**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

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**FORM 10-K**

| **(Mark One)** |
|----------------|
| **x**          | **ANNUAL REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|           | **For the fiscal year ended  December 31, 2005** |
| **or**         |
| **o**          | **TRANSITION REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
| ** **     | **For the transition period from  _______________ to _______________** |

 

**Commission File Number 1-12432**

**AMERICAN POWER CONVERSION CORPORATION**

(Exact name of registrantas specified in its charter)

| **MASSACHUSETTS**               | ** ** | **04-2722013**      |
|---------------------------------|------------|---------------------|
| (State or other jurisdiction of |       | (I.R.S. employer    |
| incorporation or organization)  |       | Identification No.) |

 

**132 FAIRGROUNDS ROAD, WEST KINGSTON, RHODE ISLAND 02892**

**401-789-5735**

(Address and telephone number of principal executiveoffices)

Securities registeredpursuant to Section 12(b) of the Act:

|                                | **Title of Each Class** | ** **              | ** ** |  | **Name of Each Exchange on Which Registered** | ** ** |
|--------------------------------|-------------------------|-------------------------|------------|--|-----------------------------------------------|------------|
| Common Stock, $0.01  par value |                    | Nasdaq National  Market |

 

Securities registered pursuant to Section 12(g) ofthe Act:

**None**

Indicateby check mark whether the registrant is a well-known seasoned issuer, asdefined in Rule 405 of the Securities Act. YES x  NO o

 

Indicateby check mark if the registrant is not required to file reports pursuant to Section 13or 15(d) of the Exchange Act. YES o  NO x

 

Indicate by check markwhether the registrant (1) has filed all reports required to be filed by Section 13or 15(d) of the Securities Exchange Act of 1934 during the preceding 12months (or for such shorter period that the registrant was required to filesuch reports) and (2) has been subject to such filing requirements for thepast 90 days. YES x  NOo

Indicate by check mark ifdisclosure of delinquent filers pursuant to Item 405 of Regulation S-K is notcontained herein, and will not be contained, to the best of the registrant’sknowledge, in definitive proxy or information statements incorporated byreference in Part III of this Form 10-K or any amendment tothis Form 10-K.          x

Indicate by checkmark whether the registrant is a large accelerated filer, an accelerated fileror a non-accelerated filer. See definition of “accelerated filer and largeaccelerated filer” in Rule 12b-2 of the Exchange Act.

| Large accelerated filer x |   | Accelerated filer o |   | Non-accelerated  filer |
|---------------------------|--------|---------------------|--------|------------------------|

 

Indicate by check mark whether the registrant is ashell company (as defined in Rule 12b-2 of the Exchange Act). YES o  NO x

 

The aggregate market value of the outstanding commonstock, other than shares held by persons who may be deemed affiliates of theregistrant, as of the last business day of the registrant’s most recentlycompleted second fiscal quarter was approximately $4,091,000,000. The number ofshares outstanding of the registrant’s common stock, $0.01 par value, on March 1,2006 was 196,003,000.

**DocumentsIncorporated by Reference**

Portionsof the registrant’s definitive Proxy Statement in connection with the 2006Annual Meeting of the Shareholders are incorporated by reference in Part IIIhereof.

 

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**Part I**

**Item 1. Business**

**AmericanPower Conversion Corporation**

Founded in 1981, American Power Conversion (APC) is aleading provider of global, end-to-end infrastructure availability solutions.APC’s comprehensive products and services offering for both home and corporateenvironments improve the availability, manageability and performance ofsensitive electronic, network, communication and industrial equipment of allsizes.

APC designs,develops, manufactures, and markets solutions for computer, communications, andelectronic applications worldwide. Our products include:

·       uninterruptiblepower supply products, commonly known as UPSs;

·       electricalsurge protection devices, also known as surge suppressors;

·       powerconditioning products;

·       DC-powersystems;

·       managementand monitoring, including environmental and video monitoring, tools;

·       racksand enclosures;

·       coolingsolutions;

·       IP-basedsolutions for environmental monitoring, video surveillance and access control;

·       services;and

·       network,desktop and notebook personal computer (PC) and mobile accessories.

These products are primarily used with sensitiveelectronic devices which rely on electric utility power including, but notlimited to, home electronics (including high-end audio/visual equipment), PCs,high-performance computer workstations, servers, networking equipment,communications equipment, internetworking equipment, storage systems, datacenters, mainframe computers, and facilities.

Our UPS products regulate the flow of utility power toensure safe and clean power to the protected equipment, and provide seamlessback-up power in the event of the loss of utility power. The back-up powerlasts for a period of time sufficient to enable the user to continue computeroperations, conduct an orderly shutdown of the protected equipment, preservedata, work through short power outages or continue operating for several hoursor longer.

Our surge protection devices and power conditioningproducts provide protection from electrical power surges and noise in the flowof utility power. APC’s cooling equipment regulates temperature and humidityand provides air flow distribution. Our DC-power systems monitor and isolateequipment from utility voltage fluctuations, frequency variations, andelectrical noise. In the event of a power failure, the DC products provideback-up power for communications networks. Our management tools enhancemonitoring, including remote monitoring of APC systems as well as environmentaland video monitoring, UPS and network-critical physical infrastructure (NCPI)management, and performance of our products; our racks and enclosures provide ahigh-availability environment for integrating and housing informationtechnology equipment; our service offerings assist the end-user with theinstallation, configuration, and maintenance of our products; and our network,desktop and notebook PC and mobile accessories provide a range of power,connectivity and productivity enhancing products.

Additionally, APC haspioneered integrated systems for network-critical physical infrastructure(NCPI). NCPI is the foundation upon which Information Technology (IT) andtelecommunication 

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networksreside. It is the “backbone” of a business, as its elements provide the power,cooling, physical housing, cabling and other elements which allow the ITsystems to function. APC offers stand-alone products within several of the NCPIcategories. Additionally, we offer the industry’s first integrated NCPI system,sold under the InfraStruXureTM architecture.

**Segments**

APC operates primarily within one industry consistingof three reportable operating segments by which we manage our business and fromwhich various offerings are commonly combined to develop a total solution forthe customer. These efforts primarily incorporate the design, manufacture, andmarketing of power protection equipment and related software and accessoriesfor computer, communications, and related equipment. Our three segments are:Small Systems, Large Systems, and “Other.” Each of these segments addressglobal markets.

***Small Systems.******  ***The Small Systems segmentdevelops power devices and accessories for servers and networking equipmentcommonly used in local area and wide area networks and for personal computersand sensitive electronics. Major product offerings include the Back-UPS®, Smart-UPS®,and Symmetra® Power Array® single-phase family of UPSs. Additionally, selectcomponents of APC’s InfraStruXure systems are included in the Small Systemssegment. Also included are SurgeArrest® surge suppressors as well as cablingand connectivity products. Additional accessories and management tools areoffered to enhance the performance of these networks, including APC’sPowerChute® software, NetShelter® server enclosures and power distributionunits. Products are sold to home and commercial users primarily through anindirect selling model consisting of computer distributors and dealers,value-added resellers, mass merchandisers, catalog merchandisers, E-commercevendors, and strategic partnerships.

***Large Systems.******  ***The Large Systems segmentprovides systems, products and services that primarily provide back-up power,power distribution and cooling for data centers, facilities, and communicationsequipment for both commercial and industrial applications. Product offeringsinclude major components of InfraStruXure systems, Silcon® UPSs, NetworkAIR®precision cooling equipment, DC and broadband power systems, and APC GlobalServices. Products, systems and services are sold to commercial users throughboth a direct and indirect selling model consisting of value-added resellersand strategic partnerships. Additionally, APC utilizes manufacturerrepresentatives to identify and secure projects.

***“Other” Segment.******  ***The “Other” segment principally consistsof mobile accessories and replacement batteries. The distribution model ofproducts in the “Other” segment is consistent with that of the Small Systemssegment.

Information on reportable operating segment net sales,profit from operations, and depreciation for each of the last three years islocated in Note 11 of Notes to Consolidated Financial Statements in Item 8 ofthis report.

APC was incorporated under the laws of theCommonwealth of Massachusetts on March 11, 1981. Executive offices arelocated at 132 Fairgrounds Road, West Kingston, RI 02892, our telephone numberis (401) 789-5735 and our Internet Web site is *www.apc.com*.

APC is required to file annual, quarterly and currentreports, proxy statements and other information with the U.S. Securities andExchange Commission (SEC). Investors may read and copy any document that APCfiles, including this Annual Report on Form 10-K, at the SEC’sPublic Reference Room at 450 Fifth Street, N.W., Washington, D.C. 20549.Investors may obtain information on the operation of the Public Reference Room bycalling the SEC at 1-800-SEC-0330. In addition, the SECmaintains an Internet Web site at *www.sec.gov*that contains reports, proxy and information statements, and other informationregarding issuers that file electronically with the SEC, from which investorscan electronically access APC’s SEC filings.

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APC makes available freeof charge on or through its Internet Web site (*www.apc.com*),its Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q,Current Reports on Form 8-K and amendments to those reports filed orfurnished pursuant to Section 13(a) or 15(d) of the SecuritiesExchange Act of 1934, as amended, as soon as reasonably practicable after itelectronically files such material with, or furnishes the material to, the SEC.The information on APC’s Internet Web site is not, and shall not be deemed tobe, a part of this report or incorporated into any other filings APC makes withthe SEC.

**Market Overview**

The growth of the power protection industry has beenfueled by the demand for information systems to be accessible as much as 24hours a day to support the proliferation of microprocessor-based equipment andrelated systems in the corporate marketplace and in the small office/homeoffice environment. Information technology, including PCs, servers, datacenters and communications equipment, have become an integral part of theoverall business strategy of companies worldwide. Businesses store, manipulate,and transfer data via local area and wide area networks as well as viacorporate intranets and the Internet. Additionally, there is a growing need tosupport the high-availability power and cooling requirements of centralizeddata centers as well as networking and communications equipment.

We believe that the increased awareness of the costsand lost productivity associated with downtime, caused by power problems andother environmental issues, has increased demand for power protection andrelated products. Complete failures, surges, or sags in the electrical powersupplied by a utility can cause computers and electronic systems tomalfunction, resulting in costly downtime, damaged or lost data files, anddamaged hardware. A UPS protects against these power disturbances byautomatically providing continuous power, virtually instantaneously after theelectric power supply is interrupted. UPSs also provide line filtering andprotection against surges or sags while the electric utility is available. Theproducts also enhance productivity through the continued availability ofnetworks, sensitive electronics, and even facilities during power outages. Ininternational regions, power quality often results in varied levels ofdistortions and, as a result, these areas provide us with additionalopportunities for our products.

Additionally, the rapiddeployment of information technology with smaller form factors, such asrack-optimized and blade servers, generate increasingly large amounts of heat.APC’s precision cooling products regulate temperature and humidity to maintaintemperatures within the equipments’ tolerance to help prevent productdegradation and failure.

**Products**

APC’s strategy is to design and manufacture productsthat incorporate high-performance and quality at competitive prices, whileoffering our customers appropriate technology for their applications. Ourproducts are designed to fit seamlessly into the computer, networking, andcommunications environments of businesses, homes, small offices/home offices,and outdoor installations. APC engineers and tests these products forcompatibility with leading information, communications and building managementtechnology hardware and software.

***UPS.******  ***We currentlymanufacture a broad range of standard domestic and international UPS products.Our UPSs are designed for multiple applications with the principal differencesamong the products being the amount of power which can be supplied during anoutage, the length of time for which battery power can be supplied, the levelof intelligent network interfacing capability, the number of brownout andover-voltage correction features and the design approach used (Standby, LineInteractive, Double Conversion On-Line and Delta Conversion On-line). UPSsrange from 325 volt-amps (VA), suitable for a PC, to 1.6 megawatt, or MW,suitable for data centers, mainframe computers, industrial applications orfacilities. Estimated resale prices to end-users range from $25 toapproximately $250,000.

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***Surge Suppressors.******  ***We also offera line of surge protection products to protect against power and data-linespikes and surges. The principal differences among the surge suppressor modelsare the level of protection available, feature sets of the products, and theapplications for which they are designed. Estimated resale prices range fromapproximately $10 to approximately $2,850.

***Power DistributionUnits (PDUs).******  ***APCoffers a wide variety of Power Distribution Units (PDUs) to distribute powerwithin an IT rack or through an entire data center. Our single-phase PDUs aredesigned to occupy little or no space in a rack while distributing basic,metered or controllable power outlets for rack-mount equipment. 3-Phaseor InfraStruXure PDUs are designed to increase flexibility and agility of datacenter power distribution through a design that does not require a raisedfloor. Estimated resale prices range from $140 to $25,000.

***Management andMonitoring Tools.******  ***APC also offers software andhardware management and monitoring tools for UPS management, network-criticalphysical infrastructure management, server access, environmental and videomonitoring. These products provide monitoring and management of informationtechnology systems. Basic power management tools are included free of chargewith the purchase of many APC solutions, while estimated resale prices foradditional offerings range from approximately $100 to $10,000 to end-users.

***Racks andEnclosures.***   APCoffers a full line of rack enclosures and accessories sold under the NetShelterproduct family. These enclosures are designed to house a broad range of IThardware manufacturers’ equipment, as well as APC’s InfraStruXure systems.Estimated resale prices for accessories and enclosures range from approximately$20 to $2,500***.***

***Cooling Solutions.******  ***Additionally,APC offers a line of cooling solutions for environmental control and airdistribution. Products include air distribution/fan systems, portable, floorand ceiling-mounted precision and in-row cooling systems used in a variety ofapplications including server rooms, wiring closets, data centers, andcommunication stations. Estimated resale prices range from approximately $500to approximately $35,000.

**Service Programs**

***Warranties.*****  **APC provides serviceprograms and warranties to our customers for a wide range of our products.Typical programs include both in-warranty and out-of-warranty repair orreplacement as well as product-based services and professional services.Product-based services include on-site services, installation services, remotemonitoring services, preventive maintenance and extended warranty options. APCprofessional services include project management, needs assessment, and networkintegration services. Depending on the product, we principally offer standardwarranties ranging from one to three years, for which extended warranty periodscan generally be purchased, as well as programs to upgrade older andcompetitive units to new or refurbished condition.

***EquipmentProtection Policy.***   APC offers an Equipment Protection Policy in the U.S.,Canada, Europe, and Australia. Depending on the model and country, the policyprovides up to $150,000, £50,000, or €100,000 for repair orreplacement of customers’ hardware should a surge or lightning strike passthrough an APC unit. Certain restrictions may apply. Customers can alsoregister the ProtectNet® line of dataline surge suppressors for a “Double-Up”Supplemental Equipment Protection Policy, under which the total recoverablelimit under the Equipment Protection Policy may be doubled (U.S. and Canadaonly).

Except in relation to the 2003 product recalldiscussed below, APC has generally experienced satisfactory field operatingresults, and warranty and Equipment Protection Policy costs incurred to datehave not had a significant impact on our consolidated results of operations.

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In early 2003, APCannounced a product recall due to potential safety issues. Approximately 2.1million affected devices were recalled worldwide, with approximately 900,000devices recalled in the United States, limited to two specific models in APC’sBack-UPS CS product line, the Back-UPS CS 350 and the Back-UPS CS 500, in both120-volt and 230-volt models.

**Distribution Channels**

APC markets itsproducts to businesses, small offices/home offices, and home users around theworld through a variety of distribution channels. These channels include:

·       informationtechnology and electrical equipment distributors and dealers;

·       value-addedresellers;

·       massmerchandisers;

·       catalogmerchandisers;

·       E-commercevendors;

·       direct-to-customerincluding consumer, government, and business enterprise; and

·       strategicpartnerships.

We also sell directly to some large value-addedresellers, who typically integrate our products into specialized computersystems and then market turnkey systems to selected vertical markets. Certainselect products are sold directly to manufacturers for incorporation intoproducts manufactured or packaged by them. Additionally, APC utilizesmanufacturer representatives to identify and secure projects.

Two computer distributorcustomers, Tech Data Product Management and Ingram Micro, accounted forapproximately 16.5% and 8.8%, respectively, of net sales in 2005, 12.7% and8.9%, respectively, of net sales in 2004, and 14.1% and 10.0%, respectively, ofnet sales in 2003. The majority of our sales to Tech Data Product Managementand Ingram Micro are included in the Small Systems segment.

**Sales and Marketing**

APC’s sales and marketing organizations are primarilyresponsible for four activities: sales, marketing, customer service, andtechnical support. Our sales force is responsible for relationships with ourdistribution channels and end-users as well as developing new distributionchannels, particularly in geographic and product application areas into whichwe are expanding. Additionally, our sales force targets sales of the full rangeof APC products and services to specific customer groups.

Our marketing activitiesinclude customer education and awareness programs, market research, productplanning, trade shows, sales and pricing strategies, and product salesliterature. At various times, we utilize direct marketing efforts domesticallyand internationally, including direct mailings and print, online/Internet,radio, and television advertising, as well as exhibiting at computer tradeshows and hosting customer focused events. Customer service is responsible fortechnical product inquiries and customer support. APC has developed a number ofprograms and techniques to support the distribution channels. These include, butare not limited to, toll-free phone assistance, online product and technicalinformation, formal product demonstrations, as well as live and onlinetrainings and webinars.

**SupplyChain Management—Manufacturing, Quality, Raw Materials, and Distribution**

***Manufacturing.******  ***APC’smanufacturing operations are located in the United States, Brazil, China,Denmark, India, Ireland, the Philippines, and Switzerland. APC differentiatesitself in the market by 

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maintaining a low-cost,high-volume manufacturing footprint predominantly owned and operated by APC.APC also utilizes subcontract manufacturers for select products within ourSmall Systems segment.

We believe that our long-term success depends on,among other things, the ability to control our costs. We utilize lean “cell”based manufacturing processes in several locations, as well as automatedmanufacturing techniques, and extensive quality control in order to minimizecosts and maximize product reliability. In addition, the design of products andthe commonality of parts allow for efficient circuit board component mountingor insertion, wave soldering, and in-process testing. Quality controlprocedures are performed at the component, sub-assembly, and finished productlevels. We are committed to an ongoing effort to enhance the overallproductivity of our manufacturing facilities.

***Quality andEnvironmental.******  *****APC has been ISO 14001 and ISO 9001-2000certified by the International Organization for Standardization. Our systemshave been audited to the stringent ISO 14001 and ISO 9001-2000 levels atour manufacturing facilities in the United States, China, India, Ireland, andthe Philippines as well as at our Design Center in Denmark. The InternationalOrganization for Standardization has also certified our Research andDevelopment Center in Massachusetts and our manufacturing facility in Brazil tothe ISO 9001-2000 level.**

***Raw Materials.******  ***Wegenerally purchase devices and components from more than one source wherealternative sources are available; however, we do use sole source suppliers forcertain components and certain finished products. We believe that alternativecomponents for these sole source items could be incorporated into our products,if necessary. While we have been able to obtain adequate supplies of componentsfrom sole source suppliers, the future unavailability of components from thesesuppliers could disrupt production and delivery of products until analternative source is identified. A significant portion of our components aremade from a variety of commodities, particularly steel, copper, oil/resin andlead, and, while we expect to continue to strive for favorable componentpricing arrangements with our material suppliers, the recent trends ofcommodity prices are expected to put upward pressure on our product materialscosts.

***Order Managementand Distribution.******  ***APC continues to invest in a worldwidedistribution network that delivers our products and services to our customers.We own or lease distribution centers and engage third party logistics serviceproviders in numerous countries across the globe. All distribution centers areconnected to our customer service operations via APC’s Enterprise ResourcePlanning system, which enables orders received from any customer or country tobe fulfilled from any distribution center throughout the world. To support thedemands of our growing systems business, we are also adding light manufacturingand postponement capabilities to our distribution centers, enabling finalconfiguration for each customer order. As part of our continuing e-Commerceinitiative, APC utilizes a variety of electronic methods to interact with ourcustomers, including the use of Electronic Data Interchange transactionsbetween APC and our distributors for receipt of orders, acknowledgement oforders, and confirmation of shipments. Additionally, we utilize a suite of Webtools that allows consumers and resellers to view product information, gainaccess to pricing information, and place their orders via the Web.

***Product Development.******  ***APC’s research anddevelopment (R&D) staff includes engineers and support persons who developnew products and provide engineering support for existing products. Our R&Defforts are also aimed at reducing cost and total cycle time and improvingproduct and component quality. APC’s R&D staff is located around the worldwith most of these employees in the United States and additional resourceslocated in Denmark, India, Ireland, and Taiwan. Employees devoted to theimprovement and development of software products are located in the UnitedStates and Ireland. We believe that the technical expertise of our R&Dstaff is very important to our growth as technological change is rapid in ourmarkets.

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During 2005, we continued to actively support ourInfraStruXure architecture with additional compatible solutions such asInfraStruXure with Integrated Fuel Cells. APC’s award-winning InfraStruXurearchitecture now offers IT professionals the ability to power their IT systemsusing fuel cell technology, an alternative to traditional extended-run options.During the year, we also expanded our Smart-UPS product portfolio with thelaunch of the Smart-UPS SC line. This new family of entry-level server UPSs includes1U and 2U rack-mountable models as well as dedicated tower models ranging incapacity from 250VA to 1500 VA. For the consumer, APC introduced the Back-UPSES 750, four new Power Ready Notebook Cases, the Universal Notebook Battery,and two biometric security products in the Biometric Mouse Password Manager,and the PCMCIA Password Manager. We also launched our H10 and H15 PowerConditioners, and C5 and C10 A/V Power Filters to expand our suite of home A/Vpower protection products.

During 2004, we actively supported our emergingInfraStruXure architecture with additional InfraStruXure compatible solutions.Additions to the InfraStruXure family included new cooling offerings,integrated power generation, and the InfraStruXure Express—a mobile data centersolution built on APC’s InfraStruXure architecture. At the same time, ourSmart-UPS line continued to expand with new VA points and SKUs for server andnetworking applications. For the consumer, APC introduced new Back-UPS productsas well as a line of mobile computing accessories, surge protection and powerconditioning battery backup for the audio visual market.

In early 2003, APC introduced InfraStruXure, anexpansion of the PowerStruXure architecture introduced in 2002. InfraStruXureis a patent-pending, systematic approach to building network-critical physicalinfrastructure for data centers. This entirely new approach to data centersupport simplifies the design, building and management of data centerinfrastructure with an innovative, fully engineered and tested system.InfraStruXure incorporates standardized components including modular, scalable,N+1 redundant UPSs; zoned, intelligent power distribution; and precisioncooling in a rack form factor.

In 2003, new features and new products were added toour Smart-UPS and Back-UPS lines for corporate and home users; a new line ofSurgeArrest surge suppressors was introduced; new power management software fornew operating systems and management platforms, such as Microsoft WindowsServer 2003, were made available; new precision cooling offerings were added;and additions to APC’s growing line of mobile accessories were made. APC hascontinued to invest in research and development to drive innovation in themarket with new products, new product categories and lower priced solutions.

R&D expenditures were$90.5 million or 4.6% of net sales in 2005, $85.6 million or 5.0% of net salesin 2004, and $67.6 million or 4.6% of net sales in 2003. We continue to commitresources to support our investment in research and development. We believethat continued product innovation through development is necessary for ourexisting products to remain competitive in our markets, as well as creatingopportunities from new product introductions. The increase in total 2005 R&Dspending primarily reflect increased numbers of software and hardware engineersand costs associated with new product development and engineering support. Theslight decrease as a percentage of net sales in fiscal year 2005 compared to2004 was attributable to certain fixed R&D expenses spread over a higherrevenue base.

**Intellectual Property**

We seek patent protection for those inventions andimprovements likely to be incorporated into our products, systems, solutionsand services or where patent protection will improve our competitive position.APC’s focus is to deliver innovation to the market place. As part of thatcommitment, we have made significant investments in building our intellectualproperty portfolio. United States patents generally have a term of twenty yearsfrom the filing date of the patent application. The remaining terms of ourpatents vary since our patent portfolio has been built over time. While ourpatents are important in maintaining 

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the competitivedifferentiation of our products, systems, solutions and services, no singlepatent is in itself essential to our business as a whole. We also license fromothers intellectual property rights relating to UPS technology. Withrespect to protection of those areas of our technology for which patentprotection has not been sought, we rely on the complexity of our technology,trade secrecy law, and employee confidentiality agreements.

APC has numeroustrademarks registered in the United States and in many foreign countries. Wealso have trademark applications pending domestically and internationally. Thetrademark “APC” is of principal importance to us. In addition, a number ofother trademarks owned by us have significant importance.

**Seasonality**

Our Small Systems and “Other”segments are favorably impacted by summer weather conditions in North Americaand Europe. The summer season typically brings more weather events,particularly thunderstorms and high temperatures that may disrupt utility poweror result in high electricity usage that can cause brownouts and blackouts.These events in turn create more awareness and demand for our products.

**Competition**

We believe that we are one of less than ten globalcompanies providing a full range of UPS products and services worldwide. Manyof our competitors offer competitive products in both the Small and Largesystems markets, while some focus on only one segment.

Our principalcompetitors in the Small Systems segment include:

·       LiebertCorporation, a unit of Emerson Electric Co.;

·       EatonPower Quality Corporation, a subsidiary of Eaton Corporation encompassing theformer Powerware Corporation, which Eaton acquired in June 2004;

·       MGEUPS Systems, a unit of Schneider Electric Group;

·       Rittal,the largest company in the Friedhelm Loh Group, a privately-held Germancompany;

·       TrippeManufacturing Company, a privately-held U.S. company;

·       PhoenixtecPower Company Ltd., a publicly-held Taiwanese company; and

·       BelkinComponents, a privately-held U.S. company.

Our principalcompetitors in the Large Systems segment include:

·       LiebertCorporation;

·       EatonPower Quality Corporation;

·       MGEUPS Systems;

·       Rittal;and

·       ChloridePower, a subsidiary of Chloride Group PLC.

We also compete with anumber of other U.S. and non-U.S. based companies that offer power protectionand other products similar to ours in all of our segments. Some competitorshave greater financial and other resources than APC. We compete in the sale ofour products on the basis of several factors, including product innovation,performance and quality, marketing, access to distribution channels, customerservice, product design, and price.

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**International Operations**

APC has established an extensive internationalpresence consisting of manufacturing, service, engineering, sales, marketingand administrative operations. With a full line of internationally positionedproducts available, we continue to introduce products and staff personnel toserve geographical markets of interest. Our manufacturing operations outside ofthe United States are located in Brazil, Denmark, China, India, Ireland, thePhilippines, and Switzerland. Subcontract manufacturers utilized by APC arelocated in the Asia Pacific region. A significant portion of products in ourSmall Systems and Large Systems reportable operating segments are builtinternationally, particularly in China, India, and the Philippines. We believethat the production of these products could be redeployed to other regions ifnecessary.

Our primary sales officesoutside of the United States are located in Europe and the Far East. Theseoffices, together with offices in other locations worldwide, provide sales andtechnical support to our customers across the globe. APC also utilizes acombination of company run and sub-contracted distribution centers in numerouscountries worldwide to distribute our products to our international customers.

**FinancialInformation About Foreign and Domestic Operations**

The information requiredunder this section is included in Note 11 of Notes to Consolidated FinancialStatements in Item 8 of this report and is incorporated herein by reference.

**Employees**

As of December 31,2005, APC had approximately 7,580 full-time employees worldwide. APC alsoengages other personnel on a part-time basis.

**APC’s Executive Officers**

APC’sexecutive officers are elected annually and hold office until the next AnnualMeeting of the Board of Directors and until their successors are duly electedand qualified. As of March 1, 2006, APC’s executive officers were:

| Name                        | ** ** | **Age** | ** ** | **Positions**                                  |
|-----------------------------|------------|---------|------------|------------------------------------------------|
| Rodger B. Dowdell, Jr. |       | 56      |       | Chairman of the Board of Directors, President, |
|                             |       |    |       | and Chief Executive Officer                    |
| Neil E. Rasmussen           |       | 51      |       | Senior Vice President, Chief Technical Officer |
|                        |       |    |       | and Director                                   |
| Edward W. Machala           |       | 51      |       | Senior Vice President, Operations, and Chief   |
|                             |       |    |       | Operations Officer                             |
| Richard J. Thompson         |       | 56      |       | Senior Vice President, Finance, and Chief      |
|                        |       |    |       | Financial Officer                              |
| Emanuel E. Landsman         |       | 69      |       | Vice President and Director Emeritus           |
| Aaron L. Davis              |       | 39      |       | Vice President, Marketing Communications       |
| Paul Thomas Goldman III     |       | 45      |       | Vice President, Global Sales                   |

 

Rodger B. Dowdell, Jr. has been President and aDirector of APC since 1985 and Chairman of APC’s Board of Directors since 1988.During the first three quarters of 1985, Mr. Dowdell worked for APC as aconsultant, developing a marketing and production strategy for UPS products.From 1978 to 1984 he was President of Independent Energy, Inc., amanufacturer of electronic temperature controls.

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Neil E. Rasmussen became Senior Vice President in 2001and previously was Vice President since our inception. In 1997, he wasappointed Chief Technical Officer of APC and has been a Director of APC sinceour inception. From 1979 to 1981, Mr. Rasmussen worked in the EnergySystems Engineering Group at Massachusetts Institute of Technology’s LincolnLaboratory.

Edward W. Machala was named Senior Vice President,Operations, and Chief Operations Officer in 2001. Mr. Machala joined APCin 1989 as Vice President, Operations. From 1985 to 1989, Mr. Machala wasDirector of Manufacturing and Engineering Technology for GTECH, a manufacturerof electronic lottery and gaming terminals, where he was responsible for manufacturingand engineering functions.

Richard J. Thompson joined APC as Senior VicePresident, Finance, and Chief Financial Officer in May 2005. From 1990 to2005, Mr. Thompson served as Vice President, Finance, and Chief FinancialOfficer of Artesyn Technologies, a leader in the design, manufacture and saleof power conversion and embedded board solutions for infrastructureapplications in server and storage, networking, wireless and telecommunicationssystems. Prior to joining Artesyn in 1990, Thompson held multiple finance andaccounting positions at high-technology firms including Control DataCorporation from 1986 to 1990, Fairchild Semiconductor from 1983 to 1986, andSchlumberger Limited from 1981 to 1983.

Emanuel E. Landsman has been Vice President since ourinception and served as a Director from inception until June 2005 and asClerk from our inception until 2001. The Board of Directors of the Company appointedDr. Landsman a Director Emeritus of the Company, effective as of the closeof the 2005 Annual Meeting of Shareholders. From 1966 to 1981, Dr. Landsmanworked at Massachusetts Institute of Technology’s Lincoln Laboratory, where hewas in the Space Communications Group from 1966 to 1977 and the Energy SystemsEngineering Group from 1977 to 1981.

Aaron L. Davis was named Vice President, MarketingCommunications in June 2003. Mr. Davis served as Vice President,Marketing and Communications from 2001 to June 2003, Vice President, SmallSystems Group from 1999 to 2001, Vice President, Marketing and Communicationsfrom 1997 to 1999, and Vice President of Marketing Communications from 1995 to1997. Mr. Davis joined APC as Director of Marketing Communications in1989. Mr. Dowdell is the uncle of Mr. Davis.

Paul Thomas Goldman IIIwas named Vice President, Global Sales in November 2005. Mr. Goldmanwas President and Chief Executive Officer of NetBotz, Inc., which APCacquired in October 2005. Prior to joining NetBotz in 2002, Mr. Goldmanserved as President and Chief Operating Officer of enterprise software companyApogee Networks from 1999 to 2002. Mr. Goldman was Vice President of Salesat systems integrator XL Connect from 1998 to 1999. Prior to his career in theIT industry, Mr. Goldman served as a fighter pilot in the United StatesAir Force.

**Corporate Governance**

Corporate governance is typically defined as thesystem that allocates duties and authority among a company’s stockholders,board of directors and management. The stockholders elect the board and vote onextraordinary matters; the board is the company’s governing body, responsiblefor hiring, overseeing and evaluating management, particularly the chiefexecutive officer; and management runs the company’s day-to-day operations.

The current Board members include five independentdirectors and two members of APC’s senior management. The Board members includeRodger B. Dowdell, Jr., Chairman, President and Chief Executive Officer ofAPC; James D. Gerson, a private investor who is a retired Vice President ofFahnestock & Co.; John G. Kassakian, MIT Professor ofElectrical Engineering and Director, MIT Laboratory for Electromagnetic andElectronic Systems; **John F. Keane, Sr.**,Founder and Chairman of the Board of Directors, Keane, Inc.; **ErvinF. Lyon,**Retired, MIT Lincoln Labs; **Neil E. Rasmussen**, Senior VicePresident and Chief Technical Officer of APC; and **Ellen B.Richstone,**Chief Financial Officer, 

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Sonus Networks, Inc.In June 2005, Emanuel E. Landsman, a Vice President of APC who had servedas a director of APC since its inception, became Director Emeritus.

