Axon Enterprises (NASDAQ:AXON) is known as a company behind Tasers and police body camera. However, Evidence.com is the company's software-as-a-service platform that is the true gem in its arsenal.
On this week's edition of Industry Focus: Technology, host Dylan Lewis and Motley Fool contributor Brian Feroldi dig into Axon's business model and discuss why it is well positioned to grow for years.
A full transcript follows the video.
This video was recorded on Feb. 22, 2019.
Dylan Lewis: Brian, name No. 2 we're going to be talking about with tech stocks in disguise is one that we both know. It's actually one that we both own, and that's Axon. This is a company that people may not know by its current name, but they probably know by its former name, Taser.
Brian Feroldi: Taser is a company I've known about for years, but honestly never interested me because I figured that they were just a manufacturer of Tasers, which are used for non-lethal law enforcement. However, when I dug into the details, it turns out that this is a tech company in disguise.
Lewis: They have the former namesake Taser business. These are the stun-gun-like devices, less lethal than traditional firearms. That's really the company's bread and butter, has been for a long time. It makes up about two-thirds of their revenue. The overarching mission there is, "We want to make the bullet obsolete," which I think is a noble cause.
The other part of the business that's really interesting to me -- and frankly, is what makes them a tech company -- is the Axon Body Camera business. These are the body and in-car cameras that law enforcement uses while they're on duty. The Axon devices collect footage, but crucially, the content is uploaded to evidence.com, which is the company's cloud storage segment. Brian, that gives us one of our favorite things -- high-margin software revenue.
Feroldi: And dependable recurring revenue, which you know I love.
Lewis: Yeah, they're wonderful things. As a portion of overall sales, relatively small. In Q3, the software segment was about $24 million, up 47% year over year. But you look at those margins, 74% gross margins, and that's up from 63% a year ago. We're seeing those margins expand over time, too.
Feroldi: The nice thing about that is, as that business scales out, I think that margin number can continue to grow. The exciting thing about Axon's business, to my mind, is that evidence.com is the backbone of the entire operation. When a police force signs on to evidence.com and they upload their footage there and their body cameras are going there, if a police force was to change that to a competing product, that would be an enormously onerous process. Because Axon gets their fingers in with the police force through evidence.com and Taser, it creates this ecosystem that becomes incredibly hard to leave.
Lewis: One of the other reasons I love this company, Brian, is there really isn't a competitor. You look at the landscape, the non-traditional firearm gun landscape and the body camera landscape, there isn't really another big company. In fact, they scooped up the other player in body cameras. They kind of have monopolies on both of their main businesses, which is excellent.
You mentioned the recurring revenue on the software side. They've also built a pretty novel recurring revenue model for their hardware business. About a third of their Taser sales come through as recurring revenue payments as of the most recent quarter. They're turning hardware into something that is as-a-service, akin to something that you might see with the wireless carriers giving people, "Have the latest iPhone, pay a certain set amount per month."
Feroldi: Yeah, that's very attractive. If this business was purely a hardware maker, I would personally, even given their position, would have no interest in it. It's really the software and evidence.com that ties everything together that I think makes this a much more predictable, much higher quality business than I would otherwise assume.
Lewis: They posted pretty solid growth over the last couple of years. What I love, though, is a year ago, management projected a three to five-year CAGR of 16% to 20% revenue growth, and they projected expanding margins. We've seen some of that already. I just talked about how that was happening in the software segment. More recently, this last quarter, they reiterated that outlook. I think a big reason for that is the fact that they have some pretty big hardware releases coming out in 2019. One of them is going to be the Taser 7, and one of them is the Axon Body 3, latest in those lines, giving people a reason to move up into some higher-value contracts for Axon.
Feroldi: Another thing that I want to point out that I think is important is that when a police force signs on to evidence.com, one thing that Axon did that was very smart is they make the data shareable with other police forces that are also on evidence.com, so that data and videos can be shared back and forth, which can make police work a little bit easier. That creates a network effect that, again, locks police forces in even more to the Axon business. This business is fantastic!