Cognex Corp (CGNX) 2016 Q4 法說會逐字稿

Good day ladies and gentlemen, and welcome to the Cognex fourth quarter 2016 earnings call.

(Operator Instructions)

And as a reminder, today's conference is being recorded. Now I'd like to turn it over to your host, Chief Financial Officer, Dick Morin.

Thank you and good evening, everyone. Today's call will begin with a welcome message by Cognex Chairman, Dr. Bob Shillman, and prepared remarks by our President and CEO, Rob Willett. Both John Curran and I will be available for the Q&A session.

I'd like to point out that our earnings release and annual report on Form 10-K are available on the Cognex website at www.Cognex.com. Both contain highly detailed information about our financial results.

During the 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. You can see a reconciliation of certain items from GAAP to non GAAP in Exhibit 2 of the earnings release.

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.

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'd like to turn the call over to Dr. Bob.

Thank you, Dick, and hello, everyone. I'd like to welcome each of you to our year end conference call for 2016.

As you can see in the news release issued earlier today, Cognex had an outstanding year in 2016. We set new records for annual revenue, net income, and earnings per share and we achieved a remarkable after-tax margin of 29% for the year.

Right now, I'm in San Diego and everyone else is at our Natick headquarters. So for further details, I'm going to hand the microphone over to my partner, Rob Willett, our CEO, and I'll be available at the end of the call to answer any questions that you may have for me. So, Rob, take it away.

Thank you, Dr. Bob. Good evening, everyone. I'm pleased with Cognex's performance in 2016. We reported our seventh consecutive year of record revenue, and the highest annual net income in earnings per share from continuing operations in Cognex's 36-year history.

In addition to reporting record financial results, other highlights of the year include our completion of four strategic acquisitions in the two fastest growing areas of our business, 3D vision and ID products. These companies not only bring us exciting capabilities, but equally or perhaps more importantly they add highly skilled and experienced engineers to our team, many of whom have advanced degrees in machine vision. And we introduced new products in 2016 that we believe will be important drivers of future growth.

The Cognex MX1000 marked our entry into a $500 million segment at the mobile terminal market that's adjacent to our core business. The Cognex ABH-ID solution provides superior bar code reading of airport baggage tags in another new $50 million market. And our first multi-camera vision system, the Insight VC-200 leap frogs similar offerings by competitors in our core 2D vision market.

Let's now turn to details of the fourth quarter. I'm pleased to report that revenue, net income and earnings per share all set new fourth-quarter records. Revenue of $129 million was $11 million higher than the top end of the range we gave to investors in October. This strong performance came from better than expected demand across a range of industries, including automotive, consumer electronics, and logistics.

Gross margin was strong at 79%, representing an increase over both the prior quarter and last year's Q4, due to cost reductions, quality improvements and manufacturing efficiencies. Operating margin expanded to 31% from 20% a year ago. This significant increase reflects the substantial leverage that incremental revenue has on our business model. Net margin was impressive at 30%, helped by significant tax savings related to stock option exercises in Q4.

Earnings were $0.43 per share, which is $0.14 higher than the Thomson Reuters First Call Consensus Estimate. Driven by our top-line performance, excellent follow through and a net benefit from discrete tax items.

Looking at factory automation which is our largest market, revenue grew 34% year on year in Q4 lead by automotive, consumer electronics and logistics. Sequentially, factory automation declined as expected due to seasonality in consumer electronics.

From a geographic perspective as compared to Q4 a year ago, factory automation revenue from Europe delivered the largest contribution to growth in absolute dollars. Helped by large electronics orders that were placed in Europe for Cognex products used on assembly lines in China. Even excluding those orders, factory automation revenue from Europe grew by more than 30% year on year, due to increases in automotive and other industries.

Our Greater China region continued to deliver strong growth, increasing in excess of 30% over Q4 of 2015 with consumer electronics and automotive leading the way. In the Americas, factory automation grew mid teens year on year and set a new quarterly revenue record. Growth was the result of higher sales to customers in a number of industries, including automotive, consumer products, logistics, and food. And factory automation revenue from our other Asia region grew by more than 60% year on year, primarily due to growth in Korea.

Moving on to operating expenses. RD&E and SG&A totaled $62 million for Q4. This level was above our guidance, due to higher sales commissions related to the higher revenue level and product development activities.

