3M (MMM) 2017 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by.

Welcome to the 3M fourth quarter earnings conference call.

(Operator Instructions) As a reminder, this conference is being recorded, Thursday, January 25, 2018.

I would now like to turn the call over to Bruce Jermeland, Director of Investor Relations at 3M.

Thank you, and good morning, everyone.

Welcome to our fourth quarter 2017 business review.

On the call today are Inge Thulin, 3M's Chairman, President and CEO; and Nick Gangestad, our Chief Financial Officer.

Each 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.

Before we begin, let me remind you of the dates for our 2018 investor events.

Please turn to Slide 2. This year's earnings conference calls will be held on April 24, July 24 and October 23.

Please take a moment to read the forward-looking statement on Slide 3.

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 10-K lists some of the most important risk factors that could cause actual results to differ from our predictions.

Finally, please note that throughout today's presentation, we'll be making references to non-GAAP financial measures, including measures which exclude the impact of the Tax Cuts and Jobs Act.

Reconciliations of the non-GAAP measures can be found in the appendix of today's presentation and press release.

Please turn to Slide 4, and I'll hand it off to Inge.

Inge?

Thank you, Bruce, and good morning, everyone.

I will open with some comments on the fourth quarter and later in the call, I will recap our full year performance.

3M had a strong finish to 2017, delivering robust organic growth across all business groups and all geographic areas.

We posted record sales and expanded our profitability while continuing to invest in the business.

Looking at the numbers, we increased earnings to $2.10 per share, up 12% year-on-year.

Note that this excludes the impact of tax reform recently enacted in the United States, which Nick will discuss in detail.

Our team delivered total sales of $8 billion, an all-time high for the fourth quarter.

Organic growth company-wide was a strong 6% as our fundamental strengths are enabling us to capitalize on an improving global economy.

This includes very good performance from Electronics and Energy and Safety and Graphics, both of which grew 11% organically.

Organic growth in our Consumer business accelerated to 5%, its third consecutive quarter of positive growth.

Industrial grew 4% organically and Health Care grew 3%.

Organic growth was also broad-based across geographic areas, led by Asia Pacific at 12% and Europe/Middle East/Africa at 7%.

The United States and Latin America/Canada each grew 3% organically.

Turning to margins.

Our team executed well and expanded margins to a healthy 23%, with 4 of our 5 business groups above 22%.

We also continued to invest in the business, including research and development and CapEx while returning significant cash to our shareholders.

In the quarter, we returned $1.2 billion to shareholders through both dividends and share repurchases.

That concludes my opening remarks.

And I will now turn the call over to Nick.

Nick?

Thank you, Inge.

Let me begin with a topic that is top of mind this earnings season, the Tax Cuts and Jobs Act and its impact on our fourth quarter results and beyond.

Please turn to Slide 5.

Following the passage of the new tax legislation, we recorded a net tax expense in Q4 of $762 million or $1.25 per share, resulting in fourth quarter GAAP earnings of $0.85 per share.

This net tax expense includes the onetime transition tax on unremitted foreign earnings as well as true-ups of tax-deferred assets and liabilities.

Excluding this impact, fourth quarter earnings were $2.10 per share, an increase of 12% year-on-year.

In addition, as a result of tax reform, we now expect our 2018 tax rate to be between 20% and 22% versus the prior range of 26% to 27%.

Inge will provide more details on our updated 2018 guidance later in the call.

Please note that the balance of my prepared remarks today will exclude the impact of U.S. tax reform on 2017 earnings.

Please turn to Slide 6 to review fourth quarter sales.

Sales growth remained strong in Q4, up 6% organically as we continued to outperform the markets we serve.

Selling prices continued to improve throughout the year with fourth quarter, up 20 basis points.

Excluding our electronics businesses, selling prices were up 40 basis points, our strongest quarterly pricing performance in 2017.

The combination of acquisitions and divestitures contributed 30 basis points to sales growth in the quarter.

This impact relates to the fourth quarter acquisition of Scott Safety, net of the divestiture of nonstrategic businesses over the last 12 months.

In addition, foreign currency translation increased sales by 2.7 percentage points.

All in, fourth quarter sales in U.S. dollars increased 9% versus last year.

In the U.S., organic growth increased 3% with all business groups delivering positive growth.

Growth was led by high single-digit increases in both Safety and Graphics and Electronics and Energy, followed by Consumer, up mid-single digits.

Asia Pacific led the company with organic growth of 12% in Q4.

All business groups within Asia Pacific posted strong growth in the quarter, led by double-digit increases in Safety and Graphics, Electronics and Energy and Health Care.

Organic growth was 18% in China/Hong Kong and 7% in Japan.

Excluding electronics, China/Hong Kong grew 19% and Japan was up 5%.

Moving to EMEA, organic growth was 7% in Q4 with West Europe, up 5%.

All business groups grew in the quarter with Safety and Graphics and Consumer leading growth in the area.

Finally, Q4 organic growth in Latin America/Canada was 3%, led by a mid-single-digit growth in Consumer, Industrial and Health Care.

At a country level, Canada delivered strong organic growth of 8% while Mexico and Brazil were both up 3%.

Please turn to Slide 7 for the fourth quarter P&L highlights.

Company-wide fourth quarter sales were $8 billion with operating income of $1.8 billion, up 9.4%.

On a GAAP basis, fourth quarter operating margins were 22.8% or 23.8% adjusting for year-on-year impacts from M&A, strategic investments and divestiture gains.

Let's take a closer look at the various components of our margin performance in the fourth quarter.

Leverage on organic volume growth and productivity contributed 150 basis points to operating margins.

Acquisitions and divestitures combined brought down margins by a net 60 basis points.

This result includes a 90 basis point impact related to the Scott Safety acquisition, which closed in early Q4.

