3M Company

Ladies and gentlemen, thank you for standing by. Welcome to the 3M Second Quarter Earnings Conference Call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question and answer session. At that time, if you have a question, please press the one followed by the four on your telephone keypad. It is recommended that you use a landline phone if you are going to register for a question. As a reminder, this conference is being recorded Tuesday, July 28, 2020. I would now like to turn the call over to Bruce Germeland, Vice President of Investor Relations at 3M.

Thank you and good morning, everyone. Welcome to our Second Quarter 2020 Business Review. With me today are Mike Roman, 3M's Chief Executive Officer, along with Nick Gangstead and Monish Patolawala, our Chief Financial Officers. As you may know, Nick will be retiring at the end of July. Monish joined the 3M team on July 1, succeeding Nick as CFO. Mike, Nick, and Monish will make some formal comments, and then we'll take your questions. Please note that today's earnings release and slide presentation accompanying this call are posted on our Investor Relations website at 3M.com under the heading Quarterly Earnings. Please turn to slide two. Let me remind you to mark your calendars for our Third Quarter Earnings Call, which will take place on Tuesday, October 27. Please take a moment to read the forward-looking statement on slide three. During today's conference call, we'll make certain predictive statements that reflect our current views about 3M's 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, 10Q, lists some of the most important risk factors that could cause actual results to differ from our predictions. Finally, throughout today's presentation, we will be making references to certain non-GAAP financial measures. Reconciliations of the non-GAAP measures can be found in the attachments to today's press release. Please note, we have provided segment and total company adjusted EBITDA reconciliations for reference in today's press release attachments as part of our non-GAAP measures. Please turn to slide four, and I'll hand it off to Mike. Mike?

