THE HIGHLAND FAMILY OF FUNDS
THE HIGHLAND GROWTH FUND
Supplement Dated October 14, 1997 to
Prospectus Dated April 14, 1997
1. Add to page 3 before the section captioned "The Highland Family of Funds,"
the following text and table:
FINANCIAL HIGHLIGHTS
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The following information represents selected data for a single share
outstanding of the Highland Growth Fund. This information is not audited.
Highland Growth Fund commenced operations on May 13, 1997. The financial
statements for the period May 13, 1997 through August 31, 1997 are set forth in
Appendix B to the SAI and may be obtained from the Company without charge.
Period Ended
August 31, 1997
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Net Asset Value, Beginning of Period $10.00 (a)
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Investment Operations
Net Investment Income (Loss) (0.02)
Net Realized and Unrealized Gain (Loss) on
Investments 1.24
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Total from Investment Operations 1.22
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Net Asset Value, End of Period $11.22
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Total Return 12.20% (b)
Ratio/Supplementary Data:
Net Assets at End of Period (000's omitted) $460
Ratios to Average Net Assets:
Expenses including reimbursement/waiver 1.95% (c)
Expenses excluding reimbursement/waiver 121.41% (c)
Net investment income (loss) including
reimbursement/waiver (0.69%) (c)
Average Commission Rate (d) $ 0.2337
Portfolio Turnover Rate 1.43%
(a) The Fund commenced operations on May 13, 1997.
(b) Not annualized.
(c) Annualized.
(d) Amount represents the average commission per share paid to brokers on the
purchase or sale of equity securities.
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THE HIGHLAND FAMILY OF FUNDS
Two Portland Square
Portland, Maine 04101
April 14, 1997
PROSPECTUS
THE HIGHLAND FAMILY OF FUNDS (the "Company") is a registered, no-load, open-end
management investment company, commonly known as a mutual fund. The Company
presently consists of two diversified investment portfolios, HIGHLAND GROWTH
FUND and HIGHLAND AGGRESSIVE GROWTH FUND, designed to offer investors
equity-oriented investment opportunities. Each investment portfolio is
individually referred to as a "Fund" and collectively as the "Funds."
HIGHLAND GROWTH FUND seeks long-term capital appreciation. The Growth Fund
invests primarily in equity securities of companies believed by the Fund's
investment adviser to have the potential for above-average long-term growth. The
Growth Fund invests in companies of all sizes. HIGHLAND AGGRESSIVE GROWTH FUND
seeks capital appreciation. The Aggressive Growth Fund invests primarily in
equity securities of companies believed by the Fund's investment adviser to have
the potential for above-average growth in market value. The Aggressive Growth
Fund emphasizes companies with market capitalizations of less than $1 billion.
Highland Investment Group L.P. serves as the investment adviser to the Funds.
Catherine C. Lawson, co-founder, Chief Executive Officer and Chief Investment
Officer of Highland Investment Group L.P., manages the investment program of the
Funds and is primarily responsible for the day-to-day management of each Fund's
portfolio.
MUTUAL FUND SHARES ARE NOT DEPOSITS OR OBLIGATIONS OF, OR ENDORSED OR GUARANTEED
BY, ANY BANK OR INSURED DEPOSITARY INSTITUTION, NOR ARE THEY INSURED OR
OTHERWISE PROTECTED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION OR ANY OTHER
AGENCY. INVESTMENTS IN MUTUAL FUNDS INVOLVE INVESTMENT RISK, INCLUDING POSSIBLE
LOSS OF PRINCIPAL.
This Prospectus sets forth concisely the information about the Funds that you
should know before investing. You are advised to read this Prospectus carefully
and keep it for future reference.
A Statement of Additional Information ("SAI"), dated April 14, 1997, which is
incorporated herein by reference, has been filed with the Securities and
Exchange Commission. The SAI, which may be revised from time to time, contains
further information about the Funds and is available, without charge, by writing
to the Funds at Two Portland Square, Portland, Maine 04101, or calling, toll
free, 1-888-557-3200. The SAI, together with other related materials, is also
available at the Securities and Exchange Commission's Web Site
(http://www.sec.gov).
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THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
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TABLE OF CONTENTS
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Expense Summary 3
The Highland Family of Funds 3
Investment Objectives, Policies and Risk
Considerations 4
Investment Limitations 7
Management of the Funds 8
Pricing of Fund Shares 9
How to Purchase Shares 10
How to Exchange Shares 12
How to Reedeem Shares 13
Dividends and Distributions 14
Shareholder Reports and Information 14
Taxes 15
General Information 15
Fund Performance 16
Appendix A -- Permitted Investments and
Investment Practices A-1
NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR
TO MAKE ANY REPRESENTATIONS NOT CONTAINED IN THIS
PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION OR
REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY THE FUNDS. THIS PROSPECTUS DOES NOT
CONSTITUTE AN OFFERING BY THE FUNDS IN ANY JURISDICTION IN
WHICH SUCH OFFERING MAY NOT LAWFULLY BE MADE.
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EXPENSE SUMMARY
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The following table is designed to assist you in understanding the expenses you
will bear directly or indirectly as a shareholder of a Fund. Shareholder
Transaction Expenses are charges that you pay when buying or selling shares of a
Fund. Annual Fund Operating Expenses are paid out of a Fund's assets and include
fees for portfolio management, general Fund administration, shareholder
servicing, accounting and other services. Annual Fund Operating Expenses are the
expenses expected to be incurred by each Fund during the current fiscal year.
Actual total operating expenses may be higher or lower than those indicated. An
example based on the summary is shown below.
SHAREHOLDER TRANSACTION EXPENSES
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Highland
Highland Aggressive
Growth Fund Growth Fund
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Maximum Sales Load
Imposed on Purchases None None
Maximum Sales Load
Imposed on Reinvested
Dividends None None
Deferred Sales Load
Imposed on Redemptions None None
Redemption Fees* None None
Exchange Fees None None
* There is a $10 service fee for each wire redemption.
ANNUAL OPERATING EXPENSES
(as a percentage of average net assets)
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Management Fees (1) 1.15% 1.35%
12b-1 Fees (2) None None
Other Expenses (net of
reimbursement) (1) 0.80% 0.60%
Total Operating Expenses
(net of reimbursement) (1) 1.95% 1.95%
(1) The Funds' investment adviser has voluntarily agreed to limit the total
operating expenses of each Fund (excluding interest, taxes, brokerage and
extraordinary expenses) to an annual rate of 1.95% of each Fund's average
net assets until January 1, 1998. After such date, the expense limitation
may be terminated or revised at any time. The Funds estimate that absent
the limitation, Other Expenses of the Growth and Aggressive Growth Funds
would be approximately .85%, and .65%, respectively, and Total Annual
Operating Expenses would be approximately 2.00%, and 2.00%, respectively.
(2) The Funds' Distribution Plan permits the imposition of a 12b-1 fee not to
exceed 0.25% of each Fund's net assets. There is no current intention to
impose this fee with respect to either Fund, and shareholders of a Fund will
be given at least 60 days written notice before any such fee is imposed by
that Fund.
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EXAMPLE
Based on the foregoing table, you would pay the following expenses on a $1,000
investment, assuming (i) a 5% annual return and (ii) redemption at the end of
each time period:
Aggressive
Growth Fund Growth Fund
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One Year $20 $20
Three Years $61 $61
THE EXAMPLE SHOWN ABOVE SHOULD NOT BE CONSIDERED A REPRESENTATION OF PAST OR
FUTURE EXPENSES OR RATES OF RETURN. THE FUNDS ARE NEWLY ORGANIZED, AND ACTUAL
OPERATING EXPENSES AND INVESTMENT RETURNS MAY BE MORE OR LESS THAN THOSE SHOWN.
Information about the actual performance of the Funds will be contained in the
Funds' Annual Report to shareholders, which may be obtained without charge when
available.
THE HIGHLAND FAMILY OF
FUNDS
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The Highland Family of Funds (the "Company") is a no-load, open-end management
investment company, commonly known as a mutual fund, which is registered under
the Investment Company Act of 1940 (the "1940 Act"). The Company presently
consists of two diversified investment portfolios: Highland Growth Fund and
Highland Aggressive Growth Fund (each investment portfolio is individually
referred to as a "Fund" and collectively as the "Funds"). The Funds offer
investors equity-oriented investment opportunities.
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Each Fund continuously sells its shares to the public. Proceeds from such
sales are invested by each Fund in securities of other companies. The resources
of many investors are thus combined and each individual investor has an interest
in every one of the securities owned, thereby providing diversification in a
variety of industries. Highland Investment Group L.P. (the "Adviser") serves as
the Funds' investment adviser, selecting and managing the Funds' investments. As
portfolios of an open-end investment company, the Funds will redeem their
outstanding shares on demand of the owner at the next determined net asset
value, subject to certain limitations. Registration of the Funds under the 1940
Act does not involve supervision of the Funds' management or policies by the
Securities and Exchange Commission.
INVESTMENT OBJECTIVES,
POLICIES AND RISK
CONSIDERATIONS
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GENERAL
The investment objective of Highland Growth Fund is long-term capital
appreciation. The investment objective of Highland Aggressive Growth Fund is
capital appreciation. Each Fund pursues its investment objective by investing
primarily in equity securities subject to certain separate investment policies
described below. Equity securities are common stocks, preferred stocks, warrants
to purchase common stocks or preferred stocks, and securities convertible into
common or preferred stocks. When selecting securities, the Adviser will consider
certain criteria including, but not limited to, (1) the prospects for a
company's product, (2) the potential for the company's industry, (3) management
ability, (4) the relationship of the price of the security to its estimated
value, and (5) relevant market, economic and political considerations. The Funds
may invest in securities of issuers still in the development stage, older
issuers that appear to be entering a new era of growth due to management
changes, development of new technology or other events, or issuers with high
growth rates.
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Because shares of each Fund represent an investment in securities with
fluctuating market prices, you should understand that the net asset value per
share of each Fund will vary as the aggregate value of a Fund's portfolio
securities increases or decreases. An investment in the Funds should be
considered a long-term investment. The Funds are not designed to meet investors'
short-term financial needs, nor is any single Fund or a combination of the Funds
intended to provide a complete or balanced investment program.
The investment objectives, policies and practices of each Fund, unless
otherwise specifically stated, are not fundamental and may be changed by the
Funds' Board of Trustees without shareholder approval. See "Investment
Limitations." Because of the risks inherent in all investments, there can be no
assurance that the objectives of the Funds will be met. The descriptions that
follow are designed to help you choose the Fund that best fits your investment
goals.
HIGHLAND GROWTH FUND. The investment objective of the Highland Growth Fund is
long-term capital appreciation. The Fund seeks to achieve this objective by
investing in companies that the Adviser believes have the potential for
above-average long-term growth in market value. The Adviser will focus generally
on investments in companies that have innovative new products and services,
strong management teams and strong financial condition. The Adviser will also
focus on companies which have a unique capability, whether it be new product
development, research and development expertise or marketing advantage, which
the Adviser believes should provide the potential for the company to sustain its
growth rate over several years. In selecting investments for the Highland Growth
Fund, the Adviser may select companies of all sizes. See "Other Investment
Policies and Risks."
HIGHLAND AGGRESSIVE GROWTH FUND. The investment objective of the Highland
Aggressive Growth Fund is capital appreciation. The Fund seeks to achieve this
objective by investing in companies that the Adviser believes to have the
potential for above-average growth in market value. The Adviser will focus
generally on investments in companies that have strong management teams and that
the Adviser perceives to have characteristics that could allow for rapid growth
over the next few years. These companies may still be in the developmental stage
and may have limited product lines. Although the Fund may invest in companies of
all sizes, the Fund, under normal market conditions, emphasizes equity
securities of companies that, at the time of the Fund's purchase, have market
capitalizations of less than $1 billion. See "Other Investment Policies and
Risks."
OTHER INVESTMENT POLICIES AND RISKS
In addition to the investment policies described above (and subject to certain
restrictions described below), each of the Funds may invest in the following
securities and may employ some or all of the following investment techniques,
some of which may present special risks as described below. A more complete
discussion of certain of these securities and investment techniques and the
associated risks is contained in the SAI.
SMALLER CAPITALIZATION COMPANIES. Each Fund may invest a substantial portion
of its assets in companies with modest capitalization, as well as start-up
companies. While the Adviser believes that small-and medium-sized companies, as
well as start-up companies, often can provide greater growth potential than
larger, more mature companies, investing in the securities of such companies
also involves greater risk, potential price volatility and cost. These companies
often involve higher risks because they lack the management experience,
financial resources, product diversification, markets, distribution channels and
competitive strengths of larger companies. In addition, in many instances, the
frequency and volume of trading of their securities is substantially less than
is typical of larger companies. Therefore, the securities of smaller companies
as well as start-up companies may be subject to wider price fluctuations. The
spreads between the bid and asked prices of the securities of these companies in
the U.S. over-the-counter market typically are larger than the spreads for more
actively traded securities. As a result, a Fund could incur a loss if it
determined to sell such a security shortly after its acquisition. When making
large sales, a Fund may have to sell portfolio holdings at discounts from quoted
prices or may have to make a series of small sales over an extended period
oftime due to the trading volume of smaller company securities.
Investors should be aware that, based on the foregoing factors, an investment
in the Funds may be subject to greater price fluctuations than an investment in
a fund that invests primarily in larger, more established companies. The
Adviser's research efforts may also play a greater role in selecting securities
for the Funds than in a fund that invests in larger, more established companies.
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WARRANTS AND RIGHTS. Each Fund may invest up to 5% of its net assets in
warrants or rights, valued at the lower of cost or market, which entitle the
holder to buy equity securities during a specific period of time. A Fund will
make such investments only if the underlying equity securities are deemed
appropriate by the Adviser for inclusion in a Fund's portfolio. Warrants and
rights acquired by a Fund in units or attached to securities are not subject to
these restrictions.
CASH AND TEMPORARY DEFENSIVE POSITIONS. In times when the Adviser believes
that adverse economic or market conditions justify such actions, each Fund may
invest temporarily up to 100% of its assets in cash and high quality short-term
and money market instruments. The Funds may also invest in such instruments
pending investment, to meet anticipated redemption requests, and/or to retain
the flexibility to respond promptly to changes in market and economic
conditions. It is impossible to predict when or for how long the Adviser may
employ these strategies.
