3D Systems Corp Q1 FY2021 Earnings Call

Hello, and welcome to the 3D Systems' First Quarter 2021 Conference Call and Webcast. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. It's now my pleasure to turn the call over to John Nypaver. Please go ahead.

Thank you, Kevin. Good morning, and welcome to 3D Systems' Conference Call. With me on the call are Dr. Jeffrey Graves, our President and Chief Executive Officer; Jagtar Narula, Chief Financial Officer; and Andrew Johnson, Executive Vice President and Chief Legal Officer.

Good morning, everyone, and thank you for joining our call today. Nearly one year ago today, I joined 3D Systems as Chief Executive Officer. My reasons for joining were very simple. First, I believed that this industry was beginning to enter an exciting growth phase, driven by both the maturing of technologies as well as receptivity from the customer base to industrial scale additive manufacturing. Second, I saw the potential for 3D Systems to be a leader in the industry, not just at the forefront of this industrial renaissance, but instrumental in making it happen. As excited as I was a year ago when I arrived, those feelings are dwarfed by the enthusiasm I feel today. Rather than opening the call with a recap of our financial performance, which I usually do, today I simply want to let our Q1 results speak for themselves, with Jagtar providing more color for you in a few moments. Instead, for today's call, I want to start by offering a sincere thanks to our fantastic employees and our leadership team for their outstanding execution over the last year since my arrival. I particularly want to acknowledge the leaders of two business units, Reji Puthenveetil, who leads our industrial business and has been the chief architect of our sales transformation; and Menno Ellis, who leads our healthcare business and has done an exceptional job of creating a truly integrated approach to the medical market.

