Edgar Filing: QUANEX CORP

Unassociated Document

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

[x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended April 30, 2007

[ ] 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 1-5725

QUANEX CORPORATION
(Exact name of registrant as specified in its charter)

DELAWARE		38-1872178
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

1900 West Loop South, Suite 1500, Houston, Texas 77027
(Address of principal executive offices and zip code)

Registrant’s telephone number, including area code: (713) 961-4600

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. (Check one):

Large accelerated filer [x] Accelerated filer [ ] 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]

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

Class		Outstanding at May 24, 2007
Common Stock, par value $0.50 per share		37,098,097

QUANEX CORPORATION

INDEX

PART I.		FINANCIAL INFORMATION

	Item 1:	Financial Statements (Unaudited)
		Consolidated Balance Sheets-April 30, 2007 and October 31, 2006
		Consolidated Statements of Income-Three and Six Months Ended April 30, 2007 and 2006
		Consolidated Statements of Cash Flow-Six Months Ended April 30, 2007 and 2006
		Consolidated Statement of Stockholders’ Equity-Six Months Ended April 30, 2007
		Notes to Consolidated 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 Factors

	Item 4:	Submission of Matters to a Vote of Security Holders

	Item 5:	Other Items

	Item 6:	Exhibits
		Exhibit 3.5
		Exhibit 10.1
		Exhibit 31.1
		Exhibit 31.2
		Exhibit 32.1

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

QUANEX CORPORATION

CONSOLIDATED BALANCE SHEETS

(Unaudited)

	April 30, 2007			October 31, 2006
ASSETS	(In thousands except share data)
Current assets:
Cash and equivalents	$	63,961		$	105,708
Short-term investments		40,000			—
Accounts and notes receivable, net of allowance of $4,953 and $4,180		211,685			184,311
Inventories		164,131			142,788
Deferred income taxes		12,429			12,218
Other current assets		5,792			5,584
Total current assets		497,998			450,609
Property, plant and equipment, net		443,031			432,058
Goodwill		201,732			196,350
Cash surrender value insurance policies		29,588			29,108
Intangible assets, net		90,740			75,285
Other assets		15,577			18,742
Total assets	$	1,278,666		$	1,202,152

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	181,438		$	137,564
Accrued liabilities		51,950			54,943
Income taxes payable		5,351			13,185
Current maturities of long-term debt		1,464			2,721
Total current liabilities		240,203			208,413
Long-term debt		129,416			130,680
Deferred pension credits		1,457			1,115
Deferred postretirement welfare benefits		7,426			7,300
Deferred income taxes		64,203			66,189
Non-current environmental reserves		13,254			14,186
Other liabilities		16,902			15,754
Total liabilities		472,861			443,637

Stockholders’ equity:
Preferred stock, no par value, shares authorized 1,000,000; issued and outstanding none		—			—
Common stock, $0.50 par value, shares authorized 100,000,000 and 50,000,000; issued 38,301,033 and 38,319,960		19,152			19,160
Additional paid-in-capital		210,929			208,714
Retained earnings		621,155			579,753
Accumulated other comprehensive income (loss)		(1,718	)		(1,736	)
		849,518			805,891
Less treasury stock, at cost, 1,104,232 and 1,200,617 shares		(41,965	)		(45,628	)
Less common stock held by Rabbi Trust, 130,329 shares		(1,748	)		(1,748	)
Total stockholders’ equity		805,805			758,515
Total liabilities and stockholders’ equity	$	1,278,666		$	1,202,152

The accompanying notes are an integral part of the financial statements.

QUANEX CORPORATION

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

	Three Months Ended April 30,						Six Months Ended April 30,
	2007			2006			2007			2006
	(In thousands, except per share amounts)

Net sales	$	519,438		$	507,236		$	937,079		$	951,805
Cost and expenses:
Cost of sales (exclusive of items shown separately below)		424,457			396,541			767,022			748,625
Selling, general and administrative expense		24,872			23,940			50,571			44,813
Depreciation and amortization		19,567			17,910			38,563			35,298
Operating income		50,542			68,845			80,923			123,069
Interest expense		(1,024	)		(1,215	)		(2,059	)		(2,455	)
Other, net		1,733			356			3,707			467
Income from continuing operations before income taxes		51,251			67,986			82,571			121,081
Income tax expense		(18,451	)		(25,155	)		(29,726	)		(44,800	)
Income from continuing operations		32,800			42,831			52,845			76,281
Income (loss) from discontinued operations, net of taxes		—			19			—			(406	)
Net income	$	32,800		$	42,850		$	52,845		$	75,875

Basic earnings per common share:
Earnings from continuing operations	$	0.89		$	1.14		$	1.43		$	2.02
Income (loss) from discontinued operations	$	—		$	—		$	—		$	(0.01	)
Basic earnings per share	$	0.89		$	1.14		$	1.43		$	2.01

Diluted earnings per common share:
Earnings from continuing operations	$	0.84		$	1.07		$	1.38		$	1.93
Income (loss) from discontinued operations	$	—		$	—		$	—		$	(0.01	)
Diluted earnings per share	$	0.84		$	1.07		$	1.38		$	1.92

Weighted-average common shares outstanding:
Basic		36,943			37,677			36,920			37,677
Diluted		39,416			40,327			39,113			40,131

Cash dividends per share	$	0.1400		$	0.1200		$	0.2800		$	0.2233

The accompanying notes are an integral part of the financial statements.

QUANEX CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOW

(Unaudited)

	Six Months Ended April 30,
	2007			2006
Operating activities:	(In thousands)
Net income	$	52,845		$	75,875
Loss (income) from discontinued operations		—			406
Adjustments to reconcile net income to cash provided by operating activities from continuing operations:
Depreciation and amortization		38,697			35,612
Deferred income taxes		(2,200	)		1,180
Stock-based compensation		3,685			2,797
Changes in assets and liabilities, net of effects from acquisitions and dispositions:
(Increase) decrease in accounts and notes receivable		(22,716	)		(42,506	)
(Increase) decrease in inventory		(19,853	)		(22,874	)
Increase (decrease) in accounts payable		42,626			33,669
Increase (decrease) in accrued liabilities		(4,134	)		(11,686	)
Increase (decrease) in income taxes payable		(7,718	)		(1,575	)
Increase (decrease) in deferred pension and postretirement benefits		2,888			632
Other, net		264			(3,327	)
Cash provided by (used for) operating activities from continuing operations		84,384			68,203
Cash provided by (used for) operating activities from discontinued operations		—			(742	)
Cash provided by (used for) operating activities		84,384			67,461

Investing activities:
Purchases of short-term investments		(46,150	)		—
Proceeds from sales of short-term investments		6,150			—
Acquisitions, net of cash acquired		(58,493	)		—
Capital expenditures, net of retirements		(16,626	)		(42,915	)
Proceeds from sale of discontinued operations		—			5,432
Retired executive life insurance proceeds		—			461
Other, net		312			320
Cash provided by (used for) investing activities from continuing operations		(114,807	)		(36,702	)
Cash provided by (used for) investing activities from discontinued operations		—			(14	)
Cash provided by (used for) investing activities		(114,807	)		(36,716	)

Financing activities:
Repayments of long-term debt		(2,521	)		(2,307	)
Common stock dividends paid		(10,374	)		(8,588	)
Issuance of common stock from option exercises, including related tax benefits		1,571			10,724
Purchases of treasury stock		—			(17,906	)
Other, net		(11	)		—
Cash provided by (used for) financing activities from continuing operations		(11,335	)		(18,077	)
Cash provided by (used for) financing activities from discontinued operations		—			(56	)
Cash provided by (used for) financing activities		(11,335	)		(18,133	)
Effect of exchange rate changes on cash equivalents		11			13
Increase (decrease) in cash and equivalents		(41,747	)		12,625
Cash and equivalents at beginning of period		105,708			49,681
Cash and equivalents at end of period	$	63,961		$	62,306

Supplemental disclosure of cash flow information:
Cash paid during the period for interest	$	1,902		$	2,203
Cash paid during the period for income taxes	$	39,178		$	40,806

The accompanying notes are an integral part of the financial statements.

