Donaldson Company Reports Third Quarter 2019 Earnings

Donaldson Company, Inc. (NYSE: DCI) today reported third quarter net
earnings of $75.2 million, an increase of 7.6 percent from $69.9 million
in 2018. Third quarter 2019 GAAP earnings per share (EPS) increased 9.4
percent to $0.58 from $0.53 last year.

“We remain on pace to deliver record levels of sales and profit in 2019,
with third quarter performance reflecting strong growth in our
strategically important ‘Advance and Accelerate’² businesses
and modest year-over-year gross margin improvement in both segments,”
said Tod Carpenter, chairman, president and chief executive officer.
“While we built momentum in gross margin, a notable decline in customer
backlogs and orders toward the end of the quarter resulted in
lower-than-expected sales against our already modest forecast.

“Volatility continued into this quarter as uneven demand and apparent
destocking suggest that our customers are taking an increasingly
cautious stance in light of market uncertainties. Given these dynamics,
we revised our fourth quarter sales and profit projections for Off-Road,
Aftermarket and Industrial Filtration Solutions to reflect the current
operating environment.

“In all market conditions, we focus on operational excellence and strong
execution of our strategic priorities. To deliver our sales targets and
meaningful operating margin growth through fiscal 2021, we are balancing
cost-optimization with further investments in strategically important
businesses, like process filtration and our innovative air and fuel
products. We also remain committed to returning cash to shareholders,
illustrated by the recently announced 10.5 percent increase to our
quarterly dividend and a new share repurchase authorization. With our
focused approach to planning and disciplined capital deployment, we
believe we are well-positioned to deliver long-term profitable growth.”

Performance Overview

Third quarter 2019 sales increased 1.8 percent to $712.8 million from
$700.0 million in third quarter 2018. Currency translation negatively
impacted the year-over-year sales growth by 4.1 percentage points, which
was partially offset by the following items:

• Price increases added approximately 1.5 percentage points,
• The acquisition of BOFA International LTD (BOFA), which was completed
  during first quarter 2019, added approximately 1.4 percentage points,
  and
• Adoption of the revenue recognition accounting standard (revenue
  recognition) added approximately 0.5 percentage points.³

Third quarter sales of Engine Products (Engine) increased 3.6 percent
from last year, including a negative impact from currency translation of
4.1 percent, partially offset by benefits of 1.7 percent from pricing
and 0.8 percent from revenue recognition. Aerospace and Defense sales
increased across the business unit. On-Road sales reflect continued
strength in the US/CA market, partially offset by declining sales in
APAC. Market conditions became increasingly mixed for Aftermarket and
Off-Road, with variability by geographic region combined with order
volatility from some of Donaldson’s largest customers.

Third quarter sales of Industrial Products (Industrial) decreased 1.9
percent from last year, including benefits of 4.4 percent from BOFA and
1.1 percent from pricing, partially offset by a negative impact from
currency translation of 4.2 percent. Sales of Industrial Filtration
Solutions (IFS) increased 1.9 percent, reflecting benefits from BOFA and
replacement parts, partially offset by lower sales of new equipment. Gas
Turbine Systems (GTS) sales were down due to lower new equipment sales,
and the Special Applications (SA) sales decline was due to Disk Drive
filters.

Third quarter 2019 operating income as a rate of sales (operating
margin) declined to 14.0 percent from 14.2 percent in 2018,⁴
with revenue recognition driving half the change.

Third quarter gross margin of 33.8 percent was below the prior year by
0.4 percentage points, or 0.2 percentage points when adjusting for
revenue recognition. The year-over-year decline in gross margin was
driven by higher raw materials and supply chain costs, partially offset
by price increases. Operating expense as a percent of sales improved
0.3 percentage points to 19.7 percent from 20.0 percent in 2018,
reflecting lower incentive compensation expense, partially offset by
higher salary and other employee-related expenses.

