National Presto Report

National Presto Analysis
Prepared by: John R. Pangere October 2011
National Presto Industries (NYSE: NPK)

Date of Report: Current Price: 52-week range: Average Daily Volume: FY 2010 EPS (Reported): FY 2010 P/E: Dividend Yield: Index Membership: 10-15-2011 $95.96 $83.00 - $137.00 37,474 $9.26 10.37 8.49% NYSE Shares Outstanding (Millions): 6.864 Institutional Holdings: 46% Fiscal Year Ends: 31-Dec FY 2011 Net Income (Millions): $63.5 Book Value, as reported (Millions): $344 Market Cap. (Millions): $659 Price/Book Value: 1.92x Industry: Diversified
Business Description:
National Presto Industries, Inc. (National Presto) operates through its three segments: Housewares/Small Appliance Products, Defense, and Absorbent Products. The Housewares/Small Appliance segment designs, markets and distributes housewares and small electrical appliances, including pressure cookers and canners, kitchen electrics, and comfort appliances. The Defense Products segment manufactures 40 millimeter ammunition, precision mechanical and electro-mechanical assemblies, medium caliber cartridge cases, and performs Load, Assemble and Pack (LAP) operations on ordinance-related products primarily for the United States government and prime contractors. The Absorbent Products segment manufactures and sells primarily private label adult incontinence products and diapers. The company was founded in 1905 in Eau Claire, Wisconsin and known then as Northwestern Steel & Iron Works.
Investment Thesis With the stock currently selling at a price near its 52-week low, the company is priced at a compelling valuation. National Presto has a long history of positive earnings and cash flow, and in the past 10 years, has only recorded a negative free cash flow once due to an abnormally large amount of capital expenditures. Since it reached its high of $137/share, National Presto stock has fallen 30% to its current price of $95.96/share. This is partially due to increased commodity costs affecting the Housewares and Absorbent Products segments, as well as decreased shipments of products across all segments. Despite the current struggles, National Presto has proven it is capable of weathering economic downturns through its shrewd operating practices.
Copyright 2011 by John Pangere. All rights reserved. Sources: National Presto Company filings and presentations, ETrade, Personal Calculations, Google Finance, Yahoo Finance, imf.org, bea.gov

Sales 2010 2009 2008

*Numbers in thousands
479,000 478,468 448,227
Gross Profit 113,574 110,092 80,214
Gross Margin 23.71% 23.01% 17.90%
Operating Profit 97,082 91,347 63,281
Operating Margin 20.27% 19.09% 14.12%
As you can see, National Presto has been able to produce solid income and substantial profits through the last three years, all while operating with minimal Selling, General & Administrative (SG&A) expenses compared to overall sales. Since 2001, SG&A expenses as a percentage of net sales have declined from 9.65% in 2001 to 3.71% in 2010, meaning National Presto has become much more efficient in running its business, all while sales have grown 300% since 2001, from $119.75 million to $479 million. As it continues to grow, it may become increasingly difficult to increase sales and profits on a much larger scale, yet the companys earnings power should remain intact, especially if the company is able to maintain the level of its SG&A expenses at its current percentage of sales. Currently, National Presto is selling at a trailing-twelve-month (TTM) price/earnings ratio of approximately 11.5x. The company typically sells between 14x and 19x earnings. A return to those P/E levels will result in a return of approximately 22% to 66% from its current valuation. The company has a strong balance sheet. National Presto has a pristine balance sheet with zero debt and approximately $151 million in cash and securities. This has been the norm at National Presto, with the company operating with zero debt over the past 10 years and carrying, on average, $171 million of cash and securities on hand. This practice allows National Presto to weather economic downturns with little exposure to the possibility of bankruptcy. Currently, National Presto is selling at a stated book value of 1.92x ($50.11/share). Taking into consideration my revised estimates of NPKs book value of $51.49/share, the company is selling at 1.86x book value. The company is capital efficient. Capital efficiency, in effect, allows a company to produce its wares or services with little capital expended to maintain and grow its business when compared with the returns it affords shareholders. In the case of National Presto, the company has returned the following amounts to shareholders as a percentage of gross profit:

Year 2011 2010 2009 2008 2007 2006 2005 2004 2003 2002
Dividends Paid 56,628 55,889 38,008 29,067 25,958 14,476 11,394 7,977 6,284 6,290 Average Payout
% of Gross Profit 49.86% 50.77% 47.38% 38.07% 46.07% 37.82% 28.44% 17.51% 16.87% 24.79% 35.76%
*Numbers in thousands. Dividends paid are based on the previous years results (i.e. 2011 dividends paid from 2010 results)
What this means is that National Presto does not require much more capital expended as it continues to grow, and it is able to pay out to its owners a larger and larger percentage of what it earns as it grows. As shown above, National Presto has paid out, on average 36% of its gross profit to shareholders, all while growing its operations without the issuance of debt. In comparison, National Presto has, on average, spent approximately 17.5% of its gross profit on capital expenditures over the last 10 years. The company is run by owner/operators. Insiders of National Presto currently own 30% of outstanding stock, while institutions currently own 46% of outstanding stock. This helps to align the interests of insiders with those of shareholders. The roster of insiders and their percentage of outstanding stock owned is as follows:
Beneficial Owner Maryjo Cohen (CEO) Donald E. Hoeschen Lawrence J. Tienor Randy F. Lieble Patrick J. Quinn Douglas J. Frederick Joseph G. Stienessen Richard N. Cardozo All Officers & Directors Number of Shares Owned 2,063,406 550 1915 1247 200 465 2,067,783 Percent of Common 30 30.1

Beneficial ownership of 5% or more is reported as follows (excluding Maryjo Cohen):

Beneficial Owner Royce & Associates Royce Special Equity Fund BlackRock, Inc. Number of Shares Owned 772,212 593,700 356,923 Percent of Common 11.2 8.6 5.2
The company is shareholder friendly, returning the majority of cash flow to investors every year. National Presto operates in such a way so as to return the bulk of its earnings to shareholders, while still maintaining approximately $171 million in cash and equivalents year after year, as well as operating with little-to-no leverage (debt). Over the past ten years, National Presto has returned $36.79/share to shareholders in the form of regular and special dividends. The payout of dividends per share to shareholders since 2002 has been as follows:
2011 2010 2009 2008 2007 2006 2005 2004 2003 2002 Total 8.25 8.14 5.55 4.25 3.80 2.12 1.67 1.17 0.92 0.92 36.79
Why is this significant? The price per share of National Presto 10 years ago in October of 2001 was approximately $27/share. At that price, the shareholder who has continued to hold over the same time period has earned back more than the capital expended to buy shares of the company, as well as been a part of the capital appreciation the stock has had over the same time period. In all, the total return over that ten year holding period has been approximately 392%, or approximately 17% compounded per year. National Prestos dividend policy is to pay the dividend once per year, rather than quarterly, in order to assess the previous years performance and pay the regular $1/share dividend in conjunction with the special dividend obtained and paid from operating earnings. This policy

allows the company the flexibility to continue paying the bulk of earnings to shareholders without compromising the companys balance sheet. If the total amount of money paid for dividends was declared as a regular dividend, the company may face pressure in paying the stated dividend, and therefore seek other measures to do so. By declaring a special dividend after assessing the previous years performance, this potential risk turns into a conservative and prudent policy. In essence, the holder of National Presto has paid off the initial investment in less than 10 years just by collecting dividends and essentially owns the stock for free. Should this payout of earnings continue in the future, the holder of National Presto will be rewarded over the next ten years just as in the past ten years, provided the shares are purchased at a reasonable price. At its current price, National Presto is yielding approximately 8.5%. Over the last 10 years, National Presto has typically yielded between 5% and 7.25%. A return to a more typical yield would value the shares at a high of $165/share, which would result in a gain of 72%, and a low of approximately $114/share, which would result in a gain of 19%. (Please note: the yield figures represent the declared dividend of $1/share plus the special dividend that has been paid since 2004.)
Investment Risks The company relies on three main customers. During FY 2010, National Presto relied on three customers for the bulk of its business. In the Housewares segment, WalMart accounted for 11% of consolidated net sales. In the Defense segment, the US Department of Defense accounted for approximately 50% of consolidated net sales. In the Absorbent Products segment, the company had one customer, Medline Industries, which accounted for 11% of consolidated net sales. In addition, Medline Industries, the sole customer of the Absorbent Products segment, is building its own factory to produce absorbent products. Medline Industries has stated that their relationship and purchase of products from National Presto will remain intact after the production facility is on-line in the third quarter, but that remains to be seen and may affect National Prestos net sales. If any one of these customers is lost, sales and free cash flow may be severely impacted. While the Defense segment comprises 50% of consolidated sales, there is no reason to believe that

