Q3 2022 3M Co Earnings Call
With me today are Mike Roman <unk>, Chairman, and Chief Executive Officer, and more niche Buttala Walsh, our chief financial and transformation officer.
Mike <unk> 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 the homepage of our Investor Relations website at three a M dot com.
Please turn to slide two.
Please take a moment to read the forward looking statement.
During today's conference call, we'll be making certain predictive statements that reflect our current views about <unk> future performance and financial results.
These statements are based on certain assumptions and expectations of future events that are subject to risk and uncertainties.
Item one a of our most recent Form 10-K lists some of the most important risk factors that could cause actual results to differ from our predictions.
Please note throughout today's presentation, we'll be making references to certain non-GAAP financial measures.
Reconciliations of the non-GAAP measures can be found in the appendix to these slides and then the attachment to today's press release.
With that please turn to slide three.
Now I'll hand, the call off to Mike.
Mike.
Thank you Bruce good morning, everyone and thank you for joining us.
We continue to execute our strategies to deliver for our customers.
<unk> three of them for long term growth and manage legal matters.
Our team posted organic growth of 2% or more than 3%, excluding the impact of the decline in disposable respirator sales along with adjusted margins of 21, 5%.
Adjusted EPS of $2.69.
And $1.4 billion of adjusted free cash flow.
While the global economic outlook is softening our businesses continue to innovate for customers and capitalize on opportunities.
Transportation and electronics posted 3% organic growth with.
With safety and industrial consumer and healthcare each growing 2%.
All business groups delivered margins above 21%.
With notable margin expansion in safety, and industrial and transportation and electronics.
Looking geographically organic growth was led by APAC up 3%.
With China up 8% benefiting.
Benefiting from backlog recovery following the Covid related lockdowns in the second quarter.
The Americas were up 2% with a U S flat against 6% growth in last year's Q3.
Growth in EMEA was flat as we navigate the ongoing geopolitical unrest across Europe .
At the same time, we drove operational improvements to address inflation and supply chain challenges.
We are delivering strong pricing managing costs, and reducing inventory backlogs, while maintaining a relentless focus on serving customers for.
For example, we recently invested in a new shipping consolidation center in South Carolina.
Which is reducing average cycle times for exports to Asia by one to two weeks.
Some of our actions have impacted near term margins, but we will continue to do what is necessary to take care of customers.
Going forward, we see a significant opportunity to reduce cost of goods sold and working capital as global supply chain improve.
Which includes leveraging data and data analytics to drive productivity in our plants.
With respect to guidance today, we are updating full year expectations to reflect our results through nine months.
Along with the continued strengthening of the U S dollar.
And ongoing macroeconomic and geopolitical uncertainty.
For organic growth, we are lowering the high end of our range to one 5% to 2%.
Against the prior range of 1.5 to three 5%.
We anticipate adjusted EPS of $10.10 to $10.35 against.
Against the previous expectation of $10 32.
$10.80.
We are also updating our range for adjusted free cash flow conversion to 85% to 95% from 90% to 100% previously.
To strengthen three of them for the future, we continue to invest in growth productivity and sustainability.
For example, while we see near term softness in consumer electronics, we are investing in electronics segments that are seeing strong growth include.
Including new solutions for automotive displays.
And virtual and augmented reality.
We are rolling out new thermal management solutions to improve electric car batteries, one element of our work to advance more sustainable vehicle designs.
And earlier this month, we introduced a new posted app for Microsoft teams that helps people collaborate and hybrid environments as we execute our digital strategy and re imagine our products.
We're also innovating to make our operations safer more efficient and more productive.
At our plant in Alexandria, Minnesota, we are leveraging three am disruptive technologies to transform our abrasive belt converting process through and and automation.
Improving labor productivity by 32%.
Eliminating nine high risk tasks and saving nearly $1 million annually.
Many more similar projects are underway across our global operations driving safety and savings.
In sustainability, we have installed a new state of the art water filtration system and Cordova, Illinois.
We now have all three of our largest water using sites in the U S utilizing industry, leading filtration technologies.
Following through on the $1 billion sustainability commitment we made last year.
At the same time, we are positioning three of them for long term success by actively managing our portfolio complementing all we do to strengthen our enterprise organically.
Last month, we completed the divestiture of our food safety business, which unlocks value and further strengthens our balance sheet.
We received approximately $1 billion and reduced our outstanding share count by $16 million.
In addition earlier this month, we divested two of our skincare brands in South East Asia, enabling.
Enabling us to prioritize other parts of our consumer portfolio.
We have also established a dedicated team to seamlessly execute our health care spin off.
We are confident in our plan to create two world class public companies with greater focus and.
And better able to drive growth and innovation.
Before turning the call tomorrow niche I would like to provide an update on litigation, which I know is top of mind.
Combat arms, the Arrow technologies chapter 11, proceeding is active and progressing.
And we believe it is the best path to resolving claims and an equitable efficient prompt and permanent manner.
That continues to be our goal a resolution that is equitable and more certain for all parties.
Arrow is participating in a confidential mediation process focused on reaching a comprehensive settlement.
And three of them are supporting those efforts.
Arrow has also appealed the bankruptcy courts decision in August not to extend the stay of litigation to three of them in.
And the seventh circuit has agreed to hear the appeal.
And the M D. L. The next trial is scheduled for February of next year.
We also continued to actively manage P fast litigation.
Earlier this month, we reached a settlement with the city of Gadsden, Alabama related to carpet manufacturing.
The first a triple up M. D. L trial is now scheduled for June of 2023.
In summary, we continue to deliver for customers and an uncertain environment.
I, thank our employees for their contributions and commitment, especially as we continue to lead through significant change in position three of them for the future.
