Cognex Corporation

Greetings and welcome to the Cognex third quarter 2019 earnings conference call. At this time, all participants are in a listen-only mode. A brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce Susan Conway, Senior Director of Investor Relations. Thank you. Please begin.

Thank you and good evening, everyone. With us today are Cogmex's President and CEO, Rob Willis, Vice President and Corporate Controller, Laura MacDonald, and Cogmex's Treasurer, Chris Stagna. I'd like to point out that our earnings release and quarterly report on Form 10-Q are available on our Investor Relations website at investor.cogmex.com. Both contain highly detailed information about our financial results. During the call, we may use a non-GAAP financial measure if we believe it is useful to investors or if we believe it will help investors better understand our results or business trends. You can see a reconciliation of certain items from GAAP to non-GAAP in Exhibit 2 of the earnings release. Any forward-looking statements we made in the earnings release or any that we may make during this call are based upon information that we believe to be true as of today. Things often change, however, and actual results may differ materially from those projected or anticipated. You should refer to our SEC filings, including our most recent form, 10-K, for a detailed list of these risk factors. With that, now I'd like to turn the call over to CEO Rob Willett.

Hello, everyone. Thanks for joining us today. I know most of you are used to hearing Cosmex's chairman, Dr. Bob Shillman, welcome participants to our earnings call. Dr. Bob is unable to join us this evening due to a prior commitment. He sends his regards and he looks forward to talking with you on our next call. Cosmex delivered Q3 results in line with our expectations, with revenue at the top end of our July guidance. That said, our revenue was down both year-on-year and sequentially as a result of the ongoing slowdown in manufacturing investment. The decline can be almost entirely attributed to consumer electronics, which decreased by approximately $50 million, roughly 50%, from Q3 of 2018. The automotive and the broader industrial sectors also continued to weaken Thank you for joining us. to compete more effectively with their e-commerce competitors. They are changing their supply chain and they are looking to Cognex's industry-leading products to help them implement an automation strategy to fulfill orders rapidly, reliably, and cost-effectively. Near-term market conditions notwithstanding, the long-term potential for machine vision and for Cognex is unchanged. Our long-term operating model remains intact and with a target of 20% compound annual growth, mid-70s gross margin, and 30% operating margin. Now, I'd like to say a few words about our recent acquisition of SewaLab, an outstanding technology company specializing in deep learning software to automate inspection tasks that are currently done by human visual inspectors. SewaLab is the type of acquisition that we like to do, It has an excellent engineering team. I'll expand on this in a few moments. And also is a great cultural fit. We believe that deep learning technology will be a major growth driver for Cognex in the years ahead. For the first time, machine vision is reaching a level of performance that allows it to replace tens of thousands of humans globally whose work it is to perform highly repetitive visual inspection tasks to identify cosmetic flaws and defects on products during their manufacture. The market we serve today for machine vision using deep learning in factory automation is estimated at $100 million of annual revenue and is growing rapidly, we believe by 75% per year. The largest and fastest growing segment of that market is the replacement of human inspectors in Asia, particularly for electronic components and Finish Products, where Sewolab is well positioned. The acquisition of Sewolab not only extends our deep learning capabilities for inspection application, it more than triples the size of the Cognex team dedicated to developing and applying deep learning technology to industrial inspection tasks. Upon closing, we welcomed approximately 100 smart, ambitious and energetic new employees who share our passion for machine vision the majority of whom are in engineering departments and are highly skilled in both contemporary programming techniques and applying deep learning to inspection tasks in the manufacturing process. Led by co-founder Song Ka-young, the Sewolab engineering team will continue to operate from its headquarters in downtown Seoul. They will work closely with our team based in Cambridge, Massachusetts, which is led by Reto Weiss, are co-founder of BIDI Systems, which we acquired in 2017. The BIDI acquisition established our deep learning development efforts and is the reason for our success in this area to date. Here are a few more details on the acquisition that I'd like to share with you. The purchase price was $195 million. We paid $171 million in cash at closing. Payment of the remaining $24 million is deferred until a later date. Although Sewolab's revenue is modest, the price is justified by the high value of the company's substantial engineering team, its core technology developed over the last six years, and its experience applying that technology at very large companies in Asia. We expect technology acquisitions to be accretive within two years, and it looks like Sewolab will fit within that model. Moving on to the next topic, We have published an updated view of our served market. You can find it on our investor relations website at investor.cognex.com. Our new estimate of Cognex's total served market for machine vision is $4.2 billion. This is a narrow definition of what we can serve with our current product offering. This estimate is 20% higher than our previous estimate. as a result of both growth in the underlying market and new opportunities that are now addressable with Cognex products. Despite near-term challenging market conditions, we believe our served market will grow in the low teens over the long term, and we expect to continue to outperform market growth as a result of our superior technology and the strength of our customer relationships. Now I will turn the call over to Laura for financial details from the third quarter. Laura, the microphone is yours.