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Chemical Earnings Show Strong Rise

But year-to-year fourth-quarter performance masks slowing of growth as 2006 ended

by William J. Storck
February 26, 2007 | A version of this story appeared in Volume 85, Issue 9

The U.S. chemical industry posted good sales and earnings growth in the last three months of 2006. C&EN's quarterly survey of the major U.S. chemical companies shows that sales at 23 firms rose 7.3% from the 2005 fourth quarter to $47.9 billion and produced a 23.7% increase in earnings from continuing operations, excluding significant nonrecurring and extraordinary items, to $3.12 billion. The aggregate profit margin for the group rose to 6.5% from 5.6% a year earlier.

For all of 2006, earnings at the 23 companies rose just 9.2% to $14.3 billion on a sales increase of 7.1% to $192.3 billion. Profitability increased to 7.4% from 7.2% in 2005.

The quarterly results appear strong when compared with the considerably weak 2005 fourth quarter, when U.S. production was still being affected by the aftermath of Hurricanes Katrina and Rita, which shut down plants and transportation infrastructure on the Gulf Coast. In fact, some important measures such as prices, production, and shipments actually point to fairly slow growth as the year came to a close.

When compared with previous 2006 quarters, the fourth-quarter results show a definite slowing for the chemical industry. Sales at the same 23 companies rose 1.4% from the second to the third quarter, but they fell 1.3% from the third to the fourth. Earnings fared even worse over the final two quarters, dropping 15.5% from the second quarter to the third and a further 3.2% from the third to the fourth.

The aggregate profit margin for the 23 firms declined from 7.9% in the second quarter to 6.8% in the third and to 6.6% in the fourth. These results contradict the standard industry rule that the third quarter is the weakest in the year as companies use that time to perform maintenance on their plants.

The slowdown also is apparent in government economic data. Commerce Department figures show that, year-to-year, the total value of U.S. chemical shipments increased 0.6% in the fourth quarter to $141.3 billion. They were, however, down 4.1% from the third quarter, which was up just 0.4% from the April-to-June period.

Shipments of chemicals excluding pharmaceuticals, which for the most part are the products made by the companies in the survey, show a longer term slowdown. Year-to-year, the quarterly data show growth in the first, second, and third quarters of 2006—5.3%, 4.6%, and 3.2%, respectively—but a decline of 2.1% in the last, giving a fourth-quarter shipment value of $103.5 billion.

The slowdown is evident also when shipments are compared with those in the previous quarter: a 0.6% increase in the first quarter, followed by a 0.1% rise in the second, then 0.9% in the third, and finally a decline of 3.7% in the fourth quarter.

Production for the fourth quarter was good compared with the same period the year before. Total chemical output, based on data from the Federal Reserve Board, rose 4.1% to an index of 110.1 (2002 = 100); however, this index was down 1.7% from that of third-quarter 2006.

Production of basic chemicals, the largest chemical sector, rose 13.1% over the previous fourth quarter to an average 116.0, but fourth-quarter 2005 production was down 11.4% from that of 2004 because of the hurricanes. Fourth-quarter production was down 0.2% from the previous quarter.

Prices continued to increase in the quarter but not at the pace that they had been rising. The producer price index for all chemicals increased 2.6% over that of fourth-quarter 2005 to 207.0 (1982 = 100), a considerable slowdown from the 9.1% rise in the third quarter.

Prices for basic chemicals did better; the index rose to 213.9 or 4.4% over that of the year-earlier period. But this increase is nowhere near the 17.1% jump in the price index in the third quarter.

Only two companies, Arch Chemicals and Chemtura, posted losses in the quarter. Arch showed a loss of $3.8 million, compared with a loss of $3.2 million in 2005, on sales growth of 13.5% to $316 million. Chemtura's loss totaled $3.3 million as sales declined 0.3% to $874 million. Its fourth-quarter 2005 earnings were $8.6 million.

The descent into losses at these two companies was offset by two firms coming out of losses for 2005. Stepan reported fourth-quarter earnings of $0.7 million, compared with a loss of $0.4 million in the 2005 period. Its sales increased 6.7% to $288 million. And fourth-quarter earnings at fertilizer producer Terra Industries totaled $11.6 million, compared with a loss of $15.1 million in the 2005 quarter. Its sales dropped 12.4% to $450 million.

Besides the two companies that went into negative territory, only one other, Dow Chemical, posted an earnings decline for the quarter, and that was just 3.9% to $954 million. The decline in earnings came despite a 2.7% increase in sales to $12.2 billion. Thus, the company's profit margin declined to 7.8% from 8.3% in the comparable 2005 quarter.

