THE OAKMARK SMALL CAP FUND
Report from James P. Benson and Clyde S. McGregor,
Portfolio Managers
THE OAKMARK SMALL CAP FUNDReport from James P. Benson and Clyde S. McGregor,
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| THE VALUE OF A $10,000 INVESTMENT IN THE OAKMARK SMALL CAP FUND FROM ITS INCEPTION (11/1/95) TO PRESENT (6/30/01) AS COMPARED TO THE RUSSELL 2000 INDEX9 | ||
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| 6/30/01 NAV4 $17.15 | Total Return Last 3 months* |
Average Annual Total Return1 Through 6/30/01 From Fund Inception 11/1/95 |
| The Oakmark Small Cap Fund | 19.10% | 14.19% |
| Lipper Small Cap Value Fund Index10 | 12.72% | 13.60% |
| Russell 2000 w/inc | 14.41% | 11.66% |
| S&P Small Cap 600 w/inc.11 | 13.70% | 14.19% |
| * Not annualized. | ||
We are pleased to report that your Fund had a gain of 19% for the just ended quarter which was the best quarterly performance in the Fund's five and one-half year history. The second quarter of calendar 2001 witnessed generally rising stock prices as investors seemed more hopeful that the Federal Reserve's interest rate reductions will keep the country out of recession. The Russell 2000 small cap index rose 14% for the just ended quarter and at the mid-year mark this index of small company stocks was up 7%. Thus far in 2001, your Fund has recorded a 25% gain which places the Fund 18% ahead of the Russell 2000 and 31% ahead of the S&P 500 Index. Our focus on identifying undervalued businesses continues to be the key to our success. We have a terrific group of analysts whose constant attention to sound fundamental equity analysis provides us with excellent investment ideas.
Preparing For Uncertain Times
Despite the interest rate reductions and the recently enacted tax cuts, economic growth remains anemic. During the past few quarters we have actively migrated the investments within the portfolio toward companies that have an above average probability of thriving during sluggish economic times. If you were to view the Fund's portfolio as a single entity you would notice that we have been upgrading the portfolio's financial dynamics. We have been buying stocks in companies that have strong balance sheets, good levels of cash flow per dollar invested, growth potential over time and bright managements that are committed to enhancing shareholder value. Our goal is to own companies that are well positioned to benefit when economic growth resumes, and also to own those firms that can handle a period of economic contraction. By positioning your Fund's investments in this fashion, we hope to realize above average investment returns regardless of the economic environment.
Portfolio Additions and Deletions
The Fund's portfolio stayed at forty-six stocks during the second calendar quarter, yet our turnover increased as we bought five new stocks and sold five stocks. We sold M&F Worldwide after the company made an acquisition that we thought was not in the best interest of shareholders. We also sold Sames Corp., Sensient Technologies (formerly Universal Foods), Stoneridge Inc. and U.S. Industries due to deteriorating financial strength. We added positions in Heidrick & Struggles, Oratec Interventions, Silverstream Software, St. Mary Land & Exploration and Sybron Dental Specialties.
The common theme of our five new purchases is balance sheet strength. Heidrick & Struggles, Oratec and Silver-stream all have a substantial amount of "net cash" on the balance sheet (Note: "Net cash" is calculated by subtracting all short-term and long-term debt from a company's cash plus marketable securities balances). St. Mary Land is an asset rich oil & gas producer with minimal debt. Sybron, on the other hand, is the one company that we bought that has a sizable amount of debt, but their dental supply business is a high cash flow business that has historically weathered recessions very well. By buying these types of companies we believe we will be well positioned to ride out any near-term economic fluctuations.
Highlights |
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Cash is King
Heidrick & Struggles and Oratec Interventions are two new Fund holdings that we would like to review. Heidrick is a leading executive recruitment firm whose earnings growth has been disrupted by the economic slowdown. This earnings slowdown caused Heidrick's stock to plummet from over $70 to its current price of about $21. While we anticipate Heidrick's earnings will be under pressure for at least a few quarters, what attracted us to the stock was its well known brand name, its variable cost structure (commissions on successful placements makeup a significant portion of the payroll) and its strong balance sheet. As of the end of the first quarter of 2001, Heidrick had over $9.00 in net cash per share, thus at current prices we are paying about $12 per share for Heidrick's business. At the current stock price, less net cash, we believe we are buying Heidrick's operating business at less than ten times normalized earnings. We believe this valuation level is very attractive.
