Item 8. Financial Statements and Supplementary Data

Index to Consolidated Financial Statements		Page
Consolidated Balance Sheets as of December 31, 2017 and 2016		49
Consolidated Statements of Operations and Comprehensive Income for the years ended December 31, 2017, 2016 and 2015		50
Consolidated Statements of Stockholders' Equity for the years ended December 31, 2017, 2016 and 2015		51
Consolidated Statements of Cash Flows for the years ended December 31, 2017, 2016 and 2015		52
Notes to Consolidated Financial Statements		53
Selected Quarterly Financial Information (Unaudited)		82
Report of Grant Thornton LLP, Independent Registered Public Accounting Firm		85

AXON ENTERPRISE, INC.

CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

	December 31,
	2017				2016
ASSETS
Current assets:
Cash and cash equivalents	$	75,105			$	40,651
Short-term investments	6,862				48,415
Accounts and notes receivable, net of allowance of $754 and $443 as of December 31, 2017 and 2016, respectively	56,064				39,466
Inventory	45,465				34,841
Prepaid expenses and other current assets	21,696				13,858
Total current assets	205,192				177,231
Property and equipment, net	31,172				24,004
Deferred income tax assets, net	15,755				19,515
Intangible assets, net	18,823				15,218
Goodwill	14,927				10,442
Long-term investments	—				234
Long-term accounts and notes receivable, net of current portion	36,877				17,602
Other assets	15,366				13,917
Total assets	$	338,112			$	278,163
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	8,592			$	10,736
Accrued liabilities	23,502				18,248
Current portion of deferred revenue	70,401				45,137
Customer deposits	3,673				2,148
Current portion of business acquisition contingent consideration	1,693				1,690
Other current liabilities	89				80
Total current liabilities	107,950				78,039
Deferred revenue, net of current portion	54,881				40,054
Liability for unrecognized tax benefits	1,706				1,896
Long-term deferred compensation	3,859				3,362
Business acquisition contingent consideration, net of current portion	1,048				1,635
Other long-term liabilities	1,224				2,289
Total liabilities	170,668				127,275
Commitments and contingencies (Note 9)
Stockholders’ equity:
Preferred stock, $0.00001 par value; 25,000,000 shares authorized; no shares issued and outstanding as of December 31, 2017 and 2016	—				—
Common stock, $0.00001 par value; 200,000,000 shares authorized; 52,969,869 and 52,325,251 shares issued and outstanding as of December 31, 2017 and 2016, respectively	1				1
Additional paid-in capital	201,672				187,656
Treasury stock at cost, 20,220,227 shares as of December 31, 2017 and 2016	(155,947		)		(155,947		)
Retained earnings	123,185				118,275
Accumulated other comprehensive income (loss)	(1,467		)		903
Total stockholders’ equity	167,444				150,888
Total liabilities and stockholders’ equity	$	338,112			$	278,163

The accompanying notes are an integral part of these consolidated financial statements.

AXON ENTERPRISE, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME

(in thousands, except per share data)

	For the Years Ended December 31,
	2017				2016				2015
Net sales from products	$	285,859			$	238,573			$	185,230
Net sales from services	57,939				29,672				12,662
Net sales	343,798				268,245				197,892
Cost of product sales	117,997				91,536				65,022
Cost of service sales	18,713				6,173				4,223
Cost of sales	136,710				97,709				69,245
Gross margin	207,088				170,536				128,647
Sales, general and administrative	138,692				108,076				69,698
Research and development	55,373				30,609				23,614
Total operating expenses	194,065				138,685				93,312
Income from operations	13,023				31,851				35,335
Interest and other income (expense), net	2,738				(354		)		26
Income before provision for income taxes	15,761				31,497				35,361
Provision for income taxes	10,554				14,200				15,428
Net income	$	5,207			$	17,297			$	19,933
Net income per common and common equivalent shares:
Basic	$	0.10			$	0.33			$	0.37
Diluted	$	0.10			$	0.32			$	0.36
Weighted average number of common and common equivalent shares outstanding:
Basic	52,726				52,667				53,548
Diluted	53,898				53,536				54,638
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Net income	$	5,207			$	17,297			$	19,933
Foreign currency translation adjustments	(2,370		)		820				19
Comprehensive income	$	2,837			$	18,117			$	19,952

The accompanying notes are an integral part of these consolidated financial statements.

AXON ENTERPRISE, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(in thousands, except share data)

	Common Stock							Additional Paid-in Capital				Treasury Stock							Accumulated Other Comprehensive Income (Loss)				Retained Earnings				Total Stockholders’ Equity
	Shares			Amount					Shares			Amount
Balance, December 31, 2014	53,000,867			$	1			$	162,641			18,139,958			$	(114,645	)		$	64			$	81,045			$	129,106
Stock options exercised and RSUs vested, net of withholdings	983,525			—				1,303				—			—				—				—				1,303
Stock-based compensation	—			—				7,263				—			—				—				—				7,263
Excess tax benefit from stock-based compensation	—			—				6,936				—			—				—				—				6,936
Purchase of treasury stock	(292,200	)		—				—				292,200			(7,556		)		—				—				(7,556		)
Net income	—			—				—				—			—				—				19,933				19,933
Foreign currency translation adjustments	—			—				—				—			—				19				—				19
Balance, December 31, 2015	53,692,192			1				178,143				18,432,158			(122,201		)		83				100,978				157,004
Stock options exercised and RSUs vested, net of withholdings	421,128			—				(1,294		)		—			—				—				—				(1,294		)
Stock-based compensation	—			—				9,369				—			—				—				—				9,369
Excess tax benefit from stock-based compensation	—			—				1,438				—			—				—				—				1,438
Purchase of treasury stock	(1,788,069	)		—				—				1,788,069			(33,746		)		—				—				(33,746		)
Net income	—			—				—				—			—				—				17,297				17,297
Foreign currency translation adjustments	—			—				—				—			—				820				—				820
Balance, December 31, 2016	52,325,251			1				187,656				20,220,227			(155,947		)		903				118,275				150,888
Cumulative effect of applying a change in accounting principle	—			—				475				—			—				—				(297		)		178
Stock options exercised and RSUs vested, net of withholdings	644,618			—				(2,069		)		—			—				—				—				(2,069		)
Stock-based compensation	—			—				15,610				—			—				—				—				15,610
Net income	—			—				—				—			—				—				5,207				5,207
Foreign currency translation adjustments	—			—				—				—			—				(2,370		)		—				(2,370		)
Balance, December 31, 2017	52,969,869			$	1			$	201,672			20,220,227			$	(155,947	)		$	(1,467	)		$	123,185			$	167,444

The accompanying notes are an integral part of these consolidated financial statements.

AXON ENTERPRISE, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

	For the Years Ended December 31,
	2017				2016				2015
Cash flows from operating activities:
Net income	$	5,207			$	17,297			$	19,933
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization	8,041				3,658				3,291
Loss on disposal and abandonment of intangible assets	1,146				21				225
Purchase accounting adjustments to goodwill	(23		)		520				—
(Gain) loss on disposal of property and equipment, net	(28		)		42				(19		)
Bond premium amortization	657				1,265				1,650
Stock-based compensation	15,610				9,369				7,263
Deferred income taxes	2,830				(5,167		)		994
Unrecognized tax benefits	(191		)		582				(156		)
Tax benefit from stock-based compensation	—				(1,438		)		(6,936		)
Change in assets and liabilities:
Accounts and notes receivable	(35,305		)		(28,438		)		3,017
Inventory	(11,746		)		(18,668		)		3,140
Prepaid expenses and other assets	(9,007		)		(13,928		)		(7,352		)
Accounts payable, accrued and other liabilities	39				17,584				5,868
Deferred revenue	39,735				34,304				15,289
Customer deposits	1,525				922				238
Net cash provided by operating activities	18,490				17,925				46,445
Cash flows from investing activities:
Purchases of investments	(19,950		)		(56,086		)		(62,464		)
Proceeds from call / maturity of investments	61,080				64,951				44,105
Purchases of property and equipment	(10,419		)		(4,957		)		(6,003		)
Proceeds from disposal of property and equipment	24				42				40
Purchases of intangible assets	(1,024		)		(3,495		)		(501		)
Business acquisitions, net of cash acquired	(10,629		)		(3,500		)		(11,186		)
Net cash provided by (used in) investing activities	19,082				(3,045		)		(36,009		)
Cash flows from financing activities:
Repurchase of common stock	—				(33,746		)		(7,556		)
Proceeds from options exercised	1,383				478				2,673
Payroll tax payments for net-settled stock awards	(3,453		)		(1,772		)		(1,370		)
Payments on capital lease obligation	(34		)		(32		)		(80		)
Payments on notes payable	—				(75		)		—
Payment of contingent consideration for business acquisition	(1,750		)		(952		)		—
Excess tax benefit from stock-based compensation	—				1,438				6,936
Net cash (used in) provided by financing activities	(3,854		)		(34,661		)		603
Effect of exchange rate changes on cash and cash equivalents	736				906				120
Net increase (decrease) in cash and cash equivalents	34,454				(18,875		)		11,159
Cash and cash equivalents, beginning of year	40,651				59,526				48,367
Cash and cash equivalents, end of year	$	75,105			$	40,651			$	59,526

The accompanying notes are an integral part of these consolidated financial statements.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. Organization and Summary of Significant Accounting Policies

Axon Enterprise, Inc. (“Axon” or the “Company”) is a developer and manufacturer of advanced conducted electrical weapons (“CEWs”) designed for use by law enforcement, military, corrections, private security personnel, and by private individuals for personal defense. In addition, the Company has developed full technology solutions for the capture, secure storage and management of video/audio evidence as well as other tactical capabilities for use in law enforcement. The Company sells its products worldwide through its direct sales force, distribution partners, online store and third-party resellers. The Company was incorporated in Arizona in September 1993, and reincorporated in Delaware in January 2001. The Company’s corporate headquarters and manufacturing facilities are located in Scottsdale, Arizona. The Company’s software development division is located in Seattle, Washington. Axon Public Safety BV, a wholly owned subsidiary of the Company, supports the Company's international sales and marketing efforts, and is located in Amsterdam, Netherlands. Axon Public Safety BV wholly owns two subsidiaries, Axon Public Safety U.K. LTD and Axon Public Safety AU, that serve as direct sales operations in the United Kingdom (“U.K.”) and Australia, respectively. The Company also sells to certain international markets through a wholly owned subsidiary, Axon Public Safety Germany SE. In 2015, the Company formed Axon Public Safety Canada, Inc., a wholly owned subsidiary, to facilitate transactions for its products and services with new and existing customers located in Canada.

The accompanying consolidated financial statements include the accounts of the Company and its subsidiaries. All material intercompany accounts, transactions, and profits have been eliminated.

Basis of Presentation and Use of Estimates

The accompanying consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”). The preparation of these consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Significant estimates and assumptions in these consolidated financial statements include:

•	product warranty reserves,

•	inventory valuation,

•	revenue recognition allocated in multiple-deliverable contracts or arrangements,

•	valuation of goodwill, intangible and long-lived assets,

•	recognition, measurement and valuation of current and deferred income taxes,

•	fair value of stock awards issued and the estimated vesting period for performance-based stock awards, and

•	recognition and measurement of contingencies and accrued litigation expense.

Actual results could differ materially from those estimates.

Cash, Cash Equivalents and Investments

Cash, cash equivalents and investments include cash, money market funds, certificates of deposit, state and municipal obligations and corporate bonds. The Company places its cash and cash equivalents with high quality financial institutions. Although the Company deposits its cash with multiple financial institutions, its deposits, at times, do exceed federally insured limits.

Cash and cash equivalents include funds on hand and highly liquid investments purchased with initial maturity of three months or less. Short-term investments include securities with an expected maturity date within one year of the balance sheet date that do not meet the definition of a cash equivalent, and long-term investments are securities with an expected maturity date greater than one year. Based on management’s intent and ability, the Company’s investments are classified as held to maturity investments and are recorded at amortized cost. Held-to-maturity investments are reviewed quarterly for impairment to determine if other-than-temporary declines in the fair value have occurred for any individual investment that may affect the Company's intent and ability to hold the investment until recovery. Other-than-temporary declines in the value of held-to-maturity investments are recorded as expense in the period the determination is made.

