Air Products and Chemicals Inc (APD) 2008 Q4 法說會逐字稿

Good morning, everyone, and welcome to Air Products and Chemicals fourth quarter 2008 earnings results conference call.

Just a reminder that you will be in 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.

Air Products will be recording this teleconference and may publish all or a portion of the teleconference.

No other recording or redistribution of this telephone conference by any other party are permitted without the express written permission of Air Products.

Your participation indicates your agreement.

Beginning today's call is Mr.

Nelson Squires, Director of Investor Relations.

Mr.

Squires, you may begin.

Thank you.

Good morning, and welcome to Air Products' quarterly earnings teleconference.

This is Nelson Squires.

Today, our CEO John McGlade, CFO Paul Huck, and I will review our fiscal 2008 results and 2009 outlook.

We issued our earnings 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.

Instructions for accessing the replay of this call beginning at 2:00 p.m.

Eastern time are also available on the website.

Please turn to slide two.

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 this slide and at the end of today's earnings release.

Before we start, please note that other than discontinued operations, we have not excluded any special or disclosed items from this quarter's results.

However, in Q4 of last year, there were several items, which netted together, resulted in the gain of $0.17.

This net gain is detailed in the appendix and notes to the earnings release, and is excluded from our prior year comparisons today.

Also as a reminder, we've revised our business segment reporting.

Europe health care results are now being reported in the Merchant Gases segment.

US health care results are reported in Discontinued Operations.

Prior periods have been restated to reflect this reporting change.

Now I'll turn the call over to Paul.

Thank you, Nelson.

Good morning, and thank you for joining us today.

Now, please turn to slide number three.

Before we look at this quarter's results, I would like to spend a few minutes reviewing fiscal year 2008.

We entered the year with goals of delivering our fifth consecutive year of double-digit earnings growth and improving our operating margin to 15%.

We delivered 18% earnings per share growth, and we approached our 15% margin goal as we decided to exit the US health care business.

Higher natural gas and raw material pass-through increased sales by more than $450 million, which effectively reduced operating margins by 70 basis points.

Turning to our top line.

Sales growth of 14% included underlying volume and price gains of 6%, excluding the Equipment and Energy segment.

Natural gas and raw material contractual pass-throughs accounted for 5%, and currency added 4%.

Consolidated operating income growth of 12% was driven by Merchant, up 21%, and Tonnage, up 13%.

Performance Materials showed significant improvement as well, but was partially offset by Electronics, which declined as a result of a plant fire in Korea and weaker volumes in quarter four.

Equipment and Energy segment income was down as expected.

[Affiliate] income grew 27% due to strength in Mexico, India, and South Africa, along with some favorable adjustments in quarter two and quarter three.

Net income grew 16%, and we repurchased a significant amount of our shares for the fourth consecutive year.

Our return on capital improved to 13%, up 50 basis points for the year.

Additionally, we continue to improve our portfolio, having sold the polymer emulsions and high purity process chemicals businesses, and we're continuing to make progress on selling our US homecare business.

In summary, 2008 was another strong year of improvement for us, with continued progress towards our goals.

Before I move on to the quarter, there has been broad media attention concerning liquidity, commercial paper access, and debt repayment obligations of corporations.

Let me be clear -- our balance sheet is one of Air Products' strengths.

We have a solid A rating and an A1/P1 commercial paper rating and a $1.5 billion revolver to backstop that paper.

We have had no issues with lenders or access to credit throughout this financial crisis.

For next year, our long-term funding needs are minimal, as we only need to refinance $37 million of maturing long-term debt.

On the asset side, we have focused on lowering our DSO and it is down to 53 days from 58 days last year.

Now turning to slide number four for a review of this quarter's consolidated financial results from continuing operations.

As we announced on September 23, hurricanes along the Gulf Coast and a plant fire in Korea impacted quarter four, limiting our growth this quarter.

For the quarter, sales grew 14% versus prior year.

Underlying growth, excluding Equipment and Energy, was 4%, driven by better volumes and pricing in Merchant Gases and Performance materials.

Higher natural gas and raw material pass-through contributed 8%.

Currency contributed 3%.

Sales for the quarter were 2% lower, due to the hurricanes.

We continued to make progress, reducing SG&A as a percentage of sales, and we are now at 10.1%.

Operating income of $373 million was up 3% from prior-year; again, due to better volumes and pricing, and also favorable currency.

The plant fire and hurricanes, combined, reduced operating income by $28 million or 8%.

Our operating margin declined 160 basis points versus last year.

110 basis points are due to higher gas and raw material costs pass-through.

The hurricanes and plant fire reduced margins by 70 basis points.

For the quarter, our net income and our diluted earnings per share increase by 7% and 10%, respectively.

Now, let me turn to slide five and review the factors that affected the quarter's performance in terms of earnings per share.

