Good afternoon. My name is Sheryl, and I will be your conference operator today. At this time, I would like to welcome everyone to the Axon Reports Q4 and Full-Year 2018 Financial Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions]. Thank you. Luke Larson, President, you may begin your conference.

Thanks, Sheryl. Good afternoon to everyone. I'm Luke Larson, the President of Axon. Welcome to Axon's fourth quarter 2018 earnings conference call. Joining today are CEO and Founder, Rick Smith; and our CFO, Jawad Ahsan. Before we get started, I want to give my mom a birthday shout-out. Now I'll turn it over to Andrea James, our VP of Investor Relations to read our Safe Harbor statement.

Thanks, Luke. Good afternoon. This call is being broadcast online and is available on the Investor Relations section of the Axon Enterprise website. You can find our reported results and our quarterly shareholder letter excuse me which is available at investor.axon.com and on the SEC website. Today's call will include forward-looking statements, including statements regarding our future expectations, beliefs, intentions, or strategies and projections for future revenue growth and profitability. We intend that all forward-looking statements be subject to the Safe Harbor provided by the Private Securities Litigation Reform Act of 1995. Axon's forward-looking information is based on current information and expectations. Our estimates and statements speak only as of the date on which they're made, are not guarantees of future performance and involve certain risks, uncertainties, and assumptions that are difficult to predict. All forward-looking statements that are made on today's call are subject to risks and uncertainties that could cause actual results to differ materially. These risks are discussed in greater detail in our Annual Reports on the Form 10-K and our quarterly reports on the Form 10-Q under the caption Risk Factors. You may find these filings, as well as our other SEC filings at investor.axon.com or at sec.gov by searching for filings under the AAXN ticker. Okay, turning the call over to Rick.

Thanks, Andrea, and welcome, everybody. 2018 was a record breaking year. We drove top-line growth of 22% and the bottom line grew more than twice as fast with adjusted EBITDA up 53%. We raised $234 million in follow-on offering, turned our balance sheet into a fortress, we acquired VIEVU, and as a result accelerated the largest Police department in the United States on the Axon Network. We released a completely redesigned Fleet in-car video system that is vying for market dominance. We released several groundbreaking software features including Axon Citizen and we booked $389 million in business in the Software & Sensors segment which is up 34% year-over-year. We also finished the year with a stellar Q4 for every product line. We had a record quarter for TASER, record quarter for Software & Sensors, record quarter for International revenue, and a record quarter for total company in bookings including a record quarter for Fleet. And of course in the last months of the year, we began shipping the all new TASER device; TASER 7 connects to our software network. We're excited about momentum and initial customer response from features and offerings in the Officer Safety Plan 7 or OSP 7 which bundles our next-generation body camera, Axon Body 3 with TASER 7 and with free Axon records for five years. We announced that at the IACP Conference which is the International Association of Chiefs of Police last October. To time it for the 2019 procurement cycle and we expect healthy tax rates in the back half especially once AB3 starts shipping. We're seeing great customer response to the TASER 7 premium certification plan. Our major city agency customers in particular view it as a significant upgrade over the X2. Demonstrating this for the first time in the history of TASER,…

Thanks, Rick. The year is off to a strong start with several key wins. We look forward to welcoming the Swedish Police Authority on to the Axon Network. That's the first European nationalized police force to deploy Axon body cameras and go on the Axon Network. We also received notice a few weeks ago that the Phoenix City Council approved a $5.7 million contract with Axon Enterprise to provide 2,000 body cameras for the Department and evidence.com. We have a few more wins up our sleeve for both TASER 7 and body cameras that we look forward to announcing in the coming days and weeks. Some of you who have been with us for a while know that in late 2017, really led by our new CFO, Jawad, we pivoted our company culture to focus more on driving profitability. It was important for us to demonstrate leverage on the body camera business after years of heavy investment. So one year ago, I stood up in front of the company and I declared that I'd shave my head if we hit our 2018 EBITDA goals. So it's with mixed feelings that I share with the team or share with everyone that the team rallied and we did indeed hit those goals. In fact, we exceeded them. Even accounting for about a $10 million related loss with association of acquiring VIEVU in May, and so several employees took turn shaving my head on stage during our annual company kickoff which we privately broadcast to Axon offices all over the world. It was a pretty great moment for almost everyone except my wife. I also got a heck of a sunburn after Phoenix Open and I'm sharing this with all of our shareholders to let you know just how committed I was to…