We will stay focused on driving growth, improving operational execution and delivering greater value for customers and shareholders.
I will now turn it over to more niche for more details on the quarter Monish.
Thank you, Mike and I wish you all a very good morning.
Let's turn to slide four.
Overall, the three M team delivered third quarter sales and operating margins that were very much in line with my comments at a conference in mid September .
But some puts and takes as consumer and consumer electronics demand declined as the quarter progressed, while industrial end markets demand remained steady.
Third quarter total sales were $8 $6 billion are down three 6% year on year, which included headwinds off 5.1% or $450 million from foreign currency translation, and 50 basis points, a $50 million from the divestiture of food safety, along with the deconsolidation of Aero technology.
Yes.
On an organic basis third quarter sales increased 2% versus last year. This result includes an anticipated falloff in disposable respirator demand, which negatively impacted organic sales by approximately $130 million of one full percentage point.
Excluding the decline Q3 organic sales growth was three 4%.
On an adjusted basis third quarter operating income was $1 $9 billion with the operating margins of 21, 5%, which were up 40 basis points year on year, and 50 basis points sequentially.
Adjusted earnings for the quarter were $2.69 versus $2.58 last year.
Turning to the components that impacted third quarter operating margins and earnings year on year performance.
As you may recall during our Investor day. This past February we laid out our operating framework and operating principles that included daily management data democratization transparency and accountability.
We continue to make progress on the consistency of application of this framework.
By embracing these principles along with taking self help actions the team executed well in the quarter as we continued to navigate the fluid and uncertain macro and geopolitical environment.
We continue to focus on serving our customers and drive additional actions, including recovering our sales backlog in China from the April and May Covid related lockdowns implementing appropriate selling price actions to address ongoing inflation, maintaining strong spending discipline implementing target.
Productivity actions to adjust businesses to end market demand trends, while driving simplification and continuing to invest in growth productivity and sustainability to ensure we are all well positioned for long term success.
These actions helped to more than offset a number of headwinds in the quarter, including the decline in disposable respirator sales, which negatively impacted Q3 operating margin by 30 basis points and earnings by seven cents a share.
Incremental end market softness, particularly in consumer electronics, along with oral care in consumer retail in the U S. S. Persistent inflationary pressures are slowing consumer spending.
Ongoing global supply chain challenges and raw material constraints, and finally geopolitical impacts, particularly in Russia, which was a year on year headwind of $50 million to revenue and three cents to earnings per share.
In total our operating framework and self help actions resulted in an overall net benefit to operating margins of two nine percentage points in 41 cents to earnings.
Moving to raw material and logistics inflation.
As I have noted over the last several quarters inflationary pressures remain persistent in our broad based.
Therefore, we continue to experience year on year headwind with the Q3 cost increase of approximately $225 million or a negative impact of two six percentage points to operating margins and 31 cents to earnings.
Our full year raw material and logistics inflation estimate of $7 $50 million to $850 million remains unchanged and as we have said before we continue to expect to offset this through pricing actions.
The strength of the U S. Dollar continued to affect total revenue as foreign currency translation was a negative 5% impact as a result, we had a benefit of 10 basis points to margin. However incurred a headwind of 12 cents to earnings per share.
As Mike mentioned, we have been actively managing our portfolio.
On September 1st we closed the food safety divestiture, resulting in approximately $1 billion in consideration received along with reducing our outstanding share count by 16 million why an exchange offer.
However, we lost one month of sales and income from food safety in the quarter. Therefore, the loss sales and income from food safety, along with the deconsolidation of Arrow technologies resulted in a year on year headwind of two cents to earnings per share in the quarter.
Finally, other financial items increased earnings by a net 15 cents per share year on year, driven equally by benefits from a lower share count along with the lower than expected tax rate.
The lower third quarter adjusted tax rate was primarily the result of favorable outcomes from prior year audit settlements and geographic income mix.
Looking at the full year, we now expect our adjusted tax rate in the range of 17, five to 18, 5% versus 18 five to 19, 5% previously.
Please turn to slide five.
Third quarter adjusted free cash flow was $1 $4 billion with conversion of 88% an improvement from first half performance as we drive working capital intensity, including improved inventory levels, while also increasing capex for growth and sustainability investments.
We remain focused on working capital improvement as we continue to navigate through a fluid supply chain environment.
Even though the environment remains challenging we are realizing benefits from our efforts as we leverage the use of data and data analytics to reduce inventory levels through better demand planning and optimized customer payment terms.
We expect to continue to realize benefits from our actions as we move forward.
Capital expenditures were $435 million in the quarter and $1 $2 billion year to date are up 19% year on year as we continue to invest in growth productivity and sustainability.
Based upon the current status of supply chains and pace of projects. We now expect full year Capex investments in the range of $1 75 to $1 $85 billion.
During the quarter, we returned $1 billion to shareholders through the combination of cash dividends of $850 million and share repurchases of $155 million.
On a year to date basis, we returned $3 $5 billion to shareholders, including $2 $6 billion in dividends and $900 million and share repurchases.
In addition, we introduced our outstanding share count by 16 million why an exchange offer associated with the food safety divestiture.
Both dividends and share repurchases remain important pillars of our capital allocation strategy.
We continue to see the current value of the stock is a very attractive opportunity and have resumed share repurchase activity following the food safety divestiture.
Having a strong balance sheet and capital structure remains a priority for three of them because of the flexibility. It provides us to continue to invest organically in the business pursue strategic M&A opportunities and return cash to shareholders, while navigating legal matters.
Net debt at the end of Q3 stood at $12.1 billion down 3% year on year and down over 30% since 2019.
Please turn to slide seven for our business group performance for Q3.
I will start with our safety and industrial business, which posted sales of $2.9 billion or up one 7% organically compared to last year's third quarter.
