DCI US Equity☆

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) provides a comparison of the Company’s results of operations, as well as liquidity and capital resources for the years ended July 31, 2021 and 2020. A discussion of changes in the Company’s results of operations and liquidity and capital resources for the year ended July 31, 2020 from July 31, 2019 can be found in Part II, “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” of the Company’s Annual Report on Form 10-K for the year ended July 31, 2020 (the “2020 Annual Report”), which was filed with the SEC on September 25, 2020.

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The MD&A should be read in conjunction with the Company’s Consolidated Financial Statements and Notes included in Item 8 of this Annual Report. This discussion contains forward-looking statements that involve risks and uncertainties. The Company’s actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors, including those discussed elsewhere in this Annual Report, particularly Item 1A, “Risk Factors” and in the Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995, below.

Throughout this MD&A, the Company refers to measures used by management to evaluate performance, including a number of financial measures that are not defined under generally accepted accounting principles (GAAP) in the U.S. Excluding foreign currency translation from net sales and net earnings (i.e. constant currency) are not measures of financial performance under GAAP; however, the Company believes they are useful in understanding its financial results and provide comparable measures for understanding the operating results of the Company between different fiscal periods. Reconciliations within this MD&A provide more details on the use and derivation of these measures.

Overview

The Company is a global manufacturer of filtration systems and replacement parts. The Company’s core strengths include leading filtration technology, strong customer relationships and its global presence. Products are manufactured and sold around the world. Products are sold to OEMs, distributors, dealers and directly to end users.

The Company’s operating segments are Engine Products and Industrial Products. The Engine Products segment consists of replacement filters for both air and liquid filtration applications, air filtration systems, liquid filtration systems for fuel, lube and hydraulic applications, exhaust and emissions systems and sensors, indicators and monitoring systems. The Engine Products segment sells to OEMs in the construction, mining, agriculture, aerospace, defense and transportation end markets and to independent distributors, OEM dealer networks, private label accounts and large fleets. The Industrial Products segment consists of dust, fume and mist collectors, compressed air purification systems, gas and liquid filtration for food, beverage and industrial processes, air filtration systems for gas turbines, PTFE membrane-based products and specialized air and gas filtration systems for applications including hard disk drives and semi-conductor manufacturing and sensors, indicators and monitoring systems. The Industrial Products segment sells to various dealers, distributors, OEMs and end users.

Coronavirus (COVID-19) Pandemic

The effects of the ongoing COVID-19 pandemic continue to impact global economic conditions. Management cannot predict with specificity the extent and duration of any future impact on the Company’s business and financial results from the COVID-19 pandemic.

Supply Chain Disruptions

The Company’s supply chain and manufacturing operations have experienced logistical and production constraints, and may continue to experience such constraints in the future. The supply chain disruptions the Company experienced due to a labor shortage, reduced freight transportation capacity and timing in receiving certain raw materials slowed the Company’s production speed and increased lead times. The Company has undertaken steps to mitigate the supply chain disruptions, such as qualifying additional suppliers. These disruptions impeded the Company’s ability to meet strengthening demand. This dynamic is expected to remain into fiscal 2022.

Inflation

In connection with the supply chain disruptions described above, the Company has experienced the effects of inflation related to raw materials and operating expenses. These inflationary pressures typically have an adverse impact on profit margins, particularly in the near term, because the Company is limited in its ability to pass cost increases onto certain of its customers due to fixed pricing under contracts that are not subject to adjustment until certain conditions are met or sometimes until the next renewal of the contract. In addition, there may be competitive pricing pressures in the markets in which the Company operates. These inflationary pressures impacted results in the second half of fiscal 2021 and are expected to continue in fiscal 2022.

Consolidated Results of Operations

Net sales for the year ended July 31, 2021 were$2,853.9 million, compared with $2,581.8 million for the year ended July 31, 2020, an increase of $272.1 million, or 10.5%, including a positive impact from foreign currency translation of $78.0 million. On a constant currency basis, net sales for the year ended July 31, 2021 increased 7.5% from the prior year.

Net earnings for the year ended July 31, 2021 were $286.9 million, compared with $257.0 million for the year ended July 31, 2020, an increase of $29.9 million, or 11.6%. Diluted earnings per share were $2.24 for the year ended July 31, 2021, compared with $2.00 for the year ended July 31, 2020, an increase of 12.0%.

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Operating Results

Operating results were as follows (in millions, except per share amounts):

Year Ended July 31,

Net earnings per share – diluted $ 2.24 $ 2.00

Net Sales

Net sales by operating segment were as follows (in millions):

Year Ended July 31,

Net Sales by Origination

Net sales, generally disaggregated by location where the customer’s order was received, were as follows (in millions):

Year Ended July 31,

Impact of Foreign Currency Translation on Net Sales

Net sales were impacted by fluctuations in foreign currency exchange rates. The impact was as follows (in millions):

Year Ended July 31,

Change in net sales excluding translation 194.1 (225.0)

Impact of foreign currency translation (1) 78.0 (38.1)

(1)The impact of foreign currency translation was calculated by translating current fiscal year foreign currency net sales into U.S. dollars using the average foreign currency exchange rates for the prior fiscal year.

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Net Sales

Net sales for the year ended July 31, 2021, increased $272.1 million, or 10.5% from fiscal 2020, reflecting higher sales in the Engine Products segment of $230.2 million, or 13.3%, and the Industrial Products segment of $41.9 million, or 4.9%. Foreign currency translation increased total net sales by $78.0 million compared to the prior fiscal year, reflecting increases in the Engine and Industrial Products segments of $48.0 million and $30.0 million, respectively. In fiscal 2021, the Company’s net sales increased as a result of the improved economic conditions, which increased demand most notably for the Engine Products segment, particularly in the second half of the fiscal year.

Gross Margin

Cost of sales for the year ended July 31, 2021 was $1,882.2 million, compared with $1,710.2 million for the year ended July 31, 2020, an increase of $172.0 million, or 10.1%. Gross margin for the year ended July 31, 2021 was 34.0% compared with 33.8% for the year ended July 31, 2020, an increase of 0.2%. Gross margin benefited from an increased leverage from higher sales and increased pricing, partially offset by increased raw material and freight costs, an unfavorable sales mix and restructuring charges of $5.8 million.

Operating Expenses

Operating expenses for the year ended July 31, 2021 were $587.0 million, or 20.6% of net sales, compared with $531.5 million, or 20.6% of net sales, for the year ended July 31, 2020, an increase of $55.5 million, or 10.4%. Operating expenses as a percentage of net sales were flat, resulting from increased incentive compensation and restructuring charges of $9.0 million, offset by increased leverage from higher sales.

Non-Operating Items

Interest expense for the year ended July 31, 2021 was $13.0 million, compared with $17.4 million, for the year ended July 31, 2020, a decrease of $4.4 million, or 25.0%. The decrease was primarily due to lower debt levels.

Other income, net for the year ended July 31, 2021 was $9.3 million, compared with $12.5 million, for the year ended July 31, 2020, a decrease of $3.2 million, or 25.7%. The decrease was related to costs associated with the Company’s support of its communities.

Income Taxes

The effective tax rates were 24.7% and 23.3% for the years ended July 31, 2021 and 2020, respectively. The higher effective tax rate was primarily due to an overall decrease in discrete tax benefits.

Net Earnings

Net earnings for the year ended July 31, 2021 were $286.9 million, compared with $257.0 million for the year ended July 31, 2020, an increase of $29.9 million, or 11.6%. Diluted earnings per share were $2.24 for the year ended July 31, 2021, compared with $2.00 for the year ended July 31, 2020.

Net earnings were impacted by fluctuations in foreign currency exchange rates. The impact of these fluctuations on net earnings was as follows (in millions):

Year Ended July 31,

Change in net earnings excluding translation 19.1 (7.2)

Impact of foreign currency translation (1) 10.8 (3.0)

Current year net earnings $ 286.9 $ 257.0

(1)The impact of foreign currency translation was calculated by translating current fiscal year foreign currency net earnings into U.S. dollars using the average foreign currency exchange rates for the prior fiscal year.

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Restructuring

In the second quarter of fiscal 2021, the Company initiated activities to further improve its operating and manufacturing cost structure, primarily in its EMEA region. These activities resulted in restructuring charges, primarily related to severance, of $14.8 million in the second quarter of fiscal 2021. Charges of $5.8 million were included in cost of sales and $9.0 million were included in operating expenses in the Consolidated Statement of Earnings for year ended July 31, 2021. Charges of $2.5 million relate to the Engine Products segment, $6.5 million relate to the Industrial Products segment and $5.8 million were included in Corporate and unallocated. For the year ended July 31, 2021, $4.5 million of the restructuring charges were paid and $10.3 million were accrued as of July 31, 2021. The Company expects approximately $8 million in annualized savings from these restructuring activities once completed by the beginning of the third quarter of fiscal 2022.

Segment Results of Operations

Net sales and earnings before income taxes were as follows (in millions):

Year Ended July 31,

Net sales

Earnings before income taxes

(1)Corporate and unallocated includes corporate expenses determined to be non-allocable to the segments, such as interest expense, certain incentive compensation and restructuring charges.

(2)The increase from fiscal 2020 to 2021 was driven by higher variable incentive compensation.

Engine Products Segment

Net sales were as follows (in millions):

Year Ended July 31,

Net sales for the Engine Products segment for the year ended July 31, 2021 were $1,957.7 million, compared with $1,727.5 million for the year ended July 31, 2020, an increase of $230.2 million, or 13.3%. Excluding a $48.0 million increase from foreign currency translation, net sales increased 10.5%.

Net sales of Off-Road were $328.1 million, an increase of 27.9% compared with the year ended July 31, 2020. In constant currency, net sales increased $59.8 million, or 23.3%. Off-Road net sales increased in every major region, with strong growth in EMEA and APAC, due to increased levels of equipment production as economic conditions improved compared to the prior year, which had experienced a greater impact from the COVID-19 pandemic.

