3M Company (MMM) Earnings Call Transcript & Summary

Good morning. My name is Brendan Luecke, and I'll be covering the multi-industry sector here at Bernstein. It's my pleasure to welcome all of you today to today's fireside chat with 3M. Thank you all for joining us. Before we dive in, I'd like to cover a few housekeeping items. As always, we're striving for an interactive session. So similar to last year, we'll be using Pigeonhole for Q&A. There's a link on the bottom -- on the left side of your screen to access Pigeonhole. It opens up a new window browser where you can submit questions. You can also vote on questions already submitted by pressing the triangle next to any question. So please go ahead and click that link now and feel free to start submitting questions for 3M right away. That way we can tailor the conversation to the areas of your interest. Finally, it's my great pleasure to introduce 3M. We're thrilled to have 3M back at the SDC for, I believe, it's the 12th year running. With me today is Mike Roman, 3M's Chairman and CEO; and Bruce Jermeland, Senior Vice President, Investor Relations. It's a real pleasure to have you both at SDC again this year. Bruce, I believe you had a quick say before we get started.

Sure. Thank you, Brendan. And it's great to be here today with everyone. Just want to remind today's audience that's listening in to today's discussion about our forward-looking statements. During today's discussion, we may make certain predictive statements that reflect our current views about our future performance and financial results. These statements are based on certain assumptions and expectations of future events that are subject to risks and uncertainties. Item 1A of our most recent Form 10-K lists some of the most important risk factors that could cause our actual results to differ from our predictions. So with that, I'll hand it off to Mike for some opening remarks.

Thank you, Bruce, and good morning, Brendan. It's good to be with you today. Let me start with 2020. It was an unprecedented year, and we prioritized protecting our employees, fighting the pandemic from every angle and delivering for our customers and shareholders. And we delivered strong execution in the face of that. Then we started 2021 with a strong Q1, up 8%, broad-based organic growth across all businesses and geographic areas. Our team has been executing well. We posted record sales, robust cash flow and expanded margins and a double-digit increase in earnings per share. We are seeing and have seen the improvement in many of our end markets, encouraging signs, while others still remain below pre-pandemic levels. We also have seen and are working to address ongoing global supply chain disruptions due to COVID-19 and exacerbated by some trends due to the improving macroeconomic environment and things like winter storm Uri, all of which are impacting us and increasing the cost of doing business. Looking ahead, we expect continued strengthening of the global economy, though we expect the recovery to continue to be uneven as the pandemic and the rollout of vaccines and government policies evolve in different stages around the world. I would say I'm very confident in our business as we navigate this uncertainty. And with 1 quarter behind us, we maintained our full year guidance for organic growth, earnings per share and cash flow. Overall, I'm pleased with 3M's first quarter performance as we did drive strong growth, earnings and cash flow. And we're positioned for a successful 2021 and remain focused on delivering value for our customers and returns for our shareholders. With that, I'll turn it back to you, Brendan, and take your questions.

Excellent. Well, thank you so much, and we're looking forward to a great discussion here. I guess to kick it off, hard not to tackle, but it's been, what, 15 months or 573 years, I'm not sure which, since the pandemic began. What are your biggest learnings over the past 1.5 years? And how are you going to carry those forward as you sort of see the exit trajectory from the pandemic?

