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SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549



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FORM 10-Q



|x |  | Quarterly Report Pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934
|- |  | ----------------------------------------------------------------------------------------



For Quarterly Period Ended June 30, 2003



OR



| ̈ |  | Transition Report Pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934
|- |  | -----------------------------------------------------------------------------------------



Commission File Number 1-8137



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AMERICAN PACIFIC
CORPORATION

(Exact name of registrant as specified in its charter)



|Delaware                                                       |  | 59-6490478                          
|-------------------------------------------------------------- |  | ------------------------------------
|(State or other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification No.)
|                                                               | 
|3770 Howard Hughes Parkway, Suite 300 Las Vegas, NV            |  | 89109                               
|(Address of principal executive offices)                       |  | (Zip Code)                          



(702) 735-2200

(Registrants telephone number, including area code)



NOT APPLICABLE

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(Former name, former address and former fiscal year, if

changed since last report.)



Indicate by check mark whether the registrant has filed all
reports required to be filed by Sections 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  x  No ̈



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



Applicable Only to Corporate Issuers



Indicate the number of shares outstanding of each of the issuers
classes of common stock, as of the latest practicable date: 7,255,000 as of June 30, 2003.



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PART I. FINANCIAL INFORMATION



ITEM 1.    Condensed Consolidated Financial Statements.



The information required by Rule 10-01 of Regulation S-X is provided on pages
4 through 14 of this Report on Form 10-Q.



ITEM
2.    Managements Discussion and Analysis of Financial Condition and Results of Operations.



The information required by Item 303 of Regulation S-K is provided on pages 15 through 20 of this Report on Form 10-Q.



ITEM 3.     Quantitative and Qualitative Disclosure About Market
Risk.



Market risk represents the risk of loss arising from
adverse changes in market rates and prices, commodity prices and foreign currency exchange rates. We had certain long-term fixed-rate debt that was redeemed on March 1, 2003. In December 2003, we entered into a revolving line of credit facility that
is secured by certain inventory and receivables. To date, we have not drawn upon the line of credit. At June 30, 2003, we did not have any derivative-based financial instruments. However, the amount of outstanding debt may fluctuate and we may at
some time be subject to financing risk.



ITEM
4.    Controls and Procedures.



Based on their evaluation, as of a date within 90 days of the filing of this Form 10-Q, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures (as defined in Rules 13a-14(c) and
15d-14(c) under the Securities Exchange Act of 1934) are effective. There have been no significant changes in internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation, including
any corrective actions with regard to significant deficiencies and material weaknesses.



PART II.  OTHER INFORMATION



ITEM 1.    Legal Proceedings.



The information required by Item 103 of Regulation S-K is provided on pages 10 through 12 of this Report on Form 10-Q.



ITEM 2.    Changes in Securities and Use of Proceeds.



None.



ITEM 3.    Defaults Upon Senior Securities.



None.



ITEM 4.    Submission of Matters to a Vote of Security Holders.



None.



ITEM 5.    Other Information.



None.



2



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ITEM 6.    Exhibits and Reports on Form 8-K.



| | a) |  | Exhibits
| | -- |  | --------



|Exhibit No. |  | Description                                                                                        
|----------- |  | ---------------------------------------------------------------------------------------------------
|            | 
|31.1        |  | Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002*
|            | 
|31.2        |  | Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002*
|            | 
|32.1        |  | Certification of Principal Executive Officer**                                                     
|            | 
|32.2        |  | Certification of Principal Financial Officer**                                                     



| | b) |  | Reports on Form 8-K
| | -- |  | -------------------



On May 7, 2003, we filed a Form 8-K furnishing our press release dated April 30, 2003.



| | * |  | Filed as an Exhibit pursuant to Item 601(b)31 of Regulation as directed by the Securities and Exchange Commission in Release No. 33-8238.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------



| | ** |  | Filed as an Exhibit pursuant to Item 601(b)32 of Regulation as directed by the Securities and Exchange Commission in Release No. 33-8238.
| | -- |  | -----------------------------------------------------------------------------------------------------------------------------------------



SIGNATURES



Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly
caused this Report to be signed on its behalf by the undersigned thereunto duly authorized.



|                    |  | AMERICAN PACIFIC CORPORATION
|------------------- |  | ----------------------------
|                    | 
|Date: July 31, 2003 |  | /s/ JOHN R. GIBSON          
|                    |  |                             
|                    | 
|                    |  |                             
|                    | 
|Date: July 31, 2003 |  | /s/ DAVID N. KEYS           
|                    |  |                             



3



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AMERICAN PACIFIC CORPORATION

Condensed Consolidated Income Statements

(unaudited)



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|                             |  | For the three months endedJune 30, |            | For the nine months ended June 30,
|---------------------------- |  | ---------------------------------- | ---------- | ----------------------------------
|                             |  | 2003                               |            |                                   
|                            
|Sales and Operating Revenues |  | $                                  | 13,809,000 |                                   
|Cost of Sales                |  |                                    | 8,307,000  |                                   
|                             |  |                                    |            |                                   
|Gross Profit                 |  |                                    | 5,502,000  |                                   
|Operating Expenses           |  |                                    | 3,289,000  |                                   
|                             |  |                                    |            |                                   
|Operating Income             |  |                                    | 2,213,000  |                                   
|Net Interest and Other       |  |                                    | (175,000   | )                                 
|Loss on Debt Extinguishment  |  |                                    |            |                                   
|                             |  |                                    |            |                                   
|Income Before Income Taxes   |  |                                    | 2,388,000  |                                   
|Income Taxes                 |  |                                    | 788,000    |                                   
|                             |  |                                    |            |                                   
|Net Income                   |  | $                                  | 1,600,000  |                                   
|                             |  |                                    |            |                                   
|Basic Net Income Per Share   |  | $                                  | 22         |                                   
|                             |  |                                    |            |                                   
|Average Shares Outstanding   |  |                                    | 7,255,000  |                                   
|                             |  |                                    |            |                                   
|Diluted Net Income Per Share |  | $                                  | 22         |                                   
|                             |  |                                    |            |                                   
|Diluted Shares               |  |                                    | 7,322,000  |                                   
|                             |  |                                    |            |                                   



See the accompanying Notes to
Condensed Consolidated Financial Statements.



