**UNITED
        STATES**
 **SECURITIES
        AND EXCHANGE COMMISSION**
 **WASHINGTON,
        D.C. 20549**
 
 
 **FORM
        10-Q**
 
 
 
 (X)
        QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
        ACT
        OF 1934
 
 For
        the
        quarterly period ended September 30, 2006
 
 or
 
 (  )
        TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
        ACT
        OF 1934
 
 For
        the
        transition period from _______ to _______
 
 Commission
        File Number: 0-02612
 
 
 **LUFKIN
        INDUSTRIES, INC.**
 (Exact
        name of registrant as specified in its charter)
 
  **TEXAS**
                **75-0404410**(State
                    or other jurisdiction of incorporation or organization)
                (I.R.S.
                    Employer Identification No.)**601
                    SOUTH RAGUET, LUFKIN, TEXAS**
                **75904**(Address
                    of principal executive offices)
                (Zip
                    Code)
 
 **(936)
        634-2211**
 (Registrant’s
        telephone number, including area code)
 
  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 _X_ No____
 
 Indicate
        by check mark whether the registrant is a large accelerated filer, an
        accelerated filer, or a non-accelerated filer. See definition of “accelerated
        filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.
 Large
        accelerated filer  Accelerated filer X Non-accelerated filer
 
 Indicate
        by check mark whether the registrant is a shell company (as defined in Rule
        12b-2 of the Exchange Act).
 Yes
        ___No X
  There
        were 15,285,994 shares of Common Stock, $1.00 par value per share,
        outstanding as of November 3, 2006, not including 395,278 shares classified
        as
        Treasury Stock.
 **Table
            of Contents**
 
 PART
            I - FINANCIAL INFORMATION
 
 Item
            1. Financial Statements
 
 Item
            2. Management’s Discussion and Analysis of Financial
            Condition and Results of Operations
 
 Item
            3. Quantitative and Qualitative Disclosures About Market
            Risk
 
 Item
            4. Controls and Procedures
 
 
 PART
            II - OTHER INFORMATION
 
 Item
            1. Legal Proceedings
 
 Item
            1a. Risk Factor
 
 Item
            6. Exhibits
 
 SIGNATURES
 
 INDEX
            TO EXHIBITS
 
 EX-31.1
 
 EX-31.2
 
 EX-32.1
  EX-32.2
 **PART
        I -FINANCIAL INFORMATION**
 
 **Item
        1.**  **Financial
        Statements.**
  **LUFKIN
                      INDUSTRIES, INC.****CONSOLIDATED
                      BALANCE SHEETS (UNAUDITED)**(Thousands
                      of dollars, except share and per share data)September
                      30,
                  
                  December
                      31,Assets
                  
                  2006
                  
                  2005Current
                      Assets:Cash
                      and cash equivalents
                  
                  $
                  43,890
                  
                  $
                  25,822Receivables,
                      net
                  
                  
                  82,904
                  
                  
                  80,609Inventories
                  
                  
                  89,616
                  
                  
                  74,635Deferred
                      income tax assets
                  
                  
                  4,866
                  
                  
                  4,185Other
                      current assets
                  
                  
                  1,825
                  
                  
                  4,650Total
                      current assets
                  
                  
                  223,101
                  
                  
                  189,901Property,
                      plant and equipment, net
                  
                  
                  105,908
                  
                  
                  92,980Prepaid
                      pension costs
                  
                  
                  64,241
                  
                  
                  62,065Goodwill,
                      net
                  
                  
                  11,645
                  
                  
                  11,495Other
                      assets net
                  
                  
                  3,657
                  
                  
                  3,354Total
                      assets
                  
                  $
                  408,552
                  
                  $
                  359,795Liabilities
                      and Shareholders' EquityCurrent
                      liabilities:Short-term
                      notes payable
                  
                  $
                  -
                  
                  $
                  271Accounts
                      payable
                  
                  
                  25,526
                  
                  
                  20,794Accrued
                      liabilities:Payroll
                      and benefits
                  
                  
                  8,744
                  
                  
                  7,946Warranty
                      expenses
                  
                  
                  3,642
                  
                  
                  3,245Taxes
                      payable
                  
                  
                  7,581
                  
                  
                  14,391Other
                  
                  
                  10,682
                  
                  
                  9,626Total
                      current liabilities
                  
                  
                  56,175
                  
                  
                  56,273Deferred
                      income tax liabilities
                  
                  
                  30,616
                  
                  
                  31,049Postretirement
                      benefits
                  
                  
                  11,500
                  
                  
                  11,394Shareholders'
                      equity:Common
                      stock, $1.00 par value per share; 60,000,000 shares
                      authorized;15,285,994
                      and 15,124,644 shares issued and outstanding,
                      respectively
                  
                  
                  15,286
                  
                  
                  15,125Capital
                      in excess par
                  
                  
                  35,889
                  
                  
                  31,705Retained
                      earnings
                  
                  
                  259,907
                  
                  
                  216,427Treasury
                      stock, 395,278 and 399,278 shares, respectively, at cost
                  
                  
                  (4,083
                  )
                  
                  (4,124
                  )Accumulated
                      other comprehensive income:Cumulative
                      translation adjustment
                  
                  
                  3,262
                  
                  
                  1,946Total
                      shareholders' equity
                  
                  
                  310,261
                  
                  
                  261,079Total
                      liabilities and shareholders' equity
                  
                  $
                  408,552
                  
                  $
                  359,795
 
 See
        accompanying notes to consolidated financial statements.
  **LUFKIN
                      INDUSTRIES, INC.****CONSOLIDATED
                      STATEMENTS OF EARNINGS****AND
                      COMPREHENSIVE INCOME (UNAUDITED)**(In
                      thousands of dollars, except per share and share data)Three
                      Months Ended
                  
                  Nine
                      Months EndedSeptember
                      30,
                  
                  September
                      30,2006
                  
                  2005
                  
                  2006
                  
                  2005Sales
                  
                  $
                  158,802
                  
                  $
                  123,681
                  
                  $
                  439,882
                  
                  $
                  346,757Cost
                      of Sales
                  
                  
                  120,115
                  
                  
                  95,292
                  
                  
                  326,604
                  
                  
                  267,893Gross
                      Profit
                  
                  
                  38,687
                  
                  
                  28,389
                  
                  
                  113,278
                  
                  
                  78,864Selling,
                      general and administrative expenses
                  
                  
                  12,966
                  
                  
                  10,961
                  
                  
                  38,202
                  
                  
                  33,307Operating
                      income
                  
                  
                  25,721
                  
                  
                  17,428
                  
                  
                  75,076
                  
                  
                  45,557Interest
                      income
                  
                  
                  427
                  
                  
                  88
                  
                  
                  1,284
                  
                  
                  333Interest
                      expense
                  
                  
                  (55
                  )
                  
                  (43
                  )
                  
                  (118
                  )
                  
                  (123
                  )Other
                      income (expense), net
                  
                  
                  80
                  
                  
                  204
                  
                  
                  119
                  
                  
                  (174
                  )Earnings
                      before income tax provision
                  
                  
                  26,173
                  
                  
                  17,677
                  
                  
                  76,361
                  
                  
                  45,593Income
                      tax provision
                  
                  
                  8,779
                  
                  
                  6,364
                  
                  
                  26,345
                  
                  
                  16,413Net
                      earnings
                  
                  
                  17,394
                  
                  
                  11,313
                  
                  
                  50,016
                  
                  
                  29,180Change
                      in foreign currency translationadjustment
                  
                  
                  (127
                  )
                  
                  622
                  
                  
                  1,316
                  
                  
                  (604
                  )Total
                      comprehensive income
                  
                  $
                  17,267
                  
                  $
                  11,935
                  
                  $
                  51,332
                  
                  $
                  28,576Net
                      earnings per shareBasic
                  
                  $
                  1.17
                  
                  $
                  0.78
                  
                  $
                  3.37
                  
                  $
                  2.04Diluted
                  
                  $
                  1.15
                  
                  $
                  0.76
                  
                  $
                  3.31
                  
                  $
                  2.00Dividends
                      per share
                  
                  $
                  0.18
                  
                  $
                  0.09
                  
                  $
                  0.44
                  
                  $
                  0.27Weighted
                      average number of shares outstanding:Basic
                  
                  
                  14,885,395
                  
                  
                  14,537,195
                  
                  
                  14,822,904
                  
                  
                  14,268,920Diluted
                  
                  
                  15,145,128
                  
                  
                  14,886,528
                  
                  
                  15,110,807
                  
                  
                  14,587,003
 
 See
        accompanying notes to consolidated financial statements.
  **LUFKIN
                      INDUSTRIES INC.****CONSOLIDATED
                      STATEMENTS OF CASH FLOWS (UNAUDITED)**(In
                      thousands of dollars)Nine
                      Months EndedSeptember
                      30,2006
                  
                  2005Cash
                      flows form operating activities:Net
                      earnings
                  
                  $
                  50,016
                  
                  $
                  29,180Adjustments
                      to reconcile net earnings to cashprovided
                      by operating activities:Depreciation
                      and amortization
                  
                  
                  8,633
                  
                  
                  8,546Deferred
                      income tax provision
                  
                  
                  (1,211
                  )
                  
                  2,733Excess
                      tax benefit from share-based compensation
                  
                  
                  (2,810
                  )
                  
                  -Share-based
                      compensation expense
                  
                  
                  2,004
                  
                  
                  -Pension
                      income
                  
                  
                  (2,175
                  )
                  
                  (1,810
                  )Postretirement
                      benefits
                  
                  
                  106
                  
                  
                  379(Gain)
                      loss on disposition of property, plant and equipment
                  
                  
                  (63
                  )
                  
                  43Changes
                      in:Receivables,
                      net
                  
                  
                  (1,384
                  )
                  
                  (13,126
                  )Inventories
                  
                  
                  (14,330
                  )
                  
                  (32,395
                  )Other
                      current assets
                  
                  
                  2,869
                  
                  
                  (414
                  )Accounts
                      payable
                  
                  
                  3,736
                  
                  
                  5,521Accrued
                      liabilities
                  
                  
                  (4,686
                  )
                  
                  3,443Net
                      cash provided by operating activities
                  
                  
                  40,705
                  
                  
                  2,100Cash
                      flows from investing activites:Additions
                      to property, plant and equipment
                  
                  
                  (20,755
                  )
                  
                  (8,932
                  )Proceeds
                      from disposition of property, plant and equipment
                  
                  
                  140
                  
                  
                  142Increase
                      in other assets
                  
                  
                  (366
                  )
                  
                  (520
                  )Acquisition
                      of other companies
                  
                  
                  -
                  
                  
                  (3
                  )Net
                      cash used in investing activities
                  
                  
                  (20,981
                  )
                  
                  (9,313
                  )Cash
                      flows from financing activites:Proceeds
                      from (payments of) short-term notes payable
                  
                  
                  (285
                  )
                  
                  5,449Dividends
                      paid
                  
                  
                  (6,536
                  )
                  
                  (3,874
                  )Excess
                      tax benefit from share-based compensation
                  
                  
                  2,810
                  
                  
                  -Proceeds
                      from exercise of stock options
                  
                  
                  2,301
                  
                  
                  7,247Net
                      cash provided by (used in) financing activities
                  
                  
                  (1,710
                  )
                  
                  8,822Effect
                      of translation on cash and cash equivalents
                  
                  
                  54
                  
                  
                  (33
                  )Net
                      increase in cash and cash equivalents
                  
                  
                  18,068
                  
                  
                  1,576Cash
                      and cash equivalents at beginning of period
                  
                  
                  25,822
                  
                  
                  17,097Cash
                      and cash equivalents at end of period
                  
                  $
                  43,890
                  
                  $
                  18,673
 
 See
        accompanying notes to consolidated financial statements.
    **NOTES
        TO CONSOLIDATED FINANCIAL STATEMENTS**
 (Unaudited)
 
 **1.
        Basis of Presentation**
 The
        accompanying unaudited consolidated financial statements include the accounts
        of
        Lufkin Industries, Inc. and its consolidated subsidiaries (the “Company”) and
        have been prepared pursuant to the rules and regulations for interim financial
        statements of the Securities and Exchange Commission. Certain information
        in the
        notes to the consolidated financial statements normally included in financial
        statements prepared in accordance with accounting principles generally accepted
        in the United States of America has been condensed or omitted pursuant to
        these
        rules and regulations. In the opinion of management, all adjustments, consisting
        of normal recurring accruals unless specified, necessary for a fair presentation
        of the Company’s financial position, results of operations and cash flows for
        the interim periods included in this report have been included. For further
        information, including a summary of major accounting policies, refer to the
        consolidated financial statements and related footnotes included in the
        Company’s Annual Report on Form 10-K for the year ended December 31, 2005. The
        results of operations for the three and nine months ended September 30, 2006,
        are not necessarily indicative of the results that may be expected for the
        full
        fiscal year.
 
