2006 Annual Report Working Our Magic Working Our “ Any suffi ciently advanced technology is indistinguishable from magic.” – Arthur C. Clarke Magic Table of Contents 1 Letter to shareholders 14 3M at work in the community 4 Enhancing safety and security 16 3M at a glance 6 Making life better around the home 23 Directors and executives 8 Improving the quality of health care 24 Financial summary 10 Always adding value for businesses IBC Shareholder information 12 Solving problems everywhere To our shareholders I am very pleased by the many accomplishments of the 3M team in 2006. It was a year in which we made great progress toward inventing a new future for ourselves at 3M, a future of faster growth and increased competitiveness, while continuing to deliver superior returns to our shareholders. We are convinced that higher levels of value creation for our shareholders are driven by higher rates of sales growth, particularly while sustaining the higher levels of ROIC for which 3M is well known. Importantly, growth also enhances career opportunity for the people of 3M, To the outside world, what we do looks a little like magic. whose efforts are the primary drivers of our success. In accelerated growth environments, everybody wins. Our people have an uncanny ability to see customer needs and then meet them by drawing on 3M’s deep pool of technologies – a pool supported by R&D-related investment averaging more than 6 percent of sales. We create entirely new product categories and breathe new life into markets crying for reinvention. George W. Buckley It’s been called “the 3M effect.” But what may appear Chairman of the Board, President and Chief Executive Offi cer to be serendipity or wizardry really is our very mindful method of driving discovery and innovation. It’s fi rmly rooted in our collaborative culture. Each day, we have one thing in mind: to help customers succeed – at home, in the workplace, on the go, around the world. Harnessing innovation for your benefi t – that’s the practical magic behind 3M’s success. Working Our Magic 1 The major mission of 3M over the coming few years is not only in Poland and one each in Korea, Mexico, Russia, India and to position ourselves for higher growth, but also to structure Canada. Seven major plant extensions are under construction ourselves to sustain that growth for many years to come. I am in the United States and one in the U.K., principally to meet new firmly convinced that many of the elements are in place for 3M demand in our health care, optical films and safety businesses. to realize such a goal: New capacity is being located close to customer demand to create • A company with great brands and a long history of innovation in shorter supply chains, aid customer responsiveness and reduce technology and product development working capital. Plant construction has a natural gestation period • Professional, highly skilled people in all parts of the organization before the capacity comes on stream, and this slows our ability • Great manufacturing capabilities to respond immediately to opportunities for growth. But the • The world leader in optical films, industrial and office tapes, and first of these plants (in Korea, for our Occupational Health and nonwoven fabrics, just to name a few Environmental Safety business) comes fully on stream in July 2007. • The best geographic distribution network of any company our size It is the fastest build of a major new plant in 3M’s history and will • Superior margins, a strong balance sheet and great returns for allow us to respond vigorously to growth in this important market. our shareholders In the short term, this will drive the need for higher capital The keys to driving higher growth are fairly straightforward, expenditures. In the long run, however, it will be more than offset namely, refocusing on our core business, using acquisitions to fill by reductions in working capital. in the white spaces (both technological and market), rapid entry into emerging new markets and continuing to build our highly Supply chains: The management of investment risk at 3M successful international business. was historically rooted in the philosophy of keeping capital expenditures low. When new products were launched, this often While this is conceptually simple, a number of structural and meant that the supply chains for manufacturing new products operational factors limited our recent growth rates. The most were routed through unused marginal capacity, one process in important of these are: one plant, the next process in another, often spread across many 1. Shortages of manufacturing capacity in key areas different plants in different states, and sometimes even in different 2. Long and complex supply chains, sometimes located far countries. It was not unusual for 3M products to touch multiple from our customers plants as they wound their way in the transformation process from 3. R&D under-investment in some areas of core business raw materials to finished goods. 4. Insufficient localization of manufacturing and market development activities It brought fabulous returns on capital for 3M and worked well 5. The slow pace of acquisitions when demand was mostly in the United States, when customers were prepared to carry inventory, when inter-plant transportation These are not the only factors which have affected our capability to costs were less expensive and the products were unique. The grow. The level of advertising and merchandising and the number high costs and resource intensity of multiple manufacturing of sales “feet on the street” are factors as well. But in our current touches were mostly overlooked or were seen as unimportant. context, the above list is the most important. While requiring some But this approach concomitantly introduced structural complexity, changes in 3M’s philosophy and approach, all of the above factors made accurate cost forecasting difficult and reduced overall are being addressed vigorously as we build the foundation for individual accountability. accelerating 3M’s growth. As customer demands increased and growth accelerated overseas, Manufacturing capacity: The use of Lean Six Sigma in these long supply chains became increasingly stretched and 3M’s manufacturing plants brought great productivity and quality worked less well, and they began to consume large amounts of benefits to 3M over the past few years. But in the euphoria of working capital and expense. This is clearly evident in the amount driving out waste, expectations that it would continually deliver of working capital consumed as we’ve grown. Today 61 percent of more capacity were sometimes overestimated. There is, after our sales are outside the United States, but only 35 percent of our all, a practical limit to the number of shifts that can be run, yield manufacturing is outside. So going forward, 3M’s default model is that can be obtained and line speeds that can be increased to make our supply chains short and close to customers: our new in a manufacturing plant. This overestimation led to demand investments in capacity are designed to solve capacity constraints, and capacity imbalances, with the largest divergence naturally reduce working capital, lower costs and improve supply chain emerging in those businesses with the highest growth rates. speed simultaneously. Today, we are vigorously investing in manufacturing capacity Investment in core R&D: 3M is rightly legendary for its to respond to unmet higher demand. 3M currently has under innovation, commitment to invention and the introduction of new construction 19 new plants or major plant extensions. All the new products. It is a fabulous cooperative and shared-technology plants are outside the United States, where our growth rates are ecosystem unlike, and unequaled by, any other in the world. the highest. Four new plants are being constructed in China, two This really is part of the magic of 3M. Just as 3M’s history is rooted in innovation and the invention of all of these goals, above all, they help boost and complement our new products, so it will be in the future. But to remain successful, capability to drive organic growth and they will remain a key pillar we need to invent and innovate faster and still do it better than of our growth strategy going forward. our competition. We have some of the best scientists and manu- In summary: The challenge of inventing a new future is never facturing process engineers in the world and their principal task easy. But against a backdrop of much tougher global competition, is to use their creative genius to give our salespeople the products it is imperative that we take actions on many fronts today. they need to help our customers and beat the competition. Leader- Thoughtful prioritization of our activities is essential, but speed ship’s job is to try to create the environment where the magic can is important too. The best defense for any business is usually a happen. In this new hyper-competitive world, time will never be on potent offense. our side, so speed and focus for 3M are as important as creativity. Although not everything went 3M’s way this year, our accomplish- Nothing will fundamentally change in our approach here, save ments were significant both in their scope and in their symbolism. for greater focus on potentially high-impact programs in overhead They reflect our first important strategic steps toward creating electrical power transmission, renewable energy, minerals an environment of, and capability for, faster growth. They also extraction, security and safety, together with opportunities in reiterate our profound commitment to innovation, to operational higher growth markets such as air and water quality. But the excellence, to customer service and, importantly, to high ethical traditional core areas of 3M, such as industrial tapes, adhesives, business standards.