Cognex Corp (CGNX) 2007 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Cognex third quarter 2007 earnings call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions on how to participate will be given at that time. (OPERATOR INSTRUCTIONS). As a reminder, today's conference is being recorded.

I would now like to introduce your host for today's conference, Mr. Richard Morin, Chief Financial Officer. Sir, you may begin.

Thank you and good evening, everyone. Earlier tonight we issued a press release announcing Cognex's earnings for the third quarter of 2007. For those of you who have not yet seen this report, a copy is available on our Web site 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.

During tonight's call, we intend to discuss our financial results as reported under GAAP. However, it is possible that we may use a non-GAAP financial measure if we believe it is useful to investors or if we believe it will help investors better understand our results or business trends. For your reference, you can see the company's income statement as reported under GAAP in exhibit 1 of the earnings press release, and a reconciliation of certain items in the income statement from GAAP to non-GAAP in exhibit 2.

I would 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 Bob Shillman.

Good evening, everyone. I have some good news and some bad news. But it's the same news, so how can it be both good and bad? Well, it really depends on who's listening. If you're a holder of Cognex, then I have some good news for you. But for those of you who are in the market today selling Cognex, or even worse, selling short, than my report today is very bad news for you.

The news is that business is improving. For the third quarter, we reported revenue of $54.7 million and earnings of $0.17 a share. I'm very pleased to report that revenue was at the high end of our guidance that we gave in August, primarily due to higher than planned revenue from our factory automation market. And I'm even more pleased to report that our earnings were significantly better than our expectations, and we're nearly double the earnings that we reported in the prior quarter. The upside to EPS in the third quarter was the result of several items. First, the sale of our modular vision systems represented a higher percentage of total revenue as compared to surface inspection systems, and that resulted in the higher gross margin. SG&A expenses were lower than forecasted due to the timing of marketing activities and lower head count than we had anticipated.

Next, professional fees for the investigation of our Japanese subsidiary were lower than estimated. Unfortunately, we had some, but they were lower than what we estimated. Next, we realized a foreign currency gain in Q3, primarily due to the strengthening of the euro during the quarter. Finally, we had a discrete tax benefit that contributed $0.01 per share. Right before this call I asked Dick, be what does that mean, a discrete tax benefit, because the sound of it, it sounded to me like something to do with a tax deduction for expenses I might buy for my mistress, but it does not mean that. It's a term of art.

I know that investors are most interested in revenue growth, so I'm now going to discuss the tone of business in each of our three primary markets that we now serve. In the semiconductor and electronics capital equipment market, or semi, as we call it, revenue increased by 9% on a sequential basis, but that was not due to a change in industry fundamentals, rather it was due to an adjustment in the second quarter of a little over $1 million to correct for an overstatement in prior periods by our Japanese subsidiary. This adjustment has already been discussed in depth during our Q2 earnings release and excluding the adjustment, semi revenue was essentially flat on a sequential basis. Our semi business started to go into a downturn over a year ago and spending by those customers continued to be tepid in Q3 and the customers see no sign of a pickup on the near-term.

The next business is surface inspection, and in that market, revenue decreased by 25% on a sequential basis, but that is not at all a reflection of customer demand. This market is typically lumpy, and the lumpiness was exacerbated in the third quarter by nearly $2 million of deferred revenue, which we received which has already been shipped and paid for, but not recognized. It's an accounting thing, and all of it will be recognized in future quarters. Bookings are more reflective of the realities in the surface inspection business, and I'm happy to tell you that the order level for surface inspection in Q3 was quite good, especially in the metals industry, where we won business at mills in China and elsewhere in Asia.

In fact, as you may have seen in the press release we issued earlier tonight, bookings from China for our surface inspection systems totaled more than $2 million in the third quarter alone. Some of this business is from a multiyear agreement, which we recently signed with Biosteel, which is the largest steel company in China and the recipient of Cognex's 900th SmartView system. We also received orders in Q3 from another of China's biggest steel producers and also from a leading copper manufacturer. We expect surface inspection revenue to show a significant increase in the fourth quarter on a sequential basis due to the wins we have had during 2007 in the metals industry, as well as due to the deferrals from prior periods that will start to be recognized as revenue in Q4.

