SECURITIES AND EXCHANGE COMMISSIONWashington, DC 20549



FORM 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE FISCAL YEAR ENDED DECEMBER 31, 2008

COMMISSION FILE NUMBER: 1-14097



SAUER-DANFOSS INC.(Exact name of registrant as specified in its charter)

Delaware

36-3482074(State or other jurisdiction of
incorporation or organization)

(I.R.S. Employer
Identification No.)250 Parkway Drive, Suite 270,
Lincolnshire, Illinois

60069(Address of principal executive offices)

(Zip Code)


(515) 239-6000(Registrant's telephone number, including Area Code)

Securities
registered pursuant to Section 12(b) of the Act:

Common Stock, par value $0.01 per share

New York Stock Exchange(Title of each class)

(Name of each exchange on which registered)


Securities registered pursuant to Section 12(g) of the Act:

None(Title of class)

Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act of
1933. Yes o    No ý

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 (the
"Act"). Yes o    No ý

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Act during the preceding
12 months (or for such shorter periods 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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not
be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K: ý

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

Large accelerated filer o

Accelerated filer ý

Non-accelerated filer o (Do not check if a smaller reporting company)

Smaller reporting company o


Indicate
by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Act): Yes o    No ý

The aggregate market value of the voting common stock of the registrant held by nonaffiliates based on the last sale price on June 30, 2008 was
$350,674,801. (The registrant does not have any other authorized common equity.)

As
of March 23, 2009 there were 48,299,630 shares of common stock, $0.01 par value, of the registrant outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Proxy Statement for the annual meeting of stockholders to be held June 11, 2009 are incorporated by reference into Part III.



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PART I

Item 1.    Business.

(a)   General Development of Business

Sauer-Danfoss Inc. (the Company), a U.S. Delaware corporation, and its predecessor organizations have been active in the mobile hydraulics industry
since the 1960s. Sauer-Danfoss is a global leader in the development, manufacture, and marketing of advanced systems for the distribution and control of power in mobile equipment. The Company designs,
manufactures, and markets hydraulic, electronic, electric, and mechanical components, as well as software and integrated systems that generate, transmit, and control power in mobile equipment.
Principal products are hydrostatic transmissions, gear pumps
and motors, orbital motors, hydrostatic steering units, proportional load-sensing valves, microprocessor controls, electric drives, and electrohydraulics. The Company sells its products to
original equipment manufacturers (OEMs) of highly engineered, off-road vehicles who use Sauer-Danfoss products to provide the hydraulic and electronic power for the propel, work, and
control functions of their vehicles. The Company's products are sold primarily to the agriculture, construction, road building, turf care, material handling, and specialty vehicle markets. The Company
conducts its business globally under the Sauer-Danfoss name.

During
2008 the Company signed a sales agreement to sell its alternating current (AC) electric motor business which sold products into the material handling market. This resulted in
expense of approximately $8.4 million recognized in 2008 which was reported in the Controls segment. The sale is expected to close in 2009. In early 2009, the Company decided that it would exit
the remaining operations included in its electric drives business unit.

(b)   Financial Information About Segments

The Company reports its operating segments based on its product lines of Propel, Work Function, and Controls. Propel products include hydrostatic transmissions
and related products that transmit the power from the engine to the wheel to propel a vehicle. Work Function products include steering motors as well as gear pumps and motors that transmit power for
the work functions of the vehicle. Products in the Controls segment include electrohydraulic controls, microprocessors, electric drives, and valves that control and direct the power of a vehicle.
Information about the Company's reportable segments defined by product lines is set forth in Note 18 in the Notes to Consolidated Financial Statements on pages F-37 through
F-39 of this report and is incorporated herein by reference.

(c)   Description of Business

Information regarding the Company's principal products, by segment, and the business in general is presented below. Information regarding sales by the Company's
segments and geographic regions is set forth in Note 18 in the Notes to Consolidated Financial Statements on pages F-37 through F-39, and is incorporated herein
by reference. No individual customer accounted for 10 percent or more of the Company's total net sales in 2008, 2007, or 2006.

Propel Segment

Hydrostatic Transmissions

Sauer-Danfoss designs, manufactures, and markets a range of closed circuit axial and bent axis piston hydrostatic transmissions for the
propulsion of mobile equipment in the Americas, Europe, and Asia-Pacific region. High-power (typically over 50 HP) and medium-power (typically 25 to 50 HP) applications for
hydrostatic transmissions manufactured by the Company include construction, road building, specialty, and agricultural mobile equipment. Light-power (typically 15 to 25 HP) and bantam-power (typically
under 15 HP) applications for hydrostatic transmissions manufactured by the Company include light agricultural and turf care mobile equipment. The Company manufactures these hydrostatic

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transmissions
at its facilities in Ames, Iowa; Sullivan, Illinois; Princeton, Kentucky; Freeport, Illinois; Neumünster, Germany; Dubnica nad Váhom, Slovakia;
Povazská Bystrica, Slovakia; Shanghai, China; and Osaka, Japan.

Open Circuit Piston Pumps

Sauer-Danfoss designs, manufactures, and markets open circuit piston pumps used to transform mechanical power from the engine to
hydraulic power for the various functions of the vehicle. The advantages of open circuit piston pumps compared to other types of pumps, such as vane or gear pumps, are the high degree of control
within the work function hydraulic system and the more efficient use of engine power. These products are designed and manufactured at facilities in Ames, Iowa and Dubnica nad Váhom,
Slovakia.

Work Function Segment

Open Circuit Gear Pumps and Motors

Sauer-Danfoss designs, manufactures, and markets a broad range of high-performance standard gear pumps and motors. Gear
pumps and motors are the most widely used type of mobile hydraulic pumps and motors in the industry. The Company manufactures gear pumps and motors at its Lawrence, Kansas; Bologna, Italy; and
Povazská Bystrica, Slovakia facilities.

Low Speed High Torque Motors

Sauer-Danfoss designs, manufactures, and markets a complete line of geroller and gerotor motors used for both propel and work functions
in all served markets. These motors are manufactured at the Company's Lawrence, Kansas, and Nordborg, Denmark, facilities.

Steering Units

Sauer-Danfoss designs, manufactures, and markets hydrostatic steering units to customers throughout the world. These steering units
convert steering wheel motion into hydraulic flow and pressure to provide steering motion for agricultural tractors, combines, turf care, marine, and earthmoving equipment. The Company manufactures
steering units in Nordborg, Denmark; Kolding, Denmark; Wroclaw, Poland; and Pune, India.

Controls Segment

Mobile Electronics

Sauer-Danfoss designs, manufactures and markets a portfolio of electronic controls, including microprocessor-based controllers (both
generic type to control any mobile machinery and specialized to control speed variability of Alternating Current electric motors), intelligent displays, joysticks and electronic sensors through its
electronic and mechatronic operations in Minneapolis, Minnesota; Älmhult, Sweden; Kaiserslautern, Germany; Neumünster, Germany; and Nordborg, Denmark. The software to
integrate all these components into systems is also developed by Sauer-Danfoss and licensed to customers to let them develop their own solutions in an easy-to-use, graphical
environment. Electronic controls and software are used by OEMs to network hydrostatic transmissions and work function hydraulics of mobile equipment into comfortable, safe and efficient
systems. The Company designed and manufactured Alternating Current (AC) electric motors and generators in Odense, Denmark in 2008 but is in the process of divesting this business in 2009.

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Control Valves

Sauer-Danfoss designs, manufactures and markets a variety of spool type control valves to meet its customers' needs, ranging from very
sophisticated electrohydraulic valves for highly sophisticated forestry and agricultural harvesting equipment, to very simple low cost valves for compact utility tractors. These products are
manufactured in facilities located in Caxias do Sul, Brazil; Nordborg, Denmark; Easley, South Carolina; and Pune, India.

The
Company also designs, manufactures and markets a complete line of cartridge valves and hydraulic integrated circuits in facilities located in Reggio Emilia, Italy; Hillsboro, Oregon;
Easley, South
Carolina; and Caxias do Sul, Brazil. Aerial lift platforms and road building equipment are significant users of cartridge valves.

Major Markets and Applications

Construction and Road
Building

Agriculture and Turf Care

Material Handling and
Specialty VehiclesChip spreaders

Combines

Industrial lift trucksConcrete pumps

Cotton pickers

Warehouse trucksConcrete saws

Detasselers

Logging equipmentCrawler dozers

Seeders

Marine equipmentCrawler loaders

Sprayers

Mining equipmentDitchers/trenchers

Harvesters

Oil field equipmentExcavators

Tractors

Railway maintenance vehiclesGrinders

Windrowers

Rough terrain fork liftsLandfill compactors

Commercial wide-area,

Self-propelled boom aerial liftsPavers

walk-behind mowers

Self-propelled scissor aerial liftsPlaners

Commercial zero-turn mowers

Snow groomersRollers

General turf maintenance

SweepersSkid steer loaders

equipment

Tree shakersTransit mixers

Lawn and garden tractors

Truck and bus fan drivesUtility tractorsWheel loaders


General Characteristics

Sauer-Danfoss sells both standard and customized products, with most products being built to order. With respect to some of the most
technologically demanding vehicles, such as those used in agriculture, forestry, construction, and road building, Sauer-Danfoss' engineers work closely with customers from design through manufacture
of the final product. The research and design phase, which is funded by the Company, can range from a few weeks to as long as four to six years for a major application. Once the design has been
accepted and the customer has placed an order, the manufacturing process typically takes only a few days.

Sauer-Danfoss
operates 23 manufacturing facilities in the Americas, Europe, and the Asia-Pacific region. The Company's decentralized manufacturing capabilities allow it to
adapt its products to local market needs and to provide flexibility to meet customer delivery requirements. The Company sells and distributes its products directly to large OEMs and serves
smaller OEMs through Company-owned sales companies or independent distributors.

In
accordance with standard industry practice for the mobile equipment industry, the Company warrants its products to be free from defects in material and workmanship. The warranty
period varies from one to three years, from the date of first use or date of manufacture, depending on the type of

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product
or, in some cases, the application. The Company's warranty expense has been less than two percent of net sales in each of the past three years.

Because
many of its products are designed and developed in conjunction with its customers' design teams to fit their specific needs and to minimize inventory levels, the Company
primarily manufactures products to order. The Company typically machines components with long lead times according to a sales forecast and machines certain unique components for specific customers
according to firm orders. Inventories at the Company's manufacturing sites consist primarily of raw materials and machined iron housings and components. Limited amounts of assembled finished units are
maintained in inventory at the manufacturing sites. Some of the Company's sales locations maintain inventory that consists primarily of finished units manufactured specifically for distribution to
customers in those locations.

The
Company does not accept orders subject to late delivery penalties. On occasion, the Company sells its products to government agencies, including those used for military applications,
but it does not design its products to meet specific government standards and usually only enters into contracts for the supply of commercial products. There are no government contracts of material
value to the Company.

Raw Materials

The Company purchases iron housings and components from various U.S., European, and Asian foundries and metal suppliers. The principal
materials used by the Company are iron, steel, brass, and aluminum. All materials used by the Company are generally available from a number of sources in quantities sufficient to meet current
requirements. The Company has a global supplier quality program that it uses to ensure all suppliers meet the Company's quality expectations.

Patents, Trademarks, and Licenses

The Company owns or licenses rights to approximately 735 patents and trademarks relating to its business. While the Company considers
its patents and trademarks important
in the operation of its business and in protecting its technology from being used by competitors, its business is not dependent on any single patent or trademark or group of related patents or
trademarks.

To
ensure worldwide availability of the Company's design of products, the Company has, in the past, licensed its technology to unaffiliated companies in certain countries. The Company
does not currently have any such license agreements in place. The Company currently has license agreements in place as part of joint ventures in which the Company participates to manufacture or
distribute the Company's technology.

Seasonality

Seasonal patterns in retail demand for agricultural, construction, road building, and turf care equipment sold by the Company's
customers result in variations in the volume and mix of products sold by the Company during various times of the year. Historically, the Company has higher sales levels in the first half of the year.
Seasonal demand must be estimated in advance, and products must be manufactured in anticipation of such demand in order to achieve efficient utilization of labor and production resources.

Working Capital

The Company has historically funded its working capital requirements through cash flow from operations and its various credit
facilities. As described in Note 19 in the Notes to the Consolidated Financial Statements on page F-39 of this report, the Company has agreed to borrow up to $490 million from Danfoss
A/S, the Company's majority shareholder. The proceeds of the borrowing will be used to refinance certain other credit facilities of the Company, as a result of which, the Company will become heavily
reliant on Danfoss A/S as its primary external source of working capital.

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Backlog

At December 31, 2008 the Company's backlog (consisting of accepted but unfilled customer orders primarily scheduled for delivery
during 2009) was $744 million, a decrease of 18 percent from December 31, 2007, excluding the impact of currency fluctuation. Historically, backlog comparisons have been a good
indicator of the Company's future business level, but the value of those comparisons depends on the degree to which customer ordering behavior remains constant from year to year. Customers can
increase, cancel, or reschedule orders, so some customers place orders in excess of their actual needs in order to ensure that adequate quantities will be available. In such a case, the customer may
ultimately cancel a portion of its order. The decrease in backlog reflects the sudden and dramatic downturn experienced in almost all markets and regions during the fourth quarter of 2008.

Competition

The mobile hydraulics industry is very competitive. Sauer-Danfoss competes based on technological product innovation, quality, and
customer service. The Company believes that to be successful over the long term, suppliers to mobile equipment manufacturers must have the ability to capitalize on the changing needs of the industry
by providing technological innovation, shorter product development times, and reduced manufacturing lead times at globally competitive price levels.



The closed circuit hydrostatic transmission market is highly concentrated and intensely competitive. There are a small number of
manufacturers of hydrostatic transmissions with which the Company competes worldwide that are not captive suppliers of OEMs. These include Bosch Rexroth AG, Eaton Corporation, and Linde AG. In
addition, the Company competes with alternative products, such as mechanical transmissions of other manufacturers.

The
Company competes with a number of smaller companies that typically offer a single, specialized product on a more limited geographic basis as a component of a closed circuit
hydrostatic transmission system.

In
terms of global supply of closed circuit hydrostatic transmissions, the Company believes it is the world leader in terms of product range, market share, and geographic coverage. Only
Bosch Rexroth AG offers similar geographic coverage.



The open circuit work function market is fragmented with a large number of suppliers of all types of products and with intensive
competition on pricing at the component level. There are approximately ten major companies that compete on a global basis, including Bosch Rexroth AG, Parker-Hannifin Corporation,
Casappa S.p.A. and Haldex, and in Japan, Shimadzu Corporation. The supply of standard gear pumps and motors is particularly fragmented with more than 50 companies worldwide in each respective
area. Most of these competitors have a limited product range and operate in a limited geographic market.



There are a limited number of competitors who can provide a complete line of low speed, high torque motors (LSHT). Competitors include
Eaton Corporation, Bosch Rexroth AG, White Drive Products, Parker-Hannifin Corporation, and M+S Hydraulic. This market is highly price-competitive and is growing, providing Sauer-Danfoss opportunity
to develop new products to increase market share.

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Hydrostatic steering units are provided to the market from more than ten competitors, the major ones being Eaton Corporation, Zhenjiang
Hydraulic Components Manufacturing Co., Ltd., Ognibene S.p.A., Bosch Rexroth, M+S Hydraulic and Parker-Hannifin Corporation. Sauer-Danfoss believes it has the largest European
market share for steering units and an increasing share globally. As steering systems grow and needs expand, Sauer-Danfoss is providing
electronic control of steering and complete electrical steering solutions to meet the growing demands of the steering market. Today, Sauer-Danfoss believes that it leads the industry in this direction
for steering technology.



In the mobile electronics market, which covers both propulsion and work function systems, there are few suppliers of propulsion system
controls and only three are worldwide competitors. The main competition in this area comes from major OEMs, who produce controls for their own use. In work function electrohydraulic valves and
electronic controls, there is a wide range of niche suppliers in limited geographic markets. In recent years larger companies have increasingly acquired these niche or regional suppliers and thereby
have improved their ability to offer integrated systems. The Company believes it is well positioned to establish itself as a technology leader in the work function and propel segments, as there is no
clearly established technology in this sector that is deemed to be an industry standard.



The control valves marketplace is fragmented with a large number of suppliers, most of which are focused on limited valve types or flow
ranges. Sauer-Danfoss provides a comprehensive line of both spool valves and cartridge valves to meet the specific needs of its customers. Competitors who provide partial lines include HydraForce,
Sterling Hydraulics, HUSCO International, Sun Hydraulics Corporation, Integrated Hydraulics Limited, Walvoil S.p.A., and Bosch Rexroth Oil Control S.p.A., plus many others. Complete
global control valve line competitors are limited to Parker-Hannifin Corporation, Bosch Rexroth AG, and Eaton Corporation. Sauer-Danfoss believes growth in this market will be higher than
historical levels related to its new product introductions and the implementation of new emissions regulations.

Research and Development

The Company's research and development expenditures during 2008, 2007, and 2006 were approximately $82.9 million,
$70.6 million, and $61.9 million, respectively.

Environmental Matters

In all countries in which it operates, the Company is subject to environmental laws and regulations concerning emissions to air,
discharge to waterways, and the generation, handling, storage, transportation, treatment, and disposal of waste materials. These laws and regulations are constantly evolving, and it is impossible to
predict accurately the effect they will have on the Company in the future. The regulations are subject to varying and conflicting interpretations and implementation. In some cases, compliance can only
be achieved by additional capital expenditures. The Company cannot accurately predict what capital expenditures, if any, may be required to comply with applicable environmental laws and regulations in
the future; however, the Company does not currently estimate that any future capital expenditures for environmental control facilities will be material. The Company is not currently subject to any
governmental remediation order, nor is the Company aware of any environmental issues that would have a materially adverse effect on the Company.

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Employees

As of December 31, 2008, 2007, and 2006 the Company had approximately 9,600, 9,800, and 9,200, employees, respectively. Of its
full-time employees at December 31, 2008, approximately 3,100 were located in the Americas with the remaining located in Europe and Asia. From time to time, the Company also retains
consultants, independent contractors, and temporary and part-time workers.

Financial Information about Geographic Areas

Information regarding the Company's net sales and long-lived assets by geographic area is set forth in Note 18 in
the Notes to Consolidated Financial Statements on pages F-37 through F-39 of this report, and is incorporated herein by reference.

Available Information

The Company maintains an internet website and the address of that site is http://www.sauer-danfoss.com. The Company provides access to its
annual report on Form 10-K, quarterly reports on
Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) of the Securities Exchange Act of 1934
through its internet website as soon as reasonably practicable after the Company electronically files such material with, or furnishes it to, the Securities and Exchange Commission (SEC). The SEC
maintains an internet website that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC. The address of the SEC site is http://www.sec.gov.

Item 1A.    Risk Factors.

The Company's business, financial condition, results of operations and cash flows can be affected by a number of factors, including but
not limited to those set forth below and elsewhere in this annual report on Form 10-K, any one of which could cause actual results to vary materially from recent results or from
anticipated future results.

Worldwide Economic Conditions

As has been widely reported, the financial markets in the U.S., Europe, and the Asia-Pacific region have been in a period
of severe disruption in recent months. The turbulence has been most immediately evident in the extreme tightening of credit markets, the resulting loss of liquidity, and historic drops in stock
prices. In response, governments around the world have taken unprecedented steps intended to minimize the depth and breadth of the crisis. Despite these efforts, it is impossible to predict the
duration or overall severity of the current economic disruption.

These
economic developments and governmental responses have adversely affected the Company's business, financial condition, and results of operations in a number of ways in late 2008,
and will likely continue to adversely impact the Company until the economic conditions improve. Continued worldwide financial turmoil could cause the Company's lenders to be unable to meet their
funding commitments under the Company's revolving credit facility. Tightening credit markets could also have a
material impact on the Company's customers and suppliers and their ability to finance their operations, which could result in a decrease in, or deferral of, orders for the Company's products or an
increase in the Company's cost of production. A prolonged economic slowdown, recession, or depression could similarly have a material and adverse impact on the Company's business, financial condition,
and results of operations.

To
the extent that global economies experience a significant long-term economic downturn, the Company's revenues could decline to the point that it may have to take additional
cost-saving measures to reduce fixed costs to a level that is in line with a lower level of sales and to stay in business long-term in a depressed economic environment. The Company experienced a
significant decline in the demand for its

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products
during the fourth quarter of 2008 as a result of the substantial deterioration in economic conditions. Many of the Company's customers are choosing to delay their purchases of the Company's
products. Customer spending on the Company's products is not discretionary, but the Company is unable to predict when an improvement in economic conditions will return to a level where customers will
increase their spending. Decreased demand for the Company's products could result in decreased revenues, profitability and cash flows and may impair the Company's ability to maintain operations and
fund obligations to others.

Credit Default; Dependence on Affiliate Borrowing

As a result of rapidly declining sales, significant goodwill impairment charges, the cost of a plant closure, and the cost of workforce
reductions, all related to the current worldwide economic downturn, the Company anticipates that it will not maintain compliance with the leverage ratio covenants in the Company's
long-term credit agreements when testing is completed after the end of the first quarter of 2009. As described in Note 19 in the Notes to the Consolidated Financial Statements on
page F-39 of this report, the Company has entered into a Credit Agreement with Danfoss A/S, the Company's majority stockholder, pursuant to which the Company intends to borrow sufficient funds
to refinance certain existing credit agreements to avoid a default.

In
borrowing significant funds from Danfoss A/S, the Company will become heavily dependent on Danfoss A/S for the Company's working capital and other funding needs. In light of the
Company's anticipated leverage ratios over at least the near term, the Company may not be able to borrow from sources other than Danfoss A/S on reasonable terms. If Danfoss A/S were unable to borrow
or otherwise generate sufficient funds to meet the Company's borrowing requirements or were to become unwilling to continue lending to the Company on favorable terms, the Company's business, results
of operations, and financial position could be materially and adversely affected.

Goodwill and Long-Lived Assets Impairment

If the price of the Company's stock remains depressed or does not increase to the point that market capitalization exceeds carrying
value, the Company may be required to perform interim impairment tests on goodwill or other long-lived assets. There may be other triggering events that also indicate that the carrying amount may not
be recoverable from future cash flows. If the Company determines that any goodwill or other long-lived asset amounts need to be written down to fair values, this could result in a charge that may be
material to the Company's operating results and financial condition.

International Operations

The Company depends on the strength of the economies in various parts of the world, particularly in the U.S. and Europe. As a result of
this worldwide exposure, net revenue and profitability may be harmed as a result of economic conditions in the major markets in which the Company operates, including, but not limited to, recessions,
inflation and deflation, general weakness in the agriculture, construction and specialty markets, changes in governmental laws and policies, and changes in consumer purchasing power.

Technology Change

The hydraulic industry and markets for component parts of mobile hydraulics are subject to technological change, evolving industry
standards, changing customer requirements and improvements in and expansion of product offerings. Although the Company believes that it has the technological capabilities to remain competitive,
technological advances or developments by competitors or others could result in the Company needing to make significant capital expenditures in order to remain competitive and to avoid material
adverse effects on its business, financial conditions and results of operations.

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Common Business System

The Company has implemented a common business system at the majority of its locations. Any significant problems incurred related to
operation of the system may delay or stop manufacturing and hinder the Company's ability to ship product in a timely manner or affect the Company's ability to access financial information. These
problems could result in the loss of customers, a decrease in revenue or significant costs to correct the problem.

Raw Material Availability

The Company purchases raw materials and component parts from suppliers to be used in the manufacture of products. Changes in
relationships with suppliers or increases in the costs of purchased raw materials including steel and other metals, and component parts could result in manufacturing interruptions, delays,
inefficiencies, or the inability to market products. In addition, profit margins would decrease if prices of purchased raw materials or component parts increase and the Company is unable to pass on
those increases to its customers. At the moment the market is highly competitive and prices are dropping to the levels experienced in 2007. This has to do with the worldwide economic situation and the
lack of demand for raw materials, especially from the automotive producers. It is expected that the raw material suppliers will reduce their output accordingly.

Pricing and Competitive Pressures from OEM Customers

A majority of the Company's sales are directly to OEM customers. OEM customers continue to use their positions as volume purchasers in
the mobile hydraulics market to obtain preferential pricing and to obtain substantial quality assurance protection from suppliers.

Currency Exchange Rates

The Company has a number of manufacturing sites throughout the world and sells products in several countries other than those where the
product is manufactured. As a result,
the Company has exposure to changing exchange rates between the various currencies in its customers' countries and the currencies in which the Company's manufacturing facilities are located. The
Company's most significant foreign currency exposures are the euro, Japanese yen, Polish zloty, Chinese yuan and Danish kroner. Exchange rate fluctuations between these currencies and against the U.S.
dollar or euro could adversely affect the Company's results of operations. The Company enters into forward contracts to reduce the impact of currency fluctuations on cash flows related to forecasted
sales denominated in currencies other than the functional currency of the selling location.

