3D Systems Corporation (DDD) Q2 2020 Earnings Report, Transcript and Summary

Greetings and welcome to the 3D Systems’ Q2 2020 Conference Call and Webcast. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] Please note that this conference is being recorded. I will now turn the conference over to our host Jessica Stanfill of Investor Relations. Thank you. You may begin

Good afternoon. And welcome to 3D Systems’ conference call. With me on the call are Dr. Jeffrey Graves, our President and Chief Executive Officer; Wayne Pensky, Interim Chief Financial Officer; and Andrew Johnson, Executive Vice President and Chief Legal Officer. Please note that given the current situation with COVID-19, we are not all at the same location. The webcast portion of this call contains a slide presentation that we will refer to during the call. Those following along on the phone who wish to access the slide portion of this presentation may do so on the Investor Relations section of our website. For those who have access to streaming portion of the webcast, please be aware that there may be a few second delay and that you will not be able to post questions via the web. The following discussion and responses to your questions reflect management's views as of today only and will include forward-looking statements as described on this slide. Actual results may differ materially. Additional information about factors that could potentially impact our financial results is included in today's press release and our filings with the SEC, including our most recent annual report on Form 10-K and quarterly reports on Form 10-Q. During this call, we will discuss certain non-GAAP financial measures. In our press release and slides accompanying this webcast, which are both available on our Investor Relations website, you will find additional disclosures regarding these non-GAAP measures, including reconciliations of these measures with comparable GAAP measures. Finally, unless otherwise stated, all comparisons in this call will be against our results for the comparable period of 2019. Now I'm pleased to turn the call over to Jeff Graves, our CEO. Jeff?

