What changed in this filing

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Item 2. Management’s Discussion and Analysis

2021-05-06 compared with 2020-11-05 · 116 added, 166 removed, 191 unchanged (60% of the section changed)

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All forward-looking statements in this document are based on information available to us as of the date hereof and we assume no obligation to update any such forward-looking statements.

The following discussion should be read in conjunction with our unaudited condensed consolidated financial statements and the accompanying notes contained in this quarterly report and the audited financial statements and notes thereto as of and for the year ended December 31, 2019 and the related Management’s Discussion and Analysis of Financial Condition and Results of Operations, both of which are contained in our Annual Report on Form 10-K, as amended, filed by us with the SEC.

The following discussion should be read in conjunction with our unaudited condensed consolidated financial statements and the accompanying notes contained in this quarterly report.

Unless expressly stated or the context otherwise requires, the terms “we,” “our,” “us,” “the Company,” and “Arlo” refer to Arlo Technologies, Inc.

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Business and Executive Overview

Arlo combines an intelligent cloud infrastructure and mobile app with a variety of smart connected devices that transform the way people experience the connected lifestyle.

Arlo combines an intelligent cloud infrastructure and mobile app with a variety of smart connected devices that is transforming the way people experience the connected lifestyle.

Arlo’s deep expertise in product design, wireless connectivity, cloud infrastructure and cutting-edge AI capabilities focuses on delivering a seamless, smart home experience for Arlo users that is easy to setup and interact with every day.

Our cloud-based platform provides users with visibility, insight and a powerful means to help protect and connect in real-time with the people and things that matter most, from any location with a Wi-Fi or a cellular connection.

Since the launch of our first product in December 2014, we have shipped approximately 18.0 million smart connected devices, and, as of September 27, 2020, our smart platform had approximately 4.8 million cumulative registered accounts across more than 100 countries around the world.

Since the launch of our first product in December 2014, we have shipped over 19.8 million smart connected devices, and as of March 28, 2021, our smart platform had approximately 5.3 million cumulative registered accounts across more than 100 countries around the world.

We conduct business across three geographic regions-the Americas;

Europe, Middle-East and Africa (“EMEA”);

and Asia Pacific (“APAC”) and we primarily generate revenue by selling devices through retail, wholesale distribution, wireless carrier channels, security channels, Arlo online store and paid subscription services.

International revenue was 33.0% and 23.3% of our revenue for the three months ended September 27, 2020 and September 29, 2019, respectively, and 31.4% and 25.4% of our revenue for the nine months ended September 27, 2020 and September 29, 2019, respectively.

For the three months ended September 27, 2020 and September 29, 2019, we generated revenue of $110.2 million and $106.1 million, respectively, representing a year-over-year increase of 3.9%.

Loss from operations was $18.0 million for the three months ended September 27, 2020 and $31.1 million for the three months ended September 29, 2019.

For the nine months ended September 27, 2020 and September 29, 2019, we generated revenue of $242.3 million and $247.6 million, respectively, representing a year-over-year decline of 2.1%.

Loss from operations was $89.2 million for the nine months ended September 27, 2020 and $107.0 million for the nine months ended September 29, 2019.

Our goal is to continue to develop innovative, world-class connected lifestyle solutions to expand and further monetize our current and future user and subscriber bases.

and Asia Pacific (“APAC”) and we primarily generate revenue by selling devices through retail, wholesale distribution, wireless carrier channels, security solution providers, Arlo’s direct to consumer store and paid subscription services.

International revenue was 40.0% and 26.2% of our revenue for the three months ended March 28, 2021 and March 29, 2020, respectively.

For the three months ended March 28, 2021 and March 29, 2020, we generated revenue of $82.6 million and $65.5 million, respectively, representing a year-over-year increase of 26.1%.

Loss from operations was $11.5 million and $40.9 million for the three months ended March 28, 2021 and March 29, 2020, respectively.

Our goal is to continue to develop innovative, world-class connected lifestyle solutions to expand and further monetize our current and future user and paid account bases.

We believe that the growth of our business is dependent on many factors, including our ability to innovate and launch successful new products on a timely basis and grow our installed base, to increase subscription-based recurring revenue, to invest in brand awareness and channel partnerships and to continue our global expansion.

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In addition to the measures presented in our unaudited condensed consolidated financial statements, we use the following key metrics to evaluate our business, measure our performance, develop financial forecasts and make strategic decisions.

In 2019, management’s incentive compensation was partially determined using certain of these key business metrics.

We believe these key business metrics provide useful information by offering the ability to make more meaningful period-to-period comparisons of our on-going operating results and a better understanding of how management plans and measures our underlying business.

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We believe that any such inaccuracies or adjustments are immaterial unless otherwise stated.

Three Months Ended Nine Months Ended

September 27, 2020 % Change September 29, 2019 September 27, 2020 % Change September 29, 2019

Three Months Ended

March 28, 2021 % Change March 29, 2020

(In thousands, except percentage data)

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Cumulative paid accounts 549 115.3 % 255

Devices shipped for the period 978 (14.1) % 1,138 2,136 (21.4) % 2,718

Cumulative Registered Accounts .

