3M (MMM) 2002 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the 3M third quarter 2002 earnings conference call.

During the presentation, all participants will be in a listen-only mode.

Afterwards, you'll be invited to participate in the question and answer session.

At that time, if you have a question, simply press star followed by the number 1 on your telephone keypad and questions will be taken in the order they are received.

If you would like to withdraw your question, press star followed by the number 2.

As a remind er, this conference is being recorded Monday, October 21st, 2002.

Your speaker for today is Pat Campbell, Chief Financial Officer for 3M.

We'd like to now turn the call over to 3M.

Thank you and good morning.

I'm Matt Ginter, Director of Investor Relations for 3M.

I have a few brief comments for today's call.

Today's presentation will follow power point slides.

If you received our press release via e-mail you also received an attachment containing the schedules.

You can you also access them on line on our investor relations web site.

During today's call we'll make predictive statements that reflect our current views and estimates about our future performance and financial results.

These statements are based on certain assumptions and expectations of future events that are subject to risks and uncertainties.

The MD&A section of our most recent form 10-Q lists some of the most important risk factors that could cause actual results to differ from our predictions.

Now I'd like to turn the program over to Pat Campbell, 3M's chief financial officer.

Pat.

Good morning, and thanks Matt.

And welcome to our third quarter business review.

Yes, it is snowing in St. Paul.

We are pleased to report another solid earnings performance, if you go to slide number two, for the third quarter.

Reported earnings were $1.38 per share and we had no nonrecurring items this quarter.

Compared to the third quarter last year, this is up 39.4 percent on a reported basis, and up 25.5 percent excluding nonrecurring items in 2001.

Sales totaled $4.1 billion, up 4.6 percent, compared to a year ago.

Driven by continued strong sales growth in Asia Pacific.

Third quarter operating margins improved to 20.6 percent, representing another recent high.

All business segments posted operating earnings growth in excess of sales growth.

3M employees continue to embrace and drive all five of our corporate initiatives: Six Sigma, global sourcing effectiveness, indirect cost reduction, e-productivity and 3M acceleration.

These initiatives are improving both our operating income and cash flow and gives us the flexibility to invest in future growth opportunities or to meet other business needs.

The Six Sigma initiative momentum continues to pick up.

As of quarter end, we have over 3,000 active six sigma projects and have closed over 700.

Both of these metrics are up substantially from second quarter levels.

Six Sigma is also a big reason why we're on track to hit our net working capital firm's target.

Last month we announced we were strategically aligning our organization for faster growth by forming seven businesses, mostly focused on markets and customers.

These structural changes, which were driven by our strategic planning process, represents an important step towards better accessing bigger and faster growing markets.

On slide three we recap our third quarter performance.

As I mentioned worldwide sales in dollar terms increased 4.6 percent, versus last year's third quarter.

However, sales decreased by 40 basis points sequentially.

Core volumes in the third quarter increased 3.4 percent, and acquisitions added 40 basis points.

Selling prices were up slightly, while year-on-year currency translation boost the sales results by .7 percent.

Third quarter earnings per share, excluding nonrecurring items, increased 25.5 percent year on year, and 1.5 percent sequentially.

Required changes in goodwill accounting boosted earnings by three cents per share in the quarter.

Please turn to slide number four where we will Sales on a geographic basis.

In the United States, core volumes increased 30 basis points.

Led by positive growth in health care, consumer and office, and TG&S.

Acquisitions added 40 basis points in sales in the U.S. and selling prices were down 60 basis points compared to a year ago.

International sales increased 8.8 percent in U.S. dollar terms in the third quarter, compared to last year.

Core volumes increased 6.3 percent, led by a 19.3 percent increase in Asia Pacific.

Volumes improved 10.4 percent in Japan, and 27.9 percent in the rest of the region.

Sales in Asia Pacific were flat sequentially.

Latin America volumes declined 25 (?) (ph) percent impacted by the current economic conditions in the region.

Volumes declined 2.5 percent in Europe, primarily due to continued weakness in the telecom industry.

Acquisitions added 30 basis points of growth in international.

International selling prices improved .9 percent, primarily due to currency related price increases in Latin America.

Currency impacts boosted international sales by 1.3 points in the third quarter.

Driven by positive 7.8 percent in Europe and 2.6 percent in Asia Pacific.

Currency translation negatively impacted Latin America by 22 percent.

On slide five we detailed the P&L.

Starting with a comparison versus the third quarter of last year.

The numbers all discuss include nonrecuring items recorded in the third quarter of 2001.

Gross margins were 49 percent, which is 230 basis points higher than last year's third quarter.

Six sigma continues to drive costs out of our factories by optimizing manufacturing, deferring new capital investments and reducing variability in our business processes.

Our global sourcing, E-productivity and indirect cost initiatives also boosted our factory performance. [Inaudible] Direct material costs declined by about 2.5 percent.