QUANEX CORPORATION

CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY

(Unaudited)


				Accumulated
		Additional		Other	Treasury	Total
	Common	Paid-in	Retained	Comprehensive	Stock &	Stockholders’
Six months ended April 30, 2007	Stock	Capital	Earnings	Income (Loss)	Other	Equity
	(In thousands, except per share amounts)

Balance at October 31, 2006	$19,160	$208,714	$579,753	$(1,736)	$(47,376)	$758,515
Net income			52,845			52,845
Common dividends ($0.28 per share)			(10,374)			(10,374)
Stock-based compensation activity:
Stock-based compensation earned		3,650				3,650
Stock options exercised			(929)		2,035	1,106
Restricted stock awards		(1,609)	(19)		1,628	—
Stock-based compensation tax benefit		584				584
Other	(8)	(410)	(121)	18		(521)
Balance at April 30, 2007	$19,152	$210,929	$621,155	$(1,718)	$(43,713)	$805,805

The accompanying notes are an integral part of the financial statements.

1.	Basis of Presentation

The interim unaudited consolidated financial statements of Quanex Corporation and its subsidiaries (Quanex or the Company) include all adjustments, which, in the opinion of management, are necessary for a fair presentation of the Company’s financial position and results of operations. All such adjustments are of a normal recurring nature. These financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X.

In January 2006, the Company sold Temroc Metals, Inc. (Temroc). Accordingly, its operating results are reported as discontinued operations in the Consolidated Statements of Income and Consolidated Statements of Cash Flow (see Note 15). On February 1, 2007, Quanex purchased the assets of Atmosphere Annealing, Inc. (AAI) which has been integrated into the Company’s Vehicular Products segment (see Note 4).

Interim results are not necessarily indicative of results for a full year. The information included in this Form 10-Q should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations and the Consolidated Financial Statements and notes thereto included in the Quanex Corporation Form 10-K filed with the U.S. Securities and Exchange Commission for the year ended October 31, 2006.

2. New Accounting Pronouncements

In February 2007, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standard (SFAS) No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities - Including an Amendment of FASB Statement No. 115” (SFAS 159). This standard provides companies with an option to measure, at specified election dates, many financial instruments and certain other items at fair value that are not currently measured at fair value. A company will report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date. This Statement also establishes presentation and disclosure requirements designed to facilitate comparisons between entities that choose different measurement attributes for similar types of assets and liabilities. SFAS 159 is effective as of the beginning of an entity's first fiscal year that begins after November 15, 2007 (as of November 1, 2008 for the Company). The Company is currently assessing the impact of applying SFAS 159’s elective fair value option on the Company’s financial statements.

In September 2006, the FASB issued SFAS No. 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), which requires recognition of the funded status of a benefit plan in the balance sheet. SFAS 158 also requires recognition, in other comprehensive income, of certain gains and losses that arise during the period but which are deferred under pension accounting rules. SFAS 158 also requires defined benefit plan assets and obligations to be measured as of the date of the employer’s fiscal year-end. SFAS 158 provides recognition and disclosure elements that will be effective for fiscal years ending after December 15, 2006 (as of October 31, 2007 for the Company) and measurement date elements that will be effective for fiscal years ending after December 15, 2008 (as of October 31, 2009 for the Company). The Company is currently evaluating the recognition element of adopting SFAS 158; such adoption will be impacted by plan returns during fiscal 2007. The measurement date element will not have an impact on the Company as the Company already measures the plan assets and obligations as of the end of its fiscal year.

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (SFAS 157), which defines fair value, establishes a framework for measuring fair value in accordance with generally accepted accounting principles, and expands disclosures about fair value measurements. The provisions of SFAS 157 are effective for fiscal years beginning after November 15, 2007 (as of November 1, 2008 for the Company). The Company is currently evaluating the impact of adopting SFAS 157 on its consolidated financial statements.

In September 2006, the FASB ratified the Emerging Issues Task Force (EITF) Issue No. 06-5, “Accounting for Purchases of Life Insurance - Determining the Amount that Could be Realized in Accordance with FASB Technical Bulletin 85-4” (EITF 06-5). The EITF concluded that a policyholder should consider any additional amounts included in the contractual terms of the life insurance policy in determining the “amount that could be realized under the insurance contract”. For group policies with multiple certificates or multiple policies with a group rider, the EITF also tentatively concluded that the amount that could be realized should be determined at the individual policy or certificate level, (i.e., amounts that would be realized only upon surrendering all of the policies or certificates would not be included when measuring the assets). The provisions of EITF 06-5 are effective for fiscal years beginning after December 15, 2006 (as of November 1, 2007 for the Company). The Company is currently evaluating the impact of adopting EITF 06-5 on its consolidated financial statements.

In September 2006, the FASB issued FASB Staff Position (FSP) No. AUG AIR-1, “Accounting for Planned Major Maintenance Activities” (FSP AUG AIR-1) which is effective for fiscal years beginning after December 15, 2006 (as of November 1, 2007 for the Company). FSP AUG AIR-1 prohibits the use of the accrue-in-advance method of accounting for planned major maintenance activities in annual and interim financial reporting periods. The Company is currently assessing the impact that the adoption of FSP AUG AIR-1 will have on the Company’s financial statements.

In September 2006, the SEC released SAB No. 108, “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements” (SAB 108), which provides interpretive guidance on how the effects of the carryover or reversal of prior year misstatements should be considered in quantifying a current year misstatement. The SEC staff believes that registrants should quantify errors using both a balance sheet and an income statement approach and evaluate whether either approach results in quantifying a misstatement that, when all relevant quantitative and qualitative factors are considered, is material. The Company must apply the guidance of SAB 108 in connection with the preparation of its annual financial statements for the year ending October 31, 2007. The Company does not expect any impact to its consolidated financial statements upon adoption of SAB 108.

In July 2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (FIN 48) which is effective for fiscal years beginning after December 15, 2006 (as of November 1, 2007 for the Company) and is an interpretation of FASB Statement No. 109, “Accounting for Income Taxes”. FIN 48 prescribes a recognition threshold and measurement attribute for recognition and measurement of a tax position taken or expected to be taken in a tax return. FIN 48 also provides guidance on derecognition and expanded disclosure requirements. The Company is currently assessing the impact, if any, that the adoption of FIN 48 will have on the Company’s financial statements.

In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections” (SFAS 154), which replaces Accounting Principles Board Opinion No. 20, “Accounting Changes” and FASB Statement No. 3, “Reporting Accounting Changes in Interim Financial Statements”. SFAS 154 is effective for accounting changes and correction of errors made in fiscal years beginning after December 15, 2005 (as of November 1, 2006 for the Company) and requires retrospective application to prior period financial statements of voluntary changes in accounting principles, unless it is impractical to

determine either the period-specific effects or the cumulative effect of the change. The impact of SFAS 154 will depend on the nature and extent of voluntary accounting changes or error corrections, if any, after the effective date. The adoption of SFAS 154 did not have a material impact on the Company’s consolidated financial statements.

