Logo of jester cap with thought bubble.

Image source: The Motley Fool.

Netgear Inc  (NASDAQ:NTGR)
Q3 2018 Earnings Conference Call
Oct. 25, 2018, 6:00 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good evening. My name is Josh and I will be your conference operator today. At this time, I would like to welcome everyone to the NETGEAR Third Quarter 2018 Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions)

Thank you. Chris Genualdi, Director of Investor Relations, you may begin.

Christopher Genualdi -- Director of Investor Relations

Thank you, operator. Good afternoon and welcome to NETGEAR's third quarter 2018 financial results conference call. Joining us from the Company are Mr. Patrick Lo, Chairman and CEO, and Mr. Bryan Murray, CFO.

The format of the call will start with a review of the financials for the third quarter provided by Bryan, followed by details and commentary on the business provided by Patrick and finish with fourth quarter of 2018 guidance provided by Bryan. We will then have time for any questions.

If you have not received a copy of today's release, please visit NETGEAR's investor relations website at www.netgear.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 expected revenue, operating margins, tax rates, expenses and future business outlook. 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 NETGEAR's periodic filings with the SEC, including the most recent Form 10-Q. Any forward-looking statements that we make on this call are based on assumptions as of today. And NETGEAR 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 mentioned on this call. A reconciliation of the non-GAAP to 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 Mr. Bryan Murray.

Bryan Murray -- Chief Financial Officer

Thank you, Christopher. And thank you everyone for joining today's call. Before we begin, I'd like to make a few comments regarding the financial reporting and consolidation. Now that the IPO of Arlo Technologies is complete, third quarter of 2018 results for Arlo Technologies are consolidated into NETGEAR's results with the exception of the portion of the net loss and loss per share attributable to the 15.8% of Arlo's common stock not owned by NETGEAR.

As stated at our Financial Analyst Day in September, we currently intend to distribute our approximate 84.2% ownership position in Arlo to all NETGEAR shareholders by the end of the first quarter of 2019 subject to market conditions and other factors including final approval by NETGEAR's Board of Directors and other customary requirements. Following the distribution Arlo results for all historical periods, including the quarter in which the distribution occurs, will be reclassified into NETGEAR discontinued operations.

Now turning to our quarterly results. Third quarter of 2018 came in above the high end of our guidance driven by the success of Orbi, cable modems and gateways, SMB switches and the Arlo business. Overall NETGEAR net revenue for the third quarter ended September 30, 2018 was $400.6 million which is up 12.7% on a year-over-year basis and up 9.2% on a sequential basis. This is a quarterly net revenue record for NETGEAR.

NETGEAR net revenue by geography once again reflects our continued strength in North America. Net revenue for the Americas was $288.8 million, which is up 18.2% year-over-year and up 11.1% on a sequential basis. EMEA net revenue was $64.9 million, which is up 4.4% year-over-year and down 5.5% on a quarter-over-quarter basis.

The quarter-over-quarter decline in EMEA was the result of the focus and success of Prime Day in the region for Arlo, which comes at a higher marketing cost. On the channel sales out (ph) perspective, we're seeing quarter-over-quarter growth. Our APAC net revenue was $46.9 million for the third quarter of 2018 which is down 4.2% from the prior comparable quarter and up 22.4% quarter-over-quarter. The year-over-year decline is primarily driven by a decline in Australian service provider revenue in anticipation of the upcoming introduction of 5G. For the third quarter of 2018, we shipped a total of approximately 5.9 million units, including 4.9 million nodes of wireless products. Shipments of all wired and wireless routers and gateways combined were about 1.7 million units for the third quarter of 2018. The net revenue split between home and business products was about 81% and 19% respectively.

The net revenue split between wireless and wired products was about 78% and 22% respectively. Products introduced in the last 15 months constituted about 35% of our third quarter shipments while products introduced in the last 12 months contributed to about 30% of our third quarter shipments. From this point on my discussion points will focus on non-GAAP numbers. The reconciliation of GAAP to non-GAAP is detailed in our earnings release distributed earlier today.

The non-GAAP gross margin in the third quarter of 2018 was 31.3% compared to 29.4% in the prior-year comparable quarter and 30.2% in the second quarter of 2018. Total non-GAAP operating expenses came in at $97 million which is up 37% year-over-year and up 9.1% sequentially. As discussed on our prior two earnings calls, we've been adding duplicate costs in anticipation of Arlo Technologies operating as a stand-alone public company. Our headcount increased by a net of 92 people to 1,200 total during the quarter. We are adding resources to the key growth areas of our business in addition to adding resources as Arlo Technologies begins to operate as a public company and expect to continue to add additional headcount during the fourth quarter of 2018.

