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UNITED STATES

 SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

________________

 

FORM 10-Q

(Mark One)

 

 

 

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2014

or

 

 

 

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                     

 

Commission File Number: 001-35435

 

 

Proto Labs, Inc.

(Exact name of registrant as specified in its charter)

 

 

 

Minnesota

 

41-1939628

(State or other jurisdiction of

 

(I.R.S. Employer

incorporation or organization)

 

Identification No.)

 

 

 

5540 Pioneer Creek Drive

 

 

Maple Plain, Minnesota

 

55359

(Address of principal executive offices)

 

(Zip Code)

 

(763) 479-3680

(Registrant’s telephone number, including area code)

 

                   Not Applicable

(Former name, former address and former fiscal year, if changed since last report)

____________________________________________

 

     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.                         ☑   Yes        ☐   No

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every

Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).                          ☑   Yes       ☐   No

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer     ☑

 

Accelerated filer     ☐

Non-accelerated filer     ☐

 

(Do not check if a smaller reporting company)

 

Smaller reporting company    ☐

  

   Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    ☐   Yes     ☑    No

 

    Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 25,718,607 shares of Common Stock, par value $0.001 per share, were outstanding at July 31, 2014.



 

 

 
 

 

 

 

Proto Labs, Inc.

TABLE OF CONTENTS

 

 

Item

 

Description

 

Page

         
    PART I    

1.

 

Financial Statements

 

3

2.

 

Management's Discussion and Analysis of Financial Condition and Results of Operations

 

16

3.

 

Quantitative and Qualitative Disclosures about Market Risk

 

25

4.

 

Controls and Procedures

 

26

 

  PART II     

1.

 

Legal Proceedings

 

27

1A.

 

Risk Factors

 

27

6.

 

Exhibits

 

28

 

 

 
2

 

 

 

PART I. FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

 

Proto Labs, Inc.

Consolidated Balance Sheets

(In thousands, except share and per share amounts)

 

   

 

       
             
   

June 30,

2014

   

December 31,

2013

 
   

(Unaudited)

         
Assets                
Current assets                

Cash and cash equivalents

  $ 22,854     $ 43,039  

Short-term marketable securities

    25,255       36,339  

Accounts receivable, net of allowance for doubtful accounts of $132 and $90 as of June 30, 2014 and December 31, 2013, respectively

    25,187       18,320  

Inventory

    5,755       5,166  

Prepaid expenses and other current assets

    5,135       3,569  

Income taxes receivable

    2,051       2,907  

Deferred tax assets

    459       455  
Total current assets     86,696       109,795  
Property and equipment, net     87,313       56,101  
Goodwill     28,916       -  
Other intangible assets, net     4,456       -  
Long-term marketable securities     57,325       64,023  
Other long-term assets     251       256  
Total assets   $ 264,957     $ 230,175  
                 
Liabilities and shareholders' equity                
Current liabilities                

Accounts payable

  $ 11,818     $ 6,455  

Accrued compensation

    5,805       6,196  

Accrued liabilities and other

    3,491       808  

Current portion of long-term debt obligations

    194       204  
Total current liabilities     21,308       13,663  
Long-term deferred tax liabilities     3,731       3,682  
Long-term debt obligations     77       159  
Other long-term liabilities     759       1,028  
Total liabilities     25,875       18,532  
                 
Shareholders' equity                

Preferred stock, $0.001 par value, authorized 10,000,000 shares; issued and outstanding 0 shares as of each of June 30, 2014 and December 31, 2013

    -       -  

Common stock, $0.001 par value, authorized 150,000,000 shares; issued and outstanding 25,672,300 and 25,546,107 shares as of June 30, 2014 and December 31, 2013, respectively

    26       26  

Additional paid-in capital

    172,538       166,861  

Retained earnings

    66,905       45,847  

Accumulated other comprehensive income (loss)

    (387 )     (1,091 )
Total shareholders' equity     239,082       211,643  
Total liabilities and shareholders' equity   $ 264,957     $ 230,175  
                 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

 
3

 

 

 

Proto Labs, Inc.

Consolidated Statements of Comprehensive Income

(In thousands, except share and per share amounts)

(Unaudited)

                             
   

Three Months Ended

June 30,

   

Six Months Ended

June 30,

 
   

2014

   

2013

   

2014

   

2013

 
                                 

Statements of Operations:

                               

Revenue

  $ 52,866     $ 39,749     $ 98,940     $ 77,062  

Cost of revenue

    20,183       14,896       37,233       28,930  

Gross profit

    32,683       24,853       61,707       48,132  

Operating expenses

                               
Marketing and sales     7,261       5,550       13,678       10,813  
Research and development     3,914       2,751       7,370       5,379  
General and administrative     5,534       3,923       10,237       7,917  
Total operating expenses     16,709       12,224       31,285       24,109  

Income from operations

    15,974       12,629       30,422       24,023  

Other income (expense), net

    (66 )     116       37       119  

Income before income taxes

    15,908       12,745       30,459       24,142  

Provision for income taxes

    4,952       4,134       9,401       7,244  

Net income

  $ 10,956     $ 8,611     $ 21,058     $ 16,898  
                                 

Net income per share:

                               
Basic   $ 0.43     $ 0.34     $ 0.82     $ 0.68  
Diluted   $ 0.42     $ 0.33     $ 0.81     $ 0.66  
                                 

Shares used to compute net income per share:

                               
Basic     25,620,005       25,258,932       25,597,055       25,030,283  
Diluted     26,146,848       25,850,247       26,132,265       25,627,382  
                                 

Comprehensive Income (net of tax)

                               

Comprehensive income

  $ 11,488     $ 8,413     $ 21,762     $ 15,793  
                                 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

 
4

 

 

 

Proto Labs, Inc.

Consolidated Statements of Cash Flows

(In thousands)

(Unaudited)

       
   

Six Months Ended

June 30,

 
   

2014

   

2013

 
                 
Operating activities                

Net income

  $ 21,058     $ 16,898  
Adjustments to reconcile net income to net cash provided by operating activities:                
Depreciation and amortization     4,683       3,582  
Stock-based compensation expense     2,248       1,736  
Deferred taxes     107       307  
Excess tax benefit from stock-based compensation     (1,623 )     (5,929 )
Loss on disposal of property and equipment     -       59  
Amortization of held-to-maturity securities     854       633  
Changes in operating assets and liabilities:                
Accounts receivable     (5,742 )     (2,032 )
Inventories     (306 )     (360 )
Prepaid expenses and other     (372 )     1,715  
Income taxes     2,431       3,066  
Accounts payable     5,143       1,083  
Accrued liabilities and other     (2,464 )     (1,310 )

Net cash provided by operating activities

    26,017       19,448  
                 
Investing activities                

Purchases of property and equipment

    (31,625 )     (6,069 )

Acquisitions, net of cash acquired

    (33,864 )     -  

Purchases of marketable securities

    (38,463 )     (57,310 )

Proceeds from maturities of marketable securities

    55,441       34,280  

Net cash used in investing activities

    (48,511 )     (29,099 )
                 
Financing activities                

Payments on debt

    (954 )     (166 )

Acquisition-related contingent consideration

    (400 )     -  

Proceeds from exercises of stock options and other

    1,806       2,870  

Excess tax benefit from stock-based compensation

    1,623       5,929  

Net cash provided by financing activities

    2,075       8,633  
Effect of exchange rate changes on cash and cash equivalents     234       (295 )
Net decrease in cash and cash equivalents     (20,185 )     (1,313 )
Cash and cash equivalents, beginning of period     43,039       36,759  
Cash and cash equivalents, end of period   $ 22,854     $ 35,446  
                 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

 
5

 

 

 

Proto Labs, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

 

Note 1 – Basis of Presentation

 

The unaudited interim Consolidated Financial Statements of Proto Labs, Inc. (Proto Labs, the Company, we, us or our) have been prepared in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. These statements are unaudited but, in the opinion of management, reflect all adjustments necessary for a fair presentation of the Company’s statement of financial position, results of operations and cash flows for the periods presented. Except as otherwise disclosed herein, these adjustments consist of normal, recurring items. Operating results for interim periods are not necessarily indicative of results that may be expected for the fiscal year as a whole.

