Cognex Corp (CGNX) 2013 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Cognex third-quarter 2013 earnings call. At this time, all participants will be in a listen-only mode.

(Operator Instructions)

And as a reminder, today's call is being recorded. And now, I would like to turn it over to your host, Richard Morin.

Thank you, and good evening, everyone. Earlier tonight, we issued a news release announcing Cognex's earnings for the third quarter of 2013, and we also filed our quarterly report on Form 10-Q. For those of you who have not yet seen these materials, both are available on our website at www.cognex.com. They contain highly detailed information about our financial results.

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 release, and a reconciliation of certain items in the income statement from GAAP to non-GAAP in Exhibit 2.

I'd like to emphasize that any forward-looking statements we made in the earnings 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. 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 Cognex's Chairman, Dr. Bob Shillman.

Hey, Dick, and hello, everyone. I'd like to welcome each of you to our third-quarter conference call for 2013.

As you might be able to see in tonight's news release which we just issued, we reported simply outstanding financial results for the third quarter, with records both in revenue and in net income. Right now, I'm calling in from our R&D center in San Diego, and the Team is at our Natick headquarters.

For the details of the quarter, I'm going to hand the microphone over to Rob Willett, my partner, and our President and CEO. I'll be available at the end of the call to answer any questions that you might have for me. Now, Rob, the microphone is yours.

Thank you, Dr. Bob. Good evening, everyone. I'm delighted with the results we reported tonight for the third quarter of 2013.

We reported record revenue and record net income during what is typically a seasonally soft quarter for Cognex. Our strong financial performance was driven by record quarterly revenue from customers in the factory automation market.

We continue to execute very well on this year's strategic initiatives for factory automation, which are ID products, China, and sales execution. This is particularly true of ID products. Revenue from ID products grew faster than the rest of our business in Q3, and we set a new quarterly revenue record for that product line.

Gross margin was strong at 76%, consistent with the gross margin reported a year ago and in the prior quarter. Operating income increased to 26% of revenue and -- from 23% in the prior quarter. And we delivered record net income equal to 23% of revenue, up from 19% in Q2. Reported earnings for Q3 were $0.23 per share, and that includes $0.02 from favorable tax credits.

Let's now turn to the details of the quarter. Typically, we see a notable softness in factory automation during the third quarter, especially with our customers based in Europe, but that seasonal trend did not occur this year. Instead, factory automation revenue was a record $72 million in Q3. This level is an increase of 18% year on year and 7% higher than the prior record set just last quarter.

Looking at factory automation from a geographic perspective, Asia, excluding Japan, was our best performing region in terms of percentage growth. Factory automation revenue from Asia increased 21% year on year and 7% over an exceptionally strong quarter in Q2. China continued to deliver strong growth, with sales to consumer electronics manufactures driving factory automation revenue from Asia to a new quarterly record.

The Americas also set a new quarterly revenue record, helped by large ID product orders for logistics applications in distribution centers. We are finally starting to see substantial orders after lengthy customer evaluations. Revenue from the Americas factory automation market increased 20% over the third quarter of 2012 and 8% over the prior record reported last quarter.

In Europe, factory automation revenue increased at the fastest rate for that region so far this year. Revenue increased 21% year on year and 10% sequentially. In constant currency, the increase was 15% and 8% respectively.

In Japan, factory automation revenue decreased 13% year on year and 5% from the prior quarter. However, the year-on-year decline was due to the negative impact of a weaker yen on reported revenues. In constant currency, revenue increased 9% over the third quarter of 2012.

Revenue from the semiconductor and electronics capital equipment market, or semi as we call it, was $5.7 million in the third quarter. That level represents a decrease of 17% year on year and 20% from the prior quarter.

In the surface inspection market, third-quarter revenue was $12.8 million. This represents an increase of 9% year on year and 5% on a sequential basis. Surface inspection revenue can be uneven due to the timing of deliveries and installations and the impact of revenue deferrals. We continue to perform well in surface inspection, and demand remains at a high level.

Moving on to operating expenses, RD&E and SG&A totaled $46 million for the third quarter. While this level of spending represents a modest increase over the prior quarter, it is significantly higher than a year ago due to our investments in engineering and sales to drive growth. Our willingness to invest in our business has resulted in the launch of important new products over the past 12 months in areas such as ID products where we have great momentum.

And our expanded market presence in China helped us deliver approximately 30% of our factory automation growth in the first nine months of 2013. We feel good about these investments, and we are pleased to see them deliver for us.

