AXON ENTERPRISE, INC. - Quarter Report: 2012 March (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

(Mark One)

For the quarterly period ended March 31, 2012

or

For the transition period from                    to                     

Commission File Number 001-16391

TASER International, Inc.

(Exact name of registrant as specified in its charter)

(480) 991-0797

(Registrant’s telephone number, including area code)

Not Applicable

(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

There were 55,527,504 shares of the issuer’s common stock, par value $0.00001 per share, outstanding as of May 4, 2012.

TASER INTERNATIONAL, INC.

QUARTERLY REPORT ON FORM 10-Q

FOR THE THREE MONTHS ENDED MARCH 31, 2012

TABLE OF CONTENTS

2

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements

TASER INTERNATIONAL, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

3

TASER INTERNATIONAL, INC.

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND

COMPREHENSIVE INCOME

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

4

TASER INTERNATIONAL, INC.

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

5

TASER INTERNATIONAL, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1. The Company and Summary of Significant Accounting Policies

TASER International, Inc. (“TASER” or the “Company”) is a developer and manufacturer of advanced electronic control devices (“ECDs”) designed for use in law enforcement, military, corrections, private security and personal defense. In addition, the Company has developed full technology solutions for the capture, storage and management of video/audio evidence as well as other tactical capabilities for use in law enforcement. The Company sells its products worldwide through its direct sales force, distribution partners, online store and third-party resellers. The Company was incorporated in Arizona in September 1993, and reincorporated in Delaware in January 2001. The Company’s corporate headquarters and manufacturing facilities are located in Scottsdale, Arizona. The Company’s internet services and software development division facilities are located in Carpenteria, California.

The accompanying condensed consolidated financial statements include the accounts of the Company, and its wholly owned subsidiary, TASER International Europe SE (“TASER Europe”). TASER Europe was established in 2010 to facilitate sales and provide customer service to our customers in the European region. All material intercompany accounts, transactions and profits have been eliminated.

a. Basis of presentation, preparation and use of estimates

These unaudited condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information related to the Company’s organization, significant accounting policies and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States has been condensed or omitted. The accounting policies followed in the preparation of these unaudited condensed consolidated financial statements are consistent with those followed in the Company’s annual consolidated financial statements for the year ended December 31, 2011, as filed on Form 10-K. In the opinion of management, these unaudited condensed consolidated financial statements contain all material adjustments, consisting only of normal recurring adjustments, necessary to fairly state our financial position, results of operations and cash flows for the periods presented and the presentations and disclosures herein are adequate when read in conjunction with the Company’s Form 10-K for the year ended December 31, 2011. The results of operations for the three months ended March 31, 2012 and 2011 are not necessarily indicative of the results to be expected for the full year (or any other period).

The preparation of these condensed consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Significant estimates in these consolidated financial statements include allowances for doubtful accounts receivable, inventory valuation reserves, product warranty reserves, valuations of long-lived assets, deferred income taxes, stock-based compensation, contingencies, accrued litigation expenses, manufacturing overhead allocation and uncertain tax positions.

b. Segment information and major customers

In the fourth quarter of 2011, management of the Company determined its reportable segments are the ECD segment and the Video segment. Reportable segments are determined based on discrete financial information reviewed by the Company’s Chief Operating Decision Maker (“CODM”), which in our case is the Chief Executive Officer. The Company organizes and reviews operations based on products and services, and currently there are no operating segments that are aggregated. The Company performs an annual analysis of its reportable segments. Additional information relative to the Company’s business segments is included in Note 12.

For the three months ended March 31, 2012 and 2011, sales by geographic area were as follows:

6

TASER INTERNATIONAL, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

Sales to customers outside of the United States are typically denominated in U.S. dollars and are attributed to each country based on the billing address of the distributor or customer. For the three months ended March 31, 2012 and 2011, no individual country outside of the United States represented a material amount of total net sales.

