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Why MMM Is Trading at a Premium Compared to Other Industrials

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MMM’s forward price-to-earnings

In the previous article, we took a look at analysts’ recommendations for 3M Company (MMM). In this article, we’ll analyze 3M’s valuations compared to those of its peers. 

Forward price-to-earnings (or PE) is a relative valuation method that considers a company’s future earnings for calculation. On January 10, 2017, MMM was trading at a one-year forward PE multiple of 20.50x compared to its industrial peers Honeywell International (HON) and United Technologies (UTX), which were trading at one-year forward PE multiples of 16.50x and 17.0x, respectively.

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The forward price-to-earnings multiple tells us how much investors are paying for a stock per dollar of its expected earnings over the next 12 months. It’s one of the most popular valuation tools, as it helps investors to compare between two or more companies that operate in the same industry and check which stocks are overvalued or undervalued.

Why is 3M trading at a premium?

Currently, MMM is trading at a premium compared to HON and UTX. All three companies’ revenues have remained range-bound in the past three years. As a business strategy, 3M is looking to consolidate its portfolio from 40 businesses to 25 businesses, so investors can expect some realignments and divestitures. 3M has also acquired a couple of businesses that could boost its revenue growth.

MMM has a net income margin of ~16%, compared to HON’s 12.7% and UTX’s 9.1%. With business restructuring taking place, 3M expects synergies of $500 million–$700 million and $500 million in working capital improvements by 2020. 

MMM’s earnings per share (or EPS) were on an upward trend, with analysts expecting EPS growth of ~7% over the previous year in 2016. According to its 2017 guidance, 3M expects its EPS to be in the range of $8.45–$8.80 in the year, implying a rise of 4%–8% over 2016.

Investors can indirectly hold 3M by investing in the Industrial Select Sector SPDR ETF (XLI), which has invested 5.3% of its portfolio in 3M as of January 10, 2017. The top holdings of the fund include General Electric (GE) with a weight of 10%.

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