The Company has 2 reportable segments: firearms and castings. The firearms segment manufactures and sells rifles, pistols, and revolvers principally to a select number of independent wholesale distributors primarily located in the United States. The castings segment manufactures and sells steel investment castings and metal injection molding parts.
The Company contracts with the National Rifle Association (“NRA”) for some of its promotional and advertising activities. Payments made to the NRA in the three and nine months ended September 28, 2019 totaled $0.4 million and $0.7 million, respectively. Payments made to the NRA in the three and nine months ended September 29, 2018 totaled $0.2 million and $0.4 million, respectively. One of the Company’s Directors also serves as a Director on the Board of the NRA.
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NOTE 13 — CONTINGENT LIABILITIES
As of September 28, 2019, the Company was a defendant in five (5) lawsuits and is aware of certain other such claims. The lawsuits fall into three categories: traditional product liability litigation, non-product litigation, and municipal litigation, discussed in turn below.
Traditional Product Liability Litigation
Two of the five lawsuits mentioned above involve claims for damages related to an allegedly defective product due to its design and/or manufacture. These lawsuits stem from specific incidents of personal injury and are based on traditional product liability theories such as strict liability, negligence and/or breach of warranty.
The Company management believes that the allegations in these cases are unfounded, that the incidents are unrelated to the design or manufacture of the firearm, and that there should be no recoveries against the Company.
Non-Product Litigation
David S. Palmer, on behalf of himself and all others similarly situated vs. Sturm, Ruger & Co. is a putative class-action suit filed in Florida state court on behalf of Florida consumers. The suit alleges breach of warranty and deceptive trade practices related to the sale of 10/22 Target Rifles. The Company filed an Answer denying all material allegations and a Motion to Strike the putative class representative’s claims. That motion remains pending.
Primus Group LLC v. Smith and Wesson, et al. is a putative class action filed in the United States District Court for the Southern District of Ohio on August 8, 2019. Plaintiff alleges that the defendants’ lawful sale of modern sporting rifles violates the Racketeer Influenced Corrupt Organizations Act and seeks a temporary restraining order (“TRO”) and permanent injunction. On August 20, 2019, the court denied plaintiff’s request for a TRO. On September 3, 2019, defendants filed a motion to dismiss pursuant to Federal Rule of Civil Procedure 12(b)(6). On September 16, 2019, plaintiff filed an Amended Complaint. On October 9, 2019, the court dismissed plaintiff’s Amended Complaint, with prejudice. Plaintiff filed a Notice of Appeal on October 15, 2019.
Municipal Litigation
Municipal litigation generally includes those cases brought by cities or other governmental entities against firearms manufacturers, distributors and retailers seeking to recover damages allegedly arising out of the misuse of firearms by third parties.
There is only one remaining lawsuit of this type, filed by the City of Gary in Indiana State Court in 1999. The complaint in that case seeks damages, among other things, for the costs of medical care, police and emergency services, public health services, and other services as well as punitive damages. In addition, nuisance abatement and/or injunctive relief is sought to change the design, manufacture, marketing and distribution practices of the various defendants. The suit alleges, among other claims, negligence in the design of products, public nuisance, negligent distribution and marketing, negligence per se and deceptive advertising. The case does not allege a specific injury to a specific individual as a result of the misuse or use of any of the Company's products.
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After a long procedural history, the case was scheduled for trial on June 15, 2009. The case was not tried on that date and was largely dormant until a status conference was held on July 27, 2015. At that time, the court entered a scheduling order setting deadlines for plaintiff to file a Second Amended Complaint, for defendants to answer, and for defendants to file dispositive motions. The plaintiff did not file a Second Amended Complaint by the deadline.
In 2015, Indiana passed a new law such that Indiana Code §34-12-3-1 became applicable to the City's case. The defendants filed a joint motion for judgment on the pleadings, asserting immunity under §34-12-3-1 and asking the court to revisit the Court of Appeals' decision holding the Protection of Lawful Commerce in Arms Act inapplicable to the City's claims. The motion was fully briefed by the parties.
On September 29, 2016, the court entered an order staying the case pending a decision by the Indiana Supreme Court in KS&E Sports v. Runnels, which presented related issues. The Indiana Supreme Court decided KS&E Sports on April 24, 2017, and the City of Gary court lifted the stay. The City of Gary court also entered an order setting a supplemental briefing schedule under which the parties addressed the impact of the KS&E Sports decision on defendants' motion for judgment on the pleadings.
