Earnings Call Transcript
AXON ENTERPRISE, INC. (AXON)
Earnings Call Transcript - AXON Q2 2023
Operator, Operator
Okay. Welcome to our Second Quarter Earnings Call. Thanks for joining our executives on the call. A quick note about the faces you're going to see on the call today. We want to welcome Erik Lapinski to the team at Axon. He joined us earlier this year and he's our Director of Investor Relations and Financial Communications, and we're thrilled to have him. And just Angel Ambrosio, I just want to say, we want to thank her so much. She's been on these calls for over 3 years and she's really helped to lead the way in making us Zoom-first on our earnings call. She's also helped us lead the way in ESG reporting. Angel is not going anywhere. We still work together side-by-side every day. Okay; on to business. I hope you've all had a chance to read our shareholder letter which was released after the market closed. You can find it at investor.axon.com. And our prepared remarks today are meant to build upon that very robust shareholder letter. During this call, we will discuss our business outlook and make forward-looking statements. Any forward-looking statements made today are pursuant to and within the meaning of the safe harbor provision of the Private Securities Litigation Reform Act of 1995. These comments are based on our 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, and we discuss these risks in our SEC filings. And before we turn it over to Rick, we will play our video, which is under 4 minutes today.
Patrick Smith, CEO
All right. Great job, Andrea and Angel, and welcome, everyone, to our second quarter 2023 earnings call. It's great to be coming back to you with another excellent quarter and an even brighter outlook. I'm fortunate to spend most of my time talking to customers. Reception to our new products has been fantastic. Recently, I met with police chiefs who said, once their officers take TASER 10 out in the field, they will not go out again without it. After trials and successful de-escalations in the field, some have even joked that their officers are saying, 'You'd have to pry my TASER 10 from my cold dead fingers.' This is the type of feedback that motivates us and keeps us moving forward. Axon Body 4 began shipping in June and we're also getting a great response. Later, you will hear from Brittany, who we recently promoted to Chief Operating Officer in addition to her role as CFO. Bringing these two roles together under Brittany sets us up for our next phase of operational excellence. As COO and CFO, Brittany will oversee our margin profile from end to end to ensure we execute on our ambition to deliver profitable growth for many years to come. Brittany has been a star addition to our team. She brings operational rigor, foresight, stewardship, and candor. We also promoted Josh Isner, who previously served as our CRO, then COO and is now President. Josh has been an instrumental leader at Axon for more than a decade. And during his tenure, he and I have worked side-by-side evolving and growing the company. I have given Josh many challenges over the years, and he's never failed to exceed my expectations. As President, Josh will continue to oversee day-to-day operations while taking on an expanded role within the executive team and with our Board members. Expanding responsibilities for my team allows me to focus on what inspires me: our products and our customers. Product development will always be a key part of my job description. For years, you've heard me talk about my sometimes futuristic views of what the market needs. And for years, we have successfully innovated. So what's around the corner? I'll touch on 2 key areas: robotic security and generative AI. In June, we acquired Sky-Hero, which builds upon our strategy for robotic security and is highly synergistic with our product roadmap. Sky-Hero gives us a leading indoor tactical drone solution that complements our existing Axon Air strategy. While the acquisition will not be a meaningful revenue contributor this year, it fits into our long-term vision. We want to make the world a safer place and avoid situations where we have to send people through the door into highly dangerous, even deadly situations. Sky-Hero is already selling to U.S. federal government customers and SWAT teams in the U.S. and all across Europe who give very strong feedback about the value, durability, usability, and reliability of their technology. Sky-Hero is based in Belgium and unlocks many new customer relationships across Europe. I was especially impressed with CEO, Yves and his team which is small and scrappy, and they really move fast. They're going to fit in great here at Axon. And finally, here's how we're thinking about generative AI and large language models. Like we've already been doing with traditional AI, we will use these newer technologies to create game-changing products for our law enforcement customers. Several years ago, we published a video on the future of policing. This video features scenes where a police officer was able to feed their body camera video into an AI system which then created a draft report, auto-populated with the details in the audio-video record. The point is, we were talking about generative AI before it really even existed in a usable form. Now I'm not sharing this for bragging rights, but what it means for you is that we don't have to pivot our strategy because our strategy has anticipated this future reality for years. We spend a lot of our time, and I spend most of my mental energy, studying key technology trends and then mapping those trends against customer needs. We don't wait for the customer to ask for it. We don't even wait for the technology to exist. We map evolving technologies that we believe will mature in the coming years against existing customer pain points and then we invest early, so our ecosystem will be ready to catch the ball when the underlying technology matures. This is precisely what is happening now with large language models and with broader generative AI. Our mission-driven philosophy to leverage exponential technologies to solve the problems we care about is core to our value creation engine. An investment in Axon is investing in the future of AI and it has been for several years. The flywheel for AI technologies, including LLMs, is powered by signals and data. We have invested hundreds of millions of dollars into building out an ecosystem of wearable cameras and sensors, as well as the world's leading cloud platform that securely hosts the enormous data generated by this expansive ecosystem. Everything we have built over the past decade has positioned us to be able to safely, ethically, and securely collect, share, and analyze that data for our customers, paving the way for public safety adoption of ever more advanced AI tools. These tools will build upon and expand the AI applications that are already a critical component of the Axon ecosystem. And just like we evangelized and were the first to bring cloud software at scale to public safety, we think Axon will lead the way and bring advanced AI designed with thoughtful, ethical controls at scale to public safety. We're already seeing really promising results from our early work here and we're just getting started. You're up, Josh.
