Exhibit 13
ELEVEN-YEAR COMPARISON OF RESULTS
Donaldson Company, Inc. and Subsidiaries
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(Thousands of dollars, except per share amounts) 2002 2001 2000 1999
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OPERATING RESULTS
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Net sales $1,126,005 $1,137,015 $1,092,294 $ 944,139
Gross margin $ 349,492 341,734 327,521 275,681
Gross margin percentage 31.0% 30.1% 30.0% 29.2%
Operating income $ 123,850 112,108 105,594 88,390
Operating income percentage 11.0% 9.9% 9.7% 9.4%
Interest expense $ 6,531 11,608 9,880 6,993
Earnings before income taxes $ 119,018 104,928 100,333 89,210
Income taxes $ 32,135 29,380 30,100 26,763
Effective income tax rate 27.0% 28.0% 30.0% 30.0%
Net earnings $ 86,833 75,548 70,233 62,447
Return on sales 7.7% 6.6% 6.4% 6.6%
Return on average shareholders' equity 24.8% 25.2% 25.9% 24.1%
Return on investment 19.2% 19.1% 19.4% 19.0%
FINANCIAL POSITION
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Total assets $ 850,131 706,830 677,525 542,246
Current assets $ 456,484 407,227 383,347 326,388
Current liabilities $ 272,790 217,279 243,590 142,055
Working capital $ 183,694 189,948 139,757 184,333
Current ratio 1.7 1.9 1.6 2.3
Current debt $ 60,394 59,416 85,313 20,696
Long-term debt $ 105,019 99,259 92,645 86,691
Total debt $ 165,413 158,675 177,958 107,387
Shareholders' equity $ 382,621 319,093 280,165 262,763
Long-term capitalization ratio 21.5% 23.7% 24.9% 24.8%
Property, plant and equipment, net $ 240,913 207,658 204,545 182,180
Net expenditures on property, plant and equipment $ 40,529 38,924 36,417 29,539
Depreciation and amortization $ 31,751 38,577 34,326 27,686
SHAREHOLDER INFORMATION
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Net earnings per share - assuming dilution $ 1.90 1.66 1.51 1.31
Dividends paid per share $ .31 .295 .27 .23
Shareholders' equity per share $ 8.72 7.19 6.27 5.69
Shares outstanding (000s) 43,885 44,383 44,658 46,197
Common stock price range, per share
High $ 44.99 33.05 24.81 25.88
Low $ 26.93 19.13 19.13 14.44
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Amounts are adjusted for all stock splits and reflect adoption of SFAS 128.
Return on investment is net earnings divided by average long-term debt plus
average shareholders' equity.
Long-term capitalization ratio is long-term debt divided by long-term debt plus
shareholders' equity.
(1)Excludes the cumulative effect of an accounting change of $2,206, or $.08 per
share, in 1994.
12
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1998 1997 1996 1995 1994 1993 1992
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$ 940,351 $ 833,348 $ 758,646 $ 703,959 $ 593,503 $ 533,327 $ 482,104
263,262 250,273 222,874 197,979 166,599 152,236 133,574
28.0% 30.0% 29.4% 28.1% 28.1% 28.5% 27.7%
86,799 82,715 75,642 65,531 52,079 45,246 41,249
9.2% 9.9% 10.0% 9.3% 8.8% 8.5% 8.6%
4,671 2,358 2,905 3,089 3,362 2,723 2,681
86,441 79,094 71,120 63,172 50,193 44,682 41,721
29,390 28,474 27,684 24,636 18,244 16,468 15,952
34.0% 36.0% 38.9% 39.0% 36.3% 36.9% 38.2%
57,051 50,620 43,436 38,536 31,949(1) 28,214 25,769
6.1% 6.1% 5.7% 5.5% 5.4% 5.3% 5.3%
22.8% 21.4% 19.3% 18.8% 17.6% 16.9% 17.2%
20.5% 20.8% 18.5% 17.6% 16.0% 15.0% 14.8%
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512,987 467,501 402,850 381,042 337,360 300,217 286,348
300,817 283,367 250,751 247,904 220,308 196,014 187,360
165,068 177,346 138,578 123,747 115,757 93,666 89,956
135,749 106,021 112,173 124,157 104,551 102,348 97,404
1.8 1.6 1.8 2.0 1.9 2.1 2.1
45,896 42,674 13,145 20,800 16,956 7,595 11,425
51,553 4,201 10,041 10,167 16,028 18,920 23,482
97,449 46,875 23,186 30,967 32,984 26,515 34,907
255,671 243,865 228,880 221,173 189,697 174,008 160,303
16.8% 1.7% 4.2% 4.4% 7.8% 9.8% 12.8%
178,867 154,595 124,913 110,640 99,559 90,515 84,899
54,705 47,327 39,297 25,334 24,642 15,005 15,538
25,272 21,494 21,674 20,529 16,365 14,752 14,047
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1.14 .99 .84 .73 .59 .51 .46
.19 .17 .15 .14 .12 .10 .09
5.28 4.93 4.52 4.23 3.58 3.19 2.91
48,382 49,452 50,650 52,370 53,020 54,564 55,138
27.19 20.38 14.00 14.00 13.06 10.06 7.94
18.56 12.69 11.94 10.94 9.13 7.00 5.19
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13
MANAGEMENT'S DISCUSSION AND ANALYSIS
RESULTS OF OPERATIONS
The following discussion of the company's financial condition and results of
operations should be read in conjunction with the Consolidated Financial
Statements and Notes thereto and other financial information included elsewhere
in this Report.
FISCAL 2002 COMPARED TO FISCAL 2001 The company reported sales in 2002 of $1.126
billion, down 1.0 percent from $1.137 billion last year. Despite a decrease in
sales, the company achieved its 13th consecutive year of double-digit earnings
growth. The company's diversification of filtration products was important to
its success in fiscal 2002 in a difficult economic environment. Decreased sales
in the Industrial Products segment were partially offset by increased sales in
the Engine Products segment.
Sales for the Industrial Products segment were $514.4 million, down 3.0
percent from a record $530.2 million in the prior year. Sales totals do not
include results from ultrafilter international AG ("ultrafilter"), which was
acquired immediately prior to the end of the fiscal year. Within the Industrial
Products segment, sales of gas turbine products were a record $230.9 million, up
18.4 percent from a record $195.0 million in the prior year. Sales of gas
turbine products were strong domestically as well as internationally as market
conditions remained steady outside of North America. Based on public comments
from gas turbine manufacturers, the company expects the North American gas
turbine contraction to be severe, possibly reducing gas turbine sales in the
next fiscal year by $50 million. Sales in industrial air filtration products
(formerly referred to as dust collection) of $175.7 million decreased 19.2
percent from $217.3 million in the prior year, impacted by weakness in
industrial capital spending. Although these sales decreased from the prior year,
sales of industrial air filtration products improved 21.8 percent in the fourth
quarter of fiscal 2002 over the third quarter, showing the first meaningful
improvement on a sequential quarter basis in two years. Sales of special
application products were $107.8 million, an 8.5 percent decrease from a record
$117.8 million in the prior year, reflecting weakness in the markets served by
these products such as the computer, electronics, semiconductor and aircraft
markets.
Sales for the Engine Products segment were $611.6 million, up 0.8 percent
from $606.8 million in the prior year. This increase from the prior year
reflects improved business conditions in some of the markets served by products
in this segment. Within the Engine Products segment, sales of truck products
were $91.2 million, up 14.5 percent from $79.7 million in the prior year,
reflecting increased demand for new truck orders in the North American truck
market prior to the new October 2002 diesel emissions regulations. Sales of
off-road products were $185.6 million, an increase of 2.1 percent from $181.8
million in the prior year. Aftermarket product sales of $334.8 million decreased
3.1 percent from $345.3 million in the prior year.
NET SALES Revenue has grown more than 8 percent per year, on average, over the
last 13 years.
(Millions of dollars)
[BAR CHART]
482 533 594 704 759 833 940 944 1,092 1,137 1,126
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92 93 94 95 96 97 98 99 00 01 02
EARNINGS PER SHARE Earnings per share were up 14.5 percent in 2002, the 13th
consecutive year of double-digit increases in EPS.
(Dollars)
[BAR CHART]
..46 .51 .59 .73 .84 .99 1.14 1.31 1.51 1.66 1.90
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92 93 94 95 96 97 98 99 00 01 02
14
Domestic sales in the Industrial Products segment decreased 5.8 percent from
the prior year. Within this segment, domestic gas turbine product sales posted
an increase of 16.0 percent from the prior year. Offsetting this increase was a
decrease in sales of industrial air filtration products of 25.7 percent from the
prior year, as the pace of recovery in the U.S. manufacturing economy remained
slow with historically high levels of excess capacity. Additionally, domestic
sales of special application prod ucts decreased 23.0 percent from the prior
year reflecting a general weakness in the served markets.
Domestic sales in the Engine Products segment were down 1.3 percent from the
prior year. Within this segment, higher demand in the North American truck
market drove an increase of domestic truck product sales of 12.6 percent from
the prior year. Offsetting this increase was a decrease in domestic aftermarket
product sales of 4.8 percent resulting from weakness in U.S. truck and
construction equip ment utilization. Domestic sales of off-road products also
declined from the prior year posting a decrease of 1.9 percent.
In U.S. dollars, total international sales increased 2.9 percent from the
prior year. Excluding the negative impact of foreign currency translation of
$5.2 million, sales increased 4.1 percent over the prior year. Total
international sales in the Industrial Products segment were up 1.1 percent from
the prior year. International sales of products within this segment were mixed.
International sales of gas turbine products increased 25.7 percent, reflecting
positive market conditions outside of North America with Europe showing the most
improvement in these sales. International sales of industrial air filtration
products and special applications products decreased 9.4 percent and 2.0
percent, respectively. Total international sales in the Engine Products segment
were up 4.8 percent from the prior year. International sales of aftermarket
products were flat while international sales of off-road and truck products
increased from the prior year by 9.5 percent and 20.3 percent, respectively.
The company reported record net earnings for 2002 of $86.9 million compared
to $75.5 million in 2001, an increase of 15.0 percent. Net earnings per share -
diluted were $1.90, up 14.5 percent from $1.66 in the prior year. Despite a
decrease in sales for the year, the company achieved its 13th consecutive year
of double-digit earnings growth. This was a result of the company's efforts in
improving operating performance as well as improvements made to the company's
manufacturing infrastructure, product costs and expenses. These efforts have
resulted in more efficient operations across the company. The com pany's
operating income increased from the prior year by 10.5 percent. Operating income
in the Engine Products segment showed significant growth from the prior year as
it grew to over 50 percent of total operating income in the year from about 40
percent in the prior year. This growth reflects the efforts in improving
operating efficiencies in the North
RETURN ON EQUITY Donaldson Company is delivering shareholder value through
consistently high returns on shareholders' equity.
(% Per annum)
[BAR CHART]
17.2 16.9 17.6 18.8 19.3 21.4 22.8 24.1 25.9 25.2 24.8
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92 93 94 95 96 97 98 99 00 01 02
DIVIDENDS PER SHARE Dividends paid per share increased 5 percent in 2002. The
company distributes about 20 percent of net income to shareholders through
regular quarterly dividends.
(Dollars)
[BAR CHART]
..09 .10 .12 .14 .15 .17 .19 .23 .27 .295 .31
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92 93 94 95 96 97 98 99 00 01 02
15
American Engine business. Operating income in the Industrial Products segment
grew slightly during the year. International operating income totaled 68.9
percent of consolidated operating income in 2002 as compared to 64.6 percent in
2001. Of the 2002 international operating income, Europe contributed 41.0
percent while Asia-Pacific contributed 55.1 percent. Total international
operating income increased 3.5 percent from the prior year. In U.S. dollars,
Europe's operating income increased 14.6 percent and on a local currency basis
increased 10.9 percent from strong results throughout the Engine Products
segment and gas turbine products within the Industrial Products segment. On a
local currency basis, Asia-Pacific's operating income increased 0.9 percent with
mixed results across the entities within Asia-Pacific. In U.S. dollars,
Asia-Pacific's operating income decreased by 3.2 percent due to continued
weakness in the Japanese yen.
Gross margin for 2002 increased to 31.0 percent compared to 30.1 percent in
the prior year. Ongoing efforts to reduce product costs and improve the
company's manufacturing infrastructure through plant rationalization drove
margin improvements, more than offsetting continued strong pricing pressures
from major customers.
Operating expenses as a percentage of sales for 2002 and 2001 were 20.0
percent and 20.2 percent, respectively. Operating expenses in 2002 totaled
$225.6 million compared to $229.6 million in 2001, a decrease of $4.0 million,
or 1.7 percent. The decrease in operating expenses relative to the prior year
reflects the company's expense reduction initiatives, implemented late in fiscal
2001, which reduced the number of contractors and temporary employees and
managed discretionary spending levels.
Interest expense decreased $5.1 million, or 43.7 percent, partially due to
lower interest rates and lower short-term debt levels throughout most of the
year. This decrease is also due to a decrease in interest expense ($1.2 million)
on a portion of the company's long-term debt as a result of an interest rate
swap agreement entered into in fiscal 2001. Other income, net totaled $1.7
million in 2002 compared to $4.4 million in the prior year. Components of other
income for 2002 were as follows: interest income of $0.9 million, earnings from
non-consolidated joint ventures of $4.2 million, $2.5 million of funding to the
Donaldson Foundation, foreign exchange losses of $1.3 million resulting from the
movement of cash into Europe to complete the ultrafilter acquisition and other
miscellaneous income and expense items netting to $0.4 million of miscellaneous
income.
The effective income tax rate of 27.0 percent in 2002 decreased from the 28.0
percent tax rate in 2001. The tax rate was adjusted in the second quarter of
fiscal 2002 to reflect state tax savings from infrastructure improvements. The
company anticipates maintaining the 27.0 effective income tax rate for the
foreseeable future.