Well, COVID really did have a transforming effect on how people live, work and communicate. And it impacted our employees, our customers broadly. Years worth of changes happening in months. Everybody talks about the accelerating effect of COVID on trends that were there prior to the pandemic and trends that emerged during the pandemic. I would say, for us, we responded to those accelerated trends in the middle of pandemic. And one of the ways we did that to help fight the pandemic from every angle, pivoting to manufacture, more respirators than ever before, more than a fourfold increase in our production capacity. And that helped us fight the pandemic, helped deliver more than 630 million N95 respirators in Q1 of 2021. It also is giving us lessons that we can apply more broadly. We're applying what we learned in that accelerated scale-up to new investments in growth priorities, in our indoor air quality solutions, our Filtrete brand solutions, in our biopharma filtration, which is high demand in supporting vaccines and therapeutics. It's also learnings in how we've responded to the pandemic that will carry forward how we help customers, getting closer to customers, finding new ways to connect with customers, helping them respond to the pandemic with innovation in products, also in new ways of working. And there are some things that will be changed as we go forward. Dental offices using more personal protective equipment than ever before, and we can help with that. So lessons in how we work even more closely with customers. The other partnership aspect of COVID, the learnings around how important partnerships are more than ever. And public-private partnerships in the middle of the pandemic were key. Partnering with other companies enabled us to do things in fighting the pandemic and also delivering for our customers better than ever before. And those are shifts that will stay with us. We'll carry that forward. And I would say, in the middle of the pandemic, there was an increased focus on the environment, ESG broadly, in particular, on the environment. And this is a great opportunity for us as a company to leverage our science, our innovation, how we can lead in really managing our operations, managing air, water and waste, really driving improved environmental stewardship. And we can innovate for our customers to help them do the same, areas like automotive electrification where we can help enable the electrification of the powertrain and electric vehicles in the automotive future. So there's a big focus and I would say an accelerated focus in that area as well. And then as we think about this summer and especially here in the U.S. as we make progress with vaccinations, we are returning more of our employees to the workplace. And we're thinking about the learnings from last year as well. How do we increase flexibility in how we work, taking the lessons from operating in our operations in the middle of the pandemic, as I mentioned, but also in our working remotely during the pandemic, how can we take advantage of those. And those will change how we work, create a lot more flexibility, a different kind of environment, not only in the U.S. but around the world.

Excellent. And I guess if we take it up a couple of levels, would you say that long term, your strategic priorities have shifted much to the pandemic? Or is it pretty much steady course?

I would say the strength of the 3M model shined through in the middle of the pandemic. Our ability to respond to the changes in our end markets, and in some cases [indiscernible] that we saw incredible demand. And our operating model enabled us to -- in our -- I would say, our global manufacturing and building out of capabilities close to customers enabled us to respond quickly and really support our customers well during the uncertain times of the pandemic. So I think that reinforces -- there are always learnings and bringing more capabilities, but it reinforced that part of our strategy. We -- while we thought the pandemic and we managed some of the challenges in -- even in end markets that we saw downturns, we also continued to invest in the future. So we kept our eyes on what we know will deliver for our businesses and our customers as we go forward. So continue to invest where we saw growth opportunities, where we saw an opportunity for differentiated value from 3M's capabilities, our technologies, our manufacturing, our global capabilities, what we can do to innovate for our customers. So we continue to highlight not only our priority growth platforms that have been an important part of our investment in growth, also new emerging market trends that we saw coming through the pandemic in areas like home improvement, which continues to be a strong trend as we move forward, in areas like our personal protective equipment and where we can go in the future, in electronics and some of the growth segments that are emerging in electronics. Those are all areas that we made sure to continue to invest. So I see a strong opportunity for us to continue to leverage the strength of the 3M operating model and invest where we can make a difference with our innovation.

Fantastic. And I guess I'd love to talk macro briefly and then maybe sort of chat through the shape of the recovery as you see it playing out across your businesses. On the macro side, I'd imagine, given the breadth of your business, both across SKUs and geographies, you have a pretty privileged view of how the global economy is unevenly exiting from COVID. What are some of the highlights that you're seeing? What's deteriorating? What's stabilizing? What's taking off?

Yes. Brendan, I mentioned it, we saw a strong start to the year in first quarter, and it was broad-based organic growth across our business groups, our geographic areas. That said, there were a few areas that were a bit stronger in Q1 than others. And even then, what we had expected coming into the quarter, including consumer electronics, really primarily due to strong demand in areas like TVs and tablets. We also saw, as I highlighted, a strong demand continuing and increasing in home improvement. People continue to invest in their homes. And we saw growth in our stationery and office supply business as students and workers started to return to schools and office. So it's -- we're seeing some of those trends continue in some cases and some of those start to improve and come back. One of the areas that we also talked about is what we're seeing in our health care business. We really focus there on how elective procedures are improving. And we saw at the end of 2020, early in January, with the increasing number of COVID cases, we saw elective procedures fall from where they had gone to in Q4, then they recovered. And they're somewhere around 80% to 85% of pre-pandemic levels, and we expect that to continue to improve as vaccinations and the improvement in the COVID pandemic progressed through the year. But they still remain below pre-pandemic levels as we go into Q2. I would say, other areas, we continue to see impact from the pandemic. We also see some challenges well documented and talked about the chip shortages impacting automotive build rates and some areas of electronics as well. So I would say no surprises so far as we get into Q2. We continue to monitor some of those areas that I highlighted, and we're continuing to watch those health care elective procedure volumes as we go. We also -- just to note, we're monitoring closely the demand for N95 respirators across multiple end markets, including health care, industrial, consumer and an area that we see demand, which is governments stockpiling for future pandemics. So we're monitoring that as we see the changes with the vaccinations and the reopening of the economies. So I don't -- I would say the one thing I'm certain of at this point is that end market trends are going to remain fluid and uncertain until we get further along in how it evolves.

