3M Q2 2022 Earnings Report

3M EPS Results

• Actual EPS: $2.48
• Consensus EPS: $2.41
• Beat/Miss: Beat by +$0.07
• One Year Ago EPS: $2.59

3M Revenue Results

• Actual Revenue: $8.70 billion
• Expected Revenue: $8.70 billion
• Beat/Miss: Beat by +$1.85 million
• YoY Revenue Growth: -2.20%

3M Announcement Details

• Quarter: Q2 2022
• Date: 7/26/2022
• Time: Before Market Opens

Since its inception in 1902, 3M (NYSE:MMM) (originally Minnesota Mining and Manufacturing Company) has become one of the world's most successful companies. From its humble beginnings in Two Harbors, Minnesota, 3M has become an American multinational conglomerate that operates in the worker safety, U.S. health care and consumer goods industries.

Today, 3M, headquartered in Maplewood, Minnesota, produces over 60,000 products under several brands, including adhesives, abrasives, laminates, passive fire protection, personal protective equipment, window films, paint protection films, dental and orthodontic products, electrical and electronic connecting and insulating materials, medical products, car-care products, electronic circuits, healthcare software and optical films. 

In 2021, 3M reported total sales of $35.4 billion and ranked 102 on the Fortune 500 list of the largest United States corporations by total revenue. The company had approximately 95,000 employees and operations in over 70 countries in 2021.

3M has been a leader in innovation since its inception. In 1924, 3M obtained its first patent and launched its Pollution Prevention Pays program. Through this program, 3M reduced releases of toxic pollutants by 99% and greenhouse gas emissions by 72%. 3M has also earned the United States Environmental Protection Agency's Energy Star Award.

In 1947, 3M began producing perfluorooctanoic acid (PFOA) by electrochemical fluorination. In 1951, DuPont purchased PFOA from 3M for use in the manufacturing of Teflon. In 1952, Patsy Sherman and Samuel Smith discovered the original formula for Scotchgard, a water-repellent applied to fabrics. In the late 1950s, 3M produced the first asthma inhaler. 3M entered the pharmaceutical industry in the mid-1960s by acquiring Riker Laboratories. In the mid-1990s, 3M Pharmaceuticals made the first CFC-free asthma inhaler.

In 2000, 3M began phasing out perfluoro sulfonic acid (PFOS), perfluorooctanoic acid and PFOS-related products. In 2010, the state of Minnesota sued 3M for $5 billion in punitive damages. In 2018, the company settled the case with $850 million. The settlement included a commitment to spend $35 million on research, monitoring, and education to help protect and restore natural resources. 

In 2016, 3M completed a 400,000-square-foot research-and-development building that cost $150 million on its Maplewood campus. In 2017, 3M reported net sales of $31.657 billion. In 2020, 3M divested its drug delivery business to an affiliate of Altaris Capital Partners LLC, for approximately $650 million. In 2021, 3M merged its food-safety business with food testing and animal healthcare maker Neogen. 

Recently, 3M has been in the news for producing PFAS, or "forever chemicals." These chemicals make coatings and products that resist grease, heat, water and oil. Recent studies have suggested that these chemicals are far more hazardous to human health than previously thought. In response, 3M has announced that it will be phasing out PFAS in its products by the end of 2025, which should hit the company between $1.3 and $2.3 billion in the coming years.

3M has also been in the news due to its perfluoroethane (CF4) emissions from its chemical plant in Cordova, Illinois. The CF4 is 7,380 times more potent than carbon dioxide as a greenhouse gas and remains in the atmosphere for 50,000 years. 3M has agreed to meet the EPA's hazardous waste incineration standards and reduce its CF4 emissions by 99.95%.

3M Q2 2022 Earnings Call Transcript

Presentation

[Operator]

Welcome to The 3M Second Quarter Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded, Tuesday, July 26, 2022.

I would now like to turn the call over to Bruce Jermeland, Senior Vice President of Investor Relations at 3M.

[Bruce Jermeland, Senior Vice President, Investor Relations at 3M]

Thank you, and good morning, everyone, and welcome to our second-quarter earnings conference call. With me today are Mike Roman, 3M's Chairman and Chief Executive Officer; Monish Patolawala, our Chief Financial and Transformation Officer; and Kevin Rhodes, our Chief Legal Affairs Officer.

Please note that Mike's and Monish's formal comments this morning will be longer than past quarters given the announcements that we made this morning. Therefore, when we get to Q&A, please keep it to one question and one follow-up so that we can try and get to everyone as efficiently as possible. Also, note that today's earnings release and slide presentation accompanying this call are posted on the homepage of our Investor Relations website at 3m.com. Please turn to Slide 2.

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 3M's 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-K and 8-K list 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 in the attachments to today's press release.

With that, please turn to Slide 3, and I'll now hand the call off to Mike. Mike?

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Thank you, Bruce. Good morning, everyone, and thank you for joining us. Today is an exciting and important day for 3M. We are positioning our company for future success by creating more opportunity while reducing uncertainty. We plan to spin off our Health Care business, which will result in two world-class public companies that are global leaders with significant growth opportunities in their respective markets. We intend to execute a tax-free spin-off creating a global diversified healthcare technology leader. New 3M will remain a leading global material science innovator, serving customers across a range of diverse and attractive end markets. Each company will be well capitalized, more agile and focused, and well positioned for long-term success.

Also, we are proactively taking steps to resolve litigation related to Combat Arms Earplugs. Aearo Technologies, a 3M subsidiary, has voluntarily elected to initiate Chapter 11 proceedings. This process is intended to resolve claims related to Combat Arms in a manner that is efficient and equitable. 3M has not filed for Chapter 11. Both 3M and Aearo expect to continue to operate in the ordinary course. And as we announced earlier in our earnings press release, 3M continues to deliver in a challenging environment with adjusted earnings per share of $2.48 in the second quarter. We also posted organic growth of nearly 5% excluding the impact of disposable respirators and COVID-related lockdowns in China. Monish will cover our Q2 results in detail after my remarks.

Please turn to Slide 4. Now is the right time for 3M to act as we position our company to win in a rapidly changing world. As I shared at our Investor Meeting in February, disciplined portfolio management is foundational to our growth strategy. Our Board and management team actively evaluate strategic options to drive long-term sustainable growth. The importance of portfolio management has never been greater especially given the extraordinary macroeconomic changes brought about by the pandemic. I'll speak to Health Care in a moment but let me first talk about the strong businesses that will make up New 3M.

Our market-leading business groups are aligned to highly attractive end markets with tremendous opportunities in front of them. Each of these business groups grew above 8% in 2021 and are delivering solid results in a challenging environment this year. Together these businesses make up an outstanding portfolio that actively leverages our world-class capabilities. As global megatrends have accelerated, many of those trends demand our customer-driven innovations that align to our growth priorities, areas such as electronics, safety, mobility, digitization, home improvement and sustainability, all represents significant opportunities for 3M.

An important example of our strategic portfolio management is the progress we have made in Health Care. Through organic investments and innovation, strategic M&A and updates to our operating model, we have positioned Health Care to be successful as a standalone enterprise. In 2019, we acquired Acelity and M Modal, establishing our leadership in advanced wound care and in health information systems. Also, we have divested drug delivery and are in the process of separating our food-safety business.

Our business group-led operating model, which we implemented in 2020, has also enabled our businesses and R&D to be closer to our customers. These actions in addition to healthcare strong capabilities are why we feel now is the right time for it to formally operate as a standalone healthcare leader, especially given the important trends that favor our business. We're shifting demographics, growing demand for virtual and in-home care, a focus on reducing re-hospitalizations, advances in healthcare IT systems and a growing focus on delivering better patient care at a lower cost. Our Health Care businesses at the intersection of data, analytics and technologies needed to deliver precision medicine. Both companies will sharpen their focus to continue investing and winning in global end markets and have greater flexibility to strategically deploy capital, drive innovation and accelerate growth.

