SMITH & WESSON BRANDS, INC. Management’s Discussion and Analysis of Financial Condition and Outcomes of Operations (kind 10-Okay)

You should read the following Management’s Discussion and Analysis of Financial
Condition and Results of Operations in conjunction with our consolidated
financial statements and the related notes thereto contained elsewhere in this
report. This discussion contains forward-looking statements that involve risks,
uncertainties, and assumptions. Our actual results may differ materially from
those anticipated in these forward-looking statements as a result of a variety
of factors, including those set forth under Item 1A, “Risk Factors” and
elsewhere in this report.

The results of our outdoor products and accessories business, which was
previously reported as a separate business segment, are being presented as
discontinued operations in the consolidated statements of income/(loss) for all
periods presented, See Note 3 – Discontinued Operations to our consolidated
financial statements for additional information regarding these discontinued
operations. Unless otherwise indicated, any reference to income statement items
in this Management’s Discussion and Analysis of Financial Condition and Results
of Operations refers to results from continuing operations.

2022 Highlights

Our operating results for fiscal 2022 included the following:

Net sales of $864.1 million represented a decrease of $195.1 million, or 18.4%,
from our fiscal 2021 net sales. The decrease in net sales was primarily driven
by decreased consumer demand following a significant increase in demand in the
prior fiscal year.

Gross profit decreased 16.6% from the prior fiscal year as a result of lower
sales volume. Gross margin increased 0.9% over the prior fiscal year, primarily
because of price increases, lower promotional spending, and favorable product
mix. These favorable impacts were partially offset by unfavorable fixed-cost
absorption due to lower production volume and expenses relating to employee
severance and relocation costs associated with the Relocation.

Net income was $194.5 million, or $4.08 per diluted share, compared with net
income of $243.6 million, or $4.40 per diluted share for the prior fiscal year.

During the fiscal year, we purchased 4,755,572 shares of our common stock for
$90.0 million, utilizing cash on hand.

During the fiscal year, we paid $15.0 million in dividends compared with $8.2
million in fiscal 2021.

On September 30, 2021, we announced the Relocation. In connection with the
Relocation, we will build a new facility in Maryville, Tennessee. Our corporate
headquarters, some of our Springfield, Massachusetts manufacturing operations, a
portion of our Deep River, Connecticut plastic injection molding facility, and
our Columbia, Missouri distribution operations will be relocated to Maryville,
Tennessee. We expect to incur capital expenditures in connection with the
construction and equipping of the new facility in an aggregate amount of no less
than $120.0 million on or before December 31, 2025. Through April 30, 2022, we
had incurred $5.5 million of capital expenditures and $10.2 million of other
restructuring charges related to the Relocation.

Key Performance Indicators

We evaluate the performance of our business based upon operating profit, which
includes net sales, cost of sales, selling and administrative expenses, and
certain components of other income and expense. We also track our return on
invested capital, and we use adjusted EBITDAS (earnings before interest, taxes,
depreciation, amortization, and stock-based compensation expense, excluding
certain non-operational items), which is a non-GAAP financial metric, as a
supplemental measure of our performance in order to provide investors with an
improved understanding of

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underlying performance trends. We evaluate the performance of our products using
measurements such as gross margin per unit produced, units produced per day,
revenue by trade channel, and incoming orders per day.

External Factors that Impact the Firearm Industry

The firearm industry has been subject to many external factors in the past that
have significantly increased the volatility of revenue generated for all
companies within the industry. These factors include, among others, fears
surrounding crime and terrorism; significant news events, such as those related
to mass shootings; potential restrictions on the sale or makeup of firearms;
actual and potential legislative, judicial, and regulatory actions; economic
changes; and changes in the social and political environment, including
congressional and presidential elections. See Item IA, Risk Factors, for further
discussion of external factors that impact the firearm industry. Although these
external factors have created demand surges and volatility in the firearm
market, and often make it difficult to predict demand, we believe that those
external factors have also likely contributed to a long-term increase in
consumer interest in firearms. From 2011 through 2020, this increased consumer
interest helped the firearm industry generate a ten-year compound annual growth
rate in units of approximately 6.0% according to the ATF. We believe that this
expanding base of consumers combined with our strong brand reputation and
attractive price points are important factors in our goal to continue increasing
our market share. Based on data from calendar 2021, we estimate that we have an
approximately 16.0% share of the U.S. consumer market for firearms.