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The number of registered accounts does not necessarily reflect the number of end-users on the Arlo platform, as one registered account may be used by multiple people.

We changed our definition from registered users to registered accounts starting in the fourth quarter ended December 31, 2019 due to the Verisure transaction.

We changed our definition from registered users to registered accounts starting in the fourth quarter of 2019 due to the Verisure transaction.

Verisure will own the registered accounts but we will continue to provide services to these European customers under the Verisure Agreements.

Cumulative Paid Accounts.

Paid accounts worldwide measured as any account where a subscription to a paid service is being collected (either by Arlo or by Arlo's customers or channel partners), plus paid service plans of a duration of more than 3 months bundled with products (such bundles being counted as a paid account after 90 days have elapsed from the date of registration).

In the fourth quarter ended December 31, 2019, we redefined paid subscribers as paid accounts to include customers that were transferred to Verisure as part of the disposal of our commercial operations in Europe, because we will continue to provide services to these European customers and receive payments associated with them, under the Verisure Agreements.

Devices Shipped .

Devices shipped represents the number of Arlo cameras, lights, and doorbells that are shipped to our customers during a period.

Devices shipped does not include shipments of Arlo accessories and Arlo base stations, nor does it take into account returns of Arlo cameras, lights, and doorbells.

The growth rate of our revenue is not necessarily correlated with our growth rate of devices shipped, as our revenue is affected by a number of other variables, including but not limited to returns from customers, end-user customer rebates and other channel sales incentives deemed to be a reduction of revenue per the authoritative guidance for revenue recognition, sales of accessories, and premium services, the types of Arlo products sold during the relevant period and the introduction of new product offerings that have different U.S.

manufacturer’s suggested retail prices.

Impact of COVID-19

Paid accounts worldwide measured as any account where a subscription to a paid service is being collected (either by the Company or by the Company’s customers or channel partners), plus paid service plans of a duration of more than 3 months bundled with products (such bundles being counted as a paid account after 90 days have elapsed from the date of registration).

In the fourth quarter of 2019, we redefined paid subscribers as paid accounts to include customers that were transferred to Verisure as part of the disposal of our commercial operations in Europe because we will continue to provide services to these European customers and receive payments associated with them, under the Verisure Agreements.

COVID-19 Update

On March 11, 2020, the World Health Organization announced that COVID-19, a respiratory illness, caused by a novel coronavirus, is a pandemic.

COVID-19 has spread to many of the countries in which we, our customers, our suppliers and our other business partners conduct business.

Governments in affected regions have implemented, and may continue to implement, safety precautions which include quarantines, travel restrictions, business closures, cancellations of

public gatherings and other measures as they deem necessary.

Governments in affected regions have implemented, and may continue to implement, safety precautions which include quarantines, travel restrictions, business closures, cancellations of public gatherings and other measures as they deem necessary.

Many organizations and individuals, including the Company and its employees are taking additional steps to avoid or reduce infection, including limiting travel and staying home from work.

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• a slow-down in the global economy or a credit crisis.

The onset of the COVID-19 pandemic started to affect our product shipments in the second quarter of 2020 due to our major customers' retail stores facing temporary closures and decrease in foot traffic, certain of our customers shifting focus to essential goods distribution, and other uncertainties caused by the pandemic.

The decline in product shipments continued throughout the third quarter of 2020.

As of September 27, 2020, our Americas retail channel inventory declined to 8.5 weeks compared to 13.5 weeks as of September 29, 2019 due to disruption to our sales channel.

This has contributed to a decline in net revenue in Americas by 11.3% and 9.0%, compared to the three and nine months ended September 29, 2019, respectively.

At the same time, we saw a significant increase in freight-in expense of 41.2% and 84.9%, compared to the three and nine months ended September 29, 2019, respectively, as a result of higher airfreight rates.

While this is expected to be temporary, the current circumstances are dynamic and the future impacts of COVID-19 on our business operations, including the duration and impact on overall customer demand, cannot be reasonably estimated at this time.

Our priorities and actions during the COVID-19 pandemic are focused on protecting the health and safety of all those we serve, our employees, our customers, our suppliers and our communities, including implementing early and continuous updates to our health and safety policies and processes.

We have successfully migrated all but a limited number of our global workforce to work remotely while local and state governments have imposed shelter-in-place orders in the United States and around the world.

We are focused on providing our team with the resources that they need to meet the needs of our customers and deliver new innovations to the markets we serve, despite challenges introduced by the COVID-19 pandemic.

For example, as of March 28, 2021, international freight capacity has dropped, causing air and ocean freight rates to materially increase.

Furthermore, transit times have also increased.

For the three months ended March 28, 2021, we saw a 88% increase in freight-in expense compared to the prior year, as a result of the higher sea and air freight rates.

We continue to closely monitor developments and are taking steps to mitigate the potential risks related to the COVID-19 pandemic to us, our employees and our customers.

While the impacts are expected to be temporary, the current circumstances are dynamic and the future impacts of COVID-19 on our business operations, including their duration and impact on overall customer demand, cannot be reasonably estimated at this time.

Our priorities and actions during the COVID-19 pandemic continue to be focused on protecting the health and safety of all those we serve, our employees, our customers, our suppliers and our communities, including implementing continuous updates to our health and safety policies and processes.

