GRACO INC - Interim / Quarterly Report 2018

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

Quarterly Report Pursuant to Section 13 or 15 (d) of the

Securities Exchange Act of 1934

For the quarterly period ended September 28, 2018

Commission File Number: 001-09249

GRACO INC.
(Exact name of registrant as specified in its charter)

Minnesota	41-0285640
(State of incorporation)	(I.R.S. Employer Identification Number)

88 - 11th Avenue N.E. Minneapolis, Minnesota	55413
(Address of principal executive offices)	(Zip Code)

(612) 623-6000
(Registrant’s telephone number, including area code)

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 X No

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).

Yes X No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.

Large accelerated filer
Emerging growth company

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ___

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes No X

166,437,000 shares of the Registrant’s Common Stock, $1.00 par value, were outstanding as of October 18, 2018 .

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		Page
PART I - FINANCIAL INFORMATION
Item 1.	Financial Statements
	Consolidated Statements of Earnings	3
	Consolidated Statements of Comprehensive Income	3
	Consolidated Balance Sheets	4
	Consolidated Statements of Cash Flows	5
	Consolidated Statements of Shareholders' Equity	6
	Notes to Consolidated Financial Statements	7
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	16
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	21
Item 4.	Controls and Procedures	21
PART II - OTHER INFORMATION
Item 1A.	Risk Factors	22
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	22
Item 6.	Exhibits	23
SIGNATURES
EXHIBITS

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PART I Item 1.

GRACO INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF EARNINGS

(Unaudited) (In thousands except per share amounts)

	Three Months Ended — September 28, 2018	September 29, 2017	Nine Months Ended — September 28, 2018	September 29, 2017
Net Sales	$ 415,936	$ 379,812	$ 1,246,854	$ 1,099,885
Cost of products sold	194,477	175,732	573,071	505,450
Gross Profit	221,459	204,080	673,783	594,435
Product development	15,734	14,552	47,135	43,473
Selling, marketing and distribution	57,270	57,381	182,741	167,353
General and administrative	33,676	30,712	104,054	94,329
Operating Earnings	114,779	101,435	339,853	289,280
Interest expense	3,583	3,901	10,707	12,110
Other expense, net	3,139	1,142	8,425	3,599
Earnings Before Income Taxes	108,057	96,392	320,721	273,571
Income taxes	15,376	20,932	53,390	57,551
Net Earnings	$ 92,681	$ 75,460	$ 267,331	$ 216,020
Per Common Share
Basic net earnings	$ 0.55	$ 0.45	$ 1.59	$ 1.29
Diluted net earnings	$ 0.54	$ 0.43	$ 1.54	$ 1.24

See notes to consolidated financial statements.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited) (In thousands)

	Three Months Ended — September 28, 2018		September 29, 2017		Nine Months Ended — September 28, 2018		September 29, 2017
Net Earnings	$ 92,681		$ 75,460		$ 267,331		$ 216,020
Components of other comprehensive income (loss)
Cumulative translation adjustment	4,161		574		(2,205	)	17,921
Pension and postretirement medical liability adjustment	1,972		2,250		6,503		6,034
Income taxes - pension and postretirement medical liability adjustment	(448	)	(797	)	(1,445	)	(2,280	)
Other comprehensive income	5,685		2,027		2,853		21,675
Comprehensive Income	$ 98,366		$ 77,487		$ 270,184		$ 237,695

See notes to consolidated financial statements.

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GRACO INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(Unaudited) (In thousands)

	September 28, 2018		December 29, 2017
ASSETS
Current Assets
Cash and cash equivalents	$ 137,589		$ 103,662
Accounts receivable, less allowances of $5,200 and $4,300	289,633		266,080
Inventories	277,726		239,349
Other current assets	25,812		34,247
Total current assets	730,760		643,338
Property, Plant and Equipment, net	220,164		204,298
Goodwill	296,299		278,789
Other Intangible Assets, net	172,476		183,056
Deferred Income Taxes	32,958		50,916
Other Assets	32,844		30,220
Total Assets	$ 1,485,501		$ 1,390,617
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current Liabilities
Notes payable to banks	$ 3,960		$ 6,578
Trade accounts payable	53,102		48,748
Salaries and incentives	54,896		55,884
Dividends payable	22,191		22,260
Other current liabilities	130,085		112,368
Total current liabilities	264,234		245,838
Long-term Debt	266,424		226,035
Retirement Benefits and Deferred Compensation	136,539		172,411
Deferred Income Taxes	17,242		17,253
Other Non-current Liabilities	4,500		6,017
Shareholders’ Equity
Common stock	167,409		169,319
Additional paid-in-capital	513,643		499,934
Retained earnings	255,899		181,599
Accumulated other comprehensive income (loss)	(140,389	)	(127,789	)
Total shareholders’ equity	796,562		723,063
Total Liabilities and Shareholders’ Equity	$ 1,485,501		$ 1,390,617

See notes to consolidated financial statements.

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GRACO INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited) (In thousands)

	Nine Months Ended — September 28, 2018		September 29, 2017
Cash Flows From Operating Activities
Net Earnings	$ 267,331		$ 216,020
Adjustments to reconcile net earnings to net cash provided by operating activities
Depreciation and amortization	35,570		33,620
Deferred income taxes	15,407		58
Share-based compensation	22,016		19,154
Change in
Accounts receivable	(25,576	)	(31,614	)
Inventories	(23,094	)	(16,788	)
Trade accounts payable	74		4,319
Salaries and incentives	(4,943	)	7,214
Retirement benefits and deferred compensation	(30,202	)	(8,595	)
Other accrued liabilities	(1,348	)	25,402
Other	(974	)	(2,642	)
Net cash provided by operating activities	254,261		246,148
Cash Flows From Investing Activities
Property, plant and equipment additions	(39,569	)	(28,899	)
Acquisition of businesses, net of cash acquired	(10,769	)	(12,905	)
Other	(1,386	)	(124	)
Net cash provided by (used in) investing activities	(51,724	)	(41,928	)
Cash Flows From Financing Activities
Borrowings (payments) on short-term lines of credit, net	(2,558	)	(3,361	)
Borrowings on long-term lines of credit	612,979		293,880
Payments on long-term debt and lines of credit	(575,113	)	(299,565	)
Common stock issued	23,471		53,422
Common stock repurchased	(155,601	)	(90,160	)
Taxes paid related to net share settlement of equity awards	(16,151	)	(10,735	)
Cash dividends paid	(66,794	)	(60,273	)
Net cash provided by (used in) financing activities	(179,767	)	(116,792	)
Effect of exchange rate changes on cash	1,915		(1,142	)
Net increase (decrease) in cash and cash equivalents	24,685		86,286
Cash, Cash Equivalents and Restricted Cash
Beginning of year	112,904		61,594
End of period	$ 137,589		$ 147,880
Reconciliation to Consolidated Balance Sheets
Cash and cash equivalents	$ 137,589		$ 140,000
Restricted cash included in other current assets	—		7,880
Cash, cash equivalents and restricted cash	$ 137,589		$ 147,880

See notes to consolidated financial statements.