Inventory

Inventories are stated at the lower of cost and net realizable value. Cost is determined using the weighted average cost of raw materials, which approximates the first-in, first-out (“FIFO”) method and includes allocations of manufacturing labor and overhead. Provisions are made to reduce potentially excess, obsolete or slow-moving inventories, as well as trial and evaluation

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

inventories to their net realizable value. These provisions are based on management’s best estimate after considering historical demand, projected future demand, inventory purchase commitments, industry and market trends and conditions among other factors. Management evaluates inventory costs for abnormal costs due to excess production capacity and treats such costs as period costs.

Property and Equipment

Property and equipment are stated at cost, net of accumulated depreciation and amortization. Additions and improvements are capitalized, while ordinary maintenance and repair expenditures are charged to expense as incurred. Depreciation is calculated using the straight-line method over the estimated useful lives of the assets.

Software Development Costs

The Company expenses software development costs, including costs to develop software products or the software component of products and services to be marketed to external users, before technological feasibility of such products is reached. The Company has determined that technological feasibility is reached shortly before the release of those products and as a result, the development costs incurred after the establishment of technological feasibility and before the release of those products are not material.

Software development costs also include costs to develop software programs to be used solely to meet the Company's internal needs and applications used to deliver its services. The Company capitalizes development costs related to these software applications once the preliminary project stage is complete and it is probable that the project will be completed and the software will be used to perform the intended function. Additionally, the Company capitalizes qualifying costs incurred for upgrades and enhancements to existing software that result in additional functionality. Costs related to preliminary project planning activities, post-implementation activities, maintenance and minor modifications are expensed as incurred. Internal-use software is amortized on a straight line basis over its estimated useful life.

Management evaluates the useful lives of these assets on an annual basis and tests for impairment whenever events or changes in circumstances occur that could impact the recoverability of these assets.

Valuation of Goodwill, Intangible and Long-lived Assets

The Company does not amortize goodwill and intangible assets with indefinite useful lives, rather such assets are required to be tested for impairment at least annually, or sooner whenever events or changes in circumstances indicate that the assets may be impaired. The Company performs its annual impairment assessment in the fourth quarter of each year. Finite-lived intangible assets and other long-lived assets are amortized over their estimated useful lives. Management evaluates whether events and circumstances have occurred that indicate the remaining estimated useful life of long-lived assets and intangible assets may warrant revision or that the remaining balance of these assets, including intangible assets with indefinite lives, may not be recoverable.

Circumstances that might indicate long-lived assets might not be recoverable could include, but are not limited to, a change in the product mix, a change in the way products are created, produced or delivered, or a significant change in the way the Company's products are branded and marketed. When performing a review for recoverability, management estimates the future undiscounted cash flows expected to result from the use of the assets and their eventual disposition. The amount of the impairment loss, if impairment exists, is calculated based on the excess of the carrying amounts of the assets over their estimated fair value computed using discounted cash flows. During the year ended December 31, 2017, the Company abandoned certain developed technology acquired in a business combination resulting in an impairment charge of $1.0 million. The impairment charge was recorded within the Software and Sensors Segment. No impairment losses were recorded during the years ended December 31, 2016 and 2015.

Customer Deposits

The Company requires deposits in advance of shipment for certain customer sales orders. Additionally, customers may elect to make deposits with the Company related to contracts for the Company's products and services that were not executed as of the end of a reporting period. Customer deposits are recorded as a current liability in the accompanying consolidated balance sheets.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

Revenue Recognition, Deferred Revenue and Accounts and Notes Receivable

The Company derives revenue from two primary sources: (1) the sale of physical products, including CEWs, Axon cameras, corresponding hardware extended warranties, and related accessories such as Axon docks, cartridges and batteries, among others, and (2) subscription to the Company's Evidence.com digital evidence management software as a service ("SaaS") (including data storage fees and other ancillary services), which includes varying levels of support. To a lesser extent, the Company also recognizes training, professional services and revenue related to other software and SaaS services. Revenue is recognized when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, title has transferred, the price is fixed and collectability is reasonably assured. Contractual arrangements may contain explicit customer acceptance provisions, and under such arrangements, the Company defers recognition of revenue until formal customer acceptance is received. Extended warranty revenue, SaaS revenue and related data storage revenue are recognized ratably over the term of the contract commencing on a pre-determined date subsequent to the delivery of the hardware. Training and professional service revenues are generally recorded once the services are completed.

Revenue arrangements with multiple deliverables are divided into separate units and revenue is allocated using the relative selling price method based upon vendor-specific objective evidence ("VSOE") of selling price or third-party evidence of the selling prices if VSOE of selling prices does not exist. If neither VSOE nor third-party evidence exists, management uses its best estimate of selling price. The majority of the Company’s allocations of arrangement consideration under multiple element arrangements are performed utilizing prices charged to customers for deliverables when sold separately. The Company’s multiple element arrangements may include rights to future CEWs and/or Axon devices to be delivered at defined points within a multi-year contract, and in those arrangements, the Company allocates total arrangement consideration over the life of the multi-year contract to future deliverables using management’s best estimate of selling price. The Company has not utilized third-party evidence of selling price.

The Company offers the opportunity to purchase extended warranties that include additional services and coverage beyond the standard limited warranty for certain products. Revenue for extended warranty purchases is deferred at the time of sale and recognized over the warranty period commencing on the date of sale. Extended warranties range from one to five years.

Evidence.com and Axon cameras and related accessories have stand-alone value to the customer and are sometimes sold separately, but in most instances are sold together. In these instances, customers typically purchase and pay for the equipment and one year of Evidence.com in advance. Additional years of service are generally billed annually over a specified service term, which has typically ranged from one to five years. Generally, the Company recognizes revenue for the Axon equipment at the time of the sale consistent with the discussion of multiple deliverable arrangements above. Revenue for Evidence.com is deferred at the time of the sale and recognized over the service period. At times, the Company discounts the price of Axon devices provided to customers to secure long-term Evidence.com service contracts. In such circumstances, revenue related to the Axon devices recognized at the time of delivery is limited to the amount allocated to the Axon device deliverable that the Company is contractually entitled to that is not contingent upon the delivery of future Evidence.com services. The Company recognizes the remaining allocated contingent revenue related to discounted Axon devices over the remaining period it provides the contracted Evidence.com services.

In 2012, the Company introduced a program, the TASER Assurance Program (“TAP”) whereby a customer purchasing a product and joining the program will have the right to trade-in the original product for a new product of the same or like model in the future. Upon joining TAP, customers also receive an extended warranty for the initial products purchased. Under this program the customer generally pays additional annual installments over the contract period, generally three to five years. The Company records consideration received related to the right to the future hardware product as deferred revenue until all revenue recognition criteria are met, which is generally when the new product is delivered. Consideration related to the right to the future hardware product is determined at the inception of the arrangement using management’s best estimate of selling price. Management’s estimate is principally based on the current selling price for such products, with evaluation of the impact of any expected product and pricing changes, which have historically had an immaterial influence on management’s best estimate of selling price.

In 2015, the Company introduced the Officer Safety Plan (“OSP”), whereby a customer typically enters into a five year Evidence.com subscription that includes all of its standard advanced features along with unlimited storage. The OSP also includes a service plan that includes upgrades of (i) the Axon devices every 2.5 years and (ii) a CEW at any point within the contract period. Upon entering into the OSP, customers also receive extended warranties on the Axon and CEW devices upon delivery to cover the contract periods. Under this program the customer generally makes an initial purchase of Axon cameras and related accessories, and CEWs at inception along with annual installments for services and future hardware deliverables over the contract period. The Company records consideration received related to the right to future hardware product as deferred revenue until all revenue recognition criteria are met, which is generally when the new product is delivered.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

In 2016, the Company introduced the TASER 60 Plan ("TASER 60") whereby a customer typically enters into a five year CEW installment purchase arrangement. TASER 60 also includes extended warranties on the CEW devices upon delivery covering the contract periods as well as holsters, cartridges and on-site spares. Generally, the Company allocates revenue to the deliverables using the relative selling price method and recognizes revenue at the time of sale for the amount allocated to the CEW devices, net of imputed interest, and the amount allocated to the extended warranty is recognized over five years. The Company performs an initial credit evaluation prior to execution of TASER 60 arrangements and subsequently performs quarterly credit evaluations by monitoring public municipal bond ratings, as applicable, and any subsequent credit upgrades or downgrades, to monitor for each customer's credit risk. Additionally, the Company tracks payment activity for amounts currently due to assess the credit quality of its notes receivable portfolio. As the Company’s customers generally have investment-grade municipal bond ratings, the Company considers collectability of the contracted amounts in such installment purchase arrangements to be reasonably assured, unless other factors or payment history indicate otherwise. For customers where municipal bond information is not available, the Company considers factors such as payment history, customer-specific information and broader market and economic trends and conditions to determine whether collectability is reasonably assured. The Company considers this information when establishing its allowance for doubtful accounts. For the years ended December 31, 2017 and 2016, the Company recorded revenue of $40.7 million and $17.9 million, respectively, under the Company's TASER 60 Plan. No such amounts were recorded during the year ended December 31, 2015.

In 2017, the Company introduced new subscription programs that allow for agencies to purchase the Company's training and duty cartridges over a five-year term whereby the customer makes five equal annual installments at the beginning of each contract year. The Company offers two tiers under this program: the basic and unlimited plan. The Basic Cartridge Plan entitles customers to a fixed number of training and duty cartridges per year as well as a fixed number of battery replacements over the contractual term. For the Basic Cartridge Plan, the Company allocates the contractual consideration to all identified deliverables using the relative selling price method. Generally, the Company recognizes revenue for the amounts allocated to the cartridges and batteries when they are delivered to the customer. The Unlimited Cartridge Plan entitles customers to a fixed number of training cartridges per year and an unlimited amount of duty cartridges and replacement batteries. Due to the unlimited nature of the arrangement whereby the Company is obligated to deliver unlimited products at the customer’s request, the Company accounts for these arrangements as stand-ready obligations, and recognizes revenue ratably over the contract period. Cost of product sales is recognized as the products are delivered to the customer.

Sales tax collected on sales is netted against government remittances and thus, recorded on a net basis.

Deferred revenue consists of payments received in advance related to products and services for which the criteria for revenue recognition have not yet been met. Deferred revenue that will be recognized during the subsequent twelve month period from the balance sheet date is recorded as current deferred revenue and the remaining portion is recorded as long-term. Generally, customers are billed in annual installments. See Note 7 for further disclosures about the Company’s deferred revenue.

The Company records reductions to net sales for expected future product returns based on the Company’s historical experience.

Sales are typically made on credit, and the Company generally does not require collateral. Management performs ongoing credit evaluations of its customers’ financial condition, and maintains an allowance for doubtful accounts. Uncollectible accounts are charged to expense when deemed uncollectible, and accounts and notes receivable are presented net of an allowance for doubtful accounts. This allowance represents management’s best estimate and application of judgment considering a number of factors, including third-party credit reports, actual payment history, cash discounts, customer-specific financial information and broader market and economic trends and conditions.

Cost of Product and Service Sales

Cost of product sales represents manufacturing costs, consisting of materials, labor and overhead related to finished goods and components. Shipping costs incurred related to product delivery are also included in cost of products sold. Cost of service sales includes third-party cloud services, and software maintenance and support costs, including personnel costs, associated with supporting Evidence.com and other software related services.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

Advertising Costs

The Company expenses advertising costs in the period in which they are incurred. The Company incurred advertising costs of $0.5 million, $0.4 million and $0.6 million in the years ended December 31, 2017, 2016 and 2015, respectively. Advertising costs are included in sales, general and administrative expenses in the accompanying statements of operations.

Standard Warranties

The Company warranties its CEWs, Axon cameras and certain related accessories from manufacturing defects on a limited basis for a period of one year after purchase and, thereafter, will replace any defective unit for a fee. Estimated costs for the standard warranty are charged to cost of products sold when revenue is recorded for the related product. Future warranty costs are estimated based on historical data related to warranty claims on a quarterly basis and this rate is applied to current product sales. Historically, reserve amounts have been increased if management becomes aware of a component failure or other issue that could result in larger than anticipated warranty claims from customers. The warranty reserve is reviewed quarterly to verify that it sufficiently reflects the remaining warranty obligations based on the anticipated expenditures over the balance of the warranty obligation period, and adjustments are made when actual warranty claim experience differs from estimates. The warranty reserve is included in accrued liabilities on the accompanying consolidated balance sheets.

Changes in the Company’s estimated warranty reserve were as follows (in thousands):

	2017				2016				2015
Balance, January 1	$	780			$	314			$	675
Utilization of reserve	(245		)		(155		)		(299		)
Warranty expense (recoveries)	109				621				(62		)
Balance, December 31	$	644			$	780			$	314

Research and Development Expenses

The Company expenses as incurred research and development costs that do not meet the qualifications to be capitalized. The Company incurred research and development expense of $55.4 million, $30.6 million and $23.6 million in 2017, 2016 and 2015, respectively.

