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Pall 10-Q 2010

Documents found in this filing:

  1. 10-Q
  2. Ex-31.1
  3. Ex-31.2
  4. Ex-32.1
  5. Ex-32.2
  6. Ex-32.2
pallcorp_10q.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
þ Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended April 30, 2010
or
 
Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from to
 
Commission File Number: 001- 04311
 
PALL CORPORATION
(Exact name of registrant as specified in its charter)
 
New York 11-1541330
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
 
25 Harbor Park Drive, Port Washington, NY    11050
(Address of principal executive offices) (Zip Code)

(516) 484-5400
(Registrant’s telephone number, including area code)
 
     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o
 
     Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o
 
     Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
                 Large accelerated filer þ Accelerated filer o
 
                 Non-accelerated filer o Smaller reporting company o
(Do not check if a smaller reporting company)  

     Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ
 
     The number of shares of the registrant’s common stock outstanding as of June 3, 2010 was 116,665,051.
 


Table of Contents
 
Page No.
PART I. FINANCIAL INFORMATION
Item 1.       Financial Statements (Unaudited).     
Condensed Consolidated Balance Sheets as of April 30, 2010 and July 31, 2009. 3
Condensed Consolidated Statements of Earnings for the three and nine months ended
       April 30, 2010 and April 30, 2009. 4
Condensed Consolidated Statements of Cash Flows for the nine months ended
       April 30, 2010 and April 30, 2009. 5
Notes to Condensed Consolidated Financial Statements. 6  
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations. 26
Item 3. Quantitative and Qualitative Disclosures About Market Risk. 39
Item 4 Controls and Procedures. 40
PART II. OTHER INFORMATION
Item 1. Legal Proceedings. 41
Item 1A.   Risk Factors.  42  
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds. 42
Item 6. Exhibits. 42
SIGNATURES 43

2
 


PART I. FINANCIAL INFORMATION
 
ITEM 1. FINANCIAL STATEMENTS.
 
PALL CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except per share data)
(Unaudited)
 
Apr. 30, 2010 July 31, 2009
ASSETS      
Current assets:
       Cash and cash equivalents $ 483,884 $ 414,011
       Accounts receivable 517,558 561,063
       Inventories 430,194 413,278  
       Prepaid expenses 35,870 32,204
       Other current assets 148,965 149,894
              Total current assets 1,616,471 1,570,450
Property, plant and equipment 687,002 681,658
Goodwill 282,805 282,777
Intangible assets 71,047 63,751
Other non-current assets 231,957 242,176
              Total assets $ 2,889,282 $ 2,840,812
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
       Notes payable $ 40,113   $ 42,371
       Accounts payable and other current liabilities 414,129 422,794
       Income taxes payable   103,432   137,846
       Current portion of long-term debt 1,999 97,432
       Dividends payable 18,685 16,947
              Total current liabilities 578,358 717,390
Long-term debt, net of current portion 685,975 577,666
Income taxes payable – non-current 126,177 133,919
Deferred taxes and other non-current liabilities 275,809 297,239
       Total liabilities 1,666,319 1,726,214
 
Stockholders’ equity:
       Common stock, par value $.10 per share 12,796 12,796
       Capital in excess of par value 215,123 197,759
       Retained earnings 1,360,136 1,237,735
       Treasury stock, at cost (355,165 ) (354,274 )
       Stock option loans (228 ) (435 )
       Accumulated other comprehensive (loss)/income:
              Foreign currency translation 94,488 127,015
              Pension liability adjustment (108,977 ) (108,977 )
              Unrealized investment gains 4,889 3,423
              Unrealized losses on derivatives (99 ) (444 )
  (9,699 ) 21,017
Total stockholders’ equity 1,222,963 1,114,598
Total liabilities and stockholders’ equity $       2,889,282 $       2,840,812  
 
See accompanying notes to condensed consolidated financial statements.
 
3
 


PALL CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
(In thousands, except per share data)
(Unaudited)
 
Three Months Ended Nine Months Ended
Apr. 30, 2010       Apr. 30, 2009       Apr. 30, 2010       Apr. 30, 2009
Net sales $ 615,982 $ 555,883 $      1,723,322   $ 1,677,201
Cost of sales 302,450 291,653 855,307 877,231
Gross profit 313,532 264,230 868,015 799,970
 
Selling, general and
       administrative expenses      187,303      168,747 550,973 516,337
Research and development 18,986 16,218 54,874 52,570
Restructuring and other
       charges, net 2,030 8,369 6,659 25,291
Interest expense, net 3,254 6,576   6,342 22,555
Earnings before income taxes 101,959   64,320 249,167 183,217
Provision for income taxes   32,268 20,158 62,874 57,097
 
Net earnings $ 69,691 $ 44,162 $ 186,293 $ 126,120
 
Earnings per share:
       Basic $ 0.59 $ 0.37 $ 1.58   $ 1.06
       Diluted $ 0.58 $ 0.37 $ 1.56 $ 1.05
 
Dividends declared per share $ 0.16 $ 0.145 $ 0.465 $ 0.42
 
Average shares outstanding:
       Basic 117,589 118,305 117,713 118,753
       Diluted 119,204 119,065 119,107      119,689

See accompanying notes to condensed consolidated financial statements.
 
4
 


PALL CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
 
Nine Months Ended
Apr. 30, 2010 Apr. 30, 2009
Operating activities:     
Net cash provided by operating activities $ 257,041 $ 154,912
 
Investing activities:
Capital expenditures (93,513 ) (92,531 )
Proceeds from sale of retirement benefit assets 31,481 13,395
Purchases of retirement benefit assets (42,322 ) (15,086 )
Acquisitions of businesses, net of cash acquired (8,984 ) (37,249 )
Other (11,798 ) (11,823 )
Net cash used by investing activities (125,136 )        (143,294 )
 
Financing activities:
Notes payable (2,050 ) (6,934 )
Dividends paid (52,600 ) (47,862 )
Net proceeds from stock plans 22,762 15,329
Purchase of treasury stock (36,202 ) (64,884 )
Long-term borrowings 30,096 171,010
Repayments of long-term debt (16,739 ) (177,860 )
Excess tax benefits from stock-based compensation
       arrangements 1,468 418
Net cash used by financing activities (53,265 ) (110,783 )
Cash flow for period 78,640 (99,165 )
Cash and cash equivalents at beginning of year 414,011 454,065
Effect of exchange rate changes on cash and cash
       equivalents (8,767 ) (34,837 )
Cash and cash equivalents at end of period $          483,884 $ 320,063
Supplemental disclosures:
       Interest paid $ 25,392 $ 39,543
       Income taxes paid (net of refunds) 75,440 71,877

See accompanying notes to condensed consolidated financial statements.
 
5
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except per share data)
(Unaudited)
 
NOTE 1 - BASIS OF PRESENTATION
 
     The condensed consolidated financial information of Pall Corporation and its subsidiaries (hereinafter collectively called the “Company”) included herein is unaudited. Such information reflects all adjustments of a normal recurring nature, which are, in the opinion of Company management, necessary to present fairly the Company’s consolidated financial position, results of operations and cash flows as of the dates and for the periods presented herein. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes set forth in the Company’s Annual Report on Form 10-K for the fiscal year ended July 31, 2009 (“2009 Form 10-K”).
 
     The Company has evaluated subsequent events for possible disclosure through the date the financial statements were issued, noting no events that would require adjustment to, or disclosures in, the unaudited condensed consolidated financial statements as of and for the three and nine months ended April 30, 2010.
 
NOTE 2 - ADOPTION OF NEW ACCOUNTING PRONOUNCEMENTS
 
     In January 2010, the Financial Accounting Standards Board (“FASB”) issued updated guidance that amends the disclosure requirements for fair value measurements. This updated guidance: (i) requires that the amounts of significant transfers in and out of Level 1 and Level 2 fair value measurements be disclosed separately along with the reasons for the transfer; (ii) clarifies the requirement that a reporting entity should provide fair value measurement disclosures for each class of assets and liabilities; and (iii) clarifies the requirement that a reporting entity should provide disclosures about the valuation techniques and inputs used to measure fair value for both recurring and nonrecurring Level 2 and Level 3 fair value measurements. This new guidance was effective with the Company’s third quarter of fiscal year 2010. Effective for the Company’s first quarter of fiscal year 2012, this guidance requires that in the reconciliation of Level 3 fair value measurements, information about purchases, sales, issuances and settlements be presented separately on a gross basis. See Note 12, Fair Value Measurements, for the required disclosures.
 
     In June 2009, the FASB issued authoritative guidance that established the FASB Accounting Standards Codification (“ASC”) as the source of authoritative accounting principles recognized by the FASB to be applied in the preparation of financial statements in conformity with United States (“U.S.”) Generally Accepted Accounting Principles (“GAAP”). In addition, this guidance also recognizes rules and interpretive releases of the U.S. Securities and Exchange Commission (“SEC”) as authoritative GAAP for SEC registrants. This new guidance was effective for the Company beginning with its first quarter of fiscal year 2010. The ASC does not change current GAAP other than the manner in which new accounting guidance is referenced, and the adoption of this authoritative guidance did not have an impact on the Company’s condensed consolidated financial statements.
 
     In April 2009, the FASB issued authoritative guidance that requires publicly traded companies to provide disclosures about fair value of financial instruments in interim financial information. This new guidance was effective for the Company beginning with its first quarter of fiscal year 2010. See Note 13, Investment Securities, for the required disclosures.
 
