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Donaldson Company Reports Record Second Quarter Results

23 February, 2005
FOR IMMEDIATE RELEASE:                   
Wednesday, February 23, 2005

FOR FURTHER INFORMATION:
Rich Sheffer (952) 887-3753


MINNEAPOLIS, Feb. 23-- Donaldson Company, Inc. (NYSE: DCI) today announced record second quarter diluted earnings per share ("EPS") of $.31, up from $.28 last year. Net income was a record $26.7 million, versus $25.0 million last year. Sales were a record $388.4 million, up from $332.2 million in fiscal 2004.

For the six-month period, diluted EPS was another record at $.62, up from $.56 last year. Net income was a record $54.1 million, versus $50.6 million last year. Sales were a record $761.3 million, up from $660.4 million in the prior year.

"We are pleased to report another good quarter as we posted new records in sales, net earnings and earnings per share," said Bill Cook, Donaldson's President and Chief Executive Officer. "We faced several major challenges during our second quarter including the recovery of the steel price increases we talked about in our first quarter webcast and several large lower-margin jobs in our gas turbine business. In addition, we also had the tough comparison with last year's second quarter as it included the $3.2 million unusual gain from the sale of land in Japan, net of related plant rationalization costs. Excluding this unusual gain, we started to see operating leverage improvement year over year. Looking forward, our business remains strong, and we are confident of a strong finish to the year."

Income Statement Discussion

When compared to 2004, stronger foreign currencies contributed to the increase in second quarter and year-to-date sales. Translated at constant exchange rates, sales increased 13.5 percent during the quarter and 12.0 percent year-to-date. In addition, the impact of foreign currency translation increased net earnings by $0.3 million in the second quarter and $1.4 million year-to-date.

Gross margin of 31.2 percent for both the second quarter and year-to-date compares to prior year margins of 31.1 percent and 31.8 percent, respectively. Second quarter domestic steel costs were stable but remain significantly higher than last year. Steel price recovery increases with our customers are substantially in place. Second quarter plant rationalization and start-up costs totaled $1.4 million versus $3.8 million last year. Year-to-date plant rationalization and start-up costs totaled $2.1 million versus $5.5 million in fiscal 2004. Second quarter operating expenses were 21.7 percent of sales, down from 22.4 percent in the prior year. Year-to-date operating expenses were 21.6 percent of sales, down from 22.0 percent last year.

Second quarter interest expense was $2.2 million, up from $1.3 million last year. The increase was driven primarily by the additional debt to fund the overnight share repurchase plan and higher short-term interest rates. Year-to-date interest expense was $4.3 million, up from $2.4 million last year. Other income was $1.9 million in the quarter, up from $1.0 million last year. The increase was driven by foreign exchange gains and higher interest income. Year-to-date other income was $5.3 million, up from $1.4 million last year. The effective tax rate was 27.0 percent.

No shares were repurchased during the quarter. Year-to-date, we have repurchased 3,000,000 shares, or 3.5 percent of outstanding shares, for $86.5 million through the previously announced overnight share repurchase plan in September.

Backlog

While incoming orders remained robust in the quarter, the year-over-year growth rate of our backlogs has moderated as order activity started to ramp up significantly in the second quarter last year. Our 90-day backlog was $236 million, up 2 percent relative to last year and up 5 percent compared to last quarter. In Engine Products, the 90-day backlog increased 1 percent over last year. In Industrial Products, the 90-day backlog increased 2 percent.

Total backlog is strong, setting a new record at $417 million, up 11 percent relative to last year. In Engine Products, total backlog increased 15 percent from prior year. In Industrial Products, total backlog increased 5 percent from fiscal 2004.

Engine Products Segment

Engine Products sales were a record $219.4 million in the quarter, an increase of 19 percent from last year. Year-to-date Engine Products sales were a record $437.0 million, an increase of 18 percent from last year.

Truck product sales in the quarter totaled $40.4 million, up 6 percent from last year. North American truck sales increased 40 percent from growing new truck build rates and strong diesel emission sales. European truck product sales increased 24 percent on stronger build rates and increased share. Truck product sales in Asia decreased 53 percent as emission sales spiked in Japan last year ahead of new emissions regulations. Year-to-date worldwide sales totaled $84.3 million, an increase of 12 percent from last year.

Worldwide sales of off-road products in the quarter were $69.3 million, up 22 percent from last year. North American sales increased 15 percent on continued improvements in new construction, agriculture and mining equipment demand. European off-road sales increased 39 percent while Asian sales increased 15 percent. Year-to-date worldwide sales totaled $132.5 million, up 21 percent from last year.

