Donaldson Company Annual Report 2001

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FY2001 Annual Report · Donaldson Company

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Expect the BEST in

UNEXPECTED Places

2001 Annual Report

TWELVE
CONSECUTIVE
Record Years

Expect the BEST in UNEXPECTED Places

You expect to see Donaldson Company’s ﬁltration products on the heavy-duty

truck traveling the interstate highway, or on the construction equipment on

the side of the road. After all, that’s where our company began.

But you aren’t as likely to expect our ﬁlters in the camera that captures

memories of your daughter’s birthday party. Or in the backup generator

providing electricity to your computer center or office. How about in the

lawn tractor that mows your lawn?

Donaldson ﬁlters and related products are in many unexpected places – in

products you see, touch and use every day. Our long-term, focused investment

in ﬁltration technology has created the leverage to carry us into new product

lines, new markets and new geography. This diversiﬁcation in end markets,

linked by a common technology base, has enabled us to smooth out the ups

and downs of the various market segments and to achieve our 12th consecu-

tive year of double-digit earnings growth – no small feat in these turbulent

economic times.

We’re proud of our progress so far. Our industrial businesses are approach-

ing our goal of 50 percent of total revenues, and our international businesses

make up almost 38 percent of total revenues with operations in 19 countries.

Donaldson Company holds more than 370 U.S. patents and related patents

ﬁled around the world and our employees are constantly developing new

ways to utilize superior ﬁltration and acoustic technology for products that

are still years away from market.

So expect the best in unexpected places – today and in the future.

FINANCIAL HIGHLIGHTS
Donaldson Company, Inc. and Subsidiaries

Year ended July 31

Net sales (000s)
Net earnings (000s)
Return on sales
Return on average shareholders’ equity
Long-term capitalization ratio
Diluted earnings per share
Dividends paid per share
Shareholders’ equity per share
Diluted shares outstanding (000s)
Employees at year-end
Sales per employee (000s)

2001

$1,137,015
75,548

2000

$1,092,294
$70,233

6.6%
25.2%
23.7%
$1.66
$.295
$7.19
45,612
8,230
$138.2

6.4%
25.9%
24.9%
$1.51
$.27
$6.27
46,664
8,478
$128.8

% Change

4.1%
7.6%
.2 pts.
(.7) pts.
(1.2) pts.
10.0%
9.2%
14.7%
(2.3)%
(2.9)%
7.3%

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; air intake systems for industrial gas turbines; and

specialized ﬁlters for such diverse applications as computer disk drives, aircraft

passenger cabins and semiconductor processing. Products are manufactured

at more than three dozen Donaldson plants around the world and through three

joint ventures.

Our ﬁnancial objective is to build shareholder value through superior share price

appreciation and consistent dividend payouts. We believe value is created by

delivering consistent, double-digit growth in earnings per share. Growth will be

achieved by aggressively pursuing new opportunities in our existing and related

markets. Consistency will be reinforced by maintaining a diversiﬁed portfolio of

related ﬁltration businesses around the world.

Mission Statement To provide superior return for our shareholders, through

consistent, long-term earnings growth built on global leadership in ﬁltration solu-

tions, thereby creating security, opportunity and challenge for our employees.

Expanding south
of the border

Our new 200,000-square-foot facility in

Monterrey will enable us to bring more

gas turbine ﬁlter production in-house and

From the heart of America to the far reaches

expand our capacity to meet increasing

of the world, Donaldson sells, services and

customer demands. The facility, our fourth

manufactures products our customers

plant worldwide devoted to gas turbines,

need, where and when they need them.

will produce ﬁlter housings, inlet ducting

Long before NAFTA, we realized the geo-

and silencing products.

graphic and market advantages of working

We’re also expanding our Aguascalientes

in Mexico. From a relatively modest start

facility, where 200 employees manufacture

20 years ago, our presence has grown to

5 million air, liquid and oil ﬁlters each year.

include three manufacturing plants.

In addition to producing large volumes of

ﬁlters for shipment to the United States and

Mexico, our Mexican facilities also serve

our European and South American customers.

We’re around
the WORLD

We’re there
for special
MEMORIES

ﬁlters, as disk drives expand beyond the per-

And you just never know where our disk

sonal computer market and make their way

drive ﬁlters will show up. Did you ever imag-

into more consumer and office products.

ine in a sewing machine? In the near future,

Helping technology
products run smoothly

As disk drives become increasingly com-

plex, so do their ﬁltration needs. Our ﬁlters

remove harmful particles and chemicals

Digital cameras, TV set-top boxes, MP3

from the drive and help keep the drives

players, navigational systems in automo-

operating reliably.

biles – these are just some of the many

places you’ll ﬁnd Donaldson disk drive

In ﬁscal 2001, Donaldson manufactured

more than 250 million disk drive ﬁlters. To

keep up with our growth and provide the lat-

est in state-of-the-art cleanroom facilities,

we’re expanding our Wuxi, China, operation.

We’ll continue to evolve and adapt our tech-

nology to meet the needs of our customers.

a disk drive in a sewing machine will allow

the operator to log on to a Web site, down-

load a pattern, store it and direct the

machine to follow it.

Although growth in the personal computer

market has recently slowed, the demand

for disk drives and our ﬁlters will continue

to grow with new and future applications

such as cell phones; game machines, like

Microsoft’s XBox and Sony’s Playstation2;

personal digital assistants and more.

We’re keeping
the LIGHTS on

Supplying power
to the people

For example, diesel generators are provid-

Manufacturers are using our patent-pending

ing much-needed backup power to com-

air, chemical and noise ﬁltration technology

puter centers, office buildings, hospitals

on fuel cells that power mass transit buses,

Donaldson is a key player in the booming

and municipalities and are often the sole

which are expected to be introduced in

gas turbine business – an industry that’s

sources of power for remote locations

2002. Future applications are likely to include

striving to keep pace with the world’s

in the Third World. As the key supplier of

passenger cars, residential power genera-

immense demand for power. We entered

air and liquid ﬁlters to Caterpillar’s diesel

tion and portable devices including cell

this market more than 30 years ago with the

generator business, the industry leader,

phones and laptop computers. The possibil-

first self-cleaning ﬁlter system and today

our diesel generator business was up

ities for the use of fuel cells are vast, and

hold the leadership position in air ﬁltration

28 percent over last year, and we expect

Donaldson’s FC3 systems will be there

systems worldwide working with all of the

20 percent annual growth over the next

ensuring their reliability and performance.

makers of large and small turbines, includ-

ﬁve years.

ing General Electric, Siemens Westinghouse

and Solar. We experienced yet another

record year in 2001 with sales up more than

66 percent over last year.

The next chapter of this unfolding power

story centers on fuel cells – the energy-

saving and environmentally sound power

source that will revolutionize the way we

From permanent solutions like gas turbines

view and use energy. Utilizing hydrogen

to backup power sources, Donaldson is

and oxygen, the only byproducts of fuel

uniquely positioned to capitalize on the

cell energy are water and heat. Though

insatiable demand for energy with ﬁltration

the technology has been around for more

technology that protects a broad spectrum

than a century, it’s now on the brink of

of power generation.

commercial viability, and Donaldson’s Fuel
Cell Contamination Control™ (FC3 ™) business

is playing a key role.

Solving more than
ﬁltration problems

Donaldson unveiled its breakthrough

PowerCore™ air-intake system in 1999, and

it’s now being used in a variety of products,

from a John Deere lawn and garden tractor

else worked. For Volvo, the space saved

to a Caterpillar power generator to a Volvo

with our smaller ﬁlter enabled them to

mid-sized truck.

design their truck with more cargo space.

PowerCore systems offer superior ﬁltration

With worldwide patents, PowerCore

performance in a smaller package, and

system’s unique conﬁguration and perfor-

that’s what manufacturers love. As our

mance are difficult to duplicate, allowing

customers’ products become more com-

us and our OEMs to retain the important

pact and stylized, space is at a premium.

replacement parts, or aftermarket, business.

Our PowerCore systems give designers

First-year sales exceeded our expectations,

and engineers more freedom and choice

as did customer eagerness to try this inno-

in their designs.

For John Deere, a PowerCore system was

the best solution to its problem of superior

ﬁltration in a very small space – nothing

vative technology. PowerCore systems will

be on at least seven new models of trucks,

tractors and equipment next year.

We’re in your
BACKYARD

Improving air quality
for the workplace

One metalworking customer, using the new

DFO, was able to more than double produc-

tion capacity. Their “old” dust collector was

More than 21 million U.S. workers are

extremely undersized because of restricted

exposed to poor indoor air quality, not to

ﬂoor space, and thus several of their steel

mention many millions more around the

cutting tables could run at only 40 percent

world. We’re doing our part to clean the

capacity. Our new, smaller DFO ﬁt into the

air with dust collection systems that ﬁlter

available space and enabled them to ramp

harmful particles and fumes, enhancing

up to full production.

conditions for employees, products, and

manufacturing processes.

Customer acceptance has been excellent

with over 300 DFO units already sold. This

In 2001, we introduced the Torit Downﬂo®

new product introduction, combined with

Oval 1™ (DFO™) dust collection system,

our new Sample Analysis Lab that enables

which offers a revolutionary oval cartridge

us to more accurately determine the best

ﬁlter, redesigned cabinet and an enhanced

product solution, reinforces our leading

cleaning system applicable in thousands

position in the worldwide industrial dust

of businesses in the powder, metal, wood-

collection market.

working and processing industries world-

wide. For our customers, this patented

system means more effective and efficient

ﬁltration while requiring less ﬂoor space.

We’re enhancing
worker SAFETY

We’re on the
job at HOME

Helping engines
run smoothly

As the supplier of choice to Bobcat, the

We’ve also supported other important

skid-steer market leader, Donaldson plays

customers as they’ve entered the skid-

a big part in the healthy skid-steer market.

steer market, including Case-New Holland,

Not just for the construction site anymore,

For more than 30 years, we’ve been work-

Caterpillar and John Deere. Skid-steer loaders

skid-steer loaders are becoming more pop-

ing with Bobcat to supply a variety of ﬁlter

are tough machines that require heavy-duty

ular than ever. They’re increasingly used by

and exhaust systems. It’s a true partnership

ﬁltration, and Donaldson ﬁlters are there to

consumers for home improvement projects

that has grown through Bobcat’s new

ensure they keep running smoothly.

and landscaping, in addition to the heavy-

designs and international expansion.

duty construction, agriculture and masonry

industries. They’re a bright spot – with 12

percent yearly growth – in a construction

equipment industry that has been relatively

ﬂat over the past year.