Our GAAP or as-reported earnings per share decreased $0.10, excluding discontinued operations and the prior-year disclosed items, which resulted in the gain shown at the top of this slide, adjusted earnings per share from continuing operations through by $0.11 or 10%.

Higher volumes added $0.06.

Pricing and margins together, including energy and raw materials, were favorable, netting to $0.03.

Costs were unfavorable by $0.03.

Favorable currency and foreign exchanged added $0.07.

The plant fire and hurricanes impacted us by $0.05 each.

A lower effective tax rate added $0.04, and fewer shares outstanding contributed $0.03.

Now I'll turn the call over to Nelson to review our Business segment results.

Nelson?

Thanks, Paul.

Please turn to slide six, Merchant Gases.

Merchant Gases completed a strong year with a solid quarter.

Sales of $1.1 billion were up 15% versus prior-year.

Pricing contributed 6%, volume 4%, and currency added 5%.

Sequentially, Merchant Gases sales grew 1%, with volumes contributing 1%, priced 2%, and currency reducing sales by 2%.

Merchant Gases operating income of $196 million was up 12% versus prior-year.

Segment operating margin of 17.9% was down 50 basis points versus prior-year, and 90 basis points versus prior-quarter, due to an asset write-down.

Let me now provide a few highlights by region.

Please turn to slide seven.

In North America, sales increased 14% versus prior-year, with volume growth contributing 5% and price 9%.

Oxygen and nitrogen volumes increased versus prior-year and prior-quarter, despite some lost sales due to the hurricanes.

Oil field services continued to be strong.

Our pricing actions continued to deliver, and we were able to recover the diesel cost increases that impacted us last quarter.

Our latest price increase went into effect on the 1st of October.

Capacity utilization was unchanged in the quarter.

New business signings achieved a record for the fiscal year and were well ahead of target.

We continue to see growth in energy and environmental applications.

In Europe, sales increased 17% over prior-year, with price adding 5%, volumes 4%, and currency 8%.

As we discussed on our 23 September conference call, business continued to be generally soft in the UK and Southern Europe, though we did see a rebound in liquid [alkyl] volumes in September.

Capacity utilization was flat versus prior-quarter in the UK, up slightly in the Northern Continent, and down slightly in the Southern Continent.

Signings were solid and higher than previous-year.

The numerous price actions we launched in the quarter were successful, and we expect that momentum to continue.

In Asia, Merchant sales were up 12% over last year.

Volumes contributed 4%, currency 3%, and price 5%.

We did see lower growth in China due to the Olympics, and in Korea and Taiwan from electronics customers.

The pricing actions launched in July are taking hold and are recovering energy and distribution cost increases.

Please turn to slide eight, Tonnage Gases.

Sales of $940 million grew 21% compared to last year.

Natural gas and raw material pass-through increased sales by 25% and currency added 1%.

The two Gulf Coast hurricanes lowered sales by 6%.

Sequentially, sales were down 4%, with currency reducing sales 1% and the hurricanes reducing sales 5%.

Volumes would have been up 2% versus the third quarter, absent the hurricanes.

Operating income of $135 million was up 14% compared to last year, and 7% versus last quarter.

The increase over prior-year was due to higher operating bonuses, lower maintenance costs, and better operating efficiency.

Operating margin of 14.3% decreased 90 basis points versus last year, due to higher natural gas costs.

Sequentially, margins were up 140 basis points, due to lower natural gas costs, higher bonuses, and lower maintenance costs.

We just announced two major projects with Exxon Mobil.

The Baytown project represents an opportunity to sell hydrogen long-term from the available capacity on our Texas pipeline, while the Baton Rouge project is a major capacity addition to our existing pipeline franchise in Louisiana.

Our Tonnage opportunities remain very exciting, and we will have more to say about this in our outlook.

Please turn to slide nine, Electronics and Performance Materials.

Segment sales of $553 million were up 6% compared to last year.

Volume gains accounted for 3%, pricing added 2%, and currency 1%.

Electronics sales were down 1% compared to last year, impacted by softer volumes, partially due to product rationalization efforts and lower equipment sales.

In Performance Materials, volumes grew 4%, and our penetration of new products improved 30% versus prior-year and now represents approximately 16% of our portfolio.

Overall, operating income of $42 million was down 31% versus prior-year.

Operating margin of 7.6% was down 400 basis points versus prior-year, due to the impact of the fire and lower electronics pricing.

Sequentially, margins were down due to the impact of the fire, and lower prices and volumes.

We started supplying Signet Solar this quarter, and are nearing agreement on other photovoltaic opportunities.

Please turn to slide 10, Equipment and Energy.

Sales of $126 million in this segment increased 2% compared to last year and 18% sequentially, largely due to higher large-air separation plant sales.

Operating income of $16 million decreased 12% versus prior-year, due to lower LNG heat exchanger activity.

Income was up versus prior-quarter, primarily due to favorable cost performance.

Our backlog of projects in this segment now totals $399 million.