***“Independent”Directors.******  ***Each of APC’s directors, other than Messrs. Dowdelland Rasmussen, qualify as “independent” in accordance with the publishedlisting requirements of The Nasdaq Stock Market (Nasdaq). The Nasdaqindependence definition includes a series of objective tests, such as that thedirector is not an employee of APC and has not engaged in various types ofbusiness dealings with APC. In addition, as further required by the Nasdaqrules, the Board of Directors has made a subjective determination as to eachindependent director that no relationships exist which, in the opinion of theBoard, would interfere with the exercise of independent judgment in carryingout the responsibilities of a director. In making these determinations, the directorsreviewed and discussed information provided by the directors and APC withregard to each director’s business and personal activities as they may relateto APC and APC’s management.

The Audit Committee is comprised of the followingdirectors: James D. Gerson, John F. Keane, Sr., Ervin F. Lyon, and EllenB. Richstone. All of the members of the Audit Committee of the Board qualify as“independent” under special standards established by the U.S. Securities andExchange Commission (SEC) for members of audit committees and the AuditCommittee includes at least one member who is determined by the Board to meetthe qualifications of an “audit committee financial expert” in accordance withSEC rules. Ellen B. Richstone is the independent director who has been determinedto be an audit committee financial expert. Stockholders should understand thatthis designation is a disclosure requirement of the SEC related to Ms. Richstone’sexperience and understanding with respect to certain accounting and auditingmatters. The designation does not impose on Ms. Richstone any duties,obligations or liability that are greater than are generally imposed on her asa member of the Audit Committee and Board of Directors, and her designation asan audit committee financial expert pursuant to this SEC requirement does notaffect the duties, obligations or liability of any other member of the AuditCommittee or Board of Directors.

***Board Committeesand Charters.******  ***The Board currently has, and appointsthe members of, standing (i) Audit, (ii) Compensation and StockOption and (iii) Corporate Governance and Nominating Committees. Eachmember of these Committees is an independent director in accordance with Nasdaqstandards described above. Each of the Board committees has a written charterapproved by the Board. Copies of each charter, and other corporate governancematters, are posted on APC’s web site at *www.apc.com*under the “Corporate Governance” link contained in the “Investors” section.

***CorporateGovernance Guidelines.******  ***The Board hasadopted a set of Corporate Governance Guidelines, and the Board’s CorporateGovernance and Nominating Committee is responsible for overseeing theGuidelines and reporting and making recommendations to the Board concerningcorporate governance matters. The Guidelines are posted on APC’s web site at *www.apc.com* under the “CorporateGovernance” link contained in the “Investors” section.

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**Item 1A. Risk Factors**

**FACTORSTHAT MAY AFFECT FUTURE RESULTS**

This document contains forward-looking statements thatinvolve risks and uncertainties, particularly in the *Business Outlook* section of this MD&A. You can identifyforward-looking statements by the use of forward-looking terminology including “believes,”“expects,” “may,” “will,” “should,” “seeks,” “approximately,” “intends,” “plans,”“pro forma,” “estimates,” or “anticipates” or the negative of these words andphrases or other variations of these words and phrases or comparableterminology. Our actual results could differ materially from those anticipatedin these forward looking statements as a result of certain factors, includingthe risks faced by us described below and elsewhere in this document.

We caution readers not to place undue reliance on anysuch forward-looking statements, which speak only as of the date they are made.We disclaim any obligation to publicly update or revise any such statements toreflect any change in our expectations or in events, conditions, orcircumstances on which any such statements may be based, or that may affect thelikelihood that actual results will differ from those set forth in theforward-looking statements.

***Our annual and quarterly results are likely to bevolatile.******  ***Ourannual and quarterly operating results, including revenue, gross margin, andexpenses, may fluctuate as a result of a number of factors, including:

·       ourability to improve the execution of our operations processes and eliminateoperational waste and excess expense;

·       competitivefactors and pricing pressures, including the impact of increasing competitionwhich could adversely affect our revenues and profitability;

·       factorsassociated with international operations, including the impact of currency exchangerate fluctuations;

·  the effect on our business, our suppliers, ourcustomers or the economy resulting from travel, supply chain or generalbusiness interruptions from epidemic or pandemic diseases, such as the Asianbird influenza;

·       impacton demand, component availability and pricing, and logistics, and thedisruption of manufacturing operations that result from labor disputes, war,acts of terrorism or political instability;

·       rampup, expansion, transfer and rationalization of global manufacturing capacity;

·  potential impact of complying with changingenvironmental regulations, including directives on the Restriction of the useof Certain Hazardous Substances (“RoHS”) and on Waste Electric and ElectricalEquipment (“WEEE”);

·  impact on order management and fulfillment,financial reporting and supply chain management processes as a result of ourreliance on a variety of computer systems, including key applications which areperiodically upgraded;

·       thediscovery of a latent defect in any of our products;

·  our ability to develop and manage ourcapabilities, including supply and order fulfillment, necessary to meet therequirements of two distinct business models, that is, a transaction-orientedproducts business and a customer-focused systems solutions business, whichinclude internal improvement projects and large-scale customer projects;

·       ourability to effectively align operating expenses and production capacity withthe current demand environment;

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·       volatilityin general world economic conditions, and, in particular, the possibility thatthe PC and related markets decline;

·       growthrates in the power protection industry and related industries;

·       productmix changes and the potential negative impact on gross margins from suchchanges;

·       changesin the seasonality of demand patterns;

·       inventoryrisks due to shifts in market demand;

·       componentconstraints, shortages, pricing and quality;

·       volatilityin our interim quarterly or year-to-date tax rate due to our inability toaccurately forecast the proportion of earnings to be derived from high and lowtax cost jurisdictions.

·       risksof nonpayment of accounts receivable;

·       timingof orders from, and shipments to, customers;

·       timingof new product introductions and the market acceptance of those products;

·       changesin manufacturing costs;

·       naturaldisasters; and

·       theuncertainty of the litigation process including risk of an expected,unfavorable result of current or future litigation.

***If we are unable tomake significant and meaningful progress on the ongoing re-architecture of oursupply chain, our revenue and profitability may be adversely affected.***   Inconnection with this re-architecture, we are starting up new production linesand new factories, while at the same time transferring some of ourmanufacturing into lower cost manufacturing sites. These transitions are beingundertaken to drive higher levels of customer satisfaction and reducemanufacturing costs over the long term. In doing so, we are incurring duplicateproduction costs and additional air freight to expedite shipments to customers.If we are unable to make significant and meaningful progress on this endeavor,our quarterly and annual operating results may fluctuate or continue to beadversely impacted.

***Gross marginvariability could adversely affect our financial performance.******  ***Overall gross margins may benegatively impacted by increased operational costs, price reductions, a shiftin product mix toward the faster-growing, lower-margin Large Systems products,rising commodity prices, and increased operational costs, including freight andwarehousing, associated with the re-architecture of our supply chain.

***We currentlycompete with several firms providing power protection and related products andservices and expect competition to increase in the future, which could affectour revenue and profitability.***   We believethat we are one of less than ten global companies providing a full range of UPSproducts and services worldwide. The UPS, power protection and relatedindustries, however, are highly competitive on both a worldwide basis and aregional geographic basis. We compete, and will continue to compete, withseveral international firms, both on a worldwide basis and in variousgeographical regions, and within individual product and application niches. Weexpect competition to increase in the future from existing competitors and anumber of companies that may enter our existing or future markets. Increasedcompetition could adversely affect our revenue and profitability through pricereductions and loss of market share.

The principalcompetitive factors in our products include:

·       productperformance and quality;

·       marketingand access to distribution channels;

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·       customerservices; and

·       productdesign and price.

Some of our current and potential competitors may havesubstantially greater financial, technical, sales and marketing resources thanwe have. We may not be able to continue to compete successfully with ourexisting competitors or with new competitors.

***Technologicalinnovation, or failure to alter our products to meet the demands of technologicalinnovation, could seriously harm our business.***   Themarket for our products is characterized by rapidly changing technology,evolving industry standards and frequent new product introductions. Currentcompetitors or new market entrants may develop new products with features thatcould adversely affect the competitive position of our products. We may not besuccessful in selecting, developing, manufacturing and marketing new productsor enhancing our existing products or in responding effectively totechnological changes, new standards or product announcements by competitors.The timely availability of new products and enhancements, and their acceptanceby customers are important to our future success. Delays in such availabilityor a lack of market acceptance could have an adverse effect on our business.Additionally, there may be technological innovation that eliminates or reducesthe need for our products.

***Defects in ourproducts could seriously harm our business.******  ***Our productsmay have defects despite testing internally or by current or potentialcustomers. These defects could result in product returns or recalls and loss ordelay in market acceptance, which could have a material adverse effect upon ourbusiness, operating results, or financial condition.

In early 2003, APC announced a product recall due topotential safety issues. Approximately 2.1 million affected devices wererecalled worldwide, with approximately 900,000 devices recalled in the UnitedStates, limited to two specific models in APC’s Back-UPS CS product line, theBack-UPS CS 350 and the Back-UPS CS 500, in both 120-volt and 230-voltmodels. As of December 31, 2005, APC had incurred approximately 93% ofcurrently estimated total recall costs of $14.1 million. Our estimation of remainingrecall costs is $1.0 million. We expect that future amounts will not differmaterially from our current estimates. Also refer to Note 7 of Notes toConsolidated Financial Statements in Item 8 of this report.

***Loss of any of ourkey personnel could seriously harm our business.******  ***Our successdepends to a significant degree upon the continuing contributions of keymanagement, sales, marketing, research and development and manufacturingpersonnel, many of whom we would have difficulty replacing. We believe that ourfuture success will depend in large part upon our ability to attract and retainhighly-skilled hardware and software engineers, and management, sales, andmarketing personnel. Competition for such personnel is intense, and we may notbe successful in attracting and retaining such personnel. Failure to attractand retain key personnel could have a material adverse effect on our business,operating results, or financial condition.

***Because we depend on foreign operations and revenues,we are exposed to currency fluctuations, import barriers and other risksrelated to conducting foreign operations.***   Wemanufacture and market our products worldwide through several foreignsubsidiaries, distributors, and resellers. Our worldwide operations are subjectto the risks normally associated with foreign operations including, but notlimited to:

·       customerand vendor financial instability;

·       volatilityin general world economic conditions;

·       thedisruption of markets;

·       changesin export or import laws;

·       restrictionson currency exchanges;

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·       potentiallynegative tax consequences;

·       longerpayment terms;

·       labordisputes, war, acts of terrorism, or political instability;

·       naturaldisasters; and

·       themodification or introduction of government policies with potentially adverseeffects.

International sales, which are both direct andindirect sales to customers outside the U.S., accounted for approximately54.8%, 55.8%, and 55.0%, of our net sales in 2005, 2004 and 2003, respectively.We anticipate that international sales will continue to account for asignificant portion of our revenue. We invoice our customers in variouscurrencies. To date, we do not use any rate protection agreements or derivativeagreements to hedge any foreign exchange exposure. Accordingly, we may beexposed to exchange losses based upon currency exchange rate fluctuations,which losses could have a materially adverse effect on our operating results.

A significant portion of products in our Small Systemsand Large Systems reportable operating segments are manufactured in foreignlocations, particularly developing countries such as Brazil, China, India, andthe Philippines, which subject APC to a number of economic and other risks. TheSmall Systems have particular exposure to the Philippines, a country which isexperiencing political and financial instability. Disruption of manufacturingefforts in these international facilities could materially adversely impact ourability to fulfill customer orders and potentially result in the loss ofbusiness.

***Because ourbusiness relies upon a variety of computer systems to operate effectively, thefailure or disruption of, or latent defects in, these systems could have amaterial adverse effect on our business.***   APCis a highly automated company whose efficient and effective operation relies ona variety of information systems, including e-mail, enterprise resourceplanning, electronic data interchange, customer resource management ande-commerce systems. Disruption in the operation of these systems, ordifficulties in maintaining or upgrading these systems, could have an adverseeffect on our business. Difficulties that we have encountered, or mayencounter, in connection with our implementation and use of our computersystems, including human error or our reliance on, or a failure or disruptionof, or latent defects in, such systems, could adversely affect our ordermanagement and fulfillment, financial reporting and supply chain managementprocesses, and any such difficulties could have a material adverse effect onour business.

***Our reliance onsole source suppliers may result in product delays or price increases.******  ***We currently procureservices and obtain certain components of our products and certain finished productsfrom sole sources. In the future, our suppliers may not be able to meet ourdemand for services, components and products in a timely and cost-effectivemanner. Our inability to secure and qualify alternative sources of supply in atimely manner may disrupt our ability to fulfill customer orders. We generallypurchase these sole source services, components and products using purchaseorders and have no guaranteed supply arrangements with the suppliers. Inaddition, the availability of many of these services, components and productsis dependent in part on our ability to provide the suppliers with accurateforecasts of our future requirements. However, our operating results andcustomer relationships could be materially adversely affected by either an increasein prices for, or an interruption or reduction in supply of, any key services, componentsand products.

***We have a limitedability to protect our intellectual property rights; others could infringe onor misappropriate our propriety rights and information.***   Oursuccess will depend, to a large extent, on our ability to protect ourproprietary technology. We rely on a combination of contractual rights, tradesecrets, patents, trademarks, and copyrights to protect our proprietary rights.Although we own certain patents, and we have applied, and in the future we mayapply, for patents, our intellectual property protection may not be sufficientto prevent competitors from developing similar technology. Moreover, in theabsence of 

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patent protection, ourbusiness may be adversely affected by competitors which independently developfunctionally equivalent technology.

***Our products mayinfringe on the intellectual property rights of others.***   Weattempt to ensure that our products and processes do not infringe upon thirdparty patents and other proprietary rights, but from time to time third partieshave alleged, and in the future may allege, such infringement. If third partiesallege or determine infringement, we may not prevail in such a challenge.Furthermore, if infringement is determined, we may not be able to obtain thenecessary licenses on acceptable terms, if at all.

***If we are unable toidentify and successfully integrate acquisitions, our ability to expand and ourfinancial results could suffer.***   Wehave limited experience in integrating acquired companies or technologies intoour operations. We may from time to time pursue the acquisition of othercompanies, assets, products or technologies. We may not be able to integratesuccessfully products, technologies, distribution channels, key personnel andbusinesses of acquired companies into our business or product offerings. Inaddition, the integration of acquired companies may adversely affect ourbusiness, operating results, or financial condition. Further, these acquiredcompanies, assets, products or technologies may not contribute significantly toour sales or earnings, and the sales and earnings from acquired businesses maybe adversely affected by the integration process or other factors. If we arenot successful in the integration of such acquired businesses, our financialresults could be adversely impacted. In addition, we may not be able toidentify and consummate suitable acquisition transactions in the future.

***Our stock price could be volatile, which could causeyou to lose part or all of your investment.******  ***The marketprice of our common stock has been, and may continue to be, extremely volatile.The trading price of our common stock could be subject to wide fluctuations inresponse to:

·       quarter-to-quartervariations in operating results;

·       changesin earnings estimates by analysts;

·       announcementsof technological innovations or new products developed by us or ourcompetitors; and

·       labordisputes, acts of war, terrorism and political instability and other events orfactors.

In addition, the stock market has from time to timeexperienced extreme price and volume fluctuations which have particularlyaffected the market price for many high-technology companies and which oftenhave been unrelated to the operating performance of these companies. Thesebroad market fluctuations may adversely affect the market price of our commonstock.

***Our tax ratedepends on earnings derived from certain foreign manufacturing operations.******  ***Our tax rateis heavily dependent upon the proportion of earnings that we derive from ourIreland, Philippines, India, and China manufacturing operations and our abilityto reinvest those earnings permanently outside the United States. If theearnings of these operations as a percentage of our total earnings were todecline significantly from anticipated levels, or should our ability toreinvest these earnings be reduced, our effective tax rate would exceed thecurrently estimated rate for 2006. Wehave tax holidays in China and India which reduce the income taxes paid inthose countries. Although this could have the effect of increasing ourforeign taxes, our effective income tax rate will remain considerably lowerthan the U.S. statutory federal corporate tax rate of 35%. In addition, webelieve that further tax savings can be achieved by implementing further taxplanning strategies. If we are unable to successfully implement suchstrategies, our overall effective tax rate could increase. In addition, shouldour intercompany transfer pricing with respect to our Ireland, Philippines,India, or China manufacturing operations require significant adjustment due toaudits or regulatory changes, our overall effective tax rate could increase.

***Failure to maintaineffective internal control over financial reporting may materially adverselyimpact our business.******  ***Effectiveinternal controls are necessary for APC to provide reasonable assurance withrespect 

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to its financial reportsand to effectively prevent fraud. If APC cannot provide reasonable assurancewith respect to its financial reports and effectively prevent fraud, our brandand operating results could be harmed. Pursuant to the Sarbanes-Oxley Act of2002, we are required to furnish a report by management on internal controlover financial reporting, including management’s assessment of theeffectiveness of such control. Internal control over financial reporting maynot prevent or detect misstatements because of its inherent limitations,including the possibility of human error, the circumvention or overriding ofcontrols, or fraud. Therefore, even effective internal controls can provideonly reasonable assurance with respect to the preparation and fair presentationof financial statements. In addition, projections of any evaluation ofeffectiveness of internal control over financial reporting to future periodsare subject to the risk that the control may become inadequate because ofchanges in conditions, or that the degree of compliance with the policies orprocedures may deteriorate. If APC fails to maintain the adequacy of itsinternal controls, including any failure to implement required new or improvedcontrols, or if APC experiences difficulties in their implementation, APC’sbusiness and operating results could be harmed, APC could fail to meet itsreporting obligations, and there could be a material adverse effect on APC’sstock price.

***We cannot provideany assurance that current laws, or any laws enacted in the future, will nothave a material adverse effect on our business.***   Ouroperations are subject to laws, rules, regulations, including environmentalregulations, government policies and other requirements in each of thejurisdictions in which we conduct business. Changes in such laws, rules,regulations, policies or requirements could result in the need to modify ourproducts and could affect the demand for our products, which may have anadverse impact on our future operating results. In addition, we must complywith new regulations restricting APC’s ability to include lead and certainother substances in its products. If APC does not comply with applicable laws, rules andregulations, APC could be subject to costs and liabilities and its business maybe adversely impacted.

***We are, and may become, involved in litigation, whichcould materially harm our business.******  ***We are, andmay in the future become, involved in litigation involving our business,products or operations. The litigation process is inherently uncertain andincludes the risk of an unexpected, unfavorable result. Were an unfavorableresult to occur, it is possible that we could be materially adversely impactedby any such litigation.

**Item 1B. Unresolved Staff Comments**

None.

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**Item 2. Properties**

APC’sprincipal properties are located in the United States, Brazil, China, Denmark,England, India, Ireland, the Philippines, and Switzerland. In addition, we ownor lease sales offices and other space at various locations throughout theUnited States and outside the United States. APC also owns or leases suchmachinery and equipment as are necessary in our operations. In general, ourproperties are in good condition, are considered to be adequate for the uses towhich they are being put, and are substantially in regular use.

| **Location of  Principal  Properties** | ** ** | **Sales,  Marketing &  Administration** | ** ** | **Manufacturing** | ** ** | **R&D** | ** ** | **Warehouse** | ** ** | **Total** | ** ** | **Segment** | ** ** |
|---------------------------------------------|------------|--------------------------------------------------|------------|-------------------|------------|-------------|------------|---------------|------------|-----------|------------|-------------|------------|
| **(In square feet)**              | ** ** |
| ***-OWNED-***                               |       |
| ***United  States***                        |       |                                             |       | *** ***      |       |        |       |          |       |      |       |        |       |   |   |   |   |
| Rhode Island                                |       |                                             | 185,370    | *** ***      |       | 81,220      |       | 22,360        |       |      | 8,870      |        |       | 297,820 |   | Shared |   |
| ***Europe***                                |       |                                             |       | *** ***      |       |        |       |          |       |      |       |        |       |   |   |   |   |
| Ireland                                     |       |                                             | 54,550     | *** ***      |       | 225,500     |       | 5,400         |       |      | 105,260    |        |       | 390,710 |   | Shared |   |
| Denmark                                     |       |                                             | 16,650     | *** ***      |       | 42,000      |       | 52,000        |       |      | —     |        |       | 110,650 |   | Large  Systems |   |
| ***Far East***                              |       |                                             |       | *** ***      |       |        |       |          |       |      |       |        |       |   |   |   |   |
| Philippines                                 |       |                                             | 30,240     | *** ***      |       | 198,410     |       | —        |       |      | 30,500     |        |       | 259,150 |   | Shared |   |
| ***-LEASED-***                              |       |
| ***United  States***                        |       |                                             |       | *** ***      |       |        |       |          |       |      |       |        |       |   |   |   |   |
| Rhode Island                                |       |                                             | 29,775     | *** ***      |       | 182,830     |       | 7,935         |       |      | 320,940    |        |       | 541,480 |   | Shared |   |
| Massachusetts                               |       |                                             | —     | *** ***      |       | —      |       | 100,000       |       |      | —     |        |       | 100,000 |   | Shared |   |
| Missouri                                    |       |                                             | 19,010     | *** ***      |       | —      |       | 42,320        |       |      | —     |        |       | 61,330 |   | Shared |   |
| Texas                                       |       |                                             | 7,090      | *** ***      |       | 3,600       |       | 10,580        |       |      | 3,600      |        |       | 24,870 |   | Small  Systems |   |
| ***Europe***                                |       |                                             |       | *** ***      |       |        |       |          |       |      |       |        |       |   |   |   |   |
| Switzerland                                 |       |                                             | 25,880     | *** ***      |       | 20,690      |       | 540           |       |      | 8,610      |        |       | 55,720 |   | Large  Systems |   |
| Ireland                                     |       |                                             | —     | *** ***      |       | —      |       | —        |       |      | 31,850     |        |       | 31,850 |   | Shared |   |
| England                                     |       |                                             | 10,380     | *** ***      |       | —      |       | —        |       |      | —     |        |       | 10,380 |   | Large  Systems |   |
| ***Far  East***                             |       |                                             |       | *** ***      |       |        |       |          |       |      |       |        |       |   |   |   |   |
| China                                       |       |                                             | 27,640     | *** ***      |       | 139,935     |       | —        |       |      | 162,045    |        |       | 329,620 |   | Shared |   |
| India                                       |       |                                             | 14,175     | *** ***      |       | 175,655     |       | 24,345        |       |      | 14,085     |        |       | 228,260 |   | Shared |   |
| ***Latin  America***                        |       |                                             |       | *** ***      |       |        |       |          |       |      |       |        |       |   |   |   |   |
| Brazil                                      |       |                                             | 4,350      | *** ***      |       | 67,330      |       | 70            |       |      | 18,180     |        |       | 89,930 |   | Small Systems |   |

 

**Item 3. Legal Proceedings**

As previously reported in APC’s Form 10-Qfor the quarters ended March 27, 2005, June 26, 2005, andSeptember 25, 2005, on February 5, 2004, Liebert Corporation andZonatherm Products, Inc., Liebert’s sales representative firm in theChicago area, filed a lawsuit in the Circuit Court of Cook County, Illinois,Chancery Division (the “Circuit Court”) against APC, Aerico, LLC, a salesrepresentative firm formed by former employees of Zonatherm Products, and theformer employees of Zonatherm Products who formed Aerico, LLC. The lawsuitalleged willful violation of the Illinois Trade Secrets Act, tortiousinterference with contract, tortious interference with prospective economicadvantage, civil conspiracy and conspiracy to breach fiduciary duties. Liebertand Zonatherm are seeking compensatory and punitive damages and injunctiverelief. On February 18, 2004, the Circuit Court denied plaintiffs’ motionfor a temporary restraining order. On July 16, 2004, the Circuit Courtdismissed without prejudice all claims 

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except the Illinois TradeSecret Act claim. On August 6, 2004, plaintiffs filed a second amendedcomplaint reasserting the claims dismissed by the Circuit Court onJuly 16, 2004. On August 20, 2004, the Circuit Court deniedplaintiffs’ motion for preliminary injunction as to violation of the IllinoisTrade Secrets Act. On September 21, 2004, plaintiffs filed a Notice ofAppeal of the August 20, 2004 ruling with the Illinois Appellate Court. OnJanuary 12, 2005, the Circuit Court dismissed without prejudice all claimsagainst APC except the Illinois Trade Secret Act claim. On March 1, 2005the Illinois Appellate Court issued an opinion on the appeal pursuant to whichit affirmed the Circuit Court on the issue of the non-trade secret nature ofplaintiffs’ customer lists, and remanded the matter for the Circuit Court toenter an injunction against one of the individual former employees of Zonathermfrom using certain pricing books.

On March 16, 2005, plaintiffs filed a thirdamended complaint reasserting claims substantially similar to those dismissedby the Circuit Court in its January 12, 2005 ruling. On May 19, 2005,APC filed a motion to dismiss plaintiffs’ third amended complaint. OnMay 24, 2005, the Circuit Court issued a preliminary injunction againstone of the former employees of Zonatherm enjoining him from using certain ofplaintiffs’ pricing books. No injunction was issued against APC. OnJune 30, 2005, plaintiffs filed an appeal with the Illinois AppellateCourt seeking to expand the scope of the Circuit Court’s injunction. OnAugust 23, 2005, the Illinois Appellate Court reversed in part the CircuitCourt’s entry of a preliminary injunction and directed the trial court tofurther enjoin the former Zonatherm employee from contacting customers onplaintiffs’ customer contact list. Again, no injunction was entered againstAPC. On September 12, 2005, the Circuit Court dismissed without prejudiceall counts in plaintiffs’ third amended complaint alleged against APC, exceptfor plaintiffs’ claims for violation of the Illinois Trade Secret Act and forconspiracy to breach fiduciary duties. On February 2, 2006, after anunsuccessful appeal by the former Zonatherm employee to the Illinois SupremeCourt, the Circuit Court entered the injunction against the former Zonathermemployee as directed by the August 23, 2005 Order from the AppellateCourt. No injunction has been entered against APC.

On March 7, 2006, plaintiffs voluntarily dismissed allcounts of their complaint against APC, without prejudice to plaintiffs’ right toseek to refile their claims against APC until March 8, 2007. Plaintiffs alsodismissed their claims against the other defendants pursuant to the terms of asettlement agreement among plaintiffs and the other defendants. APC is not aparty to that settlement agreement.

In addition, APC is involved in various other claimsand legal actions arising in the ordinary course of business.

While management currentlybelieves that resolving all pending legal matters, individually or inaggregate, will not have a material adverse impact on APC’s financial position,the litigation and other claims noted above are subject to inherentuncertainties, including the risk of an unfavorable outcome, and management’sview of these matters may change in the future. An unfavorable outcome couldinclude monetary damages or, in cases where injunctive relief is sought, aninjunction prohibiting certain activities. Were an unfavorable final outcome tooccur, there exists the possibility of a material adverse impact on APC’s financialposition, cash flows and results of operations for the period in which theeffect becomes reasonably estimable.

**Item4. Submission of Matters to a Vote of Security-Holders**

We did not submit anymatters to a vote of our security-holders during the three months endedDecember 31, 2005.

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**Part II**

**Item5. Market for Registrant’s Common Stock and Related Stockholder Matters**

APC’sCommon Stock is traded over-the-counter on The Nasdaq Stock Market under thesymbol APCC. The following table sets forth the range of high and low bidquotations on The Nasdaq Stock Market per share of Common Stock for the years2005 and 2004. These quotations reflect inter-dealer prices, without retailmark up, mark down, or commission and may not necessarily represent actualtransactions.

| ** **     | ** ** | **2005** | ** ** | **2004**   | ** ** |
|----------------|------------|----------|------------|------------|------------|
| ** **     | ** ** | **High** | ** ** | **Low**    | ** ** | **High** | ** ** | **Low** | ** ** |
| First Quarter  | ** ** | **$**    | **26.11**  | ** ** | **$**      | **19.89** |   | $ | 27.42 |   | $ | 20.82 |   |
| Second Quarter | ** ** | **$**    | **27.16**  | ** ** | **$**      | **21.38** |   | $ | 25.25 |   | $ | 16.21 |   |
| Third Quarter  | ** ** | **$**    | **28.56**  | ** ** | **$**      | **22.75** |   | $ | 20.10 |   | $ | 14.55 |   |
| Fourth Quarter | ** ** | **$**    | **26.31**  | ** ** | **$**      | **19.00** |   | $ | 21.77 |   | $ | 15.70 |   |

 

On March 1, 2006, theclosing sale price for APC’s common stock was $20.51 per share. As of March 1,2006, there were approximately 1,675 holders of record of APC’s common stock.

In June 2003, APC’sBoard of Directors approved initiation of a quarterly cash dividend of $0.08per share of common stock. Dividends of $0.08 per share were declared and paidin each subsequent quarter through the second quarter of 2004. In June 2004,APC’s Board of Directors approved a 25% increase in its quarterly cash dividendraising the payout to $0.10 per share. Dividends of $0.10 per share weredeclared and paid in each subsequent quarter through the first quarter of 2006.It is the intention of the Board of Directors to pay a comparable quarterlydividend on a going forward basis contingent upon continued capitalavailability and a determination that cash dividends continue to be in the bestinterests of APC and its shareholders.

The information requiredunder this section related to APC’s stock-based compensation plans is includedin Note 9 of Notes to Consolidated Financial Statements in Item 8 of thisreport and is incorporated herein by reference.

**Item 6. Selected Financial Data**

All amounts are in dollarsexcept for outstanding shares. Dollars are in thousands except for basic anddiluted earnings per share. Shares are in thousands.

In June 2003, APC’sBoard of Directors approved initiation of a quarterly cash dividend of $0.08per share of common stock. Dividends of $0.08 per share were declared and paidin each subsequent quarter through the second quarter of 2004. In June 2004,APC’s Board of Directors approved a 25% increase in its quarterly cash dividendraising the payout to $0.10 per share. Dividends of $0.10 per share weredeclared and paid in each subsequent quarter through the first quarter of 2006.APC did not declare any cash dividends for the three year period 2000 to 2002.

APC adopted Statement ofFinancial Accounting Standards No. 142, *Goodwilland Other Intangible Assets*, on January 1, 2002. In connectionwith its adoption of Statement 142, APC recorded a non-cash charge equal to thegoodwill balance associated with its Large Systems segment of approximately $50million (approximately $35 million on an after-tax basis). This charge wasrecognized as the cumulative effect of a change in accounting principle net ofincome taxes, included in APC’s results as of January 1, 2002, and had noeffect on APC’s liquidity.