We continue to instruct all but a limited number of our global workforce to work remotely as a precautionary measure intended to minimize the risk of the virus to them and the communities in which we operate.

We continue to be focused on providing our team with the resources that they need to meet the needs of our customers and deliver new innovations to the markets we serve, despite challenges introduced by the COVID-19 pandemic.

We continue to work with our suppliers to address any supply chain disruptions, which might include larger component backlogs, travel restrictions and logistics changes that can impact our operations.

For example, increased demand for electronics as a result of the COVID-19 pandemic, effects of the U.S.

trade war with China, increased demand for chips in the automotive industry and certain other factors have led to a global shortage of semiconductors.

Due to such shortage, starting in the fourth quarter of 2020 and in the first quarter of 2021, we experienced component shortages, including longer lead times for components, and supply constraints, which we expect to continue in 2021.

Such shortages and constraints affected our ability to meet scheduled product deliveries and worldwide demand for our products in the first quarter of 2021 and may affect our ability for the remainder of 2021 and potentially beyond.

As a result, we could experience material charges from potential adjustments of the carrying value of our inventories and trade receivables, impairment charges on our long-lived assets, intangible assets and goodwill, and changes in the effectiveness of the Company’s hedging instruments, among others.

We also anticipate that COVID-19 could continue to reduce our revenues and increase product and service costs and operating expenses for the remainder of fiscal 2020.

We are focused on navigating these recent challenges presented by COVID-19 through preserving our liquidity and managing our cash flow through taking preemptive action to enhance our ability to meet our short-term liquidity needs.

These actions include, but are not limited to, proactively managing working capital by closely monitoring customers' credit and collections, renegotiating payment terms with third-party manufacturers and key suppliers, closely monitoring inventory levels and purchases against forecasted demand, reducing or eliminating non-essential spending, and deferment of salary increases and hiring.

We also anticipate that COVID-19 could continue to reduce our revenues and increase product and service costs and operating expenses for the remainder of fiscal year 2021.

We continue to be focused on navigating these recent challenges presented by COVID-19 through preserving our liquidity and managing our cash flow through taking preemptive action to enhance our ability to meet our short-term liquidity needs.

We continue to monitor this rapidly developing situation and may, as necessary, reduce expenditures further, borrow under our revolving credit facility, or pursue other sources of capital that may include other forms of external financing in order to maintain our cash position and preserve financial flexibility in response to the uncertainty in the United States and global markets resulting from the COVID-19 pandemic.

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The following table sets forth, for the periods presented, the unaudited condensed consolidated statements of operations data, which we derived from the accompanying unaudited condensed consolidated financial statements:

Three Months Ended Nine Months Ended

September 27,

2020 September 29,

2019 September 27,

2020 September 29,

Three Months Ended

2021 March 29,

(In thousands, except percentage data)

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We generally recognize revenue from product sales at the time the product is shipped and transfer of control from us to the customer occurs.

Our prepaid services primarily pertain to devices which are sold with our Arlo prepaid services offering, providing users with the ability to store and access data for up to five cameras for a rolling seven-day period.

Prepaid services also include one year of Arlo Smart bundled with our Arlo Ultra products launched in early 2019, and three-month free subscription for Arlo Smart services for our Arlo Pro 3 products launched in late September 2019, Arlo Video Doorbell launched in late November 2019, Arlo Floodlight camera launched in May 2020, Arlo Essential Spotlight camera launched in late June 2020, and the latest version of Arlo Ultra which started shipping in June 2020.

Our first generation camera products under our old business model come with a prepaid service that provides users with rolling seven-day cloud video storage, the ability to connect up to five cameras and 90 days of customer support.

Our second generation camera, doorbell and floodlight products under our new business model come with a prepaid service that includes a one-year free trial period of Arlo Smart bundled with our Arlo Ultra products launched in early 2019, and a three-month free trial period of Arlo Smart bundled with our products launched after September 2019.

Upon device shipment, we attribute a portion of the sales price to the prepaid service, deferring this revenue at the outset and subsequently recognizing it ratably over the estimated useful life of the device or free trial period, as applicable.

Our paid subscription services relate to sales of subscription plans to our registered accounts.

Our NRE service revenue relates to the development services under the NRE arrangement with Verisure discussed in Note 4.

Our revenue consists of gross revenue, less end-user customer rebates and other channel sales incentives deemed to be a reduction of revenue per the authoritative guidance for revenue recognition, allowances for estimated sales returns, price protection, and net changes in deferred revenue.

Our services also include certain development services provided to Verisure under an NRE arrangement as part of the disposal of our commercial operations in Europe in the fourth quarter of 2019.

price protection, and net changes in deferred revenue.

A significant portion of our marketing expenditure is with customers and is deemed to be a reduction of revenue under authoritative guidance for revenue recognition.

Under the Supply Agreement, Verisure became the exclusive distributor of our products in Europe for all channels, and will non-exclusively distribute our products through its direct channels globally.

We expect that our revenue and profitability in Europe will improve over the lifetime of the Supply Agreement.

Refer to Note 4, Disposal of business , in Notes to Unaudited Condensed Consolidated Financial Statements in Item 1 of Part I of this Quarterly Report on Form 10-Q for a complete discussion of the Supply Agreement.

