- By Mark Yu
The $120 billion Minnesota-based diversified industrial company reported its first half results recently. Investors did not appreciate 3M (MMM)'s recent performance as its shares fell 5.05% post earnings release.
In the first half, 3M registered 2.8% year over year revenue growth to $15.5 billion and a more impressive 13.3% profit growth to $2.91 billion (18.8% margin vs. 17% in the year prior period).
As observed, overall expenses increased by 1.05% while income tax provision fell by 4.2% to $968 million.
Among other full-year 2017 forecasts figures provided, 3M expects free cash flow between $5 and $5 billion compared to its fiscal year 2016's $5.24 billion.
"Our team posted another quarter of strong and broad-based organic growth, which included positive growth across all five of our business groups.
"We also continued to deliver premium margins and returns, while accelerating investments to support growth and strengthen the portfolio -- which is part of our playbook to build an even stronger and more competitive 3M."
Inge G. Thulin, 3M chairman, president and chief executive officer
Valuations
Despite the recent share price decline, 3M is still slightly overvalued compared to its peers. The company had trailing P/E ratio 24 times vs. industry median 23.1 times, P/B ratio 10.8 times vs. 1.9 times, and P/S ratio 4 times vs. 1.3 times.
3M also had trailing dividend yield of 2.3% with 54% payout ratio.
Average 2017 revenue and earnings-per-share estimates indicated forward multiples 3.9 times and 22.3 times.
Total returns
3M outperformed the broader S&P 500 index in the past decade having generated 9.78% (annualized) total returns vs. the index's 7.33% (Morningstar). So far this year, the company provided 12.98% total returns vs. the index's 11.56%.
3M
According to filings, 3M Company was incorporated in 1929 under the laws of the State of Delaware to continue operations begun in 1902.
3M is among the leading manufacturers of products for many of the markets the company serves. Most 3M products involve expertise in product development, manufacturing and marketing, and are subject to competition from products manufactured and sold by other technologically oriented companies.
In 2016, 40.5% of its revenue was generated in the United States, 29.4% in Asia Pacific, 20.5% in Europe, Middle East & Asia, and 9.6% in Latin America/Canada.
3M manages its operations in five business segments: Industrial; Safety and Graphics; Health Care; Electronics and Energy; and Consumer.
Industrial
As per filings, the Industrial segment serves a broad range of markets, such as automotive original equipment manufacturer and automotive aftermarket (auto body shops and retail), electronics, appliance, paper and printing, packaging, food and beverage, and construction.
Revenue in the first half for the industrial business grew 3.4% year over year to $5.43 billion (34% of unadjusted sales*) and registered an operating margin of 21% vs. 23.6% in the same period last year.
*Does not include corporate, unallocated, elimination of dual credits.
Safety and Graphics
The Safety and Graphics segment serves a broad range of markets that increase the safety, security and productivity of people, facilities and systems.
Revenue in safety and graphics grew 1.2% year over year in the first half to $3.07 billion (19% of unadjusted sales) and had margins of 40.7% (most profitable segment) vs. 25.7% last year period.
According to filings, 3M recorded divestiture gains of $451 million in the period that helped raised the profitability for this division. Without the divestiture and possible margin contribution, level of profitability would still be at par with its prior year operations.
Health Care
The Health Care segment serves markets that include medical clinics and hospitals, pharmaceuticals, dental and orthodontic practitioners, health information systems, and food manufacturing and testing.
Revenue in 3M's health care division rose 2.1% year over year in the first half to $2.86 billion (18% of unadjusted sales) and margins of 29.5% vs. 32.8% in the prior year period.
Electronics and Energy
The Electronics and Energy segment serves customers in electronics and energy markets, including solutions that improve the dependability, cost-effectiveness, and performance of electronic devices; electrical products, including infrastructure protection; telecommunications networks, and power generation and distribution.
Revenue in the electronics and energy business grew 9.3% year over year to $2.42 billion (15% of unadjusted sales) and recorded margins of 21.7% vs. 18.6% in the same period last year.
Consumer
The Consumer segment serves markets that include consumer retail, office retail, office business to business, home improvement, drug and pharmacy retail, and other markets.
Revenue in the consumer business recorded flat revenue development to $2.18 billion (14% of unadjusted sales) and margins of 19% vs. 23.8% in the year prior period.
Sales and profits
In the past three years, 3M recorded revenue decline average of (-)0.83%, profit growth average of 2.72%, profit margin average of 16% (Morningstar).
Cash, debt and book value
As of June, 3M had $2.65 billion in cash and cash equivalents and $11.3 billion in debt with debt-equity ratio 0.97 times vs. 0.98 times in the same period last year. Overall debt declined by $448 million year over year while equity decreased by $293 million.
33% of 3M's $34 billion assets were goodwill and intangible assets while book value decreased 2.5% year over year to $11.6 billion.
Cash flow
In the first half, 3M recorded 3.3% year over year to $2.63 billion while capital expenditures were $589 million leaving the company with $2.04 billion in free cash flow vs. $1.91 billion in the prior year. 3M allocated more than its free cash flow, 1.27 times, in shareholder payouts including dividends and buybacks.
3M also allocated $765 million in debt repayments net issuances.
In the past three years, 3M allocated $4.37 billion in capital expenditures, accumulated $15.33 billion in free cash flow, raised $2.4 billion in share issuances, $4.49 billion in debt (net repayments), and provided $22.1 billion in dividends and share repurchases on an average free cash flow payout ratio of 144%.
Conclusion
3M's first half operations demonstrated steady business growth year over year. Other than the company's biggest revenue generator--Industrial (34% of unadjusted sales and 21% margin)--which carries the Scotch(R) Masking Tape among other several products, other several business divisions delivered solid profitability at 27.8% in the recent period.
Average analysts expectations also indicated a near 10% earnings-per-share growth in this fiscal year.
Meanwhile, 3M has a leveraged balance sheet (0.97 times) while having had more than a third of its assets in goodwill and intangibles.
In addition, the company does not have any troubles in generating significant amount of free cash flow while having sustained very generous payouts to shareholders in recent years.
Average analysts expectations had a price target of $205.09 a share vs. $199.39 at the time of writing. Applying three-year revenue decline and P/S multiple averages followed by a 15% margin indicated a figure of $147 a share.
In summary, 3M is a hold with $200 a share.
Disclosure: I do not have shares in any of the companies mentioned.
This article first appeared on GuruFocus.
