Air Products and Chemicals Inc (APD) 2005 Q3 法說會逐字稿

Good morning and welcome to Air Products & Chemicals third quarter earnings release conference call.

Just a reminder that you will be in a listen-only mode until the question and answer segment of today's call.

Also, this telephone conference presentation and the comments made on behalf of Air Products are subject to copyright by Air Products and all rights are reserved.

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Beginning today's call is Mr. Phil Sproger, Director of Investor Relations.

Mr. Sproger, you may begin.

Thank you Rachelle.

Welcome to Air Products' earnings teleconference.

I'm Phil Sproger, Director of Investor relations.

Today, our CFO Paul Huck and I will review the fiscal third quarter results.

We issued our press release this morning and it is available on our website along with the slides for this teleconference.

Please go to airproducts.com and click on the scrolling red banner to access the materials.

As in the past, we've included an appendix to today's slide package with additional detailed information.

Instructions for accessing the replay of this call beginning at 2:00 PM Eastern time are also available on the website.

Please turn to slide 2.

As always, today's teleconference will contain forward-looking statements based on current expectations regarding important risk factors.

Please review the Safe Harbor language on the slide and at the end of today's earnings release.

Please turn to slide 3, and I will turn the call over to Paul.

Thank you, Phil.

Good morning and thank you for joining us today.

Let me first review the quarter's highlights.

We saw continued improvement in sales, earnings and return on capital again this quarter.

Record sales grew by 10% to $2.1 billion, driven by solid gains across Gases, Chemicals and Equipment.

ERONA (ph), our return on capital measure again improved to 10.2%.

This is 100 basis points higher than it was a year ago and up 20 basis points sequentially.

Earnings-per-share this quarter of $0.82 increased 15% versus prior year.

Also, we repurchased approximately 6.2 million shares during quarter 3 for $376 million.

As we speak today, we are essentially complete with our $500 million buyback program.

We have repurchased 8.2 million shares for $490 million at an average all-in cost of just below $60 per share.

In this quarter, we revised our estimates for this year which lowered our tax rate by 1% to 27% on a year-to-date basis.

Please turn to slide 4 and I will show you the progress we've made in managing this important and large expanse.

As you can see on this chart, we have done a great job of lowering our tax rate over the past several years.

It has gone from 32% several years ago to 27%, a significant movement which adds real value for our shareholders.

To do this, we have engaged in various strategies to maximize the benefit available from tax credits such as investment, research and experimentation and foreign operations.

We have structured acquisitions to provide for the most tax-efficient capital structure and we made use of technology contributions to generate tax benefits.

Let me assure you, these actions are neither tax shelters not tax-motivated transactions.

There they result of treating income taxes like all of our other expenses in making sure we have to pay as little of it as possible.

Due to the good progress in a number of areas in Q3, we revised our estimate for this year and lowered our effective tax rate by 1% from the 28% rate we had booked back in the first half of this fiscal year.

This change was worth $0.03 per share in this quarter, $0.02 of which was a year-to-date adjustment.

For fiscal year '06, we're currently expecting a tax rate in the 27 to 28% range.

As I said, we're treating taxes like any other expense; we're focusing on delivering value to our shareholders.

Now let's turn to the quarter results on slide 5.

Today, we reported net income of $191 million, or diluted earnings per share of $0.82 for the quarter ended June 30.

When compared with the prior year, net income increased by 17% and diluted earnings-per-share was up 15%.

Our performance gains are reaching the bottom-line as we execute our strategy.

Strong volume gains in Gases, improved Chemicals margins and higher Equipment activity drove results this quarter.

Now let me talk about the factors that affected the quarter's performance in terms of earnings-per-share.

Higher volumes broadly across Gases and Equipment contributed $0.12.

Higher pricing in raw material costs together were a net $0.02 unfavorable impact. (indiscernible) price declines were partially offset by margin expansion in Chemicals.

Other costs were higher by $0.5.

Productivity gains did not offset the impact of implementation costs and inflation, and I will comment more on this later.

Acquisitions and divestitures, principally home care acquisitions, contributed $0.02 per share.

Equity affiliates continued to perform well, broadly contributing $0.01 to our overall increase.

Currency added $0.02 to the quarter as the dollar was weaker year-on-year against most major currencies.

Favorable taxes and lower interest expense was mostly offset by higher minority interest and higher average shares outstanding.

Now please turn to our financials on slide 6.

As I said earlier, record sales of $2.1 billion were up 10% from prior year.

Adjusting for currency, natural gas and acquisition and divestitures, we generated underlying sales growth of 6%.

This is mainly due to higher gases volumes across our growth businesses and higher pricing in Chemicals.

A detailed sales analysis is included in the appendix.

SG&A costs increased by $17 million, or 7% due to acquisitions, productivity implementation costs and currency increases.

On a percentage of sales basis, we continued to make progress with SG&A at 12.6% of sales, 30 basis points lower than last year.

Operating income of $263 million was up 12% from prior year, principally driven by continued improvements in Chemicals and Equipment.

Versus prior year, EPS was up 15% principally due to improved operations.

It was also aided by a lower tax rate and a lower interest expense, mostly offset by higher minority interest and an increased number of shares outstanding.

And most importantly, we continued to improve our return on capital.

