伊士曼化學 (EMN) 2006 Q1 法說會逐字稿

Good day, everyone, and welcome to the Eastman Chemical Company first quarter earnings conference call. Today's conference is being recorded. This call is being broadcast live on the Eastman's Web site at www.eastman.com.

We will now turn the call over to Mr. Greg Riddle of Eastman Chemical Company Investor Relations. Mr. Riddle, please go ahead, sir.

Okay. Thank you, Rufus, and good morning, everyone and thank you for joining us. On the call with me today are Brian Ferguson, Chairman and CEO; and Rich Lorraine, Senior Vice President and Chief Financial Officer.

Before we begin, let me remind you that during this call you will hear certain forward-looking statements concerning our plans and expectations for second quarter and full year 2006. Actual results could differ materially from our plans and expectations. Certain factors related to future expectations are or will be detailed in the Company's first quarter 2006 financial results news release on our Website and in our filings with the Securities and Exchange Commission, including the form 10-Q to be filed for first quarter 2006, and the form 10-K, filed for 2005.

With that, I'll turn the call over to Brian.

Hi, good morning, everyone, and thanks for joining us today.

As usual, I'm going to run an agenda of some corporate highlight comments, talk about the segments and the regions, some outlooks for the second quarter, and then finally some comments on corporate strategy.

Starting with the corporate highlights, last night we reported a very good first quarter. In the parade of Eastman first quarters, this was the second best in a decade and was only overshadowed by the best quarter in our history, which was a year ago. These solid results were led by our strong base of earnings, and they are right in line with the guidance we gave you at the end of January.

We faced some significant head winds for PET polymers in this quarter, and I'll talk more about that and the actions we're taking to improve PET results in a few minutes.

However, our first quarter results continue to demonstrate that we can deliver strong earnings when PET results are below acceptable levels. Our solid financials were driven by sales revenue of just over $1.8 billion, which is slightly below the record we set in the third quarter of last year, and is up 2% year-over-year. In addition, we were able to maintain our high level of sales volumes at last year's level.

The financial results are especially gratifying when we consider that we had about $19 million of added cost related to some operational disruptions in our Texas facility, so that's something in the neighborhood of $0.15 of earnings that may have come off.

And of course we continue to experience high and volatile energy and raw material costs. Fortunately, we were able to largely offset the higher raw materials and energies with needed price increases.

Now turning to our segments for the first quarter. Our strong base of earnings, consisting of Fibers, CASPI, and Specialty Plastics, delivered once again. Combined, they had an operating margin of 19%, which is the same as they had in last year's first quarter. The strong base of earnings accounted for about 75% of the Company's operating earnings, but their revenue only accounted for about 40% of the total company's revenue. So they are contributing at a very high level.

Reviewing results by segment, starting with Fibers: Fiber's operating earnings were $66 million in the first quarter, an $18 million improvement over the first quarter of 2005, and by the way, that's the best quarterly earnings they have ever reported in this segment. This translates into an operating margin of almost 30%. The increase is due primarily to structural changes in their key markets, which include the lengthening of cigarette filters outside the States, substitution of acetate tow for polypropylene, primarily in China, and the exit of a large competitor from the acetate yarn market. We also continue to benefit from our use of coal as a raw material in this segment.

Next is CASPI, where the first quarter operating margin was 18%. Sales revenue increased 10%, mostly due increased prices needed to offset the raws and energy. Earnings for the Coatings product lines were actually slightly better than the very strong year-ago period, however Adhesives' earnings were slightly lower, due to lower volumes and the impact of a stronger dollar against the Euro. Although we could face some challenges in the more cyclical commodity product lines, we expect CASPI to have another good year.

Also in our strong base of earnings is the Specialty Plastics segment, and they have bounced back, once again, from a tough fourth quarter, just as they did a year ago. First quarter 2006 operating earnings of $18 million compares with operating earnings of $21 million in the year-ago period, and with $5 million in the fourth quarter. Their operating margin in the first quarter was about 10%, and that's very good. They were able to sustain this double-digit operating margin and grow their volume 3%, despite the fact that we are experiencing cyclical highs in the cost of paraxylene and ethylene glycol raw materials at this time. Also, we're continuing to spend on growth in this segment and we're making very good progress on their initiatives.

Transitioning to our more cyclical segments, Performance Chemicals and Intermediates had another strong quarter, with operating earnings of $41 million. Revenues increased 6%, primarily due to higher selling prices related to raws and energy. Volumes were down in the segment, largely due to the operational disruptions we had in our Texas facility. And earnings were down from first quarter '05, due primarily to the impact of some Asian capacity additions on resin intermediates product lines.

Now turning to the Polymer segment: Starting with a quick comment on polyethylene, despite the impact of the operational disruptions in Texas, which required us to purchase more ethylene, they had another good quarter. I just wanted to mention that quickly.

Moving on to PET, results declined significantly year-over-year in all regions. Starting in North America: this continues to be our strongest region for PET due to our vertical integration; however, their results declined year-over-year as high level of Asian imports led to lower volumes and lower selling prices. We do expect the volumes and utilization rates to improve somewhat in the second quarter as Asian imports decline. And of course a key variable is the high and volatile paraxylene cost here and elsewhere in the world, which are tracking the volatility of oil and gasoline.