Total backlog was $307.6 million, down 13.4 percent from the same period in
the prior year. In the Industrial Products segment, total backlog decreased 29.4
percent from the same period in the prior year reflecting the projected downturn
in the North American gas turbine market. In the Engine Products segment, total
backlog increased 3.4 percent compared to the same period in the prior year,
reflecting improvement in business conditions in the markets served. Hard order
backlog, goods scheduled for delivery within 90 days, was $178.3 million, down
0.9 percent from $179.9 million in the prior year. In the Industrial Products
segment, overall hard order backlog decreased 10.9 percent from the prior year.
Within this segment, hard order backlog for gas turbine products and industrial
air filtration products decreased 21.1 percent and 7.4 percent from the prior
year, respectively. These decreases were somewhat offset by a strong increase in
special application products of 34.3 percent. In the Engine Products segment,
overall hard order backlog increased 8.7 percent from the prior year. Within
this segment, truck products showed a solid increase of 22.9 percent from the
prior year. Hard order backlog for aftermarket products decreased slightly at
0.3 percent, while off-road products posted an increase of 7.6 percent.
The company completed the acquisition of ultrafilter for $68.3 million in
cash on July 12, 2002. The acquisition is reflected in the consolidated balance
sheet as of July 31, 2002. Ultrafilter's results of operations will be included
in the consolidated financial statements beginning with fiscal 2003 as the
results in fiscal 2002 were not material to the company as a whole. Ultrafilter
is a global leader in the design and manufacture of components, replacement
parts and complete systems for the compressed air purification industry.
Ultrafilter's operations will be included in the Industrial Products segment.
FISCAL 2001 COMPARED TO FISCAL 2000 The company reported record sales in 2001 of
$1.137 billion. This was an increase of 4.1 percent over prior year sales of
$1.092 billion. Excluding the impact of businesses acquired in 2000, sales for
the year ended July 31, 2001 were up 0.5 percent over the prior year. This
modest growth in sales for the year reflected the diversification of our
Industrial Products and Engine Products segments as shown by the strength in the
gas turbine market offsetting the slump in the North
16
American truck market. Sales for the Industrial Products segment were a record
$530.2 million, up 26.7 percent over the prior year. Excluding the acquisition
of DCE dust control business of Invensys, plc ("DCE"), sales for the year were
up 18.9 percent from the prior year. Leading this increase were sales in gas
turbine products with an increase over the prior year of 66.6 percent to record
sales of $195.0 million, reflecting the continued high demand in this market.
Sales in industrial air filtration and special application products also
increased from the prior year by 12.5 percent and 8.9 percent, respectively.
Excluding the acquisition of DCE, sales of industrial air filtration products
decreased 4.4 percent from the prior year. Sales for the Engine Products segment
of $606.8 million were down 10.0 percent over the prior year reflecting the U.S.
economic weakness and the strong U.S. dollar overseas. Worldwide markets for
medium and heavy-duty trucks were severely depressed, reflected in a decrease in
truck product sales of 47.6 percent from the prior year. Excluding the company's
second quarter exit from a block of truck related business due to unfavorable
commercial terms, sales were down 37.1 percent from the prior year. Sales in
off-road products decreased 5.9 percent from the prior year while aftermarket
product sales increased 5.0 percent.
Domestic Industrial Products sales increased 28.1 percent from the prior
year. This increase was led by strong sales of gas turbine systems products
domestically, reflecting continued demand for large turbines in North America,
with domestic sales almost doubling from the prior year. Domestic sales of
industrial air filtration products grew slightly with an increase of 1.7
percent, while sales of special application products domestically decreased 8.2
percent. Domestic Engine Products sales were down 10.5 percent from the prior
year. The medium and heavy-duty truck market continued to show its effects on
the company's truck product sales domestically with a decrease of 51.8 percent
from the prior year. This was somewhat offset by increases in domestic
aftermarket and off-road product sales of 1.7 percent and 13.1 percent,
respectively.
In U.S. dollars, total international sales increased 5.6 percent from the
prior year. Excluding the negative impact of foreign currency translation of
$35.6 million, sales increased 14.4 percent over the prior year. Total interna
tional Industrial Products sales were up 24.9 percent from the prior year. Sales
of all products within this segment were strong internationally, with increases
across the board. Leading this growth were sales of industrial air filtration
products with an increase of 34.1 percent from the prior year. Sales of gas
turbine products and special application products increased 20.2 percent and
18.9 percent from the prior year, respectively. Total international Engine
Products sales were down 8.9 percent compared to the prior year despite an
increase in aftermarket product sales of 11.3 percent. International sales of
off-road and truck products decreased from the prior year by 28.3 percent and
29.0 percent, respectively.
The company reported record net earnings for 2001 of $75.5 million compared
to $70.2 million in 2000, an increase of 7.6 percent. Net earnings per share -
diluted were $1.66, up 10.0 percent from $1.51 in the prior year. With only a
modest increase in sales, the increase in net earnings is also a result of cost
management, particularly in plant rationalization efforts throughout the year
and other cost reduction initiatives in the second half of the year. This along
with the decrease in the company's effective tax rate due to increased
profitability from foreign operations helped to offset the effect of negative
foreign currency exchange rates. The Industrial Products segment continued to
grow, contributing 46.6 percent of consolidated sales, approximately 70.0
percent of the operating income and all of the growth in operating income for
the year. International operating income totaled approximately 68.9 percent and
62.1 percent of consolidated operating income in 2001 and 2000, respectively.
International operations also contributed all of the growth in operating income.
Europe's operating income increased 7.1 percent (16.2 percent in local currency)
as a result of strong gas turbine results, the completion of the DCE integration
and improved results in most markets. Asia-Pacific's operating income increased
by 38.0 percent (44.4 percent in local currency), led by increases from Japan's
ROI improvement project and strong disk drive results in the Hong Kong and Wuxi,
China, operations.
Gross margin for 2001 remained virtually flat with only a slight increase to
30.1 percent compared to 30.0 percent in the prior year. This reflects an
improved product mix and benefits of plant rationalization efforts, offsetting
strong pricing pressure from major customers.
Operating expenses as a percentage of sales for 2001 and 2000 were 20.2
percent and 20.3 percent, respectively. Operating expenses in 2001 totaled
$229.6 million compared to $221.9 million in 2000, an increase of $7.7 million,
or 3.5 percent. The increase in operating expenses relative to the prior year
reflects higher sales levels and the continued impact of the businesses acquired
in 2000.
Interest expense increased $1.7 million, or 17.5 percent, primarily due to
higher short-term debt levels throughout the year related to last year's
acquisitions. Other income totaled $4.4 million in 2001 compared to other income
of $4.6 million in the prior year. The major components
17
of other income in 2001 were: interest income of $1.2 million, earnings from
non-consolidated joint ventures of $3.0 million, and other miscellaneous income
and expense items netting to $0.2 million of miscellaneous income.
The effective income tax rate of 28.0 percent in 2001 decreased from the 30.0
percent tax rate in 2000. The tax rate was adjusted in the third quarter to
provide for the increased contributions from the company's international
operations in lower tax rate countries and reflects the foreign tax credit
generated by the receipt of a dividend from the company's operations in Japan.
The company anticipates that it will have a comparable proportion of income
coming from its international operations located in lower tax rate countries in
2002. The company anticipates that its effective income tax rate will be
approximately 28.0 percent in 2002.
Total backlog was $355.3 million, up 7.2 percent from the same period last
year. In the Industrial Products segment, total backlog increased 16.8 percent
from the same period last year. In the Engine Products segment, total backlog
was down 1.3 percent compared to the same period last year. Hard order backlog,
goods scheduled for delivery in 90 days, was $179.9 million, down 2.1 percent
from $183.7 million in the prior year. Within the Industrial Products segment,
hard order backlog for gas turbine products increased 28.7 percent from the
prior year. This increase was offset by decreases in industrial air filtration
and special application products of 26.2 percent and 24.1 percent, respectively,
resulting in a slight overall increase in the Industrial Products segment from
the prior year. In the Engine Products segment, overall hard order backlog
decreased 4.5 percent from the prior year. Within this segment, off-road and
truck products posted decreases of 6.4 percent and 16.3 percent, respectively,
while aftermarket hard order backlog increased 4.5 percent from the prior year.
LIQUIDITY AND CAPITAL RESOURCES
FINANCIAL CONDITION At July 31, 2002, the company's capital structure was
comprised of $60.4 million of current debt, $105.0 million of long-term debt and
$382.6 million of shareholders' equity. The ratio of long-term debt to total
capital was 21.5 percent and 23.7 percent at July 31, 2002 and 2001,
respectively.
Total debt outstanding increased $6.7 million for the year to $165.4 million
outstanding at July 31, 2002. The increase is a result of an increase in
long-term debt of $5.8 million from the prior year. The increase in long-term
debt is primarily due to an increase in an unsecured senior note of $1.5 million
as a result of an interest rate swap agreement entered into in fiscal 2001 and
the addition of capitalized lease obligations of $3.5 million resulting from the
acquisition of ultrafilter. Long-term debt also increased by $0.7 million due to
foreign exchange translation for two guaranteed notes in our Japan operations
due to continued weakness in the Japanese yen. Short-term borrowings outstanding
at the end of the year increased $0.9 million as compared to the prior year.
The company has a multi-currency revolving credit facility totaling $100.0
million with a group of banks and an additional $45.0 million available for use
under uncommitted facilities which provide unsecured borrowings for general
corporate purposes. There was $35.5 million outstanding under these facilities
at July 31, 2002.
The following table summarizes the company's fixed cash obligations as of
July 31, 2002 over various future years (in thousands):
- --------------------------------------------------------------------------------
Payments Due by Period
----------------------------------------------
Contractual Cash Less than 1 - 3 4 - 5 After 5
Obligations Total 1 Year Years Years Years
- --------------------------------------------------------------------------------
Long-term debt $105,076 $ 57 $ 39,660 $ 38,640 $ 26,719
Short-term debt 60,337 60,337 -- -- --
- --------------------------------------------------------------------------------
Total $165,413 $ 60,394 $ 39,660 $ 38,640 $ 26,719
================================================================================
At July 31, 2002, the company had a contingent liability for standby letters
of credit totaling $14.8 million that have been issued and are outstanding.
Currently, there are no amounts drawn on these letters of credit.
The company believes that the combination of present capital resources,
internally generated funds, and unused financing sources are adequate to meet
cash requirements for fiscal 2003.
Shareholders' equity increased $63.5 million in 2002 to $382.6 million. The
increase was due to current year earnings of $86.9 million offset by $21.3
million of treasury stock repurchases, $13.7 million of dividend payments and a
net increase in other comprehensive income of $9.9 million and $1.7 million of
other miscellaneous stock activity. The increase in other comprehensive income
consisted primarily of a foreign currency translation adjustment of $13.5
million offset by an additional minimum pension liability of $3.3 million.
CASH FLOWS During fiscal 2002, $154.3 million of cash was generated from
operating activities, compared with $82.8 million in 2001 and $88.5 million in
2000. The increase in 2002 was primarily due to a decrease in accounts
receivable of $8.1 million, a decrease in inventory of $13.6 million and an
increase in accounts payable and other accrued expenses of $25.2 million during
the year.
18
In addition to cash generated from operating activities, the company
increased its outstanding short-term debt by $3.0 million while net long-term
debt increased by $1.6 million. Cash flow generated by operations was used
primarily to support $40.5 million for capital expenditures, $21.3 million for
stock repurchases and $13.7 million for dividend payments. Cash and cash
equivalents increased $9.5 million during 2002.
Capital expenditures for property, plant and equipment totaled $40.5 million
in 2002, compared to $38.9 million in 2001 and $36.4 million in 2000. Capital
expenditures primarily related to productivity enhancing investments at various
plants worldwide and continuing upgrades to the U.S. information systems.
Capital spending in 2003 is planned at $45.0 million. Significant planned
expenditures include the further upgrade of U.S. information systems and
investment in manufacturing equipment and tooling. It is anticipated that 2003
capital expenditures will be financed primarily by cash generated from
operations and existing lines of credit.
DIVIDENDS The company's dividend policy is to maintain a payout ratio which
allows dividends to increase with the long-term growth of earnings per share,
while sustaining dividends in down years. The company's dividend payout ratio
target is 20.0 percent to 25.0 percent of the average earnings per share of the
last three years. The current quarterly dividend of 8.5 cents per share equates
to 20.1 percent of the average net earnings per share for 2000 through 2002.
SHARE REPURCHASE PLAN In fiscal 2002, the company repurchased 0.7 million shares
of common stock on the open market for $21.3 million under the share repurchase
plan authorized in January 2001, at an average price of $32.37 per share. The
company repurchased 0.5 million shares for $10.3 million in 2001 and 1.7 million
shares for $35.9 million in 2000.
ENVIRONMENTAL MATTERS The company has established reserves for potential
environmental liabilities and plans to continue to accrue reserves in
appropriate amounts. While uncertainties exist with respect to the amounts and
timing of the company's ultimate environmental liabilities, management believes
that such liabilities, individually and in the aggregate, will not have a
material adverse effect on the company's financial condition or results of
operations.
NEW ACCOUNTING STANDARDS In June 2001, the Financial Accounting Standards Board
(FASB) issued Statement of Financial Accounting Standards (SFAS) No. 141,
"Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible
Assets." Major provisions of these statements are as follows: all business
combinations must now use the purchase method of accounting; intangible assets
acquired in a business combination must be recorded separately from goodwill if
they arise from contractual or other legal rights or are separable from the
acquired entity and can be sold, transferred, licensed, rented or exchanged,
either individually or as a part of a related contract, asset or liability;
goodwill and intangible assets with indefinite lives are not amortized but
tested for impairment annually and whenever there is an impairment indicator;
all acquired goodwill must be assigned to reporting units for purposes of
impairment testing and segment reporting. The company adopted the provisions of
these statements as of August 1, 2001. As required by SFAS No. 142, the company
has performed step one of the impairment testing of goodwill for the balances as
of August 1, 2001. The results of this test show that the fair market value of
the reporting units that the goodwill is assigned to is higher than the book
values of those reporting units resulting in no goodwill impairment. The company
will perform impairment tests annually and whenever events or circumstances
occur indicating that goodwill or other intangible assets might be impaired. As
of August 1, 2001, the company is no longer amortizing goodwill. Goodwill
amortization expense was $2.7 million and $1.9 million, net of income taxes, for
the year ended July 31, 2001 and 2000, respectively. The company estimates that
goodwill amortization expense would have been approximately $2.6 million, net of
income taxes, for the year ended July 31, 2002.
