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Donaldson Company Reports Record First Quarter Sales and EPS

29 November, 2004



FROM: FOR:
The Carideo Group Inc.
1250 One Financial Plaza
120 South Sixth Street
Minneapolis, MN 55402

Tony Carideo
(612) 317-2880
tony@carideogroup.com
Donaldson Company, Inc.
P.O. Box 1299
Minneapolis, MN 55440
(NYSE: DCI)

Rich Sheffer
(952) 887-3753
rsheffer@mail.donaldson.com


FOR IMMEDIATE RELEASE

DONALDSON COMPANY REPORTS RECORD FIRST QUARTER SALES AND EPS


EPS up 11 percent to $.31; record $373 million sales;
strong backlogs support outlook for record earnings growth again in fiscal 2005


MINNEAPOLIS, Nov. 29-- Donaldson Company, Inc. (NYSE: DCI) reported record diluted earnings per share of $.31 for the first fiscal quarter ended October 31, 2004, up from $.28 last year. Net income was a record $27.4 million, compared to $25.6 million last year. Sales were a record $372.9 million, up from $328.2 million last year.

"As we projected during our webcast in September, strong business conditions drove our first quarter sales up 14 percent over last year," said Bill Cook, Donaldson's president and chief executive officer. "With our 90-day backlog now up 20 percent and record incoming orders in October, our strong revenue outlook for fiscal 2005 is intact."

"We started this fiscal year with margins in good shape having recovered, through price increases, the majority of last fiscal year's steel price rise. Then in August, we were hit with another significant steel price spike. The time lag between when we experience material cost increases and when we recover them from our customers undercut our first quarter gross margin. We have been altering price lists and negotiating with our major customers over the last several months, and new prices, which fully reflect current commodity costs, will be in place before the end of the second quarter. Absent steel costs, our business is running very well, and as we fix the commodity cost issue, this will become more apparent. We expect second half gross margins to approximate our performance during the last two fiscal years."

Income Statement Discussion

Worldwide sales, excluding the impact of currency translation, increased 10.4 percent during the quarter. The impact of foreign currency translation during the first quarter increased sales by $10.6 million and net earnings by $1.1 million.

U.S. sales increased 11.7 percent from last year. Excluding the impact of currency translation, first quarter sales outside the U.S. increased 9.2 percent, primarily reflecting strong sales growth in Asia.

Gross margin was 31.2 percent for the quarter, compared to 32.5 percent last year. Steel, plastic, packaging and freight costs all increased during the quarter. Additional price recovery from our customers is currently being implemented. Plant rationalization costs totaled $0.7 million in the quarter versus $1.7 million last year. First quarter operating expenses were 21.5 percent of sales, consistent with 21.6 percent last year.

First quarter interest expense was $2.0 million, up from $1.1 million last year. The increase was driven by the additional debt to fund the previously announced overnight share repurchase plan and the termination of two interest rate swaps. Other income was $3.4 million in the quarter, up from $0.4 million last year. The increase was driven by a foreign exchange gain, higher joint venture income and other miscellaneous items. The effective tax rate was 27.0 percent.

Free cash flow -- operating cash flows less capital expenditures -- rebounded to 125 percent of net income, totaling $34.2 million versus $8.9 million last year. The increase was driven by improved working capital utilization.

During the quarter, we repurchased 3,000,000 shares, or 3.5 percent of outstanding shares, for $86.5 million through an overnight share repurchase plan on September 3, 2004.

Backlog

The 90-day backlog was $225 million, up 20 percent relative to last year and up 9 percent compared to last quarter. In Engine Products, the 90-day backlog increased 15 percent over last year. In Industrial Products, the 90-day backlog increased 27 percent. Notably, the worldwide industrial filtration solutions 90-day backlog increased 33 percent.

Total backlog was $409 million, up 20 percent relative to last year. In Engine Products, total backlog increased 27 percent from last year. In Industrial Products, total backlog increased 10 percent from fiscal 2004.

Engine Products Segment

Engine Products sales were a record $217.6 million in the first quarter, an increase of 17 percent from last year. Engine Products sales remain very strong and have posted year-over-year increases for 10 consecutive quarters.

Truck product sales in the first quarter totaled $43.9 million, up 18 percent from last year. North American truck sales increased 28 percent from growing truck build rates and strong diesel emission sales. European truck product sales increased 34 percent on stronger build rates and increased share. Truck product sales in Asia decreased 16 percent as emission sales spiked in Japan last year ahead of new emissions regulations.

Worldwide sales of off-road products in the quarter were $63.3 million, up 20 percent from last year. North American sales increased 14 percent on continued improvements in new construction, agriculture and mining equipment demand. Asian sales increased 36 percent while European sales increased 25 percent in the quarter.

Aftermarket sales in the quarter were $110.4 million, an increase of 14 percent from last year. North American aftermarket sales increased 16 percent as equipment utilization rates continued to improve and sales of diesel emission retrofit equipment ramped up. European sales increased 15 percent and Asian sales were up 3 percent. Evidence of our PowerCore(R) first fit success came in a 45 percent increase in replacement PowerCore filter sales.