Thanks, Jeff. Good morning, everyone. For the first quarter, we reported revenue of $146.1 million, an increase of 7.7% compared to the first quarter of 2020. Our organic revenue growth, which excludes businesses divested in 2020 and 2021, was 16.6% in Q1 2021 versus Q1 2020. We experienced strong product revenues across the portfolio including printers, both plastics and metals, materials, and software. We believe this growth emphasizes the strategic nature of our portfolio breadth and validates our solution strategy. We reported a GAAP income of $0.36 per share in the first quarter of 2021, compared to a GAAP loss of $0.17 in the first quarter of 2020. Driving this improvement was a $32.9 million gain from the sale of the Cimatron and GibbsCAM software business, as well as a tax benefit of $8.9 million as a result of the favorable ruling from the IRS regarding a FIN 48 reserve. Turning to non-GAAP results, we've reported non-GAAP income of $0.17 per share in the first quarter of 2021, compared to a non-GAAP loss of $0.04 per share in the first quarter of 2020. The exceptional non-GAAP result reflects our strong revenue growth combined with the restructuring and cost optimization activities that we have previously announced. Now, we will discuss revenue by market. Our healthcare business had a strong quarter with revenue growing 38.7% year-over-year. This growth was fueled by an increase in hardware and material sales in our dental business. The large hardware volume like we saw in Q1 may fluctuate on a quarterly basis, but drives the recurring higher margin material and services revenue, which is a focus of many of our long-term financial goals. Excluding dental applications, revenue from medical applications grew by 9% as we continue to see increased demand for personalized health services and advanced manufacturing of medical devices. We have recently announced a planned expansion in Denver, Colorado that is intended in part to support the future growth of this business. Revenue in our industrial segment, when we exclude the businesses divested in 2020 and 2021, was up approximately 1% year-over-year as compared to year-over-year declines in prior periods. The revenue trend turnaround in our industrial segment was across our sub-segments such as jewelry and automotive, with no single segment driving the results. This is a reflection of global economies continuing to recover, albeit at an inconsistent pace from the pandemic-related shutdowns. We expect this inconsistency to continue in 2021. So while we see a path to full-year double-digit organic revenue growth in our core business excluding businesses divested in 2020 and 2021, macroeconomic risks such as further COVID-19 impacts, inflation concerns, and supply chain shortages in certain critical components like semiconductor chips continue to create uncertainty. Now we turn to gross margin. Let me start my commentary on gross margin with a statement on our presentation. During the first quarter of 2021, we identified certain costs that have historically been shown as cost of products that actually related to the cost of services. Our reported gross profit margins reflect an update to properly present these costs. While this resulted in a small movement of costs between products and services, the change does not affect our gross profit, bottom line results, consolidated balance sheets, or statement of cash flow. For Q1 2021, we reported a gross profit margin of 44% compared to 42.1% in the first quarter of 2020. Non-GAAP gross profit margin was 44% compared to 42.7% in the same period last year. Gross profit increased year-over-year as a result of higher sales volume mix, including software sales and the impact of our cost reduction activities. We are quite pleased with our improved margin performance in Q1, especially when you consider that we divested a relatively high gross margin software business at the beginning of the year. In our last earnings call, we said we expect non-GAAP gross profit margins in the range of 40% to 44% for 2021. We continue to expect to be in that range on a full-year basis. Operating expenses for the quarter were 66.2% on a GAAP basis, a decrease of 12.1% compared to the first quarter of 2020, including an 11.6% decrease in SG&A expenses and a 13.7% decrease in R&D expenses. Our non-GAAP operating expenses in the first quarter were $51.2 million, an 18.7% decrease from the first quarter of the prior year as we saw the benefits from our restructuring efforts as well as the impact of divested businesses. The primary differences between GAAP and non-GAAP operating expenses are $13.4 million in amortization of intangibles and stock-based compensation. Continuing the theme of year-over-year improvement, adjusted EBITDA, defined as non-GAAP operating profit plus depreciation, was $19.8 million or 13.6% of revenue compared to $2.2 million or 1.6% of revenue in the first quarter of 2020. The improvement is due to stronger gross margins as well as the results from our restructuring efforts. We are very pleased with the trend of our EBITDA margins over the past several quarters. Driving improvements to margins, adjusted EBITDA, and revenue growth is the impetus behind targeted acquisitions like Additive Works and Allevi. While they will not be material to 2021 results, these and future acquisitions will be a key component of our long-term strategy to reach double-digit revenue growth, gross profit margins of 50%, and adjusted EBITDA margins of 20%. Now let's turn to the cash flow statement and balance sheet. Cash on hand increased by $48.2 million during the first quarter. This increase was primarily driven by the net proceeds from divestitures of $54.7 million in cash generated from operations of $28.5 million, offset by a debt repayment of $21.4 million and other financing and investing uses of cash including capital expenditures. Note that our cash from operations of $28.5 million included the use of approximately $6.6 million of cash for withholding taxes related to the Cimatron sale. When factored together, it is noteworthy that we have substantially improved cash from operations compared to the $2.3 million of cash used in operations in Q1 2020. We ended the quarter with a strengthened balance sheet with $133 million of cash and cash equivalents, no debt, and nearly full capacity on our $100 million un-drawn revolving credit facility. As I end my prepared remarks, I would like to make a final comment about the quarter. We have made a very strong turnaround from this time last year. 3D Systems is now growing profitably, generating cash, and maintaining available liquidity. Our combination of growth and profitability is unique to our industry and positions us well to continue to invest in high-growth areas that will support our long-term financial goals. Our solid financial profile makes us the partner of choice for customers that are considering a solutions provider for their most critical manufacturing processes. We are excited about the opportunity for our business and our plans to deliver against our long-term objectives. To continue providing more detail to the investment community on our strategy, we plan to hold an Investor Day in the Denver, Colorado area on September 9. We will provide more details as we get closer to the event. With that, I'll turn the call back to Jeff.

Thanks, Jagtar. Again, I just want to say how pleased I am with our results, our return to year-over-year growth, our continued profitability improvements, the strength of our balance sheet, and our strong cash generation performance. With intentional action taken on our four-phase plan, we're reinforcing our leadership in this exciting industry. We plan to continue looking for opportunities to optimize our resources, divesting or investing as needed to support sustained exciting growth and profitability. We'll now take your questions. Kevin, let's open it up.

Thank you. We'll now be conducting a question-and-answer session. Our first question today is coming from Greg Palm from Craig Hallum. Your line is now live.