Under the Supply Agreement that we entered into with Verisure in 2019 (the "Supply Agreement"), Verisure became the exclusive distributor of our products in Europe for all channels, and will non-exclusively distribute our products through its direct channels globally for an initial term of five years.

During the five-year period commencing January 1, 2020, Verisure has an aggregate product purchase commitment of $500.0 million.

As of March 28, 2021, $68.5 million of the purchase commitment has been fulfilled.

The Supply Agreement also provides certain NRE service to Verisure, including developing certain custom products specified by Verisure in exchange for an aggregate of $13.5 million, payable in installments upon meeting certain development milestones.

As of March 28, 2021, Verisure has paid $10.5 million for this NRE service, and $9.6 million of the NRE service has been fulfilled.

For the three months ended March 28, 2021, the Company recognized service revenue of $1.5 million for this NRE service.

We conduct business across three geographic regions:

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We generally base revenue by geography on the ship-to location of the customer for device sales and device location for service sales.

Three Months Ended Nine Months Ended

September 27,

2020 % Change September 29,

2019 September 27,

2020 % Change September 29,

Three Months Ended

2021 % Change March 29,

(In thousands, except percentage data)

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Total revenue $ 82,556 26.1 % $ 65,450

Revenue for the three months ended September 27, 2020 increased 3.9%, compared to the prior year period.

The increase was primarily driven by higher service revenue and less provisions for sales returns and marketing expenditures that are deemed to be a reduction of revenue, partially offset by a decrease in product shipments as a result of disruption to our sales channels due to the COVID-19 pandemic.

Revenue for the nine months ended September 27, 2020 decreased 2.1%, compared to the prior year period.

The decrease was primarily driven by a decrease in product shipments as a result of disruption to our sales channels due to the COVID-19 pandemic, partially offset by an increase in service revenue and less provisions for sales returns and marketing expenditures that are deemed to be a reduction of revenue.

Service revenue increased by $7.2 million, or 60.6%, and $16.5 million, or 48.2%, for the three and nine months ended September 27, 2020 compared to the prior year periods, respectively, due to increased paid accounts compared to the prior year periods and recognition of NRE and other incremental service revenue of $3.2 million and $8.1 million from Verisure in three and nine months ended September 27, 2020, respectively.

Revenue for the three months ended March 28, 2021 increased 26.1%, compared to the prior year period.

The increase was primarily driven by higher service revenue, an increase in product shipments in EMEA and less provisions for sales returns and marketing expenditures that are deemed to be a reduction of revenue, partially offset by a decrease in product shipments in Americas.

Service revenue increased by $8.1 million, or 54.8%, for the three months ended March 28, 2021 compared to the prior year period, primarily due to increased paid accounts.

Cost of Revenue

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the cost of finished products from our third-party manufacturers;

overhead costs, including purchasing, product planning, inventory control, warehousing and distribution logistics, third-party software licensing fees, inbound freight, warranty costs associated with returned goods, write-downs for excess and obsolete inventory, royalties to third parties;

overhead costs, including purchasing, product planning, inventory control, warehousing and distribution logistics, third-party software licensing fees, inbound freight, IT and facilities overhead, warranty costs associated with returned goods, write-downs for excess and obsolete inventory, royalties to third parties;

and amortization expense of certain acquired intangibles.

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The following table presents cost of revenue and gross margin for the periods indicated:

Three Months Ended Nine Months Ended

September 27,

2020 % Change September 29,

2019 September 27,

2020 % Change September 29,

Three Months Ended

2021 % Change March 29,

(In thousands, except percentage data)

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Total cost of revenue $ 56,749 (7.7) % $ 61,497

Cost of revenue decreased for the three and nine months ended September 27, 2020, primarily due to the decrease in product revenue and overhead costs, partially offset by higher service costs and excess and obsolete inventory provision compared to the prior year periods.

The increase in service costs is in line with the service revenue growth and due to our continued investment in our cloud service offerings to improve our customer experience and to enhance our security profile, as well as Verisure NRE service costs.

The increase in excess and obsolete inventory provision reflects lower expected future demand for certain older product lines for the nine months ended September 27, 2020 as we transition to newer technologies.

Cost of products revenue decreased for the three months ended March 28, 2021, primarily due to a decrease in warranty costs and excess and obsolete inventory provision, compared to the prior year period.

The decrease in warranty cost is a result of a lower scrap rate driven by increased refurbished product sales, lower returns and fewer product transitions.

The decrease in excess and obsolete inventory provisions is due to fewer product transitions and more effective inventory management.

Cost of services revenue stayed relatively flat for the three months ended March 28, 2021 compared to the prior year period despite service revenue increasing due to cost optimizations implemented on our platform.

The following table presents gross margin for the periods indicated:

Three Months Ended Nine Months Ended

September 27,

2020 September 29,

2019 September 27,

2020 September 29,

Three Months Ended

2021 % Change March 29,

(In thousands, except percentage data)

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Total gross profit percentage 31.3 % 6.0 %

Product margin increased for the three and nine months ended September 27, 2020, compared to the prior year periods, primarily due to a decrease in provisions for sales returns and marketing expenditures that are deemed to be a reduction of revenue, partially offset by higher excess and obsolete inventory provision.