Industry leader Dow reports that fourth-quarter volume was up 2.0% from that of 2005, "as solid growth in the performance segments and in basic plastics more than offset declines in basic chemicals and hydrocarbons and energy." The company also says strong demand outside North America, most notably in the Asia-Pacific region, more than offset continued weakness in both Canada and the U.S. Dow says its building solutions and automotive businesses were affected by slowdowns in North American housing and auto markets.

DuPont, the second largest company in the sample, reported the largest earnings growth among the 23 firms. Earnings rose 235% to $422 million on a 7.7% increase in sales to $6.28 billion. These results produced a profit margin for the company of 6.7%, up from only 2.2% in fourth-quarter 2005.

DuPont notes that the fourth-quarter improvement reflects 8.0% higher sales, flat fixed costs, significantly improved operating results in the agriculture and nutrition business and performance materials, and recovery from the fourth-quarter 2005 impact of Hurricanes Katrina and Rita.

Meanwhile, at carbon black maker Cabot, earnings more than doubled, rising 146% to $54.0 million as sales increased 11.6% to $655 million. Chief Executive Officer Kennett F. Burnes says the strong results "were driven in part by our continued attention to manufacturing efficiency, cost minimization, and profitable growth in emerging markets. In addition, for the first time in nearly two years, we experienced relief from carbon black feedstock costs."

Burnes adds that Cabot's fumed silica product line saw significant volume growth, high plant utilization, and lower manufacturing costs due to an expansion in China. Cabot's profit margin for the quarter rose to 8.2% from 3.7%.

At Albemarle, earnings increased 85.3% to $63.0 million despite a 0.6% decline in sales to $585 million. Profitability increased to 10.8% from 5.8%. "We delivered a terrific fourth quarter, with strong underlying performance in each of our business segments," says CEO Mark C. Rohr. "I believe that 2006 provides a solid platform for us to further grow Albemarle in a way that delivers value for our customers and our shareholders throughout 2007 and beyond."

Although just three companies saw earnings declines or losses in the fourth quarter, for the full year, six suffered drops in earnings but none with losses. The largest drop was Terra Industries' 81.0% decline to $4.2 million as sales fell 5.3% to $1.84 billion. This was followed by a 35.9% drop in earnings at Chemtura to $92.1 million as sales slipped 4.5% to $3.72 billion.

The earnings growth leader for the full year was Nalco Holding, with a 75.0% increase to $124 million. Sales at the company rose 8.8% to $3.60 billion. CEO William H. Joyce is not complacent, saying, "Although we believe that the most rapid cost increases are behind us, we continued to face cost pressures through the fourth quarter and expect somewhat higher year-on-year costs in 2007." But, he says, "as we move through the year, we expect these pressures to slow."

John P. Jones III, CEO of industrial gas company Air Products & Chemicals, joins Joyce in showing some optimism for 2007. At Air Products, which is now in the second quarter of its fiscal year, "We're off to a great start and are on our way to having another strong performance in fiscal 2007," Jones says. "Our leading market positions, along with our productivity-focused infrastructure investments, position us to deliver continued growth. We are therefore increasing our earnings-per-share guidance to a range of $3.98 to $4.10, representing 14-17% year-on-year earnings growth."

Similarly, Praxair expects year-to-year sales growth of 8-10% and earnings per share of $3.30 to $3.45, representing 10-15% growth from 2006.

Rohm and Haas is also optimistic for 2007, although it carefully predicates predictions of its future on a number of economic assumptions. Among these are that global gross domestic product growth for 2007 is about 3%; that electronic materials markets continue to grow, although at a slower rate than in 2006; that the momentum the company saw in the chemicals businesses in 2006 continues throughout 2007, with the strongest growth in emerging markets; that monomer pricing continues to moderate; that the U.S. dollar will be slightly weaker against the euro and the yen; and that raw material and energy costs will remain volatile and at historically high levels.

"Given these assumptions," says CEO Raj L. Gupta, "we expect full-year 2007 sales to be in the $8.7 billion to $8.9 billion range, with earnings in the range of $3.40 to $3.60 per share." If so, sales growth would be 6-8%. In 2006, the company had earnings per share of $3.49.

Meanwhile, forecasting modest volume gains, DuPont says it expects continued growth outside the U.S. to outweigh slower growth in U.S. housing and auto markets. The company expects volatility in energy and ingredient costs to continue, but it assumes average costs for the full year to be about equal to 2006's. The company has a 2007 productivity savings goal of more than $400 million to offset inflation and to contribute to spending for growth projects. It will continue to adjust capital and resource allocations among its businesses to further enhance return on invested capital.

And at Dow, CEO Andrew N. Liveris says, "The global economy remains strong, and as we begin 2007, feedstock and energy costs are trending lower, creating a positive macroeconomic backdrop that should help ensure healthy demand for our products and generate solid results through the year ahead."

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