ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Unless the context requires otherwise, references in this Item 2 to "we", "us", "our" or the "Company" refer collectively to Regal Beloit Corporation and its subsidiaries. All amounts referred to in this Management's Discussion and Analysis of Financial Condition and Results of Operations reflect the adjustment of convertible debt and related interest expense discussed in Note 2 of Notes to the Condensed Consolidated Financial Statements.

OVERVIEW

Net sales decreased 17.4% to $443.3 million from $536.3 million in the comparable period of 2008. Sales for the three months ended March 28, 2009 included $29.7 million of sales related to the two 2008 acquired businesses described in Note 4 of Notes to the Condensed Consolidated Financial Statementsand the CPT acquisition completed on January 2, 2009.

Net income decreased 59.3% to $12.8 million for the three months ended March 28, 2009 as compared to $31.4 million in the comparable period last year. Diluted earnings per share decreased 58.9% to $0.39 for the three months ended March 28, 2009 as compared to $0.95 for the comparable period of 2008.

RESULTS OF OPERATIONS

Three Months Ended March 28, 2009 versus Three Months Ended March 29, 2008

Sales for the three months ended March 28, 2009 were $443.3 million, a 17.4% decrease over the $536.3 million reported for the three months ended for March 29, 2008. First quarter 2009 sales included $29.7 million of sales related to the two 2008 acquired businesses described in Note 4 of Notes to the Condensed Consolidated Financial Statements and the CPT acquisition completed on January 2, 2009.

In the Electrical segment, sales decreased 17.4% from the prior year period, including the impact of the acquisitions noted above. Exclusive of the acquired businesses, Electrical segment sales decreased 23.7%, largely due to global generator sales decreasing 12%, commercial and industrial motors sales in North America decreasing 23%, and residential HVAC motor sales decreasing 22%. Sales in the Mechanical segment decreased 17.0% from the prior year period. From a geographic perspective, Asia-based sales decreased 24.2% as compared to the comparable period of 2008. In total, sales to regions outside of the United States were 26.7% of total sales for the three months ended March 28, 2009 in comparison to 25.6% for the comparable period of 2008. The negative impact of foreign currency exchange rate changes decreased total sales by 2.4%.

The gross profit margin for the three months ended March 28, 2009 was 20.4% as compared to the 22.8% reported for the comparable period of 2008. The gross profit margin for the Electrical segment was 19.6% for the three months ended March 28, 2009 versus 21.9% in the comparable period of 2008. The Mechanical segment gross profit was 26.9% in the three months ended March 28, 2009 versus 29.1% in the comparable period of 2008. The decrease is driven by higher commodity costs and the absorption impact of lower sales volumes.

Operating expenses were $62.4 million (14.1% of sales) in the three months ended March 28, 2009 versus $64.5 million (12.0% of sales) in the comparable period of 2008. Operating expenses included approximately $5.1 million related to the Dutchi and Hwada businesses offset by reductions in variable expenses, such as sales commissions, and the impact of cost reduction activities. Electrical segment operating expenses were 14.0% of net sales for the three months ended March 28, 2009 versus 11.9% in the comparable period of 2008. Mechanical operating expenses for the first quarter of 2009 were 14.8% of sales versus 13.0% in 2008.

Income from operations was $28.2 million versus $57.6 million in the comparable period of 2008. As a percent of sales, income from operations was 6.4% for the three months ended March 28, 2009 versus 10.7% in the comparable period of 2008. As a percent of sales, Electrical segment operating profit was 5.6% in the first quarter of 2009 versus 10.0% in the comparable period of 2008. Mechanical segment operating profit was 12.1% of sales in the first quarter of 2009 versus 16.1% in the comparable period of 2008.

Net interest expense was $7.0 million versus $8.0 million in the comparable period of 2008. The decrease is driven by lower interest rates in 2009 versus the comparable period of 2008.

---

Return to Index

The effective tax rate for the three months ended March 28, 2009 was 34.1% versus 35.4% in the prior year period. The decrease in the effective tax rate results primarily from the global distribution of income.

Net income for the three months ended March 28, 2009 was $12.8 million, a decrease of 59.3% versus the $31.4 million reported in the comparable period of 2008. Fully diluted earnings per share was $0.39 as compared to $0.95 per share reported in the first quarter of 2008. The average number of diluted shares was 32,594,802 during the three months ended March 28, 2009 as compared to 33,117,034 during the comparable period of 2008.

LIQUIDITY AND CAPITAL RESOURCES

Working capital was $486.1 million at March 28, 2009, a 13.0% increase from $430.3 million at December 27, 2008. The $55.8 million increase was primarily driven by a $49.5 million decrease in accounts payable and a $33.8 million decrease in current hedging obligations offset by a $21.7 million decrease in accounts receivable and a $32.6 million decrease in inventory. The ratio of current assets to our current liabilities ("current ratio") was 2.5:1 at March 28, 2009 and 2.0:1 at December 27, 2008.

Net cash provided by operating activities was $21.6 million for the three months ended March 28, 2009 as compared to $34.9 million in the comparable period of 2008. The decrease is driven by lower net income in 2009 versus the comparable period of 2008. Net cash used in investing activities was $9.3 million in the first three months of 2009 as compared to the $12.1 million used in the comparable period of the prior year. Additions to property, plant and equipment were $8.1 million in the first three months of 2009, which was $5.5 million less than the comparable period of 2008. Our cash provided by financing activities was $8.0 million for the first three months of 2009 versus $15.4 million used in financing activities in the comparable period of 2008. During the three months ended March 29, 2008, the Company repurchased 110,000 shares at a total cost of $4.2 million. There were no shares repurchased in 2009.

Our outstanding long-term debt increased from $560.1 million at December 27, 2008 to $580.3 million at March 28, 2009. At March 28, 2009, there was $39.2 million outstanding under our $500.0 million unsecured revolving credit facility that expires on April 30, 2012 (the "Facility"). The Facility permits the Company to borrow at interest rates based upon a margin above the London Inter-Bank Offered Rate ("LIBOR"), which margin varies with the ratio of total funded debt to earnings before interest, taxes, depreciation and amortization ("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 our total debt to our EBITDA.

In 2008, the Company 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 March 28, 2009, the interest rate of 1.6% was based on a margin over LIBOR.

At March 28, 2009, there was $250.0 million of senior notes (the "Notes") outstanding. 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 LIBOR, which margin varies with the ratio of the Company's consolidated debt to consolidated 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 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 March 28, 2009.

In addition to the Facility, the Term Loan and the Notes, at March 28, 2009, we also had $115.0 million of convertible senior subordinated debt outstanding at a fixed interest rate of 2.75%, and $18.2 million of other debt with a weighted average interest rate of 3.9%.

CRITICAL ACCOUNTING POLICIES

The Company's critical accounting policies have not changed materially from those reported in our 2008 Annual Report on Form 10-K filed on February 25, 2009.

---

Return to Index

New Accounting Pronouncements

In May 2008, the Financial Accounting Standards Board ("FASB") issued FASB Staff Position APB 14-1, "Accounting for Convertible Debt Instruments that May Be Settled in Cash Upon Conversion (Including Partial Cash Settlement)" ("APB 14-1"), which requires that convertible debt securities, that upon conversion may be settled by the issuer fully or partially in cash, be split into a debt and equity component. APB 14-1 is effective for fiscal years (and interim periods) beginning after December 15, 2008 and must be applied retroactively to all past periods presented. The Company adopted APB 14-1 on its effective date.
(See Note 2 of Notes to Condensed Consolidated Financial Statements.)

In March 2008, the FASB issued SFAS 161, "Disclosures about Derivative Instruments and Hedging Activities" ("SFAS 161"), which requires expanded disclosures about derivative instruments and hedging activities. SFAS 161 is effective for fiscal years and interim periods beginning after November 15, 2008, with earlier adoption permitted. The Company has adopted the new standard in our financial statements and related disclosures beginning in the first quarter of 2009. (See Note 15 of Notes to Condensed Consolidated Financial Statements.)

In December 2007, the FASB issued SFAS 141 (Revised 2007), "Business Combinations" ("SFAS 141R"), effective prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. SFAS 141R established principles and requirements on how an acquirer recognizes and measures in its financial statements identifiable assets acquired, liabilities assumed, noncontrolling interest in the acquiree, goodwill or gain from a bargain purchase and accounting for transaction costs. Additionally, SFAS 141R determines what information must be disclosed to enable users of the financial statements to evaluate the nature and financial effects of the business combination. The Company has adopted SFAS 141R upon its effective date as appropriate for any future business combinations.

In December 2007, the FASB also issued SFAS 160, "Noncontrolling Interests in Consolidated Financial Statements, an amendment of ARB No. 51" ("SFAS 160"). SFAS 160 changed the accounting and reporting for minority interests, which will be recharacterized as noncontrolling interests and classified as a component of equity. This new consolidation method will significantly change the accounting for transactions with minority interest holders. SFAS 160 is effective for fiscal years beginning after December 15, 2008. The Company has adopted the new standard in our financial statements and related disclosures beginning in the first quarter of 2009.

In September 2006, the FASB issued SFAS 157, "Fair Value Measurements" ("SFAS 157"). SFAS 157 defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. The Company has adopted SFAS 157 in 2008 for financial assets as permitted.