Income Taxes

Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement amounts of assets and liabilities and their respective tax bases and operating loss and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in future years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rate is recognized in income in the period that includes the enactment date. Deferred tax assets are reduced through the establishment of a valuation allowance if, based upon available evidence, it is determined that it is more likely than not that the deferred tax assets will not be realized.

The Company recognizes the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the consolidated financial statements from such a position are measured based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate resolution. Management also assesses whether uncertain tax positions, as filed, could result in the recognition of a liability for possible interest and penalties. The Company’s policy is to include interest and penalties related to unrecognized tax benefits as a component of income tax expense. Refer to Note 10 for additional information regarding the change in unrecognized tax benefits.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

Concentration of Credit Risk and Major Customers / Suppliers

Financial instruments that potentially subject the Company to concentrations of credit risk consist of accounts and notes receivable and cash. Sales are typically made on credit and the Company generally does not require collateral. Management performs ongoing credit evaluations of its customers’ financial condition and maintains an allowance for estimated losses. Uncollectible accounts are written off when deemed uncollectible, and accounts receivable are presented net of an allowance for doubtful accounts, which totaled $0.8 million and $0.4 million as of December 31, 2017 and 2016, respectively. Historically, the Company has experienced a low level of write-offs related to doubtful accounts.

The Company maintains the majority of its cash at four depository institutions. As of December 31, 2017, the aggregate balances in such accounts were $53.4 million. The Company’s balances with these institutions regularly exceed Federal Deposit Insurance Corporation (“FDIC”) insured limits for domestic deposits and various deposit insurance programs covering our deposits in the Netherlands, the United Kingdom, Germany and Australia. To manage the related credit exposure, management continually monitors the creditworthiness of the financial institutions where the Company has deposits.

The Company sells some of its products through a network of unaffiliated distributors. The Company also reserves the right to sell directly to the end user to secure the customer’s account. No customer represented more than 10% of total net sales for the years ended December 31, 2017, 2016 or 2015.

At December 31, 2017, no customer represented more than 10% of total accounts and notes receivable. As of December 31, 2016, the Company had a trade receivable from one unaffiliated customer comprising 14.5% of the aggregate accounts and notes receivable balance.

The Company currently purchases finished circuit boards and injection-molded plastic components from suppliers located in the U.S., Mexico and Taiwan. Although the Company currently obtains many of these components from single source suppliers, the Company owns the injection molded component tooling used in their production. As a result, management believes it could obtain alternative suppliers in most cases without incurring significant production delays. The Company also purchases small, machined parts from a vendor in Taiwan, custom cartridge assemblies from a proprietary vendor in the U.S., and electronic components from a variety of foreign and domestic distributors. Management believes that there are readily available alternative suppliers in most cases who could consistently meet the Company's needs for these components. The Company acquires most of its components on a purchase order basis and does not have any significant long-term contracts with suppliers.

Fair Value of Financial Instruments

The Company uses the fair value framework that prioritizes the inputs to valuation techniques for measuring financial assets and liabilities measured on a recurring basis and for non-financial assets and liabilities when these items are re-measured. Fair value is considered to be the exchange price in an orderly transaction between market participants, to sell an asset or transfer a liability at the measurement date. The hierarchy below lists three levels of fair value based on the extent to which inputs used in measuring fair value are observable in the market. The Company categorizes each of its fair value measurements in one of these three levels based on the lowest level input that is significant to the fair value measurement in its entirety. These levels are:

•	Level 1 – Valuation techniques in which all significant inputs are unadjusted quoted prices from active markets for assets or liabilities that are identical to the assets or liabilities being measured.

•

Level 2 – Valuation techniques in which significant inputs include quoted prices from active markets for assets or liabilities that are similar to the assets or liabilities being measured and/or quoted prices for assets or liabilities that are identical or similar to the assets or liabilities being measured from markets that are not active. Also, model-derived valuations in which all significant inputs and significant value drivers are observable in active markets are Level 2 valuation techniques.

•	Level 3 – Valuation techniques in which one or more significant inputs or significant value drivers are unobservable. Unobservable inputs are valuation technique inputs that reflect the Company's own assumptions about inputs that market participants would use in pricing an asset or liability.

The Company has cash equivalents and investments, which at December 31, 2017 and 2016, were comprised of money market funds, state and municipal obligations, corporate bonds, and certificates of deposits. See additional disclosure regarding the fair value of the Company’s cash equivalents and investments in Note 2. Included in the balance of other assets as of December 31, 2017 and 2016 was $3.8 million and $3.2 million, respectively, related to corporate-owned life insurance policies which are used

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

to fund the Company’s deferred compensation plan. The Company determines the fair value of its insurance contracts by obtaining the cash surrender value of the contracts from the issuer, a Level 2 valuation technique.

The Company’s financial instruments also include accounts and notes receivable, accounts payable and accrued liabilities. Due to the short-term nature of these instruments, their fair values approximate their carrying values on the balance sheet.

Segment and Geographic Information

The Company is comprised of two reportable segments: the sale of CEWs, accessories and other related products and services (the “TASER Weapons” segment); and the software and sensors business, focused on devices, wearables, applications, cloud and mobile products (the "Software and Sensors" segment). Reportable segments are determined based on discrete financial information reviewed by the Company’s Chief Executive Officer who is the chief operating decision maker ("CODM") for the Company. The Company organizes and reviews operations based on products and services, and currently there are no operating segments that are aggregated. The Company performs an annual analysis of its reportable segments. Additional information related to the Company’s business segments is summarized in Note 16.

For the years ended December 31, 2017, 2016 and 2015, net sales by geographic area as well as the percentage relationship to total net sales included in the accompanying statements of operations were as follows (in thousands):

	Year Ended December 31,
	2017							2016							2015
United States	$	282,810			82.3	%		$	218,757			81.6	%		$	161,803			81.8	%
Other Countries	60,988				17.7			49,488				18.4			36,089				18.2
Total	$	343,798			100.0	%		$	268,245			100.0	%		$	197,892			100.0	%

Sales to customers outside of the U.S. are typically denominated in U.S. dollars and are attributed to each country based on the shipping address of the distributor or customer. For the years ended December 31, 2017, 2016 and 2015, no individual country outside the U.S. represented more than 10% of net sales. Substantially all of the Company’s assets are located in the U.S.

Stock-Based Compensation

The Company recognizes expense related to stock-based compensation transactions in which it receives employee services in exchange for equity instruments of the Company. Stock-based compensation expense for RSUs is measured based on the closing fair market value of the Company’s common stock on the date of grant. The Company recognizes stock-based compensation expense over the award’s requisite service period on a straight-line basis for time-based RSUs and on a graded basis for RSUs that are contingent on the achievement of performance conditions. The Company recognizes forfeitures as they occur as a reduction to stock-based compensation expense and to additional paid-in-capital.

The Company calculates the fair value of stock options using the Black-Scholes-Merton option pricing valuation model, which incorporates various assumptions including expected volatility, expected life, expected dividends and risk-free interest rates. No options were awarded during the years ended December 31, 2017, 2016 or 2015.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

Income per Common Share

Basic income per common share is computed by dividing net income by the weighted average number of common shares outstanding during the periods presented. Diluted income per share reflects the potential dilution that would occur if outstanding stock options were exercised utilizing the treasury stock method. The calculation of the weighted average number of shares outstanding and earnings per share are as follows (in thousands except per share data):

	For the Year Ended December 31,
	2017				2016				2015
Numerator for basic and diluted earnings per share:
Net income	$	5,207			$	17,297			$	19,933
Denominator:
Weighted average shares outstanding—basic	52,726				52,667				53,548
Dilutive effect of stock-based awards	1,172				869				1,090
Diluted weighted average shares outstanding	53,898				53,536				54,638
Anti-dilutive stock-based awards excluded	386				443				198
Net income per common share:
Basic	$	0.10			$	0.33			$	0.37
Diluted	$	0.10			$	0.32			$	0.36

Recently Issued Accounting Guidance

In May 2014, the Financial Accounting Standards Board (“FASB”) issued a new standard related to revenue recognition, Accounting Standards Update 2014-09, Revenue from Contracts with Customers (“ASU 2014-09” or “Topic 606”). This authoritative guidance includes a comprehensive new revenue recognition model that requires revenue to be recognized in a manner to depict the transfer of promised goods or services to a customer in an amount that reflects the consideration the entity expects to receive in exchange for those goods or services. In addition, the standard requires disclosure of the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. ASU 2014-09 also includes ASC 340-40 which codifies the guidance on other assets and deferred costs relating to contracts with customers. ASC 340-40 specifies the accounting for costs an entity incurs to obtain and fulfill a contract to provide goods and services to customers.

The standard permits two methods of adoption: retrospectively to each prior reporting period presented (the “full retrospective method”), or retrospectively with the cumulative effect of initially applying Topic 606 recognized at the date of initial application (the “modified retrospective method”) effective January 1, 2018. The Company has adopted the standard using the modified retrospective method. Under this method, the Company could elect to apply the cumulative effect method to either all contracts as of the date of initial application or only to contracts that are not complete as of that date. The Company has adopted the standard effective January 1, 2018, and has elected to apply the modified retrospective method to contracts that were not complete as of the date of initial application.

The adoption of Topic 606 is expected to have a material effect on the Company's consolidated financial statements. In addition to the enhanced footnote disclosures related to revenue from contracts with customers, the areas most significantly impacted will be contracts with contingent hardware revenue, contracts containing termination for convenience provisions, contracts containing software licenses and post-contract customer support, and the treatment of incremental costs of obtaining contracts with customers. However, due to the terms and conditions in certain customer contracts, the actual revenue recognition treatment under the new standard will be dependent on contract-specific terms, and may vary in some instances from the general recognition discussed below.

•

Prior to applying Topic 606, for bundled arrangements containing Evidence.com services in which the Company has provided significantly discounted or free of charge hardware, the Company has limited the amount of revenue it recognizes for the hardware to the amount that it is entitled to and is not contingent on future performance. Revenue allocated to the hardware that is in excess of the invoiced amount of that hardware is recognized over the contractual term when recognition of that revenue is contingent upon the delivery of Evidence.com services. Under the new standard, the Company is generally required to recognize hardware revenue upon fulfillment of the distinct hardware performance obligation, which

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

is when control of the hardware transfers to the customer, rather than recognizing any contingent hardware revenue over the term of the Evidence.com services.

•

Prior to applying Topic 606, for long-term contracts containing termination for convenience provisions, the Company allocates revenue to all identified deliverables included in the contractual term assuming the termination provisions will not be exercised. Under the standard preceding Topic 606, revenue is recognized when it has been earned, which is generally when products have been delivered and services have been provided. For contracts under the new standard containing termination for convenience provisions, the contract term will be limited to the period in which the Company has enforceable rights or the period in which the customer has been granted a material right for goods or services in the future. These material rights create future performance obligations that will not be satisfied until a later date, thereby increasing the contract term. In instances in which the contract term is determined to be less than the term stated in the contract, the portion of transaction price that is subject to present enforceable rights and obligations and the related identified performance obligations shall be accounted for at contract inception. Any future transaction price and performance obligations outside the initial contract term will be accounted for as revenue when customers renew subsequent periods, which is generally when the Company has the right to invoice the customer for the subsequent period. Revenue will then be recognized when the Company fulfills its performance obligations by transferring a promised good or service to a customer.

•

Prior to applying Topic 606, for sales of the Company's software products containing software licenses and post-contract customer support ("PCS") that have previously been accounted for under ASC 985-605, the entire arrangement fee was recognized ratably over the PCS term because the Company did not have sufficient VSOE required to allocate the fee to the separate elements. Under the new standard, and the Company will allocate the total transaction price based on the relative stand-alone selling price of each performance obligation and recognize the full amount of revenue attributable to the distinct software license predominately at the time control of the software license is transferred to the customer, while the amount allocated to the PCS performance obligation will be recognized ratably over the support term.