Oratec Interventions produces minimally invasive surgical products for use in arthroscopic and spinal surgeries. Oratec is another company with an excellent balance sheet (over $2.00 in net cash per share) combined with innovative products. Oratec's most interesting product, SpineCATH, is a minimally invasive system for treating degenerative disc disease. Although still a relatively new treatment option for patients suffering from degenerative discs, over the past two years over 30,000 patients have availed themselves of this procedure that uses a self-navigating intra-disc catheter which treats degenerative disc disease by heating the disc. About 70% of the people treated experience a statistically significant improvement in back pain with the attendant elimination or reduction in usage of pain killing drugs.
The catalyst that we expect to accelerate Oratec's growth should be the willingness of insurers to reimburse patients for the procedure. Thus far, Oratec's treatment has been catagorized as a "new" treatment and most insurance plans will not reimburse patients for a new treatment. However, the needed two-year follow-up data in various peer review journals should be out later this year and at that time the company will be in an excellent position to push for acceptance and coverage for the SpineCATH treatment. Given the company's low stock price and excellent balance sheet, we believe that we have an opportunity to share in the potential rewards of this technology without undue financial risk.
Outlook
As the aforementioned companies illustrate, there continue to be small cap stocks selling at compelling valuations. Thus, we continue to expect that the rebound in small cap value stocks that began in 2000 will, with some increased volatility, persist for an extended period of time.
Once again we would like to thank you, our shareholders, for your support of The Oakmark Small Cap Fund.
James P. Benson, CFA
Portfolio Manager
jbenson@oakmark.com
Clyde S. McGregor, CFA
Portfolio Manager
mcgregor@oakmark.com
July 5, 2001
| THE OAKMARK SMALL
CAP FUND Schedule of Investments—June 30, 2001 (Unaudited) |
| Shares Held | Market Value | |
| Common Stocks—89.4% | ||
| Food & Beverage—6.6% | ||
| Ralcorp Holdings, Inc. | 579,000 | $10,850,460 |
| Del Monte Foods Company (a) | 995,400 | 8,341,452 |
| 19,191,912 | ||
| Apparel—1.4% | ||
| R.G. Barry Corporation (a) | 907,000 | $4,172,200 |
| Retail—2.9% | ||
| ShopKo Stores, Inc. (a) | 918,800 | $6,688,864 |
| Ugly Duckling Corporation (a) | 370,000 | 1,616,900 |
| 8,305,764 | ||
| Other Consumer Goods & Services—4.0% | ||
| Department 56, Inc. (a) | 642,500 | $4,915,125 |
| American Greetings Corporation, Class A | 300,000 | 3,300,000 |
| Central Parking Corporation | 175,000 | 3,272,500 |
| 11,487,625 | ||
| Bank & Thrifts—9.4% | ||
| BankAtlantic Bancorp, Inc., Class A | 1,100,000 | $9,559,000 |
| People's Bank of Bridgeport, Connecticut | 325,000 | 7,650,500 |
| Golden State Bancorp Inc. (a) | 190,000 | 5,852,000 |
| PennFed Financial Services, Inc. | 177,000 | 3,955,950 |
| 27,017,450 | ||
| Insurance—4.1% | ||
| The PMI Group, Inc. | 165,000 | $11,823,900 |
| Other Financial—2.8% | ||
| NCO Group, Inc. (a) | 260,000 | $8,041,800 |
| Hotels & Motels—3.5% | ||
| Prime Hospitality Corp. (a) | 850,000 | $10,072,500 |
| Human Resources—2.6% | ||
| Heidrick & Struggles International, Inc. (a) | 307,000 | $6,186,050 |
| Spherion Corporation (a) | 150,000 | 1,342,500 |
| 7,528,550 | ||
| Educational Services—5.8% | ||
| ITT Educational Services, Inc. (a) | 374,600 | $16,857,000 |
| Data Storage—1.1% | ||
