Axon Enterprise Inc (AXON) 2008 Q2 法說會逐字稿

Good day, ladies and gentlemen and welcome to the TASER International second-quarter 2008 earnings conference call.

My name is Jen and I will be your coordinator for today.

At this time, all participants are in a listen-only mode.

We will be facilitating a question-and-answer session towards the end of today's conference.

(OPERATOR INSTRUCTIONS.) As a reminder, this conference is being recorded for replay purposes.

I will now turn the presentation over to Mr.

Rick Smith, CEO.

Please proceed, sir.

Thank you.

And, welcome, everyone.

Before we get started, I'm going to turn over to our Chief Financial Officer, Dan Behrendt, to read the Safe Harbor statement, and then we'll get started.

Okay.

Thank you.

Safe Harbor statement -- certain statements contained in this presentation may be deemed to be forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995 and TASER International intends that such forward-looking statements be subject to the Safe Harbor created thereby.

Such forward-looking statements relate to expected revenue and earnings growth; estimations regarding the size of our target markets; successful penetration of the law enforcement markets; expansion of product sales to the private security, military and consumer self-defense markets; growth expectations for new and existing accounts; expansion of production capability; new product introductions, product safety; and our business model.

We caution these statements are qualified by important factors that could cause the actual results to differ materially from those reflected by the forward-looking statements herein.

Such factors include, but are not limited to, market acceptance of our products; establishment and expansion of our direct and indirect distribution channels; attracting and retaining the endorsement of key opinion leaders in the law enforcement community; the level of product technology and price competition for our products; the degree and rate of growth in the markets in which we compete, and the accompanying demand for our products; potential delays in international and domestic orders, implementation risks of manufacturing automation, risks associated with rapid technological change; execution and implementation risks of new technology; new product introduction risks; ramping manufacturing production to meet demand; litigation resulting from alleged product-related injuries and deaths; media publicity concerning product uses and allegations of injury and deaths, and the negative impact that this could have on sales; product quality risks; potential fluctuations in quarterly operating results; competition; negative reports concerning TASER device uses; financial and budgetary constraints of prospects and customers; dependence upon sole and limited sole-source suppliers; fluctuations in component pricing; risks of government investigations and regulations; TASER product tests and reports; dependence on key employees; employee retention risks; and other factors detailed in the Company's filings with the Securities and Exchange Commission.

And with that, I'll to turn the call back over to Rick Smith, our CEO.

Thanks, Dan.

You know, certainly it's been a challenging economic environment across the board here in the U.S., but I'd like to start by highlighting one of the real bright spots in our operations.

And that is, despite the decrease in revenues, our gross margins improved to 64.5% this quarter, compared to 60% in the second quarter of 2007.

So we told you a couple of quarters ago we were putting a renewed, vigorous focus on our internal operations cost control and margins, and those efforts are paying off as we're seeing improvement in our operations.

Now, revenues for the quarter were $21.1 million, which is a $4.8 million, or 18% decrease over the same quarter last year.

It's primarily the result of lower municipal spending in the U.S., resulting from two factors -- lower tax income for state and municipal governments, primarily associated with decreased property tax revenues, given what's going on in the real estate markets, and you couple that with rising fuel costs.

As I'm sure everyone is aware, fuel is a major consumable for law enforcement, in that they have patrol cars out usually 24 hours a day.

And we've actually heard back from agencies that the unanticipated and significant rise in fuel costs has not only consumed most of their unallocated budgets, but has caused them to shift otherwise allocated funds over to fuel.

And even then, they've gotten to a point where many agencies are curtailing patrol shifts.

This translated into a decrease in sales, particularly in the last two weeks of the quarter, where traditionally at TASER International the last two weeks of any quarter are our strongest and we see significant up-ticks as budgetary dollars flush through at the end of the quarter.

In fact, we were tracking to 2007 revenues right until the last two weeks of this last quarter.

It was in the last two weeks that we did not see the increase in sales that we saw in 2007.

And we can account for more than the entire revenue decline by the decline in sales in the last two weeks of the quarter, which again bears out the lack of a budgetary flush due to lower municipal spending and tightened budgets.

Now also this quarter we saw expected research and development expenses increase by $1.8 million, or 139%, as we continue to invest in our future.

We did also incur a one-time extraordinary charge of $5.2 million in the second quarter as a reserve for an adverse litigation verdict in the Heston trial.

Now, I'll come back and talk more about that later.

At this point judgment has not been entered, but we have reserved for the verdict and the punitive damages.

So the net loss for the quarter was $4.3 million and the net loss and basic and diluted loss per share for the second quarter were $1.6 million or about $0.02 a share, respectively.

Now one metric that I'm using, and Dan, to keep our eye on operations -- when you've got things like significant increase in R&D, which is really, we believe, the right call for this business to be investing in our future -- we want to make sure that those expenses don't mask the rest of the performance of the operations.

So Dan and I are tracking a non-GAAP item, basically operating income before R&D and extraordinary expenses, which allows us to keep our eye on the core running of the business to make sure that we're running efficiently.

So this quarter, even with the revenue decrease, we were running at about 18.2% operating income, again before research and development and the extraordinary expense associated with the litigation reserve.

During this last quarter the Company also repurchased approximately 1.8 million shares of our common stock for $12.5 million.

So we ended the quarter with cash and cash equivalents of $33 million.

Now let me turn to talk about some of the significant events in the quarter.

First, I'd like to talk about the management team.

I personally have been very focused over the last six months on building out our management team to grow us from $100 million to the next level.

