River Road employs two research methodologies – Systematic and Dynamic.

Systematic Research: Screening of the firm’s three principal databases.

• Our Watch List (including former portfolio holdings)
• Qualitative screening with Value Line: Provides a snapshot of a business and up to 15 years of relevant quantitative historical trends
• Quantitative screening through FactSet: Identifies stocks that best exhibit the Strategies’ critical criteria

Dynamic Research: An active search for attractive candidates among:

• Investment media
• Industry research
• Competitor analysis
• SEC filings (10-K/Qs, 8-Ks, proxy statements, insider trading (Form 4 filings), share repurchases/dividend increases, etc.)
• Various other contacts and resources established by the portfolio management team

LONG PORTFOLIO

The critical criteria for long holdings include:

• Valuation: Target discount ≥ 25% of a company’s valuation
• Attractive business model: Understandable, predictable, and sustainable; high returns on equity and invested capital; and reasonable growth prospects
• Shareholder orientation: Significant insider ownership/insider buying; opportunistic stock buybacks; accretive transactions; debt reduction; and dividend raises/initiations
• Financial strength: Liquidity and leverage; hidden assets; and free cash flow yield

SHORT PORTFOLIO

The critical criteria for short holdings include:

• Challenged business model: Low returns on invested capital, companies in secular decline, companies that cannot grow their top line, companies that rarely generate free cash flow
• Financial weakness: Unsustainable capital structures, excessive debt, negative free cash flow
• Poor shareholder orientation: Overly generous compensation plans, significant related party transactions, insider selling
• Priced at a premium to value: Target price ≥ 120% of a company’s valuation
• Low price and earnings momentum: Avoid stocks with strong positive momentum

The long portfolio targets 20 to 40 positions representing 50% to 100% of the portfolio value, with the actual number of positions dependent upon market conditions.

The short portfolio targets 20 to 40 positions representing -10% to -90% of the portfolio value, with the actual number of positions dependent upon market conditions.

Expected net market exposure is between 50% and 70% in normal market conditions.  In extreme market conditions, net market exposure may range from 10% to 90%.

We believe that the key difference between a losing strategy and a winning strategy is that losers make big mistakes and winners make small mistakes.

• Our sell and cover disciplines help keep the inevitable individual mistakes from causing large, permanent losses of capital in the broader portfolio.
• We do not average down on losing positions.