Relative to its benchmark and in absolute terms, our fund continues to do well. In hindsight much of this performance has come from investments we made during a period when the fund underperformed the market in 2008. Some of our finest investment decisions were made during this period. The market is now trying its utmost to invest in the companies that we bought but there is simply not enough stock to go around. This is particularly true of the smaller companies we acquired when they were being dumped by the market for a number of reasons. The most profitable decisions were made against a background of extreme optimism in the commodity super cycle. We, as a team, could not validate a number of the factors creating this buoyancy, we preferred to invest in counters that were not popular and whose valuations were in our favour. We shunned commodities in favour of investing in predictable, defensive companies such as the food and cash retailers. The point I wish to emphasize is that some of the best investment decisions require patience and conviction; the seeds are planted long before they bare fruit. It was a very tough time for our small company to run against the herd but our resolve to be independent in our thinking, to have a longer term perspective and our ability to say "no" on many occasions has allowed us to prevail.

But as the old sports adage states:

'You are only as good as your last game.'

We are currently searching for the kind of opportunities that presented themselves in the past. During times like these Dagon and I spend many hours reading, visiting companies and traveling to distant places trying to find the next Lewis, Cipla or Delta stocks; which have made us a lot of money. In the meantime, we are building up cash. Experience shows that when markets go up and when you run out of ideas, one can fiddle too much in the portfolio to its detriment. We will be sitting on our hands to ensure that we only pull the weeds from the portfolio leaving the roses behind to bloom.

The Aylett Equity Fund, now three years old, has produced an impressive track record since inception. As active fund managers, we are in the camp of efficient market theory antagonists, who dispute the hypothesis that the market can't be beaten because all available information is reflected fully in the share price. Reams have been written on this subject and one could get into all manner of theoretical discourse. Ultimately, the facts speak for themselves and our investment team is very proud of the A3 class's 17.1% simple cumulative outperformance of the Johannesburg All Share Index since the fund's inception. The table below shows comparisons of the Aylett Equity Fund versus the index and its upper decile ranking in the Morningstar domestic equity general survey over the 1, 2 and 3 year periods.

On reflection, a large part of our ability to perform came from the fact that we have clients who bought into our philosophy of long term investing, of our being benchmark agnostic and who understood the context of extended periods of relative underperformance. It is a privilege as a fund manager to manage money knowing that one has the support and trust of investors. The dread of many a fund manager is a client obsessed with short term comparisons, thankfully our clients have shown the investment integrity that spares us having to look over our shoulder every week. Granted it was very tough at one stage to be languishing 15% below the market but our conviction remained firm on our investment strategy. In our opinion, the facts at the time simply didn't add up and we were comfortable to be at odds with "Mr. Market" and his followers.

At Aylett & Co. we are first and foremost guided by the principles of capital preservation and doing sensible things when it makes sense. There were long periods in the history of the Fund when we did nothing except come to work and read and read, and read some more. During these times, having strong conviction and being able to filter out the "noise" served our team well. The stock turnover of the fund is below 30%, a numeric indication of the patience factor, one could say.

Being a small asset manager has the great advantage of stock picking access across the entire market. Small cap stocks offer a unique way to add value as these often fall below the radar screen of larger managers who simply can't establish meaningful positions for bulky fund sizes. Particular small cap investment highlights of the past year were Delta, Cipla Medpro, Ocean Group and Paracon whose performance compensated the Fund for its lack of exposure to commodity shares which were outperformers. The key difference for us was that our investments had a higher level of certainty, less risk and were under researched by the market, all characteristics we look for when investing.

At Aylett & Company we have our own money invested alongside that of our investors and we therefore share collectively with our clients. When our clients do well, we do well and when our clients do poorly so do we as fellow investors. This is a wonderful model as it allows us to be both asset manager and investor, keeping the Aylett & Company compass pointing true North.

One can't predict future returns or market behavior. The strong currency does not augur well for exporters and the effects of the global recession are, in our opinion, only now starting to take root in South Africa. Margins for industrial companies will, we think, come under pressure and inflation creep will eat away at disposable income. Our strategy is to find companies that have reasonable pricing power with positive growth prospects and as always to stick with the investment principles that have stood us and our clients in such good stead.

Walter Aylett

From time to time we are asked about Aylett & Co's value proposition. Our investment in the pharmaceutical share, Cipla (previously known as Enaleni) is a good way of replying to this question. Cipla is an extraordinary story. It is headed by Jerome Smith, known to be tough and competitive. His ambitions have led, over a remarkably short period of time, to securing the South African distribution rights for one of India's largest generic pharmaceutical companies, selling the business to a listed company, Enaleni, for over a billion Rand and then getting it back to manage after the incumbent management was dismissed. Cipla is currently the subject of a hostile takeover bid by Adcock Ingram on the back of which the share responded with an 80 % rise from its lowest levels.

The previous management's poor capital allocation process, government's incompetent administration of health care reform and the generally "out of favour" small cap universe, all contributed to the share's decline from 500 cents to 225 cents. With its unfamiliar management team Cipla was not particularly well known for its investor relations and being considered too small, was under researched. It was "off the radar screen" for many larger asset managers who instead invested in the better known pharmaceuticals such as Aspen and the recently listed Adcock Ingram. Enaleni (now Cipla) had caught our attention a few years back. We spent hours talking to government, clients, suppliers, competitors and lower level management, over time building a keen understanding of the business and the changing pharmaceutical industry. On the back of rising pessimism, we purchased the shares at an average of 265 cents. All this so far standard 101 investing, so what was our edge?

With Cipla's size, it was regarded as too small to be held or even covered by many larger institutions. Bulk under management makes it almost impossible to achieve sizeable holdings in many small cap shares. Being a smaller, boutique investment manager, gives wonderful flexibility to invest across the spectrum of 120 shares listed on the JSE. This universe reduces by around two thirds for very large institutions, prohibited by size. In the case of Cipla, we were able to secure a 3-5% holding across our funds. When the takeover announcement was made, Aylett & Co was in a position to respond immediately. Based on prior research and our current evaluation of terms and conditions to be fulfilled, we are skeptical of the deal going through, although this remains to be established by the Cipla board. Jerome Smith, the management of Cipla and their biggest shareholder, Sweet Sensations, are said to be against the deal.

Being unhindered by bulk, gives us the benefit of investment agility, often to the advantage of fund investors. We successfully sold a large holding of Cipla at an average of just above 420 cents, locking in a healthy 62% return for our investors.

There are those investors who seek security in size. While there may be a place for size, there are many investors who recognize the value offered by smaller investment houses. Our value proposition is fueled by an ability to cover under researched shares in a bid to find a true winner; investing according to a robust process rather than a peer benchmark and greater liquidity due to our size. The Aylett Equity Fund prides itself on this value proposition and the fund generated returns in excess of 16% versus the benchmark for the past year ending March 2009. Since inception the fund has returned 16.5% and is 13% ahead of the benchmark.

Our own money is invested alongside that of our investors and this makes us our "toughest clients". If our clients do well, we do well and this symbiotic relationship is what seals Aylett & Co's value proposition.

Walter Aylett