AXON ENTERPRISE, INC. - Annual Report: 2013 (Form 10-K)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-K

(Mark One)

For the fiscal year ended December 31, 2013

or

For the transition period from                      to                     

Commission File Number: 001-16391

TASER International, Inc.

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code:

(480) 991-0797

Securities registered pursuant to Section 12(b) of the Act:

Securities registered pursuant to Section 12(g) of the Act:

None

(Title of Class)

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ¨    No  x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes  ¨    No  x

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 Website, 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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  ¨

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 Act).    Yes  ¨    No  x

The aggregate market value of the common stock held by non-affiliates of the registrant, based on the last sales price of the issuer’s common stock on June 28, 2013, which was the last business day of the registrant’s most recently completed second fiscal quarter, as reported by NASDAQ, was $418.5 million

The number of shares of the registrant’s common stock outstanding as of Feb 28, 2014 was 51,872,391.

DOCUMENTS INCORPORATED BY REFERENCE

Parts of the registrant’s definitive proxy statement for its 2014 annual meeting of stockholders to be prepared and filed with the Securities and Exchange Commission not later than 120 days after December 31, 2013 are incorporated by reference into Part III of this Form 10-K.

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TASER INTERNATIONAL, INC.

INDEX TO ANNUAL REPORT ON FORM 10-K

FOR THE YEAR ENDED DECEMBER 31, 2013

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PART I

The statements contained in this report that are not historical are “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), including statements regarding our expectations, beliefs, intentions or strategies regarding the future. We intend that such forward-looking statements be subject to the safe-harbor provided by the Private Securities Litigation Reform Act of 1995. Such forward-looking statements relate to, among other things:

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These statements are qualified by important factors that could cause our actual results to differ materially from those reflected by the forward-looking statements. Such factors include, but are not limited to, those factors detailed in ITEM 1A of this annual report entitled “Risk Factors.” The risks included in the foregoing list are not exhaustive. Other sections of this report may include additional factors that could adversely affect our business and financial performance. New risk factors emerge from time to time, and it is not possible for management to predict all such factors, nor can it assess the impact of all such risk factors or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. We undertake no obligation to update or revise any forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to expectations over time.

TASER International, Inc. owns the following trademarks: ADVANCED TASER, CHECKLOK, TASER, XREP, C2, X2, X3, the bolt on West Hemisphere logo, the bolt on ball logo, the bolt on circle logo, and the bolt within circle logo, all registered in the United States. All other trademarks and service marks including M18, M26, X26, X26C, X26P, AXON, AXON flex, AXON body, Shockwave, TASER CAM and designs belong to TASER International, Inc., except as expressly indicated as belonging to another.

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Overview

TASER International, Inc.’s (the “Company” or “TASER” or “we” or “our”) core mission is to protect life and to protect truth through technologies that make communities safer. We are the market leader in the development, manufacture and sale of conducted electrical weapons (“CEWs”) designed for use in law enforcement, military, corrections, private security and personal defense. Since our inception in 1993, we have remained committed to providing solutions to violent confrontation by developing devices with proprietary technology to incapacitate dangerous, combative, or high-risk subjects who pose a risk to law enforcement officers, innocent citizens, or themselves in a manner that is generally recognized as a safer alternative to other uses of force. More recently, to address challenges faced by law enforcement officers post-incident, we have developed a fully integrated hardware and software solution to provide our law enforcement customers the capabilities to capture, store, manage, share and analyze video and other digital evidence.

TASER CEW solutions deliver significant results to our customers and to communities in which they are deployed. Numerous studies show a significant reduction in both officer and suspect injuries with TASER CEW usage. Further, most reporting agencies demonstrate overall decreases in use of force and decreases in suspect and officer injuries resulting from conflict. Reducing uses of force and gaining compliance of the suspect by use of a TASER CEW has provided significant reductions in worker’s compensation expenses and claims for excessive use of force for law enforcement agencies, and ultimately taxpayers.

Our mission to protect life has also been extended to protect truth. Bringing a subject into custody is not the end of the challenge for law enforcement. A significant number of incidents that start as a physical conflict then transition into a legal conflict. Prosecuting and convicting the individual arrested, and responding to excessive use of force allegations, are examples of significant post-incident challenges law enforcement faces on a continual basis, often requiring years and millions of litigation dollars to resolve in the courtroom. Instead, the optimum situation is to prevent the conflict from ever escalating. TASER CEWs and AXON on-officer video have a measured and positive effect on better suspect and officer behavior as well as achieving compliance without escalation of force.

Central to our strategy, we conduct research and develop advanced technologies for both the creation of new, and the enhancement of existing hardware and software products and services. We believe that delivering high-value solutions through our various product platforms is the key to delivering compelling value propositions to meet our customers’ needs and to drive our future growth. We place the highest level of importance on the safety and appropriate use of our products and have established industry leading training services to provide our users a comprehensive overview of the legal, policy, medical and risk mitigation issues relating to our CEWs and the use of force.

Our products are sold directly to law enforcement agencies and through a network of distribution channels we developed for selling and marketing our products and services to law enforcement agencies, primarily in North America, with continuing focus and effort placed on expanding these programs in international, military and other markets. To facilitate sales and provide customer service to our European customers, we established TASER International Europe SE, a wholly owned subsidiary, in 2009.

Segments

The Company’s operations are comprised of two reportable segments; the sale of CEWs, accessories and other products and services (the “TASER Weapons” segment); and the video business, which includes the TASER Cam, AXON Video products and EVIDENCE.com (the “EVIDENCE.com & Video” segment). Within the EVIDENCE.com & Video segment, the Company includes only revenues and costs directly attributable to that segment which include: costs of sales for both products and services, direct labor, selling expense for the segment sales team, segment product management expenses, segment trade shows and related expenses, and research and development for products included in the EVIDENCE.com & Video segment. All other costs are included in the TASER Weapons segment. Further information about our reportable segments and sales by geographic region is included in Footnotes 1(p) and 17 of the consolidated financial statements in Part II, Item 8 of this Annual Report on Form 10-K.

CEW Products

We make CEWs that use our proprietary Neuro Muscular Incapacitation (“NMI”) effects for two main types of market segments: (i) the law enforcement, military, corrections and professional security markets; and (ii) the consumer market. Our products use a replaceable cartridge containing compressed nitrogen to deploy and propel two small probes that are attached to the CEW by insulated conductive wires with lengths ranging from 15 to 35 feet. Our CEWs transmit electrical pulses along the wires and into the body affecting the sensory and motor functions of the peripheral nervous system. The electric current can penetrate up to two cumulative inches of clothing or approximately one inch per probe. The basic design is to provide incapacitating effects that last in cycles of five seconds for our law enforcement, military and corrections products and up to thirty seconds for our consumer market models. This effect can be extended, if necessary, by the operator.

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The benefits of using CEWs in the field have been undeniable and powerful. By some studies, TASER CEWs have prevented death or serious injury more than 118,000 times from the first deployment in 2000 to the end of 2013. In addition to protecting life, the use of these devices instead of other force options has substantially reduced injuries for suspects and officers with substantial liability and workers’ compensation savings to government agencies around the world.

Law Enforcement, Military, Corrections and Professional Security Products

For the law enforcement, military, corrections and professional security markets, we primarily manufacture four hand-held CEW product lines and have also incorporated our technology into several other product line extensions. Certain of these products are also sold into the consumer market. Consumer sales are not included in the table below.

CEW Product Line Extensions

In addition to our primary CEWs, we have developed more innovative methods to deploy our proprietary NMI technology, increasing the capabilities of our systems and extending the range at which they can be deployed. Our product line extension includes the TASER eXtended Range Electronic Projectile (“XREP”). The XREP is a self-contained, wireless (non-tethered) CEW that deploys from a 12-gauge pump-action shotgun. It delivers an impact distraction to the suspect and a similar NMI bio-effect as our X26 handheld CEW, but can be delivered to a maximum effective range of 100 feet.

Consumer Products

Our primary consumer product for the personal defense market is the TASER C2 CEW that provides the same proven NMI effectiveness as our market leading law enforcement CEWs but in a less intimidating, more compact form at a price point more attractive to private citizens. While the C2 CEW is our primary product for the consumer market, we have developed consumer versions of the X2, M26 and X26 CEWs. In 2013, we introduced the TASER StrikeLight, a handheld stun device, integrated with a high intensity flashlight, at a low price point. Our total consumer products accounted for $4.0 million, $4.6 million and $4.6 million in the years ended December 31, 2013, 2012, and 2011, respectively, which translates to 3%, 4%, and 5% of net sales, respectively.

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Cartridges

We manufacture multiple cartridge types for varying ranges and purposes. Types of cartridges include, among others, standard cartridges, Smart cartridges and training cartridges. Smart cartridges communicate with the fire control system within the TASER X2 and X3 indicating the type of cartridge loaded in each bay and its deployment status. Standard cartridges are designed for use within the M26, X26 and X26P CEW systems with unique variations for warm and cold climates, training scenarios, and tactical situations. Training cartridges contain non-conductive wiring, which allows law enforcement, military, and corrections trainers to use the cartridge during training role-playing scenarios. In addition, cartridges may have varying probe sizes, which affect the penetration of clothing.

