Stratasys Ltd (SSYS) 2008 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Second Quarter 2008 Stratasys Earnings Conference Call. My name is Erica and I will be your coordinator for today. At this time, all participants are in a listen-only mode. We will be facilitating a question and answer session towards the end of the conference. (Operator Instructions) I would now like to turn the presentation over to your host for today's call, Mr. Shane Glenn, Director of Investor Relations. Please proceed, sir.

Good morning and welcome to the Stratasys Conference Call to discuss second quarter financial results. Representing Stratasys' Executive Management on the conference call today is the Chairman and CEO of Stratasys, Scott Crump, and CFO, Bob Gallagher.

A quick reminder that today's conference call is being transmitted over the web and can be accessed through our Investor section of our website at www.stratasys.com.

We will begin with the Safe Harbor statement. All statements herein that are not historical facts or that include such words as expects, anticipates, projects, estimates, vision, planning, believes, or similar words that are forward-looking statements that we deem to be covered by and to qualify for the Safe Harbor protection covered by the Private Securities Litigation Reform Act of 1995.

Our belief that we have the largest part-building service is based on the number of dedicated machines. Except for historical information herein, the matters discussed in this news release are forward-looking statements that involve risks and uncertainties. These include the continued market acceptance and growth of our Dimension printer line, FDM 200mc, 360mc, 400mc, 900mc, Maxum, Titan, and Vantage product lines, the size of the 3D printing market, our ability to penetrate the 3D printing market, our ability to maintain the growth rates experienced in this and preceding quarters, our ability to introduce and market new materials, such as ABS-Plus and ABS-M30, and the market acceptance of these and other materials, the impact of competitive products and pricing, the timely development and acceptance of new products and materials, the success of our recent R&D initiative to expand the direct digital manufacturing capabilities of our core FDM technology, the success of the our RedEye RPM and other paid parts services, and the other risks detailed from time to time in our SEC reports, including our quarterly reports filed on Form 10-Q, to be filed throughout 2008, and our annual report on Form 10-K filed for the year ended December 31, 2007.

The information discussed within this conference call includes financial results and forward-looking financial guidance in accordance with US Generally Accepted Accounting Principles, or GAAP. In addition, non-GAAP financial guidance is included that excludes certain expenses. The non-GAAP financial measures are provided in an effort to give information that investors may deem relevant to the Company's operations and comparative performance. Primarily, the identification and exclusion of expenses associated with stock-based compensation required under SFAS123R.

We'd like to quickly confirm the date of our third quarter earnings release and conference call. Stratasys' third quarter results will be released on or before the morning of November 4, 2008, followed by a conference call on the same day as the release. We will release the conference call time and details about two weeks prior to that date.

Now I would like to turn the call over to our CEO, Scott Crump.

Good morning and thank you for joining us. We are pleased to announce our record second quarter financial results.

Revenue grew 13% for our proprietary products and services in the second quarter and net income was also up 13% over last year. Our high-end FDM system business grew by 33% over the same period last year, driven by new products and positive impact of our direct digital manufacturing opportunities.

We announced the large order for multiple 900mc systems during the quarter which was a direct result of our efforts to strategically expand into direct digital manufacturing. Our proprietary consumable revenue increased by 17%, driven by our growing install base of systems as we announced the installation of our 10,000th system during the second quarter. Paid Parts demonstrated improved performance as revenue increased 25% sequentially over the first quarter.

I'll return later to discuss some of our strategic initiatives, but first I'd like to turn the call over to our CFO, Bob Gallagher, who will further highlight our second quarter results. Here's Bob.

Thank you, Scott. Prior to discussing the details of our financial results, we would like to outline the relative impact of discontinuing our product distribution agreements.

As we have previously outlined, we have discontinued the distribution of EDEN and Arcam products which created certain issues when conducting year over year comparative analysis of revenue growth and margins. In the second quarter of 2008, we recognized approximately $105,000 of sales related to these discontinued distribution agreements compared to approximately $537,000 in the same period last year.

Total revenue increased by 11% to $31.2 million for the second quarter of 2008 compared to $28.2 million for the same period last year. Revenue from proprietary products and services, which excludes all distributed product related revenue, increased by 13% in the second quarter over the same period last year.

The Company shipped 540 systems during the second quarter versus 564 last year. The decline in unit resulted from lower 3D printer unit volume. The decline more than offsets strong unit growth in our high-end system business.