Turning next to M&A. As I said a moment ago, we completed four acquisitions in 2016. I'll take a minute to put this activity into perspective for you.

Three of our acquisitions were in the fast growing area of 3D vision. EnShape and Chiaro, both add a new type of data capture technology sometimes called snapshot sensors to Cognex's product portfolio. EnShape's sensor is very fast and highly accurate, ideal for high-end applications such as picking and placing pharmaceutical bottles within a distribution center or electronic parts in the final assembly of Smartphones.

Chiaro brings us complementary 3D sensor technology suitable for applications that require speed and a wide field of view, but don't require micron level accuracy. These include applications such as measuring the dimensions and integrity of a box traveling on a high-speed conveyer in a warehouse.

These snapshot sensors along with Cognex's software interface and powerful 3D vision tools, boosted by our third acquisition AQsense, are complementary to our current 3D series of displacement sensors. We expect these new capabilities will significantly accelerate our efforts to bring new 3D vision solutions to market, and will broaden the applications and price points we can serve.

Our fourth acquisition is in industrial ID. Webscan significantly enhances Cognex's bar code verification capabilities by combining Webscan software with our DataMan products, Cognex can provide the industry's broadest range of high-performance and easy to use bar code verification solutions. Which are increasingly sought by many of our customers in retail logistics, pharmaceuticals and electronics contract manufacturing among other markets.

In summary, Cognex made substantial progress in 2016 and ended the year with a record fourth quarter. In regard to specific guidance for Q1, we believe that revenue will be between $122 million and $125 million. This is a decrease from the revenue reported today for Q4, which is typical given the normal decline that we see from Q4 to Q1. Looking year on year, this range represents an increase of 27% to 30% over last year's Q1, as a result of the strong backlog we have entering 2017 and the improved demand that we experienced in Q4 that has continued into January. We're also comparing to a weaker period a year ago.

Gross margin is expected to be in the mid to high 70% range, somewhat lower than reported for Q4. We expect service will increase as a percentage of total revenue. Operating expenses are expected to increase by approximately 10% from Q4, as a result of higher stock option expense and our continued investments in engineering and sales.

The effective tax rate is expected to be 18%, excluding discrete tax items. I'm now going to pass the microphone back to Dr. Bob.

Thanks, Rob. Before we start the Q&A, I want to take a minute to talk about my friend and colleague, Dick Morin who I hired 18 years ago. As we announced earlier today, Dick has stepped down as CFO of Cognex and will retire after nearly two decades with the Company. Dick's list of accomplishments is impressive. Cognex's annual revenue grew from approximately $150 million to over $520 million during his tenure. His business acumen, his financial leadership and strategic input have been instrumental in our Company's success. Most recently, he helped select a successor and assisted in that transition.

I want to thank Dick personally and all of Cognex wants to thank him, and the shareholders should thank him for his many contributions to the Company and we wish him all the best in his approaching retirement. Now, I'm going to hand the microphone over to Dick for a few words.

Thank you, Dr. Bob. It's really hard to believe that 18 years have passed since I first joined Cognex. Its been a distinct pleasure being involved in such a dynamic Company and working with the best group of people that I've ever worked with. While leaving is somewhat of a bittersweet moment here, I'm sure I'll be able to adjust when during the summertime I won't have to rush back from my home on Nantucket to come back to the office on Monday mornings.

I'm also very pleased to have someone of John Curran's caliber stepping into succeed me. He and I have been working closely together since he joined Cognex some six months ago from EMC where he was the Corporate Controller. He spent over 20 years there building and leading teams in both finance and IT, as EMC grew from less than $1 billion in revenues to $25 billion. His experiences at EMC fit in very nicely with Cognex's needs, and with his experience and great attitude I know he will do a great job for us. Now, let's open the call for your questions. Operator, we're ready to take those questions.

(Operator Instructions)

Our first question is from Ben Rose from Battle Road Research.

Yes, good afternoon and congratulations to Dick on his retirement and thanks for your guidance over many years.

Thank you, Ben.

Thanks, Ben.

Okay, just launching in. Just wanted to clarify the results in Europe, Rob, I did listen to what you said but was hoping to clarify. It sounds like the strength in Europe in this quarter is in fact independent of Apple, the largest customer in the last year. Could you please confirm that?