The combination of lower raw material costs and higher selling prices added 40 basis points to operating margins.

Foreign currency, net of hedging impacts, reduced margins by 60 basis points, and higher year-on-year pension and OPEB expense decreased margins by 20 basis points.

Let's now turn to Slide 8 for a closer look at earnings per share.

Fourth quarter earnings were $2.10 per share, up 12% year-over-year.

The benefits from organic growth and productivity were the predominant driver of earnings growth, contributing $0.33 to per share earnings in the quarter.

On our October earnings call, we described 4 items that would impact the fourth quarter.

Each of them came in as expected with per share earnings headwinds of $0.07 from the acquisition of Scott Safety, $0.06 from incremental strategic investments and $0.11 from our high-coupon debt tender, while we recorded a benefit of $0.12 from the divestiture of the electronic monitoring business.

In addition, there are 2 other items that I would like to comment on that impacted fourth quarter earnings.

First, we updated our reserves for future potential respirator mask claims that we estimate could occur over the next several decades, which resulted in a $0.07 year-on-year earnings headwind.

Secondly, our Q4 tax rate was 23% versus 28.2% in the prior year, which increased earnings by $0.13 per share.

The lower tax rate was driven by increasing benefits from our Supply Chain Centers of Expertise, geographic profit mix and equity-based compensation.

Please turn to Slide 9 for a look at our cash flow performance.

Fourth quarter free cash flow was $1.4 billion with free cash flow conversion of 268%.

Included in these results is the impact of the Tax Cuts and Jobs Act, along with a U.S. pension contribution of $600 million that we made following the signing of tax reform.

The net impact of these 2 items benefited Q4 free cash flow conversion by 112 percentage points.

For the full year, free cash flow conversion was 100% with a 3 percentage point benefit from tax reform, net of our $600 million pension contribution.

Turning to CapEx.

Fourth quarter capital expenditures were $459 million, with the full year totaling $1.4 billion.

Also in the fourth quarter, we returned $1.2 billion to shareholders via dividends and gross share repurchases.

For the full year 2017, we returned $4.9 billion to shareholders, including cash dividends of $2.8 billion and gross share repurchases of $2.1 billion.

Looking ahead to 2018, we remain encouraged by the numerous opportunities to invest in the business to improve both growth and productivity while continuing to return significant cash to our shareholders.

Thus, in light of these opportunities, coupled with tax reform, we are increasing the top end of our 2018 CapEx expectation $100 million to a range of $1.5 billion to $1.8 billion.

In addition, we now expect gross share repurchases in the range of $2 billion to $5 billion versus $2 billion to $4 billion previously.

Let's now review our business group performance starting with Industrial on Slide 10.

The Industrial Business Group posted organic growth of 3.9% in Q4 and 4.9% for the year.

Our Heartland businesses within Industrial had a good finish to the year with abrasives, up high single digits.

Industrial adhesives and tapes and automotive aftermarket both grew mid-single digits in the quarter.

Our automotive OEM business was up 5%, continuing its consistent track record of outpacing growth in global car and light truck builds.

Finally, the separation and purification business grew low single digits, while advanced materials declined year-on-year against last year's strong comp.

On a geographic basis, Industrial's organic growth was led by a high single-digit increase in Asia Pacific followed by mid-single-digit growth in both EMEA and Latin America/Canada.

Industrial delivered fourth quarter operating income of $527 million with an operating margin of 19.4%.

Underlying margins were up 50 basis points year-on-year, adjusting for incremental strategic investments and a Q4 2016 gain on divestiture.

Please turn to Slide 11.

Fourth quarter Safety and Graphics sales grew 10.7% organically with double-digit increases across both developed and developing markets.

Our personal safety business posted double-digit organic growth in Q4, with broad-based growth across all geographies.

The roofing granules business had a strong finish to the year as a result of the rebuilding efforts following last fall's hurricanes.

Transportation safety was up mid-single digits with particular strength in reflective sheeting for roadway infrastructure.

This business continues to transform its portfolio to focus on the connected roadways of the future.

Geographically, Safety and Graphics grew organically across all areas, led by an 18% increase in Asia Pacific, 12% increase in EMEA and a 9% increase in the U.S. Operating income was $406 million, and underlying operating margins were up 370 basis points year-on-year, adjusting for the Scott Safety acquisition, divestiture impacts and incremental strategic investments.

Please turn to Slide 12.

Health Care increased 3.1% organically in the fourth quarter.

For the full year, Health Care grew nearly 4% with second half organic growth of 5%.

In Q4, our medical consumables business, which include advanced wound management and infection prevention solutions, posted mid-single-digit organic growth.

Oral care delivered 3% organic growth in the quarter as we continued to post strong international growth, particularly in developing markets.

Fourth quarter organic growth was led by high single-digit increases in both food safety and health information systems, which posted its strongest growth quarter of the year.

On a geographic basis, Health Care grew across all geographies with continued strength in developing markets, which were up 15% in the quarter.

Health Care's fourth quarter operating income was $464 million and operating margins were 31.5%.

Next, let's cover Electronics and Energy on Slide 13.

Electronics and Energy organic sales growth was 11% for the fourth quarter and the full year.

The electronics side of the business grew 14% organically as our team continued to increase penetration on many OEM platforms globally, including semiconductor manufacturing, electronic assembly, displays, data centers and automotive electrification.

Our energy-related businesses were up 4% organically with electrical markets, up high single digits, partially offset by a decline in telecom.

We continue to actively manage our Electronics and Energy portfolio in the quarter with the announced divestiture of the communications markets business.

On a geographic basis, organic growth was led by a 15% increase in Asia Pacific while the U.S. was up high single digits and EMEA, up mid-single digits.

Fourth quarter operating income for Electronics and Energy was $334 million with operating margin of 25.2%.