Net sales of On-Road were $138.8 million, an increase of 11.5% compared with the year ended July 31, 2020. In constant currency, net sales increased $11.9 million, or 9.5%. On-Road sales reflected strong growth particularly in EMEA and APAC, with overall net sales higher in every major region due to increased levels of equipment production driven by greater new truck demand due to improved economic conditions.

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Net sales of Aftermarket were $1,394.6 million, an increase of 13.5% compared with the year ended July 31, 2020. In constant currency, net sales increased $133.8 million, or 10.9%. Aftermarket net sales experienced broad growth across all regions as economic conditions improved.

Net sales of Aerospace and Defense were $96.2 million, a decrease of 18.3% compared with the year ended July 31, 2020. In constant currency, net sales decreased $23.2 million, or 19.7%. Aerospace and Defense net sales decreased primarily due to commercial aerospace experiencing significantly lower replacement part sales as a result of lower demand caused by the COVID-19 pandemic.

Earnings before income taxes for the Engine Products segment for the year ended July 31, 2021 were $289.0 million, or 14.8% of Engine Products’ net sales, an increase from 13.3% of net sales for the year ended July 31, 2020. The increase was driven by greater leverage from higher sales and increased pricing, partially offset by higher incentive compensation, unfavorable sales mix and restructuring charges of $2.5 million incurred in the second quarter of fiscal 2021.

Industrial Products Segment

Net sales were as follows (in millions):

Year Ended July 31,

Net sales for the Industrial Products segment for the year ended July 31, 2021 were $896.2 million, compared with $854.3 million for the year ended July 31, 2020, an increase of $41.9 million, or 4.9%. Excluding a $30.0 million increase from foreign currency translation, fiscal 2021 net sales increased 1.4%.

Net sales of Industrial Filtration Solutions (IFS) were $621.9 million, an increase of 7.0% compared with the year ended July 31, 2020. In constant currency, net sales increased $17.5 million, or 3.0%. IFS sales increased across all business units and regions.

Net sales of Gas Turbine Systems (GTS) were $96.2 million, a decrease of 5.3% compared with the year ended July 31, 2020. In constant currency, net sales decreased $6.5 million, or 6.4%. The decrease in GTS net sales was driven by lower sales of small turbines in the U.S., partially offset by growing replacement parts sales in the U.S. and LATAM.

Net sales of Special Applications were $178.1 million, an increase of 3.8% compared with the year ended July 31, 2020. In constant currency, net sales increased $0.9 million, or 0.5%. The increase in Special Applications net sales reflected higher sales of Integrated Venting Solutions filters and Semicon/Imaging products, partially offset by lower sales of Membrane products.

Earnings before income taxes for the Industrial Products segment for the year ended July 31, 2021 were $133.3 million, or 14.9% of Industrial Products’ net sales, an increase from 14.6% of net sales for the year ended July 31, 2020. The increase was driven by greater leverage from higher sales, partially offset by restructuring charges of $6.5 million incurred in the second quarter of fiscal 2021 and higher incentive compensation.

Liquidity and Capital Resources

Liquidity Analysis

Liquidity is assessed in terms of the Company’s ability to generate cash to fund its operating, investing and financing activities. Significant factors affecting liquidity are cash flows generated from operating activities, capital expenditures, acquisitions, dividends, repurchases of outstanding shares, adequacy of available credit facilities and the ability to attract long-term capital with satisfactory terms. The Company generates substantial cash from the operation of its businesses as its primary source of liquidity, with sufficient liquidity available to fund growth through reinvestment in existing businesses and strategic acquisitions.

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Capital Resources

Secondary sources of liquidity are existing cash and available credit facilities. As of July 31, 2021, cash and cash equivalents were $222.8 million. A significant portion of the Company’s cash and cash equivalents are held by subsidiaries throughout the world as over half of the Company’s earnings occur outside the U.S. Additionally, the Company has short-term and long-term borrowing capacity of $655.2 million available for further borrowing under existing credit facilities as of July 31, 2021.

Short-term borrowing capacity as of July 31, 2021 was as follows (in millions):

Reductions to borrowing capacity:

Outstanding borrowings 48.5 — — — 48.5

Other non-borrowing reductions — — 30.6 19.6 50.2

Weighted average interest rate as of July 31, 2021 0.96 % N/A N/A N/A N/A

Other non-borrowing reductions include financial instruments such as bank guarantees and foreign exchange instruments.

Long-term borrowing capacity is maintained through a $500.0 million revolving credit facility that is reported on the Consolidated Balance Sheets. Borrowing capacity as of July 31, 2021 was as follows (in millions):

Revolving credit facility $ 500.0

Reductions to borrowing capacity:

Outstanding borrowings 75.0

Contingent liability for standby letters of credit 7.7

Total reductions 82.7

Remaining borrowing capacity $ 417.3

Weighted average interest rate as of July 31, 2021 1.10 %

In the fourth quarter of fiscal 2021, the Company entered into a new credit agreement that maintained the borrowing availability of $500.0 million, which replaced the previous agreement. The revolving credit facility is with a group of lenders and allows for borrowings in multiple currencies. The facility matures on May 21, 2026, and bears interest payable monthly at a variable interest rate. The interest rate is calculated using the appropriate benchmark rate plus the applicable rate. The borrowing availability can be reduced or the agreement terminated early at the option of the Company. The Company can request to increase the revolving credit facility by up to $250.0 million, subject to terms of the credit facility agreement, including written notification and lender acceptance, through an accordion feature. Borrowings are automatically rolled over until the credit facility maturity date, unless the agreement is terminated early or the Company is found to be in default. The total facility includes a commitment fee of 0.08% to 0.25%, depending on the Company’s leverage ratio. The remaining borrowing capacity reflects the issued standby letters of credit, as discussed in Note 16 to the Consolidated Financial Statements included in Item 8 of this Annual Report, as issued standby letters of credit reduce the amounts available for borrowing.

Certain debt agreements contain financial covenants related to interest coverage and leverage ratios, as well as other non-financial covenants. As of July 31, 2021, the Company was in compliance with all such covenants.

In the fourth quarter of fiscal 2021, the Company entered into an agreement, in which the Company would issue and sell two tranches of unsecured senior notes. The first tranche is a $100.0 million ten year note due 2031 at a fixed interest rate of 2.50%, with proceeds received in August 2021. The second tranche is a $50.0 million seven year note due 2028 at a fixed interest rate of 2.12%, with proceeds to be received in November 2021.

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The Company believes that the liquidity available from the combination of the expected cash generated by operating activities, existing cash and available credit under existing credit facilities will be sufficient to meet its cash requirements for the next 12 months, including working capital needs, debt service obligations, capital expenditures, payment of anticipated dividends, share repurchase activity and potential acquisitions. For further discussion on short-term borrowings and long-term debt, refer to Note 7 in the Notes to the Consolidated Financial Statements included in Item 8 of this Annual Report.

Capital Expenditures

In fiscal 2022, the Company expects its cash paid for capital expenditures to be within a range of $100.0 to $120.0 million, primarily associated with projects to enhance production capabilities.

Cash Flow Summary

Cash flows were as follows (in millions):

Net cash provided by (used in)

Effect of exchange rate changes on cash 5.9 0.2 (3.0)

(Decrease) increase in cash and cash equivalents $ (13.8) $ 58.8 $ (26.9)

Operating Activities

Cash provided by operating activities for the year ended July 31, 2021 was $401.9 million, compared with $387.0 million for the year ended July 31, 2020, an increase of $14.9 million. The increase in cash provided by operating activities was primarily driven by improved earnings for the Company compared to prior year, which was negatively impacted by the COVID-19 pandemic.

Investing Activities

Cash used in investing activities for the year ended July 31, 2021 was $58.3 million, compared with $128.9 million for the year ended July 31, 2020, a decrease of $70.6 million. In fiscal 2021, the Company continued investing in its strategic priorities, though capital expenditures decreased in fiscal 2021 as the Company brought to completion many of its significant capital projects from the prior two fiscal years.

Financing Activities

Cash used in financing activities generally relates to the use of cash for payment of dividends and repurchases of the Company’s common stock, net borrowing activity and proceeds from the exercise of stock options. To determine the level of dividend and share repurchases, the Company considers recent and projected performance across key financial metrics, including earnings, cash flow from operations and total debt. Dividends paid for the years ended July 31, 2021 and 2020 were $107.2 million and $106.4 million, respectively. Share repurchases for the years ended July 31, 2021 and 2020 were $142.2 million and $94.3 million, respectively.

Cash used in financing activities for the year ended July 31, 2021 was $363.3 million, compared with $199.5 million for the year ended July 31, 2020, an increase of $163.8 million. In fiscal 2021, cash was used to repay borrowings and to fund the Company’s needs, driven by expenditures on property, plant and equipment, dividends, share repurchases and purchases of non-controlling interests. In fiscal 2020, proceeds from long-term debt were used to fund the Company’s needs, driven by expenditures on property, plant and equipment, dividends and share repurchases.

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Financial Condition

The Company’s total capitalization components and debt-to-capitalization ratio were as follows (in millions):

Short-term borrowings $ 48.5 2.9 % $ 3.8 0.2 %

Current maturities of long-term debt — — 5.7 0.4

As of July 31, 2021, total debt, including short-term borrowings and long-term debt, represented 30.9% of total capitalization, defined as total debt plus total stockholders’ equity, compared with 38.7% as of July 31, 2020.

Long-term debt outstanding as of July 31, 2021 was $461.0 million compared with $617.4 million as of July 31, 2020, a decrease of $156.4 million. The Company used cash flows to pay down balances on its revolving credit facilities.

Accounts receivable, net as of July 31, 2021 was $552.7 million, compared with $455.3 million as of July 31, 2020, an increase of $97.4 million, primarily due to higher levels of sales. Days sales outstanding were 62 days as of July 31, 2021, down from 63 days as of July 31, 2020. Days sales outstanding is calculated using the count back method, which calculates the number of days of most recent revenue that is reflected in the net accounts receivable balance.

