Good day, everyone, and welcome to Kornit Digital Ltd First Quarter 2017 Earnings Conference Call. As a reminder, today's conference call is being recorded. [Operator Instructions] At this time, I'd like to turn the conference over to Tom Cook [ph]. Please go ahead, sir.

Thank you, Noah. Good afternoon, everyone, and welcome to Kornit Digital's First Quarter 2017 Earnings Conference Call. Before we begin, I would like to remind you that forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and other U.S. securities laws will be made on this call. These forward-looking statements include, but are not limited to, statements relating to the company's objectives, plans, strategies, statements of preliminary or projected results of operations or of financial condition and all statements that address activities, events or developments that the company intends, expects, projects, believes or anticipates will or may occur in the future. Forward-looking statements are subject to known and unknown risks and uncertainties and are based potentially on inaccurate assumptions that could cause results to differ materially from those expected or implied by the forward-looking statements. The company's actual results could differ materially from those anticipated for many reasons, and I encourage you to review the company's filings with the Securities and Exchange Commission, including the company's annual report on Form 20-F filed March 30, 2017, which identifies specific risk factors that may cause actual results or events to differ materially. Any forward-looking statements are made as of this date hereof, and the company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future event or otherwise, except as required by law. Additionally, the company will be making reference to certain non-GAAP financial measures on this call. The reconciliation of these non-GAAP measures to the most directly comparable GAAP measures can be found in the company's earnings press release published today, which is posted on the company's Investor Relations site. On the call today, we have Gabi Seligsohn, Kornit's Chief Executive Officer; and Guy Avidan, Kornit's Chief Financial Officer. And at this time, I'd like to turn the call over to Gabi. Please go ahead.

Thanks a lot, Tom, and hello, everyone, and welcome to our first quarter of 2017 earnings conference call. During today's call, I will review aspects of our performance and progress. I will also provide an update on market conditions. Guy will then walk you through the full financial details for the first quarter as well as state our guidance for the second quarter of 2017. Our first quarter was loaded with meaningful events, starting with the announced agreement with Amazon, which will play an important role in the company's growth for years to come. We then executed on a very successful first follow-on for the company, which was significantly oversubscribed and included a combination of secondary and primary shares. I would like to take this opportunity and thank investors for their vote of confidence in Kornit. The offering resulted in a very significant increase in the number of leading institutions who are now investors in the company. Additionally, we announced in April a global procurement agreement with Cimpress, by virtue of which we have been supplying multiple Avalanche Hexa R-Series systems. Cimpress will be using the new systems in several international production facilities, increasing their capacity and expanding their range of applications. Kornit has partnered with Cimpress for 10 years, and we are thrilled to continue our relationship with them. We are pleased with the non-GAAP revenue growth across all regions, which topped 28% in total, while non-GAAP operating margins in dollars grew by close to 53% and came in at 3.7%. We are pleased with our operating margins achieved on a seasonally lower revenue base, especially in light of the increase in marketing expenses experienced during our attendance of multiple trade shows in all regions during the first quarter. Non-GAAP gross margins were 46.4%, representing a decline of 230…

Thanks, Gabi, and good evening, everyone. Before beginning the financial overview, I would like to remind you that the following discussion will include GAAP financial measures as well as non-GAAP pro forma results. Our first quarter non-GAAP pro forma results reflect adjustments for the following noncash items: stock-based compensation expenses, which totaled $938,000; depreciation and amortization expenses relating to acquisitions of intangible assets in previous years in the amount of $25,000 and $411,000 for the assets of SPSI; revenue adjustments reflecting the warrants issued to Amazon and vested in the amount of $938,000. A full reconciliation of our results on the GAAP and non-GAAP basis is available in the earnings press release issued earlier today and on the Investors section of our website. First quarter non-GAAP revenue increased 28.4% to $28 million versus $21.8 million in the prior year and decreased 17.6% versus the prior quarter as a result of return to normal seasonality. Higher revenues versus the prior year was driven by several items in the quarter, including growth in all our served regions, of which Europe and Asia saw the most significant increase, as well as increased revenue from Allegro system sales to the roll-to-roll market. By geography, 55% of our sales were from the Americas; 29% from Europe, the Middle East and Asia - and Africa; and 16% from the Asia Pacific regions. Moving to customer concentration, our main U.S. distributor contributed 12.1% of our overall revenue compared to 21.2% in the prior year, and a major customer contributed 12.8% of our overall revenues in the first quarter compared to 2.8% in the previous year. Our top 10 customers accounted for 59% of our overall revenue compared to 69% or 48% without SPSI in the first quarter of 2016. Moving to profitability, non-GAAP gross margin in the…

Thank you, Guy. And with that, operator, we'd be happy to take questions.

