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Delaware Value® Fund Quarterly commentary December 31, 2014

Within the Fund

For the fourth quarter of 2014, Delaware Value Fund (Class A and Institutional Class shares at net asset value) posted positive returns but underperformed its benchmark, the Russell 1000® Value Index. At the portfolio level, sector allocations detracted from relative performance while stock selection was additive. However, stock selection in the energy sector had a large negative effect on returns.

The Fund’s five energy sector holdings, which are broadly exposed to oil exploration and production, lagged by a wide margin in the fourth quarter. The Fund’s modest overweight in the sector versus the Index also hurt performance. Energy investments caused the largest drag on returns for the year, as well. Services provider Halliburton, down -38.8% in the fourth quarter and -21.6% in 2014, had the largest decline of any stock in the Fund in both periods. The company’s business is highly sensitive to the price of oil — a key determinant in the level of oil-field activity and, consequently, demand for its products and services. The company’s shares also took a hit after Halliburton announced that it would be acquiring rival and next-largest services provider, Baker Hughes. While we believe the acquisition should enhance Halliburton’s scale and product breadth, and deliver longer-term cost savings, the market appeared to react negatively to the acquisition price, anti-trust concerns, and the potential for a large break-up fee if the deal doesn’t get approved. Halliburton is the low-cost provider in the U.S. and has the best logistical network. We think the company could eventually benefit from the need for surviving oil producers to reduce their production costs in order to remain competitive amid lower crude oil prices.

Healthcare investments were also a notable source of negative attribution for both the quarter and year. The Fund’s stock selection did not keep pace with the sector and our overweight allocation also detracted from relative returns. Shares of pharmaceutical maker Merck underperformed the most in the quarter, falling -3.5%. In early December, Merck agreed to buy Cubist Pharmaceuticals, a maker of advanced antibiotics. Soon after the deal was announced, a patent ruling went against one of Cubist’s key drugs, sending Merck’s share price lower. Despite this setback, we believe Merck remains an attractive long-term investment because the company seems to be taking needed steps to become a more focused pharmaceutical play while continuing to generate strong cash flows.

The Fund’s investments in the consumer discretionary sector made the largest contribution to fourth quarter relative performance, led by home improvement retailer Lowe’s, up 30.6%. In November, Lowe’s reported solid results for its most recent quarter and raised its estimates for full-year earnings-per-share and operating margin. The market seemed to react positively to this news as well as to several analyst upgrades that followed. The shares also appeared to get a boost from improving U.S. economic data and the perception that lower fuel prices will likely lead to increased consumer spending.

Stock selection in the industrials sector was another meaningful contributor to the fourth quarter’s relative returns. Northrop Grumman (up 12.4%) continued to perform well despite downward pressure on defense spending, and benefited from several sell-side analyst upgrades during the quarter. For all of 2014, the largest contributions to relative performance came from our investments in the industrials and information technology sectors. In industrials, stock selection drove outperformance; in technology, it was primarily the Fund’s overweight allocation.

There were no full-position purchases or sales in the Fund during the quarter. In early December, we sold a small, partial position in California Resources (CRC), a company formed by the spin-off of Occidental Petroleum’s California-based exploration and production assets. The position represented approximately 0.1% of the Fund. Given the dislocations in the energy sector, the small size of the Fund’s position, and the company’s relatively small market cap (less than $3 billion), the team voted to sell the holding in CRC.

Outlook

Our investment outlook, as always, is focused on the longer term, looking out at least three to five years. Over this horizon, we are cautious about the prospects for equities, but optimistic about the shares of what we view as higher-quality companies that are trading below their long-term average valuation multiples. While we think annualized total returns for U.S. equities during this period will be below average, it’s our belief that these returns — likely in the mid-single-digit range — should be competitive versus other asset classes. Chief among our concerns is the valuation of the U.S. stock market. It looks fully valued to us across a broad range of price multiples including those based on earnings, sales, cash flows, book value, and dividend yield.

In energy, we are patiently re-evaluating the Fund’s current holdings in light of new opportunities that are starting to present themselves. Some companies with higher-quality assets (from both a geological and financial perspective) that we typically have not been able to purchase in the past are beginning to qualify in our opportunity screen. We expect there may be some interesting candidates for the Fund as other segments of the energy sector begin pricing in lower long-term oil prices. As before, we will continue emphasizing companies with acreage positions in lower-breakeven basins that have solid balance sheets. In a nutshell, as painful as the recent energy bear market has been, we believe some newly attractive long-term investment opportunities are starting to emerge in the sector.

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The views expressed represent the Manager's assessment of the Fund and market environment as of the date indicated, and should not be considered a recommendation to buy, hold, or sell any security, and should not be relied on as research or investment advice. Information is as of the date indicated and subject to change.

Document must be used in its entirety.

Performance

The performance quoted represents past performance and does not guarantee future results. Investment return and principal value of an investment will fluctuate so that shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than the performance quoted.

Performance data current to the most recent month end may be obtained by calling 800 523-1918 or visiting delawareinvestments.com/performance.

Total returns may reflect waivers and/or expense reimbursements by the manager and/or distributor for some or all of the periods shown. Performance would have been lower without such waivers and reimbursements.

Average annual total return as of quarter-end (12/31/2014)
Current
quarter
YTD1 year3 year5 year10 yearLifetimeInception
date
Class A (NAV)2.99%13.42%13.42%19.88%16.77%8.00%7.70%09/15/1998
Class A (at offer)-2.92%6.93%6.93%17.55%15.41%7.36%7.31%
Institutional Class shares3.05%13.69%13.69%20.20%17.07%8.27%7.91%09/15/1998
Russell 1000 Value Index4.98%13.45%13.45%20.89%15.42%7.30%n/a

Returns for less than one year are not annualized.

Class A shares have a maximum up-front sales charge of 5.75% and are subject to an annual distribution fee.

Russell 1000® Value Index (view)

Index performance returns do not reflect any management fees, transaction costs, or expenses. Indices are unmanaged and one cannot invest directly in an index.

Expense ratio
Class A (Gross)1.02%
Class A (Net)1.02%
Institutional Class shares (Gross)0.77%
Institutional Class shares (Net)0.77%
Top 10 holdings as of 01/31/2015
Holdings are as of the date indicated and subject to change.
List excludes cash and cash equivalents.
Holding% of portfolio
Lowe's Cos. Inc.3.2%
Northrop Grumman Corp.3.2%
CVS Health Corp.3.2%
Quest Diagnostics Inc.3.2%
Occidental Petroleum Corp.3.1%
Merck & Co. Inc.3.1%
Kraft Foods Group Inc.3.1%
Johnson Controls Inc.3.1%
Edison International3.1%
Broadcom Corp.3.1%
Total % Portfolio in Top 10 holdings31.4%

Institutional Class shares are only available to certain investors. See the prospectus for more information. 

All third-party marks cited are the property of their respective owners.

Carefully consider the Fund’s investment objectives, risk factors, charges, and expenses before investing. This and other information can be found in the Fund’s prospectus and its summary prospectus, which may be obtained by clicking the prospectus link located in the right-hand sidebar or calling 800 523-1918. Investors should read the prospectus and the summary prospectus carefully before investing.

Investing involves risk, including the possible loss of principal.

Holding a relatively concentrated portfolio of a limited number of securities may increase risk because each investment has a greater effect on the Fund’s overall performance than would be the case for a more diversified fund.

Not FDIC Insured | No Bank Guarantee | May Lose Value