In summary, we had a great third quarter, and things look bright for Cognex as we head into the fourth quarter. In regard to specific guidance, we believe revenue for Q4 will, again, set a new record in the range of $93 million to $96 million. We have good momentum in factory automation, and we expect surface inspection to have their best quarter of the year in Q4, as normal. Operating expenses are expected to increase by up to 4% on a sequential basis.

There were savings in Q3 from employee vacation time that are not expected to repeat. Commissions are expected to increase due to the higher level of business and the fact that some sales engineers will reach higher bonus levels. And we expect higher professional fees related to patent infringement actions and the year-end audit. The effective tax rate, excluding discreet tax items, is expected to be 19%.

Now, let's open the call up for your questions. Operator, we are ready to take questions.

(Operator Instructions)

Our first question is from Jim Ricchiuti from Needham & Company. Jim, please go ahead.

Thank you, good afternoon. Wondering if you could actually give us the number, dollar number for the ID business in the quarter? Looks like another strong quarter.

Sure. Yes, so, record ID products revenue was $25.5 million in Q3, representing growth of 45% year on year, helped by large orders from customers in logistics that were received after lengthy evaluations.

Rob, where do you stand with a couple of those large contracts that you've talked about in terms of shipping against them. Is there much to ship in Q4? And maybe you can give us a sense as to how the pipeline looks for ID in general and logistics in particular.

Yes. I think we've seen consistent strengthening in that business, and we see our sales funnel building both in ID and logistics, which we're reporting as part of our ID business. So in Q3, we announced that one retailer placed orders in excess of $1 million for Cognex DataMan 300 ID readers and that a parcel delivery company placed orders in excess of $4 million. And we received follow-on orders from both of those companies. And revenue in Q3 includes approximately $3 million related to the orders received during the quarter from the major retailer and a parcel delivery customer of approximately $2.5 million. So these orders were built into our guidance. Sorry, Dick.

I think I'd want to make one correction. It wasn't $3 million that shipped during the quarter from the retailer. It was $3 million in total between the two.

Sorry. Exactly right. So $600,000 from the retailer and $2.5 million from the parcel delivery customer approximately. So that's -- and we expect more of that business to ship again in Q4 as well.

And the -- can you talk at all about the nature of the follow-on business with both of those customers in terms of -- are these for new distribution centers?

Yes. So the major retailer has facilities, new greenfield facilities they're building and upgrades to existing lines, mostly in the US, but all around the world. And they're looking to place further orders as we move into next year. The parcel delivery business, we are seeing repeat orders from that customer as the months go by. So we see more potential from that customer, too. And I would say, perhaps, more interesting and more exciting from our perspective is we're in trials that many other very large customers that you would recognize the names of, as our reputation is starting to build in this market.

Got it. Would you be able to say, Rob, not by name, but just in aggregate, how many potential logistics customers are evaluating right now that would be of size?

I would say between 5 and 10 large, very large global players, and then I'm going to say more than 20 additional smaller retailers and other organizations.

Okay. Thanks very much. I'll jump back in the queue.

Sure.

Thank you. We'll take our next question coming from Ben Rose from Battle Road Research.

Good afternoon. Was curious to know, Rob, in terms of end-user markets during the quarter, was there any noticeable change in terms of the mix? And interested specifically in your thoughts on the automotive sector as well as the medical device area?

Hi, Ben. In terms of markets, our best performing markets in the quarter were consumer products, electronics products, life sciences, logistics and distribution, and medical devices, and I'm talking in terms of percentage growth during that time. All of those performed very well indeed. Our business in automotive, you asked about it, did grow in the quarter, but in the low- to mid-single digits. I think as we expected, we are -- some of our smaller high-growth markets are where we see a lot of our growth coming from at this time. Then electronics products continue to perform very well for us, both on a percentage and dollar basis.

Okay. And was curious to know, I know you had announced a suit against Microscan back in April, and I was curious to know if there was any update from the Company's perspective as to the progress of that?

Yes. Correct. The latest news on that is that we have a court date in the Federal District Court of New York. It was originally scheduled for October, and it's been moved to February. We are proceeding on that basis.

Okay. And sorry, finally, just a quick question for Dick. With regard to the share repurchase program, is a specific goal of that to prevent options dilution, or is it more of an opportunistic program from your perspective?