A hearing on the motion for judgment on the pleadings was held on December 12, 2017. On January 2, 2018, the court issued an order granting defendants’ motion for judgment on the pleadings, but denying defendants’ request for attorney’s fees and costs. On January 8, 2018, the court entered judgment for the defendants. The City filed a Notice of Appeal on February 1, 2018. Defendants cross-appealed the order denying attorney’s fees and costs.
Briefing in the Indiana Court of Appeals was completed on the City’s appeal and defendants’ cross appeal on September 10, 2018. The Court of Appeals issued its ruling on May 23, 2019, affirming dismissal of the City’s negligent design and warnings count on the basis that the City had not alleged that manufacturer defendants’ conduct was unlawful. However, the court reversed dismissal of the City’s negligent sale and distribution and related public nuisance counts for damages and injunctive relief.
Defendants filed a Petition to Transfer the case to the Indiana Supreme Court on July 8, 2019. The petition has been briefed fully and the parties are awaiting a ruling by the court.
Summary of Claimed Damages and Explanation of Product Liability Accruals
Punitive damages, as well as compensatory damages, are demanded in certain of the lawsuits and claims. In many instances, the plaintiff does not seek a specified amount of money, though aggregate amounts ultimately sought may exceed product liability accruals and applicable insurance coverage. For product liability claims made after July 10, 2000, coverage is provided on an annual basis for losses exceeding $5 million per claim, or an aggregate maximum loss of $10 million annually, except for certain new claims which might be brought by governments or municipalities after July 10, 2000, which are excluded from coverage.
Company management monitors the status of known claims and the product liability accrual, which includes amounts for asserted and unasserted claims. While it is not possible to forecast the outcome of litigation or the timing of costs, in the opinion of management, after consultation with special and corporate counsel, it is not probable and is unlikely that litigation, including punitive damage claims, will have a material adverse effect on the financial position of the Company, but may have a material impact on the Company’s financial results and cash flows for a particular period.
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Product liability claim payments are made when appropriate if, as, and when claimants and the Company reach agreement upon an amount to finally resolve all claims. Legal costs are paid as the lawsuits and claims develop, the timing of which may vary greatly from case to case. A time schedule cannot be determined in advance with any reliability concerning when payments will be made in any given case.
Provision is made for product liability claims based upon many factors related to the severity of the alleged injury and potential liability exposure, based upon prior claim experience. Because the Company's experience in defending these lawsuits and claims is that unfavorable outcomes are typically not probable or estimable, only in rare cases is an accrual established for such costs.
In most cases, an accrual is established only for estimated legal defense costs. Product liability accruals are periodically reviewed to reflect then-current estimates of possible liabilities and expenses incurred to date and reasonably anticipated in the future. Threatened product liability claims are reflected in the Company's product liability accrual on the same basis as actual claims; i.e., an accrual is made for reasonably anticipated possible liability and claims handling expenses on an ongoing basis.
A range of reasonably possible losses relating to unfavorable outcomes cannot be made. However, in product liability cases in which a dollar amount of damages is claimed, the amount of damages claimed, which totaled $ 0.1 million and $0.1 million at December 31, 2018 and 2017, respectively, are set forth as an indication of possible maximum liability the Company might be required to incur in these cases (regardless of the likelihood or reasonable probability of any or all of this amount being awarded to claimants) as a result of adverse judgments that are sustained on appeal.
NOTE 14 — SUBSEQUENT EVENTS
On November 5, 2019, the Board of Directors authorized a dividend of 11¢ per share, for shareholders of record as of November 15, 2019, payable on November 27, 2019.
The Company has evaluated events and transactions occurring subsequent to September 28, 2019 and determined that there were no other unreported events or transactions that would have a material impact on the Company’s results of operations or financial position.
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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Company Overview
Sturm, Ruger & Company, Inc. (the “Company”) is principally engaged in the design, manufacture, and sale of firearms to domestic customers. Approximately 99% of sales are from firearms. Export sales represent approximately 5% of total sales. The Company’s design and manufacturing operations are located in the United States and almost all product content is domestic. The Company’s firearms are sold through a select number of independent wholesale distributors, principally to the commercial sporting market.
The Company also manufactures investment castings made from steel alloys and metal injection molding (“MIM”) parts for internal use in its firearms and for sale to unaffiliated, third-party customers. Approximately 1% of sales are from the castings segment.
