Greetings and welcome to the Cognex Third Quarter 2022 Earnings Conference Call. All participants are currently in a listen-only mode, and a question-and-answer session will follow the main presentation. This conference is being recorded. It is now my pleasure to introduce your host, Ms. Susan Conway, Senior Director of Investor Relations. Thank you. Please proceed.

Thank you. Good evening everyone. Welcome to our third quarter earnings conference call for 2022. Leading today's call are Rob Willett, Cognex's President and CEO; and Paul Todgham, our Chief Financial Officer. I'd like to remind you that our earnings release and quarterly report on Form 10-Q are available in the Investor Relations section of our website at www.cognex.com/investor. Both contain detailed information about our financial results. During the call, we may use a non-GAAP financial measure if we believe it is useful to investors or if we think it will help them better understand our results or business trends. You can see a reconciliation of certain items from GAAP to non-GAAP in Exhibit 2 of the earnings release. Any forward-looking statements we made in the earnings release or any that we may make during this call are based upon information we believe to be true as of today. However, things can change, and actual results may differ materially from those projected or anticipated. For a detailed list of risk factors, you should refer to our SEC filings, including our most recent Form 10-K and our Form 10-Q filed tonight for Q3. Now, I'll turn the call over to Rob.

Thanks, Sue. Hello, everyone. Thank you for joining us. When we spoke with you in August, we were in the middle of managing two challenges in our business: one, concerning the June fire at our primary contract manufacturer and the other related to overcapacity at a few of our large logistics customers. Let me start by giving you an update on how we have been addressing both of those challenges. Turning first to the fire. We believe that business disruption is now behind us. The leadership team and I appreciate the hard work and collaboration of Cognoids and our suppliers in the aftermath of the fire. They demonstrated the best of our culture during a difficult time. Together, they helped replenish the significant component inventory positions that were destroyed in the fire and fulfill customer demand more quickly than we anticipated. These efforts led to strong shipments at quarter end, which allowed us to reduce the negative impact of the fire on Q3 revenue to roughly $40 million or about half of what we estimated in our original guidance. This also resulted in exceeding the updated guidance we published in September. Moving next to logistics. As we reported in August, our largest customer and other e-commerce technology leaders are taking a post-pandemic timeout to absorb excess capacity. This follows two years of heavy investment through Q3 of 2021, which you may recall was a record-setting quarter for both our logistics revenue and Cognex overall. Despite slower current spending by a few customers, we believe our long-term prospects in logistics are as exciting as they have ever been. There are several reasons for our confidence. First, Cognex customers include many e-commerce and omni-channel retailers that are early in their adoption of machine vision. Second, we believe more growth collectively will come from Europe and Asia than the Americas. Third, there are other market adjacencies in logistics such as Pashto and Post where we have a small presence today and superior solutions that position us well to grow. And lastly, we see many applications beyond barcode reading where our machine vision technology is increasingly being used to solve new problems in logistics fulfillment. We believe that logistics will continue to be an important growth driver for us. It has emerged as the largest, and we expect it will remain the fastest-growing sector in our served market. We estimate the logistics segment to be a $2 billion market growing by 20% long-term. Our differentiated technology and the opportunities we see in logistics give us confidence we can continue to be a share gainer and grow this part of our revenue by 30% over the long-term. Next, let me turn to a broader view of our served market and our expectations for longer-term growth. The excitement we have about our future was apparent at our Analyst Day event in September. We see tremendous value in bringing the investment community to our headquarters in Natick. They had an opportunity to meet in person with Cognoids, experience our culture firsthand, and see live demos of our products. We received a lot of great feedback from the event. At Analyst Day we introduced an updated view of our served market. The new estimate is $6.5 billion up 55% from our previous estimate of $4.2 billion that we shared with you in 2019. We believe the market will grow by 13% over the medium to long-term. As a reminder, we calculate our served market estimate ourselves because there is no reliable third-party source. Our served market reflects a relatively narrow definition of how big our business could be, if we won every dollar of opportunity in the markets where we are focused. Also, at Analyst Day, we updated our long-term target for Cognex revenue growth to 15% on a compound annual basis. We expect to continue to outperform market growth thanks to our strong product pipeline, our focus on high-growth end markets and the strength of our reputation with leading manufacturers. At this point in the year, I spent a lot of time with our sales force conducting in-depth reviews of our customers by geographic region. I'm excited about the new products and solutions we are introducing. They will help us scale our business more quickly and will enable a wider and less technical profile of customers to use our sophisticated and powerful technology. Our new modular vision tunnels are an example of this. These pre-configured standard solutions are part of our plan to develop the opportunity for Cognex machine vision in logistics. They make it easier and faster for customers to solve complex vision problems using Cognex technologies, products, and our Edge Intelligence data analytics software platform in high-speed, high-throughput operations. Another example is the DataMan 8700LX, the latest addition to our highly successful next-generation series of industrial handheld readers. LX stands for extreme label reading and is highly accurate in reading the most challenging label-based codes in a fraction of a second, 150 milliseconds. The 8700 LX outperforms other handheld products available today, and is being embraced by leaders in cloud computing and high-performance EV battery manufacturing, among other segments. Lastly, we were pleased to publish our first comprehensive sustainability report during the quarter. We have a great story to communicate. Cognex machine vision and deep learning technology play an important role in making manufacturing more efficient and reducing its environmental impact. This report was developed by a cross-functional team of Cognoids. It demonstrates the strong progress we are making on our ESG journey. I'll stop here for now. Paul, the microphone is yours for details of the quarter.