Thank you. [Operator Instructions] We'll take our first question from Joseph Wolf with Barclays.

Thank you. I wanted to go into a little bit more detail on the Allegro. I think last quarter you gave some - either customer engagements or unit counts. I'm wondering if we could get a little bit more of that. And as you start to recognize revenue, will you break out the contribution from the different end markets?

Well, different end markets right now, I mean, as far as we're concerned, what we're doing in the roll-to-roll space is really enabling, in many cases, a business model that's not been there because printing capabilities were not able to support what it is that we're doing. So breaking it down into segments of roll-to-roll is probably a little bit too early, I would say. What we can do is provide more color on the various types of customers that we have. As I mentioned in the prepared commentary, we've been shipping multiple systems per quarter in the last three quarters. When I say multiple systems, it means multiple systems, meaning not two, but multiple systems is basically several every quarter. As far as customers, number of customers, you are correct that we pointed out that we crossed the 20 customer sites at the beginning of the year. That number is continuously increasing. I would say that the momentum that we see right now gives me all the reason to expect that, that number should grow significantly this year, could go as far as maybe even almost doubling itself at the rate that we're running right now.

Are there any capacity constraints on how many of the Allegros you can build? Or is that just a question of demand right now?

It's a question of demand. I don't see a problem as far as the ability to supply systems. The sales process tends to be a little bit longer. So we do have predictability, which is pretty good, and there's solid manufacturing capability. One of the things that I mentioned again in my prepared commentary is that we're seeing really good reliability from the system. And so it means to me that the production is going very smoothly and the system is performing as it's supposed to perform. Also, just to point out, since we're on the topic, as I mentioned, the ramp-up in ink consumption is something that takes longer in many cases. There is a case that I think I may have mentioned in the past, and if not, maybe I'll reiterate, for instance, of a very interesting customer in India that started using our system at the end of last year and a month later ordered a second Allegro. And what was interesting in that case, as I think I mentioned in the past, was that they're actually fully vertically integrated textile manufacturers working with multiple brands in Europe. And they found that they want to serve a certain market that they're working with so much so that they already ordered a second Allegro and they're running it at pretty high capacity. So that's an example of a quick ramp-up. On the other hand, we've got cases in which we're enabling a new business model. So for instance, without going into too much detail, on Flyeralarm, you heard me talking about the fact that they're going after the garden furniture as well as seat cover market. And the ramp-up there probably takes a little bit longer because it starts addressing a new market for them. So we see - if it's a company that's already existed and this is a new market, it's one kind of ramp-up. If it's someone that's just getting into printing, it's another ramp-up. And if it's someone that's been doing large-scale printing but adding a new variety, then it's something else as well. So it's different. Again, as I said, overall, ink ramp-up takes longer, but we should start enjoying that throughout the year, increased ink revenues coming from Allegro as well.

Okay and just one question on the distribution. I think I got the numbers right, that it was - your large U.S. was 12% versus 22%, which would indicate, even with the growth that revenues were down from the distributor. Can you just talk about trends, their demand profile and how you're integrating or encouraging the pushing of - the move - the transition to digital with the distribution channel in the U.S.?

Sure. First of all, I'll make a general comment. As you know, our largest accounts, and I don't just mean Amazon, we've got multiple large accounts, predominantly in the U.S., and what we've seen from a, I would say, a system buying pattern is that they're usually stronger in the second half of the year. So that's one comment to make about the U.S. And as we've said, all territories grew, meaning all regions grew this quarter. But most predominantly, Asia and Europe grew. And I'd say that the U.S. grew slower than the two other regions. As far as distribution is concerned, I would say that revenues sometimes tend to be lumpy. We have close contact with them. It seems like they are progressing well. We're optimistic on what we see in the second quarter, meaning we see growth coming from the U.S. in the second quarter. So I think in general, I would say that the market continues to be good. As far as how we push the market towards digital, a lot of marketing activity, I would say. We have the ISS show in Long Beach. There's a lot of open house events. They have their own demonstration centers as well. We do demos and open house events continuously and repeatedly. The fleet of demo systems out there is growing all the time. And so that, in turn, helps a lot with creating, I would say, demand and sales volume.

Alright, thanks Gabi.