We received new orders in the quarter for two large air separation units, and we expect two to three LNG heat exchanger orders later in FY '09.

Now, I'll turn the call over to John McGlade.

Thanks, Nelson.

Now, if you will turn to slide 11, I'd like to share my thoughts on our fiscal year 2009 outlook.

This is surely the most uncertain external environment since September 2001.

In the past month, the economic outlook has turned decidedly negative, as the financial crisis has worsened.

Although forecasting at this time involves a high degree of uncertainty, we are currently projecting the following.

Globally, we saw manufacturing grow between 3% to 4% in fiscal year '08, with momentum slowing sharply in the last quarter.

We now expect global manufacturing growth of 1% to 2% for our fiscal year 2009.

Our current thinking is that in the United States, we will see a decline of 1% to 2% in manufacturing.

We expect to see Europe decline 1% to 2% as well, with growth in Central and Eastern Europe, and declines in the rest of Europe.

We expect Asia, ex-Japan, will continue to be the strongest area, growing 5% to 6%.

Based on this economic outlook, we are forecasting our fiscal 2009 earnings from continuing operations to be between $5.10 and $5.35 per share, which represents year-on-year earnings growth of 1% to 6%.

Let me now turn to our outlook by business segment.

We expect to bring 20 new plants onstream in the fiscal year, representing nearly $0.5 billion of new capital, which will help drive growth.

Capacity utilization remains relatively strong globally, and our efforts to raise prices and increase productivity should generate continued improvement in our Merchant Gases segment next year.

In addition, we will continue to benefit from the strong business signings we have won over the past year.

We are targeting a 1% improvement in margins for fiscal year 2009, and to be above 20% in fiscal year 2010.

In the United States, we are continuing to operate at a high rate across our system.

Therefore, to serve volume growth, we will continue to debottleneck plants and convert larger liquid customers to small on-sites.

In Europe, we're continuing to focus on improving our margins by raising our prices, streamlining business operations, and continuing to drive our shared service model into this region.

In Asia Merchant Gases, we continue to expand our technology applications and offerings, and that, along with solid manufacturing growth, will continue to increase demand, loading our new capacity.

In our Tonnage Gases segment, we will see some benefit from new facilities, loading and productivity, with a full year impact of our second Petro-Canada plant and six other large plants, which we will bring onstream this year.

On the new order front, refinery hydrogen project development remains active.

And in 2010, we expect to bring on the two Exxon Mobil contracts we just announced, as well as Marathon Oil, Garyville and Total, Port Arthur.

In Equipment and Energy, we expect profits to decline about $0.05 per share, due to lower LNG activity.

We do anticipate signing two to three LNG orders this coming year, although these orders won't have a significant impact on our fiscal year 2009 profits.

Within Electronics, silicon process was up 4% to 5% in fiscal year '08.

We expect it to be flat to down 5% in 2009.

As we look at fiscal 2009, we expect weaker demand across foundries, memory, and flat-panel producers in the first half of the year, with a pick-up in the second half.

Our growth expectations in Performance Materials are based on the assumption that we can grow through a combination of share gain, new market and application successes, and from new products, as we have in the past.

For the Electronics and Performance Materials segment, we continue to target improvement in our operating margins with a goal of delivering 15% in 2010.

In this economic environment, cost control and reduction are important drivers of earnings, margin, and return improvement.

For fiscal year 2009, we are taking a number of actions.

As would be expected, we have already cut back on discretionary spending, significantly reducing travel, use of consultants, new programs, and hiring.

We will also see the impact of a number of structural cost reductions we are making to reach our 2010 goal of 17%.

Examples of these actions include continuing to capitalize on our SAP investment, to further lower our finance, IT, and customer service costs by using shared services globally, and simplifying and automating our transaction processes.

These actions will continue to drive down our SG&A costs.

We are also increasing energy efficiency of our plants by using Six Sigma techniques to reduce the variation in plant operations, therefore decreasing the natural gas consumption of our [hyco] facilities and the power consumption of our air separation units.

We are lowering our maintenance costs through the utilization of our system-wide SAP data on our facilities to optimize maintenance scheduling and to leverage our global buying power.

And we are reducing our distribution expense per unit of product delivered through investment in more fuel-efficient equipment and more efficient route and delivery scheduling.

While we are likely to see an uncertain economy in 2009, we remain committed to delivering consistent, strong earnings growth along with improved margins and returns throughout the economic cycle.

Turning to slide 10.

Our guidance for quarter one is for earnings per share of $1.15 to $1.21 based on the following factors.

On the positive side, we expect to see increased earnings sequentially from the following areas -- higher prices in Merchant Gases; a much smaller impact from quarter four's plant fire and hurricanes; and improvement from our cost reduction actions.

Offsetting these sequential improvements are a number of seasonal impacts in our businesses.

In Merchant Gases and Performance Materials, we will see lower seasonal demand.

In Tonnage Gases, we expect higher maintenance spending and lower volumes in quarter one and lower operating performance bonuses.