Great. Thanks, Rob and hello, everyone. Revenue was $210 million in Q3. That level represents a decline of roughly 25% from both last year's record-setting performance and Q2 of 2022. It was better than we expected when we gave our updated Q3 guidance, but still lower than we would have anticipated earlier in the year. The business disruption from the fire caused revenue from most end markets to decline in Q3 year-on-year, and all to decline on a sequential basis. The quarter was also impacted by lower revenue from large customer projects in logistics. And with approximately two-thirds of our revenue coming from outside of the United States, currency exchange rates had a negative impact, leading to a five percentage point drag on revenue growth in the quarter. Looking at the change in revenue for Q3 from a geographic perspective, each primary region was also negatively impacted by business disruption from the fire. Asia decreased mid-single digits, excluding a six percentage point negative impact from currency exchange rates. Large order revenue from consumer electronics made a positive contribution in the quarter. Revenue from Europe decreased low teens excluding a 12 percentage point reduction from currency exchange rates. Lower revenue from logistics and declining business confidence impacted revenue across the region. In the Americas, revenue decreased by more than 40% year-on-year due to the slowing of large investments by a small number of customers in logistics. Gross margin was 73% in Q3, compared to 70% in Q3 of 2021 and 72% in the prior quarter. Gross margin was better than our guidance, due to leverage on our fixed costs given the higher-than-expected revenue level, while partially offset by unfavorable FX. The three percentage point increase year-on-year is due to a more favorable revenue mix this quarter. The improvement in gross margin on a sequential basis is due to lower broker premiums for stairs components. In regards to broker buys, the premiums we've been paying are trending down. However, we expect the negative impact on gross margin will pick up again in Q4. While the supply environment is improving it will take a few quarters to higher price components that are in inventory to work their way through our P&L. Operating expenses in Q3 included a noncash charge of $3 million related to the fire primarily for idle production capacity given temporarily lower business levels. Excluding that charge, the combined total of RD&E and SG&A declined by 2% year-on-year and 4% on a sequential basis, which was slightly favorable to our guidance. Lower incentive compensation and the favorable impact of currency exchange rates more than offset the incremental investments we've been making in sales and engineering headcount and other related costs. Operating margin was 19% in Q3 of 2022, compared with 31% in Q3 of 2021 and 24% in the prior quarter on a GAAP basis. Excluding the fire loss, operating margin was 20%, 31%, and 30% respectively. The leverage we have in our income statement worked against us in Q3 despite the benefit provided by a better gross margin and lower operating costs. The effective tax rate in Q3 was 16%, excluding discrete tax items as expected. Reported earnings were $0.19 per share in Q3 compared with $0.44 in Q3 of 2021 and $0.34 in Q2 of 2022. On a non-GAAP basis earnings were $0.21, $0.40, and $0.41 per share respectively excluding discrete tax items and the fire loss. Turning to the balance sheet, Cognex continues to have a strong cash position with $818 million in cash and investments and no debt. Proceeds of $27.6 million from insurance claims related to the fire were received in October and after the balance sheet date. As we announced tonight, our Board of Directors has increased the quarterly cash dividend by 8% to $0.07 per share. We believe this demonstrates their continued confidence in Cognex's financial strength and long-term growth prospects. Before I turn the call back to Rob, I'd like to welcome Nathan McCurren as Cognex's new Head of Investor Relations. Nathan joined us last week from Lime where he served as Head of Investor Relations and Treasury and brings to Cognex prior experience across IR and other finance functions at Iron Mountain, Goldman Sachs and General Mills. He joins Sue Conway who many of you know. Sue established our IR program and developed it over the past 26 years. We're excited for Nathan to now lead the Investor Relations team and enhance our engagement with the investment community. Now, I'll hand the microphone back to Rob.

