3D Systems Corp (DDD) 2008 Q4 法說會逐字稿

Good morning and welcome to the 3D Systems fourth quarter and full year 2008 earnings results conference call and audio webcast.

My name is Brandi and I will facilitate the audio portion of today's interactive broadcast.

After the speakers' remarks there will be a question and answer session.

(Operator instructions) At this time I would like to turn the call over to Chanda Hughes with 3D Systems.

Please go ahead.

Good morning and welcome to 3D Systems conference call.

I am Chanda Hughes and with me on the call are Abe Reichental, CEO, Damon Gregoire, CFO and Bob Grace, General Counsel.

The audio webcast portion of this call contains a slide presentation that we will refer to during the call.

Those following along on the phone who wish to access the slide portion of this presentation may do so via the web at www.3dsystems.com/ir.

Participants who would like to ask questions related to matters discussed in this conference call, at the end of the session should call in using the phone numbers provided on slide 3.

The phone numbers are also provided in the press release that we issued yesterday.

For those who have access to the streaming portion of the call or the streaming portion of the webcast, please be aware that there is a three second delay and you will not be able to pose questions via the web.

Before we begin the discussion I would like to preface our presentation today with a statement regarding forward-looking information.

Certain statements made on this presentation that are not statemented of historical or current facts are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Forward-looking statements may involve known and unknown risks, uncertainties and other factors that may cause the actual results, performance or achievement of the company to be materially different from historical results or from any future results expressed or implied by forward-looking statements.

In addition to statements regarding risks and uncertainties, readers are to consider statements in the future or that estimate, intent, anticipate or plan to be forward-looking.

Forward-looking statements may include comments as to the Company's beliefs and expectations as to future events affecting its business.

Forward-looking statements are based upon management's current expectations concerning future events and trends and are necessarily subject to uncertainties many of which are outside the control of the company in particular the factors stated under the heading forward-looking statements cautionary statements and risk factors that appear in the Company's periodic filings with the Securities and Exchange Commission as well as other factors could cause results to differ materially from those predicted in forward-looking statements.

At this time I would like to introduce Abe Reichental, President and CEO.

Good morning, everyone, and thanks for taking the time to listen to our call this morning.

As you already know, yesterday we released our operating results for the fourth quarter and full year '08 and we also filed our annual report on Form 10-K with the SEC.

I would like to review these operating results this morning and give you my perspective on current business operations and prospects.

Let me start by saying that it should come as no surprise that 2008 represented a difficult and challenging economic environment for us and all of our key customers.

Notwithstanding the worsening economic conditions that resulted in a significant revenue decline during the fourth quarter, the quality of our business improved, specifically we reported improved gross profit margin and operating income and continue to lower operating expenses for the fourth quarter of '08 on lower revenue.

We also reported higher unrestricted cash than we had at the end of the third quarter.

As you can see on slide 6, for the fourth quarter of '08 we reported a 22% revenue decline from our strong '07 fourth quarter primarily due to a short fall in our high-end large-frame system sales.

The corresponding 15% gross profit decrease to $15.4 million primarily on lower volume.

A 4 percentage points improvement in gross profit margin from the fourth quarter of '07 and a 5 percentage points sequential growth profit improvement relative to the third quarter of '08.

We also reported a 17% decline in operating expenses to $13.9 million and a $1.5 million operating income and $1.8 million of net income resulting in $0.08 of fully diluted net income per share.

I should note that fourth quarter net income was influenced by two items.

First, the $1.2 million favorable foreign tax settlement which added $0.05 fully diluted earnings per share to our net income '08 and second, the net effect of an increase in bad debt expense in the fourth quarter of '08 that was made upon learning on February 25 of '09 that one of our large Japanese customers filed for financial reorganization under Japanese law.

The net effect of this increase in bad debt expense was a reduction in our EPS for the fourth quarter and full year of $0.02.

We also reported our restricted cash increased during the fourth quarter by $4 million to $22.2 million at December 31.

As you can see on slide 7, our results for all of 2008 show most of the same trend.

