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3D SYSTEMS CORP - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations.(Edgar Glimpses Via Acquire Media NewsEdge) This discussion should be read in conjunction with the unaudited condensed consolidated financial statements and the notes thereto included in Item 1 of this Quarterly Report on Form 10-Q ("Form 10-Q"). We are subject to a number of risks and uncertainties that may affect our future performance that are discussed in greater detail in the sections entitled "Forward-Looking Statements" and "Cautionary Statements and Risk Factors" at the end of this Item 2 and that are discussed or referred to in Item 1A of Part II of this Form 10-Q. Business Overview We are a leading global provider of 3D printing centric design-to-manufacturing solutions, including 3D printers, print materials and on-demand custom parts for professionals and consumers alike. Our materials include plastics, metals, ceramics and edibles. We also provide integrated 3D scan-based design, freeform modeling and inspection tools and an integrated 3D planning and printing digital thread for personalized surgery and patient specific medical devices. Our products and services replace and complement traditional methods and reduce the time and cost of designing new products by printing real parts directly from digital input. These solutions are used to rapidly design, create, communicate, prototype or produce functional parts and assemblies, empowering customers to manufacture the future. We derive our consolidated revenue primarily from the sales of our printers, the sales of the related print materials and services, the sales of our Quickparts brand on-demand parts services, 3D-related healthcare products and services, and the sales of software products, perceptual and haptic devices, and Simbionix simulators. Recent Developments In August, we continued to expand our 3D healthcare and personalized medical solutions with the acquisition of Simbionix USA Corporation ("Simbionix"). Simbionix specializes in FDA-cleared, 3D virtual reality surgical simulation and training solutions, with over sixty interventional procedures across eight specialties through sixteen simulation platforms. With a strong sales channel, Simbionix extends our 3D medical digital thread, from training room to operating room. In August, we enhanced our Quickparts services with the acquisitions of Bordner and Associates, Inc. d/b/a Laser Reproductions ("Laser Reproductions"), American Precision Machining, L.L.C. ("APM") and its sister company American Precision Prototyping, LLC ("APP"). These acquisitions bring expertise in SLA, precision machining, rapid prototyping and advanced manufacturing solutions, including aerospace expertise and relationships. In August, we signed a lease on a new 0.2 million square foot facility in Rock Hill, South Carolina, increasing our manufacturing and distribution capacity to meet growing demand for our printers and materials. In September, we acquired LayerWise NV ("LayerWise"), based in Belgium. LayerWise is a provider of advanced direct metal 3D printing and manufacturing services and delivers quick-turn, 3D-printed metal parts, manufactured on its own proprietary line of direct metal 3D printers, for aerospace, high-precision equipment and medical and dental customers. In October, we entered into a $150.0 million five-year revolving, unsecured credit facility (the "Credit Agreement") with PNC Bank, National Association, as Administrative Agent, PNC Capital Markets LLC, as Sole Lead Arranger and Sole Bookrunner, HSBC Bank USA, N.A., as Syndication Agent, and the other lender's party there to. The Credit Agreement comprises a revolving loan facility that provides for advances in the initial aggregate principal amount of up to $150.0 million (the "Credit Facility"). Subject to certain terms and conditions contained in the Credit Agreement, the Company may, at its option and subject to customary conditions, request an increase in the aggregate principal amount available under the Credit Facility by an additional $75.0 million. The Credit Agreement includes provisions for the issuance of letters of credit and swingline loans. In November, we announced that Ted Hull will assume the role of Chief Financial Officer ("CFO"). Hull's career spans more than three decades of progressing financial leadership roles in high-tech companies and sector leaders including Cisco, Maxtor and IBM. In addition, we announced Mark Wright as our Chief Operating Officer ("COO"). Wright has previously served in various related roles, including Senior Vice President of Operations for EMC Corporation (NYSE: EMC) and COO of EMC's Flash Product Division. Other new management positions announced include Peter Theran as Vice-President of Consumer Retail, Kevin McAlea being promoted to Executive Vice-President & COO of Healthcare, and Jeff Blank being promoted to Vice-President, Global Engineering and Chief Development Officer. 19 -------------------------------------------------------------------------------- Results of Operations Summary of 2014 financial results During the third quarter of 2014, we reported improved revenue as compared to the third quarter of 2013 as our worldwide businesses continued to expand, reflecting growth in design and manufacturing printers and materials and increased software and service revenue. Revenue for the third quarter of 2014 increased by 23.0%, or $31.2 million, to $166.9 million compared to $135.7 million in the third quarter of 2013. Higher revenue offset by increased SG&A expenses and higher R&D expenses, resulted in net income of $3.1 million for the third quarter of 2014, compared to net income of $17.7 million for the same period in 2013. Products revenue increased by $13.1 million, or 21.9%, from the third quarter of 2013, to $72.9 million, driven by expanding use and rising demand for our design and manufacturing printers. Materials sales for the third quarter of 2014 were $39.0 million, an increase of $5.8 million, or 17.5%, from the third quarter of 2013 as revenue from materials was impacted by continued expansion of printers installed over past periods and increased utilization of printers. Revenue from services increased by $12.3 million, or 28.9%, to $55.0 million in the third quarter of 2014 from $42.7 million in the same quarter in 2013. The increase in services revenue reflects increased revenue from the addition of healthcare services and higher Quickparts revenue, from organic and acquired growth. We calculate organic growth by comparing this year's total revenue for the period, excluding the revenue recognized from all acquired businesses that we have owned for less than twelve months, to last year's total revenue for the period. Once we have owned a business for one year, the revenue is included in organic growth. Organic growth is calculated based on total revenue for the prior year period. In the third quarter of 2014, our organic growth was 12.2% compared to 29.7% for the third quarter of 2013. For the nine months ended September 30, 2014 and 2013, our organic growth was 16.0% and 27.5%, respectively. Healthcare revenue includes sales of products, materials, and services for health-related applications, including hearing aid, dental, personalized medicine and medical devices. For the third quarter of 2014, healthcare revenue increased 121.4% and made up 22.4%, or $37.4 million, of our total revenue