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AMERICAN PACIFIC CORPORATION

Condensed Consolidated Balance Sheets

(unaudited)



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|                                                    |  | June 30, 2003 |            | September 30,2002
|--------------------------------------------------- |  | ------------- | ---------- | -----------------
|                                                   
|ASSETS                                              |  |               |            |                  
|Current Assets:                                     |  |               |            |                  
|Cash and Cash Equivalents                           |  | $             | 14,337,000 |                  
|Accounts and Notes Receivable                       |  |               | 12,506,000 |                  
|Related Party Notes and Accrued Interest Receivable |  |               | 334,000    |                  
|Inventories                                         |  |               | 13,972,000 |                  
|Prepaid Expenses and Other Assets                   |  |               | 1,128,000  |                  
|Deferred Income Taxes                               |  |               | 400,000    |                  
|                                                    |  |               |            |                  
|Total Current Assets                                |  |               | 42,677,000 |                  
|Property, Plant and Equipment, Net                  |  |               | 9,375,000  |                  
|Intangible Assets, Net                              |  |               | 18,092,000 |                  
|Investment in and Advances to Joint Venture         |  |               | 10,760,000 |                  
|Deferred Income Taxes                               |  |               | 9,960,000  |                  
|Other Assets, Net                                   |  |               | 4,036,000  |                  
|                                                    |  |               |            |                  
|TOTAL ASSETS                                        |  | $             | 94,900,000 |                  
|                                                    |  |               |            |                  



See the accompanying Notes to
Condensed Consolidated Financial Statements.



5



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AMERICAN PACIFIC CORPORATION

Condensed Consolidated Balance Sheets

(unaudited)



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|                                           |  | June 30, 2003 |             |   | September 30,2002 |  
|------------------------------------------ |  | ------------- | ----------- | - | ----------------- | -
|                                          
|LIABILITIES AND SHAREHOLDERS EQUITY       |  |               |             |   |                   |  
|Current Liabilities:                       |  |               |             |   |                   |  
|Accounts Payable and Accrued Liabilities   |  | $             | 4,906,000   |   |                   | $
|                                           |  |               |             |   |                   |  
|Total Current Liabilities                  |  |               | 4,906,000   |   |                   |  
|Long-Term Debt                             |  |               |             |   |                   |  
|Other Long-Term Liabilities                |  |               | 5,245,000   |   |                   |  
|                                           |  |               |             |   |                   |  
|TOTAL LIABILITIES                          |  |               | 10,151,000  |   |                   |  
|                                           |  |               |             |   |                   |  
|Commitments and Contingencies              |  |               |             |   |                   |  
|Warrants to Purchase Common Stock          |  |               | 3,569,000   |   |                   |  
|                                           |  |              
|Shareholders Equity:                      |  |               |             |   |                   |  
|Common Stock                               |  |               | 898,000     |   |                   |  
|Capital in Excess of Par Value             |  |               | 83,377,000  |   |                   |  
|Retained Earnings                          |  |               | 12,293,000  |   |                   |  
|Treasury Stock                             |  |               | (14,135,000 | ) |                   |  
|Accumulated Other Comprehensive Loss       |  |               | (1,253,000  | ) |                   |  
|                                           |  |               |             |   |                   |  
|Total Shareholders Equity                 |  |               | 81,180,000  |   |                   |  
|                                           |  |               |             |   |                   |  
|TOTAL LIABILITIES AND SHAREHOLDERS EQUITY |  | $             | 94,900,000  |   |                   | $
|                                           |  |               |             |   |                   |  



See the accompanying Notes to
Condensed Consolidated Financial Statements.



6



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AMERICAN PACIFIC CORPORATION

Condensed Consolidated Statements of Cash Flows

(unaudited)



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|                                                  |  | For the three months ended June 30, |            |   | For the nine months ended June 30, |  
|------------------------------------------------- |  | ----------------------------------- | ---------- | - | ---------------------------------- | -
|                                                  |  | 2003                                |            |   | 2002                               |  
|                                                  | 
|Cash Flows For Operating Activities               |  | $                                   | (5,040,000 | ) |                                    | $
|                                                  |  |                                     |            |   |                                    |  
|Cash Flows For Investing Activities:              |  |                                     |            |   |                                    |  
|Capital Expenditures                              |  |                                     | (748,000   | ) |                                    |  
|Investment in and Advances to Joint Venture       |  |                                     | 123,000    |   |                                    |  
|Real Estate Equity Returns                        |  |                                     |            |   |                                    |  
|                                                  |  |                                     |            |   |                                    |  
|Net Cash For Investing Activities                 |  |                                     | (625,000   | ) |                                    |  
|                                                  |  |                                     |            |   |                                    |  
|Cash Flows For Financing Activities:              |  |                                     |            |   |                                    |  
|Debt Related Payments                             |  |                                     |            |   |                                    |  
|Issuance of Common Stock                          |  |                                     |            |   |                                    |  
|Treasury Stock Acquired                           |  |                                     |            |   |                                    |  
|                                                  |  |                                     |            |   |                                    |  
|Net Cash For Financing Activities                 |  |                                     |            |   |                                    |  
|                                                  |  |                                     |            |   |                                    |  
|Net Change in Cash and Cash Equivalents           |  |                                     | (5,665,000 | ) |                                    |  
|Cash and Cash Equivalents, Beginning of Period    |  |                                     | 20,002,000 |   |                                    |  
|                                                  |  |                                     |            |   |                                    |  
|Cash and Cash Equivalents, End of Period          |  | $                                   | 14,337,000 |   |                                    | $
|                                                  |  |                                     |            |   |                                    |  
|Supplemental Disclosure of Cash Flow Information: |  |                                     |            |   |                                    |  
|Interest Paid                                     |  | $                                   |            |   |                                    | $
|Income Taxes Paid                                 |  | $                                   | 1,000,000  |   |                                    | $
|                                                  |  |                                     |            |   |                                    |  



See the accompanying Notes to
Condensed Consolidated Financial Statements.