Obviously, the types of systems you need to have in place to handle that kind of growth are different than it took to get us from zero to $100 million.

So I'm very proud of the team that we've assembled, not only of the historic TASER employees who continue to help us build this company, but some of the new talent that we've brought in to help take us to the next level.

Most recently we hired a new Vice President of Sales, Mark Fidelman.

Mark comes from a very strong background, where he's had his initial sales training at Autodesk in the tech sector.

He then was involved in a software services business that was a start-up.

They grew significant revenues.

So he's grown sales teams from zero, from scratch, and built sales teams.

Then he spent a lot of time in consulting, where he worked with Fortune 500 and other companies.

So he's been exposed to sales in many different types of and different sizes of organizations, as well as actually setting up sales operations in international markets, particularly India and China.

So Mark brings a lot of talent to the team; we're excited to have him on board and focusing on getting our sales programs in place.

Next, or previous before that was Nick Pappas, our new Vice President of Marketing.

We talked about Nick a little bit on the last call.

Nick has a very strong e-commerce background.

He was at Gateway and was primarily responsible for setting up gateway.com, their e-commerce portal, and was with the team that grew that to over $1 billion in sales.

Then he went to Best Buy, where he was involved with the team that set up bestbuy.com, where he had primary responsibility for computers and digital cameras and then grew that to over $0.5 billion.

He then went back to Gateway, Circuit City and L'Exotica Eyewear, so a very strong consumer and e-commerce background.

Nick's been on board now for about three months.

He's been doing a great job.

He actually handled the entire TASER Tactical Conference this year, as well as the launch announcement activities associated with the AXON, that we'll talk about shortly.

And now Nick is going to turn to our e-commerce efforts.

Between now and the end of the year I think you'll see some significant improvement there.

And then thirdly we'll talk about our VP of Operations.

He is Steve Mercier, who joined us in the first quarter, out of Intel.

Steve's got a very strong operational background.

He was with Intel from the early 1980s, through their wild growth days and he got to see the systems [it took] in place to grow that company.

And I'd say the investments in folks like Steve are paying off.

And we're seeing it in the gross margin numbers that have improved pretty significantly these last two quarters.

So in addition to rounding out our management team, we've also had some other significant events, including a RAND study, from the RAND Corporation, a rather well known think tank that was hired by the New York City Police Department.

And RAND came back with the findings that NYPD should implement a pilot program for expanded use of conducted energy devices.

Some folks have asked me if we've received the order yet from NYPD.

And the answer is no, we have not.

The RAND study is a very bullish long-term indicator.

We think it's important.

We think other agencies as well as NYPD will look at it.

However, to quote the Commissioner of the NYPD, it's somewhat "like turning a battleship." The New York City Police Department takes time to implement any new programs.

So, again, we're bullish on the long term there, but it's hard to predict when we'll see any particular orders associated with those findings.

(Technical difficulty), we had a number of important wins in the courtroom.

Most importantly, the judge in Ohio in a trial where we were a plaintiff -- they were challenging the findings in three autopsy reports -- the judge found that the evidence was compelling and overwhelming and ruled in our favor that those certificates be changed and that the TASER device be removed, because there's absolutely no evidence associated with TASER with those deaths.

Also, the U.S.

Patent and Trademark Office denied a reexamination request assailing one of our patents, so obviously we're happy to see our patents standing up at the PTO.

We have a very robust patent and intellectual property portfolio that continues to grow every quarter, as we continue filing new patents.

Let's talk a little bit about sales this quarter.

We saw a number of significant orders, including the New South Wales Police Department in Australia.

And since that time there's been much talk in the media about expanded programs throughout Australia, in Queensland and other states.

So we believe Australia's getting ready to significantly expand their TASER programs.

We've also again seen some bullish indicators, not necessarily major orders yet.

The Home Office Secretary in the United Kingdom has now on several occasions consistently repeated the message point that she can envision the day when U.K.

officers are routinely armed with TASER devices, something that would have been unthinkable just five or six years ago.

Now again, I know our shareholders -- frequently when I talk to them they get frustrated that we've talked about international sales for a number of years and they ask me when are they going to develop into major sales.

And I'll just give you an example.

Our distributor in Australia has been with us now for nine years, and it took him eight years to get orders of any significance.

The international market take a long time, but we are seeing significant movement in those markets at the policy level and we're starting to see that translate into sales.

Here in the U.S.

Harris County Sheriff's Department in Tomball, Texas; the Kentucky State Patrol; the Lexington Division of Police in Kentucky; Honolulu; the Tulare County Sheriff's Department; Corpus Christi Police Department; the St.

Paul Police Department.

All placed reasonably significant orders this quarter, as we continue to see them expanding their TASER programs.

This quarter we added 318 new agencies, so we're now over 13,000 agencies testing and deploying our products.

We've added 196 new full deployments, military agencies that are making TASERs available to their front-line patrol officers.

Added 133 new TASER CAM agencies, so now we have 1,800 agencies testing and deploying the TASER CAM.

And international booked sales for the quarter came in at about $2.4 million.

On the consumer front, we've partnered with the Sports Authority to begin carrying the TASER C2 personal protector.

And on the military front, we have been awarded a multi-year Science and Technology award from the Joint Non-Lethal Weapons Directorate of the Department of Defense to develop specific TASER technologies to meet their requirements.

It's an initial one-year contract with a renewal option, and the total contract over 24 months would be a little under $2.6 million.

And again, that will help fund some of our R&D, as well as to develop some new technology which we believe will have both commercial and military applications.