Each of the Funds may invest in commercial paper and other cash equivalents
rated A-1 or A-2 by S&P or Prime-1 or Prime-2 by Moody's, commercial paper
master notes (which are demand instruments bearing interest at rates which are
fixed to known lending rates and automatically adjusted when such lending rates
change) of issuers whose commercial paper is rated A-1 or A-2 by S&P or Prime-1
or Prime-2 by Moody's, and debt securities which are deemed by the Adviser to be
of comparable quality. Each of the Funds may also invest in United States
Treasury Bills and Notes, instruments issued by U.S. government agencies or
instrumentalities, certificates of deposit of domestic branches of U.S. and
foreign banks and corporate bonds with remaining maturities of 13 months or
less. For debt obligations other than commercial paper, these securities are
limited to those rated at least Aa by Moody's or AA by S&P, or deemed by the
Adviser to be of comparable quality.
Each Fund's investment in money market instruments may also include securities
issued by other investment companies that invest in high quality, short-term
debt securities (i.e., money market instruments). In addition to the advisory
fees and other expenses a Fund bears directly in connection with its own
operations, as a shareholder of another investment company, a Fund would bear
its pro rata portion of the other investment company's advisory fees and other
expenses, and such fees and other expenses will be borne indirectly by the
Fund's shareholders.
REPURCHASE AGREEMENTS. Each Fund may enter into repurchase agreements. In a
repurchase agreement, a Fund buys an interest-bearing security at one price and
simultaneously agrees to sell it back at a mutually agreed upon time and price.
The repurchase price reflects an agreed-upon interest rate during the time the
Fund's money is invested in the security. Since the security purchased
constitutes security for the repurchase obligation, a repurchase agreement can
be considered a loan collateralized by the security purchased. The Fund's risk
is the ability of the seller to pay the agreed-upon price on the delivery date.
If the seller defaults, the Fund may incur costs in disposing of the collateral,
which would reduce the amount realized thereon. If the seller seeks relief under
the bankruptcy laws, the disposition of the collateral may be delayed or
limited. To the extent the value of the security decreases, the Fund could
experience a loss. Repurchase agreements will be acquired in accordance with
procedures established by the Funds' Trustees which are designed to evaluate the
creditworthiness of the other parties to the repurchase agreements.
PRIVATE PLACEMENTS AND ILLIQUID INVESTMENTS. Each Fund may invest up to 15% of
its net assets in securities for which there is no readily available market.
These illiquid securities may include privately placed restricted securities for
which no institutional market exists. The absence of a trading market can make
it difficult to ascertain a market value for illiquid investments. Disposing of
illiquid investments may involve time consuming negotiation and legal expenses,
and it may be difficult or impossible for a Fund to sell them promptly at an
acceptable price.
RULE 144A SECURITIES. Pursuant to guidelines adopted by the Trustees, each
Fund may purchase restricted securities that are not registered for sale to the
general public if it is determined that there is a dealer or institutional
market in the securities. In that case, the securities will not be treated as
illiquid for purposes of the Funds' investment limitations. The Trustees will
review these determinations. These securities are known as "Rule 144A
securities," because they are traded under SEC Rule 144A among qualified
institutional buyers. Institutional trading in Rule 144A securities is
relatively new, and the liquidity of these investments could be impaired if
trading in Rule
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144A securities does not develop or if qualified institutional buyers become,
for a time, uninterested in purchasing Rule 144A securities.
OTHER PERMITTED INVESTMENTS. For more information regarding the Funds'
permitted investments and investment practices, see Appendix A. The Funds will
not necessarily invest or engage in each of the investments and investment
practices in Appendix A, but reserve the right to do so.
OTHER INVESTMENT COMPANIES. Each Fund may invest substantially all of its
assets in a mutual fund having the same investment objective and policies as the
Fund. This structure is known as a master/feeder investment structure.
Shareholders will be given at least 30 days' notice before a Fund converts to
this structure. Each Fund may also invest in shares of other investment
companies to the extent permitted by the 1940 Act. To the extent a Fund invests
in shares of an investment company, it will bear its pro rata share of the other
investment company's expenses, such as investment advisory and distribution
fees, and operating expenses.
PORTFOLIO TURNOVER. The Adviser will generally purchase and sell securities
without regard to the length of time the security has been held and,
accordingly, it can be expected that the rate of portfolio turnover for each
Fund may be substantial. The Adviser intends to purchase a given security
whenever it believes it will contribute to the stated objective of a Fund, even
if the same security has only recently been sold. In selling a given security,
the Adviser keeps in mind that profits from sales of securities held less than
three months must be limited in order to meet the requirements of Subchapter M
of the Internal Revenue Code. The amount of brokerage commissions and
realization of taxable capital gains will tend to increase as the level of
portfolio activity increases. For the fiscal year ending December 31, 1997, the
Growth Fund's portfolio turnover rate is not expected to exceed 200% and the
Aggressive Growth Fund's portfolio turnover rate is not expected to exceed 400%.
BROKERAGE TRANSACTIONS. In connection with the selection of brokers or dealers
for securities transactions for the Funds and the placing of such orders,
brokers or dealers may be selected who also provide brokerage and research
services to the Funds or the other accounts over which the Adviser exercises
investment discretion. The Adviser is authorized to pay a broker or dealer who
provides such brokerage and research services a commission for executing a
portfolio transaction for a Fund which is in excess of the amount of commission
another broker or dealer would have charged for effecting that transaction if
the Adviser determines in good faith that such amount of commission is
reasonable in relation to the value of the brokerage and research services
provided by such broker or dealer.
INVESTMENT LIMITATIONS
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Each Fund has adopted certain fundamental investment restrictions that may be
changed only with the approval by a majority of the Fund's outstanding shares
(as defined in the 1940 Act). The following description summarizes several of
the Funds' fundamental restrictions which have been adopted to maintain
portfolio diversification and attempt to reduce risk.
No Fund may:
1. purchase the securities of any issuer if the purchase would cause more than
5% of the value of the Fund's total assets to be invested in securities of
any one issuer (except securities of the U.S. government or any agency or
instrumentality thereof), or purchase more than 10% of the outstanding
voting securities of any one issuer, except that up to 25% of the Fund's
total assets may be invested without regard to these limitations; provided,
however, that a Fund may invest all or substantially all of its investable
assets in one or more investment companies, to the extent not prohibited by
the 1940 Act, the rules and regulations thereunder, and exemptive orders
granted under such Act;
2. invest 25% or more of its total assets at the time of purchase in securities
of issuers whose principal business activities are in the same industry; and
3. borrow money, except that a Fund may borrow money from a bank and may enter
into reverse repurchase agreements for temporary or emergency purposes (not
for leveraging) in an amount not exceeding 33 1/3% of
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the value of its total assets (including the amount borrowed) at the time
of borrowing. In addition, no Fund may purchase any securities at any time
at which borrowings exceed 5% of the total assets of the Fund, taken at
market value.
A list of the Funds' investment policies and restrictions is set forth in the
SAI. In order to provide a degree of flexibility, the Funds' investment
objectives, as well as other policies which are not deemed fundamental, may be
modified by the Funds' Board of Trustees without shareholder approval. Any
change in a Fund's investment objective may result in the Fund having investment
objectives different from the objectives which the shareholder considered
appropriate at the time of investment in the Fund. However, neither Fund would
change its investment objective without written notice to shareholders sent at
least 30 days in advance of any such change.
MANAGEMENT OF THE FUNDS
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The Funds are supervised by their Board of Trustees. A majority of the Trustees
are not affiliated with the Adviser. More information on the Trustees and
officers of the Funds appears under "Additional Company Information" in the SAI.
INVESTMENT ADVISER
The Adviser was organized on May 19, 1995 as a Delaware limited partnership. The
Adviser's principal business address is 1248 Post Road, Fairfield, CT 06430.
Catherine C. Lawson, the Chief Executive Officer and Chief Investment Officer of
the Adviser, has been the portfolio manager for each of the Funds since their
inception. Ms. Lawson, a Chartered Financial Analyst, has more than 25 years of
experience as a securities analyst and portfolio manager. She served as the
portfolio manager of the Dreyfus Convertible Securities Fund from 1990 to 1993.
From 1984 to 1989, she was a Vice President of Nationar, Inc. (formerly Savings
Bank Trust Company), where she was the portfolio manager of the MSB Fund and the
Institutional Family of Funds. The Adviser has no prior experience managing
mutual funds.
The Company, on behalf of each of the Funds, has entered into an investment
advisory agreement with the Adviser (the "Investment Advisory Agreement").
Pursuant to such Investment Advisory Agreement, the Adviser supervises and
manages the investment portfolios of the Funds, and subject to such policies as
the Board of Trustees of the Company may determine, directs the purchase or sale
of investment securities in the day-to-day management of the Funds' investment
portfolios. Under the Investment Advisory Agreement, the Adviser, at its own
expense and without reimbursement from the Funds, furnishes office space and all
necessary office facilities, equipment and executive personnel for making the
investment decisions necessary for managing the Funds. For the foregoing, the
Adviser receives a fee, which is accrued daily and paid monthly, of 1.15% of the
average daily net assets of the Highland Growth Fund and 1.35% of the average
daily net assets of the Highland Aggressive Growth Fund, in each case on an
annualized basis for the Funds' then-current fiscal year. These advisory fees
are higher than those paid by most mutual funds.
BancBoston Ventures, Inc., the sole limited partner of the Adviser, may
transfer its partnership interest to Value Asset Management, a registered
investment adviser. In order to ensure that the Adviser will continue to provide
investment management services to the Funds even if such transfer occurs, the
Funds' Board of Trustees and initial shareholder have approved an Investment
Advisory Agreement with the Adviser which is identical to the existing
Investment Advisory Agreement (except for the effective date and termination
date) and which will become effective upon the transfer of the interest in the
Adviser described above.
ADMINISTRATION
Pursuant to an Administration Agreement, Forum Administrative Services, LLC (the
"Administrator") acts as administrator for the Funds. The Administrator, at its
own expense and without reimbursement from the Funds, furnishes office
facilities, equipment, supplies and clerical and executive personnel for
performing the services
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required to be performed by it under the Administration Agreement. For its
administrative services (which include clerical, compliance, regulatory and
other services), the Administrator receives from each Fund a fee, computed daily
and payable monthly, at an annual rate of 10 basis points (0.10%) on the first
$100 million of each Fund's average net assets and 5 basis points (0.05%) on the
balance of each Fund's average net assets, subject to a minimum annual fee of
$40,000.
Forum Financial Corp., an affiliate of the Administrator, acts as the
transfer agent and dividend disbursing agent for the Funds. Forum Financial
Corp. also provides fund accounting services and calculates each Fund's daily
net asset value per share. The principal business address of Forum Financial
Corp. is Two Portland Square, Portland, Maine 04101.
The First National Bank of Boston is the custodian of the Funds' securities.
Securities may be held by a sub-custodian bank approved by the Trustees.
Coopers & Lybrand L.L.P. serves as independent accountants for the Funds.
Bingham, Dana & Gould LLP, Boston, Massachusetts is counsel for each Fund.
DISTRIBUTION ARRANGEMENTS
Forum Financial Services, Inc. (the "Distributor"), Two Portland Square,
Portland, Maine 04101, (207) 879-1900, acts as distributor for the Funds
pursuant to a Distribution Agreement. Shares also may be sold by authorized
dealers who have entered into dealer agreements with the Distributor. The Funds
have adopted a Distribution Plan in accordance with Rule 12b-1 under the 1940
Act. The Distribution Plan authorizes payments by the Funds in connection with
the distribution of their shares at an annual rate of up to 0.25% of each Fund's
average daily net assets. The Trustees do not currently intend to authorize the
payment of any such fee from either Fund, although they have the authority under
the Distribution Plan to do so in the future. Shareholders of a Fund will be
given at least 60 days written notice before any 12b-1 fee is imposed by that
Fund.
Any payments made under the Distribution Plan may be used for the purpose of
financing any activity primarily intended to result in the sales of shares of
the Fund as determined by the Trustees. Such activities include advertising,
compensation to the Distributor, compensation for sales and sales marketing
activities of financial institutions and others, such as dealers or other
distributors, shareholder account servicing, production and dissemination of
prospectuses and sales and marketing materials, and capital or other expenses of
associated equipment, rent, salaries, bonuses, interest and other overhead. To
the extent any activity is one which a Fund may finance without a distribution
plan, the Fund may also make payments to finance such activity outside of the
Distribution Plan and not subject to its limitations.
The Funds and the Distributor provide to the Trustees quarterly a written
report of amounts expended under the Distribution Plan and the purposes for
which the expenditures were made.
EXPENSES
The Funds pay all of their own expenses, including without limitation, the cost
of securities transactions, government fees, taxes, accounting and legal fees,
expenses of communicating with shareholders, interest expense, insurance
premiums and fees paid to trustees who are not interested persons of the
Adviser. The organizational expenses of the Funds were advanced by the Adviser
and may be reimbursed in full by the Funds as soon as they have sufficient
assets.
PRICING OF FUND SHARES
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The price you pay when buying a Fund's shares, and the price you receive when
selling (redeeming) a Fund's shares, is the net asset value of the shares next
determined after receipt by the Funds of a purchase or redemption request in
proper form. No front end sales charge or commission of any kind is added by the
Fund upon a purchase and no
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charge is deducted upon a redemption. The Funds currently charge a $10 fee for
each redemption made by wire. See "How to Redeem Shares."
The per share net asset value of a Fund is determined by dividing the total
value of its net assets (meaning its assets less its liabilities) by the total
number of its shares outstanding at that time. The net asset value is determined
as of the close of regular trading (normally 4:00 p.m. Eastern time) on the New
York Stock Exchange on each day the New York Stock Exchange is open for trading.
This determination is applicable to all transactions in shares of a Fund prior
to that time and after the previous time as of which the net asset value was
determined. Accordingly, investments accepted or redemption requests received in
proper form prior to the close of regular trading on a day the New York Stock
Exchange is open for trading will be valued as of the close of trading, and
investments accepted or redemption requests received in proper form after that
time will be valued as of the close of the next trading day.
Investments are considered received only when your check, wired funds or
electronically transferred funds are received by the Funds. Investments by
telephone pursuant to your prior authorization to the Funds to draw on your bank
account are considered received when the proceeds from the bank account are
received by the Funds, which generally takes two to three banking days.