Thank you, Bruce. Good morning, everyone. I hope you and your families are staying safe and healthy, and I thank you for joining us. We continue to fight the pandemic from all angles to ensure the safety of our employees, health care workers, first responders, and the public. In a highly uncertain environment where economic activity was restricted by global lockdowns, we executed well and delivered another strong operational performance in the second quarter. We posted solid margins and robust cash flow while strengthening our balance sheet, innovating for our customers, investing in the future, and continuing our transformation. Our value model is strong, and we are taking action on a number of fronts to lead through this crisis and emerge even stronger. While there remains a great deal of economic uncertainty, we are seeing an improvement in sales trends in July across all businesses and geographies as we start the third quarter, and Monish will provide additional comments later in the call. I am proud of how our team is leading through these unprecedented times, and I thank all three Embers for their tireless efforts to serve those who count on us. Please turn to slide five. Our COVID-19 response starts with a steadfast commitment to the health of our employees. We have robust safety protocols in our manufacturing plants and distribution sites, enabling us to effectively protect our people while maintaining supply chain operations. For remote employees, we have developed a phased approach for their return to the workplace with enhanced safety measures and emphasis on flexibility for individuals. We have had our colleagues return to the workplace in two dozen countries, mainly in Asia and EMEA, along with our global R&D community, and we are adjusting based on government guidelines and the evolution of the pandemic across the world. As we protect employees, we work around the clock to protect the safety of all people, including healthcare workers and first responders. 3M is making and distributing more respirators than ever before, though demand continues to fire out pace but the entire industry can supply. In the first half of the year, 3M manufactured 800 million respirators globally, with half distributed in the U.S., primarily to healthcare and FEMA. For the full year, we expect to produce 2 billion respirators globally, more than a three-fold increase versus 2019. We continue to make investments and partner with the U.S. Department of Defense and other governments to bring additional global capacity online. We are also working with federal, state, and local governments to deliver respirators where the need is greatest. At the same time, we remain vigilant in fighting fraud and price gouging. To date, 3M has filed 18 lawsuits and removed over 7,000 counterfeit websites, protecting people from bad actors. Beyond personal protective equipment, 3M Science is fighting COVID-19 in other areas as well. Our membrane technologies help improve blood oxygenation procedures and our biopharma solutions support the development of needed vaccines and therapeutics. Earlier this month, we announced a collaboration with MIT on a diagnostic COVID-19 test that aspires to make testing faster, more broadly available, and less expensive. The project has received approval from the National Institutes of Health, and we are working as fast as we can to develop a low-cost, highly accurate device that can be mass produced. I will now turn to our second quarter results on slide six. The financial impact of the pandemic remained mixed across 3M during Q2. We continue to see strong demand in personal safety along with other areas such as home improvement, general cleaning, and biopharma filtration. At the same time, we experienced steep but expected declines in other end markets, including medical and dental elective procedures, automotive OEM and aftermarket, and general industrial. Geographically, while organic sales in Asia Pacific declined 8%, we saw -over-year improvement in China, up 3% in the quarter versus down 11% in Q1. Organic trends in EMEA and the Americas remained consistent throughout the quarter, both declining in the mid-teens each month. All in, organic sales company-wide was minus 13%, with adjusted earnings of $1.78 per share. While growth conditions were challenging, our operational execution was strong. We expanded adjusted EBITDA margins to 26.5%, up 110 basis points year on year. In the second quarter, we delivered $400 million in cost savings versus last year, as we aggressively managed expenses to offset COVID-19 impacts and associated restructuring. This cost discipline, along with effective capital allocation, enabled us to increase our adjusted free cashflow to $1.5 billion in the second quarter. And Nick will walk you through the details. Please turn to slide seven. Importantly, while we managed near-term uncertainty, we continued to advance our four strategic priorities, portfolio, transformation, innovation, and people and culture, to deliver value for our customers and shareholders. We finalized the sale of our drug delivery business in May, enabling us to focus more on our core healthcare portfolio. We are encouraged that the benefits we are seeing from the new global operating model we implemented this year, a significant step in our transformation. This includes our new enterprise operations team, which is enabling us to reduce cycle times and improve the customer experience. Nearly all of our plants and distribution centers are operational, and we have worked with our partners to ensure consistency of supply. Our new structure streamlines decision-making and allows us to adjust faster than ever to the external environment, all of which help our customers. As just one example, one of our US plants recently pivoted to manufacturing hand sanitizer almost overnight, moving from formulation to production in less than 72 hours. In addition, we're accelerating our efforts on automation and robotics and introducing new digital capabilities, such as virtual selling tools, to deliver on our promises to customers. At the heart of 3M is innovation and our ability to apply science to solve critical customer needs. We continue to invest in R&D and drive innovations to solve big challenges like air quality, automotive electrification, and food safety. Just a few of our priority growth platforms, which are all performing in the markets they serve. For example, our air quality platform grew double digits in the quarter as we introduced new indoor air quality solutions through our innovation and increased investments in capital. We're also finding new ways to engage our people, strengthen our culture, and advance our core values. We continue to step up our leadership and sustainability, and our annual sustainability report, released in May, includes a comprehensive look at our progress. As part of this commitment, we are proactively managing PFAS, guided by the principles of sound science, corporate responsibility, and transparency. For example, in March, we launched a clearinghouse to share research on testing, measurement, and remediation, a commitment we made at our congressional testimony last fall. You can find this clearinghouse and all the latest information on PFAS on our website at 3M.com. In addition, we provide regular updates in our 10Q filings. We are also fulfilling our commitment to comprehensive reviews of all 3M manufacturing operations to ensure adherence to environmental requirements, company policies, and our values. As we shared previously, we continue to work with communities where we manufacture, along with government officials and regulators, including the EPA, to advance our environmental stewardship. Last week, we announced an agreement with the Alabama Department of Environmental Management to resolve matters related to previously disclosed PFAS discharges at our Decatur facility. This is part of our commitment to address contamination at sites where we manufactured or disposed of PFAS. With respect to PFAS litigation, we anticipate the earliest trial date will now be in 2021. Beyond our environmental responsibility, we know we and others must do more to address injustice and inequality. The death of George Floyd here in Minnesota was jarring for all 3Mers, especially our African American employees. At 3M, we stand for equity, fairness, and social justice, and we will be part of the solution by listening, understanding, and then acting. Based on insights from our employees and communities, we have two focus areas. First, we are identifying the most impactful actions to accelerate inclusion and diversity within 3M. While we've made good progress in recent years, we have much more to do. At the same time, we are working with other companies on actions that will make a difference here in Minnesota, and we've made initial investments as part of these efforts. We are also working with stakeholders to develop a long-term plan to support economic opportunities and development in communities of color, address the education gap, and advance social justice. It is vital that companies step up to lead change to really make a difference this time. I am personally leading these initiatives, and we will provide you with updates as we move forward. Please turn to slide eight. Before turning the call to Nick, I would like to make a few comments about our CFO transition. First, I want to thank Nick for his many contributions throughout 35 years at 3M. He has been an outstanding leader and a great colleague, and has created tremendous value for our company and our shareholders. In six years as CFO, Nick's guidance has been especially valuable as he helped lead our transformation and our work to optimize our portfolio and position 3M for the future. I wish Nick and his family all the best in the future. I'm also excited to welcome Monish to our leadership team. Most recently, Monish was CFO at GE Healthcare, a $17 billion business. His experience leading healthcare and industrial businesses along with driving operational transformation is already making an immediate impact for 3M. Monish is an ideal fit for our enterprise and for our culture. And later in the call, he will make a few comments about our perspective on the third quarter. I will now turn the call over to Nick for the details on Q2.

Nick. Thank you, Mike, and good morning, everyone. Please turn to slide nine. Company-wide second quarter sales were $7.2 billion with adjusted operating income of $1.4 billion and adjusted operating margins of 19.6%. On the right-hand side of this slide, you see the components of our margin performance in the second quarter. The impact of the pandemic was varied and numerous across the business and operations. The biggest factor negatively affecting Q2 operating margins was the impact of the pandemic on global customer demand, which resulted in nearly a 14% -on-year decline in organic sales volumes. In addition, during the quarter, we undertook restructuring actions, resulting in a Q2 charge of $58 million due to the impact of the pandemic. These headwinds were partially offset by aggressive cost management during the quarter, which reduced costs by approximately $400 million -on-year. Also providing a -on-year benefit to operating margins is a restructuring charge in last year's second quarter. All in, these benefits were more than offset by the decline in organic sales volume and restructuring actions, resulting in a 100 basis point reduction to second quarter margins versus last year. Acquisitions and divestitures reduced margins by 80 basis points due to a -a-dee purchase accounting impacts. Higher selling prices, along with lower raw material costs, contributed 70 basis points to second quarter margins. And finally, foreign currency, net of hedging impacts, reduced margins by 10 basis points. Overall, we effectively managed costs throughout the quarter in a very dynamic and challenging global economy.

