Cognex Corp (CGNX) 2006 Q3 法說會逐字稿

Good afternoon. My name is Jeanne and I will be your conference operator today. At this time, I would like to welcome everyone to the Cognex third quarter 2006 earnings conference call. [OPERATOR INSTRUCTIONS]

It is now with great pleasure to turn the floor over to your host, Mr. Richard Morin, Chief Financial Officer. Sir, you may begin your conference.

Thank you and good evening everyone. Earlier tonight, we issued a press release announcing Cognex's earnings for the third quarter of 2006. For those of you who have not yet seen this report, the copy is available on our website at www.cognex.com. The press release contains detailed information about our financial results, and because of that, we are not going to repeat most of that material.

Beginning in 2006, we are required to include stock-option expense in our financial results. Since this expense was not included in 2005, to help listeners compare our results on a consistent basis, we will exclude the impact of stock-option expense from our discussion during the call. For your reference, you can see the Company's income statement as reported under GAAP in Exhibit 1 of tonight's press release and a reconciliation of certain items in the income statement from GAAP to non-GAAP in Exhibit 2.

I'd like to emphasize that any forward-looking statements we made in the press release or any that we may make during this call are based upon information that we believe to be true as of today. Things often change and actual results may differ materially from those projected or anticipated. You should refer to the Company's SEC filings, including our most recent Form 10-K, for a detailed list of these risk factors.

Now, I'll turn the call over to Jim Hoffmaster, President and COO of Cognex.

Thanks, Dick. Good evening, everyone, and thank you for attending Cognex's third quarter conference call for 2006. I know that most of you are used to hearing Bob Shillman, Cognex's Chairman and CEO, read the prepared remarks during the earnings call. Since Bob's in Europe right now looking for new customers and new acquisitions, I'll be hosting the call this evening.

As you can see from the press release that we just issued, Q3 was a disappointing quarter for Cognex. We reported revenue of $58 million, which was $3 million below the low end of the guidance that we gave to investors in July. The good news is that, despite the revenue short fall, operating income for the third quarter, excluding stock-option expense, increased year-on-year as a percentage of revenue to 25% from 24% in the third quarter a year ago. The bottom line in Q3 was also helped by higher interest income and a lower effective tax rate. After excluding stock-option expenses and one-time tax items, net income for the third quarter represented 20% of revenue and earnings were $0.26 per share.

While I am very happy to report a high level of profitability for Q3, it does not negate the fact that revenue was not where we expected it to be. Historically, the rare occurrence of a revenue miss by Cognex would be due to a downturn in the cyclical semiconductor and electronics capital equipment industries or semi, as we call it. That was not the case this quarter. Semi was in line with our expectations. The short fall was in the surface inspection and factory automation markets, and I'll go into details on each of those.

In the surface inspection market, the order trend is typically lumpy, because business is based upon the funding of large capital projects by our customers, most of who are in the metals, paper and plastics industries. In Q3, there were a number of projects which we expected to book and ship during the quarter that were delayed by our customers. There were no lost orders or canceled projects. They were simply delayed for a variety of reasons that can be boiled down to two common themes.

First of all, manufacturers believe that the economy is okay but not great, so they were slow to make a purchase decision before they absolutely had to do so. And second, there have been a number of mergers in the metals industry, and to a lesser tremendous in the paper industry, which slows down investment decisions in the near term.

Turning now to the factory automation market, the explanation is a bit more complicated because there are a couple of factors that contributed to lower revenue. The first and the easiest to identify are industry issues. The automotive and electronics industries are currently the most important industries for Cognex Vision Systems in factory automation. The challenges facing the U.S. auto industry are well-documented, and they have been negatively impacting our results for some time.

We have now experienced five consecutive quarters of declining demand from the auto industry in the U.S. Since the high in Q2 of 2005, our automotive business has gone down steadily and is now one-third of that level. During the quarter, we also saw a slowdown in orders from electronics manufacturers, primarily in the cell phone and disk drive arenas, where we had been doing quite well for some time.

The second factor that impacted factory automation in the third quarter is an internal matter. Earlier in the year, we identified issues with our North American sales and distribution organization and we initiated corrective actions, which we believed to be well underway by the end of Q2. However, as we got into the third quarter, we realized that the corrective actions were not being implemented quickly enough and we made some organizational changes to accelerate progress.

As you can see from the second press release we issued tonight, we appointed Eric Ceyrolle as Executive Vice President of Worldwide Sales for Modular Vision Systems, Cognex's largest division. Eric has been with Cognex for 14 years, having joined the Company in 1992, with responsibility for sales in Europe. In 1999, we expanded Eric's role to include Southeast Asia and in 2004, we added Japan. Under Eric's leadership, we have experienced our -- growth in our base of semi customers as well as rapid growth in factory automation sales throughout Europe and Asia.

