Lets talk about : 3M

In my last post, I mentioned that I was closely looking at my position in 3M especially in light of all the negative news surrounding the company. I had a similar post last month about another company, Intel, whose stock has been slaughtered after a disastrous earnings report. In fact, I am planning to make both these articles part of a series called “Lets talk about”, with the general theme being discussions around what is going wrong with the companies being discussed and how that impacts my outlook for them.

While I would always like to own companies that would be high-flying winners with no negative news, this is simply not practical. In fact, the bigger the company, the greater the risks as they always seem to have a target on their back for one or the other reasons.

3M at a glance

I have not had an opportunity to do a deep dive post on 3M on this blog as yet. But this is a well-known company to the general public and one of the darlings of the dividend investing community. The origins of the company can be traced back to five businessmen who started this company as a mining venture to mine corundum in Minnesota back in 1902 (hence the name Minnesota Mining and Manufacturing Company, and hence 3M). Since then, the company has grown leaps and bounds and expanded into so many fields that it is impossible to keep track of the progress. Per 3M’s website, they have a portfolio that is more than 60,000 products and acquire more than 3000 new patents annually on an average!

As far as dividends, the company has been paying a dividend since the last 100 years, of which they have managed to increase their quarterly dividend for 64 years!! No wonder this dividend king is a darling of the investing community!

I remember reading a quote somewhere (could not trace the source for this) that stated that you are never more than 10 minutes away from a product manufactured by 3M. It would be hard for me to dispute this given their vast portfolio.

My first introduction to 3M was oddly through a floppy disk. There is a good chance some of you may be wondering what does a floppy disk mean? Looking at this image here:

Remember these? Yes! this were not “3D printed Save Icons”, these were actually a thing! Back in the mid 90s, some of the kids from my generation used to use floppy drives to save files and carry computer data. Yes, the capacity was just 1.44MB. If you are laughing, I don’t blame you. Computers and storage media have come a LONG way since then.

Recent trends

Unfortunately, since about 2019, 3M has been struggling to record meaningful growth. The pandemic kind of threw a spanner in the wheels as Industrials as a sector has been struggling since then. Supply chain issues have not helped them as well. This is further evidenced in the dividend increases for the last two years, which have been lousy 1c increases, much to the disappointment of several dividend investors who have invested in this company.

In my case, although I was disappointed with the dividend increases, I had faith in this company and my investment. As far as fundamentals, the company, even during these times, was generating enough free cash flow. Here is the FCF/share for the last 5 years:

Year20172018201920202021
FCF/share$8.15$8.26$9.31$11.45$10.11
Dividend/share$4.70$5.44$5.76$5.88$5.92
FCF dividend payout %57%65%61%51%58%

As one can observe, aside from 2021, 3M managed to increase its FCF/share and the dividend payout w.r.t FCF was also hovering around the 50-60% mark. This ensures that the dividend is safe and that management could slow down increases in what is a very difficult economic environment.

Also, if one were to look at the company’s R&D expenses for the last few years:

Year20172018201920202021
R&D expenses (in mill)18701821191118781994
% of net sales5.95.65.95.85.6

Here again, the company was spending a fairly significant portion of their revenue towards R&D. This is a pretty important consideration to retain competitive advantage.

While all of this was good, I wanted to see something more from the management as far as company direction in what they were anticipating to be turbulent times. While they were silent for most of 2021, to their credit, they announced their decision to spin-off their food safety business towards the tail end of 2021.

The “Sh*t hitting the fan” moments

As 3M were navigating these uncertain waters, they are now also facing legal trouble from two different lawsuits:

  1. 3M’s PFAS chemical production allegedly leading to ground water contamination: While there have been cases related to these in the US, these have now also been reported in parts of Belgium.
  2. Allegedly defective ear plugs produced by Aearo Technologies, a 3M subsidiary.

The second litigation has received a lot of coverage in the news since it involves nearly 230,000 separate cases from affected army veterans. 3M, in response, has since decided to also spin-off its health care business, while also placing Aearo Technologies under bankruptcy per Chapter 11. This is eerily similar to a strategy J&J used to deal with their talc powder lawsuits. Unfortunately for 3M, the bankruptcy judge has struck down the case and refused to temporarily halt the ear-plug lawsuits. 3M and Aearo have since claimed that they will appeal this decision.

So what does all this mean?

Well, there is a lot to unpack here. Firstly, if the earplug litigation goes through, 3M is believed to be facing up to $100 bill in damages. And this is just with the defective earplugs lawsuit. I am still not sure what the PFAS related lawsuits would result in, in terms of damages.

At the time of writing this, 3M has a market cap of $68 bill.

I do not foresee 3M being able to raise their dividends by any meaningful margin. Add to this, the economic environment that we are in and the possibility of a recession, this is not looking good at all!

Lessons

Phew!! Well this is looking horrible for 3M. But I wanted to take a step back and see what this means to me and my portfolio:

  • 3M is listed as one of my Core positions with a target allocation of 4%. While the stock has tanked, I am not selling at this time. I am instead choosing to hold and watch this situation to see how it evolves. I will also need to go ahead and downgrade this to one of the lower tiers during these times. I will not be buying at this time as I see better opportunities elsewhere.
  • I have written previously about the importance of diversification and this situation reemphasizes that notion. If I had a concentrated portfolio with 3 stocks like Warren Buffett and/or Charlie Munger recommend, with one of them being 3M, that would be a disastrous situation. No matter how well I know the company, I simply could NOT have seen these lawsuits coming.
  • These are testing times for both me and the businesses I own. It is easy to own stocks when life is all song-and-dance and the stock price can only go upwards. The real test of patience as an investor is when the businesses you own are navigating troubled waters.

3M has been an iconic company, one that has rewarded its shareholders for several decades. Its consumer products have been used the world over. I genuinely hope this is nowhere near the end of the road for this great company. We shall see how this situation evolves in the months ahead.

4 thoughts on “Lets talk about : 3M

  1. 3M has its low & high dividend growth cycles unlike a company like JNJ with its yoy DG consistency. I think the word that best describes their DG history is undulating, If history is any indicator, a hold is a good call.

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  2. This is one that I have been waiting to trade at a discount for a number of years now. But considering that they are likely not going to be able to spin off Aearo and file Chapter 11 and considering the sheer number of litigation just for the earplugs (not to mention the PFAS litigation headwinds), it just doesn’t warrant a starting position in my portfolio at this time, until I know more about whether the total impact of these will kill this business or not. I feel it is too bog to fail but it has to be a “wait and see” stock on my watchlist.

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