Greetings and welcome to Proto Labs Q1 2022 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Mr. Jason Frankman, VP and Corporate Controller. Please go ahead, sir.

Thank you, and welcome everyone to Proto Labs’ first quarter 2022 earnings conference call. I'm joined today by Rob Bodor, Proto Labs’ President and Chief Executive Officer, and Dan Schumacher, Interim Chief Financial Officer. This morning, Proto Labs issued a press release announcing its financial results for the first quarter ended March 31, 2022. The release is available on the company's website. In addition, a prepared slide presentation is available online at the web address provided in our press release. Our discussion today will include statements relating to future performance and expectations that are or may be considered forward-looking statements and subject to many risks and uncertainties that could cause actual results to differ materially from expectations. Please refer to our earnings press release and recent SEC filings, including our Annual Report on Form 10-K for information on certain risks that could cause actual outcomes to differ materially and adversely from any forward-looking statements made today. The results and guidance we will discuss include non-GAAP financial measures consistent with our past practice. Please refer to our press release and the accompanying slide presentation at the Investor Relations section of our company website for a complete reconciliation of non-GAAP to GAAP results. Now I’d like to turn the call over to Rob Bodor. Rob?

Thanks, Jason. Good morning, everyone and thank you for joining us today to discuss our company's first quarter financial results and our outlook for the second quarter. I'm happy to report that we've finished the first quarter strong after a slow start in January and our results were slightly ahead of our expectations. As I communicated on our fourth quarter call in February, demand was impacted in January as the Omicron variant delayed our seasonal demand growth by several weeks. Our demand strengthened starting in February and we finished the quarter strong. Our comprehensive digital manufacturing offer continues to draw out our customers, the largest customer base in the industry. Before I provide an update on our 2022 priorities, I would like to take a moment to address the ongoing conflict in Ukraine. I want to send out thoughts and condolences to those impacted by the war in Ukraine. Our business has not been directly impacted by the events in Ukraine as we do not have direct customers or direct suppliers in Ukraine, Belarus or Russia. However, the events have impacted some Proto Labs employees, their families and peers. Our primary focus is to support our employees and also to minimize the impact on our business going forward. Although a lot has changed in the world since our last update in February, we continue to deliver on our mission to empower companies to bring new ideas to market by offering the fastest and most comprehensive digital manufacturing service in the world. During our fourth quarter call, I laid out our strategic priorities for 2022, which are aligned with our winning long-term strategy. We are focused on executing our strategy, and we made progress on each priority during the first quarter. Our first priority is accelerating our revenue growth. We're focused on accelerating organic growth through pricing optimization, and expanded offerings. We made progress in the quarter on developing a flexible lead time offering in 3D printing, which will be launched in the coming months. We also made progress on the integration of the Proto Labs and Hubs offers into one e-commerce platform with a focus to provide a best-in-class customer experience. As we have previously communicated, the Hubs integration was initially delayed in 2021 by the implementation stabilization period of Protolabs 2.0. We have a cross-functional global team focused on executing the integration and we recognize the need to increase our speed and agility. We're taking a very thoughtful customer-centric approach to ensure that the unified customer experience is seamless. We intend to have the initial integrated CNC machining offer released this year. Combining the strengths of the Proto Labs and Hubs offers will further delight our customers and drive profitable growth. Hubs has had another strong quarter of growth, further validating its high growth model and current cross-selling activities reinforced the value that our model brings to the marketplace. As we execute on our integration plans, we're also working to drive accelerated growth of Proto Labs and Hubs. We continue to adjust pricing based on various market factors and input costs in both businesses. So far in 2022, our pricing realization is in line with our expectations. In addition, our longer lead time CNC machining offer is gaining traction in the marketplace and we've seen an increase in volume and CNC machining, and 3D printing from key customers. Our new enhanced quality