Next is Europe, which has been difficult, due to a combination of new PET capacities, lower than normal demand, and extreme fragmentation in their marketplace. We expect conditions in Europe to remain difficult throughout 2006 due to these factors.

Latin America is also down year-over-year as we continue to work through a tariff issue in Brazil which has impacted PET trade flows in Mercosur.

So this quarter showed how good the Company can be when PET is not really pulling the wagon. This begs the question of how good things could be if and when we can fix the PET profitability equation. We're working and taking a number of actions to improve the performance of our PET product lines, and typically when you face an underperforming product line, you work through three parallel courses of action: You can fix things, you can sell things, you can shut things down. Historically, we have turned to all three of those mechanisms to fix some of our underperforming segments.

In the "fix it" category, our new facility based on IntegRex' technology in South Carolina will be online in the fourth quarter and fully operational at the beginning of 2007. We are currently running our semiworks plant and producing commercial grade quantities of material with very promising results on both the process and the product features. I should remind you that this is a no regrets investment, due to the great cost position we get from IntegRex, which allows us to make reinvestment economics in pretty much any scenario we can see in the industry. And in addition to the great cost position, IntegRex technology enables us to custom tailor our product attributes to meet specific customer needs.

Second, we remain committed to rationalizing higher cost capacity as we bring on this new facility, which will lead to an overall improved cost position for our company, and to remind you, we've said that we intend to rationalize at least 100,000 tons after the new facility is online.

And finally, we're pursuing actions to address underperformance in our non-integrated PET assets.

Now some comments on regions, beginning with North America: The first quarter North American revenues increased by 6%, primarily due to higher selling prices. Just so you have a benchmark, the percentage of our revenue in North America stays constant at just under 60%. Our profitability in North America declined a bit, primarily due to the lower PET polymers earnings.

In Europe, revenue was down 12%, primarily due to lower sales volume in the polymers segment and unfavorable foreign currency exchange rates. Our profitability in Europe also declined, primarily due to the performance of PET in Europe that I mentioned earlier.

Asia Pacific revenue declined by 4% year-over-year, as lower sales volume was partially offset by higher selling prices. The lower volumes were primarily in acetate tow product lines, and were due to the impact of the new China National Tobacco Corporation and Celanese joint ventures that have started up. I should point out, though, that despite the lower tow volumes, we were able to maintain our profitability in Asia at year-ago levels, which tells you that we are growing other profitable product lines there.

Lastly, Latin America revenues increased 18%, driven by higher sales volume, which was offset by lower selling prices, both in the Polymers segment.

Now, some comments on the first quarter: Looking at our outlook for the second quarter, we expect to have a normal seasonal improvement in sales volume in the second quarter. We also expect our strong base of earnings to keep delivering very solid results. We'll continue to have the head winds that I've already described in PET, and we expect that raw material and energy costs are going to continue to be both high and volatile. Now, putting all this together, we think our second quarter earnings per share will be similar to our first quarter earnings per share. And barring any significant changes in the overall economic environment, we continue to feel very good about the outlook for the full year.

Now, concluding with some comments on corporate strategy. First, you may have seen about a month ago that we changed our organizational structure to help us take full advantage of the growth opportunities we've talked about with you with previously. We now have a Chemicals and Fibers business group led by Jim Rogers, and a Polymers business group led by Dr. Greg Nelson. This new structure enables us to have more focused market insights, which in turn aligns our product development activities to better serve our customers. And also, by combining the strengths of the Polymers and the Specialty Plastics segments under one group, we better position them to make our integrated polyester strategy more successful.

Next, on coal gasification: we continue to make good progress in the early stages of our strategy. You may have seen a few weeks ago an announcement from Mosaic Company about a letter of intent with U.S. Syngas to begin the development of a pet coke gasification project in Louisiana. Eastman Gasification Services is the proposed operator of this facility. As we've told you before, the focus of our interest is to increase the percent of our raw materials that come from coal. Our involvement in this project supports that. With that said, we expect to give you more insight into our efforts in coal gasification later this year, as we make more progress against our key milestones.

Also, some of you have wondered how we will improve the competitiveness of our olefins stream. Again, we're making good progress there, but today is not the day to go into more detail on that.

We also continue to make good progress on new, high performing polyesters, with increased functionality in the Specialty Plastics area, and with the acetate tow growth options in Asia and Europe.

So my expectations is that we're going to make very good progress in 2006 on all of these initiatives that I've talked about this morning. But my preference is to tell you about the progress all at once, rather than in a lot of separate announcements and discussions, because they do interrelate with each other a great deal. So as a result, I think I will be coming to you sometime in the fourth quarter with more details about the progress we've made and what it means for the future of our Company.

I'll sum up by reiterating that I expect 2006 to be another strong year for Eastman Chemical Company, and we have many exciting possibilities in our future. With that, I'll turn it over to Rich.

Thanks, Brian. Good morning, everyone.

This morning, I'm going to cover a little more detail on the reporting change that Brian mentioned, hit the cash flow and net debt impacts, talk briefly about the impact of our implementation of Financial Accounting Standard 123R and give you a little color around our tax rate.

First, on the reporting change, related to the change in our organizational structure that Brian mentioned, we made two changes to our reporting structure at the beginning of this year. First, we now transfer all goods and services at cost, where previously we transferred them at rates above cost, or closer to market rates, and that resulted in inter-segment revenue and operating earnings. In the tables that we sent out with our news release, you'll see there are no interdivisional sales revenue or operating earnings identified any longer.

