UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
   
þ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 2006March 31, 2007
OR
   
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number 1-11625
Pentair, Inc.
(Exact name of Registrant as specified in its charter)
   
Minnesota 41-0907434
   
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification number)
   
5500 Wayzata Blvd, Suite 800, Golden Valley, Minnesota 55416
   
(Address of principal executive offices) (Zip code)
Registrant’s telephone number, including area code: (763) 545-1730
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. Yesþ Noo
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”(as defined in Rule 12b-2 of the Exchange Act. (Check one):
Act). Large accelerated filerþ Accelerated filero Non-accelerated filero
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yeso Noþ
On OctoberApril 27, 2006, 99,768,4712007, 99,789,104 shares of the Registrant’s common stock were outstanding.
 
 

 

 

Pentair, Inc. and Subsidiaries
     
  Page(s) 
PartPART I Financial InformationFINANCIAL INFORMATION
    
     
ITEM 1.
Item 1. Financial Statements
    
     
Condensed Consolidated Statements of Income for the three and nine months ended September 30,March 31, 2007 and April 1, 2006 and October 1, 2005
  3 
     
Condensed Consolidated Balance Sheets as of September 30, 2006,March 31, 2007, December 31, 20052006 and OctoberApril 1, 20052006
  4 
     
Condensed Consolidated Statements of Cash Flows for the ninethree months ended September 30,March 31, 2007 and April 1, 2006 and October 1, 2005
  5 
     
Notes to Condensed Consolidated Financial Statements
  6 – 2021 
     
ITEM 2.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
  2122 – 29 
     
ITEM 3.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
  3029 
     
ITEM 4.
Item 4. Controls and Procedures
  30 
     
Report of Independent Registered Public Accounting Firm
  31 
     
PartPART II Other InformationOTHER INFORMATION
    
     
ITEM 1.
Item 1. Legal Proceedings
  32 
     
ITEM 1A.
Item 1A. Risk Factors
  32 
     
ITEM 2.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
  33 
     
ITEM 6.
Item 6. Exhibits
  34 
     
Signature
  35 
Third Restated Articles of Incorporation
Fourth Amended and Superseding By-Laws
Letter Regarding Unaudited Interim Financial Information
Certification of CEO Pursuant to Section 302
Certification of CFO Pursuant to Section 302
Certification of CEO Pursuant to Section 906
Certification of CFO Pursuant to Section 906

2

PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Pentair, Inc. and Subsidiaries
Condensed Consolidated Statements of Income (Unaudited)
                        
 Three months ended Nine months ended Three months ended
 September 30 October 1 September 30 October 1 March 31 April 1
In thousands, except per-share data 2006 2005 2006 2005 2007 2006
Net sales $778,020 $716,308 $2,411,431 $2,214,466  $807,995 $771,389 
Cost of goods sold 565,533 515,467 1,713,747 1,574,254  570,592 548,881 
Gross profit 212,487 200,841 697,684 640,212  237,403 222,508 
Selling, general and administrative 137,923 112,813 406,843 350,905  142,300 129,089 
Research and development 14,271 11,148 44,017 33,107  14,950 14,863 
Operating income 60,293 76,880 246,824 256,200  80,153 78,556 
Gain on sale of investment 167 — 167 5,199 
Net interest expense 13,024 10,752 38,861 33,724  15,120 13,284 
Income from continuing operations before income taxes 47,436 66,128 208,130 227,675  65,033 65,272 
Provision for income taxes 13,995 21,595 62,985 81,582  22,903 22,201 
Income from continuing operations 33,441 44,533 145,145 146,093  42,130 43,071 
Gain (loss) on disposal of discontinued operations, net of tax 1,400 —  (51) —  143  (1,451)
Net income $34,841 $44,533 $145,094 $146,093  $42,273 $41,620 
  
Earnings per common share
 
Earnings (loss) per common share
 
Basic
  
Continuing operations $0.34 $0.44 $1.45 $1.45  $0.43 $0.43 
Discontinued operations 0.01 — — —  —  (0.01)
Basic earnings per common share $0.35 $0.44 $1.45 $1.45  $0.43 $0.42 
  
Diluted
  
Continuing operations $0.33 $0.43 $1.42 $1.42  $0.42 $0.42 
Discontinued operations 0.01 — — —  —  (0.01)
Diluted earnings per common share $0.34 $0.43 $1.42 $1.42  $0.42 $0.41 
  
Weighted average common shares outstanding
  
Basic 99,419 100,922 100,133 100,685  98,966 100,493 
Diluted 101,062 102,866 101,998 102,787  100,271 102,492 
  
Cash dividends declared per common share
 $0.14 $0.13 $0.42 $0.39  $0.15 $0.14 
See accompanying notes to condensed consolidated financial statements.

3

Pentair, Inc. and Subsidiaries
Condensed Consolidated Balance Sheets (Unaudited)
                        
 September 30 December 31 October 1 March 31 December 31 April 1
In thousands, except share and per-share data 2006 2005 2005 2007 2006 2006
Assets
  
Current assets
  
Cash and cash equivalents $45,153 $48,500 $49,352  $64,230 $54,820 $50,237 
Accounts and notes receivable, net 454,255 423,847 428,486  532,792 422,134 520,968 
Inventories 397,637 349,312 344,676  413,178 398,857 375,619 
Deferred tax assets 46,040 48,971 64,793  52,198 50,578 44,432 
Prepaid expenses and other current assets 28,736 24,394 28,244  41,907 31,239 28,921 
Total current assets 971,821 895,024 915,551  1,104,305 957,628 1,020,177 
  
Property, plant and equipment, net
 312,295 311,839 316,491  351,211 330,372 314,164 
  
Other assets
  
Goodwill 1,732,410 1,718,207 1,629,978  1,830,359 1,718,771 1,723,952 
Intangibles, net 261,261 266,533 251,308  384,933 287,011 262,829 
Other 77,386 62,152 61,739  69,505 71,197 67,561 
Total other assets 2,071,057 2,046,892 1,943,025  2,284,797 2,076,979 2,054,342 
Total assets
 $3,355,173 $3,253,755 $3,175,067  $3,740,313 $3,364,979 $3,388,683 
  
Liabilities and Shareholders’ Equity
  
 
Current liabilities
  
Short-term borrowings $16,003 $14,563 $— 
Current maturities of long-term debt $6,912 $4,137 $4,003  8,257 7,625 4,246 
Accounts payable 191,206 207,320 183,376  208,713 206,286 206,528 
Employee compensation and benefits 93,431 95,552 90,722  85,741 88,882 75,536 
Current pension and post-retirement benefits 7,918 7,918 — 
Accrued product claims and warranties 44,016 43,551 43,252  42,766 44,093 42,238 
Current liabilities of discontinued operations — 192 192 
Income taxes — 17,518 40,820  13,525 22,493 27,195 
Accrued rebates and sales incentives 41,982 45,374 41,397  31,293 39,419 23,353 
Other current liabilities 95,122 111,026 114,176  91,402 90,003 94,418 
Total current liabilities 472,669 524,670 517,938  505,618 521,282 473,514 
  
Other liabilities
 
Long-term debt 788,066 748,477 685,354  1,056,495 721,873 888,015 
Pension and other retirement compensation 171,063 152,780 142,584  213,512 207,676 158,535 
Post-retirement medical and other benefits 73,398 73,949 70,794  47,401 47,842 73,812 
Long-term income taxes payable 14,412 — — 
Deferred tax liabilities 124,393 125,785 138,186  111,106 109,781 123,663 
Other non-current liabilities 84,783 70,455 69,369  85,912 86,526 76,452 
Non-current liabilities of discontinued operations — 2,029 2,027 
Total liabilities 1,714,372 1,698,145 1,626,252  2,034,456 1,694,980 1,793,991 
  
Commitments and contingencies  
  
Shareholders’ equity
  
Common shares par value $0.162/3; 100,052,372, 101,202,237 and 101,884,698 shares issued and outstanding, respectively
 16,675 16,867 16,981 
Common shares par value $0.162/3; 99,777,660, 99,777,165 and 101,642,814 shares issued and outstanding, respectively
 16,629 16,629 16,940 
Additional paid-in capital 486,986 518,751 527,529  484,376 488,540 524,904 
Retained earnings 1,123,456 1,020,978 995,268  1,172,459 1,148,126 1,048,374 
Accumulated other comprehensive income (loss) 13,684  (986) 9,037 
Accumulated other comprehensive income 32,393 16,704 4,474 
Total shareholders’ equity 1,640,801 1,555,610 1,548,815  1,705,857 1,669,999 1,594,692 
Total liabilities and shareholders’ equity
 $3,355,173 $3,253,755 $3,175,067  $3,740,313 $3,364,979 $3,388,683 
See accompanying notes to condensed consolidated financial statements.

4

Pentair, Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows (Unaudited)
                
 Nine months ended Three months ended
 September 30 October 1 March 31 April 1
In thousands 2006 2005 2007 2006
Operating activities
  
Net income $145,094 $146,093  $42,273 $41,620 
Adjustments to reconcile net income to net cash provided by (used for) operating activities
 
Loss on disposal of discontinued operations 51 — 
Adjustments to reconcile net income to net cash used for operating activities
 
(Gain) loss on disposal of discontinued operations  (143) 1,451 
Depreciation 44,762 43,144  15,523 15,230 
Amortization 13,955 11,815  4,900 4,258 
Deferred income taxes  (89) 3,457   (355) 2,483 
Stock compensation 18,058 19,205  6,218 6,646 
Excess tax benefits from stock-based compensation  (2,677)  (7,983)  (1,063)  (2,532)
Gain on sale of investment  (167)  (5,199)
Changes in assets and liabilities, net of effects of business acquisitions and dispositions
  
Accounts and notes receivable  (23,210)  (43,760)  (99,387)  (95,541)
Inventories  (43,360)  (29,435)  (6,381)  (25,379)
Prepaid expenses and other current assets  (3,671)  (4,458)  (8,770)  (4,258)
Accounts payable  (22,136)  (8,374) 7,886  (4,041)
Employee compensation and benefits  (7,153)  (23,876)  (13,081)  (23,528)
Accrued product claims and warranties 547 290   (1,403)  (1,363)
Income taxes  (14,800) 14,321   (1,448) 10,717 
Other current liabilities  (2,263) 3,875   (7,638)  (26,140)
Pension and post-retirement benefits 14,365 11,911  4,033 4,477 
Other assets and liabilities 8,546  (4,115) 1,167 3,550 
Net cash provided by continuing operations 125,852 126,911 
Net cash provided by (used for) operating activities of discontinued operations 48  (634)
Net cash used for continuing operations  (57,669)  (92,350)
Net cash provided by operating activities of discontinued operations — 48 
Net cash provided by operating activities 125,900 126,277 
Net cash used for operating activities  (57,669)  (92,302)
  
Investing activities
  
Capital expenditures  (33,311)  (50,597)  (18,865)  (9,054)
Proceeds from sale of property and equipment 497 11,534  1,329 79 
Acquisitions, net of cash acquired  (22,879)  (10,515)  (230,581)  (2,158)
Divestitures  (24,007)  (10,574) —  (24,007)
Proceeds from sale of investment 167 23,599 
Other  (6,823)  (950) —  (2,150)
Net cash used for investing activities  (86,356)  (37,503)  (248,117)  (37,290)
  
Financing activities
  
Net short-term borrowings 1,234 — 
Proceeds from long-term debt 568,996 241,610  345,190 272,906 
Repayment of long-term debt  (526,599)  (286,333)  (10,250)  (133,051)
Proceeds from exercise of stock options 3,126 7,029  1,762 2,577 
Repurchases of common stock  (9,280) — 
Excess tax benefits from stock-based compensation 2,677 7,983  1,063 2,532 
Repurchases of common stock  (50,000) — 
Dividends paid  (42,616)  (39,889)  (15,022)  (14,224)
Net cash used for financing activities  (44,416)  (69,600)
Net cash provided by financing activities 314,697 130,740 
  
Effect of exchange rate changes on cash and cash equivalents
 1,525  (1,317) 499 589 
Change in cash and cash equivalents
  (3,347) 17,857  9,410 1,737 
Cash and cash equivalents, beginning of period
 48,500 31,495  54,820 48,500 
Cash and cash equivalents, end of period
 $45,153 $49,352  $64,230 $50,237 
See accompanying notes to condensed consolidated financial statements.

5

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
1. Basis of Presentation and Responsibility for Interim Financial Statements
We prepared the unaudited condensed consolidated financial statements following the requirements of the Securities and Exchange Commission (“SEC”) for interim reporting. As permitted under those rules, certain footnotes or other financial information that are normally required by accounting principles generally accepted in the United States can be condensed or omitted.
We are responsible for the unaudited financial statements included in this document. The financial statements include all normal recurring adjustments that are considered necessary for the fair presentation of our financial position and operating results. As these are condensed financial statements, one should also read our consolidated financial statements and notes thereto, which are included in our 20052006 Annual Report on Form 10-K for the year ended December 31, 2005.2006.
Revenues, expenses, cash flows, assets and liabilities can and do vary during each quarter of the year. Therefore, the results and trends in these interim financial statements may not be indicative of those for a full year.
Our fiscal year ends on December 31. We report our interim quarterly periods on a 13-week basis ending on a Saturday.
Certain reclassifications have been made to prior years’ condensed consolidated financial statements to conform to the current year’s presentation.
2. New Accounting Standards
In December 2004,June 2006, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 153,Exchanges of Nonmonetary Assets—An Amendment of APB Opinion No. 29, Accounting for Nonmonetary Transactions (“SFAS 153”). SFAS 153 eliminates the exception from fair value measurement for nonmonetary exchanges of similar productive assets in paragraph 21(b) of APB Opinion No. 29,Accounting for Nonmonetary Transactions, and replaces it with an exception for exchanges that do not have commercial substance. SFAS 153 specifies that a nonmonetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange. SFAS 153 is effective for the fiscal periods beginning after June 15, 2005 and we adopted it on January 1, 2006. The adoption of SFAS 153 did not have a material impact on our consolidated results of operations, financial condition, or cash flow.
In November 2004, the FASB issued SFAS No. 151,Inventory Costs—An Amendment of ARB No. 43, Chapter 4(“SFAS 151”). SFAS 151 amends the guidance in ARB No. 43, Chapter 4, “Inventory Pricing,” to clarify the accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage). Among other provisions, the new rule requires that items such as idle facility expense, excessive spoilage, double freight, and rehandling costs be recognized as current-period charges regardless of whether they meet the criterion of “so abnormal” as stated in ARB No. 43. Additionally, SFAS 151 requires that the allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. SFAS 151 is effective for fiscal years beginning after June 15, 2005 and we adopted it on January 1, 2006. The adoption of SFAS 151 did not have a material impact on our consolidated results of operations or financial condition.
In March 2004, the Emerging Issues Task Force (“EITF”) reached a consensus on Issue No. 03-1,The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments(“EITF 03-1”).EITF 03-1 provides guidance on other-than-temporary impairment models for marketable debt and equity securities accounted for under SFAS 115 and non-marketable equity securities accounted for under the cost method. The EITF developed a basic three-step model to evaluate whether an investment is other-than-temporarily impaired. In November 2005, the FASB approved the issuance of FASB Staff Position FAS No. 115-1 and FAS No. 124-1,The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments.The FASB Staff Position (“FSP”) addresses when an investment is considered impaired, whether the impairment is other-than-temporary and the measurement of an impairment loss. The FSP also includes accounting considerations subsequent to the recognition of an other-than-temporary impairment and requires certain disclosures about unrealized losses that have not been recognized as other-than-temporary. The FSP is effective for reporting periods beginning after December 15, 2005 and we adopted it on January 1, 2006. The adoption of EITF 03-1 did not have a material impact on our consolidated results of operations or financial condition.
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 Changesand SFAS No. 3,Reporting Accounting Changes in Interim Financial Statements—An Amendment of APB Opinion No. 28. SFAS 154 provides guidance on the accounting for and reporting of accounting changes and error corrections. It establishes retrospective application, or the latest practicable date, as the required method for reporting a change in accounting principle and the reporting of a correction of an error. SFAS 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. The adoption of SFAS 154 on January 1, 2006 did not have a material impact on our consolidated results of operations or financial condition.
In June 2005, the EITF reached a consensus on Issue No. 05-5,Accounting for Early Retirement or Postemployment Programs with Specific Features (such as Terms Specified in Altersteilzeit Early Retirement Arrangements)(“EITF 05-5”). EITF 05-5 addresses the accounting for the bonus feature in the German Altersteilzeit (“ATZ”) early retirement programs and requires recognition of the program expenses at the time the