ERONA now stands at 10.2%, 100 basis points higher than last year.

This is the sixth consecutive quarter we have seen an increase in our return on capital.

Free cash flow for the quarter of $12 million was about $130 million lower than prior year.

This was principally due to two reasons.

First, cash provided by operating activities declined as our working capital balance increased or used cash this quarter.

Specifically, accounts payable and accrued liabilities decreased by approximately $100 million simply due to the timing of payments.

And second, additions to plant and equipment increased about $40 million as we fund our commitments in support of our growth opportunities.

As a reminder, the appendix includes the calculation supporting our quarterly free cash flow which you can look at later.

On the balance sheet, accounts receivable increased slightly versus the prior year due to a higher level of business activity.

Notably, we reduced our DSO to 65 days at the end of the quarter, down six days versus prior year and down three days sequentially.

Receivables remain an area of focus for improvement as we continue to make our processes (ph) more efficient and drive down DSO.

Now I will turn the call over to Phil to review our business segment results.

Thanks, Paul.

Please turn to slide 7, Gases segment.

Worldwide Gases sales of $1.48 billion were up 11% compared to prior year with volume accounting for 7% of this growth, primarily in electronics and Asian- and North American-based gases.

Sequentially, gas sales were 5% higher principally due to higher volumes.

Gasses operating income of $211 million was down 1% from prior year as higher volumes were offset by lower pricing in Electronics Specialty Materials, higher plant maintenance, productivity implementation costs and power and fuel costs.

The operating margin was also lower sequentially as higher volumes were offset by lower pricing and Electronics Specialty Materials, along with higher operating and productivity implementation costs.

Segment operating margin of 14.2% the was down from prior year, mainly due to higher operating costs and lower Electronics Specialty Materials pricing, partially offset by higher volumes.

The magnitude of the major factors impacting margins are shown on the bottom of this slide.

Higher volumes were more than offset by lower pricing in Electronics, increased maintenance costs in EPI and North American gases, productivity implementation costs and additional energy costs.

Let me now provide a few highlights by major business.

Please turn to slide 8.

In Electronics, sales were up 7% year-over-year driven by strong volumes in Electronics Specialty Materials and Equipment sales, but partially offset by price erosion.

On the profit side, the volume gains in Specialty Materials kept pace with pricing declines.

Almost all of our Specialty Material volumes were up between 15 and 30%.

Sequentially, revenue increased 3% as fab utilization rates picked up and LCD facilities continued to ramp.

We have seen silicone manufacturing rates pick up late in the quarter as some fabs have now ramped up.

Our shipments of NF3, xylene and ammonias to Samsung's LCD facility in Tanjung (ph), Korea picked up in the third quarter.

Current expectations are for meaningful volume increases to occur in our first fiscal quarter next year.

Our Specialty Materials capacity utilization remains in the 80 to 85% range.

We continue to have a success rate of greater than 50% on new business that we bid.

As an example, during the third quarter, we signed an LLI with InfoVision, a leading LCD manufacturer in China.

Now turning to slide 9, in our Energy and Process Industries, or ETI business, we against saw volume gains year-on-year, up 3%.

Sequentially, volumes also increased by 3%.

This quarter, we lapped the volume gains from our West Lake plant, which started up in May of last year, so we expect volume gains to be modest until the first quarter of our next fiscal year when we start up the first wave of our new hydrogen plants.

Systemwide hydrogen capacity utilization came in at 88% for the quarter.

We now have five facilities under construction and scheduled to come on-stream next fiscal year.

This represents approximately 450 million standard cubic feet per day of additional capacity, a 35% increase across the system.

We have over 85% of this capacity already under contract with eight customers.

These new plants represent over $500 million of new investment in our hydrogen business, which will add to our profitability.

We're very focused on project execution, bringing these plants on line, on time and on budget.

Please turn to slide 10, our Home Care business.

Strong growth continued in the third quarter with global Home Care revenues up 26%.

Acquisitions accounted for about 15% of this growth.

We recently completed a small bolt-on acquisition in Europe.

There are some additional opportunities for health care acquisitions as we look across Europe.

We also closed on a new U.S. acquisition at the beginning of the quarter located in Tennessee.

Year-to-date, we have completed $58 million in bolt-on acquisitions.

Our forecast for fiscal '05 acquisition spending in health care remains unchanged at 75 to $100 million.

Please turn to slide 11.

In our North American Liquid Bulk business, the volumes were up 8% year-on-year with good growth across most merchant product lines this quarter.

Sequentially, volumes were stronger by 1% and overall capacity utilization increased to 84%.

Average U.S.

LOX-LIN (ph) pricing decreased 1% year-on-year, primarily due to unfavorable mix impacts.

We sold less tonnage in oxygen to steel customers and as a result, our argon supply was constrained.

We had increased distribution costs as we covered our argon customer base from fewer sources.

In addition, we have incurred higher energy costs in the third quarter in electricity, diesel fuel and natural gas.

While we have implemented surcharges and additional deliveries fees over the last several months, we under-recovered our increased energy costs.

We're not satisfied with this performance and have implemented plans to raise prices and aggressively recover these costs.

Please turn now to slide 12 -- European Merchant Gases.