Results of Operations

Net Sales and Gross Profit

The following table sets forth certain information regarding net sales and gross
profit for the fiscal years ended April 30, 2022, 2021, and 2020 (dollars in
thousands):

2022 2021 $ Change % Change 2020
Handguns $ 624,219$ 755,735$ (131,516 ) -17.4 % $ 390,711
Long Guns 189,467 253,340 (63,873 ) -25.2 % 101,540
Other Products & Services 50,440 50,120 320 0.6 % 37,367
Total net sales $ 864,126$ 1,059,195$ (195,069 ) -18.4 % $ 529,618
Cost of sales 489,562 610,212 (120,650 ) -19.8 % 363,929
Gross profit $ 374,564$ 448,983$ (74,419 ) -16.6 % $ 165,689
% of net sales (gross margin) 43.3 % 42.4 % 31.3 %

The following table sets forth certain information regarding units shipped by
trade channel for the fiscal years ended April 30, 2022, 2021, and 2020 (units
in thousands):

Total Units Shipped 2022 2021 # Change % Change 2020
Handguns 1,518 2,079 (561 ) -27.0% 1,253
Long Guns 363 524 (161 ) -30.7% 295

Sporting Goods Channel Units Shipped 2022 2021 # Change

% Change 2020
Handguns 1,422 1,953 (531 ) -27.2% 1,170
Long Guns 342 508 (166 ) -32.7% 281

Professional Channel Units Shipped 2022 2021 # Change

% Change 2020
Handguns 96 126 (30 ) -23.8% 83
Long Guns 21 16 5 31.3% 14

Fiscal 2022 Net Sales and Gross Profit Compared with Fiscal 2021

Sales of our handguns decreased $131.5 million, or 17.4%, from fiscal 2021,
primarily as a result of lower demand for the majority of our products,
partially offset by net sales generated from increased shipments of newly
introduced products, combined with two price increases. Handgun unit shipments
into the sporting goods channel

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decreased 27.2% from fiscal 2021, while overall consumer demand decreased 25.5%,
(as indicated by adjusted background checks for handguns reported to the
National Instant Criminal Background Check System, or NICS).

Sales of our long guns decreased $63.9 million, or 25.2%, from fiscal 2021 as a
result of decreased shipments of our M&P modern sporting rifles and lower
shipments of our hunting rifles, as a result of our discontinuation of that
product line, partially offset by increased shipments of newly introduced
products in the fiscal year, combined with two price increases. Unit shipments
into the sporting goods channel decreased 32.7% from fiscal 2021. Excluding
Thompson/Center branded products, long gun unit shipments decreased 22.4% as
compared with a 20.6% decrease in reported long gun NICS checks from the prior
year.

We believe the decrease in overall firearm demand (as indicated by adjusted
NICS) versus the prior fiscal year was due to heightened demand in the prior
year driven by civil unrest, ongoing COVID restrictions, and news events driving
increased concern for personal safety and fear of potential firearm
restrictions. We believe our ability to ramp up production to meet surging
consumer demand in the prior year, at a time when many of our competitors were
unable to do so and when overall firearm demand exceeded the industry’s
production capacity, enabled us to gain significant market share. As these
concerns have become less pressing for consumers, demand has eased, inventory
levels in the distribution and retail channels have normalized, and competitor
offerings have become more available at retail, our prior year outperformance
has likely resulted in a market share decline for us in the short-term in
comparison to our peak levels during the surge. We believe, when comparing to
levels prior to the surge that, over the long-term, we have gained market share
and expanded our leadership position.

