3M: A Global Company for Growth and Income

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 |  About: 3M Company (MMM), Includes: CLX, ETN, GIS, HON, ITW, KO, MCD, PEP, PPG, SPY, TYC, UTX, VFC
by: World's Best Stocks

According to the press release of July 22, 2010 related to the Q2 2010 earnings of the company (see earnings call transcript here), 3M Company (NYSE:MMM) expects EPS for the fiscal year 2010 in a range of $5.65 to $5.80. We take this opportunity to analyze the past of MMM in order to figure where the value of the stock could be in 10 years.

3M Company, formerly known as the Minnesota Mining and Manufacturing Company is a global manufacturer, technology innovator and marketer of a variety of products. 3M is a technology company with a global presence in the six businesses: Industrial and Transportation; Health Care; Consumer and Office; Safety, Security and Protection Services; Display and Graphics; and Electro and Communications.

At $89.16, MMM is trading at 8.08% from its all-time high of $97.00 reached on October 10, 2007. Actually, MMM has momentum; the stock is trading at only 1.50% from its year high of $90.52 reached on May 6, 2010.

MMM is a stock slightly less volatile than the market. The volatility of MMM is measured by its beta ratio of 0.85, which signifies that the stock has a theoretical volatility 15% lower than the market.

We compared the return of MMM with the market (NYSEARCA:SPY) from the years 1994 to 2010 YTD (as of October 8). All paid dividends are included in the return but not the spin-off made by MMM over that period.

Civil year

3M Company (MMM)

Market (SPY)

1994

1.41%

0.33%

1995

27.86%

37.71%

1996

27.95%

22.35%

1997

1.42%

33.35%

1998

-10.65%

28.49%

1999

40.76%

20.32%

2000

25.49%

-9.70%

2001

0.09%

-11.78%

2002

6.40%

-21.54%

2003

40.06%

27.88%

2004

-1.79%

10.54%

2005

-3.52%

4.70%

2006

2.93%

15.61%

2007

10.66%

5.16%

2008

-29.39%

-36.38%

2009

47.22%

26.05%

2010 (as of October 8)

9.76%

6.01%

Click to enlarge

Over the 17 periods observed, MMM outperformed the market 11 times. An investment made in MMM on December 31, 1993 had a return of 314.29% on October 8, 2010, while an investment in the market, for that same period, had a return of 214.37%. As investors, it’s important to not underestimate the weight of dividends. In the total return of 314.29%, the dividends accounted for 27.47% of that total return. If we look at the last 10 years, an investment made in MMM on December 31, 1999 had a return of 117.79% on October 8, 2010, while an investment in the market, for that same period, had a return of -5.81%. The dividends were responsible of 30.21% of the total return for that period. (Again, all the paid dividends are included in these returns but not the spin-off made by MMM)

Let’s have a look at the past EPS, dividend per share and payout ratio of MMM in the first table and at the dividend growth in the second one. (All amounts are split adjusted for the 2-for-1 stock split of September 30, 2003 and the 2-for-1 stock split of April 11, 1994)

Year

Diluted EPS

Dividend per share

Payout Ratio

1993

$1.46

$0.83

56.85%

1994

$1.57

$0.88

56.05%

1995

$1.16

$0.94

81.03%

1996

$1.81

$0.96

53.04%

1997

$2.53

$1.06

41.90%

1998

$1.44

$1.10

76.39%

1999

$2.17

$1.12

51.61%

2000

$2.23

$1.16

52.02%

2001

$1.79

$1.20

67.04%

2002

$2.50

$1.24

49.60%

2003

$3.02

$1.32

43.71%

2004

$3.75

$1.44

38.40%

2005

$4.12

$1.68

40.78%

2006

$5.06

$1.84

36.36%

2007

$5.60

$1.92

34.29%

2008

$4.89

$2.00

40.90%

2009

$4.52

$2.04

45.13%

2010

$5.61 (Estimated)

$2.10

37.70% (TTM)

Click to enlarge

Civil Year

Dividend growth

1993 to 1994

6.02%

1994 to 1995

6.82%

1995 to 1996

2.13%

1996 to 1997

10.42%

1997 to 1998

3.77%

1998 to 1999

1.82%

1999 to 2000

3.57%

2000 to 2001

3.45%

2001 to 2002

3.33%

2002 to 2003

6.45%

2003 to 2004

9.09%

2004 to 2005

16.67%

2005 to 2006

9.52%

2006 to 2007

4.35%

2007 to 2008

4.17%

2008 to 2009

2.00%

2009 to 2010

2.94%

Click to enlarge

The 2010 estimated EPS of $5.61 reflects the middle of the guidance of the company for the full year, which is $5.65 to $5.80 per share, less the $0.12 per share special charge recorded in the first quarter of 2010 related to the Medicare Part D.