Our non-GAAP R&D expense for the third quarter was 8.3% of net revenue as compared to 6.2% of net revenue in the prior-year comparable period and 8% in the second quarter of 2018. R&D is vital to our business and therefore we expect this expense to continue to grow as needed in absolute dollars. Non-GAAP operating margin for the third quarter was 7.1% compared to 9.5% the prior year comparable quarter and 5.9% in the second quarter of 2018.

The non-GAAP operating margin for the third quarter of 2018 includes $15.5 million of duplicate costs associated with the separation of Arlo and the corresponding dissynergies created as we hired talent to duplicate certain roles as Arlo begins to stand up on its own. This compares to zero duplicate costs in the third quarter of 2017 and $5.1 million in the second quarter of 2018. Excluding Arlo Technologies, NETGEAR's stand-alone non-GAAP operating margin for the third quarter was 12% when including the benefit of transition services agreements with Arlo Technologies and 10.3% when excluding the benefit of these agreements.

Our non-GAAP tax rate was 18.1% in the third quarter to 2018. Looking at the bottom line for Q3, we reported non-GAAP net income of $24.9 million and non-GAAP diluted EPS of $0.76 per diluted share. As previously mentioned, this includes the Arlo Technologies loss for the third quarter except for the 15.8% loss that is attributable to non-controlling interests.

Turning to the balance sheet, we ended the third quarter of 2018 with $529.8 million in cash. This includes the $187.8 million in cash held by Arlo Technologies. Excluding Arlo, NETGEAR ended Q3 with approximately $342 million in cash. During the quarter, we generated $33.8 million in cash flow from operations, which brings our total cash flow generated over the trailing 12 months to $60 million. Additionally, we used $6.5 million in purchases of property and equipment during the quarter which brings our total cash used for capital expenditures over the trailing 12 months to $23.8 million. We remain confident in our ability to generate meaningful levels of cash. In Q3, we spent $15 million to repurchase approximately 205,000 shares of NETGEAR common stock at an average price of $73.15 per share.

Since the start of our repurchase activity in Q4 2013, we had approximately 12.1 million shares. Our fully diluted share count is approximately 33 million shares as of the end of the third quarter. There are 1.8 million shares remaining under our approved buyback program and we plan to opportunistically repurchase our stock in quarters to come.

Now turning to the results for our segments. The Connected Home segment, which includes the industry-leading Nighthawk, Orbi, Nighthawk Pro Gaming and newer brands generated net revenue of $194.7 million which is up 6.3% on a year-over-year basis and up 1.8% sequentially. Excluding sales to service providers, net revenue was up 18.4% year-over-year and up 13.2% sequentially.

Both our Orbi mesh WiFi products and our lineup of cable modems and gateways were strong performers during the third quarter. As a result, we are pleased to see that we continue to hold 50% market share in US retail WiFi products which cover mesh, routers, gateways and extenders.

The SMB segment generated net revenue of $74.7 million for the third quarter of 2018, which is up 20.7% on a year-over-year basis and up 5.5% sequentially. Our switching portfolio continues to power our results for SMB. Please note that the Q3 '17 period was particularly week for SMB due to channel destocking around the world for our storage products. With the strength of our switching lineup, our market share in US retail and e-commerce channel remained high at 60%.

For Q3 results related to Arlo Technologies, please refer to the separate earnings release, which was distributed earlier today. But needless to say, we're very pleased with the reported performance, particularly in terms of revenue growth, user acquisition and paid subscriber growth.

Before I turn the call over to Patrick, I'd like to discuss the actions we're taking to neutralize the cost impact of tariffs on our business, excluding the Arlo business. First, it's worth noting that we operate a supply chain that is already diversified not only by supplier, but also by geography.

While a significant amount of our products are produced in China, we also produce a meaningful amount of products in Vietnam. The labor cost of manufacturing in China has increased in recent years. So, we had already begun the process of moving production to lower cost locations prior to the recently implemented tariff. We are now accelerating that process. Obviously, this is not something that can be implemented overnight, but we are moving very quickly and we have experience in managing this. This will mark the third time that we have moved production locations and we are confident that the move will be complete by the middle of next year.

Second, to further mitigate the impact of implemented tariffs, we will be selectively increasing the prices of our products and expect that our competition will do the same. Using this strategy of increasing prices and moving our supply chain, we expect that we can neutralize the effect of the tariffs on our net income and EPS. As a result of the mitigating efforts, we believe that our targets for 2019 in operating margin dollars and EPS will be preserved.

