webcast 2015 may transcript

Southeastern Asset Management Webcast Transcript May 6, 2015 11:00 AM ET

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Disclosure Information:

The statements and opinions expressed are those of the speaker and are as of the date of

this presentation. All information is historical and not indicative of future results and

subject to change. Reader should not assume that an investment in the securities

mentioned was or would be profitable in the future. This information is not a

recommendation to buy or sell. Past performance does not guarantee future results.

Before investing in any Longleaf Partners fund, you should carefully consider the

Funds investment objectives, risks, charges, and expenses. For a current Prospectus and Summary Prospectus, which contain this and other important information, visit

longleafpartners.com. Please read the Prospectus and Summary Prospectus carefully

before investing.

Average annual returns for the Longleaf Partners Funds are their respective indices for

the one, five, ten, and since inception periods ended March 31, 2015 are as follows:

Longleaf Partners Fund: 3.50%, 11.35%, 5.82%, 11.14% (inception April 8, 1987). S&P

500: 12.73%, 14.47%, 8.01%, 9.70%.

Longleaf Partners Small-Cap Fund: 13.35%, 16.50%, 10.52%, 11.60% (inception

February 21, 1989). Russell 2000: 8.21%, 14.57%, 8.82%, 9.86%.

Longleaf Partners International Fund: -17.61%, 3.20%, 2.84%, 7.59% (inception

October 26, 1998). MSCI EAFE: -0.92%, 6.16%, 4.95%, 4.69%.

Longleaf Partners Global Fund: -9.73% (1 year), 8.04% since inception December 27,

2012. MSCI World: 6.03%, 14.70%.

Returns reflect reinvested capital gains and dividends but not the deduction of taxes an

investor would pay on distributions or share redemptions. Performance data quoted

represents past performance; past performance does not guarantee future results. The

investment return and principal value of an investment will fluctuate so that an investor's

shares, when redeemed, may be worth more or less than their original cost. Current

performance of the fund may be lower or higher than the performance quoted.

Performance data current to the most recent month end may be obtained by visiting

longleafpartners.com

The total expense ratios for the Longleaf Partners Funds are as follows: Partners

Fund 0.91%. Small-Cap 0.91%, International Fund 1.25%, Global Fund 1.58%. The expense ratio of the Partners and Small-Cap Funds is subject to a fee waiver to the

extent the Funds normal annual operating expenses exceed 1.5% of average annual net assets. The expense ratio of the International Fund is subject to a fee waiver to the extent

the Funds normal annual operating expenses exceed 1.75% of average annual net assets. The expense ratio of the Global Fund is subject to a fee waiver to the extent the Funds normal annual operating expenses exceed 1.65% of average annual net assets.


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RISKS

The Longleaf Partners funds are subject to stock market risk, meaning stocks in the Fund

may fluctuate in response to developments at individual companies or due to general

market and economic conditions. Also, because the Funds generally invest in 15 to 25

companies, share value could fluctuate more than if a greater number of securities were

held. Mid-cap stocks held may be more volatile than those of larger companies. As it

relates to the Small-Cap Fund, smaller company stocks may be more volatile with less

financial resources than those of larger companies. As it relates to the International and

Global Funds, investing in non-U.S. securities may entail risk due to non-US economic

and political developments, exposure to non-US currencies, and different accounting and

financial standards. These risks may be higher when investing in emerging markets.

Funds distributed by ALPS Distributors, Inc. Southeastern Asset Management serves as

advisor to the Longleaf Partners Fund. Southeastern Asset Management and ALPS

Distributors are unaffiliated.

Fund holdings are subject to change and holding discussions are not recommendations to

buy or sell any security. Current and future holdings are subject to risk.

The Top 10 holdings of each Fund as of March 31, 2015 are as follows:

Partners Fund: Level (3) Communications, 10.6%; CK Hutchinson, 10.1% Loews, 8.2%;

Philips, 6.6%; Vivendi, 5.5%, CNH Industrial, 5.0%, McDonalds, 4.9%, CONSOL

Energy, 4.9%; Scripps Networks, 4.5%; Wynn Resorts, 4.5%.

Small-Cap Fund: Level (3) Communications, 9.7%; Graham Holdings, 9.6%;

DreamWorks, 7.2%; Everest Re, 5.4%; Vail Resorts, 5.1%; Consol Energy, 5.1%; OCI,

4.4%; Rayonier, 4.4%; Viasat, 4.4%; Hopewell, 4.4%.

International Fund: CK Hutchinson, 9.5%; EXOR, 7.6%; Lafarge, 7.3%; Melco

International, 6.9%; Adidas, 6.5%; K Wah International, 5.5%; OCI, 5.4%; Vivendi,

5.0%; BR Properties, 4.9%; Philips, 4.8%.

Global Fund: Level (3) Communications, 9.0%; CK Hutchinson, 8.8%; Loews, 6.5%;

Adidas, 5.6%; Melco International, 5.5%; EXOR, 5.0%; McDonalds, 4.9%; Vivendi,

4.9%; Philips, 4.8%; Everest Re, 4.8%.

P/V (price to value) is a calculation that compares the prices of the stocks in a portfolio to Southeasterns appraisal of their intrinsic values. The ratio represents a single data point about a Fund and should not be construed as something more. P/V does not

guarantee future results, and we caution investors not to give this calculation undue

weight.


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The S&P 500 Index is an index of 500 stocks chosen for market size, liquidity and

industry grouping, among other factors. The S&P is designed to be a leading indicator of

U.S. equities and is meant to reflect the risk/return characteristics of the large cap

universe. An index cannot be invested in directly.

The Russell 2000 Index measures the performance of the 2,000 smallest companies in the

Russell 3,000 Index, which represents approximately 10% of the total market

capitalization of the Russell 3000 Index. An index cannot be invested in directly.

MSCI EAFE Index (Europe, Australasia, Far East) is a broad based, unmanaged equity

market index designed to measure the equity market performance of 22 developed

markets, excluding the US & Canada. An index cannot be invested in directly.

MSCI World Index is a broad-based, unmanaged equity market index designed to

measure the equity market performance of 24 developed markets, including the United

States. An index cannot be invested in directly.

