Abrupt start: Mr. Josh Isner; and Chief Product Officer, Jeff Kunins. We feel great bringing you guys the whole team. First, we're going to get prepared remarks, and then we'll bring our analysts on camera for questions. I hope everyone has had a chance to read the shareholder letter, which we released after the market closed. Our remarks today are meant to build upon the information in that letter, which is very robust. If for some reason there's an internet outage beyond our control or we lose Zoom connectivity, we'll make every effort to post a copy of our prepared remarks to investor.axon.com this evening. During this call we will discuss our business outlook and make forward-looking statements pursuant to the safe harbor provision of the Private Securities Litigation Reform Act of 1995. These comments are based on predictions and expectations as of today and are not guarantees of future performance. All forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially. These risks are discussed in our SEC filings. Please go ahead, Rick.

Thank you, Andréa. And thank you everyone for joining us today. During our last quarterly update in May, one of the biggest issues we addressed was how we were managing our business through a pandemic. One quarter later, we have so much more to talk about because we've all watched thousands of people take to the streets demanding police and public safety reform. Our company's reason to exist, our mission is for exactly moments like right now: to protect life. We are on a mission to make energy weapons so safe and so effective that we make bullets obsolete. We preserve truth; body cameras protect officers from bad claims and citizens from bad behavior, increasing transparency and reducing social conflict. We accelerate justice with advanced cloud software and AI that have the potential to make the entire justice system more fair and more effective. When you think of gun violence, social conflict, and a fair justice system, most people don't think of these as technology problems, but as political problems. We frame them as problems where technology can play a transformative role. Now, look, technology is no panacea and it cannot solve these problems for us. However, almost any problem can be solved faster and more effectively with the right technology tools to help people solve them. As we look at all the pain and anger today, we ask ourselves what we can do to help promote equity. Our superpower is creating technology to address social problems that many others see as intractable. So we've added a fourth mission to inspire our work: centering racial equity, inclusion, and diversity. If you want to hear specific examples of how we are using technology to support this new mission, you'll have to wait and come join us at our conference Accelerate later this month. We made Axon can't change the policies and cultural norms in policing, but we can build the tech tools to help our customers do it. We're hearing consistent and emphatic calls for change from the most prominent leaders in law enforcement, and we are excited to build the tools to help them. Back when we began investing in body cameras in 2008, we faced innumerable skeptics. But we knew that body cameras were the future. They began gaining traction after a wave of protests began in Ferguson, Missouri in 2014, which was really the birth of the Black Lives Matter movement. At the time, we were delivering the right capabilities at the right time, and our investments in cloud software made body cameras suddenly feasible and affordable for all agencies. We invested in body cameras when nobody believed they were possible, and as the investment community well knows, our core body camera and software business lost money from 2008 to 2019 when it began to turn a profit. Those 11 years of continuous investment in R&D to prove out the feasibility and sustainability of body cameras are now the foundation for our next leg of growth. In 2020, we're humbled to be developing solutions that once again find themselves relevant to a national conversation about policing. We do not shy away from these hard discussions, and we see the pain and nuance behind demands to defund police. This is really all about reforming and reshaping the justice system. We invite input from a broad spectrum of voices; we have the industry's most relevant and productive ethics board. With renewed calls for reform, we can leverage technology and policy changes to improve public safety. We believe that our product-market fit is why our pipeline continues to strengthen as communities see the power of our platform to drive positive change. Now with that, I'm going to turn it over to our President, Luke Larson.

Thanks, Rick. In a few weeks, on August 25th, as Rick mentioned, we'll be hosting our Annual Technology Summit, Axon Accelerate. Due to COVID, we've shifted this to a virtual event, which has allowed us to grow the event to reach a much bigger scale of our audience and customers. We're also able to offer a cutting-edge virtual reality track. If you'd like to attend, go to axon.com and register. We're very excited to share some key customer updates and product announcements on how Axon can help officers and the communities they serve ensure everyone makes it home safe. Our strategic priorities in 2020 are to continue executing in our core market while accelerating our path to market in new product categories. Our engineering and product teams are solving some of the most difficult problems at the intersection of the physical and digital worlds to advance our mission. This is also a year where we have walked beside our customers in one of the most challenging environments they have ever faced. Our customer-facing teams have built amazing relationships not by selling devices or software but by becoming trusted advisors on how we can help customers with the important problems they are facing. We are helping them to source mission-critical technology amid greater public budget scrutiny; helping them access federal dollars where available, and we aspire to be true partners to our customers. We are emphasizing the mission-critical importance of our OSP-7 plus offering. De-escalation, transparency, and productivity have never been more critical to police and community relations during this watershed moment, and our offerings address these exact situations. This emphasis drove our Q2 results with revenue up 26% year-over-year. This is a strong performance in the context of one of the toughest macros we've faced, a global pandemic and massive economic uncertainty. Our strong results were also driven by a stellar quarter for international, up 80% year-over-year to $34 million. This was on top of 38% international revenue growth in Q1. We were just getting started in large markets such as Brazil and India; three countries topped $1 million in revenue for the first time in the quarter: Indonesia, Panama, and Thailand. Turning to the bottom line, GAAP income was affected by stock-based compensation and tax expense; adjusted EBITDA was $28 million, reflecting a 20% margin, showcasing our cost discipline and some travel savings related to COVID. Turning to operations, you will see the inventory build on our balance sheet. This was very intentional. We have adapted well to an ongoing supply chain environment that we've never seen. Recall that last year we diversified our supply chain and global manufacturing footprint due to tariffs, and it turns out that those initiatives positioned us well to handle COVID-19. Given the number of unforeseen challenges that could lie ahead and the fact that 2020 is full of curveballs, we've elevated our inventory build in the first half. This safety stock helps minimize shipping disruptions and also prepares us for some key Axon Body 3 shipments to major customers in Q3 and Taser orders we are expected to fulfill in the back half of the year. Currently, we expect Q3 inventory levels to remain about the same and by the end of the year, they could come down by as much as 10%. And with that, I'll turn it over to our Chief Financial Officer, Jawad.

