The Seventh Circuit ruled in Securities and Exchange Commission v. National Presto Industries, Inc. that while National Presto met the definition of an inadvertent investment company under the Investment Company Act of 1940 (Company Act) because more than 40% of its assets were securities other than government securities, cash and securities of subsidiaries, it was not an investment company under the Company Act. National Presto used to manufacture cookware, diapers, other household items and munitions. It sold off most of its manufacturing plants and contracted one manufacturing operation. The court noted that it held intellectual property of substantial value that was not carried on its books at its full economic value.

National Prestos’ arguments that its investment in pre-funded municipal bonds backed by government securities were the equivalent of investment in governments and its investment in auction rate notes with weekly resets and rights of redemption was the equivalent of cash and could have brought it below the 40% test were rejected. The court applied the five part test set forth in In re Tonopah Mining Co., 26 Sec 426 (1947), and noted this was the first time the SEC argued that a firm with a substantial ongoing presence in product markets was an inadvertent investment company.

The tests as applied are: (i) company’s history – here the court noted that National Presto continuously sold consumer products and munitions; (ii) how it presents itself to the investing public – the company’s website, annual report and publicity depict it as an operating company; (iii) activities of its officers and directors – 95% of its managers time is devoted to running its consumer products and munitions businesses; (iv) source of its income-- in the period covered 50.22% of its net profits were derived from securities investments; and (v) nature of its assets -- although National Presto met the 40% test, the court noted that assets, such as patents and trademarks, that do not show up on a balance sheet make applying a balance sheet test misleading.