Cognex Corporation (CGNX) Earnings Call Transcript & Summary

Sure. Yes. I think 1 of our top 3 strategic objectives, which we announced last year at our Investor Day was to say we want to double our customer base. And maybe I'll first talk a bit about the rationale behind it, and then I talk a bit more about like where are we on this journey and where we will go next, right I think I already kind of alluded a bit to it, right? If you look back into Conix' histories, in general, I think we have seen on the 1 side, over what 10, 15 years, right, all the way up to 2021, kind of 15% CAGR. But not anywhere close to a straight line growth, actually, very volatile growth. That means very strong growth in peak years but then also contractions in down years. Some of that was clearly also driven by high customer concentration and then by high exposure to more cyclical or volatile end markets. In that regard, on the one side, obviously, we love to be strong with what we call our Tier 1 accounts, and we certainly still love to be in the electronic space. But very clearly, from a management perspective is also to say, like, is their path to diversify the growth engine to drive more consistent growth and less volatile growth. But that's kind of behind the thinking of that expanding the customer base. That means there is a diversification of customer play into here. And not the only angle which we're driving to drive diversification, but that was the first one, which we really tackled the strongest. And here, I think we feel like we have been quite successful in what we would call the land in the land and expand strategy, right? So that means adding 9,000 customers last year that was 3x of what we have been able to add in 2024, adding 4,500 customers in the first half of the year. So that means like this first step, I think we feel like we have built that engine. And was to reorganize our sales organization. That means like first, bringing all sales organization into 1 team, but then have specific profile. So that means like if 1 seller profile, which is really looking for this new type of customers, and then we have a different seller profile, which has really focused on existing established end users. And the third 1 is for machine builders. So that means like the sales force structure as it is in place has been really playing into that, and we are very happy with that. But now really, the next step is about the expand, right? And that's kind of where our mind more and more shifts in that regard, would we think about like is the next strategic objective to double the customer base again? Probably not. It's really now all like expanding on these customers, which we have been winning already. And here other things come into mind. So first of all, serving them with the right technology. So vision is an important piece to that. But it's going beyond that. It's also right, what do customers want? They certainly also want to have the right level of service. So that's where our other strategic objective of being the #1 in customer experience plays a role. But then they also want to have full solutions and they don't want to just buy products. And we see ourselves really as a product technology company, and we are not looking to provide integration services to our customers. It's also clearly there are many other companies in the market kind of system integrators who can provide that service. So that's an area where we see still an opportunity for us where we can refine our go-to-market that means we are right now building out a new, call it, entitlement loyalty support program for system integrators and also machine builders so that we provide the best possible support for our customers there. And by that, basically helping to go from land to expand. And that's kind of where I would say that the go-to-market and maybe the overall strategic objective is evolving into step by step as we are making progress.

And so the profile of your customers within -- let's just maybe pick a few out of these 40 they're smaller, but the trajectory and their scope of end market applications or applications in general for what they do is is pretty broad down the road. Is that kind of a fair way to think about the strategy?

Yes. So maybe I go back to the example of the packaging industry, right? So for many, many years, we have been playing very successful with some of the largest names in the space. So think about companies like P&G, Unilever and so on. So just examples. And then -- but this market very regionally diversified in the sense that you have a lot of smaller businesses all the way down to mom-and-pop shops, right, from companies who are producing soups for local fast food chains or convenience stores. And they maybe have 20 to 30 employees. And that's kind of what we have not reached in the past. And that's really where we can drive additional growth and where we can drive additional customer penetration into. And in that regard, that's really where we have been able to penetrate. And I pointed to that growth and this kind of much more stable growth in that area. And that's kind of how the strategy unfolds in that area.

That's helpful. I'll pause there on end markets and model any questions from the audience. Okay. A lot happening on the financial model as well. So you've evolved meaningfully in generating stronger margins, very different Cognex from a year or even a year or 2 ago. Cash generation and operating leverage is also kicking in. As you look beyond the current margin and the current cost-out program, how should you have investors think about the margin story evolving?

