With the Dividend in Jeopardy, Steer Clear of 3M Stock at Current Levels

Dividend Stocks

Industrial conglomerate 3M (NYSE:MMM) has not performed well this year, down around 12%. As we get ready to wrap up 2019, many wonder whether December may offer a good entry point into 3M stock, which currently trades around $167.

With the Dividend in Jeopardy, Steer Clear of 3M Stock at Current Levels

Source: JPstock / Shutterstock.com

In 2019, investor sentiment in the U.S. has in general been optimistic, as can be evidenced by the increases in broader indices. However, 3M has not been able to participate in this rally. If consumer and investor sentiment were to turn south in 2002, then the 3M share price could easily make another leg down. Thus, at this point, I’d encourage potential investors to not rush into buying the stock.

Here is a detailed look at the prospects for 3M stock so that potential investors may decide if the shares should belong in their long-term portfolio.

3M Stock and an Unimpressive Q3

When MMM stock reported earnings on Oct. 24, it missed on revenue. Sales of $8.0 billion were down 2.0% YoY.

Operating income of $2.01 billion was down slightly from Q3 2018’s $2.02 billion.

Yet, despite the revenue miss, 3M’s third-quarter profit beat expectations. Net income rose to $1.58 billion, or $1.72 a share, from $1.54 billion, or $2.58 a share, in the year-ago period. The results include a one-time divestiture gain of 14 cents a share.

In his commentary, CEO Mike Roman said that macroeconomic conditions remained challenging. 3M is a cyclical stock and its fortunes are in part tied to the health of the economy both in the U.S. and globally.

“We continued to face softness in certain end markets; namely China, automotive and electronics, which represent 30% of our company,” said Roman during the post-earnings conference call

Management also cut its full-year organic sales growth and earnings to reflect. The group now projects that EPS will likely range from $8.99 to $9.09. Its previous outlook for the period had EPS between $9.25-$9.75.

Investors were not impressed with the overall results and the stock took an initial hit following the earnings release.

What Could Propel MMM Stock in 2020?

On Dec. 6, news headlines hit the wires that the company was looking at divesting its drug-delivery systems unit for around $1 billion. The unit, which includes products like asthma inhalers and skin patches, has produced $300 million of revenue in the first nine months of the year, down 11% YoY.

3M stock was up over 3% when the news came out.

Investors’ recent positive reaction can be explained by looking at 3M’s website: its product range includes over 50,000 items!

The company produces and sells a diverse line of products from adhesive tapes to air filters, filters for computer screens, heat shrink tubing, knee supports, lint rollers, lubricants, safety goggles, and sandpaper.

Not only Wall Street but also 3M’s management realizes that very few companies have the capital, time, or technology to build a sizable market share in many of the lines of business.

3M Company has a proud history of innovation.  However, with this kind of growth and business range comes a big headache; it is now simply too large to run efficiently. Bigger is not necessarily better.

Therefore, if management can successfully divest from several of its product lines that are not contributing to the bottom line, the MMM stock price is likely to benefit in the coming years.

Dividend Support and MMM Stock

In a low-interest-rate environment, stock investors pay special attention to shares with robust dividend yields. Dividend stocks can be one of the best ways to generate a regular passive income for long-term shareholders.

3M, which has increased its dividend for decades, has traditionally been regarded as a safe dividend play. Q3 results showed that 3M paid $828 million in dividends to shareholders, and it bought back $142 million worth of stock. Its current yield stands at 3.4%.

Yet with the rather poor results in 2019 and ongoing restructuring issues, analysts have also started wondering whether MMM stock’s dividend may also be cut.

The dividend payout ratio can show investors if a stock is paying out either less or more than the company earns. In other words, if a company earns $1 per share but pays a dividend of $1.30, management may have to decrease the dividend at some point in the near future. A payout ratio of over 100% means that a company is paying out more in dividends than it earns.

MMM stock’s payout ratio is 0.53 which makes the dividend sustainable as long as the company keeps the earnings around the current levels. However, in case of another miss in earnings, I’d become skeptical of the dividend amount and would even expect a cut.

I’d assume that management will work hard to maintain the dividend and allow long-term investors to share in the conglomerate’s earnings growth. As long as we do not see a cut, the dividend is likely to support the 3M stock price in 2020.

Technical Charts Paint a Mixed Picture

After reaching an all-time high of $259.77 in Jan. 2018, MMM stock price has been in a multi-month decline. Over the past year, the 3M stock price which has missed the broader market rally in 2019, is down about 15%.

MMM stock’s 52-week range has been 219.75 (Apr. 24) – $150.58 (Oct. 8).

Now the 3M stock is hovering around $167. The downtrend since January 2018 and especially since April 2019 is a stark reminder that the all-time high of $259.77 is now in the rear-view mirror.

If you are an investor who also pays attention to longer-term technical charts, then you may want to know that over the past 18 months, 3M stock has suffered from a damaging technical picture.

Furthermore, MMM stock’s short-term technical chart, trend lines, and support and resistance levels are telling investors to exercise caution.

Therefore, in the coming week, I expect MMM stock to trade within a range of $150-$175.

The 8 Wall Street analysts covering the stock currently have hold ratings (which effectively mean sell) on 3M shares. And the average target price is $170. In other words, could MMM share price have already seen the high for 2019?

Finally, despite the price decline in 2019, 3M stock is not necessarily cheap, either. It still trades at a forward P/E of 19.

If there is any broader market weakness, say due to market worries over U.S.-China trade wars, MMM share price may be further adversely affected.

The Bottom Line on 3M Stock

I am of the camp that 3M’s weakness in 2019 is a clear reflection of investor sentiment and major fundamental worries, especially regarding a large conglomerate with various legal woes and which is going through a major restructuring process amidst falling revenues.

At this point, the bulls are not yet fully in control. Thus MMM shares will need a catalyst to make them attractive in the eyes of long-term investors, who are probably still skeptical about the near-term prospects for the company. For example, if 3M Company continues to get rid of underperforming businesses, then the Street may up its price expectations.

If you aren’t already long MMM stock, you may want to remain on the sidelines until the earnings report expected in January 2020 to give yourself time to study the balance sheet as well as the outlook by the management. Many questions, such as the effects of the current trade wars, decreasing margins, falling revenues, the viability of the dividend as well as the level of free cash flow, remain yet to be answered.

If you already own 3M shares, you may also consider initiating covered call positions in conjunction with being long MMM stock. For example, Feb. 21 expiry at-the-money (ATM) covered calls may enable you to hedge your long position in case of profit-taking following the earnings report. You would also be able to participate in a further up move in 3M stock price.

If you are considering investing in MMM shares, you may want to start building a position between the $150 and $160, and expect to hold the stock for several years.

As of this writing, the author did not hold a position in any of the aforementioned securities.

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