One thing is sure: 3M (MMM 0.55%) will look much different at the end of 2024 than when this year finishes. Still, the critical question is whether that's likely to be a good or a bad thing for investors. Here's what 3M could look like in a year so you can decide about investing in the stock.
Healthcare spinoff
With the spinoff of its healthcare business, Solventum, planned for the first half of 2024, 3M will exit the year without one of its income generators. The healthcare business generated 36% of the segment's operating income in 2022.
That said, while the healthcare business provides relatively stable earnings, I would argue that it's been one of the company's most disappointing in recent years.
Key Data Points
As previously articulated, the healthcare business has consistently failed to meet management's growth expectations over the last decade. For example, on two separate investor day presentations (in 2016 and 2019), management forecasted 4% to 6% annual organic local currency sales growth. Still, the only year the segment exceeded the low end of the guidance since 2015 was 2021, thanks to the bounce-back from the pandemic-ravaged year of 2020.
Even more disappointingly, the business has been at the forefront of management's corporate actions in recent years, with management buying M*Modal's health information services business for an enterprise value of $1 billion in 2018. It then bought wound care business Acelity for a consideration of $6.7 billion in 2019 and sold its drug delivery business for $650 million.
However, none of these changes have resulted in sales growth in line with expectations, and this is a segment that regularly reported 30% plus profit margins in the mid-2010s, only to fall to 21.6% at the end of 2022.
Frankly, spinning off the healthcare business looks like a move that will remove a problem area for the company and allow management to focus on its industrial and consumer business. That's probably a net positive.
Image source: Getty Images.
3M's dividend
Spinning off the healthcare business will also result in the following factors, which could help determine whether 3M maintains its dividend.
- 3M will retain a 19.9% stake in Solventum, which could be monetized over time, possibly to support its dividend payment.
- 3M plans to spin off Solventum, carrying relatively high debt, aiming for a net debt-to-earnings before interest, taxation, depreciation, and amortization (EBITDA) ratio of 3 times to 3.5 times with an intent "to be positioned for rapid deleveraging."
Wall Street analysts expect 3M to end 2023 with $10.7 billion in net debt. Since the adjusted EBITDA of the healthcare segment was $2.4 billion in 2022, investors might pencil in Solventum to carry net debt of $7.2 billion to $8.4 billion -- either figure would significantly reduce 3M's debt load and give it more financial flexibility.
That flexibility may be needed as 3M's annual dividend payout is $3.3 billion, while its trailing-12-month free cash flow is $4.85 billion. While that may appear to be adequate cover, note that 3M will lose significant earnings from its healthcare business, and it has to make multibillion-dollar legal settlement payments that could result in $1.5 billion and above in cash payments over the medium term.
Will 3M's management elect to maintain its dividend, possibly by using cash from the sale of its 19.9% stake in Solventum, or will it prudently decide to cut the dividend?
3M returns to growth
After a tough 2023 (overall organic sales are expected to fall by 3%), investors hope 3M will grow again in 2024. In addition to sales growth, there are some signs that 3M is starting to grow its underlying profit margin again, not least as it implements significant cost restructuring.
As such, the narrative around the stock, at least from the growth and margin perspective of its remaining three businesses -- safety and industrial, transportation and electronics, and consumer -- could look more positive at the end of 2024, particularly if lower interest rates are stimulating growth.
Image source: Getty Images.
3M in 2024?
The company will have to navigate a difficult start to the year as its end markets continue to weaken, and there are serious questions about its dividend -- the market and income funds invested in the stock will not appreciate a cut, even if it's what the company might need to do to support growth.
However, the outlook for the back half of the year is better, particularly if the recent improvement in margin carries through into next year and the 3M spinoff is successful. While now might not be the best time to buy the stock, an opportunity might arise after there's more clarity on the dividend question and management's outlook for 2024.
