Proto Labs, Inc. — Q2 2019 Form 10-Q
Reporting period: Three and six months ended June 30, 2019; comparisons are with the corresponding 2018 periods. Financial amounts below are in millions unless otherwise noted.
Business context
Proto Labs is a digital manufacturer of custom prototypes and on-demand production parts, using injection molding, CNC machining, 3D printing and sheet metal fabrication. Customers place most orders through its web-based interface. In Q2, the company served 20,840 unique product developers and engineers, up 4.7% year over year; for the first half, it served 31,550, up 3.0%.
Financial results and liquidity
| Metric | Q2 2019 | Q2 2018 | First half 2019 | First half 2018 |
|---|---|---|---|---|
| Revenue | $115.9 | $109.7 | $229.4 | $217.4 |
| Gross profit | $60.2 | $59.2 | $119.1 | $117.1 |
| Gross margin | 52.0% | 54.0% | 51.9% | 53.9% |
| Operating income | $19.6 | $22.0 | $39.0 | $43.7 |
| Net income | $16.2 | $18.3 | $31.7 | $36.4 |
| Diluted EPS | $0.60 | $0.67 | $1.17 | $1.34 |
- Q2 revenue rose 5.7%, while net income fell 11.7%; first-half revenue rose 5.5%, while net income fell 12.9%.
- Q2 cost of revenue increased 10.4%, faster than revenue, and operating expenses increased 9.2%. For the first half, cost of revenue increased 10.0% and operating expenses 9.1%.
- Cash and cash equivalents were $100.5 at June 30, 2019, compared with $85.0 at year-end 2018. Short- and long-term marketable securities totaled $50.1. Current assets were $219.3 and current liabilities $51.4.
- No borrowings or debt balance are reported at June 30. Operating lease liabilities were $12.5, including $3.3 current and $9.2 long-term.
- First-half operating cash flow was $54.9, versus $59.3 in 2018. Investing activities used $17.9; financing activities used $21.6. Capital purchases were $34.1. Cash increased $15.5 during the first half.
Material changes and management commentary
- Revenue growth came from higher customer volume and spend, supported by sales staffing and marketing activity. Q2 growth by product line included injection molding +7.5%, CNC machining +2.9%, and 3D printing +15.2%; sheet metal declined 13.3%. First-half changes followed a similar pattern, with 3D printing up 16.3% and sheet metal down 16.4%.
- Gross margin declined 2.0 percentage points in both Q2 and the first half. Management attributed the reduction to facility and personnel investment and revenue timing and mix, with the RAPID acquisition identified as the primary mix-related driver.
- Management expects cost of revenue to increase in dollars but remain relatively constant as a percentage of revenue, and anticipates continued investment in technology and personnel that will increase operating expenses.
- Foreign exchange movements reduced international revenue by $1.4 in Q2 and $3.1 in the first half versus 2018, primarily due to the weaker British pound and euro against the U.S. dollar. The company does not hedge foreign currency exposure; it said a hypothetical 10% adverse currency change could materially affect results of operations.
- The company adopted ASC 842 leases in January 2019, adding $13.1 of operating lease assets and liabilities at adoption, with no material impact on reported income, equity or cash flows. Comparative periods were not retrospectively adjusted.
- The board increased the share repurchase authorization to $100.0 and extended it through December 31, 2023. The company repurchased 40,669 shares for $4.1 in Q2 and $21.4 in the first half.
- No specific revenue or earnings guidance is provided in the filing. Management cautions that interim results are not necessarily indicative of full-year results.
Risks, contingencies and unusual items
- Brexit-related timing, trade and regulatory uncertainty could affect operations, shipping and currency markets. The company was preparing shipping processes and increasing UK and EU inventory ahead of the then-uncertain October 31, 2019 exit deadline.
- Management stated it was not party to litigation expected to have a material adverse effect. Unrecognized tax benefit reserves were $4.4 at June 30, 2019.
- Operating income and net income declined despite revenue growth, reflecting margin pressure and increased operating costs. The 2018 comparison included a $0.7 gain on sale of a business in other income; no such gain was reported in 2019.
Investor verification priorities
- Whether revenue growth can continue while gross margin remains pressured by labor, capacity investment and product mix.
- Drivers of weaker sheet metal revenue and the continued growth and profitability of 3D printing and other product lines.
- Currency exposure, the reported revenue headwind, and the potential effect of Brexit on customer demand and shipping.
- Capital spending requirements, operating cash flow conversion, and the pace and remaining capacity of share repurchases.
- Lease commitments and tax reserves, including any developments in the risks described in the filing.