compared to 12.4%, or $16.9 million, in the third quarter of 2013, primarily due to our increased penetration and growth in healthcare applications and the addition of Simbionix, Medical Modeling and Layerwise. During the first nine months of 2014, healthcare revenue increased 73.5% and made up 18.6%, or $86.5 million, of our total revenue compared to 13.9%, or $49.9 million, in the 2013 period. Consumer revenue includes sales of Cube® 3D printers and their related print materials, Sense 3D scanners and other products and services related to consumer products and retail channels. For the third quarter of 2014, consumer revenue decreased 12.5% to $11.8 million, or 7.1% of our total revenue, compared to $13.5 million, or 9.9% of total revenue, in the third quarter of 2013. The decrease was primarily driven by delayed shipments of newer consumer products. During the first nine months of 2014, consumer revenue increased 11.4%, to $28.8 million, or 6.2% of total revenue, compared to $25.8 million, or 7.2% of total revenue, in the 2013 period, driven by expanded consumer offerings and increasing demand. Our gross profit in the third quarter of 2014 improved by $8.4 million, primarily due to our higher level of revenue from increases across products, materials, and services. Our gross profit margin decreased to 47.8% in the third quarter of 2014 from 52.6% in the third quarter of 2013, reflecting current sales mix and timing of sales, availability of new products, and residual new product startup costs. Our total operating expenses increased by $28.7 million in the third quarter of 2014, to $71.6 million, from $42.9 million in the same 2013 quarter. The increase reflected higher selling, general and administrative expenses primarily due to increased sales and marketing expenses and higher staffing due to our expanding portfolio. The increase also reflects a $7.1 million increase in research and development expenses related to our portfolio expansion, new products developments, and the addition of the engineering team in Wilsonville, Oregon. Our operating income for the third quarter of 2014 decreased to $8.2 million from $28.6 million in the same 2013 quarter. This decrease in operating income is due to lower gross profit margin and higher operating expenses as discussed in more detail below. 20 -------------------------------------------------------------------------------- Our operating activities generated $27.9 million of cash during the first nine months of 2014, which is discussed in further detail below. We used $261.9 million to fund our strategic investing activities, including acquisition costs. Financing activities during the first nine months of 2014 generated $307.9 million of cash, primarily due to proceeds from our equity raise in the second quarter of 2014. In total, our unrestricted cash balance at September 30, 2014 was $377.3 million compared to $306.3 million at December 31, 2013. Third quarter comparison of revenue by class of product and service Table 1 sets forth our change in revenue by class of product and services for the third quarter of 2014 compared to the third quarter of 2013: Table 1 (Dollars in thousands) Products Materials Services Total Revenue - 3rd quarter 2013 $ 59,841 44.1 % $ 33,179 24.4 % $ 42,697 31.5 % $ 135,717 100 % Change in revenue: Volume Core 11,364 19.0 14,279 43.0 7,707 18.1 33,350 24.6 New (81) (0.1) 2,368 7.1 4,417 10.3 6,704 4.9 Price/Mix 2,332 3.9 (10,842) (32.7) - - (8,510) (6.3) Foreign currency translation (539) (0.9) 25 0.1 197 0.5 (317) (0.2) Net change 13,076 21.9 5,830 17.5 12,321 28.9 31,227 23.0 Revenue - 3rd quarter 2014 $ 72,917 43.7 % $ 39,009 23.4 % $ 55,018 32.9 % $ 166,944 100 % We earn revenues from the sale of products, materials and services. On a consolidated basis, revenue for the third quarter of 2014 increased by $31.2 million, or 23.0%, compared to the third quarter of 2013, reflecting increases in all classes of products and services. The $13.1 million increase in revenue from products compared to the third quarter of 2013 is driven by increased demand for design and manufacturing printers. In connection with the expansion of our professional and retail channels, certain resellers may purchase stock inventory in the ordinary course of business. For the third quarter of 2014, we estimate that revenue related to reseller inventory amounted to approximately 9% of total revenue, which was impacted by timing of sales, expansion of our reseller channel and the recent shift from a partially direct sales model to the reseller channel selling our entire portfolio, which expanded the volume of transactions through the channel. In addition to printers, the products category includes software products, perceptual and haptic devices, Vidar digitizers and Simbionix simulators. Software revenue contributed $5.1 million of products revenue in both 2014 and 2013. Due to the relatively high price of certain professional printers and a corresponding lengthy selling cycle and relatively low unit volume of the higher priced professional printer sales in any particular period, a shift in the timing and concentration of orders and shipments from one period to another can affect reported revenue in any given period. Revenue reported in any particular period is also affected by timing of revenue recognition under rules prescribed by generally accepted accounting principles. The $5.8 million increase in revenue from materials was aided by the improvement in sales of 3D printers and the increased utilization of printers installed over past periods. Sales of integrated materials increased 17.0% to $28.2 million and represented 72.4% of total materials revenue in the third quarter of 2014 compared to 72.6% in the third quarter of 2013. The increase in services revenue primarily reflects the addition of Medical Modeling and Simbionix revenue and organic and acquired growth from our Quickparts solutions, coupled with growing consumer and software services. Service revenue from Quickparts increased 15.2% to $32.3 million, or 58.7% of total service revenue, for the third quarter of 2014, compared to $28.0 million, or 65.7%, of total service revenue in the 2013 period. Software services contributed $3.7 million of revenue in the third quarter of 2014 compared to $1.9 million in the third quarter of 2013. 21 -------------------------------------------------------------------------------- At September 30, 2014 our backlog was $46.0 million, compared to backlogs of $28.6 million at December 31, 2013 and $14.4 million at September 30, 2013. Production and delivery of our printers is generally not characterized by long lead times, backlog is more dependent on timing of customers' requested deliveries. Currently, demand for direct metals printers outstrips our manufacturing capacity and delayed commercial shipment of new consumer products with a rising consumer order book contributed to a higher backlog. In addition, Quickparts services lead time and backlog depends on whether orders are for rapid prototyping or longer-range production runs. The backlog at September 30, 2014 includes $11.5 million of Quickparts services orders, compared to $8.7 million at September 30, 2013. In addition to changes in sales volumes, including the impact of revenue from acquisitions, there are two other primary drivers of changes in revenues from one period to another: the combined effect of changes in product mix and average selling