Inventories, net as of July 31, 2021 was $384.5 million, compared with $322.7 million as of July 31, 2020, an increase of $61.8 million. Inventory turns were 5.5 times and 4.9 times per year as of July 31, 2021 and 2020, respectively. Inventory turns are calculated by taking the annualized cost of sales based on the trailing three month period divided by the average of the beginning and ending net inventory values of the three month period.

Accounts payable as of July 31, 2021 was $293.9 million, compared with $187.7 million as of July 31, 2020, an increase of $106.2 million, primarily due to greater levels of purchasing associated with higher levels of sales.

Off-Balance Sheet Arrangements

Joint Venture Guarantee

The Company and Caterpillar Inc. equally own the shares of Advanced Filtration Systems Inc. (AFSI), an unconsolidated joint venture, and guarantee certain debt and banking services, including credit and debit cards, merchant processing and treasury management services, of the joint venture. The Company accounts for AFSI as an equity method investment.

As of July 31, 2021, the joint venture had $37.8 million of outstanding debt, of which the Company guarantees half. The Company does not believe this guarantee will have a current or future effect on its financial condition, results of operations, liquidity or capital resources.

Critical Accounting Policies

The Company’s Consolidated Financial Statements are prepared in conformity with GAAP. The preparation of these Consolidated Financial Statements requires the use of estimates and judgments that affect the reported amounts of assets and liabilities at the date of the Consolidated Financial Statements and the reported amounts of revenue and expenses during the periods presented. Management bases estimates on historical experience and various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about recorded amounts. The Company believes its use of estimates and underlying accounting assumptions adheres to GAAP and are reasonable and consistently applied. The Company’s Critical Accounting Policies are those which require more significant estimates and judgments used in the preparation of its Consolidated Financial Statements and are the most important to aid in fully understanding its financial results. The Company’s Critical Accounting Policies are as follows:

Revenue Recognition - Variable Consideration

The transaction price of a contract could be reduced by variable consideration including volume, purchase rebates and discounts, product refunds and returns. At the time of sale to a customer, the Company records an estimate of variable consideration as a reduction from gross sales. The Company primarily relies on historical experience and anticipated future performance to estimate the variable consideration. Revenue is recognized to the extent that it is probable that a significant reversal of revenue will not occur when the contingency is resolved.

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For volume, purchase rebates and discounts, management estimates are based on the terms of the arrangements with customers, historical payment experience, field inventory levels, volume in quantity or mix of purchases of product during a specified time period and expectations for changes in relevant trends in the future. Actual results may differ from estimates if competitive factors create the need to enhance or reduce sales promotion and incentive accruals or if customer usage and field inventory levels vary from historical trends. Adjustments to sales promotions and incentive accruals are made as actual usage becomes known in order to properly estimate the amounts necessary to generate consumer demand based on market conditions as of the balance sheet date.

For product refunds and returns, estimates are based primarily on the expected number of products sold, the trend in the historical ratio of returns to sales and the historical length of time between the sale and resulting return. Actual refunds and returns could be higher or lower than amounts estimated due to such factors as performance of new products or significant manufacturing or design defects not discovered until after the product is delivered to customers.

Goodwill

Goodwill represents the excess of the purchase price over the fair value of net assets acquired in business combinations under the purchase method of accounting. The Company performed its annual impairment assessment during the third quarter of fiscal 2021 and determined that there were no indicators of impairment for any of the reporting units evaluated. The goodwill impairment assessment is conducted at a reporting unit level, which is one level below the operating segment level, and utilizes either a qualitative or quantitative assessment.

The optional qualitative assessment evaluates general economic, industry and entity-specific factors that could impact the reporting units’ fair values. For reporting units evaluated using a qualitative assessment, if it is determined that the fair value more likely than not exceeds the carrying value, no further assessment is necessary. The Company has elected this option for certain reporting units. For reporting units evaluated using a quantitative assessment, the fair values are determined using an income approach, a market approach or a weighting of the two. The income approach determines fair value based on discounted cash flow models derived from the reporting units’ long-term forecasts. The market approach determines fair value based on earnings multiples derived from prices investors paid for the stocks of comparable, publicly traded companies. An impairment loss would be recognized when the carrying amount of a reporting unit’s net assets exceeds the estimated fair value of the reporting unit. Estimates and assumptions are utilized in the valuations, including discounted projected cash flows, earnings before interest, taxes, depreciation and amortization (EBITDA) margins, terminal value growth rates, revenue growth rates, discount rates and the determination of comparable, publicly traded companies. Changes in these estimates and assumptions could materially affect the determination of fair value and goodwill impairment.

Income Taxes

Management is required to estimate income taxes in each of the jurisdictions in which the Company operates. This process involves estimating current tax exposure and assessing future tax consequences attributable to temporary differences between the financial statement carrying amount of existing assets and liabilities and their respective tax basis. These deferred tax assets and liabilities are measured using the enacted tax rates expected to apply to taxable income in the fiscal years in which those temporary differences are anticipated to reverse based on future taxable income projections and the impact of tax planning strategies. The Company intends to indefinitely reinvest undistributed earnings for certain of its non-U.S. subsidiaries and thus has not provided for income taxes on these earnings.

Additionally, benefits of tax return positions are recognized in the Consolidated Financial Statements when the position is more likely than not to be sustained by the taxing authorities based solely on the technical merits of the position. If the recognition threshold is met, the tax benefit is measured and recognized as the largest amount of tax benefit that in the Company’s judgment is greater than 50% likely to be realized. The Company maintains a reserve for uncertain tax benefits that are currently unresolved and routinely monitors the potential impact of such situations. The liability for unrecognized tax benefits, accrued interest and penalties was $20.3 million and $19.2 million as of July 31, 2021 and 2020, respectively.

The Company believes it is remote that any adjustment necessary to the reserve for income taxes for the next 12 months will be material. However, it is possible the ultimate resolution of audits or disputes may result in a material change to the Company’s reserve for income taxes, although the quantification of such potential adjustments cannot be made at this time.

Defined Benefit Pension Plans

The Company incurs expenses for employee benefits provided through defined benefit pension plans. In accounting for these defined benefit pension plans, management must make a variety of estimates and assumptions including discount rates, expected return on plan assets, mortality rates and overall employee compensation increases. The Company considers current and historical data and uses a third-party specialist to assist management in determining these estimates.

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Discount Rates

The Company’s objective in selecting a discount rate is to select the best estimate of the rate at which the benefit obligations could be effectively settled on the measurement date, taking into account the nature and duration of the benefit obligations of the plan. In making this best estimate, the Company looks at the rates of return on high-quality, fixed-income investments currently available and expected to be available, during the period to maturity of the benefits. This process includes assessing the universe of bonds available on the measurement date with a quality rating of Aa or better. Similar appropriate benchmarks are used to determine the discount rate for the non-U.S. plans. The Company utilized a 2.55% and 2.37% weighted average discount rate for its U.S. plans for the years ended July 31, 2021 and 2020, respectively. The Company used a 1.55% and 1.48% weighted average discount rate for its non-U.S. plans for the years ended July 31, 2021 and 2020, respectively.

Expected Long-Term Rate of Return on Assets

The Company considers historical returns and future expected returns for each asset class, as well as the target asset allocation to develop the assumption for each of its U.S. pension plans. The assumption for the non-U.S. pension plans reflects the investment allocation and expected total portfolio returns specific to each plan and country. The Company utilized a 5.33% and 6.08% asset-based weighted average expected return on plan assets for its U.S. plans as of the measurement dates of July 31, 2021 and 2020, respectively. The Company utilized a 3.13% and 3.78% asset-based weighted average expected return on plan assets for its non-U.S. plans for the years ended July 31, 2021 and 2020, respectively. The expected returns on plan assets are used to develop the following fiscal years’ expense for the plans.

Mortality Rates

The Company’s actuary uses the Pri-2012 mortality table issued by the Society of Actuaries in 2019, and the Scale MMP-2019 mortality improvement projection scale for its U.S. pension plans. These assumptions were used for determining the benefit obligations as of July 31, 2021 and for developing the annual expense for the fiscal year ending July 31, 2022. For non-U.S. pension plans, the Company follows the local actuary’s recommendation.

Service and Interest Costs

The Company uses a full yield curve approach to estimate service and interest costs for pension benefits by applying specific spot rates along the yield curve used to determine the benefit obligation of relevant projected cash outflows. This method provides a precise measurement of service and interest costs by aligning the timing of the plans’ liability cash flows to the corresponding spot rate on the yield curve.

Alternative Assumptions

If the Company were to use alternative assumptions for its pension plans as of July 31, 2021, a 1 percentage point change in the assumptions would impact fiscal 2021 net periodic benefit cost as follows (in millions):

Rate of return $ 5.5 $ (5.5)

Discount rate $ (0.8) $ 2.0

The Company’s net periodic benefit cost recognized in the Consolidated Statements of Earnings was $5.3 million, $7.2 million and $3.8 million for the years ended July 31, 2021, 2020 and 2019, respectively. While changes to the Company’s pension plan assumptions would not be expected to impact its net periodic benefit cost by a material amount, such changes could significantly impact the Company’s projected benefit obligation.

Business Combinations

The Company allocates the purchase price of acquired businesses to the estimated fair values of the assets acquired and liabilities assumed as of the date of acquisition. The fair values of the long-lived assets acquired, primarily intangible assets, are determined using calculations which can be complex and require significant judgment. Estimates include many factors such as the nature of the acquired company’s business, its historical financial position and results, customer retention rates, discount rates and expected future performance. Independent valuation specialists are used to assist in determining certain fair value calculations.

The Company estimates the fair value of acquired customer relationships using the multi-period excess earnings method. This approach is typically applied when cash flows are not directly generated by the asset, but rather, by an operating group which includes the particular asset. Fair value is estimated as the present value of the benefits anticipated from ownership of the asset, in excess of the economic returns required on the investment in contributory assets which are necessary to realize those benefits. The intangible asset’s estimated earnings are determined as the residual earnings after quantifying estimated economic returns from contributory assets. Assumptions used in these calculations include same-customer revenue growth rates, estimated earnings and customer attrition rates.

