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Executives

Carol Oden – Investor Relations

Jack Golsen – Chairman and CEO

Barry Golsen – President and COO

Tony Shelby – Chief Financial Officer

Analysts

Michael Coleman – Sterne, Agee

Brian Kremer – Roth Capital

Dan Mannes – Avondale Partners

Ryan Wright – Northland Securities

Joe Mondillo – Sidoti & Company

David Kaizer – Robotti & Company

LSB Industries Inc. (LXU) Q1 2010 Earnings Call May 6, 2010 5:15 PM ET

Operator

Good day, everyone. And welcome to LSB Industries First Quarter 2010 Conference Call. At this time, I would like to inform you that this conference is being recorded and that all participants are currently in a listen-only mode.

I will now turn the conference over to Ms. Carol Oden. Ma’am, please go ahead.

Carol Oden

Thank you, Joe. Again, we would like to welcome you to the LSB Industries, Inc. First Quarter 2010 Conference Call. Today LSB’s management participants are Jack Golsen, Chairman and Chief Executive Officer; Barry Golsen, President and Chief Operating Officer; and Tony Shelby, our Chief Financial Officer.

This conference call is being broadcast live over the internet and is also being recorded. An archive of the webcast will be available shortly after the call on our website at www.lsb-okc.com. After comments by management a question-and-answer session will be held. Instructions for asking questions will be provided at that time.

Information reported on this call speaks only as of today, May 6, 2010, and therefore, you are advised that time-sensitive information may no longer be accurate as of the time of any replay.

After the question-and-answer time, I will have some important comments and disclaimers about forward-looking statements and our references to EBITDA. We suggest that you stay on the call long enough to hear them.

Now I turn the conference call over to Mr. Jack Golsen.

Jack Golsen

Thank you for joining our conference call today. Results for the first quarter 2010 were disappointing but were not unexpected. Our core companies achieved modest results in the face of very difficult market conditions.

However, as we have pointed out in our news release today, the delays in ramping up production at our reactivated Pryor, Oklahoma plant resulted in $6 million of expenses and costs further exacerbating the drop in profits that occurred.

The numbers speak for themselves and further into this conference call, Tony Shelby, our CFO; and Barry Golsen, our President, will give you the details about both our Climate Control and Chemical businesses.

Fortunately, I can tell you that in April of this year, which has just passed, new order intake in our Climate Control business has picked up and our geothermal heat pump business is beginning to grow again in the face of the current market. The growth is predominantly in the residential market.

Also, the Chemical businesses agricultural business, which was delayed in the first quarter because of unusual weather is strong. And going forward, the Pryor plant is producing enough anhydrous ammonia and UAN substantially reduce its losses. Although it is not yet producing at targeted levels, the Pryor plant represents a significant growth opportunity for our Chemical business.

Now for some news that you may have missed during the first quarter. Our El Dorado Chemical company signed two significant agreements. One was an agreement with Koch Nitrogen to supply anhydrous ammonia to our El Dorado plant for the year 2012.

The second agreement was for El Dorado to supply 250,000 tons per year of low-density ammonium nitrate for five years to Orica. This was an increase from 210,000 tons per year in the previous agreement with Orica.

At this time, despite early signs of a general economic recovery, we remain cautious about the outlook in our markets for the remainder of 2010.

Before closing, we’d like to point you to the Letter of Intent Disclosure in the Management Discussion of our 10-Q. We have entered into a Letter of Intent in connection with the possible acquisition by us of an air conditioning and heating manufacturer located in China.

The acquisition is subject to among other things, the completion of our due diligence and execution of definitive agreements. The dimensions of the proposed deal are discussed in the Form 10-Q. If we acquire the company, our objective is to establish a platform to grow in the China market, which is now large and is expected to be huge in the future.

Now for the details on the first quarter. I’ll turn this meeting over to Tony Shelby.

Tony Shelby

Thank you, Jack, and good afternoon. As shown in our earnings announcement made shortly after the market closed this afternoon, the financial results for the first quarter of 2010, compared to the first quarter of 2009 included. Sales $130 million, compared to $150 million, operating income $4.4 million, compared to $19.4 million after Pryor facility costs of $6 million in 2010 and $2 million in 2009.

Net income $1.7 million, compared to $11.7 million, diluted earnings per share $0.07, compared to $0.51, consolidated EBITDA, $8.8 million, compared to $24.8 million. Consolidated EBITDA for the trailing 12 months at March 31, 2010 was $43.3 million.

Sales, Climate Control sales were $53.7 million or 26% lower than 2009, primarily due to lower demand in our key markets for heat pumps and fan coils. Chemical sales were $74.9 million or approximately the same as 2009, although the sales mix by product was significantly different.

Agricultural and mining sales, in terms of tons shipped were lower and industrial tons shipped were higher. Although mining tons shipped were lower, the actual dollars were higher as a result of billings to our largest mining customer for tons not taken on the taker pay commitments.

Operating income, as mentioned, consolidated operating income for the first quarter decreased to $19.4 million in ‘09 to $4.4 million in 2010. The obvious question is why did our operating income decline $15 million or $20 million decline in sales. This disproportionate decline in operating income versus sales is for the most part attributable to our Chemical business.

Chemical segment income was $10.8 million lower than the same period last year due to a number of identifiable differences and variances as follows. $3.4 million lower gross profit as a result of lower sales of agricultural ammonium nitrate due to a late start of the fertilizer season and much higher anhydrous ammonia raw material feedstock costs in 2010. $2.1 million lower gains this year from the recovery of precious metals used in our production process.

2009 margins on firm sales commitment were 1.7 higher than those in 2010. The sales commitments are -- that we’re referring to are those that were contracted at earlier dates and at higher prices. The Pryor facility start-up expenses and costs of $6 million in 2010 compared to $2 million in ‘09. Those, along with certain other offsetting variances which we disclosed separately in our earnings announcement and in the 10-Q.

Climate Control segment operating income on the other hand, was lower as a percent of sales primarily due to higher fixed costs on lower sales volumes and increased spending on sales and marketing programs.

Below the operating line, interest expense was $2.1 million for 2010, compared to [last year] ‘09, including net losses on interest rate hedge contracts of $600,000 in 2010, compared to $269,000 in ‘09.

The 2009 first quarter included $1.3 million pre-tax gain from extinguishment of debt as a result of the repurchase of our 2007 debentures.