The next market, factory automation, we had a better than expected third quarter. This business is typically soft during the summer months and we expected to see a decline in revenue on a sequential basis. However, the actual results showed a slight increase over Q2, as lower sales from Europe where the impact of the seasonality is the greatest, were offset by higher sales in both the U.S. and Japan. The increase in factory automation revenue outside of Europe was primarily due to our sale of our ID products to manufacturers across a wide range of industries from automotive, to aerospace, to electronics. The opportunities for ID are throughout the manufacturing industries that we have historically served, such as semiconductor industry, where we recently won a large project at a leading ship manufacturer, as well as new industries that I'll comment on in a moment.

The semiconductor win that I just mentioned was announced yesterday afternoon in a press release. Cognex was selected by the chip maker for its traceability initiative after a rigorous qualification process involving several suppliers, because Cognex products were able to read their codes both more reliably and more quickly. This win represents approximately $200,000 of factory automation revenue in Q3, which we've already done, of course, and we expect another $400,000 or so in the next several months. The use of our ID technology outside of our traditional customer base is at the early stage of adoption, but we already have a number of important wins that we expect will represent meaningful revenue in the future. For example, we recently announced orders from a supplier of document security systems. This one customer represented nearly $200,000 of factory automation revenue in Q3 and there'll be another $100,000 or so in Q4. Until recently, high-volume applications such as this one, and others like it in the logistics market used lasers to read bar codes.

As the selling price of machine vision has come down and as the use of two decodes have gained acceptance, companies have moved to machine vision and usually that means Cognex vision. Cognex is the leader in this space because of our leading ID product, DataMan 100. It's physically smaller than the competitors, so it can fit into tight spaces, it is easier to use, and it is significantly faster than the competitors' offerings. By the way, DataMan 100 can read 2,000 codes a minute, that's more than 33 items passing by each and every seconds and it reads the codes on those perfectly. We have already sold this year $10 million of DataMan products, and that represents a 62% increase over last year's sales at this time. ID is clearly our fastest-growing market and we expect it to continue its rapid growth for a long time in the future.

Now some very recent developments. In October, we received more good news from the factory automation market. For example, last week our direct sales team in the U.S. closed a project of nearly $0.5 million from a major dairy producer. I can't tell you the application, but it has to do with the packaging. This sale, along with the rapid increase in bookings that we've experienced in both September and October tells me that the actions we've put in place earlier in the year in the U.S. sales organization are finally having their effect. We've been receiving positive feedback from the fields over the last six months or so on these changes, and now we're starting to see that enthusiasm turn into meaningful bookings.

We are quite optimistic about Q4 because of the ongoing improvements in our U.S. factory automation business and because of the usual rebound in Europe following the seasonally soft summer, together with the recognition of deferred revenue and surface inspection. Because of those things, we now expect that revenue for Q4 will increase on a sequential basis to be between $59 million to $62 million, and at those revenue levels, we expect net earnings to be between $0.17 and $0.23 per share. Of course, that includes stock option expenses which have a negative expense of $0.04 after tax, so without stock options that will be $0.21 to $0.27 is our projects.

That's the conclusion of my formal remarks and some of my informal remarks too. We will take your questions and hopefully be able to answer most of them.

Ladies and gentlemen. (OPERATOR INSTRUCTIONS) Our first question comes to us from Antonio Antezano from Bear Stearns.

Good afternoon.

Hello, Antonio.

Before I forget, any update on the replacement for the President position?

There is an update. The update is we have not found a candidate yet.

All right. So in terms of timing, it's still uncertain?

That's correct.

Okay. Secondly, just I guess in terms of what you mentioned about the feedback in terms of the changes in the sales organization, I guess whether there's been any change now that Chris Nelson is the leader for North America, whether there's been any change that he has pushed for in recent months in terms of distributors and direct sales?