This quarter we also unveiled three new innovative products.

First is the TASER AXON, the Autonomous eXtended on-Officer Network.

Now the AXON builds off of our base in the TASER CAM.

And again, I've had some folks ask, "Well, why is TASER getting into on-officer video?" And the answer is, we've been there for a number of years.

In fact, TASER is the world leader, with over 25,000 TASER CAMs in the field.

We have more on-officer video recording systems than anyone.

And, in fact, we know that this is a growth market.

And if you look at the historic market and segment of in-car video, from several different sources we've ascertained that that's over a $300 million a year business for in-car video.

And we see on-officer growing as an important segment.

So we're going to build off of our lead in launching the TASER AXON, which will be in field trials by the end of this year.

And we expect [commercial] deployments to begin in 2009.

And, from a shareholder perspective, revenue impact we would expect in the second half of 2009.

We also launched the TASER Controlled Digital Power Magazine.

Now this is an accessory for the TASER devices where there's a lanyard on the device and if it disconnects it disables the TASER.

And, in fact, even if you plug the magnetic key back in the device will not reactivate until you enter an activation code.

We believe this will be an important item to help open up the corrections market.

We've had at least one state correctional agency mandate this device before they would deploy TASERs, because the risk in corrections is that officers are outnumbered by the inmates and if they get overpowered they don't want the inmates to be able to use their weapon systems.

So the CDPM gives us a strong answer there and should enable us to start to make more headway in the correctional market.

We expect the CDPM should be shipping in the fourth quarter of this year.

We also announced the TASER Shield Conversion Kit.

And many of our customers have been asking for TASER to produce a neuromuscular incapacitation shield.

There have been some electrical stun shields in the market historically.

We believe our technology is far superior, particularly in that it will provide TASER-level incapacitation, as well as, by going with an conversion kit, agencies can buy any shield they want or they can up-convert their existing shields.

So it minimizes their capital outlays on the base shield equipment.

And by applying the laminate of the TASER REPEL Laminate Film Technology, we can now apply the TASER electrical discharge to the front of any shield, or not even shields.

Other types of devices or barriers could be used with this system.

We're expecting that system to be shipping in the first half of 2009.

Let me follow up on a couple of previously-announced products.

And I'll start with the XREP, our Extended Range Electronic Projectile.

We have over 1,000 units in the field now, in field trials.

In fact, we recently had our first field deployment of the XREP, where we successfully used to subdue a -- I believe it was a fleeing felon in a narcotics case.

Now the XREP we believe -- we're preparing for full-scale production.

We expect to commercialize the product in the first quarter of 2009.

We have learned some things in the field trial.

We've gone back and made some modification to these designs.

Particularly, we've now upgraded it for full environmental [ceiling], which will meet now [mil standard conditions].

And we've improved the manufacturability of the device.

And we've actually added a larger battery capacity for better cold weather performance.

So we've taken feedback that we've learned in both our validation testing and field trials.

We've made modifications and, again, we're now starting to scale up for full-scale production.

On the Shockwave system, the Shockwave Area Denial System that we announced last year, we've done field demonstrations at a number of different events.

We are now manufacturing units for the field trial, but we expect to be in the field with a number of different agencies this quarter.

And we would expect Shockwave to be commercialized end of the fourth quarter, from a revenue impact perspective, we'd say first quarter 2009.

We've got a number of initiatives coming together at that time.

Next, we had abstracts of five human studies examining the safety of TASER devices presenting at the Heart Rhythm Society's 29th Annual Scientific Sessions and two presentations in Europe.

All five studies found TASER ECDs have no effect on the human heart or pacemakers, again further underpinning the general safety of these devices.

We had five more product liability suits dismissed, although we did have the jury verdict in the Heston case, for which we recorded a $5.2 million charge in the second quarter of 2008 for that jury verdict, even though they only found that the TASER device, in their estimation, contributed 15% to death of Robert C.

Heston, who was 85% responsible for his own demise.

Of course this was a tremendous tragedy for the Heston family no matter how you look at it.

One couldn't help but have tremendous sympathy for everything that his family has been through.

And we think that sympathy ended up expressing itself in the jury verdict.

Just so everybody understands, the theory in that case was that Mr.

Heston had exercised himself to the point of death, that he died from metabolic acidosis, as a result of the muscular activity in his body, which was significant for many hours leading up to this event.

And the jury found that the muscle contractions associated with the TASER at the end contributed somewhat.

So there is not some new theory about TASER, cardiac defects or otherwise.

It was purely that the stress and exercise they found to be contributory.

Now, we are filing a number of post-trial motions.

The judgment has not been entered in that case.

Once judgment is finally entered, which we anticipate will be sometime around the end of this year, then will be the appropriate time for us to file appeals.

And you can rest assured that we will pursue all channels.

We don't believe that certainly the amount of the damages awarded stand up to the Supreme Court guidelines on punitive damages and we believe there's a number of issues in the case that are subject to appeal.

I think it's also important to point out that in the Heston case, the officers involved were not found liable.

And that's a very important finding, that either our customers, in using TASER devices, even in adverse, very difficult cases like this, are not being found liable.

With that, I'm going to go ahead and I'm going to turn it over to Dan to talk a little bit more about the financial results for the quarter and then I'll be back to wrap up.

Thanks, Rick.

No, actually, there's one other point -- sorry, Dan -- I forgot to make there, which is in most states this exact same verdict would have resulted in no liability for TASER.

If a person is found to be greater than 50% responsible for their own death or injury, in the vast majority of states, or a significant majority of states, then there can be no award in a case like this.