Orders for many models of firearms from the independent distributors tend to be stronger in the first quarter of the year and weaker in the third quarter of the year. This is due in part to the timing of the distributor show season, which occurs during the first quarter.
Results of Operations
Demand
The estimated unit sell-through of the Company’s products from the independent distributors to retailers decreased 24% in the first nine months of 2019 compared to the prior year period. For the same period, the National Instant Criminal Background Check System (“NICS”) background checks (as adjusted by the National Shooting Sports Foundation (“NSSF”)) decreased 1%. The greater reduction in the sell-through of the Company’s products relative to adjusted NICS background checks may be attributable to the following:
•
More aggressive promotions, discounts, rebates and the extension of payment terms offered by our competitors,
•
Relatively fewer new product shipments compared to 2018, which benefitted from the launch of four major products in December of 2017,
•
The loss of a formerly significant distributor that ultimately filed for bankruptcy protection in June 2019 and the market disruption caused by the liquidation of its inventory of Ruger products,
•
Increased sales of used firearms at retail, which are captured by adjusted NICS checks, and
•
Decreased retailer inventories as the anticipation of further discounting continues to encourage cautious buying behavior by retailers.
Sales of new products, including the Wrangler, which was introduced in April 2019, the Pistol Caliber Carbine, the EC9s pistol, the Security-9 pistol, and the Precision Rimfire Rifle, represented $70.6 million or 23% of firearm sales in the first nine months of 2019. New product sales include only major new products that were introduced in the past two years.
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Estimated sell-through from the independent distributors to retailers and total adjusted NICS background checks for the trailing seven quarters follow:
| 2019 | 2018 |
| Q3 | Q2 | Q1 | Q4 | Q3 | Q2 | Q1 |
Estimated Units Sold from Distributors to Retailers(1) | 295,100 | 316,300 | 347,100 | 400,000 | 364,000 | 381,100 | 509,500 |
Total adjusted NICS Background Checks (thousands)(2) | 2,956 | 2,828 | 3,414 | 3,813 | 2,708 | 2,863 | 3,731 |
| |
(1) | The estimates for each period were calculated by taking the beginning inventory at the distributors, plus shipments from the Company to distributors during the period, less the ending inventory at distributors. These estimates are only a proxy for actual market demand as they: • Rely on data provided by independent distributors that are not verified by the Company, • Do not consider potential timing issues within the distribution channel, including goods-in-transit, and • Do not consider fluctuations in inventory at retail. |
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(2) | NICS background checks are performed when the ownership of most firearms, either new or used, is transferred by a Federal Firearms Licensee. NICS background checks are also performed for permit applications, permit renewals, and other administrative reasons. |
The adjusted NICS data presented above was derived by the NSSF by subtracting out NICS checks that are not directly related to the sale of a firearm, including checks used for concealed carry (“CCW”) permit application checks as well as checks on active CCW permit databases. The adjusted NICS checks represent less than half of the total NICS checks.
Adjusted NICS data can be impacted by changes in state laws and regulations and any directives and interpretations issued by governmental agencies. For example, the use of state issued permits to carry firearms, in lieu of NICS background checks, for certain transactions was significantly curtailed in 2019. This resulted in increases in third quarter adjusted NICS background checks for Alabama and Minnesota of 124% and 60%, respectively. Excluding Alabama and Minnesota, adjusted NICS increased 7% in the third quarter and decreased 2% for the nine months ended September 28, 2019.
Orders Received and Ending Backlog
The Company uses the estimated unit sell-through of our products from the independent distributors to retailers, along with inventory levels at the independent distributors and at the Company, as the key metrics for planning production levels. The Company generally does not use the orders received or ending backlog for planning production levels.
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The units ordered, value of orders received, average sales price of units ordered, and ending backlog for the trailing seven quarters are as follows (dollars in millions, except average sales price):
(All amounts shown are net of Federal Excise Tax of 10% for handguns and 11% for long guns.)
| 2019 | 2018 |
| Q3 | Q2 | Q1 | Q4 | Q3 | Q2 | Q1 |
Units Ordered | 362,200 | 257,900 | 327,100 | 312,800 | 237,800 | 344,600 | 635,900 |
Orders Received | $102.3 | $70.3 | $104.3 | $92.9 | $66.6 | $95.4 | $175.1 |
Average Sales Price of Units Ordered | $283 | $273 | $319 | $297 | $280 | $277 | $275 |
Ending Backlog | $44.7 | $37.8 | $58.9 | $55.6 | $81.5 | $125.0 | $149.2 |
Average Sales Price of Ending Unit Backlog | $277 | $296 | $372 | $364 | $347 | $326 | $331 |
Production
The Company reviews the estimated sell-through from the independent distributors to retailers, as well as inventory levels at the independent distributors and at the Company, semi-monthly to plan production levels. While production of certain products increased, the Company reduced overall production in the third quarter of 2019 by 4% compared to the second quarter of 2019, the third consecutive quarterly decrease in production.