Scott will provide additional commentary later in the call which will address the recent impact of promoting our higher priced printers, as well as the impact of a weakening domestic manufacturing environment. The 1200 SST, Elite, and 768 SST, our highest priced 3D printers represented approximately 72% of our 3D printer unit volume during the second quarter.

Second quarter product revenue, as recorded, increased by 12% to $24.8 million when compared to $22.2 million for the same period last year. Several factors influenced our propriety product revenue during the second quarter.

First, propriety high-end system revenue increased by an impressive 33% when compared to last year, driven by the successful introduction of several new products. The performance of our high-end system business exceeded our expectations during the quarter.

Second, our 3D printer system revenue declined by 4%, a function of the lower unit volumes for 3D printers which more than offset higher average prices compared to last year.

Third, our propriety consumables grew by 17% during the second quarter when compared to last year, driven by our ongoing expansion of our install base of propriety systems. The 17% growth in consumable revenue we reported for the second quarter excludes any consideration for the consumable cartridges included in the 1200es upgrade kit announced in February for customers who had a non-es version of the Dimension 1200. We sold approximately 260 upgrade kits during the quarter.

Second quarter service revenue, as reported, increased by 7% compared to the same period last year. We recognized no distributed product related service revenue during the second quarter, compared to $376,000 in revenue from maintenance contracts we recognized during the same period last year. Excluding distributed product related service revenue, total propriety service related revenue increased by 14%.

Maintenance revenue from contracts and propriety systems increased by 17% during the second quarter when compared to last year. The increase in maintenance revenue over the prior year is due to the 2,169 systems we added to the install base in 2007.

Paid Parts revenue increased by 5% during the second quarter versus last year which was a significant improvement over the 12% decline in the year over year revenue for Paid Parts during the first quarter. We should note that the Paid Parts business was also up 25% sequentially.

Gross profit increased by 11% to $17.3 million for the second quarter of 2008 when compared to $15.6 million for the same period last year. Gross profit as a percentage of sales remained at 55.3% compared to the same period last year. Operating profit increased by 16%, $5.8 million for the second quarter 2008 compared to $5 million for the same period last year.

Stock based compensation expense recorded under Statement of Financial Accounting Standards, or SFAS123R, amounted to approximately $320,000 in the second quarter compared to $179,000 in the same period last year. Operating expense increased by 9% during the second quarter compared to last year.

The increase in operating expenses was led by a 43% increase in R&D expense during the quarter. We expect more modest growth in R&D expenses in the second half of the year. Our vision remains to move down the price elasticity curve and target opportunities that are developing with the direct digital manufacturing market. Both of these initiatives will require continuous product development and investment. While we remain committed to these plans, we have recently initiated some cost reductions that should lessen the overall level of operating expenses we had previously expected.

Total interest and other income for the second quarter decreased to $382,000 versus $525,000 last year. The decline was a result of lower interest rates and higher charges related to foreign currency exchange. Pre-tax profit increased by 12% to $6.2 million for the second quarter of 2008 compared to $5.6 million for the same period last year. Excluding stock based compensation expense, pre-tax profit increased by 14% to $6.5 million for the second quarter of 2008 compared to $5.7 million for the same period last year.

Income tax, as reported, amounted to $2.1 million for a rate of 34.1% compare to $1.9 million or 34.7% for the same period last year. Excluding the impact of stock based compensation expenses, income tax expense amounted to $2.2 million or 33.2% for the second quarter versus $2 million or 34.4% for the same period last year.

Net income increased by 13% to $4.1 million for the second quarter of 2008 or $0.19 per share compared to $3.6 million or $0.17 per share for the same period last year. Excluding stock based compensation expenses, net income increase by 16% to $4.4 million or $0.20 per share for the second quarter of 2008 compared to $3.8 million or $0.18 for the same period last year. Our diluted shared outstanding declined by 125,000 shares from the second quarter of last year, as result of our lower stock price and share repurchases.

Our cash and investment position amounted to approximately $49 million at the end of the second quarter compared to approximately $61 million at the end of fiscal 2007. The change in cash and investments from the end of fiscal 2007 is a result of cash used for stock repurchases combined with higher working capital requirements. YTD, we've bought back approximately 221,000 shares for approximately $4 million, for an average purchase price of $17.88. We have approximately $26 million on the current repurchase authorization.

