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Edited Transcript of PRLB earnings conference call or presentation 27-Apr-17 12:30pm GMT

Thomson Reuters StreetEvents

Q1 2017 Proto Labs Inc Earnings Call

Maple Plain Apr 30, 2017 (Thomson StreetEvents) -- Edited Transcript of Proto Labs Inc earnings conference call or presentation Thursday, April 27, 2017 at 12:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Jason Frankman

Proto Labs, Inc. - Controller

* John A. Way

Proto Labs, Inc. - CFO and EVP of Development

* Victoria M. Holt

Proto Labs, Inc. - CEO, President and Director

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Conference Call Participants

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* Brian Paul Drab

William Blair & Company L.L.C., Research Division - Partner and Analyst

* Daniel Jacob Baksht

Pacific Crest Securities, Inc., Research Division - Associate

* Gregory William Palm

Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst

* James Andrew Ricchiuti

Needham & Company, LLC, Research Division - Senior Analyst of Advanced Industrial Technologies and Display, Vision and Imaging Technologies

* Jon Michael Fisher

Dougherty & Company LLC, Research Division - Senior Research Analyst

* Troy Donavon Jensen

Piper Jaffray Companies, Research Division - MD and Senior Research Analyst

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Presentation

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Operator [1]

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Greetings, and welcome to the Proto Labs' First Quarter 2017 Earnings Conference Call. (Operator Instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr. Jason Frankman, Controller for Proto Labs.

Thank you, Mr. Frankman, you may begin.

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Jason Frankman, Proto Labs, Inc. - Controller [2]

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Thank you, Michelle, and good morning, everyone. This morning, before the market opened, Proto Labs issued a press release announcing its financial results for the first quarter ended March 31, 2017. The release is available on the company's website at protolabs.com.

Before we get started, during the course of this conference call, the company will provide financial projections and make other statements about its business that are forward-looking and subject to many risks and uncertainties that could cause the actual results to differ materially from expectations. A detailed discussion of the risks and uncertainties that affect the business is contained in the company's annual report filed on Form 10-K and other SEC filings, particularly under the heading Risk Factors. Copies of these filings are available online from the SEC or on the Proto Labs' website.

The company's projections and other forward-looking statements are based on factors that are subject to change, and therefore, these statements speak only as of the date they are given. The company does not undertake to update any projection or forward-looking statement.

In addition, to supplement the GAAP numbers, we have provided adjusted revenue growth, adjusted operating income and adjusted net income and basic and diluted net income per share information on a non-GAAP basis.

Adjusted revenue growth excludes the first quarter 2016 impact of unprofitable Alphaform 3D printing contracts and discontinued resin resale business as well as discontinued manufacturing processes in each of the periods presented.

Adjusted revenue growth measures also include revenue calculated on a constant currency basis for the 3 months ended March 31, 2017, to provide comparable year-over-year metrics. The non-GAAP adjusted operating margin and non-GAAP adjusted net income each exclude the cost of stock compensation, amortization of intangibles, and unrealized foreign currency activity. We believe that these Non-GAAP metrics provide meaningful supplemental information, are indicative of our core operating results and are helpful in assessing our historical and future performance. Tables reconciling the GAAP information to the non-GAAP information are included in our financial release.

Now I'd like to turn the call over to Vicki Holt, President and Chief Executive Officer of Proto Labs. Vicki?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [3]

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Thank you, Jason. Good morning, everyone. Thank you, for joining us on our first quarter conference call.

With me today is John Way, our Chief Financial Officer and, Dan Schumacher, Director of Investor Relations and Financial Planning and Analysis.

Dan joined the company within the last 2 weeks and has jumped right in. In the couple of months -- in the coming months, many of you will be getting to know Dan, as you interact with our team about our business. We're thrilled to have Dan on board.

We reported record revenue growth and solid earnings in cash flow in the first quarter, and are off to a great start in 2017. Before we go into details of our financial results and operating performance, I would like to honor, Larry Lukis, as he has decided not to seek reelection as our Chairman of the Board.

Larry pioneered the software that has formed the backbone of Proto Lab's digital manufacturing model and enabled our growth from a small startup to a global public company that is focused on helping companies and individuals with their products to market as fast and efficient as possible. All of the Proto Labs stakeholders are very grateful to Larry for his strategic vision and leadership.

As our founder, Larry is very supportive of Proto Labs and will continue to be one of our largest shareholders. He'll be taking a step back, to enjoy his other entrepreneurial interest, recreational passion, such as sailing and spending more time with his family. We will remain -- he will remain available for consultation and will continue as a Head Judge of our Cool Idea! Award program. I'm truly privileged to have had the opportunity to work with Larry over the past 3 years and honored to have the opportunity to continue to expand the vision he created when he started this company 18 years ago.

