Materialise NV
Q2 2016 Earnings Call Transcript

Published: 11 Aug 2016

[Operator:]

Welcome to the Materialise NV Q2 2016 Earnings Conference Call. [Operator Instructions]. As a reminder, this conference call is being recorded. I would now like to turn the conference over to Jody Burfening. You may begin.

[Jody Burfening:]

Thank you, Shane and good morning, everyone and thank you for joining us today for Materialise second quarter earnings conference call. With us on the call are Fried Vancraen, Founder and Chief Executive Officer of Materialise, Peter Leys, Executive Chairman and Johan Albrecht, Chief Financial Officer. Today's call and webcast are being accompanied by a slide presentation that reviews Materialise's strategic financial and operational performance for the second quarter of 2016. To access the slides if you have not already done so, please go to the Investor Relations section of the Company's website at www.materialise.com. The earnings press release that was issued earlier this morning can also be found on that page. Before we get started, I would like to remind you that management may make forward-looking statements regarding the Company's plans, expectations and growth prospects among others. These forward-looking statements are subject to known and unknown uncertainties and risks that could cause actual results to differ materially from the expectations expressed, including competitive dynamics and industry change. Any forward-looking statements including those related to the Company's future results and activities represent management's estimates as of today and should not be relied upon as representing their estimates as of any subsequent day. Management disclaims any duty to update or revise any forward-looking statements to reflect future events or changes in expectations. A more detailed description of the risks and uncertainties and other factors that may impact the Company's future business or financial results can be found in the 20-F for the fiscal year ended December 31, 2015 filed with the SEC on April 28, 2016. Finally management will discuss certain non-IFRS measures on today's conference call. A reconciliation table is contained in the earnings release and at the end of the slide presentation. With those housekeeping matters out of the way, I would now like to turn the call over to Peter. Good morning, Peter.

[Peter Leys:]

Thank you, Jody and thank you everyone for joining us today. The agenda for our call is on slide 3. I'll begin as usual with a brief recap of our results for the quarter, after which Fried will give you his thoughts about current market trends in the 3D printing industry. After that, Johan will go through our numbers in more detail and then I'll come back on, to run you through some of the partnerships we have recently entered into, as well as the facilities expansion that we're planning. And when we have completed our prepared remarks, we will be happy to respond to any questions that you may have. So turning to slide 4, you'll see the highlights of our second quarter results. The market that we operate in, is in a state of transition, awaiting new product offerings and the opportunities that they may bring. As you will see, our results for the quarter which are still solid, but admittedly below our internal goals, are affected by these market circumstances. We had revenue growth of more than 11%, the figure that does not take into account deferred revenue from annual software sales and maintenance contracts. That deferred revenue for the quarter rose by €2.3 million. Reflecting the benefits of our diversified model, we had revenue increases and positive EBITDA in all three of our business segments. Adjusted EBITDA slowed from a slight loss of roughly €180,000 in last year's period, to just above €1 million for a 3.7% margin. In light of the market conditions, we think this a good performance from the management teams of each of our segments. And now, I would like to turn the call over to Fried.

[Fried Vancraen:]

