing venues that could be available to us. Devin is a very, very bright guy. He comes to us from Danaher, which is a terrific, terrific growth company.

So, certainly looking at that -- but also framing for us other businesses of criminal -- law enforcement products, criminal investigation products, homeland security -- it's a huge arena. What do we really mean with that?

What makes sense for us to get into, where the Smith & Wesson brand brings something to the party? We like the margins. We like the upside growth opportunities that are there. So, really spending -- Devin will frame the opportunities that potentially could exist and then help us to investigate those opportunities.

Doing good. Thanks.

Thanks.

Thanks.

I appreciate it, Spence.

Ladies and gentlemen, this does conclude the question-and-answer portion of today's conference call. I would like to turn the presentation back over to Mike Golden for any closing remarks.

Thank you, operator. Well, everyone, thank you very much for joining us on this call. Hopefully you can detect we're pretty excited about the opportunities of the results we've delivered, and importantly the opportunities. I continue to say that we're just beginning to scratch the surface. We look forward to seeing you again next quarter. And thank you again very much.

Ladies and gentlemen, thanks for your participation in today's conference call. This does conclude your presentation. And you may now disconnect.