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Proto Labs, Inc. (NYSE:PRLB)

Q1 2014 Earnings Conference Call

May 1, 2014 08:30 a.m. ET

Executives

Bill Dietrick – VP, Marketing

Vicky Holt – President and CEO

Jack Judd – CFO

Analysts

Brian Drab – William Blair

Troy Jensen – Piper Jaffray & Co.

Jim Ricchiuti – Needham & Company

John Baliotti - Janney Capital Markets

Peter Misek – Jefferies

BG Dickey – Stephens Inc

Andrea James – Dougherty & Company

Operator

Good day, ladies and gentlemen, and welcome to the Q1 2014 Proto Labs, Inc. Earnings Conference Call. My name is Mark and I will be your operator for today. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session. (Operator instructions)

As a reminder this conference is being recorded for replay purposes. I’d now like to turn the conference over to Bill Dietrick, Vice President of Marketing. Please proceed sir.

Bill Dietrick

Thank you, operator, and good morning everyone. This morning, before the market opened, Proto Labs issued a press release announcing its first quarter financial results for the period ended March 31, 2014. The release is available on the company’s website at protolabs.com.

Before we get started, during the course of this conference call, the company will provide financial projections and make other statements about its business that are forward-looking and subject to many risks and uncertainties that could cause actual results to differ materially from expectations.

A detailed discussion of the risks and uncertainties that affect the business is contained in the company’s annual report filed on Form 10-K and other SEC filings, particularly under the heading Risk Factors. Copies of these filings are available online from the SEC or on the Proto Labs website.

The company’s projections and other forward-looking statements are based on factors that are subject to change, and therefore these statements speak only as of the date they are given. The company does not undertake to update any projection or forward-looking statement.

In addition, to supplement the GAAP numbers, we have provided non-GAAP adjusted net income and basic and diluted net income per share information that excludes the after-tax cost of stock compensation.

We believe that this non-GAAP number provides meaningful supplemental information and is helpful in assessing our historical and future performance. A table reconciling the GAAP information to the non-GAAP information is included in our financial release.

Now I’d like to turn the call over to Vicky Holt, President and Chief Executive Officer of Proto Labs. Vicky?

Vicky Holt

Thanks Bill. Good morning, everyone. Thank you for joining us today, on our first quarter 2014 conference call.

With me today is Jack Judd, our Chief Financial Officer. It’s an exciting time for Proto Labs as we completed another record quarter, as well as our first acquisition, FineLine Prototyping, just last week.

I will provide a brief overview of our first quarter 2014 financial results, review the FineLine acquisition again for those who were unable to review our call from last week, provide an update on some of our new services and our Cool Idea! Marketing program, and finally share with you some of my first impressions of the company. I will then turn the call over to Jack, who will provide a more detailed look at our financial results, and offer our views on the outlook for the second quarter of 2014. We will then be glad to take your questions.

I’m pleased to report that for the eight consecutive quarter Proto Labs achieved record revenues. First quarter revenue was $46.1 million, a 23% increase over the first quarter of 2013. Our revenue came from nearly 7700 unique product developers, an 18% increase over the first quarter of 2013. Like many US companies, we did notice the effects of the unusually harsh winter on our customers on our revenue line. Our customers lost several work days in January and February, but because our business is naturally volatile day to day and week to week, we find it hard to quantify the impact on our sales.

But looking at this another way lost work days create tighter time schedules for product developers, meaning our value proposition is even more in play. Our business built significant momentum in March. Looking forward, we are expecting a more normal order flow for the second quarter.

Our record consolidated results were accomplished through record revenues in both the United States and Japan, and while not record revenue, very impressive revenue results in Europe. Proto Labs US achieved record revenue of $35 million, a 19% increase over the same quarter in 2013. This marks the ninth consecutive quarter of sequential revenue growth in the US. As our largest location, this is a very impressive result.

Japan revenue was $1.9 million, 40% above the first quarter of 2013. With this revenue growth, Japan was able to reach profitability in the quarter well ahead of schedule.

Proto Labs Europe’s impressive first quarter revenue was $9.2 million, a 42% increase over the first quarter of 2013.