•

Prior to applying ASC 340-40, the Company has an established policy within the Software and Sensors segment to defer certain commissions costs, which are direct and incremental costs of obtaining certain long-term customer contracts, and recognize the costs as expense over the contractual term as the goods and services are delivered to the customer. The new standard specifies that all incremental costs of obtaining customer contracts and direct costs of fulfilling contracts with customers should be deferred and recognized as expense when the related performance obligations are fulfilled, which may be at points in time or over the contract term. Under the new standard, the Company will defer all incremental costs of obtaining customer contracts and recognize them as the related performance obligations are fulfilled for both the Software and Sensors and TASER Weapons segments. The Company generally expects that direct costs of fulfilling contracts with customers occur in the same period as the fulfillment of the related performance obligations and as a result, those fulfillment costs will continue to be recognized as incurred.

The cumulative impact of adopting the standard on January 1, 2018 is expected to result in an increase in stockholders' equity (retained earnings) of between $15.0 million and $25.0 million primarily related to the application of the aforementioned impacts to contracts that were not complete as of the date of initial application of Topic 606. As of the date of this report, we have finalized most of our accounting assessment of the new standard and we are nearly complete in determining the impacts of the disclosure requirements of the new standard. Additionally, the Company is in process of updating its internal control framework as it relates to the new standard. While the Company's quantification of the impact is ongoing and the actual opening balance sheet impact may differ from the estimated range above, the Company does expect to be in a position to begin reporting under the new standard beginning with the first quarter of 2018.

In July 2015, the FASB issued ASU 2015-11, Inventory (Topic 330). The amendments require that an entity should measure inventory at the lower of cost and net realizable value. Net realizable value is the estimated price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. The Company adopted this guidance effective January 1, 2017 and it did not have a material impact on its consolidated financial statements.

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842) in order to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet for those leases classified as operating leases under previous U.S. GAAP. ASU 2016-02 requires that a lessee should recognize a liability to make lease payments (the lease liability) and a right-of-use asset representing its right to use the underlying asset for the lease term on the balance sheet. ASU 2016-02 is effective for the fiscal year beginning after December 15, 2018 (including interim periods within that year) using

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

a modified retrospective approach and early adoption is permitted. The Company is currently in the process of evaluating the impact of adoption of this ASU on its consolidated financial statements.

In March 2016, the FASB issued ASU 2016-09, Improvements to Employee Share-Based Payment Accounting, which amends Accounting Standards Codification (Topic 718), Compensation – Stock Compensation. ASU 2016-09 impacts several aspects of the accounting for share-based payment transactions. The Company adopted this guidance effective January 1, 2017, which required the following changes to the presentation of the Company's financial statements:

•

Excess tax benefits or deficiencies for share-based payments are now recorded as a discrete item in the period shares vest or stock options are exercised as an adjustment to income tax expense or benefit rather than additional paid-in capital. This change was applied prospectively as of January 1, 2017. The Company did not have any excess tax benefits that were not previously recognized as of January 1, 2017.

•	As of January 1, 2017, the calculation of diluted weighted average shares outstanding was changed prospectively to no longer include excess tax benefits as assumed proceeds. This change resulted in recording an increased number of dilutive shares, but did not have a material impact on the Company's current year diluted earnings per share;

•	Cash flows related to excess tax benefits or deficiencies are included in the statement of cash flows as an operating activity rather than as a financing activity. The Company adopted this change prospectively.

•

Cash paid to taxing authorities when withholding shares from an employee's vesting or exercise of equity-based compensation awards for tax-withholding purposes is now considered a repurchase of the Company's equity instruments and is classified as cash used in financing activities. The Company already classifies these transactions as a financing activity, and as such, there was no impact upon adoption.

•

The Company has made the election to account for forfeitures when they occur rather than estimating forfeitures. The Company adopted this change on a modified retrospective basis, which resulted in an increase to additional paid-in capital and decrease to retained earnings of $0.5 million as of January 1, 2017. The decrease to retained earnings of $0.5 million was partially reduced by the income tax effect of the adjustment of $0.2 million.

In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses. The new guidance differs from existing U.S. GAAP in that previous standards generally delayed recognition of credit losses until the loss was probable. ASU 2016-13 eliminates the probable initial recognition threshold and, instead, reflect an entity’s current estimate of all expected credit losses. The use of forecasted information is intended to incorporate more timely information in the estimate of expected credit loss. ASU 2016-13 is effective for the fiscal year beginning after December 15, 2019, and interim periods within that fiscal year, and early adoption is permitted. The Company is currently in the process of evaluating the impact of adoption of ASU 2016-13 on its consolidated financial statements.

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. ASU 2016-15 eliminates the diversity in practice related to the classification of certain cash receipts and payments. ASU 2016-15 designates the appropriate cash flow classification, including requirements to allocate certain components of these cash receipts and payments among operating, investing and financing activities. ASU 2016-15 is effective for the fiscal year beginning after December 15, 2017, and interim periods within that fiscal year, and early adoption is permitted. The retrospective transition method, requiring adjustment to all comparative periods presented, is required unless it is impracticable for some of the amendments, in which case those amendments would be prospectively applied as of the earliest date practicable. The Company does not expect the adoption of this ASU to have a material impact on its consolidated financial statements.

In October 2016, the FASB issued ASU 2016-16, Income Taxes (Topic 740) - Intra-Entity Transfers of Assets Other Than Inventory. ASU 2016-16 requires an entity to recognize income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs. This removes the exception allowing postponement of recognition until the asset has been sold to an outside party. ASU 2016-16 is effective for fiscal year beginning after December 15, 2017 using a modified retrospective approach, and early adoption is permitted. The Company is currently in the process of evaluating the impact of adoption of this ASU on its consolidated financial statements.

In November 2016, the FASB issued ASU 2016-18, Statement of Cash Flows - Restricted Cash (Topic 230), which amends the existing guidance relating to the treatment of restricted cash and restricted cash equivalents on the statement of cash flows. ASU 2016-18 is effective for the fiscal years beginning after December 15, 2017, and interim periods within that fiscal year, and early adoption is permitted. The Company does not expect the adoption of this ASU to have a material impact on its consolidated financial statements.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

In January 2017, the FASB issued ASU 2017-01, Business Combinations (Topic 805) to provide a more robust framework to use in determining when a set of acquired assets and activities is a business. ASU 2017-01 is effective for the fiscal year beginning after December 15, 2017, and interim periods within that year, and early adoption is permitted. The Company does not expect the adoption of this ASU to have a material impact on its consolidated financial statements.

In January 2017, the FASB issued ASU 2017-04, Intangibles - Goodwill and Other (Topic 350), which simplifies the goodwill impairment test by eliminating Step 2 of the quantitative assessment and should reduce the cost and complexity of evaluating goodwill for impairment. Under the amended guidance, when a quantitative assessment is required, an entity will perform a goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An impairment charge will be measured as the amount by which the carrying amount exceeds the reporting unit’s fair value, not to exceed the total amount of recorded goodwill. ASU 2017-04 is effective for the fiscal year beginning after December 15, 2019, and interim periods within that fiscal year, and early adoption is permitted. The Company's early adoption on January 1, 2017 did not have an impact on its consolidated financial statements.

In May 2017, the FASB issued ASU 2017-09, Compensation - Stock Compensation (Topic 718), which provides guidance on determining which changes to the terms and conditions of share-based payment awards require an entity to apply modification accounting under Topic 718. ASU 2017-09 is effective for the fiscal year beginning after December 15, 2017 using a prospective approach, and early adoption is permitted. The Company does not expect the adoption of this ASU to have a material impact on its consolidated financial statements.

Reclassification of Prior Year Presentation

Certain prior year amounts have been reclassified for consistency with the current year presentation. These reclassifications had no effect on the reported results of operations.

2. Cash, Cash Equivalents and Investments

The following tables summarize the Company's cash, cash equivalents, and held-to-maturity investments at December 31, 2017 and December 31, 2016 (in thousands):

	As of December 31, 2017
	Amortized Cost				Gross Unrealized Losses				Fair Value				Cash and Cash Equivalents				Short-Term Investments				Long-Term Investments
Cash	$	53,459			$	—			$	53,459			$	53,459			$	—			$	—
Level 1:
Money market funds	20,884				—				20,884				20,884				—				—
Corporate bonds	6,632				(6		)		6,626				—				6,632				—
Subtotal	27,516				(6		)		27,510				20,884				6,632				—
Level 2:
State and municipal obligations	992				—				992				762				230				—
Total	$	81,967			$	(6	)		$	81,961			$	75,105			$	6,862			$	—

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

	As of December 31, 2016
	Amortized Cost				Gross Unrealized Losses				Fair Value				Cash and Cash Equivalents				Short-Term Investments				Long-Term Investments
Cash	$	32,802			$	—			$	32,802			$	32,802			$	—			$	—
Level 1:
Money market funds	7,849				—				7,849				7,849				—				—
Corporate bonds	33,379				(57		)		33,322				—				33,379				—
Subtotal	41,228				(57		)		41,171				7,849				33,379				—
Level 2:
State and municipal obligations	14,477				(10		)		14,467				—				14,243				234
Certificates of deposit	793				—				793				—				793				—
Subtotal	15,270				(10		)		15,260				—				15,036				234
Total	$	89,300			$	(67	)		$	89,233			$	40,651			$	48,415			$	234

The Company believes the unrealized losses on the Company’s investments are due to interest rate fluctuations. As these investments are short-term in nature, are expected to be redeemed at par value, and because the Company has the ability and intent to hold these investments to maturity, the Company does not consider these investments to be other than temporarily impaired at December 31, 2017.

3. Inventory

Inventories are stated at the lower of cost and net realizable value. Cost is determined using the weighted average cost of raw materials which approximates the FIFO method and includes allocations of manufacturing labor and overhead. Included in finished goods at December 31, 2017 and December 31, 2016 was $1.4 million and $0.7 million, respectively, of trial and evaluation hardware units. Provisions are made to reduce excess, obsolete or slow-moving inventories to their net realizable value. Inventories consisted of the following at December 31 (in thousands):

	2017				2016
Raw materials	$	20,119			$	18,002
Finished goods	25,346				16,839
Total inventory	$	45,465			$	34,841

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

4. Property and Equipment

Property and equipment consisted of the following at December 31 (in thousands):

	Estimated Useful Life		2017				2016
Land	N/A		$	2,900			$	2,900
Building and leasehold improvements	3-39 years		18,383				15,295
Production equipment	3-7 years		19,075				19,849
Computers, equipment and software	3-5 years		6,780				7,985
Furniture and office equipment	5-7 years		5,262				4,990
Vehicles	5 years		1,057				675
Website development costs	3 years		687				601
Capitalized internal-use software development costs	3 years		3,695				3,695
Construction-in-process	N/A		9,810				5,813
Total cost			67,649				61,803
Less: Accumulated depreciation			(36,477		)		(37,799		)
Property and equipment, net			$	31,172			$	24,004

Depreciation and amortization expense related to property and equipment was $3.4 million, $2.5 million and $2.3 million for the years ended December 31, 2017, 2016 and 2015, respectively, of which $1.1 million, $0.7 million and $0.7 million was included in cost of sales for the respective years.

5. Goodwill and Intangible Assets

The changes in the carrying amount of goodwill for the year ended December 31, 2017 were as follows (in thousands):

	TASER Weapons				Software and Sensors				Total
Balance, January 1, 2017	$	562			$	9,880			$	10,442
Goodwill acquired	825				3,505				4,330
Purchase accounting adjustments	—				23				23
Foreign currency translation adjustments	66				66				132
Balance, December 31, 2017	$	1,453			$	13,474			$	14,927

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

Intangible assets (other than goodwill) consisted of the following (in thousands):

			December 31, 2017												December 31, 2016
	Useful Life		Gross Carrying Amount				Accumulated Amortization				Net Carrying Amount				Gross Carrying Amount				Accumulated Amortization				Net Carrying Amount
Amortized (definite-lived intangible assets):
Domain names	5-10 years		$	3,161			$	(428	)		$	2,733			$	3,161			$	(125	)		$	3,036
Issued patents	4-15 years		2,697				(913		)		1,784				1,942				(780		)		1,162
Issued trademarks	3-11 years		860				(397		)		463				655				(320		)		335
Customer relationships	4-8 years		1,377				(451		)		926				914				(240		)		674
Non-compete agreements	3-4 years		556				(346		)		210				465				(236		)		229
Developed technology	3-7 years		13,469				(3,956		)		9,513				8,661				(824		)		7,837
Re-acquired distribution rights	2 years		2,133				(711		)		1,422				—				—				—
Total amortized			24,253				(7,202		)		17,051				15,798				(2,525		)		13,273
Not amortized (indefinite-lived intangible assets:
TASER trademark			900								900				900								900
Patents and trademarks pending			872								872				1,045								1,045
Total not amortized			1,772								1,772				1,945								1,945
Total intangible assets			$	26,025			$	(7,202	)		$	18,823			$	17,743			$	(2,525	)		$	15,218

Amortization expense of intangible assets was $4.7 million, $0.9 million and $0.8 million for the years ended December 31, 2017, 2016 and 2015, respectively. Estimated amortization for intangible assets with definitive lives for the next five years ended December 31, and thereafter, is as follows (in thousands):

2018	$	5,415
2019	3,868
2020	2,401
2021	2,266
2022	834
Thereafter	2,267
Total	$	17,051

6. Other Long-Term Assets

Other long-term assets consisted of the following at December 31 (in thousands):

	2017				2016
Cash surrender value of corporate-owned life insurance policies	$	3,846			$	3,240
Deferred commissions (i)	6,803				5,302
Restricted cash (ii)	3,333				3,317
Prepaid expenses, deposits and other	1,384				2,058
Total other long-term assets	$	15,366			$	13,917

(i) Deferred commissions represent customer acquisition costs to secure long-term contracts. The Company capitalizes incremental and direct costs related to a specific contract and recognizes such costs as expense over the term of the contract in proportion to the contract revenue.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(ii) As of December 31, 2017, restricted cash primarily consisted of $2.7 million of sales proceeds related to a long-term contract with a specific customer. These proceeds are held in escrow until certain billing milestones are achieved, and then specified amounts are transferred to the Company's operating accounts. Restricted cash also contained $0.6 million related to a performance guarantee related to an international customer sales contract.