Inventory balance were $18.5 million at the end of the second quarter which is up from the $12.8 million at the end of fiscal 2007 and up from the $17.6 million at the end of the first quarter. We attributed the build up in our first quarter for four main reasons; a build on in Dimension units in anticipation to additional demand in order to provide for differences in our forecast mix versus actual demand and an increase in inventory to support our new product introductions, particularly 900mcs in the second quarter as we commercially ship in Q3, a last time buy for legacy system inventory, and an increase in consumable inventory to meet future customer demand.

In the second quarter, we still had the effects from all of the above. In addition, we expanded our inventory for 900mcs as we are now in commercial production in the third quarter. We also made additional strategic buys of consumable raw materials in anticipation of future needs and price increases.

Accounts receivable at the end of the second quarter was $34.4 million compared to $26.3 million at the end of fiscal 2007. Days sales outstanding or DSOs was approximately 100 days at the end of the second quarter compared to 89 days at the end of the first quarter. Our receivables at June 30 were at a very high level. Obviously, it had to do with the timing of collection, but also the fact that many of our sales come toward the end of the quarter.

While I'm disappointed in the number at June 30, I'm happy to report our DSOs have trended down in July and were under 90 days as of July 31. As I look forward to the end of Q3, I expect our DSOs will continue to be under 90 days.

Total revenue increased by 12% to $62 million for the six month period ended June 30 compared to $55.6 million for the same period last year. Revenue from propriety products and services which excludes all distributed product related revenue increased by 14% in the six month period over the same period last year. Net income increased by 16% to $7.9 million for the six months of 2008 or $0.37 per share compared to $66.8 million or $0.32 per share for the same period last year. Excluding stock based compensation expenses, net income increased by 18% to $8.4 million or $0.39 per share for the six month period of 2008 compared to $7.1 million or $0.34 for the same period last year.

I'd like to summarize what I believe are the key financial highlights for the quarter. Strong growth in our high-end system sales and propriety consumables, driven by our new products and expanding base of installed system; weaker 3D printer system revenue driven by lower 3D printer unit volume; solid profit growth and, as Shane will outline, projected strong year over year profit growth in the second half of 2008.

Now, I'd like to turn it over to our Director of Investor Relations, Shane Glenn, to outline our financial guidance.

Thank you, Bob. Stratasys provides the following information regarding its financial guidance for the fiscal year ending December 31, 2008.

We adjusted revenue guidance to $125 million to $130 million from our previous guidance of $130 million to $136 million. We adjusted non-GAAP earnings guidance, which excludes stock based compensation acquired under SFAS123R to $0.79 to $0.84 from our previous guidance of $0.81 to $0.89 per share. And we adjusted our GAAP earnings guidance to $0.75 to $0.80 per share from the previous guidance of $0.77 to $0.85 per share. Stock based compensation expenses required under SFAS123R estimated at $0.04 to $0.05 per share for the year.

Our revenue adjustments reflect a reduction in 3D printer system revenue for fiscal 2008 compared to previous expectations. Net income per share adjustments reflect a lower revenue expectation, offset partially by a reduction in operating expenses compared to previous expectations. Our earnings growth projections remain very strong; based on the low end of our revised guidance, we are projecting approximately 20% growth in pre-tax profit for the second half of the year. This is an acceleration from the growth rate we experienced in the first half.

When conducting year over year comparative analysis, we would like to remind the callers of the approximately $0.04 per share in tax credits we recognized in the second half of fiscal 2007. Appropriate reconciliations between non-GAAP and GAAP financial measures are provided in a table at the end of our press release. We provide the non-GAAP financial estimates for those analysts and shareholders that want to use that information in evaluating our performance.

Now, I'd like to turn the call back over to Scott Crump.

Thank you, Shane. Our second quarter results reflect our ongoing success with our new high-end precision system, the FDM 200, 360, 400, and 900mc. Customers are evaluating these systems for their improved functionality in making parts for prototypes and concept models, but more importantly have succeeded in targeting new direct digital manufacturing applications with our high-end systems which is driving incremental system sales.

This success was highlighted by the large order we announced in July for five FDM 900mc systems. The 900mc, our largest additive fabrication system, is used expressly by customers for direct digital manufacturing. We estimate that approximately one-third of all the high-end system sold during the second quarter will be utilized for direct digital manufacturing in some frequency.

