<PAGE>
As filed with the Securities and Exchange Commission on January 28, 1997
Securities Act Registration No. 333-00203
Investment Company Act Registration
No. 811-07491
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------
FORM N-1A
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 [_]
PRE-EFFECTIVE AMENDMENT NO. [_]
POST-EFFECTIVE AMENDMENT NO. 2 [X]
AND/OR
REGISTRATION STATEMENT UNDER THE
INVESTMENT COMPANY ACT OF 1940 [_]
AMENDMENT NO. 3 [X]
(Check appropriate box or boxes)
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PRUDENTIAL DISTRESSED SECURITIES FUND, INC.
(Exact name of registrant as specified in charter)
GATEWAY CENTER THREE
NEWARK, NEW JERSEY 07102
(Address of Principal Executive Offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (201)367-7530
S. JANE ROSE, ESQ.
GATEWAY CENTER THREE
NEWARK, NEW JERSEY 07102
(NAME AND ADDRESS OF AGENT FOR SERVICE)
APPROXIMATE DATE OF PROPOSED PUBLIC OFFERING: AS SOON AS PRACTICABLE AFTER
THE EFFECTIVE DATE OF THE REGISTRATION STATEMENT.
IT IS PROPOSED THAT THIS FILING WILL BECOME EFFECTIVE
(CHECK APPROPRIATE BOX):
[_] immediately upon filing pursuant to paragraph (b)
[X] on January 29, 1997 pursuant to paragraph (b)
[_] 60 days after filing pursuant to paragraph (a)(1)
[_] on (date) pursuant to paragraph (a)(1)
[_] 75 days after filing pursuant to paragraph (a)(2)
[_] on (date) pursuant to paragraph (a)(2) of Rule
485.
If appropriate, check the following box:
[_] this post-effective amendment designates a new
effective date for a previously filed post-
effective amendment.
PURSUANT TO RULE 24f-2 UNDER THE INVESTMENT COMPANY ACT OF 1940, REGISTRANT
HAS PREVIOUSLY REGISTERED AN INDEFINITE NUMBER OF SHARES OF COMMON STOCK, PAR
VALUE $.001 PER SHARE. THE REGISTRANT FILED A NOTICE UNDER SUCH RULE FOR ITS
FISCAL YEAR ENDED NOVEMBER 30, 1996 ON OR ABOUT JANUARY 24, 1997.
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<PAGE>
CROSS REFERENCE SHEET
(AS REQUIRED BY RULE 495)
<TABLE>
<CAPTION>
N-1A ITEM NO. LOCATION
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<C> <S> <C>
PART A
Item 1. Cover Page........................... Cover Page
Item 2. Synopsis............................. Fund Expenses; Fund Highlights
Item 3. Condensed Financial Information...... Fund Expenses; How the Fund
Calculates Performance;
Financial Highlights
Item 4. General Description of Registrant.... Cover Page; Fund Highlights;
How the Fund Invests; General
Information
Item 5. Management of the Fund............... How the Fund is Managed
Item 5A. Management's Discussion of Fund
Performance.......................... Financial Highlights
Item 6. Capital Stock and Other Securities... Taxes, Dividends and
Distributions; General
Information
Item 7. Purchase of Securities Being Offered. Shareholder Guide; How the
Fund Values its Shares
Item 8. Redemption or Repurchase............. Shareholder Guide; How the
Fund Values its Shares
Item 9. Pending Legal Proceedings............ Not Applicable
PART B
Item 10. Cover Page........................... Cover Page
Item 11. Table of Contents.................... Table of Contents
Item 12. General Information and History...... Not Applicable
Item 13. Investment Objectives and Policies... Investment Objective and
Policies; Investment
Restrictions
Item 14. Management of the Fund............... Directors and Officers;
Manager; Distributor
Item 15. Control Persons and Principal Holders
of Securities........................ Not Applicable
Item 16. Investment Advisory and Other
Services............................. Manager; Distributor;
Custodian, Transfer and
Dividend Disbursing Agent and
Independent Accountants
Item 17. Brokerage Allocation and Other
Practices............................ Portfolio Transactions and
Brokerage
Item 18. Capital Stock and Other Securities... Not Applicable
Item 19. Purchase, Redemption and Pricing of
Securities Being Offered............. Purchase and Redemption of
Fund Shares; Shareholder
Investment Account; Net Asset
Value
Item 20. Tax Status........................... Taxes
Item 21. Underwriters......................... Distributor
Item 22. Calculation of Performance Data...... Performance Information
Item 23. Financial Statements................. Financial Statements
PART C
Information required to be included in Part C is set forth under the
appropriate Item, so numbered, in Part C to this Registration Statement.
</TABLE>
<PAGE>
PRUDENTIAL DISTRESSED SECURITIES FUND, INC.
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PROSPECTUS DATED JANUARY 29, 1997
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Prudential Distressed Securities Fund, Inc. (the Fund) is an open-end,
diversified, management investment company whose investment objective is
capital appreciation. The Fund seeks to achieve its objective by investing
primarily in debt and equity securities issued by financially troubled or
bankrupt companies (financially troubled issuers) and in equity securities of
companies that in the view of its investment adviser are currently
undervalued, out-of-favor or price-depressed relative to their long term
potential for growth and income (operationally troubled issuers). These
issuers may be experiencing poor operating results. The Fund may engage in
various derivative transactions, including the purchase and sale of put and
call options on securities, stock indices and foreign currencies, the purchase
and sale of foreign currency exchange contracts and transactions involving
futures contracts and related options to hedge its portfolio and to attempt to
enhance return. The Fund may engage in short selling and use leverage, which
entails additional risks. There can be no assurance that the Fund's investment
objective will be achieved. See "How the Fund Invests--Investment Objective
and Policies."
THE FUND MAY INVEST UP TO 100% OF ITS NET ASSETS IN LOWER RATED AND UNRATED
BONDS, INCLUDING DEFAULTED SECURITIES. THESE SECURITIES ARE COMMONLY KNOWN AS
"JUNK BONDS" AND ARE SUBJECT TO A GREATER RISK OF LOSS OF PRINCIPAL AND
INTEREST THAN HIGHER RATED BONDS. INVESTMENT IN THE SECURITIES OF FINANCIALLY
AND OPERATIONALLY TROUBLED ISSUERS MAY BE CONSIDERED SPECULATIVE AND MAY
PRESENT POTENTIAL FOR SUBSTANTIAL LOSS. THE FUND'S SHARE PRICE MAY BE
PARTICULARLY VOLATILE AND PURCHASERS SHOULD CAREFULLY ASSESS THE RISKS
ASSOCIATED WITH AN INVESTMENT IN THE FUND. SEE "HOW THE FUND INVESTS--
INVESTMENT OBJECTIVE AND POLICIES--RISKS OF FINANCIALLY AND OPERATIONALLY
TROUBLED ISSUERS" AND "--RISK FACTORS RELATING TO INVESTING IN DEBT SECURITIES
RATED BELOW INVESTMENT GRADE (JUNK BONDS)." THE MINIMUM INITIAL INVESTMENT IS
$10,000.
The Fund's address is Gateway Center Three, Newark, New Jersey 07102, and its
telephone number is (800) 225-1852.
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This Prospectus sets forth concisely the information about the Fund that a
prospective investor should know before investing. Additional information
about the Fund has been filed with the Securities and Exchange Commission in a
Statement of Additional Information, dated January 29, 1997, which information
is incorporated herein by reference (is legally considered a part of this
Prospectus) and is available without charge upon request to the Fund at the
address or telephone number noted above.
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Investors are advised to read the Prospectus and retain it for future
reference.
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THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION PASSED UPON
THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE
CONTRARY IS A CRIMINAL OFFENSE.
<PAGE>
FUND HIGHLIGHTS
The following summary is intended to highlight certain information
contained in this Prospectus and is qualified in its entirety by the more
detailed information appearing elsewhere herein.
WHAT IS PRUDENTIAL DISTRESSED SECURITIES FUND, INC.?
Prudential Distressed Securities Fund, Inc. is a mutual fund. A mutual fund
pools the resources of investors by selling its shares to the public and
investing the proceeds of such sale in a portfolio of securities designed to
achieve its investment objective. Technically, the Fund is an open-end,
diversified, management investment company.
WHAT IS THE FUND'S INVESTMENT OBJECTIVE?
The Fund's investment objective is capital appreciation. It seeks to achieve
this objective by investing primarily in debt and equity securities issued by
financially troubled or bankrupt companies (financially troubled issuers) and
in equity securities of companies that in the view of the Fund's investment
adviser are currently undervalued, out-of-favor or price-depressed relative to
their long term potential for growth and income (operationally troubled
issuers). These issuers may be experiencing poor operating results. See "How
the Fund Invests--Investment Objective and Policies" at page 6.
WHAT ARE THE FUND'S RISK FACTORS AND SPECIAL CHARACTERISTICS?
Investment in the securities of financially and operationally troubled
issuers may be considered speculative and may present potential for substantial
loss. The Fund's share price may be particularly volatile and purchasers should
carefully assess the risks associated with an investment in the Fund. See "How
the Fund Invests--Investment Objective and Policies--Risks of Financially and
Operationally Troubled Issuers" at page 7. The Fund is permitted to invest more
than 35% of its net assets in defaulted securities and in low quality debt
securities having a rating of D or better as determined by Standard & Poor's
Ratings Group, C or better by Moody's Investors Service or having a comparable
rating determined by another nationally recognized securities rating
organization (NRSRO), or in unrated securities which, in the opinion of the
investment adviser, are of equivalent quality. These lower rated securities,
commonly known as "junk bonds," are subject to a greater risk of loss of
principal and interest than higher rated bonds and may carry a greater
likelihood of default during an economic downturn or recession. See "How the
Fund Invests--Investment Objective and Policies--Risk Factors Relating to
Investing in Debt Securities Rated Below Investment Grade (Junk Bonds)" at page
8. The Fund may invest in the securities of companies involved in bankruptcy
proceedings, reorganizations and financial restructurings and may have a more
active participation in the affairs of the issuer than is generally assumed by
an investor. This may subject the Fund to litigation risks or prevent the Fund
from disposing of securities. See "How the Fund Invests--Investment Objective
and Policies--Risks of Financially and Operationally Troubled Issuers" at page
7. The Fund may invest in securities of foreign issuers which involve risks not
typically associated with U.S. investments. See "How the Fund Invests--Risk
Factors Relating to Investing in Foreign Securities" at page 9. The Fund may
also engage in various hedging and return enhancement strategies involving
derivatives, including the purchase and sale of put and call options on
securities, stock indices and foreign currencies, the purchase and sale of
foreign currency exchange contracts and transactions involving futures
contracts and related options. See "How the Fund Invests--Hedging and Return
Enhancement Strategies--Risks of Hedging and Return Enhancement Strategies" at
page 18. The Fund may engage in short selling and use leverage, which entails
additional risks. See "How the Fund Invests--Investment Policies and
Techniques--Borrowing" and "--Short Sales" at pages 14 and 15. As with an
investment in any mutual fund, an investment in this Fund can decrease in value
and you can lose money.
WHO MANAGES THE FUND?
Prudential Mutual Fund Management LLC (PMF or the Manager) is the manager of
the Fund and is compensated for its services at an annual rate of .75 of 1% of
the Fund's average daily net assets. As of December 31, 1996, PMF served as
manager or administrator to 62 investment companies, including 40 mutual funds,
with aggregate assets of approximately $55.2 billion. The Prudential Investment
Corporation (PIC, the Subadviser or the investment adviser) furnishes
investment
2
<PAGE>
advisory services in connection with the management of the Fund under a
Subadvisory Agreement with PMF. See "How the Fund is Managed--Manager" at page
19.
WHO DISTRIBUTES THE FUND'S SHARES?
Prudential Securities Incorporated (Prudential Securities or PSI), a major
securities underwriter and securities and commodities broker, acts as the
Distributor of the Fund's Class A, Class B and Class C shares and is paid a
distribution and service fee with respect to Class A shares which is currently
being charged at the annual rate of .25 of 1% of the average daily net assets
of the Class A shares and is paid a distribution and service fee with respect
to Class B and Class C shares at an annual rate of 1% of the average daily net
assets of each of the Class B and Class C shares. See "How the Fund is
Managed--Distributor" at page 19.
WHAT IS THE MINIMUM INVESTMENT?
The minimum initial investment is $10,000 per class. The minimum subsequent
investment is $100 for all classes. See "Shareholder Guide--How to Buy Shares
of the Fund" at page 26.
HOW DO I PURCHASE SHARES?
You may purchase shares of the Fund through Prudential Securities, Pruco
Securities Corporation (Prusec) or directly from the Fund, through its transfer
agent, Prudential Mutual Fund Services LLC (PMFS or the Transfer Agent), at the
net asset value per share (NAV) next determined after receipt of your purchase
order by the Transfer Agent or Prudential Securities plus a sales charge which
may be imposed either (i) at the time of purchase (Class A shares) or (ii) on a
deferred basis (Class B or Class C shares). See "How the Fund Values its
Shares" at page 22 and "Shareholder Guide--How to Buy Shares of the Fund" at
page 26.
WHAT ARE MY PURCHASE ALTERNATIVES?
The Fund offers three classes of shares:
. Class A Shares: Sold with an initial sales charge of up to 5% of the
offering price.
. Class B Shares: Sold without an initial sales charge but are subject to a
contingent deferred sales charge or CDSC (declining from 5%
to zero of the lower of the amount invested or the
redemption proceeds) which will be imposed on certain
redemptions made within six years of purchase. Although
Class B shares are subject to higher ongoing distribution-
related expenses than Class A shares, Class B shares will
automatically convert to Class A shares (which are subject
to lower ongoing distribution-related expenses)
approximately seven years after purchase.
. Class C Shares: Sold without an initial sales charge but, for one year
after purchase, are subject to a CDSC of 1% on redemptions.
Like Class B shares, Class C shares are subject to higher
ongoing distribution-related expenses than Class A shares
but do not convert to another class.
See "Shareholder Guide--Alternative Purchase Plan" at page 27.
HOW DO I SELL MY SHARES?
You may redeem your shares at any time at the NAV next determined after
Prudential Securities or the Transfer Agent receives your sell order. However,
the proceeds of redemptions of Class B and Class C shares may be subject to a
CDSC. See "Shareholder Guide--How to Sell Your Shares" at page 30.
HOW ARE DIVIDENDS AND DISTRIBUTIONS PAID?
Because of the Fund's investment policies and its emphasis on financially and
operationally troubled issuers, the Fund is not likely to receive significant
dividend income on its portfolio securities. The Fund has a policy of declaring
and paying any dividends of net investment income annually and making
distributions of any net capital gains at least annually. Dividends and
distributions will be automatically reinvested in additional shares of the Fund
at NAV without a sales charge unless you request that they be paid to you in
cash. See "Taxes, Dividends and Distributions" at page 23.
3
<PAGE>
FUND EXPENSES
<TABLE>
<CAPTION>
CLASS A SHARES CLASS B SHARES CLASS C SHARES
-------------- -------------- --------------
<S> <C> <C> <C>
SHAREHOLDER TRANSACTION
EXPENSES+
Maximum Sales Load
Imposed on Purchases
(as a percentage of
offering price)....... 5% None None
Maximum Sales Load Im-
posed on Reinvested
Dividends............. None None None
Maximum Deferred Sales
Load (as a percentage
of original purchase
price or redemption
proceeds, whichever is
lower)................ None 5% during the first year, 1% on redemptions
decreasing by 1% annually to made within one
1% in the fifth and year of purchase
the sixth years and
0% in the seventh year*
Redemption Fees........ None None None
Exchange Fee........... None None None
<CAPTION>
CLASS A SHARES CLASS B SHARES CLASS C SHARES
-------------- -------------- --------------
<S> <C> <C> <C>
ANNUAL FUND OPERATING
EXPENSES**
(as a percentage of av-
erage net assets)
Management Fees........ .75% .75% .75%
12b-1 Fees (After Re-
duction)............. .25%++ 1.00% 1.00%
Other Expenses (After
Reimbursement)....... 1.76% 1.76% 1.76%
---- ---- ----
Total Fund Operating
Expenses (After Re-
duction and
Reimbursement)....... 2.76% 3.51% 3.51%
==== ==== ====
</TABLE>
<TABLE>
<CAPTION>
1 YEAR 3 YEARS
EXAMPLE ------ -------
<S> <C> <C>
You would pay the following expenses on a $1,000 investment, as-
suming (1) 5% annual return and (2) redemption at the end of
each time period:
Class A........................................................ $77 $131
Class B........................................................ $85 $138
Class C........................................................ $45 $108
You would pay the following expenses on the same investment, as-
suming no redemption:
Class A........................................................ $77 $131
Class B........................................................ $35 $108
Class C........................................................ $35 $108
</TABLE>
The above example is based on data for the Fund's fiscal period ended
November 30, 1996. The example should not be considered a representation of
past or future expenses. Actual expenses may be greater or less than those
shown.
The purpose of this table is to assist an investor in understanding the various
types of costs and expenses that an investor in the Fund will bear, whether
directly or indirectly. For more complete descriptions of the various costs and
expenses, see "How the Fund is Managed." "Other Expenses" include operating
expenses of the Fund, such as Directors' and professional fees, registration
fees, reports to shareholders and transfer agency and custodian (domestic and
foreign) fees (but exclude foreign withholding taxes).
- ------------
* Class B shares will automatically convert to Class A shares approximately
seven years after purchase. See "Shareholder Guide--Conversion Feature--
Class B Shares."
** Based on expenses incurred during the fiscal period ended November 30, 1996,
taking into account reimbursement of expenses. Absent such reimbursement of
expenses (2.06%), Other Expenses and Total Fund Operating Expenses would be
3.82% and 4.82%, respectively, of average net assets of the Fund's Class A
shares, and 3.82% and 5.57%, respectively, of the average net assets of each
of the Class B shares and Class C shares of the Fund. The Manager has agreed
to limit Total Fund Operating Expenses for the fiscal year ending November
30, 1997 so as not to exceed 2.76%, 3.51% and 3.51% of the average daily net
assets of the Class A, Class B and Class C shares of the Fund, respectively.
+ Pursuant to rules of the National Association of Securities Dealers, Inc.,
the aggregate initial sales charges, deferred sales charges and asset-based
sales charges (Rule 12b-1 fees) on shares of the Fund may not exceed 6.25%
of total gross sales, subject to certain exclusions. This 6.25% limitation
is imposed on each class of the Fund rather than on a per shareholder basis.
Therefore, long term shareholders of the Fund may pay more in total sales
charges than the economic equivalent of 6.25% of such shareholders'
investment in such shares. See "How the Fund is Managed--Distributor."
++ Although the Class A Distribution and Service Plan provides that the Fund
may pay up to an annual rate of .30 of 1% of the average daily net assets of
the Class A shares, the Distributor has agreed to limit its distribution
fees with respect to Class A shares of the Fund so as not to exceed .25 of
1% of the average daily net assets of the Class A shares for the fiscal year
ending November 30, 1997. Total Fund Operating Expenses with respect to
Class A shares would be 2.81% absent this limitation. See "How the Fund is
Managed--Distributor."
4
<PAGE>
FINANCIAL HIGHLIGHTS
(FOR A SHARE OUTSTANDING THROUGHOUT THE PERIOD INDICATED)
(CLASS A, CLASS B AND CLASS C SHARES)
The following financial highlights for Class A, Class B and Class C
shares have been audited by Deloitte & Touche LLP, independent
auditors, whose report thereon was unqualified. This information should
be read in conjunction with the financial statements and the notes
thereto, which appear in the Statement of Additional Information. The
financial highlights contain selected data for a Class A, Class B and
Class C share of common stock, respectively, outstanding, total return,
ratios to average net assets and other supplemental data for the period
indicated. The information has been determined based on data contained
in the financial statements. Further performance information is
contained in the annual report, which may be obtained without charge.
See "Shareholder Guide--Shareholder Services--Reports to Shareholders."
<TABLE>
<CAPTION>
CLASS A CLASS B CLASS C
------------ ------------ ------------
MARCH 26, MARCH 26, MARCH 26,
1996(d) 1996(d) 1996(d)
THROUGH THROUGH THROUGH
NOVEMBER 30, NOVEMBER 30, NOVEMBER 30,
1996 1996 1996
------------ ------------ ------------
<S> <C> <C> <C>
PER SHARE OPERATING PERFORMANCE:
Net asset value, beginning of
period............................ $ 12.50 $ 12.50 $ 12.50
------- ------- -------
INCOME FROM INVESTMENT OPERATIONS
Net investment income.............. .25 .16 .16
Net realized and unrealized gain
(loss) on investment transactions. (.90) (.87) (.87)
------- ------- -------
Total from investment operations.. (.65) (.71) (.71)
------- ------- -------
Net asset value, end of period..... $ 11.85 $ 11.79 $ 11.79
======= ======= =======
TOTAL RETURN(B): .................. (5.20)% (5.68)% (5.68)%
RATIOS/SUPPLEMENTAL DATA:
Net assets, end of period (000) ... $ 3,404 $ 5,387 $ 1,485
Average net assets (000) .......... $ 4,391 $ 6,650 $ 1,678
Ratios to average net assets (a):
Expenses, including distribution
fees............................ 2.76%(c) 3.51%(c) 3.51%(c)
Expenses, excluding distribution
fees............................ 2.51%(c) 2.51%(c) 2.51%(c)
Net investment income............ 2.37%(c) 1.59%(c) 1.71%(c)
Portfolio turnover................. 61% 61% 61%
Average commission rate paid per
share............................. $0.0458 $0.0458 $0.0458
</TABLE>
----------
(a)Net of expense reimbursement.
(b)Total return does not consider the effects of sales loads. Total
return is calculated assuming a purchase of shares on the first day and
a sale on the last day of each period reported and includes
reinvestment of dividends and distributions. Total returns for periods
of less than a full year are not annualized.
(c)Annualized.
(d)Commencement of investment operations.
5
<PAGE>
HOW THE FUND INVESTS
INVESTMENT OBJECTIVE AND POLICIES
THE FUND'S INVESTMENT OBJECTIVE IS CAPITAL APPRECIATION. THE FUND WILL SEEK
TO ACHIEVE ITS OBJECTIVE BY INVESTING PRIMARILY IN DEBT AND EQUITY SECURITIES
ISSUED BY COMPANIES THAT ARE IN WEAK FINANCIAL CONDITION OR BANKRUPT
(FINANCIALLY TROUBLED ISSUERS) AND IN EQUITY SECURITIES OF COMPANIES THAT MAY
BE EXPERIENCING POOR OPERATING RESULTS WHICH IN THE VIEW OF ITS INVESTMENT
ADVISER ARE CURRENTLY UNDERVALUED, OUT-OF-FAVOR OR PRICE-DEPRESSED RELATIVE TO
THEIR LONG TERM POTENTIAL FOR GROWTH AND INCOME (OPERATIONALLY TROUBLED
ISSUERS). See "Risks of Financially and Operationally Troubled Issuers" below.
Current income is not a factor in the selection of investments. The Fund will
purchase and sell put and call options on securities, stock indices and
foreign currencies, purchase and sell foreign currency exchange contracts and
engage in transactions involving futures contracts and related options to
hedge its portfolio and to attempt to enhance return. See "Hedging and Return
Enhancement Strategies" below. THERE CAN BE NO ASSURANCE THAT THE FUND'S
OBJECTIVE WILL BE ACHIEVED. See "Investment Objective and Policies" in the
Statement of Additional Information.
AS WITH AN INVESTMENT IN ANY MUTUAL FUND, AN INVESTMENT IN THIS FUND CAN
DECREASE IN VALUE AND YOU CAN LOSE MONEY.
THE FUND'S INVESTMENT OBJECTIVE IS A FUNDAMENTAL POLICY AND, THEREFORE, MAY
NOT BE CHANGED WITHOUT THE APPROVAL OF THE HOLDERS OF A MAJORITY OF THE FUND'S
OUTSTANDING VOTING SECURITIES, AS DEFINED IN THE INVESTMENT COMPANY ACT OF
1940 (INVESTMENT COMPANY ACT). INVESTMENT POLICIES THAT ARE NOT FUNDAMENTAL
MAY BE MODIFIED BY THE BOARD OF DIRECTORS.
The Fund is a vehicle for diversification and is not intended to constitute
a balanced investment program. Because of its emphasis on securities of
financially and operationally troubled issuers, the Fund should be considered
speculative and subject to greater investment risks than are assumed by other
investment companies.
Under normal circumstances, the Fund will invest at least 65% of its total
assets in debt and equity securities of financially and operationally troubled
issuers (i.e., distressed securities), including defaulted securities and junk
bonds. The Fund has not established any percentage limitations with respect to
the allocation of investments between debt and equity securities. The
allocation of assets between debt and equity securities will be determined by
the investment adviser. With respect to the remainder of its assets, the Fund
may (i) invest in money market instruments, (ii) purchase and write (i.e.,
sell) put and call options on debt and equity securities, stock indices and
foreign currencies, (iii) purchase and sell foreign currency exchange
contracts, (iv) purchase and sell futures contracts and options thereon
(including stock index futures, futures contracts on U.S. Government
securities, foreign currencies and indices and options thereon) and (v) enter
into repurchase agreements. In addition, the Fund may (a) lend its securities,
(b) make short sales, (c) purchase and sell securities on a when-issued or
delayed delivery basis and (d) borrow money, in all instances subject to the
limitations described below under "Investment Policies and Techniques" and in
the Statement of Additional Information. See "Investment Objective and
Policies" and "Investment Restrictions" in the Statement of Additional
Information. For temporary defensive purposes, the Fund may hold up to 100% of
its assets in cash, high quality money market instruments and U.S. Treasury
securities. The Fund may also temporarily hold cash, high quality money market
instruments and U.S. Treasury securities pending investment of proceeds from
new sales of Fund shares or to meet ordinary daily cash needs. See "Investment
Policies and Techniques--Money Market Instruments" below.
SECURITIES OF FINANCIALLY AND OPERATIONALLY TROUBLED ISSUERS
Financially troubled issuers include domestic or foreign companies or
institutions in weak financial condition, companies having negative net worth
or substantial capital needs and companies involved in bankruptcy or
reorganization proceedings
6
<PAGE>
or financial restructurings. Operationally troubled issuers are companies
experiencing poor operating results that may have no earnings or severely
depressed earnings or have special competitive or product obsolescence
problems.
The Fund will invest in a wide variety of debt and equity securities
involving financially or operationally troubled companies in the belief that
these companies (and their securities) will react positively to changing
economic conditions or that management will take actions designed to overcome
adversity, such as the restructuring of current business operations. The Fund
may invest in loans and participations (both secured and unsecured) made to
financially troubled companies by banks, insurance companies and Government
institutions such as the Federal Deposit Insurance Corporation or the Pension
Benefit Guaranty Corporation. The Fund may also invest in fixed-income
securities issued by states, municipalities, local governments and their
agencies and authorities, which pay interest which is exempt from federal
income taxation. In addition, the Fund may invest in mortgage-backed
securities. Equity securities in which the Fund may invest include common and
preferred stocks, as well as equity-related securities such as warrants and
debt securities or preferred stocks which are convertible or exchangeable for
common stock or preferred stock. The Fund may invest up to 30% of its total
assets in equity and fixed-income securities of foreign issuers denominated in
U.S. dollars or foreign currencies. American and global depositary receipts
are not included in this 30% limitation. See "Risks of Financially and
Operationally Troubled Issuers" and "Investment Policies and Techniques" below
and "Investment Objective and Policies" in the Statement of Additional
Information.
The Fund is permitted to invest in defaulted securities and in low quality
debt securities having a rating of D or better as determined by Standard &
Poor's Ratings Group (S&P), C or better by Moody's Investors Service (Moody's)
or having a comparable rating determined by another nationally recognized
statistical rating organization (NRSRO), or in unrated securities which, in
the opinion of the investment adviser, are of equivalent quality. These lower
rated securities are commonly known as "junk bonds." See "Risk Factors
Relating to Investing in Debt Securities Rated Below Investment Grade (Junk
Bonds)" below and the "Description of Security Ratings" in the Appendix.
The Subadviser maintains a credit unit which the Fund's portfolio managers
may consult in managing the Fund's portfolio and in researching financially
troubled and operationally troubled issuers. The Fund's portfolio managers
review on an ongoing basis financially troubled and operationally troubled
issuers, including prospective purchases and portfolio holdings of the Fund.
They have broad access to research and financial reports, data retrieval
services and industry analysts.
RISKS OF FINANCIALLY AND OPERATIONALLY TROUBLED ISSUERS
INVESTMENT IN THE SECURITIES OF FINANCIALLY AND OPERATIONALLY TROUBLED
ISSUERS INVOLVES A HIGH DEGREE OF CREDIT AND MARKET RISK. See "Risk Factors
Relating to Investing in Debt Securities Rated Below Investment Grade (Junk
Bonds)" below. Although the Fund will invest in select companies which in the
view of its investment adviser have the potential over the long term for
capital growth, there can be no assurance that such financially or
operationally troubled companies can be successfully transformed into
profitable operating companies. There is a possibility that the Fund may incur
substantial or total losses on its investments. DURING AN ECONOMIC DOWNTURN OR
RECESSION, SECURITIES OF FINANCIALLY TROUBLED ISSUERS ARE MORE LIKELY TO GO
INTO DEFAULT THAN SECURITIES OF OTHER ISSUERS. In addition, it may be
difficult to obtain information about financially and operationally troubled
issuers.
INVESTMENT IN THE SECURITIES OF FINANCIALLY AND OPERATIONALLY TROUBLED
ISSUERS IS A LONG-TERM INVESTMENT STRATEGY AND, ACCORDINGLY, INVESTORS IN THE
FUND SHOULD HAVE THE FINANCIAL ABILITY AND WILLINGNESS TO REMAIN INVESTED FOR
THE LONG TERM. SECURITIES OF FINANCIALLY TROUBLED ISSUERS ARE LESS LIQUID AND
MORE VOLATILE THAN SECURITIES OF COMPANIES NOT EXPERIENCING FINANCIAL
DIFFICULTIES. THE MARKET PRICES OF SUCH SECURITIES ARE SUBJECT TO ERRATIC AND
ABRUPT MARKET MOVEMENTS AND THE SPREAD BETWEEN BID AND ASKED PRICES MAY BE
GREATER THAN NORMALLY EXPECTED. IN ADDITION, IT IS
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ANTICIPATED THAT MANY OF THE FUND'S PORTFOLIO INVESTMENTS MAY NOT BE WIDELY
TRADED AND THAT THE FUND'S POSITION IN SUCH SECURITIES MAY BE SUBSTANTIAL
RELATIVE TO THE MARKET FOR SUCH SECURITIES. AS A RESULT, THE FUND MAY
EXPERIENCE DELAYS AND INCUR LOSSES AND OTHER COSTS IN CONNECTION WITH THE SALE
OF ITS PORTFOLIO SECURITIES.
The Fund may invest in the securities of companies involved in bankruptcy
proceedings, reorganizations and financial restructurings and may have a more
active participation in the affairs of the issuer than is generally assumed by
an investor. This may subject the Fund to litigation risks or prevent the Fund
from disposing of securities. In a bankruptcy or other proceeding, the Fund as
a creditor may be unable to enforce its rights in any collateral or may have
its security interest in any collateral challenged, disallowed or subordinated
to the claims of other creditors. While the Fund will attempt to avoid taking
the types of actions that would lead to equitable subordination or creditor
liability, there can be no assurance that such claims will not be asserted or
that the Fund will be able to successfully defend against them. Because
(unlike the Fund) other investors may purchase the securities of these
companies for the purpose of exercising control or management, the Fund may be
at a disadvantage to the extent that the Fund's interests differ from the
interests of these other investors. See "Investment Objective and Policies--
Securities of Financially and Operationally Troubled Issuers--Bankruptcy and
Other Proceedings--Litigation Risks" in the Statement of Additional
Information.
RISK FACTORS RELATING TO INVESTING IN DEBT SECURITIES RATED BELOW INVESTMENT
GRADE (JUNK BONDS)
Fixed-income securities are subject to the risk of an issuer's inability to
meet principal and interest payments on the obligations (credit risk) and may
also be subject to price volatility due to such factors as interest rate
sensitivity, market perception of the creditworthiness of the issuer and
general market liquidity (market risk). Lower rated or unrated (i.e., high
yield or high risk) securities (commonly referred to as junk bonds) are more
likely to react to developments affecting market and credit risk than are more
highly rated securities, which react primarily to movements in the general
level of interest rates. The investment adviser considers both credit risk and
market risk in making investment decisions for the Fund.
Under adverse economic conditions, there is a risk that highly leveraged
issuers may be unable to service their debt obligations or to repay their
obligations upon maturity. During an economic downturn or recession,
securities of highly leveraged issuers are more likely to default than
securities of higher rated issuers. In addition, the secondary market for high
yield securities, which is concentrated in relatively few market makers, may
not be as liquid as the secondary market for more highly rated securities.
Under adverse market or economic conditions, the secondary market for high
yield securities could contract further, independent of any specific adverse
changes in the condition of a particular issuer. As a result, the investment
adviser could find it more difficult to sell these securities or may be able
to sell the securities only at prices lower than if such securities were
widely traded. Prices realized upon the sale of such lower rated or unrated
securities, under these circumstances, may be less than the prices in
calculating the Fund's net asset value. Lower rated or unrated debt
obligations also present risks based on payment expectations. The Fund may
invest more than 35% of its assets in lower rated fixed-income securities,
including securities having the lowest ratings assigned by nationally
recognized statistical ratings organizations or no rating but judged by the
Subadviser to be of comparable quality. Such investments involve a high degree
of risk and are predominantly speculative.
Debt rated BB, B, CCC, CC and C by S&P, and debt rated Ba, B, Caa, Ca and C
by Moody's is regarded by the rating agency, on balance, as predominantly
speculative with respect to the issuer's capacity to pay interest and repay
principal in accordance with the terms of the obligation. BB/Ba indicates the
lowest degree of speculation and D/C the highest degree of speculation. While
such debt will likely have some quality and protective characteristics, these
are outweighed by large uncertainties or major risk exposures to adverse
conditions. Similarly, debt rated Ba or BB and below is regarded by the
relevant rating agency as speculative. Debt rated C by S&P is the lowest rated
debt that is not in default as to principal or interest and such issues so
rated can be regarded as having extremely poor prospects of ever attaining any
real investment standing. Such securities are also generally considered to be
subject to greater risk than securities with higher ratings with
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regard to a deterioration of general economic conditions. Debt rated D by S&P
is in payment default. Moody's does not have a D rating. See the "Description
of Security Ratings" in the Appendix.
Ratings of fixed-income securities represent the rating agency's opinion
regarding their credit quality and are not a guarantee of quality. Rating
agencies attempt to evaluate the safety of principal and interest payments and
do not evaluate the risks of fluctuations in market value. Also, rating
agencies may fail to make timely changes in credit ratings in response to
subsequent events, so that an issuer's current financial condition may be
better or worse than a rating indicates.
RISK FACTORS RELATING TO INVESTING IN FOREIGN SECURITIES
FOREIGN SECURITIES INVOLVE CERTAIN RISKS, WHICH SHOULD BE CONSIDERED
CAREFULLY BY AN INVESTOR IN THE FUND. THESE RISKS INCLUDE POLITICAL OR
ECONOMIC INSTABILITY IN THE COUNTRY OF THE ISSUER, THE DIFFICULTY OF
PREDICTING INTERNATIONAL TRADE PATTERNS, THE POSSIBILITY OF IMPOSITION OF
EXCHANGE CONTROLS AND THE RISK OF CURRENCY FLUCTUATIONS. Such securities may
be subject to greater fluctuations in price than securities issued by U.S.
corporations or issued or guaranteed by the U.S. Government, its
instrumentalities or agencies. In addition, there may be less publicly
available information about a foreign company or government than about a
domestic company or the U.S. Government. Foreign companies generally are not
subject to uniform accounting, auditing and financial reporting standards
comparable to those applicable to domestic companies. There is generally less
government regulation of securities exchanges, brokers and listed companies
abroad than in the United States and there is a possibility of expropriation,
confiscatory taxation or diplomatic developments which could affect
investment. In many instances, foreign debt securities may provide higher
yields than securities of domestic issuers which have similar maturities and
quality. These investments, however, may be less liquid than the securities of
U.S. corporations. In the event of default of any such foreign debt
obligations, it may be more difficult for the Fund to obtain or enforce a
judgment against the issuers of such securities.
INVESTING IN THE EQUITY AND FIXED-INCOME MARKETS OF DEVELOPING COUNTRIES
INVOLVES EXPOSURE TO ECONOMIES THAT ARE GENERALLY LESS DIVERSE AND MATURE AND
TO POLITICAL SYSTEMS WHICH CAN BE EXPECTED TO HAVE LESS STABILITY THAN THOSE
OF DEVELOPED COUNTRIES. HISTORICAL EXPERIENCE INDICATES THAT THE MARKETS OF
DEVELOPING COUNTRIES HAVE BEEN MORE VOLATILE THAN THE MARKETS OF DEVELOPED
COUNTRIES. THE RISKS ASSOCIATED WITH INVESTMENTS IN FOREIGN SECURITIES MAY BE
GREATER WITH RESPECT TO INVESTMENTS IN DEVELOPING COUNTRIES AND ARE CERTAINLY
GREATER WITH RESPECT TO INVESTMENTS IN THE SECURITIES OF FINANCIALLY AND
OPERATIONALLY TROUBLED ISSUERS.
ADDITIONAL COSTS COULD BE INCURRED IN CONNECTION WITH THE FUND'S
INTERNATIONAL INVESTMENT ACTIVITIES. Foreign brokerage commissions are
generally higher than United States brokerage commissions. Increased custodian
costs as well as administrative difficulties (such as the applicability of
foreign laws to foreign custodians in various circumstances) may be associated
with the maintenance of assets in foreign jurisdictions.
If the security is denominated in a foreign currency, it will be affected by
changes in currency exchange rates and in exchange control regulations, and
costs will be incurred in connection with conversions between currencies. A
change in the value of any such currency against the U.S. dollar will result
in a corresponding change in the U.S. dollar value of the Fund's securities
denominated in that currency. Such changes also will affect the Fund's income
and distributions to shareholders. In addition, although the Fund will receive
income in such currencies, the Fund will be required to compute and distribute
its income in U.S. dollars. Therefore, if the exchange rate for any such
currency declines after the Fund's income has been accrued and translated into
U.S. dollars, the Fund could be required to liquidate portfolio securities to
make such distributions, particularly in instances in which the amount of
income the Fund is required to distribute is not immediately reduced by the
decline in such currency. Similarly, if an exchange rate declines between the
time the Fund incurs expenses in U.S. dollars and the time such expenses are
paid, the amount of such currency required to be converted into U.S. dollars
in order to pay such expenses in U.S. dollars will be greater than the
equivalent amount in any such currency of such expenses at the time they were
incurred.
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The Fund may, but need not, enter into forward foreign currency exchange
contracts, options on foreign currencies and futures contracts on foreign
currencies and related options, for hedging purposes, including: locking-in
the U.S. dollar price of the purchase or sale of securities denominated in a
foreign currency; locking-in the U.S. dollar equivalent of dividends to be
paid on such securities which are held by the Fund; and protecting the U.S.
dollar value of such securities which are held by the Fund.
INVESTMENT POLICIES AND TECHNIQUES
CORPORATE AND OTHER DEBT OBLIGATIONS
The Fund may invest in corporate and other debt obligations including
convertible securities of domestic and foreign issuers. Issuers are not
limited to the corporate form of organization. Bonds and other debt securities
are used by issuers to borrow money from investors. The issuer pays the
investor a fixed or variable rate of interest and must repay the amount
borrowed at maturity. Some debt securities, such as zero coupon bonds, do not
pay current interest but are purchased at a discount from their face values.
The discount approximates the total amount of interest the security will
accrue and compound over the period until maturity of the particular interest
payment date at a rate of interest reflecting the market rate of the security
at the time of issuance. Zero coupon securities do not require the periodic
payment of interest. These investments benefit the issuer by mitigating its
need for cash to meet debt service but also require a higher rate of return to
attract investors who are willing to defer receipt of cash.
Pay-in-kind securities have their interest payable upon maturity by delivery
of additional securities. Deferred payment securities are securities that
remain a zero coupon security until a predetermined date, at which time the
stated coupon rate becomes effective and interest becomes payable at regular
intervals. Certain debt securities are subject to call provisions. Zero
coupon, pay-in-kind and deferred payment securities may be subject to greater
fluctuation in value and lesser liquidity in the event of adverse market
conditions than comparable rated securities paying cash interest at regular
payment periods. See "Investment Objective and Policies--Zero Coupon, Pay-in-
Kind or Deferred Payment Securities" in the Statement of Additional
Information.
The Fund is permitted to invest in defaulted securities and in low quality
debt securities or in unrated securities which, in the opinion of the
investment adviser, are of equivalent quality. See "Securities of Financially
and Operationally Troubled Issuers" and "Risk Factors Relating to Investing in
Debt Securities Rated Below Investment Grade (Junk Bonds)" above and the
"Description of Security Ratings" in the Appendix. Lower rated securities are
subject to a greater risk of loss of principal and interest than are higher
rated securities. See "Risks Factors Relating to Investing in Debt Securities
Rated Below Investment Grade (Junk Bonds)" above.
CONVERTIBLE SECURITIES
A CONVERTIBLE SECURITY IS TYPICALLY A CORPORATE BOND OR PREFERRED STOCK THAT
MAY BE CONVERTED AT A STATED PRICE WITHIN A SPECIFIED PERIOD OF TIME INTO A
SPECIFIED NUMBER OF SHARES OF COMMON STOCK OF THE SAME OR A DIFFERENT ISSUER.
Convertible securities are generally senior to common stocks in a
corporation's capital structure, but are usually subordinated to similar
nonconvertible securities. While providing a fixed income stream (generally
higher in yield than the income derivable from a common stock but lower than
that afforded by a similar nonconvertible security), a convertible security
also affords an investor the opportunity, through its conversion feature, to
participate in the capital appreciation attendant upon a market price advance
in the convertible security's underlying common stock. Convertible securities
also include preferred stocks which technically are equity securities.
In general, the market value of a convertible security is at least the
higher of its "investment value" (i.e., its value as a fixed-income security)
or its "conversion value" (i.e., its value upon conversion into its underlying
common stock). As a
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fixed-income security, a convertible security tends to increase in market
value when interest rates decline and tends to decrease in value when interest
rates rise. However, the price of a convertible security is also influenced by
the market value of the security's underlying common stock. The price of a
convertible security tends to increase as the market value of the underlying
stock rises, whereas it tends to decrease as the market value of the
underlying stock declines. While no securities investment is without some
risk, investments in convertible securities generally entail less risk than
investments in the common stock of the same issuer.
TRADE CLAIMS
The Fund may invest in trade claims, which are non-securitized rights of
payment arising from obligations other than borrowed funds. Trade claims
typically arise when, in the ordinary course of business, vendors and
suppliers extend credit to a company by offering payment terms. Generally,
when a company files for bankruptcy protection, payments on trade claims cease
and the claims are subject to compromise along with the other debts of the
company. Trade claims typically are bought and sold at a discount reflecting
the degree of uncertainty with respect to the timing and extent of recovery.
In addition to the risks otherwise associated with low-quality obligations,
trade claims have other risks, including (i) the possibility that the amount
of the claim may be disputed by the obligor, (ii) the debtor may have a
variety of defenses to assert against the claim under the bankruptcy code, and
(iii) volatile pricing due to a less liquid market, including a small number
of brokers for trade claims and a small universe of potential buyers. It is
not unusual for trade claims to be priced at a discount to publicly traded
securities that have an equal or lower priority claim. Additionally, trade
claims may be treated as non-securities investments. As a result, any gains
may be considered "non-qualifying" under the Internal Revenue Code. See
"Taxes" in the Statement of Additional Information.
MORTGAGE-BACKED SECURITIES
Mortgage-backed securities are securities that directly or indirectly
represent a participation in, or are secured by and payable from, mortgage
loans secured by real property. There are currently three basic types of
mortgage-backed securities: (i) those issued or guaranteed by the U.S.
Government or one of its agencies or instrumentalities, such as the Government
National Mortgage Association (GNMA), Federal National Mortgage Association
(FNMA) and Federal Home Loan Mortgage Corporation (FHLMC); (ii) those issued
by private issuers that represent an interest in or are collateralized by
mortgage-backed securities issued or guaranteed by the U.S. Government or one
of its agencies or instrumentalities; and (iii) those issued by private
issuers that represent an interest in or are collateralized by whole mortgage
loans or mortgage-backed securities without a Government guarantee but usually
having some form of private credit enhancement.
Mortgage-backed securities are subject to the risk that the principal on the
underlying mortgage loans may be prepaid at any time. Although the extent of
prepayments on a pool of mortgage loans depends on various economic and other
factors, as a general rule prepayments on fixed rate mortgage loans will
increase during a period of falling interest rates and decrease during a
period of rising interest rates. Accordingly, amounts available for
reinvestment by the Fund are likely to be greater during a period of declining
interest rates and, as a result, likely to be reinvested at lower interest
rates than during a period of rising interest rates. Mortgage-backed
securities may decrease in value as a result of increases in interest rates
and may benefit less than other fixed-income securities from declining
interest rates because of the risk of prepayment.
MULTI-CLASS PASS-THROUGH SECURITIES AND COLLATERALIZED MORTGAGE OBLIGATIONS.
A collateralized mortgage obligation (CMO) is a security issued by a
corporation or U.S. Government agency or instrumentality which is backed by a
portfolio of mortgages or mortgage-backed securities. The issuer's obligation
to make interest and principal payments is secured by the underlying portfolio
of mortgages or mortgage-backed securities. Multi-class pass-through
securities are equity interests in a trust composed of mortgages or mortgage-
backed securities. Payments of principal and interest on the underlying
mortgage assets, and any reinvestment income thereon, provide the funds to pay
debt service on the CMOs or make
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scheduled distributions on the multi-class pass-through securities. CMOs may be
issued by agencies or instrumentalities of the U.S. Government, or by private
originators of, or investors in, mortgage loans, including depository
institutions, mortgage banks, investment banks and special purpose subsidiaries
of the foregoing. The issuer of a series of CMOs may elect to be treated as a
Real Estate Mortgage Investment Conduit (REMIC). All future references to CMOs
include REMICs.
In a CMO, a series of bonds or certificates is issued in multiple classes.
Each class of CMOs, often referred to as a "tranche," is issued at a specific
fixed or floating coupon rate and has a stated maturity or final distribution
date. Principal prepayments on the underlying mortgage assets may cause the
CMOs to be retired substantially earlier than their stated maturities or final
distribution dates. Interest is paid or accrues on all classes of the CMOs on a
monthly, quarterly or semi-annual basis. The principal of and interest on the
underlying mortgage assets may be allocated among the several classes of a CMO
series in a number of different ways. Generally, the purpose of the allocation
of the cash flow of a CMO to the various classes is to obtain a more
predictable cash flow to the individual tranches than exists with the
underlying collateral of the CMO. As a general rule, the more predictable the
cash flow is on a CMO tranche, the lower the anticipated yield will be on that
tranche at the time of issuance relative to prevailing market yields on
mortgage-backed securities.
ASSET-BACKED SECURITIES
The Fund may invest in asset-backed securities. Through the use of trusts and
special purpose corporations, various types of assets, primarily automobile and
credit card receivables and home equity loans, have been securitized in pass-
through structures similar to the mortgage pass-through structures or in a pay-
through structure similar to the CMO structure. The Fund may invest in these
and other types of asset-backed securities that may be developed in the future.
