Review and Outlook

as of 12/31/20

In the fourth quarter of 2020, equity markets marched higher, continuing their rally of the prior two quarters. Markets looked past an alarming spike in the number of COVID-19 cases and instead focused on positive news around vaccines, the U.S. election results, and continued monetary and renewed fiscal stimulus. Small stocks rallied in the quarter, and while growth equities underperformed value stocks, growth was still ahead by a wide margin for the year.

Baron Growth Fund increased in the fourth quarter. Holdings in Financials, Consumer Discretionary, and Health Care contributed the most. No sector detracted. Performance in Financials was led by top contributor MSCI, Inc. All eight holdings within Consumer Discretionary increased by double digits in the quarter, including second largest contributor Vail Resorts, Inc.  Other strong performers within the sector included hotelier Choice Hotels International, Inc. and timeshare company Marriott Vacations Worldwide Corp., both of which benefited from the rotation into hard-hit travel-related stocks after the mid-November news that three companies had developed effective vaccines against COVID-19. With gains in 10 of 11 investments within the sector, Health Care had a solid quarter. Shares of the top sector performer, veterinary diagnostics firm IDEXX Laboratories, Inc., advanced as veterinary visits continued to recover from lows in the early months of the pandemic, with practice visits growing at double-digit rates through October. IDEXX’s competitive trends are outstanding, and we expect new proprietary innovations and field sales force expansion to be meaningful contributors to growth.

We believe that while certain segments of the market will likely take longer to recover, in many cases, that likelihood is already baked into lower valuations for those companies. At the same time, we think other companies and segments of the market will continue to benefit from the acceleration in digitization and other secular trends as a result of the pandemic’s impact on the way we work, learn, socialize, and entertain ourselves.

We look at 2020 as a testament to our active, long-term approach to investing. Considering the unprecedented and unexpected effects of the pandemic on the economy and our lives, the fact that the markets have recovered all of their losses and then some since the start of the year is an outstanding outcome. The patient investor has been rewarded for staying calm during the storm.

Top Contributors/Detractors to Performance

as of 12/31/20

Contributors

  • Shares of MSCI, Inc., a leading provider of investment decision support tools, contributed to performance. The company reported solid third quarter earnings despite the challenging COVID-19 backdrop, and management is continuing to proactively manage its cost base. MSCI's asset-based fee revenue has also positively contributed due to strong underlying market conditions and inflows. We retain long-term conviction as the company owns strong, "all weather" franchises and remains well-positioned to benefit from a number of prominent tailwinds in the investment community.
  • Vail Resorts, Inc., a global operator of ski resorts, contributed in the quarter on season pass sales that were up 20% from last year despite the pandemic. Robust renewal rates demonstrated loyalty in Vail's pass base while first time pass sales have the potential to accelerate future growth. We expect Vail to grow recurring revenue given its strong renewal rates, which, combined with a robust balance sheet, should position the company for continued growth in the years ahead.
  • Iridium Communications Inc. is the second largest provider of mobile voice and data communications services via satellite and the only commercial provider of communications services offering true global coverage. The stock rose after results revealed resiliency of the business despite exposure to pandemic-impacted verticals. The company also saw strong growth in consumer-facing activity and a growing pipeline of its Certus product line for its Maritime customers and the Department of Defense, both channels of which should add to growth as Iridium accelerates installations.

Detractors

  • Shares of FactSet Research Systems, Inc., a leading provider of investment management tools, detracted from performance. The company reported in-line, resilient FQ1 '21 earnings, but after a strong run during the early stages of the pandemic, the stock lagged during the quarter. We retain conviction in FactSet due to the large addressable market, consistent execution on both new product development and financial results, and robust free cash flow generation.
  • Shares of American Well Corporation, one of the U.S.’s largest telehealth companies for health systems, health plans, employers, and doctors, gave back some post-September IPO gains after reporting third quarter results that beat consensus but included some pull forward from the fourth quarter as well as the benefit of some nonrecurring service revenues. Full year 2020 guidance beat Street estimates but implied top line and margin deceleration, which we believe could end up being conservative, given the lack of assumed increase in pandemic-driven volumes despite the current spike.
  • Wix.com Ltd. provides software to help small companies build and maintain websites and operate their businesses. Wix has over 180 million registered users and five million premium users. Shares declined slightly during the quarter after doubling in the first nine months of the year as Wix benefited from accelerating digitization due to COVID-19. Wix's rapid innovation is driving continued growth in its core do-it-yourself market, while its expansion to target website designers has increased the total addressable market multi-fold, providing a significant growth runway.

Quarterly Attribution Analysis (Institutional Shares)

as of 12/31/20

When reviewing performance attribution on our portfolio, please be aware that we construct the portfolio from the bottom up, one stock at a time. Each stock is included in the portfolio if it meets our rigorous investment criteria. To help manage risk, we are aware of our sector and security weights, but we do not include a holding to achieve a target sector allocation or to approximate an index. Our exposure to any given sector is purely a result of our stock selection process.

as of 12/31/20

Baron Growth Fund (Institutional Shares) appreciated 21.10% in the fourth quarter, yet trailed the Russell 2000 Growth Index by 851 basis points largely due to headwinds from style biases. In particular, the Fund’s overexposure to the poor performing size, earnings quality, and profitability factors and underexposure to the strong performing residual volatility factor hurt relative results. Adverse stock selection and differences in sector/sub-industry weights also hampered relative performance.