Underlying margins were up 80 basis points year-on-year, adjusting for incremental strategic investments and the gain on sale of noncore intellectual property in Q4 2016.

Please turn to Slide 14.

Consumer continued to deliver improved organic growth in the fourth quarter, up 5.4%, its strongest quarterly organic growth since Q4 2014.

Consumer posted organic growth across all businesses and geographic areas in the fourth quarter.

Our home improvement business grew double digits organically, continuing its track record of strong performance throughout 2017.

This business continues to win in the marketplace with leading brands such as Command, ScotchBlue and Filtrete.

We also saw good growth in consumer health care with notable strength in our Nexcare-branded bandages.

Looking at consumer geographically, growth was led by high single-digit increases in both EMEA and Asia Pacific, while the U.S. and Latin America/Canada increased mid-single digits.

Finally, operating income increased 18% to $269 million with an operating margin of 22.9%.

That wraps up our review of fourth quarter results.

Please turn to Slide 15, and I'll hand it back over to Inge.

Inge?

Thank you, Nick.

The fourth quarter was a strong ending to an equally strong year.

In 2017, we executed the 3M playbook and deliver on each of our 4 long-term financial metrics, which we laid out at our Investor Day in March 2016.

We posted earnings of $9.17 per share, a 12% increase year-on-year.

Organic growth was a robust 5% with positive growth across all business groups and geographic areas.

We posted free cash flow conversion of 100% along with a return on invested capital of 21%.

And for the fourth consecutive year, we expanded margins company wide, coming in at 25% in 2017.

Beyond these financial results, we continued to make good progress on our 3 key levers, which are significant value creators.

The first lever is Portfolio Management.

In October, we finalized the acquisition of Scott Safety as we continue to build strengths on strengths in our personal safety portfolio.

At the same time, we divested 4 businesses that no longer align with our strategic objectives.

Portfolio Management is strengthening our competitiveness and making us even more relevant to our customers and the marketplace.

I will move on to Investing in Innovation, which is the second lever.

3M's primary growth metric is organic local currency sales growth as we invent unique solutions that advance, enhance and improve outcomes for our customers.

That is why research and development is the heartbeat of 3M.

And in 2017, we invested $1.9 billion in R&D or 6% of sales.

And as you can see in our results, these investments are paying off in terms of organic growth and also our premium margins and return on invested capital.

Business Transformation is the third lever, which starts and ends with our customers.

The rollout of the ERP system in West Europe is nearly complete, and we have started initial deployments in the United States.

I'm pleased with how our teams around the world are executing Business Transformation, which is already benefiting our customers and 3M.

In summary, 2017 was a strong year for our enterprise, and we are positioned to build on our momentum and deliver another successful performance in 2018.

Please turn to Slide 16.

Here, you see our updated planning estimates for 2018.

We now anticipate earnings of $10.20 to $10.70 per share, up from the previous range of $9.60 to $10.

Our tax rate is expected to be 20% to 22% versus a prior range of 26% to 27%.

The remainder of our guidance is unchanged.

Organic growth is expected in the range of 3% to 5%, and we continue to anticipate strong performance in terms of both return on invested capital and free cash flow conversion.

Please turn to Slide 17.

For more than a century, the strength of 3M's business model has enabled us to invest in the business while also returning cash to our shareholders.

This has included a strong, steady and rising dividend, which is a hallmark of our enterprise.

Over the last 5 years, we have doubled 3M's per share dividend.

And today, we're announcing a 16% increase in our first quarter dividend for 2018 to $1.36 per share.

This marks 60 consecutive years of dividend increases and reflects confidence in our ability to continue generating premium returns in 2018 and beyond.

With that, I thank you for your attention, and we will now take your questions.

(Operator Instructions) Our first question comes from the line of Joe Ritchie of Goldman Sachs.

Guys, my first question is on Electronics and Energy.

Clearly, you guys are exiting -- especially in the electronics segment, exiting the year very strongly.

You had a couple of companies in the supply chain report yesterday very good results.

Yet the organic growth profile is still expected at 1% to 4% for 2018.

Is that just conservatism, or are there other puts and takes that we need to be aware of for this year?

This is Inge.

Well, first of all, I -- we are very pleased with the momentum we see in that business.

And you see there is multiple things that is moving us forward, and it's all coming back to the way we have repositioned the portfolio in the past.

We are coming off stronger in the end of the year than we went into the year for 2017.

As Nick said in his remarks, we continue to be specced in on multiple platforms, and that should, of course, reflect more growth as we go.

It's too early for us, however, as we're just into the third week of January, to change the guidance that we have for the total enterprise and/or that business.

But I will say that the momentum is there, and we see this as a very positive business for us as we move ahead.

But it's too early for me and for us to change the guidance.

But I wouldn't be overly concerned at all about that business.

Okay, that's helpful, Inge.

Maybe shifting gears a little bit.

Nick, just to focus on capital allocation for a second.

Saw that the gross repurchase number went up.

It seems like you've got a little bit, around $4 billion or so, on your balance sheet.

Do you -- should we be thinking about the pace of capital deployment being a little bit faster now that you have access to your international cash as well?

Yes, Joe, the big, longer-term picture of our capital allocation plan, that's not really changing.

The way we're investing first in the business, supplementing that with acquisitions that we think make sense and fit well with our business, and then also returning cash to shareholders.

That whole capital allocation strategy is unchanged.

Tax reform and the ability to access international cash a little easier does give us added flexibility.

And in the short term, you're seeing a few things change, slightly raising the high end of our CapEx range also on our share buybacks and our 16% dividend increase.

Those are the things in the short term that are immediately changing.

I will also point out that late in the year, we did add an extra $600 million to our U.S. pension immediately following the U.S. signing of this into law.

So in the short term, those are the things we're doing.