We appointed Brian Phillips as Vice President of Sales for the Americas, reporting to Eric Ceyrolle. Brian has been with Cognex for 13 years, having joined in 1993 as our first dedicated end-user salesman in North America. He was promoted to Regional Manager in 1995, to Director of OEM sales in 2000, and to Vice President of the Expert Sensors business unit in 2004.

In hindsight, during the DVT integration in the second half of last year, we focused too much time and energy on building relationships with the new distributors in North America, and as a result, our new business development efforts suffered. We believe that these most recent changes to the sales organization have put the right leadership in place to take the necessary corrective actions during Q4, and we expect to start 2007 on a much better footing. Eric Ceyrolle and Brian Phillips are two proven executives with the experience, knowledge, skills and drive necessary to get us back on track.

Looking forward, although we can affect change in our Company, the industry issues are not under our control. Business has slowed in the semiconductor, electronics, automotive and steel industries, which currently represent some of the largest users of Cognex Vision products.

These trends, coupled with the lumpy order patterns of the surface inspection business, lead us to believe that growth will be limited in the near term. We expect that revenue for Q4 will be in the range of $58 million to $61 million. At that revenue level, earnings are expected to be in the range of $0.19 to $0.23 per share, or $0.24 to $0.28 per share, excluding stock options. Despite the near-term challenges, we are confident in the need for machine vision in the industries we currently serve and in the new markets we are entering.

We are also confident in a long-term growth and profit potential for Cognex. I'm pleased to say that the Board of Directors that confidence in our Company as well, which they demonstrated in Q3 with the declaration of a 6% increase to the quarterly cash dividend, and the authorization to purchase up to $100 million worth of Cognex stock. We went to work on this immediately. In Q3, we spent nearly $20 million to repurchase approximately 815,000 shares of Cognex stock at an average price of $23.75 per share.

Now, I'd like to open up the conference call for any questions you may have for either Dick or me.

Thank you, [James]. [OPERATOR INSTRUCTIONS] Your first question is coming from Antonio Antezano from Bear Stearns. Please go ahead.

Good afternoon, everyone.

Hey, Antonio.

Hi. In the OEM sector, do you have any visibility now that we are writing October in terms of order level, order pattern for this business?

Well, the -- it is -- it's not as strong as it was in either Q1 or Q2. We saw a decline as we expected in Q3. We don't see any improvement in the pattern so far in the fourth quarter. We've talked to a number of our key OEM customers and they have also indicated that they see a softness, but it doesn't seem to be a drastic falling off of the cliff.

Okay. And then in the factory automation, if you could give us a little bit more color. You mentioned that automotive has been declining. I wonder if you could mention year-over-year, what type of decline?

And then, outside the automotive, what order sectors have been very soft? I remember last quarter you mentioned that, excluding automotive, performance was not as bad. so we were wondering, you know, outside automotive how -- what type of performance you posted this quarter?

Okay. I think -- go ahead.

I'll take that call, Dick. The -- Antonio, the industries outside of automotive that we saw some softening in Q3 were in particular the electronics industry. We've been very successful in the area of cell phones and disk drive production. We saw softening there.

And then, for our surface inspection products, particularly in metals and to a lesser degree in paper. Those are the industries where we've seen some softening in Q3. I believe there was another part to your question that I didn't address. Could you reask that?

I was just wondering the year-over-year decline in the auto sector, if you could share that with us?

Do you have that data handy, Dick?

Year-on-year -- hang on one second. For that portion of the auto sector that we can identify, it is down --

It's under a third of the level it was.

Well, that's the U.S. The U.S. was down a third from Q2, not from Q3. Overall, it looks like it's probably down -- Q3 from Q2 was down about 12% or so.

You mean sequentially, then?

Yes.

Okay. Yes, that helps. Just one final question. How was the performance of Checker, and also an update on the new products that you were scheduling to introduce late this year or early 2007, whether there's any change as to the timing for the new products?

Do you want to explain on Checker?

Yes. Checker sales continue to grow, not as robustly as we had been hoping. Checker had been a big hit in the automotive sector, and, of course, the downturn there has hurt that growth. I think the last update we gave you, we expected to do $6 million in sales this year.

At this point, I think we're going to fall a little short of that, come in somewhere between $5 and $6 million, and I would attribute all of that shortfall to the auto industry. The other product I think you're referring to is our doorman product for commercial door operation. That product's on schedule. It's in the late stages of testing now and that will begin shipping commercially in the first quarter of '07.

What about -- I think you had also a new expert sensor that was scheduled for late this year or early next year?

Yes, I'm not sure if you're referring to the Checker for positioning or --?

Right.

Okay. Yes. In fact, we have re-prioritized some of our development projects and pushed that product up into 2007. We think we have some other versions of the expert sensors that are going to produce revenue -- more revenue more quickly.