Thanks, Luke. I've never felt better about how the company is positioned for growth. We've proven we could execute. In 2018, we did what we said we're going to do despite a pretty substantial headwind from VIEVU in one of their large domestic customers. We have terrific momentum on our top-line driven by investments in our products and teams with International picking up and the Fleet business vying for market leadership. I also feel great about having more than $800 million in total company backlog and the fact that annual recurring revenue for Software has crossed $100 million in 2018. Axon Records and Dispatch are right around the corner and we feel good about records coming online and contributing to bookings in 2019. On the bottom line, this is the first year in our company's recent history that we hit our profitability goals and we expect that to continue going forward. I'm very proud of the team for embracing a new level of financial discipline. Turning to the balance sheet, our strong cash position gives us an incredible amount of resilience. In 2018, we generated $64 million in operating cash, up from $18 million a year ago. That combined with the follow-on offering gives us about $350 million in cash which puts us in a strong position to flip the switch on selling TASER subscriptions. Equally important, we have the financial muscle to continue investing in our four strategic growth areas to drive ongoing innovation and market leadership. The guidance we're providing today reflects strength on both the top and bottom line. As we look at 2019, we expect momentum to build throughout the year. Q1 sales reflecting a more modest growth rate relative to the back half. We will continue investing for growth with increases in R&D as a percentage of sales throughout the year. We plan to partially offset that by reducing SG&A as a percentage of sales. SG&A as a percentage of sales dropped from 40% in 2017 to 37% in 2018 and we expect to further reduce that in 2019. Our teams are incredibly excited about our success in 2018 and they're highly motivated to keep the top-line growing and maintain the operating discipline needed to drive bottom line results. And with that, operator let's turn to questions.

[Operator Instructions]. The first question comes from the line of Mark Strause of J.P. Morgan. Please go ahead. Your line is open.

Yes, thanks everybody. Thanks for taking my questions. So Jawad, I think you've done a pretty good job of laying out the one-time items that were weighing on margins in fourth year. But just question for the guidance, how should we think about the -- I guess call it one-time items associated with VIEVU and the large contracts that they have. Are there any more expenses that we should expect here in the first half of 2019? And then kind of a quick follow-up to that is your guidance kind of points to EBITDA margin expansion a bit below your kind of long-term targets that you've talked about over the last year or so? And I guess how should we think about that longer term, are you kind of stepping away from those targets or can you reiterate those?

Yes, great question, Mark. I'll start with the VIEVU one. So look VIEVU was dilutive we knew that when we acquired the business and we had issue with that one large customer domestically, ended up being more of a headwind than we counted on. And we're still working very hard to get that business integrated and to rationalize some of the duplicative costs and to make sure that it's no longer a headwind going into 2019 and we're certainly not going to see the level of dilutive costs that we saw last year earned in 2018. We are expecting still in Q1, I would say see some costs as we continue to just rationalize some of the cost base there. But it's going to be an order of magnitude less than it was in 2018. And then on the -- on your second question that's -- it's also a good question. What we're looking to do very much is still to drive leverage and we're not stepping away from our guidance but we are just again facing this headwind from VIEVU and also part of what you saw in our Q4 results was that the TASER 7 ramp costs ended up being higher than we're expecting and we're expecting to see a little bit better than in Q1.

Okay, that's helpful. Thank you. And then you're mentioning I guess you're kind of adjacent markets more in the press release. Can you talk about the incremental expense associated with that, that's kind of baked into your 2019 OpEx and then if there's anything high level that you can share to kind of help investors frame the addressable markets for those that would be helpful? Thank you.

Yes, Mark. I'll handle the first part of that question. In terms of growing OpEx to support additional markets, we actually have several key members of our team that are working on new market expansion and one of the great motivations for them, we actually had quite a few senior individuals on our customer facing teams opt into the XSU plan and so they're working overtime to figure out how to open up these new markets. So we don't see any great OpEx add there. I think this is -- we're going to continue to drive leverage in SG&A and still be able to open up some of these new markets. In terms of the focus of those markets, we really see an opportunity in what we would call very adjacent markets like EMS and Fire and we have teams talking in those, they're not quite as big as the law enforcement market. We also have had some interest from additional markets as well. I'm actually going to kind of keep that pretty tight lipped for now just because we don't want to release any competitive intel.

Your next question comes from the line of Will Power of Baird. Please go ahead. Your line is open.

Good. Thanks for taking the question. Maybe first just coming back to the 2019 revenue guidance and the expected build through the year off -- off of Q1. I guess just be interested in the visibility into the second half kind of the key drivers. I guess Body Camera 3 as part of that any reason why TASER 7 wouldn't continue to build off of Q4 or through the first half and then I guess continue to build in the second half. So just trying to understand the visibility of that second half improvement in revenue?

Yes. We're expecting TASER 7 production to be fully ramped by about the midpoint of the year and so what we'll see is a pickup in revenue in the second half. And then what's going to happen is there will be sort of a force multiplier effect with AB3 and lot of those upgrades are also coming up in the back half of the year. So T7 being fully ramped as well as AB3 upgrades in the back half of the year are going to lead revenue to be, the profiles tested [ph] in the back half of the year.