It is more of the former than the later. So more for offsetting the dilution as opposed to just doing it on an opportunistic basis.

Okay. Thank you.

Thank you. We will take the next question coming from Jagadish Iyer from Piper Jaffray. Please go ahead.

Thank you so much for taking my question. Two questions. First, on your logistics portion of the business, I was just wondering, what is the next geography that could potentially take off? And I was just curious, how long is the evaluation cycle other than in the US, which has taken you a longer time? I'm just trying to get a scale of how fast our adoption could be globally. And then I have a follow-up, please.

Well, you are right, Jagadish, that the US is where we are seeing a lot of the initial uptake of our products. And then we're really in evaluations, and we're making sales -- relatively small sales in all of our other regions right now, so it's difficult to predict where the pop will happen next outside of the US. But I think we are well positioned in all of the regions. And, yes, so that's how I would describe it.

[Spell out] and say maybe could it be in Asia or in Europe, or it's too early to tell at this point?

The answer is yes. It could be -- in a way, the dynamics that I see in those other markets are similar to the dynamics we were seeing about 18 months ago in the US, where the market is starting to see the significant superiority of our products, and they are in trials, and they are in small trials, which was what happened in the US. And then we are expecting that news and understanding to result in significant growth in months and quarters to come.

Just as a follow-up, I just was curious, what kind of competitive dynamics are you seeing in the logistics space, please?

Well, that's a market that's -- it's -- has two significant players in it today, the German company SICK and the Italian company Datalogic. And we're certainly seeing our reputation is growing in that market, and we're starting to see integrators and, obviously, end users really adopt our product and see the superiority of it against both of those major incumbents. So that's the dynamic that I would point to.

If I can squeeze one last one from -- looking at your semi's revenue, it's almost kind of bottomed out at like [5]. A lot is going on in the semi space right now. Do you see some kind of a recovery happening potentially in the fourth quarter or looking at 2014? Thanks.

Well, Jagadish, if you've been following Cognex for any length of time, you know we'd never say that it's bottomed unless it was at zero. So it's hard to call. We don't expect to see much or any growth in semi in Q4 relative to Q3, and it's really difficult to say what will happen next year. There are longer-term dynamics that might point to the growth -- the cyclical upturn in the business, but it's very hard to know if and when those will come. So yes, and I would say that the predominance of our factory automation business now in terms of the size of our revenue and the growth -- where the growth is coming from really gives us much more confidence in the long-term outlook of our business relative to what it would have been 5, 10 years ago when we were more dependent on semi.

Thanks so much.

Thank you. Our next question is coming from Jeremie Capron from CLSA.

Good evening. A question on your factory automation business outside of ID, which obviously seems to be driving much of the growth we have seen in the last quarter. Could you comment on those other factory automation markets, quality inspection products, et cetera, because it seems that if we back out ID, the rest of the factory automation business seems to be growing at a much slower pace.

Yes. So our flagship In-Sight products performed relatively well in Q3, relative to more recent quarters, with revenue increasing both year and year-end sequentially. In-Sight revenue, our vision systems business grew in the high single digits in Q3, which I would say is probably in line with how the global market for those products are performing.

Now, obviously we are not satisfied with that. We're Cognex, and we expect to outperform the market but I think that kind of high single-digit growth that you are seeing in some of these core vision markets is probably what we are achieving and what the market is achieving right now. Where we're really focused on is accelerating growth through new product development and entry of those products into adjacent markets, so things like our displacement center. New products, also, we have coming in the vision systems product line are how we expect to accelerate that growth going forward.

You were asking about other things going on. Obviously, China is an area where there's a lot of vision technology being adopted and used and where we are seeing a lot of growth. So that is certainly an area where we're pleased with the kind of growth and dynamics that we see in our execution. And then counter to that is certainly Europe, where we see less growth and less opportunity in the short-term future for vision products growth.

Great color. Thank you. If I may ask another question regarding the ID business, and the logistics applications in particular. Are you seeing any of your more traditional competitors in the vision supplies trying to come up with logistics products?

Well, it's a pretty big market. We've sized it around $250 million, so of course, there are always new products being introduced in that market. We are seeing competitors launch products, area-based vision products, with high resolution imagers. Where they are unable to compete with us is on software performance and optics and some of the core vision skills that we have. So although we see them trying to compete with us, we see our performance, and particularly, also, our cost structure, to be highly advantaged over anything we're seeing coming into the market right now. And obviously, we are not standing still.