In addition, as expected, our LNG activity will be lower, and we anticipate a higher tax rate in quarter one versus quarter four, and a currency headwind from a stronger dollar.

Please now turn to slide 13 for our capital spending outlet.

In the longer-term, we see excellent demand for our products and significant opportunities for growth.

Despite the recent decline, energy prices remain historically high and are likely to continue to do so.

There will also be significant activity around alternative energy and climate change initiatives, which should also drive much higher demand for industrial gases in both our Merchant and Tonnage segments.

We continue to work on opportunities for the future.

These include hydrogen for clean fuels; oxygen for gasification of coal, petroleum coke, and other heavy carbon materials to produce both power and petrochemicals; and oxygen for capturing carbon emissions.

These opportunities are driving increased capital spending in 2009 and beyond.

We are currently forecasting our CapEx to be $1.6 billion to $1.8 billion, up from $1.4 billion in 2008.

This forecast is slightly lower than our previous forecast, due to the stronger dollar, since a significant portion of our spending is outside the United States; lower project costs, as commodity pricing has declined; and an allowance for some customer project delays due to the financial crisis and its impact on global economic demand.

This spending is broken down between $400 million for maintenance and support capital, and $1.2 billion to $1.4 billion for growth.

Of the growth expenditures, approximately 60% are in our Tonnage segment.

As we stated before, each dollar of CapEx, growth CapEx translates to about 70% of revenue growth two years out.

In closing, I'm on the call today to assure you that the 20,000 Air Products employees, most of whom are shareholders, are committed to delivering increased shareholder value.

We are taking the actions to deliver our 2009 guidance, while continuing to take advantage of our excellent market opportunities in the future.

We are ready for this challenge.

Thank you, and now I'll turn the call over to Shawn to take your questions.

(Operator Instructions) David Begleiter, Deutsche Bank.

John, could you quantify the impact of the 20 new plants in Merchant and the six new plants in Tonnage on the sales and earnings in 2009?

Well, yes.

The 20 plants in total include the six; that's about $0.5 billion of CapEx.

And as we've said, that CapEx should translate into about $0.70 on the $1.00 in terms of revenue.

Given the locked-in growth from those projects, how would you have -- how would $5.10 be realized?

What would be declining in the business -- Electronics, I assume?

Performance Materials?

Well, yes, Dave.

And if you take a look at our guidance and you think through that, one of the things which doesn't come across actually in the numbers for the thing we talked, is the currency headwind which we're facing.

So, if you take a look at this, I estimate that we probably are facing about a $0.30 to a $0.35 a share headwind in currency, allowing for a euro somewhere in the [$1.30] range and appropriate other currencies as you go out there.

We're also exposed to the won, the Taiwan dollar, the pound, et cetera.

So that's a headwind.

The other thing is we have equipment, which as John talked about, which is a headwind of about $0.05 from there.

So, if you look at that, the volume growth, which we have locked in, continues about $0.30 a share next year, as I can look at it right now.

So that translates to a 5% or 6% gain in our EPS just from the volume, which we have.

And Paul, what's the benefit from cost and productivity actions in '09?

We're probably somewhere in $0.10 to $0.20.

Jeff Zekauskas, JPMorgan.

If I could start with a question of clarification.

In your press release, you say that the effects of the fire are in Other Income.

Is that Other Income on a consolidated basis or Other Income on a segment basis?

On a consolidated basis, Jeff.

Okay.

So, in other words --

On the [line] on the P&L.

Okay.

So, if what we do is we add back the $15 million to your $42 million in operating income in Electronics, we get $57 million.

And you had positive volumes, positive price and positive currency.

And your sales are up roughly from $520 million to $550 million, but the operating profits are down, and this -- even adjusted for the fire -- and this is the area where you've intensely focused on cost reduction.

So why is that?

Well, one of the things is that we did have extra costs, obviously, in this quarter in the Electronics area for us.

And if you look at the other aspect of that thing is that price in Electronics was down year-over-year for us.

So in your slide, it says --

Yes.

In the slide, what you see is 2% price gain.

A lot of that is the performance in the Performance end of the business -- that's recovery of the raw materials aspect of that.

And so, on net, that is a positive.

If you look just at the Electronics portion of the business, we continue -- as we've talked about this before -- we continue to see declines in our special materials pricing.

So the 2% price is a net of those two.

And it does not -- and the 2% price really is recovery of -- it's a recovery of the raw material costs in the performance end of the business.

Okay.

And then, finally, I think John McGlade in his preliminary remarks said that you still maintain your 15% margin target for Electronics and Performance Materials for 2010.

So you're at 11% now and you're projecting, I guess, negative volumes for next year or for most of next year?

So how are you going to get from 11% to 15% with no volume growth?

Well, okay.

Well, first in 2010 -- and we are going to project growth in 2010.

