FORM 10-Q

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Quarterly Report Under Section 13 or 15 (d)
of the Securities Exchange Act of 1934

For Quarter Ended June 30, 2004

Commission File No. 1-16191

TENNANT COMPANY

Incorporated in Minnesota

IRS Emp Id No. 410572550

701 North Lilac Drive

P.O. Box 1452

Minneapolis, Minnesota 55440

Telephone No. 763-540-1200

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes ý No o

The number of shares outstanding of Registrant’s common stock, par value $.375 on July 30, 2004, was .

TENNANT COMPANY

Quarterly Report – Form 10-Q

ITEM 1 – Financial Statements

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)

(In thousands, except per share data)

	Three Months Ended June 30						Six Months Ended June 30
	2004			2003			2004			2003

Net sales	$	128,790		$	110,772		$	247,892		$	223,909
Cost of sales	77,688			65,632			148,773			134,950
Gross profit	51,102			45,140			99,119			88,959
Operating expense:
Research and development expenses	4,370			4,228			8,424			8,408
Selling and administrative expenses	40,249			35,392			79,920			70,861
Total operating expenses	44,619			39,620			88,344			79,269

Profit from operations	6,483			5,520			10,775			9,690

Interest income, net	11			192			99			314
Other expense, net	(432		)	(330		)	(404		)	(326		)

Profit before income taxes	6,062			5,382			10,470			9,678
Income tax expense	2,337			2,146			4,188			3,896

Net earnings	$	3,725		$	3,236		$	6,282		$	5,782


Per share:

Basic earnings	$	0.41		$	0.36		$	0.70		$	0.64
Diluted earnings	$	0.41		$	0.36		$	0.69		$	0.64
Dividends	$	0.21		$	0.21		$	0.42		$	0.42

Weighted average number of shares:

Basic	9,002			8,966			9,008			8,971
Diluted	9,152			9,000			9,167			9,006

See accompanying Notes to Condensed Consolidated Financial Statements.

TENNANT COMPANY

Quarterly Report – Form 10-Q

CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)

(In thousands)

	June 30, 2004			December 31, 2003

ASSETS

Cash and cash equivalents	$	20,898		$	24,587
Receivables, less allowances of $5,433 and $5,545 respectively	88,147			85,640
Inventories	52,249			54,682
Prepaid expenses	2,854			2,494
Deferred income taxes, current portion	8,235			8,967
Total current assets	172,383			176,370

Property, plant and equipment, net	62,547			61,121
Deferred income taxes, long-term portion	1,774			1,609
Goodwill	23,415			17,812
Other intangibles, net	1,490			—
Other assets	3,639			1,961
Total assets	$	265,248		$	258,873

LIABILITIES & SHAREHOLDERS’ EQUITY

LIABILITIES

Current debt and collateralized borrowings	$	7,847		$	1,030
Accounts payable, accrued expenses and deferred revenues	60,153			58,477
Total current liabilities	68,000			59,507

Long-term debt	1,649			6,295
Long-term employee-related benefits	28,221			27,455
Total liabilities	97,870			93,257

SHAREHOLDERS’ EQUITY

Common stock	3,386			3,385
Additional paid-in capital	301			355
Unearned restricted shares	(508		)	(551		)
Retained earnings	170,682			168,180
Accumulated other comprehensive loss	(933		)	(338		)
Receivable from ESOP	(5,550		)	(5,415		)
Total shareholders’ equity	167,378			165,616
Total liabilities and shareholders’ equity	$	265,248		$	258,873

See accompanying Notes to Condensed Consolidated Financial Statements.

TENNANT COMPANY

Quarterly Report – Form 10-Q

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

(In thousands)

	Six Months Ended June 30
	2004			2003

CASH FLOWS RELATED TO OPERATING ACTIVITIES:
Net earnings	$	6,282		$	5,782

Adjustments to net earnings to arrive at operating cash flows:
Depreciation and amortization	6,346			7,091
Deferred tax expense	282			—
Changes in operating assets and liabilities:
Accounts receivable	(150		)	746
Inventory	4,011			2,740
Accounts payable, accrued expenses and deferred revenue	(1,306		)	(6,917		)
Other current/noncurrent assets and liabilities	478			1,096
Other, net	512			(2,865		)
Net cash flows related to operating activities	16,455			7,673

CASH FLOWS RELATED TO INVESTING ACTIVITIES:
Acquisition of property, plant and equipment	(8,106		)	(4,958		)
Acquisition of Walter-Broadley, net	(6,491		)	—
Proceeds from disposals of property, plant and equipment	1,025			2,667
Net cash flows related to investing activities	(13,572		)	(2,291		)

CASH FLOWS RELATED TO FINANCING ACTIVITIES:
Net changes in short-term borrowings	(193		)	(2,855		)
Payments of long-term debt	—			(5,000		)
Payment of assumed Walter-Broadley debt	(2,516		)	—
Proceeds from issuance of common stock	739			334
Purchases of common stock	(1,211		)	(1,825		)
Dividends paid	(3,780		)	(3,762		)
Net cash flows related to financing activities	(6,961		)	(13,108		)

Effect of exchange rate changes on cash and cash equivalents	389			80

Net decrease in cash and cash equivalents	(3,689		)	(7,646		)

Cash and cash equivalents at beginning of year	24,587			16,356

Cash and cash equivalents at end of period	$	20,898		$	8,710

SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND FINANCING ACTIVITIES

Collateralized borrowings incurred for operating lease equipment	$	600		$	—

See accompanying Notes to Condensed Consolidated Financial Statements.

TENNANT COMPANY

Quarterly Report – Form 10-Q

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

(In thousands, except per share data)

(1) Basis of Presentation

Tennant Company is referred to as “Tennant,” “us,” “we,” or “our” in these notes to the condensed consolidated financial statements.

In our opinion, the accompanying unaudited, condensed consolidated financial statements contain all adjustments (consisting of only normal recurring adjustments, except as noted elsewhere in the notes to the condensed consolidated financial statements) necessary to present fairly our financial position as of June 30, 2004, the results of our operations for the three and six months ended June 30, 2004 and 2003 and our cash flows for the six months ended June 30, 2004 and 2003. These statements are condensed and, therefore, do not include all of the information and note disclosures required by accounting principles generally accepted in the United States of America for complete financial statements. The statements should be read in conjunction with the consolidated financial statements and notes included in our Annual Report on Form 10-K for the year ended December 31, 2003. The results of operations for the three and six months ended June 30, 2004 are not necessarily indicative of the results to be expected for the full year.

Certain prior year amounts have been reclassified to conform with current year presentation.

(2) Unusual Items

During the first quarter of 2003, we amended the agreement with our U.S. third-party lessor. Prior to this amendment, the agreement contained a retained ownership risk provision that precluded revenue recognition at the time of shipment for equipment sales to the third-party lessor that were considered operating leases. The amendment eliminated the retained ownership risk provision and was retroactive to the beginning of the agreement. This resulted in the recognition of previously deferred revenue of $6,430 in first quarter of 2003, increasing net earnings by $1,796 or $0.20 per diluted share and also resulted in revenue recognition at the time of shipment for U.S. equipment sales under this agreement.