Cyclicality: Risks Associated with General Economic Conditions

The capital goods industry in general and mobile hydraulics industry in particular are subject to economic cycles. Cyclical downturns
have in the past had and could in the future have a material adverse effect on the demand for the Company's products and, consequently, on the Company's business, financial condition, and results of
operations. Demand for the Company's products is dependent upon the general condition of the off-highway mobile equipment industry which may be affected by numerous factors, including
levels of construction activity, weather conditions, interest rates and access to financing. The Company's results of operations are also subject to price competition and the cost of supplies and
labor, both of which are affected by general economic conditions. The Company derives substantial sales from cyclical industries, including the turf care, material handling, construction and
agricultural equipment industries. Periods of economic recession currently being experienced globally will likely cause a substantial decrease in the Company's net sales and have a material adverse
effect on the Company's business, financial condition and results of operations.

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Income Tax Estimates

The Company is subject to income taxes in the U.S. and numerous non-U.S. jurisdictions. Significant judgment is required in
determining the Company's worldwide provision for income taxes. In the ordinary course of business, there are many transactions and calculations where the ultimate tax determination is uncertain. The
Company is periodically under audit by tax authorities. Although management believes its tax estimates are reasonable, the final outcome of tax audits and any related litigation could be materially
different than that which is reflected in historical income tax provisions and accruals. If the outcome of a given tax audit or related litigation is materially different from the Company's estimates,
the determination could result in
material differences between the Company's originally reported income tax provision or net income and the final reported financial results.

Catastrophic Events

Unforeseen events, including war, terrorism and other international conflicts, public health issues, and natural disasters such as
earthquakes, hurricanes or other adverse weather and climate conditions, whether occurring in the U.S. or abroad, could disrupt the Company's operations, disrupt the operations of suppliers or
customers, or result in political or economic instability. These events could reduce demand for hydraulic and electric products and make it difficult or impossible for the Company to manufacture
products, deliver products to customers, or to receive products from suppliers.

The
foregoing list is not exhaustive. There can be no assurance that the Company has correctly identified and appropriately assessed all factors affecting the Company or that the
publicly available and other information with respect to these matters is complete and correct. Additional risks and uncertainties not presently known to the Company or that are currently believed to
be immaterial also may adversely impact the business. Should any risks or uncertainties develop into actual events, these developments could have a material adverse effect on the Company's business,
financial condition, and results of operations.

Item 2.    Properties.

Sauer-Danfoss Inc. conducts its manufacturing operations at 23 locations; eight in the United States, three each in Denmark and
Italy, two in Slovakia, and one each in Brazil, China, Germany, India, Japan, Poland, and Sweden. The Company leases approximately 15,000 square feet of office space in Lincolnshire,

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Illinois,
where its principal executive offices are located. The following table sets forth certain information relating to the Company's principal manufacturing facilities:

Location

Segment that Uses the Facility

Approx.
Area in
Sq. Ft.

Owned/LeasedUnited StatesAmes, Iowa

Propel


359,100

OwnedSullivan, Illinois

Propel


205,000

OwnedFreeport, Illinois

Propel


197,000

OwnedEasley, South Carolina

Controls


184,000

OwnedLawrence, Kansas

Work Function


157,500

OwnedMinneapolis, Minnesota

Controls


75,000

LeasedPrinceton, Kentucky

Propel


68,000

OwnedHillsboro, Oregon

Controls


60,000

LeasedSouth AmericaCaxias do Sul, Brazil

Controls


29,000

LeasedEuropeNordborg, Denmark

Work Function and Controls


870,000

LeasedNeumünster, Germany

Propel and Controls


421,500

OwnedPovazská Bystrica, Slovakia

Propel, Work Function and Controls


357,000

OwnedDubnica nad Váhom, Slovakia

Propel


251,000

OwnedWroclaw, Poland

Work Function


126,000

OwnedOdense, Denmark

Controls


121,500

LeasedBologna, Italy

Work Function


85,000

OwnedReggio Emilia, Italy

Controls


76,500

LeasedKolding, Denmark

Work Function


34,400

LeasedÄlmhult, Sweden

Controls


20,000

LeasedCento, Italy

Controls


3,500

LeasedIndiaPune, India

Work Function and Controls


63,500

OwnedAsiaShanghai/Pudong, China

Propel and Controls


105,000

LeasedOsaka, Japan

Propel


94,000

LeasedTotal




3,963,500


Item 3.    Legal Proceedings.

From time to time, the Company is involved in various legal matters considered normal in the course of its business. The Company
intends to vigorously defend against all such claims. It is the Company's policy to accrue for amounts related to these matters if it is probable
that a liability has been incurred and an amount can be reasonably estimated. Although the outcome of such matters cannot be predicted with certainty and no assurances can be given with respect to
such matters, the Company believes that the outcome of these matters in which it is currently involved will not have a materially adverse effect on its results of operations, liquidity, or financial
position.

Item 4.    Submission of Matters to a Vote of Security Holders.

The Company did not submit any matter to a vote of security holders, through a solicitation of proxies or otherwise, during the fourth
quarter of 2008.

12

---



EXECUTIVE OFFICERS OF THE COMPANY

The following table sets forth certain information regarding the executive officers of the Company:

Name

Age

Position

Year
AppointedSven Ruder(1)


51

President and Chief Executive Officer

2009Hans J. Cornett(2)


58

Executive Vice President and Chief Marketing Officer

2000Thomas K. Kittel(2)


60

Executive Vice President and President Propel Division

2000Henrik Krabsen(2)


47

Executive Vice President and President Work Function Division

2007Karl J. Schmidt(2)


55

Executive Vice President and Chief Financial Officer

2002Wolfgang Schramm(3)


54

Executive Vice President and President Controls Division

2007Ronald C. Hanson(2)


46

Vice PresidentHuman Resources

2003Kenneth D. McCuskey(2)


54

Vice President and Chief Accounting Officer, Secretary

2000Charles M. Cohrs(4)


46

Treasurer

2005


---

13

---





PART II

Item 5.    Market for the Company's Common Stock, Related Stockholder Matters and Company Purchases of Common Stock.

Market and Dividend Information

The Company's Common Stock is traded on the New York Stock Exchange. Prior to February 2006 the Company's common stock was also traded
on the Frankfurt (Germany) Stock Exchange. As of March 19, 2009 there were 200 stockholders of record.

The
Company paid a quarterly dividend in 2007 and 2008. Quarterly dividends are subject to Board of Directors approval. On March 13, 2009 the Board of Directors voted to suspend
the Company's quarterly dividend indefinitely, beginning with the dividend that would ordinarily have been declared during the first quarter of 2009.

The
following table sets forth the high and low prices on the New York Stock Exchange for the Company's Common Stock since January 1, 2007, and the quarterly cash dividends
declared in 2008 and 2007:

1st

2nd

3rd

4th

Full Year2008High

$
25.41

$
37.93

$
35.10

$
24.75

$
37.93Low

$
17.68

$
22.23

$
22.63

$
5.52

$
5.52Dividends

$
0.18

$
0.18

$
0.18

$
0.18

$
0.722007High

$
41.40

$
32.11

$
31.95

$
28.42

$
41.40Low

$
29.89

$
25.66

$
23.12

$
21.96

$
21.96Dividends

$
0.18

$
0.18

$
0.18

$
0.18

$
0.72


14

---



Performance Graph

The following graph shows a comparison of the cumulative total returns from December 31, 2003 to December 31, 2008, for
the Company, the Russell 2000 Index and the Hemscott, Inc.Diversified Machinery Index ("Hemscott Group Index"). The graph assumes that $100 was invested on December 31, 2003
in the Company's common stock, the Russell 2000 Index and the Hemscott Group Index, a peer group index, and that all dividends were reinvested.

GRAPHIC

15

---



Equity Compensation Plan Information

The following table summarizes, as of December 31, 2008, information about compensation plans under which equity securities of
the Company are authorized for issuance:

Plan Category

Number of Securities to
be Issued upon Exercise
of Outstanding Options,
Warrants and Rights
(a)

Weighted-Average
Exercise Price of
Outstanding Options,
Warrants and Rights
(b)

Number of Securities Remaining
Available for Future Issuance
under Equity Compensation
Plans (Excluding Securities
Reflected in Column(a))
(c)Equity compensation plans approved by security holders


704,330

$
0.00


4,393,082


The
Company does not have any equity compensation plans that were not approved by security holders. Refer to Note 13 in the Notes to the Consolidated Financial Statements on
pages F-33 through F-34 of this report for a description of the equity compensation plans.

Column
(a) includes performance units granted in 2006, 2007, and 2008. The extent to which the performance goals established for each grant are met will determine how many shares
of common stock are issued upon completion of the three-year performance period. Subsequent to December 31, 2008, the Company's Compensation Committee determined that the 2006
performance units would vest at 37.5 percent of the target levels, based on satisfaction of the performance criteria established when such units were awarded. Therefore, included in the above
amounts are the 2006 performance units at 37.5 percent and the 2007 and 2008 performance units at 100 percent of the target levels.

Column
(c) includes 1,330,511 shares available for future issuance under the Company's 1998 Long-Term Incentive Plan, 140,357 shares available for issuance under the
Company's Non-Employee Director Stock Option and Restricted Stock Plan, and 2,922,214 shares available for issuance under the Company's 2006 Omnibus Incentive Plan. Each of these plans
permits the Company to issue common stock at times other than upon the exercise of options, warrants, or rights; for example, issuance in the form of restricted stock grants.

16

---





Item 6.    Selected Financial Data.

SELECTED FINANCIAL DATA

2008

2007

2006

2005

2004(in millions except per share and employee data)Operating Data:Net Sales

$
2,090.5

$
1,972.5

$
1,739.1

$
1,547.8

$
1,404.2Gross profit


435.6


427.7


396.8


357.7


346.1Selling, general and administrative


258.5


233.8


215.6


217.1


200.2Research and development


82.9


70.6


61.9


58.7


51.9Impairment charges


58.2





1.5





Loss on disposal of businesses and asset disposal


9.6


9.4


1.7


1.4


2.1Total operating expenses


409.2


313.8


280.7


277.2


254.2Total interest expense, net


24.6


22.7


17.8


15.7


17.4Net income (loss)


(29.1
)

47.2


54.0


34.8


32.6Per Share Data:Income (loss) per common share, basic

$
(0.60
)
$
0.98

$
1.13

$
0.73

$
0.69Income (loss) per common share, diluted

$
(0.60
)
$
0.98

$
1.12

$
0.73

$
0.69Cash dividends declared per share

$
0.72

$
0.72

$
0.60

$
0.48

$
0.34Weighted average basic shares outstanding


48.2


48.1


47.7


47.5


47.4Weighted average diluted shares outstanding


48.2


48.3


48.2


47.8


47.5Balance Sheet Data:Inventories

$
326.7

$
318.8

$
272.3

$
238.9

$
241.6Property, plant and equipment, net


598.4


562.8


504.0


450.4


478.5Total assets


1,467.7


1,500.4


1,307.1


1,166.5


1,211.6Total debt


491.4


444.0


349.6


332.3


345.1Stockholders' equity


410.2


525.5


462.1


433.7


442.7Debt to total capital(1)


50.7
%

43.1
%

40.4
%

40.6
%

41.7
%Other Data:Backlog (at year-end)

$
743.7

$
921.4

$
631.0

$
504.2

$
467.4Depreciation and amortization


113.0


102.3


95.7


88.3


82.4Capital expenditures


198.6


135.6


116.2


95.2


79.3EBITDA(2)


175.6


212.6


207.6


172.3


170.2Cash flows from (used in):Operating activities


183.5


98.1


167.9


116.3


124.8Investing activities


(187.5
)

(122.2
)

(109.3
)

(93.3
)

(75.5
)Financing activities


4.7


22.1


(45.0
)

(20.1
)

(53.3
)


---

17

---





2008

2007

2006

2005

2004Cash flows from operating activities

$
183.5

$
98.1

$
167.9

$
116.3

$
124.8Increase (decrease) in working capital, excluding the effects of acquisitions
Accounts receivable, net


(71.7
)

38.5


24.5


4.8


30.8Inventories


16.8


36.6


14.2


24.9


23.5Accounts payable


14.5


(11.0
)

(27.2
)

13.3


(22.7
)Accrued liabilities


(23.6
)

1.5


(14.0
)

(17.6
)

(11.1
)Deferred income taxes and other


17.4


7.4


7.4





(8.8
)Interest expense, net


24.6


22.7


17.8


15.7


17.4Tax expense


14.1


18.8


17.0


14.9


16.3EBITDA

$
175.6

$
212.6

$
207.6

$
172.3

$
170.2


Item 7.    Management's Discussion and Analysis of Financial Condition and Results of Operations.

Safe Harbor Statement

This Management's Discussion and Analysis of Financial Condition and Results of Operations, as well as other
portions of this annual report on Form 10-K, contain certain statements that constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform
Act of 1995. Forward-looking statements provide current expectations of future events based on certain assumptions and include any statement that does not directly relate to any historical or current
fact. All statements regarding future performance, growth, sales and earnings projections, conditions or developments are forward-looking statements. Words such as "anticipates," "in the opinion,"
"believes," "intends," "expects," "may," "will," "should," "could," "plans," "forecasts," "estimates," "predicts," "projects," "potential," "continue," and similar expressions may be intended to
identify forward-looking statements.

Actual future results may differ materially from those described in the forward-looking statements due to a variety of factors. Readers should bear in mind that
past experience may not be a good guide to anticipating actual future results. The economies in the U.S., Europe, and Asia-Pacific are suffering from the shockwaves of the worldwide credit
crisis, continued weakness in the housing and residential construction markets, growing weakness in the commercial and public-sector construction markets, and uncertainty surrounding job creation,
interest rates, and crude oil prices. At this point, it appears that the worldwide economic downturn will continue throughout 2009. Any downturn in the Company's business segments could adversely
affect the Company's revenues and results of operations. Other factors affecting forward-looking statements include, but are not limited to, the following: specific economic conditions in the
agriculture, construction, road building, turf care, material handling and specialty vehicle markets and the impact of such conditions on the Company's customers in such markets; the cyclical nature
of some of the Company's businesses; the ability of the Company to win new programs and maintain existing programs with its original equipment manufacturer (OEM) customers; the highly competitive
nature of the markets for the Company's products as well as pricing pressures that may result from such competitive conditions; the continued operation and viability of the Company's significant
customers; the Company's execution of internal performance plans; difficulties or delays in manufacturing; cost-reduction and productivity efforts; competing technologies and difficulties
entering new markets, both domestic and foreign; changes in the Company's product mix; future levels of indebtedness and capital spending; the ability and willingness of Danfoss A/S, the Company's
majority stockholder, to lend money to the Company at sufficient levels and on terms favorable enough to enable the Company to meet its capital needs; the Company's ability to access the capital
markets or traditional credit sources to supplement or replace the Company's borrowings from Danfoss A/S if the need should arise; claims, including, without limitation, warranty claims, field
retrofit claims, product liability claims, charges or dispute resolutions; ability of suppliers to provide

18

---



materials as needed and the Company's ability to recover any price increases for materials in product pricing; the Company's ability to attract and retain key technical and other personnel; labor
relations; the failure of customers to make timely payment; any inadequacy of the Company's intellectual property protection or the potential for third-party claims of infringement; global economic
factors, including currency exchange rates; the sub-prime credit market crisis, credit market disruptions, and significant changes in capital market liquidity and funding costs affecting
the Company and its customers; general economic conditions, including interest rates, the rate of inflation, and commercial and consumer confidence; energy prices; the impact of new or changed tax and
other legislation and regulations in jurisdictions in which the Company and its affiliates operate; actions by the U.S. Federal Reserve Board and the central banks of other nations; actions by other
regulatory agencies, including those taken in response to the global credit crisis; actions by rating agencies; changes in accounting standards; worldwide political stability; the effects of terrorist
activities and resulting political or economic instability; natural catastrophes; U.S. military action overseas; and the effect of acquisitions, divestitures, restructurings, product withdrawals, and
other unusual events.

The Company cautions the reader that these lists of cautionary statements and risk factors may not be exhaustive. The Company expressly disclaims any obligation
or undertaking to release publicly any updates or changes to these forward-looking statements that may be made to reflect any future events or circumstances.

About the Company

Sauer-Danfoss Inc. and subsidiaries (the Company) is a worldwide leader in the design, manufacture, and sale of engineered
hydraulic and electronic systems and components that generate, transmit and control power in mobile equipment. The Company's products are used by original equipment manufacturers (OEMs) of mobile
equipment, including construction, road building, agricultural, turf care, material handling, and specialty equipment. The Company designs, manufactures, and markets its products in the Americas,
Europe, and the Asia-Pacific region, and markets its products throughout the rest of the world either directly or through distributors.

Executive Summary of 2008 Compared to 2007

The nature of the Company's operations as a global producer and supplier in the fluid power industry means the Company is impacted by
changes in local economies, including currency exchange rate fluctuations. In order to gain a better understanding of the Company's base results, a financial statement user needs to understand the
impact of those currency exchange rate fluctuations. The following table summarizes the change in the Company's results from operations by separately identifying changes due to

19

---



currency
fluctuations and the underlying change in operations from 2007 to 2008. This analysis is more consistent with how the Company's management internally evaluates results.

2007

Currency fluctuations

Underlying change

2008(in millions)Net Sales

$
1,972.5

$
85.0

$
33.0

$
2,090.5Gross Profit


427.7


21.9


(14.0
)

435.6% of Net Sales


21.7
%







20.8
%Selling, general and administrative


233.8


10.4


14.3


258.5Research and development


70.6


3.6


8.7


82.9Impairment charges








58.2


58.2Loss on sale of businesses and asset disposals


9.4


0.5


(0.3
)

9.6Total operating costs


313.8


14.5


80.9


409.2Operating income


113.9


7.4


(94.9
)

26.4% of Net Sales


5.8
%







1.3
%Net interest expense


(22.7
)

(0.9
)

(1.0
)

(24.6
)Other income (expense), net


(3.6
)

(2.3
)

6.8


0.9Income before taxes and minority interest


87.6


4.2


(89.1
)

2.7Minority interest


(21.6
)

(0.5
)

4.3


(17.8
)Income (loss) before taxes


66.0


3.7


(84.8
)

(15.1
)% of Net Sales


3.3
%







(0.7
)%Income tax expense


(18.8
)

(0.8
)

5.6


(14.0
)Net income (loss)

$
47.2

$
2.9

$
(79.2
)
$
(29.1
)


Net
sales for the year ended December 31, 2008 increased 2 percent compared to the year ended December 31, 2007, excluding the effects of currency.
Sales increased 3 percent excluding the effects of currency and divestitures. Excluding the effects of currency and divestitures, sales increased 3 percent in the Americas and
23 percent in Asia Pacific, while sales remained nearly level in Europe. Sales in the Propel segment were up 4 percent, sales in the Work Function segment increased 2 percent and
sales in the Controls segment increased 1 percent.

Gross
profit declined 3 percent during the year ended December 31, 2008, excluding the impact of currency. This decline is primarily driven by $11.2 million in
severance costs related to recent actions taken in response to the slowing economy, and a $10.4 million increase in field recall costs, primarily related to the Controls segment. During the
year ended December 31, 2007, the Propel and Controls segments incurred $10.4 million of restructuring costs primarily to relocate production lines to other production facilities within
the Company and remaining costs to close the LaSalle, Illinois plant.

Selling,
general and administrative costs increased 6 percent during 2008 when compared to the same period in 2007, excluding the effects of currency. This increase is primarily
attributed to $4.9 million of severance costs, and a $7.8 million increase in sales and marketing costs, excluding the impacts of currency, due primarily to the addition of a new sales
office in Russia, as well as increases in headcount earlier in 2008. Research and development costs increased 12 percent excluding the impacts of currency, primarily driven by increasing
product development, particularly in the Controls and Propel segments.

The
Company reported impairment charges of $58.2 million, consisting of goodwill impairment charges of $22.9 million and property, plant, and equipment impairment charges
of $35.3 million. The goodwill impairment related to the motors and steering reporting units within the Work Function segment and the electric drives reporting unit within the Controls segment.
It was incurred as a result of lower profitability in the reporting units than the Company had previously expected, and lower future expectations in certain end markets. The property, plant and
equipment impairment related to the Work

20

---



Function
segment and resulted from lower expectations related to the products produced within the asset group.

During
the year ended December 31, 2008 the Company signed an agreement to sell its alternating current (AC) electric motor business for the material handling market. In
connection with this transaction, which is expected to close in 2009, the Company incurred charges of $8.4 million in 2008. During the year ended December 31, 2007 the Company incurred a
loss of $6.6 million related to the sale of the direct current (DC) electric motor business located in Berching, Germany and a loss of $2.4 million on the sale of the assets and product
lines which were manufactured in Swindon, England. These activities were part of the Company's plan to divest of product lines that do not fit the Company's long-term strategic direction.

During
the year ended December 31, 2008, the Propel segment recorded a gain of $1.4 million related to the sale of the LaSalle, Illinois plant and the Controls segment
incurred $0.4 million of equipment write-off costs related to the closure of the facility in Hillsboro, Oregon.

Operating Results2008 Compared to 2007

Sales Growth by Market

The following table summarizes the Company's sales growth by market. The table and following discussion is on a comparable basis, which
excludes the effects of currency fluctuations.

Americas

Asia-Pacific

Europe

TotalAgriculture/Turf Care


4
%

3
%

22
%

10
%Construction/Road Building


(5
)

12


(11
)

(5
)Material Handling/Specialty


(13
)

77


(8
)

(5
)Distribution


9


14


0


7


Agriculture/Turf Care

Sales into the agriculture/turf care markets increased 10 percent during the year ended December 31, 2008 compared to
2007. Agriculture sales in Europe remained strong throughout 2008, but started to show signs of slowing towards the end of the year. Agriculture sales increased in the Americas due to strong commodity
prices, however they started to show signs of weakening late in 2008. Increased sales into the Americas agriculture market were offset by decreased sales into the turf care market, primarily driven by
the decline in housing starts and concerns regarding the slowing economic conditions.

Construction/Road Building

Sales into the construction/road building markets decreased 5 percent during 2008, with the majority of the decrease occurring
in the fourth quarter. The decrease is driven by an 11 percent decrease in the European market and a 5 percent decrease in the Americas market, both due to weakening economic conditions,
reduced housing starts, and customers' focus on reducing inventory levels. Asia-Pacific experienced a 12 percent increase due to strength in the Chinese road building market
throughout most of 2008, although this market began to show signs of weakening during the fourth quarter of 2008. Export sales out of the Asia-Pacific region also started to weaken during
the fourth quarter of 2008.

Material Handling/Specialty

Specialty vehicles are comprised of a variety of markets including forestry, material handling, marine, waste management and waste
recycling. Overall the material handling/specialty markets declined 5 percent, driven by declines in Europe and the Americas due to weak non-residential construction and reductions
in capital expenditures by rental companies. Sales through the third quarter of 2008 were level with 2007 but decreased in the fourth quarter as a result of the economic downturn. The decreases in

21

---



Europe
and the Americas were partly offset by strength in the Asia-Pacific region due primarily to a strong market for railway construction machines.

Distribution

Products related to all of the above markets are sold to distributors, who then serve smaller OEMs.

Order Backlog

The following table shows the Company's order backlog and orders written activity for 2007 and 2008, separately identifying the impact
of currency fluctuations.

2007

Currency fluctuation

Underlying change

2008(in millions)Backlog at December 31

$
921.4

$
(16.2
)
$
(161.5
)
$
743.7Orders written


2,214.8


77.8


(364.9
)

1,927.7


Total
order backlog at the end of 2008 was $743.7 million, compared to $921.4 million at the end of 2007. On a comparable basis, excluding the impact of
currency fluctuation, order backlog decreased 18 percent compared to 2007. New sales orders written for 2008 were $1,927.7 million, a decrease of 16 percent compared to 2007,
excluding the impact of currency fluctuations.

Backlog
information can vary as customers alter their sales order patterns. The 16 percent decrease in orders written in 2008 reflects the downturn experienced in almost all
markets and regions during the fourth quarter of 2008. This downturn is also reflected in our order backlog which declined 18 percent excluding the impacts of currency.

Business Segment Results

The following discussion of operating results by reportable segment relates to information as presented in Note 18 in the Notes
to Consolidated Financial Statements. Segment income is defined as the respective segment's portion of the total Company's net income, excluding net interest expense, income taxes, minority interest,
and global service expenses. Propel products include hydrostatic transmissions and related products that transmit the power from the engine to the wheel to propel a vehicle. Work Function products
include steering motors as well as gear pumps and motors that transmit power for the work functions of the vehicle. Controls products include electrohydraulic controls, microprocessors, electric
drives and valves that control and direct the power of a vehicle.

The
following table provides a summary of each segment's net sales and segment income, separately identifying the impact of currency fluctuations during the year.

2007

Currency fluctuation

Underlying change

2008(in millions)Net salesPropel

$
940.7

$
37.8

$
38.1

$
1,016.6Work Function


534.0


26.0


1.4


561.4Controls


497.8


21.2


(6.5
)

512.5Segment income (loss)Propel

$
146.6

$
8.3

$
1.9

$
156.8Work Function


(2.9
)

0.7


(63.5
)

(65.7
)Controls


17.7


0.0


(39.1
)

(21.4
)Global Services and other expenses, net


(51.1
)

(4.1
)

12.8


(42.4
)


22

---



Propel Segment

The Propel segment experienced a 4 percent increase in sales, excluding the effects of currency fluctuations, during 2008.
Segment income increased 1 percent during the same period. Segment income was negatively impacted by $2.3 million of severance costs, offset by a gain of $1.4 million related to
the sale of a building. Field recall costs increased $1.5 million during 2008 and administrative costs increased $3.5 million. Restructuring costs of $5.5 million were recorded
during 2007.

