Leases

6 Months Ended

Jun. 30, 2019

Leases

Leases

NOTE 15.  Leases

The Company adopted ASU No. 2016-02 and related standards (collectively ASC 842, Leases), which replaced previous lease accounting guidance, on January 1, 2019 using the modified retrospective method of adoption. 3M elected the transition method expedient which allows entities to initially apply the requirements by recognizing a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. As a result of electing this transition method, prior periods have not been restated. Due to the cumulative net impact of adopting ASC 842, the January 1, 2019 balance of retained earnings was increased by $14 million, primarily relating to previously deferred gains from sale-leaseback transactions. In addition, adoption of the new standard resulted in the recording of right of use assets and associated lease liabilities of $0.8 billion each as of January 1, 2019. The Company’s accounting for finance leases (previously called capital leases) remains substantially unchanged. ASC 842 did not have a material impact on 3M’s consolidated income statement. 3M elected the package of practical expedients permitted under the transition guidance within ASC 842, which includes not reassessing lease classification of existing leases. The Company did not elect the hindsight practical expedient.

3M determines if an arrangement is a lease upon inception. A contract is or contains a lease if the contract conveys the right to control the use of an identified asset for a period of time in exchange for consideration. The right to control the use of an asset includes the right to obtain substantially all of the economic benefits of the underlying asset and the right to direct how and for what purpose the asset is used. 3M determines certain service agreements that contain the right to use an underlying asset are not leases because 3M does not control how and for what purpose the identified asset is used. Examples of such agreements include master supply agreements, product processing agreements, warehouse and distribution services agreements, power purchase agreements, and transportation purchase agreements.

Operating lease right-of-use assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term. The discount rate used to calculate present value is 3M’s incremental borrowing rate or, if available, the rate implicit in the lease. 3M determines the incremental borrowing rate for each lease based primarily on its lease term and the economic environment of the applicable country or region.

As a lessee, the Company leases distribution centers, office space, land, and equipment. Certain 3M lease agreements include rental payments adjusted annually based on changes in an inflation index. 3M’s leases do not contain material residual value guarantees or material restrictive covenants. Lease expense is recognized on a straight-line basis over the lease term.

Certain leases include one or more options to renew, with terms that can extend the lease term up to five years. 3M includes options to renew the lease as part of the right of use lease asset and liability when it is reasonably certain the Company will exercise the option. In addition, certain leases contain fair value purchase and termination options with an associated penalty. In general, 3M is not reasonably certain to exercise such options.

For the measurement and classification of its lease agreements, 3M groups lease and non-lease components into a single lease component for all underlying asset classes. Variable lease payments primarily include payments for non-lease components, such as maintenance costs, payments for leased assets used beyond their noncancelable lease term as adjusted for contractual options to terminate or renew, and payments for non-components such as sales tax. Certain 3M leases contain immaterial variable lease payments based on number of units produced.

The components of lease expense are as follows:

	Three months ended		Six months ended
(Millions)	June 30, 2019		June 30, 2019
Operating lease cost	$	79	$	151
Finance lease cost:
Amortization of assets		6		10
Interest on lease liabilities		1		1
Variable lease cost		22		42
Total net lease cost	$	108	$	204

Income related to sub-lease activity is immaterial for the Company.

Supplemental balance sheet information related to leases is as follows:

	Location on Face of	As of:
(Millions unless noted)	Balance Sheet	June 30, 2019
Operating leases:
Operating lease right of use assets	Operating lease right of use assets	$	879
Current operating lease liabilities	Operating lease liabilities - current	$	247
Noncurrent operating lease liabilities	Operating lease liabilities		619
Total operating lease liabilities		$	866
Finance leases:
Property and equipment, at cost	Property, plant and equipment	$	235
Accumulated amortization	Property, plant and equipment (accumulated depreciation)		(95)
Property and equipment, net		$	140
Current obligations of finance leases	Other current liabilities	$	16
Finance leases, net of current obligations	Other liabilities		121
Total finance lease liabilities		$	137
Weighted average remaining lease term (in years):
Operating leases			5.9
Finance leases			9.3
Weighted average discount rate:
Operating leases			3.2	%
Finance leases			3.8	%

Supplemental cash flow and other information related to leases is as follows:

	Six months ended
(Millions)	June 30, 2019
Cash paid for amounts included in the measurement of lease liabilities:
Operating cash flows from operating leases	$	155
Operating cash flows from finance leases		1
Financing cash flows from finance leases		7
Right of use assets obtained in exchange for lease liabilities:
Operating leases		229
Finance leases		54

In the first quarter of 2019, 3M sold and leased-back certain recently constructed machinery and equipment in return for municipal securities, which in aggregate, were recorded as a finance lease asset and obligation of approximately $9 million. Refer to Note 9 in 3M’s 2018 Annual Report on Form 10-K for additional non-cash details associated with prior activity.

Maturities of lease liabilities were as follows:

	June 30, 2019
(Millions)	Finance Leases		Operating Leases
Remainder of 2019	$	13	$	147
2020		20		232
2021		16		158
2022		15		120
2023		15		84
After 2023		65		221
Total	$	144	$	962
Less: Amounts representing interest		(7)		(96)
Present value of future minimum lease payments		137		866
Less: Current obligations		16		247
Long-term obligations	$	121	$	619

As of June 30, 2019, the Company has additional operating lease commitments that have not yet commenced of approximately $16 million. These commitments pertain to 3M’s right of use buildings.

Disclosures related to periods prior to adoption of new lease standard:

Capital and Operating Leases:
Rental expense under operating leases was $393 million in 2018, $343 million in 2017 and $318 million in 2016. It is 3M’s practice to secure renewal rights for leases, thereby giving 3M the right, but not the obligation, to maintain a presence in a leased facility. 3M has the following primary capital leases:

● In 2003, 3M recorded a capital lease asset and obligation of approximately 34 million British Pound (GBP), or approximately $43 million at December 31, 2018, exchange rates, for a building in the United Kingdom (with a lease term of 22 years).

● 3M sold and leased-back certain recently constructed machinery and equipment in return for municipal securities, which in aggregate, were recorded as a capital lease asset and obligation of approximately $13 million in 2018, $13 million in 2017, and $12 million in 2016, with an average remaining lease term remaining of 15 years at December 31, 2018.

Minimum lease payments under capital and operating leases with non-cancelable terms in excess of one year as of December 31, 2018, were as follows:

			Operating
(Millions)	Capital Leases		Leases
2019	$	18	$	283
2020		16		208
2021		14		153
2022		12		122
2023		12		92
After 2023		32		253
Total	$	104	$	1,111
Less: Amounts representing interest		12
Present value of future minimum lease payments		92
Less: Current obligations under capital leases		17
Long-term obligations under capital leases	$	75