Shares of Smith & Wesson Brands, Inc. traded down about 16% early Friday afternoon after the company said sales fell 31% in the third quarter ended Jan. 31, well below the targets of Wall Street analysts.
“As you can see from NICS data over the past three months, the firearms market, while still high and healthy with new entrants, has cooled considerably since the peak of the pandemic outbreak, returning to more normal levels throughout our third quarter,” said President and CEO Mark Smith. “And with the recent February results just released this week, it now appears to be tracking historical pre-pandemic demand patterns.”
The National Instant Criminal Background Check (NICS) system adjusted by the NSSF in February 2022 was down 2.5%. NICS checks fell 40.9% in January and in December 2021 they were down 6%.
Smith said: “While this has obviously resulted in lower revenue from previous periods for Smith & Wesson, and no one is ever thrilled to announce a quarter with a significant drop in revenue, this macro demand pattern is very familiar to us and exactly what our business model is designed to accommodate. I am very proud of the team and the fact that once again they have demonstrated their ability to generate significant profitability, regardless of general market conditions. »
Market share gains
Smith’s main message was to appeal to Smith & Wesson’s flexibility to increase production to capitalize on growing demand for firearms for much of the past two years, while maintaining strong profitability as demand declines. .
“Our manufacturing team increased throughput by over 82% during the push, which not only allowed us to gain impressive market share, but also established a very strong business foundation for long-term success. “Smith said. He noted that since the spike in gun demand began in March 2020, Smith & Wesson has paid off $160 million in debt, is now debt-free, repurchased $200 million in stock, this which reduced its outstanding shares by nearly 20%, reinvested nearly $40 million in the company and built a strong balance sheet with more than $107 million in cash.
As demand trends normalized in the current quarter, strong gross margins, supported by higher average selling prices (ASP), helped offset lower sales to deliver solid profitability, although lower than last year’s high demand levels. Gross margins in the quarter fell just 300 basis points despite a 31% drop in revenue, inflation and supply chain pressures.
Says Smith, “When demand starts to return to more normal levels, we don’t experience the typical underutilization problem that many manufacturers would face in such a volatile market.”
The CEO further noted that the gross margin and EBITDA percentages for the quarter were at the peak of its published financial guidance model and exceeded the peak for the year to date.
“The firearms market has always been subject to cyclicality, which is why our goal as a company has been to manage our business for the long term, sustainable growth, with an emphasis on safety, quality, new product innovation and operational excellence that will stand the test of time,” said Smith.
In the quarter, sales reached $177.7 million, a far cry from Wall Street’s consensus target of $198.29 million. On a two-year basis, sales jumped 139.5% from the third quarter of fiscal 2020.
The year-over-year decline reflects steeper declines in the long gun category than in the handgun category. Significantly lower volumes were also seen in polymer frame pistols compared to a year ago, offsetting the still high demand for revolvers.
“With our high-end capacity levels being much higher than many of our competitors, we were able to fill the channel very quickly in our second quarter as demand slowed,” Smith said. “And since then, in-channel inventory levels for our products have remained largely flat, indicating strong selling of our shipments in the quarter, albeit at lower levels.”
Average selling prices are improving
On the positive side, average selling prices, which remain “very strong” despite the drop in volumes, helped by a reduction in promotional programs combined with price and mix.
“Throughout the wave, we have been actively working to optimize our product line portfolio by streamlining certain SKUs or sometimes entire product lines, introducing new products to replace them, and evaluating pricing across range,” Smith said. “With higher ASPs due to pricing and mix offsetting nearly 22% of volume-related declines in the quarter, the results of these efforts are evident. Although a more competitive market in the near term will likely exert some pressure on these ASPs, we expect that over the long term, the majority of these gains will be sustainable.
During the third quarter, the mix decreased 23.4% compared to the same period last year, while units shipped in the consumer channel decreased 41.1% for the same period.