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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED):



1.     BASIS OF REPORTING AND SIGNIFICANT ACCOUNTING POLICIES



The accompanying Condensed Consolidated Financial
Statements are unaudited and do not include certain information and disclosures included in the Annual Report on Form 10-K of American Pacific Corporation (the Company, we, us, or our). Such statements
should therefore be read in conjunction with the Consolidated Financial Statements and Notes thereto included in our Annual Report on Form 10-K for the year ended September 30, 2002. In our opinion, however, all adjustments necessary for a fair
presentation have been included. The operating results and cash flows for the three-month and nine-month periods ended June 30, 2003 are not necessarily indicative of the results that will be achieved for the full fiscal year or for future periods.



A summary of our significant accounting policies is included
in our Annual Report on Form 10-K for the year ended September 30, 2002. We believe that the application of these policies on a consistent basis enables us to provide the users of the financial statements with useful and reliable information about
our operating results and financial condition.



The preparation
of financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent
assets and liabilities and the reported amounts of revenue and expenses. Judgments and assessments of uncertainties are required in applying our accounting policies in many areas. For example, key assumptions and estimates are particularly important
when determining our projected liabilities for pension benefits, useful lives for depreciable and amortizable assets, and the recoverability of deferred tax assets and long-lived assets, including intangible assets. Other areas in which significant
uncertainties exist include, but are not limited to, costs that may be incurred in connection with environmental matters and the resolution of litigation and other contingencies. Actual results will inevitably differ to some extent from estimates on
which our Condensed Consolidated Financial Statements were prepared.



During the first quarter of fiscal 2002, we adopted Statement of Financial Accounting Standards (SFAS) No. 142, Goodwill and Other Intangible Assets. The adoption of SFAS No. 142 did not have a material effect on our
results of operations or financial position. Under the provisions of SFAS No. 142, the intangible asset relating to our perchlorate acquisition (the Acquisition) in fiscal 1998 will continue to be amortized under its originally assigned
life of ten years. At June 30, 2003, this intangible asset had a gross carrying value of approximately $39.0 million and accumulated amortization of approximately $20.9 million. Amortization expense was approximately $2.9 million during each of the
nine months ended June 30, 2003 and 2002. Amortization expense is estimated to amount to $3.9 million in each of the years during the five-year period ending September 30, 2007.



During the first quarter of fiscal 2003, we adopted SFAS No. 145. SFAS No. 145 requires that gains and losses from
extinguishment of debt be classified as extraordinary items only if they meet the criteria in Accounting Principles Board Opinion No. 30 (Opinion No. 30). Applying the provisions of Opinion No. 30 will distinguish transactions that are
part of any entitys recurring operations from those that are unusual and infrequent that meet the criteria for classification as an extraordinary item. We have reclassified previously reported extraordinary losses on debt extinguishments to a
separate line item above the caption Income Before Income Taxes in our Condensed Consolidated Income Statements.



Our only component of other comprehensive income (loss) represents a minimum pension liability adjustment. The change in such adjustment was approximately
$577,000 (net of applicable income



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taxes) during the nine-month period ended June 30, 2003. Comprehensive income for the three-month and
nine-month periods ended June 30, 2003, was as follows:



|                                     |  |                                
|------------------------------------ |  | -------------------------------
|                                     |  | Three Months EndedJune 30, 2003
|Net income                           |  | $                              
|Minimum pension liability adjustment |  |                                
|                                     |  |                                
|Comprehensive income                 |  | $                              
|                                     |  |                                



2.     NET
INCOME PER COMMON SHARE



Basic per share amounts are
calculated by dividing net income by average shares outstanding during the period. Diluted per share amounts are calculated by dividing net income by average shares outstanding plus the dilutive effect of common share equivalents. The effect of
outstanding stock options and warrants to purchase approximately 2.9 million shares of common stock were not included in diluted per share calculations during the three-month and nine-month periods ended June 30, 2003 and 2002, since the average
exercise price of such options and warrants was greater than the average market price of our common stock during these periods.



In December 2002, SFAS No. 148, Accounting for Stock-Based Compensation-Transition and Disclosure, which amends SFAS No. 123, Accounting
for Stock-Based Compensation was issued. SFAS 148 is effective for fiscal years ending after December 15, 2002, and gives further guidance regarding methods of transition for a voluntary change to the fair-value-based method of accounting for
stock-based employee compensation and regarding disclosure requirements as previously defined in SFAS 123. We have elected to follow APB No. 25, Accounting for Stock Issued to Employees and related interpretations in accounting for our
stock options. Under APB No. 25, if the exercise price of our employee stock options equals the market price of the underlying stock on the date of the grant, no compensation expense is recognized.



We granted stock options to our employees and directors in fiscal 2001 and
2003. The effect on net income and earnings per share if we had applied the fair value recognition provisions of SFAS No. 123 to our stock option grants would have been as follows:



|                                                                                                      |  |                           
|----------------------------------------------------------------------------------------------------- |  | --------------------------
|                                                                                                      |  | Three Months Ended June 30
|                                                                                                      |  | 2003                      
|Net income:                                                                                           |  |                           
|As reported                                                                                           |  | $                         
|Total stock based employee compensation expense using the fair value based method, net of related tax |  |                           
|                                                                                                      |  |                           
|Pro forma                                                                                             |  | $                         
|                                                                                                      |  |                           
|Diluted earnings per share:                                                                           |  |                           
|As reported                                                                                           |  | $                         
|Pro forma                                                                                             |  | $                         
|                                                                                                      |  |                           
|Basic earnings per share:                                                                             |  |                           
|As reported                                                                                           |  | $                         
|Pro forma                                                                                             |  | $                         
|                                                                                                      |  |                           