Gross margins also benefited from our restructuring actions as well as positive sales mix due to strong sales growth in the Asia Pacific area.

SG&A expense was 22 percent of sales - a 90 basis point improvement versus last year's third quarter.

Lower head count levels, along with our continued efforts to reduce overall indirect costs, helped reduce SG&A spending.

Overall, operating income was up 23.7 percent, compared to a year ago, and margins were 20.6 percent, up 3.2 points year-on-year.

Third quarter net interest expense was 10 million, which is 11 million lower than last year.

Lower overall borrowings, along with declining rates on floating rate debt drove the reduction.

We again posted a 32.5 percent tax rate, which is 40 basis points lower than last year's third quarter.

We expect to maintain this rate for the fourth quarter.

Quarterly net income was 545 million, a 24.9 percent increase year on year.

Earnings per share equaled $1.38, which was an increase of 25.5 percent.

Average diluted shares outstanding declined from 398.4 million last year to 395 million this year, a reduction of about one percent.

Slide number six details our quarterly results on a sequential basis.

These numbers exclude last quarter's nonrecurring items.

Sales were close to flat sequentially, with good progress in all other metrics.

Operating income improved by 2.1 percent, versus the second quarter.

Led by a double digit increase in consumer office and a positive trend in health care and industrial.

Overall, operating margins improved 60 basis points from second quarter levels.

We achieved this result despite a sequential increase of $12 million in advertising and merchandising expense.

We expect fourth quarter advertising and merchandising to be higher than the third quarter by about 15 million, as we're supporting the holiday sales season and aggressively pursuing additional market opportunities during these challenging economic times.

Both net income and earnings per share increased over one percent on a sequential basis.

Slide number seven details our performance by business segment, again, excluding nonrecurring items incurred last year.

Transportation, graphics and safety volumes increased 9.8 percent.

Growth was broad based, as all businesses grew over last year, led by strong sales in the optical systems and automotive OEM products.

Operating leverage remained strong as profits improved by almost 40 percent to 237 million.

Volumes in health care increased nine percent, led by strong performances in pharmaceutical, dental and medical products.

All businesses experienced positive growth.

Operating income improved 18.5 percent, to 224 million.

In industrial markets, volumes improved 2.9 percent.

Our automotive after market, engineered adhesives and industrial tape businesses all grew compared to last year.

Operating profit increased 18.8 percent versus last year to 150 million dollars.

Primarily driven by higher sales in ongoing process efficiency.

Consumer and office volumes increased 80 basis points compared to last year.

Strong growth in the home improvement channel was mitigated by ongoing weaknesses in certain segments of the office supply market.

Operating income increased 7.5 percent to $143 million.

In electro and communications, volumes declined 5 .8 percent.

Our telecom business was down over 33 percent compared to last year, due to the continued global weakness in the telecom industry.

This is partially offset by good growth in our micro interconnect systems and electrical products business.

Operating income increased 58 percent to $70 million reflecting good progress.

However, we have more work to do in improving our telecom business.

As our end markets remain very weak.

And our specialty materials segment volumes declined 4.7 percent year on year.

Primarily impacted by the product phase out we discussed with you in the past.

We have plans to introduce several new Scotch Guard brand of products over the next couple of months to regain this business.

Operating profits and specialty materials improved about 12.3 percent to 37 million, despite this volume reduction.

If you'd now turn to slide eight I'll cover a few balance sheets and cash flow highlights.

Networking capital terms were 4.5, up point eight terms versus one year ago, and point three terms sequentially.

Our goal remains a minimum of six turns by year-end 2004, which would be a 50 percent improvement from the year-end 2001.

Inventory and accounts receivable remain two of our most significant six sigma opportunities.

We have approximately 700 six sigma projects focused on permanently eliminating unneeded inventory and reducing accounts receivable.

Inventories declined by $297 million, versus the third quarter of last year.

A decrease of 13 percent.

Inventories were down 53 million sequentially.

Accounts receivable declined 266 million or 9.3 percent versus last year's third quarter.

And decreased 210 million versus last quarter.

Capital expenditures were $167 million in the third quarter.

Again, six sigma is driving us to challenge traditional thinking, retest our definitions of yield potential, waste reduction and capital optimization, and ultimately deferring capital investment until business conditions necessitate new investment.

Capital spending for total of 2002 will now be around $800 million, down from our previous estimate of $900 million.

Third quarter free cash flow was $230 million dollars.

However, this was net of the $789 million dollar pension fund contribution that we mentioned in the press release.

Strong earnings, lower capital expenditures and improved working capital turns drove higher cash flow.

Free cash flow in the quarter did benefit from some differences in the timing of certain tax payments.

We generated sufficient cash flow to pay $242 million in dividends to our shareholders in the quarter and we also repurchased 108 million dollars of our own stock.