Other products and services sales increased $320,000, or 0.6%, over fiscal 2021,
primarily because of increased business-to-business sales, partially offset by
decreased sales of handcuffs and component parts.

New products, defined as any new SKU not shipped in the prior year, represented
19.8% of net sales for the 12 months ended April 30, 2022 and included two new
pistols, one new modern sporting rifle, and many new product line extensions.

Gross margin for fiscal 2022 increased by 1.0% over the prior fiscal year,
primarily as a result of two price increases, lower promotional spending, and
favorable product mix. This increase was partially offset by unfavorable
fixed-cost absorption due to lower production volume in the second half of the
year and expenses relating to employee severance and relocation costs associated
with the Relocation.

Our inventory levels increased $58.2 million during fiscal 2022, as we
replenished stock to provide our customers with a more robust selection of
inventory and positioned ourselves for potential future increases in consumer
demand. Our fiscal year 2021 ending inventory levels were at historically low
levels due to the unprecedented consumer demand during fiscal 2021. We
anticipate that inventory levels will continue to build in the first quarter of
fiscal 2023 as we continue to build to our more normalized stocking levels.

A discussion of our results of net sales and gross profit for the year ended
April 30, 2021 compared to the year ended April 30, 2020 is included in Part II,
Item 7. “Management’s Discussion and Analysis of Financial Condition and Results
of Operations” of our Annual Report on Form 10-K for the year ended April 30,
2021, filed with the SEC on June 17, 2021.

Operating Expenses

The following table sets forth certain information regarding operating expenses
for the fiscal years ended April 30, 2022, 2021, and 2020 (dollars in
thousands):

2022 2021 $ Change % Change 2020
Research and development $ 7,262$ 7,480 $

(218 ) -2.9 % $ 7,364
Selling, marketing, and distribution 43,156 42,603 553

1.3 % 41,987
General and administrative 72,493 79,268 (6,775 ) -8.5 % 66,033
Total operating expenses $ 122,911$ 129,351$ (6,440 ) -5.0 % $ 115,384
% of net sales 14.2 % 12.2 % 21.8 %

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Fiscal 2022 Operating Expenses Compared with Fiscal 2021

Operating expenses decreased $6.4 million from the prior fiscal year. Research
and development expenses decreased $218,000, primarily because of decreased
compensation-related costs, driven by temporarily unfilled positions, we believe
as a result of the Relocation. Selling, marketing, and distribution expenses
increased $553,000, primarily as a result of increased digital advertising costs
and expenses relating to industry shows, partially offset by decreased co-op
advertising expenses on lower sales and decreased freight costs due to lower
shipments. General and administrative expenses decreased $6.8 million, primarily
because of a decrease of $7.0 million related to Separation costs incurred in
the prior year, $5.2 million of lower compensation-related expenses primarily as
a result of the synergy savings realized from the Separation, and a decrease of
$1.5 million in depreciation expenses, partially offset by an increase of $5.6
million of costs associated with the Relocation and $1.4 million of increased
legal-related expenses.

We expect that there will be increased compensation expense in fiscal 2023 as we
return to more normalized staffing levels.

Fiscal 2021 Operating Expenses Compared with Fiscal 2020

Operating expenses increased $14.0 million over the prior fiscal year. Selling,
marketing, and distribution expenses increased $616,000, primarily because of
increased freight-related expenses and expenses related to temporary labor, as a
result of increased shipments, additional expenses for a consumer firearm safety
program, increased co-op advertising expenses for strategic customers, and
compensation-related expenses. These increased expenses were partially offset by
lower travel and entertainment expenses as a result of COVID-19 and decreased
spending on targeted customer promotions. General and administrative expenses
increased $13.2 million, primarily because of $3.2 million of increased expenses
related to the Separation, $12.6 million of increased profit-sharing expense,
and $1.0 million in donations to the National Shooting Sports Foundation. These
increased expenses were partially offset by lower travel and entertainment
expensed due to COVID-19, and decreased compensation-related expenses.