Thanks, Jessica. And good afternoon, everyone. I hope that all that have joined us today on our call are staying safe and healthy through these unprecedented times. Let me start by reminding everyone that our top priority is the wellbeing of our employees and their families, our communities, and our customers. We've incorporated measures to safeguard all of these groups to the best of our ability in response to the COVID-19 pandemic with clear protocols being implemented across the company. I'm very proud of the stamina and teamwork shown by our employees in helping one another, or meeting our customer commitments to the maximum extent possible over this difficult period. While there've been many challenges, we've maintained all of our key operations worldwide and expect to do so moving forward. Over the last two months, since joining 3D Systems, as CEO, I've talked extensively with our employees, our customers, and our business partners, as well as several of our analysts and long-term shareholders. In short through these discussions, you will reaffirm for me, why I joined 3D systems, namely that we have a tremendous and somewhat unique opportunity as a leader in this industry. And I'm tremendously excited by the passion of our employees and the breadth of our technology and capabilities within our company. We have incredible strengths upon which to build our future. I've also learned that there's a wide consensus that we need to change if we're going to be successful. To be blunt, while we have made significant progress in key technology areas and today can boast of one of the strongest portfolios of 3D printing hardware, software, and materials in the industry, in recent years, we've not translated these elements into consistent growth and profitability. My singular goal is to make this happen. In short, we need to focus to prioritize and to streamline our efforts in order to reinforce our leadership in this exciting industry. Success starts in any company with a clear statement of purpose. One that describes the sustainable value that a company brings to the world and that will serve as a central focus going forward. It needs to resonate with our employees, our customers, and our shareholders alike, allowing us to set clear, unwavering priorities that focus everyone's efforts on the same goals each day. With that intent over the last two months, I've held many business reviews, individual discussions to learn about the value we deliver in the markets and customers we serve. From these discussions much has become clear about what's working and what's been holding us back. Most importantly, it's allowed a clear purpose statement to be developed, which builds on the unique history and strengths of our company and that will guide us to an exciting future ahead. Our purpose statement is as follows. We are the leaders in enabling additive manufacturing solutions for applications, in growing markets the demand high reliability products. As the statement implies using a strong application focus, we'll target our efforts on growth markets that place a premium on performance and reliability. Engineering and technology cultures that seek innovation as a way to deliver value to their customers and often involving processes that tend to be highly controlled due to their criticality. Using this purpose statement as our guidepost, we’re simplifying and focusing our organization by realigning the company's breadth of capabilities to serve applications in two key market verticals, healthcare and industrial. Moving forward, we will no longer emphasize the individual software, hardware and materials elements of additive manufacturing separately rather than the combination of these elements into specific application solutions within our targeted markets. In other words, we'll be laser focused on overall growth and profitability in these market verticals rather than measuring our success in any single technology element we provide. Within healthcare, we're focus on dental, medical devices, surgical planning and simulation. Industrial will encompass aerospace, defense, automotive, and durable goods. Within these targeted markets we'll focus heavily on specific applications that benefit the most from the use of additive manufacturing. For example, in healthcare, this could be orthopedic implants, while in industrial it could be the manufacture of highly complex heat exchangers. I want to spend a few minutes on why we think this approach will be successful. In 1986, when Chuck Hull founded our company based on his invention of 3D printing, he brought together in the laboratory for the first time hardware, software, and material science in a unique way to create solid objects from computer models. This approach embodied a strong application, focused requiring all three elements to be combined in a highly controlled manner to create the desired object. What became clear over time was that this approach when applied on an industrial scale, with appropriate materials, would dramatically expand the flexibility engineers have to design and build unique components for improved functionality at commercially viable costs. Since that time we've taken delight often to the point of distraction in advancing the individual elements of the process and along the way forgotten that the true value is in the unique combination of them that can add tremendous value to the customer. This restatement of our company purpose and the reorganization of our entire business is designed to return us to the strong application focus that enabled us to not simply invent a machine, but instead invent an entire industry that could transform the way components can be designed and manufactured for critical applications. This is the heritage of our company, and it's the cultural foundation that we build upon moving forward. With this foundation, there are four distinct advantages that we will leverage to deliver value in an increasingly competitive market. First, with a complete breadth of technologies and services we're uniquely poised to ramp customers from inception through full-scale additive manufacturing adoption. Starting with the exceptional application expertise within our customer innovation centers, we can bring together our market-leading hardware, software, and materials technologies into a defined process and workflow to translate a customer's product design into real hardware. Once defined we have the capability to then scale the process through our advanced manufacturing centers to production quantities in order to complete the required quality and process certifications. Once accomplished our customers can then expand the process further in whatever manner they wish to meet their customer demand requirements. Second, we are the only organization that can provide a complete range of custom wax, plastic and metal additive manufacturing application solutions to match customer needs. Our five printing platforms, SLA, SLS, Figure 4, MJP and DMP, are able to meet an exceptional range of customer application needs using well over 100 unique materials, the broadest range in the industry. And with our ongoing investments, that capability continues to expand each day. Third, our organization has the most extensive, additive manufacturing service coverage across the globe. We have experts located across five continents and are local to more than 80% of our customer base to provide ongoing production support, training and periodic upgrades to our products in the field. To support new applications, we have customer innovation centers in the U.S. and in Europe as well as eight on-demand manufacturing sites across four continents. And forth, we have the deepest experience in actual production parts among all additive manufacturing OEMs. Our customers print up to 500,000 production parts every day, over a range of applications within the dental, medical device, aerospace, automotive, and jewelry markets worldwide, a remarkable number. While other companies may claim leadership using narrow measures when it comes to real production experience, no one can claim the history of success the 3D Systems has delivered, no one. I'll now provide two recent examples of how our expertise and product suite has enabled us to win. And I'll ask your forgiveness that the outset [indiscernible] having to avoid certain customer sensitive details. The first example is a healthcare case study and with a medical device OEM for a knee replacement solution. The challenge here was to develop and commercialize a state-of-the-art orthopedic joint with an optimized surface structure and superior performance. Traditional machining and coding processes provide a pathway to produce such a component, but there was a high degree of variability in the product, which led to low yields, increased quality risk, significantly higher material costs and extended manufacturing cycle times. 3D Systems utilized its holistic solutions portfolio to partner with the medical device OEM to produce not only a superior product, but one that can be manufactured at much lower cost and a reduced cycle times. In this case, we brought together our advanced metal printing system combined with our 3D expert software to produce the joint implant in both titanium and stainless steel. We then delivered these components from both our Littleton, Colorado, and Leuven Belgium facilities to simplify customer logistics. Central to this success was not only the individual technology elements, which were all excellent in their own, right, but the manner in which they were integrated by our application engineers who partnered with engineers from the medical device OEM to optimize the design of the implant, while creating a robust, highly efficient manufacturing workflow. These workflows were then demonstrated ad scale in may advanced manufacturing operations. When demand out grew our internal production capacity, we facilitated the transfer of the process to third party factories selected by the OEM for strategic diversification of its supply chain. And our service team developed a customer centric plan to support large scale production and worldwide product launch. It was a great success story from inception to full commercialization. Similar examples are found on the industrial side of our business. For example, recently a private aerospace company with an in-house superalloy foundry use to produce critical propulsion components invested in a complete 3D System solution to enable accurate, consistent, and cost-effective production of high-performance components. This system combined our industry leading stereolithography printers with castable resonance and a software package that was optimized for investment casting pattern manufacturer. Central to success where application experts that integrated the technology elements into a seamless workflow that ensured that these novel rocket components would perform as needed in this highly demanding application environment. This process is now fully integrated into our customer's production process, and they're using results to push the frontier of flight to an entirely new level. These types of projects reinforced my excitement in this role and hopefully bring to life the examples of why I joined 3D Systems. I look forward to sharing our progress as we now refocus our organization and build upon the strong culture and foundation of this remarkable company. In connection with the organizational realignment announced today, we have an opportunity to maximize efficiencies and align our operating costs with current revenue levels. Through this restructuring effort, we expect to reduce annualized costs by approximately $100 million by the end of next year. This should enable the company to be profitable at current revenue levels and be well positioned to leverage our sales growth as it's realized. Through this restructuring, we’ll reduce our workforce by nearly 20% with the majority being completed by year end. This reduction in force is a difficult, but essential step in our ongoing strategic actions designed to better position the company for sustainable and profitable growth. I'd like to express my appreciation to each of the employees impacted by this decision for their dedicated service. Other costs reduction efforts will include reducing the number of facilities and examining every aspect of the company's manufacturing and operating expenses. The reduction in our footprint is primarily an office space in part enabled by our learning’s from the COVID actions, which have accelerated our efforts to work remotely. Reduction in our physical sites is a real cost opportunity for us. Given the volume of acquisitions, the company completed several years ago. The company will incur a cash charge in the range of $25 million to $30 million in severance, facility closing and other costs, primarily in the second half of this year, we may incur additional charges in 2021 as we finalize the actions to be taken. We're also evaluating divestiture of parts of the business that do not align with our strategic focus. With that, let me turn the call over to Wayne, who will now provide our results for the second quarter of 2020. Wayne?

