Summary of TASER INTERNATIONAL INC

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
The following is a discussion of the Company's financial condition as of September 30, 2009, and results of operations for the three and nine months ended September 30, 2009 and 2008. The following discussion may be understood more fully by reference to the consolidated financial statements, notes to the consolidated financial statements, and Management's Discussion and Analysis of Financial Condition and Results of Operations section contained in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2008. Certain statements contained in this report may be deemed to be forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995, and the Company intends that such forward-looking statements be subject to the safe-harbor created thereby. Such forward-looking statements may relate to, among other things: estimates regarding the size of our target markets; successful penetration of the law enforcement market; expansion of product sales to the private security, military and consumer self-defense markets; expansion of production capability; new product introductions; the timing of the implementation of new equipment and payments relating thereto; our anticipated research and development spending in the fourth quarter of 2009; our cash flow activity in accounts receivable, inventory and accounts payable in the fourth quarter of 2009; projections about our fourth quarter effective tax rate; estimates regarding the commencement and amortization period of software development costs relating to our EVIDENCE.com product; the impact of recently adopted accounting guidance; our dividend policy; our anticipated capital expenditures in the fourth quarter of 2009; our expectations that we will hold certain investments until maturity; our expectations about unrecognized tax benefits, deferred income taxes and the reversal of our valuation allowance; assumptions about the future vesting of outstanding stock options and the amortization of costs relating thereto; our litigation strategy; the outcome of pending litigation including that judgments against us may be reversed or reduced; trends about our working capital and the sufficiency of our capital resources and the availability of financing to the Company. We caution that these statements are qualified by important factors that could cause actual results to differ materially from those reflected by the forward-looking statements herein. Such factors include, but are not limited to: market acceptance of our products; establishment and expansion of our direct and indirect distribution channels; attracting and retaining the endorsement of key opinion-leaders in the law enforcement community; the level of product technology and price competition for our products; the degree and rate of growth of the markets in which we compete and the accompanying demand for our products; potential delays in international and domestic orders; implementation risks of manufacturing automation; risks associated with rapid technological change; execution and implementation risks of new technology; new product introduction risks; ramping manufacturing production to meet demand; litigation resulting from alleged product-related injuries; risks related to government inquiries; media publicity concerning allegations of deaths occurring after use of the TASER device and the negative impact this publicity could have on sales; product quality risks; potential fluctuations in quarterly operating results; competition; financial and budgetary constraints of prospects and customers; dependence upon sole and limited source suppliers; fluctuations in component pricing; risks of governmental regulations; dependence on a single product; dependence upon key employees; employee retention risks; and other factors detailed in the Company's filings with the Securities and Exchange Commission. We assume no obligation to update, and do not intend to update, our forward-looking statements.
Overview
Our mission is to protect life by providing safer, more effective use of force options and technologies. We are a market leader in the development and manufacture of advanced electronic control devices (ECDs) designed for use in law enforcement, military, corrections, private security and personal defense. In addition, we are developing full technology solutions for the capture, storage and management of video/audio evidence as well as other tactical capabilities for use in law enforcement. We have focused our efforts on the continuous development of our technology for both new and existing products as well as industry leading training services while building distribution channels for marketing our products and services to law enforcement agencies, primarily in North America with increasing efforts on expanding these programs in international markets. To date, over 14,000 law enforcement agencies in over 45 countries have made initial purchases of our TASER brand devices for testing or deployment. To date, we do not know of any significant sales of any competing ECD products.
Our core expertise includes proprietary, patented technology which is capable of incapacitating highly focused and aggressive persons. Competing non-lethal weapons rely primarily on pain to dissuade subjects from continuing unwanted behavior. Our proprietary Neuro-Muscular Incapacitation (NMI) technology uses electrical impulses to interfere with a person's neuron-muscular system, causing substantial incapacitation regardless of whether the person feels or responds to pain. Our NMI technology stimulates the motor nerves which control muscular movement.