In our European Liquid Bulk business, the volumes decreased 2% year-on-year as the number of large customers have reduced demand.

We have commented on several of them in the past.

Sequentially, volumes picked up 4% in the quarter.

In addition, we're encouraged by the increased rate of new LOX-LIN signings this quarter.

European LOX-LIN pricing improved 1% versus last year due to pricing programs and favorable mix.

We have also seen increased power costs, particularly in the UK.

We are currently surcharging but are under-recovering these cost increases.

However, we will be raising prices and increasing surcharges and should see a recovery beginning in the next quarter.

Packaged Gas volumes were flat, reflecting a weak manufacturing environment.

While we expect the European economy to remain soft, we're working hard to increase our productivity and our positions in higher growth areas across Europe.

On slide 13, you can see we continued to deliver solid growth in our Asian Liquid Bulk business.

LOX-LIN volumes were up 22%, driven by continued solid demand growth across the region, particularly in Korea and Taiwan.

Sequentially, liquid volumes increased 13%.

In addition to two facilities we started up in China during Q3, we have another six plants across Asia that will start up over the next couple of years.

In China and broadly across Asia, new business signings remain strong.

As a result, we expect to see strong year-on-year growth in Asia for the remainder of '05 and beyond.

Now let's move onto review our Chemical segment results on slide 14.

Worldwide chemical sales of $482 million were 7% higher compared to prior year with an underlying growth of 5%, driven by higher prices in emulsions and higher amines.

Overall, volumes were down 2%.

Sequentially, sales dropped 3% primarily due to seasonal lower volumes and an unfavorable growing season in South America in our higher amines business.

You can reference slide 21 in the appendix for a complete sales analysis.

In our Performance Materials business, volumes were about flat as gains in epoxy additives were offset by lower emulsions volumes, principally in North America.

While our emulsions volumes are somewhat lower than they were a year ago, they have recovered sequentially as we continue to focus on lowering volumes while improving margins.

Operating income of $49 million was significantly higher as higher pricing and higher productivity improved our margins.

As a result, segment operating margin came in at 10.2%, up 3.6% versus prior year.

Versus prior quarter, our margin also increased significantly, up 1.2%.

Next, let me cover our Equipment segment on slide 14.

Sales of $117 million and operating income of $11 million increased mainly due to higher LNG activity.

We're also experiencing higher order activity broadly across our Equipment business in large and small separation units and helium containers.

During the third quarter, we received another AP-X LNG heat exchange order; that is a total of five AP-X orders this fiscal year.

Our new AP-X technology delivers a 50% capacity and creates through a single train compared to existing technology and continues to be the technology of choice for LNG liquefaction facilities.

We also received an order for two large air separation units to supply oxygen to a new gas to liquid facility.

The sales backlog at $624 million is up significantly versus prior year and prior quarter and is at a record level for us.

It now includes 10 LNG heat exchangers.

This is not surprising as the number of permanent LNG import terminals has increased significantly around the world as well as in the United States.

In the U.S., there are currently three terminals under construction, eight more that have received permits and an additional 20 import terminals in the planning stage.

The first new facility -- Gulf Gateway, located offshore in the Gulf of Mexico -- is now operational.

Now I will turn the call back over to Paul.

Thanks, Phil.

Turning to our outlook on slide 16.

Based on the progress we have made this year, we expect full-year earnings per share between $3.10 to $3.15, a gain of 17 to 19% over fiscal 2004, another year of strong earnings growth and improving returns.

Let me give you our assumptions for the fourth quarter that will drive our improvement.

First in Gases, a near-term opportunity is margin improvement.

We are taking actions to improve Gases margins and we expect to starting seeing progress in the fourth quarter.

In our Merchant Gas business in North America, we have improved loading and we're implementing additional price increases and surcharges to recover the higher power and fuel costs.

In our Europe Merchant Gas business, we have increased efforts on new signings to raise our loadings.

We're selectively targeting accounts where we can achieve our price objectives to improve returns.

Progress here has already started.

In Asia Merchant Gases, we continue to invest, bringing new capacity online and seeing strong double-digit volume growth each quarter.

This past quarter, we brought onstream two new plants in China which should sustain that volume growth.

We currently have six major plants under construction in the Asian region.

In Electronics, we continue to see price pressures as volumes grow.

This gives us the opportunity to leverage these volumes and make our productivity gains worth more as we attack all cost areas.

In our Health Care areas in both the U.S. and Europe, we continue to see strong organic volume growth.

We're working hard in this business to drive productivity as volumes grow.

In EPI, we expect our fourth quarter profits to increase as much of the maintenance for this fiscal year is behind us and the fourth quarter is normally our peak operating bonus quarter.

Also in EPI in 2006, we are scheduled to bring on five plants for eight customers with a large portion of this volume already sold.

This should set us up for strong growth for both 2006 and 2007.

These actions should result in margin improvement in the fourth quarter of a half-point or so in gases.

We expect to see continued gases margins growth throughout fiscal year 2006 as we continue to load our asset base, deliver on our productivity commitments and maintain capital discipline by directing the bulk of our capital into our growth platforms.

Our Equipment segment in the fourth quarter should continue its steady improvement as our LNG work load continues to increase.

For the year, we now expect our Equipment earnings to be around $40 million.