Well we had talked specifically, as you know, about a large customer. But I will say that Europe had a terrific quarter in Q4, independent of consumer electronics business to China. It grew more than 30% year on year due to strong performance particularly in automotive, but also in other industries including logistics. So yes, it was broad based but automotive was particularly strong.

Okay. And just a question on the Americas region. It looked like it was up about 11% year over year in the quarter.

I know you called out some specific industries. What is your sense of the strength of manufacturing in the United States as it pertains to Cognex. Do you think we would see a like rate of increase in the coming year?

Well in the fourth quarter, Ben, factory automation revenue for in the Americas grew in the mid teens year on year, and we saw improved demand from US based manufacturers across a range of industries including automotive, consumer products, and food. Following what's been pretty lackluster growth in the last couple of years in Americas, so we definitely saw improvement and I would say that improvement has continued into January.

In Q4, we observed a tier 1 automotive suppliers in the US adding additional capacity and vision technology, but we did see some caution in Mexico as you might expect. But overall, I'd say we think the environment for our business in America is improving and we see that continuing for the foreseeable future.

Okay, thanks very much.

Okay thank you. Our next question comes from Bobby Burleson from Canaccord.

Hello, guys, this is [John DiCorsi] on for Bobby. A couple questions for you. First, approximately how big were the new products in the fourth quarter, any color on that even if you can't give a direct number?

Well it depends on what we mean by new products really, John. I'd say we launch a lot of new products, and (multiple speakers).

Well specifically the new products that you discussed, the MX1000, the ABH-ID and the VC-200.

They would be very small contributors to growth. These are products we've launched relatively recently into new markets, so we're seeing a good amount of traction. And I can talk more specifically about the nine airport wins we've had in airport baggage handling, and the tremendous interest we're seeing in the MX1000, the mobile terminal, but these are not translating into significant revenue in Q4. I would say that.

Okay, so it's more of a 2017 and beyond driver.

That's right. And I would add generally, I'd say that's the case in industrial markets and particularly when we are entering new markets. We're getting out there, we're showing the advantages of vision and we tend to see an S curve where things start to pick up over time, but we don't see huge uptake initially.

Really in any products it's been the same, our entry into ID, entry into 3D, et cetera. So we think we're right on track, but they aren't making meaningful contributions to revenue at the moment.

Okay. And then in the 3D displacement space, are you expecting any large orders as you've seen in the past or any commentary on a potential large order?

So our 3D products are gaining a lot of traction. We grew well in excess of 100%, that business, last year. But we are still a small player in that market.

It's a $200 million market that's growing mid to high teens, and we have about a 10% share today. So I don't think we really commented in the past about large orders in that market per se. We have a lot of different customers using that technology, and I wouldn't be giving any guidance about future large orders for that or really any other technology or product at this point.

Okay. And then my final question and I'll get offline, is are you expecting an emerging customer in logistics that could present further bar code opportunities for you?

Well, so we are really starting to be the recognized technology leader in logistics. So we have a lot of exposure to many big players in eCommerce fulfillment, in parcel and post applications.

And we've grown our business well in America, we're seeing it grow now strongly in Europe and we have a nascent and exciting business in other parts of the world, too. So we would expect to see broad business, and I wouldn't comment on any particular customer bringing large orders our way, even though that may happen.

Okay, great. Thank you, guys.

Thank you. So our next question comes from Paul Coster from JPMorgan.

Yes, thanks very much for taking my questions. Three quick ones really. The first one is, what is the characteristic deal size? Is there any change that you're experiencing in deal size at the moment?

Yes, hello, Paul. So no, our business is pretty broad based. We have I would estimate more than 20,000 customers, and an average sale might be two or three units for a price of anywhere between $5,000 and $20,000. And then of course as you know, we have some very large customers also, but I don't see a change in that per se.

Are you seeing change in the nature of the application over the last year, or is it just more of the same, in-factory automation that is?

We've moved into some new areas, notably 3D vision. So we think that's a really exciting area of technology where we can provide a lot more data and capability to our customers. So certainly there's a lot more interest in that area.

And then the endless growth of ID bar code reading. As bar codes become more complex, hold more data, become smaller, we see more and more demand. But we've been seeing that over many years and it just continues. So I'd say those are the two big growth areas I'd point to, and it's notable that we've made acquisitions and we're making investments and adding salespeople to address those areas.