The tax provision was 34.7% of pre-tax income for 2010, compared to 38.5% for ‘09. The lower effective tax rate in 2009 includes a domestic manufacturing deduction and 48C Advanced Energy Tax Credits.

Focusing on liquidity and capital resources, the cash used by operations for the first quarter of 2010 was $8.2 million, which included seasonal increases of $11 million in cash receivables and $10 million in inventories.

After investing in financing activities, including capital expenditures and payments of long-term debt, the net total cash used for the quarter was $16.7 million. At March 31st, our cash on hand totaled $65 million, which included short-term CDs of $10 million. Our borrowing availability under our $50 million working capital revolver was $49.2 million.

Our current liquidity and capital resources reflect a sound financial position. At March 31, 2010, our long-term debt, including the current portion was $105 million and stockholders equity was $152 million.

The ratio of long-term debt to stockholders equity was approximately 0.69 to 1. Based upon our present financial position and our outlook, we have adequate working capital to finance the ongoing operations, as well as organic growth opportunities.

We had total capital expenditures of $9 million, including $4.6 million for our Climate Control business, including and pretty much exclusively as a result of the exercise of a purchase option and related financing on a portion of the ClimateMaster facility.

$4.4 million capital expenditure of our Chemical business, which included $1.2 million for the Pryor plant. At March 31st, our Chemical business committed capital expenditures of -- had committed capital expenditures of $4.2 million, which includes $800,000 for the Pryor facility.

That concludes the financial review. Barry will cover operational highlights and the outlook for the company.

Barry Golsen

Thanks, Tony. Because we have two separate businesses, I will discuss them separately. First, let’s discuss take the Climate Control business. As Tony mentioned, our total Climate Control business sales during the first quarter of 2010 were lower than the first quarter of last year by 26%.

Sales to commercial and institutional customers were 76% of our business during the first quarter and were down 28% from the first quarter of 2009. Sales of our products used in single-family residences, all geothermal heat pumps were the remaining 24% of our first quarter sales and were down 15% from the same period last year.

Focusing on major product lines, total heat pump sales were down 27%, fan coil sales were down 46% and sales of other products and services were up 18%.

Sales of our fan coil products have been the most severely impacted because of the decline in both the lodging and multi-family residential construction sectors. In 2008, before their decline, these two markets accounted for 62% of total fan coil sales.

Total new product orders during the first quarter were $54.2 million, a slight 1.3% decrease compared to the first quarter of 2009. However, I am pleased to report that new orders were up 10.5% sequentially over the fourth quarter of 2009.

New orders of products for commercial and institutional applications were down 8%, compared to the same quarter last year, while new orders of our geothermal heat pumps that are used in single-family residences were up 30%.

At March 31st, we had a backlog of product orders of $36 million. This was up from $32 million at December 31, 2009, but down from $57 million at March 31, 09. April 2010 new product orders totaled $23 million and our backlog at the end of the month was $42.4 million. As of the end of the first quarter, we continue to maintain leading market shares for geothermal and water source heat pumps and for hydronic fan coils.

Our gross profit during the first quarter of 2010 was $18.4 million or 34.3% of sales, down from $22.4 million or 31.1% of sales for the same period in 2009. The reduction in gross profit was a result of lower sales and the increase in gross margin percent was due primarily to favorable product mix, partially offset by lower factory overhead absorption

Our segment operating profit during the first quarter was $5.5 million, compared to $9 million in the 2009 first quarter, as a result of the lower gross profit that I just discussed.

At this point, the big question is what does the future hold? One source, the latest McGraw-Hill Construction Research & Analytics Construction Market Forecasting Service, forecasts that new contract awards in 2010 will be approximately 3% lower than 2009 awards for the specific commercial and industrial building types that accounted for approximately 64% of our total Climate Control business sales in 2009.

McGraw-Hill also forecasts that this will be followed by year-over-year increases of 18%, 31% and 27% in 2011, ‘12 and ‘13, respectively, for those sectors in the aggregate. Keep in mind that contract awards occur several months before we actually receive orders for and ship the products that we produce.

During 2009, construction contract awards for the commercial sectors we serve declined approximately 39%. Accordingly, we expect our new orders in sales for commercial products for the full year, let me repeat that, commercial products for the full year to be lower than 2009. This is consistent with economic forecasts that predict the commercial construction sector will be one of the last to feel the effects of an economic recovery.

On a more positive note, residential contract awards are forecast by McGraw-Hill to increase 29% this year. Also, in residential construction, the lead time between contract award and shipments of our products is much shorter.

In addition to McGraw-Hill’s statistics, we also look at the Architectural Billing Index, which is an indicator of future commercial and institutional construction activity nine to 12 months in the future.

On the heels of a more than 2 point gain in February to 44.8, the ABI was up again in March to 46.1. Although this score continues to indicate decline in demand for design services, it’s the highest score since August 2008. Separately, the new projects inquiry index was 58.5%, which indicates growth.

Moving on to residential geothermal heat pumps or GHPs, as we refer to them. As discussed earlier, our sales of GHPs were down approximately 15% in the first quarter of 2010, compared to the first quarter of 2009, while new orders were up 30%, compared to last year’s first quarter.

Putting this into perspective, shipments were low as compared to the first quarter of last year in part because in the first quarter of 2009, we were still shipping some very large orders for stock. We received those orders from our distributors while our delivery lead times were extended due to production bottlenecks that we have since eliminated.

Also, during the first quarter of 2010, this year, we had one of the worst series of winter storms in memory, which impacted our first quarter GHP shipments. We are encouraged by the increase in new residential GHP orders in the first quarter and also that new orders in April were up 40% over April of 2009. Year to date, new orders as of the end of April were -- 33% higher than the same period last year.

We look forward to a rebound in residential new construction during 2010 based on McGraw-Hill’s forecast of a 29% increase of residential contract awards this year, followed by increases of 50% in 2011 and 42% in 2012.

To meet this demand, we’ve significantly increased our GHP sales and marketing organization, launched a national media campaign and implemented a new consumer website aimed at educating potential GHP buyers and getting them in touch with a dealer near them.

