DDD - 3D Systems Needs To Do Better

2023-11-30 12:05:08 ET

Summary

• 3D Systems have faced over a decade of revenue declines and margin compression in the 3D printing industry.
• The company's financial metrics continue to deteriorate, with lower revenues and gross margins.
• CEO Jeffrey Graves is focusing on restructuring and innovation to drive a successful turnaround, but execution and product commercialization risks remain.

Once a manufacturing pioneer and Wall Street darling, 3D Systems Corporation ( DDD ) has faced over a decade of revenue declines and margin compression as competitive dynamics intensify in the 3D printing industry. Can CEO Jeffrey Graves orchestrate a successful multi-year revitalization?

We remain skeptical given deteriorating financial metrics, unproven management execution, and product introduction risks. However, with the stock trading at just 1.4x EV/Revenue and a reasonable balance sheet, speculative investors could be enticed by turnaround potential in a secular growth industry.

Company Overview & Background

Founded in 1986 and headquartered in South Carolina, 3D Systems manufactures 3D printers, print materials, software and offers additive manufacturing solutions. One of the pioneering companies that developed and commercialized 3D printing technology, 3D Systems possesses an extensive patent portfolio covering key aspects of additive manufacturing. The company operates through two business segments - Healthcare Solutions and Industrial Solutions.

Historical Performance

3D Systems was an early disruptor that capitalized on emergent 3D technology and delivered exponential share price returns in the 2010s. However, performance began faltering in 2014 amidst rapidly rising competitive dynamics. As the industry matured and IP hurdles lowered, thousands of companies entered the additive manufacturing market, eroding first-mover advantages. Today, the 3D printing space is hugely fragmented with thousands of players all competing for market share.

Financial Analysis & Operating Trends

The 3D printing industry in theory should be hugely attractive to investors. According to company management, the market should grow at a 21% CAGR over the next 5-7 years expanding to a total addressable market of $80 billion.

But despite secular tailwinds, 3D Systems continues to markedly underperform. Revenues of $506 million over the last 12 months are, incredibly, lower than they were 10 years ago. Printer demand has softened and the product service mix of the company is relatively unchanged. More concerning, gross margins have contracted from 52% to just 41% over that period as pricing power has evaporated. Operating and net margins turned negative and remain so, with the business burning through cash.

Tepid results have been broad-based across geographies and segments. In industrial solutions, high operating leverage printers have faced particular weakness. In healthcare, dental aligner sales have sharply reversed from initial customer Align Technology with sales down -38% in the latest quarter. While struggling financially, cash reserves still provide management with a multi-year buffer to engineer a turnaround.

Restructuring Efforts & Growth Strategy

CEO Jeffrey Graves, hired in 2021, has focused predominantly on restructuring to cut costs and drive the integration of several acquisitions made to bolster technological capabilities and distribution channels. The effectiveness of consolidation efforts in the still fragmented competitive landscape remains uncertain. Product portfolio gaps leave the company's end-to-end systems lagging peers. Realizing substantive cost and revenue synergies from deals has been a historical struggle.

Moreover, management is targeting an ambitious slate of proprietary innovations, including bio-printed human organs, to reinvigorate top line growth over the next 3 years. But moving from conceptual research projects to commercial viability and scaled production involves substantial complexity risk. Past product launches have seen lackluster adoption.

Valuation

Due to ongoing negative profitability, conventional earnings-based valuation techniques do not apply. On an EV/Revenue basis, the current multiple of 1.4x represents a sizable discount to historic norms above 3x revenues. While perhaps cheap optically, the discount rightly factors in competitive threats and execution risk which could further compress multiples or attenuate revenue durability.

Stratasys Bid

Attempting to gain scale and synergies, 3D Systems tendered an all-stock offer in September 2023 to acquire industry peer Stratasys Ltd. (SSYS) in a merger of two 3D printing pioneers. The deal would have combined two key players to create an entity 50% larger in revenue than Desktop Metal and Stratasys' previously terminated merger. However, the Stratasys board voted to reject the unsolicited bid, stating that the proposal significantly undervalued their financial prospects and technological leadership in polymer 3D printing. They also cited concerns about successful integration given that 3D Systems' management team has repeatedly missed financial targets operationally.

The rejection comments from the Stratasys board really speak volumes for investors of 3D Systems. Stratasys pointed to the long-term risk of 3D Systems losing their largest customer Align Technology as the dynamics in dental aligners shift. They also criticized 3D Systems management for allegedly inflating potential synergies and suggested they'd done a poor job of cost control. These comments succinctly encapsulate the struggles that plague 3D Systems.

Investment Recommendation

We maintain an Underperform rating on prolonged underperformance, unproven management execution, and product commercialization risks. The company's promising secular drivers in additive manufacturing are likely better accessed through other sector players with stronger operational consistency, competitive moats, and financial profiles. Speculative investors drawn to substantial upside potential in a successful turnaround could be rewarded, but there is little evidence of that possibility in our view.

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