Contents
Summary
- Skip excitement when it comes to investing. Hold shares in dependable companies with competitive advantages such as this company.
- Markets are irrational in the short-term. ~$4.83B in market value was lopped off this company’s market cap the morning of July 24th but that was fully recovered by the end of the trading day.
- Shares are currently fairly valued after having been grossly overvalued just a few months ago.
- This company is amongst our top 10 holdings from a current market value perspective.
Introduction
I remember my MBA Professors telling my classmates and me (many, many years ago) that markets are inefficient over the short-term. They indicated, however, that if you closely analyze the market from a long-term perspective, it is reasonably efficient; this also applies to individual companies such as the one covered in today’s article.
I have held 3M shares (NYSE: MMM) for many years, have continually DRIP’d our dividends, and have periodically added shares on dips. Around late October 2017, however, I really started to scratch my head as to what would possess Mr. Market to suddenly think shares which were trading at ~$178 in early 2017 at a reasonable valuation would now be trading at lofty levels; by December 2017, this company’s shares were trading in excess of $230. Heck, this is an Industrial Goods company with a $110B+ market cap. This is not a small-cap or mid-cap high tech company!
Although I did not discontinue the DRIPing of our MMM dividends, I certainly was not making periodic additional share purchases.
Shares continued to rise in price until late January 2018 to ~$260 and in hindsight I should have written covered calls if I felt the shares would drop in value. I didn’t. That’s life.
MMM’s share price did correct subsequent to the last week of January 2018 and in my April 26th article I indicated that after a ~$61/share pullback from the 52 week high I had acquired another 200 shares at ~$199. This brought our total MMM holdings to in excess of 1100 shares spread over 3 investment accounts; it is one of our 10 largest holdings.
Now the reason for today’s article…MMM released its Q2 results today.
Well, isn’t this interesting. Results were not bad but MMM’s stock price plunged to just under $191 from the previous day’s close of ~$199. As I compose this article, however, the share price has bounced back to close at just above $200. Go figure! Here’s a company where the weighted average diluted common shares outstanding for the 3 months ending June 30th was 604.2 million. An $8/share drop in market price early the morning of July 24th meant Mr. Market suddenly viewed this company as being worth ~$4.83B less than at the close of the previous business day.
High Level Overview
Here is the most current high level overview provided by MMM.
How about this for 10 and 20 year returns relative to the S&P500?
Source: TickerTech
Q2 2018 Results and 2018 Outlook
MMM’s Q2 results released July 24, 2018 can be found here.
Source: MMM – Q2 2018 Financial Results Presentation – July 24, 2018
On the Q2 conference call, it was mentioned that MMM had a strong quarter, highlighted by broad-based organic growth and a double-digit increase in earnings per share, along with record sales and rising margins. Some of this growth, however, was the result of some MMM customers deciding to accelerate their purchases in advance of MMM’s upcoming Enterprise Resource Planning (ERP) roll out in the US. MMM estimates the advance orders contributed to ~50 – 100 bps of growth in Q2.
In Q2 MMM invested $0.468B in R&D and $0.365B in capital expenditures. It also returned $2.4B to shareholders through dividends and share repurchases.
In the Industrial division there was broad-based growth especially in MMM’s filtration platform where the Membrana acquisition is being leveraged to accelerate penetration in biopharma and life sciences.
The Safety and Graphics business delivered strong organic growth and robust margins.
On the Health Care front, MMM continues to expand globally led by the medical solutions business. MMM posted double-digit growth in developing markets which suggests investments in those areas are paying off.
Considerable portfolio work has been carried out in Electronics and Energy over the last several years to improve MMM’s relevance to customers and the marketplace. This has led to improved growth and a sustained improvement in margins.
In June 2018, MMM’s transformation of this area of the business resulted in the sale of the communication markets business. A thorough review of the business resulted in the decision to sell the business so as to provide the greatest value creation.
High growth opportunities in Electronics and Energy (eg. automotive electrification, data centers and semiconductor fabrication) continue to be prioritized.
The Consumer part of the company saw continued strength in home improvement along with a strong start to the back-to-school season.
MMM achieved organic sales growth of 5.6% with increases in selling prices contributing 110 bps to sales growth. Growth was evidenced in all geographic areas.
