December 31, 2018 DK EQUITY GROWTH FUND

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1 December 31, 2018 DK EQUITY GROWTH FUND

2 1 DK EQUITY GROWTH FUND Quarterly Report December 31, 2018 Rates of Return 1 Since Inception 3 Mths 1 Yr 3 Yrs 5 Yrs 10 Yrs 15 Yrs 20 Yrs March 31, 1993 DK EQUITY GROWTH FUND 18.3% 22.8% 0.7% 1.9% 7.7% 7.9% 12.2% 12.6% S&P/TSX Composite Index 10.1% 8.9% 6.4% 4.1% 7.9% 6.6% 6.6% 8.0% S&P 500 (in U.S. Dollars) 13.5% 4.4% 9.2% 8.5% 13.1% 7.8% 5.6% 9.0% Looking at our company valuations in this most recent quarter, you might begin to think their businesses have collapsed. They have not. Nothing has changed at all, other than markets have been gripped by the resurgence of volatility. Fear has replaced fundamentals. Valuations on smaller capitalization stocks (our universe) declined to a greater extent, with the Nesbitt Burns Small Cap Index down roughly 22% for the year. The global news flow has turned decidedly, and perhaps unnecessarily, negative. The main issues all relate to the possibility of slowing global economic growth or recession: The sharp decline in the price of oil. The negative implications of a disorderly exit of Britain from the E.U. The U.S. Federal Reserve raising interest rates. The trade war between U.S. and China. As a consequence, the main North American benchmark indices (Dow, S&P 500, TSX Composite) all corrected by close to 20% from their 2018 highs. Moreover, when we look at areas that are particularly economically sensitive, we see that much of the market entered bear market territory with declines of 20% or more. In the U.S., bank stocks are down 25%, retailers are down 30%, auto stocks down 30%, home builders down 35%, oil stocks and mining stocks down 30 40%, the Russell 2000 Index (a broad measure of smaller cap stocks) down 20%, and the technology heavy Nasdaq index down 22%. These areas of the market are behaving as if we are about to enter a global economic recession. 1 Returns are presented gross of management fees.

3 Oil (WTI) has declined from a high of roughly $75 per barrel in early October to a recent low of $46, suggesting that a significant reduction in demand is at hand. Oil is a global growth commodity... growth requires more energy and more oil. Looking back over the past 50 years, the only occasions when global consumption of oil has declined has been during recessions ,000 80,000 60,000 40,000 20,000 Global Oil Consumption ('000 barrels per day) Shaded areas indicate US Recessions Canada s oil industry had its own unique issues in the latter part of the year. During the month of November the price differential between grades of Canadian crude and the U.S. benchmark WTI widened to extreme levels. Western Canadian Select, the grade of heavier oil produced from the Alberta oil sands, traded as low as $11 per barrel. This resulted in the Alberta government, effective January 1, implementing a mandatory 8.7% reduction in oil produced in the province (above 10,000 barrels per day) per producer. In the ensuing weeks the differentials returned to normal levels Source: Bloomberg Source: Bloomberg The widening differentials were caused by two factors. Firstly, and most importantly, it is the lack of takeaway capacity i.e. pipelines. Secondly, it is reduced demand caused by temporary refinery maintenance shut downs. In the former case we have a serious structural problem. Producers must be able to deliver their product to customers at full price. If they cannot, not only do the producers suffer, the entire Canadian economy suffers. Canada needs more pipeline capacity. Pipelines are the most efficient and safest way to move oil. Canada s oil & gas industry is the largest investor of capital in the country, one of the largest taxpayers in the country, and a significant employer when factoring in all of the tangential subsectors. It has been estimated that the wider differentials were costing the Canadian economy $80 million per day, with serious repercussions for the country as a whole. The lack of takeaway capacity is a direct result of Federal Government policy. We are unaware of another national government that, through deliberate policies or its inactions, has inflicted so much damage on its nation s most economically important industry. We did not foresee this.