Long time board member, Sven Wehrwein, will serve as Larry's successor as Chairman of the Board of Directors. Sven has served as the board's independent Lead Director since 2011 and has more than 35 years of experience as an Investment Banker, Chief Financial Officer and Certified Public Accountant.

Moving to the financial results. Revenue in the first quarter was a record $80.2 million. This represented an increase of 10.5% over the prior year and was above the high end of the range of our guidance for the quarter.

Adjusting for discontinued services and the impact of foreign currency, revenue growth was 13.9% over the prior year.

Looking at a breakdown by geography. Revenue in the U.S., our largest market, returned to double-digit growth at 10.5%. Revenue in Europe increased 8.8%, reflecting the negative impact of foreign currency exchange rate. At constant currency, revenue growth was 15.1%. Japan grew 21.2%, or 19.8% in constant currency.

Overall, the fluctuation in constant foreign currency exchange rate had a negative $1 million year-over-year impact on our reported revenue.

In terms of revenue by service, injection molding increased 11.0% over the prior year. CNC machining grew 16.4% and 3D printing grew 10.7% from the prior year. Our solid revenue growth was driven by an improved economic environment, combined with the initial traction from our sales initiative. As we stated in the past, we are an on-demand digital manufacturer and our revenue can vary from quarter-to-quarter. This revenue -- this quarter was no exception.

During the quarter, we benefited from a few large one-time orders in Europe, and a final magnesium injection molding order that lifted us above our revenue guidance.

Overall, our revenue growth was in line or exceeded our expectation in all our services and all geographies with one exception. 3D printing revenue in Europe was essentially flat with prior year, which brought down our total 3D printing growth rate to 10.7%. European 3D printing growth rate was negatively impacted by foreign currency and terminated contract. However, even adjusting for those factors, our revenue this quarter in this service was below our expectation.

This performance is impacted by challenges in improving the operation of the equipment to our standard, combined with 3D printing market dynamic in Europe.

We have a dedicated team, focused on solving these challenges, led by a new General Manager in Germany, and our global 3D printing Product Manager.

GAAP net income was $12.2 million in the first quarter or $0.46 per share. On a non-GAAP basis, net income was $13.6 million or $0.51 per share, which was also above the high end of our guidance range. Our favorable revenue performance, combined with a disciplined approach to adding resources and investments, allowed us to achieve earnings above our guidance.

We continue to experience strong cash generation, with cash provided by operations contributing $18.8 million resulting in an increase in our cash and investment balances of $8.6 million to $201.3 million on March 31, 2017.

Overall, we are pleased with our financial performance this quarter. We experienced strong growth in each of our regions and in each of our services. We expanded both gross margins and operating margin. And we continue to generate strong cash flow.

Now I'd like to update you on our priorities. As we mentioned on our last call, we have 3 key priorities for 2017. Driving productivity of our sales and marketing activities to bring in more product developers, continued envelope expansion of our existing services to be able to fulfill more of our customers' needs, and continue to improve our already strong gross margin. We continue to invest in our sales resources to increase the number of product developers we serve and drive revenue growth. We've identified a new Vice President of the America's sales team, and he'll be starting in May.

In the first quarter, we served 14,801 product developers, an increase of 11.7% over the prior year. We're still early in the execution of some of our sales initiatives and expect to see additional improvement as the year progresses. But it's nice to see the metrics moving in the right direction. Continuing through expanding envelope within our existing services will help us fulfill more of our customers' needs. During the quarter, we added insert molding to our injection molding capabilities and added PolyJet technology to our 3D printing suite of services.

Adding insert molding is in line with our historical investment in envelope expansion to increase the breadth of our capabilities to serve our customers. With the addition of PolyJet technology, we're excited about the ability to provide a total concept-to-production solution, for customers seeking overmolded and elastomeric material. This technology serves as a key need for many customers and will pull through revenue from other services, as we provide a total solution to our customers. As an example of this total solution, customers can now do -- use 3D printing, including PolyJet technology, to produce a prototype of an overmold design before progressing to an injection molding process, for their overmolded parts.

Another example, with the addition of PolyJet technology, we were able to make all of the components of a J&J product and deliver a functional model, which allows them to iterate very quickly and finish their project months ahead of schedule.

PolyJet revenue, associated with this individual order alone, was not significant, but the ability to provide a total solution delivered tremendous value and will help us expand our relationship with our customers.

