Marcial: Stick with 3M

The maker of Post-It notes is well-positioned to ride out the current downturn, say market pros

Over the years, most conglomerates have lost their allure among investors, in part because they appear to be unwieldy and more difficult to analyze as investments than companies with simpler, less diversified operations. But 3M Corp. (MMM), a leading global diversified industrial, technology, and health-care company, is holding its own, mainly because its products have become necessities for consumers and businesses around the globe. Indeed, more than 60% of 3M's annual sales come from foreign markets.

"It is one of the most innovative companies in the U.S., spending approximately 6% of sales, or about $1 billion, on R&D, which gives them tremendous intellectual property assets," says Bruce Geller, CEO of investment management firm Dalton, Griener, Hartman, Maher, which owns shares. That's one reason, he adds, why 3M, formerly called Minnesota Mining & Manufacturing, has been more resilient than its peers during recessions or economic downturns.

Geller says it's a "premier conglomerate," with businesses ranging from industrial and transportation (30% of sales), to health care (28%) and technology (16%). The industrial sector makes products such as abrasives and adhesives used in the repair and maintenance of automotive and marine vehicles, and aircraft. Health care includes dental and personal-care products, and technology includes films for electronic displays and lens systems for television projection.

primed to take advantage

"We look for this global consumer behemoth to take advantage of other companies' weaknesses" during the current recession, says analyst James Butler of independent investment research firm Value Line (VALU). Historically, whenever a recession has occurred, 3M turned crisis into opportunity, he says, by utilizing its "very solid finances (it currently has $3 billion in cash)" to buy quality companies at low valuations.

Like most companies, 3M has seen its shares decline in the market's current massive slump, tumbling to 59 a share from a 52-week high of 88.70 on Dec. 12, 2007. The price drop reflects expectations that the current recession will last through most of 2009, says Butler.

However, he sees 3M stock recovering and climbing to the 100-a-share level by 2011. This price appreciation potential, he says, combined with a "rock-solid" dividend payout yield of 3%, suggests decent total return potential, on a risk-adjusted basis, over the next three to five years.

"As a long-term play, this top quality stock is a very good choice," says Butler.

In these troubled times, 3M's management has been focusing on the company's resilience in the current recession, says David Begleiter, an analyst at Deutsche Bank (DB) (it has done banking for 3M and owns shares), who rates 3M a buy, with a price target of 70. 3M's innovation-driven growth engine, he says, enables the company to control its own destiny far better than its industrial and material-science peers. Coupled with benefits from lower raw material costs, higher selling prices, and a much improved supply chain, 3M should be able to outperform its peers over the next 6 to 12 months, according to Begleiter.

growth from acquisitions, and china

Reflecting 3M's resiliency, he notes, 3M's stock outperformed the Standard & Poor's 500-stock index during the last recession in 2000-2001, when 3M traded as high as 63, a 40% premium to the S&P 500. He concedes that 3M isn't immune to a recession, but he believes it is far less exposed than its peers because of its innovation growth engine and broad technology platform.

Over the next several years, 3M's growth from existing businesses will be spurred by the commercialization of products now in its R&D pipeline, says analyst Matthew Christy of Standard & Poor's, who rates the stock a buy. (S&P, like BusinessWeek, is a unit of The McGraw-Hill Companies (MHP.) In addition, 3M's expansion internationally, most notably in China, will remain a source of growth for the company. And acquisitions will remain a key part of its growth strategy, says Christy.

3M very likely will continue to be financially strong. For the five years ended 2007, 3M posted annual growth rates of 8.4% for revenues and 14.7% for per-share operating earnings. Its return on invested capital in the past five years averaged 27%, according to Christy. For 2008, he expects earnings of $5.47 a share, rising to $5.60 in 2009.

Over the next few years, "we believe that continued efforts to streamline this diverse company will enable 3M to maintain above-average profitability," forecasts Christy.

Although some of 3M's products are exposed to the economy's swings, Wall Street remains mostly upbeat about its stock. Of the 17 analysts who track 3M, 10 recommend it as a buy and 2 tag it a hold, according to data from Bloomberg. Two analysts have a sell.

Geller of Dalton Greiner puts the intrinsic value of 3M shares in the mid 80s, including dividends, based on a multiple of 7 times earnings before interest, taxes, and amortization, which, he notes, is near a historic low valuation for the stock. "The overall diversity and quality of this company will only make it stronger through a downturn," says Geller.

Unless otherwise noted, neither the sources cited in Gene Marcial's Stock Picks nor their firms hold positions in the stocks under discussion. Similarly, they have no investment banking or other financial relationships with them.

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