UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

(Mark One)

OR

Commission file number 1-4534

AIR PRODUCTS AND CHEMICALS, INC.

610-481-4911
(Registrant’s Telephone Number, Including Area Code)

Not Applicable
(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)

     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No

     Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes þ No

     Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

AIR PRODUCTS AND CHEMICALS, INC. and Subsidiaries
INDEX

BASIS OF PRESENTATION:

The consolidated financial statements of Air Products and Chemicals, Inc. and its subsidiaries (the “company” or “registrant”) included herein have been prepared by the company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations. In the opinion of the company, the accompanying statements reflect adjustments necessary to present fairly the financial position, results of operations and cash flows for those periods indicated, and contain adequate disclosure to make the information presented not misleading. Adjustments included herein are of a normal, recurring nature unless otherwise disclosed in the notes to consolidated financial statements. However, the interim results for the periods indicated herein do not reflect certain adjustments, such as the valuation of inventories on the LIFO cost basis, which can only be finally determined on an annual basis. The consolidated financial statements included herein should be read in conjunction with the financial statements and notes thereto included in the company’s latest annual report on Form 10-K in order to fully understand the basis of presentation.

Results of operations for interim periods are not necessarily indicative of the results of operations for a full year. Reference the 2004 Outlook included on pages 26-27 of Item 2 in Management’s Discussion and Analysis of Financial Condition and Results of Operations. Risk factors that could impact results are discussed under Forward-Looking Statements on page 30.

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PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

AIR PRODUCTS AND CHEMICALS, INC. and Subsidiaries

The accompanying notes are an integral part of these statements.

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AIR PRODUCTS AND CHEMICALS, INC. and Subsidiaries

The accompanying notes are an integral part of these statements.

4

AIR PRODUCTS AND CHEMICALS, INC. and Subsidiaries

The accompanying notes are an integral part of these statements.

5

AIR PRODUCTS AND CHEMICALS, INC. and Subsidiaries

The accompanying notes are an integral part of these statements.

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AIR PRODUCTS AND CHEMICALS, INC. and Subsidiaries

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AIR PRODUCTS AND CHEMICALS, INC. and Subsidiaries

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AIR PRODUCTS AND CHEMICALS, INC. and Subsidiaries

(Millions of dollars, except per share)

MAJOR ACCOUNTING POLICIES

Refer to the company’s 2003 annual report on Form 10-K for a description of major accounting policies. There have been no material changes to these accounting policies during 2004.

Stock-Based Compensation

At 30 June 2004, the company had various stock-based compensation plans as described in Note 14 to the consolidated financial statements in the company’s 2003 annual report on Form 10-K. The company accounts for its stock option plans under the recognition and measurement principles of APB Opinion No. 25, “Accounting for Stock Issued to Employees,” and related Interpretations. No compensation expense has been recognized in net income for stock options, as options granted had an exercise price equal to the market value of the underlying common stock on the date of grant. The following table illustrates the effect on net income and earnings per share if the company had applied the fair value recognition provisions of Statement of Financial Accounting Standard (SFAS) No. 123, “Accounting for Stock-Based Compensation,” to its stock option plans.

NEW ACCOUNTING STANDARDS

In December 2003, the Financial Accounting Standards Board (FASB) published a revision to Interpretation No. 46, “Consolidation of Variable Interest Entities,” to clarify some of the provisions of Interpretation No. 46. The revision to Interpretation No. 46 does not change the company’s determination that the company has no interests in a variable interest entity.

In December 2003, the FASB also issued a revised SFAS No. 132, “Employers’ Disclosures about Pensions and Other Postretirement Benefits,” which added disclosure requirements for defined benefit plans. The annual disclosure requirements are effective for the company’s fiscal year ending 2004. The disclosures provided by the company in its 2003 annual report on Form 10-K complied with most of the annual disclosure requirements of the new Statement. In its 2004 annual report, the company will enhance its disclosure of investment strategies and the basis for determining the long-term rate of return on plan assets assumption. Also, the company will provide information related to the amount and timing of expected future benefit payments. Under SFAS No. 132, companies are also now required to report the various elements of pension benefit costs on a quarterly basis. The quarterly

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disclosure requirements were effective beginning the second quarter of fiscal year 2004, and the company has included the required interim disclosures under Pension and Other Postretirement Benefits below.

In May 2004, the FASB issued a FASB Staff Position (FSP) No. FAS 106-2, “Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (Act).” This FSP provides guidance on the accounting for the effects of the Act for employers that sponsor postretirement health care plans that provide prescription drug benefits. The impact of the Act on the company’s postretirement medical benefits is not material.