3. Short-term Investments

In the first quarter of fiscal 2007, the Company began investing in auction rate securities, which are highly liquid, variable-rate debt securities. While the underlying security has a long-term maturity, the interest rate is reset through an auction process, typically held every 7, 28 or 35 days, creating short-term liquidity. The securities trade at par, and interest is paid at the end of each auction period. The Company limits its investments in auction rate securities to securities that carry a AAA (or equivalent) rating from a recognized rating agency and limits the amount of credit exposure to any one issuer. The investments are classified as available-for-sale and are reported as current assets. The Company expects its short-term investments to be sold within one year, regardless of legal maturity date. The auction rate securities are recorded at cost, which approximate fair value due to their variable interest rates that are reset within a period of less than 35 days. During the six months ended April 30, 2007, the Company purchased $46.2 million of auction rate securities and sold $6.2 million of securities. Quanex’s investment in auction rate securities was $40.0 million as of April 30, 2007.

4.	Goodwill and Acquired Intangible Assets

The changes in the carrying amount of goodwill by reportable segment during the six months ended April 30, 2007 are as follows (in thousands):

	Vehicular Products	Engineered Building Products	Aluminum Sheet Building Products	Consolidated

Balance at October 31, 2006	$ —	$175,961	$20,389	$196,350
Acquisitions	5,380	—	—	5,380
Effect of foreign currency	—	2	—	2
Balance at April 30, 2007	$ 5,380	$175,963	$20,389	$201,732

On February 1, 2007, Quanex purchased the assets of AAI resulting in the addition of $5.4 million of estimated goodwill during the second quarter of 2007. The estimated AAI goodwill and related allocation of assets and liabilities acquired and assumed are not final and are subject to change based on final valuations and appraisals of such items as intangible assets and property, plant and equipment.

Intangible assets consist of the following (in thousands):

	As of April 30, 2007				As of October 31, 2007
	Gross Carrying Amount		Accumulated Amortization		Gross Carrying Amount		Accumulated Amortization
Amortized intangible assets:
Non-compete agreements	$	—	$	—	$	250	$	237
Patents		25,877		9,354		25,877		7,618
Trademarks and trade names		39,030		4,569		37,930		3,705
Customer relationships		41,891		4,535		23,691		3,453
Other intangibles		1,201		1,001		1,201		851
Total	$	107,999	$	19,459	$	88,949	$	15,864

Unamortized intangible assets:
Trade name	$	2,200			$	2,200

Trade names and customer relationships as of April 30, 2007 include estimated amounts of $1.1 million and $18.2 million, respectively, related to the acquisition of AAI during the second quarter of 2007. As mentioned under the discussion of goodwill, these intangible asset amounts are preliminary and are subject to change upon completion of final valuations. The related amortization on the AAI intangible assets during the second quarter 2007 has been estimated, but may change once the valuation is finalized.

The aggregate amortization expense for the three and six month periods ended April 30, 2007 was $2.1 million and $3.8 million, respectively. The aggregate amortization expense for the three and six month periods ended April 30, 2006 was $1.8 million and $3.5 million, respectively.

Estimated amortization expense for the next five years, based upon the amortization of pre-existing intangibles and including an estimate for AAI intangible assets follows (in thousands):

Fiscal Years Ending October 31,		Estimated Amortization

2007 (remaining six months)		$4,153
2008		$ 7,044
2009		$ 5,160
2010		$ 5,079
2011		$5,079

5. Inventories

Inventories consist of the following:

	April 30,		October 31,
	2007		2006
	(In thousands)
Raw materials	$	44,670	$	32,050
Finished goods and work in process		99,574		93,258
		144,244		125,308
Supplies and other		19,887		17,480
Total	$	164,131	$	142,788

The values of inventories in the consolidated balance sheets are based on the following accounting methods:

	April 30,		October 31,
	2007		2006
	(In thousands)
LIFO	$	73,434	$	59,510
FIFO		90,697		83,278
Total	$	164,131	$	142,788

An actual valuation of inventory under the last in, first out (LIFO) method can be made only at the end of each year based on the inventory costs and levels at that time. Accordingly, interim LIFO calculations must be based on management’s estimates of expected year-end inventory costs and levels. Because these are subject to many factors beyond management’s control, interim results are subject to the final year-end LIFO inventory valuation which could significantly differ from interim estimates. To estimate the effect of LIFO on interim periods, the Company performs a projection of the year-end LIFO reserve and considers expected year-end inventory pricing and expected inventory levels. Depending on this projection, the Company may record an interim allocation of the projected year-end LIFO calculation. The Company recorded a $3.0 million LIFO charge in the second quarter of 2007. With respect to inventories valued using the LIFO method, replacement cost exceeded the LIFO value by approximately $50.4 million and $47.4 million as of April 30, 2007 and October 31, 2006, respectively.

6.	Earnings Per Share

The computational components of basic and diluted earnings per share from continuing operations are as follows (shares and dollars in thousands except per share amounts):

	For the Three Months Ended
	April 30, 2007						April 30, 2006
	Income (Numerator)		Shares (Denominator)		Per- Share Amount		Income (Numerator)		Shares (Denominator)		Per- Share Amount

Basic earnings per share	$	32,800		36,943	$	0.89	$	42,831		37,677	$	1.14
Effect of dilutive securities
Common stock equivalents arising from settlement of contingent convertible debentures		500		1,888				492		1,993
Common stock equivalents arising from stock options		—		401				—		460
Restricted stock		—		54				—		67
Common stock held by rabbi trust		—		130				—		130

Diluted earnings per share	$	33,300		39,416	$	0.84	$	43,323		40,327	$	1.07

	For the Six Months Ended
	April 30, 2007						April 30, 2006
	Income (Numerator)		Shares (Denominator)		Per- Share Amount		Income (Numerator)		Shares (Denominator)		Per- Share Amount

Basic earnings per share	$	52,845		36,920	$	1.43	$	76,281		37,677	$	2.02
Effect of dilutive securities
Common stock equivalents arising from settlement of contingent convertible debentures		1,000		1,670				984		1,789
Common stock equivalents arising from stock options		—		346				—		474
Restricted stock		—		47				—		61
Common stock held by rabbi trust		—		130				—		130

Diluted earnings per share	$	53,845		39,113	$	1.38	$	77,265		40,131	$	1.93

The computation of diluted earnings per share excludes outstanding options in periods where inclusion of such options would be anti-dilutive in the periods presented. For the six months ended April 30, 2007 and 2006, 0.3 million and 0.2 million stock options, respectively, were excluded from the computation of diluted earnings per share as the options’ exercise price was greater than the average market price of the common stock during the period.

On January 26, 2005, the Company announced that it had irrevocably elected to settle the principal amount of its 2.50% Convertible Senior Debentures due 2034 (the Debentures) in cash when they become convertible and are surrendered by the holders thereof. The Company retains its option to satisfy any excess conversion obligation (stock price in excess of conversion price) with either shares, cash or a combination of shares and cash. As a result of the Company’s election, diluted earnings per share include only the amount of shares it would take to satisfy the excess conversion obligation, assuming that all of the Debentures were surrendered. For calculation purposes, the average closing price of the Company’s common stock for each of the periods presented is used as the basis for determining dilution.