We continue to utilize our voice of customer feedback to guide our envelope expansion to provide complete solutions for our customers. As we expand our capabilities, I will provide further details as the year progresses.

Finally, gross margin remains strong and reflected steady improvement from 55.7% in Q4 of 2016 to 56.5% in the first quarter. We are off to a strong start to our fiscal year, with double-digit revenue growth across all services and we'll be focused on executing on our priorities as the year progresses.

With that, I'd like to turn the call over to John.

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John A. Way, Proto Labs, Inc. - CFO and EVP of Development [4]

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Thank you, Vicki.

Revenue was a quarterly record $80.2 million in the first quarter, an increase of $7.6 million or 10.5% over the same quarter in 2016. Adjusting for the impact of discontinued services and terminated contracts of $1.3 million, and the negative impact of foreign currency exchange rates of $1 million, revenue growth was 13.9%.

Gross profit for the quarter was $45.3 million, an increase of $5.6 million or 14% over the comparable quarter of the prior year. Gross margin was 56.5% of revenue. This compares with 54.6% in the first quarter last year and 55.7% in the fourth quarter of 2016. This improvement in gross margin was a result of our favorable revenue and our continued focus on Proto Excellence, our continuous improvement program.

Our 3D printing business in Europe had a negative 220-basis point impact on our gross margin for the quarter, and continues to be an area of opportunity and a priority for the year.

Operating expenses totaled $27.6 million or 34.4% of total revenue in the first quarter of 2017, representing a sequential increase of $2.1 million. This increase includes continued investment in sales and marketing to drive revenue growth, continued investment in research and development to drive envelope expansions and other software enhancements and an increase in our employee incentive compensation expense as compared to the fourth quarter.

Within our operating expense, sales and marketing expense was $13 million or 16.2% of revenue. These expenses were slightly lower than anticipated due to the timing of certain investments. A strong revenue growth this quarter, combined with the improvement in gross margin, resulted in operating income of $17.7 million or 22.1% of revenue in the first quarter, compared to $15.1 million or 20.8% of revenue in the same quarter last year.

Net income totaled $12.2 million, resulting in diluted earnings per share of $0.46. Adding back the after-tax cost of stock compensation, amortization of intangibles and the effect of the unrealized losses on foreign currency, our non-GAAP diluted earnings per share in the quarter were $0.51.

Our reported earnings per share were above our guidance range driven by revenue coming in above our expectations, combined with the timing of certain sales and marketing investment.

Now turning to our cash flow. We generated $18.8 million in cash from operations. Capital spending was $7.8 million during the first quarter. We also began executing our recently announced stock repurchase program acquiring 49,700 shares of our stock in the open market during the quarter. With the continued strong cash generation of our business, our cash and investment balance increased $8.6 million during the quarter, to $201.3 million on March 31, 2017.

Now I'd like to turn to our expectations for the second quarter. We currently expect Q2 revenue to be in the range of $77 million to $83 million. Adjusting for the impact of discontinued services and foreign currency exchange rates, this guidance represents revenue growth of 6% to 14%. Our guidance reflects the following factors. Q2, 2016 included $1.5 million of revenue from discontinued metal and magnesium injection molding and revenue distribution. We estimate foreign currency will have an approximately $1 million negative impact on our Q2 revenues compared to the prior year.

As we look at sequential revenue, Q1, 2017 included $550,000 of revenue from a final magnesium injection molding order that won't recur and $1.5 million of large one-time orders in Europe. Q2 revenue will also be impacted by the timing of public holidays, including Easter, resulting in 4 less working days in Europe compared to Q1.

Moving to earnings guidance. We estimate gross margin to be in line with Q1. We will expanse in the increase in sales and marketing due to the timing of investments, and increased trade shows and other marketing programs that are occurring in each of our geographies in the second quarter.

Our non-GAAP add backs for the quarter will include stock compensation cost of approximately $2 million and amortization of $125,000. We currently estimate our tax rate to be approximately 32% in Q2.

Taking into consideration all of the above, we expect our non-GAAP EPS to be between $0.45 and $0.51 per share in the second quarter.

That concludes our formal remarks. Now Vicki and I will be happy to take your questions. Michelle, can you please open up the line for Q&A?

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Troy Jensen with Piper Jaffray.

