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 1 followed by the 4 on your telephone keypad. It is recommended that you use a landline phone if you're going to register for a question. As a reminder, this conference is being recorded Tuesday, July 26, 2022. I would now like to turn the call over to Bruce Germelin, Senior Vice President of Investor Relations at 3M.

Thank you and good morning, everyone, and welcome to our second quarter earnings conference call. With me today are Mike Roman, 3M's Chairman and Chief Executive Officer, Monish Patalawala, our Chief Financial and Transformation Officer, and Kevin Rhodes, our Chief Legal Affairs Officer. Please note that Mike's and Monisha's formal comments this morning will be longer than past quarters given the announcements that we made this morning. Therefore, when we get to Q&A, please keep it to one question and one follow-up so that we can try and get to every one as efficiently as possible. Also note that today's earnings release and slide presentation accompanying this call are posted on the homepage of our investor relations website at 3M.com. Please turn to slide two. Please take a moment to read the forward-looking statement. During today's conference call, we'll be making 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, 10-K and 8-K, lists some of the most important risk factors that could cause actual results to differ from our predictions. Please note, throughout today's presentation, we'll be making references to certain non-GAAP financial measures. Reconciliations of the non-GAAP measures can be found in the appendix to these slides and in the attachments to today's press release. With that, please turn to slide three, and I'll now hand the call off to Mike. Mike?

Thank you, Bruce. Good morning, everyone, and thank you for joining us. Today is an exciting and important day for 3M. We are positioning our company for future success by creating more opportunity while reducing uncertainty. We plan to spin off our healthcare business, which will result in two world-class public companies that are global leaders with significant growth opportunities in their respective markets. We intend to execute a tax-free spinoff, creating a global diversified healthcare technology leader. New 3M will remain a leading global material science innovator. serving customers across a range of diverse and attractive end markets. Each company will be well capitalized, more agile and focused, and well positioned for long-term success. Also, we are proactively taking steps to resolve litigation related to combat arms earplugs. Aero Technologies, a 3M subsidiary, has voluntarily elected to initiate Chapter 11 proceedings. This process is intended to resolve claims related to combat arms in a manner that is efficient and equitable. 3M has not filed for Chapter 11. Both 3M and Arrow expect to continue to operate in the ordinary course. And, as we announced earlier in our earnings press release, 3M continues to deliver in a challenging environment with adjusted earnings per share of $2.48 in the second quarter. We also posted organic growth of nearly 5% excluding the impact of disposable respirators and COVID-related lockdowns in China. Monish will cover our Q2 results in detail after my remarks. Please turn to slide four. Now is the right time for 3M to act as we position our company to win in a rapidly changing world. As I shared at our investor meeting in February, disciplined portfolio management is foundational to our growth strategy. Our board and management team actively evaluate strategic options to drive long-term sustainable growth. The importance of portfolio management has never been greater, especially given the extraordinary macroeconomic changes brought about by the pandemic. I'll speak to health care in a moment, but let me first talk about the strong businesses that will make up new 3M. Our market-leading business groups are aligned to highly attractive end markets with tremendous opportunities in front of them. Each of these business groups grew above 8% in 2021 and are delivering solid results in a challenging environment this year. Together, these businesses make up an outstanding portfolio that actively leverages our world-class capabilities. As global megatrends have accelerated, many of those trends demand our customer-driven innovations that align to our growth priorities. Areas such as electronics, safety, mobility, digitization, home improvement, and sustainability all represent significant opportunities for 3M. An important example of our strategic portfolio management is the progress we have made in healthcare. Through organic investments in innovation, strategic M&A, and updates to our operating model, we have positioned healthcare to be successful as a standalone enterprise. In 2019, we acquired Acelity and M-Modal, establishing our leadership in advanced wound care and in health information systems. Also, we have divested drug delivery and are in the process of separating our food safety business. Our business group-led operating model, which we implemented in 2020, has also enabled our businesses and R&D to be closer to our customers. These actions, in addition to healthcare's strong capabilities, are why we feel now is the right time for it to formally operate as a standalone healthcare leader, especially given important trends that favor our business. With shifting demographics, growing demand for