Re: PCI Overview of 4th Quarter, 2019

Dear Pacifica Client,

While Pacifica Capital Investments reports quarterly results, we do so with reluctance. Our focus is on generating long-term results, and our belief is that short-term performance is not meaningful. As demonstrated in the graph on page 7, PCI’s long-term, aggregate results continue to be very rewarding for our clients.

Overview

During 2019, Pacifica accounts posted a gain of 14.8%, an attractive return in most years but one that fell well short of the S&P 500 Total Return Index’s record gain of 31.5%. Looking at the long-term, Pacifica has outperformed our benchmark by a significant margin. Since inception in 1998, Pacifica has generated a total return of 788.8% against the S&P’s 343.4% gain. We continue to expect to outperform our benchmark over the long term and more so in periods with volatility. Those periods when market weakness appears periodically allow us to “buy low” and later “sell high”. This is when our clients typically see the strongest relative outperformance. Market volatility has been unusually low since the onset of The Great Recession, after which the longest Bull Market in history began. With the stock market currently at historic highs, weakness could return at any time, and we are prepared for that to occur.

In the fourth quarter, we continued to implement our strategy of purchasing undervalued assets and selling holdings trading at prices above our estimate of intrinsic value. Additionally, we continue to closely monitor a select group of excellent businesses where we want to aggressively purchase shares when they trade at more reasonable valuations.

Activity and Positioning

(Note: Pacifica manages accounts on an individual basis. While commentary in this letter reflects aggregate metrics, individual results and positioning may vary based on when accounts were opened and other factors.)

During the fourth quarter, we were net buyers of securities as we added to our holdings in seven positions and sold out of two small ones. During the last three months of the year we added shares of: Five Below (FIVE), Nordstrom (JWN), (FRFHF) and Fairfax India (FFXDF), Designer Brands (DBI), L Brands (LB), and Alliance Data Systems (ADS). Additionally, we sold out of our position in Dick’s Sporting Goods (DKS) and Spectrum Brands (SPB), a spin off from our position in Jefferies Financial Group (JEF) that we did not directly purchase. Total returns generated by those latter two positions we sold during our brief ownership period were substantial.

At year’s end, we held meaningful positions in thirteen securities. In aggregate, Pacifica accounts held roughly 23% of portfolio assets in cash (excess cash is held in money market funds that are currently yielding approximately 1.6%).

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Key Issues Our focus is on buying high-quality businesses that can succeed in any foreseeable economic environment. While we do not base investment decisions on macro factors, we keep our eye on certain indicators to inform our understanding of the risk/reward prospects of the investment environment in which we are operating. While many economic indicators turned positive during the 4th quarter of 2019, we continue to be wary of risks in the marketplace. These include:

A. Elevated Valuations – Multiple Expansion Drives 2019 Gains – The S&P 500 index is currently trading at about 18.2 times forward earnings estimates for the next twelve months. Notably, in 2019 corporate profits only increased 0.4%. The market’s gains were almost entirely driven by expansion of the price-to-earnings multiples investors assigned to businesses. For a business to be worth a higher multiple to earnings, it either must grow earnings at a higher rate, or the rate used to discount its future cash flows must be reduced (discount rates, which are largely determined by interest rates, represent opportunity cost and are a useful component to consider in valuing assets). We do not see any evidence to suggest that growth prospects for American businesses have improved dramatically relative to historical norms. On the contrary, we think it is more likely that the long-term future rate of growth in U.S. GDP will be lower than the historical rate of growth. Meanwhile, as discussed above, interest rates continue to be well below historical norms, thus lowering the discount rates investors use in valuing businesses. This furthers our suspicion that this year’s gains in the stock market were driven more by financial engineering than real productivity improvement.

B. Interest Rates – Yields Remain Low Despite a Strong Economy; The Yield Curve Normalizes – In late October, the Fed cut interest rates for the third time in 2019. This easing came against the backdrop of an economy with historically low unemployment, record high retail sales, 2%-plus GDP growth, and the stock market at record highs. We are concerned that the market appears to be overly-reliant on the role of the Fed in driving asset values. Furthermore, we are concerned about the unintended consequences and unknown risks that may emerge as a result of years of accommodative monetary policy.

After being inverted since mid-March, the yield curve normalized in October, as short-term rates fell due to dovish Fed policy and long-term rates subsequently rallied on positive global

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economic news. As discussed in past letters, an inverted yield curve is widely regarded as a negative economic indicator, as one has preceded each recession since the end of World War II. While the recent normalization of the yield curve indicates improving sentiment about the direction of the economy, it does not necessarily mean the risk of an imminent recession has dissipated. For example, the yield curve inverted in 2006, only to normalize in 2007, just prior to the 2008 recession.

C. Elevated Public and Private Debt Levels – As discussed in prior communications, debt levels in both the public and private sectors remain elevated. We view this issue as being inextricably linked to easy monetary policy, as low interest rates encourage borrowing. We are very concerned about the risks associated with excessive debt levels as cheap credit compresses risk premiums, allowing riskier borrowers easier access to credit. Moreover, we are concerned about the ability of certain governments and businesses to continue to meet their obligations in a more historically typical (i.e., higher) interest rate environment.