Also, we recast segment results for the 2002 through 2005 period, without interdivisional revenue or operating earnings, to allow us all to have apples-to-apples comparisons. We recently published these recast segment results in our 2005 data book, which was issued last week, and it's also available on our Website, Eastman.com. We also made that available to the public in a recent 8-K filing.

Second, as you also, I'm sure, noticed in the tables accompanying the news release, we are not longer reporting a Developing Businesses segment. Rather, what we've done is established an Other category following the segment results, which consists of corporate initiatives and corporate R&D projects that are not directly linked to one of our business segments. The reason for the change is that we've taken actions recently and narrowed the scope of activity here. As a result, the Developing Business segment was no longer significant enough to continue reporting as a segment, and we therefore decided to make this change and no longer report it. As we did this quarter, we'll continue to show the operating results for this Other category to reconcile the segment totals to the overall corporate results.

What we think about when we look at this Other category is really, it's -- as we've discussed in the past, it's an extension of our overall R&D efforts and we continue to expect that on a combined basis that R&D will be at or below 3% of sales revenue.

Turning to cash flow, our cash flow from operations for the quarter was $37 million. This started with solid net earnings and we also saw in there a build in working capital of $100 million, primarily an increase in receivables and a decrease in payables. The increase in receivables is due primarily to the higher sales revenue in the quarter compared with the fourth quarter, while the decline in payables, which is about $36 million, is primarily driven, because it doesn't reflect the impact of bank overdrafts or float of about $65 million, which is included in the financing activities section of the cash flow statement, as it's prescribed that we handle that. So I wanted to be sure you got some color on that.

On an overall basis, we feel very comfortable and confident that our working capital is very well managed and under control.

Lastly, we made a $20 million contribution during the first quarter to our U.S.-defined benefit pension plan. And comparing that to last year in the first quarter, we did not make a contribution. For this year, we continue to expect the full-year contribution to be about $75 million and stay at that 90% funded level that we're comfortable with.

On uses of cash, our capital expenditures for the quarter totalled $78 million. Our normal and usual pattern for capital expenditures is to be a little lighter in the first quarter, so usual cautions not to annualize this number and expect that that's what the full year will be. We continue to expect our capital expenditures for the full year to be up to about $450 million.

I'd like to take a moment here to perhaps answer a question that would have been asked regarding share repurchase. As we've said, we continue to make great progress on the growth initiatives and Brian just reviewed that. And we're currently building cash and primarily with funding growth initiatives in mind. We are going to revisit this question of share repurchase in the second half of '06 and be prepared to give a more substantiative comment at that time, but I can again reinforce right now that we do not currently plan to take any action to offset the dilution impact of the stock option exercises that have taken place over the past year and a half or so.

On to net debt: we've held steady in the first quarter. We're at about a $1.1 billion level and comfortable with that right now. You'll note that our interest expense declined to $20 million for the quarter from $30 million in the year-ago period, and that reduction primarily reflects the lower average borrowings and higher interest income we're enjoying. We continue to expect that our net interest expense will be in the mid- to low $80 million range for the full year.

Moving on to the implementation of Financial Accounting Standard 123R, we did adopt FAS 123R as of January 1st, which, as you know, deals with stock-based compensation. Previously, we had implemented this on a disclosure only basis under the requirements of of FAS123. With the adoption of 123R, we are now required to recognize the compensation expense related to stock option awards on our financial statements at a fair value. This is fairly benign for us and for the first quarter of 2006, the overall impact of adopting FAS 123R on our results was $0.02 per share.

Lastly, I want to comment on the tax rate. Our effective tax rate on our normalized earnings was 35% for the quarter, obviously higher than the 33% that we previously forecasted and where we guided. The most significant reason for the higher tax rate is the lower earnings that we had in the favorable foreign tax jurisdiction, again, focused particularly in Europe for PET. We don't expect this mix of earnings impact to turn around quickly, and as a result we expect our full-year tax rate to remain at approximately 35%.

With that, I'll turn it back to you, Greg.

All right. Thanks. This concludes our prepared remarks. Rufus, we are ready for questions.

Thank you, sir. Ladies and gentlemen, our question and answer session will be conducted electronically. [OPERATOR INSTRUCTIONS] For our first question, we go to Frank Mitsch with BB&T Capital Markets.

Good morning, guys. Nice quarter.

Thanks, Frank.

Thank you, Frank.

Could you clarify a little bit, CASPI, obviously, is a strong part of the Eastman portfolio. You highlighted that the Adhesives business was off due to volume issues. Can you go into a little more detail on what's going on there and, more importantly, when we might be able to see an upturn?

Yes, the problem there is more about raw material availability, Frank. We still have some hurricane overhangs -- a raw material that comes out of the Gulf, called piperlene, is on allocation, and as they fix those, we get more of that. And that's what's really standing in our way. We have the juice, otherwise. We have an expansion going on in Middleburg, we have an expansion going on in Asia. We have -- we're just waiting on the raws. That's pretty much it.

All right. So the health of the business is still fine?

Well, yes, the business is in great shape. We just need to feed it. And I have to rely on my raw material suppliers to fix their problems.

All right. Terrific. And then on the -- Brian, you were talking about how even though you're not really a PET company in large part, the European business is going to be very poor in 2006. Can you offer any sort of trends in terms of, is it sequentially worsening, is it improving off a low base, any guidance there?

