3M Company — Q2 2013 Form 10-Q Summary
Business context and reporting period
3M is a diversified global manufacturer and technology company reporting five segments: Industrial; Safety and Graphics; Electronics and Energy; Health Care; and Consumer. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2013; comparative segment information reflects the 2013 segment realignment. The independent accountant performed a review, not an audit, of the interim statements.
Key financial results
| Metric | Q2 2013 | Q2 2012 | First half 2013 | First half 2012 |
|---|---|---|---|---|
| Net sales | $7.752 billion | $7.534 billion | $15.386 billion | $15.020 billion |
| Operating income | $1.702 billion | $1.728 billion | $3.348 billion | $3.362 billion |
| Operating margin | 22.0% | 22.9% | 21.8% | 22.4% |
| Net income attributable to 3M | $1.197 billion | $1.167 billion | $2.326 billion | $2.292 billion |
| Diluted EPS | $1.71 | $1.66 | $3.32 | $3.25 |
| Effective tax rate | 27.4% | 30.1% | 28.2% | 29.5% |
- Q2 sales increased 2.9%: organic local-currency growth of 2.3%, acquisitions contributed 1.9%, and currency translation reduced sales 1.3%. For the first half, sales rose 2.4%, with 2.1% organic local-currency growth and a 1.5% negative currency impact.
- Q2 diluted EPS rose about 3%; lower tax expense and a 0.5% decline in diluted weighted-average shares supported EPS. Currency effects reduced Q2 EPS by about $0.02.
- Segment Q2 sales increased in Industrial (6.6%), Health Care (4.6%), Safety and Graphics (2.3%), and Consumer (1.4%); Electronics and Energy fell 3.2%. Operating income declined sharply in Electronics and Energy (16.0%) and Safety and Graphics (9.7%). Health Care generated the highest reported segment margin at 31.2%.
- Cash from operations was $2.673 billion for the first half, versus $2.217 billion; capital spending was $718 million, yielding company-defined free cash flow of $1.955 billion versus $1.598 billion. The operating cash-flow increase benefited from $501 million less in pension and postretirement contributions year over year, partly offset by higher tax payments.
- At June 30, cash and cash equivalents were $2.942 billion; marketable securities were $2.852 billion. Total debt was $5.946 billion and company-defined net debt was $152 million, down from $308 million at year-end 2012. Debt was 25% of total capital. Working capital was $7.648 billion.
Material changes and management commentary
- Operating margin declined 0.9 percentage points in Q2 despite benefits from pricing, raw-material deflation, organic volume and lower benefit costs. Management cited lower factory utilization, acquired-business margins, strategic ERP and business-transformation spending, increased disruptive-innovation R&D, the U.S. medical-device tax, currency and other factors as offsets.
- Electronics and Energy remained the principal weak segment: six-month organic local-currency sales fell 2.1%, and operating income fell 16.1%. Management said consumer-electronics demand appeared to have stabilized and expected Q3 sales recovery; renewable-energy weakness continued.
- Q2 organic local-currency growth was led geographically by Latin America/Canada at 8.5%; U.S. growth was 0.8%. The Japanese yen’s weakening was a major contributor to currency pressure.
- 3M repurchased $1.995 billion of stock and paid $876 million of dividends in the first half. A new $7.5 billion repurchase authorization was approved in February; about $5.7 billion remained available at June 30. The 2013 quarterly dividend was increased 7.6% to $0.635 per share.
Outlook, risks and unusual items
- Management expected 2013 sales growth and related incremental income, along with other benefits, to more than offset negative earnings factors. No specific full-year sales-growth or EPS target is provided in the supplied filing text. The company expected currency to reduce 2013 sales by about 2.0% based on June 30 rates and forecast a 2013 effective tax rate of 29.0%–29.5%.
- Other stated expectations: 2013 capital spending of $1.6–$1.8 billion; pension and postretirement contributions of $400–$500 million; benefit expense approximately $100 million lower pre-tax than in 2012; and gross share repurchases of $3.5–$4.5 billion.
- Legal and environmental exposures include respirator-mask/asbestos claims (about 2,130 claimants; $157 million accrued liabilities and $78 million insurance receivables, including Aearo-related accruals), PFC-related environmental matters, and other commercial litigation. The company said it cannot estimate potential excess losses for several matters. A TransWeb jury verdict was adverse to 3M, with damages proceedings ongoing; Meda sought more than $300 million and a court decision was expected in 2013.
- Environmental accruals included $26 million for remediation and $52 million for other environmental liabilities, with related insurance receivables of $11 million and $15 million, respectively. 3M noted that regulatory changes, remediation developments, litigation outcomes and insurer or co-defendant solvency could alter estimates.
- Other items include the June sale of Scientific Anglers and Ross Reels, no business combinations closed in the first half, and a $78 million note receivable recorded in connection with a Japanese property sale under an installment arrangement. Venezuela’s February 2013 currency devaluation was not material to consolidated results or financial condition, according to the filing.
Most important facts for investors to verify
- Whether Electronics and Energy sales and factory utilization recover, and whether margin pressure persists in Safety and Graphics.
- Progress against the stated 2013 outlook for sales, tax rate, capital spending, pension contributions and share repurchases.
- Cash conversion and working-capital trends, particularly receivables, and the extent to which operating cash flow remains affected by pension funding and tax timing.
- Developments in asbestos and PFC litigation, the TransWeb and Meda matters, environmental remediation costs, and recoverability of related insurance receivables.
- Execution costs and control implications of the phased worldwide ERP implementation, alongside ongoing investment in R&D and business transformation.