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The Company estimates the fair value of trade names and/or trademarks using the relief from royalty method, which calculates the cost savings associated with owning rather than licensing the assets. Assumed royalty rates are applied to projected revenue for the remaining useful lives of the assets to estimate the royalty savings. Royalty rates are selected based on the attributes of the asset, including reputation and recognition within the industry.

While the Company uses its best estimates and assumptions, fair value estimates are inherently uncertain and subject to refinement. As a result, during the measurement period, which may be up to one year from the acquisition date, the Company may record adjustments to the assets acquired and liabilities assumed, with the corresponding offset to goodwill. Any adjustments required after the measurement period are recorded in the Consolidated Statement of Earnings. The judgments required in determining the estimated fair values and expected useful lives assigned to each class of assets and liabilities acquired can significantly affect net income.

New Accounting Standards Not Yet Adopted

For new accounting standards not yet adopted, refer to Note 1 in the Notes to Consolidated Financial Statements included in Item 8 of this Annual Report.

Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995

The Company, through its management, may make forward-looking statements reflecting the Company’s current views with respect to future events and expectations, such as forecasts, plans, trends and projections relating to the Company’s business and financial performance. These forward-looking statements, which may be included in reports filed under the Securities Exchange Act of 1934, as amended (the Exchange Act), in press releases and in other documents and materials as well as in written or oral statements made by or on behalf of the Company, are subject to certain risks and uncertainties, including those discussed in Part I, Item 1A, “Risk Factors” of this Annual Report, which could cause actual results to differ materially from historical results or those anticipated. The words or phrases “will likely result,” “are expected to,” “will continue,” “will allow,” “estimate,” “project,” “believe,” “expect,” “anticipate,” “forecast,” “plan” and similar expressions are intended to identify forward-looking statements within the meaning of Section 21E of the Exchange Act and Section 27A of the Securities Act of 1933, as amended, as enacted by the Private Securities Litigation Reform Act of 1995 (PSLRA). In particular, the Company desires to take advantage of the protections of the PSLRA in connection with the forward-looking statements made in this Annual Report. All statements other than statements of historical fact are forward-looking statements. These statements do not guarantee future performance.

These forward-looking statements, speak only as of the date such statements are made and are subject to risks and uncertainties. In addition, the factors listed in Part I, Item 1A, “Risk Factors” of this Annual Report, as well as other factors, could affect the Company’s performance and could cause the Company’s actual results for future periods to differ materially from any opinions or statements expressed. These factors include, but are not limited to, challenges in global operations; impacts of global economic, industrial and political conditions on product demand; impacts from unexpected events, including the COVID-19 pandemic; effects of unavailable raw materials or material cost inflation; inability to attract and retain qualified personnel; inability to meet customer demand; inability to maintain competitive advantages; threats from disruptive technologies; effects of highly competitive markets with pricing pressure; exposure to customer concentration in certain cyclical industries; impairment of intangible assets; inability to manage productivity improvements; inability to maintain an effective system of internal control over financial reporting; vulnerabilities associated with information technology systems and security; inability to protect and enforce intellectual property rights; costs associated with governmental laws and regulations; impacts of foreign currency fluctuations; effects of changes in capital and credit markets; changes in tax laws and tax rates, regulations and results of examinations; results of execution of any acquisition, divestiture and other strategic transactions strategy; and other factors included in Part I, Item 1A, “Risk Factors” of this Annual Report. 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, unless required by law.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

The Company’s market risk includes the potential loss arising from adverse changes in foreign currency exchange rates, interest rates and commodity prices. In an attempt to manage these risks, the Company employs certain strategies to mitigate the effect of these fluctuations. The Company does not enter into any of these instruments for speculative trading purposes.

The Company maintains significant assets and operations outside the U.S., resulting in exposure to foreign currency gains and losses. A portion of the Company’s foreign currency exposure is naturally hedged by incurring liabilities, including bank debt, denominated in the local currency in which the Company’s foreign subsidiaries are located.

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During fiscal 2021, the U.S. dollar was generally weaker than in fiscal 2020 compared with many of the currencies of the foreign countries in which the Company operates. The overall weaker dollar had a positive impact on the Company’s international net sales results because the foreign denominated revenues translated into more U.S. dollars. Foreign currency translation had a positive impact to net sales and net earnings in many regions around the world. The estimated impact of foreign currency translation for the year ended July 31, 2021, resulted in an overall increase in reported net sales of $78.0 million and an increase in reported net earnings of approximately $10.8 million.

Derivative Fair Value Measurements

The Company enters into derivative instrument agreements, including forward foreign currency exchange contracts, net investment hedges and interest rate swaps, to manage risk in connection with changes in foreign currency and interest rates. The Company only enters into derivative instrument agreements with counterparties who have highly rated credit. The Company does not enter into derivative instrument agreements for trading or speculative purposes (see Note 15 to the Notes to the Consolidated Financial Statements in Item 8. of this Annual Report).

Forward Foreign Currency Exchange Contracts

The Company buys materials from foreign suppliers. Those transactions can be denominated in those suppliers’ local currency. The Company also sells to customers in foreign countries. Those transactions can be denominated in those customers’ local currency. Both of these transaction types can create volatility in the Company’s financial statements. The Company uses forward currency exchange contracts to manage those exposures and fluctuations. These contracts generally mature in 12 months or less, which is consistent with the forecasts of the related purchases and sales. Certain contracts are designated as cash flow hedges, whereas the remaining contracts, most of which are related to certain intercompany transactions, are not designated.

Net Investment Hedges

The Company uses fixed-to-fixed cross currency swap agreements to hedge its exposure to adverse foreign currency exchange rate movements for its operations in Europe. This contract terminates in July 2029. The Company has elected the spot method for designating these contracts as net investment hedges.

Based on the net investment hedge outstanding as of July 31, 2021, a 10% appreciation of the U.S. dollar compared to the Euro, would result in a net gain of $6.1 million in the fair value of these contracts.

Interest Rates

The Company’s exposure to market risk for changes in interest rates primarily relates to debt obligations that are at variable rates, as well as the potential increase in the fair value of long-term debt resulting from a potential decrease in interest rates. As of July 31, 2021, the Company’s financial liabilities with exposure to changes in interest rates consisted mainly of $75.0 million outstanding on the Company’s revolving credit facility, €80.0 million, or $95.1 million of a variable rate term loan, and ¥2.0 billion, or $18.2 million, of variable rate senior notes. As of July 31, 2021, additional short-term borrowings outstanding consisted of $48.5 million. Assuming a hypothetical 0.5 percentage point increase in short-term interest rates, with all other variables remaining constant, interest expense would have increased approximately $0.8 million and interest income would have increased approximately $0.3 million in fiscal 2021. Interest rate changes would also affect the fair market value of fixed-rate debt. As of July 31, 2021, the estimated fair value of long-term debt with fixed interest rates was $297.4 million compared to its carrying value of $275.0 million. The fair value is estimated by discounting the projected cash flows using the rate at which similar amounts of debt could currently be borrowed.

In addition, the Company is exposed to market risk for changes in interest rates for the impact to its qualified defined benefit pension plans. The plans’ projected benefit obligation is inversely related to changes in interest rates. Consistent with published bond indices, in fiscal 2021 the Company increased its weighted average discount rate from 2.37% to 2.55% on its U.S. plans and increased its weighted average discount rate from 1.48% to 1.55% for its non-U.S. plans. To protect against declines in interest rates, the pension plans hold high-quality, long-duration bonds. The rates impact both the projected benefit obligation and the fair value of the plan assets and hence, the funded status of the plans. The plans were overfunded by $11.4 million as of July 31, 2021, since the fair value of the plan assets exceeded the projected benefit obligation.

Commodity Prices

The Company is exposed to market risk from fluctuating prices of purchased commodity raw materials, including steel, filter media and petrochemical-based products including plastics, rubber and adhesives. On an ongoing basis, the Company enters into selective supply arrangements that allow the Company to reduce volatility in its costs. The Company strives to recover or offset all material cost increases through selective price increases to its customers and the Company’s cost reduction initiatives, which include material substitution, process improvement and product redesigns. However, an increase in commodity prices could result in lower gross profit.

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Chinese Notes

Consistent with common business practice in China, the Company’s Chinese subsidiaries accept bankers’ acceptance notes from Chinese customers in settlement of certain customer billed accounts receivable. Bankers’ acceptance notes represent a commitment by the issuing financial institution to pay a certain amount of money at a specified future maturity date to the legal owner of the bankers’ acceptance note as of the maturity date. The maturity date of bankers’ acceptance notes varies, but it is the Company’s policy to only accept bankers’ acceptance notes with maturity dates no more than 180 days from the date of the Company’s receipt of such draft. As of July 31, 2021 and 2020, the Company owned $14.1 million and $12.1 million, respectively, of these bankers’ acceptance notes, and includes them in Accounts Receivable on the Consolidated Balance Sheets.

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Item 8. Financial Statements and Supplementary Data

Management’s Report on Internal Control over Financial Reporting

Management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f). Management of the Company has assessed the effectiveness of the Company’s internal control over financial reporting as of July 31, 2021. In making its assessment of internal control over financial reporting, management used the criteria described in Internal Control - Integrated Framework - version 2013 issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on this evaluation, management concluded that the Company’s internal control over financial reporting was effective as of July 31, 2021 based on criteria in Internal Control-Integrated Framework issued by the COSO. The Company’s independent registered public accounting firm, PricewaterhouseCoopers LLP, has audited the effectiveness of the Company’s internal control over financial reporting as of July 31, 2021, as stated in its report, which appears herein.

/s/ Tod E. Carpenter /s/ Scott J. Robinson

Tod E. Carpenter Scott J. Robinson

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Report of Independent Registered Public Accounting Firm

To the Stockholders and Board of Directors of Donaldson Company, Inc.