This result included a year on year headwind of approximately $130 million due to the ongoing decline in demand for disposable respirators.
Excluding disposable respirator safety and industrial posted Q3 organic growth of over 6% driven by broad based performance along with the backlog recovery in China from the April and May Covid related Lockdowns.
Our personal safety business declined low double digits organically, primarily due to the decline in COVID-19 related disposable respirator demand.
Turning to the rest of safety and industrial organic growth was led by low teen increases in both automotive aftermarket and roofing granules.
Electrical markets and Abrasives grew high single digits by closure and masking systems, and industrial adhesives and tapes delivered mid single digit growth.
Operationally the safety and industrial team drove strong execution during the third quarter delivering adjusted operating income of $673 million up 8% versus last year and up 7% sequentially versus Q2.
Adjusted operating margins were 23, 2% up two five percentage points as the team manage inflation with price actions drove yield inefficiency and exercise strong spending discipline.
The safety and industrial business group continues to focus on investing for the future, including a digital platform such as repair stack for connected automotive body shops, and sustainable platforms like domo barriers for auto electrification.
Moving to transportation, and electronics, which posted sales of $2 $2 billion or up 3% organically compared to last year.
Overall growth was benefited by Covid related backlog recovery in the greater China region, which was partially offset by increased weakness in consumer electronics demand along with the continued constraints in the semiconductor supply chain.
Our electronics related business declined mid single digits organically with decreases across consumer electronics, particularly smartphones tablets and Tvs.
These declines were partially offset by continued strong demand for our solutions and semiconductor factory automation and automotive end markets.
Organic sales in our auto OEM business were up 21% year on year as compared to an estimated 27% increase in car and light truck builds.
As you May recall, we outperformed last year's Q3 build rate by nearly 20 percentage points as the benefit from a channel inventory build which was unwound in Q4 last year.
Turning to the rest of our transportation and electronics.
Russia solutions grew organically high single digits, while advanced materials grew mid single digits and transportation safety was down low single digits.
Despite the continued fluid end market environment, the transportation and electronics team delivered strong operating performance.
Third quarter operating income increased 9% to $474 million with operating margins of 21, 2% up two five percentage points year on year.
Operating margins were benefited by price actions as we navigated inflationary pressures along with the strong spending discipline.
The transportation and electronics business group is investing to solve some of the toughest challenges in the market and executing for future growth for.
For example in Q3, we opened a new battery component testing lab to support accelerating opportunities in automotive electrification.
Looking at our healthcare business, which delivered Q3 sales of $2.1 billion with organic growth of one 7% versus last year's strong 8% comparison.
Our medical solutions food safety separation and purification and health information systems businesses, all increased low single digits organically.
While we did have organic growth and separation and purification year on your Biopharma was down in the U S. Due to last year's strong demand for Covid therapeutics.
Third quarter elective medical procedure volumes were approximately 90% of pre COVID-19 levels as we saw activity dip in July and ramp back up as we went through the quarter.
Fourth quarter procedure volumes are currently projected to be 90% to 95% of pre COVID-19 levels as labor shortages continue to impact the pace of recovery.
Oral care was down mid single digits against low double digit growth from a year ago.
We are also seeing softening due to the ongoing inflationary pressures impacting consumer spending on discretionary oral care and orthodontic procedures.
Health Care's third quarter operating income was $452 million down 11% year on year.
Operating margins were 21, 8% down one seven percentage points with adjusted EBITDA margins of over 29%.
You are on your operating margins were impacted by increased raw materials and logistics costs, along with manufacturing productivity headwinds.
These impacts were partially offset by price actions and spending discipline.
The health care business group is focused on delivering innovation, including investments in the launch of three M field Tech matrix, which creates a new and innovative approach for dental restorations, simplifying the procedure and enabling more natural tooth structure to remain.
In addition, the team made capital investments to support manufacturing capacity expansions in the separation and purification and medical solutions business.
Lastly, our consumer business posted third quarter sales of $1 $4 billion or up one 5% year on year on an organic basis versus last year's 8% comparison.
Year on year growth in the third quarter was led by consumer health and safety, which was up mid single digits organically and stationery and office and home care, which both grew low single digits.
Home improvement growth was down low single digits organically versus last year's strong comparison.
However increased mid teens sequentially.
The back to school season was softer than expected as consumer spending continues to be impacted by ongoing inflationary pressures.
Along with retailers aggressively addressing elevated inventory levels.
Looking ahead, we anticipate these impacts to continue throughout the upcoming holiday season.
Consumers third quarter operating income was $299 million down 3% compared to last year with operating margins of 21, 3% down slightly year on year.
Our consumer business operating margins benefited from selling price actions spending discipline and restructuring actions. These benefits were more than offset by increase in raw materials logistics and outsourced hard goods manufacturing costs and manufacturing productivity headwinds.
The consumer business group is executing for future growth, including expanding our command platform to help consumers.
Hang organize and decorate and even more creative ways.
Please turn to slide nine for a discussion on our 2022 outlook.
The macro environment remains uncertain with mixed trends and signals across geographies and end markets.
While we are working through these challenges and taking action we are updating our full year guidance, reflecting our year to date performance.
Increasing U S dollar strength, along with the continued fluid environment.
Our updated 2022 full year outlook includes organic growth in the range of 1.5% to 2% versus our prior range of 1.5% to 3.5%.
Adjusted earnings in the range of $10.10 to $10 35 versus a prior range of $10 30 to $10 80.
Which includes an additional headwind of <unk> 15 per share from foreign currency exchange compared to just three months ago.
And adjusted free cash flow conversion to be in the range of 85% to 95% versus our prior range of 90% to 100%.
