Cognex Corp (CGNX) 2009 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Cognex third quarter 2009 earnings conference call. At this time, all participants are in a listen-only mode. Later, we'll conduct a question-and-answer session, and instructions will be given at that time. (Operator Instructions). As a reminder, this conference call may be recorded. I would like to turn the conference over to your host, Mr. Richard Morin, Chief Financial Officer. 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 2009. For those of who you have not yet seen this report, a 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. During tonight's call, 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 makes 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 will turn the call over to Bob Shillman.

Thanks, Dick, and good evening everyone. I want to welcome you to our third quarter conference call 2009. If I sound a little under the weather, that's because I am. First of all, it is cold and gray in the Northeast, which is where I am today over at the headquarters, and the second reason is that I have a head cold. But I am happy to tell you that is the only reason I am under the weather as (inaudible) appears to be improving. As you can see from the press release that we just issued, we reported revenues of $41 million for this quarter and earnings of $0.03 a share, and that excludes both a modest restructuring charge and also a significant tax benefit that we'll talk about in a moment.

Customer demand on third quarter was a bit better than in the prior quarter, which is encouraging considering that with the second quarter in a row where orders increased on a sequential basis. This was unexpected in this Q3, as we had anticipated that the quarter will be softer than the second quarter due to the normal seasonality and the factory automation market, which is the largest market that we serve. The higher demand for our products in Q3 led to higher revenue on a sequential basis. This higher revenue combined with an 800 basis point increase in the gross margin percentage and the additional savings from our cost cutting measures resulted in our return to profitability sooner than we had anticipated. Excluding restructuring charges, operating income was $1.1 million for the third quarter, which is an increase of $5.2 million over the loss of $4.1 million in Q2, and non-GAAP earnings of $0.03 a share for Q3 are an increase of $0.11 per share over the non-GAAP loss of $0.08 in Q2.

I am going to talk about revenue in more detail and then we'll walk down the P&L. Revenue from the semiconductor and electronic capital equipment market, or SEMI as we call it, was approximately $4 million for the quarter, which represented a large increase, 61% or $1.5 million on a sequential basis. We saw improvements in Japan, Europe, and Asia, primarily because customers replenished their inventory and to a lesser extent to meet higher demand for their products. In the service inspection market, revenue in the third quarter was $8.4 million. Although this represents a 15% decrease from the prior quarter, it was slightly better than we had expected. The decrease was due to the fact that we recognized more previously deferred revenue in Q2 than we did in Q3. Actual throughput increased over Q2, which resulted in better overhead absorption.

In the third quarter, we saw a pickup in orders from the paper industry which increased both year-on-year and sequentially. In particular, we received orders totaling more than $1.3 million from two paper customers in the United States. These were competitive wins in an industry that recently began to invest in planned upgrades and retrofits after holding spending low for a few years. The timing is very appropriate, perfect for our recent acquisition of the SmartAdvisor web monitoring system, which strengthens our product lines in specifically the paper industries.

The SmartAdvisor web monitoring systems are complementary to our SmartView web in-service inspection systems. When used together, SmartView automatically identifies and classifies the defects on the materials made in a continuous process such as paper, and the SmartAdvisor provides the customer with the ability to track the cause of those defects back to their source so that they can be quickly eliminated. The acquisition SmartAdvisor provides additional functionality in that our customers want and we expect to gain incremental revenue from established product lines which had been sold primarily in North America, but now we intend to expand globally through our existing worldwide sales and service network. In addition, SmartAdvisor opens opportunities for us to expand our customer base into accounts that have traditionally not been Cognex customers.

In the third market that we serve, factory automation, revenue was up $28.8 million in Q3. This is a slight increase over the prior quarter and was unexpected again because the factory automation market typically declines on a sequential basis from Q2 to Q3 due to the summer seasonal slowdown. Customers' demand indeed was soft during July and August as expected, but came back stronger than anticipated in September due to a couple of big projects that we closed in North America. The largest order we received was valued at at approximately $1 million for our new DataMan 200 ID Reader. The DataMan will read 2D codes that are printed on financial documents and are moving at very high speeds through mailing lines, printing and mailing lines, to confirm that each personally addressed envelope includes the correct person's documents. Every one of the pages is verified. This is an important win for Cognex as it was a highly competitive situation. The performance of the DataMan 200, its Ethernet capabilities, and its very small size won the business for Cognex over a tough competitor.

