TALES OF THE TAPE: 3M Leans On Healthcare Amid Downturn

3M Co.'s (MMM) healthcare business could be a key to its prognosis this year.

The healthcare unit, which makes products ranging from bandages and braces to inhalers and other drug-delivery systems, accounts for about 20% of 3M's operating profit and has quietly become one of its best-performing divisions.

The degree to which the unit can hold up amid the slumping global economy will play a big role in determining whether 3M comes in near the top or bottom end of its lackluster overall forecast for 2009, which calls for a 3% to 12% slide in per-share earnings.

"Thank God we've got a healthcare business," Chief Financial Officer Patrick D. Campbell quipped during 3M's outlook meeting last month.

The healthcare unit - 3M's second-largest division by revenue - grew operating income by 17.2% in the third quarter on a 10.7% rise in sales. Operating income was up 8.7% company wide, excluding items, on a 6.2% sales increase.

In addition to healthcare, 3M's broad product portfolio spans the industrial, transportation and electronics sectors, and the company reaps more than 60% of its estimated $23.2 billion in annual sales overseas.

The St. Paul, Minn., diversified manufacturer declined to make an executive available for this story, citing proximity to its fourth-quarter earnings release on Jan. 29.

But Campbell made clear during the December outlook meeting that 3M is banking on at least "decent" healthcare performance in 2009 as the economic downturn saps many of its business lines and reduces overall sales volume by a projected 3% to 7%, not including acquisitions.

He didn't precisely forecast the healthcare business, saying only that it likely will continue to perform above the company average.

Analysts and investors also are counting on continued solid performance, at least on a relative basis, from 3M's healthcare business. They point to the unit's reliance on "consumables," such as surgical supplies, rather than on sales of big-ticket medical devices that might be vulnerable to cancellations amid the economic slump.

"Hopefully, [the healthcare unit] acts as a positive to offset some of the negatives that are going to take place in the first part of the year with some of [3M's] other businesses," said Peter Klein, a portfolio manager at Fifth Third Asset Management Inc., which owns a 3M stake.

To be sure, plenty of other factors will play into 3M's 2009 results, not the least of which will be the ultimate magnitude and duration of the global economic slump, as well as the direction of foreign currency exchange rates.

Meanwhile, 3M stock - trading Thursday afternoon around $53.10 a share - doesn't appear poised for a major near-term rebound regardless, after tumbling 32% last year and 7.7% so far in 2009.

The shares are valued at about 12 times the company's anticipated 2009 earnings, putting them in the mid-range of multi-industry peers such as General Electric Co. (GE) and Danaher Corp. (DHR), valued 9.3 and 13.4 times estimated earnings, respectively.

Still, the healthcare unit clearly represents something of a boon to 3M amid the prevailing economic gloom, with the potential to at least mitigate the degree of decline in the company's results - and thus the stock slump - until a broad recovery gains traction.

"It can definitely help," said Sterne Agee analyst Nicholas Heymann, who has a hold rating on 3M. "It's certainly one of the brighter segments [for 3M] amid a tough environment."

3M has been beefing up the unit since announcing the sale of its big but slow-growth pharmaceutical business in late 2006. 3M bought nine small to mid-sized healthcare companies in 2007 and 2008, adding to its offerings and expertise in areas such as surgical supplies and orthodontics.

The moves appear to have paid off, with sales in 3M's healthcare segment climbing about 12% through the first nine months of 2008, compared to a 6.7% annual growth rate for the unit in 2006.

Analysts generally like the strategy, although some have noted that 3M's exposure to cosmetic dentistry could put the brakes on the performance amid the downturn.

Cosmetic dentistry "is great when people have dough to spend" but may suffer when they don't, Heymann said.

3M executives have acknowledged that there could be a dip in "discretionary" dental work this year, although they have said they expect it primarily in the U.S. rather than overseas, where governments play a bigger role in providing healthcare.

Regardless, Heymann estimates cosmetic dentistry at no more than 6% of 3M's healthcare business. He expects overall sales in the healthcare unit to be off about 3% in 2009, hardly results to write home about but much better than what he anticipates will be a 10% slide in annual sales for the company as a whole.

Harrison Grodnick, a senior portfolio manager at Minneapolis Portfolio Management Group, called the performance of the healthcare unit illustrative of one of the things he likes about 3M: The conglomerate spans many sectors, which among other things means it usually has exposure to something doing relatively well.

"I'm more generalist in my view of 3M," said Grodnick, whose firm owns about 450,000 3M shares. "They have diversified products and chose to go into areas that are going to be growth-driven for a lot of years."

While the stock has fared poorly recently, Grodnick cited 3M's clean balance sheet and said investors who weigh in at current levels are likely to be rewarded long term, although he stopped short of forecasting a price target.

"It could be one of the great investments out there" over the next three to five years, he said.

-By Bob Sechler, Dow Jones Newswires; 512-394-0285; [e-mail]

Click here to go to Dow Jones NewsPlus, a web front page of today's most important business and market news, analysis and commentary. You can use this link on the day this article is published and the following day.