Engine aftermarket sales in the quarter were $109.8 million, an increase of 23 percent from last year. North American aftermarket sales increased 20 percent as equipment utilization rates continued to improve and sales of diesel emission retrofit equipment ramped up. European sales increased 22 percent and Asian sales were up 31 percent. Continued evidence of our PowerCore(R) filtration first fit success came in a doubling of replacement PowerCore filter sales. Year-to-date worldwide aftermarket sales were $220.2 million, up 18 percent from last year.

Industrial Products Segment

Industrial Products sales in the quarter were a record $169.0 million, an increase of 14 percent from last year. Year-to-date Industrial Products sales were a record $324.3 million, an increase of 12 percent from last year.

Industrial Filtration Solutions ("IFS") sales in the quarter were a record $105.8 million, an increase of 19 percent from last year. IFS sales were strong around the world with North American, European and Asian sales increasing 20, 17 and 24 percent, respectively. Year-to-date worldwide IFS sales totaled a record $205.4 million, up 17 percent from last year.

Gas turbine product sales in the quarter were $29.8 million, up 3 percent from last year. Year-to-date worldwide sales totaled $53.6 million, down 6 percent from last year. Our gas turbine total backlog was up 14 percent compared to last year, consistent with our forecast of stronger second-half sales.

Sales of special application products in the quarter were a record $33.4 million, an increase of 13 percent from last year. Year-to-date worldwide special application sales were a record $65.3 million, up 15 percent from last year.

Outlook

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

  • We expect North American heavy-duty new truck build rates to remain at their current high levels throughout the remainder of fiscal 2005 as truck manufacturers are near capacity. Business conditions also remain strong in Europe and Asia.
  • Off-road sales are expected to remain strong worldwide as conditions in the production of new construction, agriculture and mining equipment 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.

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

  • Globally, we expect full-year gas turbine sales to match last year's total. Backlogs indicate second-half shipments will be stronger than first-half shipments, supporting this outlook.
  • IFS sales are expected to remain strong throughout the second half of fiscal 2005. American and European industrial air and compressed air filtration markets continue to improve, as our order trends are stronger than last year's levels. Business conditions in Asia remain strong.
  • Market conditions for special applications products continue to be stronger than last year.

Commenting on the outlook for the remainder of fiscal 2005, Bill Cook said, "With our efforts to recover the recent steel price increases substantially completed, we are positioned to leverage our forecasted increased sales volumes in the second half into increasing profits and margins. Our goal remains to deliver another earnings record this year -- our 16th consecutive record."

About Donaldson Company, Inc.

Donaldson Company, Inc. 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, disk drive filtration, off-road equipment and trucks. Our 10,000 employees contribute to the company's success at over 30 manufacturing locations around the world. 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       Six Months Ended
                                January 31                January 31
                            2005         2004         2005         2004
    Net sales             $388,424     $332,210     $761,330     $660,430

    Cost of sales          267,168      228,774      523,645      450,417

    Gross margin           121,256      103,436      237,685      210,013

    Operating expenses      84,285       74,509      164,583      145,393

    Gain on sale of Ome
     land and building           -       (5,616)           -       (5,616)

    Operating income        36,971       34,543       73,102       70,236

    Other income, net       (1,866)      (1,025)      (5,285)      (1,412)

    Interest expense         2,240        1,322        4,264        2,394


    Earnings before income
     taxes                  36,597       34,246       74,123       69,254

    Income taxes             9,881        9,247       20,013       18,699

    Net earnings           $26,716      $24,999      $54,110      $50,555

    Weighted average
     shares outstanding 84,907,607   88,136,916   85,314,400   88,122,226

    Diluted shares
     outstanding        87,269,110   90,672,890   87,613,582   90,550,828

    Net earnings per share    $.31         $.28         $.63         $.57

    Net earnings per share
     assuming dilution        $.31         $.28         $.62         $.56

    Dividends paid per share $.060        $.047        $.115        $.095


                   DONALDSON COMPANY, INC. AND SUBSIDIARIES
                    CONDENSED CONSOLIDATED BALANCE SHEETS
                            (Thousands of dollars)
                                 (Unaudited)

                                                   January 31       July 31
                                                      2005            2004
    ASSETS

    Cash and cash equivalents                       $129,277        $99,504
    Accounts receivable - net                        288,699        274,120
    Inventories - net                                160,954        143,418
    Prepaid expenses and other current assets         41,595         40,338
      Total current assets                           620,525        557,380

    Other assets and deferred taxes                  190,604        182,700
    Property, plant and equipment - net              275,245        261,529
      Total assets                                $1,086,374     $1,001,609

    LIABILITIES AND SHAREHOLDERS' EQUITY

     Trade accounts payable                         $132,530       $124,401
     Employee compensation and other liabilities      89,218         87,385
     Notes payable                                    72,039         19,736
     Income taxes payable                              9,423          9,656
     Current maturity long-term debt                  23,688         34,346
       Total current liabilities                     326,898        275,524

     Long-term debt                                  111,729         70,856
     Other long-term liabilities                     110,754        105,936
       Total liabilities                             549,381        452,316

