I recently took a position in Axon. Here’s why.
Background
Market cap → ±$14bn
Net cash → ±$400m
P/S ±10x
P/GP ±17x
Axon is a founder-led business with a mission to make bullets obsolete, and with a public goal of cutting gun-related deaths between police and the public by 50% in 10 years. To that end they sell less lethal guns - Tasers - which shocks suspects and disables them rather than hits them with a bullet. They also sell various sensors - of which their body cams - another hardware business is the biggest. But I think what is less well appreciated is that all of these devices/sensors that they sell enables the third, and to me most exciting part of their business - cloud software, based on sensors - or IoT solutions.
CEO Rick Smith founded the company in a Tucson garage in 1993 after two of his friends were shot and killed, leading to the enduring goal of cutting gun deaths, which I’m sure is in the DNA of the company, and not just brochureware. His education is quite impressively broad and international: Neuroscience at Harvard, Finance at Leuven (that’s in Belgium, which is in Europe, for the Yanks 
) and an MBA at Chicago.
They have one of the better IR sites I’ve come across:
An investor presentation
For the visually inclined they do a quarterly video update
A quarterly shareholders letter
Transcripts of their quarterly ER’s: Q1 2023 ER transcript
And a handy quarterly overview of their key financial numbers
Axon splits their reporting into three parts: Taser, Axon cloud and Sensors & “other”.
The biggest part of their total revenue is Taser sales at 43% of TTM revenue, which is hardware and which has most recently come under a bit of pressure (more later).
The cloud part of their business is a typical SaaS model with recurring revenue, ARR and high margins, and is becoming an ever larger part of the total at 32% of TTM revenue.
And their sensors & other business is sales of their body cams, fleet cams etc and contributed 25% of TTM revenue. This is a hardware business, but importantly hardware which enables the Cloud services/SaaS part of their business. Here’s a top-level overview of the 3 parts of the business from their investor presentation:
I tend to think of the cloud and sensors business together as a close equivalent to what Samsara does. But whereas Samsara mixes the sensor sale and cloud revenue into one, Axon splits them out.
Customers
Axon sells to the government. Police forces are its bread and butter. And they have almost no competition in that area. Most revenue comes from the US but they are bullish on expansion in Europe.
Revenue
| Rev $m | Q1 | Q2 | Q3 | Q4 |
|---|---|---|---|---|
| 2020 | 147.2 | 141.3 | 166.4 | 226.1 |
| 2021 | 195.0 | 218.8 | 232.0 | 217.6 |
| 2022 | 256.4 | 285.6 | 311.8 | 336.1 |
| 2023 | 343.0 |
Revenue has seen a seasonal downtick before and the Q1 this year was the same. Still, YoY trends look good at 34%, even though qoq revenue growth in Q12023 was only 2.1%.
| Rev yoy | Q1 | Q2 | Q3 | Q4 |
|---|---|---|---|---|
| 2021 | 32% | 55% | 39% | -4% |
| 2022 | 31% | 31% | 34% | 54% |
| 2023 | 34% |
Revenue segments - Taser
The reason overall revenue stagnated a bit, is that Taser revenue in Q1 was down sequentially. Q1’s highlighted below:
| Taser $m | Q1 | Q2 | Q3 | Q4 | QoQ Q1 | Q2 | Q3 | Q4 | YoY Q1 | Q2 | Q3 | Q4 |
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2020 | 75.9 | 70.5 | 84.4 | 135.8 | -7.1% | 19.7% | 60.9% | |||||
| 2021 | 99.0 | 112.5 | 121.5 | 103.9 | -27.1% | 13.6% | 8.0% | -14.5% | 30% | 60% | 44% | -23% |
| 2022 | 114.4 | 135.6 | 144.9 | 136.7 | 10.1% | 18.5% | 6.9% | -5.7% | 16% | 21% | 19% | 32% |
| 2023 | 134.3 | -1.8% | 17% |
However, Taser revenue is clearly cyclical, and in addition, there was a new version of the product on the horizon for the whole quarter, and customers may have been putting off purchases of the old version and decided to wait for the new one.
They released a new version of their Taser product, the Taser 10 in March and announced its release in prototype form in January - so for most of Q1 (which runs from January to March) people knew that the new one was coming and they also knew what it could do. The last time a new version was released was in 2018. So this is a big deal. And according to management, customer reception of the product is exceptional:
Customer reception to TASER 10 has been great. We began shipping in March and many customers have called the product a true game changer. For those of you who are new to our business, new TASER devices take a few quarters to ramp in terms of sales as our customers need to trial and get trained before they can go to full deployment.
