Arlo Technologies, Inc. 10-Q

Item 1. Financial Statements ARLO TECHNOLOGIES, INC. UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS As of March 28, 2021 December 31, 2020 (In thousands, except share and per share data) ASSETS Current assets: Cash and cash equivalents $ 172,113 $ 186,127 Short-term investments (amortized cost of $ 5,000 and $ 19,996 ) 5,000 19,997 Accounts receivable (net of allowance for credit losses of $ 519 and $ 519 ) 51,121 77,643 Inventories 55,972 64,705 Prepaid expenses and other current assets 7,705 8,076 Total current assets 291,911 356,548 Property and equipment, net 14,596 15,821 Operating lease right-of-use assets, net 22,950 23,998 Goodwill 11,038 11,038 Restricted cash 4,163 4,164 Other non-current assets 2,536 2,399 Total assets $ 347,194 $ 413,968 LIABILITIES AND STOCKHOLDERS ’ EQUITY Current liabilities: Accounts payable $ 27,054 $ 62,171 Deferred revenue 54,999 53,142 Accrued liabilities 97,154 121,766 Income tax payable 223 267 Total current liabilities 179,430 237,346 Non-current deferred revenue 6,605 16,563 Non-current operating lease liabilities 23,897 25,029 Non-current income taxes payable 104 104 Other non-current liabilities 828 1,159 Total liabilities 210,864 280,201 Commitments and contingencies (Note 9) Stockholders’ Equity: Preferred stock: $ 0.001 par value; 50,000,000 shares authorized; none issued or outstanding — — Common stock: $ 0.001 par value; 500,000,000 shares authorized; shares issued and outstanding: 81,250,176 at March 28, 2021 and 79,336,242 at December 31, 2020 81 79 Additional paid-in capital 379,738 366,455 Accumulated other comprehensive income — 3 Accumulated deficit ( 243,489 ) ( 232,770 ) Total stockholders’ equity 136,330 133,767 Total liabilities and stockholders’ equity $ 347,194 $ 413,968 The accompanying notes are an integral part of these unaudited condensed consolidated financial statements. 4 Table of Contents ARLO TECHNOLOGIES, INC. UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS Three Months Ended March 28, 2021 March 29, 2020 (In thousands, except per share data) Revenue: Products $ 59,761 $ 50,723 Services 22,795 14,727 Total revenue 82,556 65,450 Cost of revenue: Products 47,157 52,188 Services 9,592 9,309 Total cost of revenue 56,749 61,497 Gross profit 25,807 3,953 Operating expenses: Research and development 14,791 15,243 Sales and marketing 11,207 11,038 General and administrative 11,227 18,784 Separation expense 54 79 Gain on sale of business — ( 292 ) Total operating expenses 37,279 44,852 Loss from operations ( 11,472 ) ( 40,899 ) Interest income 24 535 Other income (expense), net 909 1,183 Loss before income taxes ( 10,539 ) ( 39,181 ) Provision for income taxes 180 145 Net loss $ ( 10,719 ) $ ( 39,326 ) Net loss per share: Basic $ ( 0.13 ) $ ( 0.51 ) Diluted $ ( 0.13 ) $ ( 0.51 ) Weighted average shares used to compute net loss per share: Basic 80,370 76,560 Diluted 80,370 76,560 The accompanying notes are an integral part of these unaudited condensed consolidated financial statements. 5 Table of Contents ARLO TECHNOLOGIES, INC. UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) Three Months Ended March 28, 2021 March 29, 2020 (In thousands) Net loss $ ( 10,719 ) $ ( 39,326 ) Other comprehensive income (loss), before tax: Unrealized gain (loss) on derivative instruments ( 2 ) 53 Unrealized gain (loss) on available-for-sale securities ( 1 ) 66 Total other comprehensive income (loss), before tax ( 3 ) 119 Total other comprehensive income (loss), net of tax ( 3 ) 119 Comprehensive loss $ ( 10,722 ) $ ( 39,207 ) The accompanying notes are an integral part of these unaudited condensed consolidated financial statements. 6 Table of Contents ARLO TECHNOLOGIES, INC. UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY Common Stock Shares Amount Additional Paid-In Capital Accumulated Other Comprehensive Income (Loss) Accumulated Deficit Total (In thousands) Balance as of December 31, 2020 79,336 $ 79 $ 366,455 $ 3 $ ( 232,770 ) $ 133,767 Net loss — — — — ( 10,719 ) ( 10,719 ) Stock-based compensation expense — — 4,871 — — 4,871 Settlement of liability classified RSUs — — 6,458 — — 6,458 Issuance of common stock under stock-based compensation plans 2,133 3 4,433 — — 4,436 Issuance of common stock under Employee Stock Purchase Plan 353 — 1,697 — — 1,697 Restricted stock unit withholdings ( 572 ) ( 1 ) ( 4,176 ) — — ( 4,177 ) Change in unrealized gains and losses on available-for-sale securities, net of tax — — — ( 1 ) — ( 1 ) Change in unrealized gains and losses on derivatives, net of tax — — — ( 2 ) — ( 2 ) Balance as of March 28, 2021 81,250 $ 81 $ 379,738 $ — $ ( 243,489 ) $ 136,330 Common Stock Shares Amount Additional Paid-In Capital Accumulated Other Comprehensive Income (Loss) Accumulated Deficit Total (In thousands) Balance as of December 31, 2019 75,786 $ 76 $ 334,821 $ ( 2 ) $ ( 131,519 ) $ 203,376 Net loss — — — — ( 39,326 ) ( 39,326 ) Stock-based compensation expense — — 11,985 — — 11,985 Settlement of liability classified RSUs — — 2,573 — — 2,573 Issuance of common stock under stock-based compensation plans 1,375 1 — — — 1 Issuance of common stock under Employee Stock Purchase Plan 732 1 1,853 — — 1,854 Restricted stock unit withholdings ( 532 ) ( 1 ) ( 2,020 ) — — ( 2,021 ) Change in unrealized gains and losses on available-for-sale securities, net of tax — — — 66 — 66 Change in unrealized gains and losses on derivatives, net of tax — — — 53 — 53 Balance as of March 29, 2020 77,361 $ 77 $ 349,212 $ 117 $ ( 170,845 ) $ 178,561 The accompanying notes are an integral part of these unaudited condensed consolidated financial statements. 7 Table of Contents ARLO TECHNOLOGIES, INC. UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS Three Months Ended March 28, 2021 March 29, 2020 (In thousands) Cash flows from operating activities: Net loss $ ( 10,719 ) $ ( 39,326 ) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 1,547 2,773 Premium amortization (discount accretion) on investments, net ( 3 ) ( 5 ) Stock-based compensation expense 8,340 12,773 Allowance for credit losses and inventory reserves ( 562 ) 1,709 Gain on sale of business — ( 292 ) Deferred income taxes ( 130 ) 100 Changes in assets and liabilities: Accounts receivable, net 26,522 65,685 Inventories 9,296 6,142 Prepaid expenses and other assets 361 5,273 Accounts payable ( 34,647 ) ( 71,834 ) Deferred revenue ( 8,101 ) ( 6,251 ) Accrued and other liabilities ( 22,072 ) ( 25,651 ) Net cash used in operating activities ( 30,168 ) ( 48,904 ) Cash flows from investing activities: Purchases of property and equipment ( 803 ) ( 1,111 ) Purchases of short-term investments — ( 20,096 ) Proceeds from maturities of short-term investments 15,000 10,000 Net cash provided by (used in) investing activities 14,197 ( 11,207 ) Cash flows from financing activities: Proceeds related to employee benefit plans 6,133 1,854 Restricted stock unit withholdings ( 4,177 ) ( 2,020 ) Net cash provided by (used in) financing activities 1,956 ( 166 ) Net decrease in cash and cash equivalents and restricted cash ( 14,015 ) ( 60,277 ) Cash and cash equivalents and restricted cash , at beginning of period 190,291 240,819 Cash and cash equivalents and restricted cash , at end of period $ 176,276 $ 180,542 Non-cash investing and financing activities: Purchases of property and equipment included in accounts payable and accrued liabilities $ 82 $ 323 The accompanying notes are an integral part of these unaudited condensed consolidated financial statements. 8 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Note 1. The Company and Basis of Presentation The Company Arlo Technologies, Inc. ("Arlo" or the "Company") combines an intelligent cloud infrastructure and mobile app with a variety of smart connected devices that transform the way people experience the connected lifestyle. The Company'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. The Company's 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. The Company conducts business across three geographic regions - Americas; Europe, Middle-East and Africa (“EMEA”); and Asia Pacific (“APAC”), and primarily generates revenue by selling devices through retail channels, wholesale distribution, wireless carrier channels, security solution providers, and Arlo's direct to consumer store and paid subscription services. The Company has dual corporate headquarters located in San Jose, California and Carlsbad, California and also maintains offices to provide sales and customer support at various global locations. Basis of Presentation The unaudited condensed consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All periods presented have been accounted for in conformity with U.S. Generally Accepted Accounting Principles (“U.S. GAAP”) and pursuant to the regulations of the U.S. Securities and Exchange Commission (“SEC”). These unaudited condensed consolidated financial statements should be read in conjunction with the notes to the audited consolidated financial statements included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2020. The year-end condensed balance sheet data was derived from audited financial statements, but does not include all disclosures required by U.S. GAAP. In the opinion of management, these unaudited condensed consolidated financial statements reflect all adjustments, consisting only of normal recurring adjustments, which are necessary for fair statement of the unaudited condensed consolidated financial statements for interim periods. Fiscal periods The Company’s fiscal year begins on January 1 of the year stated and ends on December 31 of the same year. The Company reports its results on a fiscal quarter basis rather than on a calendar quarter basis. Under the fiscal quarter basis, each of the first three fiscal quarters ends on the Sunday closest to the calendar quarter end, with the fourth quarter ending on December 31. Use of estimates The preparation of these unaudited condensed consolidated financial statements in conformity with U.S. GAAP 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 financial statements and the reported amounts of revenues and expenses during the reported periods. Management bases its estimates on various assumptions believed to be reasonable, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results could differ materially from those estimates and operating results for the three months ended March 28, 2021 are not necessarily indicative of the results that may be expected for the year ending December 31, 2021 or any future period. 