Returning to the total Climate Control business, despite the fact that our current sales are soft, we are very optimistic about the future. Throughout this downturn, we have continued to do the things that we believe will build this business for the long-term, such as increasing our overall sales and marketing team, investing in new front-end systems to enhance customer service and sales support, introducing new products, increasing plant capacity, capital investments aimed at cost reductions to make us more vertically integrated and a low-cost manufacturer. We believe these will put us in strong -- in a strong competitive position as the market rebounds.

Turning to our Chemical business, for the first quarter of 2010, as Tony reported, total sales of our Chemical products were slightly above the first quarter of 2009. Sales of our industrial and mining products were up, while sales of our agricultural products were down.

Gross profit and operating income were both down as compared to the first quarter of 2009 for all the reasons that Tony pointed our earlier and I won’t repeat again at this time.

Focusing on the agricultural part of our Chemical business, during the first quarter, total ag product sales were $24.5 million, 25% lower than the first quarter of 2009. Total ag product tons shipped were 14% lower than the first quarter of 2009.

I will explain what happened in both urea ammonium nitrate, UAN and ammonium nitrate, AN, separately. But first, the public -- published market prices that I’ll refer to are indicators of the regional market pricing at Southern Plains price point for our products but are not necessarily our actual net back sales prices.

During the first quarter, our shipped tonnage of UAN fertilizer from our Cherokee, Alabama plant was approximately 42% higher than that shipped in the first quarter of 2009. Revenues from these sales only increased 12%, reflecting lower sales prices per ton this year.

Turning to ag-grade ammonium nitrate or AN, our first quarter 2010 revenues were lower than the first quarter of 2009 by 40%, as a result of 39% lower tons shipped. During the first quarter of 2010, the published sales prices for AN were very similar to the first quarter of 2009.

Our agricultural product sales volume in the first quarter was lower than we expected as a result of a late start to the spring season. This was caused by cold and wet weather conditions.

However, recently, conditions have improved and the current demand is very strong. Sales for the balance of the season will depend to a large degree on weather conditions.

The price of anhydrous ammonia, the raw material feedstock for our El Dorado facility as quoted at the Tampa price point, averaged $381 per metric ton during the first quarter compared to $212 per ton in the first quarter of 2009. Today’s Tampa price is approximately $410 per metric ton. We remain bullish about the long-term demand for the agricultural products we produce.

Turning to our industrial chemical products, during the first quarter our industrial product sales were $31 million, up 23% quarter-over-quarter. However, tons shipped were up 44%.

The reduction of revenue per ton was due primarily to a 20% reduction of sales prices for products produced at the Baytown facility as a result of decreased fixed expenses under the 2009 agreement with Bayer. The expenses are a pass-through component to Bayer. We believe that, in the long run, there’ll be steady requirements for our industrial assets and we are seeing increased demand as the economy improves.

During the first quarter, our mining product sales were $19.3 million up 17%, compared to 2009’s first quarter. Tons shipped were down 14%. The disproportionate increase of sales dollars versus lower tons was due to billings to our largest mining customer for tons not taken, plus high raw -- higher raw material input costs on tons shipped. The billing for tons not taken was pursuant to our taker pay agreement with that customer.

Most of our chemical businesses, industrial and mining sales are pursuant to cost plus arrangements with our customers, assuming -- with our customers assuming the raw material cost fluctuation risk, eliminating much of the risk of a disconnect between raw material costs and the market prices for our products.

During 2009, approximately 77% of our industrial and mining products were sold pursuant to agreements that either have minimum purchase requirements or fixed total contract profit, irrespective of volume taken by our customer. To that extent, we’re somewhat insulated from a potential downturn in demand for our industrial products.

Focusing on the Pryor facility, we know that many of you are following this closely so I’ll try to give you a thorough update. As Jack reported, we have made significant progress. The Pryor facility is currently producing and selling enough anhydrous ammonia and UAN to substantially reduce losses.

Start-up delays were primarily a result -- the result of unanticipated equipment issues that were discovered after we began the start-up process, excuse me. Some of these were due to vendor deficiencies and some were just not possible to foresee until we activated the plant.

So when equipment issues arose, in some cases we encountered significant vendor lead times. We believe that, generally these issues are behind us. As with any chemical plant from time-to-time, we’ll have unexpected mechanical problems arise and we’ll address those as they occur.

Considering the delay cost and additional capital equipment required, our current estimates of the total cost to date to reactive Pryor are approximately $36 million, $11 million capitalized and $25 million start-up expenses that were expensed off as incurred.

Our primary rational for reopening Pryor was the change in the nitrogen fertilizer industry in the United States over the past several years, coupled with the long-term favorable outlook for fertilizer products. Today we believe those reasons are still valid and the long-term outlook is even stronger.

Taking all this into consideration, if we knew before we started the Pryor project that it would cost $36 million, would we have undertaken it? Yes. We will complete Pryor for a fraction of the cost of a comparable new plant. We believe that Pryor is a valuable asset that will contribute to earnings for many years to come. We also believe our partnership with Koch on this project will facilitate the growth of this business for LSB.

Before moving onto your questions, I want to mention one more thing and that is that Tony and I will be addressing institutional investors at the Sterne, Agee Best Ideas Conference in Chicago next week on May 12th. Is that the right, excuse me, is that the right date, is it the 12th or the 11th?

Tony Shelby

Tuesday.

Barry Golsen

It’s Tuesday, whatever Tuesday is next week. We’ll now take your questions.

Question-and-Answer Session

Operator

(Operator instructions) Your first question comes from Michael Coleman with Sterne, Agee. Sir, please state your question.

Michael Coleman – Sterne, Agee

Good afternoon. I was wondering if you could just go into a little more detail on this Letter of Intent. What type of product, this is for the local market, obviously, it’s a big market with a lot of growth potential. What do you view in terms of margins similar to your existing Climate Control business? Anything you might have with respect to that opportunity?

Barry Golsen

Well, all I can say about the opportunity is that it produces, the business produces an array of products, but one of the primary products that it produces is the geothermal product. And that we for quite a while believed that the only way to really access the China market is to be on the ground in China.

We’ve looked at various opportunities and we’re continuing to look at this one. I really can’t say anymore. I’m really restricted by what we have included in the 10-Q. And at this time, I would really not want to prognosticate on any margins or anything like that. We’re still under the due diligence process and it’s still speculative as to whether this will actually occur or not.

Tony Shelby

And Michael, as you’ll notice in there, it’s a very small company and it’s referred to in this conference call as a platform in China.