And

as Mike mentioned, we expanded EBITDA margins by 110 basis points -on-year to 26.5%. Let's now turn to slide 10 for a closer look at earnings per share. Second quarter adjusted earnings were $1.78 per share, down .4% -over-year. Let me now cover the items that made up our second quarter earnings performance. Similar to the operating margin discussion on the prior slide, organic sales declines, productivity, and other actions collectively reduced -on-year per share earnings by 28 cents. Acquisitions and divestitures reduced second quarter earnings by 7 cents per share versus last year, primarily due to the a -a-dee acquisition. Please note that this result includes financing costs associated with the acquisition. Foreign currency, net of hedging, was a 5 cent per share headwind in the quarter. And turning to tax rate, our second quarter adjusted tax rate was .7% versus .3% last year, adding 3 cents to earnings per share. And finally, average diluted shares outstanding declined 1% versus Q2 last year, adding 2 cents to per share earnings. Please turn to slide 11 for a discussion of our cash flow and balance sheet. As Mike noted, we delivered strong second quarter adjusted free cash flow of $1.5 billion, up 18% -over-year. This increase was driven by effective working capital management, disciplined capital allocation, along with a $400 million benefit related to timing of income tax payments. Which will be paid in the third quarter. Through the first half of the year, adjusted free cash flow increased to $2.5 billion versus $2 billion last year. As we continue to generate strong free cash flow, demonstrating the strength and resiliency of our business model. From a capital allocation perspective, our long-term strategy remains unchanged. Our first priority is to invest in our business, second, maintaining our dividend, and lastly, flexible deployment for M&A and share repurchases. Second quarter capital expenditures were $379 million. For the full year, we now anticipate CapEx expenses of approximately $1.4 billion versus $1.3 billion previously. This increase in our full year CapEx budget expectations is primarily due to the pace of projects picking back up as economic activity returns. During the second quarter, we returned $846 million to our shareholders via dividends. Share repurchases remain suspended throughout the quarter, given the continued global economic uncertainty. Our strong second quarter cash flow generation and disciplined capital allocation enabled us to strengthen our capital structure. We ended the quarter with $4.5 billion in cash and marketable securities on hand and reduced net debt by $1.7 billion, or 10% in the second quarter. Please turn to slide 12, where I will summarize the business group performance for Q2. I will start with our safety and industrial business, which declined 6% organically in the quarter. Personal safety saw strong double-digit organic growth, driven by continued unprecedented levels of demand for respirators globally in response to the pandemic. The balance of the safety and industrial portfolio declined significantly due to the global slowdown in industrial production activity during the quarter. Looking geographically, the Americas declined 9% organically, with the U.S. down mid-single digits. EMEA declined 1%, while Asia Pacific was down 4%. Safety and industrial second quarter segment operating margins were 23.8%, up 180 basis points, driven by continued strong productivity, cost actions, and benefits from last year's restructuring. Moving to transportation and electronics, second quarter sales were down 19% organically, compared to last year. Our electronics-related business was down 1%, with strong growth in semiconductor, factory automation, and data center, which was offset by continued softness in consumer electronics, particularly smartphones. Our automotive OEM business was down 44% -on-year, in line with the 45% decline in global car and light truck builds. Commercial solutions declined roughly 30%, while transportation safety and advanced materials were down mid and high teens, respectively. Geographically, Asia Pacific declined 8%, while the Americas declined 29%, and EMEA was down 33%. Transportation and electronics second quarter operating margins were 19.7%, negatively impacted by the 19% decline in organic sales, which was partially offset by cost actions and benefits from last year's restructuring. Turning to healthcare, which experienced significant pandemic-related challenges and disruptions across the industry, declined 12% organically versus last year. Organic growth across much of our healthcare portfolio was negatively impacted by the effects of COVID, which resulted in delays in elective medical procedures and closed most dental offices around the world. These impacts were most prevalent in our oral care business, which was down nearly 60%, and medical solutions, which declined mid-single digits in Q2. Food safety declined mid-single digits as the business was impacted by the closure of food processing plants during the quarter due to worker safety concerns. A positive note, our separation and purification business grew mid-single digits. This business continues to experience strong demand for biopharma filtration solutions in support of the pharmaceutical industry's research and manufacturing efforts to develop vaccines and therapeutic treatments for COVID. Looking geographically, the Americas declined 14%, while EMEA and Asia Pacific each declined 10%. Healthcare's second quarter operating margins were 16.8%, or down nearly 10 percentage points year on year. Approximately two-thirds of this decline was due to the significant reduction in organic sales, with the remaining one-third related to the Acelity acquisition. Looking ahead, we expect both organic growth and operating margins to improve as elective procedures return. Lastly, second quarter organic growth for our consumer business was down 5%. Organic sales growth within consumer was led by our home care business of high single digits, along with home improvement, which was up low single digits. Growth in these businesses was driven by strong customer demand for our Scotch-Pri cleaning products and solutions, Scotch blue painter's tape, filtrate air filtration products, and Maguire's car care products. Stationary in office and consumer healthcare both declined, impacted by the -at-home orders and social distancing protocols, which resulted in many offices and schools being closed across the world. Looking at consumer geographically, the Americas and Asia Pacific were each down mid-single digits, while EMEA declined 10%. Consumers' operating margins were 23.2%, up 250 basis points on strong cost discipline and ongoing productivity. That wraps up my review of the second quarter results. Before I turn it over to Monish, I'd like to take this opportunity to make a few comments, given it is my last earnings call. Thirty-five years ago, I started my career at 3M right out of college. I'm humbled and grateful for the many opportunities and experiences I've had throughout my career, and most importantly, the many wonderful people that I have gotten to know both professionally and personally around the world. In the last six years, I've been blessed to be the CFO of this great company and to lead 3M's global finance organization. As part of my role as CFO, I have also had the opportunity to engage with many of you in the investor community. I have greatly enjoyed the many interactions with those of you who have covered and invested in 3M. I've appreciated your support, input, and feedback, and I wish you all the best in the future. With that, please turn to slide 13, and I will hand it over to Monish to discuss our thoughts going forward. Monish?

