Proto Labs, Inc.

Greetings and welcome to the ProtoLabs Q2 Fiscal Year 2023 Earnings Call. At this time, all participants are in 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 your host, Mr. Jason Frankman, VP and Corporate Controller. Thank you, Mr. Frankman. You may begin.

Thank you, Camilla, and welcome, everyone, to Proto Lab's second quarter 2023 earnings conference call. I'm joined today by Rob Bedore, Proto Lab's President and Chief Executive Officer, and Dan Schumacher, Chief Financial Officer. This morning, Proto Lab issued a press release announcing its financial results for the second quarter ended June 30, 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 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 Rob Bedore. Rob?

Thanks, Jason. Good morning, everyone, and thank you for joining our second quarter earnings call. This morning, we reported revenue and earnings within our guidance ranges. While economic conditions are challenging, amplified by the continued contraction of global manufacturing, our uniquely broad customer offering, fulfilled through the combination of our internal digital factories and network manufacturing partners, allow us to offer customers a differentiated value proposition and serve their various needs despite the economic pressures our customers are facing. Our lower-priced, longer lead time offers through the factory and network see particularly high demand in the current softer economic conditions. Our quick-turn offers tend to be in highest demand in strong growth economies alongside continued demand for longer lead time offers to meet our customers' production needs. As we discussed in the prior quarter, we are operating in a challenging and uncertain manufacturing environment, with both U.S. and Eurozone manufacturing indices reporting three-year lows in June. Similar to what we saw in the first quarter, driven by the macroclimate, demand for longer lead time, lower-priced offerings has continued to outpace demand for our quick-turn offerings. Notably, our network revenue grew 80% year-over-year in the quarter. The network offer has significantly expanded our addressable market with a wider envelope of manufacturing capabilities and a broad range of lead time and pricing options. As a result, it continues to gain traction with customers and share in the market. While our quick-turn offers saw contained slower demand in the quarter, we anticipated this overall demand mix, and despite this headwind, improved our consolidated gross and operating margins sequentially. We also continue to generate positive cash flows that are best in class in our sector. As global manufacturing conditions improve, we expect growth in both network and factory offers. In order to continue to drive growth and maintain or improve our profitability in this challenging environment, we are focusing on items we control. First, we will continue to drive growth in our longer lead time, lower priced offerings through both the Hubs network and the factory. Network revenue again surpassed our expectations in the quarter, and in the first half of 2023 grew 75% over the first half of 2022. Our network offer continues to thrive as customers gravitate toward expanded manufacturing capabilities and more economic options for custom prototype and low-volume production parts. Next, we continue to invest to innovate and expand our customer offer through research and development initiatives. Our industry-leading profitability and positive cash flow generation enable us to invest for future growth. Most recently, we launched accelerated anodizing and chromate plating in our digital factory CNC machining service. This is a very commonly requested secondary offer for machine parts. Our new offer combines Protolab's unmatched speed at scale with traditional finishing processes, a first for the industry. A ProLabs customer can now have fully anodized or plated CNC machine parts on their desk within a few days of placing an order. Previously, we only offered finishing through the network, but as part of building out the most comprehensive custom CNC offer, we now offer finishing through the factory at lead times that no other manufacturer can match. Aside from expanding our offers, we are also ensuring that our costs continue to flex with sales volumes. We are controlling factory costs while maintaining the world's fastest lead times. At the end of the second quarter, our factory manufacturing headcount was down 9% year over year, commensurate with our volumes. We will continue to align staffing levels with volumes in our manufacturing facilities while continuing to invest in growth, including our high growth network offer. As economic conditions and manufacturing demand recover, we anticipate our factory performance will improve as customer preferences and needs shift and more customers take advantage of our world-class lead times, consistent car quality, and high on-time reliability. In addition, as the factory longer lead time business becomes material to our overall factory offer, it will provide an offset to any pressure to the quick-turn business. We also expect strong network growth to continue in any macro climate driven by its wide range of capabilities and lead time options. The combination of factory and network is what allows Protolabs to serve all customer use cases in any economic climate. Because we acquired hubs in 2021 and now offer the combination of both fulfillment avenues, our current business performance is stronger than if we had only provided quick turn offers to customers. The network offer continues to gain traction with customers with the expanded envelope of capabilities and broader range of lead time and pricing options. The number of customers utilizing both factory and network services continues to grow well. We are realizing the value of the hub's acquisition and our expanded customer offer, and we are still in the early stages of capturing the total opportunity in the market that our strategy unlocks. Protolabs has the broadest fulfillment capabilities in our industry, allowing us to serve our customers and grow profitably in any economic conditions. Now, for a quick update on our 2023 priorities halfway through the year. As a reminder, our