6

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
ATZ contracts are signed. The EITF offers two transition alternatives, either cumulative effect or retrospective application. EITF 05-5 is effective for fiscal years beginning after December 15, 2005 and we adopted it on January 1, 2006. The adoption of EITF 05-5 did not have a material impact on our consolidated results of operations or financial condition.
In July 2006, the FASB issued FASB Interpretation No. 48Accounting for Uncertainty in Income Taxes–an interpretation of FASB Statement 109(“FIN 48”). FIN 48 prescribes a comprehensive model for recognizing, measuring, presenting and disclosing in the financial statements tax positions taken or expected to be taken on a tax return, including a decision whether to file or not to file a tax return in a particular jurisdiction. FIN 48 is effective for fiscal years beginning after December 15, 2006. If there are changes in net assets as a result of the application2006 and we adopted it on January 1, 2007. The adoption of FIN 48 these will be accounted for as an adjustment to retained earnings. We are currently assessing the impactincreased total liabilities by $2.9 million and decreased total shareholders’ equity by $2.9 million. The adoption of FIN 48 had no impact on our consolidated results of operations and financial condition.
In September 2006, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 108,Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements(“SAB 108”). SAB 108 addresses diversity in practice in quantifying financial statement misstatements. SAB 108 requires that a company quantify misstatements based on their impact on each of its financial statements and related disclosures. SAB 108 is effective for fiscal years ending after November 15, 2006, allowing a one-time transitional cumulative effect adjustment to retained earnings as of January 1, 2006 for errors that were not previously deemed material, but are material under the guidance in SAB 108. We are currently assessing the impact of adopting SAB 108 on our consolidated results of operations and financial condition.operations.
In September 2006, the FASB issued SFAS No. 157,Fair Value Measurements(“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. SFAS 157 does not require any new fair value measurements, but rather eliminates inconsistencies in guidance found in various prior accounting pronouncements. SFAS 157 is effective for fiscal years beginning after November 15, 2007. We are currently evaluating the impact of adopting SFAS 157 on our consolidated results of operations and financial condition.
In September 2006,February 2007, the FASB issued SFAS No. 158,159,Employer’s AccountingThe Fair Value Option for Defined Benefit PensionFinancial Assets and Other Postretirement Plans – an amendment of FASB Statements No. 87, 88, 106, and 132(R)Financial Liabilities(“SFAS 158”159”). SFAS 158 requires159 permits entities to choose to measure many financial instruments and certain other items at fair value that we recognize the overfunded or underfunded status of our defined benefit and retiree medical plans as an asset or liability in our 2006 year-end balance sheet, with changes in the funded status recognized through comprehensive income in the year in which they occur.are not currently required to be measured at fair value. SFAS 159 is effective for fiscal years beginning after November 15, 2007. We are currently evaluating the impact of adopting SFAS 158159 on our consolidated results of operations and financial condition.
In March 2007, the FASB ratified the Emerging Issues Task Force (“EITF”) Issue No. 06-11,Accounting for Income Tax Benefits of Dividends on Share Based Payment Awards(“EITF 06-11”). EITF 06-11 requires companies to recognize the income tax benefit realized from dividends or dividend equivalents that are charged to retained earnings and paid to employees for nonvested equity-classified employee share-based awards as an increase to additional paid-in capital. EITF 06-11 is effective for fiscal years beginning after September 15, 2007. We are currently evaluating the impact of adopting EITF 06-11 on our consolidated results of operations and financial condition.
3. Stock-based Compensation
In the fourth quarter 2005, we adopted SFAS No. 123 (Revised 2004),Share-Based Payment(“SFAS 123R”), using the modified retrospective transition method as permitted by SFAS 123R. Under this transition method, we restated our 2005 interim financial statements. Total stock-based compensation expense for the first quarter of 2007 and 2006 was $5.6$6.2 million and $5.9$6.6 million, for the three months ended September 30, 2006 and October 1, 2005, respectively, and $18.1 million and $19.2 million for the nine months ended September 30, 2006 and October 1, 2005, respectively.
Non-vested shares of our common stock were granted during the first nine monthsquarter of 2007 and 2006 to eligible employees with a vesting period of two to five years after issuance. The non-vested shares were grantedNon-vested share awards are valued at the market pricevalue on the date of grant and are typically expensed over the vesting period. Total compensation expense for non-vested share awards during the first quarter of 2007 and 2006 was $2.4$2.8 million and $2.0$2.3 million, for the three months ended September 30, 2006 and October 1, 2005, respectively, and $7.2 million and $6.0 million for the nine months ended September 30, 2006 and October 1, 2005, respectively.
During the first nine monthsquarter of 2006,2007, option awards were granted under the Omnibus Stock Incentive Plan and the Outside Directors Nonqualified Stock Option Plan (together the “Plans”), each with an exercise price equal to the market price of our common stock on the date of grant. Prior to 2006, option grants under the Plans typically had a reload feature when shares were retired to pay the exercise price, allowing individuals to receive additional options upon exercise equal to the number of shares retired. Option awards granted in the first nine months of 2006after 2005 under the Omnibus Stock Incentive Plan didPlans do not have a reload feature attached to the option. The options vest one-third each year over a three-year period and have a ten-year contractual term. Compensation expense equal to the grant date fair value is recognized for these awards typically over the vesting period. CertainNo option grants were reloaded during the first nine months of 2006quarter for individuals retiring shares to pay the exercise price of options granted prior to 2006. Reload options are vested and expensed immediately. Total compensation expense for stock option awards was $3.2 million$3.4 and $3.9$4.3 million for the three months ended September 30,first quarter of 2007 and 2006, respectively.

6

Pentair, Inc. and October 1, 2005, respectively, and $10.9 million and $13.2 million for the nine months ended September 30, 2006 and October 1, 2005, respectively.subsidiaries
Notes to condensed consolidated financial statements (unaudited)
We estimated the fair value of each stock option award during the third quarter of 2006 and 2005 on the date of grant using a Black-Scholes option pricing model, modified for dividends and using the following assumptions:

7

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
              
 September 30 October 1 March 31 April 1
 2006 2005 2007 2006
Expected stock price volatility  31.5%  34.5%  28.5%  31.5%
Expected life 4.5 yrs 3.6 yrs 4.8 yrs. 4.5 yrs.
Risk-free interest rate  4.86%  3.99%  4.66%  4.56%
Dividend yield  1.89%  1.30%  1.95%  1.44%
The weighted-average fair value of options granted during the first nine monthsquarter of 2007 and 2006 was $8.29 and 2005 was $10.91 and $11.45$11.49 per share, respectively.
These estimates require us to make assumptions based on historical results, observance of trends in our stock price, changes in option exercise behavior, future expectations, and other relevant factors. If other assumptions had been used, stock-based compensation expense, as calculated and recorded under SFAS No. 123R, could have been affected.
We based the expected life assumption on historical experience as well as the terms and vesting periods of the options granted. The increase in the expected life in 2006 compared to 2005 was the result of a decrease in exercise activity and the stock price in the preceding year. For purposes of determining expected volatility, we considered a rolling-average of historical volatility measured over a period approximately equal to the expected option term. The risk-free rate for periods that coincide with the expected life of the options is based on the U.S. Treasury Department yield curve in effect at the time of grant.
4. Earnings Per Common Share
Basic and diluted earnings per share were calculated using the following:
                       
 Three months ended Nine months ended Three months ended
 September 30 October 1 September 30 October 1 March 31 April 1
In thousands, except per-share data 2006 2005 2006 2005 2007 2006
Earnings (loss) per common share — basic
  
Continuing operations $33,441 $44,533 $145,145 $146,093  $42,130 $43,071 
Discontinued operations 1,400 —  (51) —  143  (1,451)
Net income $34,841 $44,533 $145,094 $146,093  $42,273 $41,620 
  
Continuing operations $0.34 $0.44 $1.45 $1.45  $0.43 $0.43 
Discontinued operations 0.01 — — —  —  (0.01)
Basic earnings per common share $0.35 $0.44 $1.45 $1.45  $0.43 $0.42 
  
Earnings (loss) per common share — diluted
  
Continuing operations $33,441 $44,533 $145,145 $146,093  $42,130 $43,071 
Discontinued operations 1,400 —  (51) —  143  (1,451)
Net income $34,841 $44,533 $145,094 $146,093  $42,273 $41,620 
  
Continuing operations $0.33 $0.43 $1.42 $1.42  $0.42 $0.42 
Discontinued operations 0.01 — — —  —  (0.01)
Diluted earnings per common share $0.34 $0.43 $1.42 $1.42  $0.42 $0.41 
  
Weighted average common shares outstanding — basic
 99,419 100,922 100,133 100,685  98,966 100,493 
Dilutive impact of stock options and restricted stock 1,643 1,944 1,865 2,102  1,305 1,999 
Weighted average common shares outstanding — diluted
 101,062 102,866 101,998 102,787  100,271 102,492 
  
Stock options excluded from the calculation of diluted earnings per share because the exercise price was greater than the average market price of the common shares 3,363 1,170 2,377 756  3,675 2,079 

7

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
5. Acquisitions
On August 31, 2006,April 30, 2007, we acquired as part of our Water Group all of the assetscapital interests in Porous Media, a privately held filtration and separation technologies business, for $225.0 million, excluding transaction costs and subject to a post-closing net asset value adjustment. Porous Media’s product portfolio includes high-performance filter media, membranes and related filtration products and purification systems for liquids, gases and solids for general industrial, petrochemical, refining and healthcare market segments among others. We announced the Porous Media acquisition on March 6, 2007.
On February 2, 2007, we acquired as part of Acu-Trol, Inc.our Water Group all the outstanding shares of capital stock of Jung Pumpen GmbH (“Acu-Trol”Jung”) for $3.1$230.2 million, including a cash payment of $239.9 million and transaction costs of $0.7 million, less cash acquired of $10.4 million. The purchase price is subject to a post-closing net asset value adjustment. Jung is a leading German manufacturer of wastewater products for municipal and residential markets. Jung brings us its strong application engineering expertise and a complementary product offering, including a new line of water re-use products, submersible wastewater and drainage pumps, wastewater disposal units and tanks. Jung also brings to Pentair its well-established European presence, a state-of-the-art training facility in cash. Acu-Trol expands the integrated aquatic control systems offering of our pool business.Germany, and sales offices in Germany, Austria, France, Hungary, Poland and Slovakia. Goodwill recorded as part of the initial purchase price allocation was $1.8$103.2 million, all of which approximately $53 million is tax deductible. We continue to evaluate the purchase price allocation for the Acu-TrolJung acquisition, including intangible assets, contingent liabilities, and expect to revise the purchase price allocation as better information becomes available.
On June 23, 2006, we acquired as part of our Water Group the assets of Cozad & O’Hara of Cathedral City, Inc. (“Cozad & O’Hara”) for $0.5 million in cash plus a note payableproperty, plant and debt assumed of $0.6 million. Cozad & O’Hara expands the distribution channel of our pool tile

8

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
business. Goodwill recorded as part of the initial purchase price allocation was $0.7 million, all of which is tax deductible.equipment. We continue to evaluate the purchase price allocation for the Cozad & O’Hara acquisition and expect to revise the purchase price allocation as better information becomes available.
On April 12, 2006, we acquired as part of our Water Group the assets of Geyer’s Manufacturing & Design Inc. and FTA Filtration, Inc. (together “Krystil Klear”), two privately-held companies, for $15.4$15.5 million in cash plus debt assumed of $0.4 million.cash. Krystil Klear expands our industrial filtration product offering to include a full range of steel and stainless steel housingtanks which house filtration solutions. Goodwill recorded as part of the initial purchase price allocation was $8.9$9.5 million, all of which is tax deductible.
During 2006, we completed several other small acquisitions totaling $14.2 million in cash and notes payable, adding to both our Water and Technical Products Groups. Total goodwill recorded as part of the initial purchase price allocations was $7.9 million, of which $2.9 million is tax deductible. We continue to evaluate the purchase price allocationallocations for the Krystil Klear acquisition, including intangible assets, contingent liabilities, plant rationalization costs,these acquisitions and property, plant and equipment. We expect to revise the purchase price allocationallocations as better information becomes available.
On December 1, 2005, we acquired the McLean Thermal Management, Aspen Motion Technologies, and Electronic Solutions businesses from APW, Ltd. (collectively, “Thermal”) for $140.0 million, including a cash payment of $138.9 million and transaction costs of $1.1 million. During 2006, we paid an additional $2.2 million in transaction costs and paid a final purchase price adjustment of $1.6 million. These businesses provide thermal management solutions and integration services to the telecommunications, data communications, medical, industrial, and security markets as part of our Technical Products Group. Goodwill recorded as part of the initial purchase price allocation was $93.7 million, all of which is tax deductible. We continue to evaluate the purchase price allocation for the Thermal acquisition, including intangible assets, contingent liabilities, plant rationalization costs, and property, plant and equipment. We expect to revise the purchase price allocation as better information becomes available.
On February 23, 2005, we acquired certain assets of Delta Environmental Products, Inc. and affiliates (collectively, “DEP”), a privately-held company, for $10.3 million, including a cash payment of $10.0 million, transaction costs of $0.2 million, and debt assumed of $0.1 million. The DEP product line addresses the water and wastewater markets and is part of our Water Group. Goodwill recorded as part of the initial purchase price allocation was $9.3 million, all of which is tax deductible. We finalized the purchase price allocation for the DEP acquisition during the first quarter of 2006.
The following pro forma condensed consolidated financial results of operations are presented as if the acquisitions described above (with the exception of Porous Media) had been completed at the beginning of each period presented.period.
                    
 Three months ended Nine months ended Three months ended
 September 30 October 1 September 30 October 1 March 31 April 1
In thousands, except per-share data 2006 2005 2006 2005 2007 2006
Pro forma net sales from continuing operations $778,551 $752,986 $2,415,678 $2,321,499  $814,171 $795,334 
Pro forma net income from continuing operations 33,422 45,598 144,948 148,138  42,403 43,933 
  
Pro forma earnings per common share - continuing operations
 
Pro forma earnings per common share — continuing operations
 
Basic $0.34 $0.45 $1.45 $1.47  $0.43 $0.44 
Diluted $0.33 $0.44 $1.42 $1.44  $0.42 $0.43 
  
Weighted average common shares outstanding
  
Basic 99,419 100,922 100,133 100,685  98,966 100,493 
Diluted 101,062 102,866 101,998 102,787  100,271 102,492 
These pro forma condensed consolidated financial results have been prepared for comparative purposes only and include certain adjustments, such as increased interest expense on acquisition debt. They do not reflect the effect of costs or synergies that would have been expected to result from the integration of these acquisitions. The pro forma information does not purport to be indicative of the results of operations that actually would have resulted had the combination occurred at the beginning of each period presented, or of future results of the consolidated entities.
6. Discontinued Operations
Effective after the close of business on October 2, 2004, we completed the sale of our former Tools Group to The Black & Decker Corporation (“BDK”). PursuantIn January 2006, pursuant to the purchase agreement for the sale of our former Tools Group, we completed the repurchase of a manufacturing facility in Suzhou, China from BDK for approximately $5.7 million in January 2006.million. We recorded no gain or loss on the repurchase. OnIn March 8, 2006, we received notice regarding the settlement ofcompleted an outstanding net asset value disputearbitration with BDK relating to the purchase price for the sale of our former Tools Group. The decision by the arbitrator constituted a final resolution of all disputes between BDK and us regarding the net asset value. We paid the final net asset value purchase price adjustment pursuant to the purchase agreement of $16.1 million plus interest of $1.1 million in March 2006, resulting in an incremental pre-tax loss on disposal of discontinued operations of $3.4 million or $1.6 million net of tax. In the third quarter of 2006, we resolved a prior year tax item that resulted in a $1.4 million income tax benefit related to our former Tools Group.

98

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
In 2001, we completed the sale of our former Service Equipment businesses (Century Mfg. Co./Lincoln Automotive Company) to Clore Automotive, LLC. In the fourth quarter of 2003, we reported an additional loss from discontinued operations of $2.9 million related to exiting the remaining two facilities. In March 2006, we exited a leased facility from our former Service Equipment business resulting in a net cash outflow of $2.2 million and an immaterial gain from disposition.
Operating results of the discontinued operations for the thirdfirst quarter of 2007 and first nine months of 2006 and 2005 are summarized below:
                   
 Three months ended Nine months ended Three months ended
 September 30 October 1 September 30 October 1 March 31 April 1
In thousands 2006 2005 2006 2005 2007 2006
Loss on disposal of discontinued operations $— $— $(3,937) $— 
Income tax benefit 1,400 — 3,886 — 
Gain (loss) on disposal of discontinued operations $225 $(3,254)
Income tax (expense) benefit  (82) 1,803 
Gain (loss) on disposal of discontinued operations, net of tax $1,400 $— $(51) $—  $143 $(1,451)
7. Inventories
Inventories were comprised of:
                     
 September 30 December 31 October 1 March 31 December 31 April 1
In thousands 2006 2005 2005 2007 2006 2006
Raw materials and supplies $176,009 $146,389 $135,512  $193,049 $186,508 $162,274 
Work-in-process 54,849 49,418 44,818  56,978 55,141 49,590 
Finished goods 166,779 153,505 164,346  163,151 157,208 163,755 
Total inventories $397,637 $349,312 $344,676  $413,178 $398,857 $375,619 
8. Comprehensive Income
Comprehensive income and its components, net of tax, were as follows:
                       
 Three months ended Nine months ended Three months ended
 September 30 October 1 September 30 October 1 March 31 April 1
In thousands 2006 2005 2006 2005 2007 2006
Net income $34,841 $44,533 $145,094 $146,093  $42,273 $41,620 
Changes in cumulative foreign currency translation adjustment 5,515  (1,236) 14,006  (23,583) 15,926 3,897 
Changes in market value of derivative financial instruments classified
as cash flow hedges		  (2,010) — 664 214   (237) 1,563 
Comprehensive income $38,346 $43,297 $159,764 $122,724  $57,962 $47,080 
9. Goodwill and Other Intangible Assets
Changes in the carrying amount of goodwill for the ninethree months ended September 30, 2006March 31, 2007 by segment were as follows:
                      
 Technical   Technical  
In thousands Water Products Consolidated Water Products Consolidated
Balance at December 31, 2005 $1,433,280 $284,927 $1,718,207 
Balance at December 31, 2006 $1,449,460 $269,311 $1,718,771 
Acquired 10,956 — 10,956  100,841 — 100,841 
Purchase accounting adjustments  (10,207) 4,340  (5,867) 748  (198) 550 
Foreign currency translation 4,885 4,229 9,114  5,584 4,613 10,197 
Balance at September 30, 2006 $1,438,914 $293,496 $1,732,410 
Balance at March 31, 2007 $1,556,633 $273,726 $1,830,359 
The acquired goodwill inrelates to the Water segment is related to our acquisitions of Krystil Klear and Cozad & O’Hara during the second quarter of 2006 and Acu-Trol during the third quarter of 2006.
PurchaseJung acquisition. The purchase accounting adjustments recorded during the first nine monthsquarter of 2006 relate2007 related to the WICOR, Inc., DEP, Thermal, and Krystil Klear acquisition and other small acquisitions. TheWe finalized our purchase price adjustmentsallocation for the Krystil Klear acquisition during the first nine monthsquarter of 2006 included adjustments for additional transaction and restructuring costs incurred, and reclassifications related to the WICOR, Inc. purchase accounting.2007.

