Arlo Technologies , Inc. (NYSE: NYSE:ARLO) has reported its first-quarter financial results for 2024, showing significant progress toward the company's long-range plan and strategic growth initiatives. CEO Matthew McRae and CFO Kurt Binder provided a comprehensive update on the company's performance, including a 58% year-over-year increase in paid accounts and a 24% increase in annual recurring revenue. The company's focus on its retail and direct business, strategic accounts, and capital allocation has contributed to its positive trajectory, despite a muted macroeconomic environment expected for 2024.
Key Takeaways
- Arlo achieved 3.2 million paid accounts, a 58% increase from the previous year.
- Annual recurring revenue reached $227 million, marking a 24% year-over-year growth.
- Service revenue accounted for 46% of total revenue, driven by pricing increases and growth in paid accounts.
- Non-GAAP EPS stood at $0.09, with total revenue up by 12% year-over-year to $124.2 million.
- The company renewed its strategic partnership with Verisure for another five years.
- Arlo anticipates second-quarter revenue to be between $120 million and $130 million, with non-GAAP net income per diluted share ranging from $0.06 to $0.12.
Company Outlook
- Arlo's long-range plan targets 10 million paid accounts, $700 million in annual recurring revenue, and over 25% non-GAAP operating margin by 2030.
- The company aims to leverage its pricing strategy to drive growth in households and service revenue.
- A non-GAAP service gross margin of around 75% is expected to be maintained for the year.
- Arlo is well-positioned in the consumer market with its low-cost Essential 2 camera portfolio.
Bearish Highlights
- The macroeconomic environment is projected to remain muted in 2024.
Bullish Highlights
- The company reported an increase in non-GAAP service gross margin due to growth in paid subscriptions and a pricing increase.
- Arlo generated a record $19.5 million in free cash flow and ended the quarter with $142.9 million in available cash.
- Strong ordering from strategic partner Verisure is expected to continue, extending into the Latin American market.
Misses
- The article does not mention any specific misses from the earnings call.
Q&A Highlights
- There were no further questions at the conclusion of the conference call.
Arlo Technologies continues to build upon its success with a clear focus on expanding its user base and enhancing service offerings. The company's strategic direction and financial health indicate a steadfast pursuit of its long-term goals, despite the anticipated challenges in the macroeconomic climate.
InvestingPro Insights
Arlo Technologies, Inc. (NYSE: ARLO) has demonstrated a robust financial performance in its latest earnings report. To further assess the company's investment potential, let's consider some key metrics and insights from InvestingPro.
InvestingPro Data:
- Market Capitalization (Adjusted): $1.36 billion USD, showcasing the company's substantial market presence.
- Revenue Growth (Quarterly) for Q4 2023: 13.98%, indicating a significant uptick in sales, aligning with the reported increase in paid accounts and service revenue.
- Year-to-Date Price Total Return: 46.32%, reflecting strong market confidence and investor returns so far this year.
InvestingPro Tips:
1. Arlo holds more cash than debt on its balance sheet, which is a positive sign for financial stability and operational flexibility.
2. Analysts predict the company will be profitable this year, suggesting a potential turnaround from the negative P/E ratios reported in the last twelve months as of Q4 2023.
Arlo's financial health is further evidenced by its strategic growth initiatives and its commitment to expanding its user base. With a strong return over the last year and a focus on increasing service revenue, the company's stock is trading near its 52-week high. For investors interested in a deeper dive, there are 13 additional InvestingPro Tips available for Arlo Technologies, which can be accessed at https://www.investing.com/pro/ARLO. To enhance your investing strategy, use the coupon code PRONEWS24 to get an additional 10% off a yearly or biyearly Pro and Pro+ subscription.
Full transcript - Arlo Technologies (ARLO) Q1 2024:
Operator: Ladies and gentlemen, thank you for standing by. At this time, all participants are on a listen only mode. Later we will conduct a question-and-answer session. [Operator Instructions]. I would now like to turn the conference over to Tahmin Clarke. Please go ahead, sir.