Securities which are traded on a recognized stock exchange (including the
National Association of Securities Dealers' Automated Quotation System, NASDAQ)
are valued at the last quoted sale price on the securities exchange on which
such securities are primarily traded. Securities for which there were no
transactions are valued at the mean of the last bid and asked prices. Securities
traded on only over-the-counter markets are valued at the mean of the current
bid and asked prices. Debt securities (other than short-term instruments) are
valued at prices furnished by a pricing service, subject to review and possible
revision by the Adviser. Any modification of the price of a debt security
furnished by a pricing service is made pursuant to procedures adopted by the
Funds' Trustees. Debt instruments maturing within 60 days may be valued by the
amortized cost method. Any securities for which market quotations are not
readily available are valued at their fair value as determined in good faith by
the Adviser pursuant to guidelines established by the Funds' Trustees.
HOW TO PURCHASE SHARES
- -------------------------------------------
All of the Funds are no-load, so you may purchase, redeem or exchange shares
directly at net asset value without paying a sales charge. Because the Funds'
net asset value changes daily, your purchase price will be the next net
assetvalue determined after the Funds receive your purchase order. See "Pricing
of Fund Shares." The following minimum investment amounts apply:
Initial Additional
Minimum Minimum
Type of Account Investment Investment
- ------------ -------- --------
Regular $1000 $50
Automatic Investment Plan 500 50
Individual Retirement Account 500 50
Gift to Minors 100 50
Each Fund reserves the right to reject any order for the purchase of its
shares or to limit or suspend, without prior notice, the offering of its shares.
The required minimum investments may be waived in the case of qualified
retirement plans.
HOW TO OPEN YOUR ACCOUNT BY MAIL. Please complete the Purchase Application.
You can obtain additional copies of the Purchase Application and a copy of the
IRA Purchase Application from the Funds by calling, toll free, 1-888-557-3200.
(Please note that you must use a different form for an IRA.)
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Your completed Purchase Application should be mailed directly to:
The Highland Family of Funds
P.O. Box 446
Portland, Maine 04112
All applications must be accompanied by payment in the form of a check made
payable to the Fund in which you are investing. All purchases must be made in
U.S. dollars and checks must be drawn on U.S. banks. No cash, credit cards or
third party checks will be accepted. When a purchase is made by check and a
redemption is made shortly thereafter, the Funds will delay the mailing of a
redemption check until the purchase check has cleared your bank, which may take
up to 10 calendar days from the purchase date. If you contemplate needing access
to your investment shortly after purchase, you should purchase the shares by
wire as discussed below.
HOW TO OPEN YOUR ACCOUNT BY WIRE. You may make purchases by direct wire
transfers. To ensure proper credit to your account, please call the Funds, toll
free, at 1-888-557-3200 for instructions prior to wiring funds. Funds should be
wired through the Federal Reserve System as follows:
The First National Bank of Boston
A.B.A. Number 011000390
For the account of Forum Financial Corp.
Account Number 541-54171
For further credit to:
The Highland Family of Funds
(investor account number)
(name or account registration)
(identify which Fund to purchase)
You must promptly complete a Purchase Application and mail it or send it via
overnight delivery to the Funds at the applicable address above. Shares will not
be purchased until the Funds receive a properly completed and executed Purchase
Application.
If you have any questions, call the Funds, toll free, at 1-888-557-3200.
HOW TO ADD TO YOUR ACCOUNT. You may make additional investments by mail or by
wire in the minimums listed above. When adding to an account by mail, you should
send the Funds your check, together with the additional investment form from a
recent statement. If this form is unavailable, you should send a signed note
giving the full name of the account and the account number. Purchases made by
check will not be available for exchange or redemption for up to 10 calendar
days. This delay allows the Funds to verify that proceeds used to purchase Fund
shares will not be returned due to insufficient funds and is intended to protect
the remaining investors from loss. For additional investments made by wire
transfer, you should use the wiring instructions listed above. Be sure to
include your account number. Wired funds are considered received in good order
on the day they are deposited in the Funds' account if they reach the Funds'
bank account by the Funds' cut-off time for purchases and all required
information is provided in the wire instructions. The wire instructions will
determine the terms of the purchase transaction.
AUTOMATIC INVESTMENT PLAN. You may make purchases of shares of each Fund
automatically on a regular basis ($50 minimum per transaction). You must meet
the Automatic Investment Plan's minimum initial investment of $500 before the
Plan may be established. Under the Plan, your designated bank or other financial
institution debits a preauthorized amount on your account each month and applies
the amount to the purchase of Fund shares. The Plan can be implemented with any
financial institution that is a member of the Automated Clearing House. No
service fee is currently charged by the Funds for participation in the Plan. You
will receive a statement on a quarterly basis showing the purchases made under
the Plan. A $15 fee will be imposed by the Funds if sufficient funds are not
available in your account or your account has been closed at the time of the
automatic transaction. You may adopt the Plan at the time an account is opened
by completing the appropriate section of the Purchase Application. You may
obtain an application to establish the Plan after an account is opened by
calling the Funds, toll free, at
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1-888-557-3200. In the event you discontinue participation in the Plan, the
Funds reserve the right to redeem your Fund account involuntarily, upon sixty
days' written notice, if the account's net asset value is $1,000 or less. Call,
toll free, 1-888-557-3200 for more information.
PURCHASING SHARES THROUGH OTHER INSTITUTIONS. If you purchase shares through a
program of services offered or administered by a broker-dealer, financial
institution or other service provider, you should read the program materials,
including information relating to fees, in addition to the Funds' Prospectus.
Certain services of a Fund may not be available or may be modified in connection
with the program of services provided. The Funds may only accept requests to
purchase additional shares into a broker-dealer street name account from the
broker-dealer.
Certain broker-dealers, financial institutions or other service providers that
have entered into an agreement with the Company may enter purchase orders on
behalf of their customers by phone, with payment to follow within several days
as specified in the agreement. The Funds may effect such purchase orders at the
net asset value next determined after receipt of the telephone purchase order.
It is the responsibility of the broker-dealer, financial institution or other
service provider to place the order with the Funds on a timely basis. If payment
is not received within the time specified in the agreement, the broker-dealer,
financial institution or other service provider could be held liable for any
resulting fees or losses. The Funds reserve the right to refuse a telephone
transaction if they believe it advisable to do so.
RETIREMENT PLANS. The Funds have a program under which you may establish an
Individual Retirement Account ("IRA") with the Funds and purchase shares through
such account. The minimum initial investment in each Fund for an IRA is $500.
You may obtain additional information regarding establishing such an account by
calling the Funds, toll free, at 1-888-557-3200.
The Funds also may be used as investment vehicles for established defined
contribution plans, including simplified employee (including SAR-SEPs), 401(k),
profit-sharing and money purchase pension plans. For details, please call, toll
free, 1-888-557-3200.
MISCELLANEOUS. The Funds will charge a $15 service fee against your account
for any check that is returned unpaid. You will also be responsible for any
losses suffered by the Funds as a result.
HOW TO EXCHANGE SHARES
- -------------------------------------------
Shares of any Fund may be exchanged for shares of another Fund or for shares of
the Daily Assets Treasury Fund, a money market fund managed by Forum Advisors,
Inc. and a series of Forum Funds, a registered investment company, at any time.
This exchange offer is available only in states where shares of such other Fund
or of the Daily Assets Treasury Fund, as applicable, may be legally sold. You
may receive a copy of the Daily Assets Treasury Fund prospectus by writing to
the Funds at Two Portland Square, Portland, Maine 04101, or calling, toll free,
1-888-557-3200. Each exchange is subject to the minimum initial investment
required for each Fund (see "How to Purchase Shares" page 10) or for the Daily
Assets Treasury Fund ($2,500), as applicable. You may make further exchanges for
$50 or more. You may open a new account or purchase additional shares by making
an exchange from an existing Highland Fund account. New accounts will have the
same registration as the existing accounts. Exchanges may be made either in
writing or by telephone. To exchange by telephone, you must follow the
instructions below under "How to Redeem by Telephone."
For exchanges between Highland Funds and between a Highland Fund and the Daily
Assets Treasury Fund, the value to be exchanged and the price of the shares
being purchased will be the net asset value next determined by the applicable
funds after receipt and acceptance of proper instructions for the exchange. An
exchange from one Fund to another and from a Fund to the Daily Assets Treasury
Fund is treated the same as an ordinary sale and purchase for federal income tax
purposes.
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If you buy shares by check, you may not exchange those shares for up to 10
calendar days to ensure your check has cleared. If you intend to exchange shares
soon after their purchase, you should purchase the shares by wire or contact the
Funds, toll free, at 1-888-557-3200 for further information.
Because of the risks associated with common stock investments, the Funds are
intended to be long-term investment vehicles and not designed to provide
investors with a means of speculating on short-term stock market movements. In
addition, because excessive trading can hurt the Funds' performance and
shareholders, the Funds reserve the right to temporarily or permanently
terminate, with or without advance notice, the exchange privilege of any
investor who makes excessive use of the exchange privilege (e.g., more than five
exchanges per calendar year). Your exchanges may be restricted or refused if a
Fund or the Daily Assets Treasury Fund receives or anticipates simultaneous
orders affecting significant portions of such fund's assets. In particular, a
pattern of exchanges with a "market timer" strategy may be disruptive to the
Funds or to the Daily Assets Treasury Fund.
Additional documentation may be required for exchange requests if shares are
registered in the name of a corporation, partnership or fiduciary. Contact the
Funds for additional information concerning the exchange privilege.
HOW TO REDEEM SHARES
- -------------------------------------------
You may redeem shares of the Funds at any time. The price at which the shares
will be redeemed is the net asset value per share next determined after proper
redemption instructions are received by the Funds. See "Pricing of Fund Shares."
There are no charges for the redemption of shares except that a fee of $10 is
charged for each wire redemption. Depending upon the redemption price you
receive, you may realize a capital gain or loss for federal income tax purposes.
HOW TO REDEEM BY MAIL. To redeem shares by mail, simply send an unconditional
written request to the Funds specifying the number of shares or dollar amount to
be redeemed, the name of the Fund, the name(s) on the account registration and
the account number. A request for redemption must be signed exactly as the
shares are registered. If the amount requested is greater than $25,000, the
proceeds are to be sent to a person other than the shareholder of record or to a
location other than the address of record, each signature must be guaranteed by
a commercial bank or trust company in the United States, a member firm of the
National Association of Securities Dealers, Inc. or other eligible guarantor
institution. A notary public is not an acceptable guarantor. Guarantees must be
signed by an authorized signatory of the bank, trust company, or member firm and
"Signature Guaranteed" must appear with the signature. Additional documentation
may be required for the redemption of shares held in corporate, partnership or
fiduciary accounts. In case of any questions, contact the Funds in advance.
The Funds will mail payment for redemption within seven days after it receives
proper instructions for redemption. However, the Funds will delay payment for up
to 10 calendar days on redemptions of recent purchases made by check. This
allows the Funds to verify that the check used to purchase Fund shares will not
be returned due to insufficient funds and is intended to protect the remaining
investors from loss.
HOW TO REDEEM BY TELEPHONE. To redeem shares by telephone, you must select
this option on the Purchase Application. Once this feature has been requested,
shares may be redeemed by calling the Funds, toll free, at 1-888-557-3200.
Proceeds redeemed by telephone will be mailed to your address, or wired or
credited to your preauthorized bank account as shown on the records of the
Funds. Telephone redemptions must be in the amounts of $50 or more.
In order to arrange for telephone redemptions after your account has been
opened or to change the bank account or address designated to receive redemption
proceeds, you must send a written request to the Funds. The request must be
signed by each registered holder of the account with the signatures guaranteed
by a commercial bank or trust company in the United States, a member firm of the
National Association of Securities Dealers, Inc. or other eligible guarantor
institution. A notary public is not an acceptable guarantor. Further
documentation may be requested from corporations, executors, administrators,
trustees and guardians.
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<PAGE>
Payment of the redemption proceeds for Fund shares redeemed by telephone where
you request wire payment will normally be made in federal funds on the next
business day. The Funds reserve the right to delay payment for a period of up to
seven days after receipt of the redemption request. There is currently a $10 fee
for each wire redemption. It will be deducted from your account.
The Funds reserve the right to refuse a telephone redemption or exchange
transaction if they believe it is advisable to do so. Procedures for redeeming
or exchanging shares of the Funds by telephone may be modified or terminated by
the Funds at any time. In an effort to prevent unauthorized or fraudulent
redemption or exchange requests by telephone, the Funds have implemented
procedures designed to reasonably assure that telephone instructions are
genuine. These procedures include: requesting verification of certain personal
information; recording telephone transactions; confirming transactions in
writing; and restricting transmittal of redemption proceeds to preauthorized
designations. Other procedures may be implemented from time to time. If
reasonable procedures are not implemented, the Funds may be liable for any loss
due to unauthorized or fraudulent transactions. In all other cases, you are
liable for any loss for unauthorized transactions.
You should be aware that during periods of substantial economic or market
change, telephone or wire redemptions may be difficult to implement. If you are
unable to contact the Funds by telephone, you may also redeem shares by
delivering or mailing the redemption request to: The Highland Family of Funds,
Two Portland Square, Portland, Maine 04101.
The Funds reserve the right to suspend or postpone redemptions during any
period when: trading on the New York Stock Exchange is restricted, as determined
by the Securities and Exchange Commission ("SEC"), or that the Exchange is
closed for other than customary weekend and holiday closing; the SEC has by
order permitted such suspension; or an emergency, as determined by the SEC,
exists, making disposal of portfolio securities or valuation of net assets of a
Fund not reasonably practicable.
Due to the relatively high cost of maintaining small accounts, if your account
balance falls below the minimums on page 10 as a result of a redemption or
exchange or if you discontinue the Automatic Investment Plan before your account
balance reaches the required minimum, you will be given a 60-day notice to
reestablish the minimum balance or activate an Automatic Investment Plan. If
this requirement is not met, your account may be closed and the proceeds sent to
you.
DIVIDENDS AND DISTRIBUTIONS
- -------------------------------------------
The Funds intend to pay dividends from net investment income annually and
distribute substantially all net realized capital gains at least annually. Each
Fund may make additional distributions if necessary to avoid imposition of a 4%
excise tax or other tax on undistributed income and gains. You may elect to
reinvest all income dividends and capital gains distributions in shares of a
Fund or receive cash as designated on the Purchase Application. You may change
your election at any time by sending written notification to the Funds. The
election is effective for distributions with a dividend record date on or after
the date that the Funds receive notice of the election. If you do not specify an
election, all income dividends and capital gains distributions will
automatically be reinvested in full and fractional shares of the Fund. Shares
will be purchased at the net asset value in effect on the business day after the
dividend record date and will be credited to your account on such date.
