Longleaf Partners International Fund Q3 2023 Commentary

Longleaf Partners International Fund declined -3.94% in the third quarter, in line with the FTSE Developed ex-North America Index, which fell -3.98%. Equity markets were in risk-off mode during the third quarter, driven by high inflation and higher-for-longer interest rates in Western markets, coupled with a weak Chinese economy. With persistent geopolitical headwinds, sentiment broadly remained negative, and volatility was high.

We saw this risk-off sentiment particularly reflected in the portfolio’s luxury holdings, resulting in Consumer Discretionary being the Fund’s worst absolute and relative performing sector. It was a challenging quarter for most consumer-related industries, but especially those with exposure to China. The underlying structural themes that make the consumer and luxury businesses we own so attractive – namely the emerging middle class in China and the continued shift towards branded products – are still very much intact, and our luxury companies like Richemont and Kering remain well positioned to benefit over the long term. These companies are currently trading at long-term trough valuation multiples, and we believe the near-term negative sentiment is more than priced in. We took advantage of the extreme price dislocation in the quarter to add to Richemont.

By and large, our companies continue to deliver solid operational results. Our management partners are going on offense and taking action to address the price-tovalue discount, ranging from material share buybacks (as at Alibaba, Prosus, Kansai Paint, Man Wah, Glanbia, EXOR, Domino’s Pizza Group, Accor), to exiting non-core assets and splitting or spinning out business lines (Accor, Glanbia, Domino’s Pizza Group, Delivery Hero, Kansai Paint, Alibaba, Lanxess, Prosus) to selling the entire company (Applus). This translated into positive stock performance at some of our larger positions in a quarter when only Energy was a positive absolute sector for the FTSE Developed ex-North America Index. Our companies can create their own outcomes, even in a challenging environment.

We encourage you to watch our video with Portfolio Managers John Woodman and Manish Sharma for a more detailed review of the quarter.

Contribution To Return As Of September 30, 2023

Portfolio Activity

After a busy first half of the year, we further upgraded the portfolio by exiting two positions and initiating one new position in a business we also own in our Asia Pacific strategy. We exited CK Hutchison as a result of a lack of value growth and disappointing capital allocation, coupled with increasingly challenging macro-economic headwinds. Similarly, we sold Lazard on the back of a change in management and a more muted outlook for the business in the current environment.

We also sold half our position in Applus, which was the top performer in the first half after two private equity firms made bids for the entire business, as discussed in more detail in last quarter’s letter. We’ve been actively engaged with the company, pushing management to find a way to crystallize the value. We cut the position in half, recognizing we are likely at the end game, giving us more cash to redeploy in a volatile market that is producing a growing on-deck list of attractive opportunities.

Outlook

Despite disappointing short-term absolute returns in the quarter, we are pleased with the progress made across the businesses we own. We are partnered with management teams that are taking steps to crystallize value, regardless of the challenges of the current economic circumstances. Our portfolio holdings in aggregate have grown their values this year. The portfolio ended the quarter with a price-to-value ratio in the mid-60s%, offering meaningful upside potential. As more bottom-up opportunities have qualified this year, we have improved the quality of the portfolio over the last several quarters and have a strong and growing pipeline of new investments. We are confident in the portfolio’s position for future relative outperformance in multiple market environments.

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