virtual and in-home care, a focus on reducing re-hospitalizations, advances in healthcare IT systems, and a growing focus on delivering better patient care at a lower cost, our healthcare business is at the intersection of data, analytics, and technologies needed to deliver precision medicine. Both companies will sharpen their focus to continue investing and winning in global end markets, and have greater flexibility to strategically deploy capital, drive innovation, and accelerate growth. Turning now to slide five. Our actions will drive long-term value for our shareholders. New 3M and healthcare will tailor their capital allocation and investments to drive innovation and growth. As leaders in their markets, their enhanced focus will help position each to respond even faster to shifting industry dynamics and needs. They will both offer distinct and compelling investment profiles appealing to different investor bases. These actions will help unlock and unleash value for 3M and the healthcare business and chart an exciting course for our future. At the same time, we are also working to reduce uncertainty by efficiently and equitably resolving combat arms earplug litigation. I will now provide more detail about our planned spinoff of our healthcare business and the opportunities this will create. Please turn to slide seven. Each business will be financially strong leaders in their respective industries. 3M will be an approximately $26.8 billion business and remain a leading provider of innovative solutions for a broad, diverse range of end markets, including industrial, safety, automotive, electronics, and consumer. Each of these businesses benefit from 3M's science and innovation. Our healthcare business drove $8.6 billion in sales in 2021. which includes approximately $400 million in revenue from our food safety business. We intend to complete the previously announced separation of the food safety business through a split-off transaction with a targeted closing date of September 1, 2022, subject to approval by Neogen shareholders in addition to other customary closing conditions. Our go-forward healthcare business will build upon strong positions in attractive markets, including wound care, oral care, healthcare IT, and biopharma filtration. Next slide, please. With our fundamental strengths in science and technology, manufacturing, global capabilities, and iconic brands, we are well-positioned to capitalize on and invest in key megatrends. A hallmark of 3M is our ability to leverage unique and differentiated technologies across our organization, allowing us to create new solutions required by a world where we are seeing accelerated demand for innovation and sustainability. We will continue to actively manage our portfolio with discipline and focus, generate strong margins and cash flow, and grow earnings by improving operating rigor. Our capital allocation priorities remain unchanged. These include investing in organic growth, an attractive dividend, strategic M&A, and finally, share repurchases. Next slide, please. As we look ahead, innovation, talent, and operations will remain core strengths for new 3M. We will drive more customer-focused innovation, leverage data and insights from our retail partners, and connect with customers through advanced e-commerce strategies. We will share technology platforms and leverage R&D across the enterprise, which will help drive growth in all of our businesses. Attracting and retaining talented people are top priorities. We will connect them through greater flexibility with our Work Your Way model and continuously strengthen our culture of innovation. We will also advance our capabilities through digitization to provide unique solutions and achieve greater end-to-end performance across our global operations. Our innovative manufacturing expertise will continue to be a differentiator. And to ensure greater connectivity to customers, we will enhance our service and streamline our operating model. We are equally excited for the future of our healthcare business, which I will explain on slide 10. Our healthcare business enables better, smarter, and safer care and will be well-positioned to support customer needs and make them most of attractive opportunities. including a growing focus on infection prevention to help providers reduce related re-hospitalizations, hospitals increasing investments in improvements in clinical and operational workflows to drive efficiencies and improve patient experiences, more frequent use of biologics as a first-line choice of treatment. In addition, medicines are becoming more complex and advanced, requiring specialized, tailored solutions. And the combination of material science and digital science, especially within oral care, is changing the patient experience for the better. With our deep and diverse portfolio of trusted brands, global capabilities, regulatory expertise, and leading positions in attractive segments, we expect the healthcare business to generate strong recurring revenues, margins, and cash flow. Next slide, please. We are excited about the healthcare business we have built. with intention and a clear focus on helping improve the health of people around the world. Our business is powered by core strengths, including our proven leadership and multiple care pathways, our position in attractive end markets, innovation mindset, customer relationships, regulatory expertise, and operational