Other income declined to $4.7 million in third quarter 2019 from $4.8
million in 2018, while third quarter 2019 interest expense declined to
$5.2 million from $5.4 million in 2018. Donaldson’s third quarter 2019
tax rate declined to 24.5 percent from 29.4 percent last year, due
primarily to a lower U.S. corporate tax rate, combined with benefits
from stock option activity and other discrete tax benefits.

During third quarter 2019, Donaldson repurchased 49 thousand shares of
its common stock at an average price of $49.99 for a total investment of
$2.4 million. Year to date, the Company repurchased 1.6 percent of its
outstanding shares for a total investment of $104.4 million. Donaldson
paid dividends in third quarter of $24.2 million and year-to-date of
$72.9 million.

Fiscal 2019 Outlook

Donaldson now expects fiscal 2019 EPS between $2.20 and $2.24, compared
with prior guidance of $2.27 to $2.41.

The Company now expects full-year sales will increase between 3.5 and
4.5 percent, which includes a negative impact from currency of
approximately 3 percent and a benefit from BOFA of 1 percent. The
midpoint of the revised sales guidance range is approximately 3 percent
below prior guidance, driven by changes to the Aftermarket, Off-Road and
IFS forecasts. Sales forecasts for all other business units are
consistent with prior guidance.

Fiscal 2019 Engine sales are projected to increase between 3.5 and 4.5
percent, including a negative impact of approximately 3 percent from
currency that is partially offset by 1 percent from revenue recognition.
Fiscal 2019 sales of On-Road, Aftermarket and Aerospace and Defense are
expected to increase from 2018, while Off-Road sales are expected to
decline.

Fiscal 2019 Industrial sales are projected to increase between 4.0 and
5.0 percent, including a benefit from BOFA of approximately 4 percent
that is partially offset by a negative impact from currency translation
of 3 percent. Fiscal 2019 sales in IFS are expected to increase from
2018, while the Company continues to forecast sales declines in GTS and
SA.

Donaldson expects fiscal 2019 operating margin between 13.8 and 14.2
percent, or 0.4 percentage points below the prior guidance range. The
midpoint of the revised range implies a year-over-year increase of 0.2
percentage points, or 0.3 percentage points when adjusting for the
dilution from revenue recognition.

The Company updated its forecast for full-year interest expense to $20
million from $21 million. Other income is forecast between $6 million
and $8 million, with a midpoint that is consistent with prior guidance.
Donaldson’s fiscal 2019 effective income tax rate is forecast between
24.4 and 25.4 percent, with a midpoint that is 0.6 percentage points
below prior guidance.

The Company expects fiscal 2019 capital expenditures of about $150
million, which is the high end of the prior guidance range, and cash
conversion between 60 and 65 percent. Donaldson expects to repurchase
approximately 2 percent of its outstanding shares during fiscal 2019.

Accounting Considerations

On August 1, 2018, Donaldson adopted the FASB standards ASU 2014-09, Revenue
from Contracts with Customers (“revenue recognition”), and ASU
2017-07, Compensation – Retirement Benefits (“pension
accounting”).

Donaldson elected to adopt the new revenue recognition standard using
the modified retrospective method; therefore, fiscal 2019 results will
be presented in conformity with the new standard, while results prior to
August 1, 2018, will conform to the previous standard. Adoption of the
new standard resulted in additional sales in third quarter and
year-to-date 2019 of $3.7 million and $10.3 million, respectively, and a
reduction to gross profit of $0.1 million and $0.7 million, respectively.

Under the new pension accounting standard, Donaldson will continue to
report the service component of retirement costs in operating income and
the non-service components will now be reported in other income. The new
standard requires use of a retrospective method in accounting for the
change; therefore, results in all periods presented will conform with
the new standard. Restating fiscal 2018 results reduces full-year 2018
operating margin by approximately 0.1 percentage point, reflecting a
decline of 0.2 percentage points in each of the first three quarters,
while the restated fourth quarter 2018 operating margin increases by
approximately 0.2 percentage points. These adjustments are offset by a
corresponding change to other income.