I'll now turn the call over to Patrick for his commentary, after which I will provide the guidance for the fourth quarter of 2018.

Patrick Lo -- Chairman and Chief Executive Officer

Thank you, Bryan, and hello, everyone. We are extremely pleased with our results for the third quarter of 2018, which exceeded our expectations for both the top line and the bottom line. The quarter was driven by the success of Orbi, cable modems and gateways, SMB switches and the Arlo business.

During the quarter, we completed the successful IPO of the Arlo business. I would like to acknowledge all of the hardwork from both the Arlo and the NETGEAR teams that went in to making this happen. It was no small task, but the two teams did a great job. And Arlo Technologies now trades on the New York Stock Exchange under the ticker ARLO.

Now, as many of you know, in early September at our Annual Financial Analyst Day, we outlined our strategy for driving the NETGEAR business forward. This strategy is based on three key activities, capitalizing on technology inflection points, creating new categories and building recurring service revenue streams.

I would now like to spend some time speaking about each of these priorities. Since our founding, we have been in the business of capitalizing on technology inflections. It is something that is in our DNA. Given our broad exposure from home to mobile to small businesses networking, we see great opportunity to continue innovating and leading in the market. In the current quarter, you will see us aggressively introducing the next generation 802.11ax WiFi product for consumers.

802.11ax is the newest WiFi standard that is optimized for accommodating many devices in the home, reducing network congestion and mitigating neighborhood interference. The last WiFi standard upgrade cycle was 802.11ac, which began in 2012. Historically, the release of each new WiFi standard has created opportunities for the rise of ASPs and for us to gain share.

Our 802.11ax Nighthawk router can handle four times the number of devices at 40% higher throughput, deliver 50% longer range and improve the battery life of all client devices. We will be incorporating 11ax technology across our entire WiFi portfolio, which will allow us to continue on the path of increasingly shifting our sales to the high end of the market.

On the SMB side, both the move from 1 gigabit to 10 gigabit switching and the shift from PoE to PoE+ switching have driven ASP increases in our business over the last few years. More recently, the transition from HDMI to Ethernet in the pro AV audiovisual interconnect market has created an opportunity for us to innovate a whole new line of switches that are optimized for managing multiple large video displays.

5G is another inflection point that we are positioned to take advantage of. It will completely change the landscape for mobile and on-premise connectivity. The evolution from LTE to 5G will provide speed and reduce latency that is far better than what we have today. We can expect countless new imaginative applications to emerge that currently do not exist. We can also expect 5G to provide a viable alternative to fixed wireline broadband around the globe.

We will be introducing 5G mobile hotspots in the current quarter and you can expect more 5G related products from us in 2019, both for the service provider and retail channels. Creating new categories is something that we try to do on a regular basis and we have been quite successful in doing so throughout our 15-year history as a public company. We were the first to bring wire free outdoor cameras to the market with the introduction of Arlo.

More recently, we were the first to bring to market a router with routing software, specifically developed for avid gamers. We were the first to develop switches built specifically for the pro-AV market. If you joined us this year at our Financial Analyst Day, then you were treated with two of our newest innovations. The first is Orbi Voice, the industry's first WiFi mesh hotspot with a speaker and voice assistant built in. The second innovation is Meural, our recent small acquisition that we completed during Q3, which is a hardware and cloud platform for the digital distribution of curated art work.

The Nighthawk Pro Gaming router, Orbi Voice and Meural are all part of our newest category under connected home business, which we call lifestyle. We are confident in our market positioning and the unique value propositions of each of these product lines. Finally, I'd like to discuss our initiative to drive recurring service revenue. After a year of experimentation, we are confident that we will continuously improve on our capabilities to build significant recurring revenue streams. This initiative provides the greatest opportunity to drive our operating margins higher.

During the last year, we have been very active, getting our customers registered and engaged with us. We are learning more about our customers every day, so that we can deliver the right services to them that fit their needs. Based on our historical shipment data of consumer WiFi routers, gateways and systems, and our estimated replacement cycle time, we believe that our installed base is approximately 25 million customers worldwide.

About 9 million of them have already registered with us with a unique user ID plus all updated user credentials and NETGEAR product ownership. Half of them opted also for marketing messages from us. This represents a massive opportunity for us to tap into and deliver value to our customers in the form of services. We currently have five different services available to our connected home products customers and three different services for our SMB customers.

Our goal is to get to 1 million paid service subscribers as soon as possible. The future for NETGEAR will be focused on continuing to provide to our installed base the innovation in Internet connectivity they need, while creating the right value-added services that are most desired by them. By being at the forefront of innovation in connectivity hardware, supplemented by differentiated software, we will continue to command the premium end of the market, which will be key to successfully rolling out paid value-added services to our installed base.