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GRACO INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

(Unaudited) (In thousands)

Balance, June 30, 2017	Common Stock — $ 55,991		Additional Paid-In Capital — 493,329		Retained Earnings — 224,822		Accumulated Other Comprehensive Income (Loss) — $ (122,580	)	Total — $ 651,562
Shares issued	155		6,578		—		—		6,733
Shares repurchased	(31	)	(255	)	288		—		2
Stock compensation cost	—		4,422		—		—		4,422
Restricted stock canceled (issued)	—		(2	)	—		—		(2	)
Net earnings	—		—		75,460		—		75,460
Dividends declared ($0.1200 per share)	—		—		(20,215	)	—		(20,215	)
Other comprehensive income (loss)	—		—		—		2,027		2,027
Balance, September 29, 2017	$ 56,115		504,072		280,355		$ (120,553	)	$ 719,989

Balance, June 29, 2018	$	$	$		$	)	$
Shares issued	279	3,140	—		—		3,419
Shares repurchased	—	—	—		—		—
Stock compensation cost	—	5,161	—		—		5,161
Net earnings	—	—	92,681		—		92,681
Dividends declared ($0.1325 per share)	—	—	(22,189	)	—		(22,189	)
Other comprehensive income (loss)	—	—	—		5,685		5,685
Balance, September 28, 2018	$ 167,409	513,643	255,899		$ (140,389	)	$ 796,562

Balance, December 30, 2016	$		$		$		$	)	$
Shares issued	1,164		41,809		—		—		42,973
Shares repurchased	(883	)	(7,172	)	(82,104	)	—		(90,159	)
Stock compensation cost	—		16,326		—		—		16,326
Restricted stock canceled (issued)	—		(285	)	—		—		(285	)
Net earnings	—		—		216,020		—		216,020
Dividends declared ($0.3600 per share)	—		—		(60,381	)	—		(60,381	)
Other comprehensive income (loss)	—		—		—		21,675		21,675
Balance, September 29, 2017	$ 56,115		$ 504,072		$ 280,355		$ (120,553	)	$ 719,989

Balance, December 29, 2017	$		$		$		$	)	$
Shares issued	1,592		6,500		—		—		8,092
Shares repurchased	(3,502	)	(10,340	)	(141,759	)	—		(155,601	)
Stock compensation cost	—		18,321		—		—		18,321
Restricted stock canceled (issued)	—		(772	)	—		—		(772	)
Net earnings	—		—		267,331		—		267,331
Dividends declared ($0.3975 per share)	—		—		(66,725	)	—		(66,725	)
Reclassified to retained earnings from AOCI	—		—		15,453		(15,453	)	—
Other comprehensive income (loss)	—		—		—		2,853		2,853
Balance, September 28, 2018	$ 167,409		$ 513,643		$ 255,899		$ (140,389	)	$ 796,562

See notes to consolidated financial statements.

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GRACO INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Basis of Presentation

The consolidated balance sheet of Graco Inc. and Subsidiaries (the “Company”) as of September 28, 2018 and the related statements of earnings and comprehensive income for the three and nine months ended September 28, 2018 and September 29, 2017 , and cash flows for the nine months ended September 28, 2018 and September 29, 2017 have been prepared by the Company and have not been audited.

In the opinion of management, these consolidated financial statements reflect all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the financial position of the Company as of September 28, 2018 , and the results of operations and cash flows for all periods presented. Certain prior year disclosures have been revised to conform to current year reporting.

Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. Therefore, these statements should be read in conjunction with the financial statements and notes thereto included in the Company’s 2017 Annual Report on Form 10-K.

The results of operations for interim periods are not necessarily indicative of results that will be realized for the full fiscal year.

Revenue Recognition

Adoption of New Accounting Standard

In May 2014, the Financial Accounting Standards Board (FASB) issued a final standard on revenue from contracts with customers, contained in Accounting Standards Codification Topic 606 (“ASC 606”). The new standard sets forth a single comprehensive model for recognizing and reporting revenue. ASC 606 was effective for the Company as of December 30, 2017, the beginning of our fiscal year 2018. The Company adopted the new accounting standard using the modified retrospective transition approach. Application of the transition requirements had no material impact on operations or beginning retained earnings.

We record revenue under ASC 606 at a single point in time, when control is transferred to the customer, which is consistent with past practice. Under ASC 606, rights of return are recorded as a refund liability and a recovery asset is established for the value of product expected to be returned. We previously classified rights of return, net of amounts expected to be recovered, as an allowance reducing accounts receivable. We reclassified prior period balance sheet amounts to conform to ASC 606 requirements. This resulted in an increase in accounts receivable of $9.7 million , a recovery asset of $1.7 million included in other current assets and $11.4 million of refund liability included in other current liabilities as of December 29, 2017 .

Accounting Policy

Revenue is recognized upon the satisfaction of performance obligations, which occurs when control of the good or service transfers to the customer. This is generally on the date of shipment; however certain sales have terms requiring recognition when received by the customer. In cases where there are specific customer acceptance provisions, revenue is recognized at the later of customer acceptance or shipment (subject to shipping terms). Payment terms are established based on the type of product, distributor capabilities and competitive market conditions. We generally determine standalone selling prices based on the prices charged to customers for all material performance obligations.

Variable consideration is accounted for as a price adjustment (sales adjustment). Following are examples of variable consideration that affect the Company's reported revenue. Early payment discounts are provided to certain customers and within certain regions. Rights of return are typically contractually limited, amounts are estimable, and the Company records provisions for anticipated returns at the time revenue is recognized. This includes promotions when, from time to time, the Company may promote the sale of new products by agreeing to accept returns of superseded products. Trade promotions are offered to distributors and end users through various programs, generally with terms of one year or less. Such promotions include rebates based on annual purchases and sales growth, coupons and reimbursement for competitive products. Payment of incentives may take the form of cash, trade credit, promotional merchandise or

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free product. Rebates are accrued based on the program rates and progress toward the probability weighted estimate of annual sales amount and sales growth.