the segment will lose its sole customer in the near future. This is due to the renewal of a 5-year contract to manage and produce 60% of the US Armys 40mm Ammunition System. (The US Army contracted National Presto and one other company.) The current contract runs through 2015. Exposure to rising commodity prices. All of National Prestos segments face increased costs due to rising commodity prices, more so for the Housewares and Absorbent Products segments than the Defense segment due to the nature of how sales are made across each segment, and how the company secures raw materials for production. Since the year 2000, commodities prices (including energy) have soared nearly 177%, and nearly 89% since 2009. Excluding sources of energy from this data, commodities prices have soared 131% since 2000, and 68% since 2009. (See appendix for charts regarding commodities prices.) Any continued increase in commodities prices may have a material effect on National Prestos profitability, especially in the Housewares and Absorbent Products segments. Integration of acquired businesses may prove to weigh down potential profits. The company has stated that it will continue to monitor for potential investments to expand the business, either within its existing segments or by adding an additional operating segment. These potential acquisitions should be carefully scrutinized so as not to weigh down existing profits during integration. The case in point has been the acquisition and integration of the Absorbent Products segment. The segment was created with the acquisition of certain assets from RMED International, Inc. in 2001 for $7.3 million in cash. Since the acquisition, National Presto has committed an additional $66.8 million in capital expenditures, including the purchase of NCN Hygienic Products in 2003. During that same period, the segment has produced an operating cash flow loss of approximately $21.1 million. Below is the breakdown of the segments performance since its acquisition, including the first two quarters of FY 2011:
Sales 2011 (First 6months) 2010 2009 2008 47,100 80,764 74,663 72,661 Gross Profit 1,917 8,471 7,890 -315 Operating Profit 937 8,081 6,234 -1,165 Capital Expenditures 5,671 13,382 822 979 Depreciation 2,008 4,061 4,243 4,791 Cash Flow -2,726 -1,240 9,655 2,647

2007 2006 2005 2004 2003 2002 2001 Total
65,065 53,377 35,624 28,261 15,502 8,407 815 482,239
-1,597 -5,228 -2,258 1,550 716 431 39 11,616
-2,671 -6,673 -3,107 1,230 700 -131 -147 3,288
487 1,078 10,893 22,512 580 212 0 56,616
4,966 5,072 3,013 1,861 1,047 827 260 32,149
1,808 -2,679 -10,987 -19,421 1,167 484 113 -21,179
*Numbers in thousands. 2001 includes 2 months of operations following the acquisition of RMED International in November of that year.
As you can see, while sales have increased, the segment has failed to produce any value to shareholders due to its negative cash flow over the life of the segments operations. Including the purchase of businesses for the segment, National Presto has spent approximately $74 million on the Absorbent Products segment. The question remains: what further value does the segment have for shareholders and the company? It remains to be seen whether the segment will ever produce a substantial enough return on the total invested capital. The argument could be made that the segment is strategic to capturing a portion of the health care needed by the Baby Boomer generation in the coming years, but my contention is that there is no guarantee that any profits will be made simply from increased sales. This has proven to be the fact over the last 10 years. In my opinion, the Absorbent Products segment has turned out to be a failed venture that has drained capital from National Presto and its shareholders. In comparison, the Defense segment, purchased near the same time as the Absorbent Products segment, has performed substantially better. Since its acquisition, the Defense Segment has produced the following:
Sales 2011 (First 6-months) 2010 2009 2008 2007 2006 2005 2004 113,283 240,762 253,789 238,752 224,384 126,849 36,954 24,535 Gross Profit 32,022 68,071 61,866 50,232 48,294 28,762 9,564 7,867 Operating Profit 28,671 61,443 54,823 43,550 36,700 20,262 5,797 4,710 Capital Expenditures 855 3,473 1,275 2,603 4,821 18,627 2,137 1,756 Depreciation 1,798 3,650 3,570 3,211 2,729 2,007 305 216 Cash Flow 29,614 61,620 57,118 44,158 34,608 3,642 3,965 3,170

