FPA Crescent Portfolio

January 24, 2001 Dear Fellow Shareholders: During the fourth quarter ended December 31, 2000, the Crescent Portfolio increased 1.4% and beat the major market averages. The Russell 2500 decreased 3.7%, while the S&P 500 and Nasdaq Composite declined 7.8% and 32.7%, respectively. We have remained true to our value investment philosophy even though our conviction cost us dearly in the preceding year. To our detriment, in 1999 we avoided the companies whose stock prices were increasing at a rate faster than California electricity prices but whose business models were fatally flawed. However, from the market peaks reached in March, Crescent outperformed the aforementioned stock indexes by 14 to 61 percentage points. 2000 was an unusual year a year comprised of a few trading days that would have made for a respectable years performance in and of themselves. We are gratified that rationality has returned to the public markets. Crescent ended the year on a strong note and has begun calendar 2001 in a similar fashion. We believe that the equity market will continue to be a challenging place to invest over the next few years. The days of super-charged returns appear to be over for the time being. The stock market has benefited from an expansion of price/earnings multiples that have resulted from an expansion in profit margins and returns on equity. The stock market cannot increase at the rate it has over the last decade without a similar rate of increase in these metrics which we believe to be highly unlikely. Many define a good company as one that has had consistent earnings growth over time and has good future prospects. We find such a definition materially misleading. Cash flow holds far more importance to us than reported earnings. Today, we see numerous companies that have had reported earnings growth in excess of operating cash-flow growth resulting from deteriorating balance sheets, e.g., ballooning accounts receivable, declining inventory turns, shrinking reserves for bad debt, etc. If these trends do not reverse themselves, we believe that the guilty companies will find their stock prices impaired. Cisco (63.8x trailing earnings), IBM (19.1x trailing earnings), and Computer Sciences (22.3x trailing earnings) are a few such guilty companies whose stock prices are at risk because of deteriorating fundamentals. Despite the large declines seen in many technology stocks, the median price/earnings ratio is still almost 2x its historic average (Source: Leuthold). We believe that as the economy weakens, investors will come to realize that the technology growth stocks that they had accorded such premium valuations just a short time ago are actually growth cyclicals. With that realization will likely come some additional price declines which, in turn, will cause many of the currently highly rated mutual funds with large technology weightings to lose 1 or 2 of their coveted Morningstar Stars. Retail investors tend to follow these rankings, buying as stars are added and selling as stars are taken away. We have observed this trend in other funds as well as our own. Sanford Bernstein points out that in 1997, the cusp of the greatest period of technology returns, the average specialized technology fund had 2 stars and now the mean is 4.7 stars. Large-cap growth stock funds gained 1.4 stars over the same period. Households will respond to market developments with a considerable lag. Thus, we expect the redemptions of technology specific and

technology-weighted funds to cause further weakness in the technology sector. We hope to be timely enough to take advantage of what we expect will be a terrific buying opportunity. To avoid missing the boat, do not be surprised if we are somewhat early, as is our habit. There are stocks and there are companies. Stocks are contestants in a popularity contest where winners have succeeded in a superficial contest for a brief moment in time. The problem with popularity contests is that usually the prettiest or most handsome win not the nicest or smartest. Companies are businesses whose success (or failure) is measured over long periods of time. Contrary to what you might think, we like the popularity contests because when a once-popular company falls from favor, an investment opportunity presents itself. In the most recent quarter, we were once again able to take advantage of such an opportunity in Michaels Stores. Many of you may remember when we first purchased a position in Michaels in 1996. Although we have owned a position ever since, its size has varied. In the spring of 2000, our investment in Michaels common stock and convertible bonds had appreciated to almost 10.0% of the portfolio. We sold the convertible bonds and reduced our stake in the common stock to 3.3% of the portfolio. Our position was reduced 45% on October 18, 2000, not through sales but through a massive sell-off in the stock that caused the price to decline from $35.44 to $19.81 all because of single-digit eduction in expected earnings for the quarter and year. We could not believe the magnitude of the decline and repurchased all the common stock that we had sold (and more) previously at more than 2x the price. Michaels Stores has recently traded back to almost $40 just three months later. This would not occur in an efficient stock market and we are thankful for the emotion, fear, and greed that precipitate such opportunities. Crescent continues to be dramatically cheaper than the comparative stock indexes below. We also believe that the companies we hold as investments are growing faster than those companies comprising the comparative stock indexes listed.
Ratios (Weighted Average) Stocks Price/Earnings TTM Price/Earnings 2001 est. Price/Book Dividend Yield Bonds Duration Maturity Yield Crescent Russell 2500 S&P 500 Lehman Bros. Govt/Credit

12.3x 9.4x 1.2x 0.8% 2.4 years 3.8 years 18.9%

22.7x 18.1x 2.5x 1.5%

26.0x 22.3x 4.7x 1.2% 5.5 years 9.7 years 6.2%

Our ten largest equity positions represented 38.8% of the portfolio as of December 31, 2000. Listed below are Crescents ten largest holdings, excluding short-term investments, as of December 31, 2000. Common & Preferred Stocks Michaels Stores Pittston Brinks Group Consolidated Stores Celanese Crown American Realty Trust 11% Preferred Plains Resources Inc. Ventas Arrow Electronics

Bonds & Notes Centertrust Retail Properties, 7.5% Convertible Notes, due 1/15/01 Charming Shoppes 7.5% Convertible Notes, due 7/15/00 Crescent had the following net asset composition at December 31, 2000. Common Stocks, Long Preferred Stocks Bonds & Notes Accrued Income Common Stocks, short Cash & Other Total 62.5% 4.9% 19.4% 0.9% -2.6% 14.9% 100.0%

Crescents fixed-income portfolio currently has an 18.9% average yield-to-maturity. Our fixed-income management team at First Pacific Advisors is actively researching various corporate high-yield bond opportunities as junk bond yields now average almost ten percentage points better than Treasuries. The possibility of achieving high-teen yields results from a mispricing of the corporate debt at issue. In other words, the risk was not adequately accounted for at that time. We would not be surprised to see some of these prospective investments find their way into Crescent. If we can gain comfort that our money will be returned to us at maturity, then locking in 15% or more contractual yields would prove quite attractive versus what we believe will be a challenging equity market environment over the next few years. We remain cautious regarding our outlook for 2001. We believe that Wall Street analysts earnings estimates for public companies remain too optimistic. We expect to see the current spate of earnings disappointments continue. In that, we hope to find opportunities. We initiated a position in the jeweler Zale Corporation hoping to increase our stake as its stock declined. This well-run national jeweler saw its stock price cut in half over fears of a slowing economy. We were able to invest your capital in a growing business (albeit one with some cyclicality) at less than 8x trailing earnings. Although a weak economy would hurt its business, jewelry sales have been unusually resilient in past recessions. The subsequent rise in price has kept us from establishing a full position but it is better to have at least made an investment. We will continue to look for companies like Zale and build our portfolio one stock at a time continuing to focus on good, growing businesses trading at discount valuations that we hope will curry favor with other investors before too much time has passed. Respectfully,

Steven Romick