We expect growth to continue in this area during 2006 due to the high level of orders in-house.

In our Chemicals segment, we expect our operating margin to decline in the fourth quarter as volumes should be approximately flat to the third quarter and we have a number of plant turnarounds.

After a disappointing first quarter in our Chemicals group, we have made great progress on margin improvement and return on capital throughout this year.

Finally, we continue to push our hard on our productivity efforts.

While our costs this quarter were higher than we would have liked, we don't expect it to be a trend and we're fully to make committed to delivering increased productivity.

Let me illustrate a couple of examples of our successes and how we will leverage these successes going forward.

Earlier in this year, we completed a review of our products offered in our Emulsions business and reduced the number of offerings by 20%.

This has been one of the levers that increased productivity and helped turn around our Chemicals business.

We are going to carry this success to over to our Electronics business where we also have the opportunity to streamline the number of products offered and simplify the business.

On the balance sheet we're also seeing results with improved accounts receivable.

This quarter's 65-day DSO represents a six-day savings over quarter three of fiscal year 2004.

This improvement needs $130 million less cash deployed in our business.

We're continuing our efforts to reduce terms and improve collections.

In closing, while we are pleased by the progress we have made, we know we have more to do.

We believe that our results speak through our progress and they give us the confidence that we're on the right path going forward.

We have achieved solid topline growth, increased our ERONA by 100 basis points, grown earnings-per-share by double digits for six consecutive quarters, continued to invest in our growth businesses, turned around our Chemicals business and increased our Equipment backlog to a record level.

Our whole team is excited by the tremendous opportunities ahead in our businesses.

We have the contracts in hand and the market trends that will continue to drive our growth and we remain focused on improving our return on capital and delivering on our 13% ERONA goal in fiscal year 2007.

Thank you, and now I will turn the call over to Rachelle to take your questions.

(Operator Instructions).

Sergey Vasnetsov, Lehman Brothers.

Good morning.

I wanted to ask you a question about your Chemical division.

You commented on the improvements you've achieved there for the past few quarters since we've seen this pretty clearly.

And so I also understand the seasonality works a little bit against you in the forthcoming quarter.

How do you feel about this business?

Is it still being turned around as much as it could, have given the market environment?

No, Sergey, I think we still have a lot more improvements in front of us as we go forward here.

Our loadings in some of the businesses are still low, our volume growth has not been great.

And so we have some opportunities to selectively go out and target customers in a number of our businesses and that's going to be part of the focus here going forward.

The fourth quarter is just really an aberration here on the plant turnarounds, is what will take the earnings down there.

I understand.

And so specifically, (indiscernible) the (indiscernible) Emulsions business, could you comment about the (indiscernible) recently, and what do you expect of it going forward?

Excuse me;

I missed what you said on the (indiscernible) Emulsions business.

How this particular segment performs in the current quarter?

We've made good progress in our emulsions business and we were very pleased by the improvements in this quarter.

We just had a lot of sequential improvement which we saw; they came from our Emulsions business.

The people in that business have worked very hard to take cost out of that business, which is important.

It's something which is under our control and we're also out now targeting the right accounts for us to load the plants.

We have some capacity still to sell in that business.

Okay, thank you.

Jeffrey Zekauskas, J.P. Morgan.

Good morning.

A couple of questions, first on share repurchase.

You said that you completed 490 of your $500 million share repurchase.

Why did you stop? that is, why is there 10 million remaining?

It's where we are and we shut it off a little bit early because of the nearness of the quarter for us.

And we will certainly finish up the last $10 million here.

So what were the actual fully diluted shares at the end of the quarter?

That should be in our press release, Jeff.

That's Is not the average.

That is at quarter end.

That is the average quarter end.

I do not have the actual count, and we will get back to you with that actual count for what it is.

But we did do the 8.2 million shares.

And then lastly --.

Part of that is, we did 6.2 during the quarter.

And then lastly, in terms of the extra costs that have been in the Industrial Gas business; you know, the maintenance costs, the productivity improvements -- how sustainable is that level of cost?

That is, is this unusually high or is this normal?

How are we to think about this over the coming quarters?

We believe that the cost is high this quarter.

We have to do things to take some more cost out of our business.

That's a constant effort on our part.

It's something which we work at every day.

We don't get overly excited by any single quarter or by any single month going forward.

We try to pay attention that we're doing the right actions towards moving forward.

But clearly, our efforts in this business in a number of areas are towards driving cost out and taking our cost down.

Okay, thank you very much.

Ray Kramer, First Analysis.

Good mining.

Question for you first on the LNG front.

With a pretty tremendous backlog there, and I think historically you have done maybe two or three per year, can you comment on sort of what your max rate is in terms of producing those, and when do you expect to work through that?

Let me answer that question.

We just expanded our Wilkes-Barre facility.

We're in the process of doing that right now.

That obviously is in response to the number of orders that we have received.

And when you look at world LNG growth going out, LNG liquefaction facilities, that capacity is supposed to double over the next five years through 2010.

Our intent is to be able to put ourselves in a position where we can fulfill every quarter that is required in the world that could use our technology.

So the plant itself up at Wilkes-Barre is not going to be any kind of constraints on this business.