Yes. So first of all, I would say we are very pleased with what we have achieved over the last 18 to 24 months. I think right, if you think back 2024, a 17% adjusted EBITDA margin I would say, really very far away from what Cognex has done historically and could do. And certainly, it was very clearly that when Matt and I came into the roles that that's really the area where we have to work on. And the biggest issue, which we saw was really that our OpEx efficiency was pretty low at that time. And I think the success of bringing up the bottom line margins from that 17% to right, our guidance midpoint for this year is 30%. So that means a significant expansion of the margin, the bottom line in a comparatively short time was, first of all, was really going hard after OpEx efficiency and very clearly was about cost -- running cost out programs. But I think at the same time, having in mind that we did not want to sacrifice on growth. So net, it was really all about thinking about like what's the right productivity level throughout the organization. And as we started to see accelerating top line growth this year combined with taking out cost, we really see very strong leverage. We have -- in Q2, we had 100% revenue fall through to the bottom line. And I would say really quite beyond our expectations, especially in time of the speed how we got there. But now are we at the point where we think we cannot go further, no, absolutely not. I think if we look at our operations of how we run the business, I think we have been -- now been 18 months into transforming our operating model, and we made quite some progress. But clearly, there's another level we can go to, right? So that means we're not at the end of the journey in terms of driving efficiency into our processes. But it will show differently in the P&L, right? So that means now, especially in the second half of this year, we're really showing OpEx in absolute terms reducing. And that's not what I would expect for 2027 going forward. But it's really all about like being able to drive further growth without meaningfully expand the OpEx line. And when I say meaningfully, I would say maybe in line with inflation, right? So I mean think about like '27 inflationary growth on the OpEx side, while still outgrowing on the top line and by that still driving fall through into the bottom line. And then certainly, our eyes is also on the gross margin line, where we have seen throughout the year quite some positive effects from the mix, right, as really some of the highly attractive end markets for us in terms of margin performance have been leading the growth. Pricing is still a level where we can work on, right? I think an area where we haven't been too active in the past is Cognex and we think as many other industrial companies, we can use pricing as a compounding level over time. So it's not like big numbers every year, but over 3 or 4 years, I think we can really turn pricing also in a meaningful kind of compounding effect into the gross margin. So all in all, I would say like we are clearly not at the end of our margin expansion story, but also very clearly is that -- we see this as profitable growth. We're not seeing a profit or growth. We're really seeing it as both together. And as a management team, we are very clearly focused to make sure that we are getting both and that we are not sacrificing 1 for the other.

With the shift or kind of, I guess, would be better set as an expansion of your go-to-market model, how do you guys evaluate sales productivity in that mix?

Yes, it's a great question, and that's where we really spend a lot of time on it, and we created a lot of data analytics, and we keep on challenging ourselves, right? So I mentioned before about like 3 different sell profiles, right? And team are just looking for or the seller profiles, which is looking to win new customers versus those in serving end users versus still serving kind of machine builders. And they have very different kind of objectives in terms of the productivity, right? You look at it very simple when we say sales productivity at the end of lyokay, what is bookings versus expense in a dollar number. But very clearly, we have a different expectation from somebody who's hunting for new customers than somebody who's serving established customers or is trying to penetrate existing customers deeper. So in that regard, we have very clearly articulated productivity targets for each of the seller profiles and -- for this year, we have a clear productivity improvement objective for each of deals, and we can say like we're actually ahead of this productivity target. And we think that next year, there's another productivity improvement the year after. So in that regard, again, to this point, do we need to drive OpEx growth as we drive top line growth. Not very much. Of course, again, inflationary adjustments may be needed but not beyond that because we really have a lot of kind of productivity growth. And there's clearly things, as I mentioned before, like how we work with the system integrators. That's an area where we support marketing automation is a big piece for us. where I would say we probably still have more work to do. I think we are run a couple of pilots where we said like, hey, here's how we think this could shape out. So we had some very interesting learnings from deal. So now basically going back to the drawing board and putting these learnings into an updated concept. And I believe marketing automation is an area where over the next maybe 2 years or so, we probably can also drive further efficiency gains. And -- the great thing is it's an efficiency gain on OpEx and it also drives growth. And that's really coming back to the profitable growth story.