Thanks, Luke. Our second quarter performance was a testament to our ability to deliver sharp execution in a challenging environment. Although demand remained robust, domestic customers were often hampered with constraints dealing with COVID-19, personnel outages, employee safety concerns, and caution about uncertain budgets. Even with these challenges, Q3 revenue is generally in line with our pre-pandemic expectations. Domestic body camera bookings remain strong, and our international expansion continues to accelerate. Our results in the quarter speak to our resilience as a company and the critical importance of our products in our customers' lives. A few years ago, we set out on a journey to transform into an enterprise software company that also sells devices, and our performance this past quarter further solidifies that path. High-margin annual recurring revenue grew 42% to $183 million; software revenue was a record 30% of total sales, and we sustained SaaS net revenue retention of 119%. Turning to our outlook; we're watching to see whether states shut down in the fall, which could bring renewed caution on budgeting. There is just enough outside of our control regarding COVID-19 that we did not reinstate formal full-year guidance. We did provide a range that we are managing toward for Q3. There are two factors to keep in mind when considering our interim Q3 guidance. The first is that we made a strategic and intentional decision to prioritize growing our Cloud user base and adding nodes to our network in the early days of our software and sensors business. As a result, we have contracts with strategically important agencies, both domestically and internationally, that have served as beachhead accounts, but come with a lower margin than average. The second factor is that the majority of our multi-year contracts come with hardware refreshes at periodic intervals, which come at a lower margin than the SaaS portion of these contracts. The confluence of these two factors will create a headwind for our gross margins in Q3, which we expect will normalize by Q4. Anticipating a question we often receive these days, we are not seeing changes in buying activity due to police defunding concerns. In fact, we've seen some anecdotal acceleration of body camera buying decisions due to agencies wishing to provide transparency to the communities. We remain confident in our long-term, multi-year outlook. We're privileged to be working on solutions to some of society's most entrenched challenges. We're just getting started in several new markets internationally and in several new software product lines. Importantly, the addition of capital from our recent follow-up offering further strengthened our balance sheet and provides us with even greater flexibility to continue investing for growth. At quarter end, we had $675 million of cash and investments and zero debt. Before we move to Q&A, I'd like to share some insight into how we view the company relative to the investments we're making and where we're headed. The first phase of the company's growth, let's call it Axon 1.0, saw us establishing the Taser business and building an unparalleled sales channel with law enforcement. The second phase of our growth, Axon 2.0, saw us continuing to innovate with the introduction of smart devices including body-worn and in-car cameras, which integrated seamlessly with our customer-focused cloud network. Now we're entering the next phase of our growth, Axon 3.0. We're building a rapidly evolving public safety ecosystem with both connected devices and intuitive workflows powered by AI, with the increasingly powerful Axon Cloud as our centerpiece. Our mission with this ecosystem is to protect life, capture truth, and accelerate justice. Now more than ever, society is driving towards these outcomes, and Axon is uniquely positioned to partner with our customers and deliver on all three. And with that, Andréa, let's move to questions.

We will take our first question from James Faucette with Morgan Stanley. Go ahead, James.

Great. Thank you very much. I wanted to ask the team, Rick, Luke, obviously there's a lot of pressure on police departments at the very least to improve efficiencies, etc. Where are we now in terms of some of the software products like records, dispatch, etc. to really effectively reduce the time that officers have to spend on paperwork, and so they can spend more time in the field and gain efficiencies that way? How well are you being able to communicate the current capabilities to the customers?