Unlike mortgage-backed securities, asset-backed securities do not have the
benefit of a security interest in the related collateral. Credit card
receivables, for example, are generally unsecured and the debtors are entitled
to the protection of a number of state and federal consumer credit laws, some
of which may reduce the ability to obtain full payment. In the case of
automobile receivables, the security interests in the underlying automobiles
are often not transferred when the pool is created, with the resulting
possibility that the collateral could be resold. In general, these types of
loans are of shorter average life than mortgage loans and are less likely to
have substantial prepayments. In many instances, asset-backed securities are
over-collateralized to ensure the relative stability of their credit quality.
LOAN PARTICIPATIONS AND ASSIGNMENTS
The Fund may invest in fixed and floating rate loans (Loans) arranged through
private negotiations between a corporate borrower and one or more financial
institutions (Lenders). The Fund may invest in such Loans generally in the form
of participations in Loans (Participations) and assignments of all or a portion
of Loans from third parties (Assignments). The Fund may acquire Participations
and Assignments which are high yield, non-convertible corporate debt securities
of varying maturities. Participations typically will result in the Fund having
a contractual relationship only with the Lender, not with the borrower. The
Fund will have the right to receive payments of principal, interest and any
fees to which it is entitled only from the Lender selling the Participation and
only upon receipt by the Lender of the payments from the borrower. In
connection with purchasing Participations, the Fund generally will have no
right to enforce compliance by the borrower with the terms of the loan
agreement relating to the Loan, nor any rights of set-off against the borrower,
and the Fund may not benefit directly from any collateral supporting the Loan
in which it has purchased the Participation. As a result, the Fund will assume
the credit risk of both the borrower and the Lender that is selling the
Participation. In the event of the insolvency of the Lender selling a
Participation, the Fund may be treated as a general creditor of the Lender and
may not benefit from any set-off between the Lender and the borrower. When the
Fund purchases Assignments from Lenders, the Fund will acquire direct rights
against the borrower on the Loan, except that under certain circumstances such
rights may be more limited than those held by the assigning Lender.
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The Fund may have difficulty disposing of Assignments and Participations.
Because the market for such instruments is not highly liquid, the Fund
anticipates that such instruments could be sold only to a limited number of
institutional investors. The lack of a highly liquid secondary market may have
an adverse impact on the value of such instruments and will have an adverse
impact on the Fund's ability to dispose of particular Assignments or
Participations in response to a specific economic event, such as deterioration
in the creditworthiness of the borrower.
MUNICIPAL SECURITIES
The Fund may invest in municipal bonds, including general obligation and
revenue bonds. General obligation bonds are secured by the issuer's pledge of
its faith, credit and taxing power for the payment of principal and interest,
whereas revenue bonds are payable only from the revenues derived from a
particular facility or class of facilities or, in some cases, from the proceeds
of a special excise or other specific revenue source. In the case of municipal
lease obligations, where interest and principal are payable out of lease
payments made by the party leasing the facilities financed by the issue, there
is a risk that the municipality will not appropriate funds for the lease
payments. The Fund may also invest in municipal notes including tax, revenue
and bond anticipation notes which are issued to obtain funds for various public
purposes. See "Investment Objective and Policies--Corporate and Other Debt
Obligations--Municipal Securities" in the Statement of Additional Information.
FOREIGN SECURITIES
The Fund may invest up to 30% of its total assets in equity and fixed-income
securities of foreign issuers denominated in U.S. dollars or foreign
currencies. American and global depositary receipts are not included in this
30% limitation. American Depositary Receipts (ADRs), European Depositary
Receipts (EDRs), Global Depositary Receipts (GDRs) and other types of
depositary receipts evidence ownership of underlying securities issued by a
foreign corporation that have been deposited with a depositary or custodian
bank, typically a U.S. bank or trust company. Depositary receipts may be issued
in connection with an offering of securities by the issuer of the underlying
securities or issued by a depositary bank as a vehicle to promote investment
and trading in the underlying securities. While depositary receipts may not
necessarily be denominated in the same currency as the underlying securities,
the risks associated with foreign securities also generally apply to depositary
receipts. See "Risk Factors Relating to Investing in Foreign Securities" above.
FOREIGN GOVERNMENT SECURITIES. Foreign government securities include debt
securities issued or guaranteed, as to payment of principal and interest, by
governments, quasi-governmental entities, governmental agencies, supranational
entities and other governmental entities (collectively, Government Entities)
denominated in U.S. dollars or foreign currencies. A "supranational entity" is
an entity constituted by the national governments of several countries to
promote economic development. Examples of such supranational entities include,
among others, the World Bank (International Bank for Reconstruction and
Development), the European Investment Bank and the Asian Development Bank. Debt
securities of "quasi-governmental entities" are issued by entities owned by a
national, state, or equivalent government or are obligations of a political
unit that are not backed by the national government's "full faith and credit"
and general taxing powers. Examples of quasi-governmental entities include,
among others, the Province of Ontario and the City of Stockholm. Foreign
government securities also include mortgage-backed securities issued by
Government Entities.
MONEY MARKET INSTRUMENTS
The Fund may invest in high quality money market instruments, including
commercial paper of a U.S. or non-U.S. company, foreign government securities,
certificates of deposit, bankers' acceptances and time deposits of domestic and
foreign banks, and obligations issued or guaranteed by the U.S. Government, its
agencies and instrumentalities. These obligations will be U.S. dollar-
denominated or denominated in a foreign currency. Consistent with its
investment objective and policies, the Fund will also invest in lower quality
money market instruments of financially or operationally troubled issuers, such
as commercial paper. Money market instruments typically have a maturity of
thirteen months or less as measured from the date of purchase.
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REPURCHASE AGREEMENTS
The Fund will enter into repurchase agreements whereby the seller of the
security agrees to repurchase that security from the Fund at a mutually agreed-
upon time and price. The repurchase date is usually within a day or two of the
original purchase, although it may extend over a number of months. The Fund's
repurchase agreements will at all times be fully collateralized in an amount at
least equal to the resale price. In the event of a default or bankruptcy by a
seller, the Fund will promptly seek to liquidate the collateral. To the extent
that the proceeds from any sale of such collateral upon a default in the
obligation to repurchase are less than the repurchase price, the Fund will
suffer a loss. The Fund participates in a joint repurchase account with other
investment companies managed by PMF pursuant to an order of the SEC. See
"Investment Objective and Policies--Repurchase Agreements" in the Statement of
Additional Information.
SECURITIES LENDING
The Fund may lend its portfolio securities to brokers or dealers, banks or
other recognized institutional borrowers of securities, provided that the
borrower at all times maintains cash or other liquid assets or secures an
irrevocable letter of credit in favor of the Fund in an amount equal to at
least 100%, determined daily, of the market value of the securities loaned
which is maintained in a segregated account pursuant to applicable regulations.
During the time portfolio securities are on loan, the borrower will pay the
Fund an amount equivalent to any dividend or interest paid on such securities
and the Fund may invest the cash collateral and earn additional income, or it
may receive an agreed-upon amount of interest income from the borrower. As with
any extensions of credit, there are risks of delay in recovery and in some
cases loss of rights in the collateral should the borrower of the securities
fail financially. As a matter of fundamental policy, the Fund cannot lend more
than 30% of the value of its total assets. See "Investment Objective and
Policies--Lending of Securities" in the Statement of Additional Information.
The Fund may pay reasonable administration and custodial fees in connection
with a loan.
BORROWING
The Fund may borrow an amount equal to no more than 33-1/3% of the value of
its total assets (calculated at the time of the borrowing) from banks for
temporary, extraordinary or emergency purposes, for the clearance of
transactions or for investment purposes. The Fund may pledge up to 33-1/3% of
its total assets to secure these borrowings. If the Fund's asset coverage for
borrowings falls below 300%, the Fund will take prompt action to reduce its
borrowings. If the 300% asset coverage should decline as a result of market
fluctuations or other reasons, the Fund may be required to sell portfolio
securities to reduce the debt and restore the 300% asset coverage, even though
it may be disadvantageous from an investment standpoint to sell securities at
that time. Such liquidations could cause the Fund to realize gains on
securities held for less than three months. Because no more than 30% of the
Fund's gross income may be derived from the sale or disposition of securities
held for less than three months to maintain the Fund's status as a regulated
investment company under the Internal Revenue Code, such gains would limit the
ability of the Fund to sell other securities held for less than three months
that the Fund might wish to sell. See "Taxes" in the Statement of Additional
Information.
Borrowing for investment purposes is generally known as "leveraging."
Leveraging exaggerates the effect on net asset value of any increase or
decrease in the market value of the Fund's portfolio. Money borrowed for
leveraging will be subject to interest costs which may or may not be recovered
by appreciation of the securities purchased and may exceed the income from the
securities purchased. In addition, the Fund may be required to maintain minimum
average balances in connection with such borrowing or pay a commitment fee to
maintain a line of credit which would increase the cost of borrowing over the
stated interest rate.
ILLIQUID SECURITIES
The Fund may hold up to 15% of its net assets in illiquid securities,
including repurchase agreements which have a maturity of longer than seven
days, securities with legal or contractual restrictions on resale (restricted
securities) and securities that are not readily marketable in securities
markets either within or outside of the United States. Restricted
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securities eligible for resale pursuant to Rule 144A under the Securities Act
of 1933, as amended (the Securities Act), privately placed commercial paper and
municipal lease obligations that have a readily available market are not
considered illiquid for purposes of this limitation. The investment adviser
will monitor the liquidity of such restricted securities under the supervision
of the Board of Directors. Investing in Rule 144A securities could have the
effect of increasing the level of Fund illiquidity to the extent that qualified
institutional buyers become, for a limited time, uninterested in purchasing
these securities. Repurchase agreements subject to demand are deemed to have a
maturity equal to the applicable notice period.
Securities of financially and operationally troubled issuers are less liquid
and more volatile than securities of companies not experiencing financial
difficulties. Many of the Fund's portfolio investments may not be widely
traded. Accordingly, the Fund may have to sell portfolio securities at
disadvantageous times and at disadvantageous prices in order to maintain no
more than 15% of its net assets in illiquid securities. This could have an
adverse impact on the Fund's performance. See "Investment Objective and
Policies--Illiquid Securities" in the Statement of Additional Information.
PORTFOLIO TURNOVER
As a result of the Fund's investment policies, its portfolio turnover rate
may exceed 100%, although the rate is not expected to exceed 150%. High
portfolio turnover (over 100%) may involve correspondingly greater brokerage
commissions and other transaction costs, which will be borne directly by the
Fund. See "Portfolio Transactions and Brokerage" in the Statement of Additional
Information. In addition, high portfolio turnover may result in increased
short-term capital gains which, when distributed to shareholders, are treated
as ordinary income. See "Taxes, Dividends and Distributions."
WHEN-ISSUED AND DELAYED DELIVERY SECURITIES
The Fund may purchase or sell securities on a when-issued or delayed delivery
basis. When-issued or delayed delivery transactions arise when securities are
purchased or sold by the Fund with payment and delivery taking place a month or
more in the future in order to secure what is considered to be an advantageous
price and yield to the Fund at the time of entering into the transaction. While
the Fund will only purchase securities on a when-issued or delayed delivery
basis with the intention of acquiring the securities, the Fund may sell the
securities before the settlement date, if it is deemed advisable. At the time
the Fund makes the commitment to purchase securities on a when-issued or
delayed delivery basis, the Fund will record the transaction and thereafter
reflect the value, each day, of such security in determining the net asset
value of the Fund. At the time of delivery of the securities, the value may be
more or less than the purchase price. The Fund's Custodian will maintain, in a
segregated account of the Fund, cash, U.S. Government securities, equity
securities or other liquid, unencumbered assets, marked-to-market daily, having
a value equal to or greater than the Fund's purchase commitments. Subject to
this requirement, the Fund may purchase securities on such basis without limit.
See "Investment Objective and Policies--When-Issued and Delayed Delivery
Securities" in the Statement of Additional Information.
SHORT SALES
The Fund may sell a security it does not own in anticipation of a decline in
the market value of that security (short sales). To complete the transaction,
the Fund will borrow the security to make delivery to the buyer. The Fund is
then obligated to replace the security borrowed by purchasing it at the market
price at the time of replacement. The price at such time may be more or less
than the price at which the security was sold by the Fund. Until the security
is replaced, the Fund is required to pay to the lender any dividends or
interest which accrue during the period of the loan. To borrow the security,
the Fund may be required to pay a premium which would increase the cost of the
security sold. The proceeds of the short sale will be retained by the broker to
the extent necessary to meet margin requirements until the short position is
closed out. Until the Fund replaces the borrowed security, it will (a) maintain
in a segregated account cash, U.S. Government securities, equity securities or
other liquid, unencumbered assets, marked-to-market daily, at such a level that
the amount deposited in the
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account plus the amount deposited with the broker as collateral will equal the
current value of the security sold short and will not be less than the market
value of the security at the time it was sold short or (b) otherwise cover its
short position through a short sale "against-the-box," which is a short sale in
which the Fund owns an equal amount of the securities sold short or securities
convertible into or exchangeable for, without payment of any further
consideration, securities of the same issue as, and equal in amount to, the
securities sold short. The value of securities of any one issuer in which the
Fund is short may not exceed the lesser of 2% of the value of the Fund's net
assets or 2% of the securities of any class of any issuer.
The Fund will incur a loss as a result of the short sale if the price of the
security increases between the date of the short sale and the date on which the
Fund replaces the borrowed security. The Fund will realize a gain if the
security declines in price between those dates. The amount of any gain will be
decreased, and the amount of any loss will be increased, by the amount of any
premium, dividends or interest paid in connection with the short sale.
HEDGING AND RETURN ENHANCEMENT STRATEGIES
THE FUND MAY ALSO ENGAGE IN VARIOUS PORTFOLIO STRATEGIES, INCLUDING USING
DERIVATIVES, TO REDUCE CERTAIN RISKS OF ITS INVESTMENTS AND TO ATTEMPT TO
ENHANCE RETURN. THE FUND, AND THUS THE INVESTOR, MAY LOSE MONEY THROUGH ANY
UNSUCCESSFUL USE OF THESE STRATEGIES. These strategies currently include the
use of options, forward currency exchange contracts and futures contracts and
options thereon. The Fund's ability to use these strategies may be limited by
market conditions, regulatory limits and tax considerations and there can be no
assurance that any of these strategies will succeed. See "Investment Objective
and Policies" and "Taxes" in the Statement of Additional Information. New
financial products and risk management techniques continue to be developed and
the Fund may use these new investments and techniques to the extent consistent
with its investment objective and policies.
OPTIONS TRANSACTIONS
THE FUND MAY PURCHASE AND WRITE (I.E., SELL) PUT AND CALL OPTIONS ON
SECURITIES, FINANCIAL INDICES AND CURRENCIES THAT ARE TRADED ON U.S. OR FOREIGN
SECURITIES EXCHANGES OR IN THE OVER-THE-COUNTER (OTC) MARKET TO HEDGE THE
FUND'S PORTFOLIO OR TO ATTEMPT TO ENHANCE RETURN. These options will be on
equity and debt securities, including U.S. Government securities, financial
indices, including stock indices (e.g., S&P 500), and foreign currencies. The
Fund may write covered put and call options to attempt to generate additional
income through the receipt of premiums, purchase put options in an effort to
protect the value of securities (or currencies) that it owns against a decline
in market value and purchase call options in an effort to protect against an
increase in the price of securities (or currencies) it intends to purchase. The
Fund may also purchase put and call options to offset previously written put
and call options of the same series. See "Investment Objective and Policies--
Options on Securities" in the Statement of Additional Information.
A CALL OPTION GIVES THE PURCHASER, IN EXCHANGE FOR A PREMIUM PAID, THE RIGHT
FOR A SPECIFIED PERIOD OF TIME TO PURCHASE THE SECURITIES OR CURRENCY SUBJECT
TO THE OPTION AT A SPECIFIED PRICE (THE EXERCISE PRICE OR STRIKE PRICE). The
writer of a call option, in return for the premium, has the obligation, upon
exercise of the option, to deliver, depending upon the terms of the option
contract, the underlying securities or a specified amount of cash to the
purchaser upon receipt of the exercise price. When the Fund writes a call
option, the Fund gives up the potential for gain on the underlying securities
or currency in excess of the exercise price of the option during the period
that the option is open. There is no limitation on the amount of call options
the Fund may write.
A PUT OPTION GIVES THE PURCHASER, IN RETURN FOR A PREMIUM, THE RIGHT, FOR A
SPECIFIED PERIOD OF TIME, TO SELL THE SECURITIES OR CURRENCY SUBJECT TO THE
OPTION TO THE WRITER OF THE PUT AT THE SPECIFIED EXERCISE PRICE. The writer of
the put option, in return for the premium, has the obligation, upon exercise of
the option, to acquire the securities or currency underlying the option at the
exercise price. The Fund might, therefore, be obligated to purchase the
underlying securities or currency for more than their current market price.
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THE FUND WILL WRITE ONLY "COVERED" OPTIONS. A written option is covered if,
as long as the Fund is obligated under the option, it (i) owns an offsetting
position in the underlying security or currency or (ii) maintains, in a
segregated account, cash, U.S. Government securities, equity securities or
other liquid, unencumbered assets, marked-to-market daily, in an amount equal
to or greater than its obligation under the option. Under the first
circumstance, the Fund's losses are limited because it owns the underlying
security; under the second circumstance, in the case of a written call option,
the Fund's losses are potentially unlimited. See "Investment Objective and
Policies--Options on Securities" in the Statement of Additional Information.
FORWARD CURRENCY EXCHANGE CONTRACTS
THE FUND MAY ENTER INTO FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS TO
PROTECT THE VALUE OF ITS ASSETS AGAINST FUTURE CHANGES IN THE LEVEL OF CURRENCY
EXCHANGE RATES. The Fund may enter into such contracts on a spot, i.e., cash,
basis at the rate then prevailing in the currency exchange market or on a
forward basis, by entering into a forward contract to purchase or sell
currency. A forward contract on foreign currency is an obligation to purchase
or sell a specific currency at a future date, which may be any fixed number of
days agreed upon by the parties from the date of the contract at a price set on
the date of the contract.
THE FUND'S DEALINGS IN FORWARD CONTRACTS WILL BE LIMITED TO HEDGING INVOLVING
EITHER SPECIFIC TRANSACTIONS OR PORTFOLIO POSITIONS. Transaction hedging is the
purchase or sale of a forward contract with respect to specific receivables or
payables of the Fund generally arising in connection with the purchase or sale
of its portfolio securities and accruals of interest or dividends receivable
and Fund expenses. Position hedging is the sale of a foreign currency with
respect to portfolio security positions denominated or quoted in that currency
or in a different currency (cross hedge). Although there are no limits on the
number of forward contracts which the Fund may enter into, the Fund may not
position hedge (including cross hedges) with respect to a particular currency
for an amount greater than the aggregate market value (determined at the time
of making any sale of foreign currency) of the securities being hedged. See
"Investment Objective and Policies--Risks Related to Forward Foreign Currency
Exchange Contracts" in the Statement of Additional Information.
FUTURES CONTRACTS AND OPTIONS THEREON
THE FUND MAY PURCHASE AND SELL FINANCIAL FUTURES CONTRACTS AND OPTIONS
THEREON WHICH ARE TRADED ON A COMMODITIES EXCHANGE OR BOARD OF TRADE TO REDUCE
CERTAIN RISKS OF ITS INVESTMENTS AND TO ATTEMPT TO ENHANCE RETURN IN ACCORDANCE
WITH REGULATIONS OF THE COMMODITY FUTURES TRADING COMMISSION (CFTC). THESE
FUTURES CONTRACTS AND RELATED OPTIONS WILL BE ON DEBT SECURITIES, INCLUDING
U.S. GOVERNMENT SECURITIES, FINANCIAL INDICES AND FOREIGN CURRENCIES. THE FUND,
AND THUS THE INVESTOR, MAY LOSE MONEY THROUGH ANY UNSUCCESSFUL USE OF THESE
STRATEGIES. A futures contract is an agreement to purchase or sell an agreed
amount of securities or currencies at a set price for delivery in the future. A
stock index futures contract is an agreement to deliver an amount of cash equal
to a specific dollar amount times the difference between the value of a
specific stock index on an agreed future date and the contract price. The Fund
may purchase and sell futures contracts as a hedge against changes resulting
from market conditions in the value of securities which are held in the Fund's
portfolio or which the Fund intends to acquire.
The Fund may not purchase or sell futures contracts and related options to
attempt to enhance return, if immediately thereafter the sum of the amount of
initial margin deposits on the Fund's existing futures and options on futures
and premiums paid for such related options would exceed 5% of the liquidation
value of the Fund's total assets. The Fund may purchase and sell futures
contracts and related options, without limitation, for bona fide hedging
purposes in accordance with regulations of the CFTC (i.e., to reduce certain
risks of its investments). The value of all futures contracts sold will not
exceed the total market value of the Fund's portfolio.
Futures contracts and related options are generally subject to segregation
and coverage requirements of the CFTC or the SEC. If the Fund does not hold the
security underlying the futures contract, the Fund will be required to
segregate on an ongoing basis with its Custodian cash, U.S. Government
securities, equity securities or other liquid, unencumbered assets in an amount
at least equal to the Fund's obligations with respect to such futures
contracts.
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THE FUND'S SUCCESSFUL USE OF FUTURES CONTRACTS AND RELATED OPTIONS DEPENDS
UPON THE INVESTMENT ADVISER'S ABILITY TO PREDICT THE DIRECTION OF THE MARKET
AND IS SUBJECT TO VARIOUS ADDITIONAL RISKS. The correlation between movements
in the price of a futures contract and the movements in the index or price of
the currencies being hedged is imperfect and there is a risk that the value of
the indices or currencies being hedged may increase or decrease at a greater
rate than the related futures contracts, resulting in losses to the Fund.
Certain futures exchanges or boards of trade have established daily limits on
the amount that the price of futures contracts or related options may vary,
either up or down, from the previous day's settlement price. These daily limits
may restrict the Fund's ability to purchase or sell certain futures contracts
or related options on any particular day.
The Fund's ability to enter into or close out futures contracts and options
thereon is limited by the requirements of the Internal Revenue Code for
qualification as a regulated investment company. See "Taxes" in the Statement
of Additional Information.
RISKS OF HEDGING AND RETURN ENHANCEMENT STRATEGIES
PARTICIPATION IN THE OPTIONS OR FUTURES MARKETS AND IN CURRENCY EXCHANGE
TRANSACTIONS INVOLVES INVESTMENT RISKS AND TRANSACTION COSTS TO WHICH THE FUND
WOULD NOT BE SUBJECT ABSENT THE USE OF THESE STRATEGIES. THE FUND, AND THUS THE
INVESTOR, MAY LOSE MONEY THROUGH ANY UNSUCCESSFUL USE OF THESE STRATEGIES. If
the Subadviser's predictions of movements in the direction of the securities,
foreign currency and interest rate markets are inaccurate, the adverse
consequences to the Fund may leave the Fund in a worse position than if such
strategies were not used. Risks inherent in the use of options, foreign
currency and futures contracts and options on futures contracts include (1)
dependence on the Subadviser's ability to predict correctly movements in the
direction of interest rates, securities prices and currency markets; (2)
imperfect correlation between the price of options and futures contracts and
options thereon and movements in the prices of the securities or currencies
being hedged; (3) the fact that skills needed to use these strategies are
different from those needed to select portfolio securities; (4) the possible
absence of a liquid secondary market for any particular instrument at any time;
(5) the possible need to defer closing out certain hedged positions to avoid
adverse tax consequences; and (6) the possible inability of the Fund to
purchase or sell a portfolio security at a time that otherwise would be
favorable for it to do so, or the possible need for the Fund to sell a
portfolio security at a disadvantageous time, due to the need for the Fund to
maintain "cover" or to segregate securities in connection with hedging
transactions. See "Taxes" in the Statement of Additional Information.
The Fund will generally purchase options and futures on an exchange only if
there appears to be a liquid secondary market for such options or futures; the
Fund will generally purchase OTC options only if management believes that the
other party to options will continue to make a market for such options.
However, there can be no assurance that a liquid secondary market will continue
to exist or that the other party will continue to make a market. Thus, it may
not be possible to close an options or futures transaction. The inability to
close options and futures positions also could have an adverse impact on the
Fund's ability to effectively hedge its portfolio. There is also the risk of
loss by the Fund of margin deposits or collateral in the event of bankruptcy of
a broker with whom the Fund has an open position in an option, a futures
contract or related option.
INVESTMENT RESTRICTIONS
The Fund is subject to certain investment restrictions which, like its
investment objective, constitute fundamental policies. Fundamental policies
cannot be changed without the approval of the holders of a majority of the
Fund's outstanding voting securities as defined in the Investment Company Act.
See "Investment Restrictions" in the Statement of Additional Information.
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HOW THE FUND IS MANAGED
THE FUND HAS A BOARD OF DIRECTORS WHICH, IN ADDITION TO OVERSEEING THE
ACTIONS OF THE FUND'S MANAGER, SUBADVISER AND DISTRIBUTOR, DECIDES UPON
MATTERS OF GENERAL POLICY. THE FUND'S MANAGER CONDUCTS AND SUPERVISES THE
DAILY BUSINESS OPERATIONS OF THE FUND. THE FUND'S SUBADVISER FURNISHES DAILY
INVESTMENT ADVISORY SERVICES.
For the fiscal period ended November 30, 1996, the Fund's total expenses as
a percentage of average net assets, net of expense reimbursement, for Class A,
Class B and Class C shares were an annualized 2.76%, 3.51% and 3.51%,
respectively. See "Financial Highlights" and "Fee Waivers and Subsidy" below.
MANAGER
PRUDENTIAL MUTUAL FUND MANAGEMENT LLC (PMF OR THE MANAGER), GATEWAY CENTER
THREE, NEWARK, NEW JERSEY 07102, IS THE MANAGER OF THE FUND AND IS COMPENSATED
FOR ITS SERVICES AT AN ANNUAL RATE OF .75 OF 1% OF THE FUND'S AVERAGE DAILY
NET ASSETS. PMF is organized in New York as a limited liability company. It is
the successor to Prudential Mutual Fund Management, Inc., which transferred
its assets to PMF in September 1996. For the fiscal period ended November 30,
1996, the Fund paid PMF a management fee of .75 of 1% of the Fund's average
net assets. See "Manager" in the Statement of Additional Information.
As of December 31, 1996, PMF served as the manager to 40 open-end investment
companies, constituting all of the Prudential Mutual Funds, and as manager or
administrator to 22 closed-end investment companies with aggregate assets of
approximately $55.2 billion.
UNDER THE MANAGEMENT AGREEMENT WITH THE FUND, PMF MANAGES THE INVESTMENT
OPERATIONS OF THE FUND AND ALSO ADMINISTERS THE FUND'S CORPORATE AFFAIRS. See
"Manager" in the Statement of Additional Information.
UNDER THE SUBADVISORY AGREEMENT BETWEEN PMF AND THE PRUDENTIAL INVESTMENT
CORPORATION (PIC, THE SUBADVISER OR THE INVESTMENT ADVISER), PIC FURNISHES
INVESTMENT ADVISORY SERVICES IN CONNECTION WITH THE MANAGEMENT OF THE FUND AND
IS REIMBURSED BY PMF FOR ITS REASONABLE COSTS AND EXPENSES INCURRED IN
PROVIDING SUCH SERVICES. Under the Management Agreement, PMF continues to have
responsibility for all investment advisory services and supervises PIC's
performance of such services. The current portfolio managers of the Fund are
Leigh Goehring, a Vice President of Prudential Investments, a business group
of PIC, and George Edwards, a Vice President of Prudential Investments.
Messrs. Goehring and Edwards share responsibility for the day-to-day
management of the Fund's portfolio. Mr. Goehring has been employed by PIC as a
manager since 1986. Mr. Goehring also serves as the portfolio manager of
Prudential Natural Resources Fund, Inc., and the Natural Resources Portfolio
of The Prudential Series Fund, Inc., within Prudential's variable life and
annuity products. Mr. Edwards has been employed by PIC as a portfolio manager
since 1985. Prior to that, he was a corporate bond credit analyst at PIC. Mr.
Edwards serves as a high yield portfolio manager of institutional accounts at
PIC. The Fund is managed by the growth and income team at Prudential
Investments, which is headed by Warren Spitz. Mr. Spitz is a Managing Director
of Prudential Investments. He is a strict "value" investor and serves as the
portfolio manager of Prudential Equity Income Fund and The Prudential Series
Fund, Inc.--High Dividend Stock Portfolio. Mr. Spitz joined Prudential in
1987.
PMF and PIC are wholly-owned subsidiaries of The Prudential Insurance
Company of America (Prudential), a major diversified insurance and financial
services company.
DISTRIBUTOR
PRUDENTIAL SECURITIES INCORPORATED (PRUDENTIAL SECURITIES OR PSI), ONE
SEAPORT PLAZA, NEW YORK, NEW YORK 10292, IS A CORPORATION ORGANIZED UNDER THE
LAWS OF THE STATE OF DELAWARE AND SERVES AS THE DISTRIBUTOR OF THE CLASS A,
CLASS B AND CLASS C SHARES OF THE FUND. IT IS AN INDIRECT, WHOLLY-OWNED
SUBSIDIARY OF PRUDENTIAL.
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UNDER SEPARATE DISTRIBUTION AND SERVICE PLANS (THE CLASS A PLAN, THE CLASS B
PLAN AND THE CLASS C PLAN, COLLECTIVELY, THE PLANS) ADOPTED BY THE FUND UNDER
RULE 12B-1 UNDER THE INVESTMENT COMPANY ACT AND A DISTRIBUTION AGREEMENT (THE
DISTRIBUTION AGREEMENT), PRUDENTIAL SECURITIES (THE DISTRIBUTOR) INCURS THE
EXPENSES OF DISTRIBUTING THE FUND'S CLASS A, CLASS B AND CLASS C SHARES. These
expenses include commissions and account servicing fees paid to, or on account
of, financial advisers of Prudential Securities and Pruco Securities
Corporation (Prusec), an affiliated broker-dealer, commissions and account
servicing fees paid to, or on account of, other broker-dealers or financial
institutions (other than national banks) which have entered into agreements
with the Distributor, advertising expenses, the cost of printing and mailing
prospectuses to potential investors and indirect and overhead costs of
Prudential Securities and Prusec associated with the sale of Fund shares,
including lease, utility, communications and sales promotion expenses.
Under the Plans, the Fund is obligated to pay distribution and/or service
fees to the Distributor as compensation for its distribution and service
activities, not as reimbursement for specific expenses incurred. If the
Distributor's expenses exceed its distribution and service fees, the Fund will
not be obligated to pay any additional expenses. If the Distributor's expenses
are less than such distribution and service fees, it will retain its full fees
and realize a profit.
UNDER THE CLASS A PLAN, THE FUND MAY PAY PRUDENTIAL SECURITIES FOR ITS
DISTRIBUTION-RELATED EXPENSES WITH RESPECT TO CLASS A SHARES AT AN ANNUAL RATE
OF UP TO .30 OF 1% OF THE AVERAGE DAILY NET ASSETS OF THE CLASS A SHARES. The
Class A Plan provides that (i) up to .25 of 1% of the average daily net assets
of the Class A shares may be used to pay for personal service and/or the
maintenance of shareholder accounts (service fee) and (ii) total distribution
fees (including the service fee of .25 of 1%) may not exceed .30 of 1% of the
average daily net assets of the Class A shares. Prudential Securities has
agreed to limit its distribution-related fees payable under the Class A Plan
to .25 of 1% of the average daily net assets of the Class A shares for the
fiscal year ending November 30, 1997.
UNDER THE CLASS B AND CLASS C PLANS, THE FUND PAYS PRUDENTIAL SECURITIES FOR
ITS DISTRIBUTION-RELATED EXPENSES WITH RESPECT TO CLASS B AND CLASS C SHARES
AT AN ANNUAL RATE OF 1% OF THE AVERAGE DAILY NET ASSETS OF EACH OF THE CLASS B
AND CLASS C SHARES. The Class B and Class C Plans provide for the payment to
Prudential Securities of (i) an asset-based sales charge of .75 of 1% of the
average daily net assets of the Class B and Class C shares, respectively, and
(ii) a service fee of .25 of 1% of the average daily net assets of each of the
Class B and Class C shares. The service fee is used to pay for personal
service and/or the maintenance of shareholder accounts. Prudential Securities
also receives contingent deferred sales charges from certain redeeming
shareholders. See "Shareholder Guide--How to Sell Your Shares--Contingent
Deferred Sales Charges."
For the fiscal period ended November 30, 1996, the Fund paid distribution
expenses of .25%, 1% and 1% (each as annualized) of the average daily net
assets of the Class A, Class B and Class C shares of the Fund, respectively.
The Fund records all payments made under the Plans as expenses in the
calculation of net investment income. See "Distributor" in the Statement of
Additional Information.
Distribution expenses attributable to the sale of Class A, Class B or Class
C shares of the Fund will be allocated to each class based upon the ratio of
sales of each class to the sales of all shares of the Fund other than expenses
allocable to a particular class. The distribution fee and sales charge of one
class will not be used to subsidize the sale of another class.
Each Plan provides that it shall continue in effect from year to year
provided that a majority of the Board of Directors of the Fund, including a
majority of the Directors who are not "interested persons" of the Fund (as
defined in the Investment Company Act) and who have no direct or indirect
financial interest in the operation of the Plan or any agreement related to
the Plan (the Rule 12b-1 Directors), vote annually to continue the Plan. Each
Plan may be terminated at any time by vote of
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<PAGE>
a majority of the Rule 12b-1 Directors or of a majority of the outstanding
shares of the applicable class of the Fund. The Fund will not be obligated to
pay distribution and service fees incurred under any Plan if it is terminated
or not continued.
In addition to distribution and service fees paid by the Fund under the
Class A, Class B and Class C Plans, the Manager (or one of its affiliates) may
make payments out of its own resources to dealers (including Prudential
Securities) and other persons which distribute shares of the Fund. Such
payments may be calculated by reference to the net asset value of shares sold
by such persons or otherwise.
The Distributor is subject to the rules of the National Association of
Securities Dealers, Inc. (NASD) governing maximum sales charges. See
"Distributor" in the Statement of Additional Information.
On October 21, 1993, PSI entered into an omnibus settlement with the SEC,
state securities regulators (with the exception of the Texas Securities
Commissioner who joined the settlement on January 18, 1994) and the NASD to
resolve allegations that from 1980 through 1990 PSI sold certain limited
partnership interests in violation of securities laws to persons for whom such
securities were not suitable and misrepresented the safety, potential returns
and liquidity of these investments. Without admitting or denying the
allegations asserted against it, PSI consented to the entry of an SEC
Administrative Order which stated that PSI's conduct violated the federal
securities laws, directed PSI to cease and desist from violating the federal
securities laws, pay civil penalties, and adopt certain remedial measures to
address the violations.
Pursuant to the terms of the SEC settlement, PSI agreed to the imposition of
a $10,000,000 civil penalty, established a settlement fund in the amount of
$330,000,000 and procedures to resolve legitimate claims for compensatory
damages by purchasers of the partnership interests. PSI has agreed to provide
additional funds, if necessary, for the purposes of the settlement fund. PSI's
settlement with the state securities regulators included an agreement to pay a
penalty of $500,000 per jurisdiction. PSI consented to a censure and to the
payment of a $5,000,000 fine in settling the NASD action.
In October 1994, a criminal complaint was filed with the United States
Magistrate for the Southern District of New York alleging that PSI committed
fraud in connection with the sale of certain limited partnership interests in
violation of federal securities laws. An agreement was simultaneously filed to
defer prosecution of these charges for a period of three years from the
signing of the agreement, provided that PSI complies with the terms of the
agreement. If, upon completion of the three year period, PSI has complied with
the terms of the agreement, no prosecution will be instituted by the United
States for the offenses charged in the complaint. If on the other hand, during
the course of the three year period, PSI violates the terms of the agreement,
the U.S. Attorney can then elect to pursue these charges. Under the terms of
the agreement, PSI agreed, among other things, to pay an additional
$330,000,000 into the fund established by the SEC to pay restitution to
investors who purchased certain PSI limited partnership interests.
For more detailed information concerning the foregoing matters, see
"Distributor" in the Statement of Additional Information, a copy of which may
be obtained at no cost by calling 1-800-225-1852.
The Fund is not affected by PSI's financial condition and is an entirely
separate legal entity from PSI, which has no beneficial ownership therein and
the Fund's assets which are held by State Street Bank and Trust Company, an
independent custodian, are separate and distinct from PSI.
FEE WAIVERS AND SUBSIDY
PMF may from time to time waive all or a portion of its management fee and
subsidize all or a portion of the operating expenses of the Fund. Fee waivers
and expense subsidies will increase the Fund's total return. See "Performance
Information" in the Statement of Additional Information.
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PORTFOLIO TRANSACTIONS
Prudential Securities may act as a broker or futures commission merchant for
the Fund provided that the commissions, fees or other remuneration it receives
are fair and reasonable. See "Portfolio Transactions and Brokerage" in the
Statement of Additional Information.
CUSTODIAN AND TRANSFER AND DIVIDEND DISBURSING AGENT
State Street Bank and Trust Company, One Heritage Drive, North Quincy,
Massachusetts 02171, serves as Custodian for the Fund's portfolio securities
and cash and, in that capacity, maintains certain financial and accounting
books and records pursuant to an agreement with the Fund.
Prudential Mutual Fund Services LLC (PMFS), Raritan Plaza One, Edison, New
Jersey 08837, serves as Transfer Agent and Dividend Disbursing Agent and in
those capacities maintains certain books and records for the Fund. PMFS is a
wholly-owned subsidiary of PMF. Its mailing address is P.O. Box 15005, New
Brunswick, New Jersey 08906-5005.
HOW THE FUND VALUES ITS SHARES
THE FUND'S NET ASSET VALUE PER SHARE OR NAV IS DETERMINED BY SUBTRACTING ITS
LIABILITIES FROM THE VALUE OF ITS ASSETS AND DIVIDING THE REMAINDER BY THE
NUMBER OF OUTSTANDING SHARES. NAV IS CALCULATED SEPARATELY FOR EACH CLASS. For
valuation purposes, quotations of foreign securities in a foreign currency are
converted to U.S. dollar equivalents. THE BOARD OF DIRECTORS HAS FIXED THE
SPECIFIC TIME OF DAY FOR THE COMPUTATION OF THE FUND'S NAV TO BE AS OF 4:15
P.M., NEW YORK TIME.
Portfolio securities are valued based on market quotations or, if not
readily available, at fair value as determined in good faith under procedures
established by the Fund's Board of Directors. See "Net Asset Value" in the
Statement of Additional Information.
The Fund will compute its NAV once daily on days that the New York Stock
Exchange is open for trading except on days on which no orders to purchase,
sell or redeem shares have been received by the Fund or days on which changes
in the value of the Fund's portfolio securities do not materially affect the
NAV. The New York Stock Exchange is closed on the following holidays: New
Year's Day, Presidents' Day, Good Friday, Memorial Day, Independence Day,
Labor Day, Thanksgiving Day and Christmas Day. See "Net Asset Value" in the
Statement of Additional Information.
Although the legal rights of each class of shares are substantially
identical, the different expenses borne by each class will result in different
NAVs and dividends. The NAV of Class B and Class C shares will generally be
lower than the NAV of Class A shares as a result of the larger distribution-
related fee to which Class B and Class C shares are subject. It is expected,
however, that the NAV of the three classes will tend to converge immediately
after the recording of dividends, if any, which will differ by approximately
the amount of distribution and/or service fee expense accrual differential
among the classes, unless the Fund has net operating losses.
22
<PAGE>
HOW THE FUND CALCULATES PERFORMANCE
FROM TIME TO TIME THE FUND MAY ADVERTISE ITS TOTAL RETURN (INCLUDING
"AVERAGE ANNUAL" TOTAL RETURN AND "AGGREGATE" TOTAL RETURN) AND YIELD IN
ADVERTISEMENTS OR SALES LITERATURE. TOTAL RETURN AND YIELD ARE CALCULATED
SEPARATELY FOR CLASS A, CLASS B AND CLASS C SHARES. These figures are based on
historical earnings and are not intended to indicate future performance. The
"total return" shows how much an investment in the Fund would have increased
(decreased) over a specified period of time (i.e., one, five or ten years or
since inception of the Fund) assuming that all distributions and dividends by
the Fund were reinvested on the reinvestment dates during the period and less
all recurring fees. The "aggregate" total return reflects actual performance
over a stated period of time. "Average annual" total return is a hypothetical
rate of return that, if achieved annually, would have produced the same
aggregate total return if performance had been constant over the entire
period. "Average annual" total return smooths out variations in performance
and takes into account any applicable initial or contingent deferred sales
charges. Neither "average annual" total return nor "aggregate" total return
takes into account any federal or state income taxes which may be payable upon
redemption. The "yield" refers to the income generated by an investment in the
Fund over a one-month or 30-day period. This income is then "annualized;" that
is, the amount of income generated by the investment during that 30-day period
is assumed to be generated each 30-day period for twelve periods and is shown
as a percentage of the investment. The income earned on the investment is also
assumed to be reinvested at the end of the sixth 30-day period. The Fund also
may include comparative performance information in advertising or marketing
the Fund's shares. Such performance information may include data from Lipper
Analytical Services, Inc., Morningstar Publications, Inc., and other industry
publications, business periodicals and market indices. See "Performance
Information" in the Statement of Additional Information. Further performance
information will be contained in the Fund's annual and semi-annual reports to
shareholders, which will be available without charge. See "Shareholder Guide--
Shareholder Services--Reports to Shareholders."
TAXES, DIVIDENDS AND DISTRIBUTIONS
TAXATION OF THE FUND
THE FUND HAS ELECTED TO QUALIFY AND INTENDS TO REMAIN QUALIFIED AS A
REGULATED INVESTMENT COMPANY UNDER THE INTERNAL REVENUE CODE OF 1986, AS
AMENDED (THE INTERNAL REVENUE CODE). ACCORDINGLY, THE FUND WILL NOT BE SUBJECT
TO FEDERAL INCOME TAXES ON ITS NET INVESTMENT INCOME AND CAPITAL GAINS, IF
ANY, THAT IT DISTRIBUTES TO ITS SHAREHOLDERS.
The Fund may, from time to time, invest in Passive Foreign Investment
Companies (PFICs). PFICs are foreign corporations which derive a majority of
their income from passive sources. For tax purposes, the Fund's investments in
PFICs are subject to special tax provisions that may result in the taxation of
certain gains realized by the Fund. See "Taxes" in the Statement of Additional
Information.
In addition, under the Internal Revenue Code, special rules apply to the
treatment of certain options and futures contracts (Section 1256 contracts).
At the end of each year, such investments held by the Fund will be required to
be "marked to market" for federal income tax purposes; that is, treated as
having been sold at market value. Sixty percent of any gain or loss recognized
on these "deemed sales" and on actual dispositions will be treated as long-
term capital gain or loss, and the remainder will be treated as short-term
capital gain or loss. See "Taxes" in the Statement of Additional Information.
Gains or losses on disposition of debt securities denominated in a foreign
currency attributable to fluctuations in the value of foreign currency between
the date of acquisition of the security and the date of disposition are
treated as ordinary
23
<PAGE>
gain or loss. These gains or losses increase or decrease the amount of the
Fund's investment company taxable income available to be distributed to
shareholders as ordinary income, rather than increasing or decreasing the
amount of the Fund's net capital gain. If currency fluctuation losses exceed
other investment company taxable income during a taxable year, distributions
made by the Fund during the year would be characterized as a return of capital
to shareholders, reducing the shareholder's basis in his or her Fund shares.
TAXATION OF SHAREHOLDERS
All dividends out of net investment income, together with distributions of
net short-term gains (i.e., the excess of net short-term capital gains over
net long-term capital losses) distributed to shareholders, will be taxable as
ordinary income to the shareholder whether or not reinvested. Any net capital
gains (i.e., the excess of net long-term capital gains over net short-term
capital losses) distributed to shareholders will be taxable as long-term
capital gains to the shareholder, whether or not reinvested and regardless of
the length of time a shareholder has owned his or her shares. The maximum
long-term capital gains rate for corporate shareholders is currently the same
as the maximum tax rate for ordinary income. The maximum long-term capital
gains rate for individual shareholders is currently 28% and the maximum tax
rate for ordinary income is 39.6%.
The Fund may incur foreign income taxes in connection with some of its
foreign investments. Certain of these taxes may be credited to shareholders.
See "Taxes" in the Statement of Additional Information.
Any gain or loss realized upon a sale or redemption of shares by a
shareholder who is not a dealer in securities will generally be treated as
long-term capital gain or loss if the shares have been held more than one year
and otherwise as short-term capital gain or loss. Any such loss with respect
to shares that are held for six months or less, however, will be treated as a
long-term capital loss to the extent of any capital gain distributions
received by the shareholder.
The Fund has obtained opinions of counsel to the effect that neither (i) the
conversion of Class B shares into Class A shares nor (ii) the exchange of any
class of the Fund's shares for any other class of its shares constitutes a
taxable event for federal income tax purposes. However, such opinions are not
binding on the Internal Revenue Service.
WITHHOLDING TAXES
Under the Internal Revenue Code, the Fund is required to withhold and remit
to the U.S. Treasury 31% of dividends, capital gain income and redemption
proceeds on the accounts of those shareholders who fail to furnish their tax
identification numbers on IRS Form W-9 (or IRS Form W-8 in the case of certain
foreign shareholders) with the required certifications regarding the
shareholder's status under the federal income tax law.
Shareholders are urged to consult their own tax advisers regarding specific
questions as to federal, state or local taxes. See "Taxes" in the Statement of
Additional Information.
DIVIDENDS AND DISTRIBUTIONS
BECAUSE OF THE FUND'S INVESTMENT POLICIES AND ITS EMPHASIS ON FINANCIALLY
AND OPERATIONALLY TROUBLED ISSUERS, THE FUND IS NOT LIKELY TO RECEIVE
SIGNIFICANT DIVIDEND INCOME ON ITS PORTFOLIO SECURITIES. THE FUND HAS A POLICY
OF DECLARING AND PAYING DIVIDENDS OF NET INVESTMENT INCOME (IF ANY) ANNUALLY
AND MAKING DISTRIBUTIONS OF ANY CAPITAL GAINS IN EXCESS OF NET LONG-TERM
CAPITAL LOSSES AT LEAST ANNUALLY. Dividends paid by the Fund with respect to
each class of shares, to the extent any dividends are paid, will be calculated
in the same manner, at the same time, on the same day and will be in the same
amount except that each class will bear its own distribution charges,
generally resulting in lower dividends for
24
<PAGE>
Class B and Class C shares. Distribution of net capital gains, if any, will be
paid in the same amount for each class of shares. See "How the Fund Values its
Shares."
DIVIDENDS AND DISTRIBUTIONS WILL BE PAID IN ADDITIONAL FUND SHARES, BASED ON
THE NAV OF EACH CLASS ON THE RECORD DATE OR SUCH OTHER DATE AS THE BOARD OF
DIRECTORS MAY DETERMINE, UNLESS THE SHAREHOLDER ELECTS IN WRITING NOT LESS
THAN FIVE BUSINESS DAYS PRIOR TO THE RECORD DATE TO RECEIVE SUCH DIVIDENDS AND
DISTRIBUTIONS IN CASH. Such election should be submitted to Prudential Mutual
Fund Services LLC, Attn: Account Maintenance Unit, P.O. Box 15015, New
Brunswick, New Jersey 08906-5015. The Fund will notify each shareholder after
the close of the Fund's taxable year both of the dollar amount and the taxable
status of that year's dividends and distributions on a per share basis. If you
hold shares through Prudential Securities, you should contact your financial
adviser to elect to receive dividends and distributions in cash.
