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After the Sell-Off, 3D Systems Wins an Upgrade

Rich Smith, The Motley Fool

Every day, Wall Street analysts upgrade some stocks, downgrade others, and "initiate coverage" on a few more. But do these analysts even know what they're talking about? Today, we're taking one high-profile Wall Street pick and putting it under the microscope...

This has not been a happy week to own stock in 3D Systems (NYSE: DDD).

On Wednesday, shares of the 3D printer maker plunged 23% in response to an 8% decline in Q1 earnings and a big $0.22-per-share quarterly loss -- a major disappointment after the company's strong sales growth in 2018.

Clearly, investors were not pleased with the results, but there's good news, too: According to one analyst, at least, the worst may be over for 3D Systems stock -- and so JPMorgan is upgrading it.

Five dice labeled buy and sell on top of an LCD screen displaying stock charts and numbers

Image source: Getty Images.

JPMorgan's upgrade

Not upgrading it all the way to buy, mind you. Even JPMorgan admits that 3D's numbers last quarter looked rather "lackluster," as noted in a report on TheFly.com today. What's more, the investment banker worries that 3D Systems' Q2 results could look similarly unattractive when compared to the company's recent strong performance in 2018, because it is shifting its product mix, selling more cheaper printers and fewer higher-margin devices and materials (i.e., printer "ink").

That being said, given the magnitude of the stock price decline we've seen this week, and indeed, over the past year -- 3D Systems is down 33% over the past 52 weeks, underperforming the S&P 500 by nearly 40 percentage points -- JPMorgan notes that it is now more reasonably priced than it once was. As 3D shares approach the analyst's $8 target price, JPMorgan believes it's time to shift from underweight to neutral.

3D Systems by the numbers

Do 3D's Q1 earnings results bear that out? Let's consider:

In Q1, 3D Systems reported an 8% decline in sales and a widened GAAP loss, losing about 16% more money in Q1 2019 than it did in Q1 2018. The company actually nearly doubled the number of units of 3D printers it sold in the quarter (up 90%), but because it sold primarily lower-priced models, its revenue from printer sales (i.e., hardware) declined 29% year over year.

Furthermore, revenue from the printing of 3D objects for the healthcare industry fell 5%, software sales dropped 8%, and materials revenue declined 3%. On-demand printing services sales aside from healthcare sank 12%. And overall gross margin earned on all of these revenues contracted by 370 basis points to 43.2%.

So yeah, it was kind of a bad quarter.

Management gives little guidance

Adding to investors' misery, 3D Systems management is not in the habit of giving specific guidance -- so even if things are likely to get better later in the year, management won't tell you that. As it turned out, all CEO Vyomesh Joshi would say was that, yes, "the first quarter was lower than anticipated," and this was because of "shipment timing and additional on demand weakness."

And while the "timing" bit suggests that perhaps orders expected to be received in Q1 were delayed and might appear in Q2 instead, 3D didn't come out and say that. To the contrary, Joshi proceeded to assure investors that the company is "taking actions to improve performance for the balance of the year, including accelerating cost reductions" -- which kind of suggests that "timing" was not really the big problem in Q1, and "timing" won't fix its problems in Q2, either.

Instead, it's the whole business that needs fixing.

The upshot for investors

So where does this leave us? 3D Systems currently has a market cap just a bit under $1 billion. Cash and debt levels are roughly balanced, leaving the company's enterprise value at about $944 million. Profit is nonexistent -- 3D hasn't earned a full-year GAAP profit in more than four years, according to S&P Global Market Intelligence data. It hasn't generated positive free cash flow since 2016, and as of this last quarter, even operating cash flow turned negative.

Now, contrast this with the situation at 3D rival Stratasys, which has a similar enterprise value, generated positive free cash flow for three years running, and is even starting to grow its earnings again. In that context, I have to say that I disagree with JPMorgan's decision to upgrade 3D Systems shares today.

Until management offers a clear explanation of how it plans to staunch the bleeding, I'd stay away from this stock.

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Rich Smith has no position in any of the stocks mentioned. The Motley Fool recommends 3D Systems and Stratasys. The Motley Fool has a disclosure policy.