Pricing Analysis Predicts Protolabs Uptick Q3 Order Demand; Coupled With Robust Margin Expansion Shares Up 30%+
Key Takeaways: Protolabs PRLB 0.00%↑ reported robust 3Q24 results with revenues beating expectations, and improving gross margins drove profits comfortably ahead of analyst expectations. However, driven by a soft manufacturing environment Protolabs provided 4Q24 revenue guidance slightly below consensus expectations, but their EPS forecast came in ahead of analyst estimates. Driven by much better profitability results and outlook in a tough macro environment, shares traded up 30% on these results.
We were not surprised by the improving demand commentary in August and September, which was shown in our 3Q24 Pricing Analysis and indicated pricing improvement on their platform in the middle of August through the end of Q3. (CONGRATS to our premium subscribers who got this info weeks in advance!) That said, we were more impressed by the $0.15 EPS beat, and robust cash flow in a softer manufacturing environment. Although a little bit discouraged with average revenue per customer being down ~2% Y/Y, we believe the company is positioning itself for meaningful earnings leverage once we return to a more favorable manufacturing landscape. In turn, we remain bullish on Protolabs long-term, and believe when growth returns the company will be in a robust position to see strong revenue growth return and translate into stronger earnings growth. We believe the combination of Protolabs Factory and Network business positions the company as a clear leader in the digital manufacturing space. We expect the combination will allow Protolabs to acquire new customers, and more importantly grow wallet share per customer given the company’s internal manufacturing capabilities. Although we suspect we need the manufacturing landscape to improve in order for Protolabs to trend closer to our price target, we believe patient investors will be rewarded at these levels. As a result, we are reiterating our Buy rating and $60.05 price target.
View detailed historical results in our full financial model here.
Source: Company Filings, FactSet, Data In Millions
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3Q24 Earnings Summary
Protolabs saw 3Q24 revenues declined ~4% Y/Y $125.6M, but was above the high-end of Managements guidance ($117 - 125M) and consensus expectations ($121.4M). Revenue upside in the quarter was driven by strength in CNC, which was up ~1% Y/Y, and Management specifically called out strength in the Network CNC business. The injection modeling business was down ~9% Y/Y, while 3D Printing was also down ~1% from 3Q24. From a segment perspective, the Network business saw revenues grow ~12% Y/Y to $25.3M, and the company’s Factory business was down ~9% Y/Y as low demand for prototypes continues to hamper growth. It is worth highlighting that this is the 4 consecutive quarter the Network business as shown decelerating revenue growth. Their key competitor Xometry has been consistently growing their marketplace business ~25%+ Y/Y at much higher revenue levels. Driven by very strong pricing trends in our 3Q24 Pricing Analysis, we expect Xometry to report similar growth in a couple of weeks when they report Q3 results. That said, we are expecting Protolabs to trend towards the 20%+ growth rate as manufacturing environment improves. Furthermore, Customer Contracts in the quarter was down 2.5% Y/Y to 22,511, which marks 8 consecutive quarter of decline. With the growth of the Network business we would be expecting Customer Contracts to be growing as well, and is something we do need to monitor. In addition, revenue per customer contracts declined ~2% Y/Y, but was up ~5% Y/Y YTD in 2024. We are expecting the combination of Protolabs Network and Factory business will allow them to acquire new customers and grow wallet share per customer overtime.
Despite revenues being down Y/Y, Protolabs showed strong gross margin performance, with Non-GAAP gross margins expanding 20 basis points Y/Y to 46.2%. The company highlighted improvements in gross margins in both the Network and Factory businesses. Network gross margins were ~35% in the quarter, which is above the 25-30% target range, and benefited from performing algo matching performance and favorable manufacturing capacity across the network. Factory gross margins are being benefited by automation applications across their facilities. The robust gross margin performance and lower incentive expenses resulted in adjusted EBITDA of $21.9M, beating analyst expectations ($17.5M). Cash flow from operations was $24.8M, which was the highest quarterly level since 2020, and free cash flow was $21.1M in the quarter. FCF has not exceeded $20M since prior to 2019.
Driven by a softer manufacturing environment, Protolabs guided 4Q24 revenues in the range of $115 - 123M, which implies ~5% Y/Y decline at the midpoint, but missed analyst estimates slightly ($120.0M). While Protolabs does not give formal gross margin guidance, they expect gross margins to be down modestly Q/Q due to a lower seasonal Q4. However, the company is continuing to streamline operations and improve efficiencies. This resulted in Non-GAAP EPS guidance in the range of $0.28 - 0.36, which was better than consensus expectations of $0.29.
5-Year Financial Outlook
Driven by the fact the challenging manufacturing environment is not changing in the near term, we have left our estimates mostly unchanged. We expect Protolabs revenue to now be $499.2M, which implies essentially zero growth in 2024. Looking beyond 2024, we are cautiously optimistic that the manufacturing environment improves and expect the Company can sustain ~7% annual revenue growth through 2028, which is in-line with the on-demand manufacturing industry. However, we believe Protolabs Factory and Network offering puts them in position to take market share. Coupled with the expectation the overall manufacturing environment should improve, we believe these estimates could end up being conservative.Â
We expect Protolabs Network business to continue to grow 15%+ over the next several years. We are impressed with the company’s ability to grow gross margins in a challenging macro environment and have modestly raised our long term gross margin target from 46% to 47%. Furthermore, we expect strong revenue growth and prudent cost management, will drive operating and adjust EBITDA margin expansion. Our current forecast expects the company to generate $82.0M in adjusted EBITDA in 2024. By 2028, we expect the company will be generating $134.5M in adjusted EBITDA. We expect strong adjusted EBITDA will translate into robust free cash flow (FCF) generation, reaching $85M+ by 2028. However, as we stated before, our estimates imply ~7% annual growth, which could be conservative and see the potential for upward revisions to our adjusted EBITDA and FCF estimates in a better manufacturing environment.
Below is an overview of our 5 year outlook with a full downloadable financial model here.
Source: Industrial Tech Analyst, Data In Millions
Investment Thesis
We believe the combination of Protolabs Factory and Network business positions the company as a clear leader in the digital manufacturing space. We expect the combination will allow Protolabs to acquire new customers, and more importantly grow wallet share per customer given the company’s internal manufacturing capabilities. While we believe gross margins could be lumpy as the Network business ramps, we believe Protolabs will continue to grow and produce strong free cash flow. Protolabs is currently trading at ~10x EV/EBITDA based on 2025 estimates, which is well below the company’s 5-year average of ~20x. We believe as the manufacturing environment improves, stronger growth coupled with improving margins will drive multiple expansion back towards historical levels. These all support our bullish stance, which drives our price target of $60.05.
As shown in our table below we use a 5 year DCF model to value Protolabs shares. Based on our current forecast that includes a below average 15x EBITDA multiple to our terminal value, we value Protolabs shares at $60.05, which is up from our prior estimate of $56.55 due to our higher margin estimates.
Source: Industrial Tech Analyst
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