Hey, guys. This is actually Danny Eggerichs on for Greg today. Thanks for taking the questions, and congrats on the good results.

Thanks, Danny.

Thanks, Danny.

Healthcare performed exceptionally well. You mentioned noteworthy growth in dental. In terms of the mix, was this performance possibly influenced by stronger growth in printer sales or materials? How should we approach this moving forward?

Yes, Danny. This is Jagtar. Good morning. We did have very strong printer sales in the quarter, which I mentioned in my prepared remarks. We expect this to contribute to future consumable services revenue, which is highly profitable for us. While we were pleased with the strong printer sales, we also observed increases in both printers and materials, with printers showing slightly greater strength.

Got it. And then maybe if I can just get a quick one on maybe supply chain shortages. We've seen kind of semi chips and maybe even some resin shortages. What kind of impacts are you seeing there?

Yes, Danny, good question. We got out in front of it early. With the headlines as 2020 closed, we anticipated it and got on top of it early, but yes, there's no doubt it took a lot of work this quarter to keep it from hitting us financially. So, we didn't let any customers down. We shipped everything that customers wanted to take in the quarter, but it was a lot of work, Danny. And we think it is a risk going forward, just availability supply chain logistics. You read about semiconductor chips, but really there's a lot of components that go into printers that are in fairly short supply. So, it takes a lot of effort to stay on top of it. We're working real hard at it.

Got it. I'll jump back into the queue for now. Thanks for taking the questions.

Thanks, Danny.

Thank you. Our next question today is coming from Sarkis Sherbetchyan from B. Riley FBR. Your line is now live.

Hey, thank you for taking my questions here. Just wanted to see if you can provide an update on the cost restructuring initiatives. How much is left to go in the savings program? I think last quarter you mentioned achieving a $60 million run rate cost saving. So, just want to get a sense for where we stand today, how much is left to go, and what's the timetable?

We are right on track with our cost reduction efforts this year. Following the divestitures that took place at the end of last year and the beginning of this year, our target for incremental cost savings this year is $20 million. We are making good progress on that front. Additionally, we are looking to invest in growth as the market is recovering. We are excited about the number of new applications that customers want to explore, especially in metals and plastics. We are supporting that growth, and as a result, you can expect to see $20 million come out of our cost structure while we consider reinvesting some or all of those savings to promote further growth. This should positively impact our revenue growth and margin performance, which is the balance we're aiming for. Jagtar, do you have any further insights to share on this?

No, I think you captured it well, Jeff. I think we are getting the $20 million out this year. I would expect OpEx going through the course of the year, because that will be the next question to be in line or marginally up from where we were in Q1 as we balance taking cost out with the initial investment for the opportunities we're seeing in the market.

And I was very glad that we got the $60 million out last year and got everything restructured because it really positioned us well as the market rebounds now to leverage that reduced cost structure. And now it's really a horse race between taking further cost out of the business and investing for growth. We are determined to grow profitably. So, we're not going to overspend on that and get out in front of our skis, but we certainly are going to support the strong markets that we see right now ahead of us.

Just one follow-up, the healthcare business is performing well. Can you provide any comments on the industrial side, specifically which end markets you see as having growth opportunities in the near to intermediate term, and which ones might be presenting challenges? Thank you.

Yes. It's really interesting; you can go through each market vertical. In automotive, clearly ignoring the semiconductor issues they have as a total industry, there's a kind of a mega trend headed toward electric vehicles. So, we're really pleased with our exposure there and where that's going. It's a smaller business today, but clearly from everything you read, you can tell publicly it's a growing market and a growing business, and the light weighting and strengthening of those cars we think is real. The stories we hear back from customers about their utilization of Additive is really encouraging in that sector. Aerospace clearly has lags; it was significantly impacted by COVID. It's nice to see more people flying now as the U.S. opens up. So, you would expect aerospace to lag but be a driver in the next couple of years. Interestingly, applications related to heat flow and thermal management are really exciting. When you think of datacenters, how do you eliminate the heat? One of the major expenditures any developed country has for energy usage is in datacenter cooling, and it just shows you the impact and magnitude of heat generated there and how to dissipate it as a real issue, and additive manufacturing is great at that. When you drill down to a system level, things that are very temperature-sensitive, like rocket travel and space travel with rockets, you see that competition heating up now in the commercial realm, which is really exciting between several public companies getting into the space race, and the structures you can make with additive at very effective costs are remarkable. We’ve been very pleased with the interest level and growth in the business of the semiconductor equipment manufacturers. So, I could go on and on, but those are several sectors we think will both lead and trail in the opening economy.