Barry Golsen

And if we actually go forward and proceed with it then there’ll be more color on it at the time and we’ll update you as it’s appropriate to do that and I just can’t really -- I can’t really talk about it anymore right now.

Michael Coleman – Sterne, Agee

Okay. Okay. That’s fine. Just one question on the geothermal, you’ve already gone over the orders and so forth for April. But relative to, say, a year or ago or so, are you seeing and maybe you would know this from your sales people in the field. But is the lead time for a consumer ordering a geothermal product or interested in geothermal product, has it shortened in terms of the availability of installers and contractors and so forth?

Barry Golsen

Let me repeat the question to make sure that I’m understanding? You’re wanting to know, if a customer wants a geothermal heat pump, is getting an installer and getting it installed, that availability, because that shorter now than it was a year ago?

Michael Coleman – Sterne, Agee

That’s correct. In general.

Barry Golsen

I would say yeah, probably. But that’s anecdotal, just from conversations and I would say it’s market sensitive. Some markets yeah, some markets no, but generally, probably yeah.

Michael Coleman – Sterne, Agee

Do you have a sense of whether it’s a week or two weeks or how long…

Barry Golsen

I really can’t give you that. It really, it’s on a contractor-by-contractor basis.

Michael Coleman – Sterne, Agee

Okay. Just one question on the Chemical business. To what extent, if any, does the early planting benefit fertilizer sales?

Jack Golsen

We’re past the early planting stage, Mike. We missed the early planting stage this year the first quarter.

Michael Coleman – Sterne, Agee

Okay. So the early planting in, I guess, going on now that it’s significantly ahead of a five-year average. Does that help fertilizer sales?

Jack Golsen

Well, it makes it more frantic when the market does start. When the weather turns positive for planting all hell breaks loose.

Tony Shelby

One thing you’ve got to keep in mind, Michael, there is a lot of the early planting takes, for the most part, anhydrous ammonia for the nitrogen and that’s not really the, our focus is more on UAN, which comes later than AN.

Jack Golsen

If they miss the market -- if they miss the time and year to apply ammonia, the next product they use is UAN, if it’s later in the year.

Michael Coleman – Sterne, Agee

Okay. Thank you.

Barry Golsen

Thanks.

Operator

Our next question comes from Brian Kremer with Roth Capital. Sir, please state your question.

Jack Golsen

Would you repeat that name please?

Brian Kremer – Roth Capital

It’s Brian Kremer at Roth.

Jack Golsen

Yeah.

Brian Kremer – Roth Capital

Hi, guys.

Barry Golsen

Hi, Brian. How’s it going?

Brian Kremer – Roth Capital

It’s going pretty well. Thanks. The Pryor plant, you guys were running at about $1 million a month in start-up costs?

Barry Golsen

Let me correct that.

Brian Kremer – Roth Capital

Okay.

Barry Golsen

What we have said is that we were running at $1.6 million of costs plus the cost of raw materials…

Brian Kremer – Roth Capital

Raw materials.

Barry Golsen

… that was return.

Brian Kremer – Roth Capital

Okay. What do you see in terms of, it sounds like it’s transitioning now to more of an operational phase, those costs being on a quarterly or monthly or what can you say about that now?

Barry Golsen

Well.

Jack Golsen

I’ll take that. What we can say is that we’re now absorbing some of that cost that we weren’t absorbing before because we’re producing, but not to the quantities that we targeted.

But if we were producing at the targeted quantities, we’d be making substantial profits today but we are not quite doing that. So at this point, I would say we’re virtually covering our costs.

Brian Kremer – Roth Capital

Okay.

Barry Golsen

In other words, I think, if you were going to ask what the cost would be on a going-forward basis, to look at it another way. The cost will be roughly the same -- the same staff, the same overhead, et cetera. The difference will be that it will be generating revenues to cover those costs.

Brian Kremer – Roth Capital

Sure.

Barry Golsen

Whereas historically we haven’t generated the revenues.

Brian Kremer – Roth Capital

Sure. Got it. No. That makes sense. And I’m assuming you guys aren’t prepared at this point to give a timeframe of when you expect this to be running at full output, month, two months, you know?

Jack Golsen

Well, there are some days it runs full, but some days it doesn’t and as unforeseen problems develop and they’re usually pretty small, but they’re -- they cause you to shut it down and have to start it up all over again to make the repair, whatever that is. And it’s usually valves or small things that fail when we start production. So we can’t anticipate what those are because from, unless you’re running, you can’t find a problem. You only find a problem when you’re running.

Tony Shelby

Brian, I would also refer you to the language we’ve got in the 10-Q where we say that we have not run UAN on a sustained basis.

Barry Golsen

Right.

Brian Kremer – Roth Capital

Right. Okay. But again, you don’t know if it’s a two-week process or a month or two months to really get all the kicks out, the final kick.

Tony Shelby

We’re going to continue with our position that it is, when we get there on a sustained basis, we’re going to make a press release…

Brian Kremer – Roth Capital

Right.

Tony Shelby

… because it’s a little indefinite now.

Brian Kremer – Roth Capital

Sure. Okay.

Tony Shelby

But we’re -- we feel like we’re getting close.

Brian Kremer – Roth Capital

Okay. On the industrial side, Chemical side, significant improvement year-over-year. Is that sustainable or I assume you’re going to see increases -- will continue to see improvements here but 40% year-over-year, I’d assume maybe not to that degree or what?

Barry Golsen

Yeah. It’s just, we’re just -- we just don’t like to give guidance on what the future might be. We’ve always taken that position. I don’t think we are going to break from that tradition right now.

Brian Kremer – Roth Capital

But

Tony Shelby

And I think Jack sort of laid it out when he said we’re seeing some improvements in the overall economy but we’re going to remain cautious.

Brian Kremer – Roth Capital

Sure. Okay. Can you, that 44%. Can you comment on that, where it came from, what the difference was this year versus last since it’s already happened, it’s in the past now?

Barry Golsen

Yeah. We can talk about that. We can talk about what’s happened. The 44% was, you’re talking about in industrial chemicals…

Brian Kremer – Roth Capital

Yeah.

Barry Golsen

What you’re referring to?

Brian Kremer – Roth Capital

Yeah.

Barry Golsen

Okay. Well…

Jack Golsen

Let see.

Barry Golsen

Let’s see.