Additional promotions include cooperative advertising arrangements. Under cooperative advertising arrangements, the Company reimburses the distributor for a portion of its advertising costs related to the Company’s products; estimated costs are accrued at the time of sale and classified as selling, marketing and distribution expense. The estimated costs related to coupon programs are accrued at the time of sale and classified as selling, marketing and distribution expense or cost of products sold, depending on the type of incentive offered. The considerations payable to customers are deemed as broad based and are not recorded against net sales.

Shipping and handling costs incurred for the delivery of goods to customers are included in cost of goods sold. Amounts billed to customers for shipping and handling are included in net sales.

Deferred Revenues

We defer revenue when cash payments are received or due in advance of our performance, including amounts which are refundable. This is also the case for services associated with certain product sales. The balance in the deferred revenue and customer advances was $45.1 million as of September 28, 2018 and $22.6 million as of December 29, 2017 . The increase from year-end 2017 includes $21.6 million related to a business acquired in 2018. Net sales for the year to date included $21.8 million that was in deferred revenue and customer advances as of December 29, 2017.

Our payment terms vary by the type and location of our customer and the products or services offered. The term between invoicing and when payment is due is not significant. For certain products or services and customer types, we require payment before the products or services are delivered to the customer .

Practical Expedients and Exemptions

We have made an accounting policy election to account for shipping and handling activities that occur after control of the related good transfers as fulfillment activities instead of assessing such activities as performance obligations.

We have made an accounting policy election to exclude from the transaction price all sales taxes related to revenue producing transactions collected from the customer for a governmental authority.

We apply the new revenue standard requirements to a portfolio of contracts (or performance obligations) with similar characteristics for transactions where it is expected that the effects on the financial statements of applying the revenue recognition guidance to the portfolio would not differ materially from applying this guidance to the individual contracts (or performance obligations) within that portfolio .

We have made an accounting policy election to not assess whether promised goods or services are performance obligations if they are immaterial in the context of the contract with the customer. If the revenue related to a performance obligation that includes goods or services that are immaterial in the context of the contract is recognized before those immaterial goods or services are transferred to the customer, then the related costs to transfer those goods or services are accrued.

We generally expense incremental costs of obtaining a contract when incurred because the amortization period would be less than one year. These costs primarily relate to sales commissions and are recorded in selling, marketing and distribution expense.

We disclose disaggregated revenues by reporting segment and geography in accordance with the revenue standard. See Note 7 Segment Information.

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Earnings per Share

The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share amounts):

	Three Months Ended — September 28, 2018	September 29, 2017	Nine Months Ended — September 28, 2018	September 29, 2017
Net earnings available to common shareholders	$ 92,681	$ 75,460	$ 267,331	$ 216,020
Weighted average shares outstanding for basic earnings per share	167,247	168,069	167,860	167,592
Dilutive effect of stock options computed using the treasury stock method and the average market price	5,790	6,544	6,124	6,252
Weighted average shares outstanding for diluted earnings per share	173,037	174,613	173,984	173,844
Basic earnings per share	$ 0.55	$ 0.45	$ 1.59	$ 1.29
Diluted earnings per share	$ 0.54	$ 0.43	$ 1.54	$ 1.24

Stock options to purchase 435,000 and 18,000 shares were not included in the September 28, 2018 and September 29, 2017 computations of diluted earnings per share, respectively, because they would have been anti-dilutive.

Share-Based Awards

Options on common shares granted and outstanding, as well as the weighted average exercise price, are shown below (in thousands, except exercise prices):

	Option Shares		Weighted Average Exercise Price	Options Exercisable	Weighted Average Exercise Price
Outstanding, December 29, 2017	13,290		$ 21.99	7,729	$ 18.33
Granted	1,163		44.05
Exercised	(2,020	)	18.23
Canceled	(69	)	27.43
Outstanding, September 28, 2018	12,364		$ 24.64	7,366	$ 20.13

The Company recognized year-to-date share-based compensation of $22.0 million in 2018 and $19.2 million in 2017 . As of September 28, 2018 , there was $10.5 million of unrecognized compensation cost related to unvested options, expected to be recognized over a weighted average period of 2.1 years.

The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted average assumptions and results:

	Nine Months Ended — September 28, 2018	September 29, 2017
Expected life in years	7.5	7.0
Interest rate	2.8 %	2.2 %
Volatility	25.5 %	26.7 %
Dividend yield	1.2 %	1.6 %
Weighted average fair value per share	$ 12.84	$ 8.08

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Under the Company’s Employee Stock Purchase Plan, the Company issued 480,000 shares in 2018 and 500,000 shares in 2017 . The fair value of the employees’ purchase rights under this Plan was estimated on the date of grant. The benefit of the 15 percent discount from the lesser of the fair market value per common share on the first day and the last day of the plan year was added to the fair value of the employees’ purchase rights determined using the Black-Scholes option-pricing model with the following assumptions and results:

	Nine Months Ended — September 28, 2018	September 29, 2017
Expected life in years	1.0	1.0
Interest rate	2.1 %	0.9 %
Volatility	21.3 %	22.3 %
Dividend yield	1.2 %	1.5 %
Weighted average fair value per share	$ 10.28	$ 7.32

Retirement Benefits

The components of net periodic benefit cost for retirement benefit plans were as follows (in thousands):

	Three Months Ended — September 28, 2018		September 29, 2017		Nine Months Ended — September 28, 2018		September 29, 2017
Pension Benefits
Service cost	$ 2,165		$ 1,917		$ 6,376		$ 5,732
Interest cost	3,227		3,874		10,072		11,477
Expected return on assets	(4,369	)	(4,236	)	(13,087	)	(12,700	)
Amortization and other	2,077		2,408		6,252		6,932
Net periodic benefit cost	$ 3,100		$ 3,963		$ 9,613		$ 11,441
Postretirement Medical
Service cost	$ 127		$ 150		$ 477		$ 451
Interest cost	284		274		813		820
Amortization	213		(2	)	485		(7	)
Net periodic benefit cost	$ 624		$ 422		$ 1,775		$ 1,264

In March 2017, the FASB issued a final standard that changes the presentation of net periodic benefit cost related to defined benefit plans. The Company adopted the standard effective for the first quarter of 2018, and the Company has applied the change retrospectively to all periods presented. Under the new standard, net periodic benefit costs are disaggregated between service costs presented as operating expenses and other components of pension costs presented as non-operating expenses. The Company previously charged service costs to segment operations and included other components of pension cost in unallocated corporate operating expenses. Under the new standard, unallocated corporate operating expenses decreased, operating earnings increased and other expense increased by the amount of non-service components of pension cost, including the amount of changes in cash surrender value of insurance contracts used to fund certain non-qualified pension and deferred compensation arrangements. There was no impact on reported net earnings or earnings per share. The retrospective application of the new standard resulted in increases of $1.8 million and $5.1 million to previously reported operating earnings and other non-operating expense for the quarter and year to date ended September 29, 2017 , respectively.