In March 2000, we entered into a joint venture with an unrelated third party to develop and market a new product. During the first quarter of 2003, Tennant and our joint-venture partner agreed to dissolve the joint venture and we decided to permanently discontinue manufacturing the product and to abandon the plan to utilize the related purchased technology. As a result of the joint-venture dissolution, we recorded after-tax charges totaling $1,215 or $0.14 per diluted share in the first quarter of 2003 related to the write-off of accounts receivable, inventory, intangible assets and the establishment of accruals for certain contractual obligations.

TENNANT COMPANY

Quarterly Report – Form 10-Q

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

(In thousands, except per share data)

(3) Inventories

Inventories are valued at the lower of cost (principally on a last-in, first-out basis) or market. Inventories at June 30, 2004 and December 31, 2003 consisted of the following:

	June 30, 2004			December 31, 2003

FIFO Inventories:
Finished goods	$	34,016		$	38,639
Raw materials, parts and work-in-process	39,028			37,179
Total FIFO inventories	73,044			75,818
LIFO reserve	(20,795		)	(21,136		)
LIFO inventories	$	52,249		$	54,682

The LIFO reserve approximates the difference between LIFO carrying cost and replacement cost.

(4) Supplemental Cash Flow Information

Income taxes paid during the six months ended June 30, 2004 and 2003 were $611 and $1,948, respectively. Interest costs paid during the six months ended June 30, 2004 and 2003 were $572 and $445, respectively.

(5) Comprehensive Income

We report accumulated other comprehensive income as a separate item in the shareholders’ equity section of the balance sheet. Comprehensive income is comprised of the net earnings and other comprehensive income (loss). Other comprehensive income (loss) consists solely of foreign currency translation adjustments. The reconciliations of net earnings to comprehensive income are as follows:

	Three Months Ended June 30					Six Months Ended June 30
	2004			2003		2004			2003
Net earnings	$	3,725		$	3,236	$	6,282		$	5,782
Foreign currency translation adjustments	(360		)	988		(595		)	1,473
Comprehensive income	$	3,365		$	4,224	$	5,687		$	7,255

TENNANT COMPANY

Quarterly Report – Form 10-Q

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

(In thousands, except per share data)

(6) Earnings Per Share Computation

	Three Months Ended June 30				Six Months Ended June 30
	2004		2003		2004		2003
Weighted average shares outstanding – Basic	9,002		8,966		9,008		8,971

Dilutive share equivalents	150		34		159		35

Weighted average shares outstanding – Diluted	9,152		9,000		9,167		9,006

Net earnings	$	3,725	$	3,236	$	6,282	$	5,782

Earnings per share – Basic	$	0.41	$	0.36	$	0.70	$	0.64

Earnings per share – Diluted	$	0.41	$	0.36	$	0.69	$	0.64

(7) Segment Reporting

We operate in one industry segment that consists of the design, manufacture and sale of products used primarily in the maintenance of nonresidential surfaces. The following table sets forth net sales by geographic area:

	Three Months Ended June 30				Six Months Ended June 30
	2004		2003		2004		2003
Geographical Net Sales(1)
North America	$	87,772	$	78,082	$	166,638	$	159,265
Europe	28,734		20,994		57,269		42,755
Other International	12,284		11,696		23,985		21,889
Total	$	128,790	$	110,772	$	247,892	$	223,909

(1) Net of intercompany sales.

TENNANT COMPANY

Quarterly Report – Form 10-Q

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

(In thousands, except per share data)

(8) Goodwill and Intangible Assets

The components of goodwill and other intangible assets are as follows:

	Goodwill			Other Intangibles
Balance, December 31, 2003	$	17,812		$	—

Additions	5,828			1,522
Amortization expense	—			(11		)
Foreign currency fluctuations	(225		)	(21		)
Balance, June 30, 2004	$	23,415		$	1,490

The additions to goodwill and other intangible assets during the first six months of 2004 were based on the purchase price allocation of the Walter-Broadley acquisition in January 2004, as discussed in Note 12 to the Condensed Consolidated Financial Statements. These other intangible assets, consisting of customer lists and the trade name, will be amortized over useful lives ranging from 4 to 20 years, based on the provisions of SFAS No. 142, “Goodwill and Other Intangible Assets.”

(9) Stock-Based Compensation

We account for stock-based compensation for employees under Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees”. APB No. 25 requires compensation cost to be recorded on the date of the grant only if the current market price of the underlying stock exceeds the exercise price. Accordingly, no compensation cost has been recognized for stock option plans. At June 30, 2004, we had six stock-based employee compensation plans, which are described in Note 13 of the 2003 Annual Report on Form 10-K.

We have adopted the disclosure-only provisions of SFAS 148, “Accounting for Stock-Based Compensation – Transition and Disclosure” (“SFAS 148”). SFAS 148 amends the disclosure requirements of SFAS 123, “Accounting for Stock-Based Compensation” (“SFAS 123”). In accordance with SFAS 123, the fair value of options at the date of grant is estimated using the Black-Scholes option pricing model with the following assumptions:

	2004		2003
Expected life in years	7		7
Risk-free interest rate	3.5	%	3.6	%
Expected volatility	32.0	%	25.0	%
Expected dividend yield	2.3	%	2.3	%

TENNANT COMPANY

Quarterly Report – Form 10-Q

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

(In thousands, except per share data)

Had stock-based compensation cost been determined using the fair value-based method of accounting under SFAS 123, net earnings would have been reduced to the pro forma amounts indicated below:

	Three Months Ended June 30						Six Months Ended June 30
	2004			2003			2004			2003

Net earnings – as reported	$	3,725		$	3,236		$	6,282		$	5,782
Deduct: Total stock-based employee compensation expense determined under fair value-based method for all awards, net of related tax effects	(337		)	(219		)	(653		)	(457		)
Net earnings – pro forma	$	3,388		$	3,017		$	5,629		$	5,325

Earnings per share:
Basic – as reported	$	0.41		$	0.36		$	0.70		$	0.64
Basic – pro forma	$	0.38		$	0.34		$	0.62		$	0.59

Diluted – as reported	$	0.41		$	0.36		$	0.69		$	0.64
Diluted – pro forma	$	0.37		$	0.34		$	0.61		$	0.59

(10) Warranty Reserves

We record a liability for warranty claims at the time of sale. The amount of the liability is based on the trend in the historical ratio of claims to sales, the historical length of time between the sale and resulting warranty claim, anticipated releases of new products and other factors. Warranty terms on machines range from one to four years. The changes in warranty reserve balances for the six months ended June 30, 2004 and 2003 were as follows:

	June 30, 2004			June 30, 2003
Beginning balance	$	6,018		$	4,519
Additions charged to expense	3,794			4,048
Change in estimate	271			—
Claims paid	(3,652		)	(3,831		)
Ending balance	$	6,431		$	4,736

TENNANT COMPANY

Quarterly Report – Form 10-Q

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

(In thousands, except per share data)

(11) Retirement Benefit Plans

Tennant Company has contributed $184 during the second quarter and $396 for the first six months of 2004 to the postretirement medical benefit plan. We have contributed $28 during the second quarter and $56 for the first six months of 2004 to our supplemental benefit plan. We expect to contribute approximately $800 to the postretirement medical benefit plan and approximately $100 to the supplemental benefit plan during 2004. No contributions to the pension plan are expected to be required during 2004.

