Ladies and gentlemen, thank you for standing by. Welcome to the 3 ms Third Quarter Earnings Conference Call. During the presentation, all participants will be in a listen only mode. Afterwards, we will conduct a question and answer session. As a reminder, this conference is being recorded, Tuesday, October 24, 2017.
I would now like to turn the call over to Bruce Jermeland, Director of Investor Relations at 3 ms.
Thank you, and good morning, everyone. Welcome to our Q3 2017 business review. On the call today are Inge Tullin, 3 ms's Chairman, President and CEO and Nick Gangstedt, 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 future investor events. Please turn to Slide 2. First, starting with earnings. Our Q4 earnings conference call will be held on January 25th And second, our 2018 outlook meeting will take place in New York City on December 12 from 8 am to noon. Invitations for this event will be sent this afternoon.
So please RSVP as soon as possible. We hope to see you there. Please take a moment to read our forward looking statement on Slide 3. During today's conference call, we'll make certain predictive statements that reflect our current views about Trans 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 ks lists some of the most important risk factors that could cause actual results to differ from our predictions. Please turn to Slide 4, and I'll hand the call off to Inge.
Thank you, Bruce. Good morning, everyone, and thank you for joining us. Coming off a strong first half, our team delivered an even more robust performance in the Q3. Organic growth accelerated to 7% with positive growth across all business groups and all geographic areas. We posted record sales and record earnings and did so while continuing to invest for the future.
Let me take you through the highlights. Total sales were 8 $200,000,000 an all time high for our enterprise. As I mentioned, we delivered strong broad based organic growth of 7%, led by electronics and energy at 13%. Healthcare grew 7% organically, followed by 6% growth for both industrial and Safety and Graphics. Our Consumer business posted organic growth of 2%, its 2nd consecutive quarter of positive growth.
It was also good to see broad based growth across all geographic areas. This was true in both developed and developing markets, where our long standing presence, market position and depth of capabilities enable us to win. Growth in developed market was 4% with 14% growth in developing markets. With respect to EPS, we increased earnings more than 8% to $2.33 per share, which is a Q3 record. Company wide, we expanded margins to 25% with all business groups above 22%.
Turning to free cash flow, we posted a good conversion rate of 100%. We continue to invest and grow the business while also returning significant cash to our shareholders. And in the quarter, we returned $1,100,000,000 through dividends and share repurchases. Please turn to Slide 5. Beyond financial results, we are continuing to build an enterprise that levers, which are significant value creators.
The first is portfolio management. And earlier this month, we finalized our acquisition of Scotts Safety. This will complement organic growth and further enhance our position in the fast growing global personal safety market. At the same time, we completed the sales of the electronic monitoring business, which no longer align with our strategic objectives. Portfolio management, a process we have intensified over the last several years, is strengthening our competitiveness and making us more relevant to our customers and the marketplace.
Investing in innovation is the 2nd lever. Research and development is the heartbeat of 3 ms. It's how we deliver premium value to our customers and premium returns to our shareholders. This is why we continue to invest 6% of sales into research and development, which totaled $463,000,000 in the quarter. The 3rd lever is business transformation, which starts and ends with our customers.
The deployment of our ERP system remains on track with West Europe nearly complete. We have also started initial deployments in the United States, which you will hear more about at our outlook meeting on December 12. That concludes my remarks, and I will now turn the call over to Nick.
Nick? Thanks, Inge, and good morning, everyone. I'll start on Slide 6 with a recap of our 3rd quarter sales performance. We posted strong organic growth in the quarter of 6.6% as we continue to outgrow the markets we serve. Selling prices improved sequentially versus 2nd quarter and were flat year on year.
Excluding Electronics, price was up 20 basis points, which marks our strongest quarterly pricing performance this year. The divestiture of nonstrategic businesses over the last 12 months reduced sales in the quarter by 120 basis points. Conversely, foreign currency translation increased sales by 60 basis points. All in, 3rd quarter sales in U. S.
Dollars increased 6% versus last year. In the U. S, organic growth was 3.6%, led by a high single digit increase in Healthcare and a mid single digit increase in Industrial. Our Safety and Graphics and Consumer businesses also delivered positive growth in the quarter. Asia Pacific led the company with organic growth of 13% in Q3.
All business groups within Asia Pacific continued to post strong growth in the quarter, including double digit increases in our Electronics and Energy business and in our Safety and Graphics business. Organic growth was 23% in China, Hong Kong and 5% in Japan. Excluding electronics, China, Hong Kong grew in the mid teens and Japan was up 3%. Moving to EMEA, organic growth was 4% in Q3 with West Europe up 3%. Both the Safety and Graphics and Industrial businesses led the growth in EMEA.
Finally, Q3 organic growth in Latin America Canada was 5%. All businesses posted positive growth with healthcare leading the way, up high single digits. At a country level, Canada delivered strong organic growth of 14%. Mexico was up 5%, while Brazil was flat. We continue to generate broad based growth across the globe, giving us confidence in raising our full year expectations, which Inge will discuss later.
Please turn to Slide 7 for the Q3 P and L highlights. Company wide, 3rd quarter sales were $8,200,000,000 with net income of $1,400,000,000 up 7.5%. On a GAAP basis, 3rd quarter operating margins were 25%, which includes a 60 basis point impact from incremental strategic investments. Let's take a closer look at the various components of our margin performance in the Q3. Gains from organic volume growth and productivity contributed 90 basis points to operating margins.