Well, I can tell you that currently almost half of our revenue comes from direct sales, whereas in 2006, it fell to 18%? Now, I don't know if that's a change that Chris Nelson took into affect or if that change happened because of the earlier changes. So I can't speak to that. But what I can speak to is that September and October bookings are finally increasing and -- but I don't know to what particular things Chris has done.

Okay. Just final question is, regarding new products, earlier this year you mentioned the possibility of launching commercial sensor, like the door sensor and you've been working on warning systems maybe for next year. Whether you can share any update on that?

The update is we have put on hold any further development of the door sensor. Our analysis is that we couldn't make enough money at the price targets that the market was insisting and the lane departure warning is progressing very nicely. We have some deals that we've signed, some small deals we've signed with some tier 1s, but that's going to be a long time in coming when it comes to any significant revenue.

Okay. I'll go back to the queue. Thank you.

Sure.

Thank you. Our next question comes to us from Alexander Paris from Barrington Research.

All sorts of surprises.

Right. Some of them are good.

Great. I just want to talk a little bit about this ID business. Originally all the excitement about it was in the defense business. They had the rule where all suppliers over either critical products or over a certain minimum had to be part marked. Is that pretty much in -- is our supply all following that now?

I believe so. There's a certain amount of time that they have to roll this out, but the growth we're seeing is in other industries, not -- I'm sure we're seeing growth in the aerospace due to that and military, but the press releases that we've just issued in the past week or two and the buzz that I hear is all commercial business.

So you would consider the document reading now, that's outside the factory. Now, that's a commercial product.

Or that's right.

Or commercial application, at least?

That's right.

And is that relatively new going away from laser bar codes. And this is 2D bar codes?

That's correct.

Is that a relatively new development?

Yes, it is.

Is that the first major one you've seen?

I don't know the first major one, we closed some recently -- have we announced the -- not yet. There are a lot of totally different applications than we've ever seen. Who would think we'd be selling to printing companies -- companies that make printing machines for printing insurance policies and sorting mail and those kind of things, but that MacHine Vision is now doing that.

So you talked about doors for commercial and other things, but it looks like the document, the ID is the thing that's really maybe getting you into the commercial side of the business?

Yes. We can call it commercial, yes. But what I meant when I said commercial, I meant everything -- not military, is what I meant.

Right.

And the ones that are the major chip manufacturers, they are out marking every chip with a unique 2D code so that they can pull up the data of that chip and track it and make sure that it hasn't been counterfeited and things like that. Happening very quickly, Alex.

The SISD business, the service, can you tell us what's the amount of the deferred revenues in the fourth quarter?

Well, the increase in the deferred revenue in the third quarter was close to $2 million and we would expect that most of that will turn around in the fourth quarter.

And these China orders, are those -- when do the major deliveries on those start, in 2008?

I think the first one starts in Q4 and then there were others that were scheduled in the first half of '08.

And you implied that there's some extended orders, so you would get them over a period of time for different facilities?

Yes. I think it covers ten units and so we expect continuous orders from Bow Steel. We've been working on this and I want to thank guy named E. Lee and our sales team over there who have been working on this for well over a year to get us into Bow Steel and we've been successful at beating the competitors, which is [Possitech and Isra] and doing a great job now.

But basically the semiconductor and electronic equipment industries, like the pick and place machines and the semiconductor machines, that equipment has not yet turned and doesn't look like it's turning in the fourth quarter yet, is that what you said?

That's correct.

Okay. Any idea when it's going to turn? Is there talk that this is the last big bad quarter in the industry?

It's the future, Alex. It's going to change in the future.

Oh, good.

Two quarters. Maybe next quarter I'll tell you in two quarters. I'll be consistent. I don't know.

Thank you.

Thank you. Our next question comes to us from Jim Ricchiuti from Needham and Company.

Thank you. Good afternoon.

Hello, Jim.

