Proto Labs Inc. Q1 2023 Earnings Call
Greetings and welcome to the Proto Labs Q1, 2023 earnings call at this time, all participants are in a listen only mode.
A question and answer session will follow the formal presentation.
Anyone should require operator assistance during the conference. Please press star zero on your telephone keypad. Please note. This conference is being recorded I will now turn the conference over to Jason Frank Mitsch, Vice President Corporate controller, you may begin.
Thank you Mollie and welcome everyone to Proto Labs first quarter 2023 earnings conference call.
Joining today by Rob and door, Proto Labs, President and Chief Executive Officer, and Dan Schumacher Chief Financial Officer.
This morning, Proto labs issued a press release announcing its financial results for the first quarter ended March 31, 2023. The release is available on the company's website.
In addition, a prepared slide presentation is available online at the web address provided in our press release. Our discussion today will include statements relating to future performance and expectations that are or may be considered forward looking statements and are subject to many risks and uncertainties that could cause actual results to differ materially.
From expectations. Please refer to our earnings press release, and recent SEC filings, including our annual report on Form 10-K for information on certain risks that could cause actual outcomes to differ materially and adversely from any forward looking statements made today.
The results and guidance, we will discuss include non-GAAP financial measures consistent with our past practice. Please refer to our press release and the accompanying slide presentation at the Investor Relations section of our company website for a complete reconciliation of GAAP to non-GAAP results now I will turn the call over to Robert.
Bob.
Thanks, Jason Good morning, everyone and thank you for joining our first quarter earnings call.
I am pleased to share that this morning, we reported first quarter revenue and earnings above our guidance ranges.
Amidst uncertain macroeconomic conditions, we performed above expectations. During the first quarter. We also continued to accelerate our innovation pipeline with multiple new launches to expand our customer offerings capture additional share of wallet and gain new customers.
I am pleased with how our employees execute on our goals in the first few months of the year.
On the topline we outperformed our expectations in two main areas.
<unk> started the year in our European operations.
Strength in demand through our hubs digital manufacturing partner network.
Strong first quarter performance in Europe was driven by greater than anticipated demand in January and February driven in part by large orders from key customers.
Revenue through our digital manufacturing network grew very nicely in the first quarter at over 7% growth in constant currencies.
We continue to realize value from our unique offering that combines the digital factory and additional network.
We are proving out our strategy at getting significant traction with customers.
And we are only scratching the surface of the demand of our combined offering.
As more and more customers become aware of our network capabilities, we're seeing strong growth in the number of customers utilizing factory network services.
The strong network growth is also a testament to the power of our customer facing go to market teams now that they have to combine wider envelope of services to sell.
As customers are looking to purchase high quality custom manufactured parts from one single source Becker.
Several of our recently launched expanded offerings continue to resonate in the market, including longer lead times, and CNC machining and three D printing as well as our network offer with its increased breadth and wider range of prices and lead time options.
And the current economic cycle longer lead time, lower priced offers are more attractive to a certain subset of our customer base and growth in these areas as an even stronger than we expected.
Now for a brief update on our key priorities for 2023.
First drive revenue growth to four primary focus areas.
Increase shareholder value through expanding profitability in the factory network.
On revenue growth on a ladder has narrowed its focus.
And investments to drive growth to prior year injection molding and our new integrated comprehensive CMC off.
Injection molding is a good start to the year with growth year over year in constant currencies, and excluding Japan and double digit sequential growth for the fourth quarter.
Strength in injection molding was largely driven by follow on parts. We will continue to rollout the go to market strategies and other offer improvements to drive growth.
As it relates to the combined offer I'm very encouraged by the early performance in injection molding orders fulfilled through the combination of our internal factories and manufacturing partners. We are winning more orders due to the breadth of our combined injection molding often.
For example.
Philips domestic appliances division has a lineup of Proto labs for high quality injection molded parts for over a decade.
A recent project required both quick turn molding prototype parts and more complex high requirement parts.
Our internal factory delivers molded parts faster than anyone in the market and we now offer additional complexity to the digital network.
