Dividend King 3M (NYSE:MMM) is set to be one of the most interesting stocks of 2020. With a market cap hovering around $96 billion, a dividend yield of 3.4%, and a 60-year history of raising its dividend, the stock can't be ignored by investors. But is it a buy right now or not?

3M's difficult 2019

It's been a difficult year for 3M, with the company cutting its full-year sales and earnings guidance through the year. In fact, management's initial guidance for 2019 called for 2% to 4% growth in organic local-currency sales -- a forecast that didn't inspire confidence even at the time. For reference, 3M is now on track for an organic sales decline of 1% to 1.5%.

A man standing in front of a buy and a sell signal.

Image source: Getty Images.

In a nutshell, 3M's less-cyclical segments, namely consumer and healthcare, have been underperforming for some time, while the more-cyclical segments (safety & industrial, and transportation & electronics) were always likely to be hit by weak end-market conditions in 2019. Indeed, a slew of industrial companies have been hurt by declining automotive production and a weak consumer electronics market this year, while the trade war has exaggerated slide.

Whether 3M's management should have foreseen some of this and not been so optimistic with guidance is a valid question, and there's little doubt that the issue has damaged investor confidence. But whichever way you look at it, 3M has lost the premium valuation it commanded at the start of the year -- here, measured in terms of price to free cash flow (FCF).

MMM Price to Free Cash Flow (TTM) Chart

MMM Price to Free Cash Flow (TTM) data by YCharts. TTM = trailing 12 months.

The bullish case

The glass-half-full case sees 3M as a potential value play. According to analyst estimates, earnings (measured here in terms of EBITDA) and FCF are set for solid growth in the coming years, and FCF easily covers the $3.3 billion in dividends paid in the last 12 months.

Metric

2017

2018

2019 Estimate

2020 Estimate

2021 Estimate

Sales

$31.657 billion

$32.765 billion

$32.241 billion

$33.832 billion

$34.716 billion

EBITDA

$9.364 billion

$9.592 billion

$8.485 billion

$9.222 billion

$9.602 billion

Free cash flow

$4.867 billion

$4.862 billion

$5.071 billion

$5.607 billion

$5.946 billion

Price to free cash flow multiple

19.8

19.8

19.0

17.2

16.2

Data source: Company presentations, analyst estimates from www.marketscreener.com 

Meanwhile, CEO Mike Roman is taking action to revitalize the company, which now operates out of four segments instead of five. Earlier this year, 3M bought a wound care company, Acelity, for a total enterprise value (market cap plus net debt) of $6.7 billion. Furthermore, 3M is widely reported to be looking at selling its underperforming drug delivery systems business for about $1 billion.

In other words, 3M's management is addressing the underperformance of healthcare. For reference, its target for healthcare is for 4% to 6% organic sales growth over the mid-term, and for the consumer segment to grow 2% to 4%. While the cyclical weakness in the other two segments -- mainly coming from China, automotive, and consumer electronics -- could turn in the future.

3M organic sales growth.

Data source: Company presentations. *Both segments were reorganized in the second quarter with retail auto care added to the consumer segment, and separation & purification added to healthcare.

All told, the bullish case sees 3M as a value play in turnaround mode that will pay you a 3.5% dividend while you wait for management to return the company to former glories.

The case against buying 3M stock

The glass-half-empty approach has three key points to it:

  • Despite the Acelity purchase and speculation over a sale of the drug delivery business, there still isn't a concerted plan in place to rejuvenate the healthcare and consumer segments.
  • 3M still faces potential liabilities due to possible litigation over previous production of PFAS, chemicals believed to be harmful to human health.
  • Management's latest pronouncement on trading -- Mike Roman at a Credit Suisse industrial conference -- is calling for conditions in the fourth quarter to be similar to the third quarter, suggesting ongoing pressure on earnings.

Putting these issues into context, 3M can be forgiven for near-term weakness, but the potential PFAS liability is an obvious worry. In addition, it's somewhat concerning that management is still arguing that the swing factor in meeting its target for annual organic sales growth of 3% to 5% is the macroeconomic environment, rather than taking more aggressive action with the consumer and healthcare segments.

Is 3M a stock to buy right now?

Frankly, investors probably need more commitment from management regarding portfolio restructuring and clarity on PFAS before feeling fully confident in buying the stock. Moreover, management can't keep blaming the economy when its less-cyclical businesses are underperforming its own expectations.

That said, there's certainly potential for these issues to be dealt with through 2020. Moreover, 3M's valuation and the potential for a turnaround are good reasons to keep an eye on the stock for now, rather than put it on the buy list.