For the three months ended March 31, 2012, two distributors represented approximately 12.2% and 11.7% of total net sales. For the three months ended March 31, 2011, one distributor represented approximately 12% of total net sales. At March 31, 2012, the Company had receivables from two customers comprising 19.4% and 15.8% of its aggregate accounts receivable balance. At December 31, 2011, the Company had accounts receivable from two customers comprising 12.9% and 12.5% of the aggregate accounts receivable balance. These customers are unaffiliated distributors of the Company’s products.

c. Income per common share

Basic income per share is computed by dividing net income by the weighted average number of common shares outstanding during the periods presented. Diluted income per share is calculated based on the weighted average number of common shares outstanding for the period plus the dilutive effect of stock options and restricted stock units using the treasury stock method. Contingently issuable shares are included in the calculation of basic income per share when all contingencies surrounding the issuance of the shares are met and the shares are issued or issuable. Contingently issuable shares are included in the calculation of dilutive earnings per share as of the beginning of the reporting period if, at the end of the reporting period, all contingencies surrounding the issuance of the shares are satisfied or would be satisfied if the end of the reporting period were the end of the contingency period. The calculation of the weighted average number of shares outstanding and income per share are as follows:

For the three months ended March 31, 2012 and 2011, the effects of 6,537,984 and 6,653,148 stock options, respectively, were excluded from the calculation of diluted net income per share as their exercise prices were greater than the average price of our common stock during that period. For the three months ended March 31, 2012 and 2011, the effects of 543,548 and nil restricted stock units, respectively, were excluded from the calculation of diluted net income per share as they were anti-dilutive under the treasury stock method.

d. Revenue Recognition

The Company recognizes revenues when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, title has transferred, the price is fixed and collectability is reasonably assured. Revenue arrangements with multiple deliverables are divided into separate units and revenue is allocated using the relative selling price method based upon vendor-specific objective evidence of selling price or third-party evidence of the selling prices if vendor-specific objective evidence of selling prices does not exist. If neither vendor-specific objective evidence nor third-party evidence exists, management would use its best estimate of selling price.

The Company has sold its Video segment products separately, but in most instances the Company’s AXON equipment and EVIDENCE.COM software as a service are sold together. In these instances, customers typically purchase the AXON equipment and EVIDENCE.COM services in advance, with the AXON equipment representing a deliverable that is provided to the customer at the time of sale, and EVIDENCE.COM services provided over a specified service term, which has typically ranged from one to five years. The Company recognizes revenue for the AXON equipment at the time of the sale consistent with the discussion of multiple deliverable arrangements above. Revenue for EVIDENCE.COM service is deferred at the time of the sale and recognized over the service period. At March 31, 2012 and December 31, 2011 $0.4 million and $0.3 million was deferred, respectively, and is being recognized over the applicable service terms.

7

TASER INTERNATIONAL, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

The Company offers customers the right to purchase extended warranties that include additional services and coverage beyond the limited warranty on the TASER X26, ADVANCED TASER, X2, X3, AXON, and C2 products. Revenue for extended warranty purchases is deferred at the time of sale and recognized over the warranty period commencing on the date of sale. The extended warranties range from one to four years. At March 31, 2012 and December 31, 2011 $7.4 million and $7.2 million was deferred under this program, respectively.

Certain of the Company’s customers are charged shipping fees, which are recorded as a component of net sales. Sales tax collected on sales is netted against government remittances and thus, recorded on a net basis. Training revenue is recorded as the service is provided.

e. Warranty costs

The Company warrants its X2 ECDs, X3 ECDs, X26 ECDs, M26 ECDs, XREP, TASER Cam, Shockwave, AXON Tactical Computer, Com Hub user interface, Synapse Evidence Transfer Manager (ETM), and Headcam products from manufacturing defects on a limited basis for a period of one year after purchase, and thereafter, will replace any defective unit for a fee. The TASER C2 product is warranted for a period of 90 days after purchase. The Company also sells extended warranties for periods of up to four years after the expiration of the limited one year warranty. After the one year standard warranty expires, if the device fails to operate properly for any reason, the Company will replace the TASER X26 for a prorated discounted price depending on when the product was placed into service. These fees are intended to cover the handling and repair costs and include a profit. Management tracks historical data related to returns and warranty costs on a quarterly basis, and estimates future warranty claims by applying the estimated weighted average return rate to the product sales for the period. If management becomes aware of a component failure that could result in larger than anticipated returns from its customers, the reserve would be increased. The reserve for warranty returns is included in accrued liabilities on the consolidated balance sheet. A summarization of the changes in the estimated product warranty liabilities are as follows:

f. Fair value of financial instruments

The Company uses the fair value framework for measuring financial assets and liabilities measured on a recurring basis and for non-financial assets and liabilities when these items are remeasured. The hierarchy below lists three levels of fair value based on the extent to which inputs used in measuring fair value are observable in the market. The Company categorizes each of its fair value measurements in one of these three levels based on the lowest level input that is significant to the fair value measurement in its entirety. These levels are:

The Company has cash equivalents, which at March 31, 2012 and December 31, 2011, were comprised of money market mutual funds, valued using Level 1 valuation techniques. At March 31, 2012, the Company also held short-term investments consisting of commercial paper. Based on management’s ability and intent to hold these investments to maturity, they are recorded at amortized cost on the balance sheet. Refer to Note 2 for additional fair value disclosures for these short-term investments. The Company’s financial instruments also include accounts receivable, accounts payable and accrued liabilities. Due to the short-term nature of these instruments, their fair values approximate their carrying values on the balance sheet.

8

TASER INTERNATIONAL, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

g. Valuation of long-lived assets

We review long-lived assets, such as property and equipment and intangible assets subject to amortization, whenever events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. We utilize a two-step approach to testing long-lived assets for impairment. The first step tests for possible impairment indicators. If one or more impairment indicators are present, the second step measures whether the asset is recoverable based on a comparison of the carrying amount of the asset to the estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated future cash flows, an impairment charge is recognized for the amount by which the carrying amount of the asset exceeds the fair value of the asset. We primarily employ two methodologies for determining the fair value of a long-lived asset: (i) the amount at which the asset could be sold in a current transaction between willing parties; or (ii) the present value of expected future cash flows grouped at the lowest level for which there are identifiable independent cash flows. Our review requires the use of judgment and estimates. No impairment charges were recognized for the three months ended March 31, 2012 and 2011.

h. Recently issued accounting guidance

In May 2011, the Financial Accounting Standards Board (FASB) issued amended standards to achieve a consistent definition of fair value and common requirements for measurement of and disclosure about fair value between U.S. generally accepted accounting principles and International Financial Reporting Standards. For assets and liabilities categorized as Level 3 and recognized at fair value, these amended standards require disclosure of quantitative information about unobservable inputs, a description of the valuation processes used by the entity, and a qualitative discussion about the sensitivity of the measurements. In addition, these amended standards require that we disclose the level in the fair value hierarchy for financial instruments disclosed at fair value but not recorded at fair value. These new standards are effective for fiscal years beginning after December 15, 2011. The adoption of this new guidance did not have a material impact on the Company’s consolidated financial statements.

In June 2011, the Financial Accounting Standards Board (FASB) issued guidance to require presentation of the total of comprehensive income, the components of net income and the components of other comprehensive income (“OCI”) either in a single continuous statement of comprehensive income or in two separate but consecutive statements. This guidance eliminates the option to present the components of other comprehensive income as part of the statement of changes in stockholders’ equity. Regardless of which format is chosen, the amendments establish a requirement for entities to present on the face of the financial statements reclassification adjustments for items that are reclassified from OCI to net income in the statement(s) where the components of net income and the components of OCI are presented. This guidance was effective for the Company on January 1, 2012; however, during December 2011 the FASB issued guidance, which defers those changes in guidance that relate to the presentation of reclassification adjustments. The adoption of this new guidance did not have a material impact on the Company’s consolidated financial statements.

