QUARTERLY REPORT
DECEMBER 31, 1996
FMI
FOCUS FUND
A NO-LOAD
MUTUAL FUND
FMI FOCUS FUND
February 4, 1997
Dear Fellow Shareholder:
Records are made to be broken, and 1996 produced a slew of new records. In
addition to the record levels reached by virtually all market indices, the Dow
Jones Industrials were up for the sixth straight year, a first in the 100 year
history of the index. This 6-year advance for the Dow is now the third largest
ever, exceeded only by the 1923 to 1929, and the 1949 to 1956 bull markets.
While not keeping up with the Dow's torrid pace, most of the broader market
indices had well above average years. The S&P 500, most investors' proxy for
the stock market, rose 23.2% for the year while the Russell 2000, a good measure
of the medium-size and smaller companies, was up 16.5%.
Some new records were of the "market valuation" variety. Price-to-book ratio
of 4.7 times and dividend yield of 2.1% are a record high and low, respectively,
for the Dow, and the stock market's total value exceeds 100% of GDP for the
first time in history (compared to 33% of GDP in 1982). Nearly $5 trillion of
wealth has been created since the market's lows in 1990.
Cash flows into equity mutual funds have continued to mushroom, reaching $210
billion through November, dwarfing the previous full year record of $130 billion
set in 1993. Estimated new stock issuances totaled a record $148 billion, an
increase of 55% over 1995.
ECONOMY
The backdrop for this record shattering stock market has been an economy
which many argue is perfect for equity investing -- the "nirvana economy" --
moderate growth, low inflation and stable interest rates. While growth during
this long recovery has not been stellar, its moderate pace has avoided past
boom-bust cycles. Consensus for 1997 appears to be more of the same, and at
this juncture it is difficult to pinpoint anything that may upset the apple
cart.
Some market nervousness has been precipitated by occasional signs that the
economy may be too strong, engendering inflation concerns and bond market
weakness. In our view, the greater risk may be an economy that is too weak, and
which could gradually slip into a recession.
Job growth has been strong over the past year, but recent increases in
initial unemployment claims suggest some softening in the labor market. To a
point this could be a positive, relieving some labor cost pressures, but if the
weakness persists the implications are clearly negative as far as growth is
concerned.
The consumer has been on a borrowing binge which has taken consumer debt to
record levels relative to disposable income. Despite this, the economic
expansion has been subpar. As the borrowing slows, the moderate pace of
economic expansion may slow further. The rate of increase in consumer borrowing
has had a strong correlation with the growth in corporate earnings in the past
(Chart 1), and the rate of increase in consumer borrowing is slowing.
CHART 1
S&P 500 EARNINGS PER SHARE CONSUMER INSTALLMENT CREDIT
Dec 59 17.301 15.7498
Mar 60 9.003 13.6983
Jun 60 -4.118 13.0031
Sep 60 -4.665 10.528
Dec 60 -3.54 7.2108
Mar 61 -8.85 6.2899
Jun 61 -7.055 3.1624
Sep 61 -6.728 2.7596
Dec 61 -2.446 3.7128
Mar 62 9.061 4.4241
Jun 62 14.521 7.9927
Sep 62 15.738 9.0944
Dec 62 15.047 9.518
Mar 63 10.089 11.0093
Jun 63 10.663 10.3865
Sep 63 12.181 11.552
Dec 63 9.537 12.4132
Mar 64 12.666 13.0981
Jun 64 12.76 13.2624
Sep 64 12.879 13.0999
Dec 64 13.184 12.2769
Mar 65 11.962 12.1655