Unfortunately, California is not one of those states.

So I think that's an important point to make.

And with that, Dan.

Thanks, Rick.

I'll start with the income statement for the quarter.

As Rick indicated, sales for Q2 were $21.1 million, which is down $4.7 million (sic - see Press Release) from the prior year.

And sequentially we saw our sales drop $1.4 million from Q1, as we did not see the normal budget flush from year-end budget surpluses that we normally enjoy in the second quarter each year.

The unanticipated increases in fuel costs, coupled with shrinking municipal budgets, caused lower amount of unused budgets at the end of the quarter, which unfavorably impacted our sales during the second quarter.

Gross margins of $13.6 million, or 64.5% of sales, are up 4.4% from the prior year.

The increase in margin was caused by several factors, including elimination of most cash and distributor discounts, lower overtime expenses, and better productivity improvements in scrap expense during the quarter.

This is the second quarter in a row where we saw margins improve sequentially, and margins are up actually 7.7% from the first quarter of this year.

And the sequential improvement was driven by a lot of the same factors, including the curtailed distributor cash discounts, improvements in direct labor efficiencies, scrap material costs.

And also, product mix had a favorable impact this quarter, with a higher percentage of our sales coming from the X26 product.

The $1.5 million decrease in indirect manufacturing expenses versus the prior year were mostly driven by the lower scrap and greater manufacturing efficiencies during the quarter.

SG&A expenses of $9.7 million for the quarter versus $8.3 million for the prior year -- the increase again was driven mostly by higher salaries and benefits of $545,000, mostly due to increased headcount.

Advertising costs, mostly related to the infomercial, increased by about $365,000.

Higher travel and meal expenses of $291,000 and higher trade show costs of $170,000 were mostly related to the Company's Annual Tactical Conference, which Rich mentioned.

That conference takes place typically in either the second or third quarter of the year.

This year it was in the second quarter, obviously.

Last year it was in the third quarter, so when you compare versus the prior year, that's one of the reasons for the increase.

We also had recruiting and relocation expenses of $100,000 in the quarter due to some of the executive adds that Rick mentioned before.

Research and development expenses of $3 million for the quarter are up, actually, $1.8 million from the prior year.

Again, this is mostly driven by the outside development costs of $1.1 million that relates to the AXON product.

We did have higher salaries of $243,000 due to increased headcount and increased supply costs.

As we communicated in the last conference call, we're going to continue to ramp up the R&D expenses during 2008 in order to accelerate the new products in the pipeline.

We did record the $5.2 million charge related to the litigation judgment in the Heston case this quarter.

Although we we'll continue to explore all our appropriate legal channels, including filing an appeal in the case, we have recorded that judgment expense in the quarter's results.

Loss from operations were $4.3 million and the pre-tax loss was $3.6 million.

The net loss for the quarter was $1.6 million, which translates into a $0.02 loss per share on both the basic and diluted basis.

For the six months ended June 30th, sales for the first half were $43.6 million, which are actually up about 5.9%, or $2.4 million from the prior year.

And while we still remain optimistic about our long-term ability to grow the top line, at this point our expectation is that, absent some large international orders, which have been historically difficult to predict, that the second half sales will be roughly in line with the first half, at this point.

Gross margins of $26.4 million, or 60.5% of sales, are up 1.1% from the prior year.

Again, the increase is mostly driven by the elimination of cash and distributor discounts, lower labor expenses, and improvements in the scrap expense.

SG&A expenses of $18.9 million are up $2.9 million over the prior year, mostly driven by increased salaries and benefits of $970,000 due to increases in headcount; higher advertising costs, again mostly related to the infomercial of roughly $900,000 on a year-to-date basis; and higher travel, meals, and tradeshow expenses driven by the timing of the Company's Annual Tactical Conference.

R&D expenses of $5.1 million are up $2.9 million over the prior year, due to an increase of outside development costs, mostly associated with the AXON product, with $1.5 million so far; higher salaries and benefits of $576,000; and higher supply costs of $287,000.

The loss from operations on a year-to-date basis is $2.8 million and the pre-tax loss is $1.6 million, both impacted by the $5.2 million charge in the Heston case.

The net loss for the year is $337,000 which translates into a loss of $0.01 per share on both a basic and diluted basis.

As I move onto the balance sheet, the highlights for the assets -- we did finish the quarter with $43.5 million in cash and investments.

This is a decrease of $16.8 million from the prior year end.

The biggest driver there is the stock buyback of $12.5 million, which we announced and completed in the second quarter.

We also made investments in inventory and property, plant, and equipment, which were partially offset by lower accounts receivable and lower prepaid asset values.

It's worth noting again that TASER doesn't have any exposure on its balance sheet to auction note securities.

Accounts receivable of $10.8 million are down roughly $0.5 million from the prior year's balance of $11.7 million, due to lower sales in the second quarter of '08 versus the fourth quarter of '07.

Days sales outstanding for the quarter were 45.6 days which helps -- is up about approximately 10 days from the prior year end.

This was expected.

We eliminated the cash discounts, so we've seen an increase in the days sales outstanding, although the aging of our receivables remains very strong.

Inventory of $20.6 million is up $7 million from the prior year.

[Net balance] of $13.5 million as the Company has invested in more inventory to support the anticipated higher sales levels.

We increased raw materials and finished goods to support both the C2 and X26 product lines and will continue to evaluate our inventory mix and inventory levels as we move forward in the year.