Overall debt levels increased by $295 million, versus last quarter, but there was little change in our liquidity position and our debt to capital was 31 percent.

Please turn to page nine where we will discuss our pension story.

We have embarked on a multi-year strategy to fully fund the pension liability in the next three to five years as we could not fully fund on a tax deductible basis during 2002.

The first step, our third quarter 2002 contribution was $789 million dollars.

Our pension [inaudible] Date is September 30th.

So the size of this contribution was heavily impacted by the continued market weakness.

Future contributions will depend upon market conditions.

However, in looking at a number of different scenarios, we are confident that our strong businesses, cash flow and balance sheet will allow us to easily support future pension funding needs without compromising our growth opportunities.

In accordance with pension accounting FAS 87 we will book a charge to equity in the amount of approximately one billion dollars in the fourth quarter.

This amount will not impact the P&L for our cash flow.

Slide ten describes our recent experience in the area of respiratory protection litigation.

We're very encouraged about our progress in the third quarter.

We opportunistically resolved a large number of claims as evidenced by the reduction of over 30,000 outstanding claimants.

Doing so entailed the acceleration of anticipated claim settlements.

However, this resulted in a higher cost than originally forecasted.

But in the end we believe that this was a sound investment as we eliminated the risk posed by these claims.

We continue to have confidence in our strategy for managing claims involving our respirators.

Looking ahead, we believe it is prudent to increase our reserves to cover the cost of current claims, as well as to maintain our current legal strategy.

Our view of the settlement amount per claim has not changed significantly.

And as a result of our efforts we now anticipate a slight reduction in the number of future claimants.

In the third quarter, we added $67 million to our liability, in light of our decision to up front the resolution of these claims and to cover additional legal expense.

We remain comfortable with the strength of our substantial product liability insurance coverage.

Therefore, we increase our core responding receivable by a comparable amount.

Please turn to slide 11 where we will discuss our near term earnings outlook.

We see no material change in the economic outlook.

And consequently we remain cautious about business conditions in the fourth quarter and also for 2003.

Our operating plans are focused on delivering solid results in what appears to be a continued difficult economic environment.

Factoring in higher amortizing costs, anticipated impacts of the west coast dock situation and traditional Q4 seasonality effects which impact both factory productivity and sales volumes, we expect fourth quarter earnings to be in the range of $1.25 to $1.30 per share.

This implies bottom line growth compared to a year ago of 28 to 33 percent, excluding nonrecurring items in last year's fourth quarter.

It also implies a range for the total year, 2002 of $5.22 to $5.27 excluding nonrecurring items, which is at the high end of our previously stated guidance.

Volumes are expected to grow four to six percent in the fourth quarter, down slightly from Q3.

Which implies full year volume growth of around one percent.

Please now turn to our final slide, which is number 12.

On September 27th, we announced a realignment of our businesses that would make us even more market and customer focused.

As I mentioned earlier, this was driven by our strategic planning process and is an important step in shaping the organization to fully realize on growth opportunities and to better leverage the 3M innovation engine in higher growth markets.

In addition, the emergence of new key leaders affirms the vitality of our leadership process.

While the executive vice president appointments and resulting realignment were effective October 1st, there will be a three month transition period with the segment reporting for the new organization effective January 1st, 2003.

This is a very exciting time for 3M as we continue our evolution into a higher performing and a higher growth company.

And our prospects are better than ever.

Starting with a solid foundation and a strong balance sheet, we will use our tremendous technological platforms and diverse portfolio and our global presence to differentiate ourselves from the competition.

Regardless of any near term economic trends, we are determined to continue to deliver solid and consistent earnings growth while remaining focused on cash flow.

This concludes the formal part of today's call.

With me this morning are Ron Nelson, controller and Jan Yeomans our treasurer who will help to address any questions you have.

So let's begin with the questions.

At this time I would like to remind everyone in order to ask a question press star followed by the number 1 on your telephone keypad.

If you would like to withdraw your question press star followed by the number 2.

If you are on a speaker phone, please pick up your handset before entering your request.

And please limit your participation to one question and one follow-up.

We'll pause for just a moment to compile the Q&A roster.

Your first question comes from Robert Chapman from Chapman capital.

Thank you for the asbestos update can you tell us about what you're doing and what the $150 million judgement that came out last year.

Is that on appeal or what are you doing about that?

Does that still stand as the largest asbestos judgment against the public company yet?

This is Jan Yeomans speaking.

You're regular referring to the one in Mississippi, I assume.

Yes ATS (ph).

That one is on appeal right now.

I don't know that we have anything new to report.

As you know, the trial court denied the company's post-trial motions in a decision in August and we have decided to appeal to the Mississippi Supreme Court.

And I don't believe that there's any new subsequent to that development.

Thank you.

Best of luck.

You're welcome.

Your next question comes from John Roberts of Buckingham Research.

