iRobot Corp (IRBT) 2019 Q3 法說會逐字稿

Good day, everyone, and welcome to the iRobot Third Quarter Financial Results Conference Call.

This call is being recorded.

At this time, for opening remarks and introduction, I would now like to turn the call over to Andy Kramer of iRobot Investor Relations.

Please go ahead.

Thank you, Sonia, and good morning, everybody.

Before I introduce the iRobot management team, I would like to note that the statements made on today's call that are not based on historical information are forward-looking statements made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

These forward-looking statements are subject to risks and uncertainties and involve many factors that could cause actual results to differ materially from those expressed or implied by such statements.

Additional information on these risks and uncertainties can be found in our public filings with the Securities and Exchange Commission.

iRobot undertakes no obligation to update or revise these forward-looking statements whether as a result of new information or circumstances.

During this conference call, we may also disclose non-GAAP financial measures as defined by SEC Regulation G, including adjusted EBITDA, non-GAAP gross profit, non-GAAP operating income, non-GAAP income tax expense, non-GAAP net income and non-GAAP net income per share.

Our definitions of these non-GAAP financial measures and reconciliations of each of these non-GAAP financial measures to the most directly comparable GAAP measure are provided in the financial tables at the end of the third quarter 2019 earnings press release that we issued last evening, which is available on our website.

On today's call, iRobot's Chairman and CEO, Colin Angle, will briefly review the company's performance for the third quarter of 2019, highlight major accomplishments and offer his perspective on the major drivers shaping our outlook for the full year.

Alison Dean, Chief Financial Officer, will detail our financial results for the third quarter of 2019 and review our updated expectations for 2019.

Colin will then wrap up our prepared remarks with his thoughts on our preliminary view into 2020.

After that, we'll open the call for questions.

At this point, I'll turn the call over to Colin Angle.

Good morning and thank you for joining us.

Despite challenging market conditions in the United States, we reported a good quarter with both revenue and EPS surpassing our plans.

Revenue of $289 million grew 19% due to strong international growth and the large Amazon shipment we previously expected to occur in the fourth quarter.

Our top line growth was driven by 25% international growth primarily due to a 27% increase in EMEA and 40% growth in Japan.

This more than offset a 7% decline in the U.S.

While we believe that our growth overseas exemplifies the category's overall health and vitality, U.S. category growth has remained subdued as the direct and indirect impacts from rising tariffs on Chinese imports weigh heavily on consumers, retailers and suppliers.

From a bottom line perspective, the combination of higher revenue, better-than-anticipated gross margins and disciplined spending resulted in a 15% operating margin and EPS of $1.24.

Given our results and accomplishments to date, our plans going forward and current market conditions, we have narrowed the range on our full year 2019 expectations, which we'll discuss later on the call.

We executed well across many fronts during the third quarter and I'd like to briefly highlight those important accomplishments.

Our growth in EMEA demonstrates our ability to participate in the category's robust expansion despite aggressive price competition.

During the third quarter, we launched the Roomba s9 and s9+ as well as the Braava jet m6 robot in EMEA, further differentiating us in the premium segment.

Our accomplishments in this region also included progress with the beta trial of our Terra robotic lawn mower in Germany, which will be ending shortly in conjunction with the end of the mowing season.

We expect to commence online sales in Germany next year.

I'll provide some additional color on Terra in a few moments.

In the Asia Pacific region, we enjoyed low double-digit revenue growth.

Thanks in large part to outstanding performance in Japan.

Our top line growth and market share expansion in Japan reflects solid execution of our go-to-market plans.

Sell-through activity remained very strong in the third quarter in advance of an increase in Japan's consumption tax earlier this month.

During the quarter, we successfully launched the Braava jet m6 in Japan and plan to introduce the s9+ in early 2020.

With the launch of the Braava jet m6, consumers worldwide are now benefiting from a mainstream mopping robot that offers a powerful combination of coverage, cleaning capability and spatial awareness.

Thanks in part to the m6's early traction and our expectation for a strong Q4, we anticipate that our Braava category will surpass $100 million in annual revenue and at least 20% year-over-year growth.

We believe the sales ramp of the m6 is an important step forward in making Braava the second pillar of our growth engine and in diversifying our business beyond vacuuming.

Terra represents a third emerging pillar for future growth.

In addition to the previously mentioned activities in Germany, we also commenced a smaller, closely controlled beta trial in the U.S. that will run until the end of October.

We are now putting the sales, marketing and operational plans in place to support limited U.S. online sales of Terra next year.

We are focusing development on further enhancing Terra software, thereby elevating overall performance, including mission completion rates and system installation.

We believe that our learnings over the coming quarters and related software enhancements will set the stage for large-scale commercial launches in the spring of '21.

In addition to our third quarter international product launches, our investment in digital features is delivering tangible value to consumers worldwide.

Our newest robots were designed as software-centric product platforms, which enable us to incrementally improve performance and deliver completely new features and functionality through over-the-air updates.

