How a 149% Increase in 3D Systems Corporation Stock Had Almost Nothing to Do With Its Business

Shares of 3D Systems (NYSE: DDD  ) are up an astounding 149% over the past year compared to a 27% return for the S&P 500. So just what exactly caused this incredible rally? I'll give you a hint: It wasn't related to 3D System's business results. Before diving into the exact cause of the rally, it's of the utmost importance for investors to understand the two factors that cause stock prices to go up or down in the crazy fun place we call the stock market.


Fun house: Source WikiCommons--Andrew Dunn

Mr. Market's fun house
The day to day movement in stock prices can be chocked up to a multitude of factors, but movement over the short to long term really boils down to two factors -- the company's operating performance, and what the stock market thinks about that performance.

When it comes to how the company is performing in its operations, the most popular measures are earnings, sales, and cash flow. These operating results should be looked at on a per-share basis because investors don't own the whole business and need to make sure they're not being diluted. A company can do amazingly well but investors won't get to participate in that success if the company continually issues shares, thereby diluting value for shareholders.

The second factor, and the most often ignored by investors, is how the market feels about the company's operating results. Mr. Market expresses his opinion of a company's current and future results in the form of multiples. The most popular multiples are price to earnings, price to sales, and price to free cash flow. These multiples can change quickly with Mr. Market's manic mood swings, and in the short term have the largest influence on a stock's price. Here's a illustration of how this works in the market.

As you can see the stock price is equally dependent on both the company's past performance and how the market feels it's going to do in the future. In 3D Systems' case it works out like this: $87.80 = 188.74 x $0.46. Which means that the price of 3D Systems' stock ($87.80) is equal to its price to earnings multiple (188.74) times its earnings per share ($0.46).

Now lets do an example of what would happen if the stock market changed its mind and assigned a price to earnings multiple of 50 to the company's stock, the price would be:  $23.00 = 50 x $0.46. As investors can see, the market's "feelings" can impact a stock's price far more quickly than a change in the company's operating performance. This is because it's far easier for a multiple to move by a large amount than a company's operating performance. 

Now lets see which of these two factors influenced 3D Systems' stock price the most over the past year. 

How 3D Systems' business did in 2013
3D Systems was a very busy corporation this year and continued its aggressive acquisition spree of the following companies:

  • Xerox Solid Inks
  • Village Plastics
  • The Sugar Lab
  • CRDM Ltd.
  • VisPower Technology
  • Phenix Systems
  • RPDG
  • Geomagic
  • Co-Web SARL

The company also released a plethora of new products, ranging from huge industrial printers to entry-level scanners. All of this led to a 4% decrease in earnings per share, an 11% increase in sales per share, and a 20% decrease in free cash flow per share from December 2012 until today. At first glance it's hard to see why shares would increase 149% with those kinds of operating results for investors.

Mr. Market's profound fascination with 3-D printing
The real reason behind the company's share rally didn't have much to do with the company's operating results; rather, it was due to Mr. Market raising his expectations for 3D Systems by 159%. That increase is equal to the increase in the price to earnings multiple for 3D Systems' stock over the past year. Remember from the example above, 3D Systems' price to earnings multiple went from 50 to 188 which had the effect of increasing the share price by 149%.

Basically, the stock market is predicting that the company is going to grow very quickly over the next three to five years. Judging from analyst estimates and predicted industry growth, the company will need to grow its operating results by greater than 26% per year for the next three to five years on average in order for Mr. Market not to get upset.

What does it all mean?
A huge risk in investing is when Mr. Market drastically changes his opinion about how well he thinks a particular company or industry is going to perform, which is also known as multiple contraction. This principle was made famous by investing legend Phillip Fisher in his book "Common Stocks and Uncommon Profits". For example, if an investor buys a stock in a "hot" industry and the market assigns a price to earnings multiple of 50 to it but in the next year decides to assign a multiple of 25, that company's earnings will need to increase by 100% in one year in order to offset the decrease in the multiple and for investors not to lose money. 

The stock market loves 3D Systems' stock right now and has assigned an extraordinary multiple of 188 times price to earnings. Even at 2014's predicted earnings of $1.11 per share, the market is assigning an incredibly high multiple of 80 times price to earnings. In my opinion, a successful investment in 3D Systems at today's price is incredibly risky due to what I perceive to be unsustainably high trading multiples, and the risk that operating results fail to keep up with the Mr Market's current expectations. 

In the video below Motley Fool analyst Blake Bos covers this topic in detail and offers investors his view on how to handle this complex situation.

Is a market crash imminent? Defend your hard-earned savings with dividend stocks
Dividend stocks can make you rich. It's as simple as that. While they don't garner the notoriety of high-flying growth stocks, they're also less likely to crash and burn. And over the long term, the compounding effect of the quarterly payouts, as well as their growth, adds up faster than most investors imagine. With this in mind, our analysts sat down to identify the absolute best of the best when it comes to rock-solid dividend stocks, drawing up a list in this free report of nine that fit the bill. To discover the identities of these companies before the rest of the market catches on, you can download this valuable free report by simply clicking here now.