Before I wrap up let me make a few comments regarding the fourth quarter.
First from an end market perspective.
G D P. In IP I continued to moderate with current Q4 estimate of one 4% and two 2% respectively.
We are closely monitoring the geopolitical environment in Europe , and the impact on energy inflation and end market demand.
Auto build rates are currently estimated to be up 2% year on year, while consumer electronics demand is expected to remain soft.
Health care elective procedure in oral care volumes I expect it to be in the range of 90% to 95% of pre COVID-19 levels.
And lastly, we anticipate continued inflationary impacts on consumer spending along with the inventory reduction actions at retailers.
Therefore, looking at the fourth quarter.
We expect total sales to be in the range of seven 9% to $8 $2 billion.
This includes organic growth in the range of 1% to 3%, which includes a 2% headwind of $150 million to $200 million from the continued decline in disposable respirator demand.
And the exit of Russia, which will create a year on year headwind of approximately 80 basis points to approximately $70 million.
Excluding the impact from these two items Q4 organic growth is estimated to be nearly 4% to 6%.
Increasing U S. Dollar strength is anticipated to be a year on year headwind of approximately 7% of sales are roughly $600 million.
The divestiture of our food safety and deconsolidation of Arrow technologies, but it resulted in a Q4 headwind of approximately $120 million with sales of one 5%.
Turning to raw materials and logistics costs, we anticipate our Q4 year on year headwind of approximately $100 million to $150 million, which we expect to able to navigate and offset the price actions.
Operating margins are expected to be in the range of 20% to 21%.
And finally, our outstanding share count is currently anticipated to be in the mid 550 million share range, taking into account the 16 million share count reduction that I mentioned earlier.
Looking ahead for 2023, while we are in the early stages of booking through a plan B C. Some items impacting us this year that could continue into next year, while some challenges may ease.
We expect the macroeconomic environment to continue to moderate while geopolitical uncertainties persist impacting energy costs and end market demand, particularly in Europe .
We're also monitoring the impact of the strong U S dollar along with evolving COVID-19 related impacts, including on government policy response health care elective procedure volumes and disposable respirator demand.
Looking at end markets, we expect the pace of secular industry trends to accelerate.
Particular in automotive electronics.
<unk> Digitization and sustainability.
Each of these markets are tremendous opportunities for long term growth as we continue to innovate and invest in these areas.
Raw material logistics and labor inflation is starting to show some signs of moderation and we are starting to see some evidence of global supply chain stabilization.
As Mike mentioned, we believe manufacturing and supply chain operations at our greatest opportunity to reduce cost and increase productivity to drive improvement in operating margin performance.
While significant uncertainty is expected to remain we are focused on serving customers and executing our operating framework and operating principles.
We are prepared and will adjust as warranted and take necessary self help actions to deliver long term value for all our stakeholders.
And finally, we are also working on ensuring we execute well on our healthcare spin to create two leading world class companies.
As always there is more we can do and will do.
To wrap up I want to thank our customers and suppliers for their partnerships and three employees for their hard work and dedication as they continue delivering for our customers.
That concludes my remarks for the third quarter.
With that we will now take your questions.
Ladies and gentlemen, if you like to register for a question using a landline phone. Please press the one followed by the four on your telephone keypad.
You'll hear us sweet home prompt to acknowledge your request.
If your question has been answered and you would like to withdraw your registration. Please press the one followed by this week.
If you're using a speaker phone please lift your handset before entering your request.
Please limit your participation to one question and one follow up.
One moment, please while we compile the Q&A roster.
Yeah.
Yeah.
Our first question comes from Scott Davis with Melius Research you May proceed with your question.
Hey, good morning, Mike and Bruce Good morning.
<unk>.
You guys were pretty clear about the end market.
Outlook and stuff can you just take a step backwards and walk around the world.
Just by region on where things are getting better or worse, or where things coming in a little bit better or worse than expectations and I guess, that's the owner. So the question is some of the results. We've seen so far it's been a little bit better in Europe , and China then.
I expected, but you guys noted some.
Some cautious comments, there, but I'll just stop there and let you guys give some color sure Scott maybe I'll kind of walk around the regions to give you a little more color than my opening comments highlighted where we're growing in each region.
Art with the Americas and as you look at it we saw the strongest growth for us in automotive and in areas like electrical markets and and our electronics markets and material solutions. We saw declines in personal safety Monish highlighted the separation and purification coming off the comparison to the Covid.
Demand and in vaccines and therapeutics and then we highlighted the softer consumer spending in oral care both.
The orthodontics and in Chairside dentistry.
Looking at EMEA, we saw it up slightly this quarter. It was slightly negative in Q2. So you know slightly up this quarter strongest growth there in automotive to so you're seeing a trend the strong Q3 for automotive globally, we saw declines in personal safety and oral care coming off Covid for personal safety and some of the similar dynamic.
In an oral oral care.
APAC growth again led by automotive personal safety was strong in APAC, we saw.
So strong strengthen and industrial portfolios more broadly something that we saw in the quarter and the safety and industrial business ex personal safety had strong growth in the quarter organic growth.
The decline was in electronics in APAC. We also saw some impact from some of the declines in areas like transportation safety and then on China.
The Big story was the recovery from the Lockdowns in Q2, and then also the declines in display materials and broader electronics as you saw the declines in consumer electronics impacting that we were we did see strength in personal safety, we saw strength in automotive we saw strength in broader industrial so.
Kind of a similar story across the areas little different growth dynamics, but similar story and we.
We.
I would say we finished the quarter with our industrial business is showing some strength.
We saw.
Strength in the automotive the softening in consumer electronics those are some of those trends that played out across the world and then electric procedures starting to see.
