SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

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

For the fiscal year ended September 27, 2003

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 No. 0-2382

MTS SYSTEMS CORPORATION
(Exact Name of Registrant as Specified in its Charter)

Registrant's telephone number, including area code: (952) 937-4000

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.25 par value per share

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

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.o

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

State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity last sold, or the average bid and asked price of such common equity, as of the last business day of the registrant’s most recently completed second fiscal quarter: $239,517,033.

As of December 5, 2003, the registrant had outstanding 20,940,003 shares of Common Stock.

DOCUMENTS INCORPORATED BY REFERENCE: Portions of the Proxy Statement for the Registrant’s Annual Meeting of Shareholders to be held January 27, 2004 are incorporated by reference into Part III of this Form 10-K, to the extent described in such Part.

PART I

Item 1.     Business

MTS Systems Corporation (hereafter called “MTS,” “the Company,” or “the Registrant”) is a global supplier of testing products that help customers accelerate and improve their design, development, and manufacturing processes. MTS products are used for determining the mechanical behavior of materials, products, and structures and include computer-based testing and simulation systems, modeling and testing software, and consulting services. The Company is also a leading manufacturer of industrial position sensors. The Company’s mission is to help its customers design, develop, and produce their products faster, with higher quality, and at a lower cost. The Company was incorporated on September 12, 1967.

MTS’s business approach is based on a set of building-block technologies and business processes. Technologies include sensors for measuring machine and process parameters, control technologies for test and process automation, hydraulic and electric servodrives for precise actuation, and application software to tailor a test or automation system to a specific customer’s needs and to analyze results. In combination, these technologies and manufacturing processes provide integrated solutions to customers in a variety of markets. The Company’s manufacturing capability includes the production of low to medium volume standard and custom products and systems.

Customers and Products by Business Segment

The Company’s operations are organized into two business segments: the Test segment and the Industrial segment. The operational alignment of these segments allows the Company to maintain a strategic focus on markets having different product and market applications for the Company’s technologies.

Test Segment: Customers of this segment use the Company’s products, systems, software, and services for research, product development, and quality control to determine the mechanical properties and performance of materials, products, and structures. In addition to standard products, the Company offers highly customized systems for simulation and testing. These systems frequently contain “first of kind” advances that are new to a specific application. Products include rolling road simulators, friction stir welding machines, and earthquake simulation systems. Many of the segment’s products and services support its customers’ mechanical design automation processes. The Test segment serves customers in the following industries:

Ground Vehicles: This market consists of automobile, truck, motorcycle, construction, agricultural equipment, and off-road vehicle manufacturers and their suppliers. Equipment, software, and consulting services are used to test vehicular safety, noise, vibration and harshness, durability, performance, powertrain, and materials. This represents the largest market segment within the Test segment.

Aerospace: These customers use the Company’s products, systems, and software for full-scale structural tests on aircraft and aerospace vehicles and components, subsystems, and materials. Aircraft manufacturers of commercial, military, and general aviation airplanes and their suppliers, including engine manufacturers, are included in the customer base.

Infrastructure: Customers in this market segment include construction and mineral/petroleum production companies and test laboratories owned and/or operated by universities or governmental entities. Equipment, software, & consulting services are used to test effects of seismic activity, effects of forces on structures, characteristics of materials, and biomechanical properties.

These customers also use the Company’s nanomechanical, biomechanical, and servo-hydraulic material testing products and systems in research and product development where a high degree of precision quality control is required during research and production. The nanomechanical test products address the needs of the highly precise semiconductor industry. Biomechanical applications include implants,

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prostheses, and other medical and dental devices and materials. Material producers include metal, ceramic, composite, paper, and plastic manufacturers.

The Test segment typically represents approximately 85% of the Company’s total revenue and provides the principal markets for the Company’s technology.

Industrial Segment: Customers of the Industrial segment use the Company’s measurement and control instrumentation products to measure process variables and to automate production processes. Typical customers include injection molding manufacturers, mobile equipment producers, sawmill manufacturers, and semiconductor and medical equipment companies. Products in the Industrial segment include:

Displacement Position and Liquid Level Sensors based on Magnetostrictive Technology: Displacement sensors accurately measure position and are often used where accurate positioning and continuous control are critical, such as in discrete (piece part) manufacturing machinery, mobile equipment, process control elements and continuous measurement devices. Major applications include injection molding machines, servo-hydraulic cylinders, equipment presses, and sawmills.

Displacement sensors are also used in high-volume applications requiring low-cost position feedback. MTS has the capability of manufacturing low-cost sensor products in various lengths and configurations, while maintaining an extremely high degree of accuracy.

Liquid level sensors accurately measure the level of liquids in tanks and other vessels. These sensors are marketed to control continuous processes in chemical, pharmaceutical, biotechnology, and related markets. The need for highly reliable, accurate measurement of one or more fluid levels is common in most of these applications. These types of products are marketed to the ultimate end users, such as chemical-producing companies, and to original equipment manufacturers that design level measurement or leak detection into their control systems or accessories for remote indication.

Titanium Part Formation: The Company, through its wholly owned subsidiary AeroMet Corporation, has developed an innovative, laser-directed metal deposition process for manufacturing parts made of titanium and other metals. This computer-driven process uses a laser to fuse titanium powder or powder of other metals, layer-by-layer, into solid structures. The process significantly reduces the time and cost required to produce complex parts used in the aircraft and aerospace industries.

The Industrial segment typically represents approximately 15% of the Company’s total revenue.

Common Technologies

MTS produces systems and products by combining 37 years of application engineering knowledge with common technology building-block components that generally consist of measuring and actuation devices, electronic controls, and application software. The components are designed and configured into products and systems to meet the customer’s application specifications. Frequently, special-purpose software is developed to meet a customer’s unique requirements.

Services offered to customers include on-site installation, training of customer personnel, and after-market support and maintenance. Proprietary products include sensors, process controls, motors, actuators, process software, and hardware. Although MTS typically sells its products and systems under fixed-price contracts, certain complex systems development and applied research studies are undertaken on a “cost-plus-fixed-fee” contract basis.

Product Development Highlights for Fiscal 2003

MTS invests in product, system, and application development. A combination of internal and customer funding enables MTS to advance the application of its existing technology and develop new capabilities. Additional product development-related information is included in the Research and Development section of the report. Selected highlights of product developments that were in progress or completed during fiscal 2003 include the following:

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MTS, RPC, Nano Indenter, Test Works and Temposonics are registered trademarks and Nanovision and Virtual Indenter are trademarks of MTS Systems Corporation.

Characteristics of Sales

The Company’s systems and products are sold worldwide to a large variety of industrial companies, government agencies, and academic and other institutions. MTS is generally not dependent on any single customer for a significant portion of its business. However, approximately 50% of the Company’s revenue is associated with the ground vehicles industry. Approximately, 50% of the Company’s revenue is from customers outside the United States.