Thank you, Nick, and good morning, everyone. First, I would like to recognize and thank Nick not only for his 35 years of outstanding service to 3M, but also for his partnership, counsel, and guidance over the past month in helping me learn 3M and ensure a smooth transition. Like Nick, I am humbled to be a part of this outstanding company. I have had great admiration of 3M and its vast scientific capabilities to positively impact the world, including and across industry, healthcare, and consumers' lives. It's great to be a part of the leadership team and to lead the company's global finance organization. Over the past month, I have spent time meeting with leadership, key finance members, and also participated in strategic and operating reviews and discussions. While I have only been on the job for a few weeks, this past month has given me a great opportunity to personally engage with our leadership team and learn the company. I want to thank all 3Mers for their warm welcome. With that, let me make a few remarks regarding our thoughts on the coming quarter. As we start the third quarter, we are seeing sequential improvements in end markets, including automotive, healthcare, and general industrial. While the strength and pace of recovery remains uncertain, we currently are expecting global economic activity to be stronger in Q3 as compared to 2Q. Turning to our business, we are seeing a broad-based pickup in growth across our businesses and geographies as we start the third quarter. With one week left in July, total company sales are currently up low single digits year on year. With respect to respirators, we anticipate continued strong demand, which we estimate will contribute approximately 300 to 350 basis points to company-wide Q3 organic growth. As we did throughout Q2, we will continue to provide monthly sales information. Therefore, we will provide an update on July sales once we have finalized results in a few weeks. From an operational standpoint, though we anticipate some pickup in costs as sales growth improves, we are maintaining our aggressive cost discipline whilst also continuing to invest in future growth and productivity. Therefore, looking at margins, we currently anticipate a third quarter adjusted operating income margins in the range of 20 to 21%. Finally, with respect to free cashflow, we will continue our efforts to drive improvements in working capital and prioritize capex spend. Our ongoing focus on cashflow along with disciplined capital allocation are central to enhancing our financial flexibility and strengthening our capital structure. While uncertainty remains, we are confident in our ability to continue to execute on our priorities, respond to changes in the marketplace, and invest in future growth and productivity. With that, I thank you for your attention and we will now take your questions.

Ladies and gentlemen, if you would like to register a question using a landline phone, please press the one followed by the four on your telephone keypad. You will hear a three tone prompt to acknowledge your request. If your question has been answered and you would like to withdraw your registration, please press the one followed by the three. If you're using a speaker phone, please lift your handset before entering your request. Please limit your participation to one question and one follow-up. One moment please while we compile the Q&A roster. Our first question comes from the line of Scott Davis with Melios Research. Please go ahead.

Hey, good morning guys. Hey Scott.

Morning

Scott.

Congrats Nick on your retirement and hope you enjoy. Well done. Thank you. Manish, good luck to you.

Thank you.

Anyways, two questions here. One on the cost out, how much of the 400 million would you guys say is kind of permanent, you know, you can hold on to versus the more temporary passion?

Scott, I'd say the vast, the majority of the 400 is temporary. I think that much of what we were doing in second quarter was reducing expenses through discipline, holding down of expenses. There were some other things we did of restructuring actions that we think that we know will benefit us going forward, but the majority of this 400 million we see as temporary spending reductions and not permanent spending reductions.