Investments

Our objective is to buy businesses for less than they are worth and hold them for the long-term. Ideally, we want to own businesses with strong cash flow, good returns, and opportunities for growth, allowing us to benefit from the compounding benefit of reinvesting cash back into the business over time.

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We view our investments as broken down into three categories:

A. Growth companies that earn high returns on incremental invested capital and have long runways for growth. These “compounders” generate large amounts of cash from their core business and have ample opportunities to reinvest that cash in other high return endeavors. For these businesses, we are willing to pay seemingly high prices and build large positions so long as we are highly confident in their future growth prospects and believe that the discounted value of future cash flows justifies paying a high multiple to current earnings.

B. First class businesses that earn high returns on equity but don’t have an abundance of reinvestment opportunities in their core businesses. This group of “stalwarts” typically consists of large, established businesses. We are perfectly happy to own these types of businesses so long as a) they have a durable competitive advantage that will protect their economic franchise over the long-term, b) they have high quality management teams that have a proven track record of shareholder-friendly capital allocation policies, and c) we can buy them at a fair price relative to intrinsic value. We are willing to build large positions in these businesses depending on how attractive we think our entry price is.

C. Good businesses with solid returns on equity and competitive positioning that are experiencing short-term issues causing their stock prices to trade at low levels. This group is comprised of “value plays,” where we are buying businesses that are not as high quality as those in the first and second group but are still attractive businesses that we are happy to own. With businesses in this group, we tend to take smaller positions and consider price as a more important factor in order to build a margin of safety into our investment. We are also very focused on the quality of management and its capital allocation policies when investing in businesses in this group.

The below chart shows our investments by group (note: this list includes investments that in aggregate are over 1% of assets under management):

Group A: "Compounders" Group: B "Stalwarts" Group C: "Value Plays" Alphabet (GOOG) (BRK/B) Alliance Data Systems (ADS) Five Below (FIVE) Fairfax Financial (FRFHF) Designer Brands (DBI) (GS) Fairfax Africa (FFXXF) Starbuck (SBUX) Fairfax India (FFXDF) Nordstrom (JWN) Jefferies Financial Group (JEF) L Brands (LB)

While our preference is for our portfolio to be concentrated in our best ideas in Group A or Group B, the current marketplace has presented us with more opportunities in Group C. That allocation has emerged because most very high-quality companies and growing companies are trading at what look like excessively high valuations.

Recent Purchases

During the quarter we predominantly added to our positions in the retail sector that we have discussed previously. To recap, the primary factors we are looking for in our investments in this space include:

- High quality management teams

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- Dominant positions within their category with limited direct competition - Demonstrated e-commerce capabilities (each of our retailers generates over 10% of sales online – some are as high as 30%) - High levels of customer service and the ability to drive traffic to stores - Strong balance sheets - Shareholder friendly capital allocation policies - Low entry prices

We continue to believe that certain retail businesses will do well in the evolving retail space. Broad negative sentiment around this sector in 2019 brought the prices of many retailers down to extremely low levels. We believe the investments we made during the quarter were in businesses that are well positioned to succeed in the coming years. We gain additional confidence from the fact that our recent purchases in this space were made at low valuations (in most cases below ten times forward earnings) for businesses that we believe will continue to be successful. Furthermore, most of our retail investments offer dividend yields that are attractive. Please see the attached “Investment Positions” summary for more detail on these and other investments.

In addition to our retail purchases, we continued to add to our holdings in a select group of financial businesses during the quarter. Purchases in this sector primarily consist of businesses we have followed for many years and know extremely well. Our investments in the financial sector during the quarter were predominantly made at prices below book value. Entering at or below that price point we believe gives us an attractive margin of safety and the likelihood of strong future returns.

Sold Positions

During the quarter we sold out entirely of small positions in Dick’s Sporting Goods (DKS) and Spectrum Brands (SPB). (NOTE: Jefferies (JEF) distributed its interest in Spectrum Brands, a publicly held company, to shareholders via a special dividend on September 30, 2019, representing a yield of about 7% of Jefferies’ stock price at the time). Pacifica sold out of both positions after significant gains in a relatively short holding period (see the attached “Investment Positions’ for more details). We believe our successful investment in DKS, which generated on average over 50% gains plus dividends during our approximately one year of ownership, demonstrates the viability of our strategy with other retail investments.

Closing Thoughts

Despite our continued belief that most stocks continue to trade at high valuations, in recent quarters we have found opportunities to deploy capital into investments we believe have attractive future return potential. Our portfolio is comprised of high-quality businesses trading at prices we regard as below intrinsic value, and in many cases, substantially so. We believe this balance of business quality and low purchase price provides us downside protection while simultaneously seizing on attractive future return potential.

Over the last 20 years – since Pacifica has been managing public equity investments for its clients – the world has experienced multiple “shocks,” including: the 9/11 attacks, wars in Iraq and Afghanistan, significant natural disasters (hurricanes, earthquakes, tsunamis, floods, etc.), the rise of terrorism, including attacks in Europe, Africa, and the US; booms and subsequent busts in many industries (technology, internet, housing, raw materials, etc.); a credit-related crisis; significant shifts in political power bases and policies, and more. However, over a period that included all these “events,” our clients’ accounts have benefited from substantial appreciation. The primary reason for that success is that Pacifica

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has had the discipline and patience to adhere to our investment strategy as we have detailed in previous communications and on our website at www.pacificacapital.net

Please do not hesitate to contact us as indicated below with questions, comments, or to set up a time to review and discuss your investments. Also, it is important that you contact us if there have been any changes in your financial situation, investment objectives, or if you desire to impose any reasonable restrictions or modify existing ones on your account.