From 1993 to 2010 (2010 estimated), the compound annual growth rate was 8.24% for the company’s EPS. In a more recent past, from 1999 to 2010 (2010 estimated), this compound annual growth rate has been 9.01%, which is excellent. If we take 1993 as a starting year, the company increased its dividend each year since 1993. The compound annual growth rate of dividend of MMM has been 5.60% from 1993 to 2010 and in a more recent past, 5.86% from 1999 to 2010.

The average payout ratio for the years 1993 to 2010 has been 50.16%. The payout ratio of MMM has been above 50% from 1993 to 2001, except in 1997, and the following years below the 50% mark. Overall, we can clearly see a downtrend in the payout ratio of the company, which matches the fact that the company increased its dividend at a lower rate than its EPS growth rate over the last years. The average TTM payout ratio of the Diversified Industrials industry is 43.62% (5 companies compared: MMM, CLX, PPG, TYC, UTX.)

With an annual dividend of $2.10, a TTM EPS of $5.48, a TTM payout ratio of 37.70%, the company has flexibility to increase the dividend and this one is safe. The current yield of MMM is 2.36% while the current yield of the market is 1.89%.

As investors, it’s important to select companies with rising dividends and rising EPS to profit from a rising share price. Moreover, it’s important to select companies that increase their sales year over year to ensure their long term potential growth. Buybacks of shares are also important to boost future EPS. Quarters after quarters, shareholders of a company that repurchased its shares become less and less diluted. Here are the 3M Company’s sales by year from 1991 to 2009. We have also included 2010 TTM. You will also find the weighted average shares outstanding – diluted, the sales/share and the price/share (P/S) ratios for the years 1991-2010.

Year

Sales

Weighted average shares outstanding - diluted

Sales/Share

P/S

1991

$10,281,000,000

878,400,000

$11.70

2.04

1992

$10,817,000,000

876,400,000

$12.34

2.04

1993

$11,053,000,000

868,600,000

$12.73

2.14

1994

$12,148,000,000

846,000,000

$14.36

1.86

1995

$13,460,000,000

845,000,000

$15.93

2.08

1996

$14,236,000,000

844,200,000

$16.86

2.46

1997

$15,070,000,000

837,400,000

$18.00

2.28

1998

$15,021,000,000

816,000,000

$18.41

1.93

1999

$15,659,000,000

813,000,000

$19.26

2.54

2000

$16,724,000,000

799,800,000

$20.91

2.88

2001

$16,079,000,000

799,800,000

$20.10

2.94

2002

$16,332,000,000

791,000,000

$20.65

2.99

2003

$18,232,000,000

795,300,000

$22.92

3.71

2004

$20,011,000,000

796,500,000

$25.12

3.27

2005

$21,167,000,000

776,900,000

$27.25

2.84

2006

$22,923,000,000

761,000,000

$30.12

2.59

2007

$24,462,000,000

732,000,000

$33.42

2.52

2008

$25,269,000,000

707,200,000

$35.73

1.61

2009

$23,123,000,000

706,700,000

$32.72

2.53

2010 (TTM)

$25,394,000,000

725,700,000

(latest indicated)

$34.99

2.55

Click to enlarge

The compound annual growth rate of the sales of MMM has been 4.60% for the period 1991-2009. If we look at the weighted average shares outstanding - diluted of the company, we can see a very encouraging point: the company repurchase its shares over time. We can clearly see a downtrend of the company’s outstanding shares from the years 1991-2010. The company has today 152,700,000 less outstanding shares than in 1991, meaning an average buyback of shares of 8,036,842 per year over the period. The average price/sales (P/S) ratio is 2.49 for the period 1991-2010 (2010 TTM) and this ratio remains generally constant over time around the average with a few exceptions.

It has been a long time that MMM is a global company. If we analyze the sales by geographic area since 1995, we can clearly see a trend: The proportion of the sales of MMM coming from foreign markets increased over time compared to the sales coming from the United States. In 1995, the sales from foreign markets accounted for 53.89% of the total sales of the company, while in 2009, the sales from foreign markets accounted for 63.20% of the total sales. The company will profit from the growing emerging markets.