Reinvested dividends and distributions receive the same tax treatment as those
paid in cash. Dividends and capital gains distributions, if any, will reduce the
net asset value of a Fund by the amount of the dividend or capital gains
distribution.
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SHAREHOLDER REPORTS AND INFORMATION
- -------------------------------------------
The Funds will provide the following statements and reports:
CONFIRMATION STATEMENTS. Except for Automatic Investment Plans, after each
transaction that affects the account balance or account registration, you will
receive a confirmation statement. Participants in the Automatic Investment Plan
will receive quarterly confirmations of all automatic transactions.
ACCOUNT STATEMENTS.All shareholders will receive quarterly account statements.
FINANCIAL REPORTS. Financial reports are provided to shareholders
semi-annually. Annual reports will include audited financial statements. To
reduce Fund expenses, one copy of each report will be mailed to each Taxpayer
Identification Number even though the investor may have more than one account in
a Fund.
If you need additional copies of previous statements, you may order statements
for the current and preceding year at no charge. Statements for earlier years
are available for $5 each. Call, toll free, 1-888-557-3200 to order past
statements. If you need information on your account with the Funds or if you
wish to submit any applications, redemption requests, inquiries or
notifications, you should contact the Administrator at Two Portland Square,
Portland, Maine 04101 or call, toll free, 1-888-557-3200.
TAXES
- -------------------------------------------
Each Fund intends to qualify for treatment as a regulated investment company
under the Code. In each taxable year that a Fund so qualifies, such Fund (but
not its shareholders) will be relieved of federal income tax on that part of its
investment company taxable income and net capital gain that is distributed to
shareholders.
Dividends from a Fund's investment company taxable income (whether paid in
cash or reinvested in additional shares) are taxable to its shareholders as
ordinary income to the extent of the Fund's earnings and profits. Distributions
of a Fund's net capital gain, when designated as such, are taxable to its
shareholders as long-term capital gain, regardless of how long they have held
their Fund shares and whether such distributions are paid in cash or reinvested
in additional Fund shares. Each Fund provides federal tax information to its
shareholders annually, including information about dividends and other
distributions paid during the preceding year.
The Funds will be required to withhold federal income tax at a rate of 31%
("backup withholding") from dividend payments and redemption and exchange
proceeds if you fail to complete the Purchase Application.
The foregoing is only a summary of some of the important federal tax
considerations generally affecting each Fund and its shareholders. See "Taxes"
in the SAI for further discussion. There may be other federal, state or local
tax considerations applicable to you as an investor. You therefore are urged to
consult your tax adviser regarding any tax-related issues.
GENERAL INFORMATION
- -------------------------------------------
ORGANIZATION. The Funds are series of The Highland Family of Funds, which was
organized as a business trust on October 7, 1996. Each Fund is a diversified
mutual fund. Under the 1940 Act, a diversified series or mutual fund must invest
at least 75% of its assets in cash and cash items, U.S. Government securities,
investment company securities and other securities limited as to any one issuer
to not more than 5% of the total assets of the mutual fund and not more than 10%
of the voting securities of the issuer.
Under Massachusetts law, shareholders of a business trust may, under certain
circumstances, be held personally liable as partners for the trust's
obligations. However, the risk of a shareholder incurring financial loss on
account of
15
<PAGE>
shareholder liability is limited to circumstances in which both inadequate
insurance existed and the trust itself was unable to meet its obligations.
VOTING AND OTHER RIGHTS. The Company may issue an unlimited number of shares,
may create new series of shares and may divide shares in each series into
classes. Each share of each Fund gives the shareholder one vote in Trustee
elections and other matters submitted to shareholders for vote. All shares of
each series of the Company have equal voting rights except that, in matters
affecting only a particular Fund or class, only shares of that particular Fund
or class are entitled to vote.
As series of a Massachusetts business trust, the Funds are not required to
hold annual shareholder meetings. Shareholder approval will usually be sought
only for changes in a Fund's fundamental investment restrictions and for the
election of Trustees under certain circumstances. Trustees may be removed by
shareholders under certain circumstances. Each share of each Fund is entitled to
participate equally in dividends and other distributions and the proceeds of any
liquidation of that Fund.
All shares issued and sold by the Funds will be fully paid and nonassessable,
except as provided above.
SHARE CERTIFICATES. The Funds will not issue share certificates. Instead, your
account will be credited with the number of shares purchased, relieving you of
responsibility for safekeeping of certificates and the need to deliver them upon
redemption. The Transfer Agent will maintain a share register for all
shareholders of record.
FUND PERFORMANCE
- -------------------------------------------
From time to time, the Funds may advertise their "average annual total return"
over various periods of time. An average annual total return refers to the rate
of return which, if applied to an initial investment at the beginning of a
stated period and compounded over the period, would result in the redeemable
value of the investment at the end of the stated period assuming reinvestment of
all dividends and distributions and reflecting the effect of all recurring fees.
An investor's investment in a Fund and the Fund's return are not guaranteed and
will fluctuate according to market conditions. When considering "average" total
return figures for periods longer than one year, you should note that a Fund's
annual total return for any one year in the period might have been greater or
less than the average for the entire period. Each Fund also may use "aggregate"
total return figures for various periods, representing the cumulative change in
value of an investment in the Fund for a specific period (again reflecting
changes in the Fund's share price and assuming reinvestment of dividends and
distributions).
Each Fund may quote the Fund's average annual total and/or aggregate total
return for various time periods in advertisements or communications to
shareholders. Each Fund may also compare its performance to that of other mutual
funds and to stock and other relevant indices or to rankings prepared by
independent services or industry publications. For example, a Fund's total
return may be compared to data prepared by Lipper Analytical Services, Inc.,
Morningstar, Inc., Value Line Mutual Fund Survey and CDA Investment
Technologies, Inc. Total return data as reported in such national financial
publications as The Wall Street Journal, The New York Times, Investor's Business
Daily, USA Today, Barron's, Money and Forbes as well as in publications of a
local or regional nature, may be used in comparing Fund performance.
Each Fund's total return may also be compared to such indices as the Dow Jones
Industrial Average, Standard & Poor's 500 Index, NASDAQ Composite OTC Index or
NASDAQ Industrials Index, Consumer Price Index and Russell 2000 Index or other
appropriate indices.
Performance quotations of a Fund represent the Fund's past performance and
should not be considered as representative of future results. The investment
return and principal value of an investment in a Fund will fluctuate so that an
investor's shares, when redeemed, may be worth more or less than their original
cost. The methods used to compute a Fund's total return are described in more
detail in the SAI.
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- --------------------------------------------------------------------------------
APPENDIX A
PERMITTED INVESTMENTS AND INVESTMENT PRACTICES
-------------------------------------------
CONVERTIBLE SECURITIES. Each Fund may invest in securities which may be
converted, either at a stated price or rate within a specified period of time,
into a specified number of shares of common stock. By investing in convertible
securities, a Fund seeks the opportunity, through the conversion feature, to
participate in a portion of the capital appreciation of the common stock into
which the securities are convertible, while earning higher current income than
is available from the common stock. Typically, the convertible debt securities
in which the Funds will invest will be of a quality less than investment grade
(so-called "junk bonds"). The Funds will not acquire convertible debt securities
rated below B by Moody's Investors Service, Inc. ("Moody's") or Standard &
Poor's Ratings Group ("S&P"), or securities deemed by the Adviser to be of
comparable quality. Subsequent to its purchase by a Fund, a rated security may
cease to be rated or its rating may be reduced below the minimum rating required
for purchase by a Fund. The Adviser will consider such an event in determining
whether the Fund should continue to hold the security. The Adviser expects,
however, to sell promptly any convertible debt securities that fall below a B
rating quality as a result of these events. See the SAI for a description of
applicable debt ratings.
Investments in fixed income securities offering higher current income, while
generally providing greater income and opportunity for gain than investments in
higher rated securities, usually entail greater risk of principal and income
(including the possibility of default or bankruptcy of the issuers of such
securities), and involve greater volatility of price (especially during periods
of economic uncertainty or change) than investments in higher rated securities
and because yields may vary over time, no specific level of income can ever be
assured. In particular, securities rated lower than Baa by Moody's or BBB by S&P
or comparable securities (commonly known as "junk bonds") are considered
speculative. These lower rated high yielding fixed income securities generally
tend to reflect economic changes (and the outlook for economic growth),
short-term corporate and industry developments and the market's perception of
their credit quality (especially during times of adverse publicity) to a greater
extent than higher rated securities which react primarily to fluctuations in the
general level of interest rates (although these lower rated fixed income
securities are also affected by changes in interest rates). In the past,
economic downturns or an increase in interest rates have under certain
circumstances caused a higher incidence of default by the issuers of these
securities and may do so in the future, especially in the case of highly
leveraged issuers. During certain periods, the higher yields on the Funds' lower
rated fixed income securities are paid primarily because of the increased risk
of loss of principal and income, arising from such factors as the heightened
possibility of default or bankruptcy of the issuers of such securities. Due to
the fixed income payments of these securities, the Funds may continue to earn
the same level of interest income while their net asset value declines due to
portfolio losses. The prices for these securities may be affected by legislative
and regulatory developments. Changes in the value of securities subsequent to
their acquisition will not affect cash income to a Fund but will be reflected in
the net asset value of shares of the Fund. The market for these lower rated
fixed income securities may be less liquid than the market for investment grade
fixed income securities. Furthermore, the liquidity of these lower rated
securities may be affected by the market's perception of their credit quality.
Therefore, the Adviser's judgment may at times play a greater role in valuing
these securities than in the case of investment grade fixed income securities,
and it also may be more difficult during times of certain adverse market
conditions to sell these lower rated securities at their fair value to meet
redemption requests or to respond to changes in the market.
A-1
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- ------------------------------------------
FOREIGN SECURITIES. Each Fund may invest without limitation in foreign
securities, including sponsored and unsponsored depository receipts. Investments
in foreign securities involve special risks and costs which are in addition to
those inherent in domestic investments. Political, economic or social
instability of the issuer or the country of issue, the possibility of
expropriation or confiscatory taxation, limitations on the removal of assets or
diplomatic developments, and the possibility of adverse changes in investment or
exchange control regulations are among the inherent risks. Enforcing legal
rights may be difficult, costly and slow in non-U.S. countries, and there may be
special problems enforcing claims against non-U.S. governments. Foreign
companies are not subject to the regulatory requirements of U.S. companies and,
as such, there may be less publicly available information about such companies.
Moreover, foreign companies are not subject to uniform accounting, auditing and
financial reporting standards and requirements comparable to those applicable to
U.S. companies. Non-U.S. markets may be less liquid and more volatile than U.S.
markets, and may offer less protection to investors such as the Funds. Dividends
and interest payable on a Fund's foreign portfolio securities may be subject to
foreign withholding taxes. To the extent such taxes are not offset by credits or
deductions allowed to investors under U.S. federal income tax law, such taxes
may reduce the net return to shareholders. See "Taxes" in the SAI.
Because non-U.S. securities often are denominated in currencies other than the
U.S. dollar, changes in currency exchange rates will affect a Fund's net asset
value, the value of dividends and interest earned on gains and losses realized
on the sale of securities. In addition, some non-U.S. currency values may be
volatile and there is the possibility of governmental controls on currency
exchanges or governmental intervention in currency markets. Because of these and
other factors, securities of foreign companies acquired by the Funds may be
subject to greater fluctuation than securities of similar domestic companies.
The costs attributable to non-U.S. investing, such as the costs of
maintaining custody of securities in non-U.S. countries, frequently are higher
than those attributable to U.S. investing. As a result, the operating expense
ratios of the Funds may be higher than those of investment companies investing
exclusively in U.S. securities.
American Depository Receipts ("ADRs") typically are issued by a U.S. bank or
trust company and evidence ownership of underlying securities issued by a
foreign corporation. Unsponsored ADRs differ from sponsored ADRs in that the
establishment of unsponsored ADRs are not approved by the issuer of the
underlying securities. As a result, available information concerning the issuer
may not be as current or reliable as the information for sponsored ADRs, and the
price of unsponsored ADRs may be more volatile.
Each Fund may invest in issuers located in developing countries, which are
generally defined as countries in the initial stages of their industrialization
cycles with low per capita income. All of the risks of investing in non-U.S.
securities are heightened by investing in developing countries. Shareholders
should be aware that investing in the equity and fixed income markets of
developing countries involves exposure to economic structures 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 with more mature economies; such markets
often have provided higher rates of return, and greater risks, to investors.
These heightened risks include (i) greater risks of expropriation, confiscatory
taxation and nationalization, and less social, political and economic stability;
(ii) the small current size of markets for securities of issuers based in
developing countries and the currently low or non-existent volume of trading,
resulting in a lack of liquidity and in price volatility; (iii) certain national
policies which may restrict a Fund's investment opportunities including
restrictions on investing in issuers or industries deemed sensitive to relevant
national interests; and (iv) the absence of developed legal structures. Such
characteristics can be expected to continue in the future.
A-2
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CURRENCY EXCHANGE CONTRACTS. Each Fund may enter into forward foreign currency
exchange contracts for the purchase or sale of non-U.S. currency for hedging
purposes against adverse rate changes or otherwise to achieve the Fund's
investment objective. A currency exchange contract allows a definite price in
dollars to be fixed for securities of non-U.S. issuers that have been purchased
or sold (but not settled) for the Fund. Entering into such exchange contracts
may result in the loss of all or a portion of the benefits which otherwise could
have been obtained from favorable movements in exchange rates. In addition,
entering into such contracts means incurring certain transaction costs and
bearing the risk of incurring losses if rates do not move in the direction
anticipated.
HEDGING STRATEGIES. The Funds may use various hedging strategies to attempt to
reduce the overall level of risk for an individual security, or group of
securities, or to reduce the investment risk of the Funds. There can be no
assurance that such efforts will succeed. Each Fund may write (i.e., sell)
covered call and secured put options, and buy put or call options, which are
sometimes referred to as derivatives, for hedging purposes. These options may
relate to particular securities or stock indices, and may or may not be listed
on a securities exchange and may or may not be issued by the Options Clearing
Corporation. Each Fund will not purchase put and call options where the
aggregate premiums on its outstanding options exceed 5% of its net assets at the
time of purchase, and will not write options on more than 25% of the value of
its net assets (measured at the time an option is written). Options trading is a
highly specialized activity that entails greater than ordinary investment risks.