Sure.

Our next question comes from Ken Wong with Citigroup.

Hey guys. Hey Guy, I'm not sure if I heard properly. Did you say a large customer this quarter accounted for 12.8%? And then if so, is that a new or an existing customer?

That's an existing. We said 12.8% versus 2. -

3% or 4%.

Yeah, previous year, so it's an existing account.

Got you and then in terms of large customers, have you seen - I mean, has the pipeline increased? And have you kind of shaken out some new - kind of new brands or new customers that are looking to do large arrangements similar to what you've seen with Cimpress and Amazon?

Well, there's different stages with, first of all, with existing large accounts. Some of them are doing extensions of their current fleets, and we expect those deals also to happen in the second quarter and continue into the second half. Some of them are extending existing fleets. Some of them are serious about upgrades to the R-Series. Some of them are saying, okay, I want to upgrade my fleet to the R-Series as well as buying new systems because they see the benefit where ink waste goes to below 10%. And in general, it's a decrease of about sometimes up to 20%, makes a lot of sense for them. As far as new large accounts, there's certain activities that are happening, I'd say, all the time and actually in all regions. So it's tough for me to mention something more specific than that. But as far as momentum is concerned, in general we see good momentum. We see that - obviously, we had normal seasonality in the first quarter. As I have mentioned earlier on in my prepared commentary, yes, we did take a certain hit on gross margin, which is associated to the proportionate amount of ink from the overall revenue this year versus last year. But in general, I think we feel quite comfortable right now with what we see from large accounts and from, I would say, materializing of new accounts coming on board as well.

Got it and then I guess the other interesting point you brought up was just this Custom Gateway. How should we be thinking about the monetization opportunity that you guys have on this particular capability?

Yes. As I mentioned, it's not going to be anything big for us, meaning the amount of money that we get per license is quite minimal. The idea here is that we've had many, many cases of customers that come to us and want us to help them set up their operation, many of them in Europe, by the way, that don't have the web experience. The idea behind Custom Gateway as well as other announcements that you're going to see in the next coming quarters is more around creating an ecosystem, which is something very customary with the larger print players in other printing markets I've seen this materialize. And the reasoning behind it is that your user group continues to expand. They want to be able to use all sorts of versatile tools. Having these partnerships is important because then it's Kornit-qualified and integrates well and works in a seamless manner. This does not take away from the things that we're developing internally, which, once they're out there, will be more meaningful revenue-wise. So this is more, I would say, a customer retention and customer satisfaction capability. But I would also say that we've had situations where the customer said, if you could provide us this we'd be buying systems, but without this kind of infrastructure, it's difficult, so it could become a sales enabler in some cases as well.

Got it and then maybe last question on my end. In terms of the revenue range for Q2, I mean, this quarter you guys were probably a little light at the midpoint. When we think about Q2, is it kind of getting to the upper end? Is that just a matter of - I don't know if it's a large customer that deployed something in the quarter, or what gets us on one end or the other?

Well, first of all, we provide a range for a reason, Ken, and I stand behind my guidance always. So $28.2 million to $31.2 million is something we feel comfortable with. What makes the difference in any given quarter, obviously, is revenue timing. So we feel confident, and I want to reiterate that for everyone, we feel confident about 2017 being a very significant growth year for the company. And as I said, the range of guidance we give is something we feel confident about. As far as the ability to go to the upper end, it's always associated with timing of orders. We're in a situation where we're having this call close to the middle of the quarter. Visibility obviously improves. So we feel comfortable with this range.

Got it, thanks a lot guys.

Sure, thank you.

We'll take our next question from Patrick Newton with Stifel.

Yeah, Gabi and Guy, thank you very much for taking my questions. I guess first one, Gabi, is, looking at some recent Amazon patent filings, they're clearly targeting the use of roll-to-roll digital printing with what looks to be a laser cutting system and sewing station. Curious if you could comment on whether your agreement with Amazon has expanded to include the Allegro or if it's mainly just DTG-focused?

So, so far the work has been focused on DTG. We see the patent announcement as well as different interactions with Amazon. It shows the potential that's there. There's nothing specific to report there. And obviously also, there's confidentiality between us and the customer that doesn't allow me to say too much more than that. We have said in the past that we are very much involved in understanding the potential of what the Amazon business could build itself into. It's clear that the move they're making into the apparel world is becoming stronger and stronger. And so I'm not surprised that this patent has come to life, and I won't be surprised if their offering, which is related to roll-to-roll, will grow over time. So for us, this is positive news in the sense that this is a large customer of ours that's growing their offering. And our hope is that what we offer with the Allegro would be very relevant for what they're doing. But there's nothing specific that I can say about that.