Our record quarterly revenue allowed the global consolidated Proto Labs organization to achieve record net income for the first quarter of 2014 of $10.1 million or $0.39 per diluted share. This compares to $8.3 million or $0.32 per share in the same quarter of 2013. I have now been CEO for three months, and all I can say is I sure jumped on a train that is going at very high speed. When I started in February, I knew Proto Labs was a high performing business with a culture of getting things done. Well, we sure got things done in the first quarter of 2014.

Our new manufacturing facility in Plymouth, Minnesota, is up and running. We started the moving process this past weekend, and should have all our employees and equipment in place and operating by the middle of May. We held our open house for employees and the press on April 24, and all reviews were very positive. The building is designed to efficiently house our Firstcut operations with room to spare. We look forward to growing our business over the next few years as we fill up this space.

We launched two new services on April 1 with full market launch, liquid silicone rubber, or LSR, and metal injection molding or MIM. Of note, we launched LSR in both North America and Europe concurrently, our first multi-region launch. (inaudible) process is still in limited market launch.

For us full market launch means our website is fully operational and product developers can order the service directly in the same way as our Firstcut and Protomold services. We are actively promoting the new material to our large database of customers, and are quite pleased so far with order flow. Both these services were ramped throughout the year, and we expect they will generate considerably more revenue in 2015. As far as the biggest accomplishment from the past quarter, the acquisition of FineLine Prototyping was just completed last week. The team was working on this well before I came aboard. We recognized the strategic opportunity to include additive technology as part of our service offering last year.

We explored both options of acquisition and doing it on our own by purchasing equipment and building the business from scratch. We feel FineLine’s manufacturing and front-end technologies created the best opportunity to enter this space successfully and become a substantial additive service provider more quickly. Our FineLine acquisition will make Proto Labs a much stronger company in the future from both a strategic and financial point of view.

Our emphasis now turns to integration and leveraging both the businesses to higher revenue growth rates and earnings. We see the integration process in three components. First, they will present one interface to our customer base for all services. Product developers will log on to one website to upload their designs, and choose from multiple services based on their unique project demand.

Second, our marketing team will integrate and oversee all pay per click campaign, e-mail campaign, trade shows and other marketing activities immediately. This provides significantly increased exposure for FineLine’s services over their reach as an independent company. The third critical area of integration will be turning on Proto Labs sales engine. Sales team and customer service training will start in May and the Proto Labs team should be selling additive services by the end of the second quarter.

As the FineLine Proto Labs databases and websites are combined, more training will occur in the second half of the year. We will start promotions to our 300,000 plus product developer database this May. When integration in North America is complete, we will turn our attention to launching our FineLine additive manufacturing services in Europe in 2015.

While these above integration efforts will not be easy or quick, we are confident that most of the critical activity can be done in the next couple of quarters, and set us up for a great end of 2014 and an even better 2015. Once integration is successfully completed, our additive business should have higher growth rates than Proto Labs legacy services. We believe that our stewardship of FineLine will help their services grow much faster than they could have achieved as an independent company.

We expect revenues from additive services to grow to more than 10% of total revenues in the future compared to less than 6% based on 2013 revenues. Once our deal and integration costs are behind us the acquisition is nicely accretive, and will not drag on our stated target model margin. Growing fast at fantastic margins is in our DNA and we welcome FineLine to our team.

As reported in our last call, the Cool Idea! Award was enhanced in the first quarter to increase awareness and exposure of the program with the addition of five prestigious new judges. I’m happy to see that we are seeing the desired results. Cool Idea! Submission increased 115% year-over-year in Q1. The new judging panel has reviewed all the first quarter submissions and our first 2014 Cool Idea! Winner will be announced on May 6.

After the success of our New York Cool Idea! Gallery event in January, we have taken the gallery on the road to several other locations to generate even more exposure for Proto Labs. In collaboration with GE, the Cool Idea! Gallery was featured prominently at the GE Garages Event in Washington DC from March 21 through April 7. The GE Garages program features a pop-up, collaborative fabrication lab that provides individuals with hands-on experience with various manufacturing technologies including laser cutters, 3-D printers, CNC machines and injection molders. The gallery was also featured at the Industrial Designers Society of American Southern Conference in Savannah, Georgia, and will be featured at the upcoming MakerCon on May 13 and 14 in Redwood City, California.