The components of the net periodic cost (benefit) for the three and six months ended June 30, 2004 and 2003 were as follows:

	Three Months Ended June 30						Six Months Ended June 30
	2004			2003			2004			2003

Pension Benefits:

Service cost	$	213		$	214		$	443		$	428
Interest cost	422			390			836			780
Expected return on plan assets	(651		)	(623		)	(1,300		)	(1,246		)
Recognized actuarial gain	(176		)	(195		)	(297		)	(390		)
Amortization of transition obligation	(5		)	(6		)	(11		)	(11		)
Amortization of prior service cost	142			143			285			285
Net periodic benefit	$	(55	)	$	(77	)	$	(44	)	$	(154	)

Postretirement Medical Benefits:

Service cost	$	134		$	99		$	236		$	198
Interest cost	344			252			606			505
Recognized actuarial loss	—			3			—			5
Net periodic cost	$	478		$	354		$	842		$	708

TENNANT COMPANY

Quarterly Report – Form 10-Q

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

(In thousands, except per share data)

(12) Walter-Broadley Acquisition

In January 2004, we acquired Walter-Broadley Machines Limited, a cleaning equipment company based in the United Kingdom, with annual sales of approximately $13 million. We paid $6,491 in the form of cash and debt, subject to certain post-closing adjustments, for all of the stock of Walter-Broadley and assumed $2,576 in outstanding debt, of which $2,516 was immediately retired. The acquisition significantly increases our customer base and service coverage in the United Kingdom. The acquisition is not material to our operations or financial position. The operations of Walter-Broadley have been included in our results of operations since the date of the acquisition. A preliminary allocation of the purchase price to assets acquired and liabilities assumed has been recorded as of June 30, 2004. The purchase price allocation may change for up to one-year subsequent to the acquisition date. The purchase price allocation may be adjusted based on the final determination of the fair value of assets acquired and liabilities assumed and post closing adjustments. These adjustments are not expected to be material. The components of the purchase price based upon our preliminary purchase price allocation are as follows:

Net tangible assets acquired	$	1,717
Debt assumed	(2,576		)
Identifiable intangible assets	1,522
Goodwill	5,828
	$	6,491

TENNANT COMPANY

Quarterly Report – Form 10-Q

ITEM 2 - Management’s Discussion and Analysis of Financial Condition and Results of Operations

Financial Overview

During the second quarter 2004, net earnings increased 15.1% to $3.7 million or $0.41 per diluted share compared to the same period in 2003. Net earnings were impacted by:

• The direct favorable foreign currency exchange impact on net earnings of approximately $0.7 million or $0.08 per dilutive share.

• A dilutive impact of $0.05 resulting from the acquisition of Walter-Broadley.

• Growth in net sales of 16.3% to $128.8 million driven by growth in North America and Europe. The acquisition of Walter-Broadley contributed about 2% to net sales while foreign exchange added approximately 2%.

• A decline in gross profit margins of 1.1% to 39.7% primarily due to increases in steel costs and a write-down of slow moving and excess inventory.

• An increase in selling and administrative (S&A) expenses of $4.9 million or 13.7% to $40.2 million primarily due to increases in performance-based incentive compensation expense as well as marketing, health care and corporate governance costs. In addition, the Walter-Broadley acquisition increased S&A expenses by $0.9 million while foreign currency effects added $0.8 million.

For the six months ended June 30, 2004, net earnings increased 8.6% to $6.3 million or $0.69 per diluted share compared to the same period in 2003. Net earnings were impacted by:

• The direct favorable foreign currency exchange impact on net earnings of approximately $1.7 million or $0.18 per dilutive share.

• A dilutive impact of $0.08 resulting from the acquisition of Walter-Broadley.

• Growth in net sales of 10.7% to $247.9 million driven by sales increases in North America and Europe. The acquisition of Walter-Broadley contributed about 2% to net sales while foreign exchange added approximately 4%.

• An increase in S&A expenses of $9.1 million or 12.8% to $79.9 million partially resulting from foreign currency exchange effects of $2.5 million. The remaining increase is primarily due to an increase in performance-based incentive compensation expense and increased expenses resulting from the Walter-Broadley acquisition.

The six-month period ended June 30, 2003 included two unusual items, which contributed net earnings of $0.06 per diluted share to the six-month period. T he recognition of previously deferred revenue of $6.4 million in 2003 increased net earnings by $1.8 million after-tax ($2.9 million pre-tax) or $0.20 per diluted share and also resulted in revenue recognition at the time of shipment for U.S. equipment sales under this agreement. In addition, a charge totaling $1.2 million after-tax ($2.0 million pre-tax) or $0.14 per diluted share was recognized during the first six months of 2003 resulting from the decision to dissolve a joint venture with an unrelated third party.

During the second quarter and first six months of 2004, our results were favorably impacted by weakness of the U.S. dollar against the Euro, the Australian and Canadian dollars, the British pound and the Japanese yen. We can estimate the direct financial impact of foreign currency exchange on net sales and earnings; however, it is difficult to estimate the indirect financial impact.

TENNANT COMPANY

Quarterly Report – Form 10-Q

The indirect financial impact would include such factors as the effect on sales volumes within local economies and the impact of pricing actions taken as a result of foreign exchange rate fluctuations. We expect that our sales and earnings will continue to be impacted by the effects of foreign currency exchange rate fluctuations in the future. If the applicable exchange rates continue to remain strong relative to the 2003 value of the U.S. dollar, the related effect on our results would continue to be favorable in 2004.

In January 2004, we acquired Walter-Broadley Machines Limited, a cleaning equipment company based in the United Kingdom, with annual sales of approximately $13 million, as discussed in Note 12 to the Condensed Consolidated Financial Statements. We paid $6.5 million in the form cash and debt, subject to certain post-closing adjustments, for all of the stock of Walter-Broadley and assumed $2.6 million in outstanding debt, of which $2.5 million was immediately retired. The acquisition significantly increases our customer base and service coverage in the United Kingdom. The acquisition had a dilutive impact of approximately $0.08 during the first six months of 2004 resulting from certain integration costs and a short-term impact on gross profit margins related to purchase accounting, which are substantially complete.

Historical Results

The following compares the historical results of operations for the three- and six-month periods ended June 30, 2004 and 2003 in dollars and as a percentage of net sales (dollars in thousands, except earnings per diluted share):

	Three Months Ended June 30						Six Months Ended June 30
	2004		%	2003		%	2004		%	2003		%
Net sales	$	128,790	100.0	$	110,772	100.0	$	247,892	100.0	$	223,909	100.0
Cost of sales	77,688		60.2	65,632		59.2	148,773		60.0	134,950		60.3
Gross profit	51,102		39.7	45,140		40.8	99,119		40.0	88,959		39.7
Research and development expenses	4,370		3.4	4,228		3.8	8,424		3.4	8,408		3.8
Selling and administrative expenses	40,249		31.3	35,392		32.0	79,920		32.2	70,861		31.6
Profit from operations	6,483		5.0	5,520		5.0	10,775		4.3	9,690		4.3
Interest income, net	11		—	192		0.2	99		—	314		0.1
Other expense, net	432		0.3	330		0.3	404		0.2	326		0.1
Profit before income taxes	6,062		4.7	5,382		4.9	10,470		4.2	9,678		4.3
Income tax expense	2,337		1.8	2,146		1.9	4,188		1.7	3,896		1.7
Net earnings	$	3,725	2.9	$	3,236	2.9	$	6,282	2.5	$	5,782	2.6
Earnings per diluted share	$	0.41	—	$	0.36	—	$	0.69	—	$	0.64	—

TENNANT COMPANY

Quarterly Report – Form 10-Q

Net Sales

Consolidated net sales of $128.8 million for the second quarter 2004 increased 16.3% compared to second quarter 2003 sales of $110.8 million. The increase in net sales for the quarter was driven by sales growth in North America and Europe. In addition, the acquisition of Walter-Broadley in January 2004 increased net sales in the second quarter by approximately 2%. Positive direct foreign currency exchange fluctuations, resulting primarily from a weakened U.S. dollar compared to the Euro, Japanese yen, British pound sterling and Canadian and Australian dollars increased net sales by approximately 2% in the 2004 second quarter.

Consolidated net sales of $247.9 million for the six months ended June 30, 2004 increased 10.7% compared $223.9 million in 2003. Positive direct foreign currency exchange fluctuations increased net sales by approximately 4% for the six months ended June 30, 2004. The acquisition of Walter-Broadley increased net sales by approximately 2%. The remaining increase was a result of sales growth in all geographic areas. Net sales for the first six months of 2003 included the one-time recognition of $6.4 million in previously deferred revenue in the first quarter of 2003, as discussed in Note 2 to the Condensed Consolidated Financial Statements.

The following table sets forth the net sales by geographic area for the three- and six-month periods ending June 30, 2004 and 2003 and the percentage change from the prior year (dollars in thousands):

	Three Months Ended June 30					Six Months Ended June 30
	2004		2003		%	2004		2003		%
North America	$	87,772	$	78,082	12.4	$	166,638	$	159,265	4.6
Europe	28,734		20,994		36.9	57,269		42,755		33.9
Other International	12,284		11,696		5.0	23,985		21,889		9.6
Total Net Sales	$	128,790	$	110,772	16.3	$	247,892	$	223,909	10.7

NORTH AMERICA - North American sales for the 2004 second quarter increased 12.4% to $87.8 million compared with $78.1 million in 2003. Growth in second quarter sales was driven by strong equipment sales resulting from the continued economic recovery in North America and new product introductions during the quarter as well as growth in aftermarket parts and service compared to the same period last year.

North American sales for the six months ending June 30, 2004 increased 4.6% to $166.6 million compared with $159.3 million in 2003. Growth in year-to-date sales was driven by increases in equipment sales resulting from the continued economic recovery in North America as well as growth in aftermarket parts and service compared to the same period last year. Positive direct foreign currency translation effects contributed approximately 1% to North American sales growth in the first six months of 2004. In addition, the first six months of 2003 included the one-time recognition of $6.4 million of previously deferred revenue discussed in Note 2 to the Condensed Consolida ted Financial Statements.

TENNANT COMPANY

Quarterly Report – Form 10-Q

EUROPE - In Europe, net sales for the 2004 second quarter increased 36.9% to $28.7 million versus the comparable 2003 period. The acquisition of Walter-Broadley in January 2004 added 13% to Europe’s second quarter sales growth. Positive direct foreign currency translation effects increased European net sales by approximately 9% in the 2004 second quarter. The remaining increase was due to sales growth resulting in part from our expanded sales and service coverage in selected countries.

Europe’s net sales for the six months ended June 30, 2004 increased 33.9% to $57.3 million versus the comparable 2003 period. The acquisition of Walter-Broadley in January 2004 added 13% to Europe’s year-to-date sales growth. Positive direct foreign currency translation effects increased European net sales by approximately 13% during the first six months of 2004. The shipment of a large order to a new European customer, primarily in the first quarter of 2004, contributed approximately 10% to Europe’s year-to-date sales growth.

OTHER INTERNATIONAL - In other international markets, sales for the second quarter of 2004 totaled $12.3 million, up 5.0% from the 2003 second quarter. Positive direct foreign currency translation effects increased sales in other international markets by approximately 6% in the 2004 second quarter. Second quarter 2004 sales increases in Australia and Asia were offset by weaker demand in Latin America and the Middle East during the quarter.

Sales in other international markets for the six months ended June 30, 2004 totaled $24.0 million, up 9.6% from the same period in 2003. Positive direct foreign currency translation effects increased sales in other international markets by approximately 8% in the first six months of 2004. The remaining increase resulted from stronger sales in several international markets including Asia and Australia.

Gross Profit

Gross profit margin was 39.7% for the second quarter of 2004 compared with 40.8% reported in 2003. The decline in gross margin was partially attributable to increases in steel costs during the quarter. A selling price surcharge on certain products was implemented during the second quarter, which partially offset the impact of the increased steel costs. In addition, gross profit margins were impacted by a write-down of slow moving and excess inventory during the quarter resulting from an ongoing comprehensive analysis of inventory levels.

Gross profit margin was 40.0% for the first six months of 2004 compared with 39.7% reported in 2003. The slight increase in gross profit margins on a year-to-date basis is primarily attributed to a shift in the mix of products sold between periods and foreign currency exchange effects.

Operating Expenses

S&A expenses in the second quarter 2004 increased 13.7% to $40.2 million from $35.4 million in 2003. Approximately $0.8 million is due to foreign currency exchange effects. The Walter-Broadley acquisition contributed another $0.9 million to the increase. The remaining increase in S&A expenses is primarily attributable to an increase in performance-based incentive compensation expense, and an increase in marketing expenses to support in-depth market research and product launches scheduled for the second half of 2004. In addition, S&A expense was impacted by higher health care and corporate governance costs compared to the same quarter last year. S&A expense as a percentage of sales was 31.3%, down from 32.0% in the comparable quarter last year. The improvement as a percentage of sales is primarily driven by our ability to leverage sales growth.

TENNANT COMPANY

Quarterly Report – Form 10-Q

S&A expenses for the six months ended June 30, 2004 increased 12.8% to $79.9 million from $70.9 million in 2003. Approximately $2.5 million is due to foreign currency exchange effects. The Walter-Broadley acquisition contributed another $1.7 million to the increase. The remaining increase primarily reflects an increase in performance-based incentive compensation expense. S&A expense as a percentage of sales was 32.2%, up from 31.6% in the comparable period last year. This increase is primarily the result of $6.4 million of deferred revenue that was recognized as a result of the amendment of the agreement with our third-party lessor, for which there was no related S&A expense in the first quarter of 2003.

Income Taxes

The effective tax rates for the second quarter were 38.6% for 2004 and 39.9% for 2003. The decrease in the effective tax rate between quarters is primarily related to a one-time benefit resulting from the release of a valuation allowance on a foreign capital loss carryforward.

The year-to-date effective tax rates were 40.0% for 2004 and 40.3% for 2003. We expect the effective tax rate to be approximately 41-42% for the full year 2004. Our estimated effective tax rate for 2004 is based on current forecasts of full-year taxable earnings in domestic and foreign jurisdictions. The effective tax rate for the full year may be subject to change to the extent the forecasts change in total or by taxing jurisdiction or to the extent of changes in tax laws and regulations.

Liquidity and Capital Resources

The debt-to-total-capitalization ratio was 5.4% at June 30, 2004 versus 4.2% at December 31, 2003. Cash and cash equivalents totaled $20.9 million at June 30, 2004, compared to $24.6 million at December 31, 2003. We believe that the combination of cash, internally generated funds and available financing sources are more than sufficient to meet our cash requirements for the next year.

During the second quarter of 2004, we entered into a purchase commitment with a third-party manufacturer totaling $3.3 million through January 2005.

OPERATING ACTIVITIES - Operating activities provided $16.5 million of cash during the six months ended June 30, 2004. In the comparable 2003 period, operating activities provided cash of $7.7 million. The cash provided from operating activities for the six months ended June 30, 2004 was primarily driven by a reduction in inventories as well as growth in net earnings. The reduction in inventories resulted from our ongoing efforts to reduce inventory levels and the implementation of lean manufacturing principles. Inventory on Hand (DIOH) decreased 23 days to 89 days as of June 30, 2004 compared to the same period last year. For the six months ended June 30, 2003, cash provided by operations was impacted by payments of restructuring liabilities and a one-time royalty obligation.

INVESTING ACTIVITIES – In January 2004, we acquired all of the stock of Walter-Broadley for $6.5 million in the form of cash and debt, subject to certain post-closing adjustments as well as assuming $2.6 million in outstanding debt, of which $2.5 million was immediately retired. The cost of acquisition was paid for through cash and cash equivalents and funds provided by operations. Capital expenditures were $8.1 million during the first six months of 2004 compared to $5.0 million in the same period of 2003. The increase is primarily attributable to a significant capital project to install a new powder paint system, which is scheduled to be in service by the end of 2004. We currently anticipate full-year capital spending to be in the range of $18 to $23 million.

TENNANT COMPANY

Quarterly Report – Form 10-Q

FINANCING ACTIVITIES – During the first six months of 2004, $2.5 million in assumed Walter-Broadley debt was retired. During the first six months of 2003, significant uses of cash included a $5.0 million scheduled debt repayment and the pay down of short-term borrowings in Europe using the proceeds from the sale of office property in the UK.

Quantitative and Qualitative Disclosures About Market Risk and Other Matters

Our market risk includes the risk of adverse changes in foreign currency exchange rates. Direct foreign currency exchange fluctuations from a weak U.S. dollar increased earnings per diluted share by approximately $0.18 for the six months ended June 30, 2004 compared with the year-ago period. We could experience favorable or unfavorable foreign exchange effects for the remainder of 2004, compared with prior year results. Additional information on market risk is included in the Management’s Discussion and Analysis section of our Form 10-K filing for the year ended December 31, 2003.

We are subject to exposures resulting from potential price increases related to our purchases of raw materials or other product components. Recently, increased worldwide demand and other factors have caused prices for steel and related products to increase. Given the worldwide steel market conditions, we anticipate significant price increases in our steel-based raw materials and component parts in 2004. We purchase approximately $11 million of raw or fabricated steel annually and do not maintain an inventory of steel in excess of our near-term production requirements. We also purchase component parts that contain steel. We continue to focus on mitigating the impact of the anticipated steel price increases through product pricing and negotiations with our vendors. Successful mitigation of the impact will depend upon our ability to increase prices in a competitive market.

Management regularly reviews our business operations with the objective of improving financial performance and maximizing our return on investment. In this regard, we continue to consider actions to improve financial performance which, if taken, could result in material nonrecurring charges.

TENNANT COMPANY

Quarterly Report – Form 10-Q

Cautionary Statement Relevant to Forward-Looking Information

Certain statements contained in this document as well as other written and oral statements made by us from time to time are considered “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act. These statements do not relate to strictly historical or current facts and provide current expectations or forecasts of future events. Any such expectations or forecasts of future events are subject to a variety of factors. These include factors that affect all businesses operating in a global market as well as matters specific to us and the markets we serve. Particular risks and uncertainties presently facing us include:

• The potential for soft markets in certain regions, including North America, Asia, Latin America and Europe.

• Geo-political and economic uncertainty throughout the world.

• Changes in tax laws and regulations including the repeal of the foreign export benefit.

• Inflationary pressures.

• The potential for increased competition in our business.

• The relative strength of the U.S. dollar, which affects the cost of our products sold internationally.

• Fluctuations in the cost or availability of raw materials.

• The success and timing of new products.

• Projections of future financial and operating results.

• Successful integration of acquisitions.

• The ability to achieve operational efficiencies, including synergistic and other benefits of acquisitions.

• Our plans for growth.

We caution that forward-looking statements must be considered carefully and that actual results may differ in material ways due to risks and uncertainties both known and unknown. For additional information about factors that could materially affect our results, please see our other Securities and Exchange Commission filings. Shareholders, potential investors and other readers are urged to consider these factors in evaluating forward-looking statements and are cautioned not to place undue reliance on such forward-looking statements.

We do not undertake to update any forward-looking statement, and investors are advised to consult any further disclosures by us on this matter in our filings with the Securities and Exchange Commission and in other written statements we make from time to time. It is not possible to anticipate or foresee all risk factors, and investors should not consider that any list of such factors to be an exhaustive or complete list of all risks or uncertainties.

ITEM 4 – Controls and Procedures

(a) Evaluation of disclosure controls and procedures . Based on their evaluation as of the end of the period covered by this report, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”)) are effective to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms. Disclosure procedures only provide reasonable assurance that the controls will meet their objectives. There can be no assurance that the controls will be effective in all circumstances. Management believes disclosure controls and procedures are operating and effective at the reasonable assurance level.

TENNANT COMPANY

Quarterly Report – Form 10-Q

(b) Changes in internal controls . There were no changes in our internal controls over financial reporting during the most recently completed fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II - OTHER INFORMATION

ITEM 2 - Changes in Securities, and Use of Proceeds and Issuer Purchases of Equity Securities

(e) On May 3, 2001, Tennant Company announced the authorization to purchase up to 400,000 shares of our common stock. These share repurchases are made from time to time in the open market or through privately negotiated transactions, primarily to offset the dilutive effect of shares issued through our stock-based compensation programs.

For the Quarter Ended 6/30/2004	Total Number of Shares Purchased		Average Price Paid Per Share		Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs	Maximum Number of Shares that May Yet Be Purchased
April 1 – 30, 2004	352	(1)	$	41.90	—	92,063
May 1 – 31, 2004	16,124		$	37.55	16,124	75,939
June 1 – 30, 2004	—		—		—	75,939
Total	16,476		$	37.45	16,124	75,939

(1) Includes shares delivered or attested to in satisfaction of the exercise price and/or tax withholding obligations by employees who exercised stock options under employee stock compensation plans.

ITEM 4 - Submission of Matters to a Vote of Security Holders

Tennant Company held its Annual Meeting of Shareholders on May 6, 2004, for the purpose of electing two directors, ratifying the appointment of KPMG LLP as our independent auditors and transacting such other business as would properly come before the meeting. Results of shareholder voting on these matters were as follows:

	For	Withhold
1. Election of two Class III directors for a three year term expiring in 2007:
James T. Hale	8,013,656	518,977
Pamela K. Knous	7,992,541	540,092

		For		Against		Abstain		Broker Non-Vote
2. Ratify the appointment of KPMG LLP as independent auditors for the Company.		7,910,027		294,521		328,085		—

There were 9,011,788 shares of common stock entitled to vote at the meeting and a total of 8,532,634 shares (94.68%) were represented at the meeting.

TENNANT COMPANY

Quarterly Report – Form 10-Q

ITEM 6 - Exhibits and Reports on Form 8-K

(a) Exhibits

Item #	Description	Method of Filing

3i	Articles of Incorporation	Incorporated by reference to Exhibit 4.1 to our Registration Statement No. 33-62003, Form S-8, dated August 22, 1995.

3ii	By-Laws	Incorporated by reference to Exhibit 3ii to our Annual Report on Form 10-K for the fiscal year ended December 31, 1999.

