Axon Enterprise, Inc. 2017 Form 10-K Summary
Business context and reporting period
Axon Enterprise, Inc. (formerly TASER International) filed its Form 10-K for the fiscal year ended December 31, 2017. The company operates in two segments: TASER Weapons, consisting primarily of conducted electrical weapons and related products, and Software and Sensors, consisting of body cameras, in-car cameras, cloud-based digital evidence management, mobile applications and related services.
Axon changed its corporate name from TASER International to Axon Enterprise in April 2017. Its strategy emphasizes connected devices, recurring software and service revenue, artificial intelligence, international expansion and subscription-based customer arrangements.
Key financial metrics
| Metric | 2017 | 2016 | Change |
|---|---|---|---|
| Net sales | $343.8 million | $268.2 million | Up 28.2% |
| Product sales | $285.9 million | $238.6 million | Up 19.8% |
| Service sales | $57.9 million | $29.7 million | Up 95.2% |
| Gross margin | $207.1 million; 60.2% | $170.5 million; 63.6% | Margin down 340 bps |
| Operating income | $13.0 million; 3.8% | $31.9 million; 11.9% | Down 59.1% |
| Net income | $5.2 million | $17.3 million | Down 69.9% |
| Diluted EPS | $0.10 | $0.32 | Down $0.22 |
| Operating cash flow | $18.5 million | $17.9 million | Up $0.6 million |
- TASER Weapons revenue was $234.5 million, up 15.7%. Software and Sensors revenue was $109.3 million, up 66.6%.
- Evidence.com revenue increased 97.7% to $57.8 million. Axon Fleet generated $3.0 million of revenue in its first shipping year.
- Gross margin pressure reflected the growing mix of lower-margin Software and Sensors revenue, hardware discounting and non-recurring costs related to migration to a new cloud-storage provider.
- SG&A increased 28.3% to $138.7 million, while research and development increased 80.9% to $55.4 million, including significant investment in Axon AI and new records-management and computer-aided-dis dispatch products.
- The effective tax rate was 66.9%, including a provisional $8.0 million tax expense associated principally with the Tax Cuts and Jobs Act.
- Cash and cash equivalents were $75.1 million, compared with $40.7 million at year-end 2016. Working capital was $97.2 million.
- Total assets were $338.1 million and stockholders’ equity was $167.4 million at year-end.
- Total long-term debt and capital leases, net of current portion, were $41,000. The company had no borrowings under its $10.0 million revolving credit facility and $7.3 million of availability after letters of credit.
Fourth-quarter information
The filing is an annual report rather than a quarterly filing, but it reports unaudited fourth-quarter results. Fourth-quarter revenue was $94.7 million, gross margin was $63.0 million, and net loss was $2.1 million, or $0.04 per basic and diluted share. Fourth-quarter revenue increased 4.9% sequentially from the third quarter, driven primarily by TASER Weapons revenue; Software and Sensors revenue declined 2.0% sequentially due to deployment timing.
Material changes versus the prior comparable period
- Service revenue rose to 16.9% of total sales from 11.1%, reflecting increased Evidence.com adoption and extended warranty revenue.
- Software and Sensors increased to 31.8% of sales from 24.5%, while TASER Weapons declined to 68.2% from 75.5%.
- TASER X2 revenue increased 54.6%, while X26P revenue declined 11.1%. Cartridge revenue increased 20.8%.
- Software and Sensors gross margin declined to 40.8% from 45.5%; hardware gross margin declined to 10.5% from 17.6% and service margin declined to 67.7% from 79.2%.
- Backlog increased to $582.7 million from $384.2 million. Software and Sensors backlog was $536.0 million, including $430.4 million of booked but not yet invoiced amounts. Management expected approximately $110.0 million of total backlog to convert to revenue during 2018.
- Operating cash flow remained modest relative to earnings and sales growth because receivables and inventory increased substantially. Deferred revenue increased $39.7 million and supported operating cash flow.
- The company acquired Dextro, Inc. and certain assets of Australian distributor Breon Enterprises during 2017, investing approximately $10.6 million in acquisitions.
Guidance, outlook, risks and unusual items
- Management expects continued investment in sales, general and administrative expense and research and development, with particular emphasis on Software and Sensors, artificial intelligence, international sales, Axon Fleet and Axon Records.
- Management expects Software and Sensors revenue growth to improve segment operating margins over time as recurring revenue scales, but does not expect material near-term changes in gross margin.
- The company expects increasing use of subscription and installment arrangements. These arrangements can delay cash collection, increase receivables and credit exposure, and require the company to fund hardware and service delivery before receiving all customer payments.
- Government customers may delay, cancel or fail to renew contracts because of appropriations, termination-for-convenience provisions, political considerations or budget constraints. A portion of backlog is therefore subject to cancellation or non-appropriation risk.
- The company relies on third-party cloud providers for Evidence.com. Security breaches, outages, data loss or corruption could result in customer losses, litigation, penalties and reputational damage.
- The company disclosed six active product-liability lawsuits involving alleged wrongful death or personal injury associated with TASER CEW use. Management stated that the matters were not reasonably expected to be individually or collectively material, but litigation outcomes remain uncertain.
- Axon prevailed in patent and trademark litigation against Phazzer, including a permanent injunction and damages award; Phazzer appealed. Digital Ally litigation and related patent proceedings remained active or subject to appeal.
- A $1.0 million impairment charge was recorded for abandoned developed technology acquired in a business combination.
- The company adopted the new inventory measurement guidance in 2017 without a material impact. It expected adoption of Topic 606 revenue recognition on January 1, 2018 to increase retained earnings by approximately $15 million to $25 million, subject to finalization.
- Management and the independent auditor identified a material weakness in internal control over financial reporting related to account reconciliations and monitoring controls at the U.K. subsidiary. The auditor issued an adverse opinion on internal control effectiveness, although it issued an unqualified opinion on the consolidated financial statements.
- The company does not pay dividends and does not intend to pay cash dividends in the foreseeable future. No shares were repurchased during 2017, although $16.3 million remained available under the repurchase authorization.
Most important facts for investors to verify
- Whether rapid Software and Sensors and Evidence.com growth converts into improved segment and consolidated operating margins.
- The quality, collectability and timing of the $582.7 million backlog, particularly amounts dependent on future appropriations, options or customer renewals.
- Changes in deferred revenue, accounts receivable, inventory and operating cash flow as subscription and installment sales expand.
- Progress in remediating the U.K. internal-control material weakness and whether additional control deficiencies or restatements arise.
- The final accounting impact of Topic 606 and any subsequent adjustments to the provisional Tax Act accounting.
- Exposure from product-liability, patent and other litigation, including insurance coverage, deductibles and potential damages.
- Cloud-service reliability, cybersecurity controls and data-protection compliance for Evidence.com.
- Whether the company can sustain TASER X2 and X26P demand while expanding new products, international operations and recurring software services.