prices, sometimes referred to as price and mix effects, and the impact of fluctuations in foreign currencies. As used in this Management's Discussion and Analysis, the price and mix effects relate to changes in revenue that are not able to be specifically related to changes in unit volume. Among these changes are changes in the product mix of our materials and our printers as the trend toward smaller, lower-priced printers has continued and the influence of new printers and print materials on our operating results has grown. Change in third quarter revenue by geographic region Each geographic region contributed to our higher revenue in the third quarter of 2014. Table 2 sets forth the change in revenue by geographic area for the third quarter of 2014 compared to the third quarter of 2013: Table 2 (Dollars in thousands) Americas EMEA Asia Pacific Total Revenue - 3rd quarter 2013 $ 74,427 54.9 % $ 32,767 24.1 % $ 28,523 21.0 % $ 135,717 100 % Change in revenue: Volume 19,021 25.6 19,238 58.7 1,795 6.3 40,054 29.5 Price/Mix (2,456) (3.3) (4,831) (14.7) (1,223) (4.3) (8,510) (6.3) Foreign currency translation - - 33 0.1 (350) (1.2) (317) (0.2) Net change 16,565 22.3 14,440 44.1 222 0.8 31,227 23.0 Revenue - 3rd quarter 2014 $ 90,992 54.5 % $ 47,207 28.3 % $ 28,745 17.2 % $ 166,944 100 % Revenue from operations in the Americas for the third quarter of 2014 increased by $16.6 million, or 22.3%, to $91.0 million from $74.4 million in the third quarter of 2013. The increase was due to higher volume, partially offset by the unfavorable combined effect of price and mix. Revenue from operations outside the Americas in the third quarter of 2014 increased by $14.7 million, or 23.9%, to $76.0 million from $61.3 million in the third quarter of 2013. Revenue from operations outside the Americas as a percent of total revenue was 45.5% and 45.2%, at September 30, 2014 and 2013, respectively. This increase outside the Americas, excluding the effect of foreign currency translation, was 23.4% in the third quarter of 2014 compared to 48.2% in the third quarter of 2013. Revenue from operations in EMEA in the third quarter of 2014 increased by $14.4 million, or 44.1%, to $47.2 million from $32.8 million in the third quarter of 2013. This increase was due to a $19.2 million increase in volume, partially offset by a $4.8 million unfavorable combined effect of price and mix. Revenue from Asia Pacific operations in the third quarter of 2014 increased by $0.2 million, or 0.8%, to $28.7 million from $28.5 million in the third quarter of 2013, due primarily to a favorable $1.8 million increase in volume, partially offset by a $1.2 million unfavorable combined effect of price and mix and a $0.4 million unfavorable impact of foreign currency translation. 22 --------------------------------------------------------------------------------Gross profit and gross profit margins Table 3 sets forth gross profit and gross profit margins for our products and services for the third quarters of 2014 and 2013: Table 3 Quarter Ended September 30, 2014 2013 Gross Gross Profit Profit (Dollars in thousands) Gross Profit Margin Gross Profit Margin Products $ 25,769 35.3 % $ 26,933 45.0 % Materials 28,530 73.1 24,481 73.8 Services 25,499 46.3 20,023 46.9 Total $ 79,798 47.8 % $ 71,437 52.6 % On a consolidated basis, gross profit for the third quarter of 2014 increased by $8.4 million to $79.8 million from $71.4 million in the third quarter of 2013, primarily as a result of higher sales from all revenue categories. Consolidated gross profit margin in the third quarter of 2014 decreased by 4.8 percentage points to 47.8% from 52.6% for the 2013 quarter. The lower gross profit margin reflects a change in revenue mix with a higher portion of revenue from lower margin products, both overall and within categories, as well as availability of new products and new product startup costs. Products gross profit for the third quarter of 2014 decreased by $1.1 million, or 4.3%, to $25.8 million from $26.9 million in the 2013 quarter. Gross profit margin for products decreased by 9.7 percentage points to 35.3% from 45.0% in the 2013 quarter primarily due to sales volume and mix coupled with manufacturing expansion and residual new product start-up costs. Materials gross profit for the third quarter of 2014 increased by $4.0 million, or 16.5%, to $28.5 million from $24.5 million in the 2013 quarter, and gross profit margin for print materials decreased by 0.7 percentage points to 73.1% from 73.8% in the 2013 quarter primarily due to the mix of materials sold during the quarter. Gross profit for services for the third quarter of 2014 increased by $5.5 million, or 27.3%, to $25.5 million from $20.0 million in the 2013 quarter. Gross profit margin for services decreased by 0.6 percentage points to 46.3% from 46.9% in the 2013 quarter. The decrease in the gross profit margin was primarily due to a decrease in Quickparts gross profit margin to 44.7% for the third quarter of 2014 from 45.1% in the third quarter of 2013, due to the recent concentration of acquired Quickparts services. Operating expenses As shown in Table 4, total operating expenses increased by $28.7 million, or 67.0%, to $71.6 million in the third quarter of 2014 from $42.9 million in the third quarter of 2013. This increase was due to higher selling, general and administrative expenses and higher research and development expenses, both of which are discussed below. Table 4 Quarter Ended September 30, 2014 2013 (Dollars in thousands) Amount % Revenue Amount % Revenue Selling, general and administrative expenses $ 53,656 32.1 % $ 32,054 23.6 % Research and development expenses 17,934 10.7 10,813 8.0 Total operating expenses $ 71,590 42.8 % $ 42,867 31.6 % Selling, general and administrative expenses increased by $21.6 million to $53.7 million in the third quarter of 2014 compared to $32.1 million in the third quarter of 2013, and increased to 32.1% of revenue in 2014 compared to 23.6% for 2013. The increase was due primarily to a $10.3 million increase in compensation costs due to increased staffing, a $4.9 million increase in amortization, a $1.3 million increase in legal fees, a $1.0 million increase in travel expenses and a $0.8 million increase in consulting fees related to acquisitions. 23 -------------------------------------------------------------------------------- Research and development expenses increased by $7.1 million, or 65.9%, to $17.9 million in the third quarter of 2014 from $10.8 million in the third quarter of 2013. This increase was primarily due to a $3.7 million increase in compensation expenses related to talent expansion, a $0.9 million increase in R&D materials related to new product development and a $0.5 million increase in depreciation expense. Income from operations Our income from operations of $8.2 million for the third quarter of 2014 decreased from $28.6 million in the third quarter of 2013. See Gross profit and gross profit margins and Operating expenses above. The following table sets forth operating income by geographic area for the third quarter of 2014 compared to 2013: Table 5 Quarter Ended September 30, (Dollars in thousands) 2014 2013 Income (loss) from operations Americas $ (767) $ 17,833 Germany 1,299 (56) Other EMEA 643 1,601 Asia Pacific 7,136 9,309 Subtotal 8,311 28,687 Inter-segment elimination (103) (117) Total $ 8,208 $ 28,570 With respect to the Americas, in 2014 and 2013, the changes in operating income by geographic