All of our cartridges, with the exception of the training cartridge, contain numerous colored, confetti-like tags bearing the cartridge’s serial number. These tags, referred to as Anti-Felon Identification tags (“AFIDs”) are scattered when one of our cartridges is deployed. Sellers of our products participate in the AFID program by registering buyers of our cartridges. In many cases, we can use AFIDs to identify the registered owner of cartridges deployed. AFIDs provide an additional level of accountability when using TASER CEW devices.

Individual cartridge sales accounted for approximately $35.7 million, $32.8 million and $25.4 million, or approximately 26%, 29% and 28%, of our net sales for the years ended December 31, 2013, 2012 and 2011, respectively.

Other Accessories

Other accessories include, among other items:

Video Products

We believe that the video evidence capture and management market will grow significantly in the near future due to several factors including increasing recognition of the benefits of video evidence. The International Association of Chiefs of Police and other law enforcement organizations have endorsed the benefits of video evidence. In addition, a Rialto Police Department study through the University of Cambridge found implementation of TASER video products not only reduced citizen complaints against law enforcement but also significantly reduced the use of force by law enforcement. Additionally, video evidence in law enforcement has the potential to reduce the cost to United States (“U.S.”) taxpayers for payment of law enforcement litigation and claims, which is currently estimated at greater than $2.0 billion per year.

Given our existing long-term relationships with law enforcement agencies as well as our industry-leading video products, we believe we are well positioned to benefit from this growth. Our products can significantly reduce liability risk for individual police officers and for law enforcement agencies by capturing the ‘truth’ of what actually happened in an incident, saving law enforcement agencies significant resources. In addition, our video products work on a stand-alone basis, or seamlessly integrated together, to automate key workflows, including the ingestion of videos recorded into our system, and improve officer efficiency by enabling a reduction in report documentation workload while increasing accuracy and accountability.

AXON

The AXON system was introduced in May 2012 and utilizes advanced audio-video record and capture devices worn by first responders to record video of critical incidents from the visual perspective of the officer. AXON cameras provide the option for officers to use Android^TM or iOS^TM devices to review and tag video evidence, streamlining the evidence transfer process. AXON flex provides complete flexibility in how an officer chooses to wear the device, including an option to deploy as an attachment to Oakley Flak Jacket^TM eyewear. Thousands of law enforcement officers assisted in the development of AXON flex, making it, we believe, the most customer-driven officer worn camera solution ever produced.

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Responding to market feedback, we introduced the AXON body camera in 2013. AXON body is a simple, low-priced body worn camera for law enforcement, designed for customers seeking easy deployment at a lower price-point. The AXON body eliminates the need for the camera to be mounted above the shoulder of the individual and rather hooks into the shirt of the officer at mid-chest level. This camera also eliminates all wires from the wearer’s body.

Both cameras are designed to integrate seamlessly with the Company’s video evidence management system, EVIDENCE.com.

EVIDENCE.com

EVIDENCE.com is a cloud-based digital evidence management system and warehouse, offering digital evidence management, sharing, analysis and storage in a highly secure, easily accessible environment. The service is designed to allow an agency to manage all of its digital evidence in one place, and accommodates video from many sources, including TASER products, digital pictures, fixed cameras, interview rooms, and more. EVIDENCE.com automates key workflows from evidence collection to review, eliminating expensive and manual steps in the production and movement of evidence among law enforcement and legal professionals. Evidence is generally transferred to EVIDENCE.com from AXON products using an Evidence Transfer Manager (“ETM”), also sold by TASER. Interviews and other digital evidence from the field can be quickly and securely uploaded using EVIDENCE Mobile, built for iOS and Android, which was introduced in 2013. Enabling digital evidence collection from EVIDENCE Mobile saves agencies time and money by streamlining the process to manage, ingest and physically process storage media. We believe that cloud and mobile technologies are fundamentally changing the way in which officers connect with each other, the agency and other partners in the law enforcement community. Technology is developing at such a quick rate that it is often not practical or efficient for agencies to keep pace. Utilizing our cloud-based solution allows agencies to rapidly adopt new technology without the cost and complexity of managing the hardware or software in-house, and without the risk of large investments in equipment that could be obsolete in a matter of months or years.

Together, our AXON camera system and EVIDENCE.com, along with EVIDENCE Mobile, are an end-to-end video capture and digital evidence management solution. With the launch of the AXON flex camera system in 2012 and the AXON body in 2013, growth accelerated for AXON and EVIDENCE.com. Bookings by quarter for 2013 and 2012 are as follows:

AXON flex, AXON body and EVIDENCE.com bookings is a statistical measure defined as the sales price of orders placed in the relevant fiscal period. Bookings are an indication of the activity the Company is seeing relative to AXON flex, AXON body and EVIDENCE.com.

The Company has deliverables to meet prior to recognizing revenue related to many of the orders. These statistics represent orders and not invoiced sales. Once invoiced, the revenue related to EVIDENCE.com is recognized over the requisite service period of one to five years. Due to municipal government funding rules, certain of the future year amounts included in bookings are subject to budget appropriation or other contract cancellation clauses. Although TASER has entered into contracts for the delivery of products and services in the future and anticipates the contracts will be completed, if agencies do not appropriate money in future year budgets, or enact a cancellation clause, revenue associated with these bookings will not ultimately be recognized, resulting in a future reduction to bookings.

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TASER Cam HD

The TASER Cam HD is a video recording device that captures both video and audio of potential and actual TASER use incidents as an accessory to a TASER CEW. The device can capture video and audio before, during and after a TASER deployment, which provides law enforcement with a greater level of accountability to support their use of TASER devices against a resistant subject. The TASER Cam HD is capable of recording in low light conditions, has a wide field of view, high resolution and color video. A non-audio version of the device is also available for agencies operating in states where legislation prohibits the use of audio recordings. Revenue related to the TASER Cam HD was $4.7 million, $3.1 million and $2.2 million in the years ended December 31, 2013, 2012 and 2011, respectively.

Product Warranties

We generally warranty CEWs, StrikeLight, AXON cameras and ETMs 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 which covers the handling and repair costs and includes a profit. We believe this policy is attractive to customers.

The Company also offers customers the right to purchase extended warranties, which provide additional coverage beyond the limited warranty, ranging from one to five years, offered at specified fees. The sales of extended warranties give customers a level of cost certainty that they would not have without an extended warranty. At December 31, 2013, 2012 and 2011, the balance of deferred revenue was $15.9 million, $10.8 million and $7.2 million under this program, respectively. The revenue associated with the extended warranties will be recognized over the extended warranty period.

Markets

Law Enforcement and Corrections

Our primary target market for both our weapon and video products is federal, state and local law enforcement agencies in the U.S. and throughout the world. In the law enforcement market, more than 17,000 law enforcement agencies in nearly 150 countries have made initial purchases of our TASER brand devices for testing or deployment. Our belief is that in the U.S., approximately one half of all law enforcement patrol officers carry a TASER CEW and internationally, approximately one out of every fifty eligible law enforcement officers carries a TASER CEW.

We continue to educate correctional facility personnel, as well as parole and probation field officers, regarding the benefits of using TASER brand products and we have developed training programs and command staff demonstrations specific to the corrections market. Our TASER devices are deployed in multiple county and state correctional facilities in the U.S.

Military Forces, U.S. and Foreign Allies

TASER CEW devices continue to be deployed in support of key strategic military operations in locations around the world. We continue our focus initiative on supporting our military customers. The former head of the U.S. Military Joint Non-Lethal Weapons Directorate is our Vice President of Government and Military Programs, and we meet regularly with our Senior Executive Advisory Board, comprised of a team of professionals with extensive military, homeland defense and law enforcement experience, with the purpose of advising on business models in support of federal law enforcement and military users.

Private Security

We continue to pursue opportunities for sales of TASER CEW devices in private security markets; however, we have made limited sales to date. Private security officers represent a broad range of individuals, including contract security patrol, healthcare, gaming, retail security employees and many others. Similar to our other emerging markets, we have developed training programs and demonstrations specific to the industry by meeting with several large corporate and private patrol security companies to discover their unique needs. We also attend several private security tradeshows, conferences and industry association meetings to generate a presence in this market space.

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Private Citizen / Personal Protection

Our primary consumer product for personal defense is the TASER C2 personal protection device, a CEW specifically designed for the private citizen market. We have also developed consumer versions of the X2, M26, and X26 CEWs. Further, in 2013 we introduced the StrikeLight, a simple stun device integrated with a high-intensity flashlight. We continue to explore alternatives to generate more consumer sales.

Sales and Marketing

Law enforcement, federal/military and corrections represent our primary target markets. In each of these markets, the decision to purchase TASER CEWs, AXON video products or EVIDENCE.com is normally made by a group of people, including the agency head, municipal information technology departments, the agency’s training staff and agency weapons experts. Depending on the size and cost of the device deployment and local procurement rules and customs, the decision may involve political decision-makers such as city council members or the federal government. The decision-making process can take as little as a few weeks or as long as several years. Although we have focused on three primary markets, we have been able to expand our customer base to hundreds of thousands of end users within these markets. We currently have a presence in more than 17,000 law enforcement agencies.