Test segment products and services range in price from less than $20,000 to over $20 million. The majority of Test segment revenue is generated by contracts valued at less than $10 million. The timing and volume of contracts valued at $10 million or greater may produce volatility in orders, backlog, and quarterly operating results. The majority of customer orders are based on fixed-price quotations and typically have an average sales cycle of six to nine months due to the technical nature of the products and systems. The production cycle for a typical system ranges from one to twelve months, depending on the complexity of the system and the availability of components. The production cycle for larger, more complex systems may be up to three years.

Industrial segment products are sold in quantity at unit prices ranging from $500 to $10,000. Production cycles generally vary from several days to several months, depending on the degree of product customization and manufacturing capacity.

During fiscal 2003, the Company’s products were shipped to North America, Europe, Asia, and Latin America. The Company’s foreign operations and revenue derived from customers located in foreign countries may be affected by local political conditions, export licensing issues and restrictions, and foreign currency exchange rates and volatility.

Sales Channels: The Company sells its products, systems, and services through a direct sales force, independent sales representatives, and, to a much lesser extent, via the Internet and catalog. The sales channels for the Test and Industrial segments are separate from one other. The direct sales force is generally staffed by engineers or highly skilled technicians who are trained to sell MTS equipment, software, and services. The direct sales force is compensated through salary and sales incentives programs, while independent sales representatives are paid on a commission basis.

A list of major domestic and international sales offices for the Company is as follows:

Domestic Sales Offices:

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The Company also has sales and service representative organizations in nearly all industrialized countries of the world and in many of the developing countries of Latin America, Asia, Africa, and the Middle East. The Company offers a mail-order catalog of standard material testing components, accessories, and products.

For additional information regarding the Company’s operations by geographic area, see Note 4 to the Consolidated Financial Statements, “Business Segment Information,” appearing under Item 8 of this Form 10-K.

Export Licensing: During the fiscal year ended September 27, 2003 and in prior years, MTS made various shipments to Europe, Asia, and other regions throughout the world that required the Company to obtain export approval from the United States government. Although the Company typically does not undertake manufacturing on custom systems or projects until it is assured that the appropriate governmental units will grant export approval, initial design and development work may be performed on certain systems concurrent with the license approval process. Changes in political relations between the United States and foreign countries and/or specific potential customers for which export licenses may be required, as well as various other factors, can adversely affect the Company’s ability to complete a shipment should a previously issued license be unexpectedly withdrawn. Political activities in various regions of the world may result in dramatic changes in export control regulations and restrictions within a relatively short period of time. In addition, the United States government maintains multilateral controls in its agreements with allies and unilateral controls based on U.S. initiatives and foreign policy that may, in certain situations, cause delays or cancellations of the Company’s planned orders or shipments.

Backlog

The Company’s revenue backlog, defined as firm orders from customers that remain unfilled, totaled approximately $159 million, $170 million, and $146 million at September 27, 2003, September 28, 2002, and September 30, 2001, respectively. Based on anticipated production schedules and other factors, the Company believes that approximately $125 million of the backlog at September 27, 2003 will become revenue during fiscal 2004. Delays may occur as a result of technical difficulties, export licensing or other approvals, changes in scope, manufacturing capacity, or the availability of the customer installation sites. Such delays may affect the period in which the backlog is recognized as revenue. The Company’s backlog is subject to order cancellations.

Competition

Test Segment: Equipment, software, and services produced by the Test segment are produced by several other companies throughout the world. The product availability and the intensity of competition vary by product line and by geographic area. The Company’s major competitors include, among others, Instron, FCS Test Systems BV, Saganomia, Schenck, and AVL. Customers will consider such factors, among others, as engineering capabilities, quality, technical features of the equipment, overall responsiveness to customer needs, service, and price as they evaluate supplier options.

Alternatively, in lieu of purchasing equipment, software, or services from MTS or its competitors, customers may elect to contract with testing laboratories, including those operated by certain universities

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and/or governmental units, or they may choose to construct their own testing equipment from commercially available components.

Industrial Segment: The Company competes directly with small-to-medium sized specialty suppliers and also with divisions of large companies specializing in measurement and control instrumentation products. Competitors include Balluff Inc., Ametek Inc., and Novotechnic.

Manufacturing and Engineering

The Company conducts a significant portion of its manufacturing and engineering activities for the Test segment from its Corporate headquarters Eden Prairie, Minnesota. The Test segment also has manufacturing plants in Ann Arbor, Michigan and Oak Ridge, Tennessee. In addition, engineering, project management, final systems assembly, and service may be performed in Berlin, Germany; Tokyo, Japan; Paris, France; Turin, Italy; Gloucester, United Kingdom; and Gothenberg, Sweden. Manufacturing and engineering in the Industrial Segment are located in Cary, North Carolina; Minneapolis, Minnesota; and Ludenscheid, Germany.

Patents and Trademarks

Although the Company’s overall business is not dependent upon any single patent, license, trademark, or copyright, it holds a number of patents, patent applications, licenses, trademarks, and copyrights that the Company considers, in the aggregate, to constitute a valuable asset. In addition to these intellectual properties, the Company relies on its engineering and technological capabilities to maintain its overall position in the marketplace.

Research and Development

MTS generally does not perform basic research, but it does invest in significant product, system, and software application developments. Costs associated with these development programs are expensed as incurred, and aggregated $15.6 million, $15.5 million, and $18.7 million for the years ended September 27, 2003, September 28, 2002, and September 30, 2001, respectively. From time to time, the Company also contracts with its customers to advance the state of technology and increase product functionality.

Executive Officers

The Executive Officers of the Registrant on the date of this report are:

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Executive Officers serve at the discretion of and are elected annually by the Company’s Board of Directors. Business experience of the Executive Officers (consisting of positions with the Company, unless otherwise indicated) for the last five years, at a minimum, is as follows:

Employees

MTS had 1,630 employees at September 27, 2003, including approximately 440 employees located outside the United States. None of the Company’s employees in the United States are currently covered by collective bargaining agreements. In the past, the Company has not experienced any work stoppages at any of its U.S. locations.

Sources and Availability of Raw Materials and Components

A major portion of products and systems delivered to customers may consist of equipment and component parts purchased from third-party vendors. The Company promotes a partnership-type relationship with its vendors, with an emphasis on continuous improvement in a number of critical areas including, but not limited to, quality, performance and technological advances. The Company is dependent, in certain situations, on a limited number of vendors to provide computing hardware and

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software devices and raw materials. However, MTS has not experienced significant problems or issues in procuring any essential materials, parts, or components needed in its production process.

Since the Company generally sells its products based on fixed price contracts, fluctuations in the cost of materials or components between the date of order and the delivery date, may impact the expected profitability of any project. Except for the effect of changes in foreign currency rates, the Company believes that such fluctuations in the cost of raw materials and components have not had a material effect on reported operating results.

Available Information

MTS’ web site address is www.mts.com. MTS has available on its web site annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports as soon as reasonably practical after it electronically files such material with, or furnishes it to, the SEC.

Environmental Matters

Management believes that the Company’s operations are in compliance with federal, state, and local provisions relating to the protection of the environment.