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Troy Donavon Jensen, Piper Jaffray Companies, Research Division - MD and Senior Research Analyst [2]

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Congrats on the broad-based recovery here. Hey Vicki, if you and I can just take a second and maybe pause and look back into kind of the second half of 2016, do you have any new thoughts on what really caused kind of the slowdown in Proto Labs? Was it industrial kind of weakness? Was it competitive risks or sales execution? Just curious you got any new revelations on what drove weakness?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [3]

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Yes, I don't know about revelations. I really don't know if there is much a difference to what we said. I think there has been some -- there were some impacts from economy -- the economy. And the bigger we get, the more we feel that. I also believe that we're putting in place a lot of changes in our sales organization in North America, sales leadership changes, on a number of new sales managers. And frankly, a lot of new sales people, as they begin to ramp. So I think there was a combination of both of those. It's difficult to tell where each had a bigger impact. But we certainly are starting to see the needle moving with some of the changes we put in place in sales in North America, and beginning to see some of the -- some early signs of leading indicators that are showing that those moves that we took are going to be taking effect here in 2017.

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Troy Donavon Jensen, Piper Jaffray Companies, Research Division - MD and Senior Research Analyst [4]

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Okay, perfect. And did you add these numbers -- but did you guys quantify the big orders out of Europe? Did I hear $1.5 million?

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John A. Way, Proto Labs, Inc. - CFO and EVP of Development [5]

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Yes, yes. It's approximately $1.5 million in Q1.

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Troy Donavon Jensen, Piper Jaffray Companies, Research Division - MD and Senior Research Analyst [6]

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And that was just a one customer buying a variety of products?

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John A. Way, Proto Labs, Inc. - CFO and EVP of Development [7]

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No, it was a few large orders that came through.

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Troy Donavon Jensen, Piper Jaffray Companies, Research Division - MD and Senior Research Analyst [8]

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Okay. How common is it John do you guys get those big -- those size of orders?

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John A. Way, Proto Labs, Inc. - CFO and EVP of Development [9]

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It happens periodically, and the difficult challenge is predicting it. So when we get those large orders, that are clearly one-time and related to a specific program, it is difficult to include them in a forecast going forward. They do happen then and they pop up.

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [10]

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And it's one of the great values we bring. I mean, that's the beauty of being an on-demand manufacturer. And we have some customers who really take advantage of our model and work with us both on the innovation and the development of the product. But then we're very much involved with the startup often because it takes a long time to get production tooling. So we'll very often be part of the bridge tooling so the company can actually get to market quickly, use this for production. And then later, as their volume grows, they may move to different kinds of manufacturing service providers. So it is common, it's impossible to predict.

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Troy Donavon Jensen, Piper Jaffray Companies, Research Division - MD and Senior Research Analyst [11]

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Right, understood. And maybe for John or Vicki here. Your business model target, I think historically, you guys have always had a revenue kind of growth objective and then (inaudible) away from that, second half of last year. Just curious to know if there is any kind of revenue targets we should look for? And then, John, specifically on like business model, is there any operating target, I think, post the Alphaform acquisition you haven't really endorsed a business model?

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John A. Way, Proto Labs, Inc. - CFO and EVP of Development [12]

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Yes, so I think, consistent with our historical practice, we'll continue to give quarterly guidance. I think as we've talked about before, we firmly believe in the market opportunity, and the available market out there. We know it's large. And we're targeting ourselves and pushing ourselves to capture on more of that opportunity. But what we're looking at you know where are we currently performing, where is the economic environment, and we're providing quarterly guidance on that related to the revenue growth. So for your models, I would look at the recent trends and where we've been performing, and signal off of our guidance from Q2. On the rest of the operating metrics, I think we've provided some guidance on our gross margin in the first quarter. And we're still targeting that. I will say that a big component of achieving that gross margin range of 58% to 60% by the end of the year, included an improvement in Alphaform that was predicated on revenue growth in 3D printing. And with the softer revenue growth in that service, that maybe a little bit at risk. But we're still driving our other Proto Excellence and other initiatives that continue to drive up our gross margins as we go through the year. Sales and marketing, I think, will continue to be at that high-end of the range we've talked about, near that 17% of revenue on a GAAP basis with the other line items in line we'll talk about.

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Operator [13]

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Our next question comes from Brian Drab with William Blair.