Thanks, Paul. Let's talk now about our guidance for Q4. We expect revenue for Q4 will be between $235 million and $255 million. That range represents a strong rebound from an artificially low level in Q3 due to a return to more normal production lead times. It also includes a remaining $20 million catch-up on customer deliveries following the fire. At the midpoint, we expect revenue will be roughly flat on a year-on-year basis. We expect to continue to experience lower large project activity in logistics. Reflected in this guidance is a 10 percentage point headwind to year-over-year growth from the strong US dollar. I want to clarify that this is a 10 percentage points, not basis points, as there was a typo in the press release. We believe gross margin in Q4 will be in the low 70% range. The supply environment is improving and that’s leading to lower broker buy activity. However, the impact of what we've already purchased and is in inventory will take a few quarters to flow through our income statement. We expect the combined total of RD&E and SG&A will increase by low single-digits on a sequential basis due to the timing of incentive compensation. The effective tax rate in Q4 is expected to be 16%, excluding discrete tax items. Now, we'll open the call up for questions.

Thank you. The first question today is from Joe Giordano at Cowen. Please go ahead.

Hi, good afternoon.

Hi, Joe.

I just wanted to get a sense on the fourth quarter like how much of this is underlying demand and how much is kind of backlog delivery? I know you called out $20 million specifically as like a catch-up. But how much is just thought that you've been booked over the year? And how much do you feel like is truly new business and reflective of what conditions on the ground are?

Yes. Let me kind of speak to that more generally for everyone on the call. So our revenue guidance in Q4 is roughly flat year-on-year. Our expectation for the quarter is driven primarily by four things, right? There are two headwinds and two tailwinds. And Joe, I think you're talking about one of the tailwinds that we have. So first of all, headwinds, a few large customers in logistics are currently spending less on new fulfillment centers than a year ago. And we also expect a roughly 10 percentage point negative impact from currency rates in the quarter. The tailwinds helping us is expected growth from the broader factory automation market and then there's about $20 million of revenue shifted from Q3 resulting from a catch-up on customer deliveries following the fire. So I think that $20 million gets a little to your question Joe. Business activity in the broader factory automation market is holding up although it's less robust than it was a year ago particularly in Asia and we're not expecting a big budget flush this year overall. So that's generally kind of how I would think about the fourth quarter.

Just given where we are in the year in November, I'm guessing you have a pretty good idea of where your big markets your critical markets are going to come in. So maybe if you can take us through logistics consumer electronics where there's been a lot of negative headlines in automotive maybe as to what growth looks like for 2022 full year for those markets?

Yes. I mean I'll start out and encourage Paul to say a little more. Generally, we don't give sort of that full year position until after the year is over. I think what we've already said is that we're expecting growth in our electronics market. I think we've said around in low double digits. Obviously, we're expecting significant contraction in our logistics business right? Automotive overall I think probably moderate performance in that market and similar in other markets overall. So that's kind of and then obviously we've got headwind from currency which is pretty significant at this point. Paul, would you like to give any more color?

No, I mean I think that's right. After Q3 we're now down on logistics year-on-year. So we know we've said we'd be down for the year. We're now there. And with Q3 going to be the most down as we sort of communicated last quarter. Consumer electronics is playing out really as we expected and communicated in our last earnings call. And again automotive gets a little bit clouded by the fire impact and currency and so on. But we're generally pleased by what we're seeing in EV and there's tentativeness elsewhere, the broader market in Europe for instance, there are some tentativeness in automotive.