Prior to the Proto labs in pubs combined offer Phillips would have gone elsewhere for these parts.
Due to our combination of speed and complexity of almost limitless capacity, we can deliver for Philips and many other customers in similar situations.
This is the value of the combined offer.
As for the accelerated innovation pipeline within injection molding, we recently launched an industry, leading seven days standard lead time for molds cutting our lead times in half, we continue to improve our digital quality offering and injection molding, which will enable additional growth in our production follow on parts service.
In addition, our factory teams continuing to improve efficiency in our manufacturing operations through innovations like automated more Polish.
Our next priority growth area CNC machining is also performing very well with strong growth in the first quarter driven by cross selling between the digital factory and additional network.
I have discussed in the past extended lead times and pricing options and CMC through both the factory network will allow us to drive growth and challenging macroeconomic conditions customer.
Customer preferences shift with macro cycles.
And our unmatched breadth enables proto labs to be single source supplier for all custom CNC machine parts.
The next priority for 2023 is to increase shareholder value to expanding profitability and factory and the network.
We surpassed our expectations for revenue and earnings in the first quarter. However, our mix of business is different than anticipated macro conditions cost are longer lead times lower priced offerings to grow faster than expected early in the year and demand for our quick turn business was lower than expected impacting profitability.
Improving our profitability is dependent on increased volume and a higher mix of higher priced quick term business, which has proven difficult.
Sure.
As a result, we expect continued pressure on operating margin improvement throughout 2023, and we will remain vigilant on operating efficiencies.
We are taking direct actions to reduce costs in areas with lower demand, while continuing to invest in high growth areas due.
Due to the continued demand softness in our sheet metal service, we furloughed, 25% of our sheet metal workforce in the second quarter.
We have made thoughtful reductions in other areas of the business as well.
To align with sales volumes, we continue to evaluate the business and re prioritize investments in our focus areas to support growth.
During the first quarter, we increased our share repurchase program.
Deploying $21 million through our share repurchase program.
Going forward, we will continue to be opportunistic and a repurchase rate will be dependent on market price and other market conditions.
Our ability to perform well and chief financial expectations. In this challenging climate is due to the efforts and commitment of our talented employees, who have enabled us to accelerate our innovation and adapt our business to meet customers' needs.
Attracting and retaining talented employees has allowed us to maintain our competitive advantage and grow profitably.
In early 2023, continuing to invest in leadership development initiatives and redesigned our incentive compensation programs.
All programs have both revenue and earnings targets and employees are now more directly incentive based on the performance of their specific business units.
We will continue to invest in our employees throughout 2023.
Want to thank every member of the Proto labs helps teams for their efforts.
As we look ahead to the second quarter and the rest of 2023.
Macroeconomic uncertainty remains.
In March the <unk>.
S M U S manufacturing purchasing managers index declined to its lowest level since may 2020.
And as registered six straight months below 50, indicating contraction.
Consistent with macro data and with several of industrial companies have reported after a very strong start to 2023 quarter rates and papers slightly and we ended the quarter on a slightly softer note. However, as I stated earlier, the global nature of our business and breadth of our offer enables us to capture additional share of wallet and new customers.
Even through macroeconomic volatility.
In the near term is macroeconomic weakness weighed on manufacturing, we expect our lower price longer lead time offers to continue growing faster.
Then our expedited quick turn business.
This mix shift will continue to influence margins throughout the second quarter and beyond we will monitor order rates closely and continue to adjust variable expenses accordingly.
We have reflected this mix shift impact on our earnings guidance for the second quarter.
I am pleased with our results in the first quarter and I'm confident that we will deliver great value for our customers and our shareholders over the long term.
Our longer lead time, lower priced offerings are growing very rapidly.
Is that part of the market performed well during this macro cycle and we are still the industry leader in expedited quick turn digital manufacturing.
We are well positioned to weather economic volatility to our business model is best in class profitability and strong cash flow generation.
This also enables us to continue to invest in innovation and expand our customer offer and capture additional customer share of wallet.
