In tough, volatile markets, the fund continues to perform well relative to the benchmark and peers. Year-to-date, the fund is up 18.3%, which is 2.7% ahead of the MSCI Emerging Markets Index (expressed in rands). The fund was launched on 28 December 2007 and will soon reach its five-year track record. Since inception, the outperformance achieved amounts to an annualised 4%. The valuation levels of a number of the higher quality emerging market businesses continues to increase, and we have been asked to share our views in this regard given our preference for investing in above average businesses. While we favour such businesses, we are a valuation-driven investment house and prefer paying an attractive price for the businesses we own. This often means that we buy shares when the news flow is negative and (short-term) earnings often under pressure. In markets that seem to become increasingly short-term focused, higher quality businesses are often sold down significantly based on short term concerns that are not indicative of their long term earnings power. We therefore frequently buy businesses that have fallen heavily due to short term problems, not because we are trying to be contrarian, but because we are exercising our judgement that the short term impact of problems on the long term fair value is far lower than the actual market share price reaction. While we own a number of higher quality businesses where there is no negative news flow (and the share prices are not declining), a large part of the portfolio is invested in higher quality businesses where: the news flow is very negative; the share prices are declining; and hence, the upside is potentially significant. We spend a large amount of time and energy in assessing whether the concerns are merely short term or whether they impact the long-term fair value of the business. If our conclusion is the former, we will typically be adding to these positions. Three of our largest portfolio holdings currently fit into this category: X5 (food retailer in Russia), Daphne (ladies footwear retailer in China) and Arcos Dorados (operator of McDonald's restaurants in Latin America). X5 has performed poorly in its hypermarket division in particular, leading to changes in senior management including the departure of the CEO. Daphne faces an environment of heavy discounting from competitors in response to slowing Chinese growth. Coupled with the inability to bring down costs quickly enough this has led to margins falling and will probably see earnings stagnate in 2012 after rising rapidly in recent years. Arcos Dorados has over the last year experienced a perfect (negative) storm of slowing growth in Brazil (its largest market), rising labour costs, higher food input costs and a one-third decline in the Brazilian real when earnings are reported in dollars. In each of these three businesses there will be a difficult few months or quarters ahead, but we believe the long-term franchise value of each remains largely undiminished and when earnings return to normal, so will the rating the market attaches to these earnings. In previous commentaries we have spoken about the attractiveness of leading, developed market listed global businesses that we will consider for inclusion in the fund provided they earn a material (>40%) proportion of revenue or earnings from emerging markets. In this vein, we continue to like the three global brewing giants Anheuser-Busch InBev (ABI), Heineken and Carlsberg. Two of these have recently been involved in M&A activity aimed at increasing their emerging markets exposure in regions where they were already present through joint ventures with local operators. ABI announced it would be buying the remaining half of its Mexican operation (Grupo Modelo), with the deal expected to close in the first quarter of next year. Heineken has reached agreement to take full control of Asia Pacific Breweries (APB), owner of South East Asia's premium Tiger Beer brand. We are positive on these transactions: besides the increased emerging markets exposure, both are also earnings accretive (the Modelo transaction due to revenue and cost synergies and the APB transaction due to attractive debt funding). Carlsberg continues to suffer negative sentiment due to its large Russian exposure. The Russion government continues to make life increasingly difficult for alcoholrelated industries, but in our view Carlsberg's industry leading position will remain intact and its valuation adequately compensates for the risk. Overall, these three global leaders trade on high single digit free cash flow yields. They also have sufficient opportunities in many of their operating geographies to increase volumes and cut costs in order to grow their free cash flow at above market rates over time. We have built positions in the two global spirits giants, Diageo and Pernod Ricard. This is one of those rare industries where the value of inventory can grow over time. Ageing creates premium products, while authentic supply is limited to certain geographies: Scotch must come from Scotland, as an example. They each have seven of the top 30 global spirits brands, yet they still have very little presence in many of the largest markets that remain dominated by small local brands. As an example, Diageo today has less than 3% of its sales coming from China and India, the second and third largest spirits markets in the world by revenue. In the BRICS countries, local brands make up more than 95% of spirits volumes, an opportunity for global brands to take advantage of. There is a clear movement by consumers in emerging markets to increase consumption of premium western brands and we believe that Diageo and Pernod Ricard will benefit greatly from this over time. Luxury goods and jewellery now make up close to 10% of fund. Once again our view is that the market is fixated on near-term earnings risk (which is a real short-term risk), and that the valuations do not reflect the huge long-term opportunity that exists in emerging markets, particularly Asia, where brand consciousness is very high and disposable incomes of white collar workers with a propensity to spend on luxury continue to rise. The fund holds a few of the dominant global luxury companies like LVMH, PPR (Gucci), Richemont and Prada, along with some more Asia specific names like Chow Tai Fook, Ports Design and Folli Follie. The global brewers, spirits and international luxury names make up around two-thirds of our total developed market exposure, which is now close to 20% of fund. In recent weeks members of the team have travelled internationally to meet with management of more than 60 companies. Some of these we own today, many we have owned in the past and may own again in future. This is part of our process to constantly deepen our understanding of businesses in our universe, even if they may appear expensive today. This is simply because one needs to have done the detailed work upfront to make informed decisions when companies stumble to decide whether such an event is once-off in nature or an indicator of long-term decline.
Portfolio managers
Gavin Joubert and Suhail Suleman