Jun 65 11.778 12.7727
Sep 65 11.409 12.15
Dec 65 14.066 11.645
Mar 66 14.103 10.6815
Jun 66 12.81 8.6634
Sep 66 10.643 6.951
Dec 66 6.936 6.107
Mar 67 2.06 4.2786
Jun 67 -2.381 3.8852
Sep 67 -3.811 4.5202
Dec 67 -3.964 4.9112
Mar 68 -0.183 5.8265
Jun 68 4.503 7.056
Sep 68 6.792 8.2235
Dec 68 8.068 9.8715
Mar 69 6.985 10.7989
Jun 69 4.847 10.9828
Sep 69 4.064 10.2265
Dec 69 0.347 8.2767
Mar 70 -3.265 6.3245
Jun 70 -5.479 4.6374
Sep 70 -8.998 2.459
Dec 70 -11.246 1.6294
Mar 71 -7.282 4.2994
Jun 71 -3.623 5.727
Sep 71 1.306 5.8805
Dec 71 11.111 8.3446
Mar 72 11.303 6.9392
Jun 72 12.218 8.1273
Sep 72 13.078 11.1264
Dec 72 12.632 11.8074
Mar 73 17.04 14.0994
Jun 73 21.106 14.2831
Sep 73 25.244 13.3766
Dec 73 27.103 12.8111
Mar 74 22.941 10.3065
Jun 74 20.885 8.5289
Sep 74 18.466 7.2815
Dec 74 8.946 4.6314
Mar 75 1.077 3.1806
Jun 75 -8.924 1.2643
Sep 75 -14.819 1.6192
Dec 75 -10.461 4.4827
Mar 76 2.485 6.7454
Jun 76 16.206 9.4724
Sep 76 23.067 10.4574
Dec 76 24.497 11.8204
Mar 77 16.397 12.7089
Jun 77 12.649 14.8718
Sep 77 12.147 16.1043
Dec 77 9.889 15.9732
Mar 78 8.333 17.0415
Jun 78 7.774 18.0436
Sep 78 8.03 17.9803
Dec 78 13.223 17.7774
Mar 79 21.795 17.3069
Jun 79 24.488 15.1352
Sep 79 26.448 14.7302
Dec 79 20.519 12.6648
Mar 80 14.962 8.7857
Jun 80 6.867 3.0812
Sep 80 0.068 0.3341
Dec 80 -0.269 -0.1496
Mar 81 -4.644 0.5622
Jun 81 0.469 4.2348
Sep 81 4.235 5.6056
Dec 81 3.644 4.8601
Mar 82 1.578 4.437
Jun 82 -5.596 4.2025
Sep 82 -11.14 2.9023
Dec 82 -17.708 4.1687
Mar 83 -16.138 4.756
Jun 83 -11.15 6.3039
Sep 83 -1.917 9.5494
Dec 83 10.997 13.2743
Mar 84 22.866 16.7493
Jun 84 28.674 19.9499
Sep 84 24.511 20.0814
Dec 84 18.603 18.7208
Mar 85 7.405 19.297
Jun 85 -3.642 21.6281
Sep 85 -8.031 21.3365
Dec 85 -12.2 20.0184
Mar 86 -11.409 17.6291
Jun 86 -5.766 11.8087
Sep 86 -2.495 10.3327
Dec 86 -0.89 9.2717
Mar 87 3.994 6.3532
Jun 87 -1.971 5.4603
Sep 87 6.801 5.2872
Dec 87 20.856 5.1417
Mar 88 23.113 7.3748
Jun 88 50.277 8.0986
Sep 88 43.317 7.4927
Dec 88 35.714 8.6533
Mar 89 34.266 9.4035
Jun 89 16.382 8.8264
Sep 89 4.223 8.7545
Dec 89 -3.705 7.1354
Mar 90 -13.181 4.8588
Jun 90 -15.702 4.2289
Sep 90 -8.231 3.466
Dec 90 -6.69 1.8505
Mar 91 -3.692 0.679
Jun 91 -8.984 -0.3906
Sep 91 -18.031 -1.5968
Dec 91 -25.445 -1.9167
Mar 92 -22.377 -1.3011
Jun 92 -11.886 -1.5099
Sep 92 1.235 -0.553
Dec 92 19.987 0.4745
Mar 93 22.469 1.4954
Jun 93 13.372 3.1776
Sep 93 13.137 4.9327
Dec 93 14.667 7.5512
Mar 94 14.466 9.2805
Jun 94 30.367 11.9231
Sep 94 33.905 13.6955
Dec 94 39.79 14.493
Mar 95 43.329 15.2547
Jun 95 36.627 15.3382
Sep 95 28.723 15.3256
Dec 95 10.98 14.1593
Mar 96 4.578 13.6595
Jun 96 1.394 11.5476
Sep 96 2.331 9.4862
Sources: Standard & Poor's Corporation; Federal Reserve Board
EARNINGS
After a dramatic cyclical rise in reported earnings (23% per year) for the
four years ending in 1995, earnings increased only about 8% in 1996 for the S&P
500. As a result of corporate write-offs and restructurings, reported earnings
gave a rather distorted view of real growth, as cash flows grew at only half the
rate of reported earnings. And corporate revenues grew at barely over 5% per
year for the five years ended 1996. Factoring in modest economic growth and
some slight pressure on the current historically high profit margins due to
weaker productivity, little pricing power and lower capacity utilization, and
with fewer opportunities remaining to boost earnings through restructurings, we
would expect S&P earnings to be up only about 3-4% in 1997.