Hello, Bob. Bob, I was wondering if we could get a little bit more color on the direct distribution business in North America? It sounds like you had a good quarter with the direct sales force, can you give us any -- can you quantify sequentially how much was it up versus Q2 in direct distribution?

I don't have the data for direct versus indirect by product line.

Yeah, we don't --

Maybe I'll ask the question a different way. You saw some success with the direct sales force. How are things going with your distribution channel?

I was speaking in total to be honest with you. I was not speaking about whether it was direct or indirect. Because we did make changes in the distribution channel too. We put the management out in the field and each region rather than having them centrally managed. So what I was reporting on was overall bookings are increasing and I'm attributing it or I'm hoping it's because of the positive changes we made. I was not reporting on specifically how the direct sales force was doing, nor am I prepared to do that. I just don't have the data in front of me.

Okay, with respect, a lot of concerns about slowing in the U.S. economy. What have you been able to detect as you've been going through the quarter? Was the quarter -- how linear was it? Have you seen any signs of weakness in any specific markets in the Americas?

We just had a report from Chris Nelson who runs all of North America and he has not seen any weakness.

Okay.

I can tell you where there's strength. My god, we're growing quarter to quarter in China where we're only selling our, what we call Vision Systems. We've changed the terminology, by the way. Insight and DVT are now called Vision Systems, Checker and future products like that are called Vision Sensors. In our Vision Systems business, quarter on quarter from Q1 to Q2, we grew 51%, from Q2 to Q3, we grew 34%, and we're expecting 42% next quarter growth, quarter on quarter. It's just incredible growth in China right now. Now the small numbers, $0.5 million or $1 million. Nevertheless, we are out there hiring and training people. There's great opportunity for our Vision sensors and Vision Systems in China.

Which markets, Bob, are you getting the most traction in over there?

I believe they're automotive right now. Do I have it broken down? Some of these are distributors, they're machines, some of them are for flat panel displays. I just have the names of the customers who are all integrated. I'm sorry, to have the applications, but maybe I can look. It looks like one of the big applications is all consumer products. It might be because China now is being pushed by the world to ensure their products meet all sorts of quality standards. God, if we ever had a detector for lead, we'd be in the money.

How were sales for Checker? In the quarter.

Checker sales are still, I got to tell you, not as exciting as they should be. I'm looking at it now, one sec. I'm going to tell you right now -- I can tell you the DataMan surpassed Checker, even on the quarter. DataMan surpassed Checker. These are revenue or bookings? Okay. Year-to-date on Checker revenue, let's see, let's see, year-to-date Checker revenue is about a little over $5 million.

Okay.

This chart doesn't show DataMan over $10 million.

Total ID is over $10 million.

Oh, bookings, okay. Bookings, yes. I'm sorry. We'll just keep on chatting here and you guys can listen. You might learn more than if you ask a few questions.

Sure, go ahead.

That's right. Well, about that Q4, Dick, are you sure we can take that deduction.

Let me ask you a question about the expenses.

Okay.

Your SG&A was lower than expected. Is there any -- can you give us any sense as to how Q4 might look? I assume it's going to be up from Q3. Your R&D is also up nicely versus Q2 and I assume that's going to stay at these levels going forward?

You asked a couple of questions there. Yeah, we do expect our total expenses -- total OpEx in the fourth quarter to increase as we continue to add heads and secondly there will be greater travel and marked trade show expenses in Q4 than there were in Q3. Q3 summer months, that tends to be very slow. Part of the increase quarter on quarter that you noted, Jim, in the area of engineering expenses, it was due to a couple of things, one of which was outside fees that we paid for development and prototyping costs, plus the fact that in Q2 we had -- because the results were so dismal, we had a reversal of some accrued bonus or whatever in the second quarter. So that, to a degree, artificially reduced the expenses in that quarter.

Thank you. I'll jump back in the queue. Thanks.

Thank you. Our next question comes from Chuck Murphy from Sidoti & Company.

Good afternoon, guys.

Hi, Chuck.

Can you repeat what the revenue was for the ID products?