Seeing the same trend improving but not back to pre COVID-19 levels in terms of electric procedures. So again trends that we're seeing across the different regions.
Okay. That's super helpful. And then just to be clear, Mike is price, where you want it to be right now or are we kind of at a fairly balanced.
The level of us versus cost and that's no longer a major issue.
Yes, Scott.
Talked about that as we've gone through the year.
Set at the beginning of the year that we were confident price would help us offset inflation as we came through the year and that's been the case so our pricing as you know, it's it's one component of our value in the marketplace. The other is managing the inflation that we've been seeing the globally and we have been I think managing that price.
Miss against inflation, well, all year, and we're well positioned as we go into the end of the year.
Okay Super helpful. Best of luck. Thank you guys.
Thanks Scott.
Our next question comes from Andrew <unk> with Bank of America. You May proceed with your question.
Hi, guys good morning, Andrew.
Just a question on sort of longer term question for you guys.
How are you guys thinking.
About inflation into 'twenty, three and specifically I know you guys no longer disclose pricing, but just trying to understand.
How are you thinking about the pricing mechanism of three and how are you adapting to what's happening and do you think we're going to get into less inflationary environment or from what you were seeing inflation is pretty sticky into next year.
Andrew It's a great question at all as I mentioned in my opening remarks, we are still early in looking at 2023, what we are seeing is a little moderation in inflation.
But it has not been consistent and persistent we are seeing inflation is pretty much still broad based in areas that we are seeing is logistics has seen some.
Slowdown in the pace of inflation. However, if you look at intermediate finished goods, they're still pretty high and so the specialty raw materials.
So I would say if you just look at what inflation, we had in the third quarter with $225 million in the fourth quarter. We are seeing somewhere between 102 hundred $50 million. So theres a little moderation I think what time will tell us whether 'twenty 'twenty three we are able to see sustained.
Lower prices and I think that'll be good for all so that's one to answer your question on pricing as Mike mentioned in his remarks and mine and even the prior question, we take a very thoughtful approach to pricing nearly 70% of our pricing is or our products are pretty much spec in our products sold.
We take away thoughtful approach, we look at it region by region, we look at it product by product and I would say, we'll have to follow we follow a very thoughtful approach will follow a very thoughtful approach in 2023 also because no. One has seen this historic level of inflation in the recent past so depending on where that goes we'll play that itself out and in the <unk>.
Market, but at the end of the day as Mike mentioned part of our pricing is not just driven by cost. It's also the value that we drive for our for our customers.
And then just a follow up question I'm sorry.
No go ahead go ahead.
Oh, just a follow up question. If you look at our recent stimulus that has been passed in the U S.
A lot of investment a chip tax a lot of investment on semiconductor has a lot of talk about.
Supply chain for semiconductors, particularly things like upstream like substrates.
Maybe moving closer to North America.
Do you guys need to sort of redo your global electronics.
Supply chain.
Given what's happening out there on the regulatory front and stimulus front and just voluntary moves in capacity globally. Thanks.
Andrew and we're watching it closely the inflation reduction act chip sector, they're providing the incentives for manufacturers and others to make investments in and other parts of the world The U S.
In the U S versus other parts of the World I would say, we're assessing the impacts on our customers you know our model I mean, we are we build capabilities in and sufficient resources close to customers around the world. It's a regional model.
And it gives us.
The ability to serve our customers in each region of the world. It also helps us be in position to adapt as supply chain moves and that's been true for electronics as it's moved around Asia in particular and and with these incentives we expect there'll be some changes we don't see a significant impact to our business in the near term, but we do so are global customers and.
<unk> and semiconductor and we'll adjust as they make changes.
But nothing nothing sort of definitive at this point, because we're still waiting.
Early in the process. There are there are announcements there are investments being made and we'll you know we'll stay close to those and we will and we'll make adjustments as we go.
And if you look at the U S. In particular, just as a reminder, we are a net exporter out of the U S. We export $5 billion out of the U S. So it is a place where we've got a strong manufacturing position and that puts us in a position to adjust as as capacity gets invested here.
Thank you.
Okay.
Our next question comes from Joe Ritchie with Goldman Sachs. You May proceed with your question.
Thanks, Good morning, everyone.
Joe.
So although we kept your inflation numbers you know impact for the year I'm. Just curious like are you starting to see any of your cost like start to subside at all and then and then if you could maybe start there.
Give us a little bit of color on what you're seeing from a manufacturing perspective and energy costs in Europe , and how that's impacting your business.
Yeah, So Joe.
I would tell you we are seeing some moderation as you saw inflation was $225 million in Q3, the accounting for 100 to 150 in Q4 that total at $7 50 to 850 has not changed.
We are seeing inflation I would say, it's still generally broad based we are seeing higher inflation in specialty materials as well as intermediate finished goods.
We are seeing a little bit of moderation in logistics.
So that's where we are on inflation and then on supply chain I would say we are also seeing some signs of stabilization, Joe we're seeing raw material slowing a little better than it has flown into prior quarters and you can see that's why the team was also able to deliver a decent productivity and in Q3, we'll have to watch and see whether one.
Is the moderation in pricing of raw materials sustained and secondly is the flow of materials sustained into Q4, and that's going to determine where we go and as Mike has sent said to once we see the stabilization of supply chains and moderation of raw materials, we believe that is.
The best opportunity to have other than volume to keep driving productivity in our factories and through that margin expansion.
Got it that's helpful. And then and then I guess my follow on question would be obviously a lot of uncertainty in the market right now as we're heading into 2023, just maybe talk us through a little bit your recession playbook. How you. How you are preparing yourself for what could be a pretty uncertain year.
Just any color around that would be helpful. Sure. Joe and then you know our model our operating model has been strong in and showing resiliency in many economic cycles, and and it's been clear throughout Covid and and I would say the concern.