Our continued focus on portfolio management is strengthening our enterprise in many ways, including margins, which improved by 40 basis points due to the exit of non strategic businesses. The combination of lower raw material costs and selling price changes added another 30 basis points. Foreign currency, net of hedging impacts, brought margins down 40 basis points in the quarter and higher year on year pension and OPEB expense decreased margins by 30 basis points. Let's now turn to Slide 8 for a closer look at earnings per share. 3rd quarter GAAP earnings were $2.33 per share, up 8.4% year over year.
This result includes a $0.06 impact from incremental strategic investments. The combination of organic growth and productivity contributed $0.23 per share to Q3 earnings. Organic growth was the predominant driver along with raw material benefits and the continued positive impact business transformation is having on our productivity efforts. Acquisitions and divestitures added $0.01 to earnings year over year. Foreign currency, net of hedging, reduced earnings by $0.03 a share and the slightly lower tax rate was a $0.01 benefit.
Finally, lower shares outstanding net of higher interest expense was a $0.02 benefit to EPS. Please turn to Slide 9 for a look at cash flow. We continue to generate solid operating cash flow as a company, which allows us to consistently invest in the business and return cash to shareholders. 3rd quarter free cash flow was $1,400,000,000 with a conversion rate of 100%. For the full year, we expect free cash flow conversion in the range of 95% to 100%.
Turning to CapEx. We continue to be encouraged by the numerous opportunities to invest in both growth and disruptive technologies. 3rd quarter capital expenditures were $325,000,000 and we expect these investments to be approximately $1,400,000,000 for the year. In addition to investing in our businesses, we returned significant cash to shareholders in Q3, including $701,000,000 in dividends, up $31,000,000 We also returned $380,000,000 to shareholders through gross share repurchases or $1,600,000,000 year to date. We now expect full year repurchases to be in the range of $2,000,000,000 to $2,500,000,000 versus $2,000,000,000 to $3,500,000,000 previously.
Let's now review our performance by business group. Please turn to Slide 10. Industrial, our largest business group, continued its strong growth, up 6.1 percent organically in the 3rd quarter. Industrial's growth was once again broad based across all geographic areas and all businesses. Our Heartland businesses within Industrial, namely industrial adhesives and tapes, abrasives and automotive aftermarket, all delivered mid single digit growth in the quarter.
Our auto OEM business was up 6%, outpacing global car and light truck builds by approximately 400 basis points. As we continue to drive increased penetration on the automotive OEM platforms across the globe. Finally, Advanced Materials led the way with mid teens growth in the quarter with strong performance across its portfolio, while also benefiting from favorable year on year comps. On a geographic basis, organic growth was led by a high single digit increase in Asia Pacific, while all other areas grew mid single digits. Industrial delivered 3rd quarter operating income of $614,000,000 with an operating margin of 22.2%.
Adjusting for incremental strategic investments, operating margins were 22.6%, a 110 basis point improvement from Q2 levels. Please turn to Slide 11. 3rd quarter Safety and Graphics sales grew 6% organically. Growth was led by our personal safety business, which accelerated to double digit growth in the quarter. We continue to experience strong demand for our personal safety solutions and look to build on this strength with the integration of Scotts Safety starting here in the Q4.
Our roofing granules business grew solidly, up mid single digits on top of a tough year on year comp. Lastly, Transportation Safety posted positive organic growth in Q3 as we continue to evolve its portfolio with the sale of the electronic monitoring business earlier this month. Geographically, Safety and Graphics grew organically across all areas, led by an 11% increase in Asia Pacific and an 8% increase in EMEA. 3rd quarter profits in Safety and Graphics were up 11 percent year on year to $410,000,000 with operating margins of nearly 27%. Please turn to Slide 12.
Our Healthcare business in the 3rd quarter grew 6.9% organically. Healthcare delivered broad based growth across all businesses and geographies. Our medical consumables business, which is our largest segment within Healthcare, posted high single digit growth as worldwide demand for 3 ms's products and solutions remained strong. Oral Care delivered 3% organic growth in the quarter as we continued to deliver strong international growth, particularly in Asia Pacific, Latin America and West Europe. Organic growth in Healthcare was led by a double digit increase in our drug delivery business.
Geographically, organic growth was led by high single digit growth in Asia Pacific, Latin America, Canada and the U. S. We saw notable strength in Healthcare across developing markets, particularly in China, Hong Kong, which was up double digits in the quarter. Healthcare's operating income was $471,000,000 and operating margins were 31.9%. Please turn to Slide 13.
Electronics and Energy 3rd quarter organic sales growth was up 13% and is up 11% year to date. We are on track to deliver 10% organic growth for the year. This business continues to benefit from our portfolio management efforts over the past few years to streamline the business, enhance customer relevance and drive improved efficiencies. The electronics side of the business grew 18% organically, as our team continued to increase penetration on many OEM platforms globally, including semiconductor manufacturing, electronic assembly, data centers and automotive electrification. Our energy related businesses were up 2% organically with electrical markets up mid single digits, partially offset by a decline in telecom.
On a geographic basis, organic growth was led by a 20% increase in Asia Pacific, while Latin America, Canada and EMEA also delivered positive growth. 3rd quarter operating income for Electronics and Energy was $394,000,000 with operating margins of 27.9%. Please turn to Slide 14. 3rd quarter sales in consumer grew organically 1.9%, which was a continued improvement versus recent quarters. We saw positive organic growth in 3 of our 4 consumer businesses, namely Home Improvement, home care and consumer health care, while stationery and office declined.