As usual, adding up the Wall Street analysts' expectations of the earnings
for the individual companies yields a much higher total, specifically an
increase in S&P earnings of somewhere between 17% and 21%. In our view this
increase is unrealistic, and the stage is being set for some significant
downward revisions as we move through the year.
VALUATION
As past readers of these updates know, we are attracted to the simplicity of
the price/earnings ratio as a measure of value. Over time, earnings must
increase to support a continuing rise in stock prices. When prices rise faster
than earnings, the ratio increases, eventually reaching levels which have
historically represented peak valuations. At 21 times earnings, the S&P 500 P/E
ratio is not at record levels, but it is higher than it has been about 95% of
the time over the past 100 years (Chart 2), and it may well be understated, in
view of the lengths to which corporate managements have gone to increase
reported earnings.
While the P/E ratio could go higher, we feel that stock price gains for the
S&P from these levels will have to be supported by earnings increases. And as
suggested above, we feel S&P earnings growth will slow significantly, creating a
major drag for the S&P index.
CHART 2
HISTORICAL PRICE/EARNINGS RATIO
STANDARD & POOR'S 500 STOCK INDEX
1871 11.6
1872 11.6
1873 10.5
1874 10
1875 12.3
1876 14.5
1877 10.5
1878 10.8
1879 11
1880 10.6
1881 14.1
1882 13.8
1883 14.2
1884 15.4
1885 17
1886 16.3
1887 15.3
1888 20
1889 17.9
1890 18.5
1891 15
1892 15.2
1893 18.1
1894 27
1895 18.5
1896 20
1897 14.5
1898 14.5
1899 13.1
1900 12.9
1901 15.7
1902 13.4
1903 13.5
1904 14.5
1905 13.4
1906 12.6
1907 11.8
1908 13.5
1909 12.7
1910 12.9
1911 15.6
1912 13.4
1913 13.4
1914 15.6
1915 9.5
1916 6.2
1917 6.6
1918 7.6
1919 9.4
1920 9.9
1921 23.7
1922 12.1
1923 8.8
1924 9.7
1925 8.9
1926 10.88
1927 15.91
1928 17.64
1929 13.32
1930 15.81
1931 13.31
1932 16.8
1933 22.95
1934 19.39
1935 17.67
Mar 36 18.89
Jun 36 16.86
Sep 36 17.03
Dec 36 16.84
Mar 37 16.14
Jun 37 13.16
Sep 37 11.28
Dec 37 9.34
Mar 38 8.76
Jun 38 15.01
Sep 38 19.74
Dec 38 20.64
Mar 39 15.46
Jun 39 14.29
Sep 39 16.07
Dec 39 13.88
Mar 40 12.37
Jun 40 9.6
Sep 40 9.87
Dec 40 10.08
Mar 41 9.4
Jun 41 9.04
Sep 41 8.57
Dec 41 7.49
Mar 42 7.7
Jun 42 8.47
Sep 42 9.41
Dec 42 9.49
Mar 43 10.82
Jun 43 11.23
Sep 43 11.19
Dec 43 12.41
Mar 44 12.92
Jun 44 14.11
Sep 44 14.2
Dec 44 14.28
Mar 45 14.21
Jun 45 14.96
Sep 45 16.32
Dec 45 18.08
Mar 46 20.09
Jun 46 21.94
Sep 46 16.81
Dec 46 14.43
Mar 47 11.94
Jun 47 10.56
Sep 47 9.75
Dec 47 9.5
Mar 48 8.82
Jun 48 9
Sep 48 7.48
Dec 48 6.64
Mar 49 6.33
Jun 49 5.9
Sep 49 6.52
