It has been about a month since the last earnings report for 3M (MMM). Shares have lost about 12.9% in that time frame, underperforming the S&P 500.
Will the recent negative trend continue leading up to its next earnings release, or is 3M due for a breakout? Before we dive into how investors and analysts have reacted as of late, let's take a quick look at the most recent earnings report in order to get a better handle on the important catalysts.
3M Lags Q1 Earnings and Sales Estimates, Lowers View
3M lagged estimates in the first quarter of 2019. Negative earnings surprise of 10.8% came in after the company posted positive earnings surprise in the last reported quarter. Also, sales lagged estimates by 2.8%.
The company's adjusted earnings in the reported quarter were $2.23 per share. Earnings — excluding 72 cents per share of litigation related-charges — lagged the Zacks Consensus Estimate of $2.50. On a year-over-year basis, bottom-line results decreased 10.8% due to weak end markets, rise in costs of sales and fall in operating results.
Weak Organic Sales, Divestitures and Forex Woes Hurt Revenues
In the quarter under review, 3M's net sales were $7,863 million, reflecting a decline of 5% from the year-ago quarter. Results were adversely impacted by 1.1% decline in organic sales (notably, combined results of automotive and electronics businesses decline in a mid-single digit), 1.1% negative impact of divestitures and 3.4% adverse impact of foreign currency translation, partially offset by 0.6% gain from acquisitions.
However, the top line lagged the Zacks Consensus Estimate of $8,091 million.
On a geographical basis, sales in the United States inched up 0.1% year over year while that in the Asia Pacific decreased 7.4%. Europe, Middle East and Africa’s sales declined 9.4% and that of Latin America/Canada slipped 6.5%.
The company reports net sales under five segments — Industrial, Safety and Graphics, Health Care, Electronics and Energy, and Consumer. The segmental information is briefly discussed below:
Revenues from the Industrial segment were $2,929 million, decreasing 6.6% year over year. Results were adversely impacted by 3.7% negative impact of foreign currency translations, 2.8% decline in organic sales and 0.1% adverse impact of divestitures.
Revenues from the Safety and Graphics segment totaled $1,704 million, decreasing 4.2% year over year. This decline was due to 4% adverse impact of forex woes, 0.1% fall in organic sales and 0.1% negative impact of divestitures.
Revenues from the Health Care segment were $1,540 million, rising 0.3% year over year. While organic sales grew 0.7%, unfavorable currency translation adversely impacted sales by 3.6%.
Revenues from the Electronics and Energy segment totaled $1,190 million, decreasing 11.8% year over year. Results were adversely impacted by 6.6% negative impact of divestitures, 3% fall in organic sales and 2.2% from forex woes.
Revenues from the Consumer segment declined 1.9% year over year to $1,123 million. Results were adversely impacted by 2.8% adverse impact of forex woes, partially offset by 0.9% growth in organic sales.
Cost of Sales Increase, Operating Margin Falls Y/Y
In the quarter under review, 3M's cost of sales increased 1.7% year over year to $4,310 million. It represented 54.8% of net sales compared with 51.2% in the year-ago quarter. Selling, general and administrative expenses decreased 24.3% year over year to $1,948 million. It represented 24.8% of net sales versus 31.1% in the year-ago quarter. Research, development and related expenses decreased 1.9% to $477 million. It represented 6.1% of the quarter’s net sales versus 5.9% in the year-ago quarter.
Adjusted operating income in the quarter under review decreased 11.6% year over year to $1,684 million mainly due to decline in organic sales and productivity weakness. Operating margin was down 160 bps year over year at 21.4%. Adjusted tax rate in the reported quarter was 19.5% versus 17.6% in the year-ago quarter.
Balance Sheet and Cash Flow
Exiting the first quarter, 3M had cash and cash equivalents of $2,938 million, up roughly 3% from $2,853 million at the end of the last reported quarter. Long-term debt balance increased 16.2% sequentially to $15,580 million.
In the reported quarter, the company generated net cash of $1,048 million, significantly above $143 million generated in the year-ago quarter. Capital used for purchasing property, plant and equipment increased 28.6% year over year to $391 million. Free cash flow in the quarter was $657 million versus cash outflow of $161 million in the year-ago quarter. Free cash flow conversion was at 74%.
During the reported quarter, the company used $830 million for paying dividends to shareholders while repurchased $701 million shares.
The company noted that it undertook some restructuring and other actions to lower costs, boost productivity and increase cash flow generation (through lower capital investments, reducing inventories and increasing indirect cost actions). These actions are targeted to lower 2,000 positions globally. Related pre-tax charges will likely be $150 million while pre-tax annual savings are anticipated to be $225-$250 million. For 2019, savings are expected to be roughly $100 million.
Also, the company mentioned that it remains committed toward making investments in research and development as well as growth programs.
For 2019, 3M revised down adjusted earnings guidance from $10.45-$10.90 to $9.25-$9.75 per share. The revised projection includes 20 cents per share of restructuring charges and 13 cents of benefits from restructuring actions, and excludes 72 cents of litigation charges. Tax rate is likely to be 20-22%.
Organic sales growth guidance has been revised from 1-4% to (1)-2%. On a segmental basis, organic sales will grow 2-4% for Health Care, decline 1% to grow 2% for Safety & Industrial, decline 3% to remain flat for Transportation & Electronics, and grow 1-3% for Consumer.
Acquisitions, net of impact from divested assets, will have a neutral impact while forex woes will hurt sales by 1%.
Net cash generated from operating activities is anticipated to be $6.4-$7.2 billion (down from previously mentioned $7.7-$8.4 billion), while capital expenditure will likely total $1.6-$1.7 billion (down from the previously stated $1.7-$1.9 billion). Free cash flow is predicted to be $4.7-$5.6 billion (down from the prior $5.8-$6.7 billion) while free cash flow conversion is maintained at 95-105%.
Further, shares worth $2-$4 billion will likely be repurchased during 2019. Return on invested capital will likely be 20-22% (versus the prior expectation of 22-25%).
How Have Estimates Been Moving Since Then?
In the past month, investors have witnessed a downward trend in fresh estimates. The consensus estimate has shifted -21.59% due to these changes.
At this time, 3M has an average Growth Score of C, though it is lagging a lot on the Momentum Score front with an F. However, the stock was allocated a grade of C on the value side, putting it in the middle 20% for this investment strategy.
Overall, the stock has an aggregate VGM Score of D. If you aren't focused on one strategy, this score is the one you should be interested in.
Estimates have been broadly trending downward for the stock, and the magnitude of these revisions indicates a downward shift. It's no surprise 3M has a Zacks Rank #4 (Sell). We expect a below average return from the stock in the next few months.
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