In the third quarter of 2018, the Company made a $40 million voluntary contribution to one of its U.S. qualified defined benefit plans.

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Shareholders’ Equity

Changes in components of accumulated other comprehensive income (loss), net of tax were (in thousands):

Balance, June 30, 2017	Pension and Postretirement Medical — $ (74,125	)	Cumulative Translation Adjustment — $ (48,455	)	Total — $ (122,580	)
Other comprehensive income (loss) before reclassifications	—		574		574
Reclassified to pension cost and deferred tax	1,453		—		1,453
Balance, September 29, 2017	$ (72,672	)	$ (47,881	)	$ (120,553	)

Balance, June 29, 2018	$	)	$	)	$	)
Other comprehensive income (loss) before reclassifications	—		4,161		4,161
Reclassified to pension cost and deferred tax	1,524		—		1,524
Balance, September 28, 2018	$ (88,825	)	$ (51,564	)	$ (140,389	)

Balance, December 30, 2016	$	)	$	)	$	)
Other comprehensive income (loss) before reclassifications	—		17,921		17,921
Reclassified to pension cost and deferred tax	3,754		—		3,754
Balance, September 29, 2017	$ (72,672	)	$ (47,881	)	$ (120,553	)

Balance, December 29, 2017	$	)	$	)	$	)
Other comprehensive income (loss) before reclassifications	—		(2,205	)	(2,205	)
Reclassified to pension cost and deferred tax	5,058		—		5,058
Reclassified to retained earnings	(15,453	)	—		(15,453	)
Balance, September 28, 2018	$ (88,825	)	$ (51,564	)	$ (140,389	)

Amounts related to pension and postretirement medical adjustments are reclassified to non-service components of pension cost that are included within other non-operating expenses.

In February 2018, FASB issued a new standard related to reclassification of certain tax effects from accumulated other comprehensive income (AOCI). We early-adopted the new standard in the first quarter of 2018. We elected to reclassify $15.5 million from accumulated other comprehensive income to retained earnings, representing the amount of "stranded" tax effects resulting from the change in the U.S. federal tax rate and the consequent revaluation of deferred tax assets related to pension and postretirement medical expense.

On April 30, 2018, the Company repurchased 0.7 million shares of its common stock for $28.2 million from the President and Chief Executive Officer of the Company. The $43.33 per share purchase price represented a discount of 3 percent from the closing price of the Company’s stock immediately prior to the date of the transaction. The repurchase is expected to be accretive to earnings per share and yield a rate of return to remaining shareholders that will exceed the Company’s equity cost of capital. The Company used available cash balances and borrowings under its revolving line of credit to fund the repurchase.

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Segment Information

The Company has three reportable segments: Industrial, Process and Contractor. Sales and operating earnings by segment were as follows (in thousands):

	Three Months Ended — September 28, 2018		September 29, 2017		Nine Months Ended — September 28, 2018		September 29, 2017
Net Sales
Industrial	$ 195,855		$ 178,461		$ 581,510		$ 509,719
Process	84,556		73,656		249,650		217,084
Contractor	135,525		127,695		415,694		373,082
Total	$ 415,936		$ 379,812		$ 1,246,854		$ 1,099,885
Operating Earnings
Industrial	$ 70,572		$ 61,790		$ 206,727		$ 177,121
Process	17,862		12,088		52,629		38,969
Contractor	32,739		33,471		102,532		93,249
Unallocated corporate (expense)	(6,394	)	(5,914	)	(22,035	)	(20,059	)
Total	$ 114,779		$ 101,435		$ 339,853		$ 289,280

Assets by segment were as follows (in thousands):

	September 28, 2018	December 29, 2017
Industrial	$ 633,922	$ 572,436
Process	349,071	345,572
Contractor	300,712	255,615
Unallocated corporate	201,796	216,994
Total	$ 1,485,501	$ 1,390,617

Geographic information follows (in thousands):

	Three Months Ended — September 28, 2018	September 29, 2017	Nine Months Ended — September 28, 2018	September 29, 2017
Net Sales (based on customer location)
United States	$ 208,269	$ 190,178	$ 614,592	$ 559,651
Other countries	207,667	189,634	632,262	540,234
Total	$ 415,936	$ 379,812	$ 1,246,854	$ 1,099,885

	September 28, 2018	December 29, 2017
Long-lived Assets
United States	$ 169,286	$ 163,416
Other countries	50,878	40,882
Total	$ 220,164	$ 204,298

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Inventories

Major components of inventories were as follows (in thousands):

Finished products and components	September 28, 2018 — $ 145,077		December 29, 2017 — $ 124,327
Products and components in various stages of completion	75,706		61,274
Raw materials and purchased components	113,349		103,407
Subtotal	334,132		289,008
Reduction to LIFO cost	(56,406	)	(49,659	)
Total	$ 277,726		$ 239,349

Intangible Assets

Components of other intangible assets were (dollars in thousands):

	Finite Life — Customer Relationships		Patents and Proprietary Technology		Trademarks, Trade Names and Other		Indefinite Life — Trade Names		Total
As of September 28, 2018
Cost	$ 179,449		$ 19,371		$ 1,470		$ 59,537		$ 259,827
Accumulated amortization	(64,064	)	(8,990	)	(806	)	—		(73,860	)
Foreign currency translation	(9,392	)	(746	)	(75	)	(3,278	)	(13,491	)
Book value	$ 105,993		$ 9,635		$ 589		$ 56,259		$ 172,476
Weighted average life in years	13		10		4		N/A

As of December 29, 2017 — Cost	$ 179,826		$ 18,479		$ 1,071		$ 59,553		$ 258,929
Accumulated amortization	(54,076	)	(7,795	)	(542	)	—		(62,413	)
Foreign currency translation	(9,186	)	(727	)	(61	)	(3,486	)	(13,460	)
Book value	$ 116,564		$ 9,957		$ 468		$ 56,067		$ 183,056
Weighted average life in years	13		10		4		N/A