Definitions for terms used include:

Free Cash Flow (FCF) is a measure of a companys ability to generate the cash flow necessary to maintain operations. Generally, it is calculated as operating cash flow minus

capital expenditures.

EV/EBITDA is a ratio comparing a companys enterprise value and its earnings before interest, taxes, depreciation and amortization. Enterprise Value (EV) is the measure of

the aggregate value for a company. It measures the theoretical price an investor would

have to pay to acquire a particular company.

Earnings Per Share is the portion of a company's profit allocated to each outstanding

share of stock.

P/E (Price Earnings) Ratio is the market price of a company's share divided by the

earnings per share of the company.

Price to Free Cash Flow compares a company's market price to its annual free cash flow.


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Lee Harper: Thank you, everyone, for joining us on the Southeastern Asset

Management and Longleaf Partners webcast today. Joined from

Southeastern, is our research team whos around the globe participating.

Our format today will be that Mason Hawkins and Staley Cates

will each make some brief remarks, and then we'll spend most of

the time on question and answer. Many of you submitted

questions ahead of time, which we appreciate, and we will address

a number of those, but you can also submit questions during the

call, and we will provide instructions when we get to the Q&A of

how to do that, if you arent already aware.

As one disclaimer, just so everyone knows, since this is an open

format, this webcast is intended for our investment partners, and as

your managers and largest investors in the Longleaf funds, we'll try

to provide our perspective on the opportunity we see today. As a

bit of a disclaimer, to the extent that members of any media are

participating on the webcast, we want to make sure that you know

that all of our comments are meant for our clients, and are

therefore completely off the record for purposes of publication.

We'll start this webcast with Mason providing some context as to

where we are today.

Mason Hawkins: Thank you Lee, hello everyone and welcome. This August, we

will celebrate Southeastern Asset Managements 40th anniversary. Over our four decades of operations and through seven market

cycles, I think its fair to say, we've had our core investment tenets tested and confirmed, and we've learned a great deal.

Investing is putting money out where you're assured of getting it

back with an adequate return. As Ben Graham said, everything else

is speculation. All of our capital commitments since we founded

Southeastern in 1975 have been premised on adhering to this

investing definition. Its our internal imperative. Buying competitively entrenched, advantaged businesses, managed by

honorable and capable people, at prices significantly below

corporate intrinsic values gives you the best chance to compound

capital at above average rates with low risks, risks defined as the

probability of permanent capital loss.

While it is important to have a large margin of safety of value over

price to protect against unforeseen events, and/or analytical errors,

over time, the quality of the business and the quality of the

management matter more. FedEx and Fred Smith; Aon and Greg


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Case; Level 3 and Jeff Storey; Vail and Rob Katz; and C. K.

Hutchison Holdings and Li Ka-Shing are exemplary combinations

within our four portfolio mandates of uniquely advantaged

businesses stewarded by most exceptional corporate leaders.

Because great investments are rare, you must be extremely

disciplined and patient until you find one. When you do, you must

trust your qualitative assessments and your appraisal, move with

alacrity, commit a material percentage of your portfolios assets, and be willing to look stupid in the short run.

Most managers arent willing to look foolish because of the career risk. As the largest owners of the Longleaf Funds, we see our boss

and worst critic each morning in the mirror when we shave.

Equity investment success depends upon the price one pays for a

business future free cash flow generation. You need to be approximately right on the latter, and parsimonious with regard to

the future.

Because we're concentrated, convicted, long term fundamental

investors focused on absolute returns, our portfolios will never

resemble an index, and our returns can vary materially from

market benchmarks. Right now, our Longleaf Partners Small Cap

Fund is leading the performance race in its universe, and many

believe Southeastern has magic ability in that arena. Yet, some

think we are ineffective in managing our large U.S., international

and global strategies. That is interesting, because the same team

that is being lauded for brilliantly executing its small cap is the

same one applying identical investment disciplines and decision-

making in our other mandates.

We are highly confident our large U.S., international, and global

portfolios relative returns should look as stellar as small caps. Headwinds - the soaring dollar, collapsing energy prices and the

resetting of goals from Macau - that have pressured our relative

returns in U.S. large cap, international and global will weaken or

reverse.

Most market participants almost always want to put their money in

what has most recently worked. In fact, a number of pre-submitted

questions for todays call asked us to open the Small Cap Fund. We wont. Indexing, after a six year bull market, is working as more dollars are forced into those securities that have gone up the

most. The last time we saw this much passive momentum chasing

was in the late 1990s. It ended very badly. In fact, its taken


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almost 16 years and a significant change in its composition for the

NASDAQ index to get back to even.

Speculative juices are flowing again. Over the last year, as in

1999, some 80 percent of the IPOs (Initial Public Offerings) that

have come public were underwritings of unprofitable companies.

Its critical to remember, the speculator is most optimistic when prices are the highest, and most despondent when they are lowest,

and that the number of good investment opportunities is inversely

related to speculator psychology.

We think the proper focus for investors is not what has worked, but

what will work going forward. We have recently invested

significant capital in our active, engaged, non-small cap strategies

because we believe they will significantly outperform their passive

benchmarks and because it is where we see terrific, absolute return

opportunity.

Our recent quarterly letter clearly delineates why we think our

beliefs are valid. Staley will highlight the reasons for our large

excess return expectations; then we'll go to Q&A. Staley?

Staley Cates: Thanks, everybody. Frequently asked questions about the funds

other than small cap include when and how we will start posting

better relative returns, and how can we feel good about future

returns when price to value ratios are higher than normal? I'll start

with price to value ratios and then discuss our relative return

outlook.

Price to value ratios today range between 70 to 79 percent across

our four mandates. While these are higher than historical averages,

they offer two forms of upside which arent normally present. The first is that, since those values are predicated on 9 percent discount

rates, if the large majority of the developed world remains in this

low interest rate period for a long time, then our appraisals are too

low, and our companys underlying intrinsic values will prove to be higher than we are carrying now.

Secondly, when our management partners take advantage of these

ridiculously low interest rates by selling things at multiples higher

than we use to appraise their assets, our appraisals rise, and it is

usually a catalyst for stock prices to also rise accordingly. This has

been the story of the Small Cap Fund, where price to value went

over 80 percent in April of 2013. Despite that starting point of an

80 percent plus P to V, small cap had terrific absolute and relative

performance since then, because names like Texas Industries and


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TW Telecom announced full company sales and Graham Holdings

sold off assets, all at values higher than appraisals, driving

significant stock price appreciation.