Deana McPherson, CFO, said on the call, “We believe the quarterly numbers do not reflect our true position in the market, as our flexible manufacturing model allows us to quickly adjust capacity as changes demand. Outsized market share gains up for grabs due to increased demand have largely persisted, as evidenced by reviewing our year-to-date results, versus 2020, where our shipments of sport increased by 56.3% against a growth of 25.7% in the mix.
Gross margin in the latest period eroded 300 basis points to 39.6% from 42.6% in the same quarter last year, but improved 1160 basis points from the 28.0% margin observed in the third quarter of fiscal 2020.
The decrease in the margin is mainly due to the decrease in sales; however, other contributing factors included unfavorable absorption, inflationary costs on certain labor and material accrued liabilities associated with the planned relocation of the company’s corporate headquarters and certain manufacturing operations and distribution in Maryville, TN. The company is leaving Springfield, MA, as a bill in Massachusetts seeks to ban the company from manufacturing certain firearms that contributed up to 60% to the company’s revenue in the last fiscal year.
The company is on track to substantially complete by the third or fourth quarter of calendar year 2023.
Price increases and favorable mix changes were positive for margins in the quarter.
Operating expenses of $30.7 million for the third quarter were $1.4 million higher than the same quarter last year, primarily due to costs of $1.7 million related to the planned move , as well as increased costs for marketing, trade shows, travel and sales promotion, much of which is associated with a return to more normal business activities. These increases were partially offset by lower distribution, legal and compensation costs.
Quarterly GAAP net income was $30.5 million, or 65 cents per share, compared to $62.3 million, or $1.12, for the comparable quarter a year ago. On a non-GAAP adjusted basis, net income fell 47.3% to $32.9 million, or 69 cents per share, missing the Wall Street consensus estimate of 83 cents.
Non-GAAP results exclude costs related to the planned relocation, spin-off of the Outdoor Products and Accessories business in fiscal 2021, COVID-19 related expenses and other costs.
Quarterly non-GAAP adjusted EBITDA was $51.9 million, or 29.2% of sales, compared to $89.8 million, or 34.9% of sales, a decrease of 42. 2% a year ago.
Healthy Product Pipeline
Looking ahead, Smith said Smith & Wesson has an “impressive pipeline” of new products slated for launch over the next 12 months.
He said: “Just in our third quarter, we launched our highly anticipated M&P chambered in 10 mm, the new CSX, an all-metal chassis with a hammer, a concealed carry gun, shown the lead shot, which has been well received and is in high demand, and our Volunteer Rifle series, the next generation of our popular M&P15 rifle line. We’ve also partnered with Vista Outdoor to co-launch their new 30 Super Carry ammunition with our popular Shield EZ and Shield Plus, chambered for this exciting new bullet with ballistics comparable to the hugely popular 9mm but with dimensions that allow for increased round. capability in the same gun footprint.
Marketing-wise, brand campaigns developed around the 10mm M&P reached over three million customers on day one and a similar response came from content created for the CSX Volunteer and 30 Super Carry.
Looking to the current fourth quarter, channel inventory has remained relatively stable in the third quarter and distributors currently have approximately 18 weeks of supply for a wide range of products. McPherson said: “We believe current channel inventory is healthy, ultimately leading to positive consumer experiences by ensuring adequate supply to balance normal production levels while meeting short-term fluctuations in demand. .”
With high inventory levels and more normalized consumer demand, Smith & Wesson expects fourth-quarter sales to return to pre-pandemic levels, implying flat sequential sales.
Smith & Wesson expects to build internal inventory throughout its fourth quarter as it continues to restock after finished goods inventories were completely depleted last year.
Despite the expected reduction in sales and approximately $3 million in expenses related to the move to Tennessee, Smith & Wesson still expects to meet or exceed financial targets set at its analyst day in June 2021. Targets include
- maintain EBITDA margins of 20% to 30%,
- gross margins of 32% to 42%; and
- generating more than $75 million in cash annually.
Photo courtesy Smith & Wesson/SHOT Show 2022