We have used multiple types of media to communicate the benefits of acquiring and deploying our products. These campaigns have included the development of on-line educational campaigns geared toward law enforcement leaders in the community, web and print advertisements in law enforcement publications, the use of training classes conducted around the world, and more recently, in the case of the TASER X2 and X26P, an integrated online media launch including trade-in programs on used TASER devices. During the first quarter of 2014, we will host a technology summit at our Scottsdale headquarters during which our employees, customers and potential customers will conduct forums to discuss, educate and promote the benefits of cloud computing and wearable technology. A similar event was held in 2013. We also target key regional and national law enforcement trade shows where we can demonstrate our products to leading departments. In 2013, we attended and exhibited at many of the major regional, national and international law enforcement trade shows. We also held our annual TASER Conference as part of our certified master instructor school, the continued focus of which was to train the officers in the use of all of the latest CEWs and other new products.

TASER maintains a corporate website for TASER.com and a website for EVIDENCE.com designed to deliver benefit-driven messages and to drive follow up by TASER or one of our distribution partners. We also maintain foreign-language sites for non-English speakers around the world, including French, Portuguese, German and Spanish, with the same goals to provide information and education on our products and services in a local language. We plan to continue investment in web activities and law enforcement trade shows and conferences in 2014, as it provides us the ability to market our products to our target audience. We believe these types of activities accelerate penetration of our TASER product lines in each market, which should lead to increased visibility in both the private security and private citizen markets and reinforce the value of these devices for self-defense.

U.S. Distribution

The Company sells directly to law enforcement agencies in the U.S. as well as through a distribution network. In addition, we have one U.S. military and federal government contracting distributor. Distributors are selected based upon their reputation within their respective industries, their contacts and their distribution network. Our regional sales managers work closely with the distributors in their territory to inform and educate the law enforcement communities. We continue to monitor our law enforcement distributors closely to help ensure that our service standards are achieved. Where appropriate, we intend to grow our direct sales over time. Distributors often allow us to penetrate regions at lower fixed costs; however, direct sales allow us greater control over the customer relationship.

Sales in the private citizen market are primarily made through our commercial distributors and our website. We have implemented a variety of marketing initiatives to support sales of our consumer products, with a focus on web, public relations and consumer trade shows. We have consulted with professional digital media and public relations professionals to assist us in media and press events, and editorial placements along with attending numerous tradeshows specifically to target the consumer market.

International Distribution

We market and distribute our products to foreign markets primarily through a network of distributors. For geographical and cultural reasons, our distributors usually have a territory defined by their country’s borders. These distributors market both our law enforcement, military, and corrections products, and our consumer products where allowed by law.

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Our distributors work with local law enforcement, military and corrections agencies in the same manner as our domestic market distributors. For example, they may perform demonstrations, attend industry tradeshows, maintain country specific websites, engage in print advertising and arrange training classes.

Training Programs

Most law enforcement, military, security and corrections agencies will not purchase new weapons until a training program is in place to instruct and certify personnel in their proper use. TASER maintains a robust training program and conducts a variety of classes valuable to the users of our products. Attendance at our courses generally requires a fee which varies depending upon course content. For the years ended December 31, 2013, 2012 and 2011, training revenue was $1.9 million, $2.2 million and $2.1 million, respectively.

To coordinate the growing demands of our training programs, we created a Training Advisory Board. This board annually reviews the qualifications of the master instructors, and provides retraining or certification as required. In addition, the Training Advisory Board oversees the trainers and curriculum to ensure that new information is properly communicated and implemented. We also created the designation of Senior Master Instructor whose primary duties are to perform quality control checks on Master Instructors during instructor courses and to help instruct at the Master Instructor School. As of December 31, 2013, 26 experienced individuals hold the designation of Senior Master Instructors based on their exemplary performance as Master Instructors.

CEW Courses Offered:

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Video Systems Courses Offered:

With the release of the AXON flex on-officer audio and video recording system in 2012, we developed new courses and incorporated the AXON cameras as an integral part of all CEW Instructor and Master Instructor courses.

Manufacturing

We perform light manufacturing, final assembly, and final test operations at our headquarters in Scottsdale, Arizona, and own substantially all of the equipment required to develop, prototype, manufacture and assemble our finished products. This includes critical injection molds, schematics, automation equipment, test equipment and prototypes utilized by our supply chain for the conversion of raw materials into sub-assemblies. We have implemented lean/six sigma methodologies to optimize all direct and indirect resources within the organization, which has helped boost capacity for existing products, as well as provide flexibility to accommodate production of new TASER product introductions. We are currently operating a single production shift; however, other capacity options, including the use of multiple shifts, will be considered should we experience higher demand resulting from large orders of legacy or new product releases. We continue to maintain our ISO 9001 certification.

Our XREP product is considered a firearm due to the propellant used to launch the projectile from the device. We have a Class 7 Federal Firearms license to manufacture, store and sell XREP and related products. We have previously, and may again in the future, leased facilities from a local third party who specializes in defense products and provides facilities, ensuring compliance to required firearm and dangerous good standards.

We constantly seek opportunities to invest in automated equipment for the continuous improvement of product quality and reduction of manufacturing costs. As a result, we have implemented a number of equipment initiatives including the purchase and integration of robotic equipment, computerized laboratory and medical testing equipment, machining and tooling equipment, as well as sophisticated modeling equipment for our research and development. We have a highly automated cartridge assembly line which improves both our production capacity and yields while significantly improving efficiency over what was previously a very labor-intensive manufacturing process.

In 2011, we automated the gathering of our test data. We now have the ability to review real-time test data from our in-process test equipment as well as our equipment based at suppliers. This allows us to recognize and correct processing issues before they move out of control limits, reducing rework and scrap costs, as well as improving supplier quality and internal productivity.

Supply chain management has been, and will continue to be, a focus of ours. We presently purchase completed printed circuit board assemblies and components primarily from suppliers located in the U.S., along with selective strategic relationships internationally. Although we currently obtain plastic components from an outside supplier base, we own all the designs and tooling. We believe there are readily available qualified alternative suppliers in most cases who can consistently meet our needs for these components. We continue to develop and implement policies to mitigate supply chain risk and ensure continuity of supply, while maintaining efficiencies at all levels within the organization.

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Competition

Law Enforcement, Corrections and Private Security Markets

Law enforcement customers partner with TASER for the long-term. The primary competitive factors in the law enforcement and corrections market include a weapon’s accuracy, effectiveness, safety, cost, ease of use and an exceptional customer experience. Stinger Systems introduced an electronic device in 2007 to compete with the TASER X26; however, they had limited success before going out of business in 2010. Stinger Systems subsequently sold its assets to Karbon Arms. We are not aware of any significant sales to date by Karbon Arms. We were granted summary judgment in a patent infringement claim against Stinger Systems and an injunction was issued against Stinger Systems in August 2010. In July of 2011, we filed a complaint against Karbon Arms, LLC for infringement of U.S. patent numbers 7,800,855 and 7,782,592 in U.S. District Court for the District of Delaware seeking damages, injunctive relief and an award of attorney’s fees. Karbon Arms filed a counter suit 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. In January 2014, TASER and Karbon Arms agreed to a permanent injunction against Karbon Arms after it was decreed that Karbon Arms infringed on the aforementioned patents. The permanent injunction restrains and enjoins Karbon Arms and its current and former officers, agents, directors, employees, and affiliates and those persons in participation with them who received actual notice of the injunction from making, using, offering to sell or selling the Karbon Arms MPID and MPID-C or supplying a substantial portion of the components that are used in the Karbon Arms devices. We believe that our strong relationship with our customers, our large installed base of products, the significant amount of medical and safety testing already performed on our products, our world-class customer service and other support we provide to customers provides us with a strong competitive advantage. In some international markets, our CEWs face local competition.

We also believe our CEWs compete indirectly with a variety of other non-lethal alternatives. These alternatives include, but are not limited to, pepper spray, batons and impact weapons sold by companies such as Defense Technology. We believe our TASER brand devices’ advanced technology, versatility, portability, effectiveness, built-in accountability systems, and low injury rate enable us to compete effectively against these other less-lethal alternatives.

Military Market

In the military markets, both in the U.S. and abroad, a wide variety of weapon systems are utilized to accomplish the mission at hand. CEWs have gained increased acceptance as a result of the policing role of military personnel in the conflicts in both Iraq and Afghanistan. There has also been an increased awareness of the use of non-lethal weapons as a way to preserve human intelligence. TASER CEWs give our armed forces a means to capture or immobilize targets without using lethal force. We are the only supplier providing CEWs to these military agencies. However, there is indirect competition from pepper spray, batons and impact weapons sold by companies such as Defense Technology.

Private Citizen Market

CEWs have gained limited acceptance in the private citizen market. These devices primarily compete with guns, but also with other less lethal weapons such as chemical spray. The primary competitive factors in the private citizen market include a weapon’s cost, effectiveness, safety and ease of use.

Video Evidence Market

The video evidence capture and management market segment is a highly fragmented and competitive market amongst companies. In the video evidence capture market segment, there are existing companies with an established presence. Continued evolution in the industry and technology shifts are creating opportunities for both established and new competitors. Key competitive factors include: product performance; product features; product quality and warranty; total cost of ownership; data and information work flows; company reputation and financial strength; and relationship with customers. We believe our AXON products, which place the camera directly on-officer at a much lower total cost of ownership than a traditional in-car camera, overcome some of the inherent limitations of an in-car system. We believe that placing the camera on the officer creates a paradigm shift that will ultimately overtake the majority of the in-car camera market.