In incredible contrast to those stock price outcomes, in the other

funds, there were also high levels of brilliant sale and divestiture

activity that enhanced value, especially at Chesapeake, Murphy,

Vivendi, Philips, and CONSOL. Yet every one of those names has

a stock price that is down in dollar terms over this period, mostly

because of previously discussed weakness in energy and in foreign

currencies. We believe that eventually the value building activity

of our management partners will be rewarded throughout our

holdings as it has been in small cap most recently.

Turning to relative performance expectations, I dont want to repeat all of the detail of our quarterly report here, but I will refer

you to it for a longer discussion of future return expectations. In a

nutshell, what we have attempted to do in that report is get even

simpler than our normal price to value discussions. When we

calculate the values in our price to value ratio, we take todays normal free cash flow of a company and layer onto that some

critical assumptions about future growth rates and the proper

multiples to use in determining terminal value. However, today we

will simply look at the current multiple of price to free cash flow,

which you can also think of as a cash earnings P/E ratio.

Price to free cash flow is extremely instructive, and in some ways

cleaner than P to V because it removes any assumptions about the

future. In fact, some legendary value investors, and some of the

greatest investment authors have successfully made this simple

metric their main guiding light. Internally at Southeastern, we

have always discussed the price to free cash flow multiple in great

detail and paid very close attention to it, even though most of our

external communication has been around price to value ratios.

For most of our history, our portfolios featured price to free cash

flow multiples of around 10 times, while usually the broad market

would sell for around 17 to 18 times. As we look in this metric

today, we are paying 11 times free cash flow on average for our

portfolio companies. This is slightly higher than that historical 10

times, but it is extremely attractive in relative terms. Thats because the market sells for over 20 times, far higher than normal,

and in line with past market peaks. If you invert our 11 times

multiple, our 9 percent free cash flow yield also compares much

more favorably to current interest rates than our more typical 10


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percent free cash flow yield has usually contrasted to rates at any

given time.

Lets now look at the other variables to move us from the simple price to free cash flow multiple to total return expectations for us,

and for the broad market as defined by the S&P and the U.S.

Inverting these multiples to turn them into yields, we start the race

against the market with a 9 percent free cash flow yield, while the

market starts with less than a 5 percent free cash flow yield.

When you then try to determine the future organic growth rate of

these yields, theres another important point of distinction between our investees and the broad markets. We have large weightings in

names like Level 3, FedEx, Exor, C&H, Adidas, and Philips,

which, for various reasons, are earning subpar margins, but are

raising them as we speak. So, by definition, those companies in

our portfolios will feature earnings rising faster than revenues, but

for the broader market, margins are at such high levels that we

think they can only decline. That would mean earnings growth

lower than revenue growth.

Our portfolios, therefore, have a 9 percent going in free cash flow

yield, positioned to grow much faster than Mr. Markets 5 percent peaky free cash flow yield. Additionally, the reinvestment of that

free cash flow yield and other capital provides another advantage

for our portfolios versus the indices. Our companies are doing

very shrewd things overall with their capital allocation to boost the

future expected return even more. While many businesses in the

indices are primarily buying back their own stock at historically

high multiples or paying huge multiples for acquisitions. High

priced stock buy backs and high multiple acquisitions within the

indices should end up as low return choices. This is especially true

in the U.S. within the S&P 500.

The total expected cash return is mostly under the control of our

management teams and impacted most directly by the quality of

the businesses we own. Other factors which will impact eventual

total return will include the downside of any bad surprises at our

companies, the upside of closing the price to value gap and returns

on all other capital allocation activities beyond just the coupon of

the business.

So, to summarizefor Longleaf, we expect 9 percent from our aggregate free cash flow coupon plus earnings growth greater than

organic revenue growth, plus high returns from capital allocation.

Price to value gaps closing should hopefully at least offset negative


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surprises. This is another way we get to our long stated goal of

inflation plus 10. For the S&P 500, we expect less than 5 percent

from the coupon plus barely any earnings growth on a few percent

revenue growth as margins drop, with a neutral or even negative

contribution from low return capital allocation and a higher than

normal risk of some multiple drop from todays level, which is over 20 times, because that has never been sustained for long

periods.

This is why the S&P looks risky to us right at the moment that it is

considered to be the mindlessly safe way to invest in equities.

These various contrasts are why we think our portfolios are

unusually advantaged in relative terms, so with that, I'll send it

back to Lee, and we'll open up to Q&A.

Lee Harper: Okay, great. We're going to take questions now. Just so you

know, our global research team is on the line. Besides Mason and

Staley, who you've heard from, we have Ross Glotzbach, Jim

Thompson, Lowry Howell, and Brandon Arrindell in the U.S.

Theres Scott Cobb and Josh Shores in London, and then we have Ken Siazon and Manish Sharma out of Singapore.

For those who want to e-mail in a question and its not obvious on your screen, you can click on the orange arrow up in the upper

right hand corner of the screen, and a box will appear where you

can type in your question and hit send.

We'll start with a few questions that we received ahead of time.

Are you still finding more investment opportunities outside the U.S. than within the U.S.? If so, why are the Partners Fund and

Small Cap portfolios not at maximum foreign holdings permitted?

Can you comment on the broad geographic opportunities, and how

have sustained low interest rates impacted those opportunities?

Staley, you want to start?

Staley Cates: I will start, and then I will toss it over to Scott and Ken. We are

still seeing more opportunities non-U.S. versus the U.S., and

actually, to the question, we are at basically the maximum

allowable percentage in the Partners Fund of non-U.S. holdings, and that limit is about 30 percent.

The Small Cap Fund, we have not quite the full, maximal,

allowable amount, but we have more non-U.S. exposure than

we've had at any time since the Asian crisis, actually.


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As far as the opportunity difference in the U.S., its a function of really low interest rates and low volatility, meaning multiples that

are very high, as we've already talked about. In contrast to Asia

and Europe where problems are easier to see and they're more

easily articulated, but thats also led to better discounting, and among some of that fear, some names that are way cheaper than

what we see here.

