Does 3D Systems Deserve Its $200 Million Premium Over Stratasys?

At the time of this writing, 3D Systems (DDD -0.86%) is worth about $200 million more than Stratasys (SSYS -0.20%). Yet 3D Systems generates less revenue, has a smaller installed base, and has experienced more execution issues in recent years than Stratasys.

It certainly makes you wonder if Mr. Market has behaved irrationally toward 3D Systems, or if the company deserves to trade at a premium over Stratasys.

Justifying the premium
Given 3D Systems' seven distinct 3D printing technologies, investors may believe that its diverse portfolio is ultimately more valuable than Stratasys' three-technology portfolio.

In theory, 3D Systems' portfolio should allow it to cater to a wider range of 3D printing customers, giving it more revenue-generating opportunities than Stratasys. For instance, 3D Systems technologies can 3D-print with metal, sugar, and ceramic -- all areas where Stratasys doesn't compete.

In practice, however, 3D Systems' highly diversified model has begun to fall behind Stratasys' where it counts: revenue.

DDD Revenue (Annual) data by YCharts.

What's more, the Wall Street community doesn't expect that 3D Systems will reclaim its status as the largest 3D printing company by revenue in the coming years.

Source: S&P Capital IQ. 

There are likely two major reasons that analysts believe Stratasys will continue to generate more revenue than 3D Systems in the nearer term.

First, Stratasys' industrial market share stood at 54.7% near the end of 2014, which is significant considering the industrial market is the largest driver of industry revenues. According to Wohlers Report 2015, 3D printers priced higher than $5,000 represented about 8% of all 3D printers sold in 2014, but made up nearly 87% of the industry's entire revenue for the year.

Second, Stratasys has the largest installed base of 3D printers in the industry. At the close of the first quarter, Stratasys had sold a total of 129,197 3D printers across its MakerBot, Objet, and Stratasys brands since their respective inceptions. This installed base feeds into the company's razor-and-blade model, paving the way for it to sell consumables -- over and over again during a printer's life -- typically at higher mark-ups than 3D printing hardware.

In other words, Stratasys' industry-leading installed base suggests that it's poised to generate a healthy -- and potentially larger -- stream of recurring revenue than 3D Systems.

Discounting future growth
To capitalize on its growth opportunity, 3D Systems acquired about 50 different companies over the last four years. This acquisition-hungry strategy has given 3D Systems major indigestion, resulting in numerous execution issues and ensuing management shake-ups. It's also come at the expense of 3D Systems' organic growth rate, which measures the rate of annual revenue growth for revenues greater than a year old and helps investors track revenue growth outside of recent acquisitions.

3D Systems' organic growth rate declined to negative 7% in the first quarter, meaning that if it weren't for recent acquisitions, the company would've reported negative revenue growth during the quarter.

Source: 3D Systems.

To be fair, Stratasys has dealt with its fair share of issues in the last year. Most notably, the company's MakerBot acquisition failed to live up to growth expectations, resulting in management writing down the acquisition value on two different occasions. Thus far, Stratasys has written off $296 million -- 73% of the $403 million it paid for MakerBot -- raising serious questions about management's ability to create shareholder value from acquisitions.

Beyond its MakerBot troubles, Stratasys' most recent first quarter also faced currency headwinds, product revenue declines, and softer spending from large customers. It was undoubtedly a challenging quarter for Stratasys. But there were encouraging signs that suggest the underlying strength of its razor-and-blade model remains intact: The company's consumable revenue managed to increase by 18% year over year in the quarter.

What gives?
It's possible that investors are looking beyond the next couple of years and believe that 3D Systems' jack-of-all trades approach will eventually allow it to command a greater market share than Stratasys in the long run. Even with this assumption, however, investors are failing to consider the quality of 3D Systems' underlying business outside of its technology portfolio.

3D Systems' underlying issues seem more severe -- and more difficult to correct -- than what Stratasys is currently facing. After all, 3D Systems is tasked with cohesively integrating 50 or so acquisitions under one umbrella, and such integration has historically created many issues for the company, including diverting management's focus away from its existing operations.

Stratasys' most pressing concern has been its MakerBot unit, a business segment that represented only 7% of its total revenue in the fourth quarter. Although the corresponding writedowns have not been ideal, the unit's relative size isn't a make-or-break issue for the company. It's also encouraging that Stratasys' consumable sales increased by 18% in the first quarter, suggesting that there's power behind the company's large installed base, which could act as a buffer in challenging operating environments.

All things considered, it doesn't make a whole lot of sense that 3D Systems continues to trade at a premium to Stratasys.