Unlisted options are not subject to the protections afforded purchasers of
listed options issued by the Options Clearing Corporation, which performs the
obligations of its members if they default. The primary risks associated with
the use of options are: (1) the imperfect correlation between the change in
market value of the instruments held by a Fund and the price of the option; (2)
possible lack of a liquid secondary market; (3) losses caused by unanticipated
market movements; and (4) the Adviser's ability to predict correctly the
direction of securities prices and economic factors. For further discussion of
risks involved with the use of options, see "Additional Investment Information
- -- Hedging Strategies" in the SAI.
"WHEN-ISSUED" SECURITIES. In order to ensure the availability of suitable
securities, each Fund may purchase securities on a "when-issued" or on a
"forward delivery" basis, which means that the securities would be delivered to
the Fund at a future date beyond customary settlement time. Under normal
circumstances, the Fund takes delivery of the securities. In general, the Fund
does not pay for the securities until received and does not start earning
interest until the contractual settlement date. While awaiting delivery of the
securities, the Fund establishes a segregated account consisting of cash, cash
equivalents or high quality debt securities equal to the amount of the Fund's
commitments to purchase "when-issued" securities. An increase in the percentage
of the Fund's assets committed to the purchase of securities on a "when-issued"
basis may increase the volatility of its net asset value.
SHORT SALES AGAINST THE BOX. If a Fund anticipates that a price of a security
will decline, it may engage in short sales if, at the time of the short sale,
the Fund owns or has the right to acquire an equal amount of the security being
sold short at no additional cost (so-called "short sales against the box").
REVERSE REPURCHASE AGREEMENTS. Each Fund may enter into reverse repurchase
agreements. Reverse repurchase agreements involve the sale of securities held by
the Fund and the agreement by the Fund to repurchase the securities at an
agreed-upon price, date and interest payment. When a Fund enters into reverse
repurchase transactions, securities of a dollar amount equal in value to the
securities subject to the agreement will be maintained in a segregated account
with the Fund's custodian. The segregation of assets could impair the Fund's
ability to meet its current obligations or impede investment management if a
large portion of the Fund's assets are involved.
A-3
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THE HIGHLAND FAMILY OF FUNDS
----------------------------------------
INVESTMENT ADVISER
Highland Investment Group L.P.
ADMINISTRATOR
Forum Administrative Services, LLC
DISTRIBUTOR
Forum Financial Services, Inc.
COUNSEL
Bingham, Dana & Gould LLP
INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Coopers & Lybrand L.L.P.
CUSTODIAN
The First National Bank of Boston
THE HIGHLAND FAMILY OF FUNDS
Two Portland Square
Portland, Maine 04101
1-888-557-3200
PROSPECTUS
APRIL 14, 1997
THE HIGHLAND FAMILY OF FUNDS
-----------------------------------------
HIGHLAND GROWTH FUND
HIGHLAND AGGRESSIVE GROWTH FUND
<PAGE>
THE HIGHLAND FAMILY OF FUNDS
STATEMENT OF ADDITIONAL INFORMATION
APRIL 14, 1997, AS AMENDED OCTOBER 14, 1997
This Statement of Additional Information dated April 14, 1997, as amended
October 14, 1997, is meant to be read in conjunction with the Prospectus dated
April 14, 1997, as amended October 14, 1997, for the Highland Growth Fund and
the Highland Aggressive Growth Fund (collectively referred to as the "Funds")
and is incorporated by reference in its entirety into the Prospectus. Because
this Statement of Additional Information is not itself a prospectus, no
investment in shares of these Funds should be made solely upon the information
contained herein. Copies of the Prospectus for the Funds may be obtained by
calling, toll free, 1-888-557-3200. Capitalized terms used but not defined
herein have the same meanings as in the Prospectus.
TABLE OF CONTENTS
Page
ADDITIONAL INVESTMENT INFORMATION 2
INVESTMENT RESTRICTIONS 12
ADDITIONAL COMPANY INFORMATION 13
Trustees and Officers 13
Investment Adviser 15
Administrator 16
Custodian, Transfer Agent and Dividend Paying Agent 16
Legal Counsel 16
Independent Accountants 17
DISTRIBUTION OF SHARES 17
PORTFOLIO TRANSACTIONS AND BROKERAGE 17
TAXES 18
DESCRIPTION OF SHARES 19
INDIVIDUAL RETIREMENT ACCOUNTS 21
PERFORMANCE INFORMATION 21
PURCHASE, EXCHANGE AND REDEMPTION OF SHARES;
DETERMINATION OF NET ASSET VALUE 23
OTHER INFORMATION 23
SHAREHOLDINGS 23
FINANCIAL STATEMENTS 24
APPENDIX A (Description of Securities Ratings) A-1
APPENDIX B (Unaudited Financial Statements -- Highland Growth Fund) B-1
NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATIONS NOT CONTAINED IN THIS STATEMENT OF ADDITIONAL INFORMATION OR IN
THE PROSPECTUS IN CONNECTION WITH THE OFFERING MADE BY THE PROSPECTUS AND, IF
GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS
HAVING BEEN AUTHORIZED BY THE FUNDS. THE PROSPECTUS DOES NOT CONSTITUTE AN
OFFERING BY THE FUNDS IN ANY JURISDICTION IN WHICH SUCH OFFERING MAY NOT
LAWFULLY BE MADE.
<PAGE>
ADDITIONAL INVESTMENT INFORMATION
The following supplements the investment objectives and policies of the Funds as
set forth in the Prospectus.
Highland Growth Fund seeks long-term capital appreciation. The Highland Growth
Fund invests primarily in equity securities of companies believed by the Adviser
to have the potential for above-average growth in market value.
The Highland Growth Fund may invest in companies of all sizes.
Highland Aggressive Growth Fund seeks capital appreciation. The Highland
Aggressive Growth Fund invests primarily in equity securities of companies
believed by the Adviser to have the potential for above-average growth in market
value. Although the Highland Aggressive Growth Fund may invest in companies of
all sizes, the Fund, under normal market conditions, emphasizes equity
securities of companies with market capitalizations of less than $1 billion.
MONEY MARKET INSTRUMENTS. Each Fund may invest in a variety of money market
instruments for temporary defensive purposes, pending investment, to meet
anticipated redemption requests and/or to retain the flexibility to respond
promptly to changes in market and economic conditions. Commercial paper
represents short-term unsecured promissory notes issued in bearer form by banks
or bank holding companies, corporations and finance companies. Certificates of
deposit are generally negotiable certificates issued against funds deposited in
a commercial bank for a definite period of time and earning a specified return.
Bankers acceptances are negotiable drafts or bills of exchange, normally drawn
by an importer or exporter to pay for specific merchandise, which are "accepted"
by a bank, meaning, in effect, that the bank unconditionally agrees to pay the
face value of the instrument on maturity. Fixed time deposits are bank
obligations payable at a stated maturity date and bearing interest at a fixed
rate. Fixed time deposits may be withdrawn on demand by the investor, but may be
subject to early withdrawal penalties that vary depending upon market conditions
and the remaining maturity of the obligation. There are no contractual
restrictions on the right to transfer a beneficial interest in a fixed time
deposit to a third party, although there is no market for such deposits. Bank
notes and bankers' acceptances rank junior to deposit liabilities of the bank
and pari passu with other senior, unsecured obligations of the bank. Bank notes
are classified as "other borrowings" on a bank's balance sheet, while deposit
notes and certificates of deposit are classified as deposits. Bank notes are not
insured by the Federal Deposit Insurance Corporation or any other insurer.
Deposit notes are insured by the Federal Deposit Insurance Corporation only to
the extent of $100,000 per depositor per bank.
MORTGAGE-BACKED SECURITIES. Each of the Funds may invest in mortgage-backed
securities, which are securities representing interests in pools of mortgage
loans. Interests in pools of mortgage-related securities differ from other forms
of debt securities which normally provide for periodic payment of interest in
fixed amounts with principal payments at maturity or specified call dates.
Instead, these securities provide a monthly payment which consists of both
interest and principal payments. In effect, these payments are a "pass-through"
of the monthly payments made by the individual borrowers on their mortgage
loans, net of any fees paid to the issuer or guarantor of such securities.
Additional payments are caused by prepayments of principal resulting from the
sale, refinancing or foreclosure of the underlying property, net of fees or
costs which may be incurred. The market value and interest yield of these
instruments can vary due to market interest rate fluctuations and early
prepayments of underlying mortgages.
The principal governmental issuers or guarantors of mortgage-backed securities
are the Government National Mortgage Association ("GNMA"), Federal National
Mortgage Association ("FNMA"), and Federal Home Loan Mortgage Corporation
("FHLMC"). Obligations of GNMA are backed by the full faith and credit of the
United States Government while obligations of FNMA and FHLMC are supported by
the respective agency only. Although GNMA certificates may offer yields higher
than those available from other types of U.S. Government securities, GNMA
certificates may be less effective than other types of securities as a means of
"locking in" attractive long-term rates because of the prepayment feature. For
instance, when interest rates decline, the value of a GNMA certificate likely
will not rise as much as comparable debt securities due to the prepayment
feature. In
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<PAGE>
addition, these prepayments can cause the price of a GNMA certificate originally
purchased at a premium to decline in price to its par value, which may result in
a loss.
Each Fund may also invest a portion of its assets in collateralized mortgage
obligations or "CMOs," a type of mortgage-backed security. CMOs are securities
collateralized by mortgages, mortgage pass-through certificates, mortgage pay-
through bonds (bonds representing an interest in a pool of mortgages where the
cash flow generated from the mortgage collateral pool is dedicated to bond
repayment), and mortgage-backed bonds (general obligations of the issuers
payable out of the issuers' general funds and additionally secured by a first
lien on a pool of single family detached properties). Many CMOs are issued with
a number of classes or series which have different maturities and are retired in
sequence.
Investors purchasing such CMOs in the shortest maturities receive or are
credited with their pro rata portion of the scheduled payments of interest and
principal on the underlying mortgages plus all unscheduled prepayments of
principal up to a predetermined portion of the total CMO obligation. Until that
portion of such CMO obligations is repaid, investors in the longer maturities
receive interest only. Accordingly, the CMOs in the longer maturity series are
less likely than other mortgage pass-through certificates to be prepaid prior to
their stated maturity. Although some of the mortgages underlying CMOs may be
supported by various types of insurance, and some CMOs may be backed by GNMA
certificates or other mortgage pass-through certificates issued or guaranteed by
U.S. Government agencies or instrumentalities, the CMOs themselves are not
generally guaranteed.
Even if the U.S. government or one of its agencies guarantees principal and
interest payments of a mortgage-backed security, the market price of a mortgage-
backed security is not insured and may be subject to market volatility. When
interest rates decline, mortgage-backed securities experience higher rates of
prepayment because the underlying mortgages are refinanced to take advantage of
the lower rates. The prices of mortgage-backed securities may not increase as
much as prices of other debt obligations when interest rates decline, and
mortgage-backed securities may not be an effective means of locking in a
particular interest rate. In addition, any premium paid for a mortgage-backed
securities may be lost when it is prepaid. When interest rates go up, mortgage-
backed security experience lower-rates of prepayment. This has the effect of
lengthening the expected maturity of a mortgage-backed security. As a result,
prices of mortgage-backed securities may decrease more than prices of other debt
obligations when interest rates go up.
REPURCHASE AGREEMENTS. Each Fund may agree to purchase portfolio securities from
financial institutions subject to the seller's agreement to repurchase them at a
mutually agreed upon date and price ("repurchase agreements"). Although the
securities subject to a repurchase agreement may bear maturities exceeding one
year, settlement for the repurchase agreement will never be more than one year
after a Fund's acquisition of the securities and normally will be within a
shorter period of time. Securities subject to repurchase agreements are held
either by the Funds' custodian or subcustodian (if any), or in the Federal
Reserve/Treasury Book-Entry System. The seller under a repurchase agreement will
be required to maintain the value of the securities subject to the agreement in
an amount exceeding the repurchase price (including accrued interest).
Repurchase agreements may be considered loans to the seller, collateralized by
the underlying securities. The risk to a Fund is limited to the ability of the
seller to pay the agreed upon sum on the repurchase date; in the event of
default, the repurchase agreement provides that a Fund is entitled to sell the
underlying collateral. If the value of the collateral declines after the
agreement is entered into, however, and if the seller defaults under a
repurchase agreement when the value of the underlying collateral is less than
the repurchase price, a Fund could incur a loss of both principal and interest.
The Adviser monitors the value of the collateral at the time the agreement is
entered into and at all times during the term of the repurchase agreement in an
effort to determine that the value of the collateral always equals or exceeds
the agreed upon repurchase price to be paid to a Fund. If the seller were to be
subject to a federal bankruptcy proceeding, the ability of a Fund to liquidate
the collateral could be delayed or impaired because of certain provisions of the
bankruptcy laws.
REVERSE REPURCHASE AGREEMENTS. Each Fund may enter into reverse repurchase
agreements. Reverse repurchase agreements involve the sale of securities held by
the Fund and the agreement by the Fund to repurchase the securities at an agreed
upon price, date and interest payment. When the Fund enters into reverse
repurchase transactions, securities of a dollar amount equal in value to the
securities subject to the agreement will be
3
<PAGE>
maintained in a segregated account with the Fund's custodian. The segregation of
assets could impair the Fund's ability to meet its current obligations or impede
investment management if a large portion of the Fund's assets are involved.
Reverse repurchase agreements are considered to be a form of borrowing.
UNITED STATES GOVERNMENT OBLIGATIONS. Each of the Funds may invest in Treasury
securities which differ only in their interest rates, maturities and times of
issuance. Treasury Bills have initial maturities of one year or less; Treasury
Notes have initial maturities of one to ten years; and Treasury Bonds generally
have initial maturities of greater than ten years. The Funds also may invest in
instruments issued by U.S. government agencies or instrumentalities. Some
obligations of U.S. Government agencies and instrumentalities are supported by
the "full faith and credit" of the United States, others by the right of the
issuer to borrow from the U.S. Treasury and others only by the credit of the
agency or instrumentality.
ILLIQUID SECURITIES. Each of the Funds may invest up to 15% of its net assets in
illiquid securities (i.e., securities that cannot be disposed of within seven
days in the normal course of business at approximately the amount at which the
Fund has valued the securities). The Board of Trustees or its delegate has the
ultimate authority to determine which securities are liquid or illiquid for
purposes of this limitation. Certain securities exempt from registration or
issued in transactions exempt from registration ("restricted securities") under
the Securities Act of 1933, as amended ("Securities Act") that may be resold
pursuant to Rule 144A or Regulation S under the Securities Act, may be
considered liquid. The Board has delegated to the Adviser the day-to-day
determination of the liquidity of a security, although it has retained oversight
and ultimate responsibility for such determinations. Certain securities are
deemed illiquid by the Securities and Exchange Commission including repurchase
agreements maturing in greater than seven days and options not listed on a
securities exchange or not issued by the Options Clearing Corporation. These
securities will be treated as illiquid and subject to the Funds limitation on
illiquid securities.