I will now turn the call back to Bryan for the Q4 guidance.

Bryan Murray -- Chief Financial Officer

Thank you, Patrick. For the fourth quarter of 2018, we anticipate revenue will be in the range of approximately $430 million to $445 million. Net revenue for the combination of CHP and SMB is expected to be in the range of $275 million to $290 million, while Arlo is expected to be in the range of $140 million to $155 million.

Fourth quarter GAAP operating margin is expected to be in the range of negative 2.5% to negative 1.5%, which includes approximately $7.5 million of one-time costs associated with the separation, inclusive of professional service fees for various advisory and audit related costs. Non-GAAP operating margin is expected to be in the range of 2.5% to 3.5%, which includes approximately $21 million of cost to duplicate certain roles and as the business begins to -- as Arlo begins to stand up on its own.

Excluding Arlo, we expect the NETGEAR non-GAAP operating margins to be in the range of 8.5% to 9.5%, which excludes any benefit from transition services agreed with Arlo. Our GAAP tax rate is expected to be approximately 85% and the non-GAAP tax rate is expected to be approximately 22% for the fourth quarter of 2018.

Operator, that concludes our comments and we can now take questions.

Questions and Answers:

Operator

(Operator Instructions) Your first question comes from Adam Tindle with Raymond James. Your line is open.

Adam Tindle -- Raymond James -- Analyst

Okay, thanks, and good evening. I just wanted to start, Bryan on Q4 guidance. Looks like you're implying revenue growth sequentially ex Arlo, but Q4 operating margin down sequentially ex Arlo. So, why wouldn't we see more leverage? Are there additional costs that weren't there in the September quarter? I know you ran through some there at the end, but I'm just hoping that you could maybe run through the buckets and how they compare to the last quarter on a sequential basis?

Bryan Murray -- Chief Financial Officer

Yeah, I think the big driver in the sequential movement in the non-GAAP operating margin relates to the Arlo business. You may have heard from the management team earlier that they are embarking an accelerating efforts to acquire end users. And as a result, that's going to require some additional marketing dollars. So, that's probably the bigger driver.

Q4 is typically a very promotional season where we do make some investments in that area. Black Friday, Cyber Monday has grown from one or two-day event into expanding a couple of weeks. So, certainly a very promotional period of time.

Adam Tindle -- Raymond James -- Analyst

Okay.

Bryan Murray -- Chief Financial Officer

And also as we've seen it I mean it looks like IP cameras more seasonal and more promotional than the rest of our product lines. So, that's why it gets a bigger influence.

Adam Tindle -- Raymond James -- Analyst

Right, OK. So, then the 2019, 10% to 11% operating margin ex Arlo that you outlined at the Analyst Day, is that also decreased or is that still intact?

Bryan Murray -- Chief Financial Officer

It stays intact. As I said with regards to the tariff, we are embarking on mitigating efforts to offset the impact on operating income dollars as well as impact to EPS. Depending on how we approach that, it may change the percentage slightly, but again we are committed to driving toward the same implied operating income dollars and EPS that we guided to early in September.

Adam Tindle -- Raymond James -- Analyst

Got it, OK. And maybe just one quick one for Patrick. I wanted to ask a little bit more on the distribution of Arlo. Can you maybe just talk about the logistics to this and ensuring it doesn't cause significant volatility in shares? I mean what would prohibit a sale of the business instead and why not explore this, given the market's reaction to the IPO so far? Thanks.

Patrick Lo -- Chairman and Chief Executive Officer

No, I think you know, basically, the stock market is heavily influenced by a lot of risk-off mentality. We still are very confident in the long-term success of Arlo. I mean, you cannot have a better position owning about 40% plus of the market, which is expanding significantly and at the same time, expanding the product portfolio. I mean, they just shipped the Doorbell and they've added Lights and they actually will ship even more. I think they also announced that you will have another new category come CES.

So, I think there is nothing better in position for that. So, we are still very confident that we're going to go ahead and that will be really good market acceptance of the distribution of the shares. So, it has never come across our mind that we would change the plan anytime soon, (inaudible) never, anything would happen. But, for now, the plan is to on and we're pretty confident we're still on that path.

Adam Tindle -- Raymond James -- Analyst

Okay, thank you.

Operator

Your next question comes from Rob Stone with Cowen and Company. Your line is open.

Robert Stone -- Cowen and Company -- Analyst

Hi, guys. I wanted to ask about the distribution as well. I guess you've stated that you expect it to be completed before the end of Q1 and I know that some of the necessary hurdles include getting both the companies fully separated, making sure it qualifies for tax-free distribution and so forth. Is it possible that you could still make a distribution before the end of 2018?

