Heartland Small Cap Value Strategy 4Q25 Portfolio Manager Commentary

In a year in which trillions of dollars have poured into giant tech stocks in search of AI’s promise, scores of well-run, already profitable, and attractively priced businesses have been begging for attention. Yet we are confident the mega-cap momentum party won’t last forever and encouraged by the fact that interest in small value is building as the market is broadening out. 

In the fourth quarter, the Russell 2000® Value Index returned 3.26%, outpacing the 2.66% gains for the S&P 500. As a result of the year-end rally, small stocks nearly pulled even with large caps in 2025, marking their best relative performance since the pandemic. 

Part of this is due to strengthening fundamentals and earnings. Profit growth for small companies is on track to surpass that of large caps for the first time in 13 quarters. We believe this trend is likely to continue as the Federal Reserve lowers interest rates and as the regulatory backdrop improves — both factors that have historically benefited emerging businesses more than giant multinationals. In 2025, the total cost of regulations, as a percentage of GDP, fell by 0.24% after climbing consistently over the past two decades, according to data compiled by the American Action Forum. 

Another factor contributing to the broadening market is valuations. There are signs that investors are finally beginning to appreciate how attractively priced small stocks are. In the past quarter, for example, four of our Strategy’s holdings were taken private, raising our take-out total to 14 over the past year. 

However, just 10% of companies account for more than 75% of the market’s overall capitalization, so concentration is likely to persist (see the chart below). But this reminds us of the observations of the 19th century Scottish writer Charles Mackey, who studied cultural fads and investment bubbles. Mackey observed that while crowds coalesce quickly, the unwinding of manias tends to take place more sporadically and gradually as individuals “recover their senses slowly and one by one.” This is why we believe we’re still in the first or second inning of the small-cap rebound.
 

Source: Kenneth R. French Data Library at Dartmouth via Allied Investment Advisors, Monthly data from 7/1/1926 to 10/1/2025. This chart represents the Market Value of Top 10% of US Companies through Kenneth R. French U.S. Research Returns Data. Kenneth R. French's U.S. Research Returns Data is a comprehensive dataset that captures the performance of U.S. stocks over time. All indices are unmanaged. It is not possible to invest directly in an index. Past performance does not guarantee future results.

Despite the promising opportunity set, it’s important for investors not to get ahead of themselves. At Heartland, our 10 Principles of Value Investing™ require us to make portfolio decisions based on rigorous fundamental factors. This focus on low valuations, high-quality balance sheets, financial soundness, and positive earnings dynamics, among other attributes, has served us and our clients well for more than 41 years. Our process goes beyond this 10-point system, as we also monitor our exposures across sectors, industries, factors, and other risk considerations. By doing so, we aim to capitalize on dislocations in the market.

Attribution Analysis & Portfolio Activity

In the fourth quarter, the Heartland Small Cap Value Strategy gained 2.98%, compared with the 3.26% return for the Russell 2000® Value Index. While the Strategy slightly underperformed its benchmark in the quarter, it has outpaced the index over the past one, three, five, and 10 years.

During the quarter, stock selection was positive despite slightly underperforming the Index. Health Care accounted for nearly all the negative impact. Our results were more the outcome of what we didn’t own than our actual holdings in the sector. Biotech companies in the benchmark soared in October and November, which is a good example of the speculation which persists. However, we don’t have direct exposure to this group, as many are profitless. We are, though, actively examining our Health Care stocks as several were among our portfolio’s biggest detractors in the quarter.

An example of a Health Care holding that struggled in the quarter was Integer Holdings Corporation (ITGR), which specializes in the design, development, and production of medical technologies and components. In late October, Integer’s stock sank more than 30% after the company significantly lowered its outlook for growth and margin expansion in 2026, as several products experienced slower market adoption than was expected. But management expects these headwinds to be short-lived, with a robust portfolio of higher growth and margin products coming to market, which should allow the company to get back on track. The company still expects to outgrow its industry peers by 2% while growing earnings before interest and taxes (EBIT) at twice the rate of sales. 