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Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner and Analyst [14]

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Just on the 3D printing in Europe, just to follow on there. You mentioned the terminated contracts. We know there were contracts a year ago that were -- roughly a year ago, that were terminated. But it's kind of sounding like you saw something sequentially that is changing your expectation for the year, and the impact that you can see from that business having on the gross margin improvement. Is there something sequentially and were there other orders or other contracts that were terminated?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [15]

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I don't really think that there is anything sequential. I think what we were counting on and projecting a fairly big jump in revenue growth in 3D printing, consistent with some of what we saw when we acquired the Fineline business. And so when we look at what's happening there, the strength of our 3D printing business in North America, frankly, is in part, based on our operational excellence. We are, we believe, the best in operating 3D printing equipment, efficiently, effectively and produce very, very high-quality products. We are translating that and bringing that technology and that operating excellence into our German operation. It's taking a little bit longer for us to realize the benefits of our manufacturing Proto Excellence operating model in 3D printing manufacturing in Germany, more than we expected. So it's just taking a little bit longer for that equipment to be operating really at our standard, our standards of cost and our standards of quality and our standards of reliability. And secondly, we're learning about the European 3D printing market. The dynamics are a little bit difference. The competitive nature is a little bit different. We really believe that Alphaform, before we acquired them, had a pricing model that wasn't consistent with the same pricing model that we have at Proto Labs. We've adjusted that. And we've adjusted the pricing model to reflect how Proto Labs' prices in other regions of the world. And I think our competitors have not reacted to that quite as quickly as we would've liked to see. I think they will because, I think, it reflects the value that 3D printing can deliver to a -- to the customers. So I think, those are the couple of the dynamics that we're seeing in that marketplace, and seeing those play out. We've got a great team that's focused on the operational issues that we've got and making sure we're making the quality and the cost targets that we've got for that business. And we'll be watching the market closely.

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Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner and Analyst [16]

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Thanks. So if I understood correctly from the previous set of questions, the 58% gross margin exiting the year is somewhat of a stretch goal at this point?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [17]

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Yes, the bigger -- the biggest lever we had for getting to that 58% was improving the gross margin on -- of our German 3D printing business. I think, John, negative impact...

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John A. Way, Proto Labs, Inc. - CFO and EVP of Development [18]

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Yes, there is 220 basis points in Q1. So I would say, and we're still targeting that. We're still pushing for it. But it's likely to be at the low end of that range and it is potentially at risk.

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [19]

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We're confident that we can get those margins improved but the volume has to come with it. We've got a lot of available capacity, both in terms of equipment and frankly, your fixed cost, people in Germany that needs to be utilized. So we've got the drive -- drive the volume through the operation.

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Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner and Analyst [20]

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It's not like you're that far away from it in the first quarter either. You're almost 57% now, so we're talking about -- if it's not 58%, then it's -- you're approaching that, at least.

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John A. Way, Proto Labs, Inc. - CFO and EVP of Development [21]

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Yes.

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Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner and Analyst [22]

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That's fair, okay. And then, based on the first 4 months of the year, just wondering if you could just talk a little bit about what your sense of the macro backdrop is, this year versus last year? You've these big declines in some of your orders -- your company customers in energy and industrial machinery, et cetera. What are you expecting at this point? And what are you seeing in terms of spending behavior this year versus last?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [23]

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This -- from a macro point of view, the sentiment in industrial markets is actually quite positive particularly here in North America. So people are optimistic. In terms of industries that were strong for us in the first quarter: auto, lighting, aerospace, were all really strong segments for us. But we actually saw each of our industry verticals performed quite well. There was nobody that was significantly off year-over-year. It's a good environment, it's a solid environment. I am anxious to see how the year progresses as we move through Q2. But it was good.

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Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner and Analyst [24]

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Did you see some recovery in any of these energy customers that were down big last year?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [25]

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A little bit in energy. Energy was, yes it was a little bit of recovery in energy. Not as big as what we saw. We saw really strong automotive, lighting, and aerospace. Again, automotive space, we tend to play a lot with the very innovative, on leading-edge markets, so a lot with electric vehicles, autonomous vehicles, where there is a lot of iteration and development that's taking place. And there is -- there we saw some strong market.

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Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner and Analyst [26]

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And this is the last question from me. I know that we've made some new hires in the sales team. 16% to 17% GAAP selling and marketing as a percentage of sales is what I think the guidance was for the year. Can you still stay within that range?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [27]

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Yes.

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John A. Way, Proto Labs, Inc. - CFO and EVP of Development [28]

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Yes, I think, Q2, we might be definitely on the top end of that and maybe a little bit over just because of the timing of some of the marketing programs. But as we look full year, I think, that is the right range. And likely to be at the high end of that.

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Operator [29]

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Our next question comes from Jim Ricchiuti with Needham & Company.