Amortization of intangibles for the quarter was $3.8 million in 2018 and $3.8 million in 2017 and for the year to date was $11.8 million in 2018 and $11.0 million in 2017. Estimated annual amortization expense based on the current carrying amount of other intangible assets is as follows (in thousands):

	2018	2019	2020	2021	2022	Thereafter
Estimated Amortization Expense	$ 15,608	$ 15,251	$ 15,038	$ 14,840	$ 14,743	$ 52,491

Changes in the carrying amount of goodwill for each reportable segment were (in thousands):

Balance, December 29, 2017	Industrial — $ 161,673		Process — $ 97,971		Contractor — $ 19,145	Total — $ 278,789
Additions, adjustments from business acquisitions	17,544		170		409	18,123
Foreign currency translation	(222	)	(391	)	—	(613	)
Balance, September 28, 2018	$ 178,995		$ 97,750		$ 19,554	$ 296,299

The Company completed business acquisitions in 2018 that were not material to the consolidated financial statements.

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Other Current Liabilities

Components of other current liabilities were (in thousands):

	September 28, 2018	December 29, 2017
Accrued self-insurance retentions	$ 7,870	$ 7,956
Accrued warranty and service liabilities	11,087	10,535
Accrued trade promotions	10,461	10,588
Payable for employee stock purchases	8,868	10,053
Customer advances and deferred revenue	45,074	22,632
Income taxes payable	2,003	7,564
Right of return refund liability	12,289	11,412
Other	32,433	31,628
Total	$ 130,085	$ 112,368

The Company previously managed certain self-insured loss exposures through a wholly-owned captive insurance subsidiary. Cash balances of $9.2 million as of December 29, 2017 were restricted for funding the captive's loss reserves and included within other current assets on the Company's Consolidated Balance Sheets. The Company dissolved the captive insurance subsidiary in the third quarter of 2018 and there were no restricted cash balances as of September 28, 2018.

A liability is established for estimated future warranty and service claims that relate to current and prior period sales. The Company estimates warranty costs based on historical claim experience and other factors including evaluating specific product warranty issues. Following is a summary of activity in accrued warranty and service liabilities (in thousands):

Balance, December 29, 2017	$
Charged to expense	6,116
Margin on parts sales reversed	2,047
Reductions for claims settled	(7,611	)
Balance, September 28, 2018	$ 11,087

Fair Value

Assets and liabilities measured at fair value on a recurring basis and fair value measurement level were as follows (in thousands):

	Level	September 28, 2018	December 29, 2017
Assets
Cash surrender value of life insurance	2	$ 16,404	$ 16,128
Forward exchange contracts	2	55	—
Total assets at fair value		$ 16,459	$ 16,128
Liabilities
Contingent consideration	3	$ 5,700	$ 4,081
Deferred compensation	2	4,383	3,836
Forward exchange contracts	2	—	517
Total liabilities at fair value		$ 10,083	$ 8,434

Contracts insuring the lives of certain employees who are eligible to participate in certain non-qualified pension and deferred compensation plans are held in trust. Cash surrender value of the contracts is based on performance measurement funds that shadow the deferral investment allocations made by participants in certain deferred compensation plans. The deferred compensation liability balances are valued based on amounts allocated by participants to the underlying performance measurement funds.

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Contingent consideration liability represents the estimated value (using a probability-weighted expected return approach) of future payments to be made to previous owners of an acquired business based on future revenues.

Long-term notes payable with fixed interest rates have a carrying amount of $225 million and an estimated fair value of $235 million as of September 28, 2018 and $245 million as of December 29, 2017 . The fair value of variable rate borrowings approximates carrying value. The Company uses significant other observable inputs to estimate fair value (level 2 of the fair value hierarchy) based on the present value of future cash flows and rates that would be available for issuance of debt with similar terms and remaining maturities.

Income Taxes

The effective income tax rate was 14 percent for the quarter and 17 percent for the year to date, down 8 percentage points and 4 percentage points from the comparable periods last year, respectively. U.S. federal income tax reform legislation (the "Tax Act") passed at the end of 2017 decreased the 2018 effective tax rate by 10 percentage points for the quarter and 9 percentage points for the year to date. Excess tax benefits related to stock option exercises reduced the effective tax rate by 2 percentage points and 3 percentage points in the third quarter of 2018 and 2017, respectively. Year-to-date excess tax benefits related to stock option exercises reduced the effective tax rate by 3 percentage points in 2018 and 7 percentage points in 2017. The benefit from a $40 million contribution to a pension plan reduced the 2018 effective tax rate by 5 percentage points for the quarter and 2 percentage points for the year to date. The benefits from certain tax planning activities reduced the 2017 effective tax rate by 6 percentage points for the quarter and 2 percentage points for the year to date.

Our accounting for certain income tax effects of the Tax Act related to the transition tax is complete. Based on the Proposed Treasury Regulation issued on August 1, 2018, we have concluded that the provisional amounts recorded in our previously issued financial statements are now considered final as of September 28, 2018 . Adjustments to the provisional amounts were not material to the consolidated financial statements.

Debt

On September 24, 2018, the Company entered into a revolving credit agreement with a sole lender that expires in September 2020. The new credit agreement provides up to $50 million of committed credit, available for general corporate purposes, working capital needs, share repurchases and acquisitions. Under the terms of the revolving credit agreement, loans may be denominated in U.S. dollars or Chinese renminbi. Loans denominated in U.S. dollars bear interest, at the Company’s option, at either a base rate or a LIBOR-based rate. Loans denominated in Chinese renminbi bear interest at a LIBOR-based rate based on the Chinese offshore rate. Other terms of the new revolving credit agreement are substantially similar to those of the Company’s pre-existing $500 million revolving credit agreement that expires in December 2021.

Recent Accounting Pronouncements

In February 2016, FASB issued a final standard on leases contained in Accounting Standards Codification Topic 842 (“ASC 842”). The new standard is effective for the Company in the first quarter of 2019 and requires most leases to be recorded on the balance sheet. The Company plans to adopt the new accounting standard using the modified retrospective transition approach and will elect to use the package of practical expedients. The modified retrospective transition approach will recognize any changes from the beginning of the year of initial application through retained earnings with no restatement of comparative periods.