EQUITY AFFILIATES’ INCOME

Income from equity affiliates for the nine months ended 30 June 2003 included $14 for adjustments related to divestitures recorded in prior periods. $8 is included in Other equity affiliates and $6 is included in Gases equity affiliates.

GLOBAL COST REDUCTION PLANS

The results for the three and nine months ended 30 June 2003 included a charge of $152.7 ($96.6 after-tax, or $.43 per share) for the 2003 global cost reduction plan. This charge included $56.8 for severance and pension-related benefits and $95.9 for asset disposals and facility closures in the Gases and Chemicals segments. The results for the nine months ended 30 June 2003 also included the reversal of the balance of the accrual for the 2002 Plan of $.2.

The 2003 Plan was completed as expected in June 2004 with the exception of the planned sale of the company’s European methylamines and derivatives business (EM&D). In April 2004, the company announced the proposed sale of this business, which is pending regulatory approval.

The following table summarizes changes to the carrying amount of the accrual for the 2003 global cost reduction plan for the nine months ended 30 June 2004.

GOODWILL

Changes to the carrying amount of consolidated goodwill by segment for the nine months ended 30 June 2004, are as follows:

The increase in goodwill from acquisitions was principally due to the acquisition of four small U.S. homecare businesses and a 4% increase in ownership of San Fu Gas Company, Ltd.

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EARNINGS PER SHARE

The following table sets forth the computation of basic and diluted earnings per share (EPS):

Options on 4.7 and 8.4 million shares of common stock were not included in computing diluted earnings per share for the third and second quarter, respectively, of 2003 because their effects were antidilutive.

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PENSION AND OTHER POSTRETIREMENT BENEFITS

The components of net pension and other postretirement benefit cost are as follows:

The special termination benefits in 2003 were included in the charge for the 2003 global cost reduction plan.

The company previously disclosed, in its 2003 annual report on Form 10-K, expected cash contributions of approximately $200 in 2004. During the nine months ended 30 June 2004, contributions of $204.1 were made. The company presently anticipates contributing a total of approximately $220 in 2004. For the nine months ended 30 June 2003, contributions of $55.7 were made. During 2003, total contributions were $61.6.

LITIGATION

In the normal course of business, the company is occasionally involved in uninsured legal proceedings, including, in July 2003, Honeywell International, Inc. and GEM Microelectronic Materials, LLC filed suit against the company alleging breach of contract resulting from the termination of a Strategic Alliance Agreement dated 1 October 1998 (“SAA”). The suit alleges that the company will source certain chemicals produced from its recently acquired Ashland Electronic Chemicals business rather than sourcing them from Honeywell. The suit was filed in Delaware Chancery Court seeking specific performance of the SAA and, in the alternative, a combination of specific performance and monetary damages up to $106. Trial was held during the week of 29 March 2004 and ended 2 April 2004. The company intends to continue its vigorous defense of this claim. A decision is expected before the end of August 2004. In fiscal year 2003, the company established an accrual for this litigation. The results for the three and nine months ended 30 June 2004 included an additional charge for this matter. There is a possibility that resolution of this matter could result in an additional loss in excess of presently established accruals. Although management is not able to reasonably estimate the amount of any additional loss, it believes that a judgment on damages will be significantly less than the damages sought.

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The company does not expect that any sums it may have to pay, if any, in connection with these matters would have a materially adverse effect on its consolidated financial position or net cash flows, even though a future additional charge for any damage could have a significant impact on the company’s net income in the period in which it is recorded.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

(Millions of dollars, except per share)

The disclosures in this quarterly report are complementary to those made in the company’s 2003 annual report on Form 10-K and its 2004 first and second quarter Form 10-Q filings. An analysis of results for the third quarter of fiscal 2004 and the nine months ended 30 June 2004, including an update to the company’s 2004 outlook, is provided in the Management’s Discussion and Analysis to follow.

All comparisons are to the corresponding period in the prior year unless otherwise stated. All amounts presented are in accordance with accounting principles generally accepted in the United States of America.

THIRD QUARTER FISCAL 2004 VS. THIRD QUARTER FISCAL 2003

RESULTS OF OPERATIONS

Third Quarter Fiscal 2004 Overview

Higher volumes drove third quarter results. Third quarter sales of $1,893 were up 16% from the prior year, primarily from higher volumes across the company’s Gases segment, acquisitions, and favorable currency effects.