     Equity                                          536,993        549,293

       Total liabilities and equity               $1,086,374     $1,001,609


                   DONALDSON COMPANY, INC. AND SUBSIDIARIES
               CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
                            (Thousands of dollars)
                                 (Unaudited)

                                                        Six Months Ended
                                                           January 31
                                                       2005           2004
    OPERATING ACTIVITIES

    Net earnings                                     $54,110        $50,555

    Adjustments to reconcile net earnings to net
     cash provided by operating activities:
      Gain on sale of Ome land and building                -        (5,616)
      Depreciation and amortization                   22,009         20,889
      Changes in operating assets and liabilities    (14,570)       (27,636)
      Other, net                                       3,627          7,826
       Net cash provided by operating activities      65,176         46,018


    INVESTING ACTIVITIES

    Net expenditures on property and equipment      (22,521)       (27,301)
    Acquisitions and investments in unconsolidated
    affiliates, net of cash acquired                 (6,075)        (4,397)
      Net cash used in investing activities         (28,596)       (31,698)

    FINANCING ACTIVITIES

    Purchase of treasury stock                       (86,542)       (15,270)
    Net change in debt                                81,213         17,680
    Dividends paid                                    (9,757)        (8,257)
    Other, net                                         1,317          2,747
      Net cash used in financing activities          (13,769)        (3,100)

    Effect of exchange rate changes on cash            6,962          4,905

    Increase in cash and cash equivalents             29,773         16,125

    Cash and cash equivalents - beginning of year     99,504         67,070

    Cash and cash equivalents - end of period       $129,277        $83,195


                                SEGMENT DETAIL
                            (Thousands of dollars)
                                 (Unaudited)

                       Engine       Industrial     Corporate &     Total
                      Products      Products       Unallocated    Company
    3 Months Ended
     January 31, 2005:
    Net sales          $219,432      $168,992           ---       $388,424
    Earnings before
     income taxes        27,384        10,908        (1,695)        36,597

    3 Months Ended
     January 31, 2004:
    Net sales          $184,418      $147,792            ---      $332,210
    Earnings before
     income taxes        19,647        10,279          4,320        34,246

    6 Months Ended
     January 31, 2005:
    Net sales          $437,017      $324,313            ---      $761,330
    Earnings before
     income taxes        58,257        23,602         (7,736)       74,123

    6 Months Ended
     January 31, 2004:
    Net sales          $371,157      $289,273            ---      $660,430
    Earnings before
     income taxes        47,578        20,640          1,036        69,254


                             NET SALES BY PRODUCT
                            (Thousands of dollars)
                                 (Unaudited)

                          Three Months Ended          Six Months Ended
                              January 31                  January 31
                            2005         2004         2005         2004
    Engine Products
     segment:
    Off-road products      $69,261      $56,838     $132,533     $109,654
    Transportation
     products               40,369       38,101       84,275       75,389
    Aftermarket products   109,802       89,479      220,209      186,114
    Total Engine Products
     Segment              $219,432     $184,418     $437,017     $371,157

    Industrial Products
     segment:
    Industrial filtration
     solutions products   $105,804      $89,123     $205,434     $175,276
    Gas turbine products    29,752       28,999       53,628       57,235
    Special applications
     products               33,436       29,670       65,251       56,762
      Total Industrial
       Products segment   $168,992     $147,792     $324,313     $289,273

    Total Company         $388,424     $332,210     $761,330     $660,430


                RECONCILIATION OF NON-GAAP FINANCIAL MEASURES
                            (Thousands of dollars)
                                 (Unaudited)

                            Three Months Ended         Six Months Ended
                                 January 31               January 31
                             2005         2004        2005         2004

    Free cash flow          $8,406       $9,782      $42,655      $18,717
    Net capital
     expenditures           15,471       13,785       22,521       27,301
    Net cash provided by
     operating activities  $23,877      $23,567      $65,176      $46,018

    EBITDA                 $48,970      $45,202      $99,142      $92,029
    Income taxes            (9,881)      (9,247)     (20,013)     (18,699)
    Interest expense (net)  (1,405)      (1,041)      (3,010)      (1,886)
    Depreciation and
     amortization          (10,968)      (9,915)     (22,009)     (20,889)

      Net earnings         $26,716      $24,999      $54,110      $50,555

    Net sales, excluding
     foreign currency
     translation          $377,130     $309,725     $739,479     $619,330
    Foreign currency
     translation            11,294       22,485       21,851       41,100

      Net sales           $388,424     $332,210     $761,330     $660,430

    Net earnings,
     excluding foreign
     currency translation  $26,442      $23,502      $52,747      $47,433
    Foreign currency
     translation               274        1,497        1,363        3,122

      Net earnings         $26,716      $24,999      $54,110      $50,555

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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