The decision to invest in any company needs to be supported by detailed analysis with a focus on the company’s financials and liquidity. Two options need to be discussed in this analysis, and it is necessary to consider a five-year period in order to evaluate the investment. It is important to choose between purchasing $100,000 of the 3M Company’s common stocks and keeping the money in a bank with a 5% interest rate per year.
Defining the Company
3M Company was founded in 1902, and was known as the Minnesota Mining and Manufacturing Company (“3M Company” par. 1). Currently, 3M is a multinational corporation that includes several segments and operates in such spheres as the production of electronic devices and materials, automotive equipment, medical and orthodontic products, and safety products, among others. Operating in more than 60 countries and employing more than 85,000 workers, 3M has a good reputation in the business world, with annual revenues of about $30 billion (“3M Company” par. 3). The financial performance of the company is strong, and a widespread brand recognition contributes to increases in annual sales and earnings per share. Following the Morningstar rating, 3M has four stars (“Morningstar: 3M Co.” par. 7).
Defining the Problem
The problem under consideration is whether investing in 3M is more advantageous than keeping $100,000 in a bank during a five-year period. In order to provide the supported decision and conclusions regarding the future development of 3M, as well as the expected return on investment, it is necessary to complete the analysis using such financial tools as a cross-sectional analysis based on financial ratios and margins, a free cash flow analysis, an expected rate of return analysis, and analysis according to the Gordon growth model (Gitman, Juchau, and Flanagan p. 58). The purpose of conducting the cross-sectional analysis is to discuss the company’s position among competitors and to reach conclusions about its stability and potential for further growth (Damodaran 38). The free cash flow analysis is important to discern whether the cash available to owners and investors can increase in the company. In order to assess possible risks, it is relevant to refer to the analysis of the expected rate of return and standard deviation (Gitman, Juchau, and Flanagan p. 316). The Gordon growth model is used to conduct the dividend valuation.
The cross-sectional analysis demonstrates that the company’s performance is good in comparison to industry competitors (Table 1). The current ratio of 3M is higher than the industry’s average, and demonstrates a high degree of liquidity. The quick ratio is similar to the industry’s average. The total asset turnover is also comparably high, and indicates that the company uses assets efficiently. The gross profit margin is higher than the average, and is also equal to competitors’ financials. The operating profit margin is not very high when compared to competitors. The P/E ratio demonstrates that the investor’s confidence is comparably low. The P/S and P/B ratios are higher than average, and the stock seems to be overvalued. Still, earnings per share (EPS) are high, and can attract investors.
Table 1. The Cross-Sectional Analysis, Ratios. (“MarketWatch: 3M Co.” par. 2; “Yahoo Finance: 3M Company” par. 1).
|Net Income||Current Ratio||Quick Ratio||Total Assets Turnover||Gross Profit Margin||Operating Profit Margin||P/E Ratio||P/S |
|General Electric Company||7.6||1.32||1.11||1.4||0.55||0.6||47.60||2.5||3.0||0.74|
The analysis of free cash flow for three years indicates that it increased in 2014 in comparison to 2013, and also increased significantly in 2015 (Table 2).
Table 2. Free Cash Flow for 3M. (“MarketWatch: 3M Co.” par. 2; “Yahoo Finance: 3M Company” par. 1).
|Net income (USD, millions)||4,833||4,956||4,659|
|Net noncash charges (USD, millions)||2,369||1,728||1,297|
|Net cash provided by operating activities||6,420||6,626||5,817|
|Free cash flow (FCF)||8,441||6,143||4,115|
|Net fixed asset turnover||3.56||3.75||3.57|
The expected rate of return is calculated to predict changes in returns for investors, and forecast possible risks. For 3M, r equals 15%, and the standard deviation is 0.88. These numbers indicate a low risk for investors. The Gordon growth model allows for making conclusions about dividend growth rate. The following formula should be applied:
g = 100 × (P0 × r – D0) ÷ (P0 + D0)
According to this formula, g for 3M equals 18%, depending on the current prices of shares and the required rate of return. Such a growth rate can be regarded as stable and promising for investors. Thus, risks associated with the investment can be considered as minimal.
Recommendations and Conclusion
While referring to the conducted analysis, it is possible to predict that prices of 3M stocks, as well as earnings per share, will increase in the future. The focus on industry competition also allows for predicting further stable positions in the market, because the company has remained one of the industry leaders over more than a century. 3M has strong recognition, and is characterized by financial stability. From this perspective, it is reasonable to recommend purchasing $100,000 of the 3M Company’s common stocks, in the expectation of higher dividends in the future.
3M Company. 11 Apr. 2016. Web.
Damodaran, Aswath. Investment Valuation: Tools and Techniques for Determining the Value of Any Asset. New York: John Wiley & Sons, 2012. Print.
Gitman, Lawrence, Roger Juchau, and Jack Flanagan. Principles of Managerial Finance. New York: Pearson, 2010. Print.
MarketWatch: 3M Co. 2016. Web.
Morningstar: 3M Co. 2016. Web.
Yahoo Finance: 3M Company. 2016. Web.