area reflected the same factors discussed above in Gross profit and gross profit margins and Operating expenses. As most of our operations outside the U.S. are conducted through sales and marketing subsidiaries, the changes in operating income in our operations outside the U.S. in 2014 and 2013 resulted primarily from changes in transfer pricing, which is a function of revenue levels. Interest and other expense, net Interest and other expense, net was $4.0 million in the third quarter of 2014 compared with $2.7 million in the 2013 quarter. Interest and other expense, net in the third quarter of 2014 primarily reflected a loss on conversion of the remaining convertible notes, which amounted to $1.8 million, and a foreign exchange loss of $1.7 million. The $2.7 million of interest and other expense, net in the third quarter of 2013 primarily reflected the loss on conversion of convertible notes, which amounted to $2.0 million and the related interest, which amounted to $0.4 million, of which $0.1 million represents non-cash amortization, partially offset by $1.1 million of interest income and a foreign exchange gain of $0.5 million. Provision for income taxes We recorded a $1.1 million provision for income taxes in the third quarter of 2014 and an $8.3 million provision for income taxes in the third quarter of 2013. Our 2014 provision for income taxes reflects income taxes in U.S. and non-U.S. jurisdictions. The 2013 provision for income taxes primarily reflects income taxes in U.S. and non-U.S. jurisdictions, reduced by the reversal of ASC-740 provisions in non-US jurisdictions. Net income Net income attributable to the Company for the third quarter of 2014 decreased $14.6 million to $3.1 million compared to $17.7 million in the third quarter of 2013. The principal reasons for the decrease, which are discussed in more detail above, were: • the $20.4 million decrease in operating income and • the $1.3 million increase in interest and other expense; partially offset by • the $7.2 million decrease in our tax provision. 24 -------------------------------------------------------------------------------- For the quarter ended September 30, 2014, average common shares for basic and diluted earnings per share were 110.7 million and basic and diluted earnings per share were $0.03. For the quarter ended September 30, 2013, average common shares for basic and diluted earnings per share were 102.4 million and basic and diluted earnings per share were $0.17. Results of Operations - Nine Months Comparison Nine months comparison of revenue by class of product and service The table below sets forth our change in revenue by class of product and service for the first nine months of 2014 compared to the first nine months of 2013: Table 6 (Dollars in thousands) Products Materials Services Total Revenue - nine months 2013 $ 153,754 42.9 % $ 91,183 25.4 % $ 113,646 31.7 % $ 358,583 100 % Change in revenue: Volume Core 17,405 11.3 23,014 25.2 25,612 22.5 66,031 18.4 New 22,433 14.6 15,761 17.3 12,716 11.2 50,910 14.2 Price/Mix 1,241 0.8 (13,426) (14.7) - - (12,185) (3.4) Foreign currency translation 785 0.5 954 1.0 1,136 1.0 2,875 0.8 Net change 41,864 27.2 26,303 28.8 39,464 34.7 107,631 30.0 Revenue - nine months 2014 $ 195,618 42.0 % $ 117,486 25.2 % $ 153,110 32.8 % $ 466,214 100 % We earn revenues from the sale of products, materials and services. On a consolidated basis, revenue for the first nine months of 2014 increased by $107.6 million, or 30.0%, compared to the first nine months of 2013 led by increased sales of products and aided by increased sales of materials and services. The $41.9 million increase in revenue from products compared to the first nine months of 2013 was primarily driven by increased demand for design and manufacturing 3D printers. The products category also includes software products, perceptual and haptic devices, Vidar digitizers and Simbionix simulators. Software products contributed $13.8 million of revenue, a 3.6% decrease from $14.3 million in 2013. Due to the relatively high price of certain professional printers and a corresponding lengthy selling cycle and relatively low unit volume of the higher priced professional printer sales in any particular period, a shift in the timing and concentration of orders and shipments of a few printers from one period to another can affect reported revenue in any given period. Revenue reported in any particular period is also affected by timing of revenue recognition under rules prescribed by generally accepted accounting principles. The $26.3 million increase in revenue from materials was aided by the expanding 3D printers installed base and by the continued increased utilization of printers over past periods. Sales of integrated materials increased 41.4% to $84.7 million and represented 72.1% of total materials revenue for the first nine months of 2014 compared to 70.2%, or $64.0 million for the first nine months of 2013. The increase in services revenue reflects the addition of Medical Modeling and Simbionix revenue and organic and acquired revenue growth from Quickparts, coupled with growing consumer and software services. Service revenue from Quickparts increased 23.8% to $89.9 million, or 58.7% of total service revenue, for the first nine months of 2014, compared to $72.6 million, or 63.9%, of total service revenue in the 2013 period. Services revenue from software added $11.2 million in the first nine months of 2014 compared to $4.6 million in the first nine months of 2013. In addition to changes in sales volumes, including the impact of revenue from acquisitions, there are two other primary drivers of changes in revenues from one period to another: the combined effect of changes in product mix and average selling prices, sometimes referred to as price and mix effects, and the impact of fluctuations in foreign currencies. 25 -------------------------------------------------------------------------------- As used in this Management's Discussion and Analysis, the price and mix effects relate to changes in revenue that are not able to be specifically related to changes in unit volume. Among these changes are changes in the product mix of our materials and our printers as the trend toward smaller, lower-priced printers has continued and the influence of new printers and print materials on our operating results has grown. Change in first nine months revenue by geographic region Each geographic region contributed to our higher level of revenue in the first nine months of 2014. Table 7 sets forth the change in revenue by geographic area for the first nine months of 2014 compared to the first nine months of 2013: Table 7 (Dollars in thousands) Americas EMEA Asia Pacific Total Revenue - nine months 2013 $ 199,450 55.6 % $ 93,202 26.0 % $ 65,931 18.4 % $ 358,583 100 % Change in revenue: Volume 42,842 21.5 40,038 43.0 34,061 51.7 116,941 32.6 Price/Mix (4,373) (2.2) (1,004) (1.1) (6,808) (10.3) (12,185) (3.4) Foreign currency translation - - 4,550 4.9 (1,675) (2.5) 2,875 0.8 Net change 38,469 19.3 43,584 46.8 25,578 38.9 107,631 30.0 Revenue - nine months 2014 $ 237,919 51.0 % $ 136,786 29.3 % $ 91,509 19.7 % $ 466,214 100 % Revenue from operations in the Americas for the first nine months of 2014 increased by $38.4 million, or 19.3%, to $237.9 million from $199.5 million in the first nine months of 2013. The increase was due to higher volume, partially offset by the unfavorable combined effect of price