Q: MFS has a value fund managed by a team headed by Lisa Nurme. What is the difference between it and the Strategic Value Fund? A: The fund has been in existence five years. I guess the way we distinguish it is the value fund is large-cap value oriented. I am multi-cap. The second thing is they have a focus on dividend yield as one of their predetermined screen techniques. I do not. The third is the ability, as I said, to traffic across all capitalizations. The fourth one is the concentration. Theirs is fairly typical in the sense they might have something on the order of 100 stocks and I might have 60 to 80. I happen to be at 59, so I'm on the low end of that range right now. Q: The rating agencies have you ""boxed"" as a large-cap fund. Could you explain what you mean by a multi-cap approach? A: I try, for lack of a better word, to go where the action is or where the ideas are germinating from our analysts. Capitalization and the resulting weightings that I end up with in terms of large-cap versus small and medium is really an afterthought of the individual ideas – with it all coming from the bottom. Q: If my memory proves correct, MFS has trademarked the research process, called MFS Original Research. A: It's all bottom up. All portfolio managers have started as analysts at MFS. We do not hire outside portfolio managers. The analysts run something on the order of an $8-billion research fund. Analysts and portfolio managers work together as a team, which is nice. Given our background of covering stocks in the MFS mode, it allows us to have some background in a few disciplines that we can talk to those analysts about. I like to think of it as a second team behind the core analyst group, which is the A team. We've all covered various industries and maybe have some strength. We can be sort of a second sounding board, a B team for them. Q: My data shows a five-year return of roughly 9%. We've seen a flat market from July 2002 to early 2003. How do you view the current market environment? A: It's been a difficult environment for any discipline lately, value or growth. There is a lot of gray area now between value and growth. I think the environment is going to continue to be difficult. It's going to be one that fosters a stock-by-stock analysis. That will be the winning strategy as opposed to group analysis or top-down macro calls or grabbing the coattails of a technology tailwind as it were a couple years ago. I don't think that's in the cards for the next few years, as we see it. We think it's going to be a volatile, stock idea oriented market where you have to do your homework and hope that you've done the right analysis, because as you've seen, I'm sure, the market is very unforgiving of any mistakes. I think the market's correction, to date, has presented some opportunities. We think value, despite its good run over the last two years, still has some opportunity going forward. I use technology as an example, and it goes back to how I invest that supports the value effort. At the peak of the market, when the S&P was something on the order of mid-30s to high 30s in weighting in the technology group, our value group as a whole and my particular fund was approximately 5% in technology. When looking at our five-year record, we didn't chase them. We stuck to our discipline. When things came our way both on a normal and a relative basis over the last couple of years, we were there. We think some of our constituents got caught up in the fever of the market and perhaps strayed a little bit from their previous discipline. Some of the funds we compete against – I won't mention any names – but they didn't look at all like value funds at the top of the market. They looked more like growth funds. I think essentially they capitulated and paid the price. Q: How do you characterize a growth and a value company? A: I'm not doing growth, so I'll take the value side. We use the traditional measures – price-to-earnings ratios, price-to-book, price-to-sales – and hopefully a healthy dividend yield, one that is a premium to the market place. We look for discounts in those measures to the overall market. In the Strategic Value Fund, I also like to look for stocks that have transitory issues as opposed to systemic issues. It seems to me that these days, the market is laden with companies that have issues. You have to be willing to step up to those issues and decide whether they're going to be here to stay or whether it might be something in passing and whether management can get you through those issues. We're willing to adapt to an appropriate analysis, so we use traditional measures and nontraditional measures in terms of how we value stocks. Q: What is a nontraditional measure? A: Asset values and certainly free cash flow analysis is paramount in our analysis these days. What we're trying to say is those metrics are appropriate and we do use them. But we're trying to encourage our analysts to look at a company in any particular way they might look at it. For instance, we may try to normalize earnings. We may try to look at expected returns over a particular time frame. We put a lot of emphasis on our knowledge and getting to know the managements because often times in my area when something has to do with a situation or issue, it has to be management that has to execute. We strongly believe that we have to subjectively evaluate the management and compare them to other managements we know in the industry. Q: Can you provide an example of why you decided to sell stock out of the portfolio? A: One idea in which we did very well is an example of the nontraditional approach. It was a biotechnology stock, Genzyme, which is in an area where we haven't trafficked in Strategic Value ever. Yet the market was punishing this company for the fact that they missed earnings a couple of times and there was a problem with one of their drugs in terms of excess inventory and people were worrying about the sell through rate. Our analysts were very comfortable that was transitory and that they were going to get through this issue and that they had a good slate in