Fair enough. And I guess shifting gears to OpEx, you talked again about controlled OpEx in the future beginning to leverage aggressive investments. Is it reasonable to expect that 3Q and 4Q '17 operating margin should healthily exceed prior year comps? And maybe I'm splitting hairs here, but Guy, I felt like you emphasized some operating leverage this year in your prepared remarks. So maybe I'm just hanging on a word too much. But was that kind of tamping down op leverage assumptions, or is there any change there?

Let me just interject here. This is Gabi. So if you remember, we said in our annual conference call when we spoke about 2017 that there would be some operating leverage because we said that we're continuing to invest in the growth of the company but at a slower pace. And as you heard Guy mention, we also said that the OpEx growth rate will be slower than the revenue growth rate. So some OpEx leverage, some operating leverage is exactly what we said before, and we continue to say that. To your question specifically to a particular quarter, obviously I cannot guide to the second half. We're only guiding one quarter forward. I would say, though, that on a higher revenue level, of course, we should be able to see better margins. I won't talk specifically about how it would work vis-à-vis Q3 and Q4 last year simply because it's not in line with how we want to present things.

Okay. And just last one from me, Gabi, is on services. Did I hear you correctly the new target for breakeven is 2018? And if so, can you help us understand the loss that services represents currently and whether or not your long-term profitability target for services has changed?

So service revenues are growing. And on the other hand, we've significantly reduced the growth rate of expenses on services. And so we're still at a loss there. But we've seen, for instance, in particular in this quarter, significant reduction of the percentage of loss in the quarter. So this is in line with what we were hoping to see. What's contributing nicely, and again, as I've mentioned in the past, is the upgrades. Upgrades are becoming a more meaningful part of our revenue. That's very important for us, as well as disciplined warranty management, as well as selling second year warranty and things of that nature. So first of all, we're progressing well in the direction of breakeven. In previous commentary, we spoke about that we've delayed breakeven purposely because we had to make the investment that we've made, and it's turned out to be successful because we have better infrastructure in the field now. As far as the long-term model, I continue to stand behind the long-term model, but first and foremost is to reach on a sustainable level breakeven. And I think that it's going to happen by 2018, could be the early part of 2018 at the pace that we're running right now.

Thank you for taking my questions. Good luck.

Thanks.

We'll take our next question from Brian Drab with William Blair.

Good evening, thanks for taking the questions. Just first, building on that last question, does the breakeven goal in services have to do with the timing of certain recognized service revenue from Amazon as well? And can you talk about that timing?

Timing of service revenues from Amazon, well, we have a service agreement with Amazon which continues - which kind of - I would call it a moving target in the sense that, as we deliver systems, they come with warranty and then it extends into an extended warranty agreement. So there's not like, I would say, a lump sum that all of a sudden starts to appear. It gradually grows, of course, as systems will start moving out of initial warranties and they will start - the representation, I would say, of service revenues from Amazon, of course, will be there. What's going to be meaningful is with - also with large customers such as Amazon and others is that once they decide, and many of them are looking at this seriously, to upgrade existing installed base, that in turn becomes also meaningful service revenues. So there's not like a singular event that all of a sudden switches that. This is a continuous progress as we go. And as you heard, we just announced the R upgrade for the Avalanche after we did that for Storm. You're going to continue to see Kornit do that and then start to see more and more demand for that.

Okay. And then on the topic of the upgrades, can you give us any sense for - now you have an upgrade program for the Storm, you have an upgrade program for the Avalanche. Any sense for how significant that installed base is for either of those machines? And when we look across your total installed base, any clue as to what percentage of the installed base is Avalanche and Storm machines that are upgradable?

So the Storm machines that are upgradable are Storm II. So for instance, in our installed base, we have Storm I. Those are not upgradable. Storm II, we have a few hundred in the field, and also Avalanche, because it's the Avalanche 1000 as well as the Avalanche Hexa. There's also well over 100 units out there, or even more than that. So as far as the addressable market, it's quite significant. What we see, which is natural, is that the first customers that take these upgrades become very good reference sites. And so the data materializes, and that becomes very effective selling material for other customers that want to do this. Some have even decided - some have decided, for instance, okay, upgrade an existing system. Let me see how it operates. So when I buy my next systems, I'll decide whether it's the older or the newer version. And some have said, you know what, this data looks meaningful. I'll just - in my next purchases, I'll buy the R-Series and let's go ahead and upgrade my existing system. So this is meaningful. It's already at a rate of multiple upgrades per quarter, without going into exact details of numbers. And I see that momentum, actually we plan for it to increase, and I see exactly why it will.

