3M Company — Q3 2017 Form 10-Q
Reporting period: Quarter ended September 30, 2017; financial results are unaudited. Comparisons are with the corresponding 2016 periods unless noted. 3M operates across Industrial, Safety and Graphics, Health Care, Electronics and Energy, and Consumer.
Financial performance
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Net sales | $8.172B | $7.709B | $23.667B | $22.780B |
| Operating income | $2.041B | $1.904B | $5.999B | $5.558B |
| Net income attributable to 3M | $1.429B | $1.329B | $4.335B | $3.895B |
| Diluted EPS | $2.33 | $2.15 | $7.08 | $6.28 |
| Operating margin | 25.0% | 24.7% | 25.3% | 24.4% |
| Effective tax rate | 28.3% | 28.5% | 26.1% | 28.3% |
- Q3 sales rose 6.0%, operating income 7.2%, and diluted EPS 8.4%. Organic local-currency sales increased 6.6%; growth was reported across all five segments. Electronics and Energy led segment sales growth (+13.1%); Consumer grew 2.2%.
- For the first nine months, sales increased 3.9%, operating income 7.9%, and diluted EPS 12.7%. Organic local-currency sales grew 5.0%. Electronics and Energy sales rose 10.6%; Consumer sales rose 0.7%.
- Year-to-date results include $490M of gains on business sales, compared with $40M in the prior-year period. Management attributed $0.56 of the $0.80 diluted EPS increase to divestiture gains. Incremental strategic investments reduced EPS by $0.46; foreign exchange reduced it by $0.12.
- Operating margins improved year over year, supported by organic volume/productivity and lower raw-material costs. Currency effects, higher pension expense, and strategic investments were offsets. Q3 raw-material input costs were down approximately 1% year over year; the nine-month decrease was approximately 1.5%.
- Nine-month operating cash flow was $4.380B, versus $4.453B; free cash flow, a company-defined non-GAAP measure, was $3.466B versus $3.469B. Receivables and inventory consumed cash: their combined working-capital impact with payables was a $1.056B use in the first nine months.
- At September 30, cash and cash equivalents were $2.831B, marketable securities $603M, total debt $11.663B, and company-defined net debt $8.229B. Current assets were $13.656B and current liabilities $6.598B. Cash, equivalents, and marketable securities totaled $3.434B, of which approximately $3.3B was held by foreign subsidiaries and $140M in the U.S.
- Cash dividends paid in the first nine months totaled $2.104B. The quarterly dividend was $1.175 per share. The company repurchased $1.564B of stock and had approximately $5.6B remaining under its buyback authorization.
Material changes and business developments
- May and June divestitures of the identity management and tolling/automated license plate recognition businesses generated $833M of proceeds ($809M net of cash sold) and a $461M pretax gain. The prescription safety eyewear sale generated a $29M gain.
- Q3 segment operating income increased in Safety and Graphics, Health Care, and Electronics and Energy, but declined in Consumer. Nine-month Safety and Graphics operating income benefited substantially from the divestiture gains; Consumer and Industrial operating income declined year over year.
- In Q2, 3M approved restructuring actions affecting approximately 1,300 positions worldwide, with $99M of pretax charges; remaining activities were expected to finish by the end of 2018. Q1 exit activities added $24M of net pretax charges. Nine-month long-lived asset impairments were approximately $40M, in Electronics and Energy.
- After quarter-end, 3M acquired Scott Safety for $2.0B cash and sold its electronic monitoring business for $200M. It expected a roughly $100M pretax gain on that sale in Q4.
Outlook, risks, and contingencies
- Management expected a full-year 2017 effective tax rate of 26%–27%, capital spending of approximately $1.4B, and gross share repurchases of $2.0B–$2.5B. It expected global pension and postretirement contributions of $300M–$500M. The filing does not provide a clear consolidated full-year sales or EPS guidance figure.
- Management estimated Q4 EPS effects of approximately +$0.12 from the electronic monitoring divestiture gain, −$0.08 from Scott Safety operating results net of acquisition and integration costs, −$0.11 from a debt extinguishment charge, and −$0.06 to −$0.10 from incremental strategic investments.
- 3M had an undrawn $3.75B revolving credit facility, approximately $225M of commercial paper outstanding, and an approximately 42-to-1 EBITDA-to-interest ratio against a 3.0-to-1 covenant minimum. Ratings were AA- (S&P) and A1 (Moody’s), both with stable outlooks. Management noted that increased leverage could affect ratings.
- Legal exposure includes respirator/asbestos claims: 2,330 individual claimants were pending, with a $551M accrual and $4M insurance receivable; Aearo-related accruals were $18M. The company could not estimate the potential excess loss. The West Virginia matter also had no recorded liability because loss was not considered probable and estimable.
- Environmental liabilities were $38M for remediation and $27M for other environmental obligations; the related remediation insurance receivable was $8M. PFC-related investigations, remediation, and litigation continue, and the company said potential additional costs at ongoing remediation sites could not be estimated.
- Approximately 3,850 plaintiffs were involved in Bair Hugger patient-warming lawsuits, up from 1,260 at year-end 2016; no liability was recorded because the company considered loss not probable and estimable. Other disclosed matters include PFC drinking-water and natural-resource cases, respirator litigation, and a Department of Labor investigation of the pension plan. The Minnesota natural-resources trial was scheduled for February 2018.
- Principal stated risks include global economic and geopolitical conditions, foreign exchange, competition and pricing, raw-material supply and cost, acquisitions and divestitures, productivity execution, cybersecurity and ERP implementation, pension funding, tax matters, and legal and environmental proceedings. The company reported effective disclosure controls and no material quarterly change in internal control over financial reporting.
Most important facts for investors to verify
- How much of earnings growth reflects continuing operations versus the $490M year-to-date divestiture gain, and whether recent organic sales and margins persist.
- Whether working-capital cash use, particularly receivables and inventory, reverses or continues, and how cash conversion develops.
- Scott Safety’s integration, financing, and earnings contribution, alongside the Q4 divestiture gain, debt charge, and strategic investment costs.
- Developments in PFC/environmental and product-liability cases, including accrual adequacy, insurance recoveries, and scheduled proceedings.
- Foreign cash availability and repatriation constraints, net-debt trajectory, and any effect of the capital-structure strategy on credit ratings.