DEAR SHAREHOLDERS:
- --------------------------------------------------------------------------------
Lexington SmallCap Fund finished 1998 with a return of 6.73%, which
compares to -0.33% for the average small cap fund monitored by Lipper, Inc.
Although we are pleased with the Fund's performance, we are at a loss to
explain why there is not more investor interest in small cap companies that are
selling at a significant discount to the unmanaged Standard and Poor's 500 Stock
Price Index.
Clearly, large capitalization stocks and momentum investors have driven the
S&P 500 to record high valuation levels. Mutual fund flows and the growth of
indexing has led these stocks to risky valuation levels. It would appear that
today's investor would rather pay "40-50" P/E multiples for companies with a 10%
annual growth rate than purchase companies with a 20% annual growth rate with
"18" P/E multiples.
We believe that this will not be the case in the near future. There are
many, well managed small cap companies that are not being recognized by today's
investor. It is our belief that the market will return to more rational
valuation levels and money will begin to flow into the small cap sector in 1999.
Your Fund is well positioned to participate with over 50% of the Fund's
portfolio in technology, healthcare and financial sectors. We are seeking top
line growth and earnings visibility. These sectors should provide earnings
acceleration in an economy that we expect to be slowing in the later half of
1999. Many of our companies have strong upside potential based upon product
superiority, market niches and strong business plans.
Sincerely,
/s/ Frank A. Peluso /s/ Alan H. Wapnick /s/ Robert M. DeMichele
------------------- ------------------- -----------------------
Frank A. Peluso Alan H. Wapnick Robert M. DeMichele
Portfolio Manager Portfolio Manager President
February, 1999 February, 1999 February, 1999
1
<PAGE>
Comparison of change in value of a $10,000 investment in
Lexington SmallCap Fund, Inc. and
the unmanaged Russell 2000 Index
[The following table represents a line chart in the printed report.]
Lexington Russell
Year SmallCap Fund 2000 Index
====================================
1/2/96 $10,000 $10,000
6/30/96 $10,910 $11,036
12/31/96 $11,757 $11,649
6/30/97 $12,970 $12,837
12/31/97 $12,988 $14,253
6/30/98 $13,581 $14,956
12/31/98 $13,863 $13,890
Average Annual Standard Total Returns
for the Period Ended 12/31/98
- --------------------------------------------------------------------------------
Fund/Index 1 Yr Since Inception 1/2/96
Annualized
- --------------------------------------------------------------------------------
Lexington SmallCap Fund 6.73% 11.51%
Russell 2000 (2.55%) 11.56%
-------------------------------------------------------------------------------
This graph, prepared in accordance with SEC regulations, compares a $10,000
investment in the Fund with a similar investment in the Russell 2000 Index.
Results for the Fund and the Russell 2000 Index include the reinvestment of all
dividend and capital gain distributions. Investment return and principal
value of an investment will fluctuate so that an investor's shares when redeemed
may be worth more or less than at their original cost. Total return represents
past performance and it is not predictive of future results.
* 6.73% and 11.51% are the one year and since commencement (1/2/96) average
annual standard total returns, respectively, for the period ended December
31, 1998. Investment return and principal value of an investment will
fluctuate so that an investor's shares, when redeemed, may be worth more or
less than at their original cost. Total return represents past performance
and is not predictive of future results.
2
<PAGE>
LEXINGTON SMALLCAP FUND, INC.
