Cognex Corp (CGNX) 2010 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Cognex Corporation's Second Quarter 2010 earnings conference call. (Operator Instructions) As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, Richard Morin, Chief Financial Officer.

Thank you and good evening, everyone. Earlier tonight, we issued a press release announcing Cognex's earnings for the second quarter of 2010 and we also filed our Form 10-Q. For those of you who have not yet seen a copy of these reports, both of them are available on our website at www.cognex.com.

They contain 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 statements as reported under GAAP in exhibit one of the earnings press release, and a reconciliation of certain items in the income statement from GAAP to non-GAAP in exhibit two.

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 will turn the call over to our Chief Executive Officer, Dr. Bob Shillman.

Thank you, Dick, and good evening, everyone.

I would like to welcome each of you to our conference call tonight. Well, it's not yet tonight in San Diego where I'm calling from. But, it is on the East Coast.

I am pleased to report to you our spectacular financial results for the second quarter of 2010, which were significantly higher than what we had anticipated. As you might have seen in the press release issued earlier today, strong demand across our customer base drove us to achieve a new quarterly record for bookings and we reported record quarterly revenue today of $71.8 million.

The record revenue that we set for the total Company is a result of record revenue from customers in the factory automation market. This underscores our success over the past ten years to expand the sale of Cognex Machine Vision Systems. the customers across a variety of industries and applications from diaper assembly to solar panel inspection.

When we set our previous record during the dot com bubble in 2000, Cognex's revenue was highly concentrated among a relatively small number of customers in the semiconductor and electronics industries. In those days, there was one customer alone who accounted for 10% of our revenue, but today, we have a much broader customer base and no single customer is nearly as significant. The largest customer year-to-date is 3% of revenue and happens to make print inspection machines that include our products.

We are very pleased to see manufacturers in many more industries ranging from consumer products, document processing, food and beverage, to now see Machine Vision as a necessity both for improving quality and for driving down costs.

The substantial leverage that incremental revenue has on our profitability was obvious in this, our second quarter. Gross margin, operating margin, and net margin all increased significantly over both the second quarter of 2009 and, more importantly over the prior quarter.

In particular, operating margin increased to 27% of revenue as compared to 19% in the prior quarter and a loss in Q2 of '09. And, on the bottom line, we delivered net income greater than 20% of revenue and that's been a long-standing goal for Cognex before we had stock option expenses, and it is great to see us reach it this quarter.

Earnings for Q2 far exceeded both our own internal estimates as well as Wall Street's expectations. We delivered earnings per share of $0.38 in the second quarter and that's compared to the Thomson Reuters First Call consensus estimate of $0.22. Now, I would like to hand the call over to Rob Willett, our President and Chief Operating Officer of Cognex. Rob is with his team in our Natick headquarters and will give you some additional details on the quarter, after which, we'll take your questions. Rob, the microphone is yours.

Thank you, Dr. Bob. Good evening, everyone. As you heard a moment ago, Cognex' second quarter revenue was $71.8 million. And it's the highest quarterly revenue ever achieved in the Company's history.

Revenue for the second quarter increased 75% over the second quarter of 2009 and 22% over the prior quarter. The increase, both year-on-year, and sequentially, was due to higher revenue from the three markets that we serve.

First, is the surface inspection market where revenue in the second quarter was $10.8 million. Revenue from surface inspection customers increased by 10% year-on-year and it increased by 39% from the prior quarter, which was somewhat of a low base due to the timing of deliveries and installations and the impact of revenue deferrals. Demand for our surface inspection systems was solid in both the metals and paper industries.

In fact, bookings in the second quarter from the surface inspection market were at a near record and missed beating the existing record by less than $0.25 million. Next, is the semiconductor electronics capital equipment market or semi, as we call it. Revenue for semi in the quarter was approximately $11.5 million. This represents an increase of 366% year-on-year and 22% on a sequential basis. We were positively surprised by these results. We had expected revenue from this market to begin to flatten out in the second quarter after growing steadily for the past several quarters.

