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...
There's good news for Stratasys (NASDAQ:SSYS) shareholders today. Just 24 hours after Stratasys reported its fiscal Q2 2017 earnings, multinational megabanker Citigroup is upgrading Stratasys stock to buy -- not because of earnings, but in spite of them.
Here are three things you need to know.
1. What Stratasys said yesterday
Stratasys reported its Q2 numbers before the market opened yesterday, and investors were a bit underwhelmed with the news. Stratasys shares fell 0.5% over the course of trading yesterday.
Why? Well, because the results were mixed at best. For the quarter, Stratasys reported a 1.2% decline in sales to $170 million. Revenue from 3D printer sales declined 6%, while revenue from servicing those printers rose 6%, and revenue from selling consumables (i.e., 3D printing materials) increased 2% -- but it all still added up to a decline in sales.
On the plus side, operating and GAAP losses also shrank (Stratasys lost $0.11 in the quarter, versus a $0.36-per-share loss one year ago), and on an adjusted basis, Stratasys says it actually managed to earn some profits -- $0.17. And relative to analyst predictions, Stratasys appears to have beaten estimates on that basis.
2. What Stratasys said about tomorrow
Guidance-wise, with its fiscal year half-done, Stratasys updated its guidance for the full fiscal year yesterday. Reiterating expectations for sales of $645 million to $680 million, management still thinks Stratasys will probably end the year with sales down year over year. (Last year, Stratasys booked revenue of $672.5 million.)
On the plus side here, though, losses should continue to shrink. Management predicts Stratasys will end up losing between $0.73 and $1 a share this year -- better than last year's $1.48-per-share GAAP loss.
3. What Citi said about all of the above
Focusing on that guidance, Citigroup declared management's numbers "conservative," indicating that it expects Stratasys to beat its own numbers again and again before the year is through. Stratasys predicted that it would produce pro forma profits of between $0.19 and $0.37 this year -- so $0.28 at the midpoint, which is the same as it reported last year. But the consensus on Wall Street is that Stratasys will earn $0.33 pro forma, and that seems to be the way that Citi is leaning as well.
Deadpanning, Citi said Stratasys' prediction of zero earnings growth are "well within reach."
More important to Citigroup, though, is how Stratasys stock is priced relative to rivals like ExOne (NASDAQ:XONE) and 3D Systems (NYSE:DDD). As explained in a write-up on StreetInsider.com (requires subscription) this morning, investors are not enthused about the 3D printing sector in general anymore, valuing most 3D printing stocks at only 14 times expectations for fiscal 2019 earnings before interest, taxes, depreciation, and amortization (EBITDA), and at 2 or perhaps 2.25 times sales for that year. Stratasys in contrast, says Citi, is being priced even lower -- at 10 times Citi's expectations for EBITDA, and 1.3 times expected sales.
These valuations, though, says the analyst, are too low. Stratasys gets more of its revenue from "high margin consumables revenue" than do its rivals (and Stratasys' consumables sales are growing, albeit slowly). Furthermore, the analyst sees 3D "market trends" in general "improving," which should be good news for the stock.
The most important thing: Valuing Stratasys stock
And yet, it's worth pointing out that while Citi upgraded Stratasys stock this morning, it cut the stock's price target by nearly 10%, to just $29 per share. Why?
Well, let's consider: I don't know exactly what numbers Citigroup is basing its 2019 estimates on when arguing that investors aren't paying up enough to own Stratasys stock relative to rivals like 3D and ExOne. But based on what Stratasys, 3D, and ExOne are earning today, Citi appears to be on the right track. Valued on trailing earnings, Stratasys stock currently fetches 1.8 times sales, versus 2.3 times sales for 3D stock, and 2.9 times sales for ExOne. Relative to the competition, it does kind of look like investors are giving Stratasys short shrift.
Are such valuations justifiable? In ExOne's case, certainly not. With barely $50 million in trailing sales, ExOne isn't much of a rival to Stratasys and its $667 million annual revenue stream. Moreover, S&P Global Market Intelligence data show that ExOne's gross profit margin on those sales is a mere 25.4% -- barely half Stratasys' 48.5% gross margin, while ExOne's operating margin is a whopping negative 38.1%, making it nearly six times more unprofitable than Stratasys at negative 6.6%. ExOne certainly does not deserve to be valued at a price-to-sales ratio 61% more expensive than Stratasys'.
On the other hand, 3D Systems may deserve its premium valuation. Its $638 million in annual sales is much closer to Stratasys' annual revenue haul, while 3D Systems earns both better gross margins (49%) and operating margins as well (negative 4.4% -- one-third less unprofitable than Stratasys). Moreover, analysts who follow the 3D printing industry see Stratasys continuing to lose money through 2019 at least -- whereas 3D Systems is expected to turn profitable as early as next year.
Long story short: Citi may think that in this industry, it's Stratasys that deserves the premium valuation. Me, I'd be more inclined to favor 3D Systems stock.
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