The current uncertainty in the markets that we're facing and so we'll continue to do what we do and those cycles that helps us.
React to them, well and position our performance well and not just focus on serving our customers driving productivity efficiencies in our supply chain in our factories and delivering strong cash flow and it keeps us focused on the right actions and we'll we'll stay focused on our end markets to where we are as we've talked about that.
As you know some some different dynamics in each of the end markets, even as we look at the softening global outlook for macro and so we're prepared to adjust and take actions. That's that's our that's our model and it will serve us well as we as we navigate the uncertainty ahead.
Yeah.
Okay. Thank you both.
Yeah.
Our next question comes from Chris Snyder with UBS you May proceed with your question.
Thank you. So I wanted to first ask on the Q4 guide, which puts organic growth largely in line with Q3 levels at the midpoint are exactly in line with the midpoint. Despite a slightly larger respirator headwinds, but can you just provide some incremental color at the for the puts and takes at the segment level as we look into Q4.
Yes, sure Chris as I'll, just start with recapping again, Q4 will just start by saying last year's fourth quarter was our easiest guide our easiest comparison.
Number two is youre right. So disposable respirators, there's going to be down and that creates a headwind of nearly 180 basis points and then the exit of Russia is another $70 million, which gives another 80 basis points of pressure.
So if you exclude all of that you would get to a 4% to 6% increase in organic growth on a year over year basis if.
If you look at where the macro is going to be GDP in ipi is in that two ish range for the fourth quarter auto is going to be up 2% sequentially nearly $2 five depending on IHS forecast approximately 2% up on a year over year basis elective procedures, which were at 90% in July .
Moved itself up a little bit in August and September we believe we'll move up a little bit to 90% to 95%, yeah. So you'll see that uplift.
I would say consumer spending continues to be weak even in the month of October we have seen lower consumer spending I called it out as those trends where the inflation is impacting the consumer I think remains through the holiday season as well as how inventory levels are adjusted by retailers is something that we'll have to watch consume.
Electronics continues to be down on a year over year basis, a little moderation on improvement on a sequential basis, but again, there will have to see where that plays itself out between consumer electronics as well. As then you talk about semiconductor growth continues to be strong we are continuing to see that in the in our.
In our business on the other side of the electronics business and then from a industrial perspective, we've already talked about disposable respirator, but the rest of the end market remains pretty strong in S. E T.
Thank you for that are really helpful. And then the second one just on margins you know if we can.
Look from Q3 margins were up versus Q2 on slightly lower top line is it fair to assume that reflects improving price cost or was there some margin impacts from the portfolio changes during the quarter and if it does reflect improving price cost I mean, what was the expectation that that should continue to improve from here.
Even even if the cost relief might be a little bit down the road.
Yes, so Chris I would say, it's all you know as we look at it and the team has been doing a great job of driving margin expansion and in Q3, you've seen as you said, we continue to see the price cost equation, we have offset or manage that inflation through pricing actions, we've had better yield and efficiency.
Also compared to the second quarter as we saw some stabilization of supply chains third as I called out. We have also the team had a lot of strong spending discipline. It took a lot of self help measures.
Proactively adjusted where we saw end market changed et cetera. So put all that together, we did see a 50 basis points of margin expansion when.
When you think about Q4, if you if you know the in Q3, we did $8 6 billion in Q4, we are saying seven nine to $8 two which is the volume basically gives us the best leverage. So that's why you do see margin come down and historically if you look at three of them also Q3 to Q4, all the way shows a decline because it is a lower volume quarter.
Four three M to answer your question on what happens at the long term I would say, Chris the same as I've said in my prepared remarks, which is that.
There are headwinds that we see but it's macroeconomic environment FX the impact of energy cost on in especially in Europe .
And the geopolitical environment are all headwinds Similarly, we'll have to watch what happens with COVID-19 related demand whether it is government policy, whether it is elective procedures or whether it is our own disposable respirator demand, but there are a lot of tailwind to we see secular trends that will continue to go up in areas that.
We had a lot of value to customers, whether it's auto electrification sustainably deeds Digitization just to name a few also when we even as we see raw materials, starting to stabilize or moderate and supply chain starting to stabilize or moderate.
We should get a lot more opportunity to drive even then efficiency and that's what Mike said in his prepared remarks too that that's other than volume. That's one of our biggest opportunities continue to drive margin. So hopefully that answers. Your question Chris. It does thank you. Thank you.
Our next question comes from Andrew Kaplowitz with Citigroup you May proceed with your question.
Hey, good morning, everyone. Good morning.
Mike maybe just a little more color into health care I know you've talked about.
<unk> growth being a little lower in Q3, you know oral care turned down a little bit yeah. It seems like the elective procedures have been stuck a little bit and you talked about them improving in Q4, but he was he issued just sorta staffing shortages in hospitals, what are you seeing in China over there and you know how concerned are you that oral care.
Sure you know given it does tend to be a little more sensitive to the economy.
Yeah, Andy there Youre right Theres, some different dynamics going on in Q2, when you look at electric procedures in oral care versus surgical procedures or medical procedures.
I think in general it's on track with what we had said at the beginning of the year that it would get back to around 95% by the end of year and 95% to 100%, maybe we're slightly below that now and I think that's a reflection of what was part of your question. That's the staffing levels right knowledge, that's been a bigger impact than obviously COVID-19 hospitalization.
<unk> have been in the current quarter and an outlook for the rest of the year. So I think that's holding it back maybe.
Keeping it from being quite at the level that we thought it would be when we started the year oral care, we saw a strong recovery in procedures. There in 2021, and that's part of the comp that we're looking at year over year. The impact this year appears to be consumer discretionary spending as they are they are electing to spend lesson.