Good morning, Pat.

Mr. McNerny (ph) reported on the dock strike in California.

I assume it's the consumer and office segment is the area he was most interested in.

Could you comment whether or not that's going to affect some of the seasonal fourth quarter sales you might have or do you have enough domestic production to maybe pick up share off some import products you might compete against in that segment?

John, it's not limited to consumer and office.

It's both import and export of our products.

So it affects importation of products but also heavily affects the exportation of a lot of material that we ship to places like Asia Pacific, which the last two quarters has been very good growth pieces of our business.

So it's a combination of all those that is the impact.

Also, of course you have to deal with what is the impact on our ultimate, the people that we sell product to as well, as they kind of work their way through the dock strike.

But it was not limited to consumer and office.

Okay.

And then the difference between the 789 paid into the pension plan and the billion dollars charge that you're going to take according to FAS 87, is the difference due to the tax effect or is the difference the present value of expected future after tax contributions?

It's a little more complicated than that, John.

It actually has to do with the combination of what we have on the books relative to our prepaid assets, plus our un-funded liability position from an ABO standpoint.

Then you tax effect that.

That gets you to approximately the billion dollars.

Thank you.

Your next question comes from Don MacDougall of JP Morgan.

Following on the pension question John asked.

Could you give us what the actual funding gap was?

Are you basically hitting equity with the full amount as of September 30?

The equity adjustment would be, first of all, this is the fourth quarter, not the third quarter.

But again just rephrasing what I mentioned earlier, it is the combination of our, what we already have on our books from a prepaid asset perspective as well as what our underfunded ABO position is and then you tax effect that and that gives you approximately a billion dollars.

Okay.

And then are you prepared to talk about what the P&L impact of pension looks like for 2003 and perhaps what your new return assumptions will be?

No, we're continuing to look at what we're going to do decide for year-end as far as return on asset assumptions and so forth.

But when you look at being in a less funded position versus last year, you expect that our pension expense will go up from '02 and 2003.

But we have just not finalized what those numbers are.

I apologized in advance if I missed this in your commentary, but I was looking for some explanation on the pricing decline that you saw in the United States.

I think it was down point 6 percent.

What was going on there?

I don't think it was anything unusual other than it's a very difficult market to be selling into now with low levels of inflationary pressure and so forth.

It's a tough market out there.

Okay.

So no product mix issues, no new introduction roll out expenses, things of that nature?

Probably the one most significant item we had was in the health care area.

It was TAMBCO R. Which there's been a generic drug launched in that segment and it's driven down the price, which is as predicted.

This is not new news to us.

Turning to one of the individual segment results, transportation and safety.

I think you had said you saw strength on OEM automotive.

Just wondering if you could perhaps elucidate on that a little bit and tell us about unit volume participation versus penetration, if you had a dollar per vehicle number, that would also be helpful.

I really don't because there's so many OEMs out there.

We penetrate each one of them a little bit different.

We're benefiting because the industry is running extremely high levels of production, as I think you're aware.

Is there a penetration story there as well.

You're getting content on new FLORMS, things of that nature.

We are but it's pretty hard to characterize it on a broad base basis.

We are working with each one of the OEMs and trying to increase our penetration on each one of the platforms.

But you really would have to go through it almost OEM by OEM.

Final question.

I'll turn it over to someone else.

Acquisition plans, could you comment on what the pipeline looks like?

Are we likely to see anything in the next few quarters?

Well, the pipeline is very good and very active.

We're seeing a lot of proposals.

But we don't have anything to report at this point in time.

Thank you.

Your next question comes from John Lynch of Merrill Lynch.

Did you say production costs were down two and a half percent.

That's correct.

With energy pricing I'm presuming up year over year could you talk a little bit more about how you were able to achieve it and how much further capacity for further materials reduction do you think there might be given the present environment.

We've got, John, a lot of effort underway on the whole sourcing front be it dual-sourcing, e-auctions.

So we're accelerating our activity in the whole material reduction area.

We still think there's good opportunities in the future, it will all depend upon what happens to raw material prices and so forth which we don't necessarily control.

We expect that there may be some future increases, depending on where the economy goes here.

But that just means we have to accelerate our efforts to bring down material costs.

So it's a big focus area.

It's one of our five corporate initiatives.

And we still have a lot of room here.

Do you have a sense how much higher energy pricing might have sub extracted from direct material benefit?

We didn't see a big impact in the third quarter.

Okay.

My follow-up is just on Asia.

Continues to be up very strongly.

Could you provide a little bit of color as to what business segments specifically are accounting for - or maybe accounting for that growth - and what the outlook is.

You touched on export disruption.

I'm presuming Asia is one of the areas that gets affected by that.

Does that imply that growth rates there come down in the near term?

Well, you go back to Asia.

We've had a couple good quarters of growth in Asia.