Joshua Isner, President
Thanks a lot, Rick. It's been an honor and a privilege to build my career at Axon. I care deeply about our mission, our customers, and our team, and I'm proud to help lead an organization that is unapologetic about winning. This team just blocks out the noise and executes, and you can see that in our results. As Rick reflected, we are getting great feedback from customers about TASER 10 and Axon Body 4, and I'm especially pleased that this feedback is translating into orders. We closed the first half with strong orders, and we expect a greater increase into the second half as we convert more of our new product pipeline. This drove our confidence in increasing our guidance which Brittany will take you through in a moment. In Q2, we continued to execute on our 2023 focus areas: revenue, profitability, new market expansion, and new product adoption. We just finished our sixth consecutive quarter with revenue growth above 30%. This kind of growth doesn't just happen. It's a combination of having the right products, the right sales strategy, and the right team to execute on an enormous market opportunity. Our relationships with our customers are truly deep. We don't just look for a transactional share or sale. We partner with our customers and make sure they are successful, and they keep coming back to us so we can help them solve more problems. Our cloud business grew 62% year-over-year. We are in the early days of expansion into new markets and products. Our software penetration remains low, and we are finding ways to sell more software content into our installed base, executing against a $22 billion software TAM. Our TASER business grew 14% year-over-year, and TASER 7 remains the greatest contributor for now, and we are pleased to see incremental growth driven by early shipments of TASER 10. We are just getting started with that weapon and it's a game changer, and we think it will drive TASER growth over the next several years. Profitability is our second operational focus and is critical to ensuring we have a sustainable business model to drive the next decade of our growth strategy. I am pleased with our team's focus and execution in Q2 as we stabilized gross margin through 2 of our largest product launches in company history while growing our team at the same time. Third, our new market bookings grew ahead of revenue in Q2. We are seeing continued success in the federal market with first-half bookings up nearly triple digits year-over-year. In justice, we have triple-digit bookings growth year-to-date. Four of our 10 largest deals in the quarter came from new and emerging markets, a sign of continued diversification. Finally, new product adoption is critical to our success. We are gaining traction and we've seen emerging product bookings grow nearly 50% year-over-year. ALPR, auto tagging, Axon Records and Axon Respond, are a few key callouts here. We closed an incredible first half of the year and the outlook for our second half looks very solid. We are on to the next play. And with that, we'll turn it over to Brittany to go through the operations and financials in more detail. Brittany?
Brittany Bagley, CFO
Thank you, Josh, and thank you, Rick, for the kind words. I'm very excited to take on more of the business and to continue driving the next stage of operational excellence at this fantastic company. Turning to the results. We reported another strong quarter reflecting broad strength across our business. Our top line grew 31% year-over-year, and we saw EBITDA margins of 22%. Second-quarter gross margin of 62% improved sequentially, primarily reflecting business mix from software. As you saw in our shareholder letter, we did have some noise in our segment margins this quarter as we worked to more closely align our overhead costs with our specific product lines and had some one-time adjustments. On an aggregated basis, however, most of that is allocations between segments, and our overall gross margins reflect a mix benefit from software. Axon Cloud and services revenue made up 35% of total revenue this quarter compared with 29% a year ago. As we noted last quarter, we would expect full-year gross margin to remain approximately flat or improve modestly from Q1 2023 levels due to continued professional services related to Fleet 3 and the continuing ramp of Axon Body 4 and TASER 10. We continue to believe there are opportunities next year and over the long term to improve our margin profile as we invest in automation and recognize scale efficiencies from recent product launches. We also expect to continue to see mix benefits from our software growth. We believe we will exit this year at a more normalized run rate demand for our Fleet product, having largely caught up on our backlog. Turning to our operating expenses, we saw leverage out of both R&D and SG&A. We continue to invest absolute dollars to drive our product roadmap and to scale our business rapidly. We're pleased with the adjusted EBITDA margin of 22% in the quarter, but given the second-half gross margin profile and timing of some OpEx investments, we continue to keep our guidance at 20% for the year. With our increase in revenue, this does result in us dropping more to the bottom line for the year, and we're continuing to focus on how we can better leverage our OpEx, especially in SG&A over the longer term. Turning to our guidance. We are increasing our full-year revenue outlook to a range of $1.51 billion to $1.53 billion, representing about 27% to 29% growth. We continue to target full-year adjusted EBITDA margin of 20%, which implies an increased range of $302 million to $306 million of adjusted EBITDA. In terms of the healthy guidance increase, we always want to make sure we can deliver on what we say we are going to do. And that continues to be our focus while at the same time, making sure we're doing our best to accurately reflect what we're seeing in the business. We had 2 major hardware product launches this year, and the successful rollout of these products, as well as the robust customer response to these launches, has given us the confidence to increase our forecast after a strong first half of the year. We do expect most of the increase relative to our prior forecast to occur in the fourth quarter due to typical seasonality. With that, I would like to open it up to questions.