Thanks, Jeff. Good afternoon, everyone. For the second quarter, we reported revenue of $112 million, a decrease of 29% compared to the second quarter of 2019 and a decrease of 17% compared to the first quarter of this year. The lower demand was across all products and services due to COVID-19 as many customers were shutdown or on a significantly reduced level of activity. We reported a loss of $0.33 per share in the second quarter, compared to a loss of $0.21 in the second quarter of 2019. We reported a non-GAAP loss of $0.13 per share in the second quarter, compared to zero cents per share in the second quarter of 2019. During the quarter, we recorded a charge of $10.9 million to cost of sales. A certain product lines reached their end of life. We are no longer producing these items. This charge is the only significant non-recurring difference between GAAP and non-GAAP numbers this quarter. Our operating expenses decreased 25% to $69 million. Consistent with our new strategic focus, we will start discussing revenue by our two key markets, healthcare and industrial. Healthcare revenues are the same as we've previously disclosed in the past. Industrial revenues comprise all those sales. We are not yet capturing any meaningful sub-market detailed information. So next level of details below these two markets is a work in process. Revenue from healthcare decreased 11% year-over-year to $50 million driven by the decrease in the dental market related to COVID-19. For the first half of 2020 healthcare revenue decreased 9% as compared to the same period last year. Industrial revenues decrease 38% year-over-year to $62 million with decreases in all products, materials and services across the all geographies due primarily to COVID-19. For the first half of 2020, industrial revenues decreased 26% as compared to the same period last year. We reported gross profit margin of 31.4% in the second quarter, compared to 46.6% in the second quarter of 2019. Adjusting for the charge through the end of life inventory, our non-GAAP gross profit margin second quarter was 41.3%. We were impacted by the lower volume and the resulting lower absorption of overhead. Mainly restructuring actions we are taking will help get our gross profit margin back to the level seen at the beginning of this chart. We've also seen the cashews for inventory has got nearly $25 million so far this year. As the market started to turn down the latter part of the first quarter, due to the pandemic, we were unable to slow down our inventory levels fast enough due to committed lead times with our contract manufacturers and suppliers. We are focused on reducing our inventory levels, but it will take some time. Operating expenses were $69 million, a decrease of 25% compared to the second quarter of 2019, including a 27% decrease in selling general administrative expenses and an 18% decrease in research and development expenses. Non-GAAP operating expenses in the second quarter were $57 million, a 20% decrease from the second quarter of the prior year. Primary differences between GAAP, non-GAAP, operating expenses is that we exclude amortization of intangibles and stock compensation expense from the non-GAAP amounts. In the first half of 2020 our selling, general administrative expenses where nearly 44% of revenue, that is simply too high, and many of the restructuring actions we will be taking are focused on reducing those costs. We ended the year with $64 million of cash; cash on hand has decreased $70 million since the beginning of the year. We used $26 million for debt repayments, $21 million for operation, and that includes the nearly $25 million use for inventories, $12.5 million for onetime payments to purchase non-controlling interest and $7 million for capital expenditures. Our term loan is now $22 million. So our net cash position is positive, whereas cashless debt is $42 million. We have $100 million revolver that was undrawn on as of June 30th and has $24 million of availability based on terms of the agreement. To ensure we have sufficient financial flexibility to complete this restructuring and to work through these uncertain times caused by the pandemic, the Board of Directors approved and at the market equity program allows the company from time to time to issue up to a total of $150 million of shares of the company's common stock to the public at the company's discretion. We believe these cost actions combined with the financial flexibility offered by the – at the market equity program and our existing revolver net cash position. We'll provide a solid financial footing on which the focus on the business and get back to growth. With that I'll turn the call back to Jeff. Jeff?