Here, you will find a table of 3M Company’s sales by geographic area.

Geographic Area

2009

2005

2000

1995

United States

36.80%

39.06%

46.99%

46.11%

International

63.20%

60.94%

53.01%

53.89%

Click to enlarge


Let’s have a look at the historic P/E of MMM.

Year

P/E at year-end

1993

18.62

1994

17.00

1995

28.61

1996

22.93

1997

16.22

1998

24.69

1999

22.55

2000

27.02

2001

33.02

2002

24.66

2003

28.16

2004

21.89

2005

18.81

2006

15.40

2007

15.06

2008

11.77

2009

18.29

2010 YTD

16.27 TTM

Click to enlarge


The current TTM P/E of MMM is 16.27. For the period 1993-2010 YTD, we have 18 periods of P/E with an average of 21.17. We can clearly see over the period that the P/E of MMM is not necessarily constant around the average and the trend has been downwards from 2000 to 2005. The actual TTM P/E is below the average of 21.17 but it is not a sign that the stock is cheap because since 2005 the P/E is constant in a range of 15 to 19, except in 2008 during the crisis. The actual valuation of the stock with P/E of 16.27 is in that current range.

For the measure of the profitability, MMM has a TTM profit margin of 15.53%. The TTM operating margin is 23.08%. By comparison, the average TTM profit margin and TTM operating margin for the Diversified Industrials industry (5 companies compared; MMM, CLX, PPG, TYC, UTX) are 9.15% and 14.32% respectively. MMM has by far the best TTM profit and operating margin of the group.

For the measure of the financial strength, the MRQ current ratio is 2.37 for MMM. The company has a MRQ debt/equity ratio of only 0.45. These two measures are excellent. The average MRQ current ratio for the Diversified Industrials industry (same 5 companies compared) is 1.52. The average MRQ debt/equity ratio of the industry is 0.56 (4 same companies compared; we ignored CLX in this comparison given its astronomic MRQ debt/equity ratio). Again, MMM has by far the highest MRQ current ratio of the group and its debt/equity ratio of 0.45 is the second lowest.

The better way to predict the future is to look at the past; this is why we analyzed the past of MMM. Now, we will use the past to extrapolate what could be the return in 10 years of an investment made in MMM today.

We previously saw that from 1999 to 2010 (2010 estimated), the compound annual growth rate has been 9.01% for the company’s EPS. The compound annual growth rate for the company’s dividend has been 5.86% for the same period. It would be surprising that the company maintains that same dividend growth rate in the future. For the next 10 years, if the company grows its EPS by 9% per year, and its dividend by 6% per year like it did in the past, that would give a payout of 28.31% in 2020 which doesn’t match the average payout of MMM of 50.16% and this number is far from the payout of the industry actually at 43.62% (5 companies compared). For our scenario, let’s be a little more conservative in the future EPS growth rate and more aggressive in the dividend growth rate of the company. Let’s figure the company will grow its EPS by 7% per year and its dividend by 9% per year for the next 10 years.

Year

Estimated EPS (growth of 7%)

Estimated dividend (growth of 9%)

2010

$5.61 (estimated)

$2.10 ($0.525 remaining)

2011

$6.00

$2.29

2012

$6.42

$2.50

2013

$6.87

$2.72

2014

$7.35

$2.96

2015

$7.87

$3.23

2016

$8.42

$3.52

2017

$9.01

$3.84

2018

$9.64

$4.18

2019

$10.31

$4.56

2020

$11.04

$4.97

Click to enlarge


The investor who invests in MMM could pocket an estimated income of dividend of $35.30 until December 31, 2020 assuming a 9% growth of the dividend of the company per year. Here would be 2 possibilities of the value of the stock price at the end of 2020, assuming different P/E ratios based on an EPS growth of 7% per year and an investment in MMM based on the current price of $89.16.

With a P/E of 15: EPS of $11.04 X 15 = $165.60

Return: 125.33% (paid dividends included) (Compound annual return of 8.46%)

With a P/E of 16: EPS of $11.04 X 16 = $176.64

Return: 137.71% (paid dividends included) (Compound annual return of 9.04%)

Based on a dividend per share in 2020 of $4.97 and an EPS of $11.04 that would give the company a payout ratio of 45.02%, which is closer to the actual industry average of 43.62% (5 companies compared) and this number would be closer to the average payout of the company at 50.16%. The yield of MMM would be 2.81% or 3.00%, assuming our 2 P/E scenarios of 16 and 15 (stock price in 2020 of $176.64 or $165.60).