9 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Note 2. Significant Accounting Policies and Recent Accounting Pronouncements The Company’s significant accounting policies are disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020. There have been no significant changes during the three months ended March 28, 2021. Recent accounting pronouncements Emerging Growth Company Status As an emerging growth company (“EGC”), the Jumpstart Our Business Startups Act (“JOBS Act”) allows the Company to delay adoption of new or revised accounting pronouncements applicable to public companies until such pronouncements are made applicable to private companies, unless the Company otherwise irrevocably elects not to avail itself of this exemption. The Company did not make such an irrevocable election and has not delayed the adoption of any applicable accounting standards. Accounting Pronouncements Recently Adopted There were no accounting pronouncements adopted during the three months ended March 28, 2021. Accounting Pronouncements Not Yet Effective In March 2020, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2020-04, Facilitation of the Effects of Reference Rate Reform on Financial Reporting. The ASU is intended to provide temporary optional expedients and exceptions to the U.S. GAAP guidance on contract modifications and hedge accounting to ease the financial reporting burdens related to the expected market transition from the London Interbank Offered Rate ("LIBOR") and other interbank offered rates to alternative reference rates. This guidance is effective beginning on March 12, 2020, and the Company may elect to apply the amendments prospectively through December 31, 2022. The Company is currently evaluating the impact this guidance may have on its financial statements and related disclosures. With the exception of the new standards discussed above, there have been no other new accounting pronouncements that have significance, or potential significance, to the Company’s financial position, results of operations, or cash flows. Note 3. Deferred Revenue Deferred Revenue Deferred revenue consists of advance payments and deferred revenue, where the Company has unsatisfied performance obligations. Deferred revenue consists of prepaid services and customer billings in advance of revenues being recognized from the Company's subscription contracts. Advance payments include prepayments for products and Non-Recurring Engineering ("NRE") services under the Supply Agreement with Verisure S.à.r.l. (“Verisure”). Transaction Price Allocated to the Remaining Performance Obligations Remaining performance obligations represent the transaction price allocated to performance obligations that are unsatisfied or partially unsatisfied as of the end of the reporting period. Unsatisfied and partially unsatisfied performance obligations consist of contract liabilities, in-transit orders with destination terms, and non-cancellable backlog. Non-cancellable backlog includes goods and services for which customer purchase orders have been accepted and that are scheduled or in the process of being scheduled for shipment. 10 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) The following table includes estimated revenue expected to be recognized in the future related to performance obligations that are unsatisfied (or partially unsatisfied) as of March 28, 2021: 1 year 2 years Greater than 2 years Total (In thousands) Performance obligations $ 62,442 $ 6,066 $ 673 $ 69,181 The performance obligation classified as greater than one year pertains to revenue deferral from prepaid services and Verisure prepayments for products. For the three months ended March 28, 2021 and March 29, 2020, $ 17.7 million and $ 8.6 million of revenue was deferred due to unsatisfied performance obligations, primarily relating to over time service revenue, and $ 21.9 million and $ 14.9 million of revenue was recognized for the satisfaction of performance obligations over time, respectively. $ 10.5 million and $ 8.7 million of this recognized revenue was included in the contract liability balance at the beginning of the period. There were no significant changes in estimates during the period that would affect the contract balances. Disaggregation of Revenue The Company conducts business across three geographic regions: Americas, EMEA, and APAC. Sales and usage-based taxes are excluded from revenue. Refer to Note 13, Segment and Geographic Information , for revenue by geography. Note 4. Balance Sheet Components Cash and Cash Equivalents and Restricted cash The Company maintains certain cash balances restricted as to withdrawal or use. The restricted cash is comprised primarily of cash used as collateral for a letter of credit associated with the Company’s lease agreement for its headquarters in San Jose, California. The Company deposits restricted cash with high credit quality financial institutions. The following table provides a reconciliation of cash and cash equivalents and restricted cash reported within the balance sheets that sum to the total of the same amounts shown on the statements of cash flows: As of March 28, 2021 December 31, 2020 (In thousands) Cash and cash equivalents $ 172,113 $ 186,127 Restricted cash 4,163 4,164 Total as presented on the unaudited condensed consolidated statements of cash flows $ 176,276 $ 190,291 As of March 29, 2020 December 31, 2019 (In thousands) Cash and cash equivalents $ 176,425 $ 236,680 Restricted cash 4,117 4,139 Total as presented on the unaudited condensed consolidated statements of cash flows $ 180,542 $ 240,819 11 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Available-for-sale short-term investments As of March 28, 2021 As of December 31, 2020 Cost Unrealized Gains Unrealized Losses Estimated Fair Value Cost Unrealized Gains Unrealized Losses Estimated Fair Value (In thousands) U.S. treasuries $ 5,000 $ — $ — $ 5,000 $ 19,996 $ 1 $ — $ 19,997 The Company’s short-term investments are classified as available-for-sale and consist of government securities with an original maturity or remaining maturity at the time of purchase of greater than three months and no more than twelve months. Accordingly, none of the available-for-sale securities have unrealized losses greater than twelve months. The Company did not recognize any allowance for credit losses related to available for sale short-term investment for the three months ended March 28, 2021. Accounts receivable, net As of March 28, 2021 December 31, 2020 (In thousands) Gross accounts receivable $ 51,640 $ 78,162 Allowance for credit losses ( 519 ) ( 519 ) Total accounts receivable, net $ 51,121 $ 77,643 The following table provides a roll-forward of the allowance for credit losses that is deducted from the amortized cost basis of accounts receivable to present the net amount expected to be collected. Three Months Ended March 28, 2021 March 29, 2020 (In thousands) Balance at the beginning of the period $ 519 $ 609 Adoption of ASU 2016-13, cumulative-effect adjustment to retained earnings — — Provision for expected credit losses — 254 Amounts recovered due to collection — — Balance at the end of the period $ 519 $ 863 Inventories Inventories consist of finished goods which are valued at the lower of cost or net realizable value, with cost being determined using the first-in, first-out method as of March 28, 2021. 