Service margin increased for the three months ended September 27, 2020, compared to the prior year period, primarily due to an increase in paid service revenue and cost optimizations implemented.

Service margin decreased for the nine months ended September 27, 2020, compared to the prior year period, primarily due to higher investment in our cloud service offerings and lower gross margin on the NRE service revenue associated with the Verisure NRE arrangement.

Gross margin increased for the three months ended March 28, 2021 compared to the prior year period, due to a combination of both product and service margin increases.

The product margin increase is primarily due to decreased provisions for sales returns and marketing expenditures that are deemed to be reductions of revenue, decreased warranty costs and a lower excess and obsolete inventory provision.

The service margin increase is primarily due to an increase in paid service revenue coupled with various cost optimizations implemented.

Operating Expenses

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We have invested in and expanded our research and development organization to enhance our ability to introduce innovative products and services.

We believe that innovation and technological leadership are critical to our future success, and we are committed to continuing a significant level of research and development to develop new technologies, products, and services, including our hardware devices, cloud-based software, AI-based algorithms, and machine learning capabilities.

We expect research and development expense to stay relatively flat in absolute dollars for the remainder of fiscal 2020 as we manage our expenses while continuing to develop new product and service offerings to support the connected lifestyle market.

We believe that innovation and technological leadership are critical to our future success, and we are committed to continuing a significant level of

research and development to develop new technologies, products, and services, including our hardware devices, cloud-based software, AI-based algorithms, and machine learning capabilities.

We expect research and development expense to stay relatively flat in absolute dollars as we manage our expenses while continuing to develop new product and service offerings.

The following table presents research and development expense for the periods indicated:

Three Months Ended Nine Months Ended

September 27,

2020 % Change September 29,

2019 September 27,

2020 % Change September 29,

Three Months Ended

2021 % Change March 29,

(In thousands, except percentage data)

Research and development expense $ 14,791 (3.0) % $ 15,243

Research and development expense decreased for the three months ended September 27, 2020, compared to the prior year period, due to decreases of $1.2 million in corporate IT and facility overhead, partially offset by increases of $0.6 million in personnel-related expenditures and $0.6 million in expenses related to outside professional services.

Also, certain research and development expenses amounting to $1.2 million were attributed to the Verisure NRE arrangement in fiscal 2020, and are classified as cost of service revenue.

Research and development expense decreased for the nine months ended September 27, 2020, compared to the prior year period, due to decreases of $2.4 million in personnel-related expenses primarily due to the reduction in force implemented in the last quarter of 2019, and $3.2 million in corporate IT

and facility overhead, partially offset by increase of $1.3 million in expenses related to outside professional services.

Also, contributing to the reduction in Research and development expense, various research and development expenses amounting to $3.1 million were attributed to the Verisure NRE arrangement, and are classified as cost of service revenue in fiscal 2020.

Research and development expense decreased for the three months ended March 28, 2021, compared to the prior year period, due to an increase in certain research and development expenses amounting to $0.4 million, which were attributed to the Verisure NRE projects, and are classified as cost of service revenue.

Sales and Marketing

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IT and facilities overhead;

and outbound freight costs.

We expect our sales and marketing expense to fluctuate for the foreseeable future based on the seasonality of our business, the growth of our online store, and the extent to which we invest in marketing to drive awareness of our brand and drive demand for our products.

outbound freight costs;

and credit card processing fees.

We expect our sales and marketing expense to fluctuate for the foreseeable future based on the seasonality of our business, the growth of our direct to consumer store, and the extent to which we invest in marketing to drive awareness of our brand and drive demand for our products.

The following table presents sales and marketing expense for the periods indicated:

Three Months Ended Nine Months Ended

September 27,

2020 % Change September 29,

2019 September 27,

2020 % Change September 29,

Three Months Ended

2021 % Change March 29,

(In thousands, except percentage data)

Sales and marketing expense $ 11,207 1.5 % $ 11,038

Sales and marketing expense decreased for the three months ended September 27, 2020, compared to the prior year period, primarily due to decreases in personnel-related expenses of $1.1 million as a result of a general reduction of headcount within sales and marketing as well as the transfer of our European sales and marketing on December 30, 2019 to Verisure coupled with a reduction in travel related expenses as a result of COVID-19 restrictions.

Sales and marketing expense decreased for the nine months ended September 27, 2020, compared to the prior year period, primarily due to decreases in personnel-related expenses of $4.3 million, marketing expenditures of $1.4 million and corporate IT and facility overhead of $1.2 million as a result of a general reduction of headcount within sales and marketing as well as the transfer of our European sales and marketing on December 30, 2019 to Verisure coupled with a reduction in travel related expense as a result of COVID-19 restrictions.

Sales and marketing expense stayed relatively flat for the three months ended March 28, 2021, compared to the prior year period, primarily due to marginal increases in personnel-related expenses, outside professional services and credit card processing fees, partially offset by lower marketing expenditures and IT and facility overhead.

General and Administrative

General and administrative expense consists primarily of personnel-related expense for certain executives, finance and accounting, investor relations, human resources, legal, information technology, professional fees, corporate IT and facilities overhead, strategic initiative expense and other general corporate expense.