Category defining brands in consumer continue to be a strength for 3 ms. We delivered strong double digit growth in both Command damage free mounting products and scotch blue painters tape. Filtrete home filtration products grew mid single digits globally. Geographically, organic growth in consumer was led by Asia Pacific, up high single digits, while Latin America, Canada and the U. S.
Also delivered positive growth. Finally, operating income was $307,000,000 with an operating margin of 24.8%. Adjusting for strategic investments year on year, operating margins were nearly 26%. Please turn to Slide 15. Before turning the call back over to Inge, I want to cover a few items that will impact the Q4.
First, the completed divestiture of the electronic monitoring business is expected to have a net positive impact of $0.12 to earnings in Q4. 2nd, the Scotts safety income, net of acquisition and integration costs, is expected to reduce earnings per share by $0.08 3rd, we recently closed a debt tender offer to retire some of our higher coupon debt. This will result in a non operating charge estimated to be an $0.11 impact to earnings per share in the 4th quarter. Lastly, as we have discussed throughout the year, we plan to continue to take actions in Q4 strengthen our portfolio and better optimize our footprint. We estimate that these incremental investments will negatively impact 4th quarter per share earnings by approximately 0 point 0 $6 to 0 point
Thank you, Nick. As I look across our enterprise, I'm very pleased with our performance in the quarter and throughout the year. As a result, today we are increasing our
expectation for
2017 in terms of both organic growth and earnings per share. We now anticipate organic growth of 4% to 5% versus the prior range of 3% to 5%. With respect to EPS, we expect earnings of $9 to $9.10 per share versus the prior range of 8 $8.80 to $9.05 This is a 10% to 12% increase year on year. And as you can see, we continue to expect strong performance in terms of both return on invested capital and free cash flow conversion. With that, I thank you for your attention, and we will now take your questions.
And our first question comes from the line of Andrew Obin of Bank of America Merrill Lynch. Please proceed with your question.
Good morning, guys.
Good morning, Andrew. Good morning, Andrew.
Just a question sort of top down question. Top line growth 6.6%. As you think this economic environment, right, and as you overlay it over your longer term framework, would you describe current economic environment as average relative to your 5 year framework above average? And from that perspective, I'm just trying to think is 6.6% is something we can expect to achieve in this environment? Or is that a one off?
Well, first of all, good morning. I think to talk about the 5 year plan is maybe difficult. That's the frame you put it into. But I would say that it's maybe on the high end versus what we thought when we lay out the plan originally as we stand. You can also see that we have a range now that we move from we've gone from 2% to 5%, then 3% to 5%.
Now we are 4% to 5% for the year. And we have very high confidence as we move into 2018, which we will talk more about on December 12 in New York. But I would say that generally speaking, the execution of our commercialization programs are going very well for us, And it's broad based, which is very, very good. So I think it's I think about 4% to 5% for the remainder of this year. I would think more about on the high end of the 4% to 5%.
Okay, terrific. And just a follow-up question on the electronics growth. That has been very good. Can you just give us a little bit more color what specifically drives it? And I'm just trying to understand how much of it sort of increased content in mobile devices, particularly on adhesives or your participation in the Asian semiconductor cycle, if you could separate those two sources of growth?
Thank you.
Yes. Well, first of all, we I think always on electronic and energy as a business group. We have just to take a step back and really understand what we have done from a portfolio perspective. And that is something that we all see as we take actions. What is not so visible, if you're not actions.
What is not so visible, if you're not right in the industry day by day, is also how we have shifted and accelerated some investment to faster growing segments. So I think that's an consumer electronics, we are very global. So for us, we are adding a penetration on a global base in most of those devices. And it's going very fast, I would say, specifically on the China OEM in terms of the pickup. And if you think about that, demand there for performance, quality and functionality is exactly what we're all about.
So that means that we are growing very fast on those platforms. So we are doing better there than we had estimated, which is a positive thing. I think also in terms of growth, semiconductor, of course, we are part of that growth. And I will also say the shift in terms of us focusing more now versus 3 years ago on data centers, on automotive electrification, on energy grid energy grids is driving this growth. So if you think about it, just to give you facts, the base where we came from was a market that had a size of $60,000,000,000 that had a growth of 1% to 3%.
We're continuing there, but we have shifted during the last couple of years to market size that are $12,000,000,000 but have a growth rate to 10% to 15%. So I think that is the answer to what we are doing there. And I would say the fact that the growth is coming, the marginal expansion expanding, we are more relevant to our customer is a big credit to that business group of what they have been doing.
But that would imply that electronics growth is sustainable into 2018 as well because these are structural drivers.
Yes. I think so it is. It is. But again, technology conversion, you can have ups and downs in between quarters. But if you look upon the total business, we will continue to do well.
Our next question comes
a first question around strategic investments. I think previously you talked about that being a step up year on year of $0.25 in the second half. Now it's looking somewhat less than that based on your guidance. Maybe just give some background as to why that's happening. Is it just a push out into 2018?
And what kind of returns on that investment to date coming through?