 

The preparation of the financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses, and the related disclosures at the date of the financial statements and during the reporting period. Actual results could materially differ from these estimates. For further information, refer to the audited consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013 as filed with the Securities and Exchange Commission (SEC) on February 28, 2014.

 

The accompanying Consolidated Balance Sheet as of December 31, 2013 was derived from the audited Consolidated Financial Statements but does not include all disclosures required by U.S. GAAP for a full set of financial statements. This Form 10-Q should be read in conjunction with the Company’s Consolidated Financial Statements and Notes included in the Annual Report on Form 10-K filed on February 28, 2014 as referenced above.

 

Note 2 – Recent Accounting Pronouncements

 

In May 2014, the Financial Accounting Standards Board issued Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers. This ASU is a comprehensive new revenue recognition model that requires a company to recognize revenue from the transfer of goods or services to customers in an amount that reflects the consideration that the entity expects to receive in exchange for those goods or services. The Company is required to adopt the new pronouncement on January 1, 2017 using one of two retrospective application methods. The Company is evaluating the application method and the impact of this new standard on our financial statements.

 

There are no other new accounting pronouncements that are expected to have a significant impact on the Company’s consolidated financial statements.

 

Note 3 – Business Combinations

 

On April 23, 2014, the Company acquired 100% of the outstanding shares of FineLine Prototyping, Inc. (“FineLine”) for $33.9 million net cash consideration, which was funded with cash available in the United States and the sale of $15.5 million of held-to-maturity securities. Under the terms of the Agreement, the Company is obligated to make an additional cash payment of up to $3.0 million, contingent upon both the achievement of 2014 revenue goals and certain milestones relating to the integration of FineLine’s operations with the Company. The shares of FineLine acquired through the Stock Purchase Agreement (“Agreement”) were issued in a private transaction exempt from the registration under the Securities Act of 1933 and the operations of FineLine will be integrated into the operations of the Company.

 

FineLine is based in Raleigh, North Carolina and is a leading producer of parts using additive manufacturing technologies, often times referred to as 3D printing. FineLine produces high-quality parts using stereolithography (SLA), selective laser sintering (SLS) and direct metal laser sintering (DMLS) technologies to customers in a wide variety of industries, including medical, aerospace, computer/electronics, consumer products and industrial machinery, among others. Along with Protomold and Firstcut, the Company will offer these technologies to its customers under the Fineline product name.

 

Consistent with the provisions of Accounting Standards Codification (ASC) 805, Business Combinations (ASC 805), the Company accrued the contingent payment on the date of acquisition after determining its fair value of $3.0 million in arriving at $36.9 million of total consideration, net of cash acquired. The contingent consideration liability is reflected in accrued liabilities and other as of June 30, 2014 and continues to be remeasured to fair value at each reporting period with changes in fair value reflected in the Consolidated Statements of Comprehensive Income. As of June 30, 2014 the contingent consideration balance totaled $2.6 million.

 

 

 
6

 

 

 

Proto Labs, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

 

The fair value of the consideration paid for this acquisition was allocated to the assets purchased and liabilities assumed based on their estimated fair values as of the acquisition date, with any excess recorded as goodwill. The goodwill associated with the acquisition is deductible for tax purposes and represents the strategic and growth opportunities from strengthening the Company’s portfolio of rapid prototyping product offerings. The addition of additive manufacturing expands Proto Labs’ products to address a wider spectrum of need for the product developer. From concept models, to form and fit testing, to functional testing and short-run production, the acquisition of FineLine allows the Company to offer a broader range of quick-turn custom parts with speed, reliability and consistency.

 

The results of FineLine since the date of acquisition and pro forma disclosures of the consolidated results of the Company with the full year effects of FineLine have not been separately presented since the impact to the Company's results of operations was not material.

 

The acquisition has been accounted for under the acquisition method of accounting in accordance with ASC 805. As of June 30, 2014, this allocation for FineLine remains preliminary as it relates to the valuation of certain working capital accounts, intangible assets and taxes. The preliminary allocation of the purchase price to assets acquired and liabilities assumed is as follows:

 

(in thousands)

       

Assets acquired:

       

Current assets

  $ 1,248  

Intangible assets

    4,580  

Goodwill

    28,916  

Other long-term assets

    3,849  
Total assets acquired     38,593  
         

Liabilities assumed:

       

Current liabilities

    1,729  
Total liabilities assumed     1,729  
Net assets acquired     36,864  
         

Cash paid

    34,468  

Cash acquired

    (604 )
Net cash consideration     33,864  

Contingent consideration

    3,000  
Total purchase consideration   $ 36,864  

 

Note 4 – Goodwill and Other Intangible Assets

 

The changes in the carrying amount of Goodwill for the six months ended June 30, 2014 were as follows:

 

 

(in thousands)

 

Six Months Ended June 30, 2014

 

Balance as of the beginning of the period

  $ -  

Goodwill acquired during the period

    28,916  

Balance as of the end of the period

  $ 28,916  

 

 
7

 

 

Proto Labs, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

Intangible assets other than Goodwill at June 30, 2014 and December 31, 2013 were as follows:

 

 

   

June 30, 2014

   

December 31, 2013

                 

(in thousands)

 

Gross

   

Accumulated Amortization

   

Net

   

Gross

   

Accumulated Amortization

   

Net

   

Useful

Life (in

years)

   

Weighted Average

Useful Life Remaining

(in years)

 
Intangible Assets with finite lives:                                                                

Marketing assets

  $ 930     $ (15 )   $ 915     $ -     $ -     $ -       10       10  

Non-compete agreement

    190       (16 )     174       -       -       -       2       2  

Trade secrets

    250       (8 )     242       -       -       -       5       5  

Internally developed software

    680       (38 )     642       -       -       -       3       3  

Customer relationships

    2,530       (47 )     2,483       -       -       -       9       9  
Total intangible assets   $ 4,580     $ (124 )   $ 4,456     $ -     $ -     $ -                  

 

Amortization expense for intangible assets for each of the three and six months ended June 30, 2014 was $0.1 million. There was no amortization expense in the same periods of the prior year.

 

Estimated aggregated amortization expense based on the current carrying value of the amortizable intangible assets is as follows:

 

(in thousands)

 

Estimated

Amortization Expense

 

Remaining 2014

  $ 373  

2015

    746  

2016

    682  

2017

    500  

2018

    424  

Thereafter

    1,731  

Total estimated amortization expense

  $ 4,456  

 

Note 5 – Net Income per Common Share

 

Basic net income per share is computed based on the weighted-average number of common shares outstanding. Diluted net income per share is computed based on the weighted-average number of common shares outstanding, increased by the number of additional shares that would have been outstanding had the potentially dilutive common shares been issued and reduced by the number of shares the Company could have repurchased from the proceeds from issuance of the potentially dilutive shares. Potentially dilutive shares of common stock include stock options, restricted stock units and restricted stock awards granted under stock-based compensation plans and shares committed to be purchased under the employee stock purchase plan.

