Big Opportunities for Bank, but Things Could Be Sticky for 3M

Washington Mutual (WM)

Jim: Answer me this, Mike: Can you name one Southern California savings and loan that isn’t owned by Washington Mutual?

Mike: Well put. You know, the thrift industry has gotten a lot easier to think about since this juggernaut vacuumed up just about every S&L; in the region.

Jim: It’s been on an acquisition binge for years. Along the way it has gobbled up American Savings, Great Western Financial and Home Savings’ parent, H.F. Ahmanson.

Mike: And those three outfits were among the biggest U.S. thrifts, so naturally Washington Mutual is now No. 1, with a whopping $175 billion in assets and 2,000 branches in nearly 40 states.

Jim: To me, Washington Mutual is still a work in progress, because it’s still digesting Home Savings and other properties. It’s faced with closing overlapping branches, converting to a central computer system, cutting jobs and otherwise wringing out excess costs. Those actions bite into earnings, but I still like this stock.

Mike: Me too. Sooner or later the rationalization of this Seattle-based giant will be completed, and then Washington Mutual will be sitting pretty. Also, the stock is cheap, and right now it has a friend in the powerful U.S. economy.

Jim: Although Wall Street’s gotten nervous about the upturn in interest rates in recent months. Higher rates can hike up a thrift’s cost of doing business by making it more expensive to obtain the cash it needs to lend out in mortgages and other loans. That’s one reason Washington Mutual’s stock has lost 15% over the last year and now trades in the low 40s, or about 12 times ’99 earnings.

Mike: Which is typical of Wall Street’s narrow-minded, short-term vision. Interest rates are bound to fluctuate, but I don’t see a long-term threat to Washington Mutual’s health.

Jim: And there’s no indication that the pace of housing sales, and thus mortgage loans, will turn soft any time soon.

Mike: Absolutely not. Housing is booming, particularly in this region, and now Washington Mutual is in a perfect position to capitalize.

Jim: Here’s my case for Washington Mutual: If you back out all of its one-time expenses related to its acquisitions and whatnot, the thrift just posted its best first quarter in its history, with operating earnings jumping 16% from a year earlier.

Mike: They also bested analysts’ forecasts.

Jim: Also, the benchmark performance indicator of a bank or S&L; is its return on average assets, which basically measures how well it deploys the assets at its disposal.

Mike: Anything above 1% is considered a strong showing.

Jim: Exactly, and in the first quarter, Washington Mutual’s ROA rose to 1.08% from 0.99% a year earlier. Finally, it just announced a 20-million-share buyback program.

Mike: Right, though that buyback did raise questions about whether Washington Mutual’s capital base was strong enough to support a buyback that size. But those questions are fading.

Jim: This is the time to buy the stock, because it’s somewhat depressed and you can get in before Washington Mutual finishes swallowing Home Savings. After that, this outfit will sizzle and everyone will be piling on.

Mike: In a way, this stock reminds me of one we recommended a few months ago, Chase Manhattan. It too was victimized by a lack of favor for financial stocks on Wall Street at the time. But Chase had sown the seeds of strong growth, which it soon began reaping.

Jim: And, I’m happy to say, gave us one of our best picks.

Minnesota Mining & Manufacturing (MMM)

Jim: First of all, this manufacturing legend is long overdue for a name change. Can’t they get rid of this mouthful of a name and just go with 3M Corp. or some such, since everyone calls it 3M anyway? I mean, AT&T; and ITT did it.

Mike: You’re probably right. If you ask the average person on the street what 3M stands for, probably only a champion from “Jeopardy!” or “Win Ben Stein’s Money” would know.

Jim: Or Ben Stein himself, since he was one of the best financial writers around until he turned into a game-show host.

Mike: Right. Now here’s my question about 3M... . .

Jim: Shoot.

Mike: Is this company going to give the “Dogs of the Dow” theory even more publicity?

Jim: Enlighten us.

Mike: OK. This theory of investing--which has a sizable cult following--involves starting the year by buying the 10 stocks in the Dow Jones industrial average with the highest dividend yields.

Jim: 3M being a Dow component, of course.