2003 2002 2001 Total
9,996 9,290 6,999 1,285,593
3,126 2,966 1,767 314,537
1,595 1,925 1,247 260,723
1,389 1,771 70 38,777
142 153 280 18,061
348 307 1,457 240,007
*Numbers in thousands. 2001 includes 10 months of operations following the acquisition of AMTEC Corporation in February of that year.
Including the acquisition of businesses, National Presto has spent approximately $71 million on the Defense segment, which in turn has produced $240 million in cash flow. In addition, the Defense segment has been very consistent, as the profit margins below can attest:
Average Rates of Return Gross Margin Operating Margin 3 year 24.56% 21.79% 5 year 23.58% 19.54% 10 year 26.43% 18.71%
With robust gross and operating margins over the life of the Defense segment compared to that of the Absorbent Products segment, the Defense segment has performed very well for shareholders and there is no reason to believe it will not in the coming years. Since the company has spent nearly the same amount of capital on both segments since their acquisitions in 2001, it is clear to see which segment has come out on top for shareholders. Simply put, the Absorbent Products segment has failed to produce a return on invested capital for shareholders and the company may have been better off foregoing the acquisition. (See appendix for details on the performance of the Housewares segment for comparison to the Defense and Absorbent Products segments.) Potential Catalysts: 1. Lower commodities prices and energy costs. As has been previously stated, certain commodities are essential for the production of the companys products. If the key materials used in production become less-expensive to procure, the savings from lower costs may help boost the earnings of the company. Energy is also a key component in the companys overall operations. This is mainly due to the necessity of shipping products to its customers. Should the cost of energy, and therefore freight, decline, this savings may also help boost the companys earnings. In addition, Chair of the Board and President, Maryjo Cohen, wrote in her letter to shareholders in the latest annual report:

Housewares/Small Appliance and Absorbent Products segments are particularly vulnerable to inflation, and the effects on their bottom lines in 2011 are expected to be even more profound than in 2010. Efforts are ongoing to reduce the impact through the introduction of new products and redesign of current products to reduce costs. The realization that costs may continue to increase, regardless of the source, is not lost on the companys directors and executives. Should inflation of the commodities essential for National Prestos products be tempered, or even decline, shareholders will benefit from reduced costs and increased profits. 2. Increase in shipments of Housewares and Defense Products. With the Housewares and Defense segments being the main contributors of profit and cash flow for National Presto, any increase in shipments made from either segment, due to an increase in demand for the companys products, will likely result in an increase in profit. 3. Sale/disposition of unprofitable business segment. As has been previously shown, the Absorbent Products segment has been a drag on the companys free cash flow. The question remains: When is it time to realize that, regardless of increasing sales, the segment has failed to produce any sort of return for the company and shareholders and should be disposed of before further losses accrue? When is it time to realize that, regardless of how much capital is spent, the segment may continue to take money out of the companys and shareholders pockets? Had National Presto decided not to purchase the Absorbent Products line, sales, income and cash flow over the last 10 years may have been as follows:
Operating Profit 32,573 89,001 85,113 64,446 56,631 Capital Expenditures 3,433 4,590 2,515 3,391 5,737
Sales 2011 (First 6-months) 2010 2009 2008 2007 160,054 398,236 403,805 375,592 355,651
Gross Profit 40,702 105,103 102,202 80,555 77,952
Depreciation 2,258 4,576 4,495 4,003 3,519
Cash Flow 31,398 88,987 87,093 65,058 54,413