Sincerely,

Steve Leonard Kari Pemberton Blair Bodek Managing Principal & Founder Principal, Investments & Operations Associate Director of Research [email protected] [email protected] [email protected] 858-354-7180 512-337-5521 215-519-1647

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PCI’s Results and Performance Record

PCI has outperformed the market and has provided significant gains to its longest-term clients. More significantly, PCI accounts have not suffered nearly as much in the years when the stock market suffered its greatest losses. The following are PCI’s Performance Results from inception (1998) through 2019; they are compared to those of the S&P 500 Total Return Index. PCI accounts, in aggregate, vastly outperformed the overall market over the long-term because our declines were much less during periods of market weakness and our gains were strong during periods of market strength. Over more recent periods Pacifica has underperformed versus the overall market. Our cautious outlook – due to our skepticism of market strength outpacing economic fundamentals – caused us to hold large cash balances, which have earned almost no return versus equity positions during a very strong market. We continue to believe our caution will be well rewarded by with strong, long-term results.

We update this graph annually, as we do not believe comparisons for any shorter periods are meaningful.

*PCI performance for each year is unaudited and is a Time Weighted Rate of Return for that year, except for 1998-2004, which is an Internal Rate of Return for those years. IRR is a dollar-weighted return that accounts for contributions and withdrawals during the period. TWR is a time-weighted return that effectively eliminates the effects of contributions and withdrawals and their timing. 1998 is a partial year. The S&P 500 Total Return measures the change from the start of the period to the end of the period, assuming no contributions and/or withdrawals and includes dividends. The “Total” is for the entire period, compounded annually. PCI results are shown net of all fees, including management fees, brokerage fees and custodial expenses, and reflect the reinvestment of all dividends and earnings. Performance results provided herein are the aggregate of all fully discretionary accounts managed by PCI, including those accounts no longer with PCI, and include the performance of the accounts of PCI’s principals (which do not incur management fees) and certain other accounts that have reduced management fees. Minimal leverage and short selling have been used since inception for the PCI managed accounts; the effects of such leverage and short selling on PCI’s performance figures have been nominal. Results for individual accounts are varied and will vary in the future. In addition, it is not likely that the relative performance of PCI’s managed accounts will exceed the performance of the broader stock market (as measured by the S&P 500 Total Return or other broad market indexes) by as large a margin as has occurred to date. The stock market faced an unprecedented decline in the year 2008, which strongly impacted the performance of the S&P 500 Total Return Index during the time period shown. In addition, PCI’s performance during the year 2000 was significantly enhanced by the strong performance of one large position in its accounts under management. The 12/31/19 total ending balance for all accounts was approximately $358 million and approximately $88 million was in accounts of PCI principals (Leonard and Pemberton family accounts). Total number of individual accounts was 269 as of 12/31/19.

Past performance is not a guarantee or indicator of future results, and investors should not assume that investments made on their behalf by PCI will be profitable, and may, in fact, result in a loss. Investors also should not assume that PCI’s results will outperform the S&P 500 Total Return Index or other broad market indexes in the future. The investment objective of PCI’s managed accounts is capital appreciation. PCI’s strategy is to concentrate its investments in a limited number of positions with certain positions representing an intentionally large size in the accounts. This concentration is likely to result in greater volatility than the overall market as measured by the S&P 500 Total Return Index, which is made up of 500 large companies. The S&P 500 Total Return Index reflects both changes in the prices of stocks in the S&P 500 Index as well as the reinvestment of the dividend income from its underlying shares. The Index does not bear fees and expenses, and investors cannot invest directly in the Index. In addition, PCI’s strategy is to “hold for the long term” which reduces trading costs. 7

Investment Positions – Business Summary

Listed in approximate descending order of size in the aggregate of all accounts (within individual accounts, percentages will vary).

Larger Positions

Berkshire Hathaway – (BRKB) (initial purchase in late 1999, most recent purchase 2019) – Berkshire is a conglomerate that owns a variety of operating businesses as well as investments in public companies, bonds, and a large cash position. One of the strongest companies in the world as ranked by shareholder equity, the -led firm employs an extremely prudent operating and investment philosophy. Berkshire’s largest and oldest operating businesses are its subsidiaries. Berkshire’s insurance units have a combined float (money “borrowed” from policy holders) of over $127 billion – up from $65 billion since just 2010. Berkshire has profitable insurance underwriting businesses (not an easy feat) that enable it to hold and invest that float “for free,” plus make a profit on the underwriting business.

Berkshire also owns and operates a multitude of other non-insurance businesses led by: BNSF Railroad, Berkshire Hathaway Energy, Marmon, Lubrizol, IMC, and Precision Castparts along with dozens of other smaller businesses. Berkshire’s non-insurance subsidiaries now account for well over half of Berkshire’s operating profits.