 

 

 
8

 

 

 

Proto Labs, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

 

The table below sets forth the computation of basic and diluted net income per share:

 

             
   

Three Months Ended

June 30,

   

Six Months Ended

June 30,

 

(in thousands, except share and per share amounts)

 

2014

   

2013

   

2014

   

2013

 
                                 

Net income

  $ 10,956     $ 8,611     $ 21,058     $ 16,898  
                                 

Basic - weighted-average shares outstanding:

    25,620,005       25,258,932       25,597,055       25,030,283  

Effect of dilutive securities:

                               
Employee stock options and other     526,843       591,315       535,210       597,099  

Diluted - weighted-average shares outstanding:

    26,146,848       25,850,247       26,132,265       25,627,382  

Net income per share:

                               
Basic   $ 0.43     $ 0.34     $ 0.82     $ 0.68  
Diluted   $ 0.42     $ 0.33     $ 0.81     $ 0.66  
                                 

 

Note 6 – Fair Value Measurements

 

ASC 820, Fair Value Measurement (ASC 820), defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. ASC 820 also establishes a fair value hierarchy which requires classification based on observable and unobservable inputs when measuring fair value. There are three levels of inputs that may be used to measure fair value:

 

Level 1—Quoted prices in active markets for identical assets or liabilities.

 

Level 2—Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

 

Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

 

The Company’s cash consists of bank deposits. The Company’s cash equivalents measured at fair value consist of money market mutual funds. The Company determines the fair value of these investments using Level 1 inputs.

 

A summary of financial assets as of June 30, 2014 and December 31, 2013 measured at fair value on a recurring basis follows:

 

             
   

June 30, 2014

   

December 31, 2013

 

(in thousands)

 

Level 1

   

Level 2

   

Level 3

   

Level 1

   

Level 2

   

Level 3

 
                                                 

Financial Assets:

                                               

Cash and cash equivalents

                                               
Money market mutual fund   $ 5,129     $ -     $ -     $ 5,524     $ -     $ -  
Total   $ 5,129     $ -     $ -     $ 5,524     $ -     $ -  
                                                 

 

 

 
9

 

 

 

Proto Labs, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

 

Note 7 – Marketable Securities

 

The Company invests in short-term and long-term agency, municipal, corporate, commercial paper and other debt securities. The securities are categorized as held-to-maturity and are recorded at amortized cost. Categorization as held-to-maturity is based on the Company’s ability and intent to hold these securities to maturity. Information regarding the Company’s short-term and long-term marketable securities as of June 30, 2014 and December 31, 2013 is as follows:

 

                         
    June 30, 2014  

(in thousands)

 

Amortized

Cost

   

Unrealized

Gains

   

Unrealized

Losses

   

Fair Value

 
                                 

U.S. government agency securities

  $ 16,453     $ 3     $ (20 )   $ 16,436  

Corporate debt securities

    28,752       21       (35 )     28,738  

Commercial paper

    1,998       -       -       1,998  

U.S. municipal securities

    30,222       69       (2 )     30,289  

Certificates of deposit/time deposits

    5,155       9       (2 )     5,162  
                                 

Total marketable securities

  $ 82,580     $ 102     $ (59 )   $ 82,623  
                                 

 

       
    December 31, 2013  

(in thousands)

 

Amortized Cost

   

Unrealized Gains

   

Unrealized Losses

   

Fair Value

 
                                 

U.S. government agency securities

  $ 21,713     $ 2     $ (22 )   $ 21,693  

Corporate debt securities

    29,480       30       (20 )     29,490  

U.S. municipal securities

    44,474       49       (22 )     44,501  

Certificates of deposit/time deposits

    4,695       5       (8 )     4,692  
                                 

Total marketable securities

  $ 100,362     $ 86     $ (72 )   $ 100,376  
                                 

 

Fair values for the corporate debt securities are primarily determined based on quoted market prices (Level 1).  Fair values for the U.S. municipal securities, U.S. government agency securities, certificates of deposit and commercial paper are primarily determined using dealer quotes or quoted market prices for similar securities (Level 2).

 

The Company tests for other than temporary losses on a quarterly basis and has considered the unrealized losses indicated above to be temporary in nature. The Company intends to hold the investments to maturity and recover the full principal.

 

Classification of marketable securities as current or non-current is based upon the security’s maturity date as of the date of these financial statements.

 

The June 30, 2014 balance of held-to-maturity debt securities by contractual maturity is shown in the following table at amortized cost. Actual maturities may differ from contractual maturities because the issuers of the securities may have the right to prepay obligations without prepayment penalties.

 

       

(in thousands)

 

June 30,

2014

 
         

Due in one year or less

  $ 25,255  

Due after one year through five years

    57,325  
         

Total marketable securities

  $ 82,580  

 

 

 
10

 

 

 

Proto Labs, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

 

Note 8 – Inventory

 

Inventory consists primarily of raw materials, which are recorded at the lower of cost or market using the average-cost method, which approximates first-in, first-out (FIFO) cost. The Company periodically reviews its inventory for slow-moving, damaged and discontinued items and provides allowances to reduce such items identified to their recoverable amounts.

 

The Company’s inventory consists of the following:

 

             

(in thousands)

 

June 30,

2014

   

December 31,

2013

 
                 

Raw materials

  $ 5,417     $ 4,875  

Work in process

    530       410  

Total inventory

    5,947       5,285  

Allowance for obsolescence

    (192 )     (119 )
                 

Inventory, net of allowance

  $ 5,755     $ 5,166  
                 

 

 

Note 9 – Stock-Based Compensation

 

Under the 2012 Long-Term Incentive Plan (2012 Plan), the Company has the ability to grant stock options, stock appreciation rights (SARs), restricted stock, stock units, other stock-based awards and cash incentive awards. Awards under the 2012 Plan will have a maximum term of ten years from the date of grant. The compensation committee may provide that the vesting or payment of any award will be subject to the attainment of specified performance measures in addition to the satisfaction of any continued service requirements and the compensation committee will determine whether such measures have been achieved. The per share exercise price of stock options and SARs granted under the 2012 Plan generally may not be less than the fair market value of a share of our common stock on the date of the grant. 

 

Employee Stock Purchase Plan

 

The Company’s 2012 Employee Stock Purchase Plan (ESPP), allows eligible employees to purchase shares of the Company’s common stock at a discount through payroll deductions of up to 15 percent of their eligible compensation, subject to plan limitations. The ESPP provides for six-month offering periods ending May 15 and November 15, respectively. At the end of each offering period, employees are able to purchase shares at 85 percent of the lower of the fair market value of the Company’s common stock on the first trading day of the offering period or on the last trading day of the offering period.

 

Stock-Based Compensation Expense

 

Stock-based compensation expense was $1.2 million and $0.9 million for the three months ended June 30, 2014 and 2013, respectively, and $2.2 and $1.7 million for the six months ended June 30, 2014 and 2013, respectively.

 

 

 
11

 

 

Proto Labs, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

Stock Options

 

A summary of stock option activity for the six months ended June 30, 2014 is as follows:

 

               
   

Stock Options

   

Weighted-

Average

Exercise Price

 
                 

Options outstanding at December 31, 2013

    1,143,250     $ 19.03  

Granted

    108,860       72.70  

Exercised

    (103,648 )     10.56  

Forfeited

    (3,604 )     22.41  

Options outstanding at June 30, 2014

    1,144,858     $ 24.89  
                 
Exercisable at June 30, 2014     535,033     $ 15.36  
                 

 

The outstanding options generally have a term of ten years. For employees, options granted become exercisable ratably over the vesting period, which is generally a five-year period beginning on the first anniversary of the grant date, subject to the employee’s continuing service to the Company. For directors, options generally become exercisable in full on the first anniversary of the grant date.

 

The weighted-average grant date fair value of options that were granted during the six months ended June 30, 2014 was $32.73.

 

The following table provides the assumptions used in the Black-Scholes pricing model valuation of options during the six months ended June 30, 2014 and 2013, respectively:

 

       
   

Six Months Ended June 30,

 
   

2014

   

2013

 
                         

Risk-free interest rate

    0.43 - 2.14%       1.03  - 1.30%  

Expected life (years)

    2.00 6.50       5.50  - 6.50  

Expected volatility

    48.87 49.30%       53.32  - 53.54%  

Expected dividend yield

      0%           0%    
                         

 

As of June 30, 2014, there was $8.9 million of unrecognized compensation expense related to unvested stock options, which is expected to be recognized over a weighted-average period of 3.4 years.