It was a tough quarter for emerging markets, with the market giving up almost half the gains made in the first quarter of the year. The fund return year to date is 8.2% in rands, representing outperformance of 3.1% over the benchmark MSCI Emerging Markets Index. The longer-term performance of the fund remains very pleasing, with annualised alpha of 4.3% after fees since inception in December 2007. What happens in volatile global markets will have some knock on effect on the economic prospects of individual emerging market countries. Yet judging from the daily moves in share prices one would be forgiven for thinking that company valuations regularly move by 5% - 10% in response to changes in the macroeconomic outlook. In reality, however, the long-term intrinsic value of most businesses does not vary greatly from day to day. If anything, good businesses are able to grow their values over time by continuing to expand their earnings bases. As analysts first and foremost, it is therefore essential that we remain focused on understanding the true long-term value of the businesses we own. To this end, we continue to spend the bulk of our time ensuring that our assessment of our portfolio holdings is correct and defensible, while also ensuring we can justify why we do not own other businesses that have similar theoretical upside. During the quarter, members of the team visited China, Singapore, Turkey and Russia, in the process speaking with management from over 70 companies. Our analysts also visited many retail stores, supermarkets, restaurants and department stores operated by companies we own and those of their competitors in order to assess their relative strengths and weaknesses. This extra level of due diligence is particularly useful given how different the operating environment is between countries and often even within different cities within the same country. As a result of our research and the moves in various shares during the quarter, there have been some noticeable changes to the portfolio. In our previous commentary, we highlighted the investment case for Arcos Dorados, the Latin American operator of McDonald's restaurants. Continued concern over Brazil's macroeconomic environment, Arcos's largest individual market, and the sell-off in Latin American currencies have seen the share continue to fall. At one point it touched $12 versus the IPO price of $17 a year ago and the high of $28 in September 2011. After speaking to the CEO and founder of Arcos, we believe that the long-term appeal of the business remains unchanged as there are still decades of growth potential ahead - there are fewer McDonald's restaurants in the whole of Latin America, with a population over 560 million, than in Germany and France whose combined populations come to less than 150 million. As is frequently the case, given our investment philosophy, tough markets provide an opportunity to pick up quality businesses at very attractive valuations. We therefore substantially increased our holding, taking Arcos Dorados to 5.8% of fund, now the second-largest position. The sell-off in Brazil, which makes up close to 30% of the fund, was not limited to Arcos as most of our Brazilian holdings came under pressure. The 10% drop in the currency was partly to blame, but for the most part investors continue to shun Brazil over fears of excessive consumer debt and government moves to regulate interest rates. We believe that valuations reflect a fairly severe outcome in Brazil, which is unlikely to come to pass. As an example, Itau Unibanco trades on 8 times our assessment of this year's earnings and offers a 4% dividend yield. This is Brazil's largest private sector bank and a quality operator in a country with low overall financial services penetration. We continued to add selectively to individual stocks in Brazil and invest in new counters such as Cia Hering and Pao de Acucar, the management teams of which we had met in Brazil earlier this year. Hering is a cash retailer of young adults' casual clothing, which has grown phenomenally in recent years. We believe the strength of its asset-light franchising model and potential to still roll out a significant number of new stores is not fairly reflected in its current valuation. Pao de Acucar is Brazil's largest food retailer and owns a significant stake in the country's largest electronics retail chain. Food retail remains very fragmented and Pao de Acucar is well positioned to benefit from consolidation and upward migration of Brazilian consumers into modern retail. The fund reinvested in Baidu.com, China's leading search engine. We last held the stock in 2009 when we had sold due it reaching our assessment of fair value. Since then the company has continued to entrench its dominance of the search market in China and capture an ever-larger share of search related advertising spend. Baidu has established good relationships with tens of thousands of small businesses in China and is not reliant on large conglomerates or multinationals to generate revenue. The complexity of the language and constant refinement of the search algorithm puts Baidu well ahead of its competitors. We believe that the long-term market opportunity available to Baidu is compelling enough to warrant our investment despite what, at face value, looks like rich near-term valuations. One very interesting new addition to the portfolio is Chow Tai Fook, a middle tier jewellery brand in China, Hong Kong and Macau. Chow Tai Fook listed in December 2011 at HK$15 a share and subsequently fell heavily before staging a small recovery to HK$9.50. The business is quite attractive as it is the no.1 jewellery brand in China and has very good recognition amongst consumers. The share price has fallen as a result of expectations of a Chinese slowdown and partly due to the fall in the gold price. A large part of its sales come from fabricated gold jewellery on which it earns a design margin. At less than 12 times next year's earnings it is an inexpensive means of getting direct exposure to a fast growing consumer market in China. To fund the purchases referred to above, we have sold out of our holdings of global beer majors - Anheuser-Busch Inbev, Heineken and Carlsberg. Although all remain businesses with compelling long-term upside, the valuation gap between them and some of the companies that we have purchased has diverged to very high levels, and in our view the risk-adjusted expected returns of the new buys are more attractive.