And we're hoping we can continue at those levels.

But all areas have grown quite well there.

A AI lot of our base business, be it Japan, be it Korea, be it China, are all growing.

Our optical business that we talked to you guys about in May is going to very, very strongly.

And micro interconnect is also a very strong business for us in the region, which both of those are heavily in the electronics part of the market, which a large part of the Asian production is re-exported out of Asia.

Thank you.

Your next question comes from Michael Reagan of Credit Suisse First Boston.

Reagan (ph): Good morning.

Pat, given no below-the line charges for the third quarter, should we expect that we won't see any more going forward in the future, will everything be above the line?

Michael, that's a tough question.

You know that.

Reagan (ph): I want a tough answer, Pat.

A lot of that has to do with what the situation is.

If there was some significant event that we had to take care of, we'd have to look at how do we treat it.

Reagan (ph): But are you getting ahead of the curve?

In other words, are you now absorbing incremental restructuring above the line?

Let's put it this way, there is ongoing restructuring that goes on in the business every day.

And that kind of activity does get absorbed into normal operations.

And that's pretty much my attitude is we'll try to do that through our normal operations, unless it truly is a unique and discrete item that we can get our hands on.

But we'll let you know in those cases.

Reagan (ph): Then as a follow-up, you addressed pricing on a year-over-year basis.

But sequentially price was down both in the U.S. and in Asia.

Again, any additional detail there on specific products or issues we need to be aware of?

Tamacor (ph) is the same issue as I mentioned year-over-year also hurt us sequentially from a pricing standpoint.

That's probably the most significant single item.

But again it's a difficult marketplace out there to try to get price in.

Reagan (ph): Okay.

Terrific.

Thank you.

Your next question comes from Jack Kelly of Goldman Sachs.

Good morning, Pat.

Just following up on one of the pension questions.

While these assumptions might not be right maybe you can just give us some feel.

Assuming you didn't make any changes in the actuarial assumptions for the pension fund at year-end, if the market were flat by the next, the end of the next measurement period, which would be September 2003, so flat market and no changes in actuarial assumptions, what cash contribution would you be required to make?

It sounds like you're doing this as you said to get ahead of the curve.

But what would you have to do in that case?

First of all I say flat -- the answer to your question is zero.

We would not have to do anything.

We didn't have to do anything this time.

We thought it was prudent, though, based upon the cash flow we had in the business, to go ahead and contribute $789 million even though we really had no requirement to fund.

But we have about a six billion dollar asset base.

So I think we'll do the math as to what the impact could be under various set of assumptions.

I happen to be more of a believer that we should be able to get some market return this year and we've looked at a number of different scenarios and we're confident that our cash flow of the business is such that we can handle just about any possible scenario that arises.

Just on the asbestos, you mentioned you're appealing it in Mississippi.

Are there any trials currently going on.

And finally on minority interest, it doubled in the quarter, which is a good thing.

Any sense of how that might continue to perform in the future?

Obviously Asia is doing well.

But maybe there was, I'm forgetting maybe there was a loss you had last year that made the comparison look that good.

But any sense in terms of profitability and maybe Sumatomo (ph) in Japan.

On the respirator liability, there are no trials in process right now.

Could you rephrase the last part of the question.

Minority interest in the quarter was like 22 million versus 10.

And I assume a large part of that comes out of Asia.

So I just wanted to get a sense of -- I think you were flat for the nine months minority interest.

So clearly the third quarter is a big change.

I wanted to get a sense on a going forward basis.

It's pretty consistent.

If you recall I think last quarter we had [inaudible] That was a penny difference in Sumatomo (ph).

If you look at the nine month rate it's pretty consistent on a going forward basis.

Thanks.

: : Your next question comes from Jeff Sprague of Salomon Smith Barney.

One more on pension and a couple other items.

Pat given that what you did on the pension was voluntary, I'm just trying to understand exactly what the strategy is beyond just staying ahead of the curve.

Looks to me roughly on my math.

It may be a total coincidence, but what you paid on basically offsets your negative plan return and the benefits that you might have paid out this year.

Holding yourself at about six billion, which is a number you referenced again.

Is that kind of the way you're thinking about it, trying to hold the assets relatively stable, depending on what happens in the markets and what the benefits look like?

It's a lot of elements that go into that decision.

We are trying to, with the cash flow we've got, we want to make sure that we are in a solid position.

And we cannot fully tax deduct what was required of us to be totally funded.

So we felt that keeping in this about six billion range was about the right view of the world.

I still have a view, if you look at our 10-year returns and so forth that we've had, we've had over nine percent returns.

So any given year you'll have a little bit of a hiccup here.

And we're keeping a close eye on the markets as well as what our medium terms funding approach is here.

But we felt pretty comfortable with our strategy.

Previously you've given longer term kind of free cash flow guidance.