Item 2.     Properties

Properties Located in the United States:

The Company’s Corporate headquarters and major Test segment manufacturing, assembly, and research facility, occupying 420,000 square feet, is located on 56 acres of land in the City of Eden Prairie, Minnesota, a suburb of Minneapolis, Minnesota. Since the original plant was placed in service in 1967, six additions of various sizes, with the most recent addition being completed in 1997, have occurred. At the current time, approximately 50% of this facility is used for manufacturing and assembly, while the remainder is used as general office space.

The Industrial segment has a Company-owned 65,000 square foot, combination office and light manufacturing facility in Cary, North Carolina, a suburb of Raleigh, North Carolina. This facility was originally constructed in 1988 and was expanded in 1992.

In addition to the Eden Prairie, Minnesota facility, the Test Segment has five other domestic locations. The Company leases 29,000 square feet in two facilities located in Madison Heights, Michigan and Milford, Ohio. The lease agreements for these facilities terminate in 2004. The Company owns a 57,200 square foot facility in Ann Arbor, Michigan and has an additional 13,000 square feet in Ann Arbor under lease through 2004. MTS owns a 27,000 square foot facility in Cary, North Carolina. The property was vacated in 2002, and it is currently listed for sale. The Company also leases 71,000 square feet in two facilities located in Oak Ridge, Tennessee. The lease agreements for these facilities terminate in 2004.

The Company also has a five-year lease agreement that terminates in 2006 for a 90,000 square foot office, light manufacturing, and warehousing facility in Montgomeryville, Pennsylvania, a suburb of Philadelphia. This facility was used by the Company’s Automation division, which was sold in fiscal 2003. The Company is currently subleasing a portion of this facility to a third party.

MTS also leases space in various other cities in the United States that serve primarily as sales and service offices. Neither the amount of leased space nor the rental obligations are significant individually or in the aggregate. The agreements pertaining to each of its leased facilities in the United States contain conventional operating lease terms.

International Facilities:

MTS has manufacturing, assembly, warehousing, and/or office facilities in several European countries to support its international operations:

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The Company considers its current facilities adequate to support its operations during fiscal 2004.

Item 3.     Legal Proceedings

From time to time, the Company is party to various claims, legal actions, and complaints arising in the ordinary course of business. Management believes the final resolution of these matters will not have a material adverse effect on the consolidated financial position or results of operations of the Company.

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

No matters were submitted for a vote of stockholders during the fourth quarter of the fiscal year ended September 27, 2003.

PART II

Item 5.     Market for Registrant's Common Equity and Related Stockholder Matters

Shares of the Company’s common stock are traded on The Nasdaq Stock Market’s National Market under the symbol “MTSC.”

The following table sets forth the high and low sales prices for the periods indicated:

At December 5, 2003, there were 1,851 holders of record of the Company’s common stock. This number does not reflect shareholders who hold their shares in the name of broker dealers or other nominees.

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The Company has historically paid quarterly cash dividends and expects to continue such dividends in the future. During each of the past three years, the Company has paid quarterly cash dividends of $.06 per share to holders of its common stock.

Under the terms of the Company’s revolving credit agreement, certain covenants require net worth, as defined, to exceed a defined minimum amount. At September 27, 2003, net worth, as defined, exceeded the minimum requirement by $32.4 million.

Item 6.     Selected Financial Data

The table below provides selected historical financial data for the Company, which should be read in conjunction with the consolidated financial statements, the notes to the consolidated financial statements, and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” which are included elsewhere in this report. The statement of income data for each of the three years ended September 27, 2003, September 28, 2002, and September 30, 2001 and the balance sheet data at September 27, 2003 and September 28, 2002, are derived from the audited consolidated financial statements included elsewhere in this report. The statement of income data for the years ended September 30, 2000 and 1999 and balance sheet data at September 30, 2001, 2000, and 1999 are derived from the financial statements of the Company that are not included in this report. All amounts have been restated to reflect the sale of the discontinued Automation business, as discussed in Note 2 to the consolidated financial statements.

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

Critical Accounting Policies:

Fiscal Year
Effective with fiscal year 2002, the Company changed its fiscal year end to the Saturday closest to September 30. For the years ended September 27, 2003 and September 28, 2002, the Company's fiscal year consisted of 52 weeks. Effective with fiscal 2003, the Company changed its fiscal quarter ends to the Saturday closest to December 31, March 31, and June 30. This change had no material impact on comparability of the Company’s financial statements.

Revenue Recognition
The Company implemented the revenue recognition principles of Staff Accounting Bulletin (“SAB”) No. 101, “Revenue Recognition in Financial Statements,” as of October 1, 2000. The cumulative effect adjustment of the change in accounting for all periods through September 30, 2000 was a reduction in net income of $2.5 million (net of income taxes of $1.6 million), or $0.12 per diluted share, which was accounted for as a change to the financial results for the first quarter of fiscal 2001. During the fiscal years ended September 28, 2002 and September 30, 2001, the Company recognized $0.4 million and $10.0 million of revenues, respectively, which were previously recognized prior to the Company's adoption of SAB 101.

For orders that are manufactured and delivered in less than six months with routine installations and no special acceptance protocol, revenue is recognized when systems are shipped and title has passed to the customer, less the greater of the fair value associated with installation or the amount of consideration that is contingent upon installation, which is deferred until customer acceptance. In cases where special acceptance protocols exist, the Company recognizes revenue upon the completion of installation and fulfillment of obligations specific to the terms of the customer’s contract. Revenue on contracts requiring longer delivery periods, generally longer than six months (long-term contracts), is recognized using the percentage-of-completion method based on the cost incurred to date relative to estimated total cost of the contract. In most cases, orders with complex installations and/or unusual acceptance protocols involve long-term contracts for custom systems that follow the percentage-of-completion method of revenue recognition through customer acceptance.

The Company enters into long-term contracts for customized equipment sold to its customers. Under the terms of such contracts, revenue recognized using the percentage-of-completion method may not be invoiced until completion of contractual milestones, upon shipment of the equipment, or upon installation and acceptance by the customer. Unbilled amounts for these contracts appear in the Consolidated Balance Sheets as Unbilled Contracts and Retainage Receivable.

Revenue for services is recognized as the service is performed and ratably over a defined contractual period for service maintenance contracts.

In light of EITF 00-21, “Revenue Arrangements with Multiple Deliverables,” orders that are manufactured and delivered in less than six months with routine installations and no special acceptance protocol are considered to involve separable elements. Sufficient evidence of fair value of these elements exists to allow revenue recognition for these systems upon shipment, less the greater of the fair value associated with installation and training (if applicable) or the amount of revenue that is deemed contingent upon these elements, which is deferred until customer acceptance. In cases where special acceptance protocols exist, installation and training are not considered to be separable from the other elements of the arrangement. Accordingly, revenue for these systems is recognized upon the completion of installation and fulfillment of obligations specific to the terms of the arrangement.

For contracts that involve delivery periods generally longer than six months, due to the complexity of installation and acceptance terms, the design, manufacture and installation elements of such arrangements, in aggregate, fall within the scope of accounting literature prescribing percentage-of-completion accounting through customer acceptance. However, in light of EITF 00-21, when elements that would not separately fall within the scope of accounting literature prescribing percentage-of-

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completion accounting are included in an arrangement, the fair value of these elements is separated from the arrangement and accounted for as such services are provided.

