Overview

We are a worldwide leading manufacturer of three-dimensional ("3D") printers and high-performance rapid prototyping ("RP") systems for the office-based RP and direct digital manufacturing ("DDM") markets. Our 3D printers and high-performance RP systems provide users of 3D computer-aided design ("CAD") programs a fast, office-friendly, and low-cost alternative for building functional 3D parts. We develop, manufacture and sell a broad product line of 3D printers and DDM systems (and related proprietary consumable materials) that create physical models from CAD designs. We also offer rapid prototyping and production part manufacturing services through our centers located in North America, Europe and Australia.

For the quarter ended March 31, 2009, we recorded a net loss of approximately $0.7 million, or $0.03 per diluted share, as compared to net income of $3.8 million, or $0.18 per diluted share, for the first quarter of 2008. While current year operating expenses and other income were slightly favorable to the prior year, we experienced a significant drop in revenues and gross profit that stemmed from a world-wide economic slow down.

Our revenues decreased to $23.1 million, a 24.8% decrease from the $30.7 million that we reported in the first quarter of 2008. Gross profit also decreased by $7.8 million, or 44.9%, to $9.6 million as compared $17.4 million in the prior year. These decreases were primarily attributable to lower product sales and margins but were partially offset by favorable results from our service offerings.

Our balance sheet continues to be strong. As of March 31, 2009, our cash and investments balance was approximately $49.4 million, up from $47.7 million at December 31, 2008. We generated approximately $3.0 million of cash flows from operations during the quarter, primarily driven by collections of trade receivables. We also have no debt and believe that we have adequate liquidity to fund our growth strategy for the remainder of 2009.

3D Printers It is our belief that we are successfully implementing our overall marketing strategy by addressing the needs of both the high-performance and 3D printing ends of the market. Over the last three years, we have been the price leaders in the 3D printer market and have followed a strategy of continuing to move down the price elasticity curve as evidenced by our introduction of the uPrint in January 2009. We feel that this strategy is appropriate for the long-term success of our company while at the same time, we recognize the short-term challenges that this presents. We believe our strategy of offering low-priced 3D printing systems combined with higher reliability and increased functionality will serve to increase awareness of our products, which would typically drive higher volume to offset the reduced margins. However, due to the unprecedented world-wide economic challenges that our market is currently facing, we feel that revenues and margins will continue to be under pressure.

Our strategy in the 3D printing market is to continue expanding our position through increased unit sales of our Dimension product line and particularly the uPrint system. Concurrent with the launch of the uPrint in January 2009, we lowered the price of our other Dimension systems and discontinued the production of our SST768 and BST768 models, although we will continue to provide support and service of these discontinued systems going forward. Our current 3D printing line offering now consists of four system types that range in price from $14,900 to $32,900.

We continue to offer a highly successful distributor program that allows resellers to purchase demonstration systems with extended payment terms. While this program negatively impacts our accounts receivable days sales outstanding ("DSO"), it has proven to be an effective tool in promoting and selling our systems. Given the success of the program in the past, we offered a similar program for the launch of the uPrint but with shorter extended payment terms than in prior years. Although this program still had a negative effect on our first quarter DSO, we believe that it remains an integral part of our strategy to expand our share of the market.

We also have opportunities for the Fortus line in DDM applications. DDM involves the manufacture of parts fabricated directly from our systems and are subsequently incorporated into the user's end product or process. DDM is particularly attractive in applications that require short-run or low-volume parts that require rapid turn-around and for which tooling would not be appropriate due to small volumes.

An emerging portion of the DDM market segment is the production of fabrication and assembly tools that aid in the customer's production and assembly process. We believe this fabrication and assembly tool market is substantially larger than the $1.1 billion rapid prototyping market we currently serve. In addition, we have seen a growing number of applications for end-use parts.

Recurring Revenues As our installed base has increased, we expect an increasing amount of revenue from the sales of consumables, maintenance contracts, and other services that represents recurring revenue for us. Despite a history of growth in this area, we have seen this trend flatten out recently as our existing customers have curtailed some discretionary or variable spending in response to the economic slow down.

In January 2009, we launched a new personal 3D printer, the uPrint, at a new lower price point of $14,900. Although this represents a lower selling price and lower margin than our other system offerings, we believe that the launch of this product represents a significant milestone in our strategy of continuing to move down the price elasticity curve. Despite the challenges of our current economic environment, we shipped slightly more units this quarter as compared to the same period in the prior year. Because the uPrint is proving to be a robust and reliable product, we believe it appeals to a broader network of resellers and expanding the distribution channel for this product will be a priority in the coming quarters.