Pictured from left to right:

WILLIAM M. COOK

Senior Vice President, International and

Chief Financial Officer

WILLIAM G. VAN DYKE

Chairman, President and Chief Executive Officer

JAMES R. GIERTZ

Senior Vice President, Commercial and Industrial

NICKOLAS PRIADKA

Senior Vice President, Engine Systems and Parts

LOWELL F. SCHWAB

Senior Vice President, Operations

High-quality earnings came the old-fashioned way

– strong revenue, lower costs and tight expense

control. We maintained ROI in the 19 to 20 percent

range and ROE above 25 percent – levels that com-

pare favorably with our long-term performance.

DEAR SHAREHOLDERS,

If there is beauty in watching a complex organiza-

We kept the operations growing and delivered

tion run well in rough water, then Donaldson’s

year 12 – the consistent, above-average perfor-

ﬁscal 2001 was an artwork. Together, the people

mance that creates shareholder value, and

who operate the many, disparate parts of this

security and opportunity for our people.

ﬁltration portfolio turned in what might be their

ﬁnest performance ever. Numerically, the results

were perhaps less than eye-popping – a 10 per-

cent earnings increase is the slowest progress

we’ve made in years. The beauty was that this

occurred in the face of a strong and sometimes

dispiriting headwind that many expected would

deny us our 12th consecutive double-digit growth

year. Overcoming the obstacles and delivering the

results speak volumes about the people who did

the work and about the strength of the company’s

strategy. Twelve consecutive years, despite the

economic dips of ’91, ’96 and ’01, belie the indict-

ment that as an industrial manufacturer, we have

to be a cyclical performer. Over this 12-year period,

This year’s results reaffirm that our long-term,

focused investment in ﬁltration technology

deployed into leadership positions in distinct

and divergent end markets will drive consistent,

superior results. Our heroes have been different

every year, as various pieces of this ﬁltration

portfolio have compensated for others that were

having a difficult time.

This year, the North American heavy truck market

experienced a truly breathtaking plunge. Donaldson

experienced a drop in truck and automotive rev-

enue of almost 50 percent. But, our portfolio

structure meant the drop in these applications

would slow, but not cripple, the company.

we have averaged 16 percent EPS growth, but

The transportation revenue loss was washed away

each year have delivered at least 10 percent.

by the continuing boom in our gas turbine busi-

ness, where sales grew by more than 66 percent

LONG-TERM PERFORMANCE
(Cumulative total return) Year ended July 31

= DCI

= S&P 400

1,015

729

796

687

580

623

642

590

492

461

384

317

412

294

373

236

280

228

225

203

173

172

100

133

148

142

to $195 million. Special recognition and thanks go

engages almost every area of our operation,

to the Donaldson people who ramped up output

e.g., plant rationalization can’t succeed without

and made it happen. Donaldson’s leading, world-

aggressive product line rationalization. Despite

wide market share derives from our unique,

the difficult business conditions this past year,

proven ability to deliver the best gas turbine air

we funneled resources to this work – closing ﬁve

inlet systems in the industry at the required cost

manufacturing and assembly facilities. This invest-

and quality, and do it on time – over and over.

ment in cleaning up our infrastructure cost us 17

But this year was more than just a gas turbine

story. Gas turbine offset transportation, while

other markets, such as the engine aftermarket

and special applications, provided modest growth.

cents per share, about two-thirds of this coming

in the ﬁrst half. We started to see the beneﬁts of

those expenditures in the fourth quarter, reener-

gizing the work that’s in front of us.

And most of our businesses maintained or improved

Donaldson takes a pay-as-you-go approach to

their margins.

Another part of the story this year came from over-

seas as both Europe and Asia-Paciﬁc turned in

great local currency results. Europe participated

in the gas turbine upswing, completed the DCE

integration and showed improved results in almost

every market, driving a 16 percent increase in

operating income. Asia-Paciﬁc operating income

increased 44 percent, derived from a strong disk

plant rationalization costs, absorbing them into

the operating earnings of the year – no “special

charges.” This may explain the pride we take in

our numbers. We made our 12th consecutive

double-digit earnings growth year – up 15 cents

per share – after absorbing 17 cents in plant

rationalization costs – investments in our future.

Effectively, we spent the year to secure our future

– then we made the year.

drive business and Nippon-Donaldson’s ROI

Plant rationalization also includes opening new

improvement project, which produced Japan’s

facilities to gain scale and cost advantages. We

best results and highest returns in a decade.

have four new facilities coming on stream this year.

Plant rationalization has emerged as the major

initiative in managing our cost structure. This work

A new plant near Philadelphia for our Tetratec™

PTFE membrane business will allow us to close

CONSISTENT DOUBLE-DIGIT EPS GROWTH
(Annual EPS % change)

10%
Goal

three smaller facilities nearby, while doubling

to repeat in 2002. Completion of the DCE acquisi-

manufacturing capacity. Our new gas turbine

tion integration and last year’s plant rationalization

plant in Monterrey, Mexico, will bring a portion

moves will produce beneﬁts. The sum was to be

of the now-subcontracted work back inside our

an easier year than the one just past. But now

walls. We target producing about two-thirds of our

the picture is less clear. While we might see a

gas turbine work internally, and this allows us to

lift from defense and construction spending, the

move back toward that standard. We are also build-

unknowns around the economy as a whole erase

ing a new clean room in China for disk drive ﬁlter

any sense of comfort.

production and a new ﬁlter plant in Eastern Europe.

Yet despite the circumstances, our focus remains

In sum, we will continue to pare those facilities

on delivering superior return on investment, while

that don’t work for us from a cost standpoint, while

striving to bring in our 13th consecutive year of

adding plants that will. Looking into the next ﬁscal

double-digit earnings growth. Our 8,200 capable,

year, we will continue to invest in plant rationaliza-

tough-minded people and a sound, vital strategy

tion, but cost levels aren’t expected to approach

are a powerful combination. We know that we are

the levels of ﬁscal 2001.

in control of most of the work that will determine

At this juncture, we can’t speak with much

assurance about the business outlook. Prior to

September 11, our expectation was for business

levels to be generally consistent with our fourth

quarter. While we didn’t see a meaningful upturn

our success. DCI’s demonstrated ability to repeat-

edly deliver, even while on a sharp economic

downslope, reassures us of our ability to manage

successfully through another tough year, if that’s

what comes.

coming, the harsh conditions of ﬁscal 2001 were

Sincerely,

to provide easier comparisons going forward.

Growth was again projected for gas turbines and

disk drives. The big negatives from 2001, such as

foreign currency, the truck market collapse and

WILLIAM G. VAN DYKE

contracting capital spending, appeared unlikely

Chairman, President and Chief Executive Officer

NET SALES
(Millions of dollars)

EARNINGS PER SHARE
(Dollars)

1,137

1,092

940

944

833

759

704

594

533

482

458

1.66

1.51

1.31

1.14

.99

.84

.73

.59

.51

.46

.42

Donaldson has posted 18 consecutive years of
revenue increases.

Earnings per share were up 10 percent in 2001, the
12th consecutive year of double-digit increases in EPS.

RETURN ON EQUITY
(% Per annum)

DIVIDENDS PER SHARE
(Dollars)

25.9

25.2

24.1

22.8

21.4

18.0

17.2

16.9

17.6

19.3

18.8

.295

.27

.23

.19

.17

.15

.14

.12

.10

.09

.07

Donaldson Company is delivering shareholder value through
consistently high returns on shareholders' equity.

Dividends paid per share increased 9 percent in 2001.
The company distributes about 20 percent of net income
to shareholders through regular quarterly dividends.

INDUSTRIAL PRODUCTS Operating Segment

2001 Revenue $530 MILLION

DUST COLLECTION
Under the trade names Torit,
DCE and Aercology, Donaldson
provides equipment to control
and capture process dust,
fumes and mist in manufactur-
ing and industrial processing
plants. In addition, a full line
of replacement ﬁlter cartridges,
bags and spare parts are
offered.

GAS TURBINE SYSTEMS
Donaldson provides complete
systems to deliver clean air to
combustion turbines. Products
include self-cleaning ﬁlter units,
static air ﬁlter units, inlet duct-
ing and silencing, evaporative
coolers, chiller coils, inlet
heating and anti-icing systems.
Also, a full line of replacement
ﬁlters and parts is offered.

SPECIAL APPLICATIONS
Donaldson provides a wide
range of high efficiency media,
ﬁlters and ﬁltration systems for
various commercial, industrial
and product applications.

Product is applied in a wide
variety of industrial settings
including metal working plants,
paint operations, welding
stations, woodworking shops
and food processing plants.

Essentially all combustion tur-
bines require inlet air ﬁltration
and noise attenuation systems.
These turbines provide base
electricity, peaking capacity,
remote power generation for
special applications such as
pipelines and off-shore oil
drilling platforms.

Products for the computer disk
drive market include particulate
ﬁlters, desiccant pouches and
chemical adsorbing ﬁlter
pouches. Customers include
major disk drive manufacturers
such as IBM, Seagate and
Western Digital.

Products for special market
applications include aircraft
cabin air ﬁlters, chemical ﬁlter
systems for semi-conductor
processing facilities, as well as
other ﬁlters for process-critical
applications.

Donaldson sells expanded
PTFE membrane through its
Tetratec unit. Primary appli-
cations for this membrane
are industrial dust collection,
product recovery applications
and specialty fabrics.

$217

MILLION

$195

MILLION

$118

MILLION

Dedicated ﬁeld sales force
coordinates multiple selling
channels to end-users includ-
ing: direct selling, distribution,
installers, OEM accounts and
telemarketing.

Products are primarily sold
to gas turbine OEMs (e.g.,
General Electric, Solar,
Siemens Westinghouse).
Replacement parts are sold
direct to end-users.

Products are sold to disk drive
manufacturers by a direct sales
force supported by product
development and application
engineers.

Products are primarily sold
direct to end-users.

Membrane and laminates
are sold to various ﬁlter and
garment manufacturers.

S
T
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D
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P

S
N
O
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T
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P
P
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V
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R
1
0
0
2

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K
R
A
M
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S
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T
U
O
R

ENGINE PRODUCTS Operating Segment

2001 Revenue $607MILLION

OFF-ROAD EQUIPMENT
Products sold to industrial
equipment and defense con-
tractor OEMs for agriculture,
construction, mining, military
and other industrial applications.

TRUCKS
Products sold to manufacturers
of medium- and heavy-duty
trucks.