and mix. Revenue from operations outside the Americas in the first nine months of 2014 increased by $69.2 million, or 43.5%, to $228.3 million from $159.1 million for the first nine months of 2013. Revenue from operations outside the Americas as a percent of total revenue was 49.0% and 44.4%, respectively, for the first nine months of 2014 and 2013. The increase in revenue outside the Americas, excluding the effect of foreign currency translation, was 40.4% for the first nine months of 2014 compared to 45.2% for the first nine months of 2013. Revenue from operations in EMEA in the first nine months of 2014 increased by $43.6 million, or 46.8%, to $136.8 million from $93.2 million in the first nine months of 2013. This increase was due to a $40.0 million increase in volume, a $4.6 million favorable impact of foreign currency translation, and a $1.0 million unfavorable combined effect of price and mix. Revenue from Asia Pacific operations in the first nine months of 2014 increased by $25.6 million, or 38.9%, to $91.5 million from $65.9 million in the first nine months of 2013, due primarily to a favorable $34.1 million increase in volume, partially offset by a $6.8 million unfavorable combined effect of price and mix and a $1.7 million unfavorable impact of foreign currency translation. Gross profit and gross profit margins Table 8 sets forth gross profit and gross profit margin for our products and services for the first nine months of 2014 and 2013: Table 8 Nine Months Ended September 30, 2014 2013 Gross Gross Profit Profit (Dollars in thousands) Gross Profit Margin Gross Profit Margin Products $ 72,065 36.8 % $ 69,463 45.2 % Materials 85,364 72.7 66,907 73.4 Services 70,239 45.9 51,127 45.0 Total $ 227,668 48.8 % $ 187,497 52.3 % On a consolidated basis, gross profit for the first nine months of 2014 increased by $40.2 million to $227.7 million from $187.5 million in the first nine months of 2013, primarily as a result of higher sales from all revenue categories. 26 -------------------------------------------------------------------------------- Consolidated gross profit margin in the first nine months of 2014 decreased by 3.5 percentage points to 48.8% from 52.3% for the 2013 period. The lower gross profit margin reflects the revenue mix, with lower margin products making up a higher portion of revenue, combined with new product startup costs and absorption of legacy product costs. Products gross profit for the first nine months of 2014 increased by $2.6 million, or 3.7%, to $72.1 million from $69.5 million in the 2013 period, due to higher revenue. Gross profit margin for products decreased by 8.4 percentage points to 36.8% from 45.2% in the 2013 period primarily due to product sales mix with lower margin products making up a higher portion of revenue coupled with manufacturing expansion and residual new product start-up costs and a write down on inventory of legacy products in the second quarter. Materials gross profit for the first nine months of 2014 increased by $18.5 million, or 27.6%, to $85.4 million from $66.9 million in the 2013 period, and gross profit margin for print materials decreased by 0.7 percentage points to 72.7% from 73.4% in the 2013 period due to the mix of materials sold during the period and the increase in integrated materials sales. Gross profit for services for the first nine months of 2014 increased by $19.1 million, or 37.4%, to $70.2 million from $51.1 million in the 2013 period and gross profit margin for services increased by 0.9 percentage points to 45.9% from 45.0% in the 2013 period. The increase in the gross profit margin was due to the higher margin acquisitions of Simbionix and Medical Modeling services, higher software contribution, and an increase in Quickparts gross profit margin to 43.2% for the first nine months of 2014 from 42.9% in the first nine months of 2013. Operating expenses As shown in Table 9, total operating expenses increased by $81.0 million, or 65.0%, to $205.6 million in the first nine months of 2014 from $124.6 million in the first nine months of 2013. This increase was due to higher selling, general and administrative expenses and higher research and development expenses, both of which are discussed below. Table 9 Nine Months Ended September 30, 2014 2013 (Dollars in thousands) Amount % Revenue Amount % Revenue Selling, general and administrative expenses $ 152,698 32.8 % $ 97,697 27.2 % Research and development expenses 52,883 11.3 26,915 7.5 Total operating expenses $ 205,581 44.1 % $ 124,612 34.7 % Selling, general and administrative expenses increased by $55.0 million to $152.7 million in the first nine months of 2014 compared to $97.7 million in the first nine months of 2013, and increased to 32.8% of revenue in 2014 compared to 27.2% for 2013. The increase was due primarily to a $26.4 million increase in compensation costs due to increased staffing, a $13.3 million increase in amortization, a $2.4 million increase in consulting fees, a $1.5 million increase in legal fees and a $1.3 million increase in travel expenses. Research and development expenses increased by $26.0 million, or 96.5%, to $52.9 million in the first nine months of 2014 from $26.9 million in the first nine months of 2013. This increase was primarily due to a $12.3 million increase in compensation expenses related to talent expansion, a $4.0 million increase in R&D materials related to new product development, a $1.3 million increase in depreciation expense and a $1.1 million increase in rent expense. Income from operations Our income from operations of $22.1 million for the first nine months of 2014 decreased from $62.9 million in the first nine months of 2013. See Gross profit and gross profit margins and Operating expenses above. 27 --------------------------------------------------------------------------------The following table sets forth operating income by geographic area for the first nine months of 2014 compared to 2013: Table 10 Nine Months Ended September 30, (Dollars in thousands) 2014 2013 Income (loss) from operations Americas $ (9,833) $ 40,745 Germany 1,947 287 Other EMEA 5,168 3,602 Asia Pacific 25,658 19,102 Subtotal 22,940 63,736 Inter-segment elimination (853) (851) Total $ 22,087 $ 62,885 With respect to the Americas, in 2014 and 2013, the changes in operating income by geographic area reflected the same factors discussed above in Gross profit and gross profit margins and Operating expenses. As most of our operations outside the U.S. are conducted through sales and marketing subsidiaries, the changes in operating income in our operations outside the U.S. in 2014 and 2013 resulted primarily from changes in transfer pricing, which is a function of revenue levels. Interest and other expense, net Interest and other expense, net was $6.5 million in the first nine months of 2014 compared with $15.4 million in the 2013 period. Interest and other expense, net in the first nine months of 2014 primarily reflected a foreign exchange loss of $3.1 million, a loss on conversion of the remaining convertible notes and the related interest, which amounted to $1.8 million, and interest expense of $1.0 million. The $15.4 million of interest and other expense, net in the first nine months of 2013 primarily reflected the loss on conversion of convertible notes, which amounted to $11.3 million and the related interest, which amounted to $2.6 million, of which $0.9 million represents non-cash amortization, and also