Opinions on the Financial Statements and Internal Control over Financial Reporting

We have audited the accompanying consolidated balance sheets of Donaldson Company, Inc. and its subsidiaries (the “Company”) as of July 31, 2021 and 2020, and the related consolidated statements of earnings, of comprehensive income, of changes in stockholders' equity and of cash flows for each of the three years in the period ended July 31, 2021, including the related notes (collectively referred to as the “consolidated financial statements”). We also have audited the Company's internal control over financial reporting as of July 31, 2021, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of July 31, 2021 and 2020, and the results of its operations and its cash flows for each of the three years in the period ended July 31, 2021 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of July 31, 2021, based on criteria established in Internal Control - Integrated Framework (2013) issued by the COSO.

Change in Accounting Principle

As discussed in Note 1 to the consolidated financial statements, the Company changed the manner in which it accounts for leases in fiscal 2020.

Basis for Opinions

The Company's management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express opinions on the Company’s consolidated financial statements and on the Company's internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.

Our audits of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

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Definition and Limitations of Internal Control over Financial Reporting

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

Critical Audit Matters

The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that (i) relates to accounts or disclosures that are material to the consolidated financial statements and (ii) involved our especially challenging, subjective or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.

Goodwill Impairment Assessment – Reporting Unit within the Industrial Products Segment

As described in Note 6 to the consolidated financial statements, the Company’s consolidated goodwill balance and goodwill balance for the Industrial Products segment was $322.5 million and $237.8 million, respectively, as of July 31, 2021. As disclosed, management conducts a goodwill impairment test during the third quarter of each fiscal year. For reporting units evaluated using a quantitative assessment, the fair values are determined using an income approach, a market approach or a weighting of the two. The income approach determines fair value based on discounted cash flow models derived from the reporting units’ long-term forecasts. The market approach determines fair value based on earnings multiples derived from prices investors paid for the stocks of comparable, publicly traded companies. An impairment loss would be recognized when the carrying amount of a reporting unit’s net assets exceeds the estimated fair value of the reporting unit. Estimates and assumptions are utilized in the valuations, including discounted projected cash flows, terminal value growth rates, revenue growth rates, earnings before interest, taxes, depreciation and amortization (EBITDA) margins, discount rates, and the determination of comparable, publicly traded companies.

The principal considerations for our determination that performing procedures relating to the goodwill impairment assessment of one reporting unit within the Industrial Products segment is a critical audit matter are (i) the high degree of auditor judgment and subjectivity in applying procedures relating to the goodwill impairment assessment due to the significant judgment by management when developing the fair value measurement of the reporting unit and (ii) significant audit effort was necessary to perform procedures and evaluate audit evidence related to the revenue growth rates and EBITDA margins assumptions utilized in the income approach.

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Addressing the matter involved performing procedures and evaluating audit evidence in connection with forming our overall opinion on the consolidated financial statements. These procedures included testing the effectiveness of controls relating to management’s goodwill impairment assessment for the reporting unit, including controls over the development of the revenue growth rates and EBITDA margins assumptions, utilized in the income approach. These procedures also included, among others, (i) testing management’s process for developing the fair value estimate; (ii) evaluating the appropriateness of the valuation model used in management’s estimate; (iii) testing the completeness, accuracy, and relevance of underlying data used in the model; and (iv) evaluating the reasonableness of the revenue growth rates and EBITDA margins assumptions used by management. Evaluating management’s assumptions related to the revenue growth rates and EBITDA margins involved evaluating whether the assumptions used by management were reasonable considering (i) the current and past performance of the reporting unit, (ii) the consistency with external market and industry data, and (iii) whether these assumptions were consistent with evidence obtained in other areas of the audit.

/s/ PricewaterhouseCoopers LLP

Minneapolis, Minnesota

September 24, 2021

We have served as the Company’s auditor since 2002.

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DONALDSON COMPANY, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF EARNINGS

(In millions, except per share amounts)

Year ended July 31,

Other income, net (9.3) (12.5) (6.9)

Net earnings per share – basic $ 2.27 $ 2.03 $ 2.08

Net earnings per share – diluted $ 2.24 $ 2.00 $ 2.05

See Notes to Consolidated Financial Statements.

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DONALDSON COMPANY, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(In millions)

Year ended July 31,

Other comprehensive income (loss):

Foreign currency translation income (loss) 30.0 18.7 (26.6)

Derivatives:

Total derivatives 0.5 1.2 (0.4)

Net other comprehensive income (loss) 65.8 8.9 (43.1)

See Notes to Consolidated Financial Statements.

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DONALDSON COMPANY, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(In millions, except share and per share amounts)

As of July 31,

Assets

Current assets:

Cash and cash equivalents $ 222.8 $ 236.6

Accounts receivable, less allowances of $7.0 and $6.2, respectively 552.7 455.3

Prepaid expenses and other current assets 84.0 82.1

Property, plant and equipment, net 617.8 631.6

Intangible assets, net 61.6 67.3

Liabilities and Stockholders’ Equity

Current liabilities:

Short-term borrowings $ 48.5 $ 3.8

Current maturities of long-term debt — 5.7

Accrued employee compensation and related taxes 126.8 71.2

Current lease liabilities 18.1 25.7

Other current liabilities 91.7 86.1

Non-current income taxes payable 80.7 87.4

Deferred income taxes 26.6 16.7

Other long-term liabilities 88.2 112.5

Commitments and contingencies (Note 17)

Redeemable non-controlling interest — 10.9

Stockholders’ equity:

Preferred stock, $1.00 par value, 1,000,000 shares authorized, none issued — —

Additional paid-in capital 5.8 —

Non-controlling interest — 5.8

Stock-based compensation plans 12.8 15.9

Accumulated other comprehensive loss (118.2) (184.0)

Total liabilities and stockholders’ equity $ 2,400.2 $ 2,244.6

See Notes to Consolidated Financial Statements.

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DONALDSON COMPANY, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In millions)

Year ended July 31,

Operating Activities

Equity in earnings of affiliates, net of distributions (2.1) (2.7) (1.2)

Deferred income taxes (5.9) 2.7 10.2

Stock-based compensation expense 14.2 15.2 15.0

Prepaid expenses and other current assets (5.3) 1.4 (9.7)

Income taxes payable (3.6) (13.1) (2.0)

Accounts payable and other accrued expenses 151.8 (74.0) (3.1)

Investing Activities

Purchases of property, plant and equipment (59.0) (124.4) (150.7)

Proceeds from sale of property, plant and equipment 0.7 2.0 0.3

Acquisitions, net of cash acquired — (6.5) (96.0)

Net cash used in investing activities (58.3) (128.9) (246.4)

Financing Activities

Change in short-term borrowings 45.2 0.9 (25.3)

Purchase of non-controlling interests (14.4) — (1.1)

Purchase right exercised in finance lease (13.8) — —

Tax withholding for stock compensation transactions (4.2) (6.3) (4.1)

Net cash used in financing activities (363.3) (199.5) (123.3)

Effect of exchange rate changes on cash 5.9 0.2 (3.0)

(Decrease) increase in cash and cash equivalents (13.8) 58.8 (26.9)

Cash and cash equivalents, beginning of year 236.6 177.8 204.7

Cash and cash equivalents, end of year $ 222.8 $ 236.6 $ 177.8

Supplemental Cash Flow Information

Supplemental Disclosure of Non-Cash Operating and Investing Transactions

Accrued property, plant and equipment additions $ 7.0 $ 9.5 $ 16.5

Transfer of operating lease asset and operating lease liability $ (9.2) $ — $ —

See Notes to Consolidated Financial Statements.

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DONALDSON COMPANY, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

(In millions, except per share amounts)

Comprehensive income

Foreign currency translation (26.6) (26.6)

Pension liability adjustment, net of deferred taxes (16.1) (16.1)

Losses on hedging derivatives, net of deferred taxes (0.5) (0.5)

Reclassification of losses on hedging derivatives to net income 0.1 0.1

Comprehensive income 224.1

Deferred stock and other activity 0.5 0.6 (3.4) 4.3 2.0

Comprehensive income

Foreign currency translation 18.7 18.7

Pension liability adjustment, net of deferred taxes (11.0) (11.0)

Gains on hedging derivatives, net of deferred taxes 0.6 0.6

Reclassification of losses on hedging derivatives to net income 0.6 0.6

Comprehensive income 265.9

Treasury stock acquired (94.3) (94.3)

Deferred stock and other activity (5.2) 0.4 (9.2) 8.6 (5.4)

Comprehensive income

Foreign currency translation 30.0 30.0

Pension liability adjustment, net of deferred taxes 35.3 35.3

Gains on hedging derivatives, net of deferred taxes 0.8 0.8

Reclassification of gains on hedging derivatives to net income (0.3) (0.3)

Comprehensive income 352.7

Deferred stock and other activity (3.3) 0.1 (5.0) 3.9 (4.3)

Purchase of non-controlling interest 2.2 (5.9) (3.7)

See Notes to Consolidated Financial Statements.

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DONALDSON COMPANY, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1. Summary of Significant Accounting Policies

Description of Business

Donaldson Company, Inc. (the Company) is a global manufacturer of filtration systems and replacement parts. The Company’s core strengths include leading filtration technology, strong customer relationships and its global presence. Products are manufactured and sold around the world. Products are sold to original equipment manufacturers (OEMs), distributors, dealers and directly to end users.

Principles of Consolidation

The Consolidated Financial Statements include the accounts of the Company and all of its majority-owned subsidiaries. All intercompany accounts and transactions have been eliminated. The Company’s joint ventures are not majority-owned and are accounted for under the equity method. Certain reclassifications to previously reported financial information have been made to conform to the current period presentation.

Use of Estimates

The preparation of the Company’s financial statements in conformity with generally accepted accounting principles (GAAP) in the United States (U.S.) requires management to make estimates and assumptions that affect the amount of assets and liabilities and the disclosures regarding contingent assets and liabilities at period end, and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

The effects of the ongoing Coronavirus (COVID-19) pandemic continue to impact global economic conditions. Management cannot predict with specificity the extent and duration of any future impact on the Company’s business and financial results from the COVID-19 pandemic.