Well, I would say the best answer to that question will be if you tune in to Accelerate; we have some pretty significant new announcements, and we'll be showcasing some new capabilities that will have a big impact on efficiency. One of which we've been in field trials; it's going into full release, and I can tell you that one agency in Canada was testing one of those capabilities that was absolutely transformative. They had two homicides happening in a short period of time, and for a small agency, these tremendous levels of workload, and one of our new AI products actually helped them handle two simultaneously. They said without us they would have been at risk of potentially having those cases disqualified because they would not have been able to process all the paperwork and evidence data and meet the judicial deadlines. So stay tuned to Accelerate for more, but both records and dispatch are live in the field, and we're now beginning to start really linking some of the AI capabilities to power the creation of the structured data in those systems from the unstructured data we capture with our body cameras.

Got it. And then as a follow-up, you mentioned Canada, but it was interesting at least to us to see the big jump in international revenue. Where are you and how much should we think you'd be considering the ability that you have in other international markets to take the success of Taser and take it over to body cameras and some of the other software products in those markets?

Yes. Thanks very much, James, for the question. Ultimately, I think we see a lot of similarities regarding where international is now versus where domestic was four or five years ago, and we're very much following the same playbook. We're going to be focused on fewer markets than the entire world and we're going to continue to build out a few markets at a time over the next few years. I think the investments we made in our Tier 1 markets a couple of years ago, building really talented teams there, focusing on expanding both Taser and getting our early body camera and customers there, are why you're starting to see the revenue results now. As we continue to build bookings up internationally, we expect revenue to follow in future years. So our focus is to build very, very talented teams in the markets that we see as potential movers, and we'll start to introduce some of our newer products into those markets that are already showing great results.

We'll take the next question from Keith Housum at Northcoast Research. Go ahead, Keith.

Thanks. Good afternoon, guys. Rick, in terms of the budget relief which the government is considering, is there any impact to your guidance if budget relief is offered to the state and local agencies over the next several months?

Yes. I think it'd just be pretty speculative for us to guess what might go in there; obviously, if there's a lot of money specifically earmarked to state and local agencies, we suspect in this environment that it would end up being focused towards a lot of the transparency tools things we're doing with body cameras, etc. We've also seen a lot of interest in corrections growing around the Taser weapons because COVID-19 still remains a big issue, particularly in confined environments. So there's more focus on maintaining safe distances. Traditionally in corrections, when you have an inmate that decides they're going to resist following the procedures, that is meant to require correctional officers to engage hands-on in a very close personal interaction, which raises significant safety concerns. Our plan does not account for any additional federal funding; if it comes in, I think there could be a little bit of upside, but I wouldn't get too far ahead of myself.

Fair enough. Right, Jawad, just a little bit of housekeeping here in terms of the EBITDA margins for the next quarter. What's the impact of your large contracts on your EBITDA margins?

Yes. That was part of what we signaled with our Q3 guidance, Keith. We have some large international customers; we have a couple of international—sorry, domestic customers that we consider to be strategic beachhead accounts where the margins are lower on the camera contracts, and as those customers get the refreshes on their contracts in the quarters that we ship—which Q3 happens to be one—we're going to see lower margins, which is why we gave that specific guidance for Q3.

Right, but would it be fair to say the impact of those shipments could be 2% on the EBITDA margins? Is that a fair assumption?

Well, we are anticipating the EBITDA margins to be 12% on our Q3 revenues. We don't have formal guidance for the year, so I can't officially say what that impact is going to be.

Yes, Keith. And if you dive into the segment commentary in the shareholder letter, we're even more specific on the gross margin thoughts by segment. We'll take our next question from Joe Osha at JMP Securities. Go ahead, Joe.

Hi, thank you for taking my question. One of the questions that have come up around this notion of police funding is the idea that some functions might be taken over by non-sworn officers. I'm wondering how Axon sees the opportunity to address those types of people. Thank you.

Yes. Let me take that one. So first of all, I had a really interesting call with a major city police chief where we were talking about the defunding phenomenon, and what he related to me was actually they did reassign portions of his budget to other city agencies, so basically they just shifted some resources out of police to other city agencies. His net budget was actually increased fairly significantly for body cameras and transparency tools. In that respect, he was pleasantly surprised that the whole defunding discussion actually led that agency to a better place; it allowed them to focus on their function and partner with other city agencies to take on more of the load and essentially provided them a little more budget for tech. Ultimately, we'll see how this plays out in other agencies, but we believe that this idea right now is that law enforcement is doing a lot of social services—they're dealing with homeless people and mental health issues because you pick up the phone and dial 911 for many things that maybe don't need a police officer. As we think about our dispatch software, this is a great time to be introducing a new cloud-based dispatch capability, where we can obviously shift our roadmap and be looking to introduce new features that would allow agencies to perhaps integrate better with other city agencies.

