EVLV - Evolv Technologies: Evolving Growth In An Increasingly Dangerous World

2023-06-30 16:49:48 ET

Summary

• Evolv Technologies Holdings specializes in AI-based weapons detection security screening systems.
• Evolv Technologies Holdings has seen rapid growth in recent years, with revenues growing over 100% CAGR over the past three years, and Q1 revenue of $18.6 million, up 113% YOY.
• The company has seen growing adoption in several sectors including education, industrial workplaces, professional sports, and healthcare institutions.
• Despite being a small cap stock with some associated risks, including negative cash flows, I rate the stock a Buy at a price below $6.

As we approach the July Fourth holiday in the US and news of AI opportunities in growth stocks seems to appear in the headlines on an almost daily basis, I have been interested in seeing the performance of several that I follow to try to determine whether I should try to get in while they still offer a good value. One of the nice features of the SA portfolio tool is the ability to see the performance of stocks that you follow.

I sorted my Growth stock picks by 6-month returns and decided to focus on one that is in the top 10 that does not get a lot of coverage. Some of the others that are in my top 10 are ones that I have recently covered including 3 of the AI software stocks, C3.ai (AI), SoundHound AI ( SOUN ) and BigBear.ai Holdings (BBAI), that I wrote about back in April in my article, The Softer Side Of Artificial Intelligence .

Here is the snippet of my top 10 growth stocks based on 6-month performance.

I also recently covered Green Brick Partners (GRBK), which has nothing to do with AI, but has been a top performer this year. Several of the others on the list you may already be familiar with, and if not, there is plenty of coverage from other authors on most of them. But the one that surprised me the most was a small, under the radar company that gets very little coverage on SA and has been growing rapidly. That company is called Evolv Technologies Holdings (EVLV).

About Evolv Technology

Based in Waltham, MA, Evolv specializes in AI-based weapons detection security screening systems. From the company's Q123 earnings press release , this is how the company describes themselves.

Evolv Technology is transforming human security to make a safer, faster, and better experience for the world's most iconic venues and companies as well as schools, hospitals, and public spaces, using industry-leading artificial intelligence AI-powered weapons detection and analytics. Its mission is to transform security to create a safer world to work, learn, and play. Evolv has digitally transformed the gateways in places where people gather by enabling seamless integration combined with powerful analytics and insights. Evolv's advanced systems have scanned more than 600 million people, second only to the Department of Homeland Security's Transportation Security Administration ('TSA') in the United States.

The company was founded in 2013 and has been rapidly growing revenues for the past several years with more than 100% CAGR over the past 3 years, ramping up dramatically after the Covid pandemic ended.

In the most recent Q1 earnings report on May 10, the company announced Q1 revenue of $18.6 million, up 113% YOY, Q1 ARR (annual recurring revenue) of $42M up 153% YOY, and Q1 ending Evolv Express subscriptions of 2,787, up 206% YOY. The following table from the press release summarizes the recurring and non-recurring revenue realized during the quarter.

Although the company is not yet cash flow positive, they also raised guidance for the year with very optimistic expectations of increased revenues, gross margins, and annual recurring revenues.

Additionally, on June 14 the company issued a press release announcing the most recent update to their subscription service, Evolv Express 6.0. In that announcement, the company described the advantages of their AI-based security screening services that are available as a SaaS option.

Express 6.0 launches with enhanced threat detection and new deployment size selections for venues that may have physical space constraints, such as schools and healthcare facilities. These upgrades, designed to expand installation options and enhance detection capabilities across a broader spectrum of threats, are offered to the entire fleet of over 2,000 Express systems currently deployed by Evolv customers.

"Our customers realize that a static, 'one size fits all' piece of hardware cannot keep up in today's world," said Peter George, president & CEO of Evolv Technology. "This latest upgrade represents yet another example of our team's continued full solution investment which is provided to our customers as part of their ongoing SaaS (software as a service subscription) with Evolv."

The company welcomed 60 new customers during the quarter, including the hometown Boston Red Sox. They now serve over 600 customers with nearly 2,800 units deployed. ARR grew to $42M at the end of Q1'23 from $34M at the end of 2022 with expectations to double ARR by the end of 2023. Evolv remains well capitalized and expects to end the year with net cash of between $110-$120M. The company had previously expected to end with a higher net cash position but elected to terminate the debt facility that they had with SVB due to the bank failure in March. CFO Mark Donohue explained on the earnings call what the impact of that event entailed.

I will remind investors, that we had previously expected to end 2023 with gross cash of about $165 million to $175 million which included debt of about $65 million. That debt facility with SVB was solely to support the purchase of Evolv Express for use by our full subscription customers. As previously disclosed, we elected to terminate that debt facility at March 31st and paid off to then outstanding balance of $30 million. We of course, won't be drawing down the additional $35 million we had previously planned for the balance of 2023.