2. Cash, cash equivalents, and investments

Cash and cash equivalents include funds on hand and short-term investments with original maturities of three months or less. Short-term investments include securities generally having maturities of 90 days to one year. The Company’s short-term investments are invested in commercial paper, which, based on management’s intent and ability, are classified as held to maturity investments, recorded at amortized cost.

The following is a summary of cash, cash equivalents and held-to-maturity investments by type at March 31, 2012 and December 31, 2011:

9

TASER INTERNATIONAL, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

The following table summarizes the classification of cash, cash equivalents and investments in the accompanying balance sheet:

Commercial paper investments, identified above as short-term investments at March 31, 2012, have contractual maturities of less than one year. At March 31, 2012, held-to-maturity short-term investments have gross unrealized losses of $6,903, which have been in a continuous unrealized loss position for less than 12 months. The unrealized losses on the Company’s investments in commercial paper are due to interest rate fluctuations. As these investments were originally purchased at a premium, are short-term in nature, are expected to be redeemed at par value and because the Company has the ability and intent to hold these investments to maturity, the Company does not consider these investments to be other than temporarily impaired at March 31, 2012.

3. Inventory

Inventories are stated at the lower of cost or market. Cost is determined using the weighted average cost of raw materials, which approximates the first-in, first-out (FIFO) method, and includes allocations of manufacturing labor and overhead. Provisions are made to reduce potentially excess, obsolete or slow-moving inventories to their net realizable value. Inventories as of March 31, 2012 and December 31, 2011, consisted of the following:

10

TASER INTERNATIONAL, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

4. Intangible assets

Intangible assets consisted of the following at March 31, 2012 and December 31, 2011:

Amortization expense relative to intangible assets for the three months ended March 31, 2012 and 2011 was approximately $34,000 and $39,000, respectively. Estimated amortization expense of intangible assets for the remaining nine months of 2012, the next five years ended December 31, and thereafter is as follows:

5. Accrued liabilities

Accrued liabilities consisted of the following at March 31, 2012 and December 31, 2011:

11

TASER INTERNATIONAL, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

6. Income taxes

Deferred Tax Assets

The net deferred income tax assets at March 31, 2012, include net operating loss and alternative minimum tax carry forwards, capitalized research and development costs, research and development tax credits, non-qualified stock-based compensation expense, deferred warranty revenue, warranty and inventory reserves, accrued vacation, and other items, partially offset by accelerated depreciation expense. The Company’s total current and long-term net deferred tax assets at March 31, 2012 are $20.9 million.

In preparing the Company’s condensed consolidated financial statements, management assesses the likelihood that its deferred tax assets will be realized from future taxable income. In evaluating the Company’s ability to recover its deferred income tax assets, management considers all available positive and negative evidence, including its operating results, ongoing tax planning and forecasts of future taxable income on a jurisdiction by jurisdiction basis. A valuation allowance is established if it is determined that it is more likely than not that some portion or all of the net deferred tax assets will not be realized. Management exercises significant judgment in determining its provisions for income taxes, its deferred tax assets and liabilities, and its future taxable income for purposes of assessing its ability to utilize any future tax benefit from its deferred tax assets. Although management believes that its tax estimates are reasonable, the ultimate tax determination involves significant judgments that could become subject to audit by tax authorities in the ordinary course of business, as well as the generation of sufficient future taxable income. Management determined that as of March 31, 2012, based on evaluation and projections of future sales and profitability, a valuation allowance of $1.4 million was necessary for the Arizona R&D credit carry forward as management concluded that it is not more likely than not that all of the R&D credit carry forward amounts will be realized before they fully expire in 15 years. However, the deferred tax asset could be further reduced or the valuation allowance could be changed in the near-term if estimates of future taxable income during the carry forward period change.