 **2.
        Receivables**
 The
        following is a summary of the Company’s receivable balances (in thousands of
        dollars):
  September
                    30,
                
                December
                    31,2006
                
                2005Accounts
                    receivable
                
                $
                83,095
                
                $
                80,602Notes
                    receivable
                
                
                480
                
                
                516Other
                    receivables
                
                
                203
                
                
                250Gross
                    receivables
                
                
                83,778
                
                
                81,368Allowance
                    for doubtful accounts receivable
                
                
                (394
                )
                
                (263
                )Allowance
                    for doubtful notes receivable
                
                
                (480
                )
                
                (496
                )Net
                    receivables
                
                $
                82,904
                
                $
                80,609
 
 Bad
        debt
        expense related to receivables was negative $0.1 million and $0.1 million
        in the three months ended September 30, 2006 and 2005, respectively, and
        $0.0
        million and $0.7 million in the nine months ended September 30, 2006 and
        2005, respectively.
  **3.
        Other Current Accrued Liabilities**
 The
        following is a summary of the Company's other current accrued liabilities
        balances (in thousands of dollars):
  September
                    30,
                
                December
                    31,2006
                
                2005Customer
                    prepayments
                
                $
                2,980
                
                $
                3,245Deferred
                    compensation plans
                
                
                5,189
                
                
                4,811Other
                    accrued liabilities
                
                
                2,513
                
                
                1,570Total
                    other current accrued liabilities
                
                $
                10,682
                
                $
                9,626
 
 **4.
        Property, Plant & Equipment**
 The
        following is a summary of the Company's property, plant and equipment balances
        (in thousands of dollars):
 September
                    30,
                
                December
                    31,2006
                
                2005Land
                
                $
                3,325
                
                $
                3,219Land
                    improvements
                
                
                7,970
                
                
                7,829Buildings
                
                
                74,361
                
                
                70,752Machinery
                    and equipment
                
                
                212,065
                
                
                195,730Furniture
                    and fixtures
                
                
                4,324
                
                
                4,076Computer
                    equipment and software
                
                
                13,890
                
                
                13,468Total
                    property, plant and equipment
                
                
                315,935
                
                
                295,074Less
                    accumulated depreciation
                
                
                (210,027
                )
                
                (202,094
                )Total
                    property, plant and equipment, net
                
                $
                105,908
                
                $
                92,980
 Depreciation
        expense related to property, plant and equipment was $3.0 million and $2.7
        million in the three months ended September 30, 2006 and 2005,
        respectively, and $8.6 million and $8.5 million in the nine months ended
        September 30, 2006 and 2005, respectively.
 
 **5.
        Inventories**
 Inventories
        used in determining cost of sales were as follows (in thousands of
        dollars):
 September
                    30,
                
                December
                    31,2006
                
                2005Gross
                    inventories @ FIFO:Finished
                    goods
                
                $
                8,208
                
                $
                5,647Work
                    in progress
                
                
                19,023
                
                
                17,664Raw
                    materials & component parts
                
                
                91,791
                
                
                77,039Total
                    gross inventories @ FIFO
                
                
                119,022
                
                
                100,350Less
                    reserves:LIFO
                
                
                27,743
                
                
                24,544Valuation
                
                
                1,663
                
                
                1,171Total
                    inventories as reported
                
                $
                89,616
                
                $
                74,635
 
 Gross
        inventories on a FIFO basis before adjustments for reserves shown above that
        were accounted for on a LIFO basis were $86.1 million and $75.6 million at
        September 30, 2006, and December 31, 2005, respectively.
 
 **6.
        Net Earnings Per Share**
 Net
        earnings per share amounts are based on the weighted average number of shares
        of
        common stock and common stock equivalents outstanding during the period.
        The
        weighted average number of shares used to compute basic and diluted net earnings
        per share for the three and nine months ended September 30, 2006 and 2005,
        are
        illustrated below (in thousands of dollars, except share and per share data):
  Three
                    Months Ended
                
                Nine
                    Months EndedSeptember
                    30,
                
                September
                    30,2006
                
                2005
                
                2006
                
                2005Numerator:Numerator
                    for basic and diluted earnings pershare-net
                    earnings
                
                $
                17,394
                
                $
                11,313
                
                $
                50,016
                
                $
                29,180Denominator:Denominator
                    for basic net earnings per shareweighted-average
                    shares
                
                
                14,885,395
                
                
                14,537,195
                
                
                14,822,904
                
                
                14,268,920Effect
                    of dilutive securities: employee stockoptions
                
                
                259,733
                
                
                349,333
                
                
                287,903
                
                
                318,083Denominator
                    for diluted net earnings per shareadjusted
                    weighted-average sharesassumed
                    conversions
                
                
                15,145,128
                
                
                14,886,528
                
                
                15,110,807
                
                
                14,587,003Basic
                    net earnings per share
                
                $
                1.17
                
                $
                0.78
                
                $
                3.37
                
                $
                2.04Diluted
                    net earnings per share
                
                $
                1.15
                
                $
                0.76
                
                $
                3.31
                
                $
                2.00
  Weighted
        options to purchase a total of 127,500 and 10,000 shares of the
        Company’s common stock for the three months ended September 30, 2006 and
        2005, respectively, and 115,478 and 40,596 shares of the Company’s common
        stock for the nine months ended September 30, 2006 and 2005,
        respectively, were excluded from the calculation of fully diluted earnings
        per
        share because their effect on fully diluted earnings per share for the period
        were antidilutive.
 
 **7.
        Legal Proceedings**
 A
        class
        action complaint was filed in the U.S. District Court for the Eastern District
        of Texas on March 7, 1997, by an employee and a former employee which alleged
        race discrimination in employment. Certification hearings were conducted
        in
        Beaumont, Texas in February 1998 and in Lufkin, Texas in August 1998. In
        April
        1999, the District Court issued a decision that certified a class for this
        case,
        which included all black employees employed by the Company from March 6,
        1994,
        to the present. The case was closed from 2001 to 2003 while the parties
        unsuccessfully attempted mediation. Trial for this case began in December
        2003,
        but was postponed by the District Court and was completed in October 2004.
        The
        only claims made at trial were those of discrimination in initial assignments
        and promotions.
 
 On
        January 13, 2005, the District Court entered its decision finding that the
        Company discriminated against African-American employees in initial assignments
        and promotions. The District Court also concluded that the discrimination
        resulted in a shortfall in income for those employees and ordered that the
        Company pay those employees back pay to remedy such shortfall, together with
        pre-judgment interest in the amount of 5%. On August 29, 2005, the District
        Court determined that the backpay award for the class of affected employees
        would be $3.4 million (including interest to January 1, 2005) and provided
        a
        formula for attorney fees that the Company estimates will result in a total
        not
        to exceed $2.5 million. In addition to back pay with interest, the District
        Court (i) enjoined and ordered the Company to cease and desist all racially
        biased assignment and promotion practices and (ii) ordered the Company to
        pay
        court costs and expenses.
 
 The
        Company has reviewed this decision with its outside counsel and on September
        19,
        2005, appealed the decision to the U.S. Court of Appeals for the Fifth Circuit.
        On January 26, 2006, the Court of Appeals notified the parties that the case
        had
        been docketed. The Company has submitted its briefs and now anticipates a
        decision in this case in the second quarter of 2007. The Company believes
        that
        after a full and fair review of the evidence, the Court of Appeals will
        determine that the plaintiffs have not established their claims of
        discrimination by the Company against the plaintiffs and will enter a decision
        to that effect and will dismiss the case against the Company. At this time,
        the
        Company has concluded that an unfavorable ultimate outcome is not probable.
        If
        the District Court’s decision is reversed and remanded for a new trial, the
        Company will vigorously defend itself on retrial. While the ultimate
        outcome and impact of these claims against the Company cannot be predicted
        with
        certainty, the Company believes that the resolutions of these proceedings
        will
        not have a material adverse effect on its consolidated financial position.
        However, should the Company be unsuccessful in its appeal, the final
        determination could have a material impact on the Company’s reported earnings,
        results of operations and cash flows in a future reporting period.
  There
        are
        various other claims and legal proceedings arising in the ordinary course
        of
        business pending against or involving the Company wherein monetary damages
        are
        sought. It is management’s opinion that the Company’s liability, if any, under
        such claims or proceedings would not materially affect its consolidated
        financial position, results of operations or cash flow.
 
 **8.
        Segment Data**
 The
        Company operates with three business segments - Oil Field, Power Transmission
        and Trailer. The three operating segments are supported by a common corporate
        group. Corporate expenses and certain assets are allocated to the operating
        segments based primarily upon third-party revenues. Inter-segment sales and
        transfers are accounted for as if the sales and transfers were to third parties,
        that is, at current market prices, as available. The accounting policies
        of the
        segments are the same as those described in the summary of significant
        accounting policies in the footnotes to the consolidated financial statements
        included in the Company’s Annual Report on Form 10-K for the year ended December
        31, 2005. The following is a summary of key segment information (in thousands
        of
        dollars):
 
 Three
                    Months Ended September 30, 2006PowerOil
                    Field
                
                Transmission
                
                Trailer
                
                Corporate
                
                TotalGross
                    sales
                
                $
                110,264
                
                $
                32,172
                
                $
                19,537
                
                $
                -
                
                $
                161,973Inter-segment
                    sales
                
                
                (681
                )
                
                (2,490
                )
                
                -
                
                
                -
                
                
                (3,171
                )Net
                    sales
                
                $
                109,583
                
                $
                29,682
                
                $
                19,537
                
                $
                -
                
                $
                158,802Operating
                    income (loss)
                
                $
                22,957
                
                $
                2,712
                
                $
                52
                
                $
                -
                
                $
                25,721Other
                    income (expense), net
                
                
                14
                
                
                (17
                )
                
                10
                
                
                445
                
                
                452Earnings
                    (loss) beforeincome
                    tax provision
                
                $
                22,971
                
                $
                2,695
                
                $
                62
                
                $
                445
                
                $
                26,173
 
 Three
                    Months Ended September 30, 2005PowerOil
                    Field
                
                Transmission
                
                Trailer
                
                Corporate
                
                TotalGross
                    sales
                
                $
                76,785
                
                $
                26,520
                
                $
                22,713
                
                $
                -
                
                $
                126,018Inter-segment
                    sales
                
                
                (953
                )
                
                (1,382
                )
                
                (2
                )
                
                -
                
                
                (2,337
                )Net
                    sales
                
                $
                75,832
                
                $
                25,138
                
                $
                22,711
                
                $
                -
                
                $
                123,681Operating
                    income (loss)
                
                $
                14,390
                
                $
                3,155
                
                $
                (117
                )
                $
                -
                
                $
                17,428Other
                    income (expense), net
                
                
                235
                
                
                (100
                )
                
                (2
                )
                