Before I turn the call over to Jack to review our financials in greater detail, I would like to share with you a few of my impression after my first three months with the company. I have had a chance to meet our team members at all our locations around the world. I have met with over a dozen customers, and attended three trade shows, which gave me an opportunity to get input from our market. Each of these interactions has furthered my confidence in the unique value proposition Proto Labs delivers to our customers, and the opportunity we have to grow through further penetration with both new customer acquisition and going deeper and wider with existing customers.

Engineering departments with major corporations see tremendous value in Proto Labs web-based front end, which helps customers design for manufacturability, produce concept and prototype parts, and produce parts for both functional testing and commercialization. And the breath and scale of our capabilities, which has been significantly enhanced this quarter with LSR, MIM and now additive manufacturing allows us to play a more integrated role with our customers’ new product development process.

In the first quarter, we increased the number of sales in customer support professionals by 14% versus prior quarter. We also continued to develop our national account management and our customer service engineering team of professionals to go wider and deeper within our customer base. An example of this is the new project management support function we launched this quarter. Project management is brought in when a customer has a large family of tool, which need to move through our tool and parts production process quickly and in a co-ordinated manner to ensure success of the final product launch and sale.

In the first quarter we delighted a major customer by producing 18 new tools and 220,000 parts in only four weeks. Our speed and quality and reliability allowed this customer to exceed the expectations of his customer, a major global automotive OEM. This level of service is truly what differentiates Proto Labs. And finally, I’m thrilled with the passion, skill level and capability of the Proto Labs team around the world. We have great people and have created a culture that supports a very high level of performance, and creates a great place to work.

And now I’d like to invite Jack to provide a deeper review of our financial results. Jack?

Jack Judd

Thank you, Vicky. Revenue in our first quarter of 2014 was $46.1 million, an increase of 8.8 million, or 23.5% over first quarter 2013 revenue. Protomold revenue during the just completed quarter was $32.7 million, and Firstcut revenue was $13.4 million.

During the quarter, Firstcut revenue represented 29% of total revenue consistent when compared to the first quarter of 2013.

Our international revenue was $13.1 million, or 28% of total revenue during the first quarter of 2014 compared to $9.2 million or 25% of revenue during the same period in 2013. The positive effects of currency were approximately $400,000 this past quarter.

During the past quarter, we did business with nearly 7,700 product developers. This represents an 18% increase over the same quarter in 2013. Average revenue for product developer increased 4.5% from the previous year.

Our gross and operating margins in the first quarter of 2014 were 63% and 31.4% respectively. During the first quarter of 2013, these were 62.4% and 30.5%. We stated last quarter, our intention is to invest at higher rates for marketing and sales, and research and development to increase revenue growth rates into the future. While our spending in these areas was relatively consistent with last year, we continued to explore initiatives that will be financially prudent and successful and worth more investment.

Companywide, at the end of December, we had 818 total employees versus 749 at the end of December 2013. Our inside selling force and customer support employees totaled 167 at the end of March, an increase of 20 employees from December 2013.

Diluted earnings per share in the first quarter of 2014 were $0.39. Adding back the after tax cost of stock compensation, our non-GAAP diluted earnings per share in the quarter, were $0.41. A reconciliation of net income and EPS to non-GAAP net income and EPS was included in our earnings release this morning. At the end of 2014, our cash investments totaled nearly 150 million.

I would now like to provide some guidance into our projected results for the second quarter of 2014. During the second quarter, we expect our revenue from our new additive service acquired through FineLine will approximate $2 million. We expect to expense to operations is approximately $600,000 in one-time costs related to deal closing and integration. Due to these costs, the FineLine acquisition will not be accretive in the second quarter.

Including FineLine’s results, we currently expect revenue in the second quarter of 2014 to be in the range of $50 million to $53 million. Second-quarter operations will include additional costs recorded as part of our cost to revenue related to the move to our new factory totaling approximately $400,000.

Stock compensation costs in the second quarter will be approximately $1.3 million. Taking into consideration all of the above we expect our quarterly non-GAAP EPS to be between $0.40 and $0.44. Our capital spending during 2014 will total approximately 38 million.

