Despite a challenging macroeconomic environment, 3M Company (MMM - Analyst Report) reported relatively solid first-quarter 2016 results with GAAP earnings of $1,275 million or $2.05 per share compared with $1,199 million or $1.85 per share in the year-earlier quarter. The significant year-over-year improvement in GAAP earnings, despite lower revenues, was largely due to a decline in operating expenses. The reported earnings comfortably beat the Zacks Consensus Estimate of $1.92.

Net sales during the quarter were $7,409 million, down 2.2% year over year but exceeded the Zacks Consensus Estimate of $7,317 million. The year-over-year decrease in sales was driven by a significant negative foreign currency translation impact, which reduced sales by 3.0%. Organic local-currency sales declined 0.8%, while inorganic growth added 1.6% to sales.

Operating income stood at $1,788 million in the reported quarter versus $1,730 million in the year-ago-quarter. Operating margin came in at 24.1% in the reported quarter, up 1.3% year over year.

Segment Results

Industrial segment sales decreased 3.0% year over year to $2.6 billion in the reported quarter, driven by unfavorable foreign currency impact. Organic local-currency sales decreased 1.9% year over year due to lower sales in industrial adhesives and tapes, abrasives, and advanced materials. Operating income increased 3.6% year over year to $617 million.

Health Care segment sales increased 4.0% to $1.4 billion in the reported quarter, driven by growth in all geographic regions. Organic local-currency sales increased 6.2% year over year with growth in health information systems, food safety, oral care, drug delivery systems, and critical and chronic care. Adverse foreign currency translation partially reduced segment sales by 3.1%. Operating income improved 11.5% year over year to $455 million.

Consumer segment revenues were $1.0 billion, up 0.1% year over year, driven by unfavorable foreign currency impact of 2.7% and organic local-currency sales increase of 2.8%. Operating income was $238 million, down 1.1% year over year.

Safety and Graphics segment sales increased 2.9% year over year to $1.4 billion, owing to inorganic growth of 4.5%. The segment recorded organic local-currency sales growth of 2.4% due to higher sales in roofing granules, commercial solutions and personal safety. However, foreign currency translation reduced sales by 4.0%. Operating income increased 3.1% to $345 million.

Electronics and Energy segment revenues were $1.1 billion, down 13.6% year over year. Organic local-currency sales declined 11.7%, dragged down by weakness in electrical markets and renewable energy markets. Operating income was down 26.8% year over year to $208 million.

Portfolio Restructuring

3M has been making efforts to reposition its portfolio by divesting assets that no longer fit with its corporate strategy, while investing in ones which are more in tune with it. During first-quarter 2016, 3M completed the divestiture of the Pressurized Polyurethane Foam Adhesives assets to Innovative Chemical Products Group, a leading specialty chemical company engaged in the formulation, manufacturing, and marketing of coatings and adhesives. The company remains focused on optimizing its portfolio by selectively divesting its businesses and gradually shifting focus to high-growth markets.

Since 2012, the company has pruned its businesses from 40 to 26, thereby improving customer relevance, productivity and speed through a leaner operating structure. At the same time, 3M has invested steadily in R&D to develop innovative products. Furthermore, the company is standardizing its business processes through a new global ERP system. It believes that these efforts will result in significant annual operational savings and reduction in working capital.

Balance Sheet and Cash Flow  

Cash and cash equivalents as of Mar 31, 2016 were $1,337 million, compared with $1,791 million as of Mar 31, 2015. Long-term debt stood at $8,927 million at quarter end, compared with $6,434 million as of Mar 31, 2015. Free cash flow generated during the quarter was $946 million, up from $789 million in the prior-year period.  

During the reported quarter, the company raised its dividend by 8% year over year to $1.11 per share. 3M paid $672 million in cash dividends and repurchased $1.2 billion of its shares in the quarter. In first-quarter 2016, 3M converted 74% of net income to free cash flow.

Outlook

3M reiterated its earlier guidance for 2016. For 2016, the company anticipates GAAP earnings in the range of $8.10 to $8.45 per share. Organic local-currency sales growth is expected to be 1%-3%, while free cash flow conversion rate is anticipated to be 95%-105%.

A few days back, the company also provided its broad financial objectives for the next five years. During the five-year period from 2016 to 2020, 3M expects an 8–11% increase in earnings per share driven by organic sales growth of 2–5%. The company expects about 20% return on invested capital during this tenure, with a free cash flow conversion rate of 100%.