                116
                
                
                249Earnings
                    (loss) beforeincome
                    tax provision
                
                $
                14,625
                
                $
                3,055
                
                $
                (119
                )
                $
                116
                
                $
                17,677
  
 Nine
                  Months Ended September 30, 2006PowerOil
                  Field
              
              Transmission
              
              Trailer
              
              Corporate
              
              TotalGross
                  sales
              
              $
              295,439
              
              $
              97,381
              
              $
              56,761
              
              $
              -
              
              $
              449,581Inter-segment
                  sales
              
              
              (2,547
              )
              
              (7,150
              )
              
              (2
              )
              
              -
              
              
              (9,699
              )Net
                  sales
              
              $
              292,892
              
              $
              90,231
              
              $
              56,759
              
              $
              -
              
              $
              439,882Operating
                  income (loss)
              
              $
              62,580
              
              $
              13,051
              
              $
              (555
              )
              $
              -
              
              $
              75,076Other
                  income (expense), net
              
              
              (16
              )
              
              (97
              )
              
              9
              
              
              1,389
              
              
              1,285Earnings
                  (loss) beforeincome
                  tax provision
              
              $
              62,564
              
              $
              12,954
              
              $
              (546
              )
              $
              1,389
              
              $
              76,361




Nine
                  Months Ended September 30, 2005PowerOil
                  Field
              
              Transmission
              
              Trailer
              
              Corporate
              
              TotalGross
                  sales
              
              $
              220,028
              
              $
              76,892
              
              $
              59,834
              
              $
              -
              
              $
              356,754Inter-segment
                  sales
              
              
              (5,277
              )
              
              (4,718
              )
              
              (2
              )
              
              -
              
              
              (9,997
              )Net
                  sales
              
              $
              214,751
              
              $
              72,174
              
              $
              59,832
              
              $
              -
              
              $
              346,757Operating
                  income (loss)
              
              $
              38,505
              
              $
              8,784
              
              $
              (1,732
              )
              $
              -
              
              $
              45,557Other
                  income (expense), net
              
              
              (130
              )
              
              (124
              )
              
              (1
              )
              
              291
              
              
              36Earnings
                  (loss) beforeincome
                  tax provision
              
              $
              38,375
              
              $
              8,660
              
              $
              (1,733
              )
              $
              291
              
              $
              45,593





**9.
      Goodwill and Intangible Assets**





Goodwill




The
      changes in the carrying amount of goodwill for the nine months ended
      September 30, 2006, are as follows (in thousands of dollars):




PowerOil
                  Field
              
              Transmission
              
              Trailer
              
              TotalBalance
                  as of 12/31/05
              
              $
              9,432
              
              $
              2,063
              
              $
              -
              
              $
              11,495Foreign
                  currency translation
              
              
              4
              
              
              146
              
              
              -
              
              
              150Balance
                  as of 9/30/06
              
              $
              9,436
              
              $
              2,209
              
              $
              -
              
              $
              11,645
  Goodwill
      impairment tests were performed in the first quarter of 2006 and no impairment
      losses were recorded.




Intangible
      Assets




Balances
      and related accumulated amortization of intangible assets are as follows (in
      thousands of dollars):




September
                  30,
              
              December
                  31,2006
              
              2005Intangible
                  assets subject to amortization:Non-compete
                  agreementsOriginal
                  balance
              
              
              
              
              $
              463
              
              $
              463Foreign
                  currency translation
              
              
              
              
              
              32
              
              
              31Accumulated
                  amortization
              
              
              
              
              
              (262
              )
              
              (193
              )Ending
                  balance
              
              
              
              
              $
              233
              
              $
              301
  **10.
            Stock Option Plans**


On
      January 1, 2006, the Company adopted SFAS 123-Revised 2004 (“SFAS 123R”),
“Share-Based Payment,” using the modified prospective method. SFAS 123R is a
      revision of SFAS No. 123 “Accounting for Stock-Based Compensation,” and
      supersedes APB No. 25, “Accounting for Stock Issued to Employees.” This
      Statement requires that the cost of employee services received in exchange
      for
      stock based on the grant-date fair value be measured and that the cost be
      recognized over the period during which the employee is required to provide
      service in exchange for the award. The fair value will be estimated using an
      option-pricing model. Excess tax benefits, as defined in SFAS 123R, will be
      recognized as additional paid-in-capital.





Under
      the
      modified prospective method, the Company began recognizing expense on January
      1,
      2006, on any unvested awards granted prior to the adoption date of January
      1,
      2006, expected to vest over the remaining vesting period of the awards. New
      awards granted after the adoption date will be expensed pro-ratably over the
      vesting period of the award.





The
      Company currently has three stock compensation plans that are affected by SFAS
      123R. The 1990 Stock Option Plan, the 1996 Nonemployee Director Stock Option
      Plan and the 2000 Incentive Stock Compensation Plan provide for the granting
      of
      stock options to officers, employees and non-employee directors at an exercise
      price equal to the fair market value of the stock at the date of grant. The
      2000
      Incentive Stock Compensation Plan allows also provides for other forms of
      stock-based compensation such as restricted stock but none have been granted
      to
      date. Options granted to employees vest over two to four years and are
      exercisable up to ten years from the grant date. Upon retirement, any unvested
      options become exercisable immediately. Options granted to directors vest at
      the
      grant date and are exercisable up to ten years from the grant date.




The
      following table is a summary of the stock-based compensation expense recognized
      under SFAS 123R for the three and nine months ended September 30, 2006, and
      pr-forma compensation expense had expense been recognized under SFAS 123 for
      the
      three and nine months ended September 30, 2005 (in thousands of
      dollars):





Three
                  Months Ended
              
              Nine
                  Months EndedSeptember
                  30,
              
              September
                  30,2006
              
              2005
              
              2006
              
              2005Stock-based
                  compensation expense
              
              $
              410
              
              $
              523
              
              $
              2,004
              
              $
              1,509Tax
                  benefit
              
              
              (156
              )
              
              (188
              )
              
              (761
              )
              
              (543
              )Stock-based
                  compensation expense, net of tax
              
              $
              254
              
              $
              335
              
              $
              1,243
              
              $
              966





The
      following table presents the pro forma effect on net earnings and earnings
      per
      share for the three and nine months ended September 30, 2005, if the Company
      had
      applied the fair value recognition provisions of SFAS 123 to the Company’s stock
      options (in thousands of dollars except per share data):





Three
                  Months
              
              Nine
                  MonthsEnded
              
              EndedSeptember
                  30, 2005
              
              September
                  30, 2005Net
                  earnings, as reported
              
              $
              11,313
              
              $
              29,180Add:
                  Total stock-based employee compensation expenseincluded
                  in reported net income, net of tax
              
              
              -
              
              
              -Deduct:
                  Total stock-based employee compensationexpense
                  determined under SFAS 123 for all awards,net
                  of tax
              
              
              (335
              )
              
              (966
              )Pro
                  forma net earnings
              
              $
              10,978
              
              $
              28,214Net
                  earnings per share:As
                  reported
              
              $
              0.78
              
              $
              2.04Pro
                  forma
              
              $
              0.76
              
              $
              1.98Diluted
                  net earnings per shareAs
                  reported
              
              $
              0.76
              
              $
              2.00Pro
                  forma
              
              $
              0.74
              
              $
              1.93




**10.
      Stock Option Plans (Continued)**


The
      fair
      value of each option grant during the first nine months of 2006 and
      2005 was estimated on the date of grant using the Black-Scholes option-pricing
      model with the following assumptions:





2006
              
              2005Expected
                  dividend yield
              
              
              0.69%
                  - 0.91
              %
              
              0.75%
                  - 1.75
              %Expected
                  stock price volatility
              
              
              44.12%
                  - 45.35
              %
              
              38.62%
                  - 40.21
              %Risk
                  free interest rate
              
              
              4.52%
                  - 5.01
              %
              
              4.04%
                  - 4.24
              %Expected
                  life options
              
              
              6
                  - 8 years
              
              
              6
                  - 8 yearsWeighted-average
                  fair value per share at grant date
              
              $
              28.16
              
              $
              10.87







The
      expected life of options was determined based on the exercise history of
      employees and directors since the inception of the plans. The expected
      volatility is based upon the historical weekly stock price for the prior number
      of years equivalent to the expected life of the stock option. The expected
      dividend yield was based on the dividend yield of the Company’s common stock at
      the date of the grant. The risk free interest rate was based upon the yield
      of
      U.S. Treasuries which terms were equivalent to the expected life of the stock
      option.





A
      summary
      of stock option activity under the plans during the nine months ended
      September 30, 2006, is presented below:





Weighted-Weighted-
              
              Average
              
              AggregateAverage
              
              Remaining
              
              IntrinsicExercise
              
              Contractual
              
              ValueOptions
              
              Shares
              
              Price
              
              Term
              
              ($000's)Outstanding
                  at January 1, 2006
              
              
              797,720
              
              $
              18.35Granted
              
              
              51,000
              
              
              64.56Exercised
              
              
              (165,350
              )
              
              13.92Forfeited
                  or expired
              
              
              -
              
              
              -Outstanding
                  at September 30, 2006
              
              
              683,370
              
              $
              22.87
              
              
              7.3
              
              $
              21,126Exercisable
                  at September 30, 2006
              
              
              290,401
              
              $
              21.00
              
              
              6.6
              
              $
              9,608





A
      summary
      of the status of the Company's nonvested stock options as of September 30,
      2006,
      and changes during the nine months ended September 30, 2006, is presented
      below:




Weighted-AverageGrant
                  DateOptions
              
              Shares
              
              Fair
                  ValueNonvested
                  at January 1, 2006
              
              
              413,743
              
              $
              8.70Granted
              
              
              51,000
              
              
              28.16Vested
              
              
              (71,774
              )
              
              15.45Forfeited
              
              
              -
              
              
              -Nonvested
                  at September 30, 2006
              
              
              392,969
              
              $
              9.97








As
      of
      September 30, 2006, there was $2.6 million of total unrecognized compensation
      expense related to non-vested stock options. That cost is expected to be
      recognized over a weighted-average period of 0.9 years. The total fair value
      of
      stock options vested during the nine months ended September 30, 2006, was $1.1
      million.




**11.
      Recently Issued Accounting Pronouncements**


In June
      2006, the Financial Accounting Standards Board issued Interpretation No.
      48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes- an
      interpretation of FASB Statement No. 109.” FIN 48 prescribes a
      recognition threshold and measurement attribute for the financial statement
      recognition and measurement of a tax position taken or expected to be taken
      in a
      tax return. FIN 48 also provides guidance on derecogntion,
      classification, interest and penalties, accounting in interim periods,
      disclosure and transition. In accordance with FIN 48, the evaluation of a tax
      position is a two-step process. The first step requires determining whether
      it is more likely than not that a tax position will be sustained upon
      examination or appeals based on the technical merits of the position. The second
      step requires that a tax position that meets the more-likely-than-not
      recognition threshold is measured to determine the amount of benefit to
      recognize in the financial statements. The tax position is measured at the
      largest benefit that is greater than 50 percent likely of being realized upon
      ultimate settlement. Differences between tax positions taken in a tax return
      and
      amounts recognized in the financial statements will generally result in an
      increase in a liability for income taxes payable and/or an increase in a
      deferred tax liability. Tax positions that previously failed to meet the
      more-likely-than-not recognition threshold should be recognized in the
      first subsequent financial reporting period in which the threshold is met and
      previously recognized tax positions that no longer meet the more-likely-than-not
      recognition threshold should be derecognized in the first subsequent financial
      reporting period in which the threshold is no longer met. FIN 48 is effective
      for fiscal years beginning after December 15, 2006, but earlier adoption is
      permitted. The Company is currently evaluating the impact, if any, the adoption
      of FIN 48 will have on its consolidated financial position or results of
      operations.