First lower revenue primarily due to a short fall in our high-end large-frame systems sale, a corresponding decrease in gross profit muting the effect of our '08 improvement when compared to '07, a continuing decline in operating expenses and a $6.2 million net loss for the full year that resulted in a $0.28 fully diluted net loss per share.

I want to talk for a few minutes about some key factors that shaped the fourth quarter starting here with revenue.

For '08 our total revenue fell 11% as a result of the worsening global recession and frozen credit market.

A very challenging operating environment that adversely impacted many of our automotive aerospace and consumer customers and their tier service providers.

While this unprecedented global economic conditions resulted in a significant decline in large-frame system sales and slowed down our material revenue growth, our new line of 3-D printers continue to grow.

3-D printer sales increased 64% over the comparable 2007 quarter, and it's worth noting that half of our year-end backlog of $1.4 million was attributable to 3-D printers.

As I already mentioned earlier, even on a significant decline in revenue, our gross profit margin increased to 44%, up almost 400 basis points year-over-year and up more than 500 basis points sequentially compared to our September '08 quarter.

We expect to continue to benefit in '09 from the cost based improvement that we began in '08.

As I mentioned earlier, our continuing efforts to reduce our operating expenses and ongoing improvement in our gross profit margin coupled with our efforts to improved capital management led to an improved year-end cash position.

Given the fact that we have no debt borrowings at this time, I believe that our financial resources remain adequate for our current and anticipated needs during this unprecedented economic period.

A few words about our integrated material performance on slide 10.

Notwithstanding flat total material sales for the '08 year, our integrated materials revenue grew 31% since the first quarter of '08, but fell well below our expectations on a declining systems sales and demand for power across our automotive, aerospace and consumer electronic customers.

Revenue from integrated materials and composite it grew to 28% of total material sales for the fourth quarter.

This increase continued the sequential trend experienced in each quarter in '08 which started at 22% in the first quarter.

However, as the fourth quarter came to an end, we started to see a decline in our overall material revenue driven by a recessionary condition that reflected a decline in demand for parts made on our rapid manufacturing systems.

And now for more detailed look at our financial performance for the third quarter and first nine months of 2008, I will turn the presentation over to Damon Gregoire, our Chief Financial Officer.

Damon?

Thanks Abe.

Good morning everybody.

On the first slide we have broken out fourth quarter revenue by category and region.

As you can see on the left our largest revenue was materials which increased to 45% of total revenue for the full year 2008.

The right side of the graph shows that European region was the largest contributor with 45% of total revenue followed closely by North America with 39%.

Foreign currency translation positively affect our sales outside the United States by $3.9 million for 2008.

Gross profit declined by 15% to $15.4 million for the fourth quarter of '08 from $18.1 million in the 2007 quarter due to lower revenue.

Gross margin increased to 44% for the fourth quarter 2008 representing an almost 400 basis points increased year-over-year and a more than 500 basis points increased sequentially.

The increase in gross profit margin is consistent with our previously disclosed gross profit margin initiatives.

Changes in product mix among the systems that we sold during the fourth quarter and the contribution shortfall from the decline in large-frame system sales affected our gross profit margin and offset some of the progress noted above.

Other items affecting gross profit margin were an absence of duplicate supply chain cost associated with the transfer of logistics activities to Rock Hill and lower amortization of internally development software.

For the full year, gross profit decreased by 12% to $56 million.

Gross profit margins decreased 40% for the full year of 2008 compared to 41% in the full year of 2007.

The decline in gross profit margin was primarily due to the factors just discussed that affected the fourth quarter along with the cost associated with our initial plan build up of finished goods and higher amortization of internally developed software costs in the first three quarters of 2008 which were significantly lower than in the third quarter of '08.

Operating expenses continue their favorable downward trend in the fourth quarter of 2008 declining by 17% to $13.9 million from $16.7 million in the fourth quarter of '07.

This decrease reflected lower selling, general and administrative expenses while research and development expenses remain relatively flat.

On a sequential quarter basis operating expenses have declined in each quarter of this year a decline 3% or $400,000 from the third to fourth quarter, they also declined by 11% or $1.8 million from the third quarter to the third quarter and by 3% or $0.5 million from the first quarter to the second quarter of '08.