Tahmin Clarke: Thank you, operator. Good afternoon, and welcome to Arlo Technologies' First Quarter 2024 Financial Results Conference Call. Joining us from the company are Mr. Matthew McRae, CEO and Mr. Kurt Binder, CFO. The format of the call will start with an introduction and commentary on the business provided by Matt, followed by a review of the financials for the first quarter along with guidance for the second quarter, provided by Kurt. We will then take questions. If you have not received a copy of today's release, please visit Arlo's Investor Relations website at investor.arlo.com. Before we begin the formal remarks, we advise you that today's conference call contains forward-looking statements. Forward-looking statements include statements regarding our potential future business, operating results and financial condition, including descriptions of our revenue, gross margin, operating margins, earnings per share, expenses, cash outlook, free cash flow and free cash flow margin, guidance for the second quarter of 2024, the long-range plan targets, the rate and timing of paid subscriber growth, the transition to our services-first business model, the commercial launch and momentum of new products and services strategic objectives and initiatives, market expansion and future growth partnerships with various market leaders and strategic collaborators, continued new product and service differentiation and the impact of general macroeconomic conditions on our business, operating results and financial condition. Actual results or trends could differ materially from those contemplated by these forward-looking statements. For more information, please refer to the risk factors discussed in Arlo's periodic filings with the SEC, including the most recent annual report on Form 10-K and quarterly report on Form 10-Q. Any forward-looking statements that we make on this call are based on assumptions as of today, and Arlo undertakes no obligation to update these statements as a result of new information or future events. In addition, several non-GAAP financial measures will be discussed on this call. A reconciliation of the GAAP to non-GAAP measures can be found in today's press release on our Investor Relations website. At this time, I would now like to turn the call over to Matt.
Matthew McRae: Thank you, Tahmin, and thank you everyone for joining us today on Arlo's first quarter 2024 earnings call. Before we jump into the details of our Q1 results, I would like to take a moment to review our long-range plan and strategy. You will recall from our last earnings report, Arlo set forth new and more ambitious long-range targets based on the stellar execution by the team across the business. At or before 2030, our goal is to achieve 10 million paid accounts, $700 million in annual recurring revenue and over 25% non-GAAP operating margin. Our strategy to accomplish these goals focuses on several areas. First is our retail and direct business, where we sell devices and service subscriptions to consumers. Last year, we rebalanced our pricing strategy by reducing hardware margins and increasing our service fees, which lowered the barrier of entry in a slower consumer market, driving share gains and faster household formation for Arlo. In the 2023 holiday period, our essential two product line performed well, especially at big box retailers, providing a clear indication that the DIY home security segment is entering the mass market. Along with helping us navigate a slower consumer climate in the near-term, this shift in pricing opened a broader addressable market for Arlo and is a key dimension in our plans to continue our strong paid subscription growth leading to expansion of both our service revenue and profitability. Looking ahead, we believe the macroeconomic environment will remain muted in 2024. Thus, we plan to leverage the same strategy we executed last year, as we planned for the important back half of the year. While lower ASPs may bring down hardware revenue, we expect to benefit again from incremental growth in households and service revenue going into 2025. I'm excited to report that the strategy has already begun to bear fruit, as we have similar to last year a confirmed robust promotional calendar with some of the largest retailers in the world for this coming holiday season. Second is strategic accounts or our B2B relationships. Kurt and I mentioned on our previous call that we believe more than half of the growth in our long-range targets could come from our partnerships. Arlo is experiencing a resurgence in interest and engagement across several verticals and we are more confident than ever that these strategic accounts will play an important role in our future success. Reinforcing that notion, today, we announced the renewal of our agreement with Verisure, one of our oldest and most important strategic partners. Arlo will continue to provide devices, custom development, AI-powered services and our cloud platform technologies to Verisure for another five years, as they continue to grow their business across Europe and Latin America. I want to congratulate Verisure on their success and we look forward to working together as we support their next wave of growth. The last area of focus is our capital allocation plan, which is being built to maximize shareholder value through careful and disciplined deployment of our resources. Our internal investment in Arlo's innovation pipeline continues to enhance our market position from the successful Essential 2 portfolio rollout to the anticipated launch of our Arlo Secure platform later this year with its groundbreaking AI-powered capabilities. While the smart security category is maturing, I see a new wave of innovation over the next 24 months to 36 months, and Arlo could not be better positioned to strengthen our leadership in the space. As evidence of our current leadership position, this quarter Arlo won an American Business Award for Innovation of the Year. Adding to our previous accolades including the Smart Security Camera Company of the Year award from IoT Breakthroughs and our recognition for innovation and excellence from Newsweek. Other aspects of our capital allocation plan are underdeveloped and we plan on providing additional insight and detail over the coming months. With that overview as context, you can see why we are so pleased with our operating results in the first quarter. Arlo ended with 3.2 million paid accounts in Q1, growing our base by 58% year-over-year. Our annual recurring revenue grew over 24% year-over-year to reach $227 million, driven by retail and direct subscriptions from our successful holiday sales, and total revenue was $124 million up 12% year-over-year and driven by the anticipated recovery of Verisure orders after their destocking event at the end of 2023. This outstanding performance resulted in a non-GAAP earnings per share of $0.09 and the business generated an incredible $19.5 million of free cash flow at a free cash flow margin of 15.7%, a record for the company and a result that truly demonstrates the success of our Services First business model. I would like to give my congratulations and extend my appreciation to the entire Arlo team. Our Q1 results represent a great first step towards successfully achieving our new long-range targets. And now, I'll turn it over to Kurt for a more in-depth review of these Q1 results.