Yes, Julien, thanks for that question. I would call what we're doing in the Q3 as a really good example of our business model in action, where we have good organic growth, strong margins and at the same time we're taking actions to position 3 ms for future success. As you mentioned earlier this year, we announced we expected to incur between $0.60 $0.65 of strategic investments for the full year and we're tracking right in that range. And those strategic investments include things we talked about at the beginning of the year for core growth platforms, but also actions to be improving our footprint and addressing our portfolio. All of that part of the 4% to 5% organic growth outlook we now are seeing for this year.
We are making good progress on that in 2017 to better optimize our manufacturing supply chain footprint. And I point you back Julian to what we laid out when we in March of 2016 about a plan to be investing between $5,000,000 and $600,000,000 over the course of a few years to ultimately generate $125,000,000 to $175,000,000 in annual benefits by 2020. So for the full year 2017, that $0.60 to 0.65 dollars range does include the charge related to the debt tender, that we'll be incurring in the Q4. That has been part of our thinking and we closed that tender in October, hence that charge coming in Q4.
Understood. Thank you. And then just my second question, price and raw materials in your operating margin bridge, slightly picked up, a slightly larger tailwind in Q3 than in Q2. Within that, how much was the raw materials portion? And do you view your current pricing trends as sustainable from here?
Most of that 30 basis points Julian is coming from raw materials. The pricing as I mentioned for the total company flat or if I exclude electronics, up 20 basis points. We're seeing that core underlying price growth growing as the year goes on, excluding the electronics. So we're seeing Q3 as a quarter where our price strengthened, but the majority of that 30 basis points is coming from raw materials. And let me just elaborate a little more on that, Julien.
The core underlying market where we're seeing the material is certainly toughening. We are not seeing the underlying market creating that 30 basis points of benefit. That 30 basis points of benefit that we see hitting our financials is the result of work and projects that we're doing to take out raw material costs and the prices we're paying. So example, raw material substitutions or product reformulations to take out those raw material costs. That's the biggest thing driving that 30 basis points you're seeing.
Very helpful. Thank you.
Our next question comes from the line of Steve Tusa of JPMorgan. Please proceed with your question.
Hey, guys. Good morning.
Good morning, Steve.
Good morning, Steve.
Really, really good quarter.
Just following up on the Electronics commentary. You guided to kind of 10% for the year. I guess that implies just making sure I get my math right here. That implies kind of 4Q at up high singles kind of 7% to 8%. Is that correct from an organic perspective?
Yes, Steve, your math is pretty sound there.
Okay. And I guess you talked about it as sustainable. I mean, you're not saying that the double digit is sustainable, obviously. I mean, semiconductor sales this year are up pretty solidly double digits. So you guys it's not quite a surprise you guys are kind of doing well there.
So when you say it's sustainable, do you mean relative to kind of an index of the devices you're on or within the range that you talked about kind of the trend line rate of that business over the last several years, more like mid single digits? What did you kind of mean by sustainable?
So Steve, when I say, when we say sustainable for Electronics and Energy and consumer electronics. As Inge mentioned earlier, we continue to see opportunities for penetration in consumer electronics. As Inge mentioned earlier, we continue to evolve our technologies to grow our relevance in consumer electronics. But even more importantly, we're repositioning our portfolio to be going after faster growing market opportunities in electronics and energy. And those are places where we're seeing the results of our actions paying off where we're seeing growth occurring there, places like automobile electrification.
So Inge said, we'll all a few minutes ago, we'll always see some ups and downs based on what's happening with underlying consumer demand for electronics. But what you're seeing now is our business model really working of us going after the higher growth markets.
Okay. And then one more question just on kind of the investments and margins and how that's playing through. Our R and D was a little bit light. And anything going on there? I guess you're just kind of repurposing investments to more kind of commercial type of things.
Is that how we should think about it?
Well, there's nothing going on. As you know, we have made a commitment to increase investment in research and development from 5.5 historically closer to 6. So we are normally just running at 6. So there's nothing abnormal going on there. But it's not a move to commercialization from those activities.
We are very committed to research and development. And for us, science, technology and sustainability is key driver for us as we move forward and as have been in the past. So there's no shift from R and D to commercialization. Commercialization, that's where we invested those additional $104,000,000 for the year, but we expected 50 to 100 basis points growth. And as you see, it's coming.
So we're very pleased with that.
Our next question comes from the line of Andrew Kaplowitz of Citi.
You had an easier growth comparison in Healthcare, but the acceleration in growth really is notable. I know you've been saying that you expect second half acceleration. But can you talk about whether this is simply your previous growth spending now really impacting the business? Or did you see an acceleration in healthcare markets? And can you talk about the sustainability of mid single digit growth in this business moving forward?
Yes. First of all, we have invested for quite some time in health care. And I think for health care specifically was the first business where we made additional investment that we broad based called Core Search. And that's paying off. And a lot of those investment was, of course, in developing economies.
And we can see broad based that that's paying off. And we had in the developing economy for the quarter, Healthcare grew 12%, but it also grew in developed 6%. So our base is very strong in developed, specifically in United States and in West Europe, and we continue to grow very, very well there. And then you can see that the developing economy is coming as we planned. So I would say when we are talking about the range of 4% to 6%, that's a realistic plan.
And then we will be in that range as we move forward. I have no doubt about that.
All right. That's helpful. And then go ahead.
Andrew, excuse me, I'll just add one thing. For the year, we're guiding healthcare 3% to 5%. And with the results, we're about 4% growth through the first 9 months of the year. We see ourselves solidly in the 3% to 5% range for 2017. And of course in the longer term as Ingo was just mentioned the 4% to 6% is how we see growth in that business.
