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 Chairman's Message - 2004 Annual Report 
"Nothing in the world can take the place of persistence. Talent will not. Nothing is more common than unsuccessful men with talent. Genius will not. Unrewarded genius is almost a proverb. Education will not. The world is full of educated derelicts. Persistence and determination alone are omnipotent..." – President Calvin Coolidge The common traits between successful people from disparate fields – Law, Engineering, Music, Academia, Sports, etc. – are persistence, determination, and discipline. Successful investing is no different. As Mr. Warren Buffett, Chairman and Chief Executive Officer of Berkshire Hathaway Inc., once said: "What I do is simple, not easy." Not easy, because it's difficult to take the long-term perspective. Not easy, because it's difficult to commit and be steadfast to principles through thick and thin. Not easy, because it's lonely taking a view that's not popular or not being reinforced by short-term gratification. Not easy, because we are all subject to the influences of the media. We should always remember that the media is an invaluable decision-making tool – but only as a contrary indicator. The media often gets converted to the prevailing view. They reflect and reverberate or report on what everyone is thinking – not a good investment strategy to follow. A good example is the article entitled: "The Death of Equities" published in BusinessWeek (August 13, 1979), right at the bottom of the bear market for stocks of the late 1960s and early 1970s and the top of the bull market for gold. The stock market had declined by 40%, had been flat for 13 years and was trading at eight times earnings when this timely article was written. By way of background, gold was trading at greater than $850/oz. On July 23, 1979, the reporter wrote "Institutions that manage pension funds began operating under a new and far more liberal interpretation of the labor department law. Pension fund money can now go not only into listed stocks and high grade bonds, but also into small companies, real-estate, commodity futures and even into gold and diamonds." Gold became attractive after it had risen from $35/oz to $850/oz. Continuing from the same article: "At least 20 banks now include hard assets in their pension accounts. Just last May, for example, First Citizen Bank and Trust began accepting diamonds in their self-directed trust accounts because of increased demand from customers... At least 95% of these customers are trying to escape what inflation is doing to their stocks, stated Vice President Ronald Mulholland." "Given the type of consistent high-level inflation we have been experiencing, the stock market represents speculation and some tangible assets represent the opposite," said Edward R. McMillan, Chief Economist for Seattle’s Rainier National Bank... "Today, one of the strongest proponents of gold investing is Alaska Governor Jay Hammond. He plans to re-submit a bill to the legislature early next year to lift a law passed in the early 1960s, that prevents the state’s public employee and teachers' retirement funds from investing in gold, foreign securities or real estate. At least three other states are also interested in tangibles for their retirement funds." The article is not atypical; if you listen to the media and analysts, you are likely to be misled. Had you followed the advice in this article, your investment in gold would be still down by 50% 25 years later while the S&P is up by over 1400%. Readers, viewers, and listeners beware of the blatherers. The corollary is: to succeed at investing one has to buy good quality assets inexpensively and avoid the crowd – Not Easy. In the 1991 Berkshire Hathaway Inc. Annual Report, Mr. Buffett explains how he approaches investing and portfolio management: "We continually search for large businesses with understandable, enduring and mouth-watering economics that are run by able and shareholder-oriented managements. This focus doesn't guarantee results: We both have to buy at a sensible price and get business performance from our companies that validate our assessment. But this investment approach – searching for the superstars – offers us our only chance for real success. Charlie (Charles T. Munger, Vice Chairman, Berkshire Hathaway) and I are simply not smart enough, considering the large sums we work with, to get great results by adroitly buying and selling portions of far-from-great businesses. Nor do we think many others can achieve long-term investment success by flitting from flower to flower. Indeed, we believe that according the name "investors" to institutions that trade actively is like calling someone who repeatedly