Will Power, Analyst
Congratulations on the impressive results, and congratulations to Josh and Brittany on your promotions. I have two questions. First, I would like to explore the success in the cloud segment, which has shown remarkable growth exceeding 60%. In the shareholder letter, it was mentioned that approximately 50% of this growth was driven by body cameras. I would appreciate your insight into the ongoing opportunities related to this aspect. Secondly, what are the other significant contributors to cloud growth at this time? It's evident that there is considerable expansion beyond just the body camera sector.
Joshua Isner, President
Yes, thank you, Will. It’s great to see you, and I appreciate you hosting us at your conference in June. Regarding our cloud adoption growth, there are two main components. First, we need to ensure that we continue to expand our hardware offerings in various forms that integrate into our cloud ecosystem. Selling more body cameras in our core market, as well as internationally, to federal and enterprise clients will drive increased usage of Evidence.com. Additionally, increasing our sales of enterprise software licenses for products like records management, computer-aided dispatch, and Axon Air licenses will also contribute positively to our cloud business. Our focus is on excelling in both areas simultaneously, and the team has performed well in achieving that so far this year.
Will Power, Analyst
And if I can just fit in just a second question. You raised guidance pretty significantly for the year. Anything else you can add with respect to the visibility in the second half and particularly the fourth quarter, given the seasonality that I think Brittany just alluded to, too, just to provide investors confidence in that increase?
Brittany Bagley, CFO
It's a great question. Thank you, Will. I think part of it comes down to what we see in our business. And I think we were very careful as we came into the year not to get ahead of ourselves in terms of what we were expecting for AB4 and TASER 10, given that those were 2 big launches for us. But we have seen, as Rick and Josh both commented, just wonderful customer reception to those products. And so we have good visibility, both in terms of what we can ramp up from a manufacturing standpoint that gives us confidence in the volume of those products that we'll have available. And then I would say you couple what we have available from an operational standpoint with what we're seeing from the customers, and we think we have pretty good visibility in terms of delivering in the second half of the year. I think, as I said, we're partway through Q3 right now, and so we can call out that we think some of that will be in Q4, especially as we ramp into AB4 and see the timing of some of the contracts that we have coming in and some of the deals we have in the pipeline with customers. And then I think the other thing is just our cloud and services revenue. As you can see, it's done very nicely this year. And that is just a very reliable recurring software business that we can bank on every quarter. We look at that as we go through the second half of the year, combined with the TASER 10 and AB4 products, and that's what gives us confidence in that guidance.
Operator, Operator
Okay. Next question from Tim Long at Barclays.
Timothy Long, Analyst
First, on the gross margin side, Brittany, could you discuss the status and expectations regarding the ramp-up of the two new products and their impact on gross margins as the year progresses? I noticed that Axon Cloud may have experienced some adjustments, resulting in a slight decrease in margins. As this business grows, what should we anticipate for gross margins? I have a follow-up after that.
Brittany Bagley, CFO
Certainly. There are several factors affecting our gross margin, as outlined in our shareholder letter. The main challenges this year stem from three key areas. First, we're preparing to ramp up production of the TASER 10, and while we expect to continue growing that segment throughout the year, full scaling is more likely to occur next year. Similarly, we are in a transitional phase with the launch of the AB4, which is also impacting this year's margins but we anticipate improvements next year. Lastly, as mentioned last quarter, we're still facing challenges related to the cloud and services gross margin, specifically due to professional services needed for our Fleet installations. While Fleet has been a great product for us this year, we encountered some inventory constraints and backlog issues. We're addressing that now. With Fleet, we provide hardware along with professional installation services, which temporarily affects our gross margin. However, once these services are completed, we will generate steady revenue from the software linked to the Fleet product. Given the high volumes of Fleet this year, we see this as an investment in our gross margin, paving the way for significant software revenue in the future.