Restricted securities may be sold in privately negotiated or other exempt
transactions, qualified non-U.S. transactions, such as under Regulation S, or in
a public offering with respect to which a registration statement is in effect
under the Securities Act. Where registration is required, a Fund may be
obligated to pay all or part of the registration expenses and a considerable
time may elapse between the decision to sell and the sale date. If, during such
period, adverse market conditions were to develop, a Fund might obtain a less
favorable price than prevailed when it decided to sell. Restricted securities
will be priced at fair value as determined in good faith by the Board.
If through the appreciation of illiquid securities or the depreciation of
illiquid securities, a Fund should be in a position where more than 15% of the
value of its net assets are invested in illiquid assets, including restricted
securities which are not readily marketable, the Fund will take such steps as it
deems advisable, if any, to reduce the percentage of such securities to 15% or
less of the value of its net assets.
HEDGING STRATEGIES. The Funds may engage in hedging activities. They may utilize
a variety of financial instruments, including options, in an attempt to reduce
the investment risks of the Funds.
Hedging instruments on securities generally are used to hedge against price
movements in one or more particular securities positions that a Fund owns or
intends to acquire. Hedging instruments on stock indices, in contrast, generally
are used to hedge against price movements in broad equity market sectors in
which a Fund has invested or expects to invest. The use of hedging instruments
is subject to applicable regulations of the Securities and Exchange Commission,
the several options exchanges upon which they are traded and various state
regulatory authorities. In addition, a Fund's ability to use hedging instruments
will be limited by certain tax considerations.
FOREIGN CURRENCY EXCHANGE TRANSACTIONS. Because each of the Funds may buy and
sell securities denominated in currencies other than the U.S. dollar, and
receive interest, dividends and sale proceeds in currencies other than the U.S.
dollar, the Funds may enter into foreign currency exchange transactions to
convert United States currency to foreign currency and foreign currency to
United States currency, as well as convert foreign currency to other foreign
currencies. A Fund either enters into these transactions on a spot (i.e., cash)
basis at the spot rate prevailing in the foreign currency exchange market, or
uses forward contracts to purchase or sell foreign currencies. The Funds may
also enter into foreign currency hedging transactions in an attempt to protect
the value of the assets
4
<PAGE>
of the respective Fund as measured in U.S. dollars from unfavorable changes in
currency exchange rates and control regulations. (Although each Fund's assets
are valued daily in terms of U.S. dollars, the Funds do not intend to convert
their respective holdings of other currencies into U.S. dollars on a daily
basis.)
The Funds may convert currency on a spot basis from time to time, and investors
should be aware of the costs of currency conversion. Although currency 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 currency at one
rate, while offering a lesser rate of exchange should the Fund desire to resell
that currency to the dealer.
A forward contract involves an obligation to purchase or sell a specific
currency at a future date, which may be any fixed number of days from the date
of the contract, agreed upon by the parties, at a price set at the time of the
contract. These contracts are traded in the interbank market conducted directly
between currency traders (usually large commercial banks) and their customers. A
forward contract generally has no deposit requirement, and no fees or
commissions are charged at any stage for trades.
When a Fund enters into a contract for the purchase or sale of a security
denominated in a non-U.S. currency, it may desire to "lock in" the U.S. dollar
price of the security. By entering into a forward contract for the purchase or
sale, for a fixed amount of U.S. dollars, of the amount of non-U.S. currency
involved in the underlying security transaction, the Fund will be able to
protect against a possible loss resulting from an adverse change in the
relationship between the U.S. dollar and the non-U.S. currency during the period
between the date the security is purchased or sold and the date on which payment
is made or received.
When the Adviser believes that the currency of a particular country may suffer a
substantial decline against the U.S. dollar, a Fund may enter into a forward
contract to sell, for a fixed amount of U.S. dollars, the amount of non-U.S.
currency approximating the value of some or all of the Fund's securities
denominated in such non-U.S. currency. The precise matching of the forward
contract amounts and the value of the securities involved is not generally
possible since the future value of such securities in non-U.S. currencies
changes as a consequence of market movements in the value of those securities
between the date the forward contract is entered into and the date it matures.
The projection of a short-term hedging strategy is highly uncertain. The Funds
do not enter into such forward contracts or maintain a net exposure to such
contracts where the consummation of the contracts obligates a Fund to deliver an
amount of non-U.S. currency in excess of the value of the Fund's securities or
other assets denominated in that currency. Under normal circumstances,
consideration of the prospect for currency parities will be incorporated in the
investment decisions made with regard to overall diversification strategies.
However, the Adviser believes that it is important to have the flexibility to
enter into such forward contracts when it determines that the best interests of
the Fund will be served.
The Funds generally would not enter into a forward contract with a term greater
than one year. At the maturity of a forward contract, a Fund will either sell
the security and make delivery of the non-U.S. currency, or retain the security
and terminate its contractual obligation to deliver the non-U.S. 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 non-U.S.
currency. If a Fund retains the security and engages in an offsetting
transaction, the Fund will incur a gain or a loss (as described below) to the
extent that there has been movement in forward contract prices. If a Fund
engages in an offsetting transaction, it may subsequently enter into a new
forward contract to sell the non-U.S. currency. Should forward prices decline
during the period between the date a Fund enters into a forward contract for the
sale of the non-U.S. currency and the date it enters into an offsetting contract
for the purchase of such currency, the Fund will realize a gain to the extent
the selling price of the currency exceeds the purchase price of the currency.
Should forward prices increase, the Fund will suffer a loss to the extent that
the purchase price of the currency exceeds the selling price of the currency.
It is impossible to forecast with precision the market value of Fund securities
at the expiration of the contract. Accordingly, it may be necessary for a Fund
to purchase additional non-U.S. currency on the spot market if the market value
of the security is less than the amount of non-U.S. currency the Fund is
obligated to deliver and if a decision is made to sell the security and make
delivery of such currency. Conversely, it may be necessary to sell on
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<PAGE>
the spot market some of the non-U.S. currency received upon the sale of the
security if its market value exceeds the amount of such currency the Fund is
obligated to deliver.
Each of the Funds may also purchase put options on a non-U.S. currency in order
to protect against currency rate fluctuations. If a Fund purchases a put option
on a non-U.S. currency and the value of the U.S. currency declines, the Fund
will have the right to sell the non-U.S. currency for a fixed amount in U.S.
dollars and will thereby offset, in whole or in part, the adverse effect on the
Fund which otherwise would have resulted. Conversely, where a rise in the U.S.
dollar value of another currency is projected, and where the Fund anticipates
investing in securities traded in such currency, the Fund may purchase call
options on the non-U.S. currency.
The purchase of such options could offset, at least partially, the effects of
the adverse movements in exchange rates. However, the benefit to the Fund from
purchases of foreign currency options will be reduced by the amount of the
premium and related transaction costs. In addition, where currency exchange
rates do not move in the direction or to the extent anticipated, the Fund could
sustain losses on transactions in foreign currency options which would require
it to forgo a portion or all of the benefits of advantageous changes in such
rates.
The Funds may write options on non-U.S. currencies for hedging purposes or
otherwise to achieve their investment objectives. For example, where a Fund
anticipates a decline in the value of the U.S. dollar value of a foreign
security due to adverse fluctuations in exchange rates it could, instead of
purchasing a put option, write a call option on the relevant currency. If the
expected decline occurs, the option will most likely not be exercised, and the
diminution in value of the security held by the Fund will be offset by the
amount of the premium received.
Similarly, instead of purchasing a call option to hedge against an anticipated
increase in the cost of a foreign security to be acquired because of an increase
in the U.S. dollar value of the currency in which the underlying security is
primarily traded, a Fund could write a put option on the relevant currency
which, if rates move in the manner projected, will expire unexercised and allow
the Fund to hedge such increased cost up to the amount of the premium. However,
the writing of a currency option will constitute only a partial hedge up to the
amount of the premium, and only if rates move in the expected direction. If this
does not occur, the option may be exercised and the Fund would be required to
purchase or sell the underlying currency at a loss which may not be offset by
the amount of the premium. Through the writing of options on currencies, a Fund
also may be required to forgo all or a portion of the benefits which might
otherwise have been obtained from favorable movements in exchange rates.
Put and call options on non-U.S. currencies written by a Fund will be covered by
segregation of cash, short-term money market instruments or high quality debt
securities in an account with the custodian in an amount sufficient to discharge
the Fund's obligations with respect to the option, by acquisition of the non-
U.S. currency or of a right to acquire such currency (in the case of a call
option) or the acquisition of a right to dispose of the currency (in the case of
a put option), or in such other manner as may be in accordance with the
requirements of any exchange on which, or the counterparty with which, the
option is traded and applicable laws and regulations.
Investing in ADRs and other depositary receipts presents many of the same risks
regarding currency exchange rates as investing directly in securities traded in
currencies other than the U.S. dollar. Because the securities underlying ADRs
are traded primarily in non-U.S. currencies, changes in currency exchange rates
will affect the value of these receipts. For example, decline in the U.S. dollar
value of another currency in which securities are primarily traded will reduce
the U.S. dollar value of such securities, even if their value in the other
non-U.S. currency remains constant, and thus will reduce the value of the
receipts covering such securities. A Fund may employ any of the above described
foreign currency hedging techniques to protect the value of its assets invested
in depositary receipts.
Of course, a Fund is not required to enter into the transactions described above
and does not do so unless deemed appropriate by the Adviser. It should also be
realized that this method of protecting the value of a Fund's securities against
a decline in the value of a currency does not eliminate fluctuations in the
underlying prices of the securities. Additionally, although such contracts tend
to minimize the risk of loss due to a decline in the value of the hedged
currency, they also tend to limit any potential gain which might result should
the value of such currency increase.
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Each Fund has established procedures consistent with policies of the Securities
and Exchange Commission concerning forward contracts. Since those policies
currently recommend that an amount of a Fund's assets equal to the amount of the
purchase be held aside or segregated to be used to pay for the commitment, each
Fund expects to always have cash, cash equivalents or high quality debt
securities available sufficient to cover any commitments under these contracts
or to limit any potential risk.
OPTIONS - GENERAL. Each Fund may purchase and write (i.e. sell) put and call
options. Such options may relate to particular securities or stock indices, and
may or may not be listed on a domestic or foreign securities exchange and may or
may not be issued by the Options Clearing Corporation. Options trading is a
highly specialized activity that entails greater than ordinary investment risk.
Options may be more volatile than the underlying instruments, and therefore, on
a percentage basis, an investment in options may be subject to greater
fluctuation than an investment in the underlying instruments themselves.
A call option for a particular security gives the purchaser of the option the
right to buy, and the writer (seller) the obligation to sell, the underlying
security at the stated exercise price at any time prior to the expiration of the
option, regardless of the market price of the security. The premium paid to the
writer is in consideration for undertaking the obligation under the option
contract. A put option for a particular security gives the purchaser the right
to sell the security at the stated exercise price at any time prior to the
expiration date of the option, regardless of the market price of the security.
Stock index options are put options and call options on various stock indexes.
In most respects, they are identical to listed options on common stocks. The
primary difference between stock options and index options occurs when index
options are exercised. In the case of stock options, the underlying security,
common stock, is delivered. However, upon the exercise of an index option,
settlement does not occur by delivery of the securities comprising the index.
The option holder who exercises the index option receives an amount of cash if
the closing level of the stock 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 cash is equal to the difference between the
closing price of the stock index and the exercise price of the option expressed
in dollars times a specified multiple. A stock index fluctuates with changes in
the market value of the stocks included in the index. For example, some stock
index options are based on a broad market index, such as the Standard & Poor's
500 or the Value Line Composite Index or a narrower market index, such as the
Standard & Poor's 100. Indexes may also be based on an industry or market
segment, such as the AMEX Oil and Gas Index or the Computer and Business
Equipment Index. Options on stock indexes are currently traded on the following
exchanges: the Chicago Board Options Exchange, the New York Stock Exchange, the
American Stock Exchange, the Pacific Stock Exchange, and the Philadelphia Stock
Exchange.
A Fund's obligation to sell an instrument subject to a call option written by
it, or to purchase an instrument subject to a put option written by it, may be
terminated prior to the expiration date of the option by the Fund's execution of
a closing purchase transaction, which is effected by purchasing on an exchange
an option of the same series (i.e., same underlying instrument, exercise price
and expiration date) as the option previously written. A closing purchase
transaction will ordinarily be effected to realize a profit on an outstanding
option, to prevent an underlying instrument from being called, to permit the
sale of the underlying instrument or to permit the writing of a new option
containing different terms on such underlying instrument. The cost of such a
liquidation purchase plus transactions costs may be greater than the premium
received upon the original option, in which event the Fund will have incurred a
loss in the transaction. There is no assurance that a liquid secondary market
will exist for any particular option. An option writer, unable to effect a
closing purchase transaction, will not be able to sell the underlying instrument
or liquidate the assets held in the segregated account until the option expires
or the optioned instrument is delivered upon exercise with the result that the
writer in such circumstances will be subject to the risk of market decline or
appreciation in the instrument during such period.
If an option purchased by a Fund expires unexercised, the Fund realizes a loss
equal to the premium paid. If a Fund enters into a closing sale transaction on
an option purchased by it, the Fund will realize a gain if the premium received
by the Fund on the closing transaction is more than the premium paid to purchase
the option, or a loss if it is less. If an option written by a Fund expires on
the stipulated expiration date or if a Fund enters into a closing purchase
transaction, it will realize a gain (or loss if the cost of a closing purchase
transaction exceeds the net
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premium received when the option is sold). If an option written by a Fund is
exercised, the proceeds of the sale will be increased by the net premium
originally received and the Fund will realize a gain or loss.
FEDERAL TAX TREATMENT OF OPTIONS. Certain option transactions have special tax
results for the Funds. Expiration of a call option written by a Fund will result
in short-term capital gain. If the call option is exercised, the Fund will
realize a gain or loss from the sale of the security covering the call option
and, in determining such gain or loss, the option premium will be included in
the proceeds of the sale.