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The estimated weighted-average fair value of the individual options granted during the fiscal years 2003
and 2001 was $3.68 and $2.57 respectively, on the date of grant. The fair values for these years were determined using a Black-Scholes option-pricing model with the following assumptions:



|                        | 
|----------------------- | 
|                        | 
|Dividend yield          | 
|Volatility              | 
|Risk-free interest rate | 
|Expected life           | 





3.    INVENTORIES



Inventories consist of the following:



|                           | 
|-------------------------- | 
|                           | 
|Work-in-process            | 
|Raw materials and supplies | 
|                           | 
|Total                      | 
|                           | 



4.    DEBT



On March 1, 2003, we redeemed all of our outstanding
91⁄4% Senior Unsecured Notes (the Notes). The redemption was at a price of 102.313% of the principal amount of the Notes, plus accrued interest to the date of redemption, or in the amount of approximately $43.4 million. We recognized
a loss on the redemption of $1.5 million, including a non-cash charge of $0.6 million to write-off remaining debt issue costs.



In December 2002, we entered into a revolving line of credit with a bank. The maximum available credit under the line is the lesser of $10.0 million, or
the sum of 85% of eligible receivables and 50% of qualifying inventory. No funds have been borrowed under the line of credit.





5.    COMMITMENTS AND CONTINGENCIES



In 1997, the Southern Nevada Water Authority detected trace amounts of
perchlorate chemicals in Lake Mead and the Las Vegas Wash, bodies of water near our real estate development property in Henderson, Nevada (in the Las Vegas area). Lake Mead is a source of drinking water for the City of Las Vegas, neighboring areas
and certain areas of metropolitan Southern California. Perchlorate chemicals (including ammonium perchlorate, or AP) are a potential health concern because they can interfere with the production of a growth hormone by the thyroid gland, although
they are not currently included in the list of hazardous substances compiled by the EPA. However, perchlorates have been added to the EPAs Contaminant Candidate List and will likely be regulated. We manufactured perchlorate chemicals at a
facility on the Henderson site until May 1988, after which we relocated our perchlorate production to our current facilities in Iron County, Utah. For many years, Kerr-McGee Chemical, LLC (Kerr-McGee) operated a perchlorate production
facility at a site near our Henderson site.



The Water
Authoritys testing has shown perchlorate concentrations of 8 to 14 parts per billion (ppb) in Clark County drinking water. In response to this discovery, we have engaged environmental consultants to drill monitor wells in order to
characterize ground water at and in the vicinity of the Henderson site. The results of our tests have shown perchlorate concentrations in the ground water at the Henderson property ranging from 0 to approximately 750,000 ppb at certain monitoring
wells. Since 1998, we have spent in excess of $5.0 million on the investigation and evaluation of the source or



10



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sources of these trace amounts, possible environmental impacts, potential remediation methods, and a
pilot remediation process. Our ground water characterization investigations indicate that the ground water containing perchlorate at and around our former Henderson manufacturing site has not reached Lake Mead and, accordingly, has not been
introduced into any source of drinking water. Based upon flow rates and modeling techniques, such ground water is not expected to reach a source of drinking water for at least 10 years. However, we have begun a pilot remediation testing process to
treat groundwater containing perchlorate at and near the Henderson site using a biological in situ method. To date, the pilot remediation process is proceeding in accordance with our plan and has shown promising results, but there can be no
assurance as yet as to its efficacy.



The EPA is conducting a
risk assessment for the purpose of recommending a proposed reference dose for perchlorates. The EPA has recommended a preliminary reference dose that would equate to 1 ppb in drinking water. Certain states have set preliminary levels as low as 1
ppb. To our knowledge, virtually all independent and qualified experts believe that such preliminary levels have been arbitrarily established and are not based upon credible science. Public statements currently indicate that the EPA intends to
complete its risk assessment and make a final reference dose recommendation, although we do not know when that will occur. We are cooperating with Federal, State and local agencies, and with Kerr-McGee and other interested firms, in the
investigation and evaluation of the source or sources of these trace amounts, possible environmental impacts, and potential remediation methods. Until these investigations and evaluations have reached definitive conclusions, it will not be possible
for us to determine the extent to which, if at all, we may be called upon to contribute to or assist with future remediation efforts, or the financial impact, if any, of such cooperation, contribution or assistance. Accordingly, no accrual for
potential costs has been made in our Condensed Consolidated Financial Statements. However, the lower the level that the final reference dose is established, the more severe the negative impact will likely be on our financial condition, results of
operations and our ability to manufacture and handle perchlorate chemicals.



In January 2002, American Azide Corporation (AAC), our indirect wholly-owned subsidiary, was named as a defendant in a complaint filed in the Superior Court of the State of California for the County of Los
Angeles  Southwest District. The complaint named a number of defendants, including AACs principal sodium azide customer, Autoliv ASP, Inc. (Autoliv). The complaint alleged, among other things, toxic injuries as a
result of the deployment of an airbag. In the third quarter of fiscal 2003, we paid less than $50,000 to settle our part of this complaint.



In January 2002, we received a demand for payment from Frontier Insurance Company (Frontier) of approximately $1.7 million as a result of the
failure of a local developer to complete a project that had been bonded by Frontier. The local developer was an owner of a company that is the managing member of a Limited Liability Company (LLC) in which we are also a member. The LLC
recently completed development of a residential project and is winding down its operations. In 1995, we entered into indemnity agreements relating to the development of this residential joint project. In February 2002, we (along with other
plaintiffs) filed a complaint for declaratory relief in District Court, Clark County, Nevada. The complaint seeks a judgment declaring that the indemnity agreements have been terminated and that we have no liability to Frontier.



