Speaker: Arnold Allemang, Executive Vice President, Operations, The Dow Chemical Company
Event: Rotary Club
Location: Midland, Michigan
Date: 04/15/2004

Thank you for the opportunity to talk to you today about Dow … and Happy Tax Return Day, by the way.

I'll spend the next few minutes sharing my perspective on what's been happening recently with feedstock and energy prices, worldwide economic growth and other growth issues, how that has affected Dow and what we're doing about it. I'm also here to ask for your help in ensuring a robust future for Midland and Dow.

I've included that last request because, as community leaders, your support and action are invaluable. I'm not just speaking as a Dow employee when I say this but also as an American citizen. Together, we can make a significant impact on what happens here in our community as well as in our state and our country.

What's Been Happening …
So first, let's review what's been happening … the past few years have brought major change to our nation's economy — and to how Dow operates.  As I'm sure you've heard and read, the changes continue. 

Where are we now? Let's go over some key drivers that are affecting many businesses, not just Dow …

• Feedstock and energy prices
• Worldwide economic growth
• And other U.S. growth issues.

These are all external factors — the economy, the business environment, competitiveness — that Dow doesn't have control over. In fact, the impact of the things we can't control has been substantial.

Between 1995 and 2002, Dow lost about $9 billion in margins, due to lower product prices and higher raw material costs. 2003 was the first year since 1995 that we've seen the beginning of margin recovery … roughly 7 to 8 percent of what we've lost. We still have a long way to go.

Feedstock and Energy Prices
I'll take us through a few points on each of these external factors. Number one is feedstock and energy prices. You've no doubt experienced the many ups and downs at the gas pumps and soaring heating bills at home this winter. Dow uses energy in two ways — as a fuel and as a raw material for producing other chemicals.

For more than three years, natural gas prices in the U.S. have been substantially above historical levels and are the highest in the industrial world. Dow's feedstock and energy costs increased by over $2.7 billion last year, or 33 percent from 2002. And in the first quarter of this year, energy costs are up again above first quarter of 2003. There is no end in sight. This volatility and relentless increase in feedstock and energy prices are a symptom of a larger structural problem: the fundamental imbalance between government policies that create demand for natural gas — and those that limit access to our nation's natural gas supplies. 

Many companies, including Dow, have had to source production outside the U.S. where energy costs are far more competitive.  At Dow, we are currently reconsidering our long-term investment decisions … certainly influenced by globally uncompetitive U.S. energy prices.

This issue has hit Dow hard. We are one of the world's most energy intensive companies, and as a result, we have initiated strong, proactive efforts to take charge of what we can control and better plan for the future. Last year we reduced energy intensity — the amount of energy needed to produce a pound of product — by 2.8 percent, which equaled $80 million in savings. That's 6 cents a share of the earnings we achieved in 2003. That's significant! We work continuously on energy use, and we have reduced energy intensity by 17 percent since 1994.

Worldwide Economic Growth
The second external factor affecting us, after feedstock and energy prices, is globalization. Chemical manufacturers are continuing to experience supply and demand imbalances, industry overcapacity, and unrelenting competition from new entrants into the global markets in which we operate. This results in our being sandwiched on one side by high energy costs and on the other side by price pressure from industry overcapacity and consumer demand for lower prices.

Also, patterns of economic growth around the world have changed. The U.S. is still the biggest marketplace in the world with about $11 trillion in Gross Domestic Product and growth at about 4 percent per year (in 2003). That is one of the reasons why, over the past few years, Dow has continued to invest 55 to 60 percent of its capital and 75 percent of its research and development dollars in the U.S.

But things are changing. For example, sales in China increased by 25 percent from 2002, and today China, with $1.6 billion in sales, ranks third among the countries Dow serves, behind only the U.S. and Germany.

Other U.S. Growth Issues
That brings me to the last point on my list — a couple of other U.S. growth issues. U.S. manufacturers face considerably higher costs than do those located in many of America's trading partners. American manufacturers are enthusiastic about meeting the competition today, but we need a fair international playing field.

The first issue is regulation and reporting requirements … The costs of complying with regulations and reporting requirements have risen faster than income in the manufacturing sector. According to a recent National Association of Manufacturers study, the total burden of environmental, economic, workplace and tax compliance is $160 billion on manufacturers alone, equivalent to a 12 percent excise tax on our manufacturing production and increasing 3 percent per year. How would you like to have your taxes increased 3 percent per year, year after year? I know I wouldn't!

Let me be clear: We're not against regulation. We haven't been satisfied with just meeting or exceeding regulatory requirements. We've also made great strides toward our best-in-class environment, health and safety and sustainable development goals.

For example, Michigan Operations has had near zero dioxin emissions for the past 20 years. As we reported last summer in the Toxic Release Inventory report required by the Environmental Protection Agency, dioxin emissions to water were 0.016 grams - that's 50 times lower than EPA's standards for drinking water at 0.03 grams.

I mentioned dioxin because I know you are very aware of the dioxin situation here. Let me take this opportunity to briefly update you on Dow's actions. We are working with the Michigan Department of Environmental Quality to move forward in the regulatory process to address the dioxin and furans issues in and along the Tittabawassee River and in parts of the City of Midland.

We have undertaken some scientific studies in advance of the regulatory process to better characterize the situation because we believe that a comprehensive study of the river and the surrounding area is essential to developing an action plan. We've also continued to seek input from the community through discussion groups, a web site and a newsletter.