reflected a foreign exchange loss of $0.3 million. Provision for income taxes We recorded a $5.4 million provision for income taxes in the first nine months of 2014 and a $14.6 million provision for income taxes in the first nine months of 2013. Our 2014 provision for income taxes reflects income taxes in U.S. and non-U.S. jurisdictions. The 2013 provision for income taxes primarily reflects income taxes in U.S. and non-U.S. jurisdictions, reduced by the reversal of ASC-740 provisions in non-U.S. jurisdictions. Net income Net income attributable to the Company for the first nine months of 2014 decreased $22.8 million to $10.1 million compared to $32.9 million in the first nine months of 2013. The principal reasons for the decrease, which are discussed in more detail above, were: • the $40.8 million decrease in operating income; partially offset by • the $8.9 million decrease in interest and other expense and • the $9.3 million decrease in our provision for income taxes. For the nine months ended September 30, 2014, average common shares for basic and diluted earnings per share were 106.9 million and basic and diluted earnings per share were $0.09. For the nine months ended September 30, 2013, average common shares for basic and diluted earnings per share were 96.9 million and basic and diluted earnings per share were $0.34. 28 -------------------------------------------------------------------------------- Other Financial Information In addition to our results determined under U.S. generally accepted accounting principles ("GAAP") discussed above, management believes non-GAAP financial measures, which adjust net income and earnings per share are useful to investors in evaluating our operating performance. We use non-GAAP financial measures of adjusted net income and adjusted earnings per share to supplement our unaudited condensed consolidated financial statements presented on a GAAP basis to facilitate a better understanding of the impact that several strategic acquisitions had on our financial results. These non-GAAP financial measures have not been prepared in accordance with GAAP and may be different from non-GAAP financial measures used by other companies and they are subject to inherent limitations as they reflect the exercise of judgments by our management about which costs, expenses and other items are excluded from our GAAP financial statements in determining our non-GAAP financial measures. We have sought to compensate for these limitations by analyzing current and expected future results on a GAAP basis as well as a non-GAAP basis and also by providing GAAP financial statements as required in our public disclosures as well as reconciliations of our non-GAAP financial measures of adjusted net income and adjusted earnings per share to our GAAP financial statements. The presentation of our non-GAAP financial measures which adjust net income and earnings per share are not meant to be considered in isolation or as a substitute for the directly comparable financial measures prepared in accordance with GAAP. These non-GAAP financial measures are meant to supplement, and be viewed in conjunction with, GAAP financial measures. We urge investors to review the reconciliation of our non-GAAP financial measures to the comparable GAAP financial measures included below, and not to rely on any single financial measure to evaluate our business. Our non-GAAP financial measures, which adjust net income and earnings per share, are adjusted for the following: · Non-cash stock-based compensation expenses. We exclude the tax-effected stock-based compensation expenses from operating expenses primarily because they are non-cash. · Amortization of intangibles. We exclude the tax-effected amortization of intangible assets from our cost of sales and operating expenses. The increase in recent periods is primarily in connection with acquisitions of businesses. · Acquisition and severance expenses. We exclude the tax-effected charges associated with the acquisition of businesses and the related severance expenses from our operating expenses. · Non-cash interest expenses. We exclude tax-effected non-cash interest expenses, primarily related to the costs associated with our senior convertible notes, from interest and other expenses, net. · Loss on convertible notes. We exclude the tax-effected loss on conversion of convertible notes from interest and other expenses, net. · Net loss on litigation and tax settlements. We exclude the tax-effected net gain or loss on acquisitions and litigation settlements from interest and other expense, net. 29 --------------------------------------------------------------------------------Reconciliation of GAAP Net Income to Non-GAAP Financial Measures Table 11 Quarter Ended September 30, Nine Months Ended September 30, (in thousands, except per share amounts) 2014 2013 2014 2013 GAAP net income attributable to 3D Systems Corporation $ 3,084 $ 17,657 $ 10,086 $ 32,883 Cost of sales adjustments: Amortization of intangibles 74 65 209 190 Operating expense adjustments: Amortization of intangibles 11,032 6,141 28,301 14,912 Acquisition and severance expenses 1,441 655 4,836 5,357 Non-cash stock-based compensation expense 8,099 3,118 23,738 8,464 Interest and other expense adjustments: Non-cash interest expense 31 127 225 880 Loss on convertible notes 1,806 2,022 1,806 11,275 Net loss on litigation and tax settlements - 457 - 2,457 Tax effect (5,887) (4,027) (17,839) (12,402) Non-GAAP net income $ 19,680 $ 26,215 $ 51,362 $ 64,016 Non-GAAP basic and diluted earnings per share $ 0.18 $ 0.26 $ 0.48 $ 0.66 Financial Condition and Liquidity Table 12 September 30, December 31, (Dollars in thousands) 2014 2013 Cash and cash equivalents $ 377,335 $ 306,316 Working capital $ 537,224 $ 416,399 Total stockholders' equity attributable to 3D Systems Corporation $ 1,302,375 $ 932,646 Our unrestricted cash and cash equivalents increased by $71.0 million to $377.3 million at September 30, 2014 from $306.3 million at December 31, 2013. We generated $27.9 million of cash from operating activities. Cash from operations consisted of $10.2 million of net income, including $50.8 million of non-cash charges and $33.1 million of cash used by net changes in operating accounts. We used $261.9 million of cash in investing activities, including $244.3 million to fund acquisitions and other investing activities. Cash from financing activities provided $307.9 million of cash, including $299.7 million of net proceeds from our common stock offering completed in May 2014. See Cash flow and Capitalized lease obligations below. Cash and cash equivalents at September 30, 2014 includes $45.9 million of cash held overseas, compared to $19.9 million at December 31, 2013. Cash held overseas is used in our foreign operations for working capital purposes and is considered to be permanently invested; consequently, we have not provided for any taxes on repatriation. Cash equivalents comprise funds held in money market instruments and are reported at their current carrying values, which approximate fair value due to the short-term nature of these instruments. We minimize our credit risk by investing primarily in investment grade, liquid instruments and limit exposure to any one issuer depending on credit quality. Our net working capital increased by $120.8 million to $537.2 million at September 30, 2014 from $416.4 million at December 31, 2013, primarily due to the factors discussed below. Accounts receivable, net, increased by $23.4 million to $155.5 million at September 30, 2014 from $132.1 million at December 31, 2013. Gross accounts receivable increased by $28.1 million from December 31, 2013. With a greater portion of our revenue mix shifting to resellers and retailers, as part of our planned business model evolution, a larger proportion of our sales are transacted on standard credit terms. The effect of this shift in our business model was exacerbated by the combined effect of the timing and concentration of orders during the last month of the quarter as a result of increasing demand, which has driven days sales outstanding to 86 days at September 30, 2014 from 79 days at December 31, 2013. Accounts receivable more than 90 days past due increased to 12.0% of gross receivables from 9.1% at December 31, 2013. 