But the long term, our overall strategy isn't changing.

Got it.

And if you don't mind me just sneaking in one more.

Just wanted to ask you about FX.

I saw that you guys didn't change your guidance for the year on FX, but the dollar's weakened since you originally gave guidance.

So two-part question, shouldn't you have a better benefit from FX?

Or is your hedging policy not going to allow you to have an increased benefit?

And then, secondly, typically, you're able to pass through greater price when the dollar weakens.

And so if you can comment on that, that would be helpful.

Yes, Joe, to the first point.

Even as recent as last week, when we look at our exchange rates, the -- and the impact on our earnings, $0.10 that we guided in December, that's a very good estimate for the total year.

If that changes, we'll start to modify that.

But I think that's still a very solid number to go with.

To the second part of your question, I think you may have it reversed.

When the dollar strengthens against developing markets in developing market economies, that's where we see some upward price actions that we take.

It's usually not in the reverse.

Our next question comes from the line of Andrew Kaplowitz of Citi.

Inge, can you talk about the 11% growth you saw in Safety and Graphics in Q4?

We obviously remember you saying that Safety and Graphics was the next potential big breakout candidate.

Do you think the big difference now in Safety and Graphics is commodity-based growth within personal safety really starting to come back and that this uplift actually looks sustainable in '18, given the higher commodity prices?

And maybe it's all the work you've done in Portfolio Management.

But how does that make the 4% to 6% organic growth guidance for '18 look?

Could it actually end up being conservative?

Yes.

Well, first of all, your memory is good.

I said that, that is our next breakout business.

And it is the breakout business as we speak, right?

And if you think about the portfolio there, we also, in that business, as we did in EEBG, took some very heavy lifting relative to that portfolio, which took us more than 3 years, almost 4 years to complete, right.

So you think about that portfolio, how we have let some businesses get new owners where we didn't see that we could accelerate and develop those businesses to a level that we in 3M expect us to deliver.

And then we build out, specifically in personal safety, today be a world-class leader in the whole personal safety area.

That is continuing.

That's a fantastic business for us.

Again, we speak when you look upon the portfolio.

There is, in some cases, regulated businesses; and in some cases, it's more consumables that we are capitalized on.

So in my view, the other thing that is working as a positive for us is we have now sort out also our portfolio in traffic safety.

Traffic safety today is back to the core.

It's back to what we know how to do and where our strengths are.

And as you know, we're also linking that business now to -- together with automotive electrification, where we have now automotive, we have EEBG and we have Safety and Graphics working on initiatives around that whole space.

So I will say that, again, it's a little bit early, but the momentum is very good in that business, generally speaking.

And it's not only personal safety.

We saw now for the first time a shift to us in traffic safety that will actually be positive for us as we move ahead.

Again, it's too early.

I would like to make changes, if you can or you're very confident to the growth rate for the year.

But as you know, I'm also a little bit conservative, so I will wait with that till we have at least 1 or 2 quarters behind us so we, with confidence, can give you a different figure.

But again, this is -- it's a fantastic business.

And I'm just proud of what they have done as -- I mean EEBG, in terms of really redirect those businesses to a much more relevant place for us, where we can grow in a very profitable way.

That's helpful, Inge.

And then it looks like your stationery and office business within Consumer grew for the first time in several quarters.

And you mentioned in the presentation sales to e-commerce.

Do you think the channel inventory issues that you've been facing in that segment are now behind you?

Or is it that you're just getting better penetration into those end markets through e-commerce?

Are you able to offset the channel inventory issues?

I think it's both.

We have talked about that business for some quarter in terms of the inventory position for them, right?

And we have, I think in every quarter, have had better sales out than sales in, right?

So they have adjusted their position in that space.

So I think it's both.

You're coming to a point where your comparison is easier.

But also, inventory levels is on a better level.

So we don't see, at this point in time, an issue with inventories in that space for the Consumer business.

Remember, this is in fact the third consecutive quarter that our Consumer Business Group is growing; this time by 5%.

And in fact, they also took price, which is very good.

On a company-wide, as you touch on online sales, for us in the quarter, online sales as an enterprise was up 21%, and for the year was 13%.

So it's moving in the right direction for Consumer business.

So we're very pleased with that.

Our next question comes from the line of Scott Davis of Melius Research.

What -- the Scott assets you bought, it's an interesting business.

And -- but for one reason or another, Tyco was never really able to grow it.

I think it was kind of a 1% grower forever.

And what can you guys do differently with this thing?

Is it more a function of kind of taking that brand more globally?

Is there other things that you can do to get it up to really a 3M average growth-type business?

Yes, I think, first of all, for us, that brings synergy, it brings scale and efficiency into the SCBA priority categories, right?

So I think from that perspective, we can add it in and become much more relevant to the customers in the market.

And so the presence in gas detection is becoming much, much more relevant for us.

And it enhance our ability to deliver on customer solutions.

So if you think about that whole personal safety space, if you like, we have now build that out from -- initially started to be world leader in respiratory products.

Then we purchased some years back, maybe 5 to 8 years back, we purchased Hornell's welding business.

And then here in the later years, we purchased Capital Safety, which is a full protection, and now, Scott Safety, that is building us out in that whole space.

So by definition, we would be able to drive the synergy and scale in that business and be more relevant to big customers around the world, right?

They are looking for as few suppliers as possible.

But as this is a regulated business, they also would like to work with companies that have a high reputation around quality and safety, and that's what we stand for.

So there's a lot of leverage there for us.

And that business is doing very well for us.

We met expectation in the quarter.

The team is very energized, both our core team and the Scott Safety group that came into us.

And we're able now to manufacture and innovate safe products based on our technologies.

So we can add more on the technology side, and I think we will be very effective in the commercialization part of that business.

Yes, that's helpful.