Ken, why dont you weigh in on Asia and then Scott, talk about Europe?

Ken Siazon: Sure, so in Asia, we're probably seeing the most opportunity,

which is probably why Asia is the percentage of your portfolio that

has generally been increasing in recent years. I guess, as Staley

mentioned, even in the domestic small cap and large cap programs,

you will see Asian names, and C. K. Hutchison Holdings, in

particular, is among the largest positions in the Partners Fund.

I think the anti-corruption campaign in China, as well as fears of a

China slowdown have created opportunity in Hong Kong and

Macau as well as in the luxury and mass retail sectors.

Furthermore, weakness in energy and commodity prices have also

opened up opportunity in Asia. This macro headwind has enabled

us to buy high quality operators whose share prices are falling in

line with the underlying commodity price, but it makes money

based on volume of work produced. So, companies like ALS and

Mineral Resources share these characteristics. We think that we'll

do better in this environment as commodity production volumes

go, and therefore, their revenues will grow.

In Japan, we've also identified opportunities there and we're

encouraged by the increased focus on capital allocation, return on

equity, and corporate governance. Id say that in the past, the pressure for better capital allocation came primarily from key

foreign and local shareholders, and in some cases, the Japanese

government actually helped shield Japanese corporates from

foreign activist pressure. I think today, the pressure for better

governance and capital efficiency is actually coming more from

the Japanese government and other domestic institutions.

So, for all those reasons, you know, Japan is becoming more

interesting as capital efficiencies become more of a key focus for

Japanese corporations.

Among the private sector companies in Asia, as they transition

from the older generation to the typically Western educated second


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generation, we see a lot of change happening, significant changes

in capital allocation when that younger set of management who are

typically schooled in the West take over, so Cheung Kong or C. K.

Hutchison and their massive restructuring spin off announcement

that they just approved last month, its just one example of what happens when a younger, Western educated leader like Victor Li

takes over the leadership of an old style Asian conglomerate.

Asia still has a number of undervalued conglomerates that are

cheap, that are misunderstood and suffer from holding company

discount. So, we think that this opportunity set of younger

generation managers that enter a leadership position will open up

opportunities where these guys will seek to more actively realize

shareholder value. Scott?

Scott Cobb: Thanks, Ken. You know, in Europe, were obviously, as Staley said, seeing more opportunities here than in the U.S. I would say

its not as cheap as Asia on an absolute basis today, so the opportunity set is maybe a little better in Asia than in Europe, but

we're still finding a number of great businesses with great partners

selling at a big discount, so something like an Adidas, which we

were able to buy late last year, we think highlights that trend.

But its notin Europe, its not like what we saw back in 2011 where you had broad based cheapness and multiple opportunities

across the entire region. Today, as you would expect, its what I would call just a more normalized environment where you've got

to do some work and some digging and turn over a number of

rocks to find compelling opportunities, and they are out there. But

its not broad based cheapness across the entire region, but its specific opportunities that we see, like an Adidas that has

temporary short term headwinds that the market overreacts to.

So I think its a unique opportunity where things are relativelymost companies are relatively fairly valued, but there are a number

of opportunities for structural reasons, things like Philips that still

exist in a conglomerate structure thats being addressed, where you can find some hidden gems, and when those companies are

managed by brilliant owners and capital allocators, you can have a

fantastic outcome.

So I would say, you know, we're finding a number of interesting

opportunities and have a number of things that we're surfing today,

so I would say its a pretty exciting time to invest in Europe.


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Lee Harper: Great. The Partners and International Funds have underperformed over the past 5 and 10 years. Has anything

changed in the market that has made it more difficult for active

managers to match or exceed returns available in index funds?

Could you please explain the underperformance and why the funds

will outperform going forward?

Staley touched a little on this, obviously, in his comments, but

Staley, do you want to elaborate on the underperformance?

Staley Cates: Sure. Taking this joyful topic last part first, the reasons for

underperformance in those two funds for the 5 and 10, we talked

about it in the last call, and we've hopefully articulated clearly in

the written communications as well, but basically, in the Partners

Fund, there are some external factors, there are some self-inflicted

mistakes, and theres some endpoint stuff.

The biggest endpoint points of interest, I guess, are this last year of

energy, which we've talked about quite a bit, and we'll talk about

more today, has seriously put the hurt on the one year number,

which is a poor way to finish the endpoint. And then, at the

beginning, we came out of the best relative time we've actually

ever had, from 00 to 03. Within that period, the biggest self-inflicted mistake would've been Dell, which was a large enough

weighting to really hurt us on the 5 year, and even hurt on the 10

year. We've also talked about why that kind of mistake is not

going to replicate.

And then, in the international fund, its been a bit of the same story in that the one year number thats been such a tough final endpoint has been a huge function of some of the Macau and China stuff

that Ken alluded to, which we are actually still very long term

optimistic about. And then on the self-inflicted part within that

range, HRT would've been the worst. Again, we've tried to talk at

length about why that is one of those mistakes that is not

replicated.

For the bigger picture of, is it harder for active managersits very interesting to us that this is almost like a repeating cycle in that this

happens about every decade where you're in the late stages of a

bull market, so an active manager actually gets more careful, not

less, but some of the stuff going on thats crazy gets crazier and then works, and wed point to the health care sector as Exhibit A of that, which has also been one of the underperforming sectors of us

versus the market. That is all the more reason to not pursue that,

even though thats bringing in fresh money by the day.


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Another part of this whole active versus passive bubble is that this

stuff, of course, feeds on itself for a little while, as we were in one

of those years in 2014 where passive wins, and its low cost, and Bogle wins and Vanguard wins and all the other headlines you see

as well as anecdotal and statistical flow evidencestrength begets strength, and even more money comes into these funds, although,

for reasons we tried to lay out, that doesnt go on forever.

Another factor feeding that passive spiral is share repurchase

activity itself. Its not a small number that company flows into the same S&P 500 names has looked a whole lot like mutual fund

investor flows into those names, and again, that can feed it short

term, but that does not win out in long term value.