This concludes our prepared remarks. Operator, we will now open up the call for questions.

Question-and-Answer Session

Operator

(Operator instructions) Your first question comes from the line of Brian Drab from William Blair. Please proceed.

Brian Drab – William Blair

Congratulations on another great quarter.

Vicky Holt

Thanks Brian.

Jack Judd

Thank you, Brian.

Brian Drab – William Blair

You know, one metric that I wanted to talk about is that the new customer company account, and you know, that was down significantly in the first quarter, can you talk about why is that – and do you think weather had an impact there?

Jack Judd

Brian, this is Jack. As we have said every quarter of last year, we don’t think it is a great metric because as it does not really do a job of explaining how our marketing and sales efforts are designed. So, you know, it is not unusual for us to sell more product developers, but within the same company, and so we don’t really track the company side that much and so I just think that it is random and I would concentrate on product developers.

Brian Drab – William Blair

Yeah, I clearly think that it has been the most important metric, now I see why that is – the new product developers is the most important metric, but I just figured that maybe weather would have impacted some of that activity as well?

Jack Judd

I don’t think so.

Vicky Holt

Yeah, I think what we have done with our sales force is really want to focus them on the – on the customers that have a very large industrial base with a focus on new product development. We have got contacts with a lot of those major customers, and so we want to go wider and deeper with those customers. It is a lot easier to acquire more product developers and accelerate growth by going wider and deeper in our existing customer base.

Brian Drab – William Blair

Okay, great. And then, now you of course expand your offering through the addition of new services like LSR, but I know you are also expanding your existing capability through software and manufacturing process enhancement, could you just talk a little bit about some of these recent enhancements to the core capability?

Vicky Holt

Absolutely. And so I will hit both of those. I will hit both software as well as – as well as manufacturing. On the software side, you know, we continue to make it easier for our customers to order. We have launched a new web front base that is going to allow our customers to be able to upload easier, and allow us to enhance our [coding] percentage to the number of times that we can put something out there that can be easily orderable right after a single mode, it is going to increase, which is going to drive our close rates.

We are also working on technology that will be launched here soon to allow our customers to download with a number of different interfaces than they have today, easier to use multiple programs coming into our system. On the area in manufacturing that we continue to enhance is around our manufacturing productivity. We have got proprietary technology that allows us to move through our Firstcut CNC operation faster, and with lower costs than we did before. So that is really improving the productivity that we have got around an existing set of assets of CNC machines.

So, we are employing lean manufacturing across each of our manufacturing processes, both Protomold as well as with Firstcut.

Brian Drab – William Blair

Okay, thank you. And Jack just quickly, did you say the $400,000 in transition costs will now fall completely in the second quarter?

Jack Judd

I think the vast majority of it. We are really, really prepared for the move here, and so I think our manufacturing team is going to get everything completed quite easily here in this quarter. So, I don’t expect really any cost to filter over to the third quarter anymore.

Brian Drab – William Blair

Okay, and then one more clarification, Jack, I think on the last call you said that the FineLine operating margins were a little bit low the Proto Labs’ core margins, and if I heard correctly, today we expect that the long-term target model, operating margin won’t change, can you talk a little bit about why that is?

Jack Judd

No, you got to separate out the two things, FineLine was not making the percentages that we were making. But we think that when we combined them with our business, and that we do things to increase their revenue, and other things that we will bring to the table is we think that will fit right nicely within our target model.

Brian Drab – William Blair

Okay. Thanks for taking my question.

Operator

Your next question comes from the line of Troy Jensen from Piper. Please proceed.

Jack Judd

Good morning Troy.

Troy Jensen – Piper Jaffray & Co.

Congrats on the nice results.

Vicky Holt

Thanks Troy.

Troy Jensen – Piper Jaffray & Co.

Hi, Vicky, I had a couple for you first, this quarter you had 22.5% year-over-year growth, I think your goal has been to do 25%, probably some of that was, you know, the weakness because of the weather, but just hope you are confidence in growing 25% organically for the full year?

