Regal Rexnord - 10-Q quarterly report FY

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This Quarterly Report contains “forward-looking statements” as defined in the Private Securities Litigation Reform Act of 1995.  Forward-looking statements represent our management’s judgment regarding future events.  In many cases, you can identify forward-looking statements by terminology such as “may,” “will,”  “plan,” “expect,” “anticipate,” “estimate,” “believe,” or “continue” or the negative of these terms or other similar words.  Actual results and events could differ materially and adversely from those contained in the forward-looking statements due to a number of factors, including:

All subsequent written and oral forward-looking statements attributable to us or to persons acting on our behalf are expressly qualified in their entirety by the applicable cautionary statements.  The forward-looking statements included in this Form 10-Q are made only as of their respective dates, and we undertake no obligation to update these statements to reflect subsequent events or circumstances.  See also Item 1A - Risk Factors in the Company’s Annual Report on Form 10-K filed on March 2, 2010.

(In Thousands of Dollars, Except Shares Outstanding, Dividends Declared and Per Share Data)

(In Thousands of Dollars, Except per Shares Outstanding, Dividends Declared and Per Share Data)

(In Thousands of Dollars)

The accompanying (a) condensed consolidated balance sheet as of January 2, 2010, which has been derived from audited financial statements, and (b) unaudited interim condensed consolidated financial statements as of July 3, 2010, have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission.  Certain information and note disclosures normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to those rules and regulations, although the Company believes that the disclosures made are adequate to make the information not misleading.

It is suggested that these condensed consolidated financial statements be read in conjunction with the financial statements and the notes thereto included in the Company’s 2009 Annual Report on Form 10-K filed on March 2, 2010.

Recent accounting guidance changed the consolidation rules as they relate to variable interest entities (“VIE’s”).  The guidance changed the model related to consolidating a VIE, and defines the assessment methodology for determining VIE status.  The guidance was adopted by the Company as required at the beginning of fiscal 2010, and did not have an effect on the Company’s consolidated financial statements.

In the opinion of management, all adjustments considered necessary for a fair presentation of financial results have been made.  Except as otherwise discussed, such adjustments consist of only those of a normal recurring nature.  Operating results for the three and six months ended July 3, 2010 are not necessarily indicative of the results that may be expected for the entire fiscal year ending January 1, 2011.

The Company operates on a 52/53 week fiscal year, and fiscal 2009 was a 53 week year with an additional week in the fiscal fourth quarter.

Cost for approximately 47% of the Company’s inventory is determined using the last-in, first-out (LIFO) inventory valuation method.  The approximate percentage distribution between major classes of inventories was as follows:

Property, plant and equipment by major classification was as follows:

The results of operations for acquired businesses are included in the Condensed Consolidated Financial Statements from the dates of acquisition.

On April 6, 2010, the Company acquired CMG Engineering Group Pty, Ltd. (“CMG”) headquartered in Melbourne, Australia.  CMG manufactures and distributes fractional horsepower industrial motors, blower systems, and industrial metal products with operations in Australia, New Zealand, South Africa, Malaysia, Singapore, the United Kingdom, and the Middle East.  The purchase price was approximately $83.5 million, including $74.7 million in cash, approximately $2.7 million in assumed liabilities and 100,000 shares of Company stock with a fair market value of $6.1 million.  CMG has operations in both the Mechanical and Electrical segments.

Purchase price allocations for the CMG acquisition included adjustments for intangible assets, property and other working capital adjustments.  The excess of purchase price over fair value was assigned to goodwill.

Investments are generally short term in duration and are classified as trading securities, which are reported at fair value with gains and losses, which were insignificant for all periods presented, included in earnings.  As of July 3, 2010 and January 2, 2010, the Company had $174.6 million and $117.6 million respectively, of trading securities recorded at fair value (Level 2) (see Note 16 of the Condensed Consolidated Financial Statements for description of the fair value hierarchy).

5.   COMPREHENSIVE INCOME

The Company's consolidated comprehensive income for the three and six months ended July 3, 2010 and June 27, 2009, respectively, was as follows (in thousands):

The amount of comprehensive income attributable to noncontrolling interests was $1.1 million and $3.2 million for the three and six months ended July 3, 2010, respectively.  The amount of comprehensive income attributable to noncontrolling interests was $1.1 million and $3.7 million for the three and six months ended and June 27, 2009.