offering and our injection molding service, in which customers receive an automated dimensional tolerance quality report is key for production use cases. We will continue to automate and evolve our offerings to win in production. Our second priority in 2022 is to delight our customers. Our customer net promoter scores have continued to trend higher since the launch of our new e-commerce platform, largely driven by Proto Labs' best-in-class on-time delivery and quality rates. Additionally, we continue to find ways to improve our customer experience, including implementing new CRM strategies to accelerate responsiveness and offering an enhanced e-commerce experience in our sheet metal service. Our next priority is to be the digital leader at scale. Proto Labs' operating margins are a measure of success for this priority and we're pleased to report margins above our expectations in the first quarter. We expect margins to improve through the year as volume improves, and as we continue to realize the impact of pricing adjustments and continued cost structure optimization. Our fourth and final priority for 2022 is to continue to be a great place to work. Our employees are our greatest asset and we will continue to invest in them and in areas that matter to them. We are investing in learning and development for all employees as well as a dynamic and flexible way of working. In addition, during the first quarter, we focused attention on the advancement of our ESG initiatives, establishing a core cross-functional team tasked to identify opportunities and set goals for improved performance of our top environmental, social, and governance priorities. These priorities are outlined in our proxy statement recently filed with the SEC. Proto Labs also received significant external recognition of our industry leadership and best-in-class digital manufacturing capabilities in early 2022. Our injection molding business continues to receive accolades. In March Proto Labs was awarded the Plastics News Excellence Award for technological innovation, recognizing our best-in-class and unique technology capabilities in our IM service. This reinforces the recognition we received in late 2021 when the World Economic Forum added our U.S. injection molding facility to its global Lighthouse Network, recognizing our leadership in implementing Fourth Industrial Revolution technologies. We were recognized because of our transformation from a prototyping provider to a full production provider, through technologies connecting our e-commerce experience to the manufacturing shop floor. And at that time our facility was only the 10th Lighthouse in the United States. Proto Labs also received a Leadership Award in the Collaborative Ecosystems category from the National Association of Manufacturers. 2022 is the eighth straight year in which Proto Labs has been recognized with a Leadership Award from NAM. The Collaborative Ecosystems Award recognizes companies that use manufacturing 4.0 technologies to enhance internal and external cross-functional collaboration which helps boost productivity, satisfy customer requirements, accelerate innovation, and achieve greater speed and agility. Proto Labs continues to be recognized externally as the digital leader in many facets. Our revenue and non-GAAP operating margins improved sequentially and we look forward to carrying this momentum into the rest of 2022. Proto Labs has the speed, scale, brand, customer base, and manufacturing experience to keep growing profitably. The combination of Proto Labs' best-in-class rapid manufacturing services and Hubs outsourcing manufacturing partner network is a truly unique model in this market, a market that is growing rapidly with the continued digitalization of manufacturing. We remain confident in our long-term strategy and are focused on execution. We've established and strengthened the foundation and are focused on executing the integration of Hubs. As we do this profitably, we will reinforce our sustainable, long-term competitive advantage. Before I hand the call over to Dan, I would like to take a moment to thank Rich Baker for his service to Proto Labs. In his five years as Chief Technology Officer, Rich was instrumental in designing the upgrade of our digital infrastructure, and launching our Proto Labs 2.0 systems. I am serving as Interim Chief Technology Officer while we help with an executive search firm conduct a search to find a new leader to elevate how technology fuels our strategy and enables Proto Labs to maintain its position as the market leader. As we look on the horizon, we are on the precipice of revolutionizing manufacturing for a second time, with a broader offering and unified digital experience combining our digital thread with our digital network. As an ever-increasing group of companies adopt manufacturing 4.0, Proto Labs will continue to lead the way. I will now turn the call over to Dan Schumacher to take you through our first quarter financial results and our outlook for the second quarter. Dan?