Turning now to Slide 5. Our actions will drive long-term value for our shareholders. New 3M and Health Care will tailor their capital allocation and investments to drive innovation and growth. As leaders in their markets, their enhanced focus will help position each to respond even faster to shifting industry dynamics and needs. They will both offer distinct and compelling investment profiles appealing to different investor basis. These actions will help unlock and unleash value for 3M and the Health Care business and chart an exciting course for our future.

At the same time, we are also working to reduce uncertainty by efficiently and equitably resolving Combat Arms Earplugs litigation. I will now provide more detail about our planned spin-off of our Health Care business and the opportunities this will create.

Please turn to Slide 7. Each business will be financially strong leaders in their respective industries. 3M will be in approximately $26.8 billion business and remain a leading provider of innovative solutions for a broad diverse range of end-markets, including industrial, safety, automotive, electronics and consumer. Each of these businesses benefit from 3M's science and innovation.

Our Health Care business drove $8.6 billion in sales in 2021, which includes approximately $400 million in revenue from our food-safety business. We intend to complete the previously announced separation of the food-safety business through a split-off transaction with a targeted closing date of September 1, 2022 subject to approval by Neogen shareholders in addition to other customary closing conditions.

Our go-forward Health Care business will build upon strong positions in attractive markets including wound care, oral care, healthcare IT, and biopharma filtration.

Next slide, please. With our fundamental strengths in science and technology, manufacturing, global capabilities and iconic brands, we are well positioned to capitalize on and invest in key megatrends. A hallmark of 3M is our ability to leverage unique and differentiated technologies across our organization allowing us to create new solutions required by a world where we are seeing accelerated demand for innovation and sustainability. We will continue to actively manage our portfolio with discipline and focus, generate strong margins and cash flow, and grow earnings by improving operating rigor. Our capital allocation priorities remain unchanged. These include investing in organic growth and attractive dividend, strategic M&A, and finally share repurchases.

Next slide, please. As we look ahead, innovation, talent, and operations will remain core strengths for New 3M. We will drive more customer-focused innovation, leverage data and insights from our retail partners and connect with customers through advanced e-commerce strategies. We will share technology platforms and leverage R&D across the enterprise which will help drive growth in all of our businesses. Attracting and retaining talented people are top priorities. We will connect them through greater flexibility with our Work Your Way model and continuously strengthen our culture of innovation.

We will also advance our capabilities through digitization to provide unique solutions and achieve greater end-to-end performance across our global operations. Our innovative manufacturing expertise will continue to be a differentiator and to ensure greater connectivity to customers, we will enhance our service and streamline our operating model. We are equally excited for the future of our Health Care business which I will explain on Slide 10.

Our Health Care business enables better, smarter and safer care and will be well positioned to support customer needs and make the most of attractive opportunities, including a growing focus on infection prevention, to help providers reduce related re-hospitalizations, hospitals increasing investments in improvements in clinical and operational workflows, to drive efficiencies and improve patient experiences, more frequent use of biologics as a first-line choice of treatment. In addition, medicines are becoming more complex and advanced requiring specialized tailored solutions. And the combination of materials science and digital science especially within oral care is changing the patient experience for the better. With our deep and diverse portfolio of trusted brands, global capabilities, regulatory expertise and leading positions in attractive segments, we expect the Health Care business to generate strong recurring revenues, margins and cash flow.

Next slide, please. We are excited about the Health Care business we have built with intention and a clear focus on helping improve the health of people around the world. Our business is powered by core strengths, including our proven leadership in multiple care pathways, our position in attractive end markets, an innovation mindset, customer relationships, regulatory expertise and operational excellence. These strengths enable strong sales growth and profitability and importantly, deliver better patient care.

Next slide, please. We are well positioned in large and growing healthcare end markets which are expected to grow at a strong and steady rate over the next several years. Our Wound Care business is a world leader and comprises a portfolio of innovative products. Our Oral Care business is another leading platform which has developed award-winning innovations. Health Care Information Systems are increasingly essential as providers seek to deliver better care through comprehensive data and insights. Our Biopharma Filtration products are critical to manufacturing potentially lifesaving medical devices, vaccines, drugs, and therapeutics.

Now let me turn to some of the specifics of the transaction on the next slide. 3M plans to pursue a tax-free spin off and retain a 19.9% stake which we expect to monetize over time. We expect Health Care will be spun-off with net leverage of 3 to 3.5 times adjusted EBITDA and we will delever rapidly given the business' strong cash flow. Subject to the satisfaction of certain conditions, we anticipate completing this transaction by the end of 2023 and we anticipate no change in 3M's capital allocation priorities through separation.

In addition, 3M will retain responsibility for non-healthcare-related litigation, including Combat Arms Earplugs and PFAS. Over the next several months, we will begin our work to stand up these two companies and we'll share updates as we progress.

Now let me provide some additional background on Combat Arms litigation. Please turn to Slide 15. To provide some context, in 2008, 3M acquired Aearo Technologies which manufactured Combat Arms Earplugs. Since the acquisition, Aearo has continued to operate as a wholly owned subsidiary of 3M. These products provided effective hearing protection when used properly and we stand by their performance. The U.S. military continues to rely on 3M products including newer versions of the Combat Arms Earplugs. Nonetheless, there has been an extraordinary increase in litigation related to Combat Arms. As of June 30, 2022, there were approximately 115,000 filed claims and an additional 120,000 claims on an administrative docket. The multi-district litigation process and the highly variable outcomes it has generated has not provided certainty or clarity. We believe that litigating these cases individually could take years if not decades. We want to do right by veterans and all stakeholders, and we expect the steps we are taking today will provide greater certainty as we take action to efficiently and equitably resolve claims related to Combat Arms.

We have made the decision to adopt a new legal strategy. So let me provide a little more context on the actions we are taking. Aearo has voluntarily elected to use well-established Chapter 11 procedures to resolve this litigation. Aearo will indemnify 3M for all liabilities related to Combat Arms and certain discontinued Aearo respirator masks products. 3M has entered into a funding agreement and is committed to fund the trust of $1 billion to resolve all claims determined to be entitled to compensation. This amount is based on the analysis of an experienced estimator of claims in Chapter 11. In addition, we are committing to $240 million to cover projected case-related expenses. 3M will provide additional funding if required under the terms of the agreement.

By taking these actions, we expect to provide greater certainty and clarity and help funds go to plaintiffs with claims that are determined to be entitled to compensation sooner. This will help reduce the cost and time that could otherwise be required to litigate thousands of cases.

Let me now say a few words about our plans to manage PFAS. 3M stands by a record of environmental stewardship. We are already deploying state-of-the-art technology that will help us achieve our goal of a 99% reduction in PFAS discharges from our operations. We are making progress against our goals of improving water quality, reducing water use, reducing plastic use, and achieving carbon neutrality. In addition, we continue to remediate at sites where 3M historically manufactured or disposed of PFOA and PFOS.

Now specifically to PFAS-related litigation. we plan to vigorously defend ourselves. We are preparing our defense for upcoming milestones in the litigation process and we are well advised of our options.

Next slide. We are excited about the future of 3M. Our actions today will provide greater focus for our organization. Before I turn it over to Monish, I want to reiterate a few key takeaways. Our investments in innovation, our portfolio management strategy, and our realigned operating model will power our future growth. We will have dedicated teams to help facilitate focused execution of our actions announced today. Our planned tax-free spin-off will result in a leading global diversified healthcare technology company. We will create more opportunity for both 3M in the newly standalone Health Care business through this transaction with two public companies well positioned to drive future success. In addition, we are taking action to efficiently and equitably resolve Combat Arms litigation.

Finally, we remain focused on delivering in a challenging environment. Now, I will turn it to Monish, to provide an update on our Q2 performance and an updated outlook for the year. Monish?

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Thank you, Mike, and I wish you all a very good morning. Please turn to Slide 17. The 3M team executed well and delivered solid Q2 results by remaining focused on serving our customers while navigating continued supply chain challenges, inflationary pressures, along with the geopolitical and COVID dynamics.