Timothy Long, Analyst
Josh, you mentioned that many of the larger deals were in newer areas like federal and international. Could you provide some examples of the types of deals those are? Also, how sustainable do you believe the expansion into these new geographies and regions will be?
Joshua Isner, President
Yes, great question, and thank you. We are really excited about a deal in our justice segment, where prosecutors are purchasing enterprise licenses for Evidence.com and integrating closely with police departments. This was one of four deals, with a couple being federal, and we continue to see these become more common and involve larger amounts, which is very encouraging and reflects the excellent work Richard Coleman and his team are doing in our federal business. Additionally, in international markets like the U.K., Canada, and Australia, we are seeing significant orders for TASER, body cameras, and Evidence.com. We are also starting to make progress in larger markets beyond these three, though most of these recent orders have been focused on TASER as we promote the cloud and collaborate with early opportunities to transition major customers onto the cloud. This provides some context for where these orders are originating.
Patrick Smith, CEO
Josh, if I could add a bit more. Looking at the long term, international sales currently account for about one-fifth of our business. At full scale, we’d expect the U.S. to represent the same one-fifth, while the global market is at least five times larger than the U.S. market. We are focused on entering these international markets, but police departments worldwide face similar challenges. However, the unique aspect of the United States is its gun culture, which differs significantly from the issues in other countries. This difference makes the TASER 10 particularly transformative in other nations. Typically, in the U.S., police tend to carry both a gun and a taser, whereas this is not as common among international customers. In countries without widespread firearm possession, a TASER 10 could potentially serve as the primary defensive weapon. For instance, a police officer in France might find that in situations requiring a firearm, it's likely not just petty criminals involved but rather a more serious threat, where a pistol may not be the best option. I believe that the TASER 10 can be a major game changer in international markets, allowing us to establish a foothold for significant growth. Ultimately, we aim to succeed as a truly global company, and these international markets could significantly surpass our U.S. market in size.
Operator, Operator
Josh Reilly at Needham. Go ahead, Josh.
Josh Reilly, Analyst
Great job on the quarter here team. What are you seeing in terms of customers who are interested in getting new tasers and body cams and that were going to buy the AB3 maybe and the TASER 7 but now that you switched to the new models and these are released? Can you give us a sense of the magnitude of customers in this category? And did it have any impact on the Q2 revenue results? Would it have been even higher with some customers switching around? And is that impacting the Q4 commentary around revenue as well?
Joshua Isner, President
Yes, Josh, thank you for the great question. A couple of ways to think about this. So coming out of the first half of the year, as everyone remembers, we're a little more conservative on what our guidance would look like for that reason because there's this period when you launch new products where you don't know if customers are going to want to just continue with what they have, trial the new product before buying it, or just switch right over to the new product. I think we've cleared out a lot of those uncertainties at this point. It's fair to say that a lot of the interest has converted from TASER 7 to TASER 10. Customers that were on order for TASER 7 kind of pumped the brakes, wanted to trial TASER 10, and now we're moving in that direction. AB4 is a little bit of a separate motion because the early volumes of those cameras are driven by hardware upgrades in our TASER Assurance Plan, not as much book and ship like right out of the gate. Two kind of slightly different stories there. But yes, as those things become better in focus, it allows us to get a little more aggressive with our guidance. As the year comes together, that combined with a really solid back-half pipeline gives us a lot of confidence moving into the last 2 quarters of the year here.
Brittany Bagley, CFO
I'm going to throw in a little bit of extra color for you on that. Our TASER 7 was pretty stable in this quarter. There's certainly a dynamic of customers getting very excited about TASER 10, but we're still seeing very nice support and volume from TASER 7. I would think about a lot of the growth in the taser segment this quarter coming from TASER 10 starting to ramp up and get into customers. I would say similarly on our cameras, we didn't see significant growth in our camera business in Q2, and that really was because as we go to those refreshes, we're going to let customers who want to refresh on AB4 refresh on AB4. We just started shipping AB4. Again, you'll see some of that be stronger in the second half of the year.
Josh Reilly, Analyst
And then just a follow-up on the Fleet 3. You mentioned you're going to catch up on demand by year-end. How much of the catch-up is around manufacturing the hardware versus actually getting the product installed at the end vehicle? Where has the greater bottleneck been in the last couple of quarters here?
Brittany Bagley, CFO
Yes. I would say it's shifting. I would say the greater bottleneck coming out of '22 was probably on the hardware, on the actual inventory side. Now we've done a nice job catching up on that, and really the bottleneck now is not a bottleneck because we're ramping up to get it to customers. The gating item is really more around the installations.