Inventories
Inventories at September 27, 2003 and September 28, 2002 are as follows:

Inventories consist of material, labor, and overhead costs and are stated at the lower of cost or market, determined under the first-in, first-out accounting method.

Warranty Obligations
Sales of the Company’s products and systems are subject to limited warranty guarantees that are included in customer contracts. For sales that include installation services, warranty guarantees typically extend for a period of twelve months from the date of either shipment or acceptance. Product guarantees typically extend for a period of twenty-four months from the date of purchase. Under the terms of these warranties, the Company is obligated to repair or replace any components or assemblies it deems defective due to workmanship or materials. The Company reserves the right to reject warranty claims where it determines that failure is due to normal wear, customer modifications, improper maintenance, or misuse. The Company records warranty provisions monthly based on an estimated warranty expense percentage applied to current period revenue. The percentage applied reflects historical warranty incidence over the preceding twelve-month period. Both the experience percentage and the warranty liability are evaluated on an ongoing basis for adequacy. Warranty provisions and claims for the years ended September 27, 2003 and September 28, 2002 were as follows:

Management Discussion and Analysis:

Customer Orders and Backlog

New orders from customers during fiscal 2003 totaled $324.2 million, a decrease of $27.4 million, or 7.8%, compared to customer orders of $351.6 million booked in fiscal 2002. In fiscal 2001, customer orders totaled $341.7 million. The negative trend in the last year is the result of continued weakness in North American and Asian Test segment markets, partially offset by increased volume in Europe. At this time, the Company does not anticipate a significant change in these economies in the near term. In fiscal 2003, the Company received one order in excess of $10 million, compared to three such orders in

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fiscal 2002 and one in fiscal 2001, all of which were within the Test segment. The Company has been notified of the potential cancellation of a customer order for $10.4 million. This order was included in year-end backlog in both fiscal 2003 and 2002. Orders increased as a result of the translation of foreign-denominated currency orders into U.S. dollars by $12.2 million in fiscal 2003. Excluding the impact of currency, fiscal 2003 orders would have been $312.0 million.

Orders for the Test segment totaled $274.7 million in fiscal 2003, a decrease of $33.5 million, or 10.9%, compared to customer orders of $308.2 million for fiscal 2002. Test segment orders for fiscal 2001 totaled $303.6 million. The Test segment booked 84.7% of total Company orders in fiscal 2003, compared to 87.7% for fiscal 2002 and 88.8% for fiscal 2001. Orders for the Test segment in the Americas and Asia were significantly down, while orders in Europe increased compared to fiscal 2002. The growth in Europe is largely due to continued demand for ground vehicle products. During fiscal 2003, the Company experienced reduced order demand in the global aerospace and infrastructure markets as customer restrictions on new capital spending continued. Fiscal 2002 orders were also higher due to a large project order with the Japanese government, which did not repeat in fiscal 2003.

Customer orders for the Industrial segment totaled $49.5 million for fiscal 2003, an increase of $6.1 million, or 14.1%, compared to customer orders during fiscal 2002 of $43.4 million. New customer orders for the Industrial segment in fiscal 2001 totaled $38.1 million. The increase reflects increased Sensors business volume in Europe from new markets and customer inventory replenishment. This segment accounted for 15.3% of total Company orders during fiscal 2003, compared to 12.3% and 11.2% in fiscal 2002 and fiscal 2001, respectively. During fiscal 2001, the Industrial segment experienced weak orders worldwide for sensors.

On a geographic basis, orders from customers located in the Americas totaled $146.7 million during fiscal 2003, down $28.5 million, or 16.3%, compared to orders of $175.2 million for fiscal 2002. Orders received in the Americas during fiscal 2001 totaled $169.5 million. International orders received during fiscal 2003 of $177.5 million increased by $1.1 million, or 0.6%, compared to orders received during fiscal 2002 of $176.4 million. International orders in fiscal 2001 totaled $172.2 million. The backlog of undelivered orders at September 27, 2003 totaled $159.3 million, a decrease of approximately $10.7 million, or 6.3%, compared to backlog of $170.0 million at September 28, 2002. Backlog at the end of fiscal 2001 totaled $146.2 million. The decrease in backlog is attributable to a decrease in long-cycle versus short-cycle orders in fiscal 2003. A reduction in large custom project orders accounted for the majority of the decrease in backlog. The Company believes backlog is not an absolute indicator of its future revenue because a substantial portion of the orders constituting this backlog could be cancelled at the customers’ discretion.

Revenue

Revenue of $340.1 million for fiscal 2003 increased $12.9 million, or 3.9%, compared to $327.2 million for fiscal 2002. Revenue for fiscal 2001 totaled $355.9 million. On a segment basis, revenue for the Test segment in fiscal 2003 totaled $292.0 million, comparing favorably to revenue of $287.0 million for fiscal 2002 and unfavorably to revenue of $316.1 million for fiscal 2001. The increase in revenue for fiscal 2003 was principally due to an increase in beginning backlog, partially offset by the timing of large custom projects. The decrease in revenue for fiscal 2002 was principally driven by the decline in capital spending in worldwide industrial and ground vehicles markets. The shorter cycle businesses, particularly those related to the ground vehicle markets, experienced the largest decline in revenue. Revenue in the Industrial segment totaled $48.1 million for fiscal 2003, compared to $40.2 million for fiscal 2002 and $39.8 million for fiscal 2001. Revenue in the Industrial segment increased in fiscal 2003 compared to fiscal 2002 largely due to sales into new markets as well as customer inventory replenishment in the European Sensors business and increased development revenues in the AeroMet business. Fiscal 2002 was negatively impacted by worldwide economic factors, which resulted in a significant drop in demand from fiscal 2001. Translating foreign-denominated revenue into U.S. dollars resulted in an increase in

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revenue in fiscal 2003 of approximately $17.6 million. Excluding the impact of currency, revenue in fiscal 2003 would have decreased by approximately $4.7 million compared to fiscal 2002.

Revenue of $157.3 million in the Americas for fiscal 2003 was flat compared to revenue of $157.9 million for fiscal 2002. Revenue in the Americas for fiscal 2001 totaled $169.3 million. Revenue in Europe of $119.4 million for fiscal 2003 increased $27.1 million, or 29.4%, compared to $92.3 million for fiscal 2002 and $95.2 million for fiscal 2001. Revenue of $60.5 million in Asia for fiscal 2003 decreased $16.1 million, or 21.0%, compared to $76.6 million for fiscal 2002 and $90.9 million for fiscal 2001. Other miscellaneous international revenue totaled $2.9 million, $0.4 million, and $0.5 million, respectively, for fiscal 2003, 2002, and 2001.

Although selective product price changes were implemented during each of the three fiscal years, the overall impact of pricing changes did not have a material effect on reported revenue.

