"The market can stay irrational longer than you can stay solvent" - John Maynard Keynes
Yesterday 3D printing stocks fell sharply in response to 3D Systems cutting its profit estimates for 2013, causing its own share price to fall as much as 28%. Fears of a bubble in the whole industry continue.
Value investor Whitney Tilson has openly stated that he is short 3D Systems here as he thinks the company is extremely overvalued and will end badly for investors. He gives the following reason as to why the stock currently valued at $6bn is really worth a tenth of that.
- Trades x17 revenues
- x64 trailing EBITDA
- x63 next years earnings
- Slim gross margins 50% and net margins 15% (historically successful large companies with such P/S ratios have had 70-90% gross margins and 20-30% net margins)
He believes the company should be valued x2 revenues, a 90% drop from current prices. Shorting shares is a tricky game and can be akin to standing in front of a runaway train with these high momentum stocks. Part of the game of course is to go public with your short thesis, to plant the seed in investors minds that the stock is overvalued and encourage Mr Market to correct his mistake.
3D Systems was up 270% in 2012 and 161% in 2013 although this year may be the beginning of a correction. It looks like the 200-day moving average is the 'battle ground'.
Arcam AB is a Swedish based company that uses 3D printing technology to manufacture metals parts for the aerospace and implant industry here, here and here. The share price is up 365% in just the past year and unbelievably 2277% the past three years. That's a x22 bagger!
Below we can see Arcam's revenue and earnings the past 5 years, which have been constantly growing. The market cap is around 4.8bn SEK ($735m) and is currently trading at x22 revenues, x225 trailing earnings and with EV/EBITDA 164!
If we apply Tilson's x2 revenues valuation then Arcam also has a long way to fall. It should be noted that Arcam is significantly smaller than 3D Systems and could probably justify a higher P/S than 2.
The market is pricing in a lot of growth the coming years which investors are paying for today. To help understand how much growth is required to justify the current stack price we can do a 'discounted cash flow' analysis using a few assumptions (See Aswath Damodaran's blog for more details).
Firstly revenues for the next 10 years have been calculated. We start with current rolling figure of 195.1 MSEK and grow them at 50% for the next 3 years and then gradually slow this growth towards 3% in the preceding 7 years as the company grows bigger and bigger reaching a steady state. The companies after tax operating earnings are then calculated using current operating margins of 12% and a tax rate of 22%.
For the company to be able to grow revenues a certain level of reinvestment, such as R&D, will be required. Every 1 SEK increase in sales has been calculated to require 0.5 SEK in reinvestment. Deducting this from after tax earnings gives us a 'free cash flow to the firm'.
At year 10 we can assume the company has fully matured and will grow at a steady state of 2.5% into the future, from this we can calculate a terminal value, in this case 3,867 MSEK. This value and the cash flows are discounted to a present value using an estimated cost of capital. This starts at a high 12% to reflect the associated risks of a small growth company and gradually reduces to 7.5% as the company grows and becomes less risky.
A total firm value of 2043 MESK is obtained to which current cash is added and debt removed to give a current value of equity of 2136 MSEK. Dividing by the current number of shares gives a share price of 127.6 SEK, 56% less current levels.
Rather than viewing this as a definitive value of Arcam it gives an idea of what expectations are baked into the current price. The market pricing in higher free cash flow generation either through greater/faster revenue growth and/or higher margins. If Arcam fails to meet these expectations in the coming months and years then a big correction in stock price is likely to occur. Remember the above calauation assumes 50% revenue growth for the next three years, a level Arcam has not yet been able to achieve.
On a final note Arcam's share price finished today up 5.4% with 2013's report due for release tomorrow. Be on the lookout for any changes in profit guidance. As is always the case with high growth companies disappointments are likely to come at some point.
3D Systems was up 270% in 2012 and 161% in 2013 although this year may be the beginning of a correction. It looks like the 200-day moving average is the 'battle ground'.
Arcam AB is a Swedish based company that uses 3D printing technology to manufacture metals parts for the aerospace and implant industry here, here and here. The share price is up 365% in just the past year and unbelievably 2277% the past three years. That's a x22 bagger!
Below we can see Arcam's revenue and earnings the past 5 years, which have been constantly growing. The market cap is around 4.8bn SEK ($735m) and is currently trading at x22 revenues, x225 trailing earnings and with EV/EBITDA 164!
If we apply Tilson's x2 revenues valuation then Arcam also has a long way to fall. It should be noted that Arcam is significantly smaller than 3D Systems and could probably justify a higher P/S than 2.
The market is pricing in a lot of growth the coming years which investors are paying for today. To help understand how much growth is required to justify the current stack price we can do a 'discounted cash flow' analysis using a few assumptions (See Aswath Damodaran's blog for more details).
Firstly revenues for the next 10 years have been calculated. We start with current rolling figure of 195.1 MSEK and grow them at 50% for the next 3 years and then gradually slow this growth towards 3% in the preceding 7 years as the company grows bigger and bigger reaching a steady state. The companies after tax operating earnings are then calculated using current operating margins of 12% and a tax rate of 22%.
For the company to be able to grow revenues a certain level of reinvestment, such as R&D, will be required. Every 1 SEK increase in sales has been calculated to require 0.5 SEK in reinvestment. Deducting this from after tax earnings gives us a 'free cash flow to the firm'.
At year 10 we can assume the company has fully matured and will grow at a steady state of 2.5% into the future, from this we can calculate a terminal value, in this case 3,867 MSEK. This value and the cash flows are discounted to a present value using an estimated cost of capital. This starts at a high 12% to reflect the associated risks of a small growth company and gradually reduces to 7.5% as the company grows and becomes less risky.
A total firm value of 2043 MESK is obtained to which current cash is added and debt removed to give a current value of equity of 2136 MSEK. Dividing by the current number of shares gives a share price of 127.6 SEK, 56% less current levels.
Rather than viewing this as a definitive value of Arcam it gives an idea of what expectations are baked into the current price. The market pricing in higher free cash flow generation either through greater/faster revenue growth and/or higher margins. If Arcam fails to meet these expectations in the coming months and years then a big correction in stock price is likely to occur. Remember the above calauation assumes 50% revenue growth for the next three years, a level Arcam has not yet been able to achieve.
On a final note Arcam's share price finished today up 5.4% with 2013's report due for release tomorrow. Be on the lookout for any changes in profit guidance. As is always the case with high growth companies disappointments are likely to come at some point.
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