And some of those elective procedures in oral care. So that's that's had a softening impact and we see those.
Continuing as we came out of Q3, so I little bit different than.
Then maybe where we saw at the beginning of the year, but it's generally we're looking for improvements as we go into Q4 in those and those medical electric procedures. I would also just add that the other piece was biopharma, which had a very strong quarter last year and we are seeing on a year on year.
Sure demand just driven by the Colgate Colgate Therapeutics that we sold into last year.
Very helpful guys, and then money maybe you can update us on your work on Digitization and you know I think you've talked in the past about data analytics really helping you you know in the second half of the year here and especially in 'twenty three it seems like today, you're talking about you know having costs that opportunity noticed your safety and industrial business margin was up nicely.
Sequentially. So how much of an impact is that you know calling from digitization or is that just general execution.
I I would just say the following Andy is as I said in February at our Investor day digitally it can be a multiplier for three am and it'll take time, we are full pillars, one is digital customer.
The other one is digital product the third one is digital operations and then the last one is just digital enterprise our enterprise digital thing. The last one is ERP that helps us simplify our business digital operations is the place where you're talking about is from a factory perspective. The team has done a lot of work using data and data analytics.
It takes to improve yield and efficiency in the factories. For example, we were able to create a digital twin for our respirator production during the pandemic, which the team is continuing to use and those models are being used for other parts of our production lines. There's a lot more we can do in this area and automation and Digitization.
<unk> to drive ease and efficiency, especially as supply chains start normalizing. This is an area, where we should be able to dig faster into root cause and put into solutions. Similarly data and data analytics helps us in inventory a lot too.
Andy and despite all the.
All the inefficiencies that exist currently in the supply chain. The teams have done a nice job of continuing to improve inventory August or September saw a sequential decline in inventory and so that's another sign that the teams are looking at data. It allows them actually to visually see bad debt inventories. So it allows better demand.
Planning and then if you actually go to a digital product and digital custom or both of them E. Commerce continues to be an important area for us of growth in.
In safety and in the safety and industrial business, we bought the assets of a company called <unk> that allows us to do a software for auto body shops, So parts management through software auto body shops. So that's starting to take hold and Mike Wheeler and his team have done a nice job there and Michael Mike Roman mentioned in his opening.
Remarks that collaboration we have with Microsoft where we announced a digital posted note in collaboration with Microsoft So Youre seeing digital play itself out in multiple places I would say theres a lot more opportunity for us in the future in this area.
I appreciate it guys.
Thanks.
Our next question comes from Stephen Tusa with J P. Morgan Securities. You May proceed with your question.
Yeah.
Hey, guys good morning.
Can you just give some degree of color on whether you were like you don't have to give details on the price, but like just with the spread positive neutral negative this quarter and how do you expect that in fourth quarter. It was positive this quarter, that's right and did that did that accelerate from last quarter.
To the extent, where we saw more in areas, where you saw more inflation, we were able to offset that with more price.
So overall I would say mid single digits as web or Steve on pricing.
Okay got it that's that's great color and then you guys kind of tweaked down the Capex number a little bit I know that number has been.
Kind of growing over the last several years are you now kind of cresting on these major projects and you mentioned Digitization and automation in your with a prior question, but how do we think about that heading into 'twenty three that capex number yeah. So.
It's still early planning 'twenty three but in this case the guide down Steve was just because of where we are with the length of supply chains, we've seen supply chain backlog or are.
The cycle time of these go up anywhere from 12 weeks to 20 weeks, depending on the on the Capex equipment that we are buying and so so just based on where we are in the quarter. We thought it was prudent to take it down to $1 75 to $1 85.
But all good projects and the projects that are falling into next year, we'll continue to get completed because theyre great projects I just wish we would've got them done this year. Unfortunately, the supply chain just didn't help us.
Yeah Okay.
Great. Thanks, a lot I appreciate the color. Thanks.
Our next question comes from Julian Mitchell with Barclays. You May proceed with your question.
Thanks, Good morning.
Maybe I'm just a first question around the inventories outlook. So you took down your cash flow conversion guide for the year, even with the Capex reduction you just discussed.
I think I also meant issued mentioned inventories down sort of month on month in September so help us understand kind of where do you think customer inventories and distribution inventories sit right now versus normal.
How much kind of Destocking lies ahead.
Customers and for three of them itself you know how quickly should we see that cash flow conversion get back to a 100% is sort of late.
Late next year, where do you think next year as a whole you could be there already.
Yeah, Julian maybe I'll just touch on how we see inventory in the channel and with our customers.
And maybe just a quick walk around the different business segments industrial channel inventories. They look like they're in pretty good shape. We saw as we saw strong broad based growth.
And so well aligned with that consumer electronics, the Oems are working through some inventories as the demand weakens I think automotive inventories continue to be still relatively low.
With the demand that they're seeing.
Health care overall in line with the demand we saw some softening obviously in oral care in the channel is reacting there. So we're seeing some inventory pull down the big story in inventory probably is what you've heard from many other companies the retailers working through their elevated inventory levels and navigating the kind of the shifts in consumer spending and the impact that we're seeing that as we come out of.
Out of Q3, so that's kind of the external view, maybe monish can.
Talk about kind of how we how we map it internally, yes sure. So Julian it's back to the same comments he made that the global supply chain and raw material environment continues to remain fluid and dynamic.
And I think that's what's driving the inventory level, even though we did take it down in August through September that's a start one we need to see these supply chain stabilize sustainably and two is when you look at where we are at the end of Q3, we don't see those inventory levels coming down to the level, we would have liked in a stable environment.
And that's why we felt it prudent to get it down to 85% to 95%.