For example, we recently added new features like Keep-Out Zones, which allow owners to designate areas that our robots are prohibited from entering; Smart Charge and Resume that enables Roomba to charge only enough to resume and complete its mission; and we added Imprint Link technology to our existing Roomba 900 fleet, which supports pairing with the m6 to coordinate vacuuming and mopping missions.

These new capabilities demonstrate the value of spatial awareness in our robots.

We believe that our robots' understanding of their environment will enable them to play an increasingly important role in making the smart home smarter.

We are working closely with select smart home development partners who plan to leverage certain data sets collected by our robots with the consumer's approval.

Additionally, we are advancing activities that will enable our products to work seamlessly with other smart home devices.

We believe that further progress in this area will increase our competitive differentiation, thereby further building consumer loyalty and driving sales in the process.

We expect to shed more light on these efforts over the coming quarters.

I'd like to now turn my comments to the U.S. marketplace, where category growth has been muted by rising tariffs on Chinese imports.

Last year at this time, tariffs were 10% on List 3 goods, which include robot vacuum cleaners.

However, this tariff increased to 25% in May of 2019.

Although August -- through August, U.S. category growth had moderated well below the 30-plus percent CAGR experienced over the past several years.

However, during this period, we gained share in the category.

To partially offset the higher costs associated with the 25% tariff rate, we raised prices at most of our RVC lineup in late July.

Most competitors, however, opted to absorb the tariffs and keep prices static.

Subsequently, we experienced greater demand elasticity than we expected, which resulted in suboptimal sell-through in August and September.

To drive consumer demand and defend our category leadership, we rolled back prices to pre-tariff levels earlier this month on most of our SKUs.

Based on preliminary data, it appears that this tactic has helped improve sell-through levels, and we are optimistic that our marketing and promotional plans will facilitate further progress.

We understand that prioritizing growth through lower prices while incurring higher tariffs will increase pressure and gross margins and overall profitability in the fourth quarter and into 2020.

Accordingly, we are taking steps to get out from under these tariffs while operating as efficiently as possible as long as these severe tariffs persist.

First, we are aggressively pursuing an exemption from List 3 tariffs and submitted our application for an exemption at the beginning of July.

We believe that our position has strong merit.

But with over 30,000 applications now awaiting review, it could take several more quarters before we learn whether our request for an exemption will be granted.

Second, we have made great progress with our efforts to diversify manufacturing outside of China.

Products from our contract manufacturer's new line in Malaysia were successfully qualified during the third quarter, and we are ahead of schedule to support volume production to begin in 2020.

While we are still finalizing 2020 volumes for Malaysia, our current plan is to produce one entry-level SKU in this country and add additional SKUs as needed.

Finally, we continue to control operating costs by curbing discretionary spending and carefully managing the timing and pacing of hiring.

These actions are expected to help us keep operating costs relatively flat in the fourth quarter versus the same quarter 1 year ago and will help limit expense growth in 2020.

Before I conclude my comments, I'd like to offer my thoughts on our recent patent litigation.

As many of you know, during the past decade, iRobot has withstood many competitive forays into our category.

During this time, we've invested aggressively to widen our competitive moat by innovating and protecting our intellectual property with over 1,000 patents.

In 2017, we undertook substantial legal action against multiple competitors that ultimately resulted in a favorable ITC ruling and related settlements.

Last week, we took legal action to gain a preliminary injunction to order one of our competitors, SharkNinja, to halt all sales and distribution of its newest robot based on infringement of certain iRobot patents related to features launched in our i7+ robots.

Our engineers have worked tirelessly over many years to perfect our auto-evacuation technology along with our smart mapping capabilities.

We will not stand by and watch any competitor try to tilt the playing field in their favor by misappropriating our intellectual property, and we are taking these actions to protect our innovations.

Given that this litigation is ongoing, we will refrain from commenting further, and we would appreciate your understanding in this regard.

In summary, we expect to deliver revenue and operating income at the lower end of the revised 2019 financial targets that we set in July with EPS near the midpoint.

Category growth outside the U.S. remains very robust and the success of our new product launches in EMEA and Japan are helping us fortify our leadership position.

In the U.S., market conditions remain challenging, but we have taken decisive steps to defend our technology and market leadership.

At the same time, we will continue to diligently manage our costs while funding initiatives that are crucial to long-term success.

iRobot has pushed the boundaries of what is possible in consumer robotics by refusing to rest on its laurels and by setting and achieving ambitious goals.

We're excited for what we believe is in store over the coming years and we are prioritizing accordingly to drive success in 2020 and beyond.

I'll now turn the call over to Alison to review our third quarter results in more detail.

After that, I will return to offer some closing thoughts on our plans for 2020.

Alison?

Thanks, Colin.

I'd like to preface my comments by reminding investors that all comparisons for the third quarter and the first 9 months of 2019 will be against the comparable period of 2018 unless otherwise noted.