. Business Outlook: Berkshire’s current operating results and investment returns are strong. Despite the company’s robust financial position, Berkshire has not completed any major acquisitions in recent years as market prices for private businesses have been very high. In April 2019, however, Berkshire announced that it would provide financing to help Occidental Petroleum fund its bid to acquire Anadarko. For $10 billion, Berkshire will receive 100,000 preferred shares yielding 8% and warrants to purchase up to 80 million shares at $62.50 apiece. We regard this as the most recent example of Berkshire’s ability to derive attractive terms from companies looking for Berkshire’s financial backing. In recent years, the Berkshire Board of Directors has taken steps to ensure a smooth leadership transition in anticipation of the retirement of the 89-year-old Warren Buffett. These include promoting longtime executives Greg Abel and Ajit Jain to the roles of Co- Vice Chairman and bringing in Todd Combs and Ted Weschler to assist Mr. Buffett in managing Berkshires vast investment portfolio. While we do not believe anyone can replace Mr. Buffett, we like these moves and believe they demonstrate the Company’s focus on preserving their unique culture and positioning Berkshire to thrive for many years to come. As of 9/30/2019 Berkshire had a very strong cash position of over $124 billion in cash.

. Investment Activity: At various points throughout 2019, Berkshire’s stock has traded at prices slightly below our estimate of intrinsic value. We took these opportunities to add shares in accounts with limited positions and will continue to add shares at or below our estimate of intrinsic value. Although it is counter-intuitive to some, we hope that shares of this excellent company trade lower (a possibility in periods of overall market weakness), as we look forward to opportunities to add shares of this excellent company.

Fairfax Financial – (FRFHF) (initial purchase in 2001, most recent purchase 2019) – A that engages in property and casualty insurance and reinsurance worldwide. Fairfax owns significant operations in the United States, Canada and Europe, and most importantly, growing operations in much of the developing world. In addition to its insurance subsidiaries, Fairfax also owns a growing group of operating businesses, primarily based in Canada. Fairfax also formed separate companies in Africa and India focused on investing in public and private debt and equity instruments in these growth markets (two other Pacifica holdings – see “Fairfax Africa and India” section below).

• Business Outlook: Historically, Fairfax has managed its large investment balances (approximately three times its book value) shrewdly through various investment environments while generating very attractive returns. However, over the last few years, investment results have not been up to historical standards, resulting in slower growth in its book value and a lower multiple to book value for its stock. Currently, Fairfax’s investment portfolio is positioned conservatively with nearly 40% of it in cash and treasuries. A decline in asset values will likely have a favorable impact on its returns, as that change will give it the opportunity to deploy capital at more attractive valuations. On the other side of the business, underwriting results at Fairfax’s insurance subsidiaries continue to be strong in 2019; the company’s combined ratio of 97.1% means that it is being paid to hold money that it can invest for its own benefit. Our confidence in Fairfax is bolstered by the company’s top-notch management team, led by long time CEO . Mr. Watsa has an excellent track record, having grown Fairfax’s book value by approximately 19% annually (after accounting for dividends paid) over 34 years. Fairfax pays an annual dividend of $10 per share, or roughly 2.2% of its recent stock price.

• Investment Activity: For much of 2019, Fairfax’s stock price traded below our estimate of intrinsic value. We took this opportunity to add shares in accounts with smaller positions. We regard book value as a very attractive price at which to purchase shares of this business. (We adjust book value higher to account for the fact that certain assets are carried on Fairfax’s balance sheet below their market values.) Pacifica will continue to add shares of Fairfax in the future depending on the current size of the position in each account and the relative market price to book value.

Medium-Sized Positions

Five Below – (FIVE) (initial purchase 2015, most recent purchase 2019) – Five Below is a rapidly growing specialty value retailer offering a broad range of trend-right merchandise targeted at the teen and pre-teen customer. With an assortment of products predominantly priced at $5 and below, it offers a unique merchandising strategy and high-energy retail concept that aims to be fun and exciting. Products include branded and private label merchandise across several categories: Style, Room, Sports, Media, Crafts, Party, Candy and Seasonal. The average store size is approximately 7,500 sq. ft. FIVE began operations in 2002 and currently operates nearly 900 stores in 36 states.

• Business Outlook: We believe FIVE has the potential for very strong and rapid growth over the next many years. While it has been expanding its store base at 20% per year, it still does not have stores within trade areas of much of the US population. We believe FIVE has the potential for 2,500+ stores in the US given its unique value proposition, fun shopping environment, and lack of direct competition. New stores continue to generate fantastic economics – first year sales exceed $2 million per store, and the company generally recoups its entire investment in new stores within one year! Equally impressive, even with its rapid new store growth, FIVE remains debt free and continues to build cash. In addition to new store growth, FIVE has consistently grown revenues at existing stores through excellent merchandising, increased brand awareness, and creative initiatives such as introducing a “$10-Below” section to provide the same value on higher quality items. Simply put, FIVE’s results have been excellent.

• Investment Activity: We began buying shares in mid-2015 and continued at various times since when FIVE’s stock price moved lower. While the price has been higher than we are willing to pay for much of the past few years, we recently were able to take advantage of a slightly lower stock price and add a small number of shares. We are very attracted to the long-term growth prospects of FIVE’s high return model and hope to hold a large position in this business for many years to come. We will buy shares aggressively in this position if the price becomes attractive.