We understand that some people are concerned about dioxin and health. The health and scientific information available for the City of Midland and for the communities along the Tittabawassee River area does not support a conclusion that there has been any adverse health impact on residents or the eco-system related to dioxin and furans. All the available information reinforces that Midland and the communities along the river are healthy communities and that the Tittabawassee River and watershed continue to improve as a habitat for fish and game.

We all want answers to address the issues as soon as we can. In February, we submitted our revised Scopes of Work and Interim Action Plans to the DEQ and hope they'll be approved soon. These high-level outlines of immediate and long-term actions include:

• Plans to gather information including soil testing, slated to begin this spring
• An interim action decision matrix that provides a range of interim actions that Dow will implement based on interim data, in advance of completion of the data collection and final action plans
• A communication plan including the creation of Community Information Centers in the townships along the Tittabawassee River, and
• A priority focus on properties on the river and revised plans for several park areas.

We're anxious to begin implementing the Interim Remedial Action work plans and then to proceed to the next phase which is the full remedial investigation. This is where we'll be able to get the answers to develop options and direct our actions toward real resolution for Dow and the community.

It will take all parties working together — the state, the EPA, the community and Dow — to resolve the historical situation with dioxins and furans in soils and sediments in the Tittabawassee River. And thank you to those of you in this room who have helped support our company and our community on this important issue.

Now I'll move on to my second U.S. growth point. Reforming our tort system for our country's future competitiveness is critical. In 2002, the U.S. tort system cost our country around $200 billion, which is about 2 percent of GDP and equivalent to a 15 percent excise tax on our manufacturing production added to the 12 percent I mentioned regarding regulations. That's 27 percent and increasing every year. This cost means slower economic growth and fewer jobs.

In the end, only 20 percent of direct tort costs actually go to claimants for economic damages such as lost wages or medical expenses. This is why Dow supports legislation like Senate Majority Leader Bill Frist's approach to asbestos litigation, the Fairness in Asbestos Injury Resolution Act, which would establish a trust fund probably greater than $114 billion to compensate actual victims of asbestos exposure in a fair, predictable and timely manner.

A solution to the asbestos litigation crisis is essential to maintaining jobs in America. At least 70 companies have been forced into bankruptcy already, and dozens more are threatened due to litigation. Various studies have estimated job losses to date at 50,000 to 120,000, and those losses result in staggering indirect economic losses to communities.

We want this important legislation to pass - for the victims and for our economy. Congress has never been closer to a legislative solution. We hope you will consider contacting Senators Carl Levin and Debbie Stabenow in support of the FAIR Act.

What Dow is Doing …
Faced with these challenges, what is Dow doing? I've already mentioned several areas Dow people have been working on like pricing, energy consumption, operating differently to meet our global customers' needs, and advocating for important policies that would help our competitiveness.

Around the world, Dow people have accomplished tremendous feats recently to take charge of the increasing costs we have been experiencing. Especially in 2003, we took dramatic steps to control what we could control. Many of you have been supportive of our efforts to reduce costs at Michigan Operations where we've achieved a 25-percent cost reduction since the year 2000. These improved results are starting to pay off with Dow's businesses choosing the site for capital investment.

Some of the investments include the construction of:

• An $80 million kiln that is operational
• A $17 million pharmaceutical services production plant for an entirely new family of drug products, and it should be fully operational mid-year,
• A $16.2 million penoxsulam rice herbicide production plant to begin production at the end of this year, and
• A $45 million SARAN barrier resins production line, which includes technology upgrades and facility enhancements that will be on line in late 2005.

Also, the new 8-year labor contract that was ratified in February will enhance Michigan Operations' ability to maintain current business and attract more new business. And doing that enables us to continue to contribute to this community. In 2003, Michigan Operations donated over $3 million to community programs in the tri-county area. Overall, Dow paid about $26 million in local property taxes, $650 million in local salaries to around 5,800 employees, and $200 million to local suppliers here.

This year, the entire company continues to focus on cost, price, volume and asset management. We expect that stronger global economic growth will improve chemical industry demand. However, feedstock and energy costs remain high and volatile.

Even now, as economic conditions improve, the company remains focused on operating more efficiently and effectively. We are consolidating our global business units and further streamlining our functions, which is resulting in some job eliminations. This affects people, which I know affects our community. I don't have hard and fast numbers on job eliminations or how long this will take, but our plan is to finish the restructuring as soon as possible this year.

I know that together we can get through this period and come out on top once again. We want to have a robust future here.

What We Can Do …
Today's environment calls for Dow to take charge of what we can control by keeping our organization lean, keeping our spending low, finding lower-cost feedstock and energy supplies, using energy more efficiently, and implementing and leveraging lower-cost processes and programs across the company.

But we can't control everything. Our ability to operate successfully for the long-term is based on how the U.S. leads the global economy during the next few years. So I ask that we work together to ensure that our community, state and country accomplish the following:

• Provide a long-term, plentiful and diverse supply of reasonably priced energy
• Promote worldwide trade and stimulate international sustained growth
• Help grow our economy and create more sustainable jobs
• Foster investment and innovation, and
• Enable success through reasonable regulation, such as a reformed tort system.

Dow is committed to playing a role in fostering this agenda with local, state and federal governments — and we have been doing this aggressively. But my parting message to you is that we can't do it alone. We're in this together. Thank you.