Okay. And then as a follow up, the July month today, I mean, I know we're only, you know, we're not totally through the month yet, close, but that seems pretty positive based on the sequential, I wouldn't have expected positive towards later in the year, until later in the year. Is there, can you give us a little bit of color on that? Is there any particular snapback or inventory rebuild or discretionary healthcare is started up again, things like that, that perhaps is driving that growth?

Yeah, Scott, maybe I'll characterize it a little, really in line with what Monish said in his remarks. It's pretty broad and based across businesses and geographies. We are seeing, you know, positive growth in China coming out of Q2 and that continues, but it's really broad based. It is related to some of the things you highlighted, elective procedures coming back, the automotive build rate, sequentially getting better, it's still negative, but getting better. So we're seeing, I wouldn't say we're seeing the signs of a snapback in the inventory, in the channel yet, but it's, we're certainly early days benefiting from that broader improvement across, really across businesses and geographies.

And our next question comes from line of Julian Mitchell with Barclays, please go ahead.

Hi, good morning and I'll echo the thanks to Nick and welcome to Monish. Maybe just a question on the adjusted operating margin, first of all, so I saw the guidance of 20 to 21% for Q3. It is up slightly sequentially, but I guess year on year, it's still a very heavy decline, maybe heavier even than what you had seen in Q2, even with a better revenue trajectory. So I just wanted to try and understand, if that's right, it's maybe a three point decline in the adjusted margin year on year and maybe what's driving that to offset the better volume performance.

Hey Julian, yeah, with the guide that we're putting out for third quarter margin, 20 to 21%, we've been looking at it from a sequential perspective and seeing it up 50 to 100 basis points over where we finished Q2 of this year. Now, as you're doing and looking at last year, you got to remember last year had some one-off things benefiting that we had a gain on a sale of a building that's included in that. We also have the impact of a -a-dee year on year with a -a-dee not in our third quarter results last year, but they're now in there. Those are the two biggest things impacting the year on year number.

That's helpful, thank you. And then maybe my second question, if we look at the healthcare business specifically, I think there was a comment around improving margins in the prepared remarks, maybe just put a finer point on it, I suppose, in healthcare, help us understand the pace at which the elective surgery related businesses are coming back. And did the comment mean that margins could grow even in the second half or it's more just a much narrower decline than what you've seen in Q2?

Yeah, Julian, I wouldn't take the comments to say that we expect the margins to be up year on year in our healthcare business. My comments there were in regards to compared to where we saw margins in the second quarter, we anticipate those continuing to expand as we see elective procedures coming back and our own volumes going up. And if I use oral care as an example, each month of the second quarter, we were seeing improvement in our year on year growth rates in that and we expect that to continue going forward. We're also seeing improvements on the month in our medical solutions business. So we are seeing signs that these elective procedures are coming back and we were seeing the start of that later in the second quarter, early in the third quarter. And as that continues, we expect that to have a positive impact on the sequential operating margins for healthcare.

And our next question is from the line of Andrew Obin, Bank of America, please go ahead.

Yes, good morning. Morning, Andrew. Just a question as things improve for you guys, what do you need to see? What are the goal posts? Oh, I apologize, before I go into my question, I do want to thank Nick and welcome Manish. I apologize for skipping that. Nick, good luck and thank you and Manish, welcome. Thank you. I apologize for that. So just going back to capital allocation, what do you need to see in terms of things getting back to normal to go back to share buybacks, to go back to looking at M&A? What does it take? What are the goal posts?

Thanks for the question. You know, the way we look at it is we have said before, it's an extremely uncertain environment. So for us to look at the, what you call stability, we'll have to figure out what our end markets look like. When you think about a big end markets where that's healthcare, automotive and personal safety. So till we see that stability, it's just going to be really hard for us. So I would call those as the goal posts. And of course, how the coronavirus cases play out in the world will be other big factor in this and how the economy start opening up. So those are just some of the macro indicators that we'll have to look at before we feel comfortable. And that's why we're taking this day by day and we're going to continue providing you monthly guidance on a revenue. And then as that stabilizes, I think we'll be in a better position to have a stronger view on capital allocation.

So we're going to stop providing monthly guidance. I should expect buybacks. Sorry, that was a joke. And another question, you guys have some of the strongest presence in China of anybody we cover. And we've been reading about possible supply chain disruptions related to sort of Yangtze River flooding. Are you seeing any impact on your customers in China? I mean, I know where you guys are, but are you seeing any impact from flooding on your supply chain? Are you making any contingency plans? Just trying to figure out how real that thing is. Thank you.

Yeah, and Andrew, through the entire COVID experience, we really have validated the model that we've had around the world. And as you know, we manufacture in China, a majority of what we sell in China. So we really are closely connected with the supply chains there. I would say at this point, we don't see an impact from the flooding. We're watching it closely. We're staying connected to our customers. As they see interruptions, as if it worsens or their businesses are interrupted, we will certainly adjust in the supply chain. But at this point, we don't see a material impact on the China results. We're seeing fairly broad-based improvements really across electronics and industrial and transportation markets leading the way. Like the US, elective procedures in healthcare are a little slower to recover, but it's fairly broad-based in that growth that we saw in Q2. So not at this time, but we'll stay close to it and update as we go.