In the factory automation market, revenue was a record $49.5 million in the quarter. This is 10% higher than the prior record of $45 million set in the second quarter of 2008. Factory automation revenue increased by 73% year-on-year and 19% over the prior quarter as demand for Machine Vision increased worldwide. Each geographic region contributed to the growth and so did each of the primary product lines that we sell at.

As manufacturers strive to improve quality and lower costs, they're expanding their use of Cognex Vision. For example, one of the world's largest and most successful food companies uses Cognex products to ensure that the closure on their premium blend coffee pot is tightly sealed. They're so impressed with the effectiveness of our In-Sight vision systems in this application that they are assembling an international team to explore the possible ways that Vision can be deployed across their other areas of manufacturing.

From an industry perspective, the electronics manufacturing area, which was an early adopter of Vision on the factory floor, continues to show solid growth. Business in the automotive industry continues to improve and we saw good momentum in new areas that we're targeting from customers who are applying Machine Vision technology on a broad basis for the first time. One example is a recent win at a major medical device manufacturer. This customer chose to standardize on the Cognex In-Sight Vision system for equipment used to manufacture test trips of blood glucose testing.

It's critical that test strips accurately measure blood glucose levels when they're used by consumers and medical personnel. To meet the very high specifications, the equipment will be guided by Cognex In-Sight Vision systems to ensure the quality of the test strip at each stage of the manufacturing process. Cognex won this business based on the very high accuracy of our Vision tools and the quality of our support network. We received orders for approximately $280,000 in the second quarter from this customer and additional orders are expected to follow next year.

Our strong financial position enabled Cognex to fund product development during the downturn a year ago, and we're seeing benefits from those investments now. Innovative new technology that we introduced earlier this year resulted in an important win at a well-known food manufacturing company. The customer is concerned about the possible consequences of mislabeled cheese products reaching the consumer, the most serious of which is allergen ingredients unknowingly being consumed by a person who is allergic to that ingredient. To ensure that each tub of cheese is correctly labeled, our DataMan 200QL ID reader running our powerful 1D Mac Software algorithms will be added to the manufacturing process to read the bar code marked on the side of each cheese tub and Cognex In-Sight Vision systems will inspect the cover.

This is a very challenging application because the round tubs are rotating 360 degrees while traveling at production speeds. Our 1D Mac technology can accurately and repeatedly read the bar code until it's rotated essentially out of view while the same is not true of lesser Vision systems or laser scanners.

Much of our product development is focused on expanding the use of Cognex Vision in key growth areas for the Company. Our most recent big launch was at the end of June. We added the new In-Sight 5605 five megapixel vision system to our In-Sight product line. This powerful product can quickly and accurately find very small features on parts or find tiny items in a large field of view and then send that information to the factory network in real time.

In the solar industry, the In-Sight 5605 is ideal for applications where accuracy is critical such as finding cracks and scratches on solar wafers and cells. When the In-Sight 5605 runs our industry-leading 1D Max and 2D Max software, it can simultaneously read codes from dozens of vials and bottles contained in a large box, which is an emerging need in the pharmaceutical supply chain. And, in a more traditional industry info Machine Vision, the 5605 can guide the placement of various parts onto an automobile chassis during the assembly process.

In addition to product development, we're also investing to expand our business geographically. For example, Latin America and China are two regions that we believe have long-term potential growth for Cognex. In Latin America, we're seeing opportunities in both Brazil and Mexico in the automotive, consumer goods, and food and beverage industries. In addition, ensuring drug safety is a big problem for developing countries. We're aggressively pursuing business in the pharmaceutical industry as countries such as Brazil implement traceability laws that define how pharmaceuticals are coded and tracked throughout the supply chain.