Communication Services investments and lack of exposure to the lagging Consumer Staples sector added the most value. Strength in Communication Services was due to the outperformance of Iridium Communications Inc., the second largest provider by revenue of satellite-enabled mobile voice and data communications services. Iridium’s business proved resilient after reporting strong quarterly results and raising guidance due to record consumer activations. The company’s growing pipeline of Certus services within the Maritime and Department of Defense segments are expected to enhance growth as installations accelerate in the coming years.

Investments in Information Technology (IT), Financials, Industrials, and Health Care accounted for most of the underperformance in the period as several companies saw their share prices trail the broader market after meaningfully outperforming in the early stages of the COVID-19 pandemic. Weakness in IT came from application software companies ANSYS, Inc. and Pegasystems Inc., whose shares underperformed despite experiencing healthy demand for digital transformations across their customer bases. Lack of exposure to strong performing semiconductor stocks and a modest pullback in Wix.com Ltd.’s stock price also weighed on relative results. Within Financials, higher exposure to lagging property & casualty insurance stocks through sizeable positions in Kinsale Capital Group, Inc. and Arch Capital Group Ltd. detracted over 110 basis points from relative results. Performance in the sector was also hindered by the underperformance of financial data providers FactSet Research Systems, Inc. and MSCI, Inc. These companies continued to report solid quarterly earnings despite the challenging COVID-19 backdrop. The Fund’s two largest positions in the Industrials sector, real estate information and marketing services company CoStar Group, Inc. and composite residential decking manufacturer Trex Company, Inc., hurt relative results after outperforming for much of the year. CoStar is experiencing heightened demand for its digital marketplace businesses as traditionally offline activities are increasingly shifting online, while Trex’s business continues to grow rapidly as customers convert wood decks to composite. Within Health Care, significantly lower exposure to biotechnology stocks, which were up sharply in the index, and underperformance of medical instruments manufacturer West Pharmaceutical Services, Inc. hampered relative results.

as of 12/31/20

Yearly Attribution Analysis (for year ended 12/31/2020)

Baron Growth Fund (Institutional Shares) was up 33.06% for the year, yet lagged the Russell 2000 Growth Index by 157 basis points as favorable stock selection was overshadowed by negative impacts from style biases and relative sector/sub-industry weights.

Investments in Industrials and Communication Services and minimal exposure to the lagging Materials, Utilities, Energy, and Consumer Staples sectors contributed the most to relative results. Strength in Industrials was partly due to the outperformance of composite decking and railing manufacturer Trex Company, Inc. and real estate information and marketing services company CoStar Group, Inc. Trex reported outstanding quarterly financial results throughout the year as consumers increasingly chose composite over wood in recognition of composite's more durable performance and lower lifetime costs. CoStar’s shares outperformed as net new sales re-accelerated more quickly than investor forecasts due to heightened demand for the company’s digital marketplace businesses. CoStar has over $3.6 billion cash on its balance sheet, which we expect it will use for TAM-expanding acquisitions, particularly in the residential market. Lower exposure to underperforming industrial machinery stocks also aided relative results. Favorable stock selection in Communication Services came from satellite communications company Iridium Communications Inc., whose shares were up nearly 60% for the year.

Investments in IT, Real Estate, and Consumer Discretionary, meaningfully lower exposure to strong performing biotechnology stocks within Health Care, and higher exposure to the underperforming Financials sector hurt relative results. Negative stock selection in IT was driven by syndicated research provider Gartner, Inc. and P&C insurance software vendor Guidewire Software, Inc. Gartner’s destination events business has been disproportionately impacted by COVID-19, while Guidewire’s transition to the cloud has caused short-term financial headwinds and slowed the cadence of new license sales. Weakness in Real Estate was partly due to the underperformance of Douglas Emmett, Inc., a REIT with office and apartment properties in West Los Angeles and Hawaii. Douglas Emmett was the second largest detractor due to concerns about a portion of the company’s tenants being unable to pay rent in a timely manner. Higher exposure to lagging specialized REITs through positions in Gaming and Leisure Properties, Inc. and Alexandria Real Estate Equities, Inc. also weighed on relative results. Within Consumer Discretionary, elevated exposure to hotels, resorts & cruise lines, whose businesses were adversely impacted by the COVID-19 outbreak, detracted the most from relative results. Performance in the sector was also hampered by the underperformance of global ski resort operator Vail Resorts, Inc. and corporate daycare provider Bright Horizons Family Solutions, Inc., whose resorts/centers were temporarily shuttered due to COVID-19.

Investors should consider the investment objectives, risks, and charges and expenses of the investment carefully before investing. The prospectus and summary prospectuses contain this and other information about the Funds. You may obtain them from the Funds’ distributor, Baron Capital, Inc., by calling 1-800-99BARON or visiting www.BaronFunds.com. Please read them carefully before investing.

The performance data quoted represents past performance. Past performance is no guarantee of future results. The investment return and principal value of an investment will fluctuate; an investor's shares, when redeemed, may be worth more or less than their original cost. The Fund’s transfer agency expenses may be reduced by expense offsets from an unaffiliated transfer agent, without which performance would have been lower. Current performance may be lower or higher than the performance data quoted.

Risks:All investments are subject to risk and may lose value.

The discussion of market trends is not intended as advice to any person regarding the advisability of investing in any particular security. The views expressed on this page reflect those of the respective writer. Some of our comments are based on management expectations and are considered “forward-looking statements.” Actual future results, however, may prove to be different from our expectations. Our views are a reflection of our best judgment at the time and are subject to change at any time based on market and other conditions and Baron has no obligation to update them

Portfolio holdings are subject to change. Current and future portfolio holdings are subject to risk.

The index performance is not fund performance; one cannot invest directly into an index.