• The services segment has been an important driver for Arlo’s profit growth.
• Expansion beyond the Americas has yielded positive results.
• New products were launched in 2022 to diversify in the home security space.

American smart home products company Arlo, which is primarily focused on smart security cameras, has reported a 15.3% YoY rise in its Q3 2022 revenue at $128 million. The growth was driven by both its product and services portfolios. Its services segment, in particular, has been driving the spike in its profits in the past few quarters. The other driver for the company’s top line in the past few quarters has been its foray into Europe, whose share in the revenue mix is increasing. In the previous two quarters, the growth was marred by supply constraints, especially higher air freight costs. However, the growth in subscription services partially offset the decline in revenues.

Arlo was spun off from Netgear as a separate company in 2018. Its offerings can be mainly divided into two categories – products and services. Over the years, the products have diversified beyond smart cameras to include doorbells, floodlights and other accessories, the most recent being Arlo’s first security system with a keypad sensor hub and multi-sensors. Arlo’s service offerings include mainly two services – Secure and the recently launched Arlo Safe. While the first one acts as a command center for a buyer’s home security needs, the latter is an on-the-go personal safety app for the owner and her/his loved ones.

Source: Arlo

Diversification pays off

Arlo has entered new product categories since 2019, like services, doorbells and floodlights, which are also close to its core business of smart home security. It is now reaping the benefits of this diversification, generating an alternative stream of revenues with a share of 46% in 2021, compared to 22% in 2019. Continuing with this trend, Arlo plans to launch three new product service offerings in three years. So far, it has added Arlo Safe and Arlo Secure to expand its revenue from the services segment.

The shift towards the subscription model has led to a jump in both revenue and paid accounts. Services revenue currently accounts for 28% of Arlo’s total revenue. The company’s annual recurring revenue has continued to grow and was at $125 million in Q3, a 56% YoY growth. It is the fastest-growing as well as the highest-margin portion of the revenue and represents the annualized recurring subscription revenue Arlo derives from paid accounts.

To increase subscription-based revenue, Arlo is laying emphasis on direct-to-consumer and strategic accounts. Investments in its website “Arlo.com” have seen positive results, with the share of revenue coming from retail and e-commerce (indirect sales) declining to 43% as compared to 84% in 2019.

The gross profit margin for Arlo was at a high level of 28.7% during Q3. The gross margin is steadily increasing, indicating more profitability on its sales, probably due to increasing profits in the services segments. It is pertinent to note here that the profit share of the services and product segments in Q3 was 64% and 36% respectively.

Even with operating margins being negative from 2019 till today, 2022 has been the best year with the margins ranging between -5% and -11%, indicating that Arlo is on a path toward profitability. Talking specifically about 2022, Q3 had the lowest operating margin, which could be attributed to higher marketing expenses due to the company’s “protect your everything” campaign.

Focus on increasing subscribers, EMEA remains fastest-growing region

Region-wise, Americas has been stable with a share of around 55% this year. The agreement with Verisure has brought significant returns for Arlo. The EMEA region now contributes 41% to Arlo’s revenues, which is a significant increase from the end of 2020 when the share never went beyond 25%. Arlo also got into a partnership with Calix last year to ensure accessibility of its products to remote and rural areas. The partnership entails Calix integrating Arlo services into its platform for broadband service providers around Canada.

Arlo had 500,000 paid accounts in March 2021 which rose to 1 million by December 1, 2021. In Q3 2022, the number of paid accounts stood at 1.67 million, a 91% YoY growth. This has also meant a boost for the annual recurring revenue. Arlo is one of the few companies to reach $100 million in five years.

ARPU has also been a new focus area for the company. At the end of 2021, its ARPU was $9.35. The ARPU was seen to have increased after the launch of its new emergency services, Arlo Secure, in 2021. In Q1 2022, the churn rate at 2.8% was one of the least compared to other companies which have a subscription model. Arlo also sees an 80% gross margin on retail and direct paid accounts with a low churn rate of 1.2%.

Cash flows decreased in Q3 due to increased investment in inventory, which was at $73.2 million. This increase in inventory was due to restocking in anticipation of the holiday season and to meet consumer demand in Q4 and early 2023.

Conclusion and future outlook

• Global partnerships, especially with Verisure, have yielded positive results by allowing Arlo to expand into Europe. The strategic partnerships with T-Mobile, Verizon, U.S. Cellular, Celcom and Bell Canada have also been successful. These partnerships are important for Arlo to tap untouched markets as well as indirectly develop brand awareness.
• Arlo is transitioning from a pure hardware company to a services business. It is working towards converting its hardware buyers into subscribers. SAAS will remain a focus for the company and other competing firms as differentiation in products like smart cameras has become difficult, but differentiation in services is much easier.
• A successive increase in ARR and cumulative registered accounts since 2020 is an indication of the above. It is a high profit margin area that Arlo is leveraging, but it must diversify its product portfolio as the service revenue is dependent on it. Arlo will continue to innovate in its products to maintain the existing consumer base and subsequently increase its subscriber base.
• The supply chain for Arlo as well as other security companies was first affected by COVID-19 and then the Russia-Ukraine war. With the easing of the impacts of both, the industry as well as Arlo are expected to come on track and post better results in the coming quarters.
• In the near future, Arlo is expecting a volatile market due to inflationary pressures and fears of a recession. Therefore, it has taken steps to cut down on its operating expenses. Arlo paused its marketing campaign “protect your everything” at the end of Q3 to prepare for a bleak macroeconomic future. The company is also expected to reduce its headcount, office leases and outside service, steps which may temporarily impact its growth but not by much.