Portfolio managers
Gavin Joubert and Suhail Suleman Client

After a tough end to 2011, global markets performed very well in the first quarter of the year. The fund had a net return (after fees) of 11.5% in rands for the same period compared to the rand return of its benchmark of 8.4%, delivering alpha of 3.1%. Since inception the fund has provided an annualised return of 5.7% (after fees), representing annual alpha of 4.6%. We are well into the fifth year since the fund's launch and its positive absolute and relative performance has been very pleasing given the high volatility of global markets during the intervening period.

During the quarter, we completed trips to China, Brazil and India where we met with several of our holdings. We also visited Macau, home to the gambling operations of portfolio holdings Melco Crown, MGM China and Las Vegas Sands. These three casino operators make up around 4.5% of the fund and are direct beneficiaries of the large increase in gambling activity that is taking place in Macau, the only region of China where gambling is permitted, and which is now a bigger gambling market (six times larger) than the city of Las Vegas. The Macau regional government continues to assist in the development of this former colony as a 'family friendly' gambling destination with new casino licences and substantial improvements in infrastructure to provide easier access for the population of mainland China as well as surrounding provinces.

The Indian consumer market offers vast potential given that millions of people are rising up the income scale every year. We met with several companies in Mumbai and Delhi, including our current portfolio holdings. We have always wanted to invest the Indian consumer product companies but have found valuations to be unreasonable. Over time these businesses have continued to grow their earnings at a very high rate, but some have not seen a proportionate increase in their share prices, so their valuations have actually declined to the point where they may now offer some upside. The same is true of some of India's IT services stocks, who have become world leaders in IT and business process outsourcing. We believe there are potential investments in both these industries and we are currently carrying out further research on two particular stocks to ascertain whether this initial optimism is justified.

The most fruitful trip was to Brazil early in the year. In addition to meeting senior management of many companies, we conducted site visits with several retailers and education provider Anhanguera (the fourth biggest position in the fund) in order to enhance our understanding of their operations. The Anhanguera visit and meeting with their CEO and CFO was very useful given that the business has completed several large acquisitions over the last year using the proceeds of their 2010 capital raising. We visited one of the acquired campuses and met with the Sao Paolo divisional manager, which provided additional insight into the operating environment of Anhanguera.