Bryan Murray -- Chief Financial Officer

At this point we're committing to the end of Q1 2019. Obviously, we're working as fast as we can, but sometime between now and the end of Q1 '19 is what we are able to offer.

Robert Stone -- Cowen and Company -- Analyst

Okay.

Bryan Murray -- Chief Financial Officer

There is still a lot of variables like moving location, IT systems up and running, customer contracts all tied up, so, yeah, there is still a lot of (inaudible).

Robert Stone -- Cowen and Company -- Analyst

Yeah, sure. Okay. So, sometime in Q1 and --

Bryan Murray -- Chief Financial Officer

Absolutely.

Robert Stone -- Cowen and Company -- Analyst

And you mentioned that there's a significant amount of duplicate expenses in the fourth quarter including a time when you're providing some transition services to Arlo. So, obviously, your consolidated expenses that you report will drop once Arlo is spun off. But, can you give us a sense of how quickly you can then pair back these extra expenses where your -- you have dissynergies and you're also providing services to Arlo? So, how big a step-down in core NETGEAR OpEx might we be able to see post the separation?

Bryan Murray -- Chief Financial Officer

I think what we messaged at the Analyst Day is that we will experience some upward pressure on OpEx as a percentage of net revenues in the shared services functions just by way of taking up the Arlo business in the top line. But again we remain committed to be able to deliver that double-digit operating margin for 2019 and believe that the underlying performance at both CHP and SMB gives us confidence in that.

Patrick Lo -- Chairman and Chief Executive Officer

Of course, I mean given the seasonality of the CHP business, you expect that it will be lighter in the first half and better in the second half in terms of operating margin percentage.

Robert Stone -- Cowen and Company -- Analyst

Okay. With respect to the tariff impact, it seems like it's going to be a problem for everybody since China is such a major supply chain location for companies in the markets that you serve. Can you give us a sense of what you expect the pricing impact might be, just thinking about whether this would have any impact on end demand? Obviously, if everybody has to raise prices some, then it shouldn't have a competitive effect necessarily, but perhaps a dampening effect on consumer demand. So, if you can give us a sense of this -- of the scope of likely price increase?

Patrick Lo -- Chairman and Chief Executive Officer

Well, first and foremost, we said that a good chunk of our products are already produced in Vietnam and also not all our products are subject to tariffs. And then, also not all of our products are sold in the United States. So, when you pair all that one after another, so the impact is not 100%. And what our objective right now, all right, is to bring in as much product as possible in Q4 just to make only the 10% tariff on those products that are affected. And then we'll try to minimize the import of anything that is 25% tariff.

We expect that our move of the factories to be completed no later than middle of next year. So, our plan is to import goods for the US, mostly in Q2 of next year, which hopefully will be completely tax free even not at 10%. So, of course, I mean, so if our plans got executed completely, then the tariff effects when you take into all that account will be very minimal. So -- but still we need to offset that, right. So, we're going to raise prices, but we're not going to (ph) raise prices across the board with a fixed percentage. I mean, we will surgically raise prices on products that we believe, number one, that people are less price elastic; two, we have a unique advantage that people would pay for it; and thirdly, that we believe that it would not dampen demand for that particular product. So that's why put that all together we're still pretty confident that the tariff will have minimal effect of achieving our full year 2019 operating margin dollars and EPS.

Robert Stone -- Cowen and Company -- Analyst

Okay. And final question for you, Patrick. I wanted to get some sense of this is the quarter in which you're going to be introducing for the first time 802.11ax as well as 5G products. But I imagine it will take awhile for both of those things to grow up their share of the overall revenue. So by when should we expect those inflections to begin to have a material impact? I'm not asking for a specific percentage but just when do you think we will really notice that impact on revenue? Thanks.

Patrick Lo -- Chairman and Chief Executive Officer

Well, given the fact that the ASP is going to be kicked up another notch, all right, generally speaking every year when we introduce some new technology the ASP get kicked up, for that particular line of product, 20% to 25%. So this is significant. And -- because the introduction is not like selling online onesie-twosie, we're introducing into the channels and our revenue is counted on a shipping basis. So I would still say as far as Q4 is concerned it's material, 11ax and 5G from a revenue perspective is material.

From a sales out perspective, we do agree with you that it probably would take into the length part of the first half of next year to be material. However, based on our experience 11ac pretty much overtook 11 in three years into the introduction. So I would say now we introduce 11ax and 5G at the end of 2018, that means by 2021 during Christmas time then pretty much 5G and 11ax will be the primary portion of our both shipment as well as sales out.