If a Fund writes options other than "qualified covered call options," as defined
in Section 1092 of the Internal Revenue Code of 1986, as amended (the "Code"),
or purchases puts, any losses on such options transactions, to the extent they
do not exceed the unrealized gains on the securities covering the options, may
be subject to deferral until the securities covering the options have been sold.
In the case of transactions involving "nonequity options," as defined in Code
Section 1256, the Funds will treat any gain or loss arising from the lapse,
closing out or exercise of such positions as 60% long-term and 40% short-term
capital gain or loss as required by Section 1256 of the Code. In addition, such
positions must be marked-to-market as of the last business day of the year, and
gain or loss must be recognized for federal income tax purposes in accordance
with the 60%/40% rule discussed above even though the position has not been
terminated. A "nonequity option" includes options involving stock indexes such
as the Standard & Poor's 500 and 100 indexes.
CERTAIN RISKS REGARDING OPTIONS. There are risks associated with transactions in
options. For example, there are significant differences between the securities
and options markets that could result in an imperfect correlation between these
markets, causing a given transaction not to achieve its objectives. In addition,
a liquid secondary market for particular options, whether traded
over-the-counter or on an exchange, may be absent for reasons which include the
following: there may be insufficient trading interest in certain options;
restrictions may be imposed by an exchange on opening transactions or closing
transactions or both; trading halts, suspensions or other restrictions may be
imposed with respect to particular classes or series of options or underlying
securities or currencies; unusual or unforeseen circumstances may interrupt
normal operations on an exchange; the facilities of an exchange or the Options
Clearing Corporation may not at all times be adequate to handle current trading
value; or one or more exchanges could, for economic or other reasons, decide or
be compelled at some future date 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 that had been issued by the Options Clearing
Corporation as a result of trades on that exchange would continue to be
exercisable in accordance with their terms.
Successful use by the Funds of options on stock indexes will be subject to the
ability of the Adviser to correctly predict movements in the directions of the
stock market. This requires different skills and techniques than predicting
changes in the prices of individual securities. In addition, a Fund's ability to
effectively hedge all or a portion of the securities in its portfolio, in
anticipation of or during a market decline, through transactions in put options
on stock indexes, depends on the degree to which price movements in the
underlying index correlate with the price movements of the securities held by a
Fund. Inasmuch as a Fund's securities will not duplicate the components of an
index, the correlation will not be perfect. Consequently, each Fund will bear
the risk that the prices of its securities being hedged will not move in the
same amount as the prices of its put options on the stock indexes. It is also
possible that there may be a negative correlation between the index and a Fund's
securities which would result in a loss on both such securities and the options
on stock indexes acquired by the Fund.
The hours of trading for options may not conform to the hours during which the
underlying securities are traded. To the extent that the options 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 options markets. The purchase of options is a highly specialized activity
which involves investment techniques and risks different from those associated
with ordinary portfolio securities transactions. The purchase of stock index
options involves the risk that the premium and transaction costs paid by a Fund
in purchasing an option will be lost as a result of unanticipated movements in
prices of the securities comprising the stock index on which the option is
based.
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There is no assurance that a liquid secondary market on an options exchange will
exist for any particular option, or at any particular time, and for some options
no secondary market on an exchange or elsewhere may exist. If a Fund is unable
to close out a call option on securities that it has written before the option
is exercised, the Fund may be required to purchase the optioned securities in
order to satisfy its obligation under the option to deliver such securities. If
a Fund is unable to effect a closing sale transaction with respect to options on
securities that is has purchased, it would have to exercise the option in order
to realize any profit and would incur transaction costs upon the purchase and
sale of the underlying securities.
COVER FOR OPTIONS POSITIONS. Transactions using options (other than options that
a Fund has purchased) expose a Fund to an obligation to another party. A Fund
will not enter into any such transactions unless it owns either (1) an
offsetting ("covered") position in securities or other options or (2) cash,
receivables and short-term debt securities with a value sufficient at all times
to cover its potential obligations not covered as provided in (1) above. Each
Fund will comply with Securities and Exchange Commission guidelines regarding
cover for these instruments and, if the guidelines so require, set aside cash,
U.S. government securities or other liquid, high-grade debt securities in a
segregated account with its Custodian in the prescribed amount. Under current
SEC guidelines, the Funds will segregate assets to cover transactions in which
the Funds write or sell options.
Assets used as cover or held in a segregated account cannot be sold while the
position in the corresponding futures contract or option is open, unless they
are replaced with similar assets. As a result, the commitment of a large portion
of a Fund's assets to cover or segregated accounts could impede portfolio
management or the Fund's ability to meet redemption requests or other current
obligations.
INVESTMENT COMPANIES. Each Fund currently intends to limit its investments in
securities issued by other investment companies so that, as determined
immediately after a purchase of such securities is made: (a) not more than 5% of
the value of the Fund's total assets will be invested in the securities of any
one investment company; (b) not more than 10% of the value of its total assets
will be invested in the aggregate in securities of investment companies as a
group; and (c) not more than 3% of the outstanding voting stock of any one
investment company will be owned by the Fund.
WARRANTS. The Funds may purchase warrants and similar rights, which are
privileges issued by corporations enabling the owners to subscribe to and
purchase a specified number of shares of the corporation at a specified price
during a specific period of time. The purchase of warrants involves the risk
that a Fund could lose the purchase value of a warrant if the right to subscribe
to additional shares is not exercised prior to the warrant's expiration. Also,
the purchase of warrants involves the risk that the effective price paid for the
warrant added to the subscription price of the related security may exceed the
value of the subscribed security's market price such as when there is no
movement in the level of the underlying security. A Fund will not invest more
than 5% of its total assets, taken at market value, in warrants, or more than 2%
of its total assets, taken at market value, in warrants not listed on the New
York or American Stock Exchanges or a major foreign exchange. Warrants attached
to other securities acquired by a Fund are not subject to this restriction.
CONVERTIBLE SECURITIES. Convertible securities entitle the holder to receive
interest paid or accrued on debt or the dividend paid on preferred stock until
the convertible securities mature or are redeemed, converted and exchanged.
Prior to conversion, convertible securities have characteristics similar to
ordinary debt securities or preferred stock in that they normally provide a
stable stream of income with generally higher yields than those of common stock
of the same or similar issuers. Convertible securities rank senior to common
stock in a corporation's capital structure and therefore generally entail less
risk of loss of principal than the corporation's common stock.
In selecting convertible securities for the Funds, the Adviser will consider
among other factors, its evaluation of the creditworthiness of the issuers of
the securities; the interest or dividend income generated by the securities; the
potential for capital appreciation of the securities and the underlying common
stocks; the prices of the securities relative to other comparable securities and
to the underlying common stocks; whether the securities are entitled to the
benefits of sinking funds or other protective conditions; diversification of the
Funds portfolio as to issuers; and whether the securities are rated by a rating
agency and, if so, the ratings assigned.
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The value of convertible securities is a function of their investment value
(determined by yield in comparison with the yields of other securities of
comparable maturity and quality that do not have a conversion privilege) and
their conversion value (their worth, at market value, if converted into the
underlying common stock). The investment value of convertible securities is
influenced by changes in interest rates, with investment value declining as
interest rates increase and increasing as interest rates decline, and by the
credit standing of the issuer and other factors. The conversion value of
convertible securities is determined by the market price of the underlying
common stock. If the conversion value is low relative to the investment value,
the price of the convertible securities is governed principally by their
investment value. To the extent the market price of the underlying common stock
approaches or exceeds the conversion price, the price of the convertible
securities will be increasingly influenced by their conversion value. In
addition, convertible securities generally sell at a premium over their
conversion value determined by the extent to which investors place value on the
right to acquire the underlying common stock while holding fixed income
securities.
Capital appreciation for a Fund may result from an improvement in the credit
standing of an issuer whose securities are held in the Fund or from a general
lowering of interest rates, or a combination of both. Conversely, a reduction in
the credit standing of an issuer whose securities are held by a Fund or a
general increase in interest rates may be expected to result in capital
depreciation to the Fund.
Typically, the convertible debt securities in which the Funds will invest will
be of a quality less than investment grade (so-called "junk bonds"). The Funds
will, however, limit their investment in non- investment grade convertible debt
securities to no more than 5% of the respective net assets at the time of
purchase and will not acquire convertible debt securities rated below B by
Moody's or S&P, or securities deemed by the Adviser to be of comparable quality.
Junk bonds, while generally offering higher yields than investment grade
securities with similar maturities, involve greater risks, including the
possibility of default or bankruptcy. They are regarded as predominantly
speculative with respect to the issuer's capacity to pay interest and repay
principal. The special risk considerations in connection with investments in
these securities are discussed below. Refer to Appendix A of this Statement of
Additional Information for a discussion of securities ratings.
EFFECT ON INTEREST RATES AND ECONOMIC CHANGES. The junk bond market is
relatively new and its growth has paralleled a long economic expansion. As a
result, it is not clear how this market may withstand a prolonged recession or
economic downturn. Such an economic downturn could severely disrupt the market
for and adversely affect the value of such securities.
All interest-bearing securities typically experience appreciation when interest
rates decline and depreciation when interest rates rise. The market values of
junk bond securities tend to reflect individual corporate developments to a
greater extent than do higher rated securities, which react primarily to
fluctuations in the general level of interest rates. Junk bond securities also
tend to be more sensitive to economic conditions than are higher-rated
categories. During an economic downturn or a sustained period of rising interest
rates, highly leveraged issuers of junk bond securities may experience financial
stress and may not have sufficient revenues to meet their payment obligations.
The risk of loss due to default by an issuer of these securities is
significantly greater than issuers of higher-rated securities because such
securities are generally unsecured and are often subordinated to other
creditors. Further, if the issuer of a junk bond security defaulted, a Fund
might incur additional expenses to seek recovery. Periods of economic
uncertainty and changes would also generally result in increased volatility in
the market prices of these securities and thus in a Fund's net asset value.
As previously stated, the value of a junk bond security will generally decrease
in a rising interest rate market, and accordingly so will a Fund's net asset
value. If a Fund experiences unexpected net redemptions in such a market, it may
be forced to liquidate a portion of its portfolio securities without regard to
their investment merits. Due to the limited liquidity of junk bond securities, a
Fund may be forced to liquidate these securities at a substantial discount. Any
such liquidation would reduce a Fund's asset base over which expenses could be
allocated and could result in a reduced rate of return for the Fund.
PAYMENT EXPECTATIONS. Junk bond securities typically contain redemption, call or
prepayment provisions which permit the issuer of such securities containing such
provisions to redeem the securities at its discretion.
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During periods of falling interest rates, issuers of these securities are likely
to redeem or prepay the securities and refinance them with debt securities with
a lower interest rate. To the extent an issuer is able to refinance the
securities, or otherwise redeem them, a Fund may have to replace the securities
with a lower yielding security, which could result in a lower return for the
Fund.
CREDIT RATINGS. Credit ratings issued by credit-rating agencies evaluate the
safety of principal and interest payments of rated securities. They do not,
however, evaluate the market value risk of junk bond securities and, therefore
may not fully reflect the true risks of an investment. In addition, credit
rating agencies may or may not make timely changes in a rating to reflect
changes in the economy or in the condition of the issuer that affect the market
value of the security. Consequently, credit ratings are used only as a
preliminary indicator of investment quality. Investments in junk bond securities
will be more dependent on the Adviser's credit analysis than would be the case
with investments in investment grade debt securities. The Adviser employs its
own credit research and analysis, which includes a study of existing debt,
capital structure, ability to service debt and to pay dividends, the issuer's
sensitivity to economic conditions, its operating history and the current trend
of earnings. The Adviser continually monitors each Fund's investments and
carefully evaluates whether to dispose of or to retain junk bond securities
whose credit ratings or credit quality may have changed.
LIQUIDITY AND VALUATION. A Fund may have difficulty disposing of certain junk
bond securities because there may be a thin trading market for such securities.
Because not all dealers maintain markets in all junk bond securities there is no
established retail secondary market for many of these securities. The Funds
anticipate that such securities could be sold only to a limited number of
dealers or institutional investors. To the extent a secondary trading market
does exist, it is generally not as liquid as the secondary market for
higher-rated securities. The lack of a liquid secondary market may have an
adverse impact on the market price of the security. The lack of a liquid
secondary market for certain securities may also make it more difficult for a
Fund to obtain accurate market quotations for purposes of valuing the Fund.
Market quotations are generally available on many junk bond issues only from a
limited number of dealers and may not necessarily represent firm bids of such
dealers or prices for actual sales. During periods of thin trading, the spread
between bid and asked prices is likely to increase significantly. In addition,
adverse publicity and investor perceptions, whether or not based on fundamental
analysis, may decrease the values and liquidity of junk bond securities,
especially in a thinly traded market.
In general, investments in non-investment grade convertible securities are
subject to a significant risk of a change in the credit rating or financial
condition of the issuing entity. Investments in convertible securities of medium
or lower quality are also likely to be subject to greater market fluctuations
and to greater risk of loss of income and principal due to default than
investments of higher-rated fixed income securities. Such lower-rated securities
generally tend to reflect short-term corporate and market developments to a
greater extent than higher-rated securities, which react more to fluctuations in
the general level of interest rates. A Fund will generally reduce risk to the
investor by diversification, credit analysis and attention to current
developments in trends of both the economy and financial markets. However, while
diversification reduces the effect on a Fund of any single investment, it does
not reduce the overall risk of investing in lower- rated securities.
CALCULATION OF PORTFOLIO TURNOVER RATE. The portfolio turnover rate for the
Funds is calculated by dividing the lesser of purchases or sales of portfolio
investments for the reporting period by the monthly average value of the
portfolio investments owned during the reporting period. The calculation
excludes all securities, including options, whose maturities or expiration dates
at the time of acquisition are one year or less. Portfolio turnover may vary
greatly from year to year as well as within a particular year, and may be
affected by cash requirements for redemption of shares and by requirements which
enable the Funds to receive favorable tax treatment. The Funds are not
restricted by policy with regard to portfolio turnover and will make changes in
their investment portfolios from time to time as business and economic
conditions as well as market prices may dictate. It is anticipated the portfolio
turnover rate for the Highland Growth and Highland Aggressive Growth Funds will
not exceed 200% and 400% annually, respectively. However, this rate should not
be considered as a limiting factor to the Funds.