I hope you can appreciate, we remain excited about emerging application within that direct digital manufacturing. As the second quarter results show, we are generating significant incremental business from these new applications.

Our direction within the 3D printing business over the past two years has been a departure from our longer-term vision of driving adoption through greater affordability. Our recent strategy has included the introduction of higher priced 3D printers that provide customers with improved functionality.

This has produced some unanticipated results as our resellers have focused their efforts on these new systems, resulting in a disproportionately higher level of sales of our full featured 3D printers compared to the lower priced units.

While the strong sales of the higher priced 3D printers have positively impacted our average printer prices and margins, total 3D printer unit volume lagged our expectations during the second quarter. We believe this trend reflects the difficulty in selling a relatively new technology to customers that are contending with a weakening domestic manufacturing environment and are less inclined to make innovative investments. We believe the new initiatives planned for 3D printing over the coming quarters will contribute to improved performance for this business. We remain confident in our longer-term vision within 3D printing and believe a significant underpenetrated market remains ripe for expansion.

We continue to observe positive trends within our Paid Parts business as we've made organization changes and implemented improvements in our sales and marketing efforts. In addition to a 25% sequential increase in revenue over the first quarter, total registrations for our RedEye website increased by 43% and the number of new first time customer orders increased by 53% compared to last year.

We were pleased to announce the installation of our 10,000th system in June to Peugeot Citron which purchased a high precision FDM 400mc for the automaker's engineering facility. We've now sold more systems in the past three years than in the Company's prior 15 year history. This expanding base of systems is contributing to the growth of our propriety consumable, as well as maintenance revenue, which both increased by 17% during the second quarter versus last year.

I will return with some closing comments, but first, I'd like to address any questions that you might have. Operator, let's open up the call for questions.

(Operator Instructions) Our first question comes from the line of Troy Jensen with Piper Jaffray. Please, proceed.

Hey, guys. A couple quick questions here. Bob, I was hoping to focus on margins for a little bit. To start off, can you talk about service gross margins were up substantially in the quarter to 65% from 53% in the prior quarter? I'd just like an explanation, what drove that?

Yes. There's two factors within that, Troy. One, last year, contributed -- had service margin in there from maintenance on Objet systems which was really at no margin whatsoever for us. Secondarily, the other improvement we had, the number of visits that we're making on our own customers per site has been down. The quality of our products has been extremely strong and there's been less requirement to make visits out there under our maintenance contracts with them. So, those factors together are very positive for the quarter.

Indeed. Do you think 55% is a sustainable margin on your services business?

I don't -- I think this quarter was a little bit of an anomaly, but the trend is going to be positive for the remainder of the year, relative to what we've seen historically.

Alright. That's fine. And then if we switch to the product side here, last year product margins were 56.3% this year to 52.8%. You had great growth in high-end systems and consumables and Paid Parts and all of those are higher margin businesses. So, can you explain -- well, I guess Paid Parts is in services. But can you explain what's driving the gross profit margin declines on the product side, given the strength in the high-end sales?

Yes. We've talked about -- we have a big variation of our margins from product to product. Even within the high-end systems, there's a dramatic difference, whether you're buying what I would call an entry product, 360mc, versus buying the high-end, the 400mc. Also, we're still selling some of our legacy systems, Vantages, going through there. What we saw within the mix within the high-end systems is probably a mix that favored some of the lower margin products, even within the high-end systems. So, it's really a mix issue as it relates to Q2. I would suspect that as we go forward, we'd see improvement on that relative to the mix.

How about with the 900 and 400mcs? Are those at or above corporate average? Or are they -- just volumes are pretty low where they're below currently?

Yes. The 400 has a lot of different variations of the 400. It's very upgradable. There's different modules people can put on it. And from a manufacturing cost standpoint, it's not a dramatic change for us. So, even within the 400 itself, depending on which model they're buying, there can be a dramatic difference in the 400mc. On the very low end, it would probably be slightly below the corporate average. It could certainly be well above the corporate average, depending on that. We just saw a mix in the quarter on the high-end and that favored some of the lower margin products within that, which were what I would consider more introductory products for some of the people.

Alright. Last question and then I'll cede the floor. Bob, you'd mentioned, and I think Scott did too, about cost reduction initiatives and realignments in certain business segments. Could you expand a little bit on what you're doing too lower costs?