Work Function Segment

Sales in the Work Function segment increased slightly, excluding the effects of currency fluctuations, during the year ended
December 31, 2008. Sales increased 2 percent excluding the effects of both currency and the divestiture of product lines in Swindon, England in June 2007. Segment income was negatively
impacted by goodwill impairment charges of $17.4 million. These charges were incurred as a result of lower profitability in the motors and steering reporting units than the Company had
previously expected and lower future expectations in certain end markets. The Work Function segment incurred property, plant and equipment impairment charges of $35.3 million as a result of
lower expected cash flow related to the products produced within the motors asset group. Segment income was also negatively impacted by severance costs of $6.5 million as a result of recent
actions taken in response to the slowing economy.

Controls Segment

Sales in the Controls segment decreased 1 percent for the year ended December 31, 2008, excluding the effects of currency
fluctuations, compared to 2007. Segment income declined $33 million. This decrease is due to several factors, including an $8.4 million increase in field recall costs and a
$6.8 million increase in fixed overhead costs due to increases in production capacity. Also contributing to the decline in segment income was an additional $4.5 million of research and
development costs.

During
2008, the Controls segment recognized $8.4 million of charges related to the expected sale of the AC electric motor business for the material handling market in 2009,
goodwill impairment charges of $5.5 million, severance costs of $5.1 million, and a $0.4 million write-down of fixed assets related to the decision to close the
facility in Hillsboro, Oregon. During 2007, the Controls segment recognized a loss of $6.6 million related to the sale of the DC electric motor business and $3.2 million of costs to
reorganize the DC and AC electric motor business prior to the sale.

Global Services and other expenses, net

Segment costs in Global Services and other expenses, net, relate to internal global service departments, along with the operating costs
of the Company's executive office. Global services include such costs as consulting for special projects, tax and accounting fees paid to outside third parties, internal audit, certain insurance
premiums, and the amortization of intangible assets from certain business combinations. Global services and other expenses decreased $12.8 million excluding the impacts of currency, or
25 percent. This is primarily due to a $6.6 million reduction in incentive costs during the year ended December 31, 2008, a reduction of $4.6 million in costs associated
with the implementation of the Company's common business system, and a $5.1 million reduction in losses related to foreign currency transactions.

Income Taxes

The Company incurred income tax expense of $14.1 million on a loss of $15.1 million in 2008.

In
2008 the Company recorded $22.9 million for the impairment of goodwill, of which $18.8 million was not deductible for income tax purposes and therefore no tax benefit
was recorded on this expense. Valuation allowances and contingency reserves of $3.0 million were recorded as tax expense in 2008 which relates to impaired tax assets in the US, Italy and
Germany. Other non-deductible expenses and the world-wide earnings mix also impacted the 2008 effective tax rate.

23

---





Executive Summary of 2007 Compared to 2006

The following table summarizes the change in the Company's results from operations by separately identifying changes due to currency
fluctuations and the underlying change in operations from 2006 to 2007. This analysis is more consistent with how the Company's management internally evaluates results.

(in millions)

2006

Currency fluctuations

Underlying change

2007Net Sales

$
1,739.1

$
98.3

$
135.1

$
1,972.5Gross Profit


396.8


24.5


6.4


427.7% of Net Sales


22.8
%







21.7
%Selling, general and administrative


215.6


11.8


6.4


233.8Research and development


61.9


3.5


5.2


70.6Impairment charges


1.5





(1.5
)

Loss on sale of businesses and asset disposals


1.7





7.7


9.4Total operating costs


280.7


15.3


17.8


313.8Operating income


116.1


9.2


(11.4
)

113.9% of Net Sales


6.7
%







5.8
%Net interest expense


(17.8
)

(1.0
)

(3.9
)

(22.7
)Other expense, net


(5.7
)

(2.3
)

4.4


(3.6
)Income before taxes and minority interest


92.6


5.9


(10.9
)

87.6Minority interest


(21.6
)

0.2


(0.2
)

(21.6
)Earnings before taxes


71.0


6.1


(11.1
)

66.0% of Net Sales


4.1
%







3.3
%Income tax benefit (expense)


(17.0
)

(0.6
)

(1.2
)

(18.8
)Net income

$
54.0

$
5.5

$
(12.3
)
$
47.2


Net
sales for the year ended December 31, 2007 increased 8 percent compared to the year ended December 31, 2006, excluding the effects of currency. Sales increased
10 percent excluding the effects of currency and the divestitures of product lines in Swindon, England and the direct current (DC) motor business. Sales increased in all regions and segments.
Excluding the impacts of currency and divestitures, sales grew 14 percent in Europe, 13 percent in Asia Pacific, and 5 percent in the Americas. Sales in the Controls segment were
up 17 percent. Sales in the Propel and Work Function segments were up 8 percent.

Selling,
general and administrative costs increased 3 percent during 2007 when compared to the same period in 2006, excluding the effects of currency. This increase is primarily
attributed to $1.9 million costs related to the start-up of a European financial shared services center, as well as increasing headcount, particularly for sales and marketing
functions. Research and development costs increased $5.2 million excluding the impacts of currency, primarily driven by increasing product development, particularly in the Controls and Propel
segments.

During
the year ended December 31, 2007 the Company incurred a loss of $6.6 million related to the sale of the DC electric motor business located in Berching, Germany and a
loss of $2.4 million on the sale of the assets and product lines which were manufactured in Swindon, England. These activities were part of the Company's plan to divest of product lines that do
not fit the Company's long-term strategic direction.

During
the year ended December 31, 2007, the Propel and Controls segments incurred $10.4 million of restructuring costs primarily to relocate production lines to other
production facilities within the

24

---



Company
and remaining costs to close the LaSalle, Illinois plant. Restructuring charges incurred during the year ended December 31, 2006 were $13.5 million, primarily related to
restructuring in the Propel and Work Function segments.

Operating Results2007 Compared to 2006

Sales Growth by Market

The following table summarizes the Company's sales growth by market. The table and following discussion is on a comparable basis, which
excludes the effects of currency fluctuations.

Americas

Asia-Pacific

Europe

TotalAgriculture/Turf Care


2
%

4
%

15
%

6
%Construction/Road Building


(11
)

17


13


4Material Handling/Specialty


14


31


11


13Distribution


8


9


8


8


Agriculture/Turf Care

Sales into the agriculture/turf care markets increased 6 percent during the year ended December 31, 2007 compared to
2006. Agriculture sales in Europe continue to be strong as a result of strong markets and favorable commodity prices. Agriculture sales increased in the Americas due to strengthening commodity prices
resulting partly from rapidly expanding ethanol production. Increased sales into the Americas agriculture market were offset by decreased sales into the turf care market, primarily driven by the
decline in housing starts and concerns regarding the slowing economic conditions.

Construction/Road Building

Sales into the construction/road building markets increased 4 percent during 2007. The increase is driven by a 13 percent
increase in the European construction/road building market due primarily to strong economic conditions, as well as a 17 percent increase in Asia-Pacific due to continued strength in
the Chinese road building market. The increases in Europe and Asia-Pacific are offset by decreases in the Americas region, which is primarily the result of a reduction in new housing
starts.

Material Handling/Specialty

Specialty vehicles are comprised of a variety of markets including forestry, material handling, marine, waste management and waste
recycling. All regions contributed to the sales growth in the specialty markets. Growth in the forestry market, particularly in eastern Europe, and demand for aerial lifts in the Americas were major
contributors to the overall 13 percent increase in sales in 2007.

Distribution

Products related to all of the above markets are sold to distributors, who then serve smaller OEMs.

Order Backlog

The following table shows the Company's order backlog and orders written activity for 2006 and 2007, separately identifying the impact
of currency fluctuations.

(in millions)

2006

Currency fluctuation

Underlying increase

2007Backlog at December 31

$
631.0

$
50.4

$
240.0

$
921.4Orders written


1,906.8


121.6


201.8


2,230.2


25

---



Total
order backlog at the end of 2007 was $921.4 million, compared to $631.0 million at the end of 2006. On a comparable basis, excluding the impact of currency
fluctuation, order backlog increased 38 percent over 2006. New sales orders written for 2007 were $2,230.2 million, an increase of 11 percent over 2006, excluding the impact of
currency fluctuations.

Backlog
information can vary as customers alter their sales order patterns. The 11 percent increase in orders written in 2007 is reflective of the strong sales experienced during
the year and backlog remains strong at the end of the year with over $920 million of customer orders received for future delivery.

Business Segment Results

The following table provides a summary of each segment's net sales and segment income, separately identifying the impact of currency
fluctuations during the year.

(in millions)

2006

Currency fluctuation

Underlying change

2007Net salesPropel

$
839.3

$
32.7

$
68.7

$
940.7Work Function


471.4


35.0


27.6


534.0Controls


428.4


30.6


38.8


497.8Segment income (loss)Propel

$
111.8

$
6.1

$
28.7

$
146.6Work Function


16.5


1.1


(20.5
)

(2.9
)Controls


42.7


2.3


(27.3
)

17.7Global Services and other expenses, net


(60.6
)

(2.9
)

12.0


(51.1
)


Propel Segment

The Propel segment experienced an 8 percent increase in sales, excluding the effects of currency fluctuations, during 2007.
Segment income increased 26 percent during the same period. The Propel segment showed a 2 percentage point increase in operating profit margin during 2007. This increase is due partly to
a $3.3 million reduction in restructuring costs classified in cost of goods sold.

Work Function Segment

Sales in the Work Function segment increased 6 percent, excluding the effects of currency fluctuations, during the year ended
December 31, 2007. Despite the increase in sales, Work Function segment income decreased. Continued investment in a manufacturing improvement project in Denmark resulted in $4.1 million
of charges. Operational issues contributed an additional $5.5 million of costs due primarily to increased order fulfillment charges and costs associated with work stoppages in Denmark. The
weakening of the U.S. dollar during 2007 also had a negative impact on segment income as a result of product manufactured in euro-based countries and sold into the U.S. In March 2006, the
Company announced plans to discontinue production of certain product lines manufactured in the Swindon, England plant. Expense of $3.5 million was recognized during the year ended
December 31, 2006 related to asset impairment and future employee termination payments. During 2007, the assets and product lines which were manufactured in Swindon, England were sold, and a
loss on the sale of $2.4 million was recognized.

Controls Segment

Net sales in the Controls segment for the year ended December 31, 2007, excluding the effects of currency fluctuations,
increased 9 percent compared to 2006. Despite the increase in sales, segment income declined. The decline is mainly due to a loss of $6.6 million on the sale of the DC electric motor
business in March 2007 and $3.2 million of costs to reorganize the DC and AC electric motor business

26

---



prior
to the sale. Expediting and overtime costs of $9.6 million were also incurred due to increased demand for certain products in the Controls segment. Research and development costs
increased
$3.1 million excluding the impacts of currency due primarily to continued investment in new product development.

Global Services and other expenses, net

Global services and other expenses decreased $12.0 million excluding the impacts of currency, or 20 percent. This is
primarily due to a $7.4 million reduction in incentive costs during the year ended December 31, 2007, as well as a reduction of $2.5 million in costs associated with the
implementation of the Company's common business system.

Income Taxes

The Company's effective tax rate was 28.5 percent in 2007 compared to 24.0 percent in 2006.

The
increase in the effective tax rate in 2007 is primarily related to unrecognized tax benefits of $2.2 million related to the sale of foreign assets.

Market Risk

The Company is naturally exposed to various market risks, including changes in foreign currency exchange rates and interest rates.

Foreign Currency Changes

The Company has operations and sells its products in many different countries of the world and therefore, conducts its business in
various currencies. The Company's financial statements, which are presented in U.S. dollars, can be impacted by foreign exchange
fluctuations through both translation risk and transaction risk. Translation risk is the risk that the financial statements of the Company, for a particular period or as of a certain date, may be
affected by changes in the exchange rates that are used to translate the financial statements of the Company's operations from foreign currencies into U.S. dollars. Transaction risk is the risk from
the Company receiving its sale proceeds or holding its assets in a currency different from that in which it pays its expenses and holds its liabilities.

In
previous years, the Company had been well balanced between its U.S. and European operations because the Company generated its sales in the same region in which it incurred its
expenses, or shipped products between geographic regions on a balanced basis. However, in recent years the balance has shifted and the amount of sales made in U.S. dollars has increased, whereas the
production costs are in a currency other than the U.S. dollar, increasing the Company's exposure to transaction risk. In 2008 the Company sold a total of $193.7 million into the U.S. of product
that had been produced in European-based currencies compared to sales into Europe of $74.6 million of product produced in U.S. dollars. This imbalance had a significant impact on the results of
the Company. In 2008 the results were unfavorable as the dollar weakened in comparison to other currencies. The Company produces and sells its product in several regions of the world, however the U.S.
and European transactions comprise the majority of the imbalance between regions.

The
Company enters into forward contracts to minimize the impact of currency fluctuations on cash flows related to forecasted sales denominated in currencies other than the functional
currency of the selling location. The forecasted sales represent sales to both external and internal parties. Any effects of the forward contracts related to sales to internal parties are eliminated
in the consolidation process until the related inventory has been sold to an external party. The forward contracts qualify for hedge accounting and therefore are subject to effectiveness testing at
the inception of the contract and throughout the life of the contract. In 2008, as a result of hedge accounting for the forward contracts, the Company recognized an increase to net sales of
$7.8 million and other expense of $0.5 million. The fair

27

---



value
of forward contracts included on the balance sheet at December 31, 2008 was a net liability of $3.3 million.

The
Company is also impacted by translation risk in terms of comparing results from period to period. Fluctuations of currencies against the U.S. dollar can be substantial and therefore,
significantly impact comparisons with prior periods. Translation affects the comparability of both the income statement and the balance sheet. As shown in the table below, the translation impact on
net sales was significant in 2008 and 2007 due particularly to the strengthening of the euro against the U.S. dollar.

Percentage Sales Growth
Over Prior Year2008

2007

2006As Reported


6.0
%

13.4
%

12.4
%Without Currency Translation Impact


1.7


7.8


11.8


The
change in the exchange rate does affect the comparability of the balance sheet between 2008 and 2007 as the balance sheet accounts are translated at the exchange rate as of
December 31. The U.S. dollar strengthened 3 percent against the euro and the Danish kroner from December 31, 2007 to December 31, 2008. The strengthening of the dollar has
resulted in approximately 40 percent of the Company's total balance sheet being stated 3 percent lower than the prior year.

Interest Rate Changes

The Company uses interest rate swap agreements on a limited basis to manage the interest rate risk on the total debt portfolio. The
Company was a party to two interest rate swap agreements at December 31, 2008 with a combined notional amount of $34.0 million that require the Company to pay interest at a fixed rate
and receive interest at a variable rate. The fair value of the interest rate swap agreements is recorded as a liability of $1.9 million on the balance sheet at December 31, 2008, with
the offset recorded in accumulated other comprehensive income as the derivatives are accounted for using hedge accounting. The interest rate swap agreements mature in October 2010 and December 2011,
but are expected to be terminated in 2009 in connection with the refinancing discussed in the Liquidity and Capital Resource section that follows.

The
following table summarizes the maturity of the Company's debt obligations for fixed and variable rate debt (amounts in millions):

Fixed Rate
Debt(1)

Variable Rate
Debt2009

$
1.5

$
56.52010


145.7


167.92011


51.5


0.12012


1.2


0.12013


0.9


0.02014 and Thereafter


0.5


0.0Total

$
201.3

$
224.6






Liquidity and Capital Resources

The Company's principal sources of liquidity have been cash flow from operations and from its various credit facilities. The Company
historically has accessed diverse funding sources, including short-term and

28

---



long-term
unsecured bank lines of credit in the United States, Europe, and Asia, as well as the private debt markets in the United States as discussed in Note 7 in the Notes to
Consolidated Financial Statements.

The
Company determined, following the close of its 2008 fiscal year, that it would likely be unable to continue to meet the leverage ratio covenants in its various credit agreements as
of the end of the first quarter of 2009. To avoid a default under the credit agreements, the Company has entered into a Credit Agreement with Danfoss A/S on March 12, 2009, pursuant to which
the Company will have the ability to borrow up to $490 million (the "Danfoss Credit Agreement"). Danfoss A/S is the Company's majority stockholder. The Company intends to draw sufficient funds
under the Danfoss Credit Agreement to refinance or repay certain of the Company's borrowings prior to default under any of the Company's credit agreements. As a result of the Danfoss Credit Agreement,
the Company expects to have sufficient sources of liquidity to meet its future funding needs.

At
the time of filing this Annual Report on Form 10-K, the Company's multicurrency revolving credit facility remains outstanding. It provides up to $300 million
of unsecured credit through December 2010, as well as a 40 million euro (approximately $55.6 million) term loan which expires in July 2013. At December 31, 2008 the Company had
$201.9 million outstanding under the revolving credit facility. The Company is required to meet certain financial covenants under this facility as described in Note 7 in the Notes to
Consolidated Financial Statements. The Company was in compliance with the covenants at December 31, 2008.

If
the global economy deteriorates further, it will likely have an unfavorable impact on demand for the Company's products, and as a result, on the Company's operating cash flow. The
Company relies primarily on operating cash flow to provide for working capital needs of operations. However, as mentioned earlier, the Company has short-term and long-term debt
facilities available to assist in meeting cash flow requirements if needed. The Company believes that the combination of internally generated funds and present capital resources are more than
sufficient to meet cash requirements for 2009.

Cash Flows from Operations

Cash provided by operations was $183.5 million in 2008 compared with $98.1 million in 2007. Cash increased as a result of
a $71.7 million decrease in accounts receivable, excluding the effects of currency, due primarily to reduced sales levels at the end of 2008, as well as a $23.6 million increase in
accrued liabilities, excluding currency, driven in part by accruals for severance costs and field recall programs. These changes were offset by a $16.8 million increase in inventory levels at
the end of 2008 compared with the end of 2007, as well as discretionary pension contributions of $22.1 million.

Total
cash of the Company decreased $3.6 million from December 31, 2007 to December 31, 2008. At December 31, 2008 cash balances in China totaled
$18.5 million, a decrease of $1.0 million from December 31, 2007. The Company is paying dividends from its Chinese entities to the maximum extent possible under current
regulations; however, due to the nature of the governmental and other regulatory controls, it is difficult to move cash out of China for reasons other than payment for goods shipped into that country.
As the Company continues to consider expanding its manufacturing capabilities in low-cost regions, it will make every effort to utilize the cash balances in those regions to fund future
expansions. Total cash outside of China decreased by $2.6 million in 2008.

Cash Used in Investing Activities

Capital expenditures for 2008 totaled $198.6 million. The high level of capital expenditures was driven over the past year by
the need to add production capacity to address existing capacity constraints in a number of product lines. Although the downturn in business has changed the current capacity need, the Company believes
that the investment will serve the Company well when the economy starts to strengthen again.

29

---



Cash Used in Financing Activities

The Company paid quarterly dividends to stockholders totaling $34.7 million in 2008. In addition, the Company periodically makes
distributions to its minority interest partners from its various joint venture activities with distributions totaling $13.9 million in 2008. The distributions can vary from year to year
depending on the amount of undistributed earnings of the businesses and the needs of the partners. The Company borrowed an additional $48.3 million in 2008.

Contractual Cash Obligations

The majority of the Company's contractual obligations to make cash payments to third parties are for financing obligations. These
include future lease payments under both operating and capital leases. The following table discloses the Company's future commitments under contractual obligations as of December 31, 2008:

Contractual Cash Obligations(1)

Total

2009

2010

2011

2012

2013

2014 and
ThereafterLong-term debt(2)

$
425.9

$
58.0

$
313.6

$
51.6

$
1.3

$
0.9

$
0.5Interest on long-term debt(3)(4)


36.4


11.6


22.6


2.0


0.1


0.1


0.0Capital leases


19.2


1.5


1.3


1.1


1.1


0.8


13.4Operating leases


81.9


14.3


13.2


12.5


7.3


6.2


28.4Rental and service agreements with related person Danfoss A/S


57.1


9.1


9.1


9.1


9.1


8.9


11.8Total contractual cash obligations

$
620.5

$
94.5

$
359.8

$
76.3

$
18.9

$
16.9

$
54.1


---

The
following assumptions are used in the calculation of the contractual cash obligations:

The
$490 million credit agreement as discussed in Note 19 in the Notes to the Consolidated Financial Statements on page F-39 of this report requires the
Company to pay an upfront Facility Fee of 1.75 percent, or $8.6 million, as well as an annual commitment fee of 4 percent on any undrawn portion of the facility. This commitment
fee is expected to be approximately $3.8 million in 2009 and $3.7 million in 2010. These amounts are not included in the table above.

In
addition to the above contractual obligations, the Company has certain other funding needs that are non-contractual by nature, including funding of certain pension plans.
In 2009 the Company anticipates contributing $14.0 million to its pension and health benefit plans.

30

---



Other Matters

Critical Accounting Estimates

The SEC's guidance surrounding the disclosure of critical accounting estimates requires disclosures about estimates a company makes in
applying its accounting policies. However, such discussion is limited to "critical accounting estimates," or those that management believes meet two criteria: 1) the accounting estimate must
require a company to make assumptions about matters that are highly uncertain at the time the accounting estimate is made, and 2) different estimates that the company reasonably could have used
for the accounting estimate in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, could have a material impact on the presentation of
the company's financial condition, changes in financial condition or results of operations.

Besides
the estimates that meet the two criteria for a "critical estimate" above, the Company makes many other accounting estimates in preparing its financial statements and related
disclosures. All estimates, whether or not deemed critical, can affect the reported amounts of assets, liabilities,
revenues, and expenses as well as disclosures of contingent assets and liabilities. Estimates are based on experience and information available prior to the issuance of the financial statements.
Materially different results can occur as circumstances change and additional information becomes known, including estimates not deemed "critical" under the SEC's guidance.

The
discussion below should be read in conjunction with disclosures elsewhere in this discussion and in the Notes to the Consolidated Financial Statements related to estimates,
uncertainties, contingencies, and new accounting standards. Significant accounting policies are discussed in Note 1 to the Consolidated Financial Statements beginning on
page F-5. The development and selection of accounting estimates, including those deemed "critical," and the associated disclosures in this discussion, have been discussed by
management with the audit committee of the Board of Directors.

Inventory ValuationAs a manufacturer in the capital goods industry, inventory is a substantial portion of the assets of the Company,
amounting to
over 20 percent of total assets at December 31, 2008. The Company must periodically evaluate the carrying value of its inventory to assess the proper valuation. This includes recording
period adjustments as needed to 1) record expenses due to excess capacity, 2) provide for excess and obsolete inventory, and 3) ensure that inventory is valued at the lower of
cost or market. On a quarterly basis, management within each segment performs an analysis of the underlying inventory to identify the need for appropriate write-downs to cover each of these items. In
doing so, management applies consistent practices based upon historical data such as actual loss experience, past and projected usage, actual margins generated from trade sales of its products, and
finally its best judgment to estimate the appropriate carrying value of the inventory.

Warranty ProvisionsThe Company warrants its various products over differing periods depending upon the type of product and
application.
Consequently, the Company records liabilities for the estimated warranty costs that may be incurred under its basic warranty based on past trends of actual warranty claims compared to the actual sales
levels to which those claims apply. These liabilities are accrued at the time the sales of the products are recorded. Factors that affect the Company's warranty liability include the number of units
in the field currently under warranty, historical and anticipated rates of warranty claims on those units and the cost per claim to satisfy the Company's warranty obligation. The anticipated rate of
warranty claims is the primary factor impacting the Company's estimated warranty obligation. Each quarter, the Company reevaluates its estimates to assess the adequacy of its recorded warranty
liabilities and adjusts the amounts as necessary.

In
addition to its normal warranty liability, the Company, from time to time in the normal course of business, incurs costs to repair or replace defective products with a specific
customer or group of customers. The Company refers to these as "field recalls" and in these instances, the Company will record a specific provision for the expected costs it will incur to repair or
replace these products utilizing

31

---



information
from customers and internal information regarding the specific cost of materials and labor. Typically, field recalls are infrequent in occurrence, however, when they occur, field recalls
can be for a large number of units and quite costly to rectify. Because of the sporadic and infrequent nature of field recalls, and due to the range of costs associated with field recalls, the Company
cannot accurately estimate these costs at the time the products are sold. Therefore, these costs are recorded at the time information becomes known to the Company. As the field recalls are settled,
the Company relieves the specific liability related to that field recall. These specific field recall liabilities are reviewed on a quarterly basis.

Goodwill and Long-Lived Asset RecoveryA significant portion of the Company's total assets consist of property, plant and equipment
(PP&E) and definite life intangibles, as well as goodwill. Changes in technology or in the Company's intended use of these assets, as well as changes in the broad global economy in which the Company
operates, may cause the estimated period of use or the carrying value of these assets to change.