Table of Contents

Results of Operations
Three Months Ended September 30, 2009 Compared to the Three Months Ended
September 30, 2008
The following table sets forth, for the periods indicated, our consolidated
statements of operations as well as the percentage relationship to total net
sales of items included in our consolidated statements of operations (dollars in
thousands):

                                  Three Months Ended September 30,                Increase / (Decrease)
                                  2009                       2008                    $               %

Net sales                 $ 23,310        100.0 %    $ 22,859        100.0 %    $       451            2.0 %
Cost of products sold       10,044         43.1 %       8,964         39.2 %          1,080           12.0 %

Gross margin                13,266         56.9 %      13,895         60.8 %           (629 )         -4.5 %
Sales, general and
administrative
expenses                    11,420         49.0 %       9,055         39.6 %          2,364           26.1 %
Research and
development expenses         6,656         28.6 %       3,332         14.6 %          3,324           99.8 %

Income (loss) from
operations                  (4,810 )      -20.6 %       1,508          6.6 %         (6,317 )       -419.0 %
Interest and other
income, net                     20          0.1 %         270          1.2 %           (250 )        -92.6 %

Income (loss) before
provision
(benefit) for income
taxes                       (4,790 )      -20.5 %       1,778          7.8 %         (6,567 )       -369.4 %
Provision
(benefit) for income
taxes                       (1,614 )       -6.9 %       1,128          4.9 %         (2,742 )       -243.1 %

Net income (loss)         $ (3,176 )      -13.6 %    $    650          2.8 %    $    (3,826 )       -588.3 %

Net Sales
For the three months ended September 30, 2009 and 2008, sales by product line
and by geography were as follows (dollars in thousands)

                                          Three Months Ended September 30,
                                            2009                     2008
            Sales by Product Line

            TASER X26               $ 14,870        63.8 %   $ 13,169        57.6 %
            TASER C2                   1,103         4.7 %      1,008         4.4 %
            TASER Cam                    749         3.2 %        964         4.2 %
            ADVANCED TASER               281         1.2 %        377         1.6 %
            Single Cartridges          6,932        29.7 %      5,066        22.2 %
            XREP                         364         1.6 %          -           -
            Shockwave                     41         0.2 %          -           -
            X3                             8           -            -           -
            Other                      2,428        10.4 %      2,275        10.0 %
            Trade-In Deferral         (3,466 )     -14.9 %          -           -


            Total                   $ 23,310       100.0 %   $ 22,859       100.0 %




                                   Three Months Ended September 30,
                                    2009                      2008

             United States                  81 %                      84 %
             Other Countries                19 %                      16 %


             Total                         100 %                     100 %

Net sales increased $0.5 million, or 2.0%, to $23.3 million for the third quarter of 2009 compared to $22.9 million for the third quarter of 2008. The increase in sales versus the prior year quarter was primarily driven by growth in our Federal business including an order from the U.S. Customs and Border Patrol as well as solid international sales during the quarter including follow-on orders to customers in Australia. The growth in international business offset a decline in domestic sales, which we believe reflects lower municipal spending in the U.S., as agencies have reassigned or reduced budget dollars due to ongoing economic constraints. During the third quarter of 2009, $3.5 million of revenue was deferred related to our temporary trade-in program which enables agencies who purchase a X26 ECD for deployment in the United States the opportunity to upgrade the product in exchange for a partial trade-in credit against the purchase of the newly announced X3 ECD. Sales of our X26 ECDs, before excluding the $3.5 million impact of the trade-in deferral, increased $1.7 million, or 12.9%, while sales of single cartridges increased $1.9 million, or 36.8%, compared to the prior year. Sales of the TASER C2 consumer product increased by $95,000, or 9.4%. Other sales include extended warranty revenue, out of warranty repairs, government grants, training and shipping revenues. International sales for the third quarter of 2009 and 2008 represented approximately $4.5 million, or 19%, and $3.7 million, or 16%, of total net sales, respectively.