STATEMENT OF NET ASSETS
(INCLUDING THE PORTFOLIO OF INVESTMENTS)
December 31, 1998
<TABLE>
<CAPTION>
NUMBER
OF VALUE
SHARES SECURITY (NOTE 1)
================================================================================
<S> <C> <C>
COMMON STOCKS: 95.8%
BANKING: 7.1%
5,466 Oriental Financial Group, Inc. ...... $ 171,154
23,500 PBOC Holdings, Inc.1 ................ 243,078
5,600 TrustCo Bank Corporation NY ......... 168,000
----------
582,232
----------
CAPITAL EQUIPMENT: 9.7%
4,700 ADAC Laboratories1 .................. 93,853
16,500 Cymer, Inc.1 ........................ 240,281
5,500 Dionex Corporation1 ................. 202,812
8,100 Imax Corporation1 ................... 256,669
----------
793,615
----------
COMPUTERS: 7.4%
5,800 National Computer Systems ........... 213,875
10,000 Neomagic Corporation1 ............... 220,938
5,000 Xircom, Inc.1 ....................... 171,406
----------
606,219
----------
CONSTRUCTION & HOUSING: 3.0%
7,200 Granite Construction, Inc. .......... 241,650
----------
CONSUMER DURABLE GOODS: 1.8%
6,500 Juno Lighting, Inc. ................. 151,125
----------
CONSUMER NONDURABLE GOODS: 1.9%
7,000 J & J Snack Foods Corporation1 ...... 158,594
----------
ELECTRICAL & ELECTRONICS: 4.9%
6,400 Intervoice, Inc.1 ................... 221,000
9,000 Structural Dynamics Research
Corporation1 ........................ 178,312
----------
399,312
----------
ENVIRONMENTAL TECHNOLOGY: 5.0%
9,400 Cerus Corporation1 .................. 193,875
2,500 VISX, Inc.1 ......................... 218,828
----------
412,703
----------
FINANCIAL SERVICES: 12.0%
3,366 Delphi Financial Group, Inc.1 ....... 176,505
3,800 E.W. Blanch Holdings, Inc. .......... 180,263
8,200 Eaton Vance Corporation ............. 171,175
13,000 Foremost Corporation of America ..... 273,000
4,000 Gallagher (Arthur J.) & Company ..... 176,500
----------
977,443
----------
HEALTH & PERSONAL CARE: 10.6%
7,000 Alpharma, Inc. ...................... 247,187
5,600 Osteotech, Inc.1 .................... 262,850
8,600 Roberts Pharmaceutical
Corporation1 ........................ 187,050
8,300 Sequus Pharmaceuticals, Inc.1 ....... 167,556
----------
864,643
----------
</TABLE>
<TABLE>
<CAPTION>
NUMBER
OF VALUE
SHARES SECURITY (NOTE 1)
================================================================================
<S> <C> <C>
INVESTMENT COMPANY: 1.9%
1,600 SEI Investments Company ............. $ 159,000
----------
MACHINERY: 4.0%
3,000 Astec Industries, Inc.1 ............. 166,875
7,900 Asyst Technologies, Inc.1 ........... 161,456
----------
328,331
----------
MANUFACTURING: 2.1%
3,000 SPS Technologies, Inc.1 ............. 169,875
----------
MATERIALS: 3.5%
5,200 Cambrex Corporation ................. 124,800
4,400 Lone Star Industries, Inc. .......... 161,975
----------
286,775
----------
MEDICAL PRODUCTS & SUPPLIES: 2.4%
2,000 MedImmune, Inc. ..................... 199,375
----------
MERCHANDISING: 2.3%
8,000 Chico's Fas, Inc.1 .................. 186,500
----------
PRECIOUS METALS: 2.7%
5,300 Stillwater Mining Company1 .......... 217,300
----------
RETAIL: 4.5%
5,000 O'Reilly Automotive, Inc.1 .......... 235,313
6,500 OshKosh B'Gosh, Inc. "Class A" ...... 131,219
----------
366,532
----------
SERVICES: 6.7%
6,200 Acxiom Corporation1 ................. 191,813
18,000 Caribiner International, Inc.1 ...... 164,250
2,800 Catalina Marketing Corporation1 ..... 191,450
----------
547,513
----------
UTILITIES: 2.3%
4,500 Aquarion Company .................... 184,500
----------
TOTAL INVESTMENTS: 95.8%
(cost $6,595,293+)(Note 1)........... 7,833,237
Other assets in excess of
liabilities: 4.2% ................... 339,251
----------
TOTAL NET ASSETS: 100.0%
(equivalent to $11.90 per share
on 686,838 shares outstanding) $8,172,488
==========
</TABLE>
1 Non-income producing security.
+ Aggregate cost for Federal income tax purposes is identical.
The Notes to Financial Statements are an integral part of this statement.
3
<PAGE>
LEXINGTON SMALLCAP FUND, INC.
STATEMENT OF ASSETS AND LIABILITIES
December 31, 1998
<TABLE>
<S> <C>
ASSETS
Investments, at value
(cost $6,595,293) (Note 1) ............... $7,833,237
Cash ........................................ 324,529
Due from Lexington Management
Corporation (Note 2) ..................... 3,305
Receivable for shares sold .................. 6,675
Dividends and interest receivable ........... 6,262
Deferred organization costs, net
(Note 1) ................................. 22,592
----------
Total Assets ............................. 8,196,600
----------
LIABILITIES
Distributions payable ....................... 224
Accrued expenses ............................ 23,888
----------
Total Liabilities ........................ 24,112
----------
NET ASSETS: (equivalent to $11.90
per share on 686,838 shares
outstanding) (Note 4) .................... $8,172,488
==========
NET ASSETS consist of:
Capital stock - authorized
1,000,000,000 shares, $.001 par
value per share .......................... $ 687
Additional paid-in capital (Note 1) ......... 6,846,714
Accumulated net investment loss
(Note 1) ................................. (25,677)
Accumulated net realized gain on
investments (Note 1) ..................... 112,820
Unrealized appreciation of
investments .............................. 1,237,944
----------
TOTAL NET ASSETS ......................... $8,172,488
==========
</TABLE>
LEXINGTON SMALLCAP FUND, INC.