9

10

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
Intangible assets, other than goodwill, were comprised of:
                                                                  
 September 30, 2006 December 31, 2005 October 1, 2005 March 31, 2007 December 31, 2006 April 1, 2006 
 Gross Gross Gross     Gross Gross Gross     
 carrying Accum. carrying Accum. carrying Accum.   carrying Accum. carrying Accum. carrying Accum.   
In thousands amount amort Net amount amort Net amount amort Net amount amort Net amount amort Net amount amort Net 
Finite-life intangibles
  
Patents $18,672 $(5,702) $12,970 $15,685 $(4,135) $11,550 $15,689 $(3,658) $12,031  $15,437 $(6,475) $8,962 $15,433 $(6,001) $9,432 $15,455 $(4,589) $10,866 
Non-compete agreements 4,331  (2,792) 1,539 3,937  (2,021) 1,916 7,459  (5,258) 2,201  4,022  (3,031) 991 4,343  (3,091) 1,252 3,940  (2,276) 1,664 
Proprietary technology 51,570  (8,406) 43,164 51,386  (5,107) 46,279 45,086  (4,229) 40,857  45,834  (9,056) 36,778 45,755  (8,240) 37,515 51,378  (6,195) 45,183 
Customer relationships 87,914  (13,028) 74,886 87,707  (8,647) 79,060 84,509  (7,290) 77,219  157,992  (18,403) 139,589 110,616  (15,924) 94,692 87,525  (10,077) 77,448 
Total finite-life intangibles $162,487 $(29,928) $132,559 $158,715 $(19,910) $138,805 $152,743 $(20,435) $132,308  $223,285 $(36,965) $186,320 $176,147 $(33,256) $142,891 $158,298 $(23,137) $135,161 
              
  
Indefinite-life intangibles
  
Brand names $128,702 $— $128,702 $127,728 $— $127,728 $119,000 $— $119,000  $198,613 $— $198,613 $144,120 $— $144,120 $127,668 $— $127,668 
        
 
Total intangibles, net $261,261 $266,533 $251,308  $384,933 $287,011 $262,829 
              
Intangible asset amortization expense was $3.4 million and $2.9 million for the three months ended September 30,March 31, 2007 and April 1, 2006 and October 1, 2005, respectively, and $10.0was approximately $3.7 million and $8.6$3.2 million, for the nine months ended September 30, 2006 and October 1, 2005, respectively. The estimated future amortization expense for identifiable intangible assets during the remainder of 20062007 and the next five years is as follows:
                                      
In thousands 2006 Q4 2007 2008 2009 2010 2011 2007 Q2 - Q4 2008 2009 2010 2011 2012
Estimated amortization expense $3,420 $12,410 $11,462 $11,215 $10,711 $10,536  $12,301 $15,417 $15,172 $14,660 $14,451 $13,538 
10. Debt
Debt and the average interest rate on debt outstanding isare summarized as follows:
                                
 Average         Average        
 interest rate Maturity September 30 December 31 October 1 interest rate Maturity March 31 December 31 April 1
In thousands September 30, 2006 (Year) 2006 2005 2005 March 31, 2007 (Year) 2007 2006 2006
Commercial paper, maturing within 52 days  5.77% $208,904 $144,656 $152,182 
Commercial paper, maturing within 54 days  5.75% $243,267 $208,882 $166,261 
Revolving credit facilities  5.95% 2010 90,800 112,300 41,500   5.78% 2010 325,673 25,000 230,600 
Private placement — fixed rate  5.50% 2007-2013 135,000 135,000 135,000   5.50% 2007 - 2013 135,000 135,000 135,000 
Private placement — floating rate  6.09% 2013 100,000 100,000 100,000   5.96% 2013 100,000 100,000 100,000 
Senior notes  7.85% 2009 250,000 250,000 250,000   7.85% 2009 250,000 250,000 250,000 
Other  1.71% 2006-2016 6,776 6,285 6,011   4.17% 2007 - 2016 23,900 21,972 6,318 
Total contractual debt obligations 791,480 748,241 684,693  1,077,840 740,854 888,179 
Interest rate swap monetization deferred income 3,498 4,373 4,664  2,915 3,207 4,082 
Total long-term debt, including current portion per balance sheet 794,978 752,614 689,357 
Less: Current maturities of long-term debt  (6,912)  (4,137)  (4,003)
Total debt, including current portion per balance sheet 1,080,755 744,061 892,261 
Less: Current maturities  (8,257)  (7,625)  (4,246)
Short-term borrowings  (16,003)  (14,563) — 
Total long-term debt $788,066 $748,477 $685,354 
Long-term debt $1,056,495 $721,873 $888,015 
We have a multi-currency revolving Credit Facility (the “Credit Facility”) of $800 million expiring on March 4, 2010. The interest rate on the loans under the Credit Facility is LIBOR plus 0.625%. Interest rates and fees on the Credit Facility vary based on our credit ratings.
We are authorized to sell short-term commercial paper notes to the extent availability exists under the Credit Facility. We use the Credit Facility as back-up liquidity to support 100% of commercial paper outstanding. As of September 30, 2006,March 31, 2007, we had $208.9$243.3 million of commercial paper outstanding that matures within 5254 days. All of the commercial paper was classified as long-term as we have the intent and the ability to refinance such obligations on a long-term basis under the Credit Facility.

10

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
We were in compliance with all debt covenants as of March 31, 2007.
We have $35 million of outstanding private placement debt maturing in May 2007. We classified this debt as long-term as of September 30, 2006March 31, 2007 as we have the intent and ability to refinance such obligation on a long-term basis under the Credit Facility.
We were in compliance with all debt covenants as of September 30, 2006.

11

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
In addition to the Credit Facility, we have $25 million of uncommitted credit facilities, under which we had no borrowings$16.0 million outstanding as of September 30, 2006.March 31, 2007.
Long-term debtDebt outstanding at September 30, 2006March 31, 2007 matures on a calendar year basis as follows:
                                        
In thousands 2006 Q4 2007 2008 2009 2010 2011 Thereafter Total 2007 Q2-Q4 2008 2009 2010 2011 2012 Thereafter Total
Contractual long-term debt obligation maturities $783 $5,191 $260 $250,251 $334,884 $76 $200,035 $791,480 
Contractual debt obligation maturities $22,050 $1,290 $250,255 $604,135 $75 $6 $200,029 $1,077,840 
Other maturities 291 1,166 1,166 875 — — — 3,498  874 1,166 875 — — — — 2,915 
Total maturities $1,074 $6,357 $1,426 $251,126 $334,884 $76 $200,035 $794,978  $22,924 $2,456 $251,130 $604,135 $75 $6 $200,029 $1,080,755 
11. Derivatives and Financial Instruments
Cash-flow hedges
In September 2005, we entered into a $100 million interest rate swap agreement with several major financial institutions to exchange variable rate interest payment obligations for fixed rate obligations without the exchange of the underlying principle amounts in order to manage interest rate exposures. The effective date of the fixed rate swap was April 25, 2006. The swap agreement has a fixed interest rate of 4.68% and expires in July 2013. The fixed interest rate of 4.68% plus the .60% interest rate spread over LIBOR, results in an effective fixed interest rate of 5.28%. The fair value of the swap was an asset of $1.4 million at September 30, 2006 was $1.9 millionMarch 31, 2007 and wasis recorded in other assets.Other assets.
The variable to fixed interest rate swap is designated as and is effective as a cash-flow hedge. The fair value of thethis swap is recorded on the balance sheet,Condensed Consolidated Balance Sheets, with changes in fair valuesvalue included in Other Comprehensive Income (“OCI”)other comprehensive income (OCI). Derivative gains and losses included in OCI are recorded inreclassified into earnings at the time the related interest rate expense is recognized or the settlement of the related commitment occurs.
In anticipation of issuing new debt in the second quarter of 2007 and to partially hedge the risk of future increases to the treasury rate, we entered into an agreement on March 30, 2007 to lock in existing ten-year rates on $200 million. The treasury rate was fixed at 4.64% and the agreement was settled on May 3, 2007.
The treasury rate lock agreement was designated as and was effective as a cash-flow hedge. The treasury rate lock agreement was settled at an interest rate of 4.67% and the corresponding settlement benefit of $0.5 million will be included in OCI in our Condensed Consolidated Balance Sheets, and will be recognized in earnings over the life of the debt after issuance. The agreement had no value at March 31, 2007.
12. Income Taxes
The provision for income taxes consists of provisions for federal, state and foreign income taxes. We operate in an international environment with operations in various locations outside the U.S. Accordingly, the consolidated income tax rate is a composite rate reflecting the earnings in the various locations and the applicable rates.
The effective income tax rate for the ninethree months ended September 30, 2006March 31, 2007 was 30.3%35.2% compared to 35.8%34.0% for the ninethree months ended OctoberApril 1, 2005.2006. The tax rate for the first nine months of 2006 includes favorable adjustments in the third quarter related to prior years’ tax returns. Also included is a favorable adjustment in the second quarter primarily related to the resolution of an IRS exam for the periods of 2002-2003 and a favorable adjustment in the first quarter related to a prior year tax return. The 20052006 effective tax rate included a second quarter unfavorable settlement related to a routine German tax examination for prior years which was partially offset by a first quarter$0.9 million favorable settlement of IRS examinations for the periods 1998-2001 and a third quarter favorable accrual adjustment related to a prior year tax return. We expect the effective tax rate for the remainder of 2007 to be between 35.0% and 35.5%, resulting in a full year effective income tax rate of between 35.0% and 35.5%. However, we continue to actively pursue initiatives to reduce our effective tax rate. The tax rate in any quarter can be affected positively or negatively by adjustments that are required to be reported in the specific quarter of resolution.
We adopted the provisions of FIN 48 on January 1, 2007. As a result of the implementation of FIN 48, we recorded an adjustment to decrease retained earnings by $2.9 million.
Subsequent to the adjustment to retained earnings of $2.9 million, our total liability for unrecognized tax benefits as of January 1, 2007, the date of adoption, was $15.0 million, which if recognized, would affect our effective tax rate. Included in the total liability for unrecognized tax benefits of $15.0 million at the date of adoption was $1.8 million related to discontinued operations, which, if recognized, would affect the effective tax rate for discontinued operations.
We record penalties and interest related to unrecognized tax benefits inProvision for income taxes andNet interest expense, respectively, which is consistent with our past practices. As of January 1, 2007, we had recorded approximately $.3 million for the possible payment of penalties and $1.5 million related to the possible payment of interest.

11

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
We or one of our subsidiaries files income tax returns in the United States (“U.S.”) federal jurisdiction, various U.S. state jurisdictions and foreign jurisdictions. With few exceptions, we are no longer subject to U.S. federal, state and local, or foreign income tax examinations by tax authorities for years prior to 2002. The Internal Revenue Service (IRS) has audited us through 2003, and has completed a tax return survey of our 2004 federal income tax return.
During the first quarter of 2007, our total liability for unrecognized tax benefits did not materially increase or decrease. It is reasonably possible that this gross liability for unrecognized tax benefits will decrease by $2.0 million during the next twelve months as a result of audits and the expiration of statutes of limitations in various jurisdictions.
13. Benefit Plans
Components of net periodic benefit cost for the three and nine months ended September 30,March 31, 2007 and April 1, 2006 and October 1, 2005 were as follows:
                 
  Three months ended
  Pension benefits Post-retirement
  September 30 October 1 September 30 October 1
In thousands 2006 2005 2006 2005
 
Service cost $4,512  $4,256  $184  $213 
Interest cost  7,343   7,456   799   947 
Expected return on plan assets  (6,974)  (7,373)  —   — 
Amortization of transition obligation  31   30   —   — 
Amortization of prior year service cost (benefit)  77   74   (59)  (50)
Recognized net actuarial loss (gain)  1,009   698   (212)  — 
 
Net periodic benefit cost $5,998  $5,141  $712  $1,110 
 

12

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
                               
 Nine months ended Three months ended
 Pension benefits Post-retirement Pension benefits Post-retirement
 September 30 October 1 September 30 October 1 March 31 April 1 March 31 April 1
In thousands 2006 2005 2006 2005 2007 2006 2007 2006
Service cost $13,536 $12,493 $552 $638  $4,331 $4,512 $146 $184 
Interest cost 22,029 22,367 2,397 2,840  7,891 7,343 746 799 
Expected return on plan assets  (20,922)  (22,119) — —   (7,133)  (6,974) — — 
Amortization of transition obligation 93 89 — —  35 31 — — 
Amortization of prior year service cost (benefit) 231 223  (177)  (149) 40 77  (62)  (59)
Recognized net actuarial loss (gain) 3,027 2,093  (636) — 
Recognized net actuarial loss 799 1,009  (355)  (212)
Net periodic benefit cost $17,994 $15,146 $2,136 $3,329  $5,963 $5,998 $475 $712 
14. Business Segments
Financial information by reportable segment for the three and nine months ended September 30,March 31, 2007 and April 1, 2006 and October 1, 2005 is shown below:
                        
 Three months ended Nine months ended Three months ended
 September 30 October 1 September 30 October 1 March 31 April 1
In thousands 2006 2005 2006 2005 2007 2006
Net sales to external customers
  
Water $531,703 $515,945 $1,654,388 $1,613,690  $555,412 $517,169 
Technical Products 246,317 200,363 757,043 600,776  252,583 254,220 
Consolidated
 $778,020 $716,308 $2,411,431 $2,214,466  $807,995 $771,389 
Intersegment sales
  
Water $140 $280 $245 $489  $214 $50 
Technical Products 1,133 402 3,334 1,434  896 889 
Other  (1,273)  (682)  (3,579)  (1,923)  (1,110)  (939)
Consolidated
 $— $— $— $—  $— $— 
Operating income (loss)
  
Water $36,226 $58,964 $176,004 $211,620  $60,879 $55,587 
Technical Products 37,050 27,778 114,432 79,275  31,631 37,704 
Other  (12,983)  (9,862)  (43,612)  (34,695)  (12,357)  (14,735)
Consolidated
 $60,293 $76,880 $246,824 $256,200  $80,153 $78,556 
Other operating loss is primarily composed of unallocated corporate expenses, costs related to our captive insurance subsidiary and our intermediate finance companies, and intercompany eliminations.

12

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
15. Warranty
The changes in the carrying amount of service and product warranty accrualswarranties for the ninethree months ended September 30,March 31, 2007 and April 1, 2006 and October 1, 2005 were as follows:
              
 September 30 October 1 March 31 April 1
In thousands 2006 2005 2007 2006
Balance at beginning of the year $33,551 $32,524  $34,093 $33,551 
Service and product warranty provision 38,826 31,442  12,233 9,415 
Payments  (38,821)  (30,764)  (14,752)  (10,777)
Acquired 260 394  1,116 — 
Translation 200  (344) 76 49 
Balance at end of the period $34,016 $33,252  $32,766 $32,238 
16. Commitments and Contingencies
Environmental and Litigation
There have been no further material developments from the disclosures contained in our 20052006 Annual Report on Form 10-K, other than those matters identified below.