We expect our general and administrative expense to stay relatively flat in absolute dollars.

However, we also expect our general and administrative expense to fluctuate as a percentage of our revenue in future periods based on fluctuations in our revenue and the timing of such expense.

We expect our general and administrative expense to stay relatively flat in absolute dollars but to fluctuate as a percentage of our revenue in future periods based on fluctuations in our revenue and the timing of such expense.

The following table presents general and administrative expense for the periods indicated:

Three Months Ended Nine Months Ended

September 27,

2020 % Change September 29,

2019 September 27,

2020 % Change September 29,

Three Months Ended

2021 % Change March 29,

(In thousands, except percentage data)

General and administrative expense $ 11,227 (40.2) % $ 18,784

General and administrative expense increased for the three months ended September 27, 2020, compared to the prior year period, primarily due to higher personnel-related expenditures of $1.3 million, partially offset by lower costs of $0.9 million in legal and professional services.

General and administrative expense increased for the nine months ended September 27, 2020, compared to the prior year period, primarily due to higher personnel-related expenditures of $7.5 million, as a result of the $7.4 million stock-based compensation expense recognized for the voluntary forfeiture of our CEO's IPO Options in January 2020, partially offset by the reversal of the previously recognized stock-based compensation expense amounting to $1.2 million of unvested IPO Options and RSU upon separation of Ms.

Gorjanc in June 2020, and

$0.8 million of Verisure transaction costs recognized in 2020, partially offset by lower costs of $0.8 million in legal and professional services.

General and administrative expense decreased for the three months ended March 28, 2021, compared to the prior year period, primarily due to a decrease of $6.1 million in personnel-related expenditures brought about by the one-time charge for stock-based compensation expense recognized for the three months ended March 29, 2020 upon the voluntary forfeiture of our CEO's stock options in January 2020, and a $0.5 million of Verisure transaction costs recognized in the first quarter of 2020.

Separation Expense

Separation expense consists primarily of costs associated with our separation from NETGEAR, including third-party advisory, consulting, legal and professional services for separation matters including IPO-related litigation, IT-related expenses directly related to our separation from NETGEAR, and other items that are incremental and one-time in nature.

To operate as a standalone company, we have incurred separation costs.

The significant reduction during the three and nine months ended September 27, 2020 was as a result of the substantial completion of our Separation from NETGEAR effective December 31, 2018.

Separation expense consists primarily of costs of legal and professional services for IPO-related litigation associated with our separation from NETGEAR.

The following table presents separation expense for the periods indicated:

Three Months Ended Nine Months Ended

September 27,

2020 % Change September 29,

2019 September 27,

2020 % Change September 29,

Three Months Ended

2021 % Change March 29,

(In thousands, except percentage data)

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The following table presents gain on sale of business for the periods indicated:

Three Months Ended Nine Months Ended

September 27,

2020 % Change September 29,

2019 September 27,

2020 % Change September 29,

Three Months Ended

2021 % Change March 29,

(In thousands, except percentage data)

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In the first quarter of 2020, we recognized an additional gain of $292 thousand as a result of the final working capital adjustment.

There was no gain or loss for the three months ended September 27, 2020 and the three and nine months ended September 29, 2019.

Interest Income and Other Income (Expense), Net

The following table presents other income (expense), net for the periods indicated:

Three Months Ended Nine Months Ended

September 27,

2020 % Change September 29,

2019 September 27,

2020 % Change September 29,

Three Months Ended

2021 % Change March 29,

(In thousands, except percentage data)

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We expect our interest income in absolute dollars to decrease as we use up our short-term investments and cash and cash equivalents to fund our operations while interest rates have also declined.

Other income (expense), net, increased for the three months ended September 27, 2020, compared to the prior year period primarily due to Verisure TSA income of $0.9 million recognized in 2020, partially offset by a decrease of $0.4 million in fair value remeasurement of liability-classified awards for employees transferred to Verisure in December 2019 and a decrease of $0.2 million due to losses in foreign currency hedging contracts.

Other income (expense), net, increased

for the nine months ended September 27, 2020, compared to the prior year period primarily due to Verisure TSA income of $3.0 million recognized in 2020.

During the three months ended March 28, 2021 and March 29, 2020, we earned interest income of $24 thousand and $535 thousand, respectively, from our short-term investments and cash and cash equivalents.

The reduction, compared to the prior year period, is primarily due to the decrease in our short-term investments and cash and cash equivalents as we funded our operations and the decline in interest rates

Other income (expense), net primarily represents gains and losses on transactions denominated in foreign currencies, foreign currency contract gain (loss), net, and other miscellaneous income and expense.

We have also included reimbursements for the Verisure Transition Service Agreement ("TSA") in Other income.

Other income (expense), net, decreased for the three months ended March 28, 2021, compared to the prior year period primarily due to a decrease of $283 thousand in Verisure TSA related income.

Provision for Income Taxes

Three Months Ended Nine Months Ended

September 27,

2020 % Change September 29,

2019 September 27,

2020 % Change September 29,

Three Months Ended

2021 % Change March 29,

(In thousands, except percentage data)

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The Company’s provision for income taxes was primarily attributable to income taxes on foreign earnings.