Kurt Binder: Thank you, Matt, and thank you, everyone, for joining us today. I will start by sharing some financial details and an overview of the business for Q1 of 2024. Total revenue for the first quarter of 2024 came in at $124.2 million, up 12% over the prior year period. In the quarter, service revenue represented about 46% of total revenue, up from 40% in the same period last year. This shift in revenue composition reflects the continued momentum that we have gained in our transformation to a services first business. Our installed base of subscribers continued its strong growth trajectory, as we reached over 3.2 million paid accounts by the end of Q1, an increase of approximately 422,000 paid accounts in the quarter. This number does include a significant catch up of Verisure accounts that we have discussed on previous calls. We expect the catch up to continue for one or two more quarters. Service revenue for Q1 was another record at $56.7 million or a 29% increase over last year. The strong service revenue performance was driven by our increase in pricing across our paid accounts last year as well as the growth in our overall paid account base. Our annual recurring revenue at March 31st was $227 million up 24% over the same period last year. I want to highlight the strength of our services revenue and ARR, which helped to deliver solid revenue performance and contributed to Arlo generating non-GAAP operating profit of $8.6 million in the quarter. This represents 6 times increase in operating profit over the same period last year. Product revenue for Q1 was $67 million, which was down sequentially from our seasonally strong holiday quarter, but inline with the revenue generated in the same period last year. During the quarter, we shipped a total of 1.1 million devices worldwide compared to 960,000 in the prior year period. Product revenue at these levels was driven by the higher unit volume offset by the continuing decline in ASPs in most product categories. Our lower cost Essential 2 camera lineup has positioned us to gain a greater share of households as we enter into the mass market phase of home security. We believe that customers of these products that come to Arlo through channels like Walmart (NYSE:WMT) represent an incremental subscriber opportunity for our services business. And given the strong commitment to the smart securities segment by some of our largest retail partners, we will use product pricing as a lever to go after additional market share even if it results in product gross margins being below the mid-single-digit range to drive additional service revenue growth in 2025. In the quarter, approximately $70 million or 56% of our total revenue was generated from our international customers. Specifically, our sequential results for the EMEA region improved significantly as we experienced a material uptick in orders from our largest partner, which resulted in them surpassing the $500 million minimum purchase commitment threshold on our contract during the period. As Matt mentioned, we remain extremely pleased with our Verisure relationship, and we are excited to share the recent news that the existing contract was renewed through 2029. From this point on, my discussion will focus on non-GAAP numbers. The reconciliation from GAAP to non-GAAP figures is detailed in our earnings release distributed earlier today. Our non-GAAP gross profit for the first quarter was $49 million up 35% year-over-year. This resulted in a non-GAAP gross margin of 39%, up over 600 basis points from 33% in Q1 of 2023. The year-over-year increase in non-GAAP gross profit was primarily attributable to the continued expansion of our services business and associated gross margin. Non-GAAP service gross margin for the quarter was 76.7%, up from approximately 73.5% in the same period last year. The improvement in non-GAAP service gross profit was driven by growth in our total paid subscriptions and the pricing increase implemented in February of last year. Non-GAAP product gross margin for the quarter was 8% consistent with the previous quarter, but up 200 basis points from the same period last year. Product margin of 8% is slightly high, but still in line with the mid-single digit guidance that we provided when we gave our full year 2024 outlook. Total non-GAAP operating expenses for the first quarter were $40 million, up both on a sequential and year-over-year basis and inline with the expectations we shared last quarter. The year-over-year increase is partially attributable to the increase in R&D expenses as we are investing in the development of Arlo Secure 5.0. We are keeping our operating expenses in check while delivering higher levels of service revenue as a percentage of total revenue. We will continue to exercise a disciplined approach to our cost structure, as we scale the services business. In Q1, we posted non-GAAP net income of $9.5 million. Our non-GAAP net income translates into income per diluted share of $0.09. Regarding our balance sheet and liquidity position, we ended the quarter with $142.9 million in available cash, cash equivalents and short-term investments. This balance was up more than $24 million year-over-year and underscores the strength of Arlo's capital position right now. We generated a record $19.5 million in free cash flow in Q1, which represents free cash flow margin of 16%, an improvement driven by both our increased profitability and solid working capital management. For instance, our Q1 accounts receivable balance was $56.5 million at quarter end with Q1 DSOs at 41 days, down from 44 days in the same period last year. Our continuing improvement in DSOs reflects our focus on improving our working capital position. We are pleased with our strong liquidity position, which provides us with options to leverage our cash for strategic initiatives to help accelerate our growth in the smart security market. Finally, our Q1 inventory balance ended at $44.7 million, up $6.3 million from Q4 2023 levels. Inventory turns were 5.7 times down from 7.6 times in Q4, but inline with our expectations as we look to optimize our inventory levels in an effort to reduce spend on inbound freight, especially airfreight. Now turning to our outlook. We expect the second quarter revenue for 2024 to be in the range of $120 million to $130 million and our non-GAAP net income per diluted share to be between $0.06 and $0.12 per share. We are positioned well with the new low cost Essential 2 camera portfolio in this more cautious consumer market. Consumers are continuing to make purchase decisions based on promotional activity and our ability to deliver a great product in an entry-level price point allows us to expand our strong market position as the Security segment enters the mass market phase of adoption. Service revenue is still forecasted to grow at approximately 20% over last year, thereby becoming a much larger portion of our overall revenue and profitability mix. We continue to expect non-GAAP service gross margin to be in the 75% range for 2024. Now, I'll open it up for questions.
Operator: [Operator Instructions]. Our first question comes from the line of Mark Kash [ph] with Raymond James. Your line is now open.
Unidentified Analyst: Thanks. This is Mark on for Adam. If I could start with you, first time with EMEA being the largest portion of the business, and I appreciate your prepared remarks talking about material uptick coming from Verisure. But I just wanted to ask, would any of this be one-time in nature due to new five-year extension? And then maybe alongside that, reading in the Q, the new agreement extension does not contain any minimum purchase obligation. Can you just talk about what you're expecting and if there's any risk with that?
Matthew McRae: Thank you for the question. We are really happy that we renewed with Verisure. It puts just a great solid foundation on the strategic account portion of our business. We're really excited to continue that relationship with Verisure. It extended another five years and you're right, the minimum guarantee that we have put in the original agreement was really for the initial ramp term. Now that we're just extending the existing contract another five years, there's no incremental or additional minimum guarantee there. What you see from Verisure is very strong ordering. Kurt mentioned in his part of the script that, they have already met in the quarter their 500-minimum guarantee, the 500 million hardware purchase guarantee. We see through forecasting that that's going to continue over time. Now when you look at Q1 being strong, like we mentioned a little bit of that is seasonality and normal seasonality between Q4 and Q1, but it's accentuated by Verisure's destocking over the back half of last year. I think running a little bit dry on inventory and then doing a bit of catch-up in Q1. We might see a little bit of that in Q2 as well from a hardware purchase perspective. Some of that is normal seasonality, some of that is because of the destocking in Q4 and then Verisure doing some strong buying in Q1 to bring their inventory back to an operational level.
Unidentified Analyst: Okay, great. And just, if I could follow-up on that, just what kind of geography mix are you expecting? Is this atypical just because of what you're just talking about with the Verisure kind of catching up there?
Matthew McRae: Yes. I think it's definitely atypical or at least the mix is stronger to the European side, because of that catch-up and ordering after their destocking. I think, we're placing orders in Q1 that was stronger than a normal Q1, might happen a little bit in Q2 and then it may start to normalize as their inventory position is more normalized with our operations and some of the new paid accounts that they're signing up across Europe.
Unidentified Analyst: Okay. If I just ask one to Kurt, maybe kind of bigger picture. I guess, what are you seeing now in terms of the consumer behavior today versus three or six months ago? How do you tie that into you’re the planned promotional activity that was discussed?
Kurt Binder: Thanks, Mark. The consumer environment is inline with what we were expecting. If you recall over the last couple of quarters, we've indicated that, we anticipated 2024 from the standpoint of consumer sentiment in the overall environment to be quite similar to 2023. That's exactly what we're seeing here for Q1. The great thing is, and as we've communicated in the past, we anticipated that and that was really the basis for us moving aggressively to the Essential two platform that, we rolled out in October and November of this past year. That platform does allow us because of the cost downs that we included within that BOM, the ability to be very promotional. You'll see in Q1, we did on a product gross margin standpoint come in at about 8%. We have flexibility because that BOM cost as well as what we're doing around airfreight and some of the other supply chain costs to be a lot more aggressive. I would say to you, you could expect us to do that throughout the year in the event that the consumer market remains relatively soft as it is right now.
Operator: Our next question comes from the line of Hamed Khorsand with BWS Financial. Your line is now open.
Hamed Khorsand: Hi. The first question I want to ask was, in your comments you said about Verisure expanding in Latin America. Does that cover Arlo's agreement with Verisure at all with this extension?
Matthew McRae: Yes, it does. In our relationship with Verisure, and this is true of the first term and continue to be true on the renewal, is that, we have an ability to partner with them on a global basis. A lot of the initial term obviously was focused on the European footprint bringing that up across channels. But as Verisure expands into new regions over time and one of the ones that they've actually talked about publicly and is starting to ramp a bit is Latin America or South America. We will be one of their key partners obviously from a supply chain perspective in both devices and the cloud technologies and AI technologies. We do see them starting to move beyond Europe from a footprint perspective and looking forward to actually helping them do that.
Hamed Khorsand: Why has this new subscriber adds number has continued to just climb and you can't provide what is actually Arlo's, incremental gain for the quarter?
Matthew McRae: I know it's still a little bit murky because of the catch-up in the Verisure South numbers. As you know, we've been trying to get that cleaned up as quick as possible. I think, Kurt mentioned, we may probably have another quarter or so, maybe a little bit longer of that. That's very sure rolling out new firmware and bringing on devices from a pay to service account perspective, accurately reporting those into the back end. Every quarter, like we usually do, we kind of tell you that, there's a catch-up and that the normal run rate for Arlo minus that catch-up is somewhere between 170,000 to 190,000 net paid accounts. And then what you're seeing on top of that is the catch-up rollout that Verisure is doing, so that the cameras that are actually deployed are being counted correctly. Again, I think we'll see probably a quarter of that at least. We're seeing some catch-up now in the quarter that we're currently in. And it may spill a little bit into Q3, but we're hoping to have it mostly finished by the end of summer.
Hamed Khorsand: My last question was, do you have any data that you could share as far as, if there's a change in the attach rate with the Essentials 2 introduction versus the rest of your Arlo product line?
Matthew McRae: Yes. We have some preliminary data. It's a great question and it's something we're watching very carefully. As you know, we have conversion rates and then attach rates. Conversion rates are the metric of service being acquired by a customer within 30 days of a free trial ending. And then attach rates is we look at that cohort six months out. We're not really at a point six months out where we can really see what the long-term attach rates are. But what I can tell you is, both the general mix of our platform is still within that 60% attach rate plus or minus, even though we haven't had all the Essential 2 live on for six months or more in the current installed base. The initial conversion rates that we're seeing actually across the board looks slightly better than the original Essential 1. We think we're in a similar position as where we would have been prior to the Essential 2 launch potentially for a little bit of upside as we get through the full life of the Essential 2 customer and we to judge their attach rates in the next, call it, three to four months.
Operator: Our next question comes from the line of Scott Searle with Roth MKM. Your line is now open.
Scott Searle: Good afternoon. Thanks for taking my questions. Matt, maybe to start, could you give us an update in terms of what you're seeing with the customer channel right now in terms of responsiveness to driving further penetration of you versus other, I'll call them Amazon (NASDAQ:AMZN) linked devices and couple that then with the product gross margin expectations? As we're looking out over the course of 2024. I know 8% is at the higher end of the range, but how are you thinking about that over the next couple of quarters? How aggressive do you plan to be?
Matthew McRae: Yes, great question. A couple of the channel dynamics that we're seeing to provide a little bit of color. Towards the end of last year, obviously, we had a very successful Q4 and engagement across several retailers, including some of the biggest big box retailers. I think you'll see that continue, meaning, the investment that we've placed into that relationship is being reciprocated in an investment in Arlo, not only from a shelf perspective, but also from a promotional calendar perspective. That's exciting as we get into the second half and look at driving obviously future service revenue from device sales. I would say that, also from a color and competition perspective, we are seeing some consolidation in the space. I think that's a benefit for us. That's an opportunity for us to capture share as some of the smaller brands start to struggle, especially brands that do not have a healthy service component, so that they can dig a little deeper on hardware. And then to your point and I think you were hinting at this in the question a little bit. There are several retailers, one in particular and one that's in the middle of kind of strategizing their assortment, are weary about some of the larger competitors in the space and what they mean from a long-term perspective, but also from a customer ownership perspective. I think again that plays into our favor. I would say, Arlo, I think we're in a really strong position. We feel like the strategy that we played last year around the rebalancing of our pricing to lean in and lower the barrier of entry for our products really did pay dividends in the service business, our service gross margin and our overall profitability of the company. To the second part of your question, we're looking out now at a year that we believe and to Kurt's answer on a previous question, looks a lot like 2023. Maybe the holiday period gets a little bit deeper depending on what happens, maybe it's a little bit better. But on a whole, we're seeing this year start to play out very similar to last year. The good news is our strategy worked extraordinarily well last year. We're going to replicate it this year. You're right, our gross margin on hardware in Q1 was roughly 8%. It's a bit higher than the mid-single-digits that we had laid out. I would tell you, as we're looking for Q4 and given the benefit, the clear benefit and demonstrable benefit we already had last year in both service revenue and overall profitability of the company, when you look at how service revenue actually applies to our overall financials. I think you can see us potentially go lower, right? That's something we're kind of planning through and trying to talk about on the call is, maybe it's still mid-single-digits, maybe it's somewhere between zero and mid-single-digits. If we think it would generate substantially more household formation, which turns into service revenue, and then obviously turns into shareholder value creation. I'll give you hopefully some color. We're going through some of that stuff right now. But the promotional calendar we have for the holiday is very strong. If we think there's an opportunity to dig a little bit deeper and do the exact same trade, we did last year for similar results, it's something we would do again.
Scott Searle: Very helpful. Matt, if I could follow-up, Arlo Secure AI looking at those currently unpaid accounts getting close to $6 million. I wonder if you could update us on your thoughts in terms of monetization opportunities there into some of the adjacencies be it with SMB, InsurTech, telehealth and maybe as well how you're thinking about things from an inorganic perspective of the company now is starting to get into a regular position or generating positive free cash flow. Are your thoughts changing at all on that front? Thanks.
Matthew McRae: Great questions again. On the what we'll call active unsubscribed customer base, that continues to grow as well, which is great. Obviously, we look to them with promotional activity, sometimes that's maybe upgrading somebody's device, maybe that's promotion on service itself to being them into the space overtime and it is something we are constantly looking at. I would tell you some of the roadmap items, including several of the features that are in Arlo Secure 5 that will launch towards the end of this year, are specifically geared towards some of the features that users are asking for to become a paid subscriber. We gear our roadmap based on survey data and listening to what unsubscribed active customers are actually telling us. I would also tell you that, and we talked about this on the previous call, we're going to test in app advertising on the free tier as well. That may open up an additional monetization opportunity where an unsubscribed active customer could still generate service revenue for the company. That's something we're going to test as we get towards the end of this year and see how that applies to our 2025 strategy. I think both of those are areas that we're excited about, and you'll see more activity in the second half of this year. As we get into the capital allocation plan, which is the second question, you're right, obviously we're having some great success, we're throwing off some cash. I think the market consolidation also lends itself to us looking at things beyond just the organic investment we're doing from an R&D perspective. Now I would say, like I said on the call, the next 24 months to 36 months, even though the market segment is maturing, there are new technologies being brought to bear, some work we've been doing over the last year that I'm extraordinarily excited about, what that means just from an organic investment in new technologies that can expand our market. But again, put that aside and come back to your question, I don't think that's the only thing we'll be looking at. We are starting to look at some inorganic opportunities, maybe that's new technologies, maybe that's a consolidation play that leans into some of the natural market dynamics. We are exploring other things like buybacks and other things that might be inorganic and returns. These all may play a part in the capital allocation plan. It's under development. We're in active discussion with the Board. There's nothing I can communicate yet. But I think over the next several months, we are hoping to have a little bit more information that we can share with investors and start to lay out how the capital allocation plan will play a key role in getting us to our long-range targets. Those long-range targets are something that drive us every day inside this company. How do we get to 10 million paid accounts? How do we get to $700 million in ARR? And how do we drive profitability above 25% operating margin. That's something that we're all focused on, everybody in the company is focused on, and we're all targeting. The capital allocation plan may play a key role in that as we go forward. It's something we'll talk more about I think in the coming months or quarters.
Operator: Our next question comes from the line of Jacob Stephan with Lake Street Capital. Your line is now open.
Jacob Stephan: Appreciate you taking the questions. I've been hopping between calls. Sorry if this has already been asked, but just wanna follow-up on kind of the Arlo Secure 5 rollout and some of the monetization opportunities you talked about with your unpaid subscriber base. The ads kind of tier that you were had been previously talking about. Is that technology something that will be rolled out with Secure 5 or are you going to need to essentially acquire that or develop that further before rolling that out?
Matthew McRae: Good question. Arlo Secure 5 is a rollout that includes all the new AI features and some of the other functionality that we discussed on the prior call. It also includes, by the way, a lot of re-factoring, I would say simplification of both language and user experience, because we're starting to see ourselves move into the mass market, right? Some of the success you've seen at big box retailers means our general population of users is going to broaden. That's exciting, but it also means we need to take a fresh look at our user experience and make sure that support mechanisms are there, simple plain English descriptions of key features are there, the simplification and navigation is there. It's twofold, Arlo Secure 5. One is simplification and broadening the access to a wider population of users. It's adding a lot of new technologies, including some of to me, some of the most exciting AI features you'll see in the security space in a long time. That's Secure 5. Now in parallel to that, there's a couple of tests we're going to be doing towards the end of the year to inform what our strategy will be based on the resulting data for what we want to do in 2025 and be able to build that into our annual operating plan. One of those tests is advertising. It's related in that it will run on top of Arlo Secure 5, but it's not technically part of that launch and rollout. It's a parallel development that's focused on doing a test allowing us to capture data as we go into next year's planning cycle. To your question about development, a lot of that is being developed in-house. But obviously there are a lot of third-party relationships with technology partners and industry partners that bring a lot of that capability from the back end to bear into the Arlo user experience. This is an area that both Kurt and I and many of the executives here back at physio and other companies we've been at, have had a lot of experience figuring out how to monetize a user experience, even if it doesn't have a paid subscription attached to it.
Jacob Stephan: That's really helpful. And then, just, I guess, to follow-up on kind of that question, with the unpaid users. Maybe it would help. Could you quantify what the load on your cost of goods would be or what the load on running the back-end software for those unpaid users is?
Matthew McRae: We don't break it out, but I can tell you it's pretty low. Our unpaid users are broken really into two categories. What we used to call and we still call legacy users. Those are the users that were before we changed our business model to a much more subscription-oriented company, right? Now those users have some free storage and a couple of services that are a bit more expensive. Now that user base is actually shrinking over time as more and more subscribe as we go forward. And then there is the free users after we made our business model change to really a subscription-oriented business. And those have a very low-cost basis from a cloud perspective and others, sorry, because there is no storage component. There's very little compute and it's really just streaming live and doing some notifications off of raw motion events. Very, very efficient and that was part of our business model change. Now obviously, if we deploy additional features into that free tier in exchange for the ad monetization, that could change, but it would be done in a way that's accretive to our business because of the monetization scheme that we can deploy.
Jacob Stephan: I appreciate all the color here. Best of luck going forward guys.
Operator: There are no further questions at this time. That concludes today's conference call. You may now disconnect.
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