Foreign Currency Translation

For most foreign operations, local currencies are considered the functional currency. Assets and liabilities of non-U.S. dollar functional currency entities are translated to U.S. dollars at fiscal year-end exchange rates and the resulting gains and losses arising from the translation of net assets located outside the U.S. are recorded as a cumulative translation adjustment, a component of accumulated other comprehensive loss on the Consolidated Balance Sheets. Elements of the Consolidated Statements of Earnings are translated at average exchange rates in effect during the fiscal year. Foreign currency transaction losses are included in other income, net in the Consolidated Statements of Earnings and were $2.9 million, $4.7 million and $4.9 million in the years ended July 31, 2021, 2020 and 2019, respectively.

Cash Equivalents

The Company considers all highly liquid temporary investments with an original maturity of three months or less to be cash equivalents. Cash equivalents are carried at cost which approximates market value.

Revenue Recognition

Revenue is measured as the amount of consideration the Company expects to receive in exchange for the fulfillment of performance obligations. The transaction price of a contract could be reduced by variable consideration including product volume rebates, discounts, refunds and returns, in the determination of net sales. The Company primarily relies on historical experience and anticipated future performance to estimate variable consideration. Revenue is recognized to the extent that it is probable that a significant reversal of revenue will not occur when outstanding contingencies are resolved. The Company accounts for amounts billed to customers for reimbursement of shipping and handling as fulfillment costs by recording these amounts as revenue and accruing costs when the related revenue is recognized.

For most customer contracts, the Company recognizes revenue at a point in time when control of the goods or services is transferred to the customer. For product sales, control is typically deemed to have transferred in accordance with the shipping terms, either at the time of shipment from the plants or distribution centers or the time of delivery to the customers. Revenue is recognized for services upon completion of those services. Payment terms vary by customer and the geographic location of the customer. The Company’s contracts with customers do not include significant financing components or non-cash consideration.

The Company has some contracts with customers where the performance obligations are satisfied over time. Certain customer contracts provide the Company with an enforceable right to payment of the transaction price for performance completed to date and the Company uses an output method of production to measure the progress towards the completion of the performance obligation in these arrangements. The timing of revenue recognized from these products is slightly accelerated compared to revenue recognized at the time of shipment or delivery.

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Incremental costs of obtaining a contract with a customer and other costs to fulfill a contract are required to be capitalized unless the Company elects to expense contract costs with periods of less than one year. The Company has elected to expense these costs of obtaining a contract as incurred when the related contract period is less than one year. The Company does not pay upfront sales commissions on contracts when the related contract period is greater than one year, thus has not capitalized any amounts as of July 31, 2021, see Note 3.

Accounts Receivable, Net and Allowance for Doubtful Accounts

Accounts receivable, net are recorded at the invoiced amount and do not bear interest. The allowance for doubtful accounts is the Company’s best estimate of the amount of credit losses in its existing accounts receivable. The Company determines the allowance based on utilization of a combination of aging schedules with reserve rates applied to both current and aged receivables using historical write-off experience, regional economic data and evaluation of specific customer accounts for risk of loss and changes in current or projected conditions to calculate the allowances related to accounts receivable, net. The Company reviews its allowance for doubtful accounts monthly. Account balances are reviewed on a pooled basis by reporting unit and geographic region, and are reserved when the Company determines it is probable the receivable will not be recovered. The Company reduces the receivable, and corresponding allowance when it confirms an account is uncollectible.

Inventories

Inventories are stated at the lower of cost and net realizable value. U.S. inventories are valued using the last-in, first-out (LIFO) method while the non-U.S. inventories are valued using the first-in, first-out (FIFO) method. Inventories valued at LIFO were approximately 30.4% and 27.6% of total inventories as of July 31, 2021 and 2020, respectively. For inventories valued under the LIFO method, the FIFO cost exceeded the LIFO carrying values by $40.6 million and $39.2 million as of July 31, 2021 and 2020, respectively. Results of operations for all periods presented were not materially affected by the liquidation of LIFO inventory, see Note 4.

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 expensed as incurred. Depreciation is computed using the straight-line method. Depreciation expense was $87.1 million, $79.3 million and $73.5 million in the years ended July 31, 2021, 2020 and 2019, respectively. The estimated useful lives of property, plant and equipment are ten to 40 years for buildings, including building improvements, and three to ten years for machinery and equipment, see Note 5.

Internal-Use Software

The Company capitalizes direct costs of materials and services used in the development and purchase of internal-use software. Amounts capitalized are amortized on a straight-line basis over a period of five to seven years and are reported as a component of property, plant and equipment.

Cloud Computing Arrangements

The Company capitalizes certain costs incurred during the application development stage of implementation of internal-use software in cloud computing arrangements. Amounts capitalized are amortized on a straight-line basis over a period of five to ten years and are reported as a component of other long-term assets.

Goodwill and Intangible Assets

Goodwill represents the excess of the purchase price over the fair value of net assets acquired in business combinations under the purchase method of accounting. Intangible assets, comprised of customer relationships, patents, trademarks and technology, are amortized on a straight-line basis over their estimated useful lives of five to 20 years. Goodwill is assessed for impairment annually or if an event occurs or circumstances change that would indicate the carrying amount may be impaired. The impairment assessment for goodwill is done at a reporting unit level. Reporting units are one level below the operating segment level but can be combined when reporting units within the same operating segment have similar economic characteristics. An impairment loss would be recognized when the carrying amount of the reporting unit’s net assets exceeds the estimated fair value of the reporting unit, see Note 6.

Recoverability of Long-Lived Assets

The Company reviews its long-lived assets, including identifiable intangibles, 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, the carrying value is reduced to the fair market value. There were no impairment charges recorded for the years ended July 31, 2021, 2020 and 2019.

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Income Taxes

The provision for income taxes is computed based on the pretax income reported for financial statement purposes. Deferred tax assets and liabilities are recognized for the expected future tax consequences attributed to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis. Deferred tax assets and liabilities are measured using the enacted tax rates expected to apply to taxable income in the years in which those temporary differences are anticipated to reverse. Valuation allowances are recorded to reduce deferred tax assets when it is more likely than not that a tax benefit will not be realized.

The Company maintains a reserve for uncertain tax benefits. Benefits of tax return positions are recognized in the financial statements when the position is more likely than not to be sustained by the taxing authorities based solely on the technical merits of the position. If the recognition threshold is met, the tax benefit is measured and recognized as the largest amount of tax benefit that is greater than 50% likely to be realized, in the Company’s judgment, see Note 8.

Leases

The Company adopted the Financial Accounting Standards Board (FASB) Accounting Standards Update (ASU) 2016-02, Leases (Topic 842) (ASU 2016-02) in the first quarter of fiscal 2020. This ASU requires lessees to recognize right-of-use assets and lease liabilities for substantially all leases.

The Company determines whether an arrangement that provides control over the use of an asset to the Company is a lease. The Company recognizes a lease liability and corresponding right-of-use asset on the Consolidated Balance Sheets based on the present value of future lease payments, and recognizes lease expense on a straight-line basis over the lease term. Leases with an initial term of 12 months or less are not recorded on the Consolidated Balance Sheets, and are expensed on a straight-line basis over the lease term. Variable lease expense primarily includes leases with payments indexed to inflation when the index changes after lease commencement, and is immaterial.

The Company has elected to separate payments for lease components from non-lease components for all asset classes. Lease agreements may include extension, termination or purchase options, all of which are considered in calculating the lease liability and right-of-use asset when it is reasonably certain the Company will exercise an option. The Company’s incremental borrowing rate on the commencement date is used to calculate the present value of future payments for most leases since the rate implicit in the lease is generally not readily determinable, see Note 9.

Stock-Based Compensation

Stock-based compensation expense is recognized using the fair value method for all awards, see Note 13.

Treasury Stock

Repurchased common stock is stated at cost, determined on an average cost basis, and is presented as a reduction of stockholders’ equity on the Consolidated Balance Sheets.

Research and Development Expenses

Research and development expenses include scientific research costs such as salaries, facility costs, testing, technical information technology and administrative expenditures as well as an allocation of corporate costs. Research and development expenses are for the application of scientific advances to the development of new and improved products and their uses. Substantially all research and development is performed in-house. Expenses are charged against earnings in the year incurred.

Shipping and Handling

Shipping and handling costs of $79.2 million, $68.1 million and $76.7 million are classified as a component of operating expenses in the Consolidated Statements of Earnings for the years ended July 31, 2021, 2020 and 2019, respectively.

Forward Foreign Currency Exchange Contracts

The Company buys materials from foreign suppliers. Those transactions can be denominated in those suppliers’ local currency. The Company also sells to customers in foreign countries. Those transactions can be denominated in those customers’ local currency. Both of these transaction types can create volatility in the Company’s financial statements. The Company uses forward currency exchange contracts to manage those exposures and fluctuations. These contracts generally mature in 12 months or less, which is consistent with the forecasts of the related purchases and sales. Certain contracts are designated as cash flow hedges, whereas the remaining contracts, related to certain intercompany transactions, are not designated, see Note 15.

Net Investment Hedges

The Company uses fixed-to-fixed cross-currency swap agreements to hedge its exposure to adverse foreign currency exchange rate movements for its operations in Europe. This contract terminates in July 2029. The Company has elected the spot method of designating these contracts as net investment hedges, see Note 15.

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Interest Rate Swaps

The Company uses swap agreements to hedge exposure related to interest expense and to manage its exposure to interest rate movements. The Company enters into interest rate swap agreements designated as cash flow hedges to hedge future fixed-rate debt issuances, which effectively fix a portion of interest payments. The Company entered into and terminated agreements within the fiscal year, see Note 15.

Product Warranties

The Company provides for estimated warranty expense at the time of sale and accrues for specific items at the time their existence is known and the amounts are determinable. The Company estimates warranty expense using quantitative measures based on historical warranty claim experience and evaluation of specific customer warranty issues, see Note 17.