Our third quarter results exceeded our plans for revenue, operating income and EPS.

Quarterly revenue increased 9% to $289 million.

Thanks to strong 25% growth overseas fueled by a 27% increase in EMEA and 40% growth in Japan, which more than offset a 7% decline in the U.S. In July, we had expected third quarter revenue would be slightly down versus last year in part because we expected a large shipment for Amazon to occur in the fourth quarter.

Amazon subsequently adjusted its plans once again and requested the shipment in the third quarter.

Our 47% gross margin for the third quarter was better than expected but down 400 basis points year-on-year due primarily to pricing and promotional activity and the impact of tariffs.

With that said, the impact of these items on Q3 gross margin was partially offset by progress in our ongoing effort to reduce COGS.

Operating income for Q3 was $43 million.

Q3 operating expenses decreased by 4% to $94 million, representing 33% of revenue versus 37% last year.

The decrease in spending in absolute dollars reflects ongoing physical discipline across each major functional area as well as lower short-term and long-term incentive compensation expenses.

The combination of higher revenue and lower operating costs more than offset the gross margin decline, enabling us to deliver 15% operating income, up from 14% in the same quarter 1 year ago.

Our Q3 2019 effective tax rate was 18.2%, including $0.2 million of discrete benefits.

Our Q3 tax rate before discrete items was 18.6%, driven by higher-than-expected R&D tax credits.

EPS was $1.24 for the quarter, which included just $0.01 of a net discrete tax benefit related to the impact of stock-based compensation windfall.

Last year's Q3 EPS of $1.12 included $0.13 related to stock compensation windfalls.

For the first 9 months of 2019, our performance reflects revenue growth of 11% to $787 million; an operating income decline of 8% to $70 million; and EPS growth of 3% (sic) [4%] to $2.27.

We ended Q3 with $91 million in cash, down from $157 million at the end of Q2 and in line with our expectations as we built inventory for the heavy Q4 sales season.

Q3 ending inventory was $248 million or 149 days compared with $161 million or 113 days last year.

Recall that our U.S. inventory value at the end of September includes the impact of tariffs at the 25% level.

Consistent with our commentary on prior calls, we believe that inventory levels have peaked in Q3 and will decline significantly at year-end.

I'd now like to provide you with additional detail on some of the underlying assumptions for our full year 2019 and fourth quarter financial expectations.

We currently expect full year revenue of $1.2 billion to $1.21 billion, which equates to year-over-year growth of approximately 10% to 11%.

This full year target implies fourth quarter revenue in the range of approximately $413 million to $423 million on year-over-year growth of up to 10%.

We expect high single-digit growth in the fourth quarter in the U.S. and internationally.

Our revenue expectations contemplate yen and euro exchange rates roughly in line with current rates, plus or minus 5%.

As you know, 2019 has been a year of unprecedented new product launches.

This was highlighted by the international introduction of the Roomba i7+, the domestic and EMEA introductions of the Roomba s9+, the launch of Braava jet m6 in most major markets worldwide and initial commercial activities for Terra.

Overall, revenue from these products is expected to exceed our 2019 target of having 15% of total 2019 revenue come from new products.

As Colin noted, we expect the Braava family to deliver annual revenue growth in excess of 20%.

In terms of gross margin, we expect increased Q4 pressure primarily due to the combination of the recent price reductions, typical fourth quarter promotional activity and the impact of the tariff costs.

We anticipate full year gross margin of approximately 45%, which is at the low end of our prior range.

This implies Q4 gross margin of approximately 40%.

We still expect that the direct tariff cost for the full year will be in the range of $35 million to $40 million, which covers current tariff levels.

For the full year, we now expect operating expenses to total 39% of revenue, with only 3% year-over-year expense growth as we have curbed spending to mitigate the impact of the previously reduced revenue outlook and gross margin pressure.

We now expect full year operating income of approximately $75 million to $80 million, with an operating margin between 6% and 7%.

We currently anticipate some favorable benefits to both nonoperating income and taxes.

The acquisition of one of our investments closed earlier this month, which we expect will contribute other income of over $8 million.

In terms of taxes, we now expect our full year tax rate before discrete items to be approximately 19%, which is at the low end of the prior range of 19% to 21%, driven by the higher R&D tax credit.

As a result, we expect our full year EPS to be between $2.60 to $2.80 with Q4 EPS in the range of $0.33 to $0.53.

In summary, our performance in the third quarter exceeded our plans, reflecting positively on our execution around the globe.

As we work to finalize our annual operating plan for 2020, we do so with the recognition that U.S. market conditions have changed profoundly during the last year.

We have taken and will continue to take the actions that we believe will enable us to protect and advance our technology and category leadership and ultimately emerge from this environment as a stronger company.

Outside of the U.S., the growth dynamics remain vibrant.