We have established an implementation team that has gathered and analyzed a significant portion of our lease contracts. Based on preliminary results of the process, which has not been completed, nothing has come to our attention that would indicate that adoption of the new standard will have a material impact on our earnings or shareholders equity. We expect that the recording of right-of-use assets and associated lease liabilities will have an effect on our consolidated balance sheet; however, we are unable to determine an amount at this time. The final balance sheet impact will be determined once we finalize our conclusions on the treatment of certain lease incentives and vehicle lease contracts.

We are in the process of evaluating changes to our business processes, systems and controls needed to support recognition and disclosure under the new standard. Further, we are continuing to assess any incremental disclosures that will be required in our consolidated financial statements.

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Item 2. GRACO INC. AND SUBSIDIARIES

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Overview

The Company supplies technology and expertise for the management of fluids and coatings in both industrial and commercial applications. It designs, manufactures and markets systems and equipment to move, measure, control, dispense and spray fluid and coating materials. Management classifies the Company’s business into three reportable segments: Industrial, Process and Contractor. Key strategies include developing and marketing new products, leveraging products and technologies into additional, growing end-user markets, expanding distribution globally and completing strategic acquisitions that provide additional channel and technologies.

The following Management’s Discussion and Analysis reviews significant factors affecting the Company’s results of operations and financial condition. This discussion should be read in conjunction with the financial statements and the accompanying notes to the financial statements.

Consolidated Results

A summary of financial results follows (in millions except per share amounts):

	Three Months Ended — Sep 28, 2018	Sep 29, 2017	% Change	Nine Months Ended — Sep 28, 2018	Sep 29, 2017	% Change
Net Sales	$ 415.9	$ 379.8	10 %	$ 1,246.9	$ 1,099.9	13 %
Operating Earnings	114.8	101.4	13 %	339.9	289.3	17 %
Net Earnings	92.7	75.5	23 %	267.3	216.0	24 %
Net Earnings, adjusted (1)	85.8	66.8	29 %	252.5	190.0	33 %
Diluted Net Earnings per Common Share	$ 0.54	$ 0.43	26 %	$ 1.54	$ 1.24	24 %
Diluted Net Earnings per Common Share, adjusted (1)	$ 0.50	$ 0.38	32 %	$ 1.45	$ 1.09	33 %

(1) See below for a reconciliation of adjusted non-GAAP financial measures to GAAP.

Sales for the quarter and year to date increased in all segments and regions. Changes in currency translation rates did not have a significant effect on sales for the quarter. For the year to date, change in currency translation increased sales by approximately $20 million (2 percentage points). Acquired operations contributed 3 percentage points of sales growth for both the quarter and year to date, including 6 percentage points of growth in EMEA. Operating expense leverage on higher sales drove 13 percent and 17 percent increases in operating earnings for the quarter and year to date, respectively.

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Excluding the impact of tax benefits related to stock option exercises and the effects of certain tax provision adjustments presents a more consistent basis for comparison of financial results. A calculation of the non-GAAP measurements of adjusted income taxes, effective income tax rates, net earnings and diluted earnings per share follows (in millions except per share amounts):

	Three Months Ended — Sep 28, 2018		Sep 29, 2017		Nine Months Ended — Sep 28, 2018		Sep 29, 2017
Earnings before income taxes	$ 108.1		$ 96.4		$ 320.7		$ 273.6
Income taxes, as reported	$ 15.4		$ 20.9		$ 53.4		$ 57.6
Excess tax benefit from option exercises	1.9		3.2		9.8		20.5
Tax provision adjustments	5.0		5.5		5.0		5.5
Income taxes, adjusted	$ 22.3		$ 29.6		$ 68.2		$ 83.6
Effective income tax rate
As reported	14.2	%	21.7	%	16.6	%	21.0	%
Adjusted	20.6	%	30.8	%	21.2	%	30.5	%
Net Earnings, as reported	$ 92.7		$ 75.5		$ 267.3		$ 216.0
Excess tax benefit from option exercises	(1.9	)	(3.2	)	(9.8	)	(20.5	)
Tax provision adjustments	(5.0	)	(5.5	)	(5.0	)	(5.5	)
Net Earnings, adjusted	$ 85.8		$ 66.8		$ 252.5		$ 190.0
Weighted Average Diluted Shares	173.0		174.6		174.0		173.8
Diluted Earnings per Share
As reported	$ 0.54		$ 0.43		$ 1.54		$ 1.24
Adjusted	$ 0.50		$ 0.38		$ 1.45		$ 1.09

The following table presents an overview of components of net earnings as a percentage of net sales:

	Three Months Ended — Sep 28, 2018	Sep 29, 2017	Nine Months Ended — Sep 28, 2018	Sep 29, 2017
Net Sales	100.0 %	100.0 %	100.0 %	100.0 %
Cost of products sold	46.8	46.3	46.0	46.0
Gross Profit	53.2	53.7	54.0	54.0
Product development	3.8	3.8	3.8	4.0
Selling, marketing and distribution	13.7	15.1	14.6	15.2
General and administrative	8.1	8.1	8.3	8.5
Operating Earnings	27.6	26.7	27.3	26.3
Interest expense	0.9	1.0	0.9	1.1
Other expense, net	0.7	0.3	0.7	0.3
Earnings Before Income Taxes	26.0	25.4	25.7	24.9
Income taxes	3.7	5.5	4.3	5.3
Net Earnings	22.3 %	19.9 %	21.4 %	19.6 %

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Net Sales

The following table presents net sales by geographic region (in millions):

	Three Months Ended — Sep 28, 2018	Sep 29, 2017	Nine Months Ended — Sep 28, 2018	Sep 29, 2017
Americas (1)	$ 235.9	$ 217.7	$ 703.0	$ 639.1
EMEA (2)	94.2	86.7	292.4	252.8
Asia Pacific	85.8	75.4	251.5	208.0
Consolidated	$ 415.9	$ 379.8	$ 1,246.9	$ 1,099.9

(1) North, South and Central America, including the United States

(2) Europe, Middle East and Africa

The following table presents the components of net sales change by geographic region:

	Three Months — Volume and Price	Acquisitions	Currency	Total	Nine Months — Volume and Price	Acquisitions	Currency	Total
Americas	8%	1%	(1)%	8%	9%	1%	0%	10%
EMEA	3%	6%	0%	9%	3%	6%	7%	16%
Asia Pacific	10%	6%	(2)%	14%	13%	5%	3%	21%
Consolidated	7%	3%	0%	10%	8%	3%	2%	13%

Gross Profit

Gross profit margin rate for the quarter decreased from the comparable period last year due to lower margin rates of acquired operations. The favorable effects of realized pricing and product and channel mix offset the impact of higher costs, including tariffs. Gross margin rate for the year to date was the same as the rate for the comparable period last year. The favorable effects of currency translation and realized pricing offset the unfavorable effects of lower margin rates of acquired operations and higher material costs.