I think 2.2 to 2.4 something like that annually.

Do you think you can absorb these forward pension contributions in the context of that, or does that guidance change?

It doesn't necessarily change because my view of the world is no different.

My view of the world is that the markets on a long-term basis should perform in what we've previously thought.

So it's not significantly altered my thinking.

Now you just have to think about do you have a year or two that you have an aberration that you have to deal with.

We think we've got the capability of dealing with that.

But it doesn't really affect my long-term thinking as to what the free cash flow of the business is.

Great.

Just a little business color.

Could you provide a little bit more clarity in electronics and communications, how much the non-telecom piece of the business grew?

A little color around those items.

I'm not so sure I have that number offhand, Ron.

Do you happen to have --

A couple comments, as Pat pointed out the largest decline in sales is in the telecom area.

Having said that we had good sales strength in our micro inter connect business, our electrical business was reasonably good in the quarter.

But a bit of a trade off between various severe, more significant declines in telecom offset by reasonably good growth in micro inter connect and electrical.

So if you took telecom out, we'd be in a double digit growth I think if you took that out of the group.

That's what I was looking for.

Thanks a lot.

: : Your next question comes from Steven Webber of SG Cowen.

Webber (ph): Good morning.

A couple questions.

Where do you stand today -- number one, can you give us a feeling for what happened to the sales value of production, because there's all this currency stuff that feeds in there in the third quarter what you might expect in the fourth quarter to reach your working capital goals, Pat.

And then are we going to kind of stabilize on this versus sales in 2003 or is this still going to be a drag on the gross margin?

The field production in the third quarter was very similar to our second quarter level.

Third quarter was about six percent higher than the third quarter of last year.

We would anticipate that our fourth quarter field value production as Pat pointed out in his comments and as we have historically seen will be somewhat below the third quarter levels, perhaps three to five percent lower than what we saw sequentially or we saw in the third quarter.

And of course going into 2003, that's going to be, dependent upon how the world picture unfolds for us, we are again committed to that improvement in our inventory turnover and overall working capital turnover.

And with a very modest economic worldwide picture that SOP won't change dramatically from what we saw in the second and third quarter of this year.

Webber (ph): Could you tell us what currency, how that affected Q3 on a year-on-year and a sequential basis what you anticipate for Q4 and then, because of these lags, even if the dollar is stable from here, what do we have going for us in 2003?

This is kind of a tough question.

With Latin America the way it is today, if you look at the more managed currencies that we have, which are more the European and say yen, it probably would be a slight ly favorable.

But because of the Latin American situation, where currency translation was 22 percent on the dollar terms, you get a negative impact because of what's going on in Latin America.

So if you look at it purely from a currency standpoint it's probably slightly unfavorable.

But there's a little bit of an offset to that when you look at the business because we try to get as much price back in Latin America as possible.

You get maybe a little bit of price gain in Latin America to offset some of the currency movement.

So in today's volatile market in Latin America becomes a little tougher question than kind of a steady state.

But you actually look at where the market is now.

It's not that different than it was at the end of the third quarter so I wouldn't see a lot of sequential, see sequential movement.

Webber (ph): Then lastly, I don't mean to harp on this pension question.

By putting $789 million dollars in funding in that, does that give you a return versus alternate uses for the cash not that you can earn a ton on cash today, but do you actually get a return?

Does that lower the P&L costs in some way for 2003?

Steve, yes, it does.

The expense calculation is such that by putting 789 million in from an expense calculation, you do get the benefit of what your expected return on that investment is, within your P &L, within the calculations.

Webber (ph): That's pretty good.

So the .

So the answer is yes.

Now, the markets will determine what the real return will be.

Webber (ph): Right.

Could you just maybe, to be helpful, what is the pension expense looking like year-on-year for 2002.

2002 is no different.

We do not change our 2002 expense number.

We fixed that as we go into the year.

And then that stays the same.

And we then we relook at that every year.

Webber (ph): Okay.

Thank you.

: : Your next question comes from David Begleiter from Deutsche Bank.

Can you comment on 3M AK (ph) acceleration how that program is progressing, what traction it's gaining, whether you're happy with the progress year-to-date.

Actually, it's gaining good momentum.

It gains better momentum every quarter we look at it.

And I think if you look at some of the modifications we've done to the organization going forward, this is to even further get more traction through the whole acceleration process by getting organizations much closer aligned to the end customer.

And we're also doing a lot more work, Dave, under the six sigma approach, work with our customers.

A lot more projects.

Six sigma with our customers, which is starting to gain a lot of traction as well.

So both of those, I'm confident we've got a lot of good momentum there.

Any metrics to track on 3M acceleration that we can see?

I guess not really.

Ultimately it will show up in how well we perform in the marketplace will be the ultimate test.

The other thing that we are doing, Dave, is we are making some -- we continuously make portfolio moves within our R&D investment to where we think the best opportunity is to grow.