 

Restricted Stock

 

Restricted stock are non-vested stock that include grants of restricted stock awards (RSA) and grants of restricted stock units (RSU). During the six months ended June 30, 2014, the Company granted both RSA and RSU.

 

 

 
12

 

 

 

Proto Labs, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

 

Non-vested restricted stock as of June 30, 2014 and changes during the six months ended June 30, 2014 were as follows:

 

             
   

Restricted

Stock Awards

   

Weighted-

Average

Grant Date

Fair Value

Per Share

 
                 

Nonvested restricted stock at December 31, 2013

    -     $ -  

Granted

    74,137       69.42  

Vested

    -       -  

Forfeited

    -       -  

Nonvested restricted stock at June 30, 2014

    74,137     $ 69.42  
                 

 

As of June 30, 2014, there was $4.8 million of unrecognized compensation expense related to non-vested restricted stock, which is expected to be recognized over a weighted-average period of 4.0 years.

 

Employee Stock Purchase Plan

 

The following table presents the assumptions used to estimate the fair value of the ESPP during the six months ended June 30, 2014 and 2013, respectively:

 

       
   

Six Months Ended June 30,

 
   

2014

   

2013

 
                         

Risk-free interest rate

     0.01%  - 0.11%       0.11  - 0.13%  

Expected life (months)

      6.00            6.00    

Expected volatility

    39.16% - 39.80%       53.14%  - 53.32%  

Expected dividend yield

      0%           0%    
                         

 

Note 10 – Accumulated Other Comprehensive Income

 

Other comprehensive income (loss) is comprised entirely of foreign currency translation adjustments. The following table presents the changes in accumulated other comprehensive income balances during the three and six months ended June 30, 2014 and 2013, respectively:

 

             
   

Three Months Ended

June 30,

   

Six Months Ended

June 30,

 
(in thousands)  

2014

   

2013

   

2014

   

2013

 
                                 
Foreign currency translation adjustment, net of tax                                

Balance at beginning of period

  $ (919 )   $ (1,835 )   $ (1,091 )   $ (928 )

Other comprehensive income before reclassifications

    532       (198 )     704       (1,105 )

Amounts reclassified from accumulated other comprehensive income

    -       -       -       -  

Net current-period other comprehensive income

    532       (198 )     704       (1,105 )

Balance at end of period

  $ (387 )   $ (2,033 )   $ (387 )   $ (2,033 )
                                 

 

 

 
13

 

 

 

Proto Labs, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

 

Note 11 Income Taxes

 

The Company is subject to income tax in multiple jurisdictions and the use of estimates is required to determine the provision for income taxes. For the three months ended June 30, 2014 and 2013 the Company recorded an income tax provision of $5.0 million and $4.1 million, respectively. For the six months ended June 30, 2014 and 2013 the Company recorded an income tax provision of $9.4 million and $7.2 million, respectively. The income tax provision is based on the estimated annual effective tax rate for the year applied to pre-tax income. The effective income tax rate for the three months ended June 30, 2014 was 31.1 percent compared with 32.4 percent in the same period of the prior year. The effective income tax rate for the six months ended June 30, 2014 was 30.9 percent compared with 30.0 percent in the same period of the prior year.

 

The effective income tax rate for the three and six months ended June 30, 2014 differs from the U.S. federal statutory rate of 35 percent due primarily to the mix of revenue earned in domestic and foreign tax jurisdictions and deductions for which the Company qualifies.

 

On January 2, 2013, the American Taxpayer Relief Act of 2012 (the Act) was signed into law. Included in the Act was the extension of the research and development credit for years 2012 and 2013. As the Act was enacted during 2013, the federal portion of the 2012 research and development credit was recognized in the first quarter of 2013. As a result, during the three months ended March 31, 2013, the Company recorded a tax benefit of $0.3 million. Absent the impact of the Act, the effective income tax rates would have been similar for the six month periods ended June 30, 2014 and 2013, respectively.

 

The Company has liabilities related to unrecognized tax benefits totaling $0.7 million at each of June 30, 2014 and December 31, 2013. There were no material adjustments to the unrecorded tax benefits during the six months ended June 30, 2014, and the Company does not anticipate that total unrecognized tax benefits will materially change in the next twelve months. The Company recognizes interest and penalties related to income tax matters in income tax expense, and reports the liability in current or long-term income taxes payable as appropriate.

 

Note 12 Revenue and Geographic Information

 

The Company’s revenue is derived from its Protomold molding, Firstcut computer numerical control (CNC) machining and Fineline additive manufacturing (3D printing) product lines. Total revenue by product line is as follows:

 

             
   

Three Months Ended June 30,

   

Six Months Ended June 30,

 
(in thousands)  

2014

   

2013

   

2014

   

2013

 
                                 
Revenue:                                

Protomold

  $ 36,255     $ 27,924     $ 68,949     $ 54,804  

Firstcut

    14,478       11,825       27,858       22,258  

Fineline

    2,133       -       2,133       -  

Total revenue

  $ 52,866     $ 39,749     $ 98,940     $ 77,062  
                                 

 

Revenue to external customers based on the billing location of the end user customer and long-lived assets by geographic region are as follows:

 

             
   

Three Months Ended June 30,

   

Six Months Ended June 30,

 
(in thousands)  

2014

   

2013

   

2014

   

2013

 
                                 
Revenue:                                

United States

  $ 39,966     $ 30,106     $ 72,988     $ 58,254  

International

    12,900       9,643       25,952       18,808  

Total revenue

  $ 52,866     $ 39,749     $ 98,940     $ 77,062  
                                 

 

 
14

 

 

 

Proto Labs, Inc.

Notes to Consolidated Financial Statements

(Unaudited)

 

             
(in thousands)  

June 30,

2014

   

December 31,

2013

 
                 
Long-lived assets:                

United States

  $ 72,014     $ 48,381  

International

    15,299       7,720  

Total long-lived assets

  $ 87,313     $ 56,101  
                 

 

 

 
15

 

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited consolidated financial statements and related notes appearing elsewhere in this Quarterly Report on Form 10-Q and our Annual Report on Form 10-K for the year ended December 31, 2013.

 

Forward-Looking Statements

 

Statements contained in this report regarding matters that are not historical or current facts are “forward-looking statements” within the meaning of The Private Securities Litigation Reform Act of 1995. In some cases, you can identify forward-looking statements by the following words: “may,” “will,” “could,” “would,” “should,” “expect,” “intend,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “project,” “potential,” “continue,” “ongoing” or the negative of these terms or other comparable terminology, although not all forward-looking statements contain these words. These statements involve known and unknown risks, uncertainties and other factors which may cause our results to be materially different than those expressed or implied in such statements. Certain of these risk factors and others are described in Item 1A. “Risk Factors” of our Annual Report on Form 10-K as filed with the SEC. Other unknown or unpredictable factors also could have material adverse effects on our future results. We cannot guarantee future results, levels of activity, performance or achievements. Accordingly, you should not place undue reliance on these forward-looking statements. Finally, we expressly disclaim any intent or obligation to update any forward-looking statements to reflect subsequent events or circumstances.

