Please ensure Javascript is enabled for purposes of website accessibility

Near a 3-Year Low, Is 3M a Buy?

By Reuben Gregg Brewer – Oct 15, 2020 at 11:05AM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

Industrial giant 3M is muddling through the COVID-19 crisis, but that's just a small part of the cause behind its relatively low price.

Formerly known as Minnesota Mining and Manufacturing, industrial icon 3M (MMM -2.04%) has lost roughly a third of its value over the past three years. The stock is only down about 7% or so in 2020, so there's more to that decline than the 2020 COVID-19 pandemic.

Trading near a three-year low, is 3M worth buying today? Here's what you need to know to decide.

How cheap is it?

Valuation can be kind of tricky at times, particularly for economically sensitive companies like industrials. Indeed, a company like 3M will see earnings decline during a recession (like the one that started in February), but its long-term earnings power will largely remain intact. The problem is that demand has simply fallen off during the downturn. So the price-to-earnings ratio may not be the best gauge of valuation for 3M.

A hand drawing a price versus value graphic and a bullseye on the low price high value quadrant.

Image source: Getty Images.

Two alternative ways to look at valuation, however, are the price-to-sales ratio and the relative dividend yield. Sales and dividends tend to be more stable over time, allowing investors to look past the inherent ups and downs of a cyclical company's earnings. 3M's price-to-sales ratio today is about 3.1 times, versus a three-year average of 3.6 times. The company's dividend yield, meanwhile, is in the 3.5% range. The last time the yield was this high was during the 2008-09 Great Recession. You'd have to go back to the mid-1990s to find another time that the yield was this high. 

Using these two valuation tools, 3M appears to be trading hands at a price that long-term dividend investors should find attractive. But the interesting thing is that the global pandemic isn't the driving force of the low price here -- the industrial giant's big price decline started well before COVID-19 made its appearance. So what's going on?

Every company has its warts

The choice to buy a stock always comes with compromises, since no company is perfect. When you are looking at a stock that appears to be cheap, the trade-off is usually something about the business. For the most part, 3M is performing pretty well given the COVID-19 headwinds it's facing. For example, it earned $1.78 per share in the second quarter, down roughly 16% year-over-year. More importantly, each of its four main business units maintained double-digit operating margins. Its worst-performing unit was healthcare, with a still-impressive 16.8% operating margin. The company isn't hitting on all cylinders today, but it is hardly struggling to get by. 

That said, 3M's financial debt-to-equity ratio is roughly 0.25 times. On an absolute basis that's fairly modest. However, it's near the highest levels in the company's history. So while it would be hard to suggest that debt is a huge problem, it is an issue that investors need to watch more closely today than ever before. The dividend payout ratio, at around 65%, is also toward the high end of the company's historical range. It's not an outlandish number, but again it is something that bears watching. 

MMM Financial Debt to Equity (Quarterly) Chart

MMM Financial Debt to Equity (Quarterly) data by YCharts

On their own, those two issues would be things to monitor, but not factors that would drive droves of investors away from 3M. But that brings up the bigger issue here: a pair of material lawsuits. One is tied to environmental issues related to manufacturing plants, and the other is tied to product safety. These are long-running issues that will take time to resolve and may end up costing 3M a lot of money. This is the reason why 3M's stock has fallen so hard over the past three years. 

That said, 3M is a roughly $100 billion market cap company with an investment-grade credit rating. And while leverage is historically high, given the company's size and industry position it can probably handle the legal hit without too much difficulty. In other words, 3M's legal troubles are a very real issue, but not one that's likely to be insurmountable. More to the point, it looks like investors have priced in the risk at this point.

On sale and worth the price

All in all, it looks like Mr. Market has put 3M on the sale rack. There are very legitimate reasons for that decision, but it's likely that the company will be able to handle the legal headwinds it's facing. If you can stomach a little uncertainty, the stock is probably worth looking at while it's still cheap.

Reuben Gregg Brewer owns shares of 3M. The Motley Fool recommends 3M. The Motley Fool has a disclosure policy.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

3M Stock Quote
3M
MMM
$123.56 (-2.04%) $-2.57

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
349%
 
S&P 500 Returns
115%

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 11/30/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.