Okay. Fantastic. That's useful color. So I guess shifting to sort of the business dynamics by segment. I mean there's a lot of puts and takes across the different pieces of the business. I'd just like to go deep in a couple of areas. So first, on Safety and Industrial, specifically on respirators, I mean, obviously, you guys have been delivering huge numbers in that area over the last 15 months. How do you think about the normalization of respirator sales, especially given kind of the wind-down in North America, while other geographies is out there nowhere close?

Yes. Well, I highlighted a little bit of where we came into the year. We had ramped up our production capacity in 2020. We entered the year with a run rate of about 2.5 billion respirators annually, N95 respirators. In the first quarter, we distributed 630 million respirators globally. And demand for respirators remains strong. It's a very dynamic market right now. We're seeing demand changes in certain geographies post peak pandemic daily needs. In the U.S., for example, given the improving vaccination rates, health care-related demand has begun to moderate. This still remains materially higher than it was pre-pandemic. And as I mentioned, stockpile building and management is now balancing some of the slower real-time health care-related demand. We -- as we manage this shift, we are moving capacity to serve demand in industrial and consumer end markets in the U.S. In EMEA, we see -- Europe, Middle East, Africa, we see similar dynamics in health care. We also anticipate stockpile management will grow as we go through this year into 2022 as European governments are prioritizing that as part of their long-term plans. In other areas of the world, I would say it's -- we -- especially where you see continued elevated cold and infection rates, demand for health care use of N95s continues to be very robust, and we're directing our capacity to support that. So how long the strength of respirator demand continues will ultimately depend on how COVID really evolves and the success of the vaccine deployment globally and maybe some changes in -- potential changes in consumer behavior and how that proceeds. So I would just leave you, we're prepared to adjust our respirator output to meet the market demand. It's something we've managed in other X factors, nothing to the scale of a global pandemic. But it's something we're prepared to do, and we'll manage that as we see the shifts and changes in demand.

Fantastic. And then one other quick question on health care. Do you have any concerns around, say, price pressure emerging in the U.S. given the financial strain on a lot of hospitals, potential for accelerated consolidation?

Well, we -- the focus for us, as I talked about, is how are hospitals doing and returning to normal operations. And elective procedures is an important measure of that. We -- and our Medical Solutions business, really, that drives a significant leading indicator for our demand. So as you look at hospitals, depending on how they decide to operate, where they go with their models, where they go with their organic and inorganic strategies, that will be the driver for us. So we watch that closely, and that's been improving. As I mentioned, it's improved out of the challenge that we saw at the beginning of Q1, improved as we went through the quarter. We expect that to continue to improve as we go through the year. The other area we look at is in our Health Information Systems business is we saw an impact in 2020 on capital budgets, IT -- health care IT budgets. We expect that to improve as hospitals get back to the business of elective procedures. So that's the focus for us as we go this year.

Okay. Fantastic. Transportation and Electronics. Obviously, a pretty big spread in the guide for this segment for '21. What should we be looking at to sort of get confidence around a narrower range across those businesses?

Yes. Brendan, just -- we talked about this a bit at the Q4 earnings call when we talked about guidance for the year. The broader range of guidance for our Transportation and Electronics business really reflects the volatility of those electronics and automotive markets as we came out of 2020 into 2021. We hadn't anticipated the chip shortage impact in that, but that's another example of that. We also have -- that business also serves our oil and gas and energy industry, and looking at the outlook for that, that broader range for the year made good sense given the wide range of outlooks for those segments in those markets. Transportation and Electronics had a good start to the year. They're up 10% year-on-year in Q1. Despite the chip shortage and semiconductor supply chain constraints, Electronics grew high teens with strengths in semiconductor. We serve those semiconductor manufacturers. Data centers is a strong growth driver. Factory automation coming back. And then as I mentioned, we saw some strong demand in electronics -- consumer electronics, particularly tablets and TVs. Our automotive business also up strong in Q1, up 21%, outperforming global car and light truck builds, which were -- I think we revised to 15% for Q1. So that wider range, you can see the strong start is an example of the kinds of dynamics that we can see in those markets. So I'm pleased with the strong start. I think it's -- our teams are executing well in the face of that, some of the uncertainty that we're seeing there.