The following table presents a reconciliation of net income and earnings per
share adjusted for the exclusion of goodwill, net of income taxes:
- --------------------------------------------------------------------------------
(In thousands, except per share amounts) 2002 2001 2000
- --------------------------------------------------------------------------------
Reported net income $86,883 $75,548 $70,233
Add goodwill amortization, net of tax -- 2,722 1,895
- --------------------------------------------------------------------------------
Adjusted net income $86,883 $78,270 $72,128
================================================================================
Basic earnings per share:
Reported basic earnings per share $ 1.97 $ 1.70 $ 1.54
Add goodwill amortization, net of tax -- .06 .04
- --------------------------------------------------------------------------------
Adjusted basic earnings per share $ 1.97 $ 1.76 $ 1.58
================================================================================
Diluted earnings per share:
Reported diluted earnings per share $ 1.90 $ 1.66 $ 1.51
Add goodwill amortization, net of tax -- .06 .04
- --------------------------------------------------------------------------------
Adjusted diluted earnings per share $ 1.90 $ 1.72 $ 1.55
================================================================================
19
As of July 31, 2002 and 2001, goodwill was $86.4 million and $57.5 million,
respectively. In fiscal 2002, goodwill increased $28.1 million for the
acquisition of ultrafilter and decreased $0.5 million for the reversal of
restructuring reserves that were unused from previous acquisitions. The
remaining increase of $1.3 million was due to foreign exchange translation. For
the Industrial Products and Engine Products segments, goodwill as of July 31,
2002 totaled $62.6 million and $23.8 million, respectively, and as of July 31,
2001 totaled $33.4 million and $24.1 million, respectively.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations." This statement addresses financial accounting and reporting for
obligations associated with the retirement of tangible long-lived assets and the
associated asset retirement costs. SFAS No. 143 is effective for the company in
fiscal 2003. Management does not expect this statement to have a material impact
on the company's consoli dated financial statements.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment
or Disposal of Long-Lived Assets." SFAS No. 144 establishes a single model for
the impairment of long-lived assets and broadens the presentation of
discontinued operations to include more disposal transactions. SFAS No. 144 is
effective for the company in fiscal 2003. Management does not expect this
statement to have a material impact on the company's consolidated financial
statements.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 addresses significant issues
relating to the recognition, measurement and reporting of costs associated with
exit and disposal activities including restructuring. SFAS No. 146 is effective
for the company in fiscal 2003.
MARKET RISK
The company's market risk includes the potential loss arising from adverse
changes in foreign currency exchange rates and interest rates. The company
manages foreign currency market risk, from time to time, through the use of a
variety of financial and derivative instruments. The company does not enter into
any of these instruments for trading purposes to generate revenue. Rather, the
company's objective in managing these risks is to reduce fluctuations in
earnings and cash flows associated with changes in foreign currency exchange
rates. The company uses forward exchange contracts and other hedging activities
to hedge the U.S. dollar value resulting from anticipated foreign currency
transactions. The company's market risk on interest rates is the potential
increase in fair value of long-term debt resulting from a potential decrease in
interest rates. See further discussion of these market risks below.
FOREIGN CURRENCY During 2002, overall the U.S. dollar strengthened throughout
the year relative to the currencies of the foreign countries in which the
company operates. The stronger dollar had a negative impact on the company's
international net sales results because the foreign denominated revenues
translated into fewer U.S. dollars. The overall impact to net earnings, though,
was nominal.
It is not possible to determine the true impact of foreign currency
translation changes; however, the direct effect on net sales and net earnings
can be estimated. For the year ended July 31, 2002, the impact of foreign
currency translation resulted in an overall decrease in net sales of $5.2
million but had a nominal impact on net earnings. Foreign currency translation
had a negative impact in Japan, where the stronger U.S. dollar relative to the
Japanese yen resulted in a decrease in net sales of $6.4 million and a decrease
in net earnings of $0.3 million. The stronger U.S. dollar relative to the South
African rand also had a negative impact on foreign currency translation with a
decrease in net sales of $4.7 million and a decrease in net earnings of $0.2
million. In Europe, the euro strengthened, and almost reached parity with the
U.S. dollar by the end of the fiscal year. This resulted in an increase in net
sales of $5.7 million and an increase in net earnings of $0.4 million. Going
forward, the company expects local currency results to remain strong; excluding
the effect of translation, rev enues outside the United States increased 4.1
percent for the year ended July 31, 2002.
The company maintains significant assets and operations in Europe, countries
of the Asia-Pacific Rim, South Africa and Mexico. As a result, exposure to
foreign currency gains and losses exists. A portion of the company's foreign
currency exposure is naturally hedged by incurring liabilities, including bank
debt, denominated in the local currency in which the company's foreign
subsidiaries are located.
The foreign subsidiaries of the company purchase products and parts in
various currencies. As a result, the company may be exposed to cost increases
relative to local
20
currencies in the markets to which it sells. To mitigate such adverse trends,
the company, from time to time, enters into forward exchange contracts and other
hedging activities. Additionally, foreign currency positions are partially
offsetting and are netted against one another to reduce exposure.
Some products made in the United States are sold abroad, primarily in Canada.
As a result, sales of such products are affected by the value of the U.S. dollar
relative to other currencies. Any long-term strengthening of the U.S. dollar
could depress these sales. Also, competitive conditions in the company's markets
may limit its ability to increase product pricing in the face of adverse
currency movements.
INTEREST The company's exposure to market risks for changes in interest rates
relates primarily to our short-term investments, short-term borrowings and
interest rate swap agreement. We have no earnings or cash flow exposure due to
market risks on our long-term debt obligations as a result of the fixed-rate
nature of the debt. However, interest rate changes would affect the fair market
value of the debt. At July 31, 2002, the fair value of the company's long-term
debt approximates market. Market risk is estimated as the potential decrease in
fair value resulting from a hypothetical one-half percent increase in interest
rates and amounts to approximately $3.3 million.
During fiscal 2001, the company entered into an interest rate swap agreement
effectively converting a portion of the company's interest rate exposure from a
fixed-rate to a variable rate basis to hedge against the risk of higher
borrowing costs in a declining interest rate environment. The company does not
enter into interest rate swap contracts for speculative or trading purposes, as
the differential to be paid or received on the interest rate swap agreement is
accrued and recognized as an adjustment to interest expense as interest rates
change. The interest rate swap agreement has an aggregate notional amount of
$27.0 million maturing on July 15, 2008. The variable rate is based on the
current six-month London Interbank Offered Rates ("LIBOR"). This transaction
resulted in a decrease to interest expense of $1.2 million for the year ended
July 31, 2002.
CRITICAL ACCOUNTING POLICIES
The company's consolidated financial statements are prepared in conformity with
accounting principles generally accepted in the United States of America. The
preparation of these financial statements requires the use of estimates,
judgments and assumptions that affect the reported amounts of assets and
liabilities at the date of the financial statements and the reported amounts of
revenue and expenses during the periods presented. Management bases these
estimates on historical experience and various other assumptions that are
believed to be reasonable under the circumstances, the results of which form the
basis for making judgments about the recorded values of certain assets and
liabilities. The company believes its use of estimates and underlying accounting
assumptions adhere to generally accepted accounting principles and are
consistently applied. Valuations based on estimates and underlying accounting
assumptions are reviewed for reasonableness on a consistent basis throughout the
company. Management believes the company's critical accounting policies that
require more significant judgments and estimates used in the preparation of its
consolidated financial statements and are the most important to aid in fully
understanding its financial results are the following:
ALLOWANCE FOR DOUBTFUL ACCOUNTS - Allowances for doubtful accounts are
estimated by management based on evaluation of potential losses related to
customer receivable balances. Estimates are developed by using standard
quantitative measures based on historical losses, adjusting for current economic
conditions and, in some cases, evaluating specific customer accounts for risk of
loss. The establishment of this reserve requires the use of judgment and
assumptions regarding the potential for losses on receivable balances. Though
management considers these balances adequate and proper, changes in economic
conditions in specific markets in which the company operates could have an
effect on reserve balances required.
INVENTORY - The company's inventories are valued at the lower of cost or
market. Reserves for shrink and obsolescence are estimated using standard
quantitative measures based on historical losses, including issues related to
specific inventory items. Though management considers these balances adequate
and proper, changes in economic conditions in specific markets in which the
company operates could have an effect on reserve balances required.
PRODUCT WARRANTY - The company estimates warranty costs using standard
quantitative measures based on historical warranty claim experience and, in some
cases, evaluating specific customer warranty issues. The establishment of
reserves requires the use of judgment and assumptions regarding the potential
for losses relating to warranty issues. Though management considers these
balances adequate and proper, changes in the future could impact these
determinations.
21
INCOME TAXES - As part of the process of preparing the company's consolidated
financial statements, management is required to estimate income taxes in each of
the jurisdictions in which the company operates. This process involves
estimating actual current tax exposure together with assessing temporary
differences resulting from differing treatment of items for tax and book
accounting purposes. These differences result in deferred tax assets and
liabilities, which are included within the company's consolidated balance sheet.
These assets and liabilities are evaluated by using estimates of future taxable
income streams and the impact of tax planning strategies. Management assesses
the likelihood that deferred tax assets will be recovered from future taxable
income and to the extent management believes that recovery is not likely, a
valuation allowance is established. To the extent that a valuation allowance is
established or increased, an expense within the tax provision is included in the
statement of operations. Reserves are also estimated for ongoing audits
regarding federal, state and international issues that are currently unresolved.
The company routinely monitors the potential impact of such situations and
believes that it is properly reserved. Valuations related to tax accruals and
assets can be impacted by changes to tax codes, changes in statutory tax rates
and the company's future taxable income levels.
FORWARD-LOOKING STATEMENTS
The company desires to take advantage of the "safe harbor" provisions of the
Private Securities Litigation Reform Act of 1995 and is making this cautionary
statement in connection with such safe harbor legislation. This Annual Report to
Shareholders, any Form 10-K, Form 10-Q, Form 8-K, earnings releases or other
press releases of the company or any other written or oral statements made by or
on behalf of the company may include forward-looking statements which reflect
the company's current views with respect to future events and financial
performance. The words "believe," "expect," "anticipate," "intends," "estimate,"
"forecast," "plan," "project," "should" and similar expressions are intended to
identify "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. All forecasts and projections in this
Annual Report are "forward-looking statements," and are based on management's
current expectations of the company's near-term results, based on current
information available to the company.
The company wishes to caution investors that any forward-looking statements
made by or on behalf of the company are subject to uncertainties and other
factors that could cause actual results to differ materially from such
statements. These uncertainties and other risk factors include, but are not
limited to: risks associated with cur rency fluctuations, commodity prices,
world economic factors, political factors, the company's substantial
international operations including key disk drive filter production facilities
in China, highly competitive markets, changes in product demand and changes in
the geographic and product mix of sales, acquisition opportunities and
integration of recent acquisitions, including the acquisition of ultra filter,
facility and product line rationalization, research and development
expenditures, including ongoing information technology improvements, and
governmental laws and regulations, including diesel emissions controls. For a
more detailed explanation of the foregoing and other risks, see exhibit 99,
which is part of the company's Form 10-K filed with the Securities and Exchange
Commission. The company wishes to caution investors that other factors may in
the future prove to be important in affecting the company's results of
operations. New factors emerge from time to time and it is not possible for
management to predict all such factors, nor can it assess the impact of each
such factor on the business or the extent to which any factor, or a combination
of factors, may cause actual results to differ materially from those contained
in any forward-looking statements.
Investors are further cautioned not to place undue reliance on such
forward-looking statements as they speak only to the company's views as of the
date the statement is made. The company undertakes no obligation to publicly
update or revise any forward-looking statements, whether as a result of new
information, future events or otherwise.
22
CONSOLIDATED STATEMENTS OF EARNINGS
Donaldson Company, Inc. and Subsidiaries
- --------------------------------------------------------------------------------------------------------------------------------
(Thousands of dollars, except share and per share amounts) Year ended July 31, 2002 2001 2000
- --------------------------------------------------------------------------------------------------------------------------------
Net sales $ 1,126,005 $ 1,137,015 $ 1,092,294
Cost of sales 776,513 795,281 764,773
------------------------------------------------
Gross Margin 349,492 341,734 327,521
Selling, general and administrative 197,492 201,201 194,623
Research and development 28,150 28,425 27,304
------------------------------------------------
Operating Income 123,850 112,108 105,594
Interest expense 6,531 11,608 9,880
Other (income) expense, net (1,699) (4,428) (4,619)
------------------------------------------------
Earnings Before Income Taxes 119,018 104,928 100,333
------------------------------------------------
Income taxes 32,135 29,380 30,100
- --------------------------------------------------------------------------------------------------------------------------------
Net Earnings $ 86,883 $ 75,548 $ 70,233
================================================================================================================================
Weighted Average Shares - Basic 44,158,074 44,381,082 45,716,482
================================================================================================================================
Weighted Average Shares - Diluted 45,714,409 45,612,165 46,664,196
================================================================================================================================
Net Earnings Per Share - Basic $ 1.97 $ 1.70 $ 1.54
================================================================================================================================
Net Earnings Per Share - Diluted $ 1.90 $ 1.66 $ 1.51
================================================================================================================================
The accompanying notes are an integral part of these consolidated financial
statements.