STATEMENT OF OPERATIONS
Year ended December 31, 1998
<TABLE>
<S> <C> <C>
INVESTMENT INCOME
Dividends ......................... $56,604
Interest .......................... 19,337
-------
75,941
Less: foreign tax expense ......... 62
-------
Total investment income .......... $ 75,879
EXPENSES
Investment advisory fee
(Note 2) ........................ 82,335
Printing and mailing expenses ...... 27,652
Professional fees .................. 24,303
Directors' fees and expenses ....... 22,239
Transfer agent and shareholder
servicing expenses (Note 2) ..... 19,940
Registration fees .................. 17,079
Accounting expenses (Note 2) ....... 10,686
Amortization of deferred
organization costs (Note 1) ..... 9,089
Distribution expenses (Note 3) ..... 7,733
Computer processing fees ........... 6,067
Custodian expenses ................. 4,508
Other expenses ..................... 8,914
-------
Total expenses .................... 240,545
-------
Less: expenses recovered
under contract with
investment adviser
(Note 2) ....................... 26,978 213,567
------- --------
Net investment loss ............... (137,688)
REALIZED AND UNREALIZED GAIN
ON INVESTMENTS (NOTE 5)
Net realized gain on
investments ..................... 147,548
Net change in unrealized
appreciation of investments ..... 579,945
-------
Net realized and unrealized
gain ............................ 727,493
--------
INCREASE IN NET ASSETS
RESULTING FROM OPERATIONS $589,805
========
</TABLE>
The Notes to Financial Statements are an integral part of these statements.
4
<PAGE>
LEXINGTON SMALLCAP FUND, INC.
STATEMENTS OF CHANGES IN NET ASSETS
Years ended December 31, 1998 and 1997
<TABLE>
<CAPTION>
1998 1997
-------------- --------------
<S> <C> <C>
Net investment loss ....................... $ (137,688) $ (163,759)
Net realized gain from investment
transactions ............................ 147,548 1,320,930
Net change in unrealized appreciation
of investments .......................... 579,945 (330,019)
---------- ----------
Net increase in net assets
resulting from operations ............. 589,805 827,152
Distributions to shareholders from
net investment income (Note 1) .......... - (1,160,092)
Distributions to shareholders from
net realized gains from investment
transactions (Note 1) ................... (150,156) -
Increase (decrease) in net assets
from capital share transactions
(Note 4) ................................ (1,831,934) 1,836,489
---------- ----------
Net increase (decrease) in net
assets ................................ (1,392,285) 1,503,549
NET ASSETS:
Beginning of period ..................... 9,564,773 8,061,224
---------- ----------
End of period (including
accumulated net investment loss
of $25,677 and $18,112, in 1998
and 1997, respectively) ................ $8,172,488 $9,564,773
========== ==========
</TABLE>
LEXINGTON SMALLCAP FUND, INC.
NOTES TO FINANCIAL STATEMENTS
December 31, 1998 and 1997
1. SIGNIFICANT ACCOUNTING POLICIES
Lexington SmallCap Fund, Inc. (the "Fund") is an open-end diversified management
investment company registered under the Investment Company Act of 1940, as
amended. The Fund commenced operations on January 2, 1996. The Fund's investment
objective is to seek long-term capital appreciation. The following is a summary
of significant accounting policies followed by the Fund in the preparation of
its financial statements:
INVESTMENTS Securities transactions are accounted for on a trade date basis.
Realized gains and losses from investment transactions are reported on the
identified cost basis. Securities traded on a recognized stock exchange are
valued at the last sales price reported by the exchange on which the securities
are traded. If no sales price is recorded, the mean between the last bid and
asked prices is used. Securities traded on the over-the-counter market are
valued at the mean between the last current bid and asked prices. Short-term
securities having a maturity of 60 days or less are stated at amortized cost,
which approximates market value. Securities for which market quotations are not
readily available and other assets are valued by Fund management in good faith
under the direction of the Fund's Board of Directors. Dividend income and
distributions to shareholders are recorded on the ex-dividend date. Interest
income, adjusted for amortization of premiums and accretion of discounts, is
accrued as earned.