13

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)10-K.
Horizon Litigation
Twenty-eight separate lawsuits involving 29 primary plaintiffs, a class action, and claims for indemnity by Celebrity Cruise Lines, Inc. (Celebrity)(“Celebrity”) were brought against Essef Corporation (Essef)(“Essef”) and certain of its subsidiaries prior to our acquisition of Essef in August 1999. The claims against Essef and its involved subsidiaries were based upon the allegation that Essef designed, manufactured, and marketed two sand swimming pool filters that were installed as a part of the spa system on the Horizon cruise ship, and allegations that the spa and filters contained Legionnaire’s disease bacteria that infected certain passengers on cruises from April 1994 through July 1994.
The individual and class claims by passengers were tried and resulted in an adverse jury verdict finding liability on the part of the Essef defendants (70%) and Celebrity and its sister company, Fantasia (together 30%). After expiration of post-trial appeals, we paid all outstanding punitive damage awards of $7.0 million in the Horizon cases, plus interest of approximately $1.6 million, in January 2004. All of the personal injury cases have now been resolved through either settlement or trial.judgment.
The only remaining unresolved claims in this case were those brought by Celebrity for damages resulting from the outbreak. Celebrity filed an amended complaint seeking attorney fees and costs for prior litigation as well as out-of-pocket losses, lost profits, and loss of business enterprise value. On June 28, 2006, thea jury returned a verdict against the Essef defendants in the total amount of $193$193.0 million for its claims for out-of-pocket expenses ($10.4 million), lost profits ($47.6 million) and loss of businesslost enterprise value ($135135.0 million). The verdict iswas exclusive of pre-judgment interest and attorneys’ fees.
On January 17, 2007, the Court ruled on our post-trial motions, granting judgment in our favor as a matter of law with respect to Celebrity’s claim for lost enterprise value ($135.0 million). The Court also granted a new trial with respect to lost profits ($47.6 million). In addition, the Court denied without prejudice our claim for contribution to reduce Celebrity’s recovery by 30% to account for its contributory negligence, with leave to renew the motion following retrial. The trial of this matter has been scheduled for June 2007.
Celebrity’s claim for lost profits at trial amounted to approximately $60 million. We believe that the jury verdict is not consistent with the law nor the evidence offered at trial.actual lost profits suffered, if any, are substantially less. In a new trial, there remain questions of causation, contribution and proof of damages to be determined. We intend to argue all appropriate post-trial motions, or if unsuccessful tovigorously defend against Celebrity’s claims. We cannot predict whether Celebrity will appeal any subsequent judgment, to reverse or substantially reduce this verdict, in particular the claims relating to lost profits andruling on lost enterprise value. We anticipate that these post-trial motions willvalue, nor whether and to what extent Essef may eventually be heard in the fourth quarter of 2006.found liable on Celebrity’s claims.
We have assessed the impact of the verdict on our previously established reserves for this matter and, based on information available at this time, have deemed it unnecessary to adjust our reserves other than for quarterly interest accruals. First, severalSeveral issues have not been addresseddecided by the court,Court, including whether Celebrity is entitled to recovery of its attorneys’ fees and related costs in the passenger claims phase of the case ($4.1 million), and, with respect to pre-judgment interest, the length of the interest period and the rate of interest on any eventual judgment. In addition,We have assessed the court has not decided Essef’s contribution claim to reduce Celebrity’s recovery by 30% to account for its contributory negligence. Second, we believe that we will ultimately be successful in obtaining substantial relief from this misguided verdict. While we are not able to determine the amountimpact of the eventual liabilityruling on our previously established reserves for this matter and, based on information available at this time, wehave not changed our reserves following this ruling, except to take into account quarterly interest accruals.
We believe that an appropriate result would be substantially less than the verdict the jury rendered.
Ifany judgment were subsequently entered on this verdict and upheld on appeal as it currently stands, which we believe is unlikely to occur for the reasons noted above, the interest incurred through September 2006 would range from approximately $78 to $175 million, depending on interest rate and interest period used. In this worst case situation, the gross amount that we would have to pay in this matter would range from $271 to $368 million. While we believe the majority of the amount would be tax-deductible in the year paid or in subsequent years, we are still analyzing the tax impact of a loss of that magnitude.years. In addition to the impact of aany loss on this matter on our earnings per share when recognized, we would alsomay need to eventually borrow funds from our banks or other sources to pay any judgment finally determined after exhaustion of all appeals. We expect that we would have available adequate funds to allow us to do so, based on discussions with our lending sources and our estimates of the results of our business operations over the next two years.
During the period prior to final determination and payment of any ultimate recovery to Celebrity, we believe that we will be able to operate in the normal course of business, although interim acquisition plans and other discretionary spending may be reduced. Any final judgment paid would also increase our indebtedness or reduce cash available for other uses. Any such payment could impact our ability to execute our long-term strategic plans to their full extent, but we do not believe our ongoing financial and operational condition will be compromised.
Other
We are occasionally a party to other litigation arising in the normal course of business. We regularly analyze current information and, as necessary, provide accruals for probable liabilities based on the expected eventual disposition of these matters. While it is possible that our cash flows and results of operations in a particular quarter or year could be materially affected by the one-time impacts of the resolution of such contingencies, it is the opinion of management that the ultimate disposition of these matters will not have a material impact on our financial position, or ongoing results of operations and cash flows.foreseeable future.

1413

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
17. Financial Statements of Subsidiary Guarantors
The $250 million Senior Notes due 2009 are jointly and severally guaranteed by our domestic subsidiaries (the “Guarantor Subsidiaries”), each of which is directly or indirectly wholly-owned by Pentair (the “Parent Company”). The following supplemental financial information sets forth the condensed consolidated balance sheets as of September 30,March 31, 2007, December 31, 2006 and December 31, 2005,April 1, 2006, the related condensed consolidated statements of income for the three monthsthree-months ended March 31, 2007 and nine months ended September 30,April 1, 2006, and October 1, 2005, and statements of cash flows for the nine monthsthree-months ended September 30,March 31, 2007 and April 1, 2006, and October 1, 2005, for the Parent Company, the Guarantor Subsidiaries, the non-guarantor subsidiaries and total consolidated Pentair and subsidiaries.
Pentair, Inc. and Subsidiaries
Unaudited Condensed Consolidated Statements of Income
For the three months ended September 30, 2006March 31, 2007
                     
  Parent Guarantor Non-Guarantor    
In thousands Company Subsidiaries Subsidiaries Eliminations Consolidated
 
Net sales $—  $629,619  $192,384  $(43,983) $778,020 
Cost of goods sold  228   459,902   148,820   (43,417)  565,533 
 
Gross profit  (228)  169,717   43,564   (566)  212,487 
Selling, general and administrative  4,232   100,341   33,916   (566)  137,923 
Research and development  —   11,260   3,011   —   14,271 
 
Operating (loss) income  (4,460)  58,116   6,637   —   60,293 
Gain on sale of investment  167   —   —   —   167 
Net interest (income) expense  (16,232)  30,149   (893)  —   13,024 
 
Income from continuing operations before income taxes  11,939   27,967   7,530   —   47,436 
Provision for income taxes  4,206   7,006   2,783   —   13,995 
 
Income from continuing operations  7,733   20,961   4,747   —   33,441 
Gain on disposal of discontinued operations, net of tax  1,400   —   —   —   1,400 
 
Net income $9,133  $20,961  $4,747  $—  $34,841 
 
Pentair, Inc. and Subsidiaries
Unaudited Condensed Consolidated Statements of Income
For the nine months ended September 30, 2006
                                       
 Parent Guarantor Non-Guarantor     Parent Guarantor Non-Guarantor    
In thousands Company Subsidiaries Subsidiaries Eliminations Consolidated Company Subsidiaries Subsidiaries Eliminations Consolidated
Net sales $— $1,984,769 $553,339 $(126,677) $2,411,431  $— $639,591 $212,432 $(44,028) $807,995 
Cost of goods sold 575 1,428,161 411,492  (126,481) 1,713,747  — 457,197 157,015  (43,620) 570,592 
Gross profit  (575) 556,608 141,847  (196) 697,684  — 182,394 55,417  (408) 237,403 
Selling, general and administrative 19,717 291,964 95,358  (196) 406,843  4,204 99,249 39,255  (408) 142,300 
Research and development — 34,593 9,424 — 44,017  — 11,507 3,443 — 14,950 
Operating (loss) income  (20,292) 230,051 37,065 — 246,824   (4,204) 71,638 12,719 — 80,153 
Gain on sale of investment 167 — — — 167 
Net interest (income) expense  (48,133) 89,735  (2,741) — 38,861   (14,044) 29,715  (551) — 15,120 
Income from continuing operations before income taxes 28,008 140,316 39,806 — 208,130  9,840 41,923 13,270 — 65,033 
Provision for income taxes 9,786 39,077 14,122 — 62,985  3,416 15,009 4,478 — 22,903 
Income from continuing operations 18,222 101,239 25,684 — 145,145  6,424 26,914 8,792 — 42,130 
Loss on disposal of discontinued operations, net of tax  (51) — — —  (51)
Gain on disposal of discontinued operations, net of tax 143 — — — 143 
Net income $18,171 $101,239 $25,684 $— $145,094  $6,567 $26,914 $8,792 $— $42,273 

1514

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
Pentair, Inc. and Subsidiaries
Unaudited Condensed Consolidated Balance Sheets
Sheets September 30, 2006March 31, 2007
                                    
 Parent Guarantor Non-Guarantor     Parent Guarantor Non-Guarantor    
In thousands Company Subsidiaries Subsidiaries Eliminations Consolidated Company Subsidiaries Subsidiaries Eliminations Consolidated
Assets
  
Current assets
  
Cash and cash equivalents $5,494 $25,502 $14,157 $— $45,153  $6,980 $4,830 $52,420 $— $64,230 
Accounts and notes receivable, net 304 355,279 148,380  (49,708) 454,255  174 405,288 173,584  (46,254) 532,792 
Inventories — 290,044 107,593 — 397,637  — 290,739 122,439 — 413,178 
Deferred tax assets 57,655 34,039 5,616  (51,270) 46,040  97,313 34,212 6,232  (85,559) 52,198 
Prepaid expenses and other current assets 3,607 10,654 18,668  (4,193) 28,736  16,047 12,571 28,845  (15,556) 41,907 
Total current assets 67,060 715,518 294,414  (105,171) 971,821  120,514 747,640 383,520  (147,369) 1,104,305 
  
Property, plant and equipment, net
 4,856 210,406 97,033 — 312,295  4,500 208,644 138,067 — 351,211 
  
Other assets
  
Investments in subsidiaries 1,982,125 44,935 100,370  (2,127,430) —  2,224,447 61,357 386,539  (2,672,343) — 
Goodwill — 1,493,514 238,896 — 1,732,410  — 1,469,309 361,050 — 1,830,359 
Intangibles, net — 237,913 23,348 — 261,261  — 258,108 126,825 — 384,933 
Other 51,704 19,891 5,791 — 77,386  74,651 13,631 6,603  (25,380) 69,505 
Total other assets 2,033,829 1,796,253 368,405  (2,127,430) 2,071,057  2,299,098 1,802,405 881,017  (2,697,723) 2,284,797 
Total assets
 $2,105,745 $2,722,177 $759,852 $(2,232,601) $3,355,173  $2,424,112 $2,758,689 $1,402,604 $(2,845,092) $3,740,313 
  
Liabilities and Shareholders’ Equity
  
Current liabilities
  
Short-term borrowings $— $— $16,003 $— $16,003 
Current maturities of long-term debt $1,167 $226 $30,723 $(25,204) $6,912  1,167 257 284,178  (277,345) 8,257 
Accounts payable 93 149,762 90,328  (48,977) 191,206  4,956 153,312 102,185  (51,740) 208,713 
Employee compensation and benefits 12,601 51,780 29,050 — 93,431  9,942 39,559 36,240 — 85,741 
Current pension and retirement medical benefits 7,918 — — — 7,918 
Accrued product claims and warranties — 28,460 15,556 — 44,016  — 27,225 15,541 — 42,766 
Income taxes  (13,701) 4,505 9,196 — —  327 8,628 4,570 — 13,525 
Accrued rebates and sales incentives — 38,777 3,205 — 41,982  — 25,898 5,395 — 31,293 
Other current liabilities 19,080 52,315 27,919  (4,192) 95,122  22,516 48,764 29,456  (9,334) 91,402 
Total current liabilities 19,240 325,825 205,977  (78,373) 472,669  46,826 303,643 493,568  (338,419) 505,618 
  
Other liabilities
 
Long-term debt 787,037 1,787,021 11,518  (1,797,510) 788,066  1,017,017 1,786,863 57,081  (1,804,466) 1,056,495 
Pension and other retirement compensation 85,221 30,290 55,552 — 171,063  124,496 28,245 60,771 — 213,512 
Post-retirement medical and other benefits 23,364 50,034 — — 73,398  22,795 49,986 —  (25,380) 47,401 
Long-term income taxes payable 14,412 — — — 14,412 
Deferred tax liabilities  (14,569) 162,506 27,726  (51,270) 124,393  3,123 161,359 32,183  (85,559) 111,106 
Due to / (from) affiliates  (466,483) 81,683 233,403 151,397 —   (540,814) 102,947 525,319  (87,452) — 
Other non-current liabilities 31,134 6,981 46,668 — 84,783  30,400 7,157 48,355 — 85,912 
Total liabilities 464,944 2,444,340 580,844  (1,775,756) 1,714,372  718,255 2,440,200 1,217,277  (2,341,276) 2,034,456 
  
Shareholders’ equity
 1,640,801 277,837 179,008  (456,845) 1,640,801  1,705,857 318,489 185,327  (503,816) 1,705,857 
Total liabilities and shareholders’ equity
 $2,105,745 $2,722,177 $759,852 $(2,232,601) $3,355,173  $2,424,112 $2,758,689 $1,402,604 $(2,845,092) $3,740,313 

1615

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
Pentair, Inc. and Subsidiaries
Unaudited Condensed Consolidated Statements of Cash Flows
For the ninethree months ended September 30, 2006March 31, 2007
                                        
 Parent Guarantor Non-Guarantor     Parent Guarantor Non-Guarantor    
In thousands Company Subsidiaries Subsidiaries Eliminations Consolidated Company Subsidiaries Subsidiaries Eliminations Consolidated
Operating activities
  
Net income $18,171 $101,239 $25,684 $— $145,094  $6,567 $26,914 $8,792 $— $42,273 
Adjustments to reconcile net income to net cash provided by (used for) operating activities:
  
Loss on disposal of discontinued operations 51 — — — 51 
Gain on disposal of discontinued operations  (143) — — —  (143)
Depreciation 1,200 33,572 9,990 — 44,762  300 10,234 4,989 — 15,523 
Amortization 3,949 9,255 751 — 13,955  931 2,942 1,027 — 4,900 
Deferred income taxes 1,973  (5,039) 2,977 —  (89)  (498) — 143 —  (355)
Stock compensation 8,487 8,126 1,445 — 18,058  6,218 — — — 6,218 
Excess tax benefit from stock-based compensation  (1,258)  (1,205)  (214) —  (2,677)  (1,063) — — —  (1,063)
Gain on sale of investment  (167) — — —  (167)
Intercompany dividends  (24) 24 — — — 
Changes in assets and liabilities, net of effects of business acquisitions and dispositions
  
Accounts and notes receivable  (1,606)  (15,423)  (21,859) 15,678  (23,210) 11,062  (88,833)  (23,553) 1,937  (99,387)
Inventories —  (21,668)  (21,692) —  (43,360) —  (7,051) 670 —  (6,381)
Prepaid expenses and other current assets 14,507  (1,808)  (15,501)  (869)  (3,671) 16,481 7,984  (26,213)  (7,022)  (8,770)
Accounts payable 691  (19,334) 12,181  (15,674)  (22,136)  (9,300)  (2,133) 21,290  (1,971) 7,886 
Employee compensation and benefits  (4,408)  (5,659) 2,914 —  (7,153)  (5,312)  (8,943) 1,174 —  (13,081)
Accrued product claims and warranties — 78 469 — 547  —  (1,729) 326 —  (1,403)
Income taxes  (2,571)  (7,754)  (4,475) —  (14,800)  (1,806) 6,942  (6,584) —  (1,448)
Other current liabilities  (10,753)  (6,655) 14,280 865  (2,263)  (10,134)  (12,625) 8,060 7,061  (7,638)
Pension and post-retirement benefits 8,579 2,453 3,333 — 14,365  2,468 681 884 — 4,033 
Other assets and liabilities  (3,495)  (1,770) 13,811 — 8,546   (1,348) 1,412 1,103 — 1,167 
Net cash provided by continuing operations 33,350 68,408 24,094 — 125,852 
Net cash provided by (used for) continuing operations 14,399  (64,181)  (7,892) 5  (57,669)
Net cash provided by (used for) operating activities of discontinued operations 52 —  (4) — 48   (143) — 143 — — 
Net cash provided by operating activities 33,402 68,408 24,090 — 125,900 
Net cash provided by (used for) operating activities 14,256  (64,181)  (7,749) 5  (57,669)
  
Investing activities
  
Capital expenditures  (376)  (16,622)  (16,313) —  (33,311)  (46)  (8,411)  (10,408) —  (18,865)
Proceeds from sale of property and equipment — 333 164 — 497  — 747 582 — 1,329 
Acquisitions, net of cash acquired  (22,661)  (218) — —  (22,879)  (229,903) —  (678) —  (230,581)
Investment in subsidiaries 60,653  (38,376)  (22,277) — —   (98,247) 70,464 27,788  (5) — 
Divestitures  (18,246) —  (5,761) —  (24,007)
Proceeds from sale of investment 167 — — — 167 
Other  (2,733)  (4,090) — —  (6,823)
Net cash provided by (used for) investing activities 16,804  (58,973)  (44,187) —  (86,356)
Net cash (used for) provided by investing activities  (328,196) 62,800 17,284  (5)  (248,117)
  
Financing activities
  
Net short-term borrowings (repayments) —  (51) 1,285 — 1,234 
Proceeds from long-term debt 568,996 — — — 568,996  345,190 — — — 345,190 
Repayment of long-term debt  (526,599) — — —  (526,599)  (10,250) — — —  (10,250)
Proceeds from exercise of stock options 3,126 — — — 3,126  1,762 — — — 1,762 
Repurchases of common stock  (9,280) — — —  (9,280)
Excess tax benefits from stock-based compensation 1,258 1,205 214 — 2,677  1,063 — — — 1,063 
Repurchases of common stock  (50,000) — — —  (50,000)
Dividends paid  (42,616) — — —  (42,616)  (15,022) — — —  (15,022)
Net cash provided by (used for) financing activities  (45,835) 1,205 214 —  (44,416)
Net cash provided by financing activities 313,463  (51) 1,285 — 314,697 
  
Effect of exchange rate changes on cash
  (1,881) 10,500  (7,094) — 1,525   (1,353)  (288) 2,140 — 499 
Change in cash and cash equivalents
 2,490 21,140  (26,977) —  (3,347)  (1,830)  (1,720) 12,960 — 9,410 
Cash and cash equivalents, beginning of period
 3,004 4,362 41,134 — 48,500  8,810 6,550 39,460 — 54,820 
Cash and cash equivalents, end of period
 $5,494 $25,502 $14,157 $— $45,153  $6,980 $4,830 $52,420 $— $64,230 

1716

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
Pentair, Inc. and Subsidiaries
Unaudited Condensed Consolidated Statements of Income
For the three months ended OctoberApril 1, 20052006
                     
  Parent Guarantor Non-Guarantor    
In thousands Company Subsidiaries Subsidiaries Eliminations Consolidated
 
Net sales $—  $593,753  $153,501  $(30,946) $716,308 
Cost of goods sold  91   433,742   112,042   (30,408)  515,467 
 
