Description

NACCO’s price has risen somewhat from its lows following being dropped from the S&P 500 in May, but the valuation is still
extremely cheap. There are catalysts to move this diversified industrial to the $100 level, which would still only
represent about 6 times trough EBITDA.

Like many great value investments, Nacco doesn’t reveal itself in a simple screen. Two accounting adjustments are
necessary to see how cheap Nacco really is.
1) Add back goodwill amortization to EPS. This is $15.5MM, or $1.90/sh. Trailing EPS is reported to be $6.09, but cash
EPS is about $8/sh. (Goodwill accounting will change in the third quarter of 2001, eliminating this distortion.)
2) The company appears to have a lot more debt than it really has. There are two categories of debt on NC’s balance sheet
– the one called Obligations of Project Mining Subsidiaries ($281MM) is not really NC debt. This is recourse to Nacco’s
utility customers and secured by the mining contracts. This means the enterprise value of the company is 915, and the debt
level is less troublesome than it appears.

OK, now to the valuation. At $52, the stock trades at a P/E ratio of 8.5x, but adjusted for amortization only 6.5x. Book
value is $69/sh. EV/EBITDA is only 4 times (adjusting for the phantom debt). Cash EPS for the last five years has
averaged nearly $10 a share. The company has not lost money in at least fifteen years.

There are big catalysts here. The first is earnings. The company has very high leverage to its forklift business.
Forklift backlog and pricing has been getting stronger since the second quarter. Earnings in the fourth quarter should
exceed last year’s level, though you want to watch future forklift guidance carefully.

The second catalyst is the rollout of Procter/Silex’s new GE branded appliances into every Walmart in the country. This is
entirely new business, and should be a strong positive increment in the next four quarters. The company has yet to
quantify the size, but common sense tells me it is big.

The third catalyst is coal. Nacco stands for North American Coal Company, and the company has a wonderful cash cow of a
contract mining business. In the second quarter Nacco very quietly acquired 650 million tons of coal reserves. With
natural gas at $7, demand for new coal fired generation has begun to perk up. And Wall Street has bid up the few pure play
coal stocks (ACI from 5 to 14 for example).

The founding family controls a majority, and other large blocks are held by investors (Mutual Shares and Ruane Cuniff) who
are not going to sell at this price. Combine the high earnings leverage with the scarcity of float and you’ve got a stock
that moves big when it moves.

Though Nacco is far from a perfect company, comparable mediocre industrials are bottoming out at 5 times peak EBITDA.
Nacco is trading at 4 times EBITDA that is arguably closer to trough. Just put a 6 multiple on that and you’ve got a $108
stock.

Catalyst