A 5-Point Checklist for Investing in 3D Printing Stocks

By Markets Fool.com

Image source: Hewlett-Packard.

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According to Wohlers Report 2016, a leading 3D printing insights report, the 3D printing industry generated more than $5.1 billion in worldwide revenue last year, a 25.9% year-over-year increase. By the end of 2020, Wohlers estimates that 3D printing will generate over $21 billion in revenue, an over fourfold increase from 2015 levels.

Before investing in 3D printing and trying capitalize on the expected growth it has to offer, it's important to have a fundamental understanding of the landscape. The following checklist will help you get started.

1. Understand the business model

First and foremost, have a solid understanding of how a 3D printing company makes money, which can differ greatly from one company to another.

For instance, 3D Systems (NYSE: DDD) and Stratasys (NASDAQ: SSYS) primarily operate a razor-and-blades model, where 3D printer sales fuel the usage -- and subsequent sale -- of higher-margin materials over a printer's lifetime.Proto Labs (NYSE: PRLB), on the other hand, is a 3D printing and quick-turn manufacturing service provider that lets customers get 3D printed and manufactured parts made on their behalf.

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While both business models can capitalize on 3D printing's growth, they operate with completely different cost structures that drive profitability.

2. Estimate the market opportunity

Estimating a 3D printing company's market opportunity can be a difficult task. One way to approach it is from the perspective of a business' ability to target use cases. Generally speaking, the more uses that a 3D printing company can cater to, the greater its market opportunity.

In this context, 3D Systems' market opportunity is likely larger than Stratasys'. After all, 3D Systems has seven distinct 3D printing technologies in its portfolio to offer customers, including the ability to 3D print in metal, whereas Stratasys only offers three technologies -- all of them plastic-based.

For a service provider like Proto Labs, its opportunity is directly correlated to the types of technology it adopts and the number of materials it offers customers.

3. Think through differentiation

In order for a 3D printing company to sustain a competitive advantage in the market, it has to be differentiated, which can take on many forms. It could be an innovative technology, business model, process, specialization, or even a high barrier to entry.

One notably differentiated example is Carbon's recently introduced M1 printer, which claims to be anywhere from 25 to 100 times faster than anything before it. Moreover, the M1 can only be acquired through an industry-first subscription model, which requires a three-year, $40,000-per-year minimum commitment. For this price, users get an internet-connected 3D printer (another industry first) that gets better over time through over-the-air updates, in similar fashion to how Tesla Motors releases software updates for its electric vehicles.

4. Size up the competition

The attractive growth prospects of the 3D printing industry has invited new competition, which can undermine an incumbent 3D printing company's competitive positioning. In addition to Carbon, Hewlett-Packard (NYSE: HPQ) plans to enter the 3D printing industry later this year with a homegrown technology that leverages decades of inkjet experience. HP claims its Multi Jet Fusion printer will be 10 times faster than leading technologies on the market today.

Arguably, since Carbon and HP are focused on the plastic segment, Stratasys faces greater competitive pressure from these entrants than 3D Systems, which has a more diversified business model outside of plastic-based 3D printers.

In other words, the threat that competition poses on a 3D printing company should be evaluated on a case-by-case basis.

5. Understand the risks

Much like competitive threats, risks that affect one 3D printing company may not apply to another. At the same time, there are risks that affect the 3D printing industry in general. Overall, it's important to understand the risks that are specific to the company and the industry.

One such "global" risk is the ongoing slowdown in professional and industrial demand that began in early 2015, and has affected virtually every company that caters to the space. Most recently, in the second quarter, 3D Systems' printer sales fell 30% year over year, while Stratasys' printer sales fell 19%.

Another global risk is how a large portion of the 3D printing's expected growth trajectory is based on the technology's continued expansion into manufacturing uses. Although 3D printing offers promise for use in manufacturing, it remains a largely unproven technology in this realm. If 3D printing's adoption in manufacturing uses struggles to gain traction, it could change the growth outlook of the entire industry.

The next step

Between increased competition and improved capabilities, the 3D printing industry is widely expected to change in the coming years. This change is likely to make 3D printing stocks a volatile group for the foreseeable future. Ultimately, these factors increase the importance of continuously monitoring your 3D printing investments for material changes.

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Steve Heller owns shares of 3D Systems, Proto Labs, and Tesla Motors. The Motley Fool owns shares of and recommends Proto Labs and Tesla Motors. The Motley Fool recommends 3D Systems and Stratasys. 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.