You know, it's hard for me to call that one, because we have a good bit of business in Europe. It's strongly affected by the currency exchange. Currency was heading south on us, it's kind of stabilized -- that's a good sign. The PET business is going to be soft there because it has just a very fragmented industry there. And I'd say that I don't really have a trend answer to give you, but this is more of a low period, this is not kind of a center line period for them.

All right. Terrific. And then, lastly, if I could ask you that same question in North America, as to how you see that progressing?

North America still looks okay to us. We're feeling okay about the trajectory of North America. We are running at pretty high rates. Whenever you're running at pretty high rates, you find ways to de-bottleneck and incrementally improve your capacity. We're doing that. We have plans to invest selectively in a variety of businesses over time to give us more juice there, and we feel -- we wouldn't do that if we didn't feel good about North America.

All right, terrific. Thank you.

And we'll go next to Sergey Vasnetsov with Lehman Brothers.

Good morning.

Good morning.

One question on asset impairments and the other one is on PET, as well. On asset impairments and restructuring, this has been going for a while and I'm trying to understand [inaudible -- highly accented language] it was necessary [inaudible] this quarter, again, it's seven. So a few related questions: Why are the charges continuing to flow, why this should be viewed as unusual, if you have to continue, why don't you absorb them in operating results like you did [inaudible]?

Well, we feel it's fair to spike these out and explain them -- just, for example, the 7 million is related to a transaction several years old, and we don't think it's appropriate to put that against the current trend of earnings in our segment.

Well, you have some investments which you've done many year ago which reflect in the current stream of earnings. So that seems to be okay. My question is if you have something which continues for many, many quarters in a row, and it sounds like will continue, why should it be an unusual item?

Well, Sergey, we're following the conventions of how we report earnings and how everybody else reports earnings. This is a -- related to the disposition of an asset. And the fact that the funds could not be -- or the impacts could not be absorbed in the country where we made the disposition, so it was a decision by the accounting company that we work with, so we follow the rules, basically, on how we report.

Okay. Do you think those charges will continue this year?

That's hard to know, Sergey. We don't project anything, but as we review our asset base and make decisions, if the -- if an issue arises, we deal with it as we go.

Okay. And second question, on PET, Brian, if you could offer a longer term view on the PET cycles, how you see '06, '07.

Longer term view on the PET cycle, PET is -- you kind of go back to the Michael Porter principals, low barriers to entry, you generally get an average market price, so it's definitely a commodity. There is a range of cost structures out there, and in a typical commodity cost curve, you have low end on the left, high end of the right. At some point, the demand intersects with all that capacity and the cash cost of the most expensive producer is what sets the price.

We view this as an industry that has the ability to be oversupplied for long periods of time, so we have no kind of rosy views about how supply and demand will somehow converge and that there will be some kind of a big spike. We view this as kind of a perennially oversupplied kind of an industry. So in light of that, you have to live inside that cost curve and create your margins inside that cost curve. That's how we view it.

The IntegRex technology that we have is giving us a lot of encouragement that we can do that and be very happy with reinvestment economics. So it gets us to live on a special place on the cost curve.

So we haven't tried to speculate beyond that on the nature of that industry structure and how it will either tighten up or weaken. There is an awful lot of capacity coming on in North America. Along with that, there is going to be a good bit of rationalization.

Rich and I have co-certified each other as grizzled veterans of the commodity chemical industry. And when we look back on our experience, we see this kind of repeating pattern of people moving down the cost curve and then rationalizing the more expensive assets, and we see that happening in this industry as well.

Okay. And lastly, I want to thank you for much abbreviated presentation results. Very, very helpful.

You're very welcome.

And we go next to Mike Judd with Greenwich Consultants.

Yes, good morning.

A question about your fiber segment. In terms of the breakout that you gave us for revenue growth, volume, mix, et cetera. The volume component of that was up 17% year-over-year, and the last couple of quarters, on a year-over-year basis, the trend has been 7% and 8%.

As you look in the June quarter, was there anything unusual in the March quarter in terms of perhaps prebuying or anything along those lines, and is that the type of year-over-year comparisons you expect to see continue into the June and September quarter?

Yes, I go back to my favorite word, my favorite adjective, chunky. This is kind of chunky good, though. This is -- they've had a lot of good things happen in the quarter to have their best quarter ever. I would not want you to annualize the results that you see in the first quarter four times. They are benefitting from good things that happened in the yarn community because of one competitor going away. They're selling a lot of flake, so the acetyl chemical side is doing very well. Filter tows, running pretty much flat out.

The -- I guess the comment we made last time was that you should think of 2006 as looking a bit like 2005 in the aggregate for fibers. I think now I'd probably have to say it's going to be a bit better than 2005, but it would be a mistake to annualize the first quarter four times.

Okay, great.

And then, secondly, a strategic question. Given your comments just a moment ago about the Polymers business and the PET business -- I guess it was actually about the PET business. At some point don't you think you could get multiple expansion if you were to really be treated as a specialty chemical company and be given that type of multiple if those businesses were perhaps in someone else's portfolio.

