Longleaf Partners Funds Annual Report ("a true

snip..."One day's discussion revolved around the quality and durability of our security analysis. Could the lack of new names over the last year mean either that our appraisals were too conservative or that we had too few people looking? To help answer the question we identified the best businesses we would love to own around the globe from a qualitative perspective, divided those among the research team, and did fresh appraisals. Our list came to around 200 names, and interestingly, we found that they were trading on average at approximately 100% of value. This exercise led to several conclusions. First, our appraisals are probably not overly conservative. Had the average P/V of this wide sample been 120% in a stock market that is broadly efficient and generally trades near fair value, our discount rates and other assumptions would have been called into question. Second, we determined that the lack of new ideas was driven by a true lack of high quality, low priced businesses versus a lack of eyeballs looking or the inability of those eyeballs to focus..." ...snip

Longleaf Parnters funds have long been considered some of the best in the business, and they are highly respected for their evaluation of businesses. There seems to be a shortage of "high quality, low priced businesses" around the globe today. Large amounts of cash are just sitting on the sidelines. Some are waiting for a fairly dramatic correction to buy again - often holding as much as 50% cash. But cannot the problem be put another way: "Why is the domestic and global economy not producing more high quality, undervalued companies?"

Surely there is enough capital, enough intelligent and industrious people who could organize themselves to go after new opportunities. Rather than wait for a large correction which is destructive of wealth, is there a way to increase the productivity by which quality new business may be formed, i.e. increase the supply rather than decreasing the demand? When we see all the new private companies now looking to fly into space, there is an explosion of interest. Yet someone had to put up a big prize to incentivize people to take the risk. I think the same was done for whoever first decoded the human genome. Don't we need to be doing more along these lines to help get people and teams out of the gate?!

Was there a gross misallocation of resources during the Internet bubble that caused a fall in the creation of quality new companies? Is much of the money going into housing coming at the expense of investing in new enterprises? Is government bureaucracy and in Europe, the welfare state, distorting incentives? Are our expectations as to entrepreneurship too low in this area? Is our savings rate too low? Are government deficits crowding out other kinds of investment? George Bush's spreading of democracy will be one of the biggest anti-poverty, wealth creating initiatives in history, for example, so monumental transformations can take place.

It seems we are at a turning point: either we solve this and increase the productivity on new business formation, or we watch the correction happen and are poorer for it. If this would get as much attention as when the next correction is coming, it might give us more control over our destiny. But then again, I claim no expertise in this area. Thanks for listening.

The market has a way of correcting itself and if government stays out of the way the corrections are usually not so painful. An example of bad government interference of markets was the oil shortages of the 70's or the federal control of airlines. Take away government control and the markets go back to supply & demand. There are plenty of companies with hordes of cash (Microsoft, for example), but there are others who are leveraging themselves in hopes of a more prosperous future (Oracle).

What has so many things out of whack in our economy is the demand for cheap goods, forcing companies (namely Wal-Mart) to go to China to have products manufactured. This boom to China's economy means that they are now competing for the world's resource, like oil and concrete. For example in the past 10 years China has gone from a net exporter of oil to importing as much oil as the US. This raise in oil prices will have a rippling effect on the economy. China's demand for concrete has made the price of building increase in the US. Their economy is where the United States economy was in the 50's and Japan's in the 80's, the difference being they are nearly 10 larger than the US & Japan combined. This will surely be a big elephant to eat.

At the same time China is booming, old Europe is trying to form the EU to hold together the assorted nanny states they have created over the last 60 years. Also, with the beginnings of democracies in the Middle East, those economies will also begin to heat up. It will soon be more than just Israel that has a decent economy in the Middle East.

The advantage that the US has over the entire world's other economies is that we have over 2 centuries history of innovations. We have consistently led the world in inventions, not just in technology, but in culture. (This, by the way, is greatly disturbing to old Europe.) These advances in technology have allowed huge increases in productivity.

I, for one, have been a great beneficiary of the "recession" of 2002-03. I was laid off and forced to start my own company. That is what made it so frustrating to me when the old media would report jobless claims. Many of us went uncounted because we started own businesses. I think there are plenty like me, who are getting ready to expand into a growing economy.

Government deficits are of little concern to me as they are still a fraction of what they were (as a % of GDP) during WWII and the 80's. What does worry me is the oncoming retirement bubble of baby boomers. If you thought that the gimme generation (opps - I mean "greatest generation") has been a drain on SS & Medicare, you've not seen anything yet. With AARP in the lead the Boomers will sap government revenues dry as they begin to collect their "government benefits" (i.e., old age welfare).

Productivity has and will continue to drive the US to be the world's leading economy.

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