In
      September 2006, the Financial Accounting Standards Board issued Statement
      of Financial Accounting Standards No. 158 (“SFAS 158”), “Employers’
Accounting for Defined Benefit Pension and Other Postretirement Plans- an
      amendment of FASB Statements No. 87, 88, 106 and 132(R).” SFAS 158 requires
      employers to recognize the overfunded or underfunded status of a defined benefit
      postretirement plan (other than a multiemployer plan) as an asset or liability
      in its statement of financial position and to recognize changes in that funded
      status in the year in which the changes occur through comprehensive income.
      SFAS
      158 also requires an employer to measure the funded status of a plan as of
      the
      date of its year-end statement of financial position, with limited exceptions.
      SFAS 158 defines the funded status of a benefit plan as the difference between
      the fair value of the plan assets and the projected benefit obligation for
      pension plans or the accumulated postretirement benefit obligation for other
      postretirement plans. Previously unrecognized items such as gains or losses,
      prior service credits and transition assets or liabilities will be recognized
      in
      other comprehensive income and will be subsequently recognized through net
      periodic benefit cost pursuant to the provisions of Statements 87 and 106.
      Employers with issued equity securities must recognize the funded status of
      postretirement plans as of the end of the fiscal year ending after December
      15,
      2006. The requirement to measure plan assets and benefit obligations as of
      the
      date of the employer’s fiscal year-end statement is effective for fiscal years
      ending after December 15, 2008. Earlier application is permitted but
      retrospective application is not permitted. The Company is currently evaluating
      the impact the adoption of SFAS 158 will have on its consolidated financial
      position or results of operations.





Management
      believes the impact of other recently issued standards, which are not yet
      effective, will not have a material impact on the Company's consolidated
      condensed financial statements upon adoption.





**12.
      Retirement Benefits**


The
      Company has a qualified noncontributory pension plan covering substantially
      all
      U.S. employees. The benefits provided by these plans are measured by length
      of
      service, compensation and other factors, and are currently funded by trusts
      established under the plans. Funding of retirement costs for these plans
      complies with the minimum funding requirements specified by the Employee
      Retirement Income Security Act, as amended. In addition, the Company has two
      unfunded non-qualified deferred compensation pensions plans for certain U.S.
      employees. The Pension Restoration Plan provides supplemental retirement
      benefits. The benefit is based on the same benefit formula as the qualified
      pension plan except that it does not limit the amount of a participant's
      compensation or maximum benefit. The Company also provides a Supplemental
      Executive Retirement Plan that credits an individual with 0.5 years of service
      for each year of service credited under the qualified plan. The benefits
      calculated under the non-qualified pension plans are offset by the participant's
      benefit payable under the qualified plan. The liabilities for the non-qualified
      deferred compensation pensions plans are included in "Other accrued liabilities"
      on the Consolidated Balance Sheet.




The
      Company sponsors two defined benefit postretirement plans that cover both
      salaried and hourly employees. One plan provides medical benefits, and the
      other
      plan provides life insurance benefits. Both plans are contributory, with retiree
      contributions adjusted periodically. The Company accrues the estimated costs
      of
      the plans over the employee’s service periods. The Company's postretirement
      health care plan is unfunded. For measurement purposes, the submitted claims
      medical trend was assumed to be 9.25% in 1997. Thereafter, the Company’s
      obligation is fixed at the amount of the Company’s contribution for
      1997.





The
      Company also has qualified defined contribution retirement plans covering
      substantially all of its U.S. employees. The Company makes contributions of
      75%
      of employee contributions up to a maximum employee contribution of 6% of
      employee earnings. Employees may contribute up to an additional 18% (in 1%
      increments), which is not subject to match by the Company. All obligations
      of
      the Company are funded through September 30, 2006. In addition, the Company
      provides an unfunded non-qualified deferred compensation defined contribution
      plan for certain U.S. employees. The Company's and
      individual's contributions are based on the same formula as the
      qualified contribution plan except that it does not limit the amount of a
      participant's compensation or maximum benefit. The contribution calculated
      under the non-qualified defined contribution plan is offset by
      the Company's and participant's contributions under the qualified plan. The
      Company’s expense for these plans totaled $0.7 million and $0.6 million in the
      three months ended September 30, 2006 and 2005, respectively, and $2.1 million
      and $1.6 million in the nine months ended September 30, 2006 and 2005,
      respectively. The liability for the non-qualified deferred defined contribution
      plan is included in "Other accrued liabilities" on the Consolidated Balance
      Sheet.




On
      December 8, 2003, the “Medicare Prescription Drug, Improvement and Modernization
      Act of 2003” (the “Act”) was signed into law. The Act introduces a prescription
      drug benefit under Medicare as well as a federal subsidy to sponsors of retiree
      health care benefit plans that provide a benefit that is at least actuarially
      equivalent to Medicare Part D. Measures of the accumulated postretirement
      benefit obligation and net periodic postretirement benefit cost do not reflect
      any amount associated with the subsidy because the Company’s plan is not
      actuarially equivalent to Medicare Part D and is not expected to receive any
      subsidy.




**Components
      of Net Periodic Benefit Cost (in thousands of dollars)**




Pension
                    Benefits
                
                Other
                    BenefitsThree
                    Months Ended September 30,
                
                2006
                
                2005
                
                2006
                
                2005Service
                    cost
                
                $
                1,295
                
                $
                1,211
                
                $
                43
                
                $
                75Interest
                    cost
                
                
                2,276
                
                
                2,365
                
                
                126
                
                
                179Expected
                    return on plan assets
                
                
                (4,115
                )
                
                (3,927
                )
                
                -
                
                
                -Amortization
                    of prior service cost
                
                
                142
                
                
                78
                
                
                -
                
                
                -Amortization
                    of unrecognized net (gain) loss
                
                
                15
                
                
                1
                
                
                (39
                )
                
                17Amortization
                    of unrecognized transition asset
                
                
                (232
                )
                
                (216
                )
                
                -
                
                
                -Net
                    periodic benefit cost (income)
                
                $
                (619
                )
                $
                (488
                )
                $
                130
                
                $
                271





Pension
                  Benefits
              
              Other
                  BenefitsNine
                  Months Ended September 30,
              
              2006
              
              2005
              
              2006
              
              2005Service
                  cost
              
              $
              3,884
              
              $
              3,564
              
              $
              129
              
              $
              205Interest
                  cost
              
              
              6,827
              
              
              7,119
              
              
              377
              
              
              525Expected
                  return on plan assets
              
              
              (12,344
              )
              
              (11,788
              )
              
              -
              
              
              -Amortization
                  of prior service cost
              
              
              425
              
              
              233
              
              
              -
              
              
              -Amortization
                  of unrecognized net (gain) loss
              
              
              46
              
              
              2
              
              
              (117
              )
              
              35Amortization
                  of unrecognized transition asset
              
              
              (695
              )
              
              (647
              )
              
              -
              
              
              -Net
                  periodic benefit cost (income)
              
              $
              (1,857
              )
              $
              (1,517
              )
              $
              389
              
              $
              765




**E** **mployer
      Contributions**





The
      Company previously disclosed in its financial statements for the year ended
      December 31, 2005, that it did not expect to make any contributions to its
      pension plans in 2006. The Company also disclosed that it expected Company
      premium contributions of $325,000 to be made to its postretirement plan in
      2006.
      As of September 30, 2006, the Company has made contributions of $25,000 to
      its pension plans and has made Company premium contributions of $256,000 to
      its
      postretirement plan. The Company presently anticipates making contributions
      of
      $19,000 to its pension plans and an additional $77,000 to its postretirement
      plan during the last three months of 2006.




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





**Overview**





**General**





Lufkin
      Industries, Inc. is a global supplier of oil field, power transmission and
      trailer products. Through its Oil Field segment, the Company manufactures and
      services artificial reciprocating rod lift equipment and related products,
      which
      are used to extract crude oil and other fluids from wells. Through its Power
      Transmission segment, the Company manufactures and services high-speed and
      low-speed speed increasing and reducing gearboxes for industrial applications.
      Through its Trailer segment, the Company manufactures various highway trailers,
      including van, float and dump trailers. While these markets are
      price-competitive, technological and quality differences can provide product
      differentiation.





The
      Company’s strategy is to differentiate its products through additional
      value-added capabilities. Examples of these capabilities are high-quality
      engineering, customized designs, rapid manufacturing response to demand through
      plant capacity, inventory and vertical integration, superior quality and
      customer service, and an international network of service locations. In
      addition, the Company’s strategy is to maintain a low debt-to-equity ratio in
      order to quickly take advantage of growth opportunities and pay dividends even
      during unfavorable business cycles.




In
      support of the above strategy, the Company has expanded its domestic and
      international Oil Field service operations through acquisitions and internal
      growth. The Company has also made capital investments to increase Oil Field
      manufacturing capacity in its three main manufacturing facilities to meet
      growing demand and reduce order lead-time.





In
      addition, the Company has expanded its Power Transmission capabilities through
      new gear repair facilities in the U.S. and Canada and through new high-speed
      gearbox manufacturing capabilities in its French operation. Capital investments
      targeting cost reductions and shorter manufacturing lead times are also being
      made in the Power Transmission segment.





**Trends/Outlook**





**Oil
      Field**


Demand
      for pumping unit equipment primarily depends on the level of onshore oil well
      drilling activity as well as the depth and fluid conditions of that drilling.
      Drilling activity is driven by the available cash flow of the Company’s
      customers as well as their long-term perceptions of the level and stability
      of
      the price of oil. The recent demand for pumping units has also been impacted
      by
      the use of artificial lift in natural gas and coal bed methane applications
      as
      higher energy prices have made certain extraction methods more economical.
      In
      addition, the availability of used pumping unit equipment impacts the demand
      for
      new pumping units, especially in the North American market. The higher energy
      prices experienced in 2004, 2005 and the first nine months of 2006 have
      increased the demand for new pumping units and related service and products
      from
      higher drilling activity, activation of idle wells and the upgrading of existing
      wells. While a majority of the segment’s revenues are in North America,
      international opportunities continue to increase as new drilling increases
      and
      existing fields mature, requiring increased use of pumping units for artificial
      lift. Demand levels experienced in 2005 and the first nine half of 2006 are
      expected to continue throughout the remainder of 2006 assuming energy
      prices stay at recent levels.





**Power
      Transmission**


Power
      Transmission services many diverse markets, with high-speed gearing for markets
      such as petrochemicals, refineries, offshore production and transmission of
      oil
      and slow-speed gearing for the gas, rubber, sugar, paper, steel, plastics,
      mining, cement and marine propulsion, each of which has its own unique set
      of
      drivers. Favorable conditions for one market may be unfavorable for another
      market. Generally, if general global industrial capacity utilizations are not
      high, then spending on new equipment lags. Also impacting demand are government
      regulations involving safety and environmental issues that can require capital
      spending. Recent market demand increases have come from energy-related markets
      such as refining, petrochemical, drilling, coal and power generation in response
      to higher global energy prices. These market trends should continue throughout
      the remainder of 2006 assuming energy prices stay at recent levels.





**Trailer**


The
      Company primarily sells its trailer products in the United States to small
      and
      medium size fleet freight-hauling companies through a dealer network. Demand
      in
      this market is driven by the available cash flow or financing capabilities
      of
      the industry, age of the trailer fleets, changes in government regulations,
      availability of quality used trailers and the medium-term outlook for freight
      volumes. The profitability of the freight-hauling market is driven by freight
      volumes, fuel prices, wage levels and insurance costs. In the last several
      years, the freight-hauling market has been severely depressed due to low freight
      volumes and higher operating costs. This led freight haulers to significantly
      lower orders for new trailers and extend the life of existing trailers. During
      2004 and 2005, the freight market improved as freight-hauling demand and freight
      pricing increased and aging trailers required replacement. However, the recent
      demand for van trailers has not increased enough to meet trailer industry
      capacity, increasing price competition. Van demand has been impacted by freight
      haulers focusing purchases on new tractors before new diesel emission
      requirements are required on new tractors beginning in 2007. In light of these
      market conditions, the Company decided in the third quarter of 2006 to not
      participate in the van market until market conditions support better operating
      margins. The Company plans to redeploy certain personnel and equipment to
      increase the manufacturing capacity of flatbed and dump trailers. Recent flatbed
      and dump trailer demand has increased significantly due to the increased
      activity in the home and road construction markets and the rebuilding effort
      resulting from the 2005 hurricanes.