Table of Contents

Cost of Products Sold
Cost of products sold increased by $1.1 million, or 12.1%, to $10 million for the third quarter of 2009 compared to $9.0 million for the third quarter of 2008. As a percentage of net sales, cost of products sold increased to 43.1% in the third quarter of 2009 compared to 39.2% in the third quarter of 2008. The trade-in deferral which resulted in a $3.5 million reduction in net sales reduced gross margin by 560 basis points in the third quarter of 2009, which was partially offset by improved leverage on indirect manufacturing expenses as a relatively fixed pool of indirect manufacturing costs remained flat while sales increased.
Gross Margin
Gross margin decreased $630,000, or 4.5%, to $13.3 million for the third quarter of 2009 compared to $13.9 million for the third quarter of 2008. As a percentage of net sales, gross margin decreased to 56.9% for the third quarter of 2009 compared to 60.8% for the third quarter of 2008. The 390 basis point decline in gross margin as a percentage of net sales for the third quarter of 2009 reflects the impact of the trade in deferral, offset by decreased indirect manufacturing costs.
Sales, General and Administrative Expenses For the three months ended September 30, 2009 and 2008, sales, general and administrative expenses were comprised of the following (dollars in thousands):

                                                  Three Months Ended September 30,
                                                                          $              %
                                          2009           2008          Change         Change

Salaries, benefits and bonus           $    3,192      $   2,489      $     703           28.2 %
Legal, professional and accounting
fees                                        1,112          1,406           (294 )        -20.9 %
Sales and Marketing                         1,659          1,110            549           49.5 %
Consulting and lobbying services              911            690            221           32.0 %
Stock-based compensation                      814            443            371           83.7 %
Travel and meals                              968            709            259           36.5 %
D&O and liability insurance                   449            536            (87 )        -16.2 %
Depreciation and amortization                 510            386            124           32.1 %
Other                                       1,805          1,286            519           40.4 %


Total                                  $   11,420      $   9,055      $   2,365           26.1 %

Sales, general and administrative
as % of net sales                            49.0 %         39.6 %

Sales, general and administrative expenses were $11.4 million and $9.1 million in the third quarter of 2009 and 2008, respectively, an increase of $2.4 million, or 26.1%. As a percentage of total net sales, sales, general and administrative expenses increased to 49.0% for the third quarter of 2009 compared to 39.6% for the third quarter of 2008, partially due to a reduction of leverage resulting from the $3.5 million trade-in deferral which had a 6.3% impact. The dollar increase for the third quarter of 2009 over the same period in 2008 is attributable to a $703,000 growth in salaries, benefits and bonuses primarily related to an increase in personnel to support the expansion of our business infrastructure as we introduce new products and enter new markets. Stock based-compensation expense increased $371,000 which is attributed to the increased employee headcount in the fourth quarter of 2008 and the first half of 2009. Sales and marketing increased $549,000 and travel and meals increased $259,000 in the third quarter of 2009, due to increased efforts to support new product launches as well as the annual TASER Conference, which was held in the third quarter of 2009 (compared to being held in the second quarter of 2008). These increases were partially offset by a $294,000 decrease in legal, professional and accounting fees.

Table of Contents

Research and Development Expenses
Research and development expenses were $6.7 million for the third quarter, which is an increase of $3.3 million over the prior year mostly driven by a $1.8 million increase in indirect supplies, component costs and expediting fees associated with the development of the TASER X3 and AXON (Autonomous eXtended on-Officer Network) units shown at our TASER Conference and the IACP trade shows. Tooling and scrap costs increased by $443,000, also related to the development of the TASER X3 and AXON. Salaries, benefits, and stock options expenses increased by $1.1 million to support both hardware development and our new software development team headquartered in California. These increases were partially offset by $852,000 of capitalized internal salary and external consulting costs specifically related to the development of EVIDENCE.com in the third quarter of 2009. We expect this level of research and development spending will decrease during the fourth quarter of 2009 as TASER X3 and AXON are launched into the market.
Interest and Other Income, Net
Interest and other income decreased by $250,000, or 92.6%, to $20,000 for the third quarter of 2009 compared to $270,000 for the third quarter of 2008. The decrease is attributable to a significantly lower average yield on our cash and investments.
Provision (Benefit) for Income Taxes
The provision for income taxes decreased by $2.7 million to a benefit of $1.6 million for the third quarter of 2009 compared to a provision of $1.1 million for the third quarter of 2008. The effective income tax rate for the third quarter of 2009 was 33.7% compared to 63.4% for the third quarter of 2008. The effective tax rate for the three months ended September 30, 2009 decreased compared to the same period in the prior year due to the nature of the effective tax rate calculation. The quarterly tax provision is computed from the year-to-date provision less the cumulative tax provision recognized through the previous quarter end. Due to a significant variability in the projected 2009 annual effective tax rate caused by relatively small differences in projected fourth quarter results, we were unable to reliably estimate the 2009 effective annual tax rate as of the end of the third quarter and as such calculated an estimated year-to-date tax provision based on current year to date results. There will likely be some variability in the fourth quarter effective tax rate depending on fourth quarter results and the likelihood that the impact of non-deductible expenses for items such as ISO stock option expense, meals and entertainment and lobbying will make the income for tax purposes significantly higher than book pre-tax income. The high effective income tax rate in the third quarter of 2008 was attributable to a the higher impact of non-deductible items expenses against a low taxable income base expected for the year ended December 31, 2008
Net Income (Loss)
Our net income declined by $3.8 million to a net loss of $3.2 million for the third quarter of 2009 compared to net income of $650,000 for the third quarter of 2008. Net loss per basic and diluted share was $0.05 for the third quarter of 2009 compared to net income per basic and diluted share of $0.01 for the third quarter of 2008.
Nine Months Ended September 30, 2009 Compared to the Nine Months Ended September 30, 2008
The following table sets forth, for the periods indicated, our statements of operations as well as the percentage relationship to total net sales of items included in our statements of operations (dollars in thousands):