Gross profit  (91)  160,011   41,459   (538)  200,841 
Selling, general and administrative  5,507   83,252   24,592   (538)  112,813 
Research and development  —   8,468   2,680   —   11,148 
 
Operating (loss) income  (5,598)  68,291   14,187   —   76,880 
Net interest (income) expense  (12,214)  23,658   (692)  —   10,752 
 
Income before income taxes  6,616   44,633   14,879   —   66,128 
Provision for income taxes  2,377   13,828   5,390   —   21,595 
 
Net income $4,239  $30,805  $9,489  $—  $44,533 
 
Pentair, Inc. and Subsidiaries
Unaudited Condensed Consolidated Statements of Income
For the nine months ended October 1, 2005
                                        
 Parent Guarantor Non-Guarantor     Parent Guarantor Non-Guarantor    
In thousands Company Subsidiaries Subsidiaries Eliminations Consolidated Company Subsidiaries Subsidiaries Eliminations Consolidated
Net sales $— $1,826,457 $482,193 $(94,184) $2,214,466  $— $633,060 $181,285 $(42,956) $771,389 
Cost of goods sold 254 1,320,883 346,661  (93,544) 1,574,254  125 459,223 132,073  (42,540) 548,881 
Gross profit  (254) 505,574 135,532  (640) 640,212   (125) 173,837 49,212  (416) 222,508 
Selling, general and administrative 22,012 252,836 76,697  (640) 350,905  6,221 93,541 29,743  (416) 129,089 
Research and development — 25,416 7,691 — 33,107  — 11,784 3,079 — 14,863 
Operating (loss) income  (22,266) 227,322 51,144 — 256,200   (6,346) 68,512 16,390 — 78,556 
Gain on sale of investment 5,199 — — — 5,199 
Net interest (income) expense  (51,828) 87,032  (1,480) — 33,724   (15,532) 29,786  (970) — 13,284 
Income before income taxes 34,761 140,290 52,624 — 227,675 
Income from continuing operations before income taxes 9,186 38,726 17,360 — 65,272 
Provision for income taxes 11,299 48,360 21,923 — 81,582  3,192 13,036 5,973 — 22,201 
Income from continuing operations 5,994 25,690 11,387 — 43,071 
Loss on disposal of discontinued operations, net of tax  (1,451) — — —  (1,451)
Net income $23,462 $91,930 $30,701 $— $146,093  $4,543 $25,690 $11,387 $— $41,620 

1817

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
Pentair, Inc. and Subsidiaries
Unaudited Condensed Consolidated Balance Sheets
December 31, 2005April 1, 2006
                                        
 Parent Guarantor Non-Guarantor     Parent Guarantor Non-Guarantor    
In thousands Company Subsidiaries Subsidiaries Eliminations Consolidated Company Subsidiaries Subsidiaries Eliminations Consolidated
Assets
  
Current assets
  
Cash and cash equivalents $3,004 $4,362 $41,134 $— $48,500  $5,070 $5,276 $39,891 $— $50,237 
Accounts and notes receivable, net 543 338,439 118,896  (34,031) 423,847  444 431,959 137,145  (48,580) 520,968 
Inventories — 267,007 82,305 — 349,312  — 284,297 91,322 — 375,619 
Deferred tax assets 74,116 34,039 8,154  (67,338) 48,971  71,648 33,455 4,592  (65,263) 44,432 
Prepaid expenses and other current assets 7,658 8,798 12,999  (5,061) 24,394  7,679 10,381 15,647  (4,786) 28,921 
Total current assets 85,321 652,645 263,488  (106,430) 895,024  84,841 765,368 288,597  (118,629) 1,020,177 
  
Property, plant and equipment, net
 5,681 228,858 77,300 — 311,839  5,281 224,224 84,659 — 314,164 
  
Other assets
  
Investments in subsidiaries 1,983,857 42,174 84,804  (2,110,835) —  1,982,627 43,937 90,489  (2,117,053) — 
Goodwill — 1,488,425 229,782 — 1,718,207  — 1,490,950 233,002 — 1,723,952 
Intangibles, net — 240,084 26,449 — 266,533  — 240,062 22,767 — 262,829 
Other 49,100 7,157 5,895 — 62,152  55,077 6,517 5,967 — 67,561 
Total other assets 2,032,957 1,777,840 346,930  (2,110,835) 2,046,892  2,037,704 1,781,466 352,225  (2,117,053) 2,054,342 
Total assets
 $2,123,959 $2,659,343 $687,718 $(2,217,265) $3,253,755  $2,127,826 $2,771,058 $725,481 $(2,235,682) $3,388,683 
 
Liabilities and Shareholders’ Equity
  
Current liabilities
  
Current maturities of long-term debt $1,166 $76,269 $19,862 $(93,160) $4,137  $1,166 $231 $22,783 $(19,934) $4,246 
Accounts payable 836 167,256 72,531  (33,303) 207,320  1,289 163,160 89,954  (47,875) 206,528 
Employee compensation and benefits 13,869 57,006 24,677 — 95,552  9,203 39,137 27,196 — 75,536 
Accrued product claims and warranties — 28,664 14,887 — 43,551  — 27,398 14,840 — 42,238 
Current liabilities of discontinued operations — — 192 — 192 
Income taxes 886 7,195 9,437 — 17,518  8,594 7,496 11,105 — 27,195 
Accrued rebates and sales incentives — 42,262 3,112 — 45,374  — 21,558 1,795 — 23,353 
Other current liabilities 31,547 61,318 23,223  (5,062) 111,026  21,902 54,829 22,450  (4,763) 94,418 
Total current liabilities 48,304 439,970 167,921  (131,525) 524,670  42,154 313,809 190,123  (72,572) 473,514 
  
Other liabilities
 
Long-term debt 745,162 1,710,648 12,344  (1,719,677) 748,477  884,777 1,786,622 13,146  (1,796,530) 888,015 
Pension and other retirement compensation 75,743 28,386 48,651 — 152,780  78,471 29,390 50,674 — 158,535 
Post-retirement medical and other benefits 24,155 49,794 — — 73,949  23,807 50,005 — — 73,812 
Deferred tax liabilities — 167,544 25,579  (67,338) 125,785  — 162,860 26,066  (65,263) 123,663 
Due to / (from) affiliates  (356,365) 64,324 246,212 45,829 —   (527,961) 205,621 242,104 80,236 — 
Other non-current liabilities 31,350 881 38,224 — 70,455  31,886 2,682 41,884 — 76,452 
Non-current liabilities of discontinued operations — — 2,029 — 2,029 
Total liabilities 568,349 2,461,547 540,960  (1,872,711) 1,698,145  533,134 2,550,989 563,997  (1,854,129) 1,793,991 
  
Shareholders’ equity
 1,555,610 197,796 146,758  (344,554) 1,555,610  1,594,692 220,069 161,484  (381,553) 1,594,692 
Total liabilities and shareholders’ equity
 $2,123,959 $2,659,343 $687,718 $(2,217,265) $3,253,755  $2,127,826 $2,771,058 $725,481 $(2,235,682) $3,388,683 

1918

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
Pentair, Inc. and Subsidiaries
Unaudited Condensed Consolidated Statements of Cash Flows
For the ninethree months ended OctoberApril 1, 20052006
                                        
 Parent Guarantor Non-Guarantor     Parent Guarantor Non-Guarantor    
In thousands Company Subsidiaries Subsidiaries Eliminations Consolidated Company Subsidiaries Subsidiaries Eliminations Consolidated
Operating activities
  
Net income $23,462 $91,930 $30,701 $— $146,093  $4,543 $25,690 $11,387 $— $41,620 
Adjustments to reconcile net income to net cash provided by (used for) operating activities:
  
Loss on disposal of discontinued operations 1,451 — — — 1,451 
Depreciation 1,125 33,080 8,939 — 43,144  400 11,299 3,531 — 15,230 
Amortization 3,242 7,892 681 — 11,815  1,025 2,989 244 — 4,258 
Deferred income taxes 137  (3,470) 6,790 — 3,457  3,024  (4,100) 3,559 — 2,483 
Stock compensation 9,027 8,642 1,536 — 19,205  3,124 2,990 532 — 6,646 
Excess tax benefit from stock-based compensation  (3,752)  (3,592)  (639) —  (7,983)  (1,190)  (1,139)  (203) —  (2,532)
Gain on sale of investment  (5,199) — — —  (5,199)
Changes in assets and liabilities, net of effects of business acquisitions and dispositions
  
Accounts and notes receivable 2,421  (37,009)  (22,573) 13,401  (43,760)  (370)  (93,520)  (16,198) 14,547  (95,541)
Inventories —  (25,719)  (3,716) —  (29,435) —  (17,290)  (8,089) —  (25,379)
Prepaid expenses and other current assets 14,787  (2,856)  (13,139)  (3,250)  (4,458) 10,546  (1,583)  (12,946)  (275)  (4,258)
Accounts payable  (6,376)  (5,357) 16,782  (13,423)  (8,374) 744  (6,669) 16,455  (14,571)  (4,041)
Employee compensation and benefits  (11,366)  (11,177)  (1,333) —  (23,876)  (7,662)  (17,869) 2,003 —  (23,528)
Accrued product claims and warranties — 281 9 — 290  —  (1,266)  (97) —  (1,363)
Income taxes 7,495 10,505  (3,679) — 14,321   (3,625) 15,934  (1,592) — 10,717 
Other current liabilities  (3,830)  (10,748) 15,181 3,272 3,875   (7,354)  (27,192) 8,107 299  (26,140)
Pension and post-retirement benefits 5,080 3,663 3,168 — 11,911  2,342 1,354 781 — 4,477 
Other assets and liabilities  (9,728)  (43) 5,656 —  (4,115)  (3,407)  (676) 7,633 — 3,550 
Net cash provided by continuing operations 26,525 56,022 44,364 — 126,911 
Net cash used for operating activities of discontinued operations — —  (634) —  (634)
Net cash provided by (used for) continuing operations 3,591  (111,048) 15,107 —  (92,350)
Net cash provided by (used for) operating activities of discontinued operations 1,451 —  (1,403) — 48 
Net cash provided by operating activities 26,525 56,022 43,730 — 126,277 
Net cash provided by (used for) operating activities 5,042  (111,048) 13,704 —  (92,302)
  
Investing activities
  
Capital expenditures  (1,975)  (37,312)  (11,310) —  (50,597) —  (4,679)  (4,375) —  (9,054)
Proceeds from sale of property and equipment — 11,545  (11) — 11,534  — 31 48 — 79 
Acquisitions, net of cash acquired  (10,515) — — —  (10,515)  (1,941)  (217) — —  (2,158)
Investment in subsidiaries 39,523  (29,235)  (10,288) — —   (109,439) 115,768  (6,329) — — 
Divestitures  (10,383) 289  (480) —  (10,574)  (18,246) —  (5,761) —  (24,007)
Proceeds from sale of investment 23,599 — — — 23,599 
Other —  (950) — —  (950)  (1,750)  (400) — —  (2,150)
Net cash provided by (used for) investing activities 40,249  (55,663)  (22,089) —  (37,503)
Net cash (used for) provided by investing activities  (131,376) 110,503  (16,417) —  (37,290)
  
Financing activities
  
Proceeds from long-term debt 241,610 — — — 241,610  272,906 — — — 272,906 
Repayment of long-term debt  (286,333) — — —  (286,333)  (133,051) — — —  (133,051)
Proceeds from exercise of stock options 7,029 — — — 7,029  2,577 — — — 2,577 
Excess tax benefit from stock-based compensation 3,752 3,592 639 — 7,983 
Excess tax benefits from stock-based compensation 1,190 1,139 203 — 2,532 
Dividends paid  (39,889) — — —  (39,889)  (14,224) — — —  (14,224)
Net cash provided by (used for) financing activities  (73,831) 3,592 639 —  (69,600)
Net cash provided by financing activities 129,398 1,139 203 — 130,740 
  
Effect of exchange rate changes on cash
 9,058 57  (10,432) —  (1,317)  (998) 320 1,267 — 589 
Change in cash and cash equivalents
 2,001 4,008 11,848 — 17,857  2,066 914  (1,243) — 1,737 
Cash and cash equivalents, beginning of period
 2,295 5,570 23,630 — 31,495  3,004 4,362 41,134 — 48,500 
Cash and cash equivalents, end of period
 $4,296 $9,578 $35,478 $— $49,352  $5,070 $5,276 $39,891 $— $50,237 

19

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
Pentair, Inc. and Subsidiaries
Unaudited Condensed Consolidated Balance Sheets
December 31, 2006
                     
  Parent Guarantor Non-Guarantor    
In thousands Company Subsidiaries Subsidiaries Eliminations Consolidated
 
ASSETS
                    
Current assets
                    
Cash and cash equivalents $8,810  $6,550  $39,460  $—  $54,820 
Accounts and notes receivable, net  190   316,157   150,103   (44,316)  422,134 
Inventories  —   283,687   115,170   —   398,857 
Deferred tax assets  96,566   66,255   5,359   (117,602)  50,578 
Prepaid expenses and other current assets  16,766   20,555   16,496   (22,578)  31,239 
 
Total current assets  122,332   693,204   326,588   (184,496)  957,628 
                     
Property, plant and equipment, net
  4,753   214,709   110,910   —   330,372 
                     
Other assets
                    
Investments in subsidiaries  1,978,466   61,351   134,204   (2,174,021)  — 
Goodwill  —   1,466,536   252,235   —   1,718,771 
Intangibles, net  —   261,050   25,961   —   287,011 
Other  76,076   15,078   5,423   (25,380)  71,197 
 
Total other assets  2,054,542   1,804,015   417,823   (2,199,401)  2,076,979 
 
Total assets
 $2,181,627  $2,711,928  $855,321  $(2,383,897) $3,364,979 
 
                     
LIABILITIES AND SHAREHOLDERS’ EQUITY
                    
Current liabilities
                    
Short-term borrowings $—  $—  $14,563  $—  $14,563 
Current maturities of long-term debt  1,167   258   34,649   (28,449)  7,625 
Accounts payable  3,053   158,294   94,709   (49,770)  206,286 
Employee compensation and benefits  12,388   48,447   28,047   —   88,882 
Current pension and post-retirement benefits  7,918   —   —   —   7,918 
Accrued product claims and warranties  —   28,955   15,138   —   44,093 
Income taxes  48,462   1,685   4,389   (32,043)  22,493 
Accrued rebates and sales incentives  —   35,185   4,234   —   39,419 
Other current liabilities  16,408   51,858   38,132   (16,395)  90,003 
 
Total current liabilities  89,396   324,682   233,861   (126,657)  521,282 
                     
Other liabilities
                    
Long-term debt  695,924   1,786,914   40,987   (1,801,952)  721,873 
Pension and other retirement compensation  121,680   27,470   58,526   —   207,676 
Post-retirement medical and other benefits  23,143   50,079   —   (25,380)  47,842 
Deferred tax liabilities  3,200   161,360   30,780   (85,559)  109,781 
Due to / (from) affiliates  (453,623)  65,884   270,531   117,208   — 
Other non-current liabilities  31,908   7,322   47,296   —   86,526 
 
Total liabilities  511,628   2,423,711   681,981   (1,922,340)  1,694,980 
                     
Shareholders’ equity
  1,669,999   288,217   173,340   (461,557)  1,669,999 
 
Total liabilities and shareholders’ equity
 $2,181,627  $2,711,928  $855,321  $(2,383,897) $3,364,979 
 

20

Pentair, Inc. and subsidiaries
Notes to condensed consolidated financial statements (unaudited)
18. Subsequent Event
On April 9, 2007, we entered into a $250 million 364-day Term Loan Agreement (the “Facility”) with Bank of America, N.A., and JPMorgan Chase Bank, N.A. Each lender has made $125 million available to us under the Facility. On April 30, 2007, we used $225.0 million of borrowings under the Facility to pay the cash purchase price of the Porous Media acquisition and the balance of the funds under the Facility were drawn for other corporate purposes. We announced the Porous Media acquisition on March 6, 2007.
On April 30, 2007, we acquired as part of our Water Group all of the capital interests in Porous Media, a privately held filtration and separation technologies business, for $225.0 million, excluding transaction costs and subject to a post-closing net asset value adjustment. Porous Media’s product portfolio includes high-performance filter media, membranes and related filtration products and purification systems for liquids, gases and solids for general industrial, petrochemical, refining and healthcare market segments among others.
On May 3, 2007, we settled a treasury rate lock agreement that we entered into on March 30, 2007 to lock in existing ten-year rates on $200 million of anticipated new debt. Under this agreement, the treasury rate on such debt was fixed at 4.64%. The agreement was settled at an interest rate of 4.67% and the corresponding settlement benefit of $0.5 million will be included in OCI in our Condensed Consolidated Balance Sheets, and will be recognized in earnings over the life of the debt after issuance.