Second quarter, total sales were $8.7 billion, which increased 1% on an organic basis versus last year's 21% comparison. Adjusted operating income was $1.8 billion with adjusted operating margins of 21% and adjusted earnings per share of $2.48. We continue to experience strong demand across most end markets. However, a couple of items had a negative impact on overall Q2 results, which we had highlighted during the quarter.

First as forecasted, we experienced a year-on-year decline in disposable respirator sales of approximately $150 million, and second, the Greater China regions COVID related lockdowns resulted in a sales decline of approximately $140 million year-on-year. The impact was lower than the $300 million headwind we had anticipated as the reopening of our facilities in June went better than anticipated. Our China team did a tremendous job adding additional shifts to ramp up production, distribution and drive productivity to serve our customers.

Adjusting for these two impacts, organic revenue growth was nearly 5% for the rest of 3M in the quarter. Also, the continued strengthening of the U.S. dollar resulted in a foreign currency translation impact of minus 4 percentage points to Q2 total sales growth. This FX impact combined with the China COVID- related lockdowns negatively impacted second quarter operating margins by nearly 1 percentage point and earnings by $0.24 per share versus our expectation of $0.30 as discussed during the conference in early June.

We also continue to support our people and manage the business and supply chain impacts from the ongoing Russia-Ukraine conflict. We also announced additional investments to resolve matters related to our operations in Zwijndrecht and began the process of restarting manufacturing operations which is progressing to plan. And finally, as I will expand upon later, we are updating our full-year expectations primarily to incorporate the impact of the strong U.S. dollar along with macroeconomic uncertainty.

Please turn to Slide 18 where I'll get into more details of the quarter. On this slide, you can see the components that impacted our operating margins and earnings per share performance as compared to Q2 last year. First, we continue to benefit from selling price actions, restructuring savings, and strong spending discipline, which helped drive an improvement to underlying margins of 2.9 percentage points or $0.44 to earnings per share year-on-year. These actions helped to more than offset headwinds, including the forecasted decline in disposable respirator demand, which negatively impacted Q2 operating margins by 40 basis points and earnings by $0.09 a share. The previously mentioned China COVID-related lockdown which resulted in a year-on-year headwind of 70 basis points to operating margins and $0.11 to earnings per share.

And finally, as discussed during last year's second-quarter earnings call, we realized the benefit to both operating margins and earnings in Q2 last year from a Brazilian Supreme Court social tax ruling which led to a 100 basis point margin and $0.12 per share headwind to this year's second quarter. We also continue to prioritize investments in growth, productivity, and sustainability to drive long-term performance and capitalize on trends in large attractive markets including automotive, safety, healthcare, electronics, software, and home improvement.

Moving onto raw materials and logistics. Inflationary pressures resulted in a year-on-year headwind of nearly $270 million in the quarter or a negative impact of 3.1 percentage points to operating margins and $0.36 to earnings. Halfway through 2022, we have experienced approximately $480 million of raw materials and logistics headwinds versus our original full-year expectation of $350 million to $450 million at the start of the year. we now anticipate this year full-year headwind to be in the range of $750 million to $850 million, which we continue to expect to offset through pricing actions.

As I mentioned earlier, foreign currency translation was a negative 4 percentage point impact or a reduction of nearly $340 million in total sales and over $80 million in operating income, net of hedging year-on-year. This resulted in a headwind of 10 basis points to margins and $0.13 to earnings per share. Other financial items increased earnings by a net $0.10 per share year-on-year driven by benefits from a lower share count and tax rate.

Please turn to Slide 19. Second quarter adjusted free cash flow was $1 billion with conversion of 68%. Our year-on-year conversion performance was the result of a higher than expected increase in working capital, along with the cash impact from capitalization of R&D for U.S. tax purposes. Working capital improvement is a big piece of how we keep generating good strong cash flow for 3M. The global supply chain and logistics environments remained challenging. The data analytics platform that we have created will help us to reduce inventory levels through better demand planning, SKU rationalization, and use of visualization tools. We expect the benefits of these efforts will start showing up in the second half and years to come.

Capital expenditure were $384 million in the quarter and $808 million year-to-date or up 15% year-on-year as we continue to invest in growth, productivity, and sustainability. For the full year, we continue to anticipate capex investments in the range of $1.7 billion to $2 billion. During the quarter, we returned $848 million to shareholders through cash dividends. As we have communicated previously, share repurchases remained suspended in Q2 due to the pending food safety separation. We intend to complete the separation through a split-off at the closing date of September 1 subject to Neogen shareholder approval and other customary closing conditions. Net debt stands at $13.3 billion up approximately 4% as we continued to invest in the business.

Please turn to Slide 21 for our business group performance for Q2. I will start with our Safety and Industrial business which posted sales of $2.9 billion or up 0.7% organically compared to last year's second quarter. This result included headwinds from the decline in disposable respirator sales of approximately $150 million year-on-year, which negatively impacted Safety and Industrial's organic growth by 5.7 percentage points along with the COVID-related lockdowns in the Greater China region.

Our Personal Safety business declined high single-digits organically, primarily due to the decline in COVID-related disposable respirator demand. We continue to anticipate that COVID-related disposable respirator demand will decline as we move through 2022. However, we remain prepared to respond to changes in demand, as appropriate.

Turning to the rest of Safety and Industrial. Abrasives, electrical markets, and closure and masking businesses all grew low double-digits organically. Roofing granules, automotive aftermarket, and industrial adhesives and tapes all delivered low single digit organic growth.

Safety and Industrial second quarter adjusted operating income was $630 million down 12% versus last year. Adjusted operating margins were 21.5%, down 2.1 percentage points. Adjusted operating margins were impacted by China lockdowns and manufacturing productivity headwinds, which were partially offset by spending discipline and benefits from restructuring actions.

Moving to Transportation and Electronics which posted sales of $2.3 billion up 0.5% organically compared to last year. Organic growth was held back by the lockdowns in China along with the ongoing impacts of the semiconductor supply chain constraints on the automotive and consumer electronics end markets. Organic sales in our auto OEM business were up low-single digits versus flat global car and light truck builds as we continue to gain penetration on automotive platforms.

Our electronics-related business declined low 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 in semiconductor, factory automation, and automotive end markets.

Turning to the rest of Transportation and Electronics, advanced materials and commercial solutions grew organically mid single digits, while transportation safety was down high single-digits. Second quarter operating income was $476 million down 7% year-on-year. Operating margins were 21% down 80 basis points year-on-year. Operating margins were impacted by manufacturing productivity headwinds due to China's lockdowns and the continued shut down during Q2 of certain operations in our Zwijndrecht factory. These impacts were partially offset by the strong spending discipline and benefits from restructuring.

Looking at our Health Care business which delivered strong quarter sales of $2.2 billion with organic growth of 4.4%. Our medical solutions and oral care businesses increased low-single digits organically. Second quarter U.S. elective medical procedures and oral care volume were approximately 90% to 95% of pre-COVID levels, up sequentially from Q1 levels.

Health information systems grew mid-single digits, driven by strong growth in revenue cycle management. The separation and purification business increased high single digits with sustained demand for biopharma filtration solutions for COVID-related vaccines. And finally, food safety was flat year-on-year.

Health Care second quarter operating income was $494 million down 10% year-on-year. Operating margins were 22.7%, down 2.6 percentage points with strong adjusted EBITDA margins of nearly 30%. Year-on-year operating margins were impacted by manufacturing productivity, investments in the business and costs related to the food safety separation. These impacts were partially offset by the benefit from leverage on sales growth, strong spending discipline and benefits from restructuring actions.

Lastly, our consumer business posted second quarter sales of $1.3 billion or down 2.5% year-on-year on an organic basis versus last year's 18% comparison. The home improvement business was down high single-digits organically while consumer health and safety declined low single digits as both businesses were up against strong comparisons from a year ago. Our stationery and office business performed well up mid-single digits year-on-year and home care was up low-single digits.