Prepaid assets of $1.5 million are down $2.8 million this year due to receipt of the insurance receivables and expensing of prepaid production costs on the information and amortization of prepaid insurance.

Property, plant and equipment of $26.2 million is up $2.6 million over the prior-year balance, mostly related to progress payments on the new automated production equipment.

At this point we've invested about $4.6 million in that equipment.

We do expect that we'll see that equipment installed late this year and begin to have some positive impacts on margins as we move into the 2009 year.

Total assets finished for the period with $128.4 million, compared with $137.8 million at year end.

On the liabilities side of the balance sheet, the accounts payable and accrued liabilities of $12.3 million are up $2.2 million from the prior year, mostly related to the Heston litigation judgment accrual of $5.2 million, offset by some timing differences and accounts payable and some lower purchasing activity with the lower sales levels.

The current deferred revenue of $2 million is up from the prior year-end balance due to the sale of more extended warranties.

And total liabilities are $19.6 million.

The Company finished the quarter with $108.8 million stockholders' equity.

Moving on to the cash flow information, the Company had operating cash usage of $321,000 year to date, versus a cash usage of $2.9 million in the prior year.

The cash usage was mostly driven by the increased investment in inventory, partially offset by the lower prepaid expenses I mentioned earlier.

Net cash provided by investing activities was $2.8 million, as the Company realized $7 million for maturing and called investments, which were partially offset by the $4 million investment in new property and equipment purchases.

The Company used $12.2 million in financing activities, again driven by the stock buyback of $12.5 million, which was approved and executed in the second quarter.

The Company did purchase 1.8 million shares, or approximately 2.9% of the Company's outstanding stock during the second quarter.

And the Company ended the period with $33 million in cash, which is up $9.8 million from the year-end balances.

And, with that, I'll turn the call back over to Rick Smith.

Hey, Jim.

Couple items to wrap up with -- one, on the C2 infomercial, we've continued to run the infomercial throughout the quarter.

It continues to run right around breakeven, so we have not yet scaled it up into a national buy in terms of media.

We're continuing to tweak with the infomercial.

And also, one of the challenges, given the nature of our product, it has been somewhat difficult for us to obtain network clearances on some of the major networks, although we've had some recent successes where some of them are coming around and are now giving us some approvals.

So we're going to continue to test with the infomercial, looking at different modalities of deployment.

We're looking at 30- and 60-second spots with a DVD follow-up technique we've not yet tried, in conjunction with the straight 30-minute time purchases on air.

We'll be bringing up a more robust e-commerce and on-line promotional program using the infomercial content.

We'll also be reformatting it to test deploying in-store video, using our infomercial at point of sale in different retail environments.

So we'll continue to focus on that as we move into the latter half of the year and, hopefully, a strong retail season.

Okay, to wrap up, I want to talk a little bit about the AXON again, and some of the different product initiatives with TASER.

We're very focused on broadening and diversifying our revenue base, both by markets -- by bringing new products out like the C2 that allow us to sell in the consumer market as well as law enforcement; the military markets, with products like XREP and Shockwave, and the new systems that we're working on in the R&D pipeline that are being funded by the DoD; as well as in the international markets.

As I look at AXON, it really expands our mission to providing an end-to-end solution for safer and more accountable conflict management.

And if we look at the issue from our customers' perspective, historically TASER has -- we've made devices, like the M26 and the X26 that we can give to a police officer to incapacitate a dangerous subject.

But that's not the whole problem that our customers face.

Our customers are generally police agencies that may have to manage thousands of cases of officers dealing with suspects every year.

And so the information technology that they can use to deal with that conflict is very important.

And, in fact, dating back to 1999, we were the first company in the world to introduce a handheld weapon that would download and interface to a computer network.

With the X26 we added a USB serial port, enhancing its communication capabilities.

In 2006 we introduced the concept of the TASER CAM, adding infrared audio and video recording capability to these handheld devices.

And so as we look at it, we've come to realize that we're not just selling a baton or some simple unintelligent device; all these devices are microprocessor-controlled, communication-capable networked nodes.

And to really enable our customers to gain the true value of these systems we're going to start tying these devices together with advanced wireless communication capabilities.

And at the center of that effort is the AXON system, where we can now begin to do command-controlled data gathering, both real time and after the fact, so that our customers can take advantage of that information to make better decisions, better command and control decisions.

There's an analogy in the military markets where if we look at what has made the U.S.

military so effective, it's not the speed of our airplanes or the diameter of our artillery.

It's really the information ability.

So, for example, if you look back to Gulf War One, when the United States and its allies in the coalition were facing the fourth largest army in the world, that had some fairly advanced individual equipment, we saw the results primarily because the coalition forces had much better real-time information technology.

We see that same sort of trend developing in the law enforcement markets, and for non-lethal weapons in general.

Where these devices become more capable we can enhance the effectiveness and safety of their use.

So TASER International is now really broadening our mission and becoming a 21st century non-lethal weapons company.

If you look at the major defense contractors, whether it's Boeing, Northrop Grumman, Lockheed Martin, Raytheon -- they all have significant IT system components to making their hardware more intelligent and more useful to their customers.

We are doing the same thing.

We are now integrating more tightly with our customers to give them advanced capabilities, and deepen our relationship with our customers.

So not only are we providing them tools to incapacitate, but the tools to make sure that they're doing -- that they're incapacitating the right way, that tactics, policies and procedures are being followed, and giving information tools to management to really optimize and make sure that they are doing the best that they can do for safe and effective resolution of dangerous situations.