7. Comprehensive Income

Comprehensive income comprises net income and all other non-owner changes in equity, including realized and unrealized gains and losses on derivatives, minimum pension liability adjustments and foreign currency translation adjustments. Comprehensive income for the three and six months ended April 30, 2007 and 2006 was as follows:

	Three Months Ended April 30,		Six Months Ended April 30,
	2007	2006	2007	2006
	(In thousands)
Comprehensive income:
Net income	$32,800	$42,850	$52,845	$75,875
Foreign currency translation adjustment	78	18	18	59

Total comprehensive income, net of taxes	$32,878	$42,868	$52,863	$75,934

8.	Long-term Debt

Long-term debt consists of the following:

	April 30, 2007		October 31, 2006
	(In thousands)
Credit Facility Revolver	$	—	$	—
2.50% Convertible Senior Debentures due 2034		125,000		125,000
6.50% City of Richmond, Kentucky Industrial Building Revenue Bonds		2,500		5,000
City of Huntington, Indiana Economic Development Revenue Bonds principal due 2010		1,665		1,665
Scott County, Iowa Industrial Waste Recycling Revenue Bonds		1,600		1,600
Capital lease obligations and other		115		136
Total debt	$	130,880	$	133,401
Less maturities due within one year included in current liabilities		1,464		2,721
Long-term debt	$	129,416	$	130,680

Approximately 97% of the total debt had a fixed interest rate at April 30, 2007 and October 31, 2006. See Interest Rate Risk section in Item 3, “Quantitative and Qualitative Disclosures about Market Risk” of this Form 10-Q for additional discussion.

Credit Facility

The Company’s $350.0 million Senior Unsecured Revolving Credit Facility (the Credit Facility) was executed on September 29, 2006 and replaced the Company’s $310.0 million Revolving Credit Agreement. The Credit Facility has a five-year term and is unsecured.

The Credit Facility expires September 29, 2011 and provides for up to $50.0 million for standby letters of credit, limited to the undrawn amount available under the Credit Facility. Borrowings under the Credit Facility bear interest at LIBOR based on a combined leverage and ratings grid. The Credit Facility may be increased by an additional $100.0 million in the aggregate prior to maturity, subject to the receipt of additional commitments and the absence of any continuing defaults. Proceeds from the Credit Facility may be used to provide availability for working capital, capital expenditures, permitted acquisitions and general corporate purposes.

The Credit Facility includes two primary financial covenants including a maximum leverage test and minimum interest coverage test. Additionally, there are certain limitations on additional indebtedness, asset or equity sales, and acquisitions. Distributions are permitted so long as after giving effect to such dividend or stock repurchase, there is no event of default. As of April 30, 2007, the Company was in compliance with all current Credit Facility covenants. The Company had no borrowings under the Credit Facility as of April 30, 2007. The aggregate availability under the Credit Facility was $335.3 million at April 30, 2007, which is net of $14.7 million of outstanding letters of credit.

Convertible Senior Debentures

On May 5, 2004, the Company issued $125.0 million of the Convertible Senior Debentures (the Debentures) in a private placement offering. The Debentures were subsequently registered in October 2004 pursuant to the registration rights agreement entered into in connection with the offering. In November 2006, the Company filed a post-effective amendment to deregister all unsold securities under the registration statement as the Company’s obligation to maintain the effectiveness of such

registration statement had expired; the SEC declared this post-effective amendment effective on November 22, 2006. The Debentures are general unsecured senior obligations, ranking equally in right of payment with all existing and future unsecured senior indebtedness, and senior in right of payment to any existing and future subordinated indebtedness. The Debentures are effectively subordinated to all senior secured indebtedness and all indebtedness and liabilities of subsidiaries, including trade creditors.

The Debentures are convertible into shares of Quanex common stock, upon the occurrence of certain events, at an adjusted conversion rate of 39.2978 shares of common stock per $1,000 principal amount of notes. This conversion rate is equivalent to an adjusted conversion price of $25.45 per share of common stock, subject to adjustment in some events such as a common stock dividend or an increase in the cash dividend. Adjustments to the conversion rate are made when the cumulative adjustments exceed 1% of the conversion rate. In January 2005, the Company announced that it had irrevocably elected to settle the principal amount of the Debentures in cash when they become convertible and are surrendered by the holders thereof. The Company retains its option to satisfy any excess conversion obligation (stock price in excess of conversion price) with either shares, cash or a combination of shares and cash. Based on the provisions of EITF Issue No. 01-6 “The Meaning of Indexed to a Company’s Own Stock” and EITF Issue No. 00-19, “Accounting for Derivative Financial Instruments Indexed to and Potentially Settled in a Company’s Own Stock”, the conversion feature of the Debenture is not subject to the provisions of SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” (SFAS 133) and accordingly has not been bifurcated and accounted for separately as a derivative under SFAS 133.

The Debentures are only convertible under certain circumstances, including: (i) during any fiscal quarter if the closing price of the Company’s common stock for at least 20 trading days in the 30 trading-day period ending on the last trading day of the previous fiscal quarter is more than 120% of the conversion price per share of the Company’s common stock on such last trading day; (ii) if the Company calls the Debentures for redemption; or (iii) upon the occurrence of certain corporate transactions, as defined. Upon conversion, the Company has the right to deliver common stock, cash or a combination of cash and common stock. The Company may redeem some or all of the Debentures for cash any time on or after May 15, 2011 at the Debentures’ full principal amount plus accrued and unpaid interest, if any. Holders of the Debentures may require the Company to purchase, in cash, all or a portion of the Debentures on May 15, 2011, 2014, 2019, 2024 and 2029, or upon a fundamental change, as defined, at the Debentures’ full principal amount plus accrued and unpaid interest, if any. The Debentures were not convertible during the first quarter of fiscal 2007. However, effective February 1, 2007 the Debentures became convertible and continue to be convertible through the quarter ending July 31, 2007 as the closing price of the Company’s common stock exceeded the contingent conversion price as described in (i) above.

9. Pension Plans and Other Postretirement Benefits

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

	Three Months Ended April 30,						Six Months Ended April 30,
	2007			2006			2007			2006
	(In thousands)
Pension Benefits:
Service cost	$	2,060		$	1,169		$	3,596		$	2,339
Interest cost		927			960			1,998			1,920
Expected return on plan assets		(1,426	)		(967	)		(2,592	)		(1,934	)
Amortization of unrecognized transition asset		—			(13	)		—			(26	)
Amortization of unrecognized prior service cost		36			53			89			106
Amortization of unrecognized net loss		(93	)		249			159			498
Net periodic pension cost	$	1,504		$	1,451		$	3,250		$	2,903

	Three Months Ended April 30,						Six Months Ended April 30,
	2007			2006			2007			2006
	(In thousands)
Postretirement Benefits:
Service cost	$	15		$	25		$	35		$	51
Interest cost		120			129			224			264
Net amortization and deferral		(20	)		(17	)		(34	)		(35	)
Net periodic postretirement benefit cost	$	115		$	137		$	225		$	280

During the six months ended April 30, 2007, the Company contributed $154 thousand to its defined benefit plans. Additional contributions of $135 thousand are required for the remainder of the fiscal year.

The Company froze participation in its traditional defined benefit pension plans to new participants for salaried and non-union hourly employees effective December 31, 2006. In addition, effective January 1, 2007, the Company converted all non-union employees that received an additional benefit above the base matching contribution within a defined contribution plan to a defined benefit cash balance plan named the Quanex Advantage Plan. Employees covered by the Quanex Advantage Plan are entitled to receive a credit against their annual eligible wages. All new employees and many of the employees converted from other plans are eligible to receive credits equivalent to 4% of their annual eligible wages, while some of the employees involved in the conversion were “grandfathered” and are eligible to receive credits ranging up to 6.5% based upon the amount they received prior to the conversion. Additionally, every year the participants will receive an interest related credit on their respective balance equivalent to the prevailing 30-year Treasury rate. Net periodic pension cost reported above reflects the estimated components of the Quanex Advantage Plan since the effective date of January 1, 2007.