It's really going to the how many orders come through on a global basis and we're going to put ourselves in a position to supply those orders.

Okay.

And then did I hear correctly -- you have five of the AP-X exchangers in that 10 (ph) backlog?

We actually have six in the backlog; we got five AP-X orders this year alone, this fiscal year.

Phil, this is Allen.

Just to clarify, can you give us a feel for how many you're likely to build, in (indiscernible) next fiscal year?

How many we're likely to actually build?

It's a two-year building process and some of the orders we how are effectively placeholders for the future.

So our delivery right now stretches out into 2008.

So we're just going to get them out the door according to the schedule that they're required by the customers, and I don't know the exact schedule.

If you take a look at the market projections for LNG, the order entry would roughly say somewhere two to three trains required every year going forward in the next 10 years for that.

So a very solid business for us going forward here.

Finally with Europe, you had said you were going to focus on the growth areas there.

Can you comment on what those growth areas are specifically?

And then differences you are seeing among the different countries in Europe in terms of growth?

I will comment on the growth and Phil can talk about countries in which we are seeing.

But just if you take a look at the individual countries which we're focusing on, we have operations in the Czech Republic.

So right now, it's a push (ph) in Poland, it's a push into the East for us where the manufacturing is migrating in Europe.

I will let Phil talk about the results which we've seen here in the individual countries.

For example, what we have done is, as Paul mentioned, look at some of the higher growth areas within Europe because we mentioned on the phone call, we're cautiously optimistic about Europe but don't see it as having a strong growth with the exception of maybe southern Europe having some regional growth.

So in Eastern Europe for example, we recently signed a deal with Glaberbell (ph) in the Czech Republic for an on-site facility for their glass plant.

We have had a good relationship with them in the Czech Republic.

Their parent company, Asahi Glass, is the number-two flat-panel display glass producer in the world.

We're also supplying Asahi Glass over in Asia, so we have a good global relationship with those of folks and we are able to optimize that and get some additional business in Europe from that.

Additionally in the energy area, there are LNG regasification facilities that are being built in Europe, one most recently in the Isle of Grain (ph).

We're supplying nitrogen to it for BTU control when they bring the gas into the UK.

So that should be a growing business.

So really what we're trying to do is point ourselves to the economies that are growing stronger in certain portions of Europe as well as some of the geographies -- or sorry -- some of the businesses that are growing stronger in Europe that we can take advantage of.

P.J.

Juvekar, Smith Barney.

Hi, good morning.

Just quickly going back to LNG, is there risk that higher steel and energy prices could impact Equipment margin?

As far as us, and we look at that is we go out and price these things as we go to build them.

And so I think if that's going to happen and it could impact our prices, we would make sure we passed it along to our customers.

Okay, you'll pass it along.

Okay, your return on capital is improving in Chemicals, you've achieved your cost of capital.

Have you analyzed your return, specifically Electronics, and can you give us some idea of where it stands?

Yes, we have.

And actually, P.J., one thing which you should know is our return on capital in our Chemicals business for the past two quarters, we were actually over our return on capital, so we've made good progress there.

Our Electronics business is below our cost of capital right now.

It is something which occurred as we went into the downturn.

We have seen improvements of that.

We saw improvements again this quarter in our Electronics business.

It is something which as we have pointed out, it is a growing business, so you have lots of good opportunities to leverage your skills and your customer base and your cost base over a broader set of volumes.

And so that is what we're taking advantage of right now.

We still have a decent amount of capacity to sell in our Electronics business in a number of products and that will go out to help our return on capital.

Our electronics business is one of our top performers in our productivity area, so they are improving there.

So we think that the trends are in the right direction and it is moving up and getting better.

Right.

So when you bring on the NFT plant and all of that, do you to think there is a chance that you exceed your cost of capital in Electronics in maybe '06?

I think there is a chance, and that is we continue to take cost out and get above the cost of capital.

We're not quite done with our '06 plans yet, but certainly it is our intent to get above the cost of capital in this business as soon as possible.

Thank you.

David Begleiter, Deutsche Bank.

Good morning, Paul and Phil.

Paul, just in Chemicals, given the improvement in the operating margin to above 10%, can you now segment that segment between Performance Material margins and intermediate margins?

I assume Intermediates are doing very well right now.

A lot of the improvement has been in that area because of the contract in our methanol, with methanol the improvement which we've made in volumes (indiscernible) means selling off the EM&D (ph) business.

But also in our Performance Materials business, we have done very well in improving our Emulsions business.

And so the improvements have been pretty much in both areas coming across.

If we look at that at the margin and the returns in those businesses, almost all of the businesses are above their cost of capital right now.

We have a few which are still a little bit below, but we have plans to get them above also.

Can you actually say how much higher intermediate margins are than the Performance Material margins are?

I'm not going to comment -- it's hard for me to break that down for you guys in this call.

We don't want to get out our individual margins in these businesses.

But as far as looking at this, our Intermediates business is not so much of a commodity business as one might think.

It is basic with a lot of long-term contracts in it.

The Polyurethane Intermediates business, which is half the business, is long-term customer -- cost pass-through contracts.

So it doesn't fluctuate as much there.

A good portion of our higher amines business has long-term cost pass-through contracts.

So margins do not fluctuate as much.