Thanks Wayne. So in summary, there are three main things we’re just – themes that we've discussed today. First defining our strategic focus and stating our purpose. Second reorganizing the company around two market verticals; healthcare and industrial; and third, doing the necessary restructuring to return the company to profitability and positioning it for sustainable growth and margin expansion. This restructuring involves eliminating $100 million of cost over the next 18 months, while investing for growth in key application areas. With a clear statement of purpose and a return to the ideals we were founded on, I believe 3D systems will be a leader in additive manufacturing and will be central to the value creation that it will enable. And with that, we'll now open the floor for questions. Diego?

Thank you. [Operator Instructions] Our first question comes from Greg Palm with Craig-Hallum Capital Group. Please state your question. Hi guys,

Hi, guys this is actually Danny Eggerichs on for Greg, today. I guess just going over the overall restructuring new strategy, any detail on maybe, are you looking at walking away from possibly certain end markets or maybe technologies as part of this overall restructuring?

Oh, I wouldn't view it as walking away from markets. It's rather a focusing on key markets that we've actually been in for some time, but the key difference here is, it's a very strong application focus within those markets and what we care about are bringing the key technology almost together in those markets to deliver value. So no longer what we will focus in and celebrate the selling of an individual printer somewhere in the world. Where we're going to celebrate the application progress we make in our key markets that [indiscernible] really going to drive sustainable growth and profitability. Not that we won't opportunistically sell the technology elements to customers who perhaps have an installed base that can benefit from them, that's fine, but the real growth that we'll feel will come from expanding the application applications within our key markets. So that's really what we're going to focus on and grow. So I wouldn't look at it as a walking away. I would look at it. I would look at it more as a focusing on what's going to drive the highest value?

Got it. That's helpful. And then I guess, as we look at the end of this year, obviously, reducing operating costs by $100 million per year by the end of next year, how do you want to look at Q3 and Q4 for operating costs?

In terms of – by the end of the year, we expect to have on a run rate basis about 60% of those savings in effect. And so, if you want to measure us in terms of how we're doing on that, you know, the ultimate measures are we profitable? And we expect on a run rate basis at the end of the year to be at a breakeven levels, but we entered 2021 to be hoping to be with a small profitable going forward.

Okay, great. And then, I guess maybe just last one here, any update on capital allocation priorities?

Well we'll certainly fund as the highest priority getting through our restructuring activities. Obviously we need to serve us [indiscernible] our debt. We have some minimum capital requirements to upgrade, upgrade existing equipment and things, but the majority of our capital deployment will be spent against our restructuring activity right now.

Thank you. Our next question comes from Sarkis Sherbetchyan with B. Riley Financial. Please state your question.

Hey, good afternoon. Thanks for taking my question here.

Sure.

So regarding the reduction of operating costs and getting to that 60% of savings by the end of the year, what's the cadence between the cost of goods line relative to SG&A and R&D?

Sure. I think of it roughly the split of sort of 40% cost of sales, 40% SG&A, and 20% R&D, and round numbers.

Got it. And as a follow on to that you mentioned a small profit going forward in FY 2021, is that kind of assuming a revenue run rate of what we saw this quarter or are we to assume you kind of grow in with the market growth rates?

No. If you look at the revenue from the first half of the year, if you use that as a run rate, because there was clearly a lot of volatility in the first half of the year on the up and down side, if you – if you look at that in the second half of the year and our pace of cost elimination through the second half of the year. On a run rate basis, we would expect in that model to be profitable by the end of the year. Is the fair way to look at it, maybe if you follow that?

And when we’re talking about profits, is that net income?

Correct. Correct.

Okay. Thank you.

Okay, thank you.

Thank you. Your next question comes from Paul Coster with JP Morgan. Please state your question.