Mason Hawkins: Id like to addthis is Masonit really does depend a whole lot on your beginning and ending time periods. As you know, on

October the 7th, 2008, we held a very important phone call to talk

about how we had provided liquidity four different ways to own

the companies in, for example, the Partners Fund. If you measure

what we've accomplished from the subsequent lows in November,

November the 20th for the Partners Fund, the Partners Fund has

compounded at 22 percent since then, or twice the 11 percent of

our absolute inflation plus 10 bogey.

So, it really depends a lot on your perspective. I might also add it

outperformed the S&P 500 for that period of time. So it really

does matter what your beginning point of time is, your ending

point of time, and whether you're comparing against your main

bogey of absolute returns or you're hung up on relative

performance.

Lee Harper: All right. One of the things that Staley touched on was energy,

where we are with energy now.

What impact has the decline in energy prices had on our companies and the portfolios? Whats the opportunity for them going forward? How has the recent decline impacted how we

think about investing in commodity based businesses, and about

how much of the portfolio we're willing to have in those types of

businesses?

Ross, do you want to start on the

Ross Glotzbach: Sure, I'll talk about some of the specific companies, and Staley can

talk about the portfolio parts.


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Commodity prices have come down versus this time last year. We

have to face that reality and consider that impact on our values, so

this has not been a positive for values, but I will say, this is largely

something thats outside of our companies control, and the things where they do have control over, they are delivering very strongly.

We can talk about CONSOL, that is buying back shares, thats doing two IPOs this year at solid values for some of their assets,

both highlighting and realizing value. We can talk about Murphy,

who sold their minority interest in their Malaysian assets at a very

good price, at a very good time, and now has a very good balance

sheet. We can talk about Chesapeake, who sold their assets in kind

of the Southern Marcellus and Utica play for a very good price to

Southwestern, and was almost half their market cap for 10 percent

of their production at the time they sold that, to get that company

in a better, financially flexible position.

So we didn't panic in the early part of this year when other

participants were panicking in the oil and gas markets. We

actually have added to some of our holdings, theres new ones in the Small Cap Fund that have performed well so far. We've got

Holly, California Resources and two other smaller ones that all are,

again, going on offense based on what they can control and will

emerge from this downturn stronger than they entered into it.

Staley can talk about the portfolio stuff.

Staley Cates: Yeah, from a portfolio management perspective, I think one thing

to point out is, when you combine high visibility of the

Chesapeake corporate governance drama that played out over a

couple years, and then this one year where energy names have hurt

us, it leads to an impression that we're more commodity weighted

than we've actually ever preferred to be, or than we are now. If

you actually go name by name, kind of without regard to the

visibility of those names, you'll see what you normally see, and

that is, well over 50 percent of our names have pricing power,

which is something we deeply care about.

I would divide that into actually several different categories. You

have things like FedEx that just straight up raise prices. They do it

in the form of a plain price increase as well as a fuel surcharge.

You also have companies like building materials, cement and ags

companies that we've had a lot of success with, or CNH where they

have pricing power even in terrible down unit volume periods, so

they may be cyclical and kind of volatile, but they definitely have

pricing power that gets back to a Porter model strength. And then

you have the type like Aon, which is more of a gross profit royalty


Page 15 of 26

than a flat out price increase, but its the same kind of beneficial economics.

So these things are the quality that we usually demand, and at any

given time, the straight up commodity names are going to be a

small percentage of the portfolio, and then last thing on this, when

we do have those, we have to have such a low cost provider status

and such a physical advantage as we have at something like a

Chesapeake, and we have to have great people managing those, as

we have at all three of the names in the Partners Funds that we've talked about, and some of the small cap ones to be named later.

Lee Harper: Okay. The other name that we touched on in talking about the

International Fund recently is the Macau pressure, so we got

questions saying, Describe your investment thesis on Macau casino stocks and the impact weakness there has had on your

values. Does government or regulatory risk make you rethink the

positions, their size in the portfolio, or other companies you own

with large China exposure? And then, more generally, how do we

think about regulatory risk in general and industries?

So, Manish or Ken, does one of you want to start on the investment

thesis itself?

Ken Siazon: Okay. This is Ken, and I'll start and maybe hand it off to Manish if

he has something to add.

So, the investment thesis on Macau is really unchanged in that we

continue to believe that Macau will be the only place where

gambling is allowed in China, and as the economy grows, as more

infrastructure gets put into place, that enables more Chinese to visit

Macau, and the gaming business will continue to grow over the

long term. Hotels are at very high occupancy rates. The average

stay of an overnight guest is only two days, and shortage of rooms

will be alleviated by over 12,000 new hotel rooms to open in

Macau by 2018, which is going to increase room capacity by

almost 50 percent.

However, the impact of the anti-corruption campaign of the

Chinese government has been significant, and conspicuous

consumption, whether gaming or sales of luxury watches or

fashion items has been deeply affected in China. VIP as well as

premium mass gross gaming volumes in Macau have been

negatively affected, and industry gross gaming revenues are down

about 40 percent in April year to date this year versus last year.

With most of that decline coming from the VIP segment, this


Page 16 of 26

accounts for about 60 percent of industry gross gaming revenues,

but only about 26 percent of industry EBITDA.

We believe that a large part of this VIP segment will not come

back. However, we also believe that the mass business, which

accounts for more than three quarters of industry EBITDA and

more than 80 percent of EBITDA at Melco Crown, will continue to

grow in line with the growth of the Chinese economy, wealth

creation, and investment in infrastructure.

So, the weakness in gaming volumes has resulted in values coming

down, but prices have come down more than values have. I guess,

to give you an idea of how attractive Melco International looks

today, please consider these valuation metrics.

So, today, Melco Internationals 34 percent stake in NASDAQ listed Melco Crown is worth about 40 percent more than the

market cap and enterprise value of Melco International. If we

exclude about $2.5 billion of work in progress, which is Studio

City, and the stake in City of Dreams Manila, Melco International

is today trading at a look through low teens free cash flow yield, to

enterprise value. So we find that very attractive for a company that

we believe will grow high single digits in the long term, and this is

a company thats actually net cash.

So we think Melco International is worth probably, you know, in

the mid-20s per share, and the shares are deeply discounted, and

the sectors hated in the capital market, and by the sell-side research community.