10.3	Tennant Company Restricted Stock Plan for Nonemployee Directors (as amended and restated effective May 6, 2004)	Filed herewith electronically.

10.6	Tennant Company Non-Employee Director Stock Option Plan (as amended and restated effective May 6, 2004)	Filed herewith electronically.

31.1	Rule 13a-14(a)/15d-14(a) Certification of CEO	Filed herewith electronically.

31.2	Rule 13a-14(a)/15d-14(a) Certification of CFO	Filed herewith electronically.

32	Section 1350 Certifications	Filed herewith electronically.

(b) Reports on Form 8-K

Form 8-K, dated April 22, 2004, furnishing the news release for the company’s first quarter earnings announcement.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on our behalf by the undersigned thereunto duly authorized.

			TENNANT COMPANY

Date:	August 6, 2004	/s/ Janet M. Dolan
		Janet M. Dolan
		President and Chief Executive Officer

Date:	August 6, 2004	/s/ Anthony T. Brausen
		Anthony T. Brausen
		Vice President, Chief Financial Officer, and Treasurer

Date:	August 6, 2004	/s/ Gregory M. Siedschlag
		Gregory M. Siedschlag
		Corporate Controller and Principal Accounting Officer

Exhibit 10.6

TENNANT COMPANY

NON-EMPLOYEE DIRECTOR STOCK OPTION PLAN

(As Amended and Restated Effective May 6, 2004)

1. Purpose . The purpose of this Non-Employee Director Stock Option Plan (the “Plan”) is to promote the interests of Tennant Company, a Minnesota corporation (the “Company”), and its shareholders by providing non-employee directors of the Company with an opportunity to acquire a proprietary interest in the Company and thereby provide an additional incentive to put forth maximum effort for the continued success and growth of the Company. In addition, the opportunity to acquire a proprietary interest in the Company will aid in attracting and retaining non-employee directors of outstanding ability.

2. Administration.

(a) General. This Plan shall be administered by a the Company’s Board of Directors (the “Board”). The Board shall have the power, subject to the limitations contained in this Plan, to fix any terms and conditions for the grant or exercise of any award under this Plan. Subject to the provisions of this Plan, the Board may from time to time adopt such rules for the administration of this Plan as it deems appropriate. The decision of the Board on any matter affecting this Plan or the rights and obligations arising under this Plan or any award granted hereunder, shall be final, conclusive and binding upon all persons, including without limitation the Company, shareholders and optionees.

(b) Indemnification. To the full extent permitted by law, (i) no member of the Board shall be liable for any action or determination taken or made in good faith with respect to this Plan or any award granted hereunder and (ii) the members of the Board shall be entitled to indemnification by the Company against and from any loss incurred by such member or person by reason of any such actions and determinations.

3. Shares . The shares that may be made subject to options granted under this Plan shall be authorized and unissued shares of Common Stock of the Company, par value $.375 per share (“Shares,” and each individually a “Share”), and they shall not exceed 150,000 Shares in the aggregate, subject to adjustment as provided in paragraph 12, below, except that, if any option lapses or terminates for any reason before such option has been completely exercised, the Shares covered by the unexercised portion of such option may again be made subject to options granted under this Plan.

4. Eligible Participants . Stock options may be granted under this Plan to any director of the Company who is not an employee of the Company or any parent or subsidiary thereof (a “non-employee director”). References herein to “employed,” “employment” and similar terms (except “employee”) shall refer to the providing of services as a director.

5. Terms and Conditions of Director Options .

(a) Discretionary Grants. Subject to the terms and conditions of this Plan, the Board may, from time to time during the term of this Plan, grant to any non-employee director options to purchase such number of Shares of the Company on such terms and conditions as the Board may determine. In determining the non-employee directors to whom options shall be granted and the number of Shares to be covered by each option, the Board may take into account the nature of the services rendered by the respective non-employee directors, their present and potential contributions to the success of the Company, and such other factors as the Board in its sole discretion may deem relevant. The date and time of approval by the Board of the granting of an option shall be considered the date and the time of the grant of such option. The maximum number of Shares subject to options that may be granted to any one non-employee director under the Plan in any fiscal year of the Company (including options granted under subparagraph 5(b)) may not exceed 10,000 Shares (subject to adjustment pursuant to paragraph 12 hereof).

(b) Scheduled Grants . On the day following each annual meeting of the shareholders of the Company (commencing with the annual meeting to be held in 2005), the Company shall grant to each then incumbent non-employee director an option to purchase 1,000 Shares. With respect to any non-employee director who is elected or appointed to the Board on a date other than the date of an annual meeting of shareholders (including any non-employee director who is first elected or appointed to the Board between the annual meetings held in 2004 and 2005), the Company shall grant to such non-employee director on the day following his or her first being so elected or appointed to the Board an option to purchase a number of shares equal to the product (rounded up to the next 100 shares) obtained by multiplying 1,000 by a fraction (x) the numerator of which is the number of days from the date such non-employee director is first elected or appointed to the Board to the date of the next scheduled annual meeting of shareholders and (y) the denominator of which is 365. Subject to the limitation contained in subparagraph 5(a) as to the maximum annual aggregate grant to any one individual, the Board may increase or decrease the number of shares to be granted to non-employee directors on any date pursuant to this said paragraph 5(b).

(c) Purchase Price. The purchase price of each Share subject to an option granted pursuant to this paragraph 5 shall be 100% of the Fair Market Value of a Share on the date of grant.

(d) Vesting. With respect to any option granted under subparagraph 5(a), the option agreement provided for in paragraph 6 relating to such option shall specify when such option shall become exercisable. With respect to any option granted under subparagraph 5(b), such option shall become exercisable cumulatively as to 33% of the shares subject thereto on the date of each of the first through the third annual meetings of shareholders of the Company following the date of grant thereof or, with respect to options granted on any date other than the day following an annual meeting of shareholders, on each of the first through the third anniversaries of the date of grant. Notwithstanding the foregoing or the provisions of any option agreement, the Board may, in its sole discretion, declare at any time that any option granted under this Plan shall be immediately exercisable.

(e) Termination . Each option granted pursuant to this paragraph 5 shall expire, and all rights to purchase Shares thereunder shall terminate, on the earliest of:

(i) ten years after the date such option is granted or on such date prior thereto as may be fixed by the Board on or before the date such option is granted;

(ii) the expiration of the period after the termination of the optionee’s service as a non-employee director within which the option is exercisable as specified in paragraph 9(b) (provided that the Board may, in any option agreement provided for in paragraph 6 or by Board action with respect to any outstanding option, extend the periods specified in paragraph 9(b)); or

(iii) the date, if any, fixed for cancellation pursuant to paragraph 10(c) or 11 below.

6. Option Agreements . All options granted under this Plan shall be evidenced by a written agreement in such form or forms as the Board may from time to time determine.