Goldman Sachs - (GS) (initial purchase 2010, most recent purchase 2019) – A leading provider of financial services to the major institutional participants in global capital markets. Revenue sources include 1) trading, 2) investment banking, 3) asset management and security services, and 4) interest and income from balances and holdings. Goldman Sachs has grown its international presence, particularly in Asia, to take advantage of developing capital markets. Goldman Sachs is often ranked as the top operator worldwide across its range of financial services and offerings.

• Business Outlook: Goldman Sachs has grown its book value per share from $20.94 at the end of its first year as a public company in 1999 to approximately $219 as of 9/30/2019 – a compounded growth rate of over 14% when including dividends paid. Keep in mind that during this period the stock market had some very challenging periods, and many financial companies suffered severe setbacks. Nonetheless, Goldman Sachs outperformed its competitors, and its long-term shareholders have been handsomely rewarded. We are attracted to Goldman Sachs’ industry position, strength in many emerging growth markets, durable reputation, and entrepreneurial culture. Goldman pays a quarterly dividend of $1.25 per share (following a nearly 50% raise earlier this year), or roughly 2.2% of its current stock price on an annualized basis.

• Investment Activity: We most recently added shares to account in late 2018, when Goldman came under fire for its role in the “1MDB scandal,” fraudulent conduct involving the misappropriation of funds controlled by a Malaysian state-owned investment fund. While we do think there are likely to be some consequences related to Goldman’s role in the scandal, we think the market significantly overreacted in the immediate wake of the news. We consider book value to be an attractive entry point and we will add shares in the future when the stock trades below that, with consideration given to individual portfolio composition.

Jefferies Financial Group (formerly Leucadia National Corp) – (JEF) (initial purchase 2014, most recent purchase 2019) – A diversified holding company that primarily operates in the investment banking and capital markets sector. Its main subsidiaries are the Jefferies Group LLC (investment banking), Berkadia (commercial mortgage financing, a 50/50 joint venture with Berkshire Hathaway), and various other financial, manufacturing, and energy businesses.

• Business Outlook: Jefferies owns a variety of operating businesses, and it regularly buys and sells businesses and assets in order to realize value for shareholders. Over the past few years, Jefferies has been raising cash by refinancing debt at lower rates and strategically divesting non-core assets to position itself to take advantage of future investment opportunities and focus on its core investment banking business. Over the past two years, Jefferies sold its stake in beef processor National Beef and its auto dealership group Garcadia. In mid-September 2019, Jefferies’ also distributed its interest in Spectrum Brands (a publicly held company) to Jefferies’ shareholders via a special dividend, representing a yield of about 7% to its stock price at the time. (Note, Pacifica sold out of the Spectrum Brands position in all accounts in late 2019, after an additional 20% increase in its share price). We view these moves as positive developments that will enhance organizational focus and highlight the disconnect between the value of the core investment banking business and the company’s current stock price. To this last point, over the last 10 years 75% of co-CEO’s Richard Handler and Brian Friedman’s compensation has been paid in stock, and neither of them has parted with a single share (other than a one-time sale to fund a tax obligation and sales of shares donated or sold for charitable purposes). We gain additional confidence in a management team whose compensation is so closely in line with performance for shareholders. Jefferies pays a quarterly dividend of $.125 per share, or 2.4% of its current stock price on an annualized basis.

• Investment Activity: Over the last couple of years, better operating results at both Jefferies Group and National Beef significantly improved Jefferies’ operating performance. The stock price rebounded dramatically – rising over 80% from 2016 lows to 2017 highs. Since then, broad market weakness in the financial sector has caused Jefferies stock price to decline meaningfully. In response, management initiated a massive buyback program aimed at reducing the share count. During 2018, buyback activity reduced the number of shares outstanding by 13%. Through the first nine months of 2019, management repurchased additional shares representing roughly another 6% of JEF’s share count at the beginning of 2019. We share management’s view that the current stock price represents a significant discount to intrinsic value. As of 8/31/2019, Jefferies book value per share stood at roughly $32. In recent weeks the stock has been trading in the $20 to $21 range. In other words, the stock is trading at roughly two-thirds of book value – a price that we view as attractive. We have been buying shares in accounts with limited positions.

Alliance Data Systems – (ADS) (initial purchase 2018 most recent purchase 2019) – Alliance Data Systems largest and most important business is Card Services (81% of revenue; 90% of operating income). Through this segment, ADS provides receivables financing for private label credit cards issued to customers of over 160 small- to-mid-sized retailers. Customers include Victoria’s Secret, Williams Sonoma, Ikea, and Wayfair, to name a few. ADS also owns a smaller business: Loyalty One, a provider of loyalty marketing services to enterprises in retail, financial services, groceries, and other sectors worldwide.

• Business Outlook: ADS attracted our attention because it has earned very strong returns on equity of over 30% for decades. In 2019, ADS performed poorly. It sold a large, marketing subsidiary (Epsilon) to focus more on its card services segment. However, its cards segment historically has focused on retail customers. The change in the retail environment, and the ensuing bankruptcies and lower sales, have negatively impacted ADS’s portfolio of receivables (if customers spend less on their store and private label credit cards, ADS earns less money in interest, fees, etc.). Although ADS has had some success in new segments, including online retailers and other new retail customers, it has yet to live up to either its own or the market’s, expectations. A new CEO from outside the company will take over in February 2020, and we are hopeful he will be able to refocus the company. We continue to believe that ADS will be able to generate strong returns, as it has historically, and that the current stock price significantly undervalues its long-term value.