23
CONSOLIDATED BALANCE SHEETS
Donaldson Company, Inc. and Subsidiaries
- --------------------------------------------------------------------------------------------------------
(Thousands of dollars, except share amounts) At July 31, 2002 2001
- --------------------------------------------------------------------------------------------------------
ASSETS
- --------------------------------------------------------------------------------------------------------
Current Assets
Cash and cash equivalents $ 45,586 $ 36,136
Accounts receivable, less allowance of $6,620 and $6,309 251,417 230,046
Inventories
Raw materials 49,162 50,426
Work in process 16,796 21,209
Finished products 51,733 40,999
--------------------------
Total Inventories 117,691 112,634
Deferred income taxes 18,417 12,746
Prepaids and other current assets 23,373 15,665
- --------------------------------------------------------------------------------------------------------
Total Current Assets 456,484 407,227
Property, Plant and Equipment, at cost
Land 13,549 6,890
Buildings 134,660 117,029
Machinery and equipment 375,275 345,073
Construction in progress 29,240 22,603
--------------------------
552,724 491,595
Less accumulated depreciation (311,811) (283,937)
--------------------------
240,913 207,658
Intangible Assets 103,681 58,205
Other Assets 49,053 33,740
- --------------------------------------------------------------------------------------------------------
Total Assets $ 850,131 $ 706,830
========================================================================================================
LIABILITIES & SHAREHOLDERS' EQUITY
- --------------------------------------------------------------------------------------------------------
Current Liabilities
Short-term borrowings $ 60,337 $ 59,393
Current maturities of long-term debt 57 23
Trade accounts payable 115,299 100,287
Accrued employee compensation and related taxes 31,171 29,945
Accrued liabilities 31,542 17,597
Other current liabilities 34,384 10,034
- --------------------------------------------------------------------------------------------------------
Total Current Liabilities 272,790 217,279
Long-term Debt 105,019 99,259
Deferred Income Taxes 13,376 9,189
Other Long-term Liabilities 76,325 62,010
Commitments and Contingencies (Note J)
Shareholders' Equity
Preferred stock, $1.00 par value, 1,000,000 shares authorized, none issued -- --
Common stock, $5.00 par value, 80,000,000 shares authorized,
49,655,954 shares issued in 2002 and 2001 248,280 248,280
Retained earnings 274,395 203,499
Accumulated other comprehensive loss (14,296) (24,235)
Treasury stock - 5,741,417 and 5,273,121 shares in 2002 and 2001, at cost (125,758) (108,451)
- --------------------------------------------------------------------------------------------------------
Total Shareholders' Equity 382,621 319,093
- --------------------------------------------------------------------------------------------------------
Total Liabilities & Shareholders' Equity $ 850,131 $ 706,830
========================================================================================================
The accompanying notes are an integral part of these consolidated financial
statements.
24
CONSOLIDATED STATEMENTS OF CASH FLOWS
Donaldson Company, Inc. and Subsidiaries
- ---------------------------------------------------------------------------------------------------------------------------
(Thousands of dollars) Year ended July 31, 2002 2001 2000
- ---------------------------------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
- ---------------------------------------------------------------------------------------------------------------------------
Net earnings $ 86,883 $ 75,548 $ 70,233
Adjustments to reconcile net earnings to net cash provided by operating activities
Depreciation and amortization 31,751 38,577 34,326
Equity in (earnings) loss of affiliates 82 (635) 74
Deferred income taxes (5,266) 7,093 (449)
Other (2,973) (12,949) 3,121
Changes in operating assets and liabilities, net of acquired businesses
Accounts receivable 8,053 (35,220) (5,704)
Inventories 13,608 2,816 (26,227)
Prepaids and other current assets (2,979) 2,838 (3,316)
Trade accounts payable and other accrued expenses 25,153 4,731 16,437
- ---------------------------------------------------------------------------------------------------------------------------
Net Cash Provided by Operating Activities 154,312 82,799 88,495
INVESTING ACTIVITIES
- ---------------------------------------------------------------------------------------------------------------------------
Purchases of property, plant and equipment (40,529) (38,924) (36,417)
Acquisitions and investments in affiliates (68,349) -- (88,220)
- ---------------------------------------------------------------------------------------------------------------------------
Net Cash Used in Investing Activities (108,878) (38,924) (124,637)
FINANCING ACTIVITIES
- ---------------------------------------------------------------------------------------------------------------------------
Proceeds from long-term debt 1,590 9,462 5,752
Repayments of long-term debt (23) (1,136) (4,522)
Change in short-term borrowings 2,961 (24,417) 66,328
Purchase of treasury stock (21,271) (10,297) (35,923)
Dividends paid (13,713) (13,092) (12,384)
Exercise of stock options (1,334) 525 326
- ---------------------------------------------------------------------------------------------------------------------------
Net Cash (Used in) Provided by Financing Activities (31,790) (38,955) 19,577
Effect of exchange rate changes on cash (4,194) (801) (1,053)
---------------------------------------
Increase (Decrease) in Cash and Cash Equivalents 9,450 4,119 (17,618)
Cash and Cash Equivalents, Beginning of Year 36,136 32,017 49,635
- ---------------------------------------------------------------------------------------------------------------------------
Cash and Cash Equivalents, End of Year $ 45,586 $ 36,136 $ 32,017
===========================================================================================================================
The accompanying notes are an integral part of these consolidated financial
statements.
25
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
Donaldson Company, Inc. and Subsidiaries
- -------------------------------------------------------------------------------------------------------------------------------
Accumulated
Additional Other
Common Paid-in Retained Comprehensive Treasury
(Thousands of dollars, except per share amounts) Stock Capital Earnings Income (Loss) Stock Total
- -------------------------------------------------------------------------------------------------------------------------------
BALANCE JULY 31, 1999 $248,280 $ 1,833 $ 87,687 $ (5,670) $ (69,367) $262,763
- -------------------------------------------------------------------------------------------------------------------------------
Comprehensive income
Net earnings 70,233 70,233
Foreign currency translation (4,853) (4,853)
---------
Comprehensive income 65,380
Treasury stock acquired (35,923) (35,923)
Stock options exercised (3,360) 2,555 (805)
Tax reduction - employee plans 1,134 1,134
Cash dividends ($.27 per share) (12,384) (12,384)
- -------------------------------------------------------------------------------------------------------------------------------
BALANCE JULY 31, 2000 248,280 2,967 142,176 (10,523) (102,735) 280,165
- -------------------------------------------------------------------------------------------------------------------------------
Comprehensive income
Net earnings 75,548 75,548
Foreign currency translation (13,717) (13,717)
Additional minimum pension liability (341) (341)
Net gain on cash flow hedging derivatives 346 346
---------
Comprehensive income 61,836
Treasury stock acquired (10,297) (10,297)
Stock options exercised (6,196) (1,124) 4,262 (3,058)
Performance awards (9) 319 310
Tax reduction - employee plans 3,229 3,229
Cash dividends ($.295 per share) (13,092) (13,092)
- -------------------------------------------------------------------------------------------------------------------------------
BALANCE JULY 31, 2001 248,280 -- 203,499 (24,235) (108,451) 319,093
- -------------------------------------------------------------------------------------------------------------------------------
Comprehensive income
Net earnings 86,883 86,883
Foreign currency translation 13,515 13,515
Additional minimum pension liability (3,256) (3,256)
Net loss on cash flow hedging derivatives (320) (320)
---------
Comprehensive income 96,822
Treasury stock acquired (21,271) (21,271)
Stock options exercised (3,023) (2,329) 3,749 (1,603)
Performance awards 55 215 270
Tax reduction - employee plans 3,023 3,023
Cash dividends ($.31 per share) (13,713) (13,713)
- -------------------------------------------------------------------------------------------------------------------------------
BALANCE JULY 31, 2002 $248,280 $ -- $274,395 $(14,296) $(125,758) $382,621
===============================================================================================================================
The accompanying notes are an integral part of these consolidated financial
statements.
26
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Donaldson Company, Inc. and Subsidiaries
> NOTE A
Summary of Significant Accounting Policies
DESCRIPTION OF BUSINESS Donaldson Company, Inc., is a leading worldwide
manufacturer of filtration systems and replacement parts. The company's product
mix includes air and liquid filters and exhaust and emission control products
for mobile equipment; in-plant air cleaning systems; compressed air purification
systems; air intake systems for industrial gas turbines; and specialized filters
for such diverse applications as computer disk drives, aircraft passenger cabins
and semi-conductor processing. Products are manufactured at more than three
dozen Donaldson plants around the world and through four joint ventures.
PRINCIPLES OF CONSOLIDATION The consolidated financial statements include the
accounts of Donaldson Company, Inc. and all majority-owned subsidiaries (the
company). All significant inter-company accounts and transactions have been
eliminated. The company also has four joint ventures that are not
majority-owned, all accounted for on the equity method. Certain amounts in prior
periods have been reclassified to conform to the current presentation. The
reclassifications had no impact on the company's net earnings or shareholders'
equity as previously reported.
USE OF ESTIMATES The preparation of financial statements in conformity with
generally accepted accounting principles in the United States requires
management to make estimates and assumptions that affect the amounts reported in
the financial statements and accompanying notes. Actual results could differ
from those estimates.
FOREIGN CURRENCY TRANSLATION For most foreign operations, local currencies are
considered the functional currency. Assets and liabilities are translated using
the exchange rates in effect at the balance sheet date. Results of operations
are translated using the average exchange rates prevailing throughout the
period. Translation gains or losses, net of applicable deferred taxes, are
accumulated in the foreign currency adjustment in accumulated other
comprehensive income (loss) in shareholders' equity. Foreign currency
transaction losses of $1.3 million in 2002 are included in earnings before
income taxes. There were no significant foreign currency transaction gains or
losses in 2001. Foreign currency transaction losses of $0.2 million in 2000 are
included in earnings before income taxes.
CASH EQUIVALENTS The company considers all highly liquid temporary investments
with a maturity of three months or less when purchased to be cash equivalents.
Cash equivalents are carried at cost which approximates market value.
INVENTORIES Inventories are stated at the lower of cost or market. Domestic
inventories are valued using the last-in, first-out (LIFO) method, while the
international subsidiaries use the first-in, first-out (FIFO) method.
Inventories valued at LIFO were approximately 41 percent and 53 percent of total
inventories at July 31, 2002 and 2001, respectively.
For inventories valued under the LIFO method, the FIFO cost exceeded the LIFO
carrying values by $20.8 million and $22.5 million at July 31, 2002 and 2001,
respectively.
PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment are stated at cost.
Additions, improvements or major renewals are capitalized, while expenditures
that do not enhance or extend the asset's useful life are charged to operating
expense as incurred. Depreciation is computed principally by use of declining
balance methods on facilities and equipment acquired on or prior to July 31,
1992. The company adopted the straight-line depreciation method for all property
acquired after July 31, 1992. Depreciation expense was $31.7 million in 2002 and
2001 and $32.1 million in 2000. The cost and related accumulated depreciation of
assets sold or disposed of are removed from the accounts and the resulting gain
or loss, if any, is recognized.
The estimated useful lives of property, plant and equipment are as follows:
- --------------------------------------------------------------------------------
Buildings 10 to 40 years
Machinery and equipment 3 to 10 years
- --------------------------------------------------------------------------------
INTANGIBLE ASSETS Goodwill represents the excess of the purchase price of
acquired companies over the fair value of net assets acquired. As a result of
adopting Statement of Financial Accounting Standards (SFAS) No. 142, "Goodwill
and Other Intangible Assets," in the first quarter of fiscal 2002 the company no
longer amortizes goodwill. See pro forma effects of adopting this standard under
"New Accounting Standards" later in Note A. Other intangible assets are recorded
at cost and are amortized on a straight-line basis over their estimated useful
lives. There was no significant amortization expense in 2002. Amortization
expense was $3.8 million and $2.7 million in 2001 and 2000, respectively.
Accumulated amortization was $9.6 million as of July 31, 2002 and 2001.
27
IMPAIRMENT OF LONG-LIVED ASSETS The company reviews the long-lived assets,
including identifiable intangibles and associated goodwill, for impairment when
events or changes in circumstances indicate that the carrying amount of an asset
may not be recoverable. If impairment indicators are present and the estimated
future undiscounted cash flows are less than the carrying value of the assets
and any related goodwill, the carrying value is reduced to the estimated fair
value as measured by the undiscounted cash flows.
INCOME TAXES Deferred tax assets and liabilities are recognized for the expected
future tax consequences attributed to differences between the financial
statement carrying amounts of existing assets and liabilities and their
respective tax basis. Deferred tax assets and liabilities are measured using the
enacted tax rates expected to apply to taxable income in the years in which
those temporary differences are expected to reverse. Valuation allowances are
recorded to reduce deferred tax assets when it is more likely than not that a
tax benefit will not be realized.
COMPREHENSIVE INCOME Comprehensive income consists of net income, foreign
currency translation adjustments, additional minimum pension liability and net
gain or loss on cash flow hedging deriva tives, and is presented in the
Consolidated Statements of Changes in Shareholders' Equity.
EARNINGS PER SHARE The company's basic net earnings per share is computed by
dividing net earnings by the weighted average number of outstanding common
shares. The company's diluted net earnings per share is computed by dividing net
earnings by the weighted average number of outstanding common shares and
dilutive shares relating to stock options.
The following table presents information necessary to calculate basic and
diluted earnings per share:
- --------------------------------------------------------------------------------
(In thousands, except per share amounts) 2002 2001 2000
- --------------------------------------------------------------------------------
Weighted average shares - basic 44,158 44,381 45,716
Dilutive shares 1,556 1,231 948
- --------------------------------------------------------------------------------
Weighted average shares - diluted 45,714 45,612 46,664
================================================================================
Net earnings for basic and diluted
earnings per share computation $86,883 $75,548 $70,233
================================================================================
Net earnings per share - basic $ 1.97 $ 1.70 $ 1.54
================================================================================
Net earnings per share - diluted $ 1.90 $ 1.66 $ 1.51
================================================================================
TREASURY STOCK Repurchased common stock is stated at cost and is presented as a
separate reduction of share holders' equity. The company believes the share
repurchase program is an excellent means of returning value to the shareholders.