WHEN THE FUND GOES "EX-DIVIDEND," ITS NAV IS REDUCED BY THE AMOUNT OF THE
DIVIDEND OR DISTRIBUTION. IF YOU BUY SHARES JUST PRIOR TO THE EX-DIVIDEND DATE
(WHICH GENERALLY OCCURS FOUR BUSINESS DAYS PRIOR TO THE RECORD DATE), THE
PRICE YOU PAY WILL INCLUDE THE DIVIDEND OR DISTRIBUTION AND A PORTION OF YOUR
INVESTMENT WILL BE RETURNED TO YOU AS A TAXABLE DISTRIBUTION. YOU SHOULD,
THEREFORE, CONSIDER THE TIMING OF DIVIDENDS WHEN MAKING YOUR PURCHASES.
GENERAL INFORMATION
DESCRIPTION OF COMMON STOCK
THE FUND WAS INCORPORATED IN MARYLAND ON NOVEMBER 30, 1995. THE FUND IS
AUTHORIZED TO ISSUE 2 BILLION SHARES OF COMMON STOCK, $.001 PAR VALUE PER
SHARE, DIVIDED INTO THREE CLASSES, DESIGNATED CLASS A, CLASS B AND CLASS C
COMMON STOCK. OF THE AUTHORIZED SHARES OF COMMON STOCK, 1 BILLION SHARES
CONSIST OF CLASS A COMMON STOCK, 500 MILLION SHARES CONSIST OF CLASS B COMMON
STOCK AND 500 MILLION SHARES CONSIST OF CLASS C COMMON STOCK. Each class of
common stock represents an interest in the same assets of the Fund and is
identical in all respects except that (i) each class is subject to different
sales charges and distribution and/or service fees, which may affect
performance, (ii) each class has exclusive voting rights on any matter
submitted to shareholders that relates solely to its arrangement and has
separate voting rights on any matter submitted to shareholders in which the
interests of one class differ from the interests of any other class, (iii)
each class has a different exchange privilege and (iv) only Class B shares
have a conversion feature. See "How the Fund is Managed--Distributor."
Currently, the Fund is offering three classes of common stock, designated
Class A, Class B and Class C shares. In accordance with the Fund's Articles of
Incorporation, the Board of Directors may authorize the creation of additional
series of common stock and classes within such series, with such preferences,
privileges, limitations and voting and dividend rights as the Board may
determine.
The Board of Directors may increase or decrease the number of authorized
shares. Shares of the Fund, when issued, are fully paid, nonassessable, fully
transferable and redeemable at the option of the holder. Shares are also
redeemable at the option of the Fund under certain circumstances as described
under "Shareholder Guide--How to Sell Your Shares." Each share of each class
of common stock is equal as to earnings, assets and voting privileges, except
as noted above, and each class bears the expenses related to the distribution
of its shares. Except for the conversion feature applicable to the Class B
shares, there are no conversion, preemptive or other subscription rights. In
the event of liquidation, each share of common stock of the Fund is entitled
to its portion of all of the Fund's assets after all debts and expenses of the
Fund have been paid. Since Class B and Class C shares generally bear higher
distribution expenses than Class A shares, the liquidation proceeds to
shareholders of those classes are likely to be lower than to Class A
shareholders. The Fund's shares do not have cumulative voting rights for the
election of Directors.
25
<PAGE>
THE FUND DOES NOT INTEND TO HOLD ANNUAL MEETINGS OF SHAREHOLDERS UNLESS
OTHERWISE REQUIRED BY LAW. THE FUND WILL NOT BE REQUIRED TO HOLD MEETINGS OF
SHAREHOLDERS UNLESS, FOR EXAMPLE, THE ELECTION OF DIRECTORS IS REQUIRED TO BE
ACTED ON BY SHAREHOLDERS UNDER THE INVESTMENT COMPANY ACT. SHAREHOLDERS HAVE
CERTAIN RIGHTS, INCLUDING THE RIGHT TO CALL A MEETING UPON A VOTE OF 10% OR
MORE OF THE FUND'S OUTSTANDING SHARES FOR THE PURPOSE OF VOTING ON THE REMOVAL
OF ONE OR MORE DIRECTORS OR TO TRANSACT ANY OTHER BUSINESS.
ADDITIONAL INFORMATION
This Prospectus, including the Statement of Additional Information which has
been incorporated by reference herein, does not contain all the information
set forth in the Registration Statement filed by the Fund with the SEC under
the Securities Act. Copies of the Registration Statement may be obtained at a
reasonable charge from the SEC or may be examined, without charge, at the
office of the SEC in Washington, D.C.
SHAREHOLDER GUIDE
HOW TO BUY SHARES OF THE FUND
YOU MAY PURCHASE SHARES OF THE FUND THROUGH PRUDENTIAL SECURITIES, PRUSEC OR
DIRECTLY FROM THE FUND, THROUGH ITS TRANSFER AGENT, PRUDENTIAL MUTUAL FUND
SERVICES LLC (PMFS or the Transfer Agent), Attention: Investment Services,
P.O. Box 15020, New Brunswick, New Jersey 08906-5020. The offering price is
the NAV next determined following receipt of an order by the Transfer Agent or
Prudential Securities plus a sales charge which, at your option, may be
imposed either (i) at the time of purchase (Class A shares) or (ii) on a
deferred basis (Class B or Class C shares). See "Alternative Purchase Plan"
below. See also "How the Fund Values its Shares."
THE MINIMUM INITIAL INVESTMENT IS $10,000 PER CLASS FOR CLASS A, CLASS B AND
CLASS C SHARES. The minimum subsequent investment is $100 for all classes.
Application forms can be obtained from PMFS, Prudential Securities or
Prusec. If a stock certificate is desired, it must be requested in writing for
each transaction. Certificates are issued only for full shares. Shareholders
who hold their shares through Prudential Securities will not receive stock
certificates.
The Fund reserves the right to reject any purchase order (including an
exchange into the Fund) or to suspend or modify the continuous offering of its
shares. See "How to Sell Your Shares" below.
Your dealer is responsible for forwarding payment promptly to the Fund. The
Distributor reserves the right to cancel any purchase order for which payment
has not been received by the third business day following the investment.
Transactions in Fund shares may be subject to postage and handling charges
imposed by your dealer.
PURCHASE BY WIRE. For an initial purchase of shares of the Fund by wire, you
must first telephone PMFS to receive an account number at (800) 225-1852
(toll-free). The following information will be requested: your name, address,
tax identification number, class election, dividend distribution election,
amount being wired and wiring bank. Instructions should then be given by you
to your bank to transfer funds by wire to State Street Bank and Trust Company
(State Street), Boston, Massachusetts, Custody and Shareholder Services
Division, Attention: Prudential Distressed Securities Fund, Inc., specifying
on the wire the account number assigned by PMFS and your name and identifying
the sales charge alternative (Class A, Class B or Class C shares).
26
<PAGE>
If you arrange for receipt by State Street of federal funds prior to the
calculation of NAV (4:15 P.M., New York time) on a business day, you may
purchase shares of the Fund as of that day. See "Net Asset Value" in the
Statement of Additional Information.
In making a subsequent purchase order by wire, you should wire State Street
directly and should be sure that the wire specifies Prudential Distressed
Securities Fund, Inc., Class A, Class B or Class C shares and your name and
individual account number. It is not necessary to call PMFS to make subsequent
purchase orders utilizing federal funds. The minimum amount which may be
invested by wire is $1,000.
ALTERNATIVE PURCHASE PLAN
THE FUND OFFERS THREE CLASSES OF SHARES (CLASS A, CLASS B AND CLASS C
SHARES) WHICH ALLOWS YOU TO CHOOSE THE MOST BENEFICIAL SALES CHARGE STRUCTURE
FOR YOUR INDIVIDUAL CIRCUMSTANCES GIVEN THE AMOUNT OF THE PURCHASE, THE LENGTH
OF TIME YOU EXPECT TO HOLD THE SHARES AND OTHER RELEVANT CIRCUMSTANCES
(ALTERNATIVE PURCHASE PLAN).
<TABLE>
<CAPTION>
ANNUAL 12b-1 FEES
(AS A % OF AVERAGE DAILY
SALES CHARGE NET ASSETS) OTHER INFORMATION
------------ ------------------------ -----------------
<S> <C> <C> <C>
CLASS A Maximum initial sales charge .30 of 1% Initial sales charge waived
of 5% of the public offering (currently being or reduced for certain
price charged at a rate purchases
of .25 of 1%)
CLASS B Maximum contingent deferred 1% Shares convert to Class A
sales charge or CDSC of 5% shares approximately seven
of the lesser of the amount years after purchase
invested or the redemption
proceeds; declines to zero
after six years
CLASS C Maximum CDSC of 1% of the 1% Shares do not convert to
lesser of the amount another class
invested or the redemption
proceeds on redemptions made
within one year of purchase.
</TABLE>
The three classes of shares represent an interest in the same portfolio of
investments of the Fund and have the same rights, except that (i) each class
is subject to different sales charges and distribution and/or service fees,
which may affect performance, (ii) each class has exclusive voting rights on
any matter submitted to shareholders that relates solely to its arrangement
and has separate voting rights on any matter submitted to shareholders in
which the interests of one class differ from the interests of any other class
and (iii) only Class B shares have a conversion feature. The three classes
also have separate exchange privileges. See "How to Exchange Your Shares"
below. The income attributable to each class and the dividends payable on the
shares of each class will be reduced by the amount of the distribution fee of
each class. Class B and Class C shares bear the expenses of a higher
distribution fee which will generally cause them to have higher expense ratios
and to pay lower dividends than the Class A shares.
Financial advisers and other sales agents who sell shares of the Fund will
receive different compensation for selling Class A, Class B and Class C shares
and will generally receive more compensation initially for selling Class A and
Class B shares than for selling Class C shares.
IN SELECTING A PURCHASE ALTERNATIVE, YOU SHOULD CONSIDER, AMONG OTHER
THINGS, (1) the length of time you expect to hold your investment, (2) the
amount of any applicable sales charge (whether imposed at the time of purchase
or redemption) and distribution-related fees, as noted above, (3) whether you
qualify for any reduction or waiver of any applicable sales charge, (4) the
various exchange privileges among the different classes of shares (see "How to
Exchange Your Shares" below) and (5) the fact that Class B shares
automatically convert to Class A shares approximately seven years after
purchase (see "Conversion Feature--Class B Shares" below).
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<PAGE>
The following is provided to assist you in determining which method of
purchase best suits your individual circumstances and is based on the fees and
expenses to be charged to the Fund:
If you intend to hold your investment in the Fund for less than 7 years and
do not qualify for a reduced sales charge on Class A shares, since Class A
shares are subject to an initial sales charge of 5% and Class B shares are
subject to a CDSC of 5% which declines to zero over a 6-year period, you
should consider purchasing Class C shares over either Class A or Class B
shares.
If you intend to hold your investment for 7 years or more and do not qualify
for a reduced sales charge on Class A shares, since Class B shares convert to
Class A shares approximately 7 years after purchase and because all of your
money would be invested initially in the case of Class B shares, you should
consider purchasing Class A or Class B shares over Class C shares.
If you qualify for a reduced sales charge on Class A shares, it may be more
advantageous for you to purchase Class A shares over either Class B or Class C
shares regardless of how long you intend to hold your investment. However,
unlike Class B and Class C shares, you would not have all of your money
invested initially because the sales charge on Class A shares is deducted at
the time of purchase.
If you do not qualify for a reduced sales charge on Class A shares and you
purchase Class B or Class C shares, you would have to hold your investment for
more than 6 years in the case of Class B shares and Class C shares for the
higher cumulative annual distribution-related fee on those shares to exceed
the initial sales charge plus cumulative annual distribution-related fees on
Class A shares. This does not take into account the time value of money, which
further reduces the impact of the higher Class B or Class C distribution-
related fee on the investment, fluctuations in net asset value, the effect of
the return on the investment over this period of time or redemptions during
which the CDSC is applicable.
ALL PURCHASES OF $1 MILLION OR MORE, EITHER AS PART OF A SINGLE INVESTMENT
OR UNDER RIGHTS OF ACCUMULATION OR LETTERS OF INTENT, MUST BE FOR CLASS A
SHARES. See "Reduction and Waiver of Initial Sales Charges" below.
CLASS A SHARES
The offering price of Class A shares for investors choosing the initial
sales charge alternative is the next determined NAV plus a sales charge
(expressed as a percentage of the offering price and of the amount invested)
as shown in the following table:
<TABLE>
<CAPTION>
SALES CHARGE AS SALES CHARGE AS DEALER CONCESSION
PERCENTAGE OF PERCENTAGE OF AS PERCENTAGE OF
OFFERING PRICE AMOUNT INVESTED OFFERING PRICE
--------------- --------------- -----------------
<S> <C> <C> <C>
Less than $25,000 5.00% 5.26% 4.75%
$25,000 to $49,999 4.50 4.71 4.25
$50,000 to $99,999 4.00 4.17 3.75
$100,000 to $249,999 3.25 3.36 3.00
$250,000 to $499,999 2.50 2.56 2.40
$500,000 to $999,999 2.00 2.04 1.90
$1,000,000 and above None None None
</TABLE>
The Distributor may reallow the entire initial sales charge to dealers.
Selling dealers may be deemed to be underwriters, as that term is defined in
the Securities Act.
In connection with the sale of Class A shares at NAV (without payment of an
initial sales charge), the Manager, the Distributor or one of their affiliates
will pay dealers, financial advisers and other persons which distribute shares
a finders' fee based on a percentage of the net asset value of shares sold by
such persons.
28
<PAGE>
REDUCTION AND WAIVER OF INITIAL SALES CHARGES. Reduced sales charges are
available through Rights of Accumulation and Letters of Intent. Shares of the
Fund and shares of other Prudential Mutual Funds (excluding money market funds
other than those acquired pursuant to the exchange privilege) may be
aggregated to determine the applicable reduction. See "Purchase and Redemption
of Fund Shares--Reduction and Waiver of Initial Sales Charges--Class A Shares"
in the Statement of Additional Information.
BENEFIT PLANS. Class A shares may be purchased at NAV, without payment of an
initial sales charge, by pension, profit-sharing or other employee benefit
plans qualified under Section 401 of the Internal Revenue Code and deferred
compensation and annuity plans under Sections 457 or 403(b)(7) of the Internal
Revenue Code (collectively, Benefit Plans), provided that the Benefit Plan has
existing assets of at least $1 million invested in shares of Prudential Mutual
Funds (excluding money market funds other than those acquired pursuant to the
exchange privilege) or 250 eligible employees or participants. In the case of
Benefit Plans whose accounts are held directly with the Transfer Agent or
Prudential Securities and for which the Transfer Agent or Prudential
Securities does individual account recordkeeping (Direct Account Benefit
Plans) and Benefit Plans sponsored by PSI or its subsidiaries (PSI or
Subsidiary Prototype Benefit Plans), Class A shares may be purchased at NAV by
participants who are repaying loans made from such plans to the participant.
PRUARRAY AND SMARTPATH PLANS. Class A shares may be purchased at NAV by
certain savings, retirement and deferred compensation plans, qualified or non-
qualified under the Internal Revenue Code, including pension, profit-sharing,
stock-bonus or other employee benefit plans under Section 401 of the Internal
Revenue Code and deferred compensation and annuity plans under Sections 457 or
403(b)(7) of the Internal Revenue Code that participate in the Transfer
Agent's PruArray or SmartPath Programs (benefit plan recordkeeping services)
(hereafter referred to as a PruArray or SmartPath Plan); provided that the
plan has at least $1 million in existing assets or 250 eligible employees or
participants. The term "existing assets" for this purpose includes stock
issued by a PruArray or SmartPath Plan sponsor, shares of non-money market
Prudential Mutual Funds and shares of certain unaffiliated non-money market
mutual funds that participate in the PruArray or SmartPath Programs
(Participating Funds). "Existing assets" also include shares of money market
funds acquired by exchange from a Participating Fund, monies invested in The
Guaranteed Interest Account (GIA), a group annuity insurance product issued by
Prudential, and units of The Stable Value Fund (SVF), an unaffiliated bank
collective fund. Class A shares may also be purchased at NAV by plans that
have monies invested in GIA and SVF, provided (i) the purchase is made with
the proceeds of a redemption from either GIA or SVF and (ii) Class A shares
are an investment option of the plan.
PRUARRAY ASSOCIATION BENEFIT PLANS. Class A shares are also offered at net
asset value to Benefit Plans or non-qualified plans sponsored by employers
which are members of a common trade, professional or membership association
(Association) that participate in the PruArray Program provided that the
Association enters into a written agreement with Prudential. Such Benefit
Plans or non-qualified plans may purchase Class A shares at net asset value
without regard to the assets or number of participants in the individual
employer's qualified Plan(s) or non-qualified plans so long as the employers
in the Association (i) have retirement plan assets in the aggregate of at
least $1 million or 250 participants in the aggregate and (ii) maintain their
accounts with the Fund's transfer agent.
PRUARRAY SAVINGS PROGRAM. Class A shares are also offered at net asset value
to employees of companies that enter into a written agreement with Prudential
Retirement Services to participate in the PruArray Savings Program. Under this
Program, a limited number of Prudential Mutual Funds are available for
purchase at net asset value by Individual Retirement Accounts and Savings
Accumulation Plans of the company's employees. The Program is available only
to (i) employees who open an IRA or Savings Accumulation Plan account with the
Fund's transfer agent and (ii) spouses of employees who open an IRA account
with the Fund's transfer agent. The program is offered to companies that have
at least 250 eligible employees.
SPECIAL RULES APPLICABLE TO RETIREMENT PLANS. After a Benefit Plan or
PruArray or SmartPath Plan qualifies to purchase Class A shares at NAV, all
subsequent purchases will be made at NAV.
29
<PAGE>
OTHER WAIVERS. In addition, Class A shares may be purchased at NAV, through
Prudential Securities or the Transfer Agent, by the following persons: (a)
officers and current and former Directors/Trustees of the Prudential Mutual
Funds (including the Fund), (b) employees of Prudential Securities and PMF and
their subsidiaries and members of the families of such persons who maintain an
"employee related" account at Prudential Securities or the Transfer Agent, (c)
employees of subadvisers of the Prudential Mutual Funds provided that
purchases at NAV are permitted by such person's employer, (d) Prudential
employees and special agents of Prudential and its subsidiaries and all
persons who have retired directly from active service with Prudential or one
of its subsidiaries, (e) registered representatives and employees of dealers
who have entered into a selected dealer agreement with Prudential Securities
provided that purchases at NAV are permitted by such person's employer and (f)
investors who have a business relationship with a financial adviser who joined
Prudential Securities from another investment firm, provided that (i) the
purchase is made within 180 days of the commencement of the financial
adviser's employment at Prudential Securities, or within one year in the case
of Benefit Plans, (ii) the purchase is made with proceeds of a redemption of
shares of any open-end, non-money market fund sponsored by the financial
adviser's previous employer (other than a fund which imposes a distribution or
service fee of .25 of 1% or less) and (iii) the financial adviser served as
the client's broker on the previous purchase.
You must notify the Transfer Agent either directly or through Prudential
Securities or Prusec that you are entitled to the reduction or waiver of the
sales charge. The reduction or waiver will be granted subject to confirmation
of your entitlement. No initial sales charges are imposed upon Class A shares
purchased upon the reinvestment of dividends and distributions. See "Purchase
and Redemption of Fund Shares--Reduction and Waiver of Initial Sales Charges--
Class A Shares" in the Statement of Additional Information.
CLASS B AND CLASS C SHARES
The offering price of Class B and Class C shares for investors choosing one
of the deferred sales charge alternatives is the NAV next determined following
receipt of an order by the Transfer Agent, Prudential Securities or Prusec.
Although there is no sales charge imposed at the time of purchase, redemptions
of Class B and Class C shares may be subject to a CDSC. See "How to Sell Your
Shares--Contingent Deferred Sales Charges." The Distributor will pay sales
commissions of up to 4% of the purchase price of Class B shares to dealers,
financial advisers and other persons who sell Class B shares at the time of
sale from its own resources. This facilitates the ability of the Fund to sell
the Class B shares without an initial sales charge being deducted at the time
of purchase. The Distributor anticipates that it will recoup its advancement
of sales commissions from the combination of the CDSC and the distribution
fee. See "How the Fund is Managed--Distributor." In connection with the sale
of Class C shares, the Distributor will pay dealers, financial advisers and
the other persons which distribute Class C shares a sales commission of up to
1% of the purchase price at the time of the sale.
HOW TO SELL YOUR SHARES
YOU CAN REDEEM SHARES OF THE FUND AT ANY TIME FOR CASH AT THE NAV PER SHARE
NEXT DETERMINED AFTER THE REDEMPTION REQUEST IS RECEIVED IN PROPER FORM BY THE
TRANSFER AGENT OR PRUDENTIAL SECURITIES. See "How the Fund Values its Shares."
In certain cases, however, redemption proceeds will be reduced by the amount
of any applicable contingent deferred sales charge, as described below. See
"Contingent Deferred Sales Charges" below.
IF YOU HOLD SHARES OF THE FUND THROUGH PRUDENTIAL SECURITIES, YOU MUST
REDEEM YOUR SHARES BY CONTACTING YOUR PRUDENTIAL SECURITIES FINANCIAL ADVISER.
IF YOU HOLD SHARES IN NON-CERTIFICATE FORM, A WRITTEN REQUEST FOR REDEMPTION
SIGNED BY YOU EXACTLY AS THE ACCOUNT IS REGISTERED IS REQUIRED. IF YOU HOLD
CERTIFICATES, THE CERTIFICATES, SIGNED IN THE NAMES(S) SHOWN ON THE FACE OF
THE CERTIFICATES, MUST BE RECEIVED BY THE TRANSFER AGENT IN ORDER FOR THE
REDEMPTION REQUEST TO BE PROCESSED. IF REDEMPTION IS REQUESTED BY A
CORPORATION, PARTNERSHIP, TRUST OR FIDUCIARY, WRITTEN EVIDENCE OF AUTHORITY
ACCEPTABLE TO THE TRANSFER AGENT MUST BE SUBMITTED BEFORE SUCH REQUEST WILL BE
ACCEPTED. All correspondence and documents concerning redemptions should be
sent to the Fund in care of its Transfer Agent, Prudential Mutual Fund
Services LLC, Attention: Redemption Services, P.O. Box 15010, New Brunswick,
New Jersey 08906-5010.
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<PAGE>
If the proceeds of the redemption (a) exceed $50,000, (b) are to be paid to
a person other than the record owner, (c) are to be sent to an address other
than the address on the Transfer Agent's records, or (d) are to be paid to a
corporation, partnership, trust or fiduciary, the signature(s) on the
redemption request and on the certificates, if any, or stock power must be
guaranteed by an "eligible guarantor institution." An "eligible guarantor
institution" includes any bank, broker, dealer or credit union. The Transfer
Agent reserves the right to request additional information from, and make
reasonable inquiries of, any eligible guarantor institution. For clients of
Prusec, a signature guarantee may be obtained from the agency or office
manager of most Prudential Insurance and Financial Services or Prudential
Preferred Financial Services offices. In the case of redemptions from a
PruArray or SmartPath Plan, if the proceeds of the redemption are invested in
another investment option of the plan, in the name of the record holder and at
the same address as reflected in the Transfer Agent's records, a signature
guarantee is not required.
PAYMENT FOR SHARES PRESENTED FOR REDEMPTION WILL BE MADE BY CHECK WITHIN
SEVEN DAYS AFTER RECEIPT BY THE TRANSFER AGENT OF THE CERTIFICATE AND/OR
WRITTEN REQUEST EXCEPT AS INDICATED BELOW. If you hold shares through
Prudential Securities, payment for shares presented for redemption will be
credited to your Prudential Securities account unless you indicate otherwise.
Such payment may be postponed or the right of redemption suspended at times
(a) when the New York Stock Exchange is closed for other than customary
weekends and holidays, (b) when trading on such Exchange is restricted, (c)
when an emergency exists as a result of which disposal by the Fund of
securities owned by it is not reasonably practicable or it is not reasonably
practicable for the Fund fairly to determine the value of its net assets, or
(d) during any other period when the SEC, by order, so permits; provided that
applicable rules and regulations of the SEC shall govern as to whether the
conditions prescribed in (b), (c) or (d) exist.
PAYMENT FOR REDEMPTION OF RECENTLY PURCHASED SHARES WILL BE DELAYED UNTIL
THE FUND OR ITS TRANSFER AGENT HAS BEEN ADVISED THAT THE PURCHASE CHECK HAS
BEEN HONORED, UP TO 10 CALENDAR DAYS FROM THE TIME OF RECEIPT OF THE PURCHASE
CHECK BY THE TRANSFER AGENT. SUCH DELAY MAY BE AVOIDED BY PURCHASING SHARES BY
WIRE OR BY CERTIFIED OR OFFICIAL BANK CHECK.
REDEMPTION IN KIND. If the Board of Directors determines that it would be
detrimental to the best interests of the remaining shareholders of the Fund to
make payment wholly or partly in cash, the Fund may pay the redemption price
in whole or in part by a distribution in kind of securities from the
investment portfolio of the Fund, in lieu of cash, in conformity with
applicable rules of the SEC. Securities will be readily marketable and will be
valued in the same manner as a regular redemption. See "How the Fund Values
its Shares." If your shares are redeemed in kind, you would incur transaction
costs in converting the assets into cash. The Fund has, however, elected to be
governed by Rule 18f-1 under the Investment Company Act, under which the Fund
is obligated to redeem shares solely in cash up to the lesser of $250,000 or
1% of the net asset value of the Fund during the 90-day period for any one
shareholder.
INVOLUNTARY REDEMPTION. In order to reduce expenses of the Fund, the Board
of Directors may redeem all of the shares of any shareholder, other than a
shareholder which is an IRA or other tax-deferred retirement plan, whose
account has a net asset value of less than $500 due to a redemption. The Fund
will give any such shareholder 60 days' prior written notice in which to
purchase sufficient additional shares to avoid such redemption. No contingent
deferred sales charge will be imposed on any such involuntary redemption.
90-DAY REPURCHASE PRIVILEGE. If you redeem your shares and have not
previously exercised the repurchase privilege, you may reinvest any portion or
all of the proceeds of such redemption in shares of the Fund at the NAV next
determined after the order is received, which must be within 90 days after the
date of redemption. Any contingent deferred sales charge (CDSC) paid in
connection with such redemption will be credited (in shares) to your account.
If less than a full repurchase is made, the credit will be on a pro rata
basis. You must notify the Fund's Transfer Agent, either directly or through
Prudential Securities, at the time the repurchase privilege is exercised to
adjust your account for the CDSC you previously paid.
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<PAGE>
Thereafter, any redemptions will be subject to the CDSC applicable at the time
of the redemption. See "Contingent Deferred Sales Charges" below. Exercise of
the repurchase privilege may affect the federal income tax treatment of any
gain realized upon redemption. For more information on the rule which
disallows a loss on the sale or exchange of shares of the Fund which are
replaced, see "Taxes" in the Statement of Additional Information.
CONTINGENT DEFERRED SALES CHARGES
Redemptions of Class B shares will be subject to a contingent deferred sales
charge or CDSC declining from 5% to zero over a six-year period. Class C
shares redeemed within one year of purchase will be subject to a 1% CDSC. The
CDSC will be deducted from the redemption proceeds and reduce the amount paid
to you. The CDSC will be imposed on any redemption by you which reduces the
current value of your Class B or Class C shares to an amount which is lower
than the amount of all payments by you for shares during the preceding six
years, in the case of Class B shares, and one year, in the case of Class C
shares. A CDSC will be applied on the lesser of the original purchase price or
the current value of the shares being redeemed. Increases in the value of your
shares or shares purchased through reinvestment of dividends or distributions
are not subject to CDSC. The amount of any CDSC will be paid to and retained
by the Distributor. See "How the Fund is Managed--Distributor" and "Waiver of
Contingent Deferred Sales Charges--Class B Shares" below.
The amount of the CDSC, if any, will vary depending on the number of years
from the time of payment for the purchase of your shares until the time of
redemption of such shares. Solely for purposes of determining the number of
years from the time of any payment for the purchase of shares, all payments
during a month will be aggregated and deemed to have been made on the last day
of the month. The CDSC will be calculated from the first day of the month
after the initial purchase, excluding the time shares were held in a money
market fund. See "How to Exchange Your Shares" below.
The following table sets forth the rates of the CDSC applicable to
redemptions of Class B shares:
<TABLE>
<CAPTION>
CONTINGENT DEFERRED SALES
CHARGE AS A PERCENTAGE OF
YEAR SINCE PURCHASE DOLLARS INVESTED OR
PAYMENT MADE REDEMPTION PROCEEDS
------------------- -------------------------
<S> <C>
First.......................................... 5.0%
Second......................................... 4.0%
Third.......................................... 3.0%
Fourth......................................... 2.0%
Fifth.......................................... 1.0%
Sixth.......................................... 1.0%
Seventh........................................ None
</TABLE>
In determining whether a CDSC is applicable to a redemption, the calculation
will be made in a manner that results generally in the lowest possible rate.
It will be assumed that the redemption is made first of amounts representing
shares acquired pursuant to the reinvestment of dividends and distributions;
then of amounts representing the increase in net asset value above the total
amount of payments for the purchase of Fund shares made during the preceding
six years; then of amounts representing the cost of shares held beyond the
applicable CDSC period; and finally, of amounts representing the cost of
shares held for the longest period of time within the applicable CDSC period.
For example, assume you purchased 800 Class B shares at $12.50 per share for
a cost of $10,000. Subsequently, you acquired 5 additional Class B shares
through dividend reinvestment. During the second year after the purchase, you
decided to redeem $5,000 of your investment. Assuming at the time of the
redemption the NAV had appreciated to $15 per share, the value of your Class B
shares would be $12,075 (805 shares at $15 per share). The CDSC would not be
applied to the
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<PAGE>
value of the reinvested dividend shares and the amount which represents
appreciation ($2,075). Therefore, $2,925 of the $5,000 redemption proceeds
($5,000 minus $2,075) would be charged at a rate of 4% (the applicable rate in
the second year after purchase) for a total CDSC of $117.
For federal income tax purposes, the amount of the CDSC will reduce the gain
or increase the loss, as the case may be, on the amount recognized on the
redemption of shares.
WAIVER OF CONTINGENT DEFERRED SALES CHARGES--CLASS B SHARES. The CDSC will
be waived in the case of a redemption following the death or disability of a
shareholder or, in the case of a trust account, following the death or
disability of the grantor. The waiver is available for total or partial
redemptions of shares owned by a person, either individually or in joint
tenancy (with rights of survivorship), or a trust, at the time of death or
initial determination or disability, provided that the shares were purchased
prior to death or disability.
The CDSC will also be waived in the case of a total or partial redemption in
connection with certain distributions made without penalty under the Internal
Revenue Code from a tax-deferred retirement plan, an IRA or Section 403(b)
custodial account. These distributions include: (i) in the case of a tax-
deferred retirement plan, a lump-sum or other distribution after retirement;
(ii) in the case of an IRA or Section 403(b) custodial account, a lump-sum or
other distribution after attaining age 59 1/2; and (iii) a tax-free return of
an excess contribution or plan distributions following the death or disability
of the shareholder, provided that the shares were purchased prior to death or
disability. The waiver does not apply in the case of a tax-free rollover or
transfer of assets, other than one following a separation from service, i.e.,
following voluntary or involuntary termination of employment or following
retirement. Under no circumstances will the CDSC be waived on redemptions
resulting from the termination of a tax-deferred retirement plan unless such
redemptions otherwise qualify as a waiver as described above. In the case of
Direct Account and PSI or Subsidiary Prototype Benefit Plans, the CDSC will be
waived on redemptions which represent borrowings from such plans. Shares
purchased with amounts used to repay a loan from such plans on which a CDSC
was not previously deducted will thereafter be subject to a CDSC without
regard to the time such amounts were previously invested. In the case of a
401(k) plan, the CDSC will also be waived upon the redemption of shares
purchased with amounts used to repay loans made from the account to the
participant and from which a CDSC was previously deducted.
In addition, the CDSC will be waived on redemptions of shares held by a
Director of the Fund.
You must notify the Transfer Agent either directly or through Prudential
Securities or Prusec, at the time of redemption, that you are entitled to
waiver of the CDSC and provide the Transfer Agent with such supporting
documentation as it may deem appropriate. The waiver will be granted subject
to confirmation of your entitlement. See "Purchase and Redemption of Fund
Shares--Waiver of the Contingent Deferred Sales Charge--Class B Shares" in the
Statement of Additional Information.
CONVERSION FEATURE--CLASS B SHARES
Class B shares will automatically convert to Class A shares on a quarterly
basis approximately seven years after purchase. Conversions will be effected
at relative net asset value without the imposition of any additional sales
charge.
Since the Fund tracks amounts paid rather than the number of shares bought
on each purchase of Class B shares, the number of Class B shares eligible to
convert to Class A shares (excluding shares acquired through the automatic
reinvestment of dividends and other distributions) (the Eligible Shares) will
be determined on each conversion date in accordance with the following
formula: (i) the ratio of (a) the amounts paid for Class B shares purchased at
least seven years prior to the conversion date to (b) the total amount paid
for all Class B shares purchased and then held in your account (ii) multiplied
by the total number of Class B shares then in your account. Each time any
Eligible Shares in your account convert to Class A shares, all shares or
amounts representing Class B shares then in your account that were acquired
through the automatic reinvestment of dividends and other distributions will
convert to Class A shares.
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<PAGE>
For purposes of determining the number of Eligible Shares, if the Class B
shares in your account on any conversion date are the result of multiple
purchases at different net asset values per share, the number of Eligible
Shares calculated as described above will generally be either more or less
than the number of shares actually purchased approximately seven years before
such conversion date. For example, if 800 shares were initially purchased at
$12.50 per share (for a total of $10,000) and a second purchase of 100 shares
was subsequently made at $15 per share (for a total of $1,500), 95.24 shares
would convert approximately seven years from the initial purchase (i.e.,
$10,000 divided by $11,500 or 86.96% multiplied by 900 shares or 782.64
shares). The Manager reserves the right to modify the formula for determining
the number of Eligible Shares in the future as it deems appropriate on notice
to shareholders.
Since annual distribution-related fees are lower for Class A shares than
Class B shares, the per share net asset value of the Class A shares may be
higher than that of the Class B shares at the time of conversion. Thus,
although the aggregate dollar value will be the same, you may receive fewer
Class A shares than Class B shares converted. See "How the Fund Values its
Shares."
For purposes of calculating the applicable holding period for conversions,
all payments for Class B shares during a month will be deemed to have been
made on the last day of the month, or for Class B shares acquired through
exchange, or a series of exchanges, on the last day of the month in which the
original payment for purchases of such Class B shares was made. For Class B
shares previously exchanged for shares of a money market fund, the time period
during which such shares were held in the money market fund will be excluded.
For example, Class B shares held in a money market fund for one year will not
convert to Class A shares until approximately eight years from purchase. For
purposes of measuring the time period during which shares are held in a money
market fund, exchanges will be deemed to have been made on the last day of the
month. Class B shares acquired through exchange will convert to Class A shares
after expiration of the conversion period applicable to the original purchase
of such shares.
The conversion feature is subject to the continuing availability of opinions
of counsel or rulings of the Internal Revenue Service (i) that the dividends
and other distributions paid on Class A, Class B and Class C shares will not
constitute "preferential dividends" under the Internal Revenue Code and (ii)
that the conversion of shares does not constitute a taxable event. The
conversion of Class B shares into Class A shares may be suspended if such
opinions or rulings are no longer available. If conversions are suspended,
Class B shares of the Fund will continue to be subject, possibly indefinitely,
to their higher annual distribution and service fee.
HOW TO EXCHANGE YOUR SHARES
AS A SHAREHOLDER OF THE FUND, YOU HAVE AN EXCHANGE PRIVILEGE WITH CERTAIN
OTHER PRUDENTIAL MUTUAL FUNDS, INCLUDING ONE OR MORE SPECIFIED MONEY MARKET
FUNDS, SUBJECT TO THE MINIMUM INVESTMENT REQUIREMENTS OF SUCH FUNDS. CLASS A,
CLASS B AND CLASS C SHARES MAY BE EXCHANGED FOR CLASS A, CLASS B AND CLASS C
SHARES, RESPECTIVELY, OF ANOTHER FUND ON THE BASIS OF THE RELATIVE NAV. No
sales charge will be imposed at the time of exchange. Any applicable CDSC
payable upon the redemption of shares exchanged will be that imposed by the
fund in which shares are initially purchased and will be calculated from the
first day of the month after the initial purchase, excluding the time shares
were held in a money market fund. Class B and Class C shares may not be
exchanged into money market funds other than Prudential Special Money Market
Fund. For purposes of calculating the holding period applicable to the Class B
conversion feature, the time period during which Class B shares were held in a
money market fund will be excluded. See "Conversion Feature--Class B Shares"
above. An exchange will be treated as a redemption and purchase for tax
purposes. See "Shareholder Investment Account--Exchange Privilege" in the
Statement of Additional Information.
IN ORDER TO EXCHANGE SHARES BY TELEPHONE, YOU MUST AUTHORIZE TELEPHONE
EXCHANGES ON YOUR INITIAL APPLICATION FORM OR BY WRITTEN NOTICE TO THE
TRANSFER AGENT AND HOLD SHARES IN NON-CERTIFICATE FORM. Thereafter, you may
call the
34
<PAGE>
Fund at (800) 225-1852 to execute a telephone exchange of shares, on weekdays,
except holidays, between the hours of 8:00 A.M. and 6:00 P.M., New York time.
For your protection and to prevent fraudulent exchanges, your telephone call
will be recorded and you will be asked to provide your personal identification
number. A written confirmation of the exchange transaction will be sent to
you. NEITHER THE FUND NOR ITS AGENTS WILL BE LIABLE FOR ANY LOSS, LIABILITY OR
COST WHICH RESULTS FROM ACTING UPON INSTRUCTIONS REASONABLY BELIEVED TO BE
GENUINE UNDER THE FOREGOING PROCEDURES. All exchanges will be made on the
basis of the relative NAV of the two funds next determined after the request
is received in good order. The exchange privilege is available only in states
where the exchange may legally be made.
IF YOU HOLD SHARES THROUGH PRUDENTIAL SECURITIES, YOU MUST EXCHANGE YOUR
SHARES BY CONTACTING YOUR PRUDENTIAL SECURITIES FINANCIAL ADVISER.
IF YOU HOLD CERTIFICATES, THE CERTIFICATES, SIGNED IN THE NAME(S) SHOWN ON
THE FACE OF THE CERTIFICATES, MUST BE RETURNED IN ORDER FOR THE SHARES TO BE
EXCHANGED. SEE "HOW TO SELL YOUR SHARES" ABOVE.
You may also exchange shares by mail by writing to Prudential Mutual Fund
Services LLC, Attention: Exchange Processing, P.O. Box 15010, New Brunswick,
New Jersey 08906-5010.
IN PERIODS OF SEVERE MARKET OR ECONOMIC CONDITIONS THE TELEPHONE EXCHANGE OF
SHARES MAY BE DIFFICULT TO IMPLEMENT AND YOU SHOULD MAKE EXCHANGES BY MAIL BY
WRITING TO PRUDENTIAL MUTUAL FUND SERVICES, INC., AT THE ADDRESS NOTED ABOVE.
SPECIAL EXCHANGE PRIVILEGE. A special exchange privilege is available for
shareholders who qualify to purchase Class A shares at NAV (see "Alternative
Purchase Plan--Class A Shares--Reduction and Waiver of Initial Sales Charges"
above). Under this exchange privilege, amounts representing any Class B and
Class C shares (which are not subject to a CDSC) held in such a shareholder's
account will be automatically exchanged for Class A shares on a quarterly
basis, unless the shareholder elects otherwise. Eligibility for this exchange
privilege will be calculated on the business day prior to the date of the
exchange. Amounts representing Class B or Class C shares which are not subject
to a CDSC include the following: (1) amounts representing Class B or Class C
shares acquired pursuant to the automatic reinvestment of dividends and
distributions, (2) amounts representing the increase in the net asset value
above the total amount of payments for the purchase of Class B or Class C
shares and (3) amounts representing Class B or Class C shares held beyond the
applicable CDSC period. Class B and Class C shareholders must notify the
Transfer Agent either directly or through Prudential Securities or Prusec that
they are eligible for this special exchange privilege.
The Fund reserves the right to reject any exchange order including exchanges
(and market timing transactions) which are of a size and/or frequency engaged
in by one or more accounts acting in concert or otherwise, that have or may
have an adverse effect on the ability of the Subadviser to manage the
portfolio. The determination that such exchanges or activity may have an
adverse effect and the determination to reject any exchange order shall be in
the discretion of the Manager and the Subadviser.
The exchange privilege is not a right and may be suspended, modified or
terminated on 60 days' notice to shareholders.
SHAREHOLDER SERVICES
In addition to the exchange privilege, as a shareholder in the Fund, you can
take advantage of the following additional services and privileges:
. AUTOMATIC REINVESTMENT OF DIVIDENDS AND/OR DISTRIBUTIONS WITHOUT A SALES
CHARGE. For your convenience, all dividends and distributions are
automatically reinvested in full and fractional shares of the Fund at NAV
without a sales
35
<PAGE>
charge. You may direct the Transfer Agent in writing not less than 5 full
business days prior to the record date to have subsequent dividends and/or
distributions sent in cash rather than reinvested. If you hold shares through
Prudential Securities, you should contact your financial adviser.
. AUTOMATIC SAVINGS ACCUMULATION PLAN (ASAP). Under ASAP you may make
regular purchases of the Fund's shares via an automatic debit to a bank
account or Prudential Securities account (including a Command Account). For
additional information about this service, you may contact your Prudential
Securities financial adviser, Prusec representative or the Transfer Agent
directly.
. TAX-DEFERRED RETIREMENT PLANS. Various tax-deferred retirement plans,
including a 401(k) plan, self-directed individual retirement accounts and
"tax-sheltered accounts" under Section 403(b)(7) of the Internal Revenue Code
are available through the Distributor. These plans are for use by both self-
employed individuals and corporate employers. These plans permit either self-
direction of accounts by participants, or a pooled account arrangement.
Information regarding the establishment of these plans, the administration,
custodial fees and other details is available from Prudential Securities or
the Transfer Agent. If you are considering adopting such a plan, you should
consult with your own legal or tax adviser with respect to the establishment
and maintenance of such a plan.
. SYSTEMATIC WITHDRAWAL PLAN. A systematic withdrawal plan is available to
shareholders, which provides for monthly or quarterly checks. Withdrawals of
Class B and Class C shares may be subject to a CDSC. See "How to Sell Your
Shares--Contingent Deferred Sales Charges." See also "Shareholder Investment
Account--Systematic Withdrawal Plan" in the Statement of Additional
Information.
. REPORTS TO SHAREHOLDERS. The Fund will send you annual and semi-annual
reports. The financial statements appearing in annual reports are audited by
independent accountants. In order to reduce duplicate mailing and printing
expenses, the Fund will provide one annual and semi-annual shareholder report
and annual prospectus per household. You may request additional copies of such
reports by calling (800) 225-1852 (toll-free) or by writing to the Fund at
Gateway Center Three, Newark, New Jersey 07102. In addition, monthly unaudited
financial data are available upon request from the Fund.
. SHAREHOLDER INQUIRIES. Inquiries should be addressed to the Fund at
Gateway Center Three, Newark, New Jersey 07102, or by telephone, at (800) 225-
1852 (toll-free) or, from outside the U.S.A., at (908) 417-7555 (collect).
For additional information regarding the services and privileges described
above, see "Shareholder Investment Account" in the Statement of Additional
Information.
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<PAGE>
APPENDIX A
DESCRIPTION OF SECURITY RATINGS
MOODY'S INVESTORS SERVICE
BOND RATINGS
AAA: Bonds which are rated Aaa are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally referred to as
"gilt edged." Interest payments are protected by a large or by an
exceptionally stable margin and principal is secure. While the various
protective elements are likely to change, such changes as can be visualized
are most unlikely to impair the fundamentally strong position of such issues.
AA: Bonds which are rated Aa are judged to be of high quality by all
standards. Together with the Aaa group they comprise what are generally known
as high grade bonds. They are rated lower than the best bonds because margins
of protection may not be as large as in Aaa securities or fluctuations of
protective elements may be of greater amplitude or there may be other elements
present which make the long-term risks appear somewhat larger than in Aaa
securities.
A: Bonds which are rated A possess many favorable investment attributes and
are to be considered as upper medium grade obligations. Factors giving
security to principal and interest are considered adequate, but elements may
be present which suggest a susceptibility to impairment some time in the
future.
BAA: Bonds which are rated Baa are considered as medium grade obligations,
i.e., they are neither highly protected nor poorly secured. Interest payments
and principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
BA: Bonds which are rated Ba are judged to have speculative elements; their
future cannot be considered as well assured. Often the protection of interest
and principal payments may be very moderate and thereby not well safeguarded
during both good and bad times over the future. Uncertainty of position
characterizes bonds in this class.
B: Bonds which are rated B generally lack characteristics of the desirable
investment. Assurance of interest and principal payments or of maintenance of
other terms of the contract over any long period of time may be small.
CAA: Bonds which are rated Caa are of poor standing. Such issues may be in
default or there may be present elements of danger with respect to principal
or interest.
CA: Bonds which are rated Ca represent obligations which are speculative in
a high degree. Such issues are often in default or have other marked
shortcomings.
C: Bonds which are rated C are the lowest rated class of bonds, and issues
so rated can be regarded as having extremely poor prospects of ever attaining
any real investment standing.
SHORT-TERM DEBT RATINGS
Moody's Short-Term Debt Ratings are opinions of the ability of issuers to
repay punctually senior debt obligations which have an original maturity not
exceeding one year, unless explicitly noted.
PRIME-1: Issuers rated Prime-1 (or supporting institutions) have a superior
ability for repayment of senior short-term debt obligations.
A-1
<PAGE>
PRIME-2: Issuers rated Prime-2 (or supporting institutions) have a strong
ability for repayment of senior short-term debt obligations.
PRIME 3: Issuers rated Prime-3 (or supporting institutions) have an
acceptable ability for repayment of senior short-term debt obligations.
NOT PRIME: Issuers rated Not Prime do not fall within any of the Prime
rating categories.
SHORT-TERM MUNICIPAL RATINGS
Moody's ratings for tax-exempt notes and other short-term loans are
designated Moody's Investment Grade (MIG). This distinction is in recognition
of the differences between short-term and long-term credit risk.
MIG 1: Loans bearing the designation MIG 1 are of the best quality, enjoying
strong protection by established cash flows, superior liquidity support or
demonstrated broad-based access to the market for refinancing.
MIG 2: Loans bearing the designation MIG 2 are of high quality, with margins
of protection ample although not so large as in the preceding group.
MIG 3: Loans bearing the designation MIG 3 are of favorable quality, with
all security elements accounted for but lacking strength of the preceding
grades. Liquidity and cash flow protection may be narrow and market access for
refinancing is likely to be less well established.