Due to the continued weakness in the world economy, we reevaluated our fixed and variable costs structure in light of current sales expectations. As a result, we took certain cost-saving measures that lowered our fixed costs and curtailed some discretionary spending while maintaining a focus on the key goals and objectives of our long-term strategy. These cost-saving measures resulted in a charge of approximately $779,000, consisting primarily of severance costs related to a reduction in force. We expect these measures will amount to savings of approximately $2.7 million on an annualized basis.

At the end of 2008, we replaced our Fortus direct sales channel in the United States with a select group of existing resellers that more than triples our sales support for these high-end systems. We expect that lower revenues resulting from reseller discounts will be offset by reduced fixed costs that were previously associated with our direct sales force. Although there were many factors that affected our Fortus revenues and gross profits in the first quarter of 2009, we believe that this change to a variable cost structure has been neutral to our operating income.

In 2008, we fulfilled our responsibilities under a three-year, $3.6 million agreement with a Fortune 500 global manufacturing company to jointly advance our proprietary FDM technology for rapid manufacturing applications. This agreement entitled us to receive reimbursement payments as we achieved specific milestones stated in the agreement. This effort was focused around our high-performance systems and resulted in the commercial release of the 900mc. Due to the success of this initial arrangement, we are continuing this relationship and have established a new agreement with similar terms and objectives. During the three months ended March 31, 2009 and March 31, 2008, approximately $515,000 and $280,000, respectively, of research and development expenses were offset by payments that were received from this company.

Our current and future growth is largely dependent upon our ability to penetrate new markets and develop and market new rapid prototyping and manufacturing systems, materials, applications, and services that meet the needs of our current and prospective customers. Our expense levels are based in part on our expectations of future revenues. While we have adjusted, and will continue to adjust, our expense levels based on both actual and anticipated revenues, fluctuations in revenues in a particular period could adversely impact our operating results. Our ability to implement our strategy for 2009 is subject to numerous uncertainties and risks, many of which are described in this Management's Discussion and Analysis of Financial Condition and Results of Operations, in the section below captioned "Forward Looking Statements and Factors That May Affect Future Results of Operations," and in Item 1A, "Risk Factors," of our Annual Report on Form 10-K for 2008. We cannot ensure that our efforts will be successful.

Results of Operations
(unaudited)

   The following table sets forth certain consolidated statements of operations
data as a percentage of net sales for the periods indicated. All items are
included in or derived from our consolidated interim statements of operations.

Three Month Periods Ended March 31,

                                         2009            2008
Net sales                                100.0 %          100.0 %
Cost of sales                             58.6 %           43.5 %
Gross profit                              41.4 %           56.5 %
Research and development                   8.1 %            7.1 %
Selling, general, and administrative      40.2 %           31.5 %
Operating income (loss)                   (6.9 %)          17.9 %
Other income (expense)                     0.1 %            1.0 %
Income before income taxes                (4.6 %)          18.9 %
Income taxes                               1.8 %            6.5 %
Net income                                (2.8 %)          12.4 %

Net Sales

   Our revenues decreased to $23.1 million, a 24.6% decrease from the $30.7
million that we reported in the first quarter of 2008. The following is a
breakdown of our revenues by products and services:

Three Month Periods Ended March 31,

(In Thousands)          Three Months              Period-over-
                    2009            2008         period change
Products         $    16,952     $    25,108           -32.5 %
Services               6,193           5,600            10.6 %
                 $    23,145     $    30,708           -24.6 %

Revenues derived from products decreased 32.5% in the quarter ended March 31, 2009, as compared with the quarter ended March 31, 2008. The number of units that we shipped in the quarter increased by approximately 2.4%, or 14 units, to 591 as compared with 577 units shipped in the first quarter of 2008. The increase in units compared to the 2008 period was principally attributable to the worldwide launch of our newest 3D printing system, the uPrint, in the first quarter of 2009. Because of the new lower price point for the uPrint, revenue for the quarter was significantly lower than the comparable period in 2008 despite a similar level of unit sales. Although 3D printer unit volume was up due to the launch of the uPrint, we saw a significant drop in unit sales of our Fortus 3D Production Systems as the worldwide economic slow down constrained the capital budgets of our current and prospective customers.

Revenues from our service offerings for the quarter increased $0.6 million, or 10.7%, to $6.2 million as compared to $5.6 million in 2008. This growth in service revenues over the prior-year period was mainly from higher maintenance revenue that resulted from our steadily growing installed system base.