RESEARCH AND DEVELOPMENT All expenditures for research and development are
charged against earnings in the year incurred.
STOCK-BASED COMPENSATION SFAS No. 123, "Accounting for Stock-Based
Compensation," encourages, but does not require, companies to record
compensation cost for stock-based employee compensation plans at fair value. The
company has chosen to continue to account for stock-based compensation using the
intrinsic value method prescribed in Accounting Principles Board (APB) Opinion
No. 25, "Accounting for Stock Issued to Employees," and related Interpretations.
Accordingly, compensation cost for stock options is measured as the excess, if
any, of the quoted market price of the company's stock at the date of the grant
over the amount an employee must pay to acquire the stock. Compensation cost for
performance equity units is recorded based on the quoted market price of the
company's stock at the end of the period.
REVENUE RECOGNITION Revenue is recognized when product is shipped and invoiced
and title to the goods transfers to customers. The company records estimated
discounts and rebates as a reduction of sales in the same period revenue is
recognized. Shipping and handling costs are classified as a component of cost of
sales.
PRODUCT WARRANTIES The company provides for estimated warranty costs and accrues
for specific items at the time their existence is known and the amounts are
determinable.
DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES In fiscal 2001, the company
adopted SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," as amended by SFAS No. 138, "Accounting for Certain Derivative
Instruments and Certain Hedging Activities - an amendment of FASB Statement
No. 133." With the adoption of SFAS 133, the company recognizes all derivatives
on the balance sheet at fair value. Derivatives that are not hedges are adjusted
to fair value through income. If the derivative is a hedge, depending on the
nature of the hedge, changes in the fair value of derivatives are either offset
against the change in fair value of the hedged assets, liabilities or firm
commitments through earnings or recognized in shareholders' equity through other
comprehensive income until the hedged item is recognized. Gains or losses
related to the ineffective portion of any hedge are recognized through earnings
in the current period. The impact of the adoption of SFAS 133 was not considered
material to the company.
The company uses derivative instruments, primarily forward exchange contracts
and interest rate swaps, to manage its exposure to fluctuations in foreign
exchange rates and interest rates. It is the company's policy to enter into
derivative transactions only to the extent true exposures exist; the company
does not enter into derivative transactions for speculative purposes. The
company enters into
28
derivative transactions only with highly rated counterparties. These
transactions may expose the company to credit risk to the extent that the
instruments have a positive fair value, but the company has not experienced any
material losses, nor does the company anticipate any losses.
Each derivative transaction the company enters into is designated at
inception as a hedge and is expected to be highly effective as the critical
terms of these instruments are the same as those of the underlying risks being
hedged. The company evaluates hedge effectiveness at inception and on an ongoing
basis. When a derivative is no longer expected to be highly effective, hedge
accounting is discontinued. Hedge ineffectiveness, if any, is recorded in
earnings on the same line as the underlying transaction risk.
The company is exposed to changes in the fair value of its fixed-rate debt
resulting from interest rate fluctuations. To hedge this exposure, the company
entered into a fixed to variable interest rate swap. This interest rate swap is
accounted for as a fair value hedge. The fair value of the swap is recorded net
of the underlying outstanding debt. Changes in the payment of interest resulting
from the interest rate swap are recorded as an offset to interest expense.
Effectiveness is assessed based on changes in the fair value of the underlying
debt, using incremental borrowing rates currently available on loans with
similar terms and maturities. See Note D for further discussion of the interest
rate swap.
The company enters into forward exchange contracts to hedge forecasted
transactions with its foreign subsidiaries, to reduce potential exposure related
to fluctuations in foreign exchange rates for anticipated intercompany
transactions such as purchases, sales and royalty payments denominated in local
currencies. Forward exchange contracts designated as cash flow hedges are
designed to hedge the variability of cash flows associated with the underlying
anticipated transactions. Changes in the value of derivatives designated as cash
flow hedges are recorded in other comprehensive income in shareholders' equity
until earnings are affected by the variability of the underlying cash flows. At
that time, the applicable amount of gain or loss from the derivative instrument
that is deferred in shareholders' equity is reclassified to earnings and is
included in other income or expense. Effectiveness is assessed based on changes
in forward rates. Ineffective portions of the hedges are recorded in earnings
through the same line as the underlying transaction.
Unrealized gains from cash flow hedges recorded in Accumulated Other
Comprehensive Income as of July 31, 2002 were not material. These unrealized
gains will be reclassified, as appropriate, into earnings during the next 12
months.
NEW ACCOUNTING STANDARDS In June 2001, the Financial Accounting Standards Board
(FASB) issued SFAS No. 141, "Business Combinations," and SFAS No. 142, "Goodwill
and Other Intangible Assets." Major provisions of these statements are as
follows: all business combinations must now use the purchase method of
accounting; intangible assets acquired in a business combination must be
recorded separately from goodwill if they arise from contractual or other legal
rights or are separable from the acquired entity and can be sold, transferred,
licensed, rented or exchanged, either individually or as a part of a related
contract, asset or liability; goodwill and intangible assets with indefinite
lives are not amortized but tested for impairment annually and whenever there is
an impairment indicator; all acquired goodwill must be assigned to reporting
units for purposes of impairment testing and segment reporting. The company
adopted the provisions of these statements as of August 1, 2001. As required by
SFAS No. 142, the company has performed step one of the impairment testing of
goodwill for the balances as of August 1, 2001. The results of this test show
that the fair market value of the reporting units that the goodwill is assigned
to is higher than the book values of those reporting units resulting in no
goodwill impairment. The company will perform impairment tests annually and
whenever events or circumstances occur indicating that goodwill or other
intangible assets might be impaired. As of August 1, 2001, the company is no
longer amortizing goodwill. Goodwill amortization expense was $2.7 million and
$1.9 million, net of income taxes, for the year ended July 31, 2001 and 2000,
respectively. The company estimates that goodwill amortization expense would
have been approximately $2.6 million, net of income taxes, for the year ended
July 31, 2002.
The following table presents a reconciliation of net income and earnings per
share adjusted for the exclusion of goodwill, net of income taxes:
- --------------------------------------------------------------------------------
(In thousands, except per share amounts) 2002 2001 2000
- --------------------------------------------------------------------------------
Reported net income $86,883 $75,548 $70,233
Add goodwill amortization, net of tax -- 2,722 1,895
- --------------------------------------------------------------------------------
Adjusted net income $86,883 $78,270 $72,128
================================================================================
Basic earnings per share:
Reported basic earnings per share $ 1.97 $ 1.70 $ 1.54
Add goodwill amortization, net of tax -- .06 .04
- --------------------------------------------------------------------------------
Adjusted basic earnings per share $ 1.97 $ 1.76 $ 1.58
================================================================================
Diluted earnings per share:
Reported diluted earnings per share $ 1.90 $ 1.66 $ 1.51
Add goodwill amortization, net of tax -- .06 .04
- --------------------------------------------------------------------------------
Adjusted diluted earnings per share $ 1.90 $ 1.72 $ 1.55
================================================================================
29
As of July 31, 2002 and 2001, goodwill was $86.4 million and $57.5 million,
respectively. In fiscal 2002, goodwill increased $28.1 million for the
acquisition of ultrafilter and decreased $0.5 million for the reversal of
restructuring reserves that were unused from previous acquisitions.
The remaining increase of $1.3 million was due to foreign exchange translation.
For the Industrial Products and Engine Products segments, goodwill as of July
31, 2002 totaled $62.6 million and $23.8 million, respectively, and as of July
31, 2001 totaled $33.4 million and $24.1 million, respectively.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations." This statement addresses financial accounting and reporting for
obligations associated with the retirement of tangible long-lived assets and the
associated asset retirement costs. SFAS No. 143 is effective for the company in
fiscal 2003. Management does not expect this statement to have a material
impact on the company's consolidated financial statements.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment
or Disposal of Long-Lived Assets." SFAS No. 144 establishes a single model for
the impairment of long-lived assets and broadens the presentation of
discontinued operations to include more disposal transactions. SFAS No. 144 is
effective for the company in fiscal 2003. Management does not expect this
statement to have a material impact on the company's consolidated financial
statements.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 addresses significant issues
relating to the recognition, measurement and reporting of costs associated with
exit and disposal activities including restructuring. SFAS No. 146 is effective
for the company in fiscal 2003.
> NOTE B
Acquisitions, Plant Closures
and Plant Openings
ACQUISITIONS All acquisitions were accounted for as purchases. The purchase
price assigned to the net assets acquired was based on the fair value of such
assets and liabilities at the respective acquisition dates. The operating
results of these acquired companies have been included in the consolidated
statement of earnings from the dates of acquisition with the exception of the
acquisition of ultrafilter international AG, which took place immediately prior
to the end of fiscal 2002. Consolidated pro forma earnings and earnings per
share would not be materially different from the reported amounts for all years
presented.
The company completed the purchase of all of the outstanding shares of
ultrafilter international AG ("ultrafilter") for $68.3 million in cash on July
12, 2002. Ultrafilter is headquartered in Haan, Germany with operations in 30
countries. Ultrafilter is a global leader in the design and manufacture of
components, replacement parts and complete systems for the compressed air
purification industry. Its products include compressed air filters and a wide
assortment of replacement filters, a complete offering of refrigeration and
desiccant dryers and condensate management devices. The acquisition of
ultrafilter satisfies the company's diversification strategy by expanding the
company's presence in industrial markets, focuses on replacement parts and
expands revenues outside of the United States. This acquisition in compressed
air purification builds on the acquisition of AirMaze Corporation in fiscal 2000
which brought the company access to the filtration needs of the compressor
itself and ultrafilter moves out of the compressor room to all of the points of
use in the factory. The company has completed a preliminary purchase price
allocation resulting in an excess of purchase price over the fair values of the
net assets acquired of $28.1 million. The company has not yet finalized the
allocation of the purchase price to the assets acquired and liabilities assumed
and thus it is subject to change. Ultrafilter's operations are a part of the
company's Industrial Products segment. Restructuring liabilities recorded in
conjunction with the acquisition were approximately $1.2 million as of July 31,
2002 for costs associated with the termination and relocation of employees.
The company acquired the DCE dust control business of Invensys, plc ("DCE")
for $56.4 million effective February 1, 2000. DCE, which was headquartered in
Leicester, England (UK), with smaller facilities in Germany and the United
States and assembly operations in South Africa, Australia and Japan, is a major
participant in the global dust collection industry. The excess of purchase price
over the fair values of the net assets acquired was $31.5 million and was
recorded as goodwill. DCE operations are part of the company's Industrial
Products segment. The integration of DCE resulted in a reduction in the work
force of approximately 140 employees during fiscal 2001. During fiscal 2002, the
unused balance of restructuring liabilities recorded in conjunction with the
acquisition of $0.5 million of costs associated with the closure and sale of
acquired facilities as well as termination and relocation of employees was
reversed against goodwill. Costs incurred and
30
charged to these reserves associated with the closure and sale of acquired
facilities amounted to $0.9 million for the fiscal year ended July 31, 2002.
Costs incurred and charged to these reserves associated with the termination and
relocation of employees amounted to $0.7 million for the fiscal year ended July
31, 2002. During the fiscal year ended July 31, 2001, costs incurred and charged
to these reserves amounted to $0.8 million associated with the closure and sale
of acquired facilities and $0.8 million associated with the termination and
relocation of employees. Adjustments to these reserves for the fiscal year ended
July 31, 2001 amounted to an increase of $0.9 million.
The company completed the purchase of all of the outstanding shares of
AirMaze Corporation ("AirMaze") for $31.9 million in cash effective November 1,
1999. AirMaze was merged into Donaldson Company, Inc. effective April 1, 2000.
AirMaze products include heavy-duty air and liquid filters, air/oil separators
and high purity air filter products. AirMaze manufacturing facilities are
located in Stow, Ohio, and Greeneville, Tennessee. The excess of purchase price
over the fair values of the net assets acquired was $27.2 million and was
recorded as goodwill. AirMaze operations are a part of the company's Engine
Products segment. The integration of AirMaze resulted in a reduction in the work
force of approximately 15 employees during fiscal 2001. During fiscal 2002, the
unused balance of restructuring liabilities recorded in conjunction with the
acquisition of $0.2 million for costs associated with the termination and
relocation of employees was reversed against goodwill. There were no costs
incurred and charged to this reserve for the fiscal year ended July 31, 2002.
Costs incurred and charged to this reserve amounted to $0.3 million and
adjustments to this reserve amounted to a decrease of $0.7 million for the
fiscal year ended July 31, 2001.
The following table summarizes the estimated fair values of the assets
acquired and liabilities assumed at the date of acquisition.
- --------------------------------------------------------------------------------
(Thousands of dollars) ultrafilter DCE AirMaze
- --------------------------------------------------------------------------------
Current assets $ 42,153 $ 28,742 $ 9,389
Property, plant and equipment 21,189 14,346 5,975
Goodwill 28,082 31,458 27,193
Other non-current assets 20,189 874 --
- --------------------------------------------------------------------------------
Total assets acquired 111,613 75,420 42,557
================================================================================
Current liabilities 27,941 16,758 4,640
Long-term debt 3,546 -- 3,991
Other long-term liabilities 11,777 2,301 2,067
- --------------------------------------------------------------------------------
Total liabilities assumed 43,264 19,059 10,698
================================================================================
Net assets acquired $ 68,349 $ 56,361 $ 31,859
================================================================================
Other non-current assets include other intangible assets such as patents and
trademarks and deferred tax assets. Other long-term liabilities include deferred
tax liabilities and other miscellaneous long-term liabilities.