                                  Nine Months Ended September 30,                 Increase / (Decrease)
                                  2009                       2008                    $               %

Net sales                 $ 69,749        100.0 %    $ 66,447        100.0 %    $     3,302            5.0 %
Cost of products sold       28,115         40.3 %      26,184         39.4 %          1,931            7.4 %

Gross margin                41,634         59.7 %      40,263         60.6 %          1,371            3.4 %
Sales, general and
administrative
expenses                    33,690         48.3 %      27,926         42.0 %          5,764           20.6 %
Research and
development expenses        15,246         21.9 %       8,463         12.7 %          6,783           80.1 %
Legal judgment expense           -          0.0 %       5,200          7.8 %         (5,200 )       -100.0 %

Loss from operations        (7,302 )      -10.5 %      (1,326 )       -2.0 %         (5,976 )        450.7 %
Interest and other
income, net                    162          0.2 %       1,492          2.2 %         (1,330 )        -89.1 %

Income (loss) before
provision
(benefit) for income
taxes                       (7,140 )      -10.2 %         166          0.2 %         (7,306 )       4401.2 %
Provision
(benefit) for income
taxes                       (2,773 )       -4.0 %         315          0.5 %         (3,088 )        980.3 %

Net loss                  $ (4,367 )       -6.3 %    $   (149 )       -0.2 %    $    (4,218 )       2830.9 %

Table of Contents

Net Sales
For the nine months ended September 30, 2009 and 2008, sales by product line and
by geography were as follows (dollars in thousands):

                                           Nine Months Ended September 30,
                                            2009                     2008
            Sales by Product Line

            TASER X26               $ 37,976        54.4 %   $ 35,807        53.9 %
            TASER C2                   3,732         5.4 %      4,268         6.4 %
            TASER Cam                  2,179         3.1 %      2,748         4.1 %
            ADVANCED TASER             2,245         3.2 %      2,432         3.7 %
            Single Cartridges         20,151        28.9 %     15,290        23.0 %
            XREP                         389         0.6 %          -           -
            Shockwave                     45         0.1 %          -           -
            X3                             8           -            -           -
            Other                      6,490         9.3 %      5,902         8.9 %
            Trade-In Deferral         (3,466 )      -5.0 %          -           -


            Total                   $ 69,749       100.0 %   $ 66,447       100.0 %




                                    Nine Months Ended September 30,
                                    2009                      2008

             United States                  75 %                      87 %
             Other Countries                25 %                      13 %