Thanks, Rob and good morning, everyone. Our first quarter financial results begin on Page 7 of the presentation. First quarter revenue of $124.2 million was within our guidance range and represents a 6.9% increase year-over-year, or 6.2% organic growth in constant currencies. After a slow start in January, we saw demand pick up nicely through February and March. Hubs generated $10.3 million of revenue in the first quarter, representing growth of 78.6% year-over-year. As a reminder, we acquired Hubs in late January 2021. On an organic basis, first quarter Hubs revenue grew 38.2% year-over-year, as the U.S. dollar has continued to strengthen, resulting in a $1.5 million unfavorable impact on revenue in the quarter. This impact was above our expectations. First quarter revenue by region is summarized on Slide 11. In Europe, revenue of $24.6 million amounted to growth of 14.6% year-over-year. Excluding Hubs, first quarter revenue in Europe and the impact of foreign currencies, our Europe revenue grew 7.2% year-over-year. As Rob mentioned, we do not have direct customers or suppliers in Ukraine, Belarus, or Russia. While sanctions to date have not directly impacted Proto Labs, we may see some indirect impacts from affected customers. Turning to revenue by service, our CNC machining and 3D printing services each had a very strong start to 2022, growing 25.6% and 14.1% year-over-year respectively. Hubs contributed to our performance in CNC machining and 3D printing. Excluding Hubs, CNC machining grew 18.6% and 3D printing grew 10.4%. Even with increasing levels of competition in those services, Proto Labs' speed, reliability, and quality continue to resonate in the marketplace. Injection molding and sheet metal underperformed our first quarter expectations and we are actively working to increase volume in those services. Our injection molding growth rate in the quarter was negatively impacted by the absence of large COVID-related orders that we fulfilled in the first quarter of 2021. We served 23,492 unique product developers in the first quarter, up 3.9% year-over-year. Average revenue per product developer increased year-over-year in most services and regions due to the impact of pricing and increased orders from key customers. Turning to Slide 14 and our detailed income statement. First quarter non-GAAP gross margin was 45.7%, above our guidance range and representing sequential improvement of 10 basis points from the fourth quarter. Overall gross margin was slightly higher than we anticipated, due to revenue coming in above the top end of our range as well as margin improvements in February and March. Hubs' gross margin in the first quarter was 24.2%, compared to 17.5% in the fourth quarter of 2021 and 11.5% in the same period in the prior year. We are very pleased with the year-over-year improvement in Hubs' gross margin, which was largely driven by optimization of pricing algorithms and logistics processes, as well as increased value. As a result of improvements in Hubs' gross margin over the last year, we are updating our long-term gross margin target range to 25% to 30%. For the quarter, Hubs represented an approximately 190 basis point drag on our overall gross margin, due to the lower margin nature of the outsourced manufacturing model. Our total non-GAAP operating expenses were $42.9 million in the first quarter within our guidance range and in line with the fourth quarter of 2021. Non-GAAP operating expenses increased $500,000 year-over-year, driven by a full quarter of Hubs operating expenses in the first quarter of 2022 and higher incentive compensation due to material inflation. These increases were largely offset by a decline in contractor expenses that were elevated in the first quarter of 2021 due to the launch of Proto Labs 2.0 in the Americas. Moving to taxes. Our non-GAAP effective tax rate in the first quarter was 23.3% compared to 16% in the prior quarter, and 22.7% in the first quarter of 2021. Our non-GAAP rate was higher sequentially due to a one-time decrease in our reserves for uncertain tax positions in the fourth quarter of 2021 that did not repeat in the first quarter. Turning to earnings per share. First quarter non-GAAP diluted net income per share was $0.38 representing a sequential decrease of $0.03 per share, and a $0.02 per share decrease from the first quarter of 2021. The year-over-year decrease in earnings per share was driven by lower gross margins in our legacy business, partially offset by the absence of the Proto Labs 2.0 launch logistics sensors incurred in the first quarter of 2021 and higher value. Transitioning to cash flow and balance sheet highlights on Slide 16. We generated $17.8 million in cash from operations in the first quarter, compared to $6.4 million in the first quarter of 2021. At March 31, we had $105.3 million of cash and investments on our balance sheet, and we remain debt free. Finally, I'd like to detail our outlook for the second quarter of 2022 as outlined on Slide 18. We expect to generate revenue between $123 and $131 million in the second quarter, representing year-over-year growth of up to 8% in constant currency. This guidance incorporates April performance, current demand trends, and typical seasonality patterns. We expect foreign currency to have approximately a $2.5 million unfavorable impact on revenue compared to the second quarter of 2021 assuming foreign currency rates remain at current levels. Moving to earnings guidance, we anticipate non-GAAP add-backs in the second quarter to include stock-based compensation expense of approximately $4.7 million and amortization expense of $1.6 million. We currently estimate our non-GAAP effective tax rate will be between 24% and 25% in the second quarter. In summary, we expect second quarter non-GAAP earnings per share between $0.35 and $0.43.