Okay. ID products is made up of a couple -- It's insight -- Industrial ID, plus DataMan, which would have been about $15 million, I think. Revenue as opposed to --

Q3 alone?

No.

Chuck, were you talking about from the script, from Bob's prepared remarks?

Yeah, yeah, yeah.

I can tell you -- okay, here we go. Go I'm going to give you the total of three different product lines. You may not have it, guys. It's $10.413 million and that consists of three different product lines, one is the fixed mount Insight, industrial ID, the next is DataMan, which is the handheld and a fixed mount version, and then there's wafer ID. And I'm giving you for Q3 '07, those are the actual -- Those are the actual bookings. I never give bookings, but I guess I just did.

And also, Chuck, for the semiconductor win, the revenue in Q3 was $200,000 and then the revenue from the other factory automation ID customer was $200,000 in Q3.

All righty. Within factory automation, you mentioned ID as being the source of strength these days. Anything else that you're feeling particularly good about?

I'm happy about the fact that it appears we've solved or on the way to solving the distribution problems in the U.S. I'm feeling good about the investments we've made in China. I feel badly I probably should have done it a year ago, so I'm probably a year late. Although, Eric, when I said that to him, he said, no, Bob, let the competitors to go out there and train people and then we come out with a better product. I think we have 20 salespeople now in China and we're going to be growing that faster and they're delivering. So things are looking much better than they were a quarter ago.

Okay. And 20 salespeople, any idea what the goal eventually would be?

Well, I'd say no more than 5% of the entire population of China.

But you are still going to be adding some more people?

Yes.

That's fine.

I would be happy if we had 40 salespeople.

Okay.

But the issue is, the company's rather complicated. It's like a car. You can't increase just the horsepower without changing the transmission and then the tire starts slipping. I would like to hire 20 additional people, but we don't have enough trainers to train those people. So I'll wait -- it doesn't happen as quickly as I want, but I'm kicking people and I'm getting some results here.

Okay. And I know you said there's kind of a lag on when they become productive. How far along would you say they are in that process?

I don't know. But I would say given the increase in the bookings that I'm seeing, they're pretty good. The products they're selling are not the PC Vision products, which are very complicated. They are now selling Insight DVT and Checker and those products are somewhat easier to sell and also the market outside -- the market currently understands these kind of products now and ID is very easy to sell. I don't know how much ID we've sold in China yet. I don't know. But I know there's an opportunity there, because they've asked us for a different code, and that's fine, we like to do different codes.

Okay. All righty. Well, that's all for me. Thanks.

You're welcome.

Thank you. Our next question comes to us from Andrew Galligan, from TimesSquare Capital.

Hi. I was wondering if you guys bought back any stock in the quarter?

We did not. we're waiting for it to go down to 12.

So you've got a lot of cash.

Yeah.

More cash than you had last quarter, your stock spent a good chunk of the quarter in that 17, 18 range. I know you bought back stock in the low to mid-20s some time ago. What's keeping you from buying back stock this quarter?

Well, Andrew, it's a very good question and I guess I had it wrong -- you can give the actual answer. So under the theory of buy high, sell low, we did buy quite a bit in the mid-20s or low to mid-20s and now -- but then Dick told me I have it wrong. So Dick will give you one answer, which will hopefully hide enough of the truth. But go ahead.

One of the main reasons, Drew, was that in fact we had an extended quiet period in the third quarter as a result of the CKK investigation.

Okay.

and until we released -- get that all completed and released, we were not able to buy back any shares.

When did that end?

About the third week in August or so. And then our quiet period for the third quarter began like around the second week in September.

So you couldn't do anything in that period of time then?

Andrew, I told you he was going to tell you the truth, but not the whole story. We had very good reasons to not buy the stock back. That's what I'll tell you. I can't go on to it.

I think what understand what you're saying. Thank you very much.

You're welcome. You'd be one of the first to understand what I'm saying, by the way. My wife doesn't understand what I'm saying. Smart questions. That was a good question. We were waiting for that one.