10.

Industry Segment Information

Quanex has three reportable segments covering two customer-focused markets; the vehicular products and building products markets. The Company’s reportable segments are Vehicular Products, Engineered Building Products, and Aluminum Sheet Building Products. The Vehicular Products segment

produces engineered steel bars for the light vehicle, heavy duty truck, agricultural, defense, capital goods, recreational and energy markets. The Vehicular Products segment’s primary market drivers are North American light vehicle builds and, to a lesser extent, heavy duty truck builds. The Engineered Building Products segment produces engineered products and components serving the window and door industry, while the Aluminum Sheet Building Products segment produces mill finished and coated aluminum sheet serving the broader building products markets. The main market drivers of the building products focused segments are residential housing starts and residential remodeling expenditures.

LIFO inventory adjustments along with corporate office charges and intersegment eliminations are reported as Corporate, Intersegment Eliminations and Other. The Company accounts for intersegment sales and transfers as though the sales or transfers were to third parties, that is, at current market prices. Corporate assets primarily include cash and equivalents and cash surrender value of life insurance policies partially offset by the Company’s consolidated LIFO inventory reserve.

	Three Months Ended April 30,						Six Months Ended April 30,
	2007			2006			2007			2006
	(In thousands)
Net Sales:
Vehicular Products	$	280,887		$	245,397		$	498,137		$	464,170
Engineered Building Products		103,583			127,355			202,452			253,641
Aluminum Sheet Building Products		139,188			139,530			244,425			243,510
Intersegment Eliminations		(4,220	)		(5,046	)		(7,935	)		(9,516	)
Consolidated	$	519,438		$	507,236		$	937,079		$	951,805

Operating Income (Loss):
Vehicular Products	$	35,413		$	40,422		$	60,284		$	73,671
Engineered Building Products		9,088			12,657			12,938			23,275
Aluminum Sheet Building Products		16,828			22,408			27,416			38,497
Corporate, Intersegment Eliminations & Other		(10,787	)		(6,642	)		(19,715	)		(12,374	)
Consolidated	$	50,542		$	68,845		$	80,923		$	123,069

	April 30, 2007		October 31, 2006
	(In thousands)
Identifiable Assets:
Vehicular Products	$	549,682	$	473,133
Engineered Building Products		452,450		464,605
Aluminum Sheet Building Products		186,528		169,253
Corporate, Intersegment Eliminations & Other		90,006		95,161
Consolidated	$	1,278,666	$	1,202,152

11. Stock Repurchase Program and Treasury Stock

On August 26, 2004, the Company’s Board of Directors approved an increase in the number of authorized shares in the Company’s existing stock buyback program, up to 2.25 million shares; and on August 24, 2006 the Board of Directors approved an additional increase of 2.0 million shares to the existing program. The Company records treasury stock purchases under the cost method whereby the entire cost of the acquired stock is recorded as treasury stock. The Company uses a moving average method on the subsequent reissuance of shares, and any resulting proceeds in excess of cost are credited to additional paid in capital while any deficiency is charged to retained earnings. As of October 31, 2006, the number of shares in treasury was 1,200,617. The number of shares in treasury was reduced to 1,104,232 by April 30, 2007 due to stock option exercises and restricted stock issuances. As of April 30, 2007 and October 31, 2006, the remaining shares authorized for repurchase in the program was 2,676,050.

12. Stock-Based Compensation

In the first quarter of fiscal 2006, the Company adopted SFAS No. 123 (revised 2004), “Share-Based Payment” (SFAS 123R) which required the Company to measure all employee stock-based compensation awards using a fair value method and record such expense in the consolidated financial statements beginning as of November 1, 2005. The Company has stock option, restricted stock, and restricted stock unit (RSU) plans which provide for the granting of stock options, common shares or RSUs to key employees and non-employee directors. The Company’s practice is to grant options and restricted stock or RSUs to directors on October 31^st of each year, with an additional grant of options to each director on the date of his or her first anniversary of service. Additionally, the Company’s practice is to grant options and restricted stock to employees at the Company’s December board meeting and occasionally to key employees on their respective dates of hire. The exercise price of the option awards is equal to the closing market price on these pre-determined dates. The Company generally issues shares from treasury, if available, to satisfy stock option exercises. If there are no shares in treasury, the Company issues additional shares of common stock. Stock-based compensation for the six months ended April 30, 2007 and 2006 was $3.7 million and $2.8 million, respectively.

As described in the Company’s Annual Report on Form 10-K for the fiscal year ended October 31, 2006, the Company uses the Black-Scholes-Merton option-pricing model to estimate the fair value of its stock options. Stock-based compensation related solely to stock options for the six months ended April 30, 2007 and 2006 was $2.6 million and $2.4 million, respectively. The following is a summary of valuation assumptions for grants during the following periods:

	Six Months Ended April 30,
	2007			2006
Weighted-average expected volatility		36.5	%		35.0	%
Expected term (in years)		4.9-5.1			4.8-5.2
Risk-free interest rate		4.41	%		4.40	%
Expected dividend yield over expected term		1.75	%		2.00	%
Weighted-average grant-date fair value per share		$12.48			$12.86
Weighted-average annual forfeiture rate		5.31	%		6.44	%

The Company has various stock option plans for key employees and directors as described in its Annual Report on Form 10-K for the fiscal year ended October 31, 2006. Below is a table summarizing the stock option activity in all plans since October 31, 2006:

	Shares			Weighted-Average Exercise Price Per Share		Weighted-Average Remaining Contractual Term (in years)		Aggregate Intrinsic Value (000’s)

Outstanding at October 31, 2006		1,325,961			$24.48
Granted		280,250			37.54
Exercised		(53,535	)		20.64
Forfeited		(388	)		17.43
Expired		-			-
Outstanding at April 30, 2007		1,552,288			$26.97		7.0		$24,935
Exercisable at April 30, 2007		946,126			$21.42		6.0		$20,442

The total intrinsic value of options (the amount by which the market price of the stock on the date of exercise exceeded the exercise price of the option) exercised during the six months ended April 30, 2007 and 2006 was $1.0 million and $12.5 million, respectively.

A summary of the nonvested stock option shares under all plans during the six months ended April 30, 2007 is presented below:

	Shares			Weighted-Average Grant-Date Fair Value Per Share

Nonvested at October 31, 2006		663,799			$9.67
Granted		280,250			12.48
Vested		(337,499	)		8.66
Forfeited		(388	)		9.53
Nonvested at April 30, 2007		606,162			$11.53

13. Income Taxes

The provision for income taxes is determined by applying an estimated annual effective income tax rate to income before income taxes. The rate is based on the most recent annualized forecast of pretax income, permanent book versus tax differences, and tax credits. It also includes the effect of any valuation allowance expected to be necessary during the year. The Company’s estimated annual effective tax rate is 36.0% for the six months ended April 30, 2007. Although the 2007 year to date rate is less than the 37% reported for the six months ended April 30, 2006, the 2007 estimated rate is consistent with the full fiscal year 2006 effective rate of 36.1%.