And you kind of mentioned the inflation area expectation within -- it was just something kind of like bill of materials Yes. Are there any constraints to kind of the growth? Or I guess, said differently, the more durable growth that you expect for the next several years?

I think the biggest area where we are looking at right now is memory components. And then -- to some extent, we're also starting to look into the broader, call it, maybe more passive type of electronics components. But memory is really the area where we see the most cost inflation happening. I think it's probably not a new theme for anyone. But really very high inflationary pressure there. And while memory is not a big component of our bill of material, we see it as a headwind, right? So we said a 75 basis point headwind to gross margin in Q3. But then at the same time, we are also able to drive really pricing on the other side and to pass on this increased cost to our customers. So we think these effects as transitionary, I would call it. So that means like, yes, there will be lasting perhaps in the bill of material costs. But we'll be able to offset it through pricing. So far, I would say we are not seeing kind of shortage, but we are seeing tight supply, right? So memory is tight on supply and some other areas as well. But -- so far, we have been able to manage quite successfully. So we would not see that this would kind of restrict our growth in the future.

So nothing that impacts kind of the sales time line that you generally expect No. Maybe on that topic, what's changed with your sales time line over, call it, the last several years as you kind of shift how you go to market a little bit, you're targeting more of the mom-and-pops as opposed to kind of the larger customers that required a lot of engineering support. Has that compressed meaningfully? And how do you kind of see that evolving?

I would say it has not changed so much, right? At the end, I would say the sales cycle, now whether you go to a smaller customer or a larger customer -- it's more driven by the application than whether -- what customer it is, right? If you go into a more complex applications, cell cycle tend to go longer versus easier applications, a bit shorter. And the smaller companies, they more tend towards the more easier to use applications, but not always, right? In that regard, it's -- clearly, it's not limited to. So no, I think -- yes, I'll leave it there.

Fair enough. Any questions from the room? -- point? Okay. Capital allocation. You guys spent a lot of time with this at your Investor Day. You kind of continue to work towards really, really strong margins, strong free cash flow generation. How do you guys think about call it, return of capital, balancing that with M&A, and obviously, organic investments.

Right? So I would say, over the last 18 months, we have been very strongly focused on share buybacks, right? So we we returned close to EUR 250 million or even a bit ahead of that just through share buybacks without the dividend over the last 18 months. And I think we bought at attractive share prices in the high 30s, low 40s. In that regard, I felt like we got a very good return on that capital allocation. And certainly, share buybacks place also roll into the future. but opportunistically. So that means like when we see a pullback in the market, that's the moment in time for us to deploy capital through share buybacks. But then also very clearly, we said at Investor Day that want to basically have a more or less an equal split between share buybacks and M&A. And we want to make M&A as part of the growth story of part of the diversification of the growth. And we haven't been active in M&A over the last 18 months or so. And I would say right now, we probably feel like we are probably in a very good position and good time to do M&A, right? I think -- we have been able to return to growth. We have been able to drive significant margin expansion. We are in a much better shape there. We have been making a lot of progress on transforming our operating model. So I would say probably timing for M&A couldn't be better right now than during the last 18 months. But then, of course, it always comes back to, do you find the right target for the right price. But very clearly, I would say, if we find the right target for the right price and especially to help us to diversify our growth engine and to go into adjacent markets. then we would definitely deploy capital there and very much looking forward to that day.

Yes. It's a strong market out there. But I mean, again, finding the right adjacency is probably the key question, right? Look, any questions from the audience? We probably have time for 1 Okay. Well, that brings us just about to the allotted time. Dennis, thank you so much for joining us at the Laguna conference. On behalf of Morgan Stanley. We appreciate everyone attending this morning and enjoy the rest of the conference. Thank you.

Thanks a lot, Sean. Thanks a lot, everyone, for attending.