AFTERMARKET
Broad line of replacement
ﬁlters and hard parts for all
of the equipment applications
noted at left.

Caterpillar, John Deere, Komatsu,
CNH, Volvo Construction
Equipment, General Dynamics
and Stewart & Stevenson

Freightliner, PACCAR,
Volvo, Scania, International
and Mitsubishi

Original equipment dealers
(such as Freightliner dealers
or Caterpillar dealers),
independent distributors
and private label accounts

$182

MILLION

$80

MILLION

$345

MILLION

Engine Intake Air
Filtration Systems

Exhaust Systems

Hydraulic Filtration
Systems

Lube, Fuel and

Coolant Filtration Systems (cid:2)

Cabin Air Filters

S
T
E
K
R
A
M
-
D
N
E

S
R
E
M
O
T
S
U
C
E
V
I
T
A
T
N
E
S
E
R
P
E
R

E
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E
V
E
R
1
0
0
2

S
E
I
L
I
M
A
F
T
C
U
D
O
R
P

Donaldson sells a broad line
of ﬁlters and housings for
industrial hydraulic and
lubricating ﬂuids.

Products are sold through
an extensive network of
industrial distributors.

(cid:2)
(cid:2)
(cid:2)
(cid:2)
(cid:2)
(cid:2)
(cid:2)
(cid:2)
(cid:2)
(cid:2)
(cid:2)
(cid:2)
(cid:2)
ELEVEN-YEAR COMPARISON OF RESULTS
Donaldson Company, Inc. and Subsidiaries

(Thousands of dollars, except per share amounts)

2001

2000

1999

1998

OPERATING RESULTS
Net sales
Gross margin
Gross margin percentage
Operating income
Operating income percentage
Interest expense
Earnings before income taxes
Income taxes
Effective income tax rate
Net earnings
Return on sales
Return on average shareholders’ equity
Return on investment

FINANCIAL POSITION
Total assets
Current assets
Current liabilities
Working capital
Current ratio
Current debt
Long-term debt
Total debt
Shareholders’ equity
Long-term capitalization ratio
Property, plant and equipment, net
Net expenditures on property, plant and equipment
Depreciation and amortization

SHAREHOLDER INFORMATION
Net earnings per share – assuming dilution
Dividends paid per share
Shareholders’ equity per share
Shares outstanding (000s)
Common stock price range, per share

High

Low

$1,137,015
$ 341,734

30.1%

$ 112,108

9.9%

11,608
$
$ 104,928
29,380
$

28.0%

75,548

6.6%
25.2%
19.1%

$ 706,830
$ 407,227
$ 217,279
$ 189,948
1.9
$
59,416
99,259
$
$ 158,675
$ 319,093

$1,092,294
327,521

$944,139
275,681

$940,351
263,262

30.0%

105,594

9.7%

9,880
100,333
30,100

30.0%

70,233

6.4%
25.9%
19.4%

677,525
383,347
243,590
139,757
1.6
85,313
92,645
177,958
280,165

29.2%

88,390

9.4%

6,993
89,210
26,763

30.0%

62,447

6.6%
24.1%
19.0%

542,246
326,388
142,055
184,333
2.3
20,696
86,691
107,387
262,763

28.0%

86,799

9.2%

4,671
86,441
29,390

34.0%

57,051

6.1%
22.8%
20.5%

512,987
300,817
165,068
135,749
1.8
45,896
51,553
97,449
255,671

23.7%

24.9%

24.8%

16.8%

$ 207,658
38,924
$
38,577
$

$
$
$

1.66
.295
7.19
44,383

33.05

19.13

204,545
36,417
34,326

1.51
.27
6.27
44,658

24.81

19.13

182,180
29,539
27,686

1.31
.23
5.69
46,197

25.88

14.44

178,867
54,705
25,272

1.14
.19
5.28
48,382

27.19

18.56

Amounts are adjusted for all stock splits and reﬂect adoption of SFAS 128.

Operating income is gross margin less selling, general and administrative, and research and development expense.

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.

1997

1996

1995

1994

1993

1992

1991

$833,348
250,273

$758,646
222,874

$703,959
197,979

$593,503
166,599

$533,327
152,236

$482,104
133,574

$457,692
129,858

30.0%

82,715

9.9%

2,358
79,094
28,474

36.0%

50,620

6.1%
21.4%
20.8%

467,501
283,367
177,346
106,021
1.6
42,674
4,201
46,875
243,865

29.4%

75,642

10.0%
2,905
71,120
27,684

38.9%

43,436

5.7%
19.3%
18.5%

402,850
250,751
138,578
112,173
1.8
13,145
10,041
23,186
228,880

28.1%

65,531

9.3%

3,089
63,172
24,636

39.0%

38,536

5.5%
18.8%
17.6%

381,042
247,904
123,747
124,157
2.0
20,800
10,167
30,967
221,173

1.7%

4.2%

4.4%

154,595
47,327
21,494

.99
.17
4.93
49,452

20.38

12.69

124,913
39,297
21,674

.84
.15
4.52
50,650

14.00

11.94

110,640
25,334
20,529

.73
.14
4.23
52,370

14.00

10.94

28.1%

52,079

8.8%

3,362
50,193
18,244

36.3%
31,949(1)
5.4%
17.6%
16.0%

337,360
220,308
115,757
104,551
1.9
16,956
16,028
32,984
189,697

7.8%

99,559
24,642
16,365

.59(1)
.12
3.58
53,020

13.06

9.13

28.5%

45,246

8.5%

2,723
44,682
16,468

36.9%

28,214

5.3%
16.9%
15.0%

300,217
196,014
93,666
102,348
2.1
7,595
18,920
26,515
174,008

9.8%

90,515
15,005
14,752

.51
.10
3.19
54,564

10.06

7.00

27.7%

41,249

8.6%

2,681
41,721
15,952

38.2%

25,769

5.3%
17.2%
14.8%

286,348
187,360
89,956
97,404
2.1
11,425
23,482
34,907
160,303

12.8%

84,899
15,538
14,047

.46
.09
2.91
55,138

7.94

5.19

28.4%

41,304

9.0%

3,526
39,385
15,337

38.9%

24,048

5.3%
18.0%
14.9%

253,194
169,398
77,537
91,861
2.2
6,380
25,673
32,053
138,947

15.6%

72,863
16,208
12,187

.42
.07
2.51
55,478

6.56

4.06

MANAGEMENT’S DISCUSSION AND ANALYSIS

Results of Operations

The following discussion of the company’s ﬁnancial condi-
tion and results of operations should be read in conjunc-
tion with the Consolidated Financial Statements and Notes
thereto (including Note H, Segment Reporting) and other
ﬁnancial information included elsewhere in this Report.

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 bil-
lion. 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
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, 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 dust collection and special application
products also increased from the prior year by 12.5 percent
and 8.9 percent, respectively. Excluding the acquisition of
DCE, dust collection product sales 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 transportation product sales of 47.6 percent
from the prior year. Excluding the company’s second quar-
ter exit from a block of truck related business due to unfa-
vorable 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 per-
cent from the prior year. This increase was led by strong
sales of gas turbine systems products domestically reﬂect-
ing continued demand for large turbines in North America,
with domestic sales almost doubling from the prior year.
Domestic dust collection product sales grew slightly with
an increase of 1.7 percent while sales in 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 con-
tinued to show its effects on the company’s transportation
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 inter-
national Industrial Products sales were up 24.9 percent
from the prior year. Sales of all products within this seg-
ment were strong internationally, with increases across the
board. Leading this growth were sales of dust collection
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 transportation
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 effec-
tive 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 consoli-
dated 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 com-
pared to $221.9 million in 2000, an increase of $7.7 mil-
lion, 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.
Selling expenses in 2001 were ﬂat as compared to 2000.
General and administrative expenses increased $7.2 mil-
lion from the prior year.

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
of other income in 2001 were: interest income of $1.2 mil-
lion, 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 seg-
ment, 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 dust collection and spe-
cial 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 transportation products posted
decreases of 6.4 percent and 16.3 percent, respectively,
while aftermarket hard order backlog increased 4.5 per-
cent from the prior year.

Fiscal 2000 Compared to Fiscal 1999 The company exceeded
one billion dollars in sales in 2000, reporting record sales
of $1.092 billion. This was an increase of 15.7 percent
over prior-year sales of $944.1 million. Businesses acquired
in this ﬁscal year contributed $56.7 million of revenues for
the year. Excluding the impact of acquisitions, sales for the
year ended July 31, 2000 were up 9.7 percent over the
prior year. Sales for the Engine Products segment of
$674.0 million were up 10.2 percent over the prior year.
Sales for the Industrial Products segment of $418.3 mil-
lion were up 25.7 percent over the prior year. Overall,
growth was strong across essentially all the markets
within both the Engine Products and Industrial Products
segments with the exception of a 5.9 percent decline in
sales of transportation products within the Engine Products
segment, reﬂecting a slowdown in the North America
heavy-duty truck market and a decrease in automotive
sales due to the loss of the CK platform business.
Continued increases in sales for the gas turbine systems
and special application products reﬂected continued
high demand in those markets. The increase in sales also
reﬂected strengthening in other markets such as dust
collection, engine aftermarket and off-road products.

Domestic Engine Products sales were up 8.7 percent
from the prior year. This increase was led by strong sales
in engine aftermarket products, which increased domesti-
cally by 23.6 percent including businesses acquired during
the year. Exclusive of acquisitions, domestic aftermarket
product sales increased 10.4 percent. Domestic sales in
off-road equipment products were also strong with an
increase of 14.7 percent from the prior year reﬂecting
growth in the agricultural, mining and large equipment
markets compared to the prior year. Domestic sales in
transportation products were down 1.8 percent with
mixed results coming from an increase of 10.2 percent

in domestic truck sales offset by a sharp decline in domes-
tic automotive sales. Domestic Industrial Products sales
increased 17.8 percent from the prior year including busi-
nesses acquired during the year. Exclusive of acquisitions,
domestic Industrial Products sales were still strong with
an increase of 15.6 percent. This increase was led by
continued strong sales of gas turbine systems products
(55.4 percent increase from the prior year) reﬂecting contin-
ued demand for large turbines in North America. Domestic
dust collection product sales grew at a more modest rate
with an increase of 7.2 percent while increases in special
applications products increased only slightly overall.
In U.S. dollars, total international sales increased
23.0 percent from the prior year. Excluding the negative
impact of foreign currency translation of $12.3 million,
sales increased 26.8 percent over the prior year. Total
international Engine Products sales were up 13.3 percent
compared to the prior year despite lower overall sales
of automotive products. International sales of off-road
products and aftermarket products were strong, posting
increases of 21.9 percent and 20.1 percent from the prior
year, respectively. International Industrial Products sales
were up 39.0 percent from the prior year including busi-
nesses acquired during the year. Businesses acquired during
the year contributed $28.7 million of international sales
in the Industrial Products segment. Excluding these sales,
the Industrial Products segment showed an increase of
15.9 percent in international sales from the prior year.
A sharp increase in international sales in dust collection
products was due largely to acquisitions during the year
but excluding acquisitions, sales still showed an increase of
6.7 percent. Also contributing to the increase in international
sales for the Industrial Products segment were disk drive
products and gas turbine products with increases of 18.8
percent and 14.9 percent, respectively, over the prior year.
The company reported record net earnings for 2000
of $70.2 million compared to $62.4 million in 1999, an
increase of 12.5 percent. Net earnings per share – diluted
were $1.51, up 15.3 percent from the prior year. This
reﬂects revenue growth as well as the impact of the com-
pany’s stock repurchase program. An increase in sales lev-
els from the prior year and the beneﬁt from continued cost
reduction efforts were the primary reasons for the higher
earnings. The Industrial Products segment contributed
almost half of the operating proﬁt and all of the earnings
growth for 2000. International operating income totaled
approximately 62.1 percent and 57.6 percent of consoli-
dated operating income in 2000 and 1999, respectively.