Would that be a schedule for the first quarter of '07 or is -- the timing is not certain at this point?

No, they are scheduled for the first quarter of '07. We've pulled something up ahead of finder into that time frame and pushed that position sensor out.

Thank you.

Your next question comes from Rob Mason with R.W. Baird. Sir, please go ahead.

Yes, Jim, want to address the internal issues you spoke of on the factory automation side. Is it -- maybe you could provide a little more color on the corrective actions you're taking. Is it a headcount issue on the direct sales side or are you disappointed with the quoting activity, level of quoting volume or is it closure rates or -- ? Could you give us a little more color on what we're trying to correct there?

I can, Rob. It's not a headcount issue. We have made substantial investments in our direct sales force and our distributor support organization over each of the last several years, and we have a lot of good people out there.

The problem is simply that in -- well, let me just say the problem is that we spent a lot of time with all of our direct sales and sales management people working with distributors to ensure that we had good, cooperative working relationships. Remember, prior to the acquisition, we were head-to-head competitors. And we wanted to ensure that we weren't butting heads internally and creating a lot of friction and ill will and fighting over projects, and the team did an excellent job of that.

Unfortunately, in the process, they spent so much time doing it that we took our direct salesmen away from new account development. So it isn't closure rates. The closure rates are fine. We simply weren't out there developing the new accounts, helping our customers move their projects along in the organization. Vision is very much a consultative sell.

There are many cases where customers have made the decision to use Vision and simply come to us when they're ready to purchase. But in most cases, they want to talk to us along the way. They want our help in choosing the right lighting, choosing the right products, helping develop the ideas, and that's what we weren't doing enough of.

Okay. Well, is it fair to assume that these issues are primarily North American-centric?

Yes, it is.

Okay. And just on the topic of indirect sales or distributor sales, make the assumption you're -- are you satisfied with the volumes that you're seeing through your distributors currently?

Well, yes and no. I say yes and no because, again, the distributors -- it depends on the individual distributor and what industries they serve. Those distributors in the Midwest that serve the automotive industry are hit by that.

So when you take that into account, they appear to be working hard for us and doing a good job. Am I satisfied with the results? No. But that's an industry issue that we can't affect directly.

Okay. Thanks for your help.

You're welcome.

Thank you. [OPERATOR INSTRUCTIONS] Your next question is coming from Jim Ricchiuti with Needham & Company. Please go ahead.

Good afternoon. Jim, I wonder if you'd comment on the factory floor business in Europe. How would you characterize that?

Jim, I would say that the factory floor business in Europe continues to grow well for us.

Now, is that -- could you tell us, talk a little bit about the channel over there, how much of that goes direct, how much of that goes indirect?

I don't -- I don't have that information handy. I can't give you that fine a cut on it offhand. I can tell you that in Europe, more of the business is direct and less of it goes through the distribution. And the other thing I -- Excuse me. Jeannie?

Excuse me, Mr. Ricchiuti, your line is bringing in a lot of noise. Can you mute your background noise at all?

Okay. So, Jim, I assume you're still there listening. The only other thing I would say is Europe is affected by -- while the U.S. auto industry doesn't affect them, and, fortunately, we have done a good job of penetrating the European auto makers, electronics is also soft in Europe.

Okay. Jim, if I may, and I'll mute my phone again, I apologize for that. But I'm still a little bit confused or a little puzzled about what's been happening in North America. You know, I'm not sure, if -- is it a case where you mentioned your direct sales force has just been spending too much time working with distributors. So do I take that that you're just going to try to refocus them specifically on these customers to close business? Is that -- maybe I'm just not quite clear on what the remedial measures are going to be.

Okay, Jim. The simplest answer to that is yes. That's exactly correct. That we're going to refocus the direct sales force, get them back to calling on our major customers, the A accounts, and also to developing new A accounts where we have those opportunities, and there are a number of those.

As always, that's a very simple answer to a problem that has a number of more facets than that, and some of them, a lot of detailed work that our sales management are taking care of, but that pretty much sums up directionally the situation.

And then just on the [SysT] business, do you get any sense that customers are more willing to pull the trigger for orders over the next quarter or so, or are they still waiting to see how the economy's going to shake out?

It's a little early to tell, only a couple of weeks into October. But we haven't seen, like, a significant increase in their pulling the trigger, Jim.

Okay. Thanks very much.

Thank you, Jim.

[OPERATOR INSTRUCTIONS] There appear to be no further questions at this time, and I would like to turn the floor over to Mr. James Hoffmaster for closing remarks. Please go ahead, sir.

Well, I'd like to thank everyone who listened in on our call this evening, and thank you for following Cognex. We look forward to the next time we have a chance to speak with you. Thank you very much.

Thank you. This does conclude tonight's Cognex third quarter 2006 earnings conference call. You may now disconnect your lines at this time and have a wonderful evening.