Dec 49 7.22
Mar 50 7.3
Jun 50 6.96
Sep 50 7.15
Dec 50 7.19
Mar 51 7.56
Jun 51 7.71
Sep 51 9.27
Dec 51 9.74
Mar 52 10.15
Jun 52 10.67
Sep 52 10.4
Dec 52 11.07
Mar 53 10.41
Jun 53 9.62
Sep 53 9.16
Dec 53 9.88
Mar 54 10.56
Jun 54 11.15
Sep 54 12.29
Dec 54 12.99
Mar 55 12.36
Jun 55 12.74
Sep 55 12.69
Dec 55 12.66
Mar 56 13.14
Jun 56 13.05
Sep 56 13.11
Dec 56 13.69
Mar 57 12.97
Jun 57 13.95
Sep 57 12.22
Dec 57 11.87
Mar 58 13.41
Jun 58 15.44
Sep 58 17.38
Dec 58 19.1
Mar 59 17.83
Jun 59 17.2
Sep 59 16.58
Dec 59 17.67
Mar 60 16.32
Jun 60 17.46
Sep 60 16.37
Dec 60 17.77
Mar 61 21.06
Jun 61 21.33
Sep 61 21.88
Dec 61 22.43
Mar 62 20.64
Jun 62 15.78
Sep 62 15.94
Dec 62 17.19
Mar 63 17.94
Jun 63 18.07
Sep 63 18.11
Dec 63 18.66
Mar 64 18.89
Jun 64 18.87
Sep 64 18.83
Dec 64 18.63
Mar 65 18.41
Jun 65 17.38
Sep 65 18.06
Dec 65 17.81
Mar 66 16.71
Jun 66 15.52
Sep 66 13.89
Dec 66 14.47
Mar 67 16.55
Jun 67 17.01
Sep 67 18.25
Dec 67 18.1
Mar 68 16.58
Jun 68 17.88
Sep 68 18.12
Dec 68 18.03
Mar 69 17.44
Jun 69 16.73
Sep 69 15.81
Dec 69 15.93
Mar 70 15.92
Jun 70 13.17
Sep 70 15.71
Dec 70 17.96
Mar 71 19.22
Jun 71 18.74
Sep 71 18.11
Dec 71 17.91
Mar 72 18.45
Jun 72 17.95
Sep 72 18
Dec 72 18.39
Mar 73 16.4
Jun 73 14.42
Sep 73 14.1
Dec 73 11.95
Mar 74 11.24
Jun 74 9.84
Sep 74 6.97
Dec 74 7.71
Mar 75 9.87
Jun 75 11.96
Sep 75 10.81
Dec 75 11.33
Mar 76 11.87
Jun 76 11.27
Sep 76 11.02
Dec 76 10.84
Mar 77 9.76
Jun 77 9.64
Sep 77 9.01
Dec 77 8.7
Mar 78 8.17
Jun 78 8.51
Sep 78 8.86
Dec 78 7.79
Mar 79 7.64
Jun 79 7.36
Sep 79 7.47
Dec 79 7.26
Mar 80 6.68
Jun 80 7.65
Sep 80 8.57
Dec 80 9.16
Mar 81 9.33
Jun 81 8.71
Sep 81 7.71
Dec 81 8.12
Mar 82 7.56
Jun 82 7.74
Sep 82 8.87
Dec 82 11.12
Mar 83 12.32
Jun 83 13.35
Sep 83 12.52
Dec 83 11.76
Mar 84 10.43
Jun 84 9.46
Sep 84 10.03
Dec 84 10.05
Mar 85 11.02
Jun 85 12.29
Sep 85 11.96
Dec 85 14.46
Mar 86 16.45
Jun 86 17.05
Sep 86 15.58
Dec 86 16.72
Mar 87 19.32
Jun 87 21.1
Sep 87 20.29
Dec 87 14.13
Mar 88 13.93
Jun 88 12.62
Sep 88 11.96
Dec 88 11.69
Mar 89 11.81
Jun 89 12.61
Sep 89 14.74
Dec 89 15.45
Mar 90 15.69
Jun 90 16.84
Sep 90 14.08
Dec 90 15.47
Mar 91 17.98
Jun 91 19.18
Sep 91 21.77
Dec 91 26.12
Mar 92 24.93
Jun 92 23.94
Sep 92 23.16
Dec 92 22.82
Mar 93 22.77
Jun 93 23.31
Sep 93 22.49
Dec 93 21.32
Mar 94 19.63
Jun 94 17.63
Sep 94 16.93
Dec 94 14.98
Mar 95 15.38
Jun 95 15.82
Sep 95 16.63
Dec 95 18.14
Mar 96 18.96
Jun 96 19.21
Sep 96 19.04
Dec 96 20.58
Last Observation 4th Quarter 1996
Sources: 1871-1925 Cowles Commission; 1926-1996 Standard & Poor's Corporation
Copyright(c)1997 Crandall, Pierce & Company
Shaded areas represent recessionary periods.
The record levels of other valuation measures were touched upon earlier. The