Okay. Last question is on product cadence, which has been depicted in presentation materials, I think something of a lead indicator. Is the product cadence going to change moving forward? And in answering that question, can you also talk about the software that you're acquiring and whether it gets layered into existing products or whether it's in part the author of new products?

Yes, so I assume, Paul, you mean by cadence you mean the rate of introduction of new products?

Yes.

Yes, so I think as Cognex has got bigger and we've built our engineering teams where we work hard to introduce more products more frequently, and when you map that over the years you've certainly seen that happen. I would see as we grow bigger, invest more and acquire new high-performance engineering teams, as we just announced in places around the world, we're going to see that continue. So yes, I fully expect an increased number of products every year.

I would say probably the amount of time it takes us to develop a product probably is relatively static. It's just we're putting more and more engineers on to doing it. The second question I think you had was to do with software, but can you repeat that please?

Yes, so does the software get layered into existing products, including those that are already deployed in the field or is it essentially the author of new hardware SKUs?

So no, overall in our base products, we have software which we continue to update once or twice a year with major revisions and new capabilities. And then those acquisitions which you might be referring to, that software can be very complimentary. We have the widely considered the best vision software tools and library and technology, and we can work pretty quickly to incorporate that with new hardware.

And likewise, with Webscan, the bar code verification software that we acquired earlier this year. That over some time, a few quarters, we can integrate into our hardware platforms. So I think there we shouldn't see a significant increase in the number of products SKUs, as you say, that we have as a result of these acquisitions. They can be very complementary with the software and hardware platforms we have.

Got it, thank you.

Thank you. So we'll take our next question from Jeremie from CLSA.

Thank you and good evening, everyone. Congratulations on this very strong finish to 2016 and congratulations, Dick, on your retirement.

Thank you.

Rob, could you maybe provide any qualitative commentary on the business outlook for the year 2017, perhaps for each of your three largest end markets? Obviously some very good momentum going into the first quarter, but the second and third quarter seasonally are probably key to the full-year performance, so appreciate your color here.

Thanks, hello, Jeremie. So it's very early in the year, and we don't give full-year guidance, as you know. I think what I can say is I think they year has started off more strongly than we expected when we have some visibility, which gives us confidence as you seem to get pretty strong guidance through Q1. We do expect revenue growth this year.

And I think as you point out there, the second half comparison may get a little more difficult because we certainly saw acceleration in the business in the second half of last year. Typically, Q1 is our lowest quarter of the year, and our big quarters tend to be Q2 and Q3 because of the timing of large orders from consumer electronics. We also have the potential to be bringing in larger pieces of business as the year progresses in logistics, so I think we're optimistic but it's hard for us to see out much beyond what we're telling you now.

Thanks. And what about consumer electronics in particular? You've had a very strong 2016, despite what was perhaps a softer year for a lot of factory automation suppliers into this particular market. Do you expect continued momentum here?

Yes, we saw a strong end to last year and a strong start to this year in consumer electronics. You can see it's a large market with a lot of growth potential for us, and there's a lot of new technology coming to market from a number of providers in that space.

And a lot of new technologies, particularly around displays and other areas where vision has just a huge amount to add to the successful rollout of those technologies. So yes, we are optimistic about the outlook for consumer electronics and sales of vision into those, but it's still very early in the year.

Great. That's good to hear. And last one from me on the gross margin was particularly strong in this quarter, not a record high but clearly you've been trending towards the top end of your usual mid to high 70%s guidance. What would get you to the lower end? Are you seeing a risk to fall back to closer to that 75%, and maybe what's the reason for this very large margin expansion year over year? Thanks.

Yes, so Cognex is focused on high gross margin revenue enabled by great technology. That's the business we're in, so we take great pride in our gross margins. We're primarily a software Company, and that's certainly reflected in the margins we report and much of our revenue comes from demanding applications where success is driven by performance rather than price So we are focused on high growth at gross margins, that's what we're all about.

You asked what might dilute that. In specific quarters, we can see a larger proportion of service revenue where we may be working with large customers, particularly in consumer electronics or logistics, to enable very sophisticated vision where we may deploy our engineers. And that can lead to service revenue being a larger mix, larger part of the mix, so that can certainly dilute revenue in a particular quarter.