And later:
Our Taser weapons business grew 17% year-over-year, and most of that was tied to continuing strong demand of our TASER 7 platform. We are only in the early stages of shipping our newest product, TASER 10, which is seeing the strongest initial demand of any TASER weapon in the history of the company.
Gross margins for this segment is exceptional for hardware: gross margin was 62.2% in the last quarter, which was actually down vs a year ago driven by a decision to write-down some older inventory.
→ So, the Taser revenue, which was a little slower than I would have liked in Q1 was for Taser 7 - a 5 year old product. And their new product, Taser 10, which has just been launched, is seeing very strong demand. Bodes well for Taser sales for the rest of the year.
Revenue segment - Sensor & other
The sensor business was up 42% yoy and 7.5% sequentially.
| Sensor $m | Q1 | Q2 | Q3 | Q4 |
|---|---|---|---|---|
| 2020 | 32.1 | 28.9 | 36.6 | 40.0 |
| 2021 | 43.6 | 45.8 | 47.2 | 45.0 |
| 2022 | 65.1 | 68.3 | 71.1 | 85.9 |
| 2023 | 92.3 |
But here, too, we had a potential headwind in the form of an anticipated new version of a key component of the revenue - they released a brand-new body cam in April, just after the quarter end. The body cam 4 now includes voice capability.
Gross margins in the Sensor business is rather typical for hardware in the 40%-ish range, coming in at 38.2% in the last quarter.
Revenue segment - Axon Cloud
This is the big one for me. Their cloud business includes things that have strong similarities to what Samsara does: they do workflow automation (evidence automation for police officers), real-time tracking (body-cams, vehicles), real-time operational support based on the body cams, and fleet services (Axon fleet).
| Cloud $m | Q1 | Q2 | Q3 | Q4 |
|---|---|---|---|---|
| 2020 | 39.2 | 41.9 | 45.5 | 50.3 |
| 2021 | 52.4 | 60.5 | 63.3 | 68.7 |
| 2022 | 77.0 | 81.7 | 95.7 | 113.5 |
| 2023 | 116.5 |
Cloud revenue was up 51% yoy in Q1 vs 47% a year earlier and 34% the year before.
And Axon cloud boasts typical SaaS gross margins - 73.2% in Q1, up from 72.3% a year earlier.
ARR trend looks even better:
| ARR | Q1 | Q2 | Q3 | Q4 |
|---|---|---|---|---|
| 2020 | 174 | 183 | 204 | 221 |
| 2021 | 242 | 260 | 289 | 327 |
| 2022 | 348 | 368 | 403 | 473 |
| 2023 | 520 |
With strong quarterly and YoY growth trends:
| Arr Growth | Q1 QoQ | Q2 | Q3 | Q4 |
|---|---|---|---|---|
| 2020 | 5.2% | 11.5% | 8.3% | |
| 2021 | 9.5% | 7.4% | 11.2% | 13.1% |
| 2022 | 6.4% | 5.7% | 9.5% | 17.4% |
| 2023 | 9.9% |
| Arr Growth | Q1 YoY | Q2 | Q3 | Q4 |
|---|---|---|---|---|
| 2020 | ||||
| 2021 | 39% | 42% | 42% | 48% |
| 2022 | 44% | 42% | 39% | 45% |
| 2023 | 49% |
And net new ARR added in the last two quarters were both records - good momentum:
| ARR add | Q1 | Q2 | Q3 | Q4 |
|---|---|---|---|---|
| 2020 | 9.0 | 21.0 | 17.0 | |
| 2021 | 21.0 | 18.0 | 29.0 | 38.0 |
| 2022 | 21.0 | 20.0 | 35.0 | 70.0 |
| 2023 | 47.0 |
NRR (which excluded hardware revenue) has been exceptional in this environment where almost all other software companies have seen NRR weakness. NRR over the last 5 quarters up to this last one was:
119% → 119% → 120% → 121% → 121%
That NRR is higher than Samsara’s 115% for their $100+ customers…
And as a % of the total revenue pie, cloud has been increasing, from 26.6% 3 years ago to 34% now:
| Cloud % of total | Q1 | Q2 | Q3 | Q4 |
|---|---|---|---|---|
| 2020 | 26.6% | 29.7% | 27.3% | 22.2% |
| 2021 | 26.9% | 27.7% | 27.3% | 31.6% |
| 2022 | 30.0% | 28.6% | 30.7% | 33.8% |
| 2023 | 34.0% |
→ Overall it would seem that the Cloud business is seeing strong growth momentum and some recent acceleration. It is also becoming an ever-larger part of their business, from around a quarter three years ago to a third now. And I would argue that it is not yet being valued appropriately to reflect this - Samsara is valued much higher despite growing slower than Axon’s cloud business, and with lower NRR. For reference, Axon’s latest Q cloud business revenue of $116m is about 57% of Samsara’s $204m.