Operating income was $234, compared to $37 in the prior year, which included an expense of $153 for the 2003 global cost reduction plan. Operating income also benefited from the volume gains across the company’s Gases segment, currency as the dollar was weaker year on year with the majority of the impact coming from the strength of the Euro, and acquisitions, which included Ashland Electronic Chemicals, U.S. homecare companies, and Sanwa Chemical Industry Co., Ltd. (Sanwa). Operating income was unfavorably impacted by higher costs, including an accrual for costs associated with uninsured litigation, higher pension expense, higher incentive compensation expense resulting from increased earnings, and higher manufacturing costs in the Chemicals segment.

Net income was $163, compared to $27 in the prior year, which included an after-tax expense of $97 for the 2003 global cost reduction plan. Diluted earnings per share was $.71, compared to $.12 in the prior year, which included a $.43 impact for the 2003 global cost reduction plan. A summary table of changes in earnings per share is presented below.

For a discussion of the opportunities, challenges and risks on which management is focused, refer to the update to the company’s 2004 outlook provided on pages 26-27.

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Changes in Earnings per Share

Consolidated Results

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Discussion of Consolidated Results

Sales

Sales of $1,892.5 increased 16%, or $262.6. Acquisitions, including Ashland Electronic Chemicals, U.S. homecare companies, and Sanwa, accounted for 4% of the increase. Favorable currency effects, with the majority driven by the strength of the Euro, accounted for an additional 2% of the sales growth. Underlying base business growth of 9% resulted from improved volumes, primarily driven by the Gases segment, as discussed in the Segment Analysis which follows.

Operating income of $233.7 compared to $37.3 in the prior year, which included an expense of $152.7 for the 2003 global cost reduction plan. (Refer to the Notes to the consolidated financial statements for information on the global cost reduction plans). Favorable operating income variances resulted from higher volumes for $50 and favorable currency effects for $10. Operating income decreased $20 from higher costs, including an accrual for costs associated with uninsured litigation, higher pension and incentive compensation expense, and higher manufacturing costs in the Chemicals segment.

Equity Affiliates’ Income

Income from equity affiliates of $24.2 increased $1.5, or 7%. Chemicals equity affiliates’ income increased $1.0 from the higher results reported by the global polymer joint venture, and Gases equity affiliates’ income increased slightly by $.5.

Selling and Administrative Expense (S&A)

S&A expense of $243.7 increased 15%, or $31.7. Acquisitions, including Ashland Electronic Chemicals and the U.S. homecare companies, increased S&A by 6%. Currency effects, driven by the strength of the Euro and the Pound Sterling, increased S&A by 3%. Underlying costs increased 7%, primarily due to higher incentive compensation expense, inflation, and increased spending due to higher volumes in the business, partially offset by savings related to the 2003 global cost reduction plan.

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Other (Income) Expense, Net

Other income of $4.3 declined $2.6. Items recorded to other income arise from transactions and events not directly related to the principal income earning activities of the company. Results in 2004 included an accrual for costs associated with uninsured litigation. Otherwise, no individual items were material in the comparison to the prior year.

Interest Expense

Interest incurred decreased $2.2. The decrease resulted primarily from lower average interest rates, partially offset by the impact of a weaker U.S. dollar on the translation of foreign currency interest.

Effective Tax Rate

The effective tax rate equals the income tax provision divided by income before taxes less minority interest.

The effective tax rate was 28.0% compared to (12.2)%. The company’s income tax expense is equal to taxes computed at statutory rates, based on book taxable income, reduced by tax credits and adjustments. For the three months ended 30 June 2003, the tax credits and adjustments exceeded the tax computed at statutory rates resulting in a net tax benefit. Book taxable income was at a relatively low level due to the 2003 global cost reduction plan expense. For the three months ended 30 June 2004, there were increased credits and adjustments from the company’s ongoing tax planning process, including such items as improved utilization of foreign tax credits, foreign tax holidays, and certain donations that are eligible for tax deductions. Additionally, changes in income mix reduced taxes.

Net Income

Net income was $163.0 compared to $26.6 in the prior year, which included an after-tax expense of $96.6 for the 2003 global cost reduction plan. Diluted earnings per share of $.71, compared to $.12 in the prior year, which included a $.43 impact from the 2003 global cost reduction plan. A summary table of changes in earnings per share is presented on page 14.