12 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Property and equipment, net The components of property and equipment are as follows: As of March 28, 2021 December 31, 2020 (In thousands) Machinery and equipment $ 13,677 $ 14,397 Software 13,210 13,192 Computer equipment 4,089 4,083 Furniture and fixtures 4,047 4,048 Leasehold improvements 8,021 8,023 Total property and equipment, gross 43,044 43,743 Accumulated depreciation and amortization ( 28,448 ) ( 27,922 ) Total property and equipment, net $ 14,596 $ 15,821 Depreciation and amortization expense pertaining to property and equipment was $ 1.5 million and $ 2.4 million for the three months ended March 28, 2021 and March 29, 2020, respectively. Goodwill There was no change in the carrying amount of goodwill during the three months ended March 28, 2021. The goodwill as of December 31, 2020 and March 28, 2021 was $ 11.0 million. Goodwill Impairment The Company performs an annual assessment of goodwill at the reporting unit level on the first day of the fourth fiscal quarter and during interim periods if there are triggering events to reassess goodwill. The Company operates as one operating and reportable segment. The Company determined that no events occurred or circumstances changed during the three months ended March 28, 2021 that would more likely than not reduce the fair value of the Company below its carrying amount. If there is a significant decline in the Company’s stock price based on market conditions and deterioration of the Company’s business, the Company may have to record a charge to its earnings for the goodwill impairment of up to $ 11.0 million. Other non-current assets As of March 28, 2021 December 31, 2020 (In thousands) Non-current deferred income taxes $ 1,399 $ 1,269 Deposits 122 122 Other 1,015 1,008 Total other non-current assets $ 2,536 $ 2,399 13 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Accrued liabilities As of March 28, 2021 December 31, 2020 (In thousands) Sales and marketing $ 31,552 $ 38,577 Sales returns 24,429 37,689 Accrued employee compensation 11,419 15,089 Current operating lease liabilities 4,391 4,400 Freight 2,602 3,558 Warranty obligation 1,937 2,451 Other 20,824 20,002 Total accrued liabilities $ 97,154 $ 121,766 Note 5. Fair Value Measurements The following table summarizes assets and liabilities measured at fair value on a recurring basis as of March 28, 2021 and December 31, 2020: As of March 28, 2021 As of December 31, 2020 Total Quoted market prices in active markets (Level 1) Significant other observable inputs (Level 2) Total Quoted market prices in active markets (Level 1) Significant other observable inputs (Level 2) (In thousands) Assets: Cash equivalents: money-market funds (<90 days) $ 16,931 $ 16,931 $ — $ 1,934 $ 1,934 $ — Available-for-sale securities: U.S. treasuries (1) 5,000 5,000 — 19,997 19,997 — Foreign currency forward contracts (2) 61 — 61 24 — 24 Total assets measured at fair value $ 21,992 $ 21,931 $ 61 $ 21,955 $ 21,931 $ 24 Liabilities: Foreign currency forward contracts (3) $ — $ — $ — $ 199 $ — $ 199 Total liabilities measured at fair value $ — $ — $ — $ 199 $ — $ 199 _________________________ (1) Included in Short-term investments on the Company’s unaudited condensed consolidated balance sheets. (2) Included in Prepaid expenses and other current assets on the Company’s unaudited condensed consolidated balance sheets. (3) Included in Accrued liabilities on the Company’s unaudited condensed consolidated balance sheets. The Company’s investments in cash equivalents and available-for-sale securities are classified within Level 1 of the fair value hierarchy because they are valued based on quoted market prices in active markets. The Company enters into foreign currency forward contracts with only those counterparties that have long-term credit ratings of A-/A3 or higher. The Company’s foreign currency forward contracts are classified within Level 2 of the fair value hierarchy as they are valued using pricing models that take into account the contract terms as well as currency rates and counterparty credit rates. The Company verifies the reasonableness of these pricing models using observable market data for related inputs into such models. Additionally, the Company includes an adjustment for non-performance risk in the recognized 14 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) measure of fair value of derivative instruments. As of March 28, 2021 and December 31, 2020, the adjustment for non-performance risk did not have a material impact on the fair value of the Company’s foreign currency forward contracts. The carrying value of non-financial assets and liabilities measured at fair value in the financial statements on a recurring basis, including accounts receivable and accounts payable, approximate fair value due to their short maturities. As of March 28, 2021 and December 31, 2020, the Company has no Level 3 fair value assets or liabilities. Note 6. Derivative Financial Instruments The Company’s subsidiaries have had, and will continue to have material future cash flows, including revenue and expenses, which are denominated in currencies other than the Company’s functional currency. The Company and all its subsidiaries designate the U.S. dollar as the functional currency. Changes in exchange rates between the Company’s functional currency and other currencies in which the Company transacts business will cause fluctuations in cash flow expectations and cash flow realized or settled. Accordingly, the Company uses derivatives to mitigate its business exposure to foreign exchange risk. The Company enters into foreign currency forward contracts in Australian dollars and Canadian dollars to manage its exposure to foreign exchange risk related to expected future cash flows on certain forecasted revenue, costs of revenue, operating expenses and existing assets and liabilities. T he Company’s foreign currency forward contracts do not contain any credit risk-related contingent features. The Company is exposed to credit losses in the event of nonperformance by the counter-parties of its forward contracts. The Company enters into derivative contracts with high-quality financial institutions and limits the amount of credit exposure to any one counter-party. In addition, the derivative contracts typically mature in less than six months and the Company continuously evaluates the credit standing of its counter-party financial institutions. The counter-parties to these arrangements are large highly rated financial institutions and the Company does not consider non-performance a material risk. The Company may choose not to hedge certain foreign exchange exposures for a variety of reasons, including, but not limited to, materiality, accounting considerations or the prohibitive economic cost of hedging particular exposures. There can be no assurance the hedges will offset more than a portion of the financial impact resulting from movements in foreign exchange rates. The Company’s accounting policies for these instruments are based on whether the instruments are designated as hedge or non-hedge instruments in accordance with the authoritative guidance for derivatives and hedging. The Company records all derivatives on the balance sheets at fair value. Cash flow hedge gains and losses are recorded in other comprehensive income (“OCI”) until the hedged item is recognized in earnings. Derivatives that are not designated as hedging instruments are adjusted to fair value through earnings in Other income (expense), net in the unaudited condensed consolidated statements of operations. 15 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Fair value of derivative instruments The fair values of the Company’s derivative instruments and the line items on the unaudited condensed consolidated balance sheets to which they were recorded as of March 28, 2021 and December 31, 2020 are summarized as follows: Derivative Assets Balance Sheet Location March 28, 2021 December 31, 2020 Balance Sheet Location March 28, 2021 December 31, 2020 (In thousands) (In thousands) Derivative assets not designated as hedging instruments Prepaid expenses and other current assets $ 61 $ 22 Accrued liabilities $ — $ 199 Derivative assets designated as hedging instruments Prepaid expenses and other current assets — 2 Accrued liabilities — — Total $ 61 $ 24 $ — $ 199 Refer to Note 5, Fair Value Measurements, for detailed disclosures regarding fair value measurements in accordance with the authoritative guidance for fair value measurements and disclosures. Gross amounts offsetting of derivative instruments The Company has entered into master netting arrangements which allow net settlements under certain conditions. Although netting is permitted, it is currently the Company’s policy and practice to record all derivative assets and liabilities on a gross basis in the unaudited condensed consolidated balance sheets. The following tables set forth the offsetting of derivative assets as of March 28, 2021 and December 31, 2020: As of March 28, 2021 Gross Amounts Not Offset in the Unaudited Condensed Consolidated Balance Sheets Gross Amounts of Recognized Assets Gross Amounts Offset in the Unaudited Condensed Consolidated Balance Sheets Net Amounts Of Assets Presented in the Unaudited Condensed Consolidated Balance Sheets Financial Instruments Cash Collateral Pledged Net Amount (In thousands) Wells Fargo Bank $ 61 $ — $ 61 $ — $ — $ 61 December 31, 2020 Gross Amounts Not Offset in the Unaudited Condensed Consolidated Balance Sheets Gross Amounts of Recognized Assets Gross Amounts Offset in the Unaudited Condensed Consolidated Balance Sheets Net Amounts Of Assets Presented in the Unaudited Condensed Consolidated Balance Sheets Financial Instruments Cash Collateral Pledged Net Amount (In thousands) Wells Fargo