Robert Stone -- Cowen and Company -- Analyst

Great, that's super helpful color. Thanks.

Operator

Your next question comes from Rob Cihra of Guggenheim Partners. Your line is open.

Rob Cihra -- Guggenheim Securities -- Analyst

Hi, thank you very much. Just a couple of things. One, the -- Patrick you didn't call out Nighthawk Pro Gaming Router I don't think. And I just wasn't sure if that was just because you can't call out everything or if that was not necessarily a, I don't know, stronger contributor. I mean clearly it's a contributor year-over-year since you didn't have it a year ago. So I guess I'm just curious how that's going with a refresh you've had that sort of thing.

And then separately on the service provider being weaker even than expected and in the long term that's probably a good thing, was that all due to Telstra decline or was there something else? And is that sort of $38 million a quarter, is that now the kind of the new go-forward number if there was such a thing? Thanks.

Patrick Lo -- Chairman and Chief Executive Officer

Okay. So first question answered first. I did call out Arlo, I did call out Orbi, I did call out Pro AV, so not just NETGEAR Pro Gaming. But on the Nighthawk line, right, NETGEAR Pro Gaming is the newest line of product. Furthermore, my son is a gamer, my son in law is a gamer. So that's why it kind of comes to my mind first.

Rob Cihra -- Guggenheim Securities -- Analyst

Okay.

Patrick Lo -- Chairman and Chief Executive Officer

Yeah. But -- so they all performed really well. I mean, the Nighthawk Pro Gaming clearly is a star, it's well recognized and it's very high margin for us. I mean, we are very pleased with its performance, so pleased that we introduced our second SKU and tried a new price point. We just introduced last week the premium pro gaming router at $499 (ph) and they sell and it's pretty cool. And so I think -- I mean that we are very, very pleased with it.

And then in terms of the lumpiness of service provider sales from one quarter, no, I wouldn't look at it just one quarter because I mean they have their different priorities in CapEx, in inventory position. We should look what on an average four-quarter basis, we're still pretty confident it will stay in that range that we talked about, around $35 million a quarter.

Now I'm not them. I cannot speak for them all right. So the only thing I can tell you it's not Telstra only. I mean, and if I were them I would probably save some bullets for the 5G, right. I mean you know -- I mean 5G is coming, why they're buying more 4G. I mean, that is the main thing, I am not telling them that I know exactly, but that's how I'm guessing it. So did I miss any questions?

Rob Cihra -- Guggenheim Securities -- Analyst

No, that sounds good. And I guess just the last thing. Is there anything else if you look at your domestic business and the service provider, I mean is the sort of, I don't know, hesitation or planning or whatever for 5G, does that impact you similarly or why is it different in Australia?

Patrick Lo -- Chairman and Chief Executive Officer

No, I didn't say that.

Rob Cihra -- Guggenheim Securities -- Analyst

Oh, I am sorry.

Patrick Lo -- Chairman and Chief Executive Officer

I just said I do not want to specify whether it's Australia or Northern America or Europe.

Rob Cihra -- Guggenheim Securities -- Analyst

Oh, I am sorry.

Patrick Lo -- Chairman and Chief Executive Officer

(multiple speakers) our customer. But I'm just saying that, generally speaking, all right, if I were a carrier and I know 5G is coming why should I load up more inventory on 4G is what I meant (ph).

Rob Cihra -- Guggenheim Securities -- Analyst

Right. Okay. And then lastly if I could, a follow-up, just is there -- at what point -- it's obviously too -- it's quite early but, if you guys were going to start reporting like a services and actual services revenue number. I mean is that the kind of thing that's even on the horizon or -- I mean, obviously you'd like to (inaudible) by definition that would mean that was big enough that you want to report it. But I am just curious when that might be the type of thing that you would actually call out in dollar terms? Thank you.

Patrick Lo -- Chairman and Chief Executive Officer

Sure. I mean it's pretty simple, right, I don't want to report anything that's immaterial. So today it's still immaterial. Now how do I count it as material. I wouldn't say purely on the top line, right, because we're still primarily a hardware company. I mean, top line wise it would never be material to the point of (ph) 10% or something. But on the bottom line, it's big. And you have to understand most of our services are pass-through basis, Bitdefender for our Armor, Circle for our parental control, gaming, NetDuma, all these, we actually have very little operating expenses, we basically cut on this. And because of that we only report it on a net basis on the revenue.

So I would say by the time that the service revenue is contributing for more than 10% of our overall operating profit, then we'd probably start reporting it. That's how to look at it.