Gross Profit

Gross profit as a percentage of revenue decreased to 37.4% for fiscal 2003 from 38.5% for fiscal 2002 and increased from 36.9% for fiscal 2001. The gross profit rate for the Test segment was 35.7% for fiscal 2003, down from 37.5% for fiscal 2002 and up from 35.2% for fiscal 2001, while the gross profit rate in the Industrial segment was 48.0% in fiscal 2003, roughly flat compared to 47.7% in fiscal 2002 and down from 49.7% in fiscal 2001. Gross profit in the Test segment decreased during fiscal 2003, primarily due to product mix. In addition, fiscal 2002 gross profit reflected high margins in the aerospace market, resulting from a large high-margin project which did not repeat in fiscal 2003. Unfavorable product mix in the Industrial segment was offset by increased sales volume, resulting in a flat gross margin rate for fiscal 2003 compared to fiscal 2002.

Translating foreign denominated revenue into U.S. dollars resulted in an increase in gross profit in fiscal 2003 of approximately $5.2 million. Excluding the impact of currency, gross profit in fiscal 2003 would have decreased by approximately $3.7 million compared to fiscal 2002.

Selling, General, and Administrative Expenses

Selling, general and administrative (“SG&A”) expenses as a percentage of revenue decreased 1.1 percentage points in fiscal 2003 compared to fiscal 2002. Selling expense increased in fiscal 2003 consistent with the fiscal 2003 increase in revenue, partially offset by the benefit of headcount reductions made in late fiscal 2002. General & administrative expenses decreased during fiscal 2003, principally due to $0.8 million of non-recurring audit and related fees associated with the Company’s fiscal 2002 and prior year restatement activity as well as the fiscal 2003 recovery of $0.5 million in bad debt previously written off. Over the past several years, the Company has focused on several initiatives in both the Test and Industrial segments aimed at overall cost control and the alignment of resources with current and anticipated economic conditions and with markets having the greatest potential.

SG&A expense in the Test segment decreased to $62.7 million in fiscal 2003 from $64.9 million and $72.7 million in fiscal 2002 and 2001, respectively. The reduction in fiscal 2003 was primarily due to

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fiscal 2002 non-recurring audit and related expenses, as well as the fiscal 2003 recovery of bad debt, which are both discussed above. In fiscal 2001, general and administrative expenses of the Test segment included a provision of $1.8 million related to the restructuring of the Company’s manufacturing facility located in France. The Company also recorded $0.6 million of expenses associated with the closure of its laboratory instruments business that was acquired as part of its acquisition of DSP Technology, Inc. (“DSP”).

SG&A expense in the Industrial segment in fiscal 2003 increased to $15.9 million from $14.1 million in fiscal 2002 and $13.5 million in fiscal 2001. The increase is primarily due to an increase in selling expense consistent with the increase in revenue in the Sensors business. Selling expense as a percentage of revenue decreased to 18.3% in fiscal 2003 from 19.7% in fiscal 2002 due to the benefit of headcount reductions in fiscal 2002.

Research and Development Expenses

The Company provides research and development (R&D) funds for equipment and software application development in the Test and Industrial segments. During fiscal 2003, approximately 80.0% of R&D spending was in the Test Segment, compared to 81.7% and 84.4%, respectively, in fiscal 2002 and 2001.

The overall decrease in R&D spending as a percentage of revenue over the three-year period is primarily due to management initiatives to focus spending on developments that have the greatest market potential and the highest return opportunity. As a result of these initiatives and management’s planned cutback in spending, R&D spending as a percentage of revenue decreased to 4.6% and 4.7% in fiscal 2003 and 2002, respectively, compared to 5.2% in fiscal 2001.

Interest Income (Expense)

Interest expense of $3.6 million in fiscal 2003 decreased compared to interest expense of $4.2 million and $5.1 million in fiscal 2002 and 2001, respectively, primarily due to reduced long-term debt obligations throughout the three-year period. Interest income of $2.2 million in fiscal 2003 increased compared to interest income of $1.2 million and $0.3 million in fiscal 2002 and 2001, respectively, resulting from interest earned on increased short-term investment balances in fiscal 2003 and 2002.

Gain on Investment
During fiscal 2002 the Company liquidated its investment in Mechanical Dynamics, Inc. The Company sold securities and recorded proceeds from the sale of $4.9 million, which produced a gain on sale of $2.6 million. This transaction represented the entire amount of the holdings.

Other Income, net
Other income for fiscal 2003 primarily derived from non-recurring proceeds from penalties associated with a canceled customer contract, partially offset by the negative impact of foreign currency exchange on the settlement of transactions. Other income for fiscal 2002 and 2001 primarily derived from the positive impact of foreign currency exchange on settlement of transactions.

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Operating Results

Income before income taxes, discontinued operations, and cumulative effect of accounting changes totaled $32.5 million for fiscal 2003, compared with $32.9 million for fiscal 2002, as increased revenue and income from operations in fiscal 2003 was more than offset by the impact of the one-time gain on sale of an investment recorded in fiscal 2002. Income before income taxes, discontinued operations, and cumulative effect of accounting changes for fiscal 2001 included a charge of $1.9 million (of which $1.3 million is reflected as an increase to Cost of Sales and $0.6 million as an increase to General and Administrative expense) related to the closure of its laboratory instruments business acquired as part of its acquisition of DSP Technology, Inc. (“DSP”). In addition, the Company also recorded a charge of $2.3 million in fiscal 2001 as a result of its decision to restructure operations in France. Translating foreign-denominated operating profit into U.S. dollars resulted in an increase in operating profit in fiscal 2003 of approximately $2.2 million. Excluding the impact of currency, operating profit in fiscal 2003 would have decreased by approximately $2.6 million compared to fiscal 2002.

Income from operations for the Test segment was $29.1 million in fiscal 2003, flat compared to $29.0 million for fiscal 2002, as lower gross margins were mitigated by reduced general and administrative expenses. Income from operations for the Test segment totaled $23.8 million in 2001. The significant increase from fiscal 2001 to fiscal 2002 was the result of improvements in the project management of large, complex custom projects, favorable product mix, and the benefit of cost and productivity initiatives. Income from operations for the Industrial segment increased to $4.0 million for fiscal 2003 from $2.2 million for fiscal 2002, primarily due to increased revenue. Income from operations for the Industrial segment totaled $2.6 million in fiscal 2001.

The effective tax rate for each of the years presented is impacted by the geographic mix of income, with foreign income generally taxed at higher rates than domestic income. In addition, the effective tax rate is favorably impacted by the Company’s foreign exports and qualified R&D costs. A greater percentage of the Company’s income was earned in foreign jurisdictions in fiscal 2003 compared to fiscal 2002 and 2001. Additionally, in fiscal 2002, the Company’s foreign exports were proportionately higher than in fiscal years 2003 and 2001, increasing the favorable rate impact of related tax deductions.

In fiscal 2003, income before discontinued operations and the cumulative effect of accounting changes, net of tax decreased to $21.3 million ($1.00 per diluted share), from $22.3 million ($1.04 per diluted share) for fiscal 2002 and increased from $15.6 million ($0.74 per diluted share) for fiscal 2001.