2006 2005 2004 2003 2002 2001 Total
251,304 148,941 130,695 114,242 125,322 118,942 2,582,784
61,571 40,539 38,516 36,745 36,810 25,332 646,027
42,703 26,936 17,891 18,149 6,526 5,090 445,059
19,941 2,939 5,676 2,323 3,196 2,038 55,779
2,819 1,232 1,449 1,306 1,107 3,176 29,940
25,581 25,229 13,664 17,132 4,437 6,228 419,220
*Numbers in thousands. Figures based on the Housewares and Defense segments as reported in company filings.
With the Absorbent Products segment included in the figures above, the company has reported the following:
Sales 2011 (First 6-months) 2010 2009 2008 2007 2006 2005 2004 2003 2002 2001 Total 207,154 479,000 478,468 448,253 420,716 304,681 184,565 158,956 129,744 133,729 119,757 3,065,023 Gross Profit 42,619 113,574 110,092 80,240 76,355 56,343 38,281 40,066 37,461 37,241 25,371 657,643 Operating Profit 33,510 97,082 91,347 63,281 53,960 36,030 23,829 19,121 18,849 6,395 4,943 448,347 Capital Expenditures 9,104 17,972 3,337 4,370 6,224 21,019 13,832 28,188 2,903 3,408 2,038 112,395 Depreciation 4,266 8,637 8,738 8,794 8,485 7,891 4,245 3,310 2,353 1,934 3,436 62,089 Cash Flow 28,672 87,747 96,748 67,705 56,221 22,902 14,242 -5,757 18,299 4,921 6,341 398,041
*Numbers in thousands.
As you can see, and as has been stated before, the Absorbent Products segment has been a drag on the companys ability to produce ever larger sums of cash flow. Is the expense of $56.6 million in capital expenditures, in addition to the acquisition cost of the Absorbent Products segments operations, justified? The point is, the Absorbent Products segment has failed to produce the returns that management may have thought at the time of acquisition and is, in my opinion, siphoning cash from the company that would be better used for either an expansion of

the Housewares or Defense segments, or returned to shareholders. And with National Presto potentially losing its only customer in the Absorbent Products segment during the 3rd Quarter of 2011, the segment may even further depress the consolidated operations of the company. Should the company dispose of the Absorbent Products segment, sales will be impacted by the loss of revenues from the segment, but, as has been shown, income and cash flows may not be impacted, and may in fact, improve. Recommendation: Upon my review of information relating to National Presto, I believe at its current price, the companys stock is undervalued. It is true that sales and profits have declined in recent quarters as compared to the prior years results, but given the companys ability to generate sizable sums of free cash flow even while operating in a depressed economy, all while maintaining a pristine balance sheet, there is no reason to believe National Presto will not continue to operate as it has in the past. National Presto has transformed itself from a small appliance company into mainly a Defense contractor over the past 10 years, and with Defense spending in the US continuing to rise, this should bode well for the company in the coming years (see appendix for more details). My main concern is the integration of newly acquired business segments and their ability to produce a return for shareholders. In the future, National Prestos management should scrutinize any potential acquisitions more carefully so as not to repeat the current results of the Absorbent Products segment. In addition, while the companys high dividend payout ratio is attractive to investors, at todays price, I believe the company should utilize its authorized stock buyback program to repurchase its own shares. After careful review, I believe National Presto is worth $150/share. I believe it is safe to acquire shares up to a price of $105/share. This allows a margin of safety of no less than 30% to what I believe is its intrinsic value, and at its current price, a discount of 36%. Normally, I would look for a larger margin of safety, but given National Prestos history of returning the bulk of earnings to shareholders, I feel the current margin is more than sufficient.