Okay. Even though you just said that you don't want to go in exact details regarding the numbers, but multiple per quarter, is that multiple customer sites, or you're saying more than a few machines per quarter so far?

Multiple machines per quarter, sometimes it's more than one customer site. It depends.

Okay and then just one last question for me. So there is slightly greater than $900,000 in fair value of warrants. Last year, I believe it was about $2 million in fair value warrants for close to $20 million in revenue associated with Amazon. Is that ratio not applicable now because of the - I would guess, just because of the significant volatility in the stock lately relative to last year, maybe the warrants have a higher value assigned to them? Can you comment on that at all?

Yes, you actually touched a point, because in the first quarter the share price was higher. The warrant valuation was higher as well. So you cannot really extract or find any correlation between warrant valuation in the first quarter and in the fourth quarter of 2016 just because the share price was so different.

Okay, thank you.

Thanks, Brian.

[Operator Instructions] We'll take our next lesson from Jim Ricchiuti with Needham & Company.

Hi, I may have missed it. Did you give an update on Vulcan?

No, we didn't mention Vulcan. But if you're asking, I will provide an update. We recognized another Vulcan during the first quarter. We're in the process of completing acceptance of another one. We're showcasing the product. There's a few customers that are in active discussions with us. And inherently, as I said before, because of the price of the system, the sales process tends to be a little bit longer. What's most meaningful to me is that I see the production rates at the various facilities, and those look good. We're seeing continuous improvement of performance there with some improvements that we've made to the system as well as software that's come out. So overall performance of the Vulcan is continuing to get better, but again, the sales process is a little bit longer with that. So that's the current situation.

Got it. And Gabi, with respect to Allegro, is it possible for you to give us either the number of customers with multiple machines or to what extent you are - what percentage of the installed base of Allegro has multiple machines?

I believe - I'm going to count this in my brain now, so maybe I'll get in trouble, but I believe - I think we have by now 1, 2, 3 - if I'm not mistaken, we have four customers with more than one system, on Allegro.

Okay. And then the customer concentration, you alluded to the 2 customers in Q1. Was one of those customers also the same large customer that you had in Q4?

Yes.

Yes.

So how do we think about customer - is this part of a deployment that they're in? Is this going to be somewhat lumpy or is there some runway over the next quarter with this same customer?

Well, I'll say the following. I think it's a matter of a few things. One is, when you're extending deployment in an existing site, then there's a certain path in which you're constantly ramping up that particular site. There are situations where there's a new site being opened. And so you have an initial installation, which is small, and later on you see the proliferation, right. That's quite normal with capital equipment and here is just the same. So this is - as far as lumpiness, yes, that does create lumpiness from one quarter to the next with large accounts simply because the deployment rate is influenced by many things, projects that take place, infrastructure, real estate, et cetera. So there's many things that go into that. I did mention, unrelated, on my prepared commentary, when I did mention specifically in my prepared commentary, Amazon, I said that we had supplied some systems in Q1 and that we expect to continue in Q2 but that we expect in their case, and there's other large accounts as well, as you know, in their case we expect a stronger second half, is something that I mentioned in my prepared commentary.

But this other customer, you really can't give any kind of granularity about how we should think about the next one to two quarters other than what you were just saying?

Yes. Unfortunately, I cannot.

Okay, that's it for me. Thank you.

Okay, thank you.

[Operator Instructions] And we'll take a follow-up from Brian Drab with William Blair.

Just one quick one, was that Vulcan that was sold in the quarter to a customer that already had a Vulcan or a new customer that did not have a Vulcan?

This was a revenue recognition. So the installation - Guy, when did the installation take place?

Yes, it's a new customer. It was not one of the customers that participated in the beta test.

Do you have any customers that have more than one Vulcan at this point?

Yes.

Okay, thank you.

And that will conclude today's question-and-answer session. I would now like to turn the call back over to Gabi Seligsohn for any additional or closing remarks.

Thank you, operator. With that, I'd like to thank everyone for joining today's call and look forward to seeing you at the next quarter.

And that will conclude today's conference. Thank you for your participation and you may now disconnect.