Foreign currency translation adjustments, unrealized gains and losses on derivative instruments and pension liability adjustments are included in Equity under Accumulated Other Comprehensive Loss.  The components of the ending balances of Accumulated Other Comprehensive Loss are as follows:

The Company recognizes the cost associated with its standard warranty on its products at the time of sale.  The amount recognized is based on historical experience.  The following is a reconciliation of the changes in accrued warranty costs for the three and six months ended July 3, 2010 and June 27, 2009 (in thousands):

The Company has two strategic businesses that are reportable segments, Mechanical and Electrical (in thousands):

As required, we perform an annual impairment test of goodwill during the fourth quarter or more frequently if events or circumstances change that would more likely than not reduce the fair value of our reporting units below their carrying value.

At July 3, 2010, all of the Company’s goodwill is attributable to the Electrical Segment and the Company believes that substantially all of the goodwill is deductible for tax purposes.  The following information presents changes to goodwill during the periods indicated (in thousands):

Intangible assets consisted of the following (in thousands):

Amortization expense recorded for the three and six months ended July 3, 2010 was $5.1 million and $9.5 million, respectively.   Amortization expense for the three and six months ended June 27, 2009 was $5.1 million and $9.3 million, respectively.

The Company’s indebtedness as of July 3, 2010 and January 2, 2010 was as follows (in thousands):

At July 3, 2010, the Company has $250.0 million of Senior Notes (the “Notes”) outstanding.  The Notes were sold pursuant to a Note Purchase Agreement (the “Agreement”) by and among the Company and the purchasers of the Notes.  The Notes were issued and sold in two series:  $150.0 million in Floating Rate Series 2007A Senior Notes, Tranche A, due August 23, 2014, and $100.0 million in Floating Rate Series 2007A Senior Notes, Tranche B, due August 23, 2017.  The Notes bear interest at a margin over the London Inter-Bank Offered Rate (“LIBOR”), which margin varies with the ratio of the Company’s consolidated debt to consolidated earnings before interest, taxes, depreciation and amortization (“EBITDA”) as defined in the Agreement.  These interest rates also vary as LIBOR varies.  The Agreement permits the Company to issue and sell additional note series, subject to certain terms and conditions described in the Agreement, up to a total of $600.0 million in combined Notes.

The Company also has a Term Loan Agreement (“Term Loan”) with certain financial institutions, whereby the Company borrowed an aggregate principal amount of $165.0 million.  The Term Loan matures in June 2013, and borrowings generally bear interest at a variable rate equal to (i) a margin over LIBOR, which margin varies depending on whether certain criteria are satisfied, or (ii) the alternate base rate as defined in the agreement.  At July 3, 2010, the interest rate of 1.3% was based on a margin over LIBOR.

The Company’s $500.0 million revolving credit facility (“Facility”) permits the Company to borrow at interest rates based upon a margin above LIBOR, which margin varies with the ratio of total funded debt to EBITDA, as defined in the Facility.  These interest rates also vary as LIBOR varies.  The Company pays a commitment fee on the unused amount of the Facility, which also varies with the ratio of total debt to EBITDA as defined in the Facility.

The Notes, the Term Loan, and the Facility require the Company to meet specified financial ratios and to satisfy certain financial condition tests.  The Company was in compliance with all debt covenants as of July 3, 2010.

The Company has entered into interest rate swap agreements to manage fluctuations in cash flows resulting from interest rate risk.  (See also Note 15 of Notes to Condensed Consolidated Financial Statements.)

The estimated fair value of the Convertible Notes at July 3, 2010 was approximately $1.0 million and the carrying value was $0.5 million.  The estimated fair value was determined using Level 2 inputs as described in Note 16 of Notes to the Condensed Consolidated Financial Statement.

The estimated net actuarial loss and prior service cost for defined benefit pension plans that will be amortized from accumulated other comprehensive loss into net periodic benefit cost during the 2010 fiscal year is $2.2 million and $0.2 million, respectively.

In the second quarter of 2010 and 2009, the Company contributed $0.4 million and $0.5 million to defined benefit pension plans, respectively.  The Company expects to contribute an additional $1.0 million, for total contributions of $1.9 million in 2010.  The Company contributed a total of $10.1 million in 2009.  The assumptions used in the valuation of the Company’s pension plans and in the target investment allocation have remained the same as those disclosed in the Company’s 2009 Annual Report on Form 10-K filed on March 2, 2010.

The Company recognized approximately $1.7 million and $1.2 million in share-based compensation expense for the three month period ended July 3, 2010 and June 27, 2009, respectively.  Share-based compensation expense for the six month period ending July 3, 2010 and June 27, 2009 was $3.1 million and $2.0 million, respectively.  The total excess income tax benefit recognized relating to share-based compensation for the six months ended July 3, 2010 and June 27, 2009 was approximately $1.4 million and $1.8 million, respectively.  The Company recognizes compensation expense on grants of share-based compensation awards on a straight-line basis over the vesting period of each award.  As of July 3, 2010, total unrecognized compensation cost related to share-based compensation awards was approximately $1 5.1 million, net of estimated forfeitures, which the Company expects to recognize over a weighted average period of approximately 3.7 years.