Is there any way to clarify the gross margin for the quarter? What benefits are you seeing from fewer large customer deliveries with negative logistics compared to the advantages from reduced broker activity? I'm trying to get a clearer picture of the overall impact, including what is increasing and decreasing, and how that nets out.

Certainly. Last year was our low point for gross margin at 69.9%. We identified three main factors for this. First, there were broker buys; second, a strategic project in logistics that had low margins, which involved co-investment in developing productized solutions like the modular vision tunnels that Rob mentioned; and third, some supply chain issues affecting our highest margin Vision products. These three factors together caused our gross margin to drop from the typical mid-70s to around 69.9% or 70%. This quarter, the impact from broker buys was similar to last year. It was somewhat lower due to the types of sales we had this quarter, and we anticipate a slight increase next quarter, which led us to adjust our guidance down slightly. Additionally, foreign exchange negatively affected gross margin by about 120 basis points this quarter. However, our pricing actions are offsetting the component cost inflation, aligning with our strategy. The revenue mix was more favorable this quarter compared to last year, mainly due to lower logistics costs, and we expect that to change a bit next quarter.

Thanks, guys.

Thank you. The next question is coming from Joe Ritchie of Goldman Sachs. Please go ahead.

All right. Thanks. Good afternoon, guys.

Hi Joe.

So I know that you guys you don't give guidance for a full year. But I'm hoping that you maybe can kind of contextualize like how to think about logistics in 2023? I know that your long-term growth rate is you expect to grow 30%. But I'm trying to just get an understanding of your views on the market versus your ability to potentially outgrow the market with as you mentioned earlier new use cases and applications for your technology?

Yes, to put that into context, we have a significant and growing base of regular logistics customers, particularly strong growth outside the US, and we expect this trend to continue. We anticipate that this area will remain one of the fastest-growing segments of our business, even though it currently represents less than half of our logistics operations. The positive growth dynamics and the expansion of our customer base geographically are quite beneficial for us. Additionally, we're engaging with large technology e-commerce players who are also experiencing similar challenges, having overinvested in capacity and now facing a tougher environment post-pandemic. The main question is when these companies will start investing heavily again. I don't foresee that happening in the first half of next year, but I am confident it will eventually return. We have a lot of value to offer and exciting new technology beyond just barcode reading, so I am optimistic about our prospects, though I don't expect significant changes in the first half of next year.

And Joe, I'd maybe add–

Okay.

The outlook for logistics over the full year is difficult to determine due to the uncertainty around its recovery timeline. We're facing challenging comparisons in the first half. Last year, Q1 was our peak quarter for revenue and growth, and we experienced robust logistics performance across all customer segments, including significant activity from major clients. Therefore, we're comparing against strong results. The key question is when our large customer sector will rebound—will it be in the latter half of 2023 or in 2024?

Yeah, Paul, that's helpful. And maybe sticking with you for a second and talking about the gross margins a little bit more. So, can you maybe just help me understand again why the gross margin step down in the fourth quarter? What is it specifically about what you sold through in Q3 that maybe helped gross margins? And then as you start to think about the first half of next year, if logistics doesn't come back as you have that tough comp, I mean, you should get a pretty decent benefit at least on the gross margin side from mix, if there's any way to quantify that that would be helpful.

Yeah. Yeah. So first maybe just the biggest phenomenon for our gross margins over the last five quarters has been our broker buys. So – and it helps to understand there's really sort of two factors with broker buys. There's the volume of the buys we're making and then the timing of when that flows to the P&L. So there is a lag effect. We commit to the value, we receive it in inventory before it becomes a finished good that's then sold through. So what we're seeing right now Joe is the volume of the buys has spiked a bit right after the fire as we quickly replenish inventory, and it's come down very significantly through the rest of Q3. So we're optimistic that we are headed in the right direction regarding a return to our normal levels. And now we're dealing more with the lag effect of – it will take a few quarters for that to flow through our P&L. So part of why Q4 is a little worse than Q3 in our guidance is that factor. We're going to take a little more broker buys to the P&L. We have a little more FX expected. We quoted a 10 percentage point impact on Q4 versus the five percentage points we had in Q3 as a revenue impact and that there's a corresponding impact to gross margin. And then overall revenue mix, which in Q3 we benefited from quite high electronics business, which is generally gross margin accretive to us. It's high software content and a lower logistics mix. So that lower logistics mix may benefit us to some extent next year. But I think, it's smaller than the broker buy factor that's really been driving our gross margin over the last five quarters.