Yes, thanks for taking the question. First off, the current trends, Jeff, what are we seeing, is it stabilizing or is it just completely uncertain with end market demand?

Paul, there's just a tremendous amount of noise. So there's a tremendous amount of noise. I would tell you, there's a few things that encourage me. Number one, in most of the world into different degrees, you see sites reopening. So from a service standpoint and getting production running again you could start seeing people operating machines which demand should follow that. So you see factories reopening and machines starting to run against. So that's a good thing. Areas that were viewed as nonessential, like dental treatments and orthopedic surgeries, things like that are now allowed again to at least some extent. So those fundamental demand drivers to be a very good thing for us. Now, what is not clear because there's just so much noise still out is pace of improvement. But directionally, we should with that opening start seeing increased demand around the world. And then we would expect capital spending to follow that demand.

Got you. I'm a little sort of unclear on how to interpret the [indiscernible] and the market equitation. So on the one hand you've got a pretty decent balance sheet, and you're obviously taking bold action here to look after the equity investor and yet that sort of looks like it's moving in the opposite direction. What's the explanation under what circumstances would you withdraw it?

Well, the withdrawal in the pace of it will be highly dependent on the revenue rebound, the pandemic is subsiding. But I would tell you, Paul, we want to make sure with great [indiscernible], we can get through our restructuring. There's tremendous value to be unlocked in this restructuring activity and the refocusing of the company. So we've got investments to make there to not only severance related investments site closures, but there's some efficiency investments in IT and others that we need to make with very short term paybacks that are essential to that. And so we want to make sure we can clear that. And we want to make sure that should the pandemic go the other direction that we're safe, we've got some cushion and all of that. So that's the motivation for putting it out there. The pace of it we just want to make sure that we can execute our actions in the shortest possible time period, because we truly believe on the other side of this when as a pandemic recedes, that this new structure we're adopting is going to drive some pretty exciting growth and profitability expansion, and we want to be ready for it as quickly as we can.

Thank you. [Operator Instructions] Our next question comes from Brian Drab with William Blair. Please state your question.

Hi, thanks for taking my questions. And I'm wondering just to build off that last line of questioning on the ATM, in your model, – it's a $150 million potential offering. How much would you use in this year, in the current model, which sounds like maybe the aspirational target is to get second half revenue in line with first half and get these $60 million run rate costs out. I guess you must have some idea how many shares would have to be issued or that would strategically make sense to issue?

Yes, we're not going to disclose. If you think of this as sort of a stock buyback, we'll report how much we've issued at the end of each quarter. But we want to do as little as possible, but we also want to do enough to make sure that we're comfortable getting through this period.

You know what it's a little bit easier to describe what would drive it up and down. I mean, clearly if the pandemic extends and gets worse, and places reclose, and all of that, the restructuring is essential. We'll get through that and look at further efficiency moves which all costs them cash. If revenue lifts quickly and the world recovers nicely, we would certainly rein it back in. So it's probably easier to talk about directly what would drive it to one extreme or the other. But we want to have it in place and ready to go to make sure we can get through this period. Because again, I think, it's a great looking company out the other side of it.

Okay, thanks. And then just one more question for now the support in the channel is what I'm wondering about in terms of the cost cutting. And I know that a lot of sales have been brought in directs now, but can you talk at all about what percent of sales of printers and other equipment is going through the channel and how you will continue to support the channel or if some of these cost cuts are going to maybe be in that area of channel support?

Well, I would – I don't have – frankly speaking, I don't have the detail to share with you, but I would tell you in terms of a business model going forward, certainly the healthcare industry, it benefits greatly from direct sales. There are some channel partners that can help with that, but there is a great deal of it that does benefit from direct sales. So we will have a direct salesforce servicing a great deal of that market. In industrial we'll have a mixed model, some direct sales, some channel sales, and then for geographic coverage, we'll certainly have a network of channel partners as we do today. So I think we’ll drive some efficiency now, as we look at organizing by these market verticals, because in the past we've had basically separate sales organizations and channels to market for software versus hardware platforms. So we'll be able to collapse some of that and then take some of that efficiency and build out our direct sales model with these market verticals. So I don't have specific numbers to share with you, but directionally that's where we're headed.

Okay, thanks very much.

Sure.

Thank you. There are no further questions at this time. I'll turn the floor back to Jessica Stanfill for closing remarks.

Thank you for joining us today and for your continued support of 3D Systems. A replay of this webcast will be available after the call on the Investor Relations section of our website. Thank you.

Thank you. This concludes today's teleconference. All parties may disconnect. Have a great day.