Vicky Holt

Yeah. I am very confident in that. As I mentioned, we gained – we gained momentum throughout the quarter. I do think there was a little bit of some weather impact, but it is really hard to quantify. We are going into the second quarter very strong, and I feel very comfortable with 25% year-over-year for the full year.

Troy Jensen – Piper Jaffray & Co.

Okay, and now Vicky how about when we have talked, since you have got a lot of great incremental sales ideas, just curious if you kind of looked at sales and marketing and expense and, you know, do you think that these new ideas would be, will just move in within your existing expense buckets, or is there any risk to increase spending on sales and marketing here?

Vicky Holt

We are focused on increasing spending in sales and marketing and we did increase in the first quarter versus prior quarter. We have got more work that we are doing now. We are continuing to bring in more sales and customer support functional people to bring in that talent. And we are looking at what we need to do around our marketing spend to create greater awareness and penetration.

So we are beginning to implement some of those. And you will see, as I mentioned, the enhancements and the continued development of our national account managers and how we go wider and deeper within customers. We are starting to employ some of those tactics and the project management support function is certainly one of those. And we will begin, we will continue to do more as we go through the year.

Troy Jensen – Piper Jaffray & Co.

I have got a last one here for Jack, Asia was up nicely year-over-year sequential, are we nearing breakeven on your Asian business?

Jack Judd

Asian business if you mean Japan, Japan did make a little bit of money in the first quarter. You know, we have been around that last year. We just never popped above it. I felt really good about what is happening in Japan. But we are still very much in an investment phase in there, and so I wouldn’t want to give the idea that every quarter going forward that Japan will always be more profitable than it was in the past quarter. We have gone over the breakeven already.

Troy Jensen – Piper Jaffray & Co.

Good. Okay, keep up the good work.

Vicky Holt

Thanks Troy.

Operator

Your next question comes from the line of Jim Ricchiuti from Needham & Company. Please proceed.

Jim Ricchiuti – Needham & Company

Thanks. Good morning.

Jack Judd

Hi Jim.

Jim Ricchiuti – Needham & Company

I had a question just on North America just in light of what was possibly some weather-related disruption, I was wondering if you could talk a little bit about the activity to the extent you can that you have seen thus far in the quarter?

Jack Judd

You mean the first quarter or the second quarter?

Jim Ricchiuti – Needham & Company

Second quarter.

Jack Judd

Second-quarter has started out nicely and appropriately for what we would expect the second quarter to start out with. I think our comments regarding the first quarter, January and February we did notice that when the East Coast was shut down, we were not down by the lake year at all for the weather. But on the East Coast is that we would have significantly fewer orders for a couple of day period at a time when the East Coast was shut down, and like we have said, we are a quick term business. So there is a chance some of that came back, and I think we did see it that March probably a lot stronger than it normally would be.

March is always a strong month anyway but little bit stronger considering January and February.

Vicky Holt

And if you look at March, our quick turns which we do, we do follow that, was actually a record in the month of March. So I do think in a way, sometimes that helps us because we are all about speed and so when these product developers like a little bit behind on their projects, we are there to help and get back on track.

Jim Ricchiuti – Needham & Company

Got it and the next question this is a little further out but just we think of about the manufacturing piece of the business line, the plans to do I believe offer service in Europe in 2015, do you anticipate that being early in the year? And to what extend will you be servicing that market from the U.S. or are there plans through bring equipment into the facility of their and what are the plans for Asia in that area? Thanks.

Vicky Holt

Great Jim, thanks for the question and I will tell you we are really excited about combing our additive service offering, additive manufacturing offering with FirstCut and FineLine, the combination of all of those helps us capture those product developers right there at concept phase and move them all away through the commercialization.

So it's going to truly endure us to the customer base. We are very focused right now on the integration here in North America. We are jumping into it already launching those integration team. We expect to move as quickly as we can through that process and will be turning our attention to Europe as we complete that. I would expect that to happen throughout 2015. We will be putting manufacturing on the ground in 2015 in Europe so it will not be service only from North America in the short term. We can export from North America and Europe, FineLine in the past so that certainly a way we can begin to see the market. But we will be putting that in place throughout 2015 and in the timeline it will become a lot more clear as we move through the integration process here in 2014.

Japan, we are closely behind. There is a growing additive manufacturing service market in Japan as well and again being able to work with our customer base all the way from concept through commercial production is going to be very-very powerful in terms of enduring ourselves to those product developers.

Operator

Your next question comes from the line of John Baliotti from Janney Capital Markets. Please proceed.

John Baliotti - Janney Capital Markets

Good morning.

Jack Judd

Good morning, John.

Vicky Holt

Hi, John.

John Baliotti - Janney Capital Markets

Hi guys. May be we could focus on profitability, you guys obviously telegraphed increase spending this quarter and for the year and that showed up in the quarter but given, I guess the leverage that the gross margin provides with the increasing gross margin you have ability to absorb those cost despite that you are still getting, it seems like you are getting great efficiency out of those other areas whether it's the marketing, sales or G&A, can you talk about maybe just the inputs that will – that you used to decide those levels because it seems like you are getting the pretty efficient benefit out of that even in the near term on that spending.

Jack Judd

I think last quarter, John, we did say that we were getting efficiencies out of our gross margin or G&A and we changed our target model because of that. I think it's smart for long terms sales growth and for our shareholders that we try to do smart increase spending in the sales, marketing side and on the R&D side. We are always looking for good and efficient ideas in marketing especially that can actually good job of driving the product developers to us and we are always trying to find new people that can do a good job of selling. So it's always not even in terms of our efforts but it sure is part of our strategy to do smart increase spending in those areas but I do think that the G&A offers the greatest opportunity for leveraging which will be common businesses and I think that our manufacturing teams continue to do a fantastic job of maintaining efficient manufacturing environments.

Vicky Holt

Yes, I will just built on that too, we are very disciplined company in terms of making sure that when we do increase the spending we are expecting to get the return on it and here we say we did increase our sales, our marketing and our R&D spending in the quarter and will continue to do that. I think our target model margin of 29% operating earnings is still the right one and we are little bit higher than that now but I think as we increase the spending throughout the rest of the year to drive sales, marketing and R&D we will be right on that number.

John Baliotti - Janney Capital Markets

Yeah I mean obviously R&D is more of lag, I mean it's pretty hard for anyone to get immediate benefit on R&D spending that usually has a future benefit but it's – I guess the way to look at it is nice to see that even the marketing and sales tends to have maybe a little bit short of a lag but your efficiency seems to be showing up consistently in the last couple of quarters.

Vicky Holt

Right, yes they are really good. We hire great people, we have great programs and we are very disciplined about the spend. I also do want to give good credit to our manufacturing team because the gross margin line that manufacturing productivity has been, is really good this quarter and we continue to work on things to drive that, we have never done with that.

John Baliotti - Janney Capital Markets

Great. Thanks. Congratulations.

Jack Judd

Thank you.

Vicky Holt

Thanks, John.

Operator

Your next question comes from the line of Peter Misek from Jefferies. Please proceed.

Peter Misek – Jefferies

Good morning. Just the couple of additional details if you guys could on FineLine, maybe you can help us understand how we should layer in the contribution of FineLine in 2014? I know you have talked about more of a longer term target. Also I wanted to understand the competitive dynamic of FineLine, how is it different from folks like Shapeways and another folks and then you did a great job on the CNCC side of talking about new metals and materials. Maybe you can help us understand how you can add that expertise on the additive side. You have a much broader palate of metals and materials and I think of any additive manufacturer I have heard of. So and I think that will shock people but maybe you can help us understand that as well. That would be great. Thank you.

Jack Judd

That's a huge question you just asked there, Peter. So hopefully I will remember to answer all of it. Regarding how to model FineLine, of course it's up to you to decide how you want to model it and how you want to present it to in your reports. The thing I wanted to get across the FineLine is that we are going to spend some money getting the thing integrated and the cost of the transaction, those are going to be extra cost and I think I said they were $600,000. They should be put in G&A and in sales and marketing and probably a little bit of head to gross margin based upon where we would have been in 63%. Overall, they were a profitable business before we bought them. So they were nice profitable for a service (inaudible) and so I think that you can model them before that $600,000 is making probably less money than we would on the same amount of revenue but they would have still made the money.