Consumers operating income was $247 million down 15% compared to last year. Operating margins were 18.5%, down 2.2 percentage points year-on-year. Our Consumer business operating margins were impacted by ongoing supply chain constraints and manufacturing productivity impacts. These headwinds were partially offset by strong spending discipline and benefits from restructuring actions.

Please turn to Slide 23 for a discussion on our 2022 outlook. As you know, the macro environment remains uncertain with mixed trends and signals across geographies and end markets. For example, improving build rate trends in automotive, continued strong demand in semiconductor data center and factory automation, increasing healthcare elective procedure volumes and a strong bounce back in China following April and May COVID-related lockdowns. However, there are also continued challenges and areas of concern that we're monitoring, including the stubborn and evolving impacts of COVID, global supply chain and logistics challenges, persistent and broad-based inflation which is pressuring consumers' purchasing power and shifting spending patterns, softening trends in consumer electronics, and geopolitical uncertainties, particularly in Europe.

We are working through these challenges and are taking actions such that we expect to offset the majority of these headwinds. However, as I mentioned earlier, the strength of the U.S. dollar is having an increasing impact on our top and bottom line which is the primary factor driving our update to full-year guidance. Foreign currency translation is now expected to be a full year headwind of minus 4% versus minus 1% previously. This FX headwind is resulting in a reduction of over $1 billion in annual sales and is also accounting for nearly 80% of the adjustment in our full year earnings expectations. Therefore, we now expect full year earnings in the range of $10.30 to $10.80 versus our prior range of $10.75 to $11.25.

Given our first-half performance, along with the continued uncertain environment, we also believe it is prudent to adjust our organic growth expectations. Therefore, we now expect full-year organic growth in the range of 1.5% to 3.5% versus our prior range of 2% to 5%. And finally, we expect adjusted free cash flow conversion to be in the range of 90% to 100%.

Before I wrap up, let me make a few comments regarding the third quarter. First, we currently anticipate an approximate 5 percentage point headwind to total sales from foreign currency translation. While build rate forecast for automotive have moderated, we see easier comps here in Q3 versus last year. U.S. medical elective procedure volumes are expected to be in the range of 90% to 95% of pre-COVID levels while oral care volumes are estimated at approximately 90%. We expect a headwind of $100 million to $200 million year-on-year from the ongoing decline in disposable respirator demand. We continue to closely watch weakening consumer electronics demand trends and overall consumer sentiment and spending. And finally, looking at raw materials and logistics costs, we anticipate a Q3 year-on-year headwind of approximately $225 million, which we expect to be able to navigate an offset through price actions.

To wrap up, our team delivered 1 percentage organic sales growth in the quarter, 21% adjusted margins and generated $1 billion in adjusted free cash flow. I want to thank our customers and suppliers for their partnerships and the 3M employees for their hard work and dedication, as they continue delivering for our customers.

While the macro environment continues to be extremely fluid, the 3M team remains focused on serving our customers and delivering a strong second half of the year. We will remain focused on investing in favorable macro trends, increasing operating rigor through a focus on deep root cause, and driving working capital intensity to further strengthen cash flows. I'm excited about the future of New 3M and our Health Care business. We believe that today's announcements position the company to drive significant long-term value for our customers, employees and shareholders. Our businesses and capital structure are strong and we are well positioned for success.

That concludes my remarks for the second quarter. With that, we will now take your questions.

Questions and Answers

[Operator]

[Operator Instructions] Our first question comes from Andrew Obin with Bank of America. You may proceed with your question.

[Andrew Obin, Analyst at Bank of America]

Yes, good morning.

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Hey, Andy.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Hey, Andrew.

[Andrew Obin, Analyst at Bank of America]

Yeah. First of all, congratulations on achieving these key milestones. I'm sure the team worked incredibly hard to achieve that. So congrats.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Thank you, Andrew.

[Andrew Obin, Analyst at Bank of America]

My first question so maybe not for Mike and not for Monish, Kevin is on the phone as well. So we're getting a lot of questions about just the structure for the Combat Arms. Kevin, could you just talk about the process for sort of ring-fencing the Combat Arms liability? You highlighted an estimator. How much of it is sort of just -- how much of this estimate is sort of discretionary in nature? How much of it is based on precedent? Just maybe explain the process a little bit better to us because my understanding is that it is a fairly complex process to come up with the number, but any help would be useful. Thank you.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yeah. Maybe -- Andrew, maybe I'll start with and Kevin can add some details as well.

[Andrew Obin, Analyst at Bank of America]

Of course.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

So as we talked about in prepared remarks, Aearo Technologies operating entity and 3M is voluntarily taking on this liability and it's really about us. 3M's stepping up to do what's right here. Do right by veterans and drive a -- drive more certainty, drive better clarity for everyone involved. As we talked about, we are committed to fund the trust and this is based on the analysis by an experienced estimator of claims. The third party that we're working with an economic consulting firm Bates White is the one that develop the estimate for us. We believe the $1 billion is the appropriate amount based on that expert analysis. And we are -- as part of this process, we'll provide additional funding if required under the terms of the agreement, but that's the basis for the $1 billion.

Kevin, I don't know if you have anything to add to that?

[Kevin Rhodes, Executive Vice President and Chief Legal Affairs Officer at 3M]

Yeah. Thanks, Mike. I'll just add that the analysis will be explained in an expert report that will be reviewed as part of the Chapter 11 proceeding. It's important to note that the Chapter 11 court will oversee this process and the claimants will be represented as well. And the goal is to have the court help Aearo establish this trust funded by 3M as Mike said, and those seeking compensation can present their claims to the trust rather than going through the litigation process on a case-by-case basis.

[Andrew Obin, Analyst at Bank of America]

And does this number get updated on a regular basis in the Q or intra-quarter or it's just we're going to get big updates as things evolve or no updates at all?

[Kevin Rhodes, Executive Vice President and Chief Legal Affairs Officer at 3M]

So this is the commitment to fund the trust of $1 billion. At the end of the process when the trust is established, that's when the proceeding will be concluded.

[Andrew Obin, Analyst at Bank of America]

Got you. Thank you. And then just a follow-up question. I guess this question for Mike. There is a lot of talk about recession, right? There is headlines that we're technically in a recession. You did address inflation, consumer slowing, but just from your perspective you have such broad exposure to the economy. What do you think we are in the economic cycle? And how does that sort of figure in your planning for the second half of the year and as you start initial budgeting process for '23? Thanks a lot.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yeah. Andrew, maybe I'll start. In Q2, we saw most of our end markets remain strong and like everybody else, we saw some softening in the macro both IPI and GDP. As we look forward, it's really important in the current backdrop, economic backdrop to look at individual markets and we're seeing some positive signs. We see elective procedures continuing to improve kind of sequentially as we go, we'll see a second-half improvement in build rates for automotive versus first half. There is some areas of softness in our individual markets. We're looking at consumer electronics for example, that has now an outlook for the total year that will be negative growth for that segment. We're watching, I would say, consumer and retail spending closely with the focus on inventory and the retail customers and also just the general dynamic around spending as some of the challenges with inflation causing some shifts in where consumers are spending their money. So we're watching that closely.

There is a few other areas that really are looking at it. We see Europe and really broadly EMEA down in the second quarter impacted by geopolitical impacts, COVID, I would say, inflation impacting. So just general some softness there as well. So all of this when you put it together, it's leaving us with some uncertainty around the economic outlook. So that's the way I would wrap it up. As we go into the second half, we're cautious about where the economy is going, we're watching it closely.

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Andrew, I'd just add...

[Andrew Obin, Analyst at Bank of America]

And now, yeah.

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

FX too, please, foreign exchange down 4% for the year, down 5% for the third quarter. As you know that strong dollar does impact our earnings and that's why 80% of our guide down was due to FX. So that's the other piece I would add to Mike's comments.

[Andrew Obin, Analyst at Bank of America]

Really appreciate it. Thanks a lot.

[Operator]

Our next question comes from Scott Davis with Melius Research. You may proceed with your question.