Obviously, we're looking at our discretionary spending as we move forward through the rest of the year. I made the comment specifically as it relates to research and development. In addition, we did a small staff reduction effective yesterday, internally here.

Alright, guys. I'll jump in the queue. But good luck going forward.

Thanks, Troy.

Thanks, Troy.

Our next question comes from the line of JeffRosenberg with William Blair. Please, proceed.

Good morning.

Hi, Jeff.

Bob, did you say what the percentage change was in units for 3D printers?

No. I said that the revenue for 3D printer systems was down 4% quarter over quarter.

Okay. You've given us the unit number before, right?

Yes. We said it was average higher priced units were down by 9%.

Okay. Thank you. And also a number that I think you gave last quarter was the percentage of premium units in the mix? It was pretty high already. I'm guess I'm wondering, did it go even higher? Into the 90s? Or how did that look?

I did mention that number. It was 72%. So, it was relatively similarly to what we've seen.

Okay. But you still feel like if you look at it sequentially or however the right way -- there was more weakness at the low end of 3D printers as opposed to incremental weakness kind of across the board, if you will, in demand for 3D printers?

Yes. I think we saw weakening in the domestic manufacturing environment and if I look at it relative to the marketplace, the weakness, I think our high-end systems were 72% of the mix in Q2 and I think last year they were also 72% of the mix. So, the mix is comparable to last year.

Okay. And then, I think recently -- I shouldn't say "recently", but a quarter ago, the feeling was that certainly your channel was aware of the economic weakness, concerned about it, but it wasn't affecting their business. Can you talk about when during the quarter you started to recognize that? Was it towards the very end of the quarter when you normally see a push? Or was it something that really -- you saw the weakness throughout the second quarter?

No. We, as I think we said before, that our quarters have a hockey stick within the quarter. There's a push in the month of June, usually. And we didn't really see part of the weakness until the actual orders placed and running through our customers, it was late in the quarter that we were seeing the weakness. And that's why we didn't say anything about the weakness when we were doing our first quarter conference call.

Okay. And I guess, from that perspective, I was curious about then the DSOs increasing? Because it did seem to suggest that you had at least your normal sort of quarter end push. Is that just because that came with the high-end systems was where the push was there?

A little bit. But it's, clearly, our DSOs was way too high as of June 30. And that's why I made the comments within the call to say that as we look at our receivables at July 31, our DSOs are under 90 days as of the end of July, yesterday.

Okay. And then the last question I had was just another follow-up on the expenses. Just in terms of -- so, given what you're saying, should we think in terms of on an absolute basis, operating expenses going down in -- maybe not the fourth quarter, because I know there's usually a seasonal ramp. But, as we think about the third quarter, do you see an absolute reduction in OpEx versus Q2?

I want to get away from -- we don't give quarterly guidance. Obviously, as I indicated, we made some staff reductions effective as of yesterday and implemented -- early on, we've implemented expense controls as soon as we saw the weakening happening. So, we're doing things to control and that's why I think our earnings guidance, relative to the decline in revenue that we put in our guidance would indicate we're going to control at the op expense level. But I don't want to comment on the individual quarters.

Okay. Fair enough. Thanks a lot.

Thanks, Jeff.

Our next question comes from the line of Graeme Rein with Bares Capital. Please, proceed.

Hi, Scott. Could you talk a little bit more about the 3D printers? What might've caused that slowdown? Are there competitive pressures? Or are there just people putting off buying decisions? Do you think it's a pricing issue? Can you just kind of talk a little bit more about how you're thinking about addressing that slow down?

We definitely saw a little bit of a softening of buying in the US primarily which in another way of saying we saw some orders that are firm orders, but necessarily by June 30. So, a little bit of pushing from Q2 into Q3. Beyond that, Bob, did you make any other observations?

As we've continued to talk within the channel, the channel still remains very optimistic. But what I've seen is a push off of some of the decisions from some of the customer base. Relative to compensation, we think we're continuing to have our market share. And not losing market share to anybody else from a competitive standpoint.

Okay. And what about the pricing strategy? Does it make sense to roll out a lower end unit at some point?

Essentially, we believe that our fundamental strategy is a good one. We do have, within that strategy, strong actions for this year as well as 2009 and on into 2010. So, I think the vision is solid and I think the strategy is solid and really, working more to work with the reseller locations and expanding the reseller locations globally.