FEDERAL INCOME TAXES It is the Fund's policy to comply with the requirements of
the Internal Revenue Code applicable to "regulated investment companies" and to
distribute all of its taxable income to its shareholders. Therefore, no
provision for Federal income taxes is required.
DISTRIBUTIONS Dividends from net investment income and net realized capital
gains are normally declared and paid annually, but the Fund may make
distributions on a more frequent basis to comply with the distribution
requirements of the Internal Revenue Code. The character of income and gains to
be distributed are determined in accordance with income tax regulations which
may differ from generally accepted accounting principals. At December 31, 1998,
reclassifications were made to the Fund's capital accounts to reflect permanent
book/tax differences and income and gains available for distribution under
income tax regulations. Net investment income, net realized gains and net assets
were not affected by this change.
DEFERRED ORGANIZATION COSTS Organization costs aggregating $52,837 have been
deferred and are being amortized on a straight line basis over five years. At
December 31, 1998, the amount remaining to be amortized was $22,592.
USE OF ESTIMATES The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of increases and decreases in net assets
from operations during the reporting period. Actual results could differ from
those estimates.
2. INVESTMENT ADVISORY FEE AND OTHER TRANSACTIONS WITH AFFILIATE
The Fund pays an investment advisory fee to Lexington Management Corporation
("LMC") at the annual rate of 1.00% of the Fund's average daily net assets. In
connection with providing investment advisory services, LMC has entered into a
sub-advisory contract with an affiliate, Market Systems Research Advisors, Inc.
("MSR"), under which MSR provides the Fund with investment management services.
Pursuant to the terms of the sub-advisory contract between LMC and MSR, LMC pays
MSR a monthly sub-advisory fee at the annual rate of 0.50% of the Fund's average
daily net assets. For 1998, LMC has agreed to voluntarily limit the total
expenses of the Fund (excluding interest, taxes, brokerage commissions, 12B-1
fees and extraordinary expenses but including management fee and operating
expenses) to an annual rate of 2.50% of the Fund's average net assets. Total
reimbursement was $26,978 for the year ended December 31, 1998, and is set forth
in the statement of operations.
The Fund also reimburses LMC for certain expenses, including accounting and
shareholder servicing costs of $19,574, which were incurred by the Fund, but
paid by LMC.
5
<PAGE>
LEXINGTON SMALLCAP FUND, INC.
NOTES TO FINANCIAL STATEMENTS
December 31, 1998 and 1997 (continued)
3. DISTRIBUTION PLAN
The Fund has a Distribution Plan (the "Plan") which allows payments to finance
activities associated with the distribution of the Fund's shares. The Plan
provides that the Fund may pay distribution fees on a reimbursement basis,
including payments to Lexington Funds Distributor, Inc. ("LFD"), the Fund's
distributor, in amounts not exceeding 0.25% per annum of the Fund's average
daily net assets. Total distribution expenses for the year ended December 31,
1998 were $7,733 and are set forth in the statement of operations.
4. CAPITAL STOCK
Transactions in capital stock were as follows:
<TABLE>
<CAPTION>
Year ended
December 31, 1998 December 31, 1997
------------------------------- -------------------------------
Shares Amount Shares Amount
------------- --------------- ------------- ---------------
<S> <C> <C> <C> <C>
Shares sold ........... 85,447 $ 946,635 242,768 $ 3,149,748
Shares issued on
reinvestment
of dividends ........ 14,369 149,458 101,424 1,157,337
----------- ------------ ------- ------------
99,816 1,096,093 344,192 4,307,085
Shares redeemed ....... (252,697) (2,928,027) (191,705) (2,470,596)
----------- ------------ ------- ------------
Net increase
(decrease) ......... (152,881) $ (1,831,934) 152,487 $ 1,836,489
=========== ============ ======= ============
</TABLE>
5. INVESTMENT TRANSACTIONS
The cost of purchases and proceeds from sales of securities for the year ended
December 31, 1998, excluding short-term securities, were $11,323,016 and
$13,576,793, respectively. At December 31, 1998, the aggregate gross unrealized
appreciation for all securities in which there is an excess of value over tax
cost amounted to $1,492,630 and aggregate gross unrealized depreciation for all
securities in which there is an excess of tax cost over value amounted to
$254,686.
6. TAX INFORMATION (UNAUDITED)
The following tax information represents the designation of various tax benefits
relating to the year ended December 31, 1998: The percentage of investment
company taxable income eligible for the dividends received deduction available
to certain corporate shareholders with respect to the year ended December 31,
1998, is 11.8%. The Fund designates $145,706, whether taken in shares or cash,
as 20% long-term capital gain distributions.