The Company was authorized as of July 3, 2010 to deliver up to 5.0 million shares of common stock upon exercise of non-qualified stock options or incentive stock options, or upon grant or in payment of stock appreciation rights, and restricted stock.  Approximately 1.7 million shares were available for future grant or payment under the various plans at July 3, 2010.

On May 22, 2009, the Company completed the sale of 4,312,500 shares of common stock at a price of $36.25 per share to the public.  Net proceeds of approximately $150.5 million were received by the Company.

The Company uses several forms of share-based incentive awards, including non-qualified stock options, incentive stock options, and stock appreciation rights (“SARs”).  All grants are made at prices equal to the fair market value of the stock on the grant dates, and expire ten years from the grant date.  The Company values restricted stock awards at the closing market value of its common stock on the date of grant and restrictions generally lapse three years after the date of grant.

The majority of the Company’s annual share-based incentive awards are made in the fiscal second quarter.  The per share weighted average fair value of share-based incentive awards granted in the May 2010 annual grant was $22.88.  The fair market value of the awards is estimated on the date of grant using the Black-Scholes pricing model and the following assumptions:  risk-free interest rate of 3.0%; expected dividend yield of 1.1%; expected volatility of 35.4%, and an estimated life of 7.0 years.

A summary of share-based awards (options and SARs) as of July 3, 2010 follows below.  Forfeitures of share-based awards were immaterial.

As of July 3, 2010, the Company had 188,850 shares of restricted stock outstanding with a weighted average grant date fair value of $52.92 and a weighted average life of 2.6 years.  The Company values restricted stock awards at the closing market value of its common stock on the date of grant and restrictions generally lapse three years after the date of the grant.  In the first six months of 2010 there were 101,950 shares of restricted stock granted, and 29,300 shares of restricted stock vested.

The effective tax rate for the three months ended July 3, 2010 was 31.9% versus 28.0% in the prior year period.  The effective tax rate for the six months ended July 3, 2010, was 31.8% versus 30.9% in the prior period.  The changes in the effective rates are driven by changes in the global distribution of income.

As of July 3, 2010 and January 2, 2010, the Company had approximately $6.6 million of unrecognized tax benefits, all of which would affect its effective tax rate if recognized.  The Company recognizes interest and penalties related to uncertain tax positions in income tax expense.

The Company or one of its subsidiaries files income tax returns in the U.S. federal jurisdiction, and various states and foreign jurisdictions.  Federal tax returns from 2006 through 2009 and various state tax returns remain subject to income tax examinations by tax authorities.

On July 30, 2009, the Company filed a response and counterclaims to an action filed by Nordyne, Inc. (“Nordyne”) in the U.S. District Court for the Eastern District of Missouri in which action Nordyne is seeking a judgment declaring that neither Nordyne’s G7 furnace systems nor its iQ Drive 23-seer air conditioning systems infringe on our ECM (electronically commutated motor) systems patents (U.S. Patent No. 5,592,058) (“the ‘058 Patent”) and/or that the ‘058 Patent is invalid.  In our response and counterclaims against Nordyne we are seeking a judgment that the ‘058 Patent is valid and that Nordyne has, in fact, infringed and continues to infringe the ‘058 Patent by making, using, offering for sale and selling it G7 furnace systems and iQ Drive 23-seer air conditioning sy stems.  We have also requested the U.S. District Court to enjoin Nordyne and all persons working in concert with Nordyne from further infringement of the ‘058 Patent and to award us compensatory and other damages caused by such infringement.  We intend to defend our intellectual property vigorously against the claims asserted by Nordyne and against any infringement by Nordyne or any other person.  We do not currently believe that the litigation will have a material effect on the Company’s financial position or its results of operations.

The Company is, from time to time, party to litigation that arises in the normal course of its business operations, including product warranty and liability claims, contract disputes and environmental, asbestos, employment and other litigation matters.  The Company’s products are used in a variety of industrial, commercial and residential applications that subject us to claims that the use of our products is alleged to have resulted in injury or other damage.  The Company accrues for anticipated costs in defending against such lawsuits in amounts that we believe are adequate, and the Company does not believe that the outcome of any such lawsuit will have a material effect on the Company’s financial position or its results of operations.

The Company is exposed to certain risks relating to its ongoing business operations.  The primary risks managed by using derivative instruments are commodity price risk, currency exchange, and interest rate risk.  Forward contracts on certain commodities are entered into to manage the price risk associated with forecasted purchases of materials used in the Company’s manufacturing process.  Forward contracts on certain currencies are entered into to manage forecasted cash flows in certain foreign currencies.  Interest rate swaps are entered into to manage interest rate risk associated with the Company’s floating rate borrowings.