Our next question --

I knew you were going to ask Dick, and then ask for the dates. So what, you were sitting on your hands for the second half of September and all of October -- go ahead.

Our next question comes to us from Robert Mason from Robert W. Baird.

Dr. Bob, I think you mentioned in your prepared remarks that Japan sales were up, those were one of the growth drivers, in reference to factory automation, is that correct?

I did say that.

I'm curious, that market actually has been weak for a lot of people here of late. What the uptick has been there. And has there been any effort to transition some of the semiconductor OE sales force in that market to factory automation?

Both of those are good questions. I don't think that the softness that other people are seeing has anything to do with what we're seeing. Ours is entirely, in my view, related to the fact that we didn't have the right -- well, there were two things. We have a semi business and a factory automation business. The semi business has gone through a change where the customers want software only and those are lower-priced products. That's one thing. So we're transitioning to those, so even if we saw the same number of units, it's lower dollars. And that's happening in the semi space.

In addition, the factory floor business, the reason why we're weak there, and we had some improvement, I guess, but the reason why we're weak is we didn't have the right product for the Japanese market. Insight and DVT are great for the rest of the world. They're not great for China and for Japan for one reason or another, that I won't go into now. And we had stiff competition. There are two companies we compete with head to head. [Armron and Keyence] Both fine companies with large sales force in one case, large distributor network in the other case and so it's our own -- it's our problem. It's not an economic problem. I will say, however, we have some very good headway with ID in Japan. We're making very good headway where we don't see that competition yet.

Okay. So in reference to where we do have a product gap, we had talked about late year addressing that.

Actually, it's going to be early. The schedule now is first half. As a matter of fact, even the first quarter of 2008, a new product is coming out that it will be a world product. Much easier to use than even our existing product, multiple heads, whatever we need -- it's going to satisfy not only Japan, which was the first target, but as we kept on looking at it, it's going to be the future product for the U.S. and Europe as well. But that's not the entire problem.

We still have a sales force issue. We've recently hired a new head of sales. As you may recall, we terminated some people in Japan because -- well, they made the bookings, they just weren't real and that seems to be a problem for the SEC and for legal counsel, so we had to replace those people. We hired some new people that we think are very good, of course, you wouldn't hire idiots, but they need training and everything. Still, it's a competitive business there. We're going to need a partner in Japan for much of our factory automation business and we're working on that.

Okay.

I'm happy to say, I'm happy to report, it was the first question by Antonio, have we found a President for the company, yes, we have, not a President of all of Cognex, but we found a President to take over Japan. A fellow who we have been working with, I won't identify him yet, for many, many years and he has agreed to come onboard to replace [Hironobu Ogusu, or Ogusu-san] who came back out of retirement to run the company for a few months until we were able to find this excellent replacement. There's a lot of rebuilding to do in Japan on the manpower side and we're well on the way to doing that, but it's not a simple problem, but we like tough problems.

If I can circle back just to the semiconductor OE business there in Japan, the software only dynamic we're wrestling with, can we infer that your underlying semiconductor business is stronger because of that dynamic as we track along at a fairly flat sequential level in terms of sales. Is the market stronger because of that?

Well, maybe you're asking that question to figure out more about the equipment business, but if my revenue is going down, then that ain't stronger. So I would never use the term stronger for things that are going down in dollars. I could always say, yes, we're selling this many more units, but we don't report units per share that we sell to our shareholders. We report earnings per share. So it is not a strength.

No. I don't --

Also, I don't believe even if you were thinking of it in other terms of unit, I don't even think that's good either. In other words, the capital equipment business is not doing well, if that's you wanted to know. Not doing well.

Thanks.

You're welcome. To be frank, to be honest, I think the piece that we call semiconductor is a cyclical declining business, that's all there is to it. Cyclical declining. Our goal is to keep it declining as slowly as possible by introducing new products, but nevertheless, cyclical declining.

Thank you. Our next question comes from Antonio Antezano with Bear Stearns.

Just a quick follow-up. I don't know if before when you were talking before whether you disclosed the revenues for the quarter in China?