Vicky Holt

And I will go ahead and comment on the other two parts of your questions Peter. First, about the competitive nature of our additive manufacturing business and I would look to do that in two pieces. First, FineLine, as we alone and then in the combination with Proto Labs full service offering, we focused on FineLine as an acquisition target for a couple of reasons, they are unique. First they really focus on the product developer and the industrial customer and they do so with a high degree of focus on quality and technology. They have micro-fine technology that allows them to – that allows us to produce precision parts with additive manufacturing. In addition, they have got – what I would call acquired technology through manufacturing where the company has done a fantastic job both in operating and maintaining this equipment for consistency as well as developing skills around finishing to make sure we make high quality parts for the product developer. And the third area of technology that the customer is really that the FineLine has really refined is around software and we developed two really important software developments. One is around manufacturing production planning which is absolutely critical to scale additive manufacturing and meet the customers need, it's rapidly with quick turn which is very important to our value proposition.

And secondly they have developed great technology on the front end and that is their web interface with the product developers and as a matter of fact when we start integrating that with Proto Labs front end we are going to be selecting the depth from both of those front end to make it even better customer experience for our product developers.

Now let me comment about us together. There will be no company out there that will additive manufacturer will have the breadth of capabilities and the scale that we have across additive manufacturing machining and injection molding. So when you look at the breadth of we can bring to a company, that's looking for partner to help accelerating their innovation will be second to none. And I think that’s continuing to build on that with our continued investment in R&D it's going to allow us to stay ahead of the competition both technology and scale.

When you talk – last part of your question was talking about metals and we are very excited about that. As you know our FineLine additive manufacturing service offering has direct metal laser centering DMLS and that will allow us to make precision prototype parts. We also, as you know, have our CNC machine that will allow us to scale some of those parts and then we just launched MIM-Metal Injection Molding which will allow us to produce small volume of production scale of parts as well. So we will able to help those customers move straight through that product development phase right from concept all the way through to small volume production. So, very-very exciting. So again you hit on one that is exciting as we got starting, the plastic interface is also very-very strong but that metal will be second to none and we are excited about it.

Peter Misek – Jefferies

Perfect. Thank you.

Operator

Your next question comes from the line of BG Dickey from Stephens Inc. Please proceed.

BG Dickey - Stephens Inc.

Yes. Good morning. Vicky, just kind of building up on the comments you just made there about the continued investment on R&D, obviously we had a slight uptake in the quarter in R&D as a percent of sales I think that was around 7.5% or 50 bps, may be Jack, you can help here but in terms of just modeling, is that a good run rate or should we expect that R&D number to kind of tick up throughout the remainder of the year?

Jack Judd

A lot of it will of course depend up on having good ideas that can carry forward in R&D but our long-term target model is 7% to 8% for R&D and I would love to have it close to 8%.

Vicky Holt

Yeah I would say get it up close to 8%. We have got great opportunities to continue to develop technology in each of our services. The nice thing about Proto Labs is we are relatively technology agnostic so we really have an opportunity to take a look at what is out there and develop it and bring it in to the fold. And remember our technology development, we have got big pieces around process, big pieces around software development to make sure that we can integrate it in to our model which is the speed and repeatability and scalability of the service. So, we have got investment that’s going to take place on both of those sides and a real exciting future there.

BG Dickey - Stephens Inc.

Okay. Great thanks. And my next question is just talking about the unique product developers. I think that was up 18% year-over-year in the quarter but we have kind of seen the deceleration in this growth rate over time and I am just wondering that maybe you can provide a little color around that trend especially in the context of you have added this new vertical in the sense of additive manufacturing. So having reached kind of a plateau, I mean that absolute number of new product developers is quite significant so I am just curious to how we should think about that number and that growth rate going forward.

Vicky Holt

Yes, yes. I feel very comfortable that that growth rate is going to continue in 18 to maybe even getting into the low 20s, again when that base gets bigger of course it gets more difficult but you brought up excellent point by adding another bit service offering. So we will now have three legs to our stool. We will have FineLine, additive manufacturing services, FirstCut, CNC machining and Protomold injection modeling having those three legs is going to allow us to create additional opportunities to try penetration. It will help us with the brand awareness, it's going to give us. When you are bringing out new things, it gives you brand out there and has an opportunity to capture more product developers and the other thing that we have talked about earlier is around going wide and deep with our customers and capturing more product developers in our existing customer base. We are working very hard on that initiative as well which continue to drive that number. So, we have got a lot of penetration left ahead of us. So I wouldn't call that growth as plateauing. It's going to be lumpy; it's not going to be the same every quarter, it's going to move up and down but I expect it to continue to grow throughout the year.