This
requires the Company to periodically assess the estimated useful lives of its assets in order to match, through depreciation and amortization, the cost of those assets with the
benefits derived over the period of usefulness. The useful lives of these assets can be shortened through greater use due to volume increases, rapidly changing technology such as the use of
electronics and computer-operated controls, and through inadequate maintenance. As of December 31, 2008 a ten percent change in the depreciable lives of the Company's assets would impact
depreciation expense by approximately $11.0 million. Despite management's best efforts to determine the appropriate useful lives of its equipment, certain situations may arise that lead to an
asset or group of assets becoming impaired, meaning their economic value becomes less than the value at which the Company is carrying the asset on its books. Examples of these situations are product
rationalization efforts or restructuring of manufacturing facilities. When these situations arise, the Company tests the assets for impairment and will write down the asset in the period when the
impairment becomes known. The Company determined that there was impairment in the long-lived assets of the motors asset group of $35.3 million in 2008. In addition, goodwill is tested for
impairment at least annually.

The
Company completes its annual goodwill impairment valuation on December 31 each year. The Company has identified eight reporting units that are either operating segments or one
level below operating segments. In performing the impairment valuation, the Company considers declines in market values, and reconciles the sum of the estimated fair values of its reporting units to
the Company's market value (based on its stock price), plus a reasonable control premium, which is estimated as that
amount which would be received to sell the Company as a whole in an orderly transaction between market participants.

When
testing for goodwill impairment, the Company performs a first step of the goodwill impairment test to identify a potential impairment. In doing so, the Company compares the fair
value of a reporting unit with its carrying amount. If the carrying amount of a reporting unit exceeds its fair value, goodwill may be impaired and a second step is performed to measure the amount of
any impairment loss. In the second step, the Company compares the implied fair value of reporting unit goodwill with the carrying amount of that goodwill. If the carrying amount of reporting unit
goodwill exceeds the implied fair value of that goodwill, an impairment loss is recognized in an amount equal to that excess. The implied fair value of goodwill is determined in the same manner that
the amount of goodwill recognized in a business combination is determined. The Company allocates the fair value of a reporting unit to all of the assets and liabilities of that unit, including
intangible assets, as if the reporting unit had been acquired in a business combination. Any excess of the value of a reporting unit over the amounts assigned to its assets and liabilities is the
implied fair value of goodwill. The Company determined that the implied fair value of goodwill for the motors, steering, and electric drives reporting units was less than their carrying values by
$22.9 million, which was recorded as a goodwill impairment charge in 2008.

32

---



Estimates
about fair value used in the first step of the goodwill impairment tests are calculated using an income approach based on the present value of future cash flows of each
reporting unit. The income approach has been supported by other valuation approaches, such as similar transaction and guideline analyses. Under the income approach, the Company determines fair value
based on estimated future cash flows of each reporting unit, discounted by an estimated weighted-average cost of capital, which reflects the overall level of inherent risk of a reporting unit and the
rate of return an outside investor would expect to earn. Determining the fair value of a reporting unit is judgmental in nature and requires the use of significant estimates and assumptions, including
revenue growth rates and operating margins, discount rates and future market conditions among others. Changes in economic and operating conditions impacting these assumptions could result in goodwill
impairments in future periods. At December 31, 2008 the Company had $86.1 million of goodwill related to its propel, valves and mobile electronics reporting units.

Given
the current economic environment and the uncertainties regarding the impact on the Company's business, there can be no assurance that the Company's estimates and assumptions
regarding the duration of the ongoing economic downturn, or the period or strength of recovery, made for purposes of the Company's goodwill impairment testing as of December 31, 2008 will prove
to be accurate predictions of the future. If the Company's assumptions regarding forecasted revenue or margin growth rates of certain reporting units are not achieved, or the Company's stock price
continues to decline, the Company may be required to record additional goodwill impairment charges in future periods, whether in connection with the next annual impairment test or if a triggering
event requires an earlier impairment test to be performed. It is not possible at this time to determine if any such future
impairment charge would result, or if it does, whether the charge would be significant. However, given recent downward movement in the Company's stock price during the first quarter of 2009, an
additional impairment charge may be recorded.

Valuation of Trade ReceivablesThe Company records trade receivables due from its customers at the time a sale is recorded in
accordance with its
revenue recognition policy. The future collectability of these amounts can be impacted by the Company's collection efforts, the financial stability of its customers, and the general economic climate
in which it operates. The Company applies a consistent practice of establishing an allowance for accounts that it believes may become uncollectible through reviewing the historical aging of its
receivables, looking at the historical losses incurred as a percentage of net sales, and by monitoring the financial strength of its customers. In addition, local customary practices have to be taken
into account due to varying payment terms being applied in various parts of the world where the Company conducts its business. If the Company becomes aware of a customer's inability to meet its
financial obligations (e.g., where it has filed for bankruptcy), the Company establishes a specific allowance for the potential bad debt to reduce the net recognized receivable to the amount it
reasonably believes will be collected. The valuation of trade receivables is performed quarterly.

Workers CompensationThe Company has an insurance policy to cover workers compensation claims in the United States, in which the Company
pays the
first $0.25 million per claim, per incident. The Company establishes its workers compensation reserve based on historic growth factors of claims and an estimate of incurred, but not reported
claims. This analysis is performed on a quarterly basis.

U.S. Health Care CostsThe Company self insures its U.S. health care costs for eligible employees and their qualified dependents with
exposure for
any one year, excluding prescription costs, limited to $0.2 million per individual. The Company establishes reserves for its health care cost based on historic claims data and an estimate of
incurred, but not reported claims. This analysis is performed on a quarterly basis.

PensionsThe Company has noncontributory defined benefit pension plans for a portion of its employees. In certain countries, such as
the United
States and the United Kingdom, these plans are funded with plan assets whereas in other countries such as Germany, the plans have historically been unfunded, which is customary. In 2007 the Company
started contributing to the German pension plans.

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The
measurement of the Company's pension obligations and costs is dependent on a variety of assumptions determined by management and used by the Company's actuaries. These assumptions include
estimates of the present value of projected future pension payments to all plan participants, taking into consideration the likelihood of potential future events such as salary increases and other
experience. These assumptions may have an effect on the amount and timing of future contributions. The plan trustee conducts an independent valuation of the fair value of pension plan assets.

The
assumptions used in developing the required estimates include the following key factors:

Discount rates

InflationSalary growth

Expected return on plan assetsRetirement rates

Mortality rates


The
Company bases the discount rate assumption on investment yields available at or near year-end on corporate long-term bonds rated AA. The inflation assumption
is based on an evaluation of external market indicators. The salary growth assumptions reflect the Company's long-term actual experience, the near-term outlook and assumed
inflation. The expected return on plan assets reflects asset allocations, investment strategy, and the views of investment managers and other large pension plan sponsors. Retirement and mortality
rates are based primarily on actual plan experience and standard industry actuarial tables, respectively. The effects of actual results differing from our assumptions are accumulated and amortized
over future periods and, therefore, generally affect recognized expense in such future periods.

The
Company's funding policy for the U.S. plans are to contribute amounts sufficient to meet the minimum funding requirement of the Employee Retirement Income Security Act of 1974, plus
any additional amounts the Company may deem to be appropriate. In 2009 the Company anticipates contributing $8.4 million to its U.S. plans, $2.0 million to its German plans, and
$0.5 million to its U.K. plans.

Postretirement Benefits Other Than PensionsThe Company provides postretirement health care benefits for certain employee groups in the
United
States. This plan is contributory and contains certain other cost-sharing features such as deductibles and coinsurance. The Company does not pre-fund this plan and has the
right to modify or terminate this plan in the future.

The
postretirement liability, which is determined on an actuarial basis, is recognized in the Company's Consolidated Balance Sheets and the postretirement expense is recognized in the
Consolidated Statements of Income. The Company must determine the actuarial assumption for the discount rate used to reflect the time value of money in the calculation of the accumulated
postretirement benefit obligation for the end of the current year and to determine the postretirement cost for the subsequent year. For guidance in determining this rate, the Company looks at
investment yield trends available near year-end on corporate bonds rated AA. In addition, the Company must determine the actuarial assumption for the health care cost trend rate used in
the calculation of the accumulated postretirement benefit obligation for the end of the current year and to determine the net periodic postretirement benefit cost for the subsequent year. As of
December 31, 2008 a one-percentage-point change in the assumed health care cost trend rate would impact
the expense recognized in 2008 by $0.2 million and would affect the postretirement benefit obligation by $3.1 million. In 2009 the Company anticipates contributing $3.1 million to
this plan.

Deferred Income Taxes and Valuation AllowancesTax regulations may require items to be included in the tax return at different times
than the items
are reflected in the financial statements. Some of the differences are permanent, such as expenses that are not deductible on a tax return, and some of the differences are temporary such as the rate
of depreciation expense. Temporary differences create deferred tax assets and liabilities. Deferred tax assets generally are attributable to items that can be used as a tax deduction or credit in a
tax return in future years but the amount has already been included as an expense in the financial statements. Deferred tax liabilities generally represent deductions that have been taken on

34

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the
tax return but have not been recognized as expense in the financial statements. Valuation allowances are recorded to reduce deferred tax assets when it is more likely than not that a tax benefit
will not be realized. Management believes it is more likely than not that the Company will realize the benefits of the net deferred tax assets reported on the consolidated balance sheets.

New Accounting Policies

In September 2006, the Financial Accounting Standard Board (FASB) issued Statement of Financial Accounting Standard (SFAS)
No. 157, "Fair Value Measurements" which clarifies the principle that fair value should be based on the assumptions that market participants would use when pricing an asset or liability. SFAS
No. 157 establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs
such as quoted prices in active markets; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as
unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions. The Company has adopted the provisions of SFAS No. 157 as of
January 1, 2008 for financial instruments. Although the adoption of SFAS No. 157 did not materially impact its consolidated financial condition, results of operations, or cash flow, the
Company is now required to provide additional disclosures as part of its consolidated financial statements which are included in Note 12 to the Consolidated Financial Statements beginning on
page F-31.

The
FASB issued SFAS No. 159, "The Fair Value Option for Financial Assets and Financial LiabilitiesIncluding an Amendment of FASB Statement No. 115" in
February 2007. SFAS No. 159 permits many financial instruments and certain other items to be measured at fair value at the option of the Company. The Company adopted SFAS No. 159 as of
January 1, 2008 with no impact on the consolidated financial statements.

SFAS
No. 141R "Business Combinations" replaces SFAS No. 141, and establishes requirements for recognition and measurement of identifiable assets acquired, liabilities
assumed, noncontrolling interest of the acquiree, goodwill acquired, and gain from bargain purchase. SFAS No. 141R was issued in December 2007 and applies prospectively to business combinations
for which the acquisition date is on or after the beginning of the annual reporting period beginning on or after December 15, 2008. The Company will adopt SFAS No. 141R in 2009.

The
FASB issued SFAS No. 160, "Noncontrolling Interests in Consolidated Financial Statementsan amendment of ARB No. 51" in December 2007. SFAS No. 160
was issued to improve the relevance, comparability, and transparency of financial information provided to investors by requiring all entities to report noncontrolling (minority) interests in
subsidiaries as equity in the consolidated financial statements. SFAS No. 160 is effective for fiscal years, and interim periods within those fiscal years, beginning on or after
December 15, 2008. The Company is currently evaluating the impact that SFAS No. 160 will have on its consolidated financial statements and disclosures.

SFAS
No. 161 "Disclosures about Derivative Instruments and Hedging Activitiesan amendment of FASB Statement No. 133" was issued by the FASB in March 2008. SFAS
No. 161 amends and expands disclosure requirements for derivative instruments in order to provide users of financial statements with an enhanced understanding of (i) how and why an
entity uses derivative instruments, (ii) how derivative instruments and related hedged items are accounted for under SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," and its related interpretations and (iii) how derivative instruments and related hedged items affect an entity's financial position, financial performance, and cash flows. SFAS
No. 161 is to be applied prospectively for the first reporting period beginning on or after November 15, 2008. The Company will include the expanded disclosures in its consolidated
financial statements beginning in 2009.

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In
May 2008, the FASB issued SFAS No. 162 "The Hierarchy of Generally Accepted Accounting Principles" which identifies the sources of accounting principles and the framework for
selecting the principles used in the preparation of financial statements for nongovernmental entities that are presented in conformity with generally accepted accounting principles in the United
States. SFAS No. 162 became effective on November 15, 2008, sixty days following approval by the Securities and Exchange Commission. Adoption of SFAS No. 162 did not have a
material effect on the Company's consolidated financial statements.

The
FASB issued FASB Staff Position (FSP) Emerging Issues Task Force (EITF) No. 03-6-1, "Determining Whether Instruments Granted in Share-Based Payment
Transaction Are Participating Securities" in June 2008. FSP
EITF 03-6-1 provides guidance on the calculation of earnings per share and indicates that all outstanding unvested share-based payment awards that contain rights to
nonforfeitable dividends or dividend equivalents are considered participating securities and therefore the two-class method should be applied in calculating basic and diluted earnings per
share. FSP EITF No. 03-6-1 is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008. The Company is
currently evaluating the impact that FSP EITF No. 03-6-1 will have on its consolidated financial statements.

Non-Audit Services of Independent Registered Public Accounting Firm

The Company's Independent Registered Public Accounting Firm, KPMG LLP, performed the following non-audit services
that have been approved by the Audit Committee of the Board of Directors: international tax planning and compliance services, expatriate tax services for persons not in a financial reporting oversight
role, and statutory audits and related matters.

Outlook

The worldwide recession and credit market turmoil is affecting all regions and markets that the Company operates in and serves.
Management expects sales to decline in virtually all regions and markets in 2009 compared to 2008 and does not expect an upturn before 2010. Management will be focused on cost reduction, conserving
cash and sizing the business for forecasted sales levels.

Item 7A.    Quantitative and Qualitative Disclosures about Market Risk.

Certain market risks are discussed on pages 27-28 of this report, and the other disclosure requirements are considered either
not applicable or not material.

Item 8.    Financial Statements and Supplementary Data.

The Consolidated Financial Statements, Report of Management, and Report of Independent Registered Public Accounting Firm are presented
on pages F-1 through F-42 of this report.

Item 9A.    Controls and Procedures.

Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures

At December 31, 2008 the Registrant carried out an evaluation under the supervision and with the participation of the
Registrant's management, including the Registrant's Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Registrant's disclosure controls and
procedures pursuant to Exchange Act Rule 13a-14. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that the Registrant's disclosure
controls and procedures are effective.

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Management's Report on Internal Control Over Financial Reporting

The Registrant's management is responsible for establishing and maintaining a system of internal controls over financial reporting, as
such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). This system is augmented by written policies and procedures, careful selection and training of
financial management personnel, a continuing management commitment to the integrity of the system, and examinations by an internal audit function that coordinates its activities with the Registrant's
Independent Registered Public Accounting Firm. Because of its inherent limitations, however, even the best internal control over financial reporting may not prevent or detect misstatements. It is also
important to note that controls that are effective at a particular point in time may become ineffective at a later time due to changed conditions that may require new or modified controls or due to a
deterioration in compliance with the controls. There were no changes in the Registrant's internal control over financial reporting during the fourth quarter that have materially affected, or are
reasonably likely to materially affect, the Registrant's internal control over financial reporting.

Under
the supervision and with the participation of the Registrant's management, including the Registrant's Chief Executive Officer and Chief Financial Officer, the Registrant conducted
an evaluation of the effectiveness of the Registrant's internal controls over financial reporting based on the framework in Internal ControlIntegrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission (COSO). Based on the Registrant's evaluation under the framework in Internal ControlIntegrated Framework, the Registrant's management
concluded that its internal control over financial reporting was effective as of December 31, 2008.

KPMG
LLP, an independent registered public accounting firm has audited the consolidated financial statements included in this Annual Report on Form 10-K and, as a part of the
audit, has issued their report, included in Item 8, on the effectiveness of the Registrant's internal control over financial reporting.

Attestation Report of Independent Registered Public Accounting Firm

The attestation report required under this item is contained in Item 8 of this Annual Report on Form 10-K.

PART III

Item 10.    Directors, Executive Officers and Corporate Governance

Information regarding directors of the Company is set forth under the section entitled "ELECTION OF DIRECTORS" of the Company's Proxy
Statement for the annual meeting of stockholders to be held June 11, 2009 (the "Proxy Statement"), and is incorporated herein by reference. Information regarding executive officers of the
Company is set forth in Part I of this report under the caption "Executive Officers of the Company." Information regarding the Company's code of conduct and code of ethics is set forth under
the section entitled "GOVERNANCE OF THE COMPANYCode of Conduct and Code of Ethics" of the Proxy Statement, and is incorporated herein by reference. Information regarding the Company's
audit committee is set forth under the section entitled "GOVERNANCE OF THE COMPANYAudit Committee" of the Proxy Statement and is incorporated herein by reference. Copies of the Worldwide
Code of Legal and Ethical Business Conduct and the Code of Ethics for Chief Executive Officer, Chief Financial Officer, Principal Accounting Officer or Controller and other Senior Financial Staff are
posted on the Company's website at http://ir.sauer-danfoss.com, and printed copies of such codes may be obtained, without charge, by written request addressed to Kenneth D. McCuskey, Corporate
Secretary, 2800 E. 13th Street, Ames, Iowa 50010.

The
Company's Audit Committee Charter, Compensation Committee Charter, and Corporate Governance Guidelines are posted on the Company's website set forth in the preceding paragraph. Also,

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printed
copies of such charters and guidelines may be obtained, without charge, by sending a written request to the Corporate Secretary at the address set forth in the preceding paragraph.

Item 11.    Executive Compensation

Information as to Executive Compensation is set forth under the section entitled "EXECUTIVE COMPENSATION" of the Proxy Statement, and
is incorporated herein by reference. Information regarding compensation committee interlocks is set forth under the section entitled "Compensation Committee Interlocks and Insider Participation" of
the Proxy Statement, and is incorporated herein by reference. The Company's compensation committee's report is set forth under the section entitled "Compensation Committee Report" of the Proxy
Statement, and is incorporated herein by reference.

Item 12.    Security Ownership of Certain Beneficial Owners and Management

Information regarding securities authorized for issuance under equity compensation plans is set forth in Part II on
page 16 of this report. Information regarding security ownership is set forth under the section entitled "SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT" of the Proxy Statement,
and is incorporated herein by reference.

Item 13.    Certain Relationships and Related Transactions

In connection with the acquisition of Danfoss Fluid Power in May 2000 and the acquisition of additional assets and business operations
of the fluid power business of Danfoss A/S in January 2001, the Company has entered into several agreements with Danfoss A/S to purchase ongoing operational services from Danfoss A/S. Information
regarding these relationships and agreements, in addition to other related person transactions, is set forth in Note 15 in the Notes to Consolidated Financial Statements on
pages F-35 of this report, and is incorporated herein by reference.

On
March 12, 2009, the Company entered into a Credit Agreement with Danfoss A/S, which provides the Company with a revolving line of credit in the amount of $490 million
(the "Danfoss Credit Agreement"). On December 9, 2008 the Company borrowed $50 million under a term loan from Danfoss A/S. Information regarding these relationships and loan transactions
is set forth in Notes 7 and 15 in the Notes to Consolidated Financial Statements on pages F-18 through F-20 and F-35 through F-36 of this report,
respectively, and is incorporated herein by reference.

To
facilitate the redemption of the Company's outstanding U.S. 2000 Senior Notes in the principal amount of $24 million, described in Note 7 in the Notes to the
Consolidated Financial Statements on pages F-18 through F-20, the Company entered into an additional short-term, $25 million loan agreement with
Danfoss A/S on March 12, 2009. The loan is unsecured, bears interest at an annual rate of 3.98%, and matures on March 25, 2009. On March 13, 2009 the Company used the proceeds of
the $25 million term loan to redeem the U.S. 2000 Senior Notes. The Company intends to repay the bridge loan with proceeds drawn under the Danfoss Credit Agreement.

Additional
information regarding related person transactions is set forth under the section entitled "GOVERNANCE OF THE COMPANYTransactions with Related Persons" of the
Proxy Statement, and is incorporated herein by reference. Information about the independence of the Company's directors is set forth in the Proxy Statement under the section entitled 'GOVERNANCE OF
THE COMPANY' under the subheadings 'Board of Directors' and 'Basis for Board Determination of Independence of Directors', and is incorporated herein by reference.

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Item 14.    Principal Accountant Fees and Services

Information regarding accounting services and fees is set forth under the section entitled "RATIFICATION OF APPOINTMENT OF INDEPENDENT
REGISTERED PUBLIC ACCOUNTING FIRM" of the Proxy Statement, and is incorporated herein by reference.

PART IV

Item 15.    Exhibits and Financial Statement Schedules.



Exhibit No.

Description of Document3.1

The Amended and Restated Certificate of Incorporation of the Company dated July 10, 2008, is attached as Exhibit 3.1 to the Company's Form 8-K filed on July 11, 2008, and is incorporated herein by
reference.3.2

The Amended and Restated Bylaws of the Company dated July 10, 2008, are attached as Exhibit 3.2 to the Company's Form 8-K filed on July 11, 2008, and are incorporated herein by reference.4

The form of Certificate of the Company's Common Stock, $.01 Par Value, is attached as Exhibit 4 to the Company's Form 10-Q filed on August 16, 2000 and is incorporated herein by reference.10.1(a)

The Registration Rights Agreement is attached as Exhibit 10.1(b) to Amendment No. 1 to the Company's Form S-1 Registration Statement filed on April 23, 1998, and is incorporated herein by
reference.


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Exhibit No.

Description of Document10.1(b)

The form of Indemnification Agreement entered into between the Company and each of its directors and certain officers is attached as Exhibit 10.1(c) to Amendment No. 1 to the Company's Form S-1 Registration
Statement filed on April 23, 1998, and is incorporated herein by reference.10.1(c)

The Lease Agreement for the Company's Osaka, Japan, facility is attached as Exhibit 10.1(d) to the Company's Form 10-K filed March 14, 2005, and is incorporated herein by reference.10.1(d)

The Lease Agreement for the Company's Minneapolis, Minnesota, facility is attached as Exhibit 10.1(h) to Amendment No. 1 to the Company's Form S-1 Registration Statement filed on April 23, 1998, and is
incorporated herein by reference.10.1(e)

Amendment No. 1 to the Lease Agreement for the Company's Minneapolis, Minnesota facility, effective March 1, 2003, is attached hereto.10.1(f)

Amendment No. 2 to the Lease Agreement for the Company's Minneapolis, Minnesota facility, effective March 28, 2007, is attached hereto.10.1(g)

The Lease Agreement for the Company's Shanghai/Pudong, China, facility is attached as Exhibit 10.1(j) to Amendment No. 1 to the Company's Form S-1 Registration Statement filed on April 23, 1998, and is
incorporated herein by reference.10.1(h)

The Lease Agreement for the Company's Odense, Denmark, facility dated November 15, 1996, is attached as Exhibit 10.1(h) to the Company's Form 10-K filed on March 12, 2003, and is incorporated herein by
reference.10.1(i)

The Indenture of Lease agreement for the Company's Nordborg, Denmark, facility effective May 3, 2000, is attached as Exhibit 10.1(ah) to the Company's Form 10-K filed on March 30, 2001, and is
incorporated herein by reference.10.1(j)

The Lease Agreement for the Company's Hillsboro, Oregon, facility effective January 19, 2001, is attached as Exhibit 10.1(ai) to the Company's Form 10-K filed on March 30, 2001, and is incorporated
herein by reference.10.1(k)

The Lease Agreement for the Company's leased facility in Ames, Iowa, effective April 1, 2002, is attached as Exhibit 10.1(am) to the Company's Form 10-Q filed on May 15, 2002, and is incorporated
herein by reference.10.1(l)

The Office Lease for the Company's Chicago, Illinois, Executive Office effective June 1, 2002, is attached as Exhibit 10.1(an) to the Company's Form 10-Q filed on May 15, 2002, and is incorporated
herein by reference.10.1 (m)

The Lease Agreement for the Company's leased facility in Caxias do Sul, Brazil, effective July 1, 2007, is attached as Exhibit 10.1(l) to the Company's Form 10-K filed on March 11, 2008, and is
incorporated herein by reference.10.1 (n)

The Lease Agreement for the Company's leased facility in Reggio Emilia, Italy, effective October 1, 2003, is attached as Exhibit 10.1(m) to the Company's Form 10-K filed on March 11, 2008, and is
incorporated herein by reference.10.1(o)

The Executive Employment Agreement with David J. Anderson dated January 1, 2003, is attached as Exhibit 10.1(m) to the Company's Form 10-K filed on March 12, 2003, and is incorporated herein by
reference.10.1(p)

The Employment Contract effective as of January 1, 2009 by and between Sauer-Danfoss GmbH & Co. OHG and Sven Ruder is attached as Exhibit 10.2 to the Company's Form 8-K filed on
January 21, 2009, and is incorporated herein by reference.10.1(q)

The Executive Employment Agreement with Karl J. Schmidt dated December 15, 2008 and effective December 31, 2008, is attached hereto.10.1(r)

The Employment Contract by and between Sauer-Danfoss GmbH & Co. OHG and Hans J. Cornett dated December 12, 2008, is attached hereto.10.1(s)

The Employment Contract by and between Sauer-Danfoss GmbH & Co. OHG and Thomas Kittel dated January 23, 2009, is attached hereto.