But what I would say is in the long run, I don't think that we see a dilutive trend. It's more like a quarter to quarter thing where service is mixing in more or less, and I think it was a little less in Q4 and we expect it to be a little more in Q1.

Thanks very much, good luck.

Thank you.

Thank you. Our next question is from Ethan Potasnick from Needham & Company.

Hello, guys, thanks for taking the call. This is Ethan Potasnick filling in for Jim Ricchiuti.

So I was wondering, are you guys seeing encouraging signs in the mobile terminal market or is it still too early to judge the market reaction to the MX1000? And should we assume that there could be other new products addressing this area of the ID market in 2017?

Yes, hello, Ethan. So there's a lot of interest and many trials going on with the MX1000, and we're gearing up our salesforce also to sell it more broadly. So feedback and activity is very encouraging. We have some customers who have purchased a few hundred units initially and seem very satisfied with its capabilities, and are looking to deploy it more broadly.

But as I said, it's not going to move the needle. It didn't in terms of revenue significantly in Q4, nor I would expect in Q1. But we're used to that rolling out innovative technologies into industrial markets, and we have our eye on the long term and we're very confident about that.

So we don't generally comment on new product introductions or new spaces just for competitive reasons. But if you look historically, we've been pretty aggressive in terms of entering new markets, always with high-performing vision technology. So I would expect in the long term, you're going to see us do plenty of that but in the near term I won't comment.

Okay. And could you maybe -- so is the 3D vision business that you're expecting this year concentrated maybe more heavily in one or two markets, or would you expect it to be more diverse as in your 2D machine vision factory and automation business?

I think the use of 3D vision is likely to be very diverse. I think we have seen significant sales into consumer electronics, where obviously there's so many people and so many challenging applications and very sophisticated engineers working to deploy vision. So it's perhaps not surprising that the sophisticated technology is getting deployed a lot there.

But we've seen very diverse applications in markets like medical devices and food, automotive, have been significant. And so I think in the long run, you will probably see our 3D vision business distribution be similar to the distribution we see in the 2D business.

Okay and great. Finally, and how should we think about operating expense associated with implementing large projects, in either the consumer electronics or logistics market in 2017?

You can expect us to (technical difficulty) investing in logistics and consumer electronics to support our large customers in those spaces where we see growth. So I think we don't comment on specific expense guidance, and certainly not by customer or market.

I think in the long run, we expect to see expense grow at a slower rate than revenue but not necessarily in each quarter. And where we see opportunity for vision to grow at high gross margins, we're certainly not going to be shy about investing to support customers or bring new technology to market. Okay, great. Thank you.

Thank you. We'll take our next question from Karen Lau from Deutsche Bank.

Thank you. Good afternoon, everyone, and congrats to Dick on his retirement.

Thank you.

First question, I don't recall you guys ever called out Korea as a source of strength. And I was just curious, is that concentrated in what you realized in the fourth quarter? Is that concentrated in certain end markets, is it consumer electronics, is it auto and are you winning new customers there that might lead to further new orders down the road? In other words, this is just the start and then maybe there are a series of things that is on the come this year?

Yes, hello, Karen. So Korea is a great market for machine vision. We've invested quite a lot in that market over the last couple years, and built a really great team in that space. And I think some of what we're seeing is just the success of that team really getting traction. The growth we're seeing significantly is interestingly in both consumer electronics and automotive, and we see a lot of runway for both of those markets in Korea as we go forward.

Okay. And then stay on the subject of other Asia, there's been a lot of stories about your largest customer establishing some manufacturing capabilities in India and I think a lot of the Chinese OEMs in the smartphone industry have also been establishing capacity over there. Do you currently serve that market, and in your view is that still a more manual low automation content market? Maybe a little bit of color on that front?

Yes, so as you know, we don't comment on specific customers, but I will comment on India. It's a market that's been -- it's still small for Cognex, but its been growing consistently and quite rapidly over the last few years. And we've been developing our team with a number of offices in different markets there.

Generally what we see in that market is a lot of labor. So generally where Cognex is replacing eyes and brains in manufacturing and doing -- bringing a lot more productivity and performance into those markets. I'd say India has a very high labor content in its manufacturing base, and generally what we see in manufacturing is not particularly sophisticated. So the market for machine vision there is still relatively small.