On April 11, 2002, an accident occurred at our sodium azide plant that
resulted in the death of an employee. No other employees were involved and there was no significant damage to the facility. We have been working with Utah OSHA to gather evidence of the exact cause and origin of the incident. We have received fines
from Utah OSHA relating to this accident, but believe that the ultimate payment by us for these fines will be less than $200,000. In March 2003, we were named in a complaint filed in the District Court of Clark County, Nevada. The complaint related
to the accident referred to above and alleged, among other things, negligence, breach of warranties and product liability. In the third quarter of fiscal 2003, the complaint against us was dismissed.



11



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We have been and are also involved in other lawsuits. We believe that these other lawsuits, individually
and in the aggregate, will not have a material adverse effect on our financial condition or results of operations.



As of June 30, 2003, we had approximately $1.8 million in outstanding standby letters of credit. These letters of credit principally secure performance of
certain environmental protection equipment sold by us and payment of fees associated with the delivery of natural gas and power.





6.    SEGMENT INFORMATION



Our three reportable operating segments are specialty chemicals,
environmental protection equipment and real estate sales and development. These segments are based upon business units that offer distinct products and services, are operationally managed separately and produce products using different production
methods.



We evaluate the performance of each operating segment
and allocate resources based upon operating income or loss before an allocation of interest expense and income taxes. The accounting policies of each reportable operating segment are the same as ours.



Our specialty chemicals segment manufactures and sells perchlorate chemicals
used principally in solid rocket propellants for the space shuttle and defense programs, sodium azide used principally in the inflation of certain automotive airbag systems and Halotron®, clean gas fire extinguishing agents designed to replace halons. The specialty chemicals segment production facilities are located in Iron County, Utah.



Our environmental protection equipment operating segment designs,
manufactures and markets systems for the control of noxious odors, the disinfection of waste water streams and the treatment of seawater. These operations are also located in Iron County, Utah.



At June 30, 2003, our real estate operating segment had approximately 25
remaining acres of improved land in the Gibson Business Park near Las Vegas, Nevada, that is held for development and sale. Recent activity has consisted of sales of land parcels.



We also hold an equity method investment in a joint venture entity that owns a commercial explosives business. (See Note 7.)



We had two customers that accounted for 10% or more of our
total sales during at least one of the nine-month periods ended June 30, 2003 and 2002. Sales to these customers during the nine months ended June 30 were as follows:



|         |  |              |  |                                
|-------- |  | ------------ |  | -------------------------------
|         |  |              |  | Nine Months Ended June 30, 2003
|Customer |  | Chemical     |  |                                
|A        |  | Perchlorates |  | $31,061,000                    
|B        |  | Azide        |  | $   1,647,000                  



Additional
information about our operations, by segment, for the three months and nine months ended June 30, is provided below.



12



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|                                  | 
|--------------------------------- | 
|                                  | 
|                                  | 
|Revenues:                         | 
|Specialty chemicals               | 
|Environmental protection          | 
|Real estate                       | 
|                                  | 
|Total revenues                    | 
|                                  | 
|Operating income (loss):          | 
|Specialty chemicals               | 
|Environmental protection          | 
|Real estate                       | 
|                                  | 
|Total segment operating income    | 
|Unallocated net (expenses) income | 
|                                  | 
|Income before income taxes        | 
|                                  | 





7.    INVESTMENT IN AND ADVANCES TO JOINT VENTURE



On December 11, 2002, we made an investment of approximately $10.7 million in Energetic Systems Inc., LLC (ES), a joint venture entity formed
to acquire and manage a commercial explosives business.



The
form of our investment in ES represents a combination of term and revolving debt, preferred stock and common equity. The term and revolving debt amount to $9.7 million at June 30, 2003, and bear interest at 8% per annum. The term debt, in the amount
of $7.0 million, is payable in equal annual installments over the next ten years. During the nine-month period ended June 30, 2003, net interest and other includes approximately $0.4 million in interest income relating to the term and revolving
debt.



The investment was made and is held by our newly
organized, wholly-owned subsidiary, Energetic Additives Inc., LLC (EA). EA holds a 50% equity interest in ES. The remaining 50% equity interest is held by a private entity with extensive experience in the explosives industry.



On December 11, 2002, ES completed the purchase of certain assets and the
assumption of certain liabilities of Slurry Explosives Corporation and Universal Tech Corporation (collectively SEC/UTC), subsidiaries within LSB Industries, Inc. SEC/UTC is involved in the manufacture and distribution of commercial
explosives, and is also a research, development and testing organization specializing in the development and testing of products and processes for commercial explosives and energetic compounds. We have accounted for our investment in ES using the
equity method of accounting.



At June 30, 2003, ES had total
assets and equity of approximately $11.0 million and $0.8 million, respectively. Since the purchase on December 11, 2002, ES had revenues of approximately $7.0 million and incurred a net loss of approximately $0.5 million. Our share of the net loss
is included in net interest and other in the accompanying Condensed Consolidated Income Statements.





8.    DIVIDEND AND STOCK REPURCHASE PROGRAM



In January 2003, our Board of Directors approved a Dividend and Stock Repurchase Program (the Program). The
Program is designed to allocate a portion of our annual free cash flows (as calculated) for the purposes of paying cash dividends and repurchasing our Common Stock. The amount available for these purposes each fiscal year will equal 25% of our
annual cash flows from operating activities less our annual capital expenditures, plus the amount of cash received from the issuance of our Common Stock resulting from the exercise of stock options. We will subtract the total amount spent on the



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repurchase of our Common Stock (if any) during the fiscal year from the total amount available under the
Program, and pay the resultant amount as an annual dividend to our shareholders.



Any dividends under the Program will likely be declared and paid in November following our September 30 fiscal year end and the completion of our annual audit. Had the Program been in place during fiscal 2002,
approximately $5.8 million would have been available for dividends and the repurchase of Common Stock. Approximately $0.3 million was spent during the fiscal year 2002 on the repurchase of our Common Stock. The remaining $5.5 million, or
approximately $0.76 per share, would have been declared and paid as a cash dividend in November 2002.