Following the Federal Tax Cuts and Jobs Act (TCJA) enactment in December
2017, the Company engaged in additional efforts related to global cash
optimization. TCJA-related matters resulted in a year-to-date 2019
benefit of $0.4 million, compared with charges of $110.1 million in
2018. The fiscal 2019 and 2018 amounts are excluded from the Company’s
calculation of adjusted earnings. The tables attached to this press
release include a reconciliation of GAAP to non-GAAP measures.

Miscellaneous

The Company will webcast its third quarter 2019 earnings conference call
today at 9:00 a.m. CDT. To listen to the webcast, visit the “Events &
Presentations” section of Donaldson’s Investor Relations website (IR.Donaldson.com),
and click on the “listen to webcast” option. The webcast replay will be
available at approximately 12:00 p.m. CDT today.

Statements in this release regarding future events and expectations,
such as forecasts, plans, trends and projections relating to the
Company’s business and financial performance, are forward-looking
statements within the meaning of the Private Securities Litigation
Reform Act of 1995, and are identified by words or phrases such as “will
likely result,” “are expected to,” “will continue,” “will allow,”
“estimate,” “project,” “believe,” “expect,” “anticipate,” “forecast,”
“plan,” and similar expressions. These forward-looking statements speak
only as of the date such statements are made and are subject to risks
and uncertainties that could cause the Company’s results to differ
materially from these statements. These factors include, but are not
limited to, economic and industrial market conditions worldwide; the
Company’s ability to maintain certain competitive advantages; threats
from disruptive innovation; pricing pressures; the Company’s ability to
protect and enforce its intellectual property rights; the difficulties
in operating globally; customer concentration in certain cyclical
industries; unavailable raw materials or material cost inflation;
inability of operations to meet customer demand; difficulties with
information technology systems and security; foreign currency
fluctuations; governmental laws and regulations; changes in tax laws and
regulations and results of examinations; the Company’s ability to
attract and retain qualified personnel; changes in capital and credit
markets; execution of the Company’s acquisition strategy; the
possibility of intangible asset impairment; the Company’s ability to
manage productivity improvements; unexpected events and the disruption
on operations; the Company’s ability to maintain an effective system of
internal control over financial reporting. These and other risks and
uncertainties are described in Item 1A of the Company’s Annual Report on
Form 10-K for the year ended July 31, 2018. The Company makes these
statements as of the date of this disclosure and undertakes no
obligation to update them unless otherwise required by law. The results
presented herein are preliminary, unaudited and subject to revision
until the Company files its results with the United States Securities
and Exchange Commission on Form 10-Q.

About Donaldson Company

Founded in 1915, Donaldson Company is a global leader in the filtration
industry with sales, manufacturing and distribution locations around the
world. Donaldson’s innovative technologies are designed to solve complex
filtration challenges and enhance customers’ equipment performance. For
more information, visit www.Donaldson.com.

Although free cash flow, EBITDA, adjusted net earnings, adjusted diluted
EPS and adjusted effective tax rate are not measures of financial
performance under GAAP, the Company believes they are useful in
understanding its financial results. Free cash flow is a commonly used
measure of a company’s ability to generate cash in excess of its
operating needs. EBITDA is a commonly used measure of operating earnings
less non-cash expenses. The Company evaluates its results of operations
both on an as reported and a constant currency basis. The constant
currency presentation, which is a non-GAAP measure, excludes the impact
of fluctuations in foreign currency exchange rates. The Company believes
providing constant currency information provides valuable supplemental
information regarding its results of operations. The Company calculates
constant currency percentages by converting its current period local
currency financial results using the prior period exchanges rates and
compared these adjusted amounts to its prior period reported results.
The adjusted basis presentation excludes the impact of certain matters
not related to the Company’s ongoing operations. A shortcoming of these
financial measures is that they do not reflect the Company’s actual
results under GAAP. Management does not intend these items to be
considered in isolation or as a substitute for the related GAAP measures.

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