Operating Income from Operations

The following table sets forth certain information regarding operating income
for the fiscal years ended April 30, 2022, 2021, and 2020 (dollars in
thousands):

2022 2021 $ Change % Change 2020
Operating income from operations $ 251,653$ 319,632$ (67,979 ) -21.3 % $ 50,305
% of net sales (operating margin) 29.1 % 30.2 % 9.5 %

Fiscal 2022 Operating Income from Operations Compared with Fiscal 2021

Operating income from operations for fiscal 2022 decreased $68.0 million, or
21.3%, from the prior fiscal year, primarily because of reduced sales volumes
across nearly all product lines, unfavorable fixed-cost absorption, expenses
incurred in relation to the Relocation, and increased legal costs. These
unfavorable impacts were partially offset by lower promotional product spending,
lower spend related to the Separation, decreased co-op advertising expenses, and
decreased freight costs.

Fiscal 2021 Operating Income from Operations Compared with Fiscal 2020

Operating income from operations for fiscal 2021 increased $269.3 million, or
535.4%, over the prior fiscal year, primarily because of increased sales and the
resulting improvements in gross margins. Operating income from operations was
also favorably impacted by lower promotional product spending, favorable
manufacturing fixed-cost absorption, lower travel and entertainment expenses
because of COVID-19, and decreased advertising costs. These favorable impacts
were partially offset by increased volume-related spending, increased
freight-related expenses, and increased profit-sharing expense.

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Other Income

The following table sets forth certain information regarding operating income
for the fiscal years ended April 30, 2022, 2021, and 2020 (dollars in
thousands):

2022 2021 $ Change % Change 2020
Other income $ 2,868$ 2,252$ 616 27.4 % $ 495

Other income for fiscal 2022 increased $616,000, or 27.4%, over the prior fiscal
year, primarily as a result of the sublease of the distribution center to AOUT,
whereby AOUT subleases from us 59.0% of our distribution center under the same
terms as the master lease.

Interest (Expense)

The following table sets forth certain information regarding interest expense
for the fiscal years ended April 30, 2022, 2021, and 2020 (dollars in
thousands):

2022 2021 $ Change % Change 2020
Interest expense $ (2,135 )$ (3,919 )$ (1,784 ) -45.5 % $ (11,625 )

Interest expense decreased by $1.8 million from the prior fiscal year as we
maintained a zero balance on our revolving line following our debt repayment in
fiscal 2021.

Income Tax Expense

The following table sets forth certain information regarding income tax expense
for the fiscal years ended April 30, 2022, 2021, and 2020 (dollars in
thousands):

2022 2021 $ Change % Change 2020
Income tax expense $ 57,892$ 74,394$ (16,502 ) -22.2 % $ 11,522
% of income from operations
(effective tax rate) 22.9 % 23.4 % -0.5 % 29.4 %

We recorded income tax expense of $57.9 million for fiscal 2022, $16.5 million
lower than the prior fiscal year, primarily because of decreased profitability.
The effective tax rates were 22.9% and 23.4% for fiscal 2022 and 2021,
respectively.

We recorded income tax expense of $74.4 million for fiscal 2021, $62.9 million
higher than the prior fiscal year, primarily because of increased profitability.
The effective tax rates were 23.4% and 29.4% for fiscal 2021 and 2020,
respectively. The effective tax rate decreased by 6.0% as a result of
non-deductible expenses impacting taxable income to a lesser extent as taxable
income rises. In addition, prior year income tax expense included higher
non-deductible Separation-related transaction costs.

Income from Operations

The following table sets forth certain information regarding net income and the
related per share data for the fiscal years ended April 30, 2022, 2021, and 2020
(dollars in thousands, except per share data):

2022 2021 $ Change % Change 2020
Income from operations $ 194,494$ 243,571$ (49,077 ) -20.1 % $ 27,653
Net income per share
Basic – continuing $ 4.12$ 4.46$ (0.34 ) -7.6 % $ 0.50
Diluted – continuing $ 4.08$ 4.40$ (0.32 ) -7.3 % $ 0.50

Fiscal 2022 Income from Operations Compared with Fiscal 2021

Net income decreased $49.1 million, or $0.34 per diluted share, from the prior
fiscal year for reasons outlined above.