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Segment Analysis

Gases

Gases Sales

Sales of $1,337.9 increased 18%, or $199.8. Acquisitions, including Ashland Electronic Chemicals and U.S. homecare companies, accounted for 6% of the increase. Favorable currency effects, driven primarily by the strength of the Euro and also the Pound Sterling, accounted for an additional 2% sales increase.

Underlying base business sales growth of 9% resulted from improved volumes across the Gases segment including Electronics, Energy and Process Industries (EPI), and the merchant and tonnage businesses.

Overall, the impact of pricing on sales was essentially neutral, with anticipated lower average selling prices of electronic specialty materials offset by higher liquid bulk and packaged gas prices in Europe.

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Operating income of $213.0 increased $136.5. Operating income in 2003 included an expense of $92.2 for the 2003 global cost reduction plan. Favorable operating income variances resulted from higher volumes for $40, acquisitions for $5, and favorable currency effects for $5. Operating income declined $5 from higher costs, including higher pension and incentive compensation expense.

Gases Equity Affiliates’ Income

Gases equity affiliates’ income of $19.7 compared to $19.2 in the prior year.

Chemicals

Chemicals Sales

Sales of $452.9 increased 8%, or $31.7. Sales increased 2% from favorable currency effects, driven primarily by the strengthening of the Euro. Underlying base business sales increased 5%, reflecting higher volumes in a number of the Performance Materials businesses, while volumes in the Chemical Intermediates business were marginally lower. Base business Performance Materials volumes increased 7%, with improvements in performance polymers, surfactants, and epoxies, reflecting the improved economic environment. The performance polymer volume increase was driven by strength in all regions. In Chemical Intermediates, base business volumes decreased 1%. Volumes in European methylamines and derivatives decreased, offset by increased volumes in North American methylamines from new contractual volumes.

Operating income of $29.9 increased $59.1. Operating income in 2003 included an expense of $58.1 for the 2003 global cost reduction plan. Higher volumes contributed $5 to operating income, offset by higher costs of $5, including higher manufacturing costs.

Chemicals Equity Affiliates’ Income

Chemicals equity affiliates’ income of $4.6 increased $1.0. Chemicals equity affiliates’ income consists primarily of a global polymer joint venture.

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Equipment

Equipment Sales and Operating Income

Sales of $101.7 increased $31.1, primarily from higher air separation plant sales. Currency effects improved sales by 1%, due primarily to the strengthening of the Pound Sterling. Operating income of $5.3 compared to an operating loss of $.6 in the prior year. Operating income in 2003 included an expense of $2.4 for the 2003 global cost reduction plan. Operating income in 2004 increased from higher air separation plant and liquefied natural gas (LNG) heat exchanger sales activity.

All Other

All other comprises corporate expenses and income not allocated to the segments, primarily corporate research and development expense.

The operating loss of $14.5 increased $5.1, primarily from an accrual for costs associated with uninsured litigation. Other miscellaneous items were not individually material in the comparison to the prior year.

NINE MONTHS FISCAL 2004 VS. NINE MONTHS FISCAL 2003

RESULTS OF OPERATIONS

Nine Months Fiscal 2004 Overview

The company’s businesses demonstrated improvements in sales and operating income during the first nine months of fiscal year 2004. As the economy and manufacturing environment improved, volume growth was strong. Sales of $5,434 were up 17% from the prior year, due to higher volumes across the company’s Gases and Chemicals segments, acquisitions, and favorable currency effects. Sales benefited from acquisitions, which included Ashland Electronic Chemicals, U.S. homecare companies, and Sanwa Chemical Industry Co., Ltd. (Sanwa). Currency contributed favorably to results, as the dollar continued to weaken, with the majority of the impact coming from the strength of the Euro.

Operating income was $643, compared to $408 in the prior year, which included a net expense of $153 for global cost reduction plans. Operating income also benefited from the higher volumes, favorable currency effects, and acquisitions. Partially offsetting these favorable variances, costs increased, driven by higher pension expense, higher incentive compensation expense resulting from increased earnings, and higher raw material costs not contractually passed through to customers in the Chemicals segment.

Net income was $436, compared to $266 in the prior year, which included an after-tax net expense of $97 for global cost reduction plans. Diluted earnings per share of $1.91, compared to $1.19 in the prior year, which included a $.43 impact for global cost reduction plans. A summary table of changes in earnings per share is presented below.

For a discussion of the opportunities, challenges and risks on which management is focused, refer to the update to the company’s 2004 outlook provided on pages 26-27.

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Changes in Earnings per Share