[Scott Davis, Analyst at Melius Research]

Hey, good morning guys, and congrats on the Health Care spin announcements, that seems like a smart move. It did climb in minutiae here but on Slide 18, since you guys don't give us price anymore, can you just give us at least some sense of what -- you got a $0.36 raw material impact. If price came close to offsetting that or just give us a little bit of sense of the progress you've made on the price cost...

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Sure.

[Scott Davis, Analyst at Melius Research]

Equation.

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Sure, Scott, I'll take that. As I've mentioned before, the teams have done a very disciplined approach to pricing actions across multiple markets, multiple geographies. As you know, we don't do just cost plus pricing so we take into account our competitive position, we take into account market situations, the inflation that has by commodity. So when you put all that together, I would say between the businesses and the product lines that's somewhere between low-single digits to high-single digits but if I had do a weighted average of that, I would say mid-single digits, Scott, is where we came in on price. So we did offset inflation.

As I mentioned in my prepared remarks, we're managing inflation through pricing actions and in the second half, we continue to see broad-based inflation. So we updated our inflation guide to nearly $750 million to $850 million versus the earlier range we had which is in the $350 million to $450 million range. And even there, we continue to manage that inflation. We continue to take price. I don't know if I answered your question, but I think that was your question.

[Scott Davis, Analyst at Melius Research]

Yeah. No, that's helpful, Monish. And just going back to Andrew's question on Slide 15 where we talk about Aearo Technologies being always operate as a wholly-owned subsidiary. Is there some -- is there a litmus test there on whether it was truly integrated or funds commingled, ERP systems commingled. I mean, I just remember faintly from the asbestos stays that there were kind of lines you couldn't cross to be able to keep something separate and put a liability into a separate entity like this.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yeah. So it's -- so Aearo, I'll take this, so Aearo has been a wholly owned subsidiary since the 2008 acquisition. It has continued to operate and it's important to note that the Aearo entities have been involved in the Combat Arms litigation from the beginning. They are named as co-defendants in the litigation and they launched, manufactured and actually sold the majority of the Combat Arms Earplugs had issue before the 2008 acquisition by 3M.

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

And Scott, we don't see a reason why we can't have our systems, especially your question on the ERPs separate the two entities.

[Scott Davis, Analyst at Melius Research]

Okay. So ultimately there will be a judge that's ruling on that, I would assume perhaps. Is that correct?

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yes. It's correct.

[Scott Davis, Analyst at Melius Research]

All right. Thank you. I'll pass it on. Appreciate it.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yeah. Thanks, Scott.

[Operator]

Our next question comes from Andrew Kaplowitz with Citi. You may proceed with your question.

[Andrew Kaplowitz, Analyst at Smith Barney Citigroup]

Hey, good morning, guys.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Good morning.

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Good morning, Andy.

[Andrew Kaplowitz, Analyst at Smith Barney Citigroup]

Mike, can you give a little more color on what you're seeing by region? I know you mentioned Europe and potential weakness there in the second half, but you also talked about China and stronger than expected improvement in June and it was down 8% in Q2. So what do you think growth looks like for the rest of the year there? And how worried are you about a bigger slowdown in Europe?

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yeah. It's a -- maybe just to give you those two areas in particular. So China, as Monish highlighted in his prepared remarks, we saw better-than-expected recovery in June due to the lockdowns that we were seeing, then the soft start to April-May that we talked a bit about in China. So as we go forward -- and for the quarter, you're right, it's down high single-digits year-on-year, GDP still looks positive in Q2. As we go forward, part of the answer is going to be how quickly does it recover? What is the impact going forward of COVID as any potential additional lockdowns? So it's really looking at where we go there. I mean China continues to be an important market for 3M. It's -- the macro backdrop shows a good positive backdrop but it's really going to be how things progressed relative to COVID and the recovery from COVID and then what else comes our way as we go through the quarter and through the rest of the year.

Back to Europe, our declines there were really led by Consumer and Safety and Industrial. Health Care was still growing strong in the quarter. We saw some strong growth in individual market segments. Back to my comments, the current outlook in the current growth is market dependent as opposed to broad-based one view of everything. And so I think Europe is that, here we've got the geopolitical risks, here we've got the impact of the supply chain issues and challenges and inflation as well. So a down in the quarter and we think a soft outlook as we look at the second half.

[Andrew Kaplowitz, Analyst at Smith Barney Citigroup]

It's helpful, Mike. And then maybe you can give a little more color into how the change in you're approaching the Combat Arm situation is impacting your total litigation costs? Does it lower 3M's overall litigation costs either in the short or longer term? How does it work in terms of because you've been spending, call it 5% to 6% of EPS has been -- you've separated out for us. Does that now go down, up, how do we think about that with the change today?

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Yeah. So the way it will work Andrew is when we came into the year, we had told you approximately $0.60 of adjusted earnings of litigation-related expenses. That number has been updated for three items. Item number one is pre-tax charge that we will take as a part of the Combat Arms litigation, which is approximately $1.2 billion. The second one is the charge that we announced earlier in the quarter about our Zwijndrecht thing which is $355 million and for the year that will be approximately $500 million. And then the item which was around $0.60 of litigation-related expenses now with the way this transaction will work out is around $0.55. So put all that together that's approximately $2.2 billion of adjusted earnings for litigation-related and Zwijndrecht-related items. So hopefully that answers your question.

[Andrew Kaplowitz, Analyst at Smith Barney Citigroup]

Thanks for that, Monish.

[Operator]

Our next question comes from Stephen Tusa with J.P. Morgan Securities. You may proceed with your question.

[Stephen Tusa, Analyst at J.P. Morgan Securities]

Hey, guys, good morning.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Hi, Steve.

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Hi, Steve.

[Stephen Tusa, Analyst at J.P. Morgan Securities]

Are there any -- what are the risks around creating this structure for this entity? How do you kind of gauge the -- this political environment, any kind of risk to not being able to kind of execute on this, or your lawyers kind of tell you it's pretty ironclad?

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yes, Steve. There's certainly -- there are process steps that we will go through as we file today for the Aearo Technologies. And so there are -- we have to work through each of those steps so there's always decisions that are made along the way. So I think that's part of gaining certainty as we go and we'll keep everybody updated. I don't -- Kevin, do you make any comment specifically?

[Kevin Rhodes, Executive Vice President and Chief Legal Affairs Officer at 3M]

Yes. Certainly, well, most Chapter 11 proceedings are congested so even we've -- we're prepared to move forward and we believe the applicable law supports our position as we move forward into this process. And the goal again is to remove uncertainty, to set up a more efficient and equitable process for establishing a fund, to compensate claimants who are entitled to compensation as opposed to the process of continuing to litigate on a claim-by-claim basis.

[Stephen Tusa, Analyst at J.P. Morgan Securities]

Got it. Helpful. And then, and then just one quick follow-up on how you're kind of preparing for a potential pullback in demand more broadly. When you look at what happened in COVID, all you guys took a lot of temporary cost out, able to defend the margins pretty, pretty nicely. What are kind of the contingencies this time around? Did things -- are things going to be a little bit different or should we look at COVID is kind of like the same playbook if we do see a significant macro pullback in the next couple of quarters?

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yes. Steve, I think, I guess you've seen, we managed into recessions and through any kind of slowdowns with a broad-based approach and we will do what's needed given the economic conditions. As I said, we're watching how each of the market demand areas are developing, how the overall macro is developing, what's going on the global economic outlook and we'll take actions as required. And it will be in what we do in our factories and how we manage our commercial businesses and how we operate the company. So we will keep you updated as we get a better view.

[Stephen Tusa, Analyst at J.P. Morgan Securities]

Excellent. Thanks.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yeah. Thanks, Steve.

[Operator]

Our next question comes from Nigel Coe with Wolfe Research. You may proceed with your question.

[Nigel Coe, Analyst at Wolfe Research]

Thanks. Good morning, everyone.

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Good morning, Nigel.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Good morning.