Last quarter, I visited China where the market for our products is exploding. Manufacturers are investing in new plants for everything from iPads to solar panels and automotive radiators, and they're still early in their adoption of Machine Vision. We are on course to more than double our business in China this year.

We recently established a new corporate structure in China that will allow us to sell Cognex products in local currency. We believe this will make it easier for new customers to buy from Cognex. Previously, we could only sell in US dollars, which was limiting because some Chinese manufacturers have difficulty converting Renminbi into US currency.

Our China team is growing fast. We will open a new office in Shanghai this month that will become the headquarters from which we will run and grow our business in China. Currently, we rent expensive office space in the retail district of Shanghai, that facility is being closed, and we will move to a newer building that provides four times the space at no additional cost. This new office is located in the Waigaoqiao free trade zone close to Shanghai's main international airport. At this point, I would like to turn the call back over to Dr. Bob Shillman

Thanks, Rob. In summary, we had a great second quarter and all indications from our sales team is that that will continue, and I can tell you that bookings in July are ahead of schedule. Business to date, is so much farther ahead than our expectations that we will be increasing our investments in key growth areas.

Specifically, we're looking to accelerate new product introductions. That's one thing we're going to do, and we're going to do that primarily by using contractors or by increasing head count in low-cost areas around the world such as Hungary. In addition, we expect to add sales people in certain geographic regions including Asia. Nevertheless, we'll continue to manage our expenses carefully, given the uncertainties in the global economy.

Now, in regard to specific guidance, we believe that revenue for Q3 will be between $65 million and $68 million. That's a decrease of 9% or 5% of lower number from the record revenue that we reported tonight for Q2 and that decrease is due to typical seasonal softness that we expect to occur again in the factory automation market. Well, that's the end of our prepared marks, and we'll open up the conference call for any questions you might have.

I'm going to field each question and for those that I can't answer or answer as well as someone in the team back in Natick I'm going to then pass it on to someone there. Operator, we're ready to take the calls.

Thank you. (Operator Instructions) Rob Mason from Robert W. Baird, your line is open.

Yes, good afternoon. Dr. Bob, you mentioned the record bookings in the quarter. Is it safe to assume the book-to-build then was around one or better than one?

A little better than one, actually.

Okay. Was that the case in the SMI OE business as well?

I don't have those specifics, and I'm not going to pass this on to the rest of the team because other than the remark I just made, we really don't like to talk about bookings.

Fair enough. Just given your plan to accelerate some of the investments both in R&D and sales and marketing, could you give us a sense of what the timeline might be to bring those additional people expenses on board?

Yes, Rob, why don't you take that?

Yes. I think we have plans to add head count in China, particularly, as we talked about, and in Asia. We're currently bringing people on board and we expect to bring them in through the third quarter and the fourth quarter. We're also spending a few incremental expenses to accelerate R&D assets and we expect to see those kind of come in over the next six months.

So, just on the R&D development, previously I think the expectation was R&D expenses would trend somewhat flattish? Can you give a sense of the magnitude of bringing contractors into the mix? I'm not sure how quickly you can bring low-cost personnel in. But just a sense of the magnitude of that?

Yes, okay. I think you're seeing our engineering expense for the second quarter around $7.3 million. It will maybe be slightly higher than that in Q3 and it'll step up between $0.5 million and $1 million as we get into Q4. Part of that is just to do it--things like vacation--timing and stuff like that, but in general, that's step up we'll see. Dick, did you want to say--

I was going to say, yes. The $7.3 million or so that rob mentioned in Q2 was before stock option expense.

I think as we take a look at the rest of the year, we are looking at bringing on some additional people. We'll see most of that occurring--some will start to occur in Q3 so most of the impact will be in Q4. And, as a result of some of the development projects, we'll see some increase in material supplies and outsourcing.

Okay. Maybe last question, I'll jump back in the queue -- but Rob or Dr. Bob, could you provide us a baseline in terms of number of sales people or sales offices that you have in these--in particular, the Latin America, Brazil, Mexico, China?

