Wally Weitz Partners Value Fund Q2 Letter: Gains On DTV, APA, ADT

June 30, 2014 The Partners Value Fund returned +2.0% in the second calendar quarter, compared to +5.2% for the S&P 500 and +4.9% for the Russell 3000. The Fund’s consumer discretionary stocks contributed to returns, led by DIRECTV (DTV) (+11%). After plenty of speculation, AT&T agreed to acquire DIRECTV at a modest premium to our stand-alone valuation. Energy stocks also rose strongly during the quarter as crude oil prices remained above $100 per barrel. While Apache (+22%) participated, the Fund did not have enough energy exposure to keep pace. ADT Corporation (+17%) delivered better-than-feared quarterly earnings against low expectations.

Interval Leisure (IILG) (-16%) was the largest detractor from quarterly results. Interval’s stock declined when the company announced that four large, multi-year corporate relationships renewed at less favorable rates in their timeshare exchange business. We estimate a one-time, roughly 15% impact to earnings in 2014 from these renewals. We think Interval’s long-term outlook remains more favorable, as the company continues to strategically add to its footprint. The Fund’s health care stocks also detracted from returns as both Valeant Pharmaceuticals (-4%) and Express Scripts (-8%) declined modestly. Valeant is embroiled in a high-profile, hostile takeover battle with Allergan (AGN), while Express Scripts lowered 2014 guidance. Both remain large, core holdings in the Fund.

For the calendar year-to-date, the Fund returned +4.3% compared to +7.1% for the S&P 500 and +6.9% for the Russell 3000. Martin Marietta Materials (MLM) (+33%) agreed to acquire cement maker Texas Industries in a deal that makes strategic sense and should be accretive to business value. FLIR Systems (FLIR) rose 16% due to improved trends in the defense business and excitement over new commercial products. Within consumer discretionary, contributions from DIRECTV (+23%) were offset by shortfalls at Interval Leisure (-28%) for the reasons outlined above. Other detractors for the year-to-date period included XO Group (-18%) and Target (-7%). We are particularly encouraged by discussions with the new senior management team at XO Group (XOXO) and welcome their fresh perspectives at a business with plenty of potential. Finally, the Fund’s conservative positioning remained a headwind to relative results in a rising market.

We purchased one new stock in the second quarter. Catamaran Corporation (CTRX) is the third-largest independent pharmacy benefit manager (“PBM”) in the United States. Dave Perkins has followed the PBM industry for more than a decade. His due diligence efforts on current holding Express Scripts and former holding CVS Caremark (CVS) piqued our interest in Catamaran and provided a head start on our company analysis. Catamaran has several unique attributes that have helped the company emerge as a formidable competitor. First, Catamaran provides the technology backbone used by most middle-market PBM’s for claims adjudication. While this software licensing model is a terrific, sticky business in its own right, it also makes Catamaran the logical consolidator of these smaller PBM’s over time. Second, Catamaran offers clients individual PBM services on an a la carte basis, versus the bundled approach used by others. This strategy improves transparency and provides greater flexibility by allowing customers to keep portions of the pharmacy benefit in-house if they desire. Third, Catamaran operates a large and growing specialty pharmacy with a new, state-of-the-art distribution hub. We expect this attractive business to grow at an above-market rate for several years. With several tailwinds in place, Catamaran’s success will hinge on sound execution and wise capital deployment.

Other portfolio activity was relatively light. We added to our holdings of Express Scripts (ESRX) and Liberty Media (LMCA) at healthy discounts to our value estimates. We trimmed our positions in ADT Corporation and Target as both stocks rebounded from depressed levels. We also shaved our holdings of FLIR Systems as the stock approached our business value estimate. We did not eliminate any stocks from the portfolio, and the Fund’s residual cash was 28% of net assets at quarter end.

While we have a sizeable on-deck list of companies that we would like to own, we are finding few compelling bargains. Our research approach is the same regardless of valuation levels. We continue to study businesses, visit companies, speak with management teams and attend industry conferences in our search for value. We look forward to updating you on our progress in the second half of the year.

Partners Value is a flexible, multi-cap fund that invests in companies of all sizes. The portfolio remains tilted to larger companies with strong competitive positions, relatively stable cash flows, able managements and sturdy balance sheets. Nearly seventy percent of the Fund’s equity holdings are in large-cap companies (market capitalization greater than $10B), with the remainder split between medium-sized and smaller businesses.

Fund Performance

Click here to see our Full Performance Summary, including current to the most recent month end. The performance numbers above reflect the deduction of the Fund’s annual operating expenses which as stated in its most recent Prospectus are 1.19% of the Fund’s net assets. The returns assume redemption at the end of each period and reinvestment of dividends. Total returns show include fee waivers and expense reimbursements, if any; total returns would have been lower had there been no waiver of fees and/or reimbursements of expenses by the Adviser. This information represents past performance and past performance does not guarantee future results. The investment return and the principal value of an investment in the Fund will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than the original cost. Current performance may be higher or lower than the performance data quoted above.