That's right, and Joe, I think how we talked about when we last spoke about something like dispatch and Axon Aware and how we're building geo-location and live streaming into our cameras; this is really a part of a bigger mission for agencies around real-time operations. This is exactly the perfect scenario for which that is purpose-built. Even right out of the box, the integration of Axon Dispatch and Axon Aware brings together the ability to bring other kinds of resources into an incident in real-time; it's a capability that's native to our cloud-borne approach to all these categories.

Thank you, and just following on that, if I may, is it possible that we might see an opportunity to deploy Axon Body alongside some of this new dispatch technology with non-sworn community officers?

Absolutely. We're seeing also not only the ability for non-sworn officers to use cameras but for sworn officers to be able to live stream with folks like mental health experts that can help them in real-time dealing with complex situations, where those officers might need more expertise. But we actually think this could open up some educational areas, particularly if you have unarmed non-sworn people; your ability to identify emerging dangers becomes even more important because you have to rapidly route armed officers to the scene to help out.

We'll take our next question from Scott Berg at Needham. Go ahead, Scott.

Hi, everyone. Congrats on the great quarter. Thanks for taking a couple of questions here. I guess first I don't know if this is a question for Luke or for Rick but Rick, in your newsletter, you talk about OSP pipelines being particularly strong, including the components for RMS. Now you just signed a really large contract with Baltimore that includes records, but I guess what are you seeing on the records level out there, maybe from a demand perspective that would suggest those OSP 7 contracts with records will actually be implemented and utilized because that seems early given the commentary, but obviously great if that's the case.

Sure. I'll take that and then let Josh jump in. We're thrilled that more than a dozen agencies are already live, signed, or being actively deployed on records using one or more modules of the product. We're incredibly confident of the trajectory, as you've seen with the Baltimore announcement, with both committed adoptions among OSP customers, as well as continuing interest for the pipeline beyond that, continuing to accelerate well ahead of even our expectations. The two key things at play there are the power of the bundle, which makes it an easy choice for them to take advantage of that benefit at a perceived value point that goes hand in hand with what they're already paying for. Second is this key notion of Axon Standards, which is the use of force reporting module that, in records, every agency must use, and they typically use a third-party module for it, not their historical RMS. But because standards are built right into Axon Records, it's the perfect first experience for them to use it as they begin getting value out of it right away with incredibly easy deployment.

I'll go ahead and take that. To amplify what Rick just said, we are seeing more and more agencies interested in OSP 7 plus, and we're seeing some acceleration from the agencies that bought OSP 7 plus last year in adopting our standards module of records, as well as a lot of the other key modules like reporting and so forth. We're very confident in our team to be able to convert some of those OSP 7 plus opportunities into full RMS deployments. We're intensely focused on ensuring customers are valuing and adopting all the benefits included in OSP 7 plus, which should lead to outsized results down the road.

Super helpful. Thanks, guys. Then I guess just as a quick follow-up to Jawad, the company's posted four straight quarters of greater than 25% revenue growth, which is a nice acceleration from the 12-month period before that. You guys called for 15% revenue growth in the third quarter. Is that just being conservative in the current environment or do you see anything else that might be tempering that guidance just a little bit?

Yes. I'll tack this to Josh if that's all right, but we have an operating plan for the year that informs our guidance. That still pretty much informs what we're managing to. We outperformed in Q1 and Q2, and we were very happy with the performance of our business and our sales team. The investments we've been making in international have been really paying off; some new markets and new products have accelerated, but we don't obviously bank on that. We feel that it's prudent to stick relatively close to what our operating plan is, which informs the 15% guidance.

Yes. Ultimately, there are going to be some quarters that have higher revenue growth rates than others, and we feel good about full-year results. We feel good about our long-term trajectory, but we do view this year as being back-half weighted compared to the front half. It just might be an issue between what comes in at Q3 and what comes in at Q4 of our large CW deal pipeline.

Thanks team, and also in the back half, just on comparables, the percentages are lower, but the dominant dollar is much higher is what Josh means on that. Thanks, Scott, for your questions. Okay, we'll turn to Charlie Anderson at Dougherty. Go ahead, Charlie.

Thanks. I wanted to ask about bookings. It was very interesting to see the bookings trend reflect what we're seeing in the business in terms of international strong, domestic not as strong. I wonder if that's just a snapshot in time or is that the way we should think about the trajectory of the business in terms of international continuing to show strong performance and domestic maybe trailing the performance on a year-over-year basis? And then, secondly, you made a comment in bookings about the first few weeks of the quarter being better than April. I wonder if you could layer in some context in terms of what that means from your standpoint and what's going on there?