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James Andrew Ricchiuti, Needham & Company, LLC, Research Division - Senior Analyst of Advanced Industrial Technologies and Display, Vision and Imaging Technologies [30]

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Wondering if you could just pick up on the larger orders that you saw in Europe in the quarter? What vertical, what kind of customer did that come out of? And I understand these are unpredictable and very difficult to forecast. But John, to what extent are you able to perhaps pursue this type of business a little bit more aggressively? And maybe add some more consistency to this part of the business? Or is it just simply kind of one-offs?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [31]

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Jim, we love this kind of business. We pursue it very aggressively. We pursue it very aggressively. So the verticals on a couple of them were on the automotive, and one was a robotic kind of drone program. So those are the verticals. And we absolutely pursue that. And we more and more talk to our customers about working with us all the way from innovation, all the way through to low-volume production as they bring their products to market. That's a big part of positioning. And as we become more of a total solution to our customers, it makes that easier for us to drive those plays. Again, within Europe, the size of the sales revenue is lower in Europe, so when we have these big programs, as a percentage, is a bigger piece than it is in North America. And we have a larger customer base in North America. So as you see less of that volatility actually called out here because of the larger base. But we absolutely pursue that business. We love that kind of business.

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John A. Way, Proto Labs, Inc. - CFO and EVP of Development [32]

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And Jim, as far as the predictability and pursuing it, it comes with the relationships with customers. But some of them are -- their tool is light for their large volume, so they're using us in the bridge tooling fashion, right. And that's when the orders come through in the tool we've already made. They're not planning for it, which is what drives the outlier nature of it and the spike that we see.

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James Andrew Ricchiuti, Needham & Company, LLC, Research Division - Senior Analyst of Advanced Industrial Technologies and Display, Vision and Imaging Technologies [33]

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Sure. And these were -- were they each existing Proto Labs' customers?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [34]

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One of them was new. The other 2 were existing.

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James Andrew Ricchiuti, Needham & Company, LLC, Research Division - Senior Analyst of Advanced Industrial Technologies and Display, Vision and Imaging Technologies [35]

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So it sounds like perhaps there were drone or was it robotics coming, can it be -- was that a new customer?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [36]

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Yes, I'm not going to go into the detail of that. I mean, that happens a lot to me. Sometimes we get an entrepreneur or a brand new product company that has a single product, and they work with us all the way from design through to commercialization. And if it's a successful program for them, we can reap the benefits of that. And we have -- as you know we've democratized the buying of parts, and it was from the entrepreneur to a Fortune 50 Company.

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James Andrew Ricchiuti, Needham & Company, LLC, Research Division - Senior Analyst of Advanced Industrial Technologies and Display, Vision and Imaging Technologies [37]

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Got it. The 3D printing business in Germany, it sounds like you want to begin to employ the same processes that you've done successfully here, in the U.S. market, with Fineline. But I'm also wondering, are the competitive dynamics in that market just a little bit more challenging, where this could take a little bit more time?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [38]

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Yes. The answer is yes. The competitive dynamics are a little bit more challenging on -- in Europe and I'm carving out our differentiation there is going to take the execution of our operating model as well as our user experience across our website, and the help customers realize the benefit of both of those. And it's going to take a while for us to get that message into the European market, so that our true sources of differentiation can, in fact, drive the revenue growth.

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James Andrew Ricchiuti, Needham & Company, LLC, Research Division - Senior Analyst of Advanced Industrial Technologies and Display, Vision and Imaging Technologies [39]

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So is the market just very competitive from a pricing standpoint or are there players in the market that have been able to perhaps differentiate themselves a little better? And if that's what you're working toward?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [40]

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Yes, I think that there is -- there are some different pricing dynamics, some of which, frankly, I think outperforms before the acquisition may have been part of that, with some of the dynamics. As you know, we bought the asset out of -- in a distress manner with some of the pricing activities that were taking place in that business. So we've adjusted for that. And we've got appropriate pricing models going forward. And I think it's taking a while for the market to adjust to that.

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Operator [41]

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Our next question comes from Steve Dyer with Craig-Hallum Capital.

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Gregory William Palm, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [42]

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It's actually Greg Palm on for Steve. On the revenue side for Q1, even if you strip out sort of those large orders, by my math, you still maybe outperformed and came in at the top end of the guidance before. Can you maybe talk a little bit about sort of what drove the upside and maybe it'll help if you sort of went through what the cadence of sales looked like throughout the quarter?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [43]

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Well, typical in our first quarter, sales revenue actually continues to ramp with the quarter. January is normally the weakest month out of the quarter. People coming back from holidays. Just getting their program started. Starting their new budgets. And you kind of get it moving up all the way with March being the stronger of the 3 months. So that's kind of how the month move forward. We just had again strong performance in each of our regions and across each of our industry verticals. And that, coupled with the -- a couple of outliers, did move us toward that -- to the above or high end of our guidance.