Jack Golsen

We break it down.

Brian Kremer – Roth Capital

I mean, I’m assuming, were there -- there weren’t any one-time items in there?

Barry Golsen

No, no, no. I’m looking that, we’re looking at some…

Brian Kremer – Roth Capital

Greater demand.

Barry Golsen

… break it down, we’re trying to be a little careful to be able to give you what, if you look on page 50, you look on page 50.

Jack Golsen

Are you referring to the, you’re looking at Cherokee. Cherokee, Alabama, our plant in Cherokee?

Brian Kremer – Roth Capital

Okay.

Jack Golsen

[52%] higher than 2009 for the quarter, as far as fertilizer, UAN shipped.

Tony Shelby

He’s asking about industrial.

Barry Golsen

He’s asking about industrial. I’ll tell you what. If you look on page 50 in the Q that we just filed.

Brian Kremer – Roth Capital

Yeah?

Barry Golsen

There’s a breakdown.

Brian Kremer – Roth Capital

Yeah.

Barry Golsen

And that should break it down for you pretty clearly. There’s a table right on that page.

Brian Kremer – Roth Capital

Right. Okay. Fair enough. Let’s see. Tony, on the interest expense, there was an item there. Could you go over that real quick again?

Tony Shelby

Yeah. We locked in some interest rate future contracts a year, two years ago before LIBOR dropped so far. And so we continually quarter-after-quarter mark those fair value. So you had a little bit higher fair value mark-to-market in this quarter than you did last year same quarter. But our interest rate is down in terms of what we’re paying to the lenders because the debt’s down some and LIBOR’s been down.

Brian Kremer – Roth Capital

Okay. Let me see.

Tony Shelby

You’ll see that in the foot, that comparison in the footnotes.

Brian Kremer – Roth Capital

Okay. And I think that’s it for now. Thank you, guys.

Jack Golsen

Thank you.

Operator

Our next question comes from Dan Mannes with Avondale Partners.

Jack Golsen

Hi, Dan.

Dan Mannes – Avondale Partners

Hi. Good morning. Good afternoon actually. Sorry, it’s been a long day.

Barry Golsen

How are you doing, Dan?

Dan Mannes – Avondale Partners

Doing good. A couple questions on the geothermal side or, I guess, on the [GHP] side broadly. Are you seeing or are you participating in any discounting activity as part of the sales process?

Barry Golsen

Well, the commercial market is very competitive. We’ve been talking about for several quarters that we first expected it to get competitive as that market softened and then as we saw it get competitive, we’ve talked about it in the past. Didn’t really address it specifically in the prepared statements, but yeah, we’re continuing to see a very competitive situation on the commercial side of the business.

And in parts of that business, we will in the last analysis end up with some significant discounting. And basically here again, it’s on a job-by-job basis. Depends what’s necessary on a job. It’s on those type of jobs that are out to bid. On the residential side of our business, we’re not finding that we’re doing significant discounting at all.

Dan Mannes – Avondale Partners

Okay. All right. And then on the other side of that equation, given what copper prices have done, your margins held up pretty well so far from a mix shift. I mean, how or should we expect to see the impact of some of the higher input costs sort of roll through to your margin?

Barry Golsen

Well, we’ve been saying for, also again for a couple quarters, Dan, that as the commercial market got more competitive and don’t forget that’s three-quarters of our business. And as material costs increased we expected to see some compression of margin. The reason we haven’t seen the compression of margin so far that we expected is because we’ve seen a favorable product mix.

Dan Mannes – Avondale Partners

Yeah.

Barry Golsen

That’s offset that. But don’t worry, we are not going to make any forecast going forward as to whether we think that that favorable mix is going to continue or what’s going to happen with the margin because we’re really not sure what’s going to happen. We’re not sure what’s going to happen with those raw material costs or to what degree the market will be competitive.

Dan Mannes – Avondale Partners

Understood. Quickly on fertilizer pricing. Given the recent pullback in some of the global commodity prices, I know you talked about pricing in the quarter. Any impact more recently and I know, by recently, I mean the last couple days in terms of fertilizer pricing, given how much of the product’s imported and given what the dollar’s doing?

Tony Shelby

No. I think the market’s been pretty steady. We know AN, ammonium nitrate is up from 265 to 290, though UAN, I think, is pretty steady at 220, 240 net back.

Barry Golsen

Right.

Tony Shelby

In that range.

Dan Mannes – Avondale Partners

Got it. No. That’s helpful. Thank you.

Operator

Our next question comes from Eric Stine with Northland Securities. Sir, please state your question.

Ryan Wright – Northland Securities

Hi, guys. This is actually Ryan Wright filling in for Eric.

Jack Golsen

Who?

Barry Golsen

We couldn’t -- we didn’t catch the name.

Jack Golsen

Ryan.

Ryan Wright – Northland Securities

Sorry. It’s Ryan Wright filling in for Eric.

Barry Golsen

Okay.

Jack Golsen

Hi, Ryan.

Ryan Wright – Northland Securities

Hi. Looking at the Climate side, what kind of feedback has there been on the national ad campaign and have you seen kind of an uptick in business?

Barry Golsen

Well, we’ve had favorable, I’m going to make sure I get the question right. What kind of feedback have we had?

Ryan Wright – Northland Securities

Yeah.

Barry Golsen

Well, we have had favorable feedback. We’ve had inquiries and we’ve had favorable feedback from our distribution network.

Ryan Wright – Northland Securities

Okay. Helpful. And in the past…

Barry Golsen

And as to whether it’s had an impact or not, I’ll just let the order level speak for itself.

Ryan Wright – Northland Securities

Okay. In the past, you’ve framed the significant opportunity you see in stimulus work. Can you give an updated size?

Jack Golsen

We’re having difficulty hearing you.

Barry Golsen

Would you mind speaking up?

Jack Golsen

Ryan?

Barry Golsen

We’re not…

Ryan Wright – Northland Securities

Yeah.

Barry Golsen

We’re not -- quite coming through.

Ryan Wright – Northland Securities

Yeah. Sorry about that. In the past, you’ve framed the significant opportunity you see in stimulus work. Can you give an updated size of the GSA, DOD and VA opportunity?

Barry Golsen

Well, I really don’t have any specific numbers in front of me to be able to quote you at this time, but I’ll speak in kind of general terms. In general terms, when the stimulus was first passed, we were looking at these very large opportunities.