Our digital evidence management system, EVIDENCE.com, is a cloud-based platform. Cloud computing fundamentally changes the way local, state and federal government agencies will develop and deploy software applications. Applications used by these agencies have historically required the agency to deploy their own infrastructure of servers, storage, network devices and operating systems. With a cloud-based system, the entire infrastructure is managed by third parties who specialize in infrastructure management. Agencies use the internet to access the application. Our cloud-based EVIDENCE.com service enables agencies to store, manage and analyze video evidence. We believe our end-to-end solution of AXON and EVIDENCE.com is a compelling value proposition for law enforcement agencies to implement.

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Regulation

U.S. Regulation

The majority of TASER weapons, as well as the cartridges used by these devices, are subject to regulations; however, most are not considered to be a “firearm” by the U.S. Bureau of Alcohol, Tobacco, Firearms and Explosives. The TASER XREP does use a propellant system which falls under the definition of a “firearm” and is, therefore, subject to federal firearms-related regulations. Many states have regulations restricting the sale and use of stun guns, hand-held shock devices and electronic weapons. We believe existing stun gun laws and regulations apply to our devices.

In many cases, the law enforcement and corrections market is subject to different regulations than the private citizen market. Where different regulations exist, we assume the regulations affecting the private citizen market also apply to the private security markets, except as the applicable regulations otherwise specifically provide.

As of December 31, 2013, the possession of stun guns by the general public, including TASER CEWs, is prohibited in six states: District of Columbia, Hawaii, Massachusetts, New Jersey, New York, and Rhode Island. Some cities and municipalities also prohibit private citizen possession or use of our products.

We are also subject to environmental laws and regulations, including restrictions on the presence of certain substances in electronic products. Reference is made to Section 1A, Risk Factors under the heading “Environmental laws and regulations subject us to a number of risks and could result in significant liabilities and costs”.

EVIDENCE.com is subject to government regulation of the internet in many areas, including telecommunications, data protection, user privacy and online content.

U.S. Export Regulation

CEWs are considered a crime control product by the U.S. government. Accordingly, the export of our devices is regulated under export administration regulations. As a result, we must obtain export licenses from the Department of Commerce for all shipments to foreign countries other than Canada. Most of our requests for export licenses have been granted, and the need to obtain these licenses has not caused a material delay in our shipments. Export regulations also prohibit the further shipment of our products from foreign markets in which we hold a valid export license to foreign markets in which we do not hold an export license for our products.

The Department of Commerce restricts the export of technology used in our CEWs. These regulations apply to both the technology incorporated in our CEW systems and to the processes used to produce them. The technology export regulations do not apply to production that takes place within the U.S. but is applicable to some sub-assemblies and controlled items manufactured outside the U.S.

Foreign Regulation

Foreign regulations, which may affect our devices, are numerous and often unclear. We prefer to work with a distributor who is familiar with the applicable import regulations in each of our foreign markets. Experience with foreign distributors in the past indicates that restrictions may prohibit certain sales of our products in a number of countries. The vast majority of countries permit TASER devices to be sold and used by law enforcement. We rely on our distributors to inform us of those countries where the TASER device is prohibited or restricted.

Intellectual Property

We protect our intellectual property with U.S. and foreign patents and trademarks. Our patents and pending patent applications relate to technology used by us in connection with our products. We also rely on international treaties, organizations and foreign laws to protect our intellectual property. As of December 31, 2013, we hold 85 U.S. patents and 82 foreign patents and also have numerous patents and trademarks pending. We continuously assess whether and where to seek formal protection for particular innovations and technologies based on such factors as the commercial significance of our operations and our competitors’ operations in particular countries and regions, our strategic technology or product directions in different countries and the degree to which intellectual property laws exist and are meaningfully enforced in different jurisdictions.

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Confidentiality agreements are used with employees, consultants and key suppliers to help ensure the confidentiality of our trade secrets.

TASER has the exclusive rights to many internet domain names primarily including ‘TASER.com’ and ‘EVIDENCE.com.’

Research and Development

Our research and development initiatives focus on next generation technology. Internally funded research has been primarily focused on improvements to existing TASER products, or the development of new applications for TASER technology that we believe generally will have broad market appeal. Our investment in internally funded research and development totaled $9.9 million, $8.1 million and $10.0 million in 2013, 2012, and 2011, respectively.

In the fourth quarter of 2013, we announced the acquisition of Familiar, Inc. The Familiar team of application developers will conduct research and development initiatives for cloud applications and mobile technologies in law enforcement, focused specifically on new revenue opportunities that align with the EVIDENCE.com platform strategy. The Company plans to continue to invest in additional research and development within the EVIDENCE.com & Video segment with a focus on continuous improvement, additional functionality for existing products and next generation product lines.

Within the TASER Weapons segment, current research and development initiatives include bio-medical research and electrical, mechanical and software engineering. We expect that future CEW development projects will focus on extending the range, improving the functionality and developing new delivery options for our products.

Our return on investment is intended to be realized over the long term, although new systems and technologies often can have a more immediate impact on our business.

Employees

As of December 31, 2013, we had 379 full-time employees and 106 temporary employees. The breakdown of our full-time employees by department is as follows: 146 direct manufacturing employees and 233 administrative and manufacturing support employees. Of the 233 administrative and manufacturing support employees, 81 were involved in sales, marketing, communications and training. Of the 106 temporary employees, more than 92% worked in direct manufacturing roles. Our employees are not covered by any collective bargaining agreement, and we have never experienced a work stoppage. We believe that our relations with our employees are good.

Available Information

We were incorporated in Arizona in September 1993 as an ICER Corporation. We changed our name to AIR TASER, Inc. in December 1993 and to TASER International, Incorporated in April 1998. In January 2001, we reincorporated in Delaware as TASER International, Inc.

Our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 are available free of charge on our website at http://www.TASER.com as soon as reasonably practicable after we electronically file such material with, or furnish such material to, the SEC. The SEC maintains an Internet site that contains reports, proxy and information statements and other information regarding issuers that file electronically with the SEC at http://www.sec.gov.

Because of the following factors, as well as other variables affecting our operating results, our past financial performance may not be a reliable indicator of our future performance and historical trends should not be used to anticipate our results or trends in future periods.

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We are materially dependent on acceptance of our products by the law enforcement, both domestic and international, and federal markets. If law enforcement agencies do not continue to purchase our products, our revenues will be adversely affected.

A substantial number of law enforcement and corrections agencies may not purchase our CEWs or video products. Law enforcement and corrections agencies may be influenced by claims or perceptions that CEWs, such as our products, are unsafe or may be used in an abusive manner. In addition, earlier generation CEWs may have been perceived as ineffective. Sales of our products to these agencies may be delayed or limited by these claims or perceptions.

We substantially depend on sales of our TASER X26, X26P and X2 CEWs, and if these products do not continue to be widely accepted, our growth prospects will be diminished.

In the years ended December 31, 2013, 2012 and 2011, we derived our revenues predominantly from sales of TASER CEW brand devices and related cartridges, and expect to depend on sales of these products for the foreseeable future. We are seeing a large number of customers upgrade their devices to the X2 or the new X26P device, which we introduced in 2011 and 2013, respectively. This is a trend we expect to continue. A decrease in the prices of, or demand for these products, or their failure to maintain broad market acceptance, would significantly harm our growth prospects, operating results and financial condition.

The success of our EVIDENCE.com Software-as-a-Service (“SaaS”) delivery model is materially dependent on acceptance of this business model by our law enforcement customers. Delayed or lengthy time to adoption by law enforcement agencies will negatively impact our sales and profitability.

A substantial number of law enforcement agencies may be slow to adopt our EVIDENCE.com digital data evidence management and storage solution, requiring extended periods of trial and evaluation. The hosted service delivery business model is not presently widely adopted by our law enforcement customer base. As such, the sales cycle has additional complexity with the need to educate our customers and address issues regarding agency bandwidth requirements, data retention policies, data security and chain of evidence custody. Delays in successfully securing widespread adoption of EVIDENCE.com services could adversely affect our revenues, profitability and financial condition.

If we are unable to design, introduce and sell new products or new product features successfully, our business and financial results could be adversely affected.

Our future success will depend on our ability to develop new products or new product features that achieve market acceptance in a timely and cost-effective manner. The development of new products and new product features is complex, time consuming and expensive, and we may experience delays in completing the development and introduction of new products. We cannot provide any assurance that products that we may develop in the future will achieve market acceptance. If we fail to develop new products or new product features on a timely basis that achieve market acceptance, our business, financial results and competitive position could be adversely affected.

Delays in product development schedules may adversely affect our revenues.

The development of software products such as EVIDENCE.com is a complex and time-consuming process. New products and enhancements to existing products can require long development and testing periods. Our increasing focus on our SaaS platform also presents new and complex development issues. Significant delays in new product or service releases or significant problems in creating new products or services could adversely affect our revenue.

We face risks associated with rapid technological change and new competing products.

The technology associated with law enforcement devices is receiving significant attention and is rapidly evolving. While we have patent protection in key areas of our CEW, video and SaaS technology, it is possible that new technology may result in competing products that operate outside our patents and could present significant competition for our products which could adversely affect our revenue.

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Defects in our products could reduce demand for our products and result in a loss of sales, delay in market acceptance and damage to our reputation.