the pipeline. At one point the stock by our measures got down in the low teens PE ratio. This was sort of unheard of. And this was a company with great cash on the balance sheet, a great franchise and yet the multiple contraction was dramatic. It was much more multiple contraction than earnings degradation. We bought the stock in the low 20s and it worked out very nicely to the low 30s. The reason we sold it was because we thought it had more growth characteristics in terms of valuation. That was an example of an idea where we weren't involved in a stock because of valuation, then got involved because of valuation and then actually moved away from the stock because of a change of valuation, in this case, in our favor. Q: When you are screening for ideas, do you rely upon any quantitative data? A: I don't do a lot of screening, per se. My fund uses the Russell Value 1000 as its benchmark and I don't spend a lot of time looking at the components to see if I'm hugging the index or not hugging the index. As a matter of fact, of the top 20 holdings in the Russell Value 1000, I think I only own about five or six of them. I think my alpha or valued added comes from adding the appropriate names. I don't spend a lot of time screening names. We rely very heavily on our analysts to generate ideas and on ourselves in working with our analysts. It's mostly household names. One of the things I talk about a lot on a marketing basis is despite the fact that we call it strategic value and use words like opportunistic and transitory issues, the reality is the names are very often household names to everybody, like Sears or Occidental Petroleum. I've owned Disney in the past when it got cheap. The names are ones people are familiar with. It's just that the market might be a little impatient with them at a particular time. Q: Although you stick mostly with large-cap names, I see you do venture into names with lower market capitalizations. How often do you add these names to the portfolio? A: I actually stick with ideas. If the analysts come with ten great mid cap ideas, then by definition the fund would be skewed more toward the mid-cap area on a marginal basis because the last ten names would have been mid cap. The benefit I have and the enjoyable thing about it, from my standpoint, is I don't have a strategy that says I can't buy names below or above XYZ market cap. I'm not surprised, but often I will look back and say geez, I'm up to 74% large cap. I wouldn't have thought that by just looking at the names, or whatever, but that's just the way it falls out. Q: In your focus on ideas, do you end up concentrating into specific sectors in terms of weighting? A: In reality, if you look at the fund over time, and you look at the Russell Value 1000, it is dominated by financial institutions, mostly regional banks, utilities, communications and the energy industry. There is a good rationale for them. They're slow growth industries in general. They pay out high dividends. I think you'll see this fund have reasonably heavy weightings in those three areas. What I would ask you to do when you look at the fund, don't look at the nominal weighting that says I'm 20% in financials and compare that to the 29% in the Russell Value 1000. This might say he has an under weight in financials. I would ask you to go a little bit further and look at what I own in financials. Often times, I may or may not have interesting names or eclectic names that have nothing to do with the benchmark. My weighting in energy looks over weighted, with large holdings in BP or Chevron-Texaco, but the reality is it's not. I have a dominant position in oil service and natural gas oriented E&P companies. The reality of my weighting in financials is I don't own the large regional banks because I don't find them particularly appealing. And yet I do own a few of the brokerage firms, which I think are right sizing their business. On the insurance side, I have a little bit of the weighting relative to the index in property and casualty, such as Travelers and Hartford. So again, the weighting is one thing, but you have to look inside the weighting. Q: Your specific area of analysis is interesting. You covered so many areas. How did this prepare you to manage a fund? A: I had a reasonably typical analytical career, but the three primary groups I covered were: all of energy (oil service, E&P, the pipelines, the integrated oils), the media group (cable companies, broadcasters, and newspapers), and retail (mostly on the large cap retail side, the discount stores as well as the department stores, and some fashion retailers, what we call fashion retailers). Everyone here has a broad background like that and probably has two or three groups where they have a primary history with a longer tail to it. Q: You guys must talk to each other a great deal when you're not talking to companies. How is the communication network set up at the firm? A: I've been here 17 years. I've seen the company grow a lot and what has been nice is the commitment to the research side has grown in lockstep with the assets. We continue to add people and try to get the best coverage we can. To my left here is Greg Locraft, who's an analyst, and to my right is Deno Mokas, who's a portfolio manager and across the hall is Matt Baker, who's an analyst. We think it's a fairly flat organization on the research side where analysts and portfolio managers work side-by-side with each other. It may sound a little hokey in terms of semantics but they don't work for us they work with us. We've been there. We know the story. We 're constantly communicating, hanging out in the trading room. Blackberries – now I wouldn't know what to do without them. We have a research note system that comes out every morning, which is really a compilation of all the efforts by all the analysts and portfolio managers from the day before so you can catch up with anyone you missed. Analysts and portfolio managers are always sticking their heads in each other's doors to talk stock. Despite our growth, we've been able to keep that communication culture very strong.