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Exhibit No.

Description of Document10.1(t)

The Executive Employment Agreement with Henrik Krabsen dated December 15, 2008 and effective December 31, 2008, is attached hereto.10.1(u)

The Executive Employment Agreement with Kenneth D. McCuskey dated December 15, 2008 and effective December 31, 2008, is attached hereto.10.1(v)

The Executive Employment Agreement with Ronald C. Hanson dated December 15, 2008 and effective December 31, 2008, is attached hereto.10.1(w)

The Executive Employment Agreement with Wolfgang Schramm dated December 15, 2008 and effective December 31, 2008, is attached hereto.10.1(x)

The Consulting Agreement with Klaus Murmann dated May 5, 2004, is attached as Exhibit 10.1(z) to the Company's Form 10-Q filed on August 6, 2004, and is incorporated herein by reference.10.1(y)

The Amended and Restated Post-Retirement Care Agreement for Klaus Murmann, effective May 3, 2000, is attached as Exhibit 10.1(s) to the Company's Form 10-Q filed on August 16, 2000, and is incorporated
herein by reference.10.1(z)

The Sauer-Danfoss Inc. Annual Management Performance Incentive Plan amended and restated as of December 29, 2008, is attached hereto.10.1(aa)

The European Employees' Pension Plan is attached as Exhibit 10.1(y) to Amendment No. 1 to the Company's Form S-1 Registration Statement filed on April 23, 1998, and is incorporated herein by
reference.10.1(ab)

The Sauer-Danfoss Inc. 1998 Long-Term Incentive Plan is attached as Exhibit 10.1(p) to Amendment No. 1 to the Company's Form S-1 Registration Statement filed on April 23, 1998, and is incorporated
herein by reference.10.1(ac)

The Amendment, effective May 3, 2000, to the Sauer-Danfoss Inc. 1998 Long-Term Incentive Plan referred to in 10.1(ab) above is attached as Exhibit 10.1(v) to the Company's Form 10-Q filed on
August 16, 2000, and is incorporated herein by reference.10.1(ad)

The Amendment to the Sauer-Danfoss Inc. 1998 Long-Term Incentive Plan effective December 4, 2002, is attached as Exhibit 10.1(bd) to the Company's Form 10-K filed on March 12, 2003, and is
incorporated herein by reference.10.1(ae)

The Second Amendment to Sauer-Danfoss Inc. 1998 Long-Term Incentive Plan is attached as Exhibit 10 to the Company's Form 8-K filed on August 24, 2006, and is incorporated herein by
reference.10.1(af)

The Sauer-Danfoss Inc. Non-employee Director Stock Option and Restricted Stock Plan is attached as Exhibit 10.1(q) to Amendment No. 1 to the Company's Registration Statement filed on April 23, 1998,
and is incorporated herein by reference.10.1(ag)

The Amendment, effective May 3, 2000, to the Sauer-Danfoss Inc. Non-Employee Director Stock Option and Restricted Stock Plan referred to in 10.1(af) above is attached as Exhibit 10.1(x) to the Company's
Form 10-Q filed on August 16, 2000, and is incorporated herein by reference.10.1(ah)

The Amendment to the Sauer-Danfoss Inc. Non-Employee Director Stock Option and Restricted Stock Plan effective December 4, 2002, is attached as Exhibit 10.1(ak) to the Company's Form 10-K filed on
March 12, 2003, and is incorporated herein by reference.10.1(ai)

The Trademark and Trade Name Agreement dated May 3, 2000, between the Company and Danfoss A/S is attached as Exhibit 10.1(ac) to the Company's Form 10-Q filed on August 16, 2000, and is incorporated
herein by reference.10.1(aj)

The Stock Exchange Agreement dated January 22, 2000, by and among the Registrant, Danfoss A/S, Danfoss Murmann Holding A/S. and K. Murmann Verwaltungsgesellschaft GmbH is attached as Annex A to the
Company's Proxy Statement filed on March 28, 2000, and is incorporated herein by reference.


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Exhibit No.

Description of Document10.1(ak)

The Sauer-Danfoss Inc. Annual Officer Performance Incentive Plan amended and restated as of March 4, 2003, is attached as Exhibit 10.1(bc) to the Company's Form 10-K filed on March 12, 2003 and is
incorporated herein by reference.10.1(al)

First Amendment to the Sauer-Danfoss Inc. Annual Officer Incentive Plan Effective December13, 2005, is attached as exhibit 9.4 to the Company's Form 8-K filed on December 7, 2005, and is incorporated
herein by reference.10.1(am)

The Sauer-Danfoss Inc. Deferred Compensation Plan for Selected Employees dated December 9, 2003, is attached as exhibit 10.1(bk) to the Company's Form 10-K filed on March 15, 2004, and is
incorporated herein by reference.10.1(an)

First Amendment to the Sauer-Danfoss Inc. Deferred Compensation Plan for Selected Employees, effective December 31, 2005, is attached as exhibit 9.1 to the Company's Form 8-K filed on December 7,
2005, and is incorporated herein by reference.10.1(ao)

The Sauer-Danfoss Inc. Supplemental Executive Savings & Retirement Plan (As Amended and Restated Effective as of January 1, 2008), is attached hereto.10.1(ap)

Form of 2005 Performance Unit Award Agreement under the Sauer-Danfoss Inc. 1998 Long-Term Incentive Plan is attached as exhibit 10.1(bx) to the Company's Form 10-Q filed on May 10, 2005, and is
incorporated herein by reference.10.1(aq)

Form of Non-employee Director Restricted Stock Award Agreement under the Sauer-Danfoss Inc. Non-employee Director Stock Option and Restricted Stock Plan is attached as Exhibit 10.1(by) to the Company's
Form 10-Q filed on May 10, 2005, and is incorporated herein by reference.10.1(ar)

The Sauer-Danfoss Inc. 409A Deferred Compensation Plan for Selected Employees (As Amended and Restated Effective as of January 1, 2008), is attached hereto.10.1(as)

The Sauer-Danfoss Inc. 2006 Omnibus Incentive Plan is filed as Appendix A to the Company's Definitive Proxy Statement filed on April 24, 2006, and is incorporated herein by reference.10.1(at)

Form of Performance Unit Award Agreement under the Sauer-Danfoss Inc. 2006 Omnibus Incentive Plan is attached as Exhibit 10.2 to the Company's Form 8-K filed on June 7, 2006, and is incorporated herein
by reference.10.1(au)

Form of Performance Unit Award Agreement under the Sauer-Danfoss Inc. 2006 Omnibus Incentive Plan is attached as Exhibit 10.1 to the Company's Form 8-K filed on April 5, 2007, and is incorporated
herein by reference.10.1(av)

Form of Cash-Based Award Agreement under the Sauer-Danfoss Inc. 2006 Omnibus Incentive Plan is attached as Exhibit 10.2 to the Company's Form 8-K filed on April 5, 2007, and is incorporated herein by
reference.10.1(aw)

The 2008 Performance Unit Award Agreement with David J. Anderson dated March 12, 2008, is attached as Exhibit 10.1 to the Company's 10-Q filed on May 1, 2008, and is incorporated herein by
reference.10.1(ax)

Amended and Restated Credit Agreement dated as of July 28, 2006, by and among Sauer-Danfoss Inc., the subsidiary borrowers listed therein, the lenders listed therein, and JPMorgan Chase Bank, N.A., as
Administrative Agent and Collateral Agent, is attached as Exhibit 10 to the Company's Form 8-K filed on August 3, 2006, and is incorporated herein by reference.10.1(ay)

The FIH Loan Agreement, effective November 14, 2005, is attached hereto.10.1(az)

Agreement for Sale and Assignment of Shares dated March 21, 2007 by and between Sauer-Danfoss Holding ApS and Aurelius Industriekapital GmbH, is attached as Exhibit 10.1 to the Company's Form 10-Q
filed on May 4, 2007, and is incorporated herein by reference.10.1(ba)

The Restricted Stock Award Agreement with Wolfgang Schramm dated June 14, 2007, is attached as Exhibit 10.1 to the Company's Form 10-Q filed on August 6, 2007, and is incorporated herein by
reference.


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Exhibit No.

Description of Document10.1(bb)

The Amended and Restated Award Agreement with David J. Anderson dated January 2, 2008, is attached as Exhibits 10.1 to the Company's Form 8-K filed on January 4, 2008, and is incorporated herein by
reference.10.1(bc)

The Amended and Restated Award Agreement with David J. Anderson dated January 2, 2008, is attached as Exhibits 10.2 to the Company's Form 8-K filed on January 4, 2008, and is incorporated herein by
reference.10.1(bd)

The Sauer-Danfoss Inc. Final Average Pay Supplemental Retirement Benefit Plan is attached as Exhibit 10 to the Company's Form 8-K filed on September 17, 2007, and is incorporated herein by
reference.10.1(be)

The Employment Separation Agreement and General Release between James R. Wilcox and the Company dated August 14, 2007 is attached as Exhibit 10 to the Company's Form 8-K filed on August 17, 2007, and
is incorporated herein by reference.10.1(bf)

The Agreement dated December 8, 2008, by and among Sauer-Danfoss ApS, Schabmuller GmbH, Aurelius AG, and Aurelius Industriekapital GmbH is attached hereto.10.1(bg)

The Loan Agreement for the $50 Million Dollar Promissory Note payable to Danfoss A/S, effective December 9, 2008, is attached hereto.10.1(bh)

The Facilities Agreement with Danfoss A/S for the Multicurrency Term Loan and Revolving Credit Facilities, dated March 12, 2009, is attached as Exhibit 10.1 to the Company's Form 8-K filed on March 16,
2009, and is incorporated herein by reference.10.1(bi)

The Loan Agreement for the $25 Million Dollar Promissory Note payable to Danfoss A/S, dated March 12, 2009, is attached as Exhibit 10.2 to the Company's Form 8-K filed on March 16, 2009, and is
incorporated herein by reference.21

Subsidiaries of the Registrant.23.1

Consent of Independent Registered Public Accounting Firm.31.1

Certification by the Chief Executive Officer Pursuant to Rule 13a-14(a).31.2

Certification by the Chief Financial Officer Pursuant to Rule 13a-14(a).32.1

Certification by the Chief Executive Officer Pursuant to 18 U.S.C. Section 1350.32.2

Certification by the Chief Financial Officer Pursuant to 18 U.S.C. Section 1350.


43

---





SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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.

SAUER-DANFOSS INC.By:

/s/ KENNETH D. MCCUSKEY Kenneth D. McCuskey Vice President and Chief Accounting Officer, Secretary


Date:
March 24, 2009

Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on
the dates indicated. Each person signing below also hereby appoints Sven Ruder and Kenneth D. McCuskey, and each of them singly, his or her lawful attorney-in-fact with full
power to execute and file any and all amendments to this report together with exhibits thereto and generally to do all such things as such attorney-in-fact may deem appropriate
to enable Sauer-Danfoss Inc. to comply with the provisions of the Securities Exchange Act of 1934 and all requirements of the Securities and Exchange Commission.

Signature

Title

Date/s/ SVEN RUDER Sven Ruder

Director and President and Chief
Executive Officer

March 24, 2009/s/ KARL J. SCHMIDT Karl J. Schmidt

Executive Vice President and Chief Financial Officer

March 24, 2009/s/ KENNETH D. MCCUSKEY Kenneth D. McCuskey

Vice President and Chief Accounting Officer, Secretary

March 24, 2009/s/ NIELS B. CHRISTIANSEN Niels B. Christiansen

Director

March 24, 2009/s/ JØRGEN M. CLAUSEN Jørgen M. Clausen

Director

March 24, 2009/s/ KIM FAUSING Kim Fausing

Director

March 24, 2009


44

---



Signature

Title

Date/s/ WILLIAM E. HOOVER, JR. William E. Hoover, Jr.

Director

March 24, 2009/s/ JOHANNES F. KIRCHHOFF Johannes F. Kirchhoff

Director

March 24, 2009/s/ JOSEPH LOUGHREY Joseph Loughrey

Director

March 24, 2009/s/ FREDERIK LOTZ Frederik Lotz

Director

March 24, 2009/s/ SVEN MURMANN Sven Murmann

Director

March 24, 2009/s/ STEVEN H. WOOD Steven H. Wood

Director

March 24, 2009


45

---





Sauer-Danfoss Inc. and Subsidiaries        Consolidated Statements of Operations        (Dollars in thousands, except per share data)

For the Years Ended December 31,2008

2007

2006Net sales

$
2,090,513

$
1,972,548

$
1,739,088Cost of sales


1,654,903


1,544,846


1,342,324Gross profit


435,610


427,702


396,764Selling, general and administrative


258,491


233,809


215,565Research and development


82,915


70,552


61,880Impairment charges


58,208





1,547Loss on sale of businesses and asset disposals


9,604


9,412


1,699Total operating expenses


409,218


313,773


280,691Operating income


26,392


113,929


116,073Nonoperating Income (Expenses):Interest expense


(25,654
)

(23,789
)

(18,415
)Interest income


1,026


1,048


654Other, net


966


(3,589
)

(5,675
)Nonoperating expenses, net


(23,662
)

(26,330
)

(23,436
)Income Before Income Taxes and Minority Interest


2,730


87,599


92,637Minority Interest


(17,811
)

(21,562
)

(21,617
)Income (Loss) Before Income Taxes


(15,081
)

66,037


71,020Income Tax Expense


(14,060
)

(18,839
)

(17,021
)Net Income (Loss)

$
(29,141
)
$
47,198

$
53,999Net Income (Loss) per common share, basic

$
(0.60
)
$
0.98

$
1.13Net Income (Loss) per common share, diluted

$
(0.60
)
$
0.98

$
1.12Weighted average basic shares outstanding


48,226,184


48,094,375


47,699,972Weighted average diluted shares outstanding


48,226,184


48,326,637


48,237,814


See
accompanying notes to consolidated financial statements.

F-1

---





Sauer-Danfoss Inc. and Subsidiaries        Consolidated Balance Sheets        (Dollars in thousands, except per share data)

December 31,2008

2007AssetsCurrent Assets:Cash and cash equivalents

$
23,145

$
26,789Accounts receivable (net of allowances of $5,210 and $5,133 in 2008 and 2007, respectively)


239,881


318,152Inventories


326,688


318,836Other current assets


50,754


62,623Total current assets


640,468


726,400Property, Plant and Equipment, net


598,435


562,818Other Assets:Goodwill


86,146


114,500Other intangible assets, net


23,971


25,295Deferred income taxes


106,984


61,680Other


11,672


9,729Total other assets


228,773


211,204$
1,467,676

$
1,500,422Liabilities and Stockholders' Equity Current Liabilities:Notes payable and bank overdrafts

$
65,512

$
59,415Long-term debt due within one year


58,005


208,819Accounts payable


149,512


168,015Accrued salaries and wages


79,322


61,961Accrued warranty


25,491


19,401Other accrued liabilities


42,075


46,996Total current liabilities


419,917


564,607Long-Term Debt


367,922


175,811Other LiabilitiesLong-term pension liability


90,966


70,777Postretirement benefits other than pensions


37,971


35,935Deferred income taxes


44,243


40,930Other


28,756


26,318Total other liabilities


201,936


173,960Total liabilities


989,775


914,378Minority Interest in Net Assets of Consolidated Companies


67,655


60,544Stockholders' Equity:Preferred stock, par value $.01 per share, authorized 4,500,000 shares, no shares issued or outstanding





Common stock, par value $.01 per share, authorized shares 75,000,000 in 2008 and 2007; issued and outstanding 48,271,806 in 2008 and 48,149,461 in
2007


483


481Additional paid-in capital


334,847


332,522Retained earnings


46,921


110,812Accumulated other comprehensive income


27,995


81,685Total stockholders' equity


410,246


525,500$
1,467,676

$
1,500,422


See accompanying notes to consolidated financial statements.

F-2

---





Sauer-Danfoss Inc. and Subsidiaries        Consolidated Statements of Stockholders' Equity and Comprehensive Income (Loss)        (Dollars in thousands, except
per share data)

Number of
Shares
Outstanding

Common
Stock

Additional
Paid-in
Capital

Retained
Earnings

Accumulated
Other
Comprehensive
Income

TotalYear Ended December 31, 2006:Beginning Balance


47,498,232

$
475

$
333,392

$
72,924

$
26,911

$
433,702Comprehensive income:Net income











53,999


Pension and postretirement adjustment














(10,178
)Unrealized gains on hedging activities














847Currency translation














38,089Total comprehensive income

















82,757Tax adjustment related to shares issued to minority interest partner








285








285Performance units vested


234,547


2


(2
)







Restricted stock grant


13,500














Restricted stock and performance unit compensation








6,294








6,294Tax benefits on performance unit compensation








137








137Minimum tax withholding settlement








(3,144
)







(3,144
)Cash dividends declared ($.60 per share)











(28,646
)




(28,646
)Adjustment to adopt FASB Statement No. 158, net of tax of $11,804














(29,326
)

(29,326
)Balance December 31, 2006


47,746,279


477


336,962


98,277


26,343


462,059Year Ended December 31, 2007:Net income











47,198


Pension and postretirement adjustment














12,462Unrealized gains on hedging activities














2,144Currency translation














40,736Total comprehensive income

















102,540Performance units vested


379,682


4


(4
)







Restricted stock grant


23,500














Restricted stock and performance unit compensation








4,390








4,390Tax benefits on performance unit compensation








145








145Minimum tax withholding settlement








(8,971
)







(8,971
)Cash dividends declared ($.72 per share)











(34,663
)




(34,663
)Balance December 31, 2007


48,149,461


481


332,522


110,812


81,685


525,500Year Ended December 31, 2008:Net loss











(29,141
)

Pension and postretirement adjustment














(22,440
)Unrealized losses on hedging activities














(6,861
)Currency translation














(24,389
)Total comprehensive loss

















(82,831
)Performance units vested


110,837


2


(2
)







Restricted stock grant


15,000














Restricted stock and performance unit compensation








(2,070
)







(2,070
)Tax benefits on performance unit compensation








1,534








1,534Minimum tax withholding settlement


(3,492
)




(1,590
)







(1,590
)Reversal of tax valuation allowance








4,453








4,453Cash dividends declared ($.72 per share)











(34,750
)




(34,750
)Balance December 31, 2008


48,271,806

$
483

$
334,847

$
46,921

$
27,995

$
410,246


See accompanying notes to consolidated financial statements

F-3

---





Sauer-Danfoss Inc. and Subsidiaries        Consolidated Statements of Cash Flows        (Dollars in thousands)

For the Years Ended December 31,2008

2007

2006Cash Flows from Operating Activities:Net income (loss)

$
(29,141
)
$
47,198

$
53,999Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:Depreciation and amortization


112,962


102,303


95,665Minority interest


17,811


21,562


21,617Restricted stock and performance unit compensation


(2,070
)

4,390


6,294Impairment charges


58,208





1,567Loss on sale of businesses and asset disposals


9,604


9,412


1,679Change in net pension and post-retirement benefits


(5,585
)

(2,869
)

(479
)Change in deferred income taxes


(25,937
)

(1,983
)

(1,752
)Minimum tax withholding payments on performance units


(1,590
)

(8,971
)

(3,144
)Change in operating assets and liabilitiesAccounts receivable, net


71,679


(38,491
)

(24,512
)Inventories


(16,799
)

(36,578
)

(14,242
)Prepaid and other current assets


(7,918
)

(11,136
)

(6,075
)Accounts payable


(14,495
)

11,036


27,244Accrued liabilities


23,596


(1,453
)

13,971Other


(6,807
)

3,720


(3,920
)Net cash provided by operating activities


183,518


98,140


167,912Cash Flows from Investing Activities:Purchases of property, plant and equipment


(198,634
)

(135,633
)

(116,244
)Proceeds from sale of property, plant and equipment


11,141


6,496


6,959Proceeds from sale of businesses, net of payment for acquisition,net of cash acquired





6,932


Net cash used in investing activities


(187,493
)

(122,205
)

(109,285
)Cash Flows from Financing Activities:Net borrowings on notes payable and bank overdrafts


3,493


6,114


20,351Net borrowings (repayments) on revolving credit facility


17,019


77,264


(37,918
)Repayments of long-term debt


(22,948
)

(18,817
)

(32,137
)Borrowings of long-term debt


54,235


6,875


51,517Cash dividends


(34,728
)

(33,636
)

(26,706
)Distribution to minority interest partners


(13,881
)

(15,889
)

(19,908
)Other


1,534


145


(148
)Net cash provided by (used in) financing activities


4,724


22,056


(44,949
)Effect of Exchange Rate Changes on Cash


(4,393
)

(314
)

1,240Cash and Cash Equivalents:Net increase (decrease) during the year


(3,644
)

(2,323
)

14,918Beginning balance


26,789


29,112


14,194Ending balance

$
23,145

$
26,789

$
29,112Supplemental Cash Flow Disclosures:Interest paid

$
22,876

$
20,248

$
17,163Income taxes paid

$
34,351

$
26,933

$
25,337


See accompanying notes to consolidated financial statements.

F-4

---





Sauer-Danfoss Inc. and Subsidiaries        Notes to Consolidated Financial Statements        December 31, 2008, 2007, and 2006        (Dollars in
thousands, except per share data)

(1) Summary of Significant Accounting Policies:

Basis of Presentation and Principles of Consolidation

Sauer-Danfoss Inc., a U.S. Delaware corporation, and subsidiaries (the Company) is a worldwide leader in the design,
manufacture, and sale of engineered hydraulic and electronic systems and components that generate, transmit and control power in mobile equipment. The Company's products are used by original equipment
manufacturers of mobile equipment, including construction, road building, agricultural, turf care, material handling, and specialty vehicle equipment. The Company's products are sold throughout the
world either directly or through distributors.

The
consolidated financial statements represent the consolidation of all companies in which the Company has a controlling interest and are stated in accordance with accounting principles
generally accepted in the United States. All significant intercompany balances, transactions, and profits have been eliminated in the consolidated financial statements.

Use of Estimates

In preparing the consolidated financial statements in conformity with U.S. generally accepted accounting principles, management must
make decisions that impact the reported amounts of assets, liabilities, revenues, expenses, and the related disclosures, including disclosures of contingent assets and liabilities. Such decisions
include the selection of the appropriate accounting principles to be applied and the assumptions on which to base accounting estimates. Estimates are used in determining, among other items, incentives
accruals, inventory valuation, warranty reserves, allowance for doubtful accounts, pension and postretirement accruals, useful lives for intangible assets, and future cash flows associated with
impairment testing for goodwill and other long-lived assets. These estimates and assumptions are based on management's best estimates and judgments. Management evaluates its estimates and assumptions
on an ongoing basis using historical experience and other factors that management believes to be reasonable under the circumstances, including the current economic environment, adjusting such
estimates and assumptions when facts and circumstances dictate. A number of these factors include, among others, the continued recessionary economic conditions, tight credit markets, foreign currency,
higher commodity costs, and a decline in consumer spending and confidence, all of which have combined to increase the uncertainty inherent in such estimates and assumptions. As future events and their
effects cannot be determined with precision, actual amounts could differ significantly from those estimated at the time the consolidated financial statements are prepared. Changes in those estimates
resulting from continuing changes in the economic environment will be reflected in the financial statements in future periods.

Revenue Recognition

Net sales are recorded when all of the following criteria are met: persuasive evidence of an arrangement exists, delivery has occurred,
the price is fixed or determinable, and collectability is reasonably assured. Estimates for future warranty expense are recorded when the related revenue is recognized. Timing of revenue recognition
is consistent with when the risks and rewards of ownership and title to the product have transferred to the customer.

F-5

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(1) Summary of Significant Accounting Policies: (Continued)

Cash and Cash Equivalents

Cash equivalents are considered by the Company to be all highly liquid instruments purchased with original maturities of three months
or less. At December 31, 2008 cash and cash equivalents balances in China totaled approximately $19,000. The Company is paying dividends from its Chinese entities to the maximum extent possible
under current regulations; however, due to the nature of the governmental and other regulatory controls it is difficult to move cash out of this country for reasons other than payment for goods
shipped into the country.

Trade Receivables

The Company records trade receivables due from its customers at the time sales are recorded in accordance with its revenue recognition
policy. The future collectability of these amounts can be impacted by the Company's collection efforts, the financial stability of its customers, and the general economic climate in which it operates.
The Company applies a consistent practice of establishing an allowance for accounts that it believes may become uncollectible through reviewing the historical write-offs of accounts, aging
of its receivables, and by monitoring the economic environment and financial strength of its customers. If the Company becomes aware of a customer's inability to meet its financial obligations
(e.g., where it has filed for bankruptcy), the Company establishes a specific allowance for the potential bad debt to reduce the net recognized receivable to the amount it reasonably believes
will be collected. The valuation of trade receivables is performed quarterly.

Inventories

Inventories are valued at the lower of cost or market, using various cost methods, and include the cost of material, labor, and factory
overhead. The last-in, first-out (LIFO) method was adopted in 1987 and is used to value inventories at the U.S. locations which existed at that time. Inventories at all of the
non-U.S. locations and the U.S. locations obtained through acquisition after 1987, which produce products different than those produced at U.S. locations existing at 1987, are valued under
the first-in, first-out (FIFO) inventory valuation method. The percentage of year-end inventory valued under the LIFO and FIFO cost methods was 11% and 89%,
respectively, for 2008, and 14% and 86%, respectively, for 2007.