Thank you.

Thank you. The question today is coming from Noelle Dilts from Stifel. Your line is now live.

Hi guys, good morning, and congrats on a good quarter.

Good morning, Noelle.

I was hoping that you could expand a little bit on some of your bioprinting initiatives and you spoke to some of the opportunities in the near-term around cosmetics. And I think printing on slides could you speak to how to think about the monetization of this over the next few years, when you think it could become contributory and how to think about kind of the longer-term ramp of that side of the business.

Thank you, Noelle. That's a great question. Predicting timing in an emerging industry can be challenging, and I don't want to overstate expectations, but I am truly excited about the technical progress we've made and how the markets are evolving. We began with a long-term project in collaboration with United Therapeutics focused on printing human organs, which will take years to develop. Setting that high standard has driven our technological advancements. As we progressed, we started to explore more immediate markets. The ability to bioprint various parts of the human body—such as arteries, veins, muscles, tissues, and bones—allows us to create personalized solutions through additive manufacturing. We decided to expand our focus in 2021 towards these near-term applications that could yield results in a shorter timeframe. All these initiatives are internally funded and we expect a solid return on investment; however, achieving full FDA qualification will still require several years. The rate of our progress has been impressive, but time remains a critical factor. To accelerate our efforts in the short term, we explored laboratory applications, which is where our acquisition of Allevi comes into play. We can now print three-dimensional tissue specimens in the lab, useful for basic studies in regenerative medicine. What excites me most are the potential applications in the pharmaceutical industry, as drug testing and skin therapies currently depend heavily on computer simulations and animal testing. Bioprinting presents a unique opportunity to evaluate effects on human tissue within a laboratory environment, which I believe could be a promising near-term market for us. Through Allevi, we are now connected to numerous research labs globally, allowing us to adapt the organ technology we've developed for various human applications to laboratory settings, leveraging Allevi’s existing customer base. I see substantial revenue opportunities from the pharmaceutical sector, as well as cosmetics and skincare, in the long run.

Thank you. In the interest of time, I'd like to remind everyone to please limit themselves to one question then return to the queue. Our next question today is coming from David Mizrahi from Berenberg. Your line is now live.

Hi, guys.

Hi, David.

Aligned guided to CapEx of greater than $300 million this year, well, last year's attracts roughly $150 million and part of this is going to support new factory in Poland. Could you just discuss the implications for you guys or any conversations you've had? I'll jump back in the queue. Thanks.

No, we really can't. I would love to tell you about the conversations we have with individual customers, but we just can't go there. I love our customer base, and we have a terrific customer base and some very long-term customers that have done very well in their industry, but we just can't talk about them. It's too sensitive to them as much as I would love to talk about it ourselves, so we just can't do that. But we're excited; clearly, the medical sector is growing really nicely for us across the range of big-name healthcare companies and end markets, end users like surgeons, same with dental. It's an exciting and dynamic business, and it is broader than you might think and it's going very, very well, but I can't really comment on individual customers. I'm sorry.

Thank you. Our next question today is coming from Paul Coster from JPMorgan. Your line is now live.

Hi, this is Paul Chung on for Coster. Thanks for taking my question. So I see that you're splitting out healthcare and industrial by operating profit in the 10-Q. Will you be kind of providing the historical data and how should we think about the margin performance between the segments moving forward? There's kind of quite a discrepancy today.