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Gregory William Palm, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [44]

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And I know that you've been focused on sales and marketing a lot. Curious whether you think any of the efforts there contributed to the outperformance? Or that's maybe a longer term effort?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [45]

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I believe it's beginning to contribute to the performance. Made a lot of changes here in North America, with our sales management, changes with adding sales people, putting in place disciplined sales process and use of our tools to move customers through the sales process. And that, I believe, is beginning to have an impact. It's in the early innings on that, because of behavior changes and disciplined approaches and building a stronger, better customer relationship. But I do believe, as I mentioned, I think the metrics are now moving in the right direction and it's nice to see that.

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Gregory William Palm, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [46]

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Got it. I wanted to shift gears to the 3D printing side. You know you've added PolyJet recently. Curious, if you're looking at adding additional technologies there? If that would maybe sort of help the competitive dynamics and can you remind us your exposure on the metal side versus plastics?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [47]

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Yes. Okay so. Yes, we are -- we're technology agnostic. So we are always looking at new technologies that would fill needs that our customers have for prototypes and parts. So we are looking at other technologies. I think we've mentioned before. We're a partner with Hewlett-Packard with the launch of their Jet Fusion technology. We have not fully launched that. We're still in development with it. But it looks very promising. And it looks, just many of the claims that they made it as they launched that product, will provide benefit to our customers. So we'll be looking to launch that later this year as we get more experienced with the technology and know that we can produce reliable parts using Jet Fusion. In terms of metal, we have a direct metal laser sintering both in North America and in Europe. That business is growing well. It is smaller than our plastics business, but again, growing at a nice clip. It was launched later. Our Fineline business started with stereolithography and then added selective laser sintering and then direct metal laser sintering wasn't added until 2014 in that business. So we're seeing strong growth across each of those services.

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Gregory William Palm, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [48]

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Is it fair to say that metals is growing faster than plastics?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [49]

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Yes, it's -- and again, quarter-to-quarter, there is variability on that. But in general, over the longer term, I would say, yes.

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Gregory William Palm, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [50]

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Okay. Last one, cash keeps piling up on the balance sheet. I think that's a pretty good problem to have. But how are you thinking about uses for that going forward?

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John A. Way, Proto Labs, Inc. - CFO and EVP of Development [51]

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Yes, consistent with our discussions previously, we're going to continue to invest in the business. As both in the form of the equipment and facilities, as we continue to grow as well as research and development. But as you've identified our cash generations from our operations can more than fund on that. So we continue to look at M&A. But M&A has to be very strategic for us and to fulfill a need that we can leverage to help serve our customers better. So I'd say we are doing the research and building a team to assess M&A opportunities. But we will not be rolling up service (inaudible) or anything like that. And then, I think, the last would be, at times we would look at returning some of that cash to shareholders and we've recently deployed our stock repurchase program. Essentially to offset some of the dilution from the equity programs we have, but we'll do that opportunistically when we feel the stock is undervalued.

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Operator [52]

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(Operator Instructions) Our next question comes from Jon Fisher with Dougherty & Company.

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Jon Michael Fisher, Dougherty & Company LLC, Research Division - Senior Research Analyst [53]

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The one-time orders, were those in CNC machining area or was that injection molding?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [54]

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I think there was a little bit of both. There was some CNC in there and there was also some IM mold in part.

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Jon Michael Fisher, Dougherty & Company LLC, Research Division - Senior Research Analyst [55]

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Okay. So the double-digit performance is -- there is a good reflection of the macro environment. John, you've commented in the past on some internal data statistics that you have on the kind of the tool and die and CNC machining environment. I know those turned positive during Q1. Can you provide any update as far as like how positive you're seeing those internal statistics and measurements?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [56]

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Yes, actually those are external statistics. And we follow them on it's one, it's not a perfect indicator, but it's one external indicator we take a look at, and the Association for Manufacturing Technology reports on the consumption of -- U.S. cutting tool consumption, and through February compared to prior year, U.S. cutting tool consumption was up 4.5%.