Through any economic conditions, we are a great long term strategic partner for our customers.
With that Dan will now cover our first quarter financials and depth and provide our outlook for the second quarter of 2023.
Yeah.
Thanks, Rob and good morning, everyone.
Our financial results begin on page seven of the slide presentation.
First quarter revenue of $125 9 million was above our guidance range and represents a six 9% increase year over year in constant currencies and excluding Japan.
Sequentially revenue grew eight 9%.
<unk> had a record quarter generating $17 2 million of revenue.
Representing year over year growth of 67, 3% or 77% constant currencies.
The hubs network offer continues to resonate with customers in the current macroeconomic backdrop.
Changes in foreign currencies continued to negatively impact global revenue growth and represents a $2 $5 million unfavorable impact to revenue in the first quarter.
First quarter revenue by region as summarized on slide 10.
In the Americas, our largest region first quarter revenue increased two 4% year over year in.
In Europe first quarter revenue grew 24, 4% year over year in constant currencies, driven by a very strong start to 2023 and several larger orders from key customers.
Transitioning to revenue by service.
First quarter injection molding revenue.
Grew approximately 3% year over year in constant currencies and excluding Japan.
As we have discussed at length, one of our top priorities in 2023 is to grow injection molding revenue.
CNC machining revenue grew 11% year over year in constant currencies and excluding Japan.
This growth was driven through cross sell initiatives driving demand for the network and our longer lead time options in the factory as customer shift to longer lead time lower cost options.
First quarter, a three D printing revenue also grew 11% year over year in constant currencies.
Within our three D printing service, we saw growth in all geographies and through the network with the strongest growth in Europe on the strength of some larger orders.
<unk> metal revenue declined sheet metal revenue declined 9% year over year in constant currencies in the quarter our sheet metal service is more exposed to the computer and electronics industry vertical and has been negatively impacted by slowing demand in the current environment.
We serve 23287 unique product developers in the first quarter, excluding Japan unique product developers served increased three 3%.
Turning to slide 14, and our detailed income statement.
Overall first quarter non-GAAP gross margin increased 60 basis points sequentially to 43, 4%.
Our manufacturing network gross margin in the first quarter was 22, 2% compared to 25, 4% in the fourth quarter of 2022.
The lower network gross margin was driven by shifting fulfillment to other regions and manufacturing partners due to Chinese new year factory closures, we expect.
<unk> second quarter network gross margin to be in our targeted range of 25% to 30%.
Factory gross margins expanded 140 basis points sequentially. The overall sequential gross margin increase was driven by higher volume, especially in injection molding, partially offset by lower sheet metal demand.
Total non-GAAP operating expenses were $45 5 million in the quarter or 36, 2% of revenue compared to $42 3 million or 36, 6% of revenue in the fourth quarter of 2022.
Sequential operating expense growth was slightly lower than revenue growth as marketing commissions and incentive compensation increased with higher revenue amounts.
Moving to taxes, our non-GAAP effective tax rate in the first quarter was more normalized at 23, 2% compared to one 6% in the fourth quarter of 2022.
As a reminder, the lower fourth quarter tax rate was driven by the release of an accrual of an uncertain tax position that was resolved.
The increase to a more normalized rate drove a <unk> <unk> decline in our non-GAAP earnings per share sequentially.
First quarter non-GAAP diluted net income per share was <unk> 30, compared to <unk> 26 in the fourth quarter of 'twenty two.
The sequential earnings per share improvement was driven primarily by higher volume and other income.
These benefits were partially offset offset by mix shift as lower margin network revenue continues to outgrow internal factory revenue as.
As well as a higher effective tax rate.
Turning to cash flow and balance sheet.
Highlights on slide 15.
We generated $22 6 million in cash from operations in the first quarter up from $10 5 billion in the fourth quarter of 2022.
Even in a tough macro environment, our business exhibits very strong cash flow generation, enabling us to weather periods of uncertainty, while continuing to invest and offer improvements to drive future growth.