The Company has completed research and development tax credit studies, which identified approximately $6.8 million in tax credits for Federal, Arizona and California income tax purposes related to the 2003 through 2011 tax years, net of the federal benefit on the Arizona and California research and development tax credits. Management determined that it is more likely than not that the full benefit of the research and development tax credit will not be sustained on examination and accordingly has established a cumulative liability for unrecognized tax benefits of $1.9 million as of March 31, 2012. In addition, management has accrued approximately $0.1 million for estimated uncertain tax positions related to certain state income tax liabilities. As of March 31, 2012, management does not expect the amount of the unrecognized tax benefit liability to increase or decrease significantly within the next 12 months. Should the unrecognized tax benefits of $2.0 million be recognized, the Company’s effective tax rate would be favorably impacted.

Effective Tax Rate

The Company’s estimated full year effective tax rate, before discrete period adjustments, is approximately 42.2%, which is above the statutory rate due to the impact of state taxes and non-deductible expenses for items such as Incentive Stock Option (“ISO”) expense, meals and entertainment and lobbying fees, which make our projected annual net income for tax purposes higher than our book pre-tax income. The overall effective tax rate of 41.1% for the three months ended March 31, 2012, is slightly below our estimated annual effective tax rate due to a discrete tax provision adjustment related to the reversal of $2.2 million of the litigation reserve, which is specific to the first quarter and is discussed further in Note 9.

7. Stockholders’ equity

Stock Repurchase

During 2011, the Company repurchased 7,464,583 shares at an average cost, including commissions, of $4.35 per share, or a total cost of $32.5 million. The Company repurchased approximately 1.25 million of these shares during the three months ended March 31, 2011 at a weighted average cost, including commissions, of $4.05 per share and a total cost of $5.1 million. This share repurchase was completed as of December 31, 2011. On April 25, 2012, the board of directors approved an additional $20.0 million share repurchase program. Through May 9, 2012, the Company has repurchased a total of 454,576 shares at a weighted average cost of $4.74 per share and a total cost of $2.2 million under this authorization. Repurchases may take place from time to time on the open market, will be financed with available cash and are subject to market and business conditions.

Stock Option and Restricted Stock Unit Activity

At March 31, 2012, the Company had four stock-based compensation plans, which are described more fully in the Consolidated Financial Statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011. There are approximately 1.1 million shares available for grant under the Plans as of March 31, 2012. During the first quarter of 2012, the Company granted restricted stock units and performance restricted stock units that vest over one to three years, or upon the achievement of certain performance criteria, respectively. Under the terms of the restricted stock unit award grant, the grantee has no voting rights or any other rights as a stockholder until the units vest. Upon vesting, the grantee will receive in exchange for each unit, a share of unrestricted stock.

12

TASER INTERNATIONAL, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

Restricted Stock Units

The following table summarizes restricted stock unit activity for the three months ended March 31, 2012:

Aggregate intrinsic value represents the Company’s closing stock price on the last trading day of the period, which was $4.34 per share, multiplied by the number of restricted stock units outstanding. As of March 31, 2012, there was $2.4 million in unrecognized compensation costs related to restricted stock units granted under our stock plans. We expect to recognize those costs over a weighted average period of 15 months.

The Company has granted approximately 180,000 units of performance restricted stock units (included in the table above), the vesting of which is contingent upon the achievement of certain performance criteria related to new product sales as well as the future sales and operating performance of the Company. Compensation expense is recognized over the implicit service period (the date the performance condition is expected to be achieved) based on management’s estimate of the probability of the performance criteria being satisfied, adjusted at each balance sheet date. As of March 31, 2012, all performance restricted stock units remained unvested.

Stock Options

The following table summarizes stock option activity for the three months ended March 31, 2012:

Aggregate intrinsic value represents the difference between the Company’s closing stock price on the last trading day of the period, which was $4.34 per share, and the exercise price multiplied by the number of options outstanding. Aggregate intrinsic value of options exercised for the three months ended March 31, 2012 and 2011, was approximately $26,000 and $13,000, respectively. As of March 31, 2012, total unrecognized stock-based compensation expense related to unvested stock options was approximately $2.6 million, which is expected to be recognized over a remaining weighted average period of approximately 20 months. Options expected to vest are presented net of expected forfeitures.