Good morning or good afternoon. For those following the 3D printing sector closely which includes most of you, it is apparent that after the strong capacity expansion in the recent hyper growth period, we have entered a dip in investment spend. The entire sector is in a transition stage, as a new generation of systems with increase value propositions is expected, but is not really available yet. In earlier calls, we have explained that while temporary slowdowns of system sales initially often has a positive impact on our software sales, at a certain moment in time, they are likely to negatively impact these sales. And that is what we're experiencing right now, although we did deliver another quarter over solid positive growth in Materialise software. At times of overcapacity, there is also a serious price pressure in subcontracting companies. This is publicly apparent at the moment for instance, by the large discount companed that certain competing online services are offering. We're proud that in this market environment, we keep combining growth and increasing margins in Materialise manufacturing. The application or the entered backbone strategy of Materialise which combines services and software keeps attracting large OEMs that are changing their organizations and products to make better use of additive manufacturing. This trend is demonstrated by the 36% growth in industrial end-parts manufacturing that we experienced during Q2 2016. Even more important is the steady increase in our consulting service or what we call co-creation sessions with companies. Most of those sessions result in 3D printed end-products that will be produced and appearing on the market in approximately a year from now, after the period of investment in product development. Recently several blue-chip companies, customers of Materialise have released dedicated AM strategies at the highest executive levels and even to some of their investors. In previous calls, we have repeatedly pointed to the importance of the sales of materials as the fundamental indicator for the growth of 3D printing. Although there are only limited data available about the recent past and only from the stock-listed companies that already disclosed results, every indicator suggests that double-digit growth in the material consumption is still present. This data underscore our belief that the use of 3D printing continues to grow healthily. We're convinced that the mix of increasing industrial awareness and knowledge build-up at the application end of 3D printing, in combination with the new higher productivity generation of printers will create a new and sustainable growth phase for the 3D printing sector. The exact timing of this re-acceleration is more difficult to predict, as it depends on the availability and volume of both the applications and the new systems. At this point, Johan will come to give you more details on our financial results.

[Johan Albrecht:]

Thank you, Fried. I'll start with a brief review of our consolidated revenue on slide 6. For clarity, I'd like to remind you that when we refer to sales in our presentation, this means revenues plus deferred revenues. As Peter mentioned for the second quarter, we generated an 11% quarter-over quarter increase in revenue, with increases in all three of our segments. Materialise software accounted for 25% of our revenue in Q2, Materialise medical for 35% and Materialise manufacturing for 40%. As you recall, two of our goals are to grow the contribution that software revenue and end-part revenue make to our total mix. Quarter over quarter total revenue from software products stayed even at 37%, while end-parts rose by 5 percentage points in Q2 2016 to 38%. Prototyping accounted for 25% of total revenue, as compared to 30% in the prior-year period. Moving to slide 7, you can see our consolidated adjusted EBITDA numbers for the second quarter. As Peter mentioned earlier, consolidated adjusted EBITDA rose 447 basis points, swinging from a small loss of €179,000 in the 2015 period to €1.034 million this quarter. Our adjusted EBITDA margin improved from a negative 0.7% to 3.7%. These improvements reflect three factors. First, a continued revenue growth. Second, an improvement in our gross margins, primarily as a result of an improvement in manufacturing's gross margin. And third, a moderate increase of 8% in operational expenses, compared to our 11.4% revenue growth. Slide 8 summarizes the results of our Materialise software segment, their revenue grew