And obviously, it's a great brand.

And anything called Scott has to be pretty good, right?

Kidding aside, I'm going to ask you a question that's kind of a little bit off the beaten path here.

And I haven't asked this to any companies yet.

I mean, this tax act thing is really interesting.

And I haven't heard anybody comment whether this is something that can help you cut your tax, your corporate G&A tax cost and supply chain.

And what I mean by that is I know that some companies didn't necessarily have the most optimized supply chain setup, but intercompany, things moving around essentially just to avoid taxes.

And I'm not accusing you guys of avoiding taxes, just saying that some structures that were created maybe that weren't efficient over time.

And is there anything there as far as actual costs that come down from this tax act?

Is it just the fact that you're just paying lower taxes?

Or is this -- is there something else there, too?

Yes, Scott, there's a couple of things I'll go into on this.

One is we've been on a journey for several years to be really optimizing our supply chain and how to operate that as efficiently and effectively as possible.

And part of that has been our Centers of Expertise that we've set up in different parts of the world to drive operationally efficiency.

That also has some tax benefits to us.

And the strategies that we've put in place to optimize our supply chain that were relevant before, continue to be relevant for us in driving benefits for us going forward.

In fact, we're going to continue that type of effort and expand that.

Underlying the impact of the tax reform, there are different pieces of that, some impacting different companies differently.

Obviously, just lowering the tax rates to -- in the U.S. to 21% is a benefit to a company like 3M.

But in addition, the U.S. tax code, the new U.S. tax law does give some favorable handling to companies that are net exporters out of the U.S. And part of the benefit that you're seeing in 3M as we guide 20% to 22% is that we are net exporter of approximately $3.5 billion out of the U.S. of what we manufacture.

That's also part of that benefit that you're seeing for our company.

Our next question comes from the line of John Inch of Deutsche Bank.

Nick, why did U.S. pricing -- I apologize if you've said this before.

It looks like it got worse sequentially, but you had very easy comparisons, right, from last year?

Price in the U.S. went from minus 2 to minus 7. But your price in the U.S. goes from minus 2 to minus 3. What -- 0.3, obviously.

What's going on?

Yes, John, throughout all of 2017 -- I'll frame it just a little bit longer, where if I go back to '15 and '16, less growth in the U.S. Part of our focus in 2017 is ensuring that our U.S. operations are growing and productive, and that's what we've seen.

So for instance, in the third quarter -- or in the fourth quarter, growing 3% organically.

Now throughout the 4 quarters of 2017 in our U.S., we've been hovering around 20 or 30 basis points of price decline.

The single biggest thing driving that, John, has not changed throughout the entire year.

And that's that -- as we now moving to growth in the U.S., we do have rebate incentive plans with our most loyal customers and our best-performing customers that's been part of our business model.

And part of that model is they get some price break via rebates.

And that's, by far, the single biggest thing impacting price that we're posting in the U.S. in 2017, really unchanged from the other 3 quarters of 2017.

Nick, where is that showing up because -- within your segments?

Because U.S. Industrial quarter was only up only 1% this quarter, and it was up 5% last quarter.

But -- so I'm assuming that's not an industrially weighted rebate program.

Is that kind on the Consumer side?

Is that why Consumer did a little bit better or...

There are some aspects -- John, there are some aspects of that in all of our businesses.

But the U.S. and Safety and Graphics, I would say, are more heavily weighted to having those types of pricing plans.

Okay.

So was there something about U.S. Industrial as to why it seemed like its core growth slowed, considering we're sort of living in what appears to be accelerating industrial economy, certainly in the fourth quarter?

Was there timing issues or mix issues?

Or what was going on there?

Yes, if you're looking at our growth in the U.S. in Industrial, the one big thing I'll point out is fourth quarter of last year, of 2016, we had approximately a $40 million defense contract that we won and sold that quarter.

That is -- that's the single biggest thing.

If we pull that out, we have had very nice accelerating growth in our Industrial business.

Kind of at what level, though?

So if you were to apples-to-apples, ex out that defense business where is the -- I'm just trying to get a sense of how your U.S. business is cadencing.

Is it kind of low single digit, mid-single digit?

What's the trend?

Pulling that out, we would have been in the mid-single-digit range, John.

Okay.

So that makes sense.

And then just back to the pricing, lastly.

It's sort of obvious that there's inflation in the economy.

I mean, how far the inflation -- I mean, U.S. economy, how far it carries is another matter.

But maybe, Inge, what are your thoughts -- or Nick, toward being able to recapture your own input cost pressures, whether they be health care, rising wage pressures, other sort of things, and being able to kind of pass that through?

And you sort of juxtapose that against what you've just described as a price-down program to try and stimulate some U.S. volume.

So I guess, is rising U.S. inflation possibly a bit of a headwind incrementally for margins?

Or how can you manage it?

John, over a period of time, we've been able to get 30 to 50 basis points of price growth.

Now in 2017, we were approximately flat on price growth.

We're highly confident in 2018 that we'll be back into the range of 30 to 50 basis points of price growth over -- throughout 2018.

John, let me also correct you on one thing.

You say the price-down initiative.

It's not a price-down initiative.

It -- as what Nick said, what is happening, there's an increase in the incentive program rebates to the loyal customers and channel partners.

That's what it is.

So it doesn't start with a price-down initiative.

And I'd like to correct you on that.

It's not a price down.

So what you see on that line, what Nick clearly said to you and to us, is to say it's about the incentive programs.

And we said that now for 2 quarters in a row.

Yes, I'm sorry.

So volume rebates, the more you buy the better price.

Exactly, yes.

I thought you said price down, and that's not correct.

No, I think I misspoke.

I know -- I do know what you mean.

I didn't mean to imply you're cutting price.

You're giving incentives for people to buy more.

Yes, exactly.