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| ** **                                                                      | ** ** | **2005**      | ** **    | **2004**   | ** ** | **2003**  | ** ** | **2002**   | ** ** | **2001**   | ** ** |
|---------------------------------------------------------------------------------|------------|---------------|---------------|------------|------------|-----------|------------|------------|------------|------------|------------|
| Net sales                                                                       | ** ** | **$**         | **1,979,532** | ** ** | $          | 1,699,877 | ** ** | $          | 1,464,798  |       | $          | 1,300,025 |   | $ | 1,404,784 |   |
| Cost of goods sold                                                              | ** ** | **1,260,407** | ** **    | 1,017,981  | ** ** | 852,615   |       | 816,318    |       | 920,895    |       |
| Gross profit                                                                    | ** ** | **719,125**   | ** **    | 681,896    | ** ** | 612,183   |       | 483,707    |       | 483,889    |       |
| Operating  expenses                                                             | ** ** | **532,160**   | ** **    | 477,447    | ** ** | 383,068   |       | 332,760    |       | 339,036    |       |
| Operating income                                                                | ** ** | **186,965**   | ** **    | 204,449    | ** ** | 229,115   |       | 150,947    |       | 144,853    |       |
| Other income, net                                                               | ** ** | **21,877**    | ** **    | 9,711      | ** ** | 9,990     |       | 10,889     |       | 13,700     |       |
| Earnings before  income taxes and cumulative effect of accounting change        | ** ** | **208,842**   | ** **    | 214,160    | ** ** | 239,105   |       | 161,836    |       | 158,553    |       |
| Income taxes                                                                    | ** ** | **64,761**    | ** **    | 32,705     | ** ** | 62,167    |       | 45,314     |       | 45,188     |       |
| Earnings before  cumulative effect of accounting change                         | ** ** | **144,081**   | ** **    | 181,455    | ** ** | 176,938   |       | 116,522    |       | 113,365    |       |
| Cumulative effect  of accounting change, net of income taxes of $15,459 in 2002 | ** ** | **—**    | ** **    | —     | ** ** | —    |       | 34,500     |       | —     |       |
| Net income                                                                      | ** ** | **$**         | **144,081**   | ** ** | $          | 181,455   | ** ** | $          | 176,938    |       | $          | 82,022 |   | $ | 113,365 |   |
| **Basic earnings per share:**                                                   | ** ** | ** **    | ** **    |       | ** ** |      | ** ** | ** ** | ** ** | ** ** | ** ** |
| Basic earnings  per share before cumulative effect of accounting change         | ** ** | **$**         | **0.74**      | ** ** | $          | 0.92      | ** ** | $          | 0.90       |       | $          | 0.59 |   | $ | 0.58 |   |
| Cumulative effect  of accounting change, net of tax                             | ** ** | **—**    | ** **    | —     | ** ** | —    |       | 0.17       |       | —     |       |
| Basic earnings  per share                                                       | ** ** | **$**         | **0.74**      | ** ** | $          | 0.92      | ** ** | $          | 0.90       |       | $          | 0.42 |   | $ | 0.58 |   |
| Basic weighted  average shares outstanding                                      | ** ** | **194,078**   |          | 196,799    |       | 197,402   |       | 195,927    |       | 195,171    |       |
| **Diluted earnings per share:**                                                 | ** ** | ** **    | ** **    |       | ** ** |      |       |       |       |       |       |
| Diluted earnings  per share before cumulative effect of accounting change       | ** ** | **$**         | **0.72**      |       | $          | 0.90      |       | $          | 0.88       |       | $          | 0.59 |   | $ | 0.58 |   |
| Cumulative effect  of accounting change, net of tax                             | ** ** | **—**    |          | —     |       | —    |       | 0.17       |       | —     |       |
| Diluted earnings  per share                                                     | ** ** | **$**         | **0.72**      | ** ** | $          | 0.90      | ** ** | $          | 0.88       |       | $          | 0.42 |   | $ | 0.58 |   |
| Diluted weighted  average shares outstanding                                    | ** ** | **199,798**   |          | 201,658    |       | 201,517   |       | 196,993    |       | 196,793    |       |
| Cash dividends  per share                                                       | ** ** | **$**         | **0.40**      |       | $          | 0.36      |       | $          | 0.16       |       | $          | — |   | $ | — |   |
| Cash and cash  equivalents                                                      | ** ** | **$**         | **262,414**   | ** ** | $          | 72,721    | ** ** | $          | 141,214    |       | $          | 125,922 |   | $ | 288,210 |   |
| Short term  investments                                                         | ** ** | **$**         | **511,181**   | ** ** | $          | 642,853   | ** ** | $          | 607,109    |       | $          | 514,386 |   | $ | 104,868 |   |
| Long term  investments                                                          | ** ** | **$**         | **562**       | ** ** | $          | 5,542     | ** ** | $          | 58,525     |       | $          | 56,293 |   | $ | — |   |
| Working capital                                                                 | ** ** | **$**         | **1,388,630** | ** ** | $          | 1,279,196 | ** ** | $          | 1,217,471  |       | $          | 999,102 |   | $ | 884,421 |   |
| Total assets                                                                    | ** ** | **$**         | **2,075,462** | ** ** | $          | 1,843,872 | ** ** | $          | 1,805,966  |       | $          | 1,604,580 |   | $ | 1,420,772 |   |
| Short term debt                                                                 | ** ** | **—**    | ** **    | —     | ** ** | —    | ** ** | —     | ** ** | —     |       |
| Long term debt                                                                  | ** ** | **—**    | ** **    | —     | ** ** | —    | ** ** | —     |       | —     |       |

 

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**Item 7. Management’s Discussion and Analysis ofFinancial Condition and Results of Operations**

We begin Management’s Discussion and Analysis ofFinancial Condition and Results of Operations (MD&A) with a discussion ofour business outlook for 2006. We also provide a discussion of our Results ofOperations for 2005 compared to 2004, and for 2004 compared to 2003. Thisdiscussion includes an overview of our operating results and the directions inwhich our markets, segments, and geographies are moving. We then provide aLiquidity and Financial Resources discussion of the significant changes in ourbalance sheet during 2005, and cash flows for 2005 compared to 2004, and for2004 compared to 2003, as well as our contractual obligations and foreigncurrency activity. This is followed by a discussion of the Critical AccountingPolicies that we believe are important to our business operations andunderstanding of our results of operations. We conclude with information aboutfactors that may affect our future results.

This MD&A should be read in conjunction with theother sections of this Annual Report on Form 10-K, including “Item1: Business;” “Item 6: Selected Financial Data;” “Item 8: Financial Statementsand Supplementary Data;” and “Item 9A: Controls and Procedures.”

In addition to historicalconsolidated financial information, the following discussion containsforward-looking statements that reflect our plans, estimates and beliefs. Ouractual results could differ materially from those discussed in the forward-lookingstatements. Factors that could cause or contribute to these differences includethose discussed below and elsewhere in this Form 10-K.

**BUSINESS OUTLOOK**

While the events of the second half of 2005 identifiedopportunities for improvement, we are generally pleased with APC’s performanceduring our second half and fiscal year of 2005. For the tenth consecutivequarter APC’s year-over-year revenue growth was in double-digits. We areconfident that the strong year-over-year growth can be attributed to what webelieve is an improved macro-economic environment for IT spending and is theresult of our continued investments in sales and marketing activities and thegrowing adoption of APC’s network-critical physical infrastructure, or NCPI,architecture. The investment we have made to educate the market and driveadoption of the technology, we believe, is meeting our strategic objectives ascustomers are embracing the modular, standardized approach APC has pioneered innetwork-critical physical infrastructure.

As strong as our revenue results were in 2005 andfourth quarter, we are disappointed in our operating performance. We have beenincurring costs to re-architect our supply chain to drive long-term customersatisfaction. We are in the midst of starting up new production lines and newfactories, while at the same time transferring some of our manufacturing intolower cost manufacturing sites, thereby developing a much stronger competitiveprofile. These transitions are being undertaken to drive higher levels ofcustomer satisfaction and reduce manufacturing costs over the long term, andthe increased costs in the fourth quarter occurred to a greater extent than weanticipated, as we ramped up our volumes to meet unexpectedly higher customerdemand. To service our customers, we are incurring duplicate production costsand additional air freight to expedite shipments to customers. Developing andmanaging the internal capabilities necessary to meet the supply and orderfulfillment requirements of two distinct business models, that is, atransaction-oriented products business and a customer-focused systems solutionsbusiness, is a complicated and difficult task. It requires precise planning,strong teamwork across all of our business elements and execution of all aspectsof a company’s supply and demand processes to ensure the customer’srequirements are continuously met. Managing these business models can becomeincreasingly difficult when having to deal with the disruption of managingchange in operational processes and infrastructure.

As we look forward to 2006, we will be implementingplans to continue transforming APC into a lean, ambidextrous, customer-centricenterprise. To accomplish this, we will need to: (1) eliminate redundantoperations costs created by prior transitions; (2) deploy and improvedistribution capabilities in all regions 

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globally, (3) acceleratethe responsiveness of supply chain to minimize availability issues for the morecomplex solutions, and (4) improve demand to supply signaling capabilitiesto support both business models. Some of these initiatives, duringimplementation, may result in our incurring incremental costs prior toachieving the desired outcomes. Additionally, these initiatives will take time,some more than others, to implement, but we are committed to makingsignificant, meaningful, and timely progress.

We believe that we are very well positionedcompetitively, financially and strategically. We will continue to be focused onempowering IT professionals with the knowledge, tools and solutions they needto effectively design, build and manage network-critical physicalinfrastructure. Our objective is for APC to become a trusted, global partnerfor the long term, committed to solving our customers’ network-critical physicalinfrastructure problems of today and helping them anticipate their challengesof tomorrow, thereby allowing our customers to focus on their corecompetencies. We believe that we can accomplish this by dramatically reducingour customers’ level of complexity and their total cost of ownership involvedin designing, building, and managing the network-critical physicalinfrastructure that is at the very core of maintaining business continuity,application availability, and network reliability.

Additionally, we continue to plan for revenue growthin all three of our reportable segments: Small Systems, Large Systems and “Other.”As in recent quarters, we expect the rate of revenue growth of our LargeSystems segment to be greater than the growth expected for Small Systems due tothe assumed continued success of our overall strategy and the acceptance of ourproducts in specific market segments.

Overall gross margins for 2005 have been and, in 2006,are currently expected to continue to be impacted by increased operationalcosts and a shift in product mix toward the faster-growing, lower-margin LargeSystems products. Gross margins, particularly for Small Systems products, areexpected to continue to be impacted by our response to competitive pricereductions. While we expect to continue to strive for favorable componentpricing arrangements with our material suppliers, the recent trends ofcommodity prices, particularly for steel, copper and lead, are expected to putupward pressure on our product materials costs, but we also expect partialoffset from material cost reductions, particularly for Large Systems products,typically seen after transitioning to low-cost factories. Increased operationalcosts, including freight and warehousing, are associated with the management ofour supply chain. These costs are tied to fulfilling customer orders andreducing overall long-term costs through the stocking of global third-partydistribution centers, expediting of product to meet customer demand, and thetransition cost of shifting production to lower cost manufacturing locations.We expect this could continue in the short-term, however ultimately it isexpected these transitions will allow for lower manufacturing costs. In theshort-term, each transition is the equivalent of a new product introduction toa facility and comes with a learning curve and initial supply chaininefficiencies. Operational cost improvement initiatives, including redesign ofour supply chain processes and elimination of redundant manufacturing costs,are expected to cause incremental costs in the short-term, but ultimatelyresult in long-term gross margin improvement. Gross margin variability couldcontinue to result from changing revenue levels, which are dependent on unitvolumes, prices and currency trends as well as the mix of products sold, unitcosts and yield issues associated with production at our factories, transfersof production to our low cost facilities, excess manufacturing capacity, coststo comply with new and existing environmental regulations (including, but notlimited to, the European Union’s directive on waste electrical and electronicequipment and directives relating to restriction of hazardous substances),excess inventory, supply chain inefficiencies, inventory obsolescence andvariations in inventory valuation.

We have dedicated efforts to optimize our overallmanufacturing capacity and locations over recent years and we will continue toplan for future capacity requirements based on the assumed continued acceptanceand demand for our products in the specific market segments they were designedto address. We expect that most of our capital spending for 2006 will go towardbuilding a customer Technology and Learning Center, to be based in St. Louis,Missouri, and maintaining, upgrading, and expanding our 

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current manufacturingcapacity, as well as investments to upgrade current hardware and softwareoffice technologies.

We are committed to sustaining our R&D efforts tomeet the future needs of our customers across all segments and potentiallyexpanding into emerging, high-growth areas. We continue to advance our NCPIsystems in addition to ensuring our end-to-end offering is the best in theindustry. We will remain focused on aggressively driving the growth of ournetwork-critical physical infrastructure solutions, which will requiresustaining and increasing our operating expense investments in sales andmarketing, as well as making incremental investments in global customereducation initiatives.

Our investment posture remains intact and we arefirmly committed to supporting the level of sales and marketing spendingnecessary to educate customers and channel partners on the inherent performanceand total cost of ownership benefits of a modular, standardized solution suchas InfraStruXure.

In February 2006, APC’s Board of Directorsapproved a stock repurchase program which authorizes up to $200 million torepurchase outstanding shares of APC’s common stock. The purchases would bemade on the open market based on market and business factors. APC commenced therepurchase of its common stock in February 2006 and, as of March 10,2006, had repurchased approximately 3.4 million shares on the open market at anaverage price of approximately $20.39 per share. The duration of the repurchaseprogram is two years but may be suspended or discontinued at any time withoutprior notice.

We currently expect our tax rate to be approximately22 - 23% for the full year 2006. The estimated effective tax rate is based oncurrent tax law and the current expected income. The tax rate may be affectedby the jurisdictions in which profits are determined to be earned and taxed,our ability to successfully implement additional tax savings planningopportunities and our ability to realize deferred tax assets.

We are currently a party to various legal proceedingsand claims. We currently do not believe that the ultimate outcome of currentlegal proceedings and claims will have a material adverse effect on ourfinancial position or overall trends in results of operations. However,litigation is subject to inherent uncertainties, including the risk of anunfavorable outcome, and management’s view of these matters may change in thefuture. An unfavorable outcome could include monetary damages or, in caseswhere injunctive relief is sought, an injunction prohibiting certainactivities. If an unfavorable outcome were to occur in any specific period,there exists the possibility of a material adverse impact on the results ofoperations of that period or future periods. We believe that, given our currentliquidity and cash and investment balances, even an adverse judgment in currentlegal proceedings and claims would not have a material impact on cash andinvestments or liquidity.

The statementsbelow do not include any impact related to the expensing of stock-basedcompensation under Statement of Financial Accounting Standards No. 123R,Share-Based Payment, which is effective for APC beginning with the firstquarter of 2006. As permitted by Statement 123, until December 31, 2005 APCaccounted for share-based payments to employees using APB Opinion No. 25’sintrinsic value method and, as such, generally recognized no compensation costfor employee stock options. Accordingly, the adoption of Statement 123R’s fairvalue method will have a significant impact on APC’s results of operations,although it will have no impact on APC’s overall financial position. EffectiveJanuary 1, 2006, we adopted FAS 123R using the modified prospective basis. Thismethod requires us to apply the provisions of Statement 123R to any awards thatare unvested on the effective date and to any new awards. Under this method, wewill not be required to restate prior periods. Compensation cost for theunvested awards will be recognized over the remaining service period using thecompensation cost calculated for our pro forma disclosures under Statement 123,adjusted for estimated forfeitures. The pro forma earnings impact ofstock-based compensation expense on our results of operations for the years2005, 2004 and 2003 is described in Note 1 of Notes to Consolidated FinancialStatements in Item 8 of this report. It is important to note that such proforma disclosures are not necessarily indicative of the potential 

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impact of recognizingcompensation cost for share-based payments under Statement 123R in futureperiods.

Our adoption of Statement 123R is expected to resultin compensation expense that will reduce diluted net income per share byapproximately $0.05 to $0.07 per share for 2006. This estimated range does notinclude any stock-based awards our Board of Directors may grant in 2006. Also,our estimate of future stock-based compensation expense will be affected by ourstock price and a number of complex and subjective valuation assumptions, andthe related tax impact, as well as the number of stock-based awards our Boardof Directors may grant in the future. These valuation assumptions include, butare not limited to, the volatility of our stock price and employee stock optionexercise behaviors. As such, our actual share-based compensation expense maydiffer materially from this estimated range.

**RESULTS OF OPERATIONS**

**COMPARISONOF THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003**

Thefollowing table sets forth key data, expressed as a percentage of net sales,for the years ended December 31, 2005, 2004 and 2003.

| ** **                                                      | ** ** | **2005**  | ** ** | **2004** | ** ** | **2003** | ** ** |
|-----------------------------------------------------------------|------------|-----------|------------|----------|------------|----------|------------|
| Net sales                                                       | ** ** | **100.0** | **%**      | 100.0    | %          | 100.0    | %          |
| Cost of goods  sold                                             | ** ** | **63.7**  |       | 59.9     |       | 58.2     |       |
| Gross profit                                                    | ** ** | **36.3**  |       | 40.1     |       | 41.8     |       |
| Marketing, selling,  general & administrative expenses | ** ** | **22.3**  |       | 23.1     |       | 21.6     |       |
| Research &  development                                | ** ** | **4.6**   |       | 5.0      |       | 4.6      |       |
| Operating income                                                | ** ** | **9.4**   |       | 12.0     |       | 15.6     |       |
| Other income, net                                               | ** ** | **1.1**   |       | 0.6      |       | 0.7      |       |
| Earnings before  income taxes                                   | ** ** | **10.5**  |       | 12.6     |       | 16.3     |       |
| Net income                                                      | ** ** | **7.3**   |       | 10.7     |       | 12.1     |       |

 

**Revenues**

Net sales in fiscal year 2005 of $1.980 billionincreased by 16.5% over 2004; net sales in fiscal year 2004 of $1.700 billionincreased by 16.0% over 2003. These increases were attributable to strengthacross all of our product segments, particularly the Large Systems segment, aswell as growth across all of our major geographies.

Each of our operating segments and geographies madesignificant contributions to our fiscal year 2005 revenue growth, with theLarge Systems segment continuing to lead all segments in revenue gains.InfraStruXure, our datacenter solution products and services, remained theleading driver of growth in our Large Systems segment. We continued to makeinvestments in supporting our efforts in these network-critical physicalinfrastructure markets and our top line advances highlight the resulting strongperformance. Led by solid growth in our Back-UPS desktop UPS and our Smart-UPSnetwork UPS, the Small Systems segment continues to produce strong results thatreflect APC’s position as a preferred partner in the mid-market and consumerpower protection markets. Management believes that increasingly APC solutions,particularly our InfraStruXure architecture, are being specified fornetwork-critical physical infrastructure requirements. For further information about revenues by segment, refer to the *Segment Results* section below.

Sales of new products contributed to overall net salesin 2005, 2004 and 2003. Sales of products introduced during 2005, 2004 and 2003represented approximately 8%, 7%, and 11%, respectively, of net sales in thoseyears.

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***Revenues by Geography.******  ***The followingtable summarizes our revenues on a geographic basis for the years ended December 31,2005, 2004 and 2003.

| ** **                                        | ** ** | **2005 **       | ** **  | **% of  Total** | ** ** | **2004** | ** ** | **% of  Total** | ** ** | **2003** | ** ** | **% of  Total** | ** ** |
|---------------------------------------------------|------------|----------------------|-------------|-----------------|------------|----------|------------|-----------------|------------|----------|------------|-----------------|------------|
| ** **                                        | ** ** | **In millions** | ** **  |
| U.S.                                              | ** ** | **$**                | **894.9**   | ** **      | **45.2**   | **%**    | $          | 751.7           |       | 44.2     | %          | $               | 658.7      |   | 45.0 | % |
| Canada and Latin  America                         | ** ** | **126.9**            | ** **  | **6.4**         | **%**      | 91.3     |       | 5.4             | %          | 78.8     |       | 5.3             | %          |
| Total Americas                                    | ** ** | **1,021.8**          | ** **  | **51.6**        | **%**      | 843.0    |       | 49.6            | %          | 737.5    |       | 50.3            | %          |
| Europe, the  Middle East, and Africa (EMEA)  | ** ** | **591.4**            | ** **  | **29.9**        | **%**      | 547.3    |       | 32.2            | %          | 467.2    |       | 31.9            | %          |
| Asia                                              | ** ** | **366.3**            | ** **  | **18.5**        | **%**      | 309.6    |       | 18.2            | %          | 260.1    |       | 17.8            | %          |
| Total Net Sales                                   | ** ** | **$**                | **1,979.5** | ** **      | **100.0**  | **%**    | $          | 1,699.9         |       | 100.0    | %          | $               | 1,464.8    |   | 100.0 | % |
| Total Net Sales Outside  U.S.                     | ** ** | **$**                | **1,084.6** | ** **      | **54.8**   | **%**    | $          | 948.2           |       | 55.8     | %          | $               | 806.1      |   | 55.0 | % |

 

The Americas (North and Latin America) increased 21.2% in 2005 over 2004, and also increased 14.3% in 2004 over2003. EMEA increased 8.1% in 2005 over 2004, and also increased 17.1% in 2004over 2003. Finally, Asia increased 18.3% in 2005 over 2004, and also increased19.0% in 2004 over 2003.

In fiscal year 2005, on a constant currency basis,EMEA increased 8.7% and Asia increased 18.5% over 2004. In fiscal year 2004, ona constant currency basis, EMEA increased 10.6% and Asia increased 14.3% from2003. In 2005, on a constant currency basis, EMEA’s revenues would have beenhigher than the prior year’s level by $3.7 million, principally due toweakening of the Euro. In 2004 and 2003, on a constant currency basis, EMEA’srevenues would have been lower by $30.6 million and $44.3 million,respectively, principally due tostrengthening of the Euro and British pound. In 2005, on a constantcurrency basis, Asia’s revenues would have been higher than the prior year’slevel by $0.4 million, principally due to weakening of the Japanese yen. In 2004 and 2003, on a constant currency basis, Asia’srevenues would have been lower by $12.4 million and $14.5 million,respectively, principally due tostrengthening of the Japanese yen and Australian dollar. In total, the impact of currency exchangerate changes worldwide lowered 2005 net sales by $5.7 million, and added $43.7million and $59.5 million to net sales in fiscal years 2004 and 2003,respectively. We believe constant currency information is useful for anunderstanding of our operating results. Revenues on a constant currency basisdiffer from revenues presented in accordance with United States generallyaccepted accounting principles. Also refer to Note 11 of Notes to ConsolidatedFinancial Statements in Item 8 of this Report.

**Cost of Goods Sold**

Cost of goods sold was $1.260 billion or 63.7% of netsales in fiscal year 2005 compared to $1.018 billion or 59.9% of net sales infiscal year 2004 and $852.6 million or 58.2% of net sales in fiscal year 2003.Gross margins for fiscal year 2005 were 36.3% of net sales, approximately 380basis points lower than in fiscal year 2004. Gross margins for fiscal year 2004were 40.1% of net sales, approximately 170 basis points lower than in fiscalyear 2003.

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Cost of goods sold was negatively impacted principallyby increased operational costs, including freight and warehousing associatedwith long-term customer satisfaction objectives. These costs were tied tofulfilling customer orders and reducing overall long-term costs through thestocking of global third-party distribution centers and the expediting ofproduct to meet customers’ demand. Additionally, the transition cost ofshifting production to lower cost manufacturing locations continued tonegatively impact cost of goods sold into fiscal year 2005. The lower fiscalyear 2005 gross margins were also attributable to a segment mix shift towardour Large Systems segment, as well as the unfavorable impact of pricediscounting in the Small Systems segment. Gross margins in fiscal year 2004compared to 2003 were also negatively impacted by pricing actions and, to alesser extent, product mix shifts, notably within our Small Systems segmenttoward lower-margin products combined with strong sales growth in our lower-marginLarge Systems segment. The downward pressure of these factors was substantiallyoffset by cost reductions, particularly in the Small Systems segment, fromdeclining material costs and select product transitions to low costmanufacturing locations, but not to the extent of prior periods, as well as thefavorable pricing impact of a weakening U.S. dollar, particularly in Europe.For further information about gross margins by segment, refer to the *Segment Results* section below.

***Provision forExcess Inventory.******  ***Additionally, fiscal year 2004gross margins included the effects of a $11.5 million incremental charge forexcess inventory recognized during the third quarter related tospecifically-identified finished goods and raw materials inventories deemedobsolete as the result of efforts to reduce the number of unique productofferings in several of our product lines, as well as the result of new productintroductions. There were no additional inventory charges, other than APC’sstandard provisioning, during fiscal year 2005, the remainder of 2004, orduring fiscal year 2003.

***Product Recall.******  ***Gross margins in fiscal year2003 included the effects of a third quarter update of estimated costsassociated with our 2003 product recall of Back-UPS CS 350 and 500 models. Inearly 2003, APC announced a product recall due to potential safety issues. Approximately2.1 million affected devices were recalled worldwide, with approximately900,000 devices recalled in the United States, limited to two specific modelsin APC’s Back-UPS CS product line, the Back-UPS CS 350 and the Back-UPS CS 500,in both 120-volt and 230-volt models. Based upon repair cost andreturn rate experience to-date as well as then-current estimates of remainingcosts to be incurred, in the third quarter of 2003 APC projected that aggregatecosts for the recall would be less than the $19.6 million originally accrued inthe fourth quarter of 2002. To reflect this change, warranty expense,classified as cost of goods sold, was reduced by $5.5 million in the thirdquarter of 2003. The original charge and subsequent credit to warranty expensewere not allocated to our operating segments, but rather were classified inindirect operating expenses for segment reporting consistent with ourclassification for our internal financial reporting; also refer to Note 11of Notes to Consolidated Financial Statements in Item 8 of this report. As of December 31,2005, APC had incurred approximately 93% of currently estimated total recallcosts of $14.1 million. Our estimation of remaining recall costs is $1.0million. We expect that actual amounts will not differ materially from ourcurrent estimates. Also refer to Note 7 of Notes to Consolidated FinancialStatements in Item 8 of this report.

***IntellectualProperty Settlement.******  ***Fiscal year 2003 gross marginsalso included the effects of a fourth quarter charge associated with thesettlement of a claim for the infringement of intellectual property of $4.0million. This charge was not allocated to our operating segments, but ratherwas classified as an indirect operating expense for segment reportingconsistent with our classification for our internal financial reporting; alsorefer to Note 11 of Notes to Consolidated Financial Statements in Item 8 ofthis report. This charge was the result of events or assessments that occurredduring the fourth quarter of 2003.

***Inventory Reserves.******  ***Totalinventory reserves at December 31, 2005 were $48.6 million compared to$39.4 million at December 31, 2004. The increase in total inventory reserves reflected routine provisioningthat was necessary as a result of applying APC’s inventory reserve methodologythroughout the year, partially offset by the physical disposition ofinventories covered by APC’s inventory reserves. APC’s 

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reserve estimate methodology involves quantifying the total inventoryposition having potential loss exposure. Loss exposure generally results fromseveral business factors, including product or component discontinuance,unplanned changes in demand, product design changes, and factory transitions.Quantifying such loss exposure is the result of combining the cost of inventoriesspecifically identified as having little or no opportunity for sale or use(thus available for physical disposition) plus the cost of inventories having ahigh risk of no future sale or use based upon an analysis of on-hand quantitiescompared to historical and anticipated future sale or use. APC maintains anon-going business process for the physical disposition of inventoriespreviously identified. Inventory write-offs occur at the time of physicaldisposition. Inventories, once reserved, are not written back up as suchreserve adjustments are considered to be a permanent decrease to the cost basisof the excess or obsolete inventory.

**SegmentResults (Also refer to Note 11 of Notes to Consolidated Financial Statements inItem 8 of this report for important information regarding APC’s reportablesegments)**

| ** **                                              | ** ** | **2005**                | ** **    | **2004**  | ** ** | **2003**  | ** ** |
|---------------------------------------------------------|------------|-------------------------|---------------|-----------|------------|-----------|------------|
| ** **                                              | ** ** | **(In thousands)** | ** **    |
| **Segment net sales**                                   | ** ** | ** **              |          |      |       |      |       |
| Small Systems                                           | ** ** | **$**                   | **1,467,173** |      | $          | 1,299,816 |       | $ | 1,146,799 |   |
| Large Systems                                           | ** ** | **429,047**             |          | 322,148   |       | 240,007   |       |
| Other                                                   | ** ** | **70,507**              |          | 66,070    |       | 69,142    |       |
| Total segment net  sales                                | ** ** | **1,966,727**           |          | 1,688,034 |       | 1,455,948 |       |
| Shipping and  handling revenues                         | ** ** | **12,805**              |          | 11,843    |       | 8,850     |       |
| Total net sales                                         | ** ** | **$**                   | **1,979,532** |      | $          | 1,699,877 |       | $ | 1,464,798 |   |
| **Segment profits**                                     | ** ** | ** **              |          |      |       |      |       |
| Small Systems                                           | ** ** | **$**                   | **648,624**   |      | $          | 626,724   |       | $ | 552,291 |   |
| Large Systems                                           | ** ** | **83,026**              |          | 63,590    |       | 48,480    |       |
| Other                                                   | ** ** | **41,090**              |          | 40,425    |       | 40,277    |       |
| Total segment  profits                                  | ** ** | **772,740**             |          | 730,739   |       | 641,048   |       |
| Shipping and  handling net costs                        | ** ** | **53,615**              |          | 37,343    |       | 30,237    |       |
| Provision for  excess inventory                         | ** ** | **—**              |          | 11,500    |       | —    |       |
| Provision for  intellectual property infringement claim | ** ** | **—**              |          | —    |       | 4,000     |       |
| Product recall  update                                  | ** ** | **—**              |          | —    |       | (5,500    | )          |
| Other indirect  operating expenses                      | ** ** | **532,160**             |          | 477,447   |       | 383,196   |       |
| Other income, net                                       | ** ** | **21,877**              |          | 9,711     |       | 9,990     |       |
| Earnings before income  taxes                           | ** ** | **$**                   | **208,842**   |      | $          | 214,160   |       | $ | 239,105 |   |

 

***Small Systems.******  ***Net sales forproducts in the Small Systems segment, which provides power protection, UPS andmanagement products for the PC, server and networking markets, increased infiscal year 2005 by 12.9% over 2004, and also increased in fiscal year 2004 by13.3% over 2003. In fiscal year 2005, continued strength in ourInfraStruXure-related solutions, including NetShelter racks and powerdistribution, was primary a driver  ofyear-over-year growth. Our Back-UPS desktop UPS and Smart-UPS network UPS, inparticular high kVA units and the new online Smart-UPS RT® series and were alsokey contributors to this segment’s continued strong performance. Price trendingfor InfraStruXure solutions remained relatively stable on a year-over-yearbasis. In fiscal year 2004, strength in NCPI and InfraStruXure related productsdrove solid 2004 performance in this segment, which also benefited from strongsales of APC’s core UPSs, the Back-UPS and Smart-UPS lines.

Gross margins for the Small Systems segment were 44.2%in fiscal year 2005, down 400 basis points from fiscal year 2004, and 48.2% infiscal year 2004, up 10 basis points from 2003. In fiscal year 2005, the 

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aforementioned increasedoperational costs, including warehousing and transportation costs incurred tomeet customer product and delivery needs, and price discounting outweighedimprovements from select product outsourcing and product mix within thissegment. The factors favorably influencing the gross margins of this segment infiscal year 2004 included product costreductions and favorable currency trends. Our Small Systems cost reductionswere achieved through a combination of product transitions to low costmanufacturing locations and material cost reductions from our supplier base.Our product cost reductions in 2004 and 2003 were driven principally bymaterial cost improvements and favorably impacted gross margins in the SmallSystems segment by approximately 240 basis points and 320 basis points in thefiscal years 2004 and 2003, respectively. Partially offsetting thefavorable product cost and currency trends were the impact of pricing actionsand product mix shifts within the segment.

***Large Systems.******  ***Net salesfor products in the Large Systems segment, consisting primarily of 3-phaseUPS, services, precision cooling and ancillary products for data centers,facilities and communication applications, increased 33.2% in fiscal year 2005over 2004, and also increased 34.2% in fiscal year 2004 over 2003. In fiscalyear 2005, the Large Systems segment continued to outpace the growth of ourother segments. InfraStruXure-related revenue continued to be a driver ofgrowth in this segment, including our Symmetra 3-phase, the UPS componentof our InfraStruXure solution, and ancillary products. We also experiencedstrong demand for our broadband solution, addressing fiber to the home andrelated applications, as well as our new Smart-UPS VT line, used in 3-phaseapplications. In fiscal year 2004, InfraStruXure sales were also a majorcontributor to the year-over-year growth of this segment. On a product level,Symmetra 3-phase, the primary power component of an InfraStruXure system,our industrial products, and services were leading growth drivers.

Gross margins for the Large Systems segment were 19.4%in fiscal year 2005, down 30 basis points from fiscal year 2004, and 19.7% infiscal year 2004, down 50 basis points from 2003. Unfavorable mix in fiscalyear 2005 driven by strong revenue growth in lower margin businesses, includingour broadband products, and unfavorable currency terms more than offset thebenefits of cost savings from volume efficiencies and product transitions tolower cost manufacturing locations. Such cost savings were also negativelyoffset by the Large Systems segment’s share of our increasing freight andlogistics costs. Gross margins for the Large Systems segment declined in fiscalyear 2004 from the prior year as a result of increased costs within our servicebusiness, particularly in the U.S. and Europe, as well as increasing materialcosts on select product lines, including cooling and Silcon products. Theseincreases were partially offset by volume-driven cost improvements on Symmetra 3-phaseproducts. Symmetra’s increasing share of Large Systems revenue further enhancedthe favorable impact of these cost improvements.

***“Other” Segment.******  ***Net salesfor products in the “Other” segment, consisting principally of mobileaccessories and replacement batteries, increased 6.7% in 2005 over 2004 duemainly to organic growth of existing products across the segment as well as newmobile accessory products. Net sales for this segment decreased 4.4% in fiscalyear 2004 from 2003 due to a decrease in sales volumes of mobile accessories,partially offset by an increase in sales of replacement batteries.

Gross margins for the “Other” segment were 58.3% infiscal year 2005, down 290 basis points from fiscal year 2004, and 61.2% infiscal year 2004, up 290 basis points from 2003. In fiscal year 2005, theyear-over-year decline was driven principally by an unfavorable mix shifttoward lower gross margin mobile accessories. In fiscal year 2004, strength in replacement battery sales andproduct cost reductions drove the year-over-year improvement. These cost reductions favorably impactedgross margins in the “Other” segment by approximately 199 basis points in fiscalyear 2004.

In addition, revenue andgross margin improvements in 2004 over the respective prior years were enhancedin each of the operating segments by the favorable pricing impact of aweakening U.S. dollar, particularly in Europe.

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**Operating Expenses**

***Marketing, Selling,General, and Administrative (SG&A) Expenses.***   SG&Aexpenses in fiscal year 2005 were $441.6 million or 22.3% of net sales comparedto $391.8 million or 23.1% of net sales in fiscal year 2004 and $315.4 millionor 21.6% of net sales in fiscal year 2003. We continue to support our data center initiatives, with a primary focuson increasing the awareness of our existing and prospective customers,particularly in relation to our InfraStruXure architecture. The increase intotal spending in fiscal year 2005 reflected ongoing sales and promotionalefforts which involve expanding our sales and support teams, developing newchannels such as manufacturer representatives and engineering contractors, andincreasing sales and marketing support of our core reseller channels, as wellas funding our educational efforts through high-level customer and partnerevents. In addition, the year-over-year increase in operating expenses includedincremental compensation costs associated with restricted stock units awardedduring the fourth quarter of 2004 and during fiscal year 2005. Theslight decrease as a percentage of net sales in fiscal year 2005 compared to2004 was attributable to certain fixed SG&A expenses spread over a higherrevenue base.

The allowance for bad debts was 3.8% of gross accountsreceivable at December 31, 2005 compared to 4.7% at December 31,2004. Accounts receivable balances outstanding over 60 days represented 12.7%of total receivables at December 31, 2005 compared to 11.7% at December 31,2004. This increase is due in part to agrowing portion of our business attributable to sales where longer paymentterms are customary combined with timing of certain collections in Europe. Amajority of U.S. and international customer balances continue to be covered byreceivables insurance. We continue to experience strong collection performance.Write-offs of uncollectible accounts have represented less than 1% of netsales.

