Correction: In the original version of this article, the author included Frank Quattrone in a list of financial wrongdoers. Mr. Quattrone, a former investment banker with Credit Suisse First Boston, was convicted on three counts of obstruction of justice relating to a criminal investigation into the allocation of shares in hot Internet IPOs, but he was not charged in any financial crime. We regret the error.
Wisconsin-based small appliance maker National Presto Industries
Not that holding too much cash is illegal, unless you happen to be holding it while trying to get on an international flight. But under certain statutes of the Investment Company Act of 1940, companies holding more than 40% of their assets in investment securities can be reclassified as investment companies, requiring them to comply with a large number of additional SEC regulations.
With cash and investments accounting for nearly 80% of Presto's asset base, the company would certainly be a logical candidate for regulation under the 1940 Act. But Presto's management contends that the company is simply extraordinarily cautious with its assets; it would like to make more acquisitions and put its capital to use in a more productive way, but very few opportunities have met its requirements.
So, we have a debt-free company that trades at $260 million, only $46 million more than its cash and equivalents -- the small appliance business comes for next to nothing. At one point in time, even Yahoo!
Honey, I blew up the company
A look at the wreckage of National Presto's competition suggests strongly that the company's caution and prudence is warranted, however.
Heck, just take a look at Salton
Think about that for a minute. For each dollar of business that Salton rang up for the quarter, it lost $0.30. In its conference call, Salton officials noted that they're going to undergo a cost-cutting operation to eliminate more than $40 million in expenses, and that their quarter was miserable by virtue of the company's spending madly to defend its shelf space at retailers. Got that? Don't be surprised when Salton collapses.
Salton's a complete mess. Its growth in top line from last year came in no small part from its consolidation of a South African subsidiary's results. Sales of Salton's big breadwinner appliance, the George Foreman Grill, have fallen precipitously, and the company's found nothing to replace it. Perhaps most importantly, and what I want to focus on here, is the ability of the big-box retailers to squeeze every ounce of economic return from the small appliance industry.
Salton does nearly 40% of its business with five companies, including Wal-Mart
Salton shares fell almost 50% yesterday.
While the above might suggest that the company's competitors -- ahem -- are eating its lunch, a quick look at their financial statements show this isn't the case. Small home appliances is quite simply a business with lousy overall economics.
Salton's the latest in a long line of acquisition-driven blowups and poor performers, including Sunbeam, Windmere, Rubbermaid -- now part of Newell Rubbermaid
Presto, but no change-o
Rest assured, Presto has no desire to follow in Salton's footsteps. That's why it's stayed the course, increasing its liquid assets and fortifying against competition and a tough business environment.
In 1996, Presto's Chairman Emeritus and largest shareholder, Melvin Cohen, acidly noted to an analyst offering to "monitor" Presto that the small appliance industry "is under siege, with none of us showing any immediate promise of acceptable profitability."
Presto's an interesting story. In the 1960s and 1970s, both Benjamin Graham and Warren Buffett heaped praise on the company and its management, with Buffett calling Melvin Cohen one of his "home run hitters" at a time when Buffett's partnership held Presto stock. The Cohen family owns more than 35% of the company stock, with Melvin having handed the title of CEO over to his daughter, MaryJo, in 1994. Both Cohens are lawyers by training, and the company's culture and management style show no apparent change from father to daughter. MaryJo may be one of the most meagerly compensated CEOs in America, with a salary of $64,000, a modest bonus, and no stock options. There's certainly no reason for her to pay herself so little -- she could easily treat the company like an ATM, the same as many management/owners have done with their shareholder equity. No reason besides principle, I should say.
Our industry stinks
You would have to search far and wide for a company that sports a more bluntly honest annual letter to shareholders than National Presto. While we've often joked that one should look askance of companies using the word "challenging" in their letters to shareholders, we don't really know what to do with the "grims," "beleaguereds," "brutals," and "bitter disappointments" that one finds in these pages. The bright side of this should be obvious -- one does not get to the end of a National Presto annual report and wonder how the company is really doing. They've told you, warts and all, exactly what's happening with the company and industry. It's refreshing, earnest, and seems a little out of place in a world of carefully crafted corporate communiques -- the equivalent of a poet making his case in a show dominated by carnival barkers.
Which to my mind is what is so strange about the rabid focus of the SEC on this particular company. Yes, a securities lawyer I spoke with suggests that under some interpretations of the 40 Act, Presto could possibly be designated an investment company. The SEC first launched its investigation into National Presto in 1999, and filed suit in 2002, which remains unresolved. If they were seeking some mea culpas and rapid acquiescence from a terrified target, they clearly hadn't been paying attention to the iconoclasm of the Cohens. National Presto has refused to admit any wrongdoing and states emphatically that its level of conservatism is in no small part due to watching the experiences of its peers, which have a nearly unblemished string of destroyed capital from acquisitions. National Presto could have gone out and made some rash acquisitions to make the SEC go away, but they still stuck to their guns.
One question remains unanswered -- why, in the late 1990s did the SEC pick on National Presto? The period that we're talking about may go down as the golden age of big-dollar frauds. Adelphia, WorldCom, Enron, Tyco
One theory I hold is that the SEC thought that National Presto might prove an easy "victory" following this succession of highly public failures. In 1999, the New York Society of Securities Analysts (NYSSA) nearly inexplicably chose National Presto as its subject for a project on corporate governance. The NYSSA project was a disaster, with its analysts making recommendations that National Presto devote huge amounts of capital to advertising products that already had razor-thin margins. One analyst, John Tully, noted that National Presto would do much better by its investors if it invested substantially all of its liquid assets and working capital "in conservative ventures generating only 10% returns."
The Cohens' collective responses to this study were rightly contemptuous, stating that if they could find such an unidentified opportunity, they'd invest in it instantly. The helpful folks from NYSSA did not include a list of candidates, unfortunately. The SEC's interest in National Presto in the first place came close on the heels of a call from a Wall Street Journalreporter requesting comment on the as-of-yet unreleased NYSSA report. A full read of Melvin and MaryJo Cohen's responses to this report is a treat.
National Presto cannot in any way be accused of candy coating the condition of its core home appliance business. If there were any question whatsoever that the company wasn't just seeing dead people, the blowup of Salton clinches it. This is a business without much potential of economic earnings absent new blockbuster products, which are increasingly hard to come by. Maybe NYSSA has a list of those, too.
Making the grade
National Presto has, in this environment, managed something fairly remarkable: Its stock returns, with dividends reinvested, nearly matched the S&P 500 in the period from 1997 to 2002, compared to the -50% average return of its peer group. In 2001, National Presto did make two acquisitions, an absorbent product division and AMTEC, a defense business delivering rapid revenue growth, albeit from a small base. These acquisitions have done very little to help National Presto get anywhere close to that magical 40% plateau to get the SEC off its back.
What I can't understand is why the SEC bothers with this case. This isn't a fraud, there aren't shareholder suits galore against National Presto -- management's conservatism must get at least some of the credit for keeping the company from suffering the same fate as substantially all of its competition.
Each SEC chairman for the last several years has bemoaned the insufficient funding for enforcement and interdiction of fraud. I've got a great idea -- why doesn't the SEC deploy some of the folks who have spent years trying to nail this company for being too conservative to cases that actually include fraud and destruction of shareholder capital?
Bill Mann's pretty sure that a good place to start would be all those bozos hyping penny stocks over the Internet. Bill owns shares in several companies, none of which were mentioned here. The Fool has a disclosure policy.