             Total                         100 %                     100 %

Net sales increased $3.3 million, or 5.0%, to $69.7 million for the first nine months of 2009 compared to $66.4 million for the first nine months of 2008. The increase in sales versus the prior year was primarily driven by significant international shipments during the year, and sales related to a contract from the U.S. Customs and Border Patrol. The growth in international and Federal business offset a decline in domestic sales, which we believe reflects lower municipal spending in the U.S. as agencies reassigned budget dollars due to ongoing economic constraints. During the third quarter, $3.5 million of revenue was deferred related to a trade-in program which enables agencies who purchase a X26 ECD for deployment in the United States the opportunity to upgrade the product in exchange for a partial trade-in credit against the purchase of the newly announced X3 ECD. Sales of single cartridges increased $4.9 million, or 31.8%, compared to the prior year and X26 sales, before excluding the $3.5 million impact the trade-in deferral, increased $2.2 million, or 6.1%. TASER C2 consumer product sales declined by $536,000, or 12.6%, attributable to the adverse impact of the economic downturn on consumer spending. The increase in other sales is primarily driven by growth in extended warranty revenues, out of warranty repairs and the elimination of distributor discounts during 2008. Other sales also include government grants, training and shipping revenues. International sales for the first nine months of 2009 and 2008 represented approximately $17.6 million, or 25%, and $8.7 million or 13% of total net sales, respectively.
Cost of Products Sold
Cost of products sold increased by $1.9 million, or 7.4%, to $28.1 million for the first nine months of 2009 compared to $26.2 million for the first nine months of 2008. As a percentage of net sales, cost of products sold increased to 40.3% in the first nine months of 2009 compared to 39.4% in the first nine months of 2008. The increase in cost of products sold as a percentage of net sales for the first nine months of 2009 compared to the first nine months of 2008 was driven by a combination of factors. The trade-in deferral, which resulted in a $3.5 million reduction in net sales reduced gross margin by 190 basis points. Exclusive of the deferral, total direct costs decreased as a percentage of sales primarily driven by negotiated supplier price reductions in certain raw material components. Direct labor decreased as a percentage of net sales due to lower temporary labor costs and indirect manufacturing expense decreased as production scrap and engineering supplies were reduced, resulting from improved product quality and operating efficiencies. In addition, our provision for warranty costs decreased as we experienced a reduction in product returns during the first nine months of 2009. Offsetting these cost reductions, the allocation of indirect manufacturing overhead to inventory decreased significantly as a reduction in the number of production hours in the first nine months of 2009 compared to the same period in 2008 resulted in an increased indirect manufacturing overhead rate and the under absorption of a relatively fixed pool of indirect manufacturing costs.

Table of Contents

Gross Margin
Gross margin increased $1.4 million, or 3.4%, to $41.6 million for the first nine months of 2009 compared to $40.3 million for the first nine months of 2008. As a percentage of net sales, gross margins decreased to 59.7% for the first nine months of 2009 compared to 60.6% for the first nine months of 2008. The 190 basis point decrease in gross margin as a percentage of net sales for the first half of 2009 reflects the factors noted above under the discussion of cost of products sold.
Sales, General and Administrative Expenses For the nine months ended September 30, 2009 and 2008, sales, general and administrative expenses were comprised as follows (dollars in thousands):

                                                  Nine Months Ended September 30,
                                                                         $              %
                                         2009           2008          Change         Change

Salaries, benefits and bonus           $   8,811      $   7,315      $   1,496           20.5 %
Legal, professional and accounting
fees                                       4,630          4,242            388            9.1 %
Consulting and lobbying services           3,194          2,110          1,084           51.4 %
Stock-based compensation                   2,441            932          1,509          161.9 %
Travel and meals                           2,646          2,712            (66 )         -2.4 %
Sales and Marketing                        4,141          3,952            189            4.8 %
D&O and liability insurance                1,415          1,626           (211 )        -13.0 %
Depreciation and amortization              1,397          1,168            229           19.6 %
Other                                      5,015          3,869          1,146           29.6 %


Total                                  $  33,690      $  27,926      $   5,764           20.6 %

Sales, general and administrative
as % of net sales                           48.3 %         42.0 %

Sales, general and administrative expenses were $33.7 million and $27.9 million in the first nine months of 2009 and 2008, respectively, an increase of $5.8 million, or 20.6%. As a percentage of total net sales, sales, general and administrative expenses increased to 48.3% for the first nine months of 2009 compared to 42.0% for the first nine months of 2008, partially due to a reduction of leverage resulting from the $3.5 million trade-in deferral. The dollar increase for the first nine months of 2009 over the same period in 2008 is attributable to a $1.5 million growth in salaries and benefits related to an increase in personnel to support the expansion of our business infrastructure as we introduce new products and enter new markets. Stock based-compensation . . .