Rob, why don't you take that.

Yes. So, we have a relatively small sales team in Latin America. I think it's approximately seven people we have there. And we're planning to increase that number over the coming quarters . In China, we would have a sales force there--I'm just looking this number year--yes, around 15 people, and we expect to double that number as we come through the back end of this

What role does indirect distribution play in any of these two geographies?

Well, at Cognex we use a balanced model. We have three ways to market. We handle strategic accounts direct, so a direct sales person would handle major accounts direct.

Then, we have under a salesperson, manage a distributor network. And then we also have what we call partner systems integrators, who are more sophisticated organizations, who provide technical expertise in integrating our products into sophisticated robotic applications or cell phone lines and other productions, environments like that.

Now, what you see in developing markets is less sophisticated systems integrators and less use of sophisticated software tools and see more relatively direct business and then more distributors. And, so you see a balance of both of those in China and in Brazil. But, to give you an example, in China--we have quite a large network of distributor partners signed up and we're developing more than 30 distributors in China alone.

Okay. Very helpful. Nice quarter.

Thank you, Rob--both Robs.

(Operator Instructions) Our next question comes from Jim Ricchiuti of Needham & Company.

Thank you, good afternoon.

Good afternoon.

Congratulations.

I was wondering why you weren't first in line.

As I look at the quarter, Bob, and Rob, what is surprising to me is from a geographic standpoint, despite concerns about Europe, you guys look like you had a very strong quarter in Europe and I wonder if you might comment a little bit about what you're seeing there. Looks like your revenues in Europe are close to a three-year high.

Yes, Rob, go ahead.

Yes. I think you're right. Europe was the slowest to come out of the recession in terms of comeback, but we have now seen it step up sequentially and accelerate very well, as you know. In fact, Europe was the area that added most incremental dollars of revenue quarter one to quarter two.

What are we seeing there? We're seeing widespread adoption of Vision, particularly by machine builders, by people who are German machine builders or Italians who are exporting product. And we're also seeing a resurgence of the automotive market, which certainly helps our bookings also. But, broader trend, it's probably the companies that work on quality and productivity and they're concerns about adding head counts , and they're looking to factory automation to bridge that gap. And that's what we're seeing in Europe--everywhere--but particularly in

Rob, given the strength in you saw in the business SISD business, which I think you said near-record bookings--would you expect that because that business is somewhat lumpy, to the next quarter or two to be choppier with respect to new orders?

Well, I think you're right. If we have fewer orders larger orders in the SISD business, but I think the Q1 revenue was artificially low due to just pieces of business we couldn't recognize during the first quarter. I think the level you saw in quarter two and the long run is what I would expect (inaudible) to do on a quarterly basis. But, I think you're right in saying--we can expect some lumpiness.

Lastly, in the SMI part of the business--like you--

Let me just add one thing, Jim. Just to clarify or get to your point, I think we would expect that the second half of the year, Q3 and Q4, would more likely resemble what we saw in Q2 at that run rate going back to the Q1 level, although it may be a bit lumpier, we don't see it going back down to where we were in Q1, okay?

That's helpful. And then just last question--with respect to the SMI business, clearly things are--have been stronger than you anticipated. What's your sense now in the next quarter--what's the visibility like? What are you hearing from your OEMs?

Well, it's very difficult to predict the SMI market. But, we are hearing now, our customers looking at more toward the end of the year, and I think we're expecting the business to flatten but still remain relatively strong through the end of the year.

Okay. Thank you.

(Operator Instructions) Our next question comes from Walter Ramsley of Walrus Partners.

Congratulations, thanks for taking my questions.

Thanks, Walter.

The system on a chip, could you provide a little update on the status of that project?