Operating Expenses

Total operating expenses for the quarter increased $4 million (4 percent) compared to the third quarter last year, including approximately $1 million (1 percentage point) from acquired operations. Year-to-date operating expenses increased $29 million (9 percent) compared to the comparable period last year. The increase includes $6 million from acquired operations, approximately $4 million related to currency translation, $4 million of increases directly based on volume and earnings, and $3 million of incremental share-based compensation.

Other expense

Other expense for the quarter and year to date includes $2 million and $4 million of exchange losses on net assets of foreign operations, respectively, compared to small gains in the comparable periods last year.

Income Taxes

The effective income tax rate was 14 percent for the quarter and 17 percent for the year to date, down 8 percentage points and 4 percentage points from the comparable periods last year, respectively . Adjusted to exclude the impacts of excess tax benefits related to stock option exercises, the benefit from a $40 million contribution to a pension plan in 2018, and the benefits from certain tax planning activities in 2017 (see above for reconciliation of adjusted non-GAAP financial measures to GAAP), the effective income tax rate was approximately 21 percent for both the quarter and year to date. The adjusted rate was lower than the 31 percent effective rate for the comparable periods last year due to the net effects of U.S. federal income tax reform legislation passed at the end of 2017.

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Segment Results

Certain measurements of segment operations compared to last year are summarized below:

Industrial Segment

The following table presents net sales and operating earnings as a percentage of sales for the Industrial segment

(dollars in millions):

	Three Months Ended — Sep 28, 2018	Sep 29, 2017	Nine Months Ended — Sep 28, 2018	Sep 29, 2017
Net Sales
Americas	$ 78.6	$ 74.9	$ 232.1	$ 219.8
EMEA	58.1	52.1	174.7	146.1
Asia Pacific	59.2	51.5	174.7	143.8
Total	$ 195.9	$ 178.5	$ 581.5	$ 509.7
Operating earnings as a percentage of net sales	36 %	35 %	36 %	35 %

The following table presents the components of net sales change by geographic region for the Industrial segment:

	Three Months — Volume and Price	Acquisitions	Currency	Total	Nine Months — Volume and Price	Acquisitions	Currency	Total
Americas	5%	0%	0%	5%	5%	0%	1%	6%
EMEA	2%	10%	0%	12%	2%	11%	7%	20%
Asia Pacific	9%	8%	(2)%	15%	11%	7%	3%	21%
Segment Total	5%	5%	0%	10%	6%	5%	3%	14%

Industrial segment sales growth included $9 million for the quarter and $27 million for the year to date from acquired operations. Finishing systems sales and other project activity increased in the third quarter. Operating margin rates for the quarter and year to date increased from the comparable periods last year. Segment operating expenses for the quarter were flat compared to last year. For the year to date, the favorable effects of translation and volume more than offset the effects of purchase accounting and lower operating margins in acquired operations.

Process Segment

The following table presents net sales and operating earnings as a percentage of sales for the Process segment

(dollars in millions):

	Three Months Ended — Sep 28, 2018	Sep 29, 2017	Nine Months Ended — Sep 28, 2018	Sep 29, 2017
Net Sales
Americas	$ 53.5	$ 47.9	$ 159.5	$ 139.1
EMEA	13.8	12.4	43.2	41.2
Asia Pacific	17.3	13.4	47.0	36.8
Total	$ 84.6	$ 73.7	$ 249.7	$ 217.1
Operating earnings as a percentage of net sales	21 %	16 %	21 %	18 %

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The following table presents the components of net sales change by geographic region for the Process segment:

	Three Months — Volume and Price	Acquisitions	Currency	Total	Nine Months — Volume and Price	Acquisitions	Currency	Total
Americas	11%	1%	0%	12%	13%	1%	1%	15%
EMEA	11%	0%	0%	11%	(1)%	1%	5%	5%
Asia Pacific	32%	1%	(3)%	30%	25%	1%	2%	28%
Segment Total	15%	1%	(1)%	15%	12%	1%	2%	15%

The Process segment had sales growth in all product applications. Operating margin rates for this segment improved by 5 percentage points for the quarter and 3 percentage points for the year to date, driven by higher sales volume, gross margin rate improvement and expense leverage.

Contractor Segment

The following table presents net sales and operating earnings as a percentage of sales for the Contractor segment

(dollars in millions):

	Three Months Ended — Sep 28, 2018	Sep 29, 2017	Nine Months Ended — Sep 28, 2018	Sep 29, 2017
Net Sales
Americas	$ 103.8	$ 94.9	$ 311.3	$ 280.2
EMEA	22.4	22.3	74.6	65.6
Asia Pacific	9.3	10.5	29.8	27.3
Total	$ 135.5	$ 127.7	$ 415.7	$ 373.1
Operating earnings as a percentage of net sales	24 %	26 %	25 %	25 %

The following table presents the components of net sales change by geographic region for the Contractor segment:

	Three Months — Volume and Price	Acquisitions	Currency	Total	Nine Months — Volume and Price	Acquisitions	Currency	Total
Americas	8%	2%	(1)%	9%	9%	2%	0%	11%
EMEA	1%	0%	0%	1%	7%	0%	7%	14%
Asia Pacific	(9)%	0%	(3)%	(12)%	7%	0%	2%	9%
Segment Total	5%	1%	0%	6%	9%	1%	1%	11%

Increases in Contractor segment sales were led by double digit percentage increases in the home center channel in North America. A lower gross margin rate driven by channel mix, and spending related to product development and future new product introductions, led to a 2 percentage point decrease in operating margin rate for the quarter. Operating margin rates for the year to date were flat compared to last year. Favorable effects of currency translation were offset by increases in product development and volume and earnings-based incentive costs.