In response to the reduced production, the Company took the following actions to manage its workforce during the third quarter:
•
Continued a hiring freeze and allowed attrition to reduce its workforce,
•
Reduced overtime, and
•
Took two additional shutdown days in the third quarter.
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Summary Unit Data
Firearms unit data for the trailing seven quarters are as follows (dollar amounts shown are net of Federal Excise Tax of 10% for handguns and 11% for long guns):
| 2019 | 2018 |
| Q3 | Q2 | Q1 | Q4 | Q3 | Q2 | Q1 |
Units Ordered | 362,200 | 257,900 | 327,100 | 312,800 | 237,800 | 344,600 | 635,900 |
Units Produced | 286,500 | 297,900 | 374,000 | 402,400 | 404,200 | 415,200 | 388,500 |
Units Shipped | 328,400 | 288,300 | 322,000 | 394,800 | 386,200 | 411,600 | 440,400 |
Average Sales Price of Units Shipped | $286 | $329 | $351 | $304 | $295 | $309 | $295 |
Ending Unit Backlog | 161,500 | 127,700 | 158,100 | 153,000 | 235,000 | 383,400 | 450,400 |
Inventories
During the third quarter of 2019, the Company’s finished goods inventory decreased by 41,900 units and distributor inventories of the Company’s products increased by 33,300 units. In the aggregate, total Company and distributor inventories increased 2,500 units from the end of the third quarter of 2018.
Inventory data for the trailing seven quarters follows:
| 2019 | 2018 |
| Q3 | Q2 | Q1 | Q4 | Q3 | Q2 | Q1 |
Units — Company Inventory | 100,000 | 141,900 | 132,300 | 80,300 | 72,700 | 54,700 | 51,000 |
Units — Distributor Inventory(1)(2) | 280,000 | 246,700 | 274,700 | 299,700 | 304,800 | 282,700 | 252,300 |
Total Inventory(3) | 380,000 | 388,600 | 407,000 | 380,000 | 377,500 | 337,400 | 303,300 |
| |
(1) | Distributor ending inventory is provided by the Company’s independent distributors. These numbers do not include goods-in-transit inventory that has been shipped from the Company but not yet received by the distributors. |
| |
(2) | Distributor ending inventory for the second and third quarter of 2019 does not include any potential inventory remaining at a distributor that filed for bankruptcy protection in June 2019 and did not provide inventory data. |
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(3) | This total does not include inventory at retailers. The Company does not have access to data on retailer inventories of the Company’s products. |
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Net Sales
Consolidated net sales were $95.0 million for the three months ended September 28, 2019, a decrease of 17.4% from $114.9 million in the comparable prior year period.
For the nine months ended September 28, 2019, consolidated net sales were $305.4 million, a decrease of 18.5% from $374.5 million in the comparable prior year period.
Firearms net sales were $94.1 million for the three months ended September 28, 2019, a decrease of 17.3% from $113.8 million in the comparable prior year period.
For the nine months ended September 28, 2019, firearms net sales were $302.0 million, a decrease of 18.5% from $370.7 million in the comparable prior year period.
Firearms unit shipments decreased 15.0% and 24.2% for the three and nine months ended September 28, 2019, respectively, from the comparable prior year periods.
Casting net sales were $0.9 million for the three months ended September 28, 2019, a decrease of 18.3% from $1.1 million in the comparable prior year period.
For the nine months ended September 28, 2019, castings net sales were $3.4 million, a decrease of 10.9% from $3.8 million in the comparable prior year period.
Cost of Products Sold and Gross Profit
Consolidated cost of products sold was $75.1 million for the three months ended September 28, 2019, a decrease of 13.5% from $86.9 million in the comparable prior year period.
Consolidated cost of products sold was $230.6 million for the nine months ended September 28, 2019, a decrease of 15.8% from $274.0 million in the comparable prior year period.