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MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS



OVERVIEW



We are principally engaged in the production of AP for the aerospace and national defense industries. In addition, we produce and sell
sodium azide, the primary component of a gas generant used in certain automotive airbag safety systems, and Halotron®, a chemical used in fire
extinguishing systems ranging from portable fire extinguishers to airport firefighting vehicles. The perchlorate, sodium azide and Halotron® facilities are located
on our property in Southern Utah and the chemicals produced and sold at these facilities collectively represent our specialty chemicals segment. Our other lines of business include the development of real estate in Nevada and the production of
environmental protection equipment, including waste and seawater treatment systems. As discussed in Note 7 to our Condensed Consolidated Financial Statements, we also hold a 50% equity interest in an entity that manufactures commercial explosives.



Significant Accounting Policies.    A
summary of our significant accounting policies is included in Note 1 to our Condensed Consolidated Financial Statements. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of
America requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities and the reported amounts of revenue and expenses. Judgments and assessments of
uncertainties are required in applying our accounting policies in many areas. For example, key assumptions and estimates are particularly important when determining our projected liabilities for pension benefits, useful lives for depreciable and
amortizable assets, and the recoverability of deferred tax assets and long-lived assets, including intangible assets. Other areas in which significant uncertainties exist include, but are not limited to, costs that may be incurred in connection with
environmental matters and the resolution of litigation and other contingencies. Actual results will inevitably differ to some extent from estimates on which our Condensed Consolidated Financial Statements were prepared.



Sales and Operating Revenues.    Sales of our
perchlorate chemical products accounted for approximately 82% and 72% of revenues during the nine-month periods ended June 30, 2003 and 2002, respectively. In general, demand for our top propellant grade AP (Grade I AP) is driven by a
relatively small number of Department of Defense (DOD) and National Aeronautics and Space Administration (NASA) contractors; as a result, any one individual AP customer usually accounts for a significant portion of our
revenues.



In connection with the Acquisition, we entered into an agreement
with the Thiokol Propulsion Division (Thiokol) of Alcoa with respect to the supply of Grade I AP through the year 2008. The agreement, as amended, provides that during its term Thiokol will make all of its Grade I AP purchases from us.
In addition to the Grade I AP purchased from us, Thiokol may use AP inventoried by it in prior years. The agreement also establishes a pricing matrix under which Grade I AP unit prices vary inversely with the quantity of Grade I AP sold by us to all
of our customers. Grade I AP unit prices in the matrix at all quantity levels escalate each year through fiscal 2003 and, in fiscal 2004, are adjusted downward by approximately 20%. Such downward adjustment will have the effect of reducing revenues
and operating cash flows on Grade I AP sold to Thiokol by at least 20% in fiscal 2004. After the adjustment, Grade I AP unit prices will escalate each year from fiscal 2005 through fiscal 2008.



In connection with the Acquisition, we entered into an agreement with Alliant Techsystems,
Inc. (Alliant) to extend an existing agreement through the year 2008. The agreement establishes prices for any Grade I AP purchased by Alliant from us during the term of the agreement as extended. Under this agreement, Alliant agrees to
use its efforts to cause our Grade I AP to be qualified on all new and current programs served by Alliants Bacchus Works. During 2001, Alliant acquired Thiokol. We have agreed with Alliant that the individual agreements in place prior to
Alliants acquisition of Thiokol remain in place. All Thiokol programs existing at the time of the Alliant acquisition (principally the Space Shuttle and Minuteman) will continue to be priced under the Thiokol Agreement. All Alliant programs
(principally the Delta, Pegasus and Titan) will be priced under the Alliant Agreement.



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Demand for perchlorates declined throughout the 1990s. In 1998, supply capacity was substantially in excess of
demand levels and, in an attempt to rationalize the industry, we consummated the Acquisition. Subsequent to the Acquisition in 1998, our annual sales volumes of Grade I AP were approximately 20.2 million, 16.4 million, 12.6 million and 16.4 million
pounds during the fiscal years ended September 30, 1999, 2000, 2001 and 2002, respectively. Prior to the tragic Space Shuttle Columbia disaster, and based principally upon information we had received from our major customers, we estimated that
annual demand for Grade I AP would range between 16.0 million and 20.0 million pounds over the next five years. We have not been instructed to curtail production and we are producing and delivering product for the Space Shuttle program under our
fiscal 2003 purchase order with Alliant. Annual demand levels for Grade I AP over the next several years, however, may be significantly impacted by decisions regarding the Space Shuttle program. The Space Shuttle program has recently accounted for
between 30% to 40% of our annual revenues. Any decision to limit or cancel Space Shuttle flights over an extended period of time would have a significant adverse effect on our results of operations and financial condition.



We also produce and sell many types of perchlorate chemicals other than Grade I AP. These
include a number of other grades of AP, and different types and grades of sodium and potassium perchlorate (other perchlorates). Other perchlorates have a wide range of prices per pound, depending upon the type and grade of the product.
We have recently experienced a change in the sales mix of other perchlorates, from lower price per pound products to higher price and margin per pound products. For example, shipments of other perchlorates accounted for annual sales of between $2.6
million and $3.2 million during the fiscal years 1999, 2000 and 2001. In fiscal 2002, shipments of other perchlorates accounted for approximately $6.9 million in sales, although there was no substantial change in volumes. During the nine-months
ended June 30, 2003, sales of other perchlorates amounted to approximately $6.6 million. Other perchlorates are used in a variety of applications, including munitions, explosives, propellants and initiators. Some of these applications are in a
development phase, and there can be no assurance that sales of the higher price and higher margin products will continue. A significant reduction in these sales would have a material adverse effect on our results of operations and financial
condition.



Sodium azide sales accounted for approximately 7% and 14% of
revenues during the nine-month periods ended June 30, 2003 and 2002, respectively. Worldwide sodium azide demand has declined significantly during the last three fiscal years. Our sodium azide sales volumes declined approximately 17% in both fiscal
2001 and 2000, and declined further by approximately 10% during fiscal 2002. Worldwide demand for sodium azide is substantially less that worldwide supply. Based principally upon market information received from airbag inflator manufacturers, we
expect sodium azide use to continue to decline and that inflators using sodium azide will be phased out over some period of time.