Turning now to expenses, there are a couple of items in the third quarter results that I want to highlight. The first was a gross margin percentage, which was 71% in the Q3 as compared to only 63% in the prior quarter. This improvement is primarily due to a lower provision for obsolete inventory in the third quarter and to revenue from MVSD systems, which have a higher product margin than service inspection systems, so therefore representing a higher percentage of total revenue in Q3 than they did in Q2.

The second item is operating expenses. The combined total of RD&E and SG&A, of course excluding stock option expenses, for the third quarter declined by 24% year-on-year and 6% in the prior quarter. This significant decrease is due to the cost cutting measures that we implemented in late 2008 and the first half of 2009. Many of the cost cutting measures we took are permanent. However, we received the full benefit of them starting in the third quarter. Also, we received a benefit of approximately $1.5 million in the third quarter for mandatory shutdown days during the summer months. These savings will not repeat, and therefore will contribute significantly to the expected sequential increase in Q4 operating expenses. We also intend to increase some of our spending in our strategic initiatives that I will be talking about.

As I've discussed on prior conference calls, Cognex is focused on a number of strategic projects that we believe are crucial for our long-term success. I will go through them now. First is our collaboration with Mitsubishi, which is doing very well. To date we have signed up 14 of Mitsubishi's largest distributors, which was our goal for all of 2009, and we believe it is possible that we may have as many as 20 signed by year end, which will provide us tremendous access to the factory floor in Japan in 2010. These are starting to come in through the channel, which indicates that we're getting traction in the channel, and these projects are with both machine builders and end-users in factories in Japan. Some of these projects have large volume potential, and Cognex would not have had access to these opportunities without this very important partnership. We have also closed some significant orders.

Our second key initiative is with our ID, products where we are continuing to invest R&D resources to tap the significant growth potential we see in this business area. ID has been a fast growing business for us, and manufacturers continue to invest in what is termed track and trace projects. In 2009, we won a number of projects in the direct part marketing of medical devices. In particular, one well known manufacturer gave us orders totaling nearly $200,000 in Q3 for DataMan ID readers. We have a pipeline of ID products under development that will be introduced starting in 2010, and our goal for these products is to set the bar higher for performance of reading and ease of use while also broadening our reach into the industrial market.

Our third initiative is to focus on key vertical markets such as solar and pharmaceuticals, where we believe there will be strong demand for [vision]. In particular, there is a strong need for inspection traceability throughout the pharmaceutical supply chain to combat counterfeiting and diversions, as well as to comply with the new GS-1 standards. Adoption of machine visions of these applications is in the early stages, and we're laying the groundwork for growth in this industry as well as in others that we believe have significant growth prospects even in a slow economy.

On the engineering side, we're pleased with the fourth initiative, which is our vision system on a chip. In the third quarter, we completed an important milestone in the development efforts of VSOC, the tapeout -- that's the term -- we did in July was successful, and we currently have working samples on hand for internal use. The Cognex product based upon our VSOC is scheduled to be introduced in the second half of 2010, and we're also in active discussions with a few potentially large volume OEM customers who are exploring the use of VSOC on equipment that they will bring to market.

In summary, the current tone of business is encouraging but certainly not bullish. Customers continue to spend money, but only when they have to do so, and the timing of when or if an order will close continues to remain uncertain. However, the project pipeline has increased so that our sales team has more potential orders to chase, and that is the good news. We are working hard and fast on these four strategic initiatives. We see many opportunities for Cognex machine vision both in markets we serve today and in the new markets that we plan to enter in the near future. It looks like we're positioned for a pretty good 2010, and we expect to grow the business and also be profitable in every quarter next year. Now we will take any questions you may have. Operator?

(Operator Instructions). First question comes from Richard Eastman from RW Baird.

Hi. Just a couple of things. One is in the factory automation business, could you just maybe provide a little bit of color on how the distributor channel did relative to the direct channel against that 32% decline, or better yet the slight increase quarter to quarter?

Hang on one second.

We'll give you the more accurate answer, but I can tell you that for the factory automation products for our Insight products, about 60% to 70% go through direct and the remaining go through distribution. When it comes to Checker, which is the vision sensor, it is pretty much the other way around -- the majority of the products go through distribution. Dick is going to give you --

Maybe, Bob, just in the meantime, could you just talk for a second about the vision system on a chip? Maybe some of the potential early adopters, give me an idea or us an idea of maybe like an end market application where it has big advantages.

Let me check to see. Hold on for a moment. Okay. For competitive reasons, Rick, we decided that we're not going to talk about the first applications which are pretty much in the works. We're going to have a product as I mentioned the second half of next year. It is going to be in one of our products for a very particular application where it is going to increase the depth of field and make the product much faster than the existing one. It is going to be able to do things the existing products can't do, and also the OEM applications that we're talking about the high volume ones we prefer not to say what the tool is that they're going to be using, but again it is something that cannot be done with vision today and is being done in high volume of other technologies.