almost 15%. We generated 9% growth in recurring licensed revenue. In this segment, EBITDA fell to 22.9% in this year's quarter from 33.2% last year, primarily due to an increase in the R&D expenses for certain well-defined software projects. An important portion of these additional R&D efforts have been sourced from our corporate R&D line. Turning to slide 9, you will see that total revenue in our Materialise medical segment grew 17% for the quarter. Sales from our medical collaboration partners were up 14%, while direct sales from our complex surgery devices rose 42%. Medical software sales fell 2% and represented 34% of total medical revenues. EBITDA for the medical segment this quarter was €14,000 as compared to a loss of €342,000 in the prior-year period. EBITDA margin improved by 420 basis points to 0.1%, turning positive as a result of higher revenues and only a modest increase in operational expenses. Now let's turn to slide 10 for an overview of the Q2 performance on Materialise manufacturing segment. There, revenue rose just over 5% driven primarily by sales of end-parts which were up 36% over last year's period. They accounted for 38% of the segment sales, up from 33% last year. Since the end of Q1 this year, we have added five printers, bringing the Company's total to 147. EBITDA rose 530 basis points to €430,000 from a loss of €147,000 for the same period last year. The margin increased to 3.9% this quarter, as compared to minus 1.4% in the 2015 period. Slide 11 provides the highlights of our income statement for the second quarter. Gross profit increased more than 13% year over year and gross margin increased to 58.9% from 57.8%. The increase was primarily a result of an improvement in the gross margin of our manufacturing segment. In total, R&D, sales and marketing and G&A spending rose by 8% over the prior year period. On a quarter-over quarter basis, R&D increased slightly, while sales and marketing decreased slightly. Our G&A expenses rose, but most of this increase reflected the managerial structure and support we have been implementing within our sales and marketing and R&D groups. As explained in our previous earnings call, a number of employees was in these groups, have evolved into more managerial and administrative roles and the costs as well as certain other expenses are now categorized into a G&A. Other income net increased by €0.3 million to €1.8 million. Net other operating income consists primarily of withholding tax exemptions for qualifying researchers, development grants, partial funding of R&D projects and currency exchange on purchase and sales transactions. The increase was due primarily to the variance in this currency exchange loss. We posted an operating loss of €1.151 million compared to an operating loss of €1.937 million for the same quarter of last year, an improvement of almost €800,000. Net financial result was €207,000 compared to minus €938,000 for the same period last year, reflecting the variance in the current exchange rate, primarily on the portion of the Company's IPO proceeds held in U.S. dollar. This is as reported, but mostly unrealized exchange loss. Net loss for the first quarter of 2016 was minus €136,000, compared to a net loss of €3 million for the same period in the prior year, as a result of an increase of €786,000 of operating profit, an improvement over financial result of €1.145 million and an improvement in income tax income of €714,000 primarily due to a decrease of tax liabilities. Now please turn to slide 12 for a recap of balance sheet and cash flow highlights. Our balance sheet remains strong, with minimal debt accounting for only 16% of total liabilities and equity at quarter end. We ended the quarter with cash and cash equivalents of €51.3 million, compared to €50.7 million at the end of last year and €61 million in 2014. The number for June 30 was €1.9 million higher compared to last quarter's report, demonstrating our improved working capital and financial stability. Total deferred income amounted to €18.132 million, compared to €16.6 million at the end of 2015. The deferred annual software sales and maintenance contracts rose to €14.555 million, from €12.244 million12 months ago. Capital expenditures amounted to €5.8 million compared to €1.2 million for the second quarter of 2015 which included printing capacity expansion investments mostly. Cash flow from operations increased to €4.4 million from €543,000 last year. With that overview, I'll now turn the call back to Peter.