Yes. Thanks, Charlie. We've got a lot of domestic salespeople and leaders on the call here who hopefully are motivated by that question, and we certainly expect a great back half from our domestic and international teams. If you look back, we lost about half of Q2 due to the pandemic shutdown; everyone was trying to figure out how to conduct city council meetings and conduct business on Zoom for the first time. That certainly slowed our momentum in the first half of Q2, and then really in June, we lost about two weeks due to the civil unrest and the events that followed the killing of George Floyd. I would look at Q2 more as a unique point in time due to some external factors that slowed us down a little domestically, but we have high expectations for our team, and they're very motivated to turn that trend around in Q3, both domestically and internationally.

Okay, great. Another question about the fleet product. There were some points in the shareholder letter about the importance of that product in the back half. So I wonder if you could share what the run rate has been the past few quarters for the existing product. I'm curious if you can maybe help us with expectations for how much of a contributor that is. Does it lift to a meaningfully higher level than we've seen historically? Just any context around that launch would be helpful. Thanks.

So I think from a bookings perspective, we do expect Fleet 3 to be a contributor in the back half of the year. I think there's still some question about shipping Fleet 3 and shipments, depending on how well the TNES tests go; it might end up in the front half of 2021 as opposed to the back half of 2020. We don't expect that to have much of an impact on revenue and bookings like I said, given the fact that we'll be doing TNES that contribute to bookings. We feel great about Fleet 2; it has really stabilized in the last couple of quarters regarding customer satisfaction, and so we're excited to build on that momentum as we launch Fleet 3. Certainly, the ALPR and modular capabilities of Fleet 3 where we can do 360-degree recording around the car and other innovations have our customers excited, and we're confident we're going to get a great customer reaction from this product that will be followed by bookings and revenue associated with it.

And just to add one clarifying comment, we'll be in some in-depth trials in the back half of this year, but we don't expect to be in full production ramp of Fleet 3 until 2021, and that's where we'll see the real growth contribution.

The key thing Josh mentioned is that in addition to it being our best ever in-vehicle camera system, it will also be the launch of our disruptive and novel approach to the automatic license plate recognition category and mobile, fundamentally different than the way it's done today in the market—making it affordable and better cost-effective for better performance and results by making it something departments can put in every single police vehicle as opposed to just a small number of very expensive purpose-built cameras. Of course, no matter how good any one camera is, it can only be in one place. And then you combine that with it being built from the ground up with ethics and privacy in mind, and our strategic partnership with Flock Safety for a similar approach for fixed ALPR cameras, we really think it's a watershed change in the way ALPR works.

We'll move to Mark Strauss from JP Morgan. Go ahead, Mark.

Hey. Thanks, everybody. Thanks for taking our questions. Pretty impressive international growth the last couple of quarters—just kind of curious, what trends you're seeing as far as those customers signing up for recurring payment plans. Are these really just kinds of one-off purchases?

Hey, Mark. Great to see you again, and thanks for the questions. So ultimately, I think it's a combination of a few things. As we open up new international markets, those first-time orders are probably not going to be on recurring payment plans. That's due to our desire to collect payment history. So those will be kind of one-time contributors to revenue and are expected to continue from newer markets, as well as from markets making their second and third buys in their Taser programs. The teams have done an excellent job, especially in the UK and Canada, driving most of our new deals toward subscriptions. In the UK, I believe almost every department is already on a Taser payment plan as opposed to one-off purchases. I think we'll see more of that in Australia over the next 12 months as T-7 starts to gain traction there and the same in Canada. In our more established international markets, we will definitely see more recurring payments on CWs and videos alike. In our newer first and second-time buyer markets, those will be driven by more one-time revenue transactions as we ship those new weapons.

Okay. Thanks, Josh. And then Rick, this is the highest cash balance that you've had in a long time, maybe ever. Can you just talk about your plans for that cash? I mean, obviously, there are a lot of organic investments that you've been talking about for the last several quarters, but how should we think about M&A? How important is that going to be going forward now with this cash you have?

Yes. I got it. I can't help but smile. I remember the days we were struggling to pay the light bill and putting stuff on credit cards. Now we've got almost $700 million in cash. I would also say that historically, as a skeptic on M&A, I think markets are pretty efficient, and M&A a lot of times drives up the price of the acquired, frequently to the detriment of the acquirer. We still approach M&A from that position that it has to be unquestionably more valuable as a part of our ecosystem than as a standalone in order for an acquisition to make sense for all the headaches that come with integrating different companies. That being said, I think we are in a unique position where we have built and we now have this fairly ubiquitous cloud software and connected hardware ecosystem that makes partnerships like Flock Safety quite powerful. We are also really building out our M&A function; it's under Andréa James, who's doing a fantastic job building out a team. We get a ton of inbound inquiries, and the vast majority of the time we say no because we are on a mission. We've got a lot of focus, but we are starting to see things that will be interesting partnerships, and there are some things that could be interesting acquisitions. We have plenty of cash to have the flexibility to do it when it makes sense, but I want to reassure you that we start from the position of no, and we have to overcome some pretty skeptical hurdles before we're going to spend the money you, our shareholders gave us; we're going to treat it very carefully, just as if it were the same money I was using to pay those bills 25 years ago.