7. Deferred Revenue

Deferred revenue consisted of the following at December 31 (in thousands):

	December 31, 2017												December 31, 2016
	Current				Long-Term				Total				Current				Long-Term				Total
Warranty:
TASER Weapons	$	12,501			$	18,619			$	31,120			$	9,980			$	17,319			$	27,299
Software and Sensors	6,293				4,195				10,488				3,979				2,926				6,905
	18,794				22,814				41,608				13,959				20,245				34,204
Hardware:
TASER Weapons	4,164				11,401				15,565				1,702				4,390				6,092
Software and Sensors	16,956				14,781				31,737				9,850				11,205				21,055
	21,120				26,182				47,302				11,552				15,595				27,147
Software and Sensors Services	30,487				5,885				36,372				19,626				4,214				23,840
Total	$	70,401			$	54,881			$	125,282			$	45,137			$	40,054			$	85,191

	December 31, 2017												December 31, 2016
	Current				Long-Term				Total				Current				Long-Term				Total
TASER Weapons	$	16,665			$	30,020			$	46,685			$	11,682			$	21,709			$	33,391
Software and Sensors	53,736				24,861				78,597				33,455				18,345				51,800
Total	$	70,401			$	54,881			$	125,282			$	45,137			$	40,054			$	85,191

8. Accrued Liabilities

Accrued liabilities consisted of the following at December 31 (in thousands):

	2017				2016
Accrued salaries, benefits and bonus	$	8,957			$	6,474
Accrued professional, consulting and lobbying fees	3,870				3,673
Accrued warranty expense	644				780
Accrued income and other taxes	2,558				4,581
Other accrued expenses	7,473				2,740
Accrued liabilities	$	23,502			$	18,248

9. Commitments and Contingencies

Operating and capital lease obligations

The Company has entered into operating leases for various office space, storage facilities and equipment. As of December 31, 2017, the Company's leases are for terms ranging from less than one year to six years. The Company's leases generally contain multi-year renewal options and escalation clauses. Rent expense under all operating leases, including both cancelable and non-cancelable leases, was $2.9 million, $1.8 million and $1.0 million for the years ended December 31, 2017, 2016, and 2015, respectively.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

Future minimum lease payments under non-cancelable leases at December 31, 2017, are as follows (in thousands):

	Operating				Capital
2018	$	2,313			$	40
2019	1,893				40
2020	1,236				36
2021	1,097				—
2022	1,073				—
Thereafter	43				—
Total minimum lease payments	$	7,655			116
Less: Amount representing interest					(7		)
Capital lease obligation					$	109

Purchase commitments

The Company routinely enters into cancellable and non-cancellable purchase orders with many of its key vendors. Based on the strategic relationships with many of these vendors, the Company’s ability to cancel these purchase orders and maintain a favorable relationship would be limited. As of December 31, 2017, the Company has approximately $51.9 million of open purchase orders.

Litigation

Product Litigation

The Company is currently named as a defendant in six lawsuits in which the plaintiffs allege either wrongful death or personal injury in situations in which a TASER CEW was used by law enforcement officers in connection with arrests. While the facts vary from case to case, the product liability claims are typically based on an alleged product defect resulting in injury or death, usually involving a failure to warn or negligent design, and the plaintiffs are seeking monetary damages. The information throughout this note is current through the date of these financial statements.

As a general rule, it is the Company’s policy not to settle suspect injury or death cases. Exceptions are sometimes made where the settlement is strategically beneficial to the Company. Also, on occasion, the Company’s insurance carrier has settled such lawsuits over the Company’s objection where the risk exceeds the Company’s liability insurance deductibles. Due to the confidentiality of the Company's litigation strategy and the confidentiality agreements that are executed in the event of a settlement, the Company does not identify or comment on which specific lawsuits have been settled or the amount of any settlement.

In 2009, the Company implemented new risk management strategies, including revisions to product warnings and training to better protect both the Company and its customers from litigation based on "failure to warn" theories – which comprise the vast majority of the cases against the Company. These risk management strategies have been highly effective in reducing the rate and exposure from litigation post-2009. From the third quarter of 2011 through the date of these financial statements, product liability cases have been reduced from 55 active to six active cases.

Management believes that pre-2009 cases have a different risk profile than cases which have occurred since the risk management procedures were introduced in 2009. Therefore, the Company necessarily treats certain pre-2009 cases as exceptions to the Company’s general no settlement policy in order to reduce caseload, legal costs and liability exposure. The Company intends to continue its successful practice of aggressively defending and generally not settling litigation except in very limited and unusual circumstances as described above.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

With respect to each of the pending lawsuits, the following table lists the name of plaintiff, the date the Company was served with process, the jurisdiction in which the case is pending, the type of claim and the status of the matter.

Plaintiff		Month Served		Jurisdiction		Claim Type		Status
Derbyshire		Nov-09		Ontario, Canada Superior Court of Justice		Officer Injury		Discovery Phase. Trial scheduled for October 14, 2019
Shymko		Dec-10		The Queen's Bench, Winnipeg Centre, Manitoba		Wrongful Death		Pleading Phase
Ramsey		Jan-12		12th Judicial Circuit Court, Broward County, FL		Wrongful Death		Discovery Phase
Bennett		Sep-15		11th Judicial Circuit Court, Miami-Dade County, FL		Wrongful Death		Discovery Phase.
Masters		Nov-16		U.S. District Court, Western District of Missouri		Suspect Injury		Discovery Phase. Trial scheduled for December 10, 2018
Taylor		Mar-17		U.S. District Court, Southern District of Texas		Officer Injury		Discovery Phase. Docket call August 31, 2018

There are no product litigation matters in which the Company is involved that are currently on appeal.

The following case was dismissed during the fourth quarter of 2017:

Plaintiff		Month Served		Jurisdiction		Claim Type		Status
Suarez		Sep-16		U.S. District Court, Southern District of Florida		Wrongful Death		Dismissed

The claims of each of these lawsuits have been submitted to the Company’s insurance carriers that maintained insurance coverage during the applicable periods. The Company continues to maintain product liability insurance coverage with varying limits and deductibles. The following table provides information regarding the Company’s product liability insurance. Remaining insurance coverage is based on information received from the Company’s insurance provider (in millions).

Policy Year		Policy Start Date		Policy End Date		Insurance Coverage				Deductible Amount				Defense Costs Covered		Remaining Insurance Coverage				Active Cases and Cases on Appeal
2009		12/15/2008		12/15/2009		$	10.0			$	1.0			N		$	10.0			Derbyshire
2010		12/15/2009		12/15/2010		10.0				1.0				N		10.0				Shymko
2011		12/15/2010		12/15/2011		10.0				1.0				N		10.0				n/a
Jan-Jun 2012		12/15/2011		6/25/2012		7.0				1.0				N		7.0				Ramsey
Jul-Dec 2012		6/25/2012		12/15/2012		12.0				1.0				N		12.0				n/a
2013		12/15/2012		12/15/2013		12.0				1.0				N		12.0				n/a
2014		12/15/2013		12/15/2014		11.0				4.0				N		11.0				n/a
2015		12/15/2014		12/15/2015		10.0				5.0				N		10.0				Bennett
2016		12/15/2015		12/15/2016		10.0				5.0				N		10.0				Masters
2017		12/15/2016		12/15/2017		10.0				5.0				N		10.0				Taylor

Other Litigation

Phazzer Patent Infringement Litigation

In March 2016, the Company filed a complaint against Phazzer Electronics Inc. (“Phazzer”) for patent infringement, trademark infringement and false advertising. On July 21, 2017, the U.S. District Court for the Middle District of Florida granted Axon’s Motion for Sanctions and for a Permanent Injunction against Florida-based Phazzer, banning sales of the infringing Phazzer Enforcer CEWs and dart cartridges. The injunction prohibits Phazzer and its officers, agents, employees, and anyone else acting in concert with them, from making, using, offering for sale, selling, distributing, donating, importing or exporting Phazzer CEWs and associated cartridges. The Court also awarded Axon compensatory and treble damages for willful infringement, as well as its reasonable attorneys’ fees and costs. Both Phazzer and its U.S. distributors are barred from exporting CEWs or cartridges to fill foreign orders.

In imposing severe sanctions against Phazzer, including an award of Axon’s attorneys’ fees and costs, the Court found that Phazzer “engaged in a pattern of bad faith conduct designed and intended to delay, stall, and increase the cost of this litigation,” and that Phazzer repeatedly disregarded Court orders thereby exhibiting “contemptuous”, “egregious”, “flagrant” and “intentional obstructionist behavior” resulting in willful “abuse [of] the judicial process.”

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

Axon’s patent (U.S. No. 7,234,262) at issue in the litigation relates to the CEW’s data recording of date and time of each trigger operation and duration of the stimulus. The Court found that patent was “valid, enforceable, and infringed by Phazzer.” The injunction will remain in effect until the patent expires, and includes any CEW or device not colorably different from the Phazzer Enforcer CEW.

The Axon trademark subject to the injunction is Federal Registration No. 4,423,789, relating to the non-functional shape of TASER CEW cartridges used to launch the darts. The Court found the trademark “valid and enforceable, not generic, functional, or merely descriptive, and infringed by Phazzer.” The permanent injunction covers all Phazzer CEW dart cartridges that are confusingly similar to, or not more than a colorable imitation of, TASER CEW cartridges, and includes Phazzer product numbers 1-DC15, 1-DC21, 1-DC25, 1-DC21-SIDT, 1-PB30, 1-PB8F, 1-PB15943, 1-RB30, 1-PA30, and 1-LOWIMPT2015. Phazzer has appealed the judgment and injunction.

The Court expressly found that Phazzer cartridges currently marketed and sold as compatible with TASER brand CEWs embody the protected appearance and constitute infringing products enjoined under its Order. Phazzer was also ordered by the Court “not [to] challenge or continue to challenge the validity or enforceability of the ‘789 Registration in any manner in any forum, including the USPTO.” Accordingly, Phazzer’s pending USPTO cancellation action, which was stayed while the litigation ran its course, will be dismissed. On August 10 2017, Phazzer filed a notice of appeal.

Digital Ally Patent Litigation

In March 2016, the Company was served with a second amended complaint filed by Digital Ally in the Federal District Court for the District of Kansas alleging infringement of two patents and a variety of antitrust and unfair competition claims, seeking a judgment of infringement, monetary damages, a permanent injunction, punitive damages and attorneys’ fees and costs. On January 12, 2017, the court granted the Company’s motion to dismiss all six antitrust claims and entered final judgment on those claims in the Company’s favor on April 14, 2017. Digital Ally has appealed that judgment to the Federal Circuit.

