Shares of Axon Enterprise Inc. (NASDAQ:AAXN) dropped 11.7% in August, according to data provided by S&P Global Market Intelligence, after the body camera and taser maker reported quarterly earnings. The market may have liked the company's growth, but lower earnings are concerning for the moment.
Revenue jumped 36% to $79.6 million in the second quarter but net income fell 38% to $2.3 million. The trend of Axon investing heavily in SG&A and research and development expenses are taking a big bite out of the bottom line and that trend will likely continue as the company invests in growth.
What caught my eye was a drop in gross margin from 63% a year ago to 57% last quarter. In the long term, we would like to see margins rise, but there's actually a good reason for the decline in margins for the short term. Axon sold 66% more body cameras than a year ago and those sales generated a negative gross margin of 1.7%. Over time, Axon will generate far more money from services revenue like Evidence.com, which had a gross margin of 70%, but right now it's building out the installed base of body cameras and is willing to do so with a low-margin sale. In the short term, that puts pressure on earnings, but long term the company should more than makeup for it with earnings growth.
The market can sometimes get restless in waiting for a company to turn top-line growth into profitability, but Axon is making all of the right moves for its business over the long term. Body camera customers usually sign long-term agreements to buy Axon's services and it's likely they'll have high switching costs even when their initial contracts expire. That's the kind of business I love and with more law enforcement agencies around the world adopting body cameras I think Axon is set up for long-term success, despite last month's drop in the stock.