In November 2006, the Internal Revenue Service completed an audit of the tax year ending 2004; no material adjustments were proposed. The Company has a case in Tax Court regarding the disallowance of a capital loss realized in 1997 and 1998. Adequate provision has been made for this contingency and the Company believes the outcome of the case will not have a material adverse impact on its financial position or results of operations. See Note 14 for further explanation.

14.

Contingencies

Environmental

Quanex is subject to extensive laws and regulations concerning the discharge of materials into the environment and the remediation of chemical contamination. To satisfy such requirements, Quanex must make capital and other expenditures on an ongoing basis. The Company accrues its best estimates of its remediation obligations and adjusts such accruals as further information and circumstances develop. Those estimates may change substantially depending on information about the nature and extent of contamination, appropriate remediation technologies, and regulatory approvals. In accruing for environmental remediation liabilities, costs of future expenditures are not discounted to their present value, unless the amount and timing of the expenditures are fixed or reliably determinable. When environmental laws might be deemed to impose joint and several liability for the costs of responding to contamination, the Company accrues its allocable share of liability taking into account the number of parties participating, their ability to pay their shares, the volumes and nature of the wastes involved, the nature of anticipated response actions, and the nature of the Company’s alleged connections. The cost of environmental matters has not had a material adverse effect on Quanex’s operations or financial condition in the past, and management is not aware of any existing conditions that it currently believes are likely to have a material adverse effect on Quanex’s operations, financial condition or cash flows.

Total environmental reserves and corresponding recoveries for Quanex’s current plants, former operating locations, and disposal facilities were as follows:

	April 30, 2007		October 31, 2006
	(in thousands)

Current¹		$2,398		$2,591
Non-current		13,254		14,186
Total environmental reserves		15,652		16,777

Receivable for recovery of remediation costs²		$6,657		$7,192

Approximately $3.4 million of the April 30, 2007 reserve represents administrative costs; the balance represents estimated costs for investigation, studies, cleanup, and treatment. As discussed below, the reserve includes net present values for certain fixed and reliably determinable components of the Company’s remediation liabilities. Without such discounting, the Company’s estimate of its environmental liabilities as of April 30, 2007 and of as October 31, 2006 would be $17.4 million and $18.6 million, respectively. An associated $6.7 million undiscounted recovery from indemnitors of remediation costs at one plant site is recorded as of April 30, 2007. The change in the environmental reserve during the first six months of fiscal 2007 primarily consisted of cash payments for existing environmental matters.

¹Reported in Accrued liabilities on the Consolidated Balance Sheets

²Reported in Other current assets and Other assets on the Consolidated Balance Sheets

The Company’s Nichols Aluminum-Alabama, Inc. (NAA) subsidiary operates a plant in Decatur, Alabama that is subject to an Alabama Hazardous Wastes Management and Minimization Act Post-Closure Permit. Among other things, the permit requires NAA to remediate, as directed by the state, historical environmental releases of wastes and waste constituents. Consistent with the permit, NAA has undertaken various studies of site conditions and, during the first quarter 2006, started a phased program to treat in place free product petroleum that had been released to soil and groundwater. Based on its studies to date, which remain ongoing, NAA currently expects remediation costs at the Decatur plant to be $6.1 million or approximately 39% of the Company’s total environmental reserve. NAA was acquired through a stock purchase in which the sellers agreed to indemnify Quanex and NAA for environmental matters related to the business and based on conditions initially created or events initially occurring prior to the acquisition. Environmental conditions are presumed to relate to the period prior to the acquisition unless proved to relate to releases occurring entirely after closing. The limit on indemnification is $21.5 million excluding legal fees. In accordance with the indemnification, the indemnitors paid the first $1.5 million of response costs and have been paying 90% of ongoing costs. Based on its experience to date, its estimated cleanup costs going forward, and costs incurred to date as of April 30, 2007, the Company expects to recover from the sellers’ shareholders an additional $6.7 million. Of that, $5.5 million is recorded in Other assets, and the balance is reflected in Other current assets.

The Company’s reserve for its MACSTEEL plant in Jackson, Michigan is $5.4 million or 35% of the Company’s total environmental reserve. During fiscal 2006, the Company completed studies supporting selection of an interim remedy to address the impact of a historical plant landfill and slag cooling and sorting operation on groundwater. Based on those studies, the Company is proceeding with preparation of design plans for submittal to the Michigan Department of Environmental Quality of a hydraulic barrier (sheet pile) and groundwater extraction and treatment system to prevent impacted groundwater migration. The primary component of the reserve is for the estimated cost of operating the groundwater extraction and treatment system for the interim remedy over the next 10 years. The Company has estimated the annual cost of operating the system to be approximately $0.5 million. These operating costs and certain other components of the Jackson reserve have been discounted utilizing a discount rate of 4.6% and an estimated inflation rate of 2.0%. Without discounting, the Company’s estimate of its Jackson remediation liability as of April 30, 2007 would be $6.1 million. In addition to the $5.4 million reserve, the Company anticipates incurring a capital cost of $4.4 million to construct the sheet pile wall and install the groundwater extraction and treatment system. Depending on the effectiveness of the interim remedy, the results of future operations, and regulatory concurrences, the Company may incur additional costs to implement a final site remedy and may pay costs beyond the ten-year time period currently projected for operation of the interim remedy.

Approximately 18% or $2.8 million of the Company’s total environmental reserve is currently allocated to cleanup work related to Piper Impact. In the fourth fiscal quarter of 2005, the Company sold the location on Highway 15 in New Albany where Piper Impact previously had operated a plant (the Highway 15 location), but as part of the sale retained environmental liability for pre-closing contamination there. The Company voluntarily implemented a state-approved remedial action plan at the Highway 15 location that includes natural attenuation together with a groundwater collection and treatment system. The Company has estimated the annual cost of operating the existing system to be approximately $0.1 million and has assumed that the existing system will continue to be effective. The primary component of the reserve is the estimated operational cost over the next 28 years, which was discounted to a net present value using a discount rate of 4.7% and an estimated inflation rate of 2.0%. The aggregate undiscounted amount of the Piper Impact remediation costs as of April 30, 2007 is $3.8 million. The Company continues to monitor conditions at the Highway 15 location and to evaluate performance of the remedy.

The final remediation costs and the timing of the expenditures at the NAA plant, Jackson plant, Highway 15 location and other sites for which the Company has remediation obligations will depend upon such factors as the nature and extent of contamination, the cleanup technologies employed, the effectiveness of the cleanup measures that are employed, and regulatory concurrences. While actual remediation costs therefore may be more or less than amounts accrued, the Company believes it has established adequate reserves for all probable and reasonably estimable remediation liabilities. It is not possible at this point to reasonably estimate the amount of any obligation for remediation in excess of current accruals because of uncertainties as to the extent of environmental impact, cleanup technologies, and concurrence of governmental authorities. The Company currently expects to pay the accrued remediation reserve through at least fiscal 2034, although some of the same factors discussed earlier could accelerate or extend the timing.

Tax Liability

As reported in its Annual Report on Form 10-K for the year ended October 31, 2006, the Company is currently involved in a case in Tax Court regarding the disallowance of a capital loss realized in 1997 and 1998. The Company has reserves for income tax contingencies primarily associated with this case as of April 30, 2007 and October 31, 2006 of $13.5 million. Adequate provision has been made for this contingency, and the Company believes the outcome of the case will not have a material impact on its financial position or results of operations.

Other

From time to time, the Company and its subsidiaries are involved in various litigation matters arising in the ordinary course of their business. Although the ultimate resolution and impact of such litigation on the Company is not presently determinable, the Company’s management believes that the eventual outcome of such litigation will not have a material adverse effect on the overall financial condition, results of operations or cash flows of the Company.