PLANT CLOSURES During fiscal 2002, the company closed its manufacturing facility
located in Old Saybrook, Connecticut. The closure of this facility was completed
by the end of the fiscal year. A pretax charge of $0.3 million was recorded in
fiscal 2002 in the company's consolidated statement of earnings. This charge was
primarily related to severance and other employee-related costs associated with
the elimination of approximately 30 positions. Additionally, the company closed
its manufacturing facility located in Guilin, China. The closure of this
facility was completed by the end of the fiscal year. A pretax charge of $0.2
million was recorded in fiscal 2002 in the company's consolidated statement of
earnings. The charge was primarily related to severance and other
employee-related costs associated with the elimination of approximately 44
positions.
During fiscal 2001, the company closed its manufacturing facilities located
in Mooresville, North Carolina, and Louisville, Kentucky. The closures of these
facilities were completed by the end of the fiscal year. For the closure of the
Mooresville manufacturing facility, a pretax charge of $0.7 million was recorded
in fiscal 2001 in the company's consolidated statements of earnings. For the
closure of the Louisville manufacturing facility, costs were charged against the
purchase liabilities recorded in conjunction with the acquisition of DCE. These
charges were primarily related to severance and other employee-related costs
associated with the elimination of approximately 130 positions in Mooresville
and 80 positions in Louisville.
During fiscal 2000, the company completed the closure of its manufacturing
facility located in Oelwein, Iowa. A pretax charge of $2.8 million was recorded
in fiscal 1999 in the company's consolidated statements of earnings. The charge
was primarily related to severance and other employee-related costs associated
with the elimination of approximately 125 positions.
PLANT OPENINGS During fiscal 2002, the company opened new manufacturing
facilities both domestically and internationally. Domestically, the company
opened new headquarters and a new manufacturing facility for production of its
Tetratec(TM) PTFE technologies in Ginko Industrial Park in Northampton Township,
Pennsylvania. The new facility combined and consolidated the operations from
three existing facilities while doubling manufacturing capacity.
31
Internationally, the company opened a new manufacturing facility in Monterrey,
Mexico. The facility was constructed to produce gas turbine products and employs
approximately 130 employees. Additionally, during the year the company expanded
its manufacturing facilities in Wuxi, China. The expansion included a new clean
room used in the production of disk drive products and a new manufacturing
facility for the production of industrial air filtration products. The expansion
of these facilities added approximately 430 employees.
During fiscal 2000, the company opened a new manufacturing facility in
Auburn, Alabama. The facility was constructed to produce mufflers for the truck
manufacturers located in the southwestern U.S. region and employs approximately
100 employees.
> NOTE C
Credit Facilities
In December 1997, the company amended and renewed a five-year multi-currency
revolving facility with a group of participating banks under which it may borrow
up to $100.0 million. The agreement provides that loans may be made under a
selection of currencies and rate formulas including Base Rate Advance or
Eurocurrency Rate Advance. The interest rate on each advance is based on certain
adjusted leverage and debt-to-capitalization ratios. Facility fees and other
fees on the entire loan commitment are payable for the duration of this
facility. There was $20.0 million and $50.0 million outstanding at July 31, 2002
and July 31, 2001, respectively, leaving $80.0 million and $50.0 million
available for further borrowing under such facility at July 31, 2002 and July
31, 2001, respectively. The weighted average interest rate on these short-term
borrowings outstanding at July 31, 2002 and 2001 was 2.00 percent and 3.99
percent, respectively.
The company also has three agreements under uncommitted credit facilities,
which provide unsecured borrowings for general corporate purposes. At July 31,
2002 and 2001, there was $45.0 million and $35.0 million available for use under
these facilities, respectively. There was $15.5 million and $7.7 million
outstanding under these facilities at July 31, 2002 and 2001, respectively. The
weighted average interest rate on these short-term borrowings outstanding at
July 31, 2002 and 2001 was 2.05 percent and 3.98 percent, respectively.
International subsidiaries may borrow under various credit facilities. As of
July 31, 2002 and 2001, borrowings under these facilities were $24.8 million and
$1.7 million, respectively. This increase in short-term debt reflects borrowings
for the acquisition of ultrafilter at the end of fiscal 2002. The weighted
average interest rate on these international borrowings outstanding at July 31,
2002 and 2001 was 3.17 percent and 10.73 percent, respectively.
Also, at July 31, 2002, the company had outstanding standby letters of credit
totaling $14.8 million. Currently, there are no amounts drawn upon these letters
of credit.
> NOTE D
Long-Term Debt
Long-term debt consists of the following:
- --------------------------------------------------------------------------------
(Thousands of dollars) 2002 2001
- --------------------------------------------------------------------------------
6.20% Unsecured senior notes due July 15, 2005,
interest payable semi-annually, principal
payment of $23.0 million is due July 15, 2005 $23,000 $23,000
6.31% Unsecured senior notes due July 15, 2008,
interest payable semi-annually, principal
payment of $28.6 million is due July 15, 2008 28,640 27,157
6.39% Unsecured senior notes due August 15, 2010,
interest payable semi-annually, principal
payments of $5.0 million, to be paid annually
commencing August 16, 2006 25,000 25,000
1.9475% Guaranteed senior note due
January 29, 2005, interest payable
semi-annually, principal amount of
1.2 billion yen is due January 29, 2005 9,996 9,592
1.51% Guaranteed note due March 28, 2006,
interest payable quarterly, principal amount
of .8 billion yen is due March 28, 2006 6,664 6,395
Variable Rate Industrial Development Revenue
Bonds ("Lower Floaters") due September 1, 2024,
principal amount of $8.0 million, interest
payable monthly, and an interest rate of 1.6%
as of July 31, 2002 8,000 8,000
Capitalized lease obligations, with maturity dates
of March 31, 2009 and February 2, 2012 resulting
from the ultrafilter acquisition. Capital lease
obligations have principal amounts of $2.9 million
and $0.6 million with interest rates of 6.02% and
.51%, respectively 3,546 --
Other 230 138
- --------------------------------------------------------------------------------
Total 105,076 99,282
Less current maturities 57 23
- --------------------------------------------------------------------------------
Total long-term debt $105,019 $99,259
================================================================================
Annual maturities of long-term debt for 2003 and 2004 are not significant and
are $33.0 million in 2005, $6.7 million in 2006 and $5.0 million in 2007. The
company estimates that the carrying value of long-term debt approximates its
fair market value.
On June 6, 2001, the company entered into an interest rate swap agreement
effectively converting a portion of the company's interest rate exposure from a
fixed rate to a variable rate basis. The interest rate swap agreement has an
32
aggregate notional amount of $27.0 million maturing on July 15, 2008. The
variable rate is based on the current six-month London Interbank Offered Rates
("LIBOR"). This transaction resulted in a decrease to interest expense of $1.2
million for the year ended July 31, 2002. As of July 31, 2002, the fair market
value of the interest rate swap was $1.6 million.
Total interest paid relating to all debt was $6.1 million, $11.1 million and
$9.1 million in 2002, 2001 and 2000, respectively. In addition, total interest
expense recorded in 2002, 2001 and 2000 was $6.5 million, $11.6 million and $9.9
million, respectively. Certain note agreements contain debt covenants related to
working capital levels and limitations on indebtedness. Further, the company is
restricted from paying dividends or repurchasing common stock if its tangible
net worth (as defined) does not exceed certain minimum levels. As of July 31,
2002, the company was in compliance with all such covenants.
> NOTE E
Employee Benefit Plans
PENSION PLANS Donaldson Company, Inc. and certain of its subsidiaries have
defined benefit pension plans for substantially all hourly and salaried
employees. The domestic plan provides defined benefits pursuant to a cash
balance feature whereby a participant accumulates a benefit comprised of a
percentage of current salary which varies with years of service, interest
credits and transition credits. The international plans generally provide
pension benefits based on years of service and compensation level. The company's
general funding policy is to make contributions as required by applicable
regulations. The assets are primarily invested in diversified equity and debt
portfolios. In 2000, the actuarial valuation date was changed from July 31 to
April 30. This change did not have a material impact on the actuarial valuation.
Costs for the company's pension plans include the following components:
- --------------------------------------------------------------------------------
(Thousands of dollars) 2002 2001 2000
- --------------------------------------------------------------------------------
Net periodic cost:
Service cost $ 10,351 $ 6,935 $ 6,084
Interest cost 11,850 11,626 9,852
Expected return on assets (14,415) (12,862) (11,475)
Transition amount amortization 75 173 (1,097)
Prior service cost amortization 158 119 64
Actuarial (gain) loss amortization (77) (829) 71
- --------------------------------------------------------------------------------
Net periodic benefit cost $ 7,942 $ 5,162 $ 3,499
================================================================================
The funded status of the company's pension plans as of April 30, 2002 and
April 30, 2001, is as follows:
- --------------------------------------------------------------------------------
(Thousands of dollars) 2002 2001
- --------------------------------------------------------------------------------
Change in benefit obligation:
Benefit obligation, beginning of year $ 150,101 $ 137,056
Addition of non-U.S. plans 16,786 16,589
Service cost 10,351 6,936
Interest cost 11,850 11,626
Participant contributions 580 125
Plan amendments 1,433 174
Actuarial (gain)/loss 2,553 (10,012)
Currency exchange rates (203) (2,022)
Benefits paid (10,673) (10,371)
- --------------------------------------------------------------------------------
Benefit obligation, end of year $ 182,778 $ 150,101
================================================================================
Change in plan assets:
Fair value of plan assets, beginning of year $ 143,201 $ 146,210
Addition of non-U.S. plans 15,613 7,857
Actual return on plan assets 10,300 (10,978)
Company contributions 14,791 11,250
Participant contributions 580 125
Currency exchange rates 41 (892)
Benefits paid (10,673) (10,371)
- --------------------------------------------------------------------------------
Fair value of plan assets, end of year $ 173,853 $ 143,201
================================================================================
Reconciliation of funded status:
Funded (unfunded) status $ (8,925) $ (6,900)
Unrecognized actuarial (gain) loss 10,342 2,322
Unrecognized prior service cost 3,802 2,527
Unrecognized net transition obligation 3,527 3,792
Fourth quarter contributions 416 1,891
- --------------------------------------------------------------------------------
Net amount recognized in
consolidated balance sheet $ 9,162 $ 3,632
================================================================================
Amounts recognized in consolidated balance
sheet consist of:
Prepaid benefit cost $ 17,586 $ 9,853
Accrued benefit liability (8,423) (6,220)
Additional minimum liability (11,399) (5,126)
Intangible asset 7,801 4,784
Accumulated other comprehensive income 3,597 341
- --------------------------------------------------------------------------------
Net amount recognized in consolidated
balance sheet $ 9,162 $ 3,632
================================================================================
33
The projected benefit obligation, accumulated benefit obligation and fair
value of plan assets for pension plans with accumulated benefit obligations in
excess of plan assets were $47.3 million, $45.3 million and $31.7 million,
respectively, as of April 30, 2002 and $20.9 million, $17.1 million and $5.8
million, respectively, as of April 30, 2001.
- --------------------------------------------------------------------------------
Weighted average actuarial
assumptions APRIL 30, 2002 April 30, 2001 July 31, 2000
- --------------------------------------------------------------------------------
All U.S. plans:
Discount rate 7.25% 7.50% 8.00%
Expected return on plan assets 8.50% 9.00% 9.00%
Rate of compensation increase 5.00% 5.50% 6.00%
- --------------------------------------------------------------------------------
Non-U.S. plans:
Discount rate 4.59% 2.50% N/A
Expected return on plan assets 6.63% 4.00% N/A
Rate of compensation increase 3.39% 2.00% N/A
- --------------------------------------------------------------------------------
The expected return on plan assets is used in the development of the net
periodic benefit cost for the fiscal year ending in the year shown.
Pension expense related to international plans was $4.1 million, $4.3 million
and $2.5 million for 2002, 2001 and 2000, respectively.
401(k) SAVINGS PLAN The company provides a contributory employee savings plan to
domestic employees which permits participants to make contributions by salary
reduction pursuant to section 401(k) of the Internal Revenue Code. The company's
contributions under this plan are based on the level of employee contributions
including a discretionary contribution based on performance of the company.
Total contribution expense was $6.8 million, $4.1 million and $4.2 million for
the years ended July 31, 2002, 2001 and 2000, respectively.
> NOTE F
Shareholders' Equity
STOCK RIGHTS On January 12, 1996, the Board of Directors of the company approved
the extension of the benefits afforded by the company's existing rights plan by
adopting a new shareholder rights plan. Pursuant to the new Rights Agreement,
dated as of January 12, 1996, by and between the company and Wells Fargo Bank
Minnesota, N.A., as Rights Agent, one right was issued on March 4, 1996 for each
outstanding share of common stock of the company upon the expiration of the
company's existing rights. Each of the new rights entitles the registered holder
to purchase from the company one one-thousandth of a share of Series A Junior
Participating Preferred Stock, without par value, at a price of $130.00 per one
one-thousandth of a share. The rights, however, will not become exercisable
unless and until, among other things, any person acquires 15 percent or more of
the outstanding common stock of the company. If a person acquires 15 percent or
more of the outstanding common stock of the company (subject to certain
conditions and exceptions more fully described in the Rights Agreement), each
right will entitle the holder (other than the person who acquired 15 percent or
more of the outstanding common stock) to purchase common stock of the company
having a market value equal to twice the exercise price of a right. The rights
are redeemable under certain circumstances at $.01 per right and will expire,
unless earlier redeemed, on March 3, 2006.
EMPLOYEE INCENTIVE PLANS In November 2001, shareholders approved the 2001 Master
Stock Incentive Plan (the "Plan") which replaced the 1991 Plan that expired on
December 31, 2001 and provided for similar awards. The Plan extends through
December 2011 and allows for the granting of nonqualified stock options,
incentive stock options, restricted stock, stock appreciation rights (SARs),
dividend equivalents, dollar-denominated awards and other stock-based awards.