The Company filed inter parte reviews ("IPRs") with the USPTO to invalidate Digital Ally’s patents-in-suit regarding its auto-activation camera technology. On June 6, 2017, the USPTO instituted one IPR on patent No. 8,781,292 (the “’292 patent”). Digital Ally thereafter filed a motion to dismiss the ‘292 patent with prejudice and a covenant not to sue the Company in the district court litigation. Digital Ally then filed a motion to amend all claims of the ‘292 patent in the IPR proceedings, which is set for oral argument on February 23, 2018. On July 7, 2017, the USPTO rejected the Company’s IPR filed against claim 10 of Digital Ally's patent No. 9,253,452 (the “452 patent”). The Company filed a petition to reconsider that decision, which remains pending with the USPTO. This patent claim 10 is being challenged in District Court based on fraud claims, invalidity claims and non-infringement claims filed by the Company. Although the patent office later also rejected the Company’s IPR on claim 1 of the ‘452 patent, Digital Ally has dismissed that claim from the litigation. In November 2017, the district court lifted its litigation stay and entered a new scheduling order on December 20, 2017. A claim construction hearing on Digital Ally’s sole remaining independent claim 10 of the ‘452 patent will take place on March 7, 2018.

Pending Patent Appeals

Two appeals are pending in the Federal Circuit arising out of patent litigation involving the district court’s dismissal of Digital Ally's antitrust claims against the Company, and a judgment and permanent injunction in the Company's favor against Phazzer Electronics Inc., as noted in the following table.

Appellant		Month Served		Jurisdiction		Claim Type		Active Cases and Cases on Appeal
Digital Ally		Mar-16		U.S. District Court, District of Kansas, appealed to Federal Circuit		Antitrust Claims		Axon's motion to dismiss antitrust claims was granted on January 12, 2017 with judgment entered in Axon's favor on April 14, 2017. Digital Ally filed its notice of appeal on April 20, 2017. The appeal has been fully briefed.
Phazzer		Mar-16		U.S. District Court, Middle District of Florida, appealed to Federal Circuit		Judgment and Permanent Injunction Patent Infringement		Axon received judgment in its favor and a permanent injunction against Phazzer’s CEW and cartridge infringement on July 21, 2017. Phazzer filed a notice of appeal on August 10, 2017. The appeal is in the briefing stage.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

Antoine di Zazzo Arbitration

In April 2016, the Company was served with a notice of arbitration claim filed by Antoine di Zazzo, the Company’s former distributor in France, for commissions allegedly owed Mr. di Zazzo. The arbitration claim was filed with the International Court of Arbitration of the International Chamber of Commerce in Paris, France, and the amount in controversy is approximately $0.6 million. The Company’s records reflect that all commissions that were due Mr. di Zazzo under his contract were paid or offered to him and the Company will vigorously defend this arbitration claim. In related litigation in the Tribunal of Commerce of Marseille, judgment was entered in favor of the Company on January 18, 2018, and Mr. di Zazzo has appealed.

VieVu Commercial Litigation

In February 2017, the Company was served with a complaint filed by VieVu LLC ("VieVu") alleging tortious interference with a business expectancy. In May 2017, the Company filed and served a complaint against VieVu in the U.S. District Court for Arizona for violation of the Lanham Act. On February 14, 2018, the Company and VieVu entered into an agreement for the dismissal of both lawsuits, with each party to bear its own attorney’s fees and costs.

General

From time to time, the Company is notified that it may be a party to a lawsuit or that a claim is being made against it. It is the Company’s policy to not disclose the specifics of any claim or threatened lawsuit until the summons and complaint are actually served on the Company. After carefully assessing the claim, and assuming the Company determines that it is not at fault or it disagrees with the damages or relief demanded, the Company vigorously defends any lawsuit filed against it. In certain legal matters, the Company records a liability when losses are deemed probable and reasonably estimable. In evaluating matters for accrual and disclosure purposes, the Company takes into consideration factors such as its historical experience with matters of a similar nature, the specific facts and circumstances asserted, the likelihood of prevailing, and the severity of any potential loss. The Company reevaluates and updates its accruals as matters progress over time.

Based on the Company's assessment of outstanding litigation and claims as of December 31, 2017, the Company has determined that it is not reasonably possible that these lawsuits will individually, or in the aggregate, materially affect its results of operations, financial condition or cash flows. However, the outcome of any litigation is inherently uncertain and there can be no assurance that any expense, liability or damages that may ultimately result from the resolution of these matters will be covered by insurance or will not be in excess of amounts recognized or provided by insurance coverage and will not have a material adverse effect on the Company's operating results, financial condition or cash flows.

Off-Balance Sheet Arrangements

Under certain circumstances, the Company uses letters of credit and surety bonds to guarantee its performance under various contracts, principally in connection with the installation and integration of its Axon cameras and related technologies. Certain of the Company's letters of credit contracts and surety bonds have stated expiration dates, with others being released as the contractual performance terms are completed. The Company expects to fulfill all contractual performance obligations related to outstanding guarantees. At December 31, 2017, the Company had an outstanding letter of credit of approximately $2.7 million, which is expected to expire in May 2018. Additionally, the Company had approximately $7.4 million of outstanding surety bonds at December 31, 2017, with $1.0 million expiring in 2018, $0.1 million expiring in 2020, $2.3 million expiring in 2021 and the remaining $4.0 million expiring in 2023.

10. Income Taxes

On December 22, 2017, the U.S. government enacted comprehensive tax legislation commonly referred to as the Tax Cuts and Jobs Act (the “Tax Act”). The Tax Act made broad and complex changes to the U.S. tax code which impacted 2017 including, but not limited to, reducing the U.S. federal corporate tax rate from 35 percent to 21 percent for tax years beginning 2018.

ASC 740 requires a company to record the effects of a tax law change in the period of enactment, however, shortly after the enactment of the Tax Act, the SEC staff issued Staff Accounting Bulletin 118 (“SAB 118”), which allows a company to record a provisional amount when it does not have the necessary information available, prepared, or analyzed in reasonable detail to complete its accounting for the change in the tax law. The measurement period ends when the company has obtained, prepared and analyzed the information necessary to finalize its accounting, but cannot extend beyond one year

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

In connection with the Company's initial analysis of the impact of the Tax Act, it was able to make a reasonable estimate of the impact of the Tax Act and recorded a provisional net tax expense of $8.0 million in the period ended December 31, 2017, primarily related to the impact of the tax rate reduction on the Company's deferred tax assets and deferred tax liabilities. This amount includes a $0.4 million increase in the Company's valuation allowance.

Reasonable estimates have also been made for the effects of other provisions of the Tax Act, but they do not have a material impact on the Company’s consolidated financial statements. These estimates may be impacted by the need for further analysis, future clarification and guidance regarding available tax accounting methods and elections. Any subsequent adjustments to these provisional amounts will be recorded in the quarter in 2018 when the analysis is complete.

The Company has completed its analysis of the one-time transition tax on undistributed earnings of its foreign subsidiaries, the Alternative Minimum Tax (“AMT”), and the Base Erosion Anti-abuse Tax (“BEAT”) and is not being affected by these provisions.

Income before income taxes included the following components for the years ended December 31 (in thousands):

	2017				2016				2015
United States	$	14,978			$	38,414			$	42,761
Foreign	783				(6,917		)		(7,400		)
Total	$	15,761			$	31,497			$	35,361

Significant components of the Company’s deferred income tax assets and liabilities are as follows at December 31 (in thousands):

	2017				2016
Deferred income tax assets:
Net operating loss carryforward	$	3,691			$	2,405
Deferred revenue	9,442				11,537
Deferred compensation	1,109				1,695
Inventory reserve	702				1,126
Non-qualified and non-employee stock option expense	3,704				4,410
Capitalized research and development	485				1,991
Research and development tax credit carryforward	3,817				2,722
Reserves, accruals, and other	1,921				1,239
Total deferred income tax assets	24,871				27,125
Deferred income tax liabilities:
Depreciation	(2,027		)		(2,364		)
Amortization	(1,398		)		(1,473		)
Other	(256		)		(294		)
Total deferred income tax liabilities	(3,681		)		(4,131		)
Net deferred income tax assets before valuation allowance	21,190				22,994
Valuation allowance	(5,435		)		(3,479		)
Net deferred income tax assets	$	15,755			$	19,515

For the year ended December 31, 2017, the provision for income taxes, in accordance with the provisions set forth in ASC 2016-09, included $1.8 million of tax expense resulting from stock-based compensation tax benefits that were recorded as a decrease in the provision for income taxes, and for the years ended December 31, 2016 and 2015, $1.4 million and $6.9 million, respectively, of tax expense resulting from stock-based compensation tax benefits that have been recorded as increases to additional paid-in capital on the consolidated statement of changes in stockholders’ equity.

The Company has $4.5 million of state net operating losses (“NOLs”) which expire at various dates between 2019 and 2036. The Company also has Federal NOLs of $2.2 million which expire between 2035 and 2036, and are subject to limitation under

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

Internal Revenue Code (“IRC”) Section 382. The Company has $0.1 million of federal R&D credits, which expire in 2024 and 2027, and are also subject to limitation under IRC Section 382. The Company has $7.3 million of Arizona R&D credits carrying forward, which expire at various dates between 2018 and 2032. In Australia, the U.K., Canada, and Germany, the Company has $2.2 million, $10.3 million, $1.6 million, and $0.3 million of NOLs, respectively, which expire at various dates or may be carried forward indefinitely.

In preparing the Company’s consolidated financial statements, management has assessed the likelihood that deferred income tax assets will be realized from future taxable income. In evaluating the ability to recover its deferred income tax assets, management considers all available evidence, positive and negative, including the Company’s operating results, ongoing tax planning and forecasts of future taxable income on a jurisdiction by jurisdiction basis. A valuation allowance is established if it is determined that it is more likely than not that some portion or all of the net deferred income tax assets will not be realized. Management exercises significant judgment in determining the Company’s provisions for income taxes, its deferred income tax assets and liabilities and its future taxable income for purposes of assessing its ability to utilize any future tax benefit from its deferred income tax assets.

Although management believes that its tax estimates are reasonable, the ultimate tax determination involves significant judgments that could become subject to audit by tax authorities in the ordinary course of business. As of each reporting date, management considers new evidence, both positive and negative, that could impact management’s view with regards to future realization of deferred tax assets. As of December 31, 2017, the Company continues to demonstrate three-year cumulative pre-tax income in the U.S. federal and Arizona tax jurisdictions; however, the Arizona R&D Tax Credits start to expire in 2018 with a significant tranche with a gross value of $1.2 million expiring in 2019. Therefore, management has concluded that it is more likely than not that a portion of the Company’s U.S. deferred tax assets will not be realized.

As of December 31, 2017, the Company has cumulative losses in Australia, the U.K., and Canada, and a history of losses in Germany, which limits the ability to consider other subjective evidence, such as projections for future growth. On the basis of this evaluation, a full valuation allowance has been recorded for these jurisdictions. The amount of the deferred tax asset considered realizable, however, could be adjusted in future periods if objective negative evidence in the form of cumulative losses is no longer present and additional weight is given to subjective evidence such as projections for growth.

Significant components of the provision for income taxes are as follows for the years ended December 31 (in thousands):

	2017				2016				2015
Current:
Federal	$	6,039			$	16,346			$	13,594
State	1,263				1,534				996
Foreign	656				1,050				—
Total current	7,958				18,930				14,590
Deferred:
Federal	4,539				(4,145		)		288
State	(1,631		)		(977		)		984
Foreign	(78		)		(45		)		(278		)
Total deferred	2,830				(5,167		)		994
Tax provision recorded as an increase (decrease) in liability for unrecorded tax benefits	(234		)		437				(156		)
Provision for income taxes	$	10,554			$	14,200			$	15,428

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

A reconciliation of the Company’s effective income tax rate to the federal statutory rate follows for the years ended December 31 (in thousands):

	2017				2016				2015
Federal income tax at the statutory rate	$	5,518			$	11,024			$	12,347
State income taxes, net of federal benefit	339				889				1,061
Difference between statutory and foreign tax rates	(560		)		1,521				2,442
Permanent differences (i)	300				(457		)		(205		)
Research and development	(2,380		)		(1,928		)		(1,050		)
Return to provision adjustment	23				327				(67		)
Change in liability for unrecognized tax benefits	7				700				(156		)
Excess stock-based compensation benefit	(1,819		)		(77		)		(144		)
Change in valuation allowance	1,949				1,779				1,200
Tax effects of intercompany transactions	(277		)		630				—
Adjustments to deferreds resulting from enactment of new tax law(ii)	7,601				—				—
Other	(147		)		(208		)		—
Provision for income taxes	$	10,554			$	14,200			$	15,428
Effective tax rate	66.9		%		45.1		%		43.6		%

(i)	Permanent differences include certain expenses that are not deductible for tax purposes including lobbying fees as well as favorable items including the domestic production activities deduction.

