A perfect trap for investors or a great investment opportunity?
As the opening photo suggests, today we will talk about 3M, a company that is plagued by huge lawsuits, but continues to win new fans and investors. What's weighing on MMM stock anyway, what are the opportunities, and why do investors believe in a comeback? That's what we'll look at today.
U.S. materials maker 3M $MMM+0.6% is facing thousands of lawsuits over alleged water and environmental contamination from PFOA and PFOS chemicals it previously used to make some of its products. If the company fails in these lawsuits, it could have a major impact not only on its financial results, but also on the way it does business and the direction its future growth will take.
Lawsuits related to PFOA and PFOS chemicals used in 3M's durable containers and coatings, for example, have been piling up in recent years. In some cases, individuals and groups have blamed 3M for contaminating water and the environment with these substances, which allegedly led to health problems. 3M claims that it has used these chemicals for decades in compliance with all regulations and that there is no conclusive evidence that they cause harm to human health at normal exposure levels.
Another lawsuit, and the main one, involves defective earplugs. More than 200,000 soldiers and veterans are suing 3M, claiming that Combat Arms earplugs failed to protect them from damage to the point of hearing loss.
If the courts rule against 3M, it could face billions of dollars in damages, environmental remediationcosts, and compensation to veterans. This would limit resources for research and development of new products that are critical to the company's growth. 3M could also face additional costs and restrictions if the courts order further action to remedy the alleged environmental harm. Overall, this could force 3M to reevaluate and adjust its business practices in ways that could have far-reaching impacts on the entire company.
Although the ultimate outcome of these lawsuits is uncertain, they threaten to fundamentally reshape 3M. The company is facing pressure to not only repair past damages, but also to take far-reaching actions that could affect its operations well into the future. This could have implications for both 3M itself and the broader industries in which it operates.
This could lead to several things. To understand the situation, we need to answer the question: What attracts investors to 3M? Is it stability? Is it the financial performance? Breakthrough products? No, no and no. One of the main reasons is the regular and stable dividend. But what happens when a company has to change its business style? Costs will rise and money has to be taken somewhere, so the dividend may be the first to go.
So some analysts expect 3M to cut its stock dividend, which costs about $3.4 billion a year, because it will become a smaller company with more debt precisely because of the consequences of many of the measures. So the dividend, which was nearly $6 a share last year, is a key reason for many investors' holdings. Moreover, as investors, we must consider that 3M will not be what it used to be, as the company said last July that it plans to spin off its healthcare division - its most powerful unit - to shareholders as a separate public company later this year or early 2024.
Back to the topic. The main reason 3M stock has gradually declined has been the earplug lawsuit. Some analysts estimate the cost of settling the earplug litigation at $10 billion to $15 billion. A settlement with municipalities for PFAS in drinking water alone could cost $10 billion or more, they estimate.
So what is the investment thesis of investors who have invested in 3M stock under these circumstances? Let's look at it this way, if 3M does indeed reach a settlement in these lawsuits for a total of $20-25 billion or more, as some analysts estimate, it could ultimately help 3M stock recover, for several reasons:
1. The damages and costs of settling the lawsuits, while they would reduce 3M's profits in the short term, would remove the uncertainty that now weighs on the stock. Investors would have a clearer picture of the financial consequences and could better gauge the future outlook.
2. Although the amounts are in the billions of dollars, 3M has a strong balance sheet and generates operating cash flow in excess of billions of dollars each year.
3. A settlement would remove legal uncertainty and allow 3M to focus fully on operations, innovation, and growth without the distraction of costly litigation. This could be a positive for the stock.
4. 3M's stock price is already significantly depressed, so a lot of the bad news is probably already priced in. A settlement could therefore present an opportunity for investors who are not concerned about potential risks.
Of course, if the actual costs of compensation and settlement exceed analysts' estimates, this could in turn further weaken 3M stock. It is also uncertain how quickly investors would be able to restore confidence in 3M even after the settlement of the litigation. But overall, an end to these legal uncertainties could be rather positive for 3M stock, as the underlying assumption is that MMM stock has been hit harder than it should have been based on the litigation. So the biggest question mark is the uncertainty that each investor has to grapple with and evaluate whether the risks are really worth it.
What is remarkable though is the calmness of the company's major shareholders, let's see their reactions to the lawsuits and the potential risks 👇
The dividend, which was nearly $6 per share last year, is a key reason to hold the company's stock. As long as the payout is regular and satisfactory, we have not the slightest reason to sell.
Clifford Capital Partners
Ryan Batchelor, chief investment officer at Utah-based Clifford Capital Partners, said his firm believes 3M can absorb potentially large losses without jeopardizing its business. 3M has traditionally been a terrific cash generator with thousands of products in business areas that carry high profit margins.
"We think it's a stock panic, not a corporate panic," he said.
For my part, I hold $MMM+0.6% stock and also hold to the thesis that as long as the dividend is paid properly, the company is a giant and, more importantly, a payer of substantial taxes for the U.S., I have no reason to worry. So I continue to work with the idea that the hit to 3M stock was too big and once the final compensation amounts become clear, we can expect a rebound. Of course, it's risky, the amount may be higher, litigation may affect the business and cause the dividend to fall, but in the big picture it still makes sense to me.
However, we still have no certainty about litigation. There are new reports coming out all the time, which in most cases just confuse investors. As for the earplug case, the ideal scenario there would have been if 3M had been able to get its way - i.e., that the earplugs did not damage hearing, which they have claimed many times, or if they had come through the case virtually "unscathed" thanks to the bankruptcy of the Aearo Technologies subsidiary. But there is also a lot of uncertainty here, MMM has already tried this in court and the motion was denied - currently awaiting another trial as 3M has appealed the bankruptcy dismissal.
Please note that this is not financial advice.