Michael Ng, Analyst
I just have two. So Axon Cloud and services revenue was up substantially, outpacing the Sensors and other segment revenue growth. I was just wondering if you could just answer a couple of questions to help reconcile the differences in revenue there. First, you said you're selling more software content into the installed base. Is that customers just upgrading their plans but using existing equipment? Does that give you higher confidence about an equipment upgrade? And then are there other pieces of software that you would call out that are doing particularly well? I know, Josh, you flagged a few.
Joshua Isner, President
Yes. Ultimately for us, and we've talked a little about this in the past, but the big kind of focus for our sales team is selling our Officer Safety Plans which have a number of different software features in across DEMS and Records and Standards product which is kind of a use-of-force tracking product. So there's a lot in those plans. Ultimately, the more of those bundles we sell, the higher our ARPU will be in software. When we combine that with picking up momentum, both on the records management side and in the justice segment and then in some of our new markets, those things combined to offer a nice uplift over just kind of our base Evidence.com licensing. It's really a combination of those 2 things.
Brittany Bagley, CFO
I completely agree with everything Josh mentioned. We are experiencing strong demand for our premium bundles, which is contributing to our excellent net revenue retention. This demand is also driving growth in our software business, with domestic Evidence.com licenses showing the largest sequential increase. Additionally, I'm pleased to share that we have begun recognizing revenue for our Standards product now that it is generally available, making this quarter's increase more significant than in previous quarters. We often discuss the size of these increases, and this quarter was indeed larger, though we tend to assess it as an average over time. The increase was slightly smaller in Q1, substantial in Q4, and significant again this quarter. Thus, there have been fluctuations as we've integrated these revenue recognition elements. Overall, the domestic Evidence.com business is fueling most of this growth, which explains the strong performance in that segment.
Michael Ng, Analyst
And I did want to follow up on that along with the comment that Josh made earlier about good momentum in justice. So is it right to interpret that there are customers that are buying the software or the Evidence.com licenses that may not necessarily be part of the body camera or the TASER installed base? I was just wondering if you could expand on that a little bit more and talk about the opportunity there?
Patrick Smith, CEO
Let me jump in over Josh. I'm excited about this. For instance, Scotland has chosen us for their digital evidence management system across police, prosecutor's courts, and the entire country, and they are not using our body cameras. We've experienced similar situations with other international agencies adopting our software first, and we're really proud of that. Our software teams take great pride in this achievement. Ten years ago, our software primarily supported our hardware, but now both are strong independently. Our software products, especially offerings like Records, can function effectively on their own. Some of the generative AI innovations I mentioned earlier are truly transformative. When an agency utilizes our body cameras and cloud software, our ability to unlock valuable data from the audio and video recordings for our customers is impressive. We believe we are very well-positioned and look forward to providing more details. While I don’t want to overstate things, we've been continuously innovating and prototyping with our customers, and we're receiving very positive feedback on new developments that haven't even been announced yet. The synergy of our hardware and software enables us to achieve things that aren't possible without integrating both aspects.
Joshua Isner, President
And I totally agree with Rick, and the only thing I'd add on that is there are extra licenses every agency buys for non-sworn personnel, and that number will only go up with Axon Records. That's a big piece of the puzzle here as you think about the police officers on the street choosing our body cameras and tasers, but then all of the people in the back office that need access to records and evidence, that's a substantial uplift as well. In addition to some of the new market and kind of DEMS-only features that Rick talked about, there's an element of just our domestic customers adding on more and more as our product portfolio grows.
Jeffrey Kunins, Executive
Right, I think like you've heard us say so many times before, the power of that entire ecosystem distributed through this hardware plus software OSP and bundle philosophy is our Amazon Prime. It is our flavor of this opportunity that just inherently drives increased adoption. As customers get value out of one basket, it inherently motivates them to keep going up to higher and higher tiers and then to use more and more of what feels free to them because it's already in the basket that they have paid for and have access to. To come back to connect that to one of the questions about federal and justice before, that's also the leverage of our R&D philosophy and approach at work where if you take something like DEMS that's had a decade of R&D investment in us to bring it to where it is, to be fit for purpose broadly for domestic and international law enforcement, it's a relatively light lift but to tailor that with a surgical part of our team to make it fit for purpose for the next adjacent market segments like prosecutors and justice, like things in the federal government and that instantly or relatively quickly unlocks whole new segments building on the back of R&D we've done before. Once we've done that and we have momentum with federal customers in justice, it earns us the right to then start building bespoke products directly for those market segments. That kind of successive laddering up from each angle is fundamental to our flywheel.
Operator, Operator
Thanks, Mike. And before we move on, we've used the term DEMS a couple of times. That means digital evidence management system. So that's the acronym for everybody. Keith Housum at Northcoast.