     In April 2009, the FASB issued authoritative guidance to require that assets acquired and liabilities assumed in a business combination that arise from contingencies be recognized at fair value if fair value can be reasonably determined. If the fair value of such assets or liabilities cannot be reasonably determined, then they would generally be recognized in accordance with certain other pre-existing authoritative guidance. This new guidance also amends the subsequent accounting for assets and liabilities arising from contingencies in a business combination and certain other disclosure requirements. This new guidance was effective for the Company beginning with its first quarter of fiscal year 2010. The adoption of this authoritative guidance did not have a material impact on the Company’s condensed consolidated financial statements.
 
     In April 2008, the FASB issued authoritative guidance that amends the factors that should be considered in developing renewal or extension assumptions that are used to determine the useful life of a recognized intangible asset and requires enhanced related disclosures. This new guidance was effective for the Company beginning with its first quarter of fiscal year 2010. The adoption of this authoritative guidance did not have any impact on the Company’s condensed consolidated financial statements.
 
6
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
     In February 2008, the FASB issued authoritative guidance that permitted the delayed application of fair value measurement guidance for non-financial assets and liabilities that are recognized or disclosed at fair value on a non-recurring basis which, including consideration of the delay, was effective for the Company beginning with its first quarter of fiscal year 2010. The Company’s non-financial assets and liabilities subject to this guidance principally consist of intangible assets acquired through business combinations and long-lived assets. The adoption of this authoritative guidance did not impact the Company’s condensed consolidated financial statements. See Note 12, Fair Value Measurements, for further discussion.
 
     In December 2007, the FASB issued authoritative guidance related to the accounting for business combinations. This guidance establishes principles and requirements for how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any non-controlling interest in the acquiree; recognizes and measures the goodwill acquired in the business combination or a gain from a bargain purchase, and determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination. This new guidance was effective for the Company beginning with its first quarter of fiscal year 2010. The impact of adopting this authoritative guidance generally impacts the accounting for future business combinations; specifically, certain aspects of business combination accounting, such as transaction costs and certain merger-related restructuring reserves. One exception to the prospective application of this guidance relates to accounting for income taxes associated with business combinations that closed prior to the beginning of the Company’s first quarter of fiscal year 2010. Once the purchase accounting measurement period closes for these acquisitions, any further adjustments to income taxes recorded as part of these business combinations will impact income tax expense. Previously, further adjustments were predominantly recorded as adjustments to goodwill. The Company did not have any material acquisitions during the first nine months of fiscal year 2010. The total amount of such unrecognized income tax benefits as of August 1, 2009 that would impact the effective tax rate was $15,288.
 
     In December 2007, the FASB issued authoritative guidance related to the accounting for noncontrolling interests in consolidated financial statements. This guidance establishes accounting and reporting standards for ownership interests in subsidiaries held by parties other than the parent, the amount of consolidated net income attributable to the parent and to the noncontrolling interest, changes in a parent’s ownership interest, and the valuation of retained noncontrolling equity investments when a subsidiary is deconsolidated. In addition, this guidance also establishes disclosure requirements that clearly identify and distinguish between the interests of the parent and the interests of the noncontrolling owners. This new guidance was effective for the Company beginning with its first quarter of fiscal year 2010. The adoption of this authoritative guidance did not have any impact on the Company’s condensed consolidated financial statements.
 
NOTE 3 - BALANCE SHEET DETAILS
 
     The following tables provide details of selected balance sheet items:
 
Apr. 30, 2010 July 31, 2009
Accounts receivable:      
       Billed $          452,765   $          464,023  
       Unbilled   76,035 107,642
       Total 528,800 571,665
       Less: Allowances for doubtful accounts (11,242 ) (10,602 )
$ 517,558 $ 561,063
 
     Unbilled receivables principally relate to long-term contracts recorded under the percentage-of-completion method of accounting.
 
Apr. 30, 2010       July 31, 2009
Inventories:
       Raw materials and components $          118,218 $          115,274
       Work-in-process   57,941 55,409
       Finished goods 254,035   242,595
$ 430,194 $ 413,278
 
7
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
Apr. 30, 2010       July 31, 2009
Property, plant and equipment:
       Property, plant and equipment $       1,525,896   $       1,512,624
       Less: Accumulated depreciation
              and amortization (838,894 ) (830,966 )
$ 687,002 $ 681,658
 
NOTE 4 - GOODWILL AND INTANGIBLE ASSETS
 
     The following table presents goodwill, allocated by reportable segment.
 
Apr. 30, 2010       July 31, 2009
Life Sciences $ 91,052 $ 91,361
Industrial        191,753          191,416
$ 282,805 $ 282,777
 
     The change in the carrying amount of goodwill is primarily attributable to the excess cost over fair value of the net assets acquired relating to an immaterial acquisition of a biotechnology company during the second quarter of fiscal year 2010, which is reflected in the Life Sciences segment, partially offset by changes in foreign exchange rates used to translate the goodwill contained in the financial statements of foreign subsidiaries using the rates at each respective balance sheet date.
 
     Intangible assets, net, consist of the following:
 
Apr. 30, 2010
Accumulated
Gross       Amortization       Net
Patents and unpatented technology $ 99,310 $ 55,400 $      43,910
Customer-related 26,147 2,782 23,365
Trademarks 6,443 4,104 2,339
Other 3,511 2,078 1,433
$      135,411 $ 64,364 $ 71,047
 
July 31, 2009
Accumulated
Gross Amortization Net
Patents and unpatented technology $ 96,421 $      49,680 $ 46,741
Customer-related 13,910   1,297   12,613
Trademarks 6,379 3,712 2,667
Other 3,780 2,050 1,730
$ 120,490 $ 56,739 $ 63,751
 
     The change in the carrying amount of customer-related intangibles is primarily related to the purchase of certain distribution rights to a customer base related primarily to the Life Sciences segment and the acquisition of a biotechnology company, as discussed above.
 
     Amortization expense for intangible assets for the three and nine months ended April 30, 2010 was $3,161 and $8,475, respectively. Amortization expense for intangible assets for the three and nine months ended April 30, 2009 was $2,633 and $7,155, respectively. Amortization expense is estimated to be approximately $3,092 for the remainder of fiscal year 2010, $12,239 in fiscal year 2011, $11,973 in fiscal year 2012, $8,428 in fiscal year 2013, $7,212 in fiscal year 2014 and $5,813 in fiscal year 2015.
 
8
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
NOTE 5 - TREASURY STOCK
 
     On November 15, 2006, the board of directors authorized an expenditure of $250,000 to repurchase shares of the Company’s common stock. On October 16, 2008, the board authorized an additional expenditure of $350,000 to repurchase shares. The Company’s shares may be purchased over time, as market and business conditions warrant. There is no time restriction on these authorizations. During the nine months ended April 30, 2010, the Company purchased 961 shares in open-market transactions at an aggregate cost of $36,202 with an average price per share of $37.65. As of April 30, 2010, $416,741 remains to be expended under the current board repurchase authorizations. Repurchased shares are held in treasury for use in connection with the Company’s stock plans and for general corporate purposes.
 
     During the nine months ended April 30, 2010, 1,104 shares were issued under the Company’s stock-based compensation plans. At April 30, 2010, the Company held 10,940 treasury shares.
 
NOTE 6 - CONTINGENCIES AND COMMITMENTS
 
     With respect to the matters described in Note 15, Contingencies and Commitments, to the Company’s consolidated financial statements included in the 2009 Form 10-K, under the heading Federal Securities Class Actions, Shareholder Derivative Lawsuits and Other Proceedings, no liabilities or related receivables for insurance recoveries have been reflected in the condensed consolidated financial statements as of April 30, 2010 as these amounts are not currently estimable.
 
     The Company and its subsidiaries are subject to certain other legal actions that arise in the normal course of business. Other than those legal proceedings and claims discussed below and in the 2009 Form 10-K, the Company did not have any current other legal proceedings and claims that would individually or in the aggregate have a reasonably possible materially adverse affect on its financial condition or operating results. However, the results of legal proceedings cannot be predicted with certainty. If the Company failed to prevail in several of these legal matters in the same reporting period, the operating results of a particular reporting period could be materially adversely affected.
 
Federal Securities Class Actions:
 
     As previously disclosed in Part 1 – Item 3 – Legal Proceedings in the 2009 Form 10-K, the U.S. District Court for the Eastern District of New York consolidated four putative class action lawsuits filed against the Company and certain members of its management team alleging violations of Sections 10(b) and 20(a) of the Exchange Act and Exchange Act Rule 10b-5 relating to the Company’s understatement of certain U.S. federal income tax payments and its provision for income taxes in certain prior periods (as described in Note 2, Audit Committee Inquiry and Restatement to the consolidated financial statements included in the 2007 Form 10-K). On September 21, 2009, the Court denied the Company’s motion to dismiss the consolidated amended complaint. On October 9, 2009, the Company moved for certification for interlocutory appeal, and the Court denied the motion by Memorandum and Order entered November 25, 2009.
 
Environmental Matters:
 
     With respect to the environmental matters at the Company’s Glen Cove, New York site, previously disclosed in Part I — Item 3 — Legal Proceedings in the Company’s 2009 Form 10-K, the Company and the New York State Department of Environmental Conservation executed on September 23, 2009 a Consent Decree settling liability for the shallow and intermediate groundwater zones, termed OU-1. On October 23, 2009, the Consent Decree was entered by the clerk of the federal District Court for the Eastern District of New York and became effective. Pursuant to the Consent Decree, the Company agreed to pay $2 million (which was previously accrued) in exchange for a broad release of OU-1 claims and liability. The settlement payment of $2 million, which was due by November 23, 2009, was paid by the Company on November 19, 2009. Claims and losses arising out of or in connection with the deep groundwater zone, termed OU-2, and any damages to the State’s natural resource are not covered by the Consent Decree and are thus excluded from the settlement. As previously disclosed in Part I — Item 3 — Legal Proceedings in the Company’s 2009 Form 10-K, the New York State Department of Environmental Conservation’s OU-2 investigation continues to be ongoing.
 