**Summary
      of Results**





The
      Company generally monitors its performance through analysis of sales, gross
      margin (gross profit as a percentage of sales) and net earnings, as well as
      debt/equity (long-term debt net of current portion as a percentage of total
      equity) levels, short-term debt levels, and cash balances.





Overall,
      sales for the three months ended September 30, 2006, increased to $158.8
      million from $123.7 million for the three months ended September 30, 2005,
      or
      28.4%, and increased to $439.9 million for the nine months ended September
      30,
      2006, from $346.8 million for the nine months ended September 30, 2005, or
      26.9%. This growth was primarily driven by increased sales of new oil field
      equipment, but also by growth in Power Transmission sales. Additional segment
      data on sales is provided later in this section.





Gross
      margin for the three months ended September 30, 2006, increased to 24.4% from
      23.0% for the three months ended September 30, 2005, and increased to 25.8%
      for
      the nine months ended September 30, 2006, from 22.7% for the nine months ended
      September 30, 2005. This overall gross margin improvement was primarily due
      to
      the full impact of price increases implemented in 2005 and 2006 to
      compensate for the increased raw material prices experienced by all segments
      in
      2004. Additional segment data on gross margin is provided later in this
      section.




The
      changes in sales and gross margin primarily drove the changes in net earnings,
      but net earnings also benefited from leverage on selling, general and
      administrative expenses. The Company reported net earnings of $17.4 million,
      or
      $1.15 per share (diluted), for the three months ended September 30, 2006,
      compared to net earnings of $11.3 million, or $0.76 per share (diluted), for
      the
      three months ended September 30, 2005, and $50.0 million, or $3.31 per share
      (diluted), for the nine months ended September 30, 2006 compared to net earnings
      of $29.2 million, or $2.00 per share (diluted).





Debt/equity
      levels were 0.0% at September 30, 2006 and December 31, 2005. Short-term debt
      was $0.0 million at September 30, 2006, down from $0.3 million at December
      31,
      2005. Cash balances at September 30, 2006, were $43.9 million, up from $25.8
      million at December 31, 2005, due to higher net earnings offsetting increased
      working capital and capital expenditures.





**Three
      Months Ended September 30, 2006, Compared to Three Months Ended September 30,
      2005**





The
      following table summarizes the Company’s sales and gross profit by operating
      segment (in thousands of dollars):





Three
                  Months EndedSeptember
                  30,
              
              Increase/
              
              %
                  Increase/2006
              
              2005
              
              (Decrease)
              
              (Decrease)SalesOil
                  Field
              
              $
              109,583
              
              $
              75,832
              
              $
              33,751
              
              
              44.5Power
                  Transmission
              
              
              29,682
              
              
              25,138
              
              
              4,544
              
              
              18.1Trailer
              
              
              19,537
              
              
              22,711
              
              
              (3,174
              )
              
              (14.0
              )Total
              
              $
              158,802
              
              $
              123,681
              
              $
              35,121
              
              
              28.4Gross
                  ProfitOil
                  Field
              
              $
              28,810
              
              $
              19,107
              
              $
              9,703
              
              
              50.8Power
                  Transmission
              
              
              8,143
              
              
              7,721
              
              
              422
              
              
              5.5Trailer
              
              
              1,734
              
              
              1,561
              
              
              173
              
              
              11.1Total
              
              $
              38,687
              
              $
              28,389
              
              $
              10,298
              
              
              36.3




GM%Oil
                  Field
              
              
              26.3
              %
              
              25.2
              %
              
              1.1
              %Power
                  Transmission
              
              
              27.4
              %
              
              30.7
              %
              
              -3.3
              %Trailer
              
              
              8.9
              %
              
              6.9
              %
              
              2.0
              %Total
              
              
              24.4
              %
              
              23.0
              %
              
              1.4
              %




**Oil
      Field**




Oil
      Field
      sales increased to $109.6 million, or 44.5%, for the three months ended
      September 30, 2006, from $75.8 million for the three months ended September
      30,
      2005. The benefit of the stronger Canadian dollar in 2006 and new service
      centers contributed 1.6 percentage points of this increase. Increased sales
      of
      new pumping units account for a majority of the balance of the increase
      of 42.9 percentage points. Sales of new pumping units in the U.S.,
      Argentina and Canada, and related service, increased due to higher drilling
      and production primarily in the North America and Middle East markets.
      Sales also benefited from the expansion of manufacturing capacity and the
      related reduction of lead-time levels on new and existing orders. Also, sales
      of
      automation equipment continued to increase due to market share growth from
      new
      product offerings. In addition, sales growth was impacted from price increases
      instituted throughout 2005 in response to dramatic raw material price increases
      experienced in 2004 in addition to price increases instituted in 2006. Oil
      Field’s backlog increased to $79.7 million  as
      of
      September 30, 2006, from $72.7 million at September 30, 2005.




Gross
      margin (gross profit as a percentage of sales) for the Oil Field segment
      increased to 26.3% for three months ended September 30, 2006, compared to 25.2%
      for the three months ended September 30, 2005, or 1.1 percentage points.
      Throughout 2005, sales prices were increased to recover higher material costs
      incurred in 2004, but the benefit of these price increases were not fully
      realized in the first half of 2005. This margin improvement was partially
      offset by employee training costs and other plant inefficiencies associated
      with
      manufacturing facility expansions in the U.S., Canada and Argentina and higher
      inbound freight costs.




Direct
      selling, general and administrative expenses for Oil Field increased to $3.9
      million, or 23.2%, for the three months ended September 30, 2006, from $3.2
      million for the three months ended September 30, 2005. This increase is due
      to
      higher employee-related expenses in support of increased current and expected
      sales volumes, third-party commissions and the impact of expensing stock
      options. However, direct selling, general and administrative expenses as a
      percentage of sales decreased to 3.6% for the three months ended September
      30,
      2006, from 4.2% for the three months ended September 30, 2005.





**Power
      Transmission**





Sales
      for
      the Company’s Power Transmission segment increased to $29.7 million, or 18.1%,
      for the three months ended September 30, 2006, compared to $25.1 million for
      the
      three months ended September 30, 2005. This growth was the result of increased
      sales of high-speed units to the energy-related markets, such as power
      generation and oil and gas production and refining, and from the new U.S. gear
      repair facilities. Power Transmission backlog at September 30, 2006, increased
      to $81.8 million from $64.6 million at September 30, 2005, primarily from sales
      of new units for the energy-related markets.





Gross
      margin for the Power Transmission segment decreased to 27.4% for the
      three months ended September 30, 2006, compared to 30.7% for the three months
      ended September 30, 2005, from increases in manufacturing overhead costs and
      other manufacturing costs such as scrap and warranty.




Direct
      selling, general and administrative expenses for Power Transmission increased
      to
      $3.9 million, or 16.3%, for the three months ended September 30, 2006, from
      $3.4 million for the three months ended September 30, 2005. This increase is
      due
      to higher employee-related expenses in support of increased sales volumes and
      the impact of expensing stock options. However, direct selling, general and
      administrative expenses as a percentage of sales decreased to 13.1% for the
      three months ended September 30, 2006, from 13.3% for the three months
      ended September 30, 2005, from leverage on higher sales
      volumes.




**Trailer**





Trailer
      sales for the three months ended September 30, 2006, decreased to $19.5 million,
      or 14.0%, from $22.7 million for the three months ended September 30, 2005.
      This
      decrease resulted from lower sales of new van trailers and used trailers,
      partially offset by higher sales of new flatbed trailers. Sales growth in
      flatbed trailers was strong due to the introduction of new models and demand
      from the home and road construction market. New van sales were impacted by
      the
      Company not booking lower margin orders as competitors have lowered prices
      in
      response to industry manufacturing overcapacity and trucking industry issues
      such as soft freight demand and driver shortages. In light of current conditions
      in the trailer van market, the Company has declined to take additional orders
      for van trailers in order to expand manufacturing capacity for the production
      of
      flatbed and dump trailers and will be converting part of the Trailer factory
      to
      the production of oil field equipment. Backlog for the Trailer segment increased
      to $31.7 million at September 30, 2006, compared to $28.1 million
      at September 30, 2005. The backlog increase was primarily from orders
      for new flatbed trailers as described above.




Trailer
      gross margin increased to 8.9% for the three months ended September 30, 2006,
      from 6.9% for the three months ended September 30, 2005, or 0.6 percentage
      points. This margin improvement was due to higher selling prices for
      and the favorable mix impact of higher-margin flatbed and dump trailers,
      partially offset by increases in aluminum costs for van trailers.





Direct
      selling, general and administrative expenses for Trailer decreased to $0.5
      million, or 35.3%, for the three months ended September 30, 2006, from $0.7
      million for the three months ended September 30, 2005, primarily from reduced
      insurance claims. This also caused direct selling, general and administrative
      expenses as a percentage of sales to decrease to 2.3% for the three months
      ended
      September 30, 2006, from 3.1% for the three months ended September 30,
      2005.




**Corporate/Other**





Corporate
      administrative expenses, which are allocated to the segments primarily based
      on
      historical third-party revenues, increased to $4.7 million, or 26.0%, for the
      three months ended September 30, 2006, from $3.7 million for the three months
      ended September 30, 2005, primarily from the impact of expensing stock
      options and professional services for various legal matters. Note 10 to the
      Consolidated Financial Statements provides additional information on the
      expensing of stock options.




Interest
      income, interest expense and other income and expense for the three months
      ended
      September 30, 2006, totaled $0.5 million of income compared to income of $0.2
      million for the three months ended September 30, 2005, primarily due to an
      increase in interest income from higher cash balances.





Pension
      income, which is reported as a reduction of cost of sales, increased to $0.7
      million for the three months ended September 30, 2006, or 30%, compared to
      $0.6
      million for the three months ended September 30, 2005. This increase is
      primarily due to the remeasurement of the projected benefit obligation, which
      lowered by approximately 7% from December 31, 2005. Certain assumptions,
      including turnover, mortality and retirement age, were updated to reflect
      more recent trends. Pension income in 2006 is expected to increase to
      approximately $2.9 million from $2.1 million in 2005 for the reasons mentioned
      above.




The net
      tax rate for the three months ended September 30, 2006, was 33.5% compared
      to
      36.0% in the three months ended September 30, 2005. This net tax rate
      was the result of the effective tax rate of 35.0% benefiting from final
      adjustments to estimates for 2005 taxes.