And what we found was that most of the opportunities that were HVAC related we’re not what they’re referring to show ready because there were design processes that had to occur and projects that had to be planned, et cetera. And that’s on a federal level. And on a state level, so the money had to be build out and the states had to figure out what they were going to do with them -- with the money.

Jack Golsen

And the feedback that we have is that the states have not been spending the money. Some of them don’t know what to do with it.

Barry Golsen

Right. That’s at the state level.

Jack Golsen

At the state level.

Barry Golsen

And at the federal level, the general feeling out there is that we’re seeing more stimulus dollars come through and more stimulus projects this year than last year and we expect there to be more.

But it’s very difficult to quantify exactly what that is going to be and whether or not that will, how that fits in the overall mix of a commercial market that’s down. How we’ll be able to offset that against other businesses down, it’s very hard to tell. So we do expect some more stimulus activity but I can’t really give you any specific numbers right now.

Ryan Wright – Northland Securities

All right. And with the Chemical side, could you explain the progress with the DEF opportunity with early shipments of 2010 compliant engines?

Jack Golsen

Sorry. Couldn’t hear it.

Barry Golsen

What are the opportunities?

Ryan Wright – Northland Securities

Yeah.

Barry Golsen

Well.

Jack Golsen

I can take that.

Barry Golsen

You want to take that?

Jack Golsen

Sure. We were never -- we entered the DEF business in anticipation of a five-year span before it became a major business in the United States. Contrary to what some of our competition thought, that it would be a big business, it has not materialized into as bigger business as they thought. It’s been more in line with what we thought. And the reason for that is it only was applicable to new diesel engines and trucks of a certain size and larger.

What’s happened is a lot of the companies that traded in their equipment on an annual basis seems to have held back this year. For example, some of the national, like fossil services that use diesel. They decided to keep their trucks an extra year.

And so the business has been as we anticipated. I mean, we have been shipping DEF, but it’s not yet a major product for us and it’s not expected to be a major product for a couple years. But you need -- you can’t get in the middle. You have to start with the, when it starts and it started when we started and that’s why we got into it. So it’s not yet a major product.

Ryan Wright – Northland Securities

All right.

Jack Golsen

I think that it’s predicted to be about 2 -- the usage is about 2% of the usage of diesel fuel in the United States when you have to use it and that’s equipment, old equipment or used equipment before the year 2010 does not require it.

So if you can tell me how much diesel fuel, the new equipment from 2010 forward is going to use, use 2% as a number. That’s how much DEF will be sold in the United States.

Ryan Wright – Northland Securities

Yeah. That’s helpful. Thank you very much.

Jack Golsen

Well, each year it will be more. You can see how it’s going to grow because these companies that run these large trucks and trailers have to trade their equipment in periodically.

Ryan Wright – Northland Securities

Okay.

Operator

(Operator Instructions) And our…

Tony Shelby

I’m going to circle back and answer Brian Kremer’s question real quick on the 44%. He was referred to tons and we’re looking at dollars. But to answer his question, the increase in that -- of that 44% was for the most part nitric acid. We also had some growth in sulfuric acid and it was pretty much across the board in terms of customer demand that customers are buying nitric acid for their production process.

Barry Golsen

One final notation. That conference in Chicago next week is on the 11th, not the 12th. That was an error.

Tony Shelby

Is it a Tuesday?

Barry Golsen

It’s Tuesday the 11th.

Operator

And our next question comes from Joe Mondillo with Sidoti & Company.

Joe Mondillo – Sidoti & Company

Hi, folks. I was wondering if you could just, going back to the UAN and AN, I was wondering if you could give us a sense of how that’s been trending, how that trended throughout the quarter in terms of sales and into April and May for the year?

Tony Shelby

Well, Barry gave you the indication of how -- what percent UAN was up over last year and of course, AN was down. April was a very strong month and so -- as we said, it was a delayed start.

Barry Golsen

I guess if you were going to try to put a trend line on it from what would it have been normally at the beginning of the season to now, you’d have to say it was a hockey stick.

Tony Shelby

Right.

Barry Golsen

Because of the late start and the pent-up demand at, when the season -- when the weather conditions actually got right for the fertilizer.

Joe Mondillo – Sidoti & Company

Okay.

Tony Shelby

And we’ll have to see how it goes from here.

Joe Mondillo – Sidoti & Company

Okay. Last year, there was a late harvest and I believe that affected the demand for fertilizers at the end of the year. Does that mean if there’s a late start this year, is that a possibility this year as well?

Tony Shelby

Some people are saying that.

Joe Mondillo – Sidoti & Company

Okay. If, my last question on that is, I was wondering if you could just give a little more color on, you sort of mentioned on your prepared remarks on how you, with the reason why you opened up the prior plant was you wanted to take advantage of the nitrogen fertilizer market. That’s been more favorable. Could you just give a more -- a little more color on why that’s more favorable than other fertilizers or why that is, I guess?

Barry Golsen

You want to take that one, Tony?

Tony Shelby

Yeah. If you look at the world grain, if you look at the world consumption of grain, it’s primarily corn. You’ve got, stock-to-use ratios on corn is low right now. You’ve got increased consumption. China is starting to import corn. So I think it’s just global demand versus supply of grains, primarily corn.

Now wheat is going to be down this year as far as acres planted, but corn requires a lot of nitrogen and we believe that the world supply and demand fundamentals point to favorable conditions here in North America, plus we now have cheap gas versus Ukraine and some of the other countries that had -- previously were low-cost producers.

Joe Mondillo – Sidoti & Company

Okay.

Tony Shelby

And there’s been a contraction in shutdown nitrogen plants in the last 10 years.

Joe Mondillo – Sidoti & Company

Okay. So cheap gas, corn, markets are favorable and the supply has come down.

Tony Shelby

Yeah. You’ve got global population growth, you’ve got the ethanol mandate and you’ve got cheaper gas here in North America.

Joe Mondillo – Sidoti & Company

Okay. Last question actually on that. What is the, in terms of UAN versus AN sales of your total ag sales as a percent?

Tony Shelby

I think Barry covered that. I don’t have that right in front of me. But I think Barry covered that.

Jack Golsen

Yeah. Barry, calculated that.

Barry Golsen

Actually, we do have that.

Jack Golsen

It’s in your script.