15.

Discontinued Operations

In accordance with SFAS No. 144, “Accounting for the Impairment of Disposal of Long-Lived Assets,” the results of operations, financial position and cash flows of Temroc have been reflected in the consolidated financial statements and notes as discontinued operations for all periods presented. Temroc was sold on January 27, 2006.

There were no assets or liabilities of discontinued operations as of April 30, 2007 or October 31, 2006.

Operating results of the discontinued operations were as follows:

	Three Months Ended April 30,					Six Months Ended April 30,
	2007		2006			2007		2006
	(In thousands)
Net sales		$—		$—			$—		$5,230

Income (loss) from discontinued operations		—		30			—		(154	)
Gain (loss) on sale of discontinued operations		—		—			—		(311	)
Income tax benefit (expense)		—		(11	)		—		59
Income (loss) from discontinued operations, net of taxes		$—		$19			$—		$(406	)

Fiscal year 2006 net sales and loss from discontinued operations relate to Temroc. Fiscal year 2007 has no comparable activity as Temroc was sold and related purchase price adjustments were settled in fiscal 2006.

16.

Subsequent Events

On May 16, 2007, the Company announced that its Board of Directors initiated a review of strategic alternatives with respect to its Building Products group, which is comprised of the Engineered Building Products segment and the Aluminum Sheet Building Products segment. Strategic alternatives to be considered include, but are not limited to, a tax-free spin-off to Quanex shareholders, a sale or a joint venture. At this time, there can be no assurance that this strategic review will result in any type of transaction.

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

General

The discussion and analysis of Quanex Corporation and its subsidiaries’ financial condition and results of operations should be read in conjunction with the April 30, 2007 and October 31, 2006 Consolidated Financial Statements of the Company and the accompanying notes. References made to the “Company” or “Quanex” include Quanex Corporation and its subsidiaries unless the context indicates otherwise.

Private Securities Litigation Reform Act

Certain of the statements contained in this document and in documents incorporated by reference herein, including those made under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations” are “forward-looking” statements as defined under the Private Securities Litigation Reform Act of 1995. Generally, the words “expect,” “believe,” “intend,” “estimate,” “anticipate,” “project,” “will” and similar expressions identify forward-looking statements, which generally are not historical in nature. All statements which address future operating performance, events or developments that we expect or anticipate will occur in the future, including statements relating to volume, sales, operating income and earnings per share, and statements expressing general optimism about future operating results, are forward-looking statements. Forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from our Company’s historical experience and our present projections or expectations. As and when made, management believes that these forward-looking statements are reasonable. However, caution should be taken not to place undue reliance on any such forward-looking statements since such statements speak only as of the date when made and there can be no assurance that such forward-looking statements will occur. The Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

Factors exist that could cause the Company’s actual results to differ materially from the expected results described in or underlying the Company’s forward-looking statements. Such factors include domestic and international economic activity, prevailing prices of steel and aluminum scrap and other raw material costs, the rate of change in prices for steel and aluminum scrap, energy costs, interest rates, construction delays, market conditions, particularly in the vehicular, home building and remodeling markets, any material changes in purchases by the Company’s principal customers, labor supply and relations, environmental regulations, changes in estimates of costs for known environmental remediation projects and situations, world-wide political stability and economic growth, the Company’s successful implementation of its internal operating plans, acquisition strategies and integration, performance issues with key customers, suppliers and subcontractors, and regulatory changes and legal proceedings. Accordingly, there can be no assurance that the forward-looking statements contained herein will occur or that objectives will be achieved. All written and verbal forward-looking statements attributable to the Company or persons acting on its behalf are expressly qualified in their entirety by such factors. For more information, please see Part I, Item 1A, “Risk Factors” in the Quanex Corporation Form 10-K filed with the U.S. Securities and Exchange Commission for the year ended October 31, 2006.

Consolidated Results of Operations

Summary Information

	Three Months Ended April 30,								Six Months Ended April 30,
	2007		2006		Change		%		2007		2006		Change		%
	(Dollars in millions)

Net sales	$ 519.4		$ 507.2		$ 12.2		2.4	%	$ 937.1		$ 951.8		$ (14.7	)	(1.5	)%
Cost of sales	424.4		396.6		27.8		7.0		767.0		748.6		18.4		2.5
Selling, general and administrative	24.9		23.9		1.0		4.2		50.6		44.8		5.8		12.9
Depreciation and amortization	19.6		17.9		1.7		9.5		38.6		35.3		3.3		9.3
Operating income	50.5		68.8		(18.3	)	(26.6	)	80.9		123.1		(42.2	)	(34.3	)
Operating income margin	9.7	%	13.6	%	(3.9	)%			8.6	%	12.9	%	(4.3	)%
Interest expense	(1.0	)	(1.2	)	0.2		(16.7	)	(2.1	)	(2.5	)	0.4		(16.0	)
Other, net	1.7		0.4		1.3		325.0		3.7		0.5		3.2		640.0
Income tax expense	(18.4	)	(25.2	)	6.8		(27.0	)	(29.7	)	(44.8	)	15.1		(33.7	)
Income from continuing operations	$32.8		$42.8		$(10.0	)	(23.4	)%	$52.8		$76.3		$(23.5	)	(30.8	)%

Overview

The three and six month periods ended April 30, 2007 were difficult with housing starts and light vehicle builds down approximately 26% and 6%, respectively. Several new product and customer initiatives gained traction during these periods which helped mitigate the impact of our weak served markets. These same initiatives are expected to further benefit the Company as the full potential is realized in the future. Also included in the results is $12.0 million of revenue and $1.6 million of operating income attributable to MACSTEEL Atmosphere Annealing (AAI), acquired February 1, 2007.

The Company focused on matching controllable costs to market demand, however spread deteriorated at the Vehicular Products segment due in part to a run-up in steel scrap pricing that started in January and ran through March 2007. Steel scrap prices abated in April and did help moderate the margin erosion experienced in the first two months of the second quarter.

Business Segments

Business segments are reported in accordance with Statement of Financial Accounting Standards (SFAS) No. 131, “Disclosures about Segments of an Enterprise and Related Information” (SFAS 131). SFAS 131 requires that the Company disclose certain information about its operating segments, where operating segments are defined as “components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance”. Generally, financial information is required to be reported on the basis that it is used internally for evaluating segment performance and deciding how to allocate resources to segments.

Quanex has three reportable segments covering two customer-focused markets: the vehicular products and building products markets. The Company’s reportable segments are Vehicular Products, Engineered Building Products, and Aluminum Sheet Building Products. The Vehicular Products segment produces engineered steel bars for the light vehicle, heavy duty truck, agricultural, defense, capital goods, recreational and energy markets. The Vehicular Products segment’s primary market drivers are North American light vehicle builds and, to a much lesser extent, heavy duty truck builds. The Engineered Building Products segment produces engineered products and components serving the window and door industry, while the Aluminum Sheet Building Products segment produces mill finished and coated aluminum sheet serving the broader building products markets and secondary markets such as recreational vehicles and capital equipment. The primary market drivers of the building and construction focused segments are residential housing starts and remodeling expenditures.