engages in one-night stands a romantic. If my universe of business possibilities was limited, say, to private companies in Omaha, I would, first try to assess the long-term economic characteristics of each business; second, assess the quality of the people in charge of running it; and, third, try to buy into a few of the best operations at a sensible price. I certainly would not wish to own an equal part of every business in town. Why, then, should Berkshire take a different tack when dealing with the larger universe of public companies? And since finding great businesses and outstanding managers is so difficult, why should we discard proven products? (I was tempted to say "the real thing.") Our motto is: "If at first you do succeed, quit trying." John Maynard Keynes, whose brilliance as a practicing investor matched his brilliance in thought, wrote a letter to a business associate, F. C. Scott, on August 15, 1934 that says it all: "As time goes on, I get more and more convinced that the right method in investment is to put fairly large sums into enterprises which one thinks one knows something about and in the management of which one thoroughly believes. It is a mistake to think that one limits one’s risk by spreading too much between enterprises about which one knows little and has no reason for special confidence.... One’s knowledge and experience are definitely limited and there are seldom more than two or three enterprises at any given time in which I personally feel myself entitled to put full confidence." To summarize the above extract: Mr. Buffett’s investment approach is to buy a small group of high-quality companies at a sensible price. These are companies he understands. Companies that demonstrate enduring economics and are run by able management. Mr. Buffett, who is America’s second-wealthiest person, explains above that long-term investment success can be achieved and risk can be minimized by holding a few excellent businesses over the long run rather than continuously trading a large number of far-from-great businesses. This Investment Methodology is the only proven approach to creating wealth over the long term. It is in fact the methodology subscribed to by many of the wealthiest people in the world, and hence the reason why AIC has designed all our portfolios around this proven principle. It is the only way to: 1. Preserve Capital; Having said the aforementioned, I must caution that this focused investment strategy is a discipline to which one must be 100% committed in order to execute successfully upon it. At AIC our portfolio managers have the knowledge, experience, control of emotion and, most importantly, have commitment to the principles of business investing. We spend most of our attention analyzing the economics of the underlying business and assessing its management and very little time tracking share price. If the company is doing well and is well managed, eventually its inherent value will be reflected in the share price. Given that wealth is created by concentrating portfolios, it is cardinal that we understand our investee businesses. We are patient. Investing in businesses for the long run stands the best chance for out-performance, but it requires investors to be patient particularly when other strategies seem to be outperforming. Over the past five years, we have seen many examples. I refer to the experience over the past five years as "rolling speculation." Starting with technology and Internet stocks, then on to real estate and commodities (even Stelco is now profitable) and today the rage is “Income Trust.” Rolling speculation will be followed by rolling busts. We don’t panic over price volatility. Volatility and investing are synonymous. In 1973, Berkshire stock traded at $80/share, one year later it was $40/share. Today Berkshire trades at $84,000/share. Portfolio managers know very well that most investors are spooked by volatility and are apt to react emotionally by selling low. With diversified portfolios, there is less volatility, which provides greater comfort to investors, but also performance that regresses to being average. As Mr. Buffett opined: "I would rather have a lumpy 15% (from a concentrated portfolio) than a smooth 12% (from a diversified portfolio)." In conclusion, you can rest assured that we feel the angst and fears of those particular AIC investors, who over the past five years, have not experienced any significant growth, but I can assure you that the businesses your Funds are invested in are far more valuable today relative to five years ago. Eventually, stock prices will reflect this reality, they always do. We continue to be resolute and committed to doing the right thing, not what is expeditious. Thank you.