I did not. We can tell you that. We don't have it with us, sorry.

It's lumped into all of Asia. I don't have the details right here.

Sorry.

What was your head count at the end of the third quarter?

789.

789? And a final question, regarding new products into 2008, now that the door sensor is not -- a no-go and you are focusing more on ID, it seems, what other type of products maybe you could share could be launched in the future or I guess in the near future?

Well, we have some -- we have something called LineMax, but a lot of people listen to these calls, including my competitors. So we're not going to go into detail on products that we expect to introduce next year. But I can tell you that the sales force, they've seen the products, the road map, and they're very excited about it and I am too. I walked around engineering yesterday and just see some amazing stuff. Very good things, very good opportunities, and every one of them costs us less to make than the predecessor, yet has more power and will sell to the same price.

Thank you.

You're welcome.

Thank you. Our next question comes from Ben Alexander from Alexander Capital Management.

Congratulations on a nice quarter.

Thank you, Ben.

You're welcome. Wanted to ask you, do you have any comments on other new products? Well, you've already said you're not going to talk much about the new products because of the competition and all that, but is there anything you can say relative to broadening the markets and using the engineering capability you have to attack a broader marketplace?

Well, it's an interesting question. The answer specifically to your question is no. The talent we have here is really geared to MacHine Vision, though we are a sensor company. It happens to be that we build sensors that are vision-based, that use light, and we've been thinking about expanding into carrying and designing and developing or acquiring other kinds of sensors. There are magnetic sensors, there are pressure sensors, there are inductive sensors, there are many other kind of sensors and that would make it more productive for a sales force to go in with a broad array of products rather than just one product, and that's one of the challenges that Cognex is facing now.

That we have a broad array of vision systems, but that's like having a broad array of screwdrivers. We have a Phillips' set, a flat set, a torque head and different length, but it's only screwdrivers, and you walk into a factory and they may need other things, they may need hex head wrenches and gauges and pliers. So one thing we have been thinking about is how to get more out of our sales and distribution by putting more products through them. One solution is put products through distributors. As our products come down in price, it's harder and harder for us to maintain a sales force to sell these very low-cost products, if that's all they have in their bag.

So to answer your question, no, the engineering talent, generally speaking, cannot -- would not be appropriate for going outside of Machine Vision. I'm assure they're smart enough, but their whole experience is Machine Vision. But that does not mean the vision would always be a vision company. Maybe it senses for industry, or in addition to vision for industry.

Okay. Does that having anything to do with why you didn't buy back stock?

I didn't hear that question.

I'm sorry. Does that, what you just talked about there, does that have any bearing on why you did not buy back more stock this quarter?

Actually, I did hear the question, but I still didn't hear you, no, we're not going to answer the question.

Okay, thank you.

Thank you for asking.

Thank you. Our next question comes from Andrew Galligan from TimesSquare Capital.

I hate to berate the buyback question. Do you expect to get more aggressive with it this quarter?

No.

Okay, thank you.

Thank you. (OPERATOR INSTRUCTIONS) Our next question comes from Jim Ricchiuti from Needham and Company.

Dick, can you say what the professional fees were in the quarter, because you said they were a little lower than expected?

Yeah, we had indicated in the press release when for Q2 when we were looking at the Q3 that we anticipated that the professional fees would probably run between $1 million to $1.5 million and they came in right around $750K.

Okay.

Which is about 10 times more than what they should have been. Because Dick went over there and in three days had all the data and all the results, which of course were confirmed after spending $750,000. This is one of the problems of Sarbanes-Oxley. This is one of the problems. So -- and everybody was telling us, by the way, that they had to do it to protect the shareholders. So these people put their hands in the shareholder's pockets and extracted $750,000 to protect the shareholders. Well, I don't want to be protected so much anymore.

On the bright side, Bob, that's $750,000 that's going to be back in shareholder's pockets in the December quarter?

I'm sorry, I didn't hear that?

That $750,000 at least won't be affecting your Q4?

No, that's right, that's right. Yes, but it's still gone.