Yes, we look at all the ways to create value for our shareholders and you're talking about capital structures. I think the first thing on our minds here is, this is kind of a turtle chart 101. That phrase may not mean anything -- the phrase "turtle chart" may not mean anything to some of the listeners, but for the people that have followed us for a long time, this is about remembering where you make money, where you don't, bolstering the places where you do, dealing with the places where you don't. And I think that's first on our minds, to deal with that, because that's -- those things are completely under our control and we can create value for the shareholders that way. We are not -- I don't have any comments for you on the basic question that you asked.

But I mean, do you think about those -- obviously in the past you have, given that at one point a number of years ago you were considering something along those lines?

Yes. We've commented before that we are working on an integrated strategy for the Company. There's reasons for that. It will be easier to respond to that question when I have a broader conversation with you in November. You're kind of illustrating why I'd like to talk to you about a whole story instead of a part of a story. And if we just play one instrument at a time, we don't get the orchestra music here. So I need to tell the story at the end of the year, to answer your question directly. So I'm just going to put you off for a little while.

Thank you.

And we go next to Kevin McCarthy with Banc of America Securities.

Yes, good morning, guys. Brian, you mentioned four factors that are benefitting the Fibers business: Longer filters; substitutions for polypropylene filters; Celanese's exit from yarn; and then benefits that you have from your coal feed stock base. How would you rank those four factors ordinally and explain the very attractive margins that you have?

Oh, gosh. I'd have to think about that one, Kevin. The market side is a very important part of this. It's been a long time, maybe beyond our memories, that we've run this hard. So capacity utilization has a lot to do with the good results there and so it's hard to pick out any one single factor that caused that capacity utilization to run so high because they all had an impact in pulling the wagon for Fibers.

The chemicals from coal, there is a very large arbitrage between the cost of coal and the cost of other hydrocarbon sources. So that's a significant contributor, because coal is pretty constant and we all know that oil and gas are anything but, these days.

But without doing math, I'd be afraid to be on record, kind of giving you the ranking there.

Okay. But it sounds like coal and maybe the Celanese restructuring are very key for you?

They are. And of course in any business with a lot of fixed costs, capacity utilization is a big deal.

Okay. You mentioned the disruptions you had at Longview. What is the current status of those operations? Any carry-over into the second quarter? And maybe you could also address the impact on a segment basis. Was it all in PCI, or some other areas as well?

Kevin, this is Rich. As we told you, we had $19 million of pain in the first quarter. That's going to be greatly reduced going forward into the second and just maybe a minor, very minor impact in the third. And as far as segments, it touches -- because of the crackers feeding various derivatives, it touches PCI, it touches CASPI, and goes into the polyethylene area as well.

Okay. And then finally, on the subject of PET, Brian, could you comment on the profit differential in that business between your North American assets and Europe? And then Rich, I don't know if you'd happen to know offhand, but I would be interested to know the book value of your PET assets globally, ex what you're putting into the IntegRex operation in South Carolina.

The -- as is our pattern, we made money in North America, not as much as we'd like, because there were a lot moving parts, but we made money in North America and we lost some money in other places, and in the aggregate it was kind of a -- not an exciting quarter. But the pattern didn't reverse. We have a trench in here in North America, with Asian participants, and we are pretty well convinced that they are on the departure now. So we should be starting to head back into the normal patterns when that happens.

In terms of the book value of PETS, Kevin, we don't break that out. We have identified assets by segment, but not breaking into subsegments and the like. So I'm not prepared to answer that question.

Okay, thank you.

And we go next to Jeff Zekauskas with JP Morgan.

Hi. Good morning.

Good morning, Jeff.

Good morning.

I guess my first puzzle is, you said your guidance is roughly flat for the second quarter, and you've also said that you took this $0.15 hit from the operational difficulties at Longview. And usually your second quarter is stronger than your first. So is it that there's more pressure on PET from higher paraxylene costs, or -- why is it that operationally your second quarter should be worse than your first?

Yes. First of all, second quarter not worse. We said -- [inaudible]. You have it about right. We usually get a pop from two places. We get a pop from CASPI and get a pop from PET going into the second quarter. That's where the entry year seasonality is. We're not expecting much of a pop out of PET for all the reasons you understand.

It is about paraxylene. It is about -- kind of the -- there's an arbitrage there between paraxylene costs in North America being a little higher than they are in Asia, and that affects the pricing, and that's a trench, and also that's driven by what's going on in the gasoline pool. So we kind of look at the whole thing. We don't get much of a pop out of that.

CASPI had such a dandy first quarter that they're -- we don't expect much of a pop and they're a little bit limited by some of their raw material suppliers. So that's kind of the caution that we have going into the second quarter.

Second question is, I remember from your presentation in the full that your future expectations for PCI sort of showed a decline in the future? I think having to do with capacity being added in Asia. What's the outlook for profitability in PCI at the end of '06? Is it better than you thought, or is it worse?

It's actually more of a happy surprise, I think, in PCI. When we look at -- there's two kinds of moving parts in PCI. First of all -- well, three, actually. First of all, they're a big engine for the Company, so whenever they generate those basic materials that somebody else can move profitably, their first obligation is to send those materials to those other people. And that would be like acetyl chemicals to the fibers guys, as an example.

Then they have the -- kind of the big cycles of like the olefin stream driving their economics, and you have your own math on how that works. And the one that we watch carefully is our derivatives. We have a lot of propylene derivatives, mostly -- that's where we make most of our olefin stream money. And there's not a lot going on in the world relative to those propylene derivatives, and that's generally good news.

