3M (MMM, Financial) is among the selected companies that have created shareholder value on a consistent basis. I can say with some conviction that 3M will continue to create shareholder value in the years to come. Therefore, with the stock having corrected by 9.2% so far this year, I see this as a good buying opportunity for this core portfolio stock. If I have to write a complete investment thesis, there will be several reasons that make 3M an attractive investment. However, I will discuss three important factors that will create shareholder value in the coming years.
Dividends and Repurchases
Investors who are looking for a high dividend stock along with strong dividend growth should consider exposure to 3M. For FY15, the company’s dividend is likely to increase by 20% as compared to FY14. Further, the company’s dividend increased by 35% in FY14 as compared to FY13. Therefore, there is strong dividend growth and this makes the stock attractive for dividend seekers.
3M currently offers an annualized dividend of $4.1 per share and a dividend yield of 2.7%. Considering conservative dividend growth over the next two years of 15%, 3M’s FY16 dividend is likely to be $4.7 per share and FY17 dividend is likely to be $5.4 per share. This is certainly attractive growth and high dividends will imply that the stock trades at a valuation premium.
For 3M, share repurchase is likely to be big for the period 2013-17. For the five-year period 2003-07, the company repurchased shares worth $10.4 billion, for the next five years (2008-12), the company repurchased shares worth $7.4 billion. However, for 2013-17, the share repurchase target is $20 to $22 billion. At $22 billion, the share repurchase is worth nearly 23% of the market capitalization.
Therefore, there will be big value creation through share repurchase and this will have a significant impact on the EPS.
Strong Organic Revenue Growth
I see 3M as a dividend stock, but the company’s revenue growth will be strong in the coming years. 3M has guided for 4% to 6% annual revenue growth and 9% to 11% annual EPS growth for the period 2013-17. In my opinion, this is entirely likely and will result in the stock moving higher. Therefore, investors will benefit from capital appreciation as well as from dividends growth.
The reason to believe that 4% to 6% organic revenue growth is possible is the company’s focus on emerging markets. For most of the company’s sector, the US is the biggest market, but the fastest growing markets are EMEA, APAC and LAC. The company expects revenue growth in double digits in markets like China, India, Indonesia, Turkey, Mexico and Brazil. Over the next five years, I expect revenue share from the US to decline gradually and revenue share from these markets to increase.
Therefore, the target of revenue and EPS growth is very likely. The company’s trailing twelve month diluted EPS is currently at $7.66. Even if 10% annual EPS growth is considered, the company is trading at 17.6 times 12-month forward EPS and 16.0 times 24-month forward EPS. This shows that 3M is not overvalued and if strong dividend growth continues, the company’s stock is likely to move higher in the next 12-24 months.
R&D and Acquisitions
One of the key reasons for 3M to be a value creator and to sustain growth over the years has been innovation. In the field of household products, industrial products and healthcare products, the company has survived and increased its penetration through innovation. The company’s R&D as a percentage of sales was robust at 5.7% for 2Q15 and 5.9% for 1H15. In my opinion, these investments will continue to increase the product offering for 3M and will also help the company keep in pace with the technological advances. Therefore, R&D will serve as a key point to the company retaining its market share in established markets and increasing market share in emerging markets.
As I stated above, 3M’s organic growth will be driven by emerging economies. However, the company is also looking to accelerate growth through the inorganic route. With 3M generating robust cash flows, I believe that acquisition is an excellent strategy to create shareholder value. In the recent past, 3M has acquired separations media business of Polypure International for $1 billion with the acquisition at 12 times EBITDA multiple. 3M has also acquired Ivera Medical Corporation in the healthcare sector and this broadens the company’s vascular access product offering.
I expect more acquisition to come in the next few years and this will provide revenue and EPS boost. I also see the company going for acquisitions to make increasing presence in developing markets where growth potential is significant.
Conclusion
Considering these key factors, 3M is a stock worth holding in the portfolio for dividends and also for stock upside gains. The company’s robust cash flow will continue to create value for investors in the ways discussed in the article.
In my view, fresh exposure can be considered at these levels with the stock having corrected from its 52-week highs.