Although there is intense competition, we remain confident in our ability to capitalize on the opportunities we see to further expand our business overseas.

At the same time, we plan to carefully manage our cost structure without impacting our ability to advance innovation and engage and support our retailers and consumers worldwide.

I'll now turn the call back to Colin for his preliminary thoughts on 2020.

Thanks, Alison.

As we move forward, our team is focused on executing on a variety of strategic priorities in 2020.

These include keeping prices at pre-tariff levels to drive U.S. segment growth and protect our market share; delivering on our road map to delight the consumer across the portfolio spanning RVCs, robotic mops and robotic lawnmowers; driving Roomba sales globally by capitalizing on the efficiency of our working media spend for Roomba while tapping further into the strong brand loyalty we've built to further diversify beyond vacuuming; and leveraging our substantial and ongoing investment in software to further differentiate our robots and elevate the user experience.

As Alison noted, we have not yet finalized our 2020 operating plan, and accordingly, are not yet prepared to share specific expectations.

Nevertheless, we'd like to share some of the performance parameters that are guiding our planning, which we expect to further refine over the coming months.

We see sufficient demand to support revenue growth in excess of 10% in 2020 as we expect to benefit from recent pricing adjustments, promotional programs and broader marketing activities.

In particular, we expect Roomba and Braava will continue to be our primary growth engines next year, and we plan to launch at least one new Roomba platform next year.

Although we do not anticipate material revenue from Terra next year, it will be an important year in Terra's maturation, which is critical for ensuring a strong commercial ramp in 2021.

Gross margins will obviously be challenged next year due to the combination of current tariffs and aggressive pricing in certain markets.

Regarding tariffs, we believe that the current 25% tariff rate on Roomba represents a short-term phenomenon that had temporarily stunted top line growth and eroded profitability.

We remain optimistic about obtaining an exception at some point in 2020 even as negotiations to end the trade war continue.

The tariff environment continues to be very fluid.

And as a result, our preliminary view does not include the impact across the List 3 or List 4 tariff increases nor does it reflect the potential benefits of an exemption.

Looking ahead, we plan to continue to limit our China exposure by moving production to Malaysia.

While ramping production in Malaysia will help us mitigate some gross margin pressure, we currently expect 2020 gross margin to drop below 40% on a GAAP basis.

We continue to assess our operating cost structure as we strive to strike a balance between limiting the expense growth without handicapping our ability to fund short- and long-term growth initiatives.

While we plan to throttle spending in certain areas, we remain committed to funding the programs, people and partnerships that we believe are critical to long-term value creation.

As a result, we anticipate relatively minimal operating expense leverage, which will only slightly offset the expected year-over-year gross margin decline on our 2020 operating profit margin.

That concludes our comments.

We are now ready for questions.

(Operator Instructions) Our first question comes from John Babcock of Bank of America Merrill Lynch.

Starting out with what you're seeing out in China, are there any thoughts to producing more of your products outside of the country?

And then on top of that, I was wondering what you believe the impact of the 25% tariffs will be on an annualized basis?

I realized that you provided already kind of a tariff estimate for this year.

So the -- we have a multilayered plan for getting out from under tariffs.

Certainly, pursuing the exemption is the fastest and most profitable path.

But certainly, our plans do not solely rest on that.

We'll have one line operating at scale for our entry-level products, which will provide some release in 2020, and continuing our efforts to find ways to move higher-complexity products outside of China depending on what we're seeing relative to the tariff situation in China and frankly just the physics of moving these more complicated products.

So certainly, Malaysia is playing a growing part of our strategy.

And we are not holding our breath and waiting for tariffs to end or to be exempted, though that is the most favorable outcome from iRobot's perspective.

And John, the impact to 2019 that we currently expect from tariffs is still in the range of $35 million to $40 million.

Okay.

I guess that second part of my question though was also probably revolving around how you're thinking about that for next year.

As we finalize the work on our 2020 plan, we'll communicate that clearly.

If 25% tariffs sold, the impact to next year will be more significant than this $35 million to $40 million range that we're seeing in '19, which add 10% at the beginning of the year, 25% for only part of the year.

Okay.

And then just the next kind of question or 2 here.

Do you have a sense for how fast the robot vacuum category grew in the U.S. and in APAC during the quarter?

And then also, Alison, from a volume standpoint, are you comfortable with where inventories stand?

Sure.

On the inventory front, we did build inventory in the third quarter in anticipation of the holiday selling season.

And with our forecast, we expect our inventory levels to go back to normal levels by the end of the year, likely even less than we had coming out of last year.

The segment growth in the U.S., our data is a few weeks in arrears.

But through August, the U.S. segment grew probably in the high-single digits, again, which is slower than what we had anticipated coming into the year.

And that was for 3Q?

That was year-to-date through August.

Year-to-date through August.

Got you.

And then just the last question before I turn it over.

I was wondering if you could kind of talk about, obviously, the robots, some of the capabilities that your current ones have such as the navigational improvements offered by the i7 and s9.