The Plan allows for the granting of performance awards to a limited number of
key executives. The awards are payable in common stock and are based on a
formula which measures performance of the company over a three-year period.
Performance award expense under the 1991 Plan totaled $2.6 million, $2.4 million
and $1.7 million in 2002, 2001 and 2000, respectively. Options under the Plan
are granted to key employees at or above market price at the date of grant.
Options are exercisable for up to 10 years from the date of grant.
STOCK OPTIONS Stock options issued after fiscal 1998 become exercisable for
non-executives in each of the following three years, in an equal number of
shares each year and become exercisable for executives immediately upon the date
of grant. Stock options issued during fiscal 1997 and 1998 become exercisable in
each of the following three years, in an equal number of shares each year, for
both executives and non-executives. Stock options issued prior to fiscal l997
for non-executives and during fiscal 1996 for executives become exercisable in a
four-year period in an equal number of shares each year. Prior to fiscal 1996,
stock options vested immediately for executives.
In fiscal 1997, the company adopted the disclosure-only provisions of SFAS
No. 123, "Accounting for Stock-Based Compensation." SFAS No. 123 encourages
entities to adopt a fair value-based method of accounting for
34
employee stock compensation plans, but allows companies to continue to account
for those plans using the accounting prescribed by APB Opinion 25, "Accounting
for Stock Issued to Employees." The company has elected to continue to account
for stock-based compensation using APB 25, making pro forma disclosures of net
earnings and earnings per share as if the fair value-based method had been
applied. Accordingly, no compensation expense has been recorded for the stock
option plan. Had compensation expense for the stock option plan been determined
under SFAS No. 123 in fiscal 2002, 2001 and 2000, the company's net income and
diluted earnings per share would have been approximately $83.0 million and
$1.82, $71.0 million and $1.56, and $67.7 million and $1.45, respectively.
For purposes of computing compensation cost of stock options granted, the
fair value of each stock option grant was estimated on the date of grant using
the Black-Scholes option pricing model with the following weighted average
assumptions: risk free interest rate of 2.85 percent, 4.72 percent and 6.5
percent in 2002, 2001 and 2000, respectively; two, three, six, or seven year
lives in 2002, and two or seven year lives in 2001 and 2000; expected volatility
of 30.9 percent, 30.5 percent and 29.7 percent in 2002, 2001 and 2000,
respectively; and 1.0 percent expected dividend yield in 2002, 2001 and 2000.
Black-Scholes is a widely accepted stock option pricing model; however, the
ultimate value of stock options granted will be determined by the actual lives
of options granted and the actual future price levels of the company's common
stock.
The weighted average fair value for options granted during fiscal 2002, 2001
and 2000 is $9.56, $8.01 and $7.49 per share, respectively.
The number and option price of options granted were as follows:
- --------------------------------------------------------------------------------
Weighted
Options Average
Outstanding Exercise Price
- --------------------------------------------------------------------------------
Outstanding at July 31, 1999 3,382,322 $ 14.50
Granted 489,086 23.01
Exercised (204,004) 10.09
Canceled (14,468) 20.41
- --------------------------------------------------------------------------------
Outstanding at July 31, 2000 3,652,936 15.86
Granted 862,515 26.04
Exercised (1,025,995) 12.88
Canceled (25,297) 21.19
- --------------------------------------------------------------------------------
Outstanding at July 31, 2001 3,464,159 19.24
Granted 633,968 36.12
Exercised (603,551) 15.11
Canceled (23,661) 26.60
- --------------------------------------------------------------------------------
Outstanding at July 31, 2002 3,470,915 $ 22.99
================================================================================
At July 31, 2002, 2001 and 2000, there were 2,955,018, 2,954,542 and
3,109,926 options exercisable, respectively. Shares reserved at July 31, 2002
for outstanding options and future grants were 4,235,652. Shares reserved
consist of shares available for grant plus all outstanding options. An amount is
added to shares reserved each year based on criteria set in the plan.
The following table summarizes information concerning currently outstanding
and exercisable options:
- --------------------------------------------------------------------------------
Weighted
Average Weighted Weighted
Range of Remaining Average Average
Exercise Number Contractual Exercise Number Exercise
Prices Outstanding Life (Years) Price Exercisable Price
- --------------------------------------------------------------------------------
$5 to $15 713,622 1.82 $11.98 713,622 $11.98
$15 to $25 1,471,224 5.87 21.05 1,392,809 20.94
$25 to $35 695,169 7.34 26.81 516,887 27.11
$35 and above 590,900 8.99 36.60 331,700 36.77
- --------------------------------------------------------------------------------
3,470,915 5.86 $22.99 2,955,018 $21.63
================================================================================
> NOTE G
Income Taxes
The components of earnings before income taxes are as follows:
- --------------------------------------------------------------------------------
(Thousands of dollars) 2002 2001 2000
- --------------------------------------------------------------------------------
Earnings before income taxes:
United States $ 62,294 $ 48,705 $ 54,913
Foreign 56,724 56,223 45,420
- --------------------------------------------------------------------------------
Total $ 119,018 $ 104,928 $ 100,333
================================================================================
The components of the provision for income taxes are as follows:
- --------------------------------------------------------------------------------
(Thousands of dollars) 2002 2001 2000
- --------------------------------------------------------------------------------
Income taxes:
Current:
Federal $ 21,146 $ 8,502 $ 18,192
State 1,900 622 2,361
Foreign 14,355 13,163 9,996
---------------------------------------
37,401 22,287 30,549
Deferred:
Federal (5,033) 7,304 52
State (287) 417 3
Foreign 54 (628) (504)
---------------------------------------
(5,266) 7,093 (449)
- --------------------------------------------------------------------------------
Total $ 32,135 $ 29,380 $ 30,100
================================================================================
35
The tax effects of temporary differences that give rise to deferred tax
assets and liabilities are as follows:
- --------------------------------------------------------------------------------
(Thousands of dollars) 2002 2001 2000
- --------------------------------------------------------------------------------
Deferred tax assets:
Compensation and
retirement plans $ 9,226 $ 3,619 $ 12,839
Accrued expenses 7,658 6,938 7,818
NOL carryforwards 6,346 6,092 8,174
Inventories 1,967 1,938 1,526
Investment in joint venture 777 636 754
Cumulative translation
adjustment -- -- 4,574
Other 6,094 3,215 3,162
- --------------------------------------------------------------------------------
Gross deferred tax assets 32,068 22,438 38,847
Valuation allowance (2,158) (2,054) (4,499)
- --------------------------------------------------------------------------------
Net deferred tax assets 29,910 20,384 34,348
Deferred tax liabilities:
Depreciation and amortization (15,698) (16,209) (14,626)
Other (9,171) (618) (903)
- --------------------------------------------------------------------------------
Gross deferred tax liabilities (24,869) (16,827) (15,529)
- --------------------------------------------------------------------------------
Net deferred tax assets $ 5,041 $ 3,557 $ 18,819
================================================================================
The following table reconciles the U.S. statutory income tax rate with the
effective income tax rate:
- --------------------------------------------------------------------------------
2002 2001 2000
- --------------------------------------------------------------------------------
Statutory U.S. federal rate 35.0% 35.0% 35.0%
State income taxes 1.0 0.4 1.5
Foreign taxes at lower rates (4.6) (8.2) (6.1)
Other (4.4) 0.8 (0.4)
- --------------------------------------------------------------------------------
27.0% 28.0% 30.0%
================================================================================
U.S. income taxes have not been provided on approx imately $187.0 million of
undistributed earnings of non-U.S. subsidiaries. The company plans to reinvest
these undistributed earnings. If any portion were to be distributed, the
related U.S. tax liability may be reduced by foreign income taxes paid on those
earnings plus any available foreign tax credit carryovers. Determination of the
unrecognized deferred tax liability related to these undistributed earnings is
not practicable.
While non-U.S. operations have been profitable overall, cumulative tax losses
of $20.0 million are carried as net operating losses in certain international
subsidiaries. These losses can be carried forward to offset future taxable
income. The majority of such carryforwards expire after 2003. Due to the
uncertainty of being able to realize certain of these losses, a valuation
allowance of $2.1 million has been recorded at July 31, 2002.
The company made cash payments for income taxes of $23.7 million, $16.2
million and $24.6 million in 2002, 2001 and 2000, respectively.
> NOTE H
Segment Reporting
Consistent with SFAS No. 131, "Disclosures about Segments of an Enterprise and
Related Information," the company has identified two reportable segments: Engine
Products and Industrial Products. Segment selection was based on the internal
organizational structure, management of operations and performance evaluation by
management and the company's Board of Directors.
The Engine Products segment sells to original equipment manufacturers (OEMs)
in the construction, industrial, mining, agriculture and transportation markets
and to independent distributors, OEM dealer networks, private label accounts and
large private fleets. Products include air intake systems, exhaust systems,
liquid filtration systems and replacement filters.
The Industrial Products segment sells to various industrial end-users, OEMs
of gas-fired turbines, OEMs and end-users requiring highly purified air.
Products include dust, fume and mist collectors, compressed air purification
systems, static and pulse-clean air filter systems and specialized air
filtration systems for diverse applications including computer disk drives.
Corporate and Unallocated include corporate expenses determined to be
non-allocable to the segments, interest income and expense, non-operating income
and expense, and expenses not allocated to the business segments in the same
period. Assets included in Corporate and Unallocated principally are cash and
cash equivalents, inventory reserves, certain prepaids, certain investments,
other assets and assets allocated to intercompany transactions.
The company has developed an internal measurement system to evaluate
performance and allocate resources based on profit or loss from operations
before income taxes. The company's manufacturing facilities serve both reporting
segments. Therefore, the company uses a complex allocation methodology to assign
costs and assets to the segments. A certain amount of costs and assets is
assigned to intercompany activity and is not assigned to either segment. Certain
accounting policies applied to the reportable segments differ from those
described in the summary of significant accounting policies. The reportable
segments account for receivables on a gross basis and account for inventory on a
standard cost basis.
Segment allocated assets are primarily accounts receivable, inventories,
property, plant and equipment and goodwill. Reconciling items included in
Corporate and Unallocated are created based on accounting differences between
segment reporting and the consolidated, external reporting as well as internal
allocation methodologies.
36
Segment detail is summarized as follows (in thousands):
- --------------------------------------------------------------------------------
Engine Industrial Corporate & Total
Products Products Unallocated Company
- --------------------------------------------------------------------------------
2002
Net sales $ 611,647 $ 514,358 $ -- $1,126,005
Depreciation and
amortization 16,095 9,427 6,229 31,751
Equity earnings in
unconsolidated
affiliates 4,160 -- -- 4,160
Earnings before
income taxes 69,894 73,047 (23,923) 119,018
Assets 324,952 381,467 143,712 850,131
Equity investments in
unconsolidated
affiliates 14,033 -- -- 14,033
Capital expenditures,
net of acquired
businesses 20,544 12,033 7,952 40,529
================================================================================
2001
Net sales $ 606,810 $ 530,205 $ -- $1,137,015
Depreciation and
amortization 23,100 11,268 4,209 38,577
Equity earnings in
unconsolidated
affiliates 3,017 -- -- 3,017
Earnings before
income taxes 49,539 72,891 (17,502) 104,928
Assets 315,706 228,505 162,619 706,830
Equity investments in
unconsolidated
affiliates 14,115 -- -- 14,115
Capital expenditures,
net of acquired
businesses 23,308 11,370 4,246 38,924
================================================================================
2000
Net sales $ 673,982 $ 418,312 $ -- $1,092,294
Depreciation and
amortization 20,959 8,509 4,858 34,326
Equity earnings in
unconsolidated
affiliates 4,392 -- -- 4,392
Earnings before
income taxes 57,453 53,862 (10,982) 100,333
Assets 320,805 172,837 183,883 677,525
Equity investments in
unconsolidated
affiliates 13,600 -- -- 13,600
Capital expenditures,
net of acquired
businesses 22,236 9,028 5,153 36,417
================================================================================
Following are net sales by product within the Engine Products segment and
Industrial Products segment:
- --------------------------------------------------------------------------------
(In thousands) 2002 2001 2000
- --------------------------------------------------------------------------------
Engine Products segment:
Off-road products $ 185,607 $ 181,795 $ 193,229
Transportation products 91,244 79,670 151,950
Aftermarket products 334,796 345,345 328,803
- --------------------------------------------------------------------------------
Total Engine Products
segment 611,647 606,810 673,982
- --------------------------------------------------------------------------------
Industrial Products segment:
Industrial air filtration products 175,663 217,343 193,119
Gas turbine products 230,897 195,042 117,038
Special application products 107,798 117,820 108,155
- --------------------------------------------------------------------------------
Total Industrial Products
segment 514,358 530,205 418,312
- --------------------------------------------------------------------------------
Total company $1,126,005 $1,137,015 $1,092,294
================================================================================
Geographic sales by origination and property, plant and equipment (in
thousands):
- --------------------------------------------------------------------------------
Property, Plant &
Net Sales Equipment - Net
- --------------------------------------------------------------------------------
2002
United States $ 687,889 $ 139,975
Europe 225,669 40,013
Asia-Pacific 184,269 21,652
Other 28,178 39,273
- --------------------------------------------------------------------------------
Total $1,126,005 $ 240,913
================================================================================
2001
United States $ 711,268 $ 138,631
Europe 211,397 36,801
Asia-Pacific 185,395 19,609
Other 28,955 12,617
- --------------------------------------------------------------------------------
Total $1,137,015 $ 207,658
================================================================================
2000
United States $ 688,899 $ 135,480
Europe 206,429 37,698
Asia-Pacific 166,221 22,304
Other 30,745 9,063
- --------------------------------------------------------------------------------
Total $1,092,294 $ 204,545
================================================================================
Sales to one customer accounted for 13 percent and 12 percent of net sales in
2002 and 2001, respectively. There were no sales over 10 percent of net sales to
any customer in 2000. One customer accounted for 18 percent and 21 percent of
gross accounts receivable in 2002 and 2001, respectively.