Gross margin was 20.9% and 24.5% for the three and nine months ended September 28, 2019, respectively, compared to 24.4% and 26.8% in the comparable prior year periods.
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Gross margin for the three and nine months ended September 28, 2019 and September 29, 2018 is illustrated below (in thousands):
| Three Months Ended |
| September 28, 2019 | September 29, 2018 |
Net sales | $94,999 | 100.0% | $114,945 | 100.0% |
Cost of products sold, before LIFO, overhead and labor rate adjustments to inventory, product liability, and product safety bulletins and recalls | 77,242 | 81.3% | 83,945 | 73.0% |
LIFO expense | 584 | 0.6% | 713 | 0.6% |
Overhead rate adjustments to inventory | (2,297) | (2.4)% | 905 | 0.8% |
Labor rate adjustments to inventory | (328) | (0.3)% | (27) | - |
Product liability | (69) | (0.1)% | 317 | 0.3% |
Product safety bulletins and recalls | - | - | 1,000 | 0.9% |
Total cost of products sold | 75,132 | 79.1% | 86,853 | 75.6% |
Gross profit | $19,867 | 20.9% | $ 28,092 | 24.4% |
| Nine Months Ended |
| September 28, 2019 | September 29, 2018 |
Net sales | $305,367 | 100.0% | $374,514 | 100.0% |
Cost of products sold, before LIFO, overhead and labor rate adjustments to inventory, product liability, and product safety bulletins and recalls | 232,307 | 76.1% | 268,759 | 71.8% |
LIFO expense | 1,772 | 0.5% | 1,352 | 0.4% |
Overhead rate adjustments to inventory | (3,496) | (1.1)% | 1,705 | 0.4% |
Labor rate adjustments to inventory | (398) | (0.1)% | 239 | 0.1% |
Product liability | 615 | 0.2% | 948 | 0.2% |
Product safety bulletins and recalls | (200) | (0.1)% | 1,000 | 0.3% |
Total cost of products sold | 230,600 | 75.5% | 274,003 | 73.2% |
Gross profit | $74,767 | 24.5% | $100,511 | 26.8% |
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Cost of products sold, before LIFO, overhead and labor rate adjustments to inventory, product liability, and product safety bulletins and recalls — During the three months ended September 28, 2019, cost of products sold, before LIFO, overhead and labor rate adjustments to inventory, product liability, and product safety bulletins and recalls increased as a percentage of sales by 8.3%, compared with the corresponding 2018 period due primarily to the decrease in sales and production which resulted in unfavorable deleveraging of fixed costs.
For the nine months ended September 28, 2019, cost of products sold, before LIFO, overhead and labor rate adjustments to inventory, product liability, and product safety bulletins and recalls increased as a percentage of sales by 4.3% compared with the corresponding 2018 period due primarily to the decrease in sales and production in the nine months ended September 28, 2019 which resulted in unfavorable deleveraging of fixed costs.
LIFO — For the three months ended September 28, 2019, the Company recognized LIFO expense resulting in increased cost of products sold of $0.6 million. In the comparable 2018 period, the Company recognized LIFO expense resulting in increased cost of products sold of $0.7 million.
For the nine months ended September 28, 2019, the Company recognized LIFO expense resulting in increased cost of products sold of $1.8 million. In the comparable 2018 period, the Company recognized LIFO expense resulting in increased cost of products sold of $1.4 million.
Overhead Rate Adjustments — The Company uses actual overhead expenses incurred as a percentage of sales-value-of-production over a trailing six month period to absorb overhead expense into inventory. During the three and nine months ended September 28, 2019, the Company became less efficient in overhead spending and the overhead rates used to absorb overhead expenses into inventory increased, resulting in an increase in inventory values of $2.3 million and $3.5 million, respectively, and a corresponding decrease to cost of products sold.
During the three and nine months ended September 29, 2018, the Company became more efficient in overhead spending and the overhead rates used to absorb overhead expenses into inventory decreased, resulting in a decrease in inventory values of $0.9 million and $1.7 million, respectively, and a corresponding increase to cost of products sold.
Labor Rate Adjustments — The Company uses actual direct labor expense incurred as a percentage of sales-value-of-production over a trailing six month period to absorb direct labor expense into inventory. During the three and nine months ended September 28, 2019 the Company became less efficient in direct labor utilization and the labor rates used to absorb labor expenses into inventory decreased, resulting in increases in inventory value of $0.3 million and $0.4, respectively, and corresponding decreases to cost of products sold in both periods.