Bank $ 24 $ — $ 24 $ ( 24 ) $ — $ — The following table sets forth the offsetting of derivative liabilities as of December 31, 2020: 16 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) December 31, 2020 Gross Amounts Not Offset in the Unaudited Condensed Consolidated Balance Sheets Gross Amounts of Recognized Liabilities Gross Amounts Offset in the Unaudited Condensed Consolidated Balance Sheets Net Amounts Of Liabilities Presented in the Unaudited Condensed Consolidated Balance Sheets Financial Instruments Cash Collateral Pledged Net Amount (In thousands) Wells Fargo Bank $ 199 $ — $ 199 $ ( 24 ) $ — $ 175 Cash flow hedges The Company typically hedges portions of its anticipated foreign currency exposure which generally are less than six months . The Company did not enter into any forward contracts related to its cash flow hedging program for the three months ended March 28, 2021. The effects of the Company's cash flow hedges from the contracts placed in the previous quarter on the unaudited condensed consolidated statements of operations for the three months ended March 28, 2021 are summarized as follows: Location and Amount of Gains (Losses) Recognized in Income on Cash Flow Hedges Revenue Cost of revenue Research and development Sales and marketing General and administrative (In thousands) Statements of operations $ 82,556 $ 56,749 $ 14,791 $ 11,207 $ 11,227 Gains (losses) on cash flow hedge $ — $ — $ — $ 2 $ — The effects of the Company’s cash flow hedges on the unaudited condensed consolidated statements of operations for the three months ended March 29, 2020 are summarized as follows: Location and Amount of Gains (Losses) Recognized in Income on Cash Flow Hedges Revenue Cost of revenue Research and development Sales and marketing General and administrative (In thousands) Statements of operations $ 65,450 $ 61,497 $ 15,243 $ 11,038 $ 18,784 Gains (losses) on cash flow hedge $ ( 4 ) $ — $ — $ — $ — The Company expects to reclassify to earnings all of the amounts recorded in AOCI (as defined below) associated with its cash flow hedges over the next twelve months. For information on the unrealized gains or losses on derivatives reclassified out of AOCI into the unaudited condensed consolidated statements of operations, refer to Note 7, Accumulated Other Comprehensive Income (Loss). Derivative instruments designated as cash flow hedges must be de-designated as hedges when it is probable the forecasted hedged transaction will not occur within the designated hedge period or if not recognized within 60 days following the end of the hedge period. The Company did not recognize any material net gains or losses related to the loss of hedge designation as there were no discontinued cash flow hedges during the three months ended March 28, 2021 and March 29, 2020. 17 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Non-designated hedges The Company adjusts its non-designated hedges monthly and enters into about seven non-designated derivatives per quarter with an average size of $ 2.6 million. The hedges range typically from one to three months in duration. The effects of the Company’s non-designated hedge included in Other income (expense), net on the unaudited condensed consolidated statements of operations for the three months ended March 28, 2021 and March 29, 2020 were as follows: Derivatives Not Designated as Hedging Instruments Location of Gains (Losses) Recognized in Income on Derivative Three Months Ended March 28, 2021 March 29, 2020 (In thousands) Foreign currency forward contracts Other income (expense), net $ ( 5 ) $ 1,079 18 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Note 7. Accumulated Other Comprehensive Income (Loss) The following table sets forth the changes in accumulated other comprehensive income (loss) (“AOCI”) by component for the three months ended March 28, 2021 and March 29, 2020. Unrealized gains (losses) on available-for-sale securities Unrealized gains (losses) on derivatives Estimated tax benefit (provision) Total (In thousands) Balance as of December 31, 2020 $ 1 $ 2 $ — $ 3 Other comprehensive income (loss) before reclassifications ( 1 ) — — ( 1 ) Less: Amount reclassified from accumulated other comprehensive income (loss) — 2 — 2 Net current period other comprehensive income (loss) ( 1 ) ( 2 ) — ( 3 ) Balance as of March 28, 2021 $ — $ — $ — $ — Unrealized gains (losses) on available-for-sale securities Unrealized gains (losses) on derivatives Estimated tax benefit (provision) Total (In thousands) Balance as of December 31, 2019 $ 23 $ ( 25 ) $ — $ ( 2 ) Other comprehensive income (loss) before reclassifications 66 49 — 115 Less: Amount reclassified from accumulated other comprehensive income (loss) — ( 4 ) — ( 4 ) Net current period other comprehensive income (loss) 66 53 — 119 Balance as of March 29, 2020 $ 89 $ 28 $ — $ 117 The following tables provide details about significant amounts reclassified out of each component of AOCI for the three months ended March 28, 2021 and March 29, 2020: Three Months Ended March 28, 2021 Three Months Ended March 29, 2020 Gains (Losses) Recognized in OCI - Effective Portion Gains (Losses) Reclassified from OCI to Income - Effective Portion Gains (Losses) Recognized in OCI - Effective Portion Gains (Losses) Reclassified from OCI to Income - Effective Portion Affected Line Item in the Statements of Operations (In thousands) Gains (losses) on cash flow hedge: Foreign currency contracts $ — $ — $ ( 4 ) $ ( 4 ) Revenue Foreign currency contracts — — — — Cost of revenue Foreign currency contracts — — — — Research and development Foreign currency contracts — 2 — — Sales and marketing Foreign currency contracts — — — — General and administrative $ — $ 2 $ ( 4 ) $ ( 4 ) Total * _________________________ * Tax impact to hedging gains and losses from derivative contracts was immaterial. 19 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Note 8. Debt Revolving Credit Facility On November 5, 2019, the Company entered into a Business Financing Agreement (the “Credit Agreement”) with Western Alliance Bank, an Arizona corporation, as lender (the “Lender”). The Credit Agreement provides for a two-year revolving credit facility (the “Credit Facility”) that matures on November 5, 2021 and that may, by its terms, be extended by mutual written agreement between the Company and the Lender. Borrowings under the Credit Facility are limited to the lesser of (x) $ 40.0 million, and (y) an amount equal to the borrowing base. The borrowing base will be 60 % of the Company’s eligible receivables and eligible accounts receivable, less such reserves as the Lender may deem proper and necessary from time to time. The Lender is not required to make any advance under the Credit Facility during the period beginning on January 1st and continuing through June 30th, except for advances made against eligible receivables first invoiced between July 1 and December 31, 2019. The Credit Agreement also includes sublimits for the issuance by the Lender of letters of credit, credit card indebtedness and foreign exchange forward contract. Repayment of the borrowings under the Credit Facility are due upon collection of the eligible receivables. The proceeds of the borrowings under the Credit Facility may be used for working capital and general corporate purposes. The obligations of the Company under the Credit Agreement are secured by substantially all of the Company’s domestic personal property, excluding intellectual property assets and more than 65 % of the shares of voting capital stock of any of the Company’s foreign subsidiaries. Borrowings under the Credit Agreement generally bear interest at floating rates based upon the prime rate plus two and one-quarter percentage points ( 2.25 %), plus an additional five percentage points ( 5 %) during any period that an event of default has occurred and is continuing. Among other fees, the Company is required to pay an annual facility fee equal to 0.25 % of the limit under the Credit Facility due upon entry into the Credit Agreement and on each anniversary thereof. The annual facility fee is capitalized and being amortized as interest expense over a 12-month period. The Company incurred debt issuance costs for the Credit Agreement, which are recorded in prepaid expenses and other current assets in the Company's unaudited condensed consolidated balance sheets and are being amortized as interest expense over the contractual term of the Credit Agreement. The Credit Agreement contains customary events of default and other restrictions, including a financial covenant that requires the Company to maintain $ 20.0 million of domestic cash and certain restrictions on the Company’s ability to incur additional indebtedness, consolidate or merge, enter into acquisitions, pay any dividend or distribution on the Company’s capital stock, redeem, retire or purchase shares of the Company’s capital stock, make investments or pledge or transfer assets, in each case subject to limited exceptions. If an event of default under the Credit Agreement occurs, then the Lender may cease making advances under the Credit Agreement and declare any outstanding obligations under the Credit Agreement to be immediately due and payable. In addition, if the Company files a bankruptcy petition, a bankruptcy petition is filed against the Company and is not dismissed or stayed within forty-five days, or the Company makes a general assignment for the benefit of creditors, then any outstanding obligations under the Credit Agreement will automatically and without notice or demand become immediately due and payable. As of March 28, 2021, the Company is in compliance with all the covenants of the Credit Agreement. No amounts had been drawn under the Credit Facility as of March 28, 2021. 