Barry Golsen

I’ve got it right here. Just a second.

Joe Mondillo – Sidoti & Company

Sorry about that. I missed it.

Barry Golsen

Okay. Just a minute.

Jack Golsen

I’ll get for you.

Barry Golsen

Well, in the first quarter of this year, our -- let’s see, our UAN sales were…

Tony Shelby

46,000...

Barry Golsen

Yeah. Are you talking tons or dollars? Which would you like?

Joe Mondillo – Sidoti & Company

Actually, I wanted percent but whatever you have?

Barry Golsen

Well, it looks like I’m going to have to calculate the percent…

Joe Mondillo – Sidoti & Company

Okay.

Tony Shelby

I can answer that real quick. They were approximate the same in the first quarter in terms of tons.

Joe Mondillo – Sidoti & Company

They were, okay. Approximately the same? Okay. That’s fair enough.

Tony Shelby

Okay.

Joe Mondillo – Sidoti & Company

Last couple questions. Geothermal, what is that a percent of your total Climate Control sales and how did the margins on geothermal compared to the rest of your Climate Control?

Barry Golsen

Well, our residential geothermal, in the first quarter was 24% of our total Climate Control sales. That’s residential. There is a geothermal component to our commercial sales and it’s hard to track that as precisely as the residential because in some of the end-use of the commercial, we don’t actually know what that is, some of the smaller projects.

But, roughly, looking on an industry average and we think we pretty much mirror the industry, that you can say that about, in a normal market, about 20% of all the geothermal product that’s sold is commercial and the other 80% is residential. So we’ll use a four to one ratio. Okay, that’s in terms of units.

Joe Mondillo – Sidoti & Company

Okay.

Barry Golsen

However, commercial units sell for slightly less per unit, so another 15% to 20% above that, so that would be, let’s see, 10% of…

Tony Shelby

2.5.

Barry Golsen

… about another maybe up to another 4% to 5% might be commercial.

Joe Mondillo – Sidoti & Company

Okay.

Barry Golsen

Commercial geothermal. So somewhere slightly south of 30% total.

Joe Mondillo – Sidoti & Company

Okay. And the margins on the geothermal compared to the…

Barry Golsen

We don’t really publish that. That’s not a number that we disclose. I can say…

Joe Mondillo – Sidoti & Company

Is it above average margins or?

Barry Golsen

It’s above average. I can say that. We’ve disclosed that in the past.

Joe Mondillo – Sidoti & Company

Okay. Okay. And then last thing, share count. Are you guys backing -- buying back share, shares?

Barry Golsen

We haven’t bought back any shares since last year. Was it second quarter of last year?

Jack Golsen

No. We haven’t bought any this year.

Joe Mondillo – Sidoti & Company

Are the -- is the share count falling or am I looking at something wrong?

Tony Shelby

No. You’re looking at the average shares based on the EPS calculation, but the outstanding shares probably be a little bit higher just due to exercise of options, but essentially the same.

Joe Mondillo – Sidoti & Company

Okay. All right. Great. Thanks a lot, guys.

Tony Shelby

Thank you.

Operator

Our next question is a follow-up from Dan Mannes with Avondale Partners.

Dan Mannes – Avondale Partners

Yeah. I just had one follow-up. Have you taken a look at the proposed Homestar rule or not, Homestar proposal coming out of the (inaudible) or Senate?

Barry Golsen

Yeah. We are...

Dan Mannes – Avondale Partners

Any thoughts on potential implications, et cetera?

Barry Golsen

Well, let me tell you what that is, okay? There are two levels of Homestar that affect us. There’s a Silver Star and the Gold Star. The Silver Star works like this. There’s up to a $3,000 rebate. And let me distinguish this program from the stimulus that’s out there and from the tax credit.

What currently exists out there for geothermal is a tax credit, which we all know the way that works is you spend the money. You get 30% of everything that you spend if you’re a homeowner. At the end of the year when you file your taxes, if you owe taxes, you get a credit against those taxes. But still, at the time that you make the cash outlay for the system, you have to pay the money out or you have to borrow it, if you don’t want to put your own money into it.

With the Homestar Program, there’s an actually fairly quick rebate that’s supposed to occur and I don’t know exactly what the timing on that, but it’s pretty quick. We’ll just say that. And on, so there’s two levels for this rebate program. One is called Silver Star, one’s called Gold Star.

Silver Star is $3,000 -- up to a $3,000 rebate. It’s a prescriptive rebate in that it’s not tied to any specific performance as long as it is one of the listed type of technologies. And how it applies to us is that if you buy a geothermal heat pump, you get a $1,000 rebate. And if that geothermal heat pump is configured so that it will also generate heat for producing hot water -- domestic hot water, you get another $1,000 rebate. And then there’s another $1,000 in the Silver Star for miscellaneous things like insulation and new windows and things like this, okay. That’s the Silver Star level.

Then there’s the Gold Star level and it’s not prescriptive, it’s based on improved energy performance against a minimum standard. So what they do is they take a minimum code rated home whatever that happens to be and if you can get up to an $8,000 rebate for 50% energy reduction above a code rated home and it’s graduated up to 50%.

Now the way both of these work, so typically with a geothermal heat pump -- with a heat pump and maybe some insulation if it’s not a tight house, you can get up to a 50% energy reduction.

Right now, in the House bill that’s proposed, those are both offset against the any credits that are out there. So what that and you take the larger of whichever applies. So if you install a system and it costs $10,000 and you get $3,000 credit, because you get a 30% credit. But Homestar allows you $8,000, you get the $8,000 and you don’t get a credit.

And if you get, if Homestar allows you something less than the credit, then you get their rebate for what you’re allowed on the rebate and the difference between that price and the credit, you get at the end of the year. The Senate bill that’s out there is less favorable but no one really knows how these two are going to match when they’re ultimately reconciled, if they pass.

Dan Mannes – Avondale Partners

Got it.

Barry Golsen

That’s what I know about it.

Dan Mannes – Avondale Partners

No. That’s really helpful. I mean, the real benefit here, obviously, is the time differential between when you install the system versus getting the rebate -- versus getting the refund. So theoretically, this could drive incremental sales, if it passed from people who maybe were sensitive to that timing difference.

Barry Golsen

Right.

Dan Mannes – Avondale Partners

Got it.

Barry Golsen

We view as definitely beneficial. It’s not going to hurt, that’s for sure.