The decrease in provision for income taxes for the three and nine months ended September 27, 2020, compared to the prior year periods was primarily due to lower foreign earnings in 2020.

The increase in provision for income taxes for the three months ended March 28, 2021, compared to the prior year period was primarily due to higher foreign earnings in 2021 compared to 2020.

Losses incurred predominantly in the U.S.

continue to be subject to a full valuation allowance.

On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act was enacted by the United States.

The CARES Act did not have a material impact on the Company's provision for income taxes for the three and nine months ended September 27, 2020.

Liquidity and Capital Resources

We have a history of losses and may continue to incur operating and net losses for the foreseeable future.

As of September 27, 2020, our accumulated deficit was $217.6 million.

As of March 28, 2021, our accumulated deficit was $243.5 million.

Our principal sources of liquidity are cash, cash equivalents and short-term investments.

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The marketable securities are held in our company’s name with a high quality financial institution, which acts as our custodian and investment manager.

As of September 27, 2020, we had cash, cash equivalents and short-term investments totaling $193.6 million.

As of March 28, 2021, we had cash, cash equivalents and short-term investments totaling $177.1 million.

5.4% of our cash and cash equivalents were held outside of the U.S.

Starting in 2018, as a result of legislation enacted in 2017, informally titled the Tax Cuts and Jobs Act (the “Tax Act”), due to the one-time transition tax on un-repatriated earnings, the tax impact would generally be immaterial should we repatriate our cash from foreign earnings.

Starting in 2018, the Tax Cuts and Jobs Act of 2017 (the “Tax Act”) impact on the repatriation of foreign earnings is generally immaterial.

The cash and cash equivalents balance outside of the U.S.

is subject to fluctuation based on the settlement of intercompany balances.

In November 2019, we entered into a business financing agreement with Western Alliance Bank providing for a credit facility to up to $40.0 million and as of September 27, 2020, we have not borrowed against this credit facility.

In November 2019, we entered into a business financing agreement with Western Alliance Bank providing for a credit facility to up to $40.0 million and as of March 28, 2021, we have not borrowed against this credit facility.

Refer to Note 8.

Debt in the Notes to Unaudited Condensed Consolidated Financial Statements in Item 1 of Part I of this Quarterly Report on Form 10-Q for further details on such business financing agreement.

Based on our current plans, the business financing agreement with Western Alliance Bank, and market conditions, we believe that such sources of liquidity will be sufficient to satisfy our anticipated cash requirements for at least the next 12 months.

However, in the future we may require or desire additional funds to support our operating expenses and capital requirements or for other purposes, such as acquisitions, and may seek to raise such additional funds through public or private equity or debt financings or collaborative agreements or from other sources.

Based on our current plans, business financing agreement with Western Alliance Bank, and market conditions, we believe that such sources of liquidity will be sufficient to satisfy our anticipated cash requirements for at least the next 12 months.

However, in the future, including sooner as may be anticipated, we may require or desire additional funds to support our operating expenses and capital requirements or for other purposes, such as acquisitions, and may seek to raise such additional funds through public or private equity or debt financings or collaborative agreements or from other sources.

However, the COVID-19 pandemic continues to rapidly evolve and has already resulted in a significant disruption of global financial markets.

If the disruption persists and deepens, we could experience an inability to access additional capital, which could in the future negatively affect our capacity to support our operating expenses and capital requirements or to make investments for other purposes, such as acquisitions.

In addition, to preserve the tax-free treatment of our separation from NETGEAR, we have agreed in the tax matters agreement with NETGEAR to certain restrictions on our business, which generally will be effective during the two-year period following the special stock dividend (the “Distribution”) by NETGEAR to NETGEAR stockholders of the 62,500,000 shares of Arlo common stock owned by NETGEAR that occurred on December 31, 2018, that could limit our ability to pursue certain transactions including equity issuances.

We have no commitments to obtain such additional financing and cannot assure you that additional financing will be available at all or, if available, that such financing would be obtainable on terms favorable to us and would not be dilutive.

Our future liquidity and cash requirements will depend on numerous factors, including the introduction of new products, potential acquisitions of related businesses or technology.

Our future liquidity and cash requirements will depend on numerous factors, including the introduction of new products, the growth in our service revenue, as well as the ability to increase our gross margin dollars and continue to maintain controls over our operating expenditures.

The following table presents our cash flows for the periods presented:

Nine Months Ended

September 27,

2020 September 29,

Three Months Ended

2021 March 29,

(In thousands)

Net cash used in operating activities $ (30,168) $ (48,904)

Net cash used in investing activities (2,155) 5,209

Net cash used in financing activities (1,581) 82

Net cash provided by (used in) investing activities 14,197 (11,207)

Net cash provided by (used in) financing activities 1,956 (166)

Net cash decrease $ (14,015) $ (60,277)

Operating activities

Net cash used in operating activities increased by $16.6 million for the nine months ended September 27, 2020 compared to the prior year period.

This increase comprised $35.8 million improvement in net cash used in operating activities excluding changes in working capital, primarily due to a reduction in net loss, offset by an increase in cash used in working capital of $52.4 million, mainly as a result of a reduction in inventory in 2019 which has not been repeated in 2020.