Property, Plant and Equipment and Depreciation

Property, plant and equipment are stated at historical cost, net of accumulated depreciation. Depreciation is generally computed using
the straight-line method for building equipment and buildings over 10 to 37 years and for machinery and equipment over 3 to 8 years (3 to 12 years for additions in
1999 and prior). Additions and improvements that substantially extend the useful life of a particular asset are capitalized. Repair and maintenance costs ($45,818, $45,580, and $41,729 in 2008, 2007,
and 2006, respectively) are charged to expense. When property, plant and equipment are retired or otherwise disposed of, the cost and related accumulated depreciation are removed from the accounts and
any gain or loss is included in the consolidated statements of operations.

F-6

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(1) Summary of Significant Accounting Policies: (Continued)

Goodwill and Other Intangible Assets

Goodwill represents the excess of the purchase price over the estimated fair values of net assets acquired in the purchase of
businesses. The Company accounts for goodwill and intangible assets in accordance with Statement of Financial Accounting Standards (SFAS) No. 142, "Goodwill and Other Intangible Assets," which
requires that goodwill is not amortized, but tested for impairment at least annually or when events or changes in circumstances indicate that the carrying value of such assets may not be recoverable.
As a result of completing its annual impairment analysis under SFAS No. 142 the Company recorded a goodwill impairment charge of approximately $22,900 in 2008. See Note 6 for further
discussion.

Intangible
assets consist primarily of trade names, technology, and customer relationships and are recorded at fair value at the time of acquisition. Intangible assets are amortized on a
straight-line basis over their estimated useful lives, which range from three to thirty five years.

Impairment of Long-Lived Assets and Assets to be Disposed Of

Consistent with the requirements of SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets,"
the Company periodically assesses whether events or circumstances have occurred that may indicate the carrying value of its long-lived tangible and intangible assets may not be
recoverable. The carrying value of long-lived tangible and intangible assets to be held and used is evaluated for recoverability based on the expected future undiscounted operating cash
flows. When the evaluation indicates the carrying value of an asset or group of assets is impaired, the Company determines the fair value of assets, using discounted cash flows or determining the
liquidation value of the long-lived assets, and recognizes an impairment loss to the extent that the carrying value of the assets exceeds the fair value of the assets. In 2008 the Company recognized
an impairment charge for long-lived assets of $35,300 in the Work Function segment as discussed in Note 5. In 2006 the Company recognized an impairment charge of approximately
$1,500 related to long-lived assets to be disposed of related to restructuring activity in the Work Function segment as discussed in Note 3.

Product Warranty

The Company warrants its various products over differing periods depending upon the type of product and application. Consequently, the
Company records warranty liabilities for the estimated costs that may be incurred under its basic warranty based on past trends of actual warranty claims compared to the actual sales levels to which
those claims apply. These liabilities are accrued at the time the sales of the products are recorded. Factors that affect the Company's warranty liability include the number of units in the field
currently under warranty, historical and anticipated rates of warranty claims on those units and the cost per claim to satisfy the Company's warranty obligation. The anticipated rate of warranty
claims is the primary factor impacting the Company's estimated warranty obligation.

In
addition to its normal warranty liability, the Company, from time to time in the normal course of business, incurs costs to repair or replace defective products with a specific
customer or group of customers. The Company refers to these as field recalls and in these instances, the Company records a specific provision for the expected costs it will incur to repair or replace
these products utilizing

F-7

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(1) Summary of Significant Accounting Policies: (Continued)

information
from customers and internal information regarding the specific cost of materials and labor. Due to the sporadic and infrequent nature of field recalls, and the potential for a range of
costs associated with field recalls, the Company cannot accurately estimate these costs at the time the
products are sold. Therefore, these costs are recorded at the time information becomes known to the Company. As the field recalls are carried out, the Company relieves the specific liability related
to that field recall. These specific field recall liabilities are reviewed on a quarterly basis.

The
following table represents the change in the Company's accrued warranty and field recall liability:

December 31,2008

2007

2006Balance, beginning of period

$
19,401

$
17,022

$
17,047Payments


(22,856
)

(17,664
)

(13,807
)Provisions for claims


28,996


19,167


13,097Currency impact


(50
)

876


685Balance, end of period

$
25,491

$
19,401

$
17,022


Income Taxes

The provision for income taxes has been determined using the asset and liability approach of accounting for income taxes. Under this
approach, deferred taxes represent the future tax consequences expected to occur when the reported amounts of assets and liabilities are recovered or paid. The provision for income taxes represents
income taxes paid or payable for the current year plus the change in deferred taxes during the year. Deferred taxes result from differences between the financial and tax bases of the Company's assets
and liabilities, net operating loss carryforwards, and tax credit carryforwards and are adjusted for changes in tax rates and tax laws when changes are enacted. Valuation allowances are recorded to
reduce deferred tax assets when the Company is unable to conclude that realization of the deferred tax assets is more likely than not.

Income (Loss) Per Share

Basic net income (loss) per common share is based on the weighted average number of common shares outstanding in each year. Diluted net
income per common share assumes that outstanding common shares were increased by shares issuable upon (i) exercise of restricted stock shares, and (ii) granting of shares under the
long-term incentive plan, after it becomes certain that the performance requirements needed to be met in accordance with the incentive plan will be achieved. Shares under both the
restricted

F-8

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(1) Summary of Significant Accounting Policies: (Continued)

stock
plan and the long term incentive plan have an exercise price of zero. Diluted net loss per share for 2008 excludes the dilutive effect of restricted stock and performance units as these shares
are anti-dilutive.

Net Income (Loss)

Shares

Earnings (Loss)
Per ShareDecember 31, 2008Basic net income (loss)

$
(29,141
)

48,226,184

$
(0.60
)Effect of dilutive securities:Restricted stock








Performance units








Diluted net income (loss)

$
(29,141
)

48,226,184

$
(0.60
)December 31, 2007Basic net income

$
47,198


48,094,375

$
0.98Effect of dilutive securities:Restricted stock





24,696


Performance units





207,566


Diluted net income

$
47,198


48,326,637

$
0.98December 31, 2006Basic net income

$
53,999


47,699,972

$
1.13Effect of dilutive securities:Restricted stock





22,768


Performance units





515,074


(0.01
)Diluted net income

$
53,999


48,237,814

$
1.12


Fair Value of Financial Instruments

The carrying values of cash and cash equivalents, accounts and other receivables, notes payable and bank overdrafts, and accounts
payable approximate fair value because of the short-term nature of these instruments.

The
fair value of long-term debt is calculated by discounting scheduled cash flows through maturity using estimated market discount rates. The discount rate is estimated
using the rates currently offered for long-term debt of similar remaining maturities and credit characteristics. At December 31, 2008 the Company estimated the fair value of its
long-term debt, including amounts due within one year, at $425,273 compared to its carrying value of $425,927. At December 31, 2007 the Company estimated the fair value of its
long-term debt, including amounts due within one year, at $386,759 compared to its carrying value of $384,630. These estimates are subjective in nature and involve uncertainties and,
therefore, cannot be determined with precision. Changes in assumptions could significantly affect these estimates.

The
fair value of derivative instruments is discussed in Note 12.

F-9

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(1) Summary of Significant Accounting Policies: (Continued)

Translation of Non-U.S. Currencies

Assets and liabilities of consolidated non-U.S. subsidiaries are translated into U.S. dollars at exchange rates in effect
at the end of each period, while revenues and expenses are translated at average exchange rates prevailing during the period. The resulting translation adjustments are included in stockholders'
equity. Gains or losses on transactions denominated in non-functional currencies and the related tax effects are reflected in the consolidated statements of operations.

Derivatives and Hedging

It is the Company's policy that derivative transactions are executed only to manage exposures arising in the normal course of business
and not for the purpose of creating speculative positions or trading. Derivative financial instruments are accounted for under SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," as amended. Under SFAS No. 133, all derivatives are recorded at fair value on the balance sheet as current or long-term other assets or other liabilities depending on
whether the maturity date of the derivative contract is within one year from the balance sheet date.

The
Company uses interest rate swaps to establish fixed interest rates on outstanding borrowings. There is no ineffectiveness of the interest rate swaps and therefore, the changes in
fair value of the derivatives is recorded in accumulated other comprehensive income (loss). The Company utilizes forward contracts to minimize the impact of currency fluctuations on cash flows related
to forecasted sales denominated in currencies other than the functional currency of the selling location. The forward contracts qualify for hedge accounting and therefore are subject to effectiveness
testing at the inception of the contract and throughout the life of the contract.

When,
and if, a derivative is determined not to be highly effective as a hedge, or the underlying hedged transaction is no longer likely to occur, or the derivative is terminated, the
hedge accounting is discontinued and any past or future changes in the derivative's fair value that will not be effective as an offset to the income effects of the item being hedged are recognized
currently in the statement of operations. Any changes in fair values of derivatives not qualifying as hedges would be reported
immediately in other income (expense) on the consolidated statement of operations; however, the Company did not have any derivatives that did not qualify as hedges in 2008 or 2007.

Employee Stock-Based Compensation

The Company accounts for employee stock-based compensation in accordance with SFAS No. 123R, "Share-Based Payments." The fair
value method is used to account for employee-stock compensation.

New Accounting Principles

In September 2006, the Financial Accounting Standard Board (FASB) issued SFAS No. 157, "Fair Value Measurements" which clarifies
the principle that fair value should be based on the assumptions that market participants would use when pricing an asset or liability. SFAS No. 157 establishes a three-tier fair
value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs such as quoted prices in active markets; Level 2,
defined as inputs other than

F-10

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(1) Summary of Significant Accounting Policies: (Continued)

quoted
prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an
entity to develop its own assumptions. The Company has adopted the provisions of SFAS No. 157 as of January 1, 2008 for financial instruments. Although the adoption of SFAS
No. 157 did not materially impact its consolidated financial condition, results of operations, or cash flow, the Company is now required to provide additional disclosures as part of its
consolidated financial statements which are included in Note 12.

The
FASB issued SFAS No. 159, "The Fair Value Option for Financial Assets and Financial LiabilitiesIncluding an Amendment of FASB Statement No. 115" in
February 2007. SFAS No. 159 permits many financial instruments and certain other items to be measured at fair value at the option of the Company. The Company adopted SFAS No. 159 as of
January 1, 2008 with no impact on the consolidated financial statements.

SFAS
No. 141R "Business Combinations" replaces SFAS No. 141, and establishes requirements for recognition and measurement of identifiable assets acquired, liabilities
assumed, noncontrolling interest of the acquiree, goodwill acquired, and gain from bargain purchase. SFAS No. 141R was issued in
December 2007 and applies prospectively to business combinations for which the acquisition date is on or after the beginning of the annual reporting period beginning on or after December 15,
2008. The Company will adopt SFAS No. 141R in 2009.

The
FASB issued SFAS No. 160, "Noncontrolling Interests in Consolidated Financial Statementsan amendment of ARB No. 51" in December 2007. SFAS No. 160
was issued to improve the relevance, comparability, and transparency of financial information provided to investors by requiring all entities to report noncontrolling (minority) interests in
subsidiaries as equity in the consolidated financial statements. SFAS No. 160 is effective for fiscal years, and interim periods within those fiscal years, beginning on or after
December 15, 2008. The Company is currently evaluating the impact that SFAS No. 160 will have on its consolidated financial statements and disclosures.

SFAS
No. 161 "Disclosures about Derivative Instruments and Hedging Activitiesan amendment of FASB Statement No. 133" was issued by the FASB in March 2008. SFAS
No. 161 amends and expands disclosure requirements for derivative instruments in order to provide users of financial statements with an enhanced understanding of (i) how and why an
entity uses derivative instruments, (ii) how derivative instruments and related hedged items are accounted for under SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," and its related interpretations and (iii) how derivative instruments and related hedged items affect an entity's financial position, financial performance, and cash flows. SFAS
No. 161 is to be applied prospectively for the first reporting period beginning on or after November 15, 2008. The Company will include the expanded disclosures in its consolidated
financial statements beginning in 2009.

In
May 2008, the FASB issued SFAS No. 162 "The Hierarchy of Generally Accepted Accounting Principles" which identifies the sources of accounting principles and the framework for
selecting the principles used in the preparation of financial statements for nongovernmental entities that are presented in conformity with generally accepted accounting principles in the United
States. SFAS No. 162 became effective on November 15, 2008, sixty days following approval by the Securities and Exchange Commission.

F-11

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(1) Summary of Significant Accounting Policies: (Continued)

Adoption
of SFAS No. 162 did not have a material effect on the Company's consolidated financial statements.

The
FASB issued FASB Staff Position (FSP) Emerging Issues Task Force (EITF) No. 03-6-1, "Determining Whether Instruments Granted in Share-Based Payment
Transaction Are Participating Securities" in June 2008. FSP EITF 03-6-1 provides guidance on the calculation of earnings per share and indicates that all outstanding
unvested share-based payment awards that contain rights to nonforfeitable dividends or dividend equivalents are considered participating securities and therefore the two-class method
should be applied in calculating basic and diluted earnings per share. FSP EITF No. 03-6-1 is effective for fiscal years, and interim periods within those fiscal years,
beginning on or after December 15, 2008. The Company is currently
evaluating the impact that FSP EITF No. 03-6-1 will have on its consolidated financial statements.

(2) Business Combination:

In May 2007, the Company acquired all outstanding shares of a company in Denmark which produces steering columns. The acquired company, with annual sales of approximately $4,700, was
previously a supplier and was acquired in order to control production and delivery of steering columns used in Work Function products. The Company has consolidated the financial results since the date
of acquisition. The purchase price was allocated to inventory and property, plant, and equipment. Goodwill of approximately $2,800 represents the excess of cost over the fair value of net tangible
assets.

(3) Restructuring Charges:

In December 2008, the Company decided to close the Hillsboro, Oregon plant and transfer the production lines to the Easley, South Carolina location. In 2007, in preparation for disposing
of the direct current (DC) electric motor business the Company incurred restructuring costs to transfer all DC
production lines to one location and all alternating current (AC) production lines to another location. The costs related to the closure of Hillsboro and the transfer of electric motors production
lines are included in the Controls segment, in addition to costs related to the relocation of certain production lines between facilities. The Company sold its DC electric motor business in April 2007
and signed a sales agreement in December 2008 to sell its AC electric motor business related to the material handling market. The losses related to the sale of businesses of approximately $6,600 and
$8,400, respectively, are not included in the restructuring numbers below.

In
March 2006, the Company announced its plans to close the LaSalle, Illinois plant, outsourcing certain products to reduce costs and increase efficiencies. Costs related to the LaSalle
plant closing are included in the Propel segment, in addition to costs related to the relocation of certain production lines between production facilities in the U.S.

In
2006, the Company announced plans to discontinue production of certain product lines manufactured in Swindon, England and incurred restructuring costs in anticipation of this
shutdown. These costs are included in the Work Function segment. In June 2007, the assets related to this production facility were sold as discussed in Note 14. All costs incurred in 2007
related to the sale of the production

F-12

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(3) Restructuring Charges: (Continued)

assets
are included in the loss on sale of businesses line on the statement of operations and are not included in the restructuring numbers below.

The
following table summarizes the restructuring charges incurred, as well as the cumulative charges incurred to date on these projects. All projects were completed in 2007, with the
exception of the closure of the Hillsboro, Oregon plant, which is expected to be completed in 2009.

Propel

Work
Function

Controls

TotalCharges incurred in 2008

$


$


$
1,007

$
1,007Charges incurred in 2007


5,477





4,874


10,351Charges incurred in 2006


8,290


3,482


1,724


13,496Cumulative charges incurred


13,767


3,482


7,605


24,854Cumulative charges expected to be incurred


13,767


3,482


10,650


27,899


The
restructuring costs incurred are reported in the statement of operations as detailed in the following table:

Cost
of Sales

Selling,
General and
Administrative
Expenses

Impairment
Charges and Loss
on Disposal
of Fixed Assets

TotalCharges incurred in 2008

$
40

$
585

$
382

$
1,007Charges incurred in 2007


9,662


669


20


10,351Charges incurred in 2006


10,855


475


2,166


13,496


F-13

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(3) Restructuring Charges: (Continued)

The
following table summarizes the restructuring charges incurred and the activity in accrued liabilities during 2008, 2007 and 2006.

Employee
Termination
Costs

Employee
Training
Costs

Impairment
Charges and
Loss on
Disposal of
Fixed Assets

Equipment
Moving
Costs

Other

TotalBalance as of January 1, 2006

$


$


$


$


$


$
Charges to expense


3,758





2,166


1,360


6,212


13,496Payments made


(643
)




(2,166
)

(1,360
)

(6,212
)

(10,381
)Balance as of December 31, 2006


3,115














3,115Charges to expense


600


3,926


20


3,993


1,812


10,351Reversal of accrual due to sale of business


(1,915
)













(1,915
)Payments made


(1,425
)

(3,926
)

(20
)

(3,993
)

(1,812
)

(11,176
)Balance as of December 31, 2007

$
375

$


$


$


$


$
375Charges to expense


625





382








1,007Payments made


(375
)




(382
)







(757
)Balance as of December 31, 2008 (1)

$
625

$


$


$


$


$
625


---

In
2006 the Company recorded an impairment charge of $1,547 when it reduced the carrying value of machinery and equipment at the Swindon location to fair market value, calculated based
on expected sales price.

Included
in Other in 2006 is $1,551 of pension curtailment costs which is the recognition of unamortized prior service costs related to the LaSalle pension plan. Also included is $2,086
of accelerated depreciation due to a change in useful lives incurred in 2006.

F-14

---





Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(4) Inventories:

The composition of inventories is as follows:

December 31,2008

2007Raw materials

$
154,762

$
147,075Work in progress


64,329


58,737Finished goods and parts


131,758


132,702LIFO allowance


(24,161
)

(19,678
)Total

$
326,688

$
318,836


The
Company recorded LIFO decrements of approximately $8,800 and $4,400 in 2008 and 2007, respectively.

(5) Property, Plant and Equipment and Property Held for Disposal:

The cost and related accumulated depreciation of property, plant and equipment are summarized as follows:

December 31,2008

2007CostLand and improvements

$
16,624

$
16,769Buildings and improvements


152,929


139,025Machinery and equipment


1,021,851


1,079,289Construction in progress


103,545


86,734Plant and equipment under capital leases


17,998


18,049Total costs


1,312,947


1,339,866Lessaccumulated depreciation


(714,512
)

(777,048
)Net property, plant and equipment

$
598,435

$
562,818


Depreciation
expense for 2008, 2007, and 2006 was $110,934, $100,074, and $92,902, respectively.

In
2008 the Company determined that an impairment test of property, plant, and equipment was necessary due to the change in worldwide economic conditions and resulting decrease in
Company sales. Asset groups were assessed for recoverability under SFAS No. 144. The Company determined that an impairment charge of $35,300 was required to write down the carrying value of the
motors asset group within the Work Function segment. The assets were written down to fair value as measured by the liquidation value of the assets.

In
2003 the Company closed a manufacturing facility in West Branch, Iowa and determined the land and building would be sold. In 2007, the location was sold for approximately $3,300. The
loss on sale of land and building of approximately $300 is reported in the Work Function segment.

F-15

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(5) Property, Plant and Equipment and Property Held for Disposal: (Continued)

In
2007 the Company decided that the land and building at the LaSalle, Illinois location would be sold. This property was classified in other current assets with a carrying value of
approximately $1,800 in the Propel segment on the consolidated balance sheet at December 31, 2007. In 2008, the property was sold for a gain of approximately $1,400. The gain was reported in
the Propel segment.

(6) Goodwill and Intangible Assets:

In accordance with SFAS No. 142, goodwill is required to be tested for impairment annually and if an event or conditions change that would more likely than not reduce the fair
value of a reporting unit below its carrying value. The Company completed its annual goodwill impairment tests as of December 31, 2008. The Company has identified eight reporting units that are
either operating segments or one level below operating segments. In performing the impairment evaluation, the Company considered declines in market value, which occurred during the fourth quarter of
2008, and reconciled the sum of the estimated fair values of its reporting units to the Company's market value (based on its stock price), plus a reasonable control premium, which is estimated as that
amount which would be received to sell the Company as a whole in an orderly transaction between market participants.

When
testing for goodwill impairment, the Company performs a first step of the goodwill impairment test to identify a potential impairment. In doing so, the Company compares the fair
value of a reporting unit with its carrying amount. If the carrying amount of a reporting unit exceeds its fair value, goodwill may be impaired and a second step of the goodwill impairment test is
performed to measure the amount of any impairment loss. In the second step of the goodwill impairment test, the Company compares the implied fair value of reporting unit goodwill with the carrying
amount of that goodwill. If the carrying amount of reporting unit goodwill exceeds the implied fair value of that goodwill, an impairment loss is recognized in an amount equal to that excess. The
implied fair value of goodwill is
determined in the same manner that the amount of goodwill recognized in a business combination is determined. The Company allocates the fair value of a reporting unit to all of the assets and
liabilities of that unit, including intangible assets, as if the reporting unit had been acquired in a business combination. Any excess of the value of a reporting unit over the amounts assigned to
its assets and liabilities is the implied fair value of goodwill. The Company determined that the implied fair value of goodwill for the motors, steering and electric drives reporting units was less
than its carrying value by $22,908, which was recorded as a goodwill impairment charge in 2008.

Estimates
about fair value used in the first step of the goodwill impairment tests have been calculated using an income approach based on the present value of future cash flows of each
reporting unit. The income approach has been supported by other valuation approaches, such as similar transaction and guideline analyses. Under the income approach, the Company determined fair value
based on estimated future cash flows of each reporting unit, discounted by an estimated weighted-average cost of capital, which reflects the overall level of inherent risk of a reporting unit and the
rate of return an outside investor would expect to earn. Determining the fair value of a reporting unit is judgmental in nature and requires the use of significant estimates and assumptions, including
revenue growth rates and operating margins, discount rates and future market conditions among others. Changes in economic and operating conditions impacting these assumptions could result in goodwill
impairments in future periods. At December 31, 2008 the Company has $86,146 of goodwill related to its propel, valves, and mobile electronics reporting units.

F-16

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(6) Goodwill and Intangible Assets: (Continued)

The
changes in the carrying amounts of goodwill for the years ended December 31, 2007 and 2008 are as follows:

Propel
Segment

Work Function
Segment

Controls
Segment

TotalBalance at January 1, 2007

$
27,622

$
15,042

$
66,147

$
108,811Goodwill acquired during period





2,565





2,565Goodwill written off with sale of business








(610
)

(610
)Reversal of valuation allowance on deferred tax asset


(577
)

(296
)

(357
)

(1,230
)Translation adjustment


865


707


3,392


4,964Balance at December 31, 2007


27,910


18,018


68,572


114,500Purchase price adjustment on 2007 acquisition





243





243Reversal of valuation allowance on deferred tax asset


(426
)

(219
)

(263
)

(908
)Impairment





(17,361
)

(5,547
)

(22,908
)Translation adjustment


(833
)

(681
)

(3,267
)

(4,781
)Balance at December 31, 2008

$
26,651

$


$
59,495

$
86,146


The
following table summarizes the components of the other intangible asset balances at December 31, 2008 and 2007:

Trade
Name

Technology

Customer
Relationships

Other

TotalDecember 31, 2008Cost

$
19,000

$
11,366

$
7,836

$
2,291

$
40,493Accumulated amortization


(4,344
)

(6,370
)

(4,168
)

(1,640
)

(16,522
)Other intangible assets, net

$
14,656

$
4,996

$
3,668

$
651

$
23,971December 31, 2007Cost

$
19,000

$
11,645

$
7,045

$
2,830

$
40,520Accumulated amortization


(3,801
)

(5,723
)

(4,000
)

(1,701
)

(15,225
)Other intangible assets, net

$
15,199

$
5,922

$
3,045

$
1,129

$
25,295


The
weighted average useful lives for the intangible assets are 35, 15, and 15 years for trade name, technology, and customer relationships, respectively. Amortization of
intangible assets was $2,028, $2,229, and $2,763 in 2008, 2007, and 2006, respectively. Amortization expense is expected to be approximately $1,400 annually in 2009 through 2013.

F-17

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(7) Long-Term Debt:

Long-term debt outstanding at December 31, 2008 and 2007 consisted of the following:

2008

2007Long-term
Debt Due
Within
One Year

Long-term
Debt

Long-term
Debt Due
Within
One Year

Long-term
DebtMulticurrency Revolving and Term Loan Facility

$
56,461

$
201,115

$
187,332

$
57,251German Long-Term Bank Facilities








8,561


Multicurrency Term Loan Facility due through 2015





83,934





85,499Danfoss A/S Loan





50,000





U.S. 2000 Senior Notes, due through 2010





24,000


11,000


24,000Other Borrowings


1,544


8,873


1,926


9,061Total

$
58,005

$
367,922

$
208,819

$
175,811




In December 2005 the Company entered into a Multicurrency Revolving Facility Agreement which was modified in July 2006 (the Agreement).
Under the Agreement the Company may borrow up to $300,000 through December 2010. The Agreement also includes a 40,000 euro (approximately $56,000) term loan which expires in July 2013.
Repayments on the term loan are scheduled from September 2010 through July 2013. Proceeds from the term loan were used to pay off a portion of the Company's revolving credit balances. Debt issuance
costs of approximately $1,000 were capitalized and are being amortized to interest expense over the term of the Agreement. Any amounts drawn under the revolving portion of the facility must be repaid
or reborrowed within 360 days. As indicated under the refinancing section these borrowings will be repaid in 2009. The portion to be refinanced with a term loan due in 2010 is classified as
long-term; the portion to be refinanced with a revolving facility is classified as current.