**Nine Months
      Ended September 30, 2006, Compared to Nine Months Ended September 30,
      2005**




The
      following table summarizes the Company’s sales and gross profit by operating
      segment (in thousands of dollars):


Nine
                  Months EndedSeptember
                  30,
              
              Increase/
              
              %
                  Increase/2006
              
              2005
              
              (Decrease)
              
              (Decrease)SalesOil
                  Field
              
              $
              292,892
              
              $
              214,751
              
              $
              78,141
              
              
              36.4Power
                  Transmission
              
              
              90,231
              
              
              72,174
              
              
              18,057
              
              
              25.0Trailer
              
              
              56,759
              
              
              59,832
              
              
              (3,073
              )
              
              (5.1
              )Total
              
              $
              439,882
              
              $
              346,757
              
              $
              93,125
              
              
              26.9Gross
                  ProfitOil
                  Field
              
              $
              79,664
              
              $
              52,307
              
              $
              27,357
              
              
              52.3Power
                  Transmission
              
              
              28,774
              
              
              22,736
              
              
              6,038
              
              
              26.6Trailer
              
              
              4,840
              
              
              3,821
              
              
              1,019
              
              
              26.7Total
              
              $
              113,278
              
              $
              78,864
              
              $
              34,414
              
              
              43.6




GM%Oil
                  Field
              
              
              27.2
              %
              
              24.4
              %
              
              2.8
              %Power
                  Transmission
              
              
              31.9
              %
              
              31.5
              %
              
              0.4
              %Trailer
              
              
              8.5
              %
              
              6.4
              %
              
              2.1
              %Total
              
              
              25.8
              %
              
              22.7
              %
              
              3.0
              %




**Oil
      Field**




Oil
      Field
      sales increased to $292.9 million, or 36.4%, for the nine months ended
      September 30, 2006, from $214.8 million for the nine months ended September
      30, 2005. The benefit of the stronger Canadian dollar in 2006 and new service
      centers contributed 1.3 percentage points of this increase. Increased sales
      of
      new pumping units accounted for a majority of the balance of the increase
      of 35.1 percentage points. Sales of new pumping units in the U.S., Canada
      and Argentina and related service, increased from higher drilling and production
      primarily in the North America and Middle East markets. Also, sales of
      automation equipment continued to increase due to market share growth from
      new
      product offerings. In addition, sales growth was impacted from price increases
      instituted throughout 2005 in response to dramatic raw material price increases
      experienced in 2004 in addition to price increases instituted in 2006. Oil
      Field’s backlog increased to $79.7 million as of September 30, 2006, from $67.5
      million at December 31, 2005. This backlog increase was primarily due to
      increased bookings of new pumping units in the North America and Middle East
      markets.




Gross
      margin (gross profit as a percentage of sales) for the Oil Field segment
      increased to 27.2% for nine months ended September 30, 2006, compared to
      24.4% for the nine months ended September 30, 2005, or 2.8 percentage
      points. Throughout 2005, sales prices were increased to recover higher material
      costs incurred in 2004, but the benefit of these price increases were not fully
      realized in the first half of 2005. This margin improvement was partially
      offset by employee training and other expansion-related costs associated with
      manufacturing facility expansions in the U.S., Canada and Argentina and higher
      inbound freight costs.




Direct
      selling, general and administrative expenses for Oil Field increased to $11.4
      million, or 31.0%, for the nine months ended September 30, 2006, from $8.7
      million for the nine months ended September 30, 2005. This increase is due
      to higher employee-related expenses in support of increased current and expected
      sales volumes, third-party commissions and the impact of expensing stock
      options. However, direct selling, general and administrative expenses as a
      percentage of sales decreased slightly to 3.9% for the nine months ended
      September 30, 2006, from 4.1% for the nine months ended September 30,
      2005.





**Power
      Transmission**





Sales
      for
      the Company’s Power Transmission segment increased to $90.2 million, or 25.0%,
      for the nine months ended September 30, 2006, compared to $72.2 million for
      the nine months ended September 30, 2005. This growth was the result of
      increased sales of high-speed units to the energy-related markets, such as
      power
      generation and oil and gas production and refining, and from the new gear repair
      facilities. Power Transmission backlog at September 30, 2006, increased to
      $81.8
      million from $53.4 million at December 31, 2005, primarily from sales of new
      units for the energy-related markets.





Gross
      margin for the Power Transmission segment increased to 31.9% for
      the nine months ended September 30, 2006, compared to 31.5% for
      the nine months ended September 30, 2005, from the benefit of price
      increases and from increased sales of higher-margin high-speed units, partially
      offset by higher manufacturing overhead costs.




Direct
      selling, general and administrative expenses for Power Transmission increased
      to
      $11.3 million, or 13.2%, for the nine months ended September 30, 2006,
      from $10.0 million for the nine months ended September 30, 2005. This
      increase is due to higher employee-related expenses in support of increased
      sales volumes and the impact of expensing stock options. However, direct
      selling, general and administrative expenses as a percentage of sales decreased
      to 12.5% for the nine months ended September 30, 2006, from 13.8% for
      the nine months ended September 30, 2005, from leverage on higher
      sales volumes.




**Trailer**





Trailer
      sales for the nine months ended September 30, 2006, decreased to $56.8
      million, or 5.1%, from $60.0 million for the nine months ended September
      30, 2005. Higher sales of new flatbed and dump trailers was offset by lower
      sales of new van trailers and used trailers. Sales growth in flatbed and dump
      trailers was strong due to the introduction of new models and demand from the
      home and road construction market. New van sales were impacted by the Company
      not booking lower margin orders as competitors have lowered prices in response
      to industry manufacturing overcapacity and trucking industry issues such as
      soft
      freight demand and driver shortages. In light of current conditions in the
      trailer van market, the Company has declined to take additional orders for
      van
      trailers in order to expand manufacturing capacity for the production of flatbed
      and dump trailers and will be converting part of the Trailer factory to the
      production of oil field equipment. Backlog for the Trailer segment increased
      to
      $31.7 million at September 30, 2006, compared to $25.5 million at December
      31, 2005. The backlog increase was primarily from orders for new flatbed
      trailers, as described above.




Trailer
      gross margin increased to 8.5% for the nine months ended September 30,
      2006, from 6.4% for the nine months ended September 30, 2005, or 2.1
      percentage points. This margin improvement was due to higher selling
      prices for, and the favorable mix impact of, higher-margin flatbed and
      dump trailers, partially offset by increases in aluminum costs for van trailers
      and plant inefficiencies from flatbed and dump trailer production
      ramp-up.





Direct
      selling, general and administrative expenses for Trailer decreased to $1.9
      million, or 21.9%, for the nine months ended September 30, 2006, from $2.4
      million for the nine months ended September 30, 2005. In 2005, bad debt
      expense was increased due to a disputed receivable. This also
      caused direct selling, general and administrative expenses as a percentage
      of
      sales to decrease to 3.3% for the nine months ended September 30, 2006,
      from 4.0% for the nine months ended September 30, 2005.




**Corporate/Other**





Corporate
      administrative expenses, which are allocated to the segments primarily based
      on
      historical third-party revenues, increased to $13.6 million, or 11.4%, for
      the nine months ended September 30, 2006, from $12.2 million for
      the nine months ended September 30, 2005, primarily from the
      impact of expensing stock options. Note 10 to the Consolidated Financial
      Statements provides additional information on the expensing of stock
      options.




Interest
      income, interest expense and other income and expense for the nine months
      ended September 30, 2006, totaled $1.3 million of income compared to income
      of
      $0.0 million for the nine months ended September 30, 2005, primarily due to
      an increase in interest income from higher cash balances.





Pension
      income, which is reported as a reduction of cost of sales, increased to $2.2
      million for the nine months ended September 30, 2006, or 20%, compared to
      $1.8 million for the nine months ended September 30, 2005. This increase is
      due to the remeasurement of the projected benefit obligation, which lowered
      by
      approximately 7% from December 31, 2005. Certain assumptions, including
      turnover, mortality and retirement age, were updated to reflect more recent
      trends. Pension income in 2006 is expected to increase to approximately $2.9
      million from $2.1 million in 2005 for the reasons mentioned above.




The net
      tax rate for the nine months ended September 30, 2006, was 34.5% compared
      to 36.0% in the nine months ended September 30, 2005. This net
      tax rate was the result of the effective tax rate of 35.0% benefiting from
      the one-time reduction of certain deferred tax balances to reflect the
      impact of the new Texas margin tax, enacted in the second quarter of 2006,
      which
      will replace the existing Texas franchise tax and the benefit of final
      adjustments to estimates for 2005 taxes.





**Liquidity
      and Capital Resources**





The
      Company has historically relied on cash flows from operations and third-party
      borrowing to finance its operations, including acquisitions, dividend payments
      and stock repurchases. The Company believes that its cash flows from operations
      and its available borrowing capacity under its credit agreements will be
      sufficient to fund its operations, including planned capital expenditures,
      dividend payments and stock repurchases, through December 31, 2006.




The
      Company’s cash balance totaled $43.9 million at September 30, 2006, compared to
      $25.8 million at December 31, 2005. For the nine months ended September 30,
      2006, net cash provided by operating activities was $40.7 million, net cash
      used
      in investing activities totaled $21.0 million and net cash used in
      financing activities amounted to $1.7 million. Significant components of cash
      provided by operating activities included net earnings, adjusted for non-cash
      expenses, of $54.5 million and an increase in working capital of $13.8 million.
      This working capital increase was primarily due to higher Oil Field
      inventory balances, which used $14.3 million, from higher sales
      volumes compared to the prior quarter and from net tax payments, which used
      $6.8
      million. These increases were partially offset by increased accounts payable
      balances, which provided $3.7 million, from higher production activity. Net
      cash
      used in investing activities included net capital expenditures totaling $20.6
      million and an increase in other assets of $0.4 million. Capital expenditures
      in
      the first nine months of 2006 were primarily for the expansion of
      manufacturing capacity and efficiency improvements in the Oil Field and Power
      Transmission segments. Capital expenditures for 2006 are projected to be
      approximately $30.0 million, primarily for the expansion of manufacturing
      capacity and efficiency improvements in the Oil Field and Power Transmission
      segments and will be funded by operating cash flows. Significant components
      of
      net cash provided by financing activities included the impact of stock
      option exercises, including the excess tax benefit from actual gains on stock
      option exercises, of $5.1 million, partially offset by the repayment of
      short-term notes payable of $0.3 million and dividend payments of $6.5 million,
      or $0.44 per share.





As
      of
      September 30, 2006, the Company had no outstanding debt associated with the
      Bank
      Facility discussed below. Total debt decreased by $0.3 million from short-term
      note repayments during the nine months ended September 30, 2006.




The
      Company has a three-year $27.5 million credit facility with a domestic bank
      (the
“Bank Facility”) consisting of an unsecured revolving line of credit that
      provides up to $17.5 million of committed borrowing along with an additional
      $10.0 million discretionary line of credit. This Bank Facility expires
      on December 31, 2008. Borrowing under the Bank Facility bear interest, at
      the Company’s option, at either the greater of (i) the prime rate, (ii) the base
      CD rate plus an applicable margin or (iii) the Federal Funds Effective Rate
      plus
      an applicable margin or the London Interbank Offered Rate plus an applicable
      margin, depending on certain ratios as defined in the Bank Facility. As of
      September 30, 2006, no debt was outstanding under the Bank Facility and the
      Company was in compliance with all financial covenants under the terms of the
      Bank Facility. Deducting outstanding letters of credit of $5.1 million, $22.4
      million of borrowing capacity was available at September 30, 2006.





The
      Company currently has a stock repurchase plan under which the Company is
      authorized to spend up to $19.1 million for repurchases of its common stock.
      Pursuant to this plan, the Company has repurchased a total of 1,656,740 shares
      of its common stock at an aggregate purchase price of $17.0 million. Repurchased
      shares are added to treasury stock and are available for general corporate
      purposes including the funding of the Company’s stock option plans. No shares
      were repurchased in the first nine months of 2006. As of September 30,
      2006, the Company held 395,278 shares of treasury stock at an aggregate cost
      of
      approximately $4.1 million. Authorizations of approximately $2.1 million
      remained at September 30, 2006.




The
      following table summarizes the Company’s expected cash outflow from financial
      contracts and commitments as of September 30, 2006. Information on recurring
      purchases of materials for use in manufacturing and service operations has
      not
      been included. These amounts are not long-term in nature (less than three
      months) and are generally consistent from year to year.