Our positive view on Brasil Foods was enhanced both by meeting with the company and by visiting a supermarket operated by Brazil's largest food retailer, Pao de Acucar. Brasil Food's products are omnipresent on their shelves and fridges. The store visit also helped confirm our view on the quality of their speciality meats operation, where the brand holds the no.1 position in Brazil by far, reaching 98% of the country's consumers.

The fund currently has 5.3% exposure to Lojas Renner and Marisa, fashion retailers with a focus on women's clothing and accessories. We like their business models for a number of reasons, not least of which is the fact that, like in South Africa, their position in the southern hemisphere reduces the risk of getting the fashion wrong, thereby avoiding the resultant inventory mark downs. Being one season 'behind' Europe and the US allows them to adapt successful northern hemisphere fashion for the Brazilian market. The industry as a whole is far behind more mature markets and we believe these companies will be able to continue to roll out store space over the next several years with little risk of cannibalising the existing store space. We are particularly positive about Marisa as they target the poorly serviced middle segment of the market, which now totals 100 million people, or half the Brazilian population. Marisa has successfully increased its store footprint and maintained profitability despite the fact that 40% of its stores are still in rampup phase. Valuations are very compelling as in our view these businesses can continuously grow earnings at a rate far above their cost of capital for the foreseeable future.

A final business worth discussing is Arcos Dorados, the McDonald's franchise holder for Latin America. Although this has been a fund holding since December, our conviction (and position size) increased during the quarter after visiting Brazil, the company's biggest market, and meeting with management in Argentina. The CEO of Arcos had previously been with McDonald's, running their Latin American operations for over 20 years and negotiated the division's sale in 2007. In most of the region McDonald's is the no.1 restaurant chain, competing primarily against small domestic brands that lack scale and the management capability inherent in a global operation. Spending on food services is growing much faster than the economy as a whole as people become wealthier and trade up, which should support solid sales growth. In addition, despite having close to 2 000 existing stores, the company still has no presence in hundreds of cities and towns throughout the continent. It should also be able to grow without consuming large amounts of capital as it does not own most of its locations, concentrating instead on leveraging the McDonald's brand into high returns on capital. Despite all the store rollouts of recent years Arcos has mostly generated free cash, a rarity for such a fast growing company. Arcos went public in the middle of last year at $17 per share and at one stage reached $28.50 in September before falling back to $18 in January. Very little has changed in the underlying fundamentals of the business, yet the share price has fallen by over a third from its peak. We owned no shares until December, but now have a 3.4% position in Arcos Dorados in the fund. This holding is reflective of the compelling long-term opportunity we believe exists for McDonald's in a young and growing market.

Portfolio managers
Gavin Joubert, Suhail Suleman and Mark Butler

The volatility in markets continued as 2011 came to an end, with the MSCI Emerging Markets Index ending the year down 18.2% in US dollar terms. The 22% depreciation in the ZAR meant that in local currency terms the index was only marginally negative (-0.25%). The fund appreciated by 3.6% for the year and in doing so outperformed the market by 3.7%. Since the fund launched 4 years ago it has outperformed the market by 4.1% per annum.

The recent sharp market declines have led us back to a number of shares that we had owned in 2008/2009, but sold out of by 2010 due to very strong share price performance and resultant unattractive valuations. Coca-Cola Hellenic (CCH) is one such example: we think it is a great business, but had sold almost completely out of the position by late 2010 due to valuation. The past year along with the turmoil in Europe resulted in a 40% decline in CCH's share price which gave us the opportunity to buy this business again at very attractive levels. CCH are the world's 2nd largest independent Coke bottler, only marginally behind the largest, Coca Cola Femsa, with both generating around $9 billion of annual revenue. Coca-Cola Femsa bottle Coke in most of Latin America, while CCH bottle Coke for most of Eastern Europe. Although the company is listed in Greece, it really is an emerging markets business. Only 7% of group volumes come from Greece, while around 2/3rd of revenue is generated in emerging markets. The bulk of this comes from Eastern Europe, where Russia and Poland are key markets, with Nigeria also being a very important non-European market for the company.

