Whitney Tilson On DDD ‘This Will End Very Badly’; Still Short Tesla

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Whitney Tilson On 3D Systems Corporation (NYSE:DDD) ‘ This Will End Very Badly’; Shorts Tesla Motors Inc (NASDAQ:TSLA)

The following is from an email which Whitney Tilson sent to ValueWalk. For further context see Tilson Loves 3D Systems As a Short

Via Whitney Tilson

A month ago (on 12/3), I wrote the following in one of my emails:

Ya can’t make this stuff up! From a friend who met with the CEO of 3D Systems Corporation (NYSE:DDD)  (not some penny stock, but an $8 BILLION company):

Avi told me during a 1×1 that “his company is 50% technology, 20% innovation and 30% awesomeness.”

What is the appropriate discount rate to apply to “awesomeness”?

Remember that line – it’s a classic; like Chuck Prince’s infamous: “As long as the music is playing, you’ve got to get up and dance.” The only surprise is that Elon Musk didn’t say it.

DDD is one of so many unbelievably great shorts out there right now. I haven’t written it up (yet), but Citron wrote an excellent report in February entitled, What do a Comb, an Egg Cup, and a Justin Bieber

Vibrator Have in Common?; see: www.citronresearch.com/wp-content/uploads/2013/02/DDD-final1.pdf. The stock is a much better short today, as it’s up 26% since then but the fundamentals are deteriorating and the company lowered guidance in its last earnings report. But that hasn’t deterred the bulls, as it trades within a few percent of its all-time high, at 17.2x REVENUES, 64x trailing EBITDA, and 63x next year’s earnings estimates.

Since then, the stock has jumped 24% and the company now sports a $9.9 billion market cap and trades at 21x sales.

Think about the implications of this. I used to think that it’s mathematically impossible for a company with a $10B market cap and more than 10x sales (much less 21x) to ever be a good investment, but a few companies have proved me wrong. They all have three characteristics:

1) They serve rapidly growing global markets;

2) They have winner-take-all (or at least most) business models; and

3) They have extremely “light” business models — meaning they can scale globally with very little capital required.

The stocks of such companies can actually be cheap – even with big market caps and P/S multipes. Examples of stocks that have done well subsequent to periods at which they were trading above 10x TTM sales and had market caps in excess of $10B include Microsoft and Yahoo in the late 1990s (and Yahoo again in 2003-04), Amgen and Biogen prior to around 2003-05, Adobe in 2000, Google, priceline.com and Infosys in the few years after their IPOs, Qualcomm from 2001-2006, Salesforce.com at various points, as well as LinkedIn, Facebook, Baidu, Tencent, Gilead Sciences for their entire existences. (Incidentally, Netflix, which I still own, has all of these characteristics I believe – and trades at “only” 5.2x revenues; it was 1x revenues when I pitched it at the Value Investing Congress 15 months – and a 7-bagger – ago.

Note that every one of these 15 companies falls into two categories:

1) 11 are software/internet companies that don’t deliver a physical product – the lightest business models imaginable; or

2) Four have intellectual property (three have patented drugs) that allows them to earn supersize profits (gross margin in the 70-90% range and net margin of 20-30%).

So now let’s apply this framework to 3D Systems Corporation (NYSE:DDD). Re. #1, I’ll grant that 3D printing is a rapidly growing global market, but the company utterly fails characteristics #2 and #3. It’s a highly competitive market with no winner-take-all characteristics (though each company does have some IP) and DDD doesn’t have a particularly light business model (certainly not when compared to the software and internet companies I cite above). (Incidentally, the same analysis holds for Telsa, which I’m also short – it trades at 10.8x sales and is an auto manufacturer!)

In the past 20 years, 3D Systems Corporation (NYSE:DDD)’s gross margin has only crept above 50% in the last two years, and its net margin has actually fallen from its peak of 15.4% in 2011 to 11.0% in 2012 to 9.5% in the last 12 months. This is what investors are playing 21x sales for?!

Mark my words: this will end very badly. I think DDD is maybe worth 2x revenues, so my price target is around $10 – down nearly 90% from here.

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