In fact, if you look at this, Jeff, I think the way in which John phrased it, we're expecting the first quarter and the second quarter of the year to be down and then start to see a pick-up in the third and fourth quarters, continuing into 2010.

Okay.

And then I guess lastly, what's the millions of standard cubic feet that you've just booked with Exxon Mobil for the two contracts?

It is about 160, I believe.

For the two combined?

For the two combined.

Okay, thank you very much.

P.J.

Juvekar, Citi.

I don't understand your CapEx guidance.

At the midpoint of your CapEx guidance, it will go up, CapEx will go up 20%.

And you're saying that operating profit will go up only 1% to 6%.

So your return on capital is going to fall.

That suggests that you're going after projects with marginal returns.

(multiple speakers) Can you sort of talk us through that?

Why are you raising your CapEx if you're expecting earning growth to be lower?

P.J., if what you look at is the CapEx which we're spending next year is going to go principally into the construction and progress account for those things.

And so, what that does is a lot of that CapEx comes on two years from now.

So we'll have some of it come on in 2010, as John talked about, and then other come on in 2011.

And so the sales and profit impact really of this these things is one to two years out.

But you and the rest of the industry, you ramped up your capital spending as returns are going down.

Are you just worried long-term that returns could be lower and the oligopoly that we had expected, this may not work out as people expected?

No, P.J.

As we've talked before -- this is John.

I mean, we are constantly focused on looking at the quality of the returns of the projects that we have.

And we aren't deteriorating the returns on the projects that we're taking on.

I think the CapEx ramp-up, which is largely in the Tonnage segment, is a direct function of the opportunities that exist in the energy sector.

Okay.

And just on that with oil below $70, some of these projects like enhanced oil recovery or even Canadian tar sands, is there any anticipation of slowdown in any of these projects?

This is John again.

I mean, in our guidance, we did lower our forecast for this year a bit from what we had been out saying a couple of quarters ago.

I still think, however, the fundamentals of basically the North American demand for transportation fuels and the security of supply that the tar sands or the oil sands offer to that very large marketplace really, really does bode well for the long-term development of those reserves.

Certainly, as oil has come down to this price range, we believe these projects make sense in the broader North American dynamics.

And then quite honestly, the pressure that had been on the resources to execute all of these projects that had been announced, really made for, I think, a fairly high escalation of the cost and the tight demand on resources.

And so there's probably a little bit of natural sorting out of that oil curve.

But our view long-term for the prospects here is still very bright.

For short-term, maybe some slowdown, but long-term you are positive?

Absolutely.

And the short-term we've tried to build into our revised CapEx.

Peter Butler, Glen Hill Investors.

Is there a bigger picture on your Exxon contracts?

What does this do to your competitive position on the Gulf Coast versus, say, [Pracsayer]?

Are there any longer-term implications on raising your market share?

What about possibilities of follow-on business with Exxon at other locations around the world?

Do these contracts say that you're -- you have a significantly improved position with the company?

Well, I think first off, in this business, it's never been about market share from our perspective.

It's been about really generating projects that give us returns that are consistent with our goals and objectives.

Certainly these two projects with Exxon -- we're very pleased to be the supplier to these.

We believe that we won these on the basis of our ability to provide the value proposition that Exxon expects.

We're -- obviously in the supply of hydrogen to any refinery, we're a critical element to the ability of that refinery to run and to run consistently without interruption.

And I think having been at this game the longest, we've been able to demonstrate that the best of our competitors.

I think as you know, each and every one of these projects, given the large scale of them, tend to be discrete decisions, that among other things, are based on your credibility in the marketplace, your relationship and credibility, and the fact that you've been able to prove to that particular customer, through years of operating experience, that you can deliver the value proposition that they're expecting.

I guess what I was looking for was your thoughts that your experience to date and including these -- winning these two contracts would, in fact, improve your batting average on contracts yet to be negotiated and completed.

Well, I think from the standpoint of -- I'm not going to speak specifically to Exxon Mobil, but from the standpoint of my earlier comments on the market positioning, I think the market is -- and in this case, on these two, Exxon Mobil is voting that we do have a compelling value proposition.

I think on future projects, we really have to talk to them.

Okay.

Great.

Thanks for your help, guys.

Robert Koort, Goldman Sachs.

A couple of questions.

One, John, where is the incremental demand from Exxon coming from?

Is that a de-captivation of existing or are they kind of going to adjust their refinery and need more hydrogen?

Or why did you get that incremental business?

Well, in both cases, I think that they're just moving towards a greater transportation fuel production.

Some of it's probably related to some of the diesel regulations that came into play.

And so, it's really an incremental debottleneck at both facilities -- the one in Baytown and the one in Baton Rouge.

Got you.

And then your well-respected economist seems to have a much more pessimistic view than IMF or some others in terms of his economic forecast.

So, do you think that's a reflection of some stuff you've seen more recently in extrapolating that forward?

Or are you just being particularly cautious?

