Nature of Operations

The Toro Company is in the business of designing, manufacturing, and marketing professional turf maintenance equipment and services, turf and agricultural micro-irrigation systems, landscaping equipment, and residential yard and irrigation products worldwide. We sell our products through a network of distributors, dealers, hardware retailers, home centers, mass retailers, and over the Internet. Our businesses are organized into three reportable business segments: professional, residential, and distribution. A company-owned distributorship, which consists of our distribution segment, has been combined with our corporate activities and financing functions. Our emphasis is to provide innovative, well-built, and dependable products supported by an extensive service network. A significant portion of our revenues has historically been, and we expect it to continue to be, attributable to new and enhanced products.
The Management's Discussion and Analysis of Financial Condition and Results of Operations (MD&A) for the third quarter of fiscal 2009 should be read in conjunction with the MD&A included in our Annual Report on Form 10-K (Item 7) for the fiscal year ended October 31, 2008.

RESULTS OF OPERATIONS

Overview

For the third quarter of fiscal 2009, our net sales were down 19.8 percent compared to the third quarter of fiscal 2008. Year-to-date net sales were also down by 19.7 percent compared to the same period last fiscal year. Shipments of most professional segment products were significantly down due to decreased demand resulting largely as a consequence of the global recessionary conditions. Domestic field inventory levels were also down as of the end of the third quarter of fiscal 2009 compared to the end of the third quarter of fiscal 2008 as a result of continued focus and improved field inventory management during this economic downturn. Residential segment net sales increased slightly by 1.2 percent for the third quarter of fiscal 2009 compared to the third quarter of fiscal 2008; however, year-to-date residential segment net sales declined slightly by 1.6 percent compared to the same period in the prior fiscal year. Sales of walk power mowers increased for the third quarter and year-to-date periods of fiscal 2009 compared to the same periods last fiscal year due mainly to additional product placement at a key retailer for a new and broader line of walk power mowers. However, sales of snow thrower products were down for the third quarter and year-to-date periods of fiscal 2009 compared to the same periods in the prior fiscal year due to the timing of the introduction for a new redesigned offering of snow thrower products that are anticipated to ship in the fourth calendar quarter of 2009. International net sales declined 20.1 percent and 21.4 percent for the third quarter and year-to-date periods of fiscal 2009, respectively, from the same periods in the prior fiscal year, also due to reduced demand as a result of the recessionary conditions affecting our key international markets, as well as a stronger U.S. dollar compared to other currencies in which we transact business that negatively impacted net sales by approximately $8 million and $31 million for the third quarter and year-to-date periods of fiscal 2009, respectively. Our net earnings declined 48.3 percent and 47.0 percent for the third quarter and year-to-date periods of fiscal 2009 to $19.8 million and $63.4 million, respectively, compared to the same periods in the prior fiscal year. These decreases were primarily the result of lower sales volumes, a decline in gross profit due to production cuts and unfavorable product mix, an increase in other expense from several legal matters, costs incurred for workforce adjustments, and a higher effective tax rate, somewhat offset by lower selling, general, and administrative (SG&A) expenses in the third quarter and year-to-date periods of fiscal 2009 compared to the same periods last fiscal year.
During this difficult economic environment, we have been reducing expenses and continuing efforts to reduce working capital. As a result of these actions, our SG&A expenses were down $16.7 million and $52.0 million for the third quarter and year-to-date periods of fiscal 2009, respectively, compared to the same periods in the prior fiscal year. In fiscal 2009, we reduced our worldwide salaried and office workforce by approximately 135 employees through workforce adjustment programs, suspended regularly scheduled salary increases, reduced officers' salaries, changed our vacation policy, and added four furlough days. Our inventory levels also decreased 24.2 percent to $160.6 million for the third quarter of fiscal 2009 compared to the third quarter of fiscal 2008, the lowest level in more than a decade.