And now that we've taken the volatility in the methanol, we've taken a lot of the volatility out of that business on the other side of the amines business.

Understood.

And just on LOX-LIN pricing, you were down 1% this quarter, Prax reported an up 2% number this quarter.

Could you just comment on that difference?

Phil can you -- you have the details here.

Sure.

Dave, some of the things that we're doing in the Liquid Bulk and LOX-LIN business in particular to get ourselves more competitive and continue to increase our margins, take cost of the system; number one, we're going after a larger customer base, larger individual customers in general, which tends to bring your price down but certainly doesn't hurt your margin, hopefully will increase your margin.

The other thing on our pricing that we talk about, it's really revenue divided by volume.

So you may be aware, we have monthly service charges that we supply to customers.

And that's a fixed fee every month.

As volume goes up, that gets spread over a larger base and effectively dilutes the price that we show.

And actually, that month with the strong volume growth, or over this past quarter I mean with the strong volume growth we've had, that has been about a 1% decline on its own.

So we continue to look at bringing cost out of the system to look at customers closer to the plants where we can supply them more cost affectively.

And the good news is sequentially, pricing at existing customers has gone up.

We've been hit with some high-energy cost in the business that we're trying to recover, but we are trying to continue to improve this business.

Don Carson, Merrill Lynch.

Yes, Paul, question on Electronics.

As you go -- two things.

One, I assume that margins are still sort of sub-double-digit, or if you don't want to answer that question, you could maybe put it another way, which is -- as you go forward into next year with the hometown expansion and then the shipments to Samsung, what kind of a margin improvement would you expect, both within electronics and in terms of what it does to the overall Gases operating margin?

I will speak to that in terms of kind of what improvements and which we're trying to drive here in our overall Gases operating margin.

As I said, we have a target right now of trying to get them up by a half percent in the fourth quarter.

Some of that as we go forward is going to be our Electronics.

But looking out to 2006, we certainly want to get our Electronics -- not our Electronics -- but our Gases margins overall above 15% and maintain them there, up towards the 16% for the year.

A big contributor, a big contributor, Don, to that is progress in our Electronics business.

It comes from both the loading aspect of things which we've talked about, which is the Samsung ramping up at the Tanjung facility, but it also comes from growth in the business at other sites, and it also comes from taking cost out and driving productivity across that business for us.

Just to clarify that 16% operating goal, is that a run rate you hope to achieve by the end of 2006, or would that be an average you're looking for the fiscal year as a whole?

We are not done with our plans yet for the year, so I cannot comment on exactly that.

But the first thing is, we take it a step at a time, get it back above 15 then get it above 16 and then get it to 17 and above.

That is the steps as we look at that.

We will have a lot more to say as we look at the 2006 outlook for us, as far as gases is concerned and the Company as a whole, Don.

Just to follow-up on electronics, once you load up hometown, I assume that exhausts the opportunities there to cost-effectively expand that plant.

At what point do you feel that you need to actually establish NF3 capacity within Asia?

We're looking at those options right now.

And what would the possible timing of that be?

It depends upon the opportunities which we have here.

It's hard for me to give you any specific comments, but certainly with the growth in the flat-panel display market and the requirements for the gases in that business, we're going to have to take a look going forward on that to add more capacity here in the future.

Kirk Bruner (ph), Swartmore (ph) Group.

Hi, good afternoon.

I was just wondering if you could touch base a little more on the opportunities in the hydrogen business?

Certainly, we can.

As Phil mentioned here, we have five plants coming onstream next year.

We continue to see opportunities for bids in this area and for business to be won in this area.

The business is driven principally by three drivers, first on the regulation end of things, which keeps taking the sulfur out of the fuel, out of transportation fuels.

The second is replacement capacity as refiners look to drive up their efficiencies, the higher natural gas prices in their old SMR's (ph) make the economics of replacing these SMR's a lot better for them.

And we can offer them better reliability and a better cost structure to do that in.

And the last thing is that heavier and more sour crudes are going to be processed in the refineries, and that is going to drive the hydrogen market going forward.

So we see a double-digit growth in the hydrogen market going out into the future.

Thank you.

Laurence Alexander, Jefferies.

Good morning.

I just have two quick questions on Electronics.

First, is the pricing pressure that you're seeing in Electronics, excluding mix effect in NF3, getting any better?

Lawrence I would not say on average it's getting any better.

We did see a little tail-off over the last month or so, but I am reluctant to call that a long-term trend right now.

There's still pricing pressure, it's around what we expect it to be and we continue to drive volume through the business to try and offset that or more than offset that.

The other thing is that as the customers get larger, the cost to serve these customers goes down, Lawrence.

And so some of that price impact, it gets offset by the scale impact.

Right.

And are you considering, as you simplify the portfolio or try and streamline the portfolio, are there any molecules that you might shift away from manufacturing?

We -- and we will look at all options here to drive productivity and improve returns in this business, so the answer to is yes -- we look at those things.

Thank you.

Mark Gulley, Soleil (ph) Securities.

Good morning, guys.

How are you guys doing?

Did I miss the ERONA breakdown by business in your handout?

I think you used to provide that.

We do not do that in ERONA by business.

We do not use ERONA internally at the business level.

