There is a lot of attention on the defense/aerospace sector right now as investors try to move into undervalued issues before the anticipated lift from the Federal budget. The reasoning seems sound to us, but growth expectations could be a little overblown in the short-term.
In our opinion, most of the well-known names in the sector are already trading at a multiple that is appropriate for expected growth.
There are a number of companies with direct exposure to defense that look great as long-term portfolio components, but we are more interested Taser International, Inc. (NASDAQ:TASR) as a firm with minor overlap into military sales from their primary customer base in law enforcement. We would expect TASR to benefit from the same budget lift as other stocks in the sector, however, technology innovations and an emerging shift in the legal environment make this company more of a growth story.
TASR products are used to some extent in 17,000 out of 18,000 U.S. law enforcement agencies (including those with overlaps in the military). This kind of market share has created a very interesting opportunity for growth in law enforcement IT/evidence-management with on-body and in-car cameras, and cloud storage.
TASR made a late entry into this market but they still have significant advantages over its competitors.
As we have all sadly learned, for the protection of the public and police officers, better evidence management and monitoring in the U.S. is still needed. Videos from in-car cameras have had a profound effect on citizen and officer safety and have had a massive impact on the cost of complaints.
After a slow start, the technology took off in the 1980s and 1990s because it was desirable for both law enforcement and police-accountability advocates. Currently, 67% of all police cars have such devices. We expect the same kind of growth rate in on-body camera products offered by TASR.
While some people may look at this as a real-life version of “big brother,” ubiquitous body-cameras are probably inevitable. On the bright side, the market for on-body cameras is larger, and likely to be much more profitable in the long run than in-car recording equipment.
However TASR has competition in this area already. Digital Ally, Inc. (NASDAQ:DGLY) is in the space and Panasonic Corporation (ADR) (OTCMKTS:PCRFY) is moving in as well. While competition is a mild constraint, we think TASR has distinct advantages that will allow the company to capture market share from DGLY as its wraps its body-cameras and IT storage/management solutions as an add-on to its weapons service programs.
Law enforcement and military organizations can pay a yearly fee for IT management and new equipment every two to three years for each user.
The announcement that Panasonic was entering this space hit the stock on May 18. As you can see in the chart, initially the announcement sent the stock lower by 7% but prices clawed their way back up to close only moderately down for the day. We think the reaction to the news has been over-discounted by the market and the emerging descending-wedge presents a buy opportunity.
There are a few things we don’t like about TASR that presents risks that shouldn’t be ignored. It have no debt, which sounds good on the surface, but in the current market means TASR may be holding itself back from making new investments while capital is so cheap.
Additionally, because it sell many of its products in a payment or subscription-style plan, TASR has to account for fairly significant levels of deferred revenue. We don’t see much credit risk there, but deferred revenue is widely misunderstood by analysts, which may add some risk to ratings-related volatility.
Despite some of the drawbacks (and a choppy market) we like TASR stock because, unlike DGLY, the company is profitable and recent acquisitions should help it continue to encroach further into competitive territory.
TASR has significant “white space” to expand internationally and to grow their military user base as budgets are increased. We believe investors will begin pricing these future prospects into the company’s stock price before the next earnings report in July/August.
However, in light of recent market volatility, we would still recommend waiting for the breakout beyond the wedge (in the $32.50-33 range) before opening a new position in TASR stock.
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