Now if we do see large electronics or automotive companies do more domestic production there, obviously we would expect to capitalize on that as well. And we have I think the right relationships to make that happen, but right now I don't see it happening significantly, not this year.

Okay, that makes sense. And then maybe touching on the acquisition and the new products. You mentioned the intent to follow an S curve. But would you be able to integrate some of these newly acquired technologies into the large project deployment this year, or is it more of a 2018 event?

I would not expect the new technologies that we've acquired which have relatively small revenues, in some cases no revenue when we've acquired them. I wouldn't expect them to be going into very large deployment to large customers this year. I think we've had a lot of interest in these technologies, and we are certainly sharing them with some of our most sophisticated customers. But I would expect they're going to be more of a 2018 revenue contributor.

Okay, that makes sense. One more and I'll get back in queue. Could you comment on -- I think in your 10-K, you mentioned you're upgrading your ERP system in 2017, and we've seen a lot of cases from many companies, these upgrades sometimes tends to turn into a fiasco. So maybe you could maybe first talk about the cost in terms of OpEx and CapEx associated with that?

Yes, so thanks, Karen. I'm going to ask John Curran, I think he was pretty instrumental in EMCs ERP implementation, a very successful one, to talk about that. He's got that among his other duties on deck. John?

Yes, thank you. We're certainly hoping to avoid a fiasco. I have pulled this off successfully once before, and I expect to do so again here at Cognex. With regard to the expected cost, we don't talk about the details in terms of impact of 2017, but like I said, we don't expect it to be an issue.

Okay, thank you.

Thank you. Our next question comes from Richard Eastman from Robert W. Baird.

Yes, thank you. And wow, Dick, say it ain't so. Congratulations on your retirement, that's fantastic. You'll be missed.

Thank you. I'll still be involved, I'm not totally walking away.

Okay. Well, John, I'll tell you what, I wouldn't want to step into those shoes, I'll tell you that, but good luck.

Big shoes, thanks.

Just a quick question, Rob, would it be possible to just give us for 2016 what percentage of revenue came from the CE market automotive, and then maybe what the third largest market is at this point in time for your revenue and your products. Is that possible?

Yes, sure, Rick, I'm going to talk in generalities. So a very approximately 30% of our revenue is from consumer electronics, really about the same amount, 30% or so roughly, is from automotive. And then our next largest markets would be logistics and consumer products, so they would be a little less than 10% so speaking in generalities.

And when we talk about consumer products, that's quite a big bag. It includes stuff like razor blades and diapers and watches and stuff like that.

Okay. And then just within the consumer electronics market, is there any way to give us a little bit of a description around the applications that Cognex's vision is assisting with? Have the applications broadened as well as apparently the customer base has as well? From maybe manufacturing to assembly to -- I'm just trying to understand if the applications have broadened along with the customer base.

Sure. So I think probably if you go back may years, Cognex was working of course in semi and then in electronic components, right? So passive and other components. We would be inspecting connectors. So that's been a good solid part of our business for many, many years.

I think as we've moved forward in time, we've seen various trends happen such as LEDs, and displays, and we've been sometimes very successful at catching those trends. And we hope to be successful with the current trends going on around organic OLED manufacturer, which is very sophisticated and quite complex. Certainly a lot of automation investment going into that space.

And then as we've moved down the production line, of course there's inspection of components, whether it's housing for devices and smartphones or screens coming into production. And then more in the final assembly and test area, and that's become an area of significant growth for us in the last five years or so. Where a lot of our business now is in the final assembly test packaging part of business.

In electronics, and there there's a lot of integration with robotics, where we could be helping to place Cognex's outstanding in the area of alignment, so aligning pieces that are inserted into end-user devices. That's a very big part of our business. And then also inspecting the process and assisting in that production, integrating with machines that work through the process to do that. So I think probably as we've gone down that chain that I described from components to final assembly, it's the final assembly part of the business which has become the largest and the fastest growing over the past few years.

I see, all right. Very good. And then just one last question, just around the ID products business including logistics. Is there anything -- any dynamic in that segment of the business that would not or affect your confidence around that 30% type of growth outlook for the next few years? Is there any reason that -- anything that affects your confidence that that can't be sustained at this point?