[Nigel Coe, Analyst at Wolfe Research]

Yes, thanks. So I just wanted to go back to the bankruptcy filing. So when you put Aearo into Chapter 11, do you move EBITDA in that business? How does that work?

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Yeah. Nigel, so depending on how the bankruptcy proceeding goes the plan will be to deconsolidate that entity, but the overall revenue and earnings are immaterial in the grand scheme of things.

[Nigel Coe, Analyst at Wolfe Research]

Okay. Okay. We'll move offline there. And then is the -- I mean that there is controlled see around the structure and those appeals and congressional recurring about it. But how contingent is the Health Care separation on a successful filing for Aearo. I mean is one contingent to the other? So can you still go ahead and separate Health Care even if the filing for Aearo is unresulted?

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yeah. Nigel, we did announce both actions today. They're really the result of separate kind of strategies and decisions. Health Care spend was based on it. As you know, we actively manage our portfolio. We look at broadly where to invest in our portfolio, where acquisitions make sense, and how do we get the most value out of it. And that's what was behind the decision to ultimately spin Health Care. We've invested in strategies to create a stronger healthcare company, it's well positioned to succeed and have a great future as a standalone company and that really drove that decision. The decision to really take the steps related to Combat Arms litigation came out of really first and foremost, the result of the bellwether trials. They were highly variable, we believe it would take years to litigate those claims. And so given a choice between a costly litigation process, we in a better, fairer, more efficient resolution, that's what drove the decision to step into the new actions that we're taking.

So they were -- they are happy to be able to announce in the same day, but they're really based on separate strategies in both really helping to set us up for I think well positioned for, as we said at the top, greater opportunity with the spending and more certainty with the actions we are taking related to Combat Arms.

[Nigel Coe, Analyst at Wolfe Research]

Thanks, Mike. And then if I can just follow-up. We get a lot of questions from investors around, obviously, the $1 billion is what you put in initially, but obviously, the plaintiffs would be at a much, much higher level. So assuming the structure is approved, how does that gap gets bridged between the $1 billion you're putting in and obviously, the plaintiffs that are at a much, much higher level? How does that get resolved?

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Well, based on what we're doing, there will be a separate process, there will be a different process. Kevin, can talk about how that proceeds, but there will be -- in the court that takes responsibility for these proceedings, they will oversee a process there that we believe that, as I said, we are committed to a fund that was based on we think appropriate analysis from an expert outside firm but Kevin can talk about the steps of that process and how that resolves.

[Kevin Rhodes, Executive Vice President and Chief Legal Affairs Officer at 3M]

Yeah. There -- as part of the Chapter 11 proceeding, there will be a claims estimation process where the court overseas that process and we believe that the $1 billion that we have committed based on the external analysis is sufficient to fund the trust for those claimants and who are entitled to compensation. The proceedings will be the subject of expert reports overseen by the court. The claimants will be represented as well. And we believe this is a number that is required. The funding agreement, if necessary, 3M is prepared to provide additional funding to resolve this matter at the end of the process.

[Nigel Coe, Analyst at Wolfe Research]

Thanks, Kevin. Really helpful.

[Operator]

Our next question comes from Joe Ritchie with Goldman Sachs. You may proceed with your question.

[Joe Ritchie, Analyst at The Goldman Sachs Group]

Thanks. Good morning, everyone, and congrats on both announcements.

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Good morning, Joe.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Good morning, Joe.

[Joe Ritchie, Analyst at The Goldman Sachs Group]

Maybe my question -- yeah, maybe my question is for Kevin actually. I feel this is all fairly new to us. I'm just curious like, is there some kind of likelihood that the plaintiffs will come back and want their lawsuits to be heard outside of bankruptcy court?

[Kevin Rhodes, Executive Vice President and Chief Legal Affairs Officer at 3M]

So once the Chapter 11 filing is made, there is an automatic stay. As to the Denner entity, which in this case is Aearo Technologies, we are also asking for that automatic stay to be extended to 3M. We are funding, according to the terms of the funding indemnification. An indemnification agreement, we're committing to fund the trust to help the court set up a mechanism for compensation for those claimants entitled to compensation. We're providing that funding through Aearo so we think we are entitled to as 3M, and hope to court will extend the stay of litigation to 3M and that would put a stay on the existing litigation in state and federal court.

[Joe Ritchie, Analyst at The Goldman Sachs Group]

Got it. Okay. That's helpful. And then can you guys maybe just provide a little bit more color around the timing? Like how the structure actually helps to expedite the timing and getting to resolution with the potential payments?

[Kevin Rhodes, Executive Vice President and Chief Legal Affairs Officer at 3M]

Yes. So the Chapter 11 case was just filed this morning. The court has not set a schedule yet, there have been a wide range of duration for other Chapter 11 filings to resolve litigation matters. We're hoping to work through the process and resolve the matter as quickly as possible. We hope that all parties will share that goal and move it along as expeditiously as the court's procedures permit. We'll certainly provide updates as the case progresses. And if you think about this in context, we've participated in the MDL process for the past three years, taken 16 cases through bellwether trials for now at the next step, which is to perf 1,500 cases for trials around the country while we await the outcomes of our appeals. So as compared to the process ahead to litigate each of these cases on a case-by-case basis, we believe that the Chapter 11 proceeding will be more expeditious, and certainly we'll provide more clarity and a way to more efficiently and equitably provide compensation to those who are entitled to it.

[Joe Ritchie, Analyst at The Goldman Sachs Group]

Okay. Got it. Thank you very much.

[Operator]

Our next question comes from Julian Mitchell with Barclays. You may proceed with your question.

[Julian Mitchell, Analyst at Barclays]

Hi, good morning. So maybe just wanted to kind of clarify a couple of things on Health Care, there has been a lot of focus on Combat Arms. On the Health Care side, you've had margins down for several quarters now. I know, Monish, you always say that volume leverage is the main driver of margins, but at Health Care that hasn't seemed to be the case most recently. So just wondering kind of when those Health Care margins turnaround. Are they going to be up year-on-year in the back half? And also on Health Care, is the plan that it's levered at 3, 3.5 times, is the plan you get that sort of step one big dividend back to the RemainCo at that point when it spins out and then step two, a year later, you can start to monetize that just under 20% stake? Is that the way to think about the cash sort of from Health Care?

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Yeah, I think both great questions. Julian. I'll start with the first question on margins. As we told you, the EBITDA margins for the second quarter were 30%. As we've talked about before, when you compare prior you have to take into account the Acelity acquisition and its impact on purchase accounting, etc., which depresses the margin. So that's why I would look at EBITDA, which was 30% in the second -- in second quarter.

For the year 2021, we ended at 31% EBITDA, so hopefully that answers your question on that range. Back to do we see it continuing to improve? Absolutely. I mean this is something that the business is doing a really nice job of continuing to manage inflation with price actions that continue to drive productivity actions. And as the volume starts, which is back to your point, which is volumes drive the biggest leverage, as we are seeing elective procedures starting to go back up and hopefully it doesn't get impacted by another wave of COVID, you're going to start seeing that business continue to drive the growth in that area. So that answers your question on margin. The team is quite focused on margin, quite focused on driving organizational efficiency through root cause.

On your second question about how the dividend works, I'll start by saying this is still 15, 18 months away. But the way it will work at that moment in time when that spin happens, there will be a dividend payout from Health Care, which currently we are saying is going to be levered 3 to 3.5 times with positioning for rapid deleveraging because of the strong cash flow that helps Health Care itself generate.

As a part of that transaction, 3M will also retain 19.9% equity stake in our Health Care business that we can monetize over time. The whole purpose of -- the whole intent of this transaction is for as tax efficient and tax-free for which we will go ahead and file all the requirements that needed to make it tax-free. And -- but we're in no rush right now to sell the stake once the spin happens and we'll monetize it over time. And I think that gives us a lot more flexibility for us to pursue strategic options between the dividend that we get as well as the retained stake that we can monetize over time. Hope that helps, Julian.

