Blue chip stocks are often regarded as some of the most stable and predictable investments in the stock market, but they don't usually start out that way. Before a company earns its coveted blue chip status, it must first prove itself as a market leader, backed by years of consistent revenue and earnings growth, and perhaps even offer a stable dividend payment.
With the 3D printing industry expected to grow from $3.07 billion in 2013 to over $21 billion in 2020, the potential certainly exists for 3D Systems (NYSE:DDD) to establish itself as a market leader and become the next blue chip stock. However, before we get ahead of ourselves, let's run 3D Systems through the wringer to see where it stands today in terms of gaining blue chip status.
A shaky earnings performer
One of the defining characteristics of a blue chip stock is that it offers investors a solid track record of performance, and 3D Systems isn't currently living up to this expectation in terms of its earnings. While the company has been in business since the late 1980s, the 3D printing growth story has only started taking hold in recent years, and 3D Systems' recent earnings results relative to its revenue growth have been inconsistent.
A few years ago, 3D Systems' management decided that in order to best position itself as a market leader in the years ahead, it would need to aggressively pursue its market opportunity with lots of acquisitions, heavy research-and-development investments, and various strategic partnerships. Although it's admirable that 3D Systems is essentially leaving no stone unturned in terms of future revenue-generating opportunities, the rapid pace of investment has come at the expense of earnings and efficiency in the short term, and has made the company's long-term earnings potential unclear.
Un-fortresslike balance sheet
With over $570 million in cash and about $11.5 million of long-term debt on its balance sheet, 3D Systems appears to have plenty of cash to continue investing for future growth. However, once taking into account the company's significant goodwill, intangible assets, and inventory growth, its balance sheet isn't necessarily as fortresslike as a blue chip stock investor would probably want to see.
One of the biggest risks facing 3D Systems is the threat of disruption, whether it's in the form of pricing pressures, new technologies, or new competitors. Ultimately, these threats could force 3D Systems to take writedowns on assets from previous acquisitions or inventory that becomes technologically obsolete, both of which would eat into future earnings. With so many variables potentially affecting the future value of 3D Systems' current assets, investors in blue chips wouldn't seem likely to give 3D Systems' balance sheet their full seal of approval.
Strong revenue growth; cash flow growth lacking
3D Systems' acquisition strategy has done a great job driving strong revenue growth, but it leaves a lot to be desired in terms of the actual cash it generates on a quarterly basis.
The disconnect between 3D Systems' revenue growth and its cash flow growth is largely because it's been pouring cash back into the business in hopes of generating more cash in the future. While 3D Systems' cash reserves can be used to offset any temporary weakness in cash flow, it likely isn't a winning strategy for becoming a blue chip stock, stocks which are historically known for their strong and often growing cash flows. Eventually, 3D Systems would have to prove to prospective investors that it can grow its cash flows alongside its revenues.
Dividends: Don't hold your breath
Unless 3D Systems suddenly ran out of ideas of where to invest its cash, I wouldn't count on it paying a dividend this decade. Management has been too busy heavily investing to extend what it believes is a first-mover advantage of being the most vertically integrated 3D printing company in the industry. It would make little sense for the company to forgo cash that could be invested into growing its long-term earnings potential for the sake of paying a dividend, which doesn't help grow earnings.
Not destined for blue chip status anytime soon
The main reason investors seek out blue chip stocks is because they want to own healthy and durable businesses that are predictable in nature, but also aren't stagnating -- industry stalwarts, if you will. While 3D Systems' business isn't stagnating, there are some questions about the long-term durability of its business model and predictability of its earnings potential at this time. That's not to say that investing in 3D Systems doesn't offer promising investing potential over the long term, but investment potential alone doesn't automatically make a company one of the next blue chip stocks.
Steve Heller owns shares of 3D Systems and Apple. The Motley Fool recommends and owns shares of 3D Systems and Apple. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.