So in this market space -- again, we've talked about there's a significant market already developed for in-car video.

In the United Kingdom they've done some experiments with on-officer video, with some pretty striking results.

Now, the U.K.

experiment was done with certainly hardware that was not as well integrated as what we're talking about with AXON.

And yet in a field trial in the United Kingdom with 300 officers participating with head cameras, they found improvements in conviction rates when they had video.

They found decreases in officer complaints, or complaints against police officers, because the incidents we believe were well documented.

We believe that video, when it is used in altercations is likely to de-escalate the situation, because when people realize that the situation is being video taped, they're less likely to, for example, walk up and strike an officer if they know they're being recorded.

Similarly, officers hold themselves to a higher standard of care when they know that their actions as well are being recorded.

So we see this as a real de-escalation tool for conflict management.

Now also in the U.K.

they found that the use of head cameras significantly improved officer efficiencies, as they spent less time writing reports because of the level of documentation that was provided by the video.

In fact, it was something like a 10 or 15%, if I remember correctly, reduction in workload for paperwork, which is the equivalent of an officer getting an extra hour of patrol time on a typical shift.

So it's like putting a lot more cops on the street to the police agency, without extra budgetary dollars to do so.

So there's a couple reasons we think that TASER can be very successful in this market space.

First is our channel.

We have 14,000 active certified TASER instructors.

Those are the same folks that the police chiefs generally rely on when they look at tools, tactics, and procedures for doing their jobs, and particularly for evaluating on-officer police equipment.

And then we believe the level of hardware integration is unique and that it fits to TASER's core competence.

We typically make devices that are developed from component level up, specifically integrated for the task at hand.

In the case of the AXON, we're developing a dual microprocessor mobile computing device, effectively, with a dedicated HD-video-capable video compression chip, as well as another microprocessor to run the communication and control functions.

We have developed the operating system.

We're using the same Lennox operating system that Texas Instruments uses on its chip set.

We've partnered with MontaVista, the software development firm that's one of the leaders in Lennox development for embedded software globally.

In fact, they maintain the Lennox operating system that's used by Texas Instruments.

So we believe we've got world-class partners in this space.

We are building out a team in house as well to drive the AXON system.

So we are investing heavily.

But we see a significant return on investment for AXON as well as XREP, Shockwave, the Shield, and the Controlled Digital Power Magazine.

So we believe that now is the time for us to invest in extending our lead.

Dan and I will continue, with the rest of Management, to look at our operating income independent of the investments we're making in R&D, make sure we keep our eye on the ball in our core business, but build out for the future.

The analogy I like to use sometimes is, ice ages are pretty tough on the weak, but they're not too bad for the strong.

The species that survive ice ages tend to flourish in the periods after.

As the environment comes back, they tend to take over many more niches.

We believe that's a good analogy for us now.

When the rest of the world and potential competitors are financially constrained and are pulling back, is the time for us to invest and extend our lead.

And as economic times return you will see us flourish in more market niches, both here and internationally.

And you'll see new technology that we'll be bringing to bear, creating new revenue streams that enhance our depth of relationship with our current customers, as well as broadening the new markets.

And so with that, we'll conclude this conference call and we'll open it up for questions.

Thank you, sir.

(OPERATOR INSTRUCTIONS) Our first question is from Paul Coster with JP Morgan.

Thank you.

Good morning.

The improvement in gross margins, of course, is much welcomed.

And first question is, really, do you feel that this is sustainable, particularly in the context of so many new products coming to market?

Traditionally, new products have tracked lower absorption rates initially and sort of weigh for awhile.

What's the outlook sort of looking out six months and beyond?

Yes, that's a good question, Paul.

This is Dan.

Obviously, as we look to new products, we're making sure that we've set prices appropriately and made sure that the manufacturability of the products as they come into commercial production is there, so that the short-term impact is minimalized.

Certainly our target is to keep gross margins above that 60% level.

And we feel that we've got the right team in place, and making the right steps now to continue to drive those efficiencies to offset any of the start-ups you have with new products.

But one of the things I think we've learned from some of the new products we've introduced over the last couple of years is the criticality of making sure that manufacturability is built into the products from day one and that, as we ramp up production that there's not any hiccups and that we can go right to commercial production without having any significant impacts to margins.

I don't know that we're going to continue to see margins improving from where they're at today.

I mean, there's some product mix and some other things in there as well.

But I think we're, Dan's saying, we're pretty confident that we'll be able to sustain the 60% margin levels in our plan.

Got it.

The R&D that you're putting into AXON, once you've got AXON ready, assuming at that point that you haven't got more new products in the pipeline which, of course, is probably an unrealistic hypothesis, but would R&D then come down in a sort of all-things-being-equal world?

Yes, we are -- a lot of that research and development money is being spent on external resources, like MontaVista.

There's a significant software element to this.

We're also using external design resources mechanically.

And then there's of course the PC network software, which we're using both outside resources and we're building some internal capabilities as well.

So the short answer is, if AXON ended up not being a success, we've not built a huge infrastructure that would be an ongoing expense.

So there is the ability to basically pull R&D expenses back down to historic levels.

Now of course, if this takes off like we think it will, then we see that that platform will provide an interesting and exciting platform for us to deliver other types of software services and communication services to our customers.

So on a success basis, we'll probably continue to see R&D levels closer to the newer levels that we're at, but it's not that we've invested in internal infrastructure to where it cannot be downwardly adjusted if for some reason it didn't work out.

Dan, I may have missed it, but can you share any of the unit shipment data, by product?

Sure.

Sure.

