General Electric (GE) is currently rated near a "strong buy" on the Street while 3M (MMM) is rated a "hold." In an earlier article here, I expressed how the value of both companies are more or less properly valued by the market. Recent performance and macro trends have since rendered my outlook more bullish. Based on greater certainty surrounding fundaments and my DCF model, I find greater upside at GE.
From a multiples perspective, both firms appear to have little room for multiples expansion. 3M trades at a respective 14.7x and 12.7x past and forward earnings while GE trades at a respective 15.5x and 10.8x past and forward earnings. The latter has 60% more volatility than the broader market, but offers a higher dividend yield at 3.6%.
At the fourth quarter earnings call, 3M's CFO, David Meline, noted a strong close to the year but also some challenges.
We drove record sales and good returns and things finished largely as we expected. We once again saw some real strength in our many industrial-oriented businesses, along with steady growth in Consumer and Health Care. On a geographic basis, Latin America and the United States were the fourth quarter stalwarts.
Consumer electronics industry continued to adjust production levels during the quarter to better match demand and supply, much as we had described in our third quarter call in October, and again at our December investor meeting in New York. This had an impact on our Display and Graphics and Electro and Communication businesses, particularly within Asia Pacific.
Fourth quarter performance beat expectations by 3% in terms of EPS. But uncertainty in Display & Graphics was concerning as it declined by 8.9% due mainly to poor demand for optical systems. Inventories are meanwhile declining in the electronics chain with even China looking worse. Revenue momentum may have been impressive in nearly all segments, but ROIC is only expected to nominally grow by around 25% over the next two years to around 25%.
Consensus estimates for 3M's EPS forecast that it will grow by 5.7% to $6.30 in 2012 and then by 9.5% and 9.6% in the following two years. Modeling a CAGR of 8.3% for EPS over the next three years and then discounting backwards by a WACC of 9% yields a fair value figure of $96.64, implying just 10.2% upside.
GE, on the other hand, has earnings momentum that will support value creation. ROIC is forecasted to grow by around 80 bps to 6.4% in 2013. In the fourth quarter, industrial margins declined by 140 bps while capital margins held up strong. Pricing for energy equipment is further weakening driving greater uncertainty in margin trends. However, I find that the market has become overly concerned about top-line miss, since service and equipment backlog are both showing promise. GE Capital has further had a stunning quarter that was the most impressive it has ever been since 2007.
Consensus estimates for GE's EPS forecast that it will grow by 12.4% to $1.54 in 2012 and then by 14.3% and 19.3% in the following two years. Modeling a CAGR of 15.3% for EPS over the next three years and then discounting backwards by a WACC of 9%, the firm will easily outperform 3M.