Arlo (ARLO) Q2 2026 Earnings Call Transcript

DATE

Thursday, Aug. 6, 2026 at 5:00 p.m. ET

CALL PARTICIPANTS

• Investor Relations - Tahmin Clarke
• Chief Executive Officer - Matthew McRae
• Chief Financial Officer - Kurt Binder

TAKEAWAYS

• Total Revenue -- $155.9 million, a record for the company and an increase of 21% year over year driven by double-digit growth in both subscriptions and product segments.
• Service Revenue -- $93.0 million, growing 19% year over year and representing 60% of the total revenue mix due to expansion in the subscriber base.
• Non-GAAP Gross Margin -- 50.6%, representing a record for the company and an increase of 480 basis points year over year.
• Adjusted EBITDA -- $30.6 million, increasing 70% year over year and yielding a 20% adjusted EBITDA margin.
• Non-GAAP EPS -- $0.28, which includes a $0.07 benefit from a partial tariff refund recorded during the period.
• Pro Forma Non-GAAP EPS -- $0.21, exceeding company guidance and consensus estimates when excluding the impact of the tariff refund.
• Paid Accounts -- 6.3 million, growing 23% year over year with 298,000 new accounts added during the second quarter.
• Lifetime Value of Paid Account -- $967, representing a 15% increase compared to the prior year period.
• Annual Recurring Revenue -- $365 million, growing 16% year over year reflecting subscriber additions and a slight increase in ARPU.
• Product Revenue -- $62.9 million, growing 23% year over year driven by international business and shipments ahead of Amazon Prime Day.
• Retail Point-of-Sale Volume -- grew 9% during the first half of 2026 compared to the same period in the prior year.
• Non-GAAP Product Gross Margin -- 1.0%, an increase from negative 13.8% last year reflecting an $8 million tariff refund and a higher mix of sales from strategic partners.
• Free Cash Flow -- $33.9 million for the first half of 2026, representing an 11% free cash flow margin.
• Cash and Investments -- $141.1 million as of the end of the quarter, including $22 million in share repurchases and $15 million in cash paid for the Aloe Care acquisition.
• Inventory Balance -- $48.4 million, an increase from $30.9 million last year intended to optimize shipping costs and manage potential increases in memory costs.
• Inventory Turns -- 5.2x, a decline from 7.7x last year as the company adjusted inventory levels to mitigate supply chain cost pressures.
• Third Quarter Revenue Guidance -- $140 million to $150 million.
• Third Quarter Non-GAAP EPS Guidance -- $0.17 to $0.23, which includes plans to reinvest expected tariff refunds into growth initiatives.
• Full Year 2026 Revenue Guidance -- raised to a range of $580 million to $600 million.
• Full Year 2026 Non-GAAP EPS Guidance -- raised to a range of $0.90 to $1.00.
• Accounts Receivable -- $63.6 million, with days sales outstanding declining to 37 days from 43 days due to increased adoption of annual service offerings.
• Non-GAAP Operating Expenses -- $48.6 million, increasing 16.5% year over year due to investments in research and development headcount and professional services.

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RISKS

• Binder stated, "Our guess is that margins on the product side would be in that negative, say, mid- to high single digits, maybe even getting up to the teens," noting that product margins will likely return to historical cost-of-acquisition levels following the exhaustion of tariff refunds.
• Management warned in its outlook that the "current global tariff environment is uncertain" and stated that "tariffs increase our product costs, which could impact our sales and reduce our product margin."

SUMMARY

Management reported that **Arlo Technologies, Inc.** (ARLO +3.02%) achieved record total revenue and service revenue for the second quarter, driven by a 23% expansion in the paid subscriber base. The company stated that operational improvements in retention and conversion metrics led to an increase in the lifetime value of paid accounts. Management indicated that a portion of the record adjusted EBITDA and one-time tariff refunds will be reinvested in strategic growth initiatives, including the launch of Arlo Secure 7 and integration with strategic partners like Comcast. The company noted that capital allocation remains focused on platform innovation, inorganic expansion into the elder care market, and shareholder returns through share repurchases.

• CEO McRae stated that the upcoming launch of Arlo Secure 7 will "open the door to additional service plan options at higher price points" to capture mixing into premium tiers.
• The company is evolving its AI capabilities beyond simple object detection to assess threat levels for entire events, which McRae indicated is "the most innovative and impactful advancement to customer experience" in the company's home security history.
• Management noted that the integration with Comcast is on track, with McRae stating a "desire to maybe try and get this launched closer to Q1 than Q2" of 2027.
• The company is testing the elder care market through its Aloe Care acquisition, announcing a partnership with Home Helpers Home Care to deploy AI-powered wellness services such as automated check-ins.
• Management converted "tens of thousands of subscribers from unpaid to paid just this year" by using in-app advertising to demonstrate the benefits of subscription services to the non-paid user base.
• McRae identified retail consolidation as an opportunity, noting that retailers are reducing brand counts and that Arlo expects to have a "broader shelf set or a total shelf share in the second half."

INDUSTRY GLOSSARY

• ARR: Annual Recurring Revenue, a metric representing the annualized value of active subscription contracts.
• Arlo Secure 7: The company's updated subscription platform featuring advanced AI assessment and new pricing tiers.
• Aloe Care: A smart security company focused on elder care and aging in place, recently acquired by Arlo.
• POS: Point of Sale, referring to actual unit sales to consumers through retail and direct channels.
• CVR: Continuous Video Recording, a specialized service for users who require 24/7 video storage.
• LTV: Lifetime Value, an estimate of the total revenue a company expects to generate from a single paid account.
• NRE: Non-recurring engineering, referring to one-time service revenue associated with strategic partner integrations.

Full Conference Call Transcript

Operator: Ladies and gentlemen, thank you for standing by. [Operator Instructions] I would now like to turn the conference over to Tahmin Clarke. Please go ahead.

Tahmin Clarke: 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 our description of revenue, gross margins, operating margins, earnings per share, expenses, cash outlook, free cash flow and free cash flow margin, ARR and other KPIs, guidance for the third quarter and full year 2026, the long-range plan targets, the rate and timing of paid subscriber growth, the commercial launch and momentum of new products and services, the timing and impact of tariffs, 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 our quarterly report on Form 10-Q filed earlier today. 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. Matt?

Matthew McRae: Thank you, Tahmin, and thank you, everyone, for joining us today on Arlo's Second Quarter 2026 Earnings Call. Arlo delivered outstanding results in Q2 with service revenue, total revenue, gross profit and non-GAAP net income, all setting new records for the company. We saw strength across the business and across all channels, which, in addition to the team's great execution, generated the excellent outcome you see today. Point-of-sale units in our retail and direct channel were up 8%, which contributed to the nearly 300,000 paid account additions in the quarter. This brings our total paid accounts to 6.3 million, which is substantially ahead of the original trajectory to our long-range target of 10 million.

The quality of our paid accounts portfolio continues to increase when compared to the same period last year. Our average revenue per user is up, churn is down and both monthly and annual subscription renewals came in higher than our forecast. These continuous improvements are due to several internal projects and programs that utilize deep user insights, which are focused on delivering the best user experience in the world. The result is Arlo's lifetime value of a paid account has risen to $967, which is up 15% compared to a year ago. Total revenue grew to $156 million, up more than 20% year-over-year and setting a new record for the company.

Service revenue of $93 million, also a new record, grew 19% year-over-year and comprised 60% of our total revenue in the quarter. This top line performance drove an incredible 70% year-over-year growth in adjusted EBITDA, which reached $31 million in Q2. And when combined with a partial tariff refund, propelled non-GAAP earnings to $0.28 per share, up 65% when compared to a year ago. As in past years, we use this mid-year checkpoint to assess the market conditions and our performance over the first half as we finalize plans for the second half and begin the development of our annual operating plan for 2027.

Our focus is to utilize Arlo's resources to deliver growth in both the short term and long term to drive the expansion of shareholder value. The capital allocation strategy that we rolled out nearly two years ago has served as an excellent framework to drive that growth in value. Our investments across the pillars of organic, inorganic and shareholder return are delivering the desired outcomes, and I would like to spend a moment to update our investors. Our organic or internal investments fall into three main buckets: operational excellence, sales and marketing and platform innovation.

Operationally, Arlo is deploying new tools and processes that when coupled with our vast user data are unlocking value and providing detailed insights that we are leveraging to improve the key metrics I mentioned earlier. We are still at an early phase and we'll continue to invest where we see the potential for high ROI or improvement in Arlo's key metrics. From a sales and marketing perspective, you will see us balance both short-term and long-term growth. As in past years, we intend to invest in our retail channels during the holiday selling period to drive incremental growth in subscribers now worth nearly $1,000 each in LTV.

And you'll see us also invest in some market tests for both care and small business segments to collect data that will help feed our 2027 business plan and other future opportunities for growth. It is exciting to see Arlo on the cusp of entering these large markets that can generate substantially higher ARPU and LTV. Finally, our internal innovation pipeline has never been stronger. Arlo will launch Arlo Secure 7 at the end of Q3 with several new features and capabilities that keep us at the forefront of smart security and open the door to additional service plan options at higher price points.

And looking into 2027, Arlo will be launching a next-generation product line, coupled with Arlo Secure 8 that together will represent the most innovative and impactful advancement to customer experience in home security since Arlo's initial launch of DIY security more than 10 years ago. Looking at the inorganic area of our capital allocation plan, Arlo generated a greater than 50% return from our Origin AI investment. And the acquisition of Aloe Care has enabled Arlo to address the $30-plus billion market for smart elder care and aging in place. Based on the early progress since the acquisition closed, we expect to have several additional partner announcements that will contribute to growth in 2027.

We remain bullish but selective on future inorganic investment opportunities and continue to look for either smaller adjacent assets or potentially larger options if they fit directly into our core market. From a return to shareholder perspective, Arlo has bought back nearly 6 million shares since the inception of our share repurchase program and more than $20 million of shares in Q2 alone. The board and the management team continue to believe that Arlo's shares are substantially undervalued, and you should expect to see additional share repurchases going forward.

Taking this all together, Arlo had a record-breaking Q2, strong first half and is executing a capital allocation plan that is contributing to short-term growth while positioning the company for additional growth in 2027 and beyond. I have never been more excited about Arlo's potential and believe that the next 18 to 24 months will begin a new phase of success for the company. And now I'll turn it over to Kurt for a more detailed review of our Q2 results and our outlook for the remainder of 2026.

Kurt Binder: Thank you, Matt, and thank you, everyone, for joining us today. First, I will provide a detailed review of the key operational and financial results of the business. Then I will share an overview of our expectations for the third quarter, followed by an updated outlook for full year 2026. We continue to deliver outstanding top and bottom line growth, driven by a quarter of record subscriptions and services revenue, coupled with record total revenue. Arlo continues to outperform expectations as a result of our subscriptions and services focus, which drives our expanding profitability metrics, including record levels of non-GAAP gross margins, adjusted EBITDA and non-GAAP net income.

And we are well positioned to continue these trends into the back half of 2026. During the period, we posted subscriptions and services revenue of $93 million, up 19% year-over-year and once again accounting for 60% of total revenues. Our subscriber base grew 23% year-over-year as we generated 298,000 new paid accounts in the period. This double-digit subscriber growth was bolstered by our outstanding customer retention efforts, especially the results generated in our retail business. Our subscriber growth, coupled with a slight increase in ARPU, drove ARR to $365 million, up 16% year-over-year.

Product revenue was $62.9 million, up 23% from $51.2 million in the same period last year, a trend driven by strong growth in international business as well as strong device shipments into retail channels in advance of Amazon Prime Day, which began in late Q2 of this year. Both of these factors resulted in additional retail sales with POS or point-of-sale volume increasing 9% for the first half of 2026 in comparison to the same period last year. Our strategy to optimize our promotional campaigns around retail channels and product offerings that have higher subscription conversion rates helped enhance growth of our high-margin domestic retail subscription offerings.

Total revenue for the period came in at $155.9 million, a record and up 21% from the prior year, driven by the strong double-digit year-over-year growth in both subscriptions and services revenue as well as higher product revenue. Generating total revenue at this level is a testament not only to the strength of our services revenue trajectory, but also to the diversification of our go-to-market strategy. 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, which was distributed earlier today.

In line with our guidance, non-GAAP subscriptions and services gross margin was 84.1%, which was slightly impacted by non-recurring engineering services revenue, or NRE associated with the ramp of our strategic partners. We reported non-GAAP product gross margins of 1%, up significantly from the negative 13.8% in the prior year period, primarily related to the $8 million in tariff refunds that were recorded during the period as well as a higher mix of product sales coming from our strategic partners. On a pro forma basis, after adjusting for tariff refunds in the quarter, our product gross margins would have been a negative 11.6%, which still represents an improvement of 220 basis points year-over-year.

With the improvement in both services and product gross margin, we again surpassed the 50% consolidated non-GAAP gross margin level, an increase of 480 basis points year-over-year. Consolidated gross margins at this level represents a new record and underscores the continuing uplift in profitability we are experiencing. Total non-GAAP operating expenses for the second quarter were $48.6 million, up 16.5% from $41.7 million in the same period last year. The year-over-year increase is driven by investments in R&D, including headcount to continue to drive our technology innovation ahead of our Arlo Secure 7 launch. Additionally, as mentioned earlier in the year, we are investing in delivering platform advancements for our strategic partners ahead of their launch of services.

Lastly, we experienced an increase in fees associated with professional services to support our growth initiatives and deliver an enhanced customer experience. During the quarter, adjusted EBITDA was $30.6 million, up 70% year-over-year and representing an adjusted EBITDA margin of 20%. Even in an investment year, which requires additional spend to integrate large-scale strategic partners into our platform, we are still expanding our adjusted EBITDA and margins, a testament to the significant operational and financial progress Arlo has made in its transformation. Profitability at this level translates into non-GAAP net income per diluted share of $0.28, including a favorable $0.07 impact due to tariff refunds.

On a pro forma basis, assuming the exclusion of tariff refunds, our non-GAAP net income per diluted share would have been $0.21, ahead of both the midpoint of our guidance range and consensus EPS estimates in the quarter. Regarding our balance sheet and liquidity position, we ended the quarter with $141 million in available cash, cash equivalents and short-term investments. This balance includes investments in various capital allocation initiatives, including $22 million as part of our stock repurchase program and $15 million as the cash paid in the period to acquire Aloe Care. For the 6 months ended June 28, 2026, we generated $33.9 million in free cash flow or a free cash flow margin of 11%.

Our Q2 accounts receivable balance was $63.6 million at quarter end, with DSOs at 37 days, down from 43 days last year as we continue to drive more subscribers to annual service offerings. Our Q2 inventory balance was $48.4 million, up from the $30.9 million level last year. Inventory turns, excluding acquired inventory, were 5.5x, a decline from 7.7x last year as we look to optimize our inventory levels in an effort to reduce our shipping costs and manage any potential future increase in memory costs. Now turning to our outlook. We had an outstanding start to the year, driven by ongoing strength in our subscriptions and services business, which drove both our revenue and profitability.

Looking forward, we expect the momentum in our subscriptions and services business to continue into the second half of 2026, and we expect total revenue in the third quarter to be in the range of $140 million to $150 million. From a profitability perspective, we will leverage any Q3 tariff refund to further invest in the strategic areas that are fueling our growth. This includes strategic partners such as Comcast and ADT, second half promotional campaigns with our top channel partners, innovation across our technology platform and market tests ahead of our 2027 annual operating plan.

Despite these incremental investments, we expect our non-GAAP net income per diluted share in the third quarter to be substantially ahead of consensus and in the range of $0.17 to $0.23. As a result of our strong first half and our outlook for the remainder of 2026, we are significantly increasing our outlook for total revenue and EPS for the full year. We are now expecting total revenue for the year to be in the range of $580 million to $600 million and non-GAAP net income per diluted share to be in the range of $0.90 to $1. And now I'll open it up for questions.

Operator: [Operator Instructions] Your first question comes from the line of Jacob Stephan from Lake Street Capital Markets. Please go ahead.

Jacob Stephan: Congrats on a really nice quarter here. Maybe just first, kind of looking at the full year guide raise. I guess when you kind of think about ARR growth for the full year, I mean, where does that land? And how comfortable are you with those targets?

Matthew McRae: Yes. Thanks for the question, Jacob. As you saw, we had some really strong growth on the service revenue side, just touching about almost 20%. And what I would say is if you look at the metrics we talked about on the call, so churn improving, conversion improving, ARPU actually raising up a little bit, that is driving that LTV almost to $1,000. And that's usually a leading indicator of further growth when you look out on ARR as you go through the year. I would couple that with Arlo Secure 7 launch that's going to be happening sometime in September.

And that is not only going to bring a lot of new functionality to the table, it's enabling us to bring a higher tier of service. So you're going to see us actually add a subscription tier that's higher priced than the two that we have in the field today. And that will obviously serve to grow ARR as we exit the year. So typically, you see some strength and some growth in ARR as we get towards the end of the year because of our launch of our products. But I think the metric improvement is usually a leading indicator as well.

So we are targeting towards that 20%, not only on service revenue, which we're basically at now, but also on ARR as we exit the year.

Jacob Stephan: Okay. Got it. And maybe just on Secure 7, since you talked about it, you highlighted the Q3 launch. I guess what features are going to be incremental about Secure 7 that aren't already in Secure 6? And how do you think about kind of the market appetite for higher ARPU offerings at this point?

Matthew McRae: Yes. So I don't want to get ahead of our launch in too much. But there are some functionality and some features that I think we've talked about in the past already. So I can touch on those and give you a little bit more color on why we're excited about it. So first, we've talked about -- and I think most importantly, we've talked about the idea of the next level of AI enhancement or AI capabilities in the consumer security space. And so if you look at what most AI is doing, it's usually object detection or it's inferring from facial recognition or certain things where you're detecting an object and notifying or taking action based on that.

What we have been working on for more than a year now is actually going to that next level and actually assessing the entire event and what is the threat level driven for that. And so that inferment or that assessment of what's actually happening is a whole another level of what AI can do and provides numerous improvements to both user experience and the speed of emergency response in those events that really require that while also filtering out false alarms.

So it's a functionality that I think is going to be a dramatic improvement to the customer experience, number one, but it's also something that we can be leveraged with our strategic partners to have a much better outcome, both on the speed of the response, but also reducing false detection. So I would say that is probably the most groundbreaking and really the next wave of innovation that we think is going to come over the next three to five years in the, call it, advanced AI security space. You're also going to see numerous customer enhancements that have been asked for or requested over the last 1.5 years.

And that's something we typically do is we roll up all of the functionality and feature requests that we've seen in the past year and roll those into user improvements, both at the app level or the service level. There are also some -- we have a class of users that actually pay separately for something we call CVR, continuous video recording. And you're going to see a new tier of service, but also a lot of enhancements and innovation in that area that we think is going to unlock the benefits of a higher tier service as well. So there's a lot in there.

That gives you a little bit of the bucket, but we'll obviously talk a lot more about it and have a lot more detail when it launches in September.

Jacob Stephan: Okay. Got it. And maybe just last one for me. I mean, the last few quarters, we talked a lot about strategic partnerships, 3 notable ones, ADT, Samsung and Comcast. I'm wondering if you could kind of give an update on some of those. And obviously, ADT Blue is launched, but how are things with Comcast Xfinity? Where are you in the testing phase of that? Any update would be helpful.

Matthew McRae: Yes. So yes, thanks for the question. And it's -- I didn't actually touch on that in the prepared remarks. And so I think it's a great thing to touch on. Everything is progressing extremely well. So ADT has now launched. And as we said before launch, we expect them to kind of ramp through this year, especially in the back half if you come into a holiday quarter and then lean in even more for a full year next year, and that's exactly what we're seeing. And I can't share anything, but we're expecting some significant marketing spend and some visibility from ADT for that Blue offering they have in the market.

So expect to see that to grow and then expand as we get into the first part of next year and have a full year of launch there. So we're excited to see that, and that's on track. Same thing with Comcast. So Comcast on a different time line, but the integration and development with them is exactly on track. We spent some time with them actually in Philadelphia over the last couple of weeks. And I would say, if anything, there's actually probably more opportunity with this partnership across even more fronts of some of the services they want to deploy over time. So we're heads down. Everything is on track.

And I would say, if anything, there's a desire to maybe try and get this launched closer to Q1 than Q2, but a lot of it will depend once we get test units into the field. And I'll save any more detail when we get closer to launch in Comcast, so I'll have a lot more to say about that probably in the first half of next year.

Jacob Stephan: Very helpful guys. Nice quarter. Thank you very much.

Operator: Your next question comes from the line of Dylan Becker from William Blair. Please go ahead.

Dylan Becker: I guess I wanted to touch quickly. You called out, obviously, all of the input mechanics on ARPU uplift and reduced churn leading to higher LTV, but also obviously seeing pretty healthy product strength across the portfolio. I believe part of that was channel-led. To what extent maybe is that starting to be some of those strategic partnerships ramping, but also how that drives conviction as you get kind of more devices installed within each of the individual homes to drive that uplift in conversion to maybe better clarity through better homes as a part of that product motion?

Matthew McRae: Yes. I think you hit on all 3. Yes, sorry about that. You hit on all 3 of the components of that. So one is we saw strength in the partner channel. I would say it was pretty typical buying if we look at kind of the seasonality in the partner area, but it was definitely strong. Kurt mentioned in the prepared remarks that we saw some strength in our retail and direct channel as well. Some of that is the pull-in of Amazon Prime just by a few weeks. And so that shifts just a tiny bit in the quarter.

But I would say, in general, we've been capturing share, and we've seen strength in the retail channel as we're continuing to see strength in the partnership channel. Both of those, to your point, also are things that will have us look at higher ARR growth and service revenue growth going forward because a lot of that's ending up in new households. The other topic you touched on is even when we sell these products into an existing household, you are correct in that when a household moves from one camera to two cameras or from two to three, the percentage of conversion or attach on the service revenue side also goes up as well.

So when we see unit volume actually rise on a year-over-year basis, that is indicative of future service revenue and ARR growth.

Dylan Becker: Perfect. Appreciate it, Matt. And then maybe for you or Kurt as well, too, I believe you guys called out some of the tariff savings maybe being utilized to reinvest more aggressively into the partnership motion. I guess can you just kind of give us some additional context into what that looks like? I know, obviously, some of these will ramp in the back half of the year and into 2027, but maybe what the incremental investment or spend can further unlock or accelerate in that motion? Thank you.

Matthew McRae: Yes, yes, absolutely. And maybe just for clarity, we can kind of touch on exactly what we talked about on the call. So if you looked in Q2, we had about $8 million come in from a tariff refund, and that's roughly $0.07 of EPS as you drop it through to the bottom line. And as Kurt mentioned, we handily substantially beat the quarter even if you back that out. This quarter, we're taking a different tack as the tariffs are coming in partially because we can see it coming, and it's a little bit more predictable. And it's roughly $6 million that's going to come in or call it, what would have been $0.05 EPS.

But when we look out at the investment of using this found gross profit coming into the company for investments, both short and long-term effect, the ROI is just so high. I just hosted last week, the executive team at an offsite where we talked about the second half and looked at our annual operating plan, which is the kickoff really for us to have this have this planning process start. And there are several areas where we find it exciting to kind of push into. One is our typical sales and promotional into the Q3 and especially the Q4 time frame.

So you'll see us lean in a little bit there as we see household formation really converting into subscribers. And we think leaning in there will expand shareholder value. Two is partnerships. Kurt touched on this, so the strategic partnerships, investing in the engineering on both our platform in general and accelerating some of the things for Arlo Secure 8 and some of the technology we talked about next year, but also the integration and maybe speeding up the integration with a couple of strategic partners is beneficial to unlocking additional growth in 2027. And then I mentioned -- I think Kurt mentioned as well, the test.

So we are looking at doing -- and these are relatively small, but spending a little bit of money investment in Q3 to test some price points and channels for both our care from our Aloe Care acquisition and in the small business. And so you see us do that a little bit in Q3 and a little bit more in Q4. And what we do is when we build our annual operating plans, we always like to have real data to base that off of.

And so this will not only look for additional revenue enhancement in the second half and maybe subscription revenue and subscribers, but really set us up to lock down a more cohesive plan based on real data for 2027, where we know, at least in the care area, there's substantial opportunities for growth. So when you step back and you say, well, why treat those two quarters differently? Again, we take our role as stewards of the capital of the company, the Arlo's capital very, very seriously.

And so when the tariff refund came in at the end of Q2, we looked at it and said, wow, there's opportunities to maybe spend and invest, but we don't have the time to actually do the rigor and the disciplined investigation of what would that ROI be and how fast would we see it for shareholders. So we decided to drop that down to the bottom line like we talked about in the Q2 results. Q3, we have the time, and we've had the time.

And so we're going to use that smaller tariff rebate to fund very strategic areas of the business and explorations to drive, like I said, short-term growth and then what we call long-term growth, which really isn't that long term. It's really in the next 18 months. So that's the numbers. That's the color commentary and the reason why you're seeing us do two different things from Q2 to Q3.

Operator: Your next question comes from the line of Rian Bisson from Craig-Hallum. Please go ahead.

Rian Bisson: Rian on for Tony Stoss. Just quickly, I want to touch on the Aloe Care, the Home Helpers deployment. It seems like that was the first commercial expansion since you closed the acquisition. I guess, can you talk a little bit about how maybe that channel works, what the reception has been like from some of the care providers and kind of how you're thinking about Aloe Care runway into next year? Thanks.

Matthew McRae: Yes. Great question. And we did this -- the Aloe Care acquisition for two reasons. One is the technology they have today and the technology roadmap, but also the pipeline of potential customers that we saw right before we did the acquisition. And Home Helpers is a great example of that. So they are a typical provider that provides on-site support for numerous stay-at-home elderly care people out in the field. And they use the Aloe Care technology to monitor the health, but also communicate with the people in the field and be able to escalate and notify if there's something that needs to be corrected or somebody needs to be checked in on.

So it allows them to scale their business. What we're excited about in this, it's not only just doing business with somebody like Home Helpers, but actually rolling out some of the new technology that Aloe Care has been working on for the last few years include AI calling and AI check-ins, which is absolutely fabulous. We're hoping to demo this to the analysts at some point very soon because it's pretty jaw-dropping that you can provide AI call check-ins at a scale and provide all the feedback back into a dashboard for the caregivers where all the feedback from that user is actually correlated and you can start to predict issues in the future.

So you start to build algorithms to predict falls or predict issues like dehydration of things just from conversations that are having in the home. So two things. One, it's exciting that we're seeing the expansion of the Aloe Care business even at this early stage. But two, seeing some of the most advanced technologies that nobody else has on the market be deployed through some of these partners. Now I mentioned on the call as well, I think Home Helpers is an initial example of a partner that we've been able to announce very soon after the acquisition.

You can expect several more, I would say, over the next maybe 6 to 9 months be announced and not only add maybe a little bit of growth this year, but definitely set us up for some pretty substantial growth in this segment in 2027.

Operator: Your next question comes from the line of Scott Searle from ROTH Capital Partners. Please go ahead.

Scott Searle: Congrats on the quarter. Matt, we tended to talk about some of the strategic partnerships that you've established more recently. But we used to talk a little bit about some of the unpaid subscribers and potentially monetizing some of them as well. I think early on in some of the advertising trials, you were looking to use that to basically drive upsell opportunities. I'm wondering if you could give us a quick update in terms of monetization aspects on the unpaid subscriber base.

Matthew McRae: Yes. Great question, Scott. So you're absolutely right. We've seen some very strong success in the advertising to non-paid subscribers of the services and subscriptions that we offer. Our initial look at advertising, we actually tested selling hardware. We tested selling services, and we tested third-party advertising in that kind of free with ads non-subscriber bucket. And the ROI was very clearly if you had a user that actually signs up and the amount of users we were able to convert from actually advertising and showing the benefits of our subscription services, that ROI was the highest by far.

And so we've converted tens of thousands of subscribers from unpaid to paid just this year through advertising and being able to convert people over. And that's something you're going to see us continue to lean into and probably do more of. Where we get excited is actually starting to look at these households in more detail and maybe start to advertise Aloe Care services in the future and some other opportunities to actually bring even more subscription conversion over time. The other one we have done historically off and on, and we're looking to do again as we get into Q4 and the first half of next year.

As I mentioned earlier that we see subscription conversion jump when a single camera household moves to a 2-camera plus household. And so there's ways to promote free advertising or promote to that non-subscriber that has a single camera, a second camera on signup, and we see pretty healthy conversion in those kinds of offers as well. And so you'll see us experiment with a little bit more of that, both at the end of this year, but going into the first half of next year before Arlo Secure 8 launches.

Scott Searle: Very helpful. And maybe a follow-up on Aloe Care. It sounds like you're starting to develop some incremental channel partners in terms of starting to deploy those types of services. I'm wondering where, I guess, self-install models, right, the DIY model fits for you with Aloe Care. Is that something we start to see more of in 2027 and how you're thinking about that?

Matthew McRae: Yes. Scott, you nailed it. That's one of our tests in Q4. So when we did the acquisition of Aloe Care, they were predominantly focused on certain types of providers and kind of in certain governmental areas. Once it was announced, we had an inbound set of calls, and I would say, substantial calls from retail channel partners to additional state government agencies to federal government agencies to healthcare providers and others that are in the field like Home Helpers. And so the inbound interest was pretty high. I would add to that list, even some of our current strategic partners showed significant interest in actually deploying Aloe Care as well.

So what you see us doing is going through that opportunity stack and we're determining where we want to deploy some of the resources, and that's some of the investment that we're talking about in Q3. And to your point, one of the specific market tests we're going to do is deploy Aloe Care back into the D2C DIY channel and get some numerics that we can then use to go build our 2027 annual operating plan.

Scott Searle: Got you. Very helpful. And lastly, just other adjacencies. I'm wondering how active those types of explorations and discussions are ongoing right now and how you kind of weigh that in terms of capital allocation and stock buybacks. And a quick question for Kurt. I just want to clarify. So the tariffs in the second quarter were contra COGS, I guess, which produced the 1% gross margins. But going forward, we should be thinking about modeling at that negative 10% kind of gross margin range going forward on the product side?

Matthew McRae: Yes. Kurt, do you want to take that first?

Kurt Binder: I'll answer. Sure, sure, Scott. Sure. Yes, you're correct. As you pointed out for Q2, the $8 million tariff refund was applied to our product gross margin. So you saw the 1% positive gross margin for products. We -- as we look out to the second half and frankly, into the future, you would expect us to go back to the same strategy we've been deploying to date, and that is, is that using that product and sale and that product gross margin is really CAC, cost of customer acquisition and our tool to drive household activation.

Our guess is that margins on the product side would be in that negative, say, mid- to high single digits, maybe even getting up to the teens. And so as we get into the next couple of quarters, we'll kind of revert back to our approach and our strategy from the past while we're using this tariff refund to benefit some of the growth areas that Matt mentioned earlier.

Matthew McRae: And then to your question, Scott, on adjacencies, we -- there are many opportunities and there are adjacencies everywhere we turn and look. And I think part of that is we're seeing a lot of strength just in the security market, the core market, as you can see from the results. And that strength was across channels. There are so many adjacencies that we can step into. And we want to be very selective about it. And I think I used that word in the prepared remarks. We have now our care, right, which is opening up a TAM that is anywhere from $30 billion roughly today going towards $300 billion market TAM over the next 8 to 9 years.

So that is not only a large market, but a growing market. We want to make sure we're successful there and we execute there and can show the return on investment very quickly to our shareholders. and the market in general because we think there's huge pools of opportunity there, again, across all our channels. We are looking at other adjacencies, but I would say they're kind of second priority at this point until we have Aloe Care absolutely set. So I mentioned small business on the call. There is a test.

We'll do some tests in the small business to see if we can maybe organically address some of that market as we come out with some of our new products next year, and that will give us some intelligence ahead of time. So I would say, yes, there's many adjacencies. We are interested in them. We know we have one that we want to execute extraordinarily well and show our investors that ROI is there, and that is on a path to actually add to our long-range plan.

Other than that, any other kind of inorganic investment would likely be more in our core market because we do believe we still see some consolidation in the space happening, and we think we are going to be one of the benefactors of that consolidation. And if that can add to growth and even speed it up further than what we're already seeing, we would consider that as well.

Scott Searle: Great. Thanks so much. Great quarter, guys.

Matthew McRae: You're welcome, Scott.

Operator: Your next question comes from the line of James Fish from Piper Sandler. Please go ahead.

Unknown Analyst: This is [ Ryan ] on for James. Any further color you guys can give us around the impact of Prime Day shift from Q3 to Q2 this quarter?

Kurt Binder: Yes. So as Matt mentioned earlier, this -- and I think I talked about it on our previous quarter remarks, this was the first year that Prime Day actually was pulled from Q3 into Q2, which means that ultimately, our product revenue and the shipment associated with that particular event increased. So we pulled forward some of that product revenue into the quarter, and we saw a bit of a lift. So when you look at the success we had this quarter regarding the growth in our product revenue, it was a combination of both international business as well as really from our retail partners, but in particular, for the Prime Day event.

As we look at the activity that came out of that, we thought that we performed pretty well. Obviously, the Amazon platform in that marketplace is a big platform for us in terms of security and safety solutions. And so as we look at the results from that, we did pretty well relative to our forecast, and we're pleased with the way things worked out. So we'll look to see how that's going to impact us in the second half. As you can tell from our guidance for the third quarter, we're still expecting product revenue to be pretty healthy, irrespective of the fact that we had the shipment to Prime Day coming Q2.

Matthew McRae: Yes. And maybe I'll just add, that shift, it's not like the entire shift happens across all the product shipments. So even when Prime Day is typically in July, often, there's some shipments that happen in Q2 to go fulfill that. So when it shifted from July to June, it's really only a couple of weeks maybe of shipments that actually shift there. It's not like the entire bulk of our Amazon Prime Day shipments shift from Q3 to Q2. So that's why you see a little bit of movement there, but it's not as much as you would think if you know how long it takes to actually ship everything in for the event anyways.

Unknown Analyst: Very helpful. And then any way to think about the net add pace for paid accounts and what you expect to get from new conversions for the rest of the year?

Matthew McRae: Yes. So that's part of the forecast as we look into the second half. So our net paid accounts, as you've seen, is actually progressing very well and above the range that we've given is what we think a typical quarter would be. So we're definitely overachieving on that metric and seeing a lot of paid ad accounts above the range that we've stated in the past. And I think you're going to see that continue.

The interesting part is when we have sales in any given channel, how many of those are net new households that then go into the top of the funnel and how many households are maybe buying a third or fourth camera or they're an existing subscriber, right? And that gives you an idea of what's driving the net paid accounts. One of our data insights that we've done over the last, I would say, two or three quarters is really understanding what types of offers and what types of SKUs drive new household formation versus second or third purchase for an existing household.

And so what you're going to see as we get into the second half of the year is we're shifting promotional dollars and leaning in, in the areas, the SKUs, the channels, the types of offers that drive household formation, which then puts those households into the top of the funnel and tends to generate net adds at an even faster pace. So we think we'll see conversion continue to tick up a little bit as we get through the holiday period. And some of that is what you're seeing from our tweaking and utilization of data insights to drive a smarter deployment of capital into the promotional space.

Unknown Analyst: Very good. And then finally, final one for me. What kind of traction are you guys seeing with your more premium subscription offerings? How much of your upside this quarter was more driven by those premium offerings as compared to full new household kind of adds?

Matthew McRae: Yes. So if you look at ARR increase pretty much from the beginning of the year, a lot of that is -- or most of that is actually mix shift. So we are seeing people mix into higher tier plans. And some of that is how we promote it, how we price it, how we position it in the area. One of the things we've seen in the last quarter or two is a higher growth rate in sales or a higher percentage of sales on some of our higher-end products, so call it Pro, Arlo Pro and Arlo Ultra actually did very well in the last quarter compared to previous quarters. And so that tends to shift users.

Those are the types of users that tend to subscribe to a higher tier plan. We think that movement or that mix shift will continue, especially as we launch a higher tier plan as part of Arlo Secure 7.

Unknown Analyst: Great. Yes, thank you guys and congrats again on the quarter.

Operator: Thank you. Your next question comes from the line of Adam Tindle from Raymond James. Please go ahead.

Adam Tindle: I wanted to start on the gross margin piece, Kurt. I think it was like a minus 11% gross margin per product on the core, taking out the tariff noise. Understanding that you're positioning that as better year-over-year. But I'm wondering what drove that down sequentially? It seemed like we were making progress on that and improving all the way into Q1 and took a step back. I know you launched ADT Blue in the quarter. I'm wondering if maybe that's diluted to gross margin. And just to clarify going forward, I think you mentioned this earlier, but I didn't quite catch it.

Your expectations for product gross margins for the rest of the year, are we going to kind of remain in this sort of a range? And then I have a follow-up for Matt on this.

Kurt Binder: Yes. Hey Adam, how you doing? So no, I wouldn't look at it that we took a step back. Actually, this is just part of the natural seasonal cadence of how we promote throughout the year and how that impacts our overall product revenue promotional spend and ultimately, the product gross margin. So as we pointed out, this was a little bit of an unusual quarter in the sense that the Amazon Prime Day event was pulled into Q2. Leading into that particular event, it is critical for us to properly set up the right promotional campaign and situate our products to meet the demand and where the customer is.

So when you look at that 11% negative margin that we highlighted on a pro forma basis, actually, it was right in line with our expectation given what we had to -- in working with the Amazon event. So we were pleased with the outcome there. Obviously, the windfall or the benefit from that tariff was a bit unexpected. We had filed for that back in the mid-late part of April, and we didn't realize when it would actually be processed and come in. So that came in, like Matt mentioned, towards the late part of Q2, which offset that margin.

But we've been managing our product revenue and our margins around product pretty well, and we feel good about where we are relative to the seasonal promotional activity that we manage each quarter and on an annual basis. As we actually look out to the remainder of the year, I think you'll expect -- you can expect us to be in that mid- to high teens of negative margin for the product. We think that's probably where we'll need to be in order to maintain the growth in our POS. We've been really pleased with the fact that in the first half of 2026, we were at POS growth of about 9%.

That's kind of where we'd like to target that 9% to 10% range. So I think we're managing the product and product sales pretty well relative to our expectations and the full year outcome.

Adam Tindle: Got it. Okay. Maybe as a follow-up, Matt, I understand you've got a sizable raise to the total revenue guidance. I think if we look at the composition of that, it's all product. And as Kurt just mentioned, it sounds like product gross margin is going to remain negative going forward. So accelerating revenue at a loss-making level in product, I'm wondering why that's the right strategy? And also the services revenue being unchanged, why wouldn't that be higher if your expectations for product revenue are going up? Is there something -- some disconnect in like attach rates or something like that, that would drive that?

Matthew McRae: Yes. Good question. And I would say I don't -- there may be a disconnect. There may not be a disconnect. We chose not to update the guidance on the service revenue side because it's at that 20%. And I think there's opportunity to hit that and actually go higher. One of the things to think about is accelerating product revenue is usually a precursor to accelerating subscription revenue, right?

As those new devices go out into new households, like I was saying before, it ends up in the beginning of the funnel, it flows through the funnel and it ends up being subscription revenue and obviously, much higher gross margin that's contributing to our growing kind of blended gross margin as a company. So a lot of that will then depend on does that conversion happen in Q4 or Q1 when we see that acceleration coming into Q4. So that's the investment. We have all the metrics that say that, that is actually really good for service revenue.

But the first thing you'll see kind of flow through the P&L is increased product revenue, and then we'll see service revenue come after that. That's what we've always seen in the past years. And that's something, to Kurt's point, we manage very carefully. We feel more confident about that as well because, as I mentioned, some of the key metrics are up. So LTV is up. So every customer we get is actually worth more to us and shareholders. Conversion is up. The actual renewals from both monthly and annual is up. Churn is down.

And so we're seeing that the average customer or subscriber that's going through the funnel is actually worth more and adding more value to the company. So that's why you're going to see us maybe put a little more fuel on the fire to generate that future service revenue.

Adam Tindle: That's helpful. Thanks, Matt.

Matthew McRae: You're welcome.

Operator: Your final question comes from the line of Martin Yang from Oppenheimer. Please go ahead.

Martin Yang: Just a follow-up regarding your earlier comments on consolidation. What in the market do you see opportunities for consolidation?

Matthew McRae: So I'm not sure I heard the question totally. But the consolidation we see is happening really in the retail space for security. So we're starting to see retailers looking at reducing the number of brands that they may have on shelf and double down on the brands that are actually delivering for them. And so when we've seen that happen in the past, we've tended to gain shelf share and actually gain share in the marketplace. So if there are opportunities to do that, we'll invest in actually capturing that share.

And I think you'll see us have a broader shelf set or a total shelf share in the second half than we did in the first half, just as an example for that.

From an inorganic investment perspective, I'm not saying there is, but if there was a company that had households, but maybe not as successful as turning those into subscriptions, something we've proven we can do, maybe there's an opportunity to look at any kind of assets out there where there's households with cameras or households that could bring cameras into place and we can drive subscription revenue as an attach and start to consolidate those households in the security space a little bit quicker and drive revenue or subscription revenue from a security space even faster. So those are the two types of consolidation we think are happening.

One is the actual shelf share and what's happening across some of the channels, and that's true a little bit even in the partnership channel. And then two, there may be, in the future, opportunities where there's people that have been -- or companies that have been in the space or adjacent to the space and haven't had the success that Arlo has had at transforming this into a subscription business and somewhere where we could acquire an asset and then add a lot of value very quickly on top.

Martin Yang: Great. Another question on the subscription tiers. So can you give us a bit more insight on how the different tiers of service our total subscriber base and how Arlo Secure 7 or next year's new hardware product may change the composition of different tiers?

Matthew McRae: Yes. So it's a really good question. And maybe the best answer is I can back up a little bit and then kind of walk you through where we are today, which gives you a little bit of direction where we go before we actually announce some of the new plan structure that we're going to have at the end of September. So if you go back, Arlo has typically had 3 tiers of service. And it used to be a very basic piece of service. And then there was one that had some AI and some protection features.

And then we had a tier of service that had everything that we sell, including professional monitoring, battery backup, cellular backup and the entire security experience from a tiering perspective. And so those are the 3 tiers. About a year -- I guess it's 1.5 years ago, we noticed that more and more of our customers were mixing up to the tier that had a lot of the AI functionality in it. So we made a decision coming into the year following to actually get rid of the basic tier that didn't really have any AI capabilities because we were watching most of the consumers mix up into the tier that had AI.

So today, fast forward to where we are today, we have a tier of service that really has all of our AI functionality or most of it, and we have a tier that then has all of that functionality, additional layers plus professional monitoring cellular backup and battery backup and everything. So those are the 2 tiers. Now we've reduced to 2, but we know optimally from a customer offering perspective, 3 tiers is best, good, better, best. And so what you see us do in September, and I've kind of hinted at some of the things that will be in that tier, we'll be introducing a tier above our current tier -- our current highest tier.

And you'll then see usually the spread of consumers across those tiers start to shift a little bit over time. We don't split exactly how many customers are on each tier. Where you'll be able to see that is in the expansion of ARPU over time.

Martin Yang: Thank you, Matt.

Matthew McRae: You're welcome.

Operator: At this time, there are no further questions. This concludes today's call. Thank you all for attending. You may now disconnect.