Great. Just one last question on capital allocation. I'm seeing the cash pile rising quarter after quarter, and I wonder if you could give any indication on how you think it is best to use that cash? I know you have a share buyback program ongoing. But the business is obviously generating a lot of free cash flow, so what's the view here?

Clearly, the best use of that cash, from our perspective, would be to use it to -- in acquisitions. We have an active program. We are looking at potential entities to buy in different market segments and in different geographies. Have not been able to find anything that fits all the criteria that we are looking for at present. So the main thing that we are doing these days is, in fact, the buy back.

Great. Thank you very much.

Okay. Thank you. Our next question is coming from Richard Eastman from Robert W. Baird.

Yes, good afternoon. Fantastic quarter. Just a question, just to double back on factory automation, can you give the growth rate for China in the quarter?

Yes.

And if you wouldn't mind sizing it in terms of dollars for the quarter?

Yes. I'm going to give you a number, and then Dick can correct me.

Okay. (Laughter)

So it was -- factory automation China was about a little over $10 million in the quarter and grew around 28%.

Okay.

That's year on year, Rick.

Yes. Dick, is that okay? (Laughter)

Yes, Rick.

Just a question, when I think about that growth coming out of China, you've talked to some end markets in factory automation that grew strongly. Consumer products, electronic products, and I presume that that growth, those end markets, are the driver in China versus product ID in rest of world. Is that a fair --?

I'm not sure I understand the last bit, product ID in rest of world.

If I'm just thinking China, I would think much of your product ID growth is coming out of Americas, versus when I look at China's growth, at plus 28%, presumably, the growth there is more in the In-Sight products for inspection in these other markets.

Well, our business in China is -- the largest vertical market is electronics, and there we're doing a lot of sophisticated vision activity. But what we are seeing is some important new growth vertical markets in China, for us, anyway, are small and getting large quickly, and I would point to automotive and really the broader ID business, right? So in that, we've sold more into automotive in the first three quarters of the year than we sold all last year in China, and the same could be said of ID. We've sold more ID into China in the first three quarters than we sold all last year. Both of those pieces, admittedly, they overlap. There is some ID in automotive, right? But both of those pieces are approaching $10 million annualized.

Okay. And could I just ask, within the factory automation business, there was some commentary earlier this year about prototyping and some piloting of ID products or sensors that would go more into the medical device instrument market. I'm wondering is that the follow-on to this logistics product uptake?

So, we refer to the market for OEM engines into life sciences, Rick, which is, I think, what you are referring to. That's a market we've been working on for a number of years, and we've -- we are getting designed in to significant manufacturers of OEM equipment in that market. We have a very powerful engine that is starting to get specked into some very major customers in that market. As I think of that market, it's about $100-million market and has a very long sales cycle.

So these life science OEM customers, they go through probably a three-year design cycle, which includes getting FDA approval in many cases. But once we are specked in, there is very little change that goes on inside of the product because of the regulation around it, and then it can be a 7- to 12-year product life. So it's a market we really like. It's a market we don't expect to see very significant revenue on in the next few quarters, but it is a market that we do see being a major part of Cognex's business in a few years from now.

I see. Okay. And then just one question. I thought I'd maybe bounce it off Dr. Bob because I know from an M&A standpoint, technology standpoint, at least my feeling is you are the point person. Do you see in the marketplace any significant shift in investment into 3-D and perhaps away from 2-D vision?

This is Bob. No, I -- well, there is a significant -- I would say significant shift. 2-D is extremely important and can handle most vision problems. But there is additional investment going on, certainly, at Cognex. It's a focus of our top R&D Team right now, and a lot of engineers working on what we call displacement sensor to make it -- to distinguish it from our regular vision systems and 2-D sensors.

We are not the first into that area, and many times in our history we have not been first. We like to think of ourselves at fast followers, which means we get technology, we develop a lot of it, keep it on the shelf until someone else, perhaps, verifies the existence of a profitable business, because there are just so many opportunities for machine vision and for processing image analysis, but very few of them are profitable. So we like to say that we are a fast follow, and have done that many times. We were not the first with products like In-Sight, but we followed fast and took over the business. And we expect to do the same thing with displacement sensing.

And displacement sensing, by the way, is not only valuable on the factory floor where they are putting assemblies together to make sure that all of the parts are in the right place and they're at the right height, et cetera, but it's also turns out to be very important in logistics where the height of something helps you determine where the box is and where the label is. So we are finding that our investment in 3-D, although not yet paying off, we expect that to grow rather substantially in the coming short term.