Discontinued Operations

During the second and third quarters of fiscal 2003, the Company sold its Automation division, which was based in New Ulm, Minnesota and also maintained operations in Montgomeryville, Pennsylvania and Freiburg and Straslund, Germany. On March 31, 2003, the Company sold substantially all of the net assets and intellectual property associated with the Automation division’s gradient amplifier product line. On April 11, 2003, the Company sold all the remaining net assets of the North American Automation division, based in New Ulm, Minnesota and on April 30, 2003 sold, to the same buyer, its stock in the Automation division’s German operations, which completed the sale of the Company’s entire Automation division and its exit from the motor and amplifier business. In March 2003, the Company discontinued

17

the custom military business of its Automation division. As a result of these sales, the Company recorded a loss of $1.2 million, net of taxes.

The Automation division was historically included in the Company’s Industrial segment for financial reporting, and the results of the operations of the Automation division have been reported as discontinued operations.

Following are the operating results of the discontinued operations included in the Company’s results for the respective periods:

At September 28, 2002, assets of discontinued operations consisted primarily of inventory, accounts receivable and property and equipment of $6.6 million, $4.7 million, and $2.7 million, respectively, and liabilities of discontinued operations of $1.8 million consisted primarily of accounts payable and accrued payroll and related costs.

Cash Flows
Overall cash flow has significantly improved from fiscal 2001 due to the Company’s focus on working capital improvement initiatives. During fiscal 2003, cash and cash equivalents increased by $11.7 million, and short-term investments increased by $23.5 million.

Cash flows from operating activities provided cash of $55.3 million during fiscal 2003, compared to $84.3 million generated in fiscal 2002 and $38.1 million generated in fiscal 2001. The decrease in cash provided by operating activities during fiscal 2003 compared to fiscal 2002 was principally due to significant improvements in accounts receivable and inventory made during fiscal 2002. The impact of these actions resulted in accounts receivables and inventory balances, in the aggregate, decreasing by $26.5 million more in fiscal 2002 than in fiscal 2003.

 Investing activities consumed cash of $17.4 million during fiscal 2003, compared to cash usages of $35.3 million in fiscal 2002 and $8.1 million in fiscal 2001. During fiscal 2003, the Company invested $84.6 million in short-term investments and $6.6 million for additions to property and equipment, partially offset by realized proceeds of $61.1 million and $12.6 million from the maturity of short-term investments and the sale of businesses, respectively. During fiscal 2002, the Company invested $35.1 million in short-term investments and $5.1 million in property and equipment, and realized proceeds of $4.9 million from the sale of its investment in Mechanical Dynamics, Inc. stock. During fiscal 2001, cash invested was used for additions to property and equipment.

 Cash flows from financing activities required the use of cash of $29.9 million during fiscal 2003, primarily as a result of the repurchases of the Company’s common stock of $16.5 million, repayment of interest-bearing debt of $15.4 million, and payment of cash dividends of $5.1 million, partially offset by $7.0 million received in connection with employees’ exercise of stock options and purchases under the Company’s stock purchase plan. During fiscal 2002, the Company used $11.5 million of cash for financing activities, primarily for the net repayment of interest-bearing debt of $7.0 million, payment of cash dividends of $5.1 million, and repurchases of its common stock of $1.5 million, partially offset by funds received in connection with employees’ exercise of stock options and purchases under the Company’s stock purchase plan. During fiscal 2001, the Company used cash of $19.9 million for financing activities, primarily for the net repayment of interest-bearing debt of $16.6 million, payment of cash dividends of $5.0 million, and repurchases of its common stock of $2.7 million, partially offset by funds received in connection with employees’ exercise of stock options and stock purchases.

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Liquidity and Capital Resources
The Company believes that its anticipated operating cash flow, funds available from cash equivalents and short-term investments totaling $132.7 million at September 27, 2003, and unused financing sources are adequate to fund ongoing operations, capital expenditures, and share repurchases, as well as to fund opportunities to grow its business organically and through business acquisitions.

At September 27, 2003, the Company’s contractual obligations are as follows:

The Company had no amounts outstanding on its primary $25 million revolving bank credit facility during fiscal 2003. The Company’s primary foreign subsidiaries also have committed and uncommitted bank facilities available on either a freestanding basis or with guarantees from the Company. At September 27, 2003, the Company was in compliance with the financial terms and conditions of each of its debt and credit facility agreements.

Total interest-bearing debt at September 27, 2003 was $37.7 million, down from $52.0 million at September 28, 2002. Operating leases are primarily for office space related to sales and service offices. Letters of credit and guarantees are primarily issued to secure advance payments received and performance on project contracts. At September 27, 2003, the Company had letters of credit outstanding totaling $ 48.1 million and guarantees totaling $11.6 million.

Shareholders’ Investment increased by $13.8 million during fiscal 2003, to $176.1 million. The change in Shareholders’ Investment during fiscal 2003 was primarily the result of profitable operating results, foreign currency translation gains of $7.3 million, funds and related tax benefits received from the exercise of employee stock options, and employee purchases of the Company’s stock under its stock purchase plan of $8.1 million. This increase was partially offset by $16.5 million in repurchases of the Company’s stock and $5.1 million in payment of cash dividends.

Changes in Foreign Currency Exchange Rates
The Company conducts business in countries outside the United States and is exposed to market risk from changes in foreign currency exchange rates that can affect its operating results and financial condition. To minimize this risk, the Company manages exposure to changes in foreign currency rates, principally through forward currency exchange contracts to set the dollar value of expected foreign currency-denominated assets, liabilities, and transactions. Gains and losses on these contracts offset gains and losses on the assets, liabilities, and transactions being hedged.

Historically, approximately 50-55% of the Company’s revenue results from shipments to customers outside the United States, and about 65% of this revenue (approximately 30% of the Company’s total revenue) is denominated in currencies other than the U.S. dollar. As a result, a strengthening of the U.S. dollar relative to foreign currencies decreases the foreign currency-denominated revenue and earnings when they are translated to U.S. dollars. Conversely, a weakening of the U.S. dollar has the reverse effect on revenue and earnings. Gains and losses attributed to translating the financial statements for all non-U.S. subsidiaries are included in the currency translation adjustments.

The gains and losses on foreign currency transactions and on the translation of current foreign currency-denominated assets and liabilities are included in Other Income, net in the accompanying consolidated statements of income. Mark-to-market gains or losses on transactions designated as exposures in the

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Company’s currency hedging program, as well as on the translation of non-current assets and liabilities, are reported in Other Comprehensive Income on the balance sheet.

Restructuring and Other Charges
During fiscal 2003, the Company had no significant restructuring activities related to business consolidation other than the discontinuation of its Automation division (see Note 2 to the Consolidated Financial Statements).

During fiscal 2002, the Company consolidated its Electromechanical Testing Division into Eden Prairie, Minnesota from Raleigh, North Carolina. The physical move of the business and the facility closure were completed during fiscal 2002. As a result of the consolidation, the Company recorded a $0.4 million charge for severance-related costs and a $0.6 million charge to write down inventory. Substantially all of the severance costs were paid during fiscal 2002.