(In
                  thousands of dollars)
              
              
              
              Payments
                  due by periodLess
                  than
              
              1
                  -
                  3
              
              3
                  -
                  5
              
              More
                  thanContractual
                  obligations
              
              Total
              
              1
                  year
              
              years
              
              years
              
              5
                  yearsOperating
                  lease obligations
              
              $
              2,092
              
              $
              113
              
              $
              1,100
              
              $
              825
              
              $
              54Contractual
                  commitmentsfor
                  capital expenditures
              
              
              9,228
              
              
              9,228
              
              
              -
              
              
              -
              
              
              -Total
              
              $
              11,320
              
              $
              9,341
              
              $
              1,100
              
              $
              825
              
              $
              54





Since
      the
      Company has no significant tax loss carryforwards, the Company expects to make
      quarterly estimated tax payments in 2006 based on taxable income levels. Also,
      the Company has various retirement plans for which the Company has committed
      a
      certain level of benefit. The Company expects to make contributions to its
      pension, defined contribution and post-retirement health and life plans of
      approximately $3.1 million in 2006, depending on participation levels in these
      plans.




**Recently
      Issued Accounting Pronouncements**





In June
      2006, the Financial Accounting Standards Board issued Interpretation No.
      48 (“FIN 48”), “Accounting for Uncertainty in income Taxes- an
      interpretation of FASB Statement No. 109.” FIN 48 prescribes a
      recognition threshold and measurement attribute for the financial statement
      recognition and measurement of a tax position taken or expected to be taken
      in a
      tax return. FIN 48 also provides guidance on derecogntion,
      classification, interest and penalties, accounting in interim periods,
      disclosure and transition. In accordance with FIN 48, the evaluation of a tax
      position is a two-step process. The first step requires determining whether
      it is more likely than not that a tax position will be sustained upon
      examination or appeals based on the technical merits of the position. The second
      step requires that a tax position that meets the more-likely-than-not
      recognition threshold is measured to determine the amount of benefit to
      recognize in the financial statements. The tax position is measured at the
      largest benefit that is greater than 50 percent likely of being realized upon
      ultimate settlement. Differences between tax positions taken in a tax return
      and
      amounts recognized in the financial statements will generally result in an
      increase in a liability for income taxes payable and/or an increase in a
      deferred tax liability. Tax positions that previously failed to meet the
      more-likely-than-not recognition threshold should be recognized in the
      first subsequent financial reporting period in which the threshold is met and
      previously recognized tax positions that no longer meet the more-likely-than-not
      recognition threshold should be derecognized in the first subsequent financial
      reporting period in which the threshold is no longer met. FIN 48 is effective
      for fiscal years beginning after December 15, 2006, but earlier adoption is
      permitted. The Company is currently evaluating the impact, if any, the adoption
      of FIN 48 will have on its consolidated financial position or results of
      operations.





In
      September 2006, the Financial Accounting Standards Board issued Statement
      of Financial Accounting Standards No. 158 (“SFAS 158”), “Employers’
Accounting for Defined Benefit Pension and Other Postretirement Plans- an
      amendment of FASB Statements No. 87, 88, 106 and 132(R).” SFAS 158 requires
      employers to recognize the overfunded or underfunded status of a defined benefit
      postretirement plan (other than a multiemployer plan) as an asset or liability
      in its statement of financial position and to recognize changes in that funded
      status in the year in which the changes occur through comprehensive income.
      SFAS
      158 also requires an employer to measure the funded status of a plan as of
      the
      date of its year-end statement of financial position, with limited exceptions.
      SFAS 158 defines the funded status of a benefit plan as the difference between
      the fair value of the plan assets and the projected benefit obligation for
      pension plans or the accumulated postretirement benefit obligation for other
      postretirement plans. Previously unrecognized items such as gains or losses,
      prior service credits and transition assets or liabilities will be recognized
      in
      other comprehensive income and will be subsequently recognized through net
      periodic benefit cost pursuant to the provisions of Statements 87 and 106.
      Employers with issued equity securities must recognize the funded status of
      postretirement plans as of the end of the fiscal year ending after December
      15,
      2006. The requirement to measure plan assets and benefit obligations as of
      the
      date of the employer’s fiscal year-end statement is effective for fiscal years
      ending after December 15, 2008. Earlier application is permitted but
      retrospective application is not permitted. The Company is currently evaluating
      the impact the adoption of SFAS 158 will have on its consolidated financial
      position or results of operations.




Management
      believes the impact of other recently issued standards, which are not yet
      effective, will not have a material impact on the Company's consolidated
      condensed financial statements upon adoption.





**Critical
      Accounting Policies and Estimates**





The
      discussion and analysis of financial condition and results of operations are
      based upon the Company’s consolidated financial statements, which have been
      prepared in accordance with accounting principles generally accepted in the
      United States of America. The preparation of these financial statements requires
      the Company to make estimates and judgments that affect the reported amounts
      of
      assets, liabilities, revenues and expenses and related disclosure of contingent
      assets and liabilities. The Company evaluates its estimates on an ongoing basis,
      based on historical experience and on various other assumptions that are
      believed to be reasonable under the circumstances. Actual results may differ
      from these estimates under different assumptions or conditions. The Company
      believes the following critical accounting policies affect its more significant
      judgments and estimates used in preparation of its consolidated
      statements.




The
      Company extends credit to customers in the normal course of business. Management
      performs ongoing credit evaluations of our customers and adjusts credit limits
      based upon payment history and the customer’s current credit worthiness. An
      allowance for doubtful accounts has been established to provide for estimated
      losses on receivable collections. The balance of this allowance is determined
      by
      regular reviews of outstanding receivables and historical experience. As the
      financial condition of customers change, circumstances develop or additional
      information becomes available, adjustments to the allowance for doubtful
      accounts may be required.





Revenue
      is not recognized until it is realized or realizable and earned. The criteria
      to
      meet this guideline are: persuasive evidence of an arrangement exists, delivery
      has occurred or services have been rendered, the price to the buyer is fixed
      or
      determinable and collectibility is reasonably assured. In some cases, a customer
      is not able to take delivery of a completed product and requests that the
      Company store the product for defined period of time. The Company will process
      a
      Bill-and-Hold invoice and recognize revenue at the time of the storage request
      if all of the following criteria are met:


l
              The
                  customer has accepted title and risk of loss;l
              The
                  customer has provided a written purchase order for the
                  product;l
              The
                  customer, not the Company, requested the product to be stores and
                  to be
                  invoices under a Bill-and-Holdarrangement.
                  The customer must also provide the business purpose for the storage
                  request;l
              The
                  customer must provide a storage period and future shipping
                  date;l
              The
                  Company must not have retained any future performance obligations
                  on the
                  product;l
              The
                  Company must segregate the stored product and not make it available
                  to use
                  on other orders; andl
              The
                  product must be completed and ready for
                  shipment.





The
      Company has made significant investments in inventory to service its customers.
      On a routine basis, the Company uses estimates in determining the level of
      reserves required to state inventory at the lower of cost or market.
      Management’s estimates are primarily influenced by market activity levels,
      production requirements, the physical condition of products and technological
      innovation. Changes in any of these factors may result in adjustments to the
      carrying value of inventory. Also, the Company accounts for a significant
      portion of its inventory under the LIFO method. The LIFO reserve can be impacted
      by changes in the LIFO layers and by inflation index adjustments. Generally,
      annual increases in the inflation rate or the FIFO value of inventory cause
      the
      value of the LIFO reserve to increase.





Long-lived
      assets held and used by the Company are reviewed for impairment whenever events
      or changes in circumstances indicate that the carrying amount of an asset may
      not be recoverable. The Company assesses the recoverability of long-lived assets
      by determining whether the carrying value can be recovered through projected
      undiscounted cash flows, based on expected future operating results. Future
      adverse market conditions or poor operating results could result in the
      inability to recover the current carrying value and thereby possibly requiring
      an impairment charge in the future.




Goodwill
      acquired in connection with business combinations represent the excess of
      consideration over the fair value of net assets acquired. The Company performs
      impairment tests on the carrying value of goodwill at least annually or whenever
      events or changes in circumstances indicate the carrying value of goodwill
      may
      be greater than fair value, such as significant underperformance relative to
      historical or projected operating results and significant negative industry
      or
      economic trends. The Company’s fair value is primarily determined using
      discounted cash flows, which requires management to make judgments about future
      operating results, working capital requirements and capital spending levels.
      Changes in cash flow assumptions or other factors which negatively impact the
      fair value of the operations would influence the evaluation and may result
      in a
      determination that goodwill is impaired and a corresponding impairment
      charge.




Deferred
      tax assets and liabilities are recognized for the differences between the book
      basis and tax basis of the net assets of the Company. In providing for deferred
      taxes, management considers current tax regulations, estimates of future taxable
      income and available tax planning strategies. Changes in state, federal and
      foreign tax laws as well as changes in the financial position of the Company
      could also affect the carrying value of deferred tax assets and liabilities.
      If
      management estimates that some or all of any deferred tax assets will expire
      before realization or that the future deductibility is not probable, a valuation
      allowance would be recorded.





The
      Company is subject to claims and legal actions in the ordinary course of
      business. The Company maintains insurance coverage for various aspects of its
      businesses and operations. The Company retains a portion of the insured losses
      that occur through the use of deductibles. Management regularly reviews
      estimates of reported and unreported insured and non-insured claims and legal
      actions and provides for losses through reserves. As circumstances develop
      and
      additional information becomes available, adjustments to loss reserves may
      be
      required.





The
      Company sells certain of its products to customers with a product warranty
      that
      provides repairs at no cost to the customer or the issuance of credit to the
      customer. The length of the warranty term depends on the product being sold,
      but
      ranges from one year to five years. The Company accrues its estimated exposure
      to warranty claims based upon historical warranty claim costs as a percentage
      of
      sales multiplied by prior sales still under warranty at the end of any period.
      Management reviews these estimates on a regular basis and adjusts the warranty
      provisions as actual experience differs from historical estimates or other
      information becomes available.




The
      Company offers a defined benefit plan and other benefits upon the retirement
      of
      its employees. Assets and liabilities associated with these benefits are
      calculated by third-party actuaries under the rules provided by various
      accounting standards, with certain estimates provided by management. These
      estimates include the discount rate, expected rate of return of assets and
      the
      rate of increase of compensation and health claims. On a regular basis,
      management reviews these estimates by comparing them to actual experience and
      those used by other companies. If a change in an estimate is made, the carrying
      value of these assets and liabilities may have to be adjusted. The impact of
      changes in these estimates does not differ significantly from those disclosed
      in
      the Company’s Annual Report on Form 10-K for the year ended December 31,
      2005.




**Forward-Looking
      Statements and Assumptions**





This
      quarterly report on Form 10-Q contains forward-looking statements and
      information, within the meaning of the Private Securities Litigation Reform
      Act
      of 1995, that are based on management’s beliefs as well as assumptions made by
      and information currently available to management. When used in this report,
      the
      words “anticipate,” “believe,” “estimate,” “expect,” “plan,” “schedule,”
“could,” “may,” “might,” “should,” “project” or similar expressions are intended
      to identify forward-looking statements. Similarly, statements that describe
      the
      Company’s future plans, objectives or goals are also forward-looking statements.
      Such statements reflect the Company’s current views with respect to certain
      events and are subject to certain assumptions, risks and uncertainties, many
      of
      which are outside the control of the Company. Undue reliance should not be
      place
      on forward-looking statements. These risks and uncertainties include, but are
      not limited to:





l
            oil
                price volatility;l
            declines
                in domestic and worldwide oil and gas drilling;l
            capital
                spending levels of oil producers;l
            the
                cyclicality of the trailer industry;l
            availability
                and prices for raw materials;l
            the
                inherent dangers and complexities of our operations;l
            uninsured
                judgments or a rise in insurance premiums;l
            the
                inability to effectively integrate acquisitions;l
            labor
                disruptions and increasing labor costs;l
            the
                availability of qualified and skilled labor;l
            disruption
                of our operating facilities or management information
                systems;l
            the
                impact on foreign operations of war, political disruption, civil
                disturbance, economic and legal sanctions andchanges
                in global trade policies;l
            currency
                exchange rate fluctuations in the markets in which the Company
                operates;l
            changes
                in the laws, regulations, policies or other activities of governments,
                agencies and similar organizationswhere
                such actions may affect the production, licensing, distribution or
                sale of
                the Company’s products, the costthereof
                or applicable tax rates;l
            costs
                related to legal and administrative proceedings, including adverse
                judgments against the Company if theCompany
                fails to prevail in reversing such judgments; andl
            general
                industry, political and economic conditions in the markets where
                the
                Company procures material,components
                and supplies for the production of the Company’s principal products or
                where the Company’sproducts
                are produced, distributed or sold.