There are some things that are getting longer. We mentioned resin intermediates, plasticisors are a little challenged because of the changing demand for plastecisors in the planet. But beyond those, there's not a lot of investment going on in the derivatives we make, and that does bode a better future for PCI, but it's still, remember, it's got a pretty cyclical history. We've done a lot of things to -- also to change our contracting relationship with customers so that we kind of stabilize some of the earnings flows, and all of that, I think, is contributing to a more stable future for PCI.

Thanks. In the Faustina facility that will eventually come online, do you have to put capital into that?

Which facility, Jeff?

The coal gasification facility that you're going to work on with Mosaic?

Oh, yes. No, there's no -- we haven't made any announcements about any kind of a capital investment there. The only thing that's on the table right now publicly is the fact that we are proposed as the operator. If we saw an opportunity to improve our raw material position, our investments would be related to the derivatives that are made from coal and that's still something that's just being considered right now.

And I guess lastly -- thank you -- and lastly, in Fibers, you know, you had very sharp improvement in operating performance, but the mix effect was negative 14? Can you shed some light about that?

Yes, selling more stuff that costs a little bit less.

I understand, that's by definition, but what was it that you sold that was less?

It's more related to flake and yarn.

Flake and yarn. Okay. Thank you very much.

And we go next to P.J. Juvekar with Citigroup.

Yes, hi. Good morning.

Good morning.

Good morning.

Brian, filter tow. You talked about [inaudible] of cigarettes and all that in Asia: What innings are we in in that growth story?

Oh. We have had had a little burst of growth there. The inning might be the wrong way, because innings, you know, baseball games end, and so maybe this is a cricket match, I'm not sure cricket matches ever end.

They go on for five days.

Yes, that's right! We've quoted the 3% kind of center line growth on this one, we think that Asia Pacific is a big chunk of that center line growth for the global, for the planet. So I kind of stick to my 3% growth story. But again, the word "chunky keeps on coming to mind here. Things happen in lurches, and we had a big volume year last year, won't be quite as big this year and obviously with the new JVs in China, it won't be quite as big.

But I think we have a long way -- I guess -- I'm stuttering a little bit to come up with you answer. I think we have a long way to go. We don't -- if I think about a decade, I don't see any interruption on this in this trajectory over a decade's time, and beyond a decade, I think there are two many things happening for me to guess.

Well, you know, China, if China is a growth area and your volumes declined in China, can you talk about that? That seems to be a little disconcerting.

That's not disconcerting. It's exactly what we knew was going to happen. We have a very good import share in China. And the rest of Asia is growing, by the way. Eastern Europe is growing. The rest -- this is a world growth number and if somebody takes a piece of it in one part, it's a zero sum gain, we spread it around to the rest of the world as necessary. So when we look at the supply picture versus the 3% growth picture, we do not -- we're not the least bit disconcerted on how things are unfolding, and of course, we are looking at our own Asian growth plans as well as European growth plans because of that global growth.

Okay. And then on coal: you said coal is a constant. If everyone shifts to coal gasification, there's more and more interest, coal prices move up, would that change the equation for you guys?

Yes, and that's anticipated. There are reasons for an arbitrage to exist between solid forms of hydrocarbon and liquid and gas forms of hydrocarbon. There are -- first of all, there's a big difference in the scarcity equation, and coal is not coal, there's all kinds. There are kinds with high sulfur and low sulfur, high ash, low ash. And the ability to use some pretty undesirable versions of this hydrocarbon is one of the things that advantages gasification. And that we anticipate is going to be on a significant arbitrage to other sources of hydrocarbon for a long time.

So we don't try to project the absolute values for something like coal, gas, or oil. We look at the difference between them, the arbitrage, the delta. And that is the basis for making some of our judgments, and we anticipate higher demands for coal and all of the related things to coal as part of our math, when we look out in the future.

So you're saying if oil prices, delta should be still be there that you can benefit off of?

Yes, and in fact we are looking at things like historical deltas, when there was not a scarcity of gas and oil, anticipating that the world could get to that kind of a balance again, and we kind of make our -- we're trying to be very responsible in our judgments here. This is not a fluffy, starry-eyed kind of a gaze that we take.

Okay. Thank you.

And next to Frank Dunau with Adage Capital.

Hi, guys. I've got a couple of questions. On the cash flow statement, the $20 million pension contribution, is that in the decrease in liabilities from employee benefits and incentives -- ?

Yes, that's in that same area, Frank.

And did you have anything in the first quarter there last year?

No, not any pension contribution.

So the remainder is the employee profit sharing and bonus, year-over-year comparison? If I'm looking --

Yes, what you look at there is the normal accrual of pension and other liabilities and of course in the first quarter is when we pay out the incentive plans.

Right. That's what I thought.

Yes, usually we're negative on cash. We generally can burn cash in the first couple of quarters and collect it in the last two.

I understand that, but basically, if you earn less this year, which I guess consensus is, [inaudible] the accruals -- whatever the quarterly accruals for all that should be a little lower this year?

That would be absolutely correct.

Okay. Then there is a little built-in cushion of some sort.

And you were talking about the adhesive problem and the raw material problem, going to Adhesives, do you know when your supplier's going to be able to supply you? Is there a time table there?

I'm a little uncertain on that because it's different for each one of them. You know what, if you want to just -- I'll let Greg get to back to you with some information on that, but I'd have to talk to our CASPI guys about what they know about that schedule. It's this year, I think.