The decline in SG&A costs consisted primarily of contract labor, accounting fees, occupancy costs, sales commissions, bonuses and incentive compensations, as well as travel and other discretionary cost cutting initiatives.

Our progress would have been even greater except for legal costs related to our previously disclosed litigation matters and increase in allowance for bad debt.

SG&A decreased 16% to $45.9 million for the year '08.

These savings consisted of contract labor, accounting fees, occupancy cost, sales commission, bonus and incentive compensation as well as other discretionary cost cutting initiatives.

These savings were partially offset by a $600,000 increase in legal costs and a bad debt increase of $700,000.

And consistent with our new product rollout, R&D increased by 5% to $15.2 million .

We expect SG&A cost to be in the range of $38 million to $42 million and R&D expenses to be in the range of $10 million to $12 million for the full year 2009.

Accounts receivables decreased to $25.2 million at December 31, 2008 from $31.1 million at December 31, 2007 primarily due to lower sales, partially offset by increase in days outstanding to 66 days from 64 days at December 31, 2007.

And the sequential decrease in days inventory on hand by one day to 100 days was due to primarily to decreased revenue for the fourth quarter of '08.

In line with what we expected based on the global market strategy at December 31, 2008, inventories increased to $21 million from $20 million at December 31, 2008 reflecting the short-term materials and systems inventory purchases that we undertook to support future revenue including purchases of V-Flash Modelers and certain key components to support future production of 3-D printers.

In the second half of the year inventory reduction plans were put in place and although we ended 2008 with inventory levels $1 million higher than at the end of '07, we reduced our inventories by $5.1 million since June of 2008.

And despite our contracting economy in which we operated during '08 we ended the fourth quarter with approximately $22.2 million in unrestricted cash compared to $18.1 million of unrestricted cash at September 30.

The increase reflects our efforts to conserve cash by reducing operating expenses, improving gross profit margin and managing working capital.

Our year end cash balance includes $1.1 million of net cash proceeds from the sale of our Grand Junction facility.

And in January 2009, we used $3.1 million of restricted cash to pay off our outstanding industrial development bond.

Currently we have no other debt except for capital leases which in the ordinary course of business cannot be called or accelerated.

And we believe that our financial resources are adequate for our current and anticipated future needs during this trying economic period.

We continue to focus on improving our working capital management in order to pursue our near-term growth term opportunities.

That concludes my comments.

Thank you, Damon.

Before we begin the the Q&A session, I would like to spend a few minutes reviewing the state of our business.

I would like to begin this portion with a few cautionary remarks.

First, based on current economic conditions we expect 2009 to be a challenging year.

In fact, it is entirely possible that we will experience continued sales decline during this unprecedented deepening global recession.

Second, I should also note that in the absence of a historical year end surge in systems revenue, we anticipate reduced integrated materials revenue growth in '09.

Furthermore, softness in some of the key industries that we serve, such as automotive, aerospace, consumer electronic, etc., can result in a continued decline of revenue from our Direct Rapid Manufacturing systems during the next several quarters.

And finally, as we already experienced in Japan, customers solvency issues could result in reduced revenue as we work to balance potential collection risk against revenue opportunities.

On the other hand, we can expect some positive contributions during these unusual times.

Specifically we anticipate that our service revenue could grow and benefit possibly from increased sales of iPro and sPro conversion packages and sales of additional service agreements as more customers seek to prolong the useful lack of their aging systems during their own cash conservation period.

Additionally, we expect that sales of our new Direct Rapid Manufacturing system could help condition the otherwise eRon gated capital cycle aided by previously announced availability of our iPro XL with the largest built envelope in the industry for SLA part, and the sPro center that are coming to the market March of this year.

We just attended the mid winter Dental Trade Show and based on our current offering and the pulse of the show, we anticipate dental manufacturing solutions to continue to grow even during this challenging period aided by our commercial initiatives that are already in place with 3M, (inaudible) and Sensible and also by additional commercial alliances with other significant dental players and the formation of a dedicated business development unit to accelerate penetration into this market opportunity.