Yes, unfortunately, we won't be providing historical data. As you know, we made a significant restructuring of our business last year into two verticals: healthcare and industrial. This required a major overhaul of our financial systems to enable reporting by segment, including operating profit for both healthcare and industrial. We implemented this on a prospective basis, so we don't have the capability to report historical results for 2022, aside from some basic excel spreadsheets. We will have results for 2021, which will allow you to see the year-over-year impact. This is our plan moving forward.

And how does that margin performance evolve kind of through the year and into 2022 and getting to your goals longer-term goals. Thank you.

Yes. I would expect that if you look at our business in totality, I think as we look at EBITDA margins for the year, right, I would expect just looking at kind of where consensus revenue guidance is right now. If I take consensus revenue guidance for the balance of the year, I apply the midpoint of our gross margin guidance range to 44%. I say OpEx will be about where we were in Q1, maybe marginally up from the investments that we're making. I think that gets us to low-single to low-double digit adjusted EBITDA margins. And I think that'll be roughly split between healthcare and industrial the way you saw in Q1.

Paul, I would just add in terms of our long-term financial model for the company, I mean, we certainly see healthcare has got a great future to it. It lends itself to what's called mass customization through additive quite effectively, both on the implant side and on the dental side, really, really well. It generally is growing faster and carries a higher margin. So in terms of supporting our long-term financial objectives, you can see the mix between the businesses that we would expect that trend to continue. That kind of supports our longer-range targets, and we'll be talking more about that at our Investor Day in September.

Thank you. Our next question is coming from Brian Drab from William Blair. Your line is now live.

Hi, good morning. Thank you for taking my question. Are you hearing anything from your largest customer regarding their plans for capacity expansions and the requirements of 3D Systems in 2021? Thanks.

Yes, Brian. We prefer not to discuss individual customers as they do not permit us to share that information. However, I can say that we maintain close relationships with several of our large customers. We have a good understanding of their growth plans and what they expect from us in terms of investment. We are excited about this. Overall, the companies we support are performing well and have promising plans, and if we execute our business effectively, I anticipate we will play a significant role in their success.

Thank you. Next question today is coming from Wamsi Mohan from Bank of America Securities. Your line is live. Wamsi, you are on mute.

Hello? Sorry about that.

Let me address the reopening question, Wamsi, and Jagtar will handle the second question you asked. Regarding revenue and expectations, we face two main challenges. First, the pace of reopening varies significantly across different regions. The U.S. is experiencing a systematic reopening that is becoming more predictable, leading to customers ramping up their capacity planning and new investments. In contrast, Europe is not reopening as quickly, and India is facing serious issues, as indicated by troubling news from there. We do have some business in India, so these factors will impact our revenue performance. I want to be cautious about our expectations for Q2. I am pleased with the demand we see, but it will depend on how quickly customers feel comfortable placing orders and increasing their capacity. In the U.S., things look very promising, whereas Europe is more uncertain, and India continues to decline. I believe these issues will improve in the second half of the year, but making predictions for Q2 is challenging, which is why we are not providing guidance. Additionally, we face logistics and short-term supply constraints, which we are managing, but it remains a risk factor moving forward. The short-term outlook is the hardest to predict right now, while the long-term cost structure is easier to forecast. Jagtar, would you like to elaborate on the second part of that question?

Yes, I'll address the question I think Wamsi you had was on our segment revenue reporting. We disclosed obviously, as you know, Q1 healthcare versus industrial. We do have the ability to do that for other quarters. What I was addressing in that prior question was operating profit, but revenue we certainly have, and we can make that available to post this earnings call.

Okay, thank you.

Thank you. Your next question today is coming from Ananda Baruah from Loop Capital Markets. Your line is now live.

Hi, good morning. Thank you for taking my question and congratulations on the strong execution. I wanted to ask about the opportunities for divestitures moving forward and the cash that is now beginning to accumulate. That's all from me.