Complex components and assemblies used in our products may contain undetected defects that are subsequently discovered at any point in the life of the product. Defects in our products may result in a loss of sales, delay in market acceptance and damage to our reputation and increased warranty costs, which could have a material adverse effect on profitability and financial condition.

If our security measures are breached and unauthorized access is obtained to customers’ data or our data, our service may be perceived as not being secure, customers may curtail or stop using our service and we may incur significant legal and financial exposure and liabilities.

Our service involves the storage and transmission of customers’ proprietary information, and security breaches could expose us to a risk of loss of this information, litigation and possible liability. We devote significant resources to engineer secure products and ensure security vulnerabilities are mitigated. Despite these efforts, security measures may be breached as a result of third-party action, employee error, and malfeasance or otherwise. Breaches could occur during transfer of data to data centers or at any time, and result in unauthorized access to our data or our customers’ data. Third parties may attempt to fraudulently induce employees or customers into disclosing sensitive information such as user names, passwords or other information in order to gain access to our data or our customers’ data. Additionally, hackers may develop and deploy viruses, worms, and other malicious software programs that attack or gain access to our networks and data centers. Because the techniques used to obtain unauthorized access, or to sabotage systems, change frequently and generally are not recognized until launched against a target, we may be unable to anticipate these techniques or to implement adequate preventative measures. Any security breach could result in a loss of confidence in the security of our service, damage our reputation, lead to legal liability and negatively impact our future sales.

Interruptions or delays in service from our third-party cloud storage providers for our EVIDENCE.com service, or the loss or corruption of digitally stored evidence, would impair the delivery of our service and harm our business.

We currently serve our EVIDENCE.com customers from third-party cloud storage providers based in the U.S. and other countries. Interruptions in our service, or loss or corruption of digital evidence, may reduce our revenue, cause us to issue credits or pay penalties, cause customers to terminate their subscriptions and adversely affect our renewal rates and our ability to attract new customers. Our business will also be harmed if our customers and potential customers believe our service is unreliable.

Most of our end-user customers are subject to budgetary and political constraints that may delay or prevent sales.

Most of our end-user customers are government agencies. These agencies often do not set their own budgets and therefore, have limited control over the amount of money they can spend. In addition, these agencies experience political pressure that may dictate the manner in which they spend money. As a result, even if an agency wants to acquire our products, it may be unable to purchase them due to budgetary or political constraints, particularly in challenging economic environments. Currently, many governmental agencies are continuing to experience severe budgetary constraints. There can be no assurance that the economic and budgeting issues will not worsen and adversely impact sales of our products. Some government agency orders may also be canceled or substantially delayed due to budgetary, political or other scheduling delays which frequently occur in connection with the acquisition of products by such agencies and such cancellations may accelerate or be more severe than we have experienced historically as a result of the current economic environment.

Due to municipal government funding rules, certain of our contracts are subject to appropriation (or similar) clauses, which could allow our customers to cancel contracts in the future.

Although TASER has entered into contracts for the delivery of products and services in the future and anticipates the contracts will be completed, if agencies do not appropriate money in future year budgets, or if other cancellation clauses are invoked, revenue associated with these bookings will not ultimately be recognized, and result in a reduction to bookings.

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We expend significant resources in anticipation of a sale due to our lengthy sales cycle and may receive no revenue in return.

Generally, law enforcement and corrections agencies consider a wide range of issues before committing to purchase our products, including product benefits, training costs, the cost to use our products in addition to, or in place of, other products, budget constraints and product reliability, safety and efficacy. The length of our sales cycle may range from a few weeks to as long as several years. Adverse publicity surrounding our products or the safety of such products has in the past, and could in the future, lengthen our sales cycle with customers. In the past, we believe that the Company’s sales were adversely impacted by negative publicity surrounding our products or the use of our products. We may incur substantial selling costs and expend significant effort in connection with the evaluation of our products by potential customers before they place an order. If these potential customers do not purchase our products, we will have expended significant resources and received no revenue in return.

SaaS revenue for EVIDENCE.com is recognized over the terms of the contracts, which may be several years, and, as such, trends in new business may not be immediately reflected in our operating results.

Our SaaS product revenue is generally recognized ratably over the terms of the contracts, which generally range from one to five years. As a result, most of the SaaS revenue we report each quarter is the result of agreements entered into during previous quarters. Consequently, current positive or negative trends in this portion of our business may not be reflected in our revenue results for several periods.

We may face personal injury, wrongful death and other liability claims that harm our reputation and adversely affect our sales and financial condition.

Our CEW products are often used in aggressive confrontations that may result in serious, permanent bodily injury or death to those involved. Our CEW products may be associated with these injuries. A person, or the family members of a person, injured in a confrontation or otherwise in connection with the use of our products may bring legal action against us to recover damages on the basis of theories including wrongful death, personal injury, negligent design, defective product or inadequate warning. We are currently subject to a number of such lawsuits and we have recently been subject to significant adverse judgments and settlements. We may also be subject to lawsuits involving allegations of misuse of our products. If successful, wrongful death, personal injury, misuse and other claims could have a material adverse effect on our operating results and financial condition and could result in negative publicity about our products. Although we carry product liability insurance, we do incur significant legal expenses within our self-insured retention in defending these lawsuits and significant litigation could also result in a diversion of management’s attention and resources, negative publicity and a potential award of monetary damages in excess of our insurance coverage. The outcome of any litigation is inherently uncertain and there can be no assurance that our existing or any future litigation will not have a material adverse effect on our revenues, our financial condition or financial results.

Other litigation may subject us to significant litigation costs and judgments and divert management attention from our business.

We have been or could be in the future involved in numerous other litigation matters relating to our products, including litigation against persons who we believe have infringed on our intellectual property, litigation against a competitor and litigation with a former distributor. Such matters have resulted, and are expected to continue to result in, substantial costs to us and some diversion of our management’s attention, which could adversely affect our business, financial condition or operating results. There is also a risk of adverse judgments, as the outcome of litigation is inherently uncertain.

If we are unable to protect our intellectual property, we may lose our competitive advantage or incur substantial litigation costs to protect our rights. We may be subject to intellectual property infringement claims, which could cause us to incur litigation costs and divert management attention from our business.

Our future success depends upon our proprietary technology. Our protective measures, including patents, trademarks, copyrights, trade secret protection, and internet identity registrations, may prove inadequate to protect our proprietary rights and market advantage. The right to stop others from misusing our trademarks and service marks in commerce depends, to some extent, on our ability to show evidence of enforcement of our rights against such misuse in commerce. Our efforts to stop improper use, if insufficient, may lead to loss of trademark and service mark rights, brand loyalty and notoriety among our customers and prospective customers. The scope of any patent to which we have or may obtain rights to may not prevent others from developing and selling competing products. The validity and breadth of claims covered in technology patents involve complex legal and factual questions, and the resolution of such claims may be highly uncertain, lengthy and expensive. In addition, our patents may be held invalid upon challenge, or others may claim rights in or ownership of our patents. Moreover, we are subject to litigation with parties that claim, among other matters, that we infringed their patents or other intellectual property rights. The defense and prosecution of patent and other intellectual property claims are both costly and time consuming and could result in a material adverse effect on our business and financial position.

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Also, any intellectual property infringement claims against us, with or without merit, could be costly and time-consuming to defend and divert our management’s attention from our business. If our products were found to infringe a third party’s proprietary rights, we could be forced to enter into costly royalty or licensing agreements in order to be able to sell our products or discontinue use of the protected technology. Such royalty and licensing agreements may not be available on terms acceptable to us or at all. There is no guarantee that our use of conventional technology searching and brand clearance searching will identify all potential rights holders. Rights holders may demand payment for past infringements and/or force us to accept costly license terms or discontinue use of protected technology and/or works of authorship that may include, for example, photos, videos, and software. Our current research and development focus on developing software-based products increases this risk.

If we face competition in foreign countries, we can enforce patent rights only in the jurisdictions in which our patent applications have been granted.

Our U.S. patents protect us from imported infringing products coming into the U.S. from abroad. Applications for patents in a few foreign countries have been made; however, these may be inadequate to protect markets for our products in other foreign countries. Each foreign patent is examined and granted according to the law of the country where it was filed independent of whether a U.S. patent on similar technology was granted. A patent in a foreign country may be subject to cancellation if the claimed invention has not been sold in that country. Meeting the requirements of working the invention differs by country and ranges from sales in the country to manufacturing in the country. U.S. export law, or the laws of some foreign countries, may prohibit us from satisfying the requirements for working the invention, creating a risk that some of our foreign patents may become unenforceable.

Government regulations applied to our CEW products may affect our markets for and sales of these products.

We rely on the opinions of the Bureau of Alcohol, Tobacco and Firearms, including the determination that a device that has projectiles propelled by the release of compressed gas in place of the expanding gases from ignited gunpowder, are not classified as firearms. Changes in statutes, regulations, and interpretation outside of our control may result in our products being classified or reclassified as firearms. Our private citizen market could be substantially reduced if consumers are required to obtain a registration to own a firearm prior to purchasing our products.

Federal regulation of sales in the U.S.: With the exceptions of the TASER XREP, our CEWs are not firearms regulated by the U.S. Bureau of Alcohol, Tobacco, Firearms and Explosives, but our consumer products are regulated by the U.S. Consumer Product Safety Commission. Although there are currently no Federal laws restricting sales of our core CEW products in the U.S., future Federal regulation could adversely affect sales of our products.