Rob Cihra -- Guggenheim Securities -- Analyst

All right. I look forward to that then. Thank you.

Patrick Lo -- Chairman and Chief Executive Officer

Yeah, hopefully very soon.

Operator

Your next question comes from Hamed Khorsand with BWS Financial. Your line is open.

Hamed Khorsand -- BWS Financial -- Analyst

Hi. First off, wanted to ask you about this 11ax product and you were talking about at your Analyst Day, but you also mentioned that it could come out at the end of September or early October but it's been delayed based upon that commentary. Was there a reason for that?

Patrick Lo -- Chairman and Chief Executive Officer

Yes, it's pretty simple. if the software is not up to our QA standard we're not going to introduce it. And the software is -- at the firmware level it's primarily supplied by our chip vendors and they have to get it up to the standard that we believe that is solid before we introduce them.

Hamed Khorsand -- BWS Financial -- Analyst

Okay. And then as far as the SMB business is concerned, you were citing some momentum in the switches. Is that a one-time event or do you think you can have sustainable growth from here on at the $74 million level?

Patrick Lo -- Chairman and Chief Executive Officer

Yeah, I mean, I would like to point it out, I mean the $74 million level is a pretty good go-forward basis, and we said that we're going to continue to grow it, it's mid single digit on an annual basis and it is powered by the switches. And as we said in many times both in Analyst Day and all the calls, I mean, the kind of switches that's powering our world are POE+, 10-Gig, ProAV and we don't see that would change in the near future. I think this trend will continue on for the next two, three years -- two, three years until we -- there is another new category that we're pushing and who knows maybe in two, three years it will be significant. We call it App Switches, all right, which is a new category that we introduced and hopefully it will be a star in two, three years' time.

Hamed Khorsand -- BWS Financial -- Analyst

Okay. And then also just from a Q4 standpoint, you haven't really talked about any of your marketing plans or anything. So I'm assuming that you're comfortable with just on an ongoing basis what you've historically done. Are you seeing any competitive threats on the horizon or are you just keeping the marketing stable?

Bryan Murray -- Chief Financial Officer

I think we said earlier that Q4 is typically a more promotional season. So, I think we're expecting it to be normal for that time of the year. I think we also mentioned that the Arlo business is a little more seasonal and given their push for acquiring users that they're going to be a little more promotional in Q4. So, other than that I think it's similar to what you would see in a Q4 period.

Hamed Khorsand -- BWS Financial -- Analyst

Okay. Now from a competitive standpoint, my question isn't general. I was really focused on NETGEAR, not Arlo.

Bryan Murray -- Chief Financial Officer

Yes, NETGEAR, I expect it to be similar behavior as we've seen in the past, a little more contra-revenue marketing focused in Q4, driven by the Black Friday and Cyber Monday promotional periods.

Hamed Khorsand -- BWS Financial -- Analyst

Okay, thank you.

Operator

Your next question comes from Woo Jin Ho with Bloomberg Intelligence. Your line is now open.

Woo Jin Ho -- Bloomberg Intelligence -- Analyst

Great, thank you for taking my question. So, let me spin the service provider question around a little bit. So your Connected Home ex-service wire business was that record revenues for the third quarter since 4Q 2015? What was driving that strong sequential uptick in the quarter?

Patrick Lo -- Chairman and Chief Executive Officer

Yes, I would like to point out the same thing it's Orbi, it's NETGEAR Pro -- Nighthawk Pro Gaming, it's the cable, those are three. I mean, it is pretty amazing that we were able to continue to drive the market forward.

Woo Jin Ho -- Bloomberg Intelligence -- Analyst

Sure. Okay. And then in terms of your ability to pass through the tariff cost to the customers, part of that is your competitors and I believe you mentioned on the prepared remarks the competitors will follow suit on that. But, what gives you the confidence that your competitors will raise their cost, especially given that they want to take market share away from you?

Patrick Lo -- Chairman and Chief Executive Officer

Well, I mean -- so, of course, this is our reading of the market, right and we have intelligence, we have our years on the ground. And most contracts required you you have to let your distributors and your retailers know of price increases 90 days in advance. So we are well within that situation. And furthermore, I mean, on my guess, all our competitors have got production 100% in China.

So, talking about the ability to absorb carriers or pass it on, we are in a much stronger position than our competitors. And furthermore, the fact of the matter is no matter which class of products you talk about, it would always come in at 25% to 35% premium anyway. So you could figure who would have the upper hand.

Woo Jin Ho -- Bloomberg Intelligence -- Analyst

And then given all the factors in terms of the tariffs or ASPs, your new products that have come our in 2019, do you still have confidence on the 3% to 5% revenue growth targets for next year that you gave on the Analyst Day?