During fiscal 2001, the Company recorded a restructuring charge of $2.3 million as a result of the closure of its manufacturing operations in France and the transfer of this product line to its Electromechanical Testing Division in North Carolina. Substantially all the necessary cash outlays were completed during fiscal 2001. These costs were financed primarily with funds from continuing operations and borrowings under the Company’s bank line of credit. In addition, during fiscal 2001 the Company recorded a restructuring charge of $1.9 million related to the discontinuation of a line of data acquisition products acquired as part of its 1999 acquisition of DSP Technology, Inc. (“DSP”) in 1999. This included a provision for severance costs of $0.8 million, the write-off of leasehold improvements and production and other equipment of $0.3 million, and other costs of $0.8 million associated with closure of the facility, the wind-down of the related product line, excess and obsolete inventory, uncollectible receivables and the write-off of fixed assets. Of the total $1.9 million, $1.3 million was charged to Cost of Sales and $0.6 million was charged to General and Administrative Expense. The activity related to the provision was materially complete at September 30, 2001, and no additional charges were incurred during fiscal 2002.

For the three years ended September 27, 2003, September 28, 2002, and September 30, 2001, the reserve for restructuring is as follows:

Recent Accounting Pronouncements

In November 2002, the Emerging Issues Task Force finalized its tentative consensus on EITF Issue 00-21, “Revenue Arrangements with Multiple Deliverables,” which provides guidance on the timing of revenue recognition for sales undertakings to deliver more than one product or service. The Company adopted EITF 00-21 on transactions occurring in fiscal periods beginning after June 15, 2003, as required.

In light of EITF 00-21, orders that are manufactured and delivered in less than six months with routine installations and no special acceptance protocol are considered to involve separable elements. Sufficient evidence of fair value of these elements exists to allow revenue recognition for these systems upon shipment, less the greater of the fair value associated with installation and training (if applicable) or the amount of revenue that is deemed contingent upon these elements, which is deferred until customer acceptance. In cases where special acceptance protocols exist, installation and training are not considered to be separable from the other elements of the arrangement. Accordingly, revenue for these

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systems is recognized upon the completion of installation and fulfillment of obligations specific to the terms of the arrangement.

For contracts that involve delivery periods generally longer than six months, due to the complexity of installation and acceptance terms, the design, manufacture and installation elements of such arrangements, in aggregate, fall within the scope of accounting literature prescribing percentage-of-completion accounting through customer acceptance. However, in light of EITF 00-21, when elements that would not separately fall within the scope of accounting literature prescribing percentage-of-completion accounting are included in an arrangement, the fair value of these elements is separated from the arrangement and accounted for as such services are provided.

The adoption of EITF 00-21 did not have a material effect on the Company’s fiscal 2003 financial statements.

In April 2003, the FASB issued Statement of Financial Accounting Standard (“SFAS”) No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging,” which amends and clarifies financial accounting and reporting for derivative instruments. SFAS No. 149 is effective for contracts entered into or modified after June 30, 2003 and for hedging relationships designated after June 30, 2003. The Company has concluded there will be no material impact of its adoption.

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity,” which establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. SFAS No. 150 was adopted by the Company in fiscal 2003. The Company does not have any activities that are subject to the requirements of SFAS No. 150.

Dividends and Other Stock Matters
The Company’s dividend policy is to maintain a target payout ratio of 25% of earnings per share over the long term. The Company paid quarterly dividends of $0.06 per share during fiscal 2003, 2002 and 2001.

During fiscal 2003, the Company repurchased 1.2 million shares of its common stock at an average cost of $13.21 per share. Pursuant to plans adopted by its Board of Directors during May 2001 and 2002, the Company has authorization to repurchase an additional 0.7 million shares of its common stock. The Company repurchased 0.1 million shares of its common stock at an average cost of $10.23 per share in fiscal 2002 and 0.2 million shares in fiscal 2001 at an average cost of $8.19 per share. The primary objective of the share repurchase program is to offset the dilutive effect of shares of common stock issued in connection with its employee stock option and employee stock purchase programs. During the three years ended September 27, 2003. September 28, 2002, and September 30, 2001, the Company issued approximately 0.8 million, 0.3 million, and 0.6 million shares, respectively, of its common stock under the stock option and stock purchase programs.

Quarterly Stock Activity and Financial Information⁽¹⁾
Revenue and operating results reported on a quarterly basis do not necessarily reflect changes in demand for the Company’s products or its operating efficiency. Revenue and operating results in any quarter can be significantly affected by customer shipment and/or installation timing or the timing of the completion of one or more systems where revenue is recognized upon shipment or customer acceptance rather than on the percentage-of-completion accounting method. The Company’s use of the percentage-of-completion revenue recognition method for large, long-term projects generally has the effect of smoothing significant fluctuations from quarter to quarter. See Note 1 to the Consolidated Financial Statements for additional information on the Company’s revenue recognition policy. Quarterly earnings also vary as a result of the use of estimates including, but not limited to, the rates used in recording federal, state, and foreign income tax expense. See Notes 1 and 6 to the Consolidated Financial Statements for additional information on the Company’s use of estimates and income tax related matters.

Quarterly stock information for the fiscal years ended September 27, 2003 and September 28, 2002 is as follows:

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Selected quarterly financial information for the fiscal years ended September 27, 2003 and September 28, 2002 is as follows:

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Forward-Looking Statements

Statements included or incorporated by reference in this Management’s Discussion and Analysis of Financial Condition and Results of Operations, elsewhere in this Form 10-K, in the Company’s 2003 Annual Report to Shareholders, in the proxy statement for the annual meeting to be held in January 2004, and in the Company’s press releases and oral statements made with the approval of an

23

authorized executive officer, which are not historical or current facts are “forward-looking” statements, as defined in the Private Securities Litigation Reform Act of 1995, and are subject to certain risks and uncertainties that could cause actual results to differ materially from historical results and those presently anticipated or projected. The following important factors, among others, could affect the Company’s actual results in the future and could cause the Company’s actual financial performance to differ materially from that expressed in any forward-looking statements:

The foregoing list is not exhaustive, and the Company disclaims any obligation to revise any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events.

Item 7A.     Quantitative and Qualitative Disclosures About Market Risk

The Company is exposed to market risks from changes in foreign exchange and interest rates. Additional information relative to these risks is included in Management’s Discussion and Analysis of Financial Condition and Results of Operations on page 19 and in Note 1 to the Consolidated Financial Statements included in Item 8 of this Form 10-K.

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Foreign Currency Exchange Rates

The Company is directly exposed to the financial impact of market changes in currency exchange rates on orders, revenue, and net income, as well as on the translated U.S. dollar value of foreign currency-denominated assets and liabilities. This is in addition to the indirect impact of changes in currency exchange rates on interest rates and overall business activity.

