Bretton Fund annual letter to shareholders for the year ended December 31, 2015.

Dear Fellow Shareholders:

The Bretton Fund’s net asset value per share (NAV) as of December 31, 2015, was $23.98. For the year, the fund returned -6.59% compared to the S&P 500’s 1.38%.

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Bretton Fund

Bretton Fund – 4th Quarter

For the fourth quarter, the total return for the Bretton Fund was 1.84% compared to 7.04% for the S&P 500 Index. The largest impact on the fund’s performance was Alphabet, Inc., the parent company of Google, which increased the fund’s value by 1.1%. Ross Stores added 0.6% to performance, while paint company Valspar chipped in 0.6% and Wells Fargo added 0.5%. The biggest detractors from performance were Community Health Systems, taking away 1.0% from performance, and Union Pacific, which took away 0.5%.

The Bretton Fund closed out four positions during the quarter: IPC Healthcare, CSX, The Gap, and New Resource Bank. IPC, our hospitalist-staffing company, was acquired by a larger competitor, Team Health; our total gain was 91%. We sold CSX to reallocate our rail investment toward Union Pacific, the more promising investment. Our annualized return (aka, internal rate of return or IRR) was 7.3%. The Gap (33.4% IRR), originally purchased in 2011 at distressed values because of a temporary spike in cotton prices, has long since recovered, but its recent fashion struggles gave us less confidence in its long-term earning potential. New Resource Bank (12.0% IRR), which we have owned since early 2011 as it was recovering from the financial crisis, has since rebounded nicely.

We initiated a position in data analytics company Verisk during the quarter.

Bretton Fund – Contributors to Performance for 2015

The largest negative contributor to performance during the year was our rail investment, which reduced the Bretton Fund’s value by 3.6%. Over time, US rail traffic does a remarkably consistent job of tracking slightly ahead of the industrial economy, but traffic can be lumpy from year to year. Rail volume in 2015 declined only 2.5%, including a pronounced deterioration toward the end of the year, dropping 9% in December. Despite a slowly recovering economy overall, US industrial production has been weakening, particularly in energy-related industries. We are now six or seven years into widespread hydraulic fracturing, which has slashed prices for natural gas and made coal uneconomic in many places for power generation. For most of this time, the railroads have been able to replace declining coal volume with increased traffic in other goods; in 2015, far more coal fell out of the system than the rails were able to replace. We think the railroads’ superior economics remain intact: faster delivery times and lower prices are still allowing them to take share from trucking, improving technology is still reducing their operating costs, and limited competition allows for strong pricing. Rail traffic is cyclical, and the market tends to overreact to upswings and downswings. Over the long run, we are confident our remaining rail investment, Union Pacific, will continue to increase its earnings.

The other investments that materially hurt the year’s performance were Community Health System for a -2.1% impact, American Express (-1.4%), Flowserve (-1.2%), and Discovery Communications (-1.1%).

The largest positive impact to the Bretton Fund’s performance in 2015 was the acquired IPC Healthcare, which added 2.0%. Other contributors were Alphabet (1.2%) and Ross Stores (1.0%).

Bretton Fund – Taxes

The Bretton Fund made a long-term capital-gain distribution of $0.04498 per share to shareholders on December 23, 2015, amounting to 0.19% of the fund’s NAV. It was the fund’s first capital gain distribution in three years. There were no other tax distributions this year.

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Bretton Fund – Portfolio Discussion

Retail & Consumer

It’s starting to sound like a broken record, but Ross continued to build stores, increase its sales per store, and return money to shareholders. We estimate its earnings per share increased 13% (Ross hasn’t announced its results yet), and its stock’s total return was 15.2% in 2015.

People keep buying baby clothes. We estimate Carter’s increased its earnings per share by 14%, while its stock returned 3.0%. The stock was fairly volatile during the year, and we added more at the lower prices.

Like Ross, AutoZone opened more stores, increased its per store sales, and bought back a lot of stock, translating a revenue increase of 8% into an earnings per share increase of 14%. Our return over our average cost was 6.4%.

Armanino’s growth was hurt a bit as its sales of pasta sauce in Asia translated into fewer US dollars given the stronger dollar. Earnings per share increased 5%, and its stock returned 0.7%.

Whole Foods Market expanded its store base last year, building 38 stores and growing its square footage by 10%, but had a hard time with per store profitability. After decades of virtually unimpeded growth, competition is starting to have a real impact on Whole Foods. Sales per store grew 2.5% for the full year, but declined in the fourth quarter. Whole Foods has had to lower prices to match the competition, and its gross margin dropped from 35.5% to 35.2%. Earnings per share declined 5%, and our unrealized loss on the stock is 15%. The increased competition is troubling, and we’re watching it, but we still think Whole Foods can build a lot more stores, potentially up to three times what it has today.

Banking

The good news for our banks—Wells Fargo, Bank of America, and JPMorgan Chase-was that their earnings continued to grow and they continued to return capital to shareholders. The bad news was that the Federal Reserve didn’t increase interest rates until the end of the year, which kept a damper on revenue growth.

While a bit obscured by ultra-low rates, Wells Fargo continued to do what it does: add customers, loans, and deposits. Compared to other developed countries, banking in the US is highly fragmented, and Wells Fargo has plenty of runway to grow. Wells Fargo grew its earnings per share by 1% last year, and its stock returned 1.9%.

Given their larger problems during the financial crisis, JPMorgan and Bank of America had more to improve upon compared to Wells Fargo, and they continued to do so. JPMorgan increased its earnings per share by 13%, and its total return was 8.2%. Bank of America’s earnings per share nearly quadrupled—off a low base—and the stock’s return was -4.8%.

Media & Technology

Despite the stock increasing 42% in 2015, we still find Alphabet (better known by the name of its largest subsidiary, Google) a bargain compared to how rapidly its earnings are growing. Earnings per share are on track to increase 25%, and we’ve seen a 15.6% gain over our average cost. On a global basis, Alphabet has a strong competitive position (how often do you “Bing” something?) and a suite of critical customer touch points that address basic user questions: search to help people find information, email and messaging to communicate the information, phone and mapping to make the information accessible and geographically relevant. What tipped us into the stock last year was management indicating they’d be more cost-conscious and shareholder-friendly than they had in the past.

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