significance of these levels is not so much that they offer any predictive value
as to where the market, or individual stocks, are heading. Valuation levels
could rise from here, or could certainly stay at these levels for an extended
period of time if the economic backdrop remains sanguine. The importance for us
relates to the risk/reward balance. The margin for error is much reduced, and
the probability that any surprises are negative surprises increases as investors
place higher valuations on stocks. Contrary to increasingly popular opinion,
the business cycle has not been eliminated, nor do we feel that past valuation
ranges have become irrelevant, i.e. we are not in a new valuation era.
Despite a market that appears to be fully valued, however, we remind
ourselves that this is a market of stocks, rather than a stock market, and that
there are always opportunities to make attractive investments, both in long and
short positions.
MARKET
The past two years have been good in an absolute sense for the broader
market, but difficult in terms of relative performance as "investors" have
chased fewer and fewer stocks which were performing well. Twenty stocks
accounted for over half of the S&P's performance, and the bottom 450 companies'
performance was virtually irrelevant as far as the index was concerned.
Companies reporting disappointing results in this "slow growth" economy have
generally seen a major sell-off in their stocks. The result has been a "two-
tiered" market, with many companies selling at reasonable or cheap valuations,
and a select group, which years ago may have been referred to as the "nifty
fifty", selling at very high valuations.
CHART 3
STATISTICAL COMPARISON
FIDUCIARY
S&P 500 MANAGEMENT
Sales Growth (Projected 3 Year) 5.0% 13.0%
Earnings Growth (Projected 3 Year) 5.0% 14.0%
P/E Ratio 20.0x 14.0x
P/E to Growth 4.0 1.0
Price/Book 3.8 2.6
Price/Sales 1.5 1.4
Debt/Cap 35.0% 21.0%
Median Market Cap ($ billions) $5.4 $0.9
The pendulum will swing back the other way. As the S&P earnings growth
slows, stops, or even declines, the superior fundamentals of our companies will
attract renewed investor interest (Chart 3). And the low relative P/E ratio of
our companies at about 14 times earnings will offer further attraction to
investors. While we expect absolute returns for all sectors of the market to be
more subdued in 1997, the relative returns in the mid- to small-cap value sector
of the market should be much better. And FMI Focus Fund has also established
short positions in some individual securities as well as positions which we feel
may hedge a general market decline.