During the three months ended September 29, 2018, the impact of the labor rates used to absorb labor expenses into inventory were de minimis. During the nine months ended September 29, 2018 the Company became more efficient in direct labor utilization and the labor rates used to absorb labor expenses into inventory decreased, resulting in a decrease in inventory value of $0.2 million and a corresponding increase to cost of products sold.
Product Liability — This expense includes the cost of outside legal fees, insurance, and other expenses incurred in the management and defense of product liability matters.
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During the three months ended September 28, 2019, product liability expense was de minimis. During the nine months ended September 28, 2019, product liability expense was $0.6 million.
During the three and nine months ended September 29, 2018, product liability expense was $0.3 million and $0.9 million, respectively.
Product Safety Bulletins and Recalls – In October 2018, the Company issued a safety bulletin announcing that some Ruger American Pistols chambered in 9mm may exhibit premature wear of the locking surfaces between the slide and barrel. The Company offered a free retrofit to customers of affected pistols and recorded a $1.0 million expense in the third quarter of 2018, which was the expected total cost of the safety bulletin.
During the three months ended September 28, 2019, the estimated costs remaining for the product safety bulletin was reduced, which reduced cost of sales by $0.2 million for the nine months ended September 28, 2019.
Gross Profit — As a result of the foregoing factors and a 5% price increase effective January 1, 2019 on most of the Company's products, for the three and nine months ended September 28, 2019, gross profit was $19.9 million and $74.8 million, respectively, a decrease of $8.2 million and $25.7 million, respectively, from $28.1 million and $100.5 million in the comparable prior year periods.
Gross profit as a percentage of sales decreased to 20.9% and 24.5% in the three and nine months ended September 28, 2019, respectively, from 24.4% and 26.8% in the comparable prior year periods.
Selling, General and Administrative Expenses
Selling, general and administrative expenses were $14.3 million for the three months ended September 28, 2019, a decrease of $1.8 million or 11.4% from $16.1 million in the comparable prior year period. Selling, general and administrative expenses were $45.3 million for the nine months ended September 28, 2019, a decrease of $5.3 million or 10.5% from $50.6 million in the comparable prior year period. These decreases were primarily attributable to reduced sales promotion expenses.
Other income, net
Other income, net of $0.8 million and $2.7 million in the three and nine months ended September 28, 2019, respectively, increased significantly from $0.2 million and $1.2 million in the three and nine months ended September 29, 2018 as a result of interest income on short-term investments in 2019.
Income Taxes and Net Income
The Company's 2019 and 2018 effective tax rates differ from the statutory federal tax rate due principally to state income taxes. The Company’s effective income tax rate was 24.4% and 25.2% for the three and nine months ended September 28, 2019, respectively. The Company’s effective income tax rate was 24.5% and 24.4% for the three and nine months ended September 29, 2018, respectively.
As a result of the foregoing factors, consolidated net income was $4.8 million and $24.1 million for the three and nine months ended September 28, 2019, respectively. This represents a decrease of 47.7% and 37.7% from $9.2 million and $38.7 million in the comparable prior year periods.
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Non-GAAP Financial Measure
In an effort to provide investors with additional information regarding its financial results, the Company refers to various United States generally accepted accounting principles (“GAAP”) financial measures and one non-GAAP financial measure, EBITDA, which management believes provides useful information to investors. This non-GAAP financial measure may not be comparable to similarly titled financial measures being disclosed by other companies. In addition, the Company believes that the non-GAAP financial measure should be considered in addition to, and not in lieu of, GAAP financial measures. The Company believes that EBITDA is useful to understanding its operating results and the ongoing performance of its underlying business, as EBITDA provides information on the Company’s ability to meet its capital expenditure and working capital requirements, and is also an indicator of profitability. The Company believes that this reporting provides better transparency and comparability to its operating results. The Company uses both GAAP and non-GAAP financial measures to evaluate the Company’s financial performance.
EBITDA is defined as earnings before interest, taxes, and depreciation and amortization. The Company calculates its EBITDA by adding the amount of interest expense, income tax expense, and depreciation and amortization expenses that have been deducted from net income back into net income, and subtracting the amount of interest income that was included in net income from net income.
EBITDA was $13.3 million for the three months ended September 28, 2019, a decrease of 35% from $20.5 million in the comparable prior year period.