Yes.

Yes, so my last question then is, the 30 to 50, given the pressures in the economy, is that going to be enough, Nick?

Like I don't have visibility into how much emerging inflation in the United States is actually going to potentially pressure your operations.

I mean, historically, you've got very strong margins.

So I don't expect substantial margin pressure.

I'm just want to, Nick, understand how you're thinking about managing this.

Yes, in terms of how we're thinking about it and managing, 30 to 50, I feel highly confident on.

Directionally, I feel there's more upside on that than downside, partially for what exactly -- what you're talking about, John, that inflationary environment and increasing raw material prices, if there's a bias towards that, it towards the high end or above, and not to the low end or below.

Our next question comes from the line of Deane Dray of RBC Capital Markets.

A couple of questions on the slide deck, Page 8 on the GAAP adjustments.

And for Nick, just starting on the tax rate, the benefit this quarter, you called out Supply Chain Center of Excellence (sic) [Supply Chain Center of Expertise] and geographic profit mix.

That $0.13, that's not related to tax reform, is that correct?

And is this more -- is this is a sustainable benefit?

Or how would you characterize it?

Deane, there's -- that -- you are, first of all, correct.

That has nothing to do with tax reform.

That, we've isolated separately.

And the 3 things I talked about, let me give you a little more depth of that, of what's driving that.

Year-on-year, we are seeing our Centers of Expertise and their efficiency and the profitability in those grow.

And that's certainly a part of our strategy and sustainable that we expect and also captured in our 20% to 22% guidance for 2018.

The geographic profit mix, which is the smallest of the 3, is where do we actually earn that profit?

How much is being earned in our highest tax jurisdictions versus the lowest?

And that will vary from year to year.

And then the last is stock-based compensation.

And we get a tax benefit as we have more of our employees exercising stock options.

That one will be the most variable.

And as our stock price has gone up, and we have employees exercising stock options, we're getting a larger benefit from that than we had a year ago.

Great.

And then just as a follow-up.

We're going through the segment color.

Auto came up a couple of different times, once in the electronics side on auto electrification, and then it's always been in Industrial.

I just would like to hear from Inge on how you coordinate when a business or an end market crosses segments, the go-to-market strategy.

And are there additional kind of coordination efforts that need to make sure it goes smoothly?

Yes, there is.

So first of all, we've appointed a Vice President to lead a portion inside of automotive that we call automotive electrification.

And it's he that is coordinating the activities going on in the company relative to the phase into the automotive business.

We also monitor and manage the result out of that enterprise.

So we look upon what we have called and still call automotive business, OEM business.

And then we have a line now that we call automotive electrification and the performance of that.

And we see that we are improving our performance in automotive electrification.

So that piece of the business, we had 15% growth in Q4.

And in total of automotive, we have done very, very well as well.

So that piece is growing over time.

And as we have said earlier, that's a $6 billion addressable market opportunity, growing maybe 6% to 8%.

And so there's big opportunity for us when we add those 2 together.

But it's working very well for us.

And then I said earlier, and I think in addition for us from a competitive perspective, is that we're both very engaged with the automotive OEMs customer, but also with the highway transportation authorities across the world in order to build out something that I think can be remarkable as you look down the road, so to speak, relative to that opportunity for us.

Our next question comes from the line of Andrew Obin of Bank of America Merrill Lynch.

I just wanted to clarify on John's question regarding rebates in North America.

Am I correct in thinking that you sort of have a growth rate in view?

And then you said rebates relative to this growth rate, so if people exceed them, they get better rebates.

So if you set the growth rate higher next year, rebates would kick in at a higher growth rate.

Is that a fair way of looking at it?

Andrew, I'd say that's a very fair way of looking at it.

We started with a growth expectation.

And 2017 is a year where many of our customers exceeded that growth expectation, getting higher rebates.

That becomes part of the base as we reset those targets for the coming year.

And in comparison in '15 and '16, we had below-average rebate payment.

So we're seeing it, from '16 to '17, swing from below to above in '17.

I think '18 will be more of a normalized year.

Terrific.

And just to go back on automotive electrification.

I think Inge was quoted in The Wall Street Journal before the new year sort of saying that you guys could have billions of opportunity from EV.

And I just can't resist that I ask -- but to ask.

At the Analyst Day, I think you sort of said it was a great opportunity.

Inge was quoted saying it was billions.

If you could just sort of talk a little bit about sort of underlying assumptions about what the market looks like by the time you have those billions from EV.

And is "billions" $2 billion or $10 billion?

Anything will be appreciated.

Yes.

Well, as I said, the addressable market is $6 billion.

And if you think about the whole area for us, where we can make a difference in that whole industry and then put on the electrification to the cars.

So we have thermal management.

We have lightweighting.

We have sensors.

We have displays.

We have special adhesive and vertical signings and pavement marking.

So that's -- think about that in the whole area.

If you look upon automotive electrification at this point in time, for us that's $200 million in size and growing very fast.

So the first billion should be in reach rather sooner than later, but it will take a couple of years.

But for me and the team here, this is a unique opportunity for 3M to capitalize on our technologies and the connection we have in the industry.

Because the industry here, if you think about it, if you think very narrow, then you think automotive and automotive electrification.

This is bigger than that.

It's coming into the whole highway transportation area.

And our thought is relative to regulations around that.

And we have been in traffic safety for over 80 years.

We have the connection.

We work with them daily.

So when you put this all together, we will be in a very, very good position to move forward.

So we are very, very encouraged with what we see and the momentum.

And already, early spec ins on the automotive, on platforms that will not come immediately, but it's coming maybe 18 to 24 months out that those platforms go into production.

And when you say $6 billion in market opportunity, should we expect 3M to capture a 3M-like market share within that market?

Or are there...

Why not?

Why not?