New Accounting Standards Recently Adopted

In June 2016, the FASB issued ASU 2016-13, Measurement of Credit Losses on Financial Instruments (ASU 2016-13). In November 2018, the FASB issued an update, ASU 2018-19, that clarifies the scope of the standard in the amendments in ASU 2016-13. This guidance introduces a new model for recognizing credit losses on financial instruments based on an estimate of current expected credit losses. Financial instruments impacted include accounts receivable and other financial assets measured at amortized cost and other off-balance sheet credit exposures. The Company adopted ASU 2016-13 in the first quarter of fiscal 2021 using the modified retrospective approach. The adoption did not have a material impact on its Consolidated Financial Statements.

In April 2019, the FASB issued ASU 2019-04, Codification Improvements to Topic 326, Financial Instruments - Credit Losses, Topic 815 Derivatives and Hedging and Topic 825, Financial Instruments (ASU 2019-04). This guidance clarifies the standards on credit losses (Topic 326), derivatives and hedging (Topic 815) and recognition and measurement of financial instruments (Topic 825). The Company adopted ASU 2019-04 in the first quarter of fiscal 2021 using the modified retrospective approach. The adoption did not have a material impact on its Consolidated Financial Statements.

New Accounting Standards Not Yet Adopted

The Company considers the applicability and impact of all ASU’s issued but not yet adopted. The Company assessed ASU’s not listed above and determined that they were either not applicable or were not expected to have a material impact on the Company’s financial reporting.

Note 2. Acquisitions and Divestitures

In fiscal 2019, the Company acquired 91.0% of the shares of BOFA International LTD (BOFA), headquartered in the United Kingdom, for cash consideration of $101.3 million less cash acquired of $2.2 million. BOFA designs, develops and manufactures fume extraction systems across a wide range of industrial air filtration applications. The acquisition allowed the Company to accelerate its global growth in the fume collection business and added additional filtration technology to the Company’s existing product lines. In the second quarter of fiscal 2021, the Company acquired the remaining 9.0% of the shares of BOFA for $8.0 million.

Note 3. Revenue

The Company recognizes revenue on a wide range of filtration solutions sold to customers in many industries around the globe. Most of the Company’s performance obligations within customer sales contracts are for manufactured filtration systems and replacement parts. The Company also performs limited services and installation. Customer contracts may include multiple performance obligations and the transaction price is allocated to each distinct performance obligation based on its relative standalone selling price.

Revenue Disaggregation

Net sales, generally disaggregated by location where the customer’s order was placed, were as follows (in millions):

Year Ended July 31,

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Contract Assets and Liabilities

The satisfaction of performance obligations and the resulting recognition of revenue typically correspond with billing of the customer. In limited circumstances, the customer may be billed at a time later than when revenue is recognized, resulting in contract assets, which are reported in other current assets on the Consolidated Balance Sheets. Contract assets were $14.9 million and $11.9 million as of July 31, 2021 and 2020. In other limited circumstances, the customer may make a payment at a time earlier than when revenue is recognized and prior to the satisfaction of performance obligations, resulting in contract liabilities, which are reported in other current liabilities and other long-term liabilities on the Consolidated Balance Sheets. Contract liabilities were $12.2 million and $10.0 million as of July 31, 2021 and 2020, respectively.

The Company will recognize revenue in future periods related to remaining performance obligations for certain open contracts. Generally, these contracts have terms of one year or less. The amount of revenue related to unsatisfied performance obligations in which the original duration of the contract is greater than one year, is not significant.

Note 4. Inventories, Net

The components of inventories, net were as follows (in millions):

Note 5. Property, Plant and Equipment, Net

The components of property, plant and equipment, net were as follows (in millions):

Less accumulated depreciation (977.0) (906.1)

Total property, plant and equipment, net $ 617.8 $ 631.6

Note 6. Goodwill and Intangible Assets

The Company has allocated goodwill to reporting units within its Engine Products and Industrial Products segments. There were no dispositions or impairment charges recorded during the years ended July 31, 2021, 2020 and 2019. In the fourth quarter of fiscal 2020, the Company acquired the remaining interest of its joint venture in Saudi Arabia for $7.5 million, and as a result, recorded $5.4 million of goodwill.

Goodwill by reportable segment was as follows (in millions):

Engine Products Segment Industrial Products Segment Total

Goodwill acquired — 5.4 5.4

Currency translation 0.3 8.0 8.3

Goodwill acquired — — —

Currency translation (0.1) 5.8 5.7

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Intangible asset classes were as follows (in millions, except weighted average useful life):

Amortization expense relating to existing intangible assets as of July 31, 2021 was as follows (in millions):

Total amortization expense $ 61.6

Note 7. Short-Term Borrowings and Long-Term Debt

Short-Term Borrowings

Short-term borrowings were as follows (in millions):

Year Ended July 31,

Reductions to borrowing capacity:

Outstanding borrowings — — 48.5 — — 3.8 — — 48.5 3.8

Other non-borrowing reductions include financial instruments such as bank guarantees and foreign exchange instruments. Commitment fees for years ended July 31, 2021 and 2020 were not material.

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Long-Term Debt

Long-term debt was as follows:

Interest Rate Outstanding Balance

Unsecured term loan Variable ¥1.0 billion July 15, 2026 0.47 % N/A 9.1 N/A

Unsecured senior notes Fixed $50.0 million November 5, 2028 2.12 % N/A — N/A

Unsecured senior notes Fixed $100.0 million August 5, 2031 2.50 % N/A — N/A

Unsecured term loan Variable ¥600.0 million July 15, 2021 N/A 0.27 % N/A 5.7

Debt issuance costs, net (2.3) (1.9)

Less current maturities — 5.7

In the fourth quarter of fiscal 2021, the Company entered into a new credit agreement that maintained the borrowing availability of $500.0 million, which replaced the previous agreement. This revolving credit facility is with a group of lenders and allows for borrowings in multiple currencies. The interest rate is calculated using the appropriate benchmark rate plus the applicable rate. The borrowing availability can be reduced or the agreement terminated early at the option of the Company. The Company can request to increase the revolving credit facility by up to $250.0 million, subject to terms of the credit facility agreement, including written notification and lender acceptance, through an accordion feature. Borrowings are automatically rolled over until the credit facility maturity date, unless the agreement is terminated early or the Company is found to be in default. The total facility includes a commitment fee of 0.08% to 0.25%, depending on the Company’s leverage ratio.

Certain debt agreements contain financial covenants related to interest coverage and leverage ratios, as well as other non-financial covenants. As of July 31, 2021, the Company was in compliance with all such covenants.

In the fourth quarter of fiscal 2021, the Company entered into an agreement in which the Company would issue and sell two tranches of unsecured senior notes. The first tranche is a $100.0 million ten year note due 2031 at a fixed interest rate of 2.50%, with proceeds received in August 2021. The second tranche is a $50.0 million seven year note due 2028 at a fixed interest rate of 2.12%, with proceeds to be received in November 2021.

The Company has long-term borrowing capacity of $417.3 million available for further borrowing under existing credit facilities as of July 31, 2021. The remaining borrowing capacity has been reduced for standby letters of credit as discussed in Note 16.

Future maturities of the Company’s long-term debt as of July 31, 2021 were as follows (in millions):

Total future maturities payments 463.3

Less debt issuance costs, net 2.3

Total future maturities payments, net of debt issuance costs $ 461.0

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Note 8. Income Taxes

The components of earnings before income taxes were as follows (in millions):

Year Ended July 31,

The components of the provision for income taxes were as follows (in millions):

Year Ended July 31,

Current

Deferred

Total provision for income taxes $ 94.1 $ 78.2 $ 108.0

The reconciliation of the U.S. statutory income tax rate with the effective income tax rate was as follows:

Year Ended July 31,

Statutory U.S. federal rate 21.0 % 21.0 % 21.0 %

Global Intangible Low Tax Income 0.6 0.2 1.3

Foreign Derived Intangible Income (0.7) (1.4) (1.4)

Export, manufacturing and research credits (0.7) (0.7) (0.8)

Change in unrecognized tax benefits 0.2 0.6 (0.8)

Tax benefits on stock-based compensation (1.0) (1.2) (1.6)

Impact of U.S. Tax Cuts and Jobs Act — — 5.0

Effective income tax rate 24.7 % 23.3 % 28.8 %

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The tax effects of temporary differences that give rise to deferred tax assets and liabilities were as follows (in millions):

Deferred tax assets

Accrued expenses $ 12.8 $ 9.9

Compensation and retirement plans 28.3 31.8

Net operating loss (NOL) and tax credit carryforwards 7.9 8.1

Inventory reserves 2.6 3.4

Operating lease assets 12.7 18.8

Gross deferred tax assets 72.0 76.2

Valuation allowance (4.6) (8.1)

Deferred tax assets, net of valuation allowance 67.4 68.1

Deferred tax liabilities

Depreciation and amortization (57.0) (47.4)

Operating lease liabilities (12.7) (18.8)

Deferred tax liabilities (73.2) (68.0)

Net deferred tax (liability) asset $ (5.8) $ 0.1

The activity in the NOL and tax credit valuation allowances was as follows (in millions):

Year Ended July 31,

Balance as of beginning of year $ (8.1) $ (4.4) $ (6.2)

Additions charged to costs and expenses (0.8) (3.7) (0.2)

Deductions from reserves 4.3 — 2.0

Balance as of end of year $ (4.6) $ (8.1) $ (4.4)

As of July 31, 2021, the Company had deferred tax assets related to U.S. federal foreign tax credits of $4.7 million, state research and development credits of $2.5 million and foreign operating loss carryovers of $0.7 million. The U.S. federal tax credits will expire after 10 years. The state portion will expire after one to 20 years and the foreign portion after 12 years. As of July 31, 2021, the Company had provided $4.6 million for a valuation allowance against certain of these deferred tax assets based on management’s determination that it is more-likely-than-not that the tax benefits related to these assets will not be realized.