priorities are, first, to drive revenue growth, particularly in our largest services, injection molding and CNC machines. And second, to increase shareholder value through expanding profitability in the factory and the network. One investment we are making in revenue growth is an investment in sales leadership talent. We recently hired a new vice president of sales to lead the Americas and also strengthened our sales management in Europe. Injection molding revenue in the second quarter was down sequentially. As we have discussed in prior calls, injection molding is highly impacted by macro conditions due to its higher proportion of production use cases. We continue to pursue various go-to-market strategies and other service line improvements to drive growth. We have seen solid performance in injection molding orders fulfilled through the combination of our internal factories and manufacturing partners. We are winning more orders that leverage our combined factory and network injection molding offer as evidenced by a recent project we completed for an automotive lighting solutions provider. Working with one supplier was important for this automotive customer. This customer came to Protolabs in search of a custom manufacturing partner that could support a program from prototyping to production. The customer benefited from the speed of our digital factory service to rapidly prototype their designs and then moved into production with our network, evidence of Protolabs serving multiple use cases across the product lifecycle for a customer. The customer required large and complex injection molded parts, which are outside of our digital factory capabilities, and in the past we would not have won this program. But because of our digital network offers expanded injection molding capabilities, Protolabs won the business and we manufactured all molds and parts for this customer through both fulfillment avenues. The combined factory and network offer unlocks significant value for this customer, allowing them to get to production quickly with validated and tested designs, all from a single manufacturer. Our next priority growth area, CNC machining, is performing well. with growth in the second quarter largely driven by our network offer. We continue to innovate on our digital factory capabilities and expand our customer offer, most recently launching accelerated anodizing in play. Protolabs offers unmatched breadth in CNC machining, and as a customer preferences shift and expand, we are well positioned to be the single source supplier for all our customers' CNC machining needs. We have tangible evidence that customers value one single partner for their custom CNC part needs. One specific customer, Airbus, recently turned to Protolabs for help with a new transportation project in development. Airbus needed a manufacturing partner that could move very quickly from prototyping to production, and the Protolabs combined offer made us the perfect candidate. We delivered quick-turn prototype parts through the factory, and Airbus then transitioned to our digital network to manufacture higher production volumes. Our factory and network combination eliminated the need for Airbus to request multiple quotes from multiple manufacturers, simplifying and accelerating their supply chain. Another example of the power of ProLab's combined factory and network. The next priority for 2023 is to increase shareholder value through expanding profitability in the factory and in the network. We surpassed our expectations for earnings in the second quarter. We achieved this despite the shift in the mix of our business toward longer lead time, lower priced offerings, and the accompanying pressure on margins. We accomplished this through improved automation and productivity that enabled us to reduce overall headcount, reduce overtime, and reduced reliance on contract labor. Given customer preferences for lower priced offerings in this economic cycle, we expect continued pressure on operating margin improvements throughout 2023. and will continue to focus on operating efficiencies as we have throughout this year. Our focus on operating efficiencies and our customers secured us two pieces of external recognition in the quarter, highlighting our leadership in digital manufacturing. First, Protolabs was awarded Company of the Year for Digital Manufacturing by Frost and Sullivan, who commended our visionary innovation, performance, and customer impact. In addition, Protolabs was honored with the Manufacturing Leadership Council's Manufacturing Leadership Award in the digital supply chain category. The MLC highlighted our combined factory and network offering. We will continue to focus on serving our customers with the most comprehensive digital manufacturing offer in the world, and receiving external awards like this is a strong endorsement of our continued industry leadership. In summary, We have little control over macro conditions and end market demand, but these short-term challenges should not cloud the advantages of our business model. The combination of our factory and network offers has allowed us to perform better than peers in the current environment, and we believe it will allow us to outgrow the market longer term, particularly as our factory offer becomes less reliant on the quick-term business that is sensitive to economic conditions. Let me once again highlight that our network offer continues to take market share with 80% growth in the quarter. We are well positioned to weather economic volatility due to Protolabs' best-in-class profitability and strong cash flow generation. This also enables us to continue to invest in innovation to expand our customer offer and expand additional share of wallet. Through any economic climate, we are a great long-term strategic partner for our customers and believe we will deliver value for shareholders over the long term. I'd like to thank every Protolabs employee for their contributions in the first half of 2023. Although we are operating in a difficult environment, the efforts and commitment of our employees enable us to continue to perform and grow profitably. Dan will now cover our second quarter financials in depth and provide our outlook for the third quarter of 2023.