[Julian Mitchell, Analyst at Barclays]

That's great. Thanks, Monish. And then maybe a sort of more per se kind of operating guidance question. So if I look at the new guidance, I think it implies sort of 270-ish of earnings per quarter in the second half. You did about $250 million in Q2. I don't think FX is getting easier in the back half, organic volumes probably not better in the second half given the macro. So just trying to understand sort of what do you think is getting better in that back half versus the second quarter or the first half kind of run rate? Because you're starting out with the FX headwind maybe there's a little bit less of that China $0.11 COVID here. But, anything else you'd call out...

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Sure.

[Julian Mitchell, Analyst at Barclays]

To drive that sort of step up in earnings?

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Sure, Julian. And I'll give you all the pieces and I'll try to give you data between sequential and year-on-year so if it's confusing my apologies upfront. But I'll just start first by saying, yes, FX, you are right, continues to be a pressure. As I've said in my prepared remarks, for the third quarter, FX is at 5%, for the year it is at 4%. So that actually adds additional pressure first half to second half. But back to your point on the positives and negatives. So we'll start by one, again in my prepared remarks, I said China, we still came in with a backlog that we expect to clear in the second half, you'll see that in the third and fourth quarter. We came in $140 million down on a year-over-year basis so there's recovery there.

Secondly, if you look at build rates in automotive, first half versus second half, they are up nearly 9%. However, for the year, they are up 5% versus earlier we thought the whole year would be up 9%. You're continuing to see strong demand in semiconductor, data center and factory automation.

Third, elective procedures, which were in that range of 85 to 90 in the first quarter moved up to 90 to 95. We expect that to come back to 100% by the end of fourth quarter. And then lastly, GDP and IPI is still forecasted to be up 3% to 4%, 3% for the year versus when we started the year it was 4%. So for the second half, they are still projecting a GDP up.

On the flip side, on the things, to your point that have become negative, we talked about FX, we're still seeing the stubborn and evolving impacts of COVID. Supply chain and logistics pressures continue. We're going to see higher inflation in the second half but we're managing that inflation with price and offsetting that. We are watching consumer behavior because the broad-based inflation is having an impact on consumers' purchasing power and then we're seeing softening trends in consumer electronics, especially in TVs. But again, if you look at smartphones on a half over half basis, smartphones are supposed to be up around 7% to 8%. However, on a year-over-year basis, they are down 4%, okay? So I'm just giving you some data points and hopefully that helps.

And then the last one, Mike already talked about was geopolitical uncertainties, particularly in Europe. But with all that said, I just want to make sure you do understand the team is doing a great job of continuing to manage this, making sure we're doing whatever it takes to first deliver for our customers, because that's our most important priority, spending cost discipline, but at the same time continuing to invest in growth, productivity and sustainability. Because as we think about it, Julian, long term, all these trends will play themselves out. There are great areas for investment for New 3M, for Health Care and we want to keep making sure we're investing for the long run. So all these actions that we're taking are all about setting both these businesses up to be successful in the long run. Sorry for the long answer, but I just want to make sure got the data points.

[Julian Mitchell, Analyst at Barclays]

Thank you for the details.

[Operator]

Our next question comes from Josh Pokrzywinski with Morgan Stanley. You may proceed with your question.

[Josh Pokrzywinski, Analyst at Morgan Stanley]

Hi, good morning, everyone. Thanks for all the details so far this morning.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Good morning, Josh.

[Josh Pokrzywinski, Analyst at Morgan Stanley]

So just a question on maybe kind of the perspective, capital allocation strategy for RemainCo. You said kind of through the separation no real change, but just given kind of the focus of the liabilities and the cash coming out with Health Care free cash flow margins being pretty high. Any change in the way folks should think about something like a dividend policy going forward?

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yeah. Josh, I would say -- I'd start with, we're continuing to focus on driving growth and our capital allocation priorities reflect that, and they will remain unchanged. It's first and foremost about investing in our business, it's about paying an attractive dividend, high priority for us continues to be so. Looking at strategic M&A that can add value and deliver on greater opportunities for the company and then it's returning capital to shareholders through share repurchases. And we continue to see that as our set of priorities as we go forward

When you look at New 3M, it's going to be a very strong, focused, well-capitalized business, a leader in highly attractive markets as we've been talking about on the call. We'll have tremendous cash flow in that business, a strong balance sheet and as Monish just highlighted, with the proceeds from the spin and the 19.9% retained stake that we can monetize over time, it will get stronger. So we are -- we will be well positioned to continue to execute those capital priorities and continue to create value.

[Josh Pokrzywinski, Analyst at Morgan Stanley]

Got it. That's helpful. And then just, I know the historical kind of framework on 3M or the portfolio rationale, because a lot of the IP was domiciled at corporate. I think there's some more diverse assets in Health Care maybe than some of the other industrial businesses. But are there any dissynergies by virtue of either some of the IP or manufacturing process versus sourcing that kind of gets separated there when Health Care leave?

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yeah. Josh, we've long talked about the benefit our businesses have in leveraging the fundamental strengths of 3M and that's certainly been important to building the Health Care business. The technologies that we have are unique and differentiated technologies, our manufacturing capabilities and our global capabilities and our brands. And Health Care, as you touched on, with our portfolio strategies, we've built a stronger Health Care business. We've done it with organic investments and sometimes leveraging some of those key technologies. We've added acquisitions, significant part of the business now with a solid M Modal coming in as part of the business. We've also stepped into really focused that business through the divestiture of drug delivery and soon the separation of food-safety business. So all of that has positioned Health Care, not only to be a strong standalone company, well positioned to be able to execute those same strategies moving forward.

There's always some connectivity to the technologies manufacturing at 3M. The -- I would say the connection between Health Care and the rest of the company is more limited than the three businesses that will make up New 3M. We'll be able to manage that separation well we think, especially with the focus that Health Care has on those specific markets. So it's been an important part of building it. We think it's well positioned with what we can do in the spend to be able to take it forward.

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Josh, I just want to add few more things to what Mike just said. We're going to have dedicated teams that are going to drive the separation. Also, just looking at precedent of other spins publicly plus some of the experience that we've had with our divestitures in the Health Care space, we believe the separation cost is going to be somewhere in the range of $1 billion to $1.5 billion that will get paid -- played out over time. Some of it will start now and some of it will play out over the next 24 months. But again, it's quite early in the process. The teams are starting to get ramped up. As we get and learn more, we'll definitely keep you posted.

[Josh Pokrzywinski, Analyst at Morgan Stanley]

That's great color. Best of luck, guys.

[Operator]

Our next question comes from Deane Dray with RBC Capital Markets. Please proceed with your question.

[Deane Dray, Analyst at RBC Capital Markets]

Thank you. Good morning, everyone.

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Good morning, Deane.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Good morning, Deane.

[Kevin Rhodes, Executive Vice President and Chief Legal Affairs Officer at 3M]

Good morning, Deane.

[Deane Dray, Analyst at RBC Capital Markets]

Hi. Just a couple of cleanup questions here. The first, I just wasn't clear but is the Board considering any other divestitures or spin or is RemainCo three portfolio going to be as is on a go-forward basis?

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yeah, Deane. Our portfolio strategy, it's a continual strategy. We're always evaluating where we want to make change in our portfolio, adding through M&A, managing to optimize the value. So that's something that will continue really as we go forward. I talk a lot about New 3M. We really believe the three businesses that make up that New 3M company will be strong, well-positioned for success in their markets. They will leverage well the technology to get harder 3M, the fundamental strengths of 3M. So it's -- it will be a continual process that we -- and strategy that's important.

I think our portfolio strategy really complementing what we do with innovation. We're driving innovation, creating new solutions for customers, building new businesses at the same time portfolio management make sure we're looking broadly at where we are creating the greatest value and how do we need to think differently about it. So that's not going to change as we execute through the spin.