9
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
     The Company’s condensed consolidated balance sheet at April 30, 2010 includes liabilities for environmental matters of approximately $7,969, which relate primarily to the previously reported environmental proceedings involving a Company subsidiary, Gelman Sciences Inc., pertaining to groundwater contamination. In the opinion of management, the Company is in substantial compliance with applicable environmental laws and its current accruals for environmental remediation are adequate. However, as regulatory standards under environmental laws are becoming increasingly stringent, there can be no assurance that future developments, additional information and experience gained will not cause the Company to incur material environmental liabilities or costs beyond those accrued in its condensed consolidated financial statements. The Company is currently in negotiations with the Michigan Department of Environmental Quality regarding its Comprehensive Proposal to Modify Cleanup Program that was submitted to the State of Michigan on May 4, 2009. It is reasonably possible that the results of these negotiations may result in a material increase to the Company’s environmental reserves beyond those accrued in its condensed consolidated balance sheet at April 30, 2010, however, the impact is not currently estimable.
 
NOTE 7 - RESTRUCTURING AND OTHER CHARGES, NET
 
     The following tables summarize the restructuring and other charges (“ROTC”) recorded for the three and nine months ended April 30, 2010 and April 30, 2009:
 
Three Months Ended Apr. 30, 2010 Nine Months Ended Apr. 30, 2010
Other Other
Charges/ Charges/
Restructuring (Income) Restructuring (Income)
        (1)         (2)         Total         (1)         (2)         Total
Severance $      218 $      $      218 $      2,510 $      $      2,510
Other costs 1,382 1,382 4,570 4,570
Environmental matters (2a) 50 50 991 991
Legal related costs, net of
       (insurance claim
       payments) (2b) 406 406 (799 ) (799 )
Asset impairment/(gain)
       on sale (2c) (26 ) (26 ) 237 (774 ) (537 )
1,574 456 2,030 7,317 (582 ) 6,735
Reversal of excess
       restructuring reserves (76 ) (76 )
$ 1,574 $ 456 $ 2,030 $ 7,241 $ (582 ) $ 6,659
 
Cash $ 1,600 $ 456 $ 2,056 $ 6,265 $ (582 ) $ 5,683
Non-cash (26 ) (26 ) 976 976
$ 1,574 $ 456 $ 2,030 $ 7,241 $ (582 ) $ 6,659
 
10
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
Three Months Ended Apr. 30, 2009 Nine Months Ended Apr. 30, 2009
Other Other
Charges / Charges/
Restructuring (Income) Restructuring (Income)
       (1)        (2)        Total        (1)        (2)        Total
Severance $      6,946 $      $      6,946 $      14,667 $      $      14,667
Asset impairment/loss on sale (2c) 170 170 174 3,477 3,651
Other costs/(income) 1,290 (524 ) 766 3,581 (524 ) 3,057
In-process research and
       development (2d) 1,743 1,743
Legal related costs, net of
       (insurance claim
        payments) (2b) 84 84 904 904
Environmental matters (2a) 525 525 1,433 1,433
8,406 85 8,491 18,422 7,033 25,455
Reversal of excess
       restructuring reserves (122 ) (122 )   (164 ) (164 )
$ 8,284 $ 85 $ 8,369 $ 18,258 $ 7,033 $ 25,291
 
Cash $ 8,573 $ 85 $ 8,658 $ 18,695 $ 1,813 $ 20,508
Non-cash (289 ) (289 ) (437 ) 5,220 4,783
$ 8,284 $ 85 $ 8,369 $ 18,258 $ 7,033 $ 25,291
 
(1) Restructuring:
 
     Restructuring charges reflect the expenses incurred in connection with the Company’s cost reduction initiatives, including severance liabilities for the termination of certain employees worldwide as well as various other costs related to these initiatives.
 
     The following table summarizes the activity related to restructuring liabilities that were recorded in the nine months ended April 30, 2010 and in fiscal year 2009.
 
Lease
Termination
Liabilities &
        Severance         Other         Total
2010
Original charge $      2,510 $      4,570 $      7,080
Utilized (1,940 ) (4,480 ) (6,420 )
Translation 2 (12 ) (10 )
Balance at Apr. 30, 2010 $ 572 $ 78 $ 650
 
2009
Original charge $ 18,938 $ 4,734 $ 23,672
Utilized (12,757 ) (4,133 ) (16,890 )
Translation 412 20 432
Balance at Jul. 31, 2009 6,593 621 7,214
Utilized (4,889 ) (287 ) (5,176 )
Reversal of excess reserves (a) (16 ) (16 )
Translation (60 ) (21 ) (81 )
Balance at Apr. 30, 2010 $ 1,628 $ 313 $ 1,941
 
11
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
     (a) Reflects the reversal of excess restructuring reserves originally recorded in fiscal year 2009.
 
     Excluded from the tables above are restructuring liabilities relating to fiscal years 2006 through 2008. At April 30, 2010, the balance of these restructuring liabilities in the aggregate was $159.
 
(2) Other Charges/(Income):
 
          (a) Environmental matters:
 
     In the three and nine months ended April 30, 2010 and April 30, 2009, the Company increased its previously established environmental reserve related to matters in Pinellas Park, Florida and Ann Arbor, Michigan. Such costs in the nine months ended April 30, 2009 were partly offset by the receipt of an insurance claim payment.
 
          (b) Legal related items:
 
     In the three and nine months ended April 30, 2010 and April 30, 2009, the Company recorded legal and other professional fees related to the Federal Securities Class Actions, Shareholder Derivative Lawsuits and Other Proceedings (see Note 6, Commitments and Contingencies) which pertain to matters that had been under audit committee inquiry as discussed in Note 2, Audit Committee Inquiry and Restatement, to the consolidated financial statements included in the Company’s Annual Report on Form 10-K for the fiscal year ended July 31, 2007 (“2007 Form 10-K”). The receipt of insurance claim payments more than offset such costs in the nine months ended April 30, 2010.
 
          (c) Impairment and gain on sale of assets:
 
     In the three months ended October 31, 2008, the Company recorded a charge of $1,977 for the deemed to be other-than-temporary diminution in value of certain equity and debt investment securities held by its benefits protection trust. In the three months ended January 31, 2010, the Company recorded a gain of $774 on the sale of certain equity and debt investment securities held by its benefits protection trust.
 
     In the three months ended January 31, 2009, the Company recorded a charge of $1,500 for the impairment of capitalized software development costs related to discontinued projects.
 
          (d) In-process research and development:
 
     In the three months ended October 31, 2008, the Company recorded a charge of $1,743 to write off in-process research and development acquired in the acquisition of GeneSystems, SA.
 
NOTE 8 – INCOME TAXES
 
     The Company’s effective tax rate for the nine months ended April 30, 2010 and April 30, 2009 was 25.2% and 31.2%, respectively. For the nine months ended April 30, 2010, the effective tax rate varied from the U.S. federal statutory rate primarily due to the benefits of foreign operations and the resolution of foreign tax audits resulting in the recognition of $16,200 of income tax benefit. For the nine months ended April 30, 2009, the effective tax rate varied from the U.S. federal statutory rate primarily due to the benefits of foreign operations and the retroactive extension of the federal research credit per the Emergency Economic Stabilization Act of 2008.
 
     At April 30, 2010 and July 31, 2009, the Company had gross unrecognized income tax benefits of $213,434 and $240,683, respectively. During the nine months ended April 30, 2010, the amount of unrecognized income tax benefits decreased by $27,249, primarily due to the aforementioned resolution of foreign tax audits which covered fiscal years 2001 through 2004, the resolution of a U.S. federal tax audit covering fiscal years 1996 through 1998, and the expiration of various foreign statutes of limitation, partially offset by tax positions taken during the current period. As of April 30, 2010, the amount of net unrecognized income tax benefits that, if recognized, would impact the effective tax rate was $153,335.
 
12
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
     The Company recognizes accrued interest expense related to unrecognized income tax benefits in interest expense and the balance at the end of a reporting period is recorded in accounts payable and other current liabilities as well as deferred taxes and other non-current liabilities in the Company’s condensed consolidated balance sheet. Penalties are accrued as part of the provision for income taxes and the unpaid balance at the end of a reporting period is recorded as part of current or non-current income taxes payable. At April 30, 2010 and July 31, 2009, the Company had accrued $61,159 and $75,157, respectively, for potential payment of interest and penalties. The decrease of $13,998 was primarily due to the aforementioned resolution of the foreign and federal tax audits and the expiration of various foreign statutes of limitation. As previously disclosed in Note 2, Audit Committee Inquiry and Restatement, to the consolidated financial statements included in the 2007 Form 10-K, the actual amounts due and payable upon final settlement of the matters that are under review by taxing authorities in the U.S. and other taxing jurisdictions may differ materially from the Company’s estimate. In particular, the Company may be subject to potential additional penalties that may be asserted by the U.S. and foreign taxing authorities of up to $121,135. In determining the probability of those potential additional penalties being assessed, the Company concluded that it was not more likely than not that those potential additional penalties will be assessed. As a result, the Company did not recognize the potential additional penalties of up to $121,135 in the condensed consolidated financial statements as of April 30, 2010.
 
     Due to the potential resolution of tax examinations and the expiration of various statutes of limitations, the Company believes that it is reasonably possible that the gross amount of unrecognized income tax benefits may decrease within the next twelve months by a range of zero to $81,179.
 