So, while the near term looks bleak and uncertain, we havent lost faith in the mid to long term attractiveness of this investment. In

the last 12 months, both Melco International and Melco Crown

have repurchased shares. CEO Lawrence Ho has also purchased

shares personally, and while its too early to call a bottom, its interesting to note that for the last few months, gross gaming

revenues have been more or less steady at 19 or 20 billion pataca a

month.

At some point, we will get to a bottom, and growth and mass will

overcome declines in VIP business, and Melco Crown is well

placed to benefit from that mass business, and makes over 80

percent of EBITDA from non-VIP. The Studio City, which is a

mass focused project, will come online in the fourth quarter, and

today, market is giving zero value for this property.


Page 17 of 26

With regard to regulatory risk, we think our appraisals are

conservative as they account for potential regulatory risk. For

example, we built in an extra value ding in our appraisals to

account for any potential payments that might be associated with

concession renewals, which could be happening as early as 2020.

We've also purposely partnered with a local, CEO Lawrence Ho,

who is (1) a member of a national committee of the Chinese

peoples political, consultative conference. His family has had close ties to Macau for decades, yet Lawrence is a forward-

looking, Western educated CEO focused on value creation. So,

while partnering with locals is not a magic bullet to protect us from

regulatory risk, we feel much better after having interacted with

Lawrence Ho since late 2011. To have a CEO like him that can

navigate regulatory uncertainty more skillfully than others in

Macau, just by being better integrated into society in Hong Kong,

Macau, and PRC.

We initially started this investment in Melco International with a

2.5 percent position in 2011, and Melco International had an entry

price of around $6HKper share, as a way to test managements position, as we got more comfortable in Macau and Melco

International, our size and portfolio has increased over time.

I guess, finally, we're comforted by the fact that gaming related

taxes account for more than 85 percent of total government

revenue in Macau, and that casinos are actually the largest

employers in Macau, employing around one-third of the labor

force. So its not really in the governments interest to destroy this industry, or to push Chinese gamblers to spend their money in

other, competing countries.

So, although painful, we think that this anti-corruption program is

good for the long term, both for the Chinese economy, and for

Macau. Manish, did you want to add anything?

Manish Sharma: Yeah, not much. I guess just one quick thing is, we couldnt stress enough the importance of new infrastructure thats going to come through in the next few years. I mean, any way you look at the

Macau market, its highly underpenetrated. I mean, the mainland visitation penetration rate of Macau is still less than 2 percent. So,

as the new hotel rooms come through, as the Hong Kong-Zhuhai-

Macau Bridge comes through and the railway network and the

light rail and the ferry it will make it a lot more accessible for

mainland Chinese to visit Macau, and that should really drive the

mass market. Thats what we are betting on. VIP has been always


Page 18 of 26

a black box to us. We never assigned much value to it. Where we

really see growth is the mass side, and thats why we play with Melco, because Melco is whereMelco has the highest exposure to mass business, about the highest exposure to mass business.

Staley Cates: And this is StaleyId wrap that up by echoing the very last thing Manish just said, which is, of all the things you heard, if I could

leave you with one, it would be that emphasis on mass, the stuff

you read about Macau and all the most terrifying parts of bad

stories about Macau happens within VIP as opposed to mass. And,

as Ken mentioned, mass is 80 percent of profits at Melco. This is a

bet on the long term growth of mass rather than a bet that the

corruption crackdown either lessens or that the VIPs come back, or

that there is some healing on that side of it. We can justthats what gives us the opportunity to buy the stock cheaply, but thats not a bet we have to make, and so its all about the long term growth of mass.

Lee Harper: Great. Another question, a couple of other questions have come in

related to Level 3. Given the large holding that we have in Level 3 Communications across the funds, can we share our three to five

year expectations for the company and stock, and also, how do we

think about the weighting of that stock in our portfolios?

Mason Hawkins: This is Mason

Its early investment days for Level 3. As many of you know, their global network carries and protects critical data that enables

computing in the cloud, the Internet of Things (i.e., big data), more

streaming and the worldwide proliferation of mobile devices. The

companys costs are predominantly fixed, and their growing revenues have high contribution margins. The operating profit

leverage is huge, and Level 3s free cash flow generation is exploding.

Furthermore, on top of the value that we ascribe to the future free

cash flow production, the company has two most valuable non-

earning assets: a significant excess inventory of dark fiber, and 10

unused underground fiber-optic conduits. These assets are unique

and becoming much more important as bandwidth capacity

shrinks. Our three to five year expectation for the stock at Level 3

is, I guess, best summarized as saying high,; and, we are very

thankful that we have this large weighting in our portfolios.

Lee Harper: Okay. The question: About how our appraisalshow do our appraisals account for shifts in currency rates when we invest in


Page 19 of 26

overseas businesses? How has the strong dollar impacted our

portfolios, and have we re-thought our position on hedging, or

rather the fact that we dont hedge currencies? Staley, do you want to

Staley Cates: I will start that, and anybody, especially Ken and Scott, that went

to jump in, please do.

So, for the first part of that, on FX rates, that is, as they change

daily, we do mark those real time. I mean, that is what it is. That

does not involve projecting them out, that is just redoing our

appraisals every time there is new information. That would

include how FX changes, which has obviously been volatile

recently.

On a longer term FX look, this really gets back to inflation

differentials, which you can see in short term interest rates and the

cost of hedging, and thats what really is instructive as we do our discount rates in different geographies to try to incorporate an

inflation differential through a high discount rate, all of which is

kind of clued by FX expected differentials.

The strong dollarso, the part of the question about the strong dollar, we've listed that in some of our MD&A, but that has been a

huge headwind for us, both in calendar 2014 and year to date 15, especially in the International and Global Funds, but even in the

Partners Fund.

The last part of the question, though, that is then begged by the

damage thats been done by the strong dollar is, does that make us re-evaluate the hedging or look at that differently. We do try to

look at everything with a fresh piece of paper all the time, but

where we continue to come out on this is that we dont bring value to the currency equation. I mean, we can all look at purchasing

power, and we would all have our hunches, but not enough to act

on them.

And whats especially different now than when we started the International Fund with hedging is that it is so easy for our

shareholders to hedge on their own, and that was really not the

case when we started this fund. We're also a concentrated manager

with low turnover, so our shareholders usually have a pretty good

idea on what those currency exposures are, and since everybody in

our shareholder base can feel pretty differently about this topic, we

think its another reason not to hedge, that shareholders can do it themselves to the extent that theyd like.