Okay. Fantastic. And then on Consumer, I mean how do you think about the puts and takes of return to work and back to school? Is there -- I mean, do you expect DIY to tail off or home improvement tail off as people spend less time at home? Are you assuming that we're pretty much back to normal this fall?

Well, I mentioned, we continue to see strong growth in our home improvement business and end markets. Consumer is off to a good start to the year, up 8% organically in Q1. It was led by home improvement with strong demand for Filtrete air quality solutions. This is another one of those trends that was there before the pandemic. We were seeing strong demand in air quality solutions. The pandemic put an even stronger focus on that. We also see strong growth in our Command adhesives. And it's a focus on your -- personalizing your home and part of that home improvement view as well. So we see those trends continuing. That's something that we had before the pandemic. We think it will continue as we go forward. The improved growth in office supplies and stationery was partly due to, as I mentioned, the returning to the workplace and schools. It's also due to last year's comparison. So we'll see a year-over-year comparison to soft decline -- actually declining demand in 2020. So as we start lapping some of the work-from-home and school trends, we'll see some strength in that market as we go through the year. So we expect strength in home improvement. You see that improving year-over-year trends in office supply. And we continue to see strong growth opportunities in areas like home cleaning as well. So when you take all that, we see our consumer team executing well in the first quarter and continue to see opportunities for growth as we go forward.

Okay. Fantastic. What are you seeing in the channel across your businesses? Do you think that -- I mean would you attribute any of the recovery in Q1 to restocking or even overstock view of supply chain risks? Or do you think we're really looking at a reflection of end market recovery?

I -- maybe the short answer is it's more of a reflection of end market recovery in what we're seeing. But I would say what we're seeing in the channel, I can give you a little bit of a view of that. We're seeing channel inventories pretty much in line with how analysts are looking at it. Your peers have written about this pretty broadly. We see, of course, challenges due to the growth trends, the COVID impact, things like the chip shortage and even winter storm Uri here in the U.S. Maybe by business, if you look at Safety and Industrial, I would characterize overall inventories remain relatively low with our channel partners as they're dealing with numerous supply issues during the recovery. N95 respirators, we've seen a moderate amount of inventory build in the U.S. at this point, mainly driven by the decline of COVID cases and the shift in the demand that I mentioned in health care and us shifting more of our focus back to industrial markets and even consumer segments. Transportation and Electronics, there's, of course, well-understood tightness in the semiconductor supply chain impacting both electronics and automotive end markets. Otherwise, I see the channel balanced with -- and working to stay balanced with that increasing demand. And health care channel inventories, they're pretty much on balance. And I think we are seeing -- example, in Oral Care was strong. We saw strong growth in Oral Care as we came through first quarter. We see some replenishment in the channel, really matching up with that increasing demand. So I think you kind of have 2 sides of it where you see moderating demand for us in something like respirators, in health care. We see some inventory build. Other places, it's pretty well balanced. And in some cases, where you see increasing growth, this tight supply working to catch up with that increasing growth.

Okay. Fantastic. And I've got a question from the audience here. Predates you a bit, so not entirely fair, but what do you think is the root cause for, I guess, let's say, uneven organic growth over the last decade? I mean 2019 is obviously a pretty big story there. And how do you plan to drive growth across all these businesses at 3M going forward?