Sales of Halotron® amounted to approximately 4% of revenues during both of
the nine-month periods ended June 30, 2003 and 2002. Halotron® is designed to replace halon-based fire extinguishing systems. Accordingly, demand for
Halotron® depends upon a number of factors including the willingness of consumers to switch from halon-based systems, the effects of competing products, as well
as existing and potential governmental regulations.



Real estate and related
sales amounted to approximately 3% and 9% of revenues during the nine-month periods ended June 30, 2003 and 2002, respectively. The nature of real estate development and sales is such that we are unable reliably to predict any pattern of future real
estate activity. Real estate sales are currently estimated to be completed by the end of fiscal 2004. In addition, we do not expect to receive any significant cash returns in the future from our interest in our residential joint venture project.



Environmental protection equipment sales accounted for approximately 4% and 1%
of revenues during the nine-month periods ended June 30, 2003 and 2002, respectively.



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Cost of Sales.    The principal elements comprising our cost of sales are raw
materials, electric power, labor, manufacturing overhead, depreciation and amortization and the book basis of real estate sold. The major raw materials used by in our production processes are graphite, sodium chlorate, ammonia, hydrochloric acid,
sodium metal, nitrous oxide and HCFC 123. Significant increases in the cost of raw materials may have an adverse impact on margins if we are unable to pass along such increases to our customers.



Prices paid for raw materials have historically been relatively stable, although we have
experienced cost increases on certain raw materials, particularly on HCFC 123, used in the production of Halotron®. All the raw materials used in
our manufacturing processes have been available in commercial quantities, and we have had no difficulty obtaining necessary raw materials. A substantial portion of the total cash costs of operating our specialty chemical plants, consisting mostly of
labor and overhead, are largely fixed in nature.



Net
Income.    Although our net income and diluted net income per share have not been subject to seasonal fluctuations, they have been and are expected to continue to be subject to variations from quarter to quarter and
year to year due to the following factors, among others: (i) as discussed in Note 5 to the Condensed Consolidated Financial Statements, we may incur material costs associated with certain litigation and contingencies; (ii) the timing of declining
real estate related sales is not predictable; (iii) weighted average common and common equivalent shares for purposes of calculating diluted net income per share are subject to significant fluctuations based upon changes in the market price of our
Common Stock due to outstanding warrants and options; (iv) the results of periodic reviews of impairment issues; (v) the ability to pass on increases in raw material costs to customers; and (vi) the magnitude, pricing and timing of perchlorate,
sodium azide, Halotron®, and environmental protection equipment orders in the future is uncertain. (See Forward Looking Statements/Risk Factors below.)



RESULTS OF OPERATIONS



Three Months Ended June 30, 2003 Compared to Three Months Ended June 30, 2002



Sales and Operating
Revenues.    Sales decreased $4.7 million, or 25%, during the three months ended June 30, 2003, to $13.8 million from $18.5 million in the corresponding period of the prior year. This decrease was principally
attributable to decreased specialty chemicals sales, mostly as a result of lower perchlorate and sodium azide sales.



Cost of Sales.    Cost of sales decreased $2.9 million, or 26%, in the three months ended June 30, 2003, to $8.3 million from
$11.2 million in the corresponding period of the prior year. As a percentage of sales, cost of sales was 60% during both of the three-month periods ended June 30, 2003 and 2003. The decrease in cost of sales was primarily due to a decrease in
specialty chemicals sales volumes.



Operating
Expenses.    Operating (selling, general and administrative) expenses decreased $0.3 million, or 8%, in the three months ended June 30, 2003, to $3.3 million from $3.6 million in the corresponding period of 2002. (See
below).



Net Interest and
Other.    Net interest and other decreased to income of $0.2 million in the three months ended June 30, 2003, from net expense of $0.8 million in the corresponding period of the prior year, primarily as a result of
the redemption of the Notes.



Nine Months Ended June 30, 2003 Compared to
Nine Months Ended June 30, 2002



Sales and Operating
Revenues.    Sales decreased $3.3 million, or 6%, during the nine months ended June 30, 2003, to $48.4 million from $51.7 million in the corresponding period of the prior year. The decrease in sales was primarily
attributable to a decrease in specialty chemicals sales and real estate sales. The decrease in specialty chemicals sales was principally due to a significant decrease in sodium azide sales.





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Cost of Sales.    Cost of sales decreased $5.4 million, or 17%, in the nine
months ended June 30, 2003, to $27.2 million from $32.6 million in the corresponding period of the prior year. As a percentage of sales, cost of sales was 56% during the first nine months of this fiscal year as compared to 63% during the same period
last year. These decreases were primarily due to a change in the mix of products sold in our specialty chemicals segment.



Operating Expenses.    Operating expenses were $10.3 million during the nine-month period ended June 30, 2003
compared to $9.7 million in the corresponding period of the prior year. This increase was primarily due to the increased costs associated with perchlorate chemicals found in Lake Mead (see Note 5 to our Condensed Consolidated Financial Statements),
and an increase in the cost of all lines of insurance coverage. These increases were partially offset by decreased spending on corporate development activities.



Net Interest and Other.    Net interest and other decreased to $1.3 million in the nine months ended June 30, 2003, from $2.5
million in the corresponding period of the prior year, principally as a result of the redemption of the Notes.



Segment Operating Income.    Operating income (loss) of our industry segments during the nine-month periods ended June 30, 2003 and 2002 was as follows:



|                                   | 
|---------------------------------- | 
|                                   | 
|Specialty chemicals                | 
|Environmental protection equipment | 
|Real Estate                        | 
|                                   | 
|Total                              | 
|                                   | 



The increase in operating income of
our specialty chemicals segment was primarily attributable to an increase in perchlorate chemicals sales, offset in part by a substantial decrease in sodium azide sales. The decrease in operating income of our real estate segment (which is winding
down) was principally due to a decrease in sales.