Our days sales outstanding (“DSO”) decreased to 47 days as of September 27, 2020 compared to 97 days as of December 31, 2019, primarily as a result of customer mix, an increase in service revenue and growth in Arlo online store sales, all of which have shorter payment terms.

Typically, our DSO in the fourth quarter is higher due to seasonal payment terms provided to our larger customers, while service revenue is typically a lower percentage of our revenue in the fourth quarter.

Inventory increased marginally to $69.0 million as of September 27, 2020 from $68.6 million as of December 31, 2019, primarily due to higher inventory purchases, partially offset by lower on-hand inventory balance.

Our ending inventory turns were 4.6x in the three months ended September 27, 2020 down from 5.9x turns in the three months ended December 31, 2019, primarily as a result of the normal seasonal reduction in our business, accentuated by the impact of COVID-19.

Our accounts payable decreased to $74.7 million as of September 27, 2020 from $111.7 million as of December 31, 2019, primarily as a result of payments to suppliers for the purchases made in the fourth quarter of 2019 and the normal seasonality of our business.

Net cash used in operating activities decreased by $18.7 million for the three months ended March 28, 2021 compared to the prior year period.

This decrease comprised a $20.7 million reduction in adjusted net loss for cash flows, offset by an increase in working capital used in operations of $2.0 million, mainly driven by lower collections from customers, partially offset by lower payments to suppliers.

Our days sales outstanding (“DSO”) decreased to 54 days as of March 28, 2021 compared to 64 days as of December 31, 2020, primarily as a result of in-quarter collections from our customers that were on seasonal dating terms and unpaid in the fourth quarter of 2020, as well as a change in customer mix and an increase in service revenue.

Typically, our DSO in the fourth quarter is higher due to seasonal payment terms provided to our larger customers.

Inventory decreased to $56.0 million as of March 28, 2021 from $64.7 million as of December 31, 2020, as we reduced our product purchases in line with the normal seasonality of our business and continued to focus on effective inventory management.

Despite a lower inventory level, our ending inventory turns were 3.4x in the three months ended March 28, 2021 down from 5.0x turns in the three months ended December 31, 2020, primarily as a result of the normal seasonality in our business.

Our accounts payable decreased to $27.1 million as of March 28, 2021 from $62.2 million as of December 31, 2020, in line with lower product purchases in the first quarter of 2021.

Investing activities

Net cash used in investing activities increased by $7.4 million for the nine months ended September 27, 2020 compared to the prior year period, primarily due to higher short-term investments of $10.3 million, partially offset by less purchases of property and equipment of $3.0 million due to the completion of leasehold improvements in 2019 at our San Jose headquarters.

Net cash provided by investing activities increased by $25.4 million for the three months ended March 28, 2021 compared to the prior year period, primarily due to more maturities of short-term investments of $5.0 million and less purchases of short-term investments of $20.1 million.

Financing activities

Net cash used in financing activities of $1.6 million and $0.1 million in the nine months ended September 27, 2020 and September 29, 2019, respectively, represented withholding tax from restricted stock unit releases, offset by proceeds from ESPP contributions.

Net cash provided by financing activities of $2.0 million in the three months ended March 28, 2021 represented proceeds from ESPP contributions and exercises of stock options of $6.1 million, offset by tax withholdings from restricted stock unit releases of $4.2 million.

Net cash used in financing activities was $0.2 million for the three months ended March 29, 2020, representing tax withholdings from restricted stock unit releases of $2.0 million, offset by proceeds from ESPP contributions of $1.9 million.

Contractual Obligations

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Commitments and Contingencies, in Notes to Unaudited Condensed Consolidated Financial Statements in Item 1 of Part I of this Quarterly Report on Form 10-Q for a complete discussion of our contractual obligations.

Off-Balance Sheet Arrangements

As of September 27, 2020, we did not have any off-balance sheet arrangements as defined in Item 303(a)(4)(ii) of SEC Regulation S-K.

Critical Accounting Policies and Estimates

For a complete description of what we believe to be the critical accounting policies and estimates used in the preparation of our Unaudited Condensed Consolidated Financial Statements, refer to our Annual Report on Form 10-K for the year ended December 31, 2020.

There have been no material changes to our critical accounting policies and estimates during the nine months ended September 27, 2020, other than as discussed in Note 2.

There have been no material changes to our critical accounting policies and estimates during the three months ended March 28, 2021, other than as discussed in Note 2.

Significant Accounting Policies and Recent Accounting Pronouncements, in the Notes to Unaudited Condensed Consolidated Financial Statements in Item 1 of Part I of this Quarterly Report on Form 10-Q,

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Quantitative and Qualitative Disclosures About Market Risk

During the nine months ended September 27, 2020, there were no material changes to our market risk disclosures as set forth in Part II Item 7A "Quantitative and Qualitative Disclosures About Market Risk" in our Annual Report on Form 10-K for the year ended December 31, 2019.

During the three months ended March 28, 2021, there were no material changes to our market risk disclosures as set forth in Part II Item 7A "Quantitative and Qualitative Disclosures About Market Risk" in our Annual Report on Form 10-K for the year ended December 31, 2020.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis