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Stratasys Ltd. (NASDAQ:SSYS)
Q3 2017 Earnings Conference Call
Nov. 14, 2017, 8:30 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good day, ladies and gentlemen, and welcome to the Third Quarter 2017 Stratasys Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session, and instructions will follow at that time. If anyone should require operator assistance, please press star, then 0, on your touch-tone telephone. I would now like to turn the conference over to Shane Glenn, Vice President of Investor Relations of Stratasys. You may begin.

Shane Glenn -- Vice President, Investor Relations

Good morning, everyone, and thank you for joining us to discuss our third quarter financial results. On the call this day are Ilan Levin, CEO, and Lilach Payorski, CFO Stratasys. I remind you that access to today's call, including the prepared slide presentation, is available online at the web address provided in our press release. In addition, a replay of today's call -- including access to the slide presentation -- will also be available, and can be accessed through the Investor section of our website.

We will begin by reminding everyone that certain statements made on this call regarding Stratasys' strategy and the statements regarding its projected future financial performance, including the financial guidance concerning the expected results for 2017, are forward-looking statements reflecting management's current expectations and beliefs. These forward-looking statements are based on current information that is, by its nature, subject to rapid and even abrupt change.

Due to risks and uncertainties associated with Stratasys' business, actual results could differ material to those projected or implied by these forward-looking statements. These risks and uncertainties include, but are not limited to, potential declines in the prices of our products and services, or a volume of our sales, due to decreased demand in the 3D printing market.

Any failure to adequately adapt our infrastructure and properly integrate the internal and external sources of our growth to generate intended benefits, including from the companies that we've acquired, potential further charges against earnings that we could be required to take due to impairment of additional goodwill or other intangible assets, changes in the overall global economic environment, the impact of competition and new technologies, changes in the general market, political and economic conditions in the countries in which we operate, any underestimates in projected capital expenditures and liquidity, changes in our strategy, changes in applicable government regulations and approvals, changes in customers' budgeting priorities, reduction in our profitability due to shifting in our product mix into lower-margin products or shifting in our revenue mix significantly toward our additive manufacturing services business, costs and potential liability relating to litigation and regulatory proceedings, and those additional factors referred to in Item 3.D, Key Information Risk Factors, Item 4, Information on the Company, and Item 5, Operating Financial Review and Prospects in our 2016 annual report on Form 20-F, which we filed with the SEC on March 9th, 2017, as well as in the 2016 annual report generally.

Readers are urged to carefully review and consider the various disclosures made through the report on Form 6-K that attaches Stratasys' unaudited, condensed, consolidated financial statements as of and for the quarter and nine months into September 30th, 2017, and its review of its results of operations of financial condition for those periods, which have been furnished to the SEC on or about the date hereof, Stratasys' 2016 annual report, and Stratasys' other reports filed with or furnished to the SEC, which are designed to advise interested parties of the risks and factors that may affect our business, financial condition, results of operation, and prospects.

Any guidance provided in other forward-looking statements made on this call are made as of the date hereof, and Stratasys undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise, except as required by law. As in previous quarters, today's call will include GAAP and non-GAAP financial measures. The non-GAAP financial measures should be read in combination with our GAAP metrics to evaluate our performance. Certain non-GAAP and GAAP reconciliations are provided in the table contained in our slide presentation and in today's press release. Now, I'd like to turn the call over to our CEO, Ilan Levin. Ilan?

Ilan Levin -- Director & Chief Executive Officer 

Thank you, Shane. Good morning, everyone, and thank you for joining today's call. We are pleased with our organizational focus that is in line with our long-term strategy of delivering value-added additive manufacturing applications within our target markets. Our focus is also reflected in our reduced operating expenses and improved profitability.

During the year, we have launched new printing systems, as well as value-added enhancements, in the form of materials and software-based capabilities to our existing product lines. Our recently launched F123 series, targeting professional rapid prototyping applications, continues to perform strongly. We are experiencing impressive usage growth for our GrabCAD Print software, enabling seamless CAD-to-print workflow. Additionally, we are excited with the latest commercial installation of another H2000 Large Part FDM 3B Production System, thereby achieving another important milestone with respect to this product.

Over time, we are observing a maturing pattern of customer behavior that is characterized by orders that are made up of multiple systems as customer adoption accelerates and use cases develop. Although a shift toward larger, more complex orders is a significant opportunity, it does introduce higher quarter-to-quarter variations in order timing that can impact our revenue in the given period. I will return later in the call to provide you with more details on these important initiatives as well as other key developments, but first, I will turn the call over to our CFO, Lilach Payorski, who will review the details of our financial results. Lilach?

Lilach Payorski -- Chief Financial Officer

Thank you, Ilan, and good morning, everyone. Total revenue in the third quarter was $155.9 million compared to $157.2 million for the same period last year. GAAP operating loss for the third quarter was $6.9 million compared to a loss of $19.4 million for the same period last year. Non-GAAP operating income for the third quarter was $8.1 million compared to $3.3 million for the same period last year. Product revenue in the third quarter decreased by 2% to $108.4 million as compared to the same period last year. Within product revenue, system revenue for the quarter declined by 6% compared to the same period last year, driven by product mix, the timing of several large multisystem orders which shifted to the first quarter, as well as the impact of several incidents of severe weather conditions in North America during September.

As in previous quarters, it appears that adoption of manufacturing application in our target industries is further along in certain regions, such as America and EMEA. Consumables revenue increased by 3% compared to the same period last year. Service revenue in the third quarter was $47.5 million, an increase of 1% compared to the same period last year. Within services revenue, customer support revenue -- which includes revenue generated mainly by maintenance contracts on our systems -- increase by 5% compared to the same period last year, driven primarily by growth in our installed base of systems.

GAAP gross margins increased to 48.3% for the third quarter compared to a GAAP gross margin of 56.9% for the same period last year. Non-GAAP gross margins decreased to 52.5% for the third quarter compared to 54% for the same period last year, driven by a shift in product mix and reflecting the same business trends as last quarters. Non-GAAP order gross margin decreased slightly to 59.6% compared to 60.6% for the same period last year, driven by the same shift in product mix. Non-GAAP service gross margin decreased to 36.3% compared to 38.7% for the same period last year, driven by the impact of service revenue mix by product, as well as utilization rates from our various technologies at strategies direct manufacturing.

GAAP operating expenses decreased by 12% to $82.1 million for the third quarter as compared to the same period last year. Non-GAAP operating expenses decreased by 10% to $73.8 million for the third quarter as compared to the same period last year. We are pleased with the results of our efforts to execute on our long-term strategy and deepening customer engagement in our key verticals while, at the same time, achieving greater operating efficiencies.

The company generated $4.6 million of cash from operations during the third quarter as compared to $2.5 million of cash used in the third quarter last year. We ended the third quarter with $302.8 million in cash and cash equivalents compared to $305.3 million at the end of the second quarter 2017. The cash from operating activities was negatively impacted by the $8.4 million final payment related to previous-year acquisitions.

Inventory at the end of the third quarter increased to $124.1 million as compared to $116.5 million at the end of the second quarter. Accounts receivable was flat at $120.5 million compared to $120.3 million at the end of the second quarter with DSO on 12-month trailing revenue at 66.

To recap, we are pleased with the shift in customer behavior, categorized by large multisystem orders, although larger orders can introduce higher quarter-to-quarter variations in order timing. Additionally, we reduced operating expenses while increasing our efforts to gain greater market share by leveraging our purposeful innovation in high-value applications around our technologies. This has, in turn, resulted in an increase in our full-year earnings guidance. We continue to generate cash from operating activity and maintain a strong balance sheet. We are well-positioned to leverage this favorable cash level on emerging opportunities going forward. I would like now to turn the call over to our VP of investor relations, Shane Glenn, who will provide you greater detail on our previously reported 2017 financial guidance. Shane?

Shane Glenn -- Vice President, Investor Relations

Thank you, Lilach. We are narrowing the range of our 2017 revenue guidance and increasing our guidance for 2017 operating margins and earnings per share as follows: Total revenue in the range of $655 million to $670 million compared to previous guidance of $645 million to $680 million. Non-GAAP net income in the range of $22 million to $26 million, or $0.40 per diluted share to $0.48 per diluted share, compared to previous guidance of non-GAAP net income in the range of $10 million to $20 million, or $0.19 per diluted share to $0.37 per diluted share.

GAAP net loss of $39 million to $31 million, or $0.73 per diluted share to $0.59 per diluted share, compared to previous guidance of GAAP net loss of $53 million to $39 million, or $1.00 per diluted share to $0.73 per diluted share. Non-GAAP operating margins of 5% to 6% compared to previous guidance of a non-GAAP operating margin range of 3% to 5%. Capital expenditures are projected to be $20 million to $30 million for 2017. Non-GAAP earnings guidance excludes $34 million of projected amortization of intangible assets, $17 million to $18 million of share-based compensation expense, $3 million to $4 million in merger and acquisition-related expense, and $6 million to $8 million in reorganization and other related costs, and includes $3 million to $4 million in tax expenses related to non-GAAP adjustments.

We maintain a relatively high estimated non-GAAP tax rate for 2017, given the ongoing non-cash evaluation allowance on deferred tax assets we expect to record throughout the year. These deferred tax assets have expiration dates many years in the future, and we do anticipate being able to ultimately recognize their value to offset prospective tax liabilities. Given the expected ongoing negative impact of not recording a tax benefit on U.S. tax losses on our net income loss, as well as significant quarter-to-quarter variability in our non-GAAP tax rate, the company believes non-GAAP operating profit would be the best measure of our performance in 2017.

Appropriate reconciliations between GAAP and non-GAAP financial measures are provided in a table at the end of our press release and the slide presentation, with itemized detail concerning the non-GAAP measures. Now, I'd like to turn the call back over to our CEO, Ilan Levin. Ilan?

Ilan Levin -- Director & Chief Executive Officer 

Thank you, Shane. As the global leader in applied additive technology solutions, we are focused on supporting our customers with comprehensive 3D printing expertise and a complete line of solutions. In line with our strategy, we are focused on launching new printing solutions as well as value-added enhancements and applications to deliver overall value to customers in our key vertical markets. Our newly announced products are aimed at expanding the addressable market for additive manufacturing solutions by offering superior ease of use, versatility, and added value that suits a specific use case within our target markets.

Last year, we began announcing a series of advanced technology demonstration platforms based on our FDM technology, which are designed to specifically address advanced industrial additive manufacturing applications by dramatically improving part performance and size, throughput, and design customization.

We are now pleased to announce that we are transitioning into the commercialization phase for the H2000 Large Part FDM 3D Production System, which was originally introduced in 2016 at IMTS as the Stratasys Infinite Build 3D Demonstrator. The H2000 was developed in collaboration with leading industrial companies, including the Boeing Company and the Ford Motor Company, and is designed to target manufacturing applications by lowering the constraints associated with part size and build speed. After positive feedback from our development partners, we have now expanded our outreach to select customers, and are happy to announce that we recently achieved a further milestone with the commercial delivery of an additional H2000 with a new customer.

The F123 series is quickly becoming one of the most successful Stratasys professional rapid prototyping product launches as more companies adopt a workgroup-oriented approach to design and rapid prototyping. The F123 offers a best-in-class professional workgroup experience for design and rapid prototyping needs with a combination of ease of use, precision, repeatability, affordability, and material options. We believe that this new product allows us to expand our margins as well as further penetrate our existing customer base with our distributed printing experience.

As a result, we have observed continued success and strong market reception, including high rates of adoption by new customers, and in some cases, orders made up of multiple systems. In our continued effort to improve and innovate the file-to-print workflow, we are also pleased to announce that GrabCAD Print has now been installed by nearly 18,000 users to date, and has been used to print over 116,000 trays of parts since launch in November 2016.

This week at the FormNext Additive Manufacturing Conference in Germany, we are making several announcements, including the launch of GrabCAD Voxel Print. GrabCAD Voxel Print is a new software solution for our J750 full-color multi-material 3D printing platform, providing industry-leading true voxel-level control during the design and 3D printing process. For the first time, users will be able to manipulate 3D printed material at the voxel level.

Leveraging the J750's unique full-color multi-material capability, Voxel Print is designed to afford users control and freedom to produce entirely new digital materials for their specialized needs. GrabCAD Voxel Print provides users the ability to create advanced structures, creating color patterns, internal properties, and textures with 3D printing to meet precise material requirements for different applications that include academic research, product design, and biomedical -- as well as art -- design and animation.

Recently, MakerBot announced the introduction of MakerBot Labs, an experimental platform for engineers and developers to create, build, customize, and collaborate as they push the limit as wide as possible with existing MakerBot desktop 3D printing systems. We believe that this platform will expand our addressable market in the desktop segment by providing advanced users the freedom and ability to experiment with new innovative materials and software settings to develop new capabilities and applications while using MakerBot desktop 3D printing systems.

The platform includes the MakerBot experimental extruder with interchangeable nozzles and access to custom print modes for experimenting with more advanced materials, the MakerBot Labs community on Thingiverse, and access to MakerBot APIs for optimization and customization of MakerBot hardware.

In summary, we are pleased with our progress in developing new products and value-added enhancements and applications that expand our addressable market by targeting specific use cases within our target industries. After successful installations with our development partners, we are transitioning into the commercialization phase for the H2000 Large Part FDM 3D production system, and are excited about our recent additional commercial installation of that system.

In the third quarter, we continued to observe strong demand for our F123 series and impressive adoption of GrabCAD Print, and are pleased to launch GrabCAD Voxel Print and MakerBot Labs, two products that open up exciting new capabilities for our polyjet and FDM desktop platforms. Looking forward, we remain optimistic about our prospects for the remainder of 2017, and are enthusiastic about our long-term growth potential within our industry. Operator, please open the call for questions.

Questions and Answers:

Operator

Thank you. Ladies and gentlemen, if you have a question at this time, please press star, then 1, on your touchtone telephone. If your question has been answered or you wish to remove yourself from the queue, please press the pound key. To prevent any background noise, we ask that you please place your line on mute once your question has been stated. We will limit callers to one question and one follow-up question. Any additional questions, please reenter the queue. Our first question will be coming from Troy Jensen of Piper Jaffray. Your line is now open.

Troy Jensen -- Piper Jaffray -- Analyst

Hey, thanks for taking the question, and congrats on the improved profitability. So, I guess maybe for Ilan or Lilach, you guys have made great process with OpEx controls here. It drove a lot of the profitability upside. Do you feel you're at the level you want to be at going forward now, or do you see further investments or further cost debts?

Ilan Levin -- Director & Chief Executive Officer 

Generally, I think we're in a good position with respect to our operating spend, as reflected in the operating profit that we announced today. Most of that is driven by our ongoing efforts to align our resources around the long-term strategy of deeper customer engagement and the development of our technologies around high-value applications. So, I think we're in a good place, and as we move forward and develop partnerships with customers and in the industry, we're going to focus in on that and take it from there.

Most of the things that we're doing now on that level are designed to increase our addressable market. I think F123 is a great example of coming to market with a very specific product that can come to a workgroup environment. I think the H2000 is another great example of bringing product that expands our adjustable market with some key customers. So, I think we're going to see more activity around that, both from the OpEx side and as a result in revenue.

Troy Jensen -- Piper Jaffray -- Analyst

All right. And then, just my follow-up -- you just mentioned bringing products to market. I've always thought that electrostatic printing was one of the best products that you had in your skunk work developments here, so I'm just curious why you guys are branding this as "Evolved Systems" versus "Stratasys."

Ilan Levin -- Director & Chief Executive Officer 

We've been incubating several technologies within Stratasys over the years, and where appropriate, we've been looking at ways to enhance the focus around them and get them moving internally more independently. Just for pure focus, different technologies that we've incubated don't necessarily have the identical addressable market, and that was the reason for that. And, as you've alluded to specifically, at Evolved, that's a newly formed subsidiary that we have created around an incubator technology that's been in Stratasys for a number of years, and it's focused on targeting high-volume manufacturing applications that would be normally addressed by CNC and injection molding. So, it's a little bit of a different market than what we've been doing, and I think the independence around that will allow them to better focus and capture that potential.

Troy Jensen -- Piper Jaffray -- Analyst

Can I just ask one more follow-up? I'd be curious to know when you think you can commercialize the electrostatic printing technology.

Ilan Levin -- Director & Chief Executive Officer 

We're not going to comment right now on the timeline of the commercialization of that technology specifically.

Troy Jensen -- Piper Jaffray -- Analyst

All right, understood. Good luck.

Operator

Thank you. Our next question comes from Ken Wong of Citigroup. Your line is now open.

Ken Wong -- Citi Investment Research -- Vice President

Hi. Good morning, guys. Can you talk a little bit about the pipeline of these multi-system deals that you guys mentioned? Are you finding that it's really just your larger customers are buying a lot more, or is it across different customer tiers where the small and mid-sized customers are also just moving up the stack here?

Ilan Levin -- Director & Chief Executive Officer 

I think it's a combination of both. It's across a number of industries, and it's across -- really, depending on the product. So, we see a good example of that on the F123 side. It's not atypical now that we're receiving multiple systems on a single order from a wide variety of customers and industry, and as we alluded to in our earlier remarks, we're getting a lot of increased traction from new customers with that product line.

As we move up on the product line, the larger systems, certainly -- I think you will see more customers there that have been familiar with our technology for a number of years understand the use case around it, and then they're ramping up as their specific needs grow. So, it really depends on which end of the product line we're looking at.

Ken Wong -- Citi Investment Research -- Vice President

Got it. And, Lilach, you mentioned some hurricane impact this quarter. Any rough quantification? And then, as we think about potential impact going forward, should we expect that Q3 is -- you guys have resolved most of the -- at least, the customers have resolved most of the issues there, and we shouldn't see any lingering headwinds going forward from weather?

Lilach Payorski -- Chief Financial Officer

Yeah. So, we are not providing specific numbers on the impact of this, but overall, we did experience some noise around that in the last few weeks in September, and we did see those orders materialize in early October, so we don't perceive this trend to impact us going forward.

Ken Wong -- Citi Investment Research -- Vice President

Okay, great. Thanks a lot, guys.

Operator

Thank you. Our next question comes from Wamsi Mohan of Bank of America Merrill Lynch. Your line is now open.

Ruplu Bhattacharya -- Bank of America Merrill Lynch -- Vice President

Hi. Thanks for taking our questions. This is Ruplu, filling in for Wamsi today. I think you mentioned some multi-system orders getting pushed out to 4Q. I was just wondering if you could quantify how much revenue that was that shifted out to the fourth quarter, and what was the margin impact of that in 3Q?

Ilan Levin -- Director & Chief Executive Officer 

As we said, we're not going to break out the specific number that was -- we feel pretty comfortable because those specific systems and orders that we were referring to were delivered and shipped in October, so we feel pretty comfortable that it was just a movement of a couple of weeks there.

Ruplu Bhattacharya -- Bank of America Merrill Lynch -- Vice President

Okay. And then, for my follow-up, just looking at the consumables revenue, it grew 3% year-on-year. I was just wondering -- the new system, the F123 -- is the rate of consumables consumption more than your typical system or less, and how should we think about consumables revenue getting back to the type of growth that we've seen earlier in the year?

Ilan Levin -- Director & Chief Executive Officer 

I think it's a little bit early to tell the usage patterns on an F123. From a revenue perspective, in any given period, the overall consumable number will be really dependent on the rate of new hardware sales, the product mix of our install base, as well as the product mix in a specific quarter in terms of hardware sales, the product mix within the consumables as we are now working more toward opening up the spectrum. So, you can imagine on an F123, which is a much more general-purpose system, there are less premium materials on that system, and if you look at an H2000 and you're all the way over to almost exclusively our premium. So, it really can vary, and right now, since we have new products in the market that haven't been out there very long, internally, we're not even drawing dramatic conclusions on the usage patterns on any of them and how that' working.

Ruplu Bhattacharya -- Bank of America Merrill Lynch -- Vice President

Okay. Thank you for taking my questions. I appreciate it.

Operator

Thank you. Our next question comes from Paul Coster of JP Morgan. Your line is now open.

Paul Coster -- JP Morgan -- Executive Director

Thanks for taking my question. I'd like to understand a little bit the use case around the H2000. It's a large aerospace company. Do you anticipate that the system gets deployed and that it then can handle multiple product lines, or are you anticipating that the one system per production line...? Just some sense of how you see this scaling within a customer over the course of time would be helpful.

Ilan Levin -- Director & Chief Executive Officer 

So, I think it's still pretty early days. Whatever number of customers we've supplied it to are using it in different ways and have different ideas around it. I think in general, when we're speaking of the very large build size of an H2000 and the associated print time, of course, around that, once they get past identifying the application fit and where that suits them, I think we will see more specific applications in each customer setting around the system, more so than in our other systems. So, I think we will see a trend there that has yet to be determined. It's still pretty early days, but that is our anticipation.

Paul Coster -- JP Morgan -- Executive Director

And, these production systems are what percentage of system revenue today, and how much will they represent, say, in three years from now, do you think?

Ilan Levin -- Director & Chief Executive Officer 

So, we're not breaking that down yet, and in any case, I think it's still early. We have a number of systems out there and are still learning how customers are using them, so I don't think we can give information further than what we've given at this point.

Paul Coster -- JP Morgan -- Executive Director

Okay, thank you.

Operator

Thank you. Our next question comes from Shannon Cross of Cross Research. Your line is now open.

Shannon Cross -- Cross Research -- Owner

Thank you for [inaudible] consumables side. When do you think we might see some acceleration in the revenue growth on that? I know there were some delays this quarter, but just thinking about some of the pressure that you've seen in prior quarters on system sales, is that some of what's flowing through on consumables? And then, as these new products come in, will we see it kick back up again? How do we think about if there's a lag factor between the revenue growth and hardware and systems versus what you're seeing in consumables? And then, I have a follow-up. Thank you.

Ilan Levin -- Director & Chief Executive Officer 

So, from a consumables perspective, clearly, new hardware sales in any given period is a driver for immediate consumables associated with that sale. There are other factors, however, that put it into that mix there, which is the product mix -- product on the consumable side, the different types of consumables, and the usage patterns around them. And, as we're opening up the spectrum of our offering, both on the hardware side and the consumable side, we're going to see a different pattern going forward. I don't think we have enough data and period of time with this new strategy that we can actually determine what that trend will be.

So, from an aerospace application for our high-end systems, we have some of our premium materials, and F123 will have more commonly used materials that we'd maybe price at a lower point. And, an add-in to that -- when we enter into manufacturing, we're going to see perhaps a different pricing as well. So, we're still putting all that into the mix, and I think it's early days yet to determine what that trend will be.

Shannon Cross -- Cross Research -- Owner

Okay. And, I was curious -- how are you tracking that? It just comes back to... HP -- again, this is on the 2D printing side, but they have their famous four-box model with very different puts and takes, and hopefully, at the end of the day, it hopefully comes out with accurate forecasts. I'm just curious, internally, how you're thinking about forecasting on the consumable side, and then, after you answer that, I do have one more follow-up question. Thank you.

Ilan Levin -- Director & Chief Executive Officer 

We've historically forecasted reasonably well on our consumable revenues, and as we're now beginning to cater to specific applications and opening up that spectrum, we're continually refining the forecasting model in order to suit our product line.

Shannon Cross -- Cross Research -- Owner

Okay. And then, with regard to the lumpier sales and the more systems-oriented larger contracts and that, are you changing the way that you're following the pipeline with your sales force? Are you changing the way your sales force is comped? I'm just trying to think -- is the magnitude of the deal shift, and perhaps the complexity -- if you're making changes within sales processes, and comps, and all of that -- to address that? Thank you.

Ilan Levin -- Director & Chief Executive Officer 

So, we consistently -- over the past number of years -- have been adapting ourselves to the market landscape in general. So, we've added expert services, we've added key account management, we've added industry segment leaders in the territories that require it, and all are designed to support the strategy of going deeper with customers in terms of engagement, with catering to specific applications. So, we're doing a lot of efforts globally, and within specific regions, to do exactly that.

Shannon Cross -- Cross Research -- Owner

Okay, thank you.

Operator

Thank you. Our next question comes from David Ryzhik of Susquehanna Financial Group. Your line is now open.

David Ryzhik -- Susquehanna International Group -- Research Associate

Thanks so much. Congrats, everyone, on the H2000 placement. So, just wanted to clarify -- would the revenue be recognized for this installation in Q4, and any idea on the ASP? Is it a $2 million unit? And, I had a follow-up. Thanks.

Ilan Levin -- Director & Chief Executive Officer 

So, we don't break up the revenue right now associated with our different systems. We have shifted, as we said, that specific system into the fourth quarter. Just bear in mind that the system is a little bit different than our previous systems or other systems that we sell. Our F123 all the way at the other end is very much a plug-and-play experience, and with respect to the H2000, there is work in getting it up and meeting customers' requirements on the site-specific level.

David Ryzhik -- Susquehanna International Group -- Research Associate

Got it. So, you shifted in Q4, but it's not clear if revenue will be recognized in Q4, or partially in Q4, or in Q1. Correct?

Shane Glenn -- Vice President, Investor Relations

There's issues, obviously, given the nature of the system -- as Ilan mentioned -- that the system will need to be installed correctly prior to revenue recognition, so at this point, we wouldn't want to speculate on an exact date.

David Ryzhik -- Susquehanna International Group -- Research Associate

Great. And, I guess just with F123, Ilan, can you give us a sense of what percent of the F123 demand you think is coming from existing MakerBot customers, and maybe can you quantify that upsell opportunity besides the new customer opportunity, which seems pretty strong? But, I would love to hear your thoughts on that.

Ilan Levin -- Director & Chief Executive Officer 

So, I think that end of the market is very much represented by a lot of players and a lot of new entrants, and that market is very much growing as a result. So, we don't necessarily look at it as "what's happening to MakerBot" as opposed to "what are we doing at the F123 level." I think it's very much a growing market. Many new systems are being installed globally, and I think we're participating in that market very nicely when we look at both the MakerBot and the F123 series on a combined basis.

David Ryzhik -- Susquehanna International Group -- Research Associate

Okay, thanks so much.

Operator

Thank you. Our next question comes from Patrick Newton of Stifel. Your line is now open.

Patrick Newton -- Stifel, Nicolaus & Company -- Analyst

Yeah, good morning, Ilan and Lilach. First is on the systems revenue side. The revenue trends are declining at a decelerating rate, so I'm curious if we take some of the new products that you've talked about specifically -- the H2000 -- customers trending toward purchasing multiple systems, and current industry demand dynamics. Do you feel we're approaching an inflection for systems revenue and are likely to return to growth in 2018?

Ilan Levin -- Director & Chief Executive Officer 

So, we are very much encouraged when we look at -- when we're getting into the dialogue with customers and when we're looking at the multiple system orders, we see that from -- as I said earlier in the comments -- from customers who have been using our technology for a number of years understand the application fit. So, there is a lot of encouraging signs there when we see the increased adoption coming from those types of customers.

Patrick Newton -- Stifel, Nicolaus & Company -- Analyst

Great. Lilach, I wanted to focus a little bit on gross margin. You highlighted in your prepared remarks that it declined year-over-year due to mix. I'm curious -- if we look forward and we think about these multi-unit orders and larger-format printers, how should we think about that impacting mix on a go-forward basis, and also, within gross margin, I believe there were some prior headwinds from the success of the F123. Have those been resolved?

Lilach Payorski -- Chief Financial Officer

So, specifically regarding the impact of the large orders, actually, we can -- what we're happy to see in those large orders that we can actually see a variety of F123. At the same time, they also can be more on the high-end products -- so, not necessarily is this going to impact specifically the gross margin. So, we still see a significant impact on our gross margin trend given the different product mix and the variety of our product offering going forward. Specifically regarding F123, we're definitely pleased with the nice attraction and acceptance that the market has around this product and the high volume of units that we are selling and shipped, and definitely, this has also impacted our product mix and gross margins.

Patrick Newton -- Stifel, Nicolaus & Company -- Analyst

I guess -- I'm sorry, just a clarification, Lilach -- as we move to these larger-format printers, the crux of the question is is this positive to your product mix or negative?

Lilach Payorski -- Chief Financial Officer

So, you ask about the large multi-system order, or you ask about the large --

Ilan Levin -- Director & Chief Executive Officer 

I think it really depends -- it's very product-specific. So, I think there are very solid, good products that have been in the market for a while on the high end that are favorable to us on the gross margin level. Typically, when we do introduce a product, it takes a number of quarters to get the kinks out, and then we see an improvement in gross margins. And looking forward, on the F123, we're making continual improvements on that considering that it was launched in February of this year.

Patrick Newton -- Stifel, Nicolaus & Company -- Analyst

Great. Thank you for taking my questions. Good luck.

Operator

Thank you. Our next question comes from Sherri Scribner of Deutsche Bank. Your line is now open.

Sherri Scribner -- Deutsche Bank -- Director & Analyst

Hi. Thank you. I guess I was wondering if you could provide some additional detail on the system segments if you're seeing unit growth, or at least, stable units. I guess simplistically, you would have to see the units grow over time in order to continue to grow the consumables business. Maybe that's not true, so maybe you could comment on that, but specifically, are we starting to get to a point where we might see some unit growth in the system business, and is that decline in sales largely a mix issue, or is it a unit issue?

Ilan Levin -- Director & Chief Executive Officer 

So, now, we're beginning to look at the general industry maturity, and certainly, the strategic focus of Stratasys, and start to look at our markets in different ways. So, we don't look at it any longer as how many units have we sold across the business, but we would look more specifically at the entry-level engineering-grade workgroup product line and how are we doing. So, we certainly see an uptick in unit growth as a result of the F123 introduction. In terms of usage, which your question was is it a 1:1 relation, it very much, again, depends on the market. So, an F123 certainly would not be used at the same continual basis as a higher-end system that we would be selling, so we're beginning to look at it in different ways from different perspectives, which I think is something new, certainly at Stratasys, over the past number of quarters.

Sherri Scribner -- Deutsche Bank -- Director & Analyst

Okay. And then, just to follow up on the services side, the maintenance continues to see some decent single-digit growth, but that implies that the on-demand business is still declining. What is your perspective on the necessity of the on-demand business going forward, and do you think that business will stabilize? What are you hearing from your customers on their desire for on-demand services? Thanks.

Ilan Levin -- Director & Chief Executive Officer 

So, in line with our general strategic focus, we're increasingly looking to drive a strategy that realizes some synergies between that part of the business and our core system business, and I think that is the value for us internally of how we would like to see FDM develop together with Stratasys. So, we're looking at it now from a customer perspective in meeting their needs across a wider spectrum -- typically, in the past, we've looked at it more on the system side and associated consumables. Now, we've put into that -- or, we're going to increasingly put into the mix expert services, the ability to provide parts either as an introductory service or perhaps as an over-capacity element to it. And so, we're putting all that together, and I think that going forward, it's going to look more and more integrated.

Sherri Scribner -- Deutsche Bank -- Director & Analyst

Great, thank you.

Operator

Thank you. Our next question comes from Matt Cabral of Goldman Sachs. Your line is now open.

Matthew Cabral -- Goldman Sachs -- Vice President, Equity Research

Yeah, thank you. Just one for me -- I wanted to ask on the competitive landscape. A couple of your competitors have introduced new lower-priced offerings over the past few weeks, and in particular, started to talk about a more aggressive environment. With that in mind, just curious if you saw any changes in terms of the market pricing dynamics in the third quarter, and more broadly, just how you're thinking about your hardware pricing strategy going forward?

Ilan Levin -- Director & Chief Executive Officer 

In general, our ASPs are stable. As we open up the spectrum -- again, we're not going to be looking at it as a single number. I think we're going to start looking at it within the different market segments and how selling prices are affected on each. And then, once we develop a strategy and we're doing that continually, as we develop the strategy for each of the segments, often, the pricing or competitive pressures -- if they do exist -- might come from conventional means, it might come from how disruptive additive manufacturing brings to the table, and as you allude to, it might be affected by competing solutions in the market.

Again, it would not only affect hardware process. I think there's very much a look from a total cost of ownership and cost per part, so there's a lot blended into that which is hardware consumables, the reliability of a system, and the associated service expenses around it up time, so there's a lot that goes into that mix, and certainly, as we're looking more on the manufacturing side on an increasing basis, those are the questions, and it's not so much the entry-level price, it's the specific capital equipment side of it -- the hardware side of it.

Matthew Cabral -- Goldman Sachs -- Vice President, Equity Research

Thank you.

Operator

Thank you. Our next question comes from Ananda Baruah of Loop Capital. Your line is now open.

Ananda Baruah -- Loop Capital -- Analyst

Hi. Hey guys, thanks for taking my questions, Ilan and Lilach. A few from me if I could -- with regards to the lumpiness in the orders for the larger machines and the movement across the line into December quarter, with that September quarter revenue, it feels like it was toward the lower end of normal September quarter seasonality, and December quarter sort of feels the same way. So, I'm just looking for context on what the customer buying patterns feel like. Is it a case where now, you're shifting more of the sales toward the higher end, and then, with F123, you're capturing the lower end also? And so, it may be that traditional mid range of the product line isn't being focused on as much, so, with the mix shift, maybe the seasonality is shifting. Then, I have a follow-up as well. Thanks.

Ilan Levin -- Director & Chief Executive Officer 

I think what you've alluded to is in line with what we're talking about on a strategic level, which means that we need to address the different markets. I think that we when we look at the tooling or manufacturing applications, certainly, that would be in our higher end. Regardless of the physical system that's being delivered, it is a higher-end application. And, the F123 certainly is catering more around the design traditional prototyping, but in a different environment, and a more officeable environment. So, it's early days to begin to determine those trends, but certainly, the market is maturing and becoming more segmented, and we're seeing that in our business as well. Not only are we reacting to it, I think we're looking to drive it that way, not just react to it in that way.

Ananda Baruah -- Loop Capital -- Analyst

Ilan, appreciate that. And, is there any way to framework for us how long -- I know the visibility isn't exact. What I'm wondering is to the extent that the dynamic takes a handful of quarters to play out, I'm wondering if year-over-year revenue growth -- or, if the revenue run rate continues to alter until you get normalized adoption with that strategy at the different ends of the portfolio.

Ilan Levin -- Director & Chief Executive Officer 

We're not going to provide any guidance for '18 at this point. In general, I think that when we are looking internally at our growth drivers, we're certainly seeing -- around new products -- our ability to drive increased revenues around them. So, we do see a lot of encouraging signs going forward, absolutely.

Ananda Baruah -- Loop Capital -- Analyst

Okay. And, just one last quick one from me. Is there any -- you've done a great job on the margins, and in the prepared remarks, we can hear that you sound very satisfied with the work you've done on the cost structure. Is there any opportunity -- or, how do you think about the opportunities internally to spend a little more to drive revenue growth a little faster? Are there trade-offs given the success on the margins that you decided to make to drive more margin and maybe not push as -- "push" is the wrong word, but maybe not...move with greater velocity on product placement that maybe you could make to drive the placements a little bit more quickly at the -- I don't want to say "at the expense," but choose a little bit more faster product placement while perhaps showing a little bit more operating profit. Thanks.

Ilan Levin -- Director & Chief Executive Officer 

Most of what we've done over the past number of quarters in terms of improved operating profit -- most of that was designed to actually increase focus, which is designed to increase our speed. So, it wasn't about spending less, it was about driving the organization around certain items that we could actually liberate and go quicker. So, I don't see that at this point -- or what we've done in the past number of quarters -- it's one against the other. It was actually redesigning internally in order to work quicker and get to market quicker.

Ananda Baruah -- Loop Capital -- Analyst

That's really helpful. I'm going to sneak one more in here if you guys don't mind. Just on metals, just in light of what some of your competitors have announced in metals over the last four to six weeks -- if this has already been answered, I apologize, but we'd just love to get your updated thoughts on metals.

Ilan Levin -- Director & Chief Executive Officer 

Metals is less mature and is a newer material being introduced to additive manufacturing. We're very pleased with the opportunities and excited by the opportunities that plastics and thermoplastics were providing to the market, and the endgame that we could possibly bring through our products, and the applications we can bring forward. We do have -- as we alluded to previously in the call -- we are incubating a number of technologies, but I'm not going to comment as to what materials are being deployed there, and what technologies, and how we're applying them.

Ananda Baruah -- Loop Capital -- Analyst

Okay, great. Thanks a lot.

Operator

Thank you. Our next question comes from Ethan Potasnick of Needham and Company. Your line is now open.

Ethan Potasnick -- Needham & Co. -- Equity Research Associate

Hi. Congrats on the quarter. This is Ethan Potasnick, filling in for Jim Ricchiuti. I was wondering if you could discuss what you saw over the course of the quarter in your vertical markets -- aerospace, auto, and healthcare.

Ilan Levin -- Director & Chief Executive Officer 

It's difficult within those three industries. We picked those because we believe that they are a long-term place for us. So, as you might well be aware, the ability to penetrate those industries and grow does take time, so it's not -- we don't judge that on a quarterly basis. We've been working at aerospace for well over five years -- certainly, auto much longer than that. So, as we bring new products to market, as we deepen our engagement across those industries and within accounts, we believe that it will only bring us upside going forward. It's difficult to judge the progress on a quarterly basis in terms of product development and bringing things to the market.

Ethan Potasnick -- Needham & Co. -- Equity Research Associate

Okay. And then, similar to a previous question, how do you view competitive pressure from emerging threats to the business with regards to market share or product perspective in core plastic and polymer printing business?

Ilan Levin -- Director & Chief Executive Officer 

So, when we look at market share going forward, we will be looking at it on a segmented basis based on use case. So, a good example of that might be that we came out earlier in the year with a solution for interior cabins in aircraft. We believe that's a unique opportunity to Stratasys -- primarily technology-based -- and we find those applications on a continual basis within the focused industries, and that's where we're targeting. So, I think the competitive landscape -- which is evidently changing; I think it's good for the industry, it does increase awareness -- ultimately, it will increase adoption in general, but when we're out in the field and we're speaking with a specific application, a lot of what you see generally from a birds-eye view, we do not see on a case-by-case basis, and that's what we're trying to drive.

Operator

Thank you. Our next question comes from James Medvedeff of Cowen and Company. Your line is now open.

James Medvedeff -- Cowen & Co. LLC

Thanks for squeezing me in here. It seems SG&A is down pretty handsomely from Q2, and my first question is whether that is related to the decline in sales -- or, what portion of that decline is due to the decline in sales, and how much of it is due to management controls.

Lilach Payorski -- Chief Financial Officer

So, a portion of this is related to the climbing sale as the revenue is down, so the commission is slightly lower. You would expect it in this level of revenue. In a quarter that you have a higher revenue level, you would expect the SG&A line to be slightly higher, and this what we definitely expect from a Q3 perspective traditionally for us. Overall, the SG&A, definitely taking conservation, will represent the focus that we are initiated in our company in terms of the area that we believe will drive the long-term goals, including also on the product side, and also on the go-to-market aspects.

James Medvedeff -- Cowen & Co. LLC

Okay. Total operating expenses -- non-GAAP -- in the quarter were up slightly as a percentage of sales versus the second quarter, and I understand that's partly due to the decline in sales, but my question is what is -- given the management controls, what is the long-term target for that metric, or conversely stated, an operating margin target for the long term?

Lilach Payorski -- Chief Financial Officer

We currently do not provide the long-term profitability measure, and specifically not for 2018, but we do address it as part of our initiative here, and at the same time, like Ilan mentioned before, we are more focused on doing the right thing and focusing our organization on the area we believe will deliver growth going forward. At the same time, we monitor those measures as well.

James Medvedeff -- Cowen & Co. LLC

Okay, if I can just slip an extra one in also, what is the utilization rate at the service centers, currently?

Ilan Levin -- Director & Chief Executive Officer 

We've remained stable in quite some time. One of the key factors within FDM is that when we're moving increasingly more to a customer-centric approach, maintaining a healthy utilization rate in terms of customer delivery on time -- one of the key selling points within that service sector this far is very timely delivery. So, we look at it as we're selling time, and that's what rapid prototyping or tooling in some manufacturing applications is all about. But, we don't break that number out in terms of what that specific utilization would be.

James Medvedeff -- Cowen & Co. LLC

Thank you.

Operator

Thank you, and this does conclude our question and answer session. I would now like to turn the call back over to Ilan Levin for any closing remarks.

Ilan Levin -- Director & Chief Executive Officer 

Thank you for joining today's call, and we look forward to speaking with you again next quarter. Thank you, and goodbye.

Operator

Ladies and gentlemen, thank you for participating in today's conference. This concludes today's program. You may all disconnect. Everyone have a great day.

Duration: 56 minutes

Call participants:

Ilan Levin -- Director & Chief Executive Officer 

Lilach Payorski -- Chief Financial Officer

Shane Glenn -- Vice President, Investor Relations

Troy Jensen -- Piper Jaffray -- Analyst

Ken Wong -- Citi Investment Research -- Vice President

Ruplu Bhattacharya -- Bank of America Merrill Lynch -- Vice President

Paul Coster -- JP Morgan -- Executive Director

Shannon Cross -- Cross Research -- Owner

David Ryzhik -- Susquehanna International Group -- Research Associate

Patrick Newton -- Stifel, Nicolaus & Company -- Analyst

Sherri Scribner -- Deutsche Bank -- Director & Analyst

Matthew Cabral -- Goldman Sachs -- Vice President, Equity Research

Ananda Baruah -- Loop Capital -- Analyst

Ethan Potasnick -- Needham & Co. -- Equity Research Associate

James Medvedeff -- Cowen & Co. LLC -- Analyst

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