Keith Housum, Analyst
Rick, with the promotions for Josh and Brittany, how is your role evolving at the organization?
Patrick Smith, CEO
It's actually not changing significantly. Over the last 5 to 6 years, I've been increasingly focused on our customers and technology, aiming to truly understand their challenges. This requires a different mindset than simply managing daily business operations. A few years ago, I felt quite burned out; running a large organization while handling endless emails and daily tasks made it hard to pause and creatively think about the future. The recent promotions help clarify roles, allowing Brittany to have more control over our margins and manufacturing supply chain, ensuring we meet our delivery goals. Josh is taking on more of my operational interactions with the Board, leading most of the Board meetings and agendas. This shift lets me concentrate less on daily operations and more on engaging in strategic discussions during those meetings. We complement each other's strengths well. My wife can vouch for the fact that I am working harder and traveling more than ever to meet with customers and attend large expos because I don't have internal to-do lists weighing me down. I trust my team, and my long-standing relationship with Josh and Brittany has quickly fostered a strong connection where we recognize each other's strengths. This allows me to focus on what I excel at as a founder CEO, which is crucial. I believe founder-led companies excel because we prioritize identifying the next significant opportunity that isn't apparent, unlike traditional businesses. Many competitors are focused solely on profits, asking customers what they want, while my role is to anticipate their unasked needs and link those to innovative technologies. This approach carries risks but offers substantial rewards, as demonstrated when we pioneered the taser, body cam, and cloud markets—none of which customers were actively requesting. We are ahead in AI, considering how communication has evolved. In my childhood, I used a rotary phone, while police communicated via walkie-talkies. Today, rotary phones are obsolete, and we connect via Zoom. However, our customers primarily still rely on walkie-talkies. I predict that in the next decade, this will change; police will use audio, video sensors, and AI to handle data efficiently. We aim to capture field data, disseminate it to the appropriate personnel, and provide essential information back to officers in a focused manner, minimizing distractions during their challenging roles. We are working to solve these kinds of problems.
Keith Housum, Analyst
Now back into more details, I'll go to Brittany and Josh. As you look at the T10 in terms of the adoption rate of that compared to the T7, as the leading device that now people use for a taser, do you guys expect acceleration of movement toward T10 versus like the T7? And then what does that do in terms of the mix and the margins?
Joshua Isner, President
I want to discuss the demand briefly, and then Brittany will cover the mix and margins. Regarding demand, we definitely observe that customers are showing a genuine interest in upgrading early to our latest product. Typically, there are obstacles such as training and deployment challenges that delay upgrades until the end of a product's life cycle. However, in this case, agencies are eager to expedite the process to get this new weapon into use more quickly. The initial feedback has been very positive. Some customers who previously didn't upgrade from the X2 to the T7 are now jumping directly to the T10, attracted by its 10 shots and increased range. I am very optimistic about the adoption of the T10 in the coming years. It's important to note that internationally, and in some domestic markets, there's still a trial phase where agencies aim to test the product and gather sufficient data, so the adoption won’t happen instantly. Over the next few years, our TASER business is set to grow as more TASER 10 devices are deployed in the field.
Brittany Bagley, CFO
I would just add, Keith, that I think because the demand has been so strong, from an operational perspective, we can build in what we know we can manufacture. We really are still ramping that up. For the rest of this year, we've got a pretty good sense of how many handles we can actually make. Given the demands out there, that's what we can factor into our model. It is taking us some time to get it fully ramped up and scaled from a manufacturing standpoint. Next year, I think not only will we have more scaled manufacturing but we will have been able to invest in some of the automation for both the handle and the cartridges to help get the initial cost down and improve that gross margin.
Operator, Operator
We have 3 analysts that we will get to next. Samik Chatterjee at JPMorgan.
Samik Chatterjee, Analyst
Hopefully 2 quick ones here. The Fleet systems revenue sequential ramp that you had this quarter looks more modest than what you had going into Q1. Given some of the guidance around gross margin that you had, I'm just wondering, should we be taking that as an implication that you expect Fleet systems revenue acceleration here on a sequential basis to sort of increase? On the last earnings call, you had mentioned something about supply sort of constraints now getting sort of easier to ship those products. How should we think about the underlying demand if you were looking at a more normalized demand environment without any supply constraints? And I have a quick follow-up, sorry.
Brittany Bagley, CFO
I think we're largely getting through our inventory supply constraints. Now we're really looking at what it will take to get Fleet installed. As you go through this year, you'll see basically what is normalized healthy run rate for Fleet from a demand standpoint. Remember, we have 3 pieces of Fleet revenue. You have the hardware which is showing up in the Fleet line item of our reporting. Then you have the professional services which goes into our services line item. Then you have the software revenue that gets turned on once we have it installed. As we come out of this year, you'll see a really nice level of run rate demand, and I would expect as we get through this year, we're at a good level of run rate demand for professional services installations as well on that Fleet product. Josh, did you want to jump in?