Okay. I would imagine the higher-end, the 900mc, the units used from DDM would use more of the proprietary consumables. Do you have any data on what one of those units might consume in a year? I know in the past you've talked about $3,000 to $5,000 is a good barometer for each unit. Do you have any data on what a high-end system running sort of 24-7 would look like?

Yes. To repeat, $3,000 to $5,000 on the average for the Company per unit, per year out in the field. But products like the 400mc which not only operate a longer duration, usually going towards 20 hours a day, five or six days a week, those are running in that $20,000 per system, per year. The 900 is operating at a little bit higher rate than that. But I think if you use a number like $20,000 per machine, per year, you'd be close. Those machines are just now getting out in the field. So, that's the start of that ramp up.

Right. Okay. And then the last question. It looks like you have -- I think you had $26 million left on the buyback at the end of the first quarter. When do you kind of plan on getting more aggressive in that regard?

Obviously, we can't comment on when we'll be in the market and when we're not. So, I have to defer on that question.

Okay. Thanks for your time.

Thanks, Graeme.

Our next question comes from the line of Ryan Thibodeaux of Maple Leaf. Please, proceed.

Good morning. Bob, firstly, can you give us the cash flow from operations number for the quarter?

Cash flow from operations for the six months is, with the high investment in inventory, and the high receivable balance, was about negative $5 million.

That's for the six months?

Yes.

So, about $3 million for the quarter? Okay. And the clarification on -- I think the question was asked on Dimension units and revenue. Did you say that revenue was down 4% quarter over quarter? Or year over year?

Quarter over quarter per system revenue.

Okay. That's more like a 20% year over year number?

I don't have the year over year number in front of me.

Okay. And the units were down 9%. That's quarter over quarter also?

Yes.

This year versus last year.

Yes. Excuse me. Over last year. Over the second quarter 2007. year over year.

Okay. So 9% year over year and then the 4% revenue was quarter over quarter?

No. I'm sorry. That was year over year also. Shane clarified it for me. I misunderstood your question. Sorry.

So, both figures are year over year?

Yes.

Okay. Sorry. Just needed clarification. Were any of the five FDM 9000s, were those shipped in Q2? Or was that just the order placed in Q2? So, was that included in revenue is the question?

Some of those units did ship in Q2.

All five or just some?

No. There's ones remaining to ship in Q3.

We're essentially working off of a backlog. We're in commercial production currently and we're on schedule with that 900mc.

Were there any inventory write downs or adjustments in the quarter?

There's always a certain amount of inventory write down and adjustments but they were at fairly normal levels for us?

So, that didn't impact the gross margin on products at all?

No.

Okay. Do you -- seeing as how it looks like we're kind of seeing, as we talked about last quarter too, seeing some slowness in the sell through on the older Dimension units, do you guys have a strategy going forward? Are you going to get more aggressive on price? Or are you going to try to move those out a different channel? Or are you just going to kind of let them sit there and see how they sell through?

Well, as I said before, our short-term, mid-term, long-term fundamental strategy is a good one and it remains unchanged. We plan to continue our success with evolving down the price elasticity curve on the mid-term and long-term with our vision and it's really more about awareness than it is about pricing. We have products, as you know, that are priced down below $19,000. So, it's more about awareness and having enough reseller locations globally, and then making sure we're getting penetration with each location. So, that's really more of where our focus is on the short-term.

And, lastly, you made a comment about one of the reasons for the inventory build up is you're doing some increased buying for your consumables. I think you made a comment about cost there. Are you seeing increased raw materials costs for consumables? And to what degree is that impacting your purchases?

Consumables is an extremely margin piece of our business. We had an opportunity within the quarter that we -- where we saw what we considered good pricing. Our consumables have an extremely long shelf life to them. So, we took advantage of the opportunity. Nothing more than that. It's a safety precaution more than anything else.

Are prices going higher for you?

They're going slightly higher, but when you look at the relative margin that we get on the consumables, it's not a significant factor on the overall margin piece of our business.

Okay.

Thank, Ryan.

Alright. Thank you.

Our next question comes from the line of Eric Martinuzzi with Craig-Hallum. Please, proceed.

Yes. The question about the macro commentary that you gave, it seems like we're at odds with ourselves. The high-end being up 33% and then juxtaposing that with the weakening environment for manufacturing commentary that was explaining the 3D printer decline. Could you elaborate on that, please?