Federal regulation of international sales: Our CEW devices are considered a “crime control” product by the U.S. Department of Commerce (“DOC”) for export directly from the U.S. Consequently, we must obtain an export license from the DOC for the export of our CEW devices from the U.S. other than to Canada. In addition, certain of our camera and software products require classifications from the DOC before they may be shipped internationally. Our inability to obtain DOC export licenses or classifications on a timely basis for sales of our products to our international customers could significantly and adversely affect our international sales.

State and local regulation: Our devices are controlled, restricted or their use prohibited by a number of state and local governments. Our devices are banned from private citizen sale or use by statute in six states: District of Columbia, Hawaii, Massachusetts, New Jersey, New York, and Rhode Island. Some cities and municipalities also prohibit private citizen possession or use of our products. Other jurisdictions may ban or restrict the sale of our products and our product sales may be significantly affected by additional state, county and city governmental regulation.

Foreign regulation: Certain foreign jurisdictions prohibit the importation, sale, possession or use of CEWs, limiting our international sales opportunities.

We face unique regulatory and political challenges presented by international markets.

Our international business, including any expansion in new international markets, may be adversely affected by local laws and customs and U.S. laws applicable to foreign operations, including the Foreign Corrupt Practices Act.

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Risks inherent in international operations also include, among others:

Environmental laws and regulations subject us to a number of risks and could result in significant liabilities and costs.

We are subject to various state, federal and international laws and regulations governing the environment, including restricting the presence of certain substances in our products and making producers for those products financially responsible for the collection, treatment, recycling and disposal. Environmental legislation within the European Union (“EU”) may increase our cost of doing business internationally and impact our revenues from EU countries as we comply with and implement these requirements.

The EU has published Directives on the restriction of certain hazardous substances in electronic and electrical equipment (the “RoHS Directive”) and on electronic and electrical waste management (the “WEEE Directive”). The RoHS Directive restricts the use of a number of substances, including lead. The WEEE Directive directs members of the EU to enact laws, regulations, and administrative provisions to ensure that producers of electric and electronic equipment are financially responsible for the collection, recycling, treatment and environmentally responsible disposal of certain products sold into the EU. In addition, similar environmental legislation has been or may be enacted in other jurisdictions, including the U.S. (under federal and state laws) and other countries, the cumulative impact of which could be significant.

We continue to monitor the impact of specific registration and compliance activities required by the RoHS and WEEE Directives. We endeavor to comply with applicable environmental laws, yet compliance with such laws could increase our operations and product costs, increase the complexities of product design, procurement, and manufacturing, limit our ability to manage excess and obsolete non-compliant inventory, limit our sales activities, and impact our future financial results. Any violation of these laws can subject us to significant liability, including fines, penalties, and prohibiting sales of our products into one or more states or countries, and result in a material adverse effect on our financial condition.

New regulations related to conflict minerals may force us to incur additional expenses, may make our supply chain more complex and may result in damage to our reputation with customers.

In August 2012, the SEC adopted new requirements for companies that use certain minerals and metals, known as “conflict minerals,” in their products, whether or not these products are manufactured by third parties. These requirements will require companies to perform due diligence, disclose and report whether or not such minerals originate from the Democratic Republic of Congo and adjoining countries. We will incur additional costs to comply with the disclosure requirements, including costs related to determining the source of any of the relevant minerals and metals used in our products. In addition, these new requirements could adversely affect the sourcing, availability and pricing of minerals used in our products. Because our supply chain is complex, we may not be able to sufficiently verify the origins for these minerals and metals used in our products through the due diligence procedures that we implement, which may harm our reputation. In such an event, we may also face difficulties in satisfying customers who require that all of the components of our products are certified as conflict-free.

Our dependence on third-party suppliers for key components of our devices could delay shipment of our products and reduce our sales.

We depend on certain domestic and foreign suppliers for the delivery of components used in the assembly of our products. Our reliance on third-party suppliers creates risks related to our potential inability to obtain an adequate supply of components or sub-assemblies and reduced control over pricing and timing of delivery of components and sub-assemblies. Specifically, we depend on suppliers of sub-assemblies, machined parts, injection molded plastic parts, printed circuit boards, custom wire fabrications and other miscellaneous customer parts for our products. We do not have long-term agreements with any of our suppliers and there is no guarantee that supply will not be interrupted. Due to changes imposed for imports of foreign products into the U.S., as well as potential port closures and delays created by terrorist attacks or threats, public health issues or national disasters, we are exposed to risk of delays caused by freight carriers or customs clearance issues for our imported parts. Any interruption of supply for any material components of our products could significantly delay the shipment of our products and have a material adverse effect on our revenues, profitability and financial condition.

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Component shortages could result in our inability to produce at a volume to adequately meet customer demand, which could result in a loss of sales, delay in deliveries and injury to our reputation.

Single or sole-source components used in the manufacture of our products may become unavailable or discontinued. Delays caused by industry allocations or obsolescence may take weeks or months to resolve. In some cases, parts obsolescence may require a product re-design to ensure quality replacement components. These delays could cause significant delays in manufacturing and loss of sales, leading to adverse effects significantly impacting our financial condition or results of operations.

We may experience a decline in gross margins due to rising raw material and transportation costs associated with a future increase in petroleum prices.

A significant number of our raw materials are comprised of petroleum-based products, or incur some form of landed cost associated with transporting the raw materials or components to our facility. A significant rise in oil prices could adversely impact our ability to sustain current gross margins by increasing component pricing.

To the extent demand for our products increases, our future success will be dependent upon our ability to manage our growth and to increase manufacturing production capacity, which may be accomplished by the implementation of customized manufacturing automation equipment.

To the extent demand for our products increases significantly in future periods, one of our key challenges will be to increase our production capacity to meet sales demand while maintaining product quality. Our primary strategies to accomplish this include introducing additional shifts, increasing the physical size of our assembly facilities, the hiring of additional production staff, and the implementation of additional customized automation equipment. The investments we make in this equipment may not yield the anticipated labor and material efficiencies. Our inability to meet any future increase in sales demand or effectively manage our expansion could have a material adverse effect on our revenues, financial results and financial condition.

Our future success is dependent on our ability to expand sales through distributors and direct sales and our inability to recruit new distributors or increase direct sales would negatively affect our sales.

Our distribution strategy is to pursue sales through multiple channels with an emphasis on independent distributors and direct sales. Our inability to establish relationships with and retain law enforcement equipment distributors, who we believe can successfully sell our products, would adversely affect our sales. In addition, our arrangements with our distributors are generally short-term. We are also focusing on direct sales to larger agencies through our regional sales managers and our inability to grow sales to these agencies in this manner could adversely affect our sales. If we do not competitively price our products, meet the requirements of our distributors or end-users, provide adequate marketing support, or comply with the terms of our distribution arrangements, our distributors may fail to aggressively market our products or may terminate their relationships with us. These developments would likely have a material adverse effect on our sales. Our reliance on the sales of our products by others also makes it more difficult to predict our revenues, cash flow and operating results.

The increased focus on direct sales compared to sales through distribution is dependent on our ability to sell into the states that have established distributor relationships.

In certain states we have decided to pursue sales directly with law enforcement customers, rather than working through established distribution channels. Our customers may have strong working relationships with distributors and we may face resistance to this change. If we do not overcome this resistance and effectively build a direct relationship with our customers, sales may be adversely affected.

Acquisitions and joint ventures may have an adverse effect on our business.

We may consider additional acquisitions or joint ventures as part of our long-term business strategy. These transactions involve significant challenges and risks including that the transaction does not advance our business strategy, that we don’t realize a satisfactory return on our investment, or that we experience difficulty in the integration or coordination of new employees, business systems, and technology, or there is a diversion of management’s attention from our other businesses. These events could harm our operating results or financial condition.

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Catastrophic events may disrupt our business.

A disruption or failure of our systems or operations in the event of a major earthquake, weather event, cyber-attack, terrorist attack, or other catastrophic event could cause delays in completing sales, providing services, or performing other mission-critical functions. A catastrophic event that results in the destruction or disruption of any of our critical business or information technology systems could harm our ability to conduct normal business operations and our operating results.

Our revenues and operating results may fluctuate unexpectedly from quarter-to-quarter, which may cause our stock price to decline.

Our revenues and operating results have varied significantly in the past and may vary significantly in the future due to various factors, including, but not limited to:

As a result of these and other factors, we believe that period-to-period comparisons of our operating results may not be meaningful in the short term, and our performance in a particular period may not be indicative of our performance in any future period.

The Company’s financial performance is subject to risks associated with changes in the value of the U.S. dollar versus local currencies.

For current and potential foreign customers whose contracts are denominated in U.S. dollars, the relative change in currency values creates fluctuations in our product pricing. These changes in foreign end-user costs may result in lost orders and reduce the competitiveness of our products in certain foreign markets.

For non U.S. dollar denominated sales, weakening of foreign currencies relative to the U.S. dollar generally leads the Company to raise international pricing, potentially reducing demand for the Company’s products. Should the Company decide not to raise local prices to fully offset the dollar’s strengthening, or at all, the U.S. dollar value of the Company’s foreign currency denominated sales and earnings would be adversely affected. The Company does not currently engage in hedging activities. Fluctuations in foreign currency could result in a change in the U.S. dollar value of our foreign denominated assets and liabilities including accounts receivable. Therefore, the U.S. dollar equivalent collected on a given sales could be less than the amount invoiced causing the sales to be less profitable than contemplated.