[Deane Dray, Analyst at RBC Capital Markets]

Got it. And then, just wanted to understand, is there a scenario similar to what you're doing in Combat Arms for PFAS, where you would consider a similar bankruptcy structure? Is just related to this -- it wasn't clear in the filing today, maybe this is a technical question for Kevin. But are you -- is this being filed under a 105A bankruptcy structure because it certainly sounds that because that would require all of those sign-ups and approvals, which would suggest there's going to be an extended process here ticket to the finish line.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yeah. Deane, maybe I'll take the PFAS part of that question and then I'll let Kevin answer the 105A question. So on PFAS, we continue to be focused on proactively managing our environmental stewardship and stepping up and following through on our commitments there. We are vigorously defending ourselves in the cases that we have with PFAS, and we're looking at a reasonably resolve, remediate where we can. We expect PFAS is going to play out over years and I would probably leave it at we're well advised of our options.

[Deane Dray, Analyst at RBC Capital Markets]

Understood. And Kevin?

[Kevin Rhodes, Executive Vice President and Chief Legal Affairs Officer at 3M]

Yeah. So we believe that 105A does provide authority as well as other provisions of the bankruptcy code, given the Aearo Technologies liabilities that are included. And so our filings are being completed today and those will spell out the various bases for seeking the relief that we've asked the Chapter 11 court to provide.

[Deane Dray, Analyst at RBC Capital Markets]

Will you also pledge your insurance assets?

[Kevin Rhodes, Executive Vice President and Chief Legal Affairs Officer at 3M]

So our insurance assets are part of the ability to funds that we can tap into to fund the trust. If those assets will be provided as well as other assets from the company to provide the trust. And I just -- one point to clarify that, it's the Combat Arms liabilities, as well as the -- some legacy some discontinued Aearo Technologies, respirator masks claims, which are part of the filing as well some of those are for asbestos exposure which are under 524(g) of the code as well.

[Deane Dray, Analyst at RBC Capital Markets]

Got it. That's real helpful. Thank you.

[Operator]

Our next question comes from Nicole DeBlase with Deutsche Bank. You may proceed with your question.

[Nicole DeBlase, Analyst at Deutsche Bank Aktiengesellschaft]

Greetings. Good morning, guys.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Good morning, Nicole.

[Nicole DeBlase, Analyst at Deutsche Bank Aktiengesellschaft]

Just maybe a couple of questions on the business. I mean, looking at inventory, how would you categorize inventory in the channel versus let's say deal? And I think probably the biggest question would be around how you would view your consumer inventory?

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yeah. Nicole, it's something we watch closely always. It's something that gives us a good indication of the sell-through of each of our businesses. There is certainly some areas that we've seen some inventory buildup there related to COVID lockdowns as an example. We added some inventory build, some inventory ahead of -- some ERP go live actions that we're taking. When we look at the channel inventory, it's been relatively stable, it's having to react to the same kind of supply chain challenges that we are seeing and react to it, disruptions in supply logistics challenges. So it's a little more dynamic than usual, but pretty well aligned with what we're seeing in terms of demand.

We're watching consumer closely. There was elevated inventory in the channel as part of that. That's something, it's been very publicly talked about and that retail leaders are working through. We're seeing some of that as well. We still see strong sellout point of sale demand there. So something that we're watching closely. And again it's -- I would say, it's more dynamic but maybe except for something like retail, inventory pretty well in line with expected demand.

[Nicole DeBlase, Analyst at Deutsche Bank Aktiengesellschaft]

Got it. Thank you. And then just to follow up on price cost, so I mean some key commodities have started to come down. At what point could that start to impact your margins positively? Like is that as soon as it could impact the back half of 2022 or is that more of a 2023 margin dynamic at this stage?

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Yeah. Nicole, and we watch this closely. As you know, we have exposure to multiple feedstocks, luckily, not one of them is overly material. You look at polypropylene, you look at resin, you look at logistics, air freight costs, etc. The thing that we haven't yet seen is sustained reduction. So you get data points, like you've seen the data points of oil come down, but how that translates down to the feedstocks because we don't buy crude oil is going to play itself out. So that's what we're watching. And so I don't know whether it impacts 2022 or 2023 but what we do see still right now is there is broad-based inflation all around that is getting pushed down as tiers are getting involved. And as I told you, we have updated our guidance to $750 million to $850 million dollars of inflation for the year, which is higher than what we thought coming into the year, but at the same time we are managing that inflation through price. And I think what we'll have to watch is to -- supply chains get sustainability -- sustainably improved versus one or two data points.

[Nicole DeBlase, Analyst at Deutsche Bank Aktiengesellschaft]

Understood. Thanks, Monish. I'll pass the line.

[Operator]

Our last question comes from Brett Linzey with Mizuho Securities. You may proceed with your question.

[Brett Linzey, Analyst at Mizuho Securities]

Hi, good morning all, and congrats on today's announcements.

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Hey, Brett. Thanks, Brett.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Thanks, Brett.

[Brett Linzey, Analyst at Mizuho Securities]

Hey. I appreciate the color on the separation cost to $1 billion to $1.5 billion, but was hoping you could provide some color insight on what the go-forward stand-up corporate structure cost will be for the two entities?

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Yeah. Sure, Brett. So again I'll give you benchmark data. So we have a placeholder for the health business, there is a bench using stand-up costs that's approximately $100 million is what we said is public company costs for that size of company. Similarly, right now what we penciled in is for New 3M to have around 1.5% of revenue as incremental cost or stranded cost. However, as Mike and I've told you all multiple times, we are all focused on all the efficiency. We are still very early in the process and we're going to keep working this down. We got time till the spin gets done so we're going to keep trying to be as efficient as we can and make both companies continue to grow above macro, keep having margin expansion and strong cash.

[Brett Linzey, Analyst at Mizuho Securities]

Okay. Got it. Thanks. And just one last one on the Belgium facilities. So you reached the agreement in early July on some of the actions, the new commitments. Could you just provide us with an update, how that facility production is ramping? And are you still partnering with a third party there? Are you going to get back to kind of full run rate in terms of your internal sourcing strategy by the end of the year?

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Yeah. Brett, we are in the process of restarting the manufacturing operates and then it takes some weeks to do that. We reached the agreement, we are pleased with the outcome of the cooperation that we've had with the local authorities there to resolve the matters and move ahead. So we'll be ramping up to full production here soon. So we're staying in touch with our customers, making sure everybody is aware of our timelines, but it's -- we're in the middle of that ramp up.

[Brett Linzey, Analyst at Mizuho Securities]

Okay. Great. Best of luck.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

Thank you.

[Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer at 3M]

Thank you.

[Operator]

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.

[Michael F. Roman, Chairman of the Board and Chief Executive Officer at 3M]

In summary, we are positioning 3M for the future, to create more opportunity and greater certainty. There will be two world-class well-capitalized public companies. We will work to efficiently and equitably resolve our Combat Arms litigation and we will maintain our relentless focus on delivering for our customers and shareholders. We remain focused on driving growth and margin expansion and generating strong cash flow. We're excited about the new opportunities to apply 3M Science to life. Thank you for joining us.

[Operator]

[Operator Closing Remarks]

Participants

Corporate Executives

• Bruce Jermeland, Senior Vice President, Investor Relations
• Michael F. Roman, Chairman of the Board and Chief Executive Officer
• Monish Patolawala, Executive Vice President, Chief Financial and Transformation Officer
• Kevin Rhodes, Executive Vice President and Chief Legal Affairs Officer

Analysts

• Andrew Obin, Bank of America Co.
• Scott Davis, Melius Research
• Andrew Kaplowitz, Smith Barney Citigroup
• Stephen Tusa, J.P. Morgan Securities
• Nigel Coe, Wolfe Research
• Joe Ritchie, The Goldman Sachs Group, Inc.
• Julian Mitchell, Barclays PLC
• Josh Pokrzywinski, Morgan Stanley
• Deane Dray, RBC Capital Markets
• Nicole DeBlase, Deutsche Bank Aktiengesellschaft
• Brett Linzey, Mizuho Securities