We declared a cash dividend of $0.15 per share during the third quarter of fiscal 2009, which was equivalent to the per share cash dividend we declared in the first and second quarters of fiscal 2009 and each quarter of fiscal 2008.
On August 12, 2009, we announced the formation of Red Iron Acceptance, LLC, a joint venture we have entered into with TCF Inventory Finance, Inc. The purpose of establishing this joint venture is to provide inventory financing for our distributor and dealers in the United States and Canada, as well as to free up our working capital for other purposes, which may include, among other things, strategic acquisitions, research and development of innovative new products, improvements in the quality and performance of existing products, and general corporate purposes. Additional information regarding the joint venture with TCFIF is presented in Part I, Item 1, "Notes to Condensed Consolidated Financial Statements (Unaudited)" in the section entitled Subsequent Events.
We expect the global economic slow-down will continue for at least the remainder of our fiscal year and to have a negative impact on our financial results for fiscal 2009. However, we believe the actions we have taken to improve operating efficiency and asset utilization, as well as reduce expenses, have positioned us well to manage through this continuing challenging economic environment. Our continued focus is on generating customer demand and aggressively driving retail sales for our innovative products, while keeping production closely aligned with expected shipment volumes. We will continue to keep a cautionary eye on the global economies, retail demand, field inventory levels, commodity prices, weather, competitive actions, expenses, and other factors identified below under the heading "Forward-Looking Information," which could cause our actual results to differ from our outlook.

Net Earnings

Net earnings for the third quarter of fiscal 2009 were $19.8 million, or $0.54 per diluted share, compared to $38.2 million, or $0.99 per diluted share, for the third quarter of fiscal 2008, a net earnings per diluted share decrease of 45.5 percent. Year-to-date net earnings in fiscal 2009 were $63.4 million, or $1.73 per diluted share, compared to $119.6 million, or $3.06 per diluted share, last fiscal year, a net earnings per diluted share decrease of 43.5 percent. The primary factors contributing to these declines were lower sales volumes, a decline in gross profit, an increase in other expense from several legal matters, costs incurred for workforce adjustments, and a higher effective tax rate, somewhat offset by a decrease in SG&A expense.
The following table summarizes the major operating costs as a percentage of net sales:

                                               Three Months Ended              Nine Months Ended
                                            July 31,        August 1,       July 31,       August 1,
                                              2009            2008            2009           2008
Net sales                                       100.0 %          100.0 %        100.0 %         100.0 %
Cost of sales                                   (66.1 )          (64.7 )        (66.5 )         (64.2 )
Gross profit                                     33.9             35.3           33.5            35.8
Selling, general, and administrative
 expense                                        (23.9 )          (22.5 )        (24.4 )         (23.0 )
Interest expense                                 (1.1 )           (0.9 )         (1.1 )          (1.0 )
Other (expense) income, net                      (1.0 )           (0.1 )         (0.1 )           0.1
Provision for income taxes                       (2.9 )           (4.0 )         (2.8 )          (4.1 )
Net earnings                                      5.0 %            7.8 %          5.1 %           7.8 %

Net Sales

Worldwide consolidated net sales for the third quarter and year-to-date periods of fiscal 2009 were down 19.8 percent and 19.7 percent, respectively, from the same periods in the prior fiscal year. Worldwide professional segment net sales were down 27.3 percent and 26.7 percent for the third quarter and year-to-date periods of fiscal 2009, respectively, compared to the same periods in the prior fiscal year as shipments for most product categories were hampered by decreased demand largely resulting from the global economic recession. Worldwide sales of golf maintenance equipment and irrigation systems were down significantly, as were sales of professionally installed residential/commercial irrigation products and landscape contractor equipment. Residential segment net sales increased slightly by 1.2 percent for the third quarter of fiscal 2009 compared to the third quarter of fiscal 2008, but declined by 1.6 percent for the year-to-date period of fiscal 2009 compared to the same period in fiscal 2008. Sales of walk power mowers increased due mainly to additional product placement at a key retailer for a new and broader line of walk power mowers. However, sales of snow thrower products were down due to the timing of the introduction of a new redesigned offering of snow thrower products that are anticipated to ship in the fourth calendar quarter of 2009. International net sales for the third quarter and year-to-date periods of fiscal 2009 were down 20.1 percent and 21.4 percent, respectively, from the same periods in the prior fiscal year due also to reduced demand as a result of the recessionary conditions affecting our key international markets, as well as a stronger U.S. dollar compared to other currencies in which we

transact business that accounted for approximately $8 million and $31 million of our net sales decline for the third quarter and year-to-date periods of fiscal 2009, respectively.

Gross Profit

As a percentage of net sales, gross profit for the third quarter of fiscal 2009 decreased to 33.9 percent compared to 35.3 percent in the third quarter of fiscal 2008. Gross profit as a percent of net sales for the year-to-date period of fiscal 2009 also decreased to 33.5 percent compared to 35.8 percent for year-to-date period of fiscal 2008. These declines were due to the following factors: (i) increased manufacturing costs from lower plant utilization as we cut production due to a decline in sales volumes, combined with efforts to lower inventory levels; (ii) lower sales of our higher-margin products; and (iii) a stronger U.S. dollar compared to other currencies in which we transact business, in each case in the third quarter and year-to-date periods of fiscal 2009 compared to the same periods in the prior fiscal year. Higher average commodity costs, mainly in the first half of fiscal 2009, also contributed to the decline in our gross profit. Somewhat offsetting those negative factors was a decrease in freight expense and price increases introduced on most products.

Selling, General, and Administrative Expense

Selling, general, and administrative expense decreased $16.7 million, or 15.1 percent, for the third quarter of fiscal 2009 compared to the third quarter of fiscal 2008. SG&A expense decreased $52.0 million, or 14.7 percent, for the year-to-date period of fiscal 2009 compared to the year-to-date period of fiscal 2008. These declines in SG&A expense were primarily attributable to overall reduced spending in response to the continuing worldwide recessionary economic conditions, as well as lower profit sharing and incentive compensation expense of $3.2 million for the year-to-date period of fiscal 2009 compared to the same period in the prior fiscal year. Somewhat offsetting those declines were costs incurred for workforce adjustments of $1.0 million and $3.0 million for the third quarter and year-to-date periods of fiscal 2009, respectively. SG&A expense as a percentage of net sales for the third quarter and year-to-date periods of fiscal 2009 increased to 23.9 percent and 24.4 percent, respectively, compared to 22.5 percent and 23.0 percent for the third quarter and year-to-date periods of fiscal 2008, respectively, due to fixed SG&A costs spread over lower sales volumes.

Interest Expense

Interest expense for the third quarter and year-to-date periods of fiscal 2009 was down 4.7 percent and 11.6 percent, respectively, compared to the same periods in the prior fiscal year as a result of lower average short-term debt levels and a decline in average interest rates.

Other (Expense) Income, Net

Other expense, net for the third quarter of fiscal 2009 increased by $3.7 million compared to the third quarter of fiscal 2008. This increase in other expense was due mainly to expenses of $5.0 million in the aggregate for several legal matters and a decline in interest income of $0.2 million. Somewhat offsetting those increases in other expense was a decline in foreign currency exchange rate losses of $1.3 million. For the year-to-date period of fiscal 2009, we incurred $1.7 million of other expense compared to $0.5 million of other income for the year-to-date period of fiscal 2008 due to the same reasons mentioned in the quarter comparison.

Provision for Income Taxes

The effective tax rate for the third quarter of fiscal 2009 was 36.6 percent compared to 34.2 percent for the third quarter of fiscal 2008. The effective tax rate for the year-to-date periods of fiscal 2009 and 2008 was 34.9 percent compared to 34.8 percent, respectively. The realization of deferred tax assets is assessed and a valuation allowance is recorded to the extent it is more likely than not that any portion of the deferred tax asset will not be recognized. The increase in the effective tax rate was due to a valuation allowance of $1.4 million for foreign subsidiaries' net operating loss carry-forwards and other deferred tax assets reflecting the uncertainty over their future realization. This increase was somewhat offset by the reinstatement of the domestic research and development tax credit.

BUSINESS SEGMENTS

As described previously, we operate in three reportable business segments:
professional, residential, and distribution. A company-owned domestic distributorship, which consists of our distribution segment, has been combined with our corporate activities and financing functions that is shown as "Other" in the following tables. Operating earnings for our professional and residential

segments are defined as earnings from operations plus other income, net. Operating loss for "Other" includes earnings (loss) from operations, corporate activities, including corporate financing activities, other income, net, and interest expense.
The following table summarizes net sales by segment:

                                                              Three Months Ended
(Dollars in thousands)                      July 31,        August 1,
                                              2009            2008          $ Change       % Change
Professional                               $   260,884     $   359,070     $  (98,186 )        (27.3 )%
Residential                                    126,181         124,671          1,510            1.2
Other                                            7,794           8,894         (1,100 )        (12.4 )
Total *                                    $   394,859     $   492,635     $  (97,776 )        (19.8 )%

* Includes international sales of:         $   110,773     $   138,682     $  (27,909 )        (20.1 )%