BG Dickey - Stephens Inc.

Okay, great. Thanks guys. Nice job and a good quarter there and will pass along.

Jack Judd

Thank you.

Vicky Holt

Thanks.

Operator

Your next question comes from the line of Andrea James from Dougherty & Company. Pleased proceed.

Jack Judd

Good morning, Andrea.

Andrea James - Dougherty & Company

Thank you for taking my question. Can FineLine participate in innovations in the additive manufacturing industry, is that correct to assume, there has been a new concepts come out, they can acquire them and provide additive service as well.

Vicky Holt

Absolutely, Andrea, yes. So, as I mentioned we are relatively agnostic around manufacturing, around which manufacturing technologies we bring in, we want to bring in the ones that are relevant to our customer base. So we will be – we will continue to evaluate the developments that are taking place both here in North America and around the world in additive manufacturing. As many of you know there is a lot of R&D development taking place across metals as well as additive plastic technologies. We intend to stay on top of that and bringing in the kind of the talent we have with the leadership at FineLine which is Rob Conley and Craig Goff who will allow us to evaluate those in a timely fashion and when that makes sense invest and bring them in house to service our customers.

Andrea James - Dougherty & Company

(inaudible) try to better understand the business. Your revenue for the customers is growing and the revenue for product developers is going – what is that, is that – are they paying more for speed or they are buying more parts?

Jack Judd

I would say that it's not necessarily tied to how many quick turns anybody is buying. I would say it's the combination of us getting the opportunity to do more production side, molding for customers and I think it's also reflection of bringing more services and opportunities to product developers so they have more things that they can do from us. But thank you for noticing that that number goes up. It went up last year nicely too.

Andrea James - Dougherty & Company

And then finally, thanks for that, I appreciate that. It just sounds like more production side interesting, is that bridge manufacturing or?

Vicky Holt

No this would be parts. You mean bridge manufacturing? Yes sometimes it's scale up to commercialization sometimes it's a small volume parts, the production parts so we do a lot of different things for customers as you know we have got – it's just in the quarter 7700 product developers were buying from us. So there is a wide variety of needs that we meet and the fact that we can turn small volume production in rapid fashion is extremely valuable to company.

Andrea James - Dougherty & Company

Thank you. And then one final, this new Plymouth facility, you’ve probably already said to this but how much has increased your capacity right away and then, I imagine it’s not yet full so what's the full potential capacity increase?

Jack Judd

We were not at capacity; we were not operating a capacity in our building here and (inaudible) for FirstCut. So we work in danger of not be able to satisfy our customers but we are going to be only be occupying probably less than 40% of the manufacturing space in Plymouth. So we have tremendous room to grow and we look forward filling that up over the next few years.

Vicky Holt

Yes our strategy has always been to add capacity before the demand because it's very-very important that our value proposition which is speed, is not compromised as demand grows. So what Plymouth does is gives us floor space to add additional machines as we go forward. So what we have done so far is we are moving that FirstCut operation from Maple Plain there so that will have, like Jack said about 40% of that floor space will be utilized. So we have got plenty of floor space to expand and add new equipments.

Andrea James - Dougherty & Company

Got it. Thank you so much. Congratulations guys.

Vicky Holt

Thank you, Andrea.

Jack Judd

Thank you.

Operator

I would now like to hand the call over to Vicky Holt for closing remarks.

Vicky Holt

Thank you. And thanks for joining us today. I hope through our calls in the past week you feel the genuine excitement that I have for our organization and our opportunities. We clearly have great confidence and the continuing success of our business model and the value proposition we bring to our customers. I am excited about the growth opportunities ahead of us. Thank you.

Operator

Thank you very much. This concludes this conference. Thank you for your participation. You may now disconnect. Have a great day.

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