And then my follow-up is just on pricing again. You talked about U. S. Pricing getting back closer to flat for the year net quarter, which it does appear to be doing. But how much of a better pricing performance in the U.
S. Was 3 ms pulling back on rebating or discounting versus just stronger overall industrial and consumer markets helping you? And do you think it's possible to get back to positive pricing in the U. S. In 2018?
Yes. Andrew, we have been seeing slight incremental improvements in pricing in the U. S. And we continue to see that improving into the future. I wouldn't call it any kind of pullback on our part that's causing that to happen.
It's a pricing environment where we see our business model 1 where we have increased ability for price growth there. And as far as 2018, I'm not ready to declare an up or down on that one. We'll talk more about that on December 12.
All right. Thanks guys. Appreciate the next quarter. Thank you. Thank you.
Our next question comes from the line of Robert McCarthy of Stifel. Please proceed with your question.
Yes. I will echo the xylophone of a solid strong quarter.
In any event and I want to follow-up on
the pricing question as well. I mean, obviously, you've been fairly contrite about perhaps not getting as much price as you wanted to get in the back half or excuse me, the beginning part of the year. And you talked about catching up on that and you've cited the 20 basis points. But could you talk maybe a little bit just structurally how you're thinking about your businesses, where you think you're going to see pricing pressure over the next 2 to 3 years? Obviously, the debate around kind of what is much more perceived as lending itself to transparency around consumer industrial and then kind of the rubbers meeting the road and safety.
But could you talk about where your moats are and how you're feeling about it? Just maybe not in the context of what is a very strong kind of 3rd quarter, 4th quarter right now, but just structurally down the road?
Yes. Well, you should think about 3 ms as the price leader in most, if not all categories we are in. And if you look if you think about that historically and as we move ahead, it's very much based on our scientifically based business model. So for us, if you think about the new products and new solution that we are providing is all in order to drive improved productivity and or efficiency for our customers. Our business model is about understanding our customers' business model.
We are by definition not a commoditized company. So we don't go in and fight on businesses where price is the primary discussion. We try to go in and make things different versus just making them better. So you do things better, but where the real value is when you do it differently. That's also over time where you can drive price.
So that is and as you can see, our commitment to science, technology and sustainability is continuing that way forward. And you have also seen the portfolio work we have done here the last 3, 4, 5 years have been businesses that are more commoditized. We don't think that we can add as much value to them versus other companies. That's also why they have exited our portfolio. So I would say that there will be no change moving forward relative to our strategy around pricing.
Now again, as you know and we know, things in between quarters can change slightly. There is no big change relative to our strategy around pricing. It's very, very important for us, and it's important due to the fact it's part of our business model.
As a follow-up, maybe you could just talk about, obviously, the messaging for kind of your growth initiatives and again in continued commercialization, I suppose your outlook meaning will be around electrification. But could you talk about you maybe take it from the top of portfolio where you see the most opportunities and how we should be thinking about kind of quantifying what the longer term opportunity around electrification is?
Are you talking electrification specifically?
Yes, for autos, I mean.
Yes, of course. If you think about that in terms of the megatrends and what we can do, we have 3 elements into that area specifically. We are very strong in automotive. We have showed that over time. We are outperforming the automotive build quarter after quarter and year after year and within this quarter as well.
So connection into automotive is very strong. We have a strong technology platform in our electronic and energy that we then utilize to those contacts in order to build our platforms. And then the other thing that is easy to forget is that we are global leader in traffic safety. And if you take those elements together, traffic safety, automotive electrification and pull them together, that's exactly where the trends are going. And there is big platform for us to capitalize as we move ahead.
So think about it in that perspective of, I would say, a certain thing that you and I will see today as we drive our costs, but also things that would come relative to the evolution of road safety in the automotive space.
Thanks for squeezing me in.
Thank you.
Our next question comes from the line of Scott Davis of Melius Research. Please proceed.
Hi, good morning, guys.
Hi, Scott.
Hi, Scott.
Welcome back.
Thank you. It's nice to be back. Appreciate it. Inge, you finally seem to crack the code on China. That was a region that was tough for you guys for a while.
And boy, you've had a couple of pretty good years there. I mean, what do you attribute most to the success? I know you mentioned some of this earlier in the call, but have you changed up your sales and marketing? Is it just take time to get brand awareness? And is it pricing strategy?
I mean, what outside of electronics, obviously, but if you can just talk through that?
Yes. So first of all, we've been in China for a long time, as you know. I think we started our wholly owned subsidiary, the 1984, and have made investment over time. And we have good capabilities in terms of manufacturing there, and we have also a good research and development center there. Now it looked like and as we have talked about before, there have been it's not a shift, but there have been additional investment in China for what we would call domestic markets.
So that will for us then benefit healthcare and consumers specifically. And I think what is happening as we speak is that the consumers in the and the OEMs, they're becoming more demanding on performance, on quality and functionality and brands. And that is going right into our business model in order for us to be more relevant. So we are capitalizing on that. We have also made additional investment in the domestic markets, right?
So you think about it in terms of everything that is produced and commercialized there. And we grow 2x GDP and IPI in the last couple of quarters. And we have shifted a portfolio to more safety, auto and health care. So that's helping us in addition to our own initiative. So that type of, I would say, Chinese megatrends, if you like.
