Earnings Preview: 3D Systems

Feb.27.14 | About: 3D Systems (DDD)

3D printing stalwart 3D Systems (NYSE:DDD) is set to report its next quarterly report on Feb. 27. Let's take a look at what is expected of the company and whether it is a buy going into earnings, or even after that.

Earnings expectations

Analysts expect 3D Systems to bring in revenue of $155 million for the quarter ending December. This would be an impressive jump of 52.60% over last year's quarter, establishing the fact that the company plies its trade in a rapidly growing industry. However, not everything is hunky dory for 3D Systems. The company's earnings are expected to decline to $0.20 per share from $0.26 in the year-ago period. This is in contrast to additive manufacturing rival Stratasys (NASDAQ:SSYS), whose earnings are expected to increase to $0.49 a share from $0.40 in the prior-year period.

3D Systems should be able to meet its forecast, as the company had recently readjusted its expectations for fiscal 2013, and the current outlook is at the low end of its guidance. Moreover, as far as the outlook going forward is concerned, investors shouldn't expect fireworks from the company since it had reduced its forecast for fiscal 2014 below expectations. 3D Systems' 2014 forecast missed analysts estimates by a mile, with the company expecting earnings of $0.73 to $0.85 a share, while analysts were looking for $1.27 per share.

Comparatively, 3D Systems' revenue forecast was quite strong. The company forecasts revenue in the range of $680 million-$720 million, ahead of the analyst forecast of $671.3 million. This essentially means that 3D Systems is expecting weak earnings growth this year, which is what investors would have ideally wanted to see from a high growth company such as 3D Systems, especially after it acquired a staggering number of companies.

Looking beyond earnings

3D Systems has acquired more than 40 companies in the past three years, but now its earnings are expected to take a hit as it invests in research, manufacturing and marketing. Thus, essentially, 3D Systems' acquisitions haven't proven accretive to earnings, and since earnings are expected to decline on a year over year basis in 2014, it doesn't look like an enticing investment.

If you compared it to a peer such as Stratasys, 3D Systems looks like a weak investment. Stratasys' earnings are expected to increase to $2.24 per share this fiscal year from $1.83 a share in 2013. Hence, Stratasys is following the right path to growth while 3D Systems seems to have shot itself in the foot by acquiring a horde of companies and now spending on research and development.

Moreover, 3D Systems is highly overvalued, especially considering the industry's prospects. The stock trades at a trailing P/E of 165, and even on a forward P/E basis, it is expensive at 96 times earnings. Comparatively, Stratasys is cheaper at 57 times forward earnings, and its PEG ratio of 3.23 is lower than 3D Systems' 4.61.

These valuation levels of 3D Systems are very, very high since the industry itself is expected to grow to $6 billion by 2017, and $10.8 billion by 2021, according to Terry Wohlers, president of Wohlers Associates. According to Forbes, Wohlers Associates is a research firm that exclusively focuses on 3D printing, so the report can be counted upon for its data.

Great, but highly-optimistic expectations

What's most fascinating is the fact that 3D Systems is bigger than the industry itself. The company's market capitalization of almost $8 billion eclipses the expected size of the market going forward. This seems absurd as 3D Systems is not a monopoly player in the 3-D printing industry. The company has a number of rivals popping up, with the likes of Stratasys, Voxeljet (NYSE:VJET), ExOne (NASDAQ:XONE), and other prospective players such as Hewlett-Packard (NYSE:HPQ) entering the market.

The 3-D printing market is not a winner-take-all industry and it's safe to assume that each 3-D printing company will command at least some portion of the market. Thus, assuming that 3D Systems commands a market share of 25% (which is very optimistic given the amount of competition) by 2021, it will still have a P/S ratio of over 2 in 2021. Therefore, it's evident that 3D Systems is absurdly overvalued.

The earnings report should not bring in any new surprises as the company had recently updated its forecast. 3D Systems' earnings and revenue should fall in the company's guidance range, but that doesn't mean it is a good investment.

Spending lavishly on M&A instead of R&D might backfire. Most researches show that M&A have a success rate of about 50%. Statistically, this means that half of 3D Systems' acquisitions have a chance of failing, which obviously will have a severe negative impact of 3D Systems' earnings going forward.

Bottom line

Currently, 3D Systems is being driven by momentum, and the smallest bit of negative news can send the stock tumbling. In addition, 11 main industry patents are set to expire in 2014. This will not only open the gates for entry of new rivals, but will also pave the way for a price war. So, investors should ignore the hype and stay away from 3D Systems.

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.