We also import selected components which are used in the manufacturing of some of our products. Although our purchase orders are generally in U.S. dollars, weakness in the U.S. dollar could lead to price increases for the components.

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We maintain all of our cash balances, some of which are not insured, at three depository institutions.

We maintain the majority of our cash accounts at three depository institutions. As of December 31, 2013, our aggregate balances in such accounts were $42.3 million. The Company’s balances with these institutions regularly exceed Federal Deposit Insurance Corporation (“FDIC”) insured limits.

We could suffer losses with respect to the uninsured balances if the depositary institutions failed and the institution’s assets were insufficient to cover its deposits and/or the Federal government did not take actions to support deposits in excess of existing FDIC insurance limits. Any such losses could have a material adverse effect on our liquidity, financial condition and results of operations.

We depend on our ability to attract and retain our key management and technical personnel.

Our success depends upon the continued service of our key management personnel. Our success also depends on our ability to continue to attract, retain and motivate qualified technical personnel. Although we have employment agreements with certain of our officers, the employment of such persons is “at-will” and either we or the employee can terminate the employment relationship at any time, subject to the applicable terms of the employment agreements. The competition for our key employees is intense. The loss of the service of one or more of our key personnel could harm our business.

None.

Our corporate headquarters and manufacturing facilities are based in a 100,000 square foot facility in Scottsdale, Arizona, which we own. We also lease premises in Bellevue, Washington; Santa Barbara, California; Topsfield, Massachusetts; Rio de Janeiro, Brazil; and Frankfurt, Germany. We believe our existing facilities are well maintained and in good operating condition. We also believe we have adequate manufacturing capacity for our existing product lines for the foreseeable future. To the extent that we introduce new products in the future, we will likely need to acquire additional facilities to locate the associated production lines. However, we believe we can acquire or lease such facilities on reasonable terms. The Company continues to make investments in capital equipment as needed to meet anticipated demand for its products.

See discussion of litigation in Note 9(c) to the consolidated financial statements included in Part II, Item 8 of this Annual Report on Form 10-K, which discussion is incorporated by reference herein.

None.

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PART II

Market Information

Our common stock is quoted under the symbol “TASR” on The NASDAQ Global Select Market. The following table sets forth the high and low sales prices per share for our common stock as reported by NASDAQ for each quarter of the last two fiscal years.

Holders

As of December 31, 2013, there were 318 holders of record of our common stock.

Dividends

To date, we have not declared or paid cash dividends on our common stock. We do not intend to pay cash dividends in the foreseeable future and our revolving line of credit prohibits the payment of cash dividends.

Issuer Purchases of Equity Securities

On February 25, 2013, the Company’s board of directors authorized a stock repurchase program to acquire up to $25.0 million of the Company’s outstanding stock subject to stock market conditions and corporate considerations. During the six months ended June 30, 2013, we purchased 3,048,966 common shares under this program for a total cost of $25.0 million, or a weighted average cost of $8.20 per share. The buyback was completed as of June 30, 2013. There were no repurchases of our stock by us or on our behalf during the three months ended September 30, 2013 or December 31, 2013.

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Stock Performance Graph

The following stock performance graph compares the performance of our common stock to the NASDAQ Stock Market (U.S.) and the Russell 3000 Index. The graph covers the period from December 31, 2008 to December 31, 2013. The graph assumes that the value of the investment in our stock and in each index was $100 at December 31, 2008, and that all dividends were reinvested. We do not pay dividends on our common stock.

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The following selected financial data should be read in conjunction with our consolidated financial statements and the notes thereto, and with Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” The statement of operations data for the years ended December 31, 2013, 2012 and 2011, and the balance sheet data as of December 31, 2013 and 2012, have been derived from, and should be read in conjunction with, our audited consolidated financial statements and the notes thereto included herein. The statement of operations data for the years ended December 31, 2010 and 2009, and the balance sheet data as of December 31, 2011, 2010 and 2009, is derived from our audited consolidated financial statements and the notes thereto which are not included in this Annual Report on Form 10-K. Dollars are in thousands, except per share amounts.

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Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is designed to provide a reader of our consolidated financial statements with a narrative from the perspective of our management on our financial condition, results of operations, liquidity and certain other factors that may affect our future results. Our MD&A should be read in conjunction with the other sections of this annual report on Form 10-K, including Part I, Item 1A: “Risk Factors” Part II, Item 6: “Selected Financial Data” and Part II, Item 8: “Financial Statements and Supplementary Data.” The various sections of this MD&A contain a number of forward-looking statements, all of which are based on our current expectations and could be affected by the uncertainties and risk factors described throughout this filing. The tables in the MD&A sections below are derived from exact numbers and may have immaterial rounding differences.

Executive Overview and Key Strategic Initiatives

Our core mission is to protect life and to protect truth through technologies that make communities safer. We are a market leader in the development and manufacture of advanced conducted electrical weapons (“CEWs”) designed for use in law enforcement, federal, military, corrections, private security and personal defense. More recently, to address challenges faced by law enforcement officers post-incident, we have developed a fully integrated hardware and software solution to provide our law enforcement customers the capabilities to capture, store, manage, share and analyze video and other digital evidence.

Technological innovation is the foundation for our long-term growth and we intend to maintain our commitment to the research and development of our technology for both new and existing products that further our mission. At the same time we have established industry leading training services to provide our users a comprehensive overview of legal, policy, medical and risk mitigation issues relating to our CEWs and the use of force. We have built a network of distribution channels for selling and marketing our products and services to law enforcement agencies, primarily in North America, with ongoing focus and effort placed on expanding these programs in international, military and other markets. Over 17,000 law enforcement agencies in nearly 150 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 CEW products.

Our key strategic initiatives include:

We believe that the video evidence capture and management market will grow significantly in the near future due to several factors, including increasing recognition of the benefits of video evidence. In 2014 we expect to devote significant resources, some of which we expect to meet the criteria for software capitalization, towards both the development of the next revenue generating product for our EVIDENCE.com & Video segment, and additional functionality for our existing SaaS. To that end, we acquired Familiar, Inc. in the fourth quarter of 2013. Familiar’s employees include application developers experienced in cloud applications and mobile technology.

Internationally, there is a very significant portion of the market where officers do not carry CEWs or on-officer video devices. We believe there is substantial opportunity for more widespread adoption of CEWs in foreign countries. In recent years, we have seen international markets become increasingly attractive and we seek to maintain that trend as we demonstrate the benefits of large-scale adoptions of our CEWs, using countries such as the United Kingdom and Australia as benchmarks of successful programs. We have also decided to make focused investments in France and Brazil as we see considerable opportunity for increased sales in those regions. Because the sales cycle to sell into a new international market can be as long as 18 to 24 months, it is important that we continue to develop our pipeline in terms of both the number and size of opportunities.

In the U.S., our focus is on driving deeper penetration into law enforcement agencies that do not have a CEW or on-officer camera on every officer.

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Included in our strategy to demonstrate the benefits of EVIDENCE.com, we have optional test and evaluation periods of the product on-site with customers. We experienced increasing volumes of trial programs in 2013 and believe these trial programs are the best way for our customers to see the powerful capabilities, benefits and compelling value proposition of our technology. We anticipate further increases in these trial programs in 2014, ultimately leading to increased sales. As market acceptance grows, we anticipate fewer and/or shorter trial programs will be necessary to capture sales.

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Results of Operations

The following table presents data from our statements of operations as well as the percentage relationship to total net revenues of items included in our statements of operations (dollars in thousands):

Net sales to the U.S. and other countries are summarized as follows:

The Company’s operations are comprised of two reportable segments: the sale of CEWs, accessories and other products and services (the “TASER Weapons” segment); and the video business, which includes the TASER Cam, AXON Video products and EVIDENCE.com (the “EVIDENCE.com & Video” segment). The Company includes only revenues and costs directly attributable to the EVIDENCE.com & Video segment in that segment. Included in EVIDENCE.com & Video segment costs are: costs of sales for both products and services, selling expense for the video sales team, video product management expenses, video trade shows and related expenses, and research and development for products included in the EVIDENCE.com & Video segment. All other costs are included in the TASER Weapons segment. We do not allocate assets by segment as part of our financial information presented.

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Net Sales

Net sales by product line were as follows for the years ended December 31, 2013 and 2012 (dollars in thousands):

Net unit sales for the TASER Weapons handles and other products and EVIDENCE.com & Video segment products are as follows:

Net sales were $137.8 million and $114.8 million for the years ended December 31, 2013 and 2012, respectively, an increase of $23.1 million or 20.1%. Net sales for the TASER Weapons segment were $127.5 million and $109.1 million for the years ended December 31, 2013 and 2012, respectively, an increase of $18.4 million or 16.9%. Net sales for the EVIDENCE.com & Video segment were $10.4 million and $5.7 million for the years ended December 31, 2013 and 2012, respectively, an increase of $4.7 million or 81.8%.