21

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
This report contains statements that we believe to be “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements give our current expectations or forecasts of future events. Forward-looking statements generally can be identified by the use of forward-looking terminology such as “may,” “will,” “expect,” “intend,” “estimate,” “anticipate,” “believe,” “project,” or “continue,” or the negative thereof or similar words. From time to time, we also may provide oral or written forward-looking statements in other materials we release to the public. Any or all of our forward-looking statements in this report and in any public statements we make could be materially different from actual results. They can be affected by assumptions we might make or by known or unknown risks or uncertainties. Consequently, we cannot guarantee any forward-looking statements. Investors are cautioned not to place undue reliance on any forward-looking statements. Investors should also understand that it is not possible to predict or identify all such factors and should not consider the following list to be a complete statement of all potential risks and uncertainties.
The following factors and those discussed in ITEM 1A, Risk Factors, included in our 2006 Annual Report on Form 10-K may impact the achievement of forward-looking statements:
changes in general economic and industry conditions, such as:
 § the strength of product demand and the markets we serve;
 
 § the intensity of competition, including that from foreign competitors;
 
 § pricing pressures;
 
 § market acceptance of new product introductions and enhancements;
 
 § the introduction of new products and enhancements by competitors;
 
 § our ability to maintain and expand relationships with large customers;
 
 § our ability to source raw material commodities from our suppliers without interruption and at reasonable prices;
 
 § our ability to source components from third parties, in particular from foreign manufacturers, without interruption and at reasonable prices; and
 
 § the financial condition of our customers;
•our ability to successfully appeal and limit damages arising out of the Horizon litigation;
•our ability to identify, complete, and integrate acquisitions successfully and to realize expected synergies on our anticipated timetable;
•changes in our business strategies, including acquisition, divestiture, and restructuring activities;
•domestic and foreign governmental and regulatory policies;
•general economic and political conditions, such as political instability, the rate of economic growth in our principal geographic or product markets, or fluctuations in exchange rates;
•changes in operating factors, such as continued improvement in manufacturing activities and the achievement of related efficiencies, cost reductions, and inventory risks due to shifts in market demand and costs associated with moving production overseas;
•our ability to continue to successfully generate savings from our excellence in operations initiatives consisting of lean enterprise, supply management and cash flow practices;
•unanticipated developments that could occur with respect to contingencies such as litigation, intellectual property matters, product liability exposures and environmental matters;
•our ability to accurately evaluate the effects of contingent liabilities such as taxes, product liability, environmental, and other claims; and
•our ability to access capital markets and obtain anticipated financing under favorable terms.
our ability to successfully limit damages arising out of the Horizon litigation;
our ability to identify, complete, and integrate acquisitions successfully and to realize expected synergies on our anticipated timetable;
changes in our business strategies, including acquisition, divestiture, and restructuring activities;
domestic and foreign governmental and regulatory policies;
general economic and political conditions, such as political instability, the rate of economic growth in our principal geographic or product markets, or fluctuations in exchange rates;
changes in operating factors, such as continued improvement in manufacturing activities and the achievement of related efficiencies, cost reductions, and inventory risks due to shifts in market demand and costs associated with moving production overseas;
our ability to generate savings from our excellence in operations initiatives consisting of lean enterprise, supply management and cash flow practices;
unanticipated developments that could occur with respect to contingencies such as litigation, intellectual property matters, product liability exposures and environmental matters;
our ability to accurately evaluate the effects of contingent liabilities such as tax, product liability, environmental, and other claims; and
our ability to access capital markets and obtain anticipated financing under favorable terms.
The foregoing factors are not exhaustive, and new factors may emerge or changes to the foregoing factors may occur that would impact our business. We assume no obligation, and disclaim any duty, to update the forward-looking statements in this report.
Overview
We are a focused diversified industrial manufacturing company comprised of two operating segments: Water and Technical Products. Our Water Group is a global leader in providing innovative products and systems used worldwide in the movement, storage, treatment, storage, and enjoyment of water. Our Technical Products Group is a global leader in the global enclosures market that designs, manufactures, and thermal management markets, designing and manufacturing standard, modified, and custom enclosures that house and protect sensitive controls,electronics and electrical components; thermal management products; and accessories. In 2006,2007, we expect our Water Group and Technical Products Group to generate approximately 70 percent70% and 30 percent30% of total revenues, respectively.
Our Water Group has progressively become a more important part of our business portfolio with sales increasing from $100approximately $125 million in 1995 to approximately $2.1$2.2 billion in 2005.2006. We believe the water industry is structurally attractive as a result of a growing demand for clean water and the large global market size (of which we have identified a target industry segmentmarket totaling $50$60 billion). Our vision is to becomebe a leading global provider of innovative products and systems used in the movement, storage, treatment, storage, and enjoyment of water.
Our Technical Products Group operates in a large global market with significant potential for growth in industry segments such as defense, security, medical, and networking. We believe we have the largest enclosures industrial and commercial distribution network in North America and the highest enclosures brand recognition in the industry.industry in North America. From mid-2001 through 2003, the Technical Products Group experienced significantly lower sales volumes as a result of severely reduced capital spending in the industrial and commercial markets and

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commercial markets and over-capacity and weak demand in the datacomdatacommunication and telecomtelecommunication markets. InFrom 2004 2005, and the first nine months ofthrough 2006, sales volumes increased due to the addition of new distributors, new products, and higher demand in targeted markets. In addition, through the success of our Pentair Integrated Management Systems (“PIMS”) initiatives, we have increased Technical Products segment operating margins to our goal of 15 percent and achieved 16 consecutive quarters of year-over-year operating margin expansion.
Key Trends and Uncertainties
The following trends and uncertainties affected our financial performance in the first ninethree months of 20062007 and will likely impact our results in the future:
The housing market and new pool starts slowed dramatically in the first quarter of 2007 and also shrank in the last three quarters of 2006. We believe that construction of new homes and new pools starts in North America affects approximately 25% of the sales of our Water Group, especially for our pool and spa businesses. This downturn will likely have an adverse impact on our revenues for the remainder of 2007.
The telecommunication equipment market, particularly in North America, has slowed over the past three quarters and impacted our North American electronics sales within our Technical Products Group. In the first quarter of 2007, North American electronics sales declined approximately 25% from the year earlier period. The revenue decrease is attributable to telecommunication industry consolidation (which has delayed enclosure product sales) and some datacommunication OEM programs reaching end-of-life. This weakness is anticipated to continue into our second quarter.
We experience seasonal demand in a number of markets within our Water Group. End-user demand for pool equipment follows warm weather trends and is at seasonal highs from April to August. The magnitude of the sales spike is partially mitigated by employing some advance sales “early buy” programs (generally including extended payment terms and/or additional discounts). Demand for residential and agricultural water systems is also impacted by economic conditions and weather patterns, particularly by heavy flooding and droughts.
We expect our operations to continue to benefit from our PIMS initiatives, which include strategy deployment; lean enterprise with special focus on sourcing and supply management, cash flow management, and lean operations; and IGNITE, our process to drive organic growth.
We are experiencing material cost and other inflation in a number of our businesses. We are striving for greater productivity improvements and implementing selective increases in selling prices to help mitigate cost increases in base materials such as stainless steel and carbon steel and other costs such as health care and other employee benefit costs.
• We experience seasonal demand inhave a number of markets within our Water Group. End-user demand for pool/spa equipment is affected by the strength of the housing and related markets and follows warm weather trends and is at seasonal highs from Marchlong-term goal to July. The magnitude of the sales spike is partially mitigated by effective use of the distribution channel by employing some advance sales programs (generally including extended payment terms and/or additional discounts). Demand for residential and agricultural water systems is also affected by economic conditions and weather patterns particularly related to heavy flooding and droughts.
•We expect our operations to continue to benefit from our PIMS initiatives which include strategy deployment; lean enterprise with special focus on sourcing and supply management,consistently generate free cash flow management, and lean operations; and IGNITE, our process to drive organic growth.
•We are experiencing material cost inflation in a numberthat equals or exceeds 100% conversion of our businesses. We are striving for greater productivity improvements and implementing selective increases in selling prices to help mitigate cost increases in base materials such as steel and resins, freight, fuel, as well as rising costs of health care and insurance.
•net income. Free cash flow, which we define as cash flow from operating activities less capital expenditures including both continuing and discontinued operations, plus proceeds from sale of property and equipment, exceeded $200 million for the fourth consecutive year in 2005 and is expected to be approximately $170-$180was $181 million in 2006. We have a long-term goal to consistently generate free cash flow that equals or exceeds 100 percent of our net income. See our discussion ofOther financial measuresunder the caption “Liquidity and Capital Resources” of this report.
•We experienced unfavorable foreign currency effects on net sales in the first quarter of 2006 and favorable foreign currency effects in the second and third quarters of 2006. Overall, we experienced a slightly unfavorable foreign currency effect on net sales in the first nine months of 2006. Our currency effect is primarily for the U.S. dollar against the Euro, which may or may not trend unfavorably in the future.
•The effective tax rate for the first nine months of 2006 was 30.3% due in part to a favorable adjustment in the third quarter primarily related to prior years’ tax returns and in the second quarter primarily related to the resolution of an IRS exam for the periods of 2002 – 2003. We continue to actively pursue initiatives to reduce our effective tax rate. The tax rate in any quarter can be affected positively or negatively by adjustments that are required to be reported in the specific quarter of resolution.
We experienced favorable foreign currency effects on net sales in the first three months of 2007. Our currency effect is primarily for the U.S. dollar against the euro, which may or may not trend favorably in the future.
The effective tax rate for the first three months of 2007 was 35.2%. We estimate our effective income tax rate for the remainder of 2007 to be between 35.0% and 35.5%, resulting in a full year effective income tax rate of between 35.0% and 35.5%. We continue to actively pursue initiatives to reduce our effective tax rate. The tax rate in any quarter can be affected positively or negatively by adjustments that are required to be reported in the specific quarter of resolution.
Outlook
In 20062007, our operating objective is to increase our return on invested capital by:
Continuing to drive operating excellence through lean enterprise initiatives, with special focus on sourcing and beyond,supply management, cash flow management, and lean operations;
Continuing the integration of acquisitions and realizing identified synergistic opportunities;
Continuing proactive talent development, particularly in international management and other key functional areas;
Achieving organic sales growth (in excess of market growth rates), particularly in international markets; and
Continuing to make strategic acquisitions to grow and expand our existing platforms in our Water and Technical Products Groups.
The ability to achieve our operating objectives include the following:
•Continue to drive operating excellence through PIMS: lean enterprise initiatives, supply management practices, and cash flow management;
•Continue the integration of acquisitions and realize identified synergistic opportunities;
•Continue proactive talent management process building competencies in international management and other key functional areas;
•Achieve organic sales growth (in excess of market growth), particularly in international markets; and
•Continue to make strategic acquisitions to grow and expand our existing platforms in our Water and Technical Products Groups.
will depend, to a certain extent, on factors outside our control. See “Forward-looking statements” in this report and “Risk Factors” under ITEM 1A in our 2006 Annual Report on Form 10-K.

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RESULTS OF OPERATIONS
Net sales
Consolidated net sales and the change from the prior year period were as follows:
                                 
 Three months ended Nine months ended Three months ended
 September 30 October 1 September 30 October 1     March 31 April 1    
In thousands 2006 2005 $ change % change 2006 2005 $ change % change 2007 2006 $ change % change
Net sales $778,020 $716,308 $61,712  8.6% $2,411,431 $2,214,466 $196,965  8.9% $807,995 $771,389 $36,606  4.7%
The components of the net sales change in 20062007 from 20052006 were as follows:
         
  % Change from 2005
Percentages Third quarter Nine months
 
Volume  5.4   6.7 
Price  2.5   2.3 
Currency  0.7   (0.1)
 
Total  8.6   8.9 
 
% Change from 2006
PercentagesFirst quarter
Volume0.9
Price2.3
Currency1.5
Total4.7
Consolidated net sales
The 8.64.7 percent and the 8.9 percent increasesincrease in consolidated net sales in the thirdfirst quarter of 2007 from 2006 was primarily driven by:
an increase in sales volume due to our February 2, 2007 acquisition of Jung Pumpen GmbH (“Jung”); and
organic sales growth of approximately 2 percent (excluding acquisitions and the first nine months, respectively, of 2006 from 2005 were primarily the result of:foreign currency exchange), which included selective increases in selling prices to mitigate inflationary cost increases:
§higher sales of North American pool equipment due to shipments of fourth quarter 2006 early-buy program orders;
This increase was partially offset by:
•§ an increaselower Technical Products sales into electronics markets driven by mergers in sales volume due to our acquisitions, primarily the December 1, 2005 acquisition of the McLean Thermal Management, Aspen Motion Technologies,telecommunication equipment industry which have delayed buying activity and Electronic Solutions businesses from APW, Ltd. (collectively, “Thermal”);by datacommunication projects reaching end-of-life; and
 
•§ organiclower sales growth of approximately 3 percentpump and 4 percentfiltration products related to the downturn in the third quarterNorth American residential housing market; and the first nine months, respectively (excluding the effects of acquisitions and foreign currency exchange), which includes selective increases in selling prices to mitigate inflationary cost increases.
These increases were partially offset by:
unfavorablefavorable foreign currency effects in the first three months of 2006 as the stronger U.S. dollar decreased the U.S. dollar value of sales denominated in foreign currencies.effects.
Net sales by segment and the change from the prior year period were as follows:
                                 
 Three months ended Nine months ended Three months ended
 September 30 October 1 September 30 October 1     March 31 April 1    
In thousands 2006 2005 $ change % change 2006 2005 $ change % change 2007 2006 $ change % change
Water $531,703 $515,945 $15,758  3.1% $1,654,388 $1,613,690 $40,698  2.5% $555,412 $517,169 $38,243  7.4%
Technical Products 246,317 200,363 45,954  22.9% 757,043 600,776 156,267  26.0% 252,583 254,220  (1,637)  (0.6%)
Total $778,020 $716,308 $61,712  8.6% $2,411,431 $2,214,466 $196,965  8.9% $807,995 $771,389 $36,606  4.7%
Water
The 3.17.4 percent and the 2.5 percent increasesincrease in Water segmentGroup net sales in the thirdfirst quarter and first nine months, respectively, of 2007 from 2006 from 2005 werewas primarily the result of:driven by:
organic sales growth of approximately 34 percent (excluding acquisitions and foreign currency exchange), which includesincluded selective increases in selling prices to mitigate inflationary cost increases:
 § strong pumpan increase in sales in our commercial, residential, applied wastewater,of North American pool equipment driven by new products and export markets;a carryover of fourth quarter 2006 early-buy program orders into the first quarter;
 
 § filtration salescontinued growth in our foodservice, commercial,China and industrial markets;
§increased salesin other emerging markets in Asia-Pacific as well as continued success in penetrating markets in Europe driven by higher pump and filtration sales; and
§a strong sales performance in Asia.the Middle East;

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These increases were partially offset by:
•§ lower sales of spapump and bathfiltration products duerelated to the USdownturn in the North American residential housing market downturn and decreases in inventory levels of customers; and
•lower filtration sales into the RV and marine markets.market;
an increase in sales volume driven by our February 2, 2007 acquisition of Jung; and
favorable foreign currency effects.
Technical Products
The 22.90.6 percent and 26.0 percent increasesdecrease in Technical Product segmentGroup net sales in the thirdfirst quarter and first nine months, respectively, of2007 from 2006 from 2005 werewas primarily the result of:driven by:
•an increase in sales volume primarily due to our December 1, 2005 acquisition of the Thermal businesses;
•organic sales growth of approximately 4 percent and 8 percent for the third quarter and first nine months of 2006, respectively, (excluding acquisitions and foreign currency exchange), which includes selective increases in selling prices to mitigate inflationary cost increases:
lower sales into electronics markets driven by mergers in the telecommunication equipment industry which have delayed buying activity and by datacommunication projects reaching end-of-life.
§increased sales in our commercial and industrial markets;
§increased sales in European test and measurement and telecom markets; and
§higher sales in Asia driven by key OEM programs in China and strong sales in the telecom and semiconductor markets in Japan.
These increasesdecreases were partially offset by:
•lower sales in North American telecom and data markets related to OEM projects that reached end-of-life or were transitioned to our Asian operations; and
•unfavorable foreign currency effects for the first three months of 2006.
an increase in sales into electrical markets, which includes selective increases in selling prices to mitigate inflationary cost increases;
a strong sales performance in Asia driven by continued penetration in China; and
favorable foreign currency effects.
Gross profit
                                 
 Three months ended Nine months ended Three months ended
 September 30 % of October 1 % of September 30 % of October 1 % of March 31 % of April 1 % of
In thousands 2006 sales 2005 sales 2006 sales 2005 sales 2007 sales 2006 sales
Gross profit $212,487  27.3% $200,841  28.0% $697,684  28.9% $640,212  28.9% $237,403  29.4% $222,508  28.8%
Percentage point change (0.7) pts 0.0pts 
Percentage Point Change 0.6pts
The 0.7 percentage point decrease0.6 percent increase in gross profit as a percentage of sales in the thirdfirst quarter of 2007 from 2006 from 2005 and the unchanged percentage of sales in the first nine months werewas primarily the result of:
•inflationary increases related to material, labor and freight costs;
•increased reserves for inventory and warranty due to the effects of the US residential housing market downturn on the spa and bath markets and new pool starts; and
•lower sales of spa and bath products related to the US residential housing market downturn.
These decreases were partially offset by:
•selective increases in selling prices in our Water and Technical Products Groups to mitigate inflationary cost increases;
•savings generated from our PIMS initiatives including lean and supply management practices; and
•cost leverage from our increase in sales volume in our Technical Product Group.

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Selling, general and administrative (SG&A)
                                 
  Three months ended Nine months ended
  September 30 % of October 1 % of September 30 % of October 1 % of
In thousands 2006 sales 2005 sales 2006 sales 2005 sales
 
SG&A $137,923   17.7% $112,813   15.7% $406,843   16.9% $350,905   15.8%
 
Percentage point change      2.0pts              1.1pts        
The 2.0 and 1.1 percentage point increases in SG&A expense as a percent of salesselling prices in the third quarterour Water and first nine months, respectively, of 2006 from 2005 were primarily the result of:Technical Products Groups to mitigate inflationary cost increases; and
•higher selling, general and administrative expense to fund investments in future growth in all markets in our Water Group, with emphasis on growth in the international markets, including personnel and business infrastructure investments;
•increased reserves for accounts receivable due to the effects of the US residential housing market downturn on the spa and bath markets and new pool starts in our Water Group and severance costs in our Water Group and Corporate; and
•an increase in amortization expense primarily related to the intangible assets from the acquisition of the Thermal businesses.
These increases were partially offset by:
cost leveragesavings generated from our increase in sales volume in the Technical Products Group.
ResearchPIMS initiatives including lean and development (R&D)supply management practices.
                                 