 

Overview

 

We are a leading online and technology-enabled manufacturer of quick-turn additive-manufactured (3D printed), CNC-machined and molded custom parts for prototyping and short-run production. We provide “Real Parts, Really Fast” to product developers worldwide, who are under increasing pressure to bring their finished products to market faster than their competition. We believe low-volume manufacturing has historically been an underserved market due to the inefficiencies inherent in the quotation, equipment set-up and non-recurring engineering processes required to produce custom parts. Our proprietary technology eliminates most of the time-consuming and expensive skilled labor conventionally required to quote and manufacture parts in low volumes, and our customers conduct nearly all of their business with us over the Internet. We target our services to the millions of product developers who use three-dimensional computer-aided design (3D CAD) software to design products across a diverse range of end-markets. Our primary manufacturing products currently include Fineline, which is our additive-manufacturing (3D printing) product line, Firstcut, which is our CNC machining product line, and Protomold, which is our molding product line.

 

Key Financial Measures and Trends

 

Revenue

 

The Company’s operations are comprised of three geographic business units in the United States, Europe and Japan. Revenue within each of our business units is derived from our Fineline, Firstcut and Protomold product lines. Fineline revenue consists of sales of additive-manufactured custom parts, often referred to as 3D printed parts. Firstcut revenue consists of sales of CNC-machined custom parts. Protomold revenue consists of sales of custom molds and molded parts. Our historical and current efforts to increase revenue have been directed at gaining new customers and selling to our existing customer base by:

 

 

increasing marketing and selling activities,

 

offering additional services such as the acquisition in April 2014 of FineLine Prototyping, Inc. leading to the offering of Fineline additive manufacturing technologies, often times referred to as 3D printing,

 

introducing our Firstcut product line in 2007,

 

expanding internationally such as the opening of our Japanese plant in 2009,

 

improving the usability of our services such as our web-centric applications, and

 

expanding the breadth and scope of our products such as by adding more sizes and materials to our offerings such as liquid silicon rubber (LSR) and metal injection molding (MIM).

 

 

 
16

 

 

 

Excluding product developers we gained through the acquisition of FineLine, during the three months ended June 30, 2014, we served approximately 8,200 unique product developers, an increase of 19% over the same period in 2013. Excluding product developers we gained through the acquisition of FineLine, during the six months ended June 30, 2014, we served approximately 12,100 unique product developers, an increase of 18% over the same period in 2013.

 

 

 

Cost of Revenue, Gross Profit and Gross Margin

 

Cost of revenue consists primarily of raw materials, equipment depreciation, employee salaries, benefits, stock-based compensation, bonuses and overhead allocations associated with the manufacturing process for molds and custom parts. We expect cost of revenue to increase in absolute dollars, but remain relatively constant as a percentage of total revenue.

 

We define gross profit as our revenue less our cost of revenue, and we define gross margin as gross profit expressed as a percentage of revenue. Our gross profit and gross margin are affected by many factors, including pricing, sales volume and manufacturing costs, the costs associated with increasing production capacity, the mix between domestic and foreign revenue sources and foreign exchange rates.

 

Operating Expenses

 

Operating expenses consist of marketing and sales, research and development and general and administrative. Personnel-related costs are the most significant component of the marketing and sales, research and development and general and administrative expense categories.

 

Our recent growth in operating expenses is mainly due to higher headcounts to support our growth and expansion, and we expect that trend to continue. Our business strategy is to continue to be a leading online and technology-enabled manufacturer of quick-turn additive-manufactured (3D printing), CNC-machined and molded custom parts for prototyping and short-run production. For us to achieve our goals, we anticipate continued substantial investments in technology and personnel, resulting in increased operating expenses.

 

Marketing and sales. Marketing and sales expense consists primarily of employee compensation, benefits, commissions, stock-based compensation, marketing programs such as print and pay-per-click advertising, trade shows, direct mail and other related overhead. We expect sales and marketing expense to increase in the future as we increase the number of marketing and sales professionals and marketing programs targeted to increase our customer base.

 

Research and development. Research and development expense consists primarily of employee compensation, benefits, stock-based compensation, depreciation on equipment, outside services and other related overhead. All of our research and development costs have been expensed as incurred. We expect research and development expense to increase in the future as we seek to enhance and expand our service offerings.

 

General and administrative. General and administrative expense consists primarily of employee compensation, benefits, stock-based compensation, professional service fees related to accounting, tax and legal services, amortization of intangibles and other related overhead. We expect general and administrative expense to increase on an absolute basis as we continue to grow and expand our operations.

 

Other Income (Expense), Net

 

Other income (expense), net primarily consists of foreign currency-related gains and losses, interest income on cash balances and investments, and interest expense on borrowings. Our foreign currency-related gains and losses will vary depending upon movements in underlying exchange rates. Our interest income will vary each reporting period depending on our average cash balances during the period, composition of our marketable security portfolio and the current level of interest rates. Our interest expense will vary based on borrowings and interest rates.

 

Provision for Income Taxes

 

Provision for income taxes is comprised of federal, state, local and foreign taxes based on pre-tax income. We expect income taxes to increase as our taxable income increases and our effective tax rate to remain relatively constant.

 

 

 
17

 

 

 

Results of Operations

 

The following table sets forth a summary of our results of operations and the related changes for the periods indicated. The results below are not necessarily indicative of the results for future periods.

 

 

                         
   

Three Months Ended June 30,

   

Change

   

Six Months Ended June 30,

   

Change

 

(dollars in thousands)

 

2014

   

2013

       $        %    

2014

   

2013

       $        
                                                                                                 

Revenue

  $ 52,866       100.0 %   $ 39,749       100.0 %   $ 13,117       33.0 %   $ 98,940       100.0 %   $ 77,062       100.0 %   $ 21,878       28.4  

Cost of revenue

    20,183       38.2       14,896       37.5       5,287       35.5       37,233       37.6       28,930       37.5       8,303       28.7  

Gross profit

    32,683       61.8       24,853       62.5       7,830       31.5       61,707       62.4       48,132       62.5       13,575       28.2  

Operating expenses:

                                                                                               
Marketing and sales     7,261       13.7       5,550       13.9       1,711       30.8       13,678       13.8       10,813       14.0       2,865       26.5  
Research and development     3,914       7.4       2,751       6.9       1,163       42.3       7,370       7.4       5,379       7.0       1,991       37.0  
General and administrative     5,534       10.5       3,923       9.9       1,611       41.1       10,237       10.4       7,917       10.3       2,320       29.3  
Total operating expenses     16,709       31.6       12,224       30.7       4,485       36.7       31,285       31.6       24,109       31.3       7,176       29.8  

Income (expense) from operations

    15,974       30.2       12,629       31.8       3,345       26.5       30,422       30.8       24,023       31.2       6,399       26.6  

Other income, net

    (66 )     (0.1 )     116       0.3       (182 )     *       37       0.0       119       0.1       (82 )     (68.9 )

Income before income taxes

    15,908       30.1       12,745       32.1       3,163       24.8       30,459       30.8       24,142       31.3       6,317       26.2  

Provision for income taxes

    4,952       9.4       4,134       10.4       818       19.8       9,401       9.5       7,244       9.4       2,157       29.8  

Net income

  $ 10,956       20.7 %   $ 8,611       21.7 %   $ 2,345       27.2 %   $ 21,058       21.3 %   $ 16,898       21.9 %   $ 4,160       24.6 %
                                                                                                 

*Percentage change not meaningful

 

Stock-based compensation expense included in the statements of operations data above is as follows:

 

             
   

Three Months Ended June 30,

   

Six Months Ended June 30,

 

(dollars in thousands)

 

2014

   

2013

   

2014

   

2013

 
                                 

Stock options and restricted stock

  $ 1,147     $ 778     $ 2,060     $ 1,554  

Employee stock purchase plan

    103       93       188       182  

Total stock-based compensation expense

  $ 1,250     $ 871     $ 2,248     $ 1,736  
                                 

Cost of revenue

  $ 97     $ 73     $ 179     $ 144  

Operating expenses:

                               
Marketing and sales     240       151       435       301  
Research and development     268       181       483       354  
General and administrative     645       466       1,151       937  