Appendix: Housewares Segment Performance:

Sales 2011 (First 6-months) 2010 2009 2008 2007 2006 2005 2004 2003 2002 2001 Total 46,771 157,474 150,016 136,840 131,267 124,455 111,987 106,160 104,246 116,032 111,264 1,296,512 Gross Profit 8,680 37,032 40,336 30,323 29,658 32,809 30,975 30,649 33,619 33,844 23,153 331,078 Operating Profit 3,902 27,558 30,290 20,896 19,931 22,441 21,139 13,181 16,554 4,601 -3,342 177,151 Capital Expenditures 2,578 1,117 1,240 788 916 1,314 802 3,920 934 1,425 1,968 17,002 Depreciation 460 926 925 792 790 812 927 1,233 1,164 954 2,896 11,879 Cash Flow 1,784 27,367 29,975 20,900 19,805 21,939 21,264 10,494 16,784 4,130 -2,414 172,028
*Numbers in thousands. 2001 includes plant closing costs of $7.653 million in the operating profit figure.
Cash Flow:
2010 105,719 17,972 35,824 51,923 2009 100,085 3,337 31,821 64,927 2008 72,075 4,370 23,368 44,337 2007 62,445 6,224 19,584 36,637 2006 44,421 7,271 12,419 24,731
Cash Flow Capital Expenditures Income Taxes Free Cash Flow

*Numbers in thousands
Profitability:
Profitability Averages Gross Margin Operating Margin Net Margin ROA ROE 3-year 21.54% 17.83% 12.07% 14.59% 17.55% 5-year 20.25% 15.66% 10.91% 12.61% 15.26% 10-year 23.03% 13.38% 9.65% 8.62% 10.41%
5 Oct 11
CHART 1 INDICES OF PRIMARY COMMODITY PRICES (2005 = 100) 1/
1/ Combines indices of non-fuel primary commodity prices and petroleum prices. 2/ Deflated by U.S. CPI.
CHART 2 INDICES OF NON-FUEL PRIMARY COMMODITY PRICES (2005 = 100) 1/
1/ Indices comprise 60 price series for 44 non-fuel primary commodities. Weights are based on the 2002-2004 average of world export earnings. 2/ Deflated by US CPI.

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National Presto Analysis

Prepared by: John R. Pangere October 2011

National Presto Industries (NYSE: NPK)

National Presto Analysis

Sales 2010 2009 2008

479,000 478,468 448,227

Gross Profit 113,574 110,092 80,214

Gross Margin 23.71% 23.01% 17.90%

Operating Profit 97,082 91,347 63,281

Operating Margin 20.27% 19.09% 14.12%

National Presto Analysis

National Presto Analysis

Beneficial ownership of 5% or more is reported as follows (excluding Maryjo Cohen):

National Presto Analysis

National Presto Analysis

National Presto Analysis

2007 2006 2005 2004 2003 2002 2001 Total

65,065 53,377 35,624 28,261 15,502 8,407 815 482,239

-1,597 -5,228 -2,258 1,550 716 431 39 11,616

-2,671 -6,673 -3,107 1,230 700 -131 -147 3,288

487 1,078 10,893 22,512 580 212 0 56,616

4,966 5,072 3,013 1,861 1,047 827 260 32,149

1,808 -2,679 -10,987 -19,421 1,167 484 113 -21,179

National Presto Analysis

2003 2002 2001 Total

9,996 9,290 6,999 1,285,593

3,126 2,966 1,767 314,537

1,595 1,925 1,247 260,723

1,389 1,771 70 38,777

142 153 280 18,061

348 307 1,457 240,007

National Presto Analysis

Gross Profit 40,702 105,103 102,202 80,555 77,952

Depreciation 2,258 4,576 4,495 4,003 3,519

Cash Flow 31,398 88,987 87,093 65,058 54,413

National Presto Analysis

2006 2005 2004 2003 2002 2001 Total

251,304 148,941 130,695 114,242 125,322 118,942 2,582,784

61,571 40,539 38,516 36,745 36,810 25,332 646,027

42,703 26,936 17,891 18,149 6,526 5,090 445,059

19,941 2,939 5,676 2,323 3,196 2,038 55,779

2,819 1,232 1,449 1,306 1,107 3,176 29,940

25,581 25,229 13,664 17,132 4,437 6,228 419,220

National Presto Analysis

National Presto Analysis

Appendix: Housewares Segment Performance:

Cash Flow Capital Expenditures Income Taxes Free Cash Flow

CHART 1 INDICES OF PRIMARY COMMODITY PRICES (2005 = 100) 1/

CHART 2 INDICES OF NON-FUEL PRIMARY COMMODITY PRICES (2005 = 100) 1/

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