Yes. Eric, the economy's actually, the way we see it, is impacting our high-end system business, particularly for the RP applications and the prototype applications. We're seeing slower growth there, probably in the single digits at best there for RP applications. What's happening here is we're making up for -- on the high-end, we're making up for that with the new DDM applications and Rapid Manufacturing opportunities that we're seeing with these new products. So, we do understand it's kind of counterintuitive, but we're really beginning to see real, significant opportunities in this DDM area.

One of the things about the early adopters within the DDM, a lot of the people are people who are already aware of our technology. So, we don't have the awareness barrier whatsoever in selling some of the new, at least in the beginning, applications on the DDM. Longer-term, we're going to have to create more awareness. But the early adopters within that are people who are well aware of DDM and are much quicker to adopt.

Okay. And does the guidance assume these same issues that we saw in Q2 hold true? In other words, continued strong growth on the high-end through the end of the year, as well as, I guess I would say negative comps for 3D printers through the end of the year?

Yes. Our guidance infers in there that we're going to have continued strength in the high-end, relative to our previous expectations and that we're going to see a weakness in our 3D printing, relative to our previous expectations.

Okay. What -- I know you guys, you typically do a channel meeting or a reseller conference every year. I don't think you had one of those in 2008. Is there a plan to have one in 2009 and when would that be?

We did have an owner's meeting earlier in the year in '08 where we introduced the Dimension 1200es. Right now, there's nothing on the calendar for the next meeting, but we absolutely will have a meeting, most likely the first part of '09, similar to what we've done in the past, Eric.

Thank you.

Our next question comes from the line of Andy Schopick with Nutmeg Securities. Please, proceed.

Thanks. Bob, I want to ask you a couple of point questions that I normally ask and then come back to Scott. Can you give us international as a percent of revenue?

International was about 47% of revenue.

Are you seeing any material change in the overall business outlook between domestic and international in terms of what these growth curves look like here this year?

Yes. Our growth curve internationally, we saw, overall, on a propriety system basis, we saw about 17% growth internationally and about a 6% domestically.

year over year?

Yes.

And can I ask you the capitalized software again and the amortization in the quarter?

Yes. Capitalized software for the quarter was $520,000 and the software amortization for the quarter was $338,000.

Okay. Also, consumables. Have you folks ever given us the percentage of product revenue from consumables? You give us growth rates without kind of these base numbers. But I'd like to know whether or not consumables are over or under 20% of product sales at this time?

Andy, we don't -- we haven't broken that out.

Okay. Scott, let me come back to you on the kind of a more business, general business question. The primary verticals that the Company sells into are the automotive, aerospace, academic, education, and consumer. Could you kind of rank those in order of relative importance in terms of the contribution to the Company's overall business at this time?

Sure. There's eight verticals, including, to what you said, medical. I'd say the consumer or some would say it's consumer and business machines. And then probably next would be automotive globally, followed by probably aerospace, medical, education, especially this quarter. That's usually -- their buying budgets in the education, high schools, and in colleges. I'd say that's probably the ranking.

Okay. And the last question is, has the total R&D reimbursement associated with the development of the 900mc now been received and was there any reimbursement in the quarter, Bob?

Yes. That's all been received and there was no R&D offset in the second quarter.

None at all?

None.

Okay. Thank you.

Thanks, Andy.

Our next question comes from the line of Clint Morrison with Feltl and Company. Please, proceed.

Hey, Bob. Just following up on that last one. Roughly what was the R&D reimbursement that came in the last couple quarters? Trying to get a handle on how much this jump was, that reimbursement going away.

I don't have the first quarter number in front of me. In 2007, though, the reimbursement was $194,000. So, if you're looking at year over year, that gives you the comparison I think you need.

$197,000 in Q2?

Q2 2007, $194,000.

$194,000. Okay. And there was some sort of a trade in credit that you guys had announced in this last quarter. Can you give us a sense as to how many people took advantage of that?

Yes. We did trade in. Some customers took it, but it was -- less than 4% of the unit volume, was on a trade in basis. So, it's more of, out there, we used it to knock on additional doors, but it's not a significant portion of our overall unit volume.

Okay. And you mentioned upgrade kits. I think it was 260 or something. How much do those sell for and what kind of margins do those support?