MIG 4: Loans bearing the designation MIG 4 are of adequate quality.
Protection commonly regarded and required of an investment security is present
and although not distinctly or predominantly speculative, there is specific
risk.
STANDARD & POOR'S RATINGS GROUP
BOND RATINGS
AAA: Debt rated AAA has the highest rating assigned by S&P to a debt
obligation. Capacity to pay interest and repay principal is extremely strong.
AA: Debt rated AA has a very strong capacity to pay interest and repay
principal and differs from the higher rated issues only in small degree.
A: Debt rated A has strong capacity to pay interest and repay principal
although it is somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions than debt in higher rated categories.
BBB: Debt rated BBB is regarded as having an adequate capacity to pay
interest and repay principal. Whereas it normally exhibits adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay interest and repay principal for
debt in this category than for debt in higher rated categories.
BB, B, CCC, CC AND C: Debt rated BB, B, CCC, CC and C is regarded as having
predominantly speculative characteristics with respect to capacity to pay
interest and repay principal. BB indicates the least degree of speculation and
C the highest. While such debt will likely have some quality and protective
characteristics, these are outweighed by large uncertainties or major
exposures to adverse conditions.
BB: Debt rated BB has less near-term vulnerability to default than other
speculative issues. However, it faces major ongoing uncertainties or exposure
to adverse business, financial or economic conditions which could lead to
inadequate
A-2
<PAGE>
capacity to meet timely interest and principal payments. The BB rating
category is also used for debt subordinated to senior debt that is assigned an
actual or implied BBB- rating.
B: Debt rated B has a greater vulnerability to default but currently has the
capacity to meet interest payments and principal repayments. Adverse business,
financial or economic conditions will likely impair capacity or willingness to
pay interest and repay principal. The B rating category is also used for debt
subordinated to senior debt that is assigned an actual or implied BB or BB-
rating.
CCC: Debt rated CCC has a currently identifiable vulnerability to default,
and is dependent upon favorable business, financial and economic conditions to
meet timely payment of interest and repayment of principal. In the event of
adverse business, financial or economic conditions, it is not likely to have
the capacity to pay interest and repay principal. The CCC rating category is
also used for debt subordinated to senior debt that is assigned an actual or
implied B or B- rating.
CC: The rating CC typically is applied to debt subordinated to senior debt
that is assigned an actual or implied CCC rating.
C: The rating C typically is applied to debt subordinated to senior debt
which is assigned an actual or implied CCC- debt rating. The C rating maybe
used to cover a situation where a bankruptcy petition has been filed, but debt
service payments are continued.
C1: The rating C1 is reserved for income bonds on which no interest is being
paid.
D: Debt rated D is in payment default. The D rating category is used when
interest payments or principal payments are not made on the date due even if
the applicable grace period has not expired, unless S&P believes that such
payments will be made during such grace period. The D rating also will be used
upon the filing of a bankruptcy petition if debt service payments are
jeopardized.
COMMERCIAL PAPER
Standard & Poor's commercial paper ratings are current assessments of the
likelihood of timely payment of debt considered short-term in the relevant
market.
A-1: This highest category indicates that the degree of safety regarding
timely payment is strong.
A-2: Capacity for timely payment on issues with this designation is
satisfactory. However, the relative degree of safety is not as high as for
issues designated A-1.
A-3: Issues carrying this designation have adequate capacity for timely
payment. They are, however, more vulnerable to the adverse effects of changes
in circumstances than obligations carrying the higher designations.
MUNICIPAL NOTES
A municipal note rating reflects the liquidity concerns and market access
risks unique to municipal notes. Municipal notes due in three years or less
will likely receive a municipal note rating, while notes maturing beyond three
years will most likely receive a long-term debt rating. Municipal notes are
rated SP-1, SP-2 or SP-3. The designation SP-1 indicates a strong capacity to
pay principal and interest. Those issues determined to possess extremely
strong safety characteristics are denoted with a plus sign (+) designation. An
SP-2 designation indicates a satisfactory capacity to pay principal and
interest, with some vulnerability to adverse financial and economic changes
over the term of the notes. An SP-3 designation indicates speculative capacity
to pay principal and interest.
A-3
<PAGE>
APPENDIX B
MARKETING INFORMATION
In 1995, while the U.S. stock market seemed to reach new highs each day, as
measured by the S&P 500 Index and the Dow Jones Industrial Average, many
companies were experiencing strong financial growth and resounding success.
Yet many other companies were experiencing financial difficulties --
defaulting on their debt, filing for bankruptcy, progressing through
"workouts", trying to restructure and reorganize their businesses in order to
get back on solid footing. Astute investors may benefit by researching and
identifying companies that are poised to "turnaround."
Over the past 10 years -- a period which saw the S&P 500 Index/1/ rise a
cumulative 299% as of December 31, 1995 -- the number of bankruptcy filings,
debt restructurings and high yield bond defaults by public companies rose to
record levels. Corporate issuers defaulted on over $78 billion in public debt
alone. [Source: C.S. First Boston, 1986 to 1995.]
Historically, investing in troubled companies had been the domain of
professional money managers investing assets on behalf of private and large
institutional investors. These investors had the resources and the capital to
monitor, research and analyze securities which were little-known or not widely
followed. Investing in distressed securities is a long-term proposition in
which complete turnarounds may not be realized for several years. Many
institutional investors with long-term time horizons had the capital and the
foresight to hold these types of investments for a long period in anticipation
of a financial recovery or turnaround. Investing in the securities of
financially and operationally troubled issuers has been a profitable venture
for some investors, although these investments offer the potential for
substantial loss as well as gain, and there can be no assurance of success.
THE FUND'S STRATEGY
The Fund provides individual investors with an opportunity to participate in
the distressed securities market. This Fund will assume greater investment
risks than other Prudential Mutual Funds. The Fund will invest in the stocks
and bonds of financially troubled companies that the portfolio managers
believe offer positive prospects for turnaround, perhaps because of changing
economic conditions, new management or corporate restructuring.
The Fund's portfolio managers will use a value investment style that seeks
to identify and analyze little-known, out-of-favor securities. The portfolio
managers have access to extensive resources including a team of credit
analysts, and will use their specialized knowledge of troubled securities to
evaluate the underlying assets of these companies. This may help the Fund buy
the securities at an attractive price, and may increase the odds for the
Fund's long term success. Of course, there can be no assurance that the
portfolio managers will successfully identify companies poised for turnaround
or other special situations.
. The portfolio managers will seek to identify securities of bankrupt
companies, primarily bonds, which they think will recover and eventually
be replaced by newly-issued securities at greater value.
. The Fund will also invest in high-yield junk bonds of companies which
appear to be in trouble but which the portfolio managers do not believe
will actually default based upon their research and analysis.
. The Fund will also purchase newly issued equity from companies emerging
from bankruptcy.
. The Fund will also look for underpriced stocks and bonds of solvent but
out-of-favor (unloved) companies.
. The Fund may take significant positions in certain troubled securities,
particularly relative to the overall market for those securities.
- --------
/1/ The S&P 500 Index is a weighted unmanaged index composed of 500 stocks
which provide a broad indication of stock price movements.
B-1
<PAGE>
For example, the Fund may consider purchasing the bonds of a nationwide retail
store that had a strong franchise and above average sales, but was burdened
with too much debt and filed for bankruptcy. In this instance, the Subadviser
would evaluate the current value of the bonds and the potential for capital
appreciation against the company's asset valuations, prospects for a favorable
company restructuring or reorganization or chance for a firm buy out.
A CONTRARIAN APPROACH
Uncovering attractive investment opportunities among out-of-favor, little-
followed, deeply undervalued or bankrupt companies requires a very different
type of analysis than conventional security analysis. The Fund's portfolio
managers will use traditional fixed-income security analysis, which focuses on
a company's ability to generate enough cash to meet interest expenses, and
traditional equity analysis, which tries to determine the direction and
magnitude of a company's future earnings, for stocks and coupon-paying bonds
that appear to be undervalued but not in danger of bankruptcy. For troubled
securities, the portfolio managers will attempt to evaluate a company's true
worth based on the value of its underlying assets. The Fund's portfolio
managers will use this "asset-based" approach in managing the Fund. While no
one analysis technique is guaranteed, an "asset-based" analysis can frequently
uncover investment opportunities in troubled companies that conventional
security analysis might have missed.
UNDERSTAND THE RISKS
Unlike many general equity mutual funds which are designed to appeal to many
kinds of investors, the Prudential Distressed Securities Fund is designed for
sophisticated, knowledgeable investors.
. You should understand the inherent risks of troubled or deeply undervalued
stocks or bonds.
. The Fund may take significant positions in certain troubled securities,
particularly relative to the overall market for those securities.
. These troubled securities -- including lower quality junk bonds -- are less
liquid and more volatile than securities of companies not experiencing
financial difficulties. They may not be as actively traded as other
securities and therefore it may be more difficult to sell them on any given
day.
. To reduce certain risks of investments and in an attempt to enhance return,
the Fund may also invest in derivative securities, including futures and
options, which have their own risks.
. Furthermore, the prices of these troubled securities are often erratic and
abrupt. There's sometimes a wide spread between bid and ask prices.
. The Fund may invest in foreign securities, which are subject to special
risks, including currency fluctuations and social, political and economic
change.
. The low quality junk bonds that the Fund will invest in may be highly
leveraged and may carry a greater likelihood of default during an economic
downturn.
. You must understand that investing in distressed or troubled securities
often involves several years of "waiting" before an individual company's
value becomes recognized by other investors. Also, there is the possibility
that the security will not increase in value or become worthless. Investors
must have the financial ability and willingness to remain invested for the
long term.
. The Prudential Distressed Securities Fund is not a complete investment
program. You will assume a higher degree of risk than other mutual funds.
B-2
<PAGE>
THE PRUDENTIAL MUTUAL FUND FAMILY
Prudential Mutual Fund Management offers a broad range of mutual funds
designed to meet your individual needs. We welcome you to review the
investment options available through our family of funds. For more information
on the Prudential Mutual Funds, including charges and expenses, contact your
Prudential Securities financial adviser or Prusec representative or telephone
the Fund at (800) 225-1852 for a free prospectus. Read the prospectus
carefully before you invest or send money.
TAXABLE BOND FUNDS
Prudential Diversified Bond Fund, Inc.
Prudential Government Income Fund, Inc.
Prudential Government Securities Trust
Short-Intermediate Term Series
Prudential High Yield Fund, Inc.
Prudential Mortgage Income Fund, Inc.
Prudential Structured Maturity Fund, Inc.
Income Portfolio
The BlackRock Government Income Trust
TAX-EXEMPT BOND
FUNDS
Prudential California Municipal Fund
California Series
California Income Series
Prudential Municipal Bond Fund
High Yield Series
Insured Series
Intermediate Series
Prudential Municipal Series Fund
Florida Series
Hawaii Income Series
Maryland Series
Massachusetts Series
Michigan Series
New Jersey Series
New York Series
North Carolina Series
Ohio Series
Pennsylvania Series
Prudential National Municipals Fund, Inc.
GLOBAL FUNDS
Prudential Europe Growth Fund, Inc.
Prudential Global Genesis Fund, Inc.
Prudential Global Limited Maturity Fund, Inc.
Limited Maturity Portfolio
Prudential Intermediate Global Income Fund, Inc.
Prudential Natural Resources Fund, Inc.
Prudential Pacific Growth Fund, Inc.
Prudential World Fund, Inc.
Global Series
International Stock Series
The Global Government Plus Fund, Inc.
The Global Total Return Fund, Inc.
Global Utility Fund, Inc.
EQUITY FUNDS
Prudential Allocation Fund
Balanced Portfolio
Strategy Portfolio
Prudential Distressed Securities Fund, Inc.
Prudential Dryden Fund
Prudential Active Balanced Fund
Prudential Stock Index Fund
Prudential Emerging Growth Fund, Inc.
Prudential Equity Fund, Inc.
Prudential Equity Income Fund
Prudential Jennison Series Fund, Inc.
Prudential Jennison Growth Fund
Prudential Jennison Growth & Income Fund
Prudential Multi-Sector Fund, Inc.
Prudential Small Companies Fund, Inc.
Prudential Utility Fund, Inc.
Nicholas-Applegate Fund, Inc.
Nicholas-Applegate Growth Equity Fund
MONEY MARKET FUNDS
. Taxable Money Market Funds
Prudential Government Securities Trust
Money Market Series
U.S. Treasury Money Market Series
Prudential Special Money Market Fund, Inc.
Money Market Series
Prudential MoneyMart Assets, Inc.
. Tax-Free Money Market Funds
Prudential Tax-Free Money Fund, Inc.
Prudential California Municipal Fund
California Money Market Series
Prudential Municipal Series Fund
Connecticut Money Market Series
Massachusetts Money Market Series
New Jersey Money Market Series
New York Money Market Series
. Command Funds
Command Money Fund
Command Government Fund
Command Tax-Free Fund
. Institutional Money Market Funds
Prudential Institutional Liquidity Portfolio, Inc.
Institutional Money Market Series
C-1
<PAGE>
No dealer, sales representative or any other person has been authorized to give
any information or to make any representations, other than those contained in
this Prospectus, in connection with the offer contained herein, and, if given
or made, such other information or representations must not be relied upon as
having been authorized by the Fund or the Distributor. This Prospectus does not
constitute an offer by the Fund or by the Distributor to sell or a solicitation
of any offer to buy any of the securities offered hereby in any jurisdiction to
any person to whom it is unlawful to make such offer in such jurisdiction.
- --------------------------------------------------------------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
FUND HIGHLIGHTS............................................................ 2
What are the Fund's Risk Factors and Special Characteristics?............. 2
FUND EXPENSES.............................................................. 4
FINANCIAL HIGHLIGHTS....................................................... 5
HOW THE FUND INVESTS....................................................... 6
Investment Objective and Policies......................................... 6
Risks of Financially and Operationally Troubled
Issuers.................................................................. 7
Risk Factors Relating to Investing in Debt
Securities Rated Below Investment Grade
(Junk Bonds)............................................................. 8
Risk Factors Relating to Investing in Foreign
Securities............................................................... 9
Investment Policies and Techniques ....................................... 10
Hedging and Return Enhancement Strategies................................. 16
Investment Restrictions................................................... 18
HOW THE FUND IS MANAGED.................................................... 19
Manager................................................................... 19
Distributor............................................................... 19
Fee Waivers and Subsidy................................................... 21
Portfolio Transactions.................................................... 22
Custodian and Transfer and Dividend Disbursing Agent...................... 22
HOW THE FUND VALUES ITS SHARES............................................. 22
HOW THE FUND CALCULATES PERFORMANCE........................................ 23
TAXES, DIVIDENDS AND DISTRIBUTIONS......................................... 23
GENERAL INFORMATION........................................................ 25
Description of Common Stock............................................... 25
Additional Information.................................................... 26
SHAREHOLDER GUIDE.......................................................... 26
How to Buy Shares of the Fund............................................. 26
Alternative Purchase Plan................................................. 27
How to Sell Your Shares................................................... 30
Conversion Feature--Class B Shares........................................ 33
How to Exchange Your Shares............................................... 34
Shareholder Services...................................................... 35
APPENDIX...................................................................
A--Description of Security Ratings........................................ A-1
B--Marketing Information.................................................. B-1
THE PRUDENTIAL MUTUAL FUND FAMILY.......................................... C-1
</TABLE>
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MF171A
<TABLE>
<S> <C>
Class A:743966-10-3
CUSIP No.: Class B:743966-20-2
Class C:743966-30-1
</TABLE>
PRUDENTIAL
DISTRESSED
SECURITIES
FUND, INC.
----------------------------------------------------------------------------
PROSPECTUS
JANUARY 29, 1997
[LOGO] PRUDENTIAL
Investments
<PAGE>
PRUDENTIAL DISTRESSED SECURITIES FUND, INC.
Statement of Additional Information dated January 29, 1997
Prudential Distressed Securities Fund, Inc. (the Fund), is an open-end,
diversified, management investment company whose investment objective is
capital appreciation. The Fund seeks to achieve its objective by investing
primarily in debt and equity securities issued by financially troubled or
bankrupt companies (financially troubled issuers) and in equity securities of
companies that in the view of its investment adviser are currently
undervalued, out-of-favor or price-depressed relative to their long term
potential for growth and income (operationally troubled issuers). These
issuers may be experiencing poor operating results. The Fund may engage in
various derivative transactions, including the purchase and sale of put and
call options on securities, stock indices and foreign currencies, the purchase
and sale of foreign currency exchange contracts and transactions involving
futures contracts and related options to hedge its portfolio and to attempt to
enhance return. There can be no assurance that the Fund's investment objective
will be achieved. See "Investment Objective and Policies."
The Fund's address is Gateway Center Three, Newark, New Jersey 07102, and
its telephone number is (800) 225-1852.
This Statement of Additional Information is not a prospectus and should be
read in conjunction with the Fund's Prospectus dated January 29, 1997, a copy
of which may be obtained from the Fund upon request.
TABLE OF CONTENTS
<TABLE>
<CAPTION>
CROSS-REFERENCE
TO PAGE IN
PAGE PROSPECTUS
----- ---------------
<S> <C> <C>
Investment Objective and Policies........................ B-2 6
Investment Restrictions.................................. B-17 18
Directors and Officers................................... B-18 19
Manager.................................................. B-22 19
Distributor.............................................. B-24 19
Portfolio Transactions and Brokerage..................... B-27 22
Purchase and Redemption of Fund Shares................... B-28 26
Shareholder Investment Account........................... B-32 26
Net Asset Value.......................................... B-35 22
Taxes.................................................... B-36 23
Performance Information.................................. B-39 23
Custodian, Transfer and Dividend Disbursing Agent and In-
dependent Accountants................................... B-41 22
Financial Statements..................................... B-42 --
Independent Auditors' Report............................. B-51 --
Appendix I--Historical Performance Data.................. I-1 --
Appendix II--General Investment Information.............. II-1 --
Appendix III--Information Relating to The Prudential..... III-1 --
</TABLE>
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MF171B
<PAGE>
INVESTMENT OBJECTIVE AND POLICIES
The Fund's investment objective is capital appreciation. The Fund will seek
to achieve its objective by investing primarily in debt and equity securities
issued by companies that are in weak financial condition or bankrupt
(financially troubled issuers) and in equity securities of companies that, in
the view of its investment adviser, The Prudential Investment Corporation
(PIC, the Subadviser or the investment adviser), are currently undervalued,
out-of-favor or price-depressed relative to their long term potential for
growth and income (operationally troubled issuers). These companies may be
experiencing poor operating results. Current income is not a factor in the
selection of investments. The Fund will purchase and sell put and call options
on securities, stock indices and foreign currencies, and engage in
transactions involving futures contracts and related options to hedge its
portfolio and to attempt to enhance return. There can be no assurance that the
Fund's objective will be achieved. See "How the Fund Invests--Investment
Objective and Policies" in the Prospectus.
SECURITIES OF FINANCIALLY AND OPERATIONALLY TROUBLED ISSUERS
The securities of financially and operationally troubled issuers may require
active monitoring and at times may require the Fund's investment adviser to
participate in bankruptcy or reorganization proceedings on behalf of the Fund.
To the extent the investment adviser becomes involved in such proceedings, the
Fund may have a more active participation in the affairs of the issuer than is
generally assumed by an investor and such participation may subject the Fund
to the litigation risks described below. However, the Fund does not invest in
the securities of financially or operationally troubled issuers for the
purpose of exercising day-to-day management of any issuer's affairs.
BANKRUPTCY AND OTHER PROCEEDINGS--LITIGATION RISKS
When a company seeks relief under the Federal Bankruptcy Code (or has a
petition filed against it), an automatic stay prevents all entities, including
creditors, from foreclosing or taking other actions to enforce claims, perfect
liens or reach collateral securing such claims. Creditors who have claims
against the company prior to the date of the bankruptcy filing must petition
the court to permit them to take any action to protect or enforce their claims
or their rights in any collateral. Such creditors may be prohibited from doing
so if the court concludes that the value of the property in which the creditor
has an interest will be "adequately protected" during the proceedings. If the
bankruptcy court's assessment of adequate protection is inaccurate, a
creditor's collateral may be wasted without the creditor being afforded the
opportunity to preserve it. Thus, even if the Fund holds a secured claim, it
may be prevented from collecting the liquidation value of the collateral
securing its debt, unless relief from the automatic stay is granted by the
court.
Security interests held by creditors are closely scrutinized and frequently
challenged in bankruptcy proceedings and may be invalidated for a variety of
reasons. For example, security interests may be set aside because, as a
technical matter, they have not been perfected properly under the Uniform
Commercial Code or other applicable law. If a security interest is
invalidated, the secured creditor loses the value of the collateral and
because loss of the secured status causes the claim to be treated as an
unsecured claim, the holder of such claim will almost certainly experience a
significant loss of its investment. While the Fund intends to scrutinize any
security interests that secure the debt it purchases, there can be no
assurance that the security interests will not be challenged vigorously and
found defective in some respect, or that the Fund will be able to prevail
against the challenge.
Moreover, debt may be disallowed or subordinated to the claims of other
creditors if the creditor is found guilty of certain inequitable conduct
resulting in harm to other parties with respect to the affairs of a company
filing for protection from creditors under the Federal Bankruptcy Code.
Creditors' claims may be treated as equity if they are deemed to be
contributions to capital, or if a creditor attempts to control the outcome of
the business affairs of a company prior to its filing under the Bankruptcy
Code. If a creditor is found to have interfered with the company's affairs to
the detriment of other creditors or shareholders, the creditor may be held
liable for damages to injured parties. While the Fund will attempt to avoid
B-2
<PAGE>
taking the types of action that would lead to equitable subordination or
creditor liability, there can be no assurance that such claims will not be
asserted or that the Fund will be able successfully to defend against them.
While the challenges to liens and debt described above normally occur in a
bankruptcy proceeding, the conditions or conduct that would lead to an attack
in a bankruptcy proceeding could in certain circumstances result in actions
brought by other creditors of the debtor, shareholders of the debtor or even
the debtor itself in other state or federal proceedings. As is the case in a
bankruptcy proceeding, there can be no assurance that such claims will not be
asserted or that the Fund will be able successfully to defend against them. To
the extent that the Fund assumes an active role in any legal proceeding
involving the debtor, the Fund may be prevented from disposing of securities
issued by the debtor due to the Fund's possession of material, non-public
information concerning the debtor.
CORPORATE AND OTHER DEBT OBLIGATIONS
ZERO COUPON, PAY-IN-KIND OR DEFERRED PAYMENT SECURITIES
The Fund may also invest in zero coupon, pay-in-kind or deferred payment
securities. Zero coupon securities are securities that are sold at a discount
to par value and on which interest payments are not made during the life of
the security. Upon maturity, the holder is entitled to receive the par value
of the security. While interest payments are not made on such securities,
holders of such securities are deemed to have received annually "phantom
income." The Fund accrues income with respect to these securities prior to the
receipt of cash payments. Pay-in-kind securities are securities that have
interest payable by delivery of additional securities. Upon maturity, the
holder is entitled to receive the aggregate par value of the securities.
Deferred payment securities are securities that remain a zero coupon security
until a predetermined date, at which time the stated coupon rate becomes
effective and interest becomes payable at regular intervals. Zero coupon, pay-
in-kind and deferred payment securities may be subject to greater fluctuation
in value and lesser liquidity in the event of adverse market conditions than
comparable rated securities paying cash interest at regular intervals.
MUNICIPAL SECURITIES
Municipal securities include notes and bonds issued by or on behalf of
states, territories and possessions of the United States and their political
subdivisions, agencies and instrumentalities and the District of Columbia, the
interest on which is generally eligible for exclusion from federal income tax
and, in certain instances, applicable state or local income and personal
property taxes. Such securities are traded primarily in the over-the-counter
market.
MUNICIPAL BONDS. Municipal bonds are issued to obtain funds for various
public purposes, including the construction of a wide range of public
facilities such as airports, bridges, highways, housing, hospitals, mass
transportation, schools, streets, water and sewer works and gas and electric
utilities. Municipal bonds also may be issued in connection with the refunding
of outstanding obligations and obtaining funds to lend to other public
institutions or for general operating expenses.
The two principal classifications of municipal bonds are "general
obligation" and "revenue." General obligation bonds are secured by the
issuer's pledge of its full faith, credit and taxing power for the payment of
principal and interest. Revenue bonds are payable only from the revenues
derived from a particular facility or class of facilities or, in some cases,
from the proceeds of a special excise tax or other specific revenue source.
Industrial development bonds (IDBs) are issued by or on behalf of public
authorities to obtain funds to provide various privately-operated facilities
for business and manufacturing, housing, sports, pollution control, and for
airport, mass transit, port and parking facilities. Although IDBs are issued
by municipal authorities, they are generally secured by the revenues
B-3
<PAGE>
derived from payments of the industrial user. The payment of the principal and
interest on IDBs is dependent solely on the ability of the user of the
facilities financed by the bonds to meet its financial obligations and the
pledge, if any, of real and personal property so financed as security for the
payment.
MUNICIPAL NOTES. Municipal notes generally are used to provide for short-term
capital needs and generally have maturities of one year or less. Municipal
notes include:
1. Tax Anticipation Notes. Tax Anticipation Notes are issued to finance
working capital needs of municipalities. Generally, they are issued in
anticipation of various seasonal tax revenues, such as income, sales, use
and business taxes, and are payable from these specific future taxes.
2. Revenue Anticipation Notes. Revenue Anticipation Notes are issued in the
expectation of reception of other kinds of revenue, such as federal revenues
available under the Federal Revenue Sharing Programs.
3. Bond Anticipation Notes. Bond Anticipation Notes are issued to provide
interim financing until long-term financing can be arranged. In most cases,
the long-term bonds then provide the money for the repayment of the Notes.
4. Construction Loan Notes. Construction Loan Notes are sold to provide
construction financing. Permanent financing, the proceeds of which are
applied to the payment of Construction Loan Notes, is sometimes provided by
a commitment by the Government National Mortgage Association (GNMA) to
purchase the loan, accompanied by a commitment by the Federal Housing
Administration to insure mortgage advances thereunder. In other instances,
permanent financing is provided by commitments of banks to purchase the
loan.
TAX-EXEMPT COMMERCIAL PAPER. Issues of tax-exempt commercial paper, the
interest on which is generally exempt from federal income taxes, typically are
represented by short-term, unsecured, negotiable promissory notes. These
obligations are issued by agencies of state and local governments to finance
seasonal working capital needs of municipalities or to provide interim
construction financing and are paid from general revenues of municipalities or
are refinanced with long-term debt. In most cases, tax-exempt commercial paper
is backed by letters of credit, lending agreements, note repurchase agreements
or other credit facility agreements offered by banks or other institutions and
is actively traded.
FLOATING RATE AND VARIABLE RATE SECURITIES. The Fund is permitted to invest
in floating rate and variable rate municipal securities, including
participation interests therein and inverse floaters. Floating or variable rate
securities often have a rate of interest that is set as a specific percentage
of a designated base rate, such as the rate on Treasury Bonds or Bills or the
prime rate at a major commercial bank. These securities also allow the holder
to demand payment of the obligation on short notice at par plus accrued
interest, which amount may be more or less than the amount the holder paid for
them. Variable rate securities provide for a specified periodic adjustment in
the interest rate. The interest rate on floating rate securities changes
whenever there is a change in the designated base interest rate. Floating rate
and variable rate securities typically have long maturities but afford the
holder the right to demand payment at earlier dates. Such floating rate and
variable rate securities will be treated as having maturities equal to the
period of adjustment of the interest rate.
An inverse floater is a debt instrument with a floating or variable interest
rate that moves in the opposite direction of the interest rate on another
security or the value of an index. Changes in the interest rate on the other
security or index inversely affect the residual interest rate paid on the
inverse floater, with the result that the inverse floater's price will be
considerably more volatile than that of a fixed rate bond. The market for
inverse floaters is relatively new.
MUNICIPAL LEASE OBLIGATIONS. The Fund may also invest in municipal lease
obligations. A municipal lease obligation is a municipal security the interest
on and principal of which is payable out of lease payments made by the party
leasing the facilities financed by the issue. Typically, municipal lease
obligations are issued by a state or municipal financing authority to provide
funds for the construction of facilities (e.g., schools, dormitories, office
buildings or prisons) or the acquisition of
B-4
<PAGE>
equipment. The facilities are typically used by the state or municipality
pursuant to a lease with a financing authority. Certain municipal lease
obligations may trade infrequently. Accordingly, the investment adviser will
monitor the liquidity of municipal lease obligations under the supervision of
the Board of Directors. Municipal lease obligations will not be considered
illiquid for purposes of the Fund's 15% limitation on illiquid securities
provided the investment adviser determines that there is readily available
market for such securities. See "How the Fund Invests--Investment Policies and
Techniques--Illiquid Securities" in the Prospectus and "Illiquid Securities"
below.
FOREIGN GOVERNMENT SECURITIES
BRADY BONDS. The Fund is permitted to invest in debt obligations commonly
known as "Brady Bonds" which are created through the exchange of existing
commercial bank loans to foreign entities for new obligations in connection
with debt restructurings under a plan introduced by former U.S. Secretary of
the Treasury, Nicholas F. Brady (the Brady Plan). Brady Bonds have been issued
in connection with the restructuring of the bank loans, for example, of the
governments of Mexico, Venezuela and Argentina.
Brady Bonds have been issued only recently, and, accordingly, do not have a
long payment history. They may be collateralized or uncollateralized and issued
in various currencies (although most are dollar-denominated) and they are
actively traded in the over-the-counter secondary market.
Dollar-denominated, collateralized Brady Bonds, which may be fixed rate par
bonds or floating rate discount bonds, are generally collateralized in full as
to principal due at maturity by U.S. Treasury zero coupon obligations which
have the same maturity as the Brady Bonds. Interest payments on these Brady
Bonds generally are collateralized by cash or securities in an amount that, in
the case of fixed rate bonds, is equal to at least one year of rolling interest
payments based on the applicable interest rate at that time and is adjusted at
regular intervals thereafter. Certain Brady Bonds are entitled to "value
recovery payments" in certain circumstances, which in effect constitute
supplemental interest payments but generally are not collateralized. Brady
Bonds are often viewed as having three or four valuation components: (i) the
collateralized repayment of principal at final maturity; (ii) the
collateralized interest payments; (iii) the uncollateralized interest payments;
and (iv) any uncollateralized repayment of principal at maturity (these
uncollateralized amounts constitute the "residual risk"). In the event of a
default with respect to collateralized Brady Bonds as a result of which the
payment obligations of the issuer are accelerated, the U.S. Treasury zero
coupon obligations held as collateral for the payment of principal will not be
distributed to investors, nor will such obligations be sold and the proceeds
distributed. The collateral will be held by the collateral agent to the
scheduled maturity of the defaulted Brady Bonds, which will continue to be
outstanding, at which time the face amount of the collateral will equal the
principal payments which would have then been due on the Brady Bonds in the
normal course. In addition, in light of the residual risk of Brady Bonds and,
among other factors, the history of defaults with respect to commercial bank
loans by public and private entities of countries issuing Brady Bonds,
investments in Brady Bonds are to be viewed as speculative.
OPTIONS ON SECURITIES
The Fund may purchase put and call options and write covered put and call
options on debt and equity securities, financial indices (including stock
indices), U.S. and foreign government debt securities and foreign currencies.
These may include options traded on U.S. or foreign exchanges and options
traded on U.S. or foreign over-the-counter markets (OTC Options) including OTC
Options with primary U.S. government securities dealers recognized by the
Federal Reserve Bank of New York.
The purchaser of a call option has the right, for a specified period of time,
to purchase the securities subject to the option at a specified price (the
"exercise price" or "strike price"). By writing a call option, the Fund becomes
obligated during the term of the option, upon exercise of the option, to
deliver the underlying securities or a specified amount of cash to the
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purchaser against receipt of the exercise price. When the Fund writes a call
option, the Fund loses the potential for gain on the underlying securities in
excess of the exercise price of the option during the period that the option is
open.
The purchaser of a put option has the right, for a specified period of time,
to sell the securities subject to the option to the writer of the put at the
specified exercise price. By writing a put option, the Fund becomes obligated
during the term of the option, upon exercise of the option, to purchase the
securities underlying the option at the exercise price. The Fund might,
therefore, be obligated to purchase the underlying securities for more than
their current market price.
The writer of an option retains the amount of the premium, although this
amount may be offset or exceeded, in the case of a covered call option, by a
decline and, in the case of a covered put option, by an increase in the market
value of the underlying security during the option period.
The Fund may wish to protect certain portfolio securities against a decline
in market value at a time when put options on those particular securities are
not available for purchase. The Fund may therefore purchase a put option on
other carefully selected securities, the values of which the investment adviser
expects will have a high degree of positive correlation to the values of such
portfolio securities. If the investment adviser's judgment is correct, changes
in the value of the put options should generally offset changes in the value of
the portfolio securities being hedged. If the investment adviser's judgment is
not correct, the value of the securities underlying the put option may decrease
less than the value of the Fund's investments and therefore the put option may
not provide complete protection against a decline in the value of the Fund's
investments below the level sought to be protected by the put option.
The Fund may similarly wish to hedge against appreciation in the value of
securities that it intends to acquire at a time when call options on such
securities are not available. The Fund may, therefore, purchase call options on
other carefully selected securities the values of which the investment adviser
expects will have a high degree of positive correlation to the values of the
securities that the Fund intends to acquire. In such circumstances the Fund
will be subject to risks analogous to those summarized above in the event that
the correlation between the value of call options so purchased and the value of
the securities intended to be acquired by the Fund is not as close as
anticipated and the value of the securities underlying the call options
increases less than the value of the securities to be acquired by the Fund.
The Fund may write options on securities in connection with buy-and-write
transactions; that is, the Fund may purchase a security and concurrently write
a call option against that security. If the call option is exercised, the
Fund's maximum gain will be the premium it received for writing the option,
adjusted upwards or downwards by the difference between the Fund's purchase
price of the security and the exercise price of the option. If the option is
not exercised and the price of the underlying security declines, the amount of
the decline will be offset in part, or entirely, by the premium received.
The exercise price of a call option may be below ("in-the-money"), equal to
("at-the-money") or above ("out-of-the-money") the current value of the
underlying security at the time the option is written. Buy-and-write
transactions using in-the-money call options may be used when it is expected
that the price of the underlying security will remain flat or decline
moderately during the option period. Buy-and-write transactions using at-the-
money call options may be used when it is expected that the price of the
underlying security will remain fixed or advance moderately during the option
period. A buy-and-write transaction using an out-of-the-money call option may
be used when it is expected that the premium received from writing the call
option plus the appreciation in the market price of the underlying security up
to the exercise price will be greater than the appreciation in the price of the
underlying security alone. If the call option is exercised in such a
transaction, the Fund's maximum gain will be the premium received by it for
writing the option, adjusted upwards or downwards by the difference between the
Fund's purchase price of the security and the exercise price of the option. If
the option is not exercised and the price of the underlying security declines,
the amount of the decline will be offset in part, or entirely, by the premium
received.
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Prior to being notified of exercise of the option, the writer of an exchange-
traded option that wishes to terminate its obligation may effect a "closing
purchase transaction" by buying an option of the same series as the option
previously written. (Options of the same series are options with respect to the
same underlying security, having the same expiration date and the same strike
price.) The effect of the purchase is that the writer's position will be
cancelled by the exchange's affiliated clearing organization. Likewise, an
investor who is the holder of an exchange-traded option may liquidate a
position by effecting a "closing sale transaction" by selling an option of the
same series as the option previously purchased. There is no guarantee that
either a closing purchase or a closing sale transaction can be effected.
Exchange-traded options are issued by a clearing organization affiliated with
the exchange on which the option is listed which, in effect, gives its
guarantee to every exchange-traded option transaction. In contrast, OTC options
are contracts between the Fund and its contra-party with no clearing
organization guarantee. Thus, when the Fund purchases an OTC option, it relies
on the dealer from which it has purchased the OTC option to make or take
delivery of the securities underlying the option. Failure by the dealer to do
so would result in the loss of the premium paid by the Fund as well as the loss
of the expected benefit of the transaction.
When the Fund writes an OTC option, it generally will be able to close out
the OTC option prior to its expiration only by entering into a closing purchase
transaction with the dealer to which the Fund originally wrote the OTC option.
While the Fund will enter into OTC options only with dealers which agree to,
and which are expected to be capable of, entering into closing transactions
with the Fund, there can be no assurance that the Fund will be able to
liquidate an OTC option at a favorable price at any time prior to expiration.
Until the Fund is able to effect a closing purchase transaction in a covered
OTC call option the Fund has written, it will not be able to liquidate
securities used as cover until the option expires or is exercised or different
cover is substituted. In the event of insolvency of the contra-party, the Fund
may be unable to liquidate an OTC option. See "Illiquid Securities" below.
OTC options purchased by the Fund will be treated as illiquid securities
subject to any applicable limitation on such securities. Similarly, the assets
used to "cover" OTC options written by the Fund will be treated as illiquid
unless the OTC options are sold to qualified dealers who agree that the Fund
may repurchase any OTC options it writes for a maximum price to be calculated
by a formula set forth in the option agreement. The "cover" for an OTC option
written subject to this procedure would be considered illiquid only to the
extent that the maximum repurchase price under the formula exceeds the
intrinsic value of the option. See "Illiquid Securities" below.
The Fund may write only "covered" options. This means that so long as the
Fund is obligated as the writer of a call option, it will own the underlying
securities subject to the option or an option to purchase the same underlying
securities, having an exercise price equal to or less than the exercise price
of the "covered" option, or will establish and maintain with its Custodian for
the term of the option a segregated account consisting of cash, U.S. Government
securities, equity securities or other liquid, unencumbered assets, marked-to-
market daily, having a value equal to or greater than the exercise price of the
option. In the case of a straddle written by the Fund, the amount maintained in
the segregated account will equal the amount, if any, by which the put is "in-
the-money."
OPTIONS ON SECURITIES INDICES. The Fund also may purchase and write call and
put options on securities indices in an attempt to hedge against market
conditions affecting the value of securities that the Fund owns or intends to
purchase. Through the writing or purchase of index options, the Fund can
achieve many of the same objectives as through the use of options on individual
securities. Options on securities indices are similar to options on a security
except that, rather than the right to take or make delivery of a security at a
specified price, an option on a securities index gives the holder the right to
receive, upon exercise of the option, an amount of cash if the closing level of
the securities index upon which the option is based is greater than, in the
case of a call, or less than, in the case of a put, the exercise price of the
option. This amount of
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cash is equal to such difference between the closing price of the index and the
exercise price of the option. The writer of the option is obligated, in return
for the premium received, to make delivery of this amount. Unlike security
options, all settlements are in cash and gain or loss depends upon price
movements in the market generally (or in a particular industry or segment of
the market), rather than upon price movements in individual securities. Price
movements in securities that the Fund owns or intends to purchase will probably
not correlate perfectly with movements in the level of an index and, therefore,
the Fund bears the risk that a loss on an index option would not be completely
offset by movements in the price of such securities.
When the Fund writes an option on a securities index, it will be required to
deposit with its custodian, and mark-to-market, eligible securities equal in
value to 100% of the exercise price in the case of a put, or the contract value
in the case of a call. In addition, where the Fund writes a call option on a
securities index at a time when the contract value exceeds the exercise price,
the Fund will segregate and mark-to-market, until the option expires or is
closed out, cash or cash equivalents equal in value to such excess.
Options on a securities index involve risks similar to those risks relating
to transactions in financial futures contracts described below. Also, an option
purchased by the Fund may expire worthless, in which case the Fund would lose
the premium paid therefor.
RISKS OF OPTIONS TRANSACTIONS
An exchange-traded option position may be closed out only on an Exchange
which provides a secondary market for an option of the same series. Although
the Fund will generally purchase or write only those options for which there
appears to be an active secondary market, there is no assurance that a liquid
secondary market on an Exchange will exist for any particular option at any
particular time, and for some exchange-traded options, no secondary market on
an Exchange may exist. In such event, it might not be possible to effect
closing transactions in particular options, with the result that the Fund would
have to exercise its exchange-traded options in order to realize any profit and
may incur transaction costs in connection therewith. If the Fund as a covered
call option writer is unable to effect a closing purchase transaction in a
secondary market, it will not be able to sell the underlying security until the
option expires or it delivers the underlying security upon exercise.
Reasons for the absence of a liquid secondary market on an Exchange include
the following: (a) insufficient trading interest in certain options; (b)
restrictions on transactions imposed by an Exchange; (c) trading halts,
suspensions or other restrictions imposed with respect to particular classes or
series of options or underlying securities; (d) interruption of the normal
operations on an Exchange; (e) inadequacy of the facilities of an Exchange or
clearinghouse, such as The Options Clearing Corporation (the OCC) to handle
current trading volume; or (f) a decision by one or more Exchanges to
discontinue the trading of options (or a particular class or series of
options), in which event the secondary market on that Exchange (or in that
class or series of options) would cease to exist, although outstanding options
on that Exchange that had been issued by the OCC as a result of trades on that
Exchange would generally continue to be exercisable in accordance with their
terms.
In the event of the bankruptcy of a broker through which the Fund engages in
options transactions, the Fund could experience delays and/or losses in
liquidating open positions purchased or sold through the broker and/or incur a
loss of all or part of its margin deposits with the broker. Similarly, in the
event of the bankruptcy of the writer of an OTC option purchased by the Fund,
the Fund could experience a loss of all or part of the value of the option.
Transactions are entered into by the Fund only with brokers or financial
institutions deemed creditworthy by the investment adviser.
The hours of trading for options may not conform to the hours during which
the underlying securities are traded. To the extent that the option markets
close before the markets for the underlying securities, significant price and
rate movements can take place in the underlying markets that cannot be
reflected in the option markets.
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RISKS OF OPTIONS ON FOREIGN CURRENCIES
Options on foreign currencies involve the currencies of two nations and
therefore, developments in either or both countries affect the values of
options on foreign currencies. Risks include those described in the Prospectus
under "How the Fund Invests--Risk Factors Relating to Investing in Foreign
Securities," including government actions affecting currency valuation and the
movements of currencies from one country to another. The quantity of currency
underlying option contracts represent odd lots in a market dominated by
transactions between banks; this can mean extra transaction costs upon
exercise. Option markets may be closed while round-the-clock interbank
currency markets are open, and this can create price and rate discrepancies.
FUTURES CONTRACTS
As a purchaser of a futures contract, the Fund incurs an obligation to take
delivery of a specified amount of the obligation underlying the futures
contract at a specified time in the future for a specified price. As a seller
of a futures contract, the Fund incurs an obligation to deliver the specified
amount of the underlying obligation at a specified time in return for an
agreed upon price. The Fund may purchase and sell futures contracts on debt
and equity securities, financial indices (including stock indices) and foreign
currencies.
The Fund will purchase or sell futures contracts for the purpose of hedging
its portfolio (or anticipated portfolio) securities against changes in
prevailing interest rates or market conditions. The investment adviser may
purchase futures when the price of securities, indices or currencies is
expected to rise and sell futures when the price of securities, indices or
currencies is expected to decline. If the investment adviser anticipates that
interest rates may rise and, concomitantly, the price of the Fund's portfolio
securities may fall, the Fund may sell a futures contract. If declining
interest rates are anticipated, the Fund may purchase a futures contract to
protect against a potential increase in the price of securities the Fund
intends to purchase. Subsequently, appropriate securities may be purchased by
the Fund in an orderly fashion; as securities are purchased, corresponding
futures positions would be terminated by offsetting sales of contracts. In
addition, futures contracts will be bought or sold in order to close out a
short or long position in a corresponding futures contract.
Although most futures contracts call for actual delivery or acceptance of
securities or cash, the contracts usually are closed out before the settlement
date without the making or taking of delivery. A futures contract sale is
closed out by effecting a futures contract purchase for the same aggregate
amount of the specific type of security and the same delivery date. If the
sale price exceeds the offsetting purchase price, the seller would be paid the
difference and would realize a gain. If the offsetting purchase price exceeds
the sale price, the seller would pay the difference and would realize a loss.
Similarly, a futures contract purchase is closed out by effecting a futures
contract sale for the same aggregate amount of the specific type of security
(or currency) and the same delivery date. If the offsetting sale price exceeds
the purchase price, the purchaser would realize a gain, whereas if the
purchase price exceeds the offsetting sale price, the purchaser would realize
a loss. There is no assurance that the Fund will be able to enter into a
closing transaction.
When the Fund enters into a futures contract it is initially required to
deposit with its Custodian, in a segregated account in the name of the broker
performing the transaction, an "initial margin" of cash or U.S. Government
securities equal to approximately 2-3% of the contract amount. Initial margin
requirements are established by the Exchanges on which futures contracts trade
and may, from time to time, change. In addition, brokers may establish margin
deposit requirements in excess of those required by the Exchanges.
Initial margin in futures transactions is different from margin in
securities transactions in that initial margin does not involve the borrowing
of funds by a brokers' client but is, rather, a good faith deposit on a
futures contract which will be returned to the Fund upon the proper
termination of the futures contract. The margin deposits made are marked-to-
market
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daily and the Fund may be required to make subsequent deposits into the
segregated account, maintained at its Custodian for that purpose, of cash or
U.S. Government securities, called "variation margin", in the name of the
broker, which are reflective of price fluctuations in the futures contract.
OPTIONS ON FUTURES CONTRACTS
The Fund may purchase and sell call and put options on futures contracts
which are traded on an Exchange and enter into closing transactions with
respect to such options to terminate an existing position. An option on a
futures contract gives the purchaser the right (in return for the premium
paid), and the writer the obligation, to assume a position in a futures
contract (a long position if the option is a call and a short position if the
option is a put) at a specified exercise price at any time during the term of
the option. Upon exercise of the option, the assumption of an offsetting
futures position by the writer and holder of the option will be accompanied by
delivery of the accumulated cash balance in the writer's futures margin
account which represents the amount by which the market price of the futures
contract at exercise exceeds, in the case of a call, or is less than, in the
case of a put, the exercise price of the option on the futures contract.
The Fund may only write "covered" put and call options on futures contracts.
The Fund will be considered "covered" with respect to a call option it writes
on a futures contract if the Fund owns the assets which are deliverable under
the futures contract or an option to purchase that futures contract having a
strike price equal to or less than the strike price of the "covered" option
and having an expiration date not earlier than the expiration date of the
"covered" option, or if it segregates and maintains with its Custodian for the
term of the option cash, U.S. Government securities, equity securities or
other liquid, unencumbered assets, marked-to-market daily, equal to the
fluctuating value of the optioned future. The Fund will be considered
"covered" with respect to a put option it writes on a futures contract if it
owns an option to sell that futures contract having a strike price equal to or
greater than the strike price of the "covered" option, or if it segregates and
maintains with its Custodian for the term of the option cash, U.S. Government
securities, equity securities or other liquid, unencumbered assets, marked-to-
market daily, at all times equal in value to the exercise price of the put
(less any initial margin deposited by the Fund with its Custodian with respect
to such option). There is no limitation on the amount of the Fund's assets
which can be placed in the segregated account.
The Fund will purchase options on futures contracts for identical purposes
to those set forth above for the purchase of a futures contract (purchase of a
call option or sale of a put option) and the sale of a futures contract
(purchase of a put option or sale of a call option), or to close out a long or
short position in futures contracts.