The Company must recognize all derivative instruments as either assets or liabilities at fair value in the statement of financial position.  Accordingly, the Company designates commodity forward contracts as cash flow hedges of forecasted purchases of commodities, currency forward contracts as cash flow hedges of forecasted foreign currency cash flows and interest rate swaps as cash flow hedges of forecasted LIBOR-based interest payments.  There were no significant collateral deposits on derivative financial instruments as of July 3, 2010.

For derivative instruments that are designated and qualify as a cash flow hedge, the effective portion of the gain or loss on the derivative is reported as a component of other comprehensive income or loss and reclassified into earnings in the same period or periods during which the hedged transaction affects earnings.  Gains and losses on the derivative representing either hedge ineffectiveness or changes in market value of derivatives not designated as hedges are recognized in current earnings.

At July 3, 2010, the Company had an additional ($0.4) million, net of tax, of derivative losses on closed hedge instruments in AOCI that will be realized in earnings when the hedged items impact earnings.  At June 27, 2009, the Company had an additional ($7.8) million, net of tax, of derivative losses on closed hedge instruments in AOCI that was realized in earnings when the hedged items impacted earnings.

As of July 3, 2010, the Company had outstanding the following commodity forward contracts (with maturities extending through June 2012) to hedge forecasted purchases of commodities (in millions):

As of July 3, 2010, the Company had outstanding the following currency forward contracts (with maturities extending through December 2012) to hedge forecasted foreign currency cash flows (in millions):

As of July 3, 2010, the total notional amount of the Company’s receive-variable/pay-fixed interest rate swaps was $250.0 million (with maturities extending to August 2017).

Fair values of derivative instruments as of July 3, 2010 and January 2, 2010 were (in millions):

The effect of derivative instruments on the condensed consolidated statements of equity and earnings for the three and six months ended July 3, 2010 and June 27, 2009, was (in millions):

The ineffective portion of hedging instruments recognized during the three and six months ended July 3, 2010 was immaterial.

The net AOCI balance of ($29.4) million loss at July 3, 2010 includes ($10.5) million of net current deferred losses expected to be realized in the next twelve months.

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (exit price).  The inputs used to measure fair value are classified into the following hierarchy:

The Company uses the best available information in measuring fair value.  Financial assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.  The following table sets forth the Company’s financial assets and liabilities that were accounted for at fair value on a recurring basis as of July 3, 2010 and January 2, 2010 (in millions):

The global economy and particularly the U.S. economy showed strong growth in the second quarter of 2010.  Sales of high efficiency products, particularly for HVAC and commercial refrigeration end markets, which are supported by the net economic impact to the end user and, in certain cases, are supported by tax credits and other subsidies continued to show strong growth rates.  During the second quarter we experienced difficulties meeting some of our demand due to supply chain disruptions.  In an effort to mitigate the impact on our customers, we incurred significant incremental costs.  These costs included qualifying new vendors, plant labor inefficiencies, and expedited transportation.

Net sales for the three months ended July 3, 2010 increased 28.5% to $584.2 million from $454.6 million in the comparable period of 2009.  Sales for the three months ended July 3, 2010 included $28.7 million of incremental sales from the CMG business acquired in 2010.

Net income attributable to Regal Beloit Corporation increased 153.6% to $41.7 million for the three months ended July 3, 2010 as compared to $16.5 million in the comparable period last year.  Diluted earnings per share increased 127.7% to $1.07 for the three months ended July 3, 2010 as compared to $0.47 for the comparable period of 2009.

Worldwide sales for the three months ended July 3, 2010 were $584.2 million, a 28.5% increase over the $454.5 million reported for the three months ended June 27, 2009.  Sales for the three months ended July 3, 2010 included $28.7 million of incremental sales from the CMG business acquired in 2010.

In the Electrical segment sales increased 28.4% over the prior year period.  Excluding the acquired CMG business, Electrical segment businesses sales increased 23.2% over 2009.  Sales for the residential HVAC motor business increased 21.1% during 2010 as compared to the second quarter 2009 driven by higher efficiency product mix which was supported by tax credits.  Driven by improving end markets, commercial and industrial motor sales in North America for the three months ended July 3, 2010 increased 19.7% over sales for the three months ended June 27, 2009.  Global generator sales increased 22.2% for the three months ended July 3, 2010 as compared to the prior year.

Sales in the Mechanical segment increased 29.8% from the prior year period driven by $7.8 million of sales from the CMG acquisition.  Excluding the sales of the 2010 acquired CMG Mechanical segment businesses, sales increased 13.3% over 2009.