Gross margins
Gross margins are respectable, and is being pulled down by the sensor part of the business, staying at around a 60% level over time, and down a bit this quarter:
| GP % | Q1 | Q2 | Q3 | Q4 |
|---|---|---|---|---|
| 2020 | 60.2% | 62.4% | 59.0% | 62.5% |
| 2021 | 63.3% | 63.0% | 62.3% | 62.1% |
| 2022 | 60.7% | 60.9% | 62.0% | 61.2% |
| 2023 | 59.5% |
EBITDA
EBITDA margins are steady at the ±20% level, and also down a bit this quarter:
| EBITDA % | Q1 | Q2 | Q3 | Q4 |
|---|---|---|---|---|
| 2020 | 20% | 20% | 20% | 28% |
| 2021 | 24% | 23% | 22% | 14% |
| 2022 | 19% | 18% | 22% | 20% |
| 2023 | 19% |
→ Not much to see on the margins front imo: steady as she goes!
RPO
From their investor deck:
Total company future contracted revenue grew to $4.8billion. We expect to recognize between 15% to 25% of this balance over the next twelve months, and generally expect the remainder to be recognized over the following ten years. This metric is also known as “remaining performance obligations.”
Gotta love that: 10 years!! of visibility. Not many companies have that. They also state that the SaaS component of their business is typically for 5-year terms.
| RPO $'000 | Q1 | Q2 | Q3 | Q4 |
|---|---|---|---|---|
| 2020 | 1730 | |||
| 2021 | 1790 | 2040 | 2390 | 2802 |
| 2022 | 2970 | 3330 | 3730 | 4647 |
| 2023 | 4778 |
YoY growth in RPO is exceptional: 61% this last quarter, and well above revenue for all of the preceding quarters. Not only do they have a lot of future revenue contracted, they are growing this much faster than revenue consistently! Here is the YoY growth of the numbers above:
| Q1 | Q2 | Q3 | Q4 | |
|---|---|---|---|---|
| 2021 | 62% | |||
| 2022 | 66% | 63% | 56% | 66% |
| 2023 | 61% |
In addition to the great visibility and increase in RPO, it is becoming an ever bigger part of revenue. This is the % of annualised quarterly revenue that the RPO balance represents at the end of each quarter:
| As % RR revs | ||||
|---|---|---|---|---|
| 2020 | 191% | |||
| 2021 | 229% | 233% | 258% | 322% |
| 2022 | 290% | 291% | 299% | 346% |
| 2023 | 348% |
→ They have 3.5 times their run-rate revenue in the bag in the form of RPO currently
Free cash flow
Free cash flow margin has been strong over all of the preceding quarters, but yikes!! something happened in this quarter:
| FCF % | Q1 | Q2 | Q3 | Q4 |
|---|---|---|---|---|
| 2020 | 7% | -19% | 3% | 12% |
| 2021 | 26% | 10% | 2% | 1% |
| 2022 | 12% | 3% | 10% | 37% |
| 2023 | -18% |
FCF dropped to negative 18%!! How could that be?!
Two things:
-
Deferred revenue went from a $159.7m positive contribution to operating cash flow in the prior quarter, to only $50.2m - a $109.5m swing. Why? Because customers didn’t pay upfront to the same extent in Q1 as in Q4.
-
Accounts payable went from a 80.7m positive operating cash flow impact to a negative 37m impact. That means creditors were paid earlier than in the past.
→ This does not bother me that much, as it seems it was mostly timing-related and not anything underlying.
There was a specific question on this in the conf call about free cash flow, which the CFO answered as follows:
We just had some strong seasonality in Q1 in terms of uses of cash, including bonus, commissions, some timing around, remitting stock taxes for stock options, a little bit of inventory, but mostly some of those more one-time items.
Analyst: So, cadence of the years, we will see that probably snap back beginning in Q2, I suppose?
And the CFO’s answer:
Yes. I think you will still see good healthy free cash flow for the year.
Conclusion
I feel like this is a business with great economics and a palatable valuation that could see acceleration in the quarters ahead. This is based on my expectation that the Taser 10 and new body cam products could accelerate their hardware business and that the continued success of their cloud business could gain even more steam as their fleet business continues to accelerate. Also, the CFO promised us good free cash flow generation in the coming quarters.
In addition, if the cloud business gets rerated to a valuation which is in line with the likes of Samsara, there could be a multiple expansion on the cards too. Lastly, the current consensus revenue growth for the year calls for a 22.7% full-year revenue growth which is in line with the company’s guide after Q1 of 22% (raised from 20% a quarter earlier). And since 2018 they have not missed quarterly revenue guidance except once - by a smidgen - in 2019.
-WSM
(long 7%)