excellence. These strengths enable strong sales growth and profitability, and importantly, deliver better patient care. Next slide, please. We are well positioned in large and growing healthcare end markets, which are expected to grow at a strong and steady rate over the next several years. Our wound care business is a world leader and comprises a portfolio of innovative products. Our oral care business is another leading platform, which has developed award-winning innovations. Healthcare information systems are increasingly essential as providers seek to deliver better care through comprehensive data and insights. Our biopharma filtration products are critical to manufacturing potentially life-saving medical devices, vaccines, drugs, and therapeutics. Now let me turn to some of the specifics of the transaction on the next slide. 3M plans to pursue a tax-free spinoff and retain a 19.9% stake. which we expect to monetize over time. We expect healthcare will be spun off with net leverage of three to three and a half times adjusted EBITDA and will de-lever rapidly given the business's strong cash flow. Subject to the satisfaction of certain conditions, we anticipate completing this transaction by the end of 2023. And we anticipate no change in 3M's capital allocation priorities through separation. In addition, 3M will retain responsibility for non-healthcare-related litigation, including combat arms earplugs and PFAS. Over the next several months, we will begin our work to stand up these two companies, and we'll share updates as we progress. Now let me provide some additional background on combat arms litigation. Please turn to slide 15. To provide some context, in 2008, 3M acquired Aero Technologies, which manufactured combat arms earplugs. Since the acquisition, Arrow has continued to operate as a wholly owned subsidiary of 3M. These products provided effective hearing protection when used properly, and we stand by their performance. The U.S. military continues to rely on 3M products, including newer versions of the combat arms earplugs. Nonetheless, there has been an extraordinary increase in litigation related to combat arms. As of June 30th, 2022, there were approximately 115,000 filed claims and an additional 120,000 claims on an administrative docket. The multi-district litigation process and the highly variable outcomes it has generated has not provided certainty or clarity. We believe that litigating these cases individually could take years, if not decades. We want to do right by veterans and all stakeholders. and we expect the steps we are taking today will provide greater certainty as we take action to efficiently and equitably resolve claims related to combat arms. We have made the decision to adopt a new legal strategy, so let me provide a little more context on the actions we are taking. Arrow has voluntarily elected to use well-established Chapter 11 procedures to resolve this litigation. Arrow will indemnify 3M for all liabilities related to combat arms and certain discontinued Arrow respirator mask products. 3M has entered into a funding agreement and is committed to fund a trust of $1 billion to resolve all claims determined to be entitled to compensation. This amount is based on the analysis of an experienced estimator of claims in Chapter 11. In addition, We are committing $240 million to cover projected case-related expenses. 3M will provide additional funding if required under the terms of the agreement. By taking these actions, we expect to provide greater certainty and clarity and help funds go to plaintiffs with claims that are determined to be entitled to compensation sooner. This will help reduce the cost and time that could otherwise be required to litigate thousands of cases. Let me now say a few words about our plans to manage PFAS. 3M stands by our record of environmental stewardship. We are already deploying state-of-the-art technology that will help us achieve our goal of a 99% reduction in PFAS discharges from our operations. We are making progress against our goals of improving water quality, reducing water use, reducing plastic use, and achieving carbon neutrality. In addition, we continue to remediate at sites where 3M historically manufactured or disposed of PFOA and PFOS, now specifically to PFAS-related litigation. We plan to vigorously defend ourselves. We are preparing our defense for upcoming milestones in the litigation process, and we are well advised of our options. Next slide. We are excited about the future of 3M. Our actions today will provide greater focus for our organization, Before I turn it over to Munish, I want to reiterate a few key takeaways. Our investments in innovation, our portfolio management strategy, and our realigned operating model will power our future growth. We will have dedicated teams to help facilitate focused execution of our actions announced today. Our planned tax-free spinoff will result in a leading global diversified healthcare technology company. we will create more opportunity for both 3M and the newly standalone healthcare business through this transaction, with two public companies well-positioned to drive future success. In addition, we are taking action to efficiently and equitably resolve combat arms litigation. Finally, we remain focused on delivering in a challenging environment. Now I will turn it to Monish to provide an update on our Q2 performance and an updated outlook for the year. Monish.