3M Company — Q3 2011 Form 10-Q Summary
Reporting period: Quarter and nine months ended September 30, 2011. This is an unaudited quarterly filing; the independent accountant performed a review, not an audit. 3M operates across six segments: Industrial and Transportation; Health Care; Display and Graphics; Consumer and Office; Safety, Security and Protection Services; and Electro and Communications.
Financial performance
| Metric | Q3 2011 | Q3 2010 | Nine months 2011 | Nine months 2010 |
|---|---|---|---|---|
| Net sales | $7.531B | $6.874B | $22.522B | $19.953B |
| Operating income | $1.581B | $1.576B | $4.814B | $4.617B |
| Operating margin | 21.0% | 22.9% | 21.4% | 23.1% |
| Net income attributable to 3M | $1.088B | $1.106B | $3.329B | $3.157B |
| Diluted EPS | $1.52 | $1.53 | $4.61 | $4.36 |
| Cash from operations | Not provided for quarter | Not provided for quarter | $3.546B | $3.543B |
| Free cash flow | Not provided for quarter | Not provided for quarter | $2.684B | $2.978B |
Q3 sales rose 9.6%, but net income and diluted EPS slipped year over year. Nine-month sales increased 12.9%, net income attributable to 3M rose about 5%, and diluted EPS increased about 6%. Sales growth reflected organic volume, pricing, acquisitions, and currency: in Q3, organic volume contributed 1.9 percentage points, pricing 0.9 points, acquisitions 3.7 points, and currency 3.1 points. The Q3 effective tax rate was 28.6%; the nine-month rate was 28.1%.
For the nine months, capital expenditures were $862M, versus $565M a year earlier. Cash used in investing was $1.584B, including $531M for acquisitions; cash used in financing was $1.898B, including $2.207B of treasury-stock purchases and $1.171B of dividends. Cash and cash equivalents were $3.376B at quarter-end.
Balance sheet and liquidity
At September 30, 2011, total debt was $6.159B, including $4.955B of long-term debt and $1.204B of short-term borrowings/current debt. Cash and marketable securities totaled $5.305B, producing reported net debt of $854M, up from $434M at December 31, 2010. Working capital was $7.504B, compared with $6.126B year-end. Debt was 26% of total capital, versus 25% at year-end. 3M reported a 38-to-1 EBITDA-to-interest ratio against a 3-to-1 covenant minimum; its $1.5B revolving facility was undrawn. Credit ratings were AA- from S&P and Aa2 from Moody’s, both with stable outlooks.
Material changes and segment trends
- Q3 sales growth was broad, but margins weakened: cost of sales and SG&A rose as percentages of sales. Management cited higher pension costs, slower organic volume, raw-material inflation, and factory under-absorption after September sales came in below expectations.
- Industrial and Transportation sales increased 18.8% in Q3, supported by acquisitions and broad-based growth; operating income rose 21.1%.
- Health Care sales rose 14.0% and operating income 12.8%; segment margin eased to 29.5% from 29.8%.
- Display and Graphics sales declined 12.2% and operating income fell 36.5%; optical systems sales dropped 28% amid weak LCD-TV demand and lower attachment rates.
- Consumer and Office sales increased 6.8%, while operating income rose 3.8%. Safety, Security and Protection Services sales rose 17.6% and operating income 22.9%, including acquisition contributions. Electro and Communications sales rose 4.4%, but operating income declined 1.0% as electronics demand slowed.
- 3M completed eight business combinations in the first nine months, primarily including Winterthur Technologie AG; it increased its Winterthur ownership to approximately 98%. The GPI Group home-improvement business acquisition closed in October 2011.
Outlook, risks, and unusual items
- Management expected slower growth to continue through year-end 2011 and cited economic softness, customer inventory reductions, weak electronics demand, and Western European policy uncertainty. It planned aggressive cost management while maintaining selected R&D, sales, and manufacturing investments, particularly in developing economies.
- For full-year 2011, 3M forecast organic sales-volume growth of 3%–4%, currency contribution of 3%–3.5% assuming September 30 exchange rates persisted, and acquisition contribution of 3%–3.5%. It expected an effective tax rate of about 28.5%. The provided filing text does not state a numeric full-year EPS target.
- Management estimated 2011 pension and postretirement expense would reduce earnings by about $215M pretax, or $0.22 per diluted share, versus 2010; planned 2011 contributions were $500M–$600M. A preliminary 2012 estimate was a further $0.10-per-share expense increase versus 2011, subject to market and assumption changes.
- The Japan disaster was estimated to have reduced nine-month sales growth by 0.9 percentage points, operating margins by 0.3 points, and diluted EPS by about $0.09, mostly in the first half. No material disaster-related asset or investment impairment was recorded.
- Significant contingencies include respirator/asbestos claims, environmental remediation and PFC-related matters, commercial litigation, and a continuing DOJ/SEC investigation into alleged bribery and bid-rigging involving a Turkish subsidiary and issues in other countries. 3M reported $105M of respirator/asbestos liabilities and $119M of related insurance receivables; it also recorded $29M of environmental-remediation liabilities and $80M of other environmental liabilities. Several environmental and commercial matters were not accrued because management said loss was not probable and estimable.
- Q3 2011 earnings included no specifically identified material special item. Nine-month 2010 comparisons included a one-time, noncash $84M tax charge related to U.S. health-care legislation. 3M redeemed its remaining Convertible Notes for approximately $227M in September and issued $1B of five-year notes at a 1.375% coupon.
Most important facts for investors to verify
- Whether the slower-growth outlook, especially for LCD-related products and Western Europe, affected subsequent sales, volumes, and operating margins.
- Whether higher pension expense and planned pension contributions were consistent with actual plan funding, discount rates, and asset returns.
- Whether rising receivables and inventory, and lower nine-month free cash flow, converted into stronger cash generation in later periods.
- Developments in PFC/environmental matters, respirator/asbestos litigation and insurance recoveries, and the DOJ/SEC compliance investigation, including any changes to reserves or exposure estimates.
- Whether acquisition integration and share repurchases supported returns while net debt increased and capital spending rose.