Even better, the company announced a $200 million stock repurchase authorization after the selloff, increasing our conviction that the shares are materially undervalued. This confidence drove us to increase our exposure to Integer in the quarter.

Another position we increased earlier in the quarter was Columbus McKinnon (CMCO), which designs, manufactures, and distributes materials, handling products, and systems used in a variety of industrial applications, including lifting, automation, and precision conveyance. Early this year, CMCO reported slower-than-expected Q3 results, citing slowing industry demand driven by U.S. policy uncertainty. By itself, that would have likely triggered a mid-single-digit to high-single-digit selloff based on historic price reactions. However, management also announced a $2.7 billion acquisition of a competitor, Kito Crosby, which sent the stock plummeting more than 40% due to concerns surrounding execution and an increased leverage profile upon closing. 

At current prices, we believe Columbus has a compelling risk/reward profile as management seeks to reduce leverage and improve the growth and margin profile of the consolidated business. Management is targeting mid-20% EBITDA margins upon integration, up from 15.5% in FY25 pre-acquisition.

In our opinion, CMCO can rerate closer to its industrial peers that trade at an average of 12x EV/EBITDA. Meanwhile, our view of the stock’s attractive valuations seems to be validated by aggressive insider buying by management in the aftermath of the Q3 selloff. 
Due to robots, quants and momentum players dominating trading, it is not unusual for holdings to experience 10%, 20%, or even more, intraday swings in price. As active, fundamental investors we endeavor to take advantage of outsized moves –up or down-if our research indicates over reaction. 

To amplify here is a recent vivid example of one of your holdings: 
SunOpta (STKL), the leader in plant-based milk production, was a significant detractor during the quarter. Sales posted another record, Q3 +17%, and by our estimates reaching $815 million in ’25 with profitability. However, the company, which supplies leading retailers including Starbucks, Walmart, Costco, and others, sold off after resetting earnings expectations for 2026, though management raised their sales outlook.

The lower guidance was caused by a few key customers accelerating supply decisions, straining STKL’s operations and capacity and increasing maintenance costs. We believe this is a classic case of the market overreacting to short-term news. In reality, the additional volume demand is a positive for SunOpta, as not many companies in the Consumer Staples sector are seeing enough growth to worry about production constraints. The day of the release, November 5, STKL was trading at $5.26. On the news, the stock gapped down to $3.86- a drop of 30%. Our research identified this as an overreaction, so we added to our position. 

Over the next 12 months, we expect these temporary margin headwinds will subside as STKL adds a new manufacturing line that is already 50% subscribed and installs new equipment to increase wastewater capacity at the facility. SunOpta enjoys a key advantage over its peers as it is the only manufacturer in its categories with a nationwide footprint. The company is also benefitting from increased adoption of oat milk and other dairy alternatives, as many large coffee chains have dropped extra charges for plant-based milks and increased the number of menu items utilizing them. This includes Starbucks, which is its largest customer.

After the sell-off, SunOpta shares are trading at 8.2 times EBITDA, an attractive price for a leading Consumer Staples company operating in growing categories. We are also heartened to see insiders, including the CFO, Directors, and others buying shares. This is part of our 10 Principles, which has been refined since the bear market of 1970-1973. 
 

Outlook

One by one, investors seem to be recovering their senses, to borrow a phrase from Charles Mackay. This is bringing renewed attention to small stocks, which have been overlooked, undervalued, under-followed and under-owned for some time. This gives us hope, as does improving market breadth, which should be positive not just for Heartland’s process but for active management in general. 

We believe successful active managers have to pair promising opportunities with a disciplined approach, to be mindful not only of the risk/reward proposition of individual securities but of their overall portfolio. At Heartland, this bottom-up focus on the fundamentals, coupled with a top-to-bottom assessment of our portfolio, has served our clients well for more than four decades. We suspect it’s also going to come in very handy in the years ahead.

Fundamentally yours,
The Heartland Investment Team