On December 27, 1996, a distribution of $0.015 from ordinary income was
declared. The distribution was paid on December 30, 1996 to shareholders of
record on December 26, 1996.
Thank you for your continuing confidence in FMI Focus Fund.
Sincerely,
/s/ Ted D. Kellner /s/ Donald S. Wilson
Ted D. Kellner, C.F.A. Donald S. Wilson, C.F.A.
President Vice President
225 E. Mason St. o Milwaukee, WI 53202 o 414-226-4555
FMI Focus Fund
STATEMENT OF NET ASSETS
December 31, 1996 (Unaudited)
QUOTED
SHARES OR PRINCIPAL MARKET
AMOUNT VALUE (B)<F2>
------ ---------
COMMON STOCKS -- 40.9% (A)<F1>
CONSUMER SERVICES -- 4.5%
1,200 Jostens, Inc. $25,350
INSURANCE -- 4.8%
800 CapMAC Holdings Inc. 26,500
MISCELLANEOUS-TECHNOLOGY
MANUFACTURING -- 14.6%
2,100 Corning Inc. (When Issued) 81,637
PRODUCER MANUFACTURING -- 12.0%
4,800 Bucyrus International, Inc. 42,000
1,700 Cuno Inc. 25,288
---------
67,288
RETAIL TRADE -- 5.0%
1,500 Casey's General Stores, Inc. 28,125
---------
Total common stocks 228,900
SHORT-TERM INVESTMENTS -- 73.0% (A)<F1>
U.S. TREASURY BILLS -- 17.7%
$ 100,000 U.S. Treasury Bill,
due 3/13/97 99,006
VARIABLE RATE DEMAND NOTES -- 55.3%
25,000 American Family
Financial Services 25,000
25,000 General Mills, Inc. 25,000
133,757 Johnson Controls, Inc. 133,757
25,000 Eli Lilly & Co. 25,000
25,000 Pitney Bowes Credit Corp. 25,000
25,000 Sara Lee Corp. 25,000
25,000 Southwestern Bell
Telephone Co. 25,000
25,000 Warner-Lambert Company 25,000
---------
Total variable rate
demand notes 308,757
---------
Total short-term
investments 407,763
---------
Total investments 636,663
Liabilities, less cash and
receivables (13.9%) (A)<F1> (C)<F3> (77,947)
---------
NET ASSETS $558,716
=========
Net Asset Value Per Share
($0.0001 par value
500,000,000 shares
authorized), offering
and redemption price
($558,716 / 54,620
shares outstanding) $10.23
=======
(a)<F1>Percentages for the various classifications relate to net assets.
(b)<F2>Each security, excluding short-term investments, is valued at the last
sale price reported by the principal security exchange on which the issue is
traded, or if no sale is reported, the last bid price. Securities which are
traded over-the-counter are valued at the latest bid price. Short-term
investments are valued at cost which approximates quoted market value.
(c)<F3>Includes $27,500 of short sales (proceeds $26,024).
FMI FOCUS FUND
225 East Mason Street
Milwaukee, Wisconsin 53202
BOARD OF DIRECTORS
BARRY K. ALLEN
TED D. KELLNER
THOMAS W. MOUNT
DONALD S. WILSON
INVESTMENT ADVISER
AND ADMINISTRATOR
FIDUCIARY MANAGEMENT, INC.
225 East Mason Street
Milwaukee, Wisconsin 53202
CUSTODIAN, TRANSFER AGENT
AND DIVIDEND DISBURSING AGENT
FIRSTAR TRUST COMPANY
615 East Michigan Street
Milwaukee, Wisconsin 53202
INDEPENDENT ACCOUNTANTS
PRICE WATERHOUSE LLP
100 East Wisconsin Avenue
Suite 1500
Milwaukee, Wisconsin 53202
LEGAL COUNSEL
FOLEY & LARDNER
777 East Wisconsin Avenue
Milwaukee, Wisconsin 53202