***Research and Development (R&D).******  ***R&Dexpenditures were $90.5 million or 4.6% of net sales in 2005, $85.6 million or5.0% of net sales in 2004, and $67.6 million or 4.6% of net sales in 2003. Wecontinue to commit resources to support our investment in research anddevelopment. We believe that continued product innovation through developmentis necessary for our existing products to remain competitive in our markets, aswell as creating opportunities from new product introductions. The increase intotal 2005 R&D spending primarily reflect increased numbers of software andhardware engineers and costs associated with new product development andengineering support. The slight decrease as a percentage of net sales in fiscalyear 2005 compared to 2004 was attributable to certain fixed R&D expensesspread over a higher revenue base.

**Other Income, Net and Income Taxes**

***Other Income, Net.******  ***Other incomeis comprised principally of interest income. Global interest income increasedsignificantly during fiscal year 2005 over prior year levels due principally torising rates as well as a growing investment portfolio. Although global interest income for fiscal year 2004 was lower than for2003, such income increased in the fourth quarter of 2004 over the fourthquarter of 2003 as a result of increasing interest rates and investments inforeign-sourced commercial paper. On a full year basis, the decrease in fiscalyear 2004 from 2003 reflected our strategic purchase of additional tax-exemptsecurities as well as an overall decline in the bond market.

At December 31, 2005,APC had $774.2 million of total cash and investments, up from $721.1 million atDecember 31, 2004, all of which are stated at fair value. We manage APC’s cash and investment balancesto preserve principal and liquidity while maximizing our return on the totalinvestment portfolio. We diversify our investment portfolio by investing inmultiple types of investment-grade securities with multiple investment brokers.Based on APC’s investment portfolio and interest rates, at December 31,2005, a 100 basis point increase or decrease in interest rates would haveresulted in an increase or decrease of approximately $7 million in our annualinterest income.

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***Income Taxes.******  ******Our effective income tax rateswere approximately 31.0%, 15.3%, and 26.0% in 2005, 2004 and 2003,respectively. The substantial increase in fiscal year 2005 from 2004 reflectednon-recurring tax expense of approximately $19.9 million associated with theAmerican Jobs Creation Act of 2004, coupled with the impact of the net taxcredit on the 2004 effective tax rate described below.***

The substantial decrease in fiscal year 2004 from 2003was principally attributable to a net tax credit of approximately $20.8 millionassociated with the reversal of income tax provisioning resulting from thefavorable outcome of recent tax audits by U.S. federal and state taxingauthorities. In connection with the completion of the examination of its 2000-2002U.S. federal tax returns, APC adjusted certain income tax related reservesestablished in prior years due to the expiration of the statute of limitationsprimarily related to transfer pricing reserves established for the Philippineoperations, offset by the additional tax due agreed to as a result of theexamination, as well as an upward revision of reserves for years remaining openunder the statute of limitations. This revision relates primarily to transferpricing matters concerning our manufacturing subsidiaries in India and Chinaand our sales subsidiaries in Europe. In addition, APC recorded an additionaltax credit to the third quarter tax rate with respect to the reversal of a taxreserve established for potential state taxes. APC prevailed on a 1996-1997state tax appeal concerning a sales apportionment matter and this, along withthe expiration of the statue of limitations for all years through 2000,resulted in this tax credit.

The trending from 2003 to 2005 also included taxsavings from an increasing portion of taxable earnings anticipated to begenerated from APC’s operations in jurisdictions currently having lower incometax rates than the present U.S. statutory income tax rate. This shift resultedpartially from our product transitions to lower cost, lower tax, manufacturinglocations. APC has tax holidays inChina and India which reduce the income taxes paid in those countries. Althoughthis could have the effect of increasing APC’s foreign taxes, APC’seffective income tax rate will remain considerably lower than the U.S.statutory ***challengethat the ETI exclusion was a prohibited tax subsidy. The Act replaced the ETIexclusion with***federal corporate tax rate of 35%.

***American Jobs Creation Act of 2004—Repatriation ofForeign Earnings.******  ******The American Jobs Creation Act of2004 repealed the tax code’s extraterritorial income (ETI) exclusion inresponse to the World Trade Organization’s challenge that the ETI exclusion wasa prohibited tax subsidy. The Act replaced the ETI exclusion with a 3% domesticdeduction for domestic production activities effective for APC’s 2005 tax year.The Act also provided for a temporary 85% dividends received deduction oncertain foreign earnings repatriated during a one-year period. The deductionresults in an approximate 5.25% federal tax rate on the repatriated earnings.To qualify for the deduction, the earnings must be reinvested in the UnitedStates pursuant to a domestic reinvestment plan established by a company’schief executive officer and approved by its board of directors. Certain othercriteria in the Jobs Act must be satisfied as well. The maximum amount of APC’sforeign earnings that qualified for the temporary deduction was $500 million.During the fourth quarter of 2005, our Chief Executive Officer and Board ofDirectors approved a domestic reinvestment plan, as required by the Jobs Act,to repatriate $500 million in foreign earnings in 2005. We recorded $19.9million, or $0.10 per share, additional tax expense related to this dividendrepatriation made in the fourth quarter. No qualifying distributions were madeduring 2004.***

***Effects of Inflation***

APC’s material costs, particularly commoditiesincluding lead, copper, steel, resin (a petroleum derivative) and oil used inthe manufacturing and transportation of our products, are subject toinflationary trends. Management believes that inflation has not had a materialeffect on APC’s operations for 2003, 2004 and 2005.

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**LIQUIDITY AND FINANCIAL RESOURCES**

**Working Capital**

Working capital at December 31, 2005 was $1.389billion compared to $1.279 billion at December 31, 2004. Our cash, cashequivalents, and short-term investments position increased to $773.6 million atDecember 31, 2005 from $715.6 million at December 31, 2004. APC’s continued positive operating resultsallowed us to finance outlaysassociated with the fourth quarter 2005 acquisition of privately held NetBotz, Inc.,a leader in IP-based environmental and video monitoring solutions, for $31 millionin cash plus direct costs of the acquisition (including $3.875 million ofescrowed consideration to be paid over a period of 18 months from the date ofacquisition), as well as pay quarterly dividends and continue tointernally finance the capital investment, R&D, sales and marketingspending required to expand our operations.

**Cash Flows**

The table belowsummarizes our cash flows for the years ended December 31, 2005, 2004 and2003.

| ** **                                                 | ** ** | **2005**                | ** **  | **2004** | ** ** | **2003** | ** ** |
|------------------------------------------------------------|------------|-------------------------|-------------|----------|------------|----------|------------|
| ** **                                                 | ** ** | **(In thousands)** | ** **  |
| Net cash provided  by operating activities                 | ** ** | **$158,561**            |        | $        | 141,236    |     | $          | 119,599 |   |
| Net cash provided  by (used in) investing activities  | ** ** | **60,625**              |        | (11,263  | )          | (116,564 | )          |
| Net cash (used  in) provided by financing activities  | ** ** | **(29,493**             | **)**       | (198,466 | )          | 12,257   |       |
| ***Net change in cash and cash  equivalents***             | ** ** | **189,693**             |        | (68,493  | )          | 15,292   |       |
| Cash and cash  equivalents at beginning of year            | ** ** | **72,721**              |        | 141,214  |       | 125,922  |       |
| Cash and cash  equivalents at end of year                  | ** ** | **$**                   | **262,414** |     | $          | 72,721   |       | $ | 141,214 |   |
|                                                            |            |                         |             |          |            |          |            |  |  |  |

 

***Cash Flows fromOperating Activities.****  *Ourcash flows from operations for fiscal years 2005 and 2004 reflected higher profitlevels as well as the favorable impact of increasing accounts payable and otherliabilities, partially offset by increased inventory and higher accountsreceivable balances consistent with our strong sales growth.

***Cash Flows fromInvesting Activities.****  *Ourinvesting activities cash flows were used mainly for the purchase ofavailable-for-sale and held-to-maturity securities and for capital spending,principally manufacturing and office equipment, purchased softwareapplications, and building improvements. Our investment approach and thecomposition of our investment portfolio remained relatively constant overallwith no investments having maturitydates greater than two years, except for our auction rate securities andvariable rate demand obligations. Cashavailable from operations allowed us to finance outlays associated with the fourth quarter 2005 acquisition ofprivately held NetBotz, Inc., a leader in IP-based environmental and videomonitoring solutions, for $31 million in cash plus direct costs of theacquisition (including $3.875 million of escrowed consideration to be paidover a period of 18 months from the date of acquisition).

***Cash Flows from Financing Activities.****  *Our cashflows from financing activities included the payment of common stock dividendsof approximately $77.7 million, $70.5 million, and $31.8 million during fiscalyears 2005, 2004 and 2003, respectively. These outflows were partially offsetin 2005 and 2004, and more than offset in 2003, by proceeds from issuances ofcommon stock relating to employee stock plans during each of the periodspresented. Financing cash flows in 2004 also included a third quarter $150million stock repurchase.

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**Inventories**

Worldwide inventories were $541.8 million atDecember 31, 2005, up from $465.9 million at December 31, 2004.Higher levels of on-hand finished goods were required during fiscal year 2005to meet increasing current and anticipated demand, particularly forInfraStruXure product offerings, as well as to manage the supply chainrequirements associated with continuing transfers of production of a wide rangeof Small and Large Systems products to and among our low cost manufacturingregions. In addition, we increased our inventory levels strategically tosupport in-region lead time initiatives, as well as to support continuing newproduct introductions. Despite increasing inventory levels, inventory levels asa percentage of quarterly sales were 94% in the fourth quarter of 2005, downfrom 95% in the third quarter of 2005 and up from 91% in the fourth quarter of2004.

***Provision forExcess Inventory.******  ***Additionally, fiscal year 2004gross margins included the effects of a $11.5 million incremental charge forexcess inventory recognized during the third quarter related tospecifically-identified finished goods and raw materials inventories deemedobsolete as the result of efforts to reduce the number of unique productofferings in several of our product lines, as well as the result of new productintroductions. There were no additional inventory charges, other than APC’sstandard provisioning, during fiscal year 2005, the remainder of 2004, orduring fiscal year 2003.

***Product Recall.******  ***In early 2003, APC announceda product recall due to potential safety issues. Approximately 2.1 millionaffected devices were recalled worldwide, with approximately 900,000 devicesrecalled in the United States, limited to two specific models in APC’s Back-UPSCS product line, the Back-UPS CS 350 and the Back-UPS CS 500, in both 120-voltand 230-volt models. Based upon repair cost and return rate experienceto-date as well as then-current estimates of remaining costs to be incurred, inthe third quarter of 2003 APC projected that aggregate costs for the recallwould be less than the $19.6 million originally accrued in the fourth quarterof 2002. To reflect this change, warranty expense, classified as cost of goodssold, was reduced by $5.5 million in the third quarter of 2003. As of December 31,2005, APC had incurred approximately 93% of currently estimated total recallcosts of $14.1 million. Our estimation of remaining recall costs is $1.0million. We expect that actual amounts will not differ materially from ourcurrent estimates. Also refer to Note 7 of Notes to Consolidated FinancialStatements in Item 8 of this report.

**Contractual Obligations**

Thefollowing table summarizes our significant contractual obligations at December 31,2005, and the effect such obligations are expected to have on our liquidity andcash flows in future periods. This table excludes amounts already recorded onour balance sheet as current liabilities at December 31, 2005.

| ** **                   | ** ** | **Payments Due By Period** | ** ** |
|------------------------------|------------|-------------------------------------------|------------|
| ** **                   | ** ** | **Total**                                 | ** ** | **Less than  1 year** | ** ** | **1-3 years** | ** ** | **3-5 years** | ** ** | **More than  5 years** | ** ** |
| ** **                   | ** ** | **(In millions)**                    | ** ** |
| Operating Lease  Obligations |       | $32.1                                     |       |   | $9.4 |   |   |   | $13.6 |   |   |   | $6.4 |   |   |   | $2.7 |   |   |
|                              |            |                                           |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

APC’s non-cancelableoperating leases, primarily for warehousing and office space, expire at variousdates through 2019. These leases contain renewal options for periods rangingfrom one to 14 years and require APC to pay its proportionate share ofutilities, taxes, and insurance. APC is not able to determine the aggregateamount of purchase orders that represent contractual obligations for thepurchase of goods and services, as such purchase orders may representauthorizations to purchase rather than binding agreements. For the purposes ofthis disclosure, contractual obligations for the purchase of goods and servicesare defined as agreements that are enforceable and legally binding on APC andthat specify all significant terms, including: fixed or minimum quantities tobe purchased; fixed, minimum, or variable price provisions; the approximatetiming of the transaction, and contain no provisions allowing for 

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cancellationwithout significant penalty. Our purchase orders for raw materials or purchasedfinished products are based on our current manufacturing needs and/or demandforecasts and are fulfilled by our vendors within short time horizons. We donot have significant agreements for the purchase of raw materials or finishedproducts specifying minimum quantities or set prices that exceed our expectedrequirements for three months.

**CapitalExpenditures and Capital Commitments**

During 2005 and 2004, our capital expenditures, net ofcapital grants, amounted to approximately $49.2 million and $29.3 million,respectively, consisting primarily of manufacturing and office equipment,purchased software applications, and building improvements. Capital spending in2005 and 2004 focused on funding additional equipment needs and improvingexisting factories, principally in the U.S., India, the Philippines, China, andIreland, as well as continuing investment in information technologies.Substantially all of APC’s net capital expenditures were financed fromavailable operating cash. Also refer toNote 11 of Notes to Consolidated Financial Statements in Item 8 of this report.

We have dedicated efforts to rationalize our overallmanufacturing capacity and locations over the past three years and we willcontinue to plan for future capacity requirements based on the assumedcontinued acceptance and demand for our products in the specific marketsegments they were designed to address. We currently expect that capitalspending will be between $80 million and $100 million in 2006, compared to $49million in 2005. We expect that most of our capital spending for 2006 will gotoward building a customer Technology and Learning Center, to be based in St.Louis, Missouri, and maintaining, upgrading, and expanding our currentmanufacturing capacity, as well as investments to upgrade current hardware andsoftware office technologies.

We had no material capital commitments during fiscalyears 2005, 2004 and 2003, or at December 31, 2005 and 2004.

APC has agreements with the Industrial DevelopmentAuthority of Ireland, otherwise known as the IDA. Under these agreements, wereceive grant monies for costs incurred for machinery, equipment, and buildingimprovements for our Galway and Castlebar facilities. These grants are equal to40% and 60%, respectively, of such costs up to a maximum of $13.1 million forGalway and $1.3 million for Castlebar. Such grant monies are subject to APCmeeting certain employment goals and maintaining operations in Ireland untiltermination of the respective agreements. Under separate agreements with theIDA, we receive direct reimbursement of training costs at our Galway andCastlebar facilities for up to $3,000 and $12,500, respectively, per newemployee hired. Also refer to Note 15 of Notes to Consolidated FinancialStatements in Item 8 of this report.

APC also has an agreementwith the IDA for a research and development grant towards the costs of aproject for the development of software products. The availability of the grantis contingent on meeting certain milestones in the progress of the project aswell as meeting certain employment goals on the project within the Galwayfacility. The amount of grant assistance available on satisfaction of allconditions is 28% of the eligible expenditure to a maximum of €714,588.Also refer to Note 15 of Notes to Consolidated Financial Statements in Item 8of this report.

**BorrowingFacilities and Financial Commitments**

APC had no borrowingfacilities or significant financial commitments, other than those required inthe normal course of business, during fiscal years 2005, 2004 and 2003, or at December 31,2005 and 2004.

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**Off-Balance-Sheet Arrangements**

APC had no significantoff-balance sheet arrangements during fiscal years 2005, 2004 and 2003, or at December 31,2005 and 2004.

**Acquisition of NetBotz, Inc.**

Early in the fourthquarter of 2005, APC completed the acquisition of privately held NetBotz, Inc.,a leader in IP-based environmental and video monitoring solutions, for $31 millionin cash plus direct costs of the acquisition (including $3.875 million ofescrowed consideration to be paid over a period of 18 months from the date ofacquisition). APC’s cash outlays associated with this acquisition were financedfrom operating cash. At December 31, 2005, the excess of the purchaseprice over the estimated fair value of the tangible and intangible net assetsacquired has been included in goodwill. The acquisition has been accounted foras a purchase and, accordingly, NetBotz’s results of operations are included inAPC’s consolidated financial statements from the date of acquisition.

**Quarterly Cash Dividends**

In June 2003, APC’s Board of Directors approvedinitiation of a quarterly cash dividend of $0.08 per share of common stock.Dividends of $0.08 per share were declared and paid in each subsequent quarterthrough the second quarter of 2004. In June 2004, APC’s Board of Directorsapproved a 25% increase in its quarterly cash dividend raising the payout to$0.10 per share. Dividends of $0.10 per share were declared and paid in eachsubsequent quarter through the first quarter of 2006. It is the intention ofthe Board of Directors to pay a comparable quarterly dividend on a going forwardbasis contingent upon continued capital availability and a determination thatcash dividends continue to be in the best interests of APC and itsshareholders.

APC has historicallygenerated annual cash flows from operating activities as a result of strongoperating results and, at times, improvement in working capital. We believethat current internal cash flows together with available cash, available creditfacilities or, if needed, the proceeds from the sale of additional equity, willbe sufficient to support anticipated capital spending, dividend payments, andother working capital requirements for the foreseeable future.

**Stock Repurchase Program**

In February 2006, APC’s Board of Directorsapproved a stock repurchase program which authorizes up to $200 million torepurchase outstanding shares of APC’s common stock. The purchases would bemade on the open market based on market and business factors. APC commenced therepurchase of its common stock in February 2006 and, as of March 10,2006, had repurchased approximately 3.4 million shares on the open market at anaverage price of approximately $20.39 per share. The duration of the repurchaseprogram is two years but may be suspended or discontinued at any time withoutprior notice.

During the third quarterof 2004, APC repurchased on the open market approximately 9.3 million shares ofits common stock, at an average price of $16.09 per share totaling $150million, completing a program approved by APC’s Board of Directors in June 2004.The repurchased shares have been deemed authorized but unissued shares. In March 2004,APC also returned its 250,000 treasury shares to an authorized but not issuedstatus.

**Foreign Currency Activity**

We invoice our customers in various currencies.Realized and unrealized transaction gains or losses are included in the resultsof operations and are measured based upon the effect of changes in exchange 

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rates on the actual orexpected amount of functional currency cash flows. Transaction gains and losseswere not material to the results of operations in 2005, 2004 and 2003.

Thetable below summarizes information on balances that are sensitive to foreigncurrency exchange rates and presents such amounts in U.S. dollar equivalents.

| ** **                       | ** ** | **December 31, 2005** | ** ** | **December 31, 2004** | ** ** |
|----------------------------------|------------|---------------------------------|------------|---------------------------------|------------|
| ** **                       | ** ** | **Accounts Receivable**    | ** ** | **Liabilities**                 | ** ** | **Accounts Receivable** | ** ** | **Liabilities** | ** ** |
| ** **                       | ** ** | **(In thousands)**         | ** ** |
| U.S. dollar  functional currency | ** ** |                            | **$**      | **98,640**                      | ** ** |   |   | **$** | **93,756** |   |   |   | $ | 97,640 |   |   | $ | 101,876 |   |
| Swiss franc functional  currency | ** ** |                            | **$**      | **14,428**                      | ** ** |   |   | **$** | **5,791** |   |   |   | $ | 17,218 |   |   | $ | 8,439 |   |

 

APC also had non-trade receivables denominated inEuros of approximately U.S.$1.4 million and U.S.$0.8 million at December 31,2005 and 2004, respectively.

We continually review ourforeign exchange exposure and consider various risk management techniques,including the netting of foreign currency receipts and disbursements, rateprotection agreements with customers/vendors and derivatives arrangements,including foreign exchange contracts. We presently do not utilize rateprotection agreements or derivative arrangements.

**CRITICAL ACCOUNTING POLICIES**

The discussion and analysis of our financial conditionand results of operations are based upon our consolidated financial statements,which have been prepared in accordance with accounting principles generallyaccepted in the United States. The preparation of these financial statementsrequires us to make estimates and judgments that affect the reported amounts ofassets, liabilities, revenues and expenses, and related disclosure ofcontingent assets and liabilities. The U.S. Securities and Exchange Commissionhas defined critical accounting policies as those that are both most importantto the portrayal of our financial condition and results and which require ourmost difficult, complex or subjective judgments or estimates. Based on thisdefinition, we have identified the policies below as critical to our businessoperations and the understanding of our results of operations. The impact andany associated risks related to these policies on our business operations isdiscussed throughout Management’s Discussion and Analysis of FinancialCondition and Results of Operations where such policies affect our reported andexpected financial results. For all financial statement periods presented,there have been no material modifications to the application of these criticalaccounting policies. For a detailed discussion on the application of these andother accounting policies, also refer to Note 1 of Notes to ConsolidatedFinancial Statements in Item 8 of this report.

On an on-going basis, we evaluate the judgments andestimates underlying all of our accounting policies, including those related torevenue recognition, product returns, bad debts, inventories, impairment oflong-lived assets, deferred tax valuation allowances, restructuring reservesand contingencies, and litigation. We base our estimates on historicalexperience and on various other assumptions that are believed to be reasonableunder the circumstances, the results of which form the basis for makingjudgments about the carrying values of assets and liabilities that are notreadily apparent from other sources. Materially different results in the amountand timing of our actual results for any period could occur if we madedifferent judgments or utilized different estimates. Actual results may differfrom those estimates.

Our critical accounting policies are as follows:

***Revenue Recognition.******  ***We follow veryspecific and detailed guidelines in measuring revenue; however, certainjudgments affect the application of our revenue policy. Revenue results aredifficult to predict, and any shortfall in revenue or delay in recognizingrevenue could cause our operating results to vary significantly from quarter toquarter. In general, revenue is recognized when title has passed at the time of

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delivery of product forall of our operating segments as stipulated by the delivery terms for the salestransactions. In addition, prior to revenue recognition, we require persuasiveevidence of the arrangement, that the price is fixed or determinable, and thatcollectibility is reasonably assured. This requires us to assess at the pointof delivery whether these criteria have been met. When management determinesthat such criteria have been met, revenue is recognized. Installation is notapplicable for a majority of Small Systems and all “Other” segment productsbased on the nature of the products sold. Generally, revenue associated withLarge Systems sales is also recognized at the time of delivery and/orinstallation pursuant to the delivery and/or installation terms. Delivery termsvary, but often include origin-based terms (e.g., FOB Shipping Point andEx-works) and destination-based terms (e.g., DDU/DDP (delivered dutyunpaid/delivered duty paid)). We record estimated reductions to revenue for customerprograms and incentive offerings, including special pricing agreements, priceprotection, co-operative advertising and other volume based discounts at thetime of sale.

Our arrangements do not generally include acceptanceclauses. However, if an arrangement includes a customer specified acceptanceprovision, acceptance can occur at our factory prior to delivery or at thecustomers’ site. Revenue recognition will occur upon management’s determinationof acceptance by the customer consistent with the agreed-upon delivery termsfor the sale. As we continue to introduce new products and enter into newproduct and service arrangements with customers, we anticipate thatinstallation and customer acceptance provisions may become more common, andtherefore increasingly significant for determining delivery and performance andconsequently our entitlement to recognize revenue.

Certain Large Systems product lines and, at times, oneproduct line included in the Small Systems segment, require electrical hardwireinstallation or duct installation which is performed by the customer or theircontracted licensed contractor/electrician. Where we do not perform suchinstallation, revenue recognition at the time of delivery is proper as customeracceptance of the unit is not required. Also, payment by the customer is notcontingent upon installation of the product.

We offer additional services to customers depending onthe type of product the customer has purchased, including product-based andprofessional services. Revenue is recognized at the time services are providedor is deferred and recognized over the service period (where applicable). Thefair value of these services are based upon the rates that we charge customersin separately negotiated transactions and such services are not essential tothe functionality of the delivered product.

For all sales, except those completed over theInternet, we use a binding purchase order as evidence of an arrangement. Forsales over the Internet, we use a credit card authorization as evidence of anarrangement. Sales through certain customers are evidenced by a masteragreement governing the relationship together with binding purchase orders on atransaction by transaction basis.

***EstimatingValuation Allowances and Accrued Liabilities—Allowances for Sales Returns,Doubtful Accounts, Inventory Obsolescence and Product Recall, and Assessment ofthe Probability of the Outcome of our Current Litigation.***   Significantmanagement judgments that affect the application of our revenue policy alsoinclude estimates of potential future product returns related to current periodproduct revenue. We analyze historical returns, current economic trends, andchannel inventories when evaluating the adequacy of the sales returns and otherallowances. Significant management judgments and estimates must be made andused in connection with establishing the sales returns and other allowances inany accounting period. Material differences may result in the amount and timingof our revenue for any period if management made different judgments orutilized different estimates.

We provide limited rights of return to distributorsand retailers for our Small Systems product lines. We provide appropriatereserves for returns at the time that related revenue is recognized, based onhistorical patterns of returns and contractual provisions in accordance withthe provisions of Statement of Financial Accounting Standards No. 48, *Revenue Recognition When Right of Return Exists*,and 

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U.S. Securities andExchange Commission Staff Accounting Bulletin No. 104. Returns of LargeSystems products generally do not occur. Historically, returns have representedapproximately 3% of gross sales and have not differed significantly from priorestimates.

Similarly, we must make estimates of theuncollectability of our accounts receivable. Management specifically analyzesaccounts receivable balances in view of customer credit-worthiness, customerconcentrations, historical bad debts, current economic trends, and changes inour customer payment terms when evaluating the adequacy of the allowance fordoubtful accounts. Commencing in August 2004,we expanded APC’s receivables insurance coverage to include U.S.-based sales. Amajority of U.S. and international customer balances continue to be covered byreceivables insurance. Historically, write-offs of uncollectable accounts have represented less than 1%of net sales.

Our inventory reserve estimate methodology involvesquantifying the total inventory position having potential loss exposure. Lossexposure generally results from several business factors, including product orcomponent discontinuance, unplanned changes in demand, product design changes,and factory transitions. Quantifying such loss exposure is the result ofcombining the cost of inventories specifically identified as having little orno opportunity for sale or use (thus available for physical disposition) plusthe cost of inventories having a high risk of no future sale or use based uponan analysis of on-hand quantities compared to historical and anticipated futuresale or use. We maintain an on-going business process for the physicaldisposition of inventories previously identified. Inventory write-offs occur atthe time of physical disposition. Inventories, once reserved, are not writtenback up as such reserve adjustments are considered to be a permanent decreaseto the cost basis of the excess or obsolete inventory. If actual marketconditions are less favorable than those projected by management, additionalinventory write-downs may be required.

In early 2003, APC announced a product recall due topotential safety issues. Approximately 2.1 million affected devices wererecalled worldwide, with approximately 900,000 devices recalled in the UnitedStates, limited to two specific models in APC’s Back-UPS CS product line, theBack-UPS CS 350 and the Back-UPS CS 500, in both 120-volt and 230-voltmodels. As of December 31, 2005, APC had incurred approximately 93% ofcurrently estimated total recall costs of $14.1 million. Our estimation ofremaining recall costs is $1.0 million. The most significant risks associatedwith our return rate assumptions include varying degrees of product recallregulation by geography as well as varying consumer awareness levels and accessto timely recall information. Actual per unit repair cost includes principallytransportation costs which will be influenced by the proximity of customerlocations to the service center location as well as the priority level ofdelivery requirements. We expect that actual amounts will not differ materiallyfrom our current estimates. Also refer to Note 7 of Notes to ConsolidatedFinancial Statements in Item 8 of this report.

We are, and may in the future become, involved inlitigation involving our business, products or operations. For pending claimsfor which there is an estimatable range of loss greater than zero, we recordthe best estimate of liability within the range. If no point within the rangeis considered the best estimate, we record the minimum estimated liability. Becauseof uncertainties related to the identifiable range of loss on any pendingclaims, we may be unable to make a reasonable estimate of the liability thatcould result from an unfavorable outcome. As additional information becomesavailable, we assess the potential liability related to our pending claims andrevise our estimates. Such revisions in our estimates of the potentialliability could materially impact our results of operation and financialposition. The litigation process is inherently uncertain and includes the riskof an unexpected, unfavorable result. We may be materially adversely impactedby any such litigation.

***Valuation of Long-lived Tangible and Intangible Assetsincluding Goodwill.******  ***We assess the impairment oflong-lived tangible and intangible assets on an ongoing basis and wheneverevents or changes in circumstances indicate that the carrying value may not berecoverable. Should our assessment of long-lived 

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and amortizableintangible assets suggest impairment, we would determine recoverability basedon an estimate of future undiscounted cash flows resulting from our use of theasset and its eventual disposition. Factors we consider that could trigger animpairment review include the following:

·       significantunderperformance relative to expected historical or projected future operatingresults;

·       significantchanges in the manner of our use of the acquired assets or the strategy for ouroverall business;

·       significantnegative industry or economic trends; and

·       significanttechnological changes, which would render equipment and manufacturing process,obsolete.

We evaluate each of our reporting units with goodwillduring the fourth quarter of each fiscal year or more frequently if impairmentindicators arise. Impairment losses are determined based upon the excess ofcarrying amounts over discounted expected future cash flows of the underlyingbusiness.

***Accounting forIncome Taxes.******  ***As part of the process of preparingour consolidated financial statements, we are required to estimate our income taxesin each of the jurisdictions in which we operate. This process involvesestimating our actual current tax exposure together with assessing temporarydifferences resulting from differing treatment of items, such as deferredrevenue, for tax and accounting purposes. These differences result in deferredtax assets and liabilities, which are included within our consolidated balancesheet. We must then assess the likelihood that our deferred tax assets will berecovered from future taxable income. Expectations about future taxable incomeincorporate numerous assumptions about actions, elections and strategies tominimize income taxes in future years. Our ability to take such actions, makepreferred elections and implement tax-planning strategies may be adverselyimpacted by enacted changes in tax laws and/or tax rates, as well as successfulchallenges by tax authorities resulting from differing interpretations of taxlaws and regulations.

APC is routinely under audit by federal, foreign,state, or local authorities in the areas of income taxes and the remittance ofsales and use taxes. These audits include questioning the timing and amount ofdeductions, the nexus of income among various tax jurisdictions and compliancewith federal, foreign, state, and local tax laws. In evaluating the exposureassociated with various tax filing positions, we often accrue for probableexposures. To the extent APC were to prevail in matters for which accruals havebeen established or were to be required to pay amounts in excess of reserves,APC’s effective tax rate in a given financial statement period could bematerially affected.

To the extent we believe that recovery of deferred taxassets is not likely, we must establish a valuation allowance. To the extent weestablish a valuation allowance or increase this allowance in a period, we mustinclude an expense within the tax provision in the consolidated statements ofincome. Significant management judgment is required in determining ourprovision for income taxes, our deferred tax assets and liabilities and anyvaluation allowance recorded against our net deferred tax assets. At December 31,2005 and 2004, we provided a valuation allowance on certain of our deferred taxassets, primarily consisting of net operating losses generated in 2001 through2005 for the start up and continuing operations of Brazilian operations,because of uncertainty regarding their realizability. The valuation allowanceis based on our estimates of taxable income by jurisdiction in which we operateand the period over which our deferred tax assets will be recoverable. In theevent that actual results differ from these estimates or we adjust theseestimates in future periods we may need to establish an additional valuationallowance which could materially impact our financial position and results ofoperations.

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**RECENTLYISSUED ACCOUNTING STANDARDS**

***Accounting forElectronic Equipment Waste Obligations.******  ***In June 2005, theFinancial Accounting Standards Board issued Staff Position No. 143-1,*Accounting for Electronic Equipment WasteObligations.*This Position addresses the accounting for obligationsassociated with Directive 2002/96/EC on Waste Electrical and ElectronicEquipment (the “Directive”) adopted by the European Union. This Position refersto and paraphrases various provisions of the Directive. This Statement iseffective for APC upon adoption of the Directive by the individual EuropeanUnion countries. This Statement may have a material impact on our consolidatedfinancial position or results of operations. In 2005, we accrued approximately$1 million as an estimate of our future obligation where a reasonable estimatecould be made and are continuing to evaluate the country-specificimplementation requirements to determine the further impact of the Position’sprovisions.

***Accounting Changesand Error Corrections.******  ***InMay 2005, the Financial Accounting Standards Board issued Statement ofFinancial Accounting Standards No.154, *Accounting Changes andError Corrections*. This Statement changes the requirements for theaccounting for and reporting of a change in accounting principle. It requiresretrospective application to prior periods’ financial statements of changes inaccounting principle, unless it is impracticable to determine either the periodspecific effects or the cumulative effect of the change. This Statement appliesto all voluntary changes in accounting principle. It also applies to changesrequired by an accounting pronouncement in the unusual instance that thepronouncement does not include specific transition provisions. When apronouncement includes specific transition provisions, those provisions shouldbe followed. This Statement is effective for APC beginning with the firstquarter of 2006. It is not expected to have a material impact on ourconsolidated financial position or results of operations.