Gross margin for 2000 increased to 30.0 percent com-

pared to 29.2 percent in the prior year. The increase in
gross margin for the year reﬂects the growth in net sales
achieved in both operating segments of the company as
well as the positive impact of the continuous focus on
productivity improvements.

Operating expenses as a percentage of sales for 2000
and 1999 were 20.3 percent and 19.8 percent, respectively.
Operating expenses in 2000 totaled $221.9 million com-
pared to $187.3 million in 1999, an increase of $34.6 mil-
lion, or 18.5 percent. The increase in operating expenses
relative to the prior year reﬂects higher sales levels and
the impact of the acquired businesses. Selling expenses in
2000 increased $17.1 million, primarily due to the higher
sales levels. General and administrative expenses increased
$13.8 million from the prior year due to several factors
including increased programming and information tech-
nology costs associated with Year 2000 efforts, increases
in workers’ compensation, increases in medical costs and
employee compensation. In addition, there was $1.8 mil-
lion of goodwill amortization related to the businesses
acquired during the year.

Interest expense increased $2.9 million, or 41.3 percent,

primarily due to an increase in debt for the ﬁnancing of
acquisitions in the year as well as an increase in short-term
borrowing. Other income totaled $4.6 million in 2000
compared to other income of $7.8 million in the prior year.
The major components of other income in 2000 were: inter-
est income of $2.7 million, earnings from non-consolidated
joint ventures of $4.4 million, charitable contributions of
$0.9 million, loss on sale of ﬁxed assets of $1.0 million,
and other miscellaneous income and expense items netting
to $0.6 million of miscellaneous expense.

The effective income tax rate of 30.0 percent in 2000
was unchanged from the 30.0 percent tax rate in 1999.
Total backlog of $331.3 million was up 16.8 percent

from the prior year-end. Hard order backlog, goods
scheduled for delivery in 90 days, was $183.7 million
and $157.1 million at July 31, 2000 and 1999, respectively.
Hard order backlog for the Engine Products segment
decreased slightly from 1999. This decrease resulted from
a decrease in backlog for truck and automotive products
of 32.1 percent, offset by double-digit increases in both
aftermarket products and off-road equipment products
of 22.2 percent and 15.5 percent, respectively. Hard order
backlog for the Industrial Products segment increased
$28.2 million from 1999. This increase was due to signiﬁ-
cant increases in backlog for both dust collection and

gas turbine products of 81.1 percent and 45.6 percent,
respectively, followed by a more modest increase in special
application products of 6.6 percent.

Liquidity and Capital Resources

Financial Condition At July 31, 2001, the company’s capital
structure was comprised of $59.4 million of current debt,
$99.3 million of long-term debt and $319.1 million of
shareholders’ equity. The ratio of long-term debt to total
long-term capital was 23.7 percent and 24.9 percent
at July 31, 2001 and 2000, respectively.

Total debt outstanding decreased $19.3 million to

$158.7 million outstanding at July 31, 2001. The decrease
resulted from a reduction in short-term borrowings out-
standing at the end of the year of $25.6 million as com-
pared to the prior year, offset by an increase in long-term
debt of $6.6 million from the prior year. The increase in
long-term debt is primarily due to the addition of a guar-
anteed note of $6.4 million in our Japan operations.

The company has a multi-currency revolving credit
facility totaling $100.0 million with a group of banks
and an additional $35.0 million available for use under
uncommitted facilities which provide unsecured borrow-
ings for general corporate purposes. There was $57.7 mil-
lion outstanding under these facilities at July 31, 2001. The
company believes that the combination of present capital
resources, internally generated funds, and unused ﬁnancing
sources are adequate to meet cash requirements for 2002.
Shareholders’ equity increased $38.9 million in 2001

to $319.1 million. The increase was primarily due to
current year earnings of $75.5 million offset primarily
by $10.3 million of treasury stock repurchases and
$13.1 million of dividend payments as well as a foreign
currency translation adjustment in other comprehensive
income of $13.7 million.

Cash Flows During ﬁscal 2001, $82.8 million of cash
was generated from operating activities, compared with
$88.5 million in 2000 and $100.9 million in 1999.
The decrease in 2001 was primarily due to an increase
in accounts receivable of $35.2 million during the year
and contribution to employee pension plans offsetting
increased earnings.

In addition to cash generated from operating activities,

the company decreased its outstanding short-term debt
by $24.4 million while net long-term debt increased by
$8.3 million. Cash ﬂow generated by operations was used
primarily to support $38.9 million for capital expenditures,
$10.3 million for stock repurchases and $13.1 million for
dividend payments. Cash and cash equivalents increased
$4.1 million during 2001.

Capital expenditures for property, plant and equipment
totaled $38.9 million in 2001, compared to $36.4 million
in 2000 and $29.5 million in 1999. Capital expenditures
primarily related to productivity enhancing investments
at various plants worldwide and continuing upgrades to
the U.S. information systems.

Capital spending in 2002 is planned to be $45.1 mil-
lion. Signiﬁcant planned expenditures include the further
upgrade of U.S. information systems and investment in
manufacturing equipment and tooling. It is anticipated
that 2002 capital expenditures will be ﬁnanced primarily
by cash generated from operations.

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 quar-
terly dividend of 7.5 cents per share equates to 20.1 percent
of the 1999 through 2001 average net earnings per share.

Share Repurchase Plan In January 2001, the Board of
Directors authorized the company to repurchase 4.5 mil-
lion shares of common stock of which no shares had been
repurchased as of July 31, 2001. Management and the
Board of Directors believe the share repurchase program is
an excellent means of returning value to the shareholders.
In ﬁscal 2001, the company repurchased 0.5 million
shares of common stock on the open market for $10.3
million under the share repurchase plan authorized in
November 1998, at an average price of $21.16 per share.
The company repurchased 1.7 million shares for $35.9
million in 2000 and 2.4 million shares for $44.5 million
in 1999.

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, man-
agement 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 issued Statement of Financial
Accounting Standards (SFAS) No. 141, “Business Com-
binations,” 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, the pooling of interest
method of accounting is now prohibited; intangible assets
acquired in a business combination must be recorded sepa-
rately 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 annu-
ally, except in certain circumstances, and whenever there
is an impairment indicator; all acquired goodwill must be
assigned to reporting units for purposes of impairment
testing and segment reporting; effective August 1, 2002,
goodwill is no longer subject to amortization. The com-
pany has adopted the provisions of these statements as
of August 1, 2001. As required by SFAS 142, the company
will perform an impairment test on goodwill and other
intangible assets as of the adoption date. Thereafter, the
company will perform impairment tests annually and
whenever events or circumstances occur indicating that
goodwill or other intangible assets might be impaired.
Beginning August 1, 2001, amortization of goodwill will
cease. Goodwill amortization expense was $3.8 million,
$2.7 million and $0.7 million at July 31, 2001, 2000 and
1999, respectively. The company estimates that goodwill
amortization expense would have been approximately
$3.5 million in 2002.

Market Risk The company’s market risk includes the poten-
tial 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 com-
pany’s objective in managing these risks is to reduce ﬂuctu-
ations 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 inter-
est rates. See further discussion of these market risks below.

Foreign Currency During 2001, 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
results because the foreign denominated revenues and
earnings directly translated into fewer U.S. dollars.

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, 2001, the impact of foreign currency
translation resulted in an overall decrease in net sales of
$35.6 million and a decrease in net earnings of $3.2 mil-
lion. The most signiﬁcant impact on the company’s results
due to foreign currency translation was in Europe, where
the stronger U.S. dollar relative to both the euro and
pound sterling directly resulted in a decrease in net sales of
$23.2 million and a decrease in net earnings of $2.9 mil-
lion. The strength of the U.S. dollar relative to the Japanese
yen during 2001 resulted in a decrease in net sales of
$6.7 million and a decrease in net earnings of $0.2 million.
In addition, ﬂuctuation in the exchange rates for the
Australian dollar and the South African rand also
contributed to the company’s translation losses, resulting
in a decrease in net sales of $2.4 million and $3.0 million
respectively. Going forward, the company expects local
currency results to remain strong; excluding the effect of
translation, revenues outside the U.S. increased 14.4 per-
cent for the year ended July 31, 2001.

The company maintains signiﬁcant assets and opera-
tions in Europe, countries of the Asia-Paciﬁc Rim, South
Africa and Mexico. As a result, exposure to foreign cur-
rency gains and losses exists. A portion of the company’s
foreign currency exposure is 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 prod-

ucts and parts in various currencies. As a result, the com-
pany may be exposed to cost increases relative to local
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 rela-
tive 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 Our 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 expo-
sure 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, 2001, the fair value of the company’s
long-term debt approximates market. Market risk is esti-
mated as the potential decrease in fair value resulting from
a hypothetical one-half percent increase in interest rates
and amounts to approximately $3.2 million.

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 to hedge against the risk of higher
borrowing costs in a declining interest rate environment.
The company does not enter into interest rate swap con-
tracts for speculative or trading purposes; as the differen-
tial to be paid or received on the interest rate swap agree-
ment 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 $45,000 for the year ended
July 31, 2001.

