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Weitz: How to Grow Comfortable with the Unloved

Michael Breen

Mike Breen: Greetings. This is Mike Breen of Morningstar coming to you from the 2009 Morningstar Investment Conference. We have got some of the best money managers in the business here. I am fortunate enough today to have Wally Weitz and Brad Hinton of the Weitz Funds from Omaha, a Buffettesque-type shop with a great long-term record. Welcome guys.

Wally Weitz: Thank you.

Brad Hinton: Thank you.

Breen: Wally, I know you were on a panel earlier this morning, so we are going to revisit some of the themes, but you guys have always kind of gone your own way, not worried about the market, pile into sectors where you will find bargains. There is one stock I thought maybe we can talk about that I think typifies that, and that is Redwood Trust, which is a mortgage REIT. So mortgage REIT, jumbo loans, California, it is the worst on the surface of anything...

Weitz: What could sound worse than that?

Breen: Yeah, yeah. What could be better than that? And now for the last year-and-a-half, you have kind of added to your position and then just participated in a sort of additional offering they had and that's done well. So, if you could walk us through why you were comfortable doing that with something that the entire market hated and you were willing to kind of keep adding to the position?

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Weitz: Well, we were original financiers of Redwood when they went public in 1994, so we have gotten to know management quite well and they are experts in evaluating, underwriting credit risk in mortgages. And over the 15 years, they have expressed that in different ways and their current strategy is buying the senior securities of mortgage securitizations. And we probably wouldn't be as confident about them if we just had come to see the company six months or a year ago, but having them explain to us why Lehman Brothers and Merrill Lynch and various companies, five years ago and eight years ago, were doing dangerous things they didn't understand, it is the relationship with those people that made us trust them at a time to be good vulture investors.

Breen: And the CEO; is it George Bull?

Hinton: George Bull.

Weitz: He has been there a long time and has a lot of his own wealth in the firm as well, so you could still be wrong, but obviously you are sort of going to share the pain.

Weitz: We are in it together.

Breen: We also talked recently about some other mildly contrarian moves you made in Cabela's, which is a small retailer in your home state where outdoor equipment and retail was getting decimated last year as well, and you guys had added to it. I wonder if you can maybe, just again, explain why were you comfortable sticking with them and even adding when the worst-case scenario was happening?

Hinton: Sure. I think the beauty and the real difference with Cabela's is the multichannel distribution model. So, in contrast to a traditional bricks and mortar retailer, they really had their heritage in a catalog operation, which has since morphed into an Internet business as well, so they have a less capital intensive way of selling to their end customer. A few years back they got a little ahead of themselves on building large destination stores, which hurt their returns on capital of the overall business. But they recognized, earlier than most, that we might be heading into a difficult time and they pulled back on that capital spending and have really retrenched to focus on that core catalog and Internet business and fixing the source that they already had out there, which has been really the right move to make.

And throughout this period they have been generating positive earnings. They haven't been growing, but they are still likely to generate over $1 of earnings and the stock got down to the $5 range late last fall and since rebounded to $13 or so.

Breen: Are there any challenges with a firm like that--that was a privately held company for 40 years, the Cabela family, then it sort of IPO'd and now you switched to new managers who didn't build the record. How do you get comfortable that the new guys who are taking over can maintain the success that happened for the 40 years that built the brand and the company?

Hinton: The big thing with Cabela similar to Berkshire Hathaway is the culture runs very deep, and they only hire people who are very passionate about the outdoors...

Breen: A Nebraska thing. [laughs]

Hinton: ... and can connect with the customer base. So I think that's the key and you can really only get a feel for that I think by spending a lot of time around the people, and we have made several trips out to Sidney, Neb., and they come to Omaha periodically. And I think we have gained a great deal of comfort that up and down the management team that culture really resonates with everyone at the firm.