RISKS OF TRANSACTIONS IN FUTURES CONTRACTS AND RELATED OPTIONS
The Fund may sell a futures contract to protect against the decline in the
value of securities held by the Fund. However, it is possible that the futures
market may advance and the value of securities held in the Fund's portfolio
may decline. If this were to occur, the Fund would lose money on the futures
contracts and also experience a decline in value in its portfolio securities.
If the Fund purchases a futures contract to hedge against the increase in
value of securities it intends to buy, and the value of such securities
decreases, then the Fund may determine not to invest in the securities as
planned and will realize a loss on the futures contract that is not offset by
a reduction in the price of the securities.
Under regulations of the Commodity Exchange Act, investment companies
registered under the Investment Company Act are exempt from the definition of
"commodity pool operator," subject to compliance with certain conditions. The
exemption is conditioned upon a requirement that all of the Fund's futures or
options transactions constitute bona fide hedging transactions within the
meaning of the regulations of the Commodity Futures Trading Commission (CFTC).
The Fund will use
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futures and options on futures in a manner consistent with this requirement.
The Fund may also enter into futures or related options contracts to attempt
to enhance return if the aggregate initial margin and option premiums do not
exceed 5% of the liquidation value of the Fund's total assets, after taking
into account unrealized profits and unrealized losses on any such contracts,
provided, however, that in the case of an option that is in-the-money, the in-
the-money amount may be excluded in computing such 5%. The above restriction
does not apply to the purchase and sale of futures and related options
contracts for bona fide hedging purchases.
In order to assure that the Fund is entering into transactions in futures
contracts for hedging purposes as such term is defined by the CFTC, either:
(1) a substantial majority (i.e., approximately 75%) of all anticipatory hedge
transactions (transactions in which the Fund does not own at the time of the
transaction, but expects to acquire, the securities underlying the relevant
futures contract) involving the purchase of futures contracts will be
completed by the purchase of securities which are the subject of the hedge, or
(2) the underlying value of all long positions in futures contracts will not
exceed the total value of (a) all short-term debt obligations held by the
Fund; (b) cash held by the Fund; (c) cash proceeds due to the Fund on
investments within thirty days; (d) the margin deposited on the contracts; and
(e) any unrealized appreciation in the value of the contracts.
If the Fund maintains a short position in a futures contract, it will cover
this position by holding, in a segregated account maintained at its Custodian,
cash, U.S. Government securities, equity securities or other liquid,
unencumbered assets, marked-to-market daily, equal in value (when added to any
initial or variation margin on deposit) to the market value of the securities
underlying the futures contract. Such a position may also be covered by owning
the securities underlying the futures contract, or by holding a call option
permitting the Fund to purchase the same contract at a price no higher than
the price at which the short position was established.
In addition, if the Fund holds a long position in a futures contract, it
will hold cash, U.S. Government securities, equity securities or other liquid,
unencumbered assets, marked-to-market daily, equal to the purchase price of
the contract (less the amount of initial or variation margin on deposit) in a
segregated account maintained for the Fund by its Custodian. Alternatively,
the Fund could cover its long position by purchasing a put option on the same
futures contract with an exercise price as high or higher than the price of
the contract held by the Fund.
Exchanges limit the amount by which the price of a futures contract may move
on any day. If the price moves equal the daily limit on successive days, then
it may prove impossible to liquidate a futures position until the daily limit
moves have ceased. In the event of adverse price movements, the Fund would
continue to be required to make daily cash payments of variation margin on
open futures positions. In such situations, if the Fund has insufficient cash,
it may be disadvantageous to do so. In addition, the Fund may be required to
take or make delivery of the instruments underlying futures contracts it holds
at a time when it is disadvantageous to do so. The ability to close out
options and futures positions could also have an adverse impact on the Fund's
ability to hedge effectively its portfolio.
In the event of the bankruptcy of a broker through which the Fund engages in
transactions in futures or options thereon, the Fund could experience delays
and/or losses in liquidating open positions purchased or sold through the
broker and/or incur a loss of all or part of its margin deposits with the
broker. Transactions are entered into by the Fund only with brokers or
financial institutions deemed creditworthy by the investment adviser.
There are risks inherent in the use of futures contracts and options
transactions for the purpose of hedging the Fund's portfolio securities. One
such risk which may arise in employing futures contracts to protect against
the price volatility of portfolio securities is that the prices of securities
subject to futures contracts (and thereby the futures contract prices) may
correlate imperfectly with the behavior of the cash prices of the Fund's
portfolio securities. Another such risk is that prices of futures contracts
may not move in tandem with the changes in prevailing interest rates against
which the Fund seeks a
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hedge. A correlation may also be distorted by the fact that the futures market
is dominated by short-term traders seeking to profit from the difference
between a contract or security price objective and their cost of borrowed
funds. Such distortions are generally minor and would diminish as the contract
approached maturity.
There may exist an imperfect correlation between the price movements of
futures contracts purchased by the Fund and the movements in the prices of the
securities (or currencies) which are the subject of the hedge. If participants
in the futures market elect to close out their contracts through offsetting
transactions rather than meet margin deposit requirements, distortions in the
normal relationships between the debt securities (or currencies) and futures
market could result. Price distortions could also result if investors in
futures contracts elect to make or take delivery of underlying securities (or
currencies) rather than engage in closing transactions due to the resultant
reduction in the liquidity of the futures market. In addition, due to the fact
that, from the point of view of speculators, the deposit requirements in the
futures markets are less onerous than margin requirements in the cash market,
increased participation by speculators in the futures markets could cause
temporary price distortions. Due to the possibility of price distortions in
the futures market and because of the imperfect correlation between movements
in the prices of securities (or currencies) and movements in the prices of
futures contracts, a correct forecast of interest rate trends by the
investment adviser may still not result in a successful hedging transaction.
Compared to the purchase or sale of futures contracts, the purchase and sale
of call or put options on futures contracts involves less potential risk to
the Fund because the maximum amount at risk is the premium paid for the
options (plus transaction costs). However, there may be circumstances when the
purchase of a call or put option on a futures contract would result in a loss
to the Fund notwithstanding that the purchase or sale of a futures contract
would not result in a loss, as in the instance where there is no movement in
the prices of the futures contracts or underlying securities (or currencies).
RISKS RELATED TO FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS
The Fund may enter into forward foreign currency exchange contracts in
several circumstances. When the Fund enters into a contract for the purchase
or sale of a security denominated in a foreign currency, or when the Fund
anticipates the receipt in a foreign currency of dividends or interest
payments on a security which it holds, the Fund may desire to "lock-in" the
U.S. dollar price of the security or the U.S. dollar equivalent of such
dividend or interest payment, as the case may be. By entering into a forward
contract for a fixed amount of dollars, for the purchase or sale of the amount
of foreign currency involved in the underlying transactions, the Fund may be
able to protect itself against a possible loss resulting from an adverse
change in the relationship between the U.S. dollar and the foreign currency
during the period between the date on which the security is purchased or sold,
or on which the dividend or interest payment is declared, and the date on
which such payments are made or received.
Additionally, when the investment adviser believes that the currency of a
particular foreign country may suffer a substantial decline against the U.S.
dollar, the Fund may enter into a forward contract for a fixed amount of
dollars, to sell the amount of foreign currency approximating the value of
some or all of the Fund's portfolio securities denominated in such foreign
currency. The precise matching of the forward contract amounts and the value
of the securities involved will not generally be possible since the future
value of securities in foreign currencies will change as a consequence of
market movements in the value of those securities between the date on which
the forward contract is entered into and the date it matures. The projection
of short-term currency market movement is extremely difficult, and the
successful execution of a short-term hedging strategy is highly uncertain. If
the Fund enters into a position hedging transaction, the transaction will be
covered by the position being hedged or the Fund's Custodian or subcustodian
will place cash, U.S. Government securities, equity securities or other
liquid, unencumbered assets in a segregated account of the Fund (less the
value of the "covering" positions, if any) in an amount equal to the value of
the Fund's total assets committed to the consummation of the given forward
contract. The assets placed in the segregated account will be marked-to-market
daily, and if the value of the
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securities placed in the segregated account declines, additional cash or
securities will be placed in the account on a daily basis so that the value of
the account will, at all times, equal the amount of the Fund's net commitment
with respect to the forward contract.
The Fund generally will not enter into a forward contract with a term of
greater than one year. At the maturity of a forward contract, the Fund may
either sell the portfolio security and make delivery of the foreign currency,
or it may retain the security and terminate its contractual obligation to
deliver the foreign currency by purchasing an "offsetting" contract with the
same currency trader obligating it to purchase, on the same maturity date, the
same amount of the foreign currency.
It is impossible to forecast with absolute precision the market value of a
particular portfolio security at the expiration of the forward contract.
Accordingly, if a decision is made to sell the security and make delivery of
the foreign currency and if the market value of the security is less than the
amount of foreign currency that the Fund is obligated to deliver, then it
would be necessary for the Fund to purchase additional foreign currency on the
spot market (and bear the expense of such purchase).
If the Fund retains the portfolio security and engages in an offsetting
transaction, the Fund will incur a gain or a loss to the extent that there has
been movement in forward contract prices. Should forward contract prices
decline during the period between the Fund's entering into a forward contract
for the sale of a foreign currency and the date it enters into an offsetting
contract for the purchase of the foreign currency, the Fund will realize a
gain to the extent that the price of the currency it has agreed to sell
exceeds the price of the currency it has agreed to purchase. Should forward
contract prices increase, the Fund will suffer a loss to the extent that the
price of the currency it has agreed to purchase exceeds the price of the
currency it has agreed to sell.
The Fund's dealing in forward foreign currency exchange contracts will
generally be limited to the transactions described above. Of course, the Fund
is not required to enter into such transactions with regard to its foreign
currency-denominated securities. It also should be recognized that this method
of protecting the value of the Fund's portfolio securities against a decline
in the value of a currency does not eliminate fluctuations in the underlying
prices of the securities which are unrelated to exchange rates. Additionally,
although such contracts tend to minimize the risk of loss due to a decline in
the value of the hedged currency, at the same time they tend to limit any
potential gain which might result should the value of such currency increase.
Although the Fund values its assets daily in terms of U.S. dollars, it does
not intend physically to convert its holdings of foreign currencies into U.S.
dollars on a daily basis. It will do so from time to time, and investors
should be aware of the costs of currency conversion. Although foreign exchange
dealers do not charge a fee for conversion, they do realize a profit based on
the difference (the spread) between the prices at which they are buying and
selling various currencies. Thus, a dealer may offer to sell a foreign
currency to the Fund at one rate, while offering a lesser rate of exchange
should the Fund desire to resell that currency to the dealer.
DEFENSIVE STRATEGY AND TEMPORARY INVESTMENTS
For temporary defensive purposes, the Fund may hold up to 100% of its assets
in cash, high quality money market instruments and U.S. Treasury securities
(including repurchase agreements). U.S. Treasury securities include bills,
notes, bonds and other securities issued by the U.S. Treasury. These
instruments are direct obligations of the U.S. Government and, as such, are
backed by the "full faith and credit" of the United States. They differ
primarily in their interest rates, the length of their maturities and the
dates of their issuances.
High quality money market instruments include commercial paper of
corporations, certificates of deposit, bankers' acceptances and other
obligations of domestic and foreign banks. Temporary investments may also be
made in obligations
B-13
<PAGE>
issued or guaranteed by the U.S. Government, its agencies or its
instrumentalities and repurchase agreements (described more fully below).
Investments in obligations of foreign banks may be subject to certain risks,
including future political and economic developments, the possible imposition
of withholding taxes on interest income, the seizure or nationalization of
foreign deposits and foreign exchange controls or other restrictions.
WHEN-ISSUED AND DELAYED DELIVERY SECURITIES
From time to time, in the ordinary course of business, the Fund may purchase
or sell securities on a when-issued or delayed delivery basis, that is,
delivery and payment can take place a month or more after the date of the
transaction. The Fund will make commitments for such when-issued transactions
only with the intention of actually acquiring the securities. The Fund's
Custodian will maintain, in a separate account of the Fund, cash, U.S.
Government securities, equity securities or other liquid, unencumbered assets,
marked-to-market daily, having a value equal to or greater than such
commitments. If the Fund chooses to dispose of the right to acquire a when-
issued security prior to its acquisition, it could, as with the disposition of
any other portfolio security, incur a gain or loss due to market fluctuations.
REPURCHASE AGREEMENTS
The Fund's repurchase agreements will be collateralized by U.S. Government
obligations. The Fund will enter into repurchase transactions only with
parties meeting creditworthiness standards approved by the Fund's Board of
Directors. The Fund's investment adviser will monitor the creditworthiness of
such parties, under the general supervision of the Board of Directors. In the
event of a default or bankruptcy by a seller, the Fund will promptly seek to
liquidate the collateral. To the extent that the proceeds from any sale of
such collateral upon a default in the obligation to repurchase are less than
the repurchase price, the Fund will suffer a loss.
The Fund participates in a joint repurchase agreement account with other
investment companies managed by Prudential Mutual Fund Management LLC (PMF or
the Manager) pursuant to an order of the Securities and Exchange Commission
(SEC). On a daily basis, any uninvested cash balances of the Fund may be
aggregated with those of such investment companies and invested in one or more
repurchase agreements. Each fund participates in the income earned or accrued
in the joint account based on the percentage of its investment.
LENDING OF SECURITIES
Consistent with applicable regulatory requirements, the Fund may lend its
portfolio securities to brokers, dealers and financial institutions, provided
that outstanding loans do not exceed in the aggregate 30% of the value of the
Fund's total assets and provided that such loans are callable at any time by
the Fund and are at all times secured by cash or equivalent collateral that is
equal to at least the market value, determined daily, of the loaned
securities. The advantage of such loans is that the Fund continues to receive
payments in lieu of the interest and dividends of the loaned securities, while
at the same time earning interest either directly from the borrower or on the
collateral which will be invested in short-term obligations.
A loan may be terminated by the Fund at any time without cause. If the
borrower fails to maintain the requisite amount of collateral, the loan
automatically terminates, and the Fund could use the collateral to replace the
securities while holding the borrower liable for any excess of replacement
cost over collateral. As with any extensions of credit, there are risks of
delay in recovery and in some cases loss of rights in the collateral should
the borrower of the securities fail financially. However, these loans of
portfolio securities will only be made to firms determined to be creditworthy
pursuant to procedures approved by the Board of Directors of the Fund. On
termination of the loan, the borrower is required to return the securities to
the Fund, and any gain or loss in the market price during the loan would inure
to the Fund.
B-14
<PAGE>
Since voting or consent rights which accompany loaned securities pass to the
borrower, the Fund will follow the policy of calling the loan, in whole or in
part as may be appropriate, to permit the exercise of such rights if the
matters involved would have a material effect on the Fund's investment in the
securities which are the subject of the loan. The Fund will pay reasonable
finders', administrative and custodial fees in connection with a loan of its
securities or may share the interest earned on collateral with the borrower.
BORROWING
The Fund may borrow an amount equal to no more than 33 1/3% of the value of
its total assets (calculated at the time of the borrowing) from banks for
temporary, extraordinary or emergency purposes, for the clearance of
transactions or for investment purposes. The Fund may pledge up to 33 1/3% of
its total assets to secure these borrowings. If the Fund's asset coverage for
borrowings falls below 300%, the Fund will take prompt action to reduce its
borrowings. If the 300% asset coverage should decline as a result of market
fluctuations or other reasons, the Fund may be required to sell portfolio
securities to reduce the debt and restore the 300% asset coverage, even though
it may be disadvantageous from an investment standpoint to sell securities at
that time. Such liquidations could cause the Fund to realize gains on
securities held for less than three months. Because no more than 30% of the
Fund's gross income may be derived from the sale or disposition of securities
held for less than three months to maintain the Fund's status as a regulated
investment company under the Internal Revenue Code, such gains would limit the
ability of the Fund to sell other securities held for less than three months
that the Fund might wish to sell. See "Taxes." The Fund will not purchase
portfolio securities when borrowings exceed 5% of the value of its total
assets.
Borrowing for investment purposes is generally known as "leveraging."
Leveraging exaggerates the effect on net asset value of any increase or
decrease in the market value of the Fund's portfolio. Money borrowed for
leveraging will be subject to interest costs which may or may not be recovered
by appreciation of the securities purchased and may exceed the income from the
securities purchased. In addition, the Fund may be required to maintain
minimum average balances in connection with such borrowing or pay a commitment
fee to maintain a line of credit which would increase the cost of borrowing
over the stated interest rate.
ILLIQUID SECURITIES
The Fund may not hold more than 15% of its net assets in repurchase
agreements which have a maturity of longer than seven days or in other
illiquid securities, including securities that are illiquid by virtue of the
absence of a readily available market (either within or outside of the United
States) or legal or contractual restrictions on resale. Historically, illiquid
securities have included securities subject to contractual or legal
restrictions on resale because they have not been registered under the
Securities Act of 1933, as amended (Securities Act), securities which are
otherwise not readily marketable and repurchase agreements having a maturity
of longer than seven days. Securities which have not been registered under the
Securities Act are referred to as private placements or restricted securities
and are purchased directly from the issuer or in the secondary market. Mutual
funds do not typically hold a significant amount of these restricted or other
illiquid securities because of the potential for delays on resale and
uncertainty in valuation. Limitations on resale may have an adverse effect on
the marketability of portfolio securities and a mutual fund might be unable to
dispose of restricted or other illiquid securities promptly or at reasonable
prices and might thereby experience difficulty satisfying redemptions within
seven days. A mutual fund might also have to register such restricted
securities in order to dispose of them resulting in additional expense and
delay. Adverse market conditions could impede such a public offering of
securities.
In recent years, however, a large institutional market has developed for
certain securities that are not registered under the Securities Act including
repurchase agreements, commercial paper, foreign securities, municipal
securities, convertible securities and corporate bonds and notes.
Institutional investors depend on an efficient institutional market in which
the
B-15
<PAGE>
unregistered security can be readily resold or on an issuer's ability to honor
a demand for repayment. The fact that there are contractual or legal
restrictions on resale to the general public or to certain institutions may
not be indicative of the liquidity of such investments.
Rule 144A under the Securities Act allows for a broader institutional
trading market for securities otherwise subject to restriction on resale to
the general public. Rule 144A establishes a "safe harbor" from the
registration requirements of the Securities Act for resales of certain
securities to qualified institutional buyers. The investment adviser
anticipates that the market for certain restricted securities such as
institutional commercial paper and foreign securities will expand further as a
result of this regulation and the development of automated systems for the
trading, clearance and settlement of unregistered securities of domestic and
foreign issuers.
Restricted securities eligible for resale pursuant to Rule 144A under the
Securities Act, commercial paper and municipal lease obligations for which
there is a readily available market will not be deemed to be illiquid. The
investment adviser will monitor the liquidity of such restricted securities
subject to the supervision of the Board of Directors. In reaching liquidity
decisions, the investment adviser will consider, inter alia, the following
factors: (1) the frequency of trades and quotes for the security; (2) the
number of dealers wishing to purchase or sell the security and the number of
other potential purchasers; (3) dealer undertakings to make a market in the
security and (4) the nature of the security and the nature of the marketplace
trades (e.g., the time needed to dispose of the security, the method of
soliciting offers and the mechanics of the transfer). With respect to
municipal lease obligations, the investment adviser will also consider: (1)
the willingness of the municipality to continue, annually or biannually, to
appropriate funds for payment of the lease; (2) the general credit quality of
the municipality and the essentiality to the municipality of the property
covered by the lease; (3) an analysis of factors similar to that performed by
nationally recognized statistical rating organizations (NRSROs) in evaluating
the credit quality of a municipal lease obligation, including (i) whether the
lease can be cancelled; (ii) if applicable, what assurance there is that the
assets represented by the lease can be sold; (iii) the strength of the
lessee's general credit (e.g., its debt, administrative, economic and
financial characteristics); (iv) the likelihood that the municipality will
discontinue appropriating funding for the leased property because the property
is no longer deemed essential to the operations of the municipality (e.g., the
potential for an event of nonappropriation); and (v) the legal recourse in the
event of failure to appropriate; and (4) any other factors unique to municipal
lease obligations as determined by the investment adviser. In addition, in
order for commercial paper that is issued in reliance on Section 4(2) of the
Securities Act to be considered liquid, (i) it must be rated in one of the two
highest rating categories by at least two NRSROs, or if only one NRSRO rates
the securities, by that NRSRO, or, if unrated, be of comparable quality in the
view of the investment adviser; and (ii) it must not be "traded flat" (i.e.,
without accrued interest) or in default as to principal or interest.
Repurchase agreements subject to demand are deemed to have a maturity equal to
the notice period.
The staff of the SEC has taken the position that purchased over-the-counter
(OTC) options and the assets used as "cover" for written OTC options are
illiquid securities unless the Fund and the counterparty have provided for the
Fund, at the Fund's election, to unwind the OTC option. The exercise of such
an option would ordinarily involve the payment by the Fund of an amount
designed to reflect the counterparty's economic loss from an early
termination, but does allow the Fund to treat the securities used as "cover"
as liquid. See "How the Fund Invests--Investment Policies and Techniques--
Illiquid Securities" in the Prospectus.
SECURITIES OF OTHER INVESTMENT COMPANIES
The Fund may invest up to 10% of its total assets in securities of other
investment companies. Generally, the Fund does not intend to invest in such
securities. If the Fund does invest in securities of other investment
companies, shareholders of the Fund may be subject to duplicate management and
advisory fees.
B-16
<PAGE>
PORTFOLIO TURNOVER
The Fund's portfolio turnover rate is not expected to exceed 150%. The
portfolio turnover rate is generally the percentage computed by dividing the
lesser of portfolio purchases or sales (excluding all securities, including
options, whose maturities or expiration date at acquisition were one year or
less) by the monthly average value of the portfolio. High portfolio turnover
(over 100%) involves correspondingly greater brokerage commissions and other
transaction costs, which are borne directly by the Fund. In addition, high
portfolio turnover may also mean that a proportionately greater amount of
distributions to shareholders will be taxed as ordinary income rather than
long-term capital gains compared to investment companies with lower portfolio
turnover. See "Portfolio Transactions and Brokerage" and "Taxes."
INVESTMENT RESTRICTIONS
The following restrictions are fundamental policies. Fundamental policies
are those which cannot be changed without the approval of the holders of a
majority of the Fund's outstanding voting securities. A "majority of the
Fund's outstanding voting securities," when used in this Statement of
Additional Information, means the lesser of (i) 67% of the voting shares
represented at a meeting at which more than 50% of the outstanding voting
shares are present in person or represented by proxy or (ii) more than 50% of
the outstanding voting shares.
The Fund may not:
1. Purchase securities on margin (but the Fund may obtain such short-term
credits as may be necessary for the clearance of transactions); provided
that the deposit or payment by the Fund of initial or maintenance margin in
connection with futures or options is not considered the purchase of a
security on margin.
2. Make short sales of securities or maintain a short position if, when
added together, more than 25% of the value of the Fund's net assets would be
(i) deposited as collateral for the obligation to replace securities
borrowed to effect short sales and (ii) allocated to segregated accounts in
connection with short sales. Short sales "against-the-box" are not subject
to this limitation.
3. Issue senior securities, borrow money or pledge its assets, except that
the Fund may borrow from banks up to 33 1/3% of the value of its total
assets (calculated when the loan is made) for temporary, extraordinary or
emergency purposes, for the clearance of transactions or for investment
purposes. The Fund may pledge up to 33 1/3% of the value of its total assets
to secure such borrowings. For purposes of this restriction, the purchase or
sale of securities on a when-issued or delayed delivery basis, forward
foreign currency exchange contracts and collateral arrangements relating
thereto, and collateral arrangements with respect to interest rate swap
transactions, reverse repurchase agreements, dollar roll transactions,
options, futures contracts and options thereon and obligations of the Fund
to Directors pursuant to deferred compensation arrangements are not deemed
to be a pledge of assets or the issuance of a senior security.
4. Purchase any security (other than obligations of the U.S. Government, its
agencies or instrumentalities) if as a result: (i) with respect to 75% of
the Fund's total assets, more than 5% of the Fund's total assets (determined
at the time of investment) would then be invested in securities of a single
issuer, or (ii) 25% or more of the Fund's total assets (determined at the
time of the investment) would be invested in a single industry.
5. Buy or sell real estate or interests in real estate, except that the Fund
may purchase and sell securities which are secured by real estate,
securities of companies which invest or deal in real estate and publicly
traded securities of real estate investment trusts. The Fund may not
purchase interests in real estate limited partnerships which are not readily
marketable.
6. Buy or sell commodities or commodity contracts, except that the Fund may
purchase and sell financial futures contracts and options thereon. (For
purposes of this restriction, futures contracts on securities, currencies
and on
B-17
<PAGE>
securities or financial indices and forward foreign currency exchange
contracts are not deemed to be commodities or commodity contracts.)
7. Act as underwriter except to the extent that, in connection with the
disposition of portfolio securities, it may be deemed to be an underwriter
under certain federal securities laws. The Fund has not adopted a
fundamental investment policy with respect to investments in restricted
securities.
8. Make investments for the purpose of exercising control or management.
9. Invest in securities of other investment companies, except by purchases
in the open market involving only customary brokerage commissions and as a
result of which the Fund will not hold more than 3% of the outstanding
voting securities of any one investment company, will not have invested more
than 5% of its total assets in any one investment company and will not have
invested more than 10% of its total assets (determined at the time of
investment) in such securities of one or more investment companies, or
except as part of a merger, consolidation or other acquisition.
10. Invest in interests in oil, gas or other mineral exploration or
development programs, except that the Fund may invest in the securities of
companies which invest in or sponsor such programs.
11. Make loans, except through (i) repurchase agreements and (ii) loans of
portfolio securities limited to 30% of the Fund's total assets.
12. Purchase more than 10% of all outstanding voting securities of any one
issuer.
Whenever any fundamental investment policy or investment restriction states
a maximum percentage of the Fund's assets, it is intended that if the
percentage limitation is met at the time the investment is made, a later
change in percentage resulting from changing total or net asset values will
not be considered a violation of such policy. However, in the event that the
Fund's asset coverage for borrowings falls below 300%, the Fund will take
prompt action to reduce its borrowings, as required by applicable law.
DIRECTORS AND OFFICERS
<TABLE>
<CAPTION>
POSITION WITH PRINCIPAL OCCUPATION
NAME, ADDRESS AND AGE FUND DURING PAST 5 YEARS
--------------------- ------------- --------------------
<S> <C> <C>
Edward D. Beach (71).... Director President and Director of BMC Fund, Inc., a
c/o Prudential Mutual closed-end investment company; prior thereto, Vice
Fund Management LLC Chairman of Broyhill Furniture Industries, Inc.;
Gateway Center Three Certified Public Accountant; Secretary and
Newark, NJ 07102 Treasurer of Broyhill Family Foundation, Inc.;
Member of the Board of Trustees of Mars Hill
College; President, Treasurer and Director of
First Financial Fund, Inc. and The High Yield Plus
Fund, Inc.; President and Director of Global
Utility Fund, Inc.; Director of The High Yield
Income Fund, Inc.
Delayne Dedrick Gold Director Marketing and Management Consultant; Director of
(58).................... The High Yield Income Fund, Inc.
c/o Prudential Mutual
Fund Management LLC
Gateway Center Three
Newark, NJ 07102
*Robert F. Gunia (50)... Vice President and Comptroller, Prudential Investments (since May
Gateway Center Three Director 1996); Executive Vice President and Treasurer,
Newark, NJ 07102 Prudential Mutual Fund Management LLC (PMF);
Senior Vice President (since March 1987) of
Prudential Securities Incorporated (Prudential
Securities); Director (since June 1987),
Prudential Mutual Fund Services LLC; formerly
Chief Administrative Officer (July 1990-September
1996), Director (January 1989-September 1996),
Executive Vice President, Treasurer and Chief
Financial Officer (June 1987-September 1996) of
Prudential Mutual Fund Management, Inc.; Vice
President and Director of The Asia Pacific Fund,
Inc. (since May 1989); Director of The High Yield
Income Fund, Inc.
</TABLE>
B-18
<PAGE>
<TABLE>
<CAPTION>
POSITION WITH PRINCIPAL OCCUPATION
NAME, ADDRESS AND AGE FUND DURING PAST 5 YEARS
--------------------- ------------- --------------------
<S> <C> <C>
Donald D. Lennox (77)........ Director Chairman (since February 1990) and Director (since
c/o Prudential Mutual April 1989) of International Imaging Materials,
Fund Management LLC Inc.; Retired Chairman, Chief Executive Officer
Gateway Center Three and Director of Schlegel Corporation (industrial
Newark, NJ 07102 manufacturing) (March 1987-February 1989);
Director of Gleason Corporation, Personal Sound
Technologies, Inc. and The High Yield Income Fund,
Inc.
Douglas H. McCorkindale (57). Director Vice Chairman, Gannett Co. Inc. (publishing and
c/o Prudential Mutual media)
Fund Management LLC (since March 1984); Director of Gannett Co. Inc.,
Gateway Center Three Frontier Corporation and Continental Airlines,
Newark, NJ 07102 Inc.
*Mendel A. Melzer (35)....... Director Chief Investment Officer (since October 1996) of
751 Broad St. Prudential Mutual Funds; formerly Chief Financial
Newark, NJ 07102 Officer (November 1995-September 1996) of the
Money Management Group of The Prudential Insurance
Company of America (Prudential), Senior Vice
President and Chief Financial Officer of
Prudential Preferred Financial Services (April
1993-November 1995), Managing Director of
Prudential Investment Advisors (April 1991-April
1993), and Senior Vice President of Prudential
Capital Corporation (July 1989-April 1991);
Chairman and Director of Prudential Series Fund,
Inc.; Director of The High Yield Income Fund, Inc.
Thomas T. Mooney (54)........ Director President of the Greater Rochester Metro Chamber
c/o Prudential Mutual of Commerce; former Rochester City Manager;
Fund Management LLC Trustee of Center for Governmental Research, Inc.;
Gateway Center Three Director of Blue Cross of Rochester, Monroe County
Newark, NJ 07102 Water Authority, Rochester Jobs, Inc., Executive
Service Corps of Rochester, Monroe County
Industrial Development Corporation, Northeast
Midwest Institute, The Business Council of New
York, First Financial Fund, Inc., The High Yield
Plus Fund, Inc. and The High Yield Income Fund,
Inc.
Stephen P. Munn (54)......... Director Chairman (since January 1994), Director and
c/o Prudential Mutual President and Chief Executive Officer (1988-
Fund Management LLC December 1993) of Carlisle Companies Incorporated
Gateway Center Three (manufacturer of industrial products).
Newark, NJ 07102
*Richard A. Redeker (53)..... President and Employee of Prudential Investments; formerly
751 Broad Street Director President, Chief Executive Officer and Director
Newark, NJ 07102 (since October 1993-September 1996), Prudential
Mutual Fund Management, Inc., Director and Member
of Operating Committee (October 1993-September
1996), Prudential Securities, Director (October
1993-September 1996) of Prudential Securities
Group, Inc., Executive Vice President, The
Prudential Investment Corporation (January 1994-
September 1996), Director (January 1994-September
1996), Prudential Mutual Fund Distributors, Inc.
and Prudential Mutual Fund Services LLC, and
Senior Executive Vice President and Director of
Kemper Financial Services, Inc. (September 1978-
September 1993); President and Director of The
High Yield Income Fund, Inc.
</TABLE>
B-19
<PAGE>
<TABLE>
<CAPTION>
POSITION WITH PRINCIPAL OCCUPATION
NAME, ADDRESS AND AGE FUND DURING PAST 5 YEARS
--------------------- ------------- --------------------
<S> <C> <C>
Robin B. Smith (57)...... Director Chairman and Chief Executive Officer (since August
c/o Prudential Mutual 1996) of Publishers Clearing House; formerly
Fund Management LLC President and Chief Executive Officer (January
Gateway Center Three 1988-August 1996) and President and Chief
Newark, NJ 07102 Operating Officer (September 1981-December 1988)
of Publishers Clearing House; Director of
BellSouth Corporation, The Omnicom Group, Inc.,
Texaco Inc., Springs Industries Inc. and Kmart
Corporation.
Louis A. Weil, III (55).. Director President and Chief Executive Officer (since
c/o Prudential Mutual January 1996) and Director (since September 1991)
Fund Management LLC of Central Newspapers, Inc.; Chairman of the Board
Gateway Center Three (since January 1996), Publisher and Chief
Newark, NJ 07102 Executive Officer (August 1991-December 1995) of
Phoenix Newspapers, Inc.; formerly Publisher of
Time Magazine (May 1989-March 1991); formerly
President, Publisher and Chief Executive Officer
of The Detroit News (February 1986-August 1989);
formerly member of the Advisory Board, Chase
Manhattan Bank-Westchester.
Clay T. Whitehead (57)... Director President, National Exchange Inc. (new business
c/o Prudential Mutual development firm) (since May 1983).
Fund Management LLC
Gateway Center Three
Newark, NJ 07102
S. Jane Rose (50)........ Secretary Senior Vice President (since December 1996) of
Gateway Center Three PMF; Senior Vice President (January 1991-September
Newark, NJ 07102 1996) and Senior Counsel (June 1987-September
1996) of Prudential Mutual Fund Management, Inc.;
Senior Vice President and Senior Counsel of
Prudential Securities (since July 1992); formerly
Vice President and Associate General Counsel of
Prudential Securities.
Ellyn C. Vogin (35)...... Assistant Secretary Vice President (since December 1996) of PMF; Vice
Gateway Center Three President and Associate General Counsel (March
Newark, NJ 07102 1995-September 1996) of Prudential Mutual Fund
Management, Inc.; Vice President and Associate
General Counsel of Prudential Securities (since
March 1995); prior thereto, associated with the
law firm of Fulbright & Jaworski L.L.P.
Grace Torres (37)........ Treasurer and Principal First Vice President (since December 1996) of PMF;
Gateway Center Three Financial and First Vice President (March 1994-September 1996)
Newark, NJ 07102 Accounting Officer of Prudential Mutual Fund Management, Inc.; First
Vice President (since March 1993) of Prudential
Securities; formerly Vice President of Bankers
Trust (July 1989-March 1994).
Stephen M. Ungerman (43). Assistant Treasurer Tax Director of Prudential Investments and the
Gateway Center Three Private Asset Group of Prudential (since March
Newark, NJ 07102 1996); formerly First Vice President of Prudential
Mutual Fund Management, Inc. (since February 1993-
September 1996); prior thereto, Senior Tax
Manager of Price Waterhouse (1981-January 1993).
</TABLE>
- --------
* "Interested" Director, as defined in the Investment Company Act, by reason of
his affiliation with Prudential, Prudential Securities or PMF.
B-20
<PAGE>
Directors and officers of the Fund are also trustees, directors and officers
of some or all of the other investment companies distributed by Prudential
Securities.
The officers conduct and supervise the daily business operations of the
Fund, while the Directors, in addition to their functions set forth under
"Manager" and "Distributor," oversee such actions and decide on general
policy.
Pursuant to the Management Agreement with the Fund, the Manager pays all
compensation of officers and employees of the Fund as well as the fees and
expenses of all Directors of the Fund who are affiliated persons of the
Manager.
The Fund pays each of its Directors who is not an affiliated person of PMF
or The Prudential Investment Corporation (PIC, the Subadviser or the
investment adviser) annual compensation of $4,500, in addition to certain out-
of-pocket expenses.
Directors may receive their Directors' fees pursuant to a deferred fee
agreement with the Fund. Under the terms of the agreement, the Fund accrues
daily the amount of Directors' fees in installments which accrue interest at a
rate equivalent to the prevailing rate applicable to 90-day U.S. Treasury
bills at the beginning of each calendar quarter or, pursuant to an SEC
exemptive order, at the daily rate of return of the Fund (the Fund rate).
Payment of the interest so accrued is also deferred and accruals become
payable at the option of the Director. The Fund's obligation to make payments
of deferred Directors' fees, together with interest thereon, is a general
obligation of the Fund.
The Directors have adopted a retirement policy which calls for the
retirement of Directors on December 31 of the year in which they reach the age
of 72, except that retirement is being phased in for Directors who were age 68
or older as of December 31, 1993. Under this phase-in provision, Messrs. Beach
and Lennox are scheduled to retire on December 31, 1999 and December 31, 1997,
respectively.
The following table sets forth the aggregate compensation paid by the Fund
for the fiscal year ended November 30, 1996 to the Directors who are not
affiliated with the Manager and the aggregate compensation paid to such
Directors for service on the Fund's board and that of all other funds managed
by PMF (Fund Complex) for the calendar year ended December 31, 1995.
COMPENSATION TABLE
<TABLE>
<CAPTION>
TOTAL
PENSION OR COMPENSATION
RETIREMENT FROM FUND
AGGREGATE BENEFITS ACCRUED ESTIMATED ANNUAL AND FUND
COMPENSATION AS PART OF FUND BENEFITS UPON COMPLEX PAID
NAME AND POSITION FROM FUND EXPENSES RETIREMENT TO DIRECTORS
----------------- ------------ ---------------- ---------------- ----------------
<S> <C> <C> <C> <C>
Edward D. Beach,........ $4,500 None N/A $183,500(22/43)*
Director
Delayne D. Gold,........ $4,500 None N/A $183,250(24/45)*
Director
Robert F. Gunia**,...... $0 None N/A $0
Vice President and Di-
rector
Donald D. Lennox,....... $4,500 None N/A $ 86,250(10/22)*
Director
Douglas H. $4,500 None N/A $ 63,750(7/10)*
McCorkindale,..........
Director
Mendel A. Melzer**,..... $0 None N/A $0
Director
</TABLE>
B-21
<PAGE>
<TABLE>
<CAPTION>
TOTAL
PENSION OR COMPENSATION
RETIREMENT FROM FUND
AGGREGATE BENEFITS ACCRUED ESTIMATED ANNUAL AND FUND
COMPENSATION AS PART OF FUND BENEFITS UPON COMPLEX PAID
NAME AND POSITION FROM FUND EXPENSES RETIREMENT TO DIRECTORS
----------------- ------------ ---------------- ---------------- ----------------
<S> <C> <C> <C> <C>
Thomas T. Mooney,....... $4,500 None N/A $125,625(14/19)*
Director
Stephen P. Munn,........ $4,500 None N/A $ 39,375(6/8)*
Director
Richard A. Redeker **,.. $0 None N/A $0
President and Director
Robin B. Smith,......... $4,500 None N/A $100,741(10/19)*
Director
Louis A. Weil, III,..... $4,500 None N/A $ 93,750(11/16)*
Director
Clay T. Whitehead,...... $4,500 None N/A $ 35,500(4/5)*
Director
</TABLE>
- --------
* Indicates number of funds/portfolios in Fund Complex (including the Fund) to
which aggregate compensation relates.
** "Interested" Directors do not receive compensation from the Fund or other
funds in the Fund Complex.
As of January 10, 1997, the Directors and officers of the Fund, as a group,
owned less than 1% of the outstanding shares of the Fund.
As of January 10, 1997, the only beneficial owners, directly or indirectly,
of more than 5% of any class of shares of the Fund were: Prudential Securities
C/F, John P. Dobson IRA DTD 06/14/95, 140 Christie Hill Road, Darien, CT which
owned 20,506 Class A shares (approximately 8.2% of the outstanding Class A
shares); Publix Inc. TTEE Profit Sharing, PS Plan DTD 11/02/81, Hoyt R.
Barnett TTEE, Attn: Marvin Weathers, P.O. Box 407, Lakeland, FL which owned
82,027 Class A shares (approximately 33.0% of the outstanding Class A shares);
and Mitchell D. Johnson, Lois G. Johnson CO-TTEES, Mitchell D. Johnson Rev
Trust, UA DTD 12/16/93, 2341 University Avenue W, Saint Paul, MN which owned
9,632 Class C shares (approximately 10.6% of the outstanding Class C shares).
As of January 10, 1997, Prudential Securities was the record holder for
other beneficial owners of 218,162 Class A shares (approximately 87.8% of the
outstanding Class A shares); 420,966 Class B shares (approximately 98.6% of
the outstanding Class B shares); and 86,810 Class C shares (approximately
96.3% of the outstanding Class C shares). In the event of any meetings of
shareholders, Prudential Securities will forward, or cause the forwarding of,
proxy material to the beneficial owners for which it is the record holder.
MANAGER
The manager of the Fund is Prudential Mutual Fund Management LLC (PMF or the
Manager), Gateway Center Three, Newark, New Jersey 07102. PMF serves as
manager to all of the other investment companies that, together with the Fund,
comprise the Prudential Mutual Funds. See "How the Fund is Managed--Manager"
in the Prospectus. As of December 31, 1996, PMF managed and/or administered
open-end and closed-end management investment companies with assets of
approximately $55.2 billion. According to the Investment Company Institute, as
of September 30, 1996, the Prudential Mutual Funds were the 17th largest
family of mutual funds in the United States.
B-22
<PAGE>
PMF is a subsidiary of Prudential Securities and Prudential. PMF has three
wholly-owned subsidiaries: Prudential Mutual Fund Distributors, Inc.,
Prudential Mutual Fund Services LLC (PMFS or the Transfer Agent) and
Prudential Mutual Fund Investment Management. PMFS serves as the transfer
agent for the Prudential Mutual Funds and, in addition, provides customer
service, recordkeeping and management and administration services to qualified
plans.
Pursuant to the Management Agreement with the Fund (the Management
Agreement), PMF, subject to the supervision of the Fund's Board of Directors
and in conformity with the stated policies of the Fund, manages both the
investment operations of the Fund and the composition of the Fund's portfolio,
including the purchase, retention, disposition and loan of securities and
other assets. In connection therewith, PMF is obligated to keep certain books
and records of the Fund. PMF also administers the Fund's corporate affairs
and, in connection therewith, furnishes the Fund with office facilities,
together with those ordinary clerical and bookkeeping services which are not
being furnished by State Street Bank and Trust Company, the Fund's custodian
(the Custodian), and PMFS, the Fund's transfer and dividend disbursing agent.
The management services of PMF for the Fund are not exclusive under the terms
of the Management Agreement and PMF is free to, and does, render management
services to others.
For its services, PMF receives, pursuant to the Management Agreement, a fee
at an annual rate of .75 of 1% of the Fund's average daily net assets. The fee
is computed daily and payable monthly. The Management Agreement also provides
that, in the event the expenses of the Fund (including the fees of PMF, but
excluding interest, taxes, brokerage commissions, distribution fees and
litigation and indemnification expenses and other extraordinary expenses not
incurred in the ordinary course of the Fund's business) for any fiscal year
exceed the lowest applicable annual expense limitation established and
enforced pursuant to the statutes or regulations of any jurisdiction in which
the Fund's shares are qualified for offer and sale, the compensation due to
PMF will be reduced by the amount of such excess. Reductions in excess of the
total compensation payable to PMF will be paid by PMF to the Fund. For the
fiscal period ended November 30, 1996, the expense reimbursement amounted to
$178,863 (1.41% of average net assets). Currently the Fund believes that there
are no such expense limitations.
In connection with its management of the corporate affairs of the Fund, PMF
bears the following expenses:
(a) the salaries and expenses of all of its and the Fund's personnel except
the fees and expenses of Directors who are not affiliated persons of PMF or
the Fund's investment adviser;
(b) all expenses incurred by PMF or by the Fund in connection with managing
the ordinary course of the Fund's business, other than those assumed by the
Fund as described below; and
(c) the costs and expenses payable to PIC pursuant to the Subadvisory
Agreement between PMF and PIC (the Subadvisory Agreement).
Under the terms of the Management Agreement, the Fund is responsible for the
payment of the following expenses: (a) the fees payable to the Manager, (b)
the fees and expenses of Directors who are not affiliated persons of the
Manager or the Fund's investment adviser, (c) the fees and certain expenses of
the Custodian and Transfer and Dividend Disbursing Agent, including the cost
of providing records to the Manager in connection with its obligation of
maintaining required records of the Fund and of pricing the Fund's shares, (d)
the charges and expenses of legal counsel and independent accountants for the
Fund, (e) brokerage commissions and any issue or transfer taxes chargeable to
the Fund in connection with its securities transactions, (f) all taxes and
corporate fees payable by the Fund to governmental agencies, (g) the fees of
any trade associations of which the Fund may be a member, (h) the cost of
stock certificates representing shares of the Fund, (i) the cost of fidelity
and liability insurance, (j) certain organization expenses of the Fund and the
fees and expenses involved in registering and maintaining registration of the
Fund and of its shares with the SEC, registering the Fund as a broker or
dealer and qualifying its shares under state securities laws, including the
preparation and printing of the Fund's registration statements and
prospectuses for such purposes, (k) allocable communications expenses with
respect to investor services and all expenses of shareholders' and Directors'
meetings and of preparing, printing and mailing reports, proxy
B-23
<PAGE>
statements and prospectuses to shareholders in the amount necessary for
distribution to the shareholders, (l) litigation and indemnification expenses
and other extraordinary expenses not incurred in the ordinary course of the
Fund's business and (m) distribution fees.
The Management Agreement provides that PMF will not be liable for any error
of judgment or for any loss suffered by the Fund in connection with the
matters to which the Management Agreement relates, except a loss resulting
from willful misfeasance, bad faith, gross negligence or reckless disregard of
duty. The Management Agreement provides that it will terminate automatically
if assigned, and that it may be terminated without penalty by either party
upon not more than 60 days' nor less than 30 days' written notice. The
Management Agreement will continue in effect for a period of more than two
years from the date of execution only so long as such continuance is
specifically approved at least annually in conformity with the Investment
Company Act. The Management Agreement was last approved by the Board of
Directors of the Fund, including all of the Directors who are not parties to
the contract or interested persons of any such party, as defined in the
Investment Company Act, on May 8, 1996, and by the initial shareholder of the
Fund on February 14, 1996. For the fiscal period ended November 30, 1996, PMF
received management fees of $65,160.
PMF has entered into the Subadvisory Agreement with PIC, a wholly-owned
subsidiary of Prudential. The Subadvisory Agreement provides that PIC will
furnish investment advisory services in connection with the management of the
Fund. In connection therewith, PIC is obligated to keep certain books and
records of the Fund. PMF continues to have responsibility for all investment
advisory services pursuant to the Management Agreement and supervises PIC's
performance of such services. PIC is reimbursed by PMF for the reasonable
costs and expenses incurred by PIC in furnishing those services. Investment
advisory services are provided to the Fund by a business group at PIC, known
as Prudential Investments.
The Subadvisory Agreement was last approved by the Board of Directors,
including a majority of the Directors who are not parties to the contract or
interested persons of any such party, as defined in the Investment Company
Act, on May 8, 1996, and by the initial shareholder of the Fund on February
14, 1996.
The Subadvisory Agreement provides that it will terminate in the event of
its assignment (as defined in the Investment Company Act) or upon the
termination of the Management Agreement. The Subadvisory Agreement may be
terminated by the Fund, PMF or PIC upon not more than 60 days', nor less than
30 days', written notice. The Subadvisory Agreement provides that it will
continue in effect for a period of more than two years from its execution only
so long as such continuance is specifically approved at least annually in
accordance with the requirements of the Investment Company Act.
DISTRIBUTOR
Prudential Securities Incorporated (Prudential Securities or PSI), One
Seaport Plaza, New York, New York 10292, acts as the distributor of the shares
of the Fund.
Pursuant to separate Distribution and Service Plans (the Class A Plan, the
Class B Plan and the Class C Plan, collectively, the Plans) adopted by the
Fund under Rule 12b-1 under the Investment Company Act and a distribution
agreement (the Distribution Agreement), Prudential Securities (the
Distributor) incurs the expenses of distributing the Fund's Class A, Class B
and Class C shares. See "How the Fund is Managed--Distributor" in the
Prospectus.