And our next question is from the line of Steve Tusa, JP Morgan, please go ahead.

Hey guys, good morning. Morning, Steve. Can you just discuss where you stand on some of the cost actions for a second half? I know you said you got 400 million out in second quarter, but maybe just discuss what you're getting in second half and then how that temporary versus structural kind of plays into next year, just assuming flat sales, for example, even though they probably won't be flat, just what you see kind of as temporary and structural now, just an update there.

Sure, Steve. So as Nick mentioned in his prepared remarks and the prior question, most of the actions that were taken in the second quarter were temporary in nature. We have taken some structural actions through a restructuring charge, but as most of them were temporary in nature. I would say we're gonna continue our strong cost discipline that we're doing, but at the same time, as the economic recovery starts coming back up, we are gonna see investments in both growth and productivity as well as some of the timing items in 2Q will play it back out in Q3 and Q4. So that's our current view right now. And as I said, uncertain environment, but depending on which way the world plays out, we are ready to act, whether in both investing in growth and productivity at the same time.

So I guess that sounds like for, I guess that sounds just pretty, performance next year will be pretty consistent to kind of normal incremental margins on growth with maybe just the 2Q temporary actions as kind of the key item to call out.

So as of right now, I would say that Steve, but again, as I said, let's see how the world plays out and we'll act both on growth and productivity as required. But for Q3 again, looking at the cost actions, just to reiterate, we are looking at, as sequential revenue goes up, margin rates gonna go up to 20 to 21%, which is 50 to 150 bips better than Q2. Right, right, right. Okay, thanks a lot. I appreciate

it. Thanks

Steve.

Our next question is from the line of Nigel Cole, Wolf Research, please go ahead.

Thanks, good morning. Nick, good luck and Manish, good luck with you on the role as well. I just wanted to just touch quickly on July versus June. I mean, I was not on the whole set of marks, but what caused the big snap in, it looks like middish teens declines in June on a daily basis and then snapping into positive growth in July and is that positive growth, is that inclusive of acquisitions or is that purely organic? Just wondering what changed between the two months?

Yeah, so the growth was all in sales, Nigel. So it's both acquisitions and organic. We are, I would say that broad-based view of businesses and geographies, it's adding up everywhere a little bit. That's what's making the difference. And we're seeing that, we're seeing demand come back. There was a lot of, I think a lot of optimism that we were seeing economic recovery at the end of second quarter. And we saw pretty consistent organic growth across the months in the quarter. We're seeing it come through now in July. So it's just, I would say the timing of it and that broad-based across businesses and geographies is adding up to improving trends. I'm encouraged by what I see. It's still early days in the third quarter, but we're off to a good start. And I think it's a start of a trend in those markets is the cause of it.

Yeah, I'd be curious if there's any channel impacts that caused that, but my following question is really on healthcare margins. And we saw, I mean, I think the best way to think about these on a EBITDA basis, and we saw sequentially EBITDA margins declining from 20% down to 24.1. And I mean, obviously volume took a big step down in one cubits, two cubes. Is that just purely a volume impact that we're seeing there or are there some mixed impacts that we need to figure in as well?

Nigel, before I give it to Nick, maybe just a comment about the channel at the end there. We did see some strong point of sale as we came through second quarter. So there was expectation that sell-in would follow. That's probably contributing some of it, but we aren't seeing a big, as I said earlier, a big snapback in the channel, but there has been stronger point of sale. So that's also contributing. Okay, thanks.

And Nigel, so your question on the EBITDA margins for healthcare, and yes, we're seeing that down. And your presumption is correct. What we are seeing there is almost all volume-related. When we look at it on an EBITDA basis, because then we're pulling out the impact of the sell-in purchase accounting impact. It's almost all volume-related. And then again, as we see volumes coming back up, we expect that to abate and come back to more normal operating margins for our healthcare business.

Our next question is from the line of John Walsh, Credit Suisse, please go ahead.

Hi, good morning. Morning, John. Thank you to Nick and welcome to Monish.

Thank you, John.

Wanted to go back to the Q3 margin guidance. I was trying to calculate the -on-year decline if I make adjustments for the flame detection gain last year, the property gain, which you kind of sized in the prepared remarks last year. And it seems like the -on-year delta actually gets worse in Q3 versus Q2. So wanted to know, one, if that math was right, and if, or if we missed something there.

So the way I look at it, John, I think the reason we went to incremental quarter or quarter or sequential is because it's so hard to do the math -on-year. There was some gains last time, as well as we've got the impact of the facility acquisition this year. And that's why I would just request that, focus on the sequential, and that's why we are showing margin improvement of 50 to 150 basis points as we go forward, as volume starts getting better.

Okay, thank you for that. And then maybe just a follow-up, thinking about price raws for the back half here, price ticked up, was just curious where you're actually seeing an acceleration and getting price maybe by the segment units, because we already have it by the geography.