Teams continuing to work inventory using data data analytics get a better demand planning at the same time, we also look at better coordination between our demand plans and our supply plans and that's what the teams. Our teams are working on and I think we'll continue doing that in the long run I would say.
The long run there's no reason why we can't be at 100% free cash flow conversion. When you look at the cash flow that we generate and the opportunity that we have to continue to drive inventory down using data and data analytics.
Thank you very much and then just my follow up would be around you know you mentioned earlier, some self help measures digitization and embedded data tracking.
Wanted to be in terms of kind of overall operating margins you know I think three of them as a whole has been at that sort of 21, 22% range for four or five years now.
It's been a couple of years since the last big kind of restructuring announcement in December 2020.
I'm just wondering what the appetite was for maybe another round of that kind of big fixed cost out, particularly as the macro is a little bit soft.
Or are you feeling pretty confident about operating leverage next year.
Yes, Julian as you know as I.
<unk> talked about earlier.
Are we at.
We're confident in our ability to respond to the changes in the macro and we're always adjusting our businesses to meet the markets and whether it's a near term or in the future and so we're going to continue to focus on productivity. That's big part of the self help for us leveraging some.
Some of the capabilities Mona just talked about to drive that as supply chains improve and recover we expect to be able to drive more self help and we will continue to.
We stay close to the end markets and the macro and take actions as needed we don't have a.
It's a big plan to announce today, but we our model is to adjust the market says as we go.
Great. Thank you.
Our next question comes from Nigel Coe with Wolfe Research you May proceed with your question.
Thanks, Good morning, and thanks to.
Yes, I guess so.
So just going back to the exports I think you mentioned, one $5 billion as long as they can.
Just wondering do you do your exports from the U S over index to a certain region I think Latin America might be one I think maybe China as well, but any thoughts there in terms of.
Concentrations of markets you are important to them and then in terms of the currency effects that the translation. The transactional effect of that are you able to kind of talk through to offset the FX impact.
Yes, Nigel just just to break down the exports a little bit of it.
Net exports, it's really based on the capabilities that we've invested in the U S and it it does serve all of those markets Europe , Latin America Asia, China, and so we're I wouldn't say, we're over indexed anywhere it's really a strategy of portfolio and where we produce and while we are <unk>.
<unk> capable for our businesses everywhere around the world and a majority of what we sell in each region of the world. We produce in region. There are some some parts of our portfolio that we don't need to have the capacity nor do we have the demand for every region and so we will export out of the U S.
There is a balanced around the world you will see some over indexing in the electronics manufacturing to Asia, and China of course, but more broadly.
<unk> balanced across the regions of the world.
Yeah.
And the pricing.
Are you able to offset the currency.
Yeah, So nigel.
Most of these work as they go into intermediate into the production of another a factory that's locally manufacturing the product. So you will see that cost increase the team takes all of that into account when they get their pricing they factor in the raw material that factor in FX.
And then do what they can in that area to offset it in total as we've talked about currently we see effects, though the strong dollar to continue to have a headwind on 2022 earnings negative four 5% on revenue and it's nearly 50 cents on EPS for the year. So we do our best to try to match.
<unk> at the end of the day, we can't eliminate such a strong dollar and we'll see how it plays out in 2023.
All right I'll leave it there. Thank you very much thanks, Thanks Neal.
Hum.
Our next question comes from Deane Dray with RBC capital markets. You May proceed with your question.
Thank you and good morning, everyone. Good morning Deane.
And Mike I was hoping you comment.
Or expand your comments on what you've seen in October .
Especially on the consumer side that stopped or back to school setting up for a softer holiday I'd also be interested in hearing if you he changes and the consumer purchasing in the mix like more focused on lower price point products and might you lose any share.
This mix down.
Dean as we exited Q3 as I touched on we saw what others are seeing the retailers are working through elevated inventories. So that was a trend we saw impacting we saw the munis you talked about a softer back to school, which was maybe a separate market dynamic there's been a there's been a shift in consumer spending from.
What we would call hard lines, so where are where our products are in the categories that they're in and in retail.
Markets.
And the others like food for example, and so youre seeing some shifting in consumer spending thats part of the trend that we saw coming through Q3, and we see as we come out of the quarter into the rest of the year end and I would say the inflation continues to be driving some of those trends.
It really at a high level, that's what we're watching closely where we're close with our retail partners in and watching each of the categories and consumer spending as as we see those trends evolve.
Any share change.
No.
I think that the.
The dynamics that Youre seeing in our organic growth in consumer is really about the consumer spending and the end markets. It's not about share change, we see are maintaining share and in some places gaining share we see.
Some of the positions that we have where we've invested it's coming out of the pandemic and in areas in consumer like our home improvement, even though it's a.
We saw some softening demands in home improvement and in the U S. In the third quarter. We see we are well positioned to continue to have strong share in that part of the market.
Thank you.
That concludes the question and answer portion of our conference call I will now turn the call back over to Mike Roman for some closing comments.
To wrap up we continue to execute our strategies in a challenging environment, while positioning <unk> for the future through investments in growth productivity and sustainability along with active portfolio management, we will stay focused on taking care of our customers driving growth and improving our operational performance. Thank you for joining us.
Yeah.
Ladies and gentlemen that does conclude the conference call for today, we thank you for your participation and we ask that you. Please disconnect your lines.
Yeah.
Yes.
Uh huh.
Okay.
Yes.
Yes.
Okay.
Yeah.
Okay.
Uh huh.
Yeah.
Okay.
Okay.
Uh huh.
Yeah.
Uh huh.
Uh huh.
Uh huh.
Yes.
Yeah.
Uh huh.
Okay.
Sure.
Okay.
Yeah.
Uh huh.