And I'm not going to talk to you about share repurchase. That's like talking to my 9-year-old and 11-year-old. At a point in time you just don't -- I know you don't listen any more. [Laughter].

Well, what we want to do is make sure that whatever we do, first of all, it's transparent to you so that you get a choice in whether you want to stick around for the future or not. And we tell you what we're going to do in the context of all the choices that could possibly be bad. So that -- and we're going to tell you all that before we take actions. So we're trying to be just as up front as we possibly can on letting you make choices about, do you like this story, do you not like this story, do you want to stay in, do you want to not stay in, and you know, we see better ways to put money to work than buying back stock. And I've got to tell you, when I look at the history of people who are it back recently, I won't name the names, but, man, it hasn't been very exciting.

In terms of about the story, I guess we're waiting until November sometime to hear the next -- ?

Yes, I'm afraid -- it's kind of that fourth quarter time, afraid so. And that's more than likely after the third quarter is reported and hopefully before Thanksgiving. So you've got it about right.

So, basically, if I'm like my children and into instant gratification, I've got to wait?

Well, I'll let you pick the metaphors you want to use, but yes, I'm afraid so. We're not trying to tease you, we have a history of trying -- we want to establish a history and reinforce a history of saying what we're going to do and doing with a we said.

Okay. Thanks.

And I've got to just make sure that we're prepared to do what we say we're going to do.

Okay, thank you.

We'll go next to Gregg Goodnight with UBS.

Good morning, gentlemen. The Texas problem you eluded to, I assume was this cracker number 4 in Longview?

That's correct.

That's the same one that had a problem last November, and I guess again in March. My question is, are those problems related, and if so, do you have this thing solved and anticipate no future problems going forward?

They're unrelated. And we are very -- being very diligent in our turnarounds to make sure that we can make those as reliable as possible. It's unfortunate that they kind of strung together close to each other.

Okay. Second question. And I know you don't comment on price increases, but I hear there's a $0.04 May increase and potentially a June increase out there. You mentioned -- one of the issues that we're looking at is in the arbitrage that was a result of the hurricane last year attracted a lot of Asian imports. And you mentioned that the paraxylene, structurally, is more costly here in North America than in Asia.

My question to you is if these price increases are successful, are we going to set up another arbitrage situation that's going to act like a magnet for Asian imports again?

Yes, you've got a very sophisticated understanding of the dynamics. There's a limit to how far you can go before you create your own problems again. First of all, reinforcing this paraxylene situation is a tranchient -- for a lot of reasons we believe it's a tranchient. But it is there. And I really think it's kind of bad form for a CEO to comment on price increases for one of his business units, so I try to stay away from that.

But the dynamic that you're describing is the dynamic that has to be considered in how this all settles out. And it's the classic price versus volume equation that you have to decide in any business.

Okay.

You're right. That's one of the things you have to consider. And I'm not willing to comment on whether it goes through or not, because I just don't do that.

Okay, that's fine. The improvement in the PCI quarter over quarter from 19 to 41 million, there was an 11% price improvement and, I assume, other factors, including the outage. Could you help me bridge my understanding of why that magnitude of improvement?

Well, I'd say first of all, Gregg, the 11% that you're quoting is year-over-year, and if you look year-over-year, the number is actually a little lower depending upon what you do with the [SN] parent restructuring charges from the first quarter of 2005. If you look sequentially, certainly volumes are up and utilization is an important part of profitability, particularly for the PCI segment.

Were you looking sequentially or year-over-year? No, you're right. I was looking year-over-year, but sequentially is what I'm trying to understand. Okay. It's primarily volume driven. PCI is -- it's always tough to sell a lot of volume in the fourth quarter, because people are laying off to fix up their balance sheets at the end of the year, and a lot of their demands, they go into, like, building construction markets, things like that, that make all their stuff in the spring to sell their stuff in the summer. So it's very volume related.

So sequentially, would you quantify pricing?

I don't have that number, Gregg, and that's not a number that we give. We just usually give the year-over-year.

Okay. Thank you, gentlemen.

We go next to Nancy Traub with Credit Suisse.

Good morning.

Good morning.

Back on fibers. I wondered if you could kind of break down a little bit the volume increase. I know you mentioned about the increase in yarn with the exit of Celanese, and also flake -- increased flake demand. How much of that demand growth could you -- or maybe you'd just want to rank regular growth, the increase in flake, and increase in yarn in that volume?

The bigger contributors to that volume story are flake and yarn. I'm not sure on this quarter if I've got a ranking in mind, but generally yarn has been a nice turnaround story. That's been a big chunk of it. Flake has been as well.

Filter tow, as I mentioned, had a spurt of growth above the 3% straight line. We don't think that spurt of growth is going to stick with us because we anticipate 3% as kind of the straight line. So I don't think -- I think you look at flake and yarn as being the big horses on that. But we are running pretty hard on filter tow. So we've had some growth in filter tow, also, but I wouldn't put it at the front of the line there.

Now, when should we expect to see the yarn go back to a more normalized growth rate, and is the flake increase something that's temporary, too?

No, the yarn is going to stick where it is because there are only so many producers left in the world. And there are certain things like fashion uses and other uses that are still driving the yarn story. So I think it's relatively stable.