30 -------------------------------------------------------------------------------- Inventories, net increased by $29.8 million to $104.9 million at September 30, 2014 from $75.1 million at December 31, 2013. This increase resulted primarily from an expanding product portfolio, acquired inventory, timing of orders, assembly production, and sales and revenue recognition at quarter-end. The increase in inventory reflects a $20.7 million increase in raw materials inventory and a $9.3 million increase in finished goods inventory. We maintained $6.4 million of inventory reserves at September 30, 2014 and $4.3 million of such reserves at December 31, 2013. The majority of our inventory consists of finished goods, including products, materials and service parts. Inventory also consists of raw materials and spare parts for the in-house assembly and support service products. We outsource the assembly and refurbishment of certain production printers; therefore, we generally do not hold in inventory most parts for production printer assembly or refurbishment. Prepaid expenses and other current assets increased by $7.2 million to $14.4 million at September 30, 2014 from $7.2 million at December 31, 2013. This increase is primarily due to prepaid materials and insurance. The changes in the first nine months of 2014 that make up the other components of working capital not discussed above arose in the ordinary course of business. Differences between the amounts of working capital item changes in the cash flow statement and the balance sheet changes for the corresponding items are primarily the result of foreign currency translation adjustments. We have relied on our unrestricted cash, cash flow from operations and capital markets transactions to meet our cash requirements for working capital, capital expenditures and acquisitions; however, it is possible that we may need to raise additional funds to finance our activities beyond the next twelve months or to consummate significant acquisitions of other businesses, assets, products or technologies. If needed, we may be able to raise such funds by issuing equity or debt securities to the public or selected investors, or by borrowing from financial institutions, selling assets or restructuring debt. Cash flow The table below summarizes the cash provided by or used in operating activities, investing activities and financing activities, as well as the effect of changes in foreign currency exchange rates on cash, for the first nine months of 2014 and 2013. Table 13 Nine Months Ended September 30, 2014 2013 (Dollars in thousands) Cash provided by operating activities $ 27,898 $ 28,522 Cash used in investing activities (261,920) (122,518) Cash provided by financing activities 307,885 284,717 Effect of exchange rate changes on cash (2,844) (1,224) Net increase in cash and cash equivalents $ 71,019 $ 189,497 Cash flow from operating activities For the nine months ended September 30, 2014, our operating activities provided $27.9 million of net cash. This source of cash consisted primarily of net income plus the effects of non-cash items and changes in working capital, which are described above. Our cash from operations fluctuates from quarter to quarter due to the timing of transactions and receipts and payments of cash. For the nine months ended September 30, 2013, our operating activities provided $28.5 million of net cash. This source of cash consisted primarily of net income plus the effects of non-cash items and changes in working capital. 31 --------------------------------------------------------------------------------Cash flow from investing activities Net cash used in investing activities for the first nine months of 2014 increased to $261.9 million from $122.5 million for the first nine months of 2013. This increase was primarily due to $244.3 million of cash paid for acquisitions in the first nine months of 2014 compared to $113.1 million paid for acquisitions in the 2013 period. Cash flow used in investing activities also includes minority investments of less than 20% made through 3D Ventures in promising enterprises that we believe will benefit from or be powered by our technologies and other investments or joint ventures. During the first nine months of 2014, we invested $0.3 million in these enterprises and ventures. Cash flow from financing activities Net cash provided by financing activities increased to $307.9 million for the nine months ended September 30, 2014 compared to $284.7 million in the 2013 period. Cash from financing activities for the first nine months of 2014 primarily included $299.7 million net proceeds from a common stock offering and $6.9 million of tax benefits from share-based payment arrangements. Cash from financing activities for the nine months ended September 30, 2013 included $272.1 million net proceeds from a common stock offering, $15.9 million of tax benefits from share-based payment arrangements, $0.5 million of stock-based compensation proceeds, partially offset by $0.2 million of cash paid in lieu of fractional shares and $3.7 million of capital lease payments. Contractual commitments and off-balance sheet arrangements Debt In November 2011, the Company issued $152.0 million of 5.50% senior convertible notes due December 2016. The notes were issued with an effective yield of 5.96% based upon an original issue discount at 98.0%. The net proceeds from the issuance of these notes, after deducting original issue discount and capitalized issuance costs of $6.6 million, amounted to $145.4 million. As of September 30, 2014, there is no outstanding balance for the Notes. All remaining Notes were converted during the third quarter of 2014, resulting in a loss of $1.8 million. See Note 8 to the unaudited condensed consolidated financial statements. Capitalized lease obligations Our capitalized lease obligations include lease agreements that we entered into during 2006 with respect to our Rock Hill facility and lease agreements assumed in the LayerWise acquisition. Our total capitalized lease obligations increased to $9.7 million at September 30, 2014 from $7.5 million at December 31, 2013 primarily due to the acquired $2.3 million of capital lease obligations in connection with the LayerWise acquisition, consisting of sale and leasebacks on laser-melting machines internally produced by LayerWise and used in their business. Our outstanding capitalized lease obligations carrying values at September 30, 2014 and December 31, 2013 were as follows: Table 14 September 30, (Dollars in thousands) 2014 December 31, 2013 Capitalized lease obligations: Current portion of capitalized lease obligations $ 554 $ 187 Capitalized lease obligations, long-term portion 9,117 7,277 Total capitalized lease obligations $ 9,671 $ 7,464 Other contractual arrangements Certain of our recent acquisitions contain earnout provisions under which the sellers of the acquired businesses can earn additional amounts. The total amount of liabilities recorded for these earnouts at September 30, 2014 and December 31, 2013 was $8.9 million and $5.6 million, respectively. As of September 30, 2014, we have supply commitments related to printer assemblies that total $55.5 million compared to $41.1 million at December 31, 2013. 