Liquidity and Capital Resources

Net cash provided by operating activities of $254 million included a $40 million voluntary cash contribution to one of the Company's U.S. qualified defined benefit retirement plans. Increases in accounts receivable and inventories reflect acquired operations and growth in business activity in the nine months ended September 28, 2018 . The Company used cash of $11 million in 2018 and $13 million in 2017 to acquire businesses that were not material to the consolidated financial statements. The Company used cash of $156 million in 2018 and $90 million in 2017 to repurchase shares of its common stock. Although the Company did not repurchase any shares in the third quarter, it intends to make additional opportunistic purchases going forward. Other significant uses of cash in 2018 included cash dividends of $67 million, and property, plant and equipment additions of $40 million. The Company has started building projects to increase production

and distribution capacity and is planning additional expansion projects that will require capital investments totaling between $100 million and $120 million over the next two years.

At September 28, 2018 , the Company had various lines of credit totaling $595 million, of which $551 million was unused. Internally generated funds and unused financing sources are expected to provide the Company with the flexibility to meet its liquidity needs in 2018 and 2019.

Outlook

Demand remains broad-based across products and geographies. We are holding to our outlook of mid-to-high single-digit organic sales growth on a constant currency basis worldwide for the full year 2018. Although we anticipate second half pressures from tariffs, material costs and currency, we are encouraged by the strong levels of demand in many of our key end markets. As a result, we believe Graco is well positioned to deliver another record year of sales and earnings in 2018.

Cautionary Statement Regarding Forward-Looking Statements

The Company desires to take advantage of the “safe harbor” provisions regarding forward-looking statements of the Private Securities Litigation Reform Act of 1995 and is filing this Cautionary Statement in order to do so. From time to time various forms filed by our Company with the Securities and Exchange Commission, including our Form 10-K, Form 10-Qs and Form 8-Ks, and other disclosures, including our 2017 Overview report, press releases, earnings releases, analyst briefings, conference calls and other written documents or oral statements released by our Company, may contain forward-looking statements. Forward-looking statements generally use words such as “expect,” “foresee,” “anticipate,” “believe,” “project,” “should,” “estimate,” “will,” and similar expressions, and reflect our Company’s expectations concerning the future. All forecasts and projections are forward-looking statements. Forward-looking statements are based upon currently available information, but various risks and uncertainties may cause our Company’s actual results to differ materially from those expressed in these statements. The Company undertakes no obligation to update these statements in light of new information or future events.

Future results could differ materially from those expressed due to the impact of changes in various factors. These risk factors include, but are not limited to: our Company’s growth strategies, which include making acquisitions, investing in new products, expanding geographically and targeting new industries; economic conditions in the United States and other major world economies; changes in tax rates or the adoption of new tax legislation: changes in currency translation rates; changes in laws and regulations; compliance with anti-corruption and trade laws; new entrants who copy our products or infringe on our intellectual property; risks incident to conducting business internationally; the ability to meet our customers’ needs and changes in product demand; supply interruptions or delays; security breaches; the possibility of asset impairments if acquired businesses do not meet performance expectations; political instability; results of and costs associated with litigation, administrative proceedings and regulatory reviews incident to our business; the possibility of decline in purchases from few large customers of the Contractor segment; variations in activity in the construction, automotive, mining and oil and natural gas industries; our ability to attract, develop and retain qualified personnel; and catastrophic events. Please refer to Item 1A of our Annual Report on Form 10-K for fiscal year 2017 for a more comprehensive discussion of these and other risk factors. These reports are available on the Company’s website at www.graco.com and the Securities and Exchange Commission’s website at www.sec.gov . 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.

Investors should realize that factors other than those identified above and in Item 1A might prove important to the Company’s future results. It is not possible for management to identify each and every factor that may have an impact on the Company’s operations in the future as new factors can develop from time to time.

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Item 3. Quantitative and Qualitative Disclosures About Market Risk

There have been no material changes related to market risk from the disclosures made in the Company’s 2017 Annual Report on Form 10-K.

Item 4. Controls and Procedures

Evaluation of disclosure controls and procedures

As of the end of the fiscal quarter covered by this report, the Company carried out an evaluation of the effectiveness of the design and operation of its disclosure controls and procedures. This evaluation was done under the supervision and with the participation of the Company’s President and Chief Executive Officer and the Chief Financial Officer and Treasurer. Based upon that evaluation, the Company's President and Chief Executive Officer and the Chief Financial Officer and Treasurer concluded that the Company’s disclosure controls and procedures are effective.

Changes in internal controls

During the quarter, there was no change in the Company’s internal control over financial reporting that has materially affected or is reasonably likely to materially affect the Company’s internal control over financial reporting.

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PART II OTHER INFORMATION

Item 1A. Risk Factors

There have been no material changes to the Company’s risk factors from those disclosed in the Company’s 2017 Annual Report on Form 10-K.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

Issuer Purchases of Equity Securities

On April 24, 2015, the Board of Directors authorized the Company to purchase up to 18,000,000 shares of its outstanding common stock, primarily through open-market transactions. The authorization is for an indefinite period of time or until terminated by the Board.

In addition to shares purchased under the Board authorizations, the Company purchases shares of common stock held by employees who wish to tender owned shares to satisfy the exercise price or tax due upon exercise of options or vesting of restricted stock.

No shares were purchased in the third quarter of 2018. As of September 28, 2018 , there were 5,305,541 shares that may yet be purchased under the Board authorization.

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Item 6. Exhibits

3.1	Restated Articles of Incorporation as amended December 8, 2017. ( Incorporated by reference to Exhibit 3.1 to the Company's Report on Form 8-K filed December 8, 2017. )
3.2	Restated Bylaws as amended February 14, 2014. (Incorporated by reference to Exhibit 3.2 to the Company’s 2013 Annual Report on Form 10-K.)
31.1	Certification of President and Chief Executive Officer pursuant to Rule 13a-14(a).
31.2	Certification of Chief Financial Officer and Treasurer pursuant to Rule 13a-14(a).
32	Certification of President and Chief Executive Officer and Chief Financial Officer and Treasurer pursuant to Section 1350 of Title 18, U.S.C.
99.1	Press Release Reporting Third Quarter Earnings dated October 24, 2018.
101	Interactive Data File.

SIGNATURES

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

GRACO INC.

Date:	October 24, 2018	By:	/s/ Patrick J. McHale
			Patrick J. McHale
			President and Chief Executive Officer
			(Principal Executive Officer)
Date:	October 24, 2018	By:	/s/ Mark W. Sheahan
			Mark W. Sheahan
			Chief Financial Officer and Treasurer
			(Principal Financial Officer)
Date:	October 24, 2018	By:	/s/ Caroline M. Chambers
			Caroline M. Chambers
			Executive Vice President, Corporate Controller and Information Systems
			(Principal Accounting Officer)

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