• Investment Activity: At under seven times our forward earnings estimate, we believe the current stock price is very attractive. However, we misjudged past management, who often set ambitious targets and failed to deliver on them. We feel this position is large enough in most accounts that we do not plan to add further to this position at this time. We look forward to the new CEO starting early this year, and we will continue to monitor this position closely.

Smaller Positions

Alphabet Inc. – (GOOG) (initial purchase 2019) – A holding company whose largest business is selling online advertising, primarily through a network of owned properties including Google, YouTube, Android, Google Maps, and Google Chrome. In addition to Alphabet’s large advertising business, Alphabet owns smaller businesses that sell products ranging from hardware to cloud services. Through Alphabets “Other Bets” segment, the company invests in long-term projects with the potential to grow into large businesses over time, most notably Waymo (self-driving car technology), Loon (LTE balloon technology), Wing (drone delivery), and Calico and Verily (life sciences)

• Business Outlook: In little more than 20 years, Google has grown from a Stanford grad school project into one of the largest companies in the world. The company’s burgeoning ad business is anchored by some of the most popular properties on the web, along with its proprietary ad selling software, which is used by advertisers around the world to bid on ad space on both Alphabet and non-Alphabet properties. Under the guidance of Founders Larry Page and Sergey Brin, and current CEO Sundar Pichai, Google has proven to be one of the most innovative companies in the world, continuously anticipating trends and using cash generated by its ad business to invest in and capitalize on new technologies. While the core advertising business would likely be far more profitable in the absence of these investments, we feel that management has proven itself to be capable capital allocators and therefore are happy to have it invest excess cash flow for the long-term benefit of shareholders. We are attracted to Alphabet for 3 primary reasons: 1) we regard its advertising business as having a large moat that will allow this part of the business to continue to grow and earn high returns on capital well into the future, 2) we think at least some of the investments it is making in cloud services, self-driving cars, and other areas are likely to pay off in the long-term, and 3) the company has a robust financial position with over $121 billion of cash as of 9/30/2019 (roughly 13% of its current market cap).

• Investment Activity: In late May, news outlets reported that the US Government was preparing an antitrust investigation into Google’s business practices. Google, like other tech giants, has long been the subject of regulatory scrutiny in the US and abroad. We do not think Google exhibits monopolistic or anti-competitive behavior in any meaningful way and think that any consequences from the impending investigation are likely to be relatively minor. If Google were forced to break up, we think it is possible that the individual parts could end up being valued greater than their sum – particularly due to the hidden earnings potential of the core ad business. Following the announcement of the antitrust probe, GOOG’s stock price dropped, and we took the opportunity to add shares in most accounts. At our buy price ($1,150), the stock is trading for less than 20 times GAAP earnings. However, we think theoretically if GOOG were to forego the non- core investments it is making and focus on maximizing profitability in its ad business, the ad business and its cash alone could be worth $1,150 per share and we would essentially be getting its non-core businesses “for free.” The stock price has rebounded since we made our initial purchases, but we hope to add more shares of this first-class company if and when the price moves back down near our original purchases.

Designer Brands – (DBI) (initial purchase 2019) – Designer Brands is a vertically integrated retail operation focused on the development and sale of branded footwear and accessories. Its largest business is Designer Shoe Warehouse (DSW), a leading retailer of designer footwear that operates 650 locations in North America. In late 2018, Designer Brands purchased Camuto Group, a leading producer of designer footwear with expertise in design, sourcing, marketing, and manufacturing.

• Business Outlook: Designer Brands materially changed its business in 2018 with the purchase of the Camuto Group. The plan is to use Camuto’s expertise in creating shoes to build a large, private label business and to put that product in the 20-30% of DSW’s store space that is not allocated to “must-have” brands (such as Nike and Steve Madden). Management expects the private label business will provide the dual benefit of increasing margins while simultaneously increasing customer loyalty, as customers will come to DSW to buy name brands as well as private label brands they are unable to get elsewhere. Building a private label business is one element of a multi-year strategy that includes adding new categories (the addition of a kids category has been extremely successful), adding services to stores (shoe repair, insole molding, and even nail salons in certain stores), revamping its loyalty program (over 90% of sales are made to loyalty members), and continuing to grow its already large e-commerce business (that we estimate is currently over 20% of sales).

• Investment Activity: We began buying shares of Designer Brands in late August as broad weakness in the retail sector, combined with company-specific concerns (primarily around the viability of the Camuto purchase), pushed the stock down to low levels. Most of our purchases were made at under ten times forward earnings – even though management expects earnings per share to grow going forward. The stock price initially increased amidst a rebound in sentiment around brick and mortar retail but has since moved back close to our initial purchase price due to a weaker than expected third quarter. While we intend to keep this position small, we have continued to add shares in accounts with limited positions. The stock currently offers a 6.5% dividend yield and during 2019 the company has repurchased $141 million worth of its shares (roughly 13% of the current market capitalization).