For the nine months ended September 28, 2019 EBITDA was $52.8 million, a decrease of 30% from $75.8 million in the comparable prior year period.
Non-GAAP Reconciliation — EBITDA
EBITDA
(Unaudited, dollars in thousands)
| Three Months Ended | Nine Months Ended |
| September 28, 2019 | September 29, 2018 | September 28, 2019 | September 29, 2018 |
Net income | $ 4,817 | $9,206 | $24,083 | $38,659 |
| | | | |
Income tax expense | 1,556 | 2,987 | 8,101 | 12,484 |
Depreciation and amortization expense | 7,486 | 8,173 | 22,458 | 24,517 |
Interest income | (611) | — | (1,973) | — |
Interest expense | 90 | 92 | 141 | 141 |
EBITDA | $13,338 | $20,458 | $52,810 | $75,801 |
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Financial Condition
Liquidity
At the end of the third quarter of 2019, the Company’s cash and short-term investments totaled $137.3 million. Pre-LIFO working capital of $229.3 million, less the LIFO reserve of $48.1 million, resulted in working capital of $181.2 million and a current ratio of 4.7 to 1.
Operations
Cash provided by operating activities was $8.9 million for the nine months ended September 28, 2019, compared to cash provided by operating activities of $95.6 million for the comparable prior year period. The reduction in cash provided in the nine months ended September 28, 2019 is primarily attributable to the decreased net income in the current period, the increases in inventory and accounts receivable in the current period compared to a significant reductions in the prior year period, the decreases in contract liability to customers and employee compensation and benefits in the current period compared to increases in the prior year period, and other balance sheet fluctuations.
Third parties supply the Company with various raw materials for its firearms and castings, such as steel, fabricated steel components, walnut, birch, beech, maple and laminated lumber for rifle stocks, wax, ceramic material, metal alloys, various synthetic products and other component parts. There is a limited supply of these materials in the marketplace at any given time, which can cause the purchase prices to vary based upon numerous market factors. The Company believes that it has adequate quantities of raw materials in inventory or on order to provide sufficient time to locate and obtain additional items at then-current market cost without interruption of its manufacturing operations. However, if market conditions, including the impact of tariffs, result in a significant prolonged inflation of certain prices or if adequate quantities of raw materials cannot be obtained, the Company’s manufacturing processes could be interrupted and the Company’s financial condition or results of operations could be materially adversely affected.
Investing and Financing
Capital expenditures for the nine months ended September 28, 2019 totaled $9.2 million, an increase from $4.9 million in the comparable prior year period. In 2019, the Company expects to spend approximately $15 million on capital expenditures, much of which will relate to tooling and fixtures for new product introductions and to upgrade and modernize manufacturing equipment. Due to market conditions and business circumstances, actual capital expenditures could vary significantly from the projected amount. The Company finances, and intends to continue to finance, all of these activities with funds provided by operations and current cash.
Dividends of $12.4 million were paid during the nine months ended September 28, 2019.
On November 5, 2019, the Board of Directors authorized a dividend of 11¢ per share, for shareholders of record as of November 15, 2019, payable on November 27, 2019. The payment of future dividends depends on many factors, including internal estimates of future performance, then-current cash and short-term investments, and the Company’s need for funds. The Company has financed its dividends with cash provided by operations and current cash.
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In late 2018, the Company began to purchase United States Treasury instruments which mature within one year with available cash. At September 28, 2019, the Company’s investment in these instruments totaled $114.5 million.
During the nine months ended September 28, 2019, the Company repurchased 44,500 shares of its common stock for $2.0 million in the open market. The average price per share purchased was $44.83. These purchases were funded with cash on hand. No shares were repurchased in the nine months ended September 29, 2018. As of September 28, 2019, $86.7 million remained authorized for future stock repurchases.
Based on its unencumbered assets, the Company believes it has the ability to raise cash through the issuance of short-term or long-term debt. The Company’s unsecured $40 million credit facility, which expires on September 30, 2020, was unused at September 28, 2019 and the Company has no debt.
Other Operational Matters
In the normal course of its manufacturing operations, the Company is subject to occasional governmental proceedings and orders pertaining to workplace safety, firearms serial number tracking and control, waste disposal, air emissions and water discharges into the environment. The Company believes that it is generally in compliance with applicable Bureau of Alcohol, Tobacco, Firearms & Explosives, environmental, and safety regulations and the outcome of any proceedings or orders will not have a material adverse effect on the financial position or results of operations of the Company. If these regulations become more stringent in the future and we are not able to comply with them, such noncompliance could have a material adverse impact on the Company.