                                                               Nine Months Ended
(Dollars in thousands)                       July 31,       August 1,
                                               2009            2008         $ Change       % Change
Professional                               $   800,630     $ 1,092,767     $ (292,137 )        (26.7 )%
Residential                                    416,762         423,545         (6,783 )         (1.6 )
Other                                           17,491          20,632         (3,141 )        (15.2 )
Total *                                    $ 1,234,883     $ 1,536,944     $ (302,061 )        (19.7 )%

* Includes international sales of:         $   389,004     $   494,909     $ (105,905 )        (21.4 )%

The following table summarizes operating earnings (loss) before income taxes by segment:

                                          Three Months Ended
(Dollars in thousands)   July 31,      August 1,
                           2009           2008        $ Change       % Change
Professional             $  39,436     $   71,179     $ (31,743 )        (44.6 )%
Residential                 10,701          3,370         7,331          217.5
Other                      (18,967 )      (16,496 )      (2,471 )        (15.0 )
Total                    $  31,170     $   58,053     $ (26,883 )        (46.3 )%

                                           Nine Months Ended
(Dollars in thousands)   July 31,      August 1,
                            2009           2008       $ Change       % Change
Professional             $ 126,424     $  219,639     $ (93,215 )        (42.4 )%
Residential                 32,122         27,933         4,189           15.0
Other                      (61,166 )      (64,078 )       2,912            4.5
Total                    $  97,380     $  183,494     $ (86,114 )        (46.9 )%

Professional

Net Sales. Worldwide net sales for the professional segment in the third quarter and year-to-date periods of fiscal 2009 were down 27.3 percent and 26.7 percent, respectively, compared to the same periods last fiscal year. Shipments declined for most domestic and international product categories due to decreased demand and customers' reluctance to place stocking orders as a result of the continued worldwide recessionary economic conditions. Domestic field inventory levels were also down as of the end of the third quarter of fiscal 2009 compared to the end of the third quarter of fiscal 2008 as a result of continued focus and improved field inventory management during this economic downturn. Worldwide sales of golf maintenance equipment and irrigation systems were significantly down as customers delayed investments in new equipment at existing golf courses and new golf course construction slowed. In addition, sales of professionally installed residential/commercial irrigation systems were down due to decreased demand largely as a result of ongoing weakness in the housing and commercial construction markets.

Sales of landscape contractor equipment were also down due to the recessionary economic conditions, but were somewhat offset by positive customer response to new product introductions.

Operating Earnings. Operating earnings for the professional segment in the third quarter and year-to-date periods of fiscal 2009 decreased 44.6 percent and 42.4 percent, respectively, compared to the same periods last fiscal year. Expressed as a percentage of net sales, professional segment operating margin decreased to 15.2 percent compared to 19.8 percent in the third quarter of fiscal 2008, and the fiscal 2009 year-to-date professional segment operating margin decreased to 15.8 percent compared to 20.1 percent from the same period last fiscal year. These profit declines were primarily attributable to lower gross profit due to the same factors discussed previously in the Gross Profit section of this MD&A. Higher SG&A expense as a percentage of net sales also adversely affected operating earnings, which was due mainly to fixed SG&A costs spread over lower sales volumes.

Residential

Net Sales. Worldwide net sales for the residential segment in the third quarter of fiscal 2009 increased slightly by 1.2 percent compared to the third quarter of fiscal 2008. However, net sales for the residential segment were slightly down by 1.6 percent for the year-to-date period of fiscal 2009 compared to the same period last fiscal year. Shipments of walk power mowers increased as a result of additional product placement at a key retailer for a new and broader line of walk power mowers. Sales of riding products were also up for the third quarter of fiscal 2009 compared to the third quarter of fiscal 2008 as a result of increased demand and customer acceptance for a new line of zero-turn radius riding mowers. However, riding product sales were down for the year-to-date period of fiscal 2009 compared to the same period in the prior fiscal year. Sales of snow thrower products were down for the third quarter and year-to-date periods of fiscal 2009 compared to the same periods in the prior fiscal year due to the timing of the introduction for a new redesigned offering of snow thrower products that are anticipated to ship in the fourth calendar quarter of 2009.

Operating Earnings. Operating earnings for the residential segment in the third quarter and year-to-date periods of fiscal 2009 increased by $7.3 million, or 217.5 percent, and $4.2 million, or 15.0 percent, respectively, compared to the same periods last fiscal year. Expressed as a percentage of net sales, residential segment operating margin increased to 8.5 percent compared to 2.7 percent in the third quarter of fiscal 2008, and fiscal 2009 year-to-date residential segment operating margin increased to 7.7 percent compared to 6.6 percent last fiscal year. These profit improvements were primarily attributable to lower SG&A expense from a decline in spending for marketing, engineering, and warehousing as a result of budget reductions. In addition, residential segment gross profit for the third quarter of fiscal 2009 increased compared to the third quarter of fiscal 2008 as a result of lower commodity costs, and a decrease in freight expense. However, gross profit for the year-to-date period of fiscal 2009 was down compared to the same period last year due mainly to higher average commodity costs in the first half of fiscal 2009 compared to the first half of fiscal 2008 and unfavorable product mix.

Other

Net Sales. Net sales for the other segment include sales from our wholly owned domestic distribution company less sales from the professional and residential segments to that distribution company. In addition, elimination of the professional and residential segments' floor plan interest costs from Toro Credit Company are also included in this segment. Net sales for the other segment were down for the third quarter and year-to-date periods of fiscal 2009 compared to the same periods last fiscal year by $1.1 million, or 12.4 percent, and $3.1 million, or 15.2 percent, respectively, as a result of reduced demand due to the domestic economic recession, as well as a reduction in the elimination of floor plan interest costs as a result of lower receivables with Toro Credit Company and a reduction in interest rates.

Operating Losses. Operating losses for the other segment were up by $2.5 million, or 15.0 percent for the third quarter of fiscal 2009 compared to the third quarter of fiscal 2008. However, operating losses for the other segment were down by $2.9 million, or 4.5 percent, for the year-to-date period of fiscal 2009 compared to the same period last fiscal year. The operating loss increase for the third quarter comparison was primarily attributable to several legal matters and costs incurred for workforce adjustments. Somewhat offsetting those factors were: (i) overall reduced spending in response to the economic downturn;
(ii) foreign currency exchange rate gains this year compared to foreign currency exchange rate losses last year; and (iii) decreased interest expense, as previously discussed. For the year-to-date period of fiscal 2009 compared to the year-to-date period of fiscal 2008, the decrease in the other segment operating loss was also attributable to a decline in profit sharing and incentive compensation expense.

FINANCIAL POSITION

Working Capital

We have taken proactive measures to help us manage through the tough economic environment that continued to persist through the third quarter of fiscal 2009, including adjusting production plans, controlling costs, and managing our assets. As such, our financial condition remains strong. We continue to place additional emphasis on asset management with our GrowLean initiative, with a focus on minimizing the amount of working capital in the supply chain and maintaining or improving order replenishment and service levels to end users. In connection with our recently established joint venture with TCFIF, we expect to sell to the joint venture certain inventory receivables, including floor plan receivables and open account receivables, from certain U.S. and Canadian distributors and dealers of our products, and certain related assets, at a purchase price equal to the face value of the receivables or the purchase price paid for such receivables. The sale of these receivables will free up our working capital for other purposes, such as strategic acquisitions, research and development of innovative new products, improvements in the quality and performance of existing products, and general corporate purposes. It is expected that such receivables and related assets will be sold to the joint venture in more than one transaction. The first transaction is expected to occur during our fourth quarter of fiscal 2009. A second transaction is expected to occur during our first quarter of fiscal 2010.
Receivables as of the end of the third quarter of fiscal 2009 were down 26.1 percent compared to the end of the third quarter of fiscal 2008 due in part to the decrease in net sales. Our average day's sales outstanding for receivables improved to 67 days based on sales for the last twelve months ended July 31, 2009, compared to 69 days for the twelve months ended August 1, 2008. Inventory was also down as of the end of the third quarter of fiscal 2009 by 24.2 percent compared to the end of the third quarter of fiscal 2008, and average inventory turnover improved 8.7 percent for the twelve months ended July 31, 2009 compared to the twelve months ended August 1, 2008.
On July 21, 2009, our Board of Directors authorized the repurchase of an additional 5,000,000 shares of our common stock in open-market or in privately negotiated transactions. This program has no expiration date but may be terminated by our Board of Directors at any time.

Liquidity and Capital Resources

Our businesses are seasonally working capital intensive and require funding for purchases of raw materials used in production, replacement parts inventory, payroll and other administrative costs, capital expenditures, expansion and upgrading of existing facilities, as well as for financing receivables from customers. We believe that cash generated from operations, together with our fixed rate long-term debt, bank credit lines, and cash on hand, will provide us with adequate liquidity to meet our anticipated operating requirements. One of the purposes of establishing the joint venture with TCFIF, as previously . . .