We use a return on gross investment -- I think I've covered this before with people -- but looking at it to make sure that people are recovering all of their cost and that what we have is a replacement cost return.

The various businesses -- they get into a different stage on ERONA.

Heavier investment businesses which have a lot more in new investment are going to have a lower ERONA.

A business which does not have as much new investment will have a higher ERONA, and they have -- just in a different stage.

You can get fooled by looking at that.

Secondly, I want to focus on Chemicals.

You did hit your 10% EBIT margin goal at least in the quarter, but I know you had higher aspirations and have talked about maintaining double-digit over the course of the cycle.

As you talked about Gases margins for '06, can you talk a little bit about Chemicals margins for '06 as well?

Sure, and we do have higher aspirations on our Chemicals margins, as I have said before.

And as we look forward in Chemicals, we've done a great job of turning that business around.

We've done it in a number of ways.

We have obviously worked very hard at recovering the raw material cost in that business and we will continue to stay on top of that.

Part of that is change in the structure about the way in which we deal with our customers.

And so we are a lot better on testing those costs through to our customers as soon as we get them.

And so that has been an improvement and something which we intend to continue to and expand the customer base over which we do that.

The second is the productivity efforts which we have going.

One of the things which we've talked about with our productivity efforts in Electronics, we've had great productivity efforts in our Chemicals business also and that has expanded our margins going forward.

And the level at which we have, what I've talked about before, is the volume lever.

We have in a few businesses some additional product to sell.

In a number of businesses, in fact, we have additional product to sell.

We want to make sure we sell it at the right price.

So it's not going to happen overnight.

But we have targeted customers, targeted segments in the market which we feel advantaged to serve and we're going after those customers.

And as we bring those customers onstream, they will improve our margins and thereby improve our returns.

Finally a question on refinery hydrogen.

I liked your breakdown of three drivers -- the replacements, the hydro cracking and hydro treating.

But as the regulation driver falls away and you just talked more about hydro cracking, that is the more sustainable driver for hydrogen demand.

Do you have any feel at all for how those various drivers rank, particularly longer-term, again, after the sulfur regulations on that?

I think as we look at that, and we think it sustains the demand increases which we have seen over the past 10 years into the next 10 years, is kind of a double-digit growth in needs for hydrogen.

So we think they are substantial.

We think they are as substantial here going forward as far as the regulations.

The regulations do not completely fall away either.

There's some tightening up on diesel fuel going off-road, etc.

Thanks guys.

Robert Ottenstein, Morgan Stanley.

Hi, guys.

I'm still a little bit baffled on the Gases margins.

In terms of the maintenance costs, is that something, a onetime kind of unusual item that happen in the quarter?

Yes, Robert.

On a year-on-year comparison, maintenance costs were up.

It's unusual, but doesn't mean that we're not going to have any maintenance obviously going forward here.

But I would say, it was a bit unusual and it was higher than we would like it to be.

Robert, one of the things which we don't do because you cannot do it anymore is we don't accrue on the maintenance costs.

So it used to be, we used to have a smoothing impact on maintenance costs, and so that's one of the changes which the Accounting Board has put forward year.

And so maintenance costs do appear to be lumpy and this was a higher than normal month (indiscernible) higher than normal quarter for us.

And then the productivity implementation costs, is that also lumpy issue, because shouldn't there be benefits that are offsetting this?

Yes there are, and you are seeing the benefits, so the productivity implementation costs, they actually are occurring for the first time this year for us in what they are doing.

Previously, the things in which we had done is we had accrued for them and announced that as a special charge; we're not taking that as a special charge anymore.

And so in this year, we have those costs.

Next year, we're going to continue to have those costs, but on a year-on-year comparison, they will not show up for us because we are building them in as something which we need as we change our business.

We have various changes going in our business and it cost us money to change.

So we're building that in as a cost of running our business.

The Electronics pricing, would you characterize the general downward pressure as being stable sequentially, or getting worse or better?

I certainly wouldn't say it's getting any words.

I would say it's stable to perhaps moderating, but again, don't want to draw a long-term trend line just based on the last couple of months.

But again, it's not out of what our expectations were and we continue to make a lot of progress on lowering our costs to offset that.

Okay.

And finally, you threw out, and I'm not sure if it was intentional or not, kind of a 17% margin goal for Gases at some point.

Looking at the delta between where you are now and that 17, how much do you think would be kind of Electronics loading, as opposed to other factors?

If we look at that, about half of the impact on returns, and thereby margins for us here, is going to be on the volume basis for us.

And the other half is going to be on the productivity end of that.

Electronics is a big push, and it's because it's a large business for us, but it's also an area in which we have a lot of cost which we can optimize.

And it's one of the places in which is a heavier user of our ASP system, and therefore, has the opportunities to use that SAP system as a lever to lower costs.

So it's -- a good portion of that could come from our Electronics business.

Rohm & Haas in their conference call said that they were pretty confident of a strong second-half calendar pickup in Electronics.

Do you have that same confidence on the volume side?

Yes.

Our volumes have picked up.

As you can see, our sales picked up in this quarter, the revenue graph which we have in there, and so we are encouraged that the people have kind of gotten through a good portion of this storm here, and it appears to be an inventory correction which occurred.

Thanks a lot guys.