Forward-Looking Statements

The company desires to take advantage of the “safe har-
bor” 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 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 which reﬂect the com-
pany’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,”
“project,” “should” and similar expressions are intended
to identify “forward-looking statements” within the mean-
ing 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 man-
agement’s current expectations of the company’s near-term
results, based on current information available pertaining
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 chang-
ing world economic and political factors, the company’s
international operations, interest and currency rate ﬂuctu-
ations, commodity prices, highly competitive markets,
changes in capital spending levels by customers, changes
in product demand and changes in the geographic and
product mix of sales, integration of acquisitions and
acquisition opportunities, ongoing plant and product line
rationalization projects, ongoing information technology
improvements, research and development expenditures,
government laws and regulations, including diesel emis-
sions controls. For a more detailed explanation of the fore-
going and other risks, see exhibit 99 to our current Annual
Report on Form 10-K, which is 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 possi-
ble 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 fac-
tors, 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.

CONSOLIDATED STATEMENTS OF EARNINGS
Donaldson Company, Inc. and Subsidiaries

(Thousands of dollars, except share and per share amounts) Year ended July 31,

Net sales
Cost of sales

Gross Margin

Selling, general and administrative
Research and development

Operating Income

Interest expense
Other (income) expense, net

Earnings Before Income Taxes

Income taxes

Net Earnings

Weighted Average Shares – Basic

Weighted Average Shares – Diluted

Net Earnings Per Share – Basic

Net Earnings Per Share – Diluted

The accompanying notes are an integral part of these consolidated ﬁnancial statements.

2001

$1,137,015
795,281
341,734
201,201
28,425
112,108
11,608
(4,428)
104,928
29,380
$ 75,548

2000

$1,092,294
764,773
327,521
194,623
27,304
105,594
9,880
(4,619)
100,333
30,100
$ 70,233

1999

$944,139
668,458
275,681
163,688
23,603
88,390
6,993
(7,813)
89,210
26,763
$ 62,447

44,381,082

45,716,482

46,899,127

45,612,165

46,664,196

47,793,180

$ 1.70

$ 1.54

$ 1.66

$ 1.51

$ 1.33

$ 1.31

CONSOLIDATED BALANCE SHEETS
Donaldson Company, Inc. and Subsidiaries

(Thousands of dollars, except share amounts) At July 31,

2001

2000

ASSETS
Current Assets

Cash and cash equivalents
Accounts receivable, less allowance of $6,309 and $4,380
Inventories

Raw materials
Work in process
Finished products

Total Inventories

Deferred income taxes
Prepaids and other current assets
Total Current Assets

Property, Plant and Equipment, at cost

Land
Buildings
Machinery and equipment
Construction in progress

Less accumulated depreciation

Deferred Income Taxes
Intangible Assets
Other Assets

LIABILITIES & SHAREHOLDERS’ EQUITY
Current Liabilities

Short-term borrowings
Current maturities of long-term debt
Trade accounts payable
Accrued employee compensation and related taxes
Accrued liabilities
Other current liabilities

Total Current Liabilities

Long-term Debt
Deferred Income Taxes
Other Long-term Liabilities
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 2001 and 2000

Additional paid-in capital
Retained earnings
Accumulated other comprehensive loss
Treasury stock – 5,273,121 and 4,998,342 shares in 2001 and 2000, at cost

Total Shareholders’ Equity

The accompanying notes are an integral part of these consolidated ﬁnancial statements.

$ 36,136
230,046

$ 32,017
202,361

50,426
21,209
40,999
112,634
12,746
15,665
407,227

6,890
117,029
345,073
22,603
491,595
(283,937)
207,658
–
61,658
30,287
$ 706,830

$ 59,393
23
100,287
29,945
17,597
10,034
217,279
99,259
9,189
62,010

45,064
20,171
54,128
119,363
18,411
11,195
383,347

7,432
119,203
333,310
9,756
469,701
(265,156)
204,545
408
63,885
25,340
$ 677,525

$ 85,034
279
90,188
29,759
27,974
10,356
243,590
92,645
–
61,125

–

248,280
–
203,499
(24,235)
(108,451)
319,093
$ 706,830

248,280
2,967
142,176
(10,523)
(102,735)
280,165
$ 677,525

CONSOLIDATED STATEMENTS OF CASH FLOWS
Donaldson Company, Inc. and Subsidiaries

(Thousands of dollars) Year ended July 31,

2001

2000

1999

OPERATING ACTIVITIES
Net earnings
Adjustments to reconcile net earnings to net cash provided by operating activities

$ 75,548

$ 70,233

$ 62,447

Depreciation and amortization
Equity in (earnings) loss of affiliates
Deferred income taxes
Other

Changes in operating assets and liabilities, net of acquired businesses

Accounts receivable
Inventories
Prepaids and other current assets
Trade accounts payable and other accrued expenses

Net Cash Provided by Operating Activities

INVESTING ACTIVITIES
Purchases of property and equipment, net
Acquisitions and investments in affiliates

Net Cash Used in Investing Activities

FINANCING ACTIVITIES
Proceeds from long-term debt
Repayments of long-term debt
Change in short-term borrowings
Purchase of treasury stock
Dividends paid
Exercise of stock options

Net Cash (Used in) Provided by Financing Activities

Effect of exchange rate changes on cash

Increase (Decrease) in Cash and Cash Equivalents

Cash and Cash Equivalents, Beginning of Year
Cash and Cash Equivalents, End of Year

The accompanying notes are an integral part of these consolidated ﬁnancial statements.

38,577
(635)
7,093
(12,949)

(35,220)
2,816
2,838
4,731
82,799

(38,924)
–
(38,924)

9,462
(1,136)
(24,417)
(10,297)
(13,092)
525
(38,955)
(801)
4,119
32,017
$ 36,136

34,326
74
(449)
3,121

(5,704)
(26,227)
(3,316)
16,437
88,495

(36,417)
(88,220)
(124,637)

5,752
(4,522)
66,328
(35,923)
(12,384)
326
19,577
(1,053)
(17,618)
49,635
$ 32,017

27,686
(2,187)
489
10,344

(13,244)
21,382
(3,095)
(2,960)
100,862

(29,539)
(230)
(29,769)

35,546
(404)
(24,422)
(44,535)
(10,830)
1,617
(43,028)
(1,084)
26,981
22,654
$ 49,635

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
Donaldson Company, Inc. and Subsidiaries

(Thousands of dollars, except per share amounts)

BALANCE JULY 31, 1998

Common
Stock

$248,280

Additional
Paid-in
Capital

$ 1,570

Comprehensive income

Net earnings
Foreign currency translation
Comprehensive income

Treasury stock acquired
Stock options exercised
Performance awards
Tax reduction – employee plans
Cash dividends ($.23 per share)

BALANCE JULY 31, 1999

Comprehensive income

Net earnings
Foreign currency translation
Comprehensive income

Treasury stock acquired
Stock options exercised
Tax reduction – employee plans
Cash dividends ($.27 per share)

BALANCE JULY 31, 2000

Comprehensive income

Net earnings
Foreign currency translation
Additional minimum pension liability
Net gain on cash ﬂow hedging derivatives
Comprehensive income

Treasury stock acquired
Stock options exercised
Performance awards
Tax reduction – employee plans
Cash dividends ($.295 per share)

BALANCE JULY 31, 2001

(1,071)
1,334

248,280

1,833

1,134

248,280

2,967

(6,196)

3,229

$248,280

$ –

The accompanying notes are an integral part of these consolidated ﬁnancial statements.

Accumulated
Other
Comprehensive
Income (Loss)

Treasury
Stock

Total

$ (5,135)

$ (28,638)

$255,671

(535)

(44,535)
3,004
802

(5,670)

(69,367)

(4,853)

(35,923)
2,555

(10,523)

(102,735)

(13,717)
(341)
346

(10,297)
4,262
319

$(24,235)

$(108,451)

62,447
(535)
61,912
(44,535)
(346)
(443)
1,334
(10,830)
262,763

70,233
(4,853)
65,380
(35,923)
(805)
1,134
(12,384)
280,165

75,548
(13,717)
(341)
346
61,836
(10,297)
(3,058)
310
3,229
(13,092)
$319,093

Retained
Earnings

$ 39,594

62,447

(3,350)
(174)

(10,830)
87,687

70,233

(3,360)

(12,384)
142,176

75,548

(1,124)
(9)

(13,092)
$203,499

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Donaldson Company, Inc. and Subsidiaries

•A Summary of Signiﬁcant

Accounting Policies

Description of Business Donaldson Company, Inc., is a lead-
ing 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; air intake systems and exhaust products 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 three joint ventures.

Principles of Consolidation The consolidated ﬁnancial state-
ments 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 three 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. There were no signiﬁ-
cant foreign currency transaction gains or losses in 2001.
Foreign currency transaction losses of $0.2 million in
2000 and gains of $0.2 million in 1999 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 equiva-
lents are carried at cost which approximates market value.

Inventories Inventories are stated at the lower of cost or mar-
ket. 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 53 percent and 52 percent of
total inventories at July 31, 2001 and 2000, respectively.
The FIFO cost of inventories valued under the LIFO
method exceeded the LIFO carrying values by $22.5 million
and $21.2 million at July 31, 2001 and 2000, 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 facili-
ties 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.
Accelerated depreciation methods are generally used for
income tax purposes.

The estimated useful lives of property, plant and equip-

ment are as follows:

Buildings

Machinery and equipment

10 to 40 years

3 to 10 years

Intangible Assets Intangible assets, primarily consisting of
goodwill, are amortized on a straight-line basis over periods
ranging up to 20 years. Amortization expense was $3.8
million, $2.7 million and $0.7 million at July 31, 2001,
2000 and 1999, respectively. Accumulated amortization
was $9.6 million and $5.8 million as of July 31, 2001 and
2000, respectively.

Impairment of Long-Lived Assets The company reviews the
long-lived assets, including identiﬁable intangibles and asso-
ciated 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 recog-
nized for the expected future tax consequences attributed
to differences between the ﬁnancial statement carrying
amounts of existing assets and liabilities and their respec-
tive tax basis. Deferred tax assets and liabilities are mea-
sured using the enacted tax rates expected to apply to
taxable income in the years in which those temporary
differences are expected to reverse.

Comprehensive Income The company adopted Statement of
Financial Accounting Standards (SFAS) 130, “Reporting
Comprehensive Income,” in the ﬁrst quarter of ﬁscal 1999.
Comprehensive income consists of net income, foreign cur-
rency 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. Accumulated other
comprehensive income consists of accumulated foreign
currency translation adjustment, accumulated additional
minimum liability related to pension and accumulated net
gain or loss on cash ﬂow hedging derivatives. The adop-
tion of SFAS 130 had no impact on the company’s results
of operations or shareholders’ equity.

