Axon Enterprise, Inc. — Q2 2020 Form 10-Q Summary
Business Context and Reporting Period
Axon provides law-enforcement technology, including TASER conducted electrical devices, body cameras, sensors, cloud evidence management, software, applications, and related services. The filing covers the three and six months ended June 30, 2020, compared with the corresponding 2019 periods. The company reports two segments: TASER and Software and Sensors.
Key Financial Metrics
| Metric | Q2 2020 | Q2 2019 | Six Months 2020 | Six Months 2019 |
|---|---|---|---|---|
| Net sales | $141.3 million | $112.4 million | $288.4 million | $228.2 million |
| Revenue growth | 25.7% | — | 26.4% | — |
| Service revenue | $42.5 million | $32.0 million | $82.4 million | $59.7 million |
| Gross margin | 62.4% | 58.4% | 61.3% | 58.9% |
| Operating income (loss) | $(13.7) million | $(1.3) million | $(14.5) million | $1.4 million |
| Net income (loss) | $(30.8) million | $0.7 million | $(26.7) million | $7.2 million |
| Net income (loss) per diluted share | $(0.51) | $0.01 | $(0.44) | $0.12 |
| Adjusted EBITDA | $23.2 million | $10.3 million | $45.7 million | $23.9 million |
| Operating cash flow | Not separately provided for the quarter | Not separately provided for the quarter | $(7.0) million | $(2.6) million |
Q2 revenue growth was driven by Software and Sensors revenue of $70.8 million, up 36.6%, and TASER revenue of $70.5 million, up 16.4%. Axon Evidence and cloud services revenue increased 31.6% in Q2 and 36.3% for the first six months. The company stated that approximately $1.34 billion of remaining performance obligations existed at June 30, 2020; 20%–25% was expected to be recognized over the following 12 months, with most of the balance recognized over the subsequent five to seven years, subject to deployment, appropriation, and cancellation risks.
Gross margin improved primarily because of product mix, higher average selling prices, stronger software and service mix, and prior-year TASER 7 ramp-up costs. Q2 operating expenses increased 52.4% to $101.9 million, including SG&A of $72.3 million and R&D of $29.6 million. Stock-based compensation expense was $33.8 million in Q2 and $54.0 million for the first six months, compared with $8.6 million and $16.5 million, respectively, in the prior-year periods.
Liquidity, Capital Resources, and Debt
- Cash and cash equivalents were $319.3 million at June 30, 2020, compared with $172.3 million at December 31, 2019.
- Short- and long-term investments totaled approximately $367.6 million at June 30, 2020. Cash, cash equivalents, and investments totaled approximately $686.8 million, before considering a $10.4 million payable for unsettled investment purchases.
- Cash increased by $147.0 million during the first six months, primarily because of $306.8 million of net proceeds from a June equity offering.
- Operating cash flow was negative $7.0 million, mainly reflecting a $43.3 million increase in inventory and increases in receivables, contract assets, and prepaid assets.
- The company had no borrowings under its $50.0 million revolving credit facility. Letters of credit reduced availability to $43.9 million. The facility matures December 31, 2021 and permits an accordion increase to $100.0 million subject to conditions.
- Management stated that existing liquidity and other funding sources should satisfy anticipated cash requirements for at least the next 12 months.
Material Changes Versus the Prior Comparable Period
- Revenue increased $28.9 million in Q2 and $60.2 million for the first six months, with Software and Sensors becoming a larger portion of total revenue.
- Gross margin expanded 400 basis points in Q2 and 240 basis points for the first six months, while TASER segment six-month gross margin declined because of product mix and COVID-19-related costs.
- The company moved from modest profitability to a net loss, primarily because of substantially higher operating expenses, stock-based compensation, litigation costs, and income tax expense.
- SG&A increased 66.7% in Q2 and 56.9% for the first six months. The increase included higher stock-based compensation, approximately $3.8 million of incremental Q2 FTC litigation expense, and $1.7 million of charitable contributions for personal protective equipment.
- R&D increased 25.8% in Q2 and 19.4% for the first six months, primarily from Software and Sensors headcount, compensation, and next-generation product development.
- The company issued 3.45 million common shares at $92.00 per share in June 2020, generating $306.8 million of net proceeds.
- Inventory increased to $81.0 million from $38.8 million at year-end 2019 as the company built safety stock in response to demand and potential manufacturing disruption.
Guidance, Outlook, Commentary, Risks, and Unusual Items
- No consolidated full-year revenue or earnings guidance is provided in the filing. Management expected R&D expense to continue increasing as it invests in cloud-connected products, Axon Records, computer-aided dispatch software, and other offerings.
- Management expected Q3 2020 Software and Sensors hardware gross margin to be approximately 15% because of several large shipments of lower-margin body-camera hardware to major customers.
- COVID-19 increased expenses by approximately $2.5 million in Q2 and $3.7 million for the first six months. The company reported little to no interruption in producing and shipping core products but continued to monitor supply-chain, facility, employee, demand, and municipal-budget risks.
- The company expects 2020 FTC litigation expenses of approximately $15 million to $22 million. The FTC’s enforcement action concerning the 2018 Vievu acquisition could require divestiture or other remedial measures that may be material. No liability was recorded because the outcome could not be predicted.
- The company was defending eight product-liability lawsuits involving alleged wrongful death or personal injury, as well as a California-focused consumer class action. Management did not believe the matters were currently likely to have a material financial effect, but litigation outcomes remain uncertain.
- The six-month effective tax rate was negative 123.8%, including a $5.9 million discrete tax benefit related primarily to stock-based compensation windfalls. The company also recorded a $14.8 million tax expense despite a pretax loss.
- Performance-based awards produced substantial noncash expense. At June 30, 2020, 11 operational goals under the CEO Performance Award and XSPP were considered probable of achievement, although none of the related tranches had vested because the operational goals had not yet been achieved.
- Off-balance-sheet commitments included $6.1 million of letters of credit, $1.9 million of additional letters of credit and bank guarantees, and $24.0 million of surety bonds.
Most Important Facts for Investors to Verify
- Whether strong contracted revenue converts into recognized revenue and cash as expected, particularly given government appropriation and cancellation clauses.
- The sustainability of revenue growth and service mix, including Axon Evidence and other subscription offerings.
- The effect of large performance-based stock awards, ongoing dilution, and stock-based compensation on GAAP profitability and per-share results.
- Whether Software and Sensors hardware gross margin recovers after the anticipated Q3 shipment mix.
- The ultimate cost and outcome of the FTC Vievu litigation, including any required divestiture or other remedy.
- Whether COVID-19 causes further supply-chain disruption, municipal budget pressure, customer payment delays, or higher operating costs.
- Inventory growth, negative operating cash flow, and the long-term cash-flow implications of shifting toward subscription and installment-based sales.