We don't commit in order to go in and do something less than that.

So that is what you should expect, and that's what we expect here.

We expect that from ourselves, right?

So that's a -- when we commit to do it, we will do it the right way, and we will be focused on it.

So we will take market share as we move ahead.

And I believe when we look upon this 3 to 5 years from now, I think we will -- if we'd done it right, we will all say that was a masterstroke.

Our next question comes from the line of Steve Tusa of JPMorgan.

Just on kind of next year, now that you have a bit of more of a turn of the cards relative to December, how do you see kind of seasonality playing out?

Anything in the comparisons here in electronics or anything else that we should expect when thinking about quarterly growth progression as we move through the year?

Or is it pretty steady around the 3 to 5?

Steve, our view is it's pretty steady throughout the year.

We're not seeing any big outliers one direction or the other.

It's as pretty as close to the down the middle of the road as we could be.

Okay.

And then the CapEx, is that minor step-up, is that sustainable longer term?

Or is that just, hey, we're going to invest a little bit here with the new tax regime, and it'll begin to migrate back down over the long term?

Our longer-term guidance, Steve, of 4.5% to 5%, I still see that as the right long-term view.

But in light of what we see in the economy, in light of tax reform, in light of investment opportunities around disruptive technologies that can help us make us more efficient, all that in combination is causing us to up our planned spend slightly this year.

But 4.5% to 5% is still the right range in the longer term.

Okay.

And then one more, just when you look at the earnings bridge that you guys gave in December, any tweaks to that?

I guess strategic investments this year came in a little bit lower, but there were some other moving parts, like the legal settlement, et cetera.

So anything in that bridge that moves around that you wanted to highlight, earnings bridge?

No, it is January, so other than the update in tax, we're not changing anything.

As things start to play out after a quarter or 2, there might be some tweaks.

Like we're clearly watching FX and what that's doing.

Raw materials, that continues to be a moving target for us.

And then share repurchase is another one that I say we continue to watch of what is its impact going to be on EPS.

Okay.

And then sorry, just one last clean-up.

The gain in the safety business, that runs just through profit, not through revenue, correct, just to be clear, the gain?

Correct.

Correct, that was all through operating income.

No revenue.

Our next question comes from the line of Steven Winoker of UBS.

Nice to see the strength.

Inge, just a question at a higher level.

Now that we're seeing Scott Safety be integrated, capital, the last big one before that I guess was Polypore, something like $5.5 billion spent on these transactions and your results so far, even if there was criticism about initial price paid on The Street, results seem to be pretty impressive as far as growth, et cetera.

And I assume you're heading towards your return on capital target.

Are you thinking again in terms of the profile for 3M, the ability to kind of find and digest M&A becoming an even more accelerated part of the growth story kind of nearer term?

Or is it still just steady as she goes?

Well, as you know, our primary objective and strategy is organic local currency growth, right.

And that's also why we invest in research and development with around 6%, right.

And you saw last year, that's like $1.9 billion.

And that is the heartbeat of 3M, right.

That is what is providing us with premium solutions for our customers and premium returns for our shareholders.

I think that's an important element.

Now we have shifted activities in the portfolio in order to build out relevance with our customers and markets.

And we will continue to do that to complement as we move ahead in areas that we are interested to do.

And our pipeline is good.

We have many alternative to look upon.

And I think as we go, you will see probably the same steady path as we had in the past.

So I don't think there's a change on that as we move ahead, as long as we get the growth on the investment we do in research and development.

And we do, as we speak, right.

And we have also, as you see, stepped up the growth where we have complemented with good, solid acquisitions that we've integrated to the company.

And I don't know if you recognize that, but we have also -- we buy world-class asset when we buy, right.

We don't buy something that we need to fix and try to move in.

And the reason for that is there should be good processes in place from the company we buy.

There should be -- there are world-class management that can come into 3M.

And with the 4 fundamental strengths we have, we can create value as fast as possible for our shareholders.

Okay, great.

That's helpful.

And Nick, maybe you could put a finer point on the commodity side.

I mean, I know in a lot of the factories on adhesives and others, you guys appear certainly more vertically integrated than a lot of other multi-industrial models for a lot of reason.

But maybe just refresh us in terms of what the commodity exposure is these days, and how you're thinking about just that side of the framework.

Yes.

And Steve, in total, we spend between $7.5 billion and $8 billion a year on raw materials, commodities and some purchased finished goods that go into our cost of goods sold.

So it's approaching half of our total of cost of goods sold.

And it is spread out over a lot of different commodity bases.

But to put a bit of a finer point, and this may or may not be what you're asking, we are seeing underlying commodity prices that we're paying.

We're seeing them go up.

And yet, we are still reporting, all in, that we're getting some of the -- a benefit.

So in -- fourth quarter was a bit of a transition quarter for us, that we are seeing slightly higher market prices we're paying for our commodities, which currently are being more than offset by our own sourcing initiatives to bring down the cost of the materials.

And that can be revamping our products to use a lower raw material, can be changing a source of supply, can be some negotiations that we go through.

That's still resulting in a net benefit for us year-on-year.

But the underlying commodity prices, we are now seeing a year-on-year increase in those prices.

And can you size that at all, the increase itself?

1% or slightly less than 1%.

It's still a pretty muted number for us.

Okay.

And if you were advising investors to look at a few specific commodities for that 1%, which ones should we look at?

There's about 1/8 of our entire commodity base that is petroleum based.

And when we first set our guidance, we had an expectation of oil prices in the $50 to $60 a barrel.

That's gone up.

So there's some sensitivity there for oil derivative products that go into some of our tapes and adhesives and films.

Our next question comes from the line of Rob McCarthy of Stifel, Nicolaus & Company.

I know we're getting close to the time, so I'll just ask a couple of clean-ups.