We repurchased $21 1 million worth of common shares during the first quarter a significant increase over the fourth quarter of 2022 as Rob mentioned, we will continue to purchase opportunistically going forward.
We still have a very strong balance sheet on March 31, 2023, we had $104 7 million of cash and investments on our balance sheet and zero debt.
Now I will provide.
Our outlook for the second quarter of 2023 as outlined on slide 17.
We expect to generate revenue between 119 and $127 million in the second quarter at.
At the midpoint this implies flat revenue year over year in constant currencies, excluding Japan.
This revenue range incorporates April performance in typical seasonality patterns, which have been somewhat more difficult to forecast given the dynamic macro environment.
The closure of our Japan operations is expected to have a $2 9 million negative year over year impact on revenue growth.
We expect foreign currency to have approximately $8 5 million unfavorable impact on revenue compared to the second quarter of 2022.
Moving to earnings guidance.
We anticipate non-GAAP add backs in the second quarter to include stock based compensation expense of approximately $4 7 million in amortization expense of $1 5 million.
We currently estimate our second quarter non-GAAP effective tax rate will be 23% in the second quarter, plus or minus 50 basis points.
Based on early second quarter order trends and continued macro weakness, we anticipate a continued mix shift towards longer lead time, lower priced offers which will continue to put pressure on margins and earnings as Rob described we are proactively reducing cost in the area of the business that are seeing softer demand without sacrifice.
Our best in class speed reliability and quality in our factories.
Our profitable business model and strong cash flow generation will enable us to take a measured approach to expense reductions, while continuing to invest in the future through research and development to build out the most comprehensive digital manufacturing custom parts offer in the market.
Considering this we expect second quarter non-GAAP EPS between 26 and.
<unk> 34.
Now back to Rob for closing comments.
Thanks, Dan.
We are pleased with our strong start to 2020.
Surpassed expectations as revenue and earnings in the first quarter and successfully grew our key focus areas of injection molding, our comprehensive CNC offer.
Proto labs is the most profitable digital manufacturing company and will generate the most cash in our industry, enabling us to withstand challenging macroeconomic environments, while investing for the future are best in class unique combined offer is gaining significant traction in the market. We will continue to make progress on our focus to 2023.
Which will enable long term profitable growth and shareholder value creation.
That concludes our prepared remarks.
Happy to take your questions.
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Yes.
Our first question comes from the line of Troy Jensen with Lake Street Capital markets. Please proceed with your question.
Hey, gentlemen, first off congrats on the nice results here.
Thanks sure. Thanks, Joe Good morning.
Good morning, Yeah, maybe Ashford.
Daniel here, either one of you guys can answer but I.
I guess your comments about <unk>.
That's quick turn business and more extended lead times in place down ticking gross margins. Thank you.
Curious if you could give us some color on that and then.
Coupled with that to get to the midpoint of your guidance does it imply opex cuts on a sequential basis.
Yes.
From a gross margin perspective, we do expect the gross margin percent too.
Improve quarter over quarter.
<unk> 50 to 100 basis points the basis behind that is one we do expect better network margins.
For over quarter like I said, we have a seasonal challenge.
Chinese new year that impacts gross margins in the first quarter.
Second as Rob mentioned, we are making reductions.
And cost cuts in certain areas in the factory to improve the gross margin there as well.
Alright perfect.
Could you share with us with the margins that are in the network business.
Yes, I said it in the script so there.
22, 2% in the quarter and then.
I would expect that we're going to get back into the range of 25% to 30, which is our long term range in the second quarter.
Okay, perfect and then.
Last one for Rob.
What verticals in Europe , do you think withdrawn.
If I might've been automotive, but that's okay.
Yes, we saw.
We saw strength in automotive and particularly in EV within that and.
Also in industrial.
Alright, guys keep up the good work.
Thank you thanks, Brian .
Our next question comes from the line of Jim Ricchiuti with Needham. Please proceed with your question.
Alright, thanks, good morning.
Just looking at the growth rates in the <unk>.
Two major regions, and you're clearly showing stronger growth in Europe .
