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Article by dailystock_admin    (05-16-08 11:26 AM)

SF: Sequoia Fund
Q: Questioner
May 16, 2008

Note: No recording allowed. Notes are paraphrased.

Q: Comments on the effects of the residential downturn on Mohawk
SF: Residential real estate is bad and may continue to be so for the next 18 months. Commercial real estate is surprisingly good. One thing about carpet mills is that they can be turned on and off easily without incurring costs. To turn it back on, just need to get the employees back. The type of business that can get better against competitors during down times.

Q: Munger's comment that regional banks might be worth prospecting. Buffett's added to Wells Fargo. Is Sequoia Fund looking?
SF: Most of the bank's good performance in recent years were in real estate lending and home equity lending. Even Wells Fargo dipped their toes a bit in home equity lending. For many of these banks, it would be difficult for them to return to their peak earnings power. Regional banks may be too small for us to move the performance needle of our fund. We've owned banks in the past and bank stocks prices have come down a lot so we would consider it.

Q:Comments on Knight Transportation.
SF: Railroads are good for long haul, bad for short haul. Trucks are good for short haul. As fuel prices go up, trucks are looking more into regional and short haul distances. Due to regulation to move to more expensive trucking engines, many trucks have been removed from the road. Knight runs a low-cost operation.

Q: Comments on Martin Marietta and Vulcan Materials.
SF: Aggregates (rocks, sand, etc) are a good business. First, it is a simple business. There are no substitutes because it is also cheap, costing only about $10 per ton. Because it is so cheap, it makes sense that the physical locations are close to the customers. It is a very local business. Truck transport would cost 30 cents per ton per mile. Martin Marietta and Vulcan Materials are the 2 biggest players in the industy. Martin Marrieta has 50 years of reserves, Vulcan has 43 years. If you draw a 30 mile radius around a Martin Marietta's quarry, you will see another Martin Marietta quarry before you see a competitor's. Great barriers to new entrants because nobody wants a quarry in their neighborhood. Great pricing power. Even in this difficult real estate environment, Martin Marrietta and Vulcan have been able to raise prices by 6 percent. Despite the real estate downturn, they have earned more in 2007 than in 2000. If you look at past long term earnings record, it is excellent.
Q: Characterize the commitment of the four investment successors that Buffett has chosen for Berkshire Hathaway.
SF: Realize that at 77 years old, Buffett has a long way to go so plans may change between now and the time of succession. All four a happy and independently wealthy. Buffett made a comment that they have different styles in terms of predictability. Buffett has always found the people who love the business and not the money. He has also said he was looking for people who can look at risks even if it has never happened before (Buffett read last year's annual report in the 2008 AGM re-emphasizing this fact as the subprime problems have come to roost over the last 12 months).

Q: Comments on Whole Foods Market.
SF: Last quarter's earnings call was poor. Whole Foods is still integrating the acquisition of Wild Oats. There are a lot of one-time costs and the issues seem short-term rather than long-term. One thing about Whole Foods is that revenue growth is amazing, but the net income growth of 11% over the last several years is not that oustanding. We hope they can improve their earnings growth. Depreciation, stock option expense are real expenses so we don't add them back in. You need to remodel the stores and maintain the stores. Options is our money going to the pockets of the executives. However, John Mackey is a visionary CEO. We have invested in visionaries in the past, such as Peter Lewis of Progressive. By 2015, Whole Foods can become a lot bigger than now. That potential is worth putting 1% of our fund into. There is no Whole Foods in Scottsdale, Arizona (one of the richest cities in the U.S.). Manhattan only has 4. With visionaries, train gets off the track but train will get back. We don't see long-term issues facing WFMI. Nothing like consumers trading down or that sort. Traffic is still up 2.5% versus Walmart's 0.3 percent (after a couple of years of negative comps).

Q: Comments on Target and Walmart.
SF: Walmart's biggest edge is in U.S. logistics - using the U.S. freeway system to bring costs down. This is why their international business will probably not generate a return on capital as high as the U.S. Roads in Mexico are difficult to drive through. Transporting goods in London is also difficult. We think Target has the best management team without taking anything away from Walmart. The founder of Target is retiring, but it is very hard to find great merchandisers.

Q: Comments on Walgreens. Recent numbers don't look as good as in the past. Is moat reduced versus several years ago?
SF: Earnings growth averaging 16% a year for the last 10 years is still amazing. Everytime there is a blockbuster generic drug introduced, Walgreens does well because in effect they are paid each time they move a customer to generics. In 2005 and 2006 there were a couple of generic blockbuster drugs. 2009 will be another generic blockbuster drug in Lipitor. CVS has made good acquisitions in the past few years. Walmart's move to give away generics to attract traffic can't help. That said, market shares among the 4 are : WGN 17%, CVS 17%, WMT 10%, (can't recall the fourth) 10%. So you have 4 players owning 50% of the market. We don't think WGN's recent #s is caused by competitive dynamics as much as the lack of blockbuster generic drugs this year and in 2007.

Q: Comments on Brown and Brown
SF: Florida concentration. 2005 and 2006 hurricans led to government intervention. Very hard to predict how long government intervention will continue. Comparisons starting this year will become easier. Homebuilding in time will get back to normalized levels.

Q: Energy outlook and any energy companies?
SF: We would not be on $120 oil. If there are companies that will do on $60 oil, we will look. One thing about alternative energy. If businessmen can be assured a floor of say $60 to $70, there will be a lot more investments in alternative energy. Wind energy is coming on very quickly in the US. Over the last several years, growth in energy consumption in the U.S. has been a lot slower than GNP growth. International usage is making oil price go up. If U.S. economy were a closed system, oil price will be a lot lower. If somebody connected to Congress would propose a way so that oil price can be guaranteed to not go lower than the economic price where it makes sense to use alternative energy, there will be a lot more investments in alternative energy, and that will be the best thing to guarantee oil prices dont' hurt the economy. The bottom line is we don't know where oil price is going.

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