From a geographic perspective, excluding the acquired CMG business, Asia-based sales increased 42.5% as compared to 2009.  In total, sales to regions outside of the United States were 31.7% of total sales for the three months ended July 3, 2010 as compared to 26.6% in 2009.  The impact of foreign currency exchange rates increased total sales by 0.6% for the three months ended July 3, 2010 as compared to the prior year period.  Sales of high efficiency products were 18.3% of total sales in the three months ended July 3, 2010 versus 19.7% in the prior year period.

Worldwide sales for the three months ended July 3, 2010 were $1,091.5 million, a 21.6% increase over the $897.8 million reported for the six months ended June 27, 2009.  Sales for the six months ended July 3, 2010 included $28.7 million of incremental sales from the businesses acquired in 2010.

In the Electrical segment sales increased 22.7% over the prior year period. Excluding the sales of the 2010 acquired Electrical segment businesses sales increased 20.1% over 2009.  Sales for the residential HVAC motor business were impacted by higher efficiency product mix, and low prior year comparables resulting in a 26.1% increase during 2010 as compared to 2009.  Driven by improving end markets, commercial and industrial motor sales in North America for the six months ended July 3, 2010 increased 14.7% over sales for the six months ended June 27, 2009.  Global generator sales increased 5.2% for the six months ended July 3, 2010 as compared to the prior year.

Sales in the Mechanical segment increased 12.3% from the prior year period driven by $7.8 million of sales from the CMG acquisition.  Excluding the sales of the 2010 acquired CMG Mechanical segment businesses, sales increased 4.5% over 2009.

From a geographic perspective, excluding the acquired CMG business, Asia-based sales increased 34.9% as compared to 2009.  In total, sales to regions outside of the United States were 29.5% of total sales for the six months ended July 3, 2010 as compared to 26.6% in 2009.  The impact of foreign currency exchange rates increased total sales by 1.0% for the six months ended July 3, 2010 as compared to the prior year period.  Sales of high efficiency products were 18.0% of total sales in the six months ended July 3, 2010 versus 16.4% in the prior year period.

Worldwide sales for the three months ended June 27, 2009 were $454.6 million, a 25.0% decrease over the $606.3 million reported for the three months ended June 28, 2008.  Second quarter 2009 sales included $16.3 million of incremental sales from the businesses acquired in 2008 and the CPT acquisition in January 2009.

In the Electrical segment, sales decreased 24.7% including the impact of the acquisitions noted above.  Exclusive of the acquired businesses, Electrical segment sales were down 27.7%. Sales for the residential HVAC motor business decreased 4.4% versus 2008, commercial and industrial motors in North America decreased 33.1%, while global generator sales decreased 49.1% for the same period.

Sales in the Mechanical segment decreased 27.6% from the prior year period.

From a geographic perspective, Asia-based sales decreased 33.9% as compared to 2008.  In total, sales to regions outside of the United States were 26.6% of total sales for 2009 in comparison to 27.0% for 2008.  The negative impact of foreign currency exchange rates decreased sales by 1.7%.  Sales of high efficiency product were 19.7% of total sales in the three months ended June 27, 2009 versus 13.0% in the prior year.

Worldwide sales for the six months ended June 27, 2009 were $897.8 million, a 21.4% decrease over the $1,142.7 million reported for the six months ended June 28, 2008.  2009 sales included $46.0 million of incremental sales from the businesses acquired in 2008 and the CPT acquisition in January 2009.

In the Electrical segment, sales decreased 21.3% including the impact of the acquisitions noted above.  Exclusive of the acquired businesses, Electrical segment sales were down 25.8%. Sales for the residential HVAC motor business decreased 12.4% versus 2008, commercial and industrial motors in North America decreased 28.3%, while global generator sales decreased 39.5% for the same period.

Sales in the Mechanical segment decreased 22.4% from the prior year period.

The gross profit margin for the three months ended July 3, 2010 was 24.6% as compared to 20.8% reported for 2009.  The gross profit margin for the Electrical segment was 24.1% for the three months ended July 3, 2010 versus 20.5% in the prior year.  Electrical segment margins improved due to a mix change toward higher efficiency products, cost reduction efforts, and sales volume leverage.  The margin improvement however, was reduced due to significant costs incurred due to supply chain disruptions in the three months ended July 3, 2010.  We incurred incremental costs in an effort to mitigate the impact to our customers.  These costs included qualifying new vendors, plant labor inefficiencies, and expedited transportation.  The Mechanical segment gross margin was 28.9% for the t hree months ended July 3, 2010 versus 23.4% in the prior year.  The Mechanical segment gross margin improvements were driven by sales volume leverage and cost reduction efforts.