20 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Note 9. Commitments and Contingencies Operating Leases The Company primarily leases office space, with various expiration dates through June 2029. Some of the leases include options to extend such leases for up to five years , and some include options to terminate such leases within one year . The terms of certain of the Company's leases provide for rental payments on a graduated scale. The Company determines if an arrangement is a lease at inception. Operating leases are included in operating lease right-of-use (“ROU”) assets, accrued liabilities , and non-current operating lease liabilities in the unaudited condensed consolidated balance sheets. Leases with an initial term of 12 months or less are not recorded on the balance sheet. Fixed lease expense for lease payments are recognized in the unaudited condensed consolidated statements of operations on a straight-line basis over the lease term and variable lease payments in the period in which the obligation for those payments is incurred. Lease expense was $ 1.6 million and $ 1.8 million for the three months ended March 28, 2021 and March 29, 2020, respectively. The lease expense was recorded within Cost of revenue and General and administrative in the Company's unaudited condensed consolidated statements of operations. Short-term and variable lease costs were included in the lease expense and they were immaterial. Supplemental cash flow information related to operating leases for the three months ended March 28, 2021 and March 29, 2020 was as follows: March 28, 2021 March 29, 2020 (in thousands) Cash paid for amounts included in the measurement of lease liabilities Operating cash flows from operating leases $ 1,534 $ 1,486 Right-of-use assets obtained in exchange for lease liabilities Operating leases $ — $ — Weighted average remaining lease term and weighted average discount rate related to operating leases as of March 28, 2021 were as follows: Weighted average remaining lease term 6.8 years Weighted average discount rate 5.69 % The maturity of lease liabilities related to operating leases for each of the next five years and thereafter as of March 28, 2021 was as follows (in thousands): 2021 (Remaining nine months) $ 4,395 2022 5,768 2023 4,975 2024 4,456 2025 3,183 Thereafter 11,494 Total lease payments 34,271 Less: interest (1) ( 5,983 ) Total $ 28,288 Accrued liabilities $ 4,391 Non-current operating lease liabilities 23,897 Total $ 28,288 ________________________ (1) Leases that commenced before November 5, 2019 were calculated using the Company’s incremental borrowing rate on a collateralized basis plus LIBOR rate that closely matches contractual term of most leases. Leases that commenced after 21 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) November 5, 2019 were calculated using the Company's borrowing rate defined in the Credit Agreement with Western Alliance Bank. The maturity of lease liabilities related to operating leases for each of the next five years and thereafter as of December 31, 2020 was as follows (in thousands): 2021 $ 5,931 2022 5,770 2023 4,977 2024 4,459 2025 3,186 Thereafter 11,498 Total lease payments $ 35,821 Less: interest (1) ( 6,392 ) Total $ 29,429 Accrued liabilities $ 4,400 Non-current operating lease liabilities 25,029 Total $ 29,429 ________________________ (1) Leases that commenced before November 5, 2019 were calculated using the Company’s incremental borrowing rate on a collateralized basis plus LIBOR rate that closely matches contractual term of most leases. Leases that commenced after November 5, 2019 were calculated using the Company's borrowing rate defined in the Credit Agreement with Western Alliance Bank. Letters of Credit In connection with the lease agreement for the headquarters located in San Jose, California, the Company executed a letter of credit with the landlord as the beneficiary. As of March 28, 2021, the Company had approximately $ 3.6 million of unused letters of credit outstanding, of which $ 3.1 million pertains to the lease arrangement in San Jose, California. Purchase Obligations The Company has entered into various inventory-related purchase agreements with suppliers. Generally, under these agreements, 50 % of orders are cancelable by giving notice 46 to 60 days prior to the expected shipment date and 25 % of orders are cancelable by giving notice 31 to 45 days prior to the expected shipment date. Orders are non-cancelable within 30 days prior to the expected shipment date. As of March 28, 2021, the Company had approximately $ 22.6 million in non-cancelable purchase commitments with suppliers. The Company establishes a loss liability for all products it does not expect to sell for which it has committed purchases from suppliers. As of March 28, 2021, the loss liability from committed purchases was $ 0.9 million. From time to time the Company’s suppliers procure unique complex components on the Company’s behalf. If these components do not meet specified technical criteria or are defective, the Company should not be obligated to purchase the materials. 22 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Warranty Obligations Changes in the Company’s warranty liability, which is included in Accrued liabilities in the unaudited condensed consolidated balance sheets, were as follows: Three Months Ended March 28, 2021 March 29, 2020 (In thousands) Balance at the beginning of the period $ 2,451 $ 3,169 Provision (release) for warranty obligation made during the period ( 369 ) 207 Settlements made during the period ( 145 ) ( 188 ) Balance at the end of the period $ 1,937 $ 3,188 Litigation and Other Legal Matters Securities Class Action Lawsuits and Derivative Suit The Company is involved in disputes, litigation, and other legal actions, including, but not limited to, the matters described below. In all cases, at each reporting period, the Company evaluates whether or not a potential loss amount or a potential range of loss is probable and reasonably estimable under the provisions of the authoritative guidance that addresses accounting for contingencies. In such cases, the Company accrues for the amount, or if a range, the Company accrues the low end of the range, only if there is not a better estimate than any other amount within the range, as a component of legal expense within litigation reserves, net. The Company monitors developments in these legal matters that could affect the estimate the Company had previously accrued. In relation to such matters, the Company currently believes that there are no existing claims or proceedings that are likely to have a material adverse effect on its financial position within the next 12 months, or the outcome of these matters is currently not determinable. There are many uncertainties associated with any litigation, and these actions or other third-party claims against the Company may cause the Company to incur costly litigation and/or substantial settlement charges. In addition, the resolution of any intellectual property litigation may require the Company to make royalty payments, which could have an adverse effect in future periods. If any of those events were to occur, the Company's business, financial condition, results of operations, and cash flows could be adversely affected. The actual liability in any such matters may be materially different from the Company's estimates, which could result in the need to adjust the liability and record additional expenses. Beginning on December 11, 2018, purported stockholders of Arlo Technologies, Inc. filed six putative securities class action complaints in the Superior Court of California, County of Santa Clara, and one complaint in the U.S. District Court for the Northern District of California against the Company and certain of its executives and directors. Some of these actions also name as defendants the underwriters in the Company’s initial public offering ("IPO") and NETGEAR, Inc. ("NETGEAR"). The actions pending in state court are Aversa v. Arlo Technologies, Inc., et al. , No. 18CV339231, filed Dec. 11, 2018; Pham v. Arlo Technologies, Inc. et al. , No. 19CV340741, filed January 9, 2019; Patel v. Arlo Technologies, Inc. , No. 19CV340758, filed January 10, 2019; Perros v. NetGear, Inc. , No. 19CV342071, filed February 1, 2019; Vardanian v. Arlo Technologies, Inc. , No. 19CV342318, filed February 8, 2019; and Hill v. Arlo Technologies, Inc. et al. , No. 19CV343033, filed February 22, 2019. On April 26, 2019, the state court consolidated these actions as In re Arlo Technologies, Inc. Shareholder Litigation , No. 18CV339231 (the “State Action"). The action in federal court is Wong v. Arlo Technologies, Inc. et al. , No. 19-CV-00372 (the “Federal Action”). The plaintiffs in the State Action filed a consolidated complaint on May 1, 2019. The plaintiffs allege that the Company failed to adequately disclose quality control problems and adverse sales trends ahead of its IPO, violating the Securities Act of 1933, as amended (the "Securities Act"). The complaint seeks unspecified monetary damages and other relief on behalf of investors who purchased Company common stock issued pursuant and/or traceable to the IPO. 23 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) On June 21, 2019, the court stayed the State Action pending resolution of the Federal Action, given the substantial overlap between the claims. In the Federal Action, the court appointed a shareholder named Matis Nayman as lead plaintiff. On June 7, 2019, plaintiff filed an amended complaint. Lead Plaintiff alleges violations of the Securities Act of 1933, as amended, and the Securities Exchange Act of 1934, as amended, based on alleged materially false and misleading statements about the Company’s sales trends and products. In the amended complaint, lead plaintiff sought to represent a class of persons who purchased or otherwise acquired the Company’s common stock (i) during the period between August 3, 2018 through December 3, 2018 and/or (ii) pursuant to or traceable to the IPO. Lead plaintiff seeks class certification, an award of unspecified damages, an award of costs and expenses, including attorneys’ fees, and other further relief as the court may deem just and proper. On August 6, 2019, defendants filed a motion to dismiss. The court granted that motion, and lead plaintiff filed a second amended complaint. On June 12, 2020, lead plaintiff filed an unopposed motion for preliminary approval of a class action settlement for $ 1.25 million, which was also the amount that the Company had accrued for loss contingency. On September 24, 2020, the court entered an order preliminarily approving the settlement. On February 5, 2021, lead plaintiff filed a motion for final approval of the settlement. In advance of the final approval hearing, three of the named plaintiffs in the State Action requested exclusion from the settlement. The court held a final approval hearing on March 11, 2021, and, on March 25, 2021, entered an order and final judgment approving the settlement and, among other things, dismissing with prejudice all claims of lead plaintiff and the Settlement Class (as defined in the settlement agreement). On April 19, 2021, the Court issued an amended order and corrected judgment to include defendant NETGEAR, who had been inadvertently omitted from the prior order and final judgment. The Federal Action is now closed. In October 2020, the Company made a $ 1.25 million payment an escrow account administered by the court and plaintiff’s counsel (the “Settlement Fund”). The Settlement Fund shall be deemed to be in the custody of the court and shall remain subject to the jurisdiction of the court until such time as the Settlement Fund is distributed pursuant to the settlement agreement and/or further order of the court. Leonard R. Pinto v. Arlo Technologies, Inc., et al. In addition, to the State Action and the Federal Action, a purported stockholder named Leonard Pinto filed a tagalong derivative action on June 13, 2019 in the U.S. District Court for the Northern District of California, captioned Pinto v. Arlo Technologies, Inc. et al. , No. 19-CV-03354 (the “Derivative Action”). The Derivative Action is brought on behalf of the Company against the majority of the Company’s current directors. The complaint is based on the same alleged misconduct as the securities class actions but asserts claims for breach of fiduciary duty, waste of corporate assets, and violation of the Securities Exchange Act of 1934, as amended. On August 20, 2019, the court stayed the Derivative Action in deference to the Federal Action. On April 8, 2021, because it had granted final approval of the settlement in the Federal Action, the court lifted the stay in the Derivative Action and asked the parties to file a joint status report by April 22, 2021. David W. Foster v. Arlo Technologies, Inc. On April 15, 2020, a purported stockholder named David W. Foster filed a lawsuit under 8 Del. C. § 220 in the Delaware Court of Chancery. Plaintiff seeks inspection of corporate books and records to investigate the allegations underlying the State Actions and Federal Action. Plaintiff also seeks an order directing the Company to pay his costs and expenses. On June 30, 2020, the parties filed a stipulation to stay the case so that they could attempt to reach a negotiated resolution. On July 1, 2020, the court approved the stipulation. Thereafter, the parties reached an agreement to resolve the matter and, on March 12, 2021, plaintiff voluntarily dismissed the action. The impact on the Company's financial statements is expected to be immaterial. 24 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Skybell Technologies, Inc. v. Arlo Technologies, Inc. On December 18, 2020, Skybell Technologies, Inc., SB IP Holdings, LLC, and Eyetalk365, LLC (collectively, “Complainants” or “Skybell”) filed a Section 337 complaint against the Company, Vivint Smart Home, Inc. (“Vivint”), and SimpliSafe, Inc. (“SimpliSafe”) at the U.S. International Trade Commission (“ITC”). The action alleges that the Company’s cameras and video doorbell cameras infringe seven patents: 10,097,796 (“the ’796 patent”), 10,200,660 (“the ’660 patent”), 10,523,906 (“the ’906 patent”), 10,097,797 (“the ’797 patent”), 9,485,478 (“the ’478 patent”), 10,674,120 (“the ’120 patent”), and 9,432,638 (“the ’638 patent”) (collectively, “the Asserted Patents”). The Asserted Patents are all from the same family and generally directed to detecting a person at a camera and communicating video and audio from the camera to a cell phone along with various other features. The case was instituted on January 25, 2021 as Investigation No. 337-TA-1242. At March 28, 2021, it is too early to reasonably estimate any financial impact to the Company from this matter. Indemnification of Directors and Officers The Company, as permitted under Delaware law and in accordance with its bylaws, has agreed to indemnify its officers and directors for certain events or occurrences, subject to certain conditions, while the officer or director is or was serving at the Company’s request in such capacity. The term of the indemnification period is for the officer’s or director’s lifetime. The maximum amount of potential future indemnification is unlimited; however, the Company has a director and officer insurance policy that will enable it to recover a portion of any future amounts paid. As a result of its insurance policy coverage, the Company believes the fair value of each indemnification agreement will be minimal. The Company had no liabilities recorded for these agreements as of March 28, 2021 and December 31, 2020. Indemnifications Prior to the completion of the IPO, the Company historically participated in NETGEAR’s sales agreements. In its sales agreements, NETGEAR typically agrees to indemnify its direct customers, distributors and resellers (the “Indemnified Parties”) for any expenses or liability resulting from claimed infringements by NETGEAR’s products of patents, trademarks or copyrights of third parties that are asserted against the Indemnified Parties, subject to customary carve-outs. The terms of these indemnification agreements are generally perpetual after execution of the agreement. The maximum amount of potential future indemnification is generally unlimited. From time to time, the Company receives requests for indemnity and may choose to assume the defense of such litigation asserted against the Indemnified Parties. The Company had no liabilities recorded for these agreements as of March 28, 2021 and December 31, 2020. In connection with the separation of Arlo from NETGEAR (the "Separation"), and after July 1, 2018, certain sales agreements were transferred to the Company, and the Company has replaced certain shared contracts, which include similar indemnification terms. In addition, pursuant to the master separation agreement and certain other agreements entered into with NETGEAR in connection with the Separation and the IPO, NETGEAR has agreed to indemnify the Company for certain liabilities. The master separation agreement provides for cross-indemnities principally designed to place financial responsibility for the obligations and liabilities of its business with the Company and financial responsibility for the obligations and liabilities of NETGEAR’s business with NETGEAR. Under the intellectual property rights cross-license agreement entered into between the Company and NETGEAR, each party, in its capacity as a licensee, indemnifies the other party, in its capacity as a licensor, and its directors, officers, agents, successors and subsidiaries against any losses suffered by such indemnified party as a result of the indemnifying party’s practice of the intellectual property licensed to such indemnifying party under the intellectual property rights cross-license agreement. Also, under the tax matters agreement entered into between the Company and NETGEAR, each party is liable for, and