Hickory Fund : Commentary

Portfolio Managers: Wallace Weitz, Andrew S. Weitz

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As of 3/31/2016

Investment Style: Small- to Mid-Cap Value

Fiscal Year Contributors

Martin Marietta Materials is a producer of sand, gravel, aggregates and cement (products for the construction industry). During the trailing twelve months, Martin’s aggregates volumes, pricing, and incremental margins exceeded investor expectations, as non-residential and public construction showed broad-based strength. The outlook for public volumes over the next several years improved with the passing of the 5-year federal highway bill, dubbed Fixing America’s Surface Transportation (FAST) Act, and with state Department of Transportation budgets expanding. Martin also increased, for the third time, its synergy cost-savings target for the 2014 Texas Industries acquisition from the original $70 million to $120 million. They sold their California Oro Grande cement operation for $420 million, the proceeds of which will be used towards their 20 million share repurchase program. The culmination of these positive events pushed Martin Marietta’s stock price above our estimate of intrinsic value, and we exited our position during the third quarter of 2015. 
Angie’s List is a nationally-based, local services review provider and marketplace.  The business, which began as a consumer pay subscription service, has been progressively lightening the load on subscribers and shifting the cost of the model to advertising service providers.  This transition has caused a flattening of top-line growth.  The stock appreciated in the fourth quarter of 2015 when IAC/InterActiveCorp (a company we have owned in the past) made an opportunistic cash offer to buy Angie’s List for slightly less than $9 per share.  We felt the offer undervalued Angie’s business and precluded any opportunity to participate in the upside of the combined entity. The Market apparently agreed, and Angie’s stock price traded through the offer price to about $11 per share.  We sold our position, as the stock price exceeded our revised estimate of business value. 
POST is a consumer packaged goods holding company whose products are sold through a range of channels, such as grocery, drug stores, foodservice and the Internet.  While Post has been transforming itself from a branded cereal manufacturer into a food holding company with a more growth-oriented portfolio, fiscal year appreciation was due to the acquisition of Malt-O-Meal brands, which strengthened the company’s cereal business.  In addition, a strong performance of the Michael Food’s segment and improvements in the company’s protein-focused brands contributed to good results.  Post also benefited from a capital raise of equity and debt, which decreased its financial leverage, putting the company in a better position to take advantage of future value-enhancing mergers and acquisitions. We eliminated the position in the third quarter of 2015 when the stock traded above our business value estimate.

Fiscal Year Detractors

Fossil Group is the fourth-largest producer of watches and the largest global licenser of watches and jewelry. Over the trailing 12 months, Fossil’s stock was weighed down by concerns surrounding watch category global growth. In the US this is being driven by sluggish foot traffic in malls and department stores coupled with broad based de-stocking by Fossil’s partners, as they remain cautious on the wearables category and on consumer sentiment in general. Additionally, Fossil’s largest licensed brand, Michael Kors, slowed and experienced declines in same-store-sales in North America to start the year; however, the brand rebounded later in the year with management presenting a better than expected outlook for 2016. Fossil Group will have less exposure to individual brands as they add licensed brands to their portfolio, including recent additions Kate Spade, Tory Burch and Ralph Lauren’s Chaps. Finally, management postponed share repurchase for 12 months in conjunction with their acquisition of Misfit, a wearable products developer.  While we would have preferred a joint venture with Misfit and continued share repurchase at extremely attractive prices, the stock fell substantially more than the decline of our valuation creating an even more compelling investment opportunity. 
Interval Leisure Group is a provider of non-traditional lodging, encompassing a portfolio of leisure businesses, from exchange and vacation rental to vacation ownership. In the second quarter of 2016, Interval will merge with Starwood’s soon-to-be-spun timeshare business. While we like the prospects for and valuation of the combined entity, we believe Starwood’s shareholder base is not likely a long-term home for the 70 million-plus shares to be issued in the merger. As a result, we will remain patient, as the stock will likely remain weak until those issued shares fall into more interested hands.
Iconix Brand Group is a brand management company and owner of a diversified portfolio of global consumer brands across entertainment, home segments and fashion for men and women. Over the trailing 12 months, Iconix’s share price fell in response to a change in senior management, an accounting restatement, an SEC review and disappointing operating results resulting in a reduction of revenue and cash flow guidance. These events led to additional worries over the ability to refinance near-term debt maturities. As a result, we exited the position. 