Flake, the attractiveness of flake is that there's not a lot of flake expansions going on the world and this location that we have where we rely primarily on coal as the input makes us very attractive as a flake producer. And that means that we get to choose how much of the flake we want to use in things like filter tow and whatever is available for others, then, is also attractive as a sale. So flake is one of those swing factors. As we grow our filter tow capacity, we will use that flake for our filter tow capacity. And, again, remember, I used the word chunky there, so the story I'm telling you now can flip a little bit from quarter to quarter.

And on the yarn, though. What part of 2005 did Celanese really exit the business?

I think it was the second half, Nancy.

Second half? Okay.

And how about wood pulp? We haven't talk about that, the availability and pricing there.

Yes, that's a good one. Wood pulp, they've had their own little bit of consolidation in their industry, one fewer player in North America. We have a very strong relationship here in North America with our suppliers. We have global suppliers that continue to be under development. We feel good about access to wood pulp due to both of those. Due to our relationship with current suppliers and the developments that are happening globally that will provide more of it in the future.

And the price trends there?

They've been up, but not in a way that's damaged the business, obviously.

And one more: You didn't really say much about polyethylene, but you mentioned about problems with the cracker and I just wondered how the polyethylene business did this quarter?

Yes, they actually did okay. They did pretty well, even with having to buy a lot of expensive ethylene. I think the industry -- you know, we don't color ourselves as polyethylene experts. The people who do color themselves as polyethylene experts say they're kind of at an ebb right now and I think the consensus is that the polyethylene business is going to get better later on this year, and so that's the view that we're holding on that. But even despite that situation, they did okay this quarter.

Thank you.

Let's make the next question the last one, please.

And that question will be from Rosemarie Morbelli with Ingalls and Snyder.

Good morning.

Good morning.

I guess I have a few questions left over on the PET side.

Okay.

Do you see some of the Asian inventories diminishing at this particular stage ?

We do and it should diminish. When we do our math, it's our conclusion that for them to stay in the market, they would have to sell below their cash costs. And if we thought that was happening, of course, we would be very upset about that and there would probably be some kind of action we'd have to take if we thought that they were doing that.

So when we do our math, we believe that they are -- first of all, the math that we see about the actual market tells us that they are departing, and when we do kind of basic financial math, we see that they should be departing. And so that's the view that we have.

So those price increases you won't comment upon nevertheless would not, given the recent cash cost of the Chinese, should not really affect the -- well, the imports, per se. Or would they? Would that be enough?

Well, that is the outstanding question I think that the industry has to wrestle with. Obviously, if I -- just took an extreme, if they decided to raise the prices $0.15, then you would create a window for Asian imports again. If they raised it zero cents, then we believe that it would be hard for the Asians to stick around again. They'd be below their cash cost. Now, all the rest of the math that plays out between that is something that the business organizations are going to have to decide, you know, where do they settle out on this and it's just really not a good idea for me to comment further on that.

And on the raw material cost differentials, the price of oil is going up, I understand that, the impact on Asian and actually even European has been slower in coming. But are they getting higher costs as well and is that differential gap kind of beginning to diminish?

Yes. This is not about just inertia, it's about the equivalent uses of paraxylene in the two regions. The equivalent use for paraxylene in North America is to increase the octane value of gasoline and in our particular market in North America, MTBE -- I think that's methyl tertiary butyl ether -- is being removed from the gasoline pool for environmental reasons. And to create the octane, they're using paraxylene equivalents, xylenes, to try to provide that octane. They're in a transition from one oxygenate to another.

In Asia, the alternative value for paraxylene is more related to naphtha, which is a cracking feedstock. So it has something to do with that.

Now, over time that tranchient moves out over time, meaning, we think, this year, it moves out and there is a global normalization of paraxylene. But it has to do with the alternative values more than it has to do with just the pace of things catching up.

Okay. And then, when do you stop selling your IntegRex capacity? I mean, I understand that it will be available in the first quarter, but do you start peddling it, if you forgive the expression, in the third or in the fourth quarter?

We're producing commercial quantities now that are just being evaluated by our customers, and by the way, we're getting -- even this morning, early, I saw some great reviews from our customers on this. We are saying that we will be selling first quarter, basically, January 1 of '07 we'll be out there running at a pretty high rate. Before that, we're not really -- I'm going to stick with the January 1st.

And if I really get a good feel as to the kind of [field] that you are, I am assuming that you are not planning in cutting price just to get the volume out? That doesn't seem to be the style you have been running Eastman recently.

We don't -- we're going to be base loading this plant, of course, it being our lowest cost plant, and no, we don't think we have to buy market share. We think we have other mechanisms available to us.

And last question, do you see a possible -- outside of Europe. I understand your comments about integrating all of your your operations. Do you see otherwise a possible consolidation of the PET industry, or it is just going to be one small line out replaced by a more efficient one?

You know, I don't pretend to be able to speak for what an industry is going to do. Again, this is probably a fourth quarter conversation about how the world might play out. I think I'd like to just save that question for another time.

Okay. Thank you.

And with that, Mr. Riddle, I'd like to turn the conference back over to you for any closing remarks.

Okay. Thanks again, everyone, for joining us this morning. An audio replay of this conference call will be available this afternoon through Friday, May 5. Again, thank you for joining us this morning.

And ladies and gentlemen, that does conclude the Eastman Chemical Company first quarter earnings conference call. We do appreciate your participation, and you may disconnect at this time.