Meridian Fund Annual Report, Commentary on ARCO, NSC, GMT, ICON, COST, Others
Stocks experienced slight losses during the quarter ending June 30th. The primary concern is that the economic recovery may be losing steam. The S&P 500 declined 0.4%, the NASDAQ 0.3% and the Russell 2000 1.9%. Among the best performing sectors were footwear, apparel, pharmaceutical, healthcare and biotechnology companies. Forest products, energy equipment, precious metal, coal and mineral companies were among the worst performing groups. The yield on the ten-year bond dropped from 3.4% to 3.16% during the quarter. The decline, in our opinion, reflects the slowing economy and a move toward safety.
The economy grew at a modest 2% rate in the first quarter and recent indicators haven't been encouraging. Housing remains weak, there has been little job growth, consumer confidence is dropping and manufacturing growth is slowing. Neither the government's so-called stimulus program nor the Federal Reserve's zero interest rate policy has been effective in generating a solid recovery. This has been one of the slowest economic recoveries since World War II. Many U.S. companies are doing well but, unfortunately, are choosing primarily to expand and hire internationally. We believe that the economy will continue to experience moderate growth through the balance of the year and job growth will pick up, but not fast enough to make a meaningful dent in the unemployment rate. The rate of inflation and interest rates will move moderately higher by year end, in our opinion.
Long-term investment results, history clearly shows, are improved by buying good companies or mutual funds consistently over an extended period of time.We welcome those new shareholders who joined the Meridian Funds during the quarter and appreciate the continued confidence of our existing shareholders.
Richard F. Aster, Jr.
Meridian Equity Income Fund» (MEIFX)
The Meridian Equity Income Fund's net asset value per share at June 30, 2011 was $10.61. This represents an increase of 7.4% for the calendar year to date. The Fund's total return and average annual compound rate of return since inception January 31, 2005 were 35.0% and 4.8%, respectively. At the close of the quarter, total net assets were $35,643,598 and were invested 5.2% in cash and other assets net of liabilities and 94.8% in stocks. At the close of the quarter there were 564 shareholders in the Equity Income Fund.
Our basic strategy remains unchanged. The Fund continues to seek to invest in companies with above-average dividend yields, strong financial returns and that have, in our opinion, the ability to grow dividends. The severe downturn in the economy and corporate profits resulted in dividend cuts for companies which previously were considered safe. Dividends for good companies, however, have stabilized and are beginning to grow again, as the economy improves. The Fund is diversified with 60 holdings representing 60 different industry groups. At the end of the June 2011 quarter, the portfolio's average holding had a five-year average return on equity of 19.8% and an average dividend yield of 3.3%; both measures substantially higher than the average S&P 500 stock. The yield compares favorably also to the 3.2% yield on the ten-year Treasury bond. The average holding has a market capitalization of $35.1 billion, a debt ratio of 38.9% and earnings per share that are projected to increase 9.43% annually during the next several years.We believe these financial characteristics will lead to positive long-term returns for the Fund.
During the quarter we purchased shares of International Paper, 3Mand Molson Coors Brewing Company. We sold our positions in MeadWestvaco and Ryder System.
Norfolk Southern Corp. (NSC), a current holding, is one of the largest railroads in the United States, operating primarily in the Southeastern, Eastern and Midwestern United states. Freight includes consumer goods and industrial products, as well as general commodities such as agricultural goods, coal, petroleum and chemicals. The company provides logistic services and participates in the international markets through its intermodal network which accounts for 20% of revenues. Norfolk has strong financial characteristics and growth prospects are good. The stock has done well but still yields 2.17%, which is above the S&P 500 average of 2.00%.
