Weitz Value Fund’s commentary for the third quarter 2014.
September 30, 2014
Gates Capital Management's ECF Value Funds have a fantastic track record. The funds (full-name Excess Cash Flow Value Funds), which invest in an event-driven equity and credit strategy, have produced a 12.6% annualised return over the past 26 years. The funds added 7.7% overall in the second half of 2022, outperforming the 3.4% return for Read More
The Value Fund’s Investor Class declined -0.1% during the third calendar quarter, compared to a 1.1% gain for the S&P 500 and a 0.7% increase for the Russell 1000. Through the first nine months of calendar 2014, the Fund’s Investor Class increased 5.3% compared to an 8.3% gain for the S&P 500 and an +8.0% return for the Russell 1000. The Fund’s conservative bent and elevated residual cash position have been the primary drivers of our relative underperformance so far this year. As we enter the fourth quarter, we are encouraged by a growing divergence between the stock prices and business values of an increasing number of the individual companies on our “on deck” list. We have been waiting patiently for opportunities and remain watchful as the Fed looks to end its quantitative easing program during October amidst softening economic conditions across much of the globe.
Weitz Value Fund’s largest contributors
Berkshire Hathaway Inc. (NYSE:BRK.A) (NYSE:BRK.B) (+9%), eBay Inc (NASDAQ:EBAY) (+13%) and Microsoft Corporation (NASDAQ:MSFT) (+12%) were the largest contributors to Fund performance during the quarter. Calendar year-to-date, Valeant Pharmaceuticals (+12%) and DIRECTV (+25%) join Berkshire (+17%) as the Fund’s most significant positive contributors. Berkshire enjoyed a relatively strong start to the year operationally with non-insurance operating earnings up 12% during the first half of 2014 despite headwinds at Burlington Northern. Buffett’s willingness to repurchase Berkshire shares at or below 120% of book value continues to provide a nice and gradually rising backstop for the stock. On the final day of the quarter, eBay announced its intention to separate into two separate publicly-traded companies – PayPal and “new” eBay – during the second half of 2015. Despite some initial excitement, investor sentiment remains lukewarm and the stock undervalued. Microsoft reported strong fiscal fourth quarter results in late July with attractive growth across its core franchises accompanied by sound cost discipline. Investors appear to have finally taken notice of Microsoft’s numerous strengths after several years of disproportionate focus on its flaws.
Weitz Value Fund’s direct investments in energy
The Fund’s direct investments in energy – Range Resources Corp. (NYSE:RRC) (-22%), Pioneer Natural Resources (NYSE:PXD) (-14%) and Apache Corporation (NYSE:APA) (-6%) – comprised roughly 6.7% of Fund net assets and together were the primary detractors to third quarter performance. Falling global oil and domestic natural gas prices and fears of structural oversupply trumped strong per share reserve growth, unit cost efficiency gains and, in the case of Apache, continued portfolio rationalization. In the short run, the stock prices of exploration and production companies are often far more volatile than underlying fundamental performance would otherwise suggest. As patient, long-term suppliers of capital, we seek to take advantage of these swings in sentiment. In this vein, following meaningful rallies earlier this year we reduced the Fund’s positions in Range Resources in the upper $80’s and Apache at $100. We also bought Pioneer below $170 in January during a swoon in oil prices and have been adding to Range again as its stock has weakened for what we believe are temporary reasons.
Weitz Value Fund’s new positions
Portfolio activity levels increased toward the end of the third quarter, allowing us to put approximately 5% of the Fund’s residual cash to work. We initiated new positions in Discovery Communications Inc. (NASDAQ:DISCA) and Precision Castparts Corp. (NYSE:PCP), and recycled a portion of the Fund’s invested assets from high price-to-value (P/V) stocks to lower.
Discovery is a world-class provider of global pay-tv programming including ‘must-carry’ channels (Discovery, TLC and Animal Planet) as well as emerging and niche networks (ID, OWN and Science, among others). Non-fiction content is a wonderful business – it is cheap to produce and portable across geographies, driving excellent margins and cash flows. Discovery is especially well positioned to benefit from the long-tailed wave of increasing pay-tv adoption outside the U.S. The company generally owns the full rights to its content, providing bargaining power as the distribution ecosystem evolves. We project per-share cash flow growth in the high teens over the next several years, fueled by the international business. From today’s price, we think the stock’s return potential is adequate-to-exceptional with solid downside protection.
Precision Castparts is a global, diversified manufacturer of complex metal components and products sold primarily to aerospace, power and industrial customers. CEO Mark Donegan is a first-rate operator, sound strategic thinker and highly skilled acquirer / integrator. Concerns over the health of the new commercial aircraft cycle provided us an opportunity to establish an initial position at what we believe is an attractive discount. We have been heartened by management’s more recent decisions to repurchase stock and look forward to the prospect of additional value-accretive M&A in the future.
Weitz Value Fund’s performance
The aggregate estimated price-to-value ratio of the Fund ended the quarter at 0.85, moving back down toward what we believe are more attractive levels. The Value Fund invests in our best larger company ideas. The Fund’s weighted average market cap is approximately $89 billion and its top twenty holdings represent approximately two-thirds of net assets.
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 Institutional Class annual operating expenses which as stated in its most recent Prospectus are 1.11% (estimated gross) and 0.99% (estimated net) of the Fund’s Institutional Class 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.
Investors should consider carefully the investment objectives, risks, and charges and expenses of the Fund before investing. The Fund’s Prospectus contains this and other information about the Fund and should be read carefully before investing. Portfolio composition is subject to change at any time and references to specific securities, industries, and sectors referenced in this letter are not recommendations to purchase or sell any particular security. Current and future portfolio holdings are subject to risk. See the Schedule of Investments included in the Fund’s quarterly report for the percent of assets of the Fund invested in particular industries or sectors.
Weitz Securities, Inc. is the distributor of the Weitz Funds.