Thank you. Our first question is from Brian Drab with William Blair. Please go ahead.

Hey, good morning, Rob and Dan. Thanks for taking my question.

Good morning.

Good morning.

Just on Hubs, can you elaborate a little bit on what you're seeing at Hubs, and the improvements that you've been able to make that give you the sense that you can get the business to 25% to 30% gross margin?

Yes. So within the Hubs business, we've added resources around price optimization. So that is looking at, as you know, we get CAD files coming in, optimizing the pricing that we can get that based on how that's going to be charged to us from our manufacturing partner network. Also, it's expanding who our manufacturing partners are into various areas, so that we have a wider range of different capabilities and pricing range that we can offer a customer.

Okay, so if I remember correctly, the manufacturing partner base totaled, I think it was $240 million when you acquired it. You know, where is that now and where do you expect that to go for hubs?

Yes, the Hubs network consists of hundreds of manufacturing partners. Our strategy is not to create the largest network, but to establish a well-defined premium network of manufacturers, fostering genuine partnerships. We believe this approach significantly enhances quality and reliability. Our understanding of our network partners allows us to tailor the tasks we assign to them, ensuring their success. As Dan noted, we have also invested in further diversifying this network globally, giving us a wider range of partners across all regions.

Brian, to address the first quarter and Hubs' gross margin, Chinese New Year falls in this period, resulting in reduced capacity among our manufacturing partners in China. We have established stronger relationships with our existing manufacturing partners in India and other locations, allowing us to better optimize pricing during the quarter. Last year, we faced some challenges in this area from a Hubs' perspective, but this year we performed significantly better, which is reflected in the gross margin results.

Right. Yes, I remember you had mentioned that was going to be positive this quarter, so that's good to see that that played out. Can I just ask again though, is that 240 manufacturing partner base the number that you're not going to update going forward?

I believe the number will change, yes. However, as we continue to grow, I don't think that number should be our main focus. We achieved a 40% year-over-year growth with our manufacturing partners, and we will have no issues maintaining that growth as needed. But the number itself isn't the key indicator of the health and strength of our network.

I’m just curious about the gross margin, which came in ahead of expectations. Should we expect gross margin to improve sequentially from the first quarter level as we progress through 2022? Thanks.

Yes, we do expect to see improvements in our gross margin from quarter to quarter. Our guidance reflects a slight sequential increase in the gross margin percentage. What I want to emphasize, Brian, is that this improvement relies on increasing our volume consistently from quarter to quarter, and that is one of the assumptions we are operating under.

Got it, okay thanks guys.

Thanks, Brian.

Thank you. Our next question is from Greg Palm with Craig Hallum Capital Group. Please go ahead.

Hey guys, this is Danny Eggerichs on for Greg today. Thanks for taking the questions.

Yes, good morning.

I was hoping to dig in a little bit more on the segment details. CNC was pretty strong and I was wondering how much of that was maybe due to pricing? And then on the injection molding side, it seemed like that was pretty strong last quarter. I know you mentioned some year-over-year comps related to some COVID projects, but any additional details there? And then maybe just a little bit on sheet metal and how that gets going?

Sure. Regarding CNC, we experienced the benefits of improved pricing and significant order increases from key customers, which was encouraging, along with growth in both our organic and Hubs business. As for injection molding and sheet metal, we had a slow start in January that primarily impacted those two service lines. In sheet metal, we're seeing a nice recovery and anticipate growth in Q2. For injection molding, we had several large one-time production orders in Q1 of last year that contributed to a backlog heading into Q2. This quarter, we didn't see a repeat of orders of that size. We're not pleased with this and are implementing a series of sales initiatives to ensure a stable and healthy pipeline for production orders in injection molding moving forward. However, I remain confident in our injection molding business. We have a unique offering, are investing in our production capabilities, and are launching new capabilities in this area. Customers have expressed high satisfaction, and I'm confident in our long-term growth in injection molding.

From a sheet metal perspective, we had a very slow start to the year for sheet metal, so both within in January and continuing into February, but the results have been positive as we've been looking into April. And we feel like there's going to be growth in that service in the second quarter. So sheet metal was more of a slow start to the year.

Got it? And then maybe keep it on track with that monthly demand trends. I appreciate the color on Q1. What have you been seeing quarter-to-date so far maybe in terms of demand and also within the inflationary environment what are you seeing there, optimal pricing actions?

Yes, I think our guidance is our best view of what we've seen in the quarter so far. Right? So our guidance is consistent with what we're seeing in April in our seasonal trends. From an inflation perspective, and what we're seeing from a macro perspective, for us, we're not seeing the shortages that we saw in the early part of the year, but we are seeing pickups in costs related to inflation. You know that could be in our logistics costs, or in our raw material costs are increasing. And so we're consistently looking at different ways that we can optimize price to offset what we're seeing there within the market.

Got it. Maybe I'll just end on Proto Labs 2.0 and kind of the overall improvements of the internal efficiencies, how is that progressing?

Well so, as Dan indicated, right, we're continuing to drive productivity and efficiency and assuming the volume meets our expectations, we should see that in our margins.

All right, I'll leave it there. Thanks for taking the questions.

Thank you.

Thank you.

