| PENTAIR INC Item 1A Risk Factors You should carefully consider the following risk factors and warnings before making an investment decision |
| If any of the risks described below actually occur, our business, financial condition, results of operations or prospects could be materially adversely affected |
| In that case, the price of our securities could decline and you could lose all or part of your investment |
| You should also refer to the other information set forth in this document |
| Demand for our products will be affected by general economic conditions |
| Demand for our residential and commercial products is influenced by many economic conditions, including but not limited to new construction activity and the level of repair and remodeling activity |
| The level of new construction and repair and remodeling activity is affected by a number of factors beyond our control, such as the overall strength of the economy (including confidence in the economy by our customers), the strength of the residential and commercial real estate markets, institutional building activity, the age of existing housing stock, unemployment rates, availability of consumer financing and interest rates |
| Any declines in new housing or commercial construction starts or demand for replacement building and home improvement products may adversely impact us, and there can be no assurance that any such adverse effects would not be material and would not continue for an indeterminate period of time |
| Further, while we attempt to minimize our exposure to economic or market fluctuations by serving a balanced mix of end markets and geographic regions, we cannot assure you that a significant or sustained downturn in a specific end market or geographic region would not have a material adverse effect on us |
| Our businesses operate in highly competitive markets, so we may be forced to cut prices or to incur additional costs |
| Our businesses generally face substantial competition in each of their respective markets |
| Competition may force us to cut prices or to incur additional costs to remain competitive |
| We compete on the basis of product design, quality, availability, performance, customer service and price |
| Present or future competitors may have greater financial, technical or other resources which could put us at a disadvantage in the affected business or businesses |
| We cannot assure you that these and other factors will not have a material adverse effect on our results of operations |
| Our inability to sustain consistent organic growth could adversely affect our financial performance |
| In 2005, our organic growth was generated in part from expanding international sales, entering new distribution channels, and introducing new products |
| To grow more rapidly than our end markets, we will have to continue to expand our geographic reach, further diversify our distribution channels, continue to introduce new products, and increase sales of existing products to our customer base |
| We may not be able to successfully meet those challenges, which could adversely affect our ability to sustain consistent organic growth |
| If we are unable to sustain consistent organic growth, we will be less likely to meet our stated revenue growth targets, which could adversely affect our net income growth, and, in turn, the market price of our stock |
| Our inability to complete or successfully complete and integrate acquisitions could adversely affect our financial performance |
| A significant percentage of our net sales growth in 2005 and 2004 was generated as a result of acquisitions completed during those periods, including our acquisition of WICOR and Everpure |
| We may not be able to sustain this level of growth from acquisition activity in the future |
| We intend to continue to evaluate strategic acquisitions primarily in our current business segments, and we may consider acquisitions outside of these segments as well |
| Our ability to expand through acquisitions is subject to various risks, including the following: • increased competition for acquisitions, especially in the water industry; • higher acquisition prices; 8 _________________________________________________________________ [61]Table of Contents • lack of suitable acquisition candidates in targeted product or market areas; • diversion of management time and attention to acquisitions and acquired businesses; • inability to integrate acquired businesses effectively or profitably; and • inability to achieve anticipated synergies or other benefits from acquisitions |
| Acquisitions could have a material adverse effect on our operating results, particularly in the fiscal quarters immediately following the acquisitions, while we attempt to integrate operations of the acquired businesses into our operations |
| Once integrated, acquired operations may not achieve the levels of profitability originally anticipated |
| Material cost inflation could adversely affect our results of operations |
| We are experiencing material cost inflation in a number of our businesses |
| We are striving for greater productivity improvements and implementing selective increases in selling prices to help mitigate cost increases in base materials such as steel, resins, ocean freight and fuel, health care and insurance |
| We also are continuing to implement our excellence in operations initiatives in order to continuously reduce our costs |
| We cannot assure you, however, that these actions will be successful to manage our costs or increase our productivity |
| Continued cost inflation or failure of our initiatives to generate cost savings or improve productivity may negatively impact our results of operations |
| Seasonality of sales and weather conditions may adversely affect our financial results |
| We experience seasonal demand in a number of markets within our Water Group |
| End-user demand for pool/spa equipment follows warm weather trends and is at seasonal highs from March to July |
| The magnitude of the sales spike is partially mitigated by effective use of the distribution channel by employing advance sales programs (generally including extended payment terms and/or additional discounts) |
| Demand for residential and agricultural water systems is also impacted by water patterns particularly related to heavy flooding and droughts |
| We cannot assure you that seasonality and weather conditions will not have a material adverse effect on our results of operations |
| Intellectual property challenges may hinder product development and marketing |
| Patents, non-compete agreements, proprietary technologies, customer relationships, trade marks, trade names, and brand names are important to our business |
| Intellectual property protection, however, may not preclude competitors from developing products similar to ours or from challenging our names or products |
| Over the past few years, we have noticed an increasing tendency for participants in our markets to use conflicts over and challenges to intellectual property as a means to compete |
| Patent and trademark challenges increase our costs to develop, engineer and market our products |
| Our results of operations may be negatively impacted by litigation |
| Our business exposes us to potential litigation, especially product liability suits that are inherent in the design, manufacture, and sale of our products |
| While we currently maintain what we believe to be suitable product liability insurance, we cannot be assured that we will be able to maintain this insurance on acceptable terms or that this insurance will provide adequate protection against potential liabilities |
| In addition, we self-insure a portion of product liability claims |
| A series of successful claims against us could materially and adversely affect our product reputation and our financial condition, results of operations, and cash flows |
| We may be required to make payments in respect of businesses that we have sold |
| We have sold a number of businesses over the last ten years, including the sale of our former Tools Group to BDK in October 2004 |
| In this and other dispositions, we typically agree to indemnify the buyers with respect to certain matters relating to the businesses that we have sold, and we may from time to time be required to make payments to the buyers under those indemnities |
| To the extent we are required to make any 9 _________________________________________________________________ [62]Table of Contents such payments in the future, those payments could be substantial, which could require us to borrow additional amounts at unfavorable borrowing terms and cause a significant decrease in our liquidity, both of which could severely harm our business |
| The availability and cost of capital could have a negative impact on our continued growth |
| Our plans to continue our growth in our chosen markets will require additional capital for future acquisitions, capital expenditures for existing businesses, growth of working capital, and continued international and regional expansion |
| In the past, we have financed our growth primarily through debt financings |
| Any significant future acquisitions will require us to expand our debt financing resources or to issue equity securities |
| Our financial results may be adversely affected if interest costs under our debt financings are higher than the income generated by acquisitions or other internal growth |
| In addition, future acquisitions could be dilutive to your equity investment if we issue additional stock to fund acquisitions |
| We cannot be assured that we will be able to issue equity securities or to obtain future debt financing at favorable terms |
| Without sufficient financing, we will not be able to pursue our growth strategy, which will limit our growth and revenues in the future |
| Our international operations are subject to foreign market and currency fluctuation risks |
| We expect the percentage of sales outside of North America to increase in the future |
| Over the past few years, the economies of many of the foreign countries in which we do business have had slower growth than the US economy |
| The European Union currently accounts for the majority of our foreign sales and income |
| Our most significant European market is Germany, where the capital goods market has been very slow |
| We cannot predict how changing European market conditions will impact our financial results |
| We are also exposed to the risk of fluctuation of foreign currency exchange rates which may affect our financial results |
| As of December 31, 2005, we held immaterial positions in foreign exchange-forward contracts |
| We are exposed to political, economic and other risks that arise from operating a multinational business |
| Sales outside of North America, including export sales from North American businesses, accounted for approximately 22prca of our net sales in 2005 |
| Further, certain of our businesses obtain raw materials and finished goods from foreign suppliers |
| Accordingly, our business is subject to the political, economic and other risks that are inherent in operating in numerous countries |
| These risks include: • the difficulty of enforcing agreements and collecting receivables through foreign legal systems; • trade protection measures and import or export licensing requirements; • tax rates in certain foreign countries that exceed those in the US and the imposition of withholding requirements on foreign earnings; • the imposition of tariffs, exchange controls or other restrictions; • difficulty in staffing and managing widespread operations and the application of foreign labor regulations; • the protection of intellectual property in foreign countries may be more difficult; • required compliance with a variety of foreign laws and regulations; and • changes in general economic and political conditions in countries where we operate, particularly in emerging markets |
| Our business success depends in part on our ability to anticipate and effectively manage these and other risks |
| We cannot assure you that these and other factors will not have a material adverse effect on our international operations or on our business as a whole |
| 10 _________________________________________________________________ [63]Table of Contents We are exposed to potential environmental liabilities and litigation |
| Compliance with environmental regulations could require us to discharge environmental liabilities, increase the cost of manufacturing our products or otherwise adversely affect our business, financial condition and results of operations |
| We are subject to federal, state, local and foreign laws and regulations governing public and worker health and safety and the indoor and outdoor environment |
| Any violations of these laws by us could cause us to incur unanticipated liabilities that could harm our operating results and cause our business to suffer |
| We are also required to comply with various environmental laws and maintain permits, some of which are subject to discretionary renewal from time to time, for many of our businesses, and we could suffer if we are unable to renew existing permits or to obtain any additional permits that we may require |
| We have been named as defendants, targets, or potentially responsible parties (PRPs) in a number of environmental clean-ups relating to our current or former business units |
| We have disposed of a number of businesses over the last ten years and, in certain cases, we have retained responsibility and potential liability for certain environmental obligations |
| We have received claims for indemnification from certain purchasers |
| We may be named as a PRP at other sites in the future for existing business units, as well as both divested and acquired businesses |
| We cannot ensure that environmental requirements will not change or become more stringent over time or that our eventual environmental clean-up costs and liabilities will not exceed the amount of our current reserves |
| Provisions of our Restated Articles of Incorporation, Bylaws and Minnesota law could deter takeover attempts |
| Anti-takeover provisions in our charter documents, under Minnesota law and in our shareholder rights plan could prevent or delay transactions that our shareholders may favor |
| Our Restated Articles of Incorporation and Bylaws include provisions relating to the election, appointment and removal of directors, as well as shareholder notice and shareholder voting requirements which could delay, prevent or make more difficult a merger, tender offer, proxy contest or other change of control |
| In addition, our common share purchase rights could cause substantial dilution to a person or group that attempts to acquire us, which could deter some acquirers from making takeover proposals or tender offers |
| Also, the Minnesota Business Corporations Act contains control share acquisition and business combination provisions which could delay, prevent or make more difficult a merger, tender offer, proxy contest or other change of control |
| Our shareholders might view any such a transaction as being in their best interests since the transaction could result in a higher stock price than the current market price for our common stock |