(ii)	The adjustment to deferreds of $7.6 million was a result of the impact of changes in the U.S. federal effective tax rate, as well as a reduction of the stock-based compensation deferred tax asset due to expected permanent limitations on its deductibility for certain key executives under the recently enacted tax law.

The Company has completed R&D tax credit studies, which identified approximately $15.2 million in tax credits for federal, Arizona and California income tax purposes related to the 2003 through 2017 tax years. Management has made the determination that it is more likely than not that the full benefit of the R&D tax credit will not be sustained on examination and recorded a liability for unrecognized tax benefits of $4.1 million as of December 31, 2017. In addition, management accrued approximately $0.1 million for estimated uncertain tax positions related to certain state income tax liabilities. Should the unrecognized tax benefit of $4.2 million be recognized, the Company’s effective tax rate would be favorably impacted.

The Company recognizes interest and penalties related to unrecognized tax benefits within the income tax expense line in the accompanying consolidated statements of operations. As of December 31, 2017 and 2016, the Company had accrued interest of $0.1 million.

The following table presents a roll forward of the Company's liability for unrecognized tax benefits, exclusive of accrued interest, as of December 31 (in thousands):

	2017				2016				2015
Balance, beginning of period	$	4,050			$	3,396			$	3,325
Increase (decrease) in previous year tax positions	123				—				(389		)
Increase in current year tax positions	587				448				270
Decrease due to lapse of statute of limitations	(773		)		—				(14		)
Increase related to adjustment of previous estimates of activity	256				206				204
Balance, end of period	$	4,243			$	4,050			$	3,396

Federal income tax returns for 2014 through 2017 remain open to examination by the U.S. Internal Revenue Service (the “IRS”), and state taxing authorities. The 2004 through 2013 income tax returns are only open to the extent that net operating loss or other tax attributes carrying forward from those years were utilized in 2014 through 2017. The foreign tax returns for 2013 through 2017 also generally remain open to examination. The Company has not been notified by any major federal, foreign, or state tax jurisdictions that it will be subject to examination.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

The Company considers the earnings of certain non-U.S. subsidiaries to be indefinitely reinvested outside of the United States on the basis of estimates that future domestic cash generation will be sufficient to meet future domestic cash needs and the Company's specific plans for reinvestment of those subsidiary earnings. It is not practicable to estimate the amount of the deferred tax liability, if any, related to investments in those foreign subsidiaries. If the Company decides to repatriate the foreign earnings, it would need to adjust its income tax provision in the period it determined that the earnings will no longer be indefinitely invested outside the United States.

11. Line of Credit

The Company has a $10.0 million revolving line of credit with a domestic bank. At December 31, 2017 and 2016, there were no borrowings under the line. Under the terms of the line of credit, available borrowings are reduced by outstanding letters of credit. As of December 31, 2017, the Company had letters of credit outstanding of approximately $2.7 million under the facility and available borrowing of $7.3 million. The line is secured by substantially all of the assets of the Company, and bears interest at varying rates (currently LIBOR plus 1.25% or Prime less 0.50%). The line of credit matures on December 31, 2018, and requires monthly payments of interest only. The Company’s agreement with the bank requires it to comply with a maximum funded debt to earnings before interest, taxes, depreciation and amortization ("EBITDA") ratio, as defined, of no greater than 2.00 to 1.00 based upon a trailing twelve-month period. At December 31, 2017, the Company’s funded debt to EBITDA ratio was 0.34 to 1.00.

12. Stockholders’ Equity

Common Stock and Preferred Stock

The Company has authorized the issuance of two classes of stock designated as “common stock” and “preferred stock,” each having a par value of $0.00001 per share. The Company is authorized to issue 200 million shares of common stock and 25 million shares of preferred stock.

Stock Repurchase

In February 2016, the Company announced that Axon's Board of Directors authorized a stock repurchase program to acquire up to $50.0 million of the Company’s outstanding common stock subject to stock market conditions and corporate considerations. During the year ended December 31, 2016, the Company purchased, under a Rule 10b5-1 plan, approximately 1.8 million common shares for a total cost of approximately $33.7 million, or a weighted average cost of $18.90 per share. As of December 31, 2017 and 2016, $16.3 million remained available under the plan for future purchases. During 2016, the Company suspended its 10b-5 plan, and any future purchases would be discretionary.

Stock-based Compensation Plans

The Company has historically utilized stock-based compensation, consisting of RSUs and stock options, for key employees and non-employee directors as a means of attracting and retaining quality personnel. Service-based grants generally have a vesting period of 3 to 5 years and a contractual maturity of ten years. Performance-based grants generally have vesting periods ranging from 1 to 5 years and a contractual maturity of ten years.

On February 26, 2016, the Company’s Board of Directors approved the 2016 Stock Incentive Plan (the “2016 Plan"), which was subsequently approved by stockholders at the Annual Meeting of Stockholders on May 26, 2016. Under the 2016 Plan, the Company reserved for future grants: (i) 2.0 million shares of common stock, plus (ii) the number of shares of common stock that were authorized but unissued under the Company’s 2013 Stock Incentive Plan (the “2013 Plan”) as of the effective date of the 2016 Plan, and (iii) the number of shares of stock that have been granted under the 2013 Plan or the 2009 Stock Incentive Plan that either terminate, expire or lapse for any reason after the effective date of the 2016 Plan. As of December 31, 2017, approximately 0.8 million shares remain available for future grants. Shares issued upon exercise of stock awards from these plans have historically been issued from the Company’s authorized unissued shares.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

Performance-based stock awards

The Company has issued performance-based stock options and performance-based RSUs, the vesting of which is generally contingent upon the achievement of certain performance criteria related to the operating performance of the Company, as well as successful and timely development and market acceptance of future product introductions. In addition, certain of the performance RSUs have additional service requirements subsequent to the achievement of the performance criteria. Compensation expense is recognized over the implicit service period (the longer of the period the performance condition is expected to be achieved or the required service period) based on management’s estimate of the probability of the performance criteria being satisfied, adjusted at each balance sheet date.

Restricted Stock Units

The following table summarizes RSU activity for the years ended December 31 (number of units and aggregate intrinsic value in thousands):

	2017								2016							2015
	Number of Units				Weighted Average Grant-Date Fair Value				Number of Units			Weighted Average Grant-Date Fair Value				Number of Units			Weighted Average Grant-Date Fair Value
Units outstanding, beginning of year	1,330				$	20.40			1,139			$	19.30			1,226			$	13.23
Granted	1,731				24.59				718			19.75				516			26.18
Released	(519		)		18.85				(414	)		15.91				(488	)		11.82
Forfeited	(194		)		24.61				(113	)		21.65				(115	)		16.72
Units outstanding, end of year	2,348				23.47				1,330			20.40				1,139			19.30
Aggregate intrinsic value at year end	$	62,222

Aggregate intrinsic value represents the Company’s closing stock price on the last trading day of the period, which was $26.50 per share at December 29, 2017, multiplied by the number of RSUs. The fair value as of the respective vesting dates of RSUs that vested during the year ended December 31, 2017 was $14.5 million. Certain RSUs that vested in 2017 were net-share settled, such that the Company withheld shares with value equivalent to the employees’ minimum statutory obligation for the applicable income and other employment taxes, and remitted the cash to the appropriate taxing authorities. Total shares withheld during 2017 were 0.1 million and had a value of approximately $3.5 million on their respective vesting dates as determined by the Company’s closing stock price. Payments for the employees’ tax obligations are reflected as a financing activity within the statement of cash flows. These net-share settlements had the effect of share repurchases by the Company as they reduced the amount of shares that would have otherwise been issued as a result of the vesting.

In 2017, 2016 and 2015, the Company granted approximately 353,000, 79,000 and 49,000 performance-based RSUs, respectively (included in the table above). Certain of the performance-based RSUs outstanding as of December 31, 2017 can vest with a range of shares earned being between 0% and 200% of the targeted shares granted, depending on the final achievement of pre-determined performance criteria as of the vesting date. As of December 31, 2017, the performance criteria had been met for 36,000 of the 0.4 million performance-based RSUs outstanding. The Company recognized $2.5 million, $2.1 million and $1.5 million of compensation expense related to performance-based RSUs during the years ended December 2017, 2016 and 2015, respectively.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

Stock Option Activity

The following table summarizes stock option activity for the years ended December 31 (number of options in thousands):

	2017							2016							2015
	Number of Options			Weighted Average Exercise Price				Number of Options			Weighted Average Exercise Price				Number of Options			Weighted Average Exercise Price
Options outstanding, beginning of year	1,008			$	5.40			1,103			$	5.37			1,641			$	5.26
Exercised	(198	)		6.99				(95	)		5.02				(525	)		4.95
Expired / terminated	(6	)		8.32				—			—				(13	)		7.27
Options outstanding, end of year	804			4.99				1,008			5.40				1,103			5.37
Options exercisable, end of year	775			5.00				977			5.42				1,072			5.39
Options expected to vest, end of year	25			4.75

No stock options were granted in 2017, 2016 or 2015. Total intrinsic value of options exercised was $3.2 million, $2.0 million and $13.6 million for the years ended December 31, 2017, 2016 and 2015, respectively. The intrinsic value for options exercised was calculated as the difference between the exercise price of the underlying stock option awards and the market price of the Company’s common stock on the date of exercise.

The following table summarizes information about stock options outstanding and exercisable as of December 31, 2017 (number of options in thousands):

		Options Outstanding									Options Exercisable
Range of Exercise Price		Number of Options Outstanding			Weighted Average Exercise Price				Weighted Average Remaining Contractual Life (Years)		Number of Options Exercisable			Weighted Average Exercise Price				Weighted Average Remaining Contractual Life (Years)
$4.15 - $7.01		733			$	4.78			1.49		704			$	4.78			1.51
$7.13 - $7.21		71			7.14				0.41		71			7.15				0.41
$4.15 - $7.21		804			4.99				1.40		775			5.00				1.41

The aggregate intrinsic value of options outstanding and options exercisable at December 31, 2017 was $17.3 million and $16.7 million, respectively. Aggregate intrinsic value represents the difference between the exercise price of the underlying stock option awards and the closing market price of the Company’s common stock of $26.50 on December 29, 2017.

At December 31, 2017, the Company had 29,350 unvested options outstanding with a weighted average exercise price of $4.75 per share, weighted average grant-date fair value of $2.58 per share and weighted average remaining contractual life of 1.0 year. The aggregate intrinsic value of unvested options at December 31, 2017 was $0.6 million.

The Company granted approximately 1.0 million performance-based stock options (included in the table above) from 2008 through 2011. As of December 31, 2017, approximately 0.2 million performance-based stock options are outstanding, of which approximately 29,350 are unvested and 25,000 are expected to vest. The aggregate grant-date fair value of the 0.2 million performance-based stock options vested and expected to vest as of December 31, 2017 was approximately $0.5 million. The Company recognized no stock-based compensation expense related to performance-based stock options during the years ended December 31, 2017 and 2016, and $0.1 million during the year ended December 31, 2015.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

Stock-based Compensation Expense

The Company accounts for stock-based compensation using the fair-value method. Reported stock-based compensation was classified as follows for the years ended December 31 (in thousands):

	2017				2016				2015
Cost of product and service sales	$	508			$	342			$	402
Sales, general and administrative expenses	9,047				5,707				4,285
Research and development expenses	6,055				3,320				2,576
Total stock-based compensation expense	$	15,610			$	9,369			$	7,263

There was no stock-based compensation expense recognized in the consolidated statements of operations for the years ended December 31, 2017 and 2016 related to incentive stock options ("ISOs"). Total stock-based compensation expense for the year ended December 31, 2015 included $0.1 million related to ISOs for which no tax benefit was recognized. The Company recorded a tax benefit in 2017, 2016, and 2015 of $0.1 million, $0.2 million, and $0.2 million, respectively, to offset taxes payable related to the non-qualified disposition of ISOs exercised and sold.

As of December 31, 2017, there was $42.8 million in unrecognized compensation costs related to RSUs under the Company's stock plans. The Company expects to recognize the cost related to the RSUs over a weighted average period of 2.80 years.

13. Related Party Transactions

The Company subscribes to a mobile collaboration software suite from Quip, a company that was co-founded and managed by Bret Taylor, a member of the Company's Board of Directors. In April 2016, Quip was acquired by Salesforce, and subsequent to the acquisition, the Company continued to consider Quip a related party. In November 2017, Mr. Taylor was appointed to President and Chief Product Officer of Salesforce. The Company now considers the consolidated Salesforce entity to be a related party. The cost to subscribe to various cloud-based hosting arrangements from Salesforce and Quip was $1.2 million, $0.8 million and $0.5 million for the years ended December 31, 2017, 2016 and 2015, respectively, and amounts owed as of December 31, 2017 were $0.5 million. Amounts owed as of December 31, 2016 were negligible.