Thank you. Our next question is from Jim Ricchiuti with Needham. Please go ahead.

Hi, thanks. Good morning. So I know there are a lot of moving parts to gross margins, but as we think about the sequential improvement that you're anticipating over the balance of the year, it sounds like you're certainly making progress with Hubs. To what extent is this ongoing price optimization, given the cost pressures that you're seeing in the business? To what extent does that play into the margin improvement or might these be additional levers going forward?

Jim, maybe one thing to point you in the right direction. We had slightly increasing non-GAAP margins from Q4 to Q1. If we did not have the decrease within the injection molding business, that gross margin would have improved more. So part of our focus is on improving the volume within that injection molding business and seeing that sequential growth quarter-to-quarter is part of what I'm talking about, in terms of and when we need to see the volume we have to see improvement in the injection molding business as we move forward and we have actions on that, to see that gross margin improve. As it relates to pricing, I think we're largely looking at pricing to offset inflationary costs and making sure that we're adjusting our price and optimizing our price moving forward.

And we're continuing to invest in our pricing approach and algorithms so that we can continue to have a very real-time sense of pricing in the market, and can adjust accordingly.

And I think with respect to Europe, it doesn't sound like you're seeing any immediate impact from the geopolitical events there. But you alluded to indirect impact and I guess what I'm wondering is, are you seeing any signs of that yet in the business or any particular areas where there's been a change in the demand picture relative to where we were two months ago?

Well, no, nothing, no strong signal yet. You know, Q1 we did see macro improvement in the Eurozone, and our business is performing well in Europe with on-time delivery and high customer satisfaction, which led to nice growth in the quarter for us. We do anticipate that that landscape can change though, of course, because it's a volatile time.

And last question from me is just wondering if there's any color you could provide on anything noteworthy from an end market standpoint? You guys sell into some pretty diverse verticals, and I'm just wondering if there's anything that you could call out that's worth noting as it relates to the quarter from an end market standpoint?

Yes, two end markets that were exceptionally strong for us were both industrial and commercial machinery as well as aerospace, which had very good quarters for us from a year-over-year growth perspective. As we mentioned, in the injection molding side, some of the higher COVID orders that we had last year impacted medical, so medical was down slightly year-over-year in the quarter just because of that impact.

But we're definitely seeing our offerings continue to be highly valued for those segments where innovation and speed to market is critical.

That’s it from me, thank you.

Thank you.

Thank you. Our next question is from Ben Rose with Battle Road Research. Please go ahead.

Yes, thanks very much and good morning, gentlemen. With respect to the CNC business growing very nicely, Rob I'm wondering if you can maybe offer some perspective on sort of the appeal of machine parts perhaps versus injection molded parts at a high level for certain customers in certain industries, why this particular service would be growing and resonating now?

Yes, so I think if you look at the industries that Dan highlighted, where we had strength in the quarter, those are highly correlated with metal parts manufacturing and CNC in particular. I would also add that we continue to see demand for our flexible lead time offer that provides longer lead times, and a broader range of solutions and offerings for our customers in CNC. So that's what we attribute that to.

Okay. And in the 3D printing area, can you speak to maybe at a high level, the mix that you're seeing from a plastic standpoint versus a metal standpoint, is there any evidence that 3D metal printing is becoming more mainstream?

Yes, I think we're seeing growth in both, in all materials within 3D printing, both plastics and metals. Today, our plastics side of our 3D printing business is still larger than the metals. We have a broader portfolio in the plastics 3D printing technologies, but we're seeing nice growth in metals as well.

Okay. And then finally, could you speak to any synergies that you're seeing between the core Proto Labs business and the Hubs business? I'm thinking specifically about orders that might come in to either business unit that might be more appropriate to the other, and whether that's helping to expand the business overall?

Yes, so we definitely do see orders that come in, and on one team that we transfer to the other and are doing cross-selling right now, between the sales teams in the two businesses. And as we get the integration completed and unified customer experience online, we expect that to ramp up quite dramatically.

Okay, thank you.

Thanks, Ben.

Thank you. Ladies and gentlemen, we have reached the end of the question-and-answer session and I would like to turn the call back to Mr. Robert Bodor for closing remarks.

Thank you for joining us on our first quarter 2022 conference call. We're pleased with our performance in the first four months of 2022 and we're extremely focused on the execution of our strategy. I'd like to thank our customers and shareholders for their continued support and I'd like to thank our employees for their efforts. We look forward to updating you on our performance next quarter. Have a good day.

Thank you. This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.