indemnifies the other party and its subsidiaries from and against any liability for, taxes that are allocated to the indemnifying party under the tax matters agreement. In addition, the Company has agreed in the tax matters agreement that each party will generally be responsible for any taxes and related amounts imposed on it or NETGEAR as a result of the failure of the special stock 25 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) dividend (the “Distribution”) by NETGEAR to NETGEAR stockholders of the 62,500,000 shares of Arlo common stock owned by NETGEAR that was made on December 31, 2018, together with certain related transactions, to qualify as a transaction that is generally tax-free, for U.S. federal income tax purposes, under Sections 355 and 368(a)(1)(D) and certain other relevant provisions of the Code, to the extent that the failure to so qualify is attributable to actions, events or transactions relating to such party’s respective stock, assets or business, or a breach of the relevant representations or covenants made by that party in the tax matters agreement. The transition services agreement generally provides that the applicable service recipient indemnifies the applicable service provider for liabilities that such service provider incurs arising from the provision of services other than liabilities arising from such service provider’s gross negligence, bad faith or willful misconduct or material breach of the transition services agreement, and that the applicable service provider indemnifies the applicable service recipient for liabilities that such service recipient incurs arising from such service provider’s gross negligence, bad faith or willful misconduct or material breach of the transition services agreement. Pursuant to the registration rights agreement, the Company has agreed to indemnify NETGEAR and its subsidiaries that hold registrable securities (and their directors, officers, agents and, if applicable, each other person who controls such holder under Section 15 of the Securities Act) registering shares pursuant to the registration rights agreement against certain losses, expenses and liabilities under the Securities Act, common law or otherwise. NETGEAR and its subsidiaries that hold registrable securities similarly indemnify the Company but such indemnification will be limited to an amount equal to the net proceeds received by such holder under the sale of registrable securities giving rise to the indemnification obligation. Change in Control and Severance Agreements The Company has entered into change in control and severance agreements with certain of its executive officers (the “Severance Agreements”). Pursuant to the Severance Agreements, upon a termination without cause or resignation with good reason, the individual would be entitled to (1) cash severance equal to (a) the individual’s annual base salary and an additional amount equal to his or her target annual bonus (for the Chief Executive Officer) or (b) the individual’s annual base salary (for other executive officers), (2) 12 months of health benefits continuation, and (3) accelerated vesting of any unvested time-based equity awards that would have vested during the 12 months following the termination date. Upon a termination without cause or resignation with good reason that occurs during the one month prior to or 12 months following a change in control, the individual would be entitled to (1) (a) cash severance equal to a multiple ( 2 times for the Chief Executive Officer and 1 times for other executive officers) of the sum of the individual’s annual base salary and target annual bonus, (2) a number of months of health benefits continuation ( 24 months for the Chief Executive Officer and 12 months for other executive officers) and (3) vesting of all outstanding, unvested equity awards (for the Chief Executive Officer) and the vesting of all outstanding, unvested time-based equity awards (for other executive officers). Severance will be conditioned upon the execution and non-revocation of a release of claims. The Company had no liabilities recorded for these agreements as of March 28, 2021. Environmental Regulation The Company is required to comply and is currently in compliance with the European Union (“EU”) and other Directives on the Restrictions of the use of Certain Hazardous Substances in Electrical and Electronic Equipment (“RoHS”), Waste Electrical and Electronic Equipment (“WEEE”) requirements, Energy Using Product (“EuP”) requirements, the REACH Regulation, Packaging Directive and the Battery Directive. The Company is subject to various federal, state, local, and foreign environmental laws and regulations, including those governing the use, discharge, and disposal of hazardous substances in the ordinary course of its manufacturing process. The Company believes that its current manufacturing and other operations comply in all material respects with applicable environmental laws and regulations; however, it is possible that future environmental legislation may be enacted or current environmental legislation may be interpreted to create an environmental liability with respect to its facilities, operations, or products. 26 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Note 10. Employee Benefit Plans The Company grants options and restricted stock units ("RSUs") under the 2018 Equity Incentive Plan (the “2018 Plan”), under which awards may be granted to all employees. Award vesting periods for this plan are generally three to four years . Options may be granted for periods of up to 10 years or such shorter term as may be provided in the applicable option agreement and at prices no less than 100 % of the fair market value of the Company’s common stock on the date of grant. Options granted under the 2018 Plan generally vest over four years , the first tranche at the end of 12 months and the remaining shares underlying the option vesting monthly over the remaining three years . The following table sets forth the available shares for grant under the 2018 Plan as of March 28, 2021 and December 31, 2020: Number of Shares (In thousands) Shares available for grant as of December 31, 2020 3,113 Additional authorized shares 3,173 Granted (1) ( 4,060 ) Forfeited / cancelled 172 Shares traded for taxes 572 Shares available for grant as of March 28, 2021 2,970 _________________________ (1) Includes 0.8 million shares consisting of time-based RSUs ( 50 % of the grant), performance RSUs ("PSUs") ( 25 % of the grant) and market-based performance RSUs ("MPSUs") ( 25 % of the grant) granted to the Company's named executive officers ("NEOs") during the three months ended March 28, 2021. Additionally, the Company sponsors an Employee Stock Purchase Plan (“ESPP”), pursuant to which eligible employees may contribute up to 15 % of compensation, subject to certain income limits, to purchase shares of the Company’s common stock. The terms of the plan include a look-back feature that enables employees to purchase stock semi-annually at a price equal to 85 % of the lesser of the fair market value at the beginning of the offering period or the purchase date. The duration of each offering period is generally six months . As of March 28, 2021, 1,564,425 shares were available for issuance under the ESPP. On March 3, 2021, the Company registered an aggregate of up to 3,966,472 shares of the Company’s common stock on Registration Statement on Form S-8, including 3,173,178 shares issuable pursuant to the Company's 2018 Plan that were automatically added to the shares authorized for issuance under the 2018 Plan on January 1, 2021 pursuant to an “evergreen” provision contained in the 2018 Plan and 793,294 shares issuable pursuant to the ESPP that were automatically added to the shares authorized for issuance under the ESPP on January 1, 2021 pursuant to an “evergreen” provision contained in the ESPP. 27 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Option Activity Arlo’s stock option activity during the three months ended March 28, 2021 was as follows: Number of shares Weighted Average Exercise Price Per Share (In thousands) (In dollars) Outstanding as of December 31, 2020 3,434 $ 9.72 Granted — $ — Exercised ( 655 ) $ 6.77 Forfeited / cancelled — $ — Outstanding as of March 28, 2021 2,779 $ 10.42 Vested and expected to vest as of March 28, 2021 2,779 $ 10.42 Exercisable Options as of March 28, 2021 2,441 $ 9.88 NETGEAR’s stock option activity for Arlo employees during the three months ended March 28, 2021 was as follows: Number of shares Weighted Average Exercise Price Per Share (In thousands) (In dollars) Outstanding as of December 31, 2020 16 $ 22.49 Exercised ( 2 ) $ 25.42 Forfeited / cancelled — $ — Expired — $ — Outstanding as of March 28, 2021 14 $ 22.03 Vested and expected to vest as of March 28, 2021 14 $ 22.03 Exercisable Options as of March 28, 2021 11 $ 20.11 RSU Activity Arlo’s RSU activity during the three months ended March 28, 2021 was as follows: Number of shares Weighted Average Grant Date Fair Value Per Share (In thousands) (In dollars) Outstanding as of December 31, 2020 10,563 $ 4.33 Granted (1) 4,060 $ 8.18 Vested ( 1,477 ) $ 8.16 Forfeited ( 172 ) $ 4.28 Outstanding as of March 28, 2021 12,974 $ 5.10 28 