Why 3D Systems Is Not A Good Buy Right Now

Nov.15.13 | About: 3D Systems (DDD)

Shares of 3D Systems (NYSE:DDD) have appreciated nearly 23% in the month of November as investors have bid up the stock hoping that International Business Machines (NYSE:IBM) will acquire it. Currently, the stock is trading at around $78, but since I think that the chances of IBM acquiring 3D Systems are really low, I believe 3D Systems' stock price will come down once these rumors fade away. Therefore, I think investors should stay away from 3D Systems for now and refrain from buying shares at these levels.

Why IBM's acquisition of 3D Systems is highly unlikely

Even though IBM has struggled to increase profits and revenue, the company has been aggressively buying back shares, which has consequently driven up its stock price and earnings per share. This strategy has overshadowed IBM's dismal quarterly performance and has pleased investors. IBM has also been focusing on growth through acquisitions, but acquiring 3D Systems may be too far-fetched. Let's take a look why.

$90 per share is too cheap

3D Systems has a sturdy business structure with strong growth prospects. According to Credit Suisse, the 3D printing industry is estimated to grow at a CAGR of 20% and will be worth $12 billion by 2020, and rumors suggest that IBM is interested in buying 3D Systems for a "premium" at $90 per share. But, given that 3D Systems is the leader in an industry which is projected to quadruple in the next few years, I think $90 per share is too cheap and 3D Systems management would look for a higher bid. However, as we would see later in the article, IBM might find it difficult to pay even $90 per share for 3D Systems due to its cash flow problem, putting an end to the hopes of any such deal and triggering a fall in 3D Systems' share price.

3D Systems has strong prospects and it expects to generate nearly $500 million in revenue this year. While sales in the industrial sector will account for most of its revenue, the company has also been strengthening its consumer business. 3D Systems already had Cube and CubeX printers in its armory, but last week, it also launched Sense 3D scanner, which could mark a major breakthrough for the company. At a mere price of $399, Sense offers a complete integrated 3D scanner and software, and is $1,000 cheaper than Stratasys' Digitizer. In addition to that, 3D Systems has also enhanced its seller network by striking up a deal with Seiko-I Infotech, Synnex Corporation and Sindho Ink. These tie-ups are expected to drive sales of 3D Systems' printers going forward.

Moving on to the industrial sector, 3D Systems has a long list of customers that will drive its margins in the future. Out of all the customers, General Electric (NYSE:GE) interests me the most. Last year, when General Electric announced the acquisition of Morris Technology, it was widely assumed that the company would jump into the additive manufacturing industry, posing a threat to the existing companies. However, when GE announced that 3D printing will account for nearly 50% of its manufacturing, it became a growth driver for the 3D printing business.

Presently, less than 10% of General Electric's manufactured products use 3D printing. With annual sales of roughly $150 billion, half of GE's industrial output would be an enormous growth driver for the 3D printing companies and given that GE is already a customer of 3D Systems, it may benefit the most from this opportunity. Therefore, I don't think that IBM will be able to acquire 3D Systems at $90 per share.

IBM's cash flow problem

Assuming that IBM is able to acquire 3D Systems for a price of $90 per share, it will still need to shell out nearly $9.25 billion. According to Yahoo! Finance, IBM has $10.27 billion in cash and has a debt of well over $10 billion, and if this deal goes through, the company will only be left with $1 billion in cash. And given the fact that IBM's board has authorized yet another share buyback worth $15 billion, it is evident that the company will not be left with enough cash to take over 3D Systems after this. Therefore, I think that these rumors of IBM acquiring 3D Systems will not materialize.

Conclusion

The PEG ratio of 3D Systems is over 3, which indicates that the market is putting a pretty high valuation on it. So, according to these figures, the stock of 3D Systems is overpriced. A lot of this overpricing is a result of rumors of an acquisition by IBM. But as we saw above, 3D Systems' acquisition by IBM is not plausible and when the rumors die down, 3D Systems might come crashing down, which is why investors should stay away from it, for now.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.