Okay. That's helpful. Thank you both.

Thank you. The next question is coming from Josh Pokrzwinski of Morgan Stanley. Please go ahead with your question.

Hi. Good evening, Rob, Paul, and Sue.

Hi, Josh.

I would like to understand if you have insight into the inventories in the channel. I recognize that some markets, particularly logistics, are facing challenges. Additionally, I anticipate that various factors may complicate the situation further, so any information you could provide would be appreciated.

Sure. Jake, a great aspect of Cognex is that there is almost no inventory in our channel. About two-thirds of our business is direct sales while one-third is through partners, and we strongly encourage our partners not to hold inventory. This is a positive feature of our model, and we are able to deliver products to them very quickly. While a fire poses challenges, we have observed that the larger automation market typically has much longer lead times than we do. For instance, many PLCs have lead times of six months, unlike our offerings. We supply products rapidly, and there is minimal disruption in our channel. Only a very small percentage, certainly less than 10%, of those selling Cognex hold any significant inventory.

Okay. Understood. Shifting topics for a moment. Regarding consumer electronics, I'm not looking for a 2023 outlook, but I'm trying to gauge the situation. You have data suggesting that consumers are purchasing through smartphones and PCs after the past couple of years, yet it appears that capital spending might be holding up better. I'm curious whether your customers are investing in anticipation of new product launches or new technology. I'm trying to understand the disparity between production rates and capital spending.

Yes, I think there are a few factors at play. We tend to ask this question around this time each year, and we generally have a clearer picture of the electronics business by April. This year has been favorable for us compared to other areas of our business in electronics. It seems to be a situation where we're closely linked with the industry's technology leaders, who are higher-end and more advanced consumers of manufacturing technology. Their investments are very encouraging. The fluctuations in our business typically hinge on new technologies entering the market, whether related to smartphones or other consumer electronics. There is always an exciting array of developments in this sector. It primarily revolves around when these innovations will hit the market and how their timing will affect next year compared to the years that follow. We'll have more clarity in April. Additionally, there's a noteworthy trend where many players in electronics seek to diversify their supply chains. We're observing incremental investments outside of China, which is a positive development for us, and I anticipate this trend will continue in the coming years. We're well prepared for this shift and have noted this trend beforehand. We're actively supporting the major players in this field as they expand into various markets where we have a robust presence and are investing. I believe this will ultimately benefit us. Recently, given COVID lockdowns and other challenges, the push towards diversification is likely to grow even stronger in the years ahead.

That's great. Thank you. I'll pass it on.

Thank you. The next question is coming from Jim Ricchiuti of Needham & Company. Please, go ahead.

Hi. Good afternoon. I'm wondering if you could talk a little bit more about that $20 million catch-up that you're anticipating in Q4. Can you give us a sense as to which markets that might be concentrated in?

Yes, Jim, it's very broad-based. Certainly, automotive is part of it, but there are also electronics and other markets involved. It's really a general catch-up across our entire product range, not specifically logistics, but more in the area of general factory automation.

And not necessarily have a larger project focus associated with it?

No.

Okay. Rob, at Analyst Day you guys talked about opportunities that you see in some of the underserved markets, at least, underserved for Cognex. And I'm wondering how you're going to be going about that in terms of redeploying existing sales resources, or do you anticipate having to step up hiring as you go after some of these other market peers that you talked about?