We further believe that sales of our new line 3-D printers will continue to grow as a result of the availability of our new RealWax printers that are already gaining positive traction in the marketplace, continued expansion of our reseller network, previously announced plans to launch a larger format 3-D printer, the ProJet 5000 during the third quarter of this year, and previously announced plans to commence commercial shipment of this modular, $10,000 desktop 3-D modular during the second quarter of this year.

In connection with V-Flash I would like to remind you as we begin to scale our shipment of our V-Flash system, we expect quarterly drag on our EPS in the range of $0.02 to $0.04 per share for the initial four quarters of commercial activity.

I want to also give you some sense about our targets and ranges on operating expenses for '09.

As he already mentioned, we continue to increase SG&A during '09 to arrange 48 to 42 million for the full year of '09 and this is inclusive of our anticipated higher legal expenses for '09.

As Damon already mentioned, we also expect to be able to reduce SG&A during '09 to a range of $38 million to $42 million for the full year '09,t his is inclusive of our anticipated higher legal expenses for '09.

We also expect to reduce our R&D spending to a range of between $10 million to $12 million in '09 without slowing down the rate of plans and new product introduction for this period.

I also wanted to tell you that should it become necessary as a result of further deterioration of the global economic condition, we plan to take further action to reduce our operating expenses and conserve cash.

Finally I wanted to close by reminding everybody that particularly during this challenging economic period, we remain committed to our long-term goal of improving our customers bottom line and doing it through economic and rapid design of manufacturing solutions that help our customers reduce cost and accelerate their new products to market.

Although we are feeling the impact of an unprecedented slow down in manufacturing worldwide, we believe that our financial position and debt-free balance sheet is adequate to enable us to continue with our future plan.

And even within the current elongated capital spending cycle, our new line of 3-D printers and Direct Rapid Manufacturing centers and materials should help drive demand for our product during this uncertain economic period.

Remember that our business model is built around significant recurring revenue components that are beginning to generate improved contribution margin, and with that we will now gladly take your questions.

(Operator instructions) Your first question comes from the line of Brian Drab with William Blair & Company.

Good morning.

Good morning.

My question is around the V-Flash.

I want to be clear that $0.02 to $0.04 that you mentioned, is that for the first four quarters of shipment or is that per quarter?

It will be per quarter and that is the range of anticipated drag as we scale up the shipments until we reach certain critical volume.

Okay.

And could you remind us what type of volumes work into that assumption and the gross -- is the EPS hit primarily coming from gross margin contraction?

Yes.

It comes from gross margin contraction on systems ahead of recurring revenue contribution from V-Flash more than making up for it.

In the model that we shared with you starting in May of '08, we began to outline the potential scalability and recurring revenue generation based on unit placement, and we said repeatedly in the last few quarters that we expect to exit the first 12 months of full commercial activity with this flash at the run rate of a thousand units.

Thank you.

I'll get back in the queue.

Your next question comes from the line of Bill Gibson with Nollenberger Capital.

Hi Abe.

You talked about the expansion of the reseller channel.

Could you give us a little more detail on that as to where we stand and just the efforts you are taking in terms of tracking their financial strength?

Let me start with tracking the financial strength of resellers.

Obviously, in a period like this, when we or as we contemplate adding additional resellers, we look well beyond the conventional due diligence that one would have done 12 months or 18 months ago and we particularly scrutinize and do a deep dive into the financial strength and flexibility of a reseller during this period.

When we think about where and how we are adding resellers today, our offering deal of 3-D printers expanded significantly in the last 12 months starting last March with the introduction of the first ProJet HD and culminating in October or November with the introduction of the ProJet CP and CPX, our first two RealWax units.

So a lot of the additional 3-D printers that we've introduced throughout the second, third and fourth quarters of 2008 were aimed specifically at Rapid Manufacturing production opportunities.

In jewelry, in dental, in micro casting applications, and that gave us an opportunity to go after additional resellers that specialize in those machine tool type applications and/or in jewelry applications and/or in dental applications.