13

TASER INTERNATIONAL, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

The Company has granted a cumulative of 950,800 performance-based stock options from 2008 through December 31, 2011, the vesting of which is contingent upon the achievement of certain performance criteria related to the successful and timely development and market acceptance of future product introductions, as well as the future sales and operating performance of the Company. Compensation expense is recognized over the implicit service period (the date the performance condition is expected to be achieved) based on management’s estimate of the probability of the performance criteria being satisfied, adjusted at each balance sheet date. At March 31, 2012, approximately 183,000 unvested performance options with a grant date fair value of approximately $420,000 remain outstanding. No performance-based options were forfeited during the three months ended March 31, 2012.

Share-Based Compensation Expense

Share-based compensation cost for restricted stock units is measured based upon the market price of the Company’s common stock on the date of grant. Share-based compensation cost for stock options is estimated at the grant-date, based upon the fair value as calculated by the Black-Scholes-Merton option pricing valuation model, which incorporates various assumptions including volatility, expected life, and interest rates. There were no stock options granted during the three months ended March 31, 2012. The assumptions used for the three-month-period ended March 31, 2011, and the resulting estimates of weighted-average fair value per share of options granted during this period, are as follows:

The expected life of options represents the estimated period of time until exercise and is based on the Company’s historical experience of similar awards, giving consideration to the contractual terms, vesting schedules and expectations of employee behavior. The risk-free interest rate is based on the implied yield available on United States Treasury zero-coupon issues with an equivalent remaining term. The Company has not paid dividends in the past and does not plan to pay any dividends in the near future. The estimated fair value of stock-based compensation awards and other options is amortized to expense on a straight line basis over the relevant service period. As share-based compensation expense is recognized on awards ultimately expected to vest, it is reduced for estimated forfeitures. Forfeitures are estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. The Company’s forfeiture rate was calculated based on its historical experience of awards which ultimately vested.

Share-based compensation was classified as follows:

14

TASER INTERNATIONAL, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

Total share-based compensation expense recognized in the statements of operations for the three months ended March 31, 2012 and 2011, includes approximately $89,000 and $495,000, respectively, related to Incentive Stock Options (“ISOs”) for which no tax benefit is recognized. The Company did not tax effect the share-based compensation expense for tax purposes related to the non-qualified disposition of ISOs exercised and sold as the benefit will be recorded when the Company is in a position to realize the benefit with an offset to taxes payable in future periods. The total unrecognized tax benefit related to the non-qualified disposition of stock options in the three months ended March 31, 2012 and 2011, was approximately $26,000 and $13,000, respectively.

8. Line of credit

We have a revolving line of credit with a domestic bank with total availability of $10.0 million. The line is secured by the Company’s accounts receivable and inventory, and bears interest at varying rates, currently LIBOR plus 1.5% to prime. The line of credit matures on June 30, 2013, and requires monthly payments of interest only. At March 31, 2012 and December 31, 2011, there were no borrowings under the line. Our agreement with the bank requires us to comply with certain financial and other covenants including maintenance of minimum tangible net worth and a fixed charge coverage ratio. The ratio of total liabilities to tangible net worth can be no greater than 1:1, and the fixed charge coverage ratio can be no less than 1.25:1, based upon a trailing twelve month period. During 2011, the Company violated these covenants as a result of a $5.7 million non-cash charge. As of December 31, 2011 the violation was resolved by a waiver that provided relief to effectively exclude the $5.7 million charge discussed above when calculating the fixed charge coverage ratio covenant in the future. At March 31, 2012, the Company’s tangible net worth ratio was 0.25:1 and its fixed charge coverage ratio was 6.77:1. Accordingly, the Company was in compliance with those covenants.

9. Commitments and contingencies

Product Litigation

The Company is currently named as a defendant in 37 lawsuits in which the plaintiffs allege either wrongful death or personal injury in situations in which the TASER device was used (or present) by law enforcement officers in connection with arrests or during training exercises. Companion cases arising from the same incident have been combined into one for reporting purposes.