On the law enforcement side, the X26 we shipped 14,307 X26s and 447 M26s.

We shipped 249,361 cartridges during the quarter.

And we shipped 7,611 C2s, which is roughly flat with the first quarter.

We're hoping as we expand our retailer base there, that we could see some improvement over time.

But we're roughly flat on the C2 side during Q2.

Okay.

And then, finally, on AXON, Rick, it just sounds tremendously interesting -- I'm curious, just a stupid question really.

But the U.K.

experiment, what did they actually use to do it?

And is that potentially a competitive solution?

Yes, there are some companies in the U.K.

that have been providing both the hardware and then the digital asset management tool set.

Again, our read on it is it was more of a system integration type of play.

We didn't see a full-up, tightly-integrated component-level [op] system.

It was more cameras that appeared to be adapted, and digital video recorders that appeared to be adapted for the application.

But, yes, it's certainly not a space where we will be without competition.

There will be competition in the space.

But we believe that we have, between our channel and the engineering that's going into the product, as well as some of the advanced capabilities and the integration into the radio communications, will provide us some significant competitive advantages.

Which brings me to my last point -- what is the anticipated price point for the AXON solution?

We have announced that system prices will start around the $1,000 mark.

We've been showing this to customers, actually, with significant positive reaction.

We've met with some of the major city police chiefs here in the United States.

We've met with some of our international customers.

And they clearly see the benefits of this technology.

We have been also doing research on advanced feature sets that they'd like to see incorporated into the device.

So we view the -- the $1,000 is probably the starting point.

We anticipate average sales prices will probably be somewhere in that $1,000 to $2,000 range, but over $1,000 as we start to integrate more advanced features like, for example, GPS and some other things customers have told us they would be willing to pay a premium for.

Thank you.

The next question is from Steve Dyer with Craig-Hallum.

Thanks.

Good morning, guys.

Dan, I didn't hear that TASER CAM number.

Do you have that?

I'm sorry.

Yes, TASER CAMs we had 2,391 TASER CAMs during the quarter.

Okay.

And then, the real delta to me looks like cartridges is the lowest number in quite a number of quarters.

Is there anything specifically that you guys can chalk that up to?

I think a couple things.

One is that budget flush we talked about.

A lot of times those year-end budget monies are used for some of the consumables, it's something they feel pretty comfortable buying and just put them in their armories.

So they're coming back to us with those budget monies for that.

Last year in the second quarter we saw a significant military order that -- and the military orders are typically pretty cartridge-centric.

So actually we shipped a number of cartridges into the military, to military customers, Q2 and Q3 last year.

So that was certainly a driver in the prior year.

We have not seen that repeat order thus far this year.

But I think the budget flush was probably the biggest reason, especially for the sequential decrease.

Okay.

And then, if I'm hearing you correctly, gross margin -- it's probably a bit too much to ask maybe to stay at current levels, but 60-plus seems reasonable?

Yes, I think 60% is a reasonable target at this point.

As we talked about last quarter, product mix has a big impact as well.

There's a fairly wide range, although our products are pretty healthy margins, especially for a manufacturing company.

There is a range of almost 20 points between our lowest-margin products and our highest-margin products.

This quarter we did see a larger percentage of our sales coming from the X26 product, which is one of our better margin products.

That certainly benefited us.

But even with the mix that we've seen in the last few quarters, we expect that 60%'s a reasonable target.

Okay.

And then R&D you had said in the past $13 million to $15 million.

Is that still a target for this year?

Absolutely.

We ran about $3 million for this quarter, so that's still -- we're comfortable that we'll be certainly within those constraints.

Okay.

And then I guess lastly, I'm curious to see if you've seen any kind of anecdotal change in legal activity since the adverse ruling against you guys.

Have you seen an up-tick at all in cases brought or anything out of the ordinary?

We have seen a moderate increase in some of the legal activity.

I think we've had a total of four cases filed.

A couple, I think, were not related to Heston, one or two of them, according to Doug's best judgment.

But we've seen a couple come in that we think were kind of clearly associated with that.

So it's still down significantly from the highs that we saw in the 2005 timeframe.

But it's up a little bit over -- we were really trending down to -- we were down to about one case --

One per quarter.

One per quarter.

We saw sort of a handful in the second quarter, again, not a dramatic number, but we did see a little bit of an up-tick.

And obviously we'll monitor that closely.

And I think, depending on where the appeal process goes and stuff, I think that may drive the future litigation.

Although, as we look at it, our case record is still very strong here.

And for the vast majority of these cases, it's not been very profitable to sue TASER.

So certainly we think that the long-term trend is still positive.

Okay.

Thanks.

The next question is from Eric Wold with Merriman Curhan Ford.

Hey, good morning.

Question on the international front -- international, if I heard the numbers correctly, about 11% in the quarter.

One, was there was any significant weakness you saw from normal customers, international, or was it just a function of larger orders not flowing?

And then, two, in a comment related to the back half of the year, you -- absent any large international orders which are tough to predict -- you expected it to be kind of flat.

Can you maybe walk us, maybe not name names, but what is kind of the likely level of kind of near-term wins that you could see on the international front that you've got your eye on.

What's maybe a pie in the sky number over the next 12, 18 months to give a sense of just how significant the needle could move from the international standpoint?

Yes, this is Dan.

The international I think it's really more of sort of a timing difference.

We don't really see -- obviously, the U.S.

economy is certainly challenged a lot more than some of the international economies at this point.