So it's a dynamic situation.

But at the end of the day we're going to have to outperform the markets.

And that's going to judge how well the program is running.

Pat one more question on cap ex.

It's down substantially even two years ago.

Is this level sustainable, and where are the cut backs or the savings been most obvious and most evident?

I'd say the cut backs or reductions I wouldn't say cut backs, per se, the reductions have been more so in the U.S. than they have been say in places like Asia where there's still sizable growth.

Would I not say this is not in my view a sustainable level.

I would still say that 900 is probably closer to what a sustainable rate is for us.

But we'll see as we work our way through time here.

But we're coming through a period where employees the economies are not performing all that well from a growth standpoint.

So we haven't had to invest much money this year for growth.

But as the economy has come back and we see some more growth opportunities.

It would take that number back up.

Thank you very much and good luck.

On the cap ex spending it's to remember that six sigma is really helping us identify process improvements that result in our ability to get additional capacity out of existing assets.

So six sigma is really pointing a number of capital investment projects where we can get additional capacity out of present facilities we have around the world.

Thank you.

: : Your next question comes from Robert Ottenstein from Morgan Stanley.

Ottenstein (ph): Can you give us a little sense on the electric communications sequentially that weakened.

Is that seasonal or a weakening in the markets?

You have one question at this point, Robert or do you have a number lined up?

Ottenstein (ph): How many do you want?

I just wanted to know how many I had to think about before I answered your first question.

But you say sequentially, Robert?

Ottenstein (ph): Sequentially that got a lot weaker.

I was wondering if that's a seasonality issue or did the business get weaker.

Telecom continues to get weaker.

We thought looking back a little bit ago we reached bottom.

But telecom continues to weaken on us.

The rest of the business didn't change nearly as much as the telecom piece.

The rest of the segment went down, though for the third quarter.

But nothing near what the size of the telecom reduction was.

Ottenstein (ph): The telecom, it's a sequential weakness, not a seasonal one?

No, that's true.

Ottenstein (ph): Okay.

Second question, can you give us a little bit more color on the consumer and office products business, the volume was one of the weakest we've seen.

Yet the sales number wasn't too bad.

Is that higher prices in South America, just a little more color there.

Well, I guess I'm not exactly sure -- I mean versus the other ones, it was less.

There's a couple things that are going on I guess in consumer.

One is K-Mart, which was a large customer for us last year, third quarter.

We were not shipping extensive products to them.

We've pushed that back into the fourth quarter.

And I think we're seeing as people tighten up their inventory pipelines and so forth, we'll probably end up getting more business here out of the third into the fourth relative to consumer.

Ottenstein (ph): You're saying it's mostly a timing issue here on the volume?

Well, there's some of that.

The other thing is that we did, in the third quarter, we moved some business from health care to consumer and office, which is about 10 million a month.

We moved some businesses during the quarter.

And the numbers that you see in the segment results reflect the shifting of the sales and operating income.

We can talk off line, but I think that may be -- that may be the adjustment you're seeing.

Ottenstein (ph): That makes sense.

That was about $10 million?

About ten million a month.

Ottenstein (ph): A month.

In sales.

Ottenstein (ph): Great.

Thanks a lot.

: : Your next question comes from Mark Gulley of Banc of America Securities.

Hey guys a question that's frequently asked on these calls I want to see what your thinking is.

Long-term trend in the U.S. is pretty poor international is very strong is that one of the things you go with the flow you follow your customers where they are or are there active programs to try to resuscitate growth in the U.S.?

I think the answer to that, Mark, is both.

We have to go where our customers are going.

That's one of the huge assets this company has with our global presence.

We can pick up customers as they move relatively easily.

But as business moves, we've got to find ways of backfilling that business within our geographic area.

So if customers move, we just don't say, well, that's too bad.

We have to figure out ways of getting that growth back in other segments.

A follow-up to that you're one of the few companies that maybe retains an organizational chart that reflects a U.S. team of both leadership and a separate international organization.

Is that separation in any way interfere with your ability to manage these businesses on a truly global basis.

I don't think it does at all.

Jim and I, Joe Giodano (ph) was in Europe a few weeks ago, I think the two work very well with each other.

The U.S. leaders have a certain responsibility to drive strategy and programs with the local organizations have responsibility of executing.

And it's a very powerful combination.

Lastly on asbestos, you commented on I think the change in the asbestos liability.

Can you remind us of what the absolute number might be as of the end of the third quarter?

Janet, can you handle that?

Yeah, the liability as of the end of quarter is 178 million dollars.

That changed then 67 sequentially, then, right?

That's correct.

: : Your next question comes from Jeff Siansi (ph) of UBS.

Siansi (ph): I have two questions.

Japan seemed rather strong in volumes, competitors peers or whatever you want to call them aren't seeing that kind of strength.