 


Read/Post Comments (11) | Recommend This Article (13)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On December 24, 2013, at 3:19 PM, highgrowthcarson wrote:

    Another way to say this is that the market has (in my opinion correctly) begun to perceive the vast potential of 3d printing and how that potential might translate into huge profits for the industry leader down the road.

  • Report this Comment On December 24, 2013, at 4:59 PM, Joey wrote:

    A couple of weeks ago Motley was betting the house on DDD and now it is suggesting that it may be overvalued? Please be consistent in your recommendations.

  • Report this Comment On December 24, 2013, at 8:50 PM, OkieKid1868 wrote:

    Honestly, this sounds like someone who is jealous they are on the outside of a cutting edge company. I have seen this happen with Apple and Netflix which both are over three hundred dollars a share.

    Its called capitalism and it works because people have the right to put their money in stocks they believe have an extraordinary product. Simply put 3D systems is going to change the world with its printers, please put that in your record books.

    Sometimes its all about the numbers and some times its all about the technology. But this company has both, money and an extraordinary product that is changing the world.

    The end result when you have both money and an extraordinary product, a company that is going to the moon baby.

  • Report this Comment On December 24, 2013, at 10:28 PM, spinindog wrote:

    The author states "movement over the short to long term really boils down to two factors -- the company's operating performance, and what the stock market thinks about that performance." And then he waits until the end of the article to explain a third, and most important factor, which is long term potential.

    If a tiny company is on the cusp of curing all cancer as soon as all the paperwork was cleared, would I be looking at the two factors the author mentioned - heck no.

    DDD is priced on long-term future potential.

  • Report this Comment On December 25, 2013, at 7:52 AM, 2sour wrote:

    Is DDD really that highly priced in the 3D printing space? Hmmm ... perhaps you should compare to ARCAM (up over 400% this year) ... or SSYS, XONE, and VJET(oh yeah ... none have a positive EPS yet, so you can't compare the P/E).

    3D printing isn't a new technology, but recent improvements and advancements are allowing design engineers and manufacturers to do things they couldn't do (cost effectively) before. This is a game changing technology that is finally changing the game.

    Does the author believe DDD is too highly priced because of the P/E? What about Amazon (P/E = 1425), or NFLX (P/E = 317), or ORAN (P/E = 200)? All are MF recommendations.

  • Report this Comment On December 25, 2013, at 1:20 PM, harrykunz wrote:

    lol agree with 2sour... amazon is just crazy overvalued 1400 P/E... but i dont understand why nobody calls it CRAZY OVERVALUED. but everyone llikes to say DDD is too overvalued lol.

  • Report this Comment On December 26, 2013, at 3:11 PM, cia74 wrote:

    As Motley states above, it has gone short on 3D for January 2014. That raises, in my mind, the following question: Is MF putting its money where its mouth is---or its mouth where its money is?

  • Report this Comment On December 27, 2013, at 12:34 AM, wsjalerts13 wrote:

    It would be extremely helpful if MF comes up with a policy for the authors to publicly disclose their entire portfolio current and past, this way readers would know exactly the authors true potential.

    Lots and lots of bs authors/analyst out there, of course no way implying or passing judgement about the current author until then

  • Report this Comment On December 29, 2013, at 10:12 AM, cmalek wrote:

    Plain and simple, it's the buzz. Any company that has anything to do with "3D'" is hot right now. The same thing happened in the late 1990s as any company having anything to do with the Internet was bid up into the stratosphere. How many of the dotcom companies that the analysts were touting and lemming investors were dumping their money into are around anymore? Can you say "tulip mania?"

  • Report this Comment On December 31, 2013, at 10:26 AM, RobJones88 wrote:

    I am very confused now. I thought MF loved this stock and would go to the grave with it....The feeling I get from this excerpt is that DDD has unrealistic goals to meet in order to keep "Mr. Market" happy and prevent its share prices from plummeting.

    Am I correct in feeling this way?

  • Report this Comment On January 10, 2014, at 10:44 AM, TMFBos wrote:

    @ Rob Jones

    Hey Rob, Fool.com is filled with a variety of opinions (mine included) from over 100 writers/analyst. Then there's the Motley Fool's premium services, which also has their own stock picks. If you read something on the free site (fool.com) it doesn't mean that writers opinion is the same as our premium services, it could be very different and we love that (we find it to be motley).

    Also, just because it says in the disclosure that DDD is rec'd by motley fool currently, that doesn't mean the service that has it currently has it as an active buy. It could be a hold in their portfolio. Hope that helps!

    Cheers,

    Blake

Add your comment.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 2776117, ~/Articles/ArticleHandler.aspx, 8/30/2014 10:33:36 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...


Advertisement