Okay.

On your other question, Rick, relative to the factory automation business, we saw a slight increase of about a couple of percentage points if you look at the breakout between direct versus distributor. This quarter it was a little bit higher towards direct than it was to distributor. I think partially a couple of reasons for that were, as mentioned in the script, we had a couple of large project orders that were booked in the quarter. And those came direct, not through distribution.

Okay. How big is the product [of] that business for you at this point? Can you just size it roughly on annualized basis?

Year-to-date it was -- approximately through three quarters approximately $26 million.

Year-to-date. Okay. And then the last question, Dick, was there any inventory charges at all in this quarter?

Minimal.

Okay. Not enough to mention. Thank you.

No. There is some pretty much every quarter or whatever, but this quarter it was very minimal.

Okay.

The ID business is one of our fastest growing -- I think it is the fastest growing business for us. We expect somewhere around mid 30 millions, about $35 million this year.

Is that a function of those end markets? I mean, obviously you have some refreshed product there and fresh product, but is that also a function of the type of markets and the growth in the end market, for instance, pharma?

No. I think the growth is from two things. One is the initiative that companies have taken to use direct park markings, and they're required in certain industries to do that now, to mark directly on parts, and we are I think the global leader on that. I don't know what the percent of the $36 million is direct part marking, but I would be surprised if it wasn't at least one-third is direct part marking. That is just starting to take place.

One of the orders that we closed was direct part marking on medical instruments, and the objective there is for every instrument that's used in an operating room to have a 2D code on it so -- and a unique 2D code, not that just says it is a forceps, but which forceps it is, so we can keep track of these items and make sure they don't leave them in patients and make sure they have gone through the sterilization process. Some of the growth is due to the initiative on direct part marking.

More of the growth I think or equivalent amount of growth is due to the fact that ID codes, 2D codes are being put on paper documents like now insurance documents to make sure people get all the pages they're supposed to be getting. Also, we have some good business with the post office on reading codes. So the market is growing, and we are displacing in many cases other alternative methods of doing these jobs. This should be -- I happen to have antihistamines in me and I will talk too much, but I can see this growing into $150 million business for us, ID, should itself be $150 million business.

We'll let Sue put a timeline on that.

That's right. I didn't say by when. There you go.

Thank you.

Our next question comes from Jim Ricchiuti from Needham & Company.

Do you want to put a timeline on it?

During my lifetime.

The revenue improvement that you're anticipating for this quarter, would you expect it to be revenues up in the three main areas, factory automation and SEMI and SISD?

I guess we would expect it to be up in factory automation, because we're not expecting the decline that we saw in Q3 from Q2 in Europe. The other regions essentially increased quarter on quarter. Europe had its typical decline, so we would expect not to have that decline. SEMI increased a little bit, but it may not be a significant one. And on the SISD side, we're hoping that the acquisition that we just completed at the end of the third quarter, that that should help us in the fourth quarter as well, as we have already landed a few orders in the first couple of weeks of the quarter.

We are very pleased with this acquisition that Tom Nash helped bring in. He is the President of SISD. We have already booked in October nearly $1 million of business of that new product in one month. These were orders that were always in process, but nevertheless this looks like a very good acquisition for us.

Any color you can give us on bookings elsewhere in the business in October?

I just looked at some charts, and I would say the only disappointment that I see is Checker. Checker is not growing, and we have a constant problem with this product, and it is the distribution of this product is a real problem for us. Other than that, they all look good.

Now, having said that, they look good from down numbers. Okay? We're going to -- 2010 is going to be a year of great comparables. 2009 just sucked, okay, it was terrible. That's a technical term. You can learn from politicians and the like. We're happy that we're making money again after only two quarters of losses, which is better than I think most companies.

But nevertheless the economy is still in my view very, very soft. And I see heavy sledding ahead for most companies, and it is not a good time when there are 10% of Americans are unemployed and maybe even more than 10%. It is not a good time. We're putting together a business plan, and it looks okay. It is not going to be back to 2008 levels yet, I think. Is that fair to say? It is not going to be 2008, but at least we're going to show growth and we're going to make money.

You mentioned you saw a little bit of an uptick in your SEMI electronics business in Japan in the quarter. If you exclude that, Japan looks particularly weak in factory automation.

Very right.

Could you get any sense the business there is bottomed and what are you seeing? What are you hearing there?