As of July 31, 2021, the total undistributed earnings of the Company’s non-U.S. subsidiaries was $1.3 billion, of which $1.0 billion was not considered indefinitely reinvested. The Company is subject to foreign withholding taxes on a small portion of these earnings distributable in the future in the form of dividends. Thus, the Company provides for foreign withholding taxes payable upon future dividend distributions of the earnings not considered indefinitely reinvested annually. For the year ended July 31, 2021, the Company recognized a tax charge of $8.8 million related to these foreign withholding taxes. The remaining $255.0 million of earnings are considered indefinitely reinvested, and it is not practicable to estimate, within any reasonable range, the additional taxes that may be payable on the potential distribution of the portion of the undistributed earnings considered indefinitely reinvested.

The transition tax related to the U.S. Tax Cuts and Jobs Act on undistributed earnings was accrued in fiscal 2018, and it is payable over an eight year period and the portion not due within 12 months as of July 31, 2021 was $60.1 million. This amount was classified in non-current income taxes payable on the Consolidated Balance Sheets.

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The reconciliation of the beginning and ending amount of gross unrecognized tax benefits was as follows (in millions):

Year Ended July 31,

Balance as of beginning of year $ 16.9 $ 15.5 $ 18.5

Additions for tax positions of the current year 4.7 2.8 2.5

Additions for tax positions of prior years 2.7 0.2 0.7

Reductions for tax positions of prior years (1.0) (0.1) (4.9)

Reductions due to lapse of applicable statute of limitations (4.6) (1.5) (1.3)

Balance as of end of year $ 18.7 $ 16.9 $ 15.5

The Company recognizes interest and penalties accrued related to unrecognized tax benefits in income tax expense. During the year ended July 31, 2021, the Company recognized interest expense, net of tax benefit, of $0.4 million. As of July 31, 2021 and 2020, accrued interest and penalties on a gross basis were $1.6 million and $2.2 million, respectively. If the Company were to prevail on all unrecognized tax benefits recorded, substantially all of the unrecognized tax benefits would benefit the effective tax rate. With an average statute of limitations of five years, up to $4.9 million of the unrecognized tax benefits could potentially expire in the next 12 months, unless extended by an audit.

The Company files income tax returns in the U.S. federal jurisdiction and various state and foreign jurisdictions. The U.S. Internal Revenue Service has completed examinations of the Company’s U.S. federal income tax returns through 2017. With few exceptions, the Company is no longer subject to state and foreign income tax examinations by tax authorities for years before 2016.

The Company believes that it is remote that any adjustment necessary to the reserve for income taxes over the next 12 months will be material. However, it is possible the current and future resolution of audits or disputes may result in a material change to the reserve for income taxes, although the quantification of such potential adjustments cannot be made at this time.

Note 9. Leases

The Company enters into operating leases primarily for office, production and warehouse facilities, production and non-production equipment, automobiles and computer equipment.

The Company’s operating lease costs were as follows (in millions):

Year Ended July 31,

Operating lease cost $ 25.6 $ 30.1

Short-term lease cost 2.4 2.4

Total lease costs $ 28.0 $ 32.5

Supplemental balance sheet information for the Company was as follows (in millions):

Right-of-use lease assets $ 51.2 $ 73.7

Current lease liabilities $ 18.1 $ 25.7

Long-term lease liabilities $ 33.7 $ 48.1

Additional information related to operating leases was as follows:

Weighted average remaining lease term (years) 4.6 4.8

Weighted average discount rate 3.26 % 3.50 %

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Remaining payments for operating leases having initial terms of more than one year as of as of July 31, 2021 were as follows (in millions):

Thereafter 7.7

Total future lease payments 54.3

Less imputed interest 3.1

Present value of future lease payments $ 51.2

Note 10. Earnings Per Share

Basic net earnings per share is computed by dividing net earnings by the weighted average number of outstanding common shares. Diluted net earnings per share is computed by dividing net earnings by the weighted average number of outstanding common shares and common share equivalents relating to stock options and other stock incentive plans.

Basic and diluted net earnings per share calculations were as follows (in millions, except per share amounts):

Year Ended July 31,

Weighted average common shares outstanding

Dilutive impact of stock-based awards 1.8 1.4 2.0

Net earnings per share – basic $ 2.27 $ 2.03 $ 2.08

Net earnings per share – diluted $ 2.24 $ 2.00 $ 2.05

Stock options excluded from net earnings per share calculation 0.8 1.7 0.8

Note 11. Stockholders’ Equity

Share Repurchases

The Company’s Board of Directors has authorized the repurchase of up to 13.0 million shares of common stock under the Company’s stock repurchase plan. This repurchase authorization is effective until terminated by the Board of Directors. During the year ended July 31, 2021, the Company repurchased 2.4 million shares for $142.2 million. During the year ended July 31, 2020, the Company repurchased 2.0 million shares for $94.3 million. As of July 31, 2021, the Company had remaining authorization to repurchase 8.3 million shares under this plan.

Treasury stock share activity was as follows:

Year Ended July 31,

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Dividends Paid and Declared

Dividends paid were 85.0 cents and 84.0 cents per common share for the years ended July 31, 2021 and 2020, respectively. On July 30, 2021, the Company’s Board of Directors declared a cash dividend in the amount of 22.0 cents per common share, payable August 31, 2021, to stockholders of record as of August 16, 2021.

Note 12. Accumulated Other Comprehensive Loss

Changes in accumulated other comprehensive loss for the years ended July 31, 2021 and 2020 were as follows (in millions):

Tax expense — (9.3) (0.2) (9.5)

Reclassifications, before tax — 10.0 (2) (0.2) 9.8

Tax expense — (2.2) (0.1) (2.3)

Reclassifications, net of tax — 7.8 (0.3) (3) 7.5

Other comprehensive income, net of tax 30.0 35.3 0.5 65.8

Tax benefit — 4.1 — 4.1

Reclassifications, before tax — 2.5 (2) 1.0 3.5

Tax expense — (0.8) (0.4) (1.2)

Reclassifications, net of tax — 1.7 0.6 (3) 2.3

Other comprehensive income (loss), net of tax 18.7 (11.0) 1.2 8.9

(1)In fiscal 2021, pension curtailment and settlement accounting was triggered and the Company recorded charges of $2.8 million. Remeasurements of the Company’s pension obligations resulted in a decrease to other comprehensive loss of $36.8 million, see Note 14.

In fiscal 2020, pension settlement accounting was triggered and the Company recorded a pension settlement charge of $3.1 million. Remeasurements of the Company’s pension obligations resulted in an increase to other comprehensive loss of $16.8 million, see Note 14.

(2)Includes net amortization of prior service costs and actuarial losses included in net periodic benefit costs that were reclassified from accumulated other comprehensive loss on the Consolidated Balance Sheets to cost of sales and operating expenses in the Consolidated Statements of Earnings, see Note 14.

(3)Relates to designated forward foreign currency exchange contracts that were reclassified from accumulated other comprehensive loss to other income, net in the Consolidated Statements of Earnings, see Note 15.

Note 13. Stock-Based Compensation

The Company recognizes stock-based compensation expense for all stock-based awards based on the grant date fair value of the award. Stock-based awards consist primarily of non-qualified stock options, performance-based awards, restricted stock awards and restricted stock units. Grants related to restricted stock awards and restricted stock units are immaterial.

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Stock Options

The exercise price of options granted is equal to the market price of the Company’s common stock at the date of the grant. Options are generally exercisable for up to 10 years from the date of grant and vest in equal increments over three years. The Company issues treasury shares upon option exercise.

For the years ended July 31, 2021, 2020 and 2019, the Company recorded pretax stock-based compensation expense associated with options of $10.8 million, $10.4 million and $9.8 million, respectively. Fair value is calculated using the Black-Scholes option pricing model.

The weighted average fair value for options granted during the years ended July 31, 2021, 2020 and 2019 was $10.23, $10.93 and $12.27 per share, respectively.

The fair value of these awards was determined using following inputs:

Year Ended July 31,

Expected dividend yield 1.6 % 1.6 % 1.6 %

Expected life:

Director and officer grants 8 years 8 years 8 years

Non-officer grants 7 years 7 years 7 years

Option activity was as follows:

OptionsOutstanding WeightedAverage ExercisePrice

The total intrinsic value of options exercised during the years ended July 31, 2021, 2020 and 2019 was $22.6 million, $18.3 million and $30.3 million, respectively.

The number of shares authorized as of July 31, 2021 for outstanding options and future grants was 10,361,676. Unvested options forfeited are recorded in operating expenses in the Consolidated Statements of Earnings in the period in which they occur.

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Outstanding and exercisable stock options as of July 31, 2021 were as follows:

As of July 31, 2021, the aggregate intrinsic value of stock options outstanding and exercisable was $142.7 million and $112.8 million, respectively.

For the year ended July 31, 2021, activity for non-vested stock options that contain vesting provisions was as follows:

Options WeightedAverage GrantDate FairValue

As of July 31, 2021, there was $6.1 million of total unrecognized compensation expense related to non-vested stock options, which is expected to be recognized over the remaining vesting period during fiscal 2022, 2023 and 2024.

Performance-Based Awards

Performance-based awards are payable in common stock and are based on a formula that measures Company performance over a three year period. These awards are settled after three years with payouts ranging from zero to 200% of the target award value depending on achievement. Performance-based award expense under these plans totaled $1.9 million, $3.4 million and $3.8 million in the years ended July 31, 2021, 2020 and 2019, respectively.

The weighted average grant date fair value related to the Company’s performance-based awards was as follows:

Year Ended July 31,

Weighted average grant date fair value $ 46.06 $ 51.61 $ 58.35

Performance-based award for non-vested activity was as follows:

Performance Shares WeightedAverage GrantDate FairValue

As of July 31, 2021, there was $6.6 million of total unrecognized compensation expense related to non-vested performance shares, which is expected to be recognized over the remaining vesting period during fiscal 2022, 2023 and 2024.