Industrial Products Segment

Industrial Products sales in the first quarter were $155.3 million, an increase of 10 percent from $141.5 million last year.

Industrial filtration solutions sales in the first quarter were $99.6 million, an increase of 16 percent from last year. North American sales increased 19 percent as the manufacturing economy remains stronger than a year ago. Sales in Europe were up 8 percent as industrial air filtration sales improved markedly. Asian sales were up 34 percent on continued growth in China and Japan.

Gas turbine product sales in the first quarter were $23.9 million, down 15 percent from last year, mostly from the timing of shipments this year versus last year. The quarter end 90-day backlog was 22 percent ahead of prior year.

Sales of special application products in the first quarter were $31.8 million, an increase of 17 percent from last year. Disk drive filter sales were up 9 percent on continued strong demand for computer hard drives. Membrane sales were up 36 percent on strong sales in both Europe and Asia.

Outlook

Engine Products: Overall, Donaldson expects low-teens sales growth for Engine Products in fiscal 2005.

  • The company expects continued growth in North American heavy-duty truck build rates throughout fiscal 2005. Business conditions remain strong in Europe and Asia.
  • Off-road sales are expected to remain strong in Asia and North America as conditions in construction, agriculture and mining equipment markets are robust.
  • Both North American and international aftermarket sales are expected to continue growing as increasing equipment utilization spurs replacement filter sales. Diesel emission retrofit sales in North America are anticipated to continue increasing as the company's technology solution gains acceptance.

Industrial Products: Donaldson expects improving conditions for its industrial businesses to generate low-teens sales growth in fiscal 2005.

  • Globally, business conditions for gas turbine are expected to be stable. Full-year sales are expected to be unchanged compared to fiscal 2004.
  • Industrial filtration solutions sales are expected to be strong in fiscal 2005. American and European industrial air and compressed air filtration markets are expected to continue improving near-term, as order trends are stronger than last year's levels. Business conditions in Asia remain strong.
  • Special applications products showed continued strength in orders and backlogs for disk drive filters and membranes.

Commenting on the outlook for the remainder of fiscal 2005, Bill Cook said, "Our business trends are very positive as demonstrated by strong backlogs across almost all of our businesses. We expect that increasing commodity prices, especially steel, will be mostly offset by price recovery from our customers and improving manufacturing efficiencies from continued strong volume. While the size and frequency of the commodity price increases we have experienced have created a significant headwind, we have actions underway to deal with this. Our goal remains to deliver another earnings record this year -- our 16th consecutive record."

About Donaldson Company, Inc.

Donaldson Company, Inc., headquartered in Minneapolis, Minn., is a leading worldwide provider of filtration systems and replacement parts. Founded in 1915, Donaldson is a technology-driven company committed to satisfying customer needs for filtration solutions through innovative research and development. Donaldson serves customers in the industrial and engine markets including in-plant air cleaning, compressed air and gas purification, power generation, specialty filtration, off-road equipment and trucks. Our 10,000 employees contribute to the company's success at over 30 manufacturing locations around the world. In fiscal year 2004, Donaldson reported sales of more than $1.4 billion and grew earnings for the 15th consecutive year. Donaldson is a member of the S&P MidCap 400 Index and Donaldson shares are traded on the New York Stock Exchange under the symbol DCI. Additional company information is available at http://www.donaldson.com .

SAFE HARBOR STATEMENT UNDER THE SECURITIES REFORM ACT OF 1995

The company desires to take advantage of the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995 (the "Act") and is making this cautionary statement in connection with such safe harbor legislation. This earnings release, the Annual Report to Shareholders, any Form 10-K, 10-Q or Form 8-K of the company or any other written or oral statements made by or on behalf of the company may include forward-looking statements, forecasts and projections which reflect the company's current views with respect to future events and financial performance but involve uncertainties that could significantly impact results. The words "believe," "expect," "anticipate," "intends," "estimate," "forecast," "outlook," "plan," "promises," "project," "should," "will be" and similar expressions are intended to identify "forward- looking statements" within the meaning of the Act.

The company wishes to caution investors that any forward-looking statements are subject to uncertainties and other risk factors that could cause actual results to differ materially from such statements, including but not limited to risks associated with: currency fluctuations, commodity prices including increases in steel and oil 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 capital spending levels by customers, changes in product demand and changes in the geographic and product mix of sales, cancellations of orders, acquisition opportunities and integration of recent acquisitions, 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, see the company's 2004 Form 10-K filed with the Securities and Exchange Commission. The company wishes to caution investors that 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.