32 --------------------------------------------------------------------------------Off-balance sheet arrangements We have no off-balance sheet arrangements and do not utilize any "structured debt," "special purpose," or similar unconsolidated entities for liquidity or financing purposes. Financial instruments We conduct business in various countries using both the functional currencies of those countries and other currencies to effect cross border transactions. As a result, we are subject to the risk that fluctuations in foreign exchange rates between the dates that those transactions are entered into and their respective settlement dates will result in a foreign exchange gain or loss. When practicable, we endeavor to match assets and liabilities in the same currency on our balance sheet and those of our subsidiaries in order to reduce these risks. We also, when we consider it to be appropriate, enter into foreign currency contracts to hedge exposures arising from those transactions. We do not hedge or trade for speculative purposes, and our foreign currency contracts are generally short-term in nature, typically maturing in 90 days or less. We have elected not to prepare and maintain the documentation to qualify for hedge accounting treatment under ASC 815, "Derivatives and Hedging," and therefore, we recognize all gains and losses (realized or unrealized) in interest and other expense, net in our unaudited condensed consolidated statements of operations and comprehensive income (loss). There were no foreign exchange contracts at September 30, 2014 or December 31, 2013. See Note 7 of the unaudited condensed consolidated financial statements. Changes in the fair value of derivatives are recorded in interest and other expense, net, in our unaudited condensed consolidated statements of operations and comprehensive income. Depending on their fair value at the end of the reporting period, derivatives are recorded either in prepaid and other current assets or in accrued liabilities in our unaudited condensed consolidated balance sheets. The total impact of foreign currency related items on our unaudited condensed consolidated statements of operations and comprehensive income (loss) was a $3.1 million loss for the nine months ended September 30, 2014 and a $0.3 million loss for the nine months ended September 30, 2013 and a $9.1 million decrease in other comprehensive income for the nine months ended September 30, 2014 compared to a $5.7 million decrease in other comprehensive income for the first nine months of 2013. Recent Accounting Pronouncements For information with respect to recent accounting pronouncements and the impact of these pronouncements on our unaudited condensed consolidated financial statements, see Note 1 to the unaudited condensed consolidated financial statements. Critical Accounting Policies and Significant Estimates For a discussion of our critical accounting policies and estimates, refer to "Management's Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Policies and Significant Estimates" in our Annual Report on Form 10-K for the year ended December 31, 2013. Forward-Looking Statements Certain statements made in this Form 10-Q that are not statements of historical or current facts are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include the cautionary statements and risk factors set forth below as well as other statements made in the Form 10-Q that may involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from historical results or from any future results expressed or implied by such forward-looking statements. In addition to statements that explicitly describe such risks and uncertainties, readers are urged to consider statements in future or conditional tenses or that include terms such as "believes," "belief," "expects," "intends," "anticipates" or "plans" to be uncertain and forward-looking. Forward-looking statements may include comments as to our beliefs and expectations as to future events and trends affecting our business. Forward-looking statements are based upon management's current expectations concerning future events and trends and are necessarily subject to uncertainties, many of which are outside of our control. The factors stated under the heading "Cautionary Statements and Risk Factors" set forth below and those described in our other SEC reports, including our Form 10-K for the year ended December 31, 2013, as well as other factors, could cause actual results to differ materially from those reflected or predicted in forward-looking statements. 33 --------------------------------------------------------------------------------Any forward-looking statements are based on management's beliefs and assumptions, using information currently available to us. We assume no obligation and do not intend to update these forward-looking statements. If one or more of these or other risks or uncertainties materialize, or if our underlying assumptions prove to be incorrect, actual results may vary materially from those reflected in or suggested by forward-looking statements. Any forward-looking statement you read in this Form 10-Q reflects our current views with respect to future events and is subject to these and other risks, uncertainties and assumptions relating to our operations, results of operations, growth strategy and liquidity. All subsequent written and oral forward-looking statements attributable to us or individuals acting on our behalf are expressly qualified in their entirety by this paragraph. You should specifically consider the factors identified or referred to in this Form 10-Q and our other SEC reports, including our Form 10-K for the year ended December 31, 2013, which would cause actual results to differ from those referred to in forward-looking statements. Cautionary Statements and Risk Factors We recognize that we are subject to a number of risks and uncertainties that may affect our future performance. The risks and uncertainties described in Item 1A in our Form 10-K for the year ended December 31, 2013 are not the only risks and uncertainties that we face. Additional risks and uncertainties not currently known to us or that we currently deem not to be material also may impair our business operations. If any of these risks actually occur, our business, results of operations and financial condition could suffer. In that event the trading price of our common stock could decline, and you may lose all or part of your investment in our common stock. The risks discussed in Item 1A in our Form 10-K for the year ended December 31, 2013 also include forward-looking statements, and our actual results may differ substantially from those discussed in these forward-looking statements. Except as required by the federal securities laws, we undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise. |