CCH has a number of very positive drivers which, taken together, will lead to double-digit earnings growth for a number of years, in our view. Firstly, per capita consumption (pcc: the number of small cans of Coke consumed by each individual annually in any given country) of Coke in many of CCH's key markets is very low. Italy (a mature market), for example, has pcc of 245, Poland 174, Russia 75 and Nigeria a negligible 23! We believe the pcc of Poland, Russia and Nigeria (in particular the latter two) will increase substantially over the years, and these three markets make up 35% of CCH's group volumes. Secondly, margins are below normal in our view, with CCH's EBITDA margins of 14% being well below the 16% - 22% range of other listed Coke bottlers in Eastern Europe and Latin America. A number of factors will drive margins higher over time, with a key one being the move from off-premise/multiple servings (2 litre Coke plastic bottles bought from a supermarket) to on-premise/single servings that naturally happens as markets develop (Coke cans consumed in restaurants/bars and at home). A continued shift towards higher margin non-CSD products (bottled water, energy drinks, etc.) over the next several years will also enhance margins. CCH trades on a high single-digit free cash flow multiple on our estimate of more normal earnings (taking into account the factors mentioned above), which we think is a very attractive entry point for a business of this quality.

Over the past few months we also added to the fund's exposure to the Macau gaming operators. In total 4% of the fund is now invested in these stocks, compared to only 1.5% at the start of the year. The current exposure at the portfolio level is made up of positions in Melco Crown Entertainment (2.5% of fund), Las Vegas Sands (1.5% of fund) and MGM China (1% of fund). Melco Crown Entertainment (MCE) and MGM China (MGM) have all of their operations in Macau, whereas Las Vegas Sands (LVS) generate about 45% of their profits from Macau, with the balance coming from Singapore (45%) and Las Vegas itself (10%). It is astonishing to think that LVS today generates 90% of its profit from Asia whereas five years ago 100% of profits came from Las Vegas.

What has kept us largely away from the Macau operators in the past has been our view that despite the very positive long-term drivers, the risks are also higher than average and the valuations have not been attractive enough. The key longer-term risk in our view would be additional regulation in some form or another, including the opening up of an alternative gambling destination in China. The key shorter-term risk would be a significant drop in VIP gambling due to tough economic conditions or another credit crunch. The 2nd (shorter-term) risk worries us less: we think about businesses in terms of the next five years and beyond, and the prospects for Macau are very attractive over the longer term in our view. While we believe the probability of extreme regulation is low, it does remain a risk, and the way that we deal with this is to incorporate it into the discount rate that we require in valuing these businesses.

Given the market's current concerns about China, the Macau gaming companies have experienced sharp share price declines over the past several months, and as a result the valuations have become quite attractive in our view. Both MCE and MGM are trading on high single-digit historic (2011) free cash flow multiples, while LVS is trading on a high single-digit free cash flow multiple two years from today. It is necessary to look out a few years as LVS are in the middle of adding significant new capacity. Given the long-term prospects for Macau, we believe that current valuations are very attractive and that one is being compensated for the risks.

In summary, over 25 million people now visit Macau every year (55% of these from Mainland China) and the gaming revenue in Macau is already six times larger than that of Las Vegas. What is interesting however, is that gaming revenue accounts for 90% of Macau's revenue, whereas in the case of Las Vegas (and other equivalent gaming centres), gaming revenue makes up only 40% of total revenue, with the other 60% coming from hotel accommodation, entertainment, food and beverage and retail. Macau today is largely a destination for VIP high-rollers. The mass market is still in its infancy and this is what creates the long-term opportunity in our view. Approximately 10% of Chinese who can visit Macau (based on income levels) currently do so.

Today there is significant new resort development happening that will result in more mass market activities (entertainment and retail) being available on Macau. The transport links to Macau are also undergoing significant improvements which will enable far more Chinese to visit Macau, and quicker, than what is currently the case. Mass market visitors have the additional benefit that they generate higher margins than VIP visitors. Both MCE and LVS (the fund's two largest positions) have operations that are largely concentrated in the part of Macau that is being developed as the mass market area. We believe that Macau, driven by the mass market, has many years of growth ahead and today one is paying very little for these long-term prospects.

Portfolio managers
Gavin Joubert, Mark Butler and Suhail Suleman