1. Is the company undervalued?
EV/EBIT: 14.74
Price/Sales: 2.99
Price/Cashflow: 12.1
$MMM is an above average business trading at a below average price. Moreover the business is shareholder friendly and guiding for 7-10% revenue growth this year. With that said long term growth has been subpar and the present valuation isn’t screamingly cheap. Even still, $MMM has the potential to delivery outsized returns moving forward.
2. Can I easily explain what the company does?
Yes, they manufacture industrial and office supplies.
3. Does the cash flow statement line up with income statement?
Yes, cashflows have been constantly higher than reported earnings:
Most of this free cash flow went towards dividends paid out, debt paid down, capital expenditures, and some share repurchases. So far, no red flags!
4. Is the Balance Sheet Healthy?
Total Debt: $19.12B
Total Cash: $5.5B
Current Ratio: 1.73
3M holds a little debt relative to their market cap. However the company throws off significant free cash flow and is only paying $22M a year in net interest payments. All in all, very high marks for $MMM in regards to balance sheet health.
5. How profitable is the business?
Gross Margins: 48.36%
Net Margins: 17.04%
ROIC: 19.14%
10-yr Revenue CAGR: 1.9%
3M is a high-quality business which has been remarkably consistent. For example from 2011-2020 gross margins have been no lower than 47%, but no higher than 49.8%. That’s outstanding performance and a strong indication of an elite management team.
Unfortunately revenues have been growing at a below market rate for some time now. This is most likely due to the nature of their business, but it’s a ding against the company nonetheless. While the growth has been lackluster, $MMM does have pricing power and it’s unlikely they turn into a melting ice cube.
6. Is management rewarding shareholders?
3M offers investors a generous 3.34% dividend, which they’ve raised every year for longer than I’ve been alive. Furthermore $MMM has over $9B authorized for share repurchases, but what really tickles my balls is the fact that management seems to understand capital allocation. For example last quarter management spent more on buybacks than dividends, while paying off no debt! This makes so much sense, as the company is trading at a discount to their historical multiple. Furthermore paying off debt would make no sense as the interest being charged is next to nothing.
This is going to trigger dividend growth dumbasses, but buybacks are 1000% a better allocation of capital if the company is trading at or below intrinsic value. Both are a return of capital, but share repurchases get the added benefit of multiple expansion if done properly. If you can’t understand this concept unfollow me and then go jump off a bridge!!!
7. How does the company stack up against their peers?
3M doesn’t have a true apples to apples competitor and therefore it would be silly to compare price ratios, profitability metrics, balance sheet health, etc…
8. What’s the counter argument?
The counter argument is that revenues will remain flat and shareholder returns will come exclusively from dividends and buybacks.
I will say that capital expenditures have been increasing more so than revenues, therefore we can assume that ROIC metrics will decrease in the future. However 3M is an iconic brand, which I believe will always be able to pass on price increases to their customers. Additionally $MMM only needs to grow by low single digits for investors to achieve a satisfactory return.
9. Is the company unsexy, uncool, or contrarian?
3M has 8 analysts cover the business with; 1 sell, 4 holds, 1 outperform, and 2 buy ratings out. For this reason I wouldn’t consider the stock to be contrarian. It is most certainly unsexy and uncool tho, as they make post-it notes.
10. Is there something I think the market may be missing?
As mentioned previously $MMM has over $9B authorized for buybacks and is guiding for north of $7B in operating income this year. This leaves plenty of room for management to get aggressive with share repurchases. It wouldn’t be unreasonable for 3M to return $6B to shareholders and I don’t think the market is pricing in a nearly 6% shareholder yield at current levels.
Final Thoughts:
$MMM is an ultra-low risk investment given the business quality and current valuation. Having said that I don’t think shareholders are going to get much more than a 10% return annually (which isn’t bad btw). The business has traded in the 16-20 EV/EBIT multiple range historically, which is probably closer to fair value than 14. Even still, this only gives a ~20% margin of safety for a multiple re-rating. Moreover I would be uncomfortable assuming anything more than 2% revenue growth and 6% shareholder yield moving forward. While I would prefer 3M over the S&P 500 for the next 5 years, it’s not compelling enough for me to hold in my portfolio.
***Disclosure: I have no position in the security mentioned above, nor do I have any plans to purchase within the next 72 hours. This article is intended for educational purposes only and in no way should be interpreted as investment advice