I was wondering what are customers looking for that would drive the next incremental changes for the Roomba and Braava from here.

So we believe there is significant opportunity to improve the function of the robots with the launch of auto-evac, the number of days that the robot can operate without getting stuck and the directability of the robot have emerged as being very highly valued by our consumers.

And so the idea that -- and this grows into the next steps on the smart home.

Consumers are looking not for complexity but for reliable, trusted simplicity in the role technology plays in their home.

And so the idea that you can come home every day to a freshly vacuumed home and have tremendous capability of ensuring the robot cleans exactly what you want it to clean are emerging.

We appreciate that things are also very difficult to do well, which plays nicely into iRobot's core competency.

And then I mentioned a little bit about connecting more broadly into the smart home so that the work that we have done and our approach to delivering that type of experience to the consumer can extend to an overall smart home experience.

So it's a very exciting time.

And I feel like over the next 2 years, we're going to see the smart home start to deliver on the promise for which it has disappointed, to some degree, over the last 5 years.

And your next question comes from Jim Ricchiuti of Needham & Company.

I'm just trying to reconcile some of the comments you made about the resistance that you've seen from consumers in the U.S. to the higher prices to the fact that you think you gained share in the category.

So what I'm wondering is if there's been a mix shift within the Roomba business, if you noticed any kind of a shift during the quarter before you took some of the pricing actions.

Sure.

So the last call, we brought up the fact that competitors in North America had materially scaled back on demand-generation activities.

And so that at the heart of it, iRobot gained share in North America as we continued to build and spend against market growth and continued to deliver innovation into the marketplace.

Against that, we saw the tariff-driven higher prices contributing to a slowdown in the growth.

And of course, it's all relative.

We're still anticipating 2019 to be high single-digit growth in North America, but it certainly was a tempering.

So in Q4, we're already seeing a more active investment from competition.

And we -- as we mentioned, we've made some pricing actions and our own demand-generation activities are just starting to kick off now.

And so -- but we feel good about Q4.

But certainly, North America has been challenging this year.

Jim, can I just add 2 comments to that one?

I just want to make one clarification on one of Colin's comments.

The segment -- U.S. segment in the second half of the year, we actually are expecting to grow in the sort of low-teen rates for the second half of the year versus the high single-digit we saw in the first half of the year or at least through August.

And as it relates to our revenue mix, the mix we saw in Q3 was very consistent with what we saw in Q2, which is consistent with our full year expectations.

And just to remind you a little bit about what that mix looks like, we had -- in Q2, we reported about 45% of our revenue mix being the 900 series and above.

That actually increased slightly in Q3.

At Q2, we reported we had about 30% of our revenue come from the entry-level 600 series.

That actually dropped a little bit in Q3 to 25%.

And then we had about 20% of our revenue come from the mid-tier.

And that again, Q2 and Q3 was pretty consistent and we're expecting about the same thing for the full year.

That's helpful.

And just one final question for me.

I'm just wondering -- just in light of some of the concerns people have about slowing on the macro side, I'm wondering what you're hearing from some -- what's the tone from some of your larger U.S. retailers and whether that -- whether you've seen any indication of potential slowing in EMEA, where you clearly performed very well year-to-date?

So I think that the marketing conditions in EMEA remain solid.

I think that there's anxiety risk factors from Brexit.

I just returned from a trip there.

So anxiety is elevated, but they're not seeing the same macro impact on consumer spending that we're -- that certainly is present in China and that we have seen in what I would call tariff-impacted industries here in the U.S. So it's a bit skittish but holding.

(Operator Instructions) And our next question comes from Asiya Merchant of Citigroup.

I have a quick question on just the U.S. growth as well.

Can you maybe talk a little bit about your expectations and maybe some of the underlying assumptions?

Alison mentioned growth back in the second half in the low-teens.

Marry that against the macro and what we're seeing.

What makes you confident that growth resumes back next year, let's say, in the mid-teens, back to where it's been broadly for the category and sort of where you had initially laid out some expectations before the tariffs, et cetera?

So what gives you confidence that we're not undergoing some sort of category fatigue here but that the underlying health is very strong?

And then as a follow-up, international has been very strong.

I think in the prepared remarks, you mentioned about growth slowing a little bit in the fourth quarter.

I don't know if that's just comp.

If you can again talk about the growth in the international as well and the underlying assumption that makes you feel revenue growth will accelerate in 2020?

Sure.

Great question.

So the -- so we study the market and addressable size in North America extensively.

And we believe that certainly, the addressable market is well above 30% for the type of robot vacuum cleaners, the portfolio that iRobot creates.

That number is elevated if you include entry-level models at the lower price points that iRobot offers.

This year, when we previously rolled back pricing to pre-tariff levels for Prime Day with Amazon, we saw extraordinary growth.

So over 90% growth year-over-year on Prime Day, which again, we've built.