Yes, Jim, thanks for that question. So we're in the process of Cognex of bringing to market some really exciting technology called edge learning. And what that is, is it's very, very powerful deep learning vision that's kind of pre-trained and deployed to smart cameras or basic vision systems, but then easy to sell, right? And so, that's going to bring us to a lot of customers that we really couldn't serve before, right? Customers who aren't sophisticated aren't programmers of automation or machine vision technology. So as we roll that out, we're going to need more coverage, right? And the sophistication or the technical sophistication of the sales force we're going to need to do that is going to be less, right? So certainly we do expect to be recruiting and training and deploying over quite a long period, as that product range rolls out more sales noise, as we call them, to do that. And we'll expect to see that, I think we'll be talking about that in quarters to come.

I believe it's reasonable to say that aside from sales, as we prepare for next year and similar activities, we are primarily reallocating our existing resources, whether that involves the engineering team or general and administrative functions. The focus is really on the sales aspect.

Yes. It is a sales phenomenon.

Got it. Thanks very much.

Thank you. The next question is coming from Jairam Nathan of Daiwa Capital Markets. Please go ahead.

Hi, thanks for taking my question. So I just wanted to concentrate a bit on the Asia ex China number. It was down about 20% excluding currency. And in the past it has been – I think you guys have talked about autos being strong. And I was just wondering what are some of the puts and takes there on fire impact a bigger, bigger impact in that region?

Yes. I'll come in and I'll invite Paul also to comment. I think sales activity in Asia outside of China was pretty mixed in the bid. We did observe slowing activity and project delays in Japan and Korea. One phenomenon I would point to is well what customers continue to have aggressive plans for electric vehicle manufacturing. Some of the plans that we're seeing are moving and investment that we were seeing getting lined up for those markets in Asia excluding China. As a result of some of the government regulation that's been going on are now shifting geographies and investments we were expecting to see certainly in Korea and Japan and some other markets are now being deferred and being moved to Europe and America. So that's certainly a phenomenon. In semiconductor, continue to grow but growth rate was slowing. So I think it's a little bit of color. And then I think we continue to see good progress in logistics but we do have some larger e-commerce players in that market that we're speaking about who really also had a similar phenomenon to what we're talking about and one very large and successful player in that market really did slow down their spending very sharply post-pandemic.

Yes. And Jairam I just want to make sure there's no confusion over the data. China was roughly flat versus a year ago with about 5% growth in constant currency offset by 4% in currency. And really it was other Asia, which is Korea, India, ASEAN, Japan and so on that was down about 20% in constant currency for the factors Rob cited. So within China, we had strength in electronics and then we did see some fire impact certainly and other factors to sort of offset and then more broad-based bunches in other Asia as Rob described.

Okay. No, thanks for the detailed answer. Just on logistics like you talked about expanding into beyond barcode reading and expanding into some of the parcel and post customers. So I'm just trying to understand like what kind of timing should we think about like where you are in the process? And when should we start seeing some wins – business wins there?

Well, I think the modular vision tunnel that we just talked about today is certainly a very strong first step into some of those markets. And we saw already in trials with a number of key companies in those markets. So that's – I think that's the first step and I think you're going to see a lot more technology from us coming that will make us very competitive in those markets over the next number of quarters. So I think it's the beginning and it's starting to feel much more tangible around Cognex.

Okay. And a final question if I may on seasonality in 2023. So should we – without the fire impact next year should we kind of go back to normal seasonality of 1Q being the weakest and improvements in 2Q and 3Q?

I believe the strong performance we experienced in Q1 of this year was significantly influenced by logistics. In fact, it may have been our most robust quarter, which isn't typical for Q1 next year. If we exclude that, we will likely encounter the usual seasonal trends, where Q1 is generally a weaker quarter for factory automation. I see no reason for it to be different this time, given the current dynamics in Europe and other regions. These factors are definitely at play. I also want to revisit something you mentioned earlier. I noted that we are seeing growth in investments outside of China. This might not be obvious when analyzing the overall numbers from Asia, as some purchases could be made within China for contractors who then export to other regions, including through Europe. I'm focusing on the underlying geographical trends rather than where the bookings or revenue are recorded.

Yeah. No. Understood. Thank you. Thank you for details.

Thank you. The next question is coming from Matt Summerville of D.A. Davidson. Please go ahead.

Hi. This is Will Jellison on for Matt Summerville today. Good evening.

Hi Will.