In addition, 159 other lawsuits have been dismissed or judgment entered in favor of the Company and are not included in this number. Appeals were filed by the plaintiffs in the Marquez (AZ), Oliver (FL) and Rosa (CA) cases where judgment was entered in favor of the Company. Plaintiff’s appeal in the Oliver (FL) case was denied in January 2012. Oral arguments were heard in the Marquez (AZ) and Rosa (CA) appeals in April 2012, and the Court’s decisions in these cases have not yet been issued. These cases are not included in this number or in the table below.

The Turner (NC) lawsuit was tried in July 2011 and resulted in a jury verdict of $10 million against the Company. The Company filed post-trial motions seeking judgment as a matter of law notwithstanding the verdict and in the alternative, a new trial or alternatively a remittitur of the jury award. During March 2012, the Federal District Court for the Western District of North Carolina granted the Company’s motion for remittitur and ordered the reduction of the original jury award from $10.0 million to approximately $4.4 million after offsets. Recently, on April 20, 2012, the court issued another order, which adjusted the award to $5.5 million. Based on this action by the court, the Company reversed a portion of the previously accrued litigation judgment expense during the three months ended March 31, 2012, which resulted in a benefit of $2.2 million, leaving a reserve of $1.1 million as of March 31, 2012. The Company has filed a notice of appeal in this case.

With respect to each of the pending 37 lawsuits, the following table lists the name of the plaintiff, the date the Company was served with process, the jurisdiction in which the case is pending, the type of claim and the status of the matter. While the facts vary from case to case, the product liability claims are typically based on an alleged product defect resulting in injury or death, usually involving a failure to warn, and the plaintiffs are seeking monetary damages. This table also lists those cases that were dismissed (or where a dismissal is pending) or judgment entered during the most recent fiscal quarter. Cases that were dismissed or judgment entered in prior fiscal quarters are not included in this table. The claims and in some instances, the defense of each of these lawsuits, has been submitted to our insurance carriers that maintained insurance coverage during these applicable periods, and we continue to maintain product liability insurance coverage with varying limits and deductibles. Our product liability insurance coverage during these periods ranged from $5,000,000 to $10,000,000 in coverage limits and from $10,000 to $1,000,000 in per incident deductibles. For the 2007-2008 insurance policy years, our product liability insurance coverage was $10 million and as noted above, in the Turner (NC) case, the Company received an adverse $10 million jury verdict. After consideration of the reduction of the award as noted above and the remaining available insurance coverage, the Company’s uninsured exposure related to this case is approximately $1.1 million. While the Company will explore every possible legal channel to have this verdict overturned, in the event the verdict stands, the Company’s insurance coverage for the 2007-2008 insurance policy year will be exhausted. For any other claims relating to the 2007-2008 insurance policy year, the Company will not have insurance coverage for defense costs or any other adverse judgments, should they arise. We are defending each of these lawsuits vigorously.

15

TASER INTERNATIONAL, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

16

TASER INTERNATIONAL, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

Other Litigation

In February 2009, we filed a complaint in the United States District Court for the District of Nevada against James F. McNulty, Jr., Robert Gruder, and Stinger Systems, Inc. alleging securities fraud under 15 U.S.C. § 78j, trade libel, unfair competition under the Lanham Act, 15 U.S.C. § 1125, abuse of process, and deceptive trade practices. Our complaint seeks compensatory damages, punitive damages, injunctive relief, attorneys’ fees and costs. Defendants filed motions to dismiss and on March 25, 2010 the Court denied Defendants’ motion on all claims except the securities fraud claim. Defendant McNulty filed a counterclaim on August 2, 2010 alleging that TASER’s XREP product infringes U.S. Patents 5,831,199 and 6,877,434. The counterclaim seeks declaratory and injunctive relief, compensatory, treble and punitive damages, and attorney’s fees. The court issued a ruling in July 2011 dismissing TASER’s claims for civil conspiracy and abuse of process and affirming the magistrate’s order requiring defendants to disclose tax and stock information to TASER and ruling that TASER’s counterclaim for declaratory judgment with respect to the patent claims should not be dismissed. Mr. McNulty has filed a motion for summary judgment, which is pending before the court. No trial date has been set.