Why such a somber outlook compared to maybe what others have said?

Bob, I think it pays to be conservative at this point in time from -- and from our plans on everything.

As John said, it's a place in which the uncertainty is very high here.

And so I would rather err on the downside.

I'm not going to miss anything, but I'll be prepared for the worst things, we think.

The other thing is that I'm the first out on the full year.

And then lastly, if I might, a lot of your on-site projects are based on achieving some sort of return on capital target.

How much wiggle room is there in your own procurement of raw materials, ENC labor costs and that sort of thing, where you could actually get an improved margin as the global deflation starts to take hold a bit?

And that is possible for us.

It's one of the things in which we put forth, as far as the change in the capital outlet.

We expect the commodity prices to bring capital costs down by a bit also.

Do you share that with your customer if that happened?

Or no?

Sometimes we do and sometimes -- and we don't.

It depends upon the contract.

Got it.

Thanks very much.

Kevin McCarthy, Banc of America Securities.

Would you elaborate on what you're seeing in Asia in the Merchant Gases business?

Obviously, volume decelerated to 4% from 15% last quarter.

But I know it's an unusual quarter with the Olympics and a lot of macro volatility.

So, as you look to the first half of '09, would you expect to rebound from that level?

Continued pressure?

What's your outlet there?

Kevin, this is Nelson.

Yes, we've looked at this pretty closely, obviously.

And most of the slowness that we would see is due to the Olympics and the Para Olympics period.

In addition to that, certainly some merchant volume going to electronics customers in Taiwan and Korea has slowed a bit.

One of the things to point out here, though, is that overall, from a macro standpoint, we have been short of molecules in many regions in Asia, and have brought on plants in China, Korea, and Taiwan to serve what I'll call the general market.

And so we do expect to see some volume kick from that this fiscal year, because ultimately, capacity is still pretty tight there.

So we do expect to see volumes bounce back and we do expect to see decent volume growth in Asian this year.

Okay.

And then on the pricing side in Merchant, I think you had some relatively recent increases just about three weeks ago, on October 1.

Given that it's early, what is your experience in terms of realizations and customer push-back relative to prior rounds of increases?

It has not changed, which means it's still very positive in terms of the effectiveness of the increases.

I mean, the key point is, as we spoke to in the script, the first part of the call, was the capacity utilization is still pretty tight.

We haven't seen any movement in North America.

And by the way, we and a few of our competitors have actually brought on capacity this year.

It's been incrementals capacity, as you know, but that has been basically taken into the market.

And so we are, so far, as good or better than expected on these latest increases.

And final question for Paul, if I may, on the subject of repurchases.

Do you have any thoughts on the pace of future repurchases, given the volatility in the capital markets?

It's certainly something which we are going to pay a lot of attention to, Kevin, because we want to have the funds to address the market needs and stuff like that.

But as we have -- as we maintain our debt rating [today], and our commercial paper in A1/P1, and if we go out and have the additional cash over that -- which under this plan, we would project to still have, even with the capital spending which I have here, we will go back and buy back shares.

I probably would not do that in advance or in anticipation of earnings, though.

Chris Shaw, UBS.

Just given to sort of where the energy markets are going, do you have any expectations for lower hydrogen volumes in the Tonnage business for 2009?

Or do you think those will hold up?

Is there a big spread between what you guys have been earning and what the take levels are?

Yes, if you look at -- on the refineries in the US, the refineries have continued to operate in the mid-80s.

And so we would anticipate that to continue.

So no, it's not a factor in there and we don't expect to see it.

And then, general, on your 2009 guidance, is there -- what sort of expectations do you have in there for pricing year-over-year?

Yes, we actually have -- the pricing is already in there.

A lot of it, a lot of the improvements year-over-year are included in there.

And as you can see, we went out on the 1st of October in the US to raise prices and we're continuing to raise prices in places like Europe and Asia also.

The capacity still looked very good across the globe for us.

But there's not like a discrete number in there, a number like 2% up?

(multiple speakers)

No, but no.

But the thing I said, if I take a look at the overall pricing/cost mix for us, I think it's $0.10 to $0.20 positive this year for us.

In 2008?

2008 to 2009.

Okay.

And then just quickly, are there any -- I forget; were there any energy surcharges you had for delivery that might be coming off because of lower, just, gasoline costs?

We did have surcharges on diesel, and if diesel comes off and stays down, they will come off.

Okay.

Great.

Thanks a lot.

Don Carson, Merrill Lynch.

2009 is shaping up to be another 2001 in terms of a downturn.

This time around, you see an improvement in earnings in a recession versus a slight deterioration last time.

What gives you that confidence?

Is it the portfolio improvements you've made since the last recession?

Is it that the higher backlog?

What exactly gives you the confidence that you can do better in a recession than you did last time?

Well, Don, it's frankly a combination of both of those things.

I think as you well know, we have worked really hard at transforming the portfolio of this Company, but also at transforming the foundation of how we execute our business.