Total stock-based compensation expense

  $ 1,250     $ 871     $ 2,248     $ 1,736  
                                 

 

 

 
18

 

 

 

Comparison of Three Months Ended June 30, 2014 and 2013

 

Revenue

 

Revenue by product line and the related changes for the three months ended June 30, 2014 and 2014 were as follows:

 

 

                       
   

Three Months Ended June 30,

                 
   

2014

   

2013

   

Change

 

(dollars in thousands)

     $    

% of Total

Revenue

       $    

% of Total

Revenue

         

%

 
                                                 

Revenue

                                               
Protomold   $ 36,255       68.6 %   $ 27,924       70.3 %   $ 8,331       29.8 %
Firstcut     14,478       27.4       11,825       29.7       2,653       22.4  
Fineline     2,133       4.0       -       -       2,133       100.0  
                                                 

Total revenue

  $ 52,866       100.0 %   $ 39,749       100.0 %   $ 13,117       33.0 %
                                                 

 

Revenue by geographic region, based on the billing location of the end customer, is summarized as follows:

 

                       
   

Three Months Ended June 30,

                 
   

2014

   

2013

   

Change

 

(dollars in thousands)

     $    

% of Total

Revenue

       $    

% of Total

Revenue

         

%

 
                                                 

Revenue

                                               
United States   $ 39,966       75.6 %   $ 30,106       75.7 %   $ 9,860       32.8 %
International     12,900       24.4       9,643       24.3       3,257       33.8  
                                                 

Total revenue

  $ 52,866       100.0 %   $ 39,749       100.0 %   $ 13,117       33.0 %
                                                 

 

Our revenue increased $13.1 million, or 33.0%, for the three months ended June 30, 2014 compared with the same period in 2013. This revenue growth was driven by a 32.8% increase in United States revenue, 33.8% increase in international revenue, 29.8% increase in Protomold revenue, 22.4% increase in Firstcut revenue and $2.1 million increase in revenue from the FineLine acquisition, in all cases for the three months ended June 30, 2014 compared with the same period in 2013.

 

Within our legacy Firstcut and Protomold product lines, our revenue growth in the three months ended June 30, 2014 was the result of increased number and spending of the product developers we served. During the three months ended June 30, 2014, excluding product developers who purchased Fineline products, we served approximately 8,200 unique product developers, an increase of 19.4% over the same period in 2013. Average revenue per product developer, excluding product developers who purchased Fineline products, also increased 6.9% during the three months ended June 30, 2014 compared to the same period in 2013.

 

Excluding revenue gained through the acquisition of FineLine, our revenue increases were primarily driven by increases in sales personnel and marketing activities. Our sales personnel focus on gaining new customer accounts and expanding the depth and breadth into existing customer accounts. Our marketing personnel focus on trade show and marketing activities that have proven to result in the greatest number of customer leads to support sales activity. International revenue was favorably impacted by $0.7 million in the three months ended June 30, 2014 compared to the same period in 2013 due to weakening of the United States dollar relative to certain foreign currencies, particularly the British Pound. The effect of pricing changes on revenue was immaterial for the three months ended June 30, 2014 compared to the same period in 2013.

 

Cost of Revenue, Gross Profit and Gross Margin

 

Cost of Revenue. Cost of revenue increased $5.3 million, or 35.5%, for the three months ended June 30, 2014 compared to the same period in 2013, which was faster than the rate of revenue increase of 33.0% for the three months ended June 30, 2014 compared to the same period in 2013. The increase in cost of revenue was due to raw material and production cost increases of $1.8 million to support increased sales volumes, equipment and facility-related cost increases of $0.7 million and an increase in direct labor headcount resulting in personnel and related cost increases of $2.8 million.

 

Gross Profit and Gross Margin. Gross profit increased to $32.7 million, or 61.8% of revenues, for the three months ended June 30, 2014 from $24.9 million, or 62.5% of revenues, for the three months ended June 30, 2013 due to increases in revenue offset by the cost of revenue as discussed above. Gross margin decreased primarily as a result of additional costs incurred related to the integration of FineLine and the move to our new facility in Plymouth, Minnesota.

 

 

 
19

 

 

 

Operating Expenses, Other Income (Expense), net and Provision for Income Taxes

 

Marketing and Sales. Marketing and sales expense increased $1.7 million, or 30.8%, for the three months ended June 30, 2014 compared to the same period in 2013 due primarily to an increase in headcount resulting in personnel and related cost increases of $1.3 million and marketing program cost increases of $0.4 million. The increase in marketing program costs is the result of our focus and concentration on funding those programs which have proven to be the most effective in growing our business. Marketing and sales expense as a percentage of revenue decreased to 13.7% for the three months ended June 30, 2014 from 14.0% during the same period in 2013, primarily due to the fixed nature of certain marketing and sales costs as well as focus on effective marketing spending as previously discussed.

 

Research and Development. Our research and development expense increased $1.2 million, or 42.3%, for the three months ended June 30, 2014 compared to the same period in 2013 due to an increase in headcount resulting in personnel and related cost increases of $1.0 million and operating cost increases of $0.2 million.

 

General and Administrative. Our general and administrative expense increased $1.6 million, or 41.1%, for the three months ended June 30, 2014 compared to the same period in 2013 due to an increase in headcount resulting in personnel and related cost increases of $0.7 million, stock-based compensation costs increases of $0.2 million, administrative cost increases of $0.1 million, intangible amortization expense cost increases of $0.1 and professional service cost increases of $0.5 million.

 

Other Income (Expense), net. Other income, net decreased $0.2 million for the three months ended June 30, 2014 compared to the same period in 2013 due to changes in foreign currency rates.

 

Provision for Income Taxes. Our effective tax rate of 31.1% for the three months ended June 30, 2014 decreased 1.3% when compared to 32.4% for the same period in 2013. The decrease in the effective tax rate is primarily due to an increase in tax benefit from the domestic manufacturing deduction projected for the tax year ending December 31, 2014. As a result of increased income attributable to the fluctuations described above, our income tax provision increased by $0.9 million to $5.0 million for the three months ended June 30, 2014 compared to our income tax provision of $4.1 million for the three months ended June 30, 2013.

 

Comparison of Six Months Ended June 30, 2014 and 2013

 

Revenue

 

Revenue by product line and the related changes for the six months ended June 30, 2014 and 2014 were as follows:

 

                       
   

Six Months Ended June 30,

                 
   

2014

   

2013

   

Change

 

(dollars in thousands)

     $    

% of Total

Revenue

       $    

% of Total

Revenue

         

%

 
                                                 

Revenue

                                               
Protomold   $ 68,949       69.7 %   $ 54,804       71.1 %   $ 14,145       25.8 %
Firstcut     27,858       28.2       22,258       28.9       5,600       25.2  
Fineline     2,133       2.1       -       -       2,133       100.0  
                                                 

Total revenue

  $ 98,940       100.0 %   $ 77,062       100.0 %   $ 21,878       28.4 %
                                                 

 

 

 
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Revenue by geographic region, based on the billing location of the end customer, is summarized as follows:

 

                       
   

Six Months Ended June 30,

                 
   

2014

   

2013

   

Change

 

(dollars in thousands)

       

% of Total

Revenue

       $    

% of Total

Revenue

      . $    

%

 
                                                 

Revenue

                                               
United States   $ 72,988       73.8 %   $ 58,254       75.6 %   $ 14,734       25.3 %
International     25,952       26.2       18,808       24.4       7,144       38.0  
                                                 

Total revenue

  $ 98,940       100.0 %   $ 77,062       100.0 %   $ 21,878       28.4 %
                                                 

 

Our revenue increased $21.9 million, or 28.4%, for the six months ended June 30, 2014 compared with the same period in 2013. This revenue growth was driven by a 25.3% increase in United States revenue, 38.0% increase in international revenue, 25.8% increase in Protomold revenue, 25.2% increase in Firstcut revenue and $2.1 in revenue from the FineLine acquisition, in each case for the six months ended June 30, 2014 compared with the same period in 2013.