| Imation Corp. (a) | 125,000 | $3,150,000 |
| Computer Equipment—1.5% | ||
| Infocus Corporation (a) | 250,000 | $4,187,500 |
| Computer Services—3.7% | ||
| CIBER, Inc. (a) | 1,013,700 | $9,630,150 |
| Micron Electronics, Inc. (a) | 698,000 | 1,130,760 |
| 10,760,910 | ||
| Computer Software—4.8% | ||
| MSC.Software Corp. (a) | 600,000 | $11,250,000 |
| SilverStream Software, Inc. (a) | 253,000 | 1,783,650 |
| Symantec Corporation (a) | 20,000 | 865,400 |
| 13,899,050 | ||
| Security Systems—4.4% | ||
| Checkpoint Systems, Inc. (a) | 713,200 | $12,694,960 |
| Pharmaceuticals—2.6% | ||
| Elan Corporation plc (a)(b) | 125,000 | $7,625,000 |
| Medical Research—1.6% | ||
| Covance Inc. (a) | 200,000 | $4,530,000 |
| Medical Products—4.5% | ||
| CONMED Corporation (a) | 215,000 | $5,611,500 |
| Sybron Dental Specialties, Inc. (a) | 200,000 | 4,098,000 |
| Hanger Orthopedic Group, Inc. (a) | 937,600 | 2,390,880 |
| ORATEC Interventions, Inc. (a) | 110,100 | 963,375 |
| 13,063,755 | ||
| Automotive—0.6% | ||
| Standard Motor Products, Inc. | 139,500 | $1,855,350 |
| Automobile Rentals—1.8% | ||
| Dollar Thrifty Automotive Group, Inc. (a) | 219,400 | $5,265,600 |
| Transportation Services—2.9% | ||
| Teekay Shipping Corporation (c) | 195,000 | $7,803,900 |
| Frontline Limited (b) | 40,000 | 684,000 |
| 8,487,900 | ||
| Instruments—1.2% | ||
| IDEXX Laboratories, Inc. (a) | 109,400 | $3,373,896 |
| Machinery & Industrial Processing—1.8% | ||
| Columbus McKinnon Corporation | 525,000 | $5,223,750 |
| Chemicals—1.8% | ||
| H.B. Fuller Company | 70,000 | $3,496,500 |
| Georgia Gulf Corporation | 100,000 | 1,550,000 |
| 5,046,500 | ||
| Oil & Natural Gas—3.1% | ||
| St. Mary Land & Exploration Company | 250,000 | $5,315,000 |
| Berry Petroleum Company, Class A | 250,000 | 3,625,000 |
| 8,940,000 | ||
| Other Industrial Goods & Services—1.7% | ||
| Intergrated Electrical Services, Inc. (a) | 360,000 | $3,510,000 |
| Gardner Denver Inc. (a) | 65,000 | 1,335,750 |
| 4,845,750 | ||
| Real Estate—7.2% | ||
| Catellus Development Corporation (a) | 875,000 | $15,268,750 |
| Trammell Crow Company (a) | 500,000 | 5,525,000 |
| 20,793,750 | ||
| Total Common Stocks (Cost: $217,709,545) | 258,242,372 | |
| Par Value | Market Value | |
| Short Term Investments—10.6% | ||
| Commercial Paper—7.6% | ||
| American Express Credit Corporation, 3.90% due 7/6/2001 | 8,000,000 | $8,000,000 |
| Ford Motor Credit Corp., 3.78% due 7/3/2001 | 6,000,000 | 6,000,000 |
| General Electric Capital Corporation, 4.08% due 7/2/2001 | 8,000,000 | 8,000,000 |
| Total Commercial Paper (Cost: $22,000,000) | 22,000,000 | |
| Repurchase Agreements—3.0% | ||
| State Street Repurchase Agreement, 3.85% due 7/2/2001 | 8,581,000 | $8,581,000 |
| Total Repurchase Agreements (Cost: $8,581,000) | 8,581,000 | |
| Total Short Term Investments (Cost: $30,581,000) | 30,581,000 | |
| Call Options Written—(0.2%) | ||
| Equity Options—(0.2%) | ||
| Computer Software—0.0% | ||
| Symantec Corporation, July 55 Calls | (20,000) | $(1,000) |
| Pharmaceuticals—(0.2%) | ||
| Elan Corporation plc, July 60 Calls | (125,000) | $(437,500) |
| Medical Research—0.0% | ||
| Covance Inc., August 20 Calls | (45,000) | $(99,000) |
| Total Call Options Written (Premiums Received: $(575,929)) | (537,500) | |
| Total Investments (Cost $247,714,616)—99.8% | $288,285,872 | |
| Other Assets In Excess Of Other Liabilities—0.2% | 575,074 | |
| Total Net Assets—100% | $288,860,946 | |
| (a) | Non-income producing security. |
| (b) | Represents American Depository Receipt |
| (c) | Represents foreign domiciled corporation. |