- --------------------------------------------------------------------------------
FINANCIAL HIGHLIGHTS
Selected per share data for a share outstanding throughout the period:
<TABLE>
<CAPTION>
January 2, 1996
(commencement
Year ended December 31, of operations) to
-------------------------------------- December 31,
1998 1997 1996
------------------ ----------------- ------------------
<S> <C> <C> <C>
Net asset value, beginning of period .......................... $ 11.39 $ 11.73 $ 10.00
------- ------- --------
Income (loss) from investment operations: .....................
Net investment loss .......................................... (0.02) (0.19) (0.18)
Net realized and unrealized gain on investments .............. 0.75 1.41 1.94
------- ------- -------
Total income from investment operations ....................... 0.73 1.22 1.76
------- ------- -------
Less distributions:
Distributions from net investment income ..................... -- -- --
Distributions from net realized gains ........................ (0.22) (1.56) (0.03)
------- ------- -------
Total distributions ........................................... (0.22) (1.56) (0.03)
------- ------- -------
Net asset value, end of period ................................ $ 11.90 $ 11.39 $ 11.73
======= ======= =======
Total return .................................................. 6.73% 10.47% 17.50%
Ratio to average net assets:
Expenses, before reimbursement or waivers .................... 2.92% 2.57% 3.04%
Expenses, net of reimbursement or waivers .................... 2.59% 2.57% 2.48%
Net investment loss, before reimbursement or waivers ......... (2.00)% (1.78)% (2.34)%
Net investment loss .......................................... (1.67)% (1.78)% (1.78)%
Portfolio turnover rate ....................................... 145.94% 39.09% 60.92%
Net assets, end of period (000's omitted) ..................... $ 8,172 $ 9,565 $ 8,061
</TABLE>
6
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Shareholders
Lexington SmallCap Fund, Inc.:
We have audited the accompanying statement of net assets (including the
portfolio of investments) and assets and liabilities of Lexington SmallCap Fund,
Inc. as of December 31, 1998, the related statement of operations for the year
then ended, the statements of changes in net assets for each of the years in the
two-year period then ended, and the financial highlights for each of the years
in the two-year period then ended and for the period from January 2, 1996
(commencement of operations) to December 31, 1996. These financial statements
and financial highlights are the responsibility of the Fund's management. Our
responsibility is to express an opinion on these financial statements and
financial highlights based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements and financial highlights. Our procedures included confirmation of
securities owned as of December 31, 1998 by correspondence with the custodian
and brokers. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred
to above present fairly, in all material respects, the financial position of
Lexington SmallCap Fund, Inc. as of December 31, 1998, the results of its
operations for the year then ended, and the changes in its net assets for each
of the years in the two-year period then ended and the financial highlights for
each of the years in the two-year period then ended and for the period from
January 2, 1996 (commencement of operations) to December 31, 1996, in conformity
with generally accepted accounting principles.
KPMG LLP
New York, New York
February 19, 1999
7
<PAGE>
LEXINGTON
LEXINGTON [LOGO]
SMALLCAP FUND, INC.
INVESTMENT ADVISOR
- ---------------------------------------
LEXINGTON MANAGEMENT CORPORATION
P.O. Box 1515
Park 80 West Plaza Two
Saddle Brook, New Jersey 07663 LEXINGTON
SMALLCAP
SUB-ADVISOR FUND, INC.
- --------------------------------------- ----------------------------------
Market Systems Research Advisors, Inc. Seeks long-term capital
80 Maiden Lane appreciation through investment in
New York, New York 10038 common stock of companies
domiciled in the United States
DISTRIBUTOR with a market capitalization
- --------------------------------------- of less than $1 billion.
LEXINGTON FUNDS DISTRIBUTOR, INC. ----------------------------------
P.O. Box 1515 ANNUAL REPORT
Park 80 West Plaza Two DECEMBER 31, 1998
Saddle Brook, New Jersey 07663 The Lexington Group
of No Load
Investment Companies
- -------------------------------------------------------
(800) 526-0052
"LEXLINE"
24 hour toll-free telephone access to your
Lexington Fund account
Price/Yield * Account Balances * Exchanges *
Last Transactions * Total Return * Duplicate Statements
- -------------------------------------------------------
This report has been prepared for the information of the shareholders of
Lexington SmallCap Fund, Inc. and is authorized for distribution to the public
only if it is accompanied or preceded by a currently effective prospectus which
sets forth expenses and other material information.