(indiscernible), KeyMcDonald.

Jeff Cianci, UBS.

Hey, guys.

Paul, just to flesh out your margin outlook comments, I know it's too early to talk about '06, but Chemicals, you hit the double-digit margin this quarter.

It is a seasonally better quarter.

Do you still have the confidence of that we can do a double-digit margin for '06 based on what we saw now?

If I take a look at '06 in general, Jeff, I'm very encouraged.

We're currently doing our operating plan.

And it's too early for us to give you any ranges on earnings or any firm numbers.

But as I said, I'm encouraged by the trends which we're seeing.

If we just look at our businesses, in our EPI, we have the five plants coming onstream with most of that volume sold.

I have the Equipment backlog which is going to raise Equipment earnings going into next year.

In the U.S. and Europe, my signings rate has picked up, so I'm going to be loading my plants there.

I should get -- with the price increases which we're putting through, all -- and the recovery of costs, that should be good news for us.

Our Electronics loadings that we just commented are good and favorable and we have business signed in those areas and we have had very good success at winning projects in that area.

My Asian volume growth has been very good through this year.

I have capacity to serve more growth as it goes through, so new investments are there.

And the Chemicals turnaround has been successful on the cost and margin side and now we're going to go out and use the volume lever.

So we have a lot of good things to do there.

Plus, I think we still have significant productivity opportunities across all of our business, across all of our functions.

We've made the progress in finance and IT in this past year.

That has been a real success story in helping us get some leverage on our SG&A line.

But we continue to have opportunities out there which we can take available of this thing.

So as we look forward, we think we're in good shape.

The other quick thing I had for Phil, you mentioned the Wilkes-Barre expansion.

I just wondered how big that could be.

If I recall, you could've done seven or eight at a time.

Could you now do 10 of these at a time?

I know there are bigger ones, maybe you'd do less.

What's the percentage expansion of throughput if you will on an annual basis?

And if you have it, what's the return on that -- return on capital on that kind of expansion, and what is our limit here?

Can we just keep going with this backlog?

Yes.

Again, Jeff, Our intent is to expand the facility to the global needs on LNG.

But specifically around that expansion, we are expanding floorspace.

We are expanding -- we're hiring some people as well as installing some additional equipment.

It's about a 30% size-wise expansion of the facility and we should be able, we will be able to handle more orders.

But again, there is a flow and it's a function of schedule on these things as we go forward year.

So it's really safe to say, we're going to handle everything that we can sell in the world as far as LNG exchangers, and there is a very strong growth.

As Paul mentioned, two to three a year is what some of the analysts are saying size-wise requirements of AP-X units going forward for the next 10 years, and we intend to be able to sell those orders.

Is that expansion a low cost?

It's not a huge cost.

It's not like building a big on-site plant or anything like that.

It's not like that.

Alright, thanks.

Sure.

Edlain Rodriguez, Goldman Sachs.

Thank you.

I have a quick question on Chemicals, and I apologize if you already went through that.

You have definitely lost some volume due to pricing -- to your pricing initiated.

What are the plans to recover that lost volume, or are you willing to let them walk away because they're just not as profitable as what you have now?

For the customers, Ed, which -- and those in which we lost and we're ready to let the bulk of them go away for those things.

There are certain portions of the business and certain segments of the market which I can serve better, (indiscernible) products, provide the better performance and which I can get a better price.

And that is the plan, is to go after the volume in those areas which I can get the price which makes sense for me to earn on my products.

Okay, thank you very much.

Tim Aquino (ph), Key McDonald.

Hi, guys.

Can you hear me?

Sorry about that -- technical difficulties earlier.

But really quickly here, switching gears to health care.

Can you give us an idea of how much of the 26% growth is core, relative to acquisition contributions?

I think as we mentioned in the slide, Tim, 15% out of our 26% growth was due to acquisitions.

Okay, I apologize.

And one last question, back to Chemicals here.

Can you talk a little bit about the raw materials gas?

Maybe if you don't want to give specifics, at least comment on whether it's narrowing or widening or how you see that trend proceeding in the fourth quarter?

Certainly as far as on a lot of the basic materials, the tightness of supply has gone away.

So if you look at some of the -- if you go all the way back into the chain, the ethylene, et cetera, have come off in price.

And so as some of that obviously affects us, although we tend to be a little bit further down the chain.

As I said, as far as the raw material pricing and the stuff which we have seen, we've done a good job of recovering our raw materials.

And we are at margins in most of our business which are acceptable to us.

We have to maintain those margins.

So I would not see us going out and giving price discounts to go out and maintain business for us at the margins at which we are at.

We've worked too hard to get at the place in which we are.

We're now earning a return which is acceptable to us.

And so it's done in business by business.

A good portion of this is cost pass-through and what we're trying to do really in our business is to make as much as possible cost pass-through for us because that's something which is important to us.

We don't want to be in that squeeze between the end market and the basic producer.

Okay, great.

Thanks guys, good quarter.

Thank you.

That will conclude today's question-and-answer session.

At this time, I would like to turn the call back over.

Appreciate your hanging in there with us and we're looking forward and excited about the future opportunities we have going forward as a Company.

Thanks again.

Bye.

And that will conclude today's conference call.

Thank you for your participation.