I know that our business is going to be -- I would say up significantly in 2010 because of the Mitsubishi relationship. We're going to be getting business that we never would have heard about even in a very down economy. Now they're going to be buying Cognex instead of [key] division and [Omron] division and they're going to be buying Mitsubishi PLCs instead of Omron and [Kiam] because of the combined product line that we bring to these customers. We have already had some significant wins, not only for Cognex, but we have helped Mitsubishi where Mitsubishi was going to lose the PLC business, which is a very large piece of business for them in this particular customer. But because Cognex vision was there, they went with Mitsubishi, and that's the reason why from Mitsubishi's side they formed this relationship with us. They're not making any money on this deal, as a matter of fact. The money they're making is protecting their own PLC business.

I see.

Fantastic company to work with, I have to say. Our experience in Japan has always been very positive, and these are some of the smartest people we have met and savvy, and they understand how to make products and how to get products to customers, and they're already talking to us about expanding the relationship to other parts of the world.

Okay. And last question for me is just the growth in Asia that you saw in the quarter. Is that mostly coming from China and what can you say about the business there?

The SISD growth is certainly in China that we have seen.

Not in the quarter. In this particular quarter, SISD grew mainly in North America and Europe. Japan and Asia --

I was thinking bookings. You're talking about revenue?

I was talking about bookings and revenue -- principally came from North America and Europe this quarter for SISD. And those paper orders were mainly American orders or whatever, and the metals industry was pretty low this past quarter. I think on the factory automation side -- I think what we saw in Asia is a lot of the increase. Some of it came from China, but a lot of it came from other areas of southeast Asia, mainly related to electronics.

I see. Thanks. That's it for now.

(Operator Instructions). We have a follow-up question from Richard Eastman from RW Baird.

Just wanted to review for a second -- not to start a riot on your end of the phone or anything, but from a restructuring perspective -- and I think you flagged this in the Q, the savings from the April event were expected to be about $8.5 million for next year. Then I think there was a -- I know there was a plant closure in Finland for SISD, which was maybe flagged as another $1 million of savings for next year. How should we think of that total, that $9.5 million of savings? Obviously that includes some variable costs. How should we think of that savings number as we head into it through calendar 2010? Do you retain half of that or to two-thirds or -- ?

I think if you take a look at the Finland costs, we will retain most of that, I would say. We're closing that operation down within the next month or so. We'll have a couple of people working on finishing up a couple of items.

Relative to the $8.5 million that you're talking about, I think most of that will -- in fact is related to certain personnel reductions or whatever, and the closing of a couple of offices. The office savings will be permanent. The people won't be replaced unless we see that business does in fact increase. I think a lot of those personnel issues were sales people that were cut in various areas including in Japan, where now we expect that an awful lot of the business will be going through the Mitsubishi distribution network. It is hard to quantify exactly how much of that will stick, because to a certain degree as -- for example, as the Mitsubishi distribution network expands, we're going to have to provide additional support, training, and marketing or whatever to help support that network.

Okay. All right. One other thought -- on the SEMI OEM side of the business, I noticed there was a reference to pricing pressure there. Given that the business now is primarily a software sale, does the price pressure surprise you, since there is not a hardware content to much of that?

Well, an interesting point, Rick. It turns out that software is easy to discount. It is hard to keep track of what it costs, so we have competitors out there, one of whom we are suing quite successfully I might add for infringing on our patents. And it is a lot easier to sell things cheaply when you steal them, I suppose, so that is some of the pricing pressure.

I understand. Okay. All right. Thank you.

You're welcome.

We have a follow-up question from Jim Ricchiuti from Needham & Company.

Guys, when you think about 2010, are there any cost savings that you have been able to wring out in the last couple of quarters that might be temporary in nature and that might be phased in over the course of 2010?

Clearly --

My answer is no, except the SOC, I guess. Certain cost initiatives.

As he is talking about cost savings, costs that we have taken out that you don't see the full benefit in -- I believe, if I understood your question correctly, Jim, you were trying to figure out how much of a cost savings that we might not get the full benefit in 2009, but we would in 2010. Is that what you're saying?

The question is more along the lines of there have been companies that have had cost reductions, but they have been more temporary in nature and some of these will be restored --

No.

Okay.

No. There will be some of these costs that will be restored.

You mean -- well, I know what Rick means. I know what Jim means. For example, we do not have the Friday shutdowns now. That's what you mean, Dick.

That's not what he means.

I believe what you're getting at is are we going to hire a lot more people next year? Is that what you meant?

That's part of the question.

The answer is if we do, they will be hired in low labor rate [low cost] locations.

Okay.