Versus the Americas, and it may very well be a function of the size of the business in these regions, but I wonder if you could just shed a little bit more color as to why youre, showing the kind of growth in Europe and the.
The slower growth in the Americas is it a function of greater mix of quick turn business in the Americas being impacted.
Markets.
I'll turn that over to you.
Yes, so on the Europe side, our factory business has had a tremendous first quarter really.
Do some very large orders, we talked a little bit.
I've talked a little bit about that in my commentary.
So that helped.
The U S side of the business.
That business.
In the quarter because of the quick turn business in the sheet metal business didn't grow in the quarter.
And as you look at.
Areas of the business in the Americas as you went through the quarter.
You did see.
Changes in demand.
Which which end markets was that more pronounced in.
Which end markets were strongest in.
Just curious.
Yes.
End markets in the Americas, where were you seeing.
Yes.
Trends in the business.
So aerospace was strong for us automotive was strong for us.
We saw some weakness in computer electronics, particularly in the sheet metal business.
And.
Finally, I wonder if you'd talk a little bit about the competitive landscape.
In the Americas, what Youre seeing there in general pricing trends.
Sure so.
If you think about our business.
Yeah, and the digital factory.
We still feel that we're very differentiated there on the digital factory side.
We're not running into a lot of direct competitors with our quick lead time in that part of the space.
In the longer lead time part of the space.
That is a more competitive space.
Though as you can see the network business grew exceptionally well in the quarter at 70% and.
We were we did not take.
Transactional pricing.
And so.
We were able to execute on our our normal pricing strategies.
During the quarter.
Got it thanks very much.
Thank you.
Our next question comes from the line of Brian Drab with William Blair. Please proceed with your question.
Hi, Thanks for taking my questions.
Firstly, just curious if there is an updated thought.
Given the macro I mean, there's clearly increased macro uncertainty in the industrial world since the last call but.
Is it still the expectation that the injection molding business can grow.
Year over year in 2023 versus 2022 for the whole year.
Yes, so we are still driving the business to grow injection molding.
I am.
I think we had we.
We had a nice result in the quarter and injection molding on I am pleased with that result, but I'm not satisfied.
We'll continue.
To drive the business to grow the injection, Brian Let's say, we don't have any better visibility right into our quick turn nature of the business.
So.
Could could we in the second half of the year be more impacted in that business by macro trends sure both positively and negatively.
So.
We're happy with the results that we had in Q1.
At this point I'm, not making a declaration or guiding anything about any individual service in terms of the full year.
Okay, Okay and then.
I guess I gather that the heart business did really well.
In the quarter in part because there were some large orders is is that correct and then what did you see in terms of.
That type of activity as we ended March and into April I guess.
Yes. So yes, you are correct right the strength in injection molding.
In the quarter really was on the parts side.
And we saw that.
More of that momentum earlier in the quarter than later in the quarter.
So yes.
Yes.
But that comes from we've got this large installed base right.
I am customers and I think coming off of.
What was a very strange year last year from a supply chain perspective.
We're seeing them come back and order parts.
And I would say that this is both true in the individual factory side of the business, but also we're seeing more and more demand.
From customers.
To use the network side of the business.
The example, I shared on the call with regarding Philips.
Yep Yep.
And then last question is just regarding the network side of the business and the legacy business and the integration.
And the user interface and Proto labs to point out can you just kind of step back and remind us like where we are in terms of.
The.
Integration timing is it going to be completed and I still I don't know maybe it's just me.
When I go to use the website I still go to Proto labs, but then Hudson.
That I have to go to even get to the other to get to.
The hub site for people.
Finding hubs.
Proto labs and independently still largely I'm, just curious how all of that kind of coming together and working again.
In the future.
Yeah, absolutely so.
We are.
As we stated before we started with CNC and <unk> printing will be will be coming shortly to.
To the website.
Within CMC you can now access the full hubs capabilities right. Just as you said from Proto labs Dot com, we do still have the hubs website.
At this time.
But we're seeing really good flow.
Customers, two hubs and to the to the network capabilities through hubs.