***Share-Based Payment.******  ***In December 2004, theFinancial Accounting Standards Board issued Statement of Financial AccountingStandards No. 123 (revised 2004), *Share-Based Payment*,which is a revision of Statement No. 123 as amended by No. 148, *Accounting for Stock-Based Compensation*. Statement No. 123Rsupercedes APB Opinion No. 25. Generally, the approach in Statement 123Ris similar to the approach described in Statement 123. However, Statement 123Rrequires all share-based payments to employees, including grants of employeestock options, to be recognized in the income statement based on their fairvalues at the date of grant. Pro forma disclosure is no longer an alternative.

As permitted by Statement 123, until December 31, 2005APC accounted for share-based payments to employees using APB Opinion No. 25’sintrinsic value method and, as such, generally recognized no compensation costfor employee stock options. Accordingly, the adoption of Statement 123R’s fairvalue method will have a significant impact on APC’s results of operations,although it will have no impact on APC’s overall financial position. EffectiveJanuary 1, 2006, we adopted FAS 123R using the modified prospective basis. Thismethod requires us to apply the provisions of Statement 123R to any awards thatare unvested on the effective date and to any new awards. Under this method, wewill not be required to restate prior periods. Compensation cost for theunvested awards will be recognized over the remaining service period using thecompensation cost calculated for our pro forma disclosures under Statement 123,adjusted for estimated forfeitures. The pro forma earnings impact ofstock-based compensation expense on our results of operations for the years2005, 2004 and 2003 is described in Note 1 of Notes to Consolidated FinancialStatements in Item 8 of this report. It is important to note that such proforma disclosures are not necessarily indicative of the potential impact ofrecognizing compensation cost for share-based payments under Statement 123R infuture periods.

Our adoption of FAS 123R is expected to result incompensation expense that will reduce diluted net income per share byapproximately $0.05 to $0.07 per share for 2006. This estimated range does notinclude any stock-based awards our Board of Directors may grant in 2006. Also,our estimate of future stock-based compensation expense will be affected by ourstock price and a number of complex and 

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subjective valuationassumptions, and the related tax impact, as well as the number of stock-basedawards our Board of Directors may grant in the future. These valuationassumptions include, but are not limited to, the volatility of our stock priceand employee stock option exercise behaviors. As such, our actual share-basedcompensation expense may differ materially from this estimated range.

**Item 7A. Quantitative and Qualitative DisclosuresAbout Market Risk**

APC, in the normal course of business, is exposed tomarket risks relating to fluctuations in foreign currency exchange rates. Theinformation required under this section related to such risks is included inthe *Foreign Currency Activity*section of Management’s Discussion and Analysis of Financial Condition andResults of Operations in Item 7 of this report and is incorporated herein byreference.

**APC, inthe normal course of business, is also exposed to market risks relating tofluctuations in interest rates and the resulting rates of return on investmentsin marketable securities. The information required under this section relatedto such risks is included in the *OtherIncome, Net* section of Management’s Discussion and Analysis ofFinancial Condition and Results of Operations in Item 7 of this report and isincorporated herein by reference.**

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**Item 8. Financial Statements and Supplementary Data**

**AMERICAN POWER CONVERSION CORPORATION AND SUBSIDIARIESCONSOLIDATED BALANCE SHEETSDecember 31, 2005 and 2004In thousands except per share amount**

| ** **                                                                                                  | ** ** | **2005**      | ** **    | **2004**   | ** ** |
|-------------------------------------------------------------------------------------------------------------|------------|---------------|---------------|------------|------------|
| **ASSETS**                                                                                                  | ** ** | ** **    |          |       |       |
| Current assets:                                                                                             | ** ** | ** **    |          |       |       |
| Cash and cash  equivalents                                                                                  | ** ** | **$**         | **262,414**   |       | $          | 72,721 |   |
| Short term  investments (Note 3)                                                                            | ** ** | **511,181**   |          | 642,853    |       |
| Accounts  receivable, less allowance for doubtful accounts of $14,995 in 2005 and  $16,180 in 2004 (Note 4) | ** ** | **374,694**   |          | 327,547    |       |
| Inventories (Note  5)                                                                                       | ** ** | **541,823**   |          | 465,927    |       |
| Prepaid expenses  and other current assets                                                                  | ** ** | **59,181**    |          | 39,294     |       |
| Deferred income  taxes (Note 8)                                                                             | ** ** | **60,139**    |          | 57,018     |       |
| Total current  assets                                                                                       | ** ** | **1,809,432** |          | 1,605,360  |       |
| Property, plant, and equipment:                                                                             | ** ** | ** **    |          |       |       |
| Land, buildings,  and improvements                                                                          | ** ** | **75,549**    |          | 69,371     |       |
| Machinery and  equipment                                                                                    | ** ** | **229,768**   |          | 217,462    |       |
| Office equipment,  furniture, and fixtures                                                                  | ** ** | **101,144**   |          | 92,452     |       |
| Purchased software                                                                                          | ** ** | **53,275**    |          | 40,817     |       |
|                                                                                                        | ** ** | **459,736**   |          | 420,102    |       |
| Less accumulated  depreciation and amortization                                                             | ** ** | **293,692**   |          | 265,251    |       |
| Net property,  plant, and equipment                                                                         | ** ** | **166,044**   |          | 154,851    |       |
| Long term  investments (Note 3)                                                                             | ** ** | **562**       |          | 5,542      |       |
| Goodwill (Note 6)                                                                                           | ** ** | **15,781**    |          | 7,179      |       |
| Other intangibles,  net (Note 6)                                                                            | ** ** | **36,115**    |          | 39,627     |       |
| Deferred income  taxes (Note 8)                                                                             | ** ** | **42,427**    |          | 28,687     |       |
| Other assets                                                                                                | ** ** | **5,101**     |          | 2,626      |       |
| Total assets                                                                                                | ** ** | **$**         | **2,075,462** |       | $          | 1,843,872 |   |
| **LIABILITIES AND SHAREHOLDERS’ EQUITY**                                                               | ** ** | ** **    |          | ** ** | ** ** |
| Current liabilities:                                                                                        | ** ** | ** **    |          | ** ** | ** ** |
| Accounts payable                                                                                            | ** ** | **$**         | **176,345**   |       | $          | 132,213 |   |
| Accrued  compensation                                                                                       | ** ** | **41,798**    |          | 43,869     |       |
| Accrued sales and  marketing programs                                                                       | ** ** | **47,826**    |          | 43,209     |       |
| Accrued warranty  (Note 7)                                                                                  | ** ** | **13,272**    |          | 13,092     |       |
| Other accrued  expenses                                                                                     | ** ** | **60,013**    |          | 46,929     |       |
| Deferred revenue                                                                                            | ** ** | **41,793**    |          | 35,522     |       |
| Income taxes  payable                                                                                       | ** ** | **39,755**    |          | 11,330     |       |
| Total current  liabilities                                                                                  | ** ** | **420,802**   |          | 326,164    |       |
| Deferred tax  liability (Note 8)                                                                            | ** ** | **14,911**    |          | 15,449     |       |
| Total liabilities                                                                                           | ** ** | **435,713**   |          | 341,613    |       |
| Shareholders’ equity (Notes 9 and 10):                                                                 | ** ** | ** **    |          |       |       |
| Common stock, $0.01 par value;                                                                              | ** ** | ** **    |          |       |       |
| authorized 450,000 shares  in 2005 and 2004;                                                                | ** ** | ** **    |          |       |       |
| issued 195,778 in  2005 and 192,137 in 2004                                                                 | ** ** | **1,958**     |          | 1,921      |       |
| Additional paid-in  capital                                                                                 | ** ** | **131,862**   |          | 60,081     |       |
| Retained earnings                                                                                           | ** ** | **1,504,093** |          | 1,437,691  |       |
| Accumulated other  comprehensive income                                                                     | ** ** | **1,836**     |          | 2,566      |       |
| Total  shareholders’ equity                                                                            | ** ** | **1,639,749** |          | 1,502,259  |       |
| COMMITMENTS AND CONTINGENCIES (Notes 7, 12, 14 and  15)                                                     | ** ** | ** **    |          |       |       |
| Total liabilities  and shareholders’ equity                                                            | ** ** | **$**         | **2,075,462** |       | $          | 1,843,872 |   |

 

See accompanying notes to consolidated financial statements.

 

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**AMERICAN POWER CONVERSION CORPORATION AND SUBSIDIARIESCONSOLIDATED STATEMENTS OF INCOMEYears ended December 31, 2005, 2004 and 2003In thousands except per share amounts**

| ** **                                       | ** ** | **2005**      | ** **    | **2004**  | ** ** | **2003**  | ** ** |
|--------------------------------------------------|------------|---------------|---------------|-----------|------------|-----------|------------|
| Net sales (Note  11)                             | ** ** | **$**         | **1,979,532** |      | $          | 1,699,877 |       | $ | 1,464,798 |   |
| Cost of goods  sold                              | ** ** | **1,260,407** |          | 1,017,981 |       | 852,615   |       |
| Gross profit                                     | ** ** | **719,125**   |          | 681,896   |       | 612,183   |       |
| Operating expenses:                              |       |          |          |      |       |      |       |
| Marketing,  selling, general, and administrative | ** ** | **441,640**   |          | 391,829   |       | 315,429   |       |
| Research and  development                        | ** ** | **90,520**    |          | 85,618    |       | 67,639    |       |
| Total operating  expenses                        | ** ** | **532,160**   |          | 477,447   |       | 383,068   |       |
| Operating income                                 | ** ** | **186,965**   |          | 204,449   |       | 229,115   |       |
| Other income, net                                | ** ** | **21,877**    |          | 9,711     |       | 9,990     |       |
| Earnings before  income taxes                    | ** ** | **208,842**   |          | 214,160   |       | 239,105   |       |
| Income taxes  (Note 8)                           | ** ** | **64,761**    |          | 32,705    |       | 62,167    |       |
| Net income                                       | ** ** | **$**         | **144,081**   |      | $          | 181,455   |       | $ | 176,938 |   |
| **Basic  earnings per share**                    | ** ** | **$**         | **0.74**      |      | $          | 0.92      |       | $ | 0.90 |   |
| Basic weighted  average shares outstanding       | ** ** | **194,078**   |          | 196,799   |       | 197,402   |       |
| **Diluted  earnings per share**                  | ** ** | **$**         | **0.72**      |      | $          | 0.90      |       | $ | 0.88 |   |
| Diluted weighted average  shares outstanding     | ** ** | **199,798**   |          | 201,658   |       | 201,517   |       |

 

See accompanying notes to consolidated financial statements.

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**AMERICAN POWER CONVERSION CORPORATION AND SUBSIDIARIESCONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITYYears ended December 31, 2005, 2004 and 2003In thousands**

| ** **                                                          | ** ** | **$0.01 Par,  Common Stock** | ** ** | **Additional  Paid-in** | ** ** | **Retained** | ** ** | **Treasury Stock,  at Cost** | ** **  | **Accumulated  Other  Comprehensive** | ** **  | ** **    | ** ** |
|---------------------------------------------------------------------|------------|----------------------------------------|------------|-------------------------|------------|--------------|------------|----------------------------------------|-------------|---------------------------------------|-------------|---------------|------------|
| ** **                                                          | ** ** | **Shares**                             | ** ** | **Amount**              | ** ** | **Capital**  | ** ** | **Earnings**                           | ** **  | **Shares**                            | ** **  | **Amount**    | ** ** | **Income (Loss)** | ** ** | **Total** | ** ** |
| **Balances at December 31, 2002**                              | ** ** | **196,496**                            | ** ** |                    | **$**      | **1,965**    | ** ** |                                   |        | **$**                                 | **131,827** | ** **    |       | **$** | **1,181,563** | ** ** |   | **(250** | **)** |   |   | **$** | **(1,551** | **)** |   |   | **$** | **(1,752** | **)** |   | **$** | **1,312,052** | ** ** |
| Net income                                                          |       |                                   |       |                    |       |         |       |                                   |        |                                  |        | 176,938       |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | 176,938 |   |
| Foreign currency translation adjustment                             |       |                                   |       |                    |       |         |       |                                   |        |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   | 2,662 |   |   | 2,662 |   |
| Net unrealized gain on investments                             |       |                                   |       |                    |       |         |       |                                   |        |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   | 225 |   |   | 225 |   |
| *Comprehensive income*                                              | * *   | * *                               | * *   | * *                | * *   | * *     | * *   | * *                               | * *    | * *                              | * *    | * *      | * *   | * * | * * | ** ** | * * | * * | * * | ** ** | * * | * * | * * | * * | * * | *179,825* | * * |
| Common stock dividends                                              |       |                                   |       |                    |       |         |       |                                   |        |                                  |        | (31,768       | )          |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | (31,768 | ) |
| Exercises of stock options                                          |       | 3,340                                  |       |                    | 34         |         |       |                                   | 42,170      |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | 42,204 |   |
| Tax benefit from exercises of stock options                         |       |                                   |       |                    |       |         |       |                                   | 6,749       |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | 6,749 |   |
| Shares issued to Employee Stock Purchase Plan                       |       | 146                                    |       |                    | 1          |         |       |                                   | 1,820       |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | 1,821 |   |
| **Balances at December 31, 2003**                              | ** ** | **199,982**                            | ** ** |                    | **2,000**  | ** **   |       |                                   | **182,566** | ** **                            |        | **1,326,733** | ** ** |   | **(250** | **)** |   |   | **(1,551** | **)** |   |   | **1,135** | ** ** |   | **1,510,883** | ** ** |
| Net income                                                          |       |                                   |       |                    |       |         |       |                                   |        |                                  |        | 181,455       |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | 181,455 |   |
| Foreign currency translation adjustment                             |       |                                   |       |                    |       |         |       |                                   |        |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   | 1,431 |   |   | 1,431 |   |
| *Comprehensive income*                                              | * *   | * *                               | * *   | * *                | * *   | * *     | * *   | * *                               | * *    | * *                              | * *    | * *      | * *   | * * | * * | ** ** | * * | * * | * * | ** ** | * * | * * | * * | * * | * * | *182,886* | * * |
| Common stock dividends                                              |       |                                   |       |                    |       |         |       |                                   |        |                                  |        | (70,497       | )          |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | (70,497 | ) |
| Exercises of stock options                                          |       | 1,582                                  |       |                    | 16         |         |       |                                   | 19,862      |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | 19,878 |   |
| Tax benefit from exercises of stock options                         |       |                                   |       |                    |       |         |       |                                   | 4,942       |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | 4,942 |   |
| Shares issued to Employee Stock Purchase Plan                       |       | 136                                    |       |                    | 1          |         |       |                                   | 2,152       |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | 2,153 |   |
| Compensation expense—Restricted Stock Units (RSU’s)       |       |                                   |       |                    |       |         |       |                                   | 2,014       |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | 2,014 |   |
| Common stock repurchases                                            |       | (9,313                                 | )          |                    | (93        | )            |       |                                   | (149,907    | )                                     |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | (150,000 | ) |
| Treasury shares returned to authorized but not issued  status  |       | (250                                   | )          |                    | (3         | )            |       |                                   | (1,548      | )                                     |        |          |       |   | 250 | ** ** |   |   | 1,551 | ** ** |   |   |   |   |   | — |   |
| **Balances at December 31, 2004**                              | ** ** | **192,137**                            | ** ** |                    | **1,921**  | ** **   |       |                                   | **60,081**  | ** **                            |        | **1,437,691** | ** ** |   | **—** | ** ** |   |   | **—** | ** ** |   |   | **2,566** | ** ** |   | **1,502,259** | ** ** |
| Net income                                                          |       |                                   |       |                    |       |         |       |                                   |        |                                  |        | 144,081       |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | 144,081 |   |
| Foreign currency translation adjustment                             |       |                                   |       |                    |       |         |       |                                   |        |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   | (811 | ) |   | (811 | ) |
| Net unrealized gain on investments                             |       |                                   |       |                    |       |         |       |                                   |        |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   | 81 |   |   | 81 |   |
| *Comprehensive income*                                              | * *   | * *                               | * *   | * *                | * *   | * *     | * *   | * *                               | * *    | * *                              | * *    | * *      | * *   | * * | * * | ** ** | * * | * * | * * | ** ** | * * | * * | * * | * * | * * | *143,351* | * * |
| Common stock dividends                                              |       |                                   |       |                    |       |         |       |                                   |        |                                  |        | (77,679       | )          |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | (77,679 | ) |
| Exercises of stock options                                          |       | 3,327                                  |       |                    | 34         |         |       |                                   | 45,723      |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | 45,757 |   |
| Tax benefit from exercises of stock options and  vested RSU’s  |       |                                   |       |                    |       |         |       |                                   | 14,845      |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | 14,845 |   |
| Shares issued to Employee Stock Purchase Plan                       |       | 139                                    |       |                    | 1          |         |       |                                   | 2,428       |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | 2,429 |   |
| Compensation expense—(RSU’s)                              |       |                                   |       |                    |       |         |       |                                   | 8,787       |                                  |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | 8,787 |   |
| Conversion of RSU’s to common shares                           |       | 175                                    |       |                    | 2          |         |       |                                   | (2          | )                                     |        |          |       |   |   | ** ** |   |   |   | ** ** |   |   |   |   |   | — |   |
| **Balances  at December 31, 2005**                             | ** ** | **195,778**                            | ** ** |                    | **$**      | **1,958**    | ** ** |                                   |        | **$**                                 | **131,862** | ** **    |       | **$** | **1,504,093** | ** ** |   | **—** | ** ** |   |   | **$** | **—** | ** ** |   |   | **$** | **1,836** | ** ** |   | **$** | **1,639,749** | ** ** |

 

See accompanying notes to consolidated financialstatements.

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**AMERICAN POWER CONVERSION CORPORATION AND SUBSIDIARIESCONSOLIDATED STATEMENTS OF CASH FLOWSYears ended December 31, 2005, 2004 and 2003In thousands**

| ** **                                                                        | ** ** | **2005**       | ** **  | **2004**   | ** ** | **2003**   | ** ** |
|-----------------------------------------------------------------------------------|------------|----------------|-------------|------------|------------|------------|------------|
| ***Cash  flows from operating activities***                                       | ** ** | ** **     |        |       |       |       |       |
| Net income                                                                        | ** ** | **$**          | **144,081** |       | $          | 181,455    |       | $ | 176,938 |   |
| Adjustments to reconcile  net income to net cash provided by operating activities | ** ** | ** **     |        |       |       |       |       |
| Depreciation and amortization of property, plant, and  equipment                  | ** ** | **38,289**     |        | 36,826     |       | 35,619     |       |
| Loss on sale of property, plant, and equipment                                    | ** ** | **—**     |        | 776        |       | —     |       |
| Amortization of other intangibles                                                 | ** ** | **12,791**     |        | 11,661     |       | 11,831     |       |
| Provision for doubtful accounts                                                   | ** ** | **2,242**      |        | (1,500     | )          | 5,279      |       |
| Provision for inventories                                                         | ** ** | **12,061**     |        | 17,376     |       | 6,600      |       |
| Compensation expense—Restricted Stock Units                                  | ** ** | **8,787**      | ** **  | 2,014      | ** ** | **—** | ** ** |
| Deferred income taxes                                                             | ** ** | **(5,093**     | **)**       | (981       | )          | (6,403     | )          |
| Other non-cash items, net                                                         | ** ** | **(711**       | **)**       | 1,431      |       | 2,887      |       |
| Changes in operating  assets and liabilities:                                     | ** ** | ** **     |        |       |       |       |       |
| Accounts receivable                                                               | ** ** | **(48,035**    | **)**       | (61,329    | )          | (32,918    | )          |
| Inventories                                                                       | ** ** | **(87,054**    | **)**       | (81,081    | )          | (88,851    | )          |
| Prepaid expenses and other current assets                                         | ** ** | **(19,567**    | **)**       | (13,998    | )          | (751       | )          |
| Other assets                                                                      | ** ** | **(2,443**     | **)**       | (1,794     | )          | (667       | )          |
| Accounts payable                                                                  | ** ** | **43,606**     |        | 29,413     |       | 2,817      |       |
| Accrued compensation                                                              | ** ** | **(2,541**     | **)**       | 4,503      |       | 6,337      |       |
| Accrued sales and marketing programs                                              | ** ** | **4,377**      |        | 13,262     |       | 7,542      |       |
| Accrued warranty                                                                  | ** ** | **(432**       | **)**       | 1,383      |       | (15,474    | )          |
| Other accrued expenses                                                            | ** ** | **8,662**      |        | 12,783     |       | 3,845      |       |
| Deferred revenue                                                                  | ** ** | **6,271**      |        | 11,192     |       | 5,195      |       |
| Income taxes payable                                                              | ** ** | **43,270**     |        | (22,156    | )          | (227       | )          |
| Net cash provided by operating activities                                         | ** ** | **158,561**    |        | 141,236    |       | 119,599    |       |
| ***Cash  flows from investing activities***                                       | ** ** | ** **     |        |       |       |       |       |
| Purchases of held-to-maturity securities                                          | ** ** | **(885,895**   | **)**       | (862,277   | )          | (484,980   | )          |
| Maturities of held-to-maturity securities                                         | ** ** | **1,326,672**  |        | 723,006    |       | 405,854    |       |
| Purchases of available-for-sale securities                                        | ** ** | **(2,728,781** | **)**       | (2,762,575 | )          | (3,149,112 | )          |
| Sales of available-for-sale securities                                            | ** ** | **2,424,656**  |        | 2,919,085  |       | 3,133,283  |       |
| Capital expenditures, net of capital grants                                       | ** ** | **(49,164**    | **)**       | (29,289    | )          | (21,609    | )          |
| Proceeds from sale of property, plant, and equipment                              | ** ** | **—**     |        | 787        |       | —     |       |
| Payments for acquisition net of cash acquired                                     | ** ** | **(26,863**    | **)**       | —     |       | —     |       |
| Net cash provided by (used in) investing activities                               | ** ** | **60,625**     |        | (11,263    | )          | (116,564   | )          |
| ***Cash  flows from financing activities***                                       | ** ** | ** **     |        |       |       |       |       |
| Purchases of common stock                                                         | ** ** | **—**     |        | (150,000   | )          | —     |       |
| Proceeds from issuances of common stock                                           | ** ** | **48,186**     |        | 22,031     |       | 44,025     |       |
| Dividends paid on common stock                                                    | ** ** | **(77,679**    | **)**       | (70,497    | )          | (31,768    | )          |
| Net cash (used in) provided by financing activities                               | ** ** | **(29,493**    | **)**       | (198,466   | )          | 12,257     |       |
| ***Net change in cash and cash  equivalents***                                    | ** ** | **189,693**    |        | (68,493    | )          | 15,292     |       |
| Cash and cash equivalents at beginning of year                                    | ** ** | **72,721**     |        | 141,214    |       | 125,922    |       |
| Cash and cash equivalents at end of year                                          | ** ** | **$**          | **262,414** |       | $          | 72,721     |       | $ | 141,214 |   |
| ***Supplemental  cash flow disclosures:***                                        |       |           |        |       |       |       |       |
| Cash paid during the year for income taxes (net of  tax refunds)                  | ** ** | **$**          | **28,162**  |       | $          | 53,309     |       | $ | 56,168 |   |
| Details of acquisitions                                                           | ** ** | ** **     |        |       |       |       |       |
| Fair value of assets                                                              | ** ** | **$**          | **33,925**  |       | $          | —     |       | $ | — |   |
| Liabilities                                                                       | ** ** | **(6,251**     | **)**       | —     |       | —     |       |
| Cash paid                                                                         | ** ** | **27,674**     |        | —     |       | —     |       |
| Cash acquired                                                                     | ** ** | **(811**       | **)**       | —     |       | —     |       |
| Acquisitions                                                                      | ** ** | **$**          | **26,863**  |       | $          | —     |       | $ | — |   |

 

See accompanying notes to consolidated financialstatements.

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**AMERICAN POWER CONVERSION CORPORATION AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIAL STATEMENTS**

**Years ended December 31, 2005, 2004 and 2003**

**1. Summaryof Significant Accounting Policies**

***Nature of Business***

American Power ConversionCorporation and its subsidiaries (APC) designs, develops, manufactures, andmarkets power protection and management solutions for computer, communicationsand electronic applications worldwide. APC’s products include uninterruptiblepower supply products (UPSs), electrical surge protection devices, powerconditioning products, cooling equipment, and associated software, services,and accessories. These products are primarily used with sensitive electronicdevices which rely on electric utility power including, but not limited to,home electronics, personal computers (PCs), high-performance computerworkstations, servers, networking equipment, communications equipment,Internetworking equipment, data centers, mainframe computers, and facilities.APC’s principal markets are in North America, Europe, and the Far East.

***Principles of Consolidation***

The consolidated financialstatements include the accounts of American Power Conversion Corporation andall of its majority-owned subsidiaries. All significant intercompany accountsand transactions are eliminated in consolidation.

***Revenue Recognition***

Revenue from sales of APC’sproducts, including UPS products, electrical surge protection devices, powerconditioning products, cooling equipment, and associated accessories, isrecognized when title has passed at the time of delivery of product asstipulated by the delivery terms for the sales transactions. In addition, priorto revenue recognition, APC requires persuasive evidence of the arrangement,that the price is fixed or determinable, and that collectibility is reasonablyassured. APC offers additional services to customers depending on the type ofproduct the customer has purchased, including on-site services, installationconsulting services, remote monitoring services, power audit services, andnetwork integration services. Revenue is recognized at the time services areprovided or is deferred and recognized ratably over the service period whereapplicable, typically one to three years. APC’s arrangements do not generallyinclude acceptance clauses. However, if an arrangement includes a customerspecified acceptance provision, acceptance generally occurs at APC’s factoryprior to delivery. Provisions for potential liabilities resulting from salesreturns and allowances, warranties, and uncollectible accounts are made at thetime that related revenue is recognized, based on historical patterns ofreturns and contractual provisions in accordance with the provisions ofStatement of Financial Accounting Standards No. 48, *Revenue Recognition When Right of Return Exists*,and U.S. Securities and Exchange Commission Staff Accounting Bulletin No. 104.

***Cash and Cash Equivalents***

Cash and cash equivalentsconsist of funds on deposit, money market savings accounts, and short-termcommercial paper with original maturities of three months or less.

***Investments***

APC classifies as shortterm its investments with original maturities greater than three months andless than or equal to one year, and as long term its investments with remainingmaturities greater than one year. APC has no investments with maturity datesgreater than one year except for auction rate securities 

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andvariable rate demand obligations. Held-to-maturitysecurities are carried at amortized cost. Available-for-sale securities arerecorded at fair value with net unrealized gains and losses reported, net ofincome taxes, in other comprehensive income. Management determines theappropriate classification of securities at the time of purchase andre-evaluates such designation as of each balance sheet date. Securities areclassified as held-to-maturity when APC has the positive intent and ability tohold such securities to maturity. APC invests its excess cash principally incertificates of deposit, corporate bonds and notes, and U.S. government agencysecurities. APC also invests in auction rate securities and variable ratedemand obligations which have long-term underlying maturities, however themarket is highly liquid and the interest rates reset frequently.

***Inventories***

Inventories are stated at thelower of cost or market; cost being determined using the first-in, first-out(FIFO) method.

***Property, Plant, and Equipment***

Property,plant, and equipment are stated at cost. Depreciation is provided using thestraight-line method over the estimated useful lives indicated below. Leaseholdimprovements are amortized over the shorter of the lease term or estimateduseful life of the asset.

| Land improvements                          |   | 15-40 years |   |
|--------------------------------------------|--------|-------------|--------|
| Buildings and  improvements                |   | 30-40 years |   |
| Machinery and  equipment                   |   | 3-10 years  |   |
| Office equipment,  furniture, and fixtures |   | 3-10 years  |   |
| Purchased software                         |   | 3 years     |   |

 

***Grant Monies***

Grant monies are providedto certain of APC’s subsidiaries located in Ireland to reimburse qualifyingcapital expenditures and for hiring and maintaining certain employment levelswithin Ireland. Grant monies received for costs incurred for property, plantand equipment are recorded as a reduction to the basis of the correspondingdepreciable assets. Grant monies received for employee levels are recorded as areduction of payroll expense in the period in which the employee levelsrequired by the grant are reached. Grant monies are received subject to “clawback”provisions that would obligate APC to repay the grant monies received shouldits employment levels fall below established levels. At the end of each fiscalquarter, APC evaluates current conditions relating to the status of on-goingoperations and related employment levels in Ireland to assess the possibilitythat grant monies will need to be repaid and, if deemed necessary, to accrue arepayment liability. Since the inception of its grant agreements in 1994, APChas not assessed the need to accrue a repayment liability and, based upon acurrent evaluation of its significant investment in Ireland and on-goingoperational requirements, APC currently believes the possibility that theclawback provisions will become effective is remote.

***Goodwill and Other Intangibles***

Goodwill represents the excess of cost over the fairvalue of the net tangible assets and identifiable intangible assets ofbusinesses acquired. APC evaluates each of its reporting units with goodwillduring the fourth quarter of each fiscal year or more frequently if impairmentindicators arise.

APC’s other intangibleassets consist principally of technology and licensed patent rights relating touninterruptible power supply technology. APC amortizes such assets over theirrespective estimated useful lives. There are no expected residual valuesrelated to APC’s intangible assets. APC reviews such assets for 

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impairmentin accordance with the provisions of Statement of Financial AccountingStandards No. 144, *Impairment onDisposal of Long-Lived Assets*. Statement 144 requires recognition ofan impairment loss only if the carrying amount of a long-lived asset is notrecoverable from its undiscounted cash flows. An impairment loss is measured asthe difference between the carrying amount and fair value of the asset. APCevaluates its other intangible assets if impairment indicators arise.

***Long-lived Assets***

APC accounts forlong-lived assets, excluding goodwill, in accordance with the provisions ofStatement 144, *Impairment on Disposal ofLong-Lived Assets*. Statement 144 sets forth criteria to determinewhen a long-lived asset is held for sale. Such criteria specify that the assetmust be available for immediate sale in its present condition subject only toterms that are usual and customary for sales of such assets. In addition, thesale of the asset must be probable, and its transfer expected to qualify forrecognition as a completed sale, generally within one year. Statement 144requires recognition of an impairment loss only if the carrying amount of along-lived asset is not recoverable from its undiscounted cash flows. Animpairment loss is measured as the difference between the carrying amount andfair value of the asset. APC evaluates its long-lived assets if impairmentindicators arise.

***Research and Development***

Expenditures for researchand development (R&D) are expensed in the period incurred.

***Warranties***

APC offers limited warranties ranging from one tothree years varying by product. The provision for potential liability resultingfrom warranty claims is made at the time that related revenue is recognized,based on historical patterns of returns and contractual provisions inaccordance with the provisions of Statement of Financial Accounting Standards No. 48,*Revenue Recognition When Right of ReturnExists*, and U.S. Securities and Exchange Commission Staff AccountingBulletin No. 104. Customers can extend the basic warranty period of selectproducts, at an additional charge, for a period of one or three additionalyears. Recognition of revenue associated with extended warranty programscommences on the date the extended warranty becomes effective and is recognizedratably over the extended warranty period. In addition, APC offers an EquipmentProtection Policy in the U.S., Canada, and Europe. Depending on the model andcountry, the policy provides up to $150,000, £50,000, or €100,000for repair or replacement of customers’ hardware should a surge or lightningstrike pass through an APC unit. Other restrictions also apply. Customers canalso register the ProtectNet line of data line surge suppressors for a “Double-Up”Supplemental Equipment Protection Policy, under which the total recoverablelimit under the Equipment Protection Policy may be doubled (U.S. and Canadaonly). Most surge suppressor products come with a lifetime product warranty.Except in relation to the product recall discussed below, APC has generallyexperienced satisfactory field operating results, and warranty and EquipmentProtection Policy costs incurred to date have not had a significant impact onAPC’s results of operations.

In early 2003, APCannounced a product recall of Back-UPS CS 350 and 500 models. APC’s methodologyfor estimating costs associated with this product recall involved estimatingfuture costs to be incurred to replace the recalled products based on expectedreturns and the costs to conduct the recall, particularly repair andtransportation costs; also refer to Note 7.

***Income Taxes***

Income taxes are accounted for under the asset andliability method. Under this method, deferred tax assets and liabilities arerecognized for the future tax consequences attributable to differences betweenthe financial statement carrying amounts of existing assets and liabilities andtheir respective tax bases. 

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Deferred tax assets andliabilities are measured using enacted tax rates expected to apply to taxableincome in the years in which those temporary differences are expected to berecovered or settled. The effect on deferred tax assets and liabilities of achange in tax rates is recognized in income in the period that includes theenactment date.

Deferred income taxes havenot been provided for the undistributed earnings of APC’s foreign subsidiarieswhich aggregated approximately $252 million at December 31, 2005. APCplans to reinvest all such earnings for future expansion. If such earnings weredistributed, taxes would increase by approximately $73 million. Additionally,APC has tax holidays in China and India which reduce or eliminate the incometaxes paid in those countries. Based on the currently enacted regular corporateincome tax rates in these countries, the benefit to APC of these tax holidayswas approximately $10.9 million, or $0.05 per diluted share, for the year endedDecember 31, 2005; $7.2 million, or $0.04 per diluted share, for the yearended December 31, 2004; and $10.2 million, or $0.05 per diluted share,for the year ended December 31, 2003.

