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We are retaining our Neutral rating on industrial gas giant Air Products (APD - Analyst Report). While the company should benefit from its cost reduction measures and acquisitions, we take a cautious stance considering high energy costs and weakness in the electronics and performance materials business.

Why Maintained?

Air Products’ third-quarter fiscal 2013 (ended Jun 30, 2013) earnings from continued operations of $1.36 a share, reported on Jul 23, matched the Zacks Consensus Estimate. Revenues rose 9% year over year to $2,547.3 million aided by acquisitions and healthy gains across the merchant and tonnage gases businesses. It beat the Zacks Consensus Estimate of $2,543 million. Management narrowed its earnings guidance for fiscal 2013, citing challenging economic conditions.

Air Products, a Zacks Rank #3 (Hold) stock, benefits from a diverse customer base, sustained pricing power and cost-reduction measures. New business deals and strategic investments are expected to support results in fiscal 2013.

The acquisition of a 67% stake in Chilean industrial gas company, Indura S.A., has ushered in substantial growth opportunity for Air Products. Moreover, the recent EPCO buyout complements Air Products’ goal of expanding its portfolio of industrial gases offerings in North America.

We are also encouraged by the incremental opportunities in liquefied natural gas (LNG) market. Air Products has been chosen for a major off-shore LNG project in Malaysia, representing a major opportunity for its LNG technology and equipment. Moreover, in May 2013, the company clinched its first major domestic LNG heat exchanger order for a liquefaction project in Maryland.

Air Products has also embarked on headcount reduction, keeping a tight control on expenses and undertaking work process improvement initiatives. Moreover, it remains committed to maximize returns to shareholders.

However, Air Products’ Electronics and Performance Materials segment is expected to witness soft demand with delays in new fab construction and weak outlook for silicon processing. Profits are expected to fall in the Tonnage Gases division due to lower polyurethane intermediates (PUI) volume and higher maintenance spending. Helium volumes also remain weak due to feedstock supply constraints.

Moreover, higher energy costs and pension expenses pose a threat to margin expansion. Higher power costs in the merchant business and maintenance costs is weighing on Air Products’ bottom line. We also take into account the company’s high debt level.

Other Stocks to Consider

Other companies in the chemical industry with favorable Zacks Rank are Northern Technologies International Corp. , Cytec Industries Inc. (CYT - Snapshot Report) and PPG Industries Inc. (PPG - Analyst Report). While Northern Technologies retains a Zacks Rank #1 (Strong Buy), both Cytec Industries and PPG carry a Zacks Rank #2 (Buy).

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