And while it's still early, we have rolled back our prices to pre-tariff levels and have seen the demand response to those changes in pricing in a favorable fashion.

So the trend is good.

And so I think we triangulate those data points, coupled with the fact that even during times with the revenue -- where the organic levels were constrained, for example, over Mother's Day, the marketing spend that we invested tracked very, very closely to the models that we have created, so suggesting that our ROI models and marketing investment still held despite the impact of macroeconomics and price elasticity.

So again, things aren't broken.

And if we were seeing a saturation demand, certainly, we would have seen deviations from our ROI models for spending in -- over Mother's Day.

We would have seen a much more challenging result out of Prime Day, and we would be giving you a very different outlook for our performance in the -- in Q4.

So iRobot is a very quant-based company from demand generation and revenue prediction.

I think that what we didn't know going into the year was what was the -- what was sort of the impact of going from 10% to 25% tariffs.

We didn't have great models and price elasticity and so that we were certainly caught a little bit by surprise based on that event.

And typically, when the market leader goes up in price, the competitive followers also go up in price.

When that didn't happen, pretty straightforward, we knew what we needed to do to protect our leadership.

So hopefully, that gives you somewhat of a window into our thinking on why we believe that there's latent demand, that a return to far more strong category growth in North America can be achieved as well as looking overseas at our performance and the category's performance in EMEA and in Japan.

You mentioned a little bit our Q4 international growth rate in Japan.

You are correct.

Yes.

In terms of the Q4 growth rate for International, a lot of what you see in EMEA was the launching of the s9 and the m6 in Q3.

So there really was sort of a timing shift versus Q3 and Q4 in that region.

And a lot of what you see going on in Japan in Q4 was they had a lot of campaigns happening in the third quarter to get ahead of the increase in the consumption tax.

So there really just are sort of unique timing elements in this year of Q3 versus Q4.

The overall growth rates for both of those regions for the full year remain very strong.

And our next question comes from Jon Dorsheimer of Canaccord Genuity.

Just 2, I guess.

So first one, Colin.

I've always respected your quant-based approach.

So maybe if you could help me a little bit better understand the cost of customer -- the customer acquisition cost?

By our calculations, it seems as if Braava compared to Roomba is about 50% higher.

And so when I normalize the growth, the 2 categories seem to be growing about the same.

So I'm just wondering if I -- when you think about sort of getting to that more mature phase on the Braava category, that you'd be able to throttle that back to more normalized Roomba-type rates.

And then I have a follow-up question.

Sure.

So certainly, Braava is earlier and the cost of customer acquisition is higher for Roomba -- sorry, higher for Braava relative to Roomba.

There was, in the first half of the year, unpacking -- what happened with Braava has some merit.

Our more popular model in the first half of the year, the 380 had some distribution challenges as the store traffic and foot traffic in Bed Bath & Beyond declined and that product is exclusively brick-and-mortar available in Bed Bath & Beyond.

And so while consumers looking for Roomba could easily find other retail outlets, that was not the case for the 380t.

And so that created some artificial slowdown in that model in the first half of the year.

So keep that in mind as you look at the growth rate overall for Braava because it's comparable to prior years.

It's not entirely fair.

The m6 is growing very well and you will see investments in demand-generation activities in Q4 to drive that base.

And I think that as we look to 2020, I think that what you should expect is a shift in strategy for investing in Braava coupled with more brand awareness in Braava to make some real progress to bring down the cost of consumer acquisition.

So your model should anticipate material gains in 2020.

I can't quantify as I'm not exactly sure what model you're using, but it -- we should be much more dollar efficient in 2021 than we had been thus far in '19 relative to Braava.

Got it.

That's really helpful.

I guess just as a segue or my follow-up question is, so far, you have kind of looked at the 2 categories as almost mutually exclusive.

But the fact that the robots can talk to each other, some of your competitors are offering dual-function robots currently in the marketplace.

I'm just wondering do you think that -- is that a missed opportunity?

How should we think about your competitive positioning relative to some of these dual-purpose robots on the market right now?

Yes.

Well, I think it gets back at iRobot's commitment to the premium category and the best consumer experience.

If you combine these 2 functions into 1 robot, you're necessitating that the consumer be involved with the robot every time the robot is turned on.

You need to fill up the tank.

If your robot has the ceiling feature on it, it can't vacuum carpets.

And the vision for where iRobot is going is this idea that you come home every date to a freshly cleaned home.

And mopping, you're actually able to run your m6 multiple times because of the size of the tank and begin to have a similar experience.

So there's a bit of a philosophical, what is the right way to do this, that's important.

Also, when you look at the design and where we put the pad on the robot, it's specialized around getting into the corners of the room.

And the pad that is placed by the competitors on the back of the robot is incapable of getting closer than a couple of inches from the edge of the wall.

And let's be honest, that's where most of the visible dirt is.