Patrick Lo -- Chairman and Chief Executive Officer

Definitely. Well, I mean (inaudible) and the new ones is all the tariff tag line is counted as top line.

Woo Jin Ho -- Bloomberg Intelligence -- Analyst

Great, thank you.

Patrick Lo -- Chairman and Chief Executive Officer

Sure.

Operator

Your next question comes from Trip Chowdhry with Global Equities Research. Your line is open.

Trip Chowdhry -- Global Equities Research -- Analyst

Thank you and congratulations on a very solid quarter and a very solid guidance. I had a question on your outlook. Can you explain really what this product is and what is the business model behind it? And since you acquired this company, how can we think about (inaudible) product will get evolved over the next two to three years?

Patrick Lo -- Chairman and Chief Executive Officer

Well, I mean, this product is pretty simple, you know I have been taking it around the world, showing it to customers, showing it to channel partners, showing to friends. There is not a single time that the person I show it to didn't say, oh, I want one, all right. So, they gave me the confidence it's something that really people want. I mean, you've seen it, you love it. I mean -- and it's not just display of artwork, but it's curation, they curated the artwork, you get all the explanation in the background and the quality.

I mean, as one of the magazine reviewers said it, it is so real that you really want to touch the brushes on it (inaudible). So -- but it's so real. So, that's great of the hardware platform, but more attractive is in order to gain access to those curated artwork, you are going to pay, all right on a monthly basis to the tune of about $4 to $5 a month, depends on whether you are yearly or quarterly or monthly rate, and they have a high attach rate. Even though if you buy that (inaudible), you get some freebies to begin with and the freebies are pretty darn good actually. However, there is still a high attachment rate for people to go beyond the freebie and complete access of $40,000. And all the deals that they are still negotiating, all right, to get more curator art work and at the next stage of expanding the revenue business model is very intriguing.

So, we believe by combining the tremendous platform they had built with the worldwide distribution channels that we have is a pretty powerful combination. And furthermore, I mean, we can add a lot of technology to it. We are very excited about this and coupled with all the voice, coupled with NETGEAR Pro Gaming, I mean it's a fantastic triumvirate of a lifestyle line of products in the house. And nobody, nobody could rival that.

Trip Chowdhry -- Global Equities Research -- Analyst

A follow-up, like when I look at the various spot rates and go to the arts centers, I do see there are many form factors of the artwork, while currently Murale (ph) only has one form factor of the same. Do you think down the road they may say a smaller form factor of the frame, so that some artwork work which is of a different size can be viewed in a different setting?

Patrick Lo -- Chairman and Chief Executive Officer

We are having a fantastic product plan in the future, which I cannot disclose.

Trip Chowdhry -- Global Equities Research -- Analyst

Beautiful. Do we -- do you think we can see some updates from Murale at the Consumer Electronics Show?

Patrick Lo -- Chairman and Chief Executive Officer

Absolutely. Please come.

Trip Chowdhry -- Global Equities Research -- Analyst

Beautiful. Congratulations on a very solid quarter.

Patrick Lo -- Chairman and Chief Executive Officer

Thank you, thank you.

Operator

There are no further questions at this time. I will turn the call back to the presenters.

Patrick Lo -- Chairman and Chief Executive Officer

Thank you for everybody joining today's call. We are very pleased with the successful quarter in Q3 for all three businesses, Connected Home, SMB and Arlo. We are excited even about more of the opportunities that are ahead of us and specifically in Q4 and I look forward to updating you all again on our next earnings call after a very exciting holiday season. Thank you everyone. Bye-bye.

Operator

This concludes today's conference call. You may now disconnect.

Duration: 41 minutes

Call participants:

Christopher Genualdi -- Director of Investor Relations

Bryan Murray -- Chief Financial Officer

Patrick Lo -- Chairman and Chief Executive Officer

Adam Tindle -- Raymond James -- Analyst

Robert Stone -- Cowen and Company -- Analyst

Rob Cihra -- Guggenheim Securities -- Analyst

Hamed Khorsand -- BWS Financial -- Analyst

Woo Jin Ho -- Bloomberg Intelligence -- Analyst

Trip Chowdhry -- Global Equities Research -- Analyst

More NTGR analysis

Transcript powered by AlphaStreet

This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see our Terms and Conditions for additional details, including our Obligatory Capitalized Disclaimers of Liability.

Motley Fool Transcribers has no position in any of the stocks mentioned. The Motley Fool recommends Netgear. The Motley Fool has a disclosure policy.