NOTE 9 - COMPONENTS OF NET PERIODIC PENSION COST
 
     The Company provides substantially all domestic and foreign employees with retirement benefits. Net periodic pension benefit cost for the Company’s defined benefit pension plans includes the following components:
 
Three Months Ended
U.S. Plans Foreign Plans  Total
        Apr. 30,
2010
        Apr. 30,
2009
        Apr. 30,
2010
        Apr. 30,
2009
        Apr. 30,
2010
        Apr. 30,
2009
Service cost $     1,983 $     2,033 $     1,202 $     1,196 $     3,185 $     3,229
Interest cost 3,048 3,107 4,328 3,766 7,376 6,873
Expected return on plan assets (2,023 ) (2,114 ) (3,252 ) (3,065 ) (5,275 ) (5,179 )
Amortization of prior service cost 446 385 64 60 510 445
Recognized actuarial loss 608 264 675 271 1,283 535
Net periodic benefit cost $ 4,062 $ 3,675 $ 3,017 $ 2,228 $ 7,079 $ 5,903
 
Nine Months Ended
U.S. Plans Foreign Plans  Total
        Apr. 30,
2010
        Apr. 30,
2009
        Apr. 30,
2010
        Apr. 30,
2009
        Apr. 30,
2010
        Apr. 30,
2009
Service cost $     5,949 $     6,099 $     3,682 $     3,673 $     9,631 $     9,772
Interest cost 9,144 9,321 13,517 12,230 22,661 21,551
Expected return on plan assets (6,069 ) (6,342 ) (10,148 )   (10,105 ) (16,217 )   (16,447 )
Amortization of prior service cost 1,338 1,155 190 175 1,528 1,330
Recognized actuarial loss 1,824 792 2,111 902 3,935 1,694
Net periodic benefit cost $ 12,186 $ 11,025 $ 9,352 $ 6,875 $ 21,538 $ 17,900
 
NOTE 10 - STOCK-BASED PAYMENT
 
     The Company currently has four stock-based employee and director compensation award types (Stock Option, Restricted Stock Unit (“RSU”), Management Stock Purchase Plan (“MSPP”) and the Employee Stock Purchase Plan (“ESPP”)), which are more fully described in Note 16, Common Stock, to the consolidated financial statements included in the 2009 Form 10-K.
 
13
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
     The detailed components of stock-based compensation expense recorded in the condensed consolidated statements of earnings for the three and nine months ended April 30, 2010 and April 30, 2009 are reflected in the table below.
 
Three Months Ended Nine Months Ended
        Apr. 30,
2010
        Apr. 30,
2009
        Apr. 30,
2010
        Apr. 30,
2009
Stock options $      1,779 $      1,166 $      3,788 $      3,353
Restricted stock units 2,522 2,184 8,631 7,844
ESPP 1,047 1,248 3,509 3,520
MSPP 946 899 2,804 2,870
       Total $ 6,294 $ 5,497 $ 18,732 $ 17,587
 
     The following table illustrates the income tax effects related to stock-based compensation.
 
Three Months Ended Nine Months Ended
        Apr. 30,
2010
        Apr. 30,
2009
        Apr. 30,
2010
        Apr. 30,
2009
Excess tax benefits in cash flows from
       financing activities $      784 $      11 $      1,468 $      418
Tax benefit recognized related to
       total stock-based compensation expense 1,919 1,442 5,495 5,015
Actual tax benefit realized for tax deductions
       from option exercises of stock-based
       payment arrangements 1,599 511 5,090 2,208

Stock Options and ESPP
 
     A summary of option activity for all stock option plans during the nine months ended April 30, 2010 is presented below:
 
Stock Options         Shares         Weighted-
Average
Exercise
Price
        Weighted-
Average
Remaining
Contractual Term
(in years)
        Aggregate
Intrinsic
Value
Outstanding at August 1, 2009 (a) 3,724 $      28.04
       Granted
       Exercised (40 ) 23.30
       Forfeited or Expired (1 ) 30.08
Outstanding at October 31, 2009 3,683 $ 28.09 3.9 $      20,285
       Granted 363 37.19
       Exercised (56 ) 22.74
       Forfeited or Expired (16 ) 31.14
Outstanding at January 31, 2010 3,974 $ 28.98 4.0 $ 26,622
       Granted 3 35.39
       Exercised (217 ) 22.83
       Forfeited or Expired (8 ) 24.51
Outstanding at April 30, 2010 3,752 $ 29.35 3.9 $ 37,481
Expected to vest at April 30, 2010 1,427 $ 33.88 5.6 $ 7,942
Exercisable at April 30, 2010 2,299 $ 26.49 2.8 $ 29,390
 
(a)
 
     
This amount differs from the 2009 Form 10-K relating to option grants to the chairman and chief executive officer in fiscal years 2007 - 2009 that inadvertently exceeded a limitation applicable to option awards under the Pall Corporation 2005 Stock Compensation Plan, and the excess options were determined to be void as of the grant date. The effects of the void options on stock-based compensation expense were immaterial to the results of operations for all periods impacted.

14
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
     As of April 30, 2010, there was $8,809 of total unrecognized compensation cost related to nonvested stock options, which is expected to be recognized over a weighted-average period of 2.8 years. The total intrinsic value of options exercised during the three and nine months ended April 30, 2010 was $3,719 and $4,859, respectively. The total intrinsic value of options exercised during the three and nine months ended April 30, 2009 was $123 and $1,270, respectively.
 
     The ESPP enables participants to purchase shares of the Company’s common stock through payroll deductions at a price equal to 85% of the lower of the market price at the beginning or end of each semi-annual stock purchase period. The semi-annual offering periods end in April and October. A total of 300 shares and 323 shares were issued under the ESPP during the semi-annual stock purchase periods ended April 30, 2010 and April 30, 2009, respectively. A total of 319 shares and 244 shares were issued under the ESPP related to the semi-annual stock purchase periods ended October 31, 2009 and October 31, 2008, respectively.
 
     The following weighted average assumptions were used in estimating the fair value of stock options and ESPP shares granted during the three and nine months ended April 30, 2010 and April 30, 2009 (there were no stock options granted during the three months ended April 30, 2009 or grants related to the ESPP during the three months ended April 30, 2010 and April 30, 2009):
 
Three Months Ended Nine Months Ended
        Apr. 30, 2010         Apr. 30, 2009         Apr. 30, 2010         Apr. 30, 2009
Stock Options
Weighted average fair value
       at grant date $ 9.96 N/A $ 10.50 $ 6.37
Valuation assumptions:
       Expected dividend yield 2.0 % N/A 2.0 % 1.8 %
       Expected volatility 34.9 % N/A 34.9 % 31.0 %
       Expected life (years) 5.0 N/A 5.0 5.0
       Risk-free interest rate 2.4 % N/A 2.4 % 1.6 %
 
ESPP
Weighted average fair value
       at grant date N/A N/A $ 7.90 $ 7.67
Valuation assumptions:
       Expected dividend yield N/A N/A 2.0 % 1.4 %
       Expected volatility N/A N/A 35.8 % 50.3 %
       Expected life (years) N/A N/A ½ year ½ year
       Risk-free interest rate N/A N/A 0.2 % 1.1 %

     The fair value of the options and ESPP shares granted is estimated using a Black-Scholes-Merton option-pricing formula and amortized to expense over the options’ service periods. The Company has placed exclusive reliance on historical volatility in its estimate of expected volatility. The Company used a sequential period of historical data equal to the expected term (or expected life) of the options and ESPP shares granted using a simple average calculation based upon the daily closing prices of the aforementioned period.
 
     The expected life (years) represents the period of time for which the options and ESPP shares granted are expected to be outstanding. This estimate was derived from historical share option exercise experience, which management believes provides the best estimate of the expected term.
 
15
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
MSPP
 
     The purpose of the MSPP is to encourage key employees of the Company to increase their ownership of shares of the Company’s common stock by providing such employees with an opportunity to elect to have portions of their total annual compensation paid in the form of restricted units, to make cash purchases of restricted units and to earn additional matching restricted units which vest over a three year period for matches prior to August 1, 2003 and vest over a four year period for matches made thereafter. Such restricted units aggregated 1,020 and 984 as of April 30, 2010 and April 30, 2009, respectively. As of April 30, 2010, there was $7,392 of total unrecognized compensation cost related to nonvested restricted stock units granted under the MSPP, which is expected to be recognized over a weighted-average period of 2.6 years.
 
     The following is a summary of MSPP activity during the three and nine months ended April 30, 2010 and April 30, 2009:
 
Three Months Ended Nine Months Ended
        Apr. 30,
2010
        Apr. 30,
2009
        Apr. 30,
2010
        Apr. 30,
2009
Deferred compensation and cash
       contributions $      111 $      50 $      2,758 $      4,807
Fair value of restricted stock units vested $ 1 $ 72 $ 2,624 $ 1,684
Vested units distributed 2 9 179 151

RSUs
 
     A summary of restricted stock unit activity, related to employees, for the Pall Corporation 2005 Stock Compensation Plan (“2005 Stock Plan”) during the nine months ended April 30, 2010, is presented below:
 
        Shares         Weighted-
Average
Grant-Date
Fair Value
Nonvested at August 1, 2009 1,216 $      33.10
       Granted  
       Vested (5 ) 31.50
       Forfeited  
Nonvested at October 31, 2009 1,211 $ 33.10
       Granted 107 37.22
       Vested (52 ) 28.68
       Forfeited (10 ) 34.91
Nonvested at January 31, 2010 1,256 $ 33.62
       Granted 1 35.39
       Vested (1 ) 35.61
       Forfeited (6 ) 32.42
Nonvested at April 30, 2010 1,250 $ 33.61
 
     As of April 30, 2010, there was $22,070 of total unrecognized compensation cost related to nonvested restricted stock units granted under the 2005 Stock Plan, which is expected to be recognized over a weighted-average period of 2.7 years.
 
