The fund ended 2017 with a performance for the year of 12.66% net to investors. We are pleased with this result, especially set against a portfolio which was, on average, just 54.8% invested throughout the year. The strategy generated good returns whilst we refrained from pursuing opportunities that didn’t meet our investment criteria. We’ve mentioned this many time before and will fall into repetition that we prefer to own a quality portfolio of undervalued companies in combination with a sub-optimal allocation to cash, rather than a portfolio of sub-optimal ideas with less cash to spare. Cash will not necessarily be a drag on our long term returns if we can take advantage of market declines to invest in companies with a higher expected return than what is available to us today. Time will tell if such opportunities come sooner rather than later, but at the very least our approach has a substantially lower risk profile compared to a full equity exposure at current elevated valuations.

During the last quarter we sold two of the larger positions of the fund that reached our estimates of intrinsic values. We exited our long-term investment in EM Systems Co Ltd and had a shorter than anticipated ownership in Baidu Inc for annualised returns (IRR) of 47% and 32% respectively.

We profiled our investment thesis of EM Systems Co Ltd in our December 2015 letter. The rational was to invest in a high-quality Japanese software-for-pharmacies business that was going through a temporary revenue drop as it went from the traditional one-time software licensing fee model to a new cloud-based, yearly, subscription model. The key in our analysis was to identify the predictable cash flows that would follow this period of stock price uncertainty at a time when the share price had dropped 30%. Moreover, a recently built first-grade property in Japan’s third largest city of Osaka further enhanced our margin of safety. The company owned 100% of this building but occupied only 20% for its HQ, while the rest was leased out. This prime property was held at cost on the books - hidden from view for the undiscerning investor - when in reality the market value of the real estate covered almost our entire cost of investment. When an attractive business is offered to us virtually for free, we don’t hesitate and therefore made EM Systems our largest position. During our 32-month ownership, we saw our safe asset-play return to a cash-flow compounding enterprise. We sold out of the shares towards the end of the fourth quarter when our expected return had dropped to 6%, which we considered too low to continue to stay on as shareholders. As mentioned, we achieved an IRR of 47% on EM Systems and it has been a tremendous investment for our fund, highlighted by the low risk, high return we achieved over our holding period.

Our second sale was our investment in Baidu, which also delivered good returns for the fund albeit not exactly for all the reasons we described in the Q2 2016 letter. From our initial research we concluded that Baidu was not only cheap at ten times adjusted earnings, but also shared enough of the attractive characteristics of Google to make it a high-quality business. Baidu is the number one search engine in China and we had learned from analysing Google that it is difficult to compete with the dominant search engine. The best example is Microsoft, who have spent billions on its Bing search engine by trying to displace Google but ultimately did not get much traction. At the core of this dominance stands a positive feedback loop or network effect; more users imply more search queries, leading to more search data, which in turn allows to improve the search algorithm, which then leads to a better search engine that attracts more users. But as for all our investments, our first preoccupation is to protect the capital we put at risk, and it was during our ongoing due diligence that several data points popped up that made us review our original thesis. The first one might be a bit anecdotal but nevertheless worried us. Each individual of Chinese origin with whom we discussed Baidu, we didn’t find a single person that actually liked the company. Whilst digging a bit deeper, we concluded that Baidu was not only perceived as an uncool company, but more importantly, its search results were not satisfactory. At the very least not satisfactory enough to make the switch to another search engine easier. Secondly, we always took into consideration that the flow of information in China was not as transparent as what we are used to in the West and at the time of our initial investment, we understood Baidu to have an 80% market share based on advertising revenues. But more recently we noticed some contradictions in published research mentioning that for actual search queries on mobile devices (rather than revenues), Baidu’s market-share dropped to 41.2%. This made us doubt that Baidu’s competitive advantage was as strong as we initially believed it to be. We are still analysing what allowed other search engines to gain such large share of the Chinese market. However, at 17x adjusted earnings we decided we’d rather stand on the side-lines and watch this story unfold. We exited the position after 13 months with an IRR of 32%.

During the first quarter of 2018 we initiated two new holdings for our investment partnership, and we will profile them in our 2018 Q1 letter shortly.

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For the quarter ended December 31, 2017, the fund had 13 listed equity positions. The five largest positions in the fund represented 31.44% of assets under management.

Summary of the five largest positions of the fund:

Boustead Singapore Ltd:

This Singapore-based company is a conglomerate of three quality businesses, which are fundamentally different from each other. The underlying divisions simultaneously went through headwinds, which allowed us to invest at an attractive valuation. Boustead Singapore consists of the following three businesses: 1/ a 51.2% participation in recently spun-off Boustead Projects Ltd; a design-build-lease real estate business that owns a portfolio of new and recently build high-end fully let industrial buildings. It counts IBM, Airbus, Bombardier, Rolls-Royce, SD Schenker and SDV amongst its tenants. 2/ an asset light, global engineering business active in the niche market of direct-fired process heater systems, mainly for oil & gas refineries. 3/ a distribution business of Esri Geospatial Software, which has a 60% market share in geographic information systems (best explained as a professional Google Maps, mainly for governmental use). These three businesses have high operating margins and generate high returns on invested capital. They are led by a chairman who focuses his entrepreneurship on shareholder value creation. We were able to purchase this conglomerate for respectively 5x and 12x the normalised earnings of the energy and geospatial businesses, and paid 55% of intrinsic value for the real estate assets. A potential catalyst exists in moving the real estate assets into a REIT structure and the conservative balance sheet also allows for opportunistic acquisitions.