Q2 free cash flow of $1.5B billion was a 14.5% YoY increase.
Capital expenditures were $0.365B million, a $63 million YoY increase. Management continues to expect CapEx investments of $1.5B - $1.8B for the year.
$0.802B in dividends was distributed in Q2 and $1.6B in gross share repurchases was made.
In the first 6 months of the current fiscal year, MMM has repurchased $2.5B of stock and full year repurchases have been revised to $4B - $5B versus the previous $3B - $5B.
3% - 4% full year organic growth continues to be expected.
The full year adjusted EPS range has been amended to $10.20 - $10.45 from $10.20 - $10.55. This amendment reflects the impact of the divested income associated with the communication markets business.
Foreign currency translation is now expected to add ~1% to full year sales growth versus the prior expectation of 2%.
Credit Ratings
Moody’s rates MMM’s senior unsecured debt A1 (upper tier of the ‘upper medium grade’ rating).
S&P Global rates MMM’s senior unsecured debt AA- which is the lowest tier of the ‘high grade’ rating.
Neither agency has MMM’s credit ratings under review.
These attractive credit ratings confirm neither agency is of the opinion MMM will have any difficulty in servicing its obligations.
Valuation
The following images show how MMM’s FY2018 earnings estimates have evolved over the past few quarters.
Source: MMM - 2018 Outlook Meeting - December 12 2017
Source: MMM – Q4 2017 Business Review – January 25 2018
Source: MMM - Q1 2018 Earnings Release April 24 2018
Source: MMM – Q2 2018 Earnings Release July 24 2018
As you can see, MMM is now projecting GAAP EPS of $9.08 - $9.38 versus the previous $8.63 - $9.08 which is a 15% - 18% YoY increase. Adjusted EPS has now been revised to $10.20 - $10.45 versus the previous $10.20 -$10.55.
On the basis of the current ~$200 share price, MMM’s forward PE is ~21.3 - ~22 and the forward adjusted PE is ~19 - ~19.6. When I wrote my April 26th article, MMM was trading at ~$199. Using the previous $8.63 - $9.08 GAAP EPS range I arrived at a forward PE of ~22 - ~23 and using the previous Adjusted EPS of $10.20 -$10.55 range I arrived at a forward adjusted PE of ~18.9 - ~19.5.
In the grand scheme of things, the current valuation is pretty much in line with that as at April 26th when I decided to acquire additional MMM shares. MMM’s PE in 2013 – 2017 was 21.6, 22.5, 19.5, 22.5, and 26.2.
MMM’s dividend history can be found here and its stock split history can be found here.
Additional details on this subject matter can be found in my April 26th article as not much has changed since then other than the weighted average number of diluted common shares outstanding continuing to steadily be reduced; please refer to page 5 of 13 in MMM’s July 24th Press Release.
Final Thoughts
Human nature never ceases to amaze me and this is especially pertinent when it comes to the world of equity investing. To see a high quality company like MMM lose ~$4.83B in market value only to have that drop fully restored within a matter of hours reaffirms what my university professors told me years ago about the equity market is inefficient in the short-term but is efficient in the long-term.
Quite frankly, I would be an extremely happy investor if MMM were to SIGNIFICANTLY drop in value for a prolonged period as long as the drop was not attributed to a serious problem with the company.
Even if MMM were to drop in value by 50%, I am confident it would still be selling countless products to businesses and countless products to consumers.
I am confident that MMM will continue to be profitable, will continue to generate strong positive free cash flow, and will continue to reward shareholders with annual dividend increases.
In my opinion I think you could do far, far worse by investing in other companies than investing in MMM at its current valuation.
I wish you much success on your journey to financial freedom.
Thanks for reading!
Note: I sincerely appreciate the time you took to read this article. Please send any feedback, corrections, or questions to [email protected]
Disclaimer: I have no knowledge of your individual circumstances and am not providing individualized advice or recommendations. I encourage you not to make any investment decision without conducting your own research and due diligence. You should also consult your financial advisor about your specific situation.
Disclosure: I am long MMM.
I wrote this article myself and it expresses my own opinions. I am not receiving compensation for it and have no business relationship with any company whose stock is mentioned in this article.