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Fiscal 2021 Income from Operations Compared with Fiscal 2020

Net income increased $215.9 million, or $3.9 per diluted share, over the prior
fiscal year for reasons outlined above.

Liquidity and Capital Resources

Our principal cash requirements are to (1) finance the growth of our operations,
including working capital and capital expenditures, (2) fund the Relocation, and
(3) return capital to our stockholders. Capital expenditures for the Relocation,
new product development, additional manufacturing capacity, and repair and
replacement of equipment represent important cash needs.

The following table sets forth certain cash flow information for the fiscal
years ended April 30, 2022, 2021, and 2020 (dollars in thousands):

2022 2021 $ Change % Change 2020
Operating activities $ 137,814$ 317,260$ (179,446 ) -56.6 % $ 80,835
Investing activities (24,116 ) (22,261 ) (1,855 ) -8.3 % (12,084 )
Financing activities (105,987 ) (303,758 ) 197,771 65.1 % 3,380
Total cash flow $ 7,711$ (8,759 )$ 16,470 188.0 % $ 72,131

Operating Activities

Operating activities represent the principal source of our cash flow.

Cash provided by operating activities was $137.8 million in fiscal 2022, or
$179.4 million lower than the prior fiscal year. The fiscal 2022 cash from
operating activities was negatively impacted by an incremental $83.4 million
increase in inventory due to increased production capacity combined with reduced
consumer demand, an incremental $52.5 million decrease in accounts payable due
to lower operating activities, and the impact of paying the fiscal 2021 profit
sharing in fiscal 2022. These unfavorable impacts were partially offset by an
incremental $14.9 million increase in accrued expenses as a result of the
payment of deferred federal excise tax liabilities during the first quarter of
2021, the fulfillment of performance obligations relating to sales promotions in
the prior year, and a $9.9 million decrease in accounts receivable due to timing
of shipments and customer payments.

Cash provided by operating activities was $317.3 million in fiscal 2021, or
$236.4 million higher than the prior fiscal year. Cash provided by operating
activities was favorably impacted by net income of $274.3 million before
depreciation and amortization, an incremental $26.2 million decrease in
inventory from the prior year due to increased shipments to meet consumer
demand, an incremental $21.5 million increase in accounts payable due to
increased manufacturing purchases and timing of payments, an incremental $12.6
million increase in profit sharing, and a $10.8 million increase in management
incentive bonus accruals due to higher income from continuing operations. These
favorable impacts were partially offset by an incremental $46.7 million of
decreased accrued expenses, primarily due to lower promotional product discount
accruals and the payment of deferred federal excise tax liabilities allowed by
the Tax and Trade Bureau as a result of the COVID-19 pandemic, and a $5.6
million incremental increase in accounts receivable due to timing of shipments.

Investing Activities

Cash used in investing activities in fiscal 2022 was $24.1 million, or $1.9
million higher than fiscal 2021. We recorded capital expenditures of $24.0
million for fiscal 2022, $1.9 million higher than fiscal 2021. Excluding
spending related to the Relocation, we currently expect to spend between $20.0
million and $25.0 million on capital expenditures in fiscal 2023.

Additionally, as it relates to the Relocation, we currently expect to spend
between $125.0 million and $130.0 million on capital expenditures in fiscal
2023, of which $90.0 million to $95.0 million is expected for the construction
of the facility.

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Cash used in investing activities in fiscal 2021 was $22.3 million, or $10.2
million higher than fiscal 2020. We recorded capital expenditures of $22.1
million for fiscal 2021, $9.6 million higher than fiscal 2020 due to
expenditures required to increase manufacturing capacity.

Financing Activities

Cash used in financing activities was $106.0 million in fiscal 2022, or $197.8
million lower than fiscal 2021. Cash used in financing activities during the
fiscal year primarily included $90.0 million of share repurchases and $15.0
million in dividend distributions.