And so it's like building a vacuum cleaner to get under kickboards.

You're delivering a consumer experience where you run the robot and then you have to go out and get your mop anyways to finish the job.

So it's a bit of a gimmick.

There is some consumer appeal to an idea of a 2-in-1 robot.

Unfortunately, the experience doesn't live up to it.

And so we're looking at what can be done on that front without sacrificing our commitment to the premium experience.

And our next question comes from Mark Strouse of JPMorgan.

I was hoping to start with if you could provide an update on the seasonality with Amazon.

I think historically, you've said that back half is more 2/3 in 3Q and then 1/3 in 4Q.

But last call, you were talking about that being a bit different and I know things have changed since then.

So I'm just hoping for an update there if you can.

Yes, Mark.

So where we are at now, which you're right, was different than when we spoke in July.

We expect a similar pattern this year, in 2019, that we saw in 2018.

And what that was, was we had about 70% of the business done in the -- through the third quarter.

And we're sitting at a similar spot now.

But again, that is -- that was the change from when we talked to you in July.

Okay.

And then lastly, your guidance for 4Q and then this kind of initial peak into 2020, can you just kind of talk about what you've baked in as far as this litigation with Shark, if that just assumes status quo?

Or if you're assuming any kind of -- any odds of a favorable outcome there?

We can't predict any outcome.

We've just got to look at status quo.

And our next question comes from Troy Jensen of Piper Jaffray.

Thanks for the transparency this quarter.

Maybe just a quick follow-up with Alison.

You said that year-to-date through August, that the U.S. market is up single digits.

Can you just talk Q3 over Q3?

I think we may have seen a fairly meaningful deceleration in August and September.

So just curious with the quarter-over-quarter, so quickly.

I don't have the third quarter specifically broken out.

But yes, after our price increase, we did see the segment growth -- sorry, our price increases that went into effect on July 22.

We did see a little bit of a deceleration during the third quarter.

But year-to-date, our number for the full 9 months or 8 months was the 8%.

So that is what precipitated us to reduce those prices back.

Sure.

Understood.

Okay.

And then Colin may have answered this, but Bed Bath & Beyond has been closing some stores.

Has this compounded the U.S. weakness?

Or is this just really on the Braava product line?

Or is this kind of a non-event?

On the Roomba side, it has had a modest to small -- I guess a small impact.

We were able to see the Bed Bath customer go to other retailers.

We saw above -- plan growth rates as sales in Bed Bath were impacted.

So Roomba was largely unaffected.

I mean you can never say not affected.

But it was this singular SKU, the 380t Braava, which was exclusive to Bed Bath & Beyond in brick-and-mortar, where we saw some real deceleration sales of that product as people just didn't have -- without going online and alternate channel for buying that product.

So that one hurt a little bit more.

And our next question comes from Frank Camma of Sidoti.

Colin, do you think consumers now come -- become a little bit trained to wait for the Black Friday, Monday sale for your type of product now in the electronics category?

And how does that affect your Q4?

Has that selling already occurred?

Or do you get benefit from that in your model?

So we certainly get benefits -- hold on, let's see.

Your first question, are people trained for these special buying days like Black Friday in the U.S. and 11/11 in China, yes?

Yes.

I think that every year, it is -- there is a class of consumer, the value-seeking consumer, who wait for these particular days.

And we put a huge amount of our time and energy into ensuring that we have a great deal to deliver on the expectation on those days and that we have the circulars and the placement to harness that.

It's traditionally been a real strength for iRobot.

And in China, they'll spend the better part of the year preparing the offer for that singular day.

So I definitely think that consumers are being trained.

As far as how do we take advantage of that, is it baked in?

It's certainly baked into the guidance that we're giving today and why we believe we'll see strong pickup in demand for the category as well as iRobot's results.

Again, we -- this is something we do really well.

I point at Amazon Prime Day, where we were plus-90% year-over-year.

We can move a lot of products on these special days.

I just would like -- some of the selling supporting those events happens in Q3 and some of that happens in Q4.

It's just very retailer specific, Amazon being a good example.

Yes.

That makes sense.

The other question is sort of comment and maybe a clarification.

I mean you gave a commentary on the gross margin even for next year.

From my perspective, you seem to point out a lot of the negatives here, which is fair.

I mean you want to give all that.

The only offset you seem to give was Malaysia.

But from other companies I follow, I hear things like the devaluation of the currency helping them and also the economic environment in China just allowing them to negotiate better with the factories there.

And even in your case, you're shifting production.

So you would think, in some senses, you would have some leverage over these factories.

Do you not have that because of the uniqueness of your category?

I'm just wondering if you can comment there, because obviously, it's a sizable drop in your gross margin.

So one thing to point out.

So we're in the midst of negotiation with our contract manufacturers on pricing for next year.

So that is not settled.

That's a big open question for us as well as how the volumes will be split across our factories.