[Peter Leys:]

Thank you, Johan. Please turn to slide 13. Rather than summarizing our operational highlights as I often do at this point, I want to follow up on Fried's remarks and give a big picture look at our industry and Materializes' progress. While additive manufacturing has been encountering some speed bumps at late, we should keep in mind that an impressive group of big and well-regarded companies are entering our industry, demonstrating their understanding of 3D printing's potential to transform manufacturing and supply chain dynamics. We view these high profile companies partnerships with us as an endorsement of our capabilities and industry positioning. We added an important name to our roster of public chip partners in May when we announced the collaboration with HP to power its new Jet Fusion 3D printing solution. That solution is compatible with our Magics 3D print suite and will help businesses producing final production parts, as well as functional prototypes. In the second quarter of this year, we also extended our collaboration with Depuy Synthes, broadened it to include a new range of patient-specific titanium 3D-printed implants for facial and skull disorders in Europe. We have been working with Synthes on various other medical devices since 2010 and we're very much looking forward to expanding this good collaboration. And we recently announced a collaboration with Microsoft that will enable users of its 3D printing platform to print their designs directly through our i.materialise platform. Furthermore we're developing other meaningful partnerships as well, that we expect to be able to announce in the coming months. Before we move to the next slide, I would like to touch on our guidance for the year. Last year the slowdown in equipment spending did not translate into less robust growth for Materialise, because customers continued to trend to our software solutions to upgrade their existing installed base of printers. This year, however, our business did begin to be impacted by the slowdown, as market participants are now waiting for the introduction of the next generation of printers before making additional investments. Obviously, this is a situation that we're managing very carefully. On the short term, by carefully balancing our spending and on the long term by continuing to invest in partnerships and in new opportunities. Despite the market turmoil on the short term and assuming there's no significant additional deterioration in industry conditions in the second half of 2016, we continue to expect to report consolidated revenue between €115 million and €120 million, not including additional deferred revenues from annual software licenses and software maintenance contracts. We also continue to expect adjusted EBITDA between €7 million and €9 million, again, assuming no major changes in the industry. Now turning to slide 14, I want to emphasize that we believe as strongly as ever in our industry's prospects for long term growth. To lay the groundwork for additional scale, we're planning to expand our production facilities in Poland and our corporate facilities in Belgium. We have built our market-leading software and services backbone for prototyping on the back of our prototyping factory here in Leuven. We're currently building our software and services backbone for end-part manufacturing from our facilities in Leuven, Breman and the Czech Republic, that are being pushed by the markets to significantly ramp up our certified manufacturing capabilities, hence the expansion of our production facilities which should allow us to build a number of dedicated end-part production lines. In total, we plan to invest roughly €17 million in CapEx over the next 12 months or so. We intend to finance the two new buildings entirely with debt and are in possession of a conditional commitment letter from a bank for a 15-year term loan at fixed interest rates that are currently well below 1.5%. The commitment letter further calls for deferred amortization until 2019 and 2023, for the Poland and Belgium portions of the loan, respectively. The closing of the loan is contingent on a number of conditions. So at this point we cannot assure you we will be able to enter into the loan on these terms or even at all. But I did want to mention the facilities investment to you, as it provides a good measure of our beliefs about the future and about the way we try to carefully balance the financing of our growth. Operator, this concludes our prepared remarks. We're now ready to open the call to questions.

[Operator:]

[Operator Instructions]. And our first question comes from the line of Troy Jensen of Piper Jaffray. Sir, you're line is now open.

[Troy Jensen:]

So first one for Johan, can you just talk on the gross margin? It declined a little bit here sequentially and I'm assuming it's just mix with a lower percentage of the software business. But was there any weakness in pricing? Just some insight would be helpful.

[Peter Leys:]

The gross margin in the total Company and in the software.

[Johan Albrecht:]

Well, the gross margin has improved in the manufacturing segment once more. We have seen that the trends of the previous quarter's is effectively confirmed.

[Peter Leys:]

Yes.

[Troy Jensen:]

So just mix is the bigger issue, right?

[Peter Leys:]

Yes, on the mix, Troy, it's correct. We've seen a slower growth in the software than we have seen in previous quarters.

[Johan Albrecht:]

Yes.

[Troy Jensen:]

I know you touched on HP a little bit, but could you just expand? I'd be curious to know, how much money you guys are going to get, the dollar or euro you receive for every Fusion Jet sale that HP has?

[Peter Leys:]

Troy, that is a number that's -- we cannot disclose. But in principle, just like now, when a printer buy and then a vendor is sold for which a Build Processor of Materialise is available, then with that printer in many instances, as our previous results have shown, a Materialise Build processors sold alone. And the purchasers of the HP printer will also have the ability to purchase a Materialise Build Processor which sale will, as such, generate revenue for us. But importantly, that Build Processor will then smoothly interface with our Magics 3D Print Suite which would even further expand the sales opportunity there for us.

[Troy Jensen:]

And then, a last one from me, just on the capacity expansion, it's sounds like its just focused on the end-part production of the manufacturing side of it, but I'd be curious to know if the investment is going to be heavily weighted between the Build machines or if not, can you tell us which technologies you would be spending that?

[Fried Vancraen:]

Troy, the last question came through very, very unclearly. What I understood at the end is which technologies we intend to use at the production facility that we plan to set up in Poland?

[Troy Jensen:]

Correct. Just curious to know which technologies and if it's metals?

[Fried Vancraen:]

Yes. If that question is correct it is mainly polyamide we will be printing there, through the Laser Sintering process or alternatively through the new technology from HP.