We'll take our next question from Jeremy Hamblin with Craig Hallum. Thanks, Jeremy. Go ahead.

Thanks, Andréa. So my question is actually a follow-up on that cash balance and what you potentially could do with it. You've built some inventory here; you have some clients that may be strapped a little bit in the near term on cash flow. Do you use some of that cash to potentially do kind of Taser 60 type financing here where we look to bridge the gap in the near term while there may be some budget crunch? Is that one of the uses of cash?

Yes. I'll start with this one. One thing I love about our cash balance and our position is the optionality it provides us, and Jeremy, you've honed in on a couple of things that we've been able to do with that optionality. One is, of course, the inventory build; it was a material amount of cash in the quarter, and we felt like it was the right thing to do. This positions us well to deliver the much-needed products to our customers in the back half of the year and beyond. On the payment plans, which Josh first brought up when the coronavirus started becoming problematic for our customers, there were concerns about budgets. We talked about signing up multi-year contracts with our customers. We have long-standing relationships with them, and we want to do right by them. It's easier for us to get flexible on payment terms to help bridge them to a time when they are no longer concerned about budget. With 5-10 year contracts, you can get creative, and that's what we've done; it's been fairly negligible across our entire portfolio of contracts but it is something we've offered in select cases.

Yes, I would just add to that and say that while there have been some data points to suggest individual customers asking for some rework on their accounts receivable, it hasn't been very widespread. I attribute this to the fact that we have customers that are paying for the value that we are delivering across our product lines; we haven't seen any asks to push payments out multiple years or not pay us for anything for the next couple of years. I think ultimately, our customers are seeing value in what we're delivering, and we feel honored to continue to provide that value to this market. Only in very edge cases have we had to entertain situations like that.

Great. And then just a follow-up question here on your progress with federal contracts. In terms of thinking about the negotiations in those contracts; the tenure of the contracts, are you seeing them extend longer when you're having discussions? Is it still somewhat early in the ramp of that channel of business? Are they looking to start shorter contracts and see how it goes, and then get into some longer deals? Just any color you can share on progression there?

Sure thing. A gentleman by the name of Richard Coleman has done a fantastic job over the last couple of years building up our federal pipeline. For the first time, we are seeing customers willing to engage in multi-year engagements with us on both body cameras and Tasers. We're very excited. It's not always easy to get federal customers to buy hardware in annual phases as opposed to one-time purchases. We're learning a little there, and there is some of that, but other federal agencies are heavily engaged in these five-year plans for both weapons and video. Federal takes time; it's a slog, but for the first time in really 10 years here, I feel like we're starting to break through and crack the code of how to work with federal customers. That's largely due to Richard's contributions, and hopefully, we start to see a lot of that growth materialize over the next couple of years.

I think we want to get at least I think four more analysts so we’ll keep this going here. Jonathan Ho from William Blair. Go ahead, Jonathan.

Okay. Can you hear me okay? Great. So just relative to I guess the current budget environment, are you seeing traditional RFP processes perhaps start to stall and could that maybe open up some more opportunities for you to disrupt the traditional RFP-driven acquisition process for our RMS and CAD?

Yes, great question, John. Ultimately, I haven't seen a huge change in procurement methods. Some agencies still issue RFPs; others are issuing sole sources, and others are issuing more like cooperative procurements or piggybacking off of other contracts that are already in place. I'm not sure a ton has changed there. The big thing for us is to focus on OSP 7 plus adoption because in that event, the customer is already essentially getting the opportunity to deploy our RMS in that bundle. The more we drive up OSP 7 plus procurements, the more agencies are exposed to our enterprise software before they make a formal buying decision. That's how we're looking at things in terms of CAD and RMS. Our strategy is paying off. We're seeing a lot of interest in those products via that purchasing mechanism. Every day that passes brings us closer to competing in RFPs for CAD and RMS. We saw Baltimore issued an RFI for RMS, and we were victorious over some competitors we respect in this market. We're quite optimistic about where this business is going.

Got it, and then just one for Jawad in terms of the decision to increase inventory; can you maybe provide a little bit more color in terms of what types of components you had concerns around and maybe what risks you're seeing around the supply chain? Thank you.

Yes, maybe I'd lead off on that and then Jawad could add some additional context. As we looked at really our kind of next 6 to 12 months based on our previous experience with really adjusting for tariffs, we wanted to make sure that we were able to supply our customers with key products for two major upgrades: AB3 and Taser 7. We made the decision to add additional inventory to ensure that we would have product on hand for those, in addition to ensuring that we would have a good buffer for any potential supply chain disruptions due to COVID. We also have a couple of really, really big orders coming in Q3 that are outside the context of our normal inventory build. I would let you know that the majority of that inventory is going into finished goods, which is something that Josh Isner and I feel really strongly about: if we can build it up into a finished product, we're going to find a home for it.