Yeah, so we're at 50 basis points of price growth in the second quarter. And we don't foresee that having a material change in the second half of the year. What we've been experiencing for price growth, both for the first and the second quarter, we think is a pretty indicative of where we'll be for the total year. So John, there's really not any big trend change going on there to highlight. It's been a very stable number, and we think it will remain stable.

Great, thank you.

And the next question is from Joel Ritchie, Goldman Sachs, please go ahead.

Thanks, good morning, everyone. And I will echo all the comments from Mr. Mitnick and look forward to working with you, Manish. Same here, Joel. So maybe just my first question, maybe following up on Nigel's question on healthcare margins. So if we were to take out the facility acquisition from 2Q, what were the core decrementals in 2Q in healthcare?

Yeah, Joel, the core decrementals in healthcare, once I pull out a facility, then we're in 60% or a little higher than 60%, which is not unusual given the makeup of our cost structure in healthcare. So once I pull out a facility, then we're in that range.

That's helpful. And just, Nick, just following up on a comment you made earlier. So none of that is mixed related, like the elective procedures isn't exacerbating that decremental, it's just basically volume oriented and that's it.

Yeah, when we look at a mixed impact, we have pluses and minuses, it really nets out to very little change on our overall healthcare margin. Okay,

all right, thanks. And then maybe one follow on question, just going back to the comments around capital deployment. And when you could potentially get more aggressive with a buyback or F&A. The question I have is like, how are you thinking about your balance sheet and your leverage going forward? There's a lot of moving pieces clearly from a PFAT perspective. And so I'm just wondering whether, you're thinking about your leverage in a different way when we start thinking about the other, and you getting a little bit more aggressive in the future.

Sure, so I'll just start by saying the hallmark of 3M has been its strong capital structure and our plan is to continue doing that. De-leveraging has been a priority for 3M and we're gonna continue that journey. I think the pace of de-leveraging will depend on how economic activity recovers and also our ability to continue driving strong cashflow and control our working capital. So that's what I would just say for the time being is our current view. And to reiterate, capital allocation, our first priority has always been to invest in the business. It's R&D organic growth, best return right there. Dividend is our second, which has been a big hallmark of 3M. That's our second priority. And then M&A is third, and then share buyback would be our last priority. So that's the way we are looking at it right now.

Next question is from the line of Jeff Sprague, vertical research partners, please go ahead.

Thank you, good morning everyone. Hey, Joe. Nick, 35 years, you look so young. I thought maybe you started out in middle school, but best of luck to you.

Jeff, you're kind, thank you.

Yeah, just two business related questions for me, if I could. First on electronics, can you just provide a little more color on what you saw there? It sounds like kind of a tale of two markets, right? One is consumer electronic versus the other buckets. If you can give a little more color on what you saw in the quarter in those pieces and what the trajectory looks like into the third quarter.

Yeah, Jeff, electronics for us was down 1%. And as you said, it was kind of a mix of different stories. There was strength in semiconductor, data centers, factory automation. Those were all double digits for us. Those have been part of our focus on where we invest for growth in electronics. I was offset by softness in consumer electronics. The broader transportation electronics was impacted more heavily by automotive and I would say our commercial solution business. But in electronics, the strength were in those categories. We see those trends continuing. Semiconductor fabrication continues robust growth. Consumer electronics still soft as we start third quarter. But the benefit of being in those higher growth segments gave us some strength in electronics in the quarter.

Then secondly, unrelated, on the consumer side, obviously potentially a very peculiar back to school or maybe we don't even have back to school this year. What is going on in retail in terms of planning for this, channel fill, that sort of thing and what are you expecting in the third quarter? Well, our

retail partners are planning for back to school. And as you said, there's a lot of uncertainty around it. It's another one of those things that's almost day by day. We built a little bit of inventory even as we went through the first half in anticipation of back to school. We see that being something that is going to add to some of the growth as we move forward. But it's a lot of uncertainty around how it's gonna play out. The strength in consumer for us has been around home improvement and our cleaning products. Stationary office had been declining as schools were closed, of course. We're hoping to see an uptick in demand as schools open. But that still remains to be seen.

And our next question is from Dean Dre, RBC Capital Markets, please go ahead.

Thank you, good morning everyone. And echo best of luck to Nick and welcome to Monish. Morning Dean. Thanks Dean. Hey, I'm not surprised that air quality is one of the priorities for 3M. You've got such a big presence on the residential side with filtrate. Where and how do you see opportunities on the commercial building side and filtration as people start venturing back to work? Are there new products that you're expecting to launch?

Yeah, Dean, you hit it. Our innovation and our really the core of what we do in filtrate has been focused on residential, both indoor air quality and I would say residential HVAC together with room air purifiers being part of that. And our innovation goes into the filtrate filters that are part of that. The commercial side, while we contribute some of our non-woven technology, it's not a big part of our air quality growth. It's one of those areas that it's still nascent in how the innovation is gonna make a difference there. We work in our innovation on opportunities there. But when we talk about the outlook for the strength in this area and the growth that we're seeing in our priority growth platform, it's really in that residential side of the marketplace.