And then we, in addition, have made a lot of efforts on air quality, water quality and automotive electrification. So you take that together, growth are coming, and it's very nice to see. So I think it's a focus, a presence and a focus, a commitment under the long term that now start to pay off, I think very much because of demanding for performance, quality and functionality. And then, as you say, brands are becoming more and more important. If you take air quality in China, it's equal to 3 ms.
3 ms stands for air quality in China. So that's actually our brand in China. And if you travel into China and you do some interviews, they would like to talk about respiratory products, about all things in filtration, etcetera. So I think it's coming back to brand awareness and the quality and functionality we're able to provide in the company in the country.
That makes sense. And just to follow-up on that, I mean, you one of the things you've been doing is trying to get more locally designed products in each of the regions, whether it be U. S, Europe, Asia, Latin America. And you've taken R and D up as a total spend, not just as a percent spend, but your revenues have grown. So you've taken it up meaningfully as a total spend.
And how do you manage that structure where by you make sure you don't have guys working on duplicate projects that for air quality, for example, you've got guys in China working on new developments and the same time you've got guys in the U. S. Working on same things.
I mean,
how do you really manage that complexity?
Well, we have our Senior Vice President from Research and Development that are managing the overall structure relative to how we do things. And there is very little duplication. And if you think about the science based of it, research and development, you think about research, there is 4 centers around the world that are doing the research. There's only 4 of them. Then you have locally, you will have capabilities for development.
And that's a combination of the local business and the global division in order to manage that. So that's not duplication. And sometime to be honest, sometime you can see duplication, but it's very, very seldom. And I think the advantage for us is sometime when someone is on something and find a solution for local market, we can replicate that out of places. So will there be duplication sometime?
Yes, I'm sure there will, but it's not much at all. And I think the evidence is there in terms of the outcome of the result.
Excellent. Keep up the good work guys. Thank you.
Take care. Thank you.
Our next question comes from the line of John Inch of Deutsche Bank. Please proceed with your question.
Thank you. Good morning, everyone. Good morning, John. Good morning, Ingo. So, can we talk about investment spending in the quarter?
I guess I thought you were going to be doing about $100,000,000 and you did 48, but maybe that was $100,000,000 over 2 quarters. Maybe Nick could what's going on there?
Yes. For the total year, we're on track for the total investment spending. We ended up having 40 mid-forty million dollars for investment spending for the Q3. It's roughly a fifty-fifty mix of some of our footprint actions and the accelerated growth investments. And we're continuing to execute that plan.
It's going according to the expectations we had for how this would play out for 2017. So, I don't see it as I see it tracking just as we've planned it for the year.
So Nick, you didn't spend less than you had planned in the Q3 and that's
I can I'll put it in sense, earnings per I
can I'll
put it in cents earnings per share terms that will be $0.06 to $0.10 or roughly $70 to $110,000,000 of total incremental strategic investments. That will be more heavily focused on footprint than on growth because on the growth side, John, we're starting to lap ourselves with some of the growth investments that we started later in 2016.
So $70,000,000 to $100,000,000 that's incrementally year over year, correct? That's what you mean?
That is correct, John.
It looks like inventory and receivables sort of sequentially as a function of sales maybe have moved up a little bit. Is that I'm presuming that's as a short cycle company, this is a response to channel fill. What is that? Is that new products that you're pushing through? Or is that actual pull through from it could be a variety of sources?
You're obviously a giant company, so it's hard to sort of parse that out. But what in fact is going on there? Is that just reflective of the global economy accounts
receivable balances going up. On the inventory, accounts receivable balances going up. On the inventory, that's also a function of the growth. The only thing on top of that I'd add is, in the case of our business transformation effort, as we prepare to go lives in different geographies around the world, one of the things we typically do is build some inventory in advance for our customers to ensure we can have an undisrupted supply chain for them. That's a little bit of what we're seeing right now.
But I think important, John, is there's no channel filled by definition. We don't see anything in the channels that is abnormal for us. So I think that's important to put in place as well.
Well, if anything, to your point again, consumers should have actually had channel down downfill, right? So, is that still going on? And what was price in consumer, by the way?
We don't typically put our price out by business group. And in the case of channel in the U. S, in the office supply channel, we are continuing to see contraction there, just not at the same level that we were seeing in the first half of this year, John.
Okay. I'll just ask one more because that electrification of vehicle thing took up 17 questions. Gross margins, why are they down again this year for the 1st 3 quarters versus last year? Like what's ultimately going on in the gross margin complexion of 3 ms today based on your businesses you're spending versus last year? Why are they down?
And do you think they will actually start to pick back up? Or is this all going to be about the OpEx management?
John, I think you must be looking at our gross margin on an all in published basis. Part of what we've been doing this year is we have been doing a number of these supply chain footprint actions. Those costs are impacting our gross margin. When we strip that out, we are continuing to see slightly improving gross margins for 3
ms. When does that alleviate? When do you start to look at kind of that trend?
In terms of our view on supply chain footprint actions, we originally laid out a year and a half ago that we expect between $500,000,000 $600,000,000 of investments. We have done the majority, more than half of that in 2017. So there will still be some footprint action expenses that we see in 2018. It will just be on a lower base than a lower level than what we've seen in 2017. So it will flip to become a tailwind for us from a margin perspective in 2018.
Got it. Thanks very much. Appreciate it.
