Donaldson Company, Inc. (DCI) Earnings

Management highlights

- **Record Fiscal 2026 Performance**: Achieved all-time high sales of $3.9 billion (up 5%) and EPS of $3.98 (up 8%). Operating margin expanded to a record 16%. Returned $250 million to shareholders via dividends and buybacks. - **FACET Acquisition Integration**: Completed the largest acquisition in company history on May 4, 2026. FACET contributed ~$30 million in Q4 sales and is accretive to gross margin and operating profit dollars. Integration progress includes technical collaboration and synergy realization, though amortization and interest expenses are slightly higher than expected. - **Operational Efficiency & Margins**: Q4 consolidated operating margin hit a record 17.5%, with gross margin expanding 190 basis points to 36.7%. This was driven by volume, pricing, mix, and improved operational efficiency, partially offset by input cost inflation from Middle East conflicts and power generation inefficiencies. - **Segment Specifics**: - *Mobile*: Strong aftermarket growth (+9%) and share gains in independent channels. China sales surged 27%. First-fit on-road sales grew 9% as truck production ramps. - *Industrial*: Power generation demand remains strong with a robust order book through FY2028. Dust collection orders accelerated in Q4. Supply chain issues in A&D persist but are being managed. - *Life Sciences*: Restructured Food/Bev and Microelectronics into 'Process Filtration' effective Q1. Driven by data center AI tailwinds and new technology adoption (Hammer disk drive tech). - **Capital Allocation**: Priorities include reinvestment in R&D, disciplined M&A, dividend increases (30 consecutive years), and share repurchases (resumed after FACET acquisition). Leverage ratio is healthy at ~1.4x net debt to EBITDA.

Guidance

- **Full Year Fiscal 2027 Sales**: Forecasted between $4.1 billion and $4.15 billion (midpoint >$4.1B), representing 5.5% to 9.5% growth over prior year. Growth drivers include ~2pp from FACET, ~2pp from pricing, ~1pp from currency, and organic volume. - **Operating Margin**: Expected range of 16.6% to 17.2%, implying a midpoint improvement of 90 basis points year-over-year. Driven by gross margin expansion (pricing, FACET structural margin, efficiency) partially offset by FACET run-rate expenses and $22 million in amortization. - **Earnings Per Share**: Midpoint guidance of approximately $4.30, an 8% increase over prior year. Includes ~12 cents of dilution from FACET (amortization and interest). - **Free Cash Flow Conversion**: Projected between 95% and 105%, supported by targeted capital investments and working capital management. - **Segment Guidance**: - *Mobile*: Sales growth of 2% to 6%. Off-road mid-single digits; On-road high single digits; Aftermarket mid-single digits. - *Industrial*: Total sales growth in mid-teens (half from FACET). Organic IFS mid-single digits. Organic A&D mid-teens growth as supply constraints resolve. - *Life Sciences*: Sales growth of 7% to 11%.

Segment performance

Mobile Solutions: Sales of $635 million, up 8% year-over-year, representing approximately 16.3% of total consolidated sales. Pre-tax margin reached a record 21.3%, up 220 basis points from the prior year. Industrial Solutions (IFS): Total segment sales were $334 million, up 8%. This included $30 million (approx. 10 percentage points) of growth from the FACET acquisition. Organic IFS sales declined 2%. Aerospace and Defense sales rose 61% to $76 million, while organic A&D declined 3% due to supply chain constraints. Life Sciences: Sales of $90 million, up 10% year-over-year, driven by double-digit growth in disk drive and solid food/beverage sectors.

Risks & headwinds

- **Supply Chain Constraints**: Persistent issues in Aerospace & Defense, particularly related to the transition from California to Illinois facilities, which will take the first half of FY2027 to normalize. - **Input Cost Inflation**: Select inflationary pressures linked to geopolitical conflicts in the Middle East impacting raw material costs. - **Operational Inefficiencies**: Ongoing stabilization efforts at the Mexico plant for power generation, causing temporary gross margin pressure (~40 bps in Q4), expected to fully recover by mid-FY2027. - **Acquisition Integration Risks**: Higher-than-expected amortization and interest expenses associated with the FACET deal, though business performance is in line with forecasts. - **Macro Uncertainty**: Tariffs and global geopolitical tensions creating execution challenges.

Analyst Q&A

• Q: Analyst asked about underlying operational headwinds for FY27 margins given the back-half seasonality and FACET impact. /

  A: Management confirmed normal seasonality accounts for ~57% of operating profit in H2. No broad operational challenges exist, only acute ones like industrial execution. Gross margin expansion is expected, partially offset by $22M in incremental FACET amortization and operating expense headwinds. The full-year outlook remains positive with no major hidden risks.

• Q: Analyst questioned why FY27 EPS guidance assumes only ~12 cents of FACET dilution despite 6 cents in Q4 alone, asking if it reflects debt paydown or purchase accounting step-down. /

  A: CFO explained that Q4 amortization was disproportionately high compared to the annualized $22M run rate, and partial debt paydown occurred. Crucially, on a cash-basis (business performance less interest), FACET is accretive in FY27. The lower dilution guidance reflects the normalization of amortization and reduced interest burden compared to the initial quarter.

• Q: Analyst requested timing details on when aerospace and defense supply constraints would resolve, citing mid-teens organic growth guidance. /

  A: CEO stated the primary issue is ramping production at the new Illinois facility following the closure of the California site, which will consume H1 resources. Broader supply base issues are transient and under control. The team feels confident resolving these through the fiscal year, allowing the mid-teens growth trajectory to materialize as backlogs are delivered.

• Q: Analyst sought detail on Life Sciences trends for FY28-29 and the dynamic between first-fit and replacement in Power Generation. /

  A: Life Sciences outlook is steady with legs beyond FY27, driven by share gains, pricing, and the Hammer technology shift in disk drives. Process filtration benefits from AI/data center liquid cooling tailwinds. In Power Gen, the mix is roughly 50/50 first-fit and aftermarket. First-fit is growing aggressively, expanding the install base, which will drive significant aftermarket revenue in a few years. The business is booked out through FY2028.

• Q: Analyst asked about future margin profiles for Life Sciences and current trends in Dust Collection within Industrial. /

  A: Management expects Life Sciences to become a significantly above-company-average margin business over the next 18 months as new product and commercial milestones mature. For Dust Collection, orders accelerated in Q4, showing positive trends though not yet matching Mobile's strength. Roughly half of this business is recurring revenue, providing durability even if CapEx softens.