And then when you combine that with some of the growth that we have locked in, the applications that we do see, certainly a better discipline on our side in terms of the investments and aspects of our business and maintaining a much higher utilization rate in the operation of our businesses.

We worked really hard to get here.

And this management team is absolutely focused on doing what we've said we were going to do, which is to perform during an economic downturn.

And just a couple of follow-ups on the backlog.

You mentioned that backlog is at an all-time high.

Can you quantify that in dollar terms or number of projects?

And you talked about building in or factoring in some delays in the backlog.

What cancellation potential is there in the backlog?

Can you comment on that?

Yes, well, Don, as far as the cancellation potential, if that were to happen, we would have coverage on our costs.

Now, the likelihood of projects being canceled I think is quite small.

I am not concerned about that.

And we have factored something in for projects delaying a little bit.

So I think we are in good shape there.

With regard to the size of the backlog, it is currently about $2.5 billion in spending.

The other portion about that is that the bulk of this is in the Tonnage area with 60% to 65% of that being in the Tonnage area.

And Paul, just one clarification.

I don't know if you had mentioned this before -- what's your assumption on the foreign currency headwind in 2009 from an EPS standpoint?

EPS, it's $0.30 to $0.35.

Right, okay.

Thank you.

Laurence Alexander, Jefferies.

This is Lucy Watson sitting in for Laurence.

Just wanted to clarify, that $2.5 billion in spending, that's capital spending, right?

That is a backlog in projects.

The capital spending for '09 is going to be between $1.6 billion and $1.8 billion.

Okay.

And have you clarified or do you know what the impact of pensions will be on 2009 earnings and cash flow?

About flat.

Okay.

And have you -- I'm sorry.

What is the contribution to Merchant Gases profits from the European health care business?

And that is disclosed -- it runs, profits about $23 million to $24 million a quarter.

Okay.

And just one more.

At what point would you expect to start cutting CapEx spending?

Are there any external indicators that we could possibly look at or that you look at to track for cutting back?

Well, on the CapEx, the thing which everyone should realize is that is driven by us and having the products sold and the customers.

So, the customer base is there, so I would not anticipate a cutback in CapEx.

Mike Harrison, First Analysis.

In the past, you've talked about improving your plant efficiency and how the savings are larger when energy costs are higher.

I was wondering if you're still moving forward with as many plant efficiency projects now that energy prices have come a little bit lower and sort of how you're looking at those projects longer-term?

They have come a little bit lower, but if you look at the cost of power and you look at the cost of gas, it's still two to three times the historical rate.

So the benefits of these things look good.

And no, we would not back off.

As we try and take a look at this stuff, I'm not factoring in $150 a barrel oil or $12 gas in the economics long-term, to make these things work.

And the build I'd put to that is, is the fact, the comment I made around utilizing Six Sigma techniques, advanced tools, getting better, tighter operating capability around our plants, gives us opportunities to do this that don't always require a lot of capital investment in the facility to achieve these returns or improvements.

That's right.

And as you see maybe some slowing or delays in your growth CapEx or in some of the projects from your customers, do you have kind of a backlog of your own of plant efficiency projects that you can put into the pipeline, to make those higher priority in a slower economic environment?

Yes, that's a great question.

And of course, I go back to the point Paul made a moment ago.

We're watching the capital stack that we're executing very closely.

But these additions are largely in our Tonnage business.

They're largely tied to contracts that are either executed or working under some sort of a commercial agreement.

And so, our view is that we've got a reasonable CapEx forecast here for the next couple of years -- or for next year and expect similar type going forward.

Having said that, you're absolutely correct in the fact that you're constantly balancing the trade-off of resources between executing against your growth capital, while continuing to optimize the asset base you have.

And that would certainly be a lever we would pull.

What we're really trying to do is ensure that we can do both of these things in the environment that we're in.

All right.

And then looking at the Merchant business and the performance you showed in Europe this quarter, it looks like the strongest organic growth that you've shown there all year.

I was wondering if you could explain why that was the case, given what we're hearing about slowing in Europe and -- at least the things I've heard, that August slowed down significantly and September didn't really pick up like it normally does.

Mike, this is Nelson.

Yes, our September volumes in liquid bulk did pick up.

So we were obviously happy to see that.

But the growth is really being driven by new application successes.

A couple of specific applications that were out there proliferating in the European markets, some of the things we've carried over from success in the US.

And we would basically attribute all of that gain or a lot of that gain, certainly, to new application success.

Do you (multiple speakers) --

Energy related as well.

Do you think that you guys can hit the 6% to 7% underlying growth rate that you had talked about for Merchant in Europe?

The 6% to 7% of growth which we talked about previously, it really applied to the whole Company.

And right now in the economic forecast, which I have in here, it's probably about 5% overall.

(multiple speakers)

Mike Judd, Greenwich Consultants.

Yes, thanks.