Meridian Growth Fund» (MERDX)
The Meridian Growth Fund's net asset value per share at June 30, 2011 was $47.61. This represents an increase of 6.8% for the calendar year to date. The Fund's total return and average annual compound rate of return since inception August 1, 1984 were 2,533.0% and 12.9%, respectively. At the close of the quarter, total net assets were $2,615,081,827 and were invested 5.0% in cash, cash equivalents and other assets net of liabilities and 95.0% in stocks. At the close of the quarter there were 88,526 shareholders in the Growth Fund.
Our investment outlook and strategy haven't changed. We purchased shares in Arcos Dorados (ARCO) and didn't eliminate any positions during the quarter.We did, however, adjust the weightings of a number of our holdings. The portfolio is made up of small and medium-sized growth stocks which, on average, are reasonably valued, have solid growth prospects and good financial characteristics. We own fifty-six different positions and the heaviest areas of concentration remain technology, industrial and consumer stocks. It is interesting to note that 40% or more of the revenue of many of our companies is now generated internationally.
RPM International (RPM), a current holding, manufactures a diverse portfolio of coating and sealant products for the industrial and consumer segments. The company is a market leader globally in various product segments such as polymer flooring systems, corrosion control coatings, and latex caulk and sealants.RPMis benefiting from global infrastructure spending as its products are used in the construction of highways, bridges, and utility facilities, etc. The company sells products used in wind and solar power generation and the eventual recovery in housing and commercial construction will boost revenue also. RPM is expected to boost growth through acquisitions, international expansion, and new product launches. The company has an experienced management team with a strong track record. The shares sell at a reasonable valuation given the company's balance sheet, financial returns and long-term growth prospects while offering an attractive 4% dividend yield.
The Meridian Growth Fund's long term performance has earned several recent accolades. See In The News, below.
Meridian Value Fund» (MVALX)
The Meridian Value Fund's net asset value per share at June 30, 2011 was $29.59. This represents an increase of 2.4% for the calendar year to date. The Fund's total return and average annual compound rate of return since June 30, 1995 were 729.8% and 14.1%, respectively. The comparable period returns for the S&P 500 with dividends were 222.6% and 7.6%, respectively. At the close of the quarter, total net assets were $869,311,976 and were invested 4.6% in cash, cash equivalents and other assets net of liabilities and 95.4% in stocks. At the close of the quarter there were 40,982 shareholders in the Value Fund.
Our investment strategy remains unchanged. We continue to seek out-of-favor companies exemplified by an extended period of declining earnings. Over the past two years most earnings problems were related to poor economic conditions. During this period we invested in many high quality companies at attractive valuations. These are companies, in most cases, with leading and defensible market positions, high returns on invested capital, strong balance sheets and proven management teams. Many of these investments lagged the market during the strong rally off the 2009 market lows and continued to underperform in 2010 as the market favored smaller, higher growth companies. With some stability in the economy, we now see more companies that fit our strategy for company-specific reasons. These investments are the traditional strength and point of differentiation of the Meridian Value Fund. We are gradually shifting the portfolio to more of these investments and expect that this should bode well for a return to the Fund's historically strong performance levels.We hold 55 positions, representing 34 industry groups.We continue to invest in companies of all market capitalizations and our largest areas of concentration are technology, retail and transportation.
During the quarter we purchased shares of GATX (GMT), Hospira (HSP), Huron Consulting Group (HURN), ICON (ICON) and International Speedway (ISCA). We sold our positions in Forest Oil, Gen-Probe, Northern Trust and NVIDIA.
Costco (COST), a current holding, is the leading warehouse club in the United States with additional locations in Canada, Mexico, the UK and parts of Asia. In an environment of sluggish consumer and small business spending, Costco's ultra-low prices should drive traffic gains versus retail peers. Membership fees, which constitute the majority of the company's profits, continue to grow through adding new members, up-selling higher fee memberships and periodic fee increases. Additionally, Costco is expanding its units at a measured pace with greater opportunities abroad. The company has an excellent balance sheet and trades at a reasonable valuation, taking into consideration it's over $11 in net cash per share, quality of management, leading competitive position and future growth.