Great questions. It's clear we started down this path on divestitures having defined the purpose of the company. We looked at what's outside of that envelope, and we felt great. We did a couple of them very late last year as we rounded the curve into 2021. That work is still ongoing. We're still considering what we want to hang onto, what we want to divest, and what fits within that core package? I don't really want to talk more about it because it's obviously a very sensitive topic, but yes, we're not finished and we continue to work on that. You'll hear more about it in the coming months and quarters. In terms of what we're going to do with the cash, I feel great. We've got nice cash on the balance sheet. We're generating good operating cash flow. We've got no debt. I feel really good about our investment opportunities now, and they should continue to expand. In terms of priorities, clearly, we're now on the hunt for smart investments across our business. So it could be technology investments like we did last quarter that make printing more efficient or move us into a new market with regenerative medicine that was an example. I would love to do more in healthcare, would love to do more in our core technologies. Although I have to tell you we're in really good shape organically on that as well. So I love the Additive Works addition from a software standpoint. It was incremental to what we had the capability to do internally, which was great. Those are the kinds of opportunities we look at. They're small-ish niche kind of technology opportunities that really don't shift the needle in a given year materially, but they make a huge difference in the long-term, so they open up new markets and they bring new technologies. So we'll continue to look for those aggressively. I would tell you there's no lack of opportunities; you just have to look at getting a good return on the investment for our shareholder.

Excellent.

So, yes, I'll just add a little more color on top of the potential use of cash and M&A that Jeff mentioned in technology investments. I would also say you'll see increased use for CapEx. I think our CapEx has been light for the last year now. We'll be increasing CapEx as we make investments in our business. We talked about the expansion in Denver, and other areas investments we'll get CapEx up closer to the 4% or 5% of revenue that we talked about in the last earnings call. We'll still have some cash for restructuring activities as we continue to restructure our business and reduce costs. I’d also say we'll probably have some inventory builds going into Q2 and maybe later this year. We are seeing increasing demand, and we talked about supply chain concerns and wanted to make sure that we had sort of adequate products or components to meet demand. So, we will probably invest in inventory for the balance of the year.

Thanks, guys, super helpful.

Thanks.

Thank you. Our next question is coming from Troy Jensen from Lake Street Capital. Your line is now live.

Yes, gentlemen, congrats on nice results.

Thanks, Troy.

Hey, Jeff, I wanted to quickly ask about a new trend we’ve noticed in high temperature DLP. Considering Stratasys and 3D Systems in relation to SLA and DLP technologies, could you provide an update on your strategy for expanding in high temperature DLP, or perhaps you’ve already made advancements that I am not aware of?

Well, number one, Troy, we really increased our investment internally on new materials for both SLA and DLP. We were playing a bit of catch-up there, and we have got some really exciting materials coming out this year, actually quite a lot. So, in terms of developing new materials for our current platforms and our next-generation platform which we haven't talked about yet, but that will be coming soon. We want to make sure the materials pipeline is really strong. It’s really hard to start getting payback on those platforms. As you know from your experience, it's really hard to get the payback on the platforms until you have good material flow through it plus customer adoption that has helped tremendously by having a good portfolio material. So, we are trying to get on top of the materials questions on those, and we then have some next-generation platforms coming along, and we will talk more about it in the fall.

Can you provide an update on the trend of composites replacing metals? Should we anticipate an increase in composite materials from you?

Yes. Troy, I think composites have a really nice role to play. We are looking at it from a number of angles; both the material systems themselves and then the combination of matrix and fiber and what you do there as well as the printing technology, just the printing hardware. How do you print; how do you best print composite structures? There is a lot of exciting work going on. We are progressing some of it internally, and some of it we are looking at partnerships and acquisitions. There is a really nice evolving niche between classical polymer technology and metals technology for lightweight strong stiff materials of composites. It will be a factor and we are excited about it. Thank you, Troy.

Thanks, Troy.

Thank you. We've reached the end of our question-and-answer session. I'd like to turn the floor back over to John Nypaver for further closing comments.

Thank you all for joining us today and for your continued support of 3D Systems. A replay of this webcast will be available after the call on the Investor Relations section of our website. Have a good day.

Thank you. That does conclude today's teleconference and webcast. You may disconnect your lines at this time, and have a wonderful day. We thank you for your participation today.