                CONDENSED STATEMENTS OF CONSOLIDATED EARNINGS
                   DONALDSON COMPANY, INC. AND SUBSIDIARIES
          (Thousands of dollars, except share and per share amounts)
                                 (Unaudited)
                                                        Three Months Ended
                                                           October 31
                                                       2004           2003
    Net sales                                       $372,906       $328,220
    Cost of sales                                    256,477        221,643
    Gross margin                                     116,429        106,577
    Operating expenses                                80,298         70,884
    Operating income                                  36,131         35,693
    Other income, net                                 (3,419)          (387)
    Interest expense                                   2,024          1,072
    Earnings before income taxes                      37,526         35,008
    Income taxes                                      10,132          9,452
    Net earnings                                     $27,394        $25,556
    Weighted average shares outstanding           85,721,197     86,754,154
    Diluted shares outstanding                    88,038,004     90,606,700
    Net earnings per share                              $.32           $.29
    Net earnings per share assuming dilution            $.31           $.28
    Dividends paid per share                           $.055          $.048
DONALDSON COMPANY, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (Thousands of dollars) (Unaudited) October 31 July 31 2004 2004 ASSETS Cash and cash equivalents $118,741 $99,504 Accounts receivable - net 279,531 274,120 Inventories - net 153,680 143,418 Prepaid expenses and other current assets 37,335 40,338 Total current assets 589,287 557,380 Other assets and deferred taxes 186,058 182,700 Property, plant and equipment - net 266,167 261,529 Total assets $1,041,512 $1,001,609 LIABILITIES AND SHAREHOLDERS' EQUITY Trade accounts payable $127,061 $124,401 Employee compensation and other liabilities 86,779 87,385 Notes payable 92,699 19,736 Income taxes payable 19,424 9,656 Current maturity long-term debt 34,960 34,346 Total current liabilities 360,923 275,524 Long-term debt 70,196 70,856 Other long-term liabilities 106,013 105,936 Total liabilities 537,132 452,316 Equity 504,380 549,293 Total liabilities and equity $1,041,512 $1,001,609
DONALDSON COMPANY, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Thousands of dollars) (Unaudited) Three Months Ended October 31 2004 2003 OPERATING ACTIVITIES Net earnings $27,394 $25,556 Adjustments to reconcile net earnings to net cash provided by operating activities: Depreciation and amortization 11,041 10,974 Changes in operating assets and liabilities 4,634 (17,490) Other, net (1,770) 3,411 Net cash provided by operating activities 41,299 22,451 INVESTING ACTIVITIES Net expenditures on property and equipment (7,050) (13,516) Acquisitions and investments in unconsolidated affiliates, net of cash acquired --- (4,397) Net cash used in investing activities (7,050) (17,913) FINANCING ACTIVITIES Purchase of treasury stock (86,542) (5,697) Net change in debt 72,528 12,291 Dividends paid (4,746) (4,128) Other, net 145 1,622 Net cash used in financing activities (18,615) 4,088 Effect of exchange rate changes on cash 3,603 3,302 Increase in cash and cash equivalents 19,237 11,928 Cash and cash equivalents - beginning of year 99,504 67,070 Cash and cash equivalents - end of period $118,741 $78,998 SEGMENT DETAIL (Thousands of dollars) (Unaudited) Engine Industrial Corporate & Total Products Products Unallocated Company 3 Months Ended October 31, 2004: Net sales $217,585 $155,321 --- $372,906 Earnings before income taxes 30,873 12,694 (6,041) 37,526 3 Months Ended October 31, 2003: Net sales $186,739 $141,481 --- $328,220 Earnings before income taxes 27,931 10,361 (3,284) 35,008
NET SALES BY PRODUCT (Thousands of dollars) (Unaudited) Three Months Ended October 31 2004 2003 Engine Products segment: Off-road products $63,272 $52,816 Transportation products 43,906 37,288 Aftermarket products 110,407 96,635 Total Engine Products segment $217,585 $186,739 Industrial Products segment: Industrial filtration solutions products $99,630 $86,153 Gas turbine products 23,876 28,236 Special applications products 31,815 27,092 Total Industrial Products segment $155,321 $141,481 Total Company $372,906 $328,220
RECONCILIATION OF NON-GAAP FINANCIAL MEASURES (Thousands of dollars) (Unaudited) Three Months Ended October 31 2004 2003 Free cash flow $34,249 $8,935 Net capital expenditures 7,050 13,516 Net cash provided by operating activities $41,299 $22,451 EBITDA $50,172 $46,827 Income taxes (10,132) (9,452) Interest expense (net) (1,605) (845) Depreciation and amortization (11,041) (10,974) Net earnings $27,394 $25,556 Net sales, excluding foreign currency translation $362,349 $309,605 Foreign currency translation 10,557 18,615 Net sales $372,906 $328,220 Net earnings, excluding foreign currency translation $26,305 $23,931 Foreign currency translation 1,089 1,625 Net earnings $27,394 $25,556

Although free cash flow, EBITDA, net sales excluding foreign currency translation and net earnings excluding foreign currency translation are not measures of financial performance under GAAP, the company believes they are useful in understanding its financial results. Free cash flow is a commonly used measure of a company's ability to generate cash in excess of its operating needs. EBITDA is a commonly used measure of operating earnings less non-cash expenses. Both net sales and net earnings excluding foreign currency translation provide a comparable measure for understanding the operating results of the company's foreign entities excluding the impact of foreign exchange. A shortcoming of these financial measures is that they do not reflect the company's actual results under GAAP. Management does not intend these items to be considered in isolation or as a substitute for the related GAAP measures.
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