Compugroup Medical AG:

We purchased this Koblenz-based medical software vendor at approx. 8x cash earnings. It was one of the first investments of the fund. We think this medical software business is of very high quality with high barriers to entry and a dominant position in virtually all the markets it operates in. It has very sticky customers (mostly doctors) with extremely low churn rates, no cyclicality and high free cash flow generation due to the low capital requirements to run the business. The business model is also helped by the continuous pressure from governments to cut public health spending by increasing connectivity. Despite a strong increase of the share price we maintained a substantial position because we got more comfortable with a German initiative that was recently turned into Law. It will further connect all the public health stakeholders with compatible software. Compugroup, being a leader in this field, was part of the government development initiative and once implemented, we believe the company will secure years of sustainable growth.

Judges Scientific plc:

Judges Scientific (JDG) is listed on AIM, a sub-market of the London Stock Exchange and home to smaller companies with less regulatory burden than the main market. JDG specialises in the acquisition and development of a portfolio of scientific instrument businesses. JDG designs, assembles and sells high quality scientific instruments with a focus on material sciences and vacuum environments. JDG generates sales of approx. £56m; 60% from universities, 10% from testing firms and the rest from a diverse group of researchers with pharma, biotech, commercial and industrial backgrounds. More than 80% of sales are exported. Whilst most of the company's products have a long lifecycle, many of these products are sold into diverse markets and into different countries. The businesses share the following characteristics: sustainable profits and cash flows, high operating margins, high returns on capital, high and stable market shares in small niches, high fixed costs (mostly specialised personnel, many PhD’s), low capital requirements and asset light. Since its IPO in 2005 it generated a total return to shareholders of approx. 28% per annum over the 12-year period. When the company came with two negative trading updates to announce poor operating results for reasons we believe to be of temporary nature, the share price declined to a level we found attractive.

Sberbank Rossi PAO:

The fund invested through the London-listed ADR’s in the equity of the largest bank in Russia. The opportunity presented itself following President Putin’s 2014 forays into Ukraine and the subsequent international pressure on the Russian Federation. For the record, we are not particularly big fans of financials, mainly for two reasons; we avoid leverage and we find bank balance sheets typically too opaque for our fundamental analysis. But the strength of Sberbank’s balance sheet, its exceptional historical profitability, its durable competitive advantages, it’s very strong management, its long runway for growth and finally a depressed valuation, all contributed to our conviction of investing in a very controversial situation. For the 10-year period to December 2015, Sberbank’s book value per share in Euro terms compounded at 14.3% per annum, despite the financial crisis in 2008 and the Ukraine crisis. The Ruble also lost about 58% of its value against the Euro over that period. Sberbank dominates the Russian banking sector with >40% of all deposits and a retail branch network over 10x the size of its nearest competitor, resulting in a significant funding cost advantage. On the lending side, the bank focuses on the higher quality borrowers. Viewed in a global context Russia remains substantially underbanked, based on the low percentage of GDP for banking products such as deposits, lending, insurance products and credit cards. We believe Sberbank is very well positioned to benefit from this long-term growth potential. We made our first investment in Q1 2014 at 4x trailing earnings and 80% of book value. We subsequently made further investments as the share price declined when the economic situation deteriorated. Griffin Fund’s current country limit for Russia is 4% of AUM at cost.

C.Uyemura & Co Ltd.:

The company is active in a niche market of the Electroplating Chemicals Industry and is not particularly small (market capitalisation = ¥53b~US$484m) but does a great job of hiding itself. The company is listed on the Second Section of the Tokyo Stock Exchange, usually reserved for small caps with extreme low transaction volumes. Although the company has a 20-year history of growth and profitability, they never made an effort to get onto the First Section of the Tokyo Stock Exchange, unlike their two main Japanese competitors (JCU & MEC). Whilst the industry is consolidating and at best growing in the single digits, it has very high barriers to entry. The industry has seen no new players for several decades due to product complexity, know-how, customer service capabilities and reputation. There are only a small dozen companies active in this space. The three largest making out 60% of the market and Uyemura, together with three Japanese players have about 20% market share. Electroplating Chemicals are an attractive niche in the surface treatment industry and an important component in the production of printed circuit boards. Whilst the process is critical in the production of mainly mobile phones, PC’s and car electronics, the expense to the client is small in comparison to its overall manufacturing cost. This is a balance we like to see because rational customers don’t act penny wise and pound foolish on the small but critical components of their end-products. Uyemura is either a supplier or sub-supplier to most smartphones including iPhones and also for example for Toyota Motors in the car industry. Even in an environment of slowing demand for mobile phones does Uyemura manage to keep margins high because of the higher specification requirements in the latest smartphones like the iPhone 8, X and future iterations. This business has a very high customer retention rate, is asset-light, operates with high margins and has limited need of extra capital and thus is generating lots of cash. At our purchase price, the company’s market capitalisation is 2/3 covered by cash and 4/5 covered by cash + owned real estate. These excess assets give us good downside protection. The Uyemura family still owns 25% of the company. If we back out net cash & real estate, then we are paying 1.3x EV/EBITDA. We believe this is a very cheap valuation for a good company with a long history of profitability, a stable market share in an industry with very high barriers to entry and the other characteristics we described above.