I'm just wondering if you could give me a little bit of an update on your pension plans and how they're structured?

And you mentioned to an earlier question that you don't expect any additional -- or any increase in the level of funding for the next fiscal year.

Could you kind of just walk us through that, given that some of the equity markets are down?

Mike, sure.

As we look at our pension plan, the major plan which I have exists in the US.

The unfunded liability overall is about $400 million.

I would not anticipate it to get a lot larger this year, because the other thing which is going to happen is that the rate of -- the discount rate to calculate the PBO and ABO are coming -- is actually going up.

And so, I think we're going to be fine there.

Mark Gulley, Soleil Securities.

With respect to the Texas opportunity, I guess Baytown, Texas for Exxon, it sounded like you have available capacity in that pipeline system, which you're making available for this new application.

Is that correct that your operating rates there are perhaps low enough that you already had the capacity for Exxon in Baytown?

Well, we -- it is available capacity in our system, but it's also consistent with our strategy on our franchises, which is, you add discrete plants on large requirements, but then you try to add plants that fit either a standard envelope or an actual size to be added.

And it's a real opportunity to put a little bit of extra capacity on a facility in a franchise such as Texas or Louisiana, where you have substantial network of pipes, multiple, multiple customers feeding and taking product in and out of that system.

So this is just a natural progression of how we develop any franchise over time.

Particularly, I want to talk about the economic forecast.

I actually thought it was a little bit more optimistic than I would have thought.

It seems to me like this recession is going to be very much more global than the '01 recession, that both the consumer and industrial customers are going to get hit here pretty hard.

So I would have thought that perhaps the outlook from your economist would have been more somber than it is.

Well, thanks.

Can you elaborate on why this one is going to be the way you think it is?

Well, I think -- and if you take a look at what we have predicted, what we're showing is a drop in the manufacturing climate, which is about equal to the 2001 area right now for us.

And it's going to be global, we think, because of the crisis, which has gone global also, and the mood of consumers.

It is below the consensus, though, right now, Mark.

So it is worse than a lot of people are predicting at this point in time.

And then finally, I know all energy projects have individual energy cost thresholds, but if oil were to continue to fall, are there any projects, any applications which really do get pushed aside if oil or natural gas falls a whole lot more?

Yes.

And then certainly we -- this is not an exact science; it's an art.

And it really gets down to, frankly, most of the time our customers in planning for a new project are not planning at the current price of oil on that day, but generally a much more normalized cost of oil, if you will, over a longer period of time.

But clearly, one of the first areas that go when you get down to lower and lower thresholds would be fracking for natural gas, probably down around $5.00 -- 1 million BTUs.

So that's more of a hit to the Merchant business, should that occur.

On the longer-term, as I mentioned on the longer-term projects driven off of energy, I don't think any of our customers were planning anywhere near the scenario of the oil prices that we saw throughout this summer.

Thanks, John.

Mike Sison, KeyBanc.

When you think about the 20 plants or so you're bringing on next year, I mean, odds of a cancellation, considering that it's so close to being built -- I mean, your customers must be well financed, must have their plan on the go -- it's pretty low, right?

It's zero.

Okay.

And then when you think about the backlog that you have, the 1.6, 1.8, is that all growth or there was some maintenance CapEx in there?

The maintenance CapEx is about $400 million.

Okay, so the --

So, 1.2 to 1.4 of spending in '09 on growth and a growth backlog of about 2.5 right now.

Right.

And historically, why does a customer cancel?

Is it -- I mean, is it that they don't get financing?

They go bankrupt?

I mean, historically, I do know that you don't have a lot of cancellations, but if there has been some, why did they cancel?

We rarely see a cancellation in this business.

What we're more likely to see are delays and not cancellations.

Right.

And the reason you're confident is that within the CapEx backlog are actual customers who have signed a long-term, five or 15-year contract?

Yes.

Okay.

Then, John, when you take a look at return on capital of 13% for '08, I didn't really have time to do the math, but when you look at your guidance for '09, is there improvement there?

And then when you look longer-term to 2010, can you give us sort of a maybe directionally where you think return to capital should go?

Well, our goal -- I'll let Paul address the specifics, but our goal is to continue to improve our return on capital.

I mean, part of our challenge to ourselves and our commitment to our shareholders is to drive our margins to 17%, which would in turn translate into a return on capital of around a 15% type of ROCE number.

And that's what our goal is out there -- is to take the margins up and drive the returns up along with that, Mike.

And there will be some improvement next year?

Yes, a little bit.

That's right.

Okay.

All right.

Thank you.

And that's all the time we have for questions.

I'd like to turn the call back over to Mr.

Squires for any additional or closing remarks.

Thanks, Shawn.

Please go to our website to access a replay of this call beginning at 2:00 p.m.

today.

Thank you for joining us and have a nice day.

And again, ladies and gentlemen, this does conclude today's conference.

We thank you for your participation.

You may disconnect at this time.