I wanted to start out by referencing something set at the very beginning of the call and that is with the business impact of the fire largely behind you at this point. Can you speak to any lessons or best practices you feel Cognex might have gained from the experience in terms of supply chain management or how to handle supply risk moving forward?

We've conducted extensive analysis and reflection on that question. While we're not fully finished, we're actively addressing it. We've recognized this as a risk factor for some time, and we began tackling it as we approached the final quarter. We're in the process of starting a second contract manufacturer, a substantial and experienced business. If we had already established that, we would have been in a stronger position. We've been evaluating where we hold our inventory and strategic components, ensuring they are in more diverse locations is crucial. Like many companies, we are working on diversifying our regional presence for sourcing and product management. Throughout these supply chain challenges, maintaining strong relationships with our component and technology suppliers has been important, and we've come through this well. One reason we've exceeded our expectations is that despite the varying supply environment, our good relationships with suppliers have been beneficial; they prioritized us when needed. This was possible because of our sophisticated usage of their components and the collaborative nature of our relationships. Additionally, we pay our suppliers on time, which we take pride in at Cognex, as it strengthens our commitments and helps us maintain solid supplier relationships. After this experience, we also conducted a thorough review of our insurance programs and found we were well covered in many respects, although there are still areas for improvement. Finally, we have implemented more protective measures regarding fire safety and other risks across our global locations. This has been an important learning experience, and we will continue discussing it, with a full debrief scheduled for next month.

Understood. That's great. Thank you for that information, Paul. And my follow-up, thank you for that, Rob. I wanted to ask a follow-up about Edge Intelligence. And I'm thinking how interesting it is that it unlocks this opportunity for you to serve those markets that you haven't quite paid as much attention to in the past? What I want to better understand about Edge Intelligence is if there's any sort of IP protection or high degree of know-how that helps that software and your ability to create value with it not be imitated by somebody who might want to serve those same markets in the future?

Thank you for your question. I want to clarify that we have two key terms at Cognex: edge learning and edge intelligence, which can be confusing. My earlier comments focused on edge learning, specifically the deep learning technology we apply at the edge. We have outstanding technologists who joined us primarily through two acquisitions, ViDi and Sualab, which are leaders in deep learning technology. This involves creating a sophisticated model through example-based training to distinguish what is good from what is bad. Edge learning takes these pre-trained models and deploys them in simple hardware that is easy to program. If you view our demos, particularly with the Insight 2800, you will see how we can easily program it with examples of good and bad. This proprietary technology has been developed in-house and is unique to Cognex; no one else in our market has it. Our ability to utilize this technology in a factory environment, as opposed to a lab or consumer setting, is a significant advantage that we continue to develop, and we believe we have a strong lead in this area.

Thank you, Rob.

Thank you. Our next question is coming from Damian Karas of UBS. Please go ahead.

Hi, good evening everyone.

Good evening.

Covered a lot of ground. Thanks for all the helpful details. And I'm sorry if I missed this but related to your commentary about working down some of the broker premium costs from inventory. I'm just curious what's the spread between the spot purchases today and those inventory levels just to kind of give us a sense for the level of the gross margin tailwind that you should have ahead?

Yes. Sure Damian. So, this is Paul. It was smaller this quarter but when it was at its worst, which was really Q4 last year Q1, Q2 this year it was about a 400 basis point impact on our gross margin give or take 50 basis points or so. So very significant. And I do think as you're covering many companies you hear a lot of talk about freight and component cost inflation and some element of broker buys. My read from studying our peers is we're sort of unique in this being such a large phenomenon. And partly that's because we do airfreight already today. So we haven't been substituting ship for air like some peers or others in the automation industry have. And that we've been I think doing quite a good job of offset core component inflation with the pricing actions we took since implementing a pricing strategy sort of mid to around the summer of last year that we've been executing against. So, what it's been this quarter it was lower than that maybe call it half of that or so. And I do expect to see that winding down but we're going to be carrying some amount of that into the first half of next year.

Okay, great. And could you just remind us how much exposure you have in semis? And how should we think more broadly about the customer mix within consumer electronics?

Yes, semiconductors make up about 5% of Cognex's business, and it has been performing well over the last year, likely closer to 7% currently. We've observed strong investment in this sector, but I anticipate that this will moderate for a while. There are significant investments occurring in new regions that I expect will lead to a resurgence later, although I don't foresee it being a factor for us next year; it will likely impact us in the following years. That's my perspective on the situation right now.