Earnings Per Share The company follows SFAS 128, “Earnings
per Share,” to present earnings per share calculations.
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 earn-
ings by the weighted average number of outstanding com-
mon 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)

Weighted average shares – basic

Dilutive shares

Weighted average shares – diluted

2001

44,381

1,231

45,612

Net earnings for basic and diluted

earnings per share computation

$75,548

Net earnings per share – basic

Net earnings per share – diluted

$ 1.70

$ 1.66

2000

45,716

948

46,664

$70,233

$ 1.54

$ 1.51

1999

46,899

894

47,793

$62,447

$ 1.33

$ 1.31

Treasury Stock Repurchased Common Stock is stated at
cost and is presented as a separate reduction of sharehold-
ers’ equity.

Research and Development All expenditures for research
and development are charged against earnings in the
year incurred.

Stock-Based Compensation SFAS 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 pre-
scribed 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 or performance of services is complete.

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 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,” effective beginning ﬁscal 2001.
SFAS 133 and SFAS 138 require the company to recognize
all derivatives on the balance sheet at fair value. Derivatives
that are not hedges must be 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 the hedged assets,
liabilities or ﬁrm commitments are recognized through
earnings or in other comprehensive income until the
hedged item is recognized in earnings. The ineffective
portion of a derivative’s change in fair value will be imme-
diately recognized in earnings. The company enters into
foreign exchange contracts and other hedging activities
to mitigate potential foreign currency gains and losses
relative to local currencies in the markets to which it sells.

In order to comply with the implementation requirements
of SFAS 133 and SFAS 138, the company undertook a
comprehensive review of its contractual relationships to
ensure that all potential free-standing and embedded
derivatives were identiﬁed. As a result, all of the
company’s existing derivative positions qualiﬁed for hedge
accounting per SFAS 133 and SFAS 138, and the impact of
adoption was not considered material to the company’s
results of operations or ﬁnancial position. The company’s
documentation policies for derivatives were revised as con-
sidered necessary to comply with SFAS 133 requirements.
However, the company made no substantive changes to
its risk management strategy as a result of adopting
SFAS 133 and SFAS 138. As a result of the implementa-
tion of SFAS 133 and SFAS 138, the company has recorded
a credit to other comprehensive income of $0.3 million for
the year ended July 31, 2001.

In June 2001 the company entered into an interest rate
swap agreement which was determined to be a fair value
hedge under SFAS 133 and SFAS 138 (see Note D). As of
July 31, 2001, the interest rate swap had a fair value of
$0.2 million which has been recorded as an increase to
long-term debt. As a result of adopting these new account-
ing standards, there has been no material impact on the
results of operations of the company for ﬁscal year ended
July 31, 2001.

New Accounting Standards In June 2001, the Financial
Accounting Standards Board 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, the pooling of
interest method of accounting is now prohibited; 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 annu-
ally, except in certain circumstances, and whenever there
is an impairment indicator; all acquired goodwill must be
assigned to reporting units for purposes of impairment
testing and segment reporting; effective August 1, 2002,

goodwill is no longer subject to amortization. The com-
pany has adopted the provisions of these statements
as of August 1, 2001. As required by SFAS 142, the com-
pany will perform an impairment test on goodwill and
other intangible assets as of the adoption date. Thereafter,
the company will perform impairment tests annually and
whenever events or circumstances occur indicating that
goodwill or other intangible assets might be impaired.
Beginning August 1, 2001, amortization of goodwill will
cease. Goodwill amortization expense was $3.8 million,
$2.7 million and $0.7 million at July 31, 2001, 2000 and
1999, respectively. The company estimates that goodwill
amortization expense would have been approximately

and Plant Opening

$3.5 million in 2002.•B Acquisitions, Plant Closure

Acquisitions All acquisitions were accounted for as purchases.
The purchase prices assigned to the net assets acquired
were 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. 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 AirMaze Corporation for $31.9 mil-
lion in cash effective November 1, 1999. AirMaze
Corporation 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 $26.8 million and has been recorded as good-
will which is being amortized on a straight-line basis over
20 years. AirMaze operations are a part of the company’s
Engine Products segment. As of July 31, 2001, the balance
of restructuring liabilities recorded in conjunction with the
acquisition was approximately $0.2 million for costs asso-
ciated with the termination and relocation of employees.
Costs incurred and charged to this reserve associated with
the termination and relocation of employees amounted
to $0.3 million for the ﬁscal year ended July 31, 2001.

The integration of AirMaze resulted in a reduction in the
work force of approximately 15 employees during ﬁscal
2001. Adjustments to this reserve for the ﬁscal year ended
July 31, 2001, amounted to a decrease of $0.7 million.
The remaining employee terminations and relocations
are expected to be completed by the end of ﬁscal 2002.

The company acquired the DCE dust control
business of Invensys, plc for $56.4 million effective
February 1, 2000. DCE, 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 $33.2 million
and has been recorded as goodwill which is being amor-
tized on a straight-line basis over 20 years. DCE
operations are part of the company’s Industrial Products
segment. As of July 31, 2001, the balance of restructuring
liabilities recorded in conjunction with the acquisition was
approximately $2.1 million of costs associated with the
closure and sale of acquired facilities as well as termination
and relocation of employees. Costs incurred and charged
to these reserves associated with the closure and sale of
acquired facilities amounted to $0.8 million for the ﬁscal
year ended July 31, 2001. Costs incurred and charged to
these reserves associated with the termination and reloca-
tion of employees amounted to $0.8 million during the year
ended July 31, 2001. The integration of DCE resulted in a
reduction in the work force of approximately 140 employ-
ees during ﬁscal 2001. Adjustments to these reserves for the
fiscal year ended July 31, 2001, amounted to an increase
of $0.9 million. The remaining closure or sale of facilities
and employee terminations and relocations are expected
to be completed by the end of ﬁscal 2002.

Plant Closures During 2001, the company closed its manu-
facturing 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 general
and administrative expense in the company’s consolidated
statement of earnings. For the closure of the Louisville
manufacturing facility, costs were charged against the
purchase liabilities recorded in conjunction with the acqui-
sition of DCE. See discussion of these purchase liabilities

in Note B. These charges were primarily related to sever-
ance and other employee related costs associated with the
elimination of approximately 130 positions in Mooresville
and 80 positions in Louisville.

During 2000, the company closed its manufacturing

facilities located in Oelwein, Iowa. The closure of the
facility was completed by the end of the calendar year.
A pretax charge of $2.8 million was recorded in ﬁscal
1999 in general and administrative expense in the com-
pany’s consolidated statement of earnings. The charge was
primarily related to severance and other employee related
costs associated with the elimination of approximately
125 positions.

Plant Opening 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.

•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
$50.0 million outstanding under this credit facility, leaving
$50.0 million available for further borrowing under such
facility at both July 31, 2001 and 2000. The weighted
average interest rate on short-term borrowings outstand-
ing at July 31, 2001 and 2000 was 3.99 percent and 6.83
percent, respectively.

The company also has three agreements under uncom-
mitted credit facilities which provide unsecured borrowings
for general corporate purposes. At July 31, 2001, there
was $35.0 million available for use under these facilities.
There was $7.7 million and $12.6 million outstanding
under these facilities at July 31, 2001 and 2000, respec-
tively. The weighted average interest rate on short-term
borrowings outstanding at July 31, 2001 and 2000 was
3.98 percent and 6.89 percent, respectively.

International subsidiaries may borrow under various
credit facilities. As of July 31, 2001 and 2000, borrowings
under these facilities were $1.7 million and $22.4 million,
respectively. The weighted average interest rate on these
international borrowings outstanding at July 31, 2001 and
2000 was 10.7 percent and 4.7 percent, respectively.

•D Long-Term Debt

(Thousands of dollars)

Long-term debt consists of the following:

6.20% Unsecured senior notes due July 15, 2005,
interest payable semi-annually, principal
payment of $23.0 million is due July 15, 2005

6.31% Unsecured senior notes due July 15, 2008,
interest payable semi-annually, principal
payment of $27.2 million is due July 15, 2008

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

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

1.51% Guaranteed note due March 28, 2006,

interest payable quarterly, principal amount
of .8 billion Yen is due March 28, 2006.

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 2.8%
as of July 31, 2001

Other

Total

Less current maturities

2001

2000

$23,000

27,157

27,000

25,000

9,592

10,962

6,395

–

8,000

138

99,282

5,667

1,295

92,924

279

Total long-term debt

$99,259

$92,645

Annual maturities of long-term debt for the next ﬁve
years are $32.6 million in 2005 and $6.4 million in 2006.
Annual maturities in 2002, 2003 and 2004 are not signiﬁ-
cant. 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 to hedge against the risk of higher bor-
rowing 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 mil-
lion 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 inter-
est expense of $45,000 for the year ended July 31, 2001.

Total interest paid relating to all debt was $11.1 million,

$9.1 million and $6.0 million in 2001, 2000 and 1999,
respectively. In addition, total interest expense recorded in
2001, 2000 and 1999 was $11.6 million, $9.9 million and
$7.0 million, respectively. Certain note agreements contain
debt covenants related to working capital levels and limi-
tations 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, 2001, the company was in
compliance with all such covenants.

•E Employee Beneﬁt Plans

Pension Plans Donaldson Company, Inc. and certain of its
subsidiaries have deﬁned beneﬁt pension plans for substan-
tially 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 interna-
tional 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 actu-
arial valuation date was changed from July 31 to April 30.
This change did not have a material impact on the actuar-
ial valuation.