     There were no annual award units granted to non-employee directors of the Company during the three months ended April 30, 2010. Non-employee directors of the Company were granted in the aggregate 34 annual award units of restricted stock during the nine months ended April 30, 2010, with a weighted-average fair market value of $36.69 per share.
 
     As of April 30, 2010, approximately 6,191 shares of common stock of the Company were reserved for stock-based compensation plans. Of the 6,191 shares, approximately 2,984 shares were reserved for vested awards and approximately 3,207 shares were reserved for unvested awards. The Company currently uses treasury shares that have been repurchased through the Company’s stock repurchase program to satisfy share award exercises.
 
16
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
NOTE 11 - EARNINGS PER SHARE
 
     The condensed consolidated statements of earnings present basic and diluted earnings per share. Basic earnings per share is determined by dividing income available to common shareholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share considers the potential effect of dilution on basic earnings per share assuming potentially dilutive shares that meet certain criteria, such as those issuable upon exercise of stock options, were outstanding. The treasury stock method reduces the dilutive effect of potentially dilutive securities as it assumes that cash proceeds (from the issuance of potentially dilutive securities) are used to buy back shares at the average share price during the period. Employee stock options and units aggregating 803 and 3,099 shares were not included in the computation of diluted shares for the three months ended April 30, 2010 and April 30, 2009, respectively, because their effect would have been antidilutive. For the nine months ended April 30, 2010 and April 30, 2009, 1,341 and 2,740 antidilutive shares, respectively, were excluded. The following is reconciliation between basic shares outstanding and diluted shares outstanding:
 
Three Months Ended Nine Months Ended
        Apr. 30, 2010         Apr. 30, 2009         Apr. 30, 2010         Apr. 30, 2009
Basic shares outstanding 117,589 118,305 117,713 118,753
Effect of stock plans 1,615 760 1,394 936
Diluted shares outstanding 119,204 119,065 119,107 119,689
 
NOTE 12 - FAIR VALUE MEASUREMENTS
 
     The Company records certain of its financial assets and liabilities at fair value, which is the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date.
 
     The current authoritative guidance discusses valuation techniques, such as the market approach (comparable market prices), the income approach (present value of future income or cash flow), and the cost approach (cost to replace the service capacity of an asset or replacement cost). Authoritative guidance utilizes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels. The following is a brief description of those three levels:
  • Level 1: Use of observable inputs such as quoted prices (unadjusted) in active markets for identical assets or liabilities.
     
  • Level 2: Use of inputs other than quoted prices included in Level 1, which are observable for the asset or liability, either directly or indirectly. These include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data.
     
  • Level 3: Use of inputs that are unobservable.
17
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
     The following table presents, for each of these hierarchy levels, the Company’s financial assets and liabilities that are measured at fair value as of April 30, 2010:
 
Fair Value Measurements
As of
        Apr. 30, 2010         Level 1         Level 2         Level 3
Financial assets carried at fair value
       Money market funds $      8,691 $      8,691 $      $     
       Available-for-sale securities:
              Equity securities 5,831 5,831
              Debt securities:
                     U.S. Treasury 18,882   18,882
                     Other U.S. government 18,136   18,136
                     CMO/mortgage-backed 265 265
                     Corporate 23,854   23,854
       Derivative financial instruments:
              Foreign exchange forward contracts 592 592
 
Financial liabilities carried at fair value
       Derivative financial instruments:
              Interest rate swap contract 152 152
              Foreign exchange forward contracts 735 735

     The following table presents, for each of these hierarchy levels, the Company’s financial assets and liabilities that are measured at fair value as of July 31, 2009:
 
Fair Value Measurements
As of
        Jul. 31, 2009         Level 1         Level 2         Level 3
Financial assets carried at fair value (a)
       Money market funds $     50,173 $      50,173 $      $     
       Available-for-sale securities:
              Equity securities 7,114 7,114
              Debt securities:
                     U.S. Treasury 15,210   15,210
                     Other U.S. government 12,467   12,467
                     CMO/mortgage-backed 319 319
                     Corporate 23,680   23,680
       Derivative financial instruments:
              Foreign exchange forward contracts 1,307 1,307
 
Financial liabilities carried at fair value
       Derivative financial instruments:
              Interest rate swap contract 688 688
              Foreign exchange forward contracts 371 371

(a)
 
     
During the third quarter of fiscal year 2010, the Company determined that its investments in U.S. Treasury, Other U.S. government, CMO/mortgage-backed and Corporate debt securities, previously aggregated as available-for-sale debt securities and classified as Level 1 in the fair value hierarchy, should be classified as Level 2. Also, investments in money market funds were previously omitted from this disclosure. The Company adjusted the prior period information accordingly and has concluded that the adjustment to prior period disclosure is immaterial.

     The Company’s money market funds and equity securities are valued using quoted market prices and, as such, are classified within Level 1 of the fair value hierarchy.
 
18
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
      The fair value of the Company’s investments in debt securities, have been valued utilizing third party pricing services. The pricing services use many inputs to determine fair value which are derived from observable market sources including reportable trades, benchmark curves, credit spreads, broker/dealer quotes, bids, offers, and other industry and economic events. These investments are included in Level 2 of the fair value hierarchy.
 
     The fair value of the Company’s outstanding interest rate swap contract was determined based upon a non-binding valuation from the counterparty that is corroborated by observable market data such as Japanese Yen (“JPY”) interest rates and yield curves. The fair values of the Company’s foreign currency forward contracts were valued using pricing models, with all significant inputs derived from or corroborated by observable market data such as yield curves, currency spot and forward rates and currency volatilities. These investments are included in Level 2 of the fair value hierarchy.
 
     The Company completed its annual goodwill impairment test for all reporting units in the third quarter of fiscal year 2010 and determined that no impairment existed. In addition, the Company had no impairment of goodwill in the prior year. In connection with the annual goodwill impairment test, the Company estimates the fair value of its reporting units using a market approach employing Level 3 inputs as defined in the fair value hierarchy.
 
NOTE 13 – INVESTMENT SECURITIES
 
     Included within other non-current assets is a benefits protection trust, with assets aggregating $69,053 and $57,337 as of April 30, 2010 and July 31, 2009, respectively. The trust was established for the primary purpose of satisfying certain supplemental post-employment benefit obligations in the U.S. for eligible executives in the event of a change of control of the Company. In addition to holding cash equivalents primarily to satisfy short-term cash requirements relating to benefit payments, the trust primarily invests in U.S. government obligations, debt obligations of corporations and financial institutions with high credit ratings and equity mutual fund shares. Contractual maturity dates of debt securities held by the trust range from 2010 to 2039. Such debt and equity securities are classified as available-for-sale and recorded in other non-current assets in the Company’s condensed consolidated balance sheets at aggregate fair values of $62,139 and $56,170 as of April 30, 2010 and July 31, 2009, respectively.
 
     Also included within non-current assets is the Company’s investment in Satair A/S (“Satair”) of $4,794 and $2,588, at April 30, 2010 and July 31, 2009, respectively, which is classified as available-for-sale.
 
19
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
     The following is a summary of the Company’s available-for-sale investments by category:
 
Gross Gross Net
Cost/ Unrealized Unrealized Unrealized
Amortized Holding Holding Holding
      Cost Basis       Fair Value       Gains       Losses       Gains
April 30, 2010
Equity securities $      2,395 $      5,831 $      3,436 $            $      3,436
Debt securities:
       U.S. Treasury 18,096 18,882 829 (43 ) 786
       Other U.S.
              government 17,444 18,136 703 (11 ) 692
       CMO/mortgage-
              backed 240 265 25 25
       Corporate 22,388 23,854 1,491 (25 ) 1,466
$ 60,563 $ 66,968 $ 6,484 $ (79 ) $ 6,405
 
July 31, 2009  
Equity securities $ 5,550 $ 7,114 $ 1,566 $ (2 ) $ 1,564
Debt securities:  
       U.S. Treasury   14,417 15,210 841 (48 ) 793
       Other U.S.      
               government 11,609 12,467 868   (10 ) 858
       CMO/mortgage-          
               backed 298 319 21   21
       Corporate 22,367   23,680   1,314 (1 ) 1,313
$ 54,241 $ 58,790 $ 4,610 $ (61 ) $ 4,549
 
     The following table shows the gross unrealized losses and fair value of the Company’s available-for-sale investments with unrealized losses aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position:
 
Less than 12 months 12 months or greater Total
Gross Gross Gross
Unrealized Unrealized Unrealized
Fair Holding Fair Holding Fair Holding
      Value       Losses       Value       Losses       Value       Losses
April 30, 2010
Equity securities $       $       $       $       $       $      
Debt securities:
       U.S. Treasury   3,160 43 3,160 43
       Other U.S.  
              government 4,043 11 4,043 11
       CMO/mortgage–          
              backed    
       Corporate 1,066     25       1,066   25
$ 8,269 $ 79 $ $ $ 8,269 $ 79
 

20
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
      Less than 12 months 12 months or greater Total
      Gross             Gross             Gross
Unrealized Unrealized Unrealized
Fair Holding Fair Holding Fair Holding
Value Losses Value Losses Value Losses
July 31, 2009
Equity securities $       32 $       2 $       $       $       32 $       2
Debt securities:
       U.S. Treasury 1,085 48   1,085 48
       Other U.S.
              government   1,152   10   1,152 10
       CMO/mortgage–            
              backed  
       Corporate 297 1     297 1
$ 2,566 $ 61 $ $ $ 2,566   $ 61
 

     The following table shows the proceeds and gross gains and losses from the sale of available-for-sale investments for the three and nine months ended April 30, 2010 and April 30, 2009:
 
Three Months Ended Nine Months Ended
      Apr. 30, 2010       Apr. 30, 2009       Apr. 30, 2010       Apr. 30, 2009
Proceeds from sales $      2,677   $      3,560 $      12,637 $      6,939
Realized gross gains on sales   171 74     1,114     230
Realized gross losses on sales   270 316

NOTE 14 - DERIVATIVE FINANCIAL INSTRUMENTS
 
     As of April 30, 2010, the Company had an interest rate swap and foreign currency forward contracts outstanding with notional amounts aggregating $95,814 and $181,400 respectively, whose aggregate fair values were a liability of $152 and a liability of $143, respectively. Accumulated other comprehensive income includes $99, net of tax, of cumulative unrealized losses on the floating-to-fixed interest rate swap (i.e., cash flow hedge).
 