Well, we certainly have a long track record. I was reflecting when I joined the Company about eight and a half years ago, we had a business of less than $30 million in ID, and our business is now approaching $200 million in that space. So certainly -- but it's all organic, and we've been successful by reading difficult to read bar codes and as bar codes have proliferated with more data, become smaller. That's been something we really understand and have a great reputation.

I think obviously as you get bigger, it's harder to grow at that kind of growth rate. But how we are managing to offset that really is by entering new adjacent markets. So certainly the mobile terminal market which is primarily ID, logistics, now verification. I think those have the potential to grow at faster than that 30% growth rate we talked about, as it's harder perhaps to grow the core ID business quite at that rate.

I understand, yes. Okay. Very good, well thank you. Best of luck, Dick.

Thank you very much.

Okay, thank you.

(Operator Instructions)

Our next question is from Joe Giordano from Cowen and Company.

Hey, guys. Thanks for taking my question. Just one quick housekeeping one, you mentioned in the release that your largest consumer electronics, logistics and automotive all up double digits. I'm sure there's a pretty wide variance between some of those, like in especially logistics. Can you scale those a little bit in terms of rough percentage of growth this year for those three markets?

Well, generally automotive and electronics would have grown around the overall growth rate of Cognex, and logistics grew a lot faster than that, more than twice that rate. That would be a general sense of it.

Okay, perfect. I wanted to ask you a question on tax, the potential implications with whether it's a border adjustment. And I know you guys have manufacturing, contract manufacturing and you have engineers all over the world. And I don't know how do you like size where the value is being added is I guess a tough thing to do, but how are you thinking about that internally and what are you doing around that now?

I think the key thing, it's a little early to figure out exactly what the potential impact would be. But you're right we do import the hardware into the United States from our contract manufacturer, and we do the value add of loading the software here in the United States. So the value of the hardware that we're importing is relatively insignificant so it should not have a major impact if in fact we aren't allowed to deduct the import costs or whatever.

Compare that to some of the exporting that we're doing into South America and into Canada that theoretically under that proposal that's been discussed would be exempt from tax. I think it would essentially be a push, might even be slightly to our favor.

That's good color there. And then just relative, I know you're not going to give guidance past the 1Q, but typically the middle six months of your year are by far the strongest. One, do you get a sense from your customer discussions that a strong 1Q year is a little bit of a pull out of 2Q? And do you have any sense as to how the 2Q/3Q -- it was pretty balanced last year and the year before was pretty weighted one way. Do you have any sense how that might play out?

Right, so there's no sense that I have that the Q1 strong guidance we gave is any pull. That's not what we are seeing. You're right that Q2 and Q3 tend to have large orders in them. It's really not clear to us which quarter the majority of orders or business would fall into. It's too early to see that at the moment.

Yes, I figured that was going to be the case. So I'll leave it there. Thanks a lot, guys, good job. And, Dick, congratulations.

Thank you.

Thanks.

Thank you. I'm showing one more question from Jeremie from CLSA.

Hey, thanks for taking a follow-up question. Rob, you talked about the OpEx going up in Q1 a sizeable amount, and I think you called out stock compensation as a key factor. How do we think about this increase in stock comp? Does it relate to the performance of the business in 2016, or is that based on forward-looking assumptions?

Yes, I think I'll answer that question, Jeremie. I think one of the key factors in the stock option compensation is our stock options vest over a four-year period. So what you have is those options that are going out of the expense pool this year were granted at an exercise price of some four years ago which was probably somewhere around $25, $22 somewhere in that neighborhood. I think it was $22 to be exact.

And we're replacing those with options that we're granting this year. And when the annual grants come out in February here, I think the exercised price is going to be somewhere around $70. And as a result, when you go through the calculation of the expense, is it going to be significantly higher. So the increase in expenses is mainly due to that. The amount of options that are being granted are relatively consistent, and we in fact buy back all that dilution in our stock buyback program anyway.

Thank you very much.

Thank you. Our next question is from Joe Giordano from Cowen and Company.

Hey, guys. Sorry, I had one that I wanted to ask and I forgot. Maybe this one is a bit for Dr. Bob as well. Just a high-level question.

You're obviously in a nichey area with very good growth prospects and a great theme with very few players in it. So something like that with the margins you guys see incentivizes others to want to get in. Obviously anyone can get in via acquisition, but what are you doing to preempt other competitors from trying to get into such an attractive market?