Sure. I'd be happy to do that. I was at the headquarters a week or two ago, and I saw a demonstration not just of the chip working but the chip working in a very sophisticated product that we expect to bring to market later this year. I can't yet tell you the application or the marketplace that it's targeted to, but it's a new market--a new application for Cognex and sizable revenue opportunity for us. A market where lasers have been use in the past, where machine Vision can't do the job other than if you have something like a Vision system on a chip, VSOC, working.

I did see this product functioning already. It's in alpha stage in Cognex. Rather sophisticated, very complex product. Easy to understand, if I told you what it's doing, easy to understand but very, very difficult to do. A significant technological leap over anything that's been done in the past. So, that is on schedule, and the chip and the next generation of the chip are--first of all, the chip is in production now, and we're already planning on the second generation of the chip.

Well, that sound tremendous. The technology, do you think that could transform the company's entire product line over the next several years?

Well, I would say no. I would say that it's going to be an important addition.

In our industry and our business, we've never seen anything, and I think that's a good thing, that the changes that dramatically. Any advancement we make, no matter how significant on a patent ability or on a technological level it may be, on a business level, any change we make or any enhancement we make is typically important but incremental to the existing business. This is not like throwing out your lawn plank vinyl records and buying a DVD player or getting rid of the your CD player and going with a Blu-Ray or things like that.

That's not the case in machine Vision and that's a good thing, by the way. We have customers still buying products from us designed 20 years ago and the only reason we ask them to switch is we have trouble making these products. So, it's going to be an important can--get us--there are two areas of growth I can think of.

One, it will get us into new opportunities where machine Vision has never been able to play because of the power of this chip. And the other one is it's going to extend the life of our existing products so we planned some time next year to put this chip into our high--into some of our new models of existing product so that they can take on more complex jobs rather than having to use, for example, two heads or three heads, something like that, that you would be able to do that with the BSOC.

And also, we're always cognizant of trying our best not to cannibalize our own products so when we introduce a product that's typically a high margin, and it's typically incremental in revenue, not cannibalizing existing revenue.

So, would the new technology and some of these new applications and new markets like the diabetes application and also the expanse into new geographic markets--you mentioned 20 years ago--back in those days you use to predict annual growth of 25% to 40% year after year. Think you can get back to that sort of thing again?

That's a very good question, and we wrestle with that. I think if you include acquisitions, that--20% is possible but it's on the high end. It's on the high end.

This is a company we would be happy, frankly, if we grew 15% a year but kept on doing that year after year. You build a substantial company. Look, we started at zero thirty years ago and--this year--I'm not going to predict--we're going to be north of $250 million, you can take that down soon--perhaps even conservatively north of $250 billion. Where our competitors have not grown and lied by the wayside.

So, there are wonderful things for investors if you can grow 20%, 30%, 40% for a year. That's not necessarily good for a company of our type where you get stresses and strains and all sorts of other problems could develop.

I'm not saying we're holding it back intentionally. I think it's been a rather good thing that our growth rate--that we've been able to grow continuously over time, except for industry or world matters. And that's why we're still left standing. There are not many high-tech companies that still are in existence after 30 years and at the top of their game and still have a lot more growth ahead. We're one of them.

And you mention acquisitions--any progress on that front?

Yes. There are two -- actually, there are more than two--but there are two that are on the burners. One is on a front burner and one, because of pricing, unable to reach agreement on prices on the back burner and maybe fall off the burner, who knows? One is on the front burner, and we hope to be able to tell you something positive about this on the next conference call. As far as the competition, you mentioned them falling by the wayside. Is there a greater separation between Cognex and those competitors now? And you think that will continue? Well, when I mentioned falling by the way side, I was talking about the competitors over the last 30 years. Anyone substantially in the business now, they're good companies. The primary competitor that we see is a company called Keyence, K-E-Y-E-N-C-E, which is a large sensor and industrial control supplier out of Japan, and they're a substantial competitor.

They are certainly not falling by the wayside and in the surface inspection business, there are two or three competitors--one in glass, one in paper, one in steel--things like that. So, at this point, we do have competitors and anybody still in the business after all these years runs pretty good business.

