Bruce Berkowitz on Fairholme Capital Management’s public conference call.

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Operator: Good morning. My name is Julie and I will be your conference operator today. At this time, I’d like to welcome everyone to the Fairholme Capital Management Public Conference Call.

Bruce Berkowitz, the firm’s founder and Chief Investment Officer, will be answering questions submitted in advance by callers. Moderating the call today is Fred Fraenkel, Fairholme’s President and Chief Research Officer.

All lines may be muted to prevent background noise from compromising sound quality. After the call, a transcript will be made available on our site at: www.fairholmefunds.com

Fred Fraenkel: Good morning. It’s Fred Fraenkel. Let me start by saying that we’re very pleased by the number of questions we received and how thoughtful they are. Bruce, we’re looking forward to your responses.

Bruce Berkowitz: Thanks, Fred. And I’d like to say good morning to everyone. Good morning to our shareholders and to all others listening to the call.

Before we begin, I’d like to have a quick review of the Fairholme Funds (the “Funds”) and our strategies. We continue to do what we promised: focus on best ideas, invest in companies whose security prices are below what we believe to be underlying values. Today, fund positions have large gaps between price and value, maybe as large as at any
time that I’ve seen. And the two will eventually meet.

Day-to-day market prices can tell you as much, if not more, about market buyers and sellers than about underlying values. Over my career, it is clear that an understanding of psychology has been as important as a degree in accounting.

On any given day, price is a perception of long-term value – at times, right…sometimes, very wrong. And this is when Fairholme buys, when we believe securities are priced far below their values with a large margin of safety.

However, there is no free lunch. Buying hated companies requires patience and courage of conviction based on independent thought and verification, and based on trying to kill our most cherished ideas. And we will look wrong until markets believe we are right. We are confident answering if we will be right; however, given the human condition, we are much less comfortable answering when the crowd will agree with us. But we do believe patience pays.

Fred, we’ve got an awful lot to cover today and not a lot of time so let’s move right to the questions.

Fred Fraenkel: OK, Bruce. Before we get into the company specifics, let’s start out with a few general questions. People wanted to know: are your personal investments still in Fairholme? They also want to know: are Fairholme employees adding to or subtracting from their investments in the Funds?

Bruce Berkowitz: Yes, I’m still invested 100% in Fairholme and Fairholme ideas, and employees are adding every year.

Fred Fraenkel: Some investors want to know if you’re ever going to hedge positions as the market gets more expensive.

Bruce Berkowitz: We do not short. It’s just not in our DNA to hedge equity positions. We sell securities when prices are within a fair value range or if we need to reduce concentrations due to performance. Our hedge is basically the knowledge that we have about the securities and the cash we maintain.

Fred Fraenkel: Well, more than one shareholder also asked: what have you learned from living through big inflows and big outflows. Do you believe that the current shareholders are more long-term focused?

Bruce Berkowitz: We’ve stayed the course under pressure. However, sadly, not all shareholders have had the courage required at bottoms. We hope our current shareholders share the same long-term focus we do. Most have been battle tested, and they recognize that staying with the fund for five years or more makes for better performance. We know it’s not easy to stay the course – to ignore the crowd – when we look wrong. But why should it be easy? By definition, it should not be, or everyone would do it. This is the price our shareholders pay for long-term success.

Fred Fraenkel: The next question is about our investment process. Is Fairholme a oneman shop, or are others involved in the investment process?

Bruce Berkowitz: Well, I am the sole asset allocator. We do have a skilled research team of six analysts who support me with a parallel research process, verifying my work. I’m challenged by them, and I’m also challenged by many outside professionals. We are also growing [individuals] internally and, I may add, developing succession plans. But I’m planning to be around for quite a bit of time, at least the next 20 years.

Fred Fraenkel: Many investors understand that your belief in the fundamental analysis system of Graham and Dodd is central and they want to know: why does Mr. Market disagree with your values of long-held holdings like St. Joe, Sears, and Bank of America?

Bruce Berkowitz: Fairholme buys fallen angels. That’s what we do. We buy securities that are priced to fail when thousands of hours of research and history tell us underlying values should be greater and there’s little chance of financial death. But, as I said, we can’t know. We just do not know when others will agree with our analysis. Patience and courage are needed, and Ben Graham was right when he said that, in the short term, Mr. Market represents a voting machine, and in the long term he represents a weighing machine. We avoid predicting and, instead, put our efforts into valuing. We believe that in the long term, our estimates of values will be realized. And we have proven over many years that our estimates have turned out to be relatively good over the course of the period of our investments.

Bruce Berkowitz: Fairholme Capital Conference Call [Transcript]

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