The increase in net sales for 2013 compared to 2012 in the TASER Weapons segment was primarily driven by the introduction of the TASER X26P smart weapon. Growing demand is seen in the TASER Weapons segment as customers are upgrading their legacy CEWs to the new TASER X2 and X26P smart weapons. In the EVIDENCE.com & Video segment, the increase in net sales was driven by the continued adoption of the AXON on-officer cameras and EVIDENCE.com application in the law enforcement markets. International customers continued to be a steady contributor to the results with $22.2 million in 2013 versus $21.3 million in 2012. International sales grew slightly in 2013, although decreasing as a percentage of total revenue. We continue to invest in sales processes, people and activities abroad to further grow the international contribution to the top line in the future.

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To gain more immediate feedback regarding activity for AXON flex, AXON body and EVIDENCE.com, we also review bookings for these products. We consider bookings to be a statistical measure defined as the sales price of orders (not invoiced sales) placed in the relevant fiscal period, regardless of when the products or services ultimately will be provided. Some bookings will be invoiced in subsequent years. Due to municipal government funding rules, certain of the future year amounts included in bookings are subject to budget appropriation or other contract cancellation clauses. Although TASER has entered into contracts for the delivery of products and services in the future and anticipates the contracts will be completed, if agencies do not appropriate money in future year budgets or enact a cancellation clause, revenue associated with these bookings will not ultimately be recognized, resulting in a future reduction to bookings. Bookings related to EVIDENCE.com and the AXON product line increased to $14.5 million during 2013, compared to $3.8 million in 2012.

Net sales by product line were as follows for the years ended December 31, 2012 and 2011 (dollars in thousands):

Net unit sales for the TASER Weapons handles and other products and EVIDENCE.com & Video segment products are as follows:

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Net sales were $114.8 million and $90.0 million for the years ended December 31, 2012 and 2011, respectively, an increase of $24.7 million or 27.5%. Net sales for the TASER Weapons segment were $109.1 million and $86.7 million for the years ended December 31, 2012 and 2011, respectively, an increase of $22.4 million or 25.8%. Net sales for the EVIDENCE.com & Video segment were $5.7 million and $3.4 million for the years ended December 31, 2012 and 2011, respectively, an increase of $2.3 million or 69.9%.

The increase in net sales for 2012 compared to 2011 in the TASER Weapons segment was primarily driven by growing demand as well as the continuing cycle of agencies upgrading to the TASER X2 from legacy versions of our CEWs. In the EVIDENCE.com & Video segment, the increase in net sales was driven by the continued adoption of the AXON flex on-officer recording system and EVIDENCE.com SaaS in the law enforcement markets. The Company also adopted new selling processes in 2012 to reach a broader law enforcement agency market than in the past through the introduction of a municipal leasing program, the TASER Protection Plan, as well as a dedicated telesales team. In our first full year sales cycle of the AXON flex camera system in 2012, we closed the year with approximately $3.8 million in bookings, about 44.1% of which occurred in the fourth quarter of 2012.

Cost of Products Sold and Services Delivered

(dollars in thousands)

Cost of products sold and services delivered, was $52.0 million and $47.0 million for the years ended December 31, 2013 and 2012, respectively, an increase of $5.0 million or 10.5%. As a percentage of net sales, cost of products sold and services delivered decreased to 37.7% in 2013 from 41.0% in 2012. Within the TASER Weapons segment, cost of products sold increased $4.7 million, or 11.9%, to $44.0 million in 2013, compared to $39.4 million in 2012, but decreased as a percent of sales to 34.5% from 36.1%. The net decrease in cost of products sold as a percent of sales primarily reflects increased leverage due to higher sales and a higher average selling price.

Within the EVIDENCE.com & Video segment, cost of products sold and services delivered were $8.0 million, an increase of $0.3 million, or 3.6% from 2012. Increased product costs related to the EVIDENCE.com & Video segment related to growing sales in this segment were partially offset by decreased service costs, resulting in a slight overall increase for 2013 as compared to the prior year. The decrease in service costs is comprised of cost savings due to efficiencies gained by moving to a third party cloud storage from our data center, as well as the full depreciation of the capitalized EVIDENCE.com software development costs as of June 30, 2013. The decrease in overall cost of products sold and services delivered as a percentage of sales was driven by higher sales and by improvements to our EVIDENCE.com SaaS segment margins. There are a number of fixed costs for the EVIDENCE.com & Video segment which, as we generate traction in the business, we expect to remain relatively stable and should allow for lower cost of services delivered as a percentage of service revenue. As a percentage of net sales, cost of products sold and services delivered decreased to 76.9% in 2013 from 134.9% in 2012.

Cost of products sold and services delivered, before excess inventory charges in 2011, was $47.0 million and $41.8 million for the years ended December 31, 2012 and 2011, respectively, an increase of $5.3 million or 12.7%. As a percentage of net sales, cost of products sold and services delivered decreased to 41.0% in 2012 from 46.4% in 2011.

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Within the TASER Weapons segment, cost of products sold increased $5.1 million in 2012 from 2011, but decreased as a percent of sales to 36.1% from 39.5%, respectively. The net decrease in cost of products sold and services delivered as a percent of sales was driven by several factors in 2012 including: (i) a more favorable product sales mix with a further increased contribution by the X2 CEW, replacing lower contribution margin CEWs such as the X26, M26 and XREP.; (ii) improved leverage on fixed manufacturing costs resulting from a 25.8% overall increase in sales in the TASER Weapons segment; and (iii) increased average selling price, without a corresponding increase in cost of products sold, in those states where the Company began selling direct. These efficiencies were partially offset by the continuation of the upgrade program for the TASER X2 CEW. This provided customers purchasing the TASER X2 with a $160 to $300 trade-in credit, depending on the quarter purchased, to replace any existing CEW. This offer generated $3.5 million of trade-in credits during the year ended December 31, 2012, compared to $2.1 million of trade-in credits in the second, third and fourth quarters of 2011. Also, 2011 had a $3.7 million charge for excess inventory which did not reoccur in 2012.

In the EVIDENCE.com & Video segment, cost of products sold and delivered increased $0.2 million from $7.5 million to $7.7 million and as a percent of sales decreased to 134.9% for the year ended December 31, 2012, as compared to 224.9% in the prior year. Within this segment, the cost of products sold decreased as a percentage of sales in 2012 from 2011 due to the increased leverage on fixed manufacturing costs resulting from the 69.9% overall increase in sales as noted above. In 2012, the cost of services delivered was $3.9 million compared to $4.8 million in 2011, a reduction of $0.9 million or 19.2%. This decrease is due to the Company’s decision in 2012 to discontinue operations of its data center in favor of moving the data storage piece of the video business to a third party provider. This change reduced total operating and software maintenance costs included in cost of services delivered.

Excess Inventory Charges

Excess inventory charges specific to two of our product lines were $3.7 million for 2011. The success of the new TASER X2 in 2011 led the Company to conclude that it would not sell through its then current level of TASER X3 inventory, even though the Company would continue to sell and support the TASER X3 product line as part of its TASER Weapons Segment. These factors resulted in an excess inventory charge of $1.7 million. Similarly, with the launch of the Company’s new AXON flex system for our EVIDENCE.com & Video segment in 2011, the Company concluded it would not sell through existing first generation AXON inventory. These factors resulted in an excess inventory charge of $2.0 million. There were no unusual excess inventory charges in 2013 or 2012.

Gross Margin

(dollars in thousands)

Gross margin increased $18.1 million to $85.8 million for 2013 compared to $67.7 million for 2012. As a percentage of net sales, gross margin increased to 62.3% for 2013 compared to 59.0% for 2012. The increase in gross margin as a percentage of net sales for 2013 is primarily attributable to the move of the EVIDENCE.com data center to a third party provider, the full depreciation of the capitalized EVIDENCE.com software development costs, increased sales of higher margin products and the operational efficiencies discussed previously. In the fourth quarter of 2013, we introduced a new pricing program reducing the price of the AXON flex camera and separately pricing the EVIDENCE.com service. In previous years, the cameras and the service were primarily sold together with one price for both. We believe lowering the price of the cameras and offering separately-priced EVIDENCE.com SaaS contracts at various levels of functionality, promotes pricing transparency to our customers. As a result, the gross margins in the EVIDENCE.com & Video segment is expected to be lower in the near-term as the service portion is deferred and recognized over the contract term. The AXON flex and the AXON body are currently being sold at low gross margins in an effort to continue to accelerate the Company’s traction in the market.

Gross margin increased $23.2 million to $67.7 million for 2012 compared to $44.5 million for 2011. The 2011 gross margin includes the excess inventory charge of $3.7 million specific to two of our previous product lines. Excluding the $3.7 million excess inventory charges, gross margin increased $19.4 million, or 40.3% in 2012 as compared to 2011. As a percentage of net sales, gross margin increased to 59.0% for 2012 compared to 49.5% for 2011. Excluding the excess inventory charges, gross margin as a percentage of sales for 2011 was 53.6%. The increase in gross margin as a percentage of net sales for 2012 is primarily attributable to the excess inventory charge in 2011 as well as the move of the EVIDENCE.com data center to a third party provider, increased sales of higher margin products and the operational efficiencies as discussed above.

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Sales, General and Administrative Expenses

Sales, general and administrative expenses were comprised as follows for 2013 and 2012 (dollars in thousands):

Of the increase in SG&A above, approximately $2.8 million results from increased expense associated with customer facing positions, including: salaries, benefits, bonus and stock-based compensation, as well as sales commissions, which are included in the sales and marketing line item in the table above. Positions were added throughout the year, with the following headcount as of the end of each year: