Motley Fool co-founder Tom Gardner and Chief Investment Officer Andy Cross interview Proto Labs (NYSE:PRLB)CEO Vicki Holt. Learn about the experiences that led her to Proto Labs, what she thinks are the company's top competitive advantages, and what she has to say about the long-term future of the company. A transcript follows.


Transcript

This is Tom Gardner here with Andy Cross, chief investment officer at the Fool and we're pleased to get the opportunity to talk to the CEO of Proto Labs. I mean, we are such a long-term business-focused investment group that I don't know. Vicki, how long do you... [00:00:14] Vicki Holt, the CEO of Proto Labs. Thanks for meeting with us. How long until you're not a "new" CEO at Proto Labs, or do you think that time has already passed?

VICTORIA HOLT:

Well, I think that time has passed, Tom. I'll tell you. I've been here a year now, and I just crossed over, a couple of weeks ago, my one-year mark. I'm with a fantastic leadership team, here, which I've made a few changes to, but not much. We've had a chance to really analyze the business and come forward with what our strategy is going to be going forward to continue the growth and our path forward. So I think it's now my agenda.

ANDY CROSS:

Vicki, it's been a year now. You are new to Proto Labs, so give us a sense of what really drew you into the Proto Labs story. I know you've talked a little bit to the press about this, but I want to hear it in your own words.

VICTORIA HOLT:

Well, I come to this company with over 30 years of manufacturing experience across a wide variety. So a little bit in plastics. In glass materials. In composites. Films. And so I understand the thought process that engineers use in terms of utilizing materials and making decisions around parts in the end product.

But what is so unique about Proto Labs is how we have taken that process that engineers go through with their products and we automated a lot of some of the work that happens behind the scenes with software. So we're a unique intersection between information technology and manufacturing.

And what attracted me to this opportunity is the fact that we are right at that leading edge of digital manufacturing, which I think is going to be a phenomenal opportunity for manufacturing around the world over the next two decades. We're right there at the forefront, and we're a leader, so a really fun place to be.

TOM GARDNER:

Could you just give us an expression of a customer's experience at Proto Labs? Just maybe one or two examples of how people are using the solutions that you're providing?

VICTORIA HOLT:

Customers use us in a couple of ways. One is with prototyping. If you're a new product developer and you really want to accelerate innovation and get a prototype part in your hands quickly so that you can check whether it functions or even see how it feels, we do that very rapidly.

The other thing we do, though, is we actually work with customers as they upgrade into production. So if you've got a part that you prototyped and you now know what you want — this is it — but you have to go get a large steel tool cut in China, it's going to take you two to three months.

We can provide bridge tooling production for you. We'll produce for them until your part comes in so you can get to market faster. Or if you have an emergency and something happens to your large production tool, we can go ahead and produce very quickly for you.

And third would be if you have a product that has relatively low total volume — our sweet spot is 10,000 parts or less. Let's say you're a medical device company with a surgical procedure [and] you're only going to make 5,000 of these a year, we could be a production supplier for you.

So customers use us in all different ways. We're unique because we're prototyping in low-volume production and we do so very quickly and very cost-effectively.

TOM GARDNER:

I know that about 85% of your business comes from existing customers, so it's almost like the payment for the solutions that they're getting are designed around specifically what they're getting. Are there any customers that are almost on subscription with your business?

VICTORIA HOLT:

When customers are using us for production, it can sometimes be like a subscription in that they've got a product and it's got a certain demand every quarter and they will be buying from us. Now, a lot of customers will use us for prototyping or low-volume production that just bridges them to higher-volume production. Then, literally, we have to wait for those projects to come forward for the next part to be uploaded and used.

But we are increasing the number of developers that are within our customers every single day, so a metric I like to steer people to is not customer companies, but the number of product developers that we serve. So when you look at 2014, we serviced over 20,000 product developers (actually 21,500 product developers and engineers). That's a 34% increase over the prior year.

TOM GARDNER:

One of the questions that one of our analysts wonders about is it's a great growth story now. You've articulated targets of getting to $1 billion in sales. What do you think gets you there?

VICTORIA HOLT:

We've got three growth levers that we drive — acquiring new customers or product developers and engineers, expanding our envelope, and new processes. By far, the greatest growth engine driver we have is by bringing new product developers and engineers into the fold and helping them learn how to use Proto Labs and the value that we can bring their business.

I mentioned that we served over 21,500 product developers and engineers in 2014. That was a nice increase over the prior year. I remind my sales and marketing team there are 5 million CAD seats out there, and anybody who's working with 3D CAD is a potential for us, so we really want to increase brand awareness and help these engineers understand the value that we can bring them and their companies.

ANDY CROSS:

And just very quickly. CAD, Vicki, is computer-aided design, right?

VICTORIA HOLT:

Correct.

ANDY CROSS:

That's the systems that the developers are uploading. It's all done through the Internet — uploading into Proto Labs — and then you run the prototypes for them in your facilities.

VICTORIA HOLT:

Correct. So our whole model starts with that digital thread, and that digital thread is a 3D CAD electronic file that gets uploaded via our Web-based interface. A hundred percent of our business is done over the Web. Then once that information is uploaded, that's when our proprietary software takes over.

We rapidly translate that information into information that allows us to virtually manufacture that part and turn around a quote in minutes for that part to be made with either an injection-molded part or a machined part, or a 3D-printed part. The customer gets back this quote. They can order it and then poof, it goes into our production model and we turn it around very quickly.

ANDY CROSS:

Then just very quickly, talk about the scale and the scope of those facilities. Are you going to be required to open up more and more facilities around the country? As you think about what's going to happen in Europe and Japan, do you think about opening up more and more facilities to serve more and more customers? Will that be an investment that you'll have to make and then how do you think about the return on that investment?

VICTORIA HOLT:

We do need to add floor space from time to time. The equipment, itself, is not hugely capital intensive, but as we grow, we have to periodically buy chunks of floor space that tends to be a little more capital intensive.

For example, in 2014, we built a facility in Plymouth, Minnesota to allow us to expand. That will give us the capacity we need in North America for our Firstcut machined and our Protomold molded business probably through 2016. Right now we're running out of space for additive manufacturing in North America, so in 2015, we'll be investing in floor space to do that.

And then in Europe, we're probably OK until 2016, but we're adding additive manufacturing the second half of this year in Europe and we'll need space to house that growth going forward. So we do need to periodically add floor space and our scale is very important because that is also what differentiates us. We always have the capacity for quick turns.

ANDY CROSS:

Vicki, is that floor space readily available? Are you leasing that space? Do you have to build out that space to find it?

VICTORIA HOLT:

You know, we look at lease versus buy all the time, and because of the leasehold improvements we usually have to make for a facility to be able to handle the energy load, etc. that we need to do, sometimes it makes more sense to buy. For example, in North Carolina right now we're looking at a couple of locations, and it's really going to make sense for us to buy in that market rather than lease.

But the investments are still within our model of the 8-10% of revenue on capex. We have wonderful cash flow, so we fund it all with cash from operations. We have little or no debt. It's definitely manageable with the growth rates and our cash flow.

ANDY CROSS:

I think that was one of the beauties of the story that attracted us to that — is your financial model — which really does stand out.

VICTORIA HOLT:

It's great to be in a start-up business in a new and emerging area, and to be able to say you're doing it profitably. A lot of companies start up and they lose money for a few years. We were never like this. Larry Lukis was right from the beginning — we're going to make money — and they have, right from the beginning. Good money.

TOM GARDNER:

One more question about your solutions and the customers that you're serving, and then we want to talk about the culture and what it's like to work at Proto Labs. You talk about the tremendous number of product developers that are out there that you can provide solutions for. How it's important for your sales force to get out there and let them know — and what a huge opportunity for your sales force.

Could you just identify [what] you think the next wave of product developers is? Who's coming next and who's maybe coming last? Who's farthest out and will be the most difficult to reach that you think five years from now [is the] type of product developer that will be coming in versus the ones that are right in front of [you] today?

VICTORIA HOLT:

That's a good question. I mean, engineers are a difficult group to reach because they tend to be fairly conservative and they tend not to change rapidly. When you look at the age group of our current customer base, they're actually pretty young. Thirty-one is our average age. When you look at the number of engineers that are out in the engineering community, the average age is probably closer to 45.

So we've brought in the tech-savvy engineers that are most comfortable doing business over the Internet, and over time what we'll need to do is continue to have more people feel comfortable with a truly digital model without having to have 2D drawings, at all. We just need 3D CAD and we can make your life easier that way. Then also engineers that are comfortable doing business over the Internet.

TOM GARDNER:

I want to talk, now, about the culture. For us, so much of it starts with the story and the founder. Obviously, Larry Lukis is still quite involved at Proto Labs. He's the chairman. I do love seeing his photograph on his LinkedIn page.

VICTORIA HOLT:

Yes.

TOM GARDNER:

I don't know if you're connected to Larry on LinkedIn. I presume you are...

VICTORIA HOLT:

Oh, of course...

TOM GARDNER:

And he's got his beach hat on. Tell us a little bit about Larry. We know what motivated him to start the company. What's motivating him now?

VICTORIA HOLT:

Oh, first, he's a brilliant man. Just brilliant. He invented the right solution at the right time. It's enabled by use of 3D CAD. It's enabled by comfort doing business over the Web. Then the shortening [of] product life cycles and the need for speed and differentiation. So he's just brilliant.

In terms of what's motivating him, I think he wants to leave a legacy. He already has, in my opinion. This company is a legacy and all of the wonderful people that he's assembled here. The culture that we have. The respect we have for each other. The fun we have, yet how we challenge each other to just get it done. He's left that. But I think he wants to leave something that's got that kind of continuity behind [of] which he can be really proud.

He's still involved with the business as the chairman of the board. I use him a lot as a confidant, particularly around any technical-type conversations because he's very strong on the technology. But he is also now spending a little bit more time with the family, which I can appreciate, so we don't see him quite as often. But he's around a lot.

TOM GARDNER:

You mentioned that over this first year of leadership you made a few changes. You don't necessarily have to name specifics or details as to why, but broadly, what were you shifting that you felt would position the company better for the next 10 years?

VICTORIA HOLT:

One of the key shifts is we didn't have a strong human relations function, even within the company. We had no VP of HR. The HR professionals we had were all really good, but we didn't have the kind of infrastructure that was going to scale this company to $1 billion. I brought in a new VP of HR in order to do that, so that was one of the major changes.

Then the other thing we've done is not so much with the leadership team, but the next layer of management. [Management] has really built some strong skills and strong leadership, particularly in the sales and marketing arena, so that we can accomplish what we need to get done. So we needed to build some infrastructure and as you grow, you've got to develop that next level of leadership.

TOM GARDNER:

Tell us a little bit about your background — your time at Spartech. You gave a nice description of what motivated you to jump in at Proto Labs. What is motivating you — in life — even beyond necessarily the specific company you're at?

VICTORIA HOLT:

In life? I love to make a difference in businesses. I really like to take businesses from Point A to Point B. When you look at my history, I spent 23 years with Monsanto Company in Solutia and ended my career, there, with a growth business. It wasn't growing quite as rapidly as Proto Labs — but at a strong, double-digit, mid-teens kind of rate — and it was so much fun to be in a growth business. That was the performance films business.

After that, I went to the glass segment at PPG where I had glass and fiber glass, which was a little bit more of a margin turnaround type of project. Not the kind of growth rates that we see here. So I've done that. Spartech was also a bit of a turnaround. I came in at very low margins and moved the needle quite a bit. I then found a strategic buyer for the company, PolyOne, who's done a great job with it since, so it was the right time and the right place for shareholders there.

I was really looking for something that wasn't a turnaround but something that had a real strong differentiated value proposition and business model where I could really drive growth, and that's what we've got here. It's perfect for me.

ANDY CROSS:

I hope we have some developers out there listening to this because I'm curious, [along with] some of the analysts I was talking to before our call. We talked about Proto Labs' brand and expanding your brand. You talk about your brand in your 10-K. Talk a little bit to me about reaching more developers. How do you think about marketing? Building your brand? You reached 20,000-21,000 developers last year. Like you said, growing at 35%...

VICTORIA HOLT:

That's who we actually did business with.

ANDY CROSS:

Did business with.

VICTORIA HOLT:

That we did business with. We actually have databases of over 300,000, and in terms of ones that have done business with us, it's over 70,000. But last year, alone, we did business with that number of individual developers.

But to answer your question as to what we do — Internet marketing is a very important component. We made a lot of investments, in 2014, in skills and people to drive that program for us around the world. We're a business that's a point-in-time service, and so when you're out there and you're looking for somebody who you can get a part from quickly, we have to be there. So we beefed that up a lot.

The other investment we made that we're in the process of rolling out is in Salesforce.com and Pardot, which are software programs that are going to allow us to be much more targeted in how we go after customers with our drip campaigns and our email campaigns to help them stay abreast of who we are, what we are, and what we can do for them.

The third part is we're implementing what's called a segmentation strategy. We used to think about all of our customers as being the same. Well, they're not the same. Some of our customers use us for prototyping. Others for production. Our customers might be in the medical field. Lighting field. Aerospace. And depending on what ecosystem you're in, you've got different drivers and different languages, and we're now going to be speaking to these customers in their own language and help them really understand how to use us.

So all those elements combined I think are the changes we're beginning to roll out into our marketing that are going to allow us to be a lot more effective in bringing in more leads and bringing in better, high-quality leads that we can more rapidly convert to uploaders and customers.

ANDY CROSS:

Great.

TOM GARDNER:

When we look across the landscape at businesses and capital allocation, we see leaders using very similar tools in different ways. We're still in a low-interest rate environment. With the growth opportunities facing Proto Labs, why not more aggressively reinvest?

In other words, I will put my cards on the table, Vicki. I love the approach that you all are taking, but I'll play the Jeff Bezos, Amazon role that if there's a huge market, let's reinvest every dollar we have and even ratchet up our leverage in a low-interest environment to go after that growth and market share more rapidly, still with a super, long-term perspective.

From the standpoint that we take as investors, we're thinking about owning Proto Labs for a minimum of five years. That's my personal rule in investing — then looking out 10, 15, or 20 years and believing, as Warren Buffett does, that the best investment I can make is the one I never sell because it just keeps compounding and growing.

Where do you draw the line on being super aggressive on capital allocation with an opportunity, while also being stable with companywide integrity in the financial model...

VICTORIA HOLT:

Right...

TOM GARDNER:

...to know that you're going to make it through in any difficult periods?

VICTORIA HOLT:

Well, talking about a couple of areas that we debate and that are on our radar screen that, depending on how we do with experimentation, could bring some different results.

One is in the area of marketing. I talked about [the fact that] we use Internet marketing a lot. We also use some traditional, industrial marketing techniques like e-trade pubs, print-trade pubs, and trade shows. But when you think about how we interface with our customers, (yes, we're a B2B business), but our model is very B2C, because we have to touch individual engineers as they're making decisions on making parts.

So we're going to be experimenting with a few B2C-type marketing tactics — experimenting in a very small way initially — to see if it moves the needle. And if it really does, then those are going to be some other tools that we can use to drive growth faster and that may warrant a shift in some of our spending and sacrifice a little bit of margin in order to do that. We are not going to do it until we know it works because it's somewhat risky, so we've got to make sure that we can reach those engineers through more traditional B2C-type communication mechanisms.

TOM GARDNER:

And test it on your way into it.

VICTORIA HOLT:

Yes, exactly. The other thing that we always look at — and you've watched us over the years — is we are not an acquisitive company, in general, because our model's so unique and we've got to make sure that anything we acquire can fit into our model.

We did make a very successful acquisition with Fineline Additive Manufacturing in April of last year. It exceeded our targets. In eight months, we were successful in integrating that acquisition into the company and we're now focused on continuing to grow it along with Firstcut and Protomold machining and injection molding.

So we will be looking at other possibilities where we could use some capital for M&A activity. It's got to be the right M&A. It's got to fit our strategy and anything we acquire would have to fit into our business model.

TOM GARDNER:

I'm conscious of your time and know that you have a board meeting today. Thank you so much for taking time out of [your] busy day for Fools. What would you identify as the top two or three competitive advantages of Proto Labs?

VICTORIA HOLT:

Well, first and foremost is our people. You talked a little bit about culture. We have a team of people around the world that respect each other. We're focused on achievement, teamwork, and trust. [Those are] our three core values — and we just go out and get it done. So by far, people are our greatest asset.

The second piece is our unique business model. Some of that is patented. We've got 12 patents around some of our software, but a lot of it is trade secret.

So I think it's those two things — our people and this wonderful business model that is differentiated and unique at the right time and the right place.

TOM GARDNER:

The final question from me — and maybe Andy will have a quick one, but I see we have two minutes left — is what is your time horizon? How do you think about the journey that you're on at Proto Labs? You had that long stretch of time at Monsanto. You've had a couple of other stops along the way in your adventure. How do you think about this one?

VICTORIA HOLT:

All I can say is I'm just having so much fun. For me, I've got to take a business from Point A to Point B and Point B is a way out there, so I've got a ways to go. I'm not going anywhere in the near term.

TOM GARDNER:

That's great for us to hear. We're excited about what you all are doing and the impact you're having on creating more opportunity for more creativity more efficiently [and] in many ways around the world. Thank you so much, Vicki, for taking some time with us, and Andy, thanks for spending some time here in the conversation with us, too.

Proto Labs is a two-time investment in the Motley Fool One Everlasting Portfolio, but really first came to The Motley Fool through Supernova and David, my older brother's approach. We're excited to keep following you.

And you know what we're going to do? We're going to invite ourselves over to your company headquarters at some point in the next couple of months. How do you feel about that?

VICTORIA HOLT:

Oh, please do. I'd love it. I'd love to take you over to our Plymouth plant, so that'd be great.

TOM GARDNER:

That's awesome. Thank you very much. Have a great board meeting and we wish you the very best.

VICTORIA HOLT:

Great. Thanks, Tom. Thanks, Andy.

[End]

Andy Cross has no position in any stocks mentioned. Tom Gardner owns shares of Proto Labs. The Motley Fool recommends Proto Labs. The Motley Fool owns shares of Proto Labs. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.