International sales declined from 49% of total revenues for the three month period ended March 31, 2008 to 39% of total revenues for the same period in the current year. The international decrease was led by lower system volumes in both the high-performance systems as well as the 3D Printers.

Gross Profit

   Gross profit decreased by $7.8 million, or 44.8%, to $9.6 million as compared
with $17.4 million in the prior year. This decrease was primarily attributable
to lower product sales and margins but was partially offset by favorable results
from our service offerings. Gross profit and gross profit as a percentage of
sales for our products and services, as well as the percentage changes in gross
profit, were as follows:

(In Thousands)                                      Three Months              Period-over-
                                               2009             2008         period change
Products                                    $     6,265     $     14,365           -56.4 %
Services                                          3,307          2,999              10.3 %
Total                                       $     9,572     $     17,364           -44.9 %

Gross Profit as a Percentage of Sales
Products                                         37.0 %           57.2 %
Services                                         53.4 %           53.6 %
Total                                            41.4 %           56.5 %

Product gross profit decreased by 56.4%, to $6.3 million for the first quarter of 2009, when compared to $14.4 million for the same period in the prior year as lower system revenues covered less of our fixed manufacturing overhead costs. The decrease in product gross profit was also attributable to the launch of our new uPrint system, which has a lower direct margin than our other systems. As production volumes increase for the uPrint, we expect to reduce material costs for this system up to 15% by the end of 2009.

Gross profit from services increased to $3.3 million for the quarter from $3.0 million in 2008. This growth over the prior year was mainly from a higher number of systems covered under maintenance contracts resulting from our growing installed system base.

Operating Expenses

   Operating expenses and operating expense as a percentage of sales, as well as
the percentage changes in operating expenses were as follows:

Three Month Periods Ended March 31,

(In Thousands)                               Three Months              Period-over-
                                         2009            2008         period change
Research & development                $     1,872     $     2,169           -13.7 %
Selling, general & administrative           9,308           9,691            -4.0 %
                                      $    11,180     $    11,860            -5.7 %

In 2008, we fulfilled our responsibilities under a three-year, $3.6 million agreement with a Fortune 500 global manufacturing company to jointly advance our proprietary FDM technology for rapid manufacturing applications. This agreement entitled us to receive reimbursement payments as we achieved specific milestones stated in the agreement. This effort was focused around our high-performance systems and resulted in the commercial release of the Fortus 900mc. Due to the success of this initial arrangement, we are continuing this relationship and have established a new agreement with similar terms and objectives. During the three months ended March 31, 2009 and March 31, 2008, approximately $515,000 and $280,000, respectively, of research and development expenses were offset by payments that were received from this company.

Selling, general and administrative expenses decreased $0.4 million, or 4.0%, for the three months ended March 31, 2009 compared to the same year-ago period. This decrease resulted from the reduction in our direct sales force in January of 2009, which converted some of our selling expenses to a variable cost structure, and also from a continued effort to lower discretionary spending. In addition, we took certain cost-saving measures in the first quarter of 2009 that lowered our fixed costs and curtailed some discretionary spending while maintaining a focus on the key goals and objectives of our long-term strategy. These cost-saving measures resulted in a charge of approximately $779,000, consisting primarily of severance costs related to a reduction in force.

Operating Income (Loss)

   Operating income (loss) and operating income (loss) as a percentage of sales,
as well as the percentage changes in operating income (loss), were as follows:

Three Month Periods Ended March 31,

(In Thousands)                       Three Months               Period-over-
                                2009              2008         period change
Operating income (loss)     $    (1,608 )     $    5,504             -129.2 %

Percentage of sales                -6.9 %           17.9 %

We recorded a $1.6 million operating loss for the three months ended March 31, 2009, as compared to $5.5 million in operating income for the same period in the prior year. This decrease was primarily due to reduced revenues from a weak world economy and a product mix shift towards lower margin 3D printing systems.

Other Income (Expense)

   Other income (expense) as a percentage of sales and changes in other income
(expense) were as follows:

Three Month Periods Ended March 31,

(In Thousands)                                         Three Months             Period-over-
                                                   2009           2008         period change
Interest income                                 $    286       $     601             -52.4 %
Foreign currency transaction gains (losses)          237             (28 )           946.4 %
Other                                                 14            (276 )           105.1 %
                                                $    537       $     297              80.8 %

Percentage of sales                                  2.3 %           1.0 %

Income Taxes (Benefit)

   Income taxes and income taxes as a percentage of net income before income
taxes, as well as the percentage changes, were as follows:

Three Month Periods Ended March 31,

(In Thousands)                     Three Months              Period-over-
                               2009             2008        period change
Income taxes (benefit)     $    (367 )     $    2,003             -118.3 %

Effective tax rate              34.3 %           34.5 %

An income tax benefit was recorded for the three months ended March 31, 2009 as a result of a net loss before income taxes. The effective tax rate in the first quarter of 2009 is in a similar range as the prior year.