Costs for the company’s pension plans include the fol-

lowing components:

(Thousands of dollars)

Net periodic cost:

Service cost

Interest cost

Expected return on assets

Transition amount amortization

Prior service cost amortization

Actuarial (gain) loss amortization

Curtailment loss

2001

2000

1999

$ 6,935

$ 6,084

$ 5,609

11,626

(12,862)

173

119

(829)

–

9,852

(11,475)

(1,097)

–

9,188

(10,006)

(1,097)

1,094

684

Net periodic beneﬁt cost

$ 5,162

$ 3,499

$ 5,502

The funded status of the company’s pension plans as of

April 30, 2001 and April 30, 2000, is as follows:

(Thousands of dollars)

Change in beneﬁt obligation:

Beneﬁt obligation, August 1

Adjustment for change in measurement date

Beneﬁt obligation, May 1

Addition of non-U.S. plans

Service cost

Interest cost

Participant contributions

Plan amendments

Actuarial (gain)/loss

Currency exchange rates

Acquisition

Beneﬁts paid

2001

N/A

$137,056

16,589

6,936

11,626

125

174

(10,012)

(2,022)

–

(10,371)

2000

$131,996

1,841

133,837

–

6,085

9,852

–

568

(11,472)

–

6,419

(8,233)

Beneﬁt obligations, April 30

$150,101

$137,056

Change in plan assets:

Fair value of plan assets, August 1

Adjustments for change in measurement date

Fair value of plan assets, May 1

Addition of non-U.S. plans

Actual return on plan assets

Company contributions

Participant contributions

Currency exchange rates

Acquisition

Beneﬁts paid

N/A

$146,210

7,857

(10,978)

11,250

125

(892)

–

(10,371)

$130,387

17,461

147,848

–

(1,659)

2,168

–

6,086

(8,233)

Fair value of plan assets, April 30

$143,201

$146,210

Reconciliation of funded status:

Funded (unfunded) status

$ (6,900)

$ 9,154

Unrecognized actuarial (gain) loss

Unrecognized prior service cost

Unrecognized net transition obligation

Fourth quarter contributions

2,322

2,527

3,792

1,891

(12,196)

2,472

(3,769)

Net amount recognized in consolidated

balance sheet

$ 3,632

(4,287)

Amounts recognized in consolidated balance

sheet consist of:

Prepaid beneﬁt cost

Accrued beneﬁt liability

Additional minimum liability

Intangible asset

Accumulated other comprehensive income

Net amount recognized in consolidated

$ 9,853

$ 4,614

(6,220)

(5,126)

4,784

341

(8,901)

(280)

280

–

balance sheet

$ 3,632

$ (4,287)

The 2000 actuarial valuation results have been revised

to reﬂect the ﬁnal valuation of a plan assumed in the
acquisition of AirMaze (see Note B).

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 $20.9 million, $17.1 million, and $5.8 million,
respectively, as of April 30, 2001 and $8.6 million, $5.4
million and $0.8 million, respectively, as of April 30, 2000.

Weighted-average actuarial assumptions April 30, 2001

July 31, 2000

July 31, 1999

Discount rate

Expected return on plan assets

Rate of compensation increase

7.50%

9.50%

5.50%

8.00%

9.00%

6.00%

7.50%

9.00%

6.00%

Pension expense related to international plans were
$4.3 million, $2.5 million and $2.5 million for 2001,
2000 and 1999, respectively.

401(k) Savings Plan The company provides a contributory
employee savings plan which permits participants to make
contributions by salary reduction pursuant to section 401(k)
of the Internal Revenue Code. The company’s contribu-
tions under this plan are based on the level of employee
contributions including a variable contribution based on
performance of the company. Total contribution expense
was $4.1 million, $4.2 million and $4.9 million for the
years ended July 31, 2001, 2000 and 1999, respectively.

•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, National
Association, as Rights Agent, one Right was issued on
March 4, 1996 for each outstanding share of Common
Stock, par value $5.00 per share, 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 condi-
tions 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 out-
standing Common Stock) to purchase Common Stock of
the company having a market value equal to twice the
exercise price of a Right. The new 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 1991, shareholders
approved the 1991 Master Stock Compensation Plan. The
Plan extends through December 2001 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
totaled $2.4 million and $1.7 million in 2001 and 2000,
respectively. There was no performance award expense in
1999. Options under the Plan are granted to key employees
at or above 100 percent of the 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 during ﬁscal 1999,
2000 and 2001 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. At July 31, 2001, options to purchase
3,464,159 shares are outstanding.

In ﬁscal 1997, the company adopted the disclosure-
only provisions of SFAS 123, “Accounting for Stock-Based
Compensation.” SFAS 123 encourages entities to adopt a
fair value-based method of accounting for 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 123 in ﬁscal 2001, 2000 and 1999, the company’s
net income and diluted earnings per share would have
been approximately $71.0 million and $1.56, and $67.7
million and $1.45, and $61.1 million and $1.28, respec-
tively. The pro forma effect on net income and earnings
per share is not representative of the pro forma net earn-
ings in future years because it does not take into consider-
ation pro forma compensation expense related to grants
made prior to 1996.

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 4.72 percent, 6.50
percent and 5.50 percent in 2001, 2000 and 1999, respec-
tively; two or seven year lives in 2001 and 2000 and two,
three, or seven year lives in 1999; expected volatility of
30.5 percent, 29.7 percent and 26.3 percent in 2001, 2000
and 1999, respectively; and 1 percent expected dividend
yield in 2001, 2000 and 1999. 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 2001, 2000 and 1999 is $8.01, $7.49 and
$5.62 per share, respectively.

The number and option price of options granted were

The components of the provision for income taxes are

as follows:

Outstanding at July 31, 1998

Granted

Exercised

Canceled

Outstanding at July 31, 1999

Granted

Exercised

Canceled

Outstanding at July 31, 2000

Granted

Exercised

Canceled

Options
Outstanding

Weighted
Average
Exercise Price

3,348,176

$12.95

495,149

(432,505)

(28,498)

3,382,322

489,086

(204,004)

(14,468)

3,652,936

862,515

(1,025,995)

(25,297)

20.10

8.65

18.35

14.50

23.01

10.09

20.41

15.86

26.04

12.88

21.19

as follows:

(Thousands of dollars)

Income Taxes:

Current:

Federal

State

Foreign

Deferred:

Federal

State

Foreign

Total

2001

2000

1999

$ 8,502

$18,192

$16,717

622

13,163

22,287

7,304

417

(628)

7,093

$29,380

2,361

9,996

30,549

(504)

(449)

2,471

7,086

26,274

426

489

$30,100

$26,763

The tax effects of temporary differences that give rise to

Outstanding at July 31, 2001

3,464,159

$19.24

deferred tax assets and liabilities are as follows:

At July 31, 2001 and 2000 there were 2,954,542 and

3,109,926 options exercisable, respectively. Shares
reserved at July 31, 2001 for outstanding options and
future grants were 8,140,639.

The following table summarizes information concern-

ing currently outstanding and exercisable options:

Range of
Exercise
Prices

$5 to $10

$10 to $15

$15 to $20

$20 to $25

Number
Outstanding

201,888

837,194

738,728

964,827

$25 and above

721,522

Weighted
Average
Remaining
Contractual
Life (Years)

1.21

2.69

6.11

7.22

8.34

Weighted
Average
Exercise
Price

$ 8.73

12.15

18.08

22.90

26.67

Number
Exercisable

201,888

837,194

670,441

794,297

450,722

Weighted
Average
Exercise
Price

$ 8.73

12.15

17.89

22.92

27.17

(Thousands of dollars)

Deferred tax assets:

Compensation and
retirement plans

Accrued expenses

NOL carryforwards

Inventories

Investment in joint venture

Cumulative translation

adjustment

Other

Gross deferred tax assets

2001

2000

1999

$ 3,619

$ 12,839

$ 8,950

6,938

6,092

1,938

636

–

3,215

22,438

7,818

8,174

1,526

754

4,574

3,162

38,847

9,617

3,560

1,595

588

2,494

3,267

30,071

Valuation allowance

$ (2,054)

$ (4,499)

$ (2,432)

Net deferred tax assets

20,384

34,348

27,639

Deferred tax liabilities:

Depreciation and amortization

(16,209)

$19.24

2,954,542

$18.41

Other

(618)

Gross deferred tax liabilities

(16,827)

Net deferred tax assets

$ 3,557

5.77

3,464,159

•G Income Taxes

(Thousands of dollars)

Earnings before income taxes:

United States

Foreign

Total

The components of earnings before income taxes are
as follows:

2001

2000

1999

$ 48,705

$ 54,913

56,223

45,420

$104,928

$100,333

$55,811

33,399

$89,210

(14,626)

(903)

(15,529)

$ 18,819

(11,235)

(1,625)

(12,860)

$ 14,779

The following table reconciles the U.S. statutory
income tax rate with the effective income tax rate:

Statutory U.S. federal rate

State income taxes

Foreign taxes at lower rates

Other

2001

35.0%

0.4

(8.2)

0.8

2000

35.0%

1.5

(6.1)

(0.4)

1999

35.0%

1.8

(5.5)

(1.3)

28.0%

30.0%

At July 31, 2001, certain international subsidiaries had
available net operating loss carryforwards of approximately
$20.0 million to offset future taxable income. The major-
ity of such carryforwards expire after 2003. Due to the
uncertainty of the realizability of a portion of these losses,
a valuation allowance of $2.1 million has been recorded
as of July 31, 2001. Unremitted earnings of international
subsidiaries amounted to approximately $133.5 million at
July 31, 2001. The majority of those earnings are intended
to be indeﬁnitely reinvested and, accordingly, no deferred
U.S. income taxes have been provided. If a portion were to
be remitted, foreign tax credits would substantially offset
any resulting incremental U.S. income tax liability. It is not
practicable to estimate the amount of unrecognized taxes
on these undistributed earnings due to the complexity of
the computation.

The company made cash payments for income taxes of

$16.2 million, $24.6 million and $20.8 million in 2001,

2000 and 1999, respectively.•H Segment Reporting

The company adopted SFAS 131, “Disclosures about
Segments of an Enterprise and Related Information,”
effective with ﬁscal year-end 1999. This standard requires
companies to disclose selected ﬁnancial data by operating
segment. A segment is deﬁned as a component with busi-
ness activity resulting in revenue and expense that has
separate ﬁnancial information evaluated regularly by the
company’s chief operating decision maker in determining
resource allocation and assessing performance. The com-
pany has identiﬁed two reportable segments: Engine
Products and Industrial Products. Segment selection was

based on the internal organizational structure, manage-
ment of operations and performance evaluation by man-
agement and the company’s Board of Directors.

The Engine Products segment sells to original equip-
ment manufacturers (OEMs) in the construction, indus-
trial, 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 ﬁltra-
tion systems and replacement ﬁlters.

The Industrial Products segment sells to various indus-

trial end-users, OEMs of gas-ﬁred turbines, OEMs and
end-users requiring highly puriﬁed air. Products include
dust, fume and mist collectors, static and pulse-clean air
ﬁlter systems and specialized air ﬁltration systems.

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 com-
plex allocation methodology to assign costs and assets
to the segments. A certain amount of costs and assets are
assigned to intercompany activity and are 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 receiv-

able, inventories and property, plant and equipment.
Reconciling items included in Corporate and Unallocated
are created based on accounting differences between seg-
ment reporting and the consolidated, external reporting
as well as internal allocation methodologies.