     The Company manages certain financial exposures through a risk management program that includes the use of foreign exchange and interest rate derivative financial instruments. Derivatives are executed with counterparties with a minimum credit rating of “A” by Standard & Poor’s and Moody’s Investor Services, in accordance with the Company’s policies. The Company does not utilize derivative instruments for trading or speculative purposes.
 
Foreign Exchange
 
a. Derivatives Not Designated as Hedging Instruments
 
     The risk management objective of holding foreign exchange derivatives is to mitigate volatility to earnings and cash flows due to changes in foreign exchange rates. The Company and its subsidiaries conduct transactions in currencies other than their functional currencies. These transactions include non-functional intercompany and external sales as well as intercompany and external purchases. The Company uses foreign exchange forward contracts, matching the notional amounts and durations of the receivables and payables resulting from the aforementioned underlying foreign currency transactions, to mitigate the exposure to earnings and cash flows caused by changing foreign exchange rates. The notional amount of foreign currency forward contracts entered into during the three and nine months ended April 30, 2010 was $333,019 and $979,581, respectively. The notional amount of foreign currency forward contracts outstanding as of April 30, 2010 was $181,400.
 
21
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
b. Net Investment Hedges
 
     The risk management objective of designating the Company’s foreign currency loan as a hedge of its net investment in a wholly owned Japanese subsidiary is to mitigate the change in the fair value of the Company’s net investment due to changes in foreign exchange rates. The Company uses its outstanding JPY loan to hedge its equity of the same amount in the Japanese wholly owned subsidiary. The hedge of net investment consists of a JPY 9 billion loan.
 
Interest Rates
 
a. Cash Flow Hedges
 
     The risk management objective of holding a floating-to-fixed interest rate swap is to lock in fixed interest cash outflows on a floating rate debt obligation. The associated risk is created by changes in market interest rates in Japan. The Company has an outstanding JPY loan with variable interest rates based on JPY-LIBOR-BBA. The Company meets the stated risk management objective through a “receive variable, pay fixed” interest rate swap entered into on June 20, 2007 related to the JPY 9 billion loan that matures in June 2010, whereby the Company receives payments at a variable rate based upon JPY LIBOR and makes payments at a fixed rate of 1.58% on a notional amount of JPY 9 billion.
 
     The fair values of the Company’s derivative financial instruments included in the condensed consolidated balance sheets are presented as follows:
 
      Asset Derivatives       Liability Derivatives
April 30, 2010 Balance Sheet Location       Fair Value Balance Sheet Location       Fair Value
Derivatives designated as hedging instruments
Interest rate swap contract Other current assets $      Other current liabilities $      152
 
Derivatives not designated as hedging instruments
Foreign exchange forward contracts Other current assets $ 592 Other current liabilities $ 735
Total derivatives $ 592 $ 887
 
Nonderivative instruments designated as hedging instruments
Net investment hedge   Long-term debt, net of current
       portion(a) $ 95,814
 
Asset Derivatives Liability Derivatives
July 31, 2009 Balance Sheet Location Fair Value Balance Sheet Location Fair Value
Derivatives designated as hedging instruments
Interest rate swap contract Other current assets $ Other current liabilities $ 688
 
Derivatives not designated as hedging instruments      
Foreign exchange forward contracts Other current assets $ 1,307 Other current liabilities $ 371
Total derivatives $ 1,307 $ 1,059
 
Nonderivative instruments designated as hedging instruments
Net investment hedge Current portion of long-term debt $ 95,121

(a)       
On May 26, 2010, the Company refinanced its JPY 9 billion loan, which was due on June 20, 2010. The new loan matures May 26, 2015. As such, as of April 30, 2010, the loan was reported as part of long-term debt, net of current portion in the Company’s condensed consolidated balance sheet.
 
22
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
     The amounts of the gains and losses related to the Company’s derivative financial instruments designated as hedging instruments for the three and nine months ended April 30, 2010 and April 30, 2009 are presented as follows:
 
Location of Gain or
(Loss) Reclassified
Amount of Gain or (Loss) from Accumulated Amount of Gain or (Loss) Reclassified
Recognized in OCI on Derivatives OCI into Earnings from Accumulated OCI into Earnings
(Effective Portion) (Effective Portion) (Effective Portion) (b)
Three Months Three Months Three Months Three Months
Ended Apr. 30, Ended Apr. 30, Ended Apr. 30, Ended Apr. 30,
      2010       2009             2010       2009
Derivatives in cash
flow hedging    
relationships        
Interest rate swap                        
contract $      178 $      70 Interest expense $ (272 ) $ (99 )
 

(b)       
There were no gains or losses recognized in earnings related to the ineffective portion of the hedging relationship or related to the amount excluded from the assessment of hedge effectiveness for the three months ended April 30, 2010 and April 30, 2009.
 
 
Location of Gain or
(Loss) Reclassified
Amount of Gain or (Loss) from Accumulated Amount of Gain or (Loss) Reclassified
Recognized in OCI on Derivatives OCI into Earnings from Accumulated OCI into Earnings
(Effective Portion) (Effective Portion) (Effective Portion) (c)
Nine Months Nine Months Nine Months Nine Months
Ended Apr. 30, Ended Apr. 30, Ended Apr. 30, Ended Apr. 30,
      2010       2009             2010       2009
Derivatives in cash
flow hedging    
relationships        
Interest rate swap                        
contract $      345 $      (215 ) Interest expense $ (744 ) $ (307 )
 

(c)       
There were no gains or losses recognized in earnings related to the ineffective portion of the hedging relationship or related to the amount excluded from the assessment of hedge effectiveness for the nine months ended April 30, 2010 and April 30, 2009.
 
     The amounts of the gains and losses related to the Company’s derivative financial instruments not designated as hedging instruments for the three and nine months ended April 30, 2010 and April 30, 2009 are presented as follows:
 
Amount of Gain or (Loss) Recognized in
Earnings on Derivatives
Three Months Ended Nine Months Ended
Location of Gain or (Loss) Recognized Apr. 30, Apr. 30, Apr. 30, Apr. 30,
      in Earnings on Derivatives       2010       2009       2010       2009
Derivatives not designated as    
hedging relationships
Foreign exchange forward Selling, general and administrative    
contracts expenses   $ (2,689 ) $ 1,445 $ (4,779 )   $ (11,614 )
 

23
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
     The amounts of the gains and losses related to the Company’s nonderivative financial instruments designated as hedging instruments for the three and nine months ended April 30, 2010 and April 30, 2009 are presented as follows:

 
Location of Gain or
(Loss) Reclassified
Amount of Gain or (Loss) from Accumulated Amount of Gain or (Loss) Reclassified from
Recognized in OCI on Derivatives OCI into Earnings Accumulated OCI into Earnings
(Effective Portion) (Effective Portion) (Effective Portion) (d)
Three Months Three Months  
Ended Ended Three Months Ended Three Months Ended
    Apr. 30, 2010     Apr. 30, 2009         Apr. 30, 2010     Apr. 30, 2009
Nonderivatives
designated as hedging    
relationships        
Net investment hedge $       2,500 $       5,708 N/A $       $      

(d)       
There were no gains or losses recognized in earnings related to the ineffective portion of the hedging relationship or related to the amount excluded from the assessment of hedge effectiveness for the three months ended April 30, 2010 and April 30, 2009.
 
 
Location of Gain or
(Loss) Reclassified
Amount of Gain or (Loss) from Accumulated Amount of Gain or (Loss) Reclassified from
Recognized in OCI on Derivatives OCI into Earnings Accumulated OCI into Earnings
(Effective Portion) (Effective Portion) (Effective Portion) (e)
Nine Months Nine Months  
Ended Apr. 30, Ended Apr. 30, Nine Months Ended Nine Months Ended
    2010     2009         Apr. 30, 2010     Apr. 30, 2009
Nonderivatives
designated as hedging    
relationships        
Net investment hedge $       (443 ) $       (5,017 ) N/A $ $

(e)       
There were no gains or losses recognized in earnings related to the ineffective portion of the hedging relationship or related to the amount excluded from the assessment of hedge effectiveness for the nine months ended April 30, 2010 and April 30, 2009.
 