Yes, the only other thing I'd add from a financial standpoint is that this doesn't happen often, but there have been times when we've left revenue on the table at the end of a quarter because we didn't have inventory, and that's not a great thing to have happen, especially when you have the flexibility with our balance sheet to have a bit of an inventory buffer. That's what we've committed to, in addition to the factors that Luke mentioned. We never want to be in a position where we leave revenue on the table.

We'll take a question now from Will Power at Baird. Go ahead, Will.

Okay. Great. Thanks. Rick, you suggested that it doesn't sound like we're seeing too much of a negative impact from some of the police defunding initiatives today, but I wonder if you could comment now that we're in the back half of the year on some of the early discussions with respect to municipal budgets and agency budgets for 2021. What's your sense for their expectations and how that could potentially flow through, if at all?

Yes. I'm actually going to hand that back to Josh because I think he's a little closer to the budgeting side of things. Josh, would you take that one?

Yes, sure. There has been some reaction from some customers in this regard. If you're a major city that relies heavily on tourism, then certainly that's going to impact how you think about budgeting for the next year. The good news here, though, is that customers view our products as mission-critical products; there's no willingness to not outfit police with Tasers or body cams. Computer-aided dispatch and RMS are also in that bucket. I think there is some impact to budgets overall, but when you look at it in terms of is there impact to the budgets that then impacts the products that customers buy from us, I'd say that's a lot less the case.

Yes, and I would add another point. If you look at our business maybe 10 years ago or even eight years ago, we were really dependent on one core market: our domestic market with one core product. Today we've got a lot of diversification not only in our product lines but also our geographical and market segments. As we see some puts and takes in different segments or products, we are seeing evidence with international and some other earlier segments that we still feel really confident about.

Okay, well, it’s good to hear. I guess just a quick follow-up question circling back to international, given the strength you’ve had over the last couple quarters; any comments on the pipeline from here? I'm guessing a lot of those deals you announced this quarter were in the pipeline prior to COVID. How much has COVID impacted your ability to sell there? How does that then look over the next several quarters?

Yes, thanks a lot. There is going to be some lumpiness in international quarter-to-quarter, but on a year-by-year basis we still expect very encouraging double-digit growth out of our international revenue. COVID has impacted our ability to travel, but in most of our key markets now, we've got teams on the ground; teams are not having to travel on planes region to region. We have built out teams in many key places and distributors supporting us in those regions. Ultimately, the work that's been put into international started three or four years ago. We expect that the things impacting quarterly results are reflective of the teams’ efforts over multiple quarters. I would expect there will be lumpiness in revenue quarter-to-quarter internationally, but I have a lot of confidence we are trending in a very, very strong direction in terms of bookings and revenue internationally.

We'll take our next question from Brian Gesuale at Raymond James. Go ahead, Brian.

Thanks, Andréa. Just wanted to ask a question on the net retention rate, which was a really good metric, up 119% net dollars. Can you provide a little color on how we might think of that between additional seats versus additional functionality that drives the incremental ARPU, and how we might want to think about that mix as we move forward?

Yes. I'll start with that one. That's a metric we wanted to introduce for some time now; it's something we've been tracking for a while, and we felt we had enough data and history to start to publish it. We feel confident that number will hopefully tick up over time; it's a dollar retention, not a user retention. As we sign more OSP 7 plus contracts, which are of course at a much higher ARPU, that number will start to tick up. At this point, we don't disclose ARPU because there's a lot of noise in that number, certainly between domestic and international, but even within domestic we have different customers at different stages. We're not ready to disclose the ARPU number yet.

Yes, that's perfect. Maybe just to follow up a bit; I wanted to revisit the gross margin assumption for the third quarter. I know you’re not going beyond that, but how might we think about the duration of these headwinds that you mentioned? I'm sure they're not all on a similar rhythm, but how we think they lift over time?

Yes. Our expectation is that the one we mentioned specifically for Q3 will be resolved within Q3; there may be a little spillover into Q4, but it’ll be on the order of magnitude of a couple weeks. It’s not going to materially impact Q4. Our best outlook is that it will be resolved within Q3. There are other—I wouldn't necessarily call them a headwind—but we're still working very hard to get our gross margins up in the hardware business. The more our business shifts to software, which prints at 80% plus gross margin, our overall gross margins will lift there naturally.

Andrew Uerkwitz with Oppenheimer. We'll take your question.