On February 6, 1996, the Board of Directors, including a majority of the
Directors who are not interested persons of the Fund and who have no direct or
indirect financial interest in the operation of the Class A, Class B or Class
C Plan or in any agreement related to the Plans (the Rule 12b-1 Directors), at
a meeting called for the purpose of voting on each Plan, adopted the Plans and
Distribution Agreement. The Class A Plan provides that (i) .25 of 1% of the
average daily net assets of the Class A shares may be used to pay for personal
service and the maintenance of shareholder accounts (service fee) and (ii)
B-24
<PAGE>
total distribution fees (including the service fee of .25 of 1%) may not
exceed .30 of 1%. The Class B and Class C Plans provide that (i) .25 of 1% of
the average daily net assets of the Class B and Class C shares, respectively,
may be paid as a service fee and (ii) .75 of 1% (not including the service
fee) may be paid for distribution-related expenses with respect to the Class B
and Class C shares, respectively (asset-based sales charge). The Plans were
last approved by the Directors, including a majority of the Rule 12b-1
Directors, on May 8, 1996. The Plans were each approved by the sole
shareholder of the Class A, Class B and Class C shares on February 14, 1996.
CLASS A PLAN. For the fiscal period ended November 30, 1996, PSI received
payments of approximately $7,500 under the Class A Plan. This amount was
primarily expended for payments of account servicing fees to financial
advisers and other persons who sell Class A shares. For the fiscal period
ended November 30, 1996, PSI also received approximately $120,400 in initial
sales charges.
CLASS B PLAN. For the fiscal period ended November 30, 1996, Prudential
Securities received approximately $45,400 from the Fund under the Class B Plan
and spent approximately $340,300 in distributing the Fund's Class B shares. It
is estimated that of the latter amount, approximately 8.3% ($28,300) was spent
on printing and mailing of prospectuses to other than current shareholders; 0%
($0) on compensation to Pruco Securities Corporation (an affiliated broker-
dealer) (Prusec) for commissions to its representatives and other expenses,
including an allocation of overhead and other branch office distribution-
related expenses, incurred by it for distribution of Fund shares; and 91.7%
($312,000) on the aggregate of (i) payments of commissions and account
servicing fees to financial advisers (31.0% or $105,500) and (ii) an
allocation of overhead and other branch office distribution-related expenses
(60.7% or $206,500). The term "overhead and other branch office distribution-
related expenses" represents (a) the expenses or operating Prudential
Securities' and Prusec's branch offices in connection with the sale of Fund
shares, including lease costs, the salaries and employee benefits of
operations and sales support personnel, utility costs, communications costs
and the costs of stationery and supplies, (b) the costs of client sales
seminars, (c) expenses of mutual fund sales coordinators to promote the sale
of Fund shares and (d) other incidental expenses relating to branch promotion
of Fund sales.
Prudential Securities also receives the proceeds of contingent deferred
sales charges paid by investors upon certain redemptions of Class B shares.
See "Shareholder Guide--How to Sell Your Shares--Contingent Deferred Sales
Charges" in the Prospectus. For the fiscal period ended November 30, 1996,
Prudential Securities received approximately $24,600 in contingent deferred
sales charges attributable to Class B shares.
CLASS C PLAN. For the fiscal period ended November 30, 1996, Prudential
Securities received approximately $11,500 under the Class C Plan and spent
approximately $28,100 in distributing Class C shares. It is estimated that of
the latter amount, approximately 27.4% ($7,700) was spent on printing and
mailing of prospectuses to other than current shareholders; 0% ($0) on
compensation to Prusec for commissions to its representatives and other
expenses, including an allocation of overhead and other branch office
distribution-related expenses, incurred by it for distribution of Fund shares;
and 72.6% ($20,400) on the aggregate of (i) payments of commissions and
account servicing fees to financial advisers (28.1% or $7,900) and (ii) an
allocation of overhead and other branch office distribution-related expenses
(44.5% or $12,500). Prudential Securities also receives the proceeds of
contingent deferred sales charges paid by investors upon certain redemptions
of Class C shares. See "Shareholder Guide--How to Sell Your Shares--Contingent
Deferred Sales Charges" in the Prospectus. For the fiscal period ended
November 30, 1996, Prudential Securities received approximately $1,000 in
contingent deferred sales charges attributable to Class C shares.
The Class A, Class B and Class C Plans continue in effect from year to year,
provided that each such continuance is approved at least annually by a vote of
the Board of Directors, including a majority vote of the Rule 12b-1 Directors,
cast in person at a meeting called for the purpose of voting on such
continuance. The Plans may each be terminated at any time, without penalty, by
the vote of a majority of the Rule 12b-1 Directors or by the vote of the
holders of a majority of the
B-25
<PAGE>
outstanding shares of the applicable class on not more than 60 days', nor less
than 30 days' written notice to any other party to the Plans. The Plans may
not be amended to increase materially the amounts to be spent for the services
described therein without approval by the shareholders of the applicable
class, and all material amendments are required to be approved by the Board of
Directors in the manner described above. Each Plan will automatically
terminate in the event of its assignment. The Fund will not be obligated to
pay expenses incurred under any Plan if it is terminated or not continued.
Pursuant to each Plan, the Board of Directors will review at least quarterly
a written report of the distribution expenses incurred on behalf of each class
of shares of the Fund by the Distributor. The report will include an
itemization of the distribution expenses and the purposes of such
expenditures. In addition, as long as the Plans remain in effect, the
selection and nomination of Rule 12b-1 Directors shall be committed to the
Rule 12b-1 Directors.
Pursuant to the Distribution Agreement, the Fund has agreed to indemnify
Prudential Securities to the extent permitted by applicable law against
certain liabilities under the Securities Act. A restated Distribution
Agreement was approved by the Directors, including a majority of the Rule 12b-
1 Directors, on May 8, 1996.
On October 21, 1993, PSI entered into an omnibus settlement with the SEC,
state securities regulators in 51 jurisdictions and the National Association
of Securities Dealers, Inc. (NASD) to resolve allegations that PSI sold
interests in more than 700 limited partnerships (and a limited number of other
types of securities) from January 1, 1980 through December 31, 1990, in
violation of securities laws to persons for whom such securities were not
suitable in light of the individuals' financial condition or investment
objectives. It was also alleged that the safety, potential returns and
liquidity of the investments had been misrepresented. The limited partnerships
principally involved real estate, oil and gas producing properties and
aircraft leasing ventures. The SEC Order (i) included findings that PSI's
conduct violated the federal securities laws and that an order issued by the
SEC in 1986 requiring PSI to adopt, implement and maintain certain supervisory
procedures had not been complied with; (ii) directed PSI to cease and desist
from violating the federal securities laws and imposed a $10 million civil
penalty; and (iii) required PSI to adopt certain remedial measures including
the establishment of a Compliance Committee of its Board of Directors.
Pursuant to the terms of the SEC settlement, PSI established a settlement fund
in the amount of $330,000,000 and procedures, overseen by a court approved
Claims Administrator, to resolve legitimate claims for compensatory damages by
purchasers of the partnership interests. PSI has agreed to provide additional
funds, if necessary, for that purpose. PSI's settlement with the state
securities regulators included an agreement to pay a penalty of $500,000 per
jurisdiction. PSI consented to a censure and to the payment of a $5,000,000
fine in settling the NASD action. In settling the above referenced matters,
PSI neither admitted nor denied the allegations asserted against it.
On January 18, 1994, PSI agreed to the entry of a Final Consent Order and a
Parallel Consent Order by the Texas Securities Commissioner. The firm also
entered into a related agreement with the Texas Securities Commissioner. The
allegations were that the firm had engaged in improper sales practices and
other improper conduct resulting in pecuniary losses and other harm to
investors residing in Texas with respect to purchases and sales of limited
partnership interests during the period of January 1, 1980 through December
31, 1990. Without admitting or denying the allegations, PSI consented to a
reprimand, agreed to cease and desist from future violations, and to provide
voluntary donations to the State of Texas in the aggregate amount of
$1,500,000. The firm agreed to suspend solicitation of new customer accounts,
the general solicitation of new accounts, and the offer for sale of securities
in or from PSI's North Texas office to new customers during a period of twenty
consecutive business days, and agreed that its other Texas offices would be
subject to the same restrictions for a period of five consecutive business
days. PSI also agreed to institute training programs for its securities
salesmen in Texas.
On October 27, 1994, Prudential Securities Group, Inc. and PSI entered into
agreements with the United States Attorney deferring prosecution (provided PSI
complies with the terms of the agreement for three years) for any alleged
criminal activity related to the sale of certain limited partnership programs
from 1983 to 1990. In connection with these agreements,
B-26
<PAGE>
PSI agreed to add the sum of $330,000,000 to the Fund established by the SEC
and executed a stipulation providing for a reversion of such funds to the
United States Postal Inspection Service. PSI further agreed to obtain a
mutually acceptable outside director to sit on the Board of Directors of PSG
and the Compliance Committee of PSI. The new director will also serve as an
independent "ombudsman" whom PSI employees can call anonymously with
complaints about ethics and compliance. Prudential Securities shall report any
allegations or instances of criminal conduct and material improprieties to the
new director. The new director will submit compliance reports which shall
identify all such allegations or instances of criminal conduct and material
improprieties every three months for a three-year period.
NASD MAXIMUM SALES CHARGE RULE
Pursuant to rules of the NASD, the Distributor is required to limit
aggregate initial sales charges, deferred sales charges and asset-based sales
charges to 6.25% of total gross sales of each class of shares. In the case of
Class B shares, interest charges equal to the prime rate plus one percent per
annum may be added to the 6.25% limitation. Sales from the reinvestment of
dividends and distributions are not required to be included in the calculation
of the 6.25% limitation. The annual asset-based sales charge with respect to
Class B and Class C shares of the Fund may not exceed .75 of 1%. The 6.25%
limitation applies to the Fund rather than on a per shareholder basis. If
aggregate sales charges were to exceed 6.25% of total gross sales of any
class, all sales charges on shares of that class would be suspended.
PORTFOLIO TRANSACTIONS AND BROKERAGE
The Manager is responsible for decisions to buy and sell securities, futures
and options on securities and futures for the Fund, the selection of brokers,
dealers and futures commission merchants to effect the transactions and the
negotiation of brokerage commissions, if any. The term "Manager" as used in
this section includes the Subadviser. Broker-dealers may receive negotiated
brokerage commissions on Fund portfolio transactions, including options and
the purchase and sale of underlying securities upon the exercise of options.
On foreign securities exchanges, commissions may be fixed. Orders may be
directed to any broker or futures commission merchant including, to the extent
and in the manner permitted by applicable law, Prudential Securities and its
affiliates.
Equity securities traded in the over-the-counter market and bonds, including
convertible bonds, are generally traded on a "net" basis with dealers acting
as principal for their own accounts without a stated commission, although the
price of the security usually includes a profit to the dealer. In underwritten
offerings, securities are purchased at a fixed price which includes an amount
of compensation to the underwriter, generally referred to as the underwriter's
concession or discount. On occasion, certain money market instruments and U.S.
Government agency securities may be purchased directly from the issuer, in
which case no commissions or discounts are paid. The Fund will not deal with
Prudential Securities or any affiliate in any transaction in which Prudential
Securities or any affiliate acts as principal, except in accordance with rules
of the SEC. Thus, it will not deal with Prudential Securities acting as market
maker, and it will not execute a negotiated trade with Prudential Securities
if execution involves Prudential Securities' acting as principal with respect
to any part of the Fund's order.
Portfolio securities may not be purchased from any underwriting or selling
syndicate of which Prudential Securities, or an affiliate, during the
existence of the syndicate, is a principal underwriter (as defined in the
Investment Company Act), except in accordance with rules of the SEC. This
limitation, in the opinion of the Fund, will not significantly affect the
Fund's ability to pursue its present investment objective. However, in the
future in other circumstances, the Fund may be at a disadvantage because of
this limitation in comparison to other funds with similar objectives but not
subject to such limitations.
B-27
<PAGE>
In placing orders for portfolio securities of the Fund, the Manager is
required to give primary consideration to obtaining the most favorable price
and efficient execution. Within the framework of this policy, the Manager will
consider the research and investment services provided by brokers, dealers or
futures commission merchants who effect or are parties to portfolio
transactions of the Fund, the Manager or the Manager's other clients. Such
research and investment services are those which brokerage houses customarily
provide to institutional investors and include statistical and economic data
and research reports on particular companies and industries. Such services are
used by the Manager in connection with all of its investment activities, and
some of such services obtained in connection with the execution of
transactions for the Fund may be used in managing other investment accounts.
Conversely, brokers, dealers or futures commission merchants furnishing such
services may be selected for the execution of transactions of such other
accounts, whose aggregate assets are far larger than the Fund's, and the
services furnished by such brokers, dealers or futures commission merchants
may be used by the Manager in providing investment management for the Fund.
Commission rates are established pursuant to negotiations with the broker,
dealer or futures commission merchant based on the quality and quantity of
execution services provided by the broker in the light of generally prevailing
rates. The Manager's policy is to pay higher commissions to brokers, other
than Prudential Securities, for particular transactions than might be charged
if a different broker had been selected, on occasions when, in the Manager's
opinion, this policy furthers the objective of obtaining best price and
execution. In addition, the Manager is authorized to pay higher commissions on
brokerage transactions for the Fund to brokers other than Prudential
Securities (or any affiliate) in order to secure research and investment
services described above, subject to review by the Fund's Board of Directors
from time to time as to the extent and continuation of this practice. The
allocation or orders among brokers and the commission rates paid are reviewed
periodically by the Fund's Board of Directors.
Subject to the above considerations, Prudential Securities (or any
affiliate) may act as a securities broker or futures commission merchant for
the Fund. In order for Prudential Securities (or any affiliate) to effect any
portfolio transactions for the Fund, the commissions, fees or other
remuneration received by Prudential Securities (or any affiliate) must be
reasonable and fair compared to the commissions, fees or other remuneration
paid to other brokers or futures commission merchants in connection with
comparable transactions involving similar securities or futures being
purchased or sold on an exchange during a comparable period of time. This
standard would allow Prudential Securities (or any affiliate) to receive no
more than the remuneration which would be expected to be received by an
unaffiliated broker or futures commission merchant in a commensurate arm's-
length transaction. Furthermore, the Board of Directors of the Fund, including
a majority of the Directors who are not "interested" persons, has adopted
procedures which are reasonably designed to provide that any commissions, fees
or other remuneration paid to Prudential Securities (or any affiliate) are
consistent with the foregoing standard. In accordance with Section 11(a) of
the Securities Exchange Act of 1934, Prudential Securities may not retain
compensation for effecting transactions on a national securities exchange for
the Fund unless the Fund has expressly authorized the retention of such
compensation. Prudential Securities must furnish to the Fund at least annually
a statement setting forth the total amount of all compensation retained by
Prudential Securities from transactions effected for the Fund during the
applicable period. Brokerage and futures transactions with Prudential
Securities are also subject to such fiduciary standards as may be imposed by
applicable law. For the fiscal period ended November 30, 1996, total brokerage
commissions paid by the Fund were $22,054, none of which was paid to
Prudential Securities or any affiliate of the Fund.
PURCHASE AND REDEMPTION OF FUND SHARES
Shares of the Fund may be purchased at a price equal to the next determined
net asset value per share plus a sales charge which, at the election of the
investor, may be imposed either (i) at the time of purchase (Class A shares)
or (ii) on a deferred basis (Class B or Class C shares). See "Shareholder
Guide--How to Buy Shares of the Fund" in the Prospectus.
B-28
<PAGE>
Each class of shares represents an interest in the same portfolio of
investments of the Fund and has the same rights, except that (i) each class is
subject to different sales charges and distribution and service fees, (ii)
each class has exclusive voting rights with respect to any matter submitted to
shareholders in which the interests of one class differ from the interests of
any other class, (iii) each class has a different exchange privilege, and (iv)
only Class B shares have a conversion feature. See "Distributor" and
"Shareholder Investment Account--Exchange Privilege."
SPECIMEN PRICE MAKE-UP
Under the current distribution arrangements between the Fund and the
Distributor, Class A shares are sold with a maximum sales charge of 5% and
Class B*and Class C* shares are sold at net asset value. Using the Fund's net
asset value at November 30, 1996, the maximum offering price of the Fund's
shares is as follows:
<TABLE>
<S> <C>
CLASS A
Net asset value and redemption price per Class A share.................. $11.85
Maximum sales charge (5% of offering price)............................. .62
------
Offering price to public................................................ $12.47
======
CLASS B
Net asset value, redemption price and offering price to public per Class
B share*............................................................... $11.79
======
CLASS C
Net asset value, redemption price and offering price to public per Class
C share*............................................................... $11.79
======
</TABLE>
- --------
* Class B and Class C shares are subject to a contingent deferred sales charge
on certain redemptions. See "Shareholder Guide--How to Sell Your Shares--
Contingent Deferred Sales Charges" in the Prospectus.
REDUCTION AND WAIVER OF INITIAL SALES CHARGES--CLASS A SHARES
COMBINED PURCHASE AND CUMULATIVE PURCHASE PRIVILEGE. If an investor or
eligible group of related investors purchases Class A shares of the Fund
concurrently with Class A shares of other Prudential Mutual Funds, the
purchases may be combined to take advantage of the reduced sales charges
applicable to larger purchases. See the table of breakpoints under
"Shareholder Guide--Alternative Purchase Plan" in the Prospectus.
An eligible group of related Fund investors includes any combination of the
following:
(a) an individual;
(b) the individual's spouse, their children and their parents;
(c) the individual's and spouse's Individual Retirement Account (IRA);
(d) any company controlled by the individual (a person, entity or group that
holds 25% or more of the outstanding voting securities of a company will be
deemed to control the company, and a partnership will be deemed to be
controlled by each of its general partners);
(e) a trust created by the individual, the beneficiaries of which are the
individual, his or her spouse, parents or children;
(f) a Uniform Gifts to Minors Act/Uniform Transfers to Minors Act account
created by the individual or the individual's spouse; and
(g) one or more employee benefit plans of a company controlled by an
individual.
B-29
<PAGE>
In addition, an eligible group of related Fund investors may include an
employer (or group of related employers) and one or more retirement or group
plans of such employer or employers (an employer controlling, controlled by or
under common control with another employer is deemed related to that
employer).
The Distributor must be notified at the time of purchase that the investor
is entitled to a reduced sales charge. The reduced sales charge will be
granted subject to confirmation of the investor's holdings. The Combined
Purchase and Cumulative Purchase Privilege does not apply to individual
participants in pension, profit-sharing or other employee benefit plans
qualified under Section 401 of the Internal Revenue Code and deferred
compensation and annuity plans under Sections 457 and 403(b)(7) of the
Internal Revenue Code.
RIGHTS OF ACCUMULATION. Reduced sales charges are also available through
Rights of Accumulation, under which an investor or an eligible group of
related investors, as described above under "Combined Purchase and Cumulative
Purchase Privilege," may aggregate the value of their existing holdings of
shares of the Fund and shares of other Prudential Mutual Funds (excluding
money market funds other than those acquired pursuant to the exchange
privilege) to determine the reduced sales charge. The value of shares held
directly with the Transfer Agent and through Prudential Securities will not be
aggregated to determine the reduced sales charge. All shares must be held
either directly with the Transfer Agent or through Prudential Securities. The
value of existing holdings for purposes of determining the reduced sales
charge is calculated using the maximum offering or price (net asset value plus
maximum sales charge) as of the previous business day. See "How the Fund
Values its Shares" in the Prospectus. The Distributor must be notified at the
time of purchase that the investor is entitled to a reduced sales charge. The
reduced sales charges will be granted subject to confirmation of the
investor's holdings. Rights of Accumulation are not available to individual
participants in any retirement or group plans.
LETTERS OF INTENT. Reduced sales charges are available to investors (or an
eligible group of related investors), including retirement and group plans,
who enter into a written Letter of Intent providing for the purchase, within a
thirteen-month period, of shares of the Fund and shares of other Prudential
Mutual Funds (Investment Letter of Intent). Retirement and group plans may
also qualify to purchase Class A shares at net asset value by entering into a
Letter of Intent whereby they agree to enroll, within a thirteen-month period,
a specified number of eligible employees or participants (Participant Letter
of Intent).
For purposes of the Investment Letter of Intent, all shares of the Fund and
shares of other Prudential Mutual Funds (excluding money market funds other
than those acquired pursuant to the exchange privilege) which were previously
purchased and are still owned are also included in determining the applicable
reduction. However, the value of shares held directly with the Transfer Agent
and through Prudential Securities will not be aggregated to determine the
reduced sales charge. All shares must be held either directly with the
Transfer Agent or through Prudential Securities.
A Letter of Intent permits a purchaser, in the case of an Investment Letter
of Intent, to establish a total investment goal to be achieved by any number
of investments over a thirteen-month period and, in the case of a Participant
Letter of Intent, to establish a minimum eligible employee or participant
enrollment goal over a thirteen-month period. Each investment made during the
period, in the case of an Investment Letter of Intent, will receive the
reduced sales charge applicable to the amount represented by the goal as if it
were a single investment. In the case of a Participant Letter of Intent, each
investment made during the period will be made at net asset value. Escrowed
Class A shares totaling 5% of the dollar amount of the Letter of Intent will
be held by the Transfer Agent in the name of the purchaser, except in the case
of retirement and group plans where the employer or plan sponsor will be
responsible for paying any applicable sales charge. The effective date of an
Investment Letter of Intent (except in the case of retirement and group plans)
may be back-dated up to 90 days, in order that any investment made during this
90-day period, valued at the purchaser's cost, can be applied to the
fulfillment of the Letter of Intent goal.
B-30
<PAGE>
The Investment Letter of Intent does not obligate the investor to purchase,
nor the Fund to sell, the indicated amount. Similarly, the Participant Letter
of Intent does not obligate the retirement or group plan to enroll the
indicated number of eligible employees or participants. In the event the
Letter of Intent goal is not achieved within the thirteen-month period, the
purchaser (or the employer or plan sponsor in the case of any retirement or
group plan) is required to pay the difference between the sales charge
otherwise applicable to the purchases made during this period and sales
charges actually paid. Such payment may be made directly to the Distributor
or, if not paid, the Distributor will liquidate sufficient escrowed shares to
obtain such difference. Investors electing to purchase Class A shares of the
Fund pursuant to a Letter of Intent should carefully read such Letter of
Intent.
The Distributor must be notified at the time of purchase that the investor
is entitled to a reduced sales charge. The reduced sales charges will, in the
case of an Investment Letter of Intent, be granted subject to confirmation of
the investor's holdings or, in the case of a Participant Letter of Intent,
subject to confirmation of the number of eligible employees or participants in
the retirement or group plan. Letters of Intent are not available to any
individual participant in any retirement or group plan.
WAIVER OF THE CONTINGENT DEFERRED SALES CHARGE--CLASS B SHARES
The contingent deferred sales charge is waived under circumstances described
in the Prospectus. See "Shareholder Guide--How to Sell Your Shares--Contingent
Deferred Sales Charge--Waiver of Contingent Deferred Sales Charges--Class B
Shares" in the Prospectus. In connection with these waivers, the Transfer
Agent will require you to submit the supporting documentation set forth below.
<TABLE>
<CAPTION>
CATEGORY OF WAIVER REQUIRED DOCUMENTATION
- ------------------ ----------------------
<S> <C>
Death A copy of the shareholder's death
certificate or, in the case of a trust, a
copy of the grantor's death certificate,
plus a copy of the trust agreement
identifying the grantor.
Disability--An individual will be consid- A copy of the Social Security
ered disabled if he or she is unable to Administration award letter or a letter
engage in any substantial gainful activity from a physician on the physician's
by reason of any medically determinable letterhead stating that the shareholder
physical or mental impairment which can be (or, in the case of a trust, the grantor)
expected to result in death or to be of is permanently disabled. The letter must
long-continued and indefinite duration. also indicate the date of disability.
Distribution from an IRA or 403(b) Custo- A copy of the distribution form from the
dial Account custodial firm indicating (i) the date of
birth of the shareholder and (ii) that the
shareholder is over age 59 1/2 and is
taking a normal distribution--signed by the
shareholder.
Distribution from Retirement Plan A letter signed by the plan
administrator/trustee indicating the reason
for the distribution.
Excess Contributions A letter from the shareholder (for an IRA)
or the plan administrator/trustee on
company letterhead indicating the amount of
the excess and whether or not taxes have
been paid.
</TABLE>
The Transfer Agent reserves the right to request such additional documents
as it may deem appropriate.
B-31
<PAGE>
SHAREHOLDER INVESTMENT ACCOUNT
Upon the initial purchase of Fund shares, a Shareholder Investment Account
is established for each investor under which a record of the shares held is
maintained by the Transfer Agent. If a stock certificate is desired, it must
be requested in writing for each transaction. Certificates are issued only for
full shares and may be redeposited in the Account at any time. There is no
charge to the investor for issuance of a certificate. The Fund makes available
to its shareholders the following privileges and plans.
AUTOMATIC REINVESTMENT OF DIVIDENDS AND DISTRIBUTIONS. For the convenience
of investors, all dividends and distributions are automatically reinvested in
full and fractional shares of the Fund. An investor may direct the Transfer
Agent in writing not less than five full business days prior to the record
date to have subsequent dividends or distributions sent in cash rather than
reinvested. In the case of recently purchased shares for which registration
instructions have not been received on the record date, cash payment will be
made directly to the dealer. Any shareholder who receives a cash payment
representing a dividend or distribution may reinvest such dividend or
distribution at net asset value by returning the check or the proceeds to the
Transfer Agent within 30 days after the payment date. Such investment will be
made at the net asset value per share next determined after receipt of the
check or proceeds by the Transfer Agent. Such shareholder will receive credit
for any contingent deferred sales charge paid in connection with the amount of
proceeds being reinvested.
EXCHANGE PRIVILEGE. The Fund makes available to its shareholders the
privilege of exchanging their shares of the Fund for shares of certain other
Prudential Mutual Funds, including one or more specified money market funds,
subject in each case to the minimum investment requirements of such funds.
Shares of such other Prudential Mutual Funds may also be exchanged for shares
of the Fund. All exchanges are made on the basis of relative net asset value
next determined after receipt of an order in proper form. An exchange will be
treated as a redemption and purchase for tax purposes. Shares may be exchanged
for shares of another fund only if shares of such fund may legally be sold
under applicable state laws. For retirement and group plans having a limited
menu of Prudential Mutual Funds, the Exchange Privilege is available for those
funds eligible for investment in the particular program.
It is contemplated that the Exchange Privilege may be applicable to new
mutual funds whose shares may be distributed by the Distributor.
CLASS A. Shareholders of the Fund may exchange their Class A shares for
Class A shares of certain other Prudential Mutual Funds, shares of Prudential
Government Securities Trust (Short-Intermediate Term Series) and shares of the
money market funds specified below. No fee or sales load will be imposed upon
the exchange. Shareholders of money market funds who acquired such shares upon
exchange of Class A shares may use the Exchange Privilege only to acquire
Class A shares of the Prudential Mutual Funds participating in the Exchange
Privilege.
The following money market funds participate in the Class A Exchange
Privilege:
Prudential California Municipal Fund
(California Money Market Series)
Prudential Government Securities Trust
(Money Market Series)
(U.S. Treasury Money Market Series)
Prudential Municipal Series Fund
(Connecticut Money Market Series)
(Massachusetts Money Market Series)
(New York Money Market Series)
(New Jersey Money Market Series)
Prudential MoneyMart Assets, Inc.
Prudential Tax-Free Money Fund, Inc.
B-32
<PAGE>
CLASS B AND CLASS C. Shareholders of the Fund may exchange their Class B and
Class C shares for Class B and Class C shares, respectively, of certain other
Prudential Mutual Funds and shares of Prudential Special Money Market Fund,
Inc., a money market fund. No CDSC will be payable upon such exchange, but a
CDSC may be payable upon the redemption of the Class B and Class C shares
acquired as a result of the exchange. The applicable sales charge will be that
imposed by the fund in which shares were initially purchased and the purchase
date will be deemed to be the date of the initial purchase, rather than the
date of the exchange.
Class B and Class C shares of the Fund may also be exchanged for shares of
Prudential Special Money Market Fund, Inc. without imposition of any CDSC at
the time of exchange. Upon subsequent redemption from such money market fund
or after re-exchange into the Fund, such shares will be subject to the CDSC
calculated without regard to the time such shares were held in the money
market fund. In order to minimize the period of time in which shares are
subject to a CDSC, shares exchanged out of the money market fund will be
exchanged on the basis of their remaining holding periods, with the longest
remaining holding periods being transferred first. In measuring the time
period shares are held in a money market fund and "tolled" for purposes of
calculating the CDSC holding period, exchanges are deemed to have been made on
the last day of the month. Thus, if shares are exchanged into the Fund from a
money market fund during the month (and are held in the Fund at the end of the
month), the entire month will be included in the CDSC holding period.
Conversely, if shares are exchanged into a money market fund prior to the last
day of the month (and are held in the money market fund on the last day of the
month), the entire month will be excluded from the CDSC holding period.
At any time after acquiring shares of other funds participating in the Class
B or Class C exchange privilege, a shareholder may again exchange those shares
(and any reinvested dividends and distributions) for Class B or Class C shares
of the Fund, respectively, without subjecting such shares to any CDSC. Shares
of any fund participating in the Class B or Class C exchange privilege that
were acquired through reinvestment of dividends or distributions may be
exchanged for Class B or Class C shares of other funds, respectively, without
being subject to any CDSC.
Additional details about the Exchange Privilege and prospectuses for each of
the Prudential Mutual Funds are available from the Fund's Transfer Agent,
Prudential Securities or Prusec. The Exchange Privilege may be modified,
terminated or suspended on 60 days' notice, and any fund, including the Fund,
or the Distributor, has the right to reject any exchange application relating
to such fund's shares.
DOLLAR COST AVERAGING. Dollar cost averaging is a method of accumulating
shares by investing a fixed amount of dollars in shares at set intervals. An
investor buys more shares when the price is low and fewer shares when the
price is high. The average cost per share is lower than it would be if a
constant number of shares were bought at set intervals.
Dollar cost averaging may be used, for example, to plan for retirement, to
save for a major expenditure, such as the purchase of a home, or to finance a
college education. The cost of a year's education at a four-year college today
averages around $14,000 at a private college and around $6,000 at a public
university. Assuming these costs increase at a rate of 7% a year, as has been
projected, for the freshman class of 2011, the cost of four years at a private
college could reach $210,000 and over $90,000 at a public university.(/1/)
The following chart shows how much you would need in monthly investments to
achieve specified lump sums to finance your investment goals.(/2/)
<TABLE>
<CAPTION>
PERIOD OF MONTHLY INVESTMENTS: $100,000 $150,000 $200,000 $250,000
- ------------------------------ -------- -------- -------- --------
<S> <C> <C> <C> <C>
25 Years................................. $ 110 $ 165 $ 220 $ 275
20 Years................................. 176 264 352 440
15 Years................................. 296 444 592 740
10 Years................................. 555 833 1,110 1,388
5 Years.................................. 1,371 2,057 2,742 3,428
</TABLE>
B-33
<PAGE>
- --------
(/1/)Source information concerning the costs of education at public and private
universities is available from The College Board Annual Survey of Colleges,
1993. Average costs for private institutions include tuition, fees, room
and board for the 1993-1994 academic year.
(/2/)The chart assumes an effective rate of return of 8% (assuming monthly
compounding). This example is for illustrative purposes only and is not
intended to reflect the performance of an investment in shares of the Fund.
The 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
their original cost.
See "Automatic Savings Accumulation Plan."
AUTOMATIC SAVINGS ACCUMULATION PLAN (ASAP). Under ASAP, an investor may
arrange to have a fixed amount automatically invested in shares of the Fund
monthly by authorizing his or her bank account or Prudential Securities
Account (including a Command Account) to be debited to invest specified dollar
amounts in shares of the Fund. The investor's bank must be a member of the
Automatic Clearing House System. Stock certificates are not issued to ASAP
participants.
Further information about this program and an application form can be
obtained from the Transfer Agent, Prudential Securities or Prusec.
SYSTEMATIC WITHDRAWAL PLAN. A systematic withdrawal plan is available to
shareholders through Prudential Securities or the Transfer Agent. Such
withdrawal plan provides for monthly or quarterly checks in any amount, except
as provided below, up to the value of the shares in the shareholder's account.
Withdrawals of Class B or Class C shares may be subject to a CDSC. See
"Shareholder Guide--How to Sell Your Shares--Contingent Deferred Sales
Charges" in the Prospectus.
In the case of shares held through the Transfer Agent (i) a $10,000 minimum
account value applies, (ii) withdrawals may not be for less than $100 and
(iii) the shareholder must elect to have all dividends and/or distributions
automatically reinvested in additional full and fractional shares at net asset
value on shares held under this plan. See "Shareholder Investment Account--
Automatic Reinvestment of Dividends and/or Distributions."
Prudential Securities and the Transfer Agent act as agents for the
shareholder in redeeming sufficient full and fractional shares to provide the
amount of the periodic withdrawal payment. The systematic withdrawal plan may
be terminated at any time, and the Distributor reserves the right to initiate
a fee of up to $5 per withdrawal, upon 30 days' written notice to the
shareholder.
Withdrawal payments should not be considered as dividends, yield or income.
If periodic withdrawals continuously exceed reinvested dividends and
distributions, the shareholder's original investment will be correspondingly
reduced and ultimately exhausted.
Furthermore, each withdrawal constitutes a redemption of shares, and any
gain or loss realized must be recognized for federal income tax purposes. In
addition, withdrawals made concurrently with purchases of additional shares
are inadvisable because of the sales charges applicable to (i) the purchase of
Class A shares and (ii) the withdrawal of Class B and Class C shares. Each
shareholder should consult his or her own tax adviser with regard to the tax
consequences of the plan, particularly if used in connection with a retirement
plan.
TAX-DEFERRED RETIREMENT PLANS. Various qualified retirement plans, including
a 401(k) plan, self-directed individual retirement accounts and "tax-deferred
accounts" under Section 403(b)(7) of the Internal Revenue Code of 1986, as
amended (the Internal Revenue Code) are available through the Distributor.
These plans are for use by both self-employed individuals and corporate
employers. These plans permit either self-direction of accounts by
participants, or a pooled account arrangement. Information regarding the
establishment of these plans, and the administration, custodial fees and other
details are available from Prudential Securities or the Transfer Agent.
B-34
<PAGE>
Investors who are considering the adoption of such a plan should consult
with their own legal counsel or tax adviser with respect to the establishment
and maintenance of any such plan.
TAX-DEFERRED RETIREMENT ACCOUNTS
INDIVIDUAL RETIREMENT ACCOUNTS. An individual retirement account (IRA)
permits the deferral of federal income tax on income earned in the account
until the earnings are withdrawn. The following chart represents a comparison
of the earnings in a personal savings account with those in an IRA, assuming a
$2,000 annual contribution, an 8% rate of return and a 39.6% federal income
tax bracket and shows how much more retirement income can accumulate within an
IRA as opposed to a taxable individual savings account.
TAX-DEFERRED COMPOUNDING(/1/)
<TABLE>
<CAPTION>
CONTRIBUTIONS PERSONAL
MADE OVER: SAVINGS IRA
------------- -------- --------
<S> <C> <C>
10 years................................................... $ 26,165 $ 31,291
15 years................................................... 44,676 58,649
20 years................................................... 68,109 98,846
25 years................................................... 97,780 157,909
30 years................................................... 135,346 244,692
</TABLE>
- --------
(/1/)The chart is for illustrative purposes only and does not represent the
performance of the Fund or any specific investment. It shows taxable versus
tax-deferred compounding for the periods and on the terms indicated.
Earnings in the IRA account will be subject to tax when withdrawn from the
account.
MUTUAL FUND PROGRAMS
From time to time, the Fund (or a portfolio of the Fund, if applicable) may
be included in a mutual fund program with other Prudential Mutual Funds. Under
such a program, a group of portfolios will be selected and thereafter marketed
collectively. Typically, these programs are created with an investment theme,
e.g., to seek greater diversification, protection from interest rate movements
or access to different management styles. In the event such a program is
instituted, there may be a minimum investment requirement for the program as a
whole. The Fund may waive or reduce the minimum initial investment
requirements in connection with such a program.
The mutual funds in the program may be purchased individually or as a part
of a program. Since the allocation of portfolios included in the program may
not be appropriate for all investors, investors should consult their
Prudential Securities Financial Advisor or Prudential/Pruco Securities
Representative concerning the appropriate blend of portfolios for them. If
investors elect to purchase the individual mutual funds that constitute the
program in an investment ratio different from that offered by the program, the
standard minimum investment requirements for the individual mutual funds will
apply.
NET ASSET VALUE
Under the Investment Company Act, the Board of Directors is responsible for
determining in good faith the fair value of securities of the Fund. In
accordance with procedures adopted by the Board of Directors, the value of
investments listed on a securities exchange and NASDAQ National Market System
securities (other than options on stock and stock indices) are valued at the
last sales price on the day of valuation, or, if there was no sale on such
day, the mean between the last bid and asked prices on such day, as provided
by a pricing service. Corporate bonds (other than convertible debt securities)
and U.S. Government securities that are actively traded in the over-the-
counter market, including listed securities for which the primary market is
believed to be over-the-counter, are valued on the basis of valuations
provided by a pricing service which uses information with respect to
transactions in bonds, quotations from bond dealers, agency ratings, market
transactions in comparable securities and various relationships between
securities in determining value. Convertible debt securities that are actively
traded in the over-the-counter market, including listed securities for which
the primary market is believed to be over-
B-35
<PAGE>
the-counter, are valued at the mean between the last reported bid and asked
prices provided by principal market makers or independent pricing agents.
Options on stock and stock indices traded on an exchange are valued at the
average between the most recently quoted bid and asked prices on the
respective exchange and futures contracts and options thereon are valued at
their last sales prices as of the close of the commodities exchange or board
of trade. Should an extraordinary event, which is likely to affect the value
of the security, occur after the close of an exchange on which a portfolio
security is traded, such security will be valued at fair value considering
factors determined in good faith by the investment adviser under procedures
established by and under the general supervision of the Fund's Board of
Directors.
Securities or other assets for which market quotations are not readily
available are valued at their fair value as determined in good faith by the
Board of Directors. Short-term debt securities are valued at cost, with
interest accrued or discount amortized to the date of maturity, if their
original maturity was 60 days or less, unless this is determined by the Board
of Directors not to represent fair value. Short-term securities with remaining
maturities of 60 days or more, for which market quotations are readily
available, are valued at their current market quotations as supplied by an
independent pricing agent or principal market maker. The Fund will compute its
net asset value at 4:15 P.M., New York time, on each day the New York Stock
Exchange is open for trading except on days on which no orders to purchase,
sell or redeem Fund shares have been received or days on which changes in the
value of the Fund's portfolio securities do not affect net asset value. In the
event the New York Stock Exchange closes early on any business day, the net
asset value of the Fund's shares shall be determined at a time between such
closing and 4:15 P.M., New York time.
Net asset value is calculated separately for each class. The net asset value
of Class B and Class C shares will generally be lower than the net asset value
of Class A shares as a result of the larger distribution-related fee to which
Class B and Class C shares are subject. It is expected, however, that the net
asset value per share of each class will tend to converge immediately after
the recording of dividends, if any, which will differ by approximately the
amount of the distribution and/or service fee expense accrual differential
among the classes.
TAXES
The Fund has elected to qualify and intends to remain qualified as a
regulated investment company under Subchapter M of the Internal Revenue Code.
This relieves the Fund (but not its shareholders) from paying federal income
tax on income which is distributed to shareholders, and permits net capital
gains of the Fund (i.e., the excess of net long-term capital gains over net
short-term capital losses) to be treated as long-term capital gains of the
shareholders, regardless of how long shareholders have held their shares in
the Fund.
Qualification as a regulated investment company requires, among other
things, that (a) at least 90% of the Fund's annual gross income (without
reduction for losses from the sale or other disposition of securities) be
derived from interest, dividends, payments with respect to securities loans
and gains from the sale or other disposition of securities or options thereon
or foreign currencies, or other income (including but not limited to gains
from options, futures or forward contracts) derived with respect to its
business of investing in such securities or currencies; (b) the Fund derive
less than 30% of its gross income from gains (without reduction for losses)
from the sale or other disposition of securities, options thereon, futures
contracts, options thereon, forward contracts and foreign currencies held for
less than three months (except for foreign currencies directly related to the
Fund's business of investing in securities) (the short-short rule); (c) the
Fund diversify its holdings so that, at the end of each quarter of the taxable
year (i) at least 50% of the value of the Fund's assets is represented by
cash, U.S. Government securities and other securities limited in respect of
any one issuer to an amount not greater than 5% of the value of the Fund's
assets and 10% of the outstanding voting securities of such issuer, and (ii)
not more than 25% of the value of its assets is invested in the securities of
any one issuer (other than U.S. Government securities); and (d) the Fund
distribute to its shareholders at least 90% of its net investment income and
net short-term gains (i.e., the excess of net short-term capital gains over
net long-term capital losses) in each year.
B-36
<PAGE>
Gains or losses on sales of securities by the Fund will be treated as long-
term capital gains or losses if the securities have been held by it for more
than one year except in certain cases where the Fund acquires a put or writes
a call thereon or otherwise holds an offsetting position with respect to the
securities. Other gains or losses on the sale of securities will be short-term
capital gains or losses. Gains and losses on the sale, lapse or other
termination of options on securities will generally be treated as gains and
losses from the sale of securities. If an option written by the Fund on
securities lapses or is terminated through a closing transaction, such as a
repurchase by the Fund of the option from its holder, the Fund will generally
realize short-term capital gain or loss. If securities are sold by the Fund
pursuant to the exercise of a call option written by it, the Fund will include
the premium received in the sale proceeds of the securities delivered in
determining the amount of gain or loss on the sale. Certain of the Fund's
transactions may be subject to wash sale, short sale, conversion transaction
and straddle provisions of the Internal Revenue Code. In addition, debt
securities acquired by the Fund may be subject to original issue discount and
market discount rules.
Special rules apply to most options on stock indices, futures contracts and
options thereon, and forward foreign currency exchange contracts in which the
Fund may invest. See "Investment Objective and Policies." These investments
will generally constitute Section 1256 contracts and will be required to be
"marked to market" for federal income tax purposes at the end of the Fund's
taxable year; that is, treated as having been sold at market value. Except
with respect to certain forward foreign currency exchange contracts, 60% of
any gain or loss recognized on such "deemed sales" and on actual dispositions
will be treated as long-term capital gain or loss, and the remainder will be
treated as short-term capital gain or loss.
Gain or loss on the sale, lapse or other termination of options on stock and
on narrowly-based stock indices will be capital gain or loss and will be long-
term or short-term depending upon the holding period of the option. In
addition, positions which are part of a straddle will be subject to certain
wash sale and short sale provisions of the Internal Revenue Code. In the case
of a straddle, the Fund may be required to defer the recognition of losses on
positions it holds to the extent of any unrecognized gain on offsetting
positions held by the Fund. The conversion transaction rules may apply to
certain transactions to treat all or a portion of the gain thereon as ordinary
income rather than as capital gain.
The Fund's ability to hold foreign currencies or engage in hedging
activities may be limited by the 30% short-short rule discussed above.
A "passive foreign investment company" (PFIC) is a foreign corporation that,
in general, meets either of the following tests: (a) at least 75% of its gross
income is passive or (b) an average of at least 50% of its assets produce, or
are held for the production of, passive income. If the Fund acquires and holds
stock in a PFIC beyond the end of the year of its acquisition, the Fund will
be subject to federal income tax on a portion of any "excess distribution"
received on the stock or of any gain from disposition of the stock
(collectively, PFIC income), plus interest thereon, even if the Fund
distributes the PFIC income as a taxable dividend to its shareholders. The
balance of the PFIC income will be included in the Fund's investment company
taxable income and, accordingly, will not be taxable to it to the extent that
income is distributed to its shareholders. Proposed Treasury regulations
provide that the Fund may make a "mark-to-market" election with respect to any
stock it holds of a PFIC. If the election is in effect, at the end of the
Fund's taxable year, the Fund will recognize the amount of gains, if any, with
respect to PFIC stock. No loss will be recognized on PFIC stock.
Alternatively, the Fund, if it meets certain requirements, may elect to treat
any PFIC in which it invests as a "qualified electing fund," in which case, in
lieu of the foregoing tax and interest obligation, the Fund will be required
to include in income each year its pro rata share of the qualified electing
fund's annual ordinary earnings and net capital gain, even if they are not
distributed to the Fund; those amounts would be subject to the distribution
requirements applicable to the Fund described above.
Under the Internal Revenue Code, gains or losses attributable to
fluctuations in exchange rates which occur between the time the Fund accrues
interest or other receivables or accrues expenses or other liabilities
denominated in a foreign currency and the time the Fund actually collects such
receivables or pays such liabilities are treated as ordinary income or
ordinary loss. Similarly, gains or losses on forward foreign currency exchange
contracts or dispositions of debt securities denominated in a foreign currency
attributable to fluctuations in the value of the foreign currency between the
date of
B-37
<PAGE>
acquisition of the security and the date of disposition also are treated as
ordinary gain or loss. These gains, referred to under the Internal Revenue
Code as "Section 988" gains or losses, increase or decrease the amount of the
Fund's investment company taxable income available to be distributed to its
shareholders as ordinary income, rather than increasing or decreasing the
amount of the Fund's net capital gain. If Section 988 losses exceed other
investment company taxable income during a taxable year, the Fund would not be
able to make any ordinary dividend distributions, or distributions made before
the losses were realized would be recharacterized as a return of capital to
shareholders, rather than as an ordinary dividend, reducing each shareholder's
basis in his or her Fund shares.
The Fund is required to distribute 98% of its ordinary income in the same
calendar year in which it is earned. The Fund is also required to distribute
during the calendar year 98% of the capital gain net income it earned during
the 12 months ending on October 31 of such calendar year, as well as all
undistributed ordinary income and undistributed capital gain net income from
the prior year or the twelve-month period ending on October 31 of such prior
year, respectively. To the extent it does not meet these distribution
requirements, the Fund will be subject to a nondeductible 4% excise tax on the
undistributed amount. For purposes of this excise tax, income on which the
Fund pays income tax is treated as distributed.
Any dividends paid shortly after a purchase by an investor may have the
effect of reducing the per share net asset value of the investor's shares by
the per share amount of the dividends. Furthermore, such dividends, although
in effect a return of capital, are subject to federal income taxes. Therefore,
prior to purchasing shares of the Fund, the investor should carefully consider
the impact of dividends, including capital gains distributions, which are
expected to be or have been announced.
Any loss realized on a sale, redemption or exchange of shares of the Fund by
a shareholder will be disallowed to the extent the shares are replaced within
a 61-day period (beginning 30 days before the disposition of shares). Shares
purchased pursuant to the reinvestment of a dividend will constitute a
replacement of shares.
A shareholder who acquires shares of the Fund and sells or otherwise
disposes of such shares within 90 days of acquisition may not be allowed to
include certain sales charges incurred in acquiring such shares for purposes
of calculating gain or loss realized upon a sale or exchange of shares of the
Fund.
The per share dividends on Class B and Class C shares will generally be
lower than the per share dividends on Class A shares as a result of the higher
distribution-related fee applicable to the Class B and Class C shares. The per
share capital gains distributions, if any, will be paid in the same amounts
for Class A, Class B and Class C shares. See "Net Asset Value."