Our next question comes from the line of Joe Ritchie of Goldman Sachs. Please proceed.
Thanks and good morning everyone.
Good morning Joe.
So maybe touching on organic growth, clearly really nice quarter and good acceleration. I guess if you
look at the Q4 kind
of implied guidance of call it like roughly 3.5% to 4%, percent. Little bit of a deceleration, still good growth, but I'm just wondering like maybe you guys can comment on exit rates through the quarter and whether you're seeing anything interesting in the current rates?
Joe, in terms of trends that we saw throughout the Q3 and continuing into the 1st 3 weeks of Q4, we're seeing no change in trend. What you may be noticing in our guidance for the year is the Q4 will be our toughest comp for the entire year, but we're seeing no underlying deceleration in the trajectory of our sales revenue.
Got it. And maybe following on there, Nick, as the quarter progressed, was there any change throughout the quarter? Or was the quarter just pretty even throughout?
Joe, it was pretty strong throughout the quarter. It's there was no discernible trend between the different weeks or quarter months of Q3. It's very even and strong throughout the quarter.
Got it. Okay, great. And then maybe just shifting gears a little bit to capital allocation. Clearly, Safety and Graphics over the last couple of years has been an area where you guys have invested. Looks like you're taking down the buyback a little bit this year.
I'm just wondering, as you're thinking about M and A across the portfolio, perhaps maybe prioritize where you think you guys should be putting your M and A dollars moving forward?
Well, I think first of all, the pipeline for all businesses is very good. And as you correctly have illustrated it, we have done acquisitions in safety and in graphics specifically, but also in Healthcare even if they have been small. I'm now talking the last couple of years. I think Safety and Graphics as a business group now with capital safety added in and now Scotts safety coming on the base that we have for our very strong franchise in personal safety, we're in a good position there to continue to accelerate that growth. And I would say that we have interest in all five business groups in order to do some additional thing.
But as I said, we have now to make sure in Safety and Graphics that we focus everything in order to execute the implementation and integration of those businesses. But more than that, we are open to see where we can add businesses that is strategically important for us and that are aligned with our 4 fundamental strengths, which is technologies, manufacturing capabilities, geographic reach and brand equity. So if we can drive faster return and fast return for ourselves to those four fundamentals and they are on a strategically good position in our portfolio. We are very interested.
Ingo, maybe how much of
a limiting factor right now is valuation?
I think always it's not now. There's always whenever you talk about that, there's always a limitation to it, right? And I think it's important for you to really decide on where would you like to make it strategically, right? So you can see some of the acquisitions we have made. We have looked upon the real value it can add to us.
And then we have paid for it, right? We are in my mind, we are a world class company. We are interested to buy world class companies that we can integrate and drive forward. So then you need to pay a little bit more, but not too much.
Okay. Thanks, guys.
Thank you. Thank you.
Our next question comes from the line of Steven Winoker of UBS. Please proceed.
Thanks. Good morning, guys.
Good morning, Steve.
I'll just keep it to 2 questions. The first one, Inge, you know 3 ms has faced, I think, a lot of skepticism around its ability to hold Healthcare operating margins over time. So far, you've proven that skepticism wrong. And as we're facing yet another sort of high level margin before the strategic investments for the quarter. So maybe comment a little bit on the pressures in Healthcare globally and how you're withstanding that and your conviction going forward in the business' ability to continue to do that over time?
Yes. I think you're right. First of all, we have been in this business for a long time. It's a very attractive business to be in for reasons that we all know, the aging population trend, etcetera. I think the important thing is that you're able to provide at least 2 things.
1 is a benefit for the patient and second, a benefit for the provider. And our portfolio is steered right into those two things. That is what we do. And when you can add value even in an area like health care, which is very different than industrial, you will be able to win in those segments. I don't know if you know, but I know that I was part myself of health care back in Europe in the early '90s, 'ninety one to 'ninety five specifically.
And there was a lot of pressure then through the German Health Care Act. And what we had to do then was just again, to prove the value for patients and for the provider and ourselves to be very efficient in the model in terms of manufacturing capabilities and logistics. And that's what we are doing. So when you look upon that specific business in terms of our growth rate, our margins, our cost of goods sold on SG and A, it's almost a perfect model for how you should do business in my mind. And you look upon that and you compare that to Safety and Graphics, they are soon at the same point.
Not at high margins, but you can see the growth rate and very respectable margins of 25 plus percentage. It's again businesses that are regulated. It's about safety. It's about making sure that the patient or the worker always get the best, and people pay for that. And if you see health care, the acceleration we had in developing economy was 12%.
The issue in developing economy is never quality, it's money. And as soon as the money is becoming available, 3 ms is one of the first products they will purchase into the system based on key opinion leaders around the world writing papers of what is the best outcome in the treatment for patients. Okay.
That's helpful. And then secondly on, I think a question also that you've tackled repeatedly, but given once again the strength in the quarter that's showing up, any thoughts going forward about revisiting, taking on incremental leverage for growth investment going forward? You're, I think, below 1x net debt to EBITDA.
Yes. Steve, you know our guidance of what we laid out for leverage over the course of 5 years that we expect to add between $10,000,000,000 $15,000,000,000 of leverage over that time. We've made progress in 2016 and progress on that in 2017 on that path. There's nothing changing on that front of seeing the
Our
Our next question comes from the line of Nigel Coe of Morgan Stanley. Please proceed. Thanks. Good morning, gents.