***Earnings per Share***

Basicearnings per share is computed by dividing net income by the weighted averagenumber of common shares outstanding during the period. Diluted earnings pershare is computed by dividing net income by the weighted average number ofcommon shares and dilutive potential common shares outstanding during theperiod. Under the treasury stock method, the unexercised options are assumed tobe exercised and the unvested restricted stock units are assumed to be vested, atthe beginning of the period or at issuance, if later. The assumed proceeds arethen used to purchase common shares at the average market price during theperiod. Potential common shares for which inclusion would have the effect ofincreasing diluted earnings per share (i.e., antidilutive) are excluded fromthe computation.

| ** **                                                                                                                     | ** ** | **2005**                | ** ** | **2004** | ** ** | **2003** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|----------|------------|----------|------------|
| ** **                                                                                                                     | ** ** | **(In thousands)** | ** ** |
| Basic weighted  average shares outstanding                                                                                     | ** ** | **194,078**             |       | 196,799  |       | 197,402  |       |
| Net effect of  dilutive potential common shares outstanding based on the treasury stock method  using the average market price | ** ** | **5,720**               |       | 4,859    |       | 4,115    |       |
| Diluted weighted  average shares outstanding                                                                                   | ** ** | **199,798**             |       | 201,658  |       | 201,517  |       |
| Antidilutive potential  common shares excluded from the computation above                                                      | ** ** | **569**                 |       | 2,945    |       | 3,133    |       |

 

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***Stock-Based Compensation***

On June 10,2004, APC’s shareholders approved APC’s 2004 Long-Term Incentive Plan (2004 LTIPlan), which replaced the 1997 Stock Option Plan. At December 31, 2005,APC had one active stock-based compensation plan, the aforementioned 2004 LTIPlan, and an employee stock purchase plan (ESPP), which are described morefully in Note 9. As permitted by Statement of Financial Accounting Standards No. 123as amended by No. 148, Accounting for Stock-Based Compensation, APCaccounts for those plans under the recognition and measurement principles ofAPB Opinion No. 25, Accounting for Stock Issued to Employees, and relatedInterpretations. No stock-based employee compensation cost related to stockoptions is reflected in net income, as all options granted under those planshad an exercise price equal to the market value of the underlying common stockon the date of grant. The following table illustrates the effect on net incomeand earnings per share if APC had applied the fair value recognition provisionsof Statement 123 to stock-based employee compensation:

| ** **                                                                                                                                    | ** ** | ** **   | ** ** | **2005**                                                                   | ** **  | **2004**   | ** ** | **2003** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------|------------|----------------------------------------------------------------------------|-------------|------------|------------|----------|------------|
| ** **                                                                                                                                    | ** ** | ** **   | ** ** | **(In thousands except per share  amounts)** | ** **  |
| Net income                                                                                                                                    |       | As  reported | ** ** | **$**                                                                      | **144,081** |       | $          | 181,455  |       | $ | 176,938 |   |
| Add: Compensation  expense recognized during the period, net of related tax effects                                                           | ** ** | ** **   |       | **6,898**                                                                  |        | 1,511      |       | —   |       |
| Deduct: Total  stock-based employee compensation expense determined under fair value based  method for all awards, net of related tax effects |       | Pro  forma   | ** ** | **(13,798**                                                                | **)**       | (11,647    | )          | (23,175  | )          |
| Net income                                                                                                                                    |       | Pro  forma   | ** ** | **$**                                                                      | **137,181** |       | $          | 171,319  |       | $ | 153,763 |   |
| Basic earnings per share                                                                                                                      |       | As reported  | ** ** | **$**                                                                      | **0.74**    |       | $          | 0.92     |       | $ | 0.90 |   |
|                                                                                                                                          |       | Pro  forma   | * *   | $                                                                          | **0.71**    |       | $          | 0.87     |       | $ | 0.78 | *** *** |
| Diluted earnings  per share                                                                                                                   |       | As  reported | ** ** | **$**                                                                      | **0.72**    | ** ** | $          | 0.90     |       | $ | 0.88 |   |
|                                                                                                                                          |       | Pro forma    | * *   | $                                                                          | **0.69**    |       | $          | 0.85     |       | $ | 0.76 | *** *** |

 

Thepro forma effect on net income for 2005, 2004 and 2003 is not representative ofthe pro forma effect on net income in future years because it does not takeinto consideration pro forma compensation expense related to stock optiongrants made prior to 1995. The weighted average fair value of stock optionsgranted during 2005, 2004 and 2003 was $9.51, $10.93, and $8.18, respectively.APC estimates the fair value of each option as of the date of grant using theBlack-Scholes pricing model with the following weighted average assumptionsused for grants in 2005, 2004 and 2003:

| ** **               | ** ** | **2005**    | ** ** | **2004** | ** ** | **2003** | ** ** |
|--------------------------|------------|-------------|------------|----------|------------|----------|------------|
| Expected  volatility     | ** ** | **45**      | **%**      | 64       | %          | 67       | %          |
| Dividend yield           | ** ** | **2**       | **%**      | 2        | %          | 2        | %          |
| Risk-free  interest rate | ** ** | **4.3**     | **%**      | 3.6      | %          | 2.5      | %          |
| Expected life            | ** ** | **5 years** |       | 6 years  |       | 5 years  |       |

*** ***

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***Restricted Stock Units.******  ***In addition, under APC’s 2004Long-Term Incentive Plan, APC’s Compensation and Stock Option Committee of theBoard of Directors approved the award of restricted stock units (RSU’s) asfollows:

| ** **               | ** ** | ** ** | ** ** | **Weighted Average** | ** ** |
|--------------------------|------------|------------|------------|---------------------------|------------|
| **Date Approved**   | ** ** | ** ** | ** ** | **RSU’s**            | ** ** | **Fair Value per unit** | ** ** |
| December 29,  2005  |       | 193,000    |       |                      | $          | 22.32 |   |   |
| November 30,  2005  |       | 19,000     |       |                      | $          | 22.41 |   |   |
| October 12,  2005   |       | 20,000     |       |                      | $          | 24.05 |   |   |
| September 19,  2005 |       | 212,750    |       |                      | $          | 25.93 |   |   |
| June 30,  2005      |       | 20,000     |       |                      | $          | 23.59 |   |   |
| June 23,  2005      |       | 50,000     |       |                      | $          | 24.35 |   |   |
| October 25, 2004    |       | 951,825    |       |                      | $          | 16.25 |   |   |
|                          |            |            |            |                           |            |  |  |  |  |  |

 

Under the recognition and measurement principles ofAPB Opinion No. 25, *Accounting for StockIssued to Employees*, and related Interpretations, approximately $8.8million and $2.0 million of stock-based employee compensation cost was reflectedin net income and paid-in capital for such units in fiscal years 2005 and 2004,respectively. Under the 2004 LTI Plan, if APC awards a dividend on its commonstock prior to the vesting date of an RSU, the holder of the restricted stockunit would be entitled to receive on the vesting date a dividend equivalentpayment. Dividend equivalents are recognized as compensation expense when thedividend is declared. The RSU awards will vest, and the underlying common stockwill concurrently issue, ratably over four years, whereby the units grantedwill vest 25% on June 30 in the year following the date approved, and 25%on June 30 of each year thereafter.

APC accounts for its non-employee stock-basedcompensation awards in which goods or services are the consideration receivedfor the equity instruments issued based on the fair value of the considerationreceived or the fair value of the equity instruments issued, whichever is morereliably measurable. Compensation cost recognized for non-employees under theseplans in the accompanying consolidated financial statements is not material.

***Share-Based Payment.******  ***In December 2004, theFinancial Accounting Standards Board issued Statement of Financial AccountingStandards No. 123 (revised 2004), *Share-Based Payment*,which is a revision of Statement No. 123 as amended by No. 148, *Accounting for Stock-Based Compensation*. Statement No. 123Rsupercedes APB Opinion No. 25. Generally, the approach in Statement 123Ris similar to the approach described in Statement 123. However, Statement 123Rrequires all share-based payments to employees, including grants of employeestock options, to be recognized in the income statement based on their fairvalues at the date of grant. Pro forma disclosure is no longer an alternative.

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As permitted by Statement 123, until December 31, 2005APC accounted for share-based payments to employees using APB Opinion No. 25’sintrinsic value method and, as such, generally recognized no compensation costfor employee stock options. Accordingly, the adoption of Statement 123R’s fairvalue method will have a significant impact on APC’s results of operations,although it will have no impact on APC’s overall financial position. EffectiveJanuary 1, 2006, we adopted FAS 123R using the modified prospective basis. Thismethod requires us to apply the provisions of Statement 123R to any awards thatare unvested on the effective date and to any new awards. Under this method, wewill not be required to restate prior periods. Compensation cost for the unvestedawards will be recognized over the remaining service period using thecompensation cost calculated for our pro forma disclosures under Statement 123,adjusted for estimated forfeitures. The pro forma earnings impact ofstock-based compensation expense on our results of operations for the years2005, 2004 and 2003 is described above. It is important to note that such proforma disclosures are not necessarily indicative of the potential impact ofrecognizing compensation cost for share-based payments under Statement 123R infuture periods.

***Advertising Costs***

Advertising costs areexpensed as incurred and reported in marketing, selling, general, andadministrative expenses in the accompanying consolidated statements of income.Such costs of advertising, advertising production, trade shows, and otheractivities are designed to enhance demand for APC’s products. Advertising costswere $52.5 million in 2005, $50.4 million in 2004, and $46.8 million in 2003.There are no capitalized advertising costs in the accompanying consolidatedbalance sheets.

***Use of Estimates***

The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States requires management to make estimates andassumptions that affect the reported amounts of assets and liabilities anddisclosure of contingent assets and liabilities at the date of the financialstatements and the reported amounts of revenues and expenses during thereporting period. Actual results may differ from those estimates.

**2.   Acquisition**

***NetBotz, Inc.***

Early in the fourthquarter of 2005, APC completed the acquisition of privately held NetBotz, Inc.,a leader in IP-based environmental and video monitoring solutions, for $31 millionin cash plus direct costs of the acquisition (including $3.875 million ofescrowed consideration to be paid over a period of 18 months from the date ofacquisition). APC’s cash outlays associated with this acquisition were financedfrom operating cash. At December 31, 2005, the excess of the purchaseprice over the estimated fair value of the tangible and intangible net assetsacquired has been included in goodwill. The acquisition has been accounted foras a purchase and, accordingly, NetBotz’s results of operations are included inAPC’s consolidated financial statements from the date of acquisition.

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**3.   Investments**

| ** **                         | ** ** | **Amortized  Cost**     | ** ** | **Gross  Unrealized  Holding  Gains** | ** **        | **Gross  Unrealized  Holding  Losses** | ** ** | **Fair  Value** | ** **                    |
|------------------------------------|------------|-------------------------|------------|---------------------------------------|-------------------|----------------------------------------|------------|-----------------|-------------------------------|
| ** **                         | ** ** | **(In thousands)** | ** ** |
| **At  December 31, 2005**     |       |                    |       |                                  |              |                                   |       |            |                          |   |   |   |   |
| **Available-for-sale**             | ** ** | ** **              | ** ** | ** **                            | ** **        |                                   | ** ** | ** **      | ** **                    | ** ** | ** ** | ** ** | ** ** |
| Auction rate  securities           | ** ** | **$ 369,481**      | ** ** | ** **                            | **$ —** |                                   | ** ** | ** **      | **$   —** | ** ** | ** ** | **$ 369,481** | ** ** |
| Variable rate  demand obligations  | ** ** | **136,700**             | ** ** | ** **                            | **—**        |                                   | ** ** | ** **      | **—**                    | ** ** | ** ** | **136,700** | ** ** |
| Equity  investments                | ** ** | **481**                 | ** ** | ** **                            | **81**            |                                   | ** ** | ** **      | **—**                    | ** ** | ** ** | **562** | ** ** |
| ** **                         | ** ** | **506,662**             | ** ** | ** **                            | **81**            |                                   | ** ** | ** **      | **—**                    | ** ** | ** ** | **506,743** | ** ** |
| **Held-to-maturity**               | ** ** | ** **              | ** ** | ** **                            | ** **        |                                   | ** ** | ** **      | ** **                    | ** ** | ** ** | ** ** | ** ** |
| U.S. government  agency securities | ** ** | **5,000**               | ** ** | ** **                            | **—**        |                                   | ** ** | ** **      | **(28**                       | **)** | ** ** | **4,972** | ** ** |
| ** **                         | ** ** | **5,000**               | ** ** | ** **                            | **—**        |                                   | ** ** | ** **      | **(28**                       | **)** | ** ** | **4,972** | ** ** |
| ** **                         | ** ** | **$ 511,662**      | ** ** | ** **                            | **$ 81**     |                                   | ** ** | ** **      | **$ (28**                | **)** | ** ** | **$ 511,715** | ** ** |
| **At  December 31, 2004**     |       |                    |       |                                  |              |                                   |       |            |                          |   |   |   |   |
| **Available-for-sale**             |       |                    |       |                                  |              |                                   |       |            |                          |   |   |   |   |
| Auction rate  securities           |       | $ 202,075          |       |                                  | $ —     |                                   |       |            | $   —     |   |   | $ 202,075 |   |
| Equity  investments                |       | 506                     |       |                                  | —            |                                   |       |            | —                        |   |   | 506 |   |
|                               |       | 202,581                 |       |                                  | —            |                                   |       |            | —                        |   |   | 202,581 |   |
| **Held-to-maturity**               | ** ** | ** **              | ** ** | ** **                            | ** **        |                                   | ** ** | ** **      | ** **                    | ** ** | ** ** | ** ** | ** ** |
| Certificates of  deposit           |       | 127,241                 |       |                                  | —            |                                   |       |            | —                        |   |   | 127,241 |   |
| Corporate bonds  and notes         |       | 283,573                 |       |                                  | 6                 |                                   |       |            | (1                            | ) |   | 283,578 |   |
| U.S. government  agency securities |       | 35,000                  |       |                                  | —            |                                   |       |            | (106                          | ) |   | 34,894 |   |
|                               |       | 445,814                 |       |                                  | 6                 |                                   |       |            | (107                          | ) |   | 445,713 |   |
|                               |       | $ 648,395          |       |                                  | $ 6          |                                   |       |            | $ (107                   | ) |   | $ 648,294 |   |

 

Proceeds from the sales of investment securitiesavailable-for-sale were $2.425 billion in 2005, $2.919 billion in 2004,and $3.133 billion in 2003; gross realized losses were approximately $575,000in 2003.

At December 31, 2005 and 2004, APC’sheld-to-maturity investments included $5.0 million and $440.3 million,respectively, with contractual maturities of one year or less, and at December 31,2004, $5.5 million with contractual maturities between one to two years.At December 31, 2005, APC had no held-to-maturity investments withcontractual maturities longer than one year. At December 31, 2005 and2004, APC’s available-for-sale auction rate debt securities (ARS’s) included$364.5 million and $95.0 million, respectively, with contractual maturitiesbetween approximately 1 to 42 years. At December 31, 2005, APC’s available-for-salevariable rate demand obligations (VRDN’s) included $136.7 million withcontractual maturities between 13 and 33 years. Both the ARS’s and VRDN’sresemble short-term instruments because they contain features (i.e., interestrate reset and put options, respectively) that allow for the sale of theinstrument on a predetermined schedule ranging from 7 to 49 days depending onthe type of instrument and its particular features.

**4.**      AccountsReceivable

Accounts receivable aregenerally not concentrated in any geographic region or industry. Collateral isusually not required except for certain international transactions for whichAPC requires letters of credit to secure payment. A majority of U.S. and international customer balances are covered byreceivables insurance. APC estimates an allowance for doubtful accountsbased on the credit worthiness of its customers as well as general economicconditions. Consequently, an adverse change in those factors could affect APC’sestimate of its bad debts.

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**5.**      Inventories

| ** **        | ** ** | **December 31,  2005** | ** **         | **December 31,  2004** | ** ** |
|-------------------|------------|-----------------------------|--------------------|-----------------------------|------------|
| ** **        | ** ** | **(In thousands)**     | ** **         |
| Raw materials     | ** ** |                        | **$ 215,260** |                        |       |   | $ 212,883 |   |   |
| Work in process   | ** ** |                        | **17,227**         |                        |       |   | 9,382 |   |   |
| Finished goods    | ** ** |                        | **309,336**        |                        |       |   | 243,662 |   |   |
| Total inventories | ** ** |                        | **$ 541,823** |                        |       |   | $ 465,927 |   |   |

 

**6.**      Goodwilland Other Intangible Assets

At December 31, 2005 and 2004, goodwill of $15.8million and $7.2 million, respectively, was associated with the Small Systemssegment. The increase in goodwill of $8.6 million was associated with APC’sfourth quarter 2005 acquisition of NetBotz, Inc.(also refer to Note 2).

Amortizedintangible assets were as follows:

| ** **                               | ** ** | ** **              | ** ** | **December 31, 2005**             | ** ** | **December 31, 2004** | ** ** |
|------------------------------------------|------------|-------------------------|------------|---------------------------------------------|------------|---------------------------------|------------|
| **Amortized  Intangible Assets**    | ** ** | ** **              | ** ** | **Weighted  Average  Amortization  Period** | ** ** | **Gross  Carrying  Amount**     | ** ** | **Accumulated  Amortization** | ** ** | **Gross  Carrying  Amount** | ** ** | **Accumulated  Amortization** | ** ** |
| ** **                               | ** ** | **(In thousands)** | ** ** |
| Technology                               |       |                    | 8 years    | ** **                                  |       | **$ 87,319**               | ** ** |   | **$ 55,958** |   |   | $ 81,040 |   |   | $ 45,071 |   |   |   |
| Customer lists                           |       |                    | 9 years    | ** **                                  |       | **11,100**                      | ** ** |   | **7,610** |   |   | 8,900 |   |   | 6,210 |   |   |   |
| Tradenames                               |       |                    | 9 years    | ** **                                  |       | **3,957**                       | ** ** |   | **2,693** |   |   | 3,157 |   |   | 2,189 |   |   |   |
| Total amortized  intangible assets  |       |                    | 8 years    | ** **                                  |       | **$ 102,376**              | ** ** |   | **$ 66,261** |   |   | $ 93,097 |   |   | $ 53,470 |   |   |   |
|                                          |            |                         |            |                                             |            |                                 |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

Aggregate amortizationexpense related to APC’s other intangible assets for 2005, 2004 and 2003 was$12.8 million, $11.7 million, and $11.8 million, respectively. Estimatedaggregated amortization for each of the next five succeeding fiscal years is$13.2 million for 2006, $11.1 million for 2007, $6.6 million for 2008, $2.6million for 2009, and $1.2 million for 2010. There are no expected residualvalues related to these intangible assets.

**7.**      WarrantyLiability and Product Recall

| ** ** | ** ** | **Product  Warranty  Liability at  Beginning  of Year** | ** **        | **Accruals for  Product  Warranties  Issued During  the Year** | ** ** | **Adjustments  to Accruals  for Preexisting  Warranties** | ** **        | **Warranty  Payments** | ** ** | **Product  Warranty  Liability at  End of  Year** | ** **                                      |
|------------|------------|-------------------------------------------------------------------|-------------------|-------------------------------------------------------------------------------|------------|---------------------------------------------------------------------|-------------------|------------------------|------------|-------------------------------------------------------------|-------------------------------------------------|
| ** ** | ** ** | **(In thousands)**                                           | ** **        |
| **2005**   | ** ** |                                                              | **$ 13,092** | ** **                                                                    |       |                                                                | **$ 31,712** | ** **             |       |                                                        | **$      —** | ** ** |   | **$ (31,532** | **)** |   | **$ 13,272** | ** ** |   |
| **2004**   |       |                                                              | $ 11,709     | ** **                                                                    |       |                                                                | $ 26,761     | ** **             |       |                                                        | $      —     |   |   | $ (25,378 | ) |   | $ 13,092 | ** ** |   |
| **2003**   |       |                                                              | $ 27,183     | ** **                                                                    |       |                                                                | $ 24,454     | ** **             |       |                                                        | $ (5,500                                   | ) |   | $ (34,428 | ) |   | $ 11,709 | ** ** |   |

 

In early 2003, APCannounced a product recall due to potential safety issues. Approximately 2.1 millionaffected devices were recalled worldwide, with approximately 900,000 devicesrecalled in the United States, limited to two specific models in APC’s Back-UPSCS product line, the Back-UPS CS 350 and the Back-UPS CS 500, in both 120-voltand 230-volt models. As of December 31, 2005, APC had incurredapproximately 93% of currently estimated total recall costs of $14.1 million.Our estimation of remaining recall costs is $1.0 million. We expect that futureamounts will not differ materially from our current estimates.

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**8.**      IncomeTaxes

Totalfederal, state, and foreign income tax expense (benefit) from continuingoperations for the years ended December 31, 2005, 2004 and 2003 consistsof the following:

| ** ** | ** ** | **Current**             | ** ** | **Deferred**      | ** ** | **Total**         | ** ** |
|------------|------------|-------------------------|------------|-------------------|------------|-------------------|------------|
| ** ** | ** ** | **(In thousands)** | ** ** |
| **2005**   | ** ** | ** **              | ** ** | ** **        | ** ** | ** **        | ** ** |
| Federal    | ** ** | **$ 34,413**       | ** ** | **$ (1,379** | **)**      | **$ 33,034** | ** ** |
| State      | ** ** | **782**                 | ** ** | **(1,610**        | **)**      | **(828**          | **)**      |
| Foreign    | ** ** | **32,799**              | ** ** | **(244**          | **)**      | **32,555**        | ** ** |
| ** ** | ** ** | **$67,994**             | ** ** | **$ (3,233** | **)**      | **$ 64,761** | ** ** |
| **2004**   | ** ** | ** **              | ** ** | ** **        | ** ** | ** **        | ** ** |
| Federal    |       | $ (4,270           | )          | $ 1,366      |       | $ (2,904     | )          |
| State      |       | 1,970                   |       | (1,974            | )          | (4                | )          |
| Foreign    |       | 35,986                  |       | (373              | )          | 35,613            |       |
|       |       | $33,686                 |       | $  (981 | )          | $ 32,705     |       |
| **2003**   | ** ** | ** **              | ** ** | ** **        | ** ** | ** **        | ** ** |
| Federal    |       | $ 32,880           |       | $ (7,284     | )          | $ 25,596     |       |
| State      |       | 7,938                   |       | 166               |       | 8,104             |       |
| Foreign    |       | 28,748                  |       | (281              | )          | 28,467            |       |
|       |       | $69,566                 |       | $ (7,399     | )          | $ 62,167     |       |

 

Incometax expense attributable to continuing operations amounted to $64.8 million in2005, $32.7 million in 2004, and $62.2 million in 2003, (effective ratesof 31.0%, 15.3%, and 26.0%, respectively). The actual expense for 2005, 2004and 2003 differs from the “expected” tax expense (computed by applying the U.S.statutory federal corporate tax rate of 35% to earnings before income taxes) asfollows:

| ** **                                                                                                 | ** ** | **2005**                | ** ** | **2004**      | ** ** | **2003**      | ** ** |
|------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|---------------|------------|---------------|------------|
| ** **                                                                                                 | ** ** | **(In thousands)** | ** ** |
| Computed “expected” tax  expense                                                                 | ** ** | **$ 73,095**       |       | $ 74,956 |       | $ 83,687 |       |
| State income taxes, net  of federal income tax benefit                                                     | ** ** | **615**                 |       | (2,263        | )          | 6,702         |       |
| Foreign earnings taxed  at rates lower than U.S. statutory rate (principally Ireland and the  Philippines) | ** ** | **(27,154**             | **)**      | (18,515       | )          | (29,112       | )          |
| Extraterritorial income  exclusion                                                                         | ** ** | **(152**                | **)**      | (1,102        | )          | (1,740        | )          |
| Resolution of tax  contingencies                                                                           | ** ** | **(1,372**              | **)**      | (20,860       | )          | —        |       |
| American Jobs Creation  Act repatriation, including state taxes                                            | ** ** | **19,860**              |       | —        |       | —        |       |
| Other                                                                                                      | ** ** | **(131**                | **)**      | 489           |       | 2,630         |       |
|                                                                                                       | ** ** | **$ 64,761**       |       | $ 32,705 |       | $ 62,167 |       |

 

In fiscal 2005, the tax rate included the impact ofnon-recurring tax expense associated with the American Jobs Creation Act ofapproximately $19.9 million, which increased the provision for taxes byapproximately $0.10 per share. Excluding this adjustment, our tax rate for theyear would have been 21.5%.

In fiscal 2004, the tax rate benefited from netfavorable adjustments to previously estimated liabilities of $20.8 million,which decreased the provision for taxes by approximately $0.10 per share.Excluding these adjustments, our tax rate for the year would have been 25.0%.The most significant favorable adjustments related to the resolution of an IRSaudit through 2002.

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Thedomestic and foreign components of earnings before income taxes were $(20.5)million and $229.3 million, respectively, for 2005; $11.9 million and $202.3million, respectively, for 2004; and $51.9 million and $187.2 million,respectively, for 2003. Total income tax expense for the years endedDecember 31, 2005, 2004 and 2003 was allocated as follows:

| ** **                                                                                                                              | ** ** | **2005**                | ** ** | **2004** | ** ** | **2003** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|----------|------------|----------|------------|
| ** **                                                                                                                              | ** ** | **(In thousands)** | ** ** |
| Income from  continuing operations                                                                                                      | ** ** | **$**                   | **64,761** |     | $          | 32,705   |       | $ | 62,167 |   |
| Shareholders’  equity, for compensation expense for tax purposes in excess of amounts  recognized for financial statement purposes | ** ** | **(14,845**             | **)**      | (4,942   | )          | (6,749   | )          |
| Shareholders’  equity, for unrealized loss in investments                                                                          | ** ** | **—**              |       | —   |       | —   |       |
|                                                                                                                                    | ** ** | **$**                   | **49,916** |     | $          | 27,763   |       | $ | 55,418 |   |

 

 

At December 31,2005 and 2004, deferred income tax assets and liabilities result from temporarydifferences in the recognition of income and expense for tax and financialreporting purposes. The sources and tax effects of these temporary differencesare presented below:

| ** **                                           | ** ** | **2005**                | ** ** | **2004** | ** ** |
|------------------------------------------------------|------------|-------------------------|------------|----------|------------|
| ** **                                           | ** ** | **(In thousands)** | ** ** |
| **Deferred tax assets**                              | ** ** | ** **              |       |     |       |
| Intangible assets                                    | ** ** | **$**                   | **28,592** |     | $          | 26,981 |   |
| Intercompany  inventory profits                      | ** ** | **15,150**              |       | 11,737   |       |
| Inventory  obsolescence reserve                      | ** ** | **13,799**              |       | 10,777   |       |
| Accrual for  compensation and compensated absences   | ** ** | **8,576**               |       | 11,507   |       |
| Deferred revenue                                     | ** ** | **3,509**               |       | 2,911    |       |
| Allowance for  doubtful accounts                     | ** ** | **2,656**               |       | 3,240    |       |
| Allowances for  sales and marketing programs         | ** ** | **3,245**               |       | 3,335    |       |
| Reserve for  warranty and product recall costs       | ** ** | **3,850**               |       | 3,894    |       |
| Additional costs  inventoried for tax purposes       | ** ** | **2,021**               |       | 2,495    |       |
| Net operating  losses and tax credits                | ** ** | **20,714**              |       | 6,149    |       |
| Other                                                | ** ** | **8,656**               |       | 8,340    |       |
| Total gross  deferred tax assets                     | ** ** | **110,768**             |       | 91,366   |       |
| Less valuation  allowance                            | ** ** | **(8,202**              | **)**      | (5,661   | )          |
| Net deferred tax  assets                             | ** ** | **102,566**             |       | 85,705   |       |
| **Deferred tax liabilities**                         | ** ** | ** **              |       |     |       |
| Excess of tax  over financial statement depreciation | ** ** | **10,106**              |       | 12,548   |       |
| Other                                                | ** ** | **4,805**               |       | 2,901    |       |
| Total deferred  tax liabilities                      | ** ** | **14,911**              |       | 15,449   |       |
| Net deferred income  taxes                           | ** ** | **$**                   | **87,655** |     | $          | 70,256 |   |

 

In assessing therealizability of deferred tax assets, APC considers whether it is more likelythan not that some portion or all of the deferred tax assets will not berealized. At December 31, 2005 and 2004, APC provided a valuationallowance on certain of its deferred tax assets, primarily consisting of netoperating losses generated in 2005, 2004 and 2003 for the start up andcontinuing operations of Brazilian operations, because of uncertainty regardingtheir realizability.

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*American JobsCreation Act of 2004—Repatriation of Foreign Earnings.*

The American Jobs CreationAct of 2004 repealed the tax code’s extraterritorial income (ETI) exclusion inresponse to the World Trade Organization’s challenge that the ETI exclusion wasa prohibited tax subsidy. The Act replaced the ETI exclusion with a 3% domesticdeduction for domestic production activities effective for APC’s 2005 tax year.The Act also provided for a temporary 85% dividends received deduction oncertain foreign earnings repatriated during a one-year period. The deductionresults in an approximate 5.25% federal tax rate on the repatriated earnings.To qualify for the deduction, the earnings must be reinvested in the UnitedStates pursuant to a domestic reinvestment plan established by a company’schief executive officer and approved by its board of directors. Certain othercriteria in the Jobs Act must be satisfied as well. The maximum amount of APC’sforeign earnings that qualified for the temporary deduction was $500 million.During the fourth quarter of 2005, APC’s Chief Executive Officer and Board ofDirectors approved a domestic reinvestment plan, as required by the Jobs Act,to repatriate $500 million in foreign earnings in 2005. APC recorded $19.9million, or $0.10 per share, additional tax expense related to this dividendrepatriation made in the fourth quarter. No qualifying distributions were madeduring 2004.

**9.   Stock-BasedCompensation**

At December 31, 2005,APC had one active stock-based compensation plan and an employee stock purchaseplan, described below.

***Stock-basedCompensation Plans***

On June 10, 2004, APC’sshareholders approved APC’s 2004 Long-Term Incentive Plan (2004 LTI Plan),which replaced APC’s 1997 Stock Option Plan (1997 Plan). The 2004 LTI Plan willenable APC to utilize shares previously not distributed under the 1997 Plan. Nofurther grants will be made from the 1997 Plan. Awards under the 2004 LTI Planmay be in the form of incentive stock options, non-qualified stock options,restricted stock, restricted stock units, performance restricted stock,performance restricted stock units, or any other equity-based interests as theCompensation Committee of APC’s Board of Directors shall determine. The numberof shares of common stock that may be delivered in satisfaction of awardsgranted under the 2004 LTI Plan shall be equal to (a) the number of sharesof common stock that remain available for grant under the 1997 Plan as of June 10,2004, plus (b) any shares of common stock underlying outstanding awardsunder the 1997 Plan that after June 10, 2004 expire or terminate withoutbeing exercised or that would otherwise again become available for issuance underthe 1997 Plan, and in no event shall exceed an aggregate of 15 million shares.

On April 21, 1997,APC’s shareholders approved the 1997 Stock Option Plan and on June 19,1987 approved the 1987 Stock Option Plan (collectively the 1997 and 1987Plans). The 1997 and 1987 Plans authorized the grant of options for up to 12.0million shares and 21.6 million shares, respectively, of common stock. On June 11,2002 and May 7, 1999, APC’s shareholders authorized an additional 9.5million shares and 12.0 million shares, respectively, under the 1997 StockOption Plan, resulting in an aggregate of 33.5 million shares available forgrant under the 1997 Stock Option Plan.

At December 31, 2005and 2004, there were 9.8 million shares and 10.3 million shares, respectively,available for future grants under the 2004 LTI Plan.

Options granted under APC’sstock-based compensation plans are either (a) options intended toconstitute incentive stock options (ISOs) under the Internal Revenue Code of1986 (the Code) or (b) non-qualified options. Incentive stock options maybe granted under the Plans to employees or officers of APC. Non-qualifiedoptions may be granted to consultants, directors (whether or not they areemployees), employees or officers of APC.

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ISOs granted under APC’sstock-based compensation plans may not be granted at a price less than the fairmarket value of the common stock on the date of grant (or 110% of fair marketvalue in the case of employees or officers holding 10% or more of the votingstock of APC). The aggregate fair market value of shares, for which ISOsgranted to any employee are exercisable for the first time by such employeeduring any calendar year (under all stock option plans of APC and any relatedcorporation), may not exceed $100,000. Non-qualified options granted under thePlan may not be granted at a price less than the lesser of (a) the bookvalue per share of common stock as of the end of the fiscal year of APCimmediately preceding the date of such grant, or (b) 50% of the fairmarket value of the common stock on the date of grant.

Options granted under the1997 and 1987 Plans before December 1, 1995 vested 25% at the end of thefirst year and 12.5% at the end of each six month period thereafter. Optionsgranted after December 1, 1995 and before February 14, 1997 vested20% at the end of the second year and 20% at the end of each year thereafter.Options granted after February 14, 1997 vest 25% at the end of the firstyear and 12.5% at the end of each six month period thereafter. Options grantedunder the 2004 LTI Plan, generally vest 25% at the end of each year.