Joshua Isner, President
Yes. I just wanted to say, I wouldn't get too caught up in the kind of sequential trends because they can vary a little depending on when we ship especially large orders. We're really focused on that. As we said, we've grown 30% for 6 straight quarters. That's really what we try to look at is our yearly CAGR and focus on that. There might be some noise quarter-to-quarter on how that looks. But over the course of the year, it seems to kind of normalize.
Samik Chatterjee, Analyst
On the Evidence and cloud services growth, obviously, very robust growth that you're experiencing there. Can you talk to what the underlying customer count sort of trends are? Because I'm trying to sort of parse out how much of this is land and expand with customers that are already using and sort of upselling to them versus actually going into new customers and them trying out the product? Like can you talk about sort of the underlying customer count a bit more?
Joshua Isner, President
Yes. I don't know that we're prepared to give any specifics on that today. But I would say kind of with a broader brush, we try to do 2 things really well at the same time. We try to sell new products to our existing customers, and we try to sell existing products to new customers. If we do both of those well, I mean in our core U.S. market, it's really about selling all those new products like VR, some of the software packages and features I mentioned, computer-aided dispatch, et cetera. Then internationally, in corrections, in justice, and our federal business, it's more about selling our core products, tasers, body cams, DEMS, into those to create that opportunity to land and expand. Ultimately, we look at both of those metrics, new product sales and new market sales every quarter, and really happy to say that we're trending very nicely on each of those categories right now.
Brittany Bagley, CFO
The only thing we do give and we gave it in our shareholder letter, is that the penetration rate of our Officer Safety Plan is less than 20% relative to our potential state and local law enforcement installed base. We have both great ability to land as well as expand, to Josh's point.
Jonathan Ho, Analyst
Congrats on the strong results. I did want to maybe get a little bit of additional color on AB4 and what your customers are most excited about in terms of new use cases around the AB4 capabilities?
Joshua Isner, President
Maybe I'll start and then I'll hand it over to Jeff and Rick. I think ultimately, there's some incremental improvements in there around battery and optics and so forth. But really launching the 2-way voice as part of AB4. We're most excited that it actually fits a need in the market right now and that customers have a variety of use cases where the value relative to the radio, of being able to see something playing out for the dispatcher or for a mental health expert or for a translator, watching the screen and being able to communicate through the body camera with a community member, that is something that our customers are very excited about, and we're seeing more and more adoption of that feature set early on. So I think that's one of the key differentiators. It's also nice to bring back our POV functionality. We haven't really launched anything new there since Flex 2. Now just a simple attachment to the body camera instead of a whole new product in SKU makes that a lot more easily adopted and tailored to certain use cases, just flexible overall for our customers.
Jeffrey Kunins, Executive
That's right. I agree with everything Josh mentioned. This category heavily relies on fundamentals, and there is a lot of exciting innovation happening. People always seek greater battery life, and we are meeting that demand by transforming the POV from a separate product into a straightforward accessory that enhances the main offering. We believe this shift will be revolutionary for many agencies. Referring back to Respond, we are advancing live streaming within modern multimodal communications, shifting its perception from an optional feature to something that feels integral and inherent to the product. There are two specific aspects that strongly resonate with customers who express their appreciation clearly. First, the hands-free capability allows for two-way communication, enabling users to engage with others while managing challenging scenarios. This feature introduces a new level of freedom and interaction that complements existing communication methods. Second is the concept of the "watch me" button. From a psychological perspective, it presents an opportunity for agencies to strategize their live streaming adoption. Officers find it compelling to initiate the request for assistance themselves, wanting someone to have their back instead of being uncertain about when someone might check in on them. Both aspects are crucial, but the empowerment of officers to take the lead in inviting others for support is generating significant excitement.
Patrick Smith, CEO
One last thing I want to mention is that when we designed AB3 a few years ago, we faced a decision about whether to include an LTE chip in every camera or to separate the options into a lower-cost WiFi-only model and a premium version. We decided that a connected camera would offer significantly more utility, so we opted to include that chip in every camera to enable this feature for our customers. In contrast, some competitors have maintained that their customers aren’t requesting LTE. This mindset highlights our approach to product development; we don’t focus solely on profit optimization for the current generation but rather on what will generate substantial long-term value. Of course, Brittany ensures that the financials add up, and we engage in productive discussions on the right levels of investment, acknowledging that the outcomes are not always clear. We are now seeing the benefits of our decisions as the real-time capabilities prove invaluable. Agencies that have implemented live streaming for incident calls have surveyed their officers, who unanimously express that they do not want to return to a previous way of working. Feedback like this early in a product cycle motivates us to double down on our efforts because we know we’ve introduced a transformative capability. While it will take time to communicate this effectively and encourage agencies to adopt it, features like the watch me option address privacy concerns for agencies and unions. I firmly believe that relying solely on push-to-talk walkie-talkies as the primary means of communication for the next two decades is not the future. Our current solutions will coexist for a significant time alongside our innovations. We are enhancing communication with new capabilities. Agencies using our live stream with two-way voice report that it relieves a lot of unnecessary traffic from their radio communications, allowing for deeper and more meaningful conversations without monopolizing radio airtime, ultimately making their usage more efficient and targeted.