In January 2011 we were served with a complaint in the matter of GEOTAG, Inc. v. TASER International, et. al. that was filed in the United States District Court for the Eastern District of Texas, Marshall Division which alleges that a dealer geographical locator feature on TASER’s website infringes upon plaintiff’s US Patent No. 5,930,474. The complaint seeks a judgment of infringement, a permanent injunction against infringement, an award for damages, costs, expenses and prejudgment and post-judgment interest, and an award for enhanced damages and attorneys’ fees. TASER has licensed this locator feature from a third party and has denied liability for infringement. This lawsuit is at the discovery phase and no trial date has been set.

In July 2011 the Company filed a complaint against Karbon Arms, LLC for infringement of U.S. Patent Nos. 7,800,885 (the “‘885 patent”) and 7,782,592 (the “‘592 patent”) in US District Court in Delaware seeking damages, injunctive relief and an award of attorney’s fees. Karbon Arms filed a counterclaim on July 18, 2011 alleging invalidity and non-infringement of four of TASER’s patents, tortuous interference with prospective contractual relations and for false advertising under the Lanham Act. This lawsuit is at the discovery phase and a trial date has been set for January 2014.

In December 2011 the Company was served with a complaint in the matter of Law Enforcement Associates, Inc. v. TASER International, Inc. that was filed in the United States District Court for the Eastern District of North Carolina, Eastern Division which alleges that the Company’s X2 and X3 products infringe United States Patent No. 7,692,915 and that the Company breached a contract to purchase certain of Law Enforcement Associates, Inc.’s patents. The complaint seeks a judgment of infringement, a permanent injunction against infringement, an award for damages for infringement and breach of contract, an award for treble damages for patent infringement and attorney’s fees. This lawsuit was dismissed to the mutual satisfaction of the parties.

In February 2012 the Company was served with a complaint in the matter of AA & Saba Consultants, Inc. v. TASER International, Inc. that was filed in the Superior Court for the County of Maricopa, AZ which alleges that the Company breached a contract by unilaterally terminating a distributor agreement between the Company and plaintiff without good cause. The complaint seeks an award for damages, costs, expenses and attorney’s fees. This lawsuit is at the discovery phase and no trial date has been set.

General

From time to time, the Company is notified that it may be a party to a lawsuit or that a claim is being made against it. It is the Company’s policy to not disclose the specifics of any claim or threatened lawsuit until the summons and complaint are actually served on the Company. After carefully assessing the claim, and assuming we determine that we are not at fault, we vigorously defend and pursue any lawsuit filed against or by the Company. Although we do not expect the outcome in any pending individual case to be material, the outcome of any litigation is inherently uncertain and there can be no assurance that any expense, liability or damages that may ultimately result from the resolution of these matters will be covered by our insurance or will not be in excess of amounts provided by insurance coverage and will not have a material adverse effect on our business, operating results or financial condition. In addition, the Company has one lawsuit where the costs of legal defense incurred are in excess of its liability insurance deductibles. As of March 31, 2012, the Company has been fully reimbursed by its insurance company for these legal costs. The Company may settle a lawsuit in situations where a settlement can be obtained for nuisance value and for an amount that is expected to be less than the cost of defending a lawsuit. The number of product liability lawsuits dismissed includes a small number of police officer training injury lawsuits that were settled by the Company and dismissed in cases where the settlement economics to the Company were significantly less than the cost of litigation. In addition, it is the Company’s policy to not settle suspect injury or death cases, although the Company’s insurance company may settle such lawsuits over the Company’s objection where the case is over the Company’s liability insurance deductibles. Due to the confidentiality of our litigation strategy and the confidentiality agreements that are executed in the event of a settlement, the Company does not identify or comment on which specific lawsuits have been settled or the amount of any settlement.

17

TASER INTERNATIONAL, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

10. Related party transactions

Aircraft charter