Cash used in financing activities was $303.8 million in fiscal 2021 compared
with cash provided by financing activities of $3.4 million in fiscal 2020. Cash
used in financing activities during the fiscal year was primarily a result of a
net repayment of $160.0 million of borrowings on our credit facility, funding a
distribution of $25.0 million in connection with the Separation, and $110.0
million of share repurchases.

Finance Lease – We are party to a $46.2 million lease for our distribution
center in Columbia, Missouri, which has an effective rate of approximately 5.0%
and is payable in 240 monthly installments through fiscal 2039. The building is
pledged to secure the amounts outstanding. During the fiscal year, we paid $1.1
million in principal payments relating to this finance lease. In connection with
the completion of the Separation on August 24, 2020, we entered into an
agreement with AOUT, pursuant to which AOUT subleases 59.0% of this facility
under the same terms as the master lease. We recorded $2.1 million of income
related to this sublease agreement, which is recorded in other income/(expense)
in our condensed consolidated statement of income/(loss) and comprehensive
income/(loss).

Credit Facilities – As of April 30, 2022, we had no outstanding indebtedness.
However, we maintain an unsecured revolving line of credit with TD Bank, N.A.
and other lenders, or the Lenders, which includes availability up to $100.0
million at any one time. The revolving line provides for availability for
general corporate purposes, with borrowings to bear interest at either the Base
Rate or LIBOR rate, plus an applicable margin based on our consolidated leverage
ratio, as of April 30, 2022. The credit agreement also provides a swingline
facility in the maximum amount of $5.0 million at any one time (subject to
availability under the revolving line). Each swingline loan bears interest at
the Base Rate, plus an applicable margin based on our consolidated leverage
ratio. In response to a Springing Lien Triggering Event (as defined in the
credit agreement), we would be required to enter into certain documents that
create in favor of TD Bank, N.A., as administrative agent, and the lenders party
to such documents as legal, valid, and enforceable first priority lien on the
collateral described therein. Subject to the satisfaction of certain terms and
conditions described in the credit agreement, we have an option to increase the
revolving line by an aggregate amount not exceeding $50.0 million. The revolving
line matures on the earlier of August 24, 2025, or the date that is six months
in advance of the earliest maturity of any permitted notes under the credit
agreement.

The credit agreement for our credit facility contains financial covenants
relating to maintaining maximum leverage and minimum debt service coverage. We
were in compliance with all debt covenants as of April 30, 2022.

Share Repurchase Programs – On March 2, 2021, our board of directors authorized
the repurchase of $100.0 million of our common stock, subject to certain
conditions, in the open market or in privately negotiated transactions until
March 1, 2022. Pursuant to this authorization, during fiscal 2021, we purchased
3,380,447 shares of our common stock for $60.0 million, utilizing cash on hand.
During fiscal 2022, we completed this stock repurchase program by purchasing
1,967,420 of our common stock for $40.0 million, utilizing cash on hand. On June
15, 2021, our board of directors authorized the repurchase of an additional
$50.0 million of our common stock, subject to certain conditions, in the open
market or in privately negotiated transactions, until August 2022. Pursuant to
this authorization, during fiscal 2022, we completed this repurchase program by
purchasing 2,788,152 shares of our common stock for $50.0 million, utilizing
cash on hand.

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At April 30, 2022, we had $120.7 million in cash and cash equivalents on hand.

Based upon our current working capital position, current operating plans, and
expected business conditions, we believe that our existing capital resources and
credit facilities will be adequate to fund our operations for the next 12
months.

Our future capital requirements will depend on many factors, including net
sales, the timing of the construction of the new facility in Tennessee, the
timing and extent of spending to support product development efforts, the
expansion of sales and marketing activities, the timing of introductions of new
products and enhancements to existing products, the costs to ensure access to
adequate manufacturing capacity, and costs to enhance the equipment and software
at our distribution center.