NOTE 15 - COMPREHENSIVE INCOME (LOSS)
 
Three Months Ended Nine Months Ended
      Apr. 30, 2010       Apr. 30, 2009       Apr. 30, 2010       Apr. 30, 2009
Net earnings $            69,691 $            44,162 $            186,293 $            126,120
 
Unrealized translation adjustment (18,900 ) 17,873 (31,765 ) (110,398 )
Income taxes (1,063 ) (2,060 ) (762 ) (6,675 )
Unrealized translation adjustment, net (19,963 ) 15,813 (32,527 ) (117,073 )
 
Change in unrealized investment gains 625 1,106 1,856 37
Income taxes (224 ) (390 ) 122
Change in unrealized investment gains, net 401   1,106 1,466 159
   
Unrealized gains/(losses) on derivatives   275 108 536 (330 )
Income taxes (97 ) (38 )   (191 )   115
Unrealized gains/(losses) on derivatives, net 178 70   345   (215 )
   
Total comprehensive income $ 50,307 $ 61,151 $ 155,577 $ 8,991
 

24
 


PALL CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(In thousands, except per share data)
(Unaudited)
 
     Unrealized investment gains/(losses) on available-for-sale securities, net of related income taxes, consist of the following:
 
Three Months Ended Nine Months Ended
      Apr. 30, 2010       Apr. 30, 2009       Apr. 30, 2010       Apr. 30, 2009
Unrealized gains/(losses) arising during
       the period $                788 $                812 $                4,735 $                (2,097 )
Income taxes (224 ) (390 ) 122
Net unrealized gains/(losses) arising    
       during the period 564 812 4,345   (1,975 )
Reclassification adjustment for    
       (gains)/losses included in net earnings (163 )   294     (2,879 ) 2,134
Change in unrealized investment gains,        
       net $ 401   $ 1,106 $ 1,466 $ 159
 

NOTE 16 - SEGMENT INFORMATION
 
     The Company’s reportable segments, which are also its operating segments, consist of the Company’s two vertically integrated businesses, Life Sciences and Industrial.
 
     The following table presents sales and operating profit by segment reconciled to earnings before income taxes, for the three and nine months ended April 30, 2010 and April 30, 2009.
 
Three Months Ended Nine Months Ended
      Apr. 30, 2010       Apr. 30, 2009       Apr. 30, 2010       Apr. 30, 2009
SALES:
Life Sciences $      262,309 $      236,320 $      748,642 $      681,671
Industrial 353,673 319,563 974,680 995,530
Total $ 615,982 $ 555,883 $ 1,723,322   $ 1,677,201
 
OPERATING PROFIT:
Life Sciences $ 63,339 $ 52,459 $ 182,660 $ 142,929
Industrial 56,938 40,569 118,139 131,557
Total operating profit 120,277 93,028 300,799 274,486
General corporate expenses 13,034 13,763 38,631   43,423
Earnings before ROTC, interest expense,  
       net and income taxes   107,243 79,265   262,168 231,063
ROTC   2,030   8,369   6,659 25,291
Interest expense, net 3,254 6,576 6,342   22,555
Earnings before income taxes $ 101,959 $ 64,320 $ 249,167 $ 183,217
 

25
 


ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
 
Forward-Looking Statements and Risk Factors
 
     The following discussion should be read together with the accompanying condensed consolidated financial statements and notes thereto and other financial information in this Form 10-Q and in the Pall Corporation and its subsidiaries (hereinafter collectively called the “Company”) Annual Report on Form 10-K for the fiscal year ended July 31, 2009 (“2009 Form 10-K”). The discussion under the subheading “Review of Operating Segments” below is in local currency (i.e., had exchange rates not changed year over year) unless otherwise indicated. Company management considers local currency change to be an important measure because by excluding the impact of volatility of exchange rates, underlying volume change is clearer. Dollar amounts discussed below are in thousands, unless otherwise indicated, except per share dollar amounts. In addition, per share dollar amounts are discussed on a diluted basis. The Company utilizes certain estimates and assumptions that affect the reported financial information as well as to quantify the impact of various significant factors that contribute to the changes in the Company’s periodic results included in the discussion below.
 
     The matters discussed in this Quarterly Report on Form 10-Q contain “forward-looking statements” as defined in the Private Securities Litigation Reform Act of 1995. All statements regarding future performance, earnings projections, earnings guidance, management’s expectations about its future cash needs and effective tax rate, and other future events or developments are forward-looking statements. Forward-looking statements are those that use terms such as “may”, “will”, “expect”, “believe”, “intend”, “should”, “could”, “anticipate”, “estimate”, “forecast”, ”project”, “plan”, “predict”, “potential” and similar expressions. Forward-looking statements contained in this and other written and oral reports are based on the Company’s assumptions and assessments in light of past experience and trends, current conditions, expected future developments and other relevant factors. They are not guarantees of future performance, and actual results, developments and business decisions may differ from those envisaged by the Company’s forward-looking statements.
 
     The Company’s forward-looking statements are also subject to risks and uncertainties, which can affect our performance in both the near- and long-term and cause actual results to differ materially. Such risks and uncertainties include, but are not limited to, those discussed in Part I, Item 1A, “Risk Factors” in the 2009 Form 10-K, and other reports the Company files with the Securities and Exchange Commission, including the effect of litigation and regulatory inquiries associated with the restatement of the Company’s prior period financial statements, the Company’s ability to successfully complete its business improvement initiatives, which include integrating and upgrading its information systems and the effect of a serious disruption in its information systems, the impact of legislative, regulatory and political developments globally and the impact of the uncertain global economic environment and the timing and strength of a recovery in the markets and regions the Company serves, and the extent to which adverse economic conditions may affect the Company’s sales volume and results, demand for the Company’s products and business relationships with key customers and suppliers, which may be impacted by their cash flow and payment practices, as well as delays or cancellations in shipments, and volatility in foreign currency exchange rates, interest rates and energy costs and other macro economic challenges currently affecting the Company; changes in product mix, market mix and product pricing, particularly relating to the expansion of the systems business; increase in costs of manufacturing and operating costs; our ability to obtain regulatory approval or market acceptance of new technologies, enforce patents and protect proprietary products and manufacturing techniques; fluctuations in the Company’s effective tax rate; the Company’s ability to successfully complete or integrate any acquisitions; the impact of pricing and other actions by competitors; and the ability to achieve the savings anticipated from cost reduction and gross margin improvement initiatives. Factors or events that could cause the Company’s actual results to differ may emerge from time to time, and it is not possible to predict all of them. The Company makes these statements as of the date of this disclosure and undertakes no obligation to update them, whether as a result of new information, future developments or otherwise.
 
26
 


Results of Operations
 
Review of Consolidated Results
 
     Sales in the third quarter of fiscal year 2010 increased 10.8% to $615,982 from $555,883 in the third quarter of fiscal year 2009. Sales in the nine months of fiscal year 2010 increased 2.8% compared to the nine months of fiscal year 2009. Exchange rates used to translate foreign subsidiary results into U.S. Dollars increased reported sales by $28,630 in the quarter and $69,919 in the nine months, primarily due to the weakening of the U.S. Dollar against the Euro, Australian Dollar, Japanese Yen (“JPY”), Korean Won and British Pound. In local currency, sales increased 5.7% in the quarter and decreased 1.4% in the nine months compared to the same periods in fiscal year 2009. Increased pricing contributed $526 to overall sales in the quarter, reflecting an improvement in the Life Sciences segment partly offset by a decline in the Industrial segment. In the nine months, increased pricing contributed $7,048 to overall sales, primarily attributable to an improvement in the Life Sciences segment.
 
     Life Sciences segment sales increased 6.4% (in local currency) in the quarter and 5.9% (in local currency) in the nine months, driven by double-digit growth in the BioPharmaceuticals market. Sales in the Medical market were down in the low single-digit range in the quarter and flat in the nine months. Industrial segment sales increased 5.1% (in local currency) in the quarter, reflecting strong growth in the Microelectronics market partly offset by declines in the Energy, Water & Process Technologies (“EWPT”) and Aerospace & Transportation markets. In the nine months, Industrial segment sales decreased 6.4% (in local currency), reflecting declines in the EWPT and Aerospace & Transportation markets partly offset by growth in the Microelectronics market. Overall systems sales decreased 13.9% (in local currency) in the quarter primarily attributable to a decline in the EWPT market. In the nine months, overall systems sales decreased 20% (in local currency), reflecting decreases in all markets. Systems sales represented 10.5% of total sales in the quarter compared to 13% in the third quarter of fiscal year 2009. In the nine months, systems sales represented 9.8% of total sales compared to 11.9% in the nine months of fiscal year 2009. For a detailed discussion of sales, refer to the section “Review of Operating Segments” below.
 
     Gross margin in the third quarter of fiscal year 2010 increased to 50.9% from 47.5% in the third quarter of fiscal year 2009. Gross margin in the nine months of fiscal year 2010 increased to 50.4% from 47.7% in the nine months of fiscal year 2009. The increase in gross margin in the quarter and nine months reflect improvements in both the Life Sciences and Industrial segments. Pricing did not have a material impact on gross margins in the quarter or nine months. For a detailed discussion of the factors impacting gross margin by segment for the quarter and nine months, refer to the section “Review of Operating Segments” below.
 
     Selling, general and administrative (“SG&A”) expenses in the third quarter of fiscal year 2010 increased by $18,556, or 11.0% (an increase of $10,210, or 6.1%, in local currency). SG&A (in local currency) in Life Sciences and Industrial increased in the quarter, while SG&A in Corporate was down. The overall increase in SG&A (in local currency) reflects the impact of strategic and structural investments and company-wide inflationary increases in payroll and employee benefit costs partly offset by cost savings from headcount reductions in the Industrial segment. The strategic and structural investments made include:
  • costs related to the establishment of the Life Sciences European headquarters in Switzerland,
     
  • investments in information technology, impacting both Life Sciences and Industrial
     
  • geographic expansion in Latin America, Middle East and Asia, primarily impacting Industrial
     
  • costs incurred for changes in sales channels from distribution to direct, that primarily impacted the Life Sciences segment, and 
     
  • costs related to the purchase of a biotechnology company (refer to Note 4, Goodwill and Intangible Assets, to the accompanying condensed consolidated financial statements for further discussion)
     It is estimated that these strategic and structural investments accounted for approximately 50% of the local currency increase in SG&A. As a percentage of sales, SG&A expenses were 30.4% on par with the third quarter of fiscal year 2009.
 