Net Income (Loss)

   Net income (loss) and net income (loss) as a percent of sales, as well as the
percentage changes in net income (loss), were as follows:

Three and Month Periods Ended March 31,

(In Thousands)                 Three Months                Period-over-
                            2009            2008         period change
Net income (loss)       $    (704 )     $    3,799               -118.5 %

Percentage of sales          -3.0 %           12.4 %

Net income in the current period decreased significantly from the three months ended March 31, 2008 primarily from lower revenues resulting from a world-wide economic slowdown and other reasons stated elsewhere in this section.

Liquidity and Capital Resources
(unaudited)

   A summary of our consolidated interim statements of cash flows for the three
months ended March 31, 2009 and 2008 are as follows:

(In Thousands)
                                                          2009              2008
Net income (loss)                                    $      (704 )     $     3,799
Depreciation and amortization                              2,205             1,605
Gain on sale of equipment                                      -               (99 )
Loss on impairment of investment                               -               390
Stock-based compensation                                     487               315
Changes in operating assets and liabilities                1,025            (7,807 )
Net cash provided by (used in) operating activities        3,013            (1,797 )

Net cash provided by (used in) investing activities         (179 )          12,468
Net cash provided by (used in) financing activities            2            (3,893 )
Effect of exchange rate changes on cash                     (117 )             397
Net increase in cash and cash equivalents                  2,719             7,175
Cash and cash equivalents, beginning of period            27,946            16,212
Cash and cash equivalents, end of period             $    30,665       $    23,387

Our cash, cash equivalents and investment balance increased by $1.7 million to $49.4 million at March 31, 2009, from $47.7 million at December 31, 2008. The $1.7 million increase is primarily due to $3.0 million of cash flows from operations offset by $1.2 million spent for acquisitions of property and equipment and intangible assets as well as a reduction of $0.1 million related to exchange rates.

In the three months ended March 31, 2009, net cash provided by our operating activities was $3.0 million compared to cash used by operations of $1.8 million during the comparable 2008 period. The favorable change in cash flow as compared to the first quarter of 2008 was mainly due to the prior year's increases in inventory and accounts receivable to support new product launches, particularly the 900mc and the 1200es systems.

Our net accounts receivable balance decreased to $23.7 million at March 31, 2009 from $26.5 million as of December 31, 2008. This decrease was principally due to increased collection efforts coupled with lower year-over-year sales. We believe that adequate allowances have been established for any collectibility issues in our accounts receivable balance.

At March 31, 2009, our inventory balance increased slightly to $20.2 million compared with approximately $19.9 million at December 31, 2008. We were not able to reduce our inventory balance in this lower revenue environment principally because of a more robust sales forecast relative to realized sales in the first quarter. However, we remain confident that we will be able to reduce our inventory balance by the end of 2009.

Our investing activities used cash of approximately $0.2 million. During the first quarter of 2009, as investments matured, we reinvested the proceeds into a United States Treasury money market investment that is recorded as a cash equivalent. We received cash of approximate $1.1 million from the sale of investments and used cash for fixed asset additions of approximately $0.7 million. Net cash used for payments for intangible assets and other investments included patents and capitalized software was $0.5 million. Much of the capital expenditure in 2009 has been for equipment required by the growing components of our business, including manufacturing fixtures for new products, consumable manufacturing, Paid Parts, and for improvements to our facilities as we renovate portions of our buildings to increase operating efficiency.

We had a very small amount of cash flows from financing activities and experienced a reduction in cash balances of $0.1 million related to foreign currency exchange rate fluctuations.

º for the acquisition of equipment, including production equipment, tooling, and computers;
º for the purchase or development of intangible assets, including patents;
º for the continuation of our leasing program;
º for working capital purposes;
º for increased selling and marketing activities, especially as they relate to the continued market and channel development;
º for new product and materials development;
º for sustaining engineering;
º for information systems ("I/S") and infrastructure enhancements;
º for improvements to our facilities;
º for acquisitions and/or strategic alliances; and
º for our common stock buyback program

While we believe that the primary source of liquidity during the remainder of 2009 will be derived from cash flows from operations and current cash balances, we have maintained a line of credit for the lesser of $4.0 million or a defined borrowing base.

As of March 31, 2009, we had gross accounts receivable of $24.8 million less . . .