I think the sales being a little of a lower percentage of our total sales this quarter versus maybe some of the historic levels, is really more I think the timing difference, and also, to your point, that sort of absence of the large orders.

We continue to be very enthused about the long-term prospects for the international part of our business.

We see that as a real potential catalyst for growth in the future.

I think the tough thing for us is that it is difficult to predict.

We think that several markets are sort of in that early procurement phase, including the U.K., France, Australia, Singapore, South Korea.

All these countries are, we think, kind of rounding out their trial phases and getting really into those early procurement phases.

And the total addressable market in those markets combined is certainly something that's very significant.

There's upwards of 500,000 officers in those countries on a combined basis.

So we do expect that we will see some business from those countries over the next, say, six to twelve months, but it's just very difficult to predict exactly when we'll see that.

But, we're working it hard and we're also working to expand the number of countries we're talking about.

We look at policing as being very similar around the world.

These guys face similar issues and we don't see that there's any reason why we can't broaden the number of countries that we're selling into.

If you look at where international has been, you've had a trailing 12-month past couple of years kind of in the mid-teen'ish kind of range.

Would you expect '09 to be a larger percentage than that?

Yes, I think it's certainly got the potential for that.

Again, I think when I look at the business and where I think the near-term opportunities for growth are, I think it's both in the international part of the business and also the consumer part of the business.

Both are large addressable markets where we're fairly low penetration today.

So certainly I think there's potential for international to become a bigger part of the business over time.

I think that next year obviously we'll have the AXON product and we'll start seeing revenues in the second part of the year.

Probably out of the gate that will be probably more of a U.S.

product, but certainly there's some international potential in that product as well.

And then lastly, on AXON and XREP and Shockwave and all those, if you could think about -- and I'm not looking for guidance -- if you think about into '09 once it's kind of starting to get commercialized, and I know AXON's kind of a back-half product, how significant could those be to '09 numbers, if you could either ballpark a percentage of revenues or something like that?

This is Rick.

Let me start with it.

Shockwave is probably the most difficult one to predict, because the nature of Shockwave.

We'll see some limited deployments with law enforcement SWAT teams.

We should see some deployment in the correctional environments where they use it along the fence lines or high-risk areas where they may need to incapacitate a number of people trying to break out of a facility, et cetera.

But the really big opportunity of Shockwave is the U.S.

military.

And traditionally they take a very long time to deploy new products and new technologies.

Now there's some exceptions which, for example, the counter- IED.

They're spending billions of dollars and rapidly moving devices to the field.

So Shockwave, the way I think about it, is sort of a proof of concept.

There's been PowerPoint presentations for a decade on non-lethal area denial systems, and we felt it was important to get it off the PowerPoint and into reality and start getting out discoursing with customers, get it in their hands, let them play with it.

Let them see how powerful a capability it could be, for example, at a checkpoint in Iraq to be able to have a safety zone where they could drop people that are approaching the checkpoint that don't stop, whereas right now they have to employ lethal force.

But the long story short on that is, if we get some units in the right hands in the military and they get them in theater and they determine that this is an important part of a counter-suicide-bomber type of equipment, we could see enormous -- maybe I shouldn't use those types of terms in this conversation -- but we could see some very big orders.

But it's a long shot.

So I would think that Shockwave, from a modeling perspective, is sort of binary.

It's either maybe $1 million a year, kind of small, nichey business, or something far more significant if the military gets behind it.

The XREP we see as being a little more -- it's going to have broader market appeal in all the different market segments for a wireless engagement capability.

So it's -- we don't have a really good feel yet.

We are doing some market analyses and market studies, but because of the nature of the product being just so different from anything out there, again, it again makes it very hard to predict.

I'd say at least it's more -- it's closer to a bell curve in terms of predictability than this binary go/no-go that we see with the Shockwave.

But we're getting a lot of interest across the board from law enforcement agencies on the XREP, although we're probably going to sell a lot more practice rounds on the XREP, which are going to be much lower dollar value than the live rounds, which is just based on any of the impact munitions or less lethal munitions.

The vast majority of them are used in training.

And then the AXON is the back half of the year.

The good news about the AXON is that we're going into a more established market for incident-recording video, where there's a fairly large installed annual budget currently.

And we think that this will help create a new market segment.

And it really does fit right in our core sweet spot of dealing with law enforcement agencies.

It would be deployed as an on-officer piece of gear.

So that, I think, could have similar adoption curves to what we saw with the M26 or with the X26, where it will take time.

But I see that as having very significant revenue opportunities over the next couple of years.

Okay.

Thank you, guys.

Appreciate it.

I will now hand the call back to Mr.

Rick Smith for closing remarks.

Okay.

Well, we appreciate everybody giving us an hour of your morning.

Obviously we wish we could have produced better results at the top line, but I'm proud of what the team was able to accomplish operationally.

I'm very proud of what they're accomplishing in R&D.

I think we're setting a firm base to take this company to the next level.

Many of you have been with us from when we went public and we were in the $6 million revenue range.

We've done a lot over the last several years, taking it to $100 million has been exciting.

And I think when you see the full picture of what we're doing, which we have not, for strategic reasons, been able to share with everybody, everything that we have going on in R&D, and our full product strategy -- but as you see it unfold over the next couple of years, I'm confident we're doing the right things to take TASER from a very exciting, new tech company to a very established, dominant market player in a variety of market settings in the security industry.

So thanks everybody, and we'll look forward to talking to you again in about 90 days.

Ladies and gentlemen, we thank you for your participation in today's conference call.

This concludes your presentation and you may now disconnect.

Have a good day.