Fairfax Africa and Fairfax India Holdings Corporations – (FFXXF and FFXDF) (initial purchases 2017 and 2015, most recent purchases 2019) – Investment holding companies created by Fairfax Financial (our largest holding – see page 1) to achieve long-term capital appreciation, while preserving capital, by investing in African and Indian businesses.

• Business Outlook: Fairfax Africa and India were formed in 2017 and 2015 respectively with Fairfax Financial as their largest owner. They were formed to participate in the growing African and Indian economies. We share Fairfax’s view that demographic tailwinds and political and economic reforms are likely to drive strong economic growth in these emerging economies. Further, we feel that their partnership with Fairfax in these growing economies is likely a long-term winner for Pacifica clients. Broad weakness in emerging markets throughout 2018 afforded these two holding companies’ numerous opportunities to deploy capital into both debt and equity instruments. In September the Indian government announced that it was cutting the corporate tax rate in an effort to spur economic growth – evidence we regard as indicative of a government interested in making much-needed economic reforms. In late 2019, Fairfax India announced that it was selling a small interest in its largest investment for a price substantially higher than the value at which that asset had previously been carried on FFXDFs books. We view this development as evidence of our thesis that these holding companies are likely worth more than book value, and are attractive investment opportunities at their current prices, which are well below book value.

• Investment Activity: We initially tried to participate in the IPO of Fairfax Africa and Indian shares, but as a new, foreign offering, restrictions from our US custodians prevented us from doing so. In early 2016 and 2017 we added shares of both funds at or near their IPO prices. In the second half of 2017, both of their prices surged well above our estimate of intrinsic value, and we took the opportunity to sell shares. More recently, weakness in emerging markets has caused their share prices to trade lower. We view that reaction as an opportunity: weakness in African and Indian markets should allow FFXXF and FFXDF to deploy capital into attractive opportunities. We have taken the occasion presented by lower stock prices to add shares selectively.

L Brands – (LB) (initial purchase 2017, most recent purchase 2019) – L Brands is a specialty retailer of women’s intimate and other apparel, beauty and personal care products, and accessories. The company operates in three segments: Victoria’s Secret (including PINK), Bath & Body Works, and International.

• Business Outlook: We believe L Brands operates in niche retail markets where it is a category leader. Its concepts are Victoria’s Secret and the related Pink banner, as well as Bath and Body Works. These brands maintain strong loyalty, and its stores generate strong returns: the substantial majority of LBs stores are cash flow positive, and the average store level return we estimate is around 20%. The price of L Brands’ stock has declined dramatically over recent years due mainly to marketing and merchandising missteps that caused sales declines at both the Victoria Secret and PINK brands. The stock price has dropped over 80% from its high at the end of 2016. We like L Brands for its strong cash flow generation, strong brands, and strong dividend, yielding over 6% based on the current share price. We also like management’s history of sensible capital allocation. During LB’s investor day in early September 2019, the new managers of the Victoria’s Secret and PINK businesses outlined turnaround plans that we think make a great deal of sense. With the stock trading at such low levels, this stock has tremendous upside if management can make even modest changes to stabilize its struggling business lines. We would also note that L Brands owns Bath & Body Works, which continues to post some of the strongest results in all of retail.

• Investment Activity: We made initial purchases of L Brands in some accounts at $35 to $40 per share toward the tail end of 2017. Following a series of positive news reports, the stock price surged over 70% and finished 2017 just over $60 per share. More recently, the price has retreated to below our initial purchase price amidst ongoing weakness in the Victoria’s Secret and PINK businesses. We have taken this opportunity to continue to add shares in accounts with limited positions. L Brand’s stock price was considerably higher just a few years ago – trading close to $100 in late-2015. The current market cap of $5 billion is only 5 times the operating income that the Bath & Body Works banner alone generates. If management continues to struggle turning around the Victoria’s Secret business, we think it is possible they will choose to spin off Bath & Body Works. In this case, we think the Bath & Body Works business alone could be worth more than the current value of L Brands. Recently, we have been adding shares selectively to accounts with limited positions.

Nordstrom – (JWN) (initial purchase 2019) – Nordstrom is a highly regarded, high-end department store in the US, with a reputation for top quality service and merchandise curation. The company operates 120 full-price stores and 240 off-price “Nordstrom Rack” stores across North America.

• Business Outlook: Nordstrom was ahead of many other brick and mortar retailers in investing in capabilities that are necessary to compete in the modern retail environment. Nordstrom possesses world-class omni-channel capabilities – digital sales in 2018 made up 30% of overall sales. Digital sales continue to grow at a rapid pace, contributing to Nordstrom’s relatively flat sales performance on a two-year stacked basis. As a result of earlier investments, management expects to be able to decrease capital expenditures significantly in future years, which will free up capital to be returned to shareholders via buybacks and dividends. On this note, Nordstrom currently pays a 3.6% dividend, and the company has bought back $730 million of stock over the past twelve months (roughly 12% of the current market capitalization). We gain additional confidence by the involvement of the Nordstrom family, which just last year attempted to take the business private at $50 per share (the board rejected the offer as too low – meanwhile the stock currently trades at roughly $41).