Since 2018, two of the Company’s independent domestic wholesale distributors have filed for bankruptcy protection. Additionally, we have recently been informed by three of our smaller domestic distributors that they intend to discontinue their firearms distribution operations in the near future, which will leave 13 active distributors. Additionally, the Company has 40 and 26 distributors servicing the export and law enforcement markets, respectively.
The Company self-insures a significant amount of its product liability, workers’ compensation, medical, and other insurance. It also carries significant deductible amounts on various insurance policies.
The Company expects to realize its deferred tax assets through tax deductions against future taxable income.
Adjustments to Critical Accounting Policies
The Company has not made any adjustments to its critical accounting estimates and assumptions described in the Company’s 2018 Annual Report on Form 10-K filed on February 20, 2019, or the judgments affecting the application of those estimates and assumptions.
Forward-Looking Statements and Projections
The Company may, from time to time, make forward-looking statements and projections concerning future expectations. Such statements are based on current expectations and are subject to certain qualifying risks and uncertainties, such as market demand, sales levels of firearms, anticipated castings sales and earnings, the need for external financing for operations or capital expenditures, the results of pending litigation against the Company, the impact of future firearms control and environmental
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legislation, and accounting estimates, any one or more of which could cause actual results to differ materially from those projected. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date made. The Company undertakes no obligation to publish revised forward-looking statements to reflect events or circumstances after the date such forward-looking statements are made or to reflect the occurrence of subsequent unanticipated events.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The interest rate market risk implicit to the Company at any given time is typically low, as the Company does not have significant exposure to changing interest rates on invested cash. There has been no material change in the Company’s exposure to interest rate risks during the nine months ended September 28, 2019.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
The Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s disclosure controls and procedures (the “Disclosure Controls and Procedures”), as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of September 28, 2019.
Based on that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of September 28, 2019, such Disclosure Controls and Procedures are effective to ensure that information required to be disclosed in the Company’s periodic reports filed under the Exchange Act is recorded, processed, summarized and reported within the time periods specified by the Securities and Exchange Commission’s rules and forms and that such information is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer or persons performing similar functions, as appropriate, to allow timely decisions regarding disclosure.
The Company’s Chief Executive Officer and Chief Financial Officer have further concluded that, as of September 28, 2019, there have been no material changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Act) during the quarter ended September 28, 2019 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. The Company adopted ASU 2016-02, Leases (Topic 842), on January 1, 2019 and implemented internal controls to ensure we adequately evaluated our lease obligations and properly assessed the impact of the new accounting standard related to recognition of right-of-use assets and lease liabilities on our financial statements. There were no significant changes to our internal control over financial reporting due to the adoption of the new standard.
The effectiveness of any system of internal controls and procedures is subject to certain limitations, and, as a result, there can be no assurance that the Disclosure Controls and Procedures will detect all errors or fraud. An internal control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the internal control system will be attained.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The nature of the legal proceedings against the Company is discussed at Note 13 to the financial statements, which are included in this Form 10-Q.
The Company has reported all cases instituted against it through September 28, 2019, and the results of those cases, where terminated, to the SEC on its previous Form 10-Q and 10-K reports, to which reference is hereby made.
One lawsuit was formally instituted against the Company during the three months ending September 28, 2019. Primus Group v. Smith & Wesson, et al, was filed in the United States District Court, Southern District of Ohio, on August 8, 2019.
During the three months ending September 28, 2019, the Company resolved the previously reported case of Clifton McKelva v. Sturm, Ruger & Co., Inc.
ITEM 1A. RISK FACTORS
There have been no material changes in the Company’s risk factors from the information provided in Item 1A. Risk Factors included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2018.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Not applicable
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable
ITEM 5. OTHER INFORMATION
None
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ITEM 6. EXHIBITS
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STURM, RUGER & COMPANY, INC.
FORM 10-Q FOR THE THREE MONTHS ENDED SEPTEMBER 28, 2019
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| | STURM, RUGER & COMPANY, INC. |
| | |
Date: November 7, 2019 | S/ | THOMAS A. DINEEN |
| | Thomas A. Dineen |
| | Principal Financial Officer, Principal Accounting Officer, Senior Vice President, Treasurer and Chief Financial Officer |
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