Borrowings
under the Agreement bear interest at a rate based on either the relevant interbank offering rate plus a margin (range of 0.75%-1.00% at December 31, 2008),
Federal Funds plus 0.5%, or the prevailing Prime Rate. The margin on the interbank offering rate option ranges from 0.5% to 1.125%, depending upon the Company's ratio of net debt to EBITDA, as
defined. The weighted average interest rate on outstanding borrowings under the Agreement was approximately 2.5% at December 31, 2008. The Company is also required to pay a commitment fee on
the unused portion of the Agreement. The commitment fee rate varies depending upon the Company's ratio of net debt to EBITDA, as defined. This fee was 0.175% at December 31, 2008 and the
Company incurred commitment fee expense of $149, $275, and $310 in 2008, 2007, and 2006 respectively. The Agreement contains certain financial covenants relating to the Company's EBITDA to net
interest expense and net debt to EBITDA, as defined. The Company was in compliance with the covenants at December 31, 2008.

The
German Long-Term Bank Facilities represented two long-term bank loans secured by property. Interest on these facilities was at a fixed rate of 5.65%. The
loans were repaid during 2008.

F-18

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(7) Long-Term Debt: (Continued)

In
December 2005 the Company borrowed $75,000 under a term loan facility. The Company borrowed $30,000 in U.S. dollars at a fixed interest rate of 5.74% and 38,450 euro
(approximately $55,500) at a fixed interest rate of 4.05% over the ten-year term of the loan. The euro portion of the loan is allocated to a Danish subsidiary. Sauer-Danfoss Inc.
guarantees these euro borrowings including interest, amortization and fees. Repayments on the term loan are scheduled from December 2011 through December 2015. The outstanding balance on this loan at
December 31, 2008 was $83,934. The
Agreement contains certain financial covenants relating to the Company's EBITDA to net interest expense and net debt to EBITDA, as defined, which the Company was in compliance with at
December 31, 2008.

The
Company also had a revolving credit facility of 800,000 Danish kroner (approximately $141,000) that was available through June 2006. The Company was required to pay a commitment fee
on the unused portion of this credit facility. The Company incurred $114 of commitment fee expense in 2006.

Related Party Loan

In December 2008 the Company borrowed $50,000 from Danfoss A/S. The term loan has a maturity date of December 9, 2011 and bears
interest at an annual rate of 4.02%. The Company paid a facility fee of 10 basis points. The loan is unsecured. See Note 19 for additional information on additional borrowings from Danfoss A/S
in 2009.

U.S. Borrowings

In October 2000 the Company issued $35,000 of 8.07% Senior Notes (2000 Senior Notes). The 2000 Senior Notes have scheduled annual
payments starting on September 30, 2008, through September 30, 2010. The 2000 Senior Notes contain certain restrictions and require the maintenance of minimum tangible net worth and
maximum leverage, as defined. At December 31, 2008 the Company was in compliance with these requirements.

Other Borrowings

The Company maintains overdraft facilities in various currencies in multiple countries for cash management purposes. The interest rates
and commitment fees vary by country and arrangement. At December 31, 2008 there was $65,512 outstanding under the overdraft facilities. A Danish subsidiary maintains a line of credit for
purposes of centralizing cash management for the European locations. Sauer-Danfoss Inc. guarantees this line of credit up to 20,000 euro (approximately $28,000).

Repayment of Borrowings

Payments required to be made on long-term debt outstanding as of December 31, 2008 during the years ending 2009
through 2013 and for 2014 and thereafter are $58,005, $313,592, $51,622, $1,286, $866 and $556, respectively.

Refinancing

The Company determined, following the close of its 2008 fiscal year, that it would likely be unable to continue to meet the leverage
ratio covenants in its various credit agreements as of the end of the first

F-19

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(7) Long-Term Debt: (Continued)

quarter
of 2009. To avoid a default under the credit agreements, the Company has entered into a Credit Agreement with Danfoss A/S, pursuant to which the Company will have the ability to borrow up to
$490,000 (Danfoss Credit Agreement). Danfoss A/S is the Company's majority stockholder. The Company intends to draw sufficient funds under the Danfoss Credit Agreement to refinance or repay the
Multicurrency Revolving and Term Loan Facilities and the U.S. 2000 Senior Notes in advance of any covenant violations. The Term Loan Facility and the U.S. Senior Notes include breakage fees associated
with early payment of the outstanding balance. See Note 19 for terms of the Danfoss Credit Agreement.

(8) Pension and Postretirement Benefits other than Pensions:

The Company has noncontributory defined benefit pension plans covering a significant number of its employees. The benefits under these plans are based primarily on years of service and
compensation levels. The Company also provides health benefits for certain retired employees and certain dependents when the employee becomes eligible for these benefits by satisfying plan provisions
that include certain age and service requirements. The measurements for the pension and health benefits plans were performed at December 31.

Pension Benefits

The Company's funding policy for pension plans outside of Germany is to contribute an amount annually that falls within the range
determined to be deductible for income tax purposes. In Germany it has historically been common practice to fund pension obligations at the time payments were made to retirees. However, during 2007
the Company began funding the German pension plans, which is becoming more common in Germany. Net pension liabilities reflected in the accompanying consolidated balance sheets result from the unfunded
portions of the plans.

Pension
expense for 2008, 2007, and 2006 for these defined benefit plans consists of the following components:

December 31,2008

2007

2006Service cost

$
4,371

$
4,637

$
5,576Interest cost


13,635


12,593


11,265Expected return on plan assets


(12,202
)

(10,643
)

(9,500
)Amortization of prior service cost


(318
)

49


122Amortization of net loss


1,871


2,847


3,095Net periodic pension expense

$
7,357

$
9,483

$
10,558


The
Company incurred $1,036 of curtailment expense in 2007 related to discontinuing production of certain product lines manufactured in Swindon, England and $1,551 of curtailment expense
in 2006 related to the LaSalle Factory pension plan as a result of the decision to close the LaSalle plant. The curtailment expenses are not included in the net periodic pension expense disclosed
above.

The
Company expects to incur income of $297 related to the amortization of prior service costs and expense of $2,524 for amortization of net loss in 2009.

F-20

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(8) Pension and Postretirement Benefits other than Pensions: (Continued)

The
following table sets forth the plans' funded status as of the respective balance sheet dates:

December 31,2008

2007Reconciliation of benefit obligation:Benefit obligation at January 1

$
(228,931
)
$
(236,205
)Service cost


(4,371
)

(4,637
)Interest cost


(13,635
)

(12,593
)Plan participant contributions


(1,411
)

(673
)Plan amendments


(100
)

5,502Actuarial gain


2,363


9,129Benefit payments


10,412


13,181Liability for divested business (1)





3,046Effect of exchange rate changes


15,200


(5,681
)Benefit obligation at December 31

$
(220,473
)
$
(228,931
)Reconciliation of fair value of plan assets:Fair value of plan assets at January 1


160,095


153,880Actual return on plan assets


(28,896
)

9,292Employer contributions (2)


27,574


6,739Effect of exchange rate changes


(16,103
)

824Plan participant contributions


1,411


673Benefit payments


(8,531
)

(11,313
)Fair value of plan assets at December 31


135,550


160,095Funded status at December 31


(84,923
)

(68,836
)Net amount recognized

$
(84,923
)
$
(68,836
)






F-21

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(8) Pension and Postretirement Benefits other than Pensions: (Continued)



Amounts
recognized in the consolidated balance sheets as of:

December 31,2008

2007Long-term pension liability, net (1)

$
(84,923
)
$
(67,487
)Current pension liability





(1,349
)Net amount recognized

$
(84,923
)
$
(68,836
)






The
aggregate projected benefit obligation, accumulated benefit obligation, and fair value of plan assets for pension plans with projected and accumulated benefit obligations in excess
of plan assets as of December 31, 2008 and 2007 were as follows:

Projected and Accumulated Benefit Obligation in Excess
of the Fair Value of Plan AssetsU.S. Plans

Non-U.S. Plans2008

2007

2008

2007Projected benefit obligation

$
135,909

$
123,878

$
48,606

$
49,972Accumulated benefit obligation


121,046


107,886





Fair value of plan assets


75,502


99,378


18,048


2,517


Amounts
recorded in accumulated other comprehensive income as of:

December 31,2008

2007Actuarial loss

$
71,899

$
37,673Prior service cost


(3,607
)

(3,997
)$
68,292

$
33,676


These
amounts have not yet been recognized as components of net periodic pension expense.

F-22

---





Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(8) Pension and Postretirement Benefits other than Pensions: (Continued)

Significant assumptions used in determining pension expense and related pension obligations are as follows:

December 31,2008

2007

2006Discount RatesUnited States


6.25
%

6.50
%

6.00
%Germany


5.75


5.50


4.50United Kingdom


6.00


6.00


5.00Rates of increase in compensation levelsUnited States


3.50


3.50


3.50Germany


3.50


3.50


2.00United Kingdom


4.50


4.50


4.20Expected long-term rate of return on assetsUnited States


8.50


8.50


8.50Germany


4.66


4.84


United Kingdom


6.30


6.30


5.88


The
target asset allocation for the U.S. pension assets, on average, is 60 percent in equity securities and 40 percent in fixed income securities. This allocation is expected to earn an
average annual rate of return of approximately 8.5 percent measured over a planning horizon of twenty years with reasonable and acceptable levels of risk. This expected level will be obtained, with an
allowance for expenses, and cash investments, if equity securities realize an average annual return of 11 percent and fixed income securities produce an average annual yield of 6 percent.

The
target asset allocation for the U.K. pension assets, on average, is 39.4 percent in equity securities, 47.8 percent in fixed income securities, and 12.8 percent in cash. This
allocation is expected to earn an average annual rate of return of approximately 6.3 percent.

The
target asset allocation for the German pension assets is 10 percent in equity securities and 90 percent in fixed income securities. This allocation is expected to earn
an average annual rate of return of approximately 4.5 percent measured over a long-term planning horizon. This expected level will be obtained, with an allowance for expenses, and cash
investments, if equity securities realize an average annual return of 7 to 8 percent and fixed income securities produce an average annual yield of 2.5 to 3 percent.

The
discount rate assumptions were based on investment yields available on AA rated long-term corporate bonds with cash flows that are similar to expected benefit payments.

The
expected return on plan assets is based on the asset allocation mix and the historical return, taking into account current and expected market conditions.

F-23

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(8) Pension and Postretirement Benefits other than Pensions: (Continued)

The
weighted average asset allocations by asset category for the pension plans at December 31 are as follows:

U.S. Plans

U.K. Plans

German Plans2008

2007

2008

2007

2008

2007Equity securities


53
%

60
%

39
%

44
%

7
%

16
%Debt securities


45
%

38
%

48
%

49
%

91
%

83
%Other


2
%

2
%

13
%

7
%

2
%

1
%Total


100
%

100
%

100
%

100
%

100
%

100
%


Postretirement Benefits

The health benefit plans covering certain groups of U.S. employees are contributory, with contributions reviewed annually and adjusted
as appropriate. These plans contain other cost-sharing features such as deductibles and coinsurance. The Company does not
pre-fund these plans and has the right to modify or terminate any of these plans in the future. Health benefits for retirees of non-U.S. operations, where applicable, are
provided through government-sponsored plans to which the Company contributes funds during the individuals' employment periods.

The
components of the postretirement benefit expense of the Company-sponsored health benefit plans for 2008, 2007, and 2006, were as follows:

2008

2007

2006Service cost

$
225

$
385

$
595Interest cost


2,634


2,212


2,016Net deferral and amortization


1,030


947


762Postretirement benefit expense

$
3,889

$
3,544

$
3,373


The
Company expects to incur $1,050 for net deferral and amortization in 2009.

F-24

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(8) Pension and Postretirement Benefits other than Pensions: (Continued)

The
funded status of the Company-sponsored health benefit plans was as follows:

December 31,2008

2007Reconciliation of benefit obligation:Accumulated postretirement benefit liability at January 1

$
(38,648
)
$
(37,797
)Service cost


(225
)

(385
)Interest cost


(2,634
)

(2,212
)Actuarial loss


(2,495
)

(1,705
)Benefit payments


2,942


3,451Accumulated postretirement benefit liability at December 31


(41,060
)

(38,648
)Reconciliation of fair value of plan assets:Fair value of plan assets at January 1





Employer contributions


2,942


3,451Benefit payments


(2,942
)

(3,451
)Fair value of plan assets at December 31





Postretirement benefit obligation


(41,060
)

(38,648
)Less current portion


3,089


2,713Postretirement benefit obligation, long-term

$
(37,971
)
$
(35,935
)


At
December 31, 2008 and 2007 there is $19,834 and $18,369, respectively, of actuarial loss recognized in accumulated other comprehensive income.

The
assumed weighted average annual rate of increase in the per capita cost of medical benefits is 10.0% for 2008 and is assumed to decrease ratably in 2009 through 2014 and remain level
at 4.5% thereafter.

U.S.
employees retiring after March 1, 1993, and hired prior to January 1, 1993, will receive the standard health benefits up to age 65 and then will be eligible for a
Medicare reimbursement allowance based on years of service. U.S. employees hired after January 1, 1993, and retiring after age 65 with ten years of service, will be eligible at age 65 for a
Medicare reimbursement allowance based on years of service.

A
one percent increase or decrease in the annual health care trend rates would have increased or decreased the accumulated postretirement benefit obligation at December 31, 2008,
by $3,061, and increased or decreased postretirement benefit expense for 2008 by $211. The weighted average discount rate used to estimate the accumulated postretirement benefit obligation was 6.25%,
6.5%, and 6.0%, for 2008, 2007, and 2006, respectively.

F-25

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(8) Pension and Postretirement Benefits other than Pensions: (Continued)

The
benefits expected to be paid from the benefit plans, which reflect expected future years of service, and the Medicare subsidy expected to be received are as follows:

Pensions

Health Care

Health Care
Subsidy
Receipts2009

$
9,025

$
3,089

$
1142010


9,624


3,227


1352011


10,363


3,319


1542012


10,937


3,456


1702013


11,858


3,486


1872014-2018


72,460


17,248


1,096


The
Company plans to contribute approximately $14,000 to the Company pension and health benefit plans in 2009.

The
Company also maintains two defined contribution plans, the Sauer-Danfoss Employees' Savings Plan and the Sauer-Danfoss LaSalle Factory Employee Savings Plan, for eligible employees.
Company contributions include both base and matching amounts. The Company contributed approximately $3,100, $2,900 and $2,500 to these plans in 2008, 2007 and 2006, respectively.

(9) Income Taxes:

The Company's income (loss) before income taxes is as follows:

Years Ended December 31,2008

2007

2006United States

$
4,375

$
5,753

$
6,519European and other


(19,456
)

60,284


64,501Total

$
(15,081
)
$
66,037

$
71,020


The
Company's primary German operation is treated as a flow-through entity for United States tax purposes. The above analysis of pretax income and the following analysis of
the income tax provision by taxing jurisdiction are therefore not directly related.

F-26

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(9) Income Taxes: (Continued)

The
benefit (expense) for income taxes by taxing jurisdiction is as follows:

Years Ended December 31,2008

2007

2006CurrentUnited StatesFederal

$
(1,575
)
$
(656
)
$
585State


(1,487
)

(1,339
)

(446
)European and other


(30,012
)

(20,288
)

(23,373
)Total Current


(33,074
)

(22,283
)

(23,234
)DeferredUnited StatesFederal


(3,454
)

(3,923
)

3,295State


(102
)

(280
)

1,191European and other


22,570


7,647


1,727Total Deferred


19,014


3,444


6,213Total income tax expense

$
(14,060
)
$
(18,839
)
$
(17,021
)


A
reconciliation of tax expense calculated using the U.S. statutory tax rate and recorded income tax expense based on the Company's income before income taxes is as follows:

Years Ended December 31,2008

2007

2006Tax benefit (expense) based on U.S. statutory tax rate

$
5,278

$
(23,114
)
$
(24,857
)Statutory tax rate change


93


393


Foreign taxes (rate and other differences)net


(5,890
)

(2,528
)

(311
)State income taxesnet of federal benefit


(1,033
)

(777
)

484Tax effect of minority interest


(2,379
)

(1,731
)

(1,752
)Tax reserves and allowancesnet


(3,051
)

9,910


5,660Non-deductible expenses / Non-taxable incomenet


(971
)

(1,681
)

3,433U.S. & Denmark goodwill impairment


(6,281
)




Other


174


689


322Total income tax expense

$
(14,060
)
$
(18,839
)
$
(17,021
)


During
the preparation of the 2008 financial statements two errors relating to the 2007 U.K. deferred taxes were discovered. The net of the two errors was $1,900 of additional tax
expense and deferred tax liability which was corrected in 2008 and is included above in Foreign taxes (rate and other differences)net.

F-27

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(9) Income Taxes: (Continued)

The
components of the Company's net deferred tax assets and liabilities, determined on a jurisdictional and entity basis, are attributable to the following:

December 31,2008

2007Assets

Liabilities

Assets

LiabilitiesNet operating loss (NOL) and tax credit carryforwards

$
18,057

$


$
21,023

$
Deferred compensation, postretirement medical and accrued pension benefits


44,760


(871
)

31,244


Fixed asset basis differences


7,241


(22,303
)

3,551


(24,711
)Inventory and warranty accruals


9,628


(2,349
)

8,936


(2,164
)Intangible asset fair market value step-up


8,908


(8,894
)

4,350


(8,821
)Other items


37,594


(11,141
)

14,150


(5,817
)Gross deferred tax assets/liabilities


126,188


(45,558
)

83,254


(41,513
)Valuation allowance


(6,103
)




(4,050
)

Net deferred tax assets/liabilities


120,085


(45,558
)

79,204


(41,513
)Less current portion


(13,101
)

1,315


(17,524
)

583Net deferred tax assets/liabilities, long-term

$
106,984

$
(44,243
)
$
61,680

$
(40,930
)


In
2008 the Company determined that the net deferred tax assets in Italy are not expected to be usable within their expiration time frame due to a five-year limitation on net
operating losses. This resulted in an increase in valuation allowances of $2.1 million.

In
2007 the Company determined that the remainder of the US NOL carryforward will offset future taxable income. This resulted in a decrease to the valuation allowance of $1,230 and a
corresponding decrease to goodwill. The Company also determined that unrecognized tax benefits in the UK would be realized. This resulted in a decrease to the valuation allowance of $5,252 and a
reduction to tax expense in 2007.

As
of December 31, 2008 and 2007, the Company had not provided U.S. federal income taxes on $170,556 and $218,552, respectively, of undistributed earnings recorded by certain
subsidiaries outside the United States since these earnings were deemed permanently invested. Although it is not practicable to determine the deferred tax liability on the unremitted earnings, foreign
tax credits would be available to reduce U.S. tax liability if these foreign earnings were remitted.

The
Company files income tax returns in the U.S. federal jurisdiction, and various states and foreign jurisdictions. With few exceptions, the Company is no longer subject to U.S.
federal, state and local, or non-U.S. income tax examinations by tax authorities for years before 2004. In October 2007 the Internal Revenue Service (IRS) began a routine audit of the
Company's federal income tax returns for the 2004, 2005 and 2006 taxation years. Although not officially closed, the settlement for the audit was known at December 31, 2008 and has been
incorporated into the Consolidated Financial Statements. Taxable

F-28

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(9) Income Taxes: (Continued)

income
was increased in each of the audit years resulting in increased usage of foreign tax credits thereby decreasing the foreign tax credit carryover.

A
reconciliation of the beginning and ending gross unrecognized tax benefits (UTB) is as follows:

AmountGross UTB Balance at January 1, 2008

$
7,587Additions based on tax positions related to the current year


58Additions for tax positions of prior years


1,552Reductions for tax positions of prior years


Settlements


(6,683
)Foreign currency adjustments


(197
)Reductions due to lapse of applicable statute of limitations


Gross UTB Balance at December 31, 2008

$
2,317Net UTB impacting the effective tax rate at December 31, 2008

$
743


The
total amount of UTB that, if recognized, would affect the effective tax rate as of December 31, 2008 and 2007 were $743 and $724, respectively. The total amount of UTB is not
expected to significantly increase or decrease within the next twelve months. The net UTBs are included as components of deferred income tax assets and other liabilities in the Consolidated Balance
Sheets.

The
Company recognizes interest and penalties related to unrecognized tax benefits in interest expense and other expense. Interest and penalties of $99 have been accrued as of
December 31, 2008.

The
Company had the following tax return carryforwards available to offset future years' taxable income at December 31, 2008:

Amount

Expiration DatesBrazil NOL

$
5,740

NoneChina NOL


4,799

2009-2013Denmark NOL


3,444

NoneGerman NOLNational


6,615

NoneGerman NOLLocal


4,365

NoneU.S. NOL


19,358

2009-2019U.K. NOL


10,748

NoneOther non-U.S. NOL


779

VariousState NOL


15,727

2009-2019State tax credits


1,151

2009-2018


The
ultimate realization of net deferred tax assets is dependent upon the generation of future taxable income during (i) the years in which temporary differences reverse and
(ii) the years prior to the expiration of NOL and credit carryforwards. Management considers projected future taxable income and tax planning strategies in making this assessment. After making
such assessment for the year ending December 31, 2008, management believes that $1,164 of the U.S. NOL, $14,816 of the State NOL and $1,608 of the State tax credits will more likely than not
expire unused. Management believes it is more likely than not that the Company will realize the remaining benefits of the net deferred tax assets as of December 31, 2008.

F-29

---





Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(10) Minority Interests:

Minority interests in net assets and income reflected in the accompanying consolidated financial statements for 2008, 2007, and 2006 consists of:



The
following table sets forth the components of minority interest in the consolidated balance sheets:

December 31,2008

2007Hydro-Gear Limited Partnership

$
32,453

$
32,571Sauer Shanghai Hydraulic Transmission Co., Ltd.


13,448


10,575Sauer-Danfoss-Daikin, Ltd.


9,500


7,584TSD Integrated Controls LLC


1,128


1,810Daikin-Sauer-Danfoss Manufacturing, Ltd.


11,126


8,004Total

$
67,655

$
60,544


The
Hydro-Gear Limited Partnership agreement indicates a termination date of December 31, 2035. This entity is consolidated in the Company's financial statements. The
agreement indicates that if the partnership were to terminate the partnership would be liquidated and the resulting proceeds would be distributed in accordance with each partner's ownership
percentage.

F-30

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(11) Accumulated Other Comprehensive Income:

The changes in accumulated other comprehensive income for the years ended December 31, 2006, 2007, and 2008 follows:

Currency
Translation

Pension/
Postretirement
Benefit
Adjustment

Hedging
Activities

Accumulated
Other
Comprehensive
IncomeBalance as of January 1, 2006

$
39,242

$
(12,052
)
$
(279
)
$
26,911Change in period


38,089


(10,670
)

1,145


28,564Adoption of SFAS No. 158





(41,130
)




(41,130
)Effect of exchange rate changes





(817
)




(817
)Income tax benefit (expense)





13,113


(298
)

12,815Balance as of December 31, 2006


77,331


(51,556
)

568


26,343Change in period


40,736


16,202


2,674


59,612Effect of exchange rate changes





(1,288
)




(1,288
)Income tax expense





(2,452
)

(530
)

(2,982
)Balance as of December 31, 2007


118,067


(39,094
)

2,712


81,685Change in period


(24,389
)

(38,719
)

(9,291
)

(72,399
)Effect of exchange rate changes





1,844





1,844Income tax benefit





14,435


2,430


16,865Balance as of December 31, 2008

$
93,678

$
(61,534
)
$
(4,149
)
$
27,995


(12) Fair Value and Derivative Financial Instruments:

At December 31, 2008 the Company held certain assets and liabilities that are required to be measured at fair value on a recurring basis. These included the Company's derivative
instruments, related to both foreign currency exchange and interest rates, which are recognized at fair value in accordance with SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities". Fair value is based on the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. It
is the Company's policy to maximize the use of observable inputs and minimize the use of unobservable inputs when developing fair value measurements. The fair values of the foreign currency exchange
and interest rate contracts are determined based on inputs that are readily available in public markets or can be derived from information available in publicly quoted markets. Therefore, the Company
has categorized these contracts as Level 2 in the fair value hierarchy.

F-31

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(12) Fair Value and Derivative Financial Instruments: (Continued)

The
following table shows the Company's financial assets and liabilities that were accounted for at fair value on a recurring basis as of December 31, 2008.