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Jon Michael Fisher, Dougherty & Company LLC, Research Division - Senior Research Analyst [57]

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Okay, thank you. And on the OpEx side, you know one of the comments you made last year is you, obviously, had set up an OpEx budget for a faster revenue growth environment and that was some of the overhang on margins last year, because revenues didn't perform. Based on the last 2 quarters, you seem to have a much better feel from an OpEx spending standpoint. Do you feel like to drive faster revenue growth, even though we're seeing an acceleration and we're up to kind of the mid, high single digit, maybe pushing double-digits at the low end, for some sustainable growth? Do you feel like to get faster revenue growth, you need to spend more, or is that -- are you spending at the right level now? Do you feel and it's just a matter of the macro needs to be better for you to be able to generate mid-teens to 20% revenue growth?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [58]

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Yes. I think we're spending at the right level to deliver double-digit revenue growth right now. Our focus is on improving the execution that's within our sales and marketing spend, and the productivity of that, using both technology tools as well as training and efficiency and the approach that we take to deliver that value to customers. Coupled with continuing the envelope expansions, continuing to provide customers with more of a total solution, is going to allow us to continue to capture share in this market. So we expect to be growing faster than the industry, and we'll have impact by economic fluctuations but, we believe we've got a very unique business model that delivers tremendous value to customers who manufacture and develop products across many industry verticals.

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Jon Michael Fisher, Dougherty & Company LLC, Research Division - Senior Research Analyst [59]

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And Vicki this is a big picture question for you, kind of an opportunity to pontificate here, but you've been leader now for 3 years, a little over 3 years, can you comment on just the competitive environment for Proto Labs? How different is it kind of today than it was when you first took over leadership? How much has it expanded? How much more intense has it gotten? Just your overall view of the competitive environment that Proto Labs is now operating in maybe versus when you first took over leadership?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [60]

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So reflecting back over the last 3 years, I do think that Proto Labs' success, and frankly, even the demands that customers have today for speed and efficiency in bringing their products to market is really causing all of the waters to rise. That does create challenges but it also really creates opportunities as well as more and more companies realize that for them to be successful in the marketplace, they have to be faster. They have to use digital tools. That's going to improve the opportunities for companies -- innovators like Proto Labs, to really be able to deliver that value. So yes, the waters are rising, because the customers are demanding it. And I think, we're visible and our success is out there and we've raised the bar, and others have to continue to follow. But we continue raising the bar too. Adding envelope expansions in for the features to our experience with customers that bring them more of a total solution.

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Jon Michael Fisher, Dougherty & Company LLC, Research Division - Senior Research Analyst [61]

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Okay. And then final question, just will you ever publicly talk about or discuss some of the internal marketing or name recognition or familiarity of Proto Labs in the marketplace? Some of the internal measurement and studies that you had ongoing since you've been there? Will you ever kind of reveal some of those results or data or trends in that information that you've been gathering over the last 3 years?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [62]

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That's a good question. I think perhaps, as we continue to frame and bring out -- where we are relative to competitors and our brand recognition is something we'll have to consider. We have been doing brand studies and continue to make progress in improving both aided and unaided brand recognition both here and in Europe. So we feel pleased with the progress we're making and will have to take that into consideration.

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Operator [63]

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Our Next question comes from Weston Twigg with Pacific Crest Securities.

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Daniel Jacob Baksht, Pacific Crest Securities, Inc., Research Division - Associate [64]

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This is Daniel calling in for Weston. Just -- I'm curious concerning your total solutions approach. How many of your customers now currently use all of your services and do you have a goal?

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [65]

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So we serviced over 14,000 customer companies last year. So I will say as I peruse the top 500 list that I look at each quarter and see how they are doing, a vast majority of that top 500 use every one of our services.

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Daniel Jacob Baksht, Pacific Crest Securities, Inc., Research Division - Associate [66]

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Okay, and then separate question. Giving your expansion in 3D printing and modest sequential revenue growth, have you noticed a change in your utilization rates in 3D printing?

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John A. Way, Proto Labs, Inc. - CFO and EVP of Development [67]

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Yes. I think, Daniel just to provide a little more color there. So when we look at 3D printing and if you bifurcated the Americas versus Europe, we're still growing really nicely in the U.S. So growth was a little over 20% in North America. So I think looking at it from that perspective, we're still growing nicely in 3D printing in North America. The challenge really is in Europe.

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Operator [68]

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Thank you. There are no further questions at this time. I would like to turn the call back over to Vicki Holt for closing remarks.

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Victoria M. Holt, Proto Labs, Inc. - CEO, President and Director [69]

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Thanks, Michelle. Thank you again for joining us today. We remain excited about the outlook for Proto Labs. Our differentiated technology-enabled digital manufacturing platform has demonstrated the ability to help companies and entrepreneurs get their products to market faster than their competition. We continue to innovate with our service offering and technology interface and features to enhance our customers' experience.

I want to thank the Proto Labs employees for their efforts over this past quarter, and I want to thank our customers for their support. We're committed to enhancing our revenue growth and driving greater shareholder value over the long term. And we look forward to reporting to you on our progress during our next call. Thank you.

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Operator [70]

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Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation, and have a wonderful day.