Yes. What the upgrade kit is it's for people who had bought a Dimension 1200 SST prior to the introduction of the es, the extra strength version. At a retail level, the end customer was buying those for $5,000 which included the kit and approximately ten spools of the consumables. So, obviously, we share that revenue with the resellers because the resellers are doing the upgrades out in the field themselves.

Ultimately, we think that this will give us increased usage with this improved performance on the machine and hope that it will generate repeat business and positive referrals. That was the basis for putting those out there.

So, do sales like that positively impact margins. Or negatively?

It's neutral to slightly negative.

Okay. And then, finally, kind of on a competitive standpoint, low-end system weakness. Did you see any competition? Or do you think the V-Flash availability is any impact on you at all, Scott?

In Q2, the V-Flash was essentially invisible. We do believe that they're still working on that product, to make it a product; however, we're viewing it as a competitor. We're viewing it as a serious product. But we believe it had no influence on us.

We believe we're maintaining our market share out there.

Okay. Very good. That takes care of me. Thanks.

Thanks, Clint.

Our next question comes from the line of Steve Denault with Northland Securities. Please, proceed.

Good morning, everyone. Just a follow-up to the question that was asked about the end markets, the verticals served. You ranked them in terms of importance. Can you rank them in terms of growth trajectory or slow down?

No. Every quarter for the history of the Company, it has a fairly high variation. I think we typically, from a strategic standpoint, look at it on a year to year basis to get some real meaning out of it. And then, in that respect, as we said in the last two quarters, in the conference call, the last two quarters, that the education sector has probably given us the highest growth or percentage growth area. It really does vary quite a lot. In the automotive area, for instance, we're seeing that shift over a four year, maybe five year period for less sales in the Detroit area, then a disproportionately higher amount of sales in places like Germany and as far away as Shanghai, China.

Okay. Thanks.

Our next question comes from the line of Amit Dabas with Capital Investment. Please, proceed.

Good morning, guys. Good morning, guys.

Good morning.

Most of my questions have been answered. Bob, you may have mentioned this in your opening comments. But can you give us an update on the ORCs?

Sure. We ended 12-30-07, was about $17 million in ORCs. We ended the first quarter with a little under $7 million in ORCs. And we ended Q2 with under $5 million in ORCs. We have two option rate certificates left. One is Lorain County, Ohio which is double-A rated. The other one, or what I would call our problem child is Jefferson County, Alabama, which has got a triple-C rating as it did at the end of Q1. Just to remind people, we took a $390,000 charge in Q1 related to that, as well as a valuation reserve through the equity section of approximately $190,000. We've continued to monitor that. There's a lot of information that's flowing back and forth. But nothing definitive at this point in time. So, we made no change in our valuation on it this quarter. The positive news within the quarter is that we have reduced our exposure by -- off on some of our other ORCs at $0.100 on the $1.00.

Okay. Great. Thanks. That's all I've got.

Thanks, Amit.

Our next question comes from the line of [Corey Johnson] with [Kingsford]. Please, proceed.

Hi, guys. Thanks for taking my question. Regarding the incentives you had in the trading incentives, when does that program end and what are your intentions going forward regarding incentives?

Price trade ins we view as more of a tactical measure and we've been doing those type of tactics off and on for 12 years in the Company. So, I think it's really more of a quarter to quarter tactical as opposed to some long-term strategy.

I think you need to look at it, as I said, it was less than 4% of our volume in the quarter was on 3D printers was related to discounts.

So, back to my question, did that program end at the end of the quarter? Or did it continue?

We continue to look at our marketing strategies as it relates to the success of that program and they're still evaluating it.

So, that means it still going on?

It is as of today.

Okay. That's great. Thank you.

There are no further questions. I would now like to turn the call over to Scott Crump for closing remarks.

Okay. We're pleased with our second quarter results. But we've adjusted our projections for the balance of 2008 based on the recent short-term trends. We continue to project strong profit growth for the balance of the year. We have a great team, very good products, and a growing market. We're observing strong growth for high-end system sales as consumers -- as our customers embrace new DDM applications and we remain excited about our numerous opportunities globally for our Paid Parts business. Most importantly, we remain excited about our plan initiatives within 3D printing. Our 3D printing vision remains intact. I'd like to thank you for your interesting in Stratasys and we look forward to speaking with you again in November.

Thank you for your participation in today's conference. This concludes the presentation. Everyone, have a great day.