On April 21, 1997,APC’s shareholders approved the 1997 Non-employee Director Stock Option Planand on May 20, 1993 approved the 1993 Non-employee Director Stock OptionPlan (collectively the Director Plans). The 1997 and 1993 Director Plansauthorized the grant of options for up to 400,000 shares and 80,000 shares ofcommon stock, respectively. In 2005, 2004 and 2003, all non-employee directorswere entitled to participate in the 1997 Non-Employee Director Stock OptionPlan, with each receiving no option grants in 2005 and 2004, and grants ofoptions as of February 12, 2003 for 20,000 shares at an exercise price of$15.00.

Options granted under the1997 Director Plan, and the options granted on August 9, 2001 under the1997 Stock Option Plan, vest 25% at the end of the second year and 9.375% atthe end of each six month period thereafter. Options granted under the 1993Director Plan vested 25% at the end of the first year and 25% annuallythereafter.

Options granted under allstock-based compensation plans after January 1, 1993 expire not more thanten years from the date of grant (five years in the case of ISOs granted to tenpercent shareholders). The outstanding options at December 31, 2005 expireat various dates through 2015. Options granted terminate within a specifiedperiod of time following termination of an optionee’s employment or position asa director or consultant with APC.

Asummary of the status of stock options outstanding under APC’s stock-basedcompensation plans as of December 31, 2005, 2004 and 2003, and changesduring the years ending on those dates is presented below:

| ** **                        | ** ** | **2005**                            | ** ** | **2004**                               | ** ** | **2003**    | ** ** |
|-----------------------------------|------------|-------------------------------------|------------|----------------------------------------|------------|-------------|------------|
| ** **                        | ** ** | **Options**                         | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Options** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Options** | ** ** | **Weighted  Average  Exercise  Price** | ** ** |
| ** **                        | ** ** | **(Shares in thousands)** | ** ** |
| Outstanding at  beginning of year | ** ** |                                | **15,081** | ** **                             |       |        | **$**      | **15.04** |   |   |   | 16,182 |   |   |   | $ | 14.64 |   |   |   | 20,184 |   |   |   | $ | 14.27 |   |   |
| Granted                           | ** ** |                                | **400**    | ** **                             |       |        | **$**      | **24.85** |   |   |   | 531 |   |   |   | $ | 20.47 |   |   |   | 249 |   |   |   | $ | 16.22 |   |   |
| Exercised                         | ** ** |                                | **(3,327** | **)**                                  |       |        | **$**      | **13.77** |   |   |   | (1,582 | ) |   |   | $ | 12.42 |   |   |   | (3,340 | ) |   |   | $ | 12.57 |   |   |
| Terminated                        | ** ** |                                | **(397**   | **)**                                  |       |        | **$**      | **16.18** |   |   |   | (50 | ) |   |   | $ | 17.61 |   |   |   | (911 | ) |   |   | $ | 14.43 |   |   |
| Outstanding at  end of year       | ** ** |                                | **11,757** | ** **                             |       |        | **$**      | **15.69** |   |   |   | 15,081 |   |   |   | $ | 15.04 |   |   |   | 16,182 |   |   |   | $ | 14.64 |   |   |
| Exercisable at end of  year       | ** ** |                                | **9,980**  | ** **                             |       |        | **$**      | **15.56** |   |   |   | 12,220 |   |   |   | $ | 15.43 |   |   |   | 10,791 |   |   |   | $ | 15.41 |   |   |

 

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Thefollowing table summarizes information about stock options outstanding at December 31,2005:

| ** **                              | ** ** | **Options Outstanding**        | ** ** | **Options Exercisable** | ** ** |
|-----------------------------------------|------------|-------------------------------------|------------|------------------------------|------------|
| **Range of  Exercise Prices** | ** ** | ** **                          | ** ** | **Shares  Outstanding**      | ** ** | **Weighted  Average  Remaining  Contractual  Life (years)** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Shares  Exercisable** | ** ** | **Weighted  Average  Exercise  Price** | ** ** |
| ** **                              | ** ** | **(Shares in thousands)** | ** ** |
| $ 4.56 - $ 6.82               |       |                                | 49         |                         |       |   | 0.5 |   |   |   | $ | 4.56 |   |   |   | 49 |   |   |   | $ | 4.56 |   |   |
| $ 6.83 -  $11.69                   |       |                                | 2,918      |                         |       |   | 5.4 |   |   |   | $ | 10.65 |   |   |   | 2,068 |   |   |   | $ | 10.50 |   |   |
| $11.70 - $17.71                         |       |                                | 5,593      |                         |       |   | 4.0 |   |   |   | $ | 14.12 |   |   |   | 5,402 |   |   |   | $ | 14.09 |   |   |
| $17.72 - $25.93                         |       |                                | 3,083      |                         |       |   | 5.6 |   |   |   | $ | 22.93 |   |   |   | 2,351 |   |   |   | $ | 22.91 |   |   |
| $25.94 - $31.13                         |       |                                | 114        |                         |       |   | 4.1 |   |   |   | $ | 30.47 |   |   |   | 110 |   |   |   | $ | 30.49 |   |   |
|                                    |       |                                | 11,757     |                         |       |   | 4.8 |   |   |   | $ | 15.69 |   |   |   | 9,980 |   |   |   | $ | 15.56 |   |   |
|                                         |            |                                     |            |                              |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

***Stock Purchase Plan***

On April 21, 1997,APC’s shareholders approved an Employee Stock Purchase Plan (the Plan) toprovide substantially all employees an opportunity to purchase shares of itscommon stock through payroll deductions, in an aggregate amount up to 10% ofeligible compensation. Semiannually, participant account balances are used topurchase shares of stock at the lesser of 85% of the fair market value ofshares on the grant date or the exercise date. The aggregate number of sharespurchased by an employee may not exceed 3,000 shares annually (subject tolimitations imposed by the Internal Revenue Code). The employee stock purchaseplan expires on February 11, 2007. A total of 2.0 million shares areavailable for purchase under the Plan. During 2005, under the Plan, 69,789shares were issued at $18.17 per share and 69,214 shares were issued at $16.78per share. During 2004, under the Plan, 70,827 shares were issued at $15.81 pershare and 64,772 shares were issued at $15.95 per share. During 2003, under thePlan, 77,171 shares were issued at $11.64 per share and 68,331 shares wereissued at $13.51 per share.

***Restricted StockUnits***

Alsounder the aforementioned 2004 LTI Plan, APC’s Compensation and Stock OptionCommittee of the Board of Directors approved the award of restricted stockunits (RSU’s). A summary of the status of RSU’s as of December 31, 2005and 2004, and changes during the years ending on those dates is presentedbelow:

| ** **                        | ** ** | **2005**                            | ** ** | **2004**                             | ** ** |
|-----------------------------------|------------|-------------------------------------|------------|--------------------------------------|------------|
| ** **                        | ** ** | **RSU’s**                      | ** ** | **Weighted  Average  Market  Value** | ** ** | **RSU’s** | ** ** | **Weighted  Average  Market  Value** | ** ** |
| ** **                        | ** ** | **(Shares in thousands)** | ** ** |
| Outstanding at  beginning of year | ** ** | **952**                             | ** ** |                                 | **$**      | **16.25** |   |   |   | — |   |   |   | $ | — |   |   |
| Granted                           | ** ** | **515**                             | ** ** |                                 | **$**      | **24.13** |   |   |   | 952 |   |   |   | $ | 16.25 |   |   |
| Vested                            | ** ** | **(233**                            | **)**      |                                 | **$**      | **16.25** |   |   |   | — |   |   |   | $ | — |   |   |
| Terminated                        | ** ** | **(97**                             | **)**      |                                 | **$**      | **16.25** |   |   |   | — |   |   |   | $ | — |   |   |
| Outstanding at end of  year       | ** ** | **1,137**                           | ** ** |                                 | **$**      | **19.82** |   |   |   | 952 |   |   |   | $ | 16.25 |   |   |

 

Under the recognition andmeasurement principles of APB Opinion No. 25, *Accountingfor Stock Issued to Employees*, and related Interpretations,approximately $8.8 million and $2.0 million of stock-based employeecompensation cost was reflected in net income and paid-in capital for suchunits in fiscal years 2005 and 2004, respectively. Under the 2004 LTI Plan, ifAPC awards a dividend on its common stock prior to the vesting date of an RSU,the holder of the restricted stock unit would be entitled to receive on thevesting date a dividend equivalent payment. Dividend equivalents are recognizedas 

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compensationexpense when the dividend is declared. The RSU awards will vest, and theunderlying common stock will concurrently issue, ratably over four years,whereby the units granted will vest 25% on June 30 in the year followingthe date approved, and 25% on June 30 of each year thereafter.

**10.   RetirementBenefits**

***Employee SavingsPlan***

On May 1, 1997, APCestablished an employee savings plan (the Savings Plan) that qualifies as adeferred salary arrangement under Section 401(k) of the InternalRevenue Code of 1986, as amended, covering substantially all North Americanemployees. The Savings Plan allows eligible employees to contribute up to 15%of their compensation on a pre-tax basis subject to certain limitations. APCmatches, with its common stock, 100% of the first 3% of employee contributionsplus 50% of the next 3% of employee contributions. Employees are fully vestedin their employer matching contributions. Employees may diversify employermatching contributions to other investment options available under the SavingsPlan. Effective July 1, 2003, APC’s Employee Stock Ownership Plan (ESOP)covering substantially all employees in North America was merged into theSavings Plan.

***Employee StockOwnership Plans***

At December 31, 2005,APC had a noncontributory ESOP covering substantially all employees in Ireland.Contributions to the ESOP are based on a percentage of eligible compensationand are determined by APC’s Board of Directors at its discretion, subject tothe limitations established by Ireland tax laws. The Ireland ESOP held 102,350,155,094, and 167,766 shares of common stock at December 31, 2005, December 31,2004, and December 31, 2003, respectively. No shares were contributed tothe ESOP in 2005, 2004 or 2003.

APC also contributes toCompany sponsored and government sponsored pension and retirement programs inseveral foreign locations.

APC’s pension andretirement benefit contributions in 2005, 2004 and 2003 amounted toapproximately $10.3 million, $11.2 million, and $10.4 million, respectively.

**11.   OperatingSegment and Geographic Information**

Segment accountingpolicies are the same as policies described in Note 1.

***Basis forPresentation***

**Segments**

APC operates primarilywithin one industry consisting of three reportable operating segments by whichit manages its business and from which various offerings are commonly combinedto develop a total solution for the customer. These efforts primarilyincorporate the design, manufacture, and marketing of power protectionequipment and related software and accessories for computer, communications,and related equipment. APC’s three segments are: Small Systems, Large Systems,and “Other.” Each of these segments address global markets.

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***Small Systems.******  ***The Small Systems segmentdevelops power devices and accessories for servers and networking equipmentcommonly used in local area and wide area networks and for personal computersand sensitive electronics. Major product offerings include the Back-UPS,Smart-UPS, and Symmetra Power Array single-phase family of UPSs. Additionally,select components of APC’s InfraStruXure systems are included in the SmallSystems segment. Also included are SurgeArrest surge suppressors as well ascabling and connectivity products. Additional accessories and management toolsare offered to enhance the performance of these networks, including APC’sPowerChute software, NetShelter server enclosures and power distribution units.Products are sold to home and commercial users primarily through an indirectselling model consisting of computer distributors and dealers, value-addedresellers, mass merchandisers, catalog merchandisers, E-commerce vendors, andstrategic partnerships.

***Large Systems.******  ***The Large Systems segmentprovides systems, products and services that primarily provide back-up power,power distribution and cooling for data centers, facilities, and communicationsequipment for both commercial and industrial applications. Product offeringsinclude major components of InfraStruXure systems, Silcon UPSs, NetworkAIRprecision cooling equipment, DC and broadband power systems, and APC GlobalServices. Products, systems and services are sold to commercial users throughboth a direct and indirect selling model consisting of value-added resellersand strategic partnerships. Additionally, APC utilizes manufacturerrepresentatives to identify and secure projects.

***“Other” Segment.******  ***The “Other” segment principally consistsof desktop and notebook computer accessories and replacement batteries. Thedistribution model of products in the “Other” segment is consistent with thatof the Small Systems segment.

APC measures theprofitability of its segments based on gross margin. Segment gross marginsexclude certain expenses which are managed outside the reportable segments.Costs excluded from segment profit are operating expenses, primarily consistingof R&D, selling and corporate expenses, and income taxes. In addition, our2004 excess inventory provision, a charge in 2003 associated with thesettlement of a claim for the infringement of intellectual property; and acredit in 2003 associated with the update of a 2002 product recall provisionhave not been allocated to our operating segments, but rather have beenclassified as indirect operating expenses for segment reporting consistent withour classification for our internal financial reporting. Expenditures foradditions to long-lived assets are not tracked or reported by the operatingsegments, although depreciation expense is allocated to and reported by theoperating segments.

APC closely monitors thecredit worthiness of its customers, adjusting credit policies and limits asdeemed necessary. Two computer distributor customers, Tech Data ProductManagement and Ingram Micro, accounted for approximately 16.5% and 8.8%,respectively, of net sales in 2005, 12.7% and 8.9%, respectively, of net salesin 2004, and 14.1% and 10.0%, respectively, of net sales in 2003. The majorityof our sales to Tech Data Product Management and Ingram Micro are included inthe Small Systems segment.

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Summaryoperating segment information is as follows:

| ** **                                              | ** ** | **2005**                | ** **    | **2004**      | ** ** | **2003**  | ** ** |
|---------------------------------------------------------|------------|-------------------------|---------------|---------------|------------|-----------|------------|
| ** **                                              | ** ** | **(In thousands)** | ** **    |
| **Segment net sales**                                   |       |                    |          |          |       |      |       |   |   |
| Small Systems                                           | ** ** | ** **              | **$**         | **1,467,173** |       |      | $          | 1,299,816 |   | $ | 1,146,799 |   |
| Large Systems                                           | ** ** | ** **              | **429,047**   |          |       | 322,148   |       | 240,007 |   |
| Other                                                   | ** ** | ** **              | **70,507**    |          |       | 66,070    |       | 69,142 |   |
| Total segment net sales                                 | ** ** | ** **              | **1,966,727** |          |       | 1,688,034 |       | 1,455,948 |   |
| Shipping and handling  revenues                         | ** ** | ** **              | **12,805**    |          |       | 11,843    |       | 8,850 |   |
| Total net sales                                         | ** ** | ** **              | **$**         | **1,979,532** |       |      | $          | 1,699,877 |   | $ | 1,464,798 |   |
| **Segment  profits**                                    |       |                    |          |          |       |      |       |   |   |
| Small Systems                                           | ** ** | ** **              | **$**         | **648,624**   |       |      | $          | 626,724 |   | $ | 552,291 |   |
| Large Systems                                           | ** ** | ** **              | **83,026**    |          |       | 63,590    |       | 48,480 |   |
| Other                                                   | ** ** | ** **              | **41,090**    |          |       | 40,425    |       | 40,277 |   |
| Total segment profits                                   | ** ** | ** **              | **772,740**   |          |       | 730,739   |       | 641,048 |   |
| Shipping and handling  net costs                        | ** ** | ** **              | **53,615**    |          |       | 37,343    |       | 30,237 |   |
| Provision for excess  inventory                         | ** ** | ** **              | **—**    |          |       | 11,500    |       | — |   |
| Provision for  intellectual property infringement claim | ** ** | ** **              | **—**    |          |       | —    |       | 4,000 |   |
| Product recall update                                   | ** ** | ** **              | **—**    |          |       | —    |       | (5,500 | ) |
| Other indirect operating  expenses                      | ** ** | ** **              | **532,160**   |          |       | 477,447   |       | 383,196 |   |
| Other income, net                                       | ** ** | ** **              | **21,877**    |          |       | 9,711     |       | 9,990 |   |
| Earnings before income  taxes                           | ** ** | ** **              | **$**         | **208,842**   |       |      | $          | 214,160 |   | $ | 239,105 |   |
| **Segment  depreciation**                               |       |                    |          |          |       |      |       |   |   |
| Small Systems                                           | ** ** | ** **              | **$**         | **12,930**    |       |      | $          | 14,488 |   | $ | 15,607 |   |
| Large Systems                                           | ** ** | ** **              | **7,983**     |          |       | 6,303     |       | 5,500 |   |
| Other                                                   | ** ** | ** **              | **207**       |          |       | 262       |       | 412 |   |
| Total segment  depreciation                             | ** ** | ** **              | **21,120**    |          |       | 21,053    |       | 21,519 |   |
| Corporate                                               | ** ** | ** **              | **17,169**    |          |       | 15,773    |       | 14,100 |   |
| Total depreciation                                      | ** ** | ** **              | **$**         | **38,289**    |       |      | $          | 36,826 |   | $ | 35,619 |   |

 

Summarygeographic information is as follows:

| ** **                                       | ** ** | **2005**                | ** **    | **2004** | ** ** | **2003**  | ** ** |
|--------------------------------------------------|------------|-------------------------|---------------|----------|------------|-----------|------------|
| ** **                                       | ** ** | **(In thousands)** | ** **    |
| **Net sales**                                    |       |                    |          |     |       |      |       |
| United States                                    | ** ** | **$**                   | **894,859**   |     | $          | 751,685   |       | $ | 658,672 |   |
| North and Latin America  excluding United States | ** ** | **126,970**             |          | 91,308   |       | 78,852    |       |
| Europe, Middle East, and  Africa                 | ** ** | **591,382**             |          | 547,246  |       | 467,150   |       |
| Far East                                         | ** ** | **366,321**             |          | 309,638  |       | 260,124   |       |
| Total net sales                                  | ** ** | **$**                   | **1,979,532** |     | $          | 1,699,877 |       | $ | 1,464,798 |   |

 

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*Sales areattributed to geographic regions based on location of customer. No individualforeign country is greater than 10% of total net sales.*

| ** **                  | ** ** | **2005**                | ** **  | **2004**   | ** ** | **2003** | ** ** |
|-----------------------------|------------|-------------------------|-------------|------------|------------|----------|------------|
| ** **                  | ** ** | **(In thousands)** | ** **  |
| **Capital expenditures**    | ** ** | ** **              |        |       |       |     |       |
| United States               | ** ** | **$**                   | **27,612**  |       | $          | 16,545   |       | $ | 10,809 |   |
| Ireland                     | ** ** | **1,808**               |        | 2,781      |       | 1,218    |       |
| Denmark                     | ** ** | **809**                 |        | 1,064      |       | 2,165    |       |
| Other Europe                | ** ** | **3,220**               |        | 1,160      |       | 1,176    |       |
| India                       | ** ** | **8,731**               |        | 4,569      |       | 2,616    |       |
| Philippines                 | ** ** | **3,582**               |        | 1,699      |       | 1,332    |       |
| China                       | ** ** | **2,754**               |        | 809        |       | 1,307    |       |
| Other Far East              | ** ** | **296**                 |        | 356        |       | 431      |       |
| Latin America               | ** ** | **352**                 |        | 306        |       | 555      |       |
| Total capital  expenditures | ** ** | **$**                   | **49,164**  | ** ** | $          | 29,289   | ** ** | $ | 21,609 |   |
| **Long-lived  assets**      | ** ** | ** **              |        |       |       |     |       |
| United States               | ** ** | **$**                   | **101,489** |       | $          | 80,609   |       | $ | 128,537 |   |
| Europe                      | ** ** | **49,913**              |        | 65,122     |       | 86,323   |       |
| Philippines                 | ** ** | **33,761**              |        | 33,190     |       | 36,315   |       |
| Other Far East              | ** ** | **34,099**              |        | 26,047     |       | 25,022   |       |
| Latin America               | ** ** | **4,341**               |        | 4,857      |       | 5,578    |       |
| Total long-lived assets     | ** ** | **$**                   | **223,603** |       | $          | 209,825  |       | $ | 281,775 |   |

 

**12.   Litigation**

As previously reported inAPC’s Form 10-Q for the quarters ended March 27, 2005, June 26,2005, and September 25, 2005, on February 5, 2004, LiebertCorporation and Zonatherm Products, Inc., Liebert’s sales representativefirm in the Chicago area, filed a lawsuit in the Circuit Court of Cook County,Illinois, Chancery Division (the “Circuit Court”) against APC, Aerico, LLC, asales representative firm formed by former employees of Zonatherm Products, andthe former employees of Zonatherm Products who formed Aerico, LLC. The lawsuitalleged willful violation of the Illinois Trade Secrets Act, tortiousinterference with contract, tortious interference with prospective economicadvantage, civil conspiracy and conspiracy to breach fiduciary duties. Liebertand Zonatherm are seeking compensatory and punitive damages and injunctiverelief. On February 18, 2004, the Circuit Court denied plaintiffs’ motionfor a temporary restraining order. On July 16, 2004, the Circuit Courtdismissed without prejudice all claims except the Illinois Trade Secret Actclaim. On August 6, 2004, plaintiffs filed a second amended complaintreasserting the claims dismissed by the Circuit Court on July 16, 2004. OnAugust 20, 2004, the Circuit Court denied plaintiffs’ motion forpreliminary injunction as to violation of the Illinois Trade Secrets Act. On September 21,2004, plaintiffs filed a Notice of Appeal of the August 20, 2004 rulingwith the Illinois Appellate Court. On January 12, 2005, the Circuit Courtdismissed without prejudice all claims against APC except the Illinois TradeSecret Act claim. On March 1, 2005 the Illinois Appellate Court issued anopinion on the appeal pursuant to which it affirmed the Circuit Court on theissue of the non-trade secret nature of plaintiffs’ customer lists, andremanded the matter for the Circuit Court to enter an injunction against one ofthe individual former employees of Zonatherm from using certain pricing books.

On March 16, 2005,plaintiffs filed a third amended complaint reasserting claims substantiallysimilar to those dismissed by the Circuit Court in its January 12, 2005ruling. On May 19, 2005, APC filed a motion to dismiss plaintiffs’ thirdamended complaint. On May 24, 2005, the Circuit Court issued a preliminaryinjunction against one of the former employees of Zonatherm enjoining him fromusing certain of plaintiffs’ pricing books. No injunction was issued againstAPC. On June 30, 2005, plaintiffs filed an appeal with the IllinoisAppellate Court seeking to expand the scope of the Circuit Court’s injunction.On August 23, 2005, the Illinois Appellate Court reversed in part theCircuit Court’s entry of a preliminary injunction and directed the trial courtto further enjoin the former Zonatherm employee from contacting 

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customerson plaintiffs’ customer contact list. Again, no injunction was entered againstAPC. On September 12, 2005, the Circuit Court dismissed without prejudice allcounts in plaintiffs’ third amended complaint alleged against APC, except forplaintiffs’ claims for violation of the Illinois Trade Secret Act and forconspiracy to breach fiduciary duties. On February 2, 2006, after anunsuccessful appeal by the former Zonatherm employee to the Illinois SupremeCourt, the Circuit Court entered the injunction against the former Zonathermemployee as directed by the August 23, 2005 Order from the AppellateCourt. No injunction has been entered against APC.

On March 7, 2006,plaintiffs voluntarily dismissed all counts of their complaint against APC,without prejudice to plaintiffs’ right to seek to refile their claims againstAPC until March 8, 2007. Plaintiffs also dismissed their claims against theother defendants pursuant to the terms of a settlement agreement amongplaintiffs and the other defendants. APC is not a party to that settlementagreement.

In addition, APC isinvolved in various other claims and legal actions arising in the ordinarycourse of business.

While management currentlybelieves that resolving all pending legal matters, individually or inaggregate, will not have a material adverse impact on APC’s financial position,the litigation and other claims noted above are subject to inherentuncertainties, including the risk of an unfavorable outcome, and management’sview of these matters may change in the future. An unfavorable outcome couldinclude monetary damages or, in cases where injunctive relief is sought, aninjunction prohibiting certain activities. Were an unfavorable final outcome tooccur, there exists the possibility of a material adverse impact on APC’sfinancial position, cash flows and results of operations for the period inwhich the effect becomes reasonably estimable.

**13.   FairValue of Financial Instruments**

The carrying amounts ofcash, cash equivalents, short term investments, accounts receivable, short-termdebt, accounts payable, and accrued liabilities approximate their fair valuesbecause of the short duration of these instruments.

**14.   Commitments**

APC has severalnon-cancelable operating leases, primarily for warehousing and office space,expiring at various dates through 2019. These leases contain renewal optionsfor periods ranging from one to 14 years and require APC to pay itsproportionate share of utilities, taxes, and insurance. Rent expense underthese leases for 2005, 2004 and 2003 was $10.4 million, $9.6 million, and$8.4 million, respectively.

Future minimum leasepayments under these non-cancelable leases are: 2006—$9.4 million; 2007—$7.7 million;2008—$5.9 million; 2009—$4.6 million; 2010—$1.8 million, and $2.7 millionthereafter.

**15.**   Contingencies

APC has agreements withthe Industrial Development Authority of Ireland (IDA) under which it receivesgrant monies for costs incurred for machinery, equipment, and buildingimprovements for its Galway and Castlebar facilities equal to 40% and 60%,respectively, of such costs up to a maximum of $13.1 million for Galway and$1.3 million for Castlebar. Such grant monies are subject to APC meetingcertain employment goals and maintaining operations in Ireland untiltermination of the respective agreements. The total cumulative amounts ofcapital grant claims submitted and received through December 31, 2005 forthe Galway facility were approximately $12.0 million and $12.0 million,respectively. The total cumulative amount of capital grant claims submittedthrough December 31, 2005 for the Castlebar facility was $0.5 million; nocapital grant claims had been received for the Castlebar facility. Underseparate agreements with the IDA, APC receives direct reimbursement of trainingcosts at its Galway and Castlebar facilities for up to $3,000 and $12,500,respectively, per new employee hired. The total cumulative amounts of traininggrant claims submitted and received through December 31, 2005 for theGalway facility were approximately $1.3 million and $1.3 million, respectively.The total cumulative amount of training grant claims submitted and receivedthrough December 31, 2005 for the Castlebar facility were approximately$1.4 million and $0.4 million, respectively.

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APC also has an agreement with the IDA for a researchand development (R&D) grant towards the costs of a project for thedevelopment of software products. The availability of the grant is contingenton meeting certain milestones in the progress of the project as well as meetingcertain employment goals on the project within the Galway facility. The amountof grant assistance available on satisfaction of all conditions is 28% of theeligible expenditure to a maximum of €714,588. The totalcumulative amount of R&D grant claims submitted through December 31,2005 was $0.5 million; no R&D grant claims had been received.

In addition, APC executed agreements in 1994 with anunrelated company to acquire the 280,000 square foot manufacturing anddistribution facility presently occupied in Galway, Ireland for one (1) Irish Pound(equivalent to approximately $1.50). As additional consideration for thefacility, APC assumed a contingent liability of approximately €4.4million (US$5.3 million) as part of APC’s agreement with the IDA. Thecontingent liability is canceled upon successful completion of the terms of theagreement.

**16.   QuarterlyFinancial Data (Unaudited)**

Thefollowing is a summary of quarterly results of operations in thousands exceptper share amounts:
|                                              | ** ** | **Q1**      | ** **  | **Q2**      | ** ** | **Q3**      | ** ** | **Q4**      | ** **  |
|----------------------------------------------|------------|-------------|-------------|-------------|------------|-------------|------------|-------------|-------------|
| **2005**                                     |       |        |        |        |       |        |       |        |        |
| Net sales                                    | ** ** | **$**       | **408,003** | ** **  | **$**      | **480,606** | ** ** | **$**       | **512,289** | ** ** | **$** | **578,634** | ** ** |
| Gross profit                                 | ** ** | **$**       | **164,451** | ** **  | **$**      | **178,265** | ** ** | **$**       | **188,656** | ** ** | **$** | **187,753** | ** ** |
| Net income                                   | ** ** | **$**       | **36,045**  | ** **  | **$**      | **41,875**  | ** ** | **$**       | **48,675**  | ** ** | **$** | **17,486** | ** ** |
| Basic earnings  per share                    | ** ** | **$**       | **0.19**    | ** **  | **$**      | **0.22**    | ** ** | **$**       | **0.25**    | ** ** | **$** | **0.09** | ** ** |
| Basic weighted  average shares outstanding   | ** ** | **192,422** | ** **  | **193,438** | ** ** | **194,890** | ** ** | **195,444** | ** **  |
| Diluted earnings  per share                  | ** ** | **$**       | **0.18**    | ** **  | **$**      | **0.21**    | ** ** | **$**       | **0.24**    | ** ** | **$** | **0.09** | ** ** |
| Diluted weighted  average shares outstanding | ** ** | **198,258** | ** **  | **199,742** | ** ** | **200,740** | ** ** | **200,316** | ** **  |
| **2004**                                     |       |        |        |        |       |        |       |        |        |
| Net sales                                    |       | $           | 351,751     |        | $          | 395,663     |       | $           | 441,671     |   | $ | 510,792 |   |
| Gross profit                                 |       | $           | 149,092     |        | $          | 149,522     |       | $           | 176,686     |   | $ | 206,596 |   |
| Net income                                   |       | $           | 34,678      |        | $          | 26,763      |       | $           | 67,166      |   | $ | 52,848 |   |
| Basic earnings  per share                    |       | $           | 0.17        |        | $          | 0.13        |       | $           | 0.34        |   | $ | 0.28 |   |
| Basic weighted  average shares outstanding   |       | 199,903     |        | 200,234     |       | 195,925     |       | 191,660     |        |
| Diluted earnings  per share                  |       | $           | 0.17        |        | $          | 0.13        |       | $           | 0.34        |   | $ | 0.27 |   |
| Diluted weighted average  shares outstanding |       | 206,106     |        | 204,992     |       | 199,208     |       | 196,456     |        |
|                                              |            |             |             |             |            |             |            |             |             |  |  |  |  |  |  |  |  |  |

 

**17.**   Subsequent Events

**Quarterly Cash Dividend**

In February 2006, aquarterly dividend of $0.10 per share was declared, payable on March 15,2006 to shareholders of record as of February 20, 2006. It is theintention of the Board of Directors to pay a comparable quarterly dividend on agoing forward basis contingent upon continued capital availability and adetermination that cash dividends continue to be in the best interests of APCand its shareholders.

**Stock Repurchase Program**

In February 2006, APC’sBoard of Directors approved a stock repurchase program which authorizes up to$200 million to repurchase outstanding shares of APC’s common stock. Thepurchases would be made on the open market based on market and businessfactors. The duration of the repurchase program is two years but may besuspended or discontinued at any time without prior notice.

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**Item 9. Changes in and Disagreements with Accountantson Accounting and Financial Disclosure**

Not applicable.

**Item 9A. Controls and Procedures**

**(A)**Evaluationof Disclosure Controls and Procedures

As of the end of theperiod covered by this report, management carried out an evaluation, under thesupervision and with the participation of APC’s Chief Executive Officer andChief Financial Officer, of the effectiveness of disclosure controls andprocedures as defined in Rules 13a-15(e) of the SecuritiesExchange Act of 1934, as amended. Based on such evaluation, the Chief ExecutiveOfficer and Chief Financial Officer have concluded that as of the end of theperiod covered by this report, APC’s disclosure controls and procedures wereeffective in timely alerting them to material information required to beincluded in APC’s periodic filings with the U.S. Securities and ExchangeCommission.

**(B)**        Report of Managementregarding Internal Control over Financial Reporting.

APC’s management isresponsible for establishing and maintaining adequate internal control overfinancial reporting. APC’s internal control system was designed to providereasonable assurance to APC’s management and Board of Directors regarding thepreparation and fair presentation of published financial statements inaccordance with generally accepted accounting principles. A company’s internalcontrol over financial reporting includes those policies and procedures that (i) pertainto the maintenance of records that, in reasonable detail, accurately and fairlyreflect the transactions and dispositions of the assets of the company; (ii) providereasonable assurance that transactions are recorded as necessary to permitpreparation of financial statements in accordance with generally acceptedaccounting principles, and that receipts and expenditures of the company arebeing made only in accordance with authorizations of management and directorsof the company; and (iii) provide reasonable assurance regardingprevention or timely detection of unauthorized acquisition, use or dispositionof the company’s assets that could have a material effect on the financialstatements.

All internal controlsystems, no matter how well designed, have inherent limitations. Therefore,even those systems determined to be effective can provide only reasonableassurance with respect to financial statement preparation and presentation.Because of its inherent limitations due to, for example, the potential forhuman error or circumvention of controls, internal controls over financialreporting may not prevent or detect misstatements. Also, projections of anyevaluation of effectiveness to future periods are subject to the risk thatcontrols may become inadequate because of changes in conditions, or that thedegree of compliance with the policies or procedures may deteriorate.

APC’s management assessedthe effectiveness of APC’s internal control over financial reporting as of December 31,2005. In making this assessment, management used the criteria set forth by theCommittee of Sponsoring Organizations of the Treadway Commission (COSO) in *Internal Control—Integrated Framework*. Based on ourassessment, management believes that, as of December 31, 2005, APC’sinternal control over financial reporting is effective based on those criteria.

APC’s independentregistered public accounting firm, KPMG LLP, has issued a report on ourassessment of APC’s internal control over financial reporting. This report appearsbelow.