Segment detail is summarized as follows (in thousands):

Following are net sales by product within the Engine

2001
Net sales

Depreciation and

amortization

Equity earnings in

unconsolidated
affiliates

Earnings before
income taxes

Assets

Equity investments in
unconsolidated
affiliates

Capital expenditures,
net of acquired
businesses

2000

Net sales

Depreciation and

amortization

Equity earnings in

unconsolidated
affiliates

Earnings before
income taxes

Assets

Equity investments in
unconsolidated
affiliates

Capital expenditures,
net of acquired
businesses

1999

Net sales

Depreciation and

amortization

Equity earnings in

unconsolidated
affiliates

Earnings before
income taxes

Assets

Equity investments in
unconsolidated
affiliates

Capital expenditures,
net of acquired
businesses

Engine
Products

Industrial
Products

Corporate &
Unallocated

Total
Company

$606,810

$530,205

$ –

$1,137,015

23,100

11,268

4,209

38,577

3,017

–

3,017

49,539

315,706

72,891

228,505

(17,502)

162,619

104,928

706,830

Products segment and Industrial Products segment:

(In thousands)

2001

2000

1999

Engine Product segment:

Off-road products

$ 181,795

$ 193,229

$181,200

Transportation products

Aftermarket products

Total Engine Product

segment

Industrial Product segment:

79,670

345,345

151,950

328,803

162,291

267,887

606,810

673,982

611,378

Dust collection products

Gas turbine products

Special application products

217,343

195,042

117,820

193,119

117,038

108,155

153,480

84,229

95,052

332,761

$944,139

14,115

–

14,115

Total Industrial Product

segment

530,205

418,312

Total company

$1,137,015

$1,092,294

23,308

11,370

4,246

38,924

$673,982

$418,312

$ –

$1,092,294

equipment (in thousands):

Geographic sales by origination and property, plant and

20,959

8,509

4,858

34,326

4,392

–

4,392

57,453

320,805

53,862

172,837

(10,982)

183,883

100,333

677,525

13,600

–

13,600

22,236

9,028

5,153

36,417

$611,378

$332,761

$ –

$ 944,139

18,486

7,506

1,694

27,686

3,610

–

3,610

61,896

327,035

36,373

160,201

(9,059)

55,010

89,210

542,246

2001

United States

Europe

Asia-Paciﬁc

Other

Total

2000

United States

Europe

Asia-Paciﬁc

Other

Total

1999

United States

Europe

Asia-Paciﬁc

Other

Total

Net Sales

Property, Plant &
Equipment – Net

$ 711,268

$138,631

211,397

185,395

28,955

36,801

19,609

12,617

$1,137,015

$207,658

$ 688,899

$135,480

206,429

166,221

30,745

37,698

22,304

9,063

$1,092,294

$204,545

$ 616,254

$122,513

166,431

138,453

23,001

28,616

21,911

9,140

$ 944,139

$182,180

13,833

–

13,833

19,723

8,008

1,808

29,539

Sales to one customer accounted for 12 percent of
net sales in 2001. There were no sales over 10 percent of
net sales to any customer in 2000. Sales to one customer
accounted for 11 percent of net sales in 1999.

•I

2001

Net Sales

(Thousands of dollars,

except per share amounts)

Gross Margin

Net Earnings

Diluted Earnings
Per Share

Dividends Declared
Per Share

2000

Net Sales

Gross Margin

Net Earnings

Diluted Earnings
Per Share

Quarterly Financial
Information (Unaudited)

First
Quarter

Second
Quarter

Third
Quarter

Fourth
Quarter

$289,869

$279,631

$269,721

$297,794

85,956

16,804

.37

.075

86,316

18,105

.40

.075

79,180

17,826

.39

.075

90,282

22,813

.50

.075

$246,550

$259,256

$285,277

$301,211

73,881

17,008

79,595

17,406

84,812

17,450

89,233

18,369

.40

.07

.36

.37

.38

.07

Dividends Declared
Per Share

•J Commitments and Contingencies

The company is involved in litigation arising in the ordi-
nary course of business. In the opinion of management,
the outcome of litigation currently pending will not mate-
rially affect the company’s results of operations, ﬁnancial
condition or liquidity.

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 corpora-
tion) 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 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.
An audit also includes assessing the accounting principles
used and signiﬁcant estimates made by management, as
well as evaluating the overall ﬁnancial statement presenta-
tion. 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.

Minneapolis, Minnesota,
August 27, 2001

WORLDWIDE OPERATIONS

World Headquarters
Donaldson Company, Inc.
Minneapolis, Minnesota

U.S. Plants
Auburn, Alabama
Old Saybrook, Connecticut
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

Subsidiaries
Torit Australia Pty. Ltd.
Sydney, Australia

Donaldson Filtration Industrial
S. de R.L. de C.V.
Monterrey, Mexico

Donaldson Australasia Pty. Limited
Wyong, Australia

Donaldson Torit, B.V.
Haarlem, Netherlands

Donaldson Sales, Inc.
Barbados

DCE Benelux B.V.
Krommenie, Netherlands

Donaldson Coordination Center, B.V.B.A.
Leuven, Belgium

Donaldson Europe, B.V.B.A.
Leuven, Belgium
Brugge, Belgium (plant)

DCE Scandinavia APS
Horsholm, Denmark

Donaldson France, S.A.S.
Bron, France

Tecnov Donaldson, S.A.S.
Domjean, France

DCE S.A.
Paris, France

DCE Neotechnik GmbH
Bielefeld, Germany

Donaldson Gesellschaft m.b.H.
Dülmen, 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

Air Master China Ltd.
Hong Kong, S.A.R., People’s Republic
of China

Donaldson Far East Limited
Hong Kong, S.A.R., People’s Republic
of China

Guilin Air King Enterprises Ltd.
Guilin, People’s Republic of China

Donaldson (Wuxi) Filters Co., Ltd.
Wuxi, People’s Republic of China

Donaldson Filtration (Asia Paciﬁc)
Pte. Ltd.
Singapore

Donaldson Filtration Systems
(Proprietary) Ltd.
Cape Town, South Africa

Donaldson Korea Co., Ltd.
Seoul, South Korea

DCE Donaldson Sistemas
de Filtracion, S.L.
Barcelona, Spain

Donaldson Filtros Iberica S.L.
Madrid, Spain

Donaldson Filter Components Limited
Hull, United Kingdom

DCE Donaldson Ltd.
Leicester, United Kingdom

Tetratec Europe Limited
Wigan, United Kingdom

CORPORATE AND SHAREHOLDER INFORMATION

NYSE Listing

Annual Meeting

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.

Dividend Reinvestment Plan

As of September 21, 2001, 1,107 of Donaldson Company’s
approximately 1,799 shareholders of record were partici-
pating 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.

The annual meeting of shareholders will be held at 10 a.m.
on Friday, November 16, 2001, 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

Arthur Andersen 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

SIX-YEAR QUARTERLY HIGH-LOW STOCK PRICES

High

13.19

13.06 13.94 14.00

14.63

17.00 18.31 20.38

27.19

25.69 26.19 25.13

21.94

21.00 23.50 25.88

23.50

24.81 24.06 24.25

23.86

29.48 28.92 33.05

Low

11.94

12.06 12.81 12.00

12.69

14.31 15.38 17.75

20.31

22.25 22.63 18.56

14.44

17.69 17.25 21.94

19.50

20.63 20.25 19.13

19.13

21.62 24.39 27.30

1996

1997

1998

1999

2000

2001

BOARD OF DIRECTORS

F. Guillaume Bastiaens, 58,
Vice Chairman,
Cargill, Inc., Minneapolis
(Agribusiness).
Director since 1995.(2) (3)

Jack W. Eugster, 56,
Non-Executive Chairman,
ShopKo Stores, Inc., Green Bay, WI
(Specialty Discount Retailer).
Director since 1993.(1) (3)

Paul B. Burke, 45,
Chairman and Chief Executive Officer,
BMC Industries, Inc., Minneapolis
(Manufacturing).
Director since 1996.(1) (3)

John F. Grundhofer, 62,
Chairman,
U.S. Bancorp, Minneapolis
(Financial Services).
Director since 1997.(1) (3)

Janet M. Dolan, 52,
President and Chief Executive Officer,
Tennant Company, Minneapolis
(Manufacturing).
Director since 1996.(2) (3)

Kendrick B. Melrose, 61,
Chairman and Chief Executive Officer,
The Toro Company, Minneapolis
(Manufacturing).
Director since 1991.(1) (2)

Jeffrey Noddle, 55,
President and Chief Executive Officer,
SUPERVALU INC., Minneapolis
(Food Retailer and Distributor).
Director since 2000.(1) (2)

S. Walter Richey, 65,
Retired Chairman, President
and Chief Executive Officer,
Meritex, Inc., Minneapolis
(Distribution Services).
Director since 1991.(2) (3)

Stephen W. Sanger, 55,
Chairman and Chief
Executive Officer,
General Mills, Inc., Minneapolis
(Consumer Products).
Director since 1992.(1) (2)

William G. Van Dyke, 56,
Chairman, President and
Chief Executive Officer,
Donaldson Company, Inc.
Director since 1994.

(1) Human Resources Committee

(2) Audit Committee

(3) Corporate Governance Committee

CORPORATE OFFICERS

William G. Van Dyke, 56,
Chairman, President and
Chief Executive Officer.
29 years service.

Nickolas Priadka, 55,
Senior Vice President,
Engine Systems and Parts.
32 years service.

Norman C. Linnell, 42,
Vice President, General Counsel
and Secretary.
6 years service.

William M. Cook, 48,
Senior Vice President, International
and Chief Financial Officer.
21 years service.

James R. Giertz, 44,
Senior Vice President,
Commercial and Industrial.
8 years service.

Lowell F. Schwab, 53,
Senior Vice President, Operations.
22 years service.

John E. Thames, 51,
Vice President, Human Resources.
13 years service.

Dale M. Couch, 58,
Vice President and General Manager,
Asia Paciﬁc.
4 years service.

Geert Henk Touw, 56,
Vice President and General Manager,
Europe/Africa/Middle East.
16 years service.

Thomas A. Windfeldt, 52,
Vice President, Controller
and Treasurer.
21 years service.

Donaldson Company, Inc.
1400 West 94th Street
Minneapolis, Minnesota
U.S.A.

(952) 887-3131
www.donaldson.com

Mailing Address:
P.O. Box 1299
Minneapolis, Minnesota
55440 U.S.A