Okay. And then on the four key kind of strategic growth drivers that you talked about in your presentation or the release. You talked about Records already pushing for bookings and key customers later this year. I guess I could hear much more on Dispatch, I'm just curious what's your thinking there and timing from here?

Yes, why don't we Rick take that question?

Thanks, Luke. Yes, just that we are not releasing a lot for competitive reasons on that point, it's an area we're pretty excited about. Stay tuned in person call later in the year and we will provide some more details on it but for now we're keeping on fairly closer to that.

Your next question comes from the line of Jonathan Ho of William Blair. Please go ahead. Your line is open.

Hi, good afternoon. Can you hear me? Okay.

Yes.

Perfect. So just wanted to start out in terms of your bookings expectations around RMS. I know you talked about the second half being the opportunity timeframe but what magnitude of bookings should we be thinking about. And can you give us some color in terms of the types of customers you'd be targeting initially?

Yes, I can take that one. This is Rick. So most of the early bookings actually we expect to be as part of the OSP bundles. We have some safety plan bundles and we included Records in that because we think that the real target market for us are people that our agencies that are already using the majority of our ecosystem with TASER weapon, the body cameras and Cloud software. So the real player we see the opportunity there. Now there is some revenue allocation that is allocated towards Records. I'm actually in a different area of the country from Jawad, and look Jawad, we -- I said we're not giving any more details in terms of how that revenue allocation is being handled at this time.

No, not this time.

Okay. So we really view it as part of the overall enterprise sale and the reason to include Records is a free add-on in that sales, we see the real value long haul is in the data not in the software itself. So fundamentally Records software is form filling software, it's the forms and reports officers fill out and we think that no matter how good your form filling software is, it will largely be a commodity. And as such when we see things that are commodity, our general strategy is to have a more aggressive go-to-market plan. And in this case, we decided to make it free in that bundle. And the rationale really is that the real value-add will be in the automation. It's possible by connecting the audio, video stream from the camera to the Records management software so that we can begin pre-populating and ultimately over a seven-year time horizon we believe we can dramatically cut the amount of time that officers spend filling out forms. We fundamentally, a law enforcement interaction is what my AI team sort of points to is a really great target for machine transcription because they're very structured conversations. Hello sir, what's your name? Where do you live? What's your date of birth? And with that sort of a structured conversation to be able to extract that information from the audio/video record and pre-populate into the printed record is something will be hugely valuable. And just give you an idea, I talked to one major customer in the U.S. and they had spent recently something like a $40 million contract on a record management system over a multi-year time period. But that same agency spends about $1.6 billion a year on payroll and their officers are spending about half their time doing administrative tasks. So the value creation opportunity is for us to automate that $800 million payroll cost that's going on value added bureaucratic tasks. And so that's where you'll begin to see, so you will see revenue associated with records. It will largely be a function of allocation against the bundle in the early years and then we're really kicked in is when we add the high-value analytics and AI automation that connects the body cameras to records over the next three to five years.

Excellent. Thank you for the color. And just as a follow-up when we look at sort of the strengths around TASER 7 and the excitement that you're seeing in the customer base. Can you talk about how maybe that impacts OSP. I mean are you seeing other customers that have historically been sort of hardware only now want to refresh TASER 7 and look at the broader bundle or like how does that potentially maybe change that mix?

Absolutely, go ahead, Rick. Yes, we see a great opportunity every time we get in front of our customers to talk about the total Axon Solution and so the strength of our portfolio is when all those products are used together, the agencies see additional benefits. And so every time, we're in, talking with a customer about any one of our products, we're kind of highlighting the benefit of the total solution. Over to you, Rick.

Yes, I would say, the TASER 7 definitely it has a much stronger data integration element to it. Actually just yesterday, I was going over with our design team what they did on things like device assignments which doesn't sound particularly sexy or even the returns process but we're an agency is deploying thousands of TASER weapons. How you write down serial numbers and type them into a spreadsheet later versus now we do it with a mobile app where you tap it on the device and assign it to an officer. We're doing thousands of these. It just dramatically improves the experience and that's all part of that integrated software ecosystem and with AB3 that compare to your TASER 7 it starts to allow things like real time alerting. So that if an officer arms or fires their TASER 7 in the field, that alert can be routed to other officers within the agency or administrators and their service calling aware which really could help the agency be better aware of what's actually happening out in the field. And I dropped by saying, I'm -- to me the most exciting things coming this year will be Axon Body 3 because I think fundamentally we're poised for an iPhone moment meaning when the iPod went to the iPhone, the initial perceptions well my music player now has a phone in it. And now, as you look back at it, like pretty rarely people even use the thing as a phone anymore it became such a transformatively connected device. We see similar opportunities in effectively today; we make sort of a Nuance Go Pro type of camera. We make a great camera that the officers wear and they download the information and use it later. Once LTE kicks in, we'll be able to offer all kinds of real time services that will sit on top of that -- on top of that hardware platform, so the cameras become something more like an Alexa on your chest as opposed to just a camera you wear to record. And we think that will open up a whole host of really interesting services, some of which we're already planning for and some of which we think we'll discover once that connectivity comes online and we're out in the field. And by the way, the significant majority of our customers in the U.S. are on a hardware upgrade program and so they will get Axon Body 3 sort of like clockwork as part of their subscription which is a really big part of what the customer benefits that they, we carry them into the future with both hardware and software upgrade features. And it's great for us because we can plan our roadmap. We don't have the sort of plan to indefinitely support the last three generations of cameras. We can move our installed base along with and that gives us flexibility to move and innovate faster than any of the competitors in the space.