37
> NOTE I
Quarterly Financial Information (Unaudited)
- --------------------------------------------------------------------------------
(Thousands of dollars, First Second Third Fourth
except per share amounts) Quarter Quarter Quarter Quarter
- --------------------------------------------------------------------------------
2002
Net sales $288,429 $264,281 $269,423 $303,872
Gross margin 88,318 81,274 84,976 94,924
Net earnings 19,724 20,760 21,474 24,925
Diluted earnings
per share .43 .45 .47 .55
Dividends declared
per share .075 .080 .080 .085
================================================================================
2001
Net sales $289,869 $279,631 $269,721 $297,794
Gross margin 85,956 86,316 79,180 90,282
Net earnings 16,804 18,105 17,826 22,813
Diluted earnings
per share .37 .40 .39 .50
Dividends declared
per share .075 .075 .075 .075
================================================================================
> NOTE J
Commitments and Contingencies
The company is involved in litigation arising in the ordinary course of
business. In the opinion of management, the out come of litigation currently
pending will not materially affect the company's results of operations,
financial condition or liquidity.
SIX-YEAR QUARTERLY HIGH-LOW PRICES (Unaudited)
[BAR CHART]
High 14.63 17.00 18.31 20.38 27.19 25.69 26.19 25.13 21.94 21.00 23.50 25.88
Low 12.69 14.31 15.38 17.75 20.31 22.25 22.63 18.56 14.44 17.69 17.25 21.94
-------------------------- -------------------------- --------------------------
1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q
1997 1998 1999
High 23.50 24.81 24.06 24.25 23.86 29.48 28.92 33.05 32.80 40.35 44.99 43.12
Low 19.50 20.63 20.25 19.13 19.13 21.62 24.39 27.30 26.93 32.35 34.10 30.03
-------------------------- -------------------------- --------------------------
1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q
2000 2001 2002
38
REPORT OF INDEPENDENT ACCOUNTANTS
To the Shareholders and Board of Directors
of Donaldson Company, Inc.
In our opinion, the accompanying consolidated balance sheet and the related
consolidated statements of earnings, changes in shareholders' equity and cash
flows present fairly, in all material respects, the consolidated financial
position of Donaldson Company Inc. as of July 31, 2002, and the consolidated
results of its operations and its cash flow for the period ended July 31, 2002,
in conformity with accounting principles generally accepted in the United States
of America. These financial statements are the responsibility of Donaldson
Company Inc.'s management; our responsibility is to express an opinion on these
financial statements based on our audit. We conducted our audit of these
statements in accordance with auditing standards generally accepted in the
United States of America, which require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audit provides a reasonable basis for our opinion. The financial statements of
Donaldson Company Inc. as of July 31, 2001, and for the two years in the period
then ended, were audited by other independent accountants who have ceased
operations. Those independent accountants expressed an unqualified opinion on
those financial statements in their report dated August 27, 2001.
/s/ PricewaterhouseCoopers LLP
PricewaterhouseCoopers LLP
August 21, 2002
THE FOLLOWING REPORT IS A COPY OF A REPORT PREVIOUSLY ISSUED BY ARTHUR ANDERSEN
LLP. THIS REPORT RELATES TO PRIOR YEARS' FINANCIAL STATEMENTS. THIS REPORT HAS
NOT BEEN REISSUED BY ARTHUR ANDERSEN LLP.
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholders and Board of Directors
of Donaldson Company, Inc.
We have audited the accompanying consolidated balance sheets of Donaldson
Company, Inc. (a Delaware corporation) and subsidiaries as of July 31, 2001 and
2000, and the related consolidated statements of earnings, changes in
shareholders' equity and cash flows for the years then ended. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits. The consolidated financial statements of Donaldson Company, Inc. and
subsidiaries as of July 31, 1999, were audited by other auditors whose report
dated September 8, 1999, expressed an unqualified opinion on those statements.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain rea sonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Donaldson Company, Inc. and
subsidiaries as of July 31, 2001 and 2000, and the results of their operations
and their cash flows for the years then ended, in conformity with accounting
principles generally accepted in the United States.
/s/ Arthur Andersen LLP
Minneapolis, Minnesota,
August 27, 2001
39
CORPORATE AND SHAREHOLDER INFORMATION
NYSE LISTING
The common shares of Donaldson Company, Inc. are traded on the
New York Stock Exchange, under
the symbol DCI.
SHAREHOLDER INFORMATION
For any concerns relating to your current or prospective shareholdings, please
contact Shareowner Services at (800)468-9716 or (651)450-4064.
ANNUAL MEETING
The annual meeting of shareholders will be held at 10 a.m. on Friday, November
15, 2002, at Donaldson Company, Inc., 1400 West 94th Street, Bloomington,
Minnesota. You are welcome to attend.
10-K REPORTS
Copies of the Report 10-K, filed with the Securities and Exchange Commission,
are available on request from Shareholder Services, Donaldson Company, Inc.,
M.S. 101, P.O. Box 1299, Minneapolis, MN 55440.
AUDITORS
PricewaterhouseCoopers LLP
Minneapolis, Minnesota
PUBLIC RELATIONS COUNSEL
Padilla Speer Beardsley Inc.
Minneapolis, Minnesota
TRANSFER AGENT AND REGISTRAR
Wells Fargo Bank Minnesota, N.A.
South St. Paul, Minnesota
DIVIDEND REINVESTMENT PLAN
As of September 20, 2002, 1,130 of Donaldson Company's approximately 1,871
shareholders of record were participating in the Dividend Reinvestment Plan.
Under the plan, shareholders can invest Donaldson Company dividends in
additional shares of company stock. They may also make periodic voluntary cash
investments for the purchase of company stock.
Both alternatives are provided without service charges or brokerage
commissions. Shareholders may obtain a brochure giving further details by
writing Wells Fargo Bank Minnesota, N.A., Shareowner Services, P.O. Box 64854,
St. Paul, MN 55164-0854.
BOARD OF DIRECTORS
F. GUILLAUME BASTIAENS, 59,
Vice Chairman,
Cargill, Inc., Minneapolis (Agribusiness).
DIRECTOR SINCE 1995.(2) (3)
PAUL B. BURKE, 46,
Retired Chairman, President
and Chief Executive Officer,
BMC Industries, Inc., Minneapolis (Manufacturing).
DIRECTOR SINCE 1996.(1) (3)
JANET M. DOLAN, 53,
President and Chief Executive Officer,
Tennant Company, Minneapolis (Manufacturing).
DIRECTOR SINCE 1996.(2) (3)
JACK W. EUGSTER, 57,
Non-Executive Chairman,
ShopKo Stores, Inc., Green Bay, WI
(Specialty Discount Retailer).
DIRECTOR SINCE 1993.(1) (3)
JOHN F. GRUNDHOFER, 63,
Chairman,
U.S. Bancorp, Minneapolis
(Financial Services).
DIRECTOR SINCE 1997.(1) (3)
KENDRICK B. MELROSE, 62,
Chairman and Chief Executive Officer,
The Toro Company, Minneapolis (Manufacturing).
DIRECTOR SINCE 1991.(1) (2)
PAUL DAVID MILLER, 60,
Chairman and Chief Executive Officer,
Alliant Techsystems Inc., Minneapolis
(Defense).
DIRECTOR SINCE 2001.(3)
JEFFREY NODDLE, 56,
Chairman, President and
Chief Executive Officer,
SUPERVALU INC., Minneapolis
(Food Retailer and Distributor).
DIRECTOR SINCE 2000.(1) (2)
S. WALTER RICHEY, 66,
Retired Chairman, President
and Chief Executive Officer,
Meritex, Inc., Minneapolis
(Distribution Services).
DIRECTOR SINCE 1991.(2) (3)
STEPHEN W. SANGER, 56,
Chairman and Chief Executive Officer,
General Mills, Inc., Minneapolis
(Consumer Products).
DIRECTOR SINCE 1992.(1) (2)
WILLIAM G. VAN DYKE, 57,
Chairman, President
and Chief Executive Officer,
Donaldson Company, Inc.
DIRECTOR SINCE 1994.
(1) Human Resources Committee
(2) Audit Committee
(3) Corporate Governance Committee
40
CORPORATE OFFICERS
WILLIAM G. VAN DYKE, 57,
Chairman, President
and Chief Executive Officer.
30 YEARS SERVICE.
WILLIAM M. COOK, 49,
Senior Vice President, International
and Chief Financial Officer.
22 YEARS SERVICE.
JAMES R. GIERTZ, 45,
Senior Vice President,
Commercial and Industrial.
9 YEARS SERVICE.
NICKOLAS PRIADKA, 56,
Senior Vice President,
Engine Systems and Parts.
33 YEARS SERVICE.
LOWELL F. SCHWAB, 54,
Senior Vice President, Operations.
23 YEARS SERVICE.
DALE M. COUCH, 59,
Vice President and General Manager,
Asia Pacific.
5 YEARS SERVICE.
NORMAN C. LINNELL, 43,
Vice President, General Counsel
and Secretary.
7 YEARS SERVICE.
JOHN E. THAMES, 52,
Vice President, Human Resources.
14 YEARS SERVICE.
GEERT HENK TOUW, 57,
Vice President and General Manager,
Europe/Africa/Middle East.
17 YEARS SERVICE.
THOMAS A. WINDFELDT, 53,
Vice President, Controller.
22 YEARS SERVICE.
[PHOTO]
W. Cook J. Giertz L. Schwab W. Van Dyke N. Priadka
[PHOTO]
T. Windfeldt G. Touw D. Couch J. Thames N. Linnell
WORLDWIDE OPERATIONS
WORLD HEADQUARTERS
Donaldson Company, Inc.
1400 West 94th Street
Minneapolis, Minnesota
U.S.A.
U.S. PLANTS
AUBURN, ALABAMA
NORCROSS, GEORGIA
DIXON, ILLINOIS
FRANKFORT, INDIANA
CRESCO, IOWA
GRINNELL, IOWA
NICHOLASVILLE, KENTUCKY
PORT HURON, MICHIGAN
CHILLICOTHE, MISSOURI
STOW, OHIO
PHILADELPHIA, PENNSYLVANIA
GREENEVILLE, TENNESSEE
BALDWIN, WISCONSIN
STEVENS POINT, WISCONSIN
DISTRIBUTION CENTERS
ONTARIO, CALIFORNIA
RENSSELAER, INDIANA
ANTWERP, BELGIUM
SINGAPORE
JOINT VENTURES
Advanced Filtration Systems Inc.
CHAMPAIGN, ILLINOIS
MSCA, LLC
MONTICELLO, INDIANA
PT Panata Jaya Mandiri
JAKARTA, INDONESIA
Rashed Al-Rashed & Sons -
Donaldson Company Limited
DAMMAM, SAUDI ARABIA
SUBSIDIARIES
Donaldson Australasia Pty. Limited
WYONG, AUSTRALIA
Donaldson Sales, Inc.
BARBADOS
Donaldson Coordination Center, B.V.B.A.
LEUVEN, BELGIUM
Donaldson Europe, B.V.B.A.
LEUVEN, BELGIUM
BRUGGE, BELGIUM (PLANT)
Donaldson Czech Republic s.r.o.
PRAGUE, CZECH REPUBLIC
Donaldson Scandinavia APS
HORSHOLM, DENMARK
Donaldson France, S.A.S.
BRON, FRANCE
Tecnov Donaldson, S.A.S.
DOMJEAN, FRANCE
Donaldson Gesellschaft m.b.H.
Torit DCE G.m.b.H
DULMEN, GERMANY
ultrafilter international, AG and
subsidiaries
HAAN, GERMANY
Donaldson India Filter Systems Pvt. Ltd.
NEW DELHI, INDIA
PT Donaldson Systems Indonesia
JAKARTA, INDONESIA
Donaldson Italia s.r.l.
OSTIGLIA, ITALY
Nippon Donaldson Limited
TOKYO, JAPAN
Donaldson Luxembourg S.a.r.l.
LUXEMBOURG
Donaldson, S.A. de C.V.
AGUASCALIENTES, MEXICO
Diemo S.A. de C.V.
GUADALAJARA, MEXICO
Donaldson Filtration Industrial
S. de R.L. de C.V.
MONTERREY, MEXICO
Donaldson Torit, B.V.
Donaldson Nederland B.V.
KROMMENIE, NETHERLANDS
Donaldson Far East Limited
HONG KONG, S.A.R., PEOPLE'S REPUBLIC
OF CHINA
Donaldson (Wuxi) Filters Co., Ltd.
WUXI, PEOPLE'S REPUBLIC OF CHINA
Donaldson Polska Sp. z.o.o.
WARSAW, POLAND
Donaldson Filtration (Asia Pacific) Pte. Ltd.
SINGAPORE
Donaldson Filtration Systems
(Proprietary) Ltd.
CAPE TOWN, SOUTH AFRICA
Donaldson Korea Co., Ltd.
SEOUL, SOUTH KOREA
Donaldson Iberica,
Soluciones en Filtracion, S.L.
BARCELONA, SPAIN
Donaldson Filtros Iberica S.L.
MADRID, SPAIN
Donaldson Schweiz G.m.b.H.
AARAU, SWITZERLAND
Donaldson Filter Components Limited
HULL, UNITED KINGDOM
DCE Donaldson Ltd.
LEICESTER, UNITED KINGDOM
Tetratec Europe Limited
WIGAN, UNITED KINGDOM
Donaldson Capital, Inc.
MINNEAPOLIS, MINNESOTA
[LOGO]
DONALDSON(R)
FILTRATION SOLUTIONS
MAILING ADDRESS:
P.O. Box 1299
Minneapolis, Minnesota
55440 U.S.A
(952) 887-3131
www.donaldson.com