27
 


     SG&A expenses in the nine months of fiscal year 2010 increased by $34,636, or 6.7% (an increase of $15,076, or 2.9% in local currency). The increase in SG&A expenses (in local currency) in the nine months reflects the impact of strategic and structural investments discussed above and company-wide inflationary increases in payroll and employee benefit costs, partly offset by cost savings resulting from headcount reductions in the Industrial segment and reductions in discretionary spending company-wide. It is estimated that the strategic and structural investments accounted for approximately 80% of the local currency increase in SG&A in the nine months. SG&A (in local currency) in both Life Sciences and Industrial increased in the nine months, partly offset by a decline in Corporate. As a percentage of sales, SG&A expenses were 32.0% compared to 30.8% in the nine months of fiscal year 2009. The increase in SG&A expenses as a percentage of sales primarily reflects the increase in spending, which outpaced the growth in revenue. For a detailed discussion of SG&A by segment, refer to the section “Review of Operating Segments” below.
 
     Research and development (“R&D”) expenses were $18,986 in the third quarter of fiscal year 2010 compared to $16,218 in the third quarter of fiscal year 2009, an increase of 17.1% (15.2% in local currency). The increase in R&D reflects increased spending in both the Life Sciences and Industrial segments. As a percentage of sales, R&D expenses in the third quarter were 3.1% compared to 2.9% in the third quarter of fiscal year 2009. R&D expenses were $54,874 in the nine months of fiscal year 2010 compared to $52,570 in the nine months of fiscal year 2009, an increase of 4.4% (3.3% in local currency). The increase in R&D in the nine months reflects an increase in spending in the Life Sciences segment partly offset by a decrease in spending in the Industrial segment. As a percentage of sales, R&D expenses in the nine months were 3.2%, compared to 3.1% in the nine months of fiscal year 2009. For a detailed discussion of R&D by segment, refer to the section “Review of Operating Segments” below.
 
     In the third quarter and nine months of fiscal year 2010, the Company recorded restructuring and other charges (“ROTC”) of $2,030 and $6,659, respectively. ROTC in the quarter was primarily comprised of severance and other costs related to the Company’s on-going cost reduction initiatives. ROTC in the nine months was primarily comprised of severance and other costs related to the Company’s on-going cost reduction initiatives, an increase to previously established environmental reserves and legal and other professional fees in connection with the Federal Securities Class Actions, Shareholder Derivative Lawsuits and Other Proceedings (see Note 6, Commitments and Contingencies, to the accompanying condensed consolidated financial statements). Such costs were partly offset by the receipt of insurance claim payments related to matters that had been under inquiry by the audit committee as well as by a gain on the sale of certain securities held by the Company’s benefits protection trust that had previously been written down for an other-than-temporary diminution in value.
 
     In the third quarter of fiscal year 2009, the Company recorded ROTC of $8,369. ROTC in the quarter was primarily comprised of severance and other costs related to the Company’s cost reduction initiatives and an increase to a previously established environmental reserve. Such charges were partly offset by the reversal of excess restructuring reserves that were previously recorded in the Company’s consolidated statements of earnings in fiscal years 2008 and 2007. In the nine months of fiscal year 2009, the Company recorded ROTC of $25,291, which was primarily comprised of severance and other costs related to the Company’s on-going cost reduction initiatives, a charge to write-off in-process R&D acquired in the acquisition of GeneSystems, SA, a charge for the other-than-temporary diminution in value of certain equity and debt investment securities held by its benefits protection trust, a charge for the impairment of capitalized software, increases to previously established environmental reserves, net of an insurance settlement and legal fees and other professional fees in connection with the Federal Securities Class Actions, Shareholder Derivative Lawsuits and Other Proceedings as discussed above. Such charges were partly offset by the reversal of excess restructuring reserves that were previously recorded in the Company’s consolidated statements of earnings in fiscal years 2008 and 2007.
 
     The details of ROTC for the three and nine months ended April 30, 2010 and April 30, 2009 as well as the activity related to restructuring liabilities that were recorded in the nine months ended April 30, 2010 and in fiscal year 2009 can be found in Note 7, Restructuring and Other Charges, Net, to the accompanying condensed consolidated financial statements.
 
28
 


     Earnings before interest and income taxes (“EBIT”) were $105,213 in the third quarter of fiscal year 2010 compared to $70,896 in the third quarter of fiscal year 2009. The impact of foreign currency translation increased EBIT by $7,177 in the third quarter of fiscal year 2010. As a percentage of sales, EBIT were 17.1% compared to 12.8% in the third quarter of fiscal year 2009. EBIT were $255,509 in the nine months of fiscal year 2010 compared to $205,772 in the nine months of fiscal year 2009. The impact of foreign currency translation increased EBIT by $17,418 in the nine months of fiscal year 2010. As a percentage of sales, EBIT were 14.8% compared to 12.3% in the third quarter of fiscal year 2009.
 
     Net interest expense in the third quarter of fiscal year 2010 was $3,254 compared to $6,576 in the third quarter of fiscal year 2009. Net interest expense in the quarter reflects the reversal of $2,553 of accrued interest primarily related to the resolution of a foreign tax audits and expiring statutes of limitation for assessment related to uncertain tax positions. Excluding these items, net interest expense decreased $769 compared to the third quarter of fiscal year 2009. Net interest expense in the nine months of fiscal year 2010 was $6,342 compared to $22,555 in the nine months of fiscal year 2009. Net interest expense in the nine months reflects the reversal of $11,537 of accrued interest primarily related to the resolution of a foreign tax audit and expiring statutes of limitation for assessment. Excluding these items, net interest expense decreased $4,676 compared to the nine months of fiscal year 2009, reflecting the repayment of higher rate foreign debt in the second and third quarters of fiscal year 2009, the impact of lower interest rates in the U.S. on outstanding debt and a reduction in interest bearing tax liabilities. A decline in interest income, related to lower interest rates, partly offset the above.
 
     In the third quarter of fiscal year 2010, the Company’s effective tax rate was 31.6% as compared to 31.3% in the third quarter of fiscal year 2009. In the nine months of fiscal year 2010, the Company’s effective tax rate was 25.2% as compared to 31.2% in the nine months of fiscal year 2009. The decrease in the effective tax rate for the nine month period was primarily driven by the favorable resolution of foreign tax audits for the fiscal years 2001 through 2004. For the nine months ended April 30, 2010, the effective tax rate varied from the U.S. federal statutory rate primarily due to the benefits of foreign operations and the resolution of foreign tax audits resulting in the recognition of $16,200 of income tax benefit. For the nine months ended April 30, 2009, the effective tax rate varied from the U.S. federal statutory rate primarily due to the benefits of foreign operations and the retroactive extension of the federal research credit per the Emergency Economic Stabilization Act of 2008. Based on an expected underlying rate of 31%, the Company expects its effective tax rate to be 27% for the full fiscal year 2010, exclusive of the impact of discrete items in future periods. The tax rate for the full fiscal year 2010 may differ materially based on several factors, including the geographical mix of earnings in tax jurisdictions, enacted tax laws, the resolution of tax audits, the timing and amount of foreign dividends, state and local taxes, the ratio of permanent items to pretax book income, and the implementation of various global tax strategies, as well as other factors.
 
     Net earnings in the third quarter of fiscal year 2010 were $69,691, or 58 cents per share, compared with net earnings of $44,162, or 37 cents per share in the third quarter of fiscal year 2009. In summary, the increase in net earnings and earnings per share reflects the increase in EBIT and the decline in net interest expense. Net earnings in the nine months of fiscal year 2010 were $186,293, or $1.56 per share, compared with net earnings of $126,120, or $1.05 per share in the nine months of fiscal year 2009. In summary, the increase in net earnings and earnings per share reflect the increase in EBIT, the decline in net interest expense and a decrease in the effective tax rate. Company management estimates that foreign currency translation increased net earnings per share by 4 cents in the third quarter of fiscal year 2010 and 10 cents in the nine months of fiscal year 2010.
 
29
 


Review of Operating Segments
 
     The following table presents sales and operating profit by segment, reconciled to earnings before income taxes, for the three and nine months ended April 30, 2010 and April 30, 2009.
 
      Apr. 30, % Apr. 30, % %
Three Months Ended 2010      Margin      2009      Margin      Change
SALES:
Life Sciences $       262,309 $       236,320 11.0
Industrial 353,673 319,563 10.7
Total $ 615,982 $ 555,883 10.8
OPERATING PROFIT:
  Life Sciences $ 63,339 24.1 $ 52,459 22.2 20.7
Industrial 56,938 16.1 40,569 12.7 40.3
Total operating profit 120,277 19.5 93,028 16.7 29.3
  General corporate expenses 13,034 13,763 (5.3 )
Earnings before ROTC, interest expense, net
       and income taxes 107,243 17.4 79,265 14.3 35.3
ROTC 2,030 8,369
Interest expense, net 3,254 6,576
Earnings before income taxes $ 101,959 $ 64,320
 
Apr. 30, % Apr. 30, % %
Nine Months Ended 2010 Margin 2009 Margin Change
SALES:
Life Sciences $ 748,642   $ 681,671 9.8
Industrial 974,680 995,530   (2.1 )
Total $ 1,723,322 $ 1,677,201 2.8
OPERATING PROFIT:  
Life Sciences $ 182,660 24.4 $ 142,929 21.0 27.8
Industrial 118,139 12.1 131,557 13.2 (10.2 )
Total operating profit 300,799   17.5   274,486 16.4 9.6
General corporate expenses   38,631 43,423     (11.0 )
Earnings before ROTC, interest expense, net  
       and income taxes 262,168 15.2 231,063 13.8 13.5
ROTC 6,659 25,291
Interest expense, net 6,342 22,555
Earnings before income taxes $ 249,167 $ 183,217 <