For financial reporting purposes three of the Company’s five operating divisions, Homeshield, Truseal and Mikron, have been aggregated into the Engineered Building Products reportable segment. The remaining two divisions, MACSTEEL and Nichols Aluminum, are reported as separate reportable segments. Additionally, Corporate & Other is comprised of corporate office expenses and certain inter-division eliminations. The sale of products between segments is recognized at market prices. Operating income is a primary determinant in assessing performance. The segments follow the accounting principles described in the Summary of Significant Accounting Principles. Note that the three reportable segments value inventory on a FIFO basis and the LIFO reserve relating to those operations accounted for under the LIFO method of inventory valuation is computed on a consolidated basis in a single pool and treated as a corporate expense. Prior periods have been adjusted to reflect the current presentation.

Three and Six Months Ended April 30, 2007 Compared to Three and Six Months Ended April 30, 2006

Vehicular Products

	Three Months Ended April 30,								Six Months Ended April 30,
	2007		2006		Change		%		2007		2006		Change		%
	(Dollars in millions)

Net sales	$ 280.8		$ 245.4		$35.4		14.4%		$ 498.1		$ 464.2		$33.9		7.3	%
Cost of sales	230.0		192.5		37.5		19.5		408.5		365.7		42.8		11.7
Selling, general and administrative	4.9		4.3		0.6		14.0		9.7		8.4		1.3		15.5
Depreciation and amortization	10.5		8.2		2.3		28.0		19.6		16.4		3.2		19.5
Operating income	$ 35.4		$ 40.4		$(5.0	)	(12.4	)%	$ 60.3		$ 73.7		$(13.4	)	(18.2	)%
Operating income margin	12.6	%	16.5	%	(3.9	)%			12.1	%	15.9	%	(3.8	)%

Approximately 75% of the Vehicular Products segment's products are used in light vehicle, heavy truck and off-road powertrain applications. Market demand was lower in the first half of the year as highlighted by the approximate 6% reduction in light vehicle builds. The Company’s steel bar shipments increased 5.1% and 2.5% in the second quarter and first half of 2007, respectively, compared to the same periods of last year. New initiatives coupled with short-term non-automotive business, primarily in the first quarter of 2007, served to more than offset the market demand environment slow down. Stated previously, spread at the Vehicular Products segment declined primarily as steel scrap prices rose over the course of the first three months of calendar 2007. Spread did expand in April due to a favorable decline in steel scrap prices, but not enough to overcome the earlier compression. The order backlog increased roughly 9% over the first quarter, a result of the forecasted increase in the light vehicle build rate for the second half of 2007 and the continuing ramp up of new programs.

Net sales for the second quarter of 2007 were higher than the second quarter of 2006 as a result of a 5.1% increase in volume, coupled with a 4.3% increase in average selling prices and a 4.9% increase from the acquisition of MACSTEEL Atmosphere Annealing. Net sales for the first six months of 2007 were higher than the same period of 2006 due to a 2.5% increase in volume, coupled with a 2.2% increase in average selling prices and 2.6% increase from the acquisition of MACSTEEL Atmosphere Annealing. Much of the volume gains can be attributed to continued growth of new programs and the pursuit of select opportunities in secondary markets.

Operating income and the operating income margin for the second quarter and first six months of 2007 decreased due primarily to spread compression and to a much lesser extent mix, partially offset by the aforementioned volume gains. Spread eroded in the early part of the year as steel scrap prices increased, yet improved in April as steel scrap prices began to drop. Selling, general and administrative expense increased due to an additional $0.7 million of expense for the second quarter from the acquisition of AAI. Depreciation expense increased due to the recently completed capital projects at MACSTEEL Fort Smith and MACSTEEL Monroe as well as the acquisition of AAI.

Building Products

	Three Months Ended April 30,								Six Months Ended April 30,
	2007		2006		Change		%		2007		2006		Change		%
	(Dollars in millions)

Engineered BP net sales	$ 103.6		$ 127.4		$(23.8)		(18.7)	%	$ 202.5		$ 253.6		$(51.1)		(20.1)	%
Aluminum Sheet BP net sales	139.2		139.5		(0.3)		(0.2)		244.4		243.5		0.9		0.4
Net sales	242.8		266.9		(24.1)		(9.0)		446.9		497.1		(50.2)		(10.1)
Cost of sales	195.6		209.5		(13.9)		(6.6)		363.4		392.7		(29.3)		(7.5)
Selling, general and administrative	12.3		12.8		(0.5)		(3.9)		24.3		23.9		0.4		1.7
Depreciation and amortization	9.0		9.6		(0.6)		(6.3)		18.8		18.7		0.1		0.5

Engineered BP operating income	9.1		12.7		(3.6)		(28.3)		13.0		23.3		(10.3)		(44.2)
Aluminum Sheet BP operating income	16.8		22.3		(5.5)		(24.7)		27.4		38.5		(11.1)		(28.8)
Operating income	$25.9		$35.0		$(9.1)		(26.0)	%	$40.4		$61.8		$(21.4)		(34.6)	%

Engineered BP operating income margin	8.8	%	10.0	%	(1.2)%				6.4	%	9.2	%	(2.8)	%
Aluminum Sheet BP operating income margin	12.1	%	16.0	%	(3.9)	%			11.2	%	15.8	%	(4.6)	%
Operating income margin	10.7	%	13.1	%	(2.4)	%			9.0	%	12.4	%	(3.4)	%

The primary market drivers for both the Engineered Building Products segment and Aluminum Sheet Building Products segment are North American new housing starts and residential remodeling activity. The primary drivers were down for the three and six month periods ended April 30, 2007 compared to the same periods of 2006, with housing starts estimated to be down approximately 26% during the first half of the year. The Engineered Building Products segment experienced the largest decrease as several of the segment’s customers experienced demand decreases comparable to the decrease in housing starts.

The decrease in net sales at the Engineered Building Products segment for the three and six months ended April 30, 2007 was primarily comprised of reduced volumes coupled with reduced average selling prices of PVC products that dropped as a result of decreases in the resin price index. During the second quarter, the Engineered Building Products segment started to ramp up new programs that are expected to contribute to the remainder of fiscal 2007 operations. In addition, the ongoing restructuring efforts at its window profile business are also favorably impacting results versus last year. The year-over-year decrease is anticipated to narrow over the remaining quarters of fiscal 2007 as a result. The increase in net sales at Aluminum Sheet Building Products for the second quarter of fiscal 2007 was the result of a 6.8% volume decrease, offset by a 7.0% increase in average selling price. These variances are tighter than those experienced in the first quarter of the year. For the first half of 2007 net sales increased due to an 11.6% average selling price increase partially offset by a 10.0% volume decline.

Operating income and the corresponding margin declined at the Company’s Engineered Building Products segment for the three and six months ended April 30, 2007 as a direct result of the reduced volume and the impact of fixed expense de-leveraging at lower volume levels. Labor costs during the three and six month periods were brought in line as the operations were staffed to more closely match demand.

Several factors influenced the reduced operating income and margin recognized by the Aluminum Sheet Building Products segment versus the three and six month periods last year. The second quarter decrease is comprised of volume, mix and slight spread decline, whereas the decrease for the six month period is almost entirely volume and mix related as spread improved slightly. The comparison for the three and six month periods ended April 30, 2007 versus last year is more difficult due to the non-recurring favorable items realized in the first quarter of 2006, the largest of which was a $2.0 million gain recognized from the sale of an Owens Corning receivables claim.

Corporate and Other

	Three Months Ended April 30,							Six Months Ended April 30,
	2007		2006		Change	%		2007		2006		Change	%
	(Dollars in millions)

Net sales	$ (4.2	)	$ (5.1	)	$0.9	(17.6	)%	$ (7.9	)	$ (9.5	)	$1.6