3M is One of Our Top Convictions

Financial pro searches for 3M (MMM) skyrocketed last week.

What caused this spike in interest?

3M made waves last week when it reached a $10 billion settlement with various cities and towns regarding ‘forever chemicals’ known as PFAS.

To give you some context, there were over 4,000 lawsuits filed against 3M and other chemical companies that were trying to consolidate. Stuart, Florida, a town of 20,000 people, was seeking $100 million themselves.

By no means does this clear the board for the industrial giant out of the woods. There’s still the earplug lawsuit hanging over their heads, where thousands of service members said the products failed to protect their hearing. 3M already committed $1 billion to a trust for the suit. Estimates from J.P. Morgan analyst Stephen Tusa said this suit could cost them $15-$25 billion.

Nonetheless, shares rallied roughly 10% on the news. Yet the dividend yield is still a whopping 6%, a bit more than the current treasury rates.

So is this a stock worth using double-sided tape to put it up next to your kids’ achievements on the fridge, or does it become another post it lost in the mess on your desk?

3M’s Business

Innovation is built into the company’s blood. 3M considers itself a technology company that manufactures industrial, safety, and consumer products.

Quite honestly, if you’ve never used their scotch tape, air filters, or post-its, then you have been far too sheltered to invest in the stock market.

3M reports its business in four segments.

Source: 3M Q1 2023 Investor Presentation

In September, 2022, 3M separated from its food safety business and merged it with Neogen.

More recently, the company disclosed plans to spin off its healthcare business into a separately listed company by the end of 2023. 3M will retain a 19.9% stake in the new company.

Financials

Source: Stock Analysis

Inflation hit the company hard, pressuring gross margins since 2021.

Not one to sit around, 3M plans to shed 6,000 jobs to achieve $700-$900 million in pretax savings. This is in addition to its 2,500 global manufacturing cut announced in January 2023.

In addition to employee layoffs, the management plans to cut costs, simplify supply chain operations, and streamline the way they bring products to market.

Yet, the company expects organic sales growth between -3% to flat for 2023 and EPS of $8.50 – $9.00.

Right now, the company generates $7.23 free-cash-flow per share, which is more than enough to pay its hefty dividend.

And debt isn’t too bad at $16.9 billion with net debt (debt less cash) of $13.0 billion.

Assuming the earplug lawsuit settles for $15-$25 billion, it would cost $27-$45 per share on top of the $18 per share from the latest settlement.

Taken together, lawsuits would account for as much as $63 per share.

With the stock trading around $100, that’s a hefty price tag. And if you ignore that for a moment, the stock trades at 13.8x free-cash-flow.

If you did a discount model on the dividends, it would yield a discount rate of 7.23%.

Basically, the entire business is worth slightly more than the dividend payment.

Valuation

Source: Seeking Alpha

With little revenue growth and inflationary headwinds, 3M trades at a discount to all its peers on nearly every measure save a few, such as General Electric (GE) being cheaper on a price-to-sales basis.

Growth

Source: Seeking Alpha

The industrial sector hasn’t had an easy go in the last few years. Inflation, supply chain problems, and sinking demand all made it difficult to maintain growth. 

Boeing (BA) actually looks decent in that regard. Yet, it’s coming off very depressed levels.

Profitability

Source: Seeking Alpha

We were a bit surprised to see 3M had the best gross, EBIT, EBITDA, cash flow, and net income margins, as well as returns on equity, assets, and total capital.

But, they are one of the most consistent businesses out there in the industrial sector.

Our Opinion 10/10

3M is a consistent business that rarely sees huge drops in demand.

This creates consistent cash flow to pay for dividends and share repurchases.

While there are some short-term headwinds, we expect the company to rebound as the macroeconomic environment improves.

Given interest rates are unlikely to move much higher, which would hurt 3M’s share price since investors buy 3M for the dividend, we see limited downside.