And this is where the extension efforts are targeted to date.

Thanks, Abe.

You're welcome.

Your next question comes from the line of Jay Harris with Goldsmith & Harris.

Within the context of what you've outlined very thoroughly in terms of segments of the business that are likely to suffer some decline and segments of the business where you have a high optimistic about growth, if we talk about cash on the balance sheet as an indicator of the strength of the balance sheet, are you -- do you have internal forecast that tell you whether you'll be growing the balance sheet strength in 2009, or don't you know?

Well, let me speak in general terms and try to shed as much light as I can on this.

Our 2009 budgets and plans took into consideration a great deal of assumptions that at the time that we made them seemed reasonable, balanced, and well thought out.

And at the time that we did our 2009 plans and budgets, we applied as many cautionary and as many optimistic assumptions to our budget, and came out with an answer that suggested to us that we could be as we continue to say in all of our disclosures, that we could be self sufficient through our own cash generation capabilities.

And so far through the end of last year, we continue to maintain that, and again in this earnings release we indicated very clearly that based on what we have in front of us today we believe that we can continue to execute all of our plans, activities for this year based on our own resources.

Jay, we live in an unprecedented period whereby some of our long-term customers are hurting, and there is no telling at this point in time how solvent some of our, even blue chip customers are going to be in the next few quarters.

What I can tell you is that we are very vigilant on a daily basis, and on a daily basis we have to sometimes make trade off calls in terms of potentially reducing our exposure with a certain customer and trying to convince them to take a little less as we manage their potential risk.

And that is the environment that we operate in.

We, Jay, have lost customers and providers to those customers that are in our industry segment that are directly impacted by end-user consumption across the board, whether it's in automotive, in aerospace, in consumer electronics, in jewelry, in toys, these are all segments that we do a lot with in the ordinary course of business.

These customers grew recurring revenue customers and new revenue customers in the sense that they continue to expand their activities.

And when their consumptions drop, they are hurt.

And that is reflected in our operating model and the operating results.

Thank you.

Your next question comes from the line of Andrew [Nowenski] with Piper Jaffray.

Good morning, gentlemen.

Just a questions on the write-off of Japan.

In many cases once the reorganization of a customer is complete the company emerges as a stronger company.

I wonder if you see that happening here or have all the opportunities with this customer come to an end.

No.

Actually this is the early -- the opening procedure if you will for this customer.

The customer just filed for what's called in Japan a reorganization or rehabilitation act.

The initial hearing only took place a couple of days ago.

What we have done out of the abundance of caution and conservatism, and we believe that given the unique liability of this customer in Japan, given the effect that they are critical to the success of some very good automotive companies in Japan including the likes of Honda and Toyota, given the fact that if anybody is going to emerge successful out of this automotive fiasco it is likely to be companies like Honda and Toyota, we are optimistic about the final outcome here.

However, we are a publicly trade company, and we are governed by certain accounting rules, and in this environment and under the circumstances and the fact that we know today out of the abundance of caution we have taken the steps that we have taken.

What percentage of that $1.3 million was materials versus system?

Of the $1.3 million, it was over half.

Okay.

Got it.

Thanks guys.

(Operator instructions) Your next question comes from the line of Jim Bartlett with Bartlett Investors.

It was a very large sequential improvement in gross margin in the fourth quarter.

Can you tell us a little bit where that came from?

And what's your outlook for gross margins going forward in 2009?

Good morning, Jim.

I'll start and maybe I'll ask Damon to help me a little bit.

Remember that starting in the second quarter of '08, we outlined to you a series of gross profit improvement plans that included bringing our third-party logistic activities in-house and for a period of time we ran with duplicate costs there.

We outlined also working with some of our key component suppliers to improve reliability and reduce the cost, our warranty cost, that was one of our initiatives and we had a few other initiatives.

What you are beginning to see in the 400 basis points improvement is some of the earlier results of these initiatives that the fourth quarter was the first quarter that we operated with our supply chain, freight and logistic directly with Rock Hill without duplicate cost.