14. Employee Benefit Plans

The Company has a defined contribution profit sharing 401(k) plan for eligible employees, which is qualified under Sections 401(a) and 401(k) of the Internal Revenue Code of 1986, as amended. Employees are entitled to make tax-deferred contributions of up to the maximum allowed by law of their eligible compensation. Contributions to the plans are made by both the employee and the Company. Company contributions are based on the level of employee contributions and are immediately vested. The Company’s matching contributions to the plan for the years ended December 31, 2017, 2016 and 2015, were approximately $2.5 million, $1.6 million and $1.2 million, respectively.

The Company also has a non-qualified deferred compensation plan for certain executives, key employees and non-employee directors through which participants may elect to postpone the receipt and taxation of a portion of their compensation, including stock-based compensation, received from the Company. The non-qualified deferred compensation plan allows eligible participants to defer up to 80% of their base salary and up to 100% of other types of compensation. The plan also allows for matching and discretionary employer contributions. Employee deferrals are deemed 100% vested upon contribution. Distributions from the plan generally commence upon retirement, death, separation of service, specified date or upon the occurrence of an unforeseeable emergency. Distributions can be paid in a variety of forms from lump sum to installments over a period of years. Participants in the plan are entitled to select from a wide variety of investments available under the plan and are allocated gains or losses based upon the performance of the investments selected by the participant. All gains or losses are allocated fully to plan participants and the Company does not guarantee a rate of return on deferred balances. Assets related to this plan consist of corporate-owned life insurance contracts and are included in other assets in the consolidated balance sheets. Participants have no rights or claims with respect to any plan assets and any such assets are subject to the claims of the Company’s general creditors. Subsequent to December 31, 2017, the Company made contributions to the non-qualified deferred compensation plan related to the year ended December 31, 2017 of approximately $29,000. Future matching or profit sharing contributions to the plans are at the Company’s sole discretion.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

15. Business Acquisitions

Axon Artificial Intelligence

On December 30, 2016, the Company acquired certain intellectual property from Fossil Group, Inc. and Fossil Vietnam, Limited Liability Company. This transaction, which was accounted for as a business combination under ASC 805, was part of the Company's efforts to expand on the Software and Sensors platform by transforming workflows using computer vision and natural language with machine learning techniques in order to analyze data and multimedia captured throughout the course of policing. Additionally, as part of the acquisition, a team of researchers and software engineers joined the Company as part of the newly established Axon AI team. The purchase price, totaling approximately $6.8 million, consisted of $3.5 million cash at close, and up to an additional $3.3 million of consideration contingent upon the satisfaction of certain conditions. As of September 30, 2017, no amounts were earned relative to the earn-out provisions.

The major classes of assets and liabilities to which the Company has allocated the purchase price were as follows (in thousands):

Developed technology	$	5,210
Goodwill	1,615
Total purchase price	$	6,825

The Company assigned the goodwill to the Software and Sensors segment. The acquired developed technology was assigned an amortization period of five years. Costs related to the acquisition were expensed as incurred and were considered insignificant.

Dextro, Inc.

On February 8, 2017, the Company acquired all of the outstanding common stock of Dextro for a total purchase price of $7.5 million. Dextro's technology provides one of the first computer-vision and deep learning systems to make the visual contents in video searchable in real time. This technology will allow law enforcement agencies and departments to quickly isolate and analyze critical seconds of footage from massive amounts of video data. The technology acquired, along with the Dextro employees that joined the Company, were key additions to the Axon AI team.

The purchase price of $7.5 million consisted primarily of cash, net of cash acquired, and contingent consideration of $1.0 million representing potential earn-outs to former stockholders based on predetermined future metrics. As of December 31, 2017, no amounts were earned relative to the former stockholder earn-out provisions. The Company also agreed to additional earn-out provisions to former Dextro employees totaling approximately $1.4 million based, in part, on predetermined future metrics. The additional earn-outs were not included as part of the purchase price and are being expensed as compensation for the employees in the period earned.

The major classes of assets and liabilities to which the Company has allocated the purchase price were as follows (in thousands):

Accounts receivable	$	12
Property and equipment	46
Developed technology	5,800
Goodwill	2,703
Deferred income tax liabilities, net	(1,074		)
Total purchase price	$	7,487

The Company has assigned the goodwill to the Software and Sensors segment. Identifiable definite-lived intangible assets were assigned a total weighted average amortization period of 3.4 years. Dextro has been included in the Company's consolidated results of operations subsequent to the acquisition date. Pro forma results of operations for Dextro have not been presented because they are not material to the consolidated results of operations. In connection with the acquisition, the Company incurred and expensed costs of approximately $0.2 million, which included legal, accounting and other third-party expenses related to the transaction.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

Breon Enterprises

On July 1, 2017, the Company acquired certain tangible and intangible assets from Breon, which was the Company's distributor in the Australia region. This transaction, which was accounted for as a business combination under ASC 805, is intended to expand the Company's growth across Australia and surrounding regions by growing its in-country sales and support team.

The purchase price of $4.2 million was paid in full through two wire transactions completed during July 2017. As of the acquisition date, the Company had a $2.2 million pre-existing accounts receivable balance from Breon for the Company's sales of goods and services to Breon prior to the acquisition date. This receivable balance was cash settled in full separately from the business combination at its book value, which was considered to be the fair value due to the short-term nature of the receivable.

The major classes of assets to which the Company has allocated the purchase price were as follows (in thousands):

Re-acquired distribution rights	$	2,100
Customer relationships	400
Goodwill	1,650
Total purchase price	$	4,150

The Company has assigned $0.8 million of the goodwill to each of the TASER Weapons and Software and Sensors segments. The assignment of goodwill was based on the Company's estimate of how the acquired assets would contribute cash flows to the Company over time. Identifiable definite-lived intangible assets were assigned a total weighted average amortization period of 2.1 years. Breon has been included in the Company's consolidated results of operations subsequent to the acquisition date. Pro forma results of operations for Breon have not been presented because they are not material to the consolidated results of operations. Costs related to the acquisition were expensed as incurred and were considered insignificant.

16. Segment Data

The Company’s operations are comprised of two reportable segments: TASER Weapons segment and Software and Sensors segment. The Company includes only revenues and costs attributable to the Software and Sensors products in that segment. Included in Software and Sensors segment costs are: costs of sales for both products and services, overhead allocation based on direct labor, selling expense for the Software and Sensors sales team, product management expenses, trade shows and related expenses, and research and development for products included in the Software and Sensors segment. All other costs are included in the TASER Weapons segment. The CODM does not review assets by segment as part of the financial information provided; therefore, only limited asset information is provided in the following tables.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

Information relative to the Company’s reportable segments was as follows (in thousands):

	For the year ended December 31, 2017
	TASER Weapons				Software and Sensors				Total
Net sales from products	$	234,512			$	51,347			$	285,859
Net sales from services	—				57,939				57,939
Net sales	234,512				109,286				343,798
Cost of product sales	72,054				45,943				117,997
Cost of service sales	—				18,713				18,713
Cost of sales	72,054				64,656				136,710
Gross margin	162,458				44,630				207,088
Sales, general and administrative	78,202				60,490				138,692
Research and development	8,377				46,996				55,373
Income (loss) from operations	$	75,879			$	(62,856	)		$	13,023
Purchase of property and equipment	$	4,341			$	6,078			$	10,419
Purchase of intangible assets	259				765				1,024
Purchase of property and equipment and intangible assets, including goodwill, in connection with business acquisitions	2,075				10,624				12,699
Depreciation and amortization	2,705				5,336				8,041

	For the year ended December 31, 2016
	TASER Weapons				Software and Sensors				Total
Net sales from products	$	202,644			$	35,929			$	238,573
Net sales from services	—				29,672				29,672
Net sales	202,644				65,601				268,245
Cost of product sales	61,930				29,606				91,536
Cost of service sales	—				6,173				6,173
Cost of sales	61,930				35,779				97,709
Gross margin	140,714				29,822				170,536
Sales, general and administrative	63,617				44,459				108,076
Research and development	5,887				24,722				30,609
Income (loss) from operations	$	71,210			$	(39,359	)		$	31,851
Purchase of property and equipment	$	4,129			$	828			$	4,957
Purchase of intangible assets	262				3,233				3,495
Purchase of intangible assets, including goodwill, in connection with business acquisitions	—				6,825				6,825
Depreciation and amortization	2,207				1,451				3,658

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

	For the year ended December 31, 2015
	TASER Weapons				Software and Sensors				Total
Net sales from products	$	162,375			$	22,855			$	185,230
Net sales from services	—				12,662				12,662
Net sales	162,375				35,517				197,892
Cost of product sales	48,821				16,201				65,022
Cost of service sales	—				4,223				4,223
Cost of sales	48,821				20,424				69,245
Gross margin	113,554				15,093				128,647
Sales, general and administrative	47,640				22,058				69,698
Research and development	4,470				19,144				23,614
Income (loss) from operations	$	61,444			$	(26,109	)		$	35,335
Purchase of property and equipment	$	4,159			$	1,844			$	6,003
Purchase of intangible assets	277				224				501
Purchase of property and equipment and intangible assets, including goodwill, in connection with business acquisitions	1,453				11,146				12,599
Depreciation and amortization	2,311				980				3,291

17. Selected Quarterly Financial Data (unaudited)

Selected quarterly financial data for years ended December 31, 2017 and 2016 follows (in thousands, except per share data):

	Quarter Ended
	March 31,				June 30,				September 30,				December 31,
	2017				2017				2017				2017
Net sales	$	79,242			$	79,643			$	90,262			$	94,651
Gross margin	48,670				45,637				49,765				63,016
Net income (loss)	4,580				2,276				422				(2,071		)
Earnings per share (1):
Basic	$	0.09			$	0.04			$	0.01			$	(0.04	)
Diluted	$	0.09			$	0.04			$	0.01			$	(0.04	)
	Quarter Ended
	March 31,				June 30,				September 30,				December 31,
	2016				2016				2016				2016
Net sales	$	55,530			$	58,756			$	71,882			$	82,077
Gross margin	36,902				37,299				46,565				49,770
Net income	3,463				3,650				3,843				6,341
Earnings per share (1):
Basic	$	0.06			$	0.07			$	0.07			$	0.12
Diluted	$	0.06			$	0.07			$	0.07			$	0.12

(1) Basic and diluted earnings per share are computed independently for each of the quarters presented. Therefore, the sum of quarterly basic and diluted per share information may not equal annual basic and diluted earnings per share.

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

18. Supplemental Disclosure to Cash Flows

Supplemental non-cash and other cash flow information were as follows for the years ended December 31 (in thousands):

	2017				2016				2015
Cash paid for income taxes, net of refunds	$	11,487			$	14,048			$	6,759
Non-cash transactions:
Contingent consideration related to business combinations	$	1,007			$	3,325			$	952
Property and equipment purchases in accounts payable	133				82				315
Purchase of assets under capital lease obligations	—				134				—

AXON ENTERPRISE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

19. Subsequent Event

On February 26, 2018, the Company's Board of Directors approved a new stock option grant to Patrick W. Smith, the Company's Chief Executive Officer (“CEO Performance Award”), which is subject to shareholder approval. The CEO Performance Award will consist of 12 vesting tranches, each equal to 1% of our outstanding common stock as of February 23, 2018, the business day prior to the award date. The CEO Performance Award will have a per share exercise price equal to $28.58, the closing price of our common stock on February 23, 2018, and will have a vesting schedule based entirely on the attainment of both operational and market capitalization milestones.

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Stockholders

Axon Enterprise, Inc.

Opinion on the financial statements

We have audited the accompanying consolidated balance sheets of Axon Enterprise, Inc. (a Delaware corporation) and subsidiaries (the “Company”) as of December 31, 2017 and 2016, the related consolidated statements of operations and comprehensive income, changes in stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2017, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2017 and 2016, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2017, in conformity with accounting principles generally accepted in the United States of America.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the Company’s internal control over financial reporting as of December 31, 2017, based on criteria established in the 2013 Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”), and our report dated March 1, 2018 expressed an adverse opinion.

Basis for opinion

These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

/s/ GRANT THORNTON LLP

We have served as the Company’s auditor since 2005.

Phoenix, Arizona

March 1, 2018