The stock market is full of surprises and can be wildly unpredictable over the short term as fundamentals clash with a mix of fear and greed.
And although the long-term track record of the S&P 500 is excellent (around a 10% compound annual growth rate since 1965), the stock market rarely has an annual return between 8% and 12%. In fact, the S&P 500 has produced an annual return of between 8% and 12% in just four out of the last 50 years -- in 1971, 2004, 2014, and 2016.
One of the most tried-and-true methods for combating volatility is to invest in quality dividend stocks that give you regular payouts no matter what the stock market is doing. 3M (MMM 0.79%) has been paying and raising its dividend for 64 years in a row, making it one of the oldest members on the short list of Dividend Kings -- S&P 500 stocks that have paid and raised their dividends annually for at least 50 consecutive years. The track record is impressive, but an investment is only as good as where it is headed, not what it has done in the past.
Investing $10,000 in 3M stock should give you at least $400 per year in dividend income, or $2,000 over the course of five years. However, this calculation assumes that 3M keeps its dividend the same for five years -- when in reality -- the amount of dividend income per year will likely be higher given 3M's track record for raising the dividend. Here's why 3M is a dividend stock that is worth considering now.
An out-of-favor business
The chart for 3M stock is about as ugly as it gets. The company has grossly underperformed the S&P 500 over the past year, three years, five years, seven years, and 10 years -- even when factoring in dividends. The last five years in particular have been an eyesore. Investing $1,000 in 3M five years ago would have left you with just $938 today versus $2,080 in the S&P 500.
In many ways, the stock deserved to underperform the market. The company launched a restructuring program in the fourth quarter of 2020 that has already cost $260 million with more to come. However, 3M believes the program will be worth it in the long run as it will get rid of functions that aren't contributing to its growth.
Overall, the restructuring has been a minor success so far, as 3M's margins have stayed consistent while revenue and net income have rebounded. But it's the company's revenue and earnings growth rate that has been weak. Revenue is up just 11.7% from five years ago, while net income is up just 21.9%. The outlook is bleak, too. 3M is guiding for organic sales growth of 2% to 5% in 2022 and earnings-per-share growth between 0% and 5% compared to 2021.
A dirt cheap valuation
With all this bad news, investors might be scratching their heads as to what makes 3M a good buy now. It has been disappointing investors year after year and consistently missing or lowering guidance, so there is likely a "prove it" factor that is weighing down the stock right now. When expectations are extremely low on what remains a very influential and diverse company, it is often a great time to reach into the bargain bin and buy.
What really makes 3M stock attractive now is its valuation.
In terms of price to free cash flow (P/FCF), price to earnings (P/E), and enterprise value to earnings before interest, taxes, depreciation, and amortization (EV/EBITDA), 3M stock is the cheapest it has been since 2013.
As Warren Buffett famously said, "you pay a very high price in the stock market for a cheery consensus," which basically means that companies that have everything going right are expensive. The reverse is true with a company like 3M, where it has issues and investors therefore can pay a low price because it is a mixed bag.
The reality is that 3M's timetable for returning to meaningful growth is unknown. And even if it does, can it make the necessary changes to avoid losing market share over time? That is the uncertainty that is facing 3M right now. Therefore, I would argue that it's more important to focus on what we do know, which is the strength of the company's balance sheet, its low valuation, and its attractive dividend yield. In terms of a source of passive income in an inflationary environment, 3M looks like a good option now. Investors that want to avoid uncertainty can simply wait a few years to consider 3M once we can better evaluate the company on the other side of its restructuring. The downside is that if 3M turns things around, its valuation will likely be more expensive.
Get paid to wait
3M stock will likely continue to languish until it can regain its footing and get back to growth. Investors who choose to give the company the benefit of the doubt will collect a 4% dividend yield for their patience and the solace of knowing they are getting the stock at a cheap price relative to its earnings and free cash flow.