INFLATION



General inflation did not have a significant effect on our sales and operating revenues
or costs during the nine-month periods ended June 30, 2003 or 2002. General inflation may have an effect on gross profit in the future as certain of our agreements with AP and sodium azide customers require fixed prices, although certain of such
agreements contain escalation features that may somewhat insulate us from increases in costs associated with inflation.



LIQUIDITY AND CAPITAL RESOURCES



Cash flows from operating activities were $3.8 million and $0.2 million during the nine months ended June 30, 2003 and 2002, respectively. The increase in cash flows
resulted principally from an increase in operating income and a reduction in net working capital. We believe that our cash flows from operations and existing cash balances will be adequate for the foreseeable future to satisfy the needs of our
operations, including dividends and the repurchase of our Common Stock under the Program. However, the resolution of contingencies and litigation, and the timing, pricing and magnitude of orders for AP, sodium azide and Halotron®, may have an effect on the use and availability of cash.



As discussed in Note 7 to our Condensed Consolidated Financial Statements, in December 2002 we made an investment of approximately $10.7 million in ES. The form of our
investment in ES represents a combination of term and revolving debt, preferred stock and common equity.



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Capital expenditures were $2.8 million during the nine months ended June 30, 2003, compared to $1.4 million during the
same period last year. Capital expenditures relate primarily to specialty chemicals segment capital improvement projects and enterprise software.



During the nine-month period ended June 30, 2003, we repurchased $1.7 million of our Common Stock. As discussed in Note 8 to our Condensed Consolidated Financial
Statements, our Dividend and Stock Repurchase Program has become effective in the current fiscal year. Had the Program been in place during fiscal 2002, approximately $5.8 million would have been used to pay dividends and/or repurchase our Common
Stock.



As discussed in Note 4 to our Condensed Consolidated Financial
Statements, we redeemed the Notes on March 1, 2003. The total cost of the redemption, including interest on the Notes, was approximately $43.4 million. We recognized a loss on the redemption of the Notes of approximately $1.5 million. Assuming
current interest rates, redemption of the Notes will save us approximately $2.0 million in annual after-tax net interest costs.



As a result of the litigation and contingencies discussed in Note 5 to our Condensed Consolidated Financial Statements, we have incurred legal and other costs, and we may
incur material legal and other costs associated with the resolution of litigation and contingencies in future periods. Any such costs, to the extent borne by us and not recovered through insurance, would adversely affect our liquidity. We are
currently unable to predict or quantify the amount or range of such costs or the period of time over which such costs may be incurred.



Contractual Obligations and Commitments.    The following tables summarize our fiscal year (2003 is for the remaining three-month
period ending September 30, 2003) contractual obligations and commitments as of June 30, 2003.



|                              | 
|----------------------------- | 
|                              | 
|                              | 
|Contractual Obligations       | 
|Operating leases              | 
|SERP obligation               | 
|                              | 
|Total contractual obligations | 
|                              | 



|                        | 
|----------------------- | 
|                        | 
|                        | 
|Other Commitments       | 
|Letters of credit       | 
|                        | 
|Total other commitments | 
|                        | 



FORWARD-LOOKING STATEMENTS/RISK
FACTORS



Certain matters discussed in this Report may be forward-looking
statements that are subject to risks and uncertainties that could cause actual results to differ materially from those projected. Such risks and uncertainties include, but are not limited to, the risk factors set forth below.



The following risk factors, among others, may cause our operating results and/or financial
position to be adversely affected from time to time:



| | 1. |  | (a) Declining demand (including excess customer inventories) or downward pricing pressure for our products as a result of general or specific economic conditions, (b) governmental
budget decreases affecting the DOD or NASA, including the status of the Space Shuttle Program, that
| | -- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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would cause a decrease in demand for AP, (c) technological advances and improvements with respect to
existing or new competitive products causing a reduction or elimination of demand for AP and other perchlorates, sodium azide or Halotron®, (d) the ability and
desire of purchasers to change existing products or substitute other products for our products based upon perceived quality, environmental effects and pricing, and (e) the fact that perchlorate chemicals, sodium azide, Halotronñand our environmental products have limited applications and highly concentrated customer
bases.



|2. |  | The cost and effects of legal and administrative proceedings, settlements and investigations, particularly those investigations described in Note 5 to our Condensed Consolidated
Financial Statements, as well as the costs resulting from regulatory and environmental matters that may have a negative impact on sales or costs.
|-- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|3. |  | Our ability to profitably integrate, manage and operate new businesses and/or investments competitively and cost effectively.
|-- |  | -----------------------------------------------------------------------------------------------------------------------------



|4. |  | Competitive factors including, but not limited to, our limitations respecting financial resources and our ability to compete against companies with substantially greater resources,
significant excess market supply in the sodium azide market and in the perchlorate market, potential patent coverage issues, and the development or penetration of competing new products, particularly in the propulsion, airbag inflation, fire
extinguishing businesses, and explosives.
|-- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|5. |  | Underutilization of our manufacturing facilities resulting in production inefficiencies and increased costs, the inability to recover facility costs, reductions in margins, and
impairment issues.
|-- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|6. |  | Risks associated with our real estate activities, including, but not limited to, dependence upon the Las Vegas commercial, industrial real estate markets, changes in general or
local economic conditions and interest rate fluctuations affecting the availability and cost of financing.
|-- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|7. |  | The effects of, and changes in, trade, monetary and fiscal policies, laws and regulations and other activities of governments, agencies or similar organizations, including, but not
limited to, environmental, safety and transportation issues.
|-- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|8. |  | The dependence upon a single facility for the production of most of our products.
|-- |  | ---------------------------------------------------------------------------------



|9. |  | Provisions of our Certificate of Incorporation and By-laws and Series D Preferred Stock, and the dividend of preference stock purchase rights and related Rights Agreement, could
have the effect of making it more difficult for potential acquirors to obtain a control position in us.
|-- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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