The gross profit margin for the six months ended July 3, 2010 was 25.1% as compared to 20.6% reported for 2009.  The gross profit margin for the Electrical segment was 24.8% for the three months ended July 3, 2010 versus 20.1% in the prior year.  Electrical segment margins improved due to a mix change toward higher efficiency products, cost reduction efforts, and the sales volume leverage.  The margin improvement however, was reduced due to significant costs incurred due to supply chain disruptions in the six months ended July 3, 2010.  We incurred incremental costs in an effort to mitigate the impact to our customers.  These costs included qualifying new vendors, plant labor inefficiencies, and expedited transportation.  The Mechanical segment gross margin was 28.4% for the s ix months ended July 3, 2010 versus 25.2% in the prior year.  The Mechanical segment gross margin improvements were driven primarily by sales volume leverage and cost reduction efforts.

The gross profit margin for the three months ended June 27, 2009 was 20.8% as compared to the 21.6% reported for 2008. The negative fixed cost absorption of lower production volumes had a significant impact on 2009 partially offset by the contribution from new products, productivity efforts, pricing actions, and product mix.  The gross profit margin for the Electrical segment reflected these impacts and decreased to 20.5% from 21.0% in 2008. Mechanical segment gross profit margin decreased to 23.4% in 2009 from 27.3% in the prior year.

The gross profit margin for the six months ended June 27, 2009 was 20.6% as compared to the 22.2% reported for 2008. The negative fixed cost absorption of lower production volumes had a significant impact on 2009 partially offset by the contribution from new products, productivity efforts, pricing actions, and product mix.  The gross profit margin for the Electrical segment reflected these impacts and decreased to 20.1% from 21.4% in 2008. Mechanical segment gross profit margin decreased to 25.2% from 28.2% in the prior year.

Operating expenses were $76.7 million (13.1% of net sales) in the three months ended July 3, 2010 versus $65.2 million (14.3% of net sales) in 2009.  An incremental $6.4 million of operating expenses were related to the 2010 acquired businesses.  Higher sales volumes increased variable costs, and incremental spending on acquisition related costs raised operating costs in 2010.  Electrical segment operating expenses were 12.8% of net sales for the three months ended July 3, 2010 versus 14.3% in the prior year, reflecting the positive impact of sales volume leverage and cost reductions.   Mechanical segment operating expenses were 16.0% of net sales in 2010 and 14.7% in 2009.

Operating expenses were $144.9 million (13.3% of net sales) in the six months ended July 3, 2010 versus $127.5 million (14.2% of net sales) in 2009.  An incremental $6.4 million of operating expenses were related to the 2010 acquired businesses.  Higher sales volumes increased variable costs, and incremental spending on acquisition related costs raised operating costs in 2010.  Electrical segment operating expenses were 13.0% of net sales for the six months ended July 3, 2010 versus 14.1% in the prior year, reflecting the positive impact of sales volume leverage and cost reductions.   Mechanical segment operating expenses were 15.5% of net sales in 2010 and 14.7% in 2009.

Operating expenses were $65.2 million (14.3% of net sales) in the three months ended June 27, 2009 versus $63.7 million (10.5% of sales) in 2008.  Operating expenses included an incremental $3.8 million related to the acquired Dutchi and Hwada businesses. Electrical segment operating expenses were 14.3% of sales in 2009 and 10.3% of sales in 2008.  Mechanical operating expenses as a percent of sales increased to 14.7% from 11.8% in 2008.

Operating expenses were $127.5 million (14.2% of net sales) in the six months ended June 27, 2009 versus $128.2 million (11.2% of sales) in 2008.  Operating expenses included an incremental amount of approximately $9.2 million related to the Dutchi and Hwada acquired businesses. Electrical segment operating expenses were 14.1% of sales in 2009 and 11.0% of sales in 2008.  Mechanical operating expenses as a percent of sales increased to 14.7% from 12.8% in 2008.

Income from operations was $66.8 million for the three months ended July 3, 2010 and $29.5 million in the prior year.  As a percentage of sales, income from operations was 11.4% in 2010 versus 6.5% in 2009.  Income from operations improved, driven by a mix toward higher efficiency products, cost reduction efforts, and the absorption benefits of higher production volumes.  Electrical segment income from operations was 11.3% of net sales in 2010 versus 6.2% in 2009.  The Mechanical segment income from operations was 13.0% of net sales for 2010 versus 8.7% of net sales in 2009.

Income from operations was $129.6 million for the six months ended July 3, 2010 and $57.7 million in the prior year.  As a percentage of sales, income from operations was 11.9% in 2010 versus 6.4% in 2009.  Income from operations improved, driven by a mix toward higher efficiency products, cost reduction efforts, and the absorption benefits of higher production volumes.  Electrical segment income from operations was 11.8% of net sales in 2010 versus 5.9% in 2009.  The Mechanical segment income from operations was 12.9% of net sales for 2010 versus 10.5% of net sales in 2009.

Income from operations was $29.5 million versus $67.5 million in the comparable period of 2008.  As a percent of sales, income from operations was 6.5% for the three months ended June 27, 2009 versus 11.1% in the comparable period of 2008.  As a percent of sales, Electrical segment operating income decreased to 6.2% in 2009 from 10.6% in 2008 partially offset by contributions from new products, pricing actions, and productivity. As a percent of sales, Mechanical segment operating income decreased to 8.7% in 2009 from 15.5% in 2008.

Income from operations was $57.7 million versus $125.1 million in the comparable period of 2008.  As a percent of sales, income from operations was 6.4% for the six months ended June 27, 2009 versus 10.9% in the comparable period of 2008.  As a percent of sales, Electrical segment operating income decreased to 5.9% in 2009 from 10.4% in 2008 partially offset by contributions from new products, pricing actions, and productivity. As a percent of sales, Mechanical segment operating income decreased to 10.5% in 2009 from 15.4% in 2008.

Net interest expense for the three months ended July 3, 2010 was $4.0 million versus $5.1 million for the three months ended June 27, 2009.  During 2010, the Company’s net interest expense decreased driven by lower average amounts of debt outstanding and higher interest income.

Net interest expense for the six months ended July 3, 2010 was $8.4 million versus $12.1 million for the six months ended June 27, 2009.  During 2010, the Company’s net interest expense decreased driven by lower average amounts of debt outstanding, a $1.1 million decrease in non-cash convertible debt financing expense, and higher interest income.

Net interest expense was $5.1 million versus $7.8 million in the comparable period of 2008.  The decrease is driven by lower interest rates in 2009 versus the comparable period of 2008, lower average debt and higher interest income.

Net interest expense was $12.1 million versus $15.9 million in the comparable period of 2008.  The decrease is driven by lower interest rates in 2009 versus the comparable period of 2008.

The effective tax rate for the three months ended July 3, 2010 was 31.9% compared to 28.0% in the prior year period.  The increase in the effective tax rate is driven by changes in the global distribution of taxable income.

The effective tax rate for the six months ended July 3, 2010 was 31.8% compared to 30.9% in the prior year period.  The increase in the effective tax rate is driven by changes in the global distribution of taxable income.

The effective tax rate for the three months ended June 27, 2009 was 28.0% versus 35.3% in the prior year period.  The decrease in the effective tax rate results from the global distribution of taxable income.

The effective tax rate for the six months ended June 27, 2009 was 30.9% versus 35.4% in the prior year period.  The decrease in the effective tax rate results from the global distribution of taxable income.

Net Income Attributable to Regal Beloit Corporation for the three months ended July 3, 2010 was $41.7 million, an increase of 153.6% versus the $16.5 million reported in 2009.  Fully diluted earnings per share was $1.07 as compared to $0.47 reported for the three months ended June 27, 2009.  The average number of diluted shares was 38,954,418 during the three months ended July 3, 2010 as compared to 35,105,383 during the three months ended June 27, 2009.

Net Income Attributable to Regal Beloit Corporation for the six months ended July 3, 2010 was $79.5 million, an increase of 171.8% versus the $29.2 million reported in 2009.  Fully diluted earnings per share was $2.05 as compared to $0.86 reported for the six months ended June 27, 2009.  The average number of diluted shares was 38,796,187 during the six months ended July 3, 2010 as compared to 33,850,093 during the six months ended June 27, 2009.

Net Income Attributable to Regal Beloit Corporation for the three months ended June 27, 2009 was $16.5 million, a decrease of 55.9% versus the $37.3 million reported in the comparable period of 2008.  Fully diluted earnings per share was $0.47 as compared to $1.11 per share reported in 2008.  The average number of diluted shares was 35,105,383 during the three months ended June 27, 2009 as compared to 33,525,725 during the comparable period of 2008.

Net Income Attributable to Regal Beloit Corporation for the six months ended June 27, 2009 was $29.2 million, a decrease of 57.5% versus the $68.7 million reported in the comparable period of 2008.  Fully diluted earnings per share was $0.86 as compared to $2.06 per share reported in 2008.  The average number of diluted shares was 33,850,093 during the six months ended June 27, 2009 as compared to 33,321,379 during the comparable period of 2008.

Our principal source of liquidity is operating cash flow which we target to equal or exceed our net income.  In addition to operating income, other significant factors affecting our liquidity management include: working capital levels, capital expenditures, dividends, acquisitions, availability of debt financing and the ability to attract long-term capital at acceptable terms.