Operator, Operator
Thank you. Jeremy Hamblin at Craig-Hallum. You're up.
Jeremy Hamblin, Analyst
Congrats on the strong results. I wanted to come back to the point that Brittany was making about the OSP bundles. You just had tremendous acceleration in the velocity of growth in your cloud business is quite impressive over the last few quarters in particular. If less than 20% of your potential base, state and local domestic is on OSP bundle today, what would you have said that that percentage was a year ago? Would it have been less than 10%? Coming back to the cloud revenue growth. Obviously, I think you talked about it's license growth but I wanted to just get a sense for just the expansion of the premium bundles as well. How much of that is because just the value of that business has gone up tremendously in just the last 3 or 4 quarters?
Brittany Bagley, CFO
Yes, I'll jump in. It's been great to see and great to watch. We last gave that penetration stat in Q3 of last year, and it was less than 15%. So we have seen a nice increase over the last 9 months. You're seeing that reflected in some of the increase in our software revenue. I would say that there's also things where we're adding new products, right? This call out I made on standards. This is a product we've been investing in. We've been testing with customers we've had out there, and we got it to the point where we could start recognizing revenue on it. Those are exciting things that start to feed into our software business and our software recognition. I think if you're modeling it for modeling purposes, we would still say a good 6-quarter average and maybe Q4 and Q2 of this year were particularly high because of one-time revenue in Q4 and the Standards piece in Q2. Not sure it's fair to fully average those in. Your macro point of we're having great momentum in our software business and our customers are loving it. They're adding more, and we're upgrading people to premium bundles. That is the heart of the story around the software cloud business, and we're excited to get to tell that story and give those products to our customers.
Jeremy Hamblin, Analyst
And then just a follow-up question on the international side. As you think about OSP bundles, how is that comparing to the adoption curve that you saw domestically? Obviously, some different factors in terms of where taser penetration was a decade ago and so forth. I imagine the curve could look a little bit different, but just wanted to get an understanding of what you're seeing.
Joshua Isner, President
Yes. Thanks for the question, Jeremy. I would say that the international market is bifurcated between our Tier 1 customers and the rest of the world right now. In Tier 1, I think we are getting closer to OSP-like offerings. Generally, you're not talking about one federal government buying everything. You're talking about cities like London, Manchester, Calgary, Edmonton, Ottawa, or states and provinces in some cases. So where there's heavy adoption of both, it's not all federal purchasing. I think we will see OSP adopted in those markets over time. In the rest of the world, the focus is really just landing in a large way with one product and then starting that journey which is going from one product to multiple products. When both of those products are more well adopted, we talk about this bundling concept. You've got these large federal governments doing the buying in a lot of cases; it's both a good and bad thing. It's great that the volumes can be way more exciting upfront, but it's also harder to pair 2 products together because it's just different procurement processes for each. We're working through it. Hopefully, over the next year or 2, we'll start to see OSP take a foothold in some of those Tier 1 markets.
Operator, Operator
Thanks for all the great questions. We're going to have Rick close us out.
Joshua Isner, President
Before Rick closes us out, just one more thing, if it's all right. As we do the callbacks tomorrow, I hope all of our analysts will wish Brittany a happy birthday. And happy birthday to you, Brittany.
Brittany Bagley, CFO
Thanks, Josh. Sneaking that in.
Patrick Smith, CEO
It's delightful to be able to share these results. Obviously, a ton of hard work went into this. I pinch myself every day that I get this fantastic job. These things don't happen by themselves. My view of this is this what happens when you have an amazing mission, you attract just unbelievably talented people, give them the freedom to operate and bring their own diverse backgrounds and talents into the team and let them run. We're running hard, and we're going to keep running hard for you, our investors, and for our customers. Knock on wood, we'll be back to keep telling you about some of the great work our team is doing. You only get to see a handful of us. Behind the scenes, there's a cast of thousands of really talented people working really hard. So for those of you on our team that are listening in, thank you for letting us bask in the light of results like these from the work you do. I look forward to seeing you all next quarter.