On 1 September 2010 the name of the fund changed to the PSG Flexible Fund. The process, philosophy and people involved in managing your fund have remained exactly the same. The fund has been invested in EOH Holdings Ltd for many years. As of September 2010 EOH is one of our top 10 holdings. This is a relatively small company with which most of our clients will probably not be familiar. We feel compelled to introduce you to this business, not only because the fund is in essence your share portfolio, but also because some clients might (heaven forbid) be making use of the services of an EOH competitor. EOH offers information technology services. These services include consulting (e.g. business operations optimisation), technology (e.g. enterprise security management) and outsourcing (e.g. hosting and networking). The company has two key strengths, the first being its business model. All services are integrated. EOH provides clients with software, hardware and services. Software is generally used to get a foot in the door, creating opportunities to offer the client services. The service offering could then branch out into various parts of the business and possibly even result in an outsourcing contract. Once you are in the position of recommending the company's hardware purchases, hardware supply is a natural extension of your offering. We believe EOH's integrated offering allows it to be very cost competitive and will offer clients more than what they cost them (very unusual for the consultancy industry).

The second key strength is the management. The founder, Asher Bohbot retains a large stake in the company and he runs it like his own. He generally has only one requirement from employees, "Right 1st Time". This transpires into excellent service and happy clients, key ingredients for sustainable profit growth. EOH has a track record of rewarding shareholders. Over the last seven years headline earnings per share has grown every year and grew at a compound rate of 24.8% p.a. Over this same period dividend per share grew at a compound rate of 26.4% p.a. This rapid growth was obtained without debt, truly remarkable. What are the prospects? Asher Bohbot concluded his commentary in the company's latest results as follows "EOH has the ability, the management, the track record and the resources to continue to grow aggressively." At a price earnings ratio of 9.7, we believe, EOH is a very good investment. We hope that you agree.

The PSG Tanzanite Flexible Fund will change it's name to PSG Flexible Fund, effective from 1 September 2010

In recent fact sheets we discussed our philosophy and process in managing your capital. This month we proudly discuss the performance of the fund. The performance of the fund is published monthly on this fact sheet and most of our investors follow these figures very closely. However, another performance measure is the performance of the fund relative to the other funds in the same category, the Domestic Asset Allocation - Flexible category. According to data published by Morningstar the fund had the following performance rankings as at 30 June 2010.

o 2nd out of 53 funds over the past year
o 1st out of 49 funds over two years
o 1st out of 46 funds over three years
o 2nd out of 24 funds over five years

It gives us great pleasure to report such relative outperformance (particularly considering that we are investors in the fund ourselves!). We wish to continue rewarding our clients with good performance. At present the fund is 69% invested in equity with the balance in local cash. As always, the equity allocation is a result of the opportunities we can identify in the market. The equity allocation has declined steadily as we realised full value on some of the investments made during the crash. The current cash holding should help to protect against any market pull-backs while at the same time providing dry powder to take advantage of opportunities which will inevitably arise.

The companies we are invested in are all trading below our estimate of fair value and we expect this value to be realised in the future. As we continue to find good opportunities outside of South Africa, the fund has nearly its full 20% invested in offshore listed companies.

We have seen an increase in the number of new investors in the fund during recent months and we thought it a good idea to welcome all new investors with a quick overview of our investment philosophy.
The fund is a unit trust with a flexible mandate. This allows us to invest in any combination of cash, equities and bonds. The fund's asset allocation is based on the opportunities available in the market. We increase exposure to equities when they are cheap and reduce when they become expensive. Up to 20% of the fund may be invested offshore.
The core of our philosophy is to invest in exceptional businesses when they are trading at low valuations. Exceptional businesses are in our opinion characterised by:
- a management team with a proven track record
- some form of sustainable competitive advantage
- a clear and understandable business model
- positive cash flow, ideally paid out as dividends
- honest and transparent financial reporting
The result of our process and mandate is twofold: Firstly, the portfolio of businesses that is represented by an investment in the fund does not conform to any index. Secondly, the fund will have a high allocation to equities during periods when we are able to find many businesses trading below fair value. These periods normally coincide with panic and, consistent with our contrarian philosophy, we take advantage of the emotional over-reaction of other investors. Conversely, if we are not able to find many businesses trading at low valuations, we patiently wait in money market instruments.
The team at PSG Tanzanite took over the management of this fund on 1 November 2004 when the fund was R3.4m in size. Since then the fund has grown assets under management to R473m. The fund delivered an investment return of 18.9% p.a., some 6.6% in excess of the benchmark of inflation + 6% p.a. We believe that the consistent application of our philosophy and process will enable us to continue to outperform the benchmark over the long term.

On 31 December 2009 21% of the fund was invested directly offshore and if we include JSE listed rand hedge investments, the figure increases to 42%. The reason for our significant rand hedge exposure is threefold. Firstly, we have identified and invested in very attractively priced companies outside of South Africa. Secondly, diversification across geographical areas and currencies reduces risk. Lastly, we believe the local currency faces significant risks. One of the gravest risks is the state of our current account. Out of the 42 countries for which The Economist lists current accounts as percentage of GDP, South Africa's deficit is the third largest at 5.4% of GDP. Why does SA's large current account deficit worry us? The deficit arises from South Africa consuming more than it is producing; this is despite our significant mineral exports. In order to finance the party we are selling off assets, often prize possessions like the V&A Waterfront. The more assets we sell, the larger the annual outflow of interest and dividends to foreigners. The dividend and interest payments to foreign owners also flow out through the current account, further increasing the deficit. Our current solution is in actual fact aggravating the problem. A much weaker rand would improve the situation as this would discourage imports and encourage exports. In November 2003 Warren Buffett, the CEO of Berkshire Hathaway, wrote an article on America's growing trade deficit. This article explained why he had for the first time invested a portion of Berkshire's assets in other currencies than the dollar. We quote a paragraph from this article which we believe is as relevant to our fund unit holders and the rand today as it was to Berkshire shareholders and the dollar at that stage. "Both as an American and as an investor, I actually hope these commitments prove to be a mistake. Any profits Berkshire might make from currency trading would pale against the losses the company and our shareholders, in other aspects of their lives, would incur from a plunging dollar. But as head of Berkshire Hathaway, I am in charge of investing its money in ways that make sense. … our trade deficit has greatly worsened, to the point that our country's 'net worth', so to speak, is now being transferred abroad at an alarming rate."