• Investment Activity: We began buying shares of Nordstrom in late August as broad weakness in the retail sector, combined with company-specific concerns (primarily due to a relatively weak first quarter of 2019), pushed the stock down to very low levels. The majority of our purchases were made at around 8 times forward earnings. We believe that the business has the potential to generate substantial free cash flow due to solid operating performance and lower capital expenditures going forward. Furthermore, we believe management has proven themselves to be capable allocators of capital and we expect the stock to benefit from strong dividends and stock buybacks going forward. Finally, we believe the involvement of the Nordstrom family puts a floor on value as it would likely be interested in taking the company private at a price higher than the current stock price. The stock price has moved up about 30% from our average purchase price, but we will add additional shares if the price drops again.

Starbucks – (SBUX) (initial purchase 1998, most recent purchase 2018) – Starbucks is one of the world’s leading consumer brands and should continue to show impressive growth in many international markets for years to come. Loyal customers around the world frequently visit Starbucks to enjoy one of their favorite, affordable, “addictive” indulgences.

• Business Outlook: We think the Starbucks brand and customer loyalties are second to none. With Starbuck’s core North American business showing strong margins and moderate growth, it is now focused on new opportunities, such as: aggressively expanding internationally (especially in China and India), broadening food and juice offerings both in-store and in-grocery aisles, and expanding in-store services to include mobile ordering and delivery. Starbucks should continue to earn high returns on invested capital within existing and new markets while continuing to generate strong free cash flow and return cash to shareholders. Impressively, Starbucks has increased its dividend 23% to 30% each year for the past eight years. Starbucks pays a quarterly dividend of $.41 per share, or roughly 1.9% of its recent stock price on an annualized basis.

• Investment Activity: Since the latter part of the 1990’s, we have owned a large position in Starbucks at several times – buying when the price is below our estimate of intrinsic value and selling when it is well above that figure. Towards the end of the second quarter of 2018, Starbucks Founder and CEO, Howard Schultz, announced his retirement, and Starbucks also released quarterly results that were below expectations. The stock price fell significantly. We took that opportunity to add shares in accounts with limited positions. The price has since increased well above our estimate of intrinsic value, and we have taken the opportunity to sell the majority of our holdings. Capital gains on this holding have been very attractive throughout our ownership period, and we have also benefitted from strong dividend payments. We look forward to adding to our position if the stock price of this excellent company declines to a more attractive level.

Build-A-Bear Workshop, Inc. – (BBW) (initial purchases 2017, most recent purchase 2018) – Build-A-Bear Workshop operates as a specialty retailer of stuffed animals, and their clothing, shoes, and accessories. Customers typically stuff and accessorize animals themselves in stores. Products are sold via company-owned stores, franchised stores, licensed retail products, and wholesale partners (like cruise ships).

• Business Outlook: We believe Build-A-Bear offers a unique retail experience for children of all ages to create a personalized stuffed toy. New management started in 2013 and turned the chain around after it had overbuilt the concept in prior years. Amidst declining mall traffic, Build-A-Bear is undertaking several initiatives, including: expanding the store base through kiosks that require less capital and offer more attractive returns; adding “store-in-store” locations inside Wal-Mart stores; building stores in tourist locations; and expanding its commercial and licensed channels. Recently, a new, large, activist shareholder has been named to the Board, and we are hopeful he will be a force to drive faster change. Build-A-Bear has a strong balance sheet with no debt and expects to end the year with at least $20 million of cash, representing over 40% of the current market cap.

• Investment Activity: We initiated our position in Build-A-Bear during 2017. 2018 turned out to be a difficult year for Build-a-Bear as it was hit by a confluence of negative factors, including 1) weak movie titles (strong children’s movies can drive more traffic to stores), 2) a weak United Kingdom business due to marketing law changes, 3) continued weakness in mall traffic in the US, and 4) the Toys R US bankruptcy causing a short- term excess of other toy inventory. While the company’s results improved during 2019, they continue to be challenged as its new initiatives have yet to offset declines in its traditional mall-based business. We believe the stock price is extremely low and has the potential for outsized gains if the initiatives management is working on succeed. We are currently not making any changes to our holdings of this position.

Sold Positions

MDC Holdings Inc. – (MDC) (initial purchase 2014, most recent purchase 2018) – When we purchased shares of MDC Holdings, we believed that the segment of the housing market in which they compete would see a rebound in demand, which would improve performance in their business and cause their stock price to increase. That thesis has largely played out, causing MDC’s stock price to increase substantially (the current price is up well over 100% from 2016 lows). In addition to this appreciation, we also benefited from substantial dividend payments throughout this period. While we believe the entry level segment of the housing market in which MDC competes still has room to run, the current stock price is somewhat higher than our estimate of intrinsic value. Given the cyclical nature of this business, we chose to exit this position entirely during the quarter.

Spectrum Brands Holdings Inc. – (SPB) (acquired shares 2019) – In early-October, Jefferies Financial Group (one of Pacifica’s investments) distributed its holdings in Spectrum Brands, a publicly traded company, to Jefferies shareholders. Due to our investment in Jefferies, we received these shares as a dividend without having to invest any additional capital to acquire them. At the time the distribution was announced, the SPB shares we received represented a yield to Jefferies stock price of 7.4%. Following the distribution, Spectrum Brands stock rallied about 20% due to a better than expected earnings report. We took the opportunity to sell out of this position entirely as this company does not fit our criteria for long-term ownership.