AXON ENTERPRISE, INC. annual report, FY2022

Axon Enterprise, Inc. — FY2022 Form 10-K Summary

Business context and reporting period

Axon provides public-safety technology through two reportable segments: Software and Sensors, including body-worn and in-car cameras, digital evidence management, productivity software and real-time operations; and TASER, including conducted energy devices, cartridges, accessories and related services. This filing covers the fiscal year ended December 31, 2022, with selected fourth-quarter information compared with the third quarter.

Annual recurring revenue was $473 million at December 31, 2022.
The company had 2,821 full-time and 913 temporary employees at year-end.
U.S. revenue represented 83% of total revenue; no customer represented more than 10% of annual sales.

Key financial metrics

Metric	FY2022	FY2021	Change
Net sales	$1,189.9 million	$863.4 million	37.8% increase
Product revenue	$801.4 million	$608.5 million	31.7% increase
Service revenue	$388.5 million	$254.9 million	52.5% increase
Gross margin	$728.6 million; 61.2%	$540.9 million; 62.7%	Margin down 150 bps
Income (loss) from operations	$93.3 million; 7.8%	$(168.1) million; (19.5%)	Returned to operating profit
Net income (loss)	$147.1 million; $2.03 diluted EPS	$(60.0) million; $(0.91) diluted EPS	Returned to profitability
Adjusted EBITDA	$232.3 million	$178.1 million	30.4% increase
Cash flow from operations	$235.4 million	$124.5 million	89.1% increase

Fourth-quarter revenue was $336.1 million, up 7.8% sequentially from the third quarter. Software and Sensors revenue increased 19.5% sequentially to $199.4 million, while TASER revenue declined 5.6% to $136.7 million, primarily because of hardware shipment timing.

Software and Sensors revenue increased 54.4% to $658.4 million, led by Axon Evidence and cloud services revenue of $371.9 million, up 51.2%.
TASER revenue increased 21.7% to $531.6 million, led by TASER 7 revenue growth of 65.5% and cartridge revenue growth of 18.9%.
Segment gross margins were 59.5% for Software and Sensors and 63.3% for TASER.
Backlog increased to $4.6 billion from $2.8 billion, including $3.8 billion in Software and Sensors and $824.4 million in TASER. Management expected to recognize approximately $957.5 million of this backlog during the next 12 months.

Cash flow, liquidity and debt

Cash and cash equivalents were $353.7 million at December 31, 2022. Cash, cash equivalents and investments totaled approximately $1.1 billion.
Operating cash flow was $235.4 million. Investing cash flow was $(831.0) million, including $692.2 million of net purchases of available-for-sale investments, $74.3 million of strategic investments and $55.5 million of capital expenditures and intangible purchases.
Financing cash flow was $598.1 million, primarily reflecting the convertible note issuance.
Axon issued $690.0 million of 0.50% convertible senior notes due December 2027. The carrying value was $674.0 million and the fair value was $687.3 million at year-end.
The company had no borrowings under its $200.0 million revolving credit facility and $193.0 million of availability after $7.0 million of letters of credit. The facility includes an accordion feature up to $300.0 million, subject to lender approval.
The reported net leverage ratio was 0.97 to 1.00, versus a maximum covenant of 3.50 to 1.00.
Total contractual obligations were $1.66 billion, including $915.1 million of purchase obligations and $690.0 million of convertible-note principal.

Material changes versus the prior comparable period

Revenue growth accelerated, with Software and Sensors becoming 55.3% of annual sales versus 49.4% in 2021.
Gross margin declined from 62.7% to 61.2% because of product mix, low- or no-margin professional services, higher raw-material costs and higher labor and freight costs.
Operating expenses declined 10.4%, primarily because stock-based compensation fell by $197.2 million overall, including lower expense from the CEO Performance Award and XSPP. R&D expense nevertheless increased 20.5% to $233.8 million.
Net income benefited materially from $131.9 million of net unrealized gains related to strategic investments and related warrants, partly offset by a $32.9 million unrealized loss on Cellebrite securities.
Inventory increased to $202.5 million from $108.7 million, while accounts receivable and contract assets increased by $73.2 million in aggregate, reflecting growth and the shift toward subscription arrangements.
Deferred revenue increased to $608.0 million from $451.3 million, and contract assets increased to $242.1 million from $210.2 million.
Supply constraints delayed approximately $35.0 million of TASER 7 orders and $15.5 million of Axon Body 3 orders scheduled to ship before year-end.

Guidance, outlook, risks and unusual items

Management stated that demand for TASER products and services remained healthy entering 2023 and expected strategic headcount additions to support new markets and newer products. The filing does not provide quantitative 2023 revenue or earnings guidance.
Management believes available cash, investments, operating cash flow and financing capacity will satisfy anticipated requirements for at least the next 12 months.
The company expects to complete remediation of its internal-control material weakness before the end of fiscal 2023. The weakness involved software and services revenue recognition, deferred revenue and invoicing controls following the ERP and quote-to-cash implementation.
The company recorded fourth-quarter out-of-period adjustments increasing revenue by $8.5 million and income-tax expense by $2.1 million; management deemed the error immaterial to prior periods and FY2022.
Grant Thornton issued an unqualified opinion on the financial statements but an adverse opinion on internal control over financial reporting because of the material weakness.
Supply-chain interruptions, single-source components, inflation, labor and freight costs, foreign exchange, municipal budget constraints and subscription-related collection timing remain material operating risks.
Government contracts may be canceled, terminated for convenience or not renewed because of appropriation requirements. The company’s remaining performance obligations are subject to delayed deployments, budget appropriations and cancellation clauses.
The FTC’s administrative litigation concerning Axon’s acquisition of Vievu remains stayed pending related constitutional proceedings. Potential remedies could include divestiture of Vievu and related assets, although management does not currently expect the matter to interfere with contractual obligations or solution deployments.
Axon was a defendant in four product-liability lawsuits involving alleged wrongful death or personal injury. The company self-insures the first $5.0 million of product claims made after 2014 and reported no individually or collectively material probable loss at year-end.
TASER 10 launched in January 2023 and is regulated as a firearm by the ATF, creating additional licensing, import, state and local compliance requirements.

Most important facts for investors to verify

Whether the material weakness in revenue recognition and quote-to-cash controls is remediated and whether future filings report effective internal control.
Underlying operating performance excluding the $131.9 million investment-related gain and the $32.9 million Cellebrite loss.
Conversion of the $4.6 billion backlog into invoiced revenue, cash collections and recognized revenue, including the impact of government cancellation and appropriation clauses.
Whether supply-chain constraints continue to defer TASER 7 and Axon Body shipments and pressure gross margins.
Cash conversion under the growing subscription model, particularly receivables, contract assets, deferred revenue and inventory requirements.
Potential dilution or cash requirements from the convertible notes and warrants, including approximately 3.0 million shares covered by each instrument.
Developments in the FTC proceeding, product-liability litigation and regulatory treatment of TASER 10.