Arlo Technologies (NYSE:ARLO) got out of the gate quickly on August 3, gaining 38.1% in its first day of trading. Since then, ARLO stock has drifted lower amidst concerns that the security camera maker has too much competition.
Although I’m a fan of spinoff stocks, Arlo isn’t one of my preferred options. Now trading about four bucks higher than its $16 IPO price, ARLO stock has some pros and cons, which I’ve listed below.
The Pros of Owning ARLO Stock
Spinoffs Tend to Do Well: The Bloomberg U.S. Spinoff index over a 13-year period between the end of 2005 and May 24, 2018 delivered a total return of 512% compared to 314% for the S&P 500. All U.S.-listed spinoffs with a market cap greater than $1 billion are included in the index, which is cap-weighted.
Out of the last 13 calendar years, the Bloomberg U.S. Spinoff Index outperformed the S&P 500 on ten occasions.
At least from a historical perspective, ARLO stock has a fighting chance.
Service Packages Create Recurring Revenue: We live in a subscription world where almost every service is offered with a monthly plan of some sort; Arlo is no different.
“The best part, though, is that ARLO stock isn’t dependent on device sales,” InvestorPlace’s Josh Enomoto stated August 14. “The company offers multiple, attractive service packages. Their “premiere” package, which offers 30 days of cloud recordings, is less than $10 per month. The “elite” package, which offers 60 days of cloud recordings, is less than $15.”
If there’s one thing Josh understands, it’s technology. He reckons that the low monthly fees charged by Arlo will be attractive to those households looking to obtain home security without breaking the bank.
Arlo is smart to pivot away from one-off product sales.
It’s Growing at a Nice Pace: In the first six months of fiscal 2018, Arlo grew its overall revenue by 50.1% to $211.6 million. The revenue of its largest market (the U.S.) increased by 44.1% to $155.6 million.
The domestic market accounts for 74% of its overall revenue, followed by Europe, Middle East, and Africa (EMEA) at 18%, Asia/Pacific at 5%, and the rest of the Americas at 3%.
EMEA is growing at a tremendous pace, as its revenues jumped 118% year over year in the second quarter. If it keeps up that growth for the next three or four quarters, it could give the U.S. a run for its money.
The Cons of Owning ARLO Stock
IPO Price Below the Range: University of Florida finance professor Jay Ritter is an expert on IPOs. In 2016, he published a study which showed that IPOs priced below the range had average first-day returns of 3% compared to 11% for those within the range and 50% for those above the range. ARLO stock priced between $18-$20 and went out at $16
The fact that Arlo delivered such a positive first-day return despite being priced below the range suggests that a correction in ARLO stock could occur over the next 6-12 months.
It’s Not Making Money: In the first six months of 2018, Arlo had an operating loss of $21.8 million, almost ten times its loss in the same period a year earlier.
Arlo faces significant competition, which suggests that its losses are only going to get worse before they get better.
“Arlo competes against some of the largest technology companies in the world, including Google (NASDAQ:GOOG, NASDAQ:GOOGL) and Amazon (NASDAQ: AMZN),” Raymond James analyst Adam Tindle said in a report to clients. “These competitors are better capitalized and have the ability to compete more intensely on price.”
Service Revenue Is Still Small: In the first six months of 2018, the company’s service revenues grew 40.2% to $17.3 million.
However, $17.3 million was just 8.2% of its overall revenues; in the first six months of 2017, service revenues represented 8.7% of its total revenue, which suggests that some hardware purchasers are not continuing to buy its monthly plans.
The Verdict on Arlo Stock
As my colleague Josh suggests, home security is a growing business that’s always going to be in demand.
That said, if you are interested in ARLO stock, I recommend that you buy NetGear (NASDAQ:NTGR), which still owns 84% of Arlo, and then wait for ARLO stock to drop back closer to its IPO price before buying the shares.
It’s a better way to play the stock’s inherent risks.
As of this writing Will Ashworth did not hold a position in any of the aforementioned securities.