7. Fair Market Value . For purposes of this Plan, the “Fair Market Value” of a Share at a specified date shall, unless otherwise expressly provided in this Plan, mean the closing sale price of a Share on the date immediately preceding such date or, if no sale of Shares shall have occurred on that date, on the next preceding day on which a sale of Shares occurred, on the Composite Tape for New York Stock Exchange listed shares or, if Shares are not quoted on the Composite Tape for New York Stock Exchange listed shares, on the Nasdaq National Market or any similar system then in use or, if Shares are not included in the Nasdaq National Market or any similar system then in use, the mean between the closing “bid” and the closing “asked” quotation of a Share on the date immediately preceding the date as of which such Fair Market Value is being determined, or, if no closing bid or asked quotation is made on that date, on the next preceding day on which a quotation is made, on the Nasdaq SmallCap Market or any similar system then in use, provided that if the Shares in question are not quoted on any such system, Fair Market Value shall be what the Board determines in good faith to be 100% of the fair market value of a Share as of the date in question. Notwithstanding anything stated in this paragraph 7, if the applicable securities exchange or system has closed for the day by the time the determination is being made, all references in this paragraph to the date immediately preceding the date in question shall be deemed to be references to the date in question.

8. Manner of Exercise of Options . A person entitled to exercise an option granted under this Plan may, subject to its terms and conditions and the terms and conditions of this Plan, exercise it in whole at any time, or in part from time to time, by delivery to the Company at its principal executive office, to the attention of its Vice President, Personnel Resources, of written notice of exercise, specifying the number of Shares with respect to which the option is being exercised. The purchase price of the Shares with respect to which an option is being exercised shall be payable in full at the time of exercise, provided that, to the extent permitted by law, the holder of an option may simultaneously exercise an option and sell all or a portion of the Shares thereby acquired pursuant to a brokerage or similar relationship and use the proceeds from such sale to pay the purchase price of such Shares. The purchase price of each Share on the exercise of any option shall be paid in full in cash (including check, bank draft or money order) or, at the discretion of the person exercising the option, by delivery to the Company of unencumbered Shares, by a reduction in the number of Shares delivered upon exercise of the option, or by a combination of cash and such Shares (in each case such Shares having an aggregate Fair Market Value on the date of exercise equal to the amount of the purchase price being paid through such delivery or reduction of Shares); provided, however, that no person shall be permitted to pay any portion of the purchase price with Shares if the Board, in its sole discretion, determines that payment in such manner is undesirable. The granting of an option to a person shall give such person no rights as a shareholder except as to Shares issued to such person.

9. Transferability and Termination of Employment.

(a) Transferability . During the lifetime of an optionee, only such optionee or his or her guardian or legal representative may exercise options granted under this Plan, and no option granted under this Plan shall be assignable or transferable by the optionee otherwise than by will or the laws of descent and distribution or pursuant to a domestic relations order as defined by the Code or Title I of the Employee Retirement Income Security Act, or the rules thereunder; provided, however, that any optionee may transfer a non-statutory stock option granted under this Plan to a member or members of his or her immediate family (i.e., his or her children, grandchildren and spouse) or to one or more trusts for the benefit of such family members or partnerships in which such family members are the only partners, if (i) the option agreement with respect to such options expressly so provides either at the time of initial grant or by amendment to an outstanding option agreement and (ii) the optionee does not receive any consideration for the transfer. Any options held by any such transferee shall continue to be subject to the same terms and conditions that were applicable to such options immediately prior to their transfer and may be exercised by such transferee only as and to the extent that such option has become exercisable and has not terminated in accordance with the provisions of the Plan and the applicable option agreement. For purposes of any provision of this Plan relating to notice to an optionee or to vesting or termination of an option upon the death, disability or termination of employment of an optionee, the references to “optionee” shall mean the original grantee of an option and not any transferee.

(b) Termination of Employment. In the event that an optionee ceases to be employed as a non-employee director by reason of

(i) death,

(ii) disability preventing continued service,

(iii) retirement from the Board in accordance with the policy of the Company, if any, on retirement of non-employee directors then in effect, or

(iv) termination of service as a non-employee director by reason of (x) resignation at the request of the Board (other than for gross misconduct, as determined by the Board) (y) the director’s failure to have been nominated for re-election to the Board (unless such failure results from the non-employee director’s unwillingness to continue to serve) or to have been re-elected by the shareholders of the Company, or

(v) the director’s removal by the shareholders of the Company

then any option granted to such optionee that was not previously exercisable shall become immediately exercisable in full if the optionee shall have been continuously employed by the Company or a parent or subsidiary thereof between the date such option was granted and the date of such termination of service and such option shall continue to be exercisable for five years after termination of such optionee’s employment. If an optionee’s employment terminates in any manner other than as provided for in the preceding sentence, any option granted to such optionee shall terminate immediately upon such termination of employment.

(c) Right to Terminate Employment. Nothing contained in this Plan, or in any option granted pursuant to this Plan, shall confer upon any optionee any right to continued employment by the Company or limit in any way the right of the Company to terminate such optionee’s employment at any time.

(d) Expiration Date. In no event shall any option be exercisable at any time after the time it shall have expired in accordance with paragraph 5(e) of this Plan. When an option is no longer exercisable, it shall be deemed to have lapsed or terminated and will no longer be outstanding.

10. Change in Control.

(a) For purposes of this Plan, a “Change in Control” of the Company shall be deemed to occur if any of the following occur:

(i) Any “person” (as such term is used in Sections 13(d) and 14(d) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) acquires or becomes a “beneficial owner” (as defined in Rule 13d-3 or any successor rule under the Exchange Act), directly or indirectly, of securities of the Company representing 30% or more of the combined voting power of the Company’s then outstanding securities entitled to vote generally in the election of directors (“Voting Securities”), provided, however, that the following shall not constitute a Change in Control pursuant to this paragraph (a)(1):

(A) any acquisition or beneficial ownership by the Company or a Subsidiary;

(B) any acquisition or beneficial ownership by any employee benefit plan (or related trust) sponsored or maintained by the Company or one or more of its Subsidiaries;

(C) any acquisition or beneficial ownership by any corporation with respect to which, immediately following such acquisition, more than 70% of both the combined voting power of the Company’s then outstanding Voting Securities and the Shares of the Company is then beneficially owned, directly or indirectly, by all or substantially all of the persons who beneficially owned Voting Securities and Shares of the Company immediately prior to such acquisition in substantially the same proportions as their ownership of such Voting Securities and Shares, as the case may be, immediately prior to such acquisition;

(ii) A majority of the members of the Board of Directors of the Company shall not be Continuing Directors. “Continuing Directors” shall mean: (A) individuals who, on the date hereof, are directors of the Company, (B) individuals elected as directors of the Company subsequent to the date hereof for whose election proxies shall have been solicited by the Board of Directors of the Company or (C) any individual elected or appointed by the Board of Directors of the Company to fill vacancies on the Board of Directors of the Company caused by death or resignation (but not by removal) or to fill newly-created directorships;

(iii) Approval by the shareholders of the Company of a reorganization, merger or consolidation of the Company or a statutory exchange of outstanding Voting Securities of the Company, unless immediately following such reorganization, merger, consolidation or exchange, all or substantially all of the persons who were the beneficial owners, respectively, of Voting Securities and Shares of the Company immediately prior to such reorganization, merger, consolidation or exchange beneficially own, directly or indirectly, more than 70% of, respectively, the combined voting power of the then outstanding voting securities entitled to vote generally in the election of directors and the then outstanding shares of common stock, as the case may be, of the corporation resulting from such reorganization, merger, consolidation or exchange in substantially the same proportions as their ownership, immediately prior to such reorganization, merger, consolidation or exchange, of the Voting Securities and Stock of the Company, as the case may be; or

(iv) Approval by the shareholders of the Company of (x) a complete liquidation or dissolution of the Company or (y) the sale or other disposition of all or substantially all of the assets of the Company (in one or a series of transactions), other than to a corporation with respect to which, immediately following such sale or other disposition, more than 70% of, respectively, the combined voting power of the then outstanding voting securities of such corporation entitled to vote generally in the election of directors and the then outstanding shares of common stock of such corporation is then beneficially owned, directly or indirectly, by all or substantially all of the persons who were the beneficial owners, respectively, of the Voting Securities and Shares of the Company immediately prior to such sale or other disposition in substantially the same proportions as their ownership, immediately prior to such sale or other disposition, of the Voting Securities and Shares of the Company, as the case may be.

