3D Systems (NYSE:DDD) shares are down about 50% since reaching their all-time high at the beginning of the year. Our first impulse is to see whether something has gone horribly wrong. In this deep dive, we're looking at several aspects to see where the problem might be. Today, we're looking at liquidity ratios. How fast can the company raise cash if it has to? Does the recent secondary offering have anything to do with this? Read on to find out.

Why conduct a ratio analysis?
Ratios give an investor a cleaner sense of what's going on with a company, especially compared with the sometimes confusing financial statements. You can use them to spot trends and see if things are going well or poorly. Plus, you can use them to compare the company with its peers at a given point in time, and over time. Doing this lets us spot disturbing trends (like the decay in the cash conversion cycle I noted last time, an indicator of worsening operating efficiency) in time to do something.

Finally, always use ratios as part of a larger analysis rather than taking them in isolation. A single ratio, such as P/E, has meaning only when compared with other metrics and other companies. This is why investing in Amazon.com at a P/E of around 500 might not be as ridiculous as the surface number first might lead you to think.

Liquidity ratios
As I wrote, these ratios measure how quickly companies can lay their hands on cash and how well they can handle a temporary cash crunch.

There are three: the current ratio, the quick ratio, and the cash ratio. These look at the amount of cash (plus almost-cash) there is sloshing around inside the business, which it can use to meet its immediate obligations. Up to a point, more is generally better. For all these ratios, a higher number means it is more likely to have the resources to meet its obligations.

  • Current ratio = current assets / current liabilities
  • Quick ratio = (cash + short-term marketable investments + accounts receivable) / current liabilities
  • Cash ratio = (cash + short-term marketable investments) / current liabilities

The current ratio looks at how well balanced working capital is. Working capital (the money currently tied up in the day-to-day operation of the business) is current assets minus current liabilities. The assets include things like cash, inventory, and accounts receivable, or A/R, while the liabilities include items like short-term debt, unearned revenue, and accrued expenses such as salary payable.

The quick ratio looks at how well the more liquid resources (cash and assets that can be pretty quickly converted into cash) can be used to pay off all current liabilities if it came down to it. This number will always be smaller than the current ratio.

The cash ratio is similar to the quick ratio but is even more restrictive because it doesn't include A/R. It's a measure of how much immediate cash a company has and is similar to looking at the balances in your checking, savings, and brokerage accounts versus all the bills you currently have due within a year. When compared against the quick ratio, it gives a handle on how much the company might be relying upon A/R as a source of cash. Remember, it takes longer to get customers to pay invoices than it does to cash out investments, so relying heavily on A/R as a cash source is probably not a good sign.

What I looked at and found
Again, I'm comparing 3D Systems with two other 3D printing companies -- Stratasys (NASDAQ:SSYS) and ExOne (NASDAQ:XONE) -- and with Cisco Systems (NASDAQ:CSCO), a well-established high-tech company. ExOne has limited information.

Source: S&P Capital IQ and author calculation.

3D Systems has plenty of liquid resources to handle its needs, as does Stratasys (and Cisco), but that's a newer development, as you can see by the big jump in all the graphs in 2011. Back in 2009 and 2010, 3D Systems was running much closer to the edge. The reason for the major improvement to these ratios since 2010 is issuance of debt (in 2011) and a good-sized issuance of stock in each year from 2011 through 2013, resulting in much higher cash balances today than in 2009 and 2010. It's not generating the cash internally, as cash flow from operations has trailed net income for two of those three years.

In addition, it is relying more heavily in general than Stratasys on accounts receivable as a source of cash (lower cash / quick percentages). Stratasys did for a couple of years, but it seems to have brought that back up. Cisco is very consistently high here.

ExOne is the company in trouble by this look. However, remember it raised a ton of cash when it went public last year.

As far as the numbers themselves go, I don't see a real problem for 3D Systems. It has enough cash to satisfy a liquidity crunch if it had to. The source of the cash, though, is a bit more problematic. For instance, it just announced a secondary offering of shares to raise cash. But that's not the best thing it should be doing.

Ultimately, the company needs to generate cash, not raise it from issuing debt or equity. As I mentioned, over two of the past three years, cash flow from operations, or CFFO, has trailed net income. This appears related to the company's starting its acquisition spree a few years ago, as going further back in time, CFFO outpaced net income regularly. Note that this also ties into the increase in the company's cash conversion cycle mentioned earlier.

Next, we'll look at solvency ratios, to see whether there's any near-term risk that 3D Systems will go bankrupt.

Readers can find each article in the series by clicking here.