Mike: Right. In other words, you’re picking the 10 Dow stocks trading at the largest measurable discount to their theoretical real value because, all else being equal, as your stock price goes down your dividend yield--the dividend divided by the stock price--goes up. And what you’re betting on, of course, is that your 10 dogs will revert to the mean over the following 12 months, gaining in price to eliminate that discount.

Jim: 3M’s yield is currently just under 2.5%, which is indeed high.

Mike: It’s third-highest among the Dow stocks. The highest is Philip Morris, which has a lofty dividend yield for an obvious reason--to make investors forget that it’s in the dismal business of selling cigarettes. And No. 2 is Chevron.

Jim: Sure enough, 3M’s stock has been on a howling tear so far this year. So it looks as if the theory worked again, at least with 3M.

Mike: Over the last few months 3M has done pretty darn well. So my next question is: Has this dog had its day?

Jim: Yes.

Mike: Thought you might say that. I agree.

Jim: 3M, of course, makes literally thousands of consumer and industrial products, including Scotch tape, Post-it Notes, Scotchgard fabric protectors, medical products and on and on.

Mike: In fact, 3M should get credit for being a champ at handling what’s always been a thorny problem for corporate management: technology transfer. That is, getting technology from the lab into the hands of your customers. Take Post-it Notes. It’s a technology that was basically discovered serendipitously, yet 3M management recognized its potential to create a brand-new market and got the product into the stores.

Jim: Yeah, 3M can be a dull outfit to consider, but it’s a marvel at churning out products that make our lives a little easier.

Mike: And you can’t say that about many companies.

Jim: But that being said... . .

Mike: I knew a “but” was coming.

Jim: Well, for much of the 1990s this stock enjoyed steady, if unspectacular, gains. Then, the company, like so many other multinationals, got creamed overseas, first in Asia and more recently in Brazil. The problem is not only a drop in demand in those regions, but the dollar’s strength, which is nicking 3M’s profitability.

Mike: And 3M is among the most heavily exposed American companies in foreign lands.

Jim: It’s right up there with Coca-Cola. But in the last few weeks, 3M’s stock has surged some 25% as part of what Wall Street likes to call a “turn toward cyclical stocks.” Care to explain?

Mike: Sure. Just as you can walk into Baskin-Robbins one day and find rocky road on sale, and then the next week you find boysenberry swirl in its slot, Wall Street also likes to try out flavors of the month. And the recent favorite has been the cyclical sector, meaning stocks of companies that respond closely to changes in the ups and downs of the economic cycle.

Jim: Also, 3M reported a first-quarter profit that, although down from a year earlier, came in above Wall Street’s forecasts. So that also helped the stock, which is currently in the low 90s, or about 23 times earnings. But I’d pass from here on.

Mike: You sound a little bored by 3M, Jim.

Jim: I’m not bored by any stock that makes money, Mike. I mean, check out Clorox. It makes toilet cleaners, for crying out loud, but its stock has been spectacular.

Mike: Well, why not? Everyone has a toilet and the cleaner keeps getting used up.

Jim: Point is, 3M is a safe, rock-solid operation, but I don’t see a big upside here. I think this whole shift to cyclicals stuff is petering out. Moreover, 3M has said its problems overseas are far from over, even though Asia is starting to come back.

Mike: That’s true.

Jim: Here’s another problem: 3M’s sales in North America in the first quarter rose a paltry 2% from a year earlier. Shoot, that’s not even keeping up with inflation.

Mike: Well, as much as I would like to like this stock, I have to agree. In fact, if 3M had not had its recent run-up, I would say it was due for one. From here, though, I think it’s just going to be a market performer.

Jim: In fact, what we’ve seen with 3M in recent months is what I expect is still ahead for Coca-Cola. You know, a multinational fighting its way out of problems overseas, and the stock responding nicely.

Mike: Right. In other words, Coke today is the 3M of a few months ago.

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Write or e-mail with a stock you would like to see discussed in this column. Times Staff Writer James Peltz (james.peltz@latimes.com) covers the markets and corporate financial trends. Times Staff Writer Michael Hiltzik (michael.hiltzik@latimes.com) covers technology and entertainment and is the author of the new book “Dealers of Lightning: Xerox PARC and the Dawn of the Computer Age.” Either can also be reached at Business Section, Los Angeles Times, Times Mirror Square, Los Angeles, CA 90053.

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Washington Mutual

Monday: $40.31

3M

Monday: $94.19