  Three months ended Nine months ended
  September 30 % of October 1 % of September 30 % of October 1 % of
In thousands 2006 sales 2005 sales 2006 sales 2005 sales
 
R&D $14,271   1.8% $11,148   1.6% $44,017   1.8% $33,107   1.5%
 
Percentage point change      0.2pts              0.3pts        
The 0.2 and 0.3 percentage point increases in R&D expense as a percent of sales in the third quarter and first nine months, respectively, of 2006 from 2005 were primarily the result of:
•additional investments related to new product development initiatives in our Water and Technical Products Groups; and
•proportionately higher spending in the newly acquired Thermal businesses.
Operating income
Water
                                 
  Three months ended Nine months ended
  September 30 % of October 1 % of September 30 % of October 1 % of
In thousands 2006 sales 2005 sales 2006 sales 2005 sales
 
Operating income $36,226   6.8% $58,964   11.4% $176,004   10.6% $211,620   13.1%
 
Percentage point change      (4.6)pts              (2.5)pts        
The 4.6 and 2.5 percentage point decreases in Water segment operating income as a percent of sales in the third quarter and first nine months, respectively, of 2006 from 2005 were primarily the result of:
•inflationary increases related to material, labor, and freight costs;
•planned investments in new products and new customers, reinforcing international talent, and implementing a unified business infrastructure in Europe;
•increased inventory, warranty, and accounts receivable reserves and severance costs due to the effects of the US residential housing market downturn on the spa and bath markets and new pool starts;
•unfavorable product mix; and
•expected inefficiencies resulting from plant and product line moves.

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These decreases were partially offset by:
•selective increases in selling prices to mitigate inflationary cost increases; and
•savings realized from continued success of PIMS, including lean and supply management activities.
Technical Products
                                 
  Three months ended Nine months ended
  September 30 % of October 1 % of September 30 % of October 1 % of
In thousands 2006 sales 2005 sales 2006 sales 2005 sales
 
Operating income $37,050   15.0% $27,778   13.9% $114,432   15.1% $79,275   13.2%
 
Percentage point change      1.1pts              1.9pts        
The 1.1 and 1.9 percentage point increases in Technical Products segment operating income as a percent of sales in the third quarter and first nine months, respectively, of 2006 from 2005 were primarily the result of:
•leverage gained on volume expansion through market share growth;
•savings realized from the continued success of PIMS, including lean and supply management activities; and
•selective increases in selling prices to mitigate inflationary cost increases.
These increases were partially offset by:
inflationary increases related to raw materials labor and freight costs.labor; and
higher cost as a result of a fair market value inventory step-up related to the Jung acquisition.
Gain on sale of investmentSelling, general and administrative (SG&A)
                                 
  Three months ended Nine months ended
  September 30 October 1         September 30 October 1    
In thousands 2006 2005 Difference % change 2006 2005 Difference % change
 
Gain on sale of investment $167  $—  $167   100.0% $167  $5,199  $(5,032)  (96.8%)
 
The gain on sale of investment of $5.2 million for the nine month period ended October 1, 2005 represents the gain from the sale of our interest in the stock of LN Holdings Corporation. The gain on sale of investment of $0.2 million in the three and nine month periods ended September 30, 2006 relates to a distribution from an escrow account related the 2005 sale of our interest in the stock of LN Holdings Corporation.
Net interest expense
                                 
 Three months ended Nine months ended Three months ended
 September 30 October 1 September 30 October 1     March 31 % of April 1 % of
In thousands 2006 2005 Difference % change 2006 2005 Difference % change 2007 sales 2006 sales
Net interest expense $13,024 $10,752 $2,272  21.1% $38,861 $33,724 $5,137  15.2%
SG&A $142,300  17.6% $129,089  16.7%
Percentage Point Change 0.9pts
The 21.1 and 15.20.9 percentage point increasesincrease in interestSG&A expense as a percentage of sales in the thirdfirst quarter of 2007 from 2006 was primarily due to:
proportionately higher SG&A spending in the acquired Jung business;
exit costs related to a previously announced 2001 French facility closure;
higher selling and general expense to fund investments in future growth with emphasis on growth in the international markets, including personnel and business infrastructure investments; and

25

an increase in amortization expense related to the intangible assets from the Jung acquisition.
Research and development (R&D)
                 
  Three months ended
  March 31 % of April 1 % of
In thousands 2007 sales 2006 sales
 
R&D $14,950   1.9% $14,863   1.9%
 
Percentage Point Change      0.0pts
R&D expense as a percentage of sales in the first nine months, respectively,quarter of 2007 was consistent with the first quarter of 2006.
Operating income
Water
                 
  Three months ended
  March 31 % of April 1 % of
In thousands 2007 sales 2006 sales
 
Operating income $60,879   11.0% $55,587   10.8%
 
Percentage Point Change      0.2pts
The 0.2 percentage point increase in Water Group operating income as a percentage of sales in the first quarter of 2007 from 2006 from 2005 werewas primarily the result of:
•increases in interest rates and outstanding debt in 2006; and
•incremental interest expense related to the payments made in connection with the final resolution on the net asset value dispute with The Black and Decker Corporation (“BDK”) in the first quarter of 2006.
selective increases in selling prices to mitigate inflationary cost increases; and
savings generated from our PIMS initiatives including lean and supply management practices.
These increases were partially offset by:
favorable adjustments to interest expenseinflationary increases related to IRS settlementsraw materials and labor; and
higher cost as a result of a fair market value inventory step-up related to the Jung acquisition.
Technical Products
                 
  Three months ended
  March 31 % of April 1 % of
In thousands 2007 sales 2006 sales
 
Operating income $31,631   12.5% $37,704   14.8%
 
Percentage Point Change     (2.3) pts
The 2.3 percentage point decrease in Technical Products Group operating income as a percentage of sales in the secondfirst quarter of 2007 from 2006 was primarily the result of:
inflationary increases related to raw materials such as stainless steel and third quarterslabor costs;
lower sales into electronics markets driven by mergers in the telecommunication equipment industry which have delayed buying activity and by datacommunication projects reaching end-of-life; and
exit costs related to a previously announced 2001 French facility closure.
These decreases were partially offset by:
selective increases in selling prices to mitigate inflationary cost increases; and
savings realized from the continued success of 2006.PIMS, including lean and supply management activities.

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Net interest expense
                 
  Three months ended
  March 31 April 1    
In thousands 2007 2006 Difference % change
 
Net interest expense $15,120  $13,284  $1,836   13.8%
 
The 13.8 percentage point increase in interest expense in the first quarter of 2007 from 2006 was primarily the result of:
an increase in outstanding debt primarily related to the Jung acquisition; and
an increase in interest rates in the first quarter of 2007 compared to the same period in 2006.
Provision for income taxes from continuing operations
                        
 Three months ended Nine months ended Three months ended
 September 30 October 1 September 30 October 1 March 31 April 1
In thousands 2006 2005 2006 2005 2007 2006
Income before income taxes $47,436 $66,128 $208,130 $227,675  $65,033 $65,272 
Provision for income taxes 13,995 21,595 62,985 81,582  22,903 22,201 
Effective tax rate  29.5%  32.7%  30.3%  35.8%  35.2%  34.0%
The 3.2 and 5.51.2 percentage point decreasesincrease in the effective tax rate in the thirdfirst quarter and first nine months, respectively, of 2007 from 2006 from 2005 werewas primarily the result of:
•a favorable settlement in the second quarter of 2006 of a routine IRS exam for the periods 2002-2003;
•an unfavorable settlement in the second quarter of 2005 for a routine tax exam for prior years in Germany;
•favorable adjustments in the third quarter of 2006 related to prior years’ tax returns; and
•a favorable adjustment in the first quarter of 2006 related to a prior year tax return.
a favorable adjustment in the first quarter of 2006 related to a prior year tax return.
These decreases were partially offset by:
•a favorable settlement in the first quarter of 2005 of a routine IRS exam for the periods 1998-2001; and
•a favorable adjustment in the third quarter of 2005 related to the filing of our 2004 tax return.
We estimate our effective income tax rate for the remaining quarters of this year will be between 35.0% and 35.5% resulting in a full year effective income tax rate of between 35.0% and 35.5%.
LIQUIDITY AND CAPITAL RESOURCES
Cash requirements for working capital, capital expenditures, equity investments, acquisitions, debt repayments, share repurchases, and dividend payments are generally funded from cash generated from operations, availability under existing committed revolving credit facilities, and in certain instances, public and private debt and equity offerings.
We experience seasonal changes in cash flows primarily due to seasonal demand in a number of markets within our markets. We generally make payments on annual programs during the first quarter each year. Also, end-userWater Group. End-user demand for pool/spapool equipment follows warm weather trends and is at seasonal highs from MarchApril to July. We somewhat mitigate theAugust. The magnitude of the sales spike through effective use of the distribution channelis partially mitigated by employing some advance sales “early buy” programs (generally including extended payment terms and/or additional discounts). Demand for residential and agricultural water systems is also affectedimpacted by economic conditions and weather patterns, particularly related toby heavy flooding and droughts.
The following table presents selected working capital measurements calculated from our monthly operating results based on a 13-month moving average:
                        
 September 30 December 31 October 1 March 31 December 31 April 1
Days 2006 2005 2005 2007 2006 2006
Days of sales in accounts receivable 54 54 55  54 54 55 
Days inventory on hand 73 70 70  77 76 71 
Days in accounts payable 56 56 56  56 56 56 
Operating activities
Cash provided byused for operating activities was $125.9$57.7 million in the first ninethree months of 20062007 compared with cash provided byused for operating activities of $126.3$92.3 million in the prior year comparable period. The increasedecrease in days inventory on hand ascash used for operating activities was due primarily to lower cash used for working capital in the first quarter of September 30, 2006 compared to December 31, 2005 was attributable to increased inventory levels to support2007 versus the product moves from plant rationalizations and due to the purchasesame period of additional pump motors for competitive reasons.last year. In the future, we expect our working capital ratios to improve as we are able to complete our facility rationalization activities and capitalize on our PIMS initiatives.
Investing activities
Capital expenditures in the first ninethree months of 20062007 were $33.3$18.9 million compared with $50.6$9.1 million in the prior year period. We currently anticipate that capital expenditures for fiscal 20062007 will be approximately $60$70 to $65$80 million, primarily related to expansion offor capacity expansions in our low cost country manufacturing facilities, implementation of a unified business systems infrastructure in Europe, selective increases in equipment capacity, new product development, and general maintenance capital.

27

On April 12, 2006,February 2, 2007, we acquired as part of our Water Group all the assetsoutstanding shares of Geyer’s Manufacturing & Design Inc. and FTA Filtration, Inc. (together “Krystil Klear”capital stock of Jung Pumpen GmbH (“Jung”), two privately held companies, for $15.8$230.2 million, including a cash payment of $15.4$239.9 million plus debt assumedand transaction costs of $0.4$0.7 million, less cash acquired of $10.4 million. Krystil Klear expands our industrial filtrationThe purchase price is subject to a post-closing net asset value adjustment. Jung is a leading German manufacturer of wastewater products for municipal and residential markets. Jung brings us its strong application engineering expertise and a complementary product offering, including a new line of water re-use products, submersible wastewater and drainage pumps, wastewater disposal units and tanks. Jung also brings to includePentair its well-established European presence, a full rangestate-of-the-art training facility in Germany, and sales offices in Germany, Austria, France, Hungary, Poland and Slovakia. Goodwill recorded as part of steel and stainless steel housing filtration solutions. On June 23, 2006, we acquired the assets of Cozad & O’Hara of Cathedral City, Inc. for $0.5 million in cash plus a note payable and debt assumed of

27

$0.6 million. Cozad & O’Hara expands the distribution channel of our pool tile business. On August 31, 2006, we acquired the assets of Acu-Trol, Inc. for $3.1 million in cash. Acu-Trol expands the integrated aquatic control systems offering of our pool business. Also during 2006, we paid approximately $2.2 million and $1.6 million for additional transaction costs and ainitial purchase price adjustment, respectively, relatedallocation was $103.2 million, of which approximately $53 million is tax deductible. We continue to evaluate the purchase price allocation for the Jung acquisition, ofincluding intangible assets, contingent liabilities, and property, plant and equipment. We expect to revise the Thermal businesses.purchase price allocation as better information becomes available.
Divestiture activities during 2006 relate to the following: In January 2006, pursuant to the purchase agreement for the sale of our former Tools Group, we completed the repurchase of a manufacturing facility in Suzhou, China from BDKThe Black and Decker Corporation (“BDK”) for approximately $5.7 million. OnWe recorded no gain or loss on the repurchase. In March 8, 2006, we received notice regarding the settlement ofcompleted an outstanding dispute with BDK regarding the net asset value arbitration with BDK relating to the purchase price for the sale of our former Tools Group. The decision by the arbitrator constituted a final resolution of all disputes between BDK and us regarding the net asset value. We paid the final net asset value purchase price adjustment pursuant to the purchase agreement of $16.1 million plus interest of $1.1 million in March 2006.2006, resulting in an incremental pre-tax loss on disposal of discontinued operations of $3.4 million or $1.6 million net of tax. Also in March 2006, we exited a leased facility formerly used byfrom our discontinuedformer Service Equipment business. Thebusiness resulting in a net cash outflow from this transaction wasof $2.2 million.
Cash proceeds from the sale of property and equipment in our Water Group of $11.5 million were received during the first nine months of 2005, primarily related to the sale of two California facilities.
On February 23, 2005, we acquired the assets of Delta Environmental Products, Inc. and affiliates (collectively, “DEP”), a privately held company, for $10.3 million, including a cash payment of $10.0 million, transaction costs of $0.2 million, plus debt assumed of $0.1 million. The DEP product line addresses the water and wastewater markets and is part of our Water Group.
In April 2005, we sold our interest in the stock of LN Holdings Corporation for cash consideration of $23.6 million, resulting in a pre-tax gain of $5.2 million and an after taximmaterial gain of $3.3 million.from disposition.
Financing activities
Net cash used forprovided by financing activities was $44.4$314.7 million in the first ninethree months of 20062007 compared with $69.6$130.7 million provided by financing activities in the prior year period. The increase primarily relates to the additional borrowings to fund the Jung acquisition. Financing activities included draw downs and repayments on our revolving credit facilities to fund our operations in the normal course of business, payments of dividends, cash used to repurchase of Company stock, cash received from stock option exercises, and tax benefits related to stock-based compensation.
We have a multi-currency revolving Credit Facility (the “Credit Facility”) of $800 million expiring on March 4, 2010. We are authorized to sell short-term commercial paper notes to the extent availability exists under our $800 million multi-currency revolvingthe Credit Facility (the “Credit Facility”).Facility. We use the Credit Facility as back-up liquidity to support 100% of commercial paper outstanding. As of September 30, 2006,March 31, 2007, we had $208.9$243.3 million of commercial paper outstanding that matures within 5254 days. All of the commercial paper was classified as long-term as we have the intent and the ability to refinance such obligations on a long-term basis under the Credit Facility.
We have $35 million of outstanding private placement debt maturing in May 2007. We classified this debt as long-term as of September 30, 2006 as we have the intent and ability to refinance such obligation on a long-term basis under the Credit Facility.
We were in compliance with all debt covenants as of September 30, 2006.March 31, 2007.
In addition to the Credit Facility, we have $25 million of uncommitted credit facilities, under which we had no borrowings$16.0 million outstanding as of SeptemberMarch 31, 2007.
On April 9, 2007, we entered into a $250 million 364-day Term Loan Agreement (the “Facility”) with Bank of America, N.A., and JPMorgan Chase Bank, N.A. Each lender has made $125 million available to us under the Facility. On April 30, 2006.2007, we used $225.0 million of borrowings under the Facility to pay the cash purchase price of the Porous Media acquisition and the balance of the funds under the Facility were drawn for other corporate purposes. We announced the Porous Media acquisition on March 6, 2007.
Our current credit ratings are as follows:
     
Rating Agency Long-Term Debt Rating Current Rating Outlook
Standard & Poor’s
Moody’s		 BBBStable
Moody’s
Baa3		 Negative
Stable
On March 7, 2007, Standard & Poor’s Ratings Services revised its current rating outlook on us from stable to negative. At the same time, Standard & Poor’s affirmed its long-term debt rating of ‘BBB’. Standard & Poor’s stated that the outlook revision reflects the additional leverage and stress on credit metrics that will result from the announced acquisition of Porous Media. The negative outlook indicates the rating could be lowered if financial policies become more aggressive or if operating results are weaker than expected.
As of September 30, 2006,March 31, 2007, our capital structure consisted of $795.0$1,080.8 million in total indebtedness and $1,640.8$1,705.9 million in shareholders’ equity. The ratio of debt-to-total capital at September 30, 2006March 31, 2007 was 32.638.8 percent, compared with 32.630.8 percent at December 31, 20052006 and 30.835.9 percent at OctoberApril 1, 2005.2006. Our targeted debt-to-total capital ratio is approximately 40 percent. We will exceed this target ratio from time to time as needed for operational purposes and/or acquisitions.
In anticipation of issuing new debt in the second quarter of 2007 and to partially hedge the risk of future increases to the treasury rate, we entered into an agreement on March 30, 2007 to lock in existing ten-year rates on $200 million. The treasury rate was fixed at 4.64% and the agreement was settled on May 3, 2007.