So, I would say that -- now, we don't see many other companies investing in 3-D. It's very complex. 3-D, getting that third dimension is very, very complex, and depending on the accuracies in the field of view that you want and the depth of field. And it's going to be companies like Cognex, and, of course, some of our competitors have -- one or two of them have 3-D products that we will soon surpass on the technological basis.

Does Cognex's technical confidence in 2-D when it comes to software and processing the data and processing speeds, does that transfer over to the 3-D world well, or is that --?

Yes, very well. Very well. The complexity in 3-D is obtaining what's called a point cloud -- that means all of these local measurements, point measurements of the distance of something -- and then assembling those point clouds into shapes that can then be handled by the standard 2-D software. So while we have a significant advantage in that we have a large team, of course, the largest in the world with expertise in analyzing 2-D images, and ultimately 3-D is not much different from that in the software world. But the challenge to us has been manufacturing and specking out and designing, of course, hardware that can give you very accurate point clouds.

I see. Okay. All right. Thank you.

So I think what you are getting at, or what some people would get at, are there significant barriers ahead for us? Do we have to continue spending higher even amounts of engineering dollars in analyzing those 3-D images? The answer is, no, we don't.

Because it seems like in the marketplace, the technology, the hardware to capture the point cloud data points is there, but the software is not. And that seems to be --

Well, that's right. And that's where we will have, I think, a substantial lead. --

I understand. Okay. Thank you.

You're welcome.

We will take our next question from Jim Ricchiuti from Needham & Company.

I just wanted to go back to a comment earlier. Did you say the SISD business you are expecting, you're anticipating record revenues in Q4? So you expect it to be above Q4 of last year?

No.

We did not say record revenue. It was --

Okay. Sorry.

It was going to grow. It was going to be the best quarter of -- for SISD, they would have their best quarter of 2013 in Q4, which is fairly typical for them.

Got it. Okay. And the improvement that you are seeing there, any particular markets? And just in general, I wanted to just follow-up with one question regarding the domestic business, if you saw any impact at all just from the shutdown in terms of customers possibly temporarily pulling back a little bit?

No, we didn't really have any impact with that. Then in terms of areas that -- where we do see strength in service inspection, aluminum, as it results to its being used in automotive markets, is certainly a growth area, and that particularly in China, also, is an area. So metals there. But then our US business is -- has performed well and continues to perform well in surface inspection, particularly in the paper market.

Okay. And Rob, just one final question, if I may, on Japan. How satisfied are you with the progress you are making there?

Well, as I tell people, it's a personality problem I have. I'm never satisfied, really. But, so, joking aside, we are definitely seeing improvements in our Japanese business. And factory automation in China -- sorry, in Japan, is starting to grow again. We have a long-serving Cognoid, very dynamic leader who's been with the business a long time, who's taken over as the sale lead for about a year now, and we are certainly seeing the team there drive growth in ID and in factory automation. But, of course, share in the FA market in Japan is small. So we're encouraged, but we have a long way to go.

What about with the Mitsubishi channel?

Yes. Those continue to grow and performed well in the third quarter, so definitely the Mitsubishi channel is giving us access to a much broader base of the Japanese markets than we have otherwise had access to. So a lot more leads, and a lot more opportunities to go and get those customers. And then we have been adding salespeople to our Japanese business, and that, also, we believe will help us drive growth as we move into next year, really, in factory automation.

Okay. Thanks a lot. Congratulations on the quarter.

Thank you, Rick.

Okay. Thank you. I am showing no further questions in the queue at this time, so I'd like to turn the call back to Dr. Shillman for any concluding remarks.

Thank you.

Just to wrap up, we're very happy with the results that we reported for the third quarter, and we're looking at the order backlog and the shippable backlog, and we anticipate reporting similarly impressive results in this coming last quarter of 2013. And I want to thank the entire Cognex Team. It starts with marketing telling us what products we should build, and then engineering and building them, and manufacturing and operations getting them built and delivering them from all over the world. A lot of work, a lot of moving parts, and I just want to thank the entire Team, and in particular, to my partner Rob Willett, for running this Team and fine tuning it to the degree that it is now.

Thanks for joining us, and we look forward to talking to you sometime, of course, in 2014. Take care.

Okay. Ladies and gentlemen, this does conclude your conference. You may now disconnect, and have a great day.