Great. Thank you, guys. I appreciate the time. Could you help me understand, based on our research, many of your RMS wins are more similar to the module, similar to what I think Jeff mentioned with Baltimore with the use of force? I assume the expectation is this will lead to a rip and replace for the entire system. So, one, am I thinking about this correctly? And then two, how does the accounting and pricing work over the life of a contract for a city that goes this route? Lastly, in that context, Baltimore signed an OSP-7 contract a year ago, and now they just recently announced that RMS module. Does that contract get reset? Does it get extended when something like that happens? Could you talk a little bit about the accounting and dynamics of when that happens? Thank you.

Sure. I'll lead off overall and then let the other guys chime in. First on the product point, we're seeing a great pipeline of both committed existing commitments as well as the pipeline from here, both for full records deployments, meaning the complete replacement of their legacy RMS, as well as standards, which is that first module. For example, just with Baltimore, since they've already made it public, that's a commitment to move to records entirely and fully replace their legacy RMS. We're seeing ahead of our expectations with RMS and are seeing an acceleration of opportunity. We're meeting our goal to become the number one in this category for full records, and standards is just a great part of the path to get there because it's such an easy first step for agencies to take. Let Jawad give more color, but fundamentally, regarding OSP 7 plus, it is part of the transition in how public safety buys this technology, where just like a subscription service, you're buying a solution that has many benefits regardless of when you choose to adopt any given benefit.

Yes, as far as how the accounting works, the revenue recognition—we allocate a portion of the overall bundle to records, and that portion we start recognizing once the customer has gone live.

Does the contract reset then? For example, with Baltimore, they signed for OSP-7, were they paying $199 a year ago, or were they paying less than that? Now that they're rolling out RMS, do they move up to that full price or does this reset the contract to now five years from now as opposed to five years from a year ago?

The price they paid last year is the same as they paid this year with a couple notable exceptions. First, the professional services to deploy RMS is a separate contract. So once they're ready to deploy, they would pay us for those professional services. The second one is they're going to add or they have added some more users because the OSP 7 plus typically covers sworn officers with body cams and Tasers, but ultimately they're going to need more users to administer a lot of RMS functionality and handle data and reports. We do expect some user uptick as agencies start to deploy RMS. The third one is in Baltimore's case; they extended their contract as well to co-term with some other items they have with us, and I think they extended it a couple of years. Those are all dynamics we expect to see, but ultimately we bet on our ability to upsell additional features outside of OSP 7 plus.

We're going to go a little over, and thanks guys for your patience. We'll take our next question, and that might be our final question from Pavan Kumar from Northland.

Hi, guys. Can you hear me? Yes. I disabled my video because I'm having some internet connectivity issues. Thanks for taking my questions. Regarding R&D and SG&A spending as a percentage of revenue in the second half and 2021, which areas or products would get most focus?

Yes. I'll start with that, and Jeff, if you'd like to weigh in. So right now, the majority of our R&D is being spent on software. We are very excited about what we've got in the pipeline from a software standpoint. Our SG&A was actually flat while our R&D grew and that was by design. Our R&D growth well-based revenue growth this year, but at some point, we have long-term targets that we've set of 30% on EBITDA. The way we're going to get there is by allowing more of the revenue growth to fall to the bottom line. Overall, the investments we're making in R&D will help pay off over a long horizon and keep our revenue growth rate above 20%.

Great, and regarding competition, who are the competitors we are seeing most on the record side?

Yes. I think there are some competitors I would characterize as companies that have been in the records business for a long time, and a lot of them are incumbents that we respect. We believe our innovative approach to records will lead to customer adoption moving away from some of those products. There are new entrants to the space, and with the combination of our channel coupled with the talents we're bringing on the product side, we're well-positioned for the long term. For the newer competitors, they have more constraints around channel and spend than we might. For some of the incumbent competitors, they have a little more constraint around servicing existing customers as opposed to innovating quickly. We view ourselves as a disruptive entrant into this market, and we're hopeful that we can become the market leader in due time.

That’s right. I mean, first, we really like to say that we obsess first and foremost about our customers; we're happy to have our competitors obsess about us, but we like to focus on the customer. But exactly as Josh said, we have a unique combination of assets that makes us different. Both the legacy providers and the new startups; the legacy incumbents are simply not cloud-first born, and you fundamentally can't deliver the kinds of results that the departments of today and tomorrow need without being born in the cloud. On the other hand, the newer startups simply don't have the network of sensors and signals connected to services that can also do the same thing. We're really the only company that has that combination of both, which is why we're so excited about where we're ultimately going to deliver for customers in this category.

I think that’s all of our questions. I'm just looking at all of your screens here. Okay, let's have Rick close us out.

All right. We're a little over, so let's keep it quick. Thank you, everybody for joining us. We're confident we'll all look back on 2020 as the time that set in motion the next wave of policing reform and the next leg of growth for Axon. We hope to stay safe, healthy, and sane during this period of continued disruption. We look forward to updating you on our progress against our mission in November. And don't forget to come to our Accelerate in a couple of weeks. You'll see a lot more detail on our product roadmap. Thanks and bye.