3M 2004 Annual Report Download - page 47

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Operating Expenses:
(Percent of net sales)
2004 2003 2002
2004
versus
2003
2003
versus
2002
Cost of sales 49.8% 50.9% 52.0% (1.1)% (1.1)%
Selling, general and administrative expenses 21.6 22.2 22.8 (0.6) (0.6)
Research, development and related expenses 5.7 6.0 6.5 (0.3) (0.5)
Other expense – 0.5 – (0.5) 0.5
Operating income 22.9 20.4 18.7 2.5 1.7
Cost of Sales:
Cost of sales includes manufacturing, engineering and freight costs. Cost of sales decreased 1.1 percentage points in
both 2004 and 2003. The 2004 decrease as a percent of net sales was driven by a combination of higher volumes,
productivity gains, ongoing benefits of corporate initiatives and positive currency impacts (including hedging impacts).
While 3M raw material costs increased during the year, 3M’s global sourcing initiative was important in enabling 3M to
minimize raw material cost increases during a period of commodity price inflation.
Cost of sales in 2003 benefited from Six Sigma and other projects aimed at improving manufacturing throughput, yield
and productivity. 3M’s global sourcing initiative has helped mitigate the impact of raw material price increases. In 2003,
raw material costs were essentially flat versus 2002. Charges related to the 2001/2002 corporate restructuring program
negatively impacted cost of sales by 0.7 percentage points in 2002.
Selling, General and Administrative Expenses:
Selling, general and administrative (SG&A) expenses have improved by 0.6 percentage points in each of the past two
years. The improvement in 2004 as a percent of net sales was helped by leverage related to 3M’s strong growth in the
Asia Pacific area. SG&A expenses in U.S. dollars increased in 2004, negatively impacted by currency translation and
increased advertising and merchandising spending to support 3M’s strong brand portfolio. On an ongoing basis, the
Company is shifting SG&A dollars toward faster-growth businesses and geographic areas.
SG&A expenses in U.S. dollars in 2003 increased due to currency translation, as well as higher advertising and
merchandising spending. Charges related to the 2001/2002 corporate restructuring program negatively impacted
SG&A in 2002 by $77 million, or 0.5% of sales. Excluding these charges, SG&A for 2003 was relatively flat as a
percent of sales compared with 2002.
Other Expense:
In 2003, 3M recorded pre-tax charges of $93 million ($58 million after-tax, or 7 cents per diluted share) related to
an adverse ruling in a lawsuit filed against 3M in 1997 by LePage’s Inc. The pre-tax charge of $93 million is
classified as “Other expense” within operating income. For more detail, refer to the discussion of “Legal
Proceedings” in Part I, Item 3 of this document.
2001/2002 Corporate Restructuring Program:
In 2002, charges related to the 2001/2002 corporate restructuring program reduced operating income by $202 million
and net income by $108 million. These charges principally related to employee severance and benefit costs,
accelerated depreciation charges, and other associated exit costs under the Company’s restructuring plan announced
in June 2001. These charges are included in cost of sales ($121 million); selling, general and administrative expenses
($77 million); and research, development and related expenses ($4 million). The 2001/2002 corporate restructuring
program actions were substantially completed by June 30, 2002. The Company estimated incremental savings under
this plan of approximately $100 million on a pre-tax basis in 2003, primarily in the first half of the year. The Company
estimated incremental savings of $300 million on a pre-tax basis in 2002. The majority of these savings were from
reduced employee costs. For more detail, refer to the discussion in Note 4 to the Consolidated Financial Statements
(2001/2002 Corporate Restructuring Program).
Operating Income:
3M uses operating income as one of its primary business segment performance measurement tools. Operating income
in 2004 was 22.9% of sales, up from 20.4% of sales in 2003 and 18.7% of sales in 2002. Operating income in 2004
grew by $865 million, or 23.3 percent, following 2003 operating income growth of $667 million, or 21.9%. The LePage’s
Inc. lawsuit negatively impacted operating income in 2003 by $93 million, or 0.5% of sales. The 2001/2002 corporate
restructuring program negatively impacted operating income in 2002 by $202 million, or 1.2% of sales.