And as a reminder, we lock in with our contract manufacturers for the year going into the year on our pricing.

So as changes in currencies happen, you shouldn't necessarily expect to see changes in our structure with our contract manufacturers.

So that is a big open item.

As Colin mentioned, we're really just at the beginning part of our annual planning cycle and that's a big element that we still have to lock down.

And I think that the rule of thumb for products of Roomba-like complexity, Malaysia, we will be paying some premium to manufacturing in Malaysia as a result.

And we've tried to incorporate some allowance for that in the guidance that we gave.

But certainly, we have a very serious plan, a backup plan, backup-backup plan as to how are we going to ensure that the tariffs that are currently slowing us down in North America can be overcome.

And our next question comes from Ben Rose of Battle Road Research.

Kind of a related question on the contract manufacturing side.

Do you negotiate directly with your supply chain partners in those factories in China?

And is there additional room per your comments earlier, Alison, to reduce COGS, independent of whatever the contract manufacturing cost would be?

Yes.

We negotiate directly with the contract manufacturers on the pricing for the year.

There are a small amount of components which we may arrange pricing on ourselves outside of the contract manufacturers, but the bulk of our costs comes through the negotiations we do on the product pricing directly with the CMs.

And we certainly are continuously committed to COGS improvement, particularly as it relates to products that have just launched.

Getting them out, we'll often make decisions where over time, based on the product performance in markets and our experience, we can see opportunities to get some things cut into the production.

So that's quite typical for iRobot to launch at one COGS and actually quite significantly improve COGS over time.

Okay.

And just a follow up -- I'm sorry.

Just a comment.

The -- I've mentioned a little bit about our platform strategy, where we actually are designing robots we think that can have a useful lifetime that is reasonably significant because we were able to go make material improvements to the performance through software upgrades.

And that's a change from what we've done in the past.

It's a way of bringing features to market more quickly and extending the lifetime of the hardware, which gives us even -- rewards us even further for costs out.

Okay.

And just one additional question.

With regard to moving additional SKUs to Malaysia over time, I think there's kind of a common misconception out there that this just requires kind of flicking a switch and moving things over.

But maybe Colin, just speak to some of the puts and takes to what some of the issues would be with regard to moving products of greater complexity to that region.

So in order for it to count -- I'll dive into the details just briefly, so bear with me.

In order for it to be counted to be manufactured in Malaysia, enough of the product needs to be manufactured in Malaysia to qualify for what's called substantial transformation.

So that for our lower-priced products, you get there basically by injection molding the robots.

But as you get into the more sophisticated robots, it requires electronics being manufactured in Malaysia and potentially batteries being manufactured in Malaysia and that's a much longer row to hoe.

Malaysia is coming up quickly, as you might imagine, as a -- in its sophistication, but it certainly lags substantially behind China from an infrastructure perspective to do these more advanced types of products.

And so to get, for example, an i7 over to Malaysia, we need to not just transfer capabilities in plastics molding but also batteries and fine-pitch surface mount and so forth.

So it's an investment, but certainly, the current situation is not a situation iRobot intends to allow to continue a day longer than it needs to.

And so the idea of, okay, we're giving guidance for 2020 with the assumption that we're under 25% tariffs on Roomba for the full year, we've described a few different strategies we're getting out from under those tariffs, shifting manufacturing more fully to Malaysia being one of those.

And we're going to find a way to do it.

And our next question comes from Bill Baker of GARP Research.

Just I know you're continuing to pass the Terra and not expecting much sales next year.

But I'm just wondering, given the kind of long history from your competition in Europe with this kind of product, are you seeing from your tests demonstrably different features or capabilities in terms of -- particularly with the long-term trial and different things like inclines and narrow passages and things like that?

Yes.

I mean the Terra is substantially differentiated from anything else in the market today.

And I would say that the status of the product is if you have a simple lawn, you'll love this product.

And we actually got into some detail on the call around looking at more complicated terrains and mission completion rates and more challenging terrains as sort of being the things we're working on.

And we have an ambitious strategy which -- again, product differentiation based on system complexity favors iRobot.

We think we have a very disruptive product here with Terra.

Nothing else like it from a navigation perspective that's out there.

And we describe the market for Terra as being Roomba-sized.

In fact, in Germany, the market today for lawn mowing is bigger than the -- significantly bigger than the market for robot vacuum cleaners.

And so this is a big one.

We've got to make sure we do it right.

We'll be selling robots next year, though as we say not materially, in preparation for a real ramp in '21.

And ladies and gentlemen, this does conclude our question-and-answer session.

I will now turn the call back to Andy Kramer.

Great.

Thank you very much, operator.

This does conclude our third quarter results conference call.

We appreciate everybody's support and look forward to talking with everyone again in early 2020 to discuss our Q4 and full year 2019 financial results.

Thank you all.

Ladies and gentlemen, this concludes today's conference call.

Thank you for participating.

You may now disconnect.

Goodbye.