But what is going on there.

Is it health care consumer driven or is it market share.

I'd say we've got a very, very good organization in Japan that's very customer focused.

And they're trying to get growth wherever they can find it in the local market.

But I want to talk about the local market here for a second.

But it's the automotive business we're picking up business.

Health care is improving within industrial is improving a little bit in Japan.

Then of course there's a piece that is export based in some of the optical business.

So it's a combination of all those.

But it's all driven by the strength of both the local organization, as well as back to Mark's question here a little bit, the U.S. organization that's driving strategy and programs on the optical side, a great combination.

Siansi (ph): And my other question was on six sigma and also Brad might be there.

Several hundred projects closed we're looking for a benchmark here.

Is there any way we can quantify what those 700 projects have saved, either bottom line or top and bottom line?

Just go back, Jeff, to what we told you guys in May relative to what our objectives were for six sigma were.

We're well on track of getting that done.

Second quarter we had closed about 400 projects.

Third quarter we're reporting seven here. 700 here.

So you can see we're getting good closure on projects.

So the benefits will continue to escalate as we go through time.

Siansi (ph): Are you bringing most of those savings to the bottom line, more than half?

The projects, if I recall the split right now, were about 60 percent cost, 20 percent growth, 20 percent cash.

So think of them in those buckets.

You saw a good pay back here in the third quarter relative to networking capital.

So you see good traction of the six sigma projects in both receivables as well as inventories go.

And then as 60 percent of the projects are focused on cost and 20 percent on growth.

So we are getting benefits as you see I think in our overall margin for the quarter.

Siansi (ph): Keep it going.

Thanks.

: : Your next question comes from Aaron Strof (ph) of HSBC.

Strof (ph): I hate to sound redundant on the pension but can you go back and describe to us, one, what is mix of asset class is expected to be, if there are any changes to it going forward.

And separately a question on the docks on the west coast.

Obviously the CEO made the comment that it is impacting the business.

What are you seeing from that and what kind of changes should we be looking at as it potentially could impact Asia on both the export and import side?

On the dock situation, I don't want to overblow this, but it's good that it's been resolved.

But we're still working our way through getting the material prioritized and cleaned up.

We had to air ship some material in the process to make sure we kept our customers satisfied.

So it's more of a nuisance, okay, than it is a huge impact at this point in time.

And we'll probably know better as the situation finally concludes itself.

On the pension side, our general philosophy is we're in about 70/30 mix, give or take, is kind of what we normally look at.

It can vary a little bit depending on our views today at any one point in time.

That's the general.

It will run 70/30, 60/40 depending on our view.

Strof (ph): So you said 50 percent fixed income.

70 percent equity of income.

Strof (ph): No expectations to change this to that despite changes in fair market values?

You kind of look at where the market is and our own view continues to be that there is good, long-term possibilities in the equity markets.

But Jan, go ahead.

If I could add a couple of things.

A couple of notable things.

One was in the six income component we're opportunistic where the money is invested and have a significant part in private equity positions so there's less volatile in there.

On fixed income we have a long duration to our portfolio.

Try to better match the asset liability.

Strof (ph): Very good.

Thank you.

: : Your next question comes from Howard Gliechert (ph) of Metropolitan West.

Gliechert (ph): Just one quick additional question on six sigma.

The six plus vent turns goal that you have, how dependent on that is the level of business activity?

In other words, has it been easier for you to attain your goals in a slowing market?

And if you have a return to a more normal economy worldwide, lit be more difficult to attain to attain those goals and are they sustain able as you ramp up your sales expectations?

Howard, it's actually reversed.

Generally speaking, the higher volume you have, the better leverage you have on inventory turns.

In one, the factory on a fuller basis.

So you actually get better term performance as the economy improves and the volume grows.

But that's not going to be an excuse for us we're going to get to our objective even under today's economic environment.

But if business does improve, or actually our inventory industry performance will be actually better.

Gliechert (ph): Even if you need higher inventories to maintain your higher production rates to ensure you can fulfill your customer's needs?

We have to be careful if we're talking about inventory dollars or turns here.

Our inventory dollars as volume goes up would increase.

But our term performance should improve as the business gets better.

Gliechert (ph): Okay.

I understand better.

Thank you.

At this time the question and answer session has been concluded.

We will now go back to Mr. Pat Campbell for any closing remarks.

Thanks for all the great questions this morning.

Again, thanks for taking the time to join us.

Looking ahead, we still see no shortage of opportunities for 3M.

And although the economic conditions remain very challenging, we're confident that we're focused on making the necessary fundamental changes to ensure future growth and success.

I look forward to talking to you in January where we will recap our total year 2002 as well as talk more about the year 2003.

Thank you.

Ladies and gentlemen, that does conclude our conference for today.

You may all disconnect and thank you for participating.

Call ended at 10:00 a.m