Damian, do you have any additional questions? We'll move on. The next question is coming from Rob Mason of Baird. Please go ahead.

Yes. Good evening. Thanks for taking the questions. Rob, I wanted to see just real quickly if you could maybe wrap up your geographic deep dive. When you mentioned the geographies in your prepared remarks you called out some of the swing factors logistics being one obvious. But when you spoke to Europe you talked about a lower confidence level there but you did not make a similar comment about Americas and I'm just trying to understand if there's a distinction to be made there and if there's lower confidence in Europe how it's manifesting itself right now?

Rob, I think that's a good question. And I think there is a difference. When you look at our Americas numbers they look bad because of logistics, right? But if we peel that away, I mean outside a few large logistics customers, we actually saw emerging strength in our Americas broader market. We actually saw the quarter business activity tracking ahead of our own forecasts. We saw larger products – projects moving forward at a better rate than earlier in the year. We observed investments, I would say, more around kind of reshoring relocating back to the Americas in places particularly such as Mexico. So we're a pretty strong player in the Americas market. And we were pretty pleased to see that, and it was perhaps stronger than we expected. And kind of in contrast to what some of the understandable challenges that they're seeing in Europe, with their energy crisis and they're heavy reliance, I think on internal combustion engine automotive, which is still something that I think is a drag in our markets there. It will turn around as EV investment starts to come in, but they're not there yet, nor are we there yet in America.

That's helpful. And within the Americas, you would just put that activity that stronger activity under the umbrella, of broader automation you wouldn't necessarily call out any particular verticals.

No. I mean automotive is a very important vertical for us in the US. So obviously, that's a part of it. But no, we saw general strength, Yes. Yes, we saw – yes, yes, definitely.

Okay. Very good. For my last question, regarding the currency headwind you mentioned for the fourth quarter, I wasn't expecting it to be that significant, and it represents a large sequential increase. If we consider current spot rates, will this type of currency headwind also affect the first half, or is there something unique about the fourth quarter due to your geographic distribution?

I haven't looked closely at the first half yet, Rob. However, for next year, there wasn’t a major currency impact in the first and second quarters, though we did see a little bit. I expect it will be somewhat moderated because year-to-date we've experienced about four points of currency impact in the third quarter. You can estimate the impact on the first and second quarters from that. I would say it's important to note that we won't be comparing the fourth quarter to the fourth quarter, so that will also contribute to some moderation, Rob.

Okay. Thank you.

Thank you. The next question is a follow-up coming from Joe Giordano of Cowen. Please go ahead.

Hi, guys. Appreciate it. Let me take a quick follow-up here. Rob, you mentioned logistics you think maybe the bigger opportunity for you is in Europe and Asia. Is that any meaningful percent of your logistics business at this time? And what's like a realistic time frame, if it's not to when it could be?

Yes, we have a growing logistics business outside of the Americas. While I can't provide exact figures at the moment, our operations in Asia and Europe are becoming significant. We have also achieved success with some large clients in America, which has influenced our business dynamics here. As an American company, we have substantial resources that can be quickly mobilized, so it’s common for growth to initiate domestically before expanding internationally. However, we are developing a solid foundation in both of those markets and are beginning to see advancements in e-commerce fulfillment and other logistics sectors. We feel optimistic about these prospects.

And Joe, the only thing I would add is, although most of our large customer business is concentrated in the Americas, it isn't exclusive of the Americas. So there may be a little bit of noise in the numbers, for instance in Q3, logistics was the biggest contributor to our revenue decline in Europe, and that was more large customer activity than the broader base of business that we've been growing and continue to grow.

Thanks, guys.

Thank you. This brings us to the end of the question-and-answer session. I would now like to turn the floor back over to Mr. Willett for closing comments.

Well thank you for joining us tonight, and thanks for a very engaged discussion. We appreciate it and we look forward to speaking with you again on next quarter's call. Good night.

Ladies and gentlemen, this concludes today's event. You may disconnect your lines at this time. I walk off the webcast and enjoy the rest of your evening.