Your next question comes from the line of Jeremy Hamblin of Dougherty & Company. Please go ahead. Your line is open.

Thanks for taking the questions. I wanted to ask about that. You mentioned the time to rebuild the TASER gross margin. Can you give us a better sense maybe a more specific timeframe in which you think you'll get that business back into that 69%, 70% range on the gross margin?

At this point, Jeremy that's something we're going to see throughout 2019. It'll successively build, there's a lot of factors there obviously we have the ramp costs that we're dealing with in Q4 and we're going to see it in the first half of the year until we're fully ramped. And then we're also still very much at the point where we've got trading credits that are in the mix in the discounting although we have changed the incentive structure with the sales team to minimize discounting. There's still some early leader pricing going on, there's some trading credits. And so what we're going to expect to see is throughout the year those margins will built and hopefully exiting 2019, there will be more in a normalized basis.

Got it. That's very helpful. And then just in terms of you've talked about investment and as we think about our R&D outlook this year, you had a little bit lower numbers here in Q4 as we think about 2019 in your R&D investments. How that's going to reflect, I guess the new product launches Axon Records coming along. How should we be thinking about that particular line item?

Yes, good question, Jeremy. So you've seen, we've continued to increase our investment in R&D. We're very excited about the opportunities that are ahead of us certainly in the markets that we're addressing today. But there are some new opportunities in adjacent markets and we're very excited about Records and Dispatch as well and what we don't want to do is under invest and miss out on those opportunities. And so for 2019, you can expect that our R&D as a percentage of revenue will be slightly above 20% and that's up from about 18% in 2018. It's up from 16% in 2017 and what we're doing to help offset that, if you look at our SG&A as a percentage of revenue, that's coming down, so it was 40% at the end of 2017, about 37% at the end of 2018, and we're going to expect to drive that down even further in 2019 closer to about 35%. And so what we're very consciously doing is driving leverage in our support function costs and reinvesting those dollars into R&D.

Okay, great. And then just a follow-up related to that question which is in thinking about Records specifically in terms of the timeframe in which that's going to be a revenue generating product. Can you give us a sense in 2020; is that something in early 2020 in terms of revenue generation or more the second half of the year?

Yes. So as Rick was saying earlier, we're actually selling Axon Records today bundled in with our TASER 7, OSP offering but we would see that being a contributor in the first part of 2020.

Okay. Thanks guys.

Yes, I can just add a little color there, we don't expect that we're going to be selling many standalone deals with Axon Records because where our solution would be particularly strong is in the integrated piece of the Axon Ecosystem which it just so happens, that's where the major agencies are already on. So you'll see it's growing up in these bundled sales and we'll start recognizing revenue as soon as the product is in general availability with features that meet the Rev Rec guidelines that our customers conserve gaining utility from those features, we expect that to happen late this year.

Right. That was really the question of when that product is going to be recognized as revenue. But I think we got the answer. Thank you.

Your next question comes from the line of Mike Latimore of Northland Capital Markets. Please go ahead. Your line is open.

Hi guys. Thanks for taking my question. This is Pavan [ph] on for Mike Latimore. I have two questions. My first one is like what percentage of your TASER sales were sold on a recurring plan and has upgrades?

We're just going to track that down. We got that shareholder letter.

35% of all weapons sold in Q4 were on a recurring payment plan and in the U.S. specifically it was 48% of new TASER contracts and I believe it was almost all T7 was on a recurring.

Yes. And my second question is like could you give us a sense of your backlog of evidence.com seats not yet activated?

Yes, we do have that. It's generally about 20%.

Yes, it's about 15% to 20% of our booked seats.

Yes, thanks. Thanks for answering my questions. Bye.

Your next question comes from the line of Saliq Khan of Imperial Capital. Please go ahead. Your line is open.

Perfect guys. A quick question for you on my end first one is could you give me a bit more granularity on the actual Fleet 2 either regarding your expected revenue or the margin contribution and even more importantly is are you seeing any competitive pressures from the likes of WatchGuard?

Yes, so why don't I start with the back half of your question. We have really seen demand for Fleet 2 and are just really proud of the kind of market's response and the demand for Fleet. We sell the majority of our Fleet products just like we do our cameras where we sell them on bookings or they'll buy on a five-year contract and then we recognize that over a five-year period.