And just one last thing--as far as new developments, new IP the company might want to license out of MIT or some academic setting, anything looking exciting on that front?

We've never found it to be useful to license other people's IP. That's not because we're not invented here--that's not the case. We've just never found anything that was important enough or exciting enough for us to license and I think that's typically because universities are not---they're on the leading edge on tech--on science, but what we do is engineering.

And the kinds of things that we come up with are driven by customer or market demands and usually universities are not aware of what customers and markets need. They're serving a different role in society. They're inventing new science. Whereas what we do is invent product. So, note there is nothing on the horizon, and by the way, we are not-not invented here as a company.

We often have purchased other companies because they did have good products and good technology, and I have to say one of the companies on the front burner today, a very small company, has products and technology that we do not have.

Okay. Well, anyway, congratulations. Thanks for taking the questions and hopefully don't get any itch to retire any time soon.

As long as I can spend at least half the time here in sunny San Diego, driving my race cars, I'll be happy. I expect to still add value to the company for years ahead. Thank you, Walter.

Thank you.

Our next question comes from Paul Svetz of Capital Flows.

Yes.

Hey, Bob. Good afternoon.

Nice to talk with you. Congratulations on a terrific quarter.

Well, congratulations to the team and all. I got to say, it's--the market's picked up. Now, we've done the right things in the past, and so that's what the congratulations to the team are well--are appropriate because despite the downturns, we continue to invest so that when times do improve, they appear to have improved, we can capitalize on them and that's where the--that's where the smarts of this organization come into play.

I wanted to ask, do you see any application where 3D Vision would be an advantage and do you have any plans to investigate or address this area?

Well, in the history of the company, has been a 2D company. That is to say for the other people listening, looking at things from one perspective and seeing the X and Y of an item that are lying in front of you as if it were on a 2D plane. There have not been, in most of our 30 years, requests by companies to measure the heights of things--for example, the heights of keypads on cell phones or the profiles of other kinds of item that are moving by, whether brake pads or rivets.

We have seen, in the past three or four years, more and more requests for measuring 3D, the third dimension, measuring the height of things, looking down at it so you can measure both the X and the Y and the Z. And we know that some of our competitors are doing quite well with 3D products.

Now, we happen not to--we did come occupy with pseudo 3D measurement capabilities for certain customers but it's not true 3D and we're actively looking at that kind of technology. Now, there are many different technologies to measure the third dimension, to measure height. There's something called triangulation. There's time of flight, and there's depth of field or focus, height from focus. And we are actively involved and hope to add to our bag of products and technology, capabilities for measuring 3D. Very good question, Paul.

Thank you.

(Operator Instructions) And I'm not showing any further questions at this time.

Well, that's good. That's because we put out detailed press releases because we figured it's easier for people to read it and take notes, read it than to listen to us talking.

So, we'll end the call now. I want to thank you everyone for joining us. And by the way, many of the opportunities that we talked about during today's call and others, we expect to discuss in more detail at our upcoming analyst day, and just for those of you who may have not gotten the save the dates, I will give you some of the information.

It's going to be held this September 28 from nine in the morning until 2 pm in the afternoon. at our headquarters in Natick, Massachusetts, that's about 30 minutes from the airport. If you need additional information about analyst day, you can contact Sue Conway and her number is 508-650-3353. She'll be available certainly--well, probably after this call for sure--and she's always standing by to help you out.

So, if you want to see more of our products in action, we're going to have demonstrations, something called Cognexpo.

If you want to meet the many other fine individuals in the company--the fine executives of the company, who you rarely get to see or you rarely get to speak to, that will be a great opportunity to get a more insightful view--pun intended--into our--the depths of our management team and the capabilities that they bring to this company. Thanks again and hopefully we'll have an equally upbeat conference call next quarter. Signing off, this is Dr. Bob from San Diego, California.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program. You may all disconnect.