Dividends of net investment income and distributions of net short-term
capital gains paid to a shareholder (including a shareholder acting as a
nominee or fiduciary) who is a nonresident alien individual, a foreign
corporation or a foreign partnership (foreign shareholder) are subject to a
30% (or lower treaty rate) withholding tax upon the gross amount of the
dividends unless the dividends are effectively connected with a U.S. trade or
business conducted by the foreign shareholder. Capital gain dividends paid to
a foreign shareholder are generally not subject to withholding tax. A foreign
shareholder will, however, be required to pay U.S. income tax on any dividends
and capital gain distributions which are effectively connected with a U.S.
trade or business of the foreign shareholder.
Dividends received by corporate shareholders are eligible for a dividends-
received deduction of 70% to the extent the Fund's income is derived from
qualified dividends received by the Fund from domestic corporations. Interest
income, capital gain net income, gain or loss from Section 1256 contracts
(described above), dividend income from foreign corporations and income from
other sources will not constitute qualified dividends. Individual shareholders
are not eligible for the dividends-received deduction.
Income received by the Fund from sources within foreign countries may be
subject to withholding and other taxes imposed by such countries. Income tax
treaties between certain countries and the United States may reduce or
eliminate such taxes. It is impossible to determine in advance the effective
rate of foreign tax to which the Fund will be subject, since
B-38
<PAGE>
the amount of the Fund's assets to be invested in various countries will vary.
The Fund does not expect to meet the requirements of the Internal Revenue Code
for "passing-through" to its shareholders any foreign income taxes paid.
Foreign shareholders are advised to consult their own tax advisers with
respect to the particular tax consequences to them of an investment in the
Fund.
PERFORMANCE INFORMATION
YIELD. The Fund may from time to time advertise its yield as calculated over
a 30-day period. Yield is calculated separately for Class A, Class B and Class
C shares. This yield is computed by dividing the Fund's net investment income
per share earned during this 30-day period by the maximum offering price per
share on the last day of this period. The yield for the 30-day period ended
November 30, 1996 for the Class A shares was 4.42%, for the Class B shares was
3.87% and for the Class C shares was 3.89%. Yield is calculated according to
the following formula:
a-b
YIELD = 2 [( --- +1) to the 6th power -1]
cd
Where: a = dividends and interest earned during the period.
b = expenses accrued for the period (net of reimbursements).
c = the average daily number of shares outstanding during the period
that were entitled to receive dividends.
d = the maximum offering price per share on the last day of the
period.
Yield fluctuates and an annualized yield quotation is not a representation
by the Fund as to what an investment in the Fund will actually yield for any
given period. Yields for the Fund will vary based on a number of factors
including changes in net asset value, market conditions, the level of interest
rates and the level of Fund income and expenses.
AVERAGE ANNUAL TOTAL RETURN. The Fund may also advertise its average annual
total return. Average annual total return is determined separately for Class
A, Class B and Class C shares. See "How the Fund Calculates Performance" in
the Prospectus.
Average annual total return is computed according to the following formula:
P ( 1 + T ) n = ERV
Where: P = a hypothetical initial payment of $1,000.
T = average annual total return.
n = number of years.
ERV = ending redeemable value of a hypothetical $1,000 payment made at
the beginning of the 1, 5 or 10 year periods at the end of the 1,
5 or 10 year periods (or fractional portion thereof).
Average annual total return takes into account any applicable initial or
deferred sales charges but does not take into account any federal or state
income taxes that may be payable upon redemption.
The average annual total returns for the period from March 26, 1996
(commencement of investment operations) to November 30, 1996, for the Fund's
Class A, Class B and Class C shares were -14.3%, -15.3% and -9.7%,
respectively.
AGGREGATE TOTAL RETURN. The Fund may also advertise its aggregate total
return. Aggregate total return is determined separately for Class A, Class B
and Class C shares. See "How the Fund Calculates Performance" in the
Prospectus.
B-39
<PAGE>
Aggregate total return represents the cumulative change in the value of an
investment in the Fund and is computed according to the following formula:
ERV-P
--------
P
Where: P = a hypothetical initial payment of $1,000.
ERV = ending redeemable value of a hypothetical $1,000 payment made at
the beginning of the 1, 5 or 10 year periods at the end of the 1,
5 or 10 year periods (or fractional portion thereof).
Aggregate total return does not take into account any federal or state
income taxes that may be payable upon redemption or any applicable initial or
contingent deferred sales charges.
The aggregate total returns for the period from March 26, 1996 (commencement
of investment operations) to November 30, 1996, for the Fund's Class A, Class
B and Class C shares were -5.20%, -5.68% and -5.68%, respectively.
From time to time, the performance of the Fund may be measured against
various indices. Set forth below is a chart which compares the performance of
different types of investments over the long term and the rate of
inflation.(/1/)
PERFORMANCE COMPARISON OF DIFFERENT TYPES OF INVESTMENTS OVER THE LONG TERM
(1/1926-12/1994)
Common Stocks Long-Term Govt. Bonds Inflation
------------- --------------------- ---------
10.2% 4.8% 3.1%
- --------
(/1/)Source: Ibbotson Associates, Stocks, Bonds, Bills and Inflation--1995
Yearbook (annually updates the work of Roger G. Ibbotson and Rex A.
Sinquefield). Used with permission. All rights reserved. Common stock
returns are based on the Standard and Poor's 500 Stock Index, a market-
weighted, unmanaged index of 500 common stocks in a variety of industry
sectors. It is a commonly used indicator of broad stock price movements.
This chart is for illustrative purposes only and is not intended to
represent the performance of any particular investment or fund. Investors
cannot invest directly in an index. Past performance is not a guarantee of
future results.
B-40
<PAGE>
CUSTODIAN, TRANSFER AND DIVIDEND DISBURSING AGENT
AND INDEPENDENT ACCOUNTANTS
State Street Bank and Trust Company, One Heritage Drive, North Quincy,
Massachusetts 02171, serves as Custodian for the Fund's portfolio securities
and cash and in that capacity maintains certain financial and accounting books
and records pursuant to an agreement with the Fund. Subcustodians provide
custodial services for the Fund's foreign assets held outside the United
States. See "How the Fund is Managed--Custodian and Transfer and Dividend
Disbursing Agent" in the Prospectus.
Prudential Mutual Fund Services LLC (PMFS), Raritan Plaza One, Edison, New
Jersey 08837, serves as the Transfer and Dividend Disbursing Agent of the
Fund. PMFS is a wholly-owned subsidiary of PMF. PMFS provides customary
transfer agency services to the Fund, including the handling of shareholder
communications, the processing of shareholder transactions, the maintenance of
shareholder account records, payment of dividends and distributions and
related functions. For these services, PMFS receives an annual fee per
shareholder account of $9.00, a new account set-up fee for each manually
established account of $2.00 and a monthly inactive zero balance account fee
per shareholder account of $.20. PMFS is also reimbursed for its out-of-pocket
expenses, including but not limited to postage, stationery, printing,
allocable communication expenses and other costs. For the fiscal period ended
November 30, 1996, the Fund incurred fees of approximately $4,400 for the
services of PMFS.
Deloitte & Touche LLP, Two World Financial Center, New York, NY 10281,
serves as the Fund's independent accountants, and in that capacity audits the
Fund's annual financial statements.
B-41
<PAGE>
Portfolio of Investments as of PRUDENTIAL DISTRESSED
November 30, 1996 SECURITIES FUND, INC.
- ------------------------------------------------------------
- ------------------------------------------------------------
Shares Description Value (Note 1)
- ------------------------------------------------------------
LONG-TERM INVESTMENTS--89.8%
COMMON STOCKS--35.1%
- ------------------------------------------------------------
Building & Related Industries--4.8%
25,000 EMCOR Group, Inc.(d) $ 343,750
16,000 Morrison Knudsen Corp.(d) 144,000
------------
487,750
- ------------------------------------------------------------
Casinos--2.8%
13,357 Casino America, Inc.(d) 45,080
50,127 Colorado Gaming &
Entertainment Co.(d) 238,103
------------
283,183
- ------------------------------------------------------------
Conglomerate--2.6%
20,000 Walter Industries, Inc.(d) 265,000
- ------------------------------------------------------------
Consumer Goods & Services--1.0%
2,500 Loewen Group, Inc. 100,938
- ------------------------------------------------------------
Drugs & Health Care--0.3%
10,000 Paracelsus Healthcare Corp.(d) 35,000
- ------------------------------------------------------------
Energy--5.3%
35,000 Great Bay Power Corp.(d) 280,000
51,700 Mesa, Inc.(d) 264,962
------------
544,962
- ------------------------------------------------------------
Food & Beverage--1.6%
17,500 Seven Up/RC Bottling Co. of Southern
California, Inc.(d) 168,437
- ------------------------------------------------------------
Metals--1.8%
100,000 Ladish Company, Inc.(d) 187,500
Mining--2.1%
25,000 Nord Resources Corp.(d) $ 106,250
100,000 Sunshine Mining & Refining Co.(d) 112,500
------------
218,750
- ------------------------------------------------------------
Retail--9.6%
12,000 Baker (J.), Inc. 75,000
60,000 Charming Shoppes, Inc.(d) 307,500
50,000 Gantos Inc.(d) 190,625
20,000 Phar-Mor, Inc.(d) 113,750
40,000 The Bombay Company, Inc.(d) 190,000
35,000 Venture Stores, Inc.(d) 113,750
------------
990,625
- ------------------------------------------------------------
Technology--2.8%
57,750 Audiovox Corp.(d) 287,875
- ------------------------------------------------------------
Telecommunications--0.4%
5,000 PageMart Wireless, Inc., Class A(d) 36,875
------------
Total common stocks
(cost $3,796,902) 3,606,895
------------
PREFERRED STOCKS--18.3%
- ------------------------------------------------------------
Conglomerate--0.8%
800 Pantry Pride Inc.,
Conv. Exch., $14.875, Ser. B 80,600
- ------------------------------------------------------------
Energy--9.2%
29,500 Grant Geophysical Inc.
Conv. Exch., $2.4375 108,781
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
B-42
<PAGE>
Portfolio of Investments as of PRUDENTIAL DISTRESSED
November 30, 1996 SECURITIES FUND, INC.
- ------------------------------------------------------------
- ------------------------------------------------------------
Shares Description Value (Note 1)
- -------------------------------------------------------
Energy (cont'd.)
47,510 Mesa Inc.,
Conv., 8.00%, Ser. A $ 285,060
18,445 Patina Oil & Gas Corp.,
Conv., 7.125% 551,045
------------
944,886
- ------------------------------------------------------------
Entertainment--2.1%
25,000 LIVE Entertainment, Inc.,
Conv., 10.00%, Ser. B 212,500
- ------------------------------------------------------------
Financial--3.1%
750,000 GPA Group Plc.,
Conv., 7.00%(c)
(cost $316,875; value per unit
$0.43;
purchased 1996) 322,500
- ------------------------------------------------------------
Food & Beverage--1.7%
28,000 RJR Nabisco Holdings Corp., Ser. C
Conv., $0.6012 178,500
- ------------------------------------------------------------
Food Serving - Fast Foods--0.5%
2,000 AmeriKing, Inc.,(a)
Sr. Exch., 13.00% 53,000
- ------------------------------------------------------------
Retail--0.9%
5,000 Venture Stores, Inc.,
Conv. $3.25 91,875
------------
Total preferred stocks
(cost $1,934,614) 1,883,861
------------
WARRANTS--0.0%
- ------------------------------------------------------------
Casinos--0.0%
2,968 Casino America, Inc., (d)
Expiring 5/3/01 1,855
------------
Moody's Principal
Rating Amount Description Value (Note 1)
(Unaudited) (000)
- ------------------------------------------------------------
CORPORATE BONDS--36.4%
- ------------------------------------------------------------
Airlines--1.0%
NR $ 100 Trans World Airlines, Inc.
Sr. Secd. Reset Notes,
12.00%, 11/3/98, PIK $ 99,500
- ------------------------------------------------------------
Building & Related Industries--7.4%
B2 250 Clean Harbors, Inc.,
Sr. Notes,
12.50%, 5/15/01 185,000
B3 200 ICF Kaiser International,
Inc.,(a)
Sr. Sub. Notes,
13.00%, 12/31/03 194,000
Caa 250 Miles Homes, Inc.,
Sr. Notes,
12.00%, 4/1/01 210,000
B3 250 Wickes Lumber Co.,
Sr. Sub. Notes,
11.625%, 12/15/03 175,000
-----------
764,000
- ------------------------------------------------------------
Casinos--3.3%
NR 315 Colorado Gaming &
Entertainment Co.,
12.00%, 6/1/03, PIK 299,079
NR 4 Resorts International Hotel
Mortgage Notes,
11.00%, 9/15/03 4,260
Caa 50 Santa Fe Hotel, Inc.,
Gtd. First Mortgage Notes,
11.00%, 12/15/00 36,500
-----------
339,839
- ------------------------------------------------------------
Consumer Goods & Services--0.3%
NR 50 Coinstar, Inc.,(a)(c)
Sr. Sub. Notes,
Zero Coupon until 10/1/99
13.00%, 10/1/06
(cost $34,913; value per
unit $70; purchased 1996) 35,000
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
B-43
<PAGE>
Portfolio of Investments as of PRUDENTIAL DISTRESSED
November 30, 1996 SECURITIES FUND, INC.
- ------------------------------------------------------------
- ------------------------------------------------------------
Moody's Principal
Rating Amount Description Value (Note 1)
(Unaudited) (000)
- ------------------------------------------------------------
Consumer Manufacturing--1.8%
B3 $ 210 U. S. Leather, Inc.,
10.25%, 7/31/03 $ 181,650
- ------------------------------------------------------------
Consumer Products--2.1%
B3 250 Revlon Worldwide Corp.,
Sr. Sec. Disc. Notes, Ser.
B,
Zero Coupon, 3/15/98 215,938
- ------------------------------------------------------------
Financial Services--1.8%
NR 615 Olympia & York Maiden
Lane,(b)
10.375%, 12/31/49 184,500
- ------------------------------------------------------------
Food & Beverage--4.6%
Caa 250 Fresh Del Monte Produce N.V.
(Netherlands Antilies),
Sr. Notes, Ser. B
10.00%, 5/1/03 238,750
Caa 275 Specialty Foods Corp.,
Sr. Sub. Notes, Ser. B
11.25%, 8/15/03 234,438
-----------
473,188
- ------------------------------------------------------------
Printing--1.4%
B2 150 United States Banknote Corp.,
Sr. Notes, Ser. B
11.625%, 8/1/02 139,500
- ------------------------------------------------------------
Publishing--1.1%
B1 125 Golden Books Publishing,
Inc.,
Sr. Notes,
7.65%, 9/15/02 112,500
- ------------------------------------------------------------
Retail--11.3%
B3 400 Baker (J.), Inc.
7.00%, 6/1/02 328,000
NR 311 Edison Brothers Trade
Claims,(d)
Zero Coupon, 1/1/49 208,536
Ba3 $ 100 Fleming Companies, Inc.,(c)
Sr. Notes,
10.625%, 12/15/01
(cost $90,478; value per
unit
$100; purchased 1996) $ 100,000
Ba3 250 K-Mart Corp.,
8.25%, 1/1/22 207,500
NR 500 Lechters, Inc.,(c)
Conv. Bond,
5.00%, 9/27/01
(cost $362,450; value per
unit
$64; purchased 1996) 320,000
-----------
1,164,036
- ------------------------------------------------------------
Technology--0.3%
B1 25 Unisys Corp.
Sr. Notes,
11.75%, 10/15/04 26,125
-----------
Total corporate bonds
(cost $3,937,076) 3,735,776
-----------
Total long-term investments
(cost $9,668,592) 9,228,387
-----------
SHORT-TERM INVESTMENTS--14.0%
JOINT REPURCHASE AGREEMENT--14.0%
1,443 Joint Repurchase Agreement Account,
5.678%, 12/2/96
(cost $1,443,000; Note 5) 1,443,000
-----------
- ------------------------------------------------------------
Total Investments--103.8%
(cost $11,111,592; Note 4) 10,671,387
Liabilities in excess of
other assets--(3.8%) (395,437)
-----------
Net Assets--100% $10,275,950
-----------
-----------
- ---------------
(a) Consists of more than one class of securities traded together as a unit;
generally bonds with attached stocks or warrants.
(b) Represents issuer in default on interest payments; non-income producing
security.
(c) Indicates a restricted security; the aggregate cost of such securities is
$804,716. The aggregate value ($777,500) is approximately 7.6% of net
assets.
(d) Non-income producing securities.
NR--Not rated by Moody's or Standard & Poor's.
PIK--Payment in kind securities.
The Fund's current Prospectus contains a description of Moody's and Standard &
Poor's ratings.
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
B-44
<PAGE>
PRUDENTIAL DISTRESSED
Statement of Assets and Liabilities SECURITIES FUND, INC.
- -------------------------------------------------------------------------------
<TABLE>
<S> <C>
Assets November 30, 1996
Investments, at value (cost $11,111,592)................................................................ $10,671,387
Cash.................................................................................................... 474
Deferred organization and offering costs (Note 1)....................................................... 121,955
Dividends and interest receivable....................................................................... 100,757
Due from Manager........................................................................................ 58,252
Prepaid expenses........................................................................................ 330
-----------------
Total assets......................................................................................... 10,953,155
-----------------
Liabilities
Payable for investments purchased....................................................................... 366,875
Accrued expenses........................................................................................ 150,414
Deferred organization and offering costs payable (Note 1)............................................... 128,721
Payable for Fund shares reacquired...................................................................... 24,500
Due to Distributor...................................................................................... 6,695
-----------------
Total liabilities.................................................................................... 677,205
-----------------
Net Assets.............................................................................................. $10,275,950
-----------------
-----------------
Net assets were comprised of:
Common stock, at par................................................................................. $ 870
Paid-in capital in excess of par..................................................................... 10,920,745
-----------------
10,921,615
Undistributed net investment income.................................................................. 163,021
Accumulated net realized loss on investments......................................................... (368,481)
Net unrealized depreciation on investments........................................................... (440,205)
-----------------
Net assets, November 30, 1996........................................................................... $10,275,950
-----------------
-----------------
Class A:
Net asset value and redemption price per share
($3,403,503 / 287,260 shares of common stock issued and outstanding).............................. $11.85
Maximum sales charge (5% of offering price).......................................................... .62
-----------------
Maximum offering price to public..................................................................... $12.47
-----------------
-----------------
Class B:
Net asset value, offering price and redemption price per share
($5,387,358 / 457,091 shares of common stock issued and outstanding).............................. $11.79
-----------------
-----------------
Class C:
Net asset value, offering price and redemption price per share
($1,485,089 / 125,916 shares of common stock issued and outstanding).............................. $11.79
-----------------
-----------------
</TABLE>
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
B-45
<PAGE>
PRUDENTIAL DISTRESSED
SECURITIES FUND, INC.
Statement of Operations
- ------------------------------------------------------------
- ------------------------------------------------------------
March 26, 1996(a)
through
November 30,
Net Investment Income 1996
Income
Interest.................................. $ 405,319
Dividends................................. 39,964
-----------------
445,283
-----------------
Expenses
Management fee............................ 65,160
Distribution fee--Class A................. 7,498
Distribution fee--Class B................. 45,423
Distribution fee--Class C................. 11,464
Amortization of deferred organizational
and offering costs..................... 99,000
Custodian's fees and expenses............. 65,000
Reports to shareholders................... 57,000
Registration fees......................... 30,000
Audit fees and expenses................... 25,000
Directors fees and expenses............... 23,600
Legal fees and expenses................... 20,000
Transfer agent's fees and expenses........ 6,000
Miscellaneous............................. 5,980
-----------------
Total expenses......................... 461,125
Less: expense reimbursement (Note 2)...... (178,863)
-----------------
Net expenses........................... 282,262
-----------------
Net investment income........................ 163,021
-----------------
Realized and Unrealized
Loss on Investments
Net realized loss on investment
transactions.............................. (368,481)
Net change in unrealized depreciation on
investments............................... (440,205)
-----------------
Net loss on investments...................... (808,686)
-----------------
Net Decrease in Net Assets
Resulting from Operations.................... $(645,665)
-----------------
-----------------
- ---------------
(a) Commencement of investment operations.
PRUDENTIAL DISTRESSED
SECURITIES FUND, INC.
Statement of Changes in Net Assets
- ------------------------------------------------------------
- ------------------------------------------------------------
March 26, 1996(a)
through
November 30,
Increase in Net Assets 1996
Operations
Net investment income..................... $ 163,021
Net realized loss on investments.......... (368,481)
Net change in unrealized
appreciation/depreciation of
investments............................ (440,205)
-----------------
Net decrease in net assets resulting from
operations............................. (645,665)
-----------------
Fund share transactions (Note 6)
Net proceeds from shares subscribed....... 14,160,097
Cost of shares reacquired................. (3,338,482)
-----------------
Net increase in net assets from Fund share
transactions........................... 10,821,615
-----------------
Total increase............................... 10,175,950
Net Assets
Beginning of period.......................... 100,000
-----------------
End of period................................ $10,275,950
-----------------
-----------------
- ---------------
(a) Commencement of investment operations.
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
B-46
<PAGE>
PRUDENTIAL DISTRESSED
Notes to Financial Statements SECURITIES FUND, INC.
- --------------------------------------------------------------------------------
Prudential Distressed Securities Fund, Inc. (the ``Fund''), is registered under
the Investment Company Act of 1940, as a diversified, open-end management
company. The Fund was incorporated in Maryland on November 30, 1995. The Fund
had no significant operations other than the issuance of 2,667 shares of Class
A, 2667 shares of Class B and 2,666 shares of Class C common stock for $100,000
on February 8, 1996 to Prudential Mutual Fund Management, Inc. (``PMF'').
Investment operations commenced on March 26, 1996.
The investment objective of the Fund is capital appreciation by investing
primarily in debt and equity securities issued by financially troubled or
bankrupt companies (financially troubled issuers) and in equity securities of
companies that in the view of its investment adviser are currently undervalued,
out-of-favor or price-depressed relative to their potential for growth and
income (operationally troubled issuers). Investment in the securities of
financially and operationally troubled issuers may be considered speculative and
may present potential for substantial loss.
- ------------------------------------------------------------
Note 1. Accounting Policies
The following is a summary of significant accounting policies followed by the
Fund in the preparation of its financial statements.
Securities Valuation: Investments listed on a securities exchange and NASDAQ
National Market System securities (other than options on stock and stock
indices) are valued at the last sales price on the day of valuation, or, if
there was no sale on such day, the average between the last bid and asked prices
on such day, as provided by a pricing service. Corporate bonds (other than
convertible debt securities) and U.S. Government securities that are actively
traded in the over-the-counter market, including listed securities for which the
primary market is believed to be over-the-counter, are valued by an independent
pricing service. Convertible debt securities that are actively traded in the
over-the-counter market, including listed securities for which the primary
market is believed to be over-the-counter, are valued at the mean between the
most recently quoted bid and asked prices provided by principal market makers.
Equity securities issued in private placements shall be valued at the mean
between the bid and asked prices provided by primary market dealers. Debt
securities issued in private placements shall be valued on the bid side by
primary market dealers. Securities for which market quotations are not
available, other than private placements, shall each be valued at a price
supplied by an independent pricing agent. Options on stock and stock indices
traded on an exchange are valued at the average between the most recently quoted
bid and asked prices provided by the respective exchange. Futures contracts and
options thereon are valued at the last sales price as of the close of business
of the exchange. Securities for which reliable market quotations are not
available or for which the pricing agent or principal market maker does not
provide a valuation will be valued at fair value determined in good faith by or
under the direction of the Board of Directors of the Fund.
Short-term securities which mature in more than 60 days are valued at current
market quotations. Short-term securities which mature in 60 days or less are
valued at amortized cost.
In connection with transactions in repurchase agreements, it is the Fund's
policy that its custodian or designated subcustodians under triparty repurchase
agreements, as the case may be, take possession of the underlying collateral
securities, the value of which exceeds the principal amount of the repurchase
transaction, including accrued interest. If the seller defaults and the value of
the collateral declines or if bankruptcy proceedings are commenced with respect
to the seller of the security, realization of the collateral by the Fund may be
delayed or limited.
The Fund may hold up to 15% of its net assets in illiquid securities, including
those which are restricted as to disposition under securities law (``restricted
securities''). Certain issues of restricted securities held by the Fund at
November 30, 1996 include registration rights under which the Fund may demand
registration by the issuer, some of which are currently under contract to be
registered. Securities of financially and operationally troubled issuers are
less liquid and more volatile than securities of companies not experiencing
financial difficulties. Many of the Fund's portfolio investments may not be
widely traded. Accordingly, the Fund may have to sell portfolio securities at
disadvantageous times and at disadvantageous prices in order to maintain no more
than 15% of its net assets in illiquid securities. This could have an adverse
impact on the Fund's performance.
Securities Transactions and Net Investment Income: Securities transactions are
recorded on the trade date. Realized gains and losses on sales of investments
are calculated on the identified cost basis. Dividend income is recorded on the
ex-dividend date; interest income is recorded on the accrual basis. The Fund
amortizes premiums and discounts paid on purchases of portfolio securities as
adjustments to interest income. Expenses are recorded on the accrual basis which
may require the use of certain estimates by management.
Net investment income (other than distribution fees) and unrealized and realized
gains or losses are allocated daily to each class of shares of the
- --------------------------------------------------------------------------------
B-47
<PAGE>
PRUDENTIAL DISTRESSED
Notes to Financial Statements SECURITIES FUND, INC.
- --------------------------------------------------------------------------------
Fund based upon the relative proportion of net assets of each class at the
beginning of the day.
Taxes: It is the Fund's policy to continue to meet the requirements of the
Internal Revenue Code applicable to regulated investment companies and to
distribute all of its taxable net income to its shareholders. Therefore, no
federal income tax provision is required.
Withholding taxes on foreign dividends have been provided for in accordance with
the Fund's understanding of the applicable country's tax rates.
Dividends and Distributions: The Fund expects to pay dividends out of net
investment income and make distributions of any net capital gains, if any, at
least annually. Dividends and distributions are recorded on the ex-dividend
date.
Income distributions and capital gain distributions are determined in accordance
with income tax regulations which may differ from generally accepted accounting
principles.
Deferred Organization and Offering Costs: The Fund incurred approximately
$221,000 in connection with the organization and offering of the Fund. Offering
costs are being amortized over a period of 12 months ending March 1997.
Organization costs are being amortized over a period of 60 months ending March
2001.
- ------------------------------------------------------------
Note 2. Agreements
The Fund has a management agreement with Prudential Mutual Fund Management LLC
(``PMF''). Pursuant to this agreement, PMF has responsibility for all investment
advisory services and supervises the subadviser's performance of such services.
PMF has entered into a subadvisory agreement with The Prudential Investment
Corporation (``PIC''); PIC furnishes investment advisory services in connection
with the management of the Fund. PMF pays for the services of PIC, the cost of
compensation of officers of the Fund, occupancy and certain clerical and
bookkeeping costs of the Fund. The Fund bears all other costs and expenses.
The management fee paid PMF is computed daily and payable monthly, at an annual
rate of .75 of 1% of the average daily net assets of the Fund.
PMF has agreed that, in any fiscal year, it will reimburse the Fund for expenses
(including the fees of PMF but excluding interest, taxes, brokerage commissions,
distribution fees, litigation and indemnification expenses and other
extraordinary expenses) in excess of the most restrictive expense limitation
imposed by state securities commissions. Such expense reimbursement, if any, is
estimated and accrued daily and payable monthly. For the period March 26, 1996
(commencement of investment operations) through November 30, 1996, such
reimbursement amounted to $178,863 (2.06% of average net assets, annualized).
The Fund has a distribution agreement with Prudential Securities Incorporated
(``PSI'') which acts as the distributor of the Class A, B and C shares of the
Fund. The Fund compensates PSI for distributing and servicing the Fund's Class
A, Class B and Class C shares pursuant to plans of distribution (the ``Class A,
Class B and Class C Plans''), regardless of expenses actually incurred by them.
The distribution fees are accrued daily and payable monthly.
Pursuant to the Class A, B and C Plans, the Fund compensates PSI for its
distribution related activities at an annual rate of up to .30 of 1%, 1% and 1%
of the average daily net asset values of the Class A, B and C shares,
respectively. Such expenses under the Plan were .25 of 1%, 1% and 1% of the
average daily net assets of the Class A, B and C shares, respectively, for the
period March 26, 1996 through November 30, 1996.
PSI has advised the Fund that it has received approximately $120,400 in
front-end sales charges resulting from sales of Class A shares for the period
March 26, 1996 through November 30, 1996. From these fees, PSI paid such sales
charges to dealers, which in turn paid commissions to salespersons and incurred
other distribution costs.
PSI has advised the Fund that for the period March 26, 1996 through November 30,
1996, it received approximately $24,600 and $1,000 in contingent deferred sales
charges imposed upon redemptions by certain Class B and Class C shareholders,
respectively.
- ------------------------------------------------------------
Note 3. Other Transactions with Affiliates
Prudential Mutual Fund Services, Inc. (``PMFS''), a wholly-owned subsidiary of
PMF, serves as the Fund's transfer agent and for the period March 26, 1996
through November 30, 1996 the Fund incurred fees of approximately $4,400 for the
services of PMFS. As of November 30, 1996, approximately $450 of such fees were
due to PMFS. Transfer agent fees and expenses in the Statement of Operations
include certain out-of-pocket expenses paid to non-affiliates.
- --------------------------------------------------------------------------------
B-48
<PAGE>
PRUDENTIAL DISTRESSED
SECURITIES FUND, INC.
Statement of Changes in Net Assets
- ------------------------------------------------------------
- ------------------------------------------------------------
Note 4. Portfolio Securities
Purchases and sales of investment securities, other than short-term investments,
for the period ended November 30, 1996 were $15,328,373 and $5,379,874,
respectively.
The United States federal income tax basis of the Fund's investments at November
30, 1996 was substantially the same as for financial reporting purposes and,
accordingly, net unrealized depreciation of investments, for United States
federal income tax purposes was $440,205 (gross unrealized
appreciation--$826,717; gross unrealized depreciation--$1,266,922).
The Fund has a capital loss carryforward of approximately $99,000, which expires
in 2004. The Fund will elect to treat net realized capital losses of
approximately $270,000 incurred in the one month period ended November 30, 1996
as having been incurred in the following fiscal year.
- ------------------------------------------------------------
Note 5. Joint Repurchase Agreement Account
The Fund, along with other affiliated registered investment companies, transfers
uninvested cash balances into a single joint account, the daily aggregate
balance of which is invested in one or more repurchase agreements collateralized
by U.S. Treasury or federal agency obligations. As of November 30, 1996, the
Fund had a 0.165% undivided interest in the repurchase agreements in the joint
account. This undivided interest represented $1,443,000 in principal amount. As
of such date, the repurchase agreements in the joint account and the value of
the collateral therefor were as follows:
Bear, Stearns & Co., 5.68%, in the principal amount of $280,000,000, repurchase
price $280,132,533, due 12/2/96. The value of the collateral including accrued
interest was $285,853,687.
CS First Boston Corp., 5.68%, in the principal amount of $280,000,000,
repurchase price $280,132,533, due 12/2/96. The value of the collateral
including accrued interest was $290,562,688.
J.P. Morgan Securities, Inc., 5.65%, in the principal amount of $34,809,000,
repurchase price $34,825,389, due 12/2/96. The value of the collateral including
accrued interest was $35,526,121.
Smith Barney, Inc., 5.68%, in the principal amount of $280,000,000, repurchase
price $280,132,533, due 12/2/96. The value of the collateral including accrued
interest was $286,599,817.
Note 6. Capital
The Fund offers Class A, Class B and Class C shares. Class A shares are sold
with a front-end sales charge of up to 5%. Class B shares are sold with a
contingent deferred sales charge which declines from 5% to zero depending on the
period of time the shares are held. Class C shares are sold with a contingent
deferred sales charge of 1% during the first year. Class B shares will
automatically convert to Class A shares on a quarterly basis approximately seven
years after purchase. A special exchange privilege is also available for
shareholders who qualify to purchase Class A shares at net asset value.
There are 2 billion shares of $.001 par value common stock authorized divided
into three classes, designated Class A, Class B and Class C, which consist of 1
billion, 500 million and 500 million authorized shares, respectively.
Transactions in shares of common stock were as follows:
Class A Shares Amount
- ------------------------------------- -------- -----------
March 26, 1996* through
November 30, 1996:
Shares sold.......................... 408,299 $ 5,117,186
Shares reacquired.................... (123,706) (1,547,651)
-------- -----------
Net increase in shares outstanding... 284,593 $ 3,569,535
-------- -----------
-------- -----------
Class B
- -------------------------------------
March 26, 1996* through
November 30, 1996:
Shares sold.......................... 582,979 $ 7,292,074
Shares reacquired.................... (128,555) (1,585,368)
-------- -----------
Net increase in shares outstanding... 454,424 $ 5,706,706
-------- -----------
-------- -----------
Class C
- -------------------------------------
March 26, 1996* through
November 30, 1996:
Shares sold.......................... 139,916 $ 1,750,837
Shares reacquired.................... (16,666) (205,463)
-------- -----------
Net increase in shares outstanding... 123,250 $ 1,545,374
-------- -----------
-------- -----------
- ---------------
* Commencement of investment operation.
- ------------------------------------------------------------
Note 7. Dividends
On December 10, 1996, the Board of Directors of the Fund declared ordinary
income dividends of $.29 per Class A share and $.21 per Class B and Class C
shares, each respectively, payable on December 19, 1996 to shareholders of
record on December 16, 1996.
- --------------------------------------------------------------------------------
B-49
<PAGE>
PRUDENTIAL DISTRESSED
Financial Highlights SECURITIES FUND, INC.
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Class A Class B
----------------- -----------------
March 26, 1996(d) March 26, 1996(d)
Through Through
November 30, November 30,
1996 1996
----------------- -----------------
<S> <C> <C>
PER SHARE OPERATING PERFORMANCE:
Net asset value, beginning of period................................. $ 12.50 $ 12.50
------ ------
Income from investment operations
Net investment income................................................ .25 .16
Net realized and unrealized loss on investment transactions.......... (.90) (.87)
------ ------
Total from investment operations.................................. (.65) (.71)
------ ------
Net asset value, end of period....................................... $ 11.85 $ 11.79
------ ------
------ ------
TOTAL RETURN(b):..................................................... (5.20)% (5.68)%
RATIOS/SUPPLEMENTAL DATA:
Net assets, end of period (000)...................................... $ 3,404 $ 5,387
Average net assets (000)............................................. $ 4,391 $ 6,650
Ratios to average net assets(a):
Expenses, including distribution fees............................. 2.76%(c) 3.51%(c)
Expenses, excluding distribution fees............................. 2.51%(c) 2.51%(c)
Net investment income............................................. 2.37%(c) 1.59%(c)
Portfolio turnover................................................... 61% 61%
Average commission rate paid per share............................... $0.0458 $0.0458
<CAPTION>
Class C
-----------------
March 26, 1996(d)
Through
November 30,
1996
-----------------
<S> <C>
PER SHARE OPERATING PERFORMANCE:
Net asset value, beginning of period................................. $ 12.50
------
Income from investment operations
Net investment income................................................ .16
Net realized and unrealized loss on investment transactions.......... (.87)
------
Total from investment operations.................................. (.71)
------
Net asset value, end of period....................................... $ 11.79
------
------
TOTAL RETURN(b):..................................................... (5.68)%
RATIOS/SUPPLEMENTAL DATA:
Net assets, end of period (000)...................................... $ 1,485
Average net assets (000)............................................. $ 1,678
Ratios to average net assets(a):
Expenses, including distribution fees............................. 3.51%(c)
Expenses, excluding distribution fees............................. 2.51%(c)
Net investment income............................................. 1.71%(c)
Portfolio turnover................................................... 61%
Average commission rate paid per share............................... $0.0458
</TABLE>
- ---------------
(a) Net of expense reimbursement
(b) Total return does not consider the effects of sales loads. Total return is
calculated assuming a purchase of shares on the first day and a sale on the
last day of each period reported and includes reinvestment of dividends and
distributions. Total returns for periods of less than a full year are not
annualized.
(c) Annualized.
(d) Commencement of investment operations.
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
B-50
<PAGE>
PRUDENTIAL DISTRESSED
Independent Auditors' Report SECURITIES FUND, INC.
- --------------------------------------------------------------------------------
The Shareholders and Board of Directors
Prudential Distressed Securities Fund, Inc.
We have audited the accompanying statement of assets and liabilities, including
the portfolio of investments, of Prudential Distressed Securities Fund, Inc., as
of November 30, 1996, the related statements of operations and of changes in net
assets, and the financial highlights for the period March 26, 1996 (commencement
of investment operations) to November 30, 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 audit.
We conducted our audit 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. Our
procedures included confirmation of securities owned as of November 30, 1996 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 audit provides a reasonable basis for our opinion.
In our opinion, such financial statements and financial highlights present
fairly, in all material respects, the financial position of Prudential
Distressed Securities Fund, Inc. at November 30, 1996, the results of its
operations, the changes in its net assets and its financial highlights for the
respective stated period in conformity with generally accepted accounting
principles.
DELOITTE & TOUCHE LLP
New York, New York
January 10, 1997
- --------------------------------------------------------------------------------
B-51
<PAGE>
APPENDIX I--HISTORICAL PERFORMANCE DATA
The historical performance data contained in this Appendix relies on data
obtained from statistical services, reports and other services believed by the
Manager to be reliable. The information has not been independently verified by
the Manager.
The following chart shows the long-term performance of various asset classes
and the rate of inflation.
EACH INVESTMENT PROVIDES A DIFFERENT OPPORTUNITY
[GRAPH APPEARS HERE]
Value of $1.00 Invested on 1/1/26 Through 12/31/96
Small Stocks -- $4,495.99
Common Stocks -- $1,370.95
Long-Term Bonds -- $ 33.73
Treasury Bills -- $ 13.54
Inflation -- $ 8.87
Source: Stocks, Bonds, Bills, and Inflation 1996 Yearbook, Ibbotson
Associates, Chicago (annually updates work by Roger G. Ibbotson and Rex A.
Sinquefield). Used with permission. All rights reserved. This chart is for
illustrative purposes only and is not indicative of the past, present, or
future performance of any asset class or any Prudential Mutual Fund.
Generally, stock returns are due to capital appreciation and reinvesting any
gains. Bond returns are due mainly to reinvesting interest. Also, stock prices
usually are more volatile than bond prices over the long-term. Small stock
returns for 1926-1980 are those of stocks comprising the 5th quintile of the
New York Stock Exchange. Thereafter, returns are those of the Dimensional Fund
Advisors (DFA) Small Company Fund. Common stock returns are based on the S&P
Composite Index, a market-weighted, unmanaged index of 500 stocks (currently)
in a variety of industries. It is often used as a broad measure of stock
market performance.
Long-term government bond returns are measured using a constant one-bond
portfolio with a maturity of roughly 20 years. Treasury bill returns are for a
one-month bill. Treasuries are guaranteed by the government as to the timely
payment of principal and interest; equities are not. Inflation is measured by
the consumer price index (CPI).
I-1
<PAGE>
Set forth below is historical performance data relating to various sectors
of the fixed-income securities markets. The chart shows the historical total
returns of U.S. Treasury bonds, U.S. mortgage securities, U.S. corporate
bonds, U.S. high yield bonds and world government bonds on an annual basis
from 1987 through 1995. The total returns of the indices include accrued
interest, plus the price changes (gains or losses) of the underlying
securities during the period mentioned. The data is provided to illustrate the
varying historical total returns and investors should not consider this
performance data as an indication of the future performance of the Fund or of
any sector in which the Fund invests.
All information relies on data obtained from statistical services, reports
and other services believed by the Manager to be reliable. Such information
has not been verified. The figures do not reflect the operating expenses and
fees of a mutual fund. See "Fund Expenses" in the prospectus. The net effect
of the deduction of the operating expenses of a mutual fund on these
historical total returns, including the compounded effect over time, could be
substantial.
Historical Total Returns of Different Bond Market Sectors
[GRAPH APPEARS HERE]
<TABLE>
<CAPTION>
Year '87 '88 '89 '90 '91 '92 '93 '94 '95
- ---- --- --- --- --- --- --- --- --- ---
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
U.S. Treasury Bonds 2.0% 7.0% 14.4% 8.5% 15.3% 7.2% 10.7% -3.4% 18.4%
Mortgage Securities 4.3% 8.7% 15.4% 10.7% 15.7% 7.0% 6.8% -1.6% 16.8%
U.S. Corporate Bonds 2.6% 9.2% 14.1% 7.1% 18.5% 8.7% 12.2% -3.9% 22.3%
U.S. High Yield
Corporate Bonds 5.0% 12.5% 0.8% -9.6% 46.2% 15.8% 17.1% -1.0% 19.2%
World Government
Bonds 35.2% 2.3% -3.4% 15.3% 16.2% 4.8% 15.1% 6.0% 19.6%
Difference between
highest and lowest
return in percent 33.2 10.2 18.8 24.9 30.9 11.0 10.3 9.9 5.5
</TABLE>
/1/ LEHMAN BROTHERS TREASURY BOND INDEX is an unmanaged index made up of over
150 public issues of the U.S. Treasury having maturities of at least one
year.
/2/ LEHMAN BROTHERS MORTGAGE-BACKED SECURITIES INDEX is an unmanaged index
that includes over 600 15- and 30-year fixed-rate mortgage-backed securities
of the Government National Mortgage Association (GNMA), Federal National
Mortgage Association (FNMA), and the Federal Home Loan Mortgage Corporation
(FHLMC).
/3/ LEHMAN BROTHERS CORPORATE BOND INDEX includes over 3,000 public fixed-
rate, nonconvertible investment-grade bonds. All bonds are U.S. dollar-
denominated issues and include debt issued or guaranteed by foreign sovereign
governments, municipalities, governmental agencies or international agencies.
All bonds in the index have maturities of at least one year.
/4/ LEHMAN BROTHERS HIGH YIELD BOND INDEX is an unmanaged index comprising
over 750 public, fixed-rate, nonconvertible bonds that are rated Ba1 or lower
by Moody's Investors Service (or rated BB+ or lower by Standard & Poor's or
Fitch Investors Service). All bonds in the index have maturities of at least
one year.
/5/ SALOMON BROTHERS WORLD GOVERNMENT INDEX (NON U.S.) includes over 800 bonds
issued by various foreign governments or agencies, excluding those in the
U.S., but including those in Japan, Germany, France, the U.K., Canada, Italy,
Australia, Belgium, Denmark, the Netherlands, Spain, Sweden, and Austria. All
bonds in the index have maturities of at least one year.
I-2
<PAGE>
This chart illustrates the This chart shows the growth of a
performance of major world stock hypothetical $10,000 investment made
markets for the period from 1986 in the stocks representing the S&P
through 1995. It does not represent 500 stock index with and without
the performance of any Prudential reinvested dividends.
Mutual Fund.
[GRAPH APPEARS HERE]
(1969 -- 1995)
Capital Appreciation and Reinvesting
[GRAPH APPEARS HERE] Dividends -- $186,208
Hong Kong - 23.8% Capital Appreciation Only -- $66,913
Belgium - 20.7%
Sweden - 19.4% Source: Stocks, Bonds, Bills, and
Netherlands - 19.3% Inflation 1996 Yearbook, Ibbotson
Spain - 17.9% Associates, Chicago (annually updates
Switzerland - 17.1% work by Roger G. Ibbotson and Rex A.
France - 15.3% Sinquefield). Used with permission.
U.K. - 15.0% All rights reserved. This chart is
U.S. - 14.8% used for illustrative purposes only
Japan - 12.8% and is not intended to represent the
Austria - 10.9% past, present or future performance
Germany - 10.7% of any Prudential Mutual Fund. Common
stock total return is based on the
Standard & Poor's 500 Stock Index, a
market-value-weighted index made up
of 500 of the largest stocks in the
U.S. based upon their stock market
value. Investors cannot invest
directly in indices.
Source: Morgan Stanley Capital
International (MSCI). Used with
permission. Morgan Stanley Country
indices are unmanaged indices which
include those stocks making up the
largest two-thirds of each
country's total stock market
capitalization. Returns reflect the
reinvestment of all distributions.
This chart is for illustrative
purposes only and is not indicative
of the past, present or future
performance of any specific
investment. Investors cannot invest
directly in stock indices.
I-3
<PAGE>
---------------------------------------
WORLD STOCK MARKET CAPITALIZATION BY
REGION
World Total: $9.2 Trillion
[PIE CHART APPEARS HERE]
Canada: 2.2%
Europe: 28.3%
U.S.: 40.8%
Pacific Basin: 28.7%
Source: Morgan Stanley Capital
International, December 1995. Used
with permission. This chart
represents the capitalization of
major world stock markets as
measured by the Morgan Stanley
Capital International (MSCI) World
Index. The total market
capitalization is based on the value
of 1579 companies in 22 countries
(representing approximately 60% of
the aggregate market value of the
stock exchanges). This chart is for
illustrative purposes only and does
not represent the allocation of any
Prudential Mutual Fund.
This chart below shows the historical volatility of general interest rates as
measured by the long U.S. Treasury Bond.
LONG U.S. TREASURY BOND YIELD IN PERCENT (1926-1995)
[GRAPH APPEARS HERE]
- ---------------------------------------
Source: Stocks, Bonds, Bills, and Inflation 1996 Yearbook, Ibbotson Associates,
Chicago (annually updates work by Roger G. Ibbotson and Rex A. Sinquefield).
Used with permission. All rights reserved. The chart illustrates the historical
yield of the long-term U.S. Treasury Bond from 1926-1995. Yields represent that
of an annually renewed one-bond portfolio with a remaining maturity of
approximately 20 years. This chart is for illustrative purposes and should not
be construed to represent the yields of any Prudential Mutual Fund.
I-4
<PAGE>
The following chart, although not relevant to share ownership in the Fund,
may provide useful information about the effects of a hypothetical investment
diversified over different asset portfolios. The chart shows the range of
annual total returns for major stock and bond indices for the period from
December 31, 1975 through December 31, 1995. The horizontal "Best Returns
Zone" band shows that a hypothetical blended portfolio constructed of one-
third U.S. stock (S&P 500), one-third foreign stock (EAFE Index), and one-
third U.S. bonds (Lehman Index) would have eliminated the "highest highs" and
"lowest lows" of any single asset class.
[GRAPH APPEARS HERE]
- ---------------------------------------
* Source: Prudential Investment Corporation based on data from Lipper
Analytical New Application (LANA). Past performance is not indicative of
future results. The S&P 500 Index is a weighted, unmanaged index comprised of
500 stocks which provides a broad indication of stock price movements. The
Morgan Stanley EAFE Index is an unmanaged index comprised of 20 overseas stock
markets in Europe, Australia, New Zealand and the Far East. The Lehman
Aggregate Index includes all publicly-issued investment grade debt with
maturities over one year, including U.S. government and agency issues, 15 and
30 year fixed-rate government agency mortgage securities, dollar denominated
SEC registered corporate and government securities, as well as asset-backed
securities. Investors cannot invest directly in stock or bond market indices.
