Business Breakdowns
· Matt Reustle, Brett Larson
[00:00:00] S0: I think you brought up a great visual in terms of an Amazon sorting facility and how much of that is now automated. You don't have the humans involved moving the big packages here, the smaller packages there. So it's gotten more advanced. But how big of a market is this machine vision world today? And I'd also just be curious how much that has grown recently if there's been a step change in terms of the growth of the market. [00:00:00] S1: There's a lot of different TAM estimates out there for machine vision, but Cognex doesn't play in all the different niches within it that get captured usually. Cognex last estimated their serviceable addressable market at 6.5 billion, which was up from 2.9 billion in 2017. And they'll probably update their SAM again at their investor day and it'll probably be something like 8 to 9 billion based on new product categories they've entered. Industry's probably grown at a 10% type of CAGR the past decade and obviously there's cycles in there and then there's dispersion between some that are growing above that range, like Cognex and some that have been below. [00:00:00] S0: I like the SAM terminology. I might have to mix that in with TAM in the future. Where does Cognex rank in terms of market share within the market? What are some of the characteristics about their positioning and then just the market overall?
· Brett Larson
[00:00:00] S1: Cognex is number two behind Keyence, which is a company based in Japan. The two companies do obviously compete, but they've also historically focused in slightly different areas, which is interesting. So Cognex, they historically have focused on the top of the pyramid. When you think about the sophistication of the customer, typically they're hiring very trained engineers who are working with customers to spec systems for specific tasks. So it's a more technical sale with very sophisticated customers that are automating very complex tasks. Basically they're not winning on price, they're a more expensive vendor of machine vision. But they have a reputation for having really good application engineers, the best tech that they can differentiate at the spec level. So for example, that logistics facility where let's say you're scanning 100,000 packages a day, Cognex usually they can deliver read rates that are 100 basis points or even 2 or 300 basis points better than a peer. So over even just a day, that's thousands of packages that don't have to have a human there to look at something. That's usually how they go about competing. And there's a really strong brand reputation as well. So like if a new COO of a company walks into a factory for the first time and sees the yellow Cognex cameras, that says something to them. The installed base is very sticky as well for all of the vendors and I'll foreshadow a bit, but they're focused on the top of the pyramid currently. They're also broadening out a little bit lower as well, which is interesting. And then Keyence as I mentioned is number one. They're based in Japan. It's been a really successful company and it's also very much an enigma just in terms of it's a public company but there's just not a lot of intel out there on it. My best guess from what I've gathered is maybe 20% or so of their sales are comparable to Cognex. They also do things like scientific microscopes and PLCs and direct part marking and stuff like that. But what's also quite interesting is they spend 2% of sales or low single digits on R&D and have mid-80s gross margins. And that compares to Cognex which spends more like mid teens on R&D and has more like 70% gross margins. And the other machine vendor peers spend a little bit less and have even a little bit lower gross margins than Cognex.
· Brett Larson
And it really comes down to the way Keyence goes to market and how they focus. They generally focus just on the middle to lower tiers of customers and then they're really trying to develop more standardized products, are going after the very high frequency applications and it's a very process oriented sale. So they'll hire more college graduates compared to Cognex and then they'll train them with the products, put them out in the field. And it's more of a scripted sales process where they're keeping track of more of those activity like KPIs in the CRM. So it's how many calls are you making, how many shop visits, how many demos. It's really good coverage and really relentless. If you go down the rabbit hole, it's become a meme in the community. There's some pretty funny memes out there. If you're going to download a product spec sheet up the website, you should use your buddy's email and phone number, not your own. You'll never hear the end of it. That's the two main players. Maybe I'll briefly mention a couple other competitors while we're here. The other bucket I would say is China and these are primarily for manufacturers in China. Hik Robotics, which is division of Hikvision, is probably the third largest player in the industry overall and they've grown quite quickly driven by that domestic market with the domestic manufacturers. And they're probably about half the size of Cognex in terms of sales. There's a number of other smaller Chinese players as well. And then outside of there, there's more legacy players. There's within Teledyne, there's DALSA and Point Grey, there's SICK and Basler in Germany, Datalogic, Matrox was a company acquired by Zebra. And there's even companies like MVTec that just sell the software and then you can go get your own hardware. So that's kind of a lay of the land in terms of the industry structure.