Saliq, if I could contribute as well, I would say a couple of years ago WatchGuard was the clear market leader in in-car video. And by the way they are a company we hold in high regard. But I say we've been quite competitive. Our competitor Intel tells us there have been quarters where we've been the market leader on a dollar bookings basis and we continue to feel that the momentum is heading our direction. So we feel really good about within a year or two of launch we've been able to be a strong contender for the number one spot. And we think we only get stronger with time.

Perfect. Go ahead, please.

I want to provide some extra color, we shipped about 4,000 units in the quarter and we're expecting in 2019 a quarterly run rate to be at or above that level.

That's very helpful. Thank you for that. Guys, two more questions on my end as well. You may have touched upon the first one but the Axon inflection to sales; I noticed that they had declined roughly 3% year-over-year. Is that because you're seeing some of the sales be cannibalized by your other offerings? Or is there something else going on that I may be missing.

In IACP, we announced our Axon Body 3 Camera. And so we've been working with a lot of our customers on how we would transition them over to the new technology that's going to be shipping this year.

Yes, this is Rick. I want to add in there. In general, I think we've seen the market shifting in favor of the Integrated 1B Body camera versus the 2B, the original concept of Flex was that it would be a head mounted camera, it tracks the perspective of the officer and what we've found is just in practice officers really do not enjoy wearing the camera on their head, so they tend to wear it on their shoulders et cetera and that ends up really giving you a suboptimal experience, using up the narrow field of view and it's not ultimately tracking the officer's head. So I'm continuing to see a trend where officers and agencies are just moving towards a more simplified body camera design that both AB2 and now AB3.

Yes, I would have mentioned that as well. I think the form factor and ease of use altogether for the AB3, this seems a lot better than what I saw with the Axon FLEX, so nonetheless it's a great product now. Last question on my end guys, Rick you have done a ton of work with this in the past. I believe you continue to do a lot more of this. If you take a look at the International business that tends to be a big difference, due to the four agencies that are out there. What have you done over the past year or two to be able to improve the predictability of your International business?

Yes, the main thing we have done is really hiring dedicated sales people in market and I think we've got a pretty good model of what it takes to open a market. I don't get into detail here. We have competitors on the call about how we resource markets. But I think we've got it down to where we were able to replicate that as we go into new markets in a pretty efficient way. We did just come off a record period in International sales and we do expect the year ahead, we could really start to see International continue to blossom really across the world but I think in Mainland, Europe are areas we've got our eye on. I was there in 2015, 2016, it has been two, three years and so we're now starting to see some national police forces like we saw in Sweden. And we've got some others that are in field trials of both TASER weapons and cameras.

Your next question comes from the line of Scott Berg of Needham. Please go ahead. Your line is open.

Hi everyone thanks for taking my questions. I have one and a follow-up, I guess first of all I don't know if Rick or Luke want to answer the question but can you give us a sense of what you saw from customers in the quarter that were evaluating the new TASER 7 in terms of their willingness to purchase subscription. I heard Andrea give the metric that the vast majority of the sales in the quarter on the TASER 7 were subscription but how about maybe a broader comment on the conversations you had?

Rick, why don't you take that? Yes, sorry. So when we historically, when we were approaching customers a lot of the early TASER purchases for M26 and S26 were out of -- they were out of their discretionary funds usually kind of chunks of cash that they could spend on whatever they wanted. Now we've effectively positioned the TASER as mission critical gear. So the majority of the agencies especially in the States have actually come to us with a pull to put that into their operating budget which really aligns with our subscription plan. So I would see over the next three to five years, we would expect the vast majority of our U.S. customers to buy on a recurring service plan. Now we do want to keep in mind that they still have some of these discretionary funds and that's the way they like to purchase. We're never going to turn away VIEVU. But I would see the majority of the customers looking to buy on the subscription plans.

Yes, I would add to that as well. TASER 7 is globally interested in that virtually every sales it has a subscription element even if they buy the weapon, there is a subscription element for the docs rechargeable batteries and software services that we really need to effectively run the program even if they bought the weapons outright. So my [indiscernible] every significant order in the quarter had some subscription element and I can't think of one offhand where the customer came in and said, no, no we are going to buy the weapons and only give the subscription for the smaller parts. There may be some of that. But the tone of the market is quite different whereas three or four years ago when we started offering payment plans for weapons, I would say the majority of customers would come back and say no, no, I want to buy this the way I've always bought it and pay you one-time and own it whereas now the majority of the larger customers where I'm having personal exposure they are almost, well they're all that I'm aware of that I would just go to one of these officers safety or certification type plans where it's a subscription model.

Got it, helpful. And then my follow-up would be on in your press release you mentioned some incremental investments outside of law enforcement like Fire Departments, emergency medical, or emergency services et cetera. Can you maybe quantify what those additional investments or those incremental investments look like here in 2019 and then how about any other success stories in your endeavors outside of law enforcement outside of the -- I think it was the Charlotte Fire Department that was a big wondering there? Thank you.