(b) Acceleration of Vesting . Notwithstanding anything in subparagraph 5(d) above to the contrary, if a Change of Control of the Company shall occur, then, without any action by the Board, each option granted under this Plan and not already exercised in full or otherwise terminated, expired or canceled shall become immediately exercisable in full.

(c) Cash Payment . If a Change in Control of the Company shall occur, then, so long as a majority of the members of the Board are Continuing Directors, the Board, in its sole discretion, and without the consent of the holder of any option affected thereby, may determine that some or all outstanding options shall be cancelled as of the effective date of any such Change in Control and that the holder or holders of such cancelled options shall receive, with respect to some or all of the Common Shares subject to such options, as of the date of such cancellation, cash in an amount, for each Share subject to an option, equal to the excess of the per Share Fair Market Value of such Shares immediately prior to such Change in Control of the Company over the exercise price per Share of such options.

(d) Limitation on Change in Control Payments. Notwithstanding anything in subparagraph 10(b) or 10(c) above or paragraph 11 below to the contrary, if, with respect to an optionee, the acceleration of the exercisability of an option or the payment of cash in exchange for all or part of an option as provided in subparagraph 10(b) or 10(c) above or paragraph 11 (which acceleration or payment could be deemed a “payment” within the meaning of Section 280G(b)(2) of the Code), together with any other payments which such optionee has the right to receive from the Company or any corporation which is a member of an “affiliated group” (as defined in Section 1504(a) of the Code without regard to Section 1504(b) of the Code) of which the Company is a member, would constitute a “parachute payment” (as defined in Section 280G(b)(2) of the Code), then such acceleration of exercisability and payments pursuant to subparagraph 10(b) or 10(c) above or paragraph 11 shall be reduced to the largest amount as, in the sole judgment of the Board, will result in no portion of such payments being subject to the excise tax imposed by Section 4999 of the Code.

11. Dissolution, Liquidation, Merger . In the event of (a) the proposed dissolution or liquidation of the Company, (b) a proposed sale of substantially all of the assets of the Company or (c) a proposed merger, consolidation of the Company with or into any other entity, regardless of whether the Company is the surviving corporation, or a proposed statutory share exchange with any other entity (the actual effective date of the dissolution, liquidation, sale, merger, consolidation or exchange being herein called an “Event”), the Board may, but shall not be obligated to, either (i) if the Event is a merger, consolidation or statutory share exchange, make appropriate provision for the protection of outstanding options granted under this Plan by the substitution, in lieu of such options, of options to purchase appropriate voting common stock (the “Survivor’s Stock”) of the corporation surviving any such merger or consolidation or, if appropriate, the parent corporation of the Company or such surviving corporation, or, alternatively, by the delivery of a number of shares of the Survivor’s Stock which has a Fair Market Value as of the effective date of such merger, consolidation or statutory share exchange equal to the product of (x) the excess of (A) the Event Proceeds per Share (as hereinafter defined) covered by the option as of such effective date over (B) the exercise price per Share of the Shares subject to such option, times (y) the number of Shares covered by such option or (ii) declare, at least twenty days prior to the Event, and provide written notice to each optionee of the declaration, that each outstanding option, whether or not then exercisable, shall be canceled at the time of, or immediately prior to the occurrence of, the Event (unless it shall have been exercised prior to the occurrence of the Event). In connection with any declaration pursuant to clause (ii) of the preceding sentence, the Board may, but shall not be obligated to, cause payment to be made, within twenty days after the Event, in exchange for each cancelled option to each holder of an option that is cancelled, of cash equal to the amount (if any), for each Share covered by the canceled option, by which the Event Proceeds per Share (as hereinafter defined) exceeds the exercise price per Share covered by such option. At the time of any declaration pursuant to clause (ii) of the first sentence of this paragraph 11, each option that has not previously expired pursuant to subparagraph 5(e)(i) or 5(e)(ii) of this Plan or been cancelled pursuant to paragraph 10(c) of this Plan shall immediately become exercisable in full and each holder of an option shall have the right, during the period preceding the time of cancellation of the option, to exercise his or her option as to all or any part of the Shares covered thereby. In the event of a declaration pursuant to clause (ii) of the first sentence of this paragraph 11, each outstanding option granted pursuant to this Plan that shall not have been exercised prior to the Event shall be canceled at the time of, or immediately prior to, the Event, as provided in the declaration, and this Plan shall terminate at the time of such cancellation, subject to the payment obligations of the Company provided in this paragraph 11. Notwithstanding the foregoing, no person holding an option shall be entitled to the payment provided in this paragraph 11 if such option shall have expired pursuant to subparagraph 5(e)(i) or 5(e)(ii) of this Plan or been cancelled pursuant to paragraph 10(c) of this Plan. For purposes of this paragraph 11, “Event Proceeds per Share” shall mean the cash plus the fair market value, as determined in good faith by the Board, of the non-cash consideration to be received per Share by the shareholders of the Company upon the occurrence of the Event.

12. Adjustments . In the event of any reorganization, merger, consolidation, recapitalization, liquidation, reclassification, stock dividend, stock split, combination of shares, rights offering, or extraordinary dividend or divestiture (including a spin-off), or any other change in the corporate structure or Shares of the Company, the Board (or if the Company does not survive any such transaction, the Board of Directors of the surviving corporation) may, without the consent of any holder of an option, make such adjustment as it determines in its discretion to be appropriate as to the number and kind of securities subject to and reserved under this Plan and, in order to prevent dilution or enlargement of rights of participants in this Plan, the number and kind of securities issuable upon exercise of outstanding options and the exercise price thereof.

13. Compliance With Legal Requirements. No certificate for Shares distributable under this Plan shall be issued and delivered unless the issuance of such certificate complies with all applicable legal requirements including, without limitation, compliance with the provisions of applicable state securities laws, the Securities Act of 1933, as amended, and the Exchange Act.

14. Governing Law. To the extent that federal laws do not otherwise control, this Plan and all determinations made and actions taken under this Plan shall be governed by the laws of the State of Minnesota, without regard to the conflicts of law provisions thereof, and construed accordingly.

15. Amendment and Discontinuance of Plan . The Board may at any time amend, suspend or discontinue this Plan; provided, however, that no amendment to this Plan shall, without the consent of the holder of the option, alter or impair any option previously granted under this Plan. To the extent considered necessary to comply with applicable provisions of the Code, any such amendments to this Plan may be made subject to approval by the shareholders of the Company.

16. Term.

(a) Effective Date. This Plan originally became effective as of January 1, 1997. This amendment and restatement of the Plan is effective May 6, 2004.

(b) Termination. This Plan shall remain in effect until all Shares subject to it are distributed or this Plan is terminated under paragraph 15 above.

Date:	August 6, 2004	/s/ Janet Dolan
		Janet M. Dolan
		President and Chief Executive Officer