 

Within our legacy Firstcut and Protomold product lines, our revenue growth in the six months ended June 30, 2014 was the result of increased number and spending of the product developers we served. During the six months ended June 30, 2014, excluding product developers who purchased Fineline products, we served approximately 12,100 unique product developers, an increase of 18.4% over the same period in 2013. Average revenue per product developer, excluding product developers who purchased Fineline products, also increased 6.1% during the six months ended June 30, 2014 compared to the same period in 2013.

 

Excluding revenue gained through the acquisition of FineLine, our revenue increases were primarily driven by increases in sales personnel and marketing activities. Our sales personnel focus on gaining new customer accounts and expanding the depth and breadth into existing customer accounts. Our marketing personnel focus on trade show and marketing activities that have proven to result in the greatest number of customer leads to support sales activity. International revenue was favorably impacted by $1.1 million in the six months ended June 30, 2014 compared to the same period in 2013 due to the weakening of United States dollar relative to certain foreign currency, particularly the British Pound. The effect of pricing changes on revenue was immaterial for the six months ended June 30, 2014 compared to the same period in 2013.

 

Cost of Revenue, Gross Profit and Gross Margin

 

Cost of Revenue. Cost of revenue increased $8.3 million, or 28.7%, for the six months ended June 30, 2014 compared to the same period in 2013, which was slightly higher than the rate of revenue increase of 28.4% for the six months ended June 30, 2014. The increase in cost of revenue was due to raw material and production cost increases of $2.4 million to support increased sales volumes, equipment and facility-related cost increases of $1.3 million and an increase in direct labor headcount resulting in personnel and related cost increases of $4.6 million.

 

Gross Profit and Gross Margin. Gross profit increased to $61.7 million, or 62.4% of revenues, for the six months ended June 30, 2014 from $48.1 million, or 62.5% of revenues, for the six months ended June 30, 2013 due to increases in revenue offset by the cost of revenue as discussed above. Despite costs incurred related to the integration of FineLine and the move to our new facility in Plymouth, Minnesota, gross margins have remained similar in each of the six month periods ended June 30, 2014 and 2013.

 

Operating Expenses, Other Income (Expenses), Net and Provision for Income Taxes

 

Marketing and Sales. Marketing and sales expense increased $2.9 million, or 26.5%, for the six months ended June 30, 2014 compared to the same period in 2013 due primarily to an increase in headcount resulting in personnel and related cost increases of $2.2 million and marketing program cost increases of $0.7 million. The increase in marketing program costs is the result of our focus and concentration on funding those programs which have proven to be the most effective in growing our business.

 

Research and Development. Our research and development expense increased $2.0 million, or 37.0%, for the six months ended June 30, 2014 compared to the same period in 2013 due to an increase in headcount resulting in personnel and related cost increases of $1.6 million and operating cost increases of $0.4 million.

 

 

 
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General and Administrative. Our general and administrative expense increased $2.3 million, or 29.3%, for the six months ended June 30, 2014 compared to the same period in 2013 due to an increase in headcount resulting in personnel and related cost increases of $0.7 million, stock-based compensation costs increases of $0.2 million, administrative cost increases of $0.4 million, intangible amortization expense cost increases of $0.1 and professional service cost increases of $0.9 million.

 

Other Income (Expense), Net. Our other income, net decreased $0.1 million for the six months ended June 30, 2014 compared to the same period in 2013 due to foreign currency change decreases of $0.2 million, which were partially offset by investment interest income increases of $0.1 million.

 

Provision for Income Taxes. Our effective tax rate of 30.9% for the six months ended June 30, 2014 increased by 0.9% when compared to our effective tax rate of 30.0% for the same period in 2013. The increase in our effective tax rate is due primarily to the American Taxpayer Relief Act of 2012, which was enacted on January 2, 2013 and required that we recognize the federal portion of our 2012 research and development credit in the first quarter of 2013. Refer to Footnote 11 for additional information. As a result of the change in effective tax rate as well as increased income attributable to the fluctuations described above, our income tax provision increased by $2.2 million to $9.4 million for the six months ended June 30, 2014 compared to our income tax provision of $7.2 million for the six months ended June 30, 2013.

 

Liquidity and Capital Resources

 

Cash Flows

 

The following table summarizes our cash flows for the six months ended June, 2014 and 2013:

 

       
   

Six Months Ended June 30,

 

(dollars in thousands)

 

2014

   

2013

 
                 

Net cash provided by operating activities

  $ 26,017     $ 19,448  

Net cash used in investing activities

    (48,511 )     (29,099 )

Net cash provided by financing activities

    2,075       8,633  

Effect of exchange rates on cash and cash equivalents

    234       (295 )

Net increase (decrease) in cash and cash equivalents

  $ (20,185 )   $ (1,313 )
                 

 

Sources of Liquidity

 

Historically we have financed our operations and capital expenditures primarily through cash flow from operations and, to a lesser extent, lease financing and the use of bank loans. We had cash and cash equivalents of $22.9 million as of June 30, 2014, a decrease of $20.2 million from December 31, 2013. The decrease in our cash was primarily due to the purchase of FineLine Prototyping, Inc. as discussed in Footnote 3.

 

Cash Flows from Operating Activities

 

Cash provided by operating activities was $26.0 million for the six months ended June 30, 2014. We had net income of $21.1 million, which included non-cash charges consisting of $4.7 million in depreciation and amortization, $2.2 million in stock-based compensation, $0.8 million in amortization of held-to-maturity securities and $0.1 million in deferred taxes, partially offset by $1.6 million of excess tax benefit on stock-based compensation. Other uses of cash in operating activities totaled $1.3 million, which included an increase in accounts receivable of $5.6 million, increase in inventory of $0.3 million, increase in prepaid expenses and other of $0.4 million and a decrease in accrued liabilities of $2.4 which were partially offset by a decrease in accounts payable of $5.0 million and a decrease in income taxes payable of $2.4 million. These operating cash increases in accounts receivable, accounts payable, inventories and other reflect increases in revenue and the growth of our business.

 

Cash provided by operating activities was $19.4 million for the six months ended June 30, 2013. We had net income of $16.9 million, which included non-cash charges consisting of $3.6 million in depreciation, $1.7 million in stock-based compensation, $0.6 million in amortization of held-to-maturity securities and $0.3 million in deferred taxes, offset by $5.9 million of excess tax benefit on stock-based compensation. Other sources of cash in operating activities totaled $2.2 million, which included an increase in income taxes payable of $3.1 million, increase in prepaid expenses and other of $1.7 million and increase in accounts payable of $1.1 million, which were partially offset by an increase in accounts receivable of $2.0 million, increase in inventories of 0.4 million and decrease in accrued liabilities and other of $1.3 million. These operating cash increases in accounts receivable, accounts payable, inventories and other reflect increases in revenue and the growth of our business.

 

 

 
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Cash Flows from Investing Activities

 

Cash used in investing activities was $48.5 million for the six months ended June 30, 2014, consisting of $31.6 million for the purchase of property and equipment, $33.9 million for the payments on business acquisitions and $38.5 million for the purchase of marketable securities, which were partially offset by $55.5 million in proceeds from the maturities, sales and call redemptions of marketable securities.

 

Cash used in investing activities was $29.1 million for the six months ended June 30, 2013, consisting of $6.1 million for the purchase of property and equipment and $57.3 million for the purchase of marketable securities, which were partially offset by $34.3 million in proceeds from the maturities and call redemptions of marketable securities.