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The treasury rate lock agreement was designated as and was effective as a cash-flow hedge. The treasury rate lock agreement was settled at an interest rate of 4.67% and the corresponding settlement benefit of $0.5 million will be included in OCI in our Condensed Consolidated Balance Sheets, and will be recognized in earnings over the life of the debt after issuance.
We expect to continue to have cash requirements to support working capital needs and capital expenditures, to pay interest and service debt, and to pay dividends to shareholders.shareholders, and to repurchase Company stock. In order to meet these cash requirements, we intend to use available cash and internally generated funds, and to borrow under our committed and uncommitted credit facilities.
Any adverse judgment in the Horizon litigation discussed in Part II, Item 1 of this Form 10-Q could increase our indebtedness or reduce cash available for other uses. Any such payment could impact our ability to execute our long-term strategic plans to their full extent, but we do not believe our ongoing financial and operational condition will be compromised.

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Dividends paid in the first ninethree months of 20062007 were $42.6$15.0 million, or $0.42$0.15 per common share, compared with $39.9$14.2 million, or $0.39$0.14 per common share, in the prior year period. We have increased dividends every year for the last 3031 years and expect to continue paying dividends on a quarterly basis.
During 2006, the Board of Directors authorized the repurchase of shares of our common stock up to a maximum dollar limit of $100 million. As of December 31, 2006, we had purchased 1,986,026 shares for $59.4 million pursuant to this authorization during 2006. In December 2006, the Board of Directors authorized the continuation of the repurchase program in 2007 with a maximum dollar limit of $40.6 million. This authorization expires on December 31, 2007. As of March 31, 2007, we had repurchased an additional 312,400 shares for $9.3 million pursuant to this plan and, accordingly, we have the authority to repurchase additional shares up to a maximum dollar limit of $31.4 million for the remainder of 2007.
There have been no material changes with respect to the contractual obligations, other than noted above, or off-balance sheet arrangements described in our 2006 Annual Report on Form 10-K for the year ended December 31, 2005.10-K.
Other financial measures
In addition to measuring our cash flow generation or usage based upon operating, investing, and financing activitiesclassifications included in the consolidated statementsConsolidated Statements of cash flows,Cash Flows, we also measure our free cash flow and our conversion of net income. We have a long-term goal to consistently generate free cash flow that equals or exceeds 100% conversion of net income. Free cash flow and conversion of net income are non-GAAP financial measures that we use to assess our cash flow performance, and we have a long-term goal to consistently generate free cash flow that equals or exceeds 100 percent of our net income.performance. We believe free cash flow and conversion of net income are important measures of operating performance because they provide us and our investors and us with a measurement of cash generated from operations that is available to pay dividends and repay debt. In addition, free cash flow and conversion of net income are used as a criterion to measure and pay compensation-based incentives. Our measure of free cash flow and conversion of net income may not be comparable to similarly titled measures reported by other companies. The following table is a reconciliation of free cash flow and a calculation of the conversion of net income with cash flows from continuing and discontinued operating activities:
                
 Nine months ended Three months ended
 September 30 October 1 March 31 April 1
In thousands 2006 2005 2007 2006
Net cash provided by operating activities $125,900 $126,277 
Net cash used for operating activities $(57,669) $(92,302)
Capital expenditures  (33,311)  (50,597)  (18,865)  (9,054)
Proceeds from sale of property and equipment 497 11,534  1,329 79 
Free cash flow 93,086 87,214   (75,205)  (101,277)
Net income 145,094 146,093  42,273 41,620 
Conversion of net income  64.2%  59.7%  (177.9%)  (243.3%)
In 2006, we are targeting2007, our objective is to generate free cash flow that equals or exceeds 100% conversion of approximately $170-180 million .net income.
NEW ACCOUNTING STANDARDS
See Note 21 (New Accounting Standards) of ITEM 1.
CRITICAL ACCOUNTING POLICIES
In our 2006 Annual Report on Form 10-K, for the year ended December 31, 2005, we identified the critical accounting policies which affect our more significant estimates and assumptions used in preparing our consolidated financial statements. We have not changed these policies from those previously disclosed in our Annual Report.

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There havehas been no material changes in our market risk during the nine monthsquarter ended September 30, 2006.March 31, 2007. For additional information, refer to Item 7A of our 20052006 Annual Report on Form 10-K.

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ITEM 4. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures
(a)Evaluation of Disclosure Controls and Procedures
 
  We maintain a system of disclosure controls and procedures designed to provide reasonable assurance as to the reliability of our published financial statements and other disclosures included in this report. Our management evaluated, with the participation of our Chief Executive Officer and our Chief Financial Officer, the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the quarter ended September 30, 2006March 31, 2007 pursuant to Rule 13a-15(b) of the Securities Exchange Act of 1934 (the “Exchange Act”). Based upon their evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that our disclosure controls and procedures were effective as of the end of the quarter ended September 30, 2006March 31, 2007 to ensure that information required to be disclosed by us in the reports we file or submit under the Exchange Act is recorded, processed, summarized, and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms, and to ensure that information required to be disclosed by us in the reports we file or submit under the Exchange Act is accumulated and communicated to our management, including our principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosures.
 
(b) Changes in Internal Controls
 
  There was no change in our internal control over financial reporting that occurred during the quarter ended September 30, 2006March 31, 2007 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of
Pentair, Inc.
We have reviewed the accompanying condensed consolidated balance sheets of Pentair, Inc. and Subsidiaries (the “Company”) as of September 30,March 31, 2007 and April 1, 2006, and October 1, 2005, the related condensed consolidated statements of income for the three- and nine-month periods ended September 30, 2006 and October 1, 2005, and cash flows for the nine-monththree month periods ended September 30, 2006March 31, 2007 and OctoberApril 1, 2005.2006. These interim financial statements are the responsibility of the Company’s management.
We conducted our reviews in accordance with the standards of the Public Company Accounting Oversight Board (United States). A review of interim financial information consists principally of applying analytical procedures and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with standards of the Public Company Accounting Oversight Board (United States), the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion.
Based on our reviews, we are not aware of any material modifications that should be made to such condensed consolidated interim financial statements for them to be in conformity with accounting principles generally accepted in the United States of America.
We have previously audited, in accordance with standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet of the Company as of December 31, 2005,2006, and the related consolidated statements of income, changes in shareholders’ equity, and cash flows for the year then ended (not presented herein); and in our report dated February 27, 2006,26, 2007, we expressed an unqualified opinion on those consolidated financial statements. In our opinion, the information set forth in the accompanying condensed consolidated balance sheet as of December 31, 2005,2006 is fairly stated, in all material respects, in relation to the consolidated balance sheet from which it has been derived.
DELOITTE & TOUCHE LLP
Minneapolis, Minnesota
October 31, 2006May 4, 2007

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PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGSLegal Proceedings
Environmental and Litigation
There have been no further material developments from the disclosures contained in our 20052006 Annual Report on Form 10-K, other than those matters identified below.
Horizon litigationLitigation
Twenty-eight separate lawsuits involving 29 primary plaintiffs, a class action, and claims for indemnity by Celebrity Cruise Lines, Inc. (Celebrity)(“Celebrity”) were brought against Essef Corporation (Essef)(“Essef”) and certain of its subsidiaries prior to our acquisition of Essef in August 1999. The claims against Essef and its involved subsidiaries were based upon the allegation that Essef designed, manufactured, and marketed two sand swimming pool filters that were installed as a part of the spa system on the Horizon cruise ship, and allegations that the spa and filters contained Legionnaire’s disease bacteria that infected certain passengers on cruises from April 1994 through July 1994.
The individual and class claims by passengers were tried and resulted in an adverse jury verdict finding liability on the part of the Essef defendants (70%) and Celebrity and its sister company, Fantasia (together 30%). After expiration of post-trial appeals, we paid all outstanding punitive damage awards of $7.0 million in the Horizon cases, plus interest of approximately $1.6 million, in January 2004. All of the personal injury cases have now been resolved through either settlement or trial.judgment.
The only remaining unresolved claims in this case were those brought by Celebrity for damages resulting from the outbreak. Celebrity filed an amended complaint seeking attorney fees and costs for prior litigation as well as out-of-pocket losses, lost profits, and loss of business enterprise value. On June 28, 2006, thea jury returned a verdict against the Essef defendants in the total amount of $193$193.0 million for its claims for out-of-pocket expenses ($10.4 million), lost profits ($47.6 million) and loss of businesslost enterprise value ($135135.0 million). The verdict iswas exclusive of pre-judgment interest and attorneys’ fees.
On January 17, 2007, the Court ruled on our post-trial motions, granting judgment in our favor as a matter of law with respect to Celebrity’s claim for lost enterprise value ($135.0 million). The Court also granted a new trial with respect to lost profits ($47.6 million). In addition, the Court denied without prejudice our claim for contribution to reduce Celebrity’s recovery by 30% to account for its contributory negligence, with leave to renew the motion following retrial. The trial of this matter has been scheduled for June 2007.
Celebrity’s claim for lost profits at trial amounted to approximately $60 million. We believe that the jury verdict is not consistent with the law nor the evidence offered at trial.actual lost profits suffered, if any, are substantially less. In a new trial, there remain questions of causation, contribution and proof of damages to be determined. We intend to argue all appropriate post-trial motions, or if unsuccessful tovigorously defend against Celebrity’s claims. We cannot predict whether Celebrity will appeal any subsequent judgment, to reverse or substantially reduce this verdict, in particular the claims relating to lost profits andruling on lost enterprise value. We anticipate that these post-trial motions willvalue, nor whether and to what extent Essef may eventually be heard in the fourth quarter of 2006.found liable on Celebrity’s claims.
We have assessed the impact of the verdict on our previously established reserves for this matter and, based on information available at this time, have deemed it unnecessary to adjust our reserves other than for quarterly interest accruals. First, severalSeveral issues have not been addresseddecided by the court,Court, including whether Celebrity is entitled to recovery of its attorneys’ fees and related costs in the passenger claims phase of the case ($4.1 million), and, with respect to pre-judgment interest, the length of the interest period and the rate of interest on any eventual judgment. In addition,We have assessed the court has not decided Essef’s contribution claim to reduce Celebrity’s recovery by 30% to account for its contributory negligence. Second, we believe that we will ultimately be successful in obtaining substantial relief from this misguided verdict. While we are not able to determine the amountimpact of the eventual liabilityruling on our previously established reserves for this matter and, based on information available at this time, wehave not changed our reserves following this ruling, except to take into account quarterly interest accruals.
We believe that an appropriate result would be substantially less than the verdict the jury rendered.
Ifany judgment were subsequently entered on this verdict and upheld on appeal as it currently stands, which we believe is unlikely to occur for the reasons noted above, the interest incurred through September 2006 would range from approximately $78 to $175 million, depending on interest rate and interest period used. In this worst case situation, the gross amount that we would have to pay in this matter would range from $271 to $368 million. While we believe the majority of the amount would be tax-deductible in the year paid or in subsequent years, we are still analyzing the tax impact of a loss of that magnitude.years. In addition to the impact of aany loss on this matter on our earnings per share when recognized, we would alsomay need to eventually borrow funds from our banks or other sources to pay any judgment finally determined after exhaustion of all appeals. We expect that we would have available adequate funds to allow us to do so, based on discussions with our lending sources and our estimates of the results of our business operations over the next two years.
During the period prior to final determination and payment of any ultimate recovery to Celebrity, we believe that we will be able to operate in the normal course of business, although interim acquisition plans and other discretionary spending may be reduced. Any final judgment paid would also increase our indebtedness or reduce cash available for other uses. Any such payment could impact our ability to execute our long-term strategic plans to their full extent, but we do not believe our ongoing financial and operational condition will be compromised.
Other
We are occasionally a party to other litigation arising in the normal course of business. We regularly analyze current information and, as necessary, provide accruals for probable liabilities based on the expected eventual disposition of these matters. While it is possible that our cash flows and results of operations in a particular quarter or year could be materially affected by the one-time impacts of the resolution of such contingencies, it is the opinion of management that the ultimate disposition of these matters will not have a material impact on our financial position, or ongoing results of operations and cash flows.foreseeable future.
ITEM 1A. RISK FACTORSRisk Factors
The risks relating to the Horizon Litigation and jury verdict are set forth in Part II, Item 1 of this Quarterly Report on Form 10-Q. There have been no other material changes from the risk factors previously disclosed in ItemITEM 1A. of our 20052006 Annual Report on Form 10-K.

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ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
ITEM 2.UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
The following table provides information with respect to purchases we made of our common stock during the third quarter of 2006:
The following table provides information with respect to purchases we made of our common stock during the first quarter of 2007:
                 
          (c) Total Number of (d)
  (a) Total (b) Shares Purchased as Dollar value of Shares
  Number of Average Part of Publicly that May Yet Be
  Shares Price Paid Announced Plans or Purchased Under the
                    Period Purchased per Share Programs Plans or Programs
July 2 – July 29, 2006  103,606  $28.47   100,000  $28,391,448 
July 30 – August 26, 2006  976,926  $29.06   976,926  $0 
August 27 – September 30, 2006  1,308  $28.85   —  $50,000,000 
 
Total
  1,081,840       1,076,926     
 
                 
  (a) (b) (c) (d)
          Total Number of Shares Dollar Value of Shares
  Total Number Average Price Purchased as Part of that May Yet Be
  of Shares Paid per Publicly Announced Plans Purchased Under the
                Period Purchased Share or Programs Plans or Programs
 
January 1 - January 27, 2007  87,740  $30.08   —  $40,640,979 
January 28 - February 24, 2007  18,170  $30.78   —  $40,640,979 
February 25 - March 31, 2007  335,898  $29.82   312,400  $31,361,482 
 
Total
  441,808       312,400     
 
(a) The purchases in this column include shares repurchased as part of our publicly announced programs and 3,606in addition, 87,740 shares for the period July 2 – July 29, 2006 and 1,308January 1 — January 27, 2007, 18,170 shares for the period August 27 – September 30, 2006January 28 — February 24, 2007, and 23,498 shares for the period February 25 — March 31, 2007 deemed surrendered to us by participants in our Omnibus Stock Incentive Plan and the Outside Directors Nonqualified Stock Option Plan (the “Plans”) to satisfy the exercise price or withholding of tax obligations related to the exercise of stock options and non-vested shares.
 
(b) The average price paid in this column includes shares repurchased as part of our publicly announced programs and shares deemed surrendered to us by participants in the Plans to satisfy the exercise price or withholding of tax obligations related to the exercise price of stock options and non-vested shares.
 
(c) The number of shares in this column represents the number of shares repurchased as part of our publicly announced programprograms to repurchase up to $25$100 million of our common stock annually and shares repurchased under other authorizations by the Board of Directors.stock.
 
(d) In December 2004, ourDuring 2006, the Board of Directors authorized a program to annuallythe repurchase of shares of our common stock up to a maximum dollar limit of $25$100 million. As of December 31, 2006, we had purchased 1,986,026 shares for $59.4 million per year. On July 28,pursuant to this authorization during 2006. In December 2006, and September 28, 2006, ourthe Board of Directors authorized the continuation of the repurchase program in 2007 with a maximum dollar limit of up to an additional $25 million and $50 million of shares of our common stock, respectively. There is no expiration associated with the authorizations granted.$40.6 million. This authorization expires on December 31, 2007. As of September 30, 2006,March 31, 2007, we had repurchased 1,650,026an additional 312,400 shares for $50.0$9.3 million pursuant to these programs during 2006.this plan. As of OctoberApril 27, 2006,2007, we had not repurchased anany additional 336,000 shares for $9.4 million, leaving us authorizationunder this plan and, accordingly, we have the authority to repurchase additional shares up to an additional $40.6a maximum dollar limit of $31.4 million for the remainder of our common stock under the additional authorizations.2007.

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ITEM 6. EXHIBITSExhibits
(a) Exhibits
 3.1 Third Restated Articles of Incorporation as amended through May 3, 2007.
3.2 Fourth Amended and Superseding By-Laws as amended through May 3, 2007.
4.1Form of Term Loan Agreement for $250 million among Pentair, Inc., Bank of America, N.A. and JPMorgan Chase Bank, N.A. dated April 9, 2007 (incorporated by reference to Exhibit 99.1 to Pentair’s Current Report on Form 8-K dated April 9, 2007).
 
 15 Letter Regarding Unaudited Interim Financial Information.
 
 31.1 Certification of Chief Executive Officer Pursuant to Rule 13a-14(a) of the Exchange Act, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
 31.2 Certification of Chief Financial Officer Pursuant to Rule 13a-14(a) of the Exchange Act, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
 32.1 Certification of Chief Executive Officer, Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
 32.2 Certification of Chief Financial Officer, Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

34

SIGNATURE
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, on November 3, 2006.May 4, 2007.
     
 PENTAIR, INC.
Registrant
 		PENTAIR, INC.
 By  Registrant
/s/ John L. Stauch   
  By/s/ David D. HarrisonJohn L. Stauch  
  
  David D. Harrison
Executive Vice President and Chief Financial Officer
(Chief Accounting Officer) 		 
   (Chief Accounting Officer)

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Exhibit Index to Form 10-Q for the Period Ended September 30, 2006March 31, 2007
3.1
Third Restated Articles of Incorporation as amended through May 3, 2007.
3.2
Fourth Amended and Superseding By-Laws as amended through May 3, 2007.
4.1
Form of Term Loan Agreement for $250 million among Pentair, Inc., Bank of America, N.A. and JPMorgan Chase Bank, N.A. dated April 9, 2007 (incorporated by reference to Exhibit 99.1 to Pentair’s Current Report on Form 8-K dated April 9, 2007).
   
15
 Letter Regarding Unaudited Interim Financial Information
   
31.1
 Certification of Chief Executive Officer Pursuant to Rule 13a-14(a) of the Exchange Act, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
   
31.2
 Certification of Chief Financial Officer Pursuant to Rule 13a-14(a) of the Exchange Act, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
   
32.1
 Certification of Chief Executive Officer, Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
   
32.2
 Certification of Chief Financial Officer, Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.