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**(C)**AttestationReport of the Registered Public Accounting Firm

**REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTINGFIRM**

The Board ofDirectors and ShareholdersAmerican Power Conversion Corporation:

We have audited management’sassessment, included in the accompanying Report of Management regardingInternal Control over Financial Reporting, that American Power ConversionCorporation and subsidiaries maintained effective internal control overfinancial reporting as of December 31, 2005, based on criteria establishedin *Internal Control—Integrated Framework*issued by the Committee of Sponsoring Organizations of the Treadway Commission(COSO). American Power Conversion Corporation’s management is responsible formaintaining effective internal control over financial reporting and for itsassessment of the effectiveness of internal control over financial reporting.Our responsibility is to express an opinion on management’s assessment and anopinion on the effectiveness of the Company’s internal control over financialreporting based on our audit.

We conducted our audit inaccordance with the standards of the Public Company Accounting Oversight Board(United States). Those standards require that we plan and perform the audit toobtain reasonable assurance about whether effective internal control overfinancial reporting was maintained in all material respects. Our audit includedobtaining an understanding of internal control over financial reporting,evaluating management’s assessment, testing and evaluating the design andoperating effectiveness of internal control, and performing such otherprocedures as we considered necessary in the circumstances. We believe that ouraudit provides a reasonable basis for our opinion.

A company’s internalcontrol over financial reporting is a process designed to provide reasonableassurance regarding the reliability of financial reporting and the preparationof financial statements for external purposes in accordance with generallyaccepted accounting principles. A company’s internal control over financialreporting includes those policies and procedures that (1) pertain to themaintenance of records that, in reasonable detail, accurately and fairlyreflect the transactions and dispositions of the assets of the company; (2) providereasonable assurance that transactions are recorded as necessary to permitpreparation of financial statements in accordance with generally acceptedaccounting principles, and that receipts and expenditures of the company arebeing made only in accordance with authorizations of management and directorsof the company; and (3) provide reasonable assurance regarding preventionor timely detection of unauthorized acquisition, use, or disposition of thecompany’s assets that could have a material effect on the financial statements.

Because of its inherentlimitations, internal control over financial reporting may not prevent ordetect misstatements. Also, projections of any evaluation of effectiveness tofuture periods are subject to the risk that controls may become inadequatebecause of changes in conditions, or that the degree of compliance with thepolicies or procedures may deteriorate.

In our opinion, management’sassessment that American Power Conversion Corporation and subsidiariesmaintained effective internal control over financial reporting as of December 31,2005, is fairly stated, in all material respects, based on criteria establishedin *Internal Control—Integrated Framework*issued by the Committee of Sponsoring Organizations of the Treadway Commission(COSO). Also, in our opinion, American Power Conversion Corporation andsubsidiaries maintained, in all material respects, effective internal controlover financial reporting as of December 31, 2005, based on criteriaestablished in *Internal Control—Integrated Framework*issued by the Committee of Sponsoring Organizations of the Treadway Commission(COSO).

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We also have audited, inaccordance with the standards of the Public Company Accounting Oversight Board(United States), the consolidated balance sheets of American Power ConversionCorporation and subsidiaries as of December 31, 2005 and 2004, and therelated consolidated statements of income, changes in shareholders’ equity, andcash flows for each of the years in the three-year period ended December 31,2005, and our report dated March 8, 2006 expressed an unqualified opinionon those consolidated financial statements.

/s/ KPMG LLP

Providence, Rhode IslandMarch 8, 2006

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**(D)   Changes in Internal Controls over FinancialReporting**

There were no changes inour internal control over financial reporting during APC’s last fiscalquarter that have materially affected, or are reasonably likely to materiallyaffect, APC’s internal control over financial reporting.

**Part III**

**Item10. Directors and Executive Officers of the Registrant**

The information set forth under the captions “Numberand Election of Directors,” “Corporate Governance” and “Section 16Requirements” appearing in APC’s definitive Proxy Statement for the 2006 AnnualMeeting of Shareholders is incorporated herein by reference. The informationunder the captions “APC’s Executive Officers” and “Corporate Governance” inItem 1 of this Form 10-K is incorporated herein by reference.

Our policy governing transactions in our securities bydirectors, officers and employees permits our officers, directors and employeesto enter into trading plans complying with Rule 10b5-1 under theSecurities Exchange Act of 1934, as amended. We have been advised that Neil E.Rasmussen, an executive officer and Director, and Emanuel E. Landsman, anexecutive officer and Director Emeritus, have each entered into a trading planin accordance with Rule 10b5-1. We anticipate that, as permitted by Rule 10b5-1,some or all of our officers, directors and employees may establish tradingplans in the future. We intend to disclose the names of executive officers anddirectors who establish a trading plan in compliance with Rule 10b5-1in our future Annual Reports on Form 10-K filed with the U.S.Securities and Exchange Commission. However, we undertake no obligation toupdate or revise the information provided herein, including for revision ortermination of an established trading plan, other than in such currentquarterly and annual reports as required by laws or regulations.

***Code of Ethics.******  ***APC hasadopted a Code of Ethics and Business Conduct that applies to all of ouremployees, officers and directors (including our principal executive officer,principal financial officer, principal accounting officer, controller andpersons performing similar functions), and has posted the text of the Code ofEthics and Business Conduct on our web site at *www.apc.com*under the “Corporate Governance” link contained in the “Investors” section. Weintend to disclose on this web site future amendments to certain provisions ofour Code of Ethics and Business Conduct, and waivers of such provisions grantedto our principal executive officer, principal financial officer, principalaccounting officer, controller and persons performing similar functions.

**Item11. Executive Compensation**

The information set forthunder the captions “Executive Compensation,” “Compensation of Directors,” “Reportof the Compensation and Stock Option Committee,” “Employment Contract andChange-in-Control Agreements,” “Performance Graph” and “Section 16Requirements” appearing in APC’s definitive Proxy Statement for the 2006 AnnualMeeting of Shareholders is incorporated herein by reference.

**Item12. Security Ownership of Certain Beneficial Owners and Management and RelatedStockholder Matters**

The information set forthunder the captions “Management and Principal Holders of Voting Securities” and “EquityCompensation Plan Information” appearing in APC’s definitive Proxy Statementfor the 2006 Annual Meeting of Shareholders is incorporated herein byreference.

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**Item13. Certain Relationships and Related Transactions**

The information set forth underthe caption “Certain Relationships and Related Transactions” appearing in APC’sdefinitive Proxy Statement for the 2006 Annual Meeting of Shareholders isincorporated herein by reference.

**Item14. Principal Accountant Fees and Services**

The information set forthunder the caption “Ratification of Appointment of Independent Auditors”appearing in APC’s definitive Proxy Statement for the 2006 Annual Meeting ofShareholders is incorporated herein by reference.

**Part IV**

**Item15. Exhibits and Financial Statement Schedules**

(a)           Documents filed as partof Form 10-K

1.                 ConsolidatedFinancial Statements

APC’s consolidated financial statements have beenincluded in Item 8 of this report.

ConsolidatedBalance Sheets as of December 31, 2005 and 2004

Consolidated Statementsof Income for each of the three years endedDecember 31, 2005, 2004 and 2003

ConsolidatedStatements of Changes in Shareholders’ Equity for each of the three years endedDecember 31, 2005, 2004 and 2003

ConsolidatedStatements of Cash Flows for each of the three years endedDecember 31, 2005, 2004 and 2003

Notes toConsolidated Financial Statements

2.                 ConsolidatedFinancial Statement Schedules

| **Schedule  Number** | ** ** | **Description**                                | ** ** | **Page Number** |
|----------------------|------------|------------------------------------------------|------------|----------------------|
| II                   |       | Valuation and Qualifying Accounts and Reserves |       | 76                   |

 

Schedules other than those listed above have beenomitted since they are either not required or the information required isincluded in the consolidated financial statements or the notes thereto.

KPMG LLP’s reports withrespect to the above listed consolidated financial statements and consolidatedfinancial statement schedule are included herein on pages 72 and 73.

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3.                 Exhibit Listing
| Exhibit   Number                          | ** ** | **Description**                                                                                                                                                                                                         |
|-------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|        3.01 |       | Articles of  Organization of APC, as amended                                                                                                                                                                            |
|        3.02 |       | By-Laws of the  registrant, as amended and restated                                                                                                                                                                     |
|        4.01 |       | Shareholder  Rights Agreement, dated as of September 2, 1999, between APC and  BankBoston, N.A.                                                                                                               |
|     10.01                  |       | 1987 Stock Option  Plan of APC (X)                                                                                                                                                                                      |
|     10.02                  |       | Form of  Incentive Stock Option Agreement under APC’s 1987 Stock Option Plan (X)                                                                                                                              |
|     10.03                  |       | Form of the  Non-Qualified Stock Option Agreement under APC’s 1987 Stock Option Plan (X)                                                                                                                      |
|     10.04                  |       | Employment  Agreement dated June 16, 1986 between APC and Rodger B.  Dowdell, Jr. (X)                                                                                                                         |
|     10.05                  |       | Unsecured, non-committed  line of credit agreement dated June 29, 1991 between APC and Rhode  Island Hospital Trust National Bank                                                                                  |
|     10.06                  |       | Unsecured,  non-committed line of credit agreement dated December 30, 1991 between  APC and Fleet National Bank                                                                                                    |
|     10.07                  |       | Amendment dated December 30,  1992 to line of credit agreement between APC and Fleet National Bank                                                                                                                 |
|     10.08                  |       | Grant agreement  dated February 16, 1994 between APC and Industrial Development Authority  of Ireland                                                                                                              |
|     10.09                  |       | Contract for Sale  dated January 31, 1994 between APC and Digital Equipment International                                                                                                                          |
|     10.10                  |       | Management  Agreement dated January 31, 1994 between APC and Digital Equipment  International                                                                                                                      |
|     10.11                  |       | License Agreement  dated January 31, 1994 between APC (Grantor) and Digital Equipment  International (Licensee)                                                                                                    |
|     10.12                  |       | Grant of Options  Agreement dated January 31, 1994 between APC and Digital Equipment  International                                                                                                                |
|     10.13                  |       | Memorandum  Agreement dated January 31, 1994 between APC and Digital Equipment  International                                                                                                                      |
|     10.14                  |       | Letter Agreement  dated June 22, 1995 to amend line of credit agreement dated  December 30, 1991 by and between APC and Fleet National Bank                                                                   |
|     10.15                  |       | Letter Agreement  dated October 11, 1995 to amend line of credit agreement dated  December 30, 1991 by and between APC and Fleet National Bank                                                                |
|     10.16                  |       | American Power  Conversion Corporation B.V. Profit Sharing Scheme dated September 25,  1996 (X)                                                                                                                    |
|     10.17                  |       | 1997 Non-Employee  Director Stock Option Plan of APC (X)                                                                                                                                                                |
|     10.18                  |       | Amended and  Restated 1997 Stock Option Plan of APC (X)                                                                                                                                                                 |
|     10.19                  |       | 1997 Employee  Stock Purchase Plan of APC (X)                                                                                                                                                                           |
|     10.20                  |       | Form of  Change-in-Control Severance Agreement dated as of July 5, 2000 entered  into by APC with each of Rodger B. Dowdell, Jr. and Neil E. Rasmussen.  (X)                                             |
|     10.21                  |       | Form of  Change-in-Control Severance Agreement dated as of July 5, 2000 entered  into by APC with Aaron L. Davis, and dated as of February 7, 2001  entered into by APC with Edward M. Machala. (X) |
|     10.22                  |       | 2004 Long-Term  Incentive Plan (X)                                                                                                                                                                                      |

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|     10.23 |   | Form of  Restricted Stock Unit Agreement (X)                                                                                                                                                                                                                          |
|--------------------------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|     10.24 |   | Agreement, dated  May 17, 2005, between APC and Donald M. Muir (10.1)(X)                                                                                                                                                                                              |
|     10.25 |   | Employment  Agreement, dated May 13, 2005, between APC and Richard J. Thompson.  (10.2)(X)                                                                                                                                                                            |
|     10.26 |   | Change-in-Control  Severance Agreement, dated July 11, 2005, between APC and  Richard J. Thompson. (10.1)(X)                                                                                                                                                |
|     10.27 |   | Form of  Amendment to Change-in-Control Severance Agreement, dated July 29, 2005,  between APC and each of Rodger B. Dowdell, Jr., Neil E. Rasmussen, Aaron  L. Davis, and Edward W. Machala. (10.1)(X)                                                     |
|     10.28 |   | Agreement between  APC and Edward D. Bednarcik. (10.1)(X)                                                                                                                                                                                                                  |
|     21    |   | Subsidiaries of  APC                                                                                                                                                                                                                                                       |
|     23    |   | Consent of KPMG  LLP                                                                                                                                                                                                                                                       |
|     31.1  |   | Certification of  Rodger B. Dowdell, Jr., Chief Executive Officer, pursuant to  Rule 13a-14(a) and Rule 15d-14(a) of the  Securities Exchange Act of 1934, as adopted pursuant to Section 302 of  the Sarbanes-Oxley Act of 2002 (filed herewith) |
|     31.2  |   | Certification of  Richard J. Thompson, Chief Financial Officer, pursuant to Rule 13a-14(a) and  Rule 15d-14(a) of the Securities Exchange Act of 1934, as adopted  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (filed  herewith)         |
|     32.1  |   | Certification of  Rodger B. Dowdell, Jr., Chief Executive Officer, pursuant to  Rule 13a-14(b) and Rule 15d-14(b) of the  Securities Exchange Act of 1934, as adopted pursuant to Section 906 of  the Sarbanes-Oxley Act of 2002 (filed herewith) |
|     32.2  |   | Certification of  Richard J. Thompson, Chief Financial Officer, pursuant to Rule 13a-14(b) and  Rule 15d-14(b) of the Securities Exchange Act of 1934, as adopted  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed  herewith)         |

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(X)       Indicates a management contractor any compensatory plan, contract or arrangement.

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**REPORTOF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM**

The Board of Directors and ShareholdersAmerican Power Conversion Corporation:

We have audited the accompanying consolidated balancesheets of American Power Conversion Corporation and subsidiaries as of December 31,2005 and 2004, and the related consolidated statements of income, changes inshareholders’ equity, and cash flows for each of the years in the three-yearperiod ended December 31, 2005. These consolidated financial statementsare the responsibility of the Company’s management. Our responsibility is toexpress an opinion on these consolidated financial statements based on ouraudits.

We conducted our audits in accordance with thestandards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform the audit to obtain reasonableassurance about whether the financial statements are free of materialmisstatement. An audit includes examining, on a test basis, evidence supportingthe amounts and disclosures in the financial statements. An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statement presentation.We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statementsreferred to above present fairly, in all material respects, the financialposition of American Power Conversion Corporation and subsidiaries as of December 31,2005 and 2004, and the results of their operations and their cash flows foreach of the years in the three-year period ended December 31, 2005, inconformity with U.S. generally accepted accounting principles.

We also have audited, inaccordance with the standards of the Public Company Accounting Oversight Board(United States), the effectiveness of American Power Conversion Corporation’sinternal control over financial reporting as of December 31, 2005, basedon criteria established in *Internal Control—IntegratedFramework* issued by the Committee of Sponsoring Organizations of theTreadway Commission (COSO), and our report dated March 8, 2006 expressedan unqualified opinion on management’s assessment of, and the effectiveoperation of, internal control over financial reporting.

|  | /s/ KPMG LLP |
|--|--------------|

 

Providence, Rhode IslandMarch 8, 2006

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**REPORTOF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM**

The Board of Directors and ShareholdersAmerican Power Conversion Corporation:

Under date of March 8,2006, we reported on the consolidatedbalance sheets of American Power Conversion Corporation and subsidiaries as of December 31,2005 and 2004, and the related consolidated statements of income, changes inshareholders’ equity, and cash flows for each of the years in the three-yearperiod ended December 31, 2005, which are contained in the Annual Reporton Form 10-K for the year 2005. In connection with our audits of theaforementioned consolidated financial statements, we also audited the relatedfinancial statement schedule listed in Item 15(a)(2). This financial statementschedule is the responsibility of the Company’s management. Our responsibilityis to express an opinion on the financial statement schedule based on ouraudits.

In our opinion, suchfinancial statement schedule, when considered in relation to the basicconsolidated financial statements taken as a whole, presents fairly, in allmaterial respects, the information set forth therein.

|  | /s/ KPMG LLP |
|--|--------------|

 

Providence, Rhode IslandMarch 8,2006

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**SIGNATURES**

Pursuant to the requirements of Section 13 or 15(d) ofthe Securities Exchange Act of 1934, the registrant has duly caused this reportto be signed on its behalf by the undersigned, thereunto duly authorized.

**AMERICAN POWER CONVERSION CORPORATION**

| By:    | /s/ RICHARD J. THOMPSON                                        | Date:  March 15, 2006 |
|--------|----------------------------------------------------------------|----------------------------|
|   | Richard J.  Thompson,                                          |                       |
|   | Senior Vice  President, Finance,

and Chief  Financial Officer |                       |
|   |                                                           |                       |

 

Pursuantto the requirements of the Securities Exchange Act of 1934, this report has beensigned by the following persons on behalf of the registrant and in thecapacities indicated on the date indicated.

| By:    | /s/ RODGER B. DOWDELL, JR.                                                                                                   | Date:  March 15, 2006 |
|--------|-----------------------------------------------------------------------------------------------------------------------------------|----------------------------|
|   | Rodger B.  Dowdell, Jr.,  Chairman, President,  Chief Executive Officer and Director  (principal executive officer)          |                       |
|   |                                                                                                                              |                       |
| By:    | /s/ RICHARD J. THOMPSON                                                                                                           | Date:  March 15, 2006 |
|   | Richard J.  Thompson,  Senior Vice President, Finance,  and Chief Financial Officer  (principal financial and accounting officer) |                       |
|   |                                                                                                                              |                       |
|   | /s/  NEIL E. RASMUSSEN                                                                                                            | Date:  March 15, 2006 |
|   | Neil E.  Rasmussen,  Senior Vice President, Chief Technology Officer and Director                                                 |                       |
|   |                                                                                                                              |                       |
|   | /s/  ERVIN F. LYON                                                                                                                | Date:  March 15, 2006 |
|   | Ervin F. Lyon,  Director                                                                                                          |                       |
|   |                                                                                                                              |                       |
|   | /s/  JAMES D. GERSON                                                                                                              | Date:  March 15, 2006 |
|   | James D. Gerson,  Director                                                                                                        |                       |
|   |                                                                                                                              |                       |
|   |                                                                                                                              |                       |

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|        | /s/ JOHN G. KASSAKIAN              | Date: March 15,  2006 |
|--------|------------------------------------|----------------------------|
|   | John G.  Kassakian,  Director      |                       |
|   |                               |                       |
|   | /s/  JOHN F. KEANE, SR.       | Date:  March 15, 2006 |
|   | John F.  Keane, Sr.  Director |                       |
|   |                               |                       |
|   | /s/  ELLEN B. RICHSTONE            | Date:  March 15, 2006 |
|   | Ellen B.  Richstone  Director      |                       |
|   |                               |                       |
|   |                               |                       |

 

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**ScheduleII**

**AMERICAN POWER CONVERSION CORPORATION AND SUBSIDIARIESValuation and Qualifying Accounts and ReservesFor the years ended December 31, 2005, 2004 and 2003**

**Valuationaccounts deducted from assets to which they apply:**

| ** **                                      | ** ** | **Balance at  Beginning  of Year** | ** ** | **Charged to  Costs and  Expenses** | ** ** | **Write Offs/  Allowances  Taken** | ** ** | **Balance  at End  of Year** | ** ** |
|-------------------------------------------------|------------|----------------------------------------------|------------|-----------------------------------------------|------------|-----------------------------------------|------------|----------------------------------------|------------|
| ** **                                      | ** ** | **(In thousands)**                      | ** ** |
| **Allowance for Doubtful Accounts  Receivable** | ** ** |                                         | ** ** | ** **                                    |       |                                    | ** ** | ** **                             |       |   | ** ** | ** ** |   | ** ** | ** ** |
| **2005**                                        | ** ** |                                         | **$**      | **16,180**                                    | ** ** |                                    |       | **$**                                  | **2,242**  | ** ** |   |   | **$** | **(3,427** | **)** |   | **$** | **14,995** | ** ** |
| 2004                                            |       |                                         | $          | 18,987                                        | ** ** |                                    |       | $                                      | (1,500     | ) |   |   | $ | (1,307 | ) |   | $ | 16,180 |   |
| 2003                                            |       |                                         | $          | 17,855                                        | ** ** |                                    |       | $                                      | 5,279      |   |   |   | $ | (4,147 | ) |   | $ | 18,987 |   |
| **Inventory  Reserve**                          | ** ** |                                         | ** ** | ** **                                    |       |                                    | ** ** | ** **                             |       |   | ** ** | ** ** |   | ** ** | ** ** |
| **2005**                                        | ** ** |                                         | **$**      | **39,443**                                    | ** ** |                                    |       | **$**                                  | **12,061** | ** ** |   |   | **$** | **(2,944** | **)** |   | **$** | **48,560** | ** ** |
| 2004                                            |       |                                         | $          | 38,766                                        | ** ** |                                    |       | $                                      | 17,376     |   |   |   | $ | (16,699 | ) |   | $ | 39,443 |   |
| 2003                                            |       |                                         | $          | 37,164                                        | ** ** |                                    |       | $                                      | 6,600      |   |   |   | $ | (4,998 | ) |   | $ | 38,766 |   |
| **Deferred  Tax Asset Valuation Allowance**     | ** ** |                                         | ** ** | ** **                                    |       |                                    | ** ** | ** **                             |       |   | ** ** | ** ** |   | ** ** | ** ** |
| **2005**                                        | ** ** |                                         | **$**      | **5,661**                                     | ** ** |                                    |       | **$**                                  | **2,541**  | ** ** |   |   | **$** | **—** | ** ** |   | **$** | **8,202** | ** ** |
| 2004                                            |       |                                         | $          | 3,518                                         | ** ** |                                    |       | $                                      | 2,143      |   |   |   | $ | — |   |   | $ | 5,661 |   |
| 2003                                            |       |                                         | $          | 2,434                                         | ** ** |                                    |       | $                                      | 1,084      |   |   |   | $ | — |   |   | $ | 3,518 |   |

 

76

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**AMERICANPOWER CONVERSION CORPORATION AND SUBSIDIARIESEXHIBIT INDEX**

| Exhibit Number | ** ** | **Description**                                                                                                                                                         | ** ** | **Page   No.** |
|---------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------|
| 3.01 (a)            |       | Articles of Organization  of the registrant, as amended (3.01)                                                                                                          |       |           |
| 3.02 (b)            |       | By-Laws of the  registrant, as amended and restated (3.1)                                                                                                               |       |           |
| 4.01 (c)            |       | Shareholder Rights  Agreement, dated as of September 2, 1999, between APC and BankBoston,  N.A. (4.01)                                                             |       |           |
| 10.01 (d)           |       | 1987 Stock Option Plan  of the registrant (10.01) (X)                                                                                                                   |       |           |
| 10.02 (d)           |       | Form of Incentive  Stock Option Agreement under the registrant’s 1987 Stock Option Plan (10.02)  (X)                                                          |       |           |
| 10.03 (d)           |       | Form of the  Non-Qualified Stock Option Agreement under the registrant’s 1987 Stock Option  Plan (10.03) (X)                                                  |       |           |
| 10.04 (d)           |       | Employment Agreement  dated June 16, 1986 between APC and Rodger B. Dowdell, Jr. (10.07)  (X)                                                                 |       |           |
| 10.05 (e)           |       | Unsecured, non-committed  line of credit agreement dated June 29, 1991 between the registrant and  Rhode Island Hospital Trust National Bank (10.19)               |       |           |
| 10.06 (e)           |       | Unsecured, non-committed  line of credit agreement dated December 30, 1991 between the registrant  and Fleet National Bank (10.20)                                 |       |           |
| 10.07 (f)           |       | Amendment dated  December 30, 1992 to line of credit agreement between the registrant and  Fleet National Bank (10.13)                                             |       |           |
| 10.08 (f)           |       | Grant agreement dated  February 16, 1994 between the registrant and Industrial Development  Authority of Ireland (10.14)                                           |       |           |
| 10.09 (f)           |       | Contract for Sale dated  January 31, 1994 between the registrant and Digital Equipment  International (10.15)                                                      |       |           |
| 10.10 (f)           |       | Management Agreement  dated January 31, 1994 between the registrant and Digital Equipment  International (10.17)                                                   |       |           |
| 10.11 (f)           |       | License Agreement dated  January 31, 1994 between the registrant (Grantor) and Digital Equipment  International (Licensee) (10.18)                                 |       |           |
| 10.12 (f)           |       | Grant of Options Agreement  dated January 31, 1994 between the registrant and Digital Equipment  International (10.19)                                             |       |           |
| 10.13 (f)           |       | Memorandum Agreement  dated January 31, 1994 between the registrant and Digital Equipment  International (10.20)                                                   |       |           |
| 10.14 (g)           |       | Letter Agreement dated June 22,  1995 to amend line of credit agreement dated December 30, 1991 by and  between registrant and Fleet National Bank (10.1)     |       |           |
| 10.15 (h)           |       | Letter Agreement dated  October 11, 1995 to amend line of credit agreement dated  December 30, 1991 by and between registrant and Fleet National Bank  (10.1) |       |           |
| 10.16 (i)           |       | American Power  Conversion Corporation B.V. Profit Sharing Scheme dated September 25,  1996 (10.20) (X)                                                            |       |           |
| 10.17 (j)           |       | 1997 Non-Employee  Director Stock Option Plan of the registrant (4.4) (X)                                                                                               |       |           |
| 10.18 (k)           |       | Amended and Restated  1997 Stock Option Plan of the registrant (X)                                                                                                      |       |           |
| 10.19 (j)           |       | 1997 Employee Stock  Purchase Plan of the registrant (4.6) (X)                                                                                                          |       |           |

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| 10.20 (l) |   | Form of  Change-in-Control Severance Agreement dated as of July 5, 2000 entered  into by APC with each of Rodger B. Dowdell, Jr. and Neil E. Rasmussen.  (X) (10.24)                                                                                   |   |   |
|-----------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------|
| 10.21 (l) |   | Form of  Change-in-Control Severance Agreement dated as of July 5, 2000 entered  into by APC with Aaron L. Davis, and dated as of February 7, 2001  entered into by APC with Edward M. Machala. (X) (10.25)                                            |   |   |
| 10.22 (m) |   | 2004 Long-Term Incentive  Plan (4.3) (X)                                                                                                                                                                                                                                   |   |   |
| 10.23 (n) |   | Form of Restricted  Stock Unit Agreement (10.2) (X)                                                                                                                                                                                                                   |   |   |
| 10.24 (o) |   | Agreement, dated  May 17, 2005, between APC and Donald M. Muir (10.1)(X)                                                                                                                                                                                              |   |   |
| 10.25 (p) |   | Employment Agreement,  dated May 13, 2005, between APC and Richard J. Thompson (10.2)(X)                                                                                                                                                                              |   |   |
| 10.26 (q) |   | Change-in-Control  Severance Agreement, dated July 11, 2005, between APC and Richard J.  Thompson (10.1)(X)                                                                                                                                                           |   |   |
| 10.27 (r) |   | Form of Amendment  to Change-in-Control Severance Agreement, dated July 29, 2005, between  APC and each of Rodger B. Dowdell, Jr., Neil E. Rasmussen, Aaron L.  Davis, and Edward W. Machala (10.1)(X)                                                      |   |   |
| 10.28 (s) |   | Agreement between APC  and Edward D. Bednarcik (10.1)(X)                                                                                                                                                                                                                   |   |   |
| 21        |   | Subsidiaries of  registrant                                                                                                                                                                                                                                                |   | 77     |
| 23        |   | Consent of KPMG LLP                                                                                                                                                                                                                                                        |   | 78     |
| 31.1      |   | Certification of Rodger  B. Dowdell, Jr., Chief Executive Officer, pursuant to Rule 13a-14(a)  and Rule 15d-14(a) of the Securities Exchange Act of 1934, as  adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (filed  herewith) |   | 79     |
| 31.2      |   | Certification of Richard  J. Thompson, Chief Financial Officer, pursuant to Rule 13a-14(a)  and Rule 15d-14(a) of the Securities Exchange Act of 1934, as  adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (filed  herewith)         |   | 80     |
| 32.1      |   | Certification of Rodger  B. Dowdell, Jr., Chief Executive Officer, pursuant to Rule 13a-14(b)  and Rule 15d-14(b) of the Securities Exchange Act of 1934, as  adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed  herewith) |   | 81     |
| 32.2      |   | Certification of Richard  J. Thompson, Chief Financial Officer, pursuant to Rule 13a-14(b)  and Rule 15d-14(b) of the Securities Exchange Act of 1934, as  adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed  herewith)         |   | 82     |

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(a)           Previously filed as anexhibit to APC’s Quarterly Report on Form 10-Q for the quarter yearended June 27, 1999 and incorporated herein by reference (File No. 1-12432).The number given in parenthesis indicates the corresponding exhibit in such Form 10-Q.

(b)          Previously filed as anexhibit to APC’s Current Report on Form 8-K, dated as of October 29,2004, and incorporated herein by reference (File No. 1-12432). Thenumber given in parenthesis indicates the corresponding exhibit in such Form 8-K.

(c)           Previously filed as anexhibit to APC’s Current Report on Form 8-K, dated as of September 3,1999, which included as Exhibit A the Form of Rights Certificate, andas Exhibit B the Summary of Rights 

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to Purchase Common Stock,and incorporated herein by reference (File No. 1-12432). The numbergiven in parenthesis indicates the corresponding exhibit in such Form 8-K.

(d)          Previously filed asexhibits to APC’s Registration Statement on Form S-18 dated July 1988(File No. 33-22707-B).

(e)           Previously filed as anexhibit to APC’s Annual Report on Form 10-K for the fiscal yearended December 31, 1991 and incorporated herein by reference (File No. 0-17126).The number given in parenthesis indicates the corresponding exhibit in such Form 10-K.

(f)             Previously filed asan exhibit (Exhibit No. 22) to APC’s Annual Report on Form 10-Kfor the fiscal year ended December 31, 1993 and incorporated herein byreference (File No. 1-12432). The number given in parenthesisindicates the corresponding exhibit in such Form 10-K.

(g)           Previously filed as anexhibit to APC’s Quarterly Report on Form 10-Q for the fiscalquarter ended June 30, 1995 and incorporated herein by reference (File No. 1-12432).The number given in parenthesis indicates the corresponding exhibit in such Form 10-Q.

(h)          Previously filed as anexhibit to APC’s Quarterly Report on Form 10-Q for the fiscalquarter ended September 30, 1995 and incorporated herein by reference(File No. 1-12432). The number given in parenthesis indicates thecorresponding exhibit in such Form 10-Q.

(i)             Previously filed asan exhibit to APC’s Annual Report on Form 10-K for the fiscal yearended December 31, 1996 and incorporated herein by reference (File No. 1-12432).The number given in parenthesis indicates the corresponding exhibit in such Form 10-K.

(j)              Previously filed asexhibits to APC’s Registration Statement on Form S-8 dated July 31,1997 (File No. 333-32563). The number given in parenthesis indicatesthe corresponding exhibit in such Form S-8.

(k)          Previously filed as anexhibit to APC’s Definitive Proxy Statement on Schedule 14A dated April 29,2002 and incorporated herein by reference.

(l)             Previously filed asan exhibit to APC’s Quarterly Report on Form 10-Q for the fiscalquarter ended September 30, 2000 and incorporated herein by reference(File No. 1-12432). The number given in parenthesis indicates thecorresponding exhibit in such Form 10-Q.

(m)      Previously filed as exhibitsto APC’s Registration Statement on Form S-8 dated July 2, 2004(File No. 333-117109). The number given in parenthesis indicates thecorresponding exhibit in such Form S-8.

(n)          Previously filed as anexhibit to APC’s Current Report on Form 8-K filed on October 29,2004 and incorporated herein by reference (File No. 1-12432). Thenumber given in parenthesis indicates the corresponding exhibit in such Form 8-K.

(o)          Previously filed as anexhibit to APC’s Current Report on Form 8-K filed on May 19,2005 and incorporated herein by reference (File No. 001-12432). Thenumber given in parenthesis indicates the corresponding exhibit in such Form 8-K.

(p)          Previously filed as anexhibit to APC’s Current Report on Form 8-K filed on May 19,2005 and incorporated herein by reference (File No. 001-12432). Thenumber given in parenthesis indicates the corresponding exhibit in such Form 8-K.

(q)          Previously filed as anexhibit to APC’s Current Report on Form 8-K filed on July 12,2005 and incorporated herein by reference (File No. 001-12432). Thenumber given in parenthesis indicates the corresponding exhibit in such Form 8-K.

(r)            Previously filed as anexhibit to APC’s Current Report on Form 8-K filed on August 3,2005 and incorporated herein by reference (File No. 001-12432). Thenumber given in parenthesis indicates the corresponding exhibit in such Form 8-K.

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(s)            Previously filed as anexhibit to APC’s Current Report on Form 8-K filed on December 5,2005 and incorporated herein by reference (File No. 001-12432). Thenumber given in parenthesis indicates the corresponding exhibit in such Form 8-K.

(X)       Indicates a managementcontract or any compensatory plan, contract or arrangement.

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