[Operator:]

And our next question comes from the line of Weston Twigg of Pacific Crest. Your line is open.

[Weston Twigg:]

So first, I just wanted to touch on the software softness a little bit, because last year as printer hardware demand slowed down, you did really well. This year you're saying, it's starting to catch up. But you blamed it on the idea that people are waiting for new printing technologies. That said, I haven't really seen unit volumes drop off a whole lot on the hardware side. So I'm wondering if you could just help us understand a little bit more, about what is really happening on the software demand side?

[Peter Leys:]

Well Wes, as we tried to explain also in earlier calls, there's two things. This is something that we have experienced in the past also. Initially when there's a slowdown in CapEx, people will upgrade their installed base with software. So if there's a growth bump experienced by the machine vendors, that will typically be accompanied by an increase of our software sales. And that is also what we have seen and experienced in 2015 and that's also something that we have explained to the market. Obviously, we cannot, forever and a day, upgrade the installed base. I mean, at a certain point in time, people do have to buy new printers. And we will then sell our software along and then upgrade those new printers as time passes. Now what has happened here is, that the growth bump that happened in 2015 which is spending of CapEx always goes up and down a bit, is now followed by the introduction and announcements of very promising new technologies, such as the one of HP that we have discussed earlier at the call which means that people are further delaying some of their spending, awaiting the new technology. And actually this is a technology that has been announced very recently, at the last RAPID. So this growth bump if you want, is being extended over time, because the announcements of a new technology that is not available yet, has followed a typical probable, a bit overspending in CapEx that took place in 2016. And so, while initially during this growth bump, we were able to actually upgrade the installed base by additional software sales, we're now being also hit by the slow -- the continued slower sales of machines.

[Weston Twigg:]

And I guess, the follow up on that it would be, the idea that customers are waiting to purchase printers until the technology improves, with maybe a few specific examples like HP, that's been more of a theory. I haven't really seen a lot of evidence of it yet, but are you seeing direct evidence of that with your customers, where you are having conversations that they are saying, we're waiting for a specific printer or a specific new technology before we're making new purchases?

[Fried Vancraen:]

Well, I believe that we're hearing in the market, the same messages that were are also reported in the recent report of Troy Jensen on the distribution channels of the printer manufacturers. We can only confirm that this is truly happening.

[Peter Leys:]

Since recently, Wes, people can actually place purchase orders for the new technology which means if you place a purchase order for the new technology which is not yet being sold, because it's not yet available, then I mean obviously, you will not simultaneously buy another machine.

[Weston Twigg:]

Okay. And if I could sneak one more in, the other question I had, was you said, earlier in the call, that you're seeing some price pressure on the services printing side. And yet on your manufacturing services, you're getting higher gross margins. So just wondering if you could help us understand, how you're avoiding some of that price competition?

[Johan Albrecht:]

Well, the explanation there is the transfer from prototyping to end-parts manufacturing. It is obvious that the prototyping market is currently under a lot of pressure, by the combination of -- yes, installed capacity that is available, but also by a lot of OEMs that have bought their own printers and they are also buying sometimes lower end printers to fill their internal prototyping needs. So there is a lot of pressure on the prototyping service side. But Materialise has been active already for quite some years to create demand in the end-parts manufacturing, for what I would call the real additive manufacturing. And yes, we see fruits from this, because we can more than compensate the competitive and yes, declining service situation we experience in a few of our markets, because the situation is not entirely the same in every geography. But clearly, overall, we compensate for this effect.

[Operator:]

[Operator Instructions].

[Fried Vancraen:]

Okay. If there are no more questions at this time, then I would like to thank everyone for joining today's call. And I would also like to point out, that I will be in New York city to attend an investor conference in early September and we will issue an advisory release with details on that conference in the next few days. Thanks again and we hope to either see or talk to you in the near future. Thank you.

[Peter Leys:]

Thank you very much.

[Johan Albrecht:]

Thank you.

[Operator:]

Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. You may all disconnect. Everyone, have a great day.