 

Cash Flows from Financing Activities

 

Cash provided by financing activities was $2.1 million for the six months ended June 30, 2014, consisting of proceeds from exercises of stock options of $1.8 million and $1.6 million in excess tax benefit on stock-based compensation, which were partially offset by $0.9 million for payments of debt and $0.4 million for payments of acquisition-related contingent consideration.

 

Cash provided by financing activities was $8.6 million for the six months ended June 30, 2013, consisting of excess tax benefit on stock-based compensation of $5.9 million and $2.9 million in proceeds from exercises of stock options, partially offset by $0.2 million for payments of debt.

 

Off-Balance Sheet Arrangements

 

Since our inception, we have not engaged in any off-balance sheet arrangements, including the use of structured finance, special purpose entities or variable interest entities.

 

Critical Accounting Policies and Use of Estimates

 

We have adopted various accounting policies to prepare the consolidated financial statements in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP). Our significant accounting policies are disclosed in Note 2 to the Consolidated Financial Statements included in our Annual Report on Form 10-K for the year ended December 31, 2013. There were no material changes in our significant accounting policies, with the following change made to goodwill and intangible assets, during the six months ended June 30, 2014.

 

 Goodwill

 

We recognize goodwill in accordance with ASC 350, Intangibles - Goodwill and Other (ASC 350). Goodwill is the excess of cost of an acquired entity over the amounts assigned to assets acquired and liabilities assumed in a business combination. Goodwill is not amortized. Goodwill is tested for impairment annually in the fourth quarter of each year, and is tested for impairment between annual tests if an event occurs or circumstances change that would indicate the carrying amount may be impaired. An impairment charge for goodwill is recognized only when the estimated fair value of a reporting unit, including goodwill, is less than its carrying amount.

 

Other Intangible Assets

 

We recognize other intangibles assets in accordance with ASC 350, Intangibles - Goodwill and Other (ASC 350). Other intangible assets include internally developed software, customer relationships and other intangible assets acquired from an independent party. Other intangible assets with a definite life are amortized over a period ranging from two to 10 years on a straight line basis. Other intangible assets with a definite life are tested for impairment whenever events or circumstances indicate that the carrying amount of an asset (asset group) may not be recoverable. An impairment loss is recognized when the carrying amount of an asset exceeds the estimated undiscounted cash flows used in determining the fair value of the asset. The amount of the impairment loss recorded is calculated by the excess of the asset’s carrying value over its fair value.

 

 

 
23

 

 

 

Recent Accounting Pronouncements

 

For information on recent accounting pronouncements, see Note 2 to the consolidated financial statements appearing in Part I, Item 1 in this Quarterly Report on Form 10-Q.

 

 

 
24

 

 

 

Item 3. Quantitative and Qualitative Disclosures about Market Risk

 

Foreign Currency Risk

 

As a result of our foreign operations, we have revenue and expenses, assets and liabilities that are denominated in foreign currencies. A number of our employees are located in Europe and Japan. Therefore, a portion of our payrolls and operating expenses are paid and incurred in the British Pound, Euro and Yen. Our operating results and cash flows are adversely impacted when the U.S. dollar depreciates relative to other foreign currencies. We have not used any forward contracts or currency borrowings to hedge our exposure to foreign currency exchange risk. Foreign currency risk can be quantified by estimating the change in cash flows resulting from a hypothetical 10% adverse change in foreign exchange rates. We believe such a change would not have a material impact on our results of operations.

 

 

 
25

 

 

 

Item 4. Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures

 

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (Exchange Act)) as of the end of the period covered by this report. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of the period covered by this quarterly report, our disclosure controls and procedures are effective and provide reasonable assurance that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported accurately and within the time frames specified in the SEC’s rules and forms and accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

 

Changes in Internal Control over Financial Reporting

 

There have been no changes in our internal control over financial reporting (as such term is defined in Rule 13a-15(f) under the Exchange Act) during the period covered by this report that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 

 

 

 
26

 

 

PART II. OTHER INFORMATION

 

Item 1. Legal Proceedings

 

From time to time, we are subject to various legal proceedings and claims that arise in the ordinary course of our business activities. Although the results of litigation and claims cannot be predicted with certainty, as of the date of these financial statements, we do not believe we are party to any litigation the outcome of which, if determined adversely to us, would individually or in the aggregate be reasonably expected to have a material adverse effect on our business. 

 

Item 1A. Risk Factors

 

The risk factor discussed below updates the risk factors we previously disclosed in Part I, Item 1A. “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2013.

 

Our acquisition of FineLine Prototyping, Inc. presents risks to our business and could harm our operating results and financial condition.

 

On April 23, 2014, we entered into a stock purchase agreement for the purchase of all of the outstanding shares of capital stock of FineLine Prototyping, Inc. At the closing, we paid cash consideration of $34.5 million to the sellers, which amount is subject to adjustment based on FineLine’s indebtedness and net working capital as of the closing date and FineLine’s expenses in connection with the transactions contemplated by the stock purchase agreement. The stock purchase agreement also provides that we will pay the sellers up to an additional $3 million if FineLine’s revenue for 2014 exceeds certain amounts and if certain milestones relating to the integration of FineLine’s and our businesses are achieved. FineLine provides additive manufacturing (3D printing) services. Our acquisition of FineLine subjects us to certain risks, including:

 

 

We have not previously provided additive manufacturing services and the complexity of our operations therefore has increased, and we may not be able to maintain or grow the newly acquired portion of our business as quickly or significantly as anticipated, or at all;

 

Integrating FineLine’s operations with our historic operations could divert management’s attention and cause our results of operations to suffer;

 

We may be unable to integrate successfully FineLine’s business and realize the anticipated benefits of the acquisition;

 

Our acquisition of FineLine includes significant goodwill, which could result in future impairment charges that would reduce our earnings;

 

Our acquisition of FineLine and the integration of its business may involve unexpected costs, unexpected liabilities or unexpected delays; and

 

Our acquisition of FineLine may harm relationships with FineLine’s customers, suppliers and employees.

 

Any failure to successfully address these challenges or risks could disrupt our business and harm our operating results and financial condition.

 

 

 
27

 

 

 

Item 6. Exhibits

 

The following documents are filed as part of this report:

 

Exhibit Number

 

Description of Exhibit

  3.1(1)

 

Third Amended and Restated Articles of Incorporation of Proto Labs, Inc.

  3.2(2)

 

Amended and Restated By-Laws of Proto Labs, Inc.

31.1

 

Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act

31.2

 

Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act

32.1

 

Certification of the Chief Executive Officer and the Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act

101.INS

 

XBRL Instance Document

101.SCH

 

XBRL Taxonomy Extension Schema Document

101.CAL

 

XBRL Taxonomy Extension Calculation Linkbase Document

101.DEF

 

XBRL Taxonomy Extension Definition Linkbase Document

101.LAB

 

XBRL Taxonomy Extension Label Linkbase Document

101.PRE

 

XBRL Taxonomy Extension Presentation Linkbase Document

 

 (1)  Previously filed as Exhibit 3.2 to the Company’s Registration Statement on Form S-1/A (File No. 333-175745), filed with the Commission on February 13, 2012, and incorporated by reference herein.
(2) Previously filed as Exhibit 3.4 to the Company’s Registration Statement on Form S-1/A (File No. 333-175745), filed with the Commission on February 13, 2012, and incorporated by reference herein.

 

 

 
28

 

 

 

SIGNATURE

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

        

 

    Proto Labs, Inc.  
       

Date: August 5, 2014

 

/s/ Victoria M. Holt

 

 

 

Victoria M. Holt

 

    President and Chief Executive Officer  

 

 

(Principal Executive Officer)

 

 

Date: August 5, 2014 

 

/s/ John R. Judd

 

 

 

John R. Judd

 

    Chief Financial Officer  

 

 

(Principal Financial Officer)

 

 

 

 

 

 

 

 

 29