A couple of other grounds, I'll keep this very brief. So we've tackled the question on sustainability of organic sales. And obviously, your 4Q guidance doesn't seem it continues. But I'm just trying to understand what caused the acceleration. And I know that there were some timing differences on days in 2Q.
But do you have any intelligence in terms of the portfolio in terms of sell in versus sell through? I know I can see that you got good data, but what about more broadly in industrial and health care channels, sell in versus sell through? And were there any pricing increases or rebate concessions that maybe might have distorted the quarter? Or was this really just good end market demand?
This is good commercialization and market demand that we capitalize on. On sell in and sell out is often talked about relative to the retail and consumer lines, and there was no difference in this quarter for us relative to sell out and very much the same in terms of selling as well, specifically in the office supply channel. But there is nothing here in terms of us pushing something into the system in terms of any specific activities. As Ana said earlier, we our business model is around creating value for the end customer and for the OEMs in the industry. So there's nothing else here that is pushing the growth up.
And as you can see, it's broad based. If you think about we have EBG of 13%. We have Healthscope 7, IBG and Safety Graphic at 6% and then Consumer 2%. And you look upon geographically, APAC 13%, and if you take out electronics, it's still 8%. And then you have Latin America, Canada, 5% United States, 4% and Europe, so East Africa, 4%.
So it's broad based and it's all businesses, which is very, very encouraging for us.
No question. That's great detail. Thanks, Inger. And then Nick, on the rules, the $0.03 of benefit in 3Q, obviously, great job by the team. What is your plan in bed for 4Q just given the inflation we've seen post hurricane?
Nigel, could you repeat that? The $0.03 benefit from what?
Raw materials.
From raw materials. We think that will be flat to some benefit for us in Q4 and probably a little bit of a mix dynamic there. As I said, we've seen pricing continuing to benefit. So from a price raw material, I think we'll still see increasing benefit from our selling prices. On the raw material benefit, we continue to see that as a tougher and tougher comp for us.
Up until now, it's been offset by the projects we're doing, as I mentioned earlier. That will likely sustain, but I wouldn't be surprised if the benefit from that came the net benefit came down slightly in the Q4.
Got it. Okay. Thanks guys.
Our next question comes from the line of Deane Dray of RBC Capital Markets. Please proceed.
Thank you. Good morning, everyone.
Good morning, Dean.
Hey, I know we're into overtime here, so I'll keep it to one question. Can you talk about oral care in the U. S. And how are you impacted by the ongoing distributor changes that's been causing stocking and restocking? And might you have picked up any more market share during this commotion?
Yes. Dean, I wouldn't say that we're in a position where we're declaring that we've picked up market share in the recent months or quarters. I would say this is a strong global business for us and we are we see lots of demand for our oral care solutions around the globe. The U. S.
Is down slightly in our oral care business and it's a business where we haven't seen quite the channel fluctuations that you might be talking about. It's been pretty stable for us. The biggest driver for us in our Oral Care business is our demand in emerging markets and other parts of the world.
Thank you.
Okay. And our next question comes from the line of Laurence Alexander of Jefferies. Please proceed with your question. Hello, Mr. Alexander.
Your line is open. Please proceed with your question.
So good morning. So two quick ones, if I may. The soft spots in your business, the stationary in the office and the commercial solutions in the safety and protection. To what extent are those still core? Or how do they fit in the macro driven, megatrend driven, science based growth that you were describing earlier?
And secondly, what are your criteria for adding new materials to your 46 technology platforms?
Yes.
Well, if you relative to the 2 divisions, if you start with a division in Safety and Graphics, that's a division that have a very strong position with films. That is one of our core technologies. If that is in this case, it's film for decoration, for brand equity building, but it's also the same type of, I would say, equipment and asset we're using for all our light management businesses. So that's a business that is very strong for us. And if you look upon the underlying capabilities in order to produce those products, that's core to 3 ms.
So there is no question around that business. Office and supply either. That is where you have the Post It. That's where we have the Scotch tape, etcetera. So those are brand equity, big businesses that we earn good money with and our customers own very, very good margins with them as well.
So if you think about that from a perspective, also those businesses in stationary products, they are based on technologies that are very solid for 3 ms as an enterprise. So it's not even a question relative if they belong to 3 ms or not. So that's that answer. In terms of the building out technology platforms, no, we have 46, as you said. In some cases, if we need to build out something, we will look upon that.
And I think the latest we have a couple of them during the last couple of years. 1 is the ceramic business, where we bought one company that, in fact, had a defense business of around $450,000,000 So we purchased that. What we really purchased was actually a technology platform that will deepen and broaden what we already had ourselves in the ceramic and that, that could be used for many, many, many divisions. And we did one in Brown now that is filter capabilities that we built into filtration and nonwoven capabilities, etcetera. So if we see a need to add something that we not can do ourselves or take too long time for us, we will go out and look for that.
But again, it's built on the demand from the market and where the market is going for the future. Is not offsetting internally and look upon what we are doing and yet try to see what we should add.
That concludes the question and answer portion of our
Thank you. To wrap up, our team executed very well across the enterprise and delivered another strong performance in the 3rd quarter, including robust organic growth, increased earnings per share and rising margins. The 3 ms playbook is in New York on December 12 for outlook meeting. Have a great day.
Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and then ask that you please disconnect your lines.