Page 20 of 26

We end up kind of where John Templeton started, which is that

these things do come out in the wash over a long period of time,

especially when we have multi-national blue chips in there where

they have a basket of currencies that do tend to kind of come out.

So, every once in a while, we will do things of note with currency,

like in Hong Kong, you'll see in the disclosure that we have bought

some putsnot a hedge, but just puts on that currency. Those are super cheap because everybody extrapolates the peg, and there we

feel like, if the peg does remain, we're in great shape, if the peg

came off and it rose, we would obviously win, but if the peg came

off and their currency declined, thats where wed be protected by the puts.

So, if they're one-off situations, we think that makes sense, we'll do

those, but basically, we stay with the unhedged.

Lee Harper: Okay.

Mason Hawkins: I might also add that the cost to hedge is a very big consideration

over the long term.

Lee Harper: Could you discuss your view on current valuations of Orkla and Philips, and what steps are current managements taking to realize

your estimate of future value?

Obviously, Josh and Scott cover those. Josh, do you want to start

on Orkla?

Josh Shores: Sure. Thanks, Lee. So, Orkla is a Norway-based, historically

conglomerate thats in the process of a transformation to a focused BCG branded consumer goods company, and its controlled by Stein Erik Hagen, who owns 24 percent of the company and sits as

the chairman of the board and a close associate of him, Peter

Ruzicka, is, as of last year, the CEO of the company.

So, this transformation process isnt something thats just happening kind of by happenstance. Its a very deliberate, intentional process with a guy that we have a lot of respect for and

are happy to partner with. So, its been a successful transformation and the market has recognized it over the last 12 months with

pretty good performance in local currency, but theres still a decent ways to go.

So, over the last two years, they've IPOd Grnges, which is the aluminum rolling products business. They put the other part of the

aluminum business, which is extruded products, into a joint


Page 21 of 26

venture with Sapa, called Sapa with Norsk Hydro, and they still

have some real estate and some various other non-core assets that

we trust they'll sell in a disciplined fashion at the right time. And

the key here is, you've got the right partners allocating capital, and

guys that we know have an excellent track record and a strong

vested interest in going and getting and realizing that value.

So, from todays level, if you strip out that non-core stuff, you're still seeing core BCG, strong local brands trading at about 13 times

free cash flow, 13 times net incomebasically, the same thereand eventually you're going to get there, because you're partnering

with the right guys. And, under certain strategic scenarios, that 13

times while, on an organic basis, is worth high teens could be

worth substantially more than that.

So, we like that one, and we like the guys that we're partnered

with. Most importantly, back to Masons original comments on what makes a good investment, we see permanent capital loss is

difficult with these kinds of brands. We still see good upsides

when we really like who we're partnered with there. So we're very

appreciative of what Mr. Hagen and his team have done,

particularly over the last 12 months, but also before that, seem to

think that theres more room for them to go, and we look forward to seeing that happen. Scott?

Scott Cobb: Yeah, so for Philips, I mean, its somewhat of a similar situation in that Philips is a historical European conglomerate, and today,

within that conglomerate structure, you've got a health care

business which is essentially big medical devices; a lighting

business, which is a legacy business with the company; and a

consumer business where you have things like the Sonicare

toothbrushes and electric razors and rice cookers in China. So, a

good consumer business which is really an emerging market

business rather than a European consumer business.

So, within that structure stepped Franz van Houten in 2011, and

when he became CEO, he had two mandates, and that was to raise

the profitability of all three segments and then look to get the

market to recognize the inherent value of those segments outside

the conglomerate structure. That has now culminated after a

couple years of progressive margin improvement within the

segments, with the decision to split or separate lighting from health

care and consumer and so that the remaining Philips will become

something that they're calling HealthTech, which is health care

combined with some of the consumer subsegments, and lighting

will be a standalone company.


Page 22 of 26

So we think hes done a tremendous job on the operating metrics, and now, within the next 10 to 12 months, we'll have two pieces of

paper that we think, when this conglomerate structure is removed,

the market will then be able to better appreciate the franchise, the

health care and consumer franchise, which today, on a look

through basis, is trading for aroundthe health care part is trading for around 10 times free cash flow for a business that should at

least be mid-teens, if not higher.

And while we're waiting on that separation to take place, the

company is actively repurchasing its shares, management has

bought shares personally, so we feel like we've got good operators,

vested owners who are actively taking steps to remove the gap

between price and value.

Lee Harper: Great, thanks. Several of the questions coming in are, as one

would expect, about some of our individual holdings, and we'll get

to some of those. A couple of names that people have asked about

in our U.S. portfolio, McDonalds and Googlethose are ones where we are not yet willing to talk on the record about things

going on and about our case, but we do want to let you know that

we are getting the questions, so stay tuned on those.

And then questions around one of our largest holdings across the

shop, and its in the Partners Fund or the U.S. portfolios as well is our international and global accounts. And we've touched on it

already, but its Cheung Kong and C. K. Hutch. Can we talk about our Hong Kong property exposure and companies that we like?

That would be the largest, obviously. Any concerns about the

property market or a rise in interest rates there, and how do we

view the real estate piece versus the remaining businesses once that

split happens that was referenced earlier?

Ken, you want to talk about that?

Ken Siazon: Sure. So, we have a number of investments in the Hong Kong

properties space. C. K. Hutchison Holdings is one and K Wah is

another. We hold them because the prices of real estate implied in

the stock price are much lower than the prices that the physical

land bank can sell for, or transact at, and their managements have a

demonstrated track record of growing value per share and

unlocking value.

So, while we are worried about a downturn in the Hong Kong

property market and a rise in interest rate, I think these things are

all priced into the stock price.


Page 23 of 26

There are some companies in the Hong Kong property space who

are taking advantage of this arbitrage between high physical

property prices and low prices in capital markets, but basically

selling land bank at 3 to 4 percent cap rates and reinvesting the

proceeds in high cap rate property stocks. If you follow this

industry, you'll notice that insider buying has also remained pretty

elevated in the Hong Kong real estate industry even today.