Assets:Foreign currency exchange contracts

$
2,108Interest rate swap contracts


Liabilities:Foreign currency exchange contracts

$
5,434Interest rate swap contracts


1,897


The
Company enters into forward contracts to hedge the value of the U.S. dollar or euro cash flow at locations that do not have the U.S. dollar or euro as their functional currency but
conduct certain transactions in U.S. dollars or euros. The objective of all outstanding forward contracts is to hedge forecasted transactions in U.S. dollars or euros through the cash settlement date.
The Company enters forward contracts that mature from two to eighteen months after the contract date.

Changes
in the fair value of derivative financial instruments are recognized in income or in stockholders' equity as a component of comprehensive income depending on whether the
transaction related to the hedged risk has occurred. Changes in fair values of derivatives that are accounted for as cash flow hedges are recorded in other comprehensive income. Any portion of the
hedge that is deemed ineffective due to the absolute value of the cumulative change in the derivative being greater than the cumulative change in the hedged item is recorded immediately in other
income (expense) on the consolidated statement of income. There was no hedge ineffectiveness in 2008, 2007 or 2006.

The
Company recognized an increase in net sales of $7,805 and $1,548 for the years ended December 31, 2008 and 2007, respectively due to the effects of hedge accounting for
forward contracts. In addition, the Company recognized additional other expense of $504 in 2008 and other income of $635 in 2007 as a result of the forward contracts .

At
December 31, 2008 the Company expects to reclassify approximately $2,900 of losses, net of tax, on derivative instruments from accumulated other comprehensive income to the
income statement during the next twelve months due to the actual fulfillment of forecasted transactions.

Interest
rate swaps, which are designated as cash flow hedges, are used by the Company to establish fixed interest rates on outstanding borrowings. At December 31, 2008 the
Company had two interest rate swaps outstanding, one maturing in October 2010 and the other maturing in December 2011. The combined notional amount of the two contracts was $34,027 at
December 31, 2008. There is no ineffectiveness of the interest rate swaps and therefore, the changes in fair value of the derivatives of $1,187, net of deferred taxes, were recorded in
accumulated other comprehensive income at December 31, 2008.

The
Company uses derivative financial instruments to manage risk and not for trading or other speculative purposes.

F-32

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(13) Long-Term Incentive Plan:

The Company's 1998 Long-Term Incentive Plan (1998 Incentive Plan) provides for the grant of stock options, stock appreciation rights, restricted stock, performance units,
performance shares, and other incentive awards to officers and key employees. The total number of shares of common stock that may be subject to awards or be issued under the 1998 Incentive Plan shall
not exceed 2,400,000 shares, of which no more than 1,200,000 shares may be issued as restricted stock. The settlement of performance units is in shares of Company stock or cash as determined by the
Compensation Committee of the Board of Directors. The performance units entitle the participants to receive an amount equal to the Company's dividends during the vesting period.

In
December 2005 the Board of Directors approved the adoption of the Sauer- Danfoss Inc. 2006 Omnibus Incentive Plan (2006 Incentive Plan), which was approved by the stockholders
at the annual meeting in June 2006. The 2006 Incentive Plan provides for grants similar to those under the 1998 Incentive Plan and qualifies certain awards for the performance-based exception to
obtain favorable tax treatment. The total number of shares of common stock that may be issued under the 2006 Incentive Plan shall not exceed 3,500,000 shares.

In
March 2008 the Compensation Committee granted 328,053 performance units under the 2006 Incentive Plan, 307,945 of which will be settled 100 percent in Company stock with shares
withheld having a value to meet the minimum statutory withholding requirements and 20,108 performance units granted to certain individuals that will be settled in cash. The units to be settled in cash
are accounted for as liability units, with the remainder of the units accounted for as equity units. The following chart summarizes performance unit activity under the Plan for the year ended
December 31, 2008:

Equity Units

Number

Weighted Average
Grant Date Fair
Value

Weighted Average
Vesting Period in
YearsUnits Outstanding at January 1


738,712

$
25.68


3.0Units settled


(280,870
)

21.26


3.0Units granted


307,945


18.89


3.0Units forfeited


(60,178
)

27.06


3.0Units Outstanding at December 31


705,609


24.34


3.0




Cash Units

Number

Fair Value

Weighted Average
Vesting Period in
YearsUnits Outstanding at January 1


97,196Units granted


20,108Units Outstanding at December 31


117,304

$
8.75


3.0


The
Compensation Committee sets performance goals for each performance unit grant and depending on the extent to which these goals are met will determine the number of performance units
that will be paid out to the participants. Based on performance results for 2006 through 2008 the performance units granted in 2006 are expected to be settled at 37.5% or the equivalent of
approximately 82,000 shares for the equity based shared and approximately $190 for the cash based shares. In accordance with SFAS

F-33

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(13) Long-Term Incentive Plan: (Continued)

No. 123R,
"Share-Based Payment," compensation expense is recognized over the vesting period of three years, measured based on the market price of the Company's stock at the date of grant with
an offsetting increase in additional paid-in capital. The expense related to the grants that will be settled in cash is based on the market price of the Company's stock as of the balance
sheet date. The President and the CEO of the Company retired on January 1, 2009. In accordance with the terms of his performance unit grants, the grants related to performance periods after he
left the company would be paid at 100% of the performance target and therefore the expense for his 2007 and 2008 grants were fully expensed in 2008, rather than over the three year performance period.

In
2007 the Compensation Committee awarded 10,000 shares of restricted stock under the 2006 Incentive Plan. The restricted stock awards entitle the participants to full dividend and
voting rights. The value of the award was established based on the market value of the stock as of the grant date. In 2008 5,000 shares vested and the remaining 5,000 shares will vest in 2009.

Compensation
income or expense recognized in selling, general, and administrative expenses in conjunction with the performance units and restricted stock outstanding was income of $2,260
in 2008, and expense of $4,301, and $6,827 in 2007 and 2006, respectively. The income recognized in 2008 was due to reducing the accrual related to the performance units to be settled in cash and the
accrual related to the 2007 performance unit grant due to the decrease in financial performance during 2008. The tax expense recognized related to the 2008 income was $814 and tax benefits recognized
related to expense was $1,555, and $2,468 in 2007 and 2006, respectively. The Company expects to recognize approximately $20 of additional compensation expense through 2009 related to the outstanding
performance units and restricted stock under these two plans.

The
Company also has a Non-employee Director Stock Option and Restricted Stock Plan which permits the granting of non-qualified stock options and restricted
common
stock to directors of the Company who are not employees of the Company. The total number of shares of common stock to be issued under this plan shall not exceed 250,000 shares.

Under
the Non-employee Director Stock Option and Restricted Stock Plan the Company awarded 15,000 shares of restricted stock to non-employee directors in 2008 and
13,500 shares to non-employee directors in both 2007 and 2006. The restricted stock awards entitle the participants to full dividend and voting rights. Unvested shares are restricted as to
disposition and subject to forfeiture under certain circumstances. The value of each award was established based on the market value of the stock as of the grant date. The shares vest over three
years. Compensation expense is computed based on the market value of the restricted shares at the grant date, which is amortized ratably over the vesting period of the grants. Compensation expense
recognized in conjunction with the restricted stock outstanding to non-employee directors in 2008, 2007, and 2006 amounted to $448, $316, and $243, respectively.

(14) Sale of Businesses:

In December 2008 the Company signed a sales agreement to sell its alternating current (AC) motor business related to the material handling market. The closing of the transaction will
occur in the first half of 2009 at which time the machinery and inventory covered by the purchase agreement will be transferred

F-34

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Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(14) Sale of Businesses: (Continued)

to
the purchaser. In 2008 the machinery and inventory were written down to the proceeds expected to be received upon transfer of the assets. A loss of approximately $8,400 is reported in the Controls
segment.

In
April 2007 the Company sold its direct current (DC) motor business. The sale resulted in a loss of approximately $6,600, including transaction costs. The loss is reported in the
Controls segment.

The
Company sold the assets and product lines located in the Swindon, England location in June 2007. The assets were used to produce customized open circuit gear pumps. Open circuit gear
pumps and motors continue to be produced at other locations within the Company. The Company recognized a net loss on the sale of approximately $2,400, including transaction costs, reported in the Work
Function segment. The Company had anticipated discontinuing production at this location by the end of 2007 and had established an accrual with the expectation that termination payments would be made
to employees at the time production ended. A severance accrual of approximately $1,900, established during 2006, was reversed at the time of sale. The reversal of the accrual was reflected as an
offset to the loss on sale of business calculation.

(15) Related Person Transactions:

In connection with the acquisition of Danfoss Fluid Power on May 3, 2000, the Company entered into several agreements with Danfoss A/S to purchase ongoing operational services
from Danfoss A/S. These services include rental of shared facilities, administrative support and information technology support. These fees are paid on a monthly basis. Total expense recognized for
goods and services purchased from Danfoss A/S for 2008, 2007, and 2006 was approximately $87,100, $72,400, and $63,400, respectively. At December 31, 2008 and 2007 approximately $7,900 and
$6,200 owed to Danfoss A/S is included in accounts payable on the consolidated balance sheet. Payments required under these agreements as of December 31, 2008, during the years ending 2009
though 2013 and 2014 and thereafter, are $9,107, $9,114, $9,122, $9,130, $8,857, and $11,809, respectively. The Company also sold products to Danfoss A/S totaling approximately $6,800, $8,000, and
$6,600 during 2008, 2007, and 2006, respectively. At December 31, 2008 and 2007 approximately $1,500 and $100 due from Danfoss A/S is included in accounts receivable on the consolidated balance
sheet.

The
subsidiaries in Denmark file a joint tax return with Danfoss A/S as required under the laws of Denmark.

The
Company borrowed $50,000 under a term loan in December 2008 and in March 2009 entered into (a) the Danfoss Credit Agreement pursuant to which the Company has the
ability to borrow up to $490,000 and (b) a short-term bridge loan of $25,000, all with Danfoss A/S as lender. The principal
balance along with unpaid accrued interest on the $50,000 term loan is to be paid in December 2011. The principal balance, along with unpaid accrued interest, on the $25,000 bridge loan is likely to
be repaid on March 25, 2009. All outstanding principal and accrued interest on the Danfoss Credit Agreement is likely to be repaid by September 30, 2010.

In
2008 the Company entered an Agreement for Transfer of Business and Sale of Inventory (Agreement) with Danfoss LLC, a subsidiary of Danfoss A/S. The Agreement replaced a
Distribution and Service Agreement which had been in place with Danfoss A/S under which Sauer-Danfoss product had

F-35

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(15) Related Person Transactions: (Continued)

been
sold in the Commonwealth of Independent States. The Company purchased primarily customer relationships and inventory in this transaction.

The
Company purchases inventory components from Shanghai Hydraulics and Pneumatics, a minority interest owner in an entity included in the Company's consolidated financial statements.
Purchases were approximately $5,600, $4,900, and, $3,200 in 2008, 2007, and 2006, respectively.

In
addition, the Company sold product totaling approximately $4,100, $4,900 and $4,600 in 2008, 2007 and 2006, respectively, to Daikin Industries Ltd. (Daikin), a minority
interest owner in an entity consolidated by the Company. The Company also purchases inventory components and ongoing operational services from Daikin. These services include shared facilities and
administrative support. Total expense recognized for goods and services purchased from Daikin in 2008, 2007, and 2006 were approximately $6,500, $6,000 and $5,900, respectively.

The
Company had sales to Faun Umwelttechnik GmbH & Co., a company owned by a director of the Company, of approximately $1,000, $1,700 and $1,200 in 2008, 2007 and
2006, respectively.

(16) Commitments, Contingencies, and Guarantees:

The Company leases certain facilities and equipment under operating leases, many of which contain renewal options. Total rental expense on all operating leases during 2008, 2007, and
2006 was $26,254, $20,477, and $18,490, respectively. Rent is expensed on a straight-line basis over the term of the leases.

Minimum
future rental commitments under all noncancelable operating leases as of December 31, 2008, during the years ending 2009 through 2013 and for 2014 and thereafter, are
$15,740, $14,585, $13,822, $8,760, $7,603, and $32,005, respectively.

The
Company also leases certain facilities and equipment under capital leases. The liability related to these capital leases is included in current other accrued liabilities and other
long-term liabilities on the consolidated balance sheets. Minimum future lease payments under all noncancelable capital leases as of December 31, 2008, during the years ending 2009
through 2013 and for 2014 and thereafter, are $1,456, $1,323, $1,140, $1,114, $808, and $13,378, respectively.

The
Company, from time to time, is involved in various legal matters considered normal in the course of its business. The Company intends to vigorously defend against all such claims. It
is the Company's policy to accrue for amounts related to these matters if it is probable that a liability has been incurred and an amount can be reasonably estimated. Although the outcome of such
matters cannot be predicted with certainty and no assurances can be given with respect to such matters, the Company believes that the outcome of these matters in which it is currently involved will
not have a materially adverse effect on its results of operations, liquidity or financial position.

F-36

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Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(17) Quarterly Financial Data (Unaudited):

Summarized quarterly data is set forth in the following table:

QuarterFirst

Second

Third

Fourth

Total2008Net sales

$
617,399

$
611,538

$
490,188

$
371,388

$
2,090,513Gross profit


147,725


138,006


111,866


38,013


435,610Net income (loss)


27,863


22,706


10,901


(90,611
)

(29,141
)Basic net income (loss) per common share

$
0.58

$
0.47

$
0.23

$
(1.88
)
$
(0.60
)Diluted net income (loss) per common share(1)

$
0.57

$
0.47

$
0.22

$
(1.88
)
$
(0.60
)2007Net sales

$
523,132

$
503,472

$
451,771

$
494,173

$
1,972,548Gross profit


124,585


112,295


94,221


96,601


427,702Net income


15,369


17,633


5,499


8,697


47,198Basic net income per common share

$
0.32

$
0.37

$
0.11

$
0.18

$
0.98Diluted net income per common share

$
0.32

$
0.37

$
0.11

$
0.18

$
0.982006Net sales

$
483,959

$
469,856

$
381,895

$
403,378

$
1,739,088Gross profit


115,972


118,475


82,500


79,817


396,764Net income (loss)


28,321


23,510


7,078


(4,910
)

53,999Basic net income (loss) per common share

$
0.59

$
0.49

$
0.15

$
(0.10
)
$
1.13Diluted net income (loss) per common share(1)

$
0.59

$
0.49

$
0.15

$
(0.10
)
$
1.12






(18) Segment and Geographic Information:

The Company reports its operating segments around its various product lines of Propel, Work Function and Controls. Propel products include hydrostatic transmissions and related products
that transmit the power from the engine to the wheel to propel a vehicle. Work Function products include steering motors as well as gear pumps and motors that transmit power for the work functions of
the vehicle. Controls products include electrohydraulic controls, microprocessors, electric motors, and valves that control and direct the power of a vehicle. Segment costs in Global Services relate
to internal global service departments and include costs such as consulting for special projects, tax and accounting fees paid

F-37

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(18) Segment and Geographic Information: (Continued)

to
outside third parties, certain insurance premiums, and amortization of intangible assets from certain business combinations.

The
accounting policies of the segments are the same as those described in the summary of significant accounting policies. The Company evaluates individual segment performance based on
segment income or loss defined as the respective segment's portion of the total Company's net income, excluding net interest expense, income taxes, minority interest, and equity in net earnings of
affiliates.

The
following table presents the significant items by operating segment for the results of operations for the years ended December 31, 2008, 2007, and 2006, respectively:

Propel

Work
Function

Controls

Global
Services

Total2008Trade sales

$
1,016,609

$
561,416

$
512,488

$


$
2,090,513Segment income (loss)


156,805


(65,699
)

(21,386
)

(42,362
)

27,358Interest expense














(25,654
)Interest income














1,026Minority interest














(17,811
)Loss before income taxes














(15,081
)Depreciation and amortization


48,111


38,411


23,485


2,955


112,962Total assets


541,489


330,628


272,186


323,373


1,467,676Capital expenditures


98,982


54,312


36,714


8,626


198,6342007Trade sales

$
940,692

$
534,040

$
497,816

$


$
1,972,548Segment income (loss)


146,617


(2,886
)

17,740


(51,131
)

110,340Interest expense














(23,789
)Interest income














1,048Minority interest














(21,562
)Income before income taxes














66,037Depreciation and amortization


43,882


32,987


20,422


5,012


102,303Total assets


496,021


372,775


301,214


330,412


1,500,422Capital expenditures


61,129


35,804


30,189


8,511


135,6332006Trade sales

$
839,306

$
471,379

$
428,403

$


$
1,739,088Segment income (loss)


111,762


16,509


42,680


(60,553
)

110,398Interest expense














(18,415
)Interest income














654Minority interest














(21,617
)Income before income taxes














71,020Depreciation and amortization


42,822


29,190


18,399


5,254


95,665Total assets


405,847


335,843


242,724


322,654


1,307,068Capital expenditures


42,934


39,050


29,393


4,867


116,244


F-38

---



Sauer-Danfoss Inc. and Subsidiaries

Notes to Consolidated Financial Statements (Continued)

December 31, 2008, 2007, and 2006

(Dollars in thousands, except per share data)

(18) Segment and Geographic Information: (Continued)

A
summary of the Company's net sales and long-lived assets by geographic area is presented below:

Net Sales (1)

Long-Lived Assets (2)2008

2007

2006

2008

2007United States

$
740,506

$
744,560

$
734,844

$
193,144

$
187,567Germany


229,101


205,661


166,756


76,801


65,398Italy


145,666


147,614


118,334


36,424


36,348Denmark(3)


36,146


31,423


19,362


185,785


216,364Other countries


939,094


843,290


699,792


228,070


206,665Total

$
2,090,513

$
1,972,548

$
1,739,088

$
720,224

$
712,342






No
single customer accounted for 10% or more of total consolidated sales in any year presented.

(19) Subsequent Events:

On March 12, 2009 the Company entered into a Credit Agreement with Danfoss A/S, which provides for a multicurrency term loan and revolving credit facilities of $490,000 (the
"Danfoss Credit Agreement") through September 30, 2010. Borrowings under the Danfoss Credit Agreement bear interest at an underlying funding rate (initially expected to be LIBOR) plus 8.0%. The
Company will pay an upfront facility fee of 1.75% of the $490,000 facility and will pay an annual commitment fee of 4% on any undrawn portion of the facility. Danfoss A/S is the majority stockholder
of the Company.
The Company intends to use the proceeds from the Danfoss Credit Agreement primarily to refinance or repay the Company's borrowings under its Multi-Currency Revolving and Term Facilities Agreement.

In
December 2008 the Company entered into a credit agreement with Danfoss A/S that provided for a $50,000 term loan to the Company. The Company used the proceeds of the term loan to pay
down other indebtedness that bore interest at a higher rate than the Company's rate under the term loan from Danfoss A/S. The term loan has a maturity date of December 9, 2011 and bears
interest at an annual rate of 4.02%. The Company paid a facility fee of 10 basis points. The loan is unsecured.

To
facilitate the redemption of the Company's outstanding U.S. 2000 Senior Notes in the principal amount of $24,000, described in Note 7, the Company entered into an additional
short-term $25,000 loan agreement with Danfoss A/S on March 12, 2009. The loan is unsecured, bears interest at an annual rate of 3.98%, and matures on March 25, 2009. On March 13,
2009 the Company used the proceeds of the $25,000 term loan to redeem the U.S. 2000 Senior Notes.

In
2009 the Company decided to exit the electric drives activities on electric motors and generators. In 2007 the Company sold the DC electric drives motor business and in 2008 signed a
sales agreement to sell the AC electric drives motor business. The remaining business is expected to cease operations in 2009.

F-39

---





Report of Management

Management Oversight

Sauer-Danfoss believes that good corporate governance promotes ethical business practices, demands meticulous accounting policies and
procedures, and includes a structure with effective checks and balances. The management of Sauer-Danfoss Inc. is responsible for the integrity and objectivity of the financial information
presented in this annual report on Form 10-K. Sauer-Danfoss believes that the consolidated financial statements have been prepared in conformity with accounting principles generally
accepted in the United States applying certain estimates and judgments as required.

Our
management is responsible for establishing and maintaining a system of internal controls over financial reporting. This system is augmented by written policies and procedures,
careful selection and training of financial management personnel, a continuing management commitment to the integrity of the system, and through examinations by an internal audit function that
coordinates its activities with the Company's independent auditors.

Under
the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of
our internal controls over financial reporting based on the framework in Internal ControlIntegrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO). Based on our evaluation under the framework in Internal ControlIntegrated Framework, our management concluded that our internal control over financial reporting was
effective as of December 31, 2008.

Independent Oversight

All of our directors are skilled business leaders. The members of the Board and each committee have express authority to retain outside
advisors. The Board and each committee perform annual self-evaluations in order to assess their performance and to ensure that the Board and committee structure is providing effective
oversight of corporate management.

Our
Audit Committee is composed entirely of independent outside directors. The Committee meets periodically with management, the internal auditors, and the independent auditors, both
separately and jointly, to discuss internal accounting controls and the quality of financial reporting. To ensure complete independence, the internal auditors and representatives of KPMG LLP
have full access to meet with the Audit Committee, with or without management representatives present, to discuss the results of their audits and their opinions on the adequacy of internal controls
and the quality of financial reporting. The Audit Committee has the direct responsibility for the appointment of the independent registered accounting firm to be retained for the coming year, subject
to stockholder approval.

Disclosure Controls

We have established rigorous procedures to ensure that we provide complete and accurate disclosure in our publicly filed documents. Our
Disclosure Committee, made up of key individuals from various corporate functions, has been in place for the past several years. This Committee meets at least quarterly to review public filings and
earnings releases, and to discuss any potential disclosure issues that may arise. We have established a "whistle-blower" hotline for employees, customers, suppliers or any stakeholder anywhere in the
world to anonymously submit any concern they may have regarding corporate controls or ethical breaches. All complaints are investigated, and where necessary, concerns involving our financial
statements, public disclosures or management are directed to our Audit Committee.

Code of Legal and Ethical Business Conduct

The Sauer-Danfoss Code of Legal and Ethical Business Conduct is based not just solely on what we have a right to do, but even more
importantly, on what is the right thing to do. Annually, we reiterate the vital importance of our Code of Legal and Ethical Business Conduct by requiring employees in key functional areas to certify
their compliance with the standards of the Code.

SVEN RUDER

KARL J. SCHMIDTPresident and Chief Executive Officer

Executive Vice President and Chief Financial Officer


F-40

---





Report of Independent Registered Public Accounting Firm

The
Board of Directors and Shareholders
Sauer-Danfoss Inc.:

We
have audited the accompanying consolidated balance sheets of Sauer-Danfoss Inc. and subsidiaries (the Company) as of December 31, 2008 and 2007, and the related
consolidated statements of operations, stockholders' equity and comprehensive income (loss), and cash flows for each of the years in the three-year period ended December 31, 2008.
In connection with our audits of the consolidated financial statements, we also have audited the related financial statement schedule (as listed in Part IV, Item 15 (a) 2 of this
Form 10-K). We also have audited the Company's internal control over financial reporting as of December 31, 2008, based on criteria established in Internal ControlIntegrated Frameworkissued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company's
management is responsible for these consolidated financial statements and financial statement schedule, for maintaining effective internal control over financial reporting, and for its assessment of
the effectiveness of internal control over financial reporting, included in the accompanying Management's Report on Internal Control over Financial Reporting (as included in Part II,
Item 9A). Our responsibility is to express an opinion on
these consolidated financial statements and financial statement schedule and an opinion on the Company's internal control over financial reporting based on our audits.

We
conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to
obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material
respects. Our audits of the consolidated financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting
principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an
understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control
based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our
opinions.

A
company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures
that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide
reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and
expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.

Because
of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future
periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In
our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Sauer-Danfoss Inc. and subsidiaries as
of December 31, 2008 and 2007, and the results of their operations and their cash flows for each of the years in the three-year period ended

F-41

---



December 31,
2008, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the related financial statement schedule, when considered in relation to the basic
consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. Also in our opinion, Sauer-Danfoss Inc. and subsidiaries
maintained, in all material respects,
effective internal control over financial reporting as of December 31, 2008, based on criteria established inInternal ControlIntegrated
Frameworkissued by the Committee of Sponsoring Organizations of the Treadway Commission.

Effective
January 1, 2007, the Company adopted the provisions of FASB Interpretation No. 48,Accounting for Uncertainty in Income
Taxes. The Company adopted the provisions of Statement of Financial Accounting Standards No. 158,Employers' Accounting for Defined Benefit
Pension and Other Postretirement Plans,on December 31, 2006.

Des
Moines, Iowa
March 24, 2009

F-42

---





Schedule II        Sauer-Danfoss Inc. and Subsidiaries        Valuation and Qualifying Accounts        Years Ended December 31, 2006, 2007,
and 2008        (in thousands)

Balance at
Beginning of
Year

Charged to
Costs and
Expenses

Receivables
Written Off/
Settlement of
Claims

Divestiture
of Business

Foreign
Currency
Translation
Adjustment

Balance at
End of YearFor the year ended
December 31, 2006Allowance for doubtful accounts

$
4,900


1,140


(613
)




278

$
5,705For the year ended
December 31, 2007Allowance for doubtful accounts

$
5,705


728


(1,219
)

(459
)

378

$
5,133For the year ended
December 31, 2008Allowance for doubtful accounts

$
5,133


1,394


(1,000
)




(317
)
$
5,210


F-43

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