So I will start with the level of investments, you can expect that we'll make those investments within the guidance that we've given for R&D. So we've guided to north of 20% R&D as a percentage of revenue and that's inclusive of the investments we're making for adjacent markets and at this point as part of the overall bucket, it's still relatively minimal.

Yes, I would just add there that well we're mostly focused on how we take the same products and features set that we've created for law enforcement and find other enterprise users that would want similar capabilities. And in fact this is one where having law enforcement as reference customers is pretty, it's pretty powerful because that's seen by enterprises as a fairly elite very data secure oriented market where we're the clear leader and now we're looking at how we can parlay that leadership into revenue in other markets where we're doing a pretty scrappy way. So just going with Jawad said, it's not something you will see broken out. It's not -- these are nowhere near the level of investment that we're making into major initiatives like Records, Dispatch. This is really taking the major investment we've made in building these connected body cameras and now taking those into new markets. So from a SG&A perspective, I think our expectation is that new markets should pay for themselves relatively quickly. There's not going to be some huge upfront marketing and launch expense. We're moving to these markets in pretty cost effective way.

Yes, actually I want to add to that, I want to give Rick and Luke lot of kudos here. Previously when we thought about getting into new markets, new products, we made pretty heavy investments. And what we've done recently is really shift to this smaller scrap your mindset and Rick and Luke to pioneer these Delta teams that you've heard us talk about where we'll take very small teams of one to three people and basically have them bootstrap their way into growth and we've done that with our drones business. There's some other new product categories we're getting into we're doing this and it's proving to be we're very, very excited about the early returns, we're seeing from these from these new products. So there is certainly markets for existing products like body cameras and TASERs that we're looking for markets outside of law enforcement but then there's also new product categories that we're approaching in a small scrappy mindset.

Your next question comes from the line of Steve Dyer of Craig-Hallum. Please go ahead. Your line is open.

Great, thanks. A question on the TASER business, one question on Software and Sensors. On the TASER business, I think you touched on a little bit of a gross margin degradation, operating margin of 18.5%, to what would you add back in other words a one-time FX but if you add those back what do you feel like a good sort of normalized operating margin in the quarter was?

So for TASER, we were looking at your, one second, we've got here. On a pro forma basis, so yes, I mean this is part of the issue we have Steve is that we're really -- we are no longer breaking out SG&A by segment because a lot of our SG&A cost, actually most of our SG&A costs were allocated to TASER and it wasn't very meaningful to look at that by segment. And so we look at our gross margins by segment, we look at our R&D by segment but SG&A we really look at on a consolidated basis. So I would really point you to focus to the TASER gross margins and that's something where like we had said in the short-term 61% to 63% and we expect that to normalize by the end of the year.

Got it. I guess one of my questions going is not that long ago, a couple of years ago as recently as that the TASER business was mid to high-30s operating margin business and it's sort of gradually declining over the last couple of years and I calculated 18.5% this quarter on an operating basis but I realized with a couple of one-time things playing out. And if guess what I'm trying to figure out, is the TASER business structurally different in any way than it was a couple of years ago or is pricing different, I mean I would think if anything more people on a subscription plan or that could be more profitable but anything going on there that I can make that curtailment?

Yes, so Steve, that's very perceptive and what you're seeing is that the company overall is much different than it was a couple of years ago and a lot of the infrastructure that we've added from an SG&A standpoint is servicing the entire company but all those costs have been burdened in TASERs. When you look at the TASER operating margins over that period for sure, it's going to have degraded but that's not really reflective of what's going on in the TASER business because again we haven't been allocating those costs to Software and Sensors which is why we're really looking at gross margins by segment and SG&A, we look at it on a consolidated basis. Again I've already given you the guidance for the gross margins on TASER. So it's taking a bit of a step back as we're ramping up TASER 7 but we expect that it's going to normalize throughout 2019 and we also feel really good about the body camera business if you take out those costs for VIEVU those one-time headwinds. We actually were very close to break even.

Got it. That's helpful, thanks. I guess one more question on weapons, well I had is on TASER 7 is your expectation that the buyers of that product will typically be people who already have TASER devices, do you at this stage sort of any new sort of conquest sales for people [indiscernible] like this going forward. What do you expect to get that growth from?

I'd like to start with this before I turn over. So one of the things that I'm very excited about with TASER 7, so a key part of our strategy has been to shift towards a recurring pricing model with the TASER weapons. First we have always talked about the five-year useful life and that should be a driver of new sales. And then we talked about shifting from CapEx to OpEx and really being a line item in the budget. And for the first time, what we're seeing is demand for the new TASER weapon on the merits of the weapon being very good historically for X2, for S26 piece and five-year useful life. It's been the shift to OpEx but now what we're seeing is people actually want the TASER 7 because it's so good.