.





Additional
      information about risks and uncertainties that could cause actual results to
      differ materially from forward-looking statements is contained in Part I, Item
      1A. “Risk Factors” of the Company’ Annual Report on Form 10-K for the year ended
      December 31, 2005. All forward-looking statements attributable to the Company
      or
      persons acting on the Company’s behalf are expressly qualified in their entirety
      by these factors. Should one or more of these risks or uncertainties
      materialize, or should underlying assumptions prove incorrect, actual results
      may vary materially from those anticipated, believed, estimated or expected.
      The
      forward-looking statements included in this report are only made as of the
      date
      of this report and, except as required by securities laws, the Company disclaims
      any obligation to publicly update forward-looking statements to reflect
      subsequent events or circumstances.





**Item
      3.**  **Quantitative
      and Qualitative Disclosures About Market Risk.**





The
      Company’s financial instruments include cash, accounts receivable, accounts
      payable, invested funds and debt obligations. The book value of accounts
      receivable, short-term debt and accounts payable are considered to be
      representative of their fair market value because of the short maturity of
      these
      instruments. The Company’s accounts receivable are not concentrated in one
      customer or industry and are not viewed as an unusual credit risk.




The
      Company does not utilize financial or derivative instruments for trading
      purposes or to hedge exposures to interest rates, foreign currency rates or
      commodity prices. Due to the low level of current debt exposure, the Company
      does not have any significant exposure to interest rate fluctuations. However,
      if the Company drew on its line of credit under its Bank Facility, the Company
      would have exposure since the interest rate is variable. In addition, the
      Company primarily invoices and purchases in the same currency as the functional
      currency of its operations, which minimizes exposure to currency rate
      fluctuations.





The
      Company is exposed to currency fluctuations with debt denominated in U.S.
      dollars owed to the Company’s U.S. entity by its French and Canadian entities.
      As of September 30, 2006, this inter-company debt was comprised of 0.4 million
      euros and $9.0 million Canadian dollars. As of September 30, 2006, if the U.S.
      dollar strengthened by 10% over these currencies, the net income impact would
      be
      $0.6 million of expense and if the U.S. dollar weakened by 10% over these
      currencies, the net income impact would be $0.6 million of income. Also, certain
      assets and liabilities, primarily employee and tax related, denominated in
      the
      local currency of foreign operations whose functional currency is the U.S.
      dollar are exposed to fluctuations in currency rates. As of September 30, 2006,
      if the U.S. dollar strengthened by 10% over these currencies, the net income
      impact would be $0.1 million of expense and if the U.S. dollar weakened by
      10%
      over these currencies, the net income impact would be $0.1 million of
      income.





**Item
      4.**  **Controls
      and Procedures.**





Based
      on
      their evaluation of the Company’s disclosure controls and procedures as of
      September 30, 2006, the Chief Executive Officer of the Company, Douglas V.
      Smith, and the Chief Financial Officer of the Company, R. D. Leslie, have
      concluded that the Company’s disclosure controls and procedures (as defined in
      Rules 13a-15(e) and Rule 15d-15(e) promulgated under the Securities Exchange
      Act
      of 1934) are effective.





There
      were no changes in the Company’s internal control over financial reporting that
      occurred during the quarter ended September 30, 2006, that have materially
      affected, or are reasonably likely to materially affect, the Company’s internal
      control over financial reporting.




**PART
      II- OTHER INFORMATION**





**Item
      1.**  **Legal
      Proceedings** .





A
      class
      action complaint was filed in the U.S. District Court for the Eastern District
      of Texas on March 7, 1997, by an employee and a former employee which alleged
      race discrimination in employment. Certification hearings were conducted in
      Beaumont, Texas in February 1998 and in Lufkin, Texas in August 1998. In April
      1999, the District Court issued a decision that certified a class for this
      case,
      which included all black employees employed by the Company from March 6, 1994,
      to the present. The case was closed from 2001 to 2003 while the parties
      unsuccessfully attempted mediation. Trial for this case began in December 2003,
      but was postponed by the District Court and was completed in October 2004.
      The
      only claims made at trial were those of discrimination in initial assignments
      and promotions.




On
      January 13, 2005, the District Court entered its decision finding that the
      Company discriminated against African-American employees in initial assignments
      and promotions. The District Court also concluded that the discrimination
      resulted in a shortfall in income for those employees and ordered that the
      Company pay those employees back pay to remedy such shortfall, together with
      pre-judgment interest in the amount of 5%. On August 29, 2005, the District
      Court determined that the backpay award for the class of affected employees
      would be $3.4 million (including interest to January 1, 2005) and provided
      a
      formula for attorney fees that the Company estimates will result in a total
      not
      to exceed $2.5 million. In addition to back pay with interest, the District
      Court (i) enjoined and ordered the Company to cease and desist all racially
      biased assignment and promotion practices and (ii) ordered the Company to pay
      court costs and expenses.





The
      Company has reviewed this decision with its outside counsel and on September
      19,
      2005, appealed the decision to the U.S. Court of Appeals for the Fifth Circuit.
      On January 26, 2006, the Court of Appeals notified the parties that the case
      had
      been docketed. The Company has submitted its briefs and now anticipates a
      decision in this case in the second quarter of 2007. The Company believes that
      after a full and fair review of the evidence, the Court of Appeals will
      determine that the plaintiffs have not established their claims of
      discrimination by the Company against the plaintiffs and will enter a decision
      to that effect and will dismiss the case against the Company. At this time,
      the
      Company has concluded that an unfavorable ultimate outcome is not probable.
      If
      the District Court’s decision is reversed and remanded for a new trial, the
      Company will vigorously defend itself on retrial. While the ultimate
      outcome and impact of these claims against the Company cannot be predicted
      with
      certainty, the Company believes that the resolutions of these proceedings will
      not have a material adverse effect on its consolidated financial position.
      However, should the Company be unsuccessful in its appeal, the final
      determination could have a material impact on the Company’s reported earnings,
      results of operations and cash flows in a future reporting period.





There
      are
      various other claims and legal proceedings arising in the ordinary course of
      business pending against or involving the Company wherein monetary damages
      are
      sought. It is management’s opinion that the Company’s liability, if any, under
      such claims or proceedings would not materially affect its consolidated
      financial position, results of operations or cash flow.




**Item
      1A.   Risks
      Factors.**




In
      addition to other information set forth in this quarterly report, the factors
      discussed in Part I, Item 1A. “Risk Factors" in the Company's Annual Report on
      Form 10-K for the year ended December 31, 2005, which could materially affect
      the Company's business, financial condition and/or operating results, should
      be
      carefully considered. The risks described in the Company's Annual Report on
      Form
      10-K are not the only risks facing the Company. Additional risks and
      uncertainties not currently known to the Company or that it currently deems
      to
      be immaterial also may materially adversely affect the Company's business,
      financial condition and/or operating results.







**Item
      6. Exhibits.**




10.1
                
                Employment
                    Agreement, dated as of August 18, 2006, by and between Lufkin
                    Industries,
                    Inc. and Larry M. Hoes (incorporated by reference to Exhibit
                    10.1 to
                    Lufkin Industries, Inc.’s Form 8-K (File No. 0-02612) filed on August 24,
                    2006).10.2
                
                Employment
                    Agreement, dated as of August 18, 2006, by and between Lufkin
                    Industries,
                    Inc. and John F. Glick (incorporated by reference to Exhibit
                    10.1 to
                    Lufkin Industries, Inc.’s Form 8-K (File No. 0-02612) filed on August 24,
                    2006).10.3
                
                Employment
                    Agreement, dated as of August 18, 2006, by and between Lufkin
                    Industries,
                    Inc. and Scott H. Semlinger (incorporated by reference to Exhibit
                    10.1 to
                    Lufkin Industries, Inc.’s Form 8-K (File No. 0-02612) filed on August 24,
                    2006).10.4
                
                Employment
                    Agreement, dated as of August 18, 2006, by and between Lufkin
                    Industries,
                    Inc. and Paul G. Perez (incorporated by reference to Exhibit
                    10.1 to
                    Lufkin Industries, Inc.’s Form 8-K (File No. 0-02612) filed on August 24,
                    2006).10.5
                
                Employment
                    Agreement, dated as of August 18, 2006, by and between Lufkin
                    Industries,
                    Inc. and Robert D. Leslie (incorporated by reference to Exhibit
                    10.1 to
                    Lufkin Industries, Inc.’s Form 8-K (File No. 0-02612) filed on August 24,
                    2006).*31.1
                
                Rule
                    13a-14(a)/15d-14(a) Certification of Chief Executive
                    Officer.*31.2
                
                Rule
                    13a-14(a)/15d-14(a) Certification of Chief Financial
                    Officer.*32.1
                
                Section
                    1350 Certification of Chief Executive Officer.*32.2
                
                Section
                    1350 Certification of Chief Financial Officer.


*
      Filed
      herewith






**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.





Date:     November
      8, 2006





LUFKIN
      INDUSTRIES, INC.





By:     /s/
      R. D.
      Leslie





R.D.
      Leslie


Signing
      on behalf of the registrant and as


Vice
      President/Treasurer/Chief Financial Officer


(Principal
      Financial and Accounting Officer)






**INDEX
      TO EXHIBITS**





Exhibit
                  Number
              
              Description10.1
              
              Employment
                  Agreement, dated as of August 18, 2006, by and between Lufkin Industries,
                  Inc. and Larry M. Hoes (incorporated by reference to Exhibit 10.1
                  to
                  Lufkin Industries, Inc.’s Form 8-K (File No. 0-02612) filed on August 24,
                  2006).10.2
              
              Employment
                  Agreement, dated as of August 18, 2006, by and between Lufkin Industries,
                  Inc. and John F. Glick (incorporated by reference to Exhibit 10.1
                  to
                  Lufkin Industries, Inc.’s Form 8-K (File No. 0-02612) filed on August 24,
                  2006).10.3
              
              Employment
                  Agreement, dated as of August 18, 2006, by and between Lufkin Industries,
                  Inc. and Scott H. Semlinger (incorporated by reference to Exhibit
                  10.1 to
                  Lufkin Industries, Inc.’s Form 8-K (File No. 0-02612) filed on August 24,
                  2006).10.4
              
              Employment
                  Agreement, dated as of August 18, 2006, by and between Lufkin Industries,
                  Inc. and Paul G. Perez (incorporated by reference to Exhibit 10.1
                  to
                  Lufkin Industries, Inc.’s Form 8-K (File No. 0-02612) filed on August 24,
                  2006).10.5
              
              Employment
                  Agreement, dated as of August 18, 2006, by and between Lufkin Industries,
                  Inc. and Robert D. Leslie (incorporated by reference to Exhibit
                  10.1 to
                  Lufkin Industries, Inc.’s Form 8-K (File No. 0-02612) filed on August 24,
                  2006).*31.1
              
              Rule
                  13a-14(a)/15d-14(a) Certification of Chief Executive
                  Officer.*31.2
              
              Rule
                  13a-14(a)/15d-14(a) Certification of Chief Financial
                  Officer.*32.1
              
              Section
                  1350 Certification of Chief Executive Officer.*32.2
              
              Section
                  1350 Certification of Chief Financial Officer.





*
      Filed
      herewith