We also began to benefit from some improved component reliability.

Damon mentioned earlier that we had some amounts of internally developed software that dropped the amortization of that, and that contributed, and those in our mind, those benefits, the benefit of operating out of Rock Hill as opposed to paying to a third party logistic provider, the benefit of enjoying improved components reliability, the benefit of no longer having major portions of internally developed software, those are going to be recurring benefits.

Those are not one-time improvements.

And what's also worth noting here, Jim, is that we have done this without the traditional lift that we get from the contribution of large frame gross profit margin, which is much higher than our 3-D printer gross profit margin.

So the fact that we could generate this kind of an improvement both over last year and sequentially for the fourth quarter and sequentially over the third quarter with a very different mix of product makes us somewhat hopeful that we are on the right track in terms of generating additional improvements down the road.

And I'll remind you even though we did not put it in this particular webcast, that we are still working against our long-term target operating model, which I believe pegged gross profit margin when we reach that model much higher than we achieved in the fourth quarter.

Damon, do you have anything to add to that?

I think you've covered it quite thoroughly, but you can see on one of the slides that we put out there our gross profit margin for the quarter is an improvement on our product gross profit margin which is where most of these fix cost reductions take effect.

So it's right on track, and it's right in line with what we announced in the third quarter that by the end of the first quarter '09 we should be seeing a sustainable $1 million fixed cost reduction in gross margin.

It looks like the majority of it was in systems.

Is that correct?

That's where a lot of this fix cost gets allocated out into systems which is why the systems margin improved that much.

Follow up a bit here, Abe, your update on the slides, you are talking about the dental unit, you mentioned you have your initiatives but also additional commercial alliances with other dental players.

Can you talk about that as well as the formation of this dedicated business that developed the unit to accelerate concentration in dental?

Yes.

Jim, we are in the process of discussing additional dental alliances with either significant dental players.

I am not yet in a position to name specific names because the negotiations and discussions are ongoing as we speak, but I felt confident enough mentioning it as a bullet because based on the poll of the mid winter trade show that took place this last Saturday, based on the status of this discussion, I felt confident mentioning it as a bullet because we believe that some of those are fairly eminent.

We also recognizing the importance of this all dental manufacturing arena pulled a few of our internal experts together into a business development unit that can now go to a dental marketplace and able to sell all of our dental solutions across all technologies.

As you know, Jim, we have some dental solutions within our 3-D printing technology.

We have other dental solutions that are using our stereo (inaudible) technology, and we also have some dental solutions that are embedded in our direct metal centering technology.

And to make sure we go to the marketplace and have a cohesive market strategy, we put together this team of business developers so that they could go and offer all the solutions and help the likes of Sensible and 3M and others have their solution be fully powered by 3-D systems.

How big is the team?

We have about five people in this team, and they bring in all the resources and skills that they need.

Remember that their job is not to go and sell necessarily and do the things that our ordinary sales force does.

Their position is to be able to put together opportunities, line them up, propose a comprehensive solution and then bring the regular sales team into it.

You said significant on a commercial alliances.

It's my understanding that 3M and (inaudible) have a very large share the market and domestically there wasn't too many opportunities left.

I would argue that there are at least as many other significant players, and then there are other less significant players that would be significant to our business.

They may not be significant in the size.

Look, the value of dental material transactions that happen between the dental lab and the dentist in accordance with all the independent dental studies out there that are available to us and to everybody else, the value of those transactions in 2008 was in excess of $7 billion.

That's the size of the dental solutions market between the dentist and the dental lab.

And everybody out there is trying to get a few slivers or slices out of it by trying to apply technology to what was traditionally done completely manually.

And so this market opportunity is enormous and there are many more players that we would like to attract and allow them to be powered by 3-D Systems Application Technology.

Thank you.

(Operator instructions) At this time there are no further questions.

I would like to turn the call back to Chanda Hughes for closing remarks.

Thank you for joining us today and for your continued support of 3D Systems.

A replay of this webcast will be made available after the call on the Investor Relations section of our website, www.3dsystems.com/ir.

This concludes today's conference.