· Matt Reustle, Brett Larson
[00:00:00] S0: I did read quite a bit about Keyence and their sales process and how effective of a sales organization they built. But in the sale for someone like Cognex, where it sounds like it's much more technical, built to spec, perhaps advanced and not so much off the shelf, are they selling to an Amazon who then works to integrate it into the other hardware and equipment that they're using, or are they selling into the equipment manufacturers, whoever builds the conveyor belt? Who is the customer for Cognex? [00:00:00] S1: The answer is yes. If you think about how they're going to market, 70% of sales are direct. And that would be direct either to the factory floor where Cognex and the automation engineers at the customer are working to implement the system. But direct also includes selling to a machine builder or an OEM who would then integrate it into the machine and then they take that machine to the end factory floor. And then the remaining 30%, about half of that is going to be through systems integrators and that's primarily logistics at this point. And then the other half of that 30% would be distribution. And that's primarily just for end markets like Cambodia or something, where they just don't have any presence. That's kind of how I would separate the customer.
· Brett Larson, Matt Reustle
[00:00:00] S1: The answer is yes. If you think about how they're going to market, 70% of sales are direct. And that would be direct either to the factory floor where Cognex and the automation engineers at the customer are working to implement the system. But direct also includes selling to a machine builder or an OEM who would then integrate it into the machine and then they take that machine to the end factory floor. And then the remaining 30%, about half of that is going to be through systems integrators and that's primarily logistics at this point. And then the other half of that 30% would be distribution. And that's primarily just for end markets like Cambodia or something, where they just don't have any presence. That's kind of how I would separate the customer. [00:00:00] S0: That makes sense. It's an interesting dynamic within the overall industry structure conversation. Before we move on too far, I do want to get into a bit of the history and what came across through the work that I was doing is that there is technical expertise here and there's a focus on that technical expertise. So can you bring us back to the beginning and the origin story here, when they got into the market and some of the evolution over time?
· Brett Larson
[00:00:00] S1: It's really important to understand for Cognex the DNA of them stacking S curves essentially over 40 to 50 years. The company was founded in 1981 and they came to market with what was the world's first industrial optical character recognition system. So again, reading numbers and letters. And at the time the system looked more like a big video camera with external processing. And the first application was actually to read Serial numbers on semiconductor wafers for IBM. That was the DataMan product family that still exists. From there they got a call from Johnson & Johnson to do all optical character recognition for labels. They did that application. But then J&J asked them, hey, can you do some of these other at the time, what would have been novel applications like verifying the caps are on the bottles and the labels were present and the like. So that's when Cognex added more of these inspection type of applications. The first 20 years or so of the business was pioneering machine vision for all these different applications. But it was very much for semiconductors and the electronics capital equipment industries primarily. It was as high as 80% of sales going into the dot com bubble were to those industries. And that went to 54% following the hard way. Around 2000 was when we saw smart cameras really come onto the scene. So where you embedded the processing directly into the camera. Smaller footprint, more ruggedized now that enabled the product to be ready for the factory floor as we more often think about it. So we saw machine vision get adopted in more heavy manufacturing industries like automotive, consumer electronics, food and beverage packaging. So by the end of 2010 that semiconductor and electronics capital equipment was down to 15% of sales as they really brought in the end markets that they could serve all those new s curves. Around 2010 was when Cognex came out with their first ID product for reading barcodes. It was primarily aimed at displacing laser based scanners in logistics facilities because it could do it faster and then with much higher read rates. If you go back in 2010, they were talking about they'd be happy if one day, long term target $75 million of sales from this line of business. And then they worked very closely with Amazon to develop the technology.