Inflation

We do not believe that inflation had a material impact on us during fiscal 2022,
2021, or 2020; however, during the fourth fiscal quarter, we began to see
inflationary increases in both hourly wages and raw materials. We expect that
there will be an increased impact from inflation during fiscal 2023.

Critical Accounting Policies

Revenue Recognition

We recognize revenue in accordance with the provisions of Accounting Standards
Update, or ASU, Revenue from Contracts with Customers (Topic 606), which became
effective for us on May 1, 2018. Generally, all performance obligations are
satisfied and revenue is recognized when the risks and rewards of ownership have
transferred to the customer, which is generally upon shipment but could be
delayed until the receipt of customer acceptance.

In some instances, sales include multiple performance obligations. The most
common of these instances relates to sales promotion programs that entitle
customers to receive free goods based upon their purchase of our products. The
fulfillment of these free goods is our responsibility. In such instances, we
allocate the revenue of the promotional sales based on the estimated level of
participation in the sales promotional program and the timing of the shipment of
all of the products included in the promotional program, including the free
goods. We recognize revenue proportionally as each performance obligation is
satisfied, based on the relative transaction price of each product. The net
change in contract liabilities for a given period is reported as an increase or
decrease to sales.

Our product sales are generally sold free on board, or FOB, shipping point and
provide payment terms to most commercial customers ranging from 20 to 60 days of
product shipment with a discount available in certain cases for early payment.
For contracts with discounted terms, we determine the transaction price upon
establishment of the contract that contains the final terms of the sale,
including the description, quantity, and price of each product purchased. We
estimate variable consideration relative to the amount of cash discounts to
which customers are likely to be entitled. In some instances, we provide longer
payment terms, particularly as it relates to our hunting dating programs, which
represent payment terms due in the fall for certain orders of hunting products
received in the spring and summer. We do not consider these extended terms to be
a significant financing component of the contract because the payment terms are
less than one year. In all cases, we consider our costs related to shipping and
handling to be a cost of fulfilling the contract with the customer.

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Valuation of Long-lived Tangible and Intangible Assets

We evaluate the recoverability of long-lived assets, or asset groups, whenever
events or changes in circumstances indicate that carrying amounts may not be
recoverable. When such evaluations indicate that the related future undiscounted
cash flows are not sufficient to recover the carrying values of the assets, such
carrying values are reduced to fair value and this adjusted carrying value
becomes the asset’s new cost basis. We determine fair value primarily using
future anticipated cash flows that are directly associated with and are expected
to arise as a direct result of the use and eventual disposition of the asset, or
asset group, discounted using an interest rate commensurate with the risk
involved.

Inventories

We value inventories at the lower of cost, using the first-in, first-out, or
FIFO, method, or net realizable value. An allowance for potential non-saleable
inventory due to excess stock or obsolescence is based upon a detailed review of
inventory, past history, and expected future usage.

Warranty

We generally provide a limited one-year warranty and a lifetime service policy
to the original purchaser of our new firearm products. We will also repair or
replace certain products or parts found to be defective under normal use and
service with an item of equivalent value, at our option, without charge during
the warranty period. We provide for estimated warranty obligations in the period
in which we recognize the related revenue. We quantify and record an estimate
for warranty-related costs based on our actual historical claims experience and
current repair costs. We adjust accruals as warranty claims data and historical
experience warrant. Should we experience actual claims and repair costs that are
higher than the estimated claims and repair costs used to calculate the
provision, our operating results for the period or periods in which such returns
or additional costs materialize could be adversely impacted.

Recent Accounting Pronouncements

The nature and impact of recent accounting pronouncements is discussed in Note 2
– Significant Accounting Policies to our consolidated financial statements,
which is incorporated herein by reference.

Off-Balance Sheet Arrangements

We do not have any transactions, arrangements, or other relationships with
unconsolidated entities that are reasonably likely to affect our liquidity or
capital resources. We have no special purpose or limited purpose entities that
provide off-balance sheet financing, liquidity, or market or credit risk support
or that engage in leasing, hedging, research and development services, or other
relationships that expose us to liability that is not reflected in our financial
statements.

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