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (1) Includes 0.8 million shares consisting of RSUs ( 50 % of the grant), PSUs ( 25 % of the grant) and MPSUs ( 25 % of the grant) granted to the NEOs during the three months ended March 28, 2021. The RSUs will vest in four equal annual installments during the period that begins on the RSU grant date. The PSUs will vest in four equal annual installments during the period that begins on the PSU grant date based on the extent to which a cash balance milestone as of December 31, 2021 is achieved. The maximum number of shares that NEOs can earn is 120 % of the target number of the PSUs. The minimum number of shares that NEOs can earn is 75 % of the target number of the PSUs. As of March 28, 2021, 100 % of the outstanding PSUs are expected to vest. The MPSUs will vest at the end of the four-year period that begins on the MPSU grant date based on performance of the Company's common stock relative to the Benchmark during the three-year period from the grant date. A positive 3.3 x or negative 2.5 x multiplier will be applied to the total shareholder returns (“TSR”), such that the number of shares vested will increase by 3.3 % or decrease by 2.5 % of the target numbers, for each 1 % of positive or negative TSR relative to the Benchmark. In the event the Company's common stock performance is below negative 30 % relative to the Benchmark, no shares will be vested. In no event will the number of shares vested exceed 200 % of the target for that tranche. As of March 28, 2021, 62.72 % of the outstanding MPSUs are expected to vest. Also includes 0.7 million immediately vested shares granted to non-executive employees for semi-annual bonus and executives for annual bonus in RSU form. NETGEAR’s RSU activity for Arlo employees during the three months ended March 28, 2021 was as follows: Number of shares Weighted Average Grant Date Fair Value Per Share (In thousands) (In dollars) Outstanding as of December 31, 2020 127 $ 37.81 Vested ( 31 ) $ 40.55 Forfeited ( 1 ) $ 36.09 Outstanding as of March 28, 2021 95 $ 36.93 The Company determined the fair value of the shares offered under the ESPP using the Black-Scholes option pricing model as of the grant date. The following table sets forth the weighted average assumptions used to estimate the fair value of purchase rights granted under Arlo’s ESPP for the three months ended March 28, 2021 and March 29, 2020. Three Months Ended ESPP March 28, 2021 March 29, 2020 Expected life (in years) 0.5 0.5 Risk-free interest rate 0.06 % 1.55 % Expected volatility 87.0 % 73.0 % Dividend yield — — The Company determined the fair value of the RSUs and PSUs using the closing price of the Company's common stock as of the grant date. For PSUs, stock-based compensation expense of performance milestone is recognized over the expected performance achievement period when the achievement becomes probable. 29 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) The Company utilized a Monte Carlo pricing model customized to the specific provisions of the 2018 Plan to value the MPSUs awards on the grant date. The fair value of the MPSUs granted in the three months ended March 28, 2021 was $ 11.77 per share. The assumptions used in this model to estimate fair value at the grant date are as follows: Three Months Ended March 28, 2021 Expected life 4.0 Risk-free interest rate 0.33 % Expected volatility 69.9 % Dividend yield — Stock Beta 0.45 Stock-Based Compensation Expense The Company's employees have historically participated in NETGEAR's various stock-based plans, which are described below and represent the portion of NETGEAR's stock-based plans in which Company employees participated. The Company's unaudited condensed consolidated statements of operations reflect compensation expense for these stock-based plans associated with the portion of NETGEAR's plans in which Company employees participated. The stock-based compensation expense for Company employees consist of Company RSUs, PSUs, MPSUs and stock options and NETGEAR RSUs and stock options granted to Company employees, employees' annual bonus in RSU form and the purchase rights under Company ESPP. The following table sets forth the stock-based compensation expense included in the Company’s unaudited condensed consolidated statements of operations during the periods indicated: Three Months Ended March 28, 2021 March 29, 2020 (In thousands) Cost of revenue $ 874 $ 503 Research and development 2,556 1,660 Sales and marketing 1,190 751 General and administrative 3,720 9,859 Total stock-based compensation $ 8,340 $ 12,773 The Company recognizes these compensation expense generally on a straight-line basis over the requisite service period of the award. As of March 28, 2021, $ 1.6 million of unrecognized compensation cost related to Arlo’s stock options was expected to be recognized over a weighted-average period of 1.0 year. $ 52.9 million of unrecognized compensation cost related to unvested Arlo’s RSUs, PSUs and MPSUs was expected to be recognized over a weighted-average period of 2.6 years. As of March 28, 2021, $ 21 thousand of unrecognized compensation cost related to NETGEAR’s stock options for Arlo employees was expected to be recognized over a weighted-average period of 0.5 year. $ 2.1 million of unrecognized compensation cost related to unvested NETGEAR’s RSUs for Arlo employees was expected to be recognized over a weighted-average period of 0.8 year. 30 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Note 11. Income Taxes The provision for income taxes for the three months ended March 28, 2021 and March 29, 2020, was $ 0.2 million, or an effective tax rate of ( 1.7 )%, and $ 0.1 million, or an effective tax rate of ( 0.4 )%, respectively. During the three months ended March 28, 2021, the Company sustained lower book losses than the same periods in the prior year. Consistent with the prior year, the Company has a full valuation allowance on its U.S. federal and state deferred tax assets and did not record a tax benefit on these deferred tax assets since we do not anticipate to realize the benefits of deferred tax assets. The Company's provision for income taxes was primarily attributable to income taxes on foreign earnings. 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. Note 12. Net Income (Loss) Per Share Basic net income (loss) per share is computed by dividing the net income (loss) for the period by the weighted average number of common shares outstanding during the period. Potentially dilutive common shares, such as common shares issuable upon exercise of stock options and vesting of restricted stock awards are typically reflected in the computation of diluted net income (loss) per share by application of the treasury stock method. For certain periods presented, due to the net losses reported, these potentially dilutive securities were excluded from the computation of diluted net loss per share, since their effect would be anti-dilutive. Net loss per share for the three months ended March 28, 2021 and March 29, 2020 was as follows: Three Months Ended March 28, 2021 March 29, 2020 (In thousands, except per share data) Numerator: Net loss $ ( 10,719 ) $ ( 39,326 ) Denominator: Weighted average common shares - basic 80,370 76,560 Potentially dilutive common share equivalent — — Weighted average common shares - dilutive 80,370 76,560 Basic net loss per share $ ( 0.13 ) $ ( 0.51 ) Diluted net loss per share $ ( 0.13 ) $ ( 0.51 ) Anti-dilutive employee stock-based awards, excluded 3,974 8,003 Note 13. Segment and Geographic Information Segment Information The Company operates as one operating and reportable segment. The Company has identified its Chief Executive Officer ("CEO") as the Chief Operating Decision Maker (“CODM”). The CODM reviews financial information presented on a combined basis for purposes of allocating resources and evaluating financial performance. Geographic Information 31 Table of Contents ARLO TECHNOLOGIES, INC. NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) The Company conducts business across three geographic regions: Americas, EMEA and APAC. Revenue consists of gross product shipments and service revenue, less allowances for estimated sales returns, price protection, end-user customer rebates and other channel sales incentives deemed to be a reduction of revenue per the authoritative guidance for revenue recognition, net changes in deferred revenue, and gains or losses from hedging. For reporting purposes, revenue by geography is generally based upon the ship-to location of the customer for device sales and device location for service sales. The following table shows revenue by geography for the periods indicated: Three Months Ended March 28, 2021 March 29, 2020 (In thousands) United States (“U.S.”) $ 49,541 $ 48,292 Americas (excluding U.S.) 95 1,878 EMEA 24,591 7,258 APAC 8,329 8,022 Total revenue $ 82,556 $ 65,450 The Company’s Property and equipment, net are located in the following geographic locations: As of March 28, 2021 December 31, 2020 (In thousands) United States (“U.S.”) $ 11,711 $ 12,644 Americas (excluding U.S.) 572 629 EMEA 218 234 China 1,717 1,821 APAC (excluding China) 378 493 Total property and equipment, net $ 14,596 $ 15,821 32 Table of Contents