Currency gains and losses from the settlement of foreign currency-denominated transactions and changes in the translation of current assets and liabilities denominated in foreign currency are reported as part of “Other income, net” in the Consolidated Statements of Income included in Item 8 of this Form 10-K. Currency gains and losses on specifically identified and hedged transactions, as well as changes in the translated value of long-term assets and liabilities denominated in foreign currency, are reported directly in Other Comprehensive Income on the balance sheet.

For illustrative purposes, the following table restates financial results utilizing currency exchange rates from the prior year to hypothetically isolate the impact of currency on the following financial items:

A weakening of the U.S. dollar relative to foreign currencies increases the value of foreign currency-denominated revenue and earnings translated into U.S. dollars. Conversely, strengthening of the U.S. dollar decreases the value of foreign currency-denominated revenue and earnings. During fiscal 2003, the U.S. dollar was generally weaker against other major currencies, declining by approximately 15% against the Euro and 8.9% against the Yen. Gains and losses attributed to translating the financial statements for all non-U.S. subsidiaries are included in the currency translation adjustments.

A hypothetical 10% appreciation in foreign currencies against the U.S. dollar, assuming all other variables were held constant, would have resulted in an increase in fiscal 2003 revenues and asset balances of approximately $13.2 million. A hypothetical 10% depreciation in foreign currencies against the U.S. dollar, assuming all other variables were held constant, would have resulted in a decrease to fiscal 2003 revenues and asset balances of approximately $13.2 million.

The Company regularly assesses its exposure to changes in market currency rates and employs certain practices to protect against possible adverse effects of this risk. The Company utilizes forward currency exchange contracts to hedge the U.S. dollar value of foreign currency-denominated transactions, assets and liabilities. See Note 1 to the Consolidated Financial Statements included in Item 8 of this Form 10-K.

Interest Rates

The Company is directly exposed to changes in market interest rates on monetary assets and liabilities such as cash, short-term investments, and debt, as well as indirectly exposed to the impact of market rates on currency rates and overall business activity.

On floating-rate investments, increases and decreases in market interest rates will increase or decrease future interest income, respectively. On floating-rate debt, increases or decreases in market rates will increase or decrease future interest expense, respectively. On fixed-rate investments, increases or decreases in market interest rates do not impact future interest income but may decrease or increase the fair market value of the investment, respectively. For fixed-rate debt or other interest-bearing

25

obligations, increases or decreases in market interest rates do not impact future interest expense, but may decrease or increase the fair market value of the debt, respectively.

At September 27, 2003, the Company had floating-rate cash equivalent and short-term financial investments of $45.7 million. A hypothetical increase or decrease of 100 basis points, or 1%, in market interest rates could increase or decrease interest income by $0.5 million per annum. The Company had an insignificant amount of short-term debt outstanding at the end of fiscal 2003 and therefore would not be materially impacted by increases or decreases in market interest rates on interest expense.

The Company had $68.4 million in fixed-rate financial investments at the end of fiscal 2003. A hypothetical 100 basis point, or 1%, increase or decrease in market rates would increase or decrease the fair market value of these investments by $0.7 million.

A discount rate of 5.5% and an expected rate of increase in future compensation levels of 3.1% were used in the calculation of the accrued pension liability related to one of the Company’s international subsidiary’s non-contributory, unfunded retirement plan.

Item 8.     Financial Statements and Supplementary Data

The Company’s audited financial statements and notes thereto described in Item 15(a) of this report on Form 10-K and appearing on pages F-1 through F-23 of this report are incorporated by reference herein. See also “Quarterly Financial Data” appearing in the Management Discussion and Analysis under Item 7 of this 10-K, which is incorporated herein by reference.

Item 9.     Changes in and disagreements with accountants on accounting and financial disclosures

On June 7, 2002, the Company filed a Current Report on Form 8-K reporting that on May 31, 2002, the Company’s Board of Directors dismissed Arthur Anderson LLP and engaged KPMG LLP as the Company’s independent public accountants for the Company’s fiscal year ended September 28, 2002.

Item 9A.   Controls and Procedures

The Company’s management, including the Chief Executive Officer and Chief Financial Officer, have conducted an evaluation of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Rule 13a-15 under the Securities Exchange Act of 1934 (the “1934 Act”) as of September 27, 2003. Based on that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective in ensuring that information required to be disclosed by the Company in the reports it files or submits under the 1934 Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

There have been no changes in internal control over financial reporting during the fiscal quarter ended September 27, 2003 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

Part III

Item 10.    Directors and Executive Officers of Registrant

The required information with respect to the directors of the Registrant and information regarding compliance with Section 16(a) of the Securities Exchange Act of 1934 is incorporated herein by reference to the information set forth under the headings “Election of Directors” and “Section 16(a) Beneficial Ownership Reporting Compliance” in the Registrant’s Proxy Statement for the Annual Meeting of Shareholders scheduled to be held on January 27, 2004. Information regarding the Company’s executive officers is contained under Item 1 of this annual report.

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Item 11.    Executive Compensation

The information required by this Item is incorporated herein by reference to the information set forth under heading “Executive Compensation” (except as expressly set forth therein) in the Registrant’s Proxy Statement for the Annual Meeting of Shareholders scheduled to be held on January 27, 2004.

Item 12.    Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

The information required by this Item is incorporated herein by reference to the information set forth under headings “Security Ownership of Principal Shareholders and Management” and “Equity Compensation Plan Information” in the Registrant’s Proxy Statement for the Annual Meeting of Shareholders scheduled to be held on January 27, 2004.

Item 13.    Certain Relationships and Related Transactions

None.

Item 14.    Auditor Fees and Services

The information required by this Item is incorporated by reference to the information set forth under the heading “Approval of Auditors — Audit Fees” in the Registrant’s Proxy Statement for the Annual Meeting of Shareholders scheduled to be held on January 27, 2004.

PART IV

Item 15.    Exhibits, Financial Statement Schedules and Reports on Form 8-K

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28

29

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SIGNATURES

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

Date:  December 12, 2003

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated:

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MTS Systems Corporation and Subsidiaries

Index to Financial Statements

F-1

Independent Auditors’ Report

The Board of Directors and Shareholders
MTS Systems Corporation:

We have audited the accompanying consolidated balance sheets of MTS Systems Corporation and subsidiaries as of September 27, 2003 and September 28, 2002 and the related consolidated statements of income, shareholders’ investment and cash flows for each of the fiscal years in the three-year period ended September 27, 2003. In connection with our audits of the consolidated financial statements, we also have audited the financial statement schedule as listed in the accompanying index. These consolidated financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule based on our audits.

We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, 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 statements referred to above present fairly, in all material respects, the financial position of MTS Systems Corporation and subsidiaries as of September 27, 2003 and September 28, 2002 and the results of their operations and their cash flows for each of the fiscal years in the three-year period ended September 27, 2003, in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

As discussed in Note 1 to the consolidated financial statements, the Company changed its method of accounting for revenue recognition in fiscal year 2001. Also as discussed in Note 1 to the consolidated financial statements, the Company changed its method of accounting for goodwill in fiscal year 2002.

Minneapolis, Minnesota,
November 14, 2003

F-2

Consolidated Balance Sheets
(September 27 and September 28, respectively)