Executive Summary / Key Takeaways

• Resilient Profitability Amidst Headwinds: Donaldson Company, Inc. ($DCI) achieved record sales and adjusted earnings in fiscal year 2025, demonstrating robust profitability with an adjusted operating margin of 15.7%, despite macroeconomic uncertainties and cyclical downturns in key end markets. This resilience is largely driven by its "razor-to-sell razor blade" business model and strong aftermarket performance.
• Technological Leadership Driving Share Gains: The company leverages advanced filtration technologies like PowerCore and Ultra-Web in Mobile Solutions and iCue Connected Filtration in Industrial Solutions to deliver superior performance, efficiency, and reduced downtime, leading to consistent market share gains across various segments.
• Strategic Expansion in Life Sciences: Donaldson is strategically investing in its Life Sciences segment, particularly in bioprocessing, through acquisitions and new product launches such as the Purexa membrane chromatography and scale-X nexo bioreactor. While facing near-term market headwinds, these initiatives are poised for future growth, with significant revenue inflection anticipated in fiscal year 2027.
• Strong Outlook and Capital Discipline: Management forecasts another record year in fiscal year 2026, targeting $3.8 billion in sales and an all-time high operating margin of 16.4%, with an incremental margin of approximately 40%. This growth is supported by disciplined capital deployment, including organic investments, strategic M&A, consistent dividends, and share repurchases.
• Mitigating External Risks: Donaldson effectively manages risks like tariffs through its diversified global footprint and pricing power, expecting to remain profit dollar neutral. Ongoing footprint optimization initiatives are also enhancing its cost structure for long-term profitability.

A Century of Filtration Excellence: Donaldson's Enduring Foundation

Donaldson Company, Inc. ($DCI), founded in 1915, has evolved into a global leader in technology-led filtration products and solutions, serving a vast array of industries across six continents. The company's core mission revolves around solving complex filtration challenges for customers, from small businesses to major Original Equipment Manufacturers (OEMs), by delivering high-tech solutions that protect precision equipment, enhance efficiency, mitigate risks, and reduce downtime. This foundational strength is deeply embedded in its "razor-to-sell razor blade" business model, which ensures a durable and profitable revenue stream from replacement parts.

The company's strategic framework is built on three pillars: extending market access, expanding technologies and solutions, and pursuing strategic acquisitions in high-margin areas. This approach has shaped its diversified portfolio across three reportable segments: Mobile Solutions, Industrial Solutions, and Life Sciences. Each segment benefits from Donaldson's deep expertise in material science and its commitment to innovation, positioning the company to capitalize on broad industry trends such as the demand for higher performance, improved fuel economies, automation, operational efficiency, and sustainable products.

Technological Moats and Innovation Pipeline

Donaldson's competitive advantage is significantly underpinned by its differentiated filtration technology, which offers tangible benefits across its diverse product portfolio. In the Mobile Solutions segment, proprietary air filtration technologies like PowerCore and Ultra-Web are globally recognized. PowerCore technology, for instance, surpasses standard pleated cellulose filters in both efficiency and compactness, making it a preferred choice for OEM engines and equipment. Ultra-Web media technology delivers robust filtration in the harshest environments, such as high-temperature and humid conditions, while Ultra-Web HD media further enhances fine fiber performance for extreme fine dust environments like mining. For fuel and lube systems, Synteq XP filtration technology offers significantly higher fuel system protection and longer life under dynamic conditions, removing substantially more water than commercially available alternatives. In hydraulics, the Duramax filter achieves higher pressure in a spin-on configuration, and Alpha-Web hydraulic filtration media features a first-of-its-kind fine-fiber layer to trap and lock particles, delivering transformational improvement in hydraulic equipment protection and ensuring cleaner oil.

The Industrial Solutions segment leverages its iCue Connected Filtration Technology, which proactively monitors a facility's dust collection equipment. This technology reduces unplanned downtime, supports efficient operation, lowers maintenance costs, and strengthens customer relationships, enabling additional service opportunities. In fiscal year 2026, Donaldson expects to grow the number of connected machines by over 30%, deepening customer engagement and driving higher-margin aftermarket sales.

In the Life Sciences segment, recent acquisitions have brought disruptive technologies to the forefront. Purilogics' Purexa membrane chromatography products are designed for the purification and streamlined manufacturing of biopharmaceuticals, offering significant competitive advantages over traditional resin and monolith technologies by enabling improved productivity, speed, and production costs. Isolere Bio's IsoTag reagents are novel and proprietary, aimed at substantially improving product quality and purity with faster timelines for biopharmaceutical purification, particularly for viral vectors used in cell and gene therapies. Univercells Technologies' scale-X single-use structured fixed-bed bioreactor offers intensified production of viruses for cell and gene therapy and viral vaccines, while its NevoLine Upstream platform provides integrated processing capabilities, driving productivity improvements and reducing operational footprints.

Donaldson's investment in research and development, totaling $87.8 million (2.4% of net sales) in fiscal year 2025, underpins these innovations. The company holds over 3,100 issued patents, protecting its advancements. These technological differentiators are critical to Donaldson's competitive moat, allowing it to command pricing power, achieve better margins, and maintain market leadership by offering superior, value-added solutions to its customers.

Competitive Landscape: A Specialized Leader in a Diverse Market

Donaldson operates in highly competitive filtration markets across all its segments, facing a mix of large global players and numerous smaller, regional, or niche competitors. The company asserts itself as a market leader within many of its product lines, particularly in Off-Road and On-Road for OEMs and in the Aftermarket business for replacement filters.

Compared to direct competitors like Cummins Inc. (CMI) (via its Filtration segment), Donaldson's specialized focus on filtration technology often results in notably more robust performance under challenging conditions for specific applications, such as in aerospace and industrial processes. While Cummins benefits from its integrated engine solutions, Donaldson's extensive aftermarket support and replacement parts network cultivate stronger customer loyalty through comprehensive service capabilities, potentially leading to improved market share in aftermarket segments and more robust growth.

Against Parker Hannifin (PH), a broad provider of motion and control technologies, Donaldson's filtration systems for industrial and engine segments are often positioned for high-reliability applications, offering materially lower maintenance needs in certain contexts. Donaldson's strategy emphasizes specialized filtration for OEMs and aftermarkets, leading to a stronger positioning in replacement parts, whereas Parker Hannifin excels in custom-engineered projects. While Parker Hannifin's acquisition-driven growth might suggest faster innovation, Donaldson's long history and global distribution foster enhanced customer relationships in established markets.

When contrasted with Danaher Corporation (DHR) (through its Pall Corporation subsidiary), which focuses on high-performance filtration for critical processes, Donaldson's products demonstrate notably better adaptability to diverse environments, such as in construction or aerospace. While Danaher leads in cutting-edge membrane-based filtration and potentially faster development cycles, Donaldson's established presence in aftermarket services provides greater recurring revenue potential. The $62 million impairment charge in fiscal year 2025 related to Donaldson's bioprocessing businesses (Univercells Technologies and Solaris) highlights the challenges of competing in high-tech, capital-intensive segments where market adoption timelines can be elongated.

Donaldson's competitive advantages, or moats, include its strong brand recognition, proprietary filtration technologies, and extensive distribution networks. These factors translate into enhanced customer loyalty, recurring revenue from replacement parts, and superior margins through pricing power. However, vulnerabilities exist, such as potential supply chain dependencies and the need for continuous, aggressive R&D in emerging technologies to keep pace with rivals like Danaher. The company's strategic response involves deepening customer relationships through connected solutions, expanding partnerships (e.g., Mighty Distributing System of America), and prioritizing R&D to address new market opportunities like hydrogen fuel cells with Daimler Truck North America (DTRUY).

Financial Performance: A Story of Resilience and Margin Expansion

Donaldson concluded fiscal year 2025 with a strong financial performance, achieving record sales and adjusted earnings despite a challenging macroeconomic backdrop. Net sales for the year reached $3.69 billion, a 2.9% increase from fiscal year 2024, driven by higher sales volume and strategic pricing actions. This growth was broad-based, with Mobile Solutions increasing by 1.8% to $2.29 billion, Industrial Solutions by 3.6% to $1.10 billion, and Life Sciences by 9.8% to $295.5 million.

Profitability metrics, though influenced by specific factors, underscored the company's operational discipline. The gross profit margin for fiscal year 2025 was 34.8%, a slight decrease from 35.5% in the prior year. This was primarily attributed to higher manufacturing costs associated with footprint optimization initiatives and tariff-related inflation on LIFO inventory valuation. Notably, excluding the impact of LIFO, the gross margin would have been approximately flat year-over-year. Selling, general, and administrative expenses improved as a percentage of net sales, decreasing to 17.4% from 17.8% in fiscal year 2024, reflecting ongoing disciplined expense management and a $4 million benefit from the reduction of the Purilogics contingent consideration liability. Research and development expenses were $87.8 million, or 2.4% of net sales, a decrease from 2.6% in the prior year, driven by focused project prioritization.

The company's adjusted operating margin for fiscal year 2025 reached a record 15.7%, demonstrating effective leverage on higher sales and cost control. Adjusted diluted earnings per share (EPS) for the year was $3.68, towards the higher end of management's initial guidance. Segment profitability showed mixed but improving trends. Mobile Solutions recorded a pretax profit margin of 18.2% (19.1% in Q4 FY25), benefiting from inventory cost adjustments and sales leverage. Industrial Solutions saw a pretax margin of 17.9% (a record 20.9% in Q4 FY25), though impacted by unfavorable mix. Life Sciences significantly improved its pretax margin to 1.5% (5.3% in Q4 FY25) from a loss in the prior year, driven by higher volume, restructuring benefits, and the Purilogics contingent consideration adjustment. However, the segment also incurred a $62 million impairment charge related to Univercells Technologies and Solaris due to market headwinds in bioprocessing.

Donaldson maintains a strong liquidity position, generating substantial cash from operating activities. Cash provided by operating activities was $418.8 million in fiscal year 2025. While cash used in investing activities increased to $150.4 million, primarily due to a $71.2 million equity investment in Medica S.p.A., the company's overall financial flexibility remains robust. As of July 31, 2025, cash and cash equivalents stood at $180.4 million, and the company had $759.6 million available under existing credit facilities. The net debt to EBITDA ratio remained healthy at 0.6 times, underscoring its capacity for future investments. The company's cash conversion was strong at 123% in Q4 FY25, driven by successful inventory reduction.

Outlook and Strategic Trajectory

Looking ahead to fiscal year 2026, Donaldson's management is forecasting another record year, projecting total sales to increase between 1% and 5%, reaching $3.8 billion at the midpoint. This outlook includes approximately 1% pricing, with negligible impacts from currency translation and tariffs, reflecting the company's ability to offset an estimated $35 million in annualized tariff costs through supply chain adjustments and pricing actions.

The company anticipates an all-time high operating margin of 16.4% at the midpoint of its 16.1% to 16.7% guidance range, representing a 70 basis point year-over-year improvement and an incremental margin of approximately 40%. This margin expansion is expected to be driven by gross margin improvements and expense leverage, as the "heavy lift" phase of footprint and cost optimization initiatives is largely completed by 2026. Adjusted EPS is guided to a range of $3.92 to $4.08, centered on $4 per share, implying a solid 9% earnings growth on 3% sales growth at the midpoints.

Segment-specific guidance for fiscal year 2026 includes Mobile Solutions sales projected to be flat to up 4%, with a rebound in first-fit sales (mid-single-digit growth in off-road, high single-digit growth in on-road) and low single-digit growth in aftermarket. Industrial Solutions sales are expected to grow between 2% and 6%, driven by a mid-single-digit increase in Industrial Filtration Solutions (IFS) and flat Aerospace and Defense sales after a strong prior year. Life Sciences sales are forecast to grow between 1% and 5%, with segment profit margin projected to reach mid-single digits.

Donaldson's capital deployment priorities remain consistent: investing for organic growth (with capital expenditures between $65 million and $85 million for capacity and new products), strategic M&A (focused on Life Sciences and Industrial businesses), and returning cash to shareholders through dividends and share repurchases (2% to 3% of outstanding shares). The company's commitment to increasing its dividend annually for decades, with fiscal 2025 marking the 30th consecutive year, highlights its confidence in future financial strength and its status as an S&P High-Yield Dividend Aristocrat.

Risks and Challenges

Despite a strong outlook, Donaldson faces several pertinent risks. Macroeconomic and geopolitical uncertainties, including fluid tariff policies and potential trade barriers, could disrupt supply chains and increase costs. While the company has demonstrated an ability to mitigate these impacts, sustained or escalating trade tensions remain a concern. Operational risks, such as raw material availability, significant demand fluctuations, and the complexity of manufacturing, could affect its ability to meet customer demand and maintain efficiency.

The Life Sciences segment, in particular, faces market headwinds, including weak capital spending in bioprocessing and longer-than-expected drug development timelines, which led to a significant impairment charge in fiscal year 2025. The pace of commercialization for new bioprocessing products, while promising, is taking longer than initially anticipated, with significant revenue inflection expected more in fiscal year 2027. Furthermore, the threat of disruptive technologies, such as the electrification of equipment in the automotive sector, could reduce demand for traditional filtration products, although Donaldson is proactively investing in alternative power solutions. Cybersecurity threats also pose an ongoing risk to the company's information technology systems and data integrity.

Conclusion

Donaldson Company, Inc. stands as a resilient and strategically focused leader in the global filtration market. Its century-long history, coupled with a relentless pursuit of technological innovation and a robust "razor-to-sell razor blade" business model, forms the bedrock of its investment thesis. The company's ability to consistently generate record earnings and expand operating margins, even amidst challenging end-market conditions and external pressures like tariffs, underscores its operational excellence and disciplined management.

While the Life Sciences segment, particularly bioprocessing, presents a longer growth runway with near-term market-specific headwinds, Donaldson's strategic investments in disruptive technologies and its focus on high-margin legacy businesses within the segment are poised to deliver future value. The company's strong financial health, characterized by robust cash flow generation and a low leverage ratio, provides ample flexibility to fund organic growth, pursue strategic acquisitions, and maintain its impressive track record of shareholder returns. Donaldson's commitment to technological leadership and its proactive approach to market shifts position it favorably to capitalize on future opportunities and continue its trajectory of profitable growth, making it a compelling consideration for discerning investors.