Well, it starts with the 3M fundamental strengths and what we do to drive growth, the model of 3M. And you look at -- our goals continue to be drive growth at or above the macro, deliver with that growth on our commitments in terms of cash flow and margins and earnings per share, value to our customers, return to our shareholders. That's the focus of us driving that growth. And our growth strategy is to leverage the fundamental strengths of 3M, leverage our innovation to create differentiated value and provide new opportunities for penetration of the markets we're part of. Today, increasing penetration and opportunities to also build new businesses. And it -- so innovation is central, and we've spent a lot of time with investors talking about what we're doing, where we're prioritizing our innovation. It's also important that we prioritize where we invest in innovation to attractive markets, prioritizing growth that are -- prioritizing markets which have growth that are better than average. It's very difficult to outgrow the macro if you are choosing markets that are growing slower than the macro, even if you can bring significant innovation. So that's part of what we've been focused on in our portfolio strategy, how do we prioritize, first and foremost, where we make organic investments and making sure that we're prioritizing investments in those higher-growth opportunities. And I highlighted a number of examples already. Priority growth platforms has been something we've been talking about for several years. We are also highlighting some of the areas that we came through 2020 that we saw additional opportunities, trends that provide high-growth market opportunities for our innovation. So that's what will drive the growth. And when you look at something like 2019 in the middle of it, part of that is markets that were challenging us and how we are aligned, where our priorities and investments are. And so as we go forward, it's critical we continue to focus on differentiated innovation to build new opportunities for penetration, share, new businesses in attractive markets. And that's what will give us the foundation for consistent growth in delivering on those goals to grow at or above the macro.

Excellent. And one other sort of retrospective question here. So as you look past -- if you look back over the last, say, 5 to 10 years, in what areas do you think 3M has been average or maybe lagging a little bit? And what are the areas of focus to address that? I mean, is it around R&D relative to marketing, maybe ERP? We spoke a lot about digital over the past couple of years. So if you think about the gaps you're trying to close, what would those be? And what's the plan forward?

Brendan, it gets at something that I would say all companies are facing, and that is the world is a fast-changing place. The markets are fast changing. We saw, of course, acceleration of trends in the middle of COVID. Even outside of COVID, we see changes, ongoing changes in our marketplace, competitive world that we're part of. And I think what we are doing and where we're focused in some of our strategies is about leading through that change. So in addition to what I was highlighting in terms of prioritizing innovation where we can differentiate value for our customers in markets that are attractive, we're also building our capabilities end-to-end in our company. And digital capability is an important part of that. Something we've talked about over the years, I'm really excited about some of the progress we've made, where we are building capabilities. We launched a new operating model to take advantage of the transformation available to us in our digital capabilities. And we did that at the beginning of 2020, and we're seeing the benefits from that operating model. We're seeing the benefits from our digital strategy play out. Digital impacting our customers, and we have digital strategies focused on customers, digital focused on products and how we can bring digital solutions as part of what we leverage to solve customers' needs, digital operations and end-to-end -- taking advantage of data analytics, digital capabilities to build on the fundamental strengths we have in manufacturing, supply chain, customer experience, really positioning that. And that's a -- I think that was an important part -- the progress we made there was an important part of our ability to respond in 2020. There's much more to do there. There's much more opportunity there. And then we continue to build out our digital enterprise and our ERP and ecosystem capabilities. So I think those are areas that we've been focused on improving and continuing to advance. Those will help us lead through and take advantage of the changes that are taking place in our end markets and economies around the world.

Excellent. So within that digital, I guess, sort of pivoting to cost and productivity. I mean, are there any areas that you'd highlight that have been particularly impactful? And do you see that flowing through the P&L yet?

We saw a number of examples of what we are building in our new operating model and, I would say, with our digital capabilities as we went through 2020. And I highlighted a few of those as we went through the year. Our ability to respond quickly to changes in the marketplace, our cycle times in terms of responding to changes in demand, changes in end market situations, changes in customer-specific demand, that -- we saw that. We saw that come through in our strong cash flow for the year. We were able to respond to the dynamics. And we saw certainly markets that increased demand, and we also saw markets that had significant drop-offs in demand through the year, and we had to manage both ends of that. I think the capabilities that we built out are demonstrating their strengths and their benefits in cash conversion cycles, in our productivity as we manage through those wide range of demand changes throughout the year. So I think those are good examples of how we're starting to see the benefits from the digital and the new operating model -- digital operations and the new operating model. So we are more towards the beginning than the end of that journey, though. We have more capabilities we can deploy. We expect to see greater benefits. There's always more to do, I would say, much more to do, much more opportunity here.

Okay. Excellent. And then on the topic of innovation, I guess 2 questions here. So the first, I'd be really -- hear a bit of an update on the priority growth platforms. What if -- what type of financial impacts should we be expecting this [ to ensure ]? And do you see these as sort of pure growth initiatives? Or is it sort of a trade-off as certain parts of the portfolio mature? So to what degree is it incremental?