Axon Enterprise (AXON -0.68%) is a company few investors know about, but it has a product (the TASER stun gun) that most people are familiar with. It started a few decades ago with the release of the first TASER, but it has since morphed into a full-scale technology company that develops hardware and software tools for law enforcement agencies. Here is why Axon Enterprise is one of the highest quality businesses out there, and why investors should take a hard look at the stock.
Image source: Axon Enterprise.
Big growth in software
As already mentioned, before the last 5-10 years, Axon's main focus was perfecting the TASER. The projectile weapon is still a big part of Axon's business, but a lot of growth is now coming from its new software-as-a-service (SaaS) offerings. With its Evidence.com platform, Axon allows police departments and government agencies to store, manage, and automate their evidence databases from one source in the cloud. It also uses artificial intelligence to audit officers and automatically redact videos to make sure everyone is following the proper protocols, an important part of running a police department. Axon also sells productivity software to help officers with records management, saving officers time that used to be spent filing physical paperwork by hand.
It is still early days for Axon's software segment. Last quarter, it hit $221 million in annual recurring revenue (ARR), a standard metric for evaluating subscription software businesses. This revenue is high margin too. Axon management claims that outside of one-time onboarding expenses, its SaaS products routinely fetch 80%-plus gross margins, which should lead investors to think it can have high net profit or cash flow margins at scale.
Connected hardware
Even though the TASER is an old product line, it still makes up more than 50% of Axon's revenue. The TASER 7, the company's latest iteration of the product, has been selling like gangbusters, mainly because of its ability to work as a smart device and connect to Axon's cloud platform. This allows officers to have real-time data uploads to keep records of incidents while also saving time on administrative tasks. TASERs are used by the majority of U.S. police departments but have recently started gaining traction internationally. In fact, Axon just sold $20 million worth of TASERs to an international customer in the fourth quarter of 2020, the largest contract in Axon's history.
Axon also sells body cameras and other products to supplement its hardware division. Like the TASER 7, the Axon Body 3 is an LTE-connected camera that helps automate data/evidence management but also keeps officers accountable, which is something many departments are focused on these days.
Image source: Axon Enterprise.
The bundle
What makes Axon Enterprise such a high-quality business is the comprehensive product suite it can offer to police departments. No competitor has anything close to Axon's hardware/software bundle, and it would likely take years of R&D investment to catch up with them. Why is this so important? Because with all of Axon's products (too many to list here), it can offer a bundled contract at a discount to what products would sell on their own, allowing administrators to go through one source for the majority of the department's needs (outside of firearms).
For example, Axon's highest level bundle, which essentially gives departments access to all of its products, costs $239 per officer per month over five years. Each officer signed under this deal is worth thousands to Axon each year in high margin, recurring revenue. This is why Axon's backlog of $1.73 billion is much higher than its 2020 revenue of $681 million.
But what about the stock?
Axon trades at a price-to-sales ratio (P/S) of 15. This is not overly expensive for a SaaS company, but with hardware still a major part of the business, it is tough to argue that Axon should trade at a similar multiple to Adobe Systems. However, given the fact that Axon's subscription model is so predictive, the little-to-no competition, and the overall quality of the product suite, investors shouldn't shy away from Axon stock even though it trades at a premium valuation.