On Steve's question about commodities, in particular, oil, I mean, in the past, you have given a little bit more granular sensitivity, particularly in the retrenchment of the curve in 2014 through mid-'16 time frame.

Could you just kind of level set expectations on the upside with respect to that, given the fact that oil started to move up pretty materially here?

And we could see even a potential oil shock, if there's a geopolitical hiccup of some sort?

And then just, if you could talk about maybe the embedded energy exposure of the portfolio overall, because you probably learned a lot from the downturn about businesses that were tied into energy and affected the underlying organic growth?

And how do you think about that sensitivity if we start to move our way up with the whole petrochem complex?

Yes, Rob, I think there's a couple of different dimensions.

I'll talk to the raw materials side and then I'll talk to the market dimension side.

What I've said in the past is a $10 move in oil manifests for us in about a $0.02 to $0.03 annual raw material headwind for us, or $0.02 to $0.03, whatever direction oil is moving.

If it's going up, it's a $0.02 to $0.03 headwind for us.

And that comes from things like some of the resins we buy that have a crude oil derivative that goes into that.

So that's on the commodity side.

But I think you also might be talking about the market itself.

So when we saw oil prices drop late '14 into '15, our overall market exposure, we still see about 3% of our total revenue that's tied to the oil and gas industry.

So if there is an -- as we've seen that stabilize, that's been a help to us.

And if there's an uptick, that's certainly a positive for us on the revenue perspective.

The last question from my end is, in the context of these continued progress on these ERP investments, could you just kind of level set what your expectations for ask to be able to longer term for SKU rationalization of the company and what that can mean from benefits, not only to operating margin, but through simplification and then working capital benefits just because you're carrying probably less inventory and less complex inventory?

Could you just talk about that?

Yes.

And Rob, what we've laid out is that by 2020, we expect between $500 million and $700 million of operating income benefit through what we're doing through our Business Transformation as well as $0.5 billion of working capital coming out of our supply chain as a result of that.

That remains unchanged.

And in December, I think if you were listening to what we're saying, we also are starting to see benefits beyond that.

That it's not just a plateau of that, and it's a steady state.

We see that continuing to grow.

Now topics like SKU rationalization, that is one component.

We don't have it carved out of, this is exactly what SKU rationalization is of that total piece.

But what we do see is looking at our portfolio, the SKUs we have, which ones make sense, which ones don't, that is part of what we're doing as we transform our business and our business processes.

So it's a component.

What I can't tell you is how much of a component that is of that total $500 million to $700 million that we're projecting.

Our next question comes from the line of Jeff Sprague of Vertical Research Partners.

Just a couple quick ones for me, 2 perhaps, although maybe the first one's a little arcane.

Nick, I've seen a few multinationals unable to bring down tax rates as much as maybe all of us would have thought on some of the simple spreadsheet math.

Obviously, that's not the case here for you.

Some companies mentioning this so-called GILTI tax, kind of this minimum tax issue.

Does that not apply to you?

Does the export situation negate that?

Can you give us, if it's possible to give us a nutshell answer to that?

The acronym GILTI and the acronym BEAT, those components that I know are negatively impacting some other companies, are having a negligible or nonexistent impact on 3M.

Okay.

And then I was also just wondering, back to the discussion around equity compensation on tax rate.

Any change on how we should think about the flip side of that equation?

In other words, the difference between gross repo and net repo as you deal with the dilution on the shareholder -- I'm sorry, on the employee side?

In the past, we've said that we need about $1 billion of share gross -- of share repurchases just to offset that dilution.

That's come down slightly.

I believe it's, right now, around $800 million.

That's not changing materially.

And we think in the $700 million to $800 million is a more longer-term, steady state of what we need just to offset dilution.

And then just finally, I heard what you said on the bridge.

One, that just jumps out to me a little bit though is pension if I think about all those 2018 bridge items with the contribution here, and I think a decent bump on the long end.

Is that $0.10 of pension headwind fully baked in the cake?

Or is that possibly moving around a little bit?

Jeff, that is the final number.

So as the pension contribution helped it, the lowering of interest rates and, therefore, our discount rate in the last few weeks of December more or less offset that.

So it's -- call those a push, and we're right -- still right at the $0.10 that we said.

Our next question comes from the line of Laurence Alexander from Jefferies & Company.

This is Dan Rizzo on for Laurence.

How should we think about incremental margins over the year?

That is, should wage and input cost pressure increase in the second half?

In the last -- in the second half of 2018?

Yes.

No, as far as wages, what we're expecting for wage cost increases in 2018, it remains very similar to what we've seen in the last couple of years.

Really no change on our ability to generate incremental leverage.

So we are not seeing a shift up or down in the pace of wage, of wage increases that we've seen historically.

And second question, how long can you sustain the current pace of growth in Asia before you need to accelerate investment in new capacity?

So we have been consistently investing in our capacity in Asia, working to increase our regional self-sufficiency as more and more that we are selling in Asia Pacific is being manufactured in Asia Pacific.

That -- but right now, we still have capacity, and we will continue to sustain it.

I don't see a dramatic change in direction of the amount of CapEx going in.

It's been at about the right pace.

And we think it's a pretty sustainable pace we're at.

So I don't see a big direction change on that.

That concludes the question-and-answer portion of our conference call.

I will now turn the call back over to Inge Thulin for some closing comments.

Thank you.

To wrap up, the fourth quarter capped a strong year for us here at 3M.

And I would like to take this opportunity to thank our 3M team for their contributions to a successful 2017 and for moving us closer to our vision of advancing every company, enhancing every home and improving every life.

We are positioned well going into 2018, and we will deliver another successful year.

Thank you for joining us this morning, and have a great day.

Ladies and gentlemen, that does conclude the conference call for today.

We thank you for your participation and ask that you please disconnect your lines.