Yes.

The cash is gone.

We work hard to bring in $750,000 of after-tax and --

Understood. Had a question on the bookings that you're seeing in the SISD business. It looks like you showed a nice increase in that market. Besides the metals market, any other markets that are showing some signs of life --

Oh, yes, paper. I'm not going to announce it now, because we're still typing up the press release, but very nice paper order, very huge.

Do you feel that you're perhaps taking some share in this market just based on the changes that have occurred at Possitech.

Yes, it seems so.

Okay. Thank you.

It seems that that's the case -- or it's certainly timely with that case. Yeah.

Thank you.

You're welcome.

Thank you. (OPERATOR INSTRUCTIONS) Our next question comes from from Antonio Antezano from Bear Stearns.

Sorry. Final follow-up. You mentioned in the prior quarter that the run rate in the second half for surface inspection was $15 million and there was this deferred revenue of about $2 over what was sold in Q3 of $4.5 million. So that run rate of $15 million for the second half remains the same?

Yes. When we talked about the run rate relative to bookings and revenues, we weren't -- we were anticipating there would be about a $15 million and we think that we'll be pretty close to a $15 million run rate for the second half.

Okay. Thank you.

Thank you. Our next question comes from Ben Alexander from Alexander Capital Management.

Hi. Thank you for taking my question. I wanted to ask you if you could talk a little bit about your acquisition criteria?

Well, it's been changing. Our initial acquisition criteria was that we only by vision companies and we've done 11 of those. And the acquisition criteria are that has to be not terribly large, 30 to $50 million and everything we bought was in that range. The acquisition criteria had a word that it had to be high gross margin and that it had to be a culture similar to Cognex or perhaps no culture that we can inject our culture in. It had to be projected to be profitable within six quarters, I don't have it in front of me, but these are the basics. That's what it's been.

So has it changed, or is that still the criteria?

Well, you know, we always can -- if we see something good, we can change it, but you can be sure what we're not not going to do is go too far from where we are in technology. We're not going to suddenly get into data-based management software or making iPods. We're not going to do that. What we're going to do is see what talents we have in the company and how we can leverage those. The talents we have are software engineering, machine vision algorithm understanding, hardware design, distribution to factories, sales force and high-quality, rather low-cost manufacturing and if something fits into that and it -- right, if it fits into any one of those categories, we would look at it carefully.

That sounds good. Thank you.

You're welcome.

Thank you. I am showing no other questions in queue and I would like to return the program to you for any closing remarks.

One question is, if I ask a question, do I have to push one? Because my question is that there was a question about are you going to get more aggressive in buying stock back in Q4 than you were in Q3. And that implies that we were aggressive in Q4 -- in Q3, right? Doesn't it? The answer is still no. We don't expect to buy back any stock back in Q4 currently, but it was just an interesting way of phrasing the question. Now, can I go on more and more about whether we should give driver's licenses to illegal aliens, but I'll leave the line open for a few more minutes and see what comes up. Any other questions?

(OPERATOR INSTRUCTIONS) I am showing another question now from Antonio Antezano from Bear Stearns.

Related to acquisitions again, when you look at Checker, I guess initially when you launch Checker, you launch it as a substitute for laser-based sensors or photoelectric sensors. Would photoelectric sensor be considered to be close to vision sensors, laser-based sensors?

It certainly would.

Okay. Thank you.

It certainly would. As a matter of fact, one could make the argument that it's a single vision system, it's a single pixel vision system and we would like to have a range from megapixel to single. It fits in perfectly.

That's right. Thanks.

Thank you. (OPERATOR INSTRUCTIONS).

Okay, guys. It seems like it's a wrap. I want to thank you very much for attending the call and for continuing to be interested in Cognex. I hope none of you went short, because I see the aftermarket activity is just booming, looks good. So we hope to report to you on the Q4 and our year end results sometime in February.

February, yes.

Okay. Adios and we'll be working hard. Bye-bye.

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program and you may now disconnect. Everyone, have a great day.