I-5
<PAGE>
APPENDIX II--GENERAL INVESTMENT INFORMATION
ASSET ALLOCATION
Asset allocation is a technique for reducing risk, providing balance. Asset
allocation among different types of securities within an overall investment
portfolio helps to reduce risk and to potentially provide stable returns,
while enabling investors to work toward their financial goal(s). Asset
allocation is also a strategy to gain exposure to better performing asset
classes while maintaining investment in other asset classes.
DIVERSIFICATION
Diversification is a time-honored technique for reducing risk, providing
"balance" to an overall portfolio and potentially achieving more stable
returns. Owning a portfolio of securities mitigates the individual risks (and
returns) of any one security. Additionally, diversification among types of
securities reduces the risks (and general returns) of any one type of
security.
DURATION
Debt securities have varying levels of sensitivity to interest rates. As
interest rates fluctuate, the value of a bond (or a bond portfolio) will
increase or decrease. Longer term bonds are generally more sensitive to
changes in interest rates. When interest rates fall, bond prices generally
rise. Conversely, when interest rates rise, bond prices generally fall.
Duration is an approximation of the price sensitivity of a bond (or a bond
portfolio) to interest rate changes. It measures the weighted average maturity
of a bond's (or a bond portfolio's) cash flows, i.e., principal and interest
rate payments. Duration is expressed as a measure of time in years--the longer
the duration of a bond (or a bond portfolio), the greater the impact of
interest rate changes on the bond's (or the bond portfolio's) price. Duration
differs from effective maturity in that duration takes into account call
provisions, coupon rates and other factors. Duration measures interest rate
risk only and not other risks, such as credit risk and, in the case of non-
U.S. dollar denominated securities, currency risk. Effective maturity measures
the final maturity dates of a bond (or a bond portfolio).
MARKET TIMING
Market timing--buying securities when prices are low and selling them when
prices are relatively higher--may not work for many investors because it is
impossible to predict with certainty how the price of a security will
fluctuate. However, owning a security for a long period of time may help
investors offset short-term price volatility and realize positive returns.
POWER OF COMPOUNDING
Over time, the compounding of returns can significantly impact investment
returns. Compounding is the effect of continuous investment on long-term
investment results, by which the proceeds of capital appreciation (and income
distributions, if elected) are reinvested to contribute to the overall growth
of assets. The long-term investment results of compounding may be greater than
that of an equivalent initial investment in which the proceeds of capital
appreciation and income distributions are taken in cash.
II-1
<PAGE>
APPENDIX III--INFORMATION RELATING TO THE PRUDENTIAL
Set forth below is information relating to The Prudential Insurance Company
of America (Prudential) and its subsidiaries as well as information relating
to the Prudential Mutual Funds. See "Management of the Fund--Manager" in the
Prospectus. The data will be used in sales materials relating to the
Prudential Mutual Funds. Unless otherwise indicated, the information is as of
December 31, 1995 and is subject to change thereafter. All information relies
on data provided by The Prudential Investment Corporation (PIC) or from other
sources believed by the Manager to be reliable. Such information has not been
verified by the Fund.
INFORMATION ABOUT PRUDENTIAL
The Manager and PIC/1/ are subsidiaries of Prudential, which is one of the
largest diversified financial services institutions in the world and, based on
total assets, the largest insurance company in North America as of December
31, 1995. Its primary business is to offer a full range of products and
services in three areas: insurance, investments and home ownership for
individuals and families; health-care management and other benefit programs
for employees of companies and members of groups; and asset management for
institutional clients and their associates. Prudential (together with its
subsidiaries) employs more than 92,000 persons worldwide, and maintains a
sales force of approximately 13,000 agents and 5,600 financial advisors.
Prudential is a major issuer of annuities, including variable annuities.
Prudential seeks to develop innovative products and services to meet consumer
needs in each of its business areas. Prudential uses the rock of Gibraltar as
its symbol. The Prudential rock is a recognized brand name throughout the
world.
Insurance. Prudential has been engaged in the insurance business since 1875.
It insures or provides financial services to more than 50 million people
worldwide--one of every five people in the United States. Long one of the
largest issuers of individual life insurance, the Prudential has 19 million
life insurance policies in force today with a face value of $1 trillion.
Prudential has the largest capital base ($11.4 billion) of any life insurance
company in the United States. The Prudential provides auto insurance for more
than 1.7 million cars and insures more than 1.4 million homes.
Money Management. The Prudential is one of the largest pension fund managers
in the country, providing pension services to 1 in 3 Fortune 500 firms. It
manages $36 billion of individual retirement plan assets, such as 401(k)
plans. In July 1995, Institutional Investor ranked Prudential the third
largest institutional money manager of the 300 largest money management
organizations in the United States as of December 31, 1994. As of December 31,
1995, Prudential had more than $314 billion in assets under management.
Prudential Investments, a business group of Prudential (of which Prudential
Mutual Funds is a key part) manages over $190 billion in assets of
institutions and individuals.
Real Estate. The Prudential Real Estate Affiliates, the fourth largest real
estate brokerage network in the United States, has more than 34,000 brokers
and agents and more than 1,100 offices in the United States./2/
Healthcare. Over two decades ago, the Prudential introduced the first
federally-funded, for-profit HMO in the country. Today, almost 5 million
Americans receive healthcare from a Prudential managed care membership.
Financial Services. The Prudential Bank, a wholly-owned subsidiary of the
Prudential, has nearly $3 billion in assets and serves nearly 1.5 million
customers across 50 states.
- --------
/1/Prudential Investments, a business group of PIC, serves as the Subadviser to
substantially all of the Prudential Mutual Funds. Wellington Management
Company serves as the subadviser to Global Utility Fund, Inc., Nicholas-
Applegate Capital Management as subadviser to Nicholas-Applegate Fund, Inc.,
Jennison Associates Capital Corp. as the subadviser to Prudential Jennison
Series Fund, Inc. and Prudential Active Balanced Fund, a portfolio of
Prudential Dryden Fund, Mercator Asset Management LP as the Subadviser to
International Stock Series, a portfolio of Prudential World Fund, Inc. and
BlackRock Financial Management, Inc. as subadviser to The BlackRock
Government Income Trust. There are multiple subadvisers for The Target
Portfolio Trust.
/2/As of December 31, 1994.
III-1
<PAGE>
INFORMATION ABOUT THE PRUDENTIAL MUTUAL FUNDS
Prudential Mutual Fund Management is one of the sixteen largest mutual fund
companies in the country, with over 2.5 million shareholders invested in more
than 50 mutual fund portfolios and variable annuities with more than 3.7
million shareholder accounts.
The Prudential Mutual Funds have over 30 portfolio managers who manage over
$55 billion in mutual fund and variable annuity assets. Some of Prudential's
portfolio managers have over 20 years of experience managing investment
portfolios.
From time to time, there may be media coverage of portfolio managers and
other investment professionals associated with the Manager and the Subadviser
in national and regional publications, on television and in other media.
Additionally, individual mutual fund portfolios are frequently cited in
surveys conducted by national and regional publications and media
organizations such as The Wall Street Journal, The New York Times, Barron's
and USA Today.
Equity Funds. Forbes magazine listed Prudential Equity Fund among twenty
mutual funds on its Honor Roll in its mutual fund issue of August 28, 1995.
Honorees are chosen annually among mutual funds (excluding sector funds) which
are open to new investors and have had the same management for at least five
years. Forbes considers, among other criteria, the total return of a mutual
fund in both bull and bear markets as well as a fund's risk profile.
Prudential Equity Fund is managed with a "value" investment style by PIC. In
1995, Prudential Securities introduced Prudential Jennison Fund, a growth-
style equity fund managed by Jennison Associates Capital Corp., a premier
institutional equity manager and a subsidiary of Prudential.
High Yield Funds. Investing in high yield bonds is a complex and research
intensive pursuit. A separate team of high yield bond analysts monitor the 167
issues held in the Prudential High Yield Fund (currently the largest fund of
its kind in the country) along with 100 or so other high yield bonds, which
may be considered for purchase./3/ Non-investment grade bonds, also known as
junk bonds or high yield bonds, are subject to a greater risk of loss of
principal and interest including default risk than higher-rated bonds.
Prudential high yield portfolio managers and analysts meet face-to-face with
almost every bond issuer in the High Yield Fund's portfolio annually, and have
additional telephone contact throughout the year.
Prudential's portfolio managers are supported by a large and sophisticated
research organization. Fourteen investment grade bond analysts monitor the
financial viability of approximately 1,750 different bond issuers in the
investment grade corporate and municipal bond markets--from IBM to small
municipalities, such as Rockaway Township, New Jersey. These analysts consider
among other things sinking fund provisions and interest coverage ratios.
Prudential's portfolio managers and analysts receive research services from
almost 200 brokers and market service vendors. They also receive nearly 100
trade publications and newspapers--from Pulp and Paper Forecaster to Women's
Wear Daily--to keep them informed of the industries they follow.
Prudential Mutual Funds' traders scan over 100 computer monitors to collect
detailed information on which to trade. From natural gas prices in the Rocky
Mountains to the results of local municipal elections, a Prudential portfolio
manager or trader is able to monitor it if it's important to a Prudential
mutual fund.
Prudential Mutual Funds trade approximately $31 billion in U.S. and foreign
government securities a year. PIC seeks information from government policy
makers. In 1995, Prudential's portfolio managers met with several senior U.S.
and foreign government officials, on issues ranging from economic conditions
in foreign countries to the viability of index-linked securities in the United
States.
Prudential Mutual Funds' portfolio managers and analysts met with over 1,200
companies in 1995, often with the Chief Executive Officer (CEO) or Chief
Financial Officer (CFO). They also attended over 250 industry conferences.
- --------
/3/As of December 31, 1995. The number of bonds and the size of the Fund are
subject to change.
III-2
<PAGE>
Prudential Mutual Fund global equity managers conducted many of their visits
overseas, often holding private meetings with a company in a foreign language
(our global equity managers speak 7 different languages, including Mandarin
Chinese).
Trading Data./4/ On an average day, Prudential Mutual Funds' U.S. and
foreign equity trading desks traded $77 million in securities representing
over 3.8 million shares with nearly 200 different firms. Prudential Mutual
Funds' bond trading desks traded $157 million in government and corporate
bonds on an average day. That represents more in daily trading than most bond
funds tracked by Lipper even have in assets./5/ Prudential Mutual Funds' money
market desk traded $3.2 billion in money market securities on an average day,
or over $800 billion a year. They made a trade every 3 minutes of every
trading day. In 1994, the Prudential Mutual Funds effected more than 40,000
trades in money market securities and held on average $20 billion of money
market securities./6/
Based on complex-wide data, on an average day, over 7,250 shareholders
telephoned Prudential Mutual Fund Services LLC, the Transfer Agent of the
Prudential Mutual Funds, on the Prudential Mutual Funds' toll-free number. On
an annual basis, that represents approximately 1.8 million telephone calls
answered.
INFORMATION ABOUT PRUDENTIAL SECURITIES
Prudential Securities is the fifth largest retail brokerage firm in the
United States with approximately 5,600 financial advisors. It offers to its
clients a wide range of products, including Prudential Mutual Funds and
annuities. As of December 31, 1995, assets held by Prudential Securities for
its clients approximated $168 billion. During 1994, over 28,000 new customer
accounts were opened each month at PSI./7/
Prudential Securities has a two-year Financial Advisor training program plus
advanced education programs, including Prudential Securities "university,"
which provides advanced education in a wide array of investment areas.
Prudential Securities is the only Wall Street firm to have its own in-house
Certified Financial Planner (CFP) program. In the December 1995 issue of
Registered Rep, an industry publication, Prudential Securities' Financial
Advisor training programs received a grade of A- (compared to an industry
average of B+).
In 1995, Prudential Securities' equity research team ranked 8th in
Institutional Investor magazine's 1995 "All America Research Team" survey.
Five Prudential Securities analysts were ranked as first-team finishers./8/
In addition to training, Prudential Securities provides its financial
advisors with access to firm economists and market analysts. It has also
developed proprietary tools for use by financial advisors, including the
Financial Architects SM, a state-of-the-art asset allocation software program
which helps Financial Advisors to evaluate a client's objectives and overall
financial plan, and a comprehensive mutual fund information and analysis
system that compares different mutual funds.
For more complete information about any of the Prudential Mutual Funds,
including charges and expenses, call your Prudential Securities financial
adviser or Pruco/Prudential representative for a free prospectus. Read it
carefully before you invest or send money.
- --------
/4/Trading data represents average daily transactions for portfolios of the
Prudential Mutual Funds for which PIC serves as the subadviser, portfolios
of the Prudential Series Fund and institutional and non-US accounts managed
by Prudential Mutual Fund Investment Management, a division of PIC, for the
year ended December 31, 1995.
/5/Based on 669 funds in Lipper Analytical Services categories of Short U.S.
Treasury, Short U.S. Government, Intermediate U.S. Treasury, Intermediate
U.S. Government, Short Investment Grade Debt, Intermediate Investment Grade
Debt, General U.S. Treasury, General U.S. Government and Mortgage Funds.
/6/As of December 31, 1994.
/7/As of December 31, 1994.
/8/On an annual basis, Institutional Investor magazine surveys more than 700
institutional money managers, chief investment officers and research
directors, asking them to evaluate analysts in 76 industry sectors. Scores
are produced by taking the number of votes awarded to an individual analyst
and weighting them based on the size of the voting institution. In total,
the magazine sends its survey to approximately 2,000 institutions and a
group of European and Asian institutions.
III-3
<PAGE>
OTHER INFORMATION
ITEM 24. FINANCIAL STATEMENTS AND EXHIBITS.
(a) FINANCIAL STATEMENTS:
(1) Financial Statements included in the Prospectus constituting Part A
of this Registration Statement:
Financial Highlights.
(2) Financial Statements included in the Statement of Additional
Information constituting Part B of this Registration Statement:
Portfolio of Investments at November 30, 1996.
Statement of Assets and Liabilities as of November 30, 1996.
Statement of Operations for the period ended November 30, 1996.
Statement of Changes in Net Assets for the period ended November 30,
1996.
Notes to Financial Statements.
Financial Highlights.
Independent Auditors' Report.
(b) EXHIBITS:
1.Articles of Incorporation, incorporated by reference to Exhibit 1 to
the Registration Statement on Form N-1A (File No. 333-00203) filed
via EDGAR on January 16, 1996.
2.By-Laws, incorporated by reference to Exhibit 2 to the Registration
Statement on Form N-1A (File No. 333-00203) filed via EDGAR on
January 16, 1996.
3.Not Applicable.
4.Instruments defining rights of shareholders incorporated by reference
to Exhibit 4 to the Registration Statement on Form N-1A (File No.
333-00203) filed via EDGAR on January 16, 1996.
5.(a) Management Agreement between the Registrant and Prudential Mutual
Fund Management, Inc., incorporated by reference to Exhibit 5(a) to
Post-Effective Amendment No. 1 to the Registration Statement on Form
N-1A (File No. 333-00203) filed via EDGAR on September 6, 1996.
(b) Subadvisory Agreement between Prudential Mutual Fund Management,
Inc. and The Prudential Investment Corporation, incorporated by
reference to Exhibit 5(b) to Post-Effective Amendment No. 1 to the
Registration Statement on Form N-1A (File No. 333-00203) filed via
EDGAR on September 6, 1996.
6.(a) Distribution Agreement between the Registrant and Prudential
Securities Incorporated, incorporated by reference to Exhibit 6(a) to
Post-Effective Amendment No. 1 to the Registration Statement on Form
N-1A (File No. 333-00203) filed via EDGAR on September 6, 1996.
(b) Form of Selected Dealer Agreement incorporated by reference to
Exhibit 6(b) to Pre-Effective Amendment No. 1 to the Registration
Statement on Form N-1A (File No. 333-00203) filed via EDGAR on
February 16, 1996.
7.Not Applicable.
8.Custodian Contract between the Registrant and State Street Bank and
Trust Company, incorporated by reference to Exhibit 8 to Post-
Effective Amendment No. 1 to the Registration Statement on Form N-1A
(File No. 333-00203) filed via EDGAR on September 6, 1996.
C-1
<PAGE>
9.Transfer Agency and Service Agreement between the Registrant and
Prudential Mutual Fund Services, Inc., incorporated by reference to
Exhibit 9 to Post-Effective Amendment No. 1 to the Registration
Statement on Form N-1A (File No. 333-00203) filed via EDGAR on
September 6, 1996.
10.Opinion of Gardner, Carton & Douglas, incorporated by reference to
Exhibit 10 to Pre-Effective Amendment No. 1 to the Registration
Statement on Form N-1A (File No. 333-00203) filed via EDGAR on
February 16, 1996.
11.Consent of Independent Auditors.*
12.Not Applicable.
13.Purchase Agreement, incorporated by reference to Exhibit 13 to Pre-
Effective Amendment No. 1 to the Registration Statement on Form N-1A
(File No. 333-00203) filed via EDGAR on February 16, 1996.
14.Not Applicable.
15.(a) Distribution and Service Plan for Class A shares, incorporated by
reference to Exhibit 15(a) to Post-Effective Amendment No. 1 to the
Registration Statement on Form N-1A (File No. 333-00203) filed via
EDGAR on September 6, 1996.
(b) Distribution and Service Plan for Class B shares, incorporated
by reference to Exhibit 15(b) to Post-Effective Amendment No. 1 to
the Registration Statement on Form N-1A (File No. 333-00203) filed
via EDGAR on September 6, 1996.
(c) Distribution and Service Plan for Class C shares, incorporated
by reference to Exhibit 15(c) to Post-Effective Amendment No. 1 to
the Registration Statement on Form N-1A (File No. 333-00203) filed
via EDGAR on September 6, 1996.
17.Financial Data Schedules filed as Exhibit 27 for electronic
purposes.*
18.Rule 18f-3 Plan.*
- --------
*Filed herewith.
ITEM 25. PERSONS CONTROLLED BY OR UNDER COMMON CONTROL WITH REGISTRANT.
None.
ITEM 26. NUMBER OF HOLDERS OF SECURITIES.
As of January 10, 1997, there were 132, 313 and 56 shareholders of the
outstanding shares of Class A, Class B and Class C of common stock, $.001 par
value per share, respectively, of the Registrant.
ITEM 27. INDEMNIFICATION.
As permitted by Sections 17(h) and (i) of the Investment Company Act of
1940, as amended (the 1940 Act) and pursuant to Article VI of the Fund's By-
Laws (Exhibit 2 to the Registration Statement), officers, directors, employees
and agents of the Registrant will not be liable to the Registrant, any
shareholder, officer, director, employee, agent or other person for any action
or failure to act, except for bad faith, willful misfeasance, gross negligence
or reckless disregard of duties, and those individuals may be indemnified
against liabilities in connection with the Registrant, subject to the same
exceptions. Section 2-418 of Maryland General Corporation Law permits
indemnification of directors who acted in good faith and reasonably believed
that the conduct was in the best interests of the Registrant. As permitted by
Section 17(i) of the 1940 Act, pursuant to Section 10 of the Distribution
Agreement (Exhibit 6(a) to the Registration Statement), the Distributor of the
Registrant may be indemnified against liabilities which it may incur, except
liabilities arising from bad faith, gross negligence, willful misfeasance or
reckless disregard of duties.
C-2
<PAGE>
Insofar as indemnification for liabilities arising under the Securities Act
of 1933, as amended (Securities Act) may be permitted to directors, officers
and controlling persons of the Registrant pursuant to the foregoing provisions
or otherwise, the Registrant has been advised that in the opinion of the
Securities and Exchange Commission such indemnification is against public
policy as expressed in the 1940 Act and is, therefore, unenforceable. In the
event that a claim for indemnification against such liabilities (other than
the payment by the Registrant of expenses incurred or paid by a director,
officer, or controlling person of the Registrant in connection with the
successful defense of any action, suit or proceeding) is asserted against the
Registrant by such director, officer or controlling person in connection with
the shares being registered, the Registrant will, unless in the opinion of its
counsel the matter has been settled by controlling precedent, submit to a
court of appropriate jurisdiction the question whether such indemnification by
it is against public policy as expressed in the 1940 Act and will be governed
by the final adjudication of such issue.
The Registrant has purchased an insurance policy insuring its officers and
directors against liabilities, and certain costs of defending claims against
such officers and directors, to the extent such officers and directors are not
found to have committed conduct constituting willful misfeasance, bad faith,
gross negligence or reckless disregard in the performance of their duties. The
insurance policy also insures the Registrant against the cost of
indemnification payments to officers and directors under certain
circumstances.
Section 9 of the Management Agreement (Exhibit 5(a) to the Registration
Statement) and Section 4 of the Subadvisory Agreement (Exhibit 5(b) to the
Registration Statement) limit the liability of Prudential Mutual Fund
Management LLC (PMF) and The Prudential Investment Corporation (PIC),
respectively, to liabilities arising from willful misfeasance, bad faith or
gross negligence in the performance of their respective duties or from
reckless disregard by them of their respective obligations and duties under
the agreements.
The Registrant hereby undertakes that it will apply the indemnification
provisions of its By-Laws and the Distribution Agreement in a manner
consistent with Release No. 11330 of the Securities and Exchange Commission
under the 1940 Act so long as the interpretation of Sections 17(h) and 17(i)
of such Act remain in effect and are consistently applied.
Under Section 17(h) of the 1940 Act, it is the position of the staff of the
Securities and Exchange Commission that if there is neither a court
determination on the merits that the defendant is not liable nor a court
determination that the defendant was not guilty of willful misfeasance, bad
faith, gross negligence or reckless disregard of the duties involved in the
conduct of one's office, no indemnification will be permitted unless an
independent legal counsel (not including a counsel who does work for either
the registrant, its investment adviser, its principal underwriter or persons
affiliated with these persons) determines, based upon a review of the facts,
that the person in question was not guilty of willful misfeasance, bad faith,
gross negligence or reckless disregard of the duties involved in the conduct
of his office.
Under its Articles of Incorporation, the Registrant may advance funds to
provide for indemnification. Pursuant to the Securities and Exchange
Commission staff's position of Section 17(h) advances will be limited in the
following respect:
(1) Any advances must be limited to amounts used, or to be used, for the
preparation and/or presentation of a defense to the action (including cost
connected with preparation of a settlement);
(2) Any advances must be accompanied by a written promise by, or on
behalf of, the recipient to repay that amount of the advance which exceeds
the amount to which it is ultimately determined that he is entitled to
receive from the Registrant by reason of indemnification;
(3) Such promise must be secured by a surety bond or other suitable
insurance; and
(4) Such surety bond or other insurance must be paid for by the recipient
of such advance.
C-3
<PAGE>
ITEM 28. BUSINESS AND OTHER CONNECTIONS OF INVESTMENT ADVISER
(a) Prudential Mutual Fund Management LLC
See "Management of the Fund--Manager" in the Prospectus constituting Part A
of this Registration Statement and "Manager" in the Statement of Additional
Information constituting Part B of this Registration Statement.
The business and other connections of the officers of PMF are listed in
Schedules A and D of Form ADV of PMF as currently on file with the Securities
and Exchange Commission, the text of which is hereby incorporated by reference
(File No. 801-31104).
The business and other connections of PMF's directors and principal
executive officers are set forth below. Except as otherwise indicated, the
address of each person is Gateway Center Three, Newark, NJ 07102.
<TABLE>
<CAPTION>
NAME POSITION WITH PMF PRINCIPAL OCCUPATION
- ---- ----------------- --------------------
<S> <C> <C>
Brian President, Chief President, Chief Executive Officer and Chief
Storms Executive Officer and Operating Officer, PMF
Chief Operating Officer
Robert F. Executive Vice President Comptroller, Prudential Investments;
Gunia and Treasurer Executive Vice President and Treasurer, PMF;
Senior Vice President of Prudential
Securities Incorporated (Prudential
Securities)
Thomas A. Executive Vice President, Executive Vice President, Secretary and
Early Secretary and General Counsel General Counsel, PMF; Vice President and
General Counsel, Prudential Retirement
Services
Susan C. Senior Vice President, Senior Vice President, Chief Financial
Cote Chief Financial Officer Officer, PMF; Managing Director, Prudential
Investments and Vice President, PIC
S. Jane Senior Vice President Senior Vice President, PMF; Senior Vice
Rose President and Senior Counsel, Prudential
Securities
Eugene S. First Vice President First Vice President, PMF
Stark
Grace C. First Vice President First Vice President, PMF
Torres
Joanne Vice President Vice President, PMF
Accurso-
Soto
Deborah A. Vice President Vice President, PMF; Vice President and
Docs Associate General Counsel, Prudential
Securities; Assistant General Counsel,
Prudential
Marguerite Vice President Vice President, PMF; Vice President and
E. H. Mor- Associate General Counsel, Prudential
rison Securities; Assistant General Counsel,
Prudential
Ellyn C. Vice President Vice President, PMF; Vice President and
Vogin Associate General Counsel, Prudential
Securities; Assistant General Counsel,
Prudential
</TABLE>
(b) The Prudential Investment Corporation
See "Management of the Fund--Manager" in the Prospectus constituting Part A
of this Registration Statement and "Management" in the Statement of Additional
Information constituting Part B of this Registration Statement.
C-4
<PAGE>
The business and other connections of PIC's directors and executive officers
are as set forth below. The address of each person is Prudential Plaza,
Newark, NJ 07102.
<TABLE>
<CAPTION>
NAME AND
ADDRESS POSITION WITH PIC PRINCIPAL OCCUPATIONS
- -------- ----------------- ---------------------
<S> <C> <C>
E. Michael Chairman of the Board, Chief Executive Officer of Prudential Investments
Caulfield President and Chief of The Prudential Insurance Company of America
Executive Officer and (Prudential)
Director
Jonathan Senior Vice President and President--Investment Management of Prudential
M. Greene Director Investments of Prudential
John R. Vice President and Director President of Private Asset Management Group of
Strangfeld Prudential
</TABLE>
ITEM 29. PRINCIPAL UNDERWRITERS
(a) Prudential Securities Incorporated
Prudential Securities is distributor for The BlackRock Government Income
Trust, Command Government Fund, Command Money Fund, Command Tax-Free Fund, The
Global Government Plus Fund, Inc., The Global Total Return Fund, Inc., Global
Utility Fund, Inc., Nicholas-Applegate Fund, Inc. (Nicholas-Applegate Growth
Equity Fund), Prudential Allocation Fund, Prudential California Municipal
Fund, Prudential Diversified Bond Fund, Inc., Prudential Distressed Securities
Fund, Inc., Prudential Dryden Fund, Prudential Emerging Growth Fund, Inc.,
Prudential Equity Fund, Inc., Prudential Equity Income Fund, Prudential Europe
Growth Fund, Inc., Prudential Global Genesis Fund, Inc., Prudential Global
Limited Maturity Fund, Inc., Prudential Government Income Fund, Inc.,
Prudential Government Securities Trust, Prudential High Yield Fund, Inc.,
Prudential Institutional Liquidity Portfolio, Inc., Prudential Intermediate
Global Income Fund, Inc., Prudential Jennison Series Fund, Inc., Prudential
MoneyMart Assets, Inc., Prudential Mortgage Income Fund, Inc., Prudential
Multi-Sector Fund, Inc., Prudential Municipal Bond Fund, Prudential Municipal
Series Fund, Prudential National Municipals Fund, Inc., Prudential Natural
Resources Fund, Inc., Prudential Pacific Growth Fund, Inc., Prudential Small
Companies Fund, Inc., Prudential Special Money Market Fund, Inc., Prudential
Structured Maturity Fund, Inc., Prudential Utility Fund, Inc., Prudential
World Fund, Inc. and The Target Portfolio Trust. Prudential Securities is also
a depositor for the following unit investment trusts:
Corporate Investment Trust Fund
Prudential Equity Trust Shares
National Equity Trust
Prudential Unit Trusts
Government Securities Equity Trust
National Municipal Trust
C-5
<PAGE>
(b) Information concerning the officers and directors of Prudential
Securities Incorporated is set forth below.
<TABLE>
<CAPTION>
POSITIONS AND POSITIONS AND
OFFICES WITH OFFICES WITH
NAME(/1/) UNDERWRITER REGISTRANT
- --------- ------------- -------------
<S> <C> <C>
Robert Golden........... Executive Vice President and Director None
One New York Plaza
New York, NY 10292
Alan D. Hogan........... Executive Vice President, Chief Administrative Officer None
and Director
George A. Murray........ Executive Vice President and Director None
Leland B. Paton......... Executive Vice President and Director None
One New York Plaza
New York, NY 10292
Martin Pfinsgraff....... Executive Vice President, Chief Financial Officer and Director None
Vincent T. Pica, II..... Executive Vice President and Director None
One New York Plaza
New York, NY 10292
Hardwick Simmons........ Chief Executive Officer, President and Director None
Lee B. Spencer, Jr. .... Executive Vice President, General Counsel and Director None
</TABLE>
- --------
(/1/)The address of each person named is One Seaport Plaza, New York, New York
10292, unless otherwise indicated.
(c) Registrant has no principal underwriter who is not an affiliated
person of the Registrant.
ITEM 30. LOCATION OF ACCOUNTS AND RECORDS
All accounts, books and other documents required to be maintained by Section
31(a) of the 1940 Act and the Rules thereunder are maintained at the offices
of State Street Bank and Trust Company, One Heritage Drive, North Quincy,
Massachusetts 02171, The Prudential Investment Corporation, Prudential Plaza,
751 Broad Street, Newark, New Jersey 07102, the Registrant, Gateway Center
Three, Newark, New Jersey 07102 and Prudential Mutual Fund Services LLC,
Raritan Plaza One, Edison, New Jersey 08837. Documents required by Rules 31a-
1(b)(5), (6), (7), (9), (10) and (11) and 31a-1(f) will be kept at Two Gateway
Center, documents required by Rules 31a-1(b)(4) and (11) and 31a-1(d) at One
Seaport Plaza and the remaining accounts, books and other documents required
by such other pertinent provisions of Section 31(a) and the Rules promulgated
thereunder will be kept by State Street Bank and Trust Company and Prudential
Mutual Fund Services LLC.
ITEM 31. MANAGEMENT SERVICES
Other than as set forth under the captions "Management of the Fund--Manager"
and "Management of the Fund--Distributor" in the Prospectus and the captions
"Manager" and "Distributor" in the Statement of Additional Information,
constituting Parts A and B, respectively, of this Registration Statement,
Registrant is not a party to any management-related service contract.
ITEM 32. UNDERTAKINGS
The Registrant hereby undertakes to furnish each person to whom a Prospectus
is delivered with a copy of the Registrant's latest annual report to
shareholders upon request and without charge.
C-6
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933 and the
Investment Company Act of 1940, the Registrant certifies that it meets all of
the requirements for effectiveness of this Post-Effective Amendment to the
Registration Statement under Rule 485(b) under the Securities Act of 1933 and
has duly caused this Post-Effective Amendment to the Registration Statement to
be signed on its behalf by the undersigned, thereunto duly authorized, in the
City of Newark, and State of New Jersey, on the 27th day of January, 1997.
PRUDENTIAL DISTRESSED SECURITIES FUND, INC.
/s/ Richard A. Redeker
By_________________________________
RICHARD A. REDEKER PRESIDENT
Pursuant to the requirements of the Securities Act of 1933, this Amendment
to the Registration Statement has been signed below by the following persons
in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- --------- ----- ----
<S> <C> <C>
/s/ Grace C. Torres Treasurer and Principal January 27, 1997
- ------------------------ Financial and Accounting Officer
GRACE C. TORRES
/s/ Edward D. Beach Director January 27, 1997
- ------------------------
EDWARD D. BEACH
/s/ Delayne D. Gold Director January 27, 1997
- ------------------------
DELAYNE D. GOLD
/s/ Robert F. Gunia Director January 27, 1997
- ------------------------
ROBERT F. GUNIA
/s/ Donald D. Lennox Director January 27, 1997
- ------------------------
DONALD D. LENNOX
/s/ Douglas McCorkindale Director January 27, 1997
- ------------------------
DOUGLAS MCCORKINDALE
/s/ Mendel A. Melzer Director January 27, 1997
- ------------------------
MENDEL A. MELZER
/s/ Thomas T. Mooney Director January 27, 1997
- ------------------------
THOMAS T. MOONEY
/s/ Stephen P. Munn Director January 27, 1997
- ------------------------
STEPHEN P. MUNN
/s/ Richard A. Redeker President and Director January 27, 1997
- ------------------------
RICHARD A. REDEKER
/s/ Robin B. Smith Director January 27, 1997
- ------------------------
ROBIN B. SMITH
/s/ Louis A. Weil, III Director January 27, 1997
- ------------------------
LOUIS A. WEIL, III
/s/ Clay T. Whitehead Director January 27, 1997
- ------------------------
CLAY T. WHITEHEAD
</TABLE>
C-7
<PAGE>
PRUDENTIAL DISTRESSED SECURITIES FUND, INC.
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT NUMBER DESCRIPTION PAGE NUMBER
-------------- ----------- -----------
<C> <S> <C>
1 Articles of Incorporation, incorporated by refer- --
ence to Exhibit 1 to the Registration Statement
on Form N-1A (File No. 333-00203) filed via EDGAR
on January 16, 1996.
2 By-Laws, incorporated by reference to Exhibit 2 --
to the Registration Statement on
Form N-1A (File No. 333-00203) filed via EDGAR on
January 16, 1996.
3 Not Applicable.
4 Instruments Defining Rights of Shareholders, in- --
corporated by reference to Exhibit 4 to the Reg-
istration Statement on Form N-1A (File No. 333-
00203) filed via EDGAR on January 16, 1996.
5(a) Management Agreement between the Registrant and --
Prudential Mutual Fund Management, Inc., incorpo-
rated by reference to Exhibit 5(a) to Post-Effec-
tive Amendment No. 1 to the Registration State-
ment on Form N-1A (File No. 333-00203) filed via
EDGAR on September 6, 1996.
5(b) Subadvisory Agreement between Prudential Mutual --
Fund Management, Inc. and The Prudential Invest-
ment Corporation, incorporated by reference to
Exhibit 5(b) to Post-Effective Amendment No. 1 to
the Registration Statement on Form N-1A (File No.
333-00203) filed via EDGAR on September 6, 1996.
6(a) Distribution Agreement between the Registrant and --
Prudential Securities Incorporated, incorporated
by reference to Exhibit 6(a) to Post-Effective
Amendment No. 1 to the Registration Statement on
Form N-1A (File No. 333-00203) filed via EDGAR on
September 6, 1996.
6(b) Form of Selected Dealer Agreement, incorporated --
by reference to Exhibit 6(b) to Pre-Effective
Amendment No. 1 to the Registration Statement on
Form N-1A (File No. 333-00203) filed via EDGAR on
February 16, 1996.
7 Not Applicable.
8 Custodian Contract between the Registrant and --
State Street Bank and Trust Company, incorporated
by reference to Exhibit 8 to Post-Effective
Amendment No. 1 to the Registration Statement on
Form N-1A (File No. 333-00203) filed via EDGAR on
September 6, 1996.
9 Transfer Agency and Service Agreement between the --
Registrant and Prudential Mutual Fund Services,
Inc., incorporated by reference to Exhibit 9 to
Post-Effective Amendment No. 1 to the Registra-
tion Statement on Form N-1A (File No. 333-00203)
filed via EDGAR on September 6, 1996.
10 Opinion of Gardner, Carton & Douglas, --
incorporated by reference to Exhibit 10 to Pre-
Effective Amendment No. 1 to the Registration
Statement on Form N-1A (File No. 333-00203) filed
via EDGAR on February 16, 1996.
11 Consent of Independent Auditors.*
12 Not Applicable.
13 Purchase Agreement, incorporated by reference to --
Exhibit 13 to Pre-Effective Amendment No. 1 to
the Registration Statement on Form N-1A (File No.
333-00203) filed via EDGAR on February 16, 1996.
14 Not Applicable.
15(a) Distribution and Service Plan for Class A Shares, --
incorporated by reference to Exhibit 15(a) to
Post-Effective Amendment No. 1 to the Registra-
tion Statement on Form N-1A (File No. 333-00203)
filed via EDGAR on September 6, 1996.
15(b) Distribution and Service Plan for Class B Shares, --
incorporated by reference to Exhibit 15(b) to
Post-Effective Amendment No. 1 to the Registra-
tion Statement on Form N-1A (File No. 333-00203)
filed via EDGAR on September 6, 1996.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NUMBER DESCRIPTION PAGE NUMBER
-------------- ----------- -----------
<C> <S> <C>
15(c) Distribution and Service Plan for Class C Shares, --
incorporated by reference to Exhibit 15(c) to
Post-Effective Amendment No. 1 to the Registra-
tion Statement on Form N-1A (File No. 333-00203)
filed via EDGAR on September 6, 1996.
17 Financial Data Schedules filed as Exhibit 27 for
electronic purposes.*
18 Rule 18f-3 Plan.*
</TABLE>
- --------
* Filed herewith.
<PAGE>
EXHIBIT 99.B11
CONSENT OF INDEPENDENT AUDITORS
We consent to the use in Post-Effective Amendment No. 2 to Registration
Statement No. 333-00203 of Prudential Distressed Securities Fund, Inc. of our
report dated January 10, 1997, appearing in the Statement of Additional
Information, which is a part of such Registration Statement, and to the
reference to us under the heading "Financial Highlights" in the Prospectus,
which is a part of such Registration Statement, and "Custodian, Transfer and
Dividend Disbursing Agent and Independent Accountants" in the Statement of
Additional Information.
Deloitte & Touche LLP
New York, New York
January 24, 1997
<PAGE>
EXHIBIT 99.B18
PRUDENTIAL DISTRESSED SECURITIES FUND, INC.
(the Fund)
PLAN PURSUANT TO RULE 18F-3
The Fund hereby adopts this plan pursuant to Rule 18f-3 under the
Investment Company Act of 1940 (the 1940 Act), setting forth the separate
arrangement and expense allocation of each class of shares. Any material
amendment to this plan is subject to prior approval of the Board of
Directors, including a majority of the independent Directors.
CLASS CHARACTERISTICS
CLASS A SHARES: Class A shares are subject to a high initial
sales charge and a distribution and/or service
fee pursuant to Rule 12b-1 under the 1940 Act
(Rule 12b-1 fee) not to exceed .30 of 1% per
annum of the average daily net assets of the
class. The initial sales charge is waived or
reduced for certain eligible investors.
CLASS B SHARES: Class B shares are not subject to an initial
sales charge but are subject to a high
contingent deferred sales charge (declining by
1% each year) which will be imposed on certain
redemptions and a Rule 12b-1 fee of not to
exceed 1% per annum of the average daily
net assets of the class. The contingent
deferred sales charge is waived for certain
eligible investors. Class B shares
automatically convert to Class A shares
approximately seven years after purchase.
CLASS C SHARES: Class C shares are not subject to an initial
sales charge but are subject to a low
contingent deferred sales charge (declining by
1% each year) which will be imposed on certain
redemptions and a Rule 12b-1 fee not to exceed
1% per annum of the average daily net assets
of the class.
<PAGE>
Class Z SHARES: Class Z shares are not subject to either an
initial or contingent deferred sales charge
nor are they subject to any Rule 12b-1 fee.
INCOME AND EXPENSE ALLOCATIONS
Income, any realized and unrealized capital gains and losses, and expenses
not allocated to a particular class, will be allocated to each class on the
basis of the net asset value of that class in relation to the net asset value of
the Fund.
DIVIDENDS AND DISTRIBUTIONS
Dividends and other distributions paid by the Fund to each class of shares,
to the extent paid, will be paid on the same day and at the same time, and will
be determined in the same manner and will be in the same amount, except that the
amount of the dividends and other distributions declared and paid by a
particular class may be different from that paid by another class because of
Rule 12b-1 fees and other expenses borne exclusively by that class.
EXCHANGE PRIVILEGE
Each class of shares is generally exchangeable for the same class of shares
(or the class of shares with similar characteristics), if any, of the other
Prudential Mutual Funds (subject to certain minimum investment requirements) at
relative net asset value without the imposition of any sales charge.
Class B and Class C shares (which are not subject to a contingent deferred
sales charge) of shareholders who qualify to purchase Class A shares at net
asset value will be automatically exchanged for Class A shares on a quarterly
basis, unless the shareholder elects otherwise.
CONVERSION FEATURES
Class B shares will automatically convert to Class A shares on a quarterly
basis approximately seven years after purchase. Conversions will be effected at
relative net asset value without the imposition of any additional sales charge.
<PAGE>
GENERAL
A. Each class of shares shall have exclusive voting rights on any matter
submitted to shareholders that relates solely to its arrangement and shall
have separate voting rights on any matter submitted to shareholders in
which the interests of one class differ from the interests of any other
class.
B. On an ongoing basis, the Directors, pursuant to their fiduciary
responsibilities under the 1940 Act and otherwise, will monitor the Fund
for the existence of any material conflicts among the interests of its
several classes. The Directors, including a majority of the independent
Directors, shall take such action as is reasonably necessary to eliminate
any such conflicts that may develop. Prudential Mutual Fund Management,
Inc., the Fund's Manager, will be responsible for reporting any potential
or existing conflicts to the Directors.
C. For purposes of expressing an opinion on the financial statements of the
Fund, the methodology and procedures for calculating the net asset value
and dividends/distributions of the Fund's several classes and the proper
allocation of income and expenses among such classes will be examined
annually by the Fund's independent auditors who, in performing such
examination, shall consider the factors set forth in the relevant auditing
standards adopted, from time to time, by the American Institute of
Certified Public Accountants.
Dated: May 8, 1996
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 6
<SERIES>
<NUMBER> 001
<NAME> PRUDENTIAL DISTRESSED SECURITIES FUND, INC. (CLASS A)
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> NOV-30-1996
<PERIOD-END> NOV-30-1996
<INVESTMENTS-AT-COST> 11,111,592
<INVESTMENTS-AT-VALUE> 10,671,387
<RECEIVABLES> 100,757
<ASSETS-OTHER> 181,011
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 10,953,155
<PAYABLE-FOR-SECURITIES> 366,875
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 310,330
<TOTAL-LIABILITIES> 677,205
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 10,921,615
<SHARES-COMMON-STOCK> 870,267
<SHARES-COMMON-PRIOR> 0
<ACCUMULATED-NII-CURRENT> 163,021
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> (368,481)
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> (440,205)
<NET-ASSETS> 10,275,950
<DIVIDEND-INCOME> 39,964
<INTEREST-INCOME> 405,319
<OTHER-INCOME> 0
<EXPENSES-NET> 282,262
<NET-INVESTMENT-INCOME> 163,021
<REALIZED-GAINS-CURRENT> (368,481)
<APPREC-INCREASE-CURRENT> (440,205)
<NET-CHANGE-FROM-OPS> (645,665)
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> 0
<DISTRIBUTIONS-OF-GAINS> 0
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 14,160,097
<NUMBER-OF-SHARES-REDEEMED> (3,338,482)
<SHARES-REINVESTED> 0
<NET-CHANGE-IN-ASSETS> 10,175,950
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> 0
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR> 0
<GROSS-ADVISORY-FEES> 65,160
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 103,399
<AVERAGE-NET-ASSETS> 4,391,000
<PER-SHARE-NAV-BEGIN> 12.50
<PER-SHARE-NII> (0.65)
<PER-SHARE-GAIN-APPREC> 0.00
<PER-SHARE-DIVIDEND> 0.00
<PER-SHARE-DISTRIBUTIONS> 0.00
<RETURNS-OF-CAPITAL> 0.00
<PER-SHARE-NAV-END> 11.85
<EXPENSE-RATIO> 2.76
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0.00
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 6
<SERIES>
<NUMBER> 002
<NAME> PRUDENTIAL DISTRESSED SECURITIES FUND, INC. (CLASS B)
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> NOV-30-1996
<PERIOD-END> NOV-30-1996
<INVESTMENTS-AT-COST> 11,111,592
<INVESTMENTS-AT-VALUE> 10,671,387
<RECEIVABLES> 100,757
<ASSETS-OTHER> 181,011
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 10,953,155
<PAYABLE-FOR-SECURITIES> 366,875
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 310,330
<TOTAL-LIABILITIES> 677,205
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 10,921,615
<SHARES-COMMON-STOCK> 870,267
<SHARES-COMMON-PRIOR> 0
<ACCUMULATED-NII-CURRENT> 163,021
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> (368,481)
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> (440,205)
<NET-ASSETS> 10,275,950
<DIVIDEND-INCOME> 39,964
<INTEREST-INCOME> 405,319
<OTHER-INCOME> 0
<EXPENSES-NET> 282,262
<NET-INVESTMENT-INCOME> 163,021
<REALIZED-GAINS-CURRENT> (368,481)
<APPREC-INCREASE-CURRENT> (440,205)
<NET-CHANGE-FROM-OPS> (645,665)
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> 0
<DISTRIBUTIONS-OF-GAINS> 0
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 14,160,097
<NUMBER-OF-SHARES-REDEEMED> (3,338,482)
<SHARES-REINVESTED> 0
<NET-CHANGE-IN-ASSETS> 10,175,950
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> 0
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR> 0
<GROSS-ADVISORY-FEES> 65,160
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 103,399
<AVERAGE-NET-ASSETS> 6,650,000
<PER-SHARE-NAV-BEGIN> 12.50
<PER-SHARE-NII> (0.71)
<PER-SHARE-GAIN-APPREC> 0.00
<PER-SHARE-DIVIDEND> 0.00
<PER-SHARE-DISTRIBUTIONS> 0.00
<RETURNS-OF-CAPITAL> 0.00
<PER-SHARE-NAV-END> 11.79
<EXPENSE-RATIO> 3.51
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0.00
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 6
<SERIES>
<NUMBER> 003
<NAME> PRUDENTIAL DISTRESSED SECURITIES FUND, INC. (CLASS C)
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> NOV-30-1996
<PERIOD-END> NOV-30-1996
<INVESTMENTS-AT-COST> 11,111,592
<INVESTMENTS-AT-VALUE> 10,671,387
<RECEIVABLES> 100,757
<ASSETS-OTHER> 181,011
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 10,953,155
<PAYABLE-FOR-SECURITIES> 366,875
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 310,330
<TOTAL-LIABILITIES> 677,205
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 10,921,615
<SHARES-COMMON-STOCK> 870,267
<SHARES-COMMON-PRIOR> 0
<ACCUMULATED-NII-CURRENT> 163,021
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> (368,481)
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> (440,205)
<NET-ASSETS> 10,275,950
<DIVIDEND-INCOME> 39,964
<INTEREST-INCOME> 405,319
<OTHER-INCOME> 0
<EXPENSES-NET> 282,262
<NET-INVESTMENT-INCOME> 163,021
<REALIZED-GAINS-CURRENT> (368,481)
<APPREC-INCREASE-CURRENT> (440,205)
<NET-CHANGE-FROM-OPS> (645,665)
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> 0
<DISTRIBUTIONS-OF-GAINS> 0
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 14,160,097
<NUMBER-OF-SHARES-REDEEMED> (3,338,482)
<SHARES-REINVESTED> 0
<NET-CHANGE-IN-ASSETS> 10,175,950
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> 0
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR> 0
<GROSS-ADVISORY-FEES> 65,160
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 103,399
<AVERAGE-NET-ASSETS> 1,678,000
<PER-SHARE-NAV-BEGIN> 12.50
<PER-SHARE-NII> (0.71)
<PER-SHARE-GAIN-APPREC> 0.00
<PER-SHARE-DIVIDEND> 0.00
<PER-SHARE-DISTRIBUTIONS> 0.00
<RETURNS-OF-CAPITAL> 0.00
<PER-SHARE-NAV-END> 11.79
<EXPENSE-RATIO> 3.51
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0.00
</TABLE>