Chairman's Message - 2004 Semi-Annual Report
Prosperity arrives over time, not overnight The strong performance of equity markets in the second half of 2003 abated in the first half of 2004 with global markets experiencing moderate growth of 3-5%. This result is completely consistent with what was happening in the broader environment. In the first half of 2004, fears of long-term deflation gave way to fears of inflation, which in turn, fuelled concerns over rising short- and long-term interest rates. The Canadian dollar first increased, then decreased and then increased again to end the first half of 2004 with a slight decrease in value against the U.S. dollar. The recent Canadian federal election ended with a minority Liberal government. The outcome of the U.S. federal election this November is unpredictable. The war in Iraq is over but the terrorist threat continues. The global economy is growing but at a lackluster pace. Overall, the first half of 2004 has provided many mixed signals, as refected in the lackluster performance of equity markets. Meanwhile, equity markets are still well below their peak valuations of four years ago and, as would be expected, the patience of investors, including ourselves, is being tried. And the questions get asked: Are we there yet? Are you sure this is the way? Maybe we should try a shortcut? Against that backdrop, it would be tempting for us to abandon our investment style and try something different; to tell you to ignore the past few years because our "new and improved" style will produce quick results. But we are reminded that our behaviour today will be our history tomorrow. The rules of investing have not changed. Investors still have a need to:
The Forbes wealthiest persons list continues to be dominated by business people who own a few excellent businesses (domiciled in enduring growth industries), which they hold for the long term. In my Chairman's Message in the AIC 1999 Annual Report, I wrote: "This investment philosophy has a strong lineage of success in creating wealth and has always been the bedrock of how AIC has managed all its Funds. Adhering to this philosophy since 1987 is what has produced AIC’s outstanding medium and long-term track record. Throughout history this approach has also been the basis of wealth creation for the truly successful investor/businessperson all over the world. "Given that AIC’s North American Funds have under-performed over the past 18 months, does it mean that today we are experiencing a 'new paradigm' in terms of how wealth is created? The fact that Berkshire Hathaway has under-performed over the past two years (when over the past 35 years it has compounded shareholders’ value at over 23% per year) does it mean that what has worked for Mr. Buffett for the past 35 years is no longer relevant today?" We at AIC are not about to abandon the Investment Principles that have guided us through previous uncertain periods of 1987, 1990, 1994, 1998 and 2000. We will not put your capital at risk by trying a "shortcut" or to "speed up" in some other way. But confidence in our investment philosophy does not mean that we have stood still. Complacency is the Achilles heel of all successful businesses. Increased uncertainty and pressure creates the need for action to increase confidence. Over the last couple of years, we have increased our confidence that the businesses in which we are invested are indeed:
How have we done this?
Our clarity of purpose (meeting the three investor objectives) combined with our conviction regarding our investment philosophy (founded on the practices of the most successful wealth creators) and the depth of understanding of businesses that can only come from:
gives us the increased confidence necessary to once again repeat what we have said in the past: "Volatility is actually a friend to the investor-net saver. As a consumer of corn flakes, do you wish for higher or lower prices? Similarly, if you are going to buy a suit periodically, do you cheer higher or lower suit prices? Continuing the logic, as a net saver over the next while would you prefer to be buying stocks or mutual funds at higher or lower prices? Perversely, many net savers who are buying stocks or mutual funds cheer prices when they are going up, and are depressed when they fall. How do you feel today about your AIC unit values being down? Depressed or euphoric? Obviously, net purchasers of equities should prefer falling prices. So cheer up AIC unitholders!" (Chairman’s Message, AIC 1999 Annual Report) While the world economy has gone through unpredictable, drastic shocks like the bursting of the tech bubble, 9/11, SARS and the Iraq war, AIC holdings (both past and new holdings) have strengthened their relative competitive positions, are generating significant free cash flows and are experiencing above-average earnings growth. This is reflected in the accompanying fund commentaries and profiles of excellent businesses. And the significant and extended decline in market valuations has provided, and continues to provide, investors-net savers with an opportunity to invest in these excellent businesses through AIC Funds at very attractive prices. In closing, I remind investors that we are not in the business of managing volatility; we are in the business of managing to optimize the compounding of your capital. Long-term investment returns are driven by the ability of the underlying businesses to produce strong and growing cash flows. Stock price reflections of this underlying value will not be linear as they are impacted by the collective sentiment of the market participants, which include both investors (who may not always be rational and disciplined) as well as speculators (who have a short-term time horizon). However, in the long-term, investors who hold onto their high-quality investments and add to them at reduced prices will be rewarded with above average, after-tax compound returns. This is what successful wealth creators like Warren Buffett, Bill Gates, Ken Thomson and Galen Weston do. This is what your portfolio management team at AIC does. This is what we encourage you to do. 
Michael A. Lee-Chin Chairman & Chief Executive Officer AIC Limited |
Portfolio Team |
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