Yes, our -- we think every Frontline officer should carry a TASER. It wasn't that long ago that Chicago PD had a high profile incident where they called for a TASER 7 times and they didn't have one in the wake of that incident, they really made a push to get them on all Frontline officers. So we're working on filling out every, every major city, every white space, we believe Frontline officers should have TASERs. And then internationally, we're also seeing a big opportunity where historically we've seen smaller percentage of forces just a percentage deploy and we're now making strides in positioning hey this should be carried by every officer.

Last one for me, just as it relates to body cams. They've been out there now for a few years and to the point just starting to see some opportunities for renewal. Where are you seeing as people come up for their first renewal, some of the early adopters of body cams certainly good thing to speak up or any color there would be great. Thanks.

Yes, one of our margin or one of our metrics for last year was actually on churn and retention. So we're laser-focused on every deal ensuring that when they come up for renewal, they stay on the Axon Network. We've not rested on our laurels, we're investing in making these products even better and offer more capabilities like the AB3. So both Rick and I are taking an active role in meeting with major cities. This week we're both going to be out at different major cities along with our Chief Revenue Officer, not only talking about the body cameras, but talking about the entire OSP 7 offering with TASER 7 and records but we feel very, very confident that we've got a sticky solution with the entire Axon offering.

A follow-up, is there any steps that you are able to carry just around any first time any renewal percentages et cetera?

I'm sorry, could you repeat that. Your line is really staticky. I couldn't make that out.

Yes, I guess that I am looking for some of the early adopters come up for renewal on the body cam, is this still anecdotal or quantitative numbers shifting back around the first kind of renewal or anything like that to suggest that it's a long-term sticky product.

Yes. So for the first time last year we changed our bonus metrics, they were previously all commercially focused and for the first time last year, we introduced some profitability metrics. We also introduced some mutations and we had churn as one of the metrics and it was less than a third of a percent. It was practically zero. And we had I want to say about 20 different accounts up for renewal and so it's been a very sticky product. Actually a lot of what we're seeing is that the customers don't even go the full five years end up renewing early and adding scope, adding users and scope of work to their contracts.

Yes. I would also offer when they go on -- when they adopt Axon Body Cameras, we're not only offering them cameras, we're going into their operating workflow where the officer learn -- gets to learn the product. They also day in a life they're talking not in a dock. That's infrastructure that we actually install on site and then all of that evidence uploads evidence.com which is now we have over 40 petabytes of data on evidence.com. So we want to continually provide new value to the agencies but we also have really cemented ourselves in that workflow with the infrastructure that we've put in place as well as just the amount of data that they're uploading to the SAP system.

Yes, this is Rick. Just a finer point on it of all the agencies large enough to get on my radar screen last year, there was only one that did not renew and that was not a customer that basically was a customer that had a small T&E, mainly a small TACT number of units that they were not actively using. So that's the sort of customer you'd expect wouldn't have renewed, if they got a small number and for whatever reason didn't deploy them but every significant customer with any decent number of cameras on the network renewed last year. So they should not done with what I said. But we're very happy to have customers are finding utility and there far we did -- we saw a lot of customers last year upgrade early because they wanted to add whether it's a TASER 7, whether it's adding Fleet, or any of the other new features, we're seeing that that is a very common phenomenon on that. And once agencies do go through adding something onto their contract, it's pretty universal. I'm looking at my team to make sure [indiscernible] that most of the time if they're going to go through a procurement, they want to co-terminate and extend to another five years, so they don't have to keep going through another procurement process and let's say once you because we've created another value prop for them to come in and increase it. At one-time it is working I would say better than I could have anticipated when we got into this business.

Your next question comes from the line of George Godfrey of CLK. Please go ahead. Your line is open.

Thank you. Thank you for taking my questions. Question one for you Jawad, adjusted EBITDA is $82.5 million at the midpoint. And I'm just thinking that in 2018 adjusted EBITDA came in at $61 million, free cash flow was $47 million, so 77% conversion rate. Would you expect a similar conversion rate on your adjusted EBITDA in 2019?

Directionally, yes. I think it'll probably. So what we were generally expecting to see a bit of a air part or a bit of an impact on cash with TASER 7 because most of those sales obviously on subscription versus the upfront like booking shift model for the previous weapons so we haven't seen as much of an impact because we also now have had customers on these recurring deals for some period of time and with these, then making there -- with that base building, it's less of an impact. But directionally it's going to be about the same maybe slightly lower, maybe slightly lower but about the same.

Got it. And then second question more a high-level. I've read through the announcements again just now for the Swedish Police Authority and taking action on body cam. I'm just curious what your sales picture is probably very similar across countries. But I'm just curious what did Sweden latch onto or what pushed them over the goal line versus other countries that you're still having to work through to get them to sign a contract?