Adjusted operating expenses were higher than the previous quarter primarily due to an increased headcount to pursue growth in revenue-generating activities and R&D. Also, higher payroll taxes in the first quarter contributed to the additional expense. The headcount increased from 225 employees at the end of December to 247 as of March 31. The adjusted loss for the quarter decreased by about 10% as explained further by CFO Donohue:

Adjusted loss, which excludes stock-based compensation non-cash charges and other one-time items, was $16.9 million, compared to $18.5 million in the first quarter of last year. Adjusted EBITDA, which excludes stock-based compensation and other one-time items, was negative $15.4 million, compared to negative $18 million in the fourth quarter of 2022 and negative $17.3 million in the first quarter of last year. This reflects about a 10% improvement both sequentially and year-over-year, primarily due to higher gross profit and careful expense management.

Tragedy Leads to Opportunity

The year 2023 started out with an unprecedented level of gun violence in the US with more than 180 mass shootings as of May 1 according to ABC News . Gun violence now surpasses car accidents as the leading cause of death for under-18-year-olds in the US.

More specifically, the rise in "active shooter" incidents in the US has risen dramatically in the past 20 years as illustrated in this chart from a Pew Research study .

It is those types of incidents that the Evolv security screening solutions attempt to prevent or detect before they occur. Visitor screening helps to detect guns and the Evolv systems have been able to detect an average of 400 guns per day at customer venues, according to this slide from the Q4'22 investor presentation .

There is growing adoption of Evolv solutions in several developing markets including education, industrial workplaces, professional sports, and healthcare institutions. CEO Peter George explained this growing trend in more detail on the Q1 earnings call .

We continue to see broad adoption of our solutions with strong end market demand in education, in health care and professional sports are key vertical markets. Of note, we're beginning to see growing traction in industrial workplaces, which was our fastest-growing market in Q1 and which we believe will be a fundamental driver of our growth in 2024. The demand in education continues to accelerate. The education market again represents 50% of our business in the first quarter. We added over 65 more school buildings in the first quarter, up from 400 school buildings at the end of 2022.

Another recent development that is expected to further enhance growth opportunities for Evolv into the future is the expanded partnership with Columbia Technology announced in May. Columbia Tech is a subsidiary of Coghlin Companies and has been providing contract manufacturing services for Evolv. The CT partnership enables them to now be an authorized distributor of Evolv Express systems. Evolv has worked with CT for the past 7 years and believes that this partnership will lead to additional opportunities for customers to procure and deploy Evolv Express as part of a layered security system offered by CT. The CFO further explained the benefits of the partnership with CT on the Q1 earnings call:

Our expanded partnership with Columbia Technology or CT has the potential to change the business dynamics in Evolv's favor. Rather than needing to procure all of the equipment on our balance sheet to service a mostly pure subscription model, we expect a different mix.

We have many end-customers that prefer buying the equipment upfront, particularly in our K-12 and healthcare verticals. That can be due to grants, funding requirements, donor preferences or simply business capital planning. Our commitment to our customers' needs extends to the way we structure customer contracts. Our goal is to be agnostic on the sales methodology requested by our customers and eliminate friction in the selling process.

Our expanded partnership with CT helps us achieve that balance. Our reseller partners will now go direct to CT for any upfront hardware purchases and CT will in turn pay a hardware IP license to Evolv for each unit sold.

In addition to the expanded partnership with CT, Evolv systems are sold through channel partners as well. As explained by CEO Peter George on the Q1 earnings call, more than 80% of booking activity came through channel partners.

We continue to see accelerated momentum with our channel partners, which include Johnson Controls, Securitas, Motorola, Alliance, Stone and over 70 other partners a record 80% of our bookings activity in the first quarter came with or through a channel partner.

The other important trend that is driving revenue growth is the expanded adoption of the full subscription model. More than 60% of bookings in the first quarter of 2023 included full subscriptions. That directly relates to the growth in gross margins and is a trend that is likely to continue.

Summary

The EVLV stock has been on a tear over the past year and especially since the start of 2023. This small cap (market cap of $840M) stock is an emerging growth stock and has some risk associated with it, including negative cash flows despite strong revenue growth. The company is on track to continue its phenomenal growth trajectory and gets Strong Buy ratings from 4 Wall Street analysts with 2 Hold ratings.

There is some risk that the momentum will subside if the broader economy declines or if there is another catastrophic black swan event such as the Covid-19 pandemic that results in fewer crowds going to schools, sporting events, or public spaces.

Meanwhile, given the rising incidence of gun violence in the US and broader adoption of sophisticated screening technologies offered by Evolv, I believe that the growth is likely to continue and even increase as the TAM for the screening solutions that they offer gains broader adoption. I rate EVLV stock a Buy at a price below $6.

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