We do not intend to go back to where we were. Maybe we will on headcount, but with less expensive heads.

All right. Just looking at gross margins, is there anything you can say about how we might think about gross margins in this quarter, just given the improvement we saw this past quarter?

I can feel pretty comfortable in saying that I don't believe that you're going to see another 800 basis points increase.

Spread.

Quarter on quarter. I am fairly comfortable in --

70% or more.

In making that, but absent any unusual items I would expect that we would be able to remain above 70%.

Okay. That's helpful. You seem very pleased with the acquisition you made. Anything else that you're looking at? What's the level of acquisition activity out there?

Disappointing, I would have to say. We have -- there were three people looking at acquisitions. Jorg Kuchen is the lead dog and Rob Willett and myself follow up with things that are interesting, but right now there is nothing that is terribly interesting to us. There is new technologies, new applications of machine vision, but they're losing lot of money, a ton of money, and that's no fun. Let them lose it on the venture capital and not on ours. So I would have to say that there is nothing on the front burner.

Okay. And --

We would love to buy some entities out there that fit in well with us, and we found this one, this web monitoring system that fills in perfectly, fills a hole in our product line, to similar kinds of customers. Some of them are the same customers. It just fits in really well. Those -- we do one a year. We would like to do five a year.

And final question for me, I think it was in your press release or might have been in your introductory remarks, but I believe you alluded to a fair number of projects you're going after. Can you be more specific as to where this is coming from, verticals, geographies?

Geographies, that's very easy. We have seen an increase in potential projects in all of the major regions that we serve.

We have nice quote activity going out there, very nice quote activity, but we hesitate to give you the particular marketplaces and applications.

One of the problems that we're seeing, too, is that some of these -- while the projects are surfacing and we're going out and quoting, but some of them are staying on the open list and not closed for a little bit longer than they may have a couple of years ago. People are still a little bit cautious about when in fact they're committing the dollars.

I just want to make a comment now that we're on the phone regarding acquisitions to all of my competitors who are out there now. Want to join the Cognex family, it is a lot simpler, okay? We'll put some money and stock options and stock in your pocket, and reduce expenses through the synergies, and go beat up the real competitors around the world, the other guys. So the phone lines are open today. They're open always. I know you're listening out there. I know which companies are listening. We have a list. Let's get together and do some business.

It is star 1 if they want to respond, isn't that right?

By the way, I would like to make one clarifying comment relative to some of the expense increases that we might see in 2010. We reduced our headcount back by about 145 to 150 people or whatever. We have no intention whatsoever of getting back up to that original level in 2010. We may be hiring some additional salespeople or some engineering talent or whatever, but a lot of those reductions will remain in permanent savings, if you will.

Okay. Thanks very much.

You're welcome, Jim.

Our next question comes from Chuck Murphy from Sidoti and Company.

Good afternoon, guys.

Hello, Chuck.

Most of my questions have been answered, but just a couple for you. My line got cut off earlier. Did you say your expectations for SEMI in the fourth quarter -- is it going to still have the momentum that it had in the September quarter?

We said that we expect it to at least be as good in the fourth quarter.

Okay. And I have to imagine that that played a pretty key role in the gross margins for the September quarter?

Not that much. What we had happening, there were a lot of things that happened in the gross margin. First you had a significantly less E&O charge quarter on quarter. We had better absorption in -- at both divisions because of throughput going through and the reduced expenses with the shutdowns that we had during the quarter. SISD fared better because they went from -- in Q2 they had some more of the revenue was coming from metals type customers, especially from Asia which has very low margin. And in Q3 it was -- we had some good orders coming from paper in the US, and those had better margins. SISD also benefited from additional throughput, because a chunk of their revenue in Q2 came from deferred revenue from shipments of prior quarters, and we also had favorable purchase price variants. So there were all kinds of little things, each of which might have contributed 50 to 100 basis points, and the E&O charge was probably a couple of hundred basis points.

Okay. My other question was regarding the factory automation order that you got, the DataMan one. The competitor that you beat out for that business, was it a domestic or foreign competitor?

It is a domestic company owned by a foreign holding company, foreign conglomerate.

That's all I had. Thanks.

(Operator Instructions).

Okay. The team here wants to thank you for your continued interest in the company. We're rather pleased with the results, surprised by the results actually, so it is a good thing, and hope to be positively surprised when we talk to you next time reporting Q4 and the results of the year. Signing off, it is Dick Morin and Sue Conway and Laura MacDonald and Dr. Bob Shillman. Take care.

Ladies and gentlemen, thank you for participating in today's conference. This concludes our program for today. You may all disconnect and have a wonderful day.