Got it, and then for 2020, how do new product introductions shape up? Again, this is a strange year, but in terms of product launches and contributions? Yeah, it's still, the

heart of 3M is our innovation. It comes through in those new product launches. And we highlighted a little bit the benefit we're seeing in these priority growth platform, but it's much broader than that. We continue to launch new products. And like everything else, we're adjusting in the middle of COVID, prioritizing where we see market opportunities. And I would say in some cases, you see in our capex delaying some of the investments as we see slowness in markets. Now, we have plans for robust new product launches in the second half of the year. It's gonna be, it's still a critical part of our growth driver. So it doesn't change. We just have to adjust to the market opportunities. And I would say to the pace of investment as we go through the rest of the year.

And next question is from line of Andy Kaplewitz, Citigroup, please go ahead.

Good morning, guys. Nick, thanks for all your help. Much appreciated, Manish, welcome. Thank

you. Thanks, Andy.

So just focusing on safety and industrial for a second, the margin performance in the quarter was strong. Can you give us a little more color in terms of what led to the margin improvement in the quarter? Is the big increase in mask sales actually helping mix? Is it realignment that that's now helping that segment? Would you expect to see this kind of performance we saw in safety and industrial moving forward?

Yeah, Andy, in total, the fact that our revenue was down year on year, we're not seeing a benefit margin in our safety and industrial business from the combination of the higher respirator sales and the lower sales and the rest. Those we look pretty much as a push to us. So the 180 basis point margin expansion, some of that's coming from that $400 million of cost actions that we're doing, that safety and industrial had its share of that. But this was also a business where we were taking actions last year in restructuring. So the lack of repeat of that expense plus the positive benefit of that restructuring, all of those things in combination led to that 180 basis point margin expansion. It's really not a mix or a respirator story. And then going forward, we do see continued margin expansion potential in this business going forward, possibly not on the same scale as what we saw here in regards to the margin guidance that we provided, but it's still a business where we see upside on the margin on a year on year basis.

Thanks for that, Nick. And then just focusing geographically again, China seems to be continuing to improve, but Japan looked worse and Latin America looked expectedly weak. So can you talk about Asia and some of the other emerging markets? It seems like China continues with more V-shaped recovery for you guys, is that what you're seeing? And then why did Japan turn down in Q2?

Yeah, and Andy, we are seeing that recovery in China. And I highlighted earlier, it's really across safety and industrial transportation electronics leading kind of the improvements as we move ahead. Healthcare still slow as elective surgeries, even their elective procedures come back in China as well. So we see that as a highlight in continuing as we start the third quarter. Japan was down 12% in the quarter, really seeing declines in safety, industrial, and consumer transportation electronics as well. So it's a broad-based slowness there. I think we're seeing that across geographies that there's kind of a sequence to things. You're seeing the earlier recovery in China, then you see EMEA, Americas, and Japan, other parts of Asia kind of going through a kind of a step behind that. And we saw some of that in Japan as we went through the second quarter.

And the last question is from Marcus Mickermeyer, UBS. Go ahead.

Hi, good morning, everyone. And again, welcome, Anish. Thanks, Nick, for all you help and all the best.

Thanks, Marcus. How are you, Lucas? If I can

maybe come back to just the monthly data. Sorry for that, Mike, Nick. When we spoke intra-quarter, we talked about the sort of billing day adjustments that we would have to make in May and June. And if I do that arithmetic, I actually see June down significantly more than May was, which surprised me a bit. And then correct me if I'm wrong, but did you say July, the low thing, the digit number was that all in or was that organic? Maybe let's start here.

Yeah, when we look at on a per billing day sales, from April to May to June, we saw a improvement each of those months. However, that's a normal pattern for us. It's a normal pattern as we go through the second quarter that May and June sales per billing day goes up. And we saw that again this year. So in a year on year growth comparison, what we saw on a per billing day was very comparable about the same growth on a sales per billing day in May as what we saw in June. What we're seeing now in July is now a more noticeable direction change where on a sales per billing day and on an absolute basis, we are seeing it up low single digits versus where we were in July of last year.

Okay, thank you. Maybe I'll come back to that also after the questions to make sure. And then on the interim content order that you mentioned with ADEM in your prepared remarks, is that something that you had already provisioned for before because in the special items, if I look at where no sort of litigation related charges in the quarter, is that something that's still coming up or is that something that was already provisioned for in the past?

Well, Marcus, the announcement on ADEM, that's something that we had previously disclosed and we've reached an interim consent order in partnership with ADEM. So this will have requirements as we move ahead. What we know about remediation that's probable and estimable is part of our reserve, but there will also be capital and operating costs that go along with complying with the consent order. It's not expected to be material for 3M, but it is something that will become part of our operational costs as we move ahead.

And that concludes the question and answer portion for our conference call. I will now turn the call back over to Mike Roman for some closing remarks.

To wrap up, the 3M team delivered another strong operational performance in the second quarter. In a challenging environment, we posted robust cashflow, managed costs and continued to invest for the future. We will continue to fight COVID-19 from all angles and we are well positioned to deliver value for our customers and shareholders during the pandemic and as the economy recovers. Thank you for joining us.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your line.