4 3 We have five investments in the Canadian oil and gas sector... three companies that focus on natural gas (Pine Cliff Energy Ltd., Paramount Resources Ltd. and Tourmaline Oil Corp.) and two oil producers (Parex Resources Inc. and Whitecap Resources Inc.). Canadian natural gas prices have been weak in the latter part of However global demand for natural gas is strong. Recognizing the need to supply more natural gas to Asia, Shell announced in early October that they and their partners intend to proceed with the construction of a $40 billion LNG facility in Kitimat, B.C. to export Canadian gas. Canada has an abundance of gas and has a cost advantage over other countries because of the short shipping distance between our West Coast and the end markets in Asia. Cleaner burning Canadian gas also displaces coal as an energy source in Asia. Paramount and Tourmaline produce natural gas and also associated liquids, some of which trade at a premium price to oil. Pine Cliff produces dry gas (without liquids) but is one of Western Canada s lowest cost producers. All three companies, continue to generate free cash flow in this challenging environment. Our oil producers are Parex and Whitecap. Parex produces no oil in Canada and therefore hasn t been subject to any of the unique domestic infrastructure issues. All of Parex s roughly 50,000 bpd is light oil, produced in Columbia, one of the highest netback oil producing regions in the world. Parex has no debt, $250 million in net working capital, high margins, and growing production. Parex had announced in late July that they were embarking on a strategic review process to sell a significant portion of their existing production. On December 18 th they announced that, with the volatility in oil prices, they did not feel they would attract a price that reflects the long term value of that production. The Company trades at a mere 2.6x cash flow. With their strong balance sheet and a forecasted 2019 free cash flow of $250 million, they feel their stock is undervalued and plan to implement a buyback program to purchase 10% of the Company s shares in the market. Whitecap produces light, low decline, long reserve life oil. They produce roughly 70,000 bpd in total, with 14,000 of that in Alberta. Their share of the mandatory Alberta curtailment is an insignificant 350 bpd. The table below shows Whitecap s exceptional value added performance over the past 8 years (includes 2016 when oil dropped to $26 per barrel). Q Q Growth Production / Million Shares % PDP Reserves / Share % 2P Reserves / Share % Funds Flow / Share % Average Realized Oil Price % Operating Netback %

5 4 Why do we own these Canadian oil and gas companies? They are low cost producers. They are run by some of the best business operators we know in any industry. They are consistently profitable through all commodity cycles. Management has skin in the game (meaningful ownership). They are world leaders in maintaining high environmental and ethical standards. They are currently getting a raw deal from their government and many of their fellow citizens. Their share prices have overreacted to the negative news flow. Our model company, regardless of industry, is small to mid cap in size with high insider ownership, low cost production, generating free cash flow, a strong balance sheet, producing a widely used product, with exceptional and highly ethical management, and that we can own at a reasonable price. We own 23 companies, in a variety of businesses that tick these boxes. Our companies make and sell products that consumers use in some way every day. They are sensitive, some more than others, to economic conditions and investor expectations. Their share prices have been affected by fear and greed to a far greater extent than the performance of their underlying business. In fact, generally the performance of our portfolio businesses has been exemplary. Let s look at a few examples: Linamar Corporation, our auto parts business, has more than doubled revenue per share and earnings per share in the past five years, expanded into Europe and bought a significant agriculture business, yet the stock is up 6%. Lundin Mining Corporation, our base metals producer, has grown profitability by 250% since 2014, currently has nearly half its market cap in cash, and the stock price has appreciated just 2%. West Fraser Timber Co. Ltd., our lumber producer, has grown earnings per share by 4x and free cash flow by more than 10x in the past four years, yet its stock price is up just 4%. Aritzia Inc., our woman s clothing retailer, is expanding into the U.S. and growing their online presence. They have doubled sales and nearly tripled EBITDA since going public less than 3 years ago. The stock currently trades below the IPO price. Our businesses are healthy. Many have boosted their dividends and instituted share buyback programs. In fact, in 2018 alone, our businesses bought back almost $1 billion worth of their own stock. In aggregate, over the past 5 years, our core businesses have grown revenue by 2.5x, EBITDA by 2.8x and free cash flow by more than 3x. You wouldn t know it by looking at their share prices. As previously mentioned, fear has dominated valuations. Whether these fears of a global economic slowdown or recession are warranted cannot be ascertained at this time. What should be kept in mind is that periods of excessive fear and bearishness are not good times to sell good assets.

6 5 Canada s economic well being is dependent on global growth. The products that Canada sells, the products that drive our economy, are largely dependent on the health of the global economy and Canada s competitiveness within that global economy. Canadian business entrepreneurs are fully capable of competing effectively on a global scale. However, they have been handicapped in recent years by a myriad of inward looking policies at the Federal, Provincial and even certain Municipal levels that are rendering us less competitive. We are a trading nation and we must implement policies that reflect this reality. As a consequence of inward looking government policies, Canada is facing a very real business investment crisis. Capital investment results in economic growth, which produces higher standards of living. In recent years we have witnessed a significant reduction in business investment growth in Canada. In the past four years business investment in Canada has been growing at only 1/3 the rate of the U.S. Non residential Business Investment per Worker Canadian Dollars, If we remove the investment in residential housing (arguably the result of speculation), the divergence would be even more alarming. Moreover, this same time period has seen a near collapse in foreign investment in Canada, and a surge in Canadian investment abroad. In summary, Canada has become a significantly less desirable place to invest. Source: CD Howe Institute. Tooling Up: Canada Needs More Robust Capital Investment Business Investment in Canada (by category) ( ) Source: The Fraser Institute. The Flight of Capital from Canada

7 6 We are reminded of those prophetic words from James Carville, President Clinton s campaign manager in 1992, when he said it s about the economy, stupid. Governments can enact dumb, inward looking polices for only so long, but when the economic damage becomes evident, the electorate will speak, and loudly. The people of Ontario reacted this year with a resounding vote to oust a tone deaf provincial government that enacted policies that have rendered the province non competitive. The voice of the electorate was heard in Ontario and perhaps it will be heard elsewhere in Canada in the coming year.