Quarterly Contributors

Range Resources is an independent producer of natural gas and natural gas liquids (NGLs) based in Fort Worth, Texas.  Range shares rallied during the quarter, as the company reduced its debt load by roughly $1.0 billion following the divestiture of two non-core assets (Nora and Bradford County).  The company is continuing to pursue a sale of its central-Oklahoma oil properties, which will likely be used to retire additional long-term debt. Other positives included improving natural gas price sentiment (for 2017) and a general thawing in the high yield debt markets. Falling drilling activity in the Marcellus and Utica shales (collective rig counts are down from 170 at peak to 40 at present) and the continued drop in domestic oil production, in time, should bring both oil and natural gas prices up closer to their marginal costs of production.  In the interim, Range has 80% of its 2016 gas production hedged at $3.24/MMBtu and is locking in additional 2017 production with the current gas strip close to $2.85.  We continue to believe Range will emerge from the downturn a significantly more efficient–and more valuable–company.           
Fossil Group is the fourth largest producer of watches and the largest licenser of watches and jewelry globally. Fossil outperformed during the quarter, as the company reported a rebound in same-store-sales, which grew 1% during the fourth quarter, including positive growth in watches. This calmed some fears of secular decline in the category, including headwinds from the Apple Watch and other wearables. Moreover, Fossil guided to flat revenue in 2016 excluding foreign currency translation, which was well ahead of consensus forecasts.  Management reported good reception of their connected accessories product launch and announced a broad product offering across brands which will incorporate Misfit technology and design, in time for the holidays in 2016. 
The ADT Corp is a provider of monitored security, interactive home and business automation, and related monitoring services in the United States and Canada. On February 15, ADT shares rose in response to the announcement that Apollo Global Management agreed to acquire ADT for $42 per share, a slight discount to our mid-$40’s estimate of business value. Apollo plans to combine ADT with its own alarm monitoring business, Protection One. We exited our position at the end of February for a modest gain.

Quarterly Detractors

Liberty Global is the largest international cable company, with operations in 14 countries providing video, broadband Internet, fixed-line telephone and mobile services to its customers. Its share price fell early in the quarter after an influential Wall Street analyst downgraded his outlook for the stock, principally due to concerns over continued competitive struggles in Holland (one of Liberty’s largest markets).  Since that time, Liberty announced it would move its Dutch operations into a 50/50 joint venture with Vodafone.  The joint venture structure allows Liberty to combine its strong cable and broadband businesses with Vodafone’s mobile offering to create a more competitive, “converged” offering.  Liberty also provided Wall Street with an attractive three-year growth outlook during its fourth quarter earnings call, helping shares recover some of the earlier declines.  We remain confident of continued growth for Liberty’s cable offerings and management’s abilities to deliver on their outlook. 
Liberty Ventures is best described as an investment vehicle, with its principle asset being an 18% stake in publicly traded Expedia, Inc.  Expedia’s stock produced very strong returns in calendar 2015 (+47%); however, Expedia shares declined in the broader market sell-off during the initial six weeks of 2016 before partially recovering.  Liberty Ventures also owns a stake in Time Warner Cable.  Charter Communications has proposed acquiring Time Warner Cable, subject to Federal Communications Commission (FCC) approval.  Under this proposal, (a) Liberty Ventures would exchange its shares of Time Warner Cable for shares of Charter and (b) Liberty Ventures would provide additional capital for the transaction by paying cash for to-be-issued shares of Liberty Broadband, which in turn would pay cash for to-be-issued Charter stock.  Although the structure of this transaction is more complex than most, we believe it represents a significant opportunity for value creation at Liberty Ventures.
Liberty Interactive QVCA consists of Liberty Interactive Corporation’s subsidiaries QVC and Zulily, and a 38% interest in HSN. QVCA shares suffered declines early in the quarter in conjunction with the broader equity market sell-off through early February, though they recouped some of the losses as the quarter progressed.  QVC’s operating businesses around the world continue to perform as expected, although the strong US Dollar has continued to dampen the US Dollar reported results of its international operations.  We believe QVC is a uniquely positioned retailer, unburdened by physical stores and with a video shopping experience that resonates in multiple geographies, and increasingly, on the Internet. 

New Holdings

Lions Gate is a global entertainment company, producing film and television programming for distribution around the globe.  Lions Gate has established itself as a mini-major film studio in Hollywood. It pursues a unique model of pre-licensing international distribution rights to its films in order to help fund the production of their film slate.  By doing so, Lions Gate reduces their direct investment in their films, mitigating some of the risk from a box office dud.  On the television side, Lions Gate does not own or operate a large suite of TV networks, making them indifferent to consumers’ preferences for how they receive content.  Lions Gate is positioned as a “content arms dealer” in the race for high-quality, exclusive programming between traditional TV companies and online services like Netflix, selling their wares to the highest bidder.  In recent years, Lions Gate shares were strong as the company enjoyed the success of The Hunger Games film franchise, and investors appreciated their enviable position in the changing television landscape.  Recently, however, a string of box office disappointments in the large film segment has overwhelmed the strength of its TV results. We believe Lions Gate’s box office fortunes will eventually reverse, and in the interim, its strong television business will continue to grow and lessen the company’s overall reliance on the motion pictures segment.

Eliminated Holdings

ADT Corp – We sold ADT at a gain after a private equity group agreed to acquire the company for a price near our business value estimate. 
Iconix Brand Group – We sold Iconix Brand Group at a loss, as the company’s risk profile deteriorated due to a combination of soft business results, high financial leverage and increased funding costs.

As of 3/31/2016: Liberty Global plc-CL C comprised 4.5% of the Weitz Hickory Fund’s net assets; Liberty Interactive Corp. QVC Group-Series A 4.4%; Interval Leisure Group, Inc. 3.6%; Fossil Group, Inc. 3.4%; Liberty Ventures-Series A 3.0%; Range Resources Corp. 2.7% and Lions Gate Entertainment Corp. 1.3%. 
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 in this letter are not recommendations to purchase or sell any particular security. Current and future portfolio holdings are subject to risk.
Weitz Securities, Inc. is the distributor of the Weitz Funds.