Our working capital was $682.1million at July 3, 2010, an increase of 1.8% from $670.3 million at year-end 2009.  At July 3, 2010 our current ratio, the ratio of our current assets to current liabilities, was 2.8:1 versus 3.2:1 at the previous year-end.

Cash flow provided by operating activities (“operating cash flow”) was $99.7 million for the six months ended July 3, 2010, a ($25.8) million decrease from 2009.   The decrease reflects higher net income which was more than offset by a reduction in the cash provided from working capital.  During 2009, significant cash was provided by inventory reductions.

Cash flow used in investing activities was ($150.4) million for the first six months of 2010, ($130.6) million more than in 2009 driven by business acquisitions of ($75.9) million. The net cash used in purchasing investment securities was ($56.3) million in 2010.

Cash flow used in financing activities for the first six months of 2010 was ($58.0) million in 2010 compared to cash flow provided of $119.3 million in 2009.  The change is driven by the $150.6 million in net proceeds from the sale of stock in 2009.

At July 3, 2010, the Company had $250.0 million of Senior notes (“the Notes”) outstanding.  The Notes were sold pursuant to a Note Purchase Agreement (the “Agreement”) by and among the Company and the purchasers of the Notes.  The Notes were issued and sold in two series:  $150.0 million in Floating Rate Series 2007A Senior Notes, Tranche A, due August 23, 2014, and $100.0 million in Floating Rate Series 2007A Senior Notes, Tranche B, due August 23, 2017.  The Notes bear interest at a margin over the London Inter-Bank Offered Rate (“LIBOR”), which margin varies with the ratio of the Company’s consolidated debt to consolidated earnings before interest, taxes, deprecation, and amortization (“EBITDA”) as defined in the Agreement.  These interest rates also vary as LIBOR varies. The Agreement permits the Company to issue and sell additional note series, subject to certain terms and conditions described in the Agreement, up to a total of $600.0 million in combined Notes.

The Company’s $500.0 million revolving credit facility, (“the Facility”)  permits the Company to borrow at interest rates  based upon a margin above LIBOR, which margin varies with the ratio of senior funded debt (total debt excluding convertible debt) to EBITDA, as defined in the Facility.  These interest rates also vary as LIBOR varies.  We pay a commitment fee on the unused amount of the Facility, which also varies with the ratio of senior funded debt to EBITDA.

The Company has entered into a Term Loan Agreement (“Term Loan”) with certain financial institutions, whereby the Company borrowed an aggregate principal amount of $165.0 million. The Term Loan matures in June 2013, and borrowings under the Term Loan generally bear interest at a variable rate equal to (i) a margin over the LIBOR, which margin varies depending on whether certain criteria are satisfied, or (ii) the alternate base rate as defined in the agreement.  At July 3, 2010, the interest rate of 1.3% was based on a margin over LIBOR.

The Notes, the Term Loan and the Facility require us to meet specified financial ratios and to satisfy certain financial condition tests.  We were in compliance with all debt covenants as of July 3, 2010.

The Company periodically enters into commodity futures and options hedging transactions to reduce the impact of changing prices for certain commodities, such as copper and aluminum.  Contract terms of commodity hedge instruments generally mirror those of the hedged item, providing a high degree of risk reduction and correlation.

We are also exposed to foreign currency risks that arise from normal business operations.  These risks include the translation of local currency balances of foreign subsidiaries, intercompany loans with foreign subsidiaries and transactions denominated in foreign currencies.  Our objective is to minimize our exposure to these risks through a combination of normal operating activities and the utilization of foreign currency contracts to manage our exposure on the transactions denominated in currencies other than the applicable functional currency.  Contracts are executed with creditworthy banks and are denominated in currencies of major industrial countries.  It is our policy not to enter into derivative financial instruments for speculative purposes.  We do not hedge our exposure to the translation of reported results of foreign subsidiaries from local currency to United States dollars.

All derivatives are recorded on the balance sheet at fair value and are accounted for as cash flow hedges, changes in fair value are recorded in accumulated other comprehensive income (loss) in each accounting period.  An ineffective portion of the hedge’s change in fair value, if any, is recorded in earnings in the period of change.  The impact due to ineffectiveness was immaterial for all periods included in this report.

The Company is, from time to time, party to litigation that arises in the normal course of our business operations, including product warranty and liability claims, contract disputes and environmental, asbestos, employment and other litigation matters.  The Company’s products are used in a variety of industrial, commercial and residential applications that subject us to claims that the use of our products is alleged to have resulted in injury or other damage.  The Company accrues for anticipated costs in defending against such lawsuits in amounts that we believe are adequate, and the Company does not believe that the outcome of any such lawsuit will have a material effect on the Company’s financial position or its results of operations.