This is Dr. Bob here. The barriers to entry in this business are substantial. The first barrier to entry is the incredible amount of technology that one needs to have. And first thoughts with knowledge of machine vision, I think at this point we probably have over 30 or 40 PhDs, guys who got their PhDs not just in computer science but their thesis was specifically in machine vision.

But so we have I don't know how many engineers, Rob can tell us, probably 300 engineers in the Company today and they aren't all machine vision experts. But that's another barrier. You have to know how to interface things on the factory floor, communication protocols. So there's an enormous technical barrier to getting into the business, and there aren't that many people around to hire. Then if they are, we hire them or we buy those companies.

Next is the distribution. When you approach a large company, they want to know if you can service their plants around the world. So it's highly unlikely that the start up in Silicon Valley is going to come up even if they had a better vision system, unlikely that most companies would do business with them. You have to have a field support team, you have to have salespeople who call on them, and call-in centers.

So we've built a very substantial business that has a very substantial barrier to entry. We do have a couple competitors, in each market we have a strong competitors. But they are very few, and most of them also sell don't sell based on cutting price. So we're quite happy that the business that we happened to choose. Rob, do you have anything to add to that?

No, we have about 400 engineers and we have very long tenure. We pride ourselves on a great culture where people come and do their life's work and do great work. So that's also a key part of it.

I would say historically too, Joe, as you hint, other companies have looked at our industry and thought, like those margins, let's get in. What they discovered is burn through $20 million, $30 million of investment trying to do machine vision and realized how difficult it is. So and we continue to spend last year 15% of our revenue on R&D, so there are pretty substantial barriers I think to new entrants in this market.

In addition, I would point out our extensive patent portfolio. So to be able to do what we do without infringing on our intellectual property would be very difficult too. So we haven't seen any new competitors, and if we do find small companies with unique technology and unique people then we go out and make love to them.

And tell them that we can take away from them all of the aggravation of running a company of building products. They can focus on creating new technology, and then we put it into products and we sell it for them. So we have just a great culture in the Company that attracts start-up companies to us and entrepreneur thinking, and we're going to continue to do that.

Great, thanks, guys. Those are really important points, so thanks for that.

Sure.

Thank you. Our next question is from Karen Lau from Deutsche Bank.

Thank you. Two quick follow-ups. If I did my math right, it looks like consumer electronics and your largest customers they both grew at over 20% rate in 2016. So that suggests outside of the largest customer, the rest of the business is growing at a pretty healthy pace as well. Is that coming from the OLED, the inspection of components that you talked about earlier, or is that growth coming from other smartphone OEMs? If you can comment on that.

It's coming from all of those things. So certainly yes, it's coming from all different parts and it's not like per se one area is delivering all of that growth.

Okay, got it. And then I realized in consumer electronics you don't -- well the lead time is very short, but what about in logistics? How far in advance do you get the orders or visibility as to somebody's building a warehouse and they are expected to place an order on scanning equipment and things like that?

Yes, so among larger customers, actually both in consumer electronics and logistics, we can get visibility on business building. We have a funnel and we can see projects coming on 6 to 9 months out, as we have close relationships with those organizations. But then some of them can fall out as we get closer to the time of implementation.

In logistics, yes, we can see potential business building as we look out into the year. And then the timing of deployment and then the timing of revenue recognition also can vary based on those plans. So I would say in general, you might think that it's about 20 weeks out. We can see funnel with significant probability starting to build.

Okay. So with that visibility in logistics, would you -- do you think you'll be able to sustain that 50% plus growth that you realized in the first half of 2016?

Too soon to comment on the short term. I'd say in the long term, yes, we're very confident that we're going to see some good growth. I think about 40% was what we saw our recent run rate at, so 40% plus. So yes, there's plenty of potential in that market, and I think as long as they go on investing we're going see continued growth for Cognex in logistics.

Got it. Thank you.

Okay, thank you. I'm showing no further questions in the queue.

Okay it's time to wrap it up. Just in summary, we had an outstanding year in 2016. Our outlook for Q1 of 2017 is also strong, and we are excited not only about the long-term potential of our business but the short and midterm of our business. Just a great business to be in.

I want to thank you all for joining us tonight, and we look forward to speaking with you again on our next quarter's call. Hopefully also very good news. Thank you for joining us.

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