With regards to C. K. Hutchison, which is one of our largest

positions in both the International Fund as well as the U.S.

domestic fund, we think the property business accounts for roughly

a third of the value of C. K. Hutchison. So, even though they are

the single largest component of the Hang Seng Property Index at

24 to 25 percent, actually only a third of the value is actually

coming out of the property business. We think that the shares are

worth north of 200, and the property business will be spun off on

June 3rd.

So, there was an independent appraiser recently as part of this

restructuring exercise who recently valued C. K. Hutchison at 241

a share, of which the property value was around 98 a share. We

think C. K. Hutchison will continue to spin off and IPO divisions

at the right time. I think their retail arm, Watsons, is a good

candidate for an IPO in the next few years, and at some point, it

will also make sense for them to monetize their European mobile

telecom business in the next few years.

Lee Harper: Okay.

Staley Cates: This is Staley. I would just add that, as Ken talked about on those

numbers, Cheung Kong falls in the category of perceived as the

property developer in Hong Kong and China, but their true

economic value is so much bigger than that. This is, to us, a

Berkshire Hathaway looking thing. This is an incredible CEO,

incredible family ownership, amazing capital allocation and yet

they're some of the best sellers of assets that we've ever seen.

But the most encouraging thing about this restructuring is, we

would've thought that a great way to unlock value would've been

for them to just spin off or not continue to control publicly traded

Hutch, and they did one better than that by first taking in all of

Hutch and then taking the property that was in both of those

entities, and spinning that into the standalone property company

that Ken was talking about, they really isolated the whole level of

cheapness. I mean, its a fantastic thing, the stock price has


Page 24 of 26

responded, but their worldwide status and just kind of overall

global blue chip economic value as opposed to being strictly a

Hong Kong company is why we have made that a large position in

the Partners Fund as well as just the International Fund.

Lee Harper: Taking it to higher, broader macro questions that we were getting,

one of them touches on specifically, if interest rates increase, how

will that affect the valuations of the companies we own? And

then, more broadly, how do we, in general, consider macro

possibilities, whether its Greek exit from Eurozone; we talked a little bit about the Chinese economic slowdown; quantitative

easing, which that specific interest rate question is around; OPEC

(Organization of the Petroleum Exporting Countries) moves, et

cetera. How do you think about those macro possibilities in terms

of how we do our appraisals or manage our portfolios?

Mason Hawkins: Wow. You all, I think, understand and appreciate our lack of

insight on macro events. But, we have some observations, I think,

that are worthwhile.

Theres no precedent in economic history for negative nominal interest rates, even during the Great Depression in the United

States. No time, that I am aware of, has anybody paid to put

money under mattresses. We are in uncharted waters, and we've

spoken today about some of the risks of that changing. We are

clearly aware that this is unprecedented.

Staley Cates: I think, as far as the interest rate effect, thats just so company by company. Its just very hard to get into. Theres some companies that immediately can benefit, like an Aon with the float on their

fiduciary funds or Bank of New York Mellon, which would benefit

if spreads widen. Then there are other companies where, if rates

do go up, that may have to do with inflation going up and the

pricing power at those companies would be kind of the indirect

offset.

So, I think its so case by case. Our analysts are definitely on top of this with each of the names they follow. Every name we look

at, every analysis we do is done with the goggles of, What happens to this appraisal, or to this companys earnings if rates go up?so, no easy answer.

Lee Harper: One other thing you referenced in your comments, too, was that

part of our insulation, at least on our appraisals is that we have,

we're using such higher discount rates than the current rates would

warrant.


Page 25 of 26

Staley Cates: Right.

Mason Hawkins: One of our questions that we've received recently, and more than

once, was, were we worried about regulations as it relates to health

care and utilities? And our response was, we were worried about

valuations, not regulations. And the valuation concerns are, that

free money and zero interest rates in many cases are driving some

of that speculative fervor and pushing prices to levels that we think

offer very low return and risk adjusted rates.

So anyway, again, we're reminded that you're not forced to do

anything in this world unless it makes sense and it falls within your

circle of abilities, and within the disciplines that you think are

important.

Lee Harper: Okay. On another specific stock question, whats the investment thesis for Scripps? Ross, do you want to talk about that?

Ross Glotzbach: Sure. I'll also do business, people, price. On the business, Scripps

owns the vast majority of its video content. It has real brands in

HGTV and Food Network. These brands resonate strongly, with a

very specific, good demographic of largely upscale women thats often ignored by people on Wall Street. You can see the strength

in their ratings today versus their peers, especially at HGTV, and

we also think that they're really early days in monetizing their

international opportunity.

Then on the people, we've got CEO Ken Lo, who has been at this

company for over 20 years now. Hes instrumental in founding HGTV and doing the wonderfully successful Food Network deal,

and then spinning it off from Scripps other broadcast TV and newspaper holdings, which gets into talking about the extended

Scripps family. We think that they're pretty unique among media

families in terms of being willing to both grow and then realize

value per share in often unconventional ways, like you've seen

recently at their other company, E. W. Scripps.

Then it gets down to price. You know, Scripps Networks is

lumped in with all these other media companies today that have

much worse ratings on TV that dont own as much of their content, that have already gone international, and have much worse

controlling owners, so maybe Scripps trades sometimes as a slight

premium to those. We think it deserves a big premium. We also

think that that premium is also often capitalizing Scripps international losses, and theres a few other unique accounting quirks that we think are missed in the price.


Page 26 of 26

So, its undervalued, its a good business, and they're good people.

Lee Harper: Great, thanks. Well, we're sort of closing in on an hour, which was

kind of our projected time for this, soand we've touched on a lot of other questions that have come in, we've touched on them in our

comments already.

There will be a replay of this available, probably innot today or not tomorrow, but within a week or so, once we get it all cleaned

up and out there on the web. And then, in closing, Mason, did you

want to make any final comments?

Mason Hawkins: Yeah, wed like to close with the following. We believe that you wont find a more committed, more engaged, and more equitably aligned manager with more capital invested alongside our partners

than at any point in our history because we believe we'll produce

good returns with minimal risk, and that our disciplines and 40

years of applying them give us a substantial edge against our peers.

We thank you for your co-investment.

LLP000309

11/30/15

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