Yes, so in international, we have a slightly different sales dynamic in the States, we've got these municipal agencies so they're much faster sales cycle. There's also a lot of now earned comfort with going all in on the cloud. In Europe, in Continental Europe in particular we're still working with some countries on issues around data sovereignty in some kind of mid-tier markets. They actually have infrastructure gaps like they might not have access to constant connectivity for like cloud-based solution. And so in Sweden, we have a great kind of reference customer. They're close to Greater London Metropolitan Police and other big agencies in the UK. And so I think all of those factors made it very compelling for them to go onto the Axon Network.

So Sweden is more comfortable with their infrastructure data connectivity versus say in Italy or Germany?

In Germany, in particular, there is a lot of sensitivity around working with German providers for technology and infrastructure or we've hired on the ground German customer facing rep. We're still in the process of developing the right technology and implementation partners in Germany and that is -- those are kind of slow down the adoption cycle.

Got it. Thank you for taking my questions.

Operator, before we go to the next question, we can go a little bit few minutes already. So I just wanted a quick point of clarification of something that's been said in the last couple of minutes and it's pretty clear in the shareholder letter that the gross margin guidance for Q1 and rest of the year is 61% to 63% for the whole company not the TASER segment. So just want to make sure that was clear. Okay. Next question please.

Your next question comes from the line of Keith Housum of Northcoast Research. Please go ahead. Your line is open.

Good afternoon. Thanks for the question. Guys as we are looking at the TASER 7 acceptance, I noticed about the 11% acceptance rate in the quarter. And I know you guys are saying it's going to ramp up throughout the year. Can you provide a little bit of color on I guess how fast you expect it to ramp up and you expect to perhaps exit FY 2019 with 100% TASER 7 sales going forward?

We wouldn't expect a 100% on TASER 7 sales, 20% roughly 20% of our business is going to come from International and that's going to be a slower market for TASER 7 as we clear all of their regulatory things that we need to have in place. In the U.S., we would see we think the majority of the deals will end the year with TASER 7 being our number one seller. We will have some agencies that may be laggards or have price sensitivity in which case we've got a great offering in the X26 piece so.

Got it. And then Jawad, if I look at the profitability of the T7 under the subscription plan, I noticed in the release you guys talked about 45% of the revenue being recognized at the time of sale. What would be the profitability at that point in time? It would be the same percentage as the sale or no?

So they're actually -- there are two models that we sell the TASER, the one is a $40 monthly and one is $60 monthly and 45% is for the $60 month plan. The $40 plan actually has more revenue upfront, it has about 75% revenue upfront and that's because of the $60 plan more of the revenue gets allocated to software components. And so that profitability will depend on the mix of the two plans. But overall, we expect the entire companies that the margin -- what we will see is that the margins will then start to tick up on the software side.

So maybe if I ask the question a little bit differently, so if let's say the 60 month plan, 60 bucks a month, 45% of the revenues recognized at that point in time. Does that mean 45% of the cost is also recognized at that point in time?

No, well the -- no the costs for the weapon will be recognized upfront. And the less revenue then it would see under the $40 a month plan. So the margins would actually be less, if we have a higher mix in the $60 monthly.

I will take that offline as well. Thanks, appreciate it.

Your next question comes from the line of Glenn Mattson of Ladenburgh. Please go ahead. Your line is open.

Hi, I know it's really a recent event but I'm just curious to see, if you guys are hearing anything in the field out there but the recent Supreme Court ruling that prohibits excessive confiscation in the terms of asset forfeitures and what that would mean for Police budgets going forward and especially in light of the fact that it's a kind of a major price increase. Your next, the current officer safety plan, so if you're going to continue to see success with that program then I guess you would be taking share from a shrinking budget potentially. So just generally your thoughts on if you're hearing anything yet or what you think you might hear down the road from that kind of a ruling?

Yes, so this is Rick. So we've seen no real impact from it to-date. I would say this is one advantage of getting into the annual budgets. The things get hardest hit by those asset forfeiture would be the one-time purchases where agencies, they have an event that leads to some confiscated assets. This leads to some money that they can buy things with. That's overall a relatively small portion of their overall budget and that's more again just the things that they buy one-off. Our business is become ever more integrated into the line budget line items. We've become less susceptible to those sort of whims of faith based on what they may or may not have in terms of complications recently. So we haven't seen much of an effect and I don't anticipate there to be much of an effect especially given the shift heavier to subscription.

There are no further questions at this time. I would like to turn the call over to Rick Smith for closing remarks.

Great. Hey everybody thanks for coming on the call today, come out and see us and accelerate our Annual User Conference, it’s coming up the end of April and the 1st of May we will have segments targeted for investors so you can come out and see hundreds to thousands of our customers and some of the new stuff will be showcasing as we move into the back half of the year. So thanks everybody and have a great day.

This concludes today's conference call. You may now disconnect.