Our cross selling teams are I think doing a great job. Our go to market teams are doing a really nice job of driving revenue growth as you can see from the 70% growth in our in our network business. So I think the integration is progressing well and most importantly, we're exposing the broad capabilities of our combined offer to our <unk>.
Customers and it's resonating stuff.
Okay. Thanks, very much for taking my questions.
Thank you.
Our next question comes from the line of Greg Palm with Craig Hallum. Please proceed with your question.
Yeah. Good morning, Thanks for taking the questions here following up on on the injection molding commentary I'm. Just curious does does the ability to grow this year does it hinge on maybe the molding business.
It accelerated I understand that the parts business was with strong, but do you need to get some more molded business and grow those.
Parts later, this year to get to growth or what's sort of the assumptions behind on the girls. If you kind of achieve that in 2023.
Yes, we are working to drive increased.
Increased molding business, absolutely as well as the parts businesses as Dan said, we've got a great.
Broad customer base.
We're continuing to do production with us and.
And order more from us and we are continuing to drive more and more and more growth.
That's our objective in the business.
As I mentioned as well we're seeing.
More opportunities for cross selling and customers being interested in working with US end to end as we have.
As we have the network capabilities to expand our offering to them on the molding side. So we're continuing to drive that.
Okay.
And then shifting over to gross margin for all of us.
It's just a little bit unclear. So it was down I think a couple of hundred basis points.
You ran into the same presumably headwinds last year.
No you're in.
Lot higher revenue. This year, so was there something else structure or onetime in the quarter that impacted it at least on a year over year basis.
Yes, what we ended up doing is as we're walking from the fourth quarter into the first quarter.
We know amongst our manufacturing partners theres going to be.
A bit of a tightening within the supply chain.
With Chinese new year and so.
We actually price a little bit higher as we go into that.
Last year, we were a little more aggressive on that pricing, which meant a higher gross margin than we were this year.
What we are.
What we learned from last year, where.
We constantly learn each year as we are optimizing the price is we felt like there were some opportunities we may not have one.
By increasing the price as much and so this quarter, we werent as aggressive.
With that pricing change.
For the Chinese new year at a time so are our margin was not as high but our growth rate was higher at 70%.
Okay you bet.
Yes.
Yes, and we expect to be back in the range for next quarter of 25 to 30.
Okay.
And then just last one.
On the gross margin for.
Sort of the core.
You had mentioned you know increased quarter over quarter due to some some furloughs I think you mentioned furloughs and sheet metal, but were you alluding to something else across other parts of the business or not.
We're we're also managing our costs in our factories.
Slower demand as well, which includes reducing temps.
Reducing over time.
It's making measured reductions in those areas so that.
We're aligning the cost and the volume without sacrificing the ability to turn a partner's quicker today.
Yeah, Okay understood alright. Thanks.
Thanks, Greg.
Our next question comes from the line of Ben Rose with.
Paddy Road research. Please proceed with your question.
Thank you for taking.
Taking my question.
<unk> for Rob, which is with regard to your larger accounts strategic.
Strategic accounts that are using.
Proto labs, right, primarily from a factory standpoint.
In your core business is curious to get your thoughts on.
What progress you're making.
To reach out within those accounts beyond product designers to.
The procurement officers.
In those accounts that might have higher volume orders.
Okay.
And whether that's driving whether that is a factor in driving business to the hubs network at this point.
Yeah. Thank you for the question I, absolutely think it is Andy.
And you can see that by some of the larger orders that we've we've mentioned and.
The success that we're starting to have.
With with the cross selling and.
And driving business to the network and combined.
Factory and network capabilities so.
We are fortunate to serve tens of thousands of customers.
And.
Certainly across those its both.
Engineers and product designers as well as procurement professionals.
And you can see that we've got strong growth in our production parts business, which is in part attributed to that.
Okay.
Okay. Thank you very much.
Thanks, Matt.
And we have reached the end of the question and answer session. This concludes today's conference and you may disconnect. Your lines at this time.
Thank you for your participation.
Okay.
Okay.
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