Dan Mannes – Avondale Partners

It certainly can’t hurt. Thanks.

Operator

Our next question comes from David Kaizer with Robotti & Company. Sir, please state your question.

Jack Golsen

Hello?

Operator

Mr. Kaizer, your line is open, sir. That question has been withdrawn and your next question comes from Joe Mondillo with Sidoti & Company.

Joe Mondillo – Sidoti & Company

Just real quick, I was just wondering if you could clarify the start-up costs for Pryor. Is that something temporary and once you get the plan up and running full 100%, that goes away or?

Tony Shelby

When we are producing at a level that will switch over from a start-up to a operational, right.

Joe Mondillo – Sidoti & Company

Okay. So it’s still going to be on the P&L regardless?

Jack Golsen

No. The reason it’s start-up is you’re not getting product. Its money spent to start the plant that’s not producing product. But when you’re producing product, it’s no longer start-up.

Tony Shelby

We called it start-up because we had not produced the full stream of products on a sustained basis, but we are very close and at some point, we’ll cut it over to being -- we’ll report sales and cost sales…

Jack Golsen

And there won’t be any start-up costs…

Tony Shelby

Correct.

Jack Golsen

… so to speak.

Joe Mondillo – Sidoti & Company

Well, regardless, it’s still going to be on the P&L, which ever line it hits, it’s still going to be there?

Jack Golsen

That’s right. That’s the operating cost of that plant per month.

Barry Golsen

Yeah. In other words, let me state it another way just for clarity, okay? We have about 90 people working in that plant and we’ve got other overhead costs and we’re paying for that cost every month -- month in and month out at this point whether we produce zero tons or we produce full tons.

Right now, we aren’t producing – we haven’t produced enough historically on a sustained basis tons, so we’re calling those costs start-up costs. Once we’re producing on a sustained basis, we’ll cut over to normal operations. We’ll still have those costs but we’ll also have revenues that offset them.

Joe Mondillo – Sidoti & Company

I understand. Thank you.

Operator

Our next question is from David Kaizer with Robotti & Company. Sir, please state your question.

David Kaizer – Robotti & Company

Hi. Sorry about that. I had a phone issue. I wanted to touch briefly on bright spots. So you mentioned geothermal orders being up significantly. But you didn’t really touch on the other geo, I mean, the other Climate Control products, which I believe were also up 18%. If you can touch on that briefly, I’d appreciate it?

Barry Golsen

Yeah. Okay. Other Climate Control products that were up during the quarter were large custom air handlers and modular chillers, including geothermal configured chillers. And those are smaller companies and we have been developing those products the last few years and they’re starting to show some progress and they did better than the first quarter of last year.

We really didn’t spend that much time talking about them because they are a small part of the overall business at this point. We’re optimistic about them but they kind of fall in the same category as DEF. They’re future things, but right now, they don’t make a huge impact on the business.

David Kaizer – Robotti & Company

All right. And in terms of market share, you touched on it briefly with geothermal. Have you sustained market share year-over-year, grown it or you’re not, it’s not clear?

Barry Golsen

Our market share year-over-year approximately -- last couple years is approximately the same. It tends to fluctuate 1 or 2 points per year and that is based on timing of when certain shipments go out.

So we can see it go up and down, but we can attribute the last few years. But we can attribute it to distribution stock-ups versus run-offs of inventory versus our competitor that pretty much sells directly to the customer. So it’s more or less the same within a point or two.

David Kaizer – Robotti & Company

Okay. I appreciate that. Thank you guys very much.

Operator

There are no further questions. I will now turn the conference back to management.

Barry Golsen

Thanks. Thanks for tuning in. Now the most important part with be Carol Oden, who has a few things to say to you about forward-looking statements. Carol?

Carol Oden

Thanks again for listening in today. The comments today contain certain forward-looking statements. All statements other than statements of historical fact are forward-looking statements.

Statements that include the words expect, intend, plan, believe, project, anticipate, estimate and similar statements of a future or forward-looking nature identify forward-looking statements, including, but not limited to, all statements about or any forecast pertaining to the Pryor facility, including going forward, Pryor is producing enough anhydrous ammonia and UAN to substantially reduce its losses.

Pryor represents a significant growth opportunity. We’ve made significant progress at Pryor. We believe that, generally, equipment issues, vendor deficiencies and vendor lead time issues are behind us. Pryor is a valuable asset that will contribute to earnings for many years to come.

Our partnership with Koch will facilitate growth of the chemical business. Long-term favorable outlook for fertilizer products we produce, recent weather conditions have improved and current demand for agricultural products is strong. Agricultural product sales will depend on weather conditions. There will steady requirements for our industrial assets and we’re beginning to see increased demand as the economy improves.

We have eliminated much of the risk of a disconnect between raw material cost and the market prices for our industrial chemical products. We believe that we are somewhat insulated from a potential downturn in demand for our industrial products. Our geothermal heat pump business is beginning to grow again in the face of the current market.

Look forward to a rebound in residential new construction during 2010. New orders and sales for our commercial products for the full year to be lower than 2009. Optimistic about the future of the Climate Control business. We have continued to invest in things we believe we build the Climate Control business for the long term and we believe these will put us in a strong competitive position as the market rebounds. Our current liquidity and capital resources reflect sound financial conditions. We believe we have adequate working capital to finance ongoing operations and organic growth.

You should not rely on forward-looking statements because actual events or results may differ materially from those indicated by these forward-looking statements as a result of a number of important factors.

We incorporate the risks and uncertainties discussed under the headings Special Note Regarding Forward-Looking Statements in our annual report on Form 10-K for the fiscal year ended December 31, 2009, and our quarterly report on Form 10-Q for the three months ended March 31, 2010, and the reports we file from time to time with the Securities and Exchange Commission. We undertake no duty to update the information contained in this conference call.

The term EBITDA, as used in this presentation, is net income plus interest expense, depreciation, amortization, income taxes and certain non-cash charges, unless otherwise described.

EBITDA is not a measurement of financial performance under GAAP and should not be considered as an alternative to GAAP measurement. We will post on our website a reconciliation to GAAP of any EBITDA numbers discussed during this conference call.

Thank you. That ends our conference call.

Operator

Ladies and gentlemen, this concludes our conference for today. Thank you all for participating. And have a nice day. All parties may now disconnect.

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