A first way to justify our valuation scenarios is with an analysis of today’s 8 well known companies with payout ratio in a range of 40%-55% to check if their current P/E and their current yield match our future expectations for the valuation of MMM.

Company

Payout Ratio

P/E TTM (As of October 8, 2010)

Yield (As of October 8, 2010)

The Coca-Cola Company (NYSE:KO)

53.46%

18.68

2.96%

Eaton Corporation (NYSE:ETN)

43.20%

18.01

2.79%

General Mills, Inc. (NYSE:GIS)

43.32%

15.94

3.03%

Honeywell International Inc. (NYSE:HON)

43.06%

16.34

2.64%

Illinois Tool Works Inc. (NYSE:ITW)

41.06%

16.04

2.81%

McDonald’s Corporation (NYSE:MCD)

48.97%

17.33

3.21%

PepsiCo, Inc. (NYSE:PEP)

47.41%

17.03

2.92%

VF Corporation (NYSE:VFC)

47.90%

16.83

2.85%

Click to enlarge

These companies have current P/E in the range of 15.94 to 18.68, and 4 companies have a P/E higher than 17, which is slightly higher than our valuation scenarios of P/E of 15 and 16. The current yield of these companies is between 2.64% and 3.21%, which matches our scenarios of 2.81% or 3.00% for the yield. After this analysis, we feel comfortable with our scenarios of P/E of 15 and 16.

A second way to justify a future potential stock price of $165.60 or $176.64 for MMM is with the price/sales ratio (P/S). We previously saw that the average P/S ratio of MMM was 2.49 for the period 1991-2010 (2010 TTM). Let’s make another scenario for the company’s sales growth rate and its reduction of outstanding shares until 2020. The compound annual growth rate of the sales of MMM has been 4.60% over the period 1991-2009. Let’s presume a growth rate for the company’s sales of 5% per year until 2020 given the fact that MMM is a global company that will profit from the growth of emerging markets. For the period 1991-2010, the company bought back an average of 8,036,842 shares per year. Let’s presume the company will continue to buy back its shares at that same rhythm, meaning 8,000,000 shares per year and meaning 80,000,000 less outstanding shares in 2020 compared to today. Here is a table that summarize the complete scenario.

Year

Sales (growth of 5% per year)

Weighted average shares outstanding - diluted

Sales/Share

P/S assuming a stock price of $165.60

P/S assuming a stock price of $176.64

2010

$26,360,000,000 (Estimated)

725,700,000

(Latest indicated)

N/A

N/A

N/A

2020 (Estimated)

$42,938,000,000

645,700,000

$66.50

2.49

2.66

Click to enlarge

The 2010 estimated total sales reflect the middle of the guidance of the company’s projection of organic sales volumes growth of 13% to 15% for the full year 2010, according to the press release of July 22, 2010. (Sales in 2009 were at $23,123,000,000). Based on sales of $42,938,000,000 and outstanding shares of 645,700,000 in 2020, the P/S ratio would be at 2.49 or 2.66 with our stock price valuation of $165.60 and $176.64, respectively. 2.49 is directly on the average P/S ratio of the company and 2.66 is slightly above. Again, these future potential valuations match very well with the average P/S ratio of the company for the years 1991-2010 (2010 TTM).

The fundamentals of the company are all great: the stock has momentum and is trading at 8.08% from its all-time high of $97.00, volatility slightly lower than the market and offset by an excellent past return of the stock compared to the market, current yield at 2.36%, safe and rising dividend, growing EPS at anticipated records levels, global company with growing sales at anticipated record levels with a high proportion coming from foreign markets, profit margin, operating margin, current ratio above the industry, very low debt/equity ratio, correct P/E, and finally, the company has a very strong historic of buyback of shares.

Moreover, assuming our hypothetical scenario of the growth rate of the company’s EPS and dividend for the coming years, the potential return would be in the range of 125.33% to 137.71% by the end of 2020 (compound annual return of 8.46% to 9.04%). Finally, assuming an annual dividend of $4.97 in 2020, still with our hypothetical scenario, the yield of the investor who invested in the stock at $89.16 would be 5.57% at that moment and should continue to increase over time: that is the reward of long term investing. 3M Company definitely combines both growth and income.

Source for industry group and company description: Morningstar, Inc.

Disclosure: Long MMM and SPY