INVESTMENT STRUCTURE. Although the Funds have no current intention of doing so,
each of the Funds reserves the right to invest all or a portion of its
investable assets in a diversified, open-end management investment
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company with substantially the same investment objective, policies and
restrictions as the Fund (a "Qualifying Portfolio"). A Qualifying Portfolio may
then, in turn, buy, hold and sell securities in accordance with these objectives
and policies. Of course, there is no assurance that the Funds or any Qualifying
Portfolio will achieve their objectives. A Fund will invest in a Qualifying
Portfolio only if the Trustees of the Funds find that the aggregate per share
expenses of that Fund and its corresponding Qualifying Portfolio would be less
than or approximately equal to the expenses that the Fund would incur if the
assets of the Fund were invested directly in the types of securities held by its
Qualifying Portfolio. Each Fund would be able to withdraw its investment in a
Qualifying Portfolio at any time, and would do so if the Fund's Trustees believe
it to be in the best interest of the Fund's shareholders. If a Fund were to
withdraw its investment in its Qualifying Portfolio, the Fund could either
invest directly in securities in accordance with the investment policies
described above or invest in another mutual fund or pooled investment vehicle
having the same investment objectives and policies. If a Fund were to withdraw,
the Fund could receive securities from the Qualifying Portfolio instead of cash,
causing the Fund to incur brokerage, tax and other charges or leaving it with
securities which may or may not be readily marketable or widely diversified.
A Qualifying Portfolio would be able to change its investment objective and
certain of its investment policies and restrictions without approval by its
investors, but the Qualifying Portfolio would notify its corresponding Fund
(which in turn would notify its shareholders) and its other investors at least
30 days before implementing any change in its investment objective. A change in
investment objective, policies or restrictions may cause a Fund to withdraw its
investment in its Qualifying Portfolio.
Certain investment restrictions of a Qualifying Portfolio could not be changed
without approval by the investors in that Qualifying Portfolio. These policies
would be described in the Statement of Additional Information for the
corresponding Fund. If a Fund was asked to vote on matters concerning its
Qualifying Portfolio, the Fund would hold a shareholder meeting and vote in
accordance with shareholder instructions. Of course, the Fund could be outvoted,
or otherwise adversely affected, by other investors in its Qualifying Portfolio.
A Qualifying Portfolio would be able to sell interests to investors in addition
to the Funds. These investors may be mutual funds which offer shares to their
shareholders with different costs and expenses than the Funds. Therefore, the
investment returns for all investors in funds investing in a Qualifying
Portfolio may not be the same. These differences in returns are also present in
other mutual fund structures.
INVESTMENT RESTRICTIONS
Consistent with each Fund's investment objective, each Fund has adopted certain
investment restrictions. The following restrictions supplement those set forth
in the Prospectus. Unless otherwise noted, whenever an investment restriction
states a maximum percentage of a Fund's assets that may be invested in any
security or other asset, such percentage restriction will be determined
immediately after and as a result of the Fund's acquisition of such security or
other asset. Accordingly, any subsequent change in values, net assets, or other
circumstances will not be considered when determining whether the investment
complies with the Fund's investment limitations except with respect to the
Fund's restrictions on borrowings as set forth in restriction 8 below.
A Fund's fundamental restrictions cannot be changed without the approval of the
holders of the lesser of: (i) 67% of the Fund's voting shares present or
represented at a shareholders meeting at which the holders of more than 50% of
such shares are present or represented; or (ii) more than 50% of the outstanding
voting shares of the Fund.
The following are the Funds' fundamental investment restrictions.
Each Fund may not:
1. Issue senior securities, except as permitted under the Investment Company Act
of 1940, as amended (the "1940 Act"); provided, however, a Fund may engage in
transactions involving options, futures and options on futures contracts.
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<PAGE>
2. Lend money or securities (except by purchasing debt securities or entering
into repurchase agreements or lending portfolio securities).
3. With respect to 75% of its total assets, purchase (a) the securities of any
issuer (except securities of the U.S. government or any agency or
instrumentality thereof), if such purchase would cause more than 5% of the value
of the Fund's total assets to be invested in securities of any one issuer or (b)
more than 10% percent of the outstanding voting securities of any one issuer,
except that the Fund may invest all or a portion of its assets in one or more
investment companies, to the extent not prohibited by the 1940 Act, the rules
and regulations thereunder, and exemptive orders granted under such Act.
4. Purchase the securities of any issuer if, as a result, 25% or more of the
value of its total assets, determined at the time an investment is made,
exclusive of U.S. government securities, are in securities issued by companies
primarily engaged in the same industry.
5. Act as an underwriter or distributor of securities other than shares of the
Funds except (a) the Fund may invest all or a portion of its assets in one or
more investment companies, to the extent not prohibited by the 1940 Act, the
rules and regulations thereunder, and exemptive orders granted under such Act,
(b) to the extent that a Fund's participation as part of a group in bidding or
by bidding alone, for the purchase or permissible investments directly from an
issuer or selling shareholders for the Fund's own portfolio may be deemed to be
an underwriting, and (c) to the extent that a Fund may be deemed an underwriter
under the Securities Act, by virtue of disposing of portfolio securities.
6. Purchase or sell real estate (but this shall not prevent the Fund from
investing in securities that are backed by real estate or issued by companies
that invest or deal in real estate or in participation interests in pools of
real estate mortgage loans exclusive of investments in real estate limited
partnerships).
7. Borrow money, except that a Fund may borrow money from a bank and may enter
into reverse repurchase agreements for temporary or emergency purposes (not for
leveraging) in an amount not exceeding 33 1/3% of the value of its total assets
at the time of borrowing. In addition, no Fund may purchase any securities at
any time at which borrowings exceed 5% of the total assets of the Fund, taken at
market value. Any borrowings that exceed 33 1/3% of the Fund's total assets by
reason of a decline in net asset value will be reduced within three days to the
extent necessary to comply with the 33 1/3% limitation. Transactions involving
options, futures and options on futures, will not be deemed to be borrowings if
properly covered by a segregated account where appropriate.
8. Purchase or sell physical commodities or commodities contracts unless
acquired as a result of ownership of securities or other instruments (but this
shall not prevent the Fund from engaging in transactions involving foreign
currencies, futures contracts, options on futures contracts or options, or from
investing in securities or other instruments backed by physical commodities).
In determining industry classification with respect to the Funds, the Adviser
intends to use the industry classification titles in the Standard Industrial
Classification Manual.
ADDITIONAL COMPANY INFORMATION
TRUSTEES AND OFFICERS. Information regarding the Trustees and officers of the
Funds, including their principal business occupations during at least the last
five years, is set forth below. Each Trustee who is an "interested person," as
defined in the 1940 Act, is indicated by an asterisk. Except where otherwise
indicated, each of the individuals below has served in his or her present
capacity with the Company since its organization. Unless otherwise indicated
below, the address of each of the officers and trustees is 1248 Post Road,
Fairfield, Connecticut 06430.
* Catherine C. Lawson (age 48), Chairman and Trustee. Ms. Lawson is a co-
founder of the Adviser and is the sole shareholder of Tregargus Holdings Ltd., a
general partner of the Adviser. Ms. Lawson, a Chartered Financial Analyst, has
served as the Chief Executive Officer and Chief Investment Officer of the
Adviser since its
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organization on May 19, 1995. She served as the portfolio manager of the Dreyfus
Convertible Securities Fund from 1990 to 1993. From 1984 to 1989, she was a Vice
President of Nationar, Inc., where she was the portfolio manager of the MSB Fund
and the Institutional Family of Funds.
* Robert Lamb III (age 36), President and Trustee. Mr. Lamb is a co-founder of
the Adviser and is the sole shareholder of Lamb Holdings Inc., a general partner
of the Adviser. Mr. Lamb has served as the President of the Adviser since its
organization on May 19, 1995. Prior to that he served as Vice President at S.G.
Warburg, a broker-dealer (September, 1992 to June, 1994), and as Vice President
of Dillon Read, a broker-dealer (June, 1982 to September, 1992).
Douglass M. Barnes (age 55), Trustee. Mr. Barnes is a private investor and
serves as Director of The Green Paint Co., Inc., a paint recycling business
(since 1994), as Director of Liquid Motion, Inc., a water-massage bed
manufacturer (since 1994), and as Clerk and Director of Chatham Athletic Club,
Inc., a non-profit organization (since 1996). His address is P.O. Box 305 North
Chatham, Massachusetts 02650.
Tarrant Cutler (age 70), Trustee. Mr. Cutler also serves as Trustee of the 1784
Funds, a registered investment company, and as Secretary and Trustee of Beverly
Hospital. Mr. Cutler served as Senior Executive Vice President of Massachusetts
Financial Services from 1950 to June, 1991. His address is 5 Masconomo St.,
Manchester, Massachusetts 01944.
Diana R. Harrington (age 57), Trustee. Ms. Harrington is a Professor at Babson
College (since September, 1993) and serves as a Trustee of certain funds in the
Landmark Family of Funds (since 1992). Ms. Harrington has also served as a
Visiting Professor at Kellogg Graduate School of Management, Northwestern
University (September, 1992 to September, 1993) and as a Professor at Darden
Graduate School of Business, University of Virginia (September, 1978 to
September, 1993). Her address is 120 Goulding Street, Holliston, Massachusetts
01746.
Stephen J. Barrett (age 28), Vice President and Secretary. Mr. Barrett is
Manager of Client Services, Forum Financial Services, Inc., with which he has
been associated since September, 1996. Prior to joining Forum, Mr. Barrett spent
two and a half years at Fidelity Investments where he served as a Senior Product
Manager. Prior to that Mr. Barrett was a Securities Analyst for two and a half
years with Bingham, Dana & Gould LLP in Boston, Massachusetts. Mr. Barrett is
also an officer of various registered investment companies for which Forum
Financial Services, Inc. serves as manager, administrator and/or distributor.
His address is Two Portland Square, Portland, Maine 04101.
Max Berueffy (age 45), Assistant Secretary. Mr. Berueffy serves as Managing
Director and Counsel, Forum Financial Services, Inc., with which he has been
associated since 1994. Prior thereto, Mr. Berueffy was on the staff of the U.S.
Securities and Exchange Commission for seven years, first in the appellate
branch of the Office of the General Counsel, then as a counsel to Commissioner
Grundfest and finally as a senior special counsel in the Division of Investment
Management. His address is Two Portland Square, Portland, Maine 04101.
Traci E. Block (age 40), Assistant Secretary. Ms. Block serves as Fund
Administrator, Forum Financial Services, Inc., with which she has been
associated since 1995. Prior thereto, Ms. Block was a legal assistant with the
law firm of Pierce, Atwood in Portland, Maine. Ms. Block is also an officer of
various registered investment companies for which Forum Financial Services, Inc.
serves as manager, administrator and/or distributor. Her address is Two Portland
Square, Portland, Maine 04101.
Richard C. Butt (age 41), Treasurer, Principal Financial Officer and Principal
Accounting Officer. Mr. Butt serves as Managing Director, Forum Financial
Services, Inc., with which he has been associated since May, 1996. Prior
thereto, Mr. Butt was a Director of the Financial Services Consulting Practice,
KPMG Peat Marwick LLP (December, 1994 to April, 1996). From November, 1993 to
August, 1994, Mr. Butt was President of 440 Financial Distributors, Inc. a
mutual fund administrator and distributor, and prior thereto was Senior Vice
President of 440 Financial Group, Inc. Mr. Butt is also an officer of various
registered investment companies for which Forum Financial Services, Inc. serves
as manager, administrator and/or distributor. His address is Two Portland
Square, Portland, Maine 04101.
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Stacey Hong (age 30), Assistant Treasurer. Mr. Hong serves as Manager of Pricing
and Bookkeeping, Forum Financial Corp., with which he has been associated since
April, 1992. Prior to his appointment as Manager of Pricing and Bookkeeping, Mr.
Hong was a Fund Accounting Manager with Forum Financial Corp. Prior thereto, Mr.
Hong was a Senior Auditor with Ernst & Young (August, 1988 to April, 1992). His
address is Two Portland Square, Portland, Maine 04101.
Michael J. McKeen (age 25), Assistant Treasurer. Mr. McKeen serves as Fund
Accounting Manager, Forum Financial Corp., with which he has been associated
since June, 1993. Prior to that, Mr. McKeen was attending the University of
Maine, from which he obtained a B.S. degree in Finance in May, 1993. Mr. McKeen
also serves as an officer for various registered investment companies for which
Forum Financial Corp. serves as fund accountant and/or transfer agent. His
address is Two Portland Square, Portland, Maine 04101.
Cheryl O. Tumlin (age 30), Assistant Secretary. Ms. Tumlin serves as Assistant
Counsel, Forum Financial Services, Inc., with which she has been associated
since July, 1996. Prior thereto, Ms. Tumlin was on the staff of the U.S.
Securities and Exchange Commission as an attorney in the Division of Market
Regulation and prior thereto Ms. Tumlin was an associate with the law firm of
Robinson Silverman Pearce Aronsohn & Berman in New York, New York. Her address
is Two Portland Square, Portland, Maine.
The Trustees of the Company (with the exception of the Trustees who are officers
of the Adviser and receive no remuneration from the Funds) are expected to
receive the following remuneration from the Company during its fiscal year
ending December 31, 1997:
<TABLE>
<S> <C> <C> <C> <C>
TOTAL
COMPENSATION
PENSION OR FROM REGISTRANT
AGGREGATE RETIREMENT ESTIMATED AND FUND
NAME OF COMPENSATION BENEFITS ACCRUED ANNUAL COMPLEX PAID
PERSON, FROM AS PART OF FUND BENEFITS UPON TO TRUSTEES
POSITION REGISTRANT(1) EXPENSE(1) RETIREMENT(1) (1)(2)
------------- ---------- ------------- ------
Douglass M. Barnes $8,500 $0 $0 $8,500
Tarrant Cutler $8,500 $0 $0 $8,500
Diana R. Harrington $8,500 $0 $0 $8,500
</TABLE>
(1) Information is estimated for the period from April 14, 1997
(commencement of operations of the Funds) to December 31, 1997. Each of
the Trustees is paid a retainer of $6,000 annually and a fee of $1,000
for each meeting attended and is reimbursed for the expenses of attending
meetings.
(2) Each Trustee serves with respect to the Highland Growth Fund and the
Highland Aggressive Growth Fund.
To provide the initial capital of the Company, on March 26, 1997 Robert Lamb III
purchased an aggregate of 10,000 shares of Highland Growth Fund at the net asset
value of $10.00 per share for an aggregate purchase price of $100,000. As of the
date hereof, there was no other holder of shares of any of the Funds.
INVESTMENT ADVISER. The investment adviser to the Funds is Highland Investment
Group L.P. (the "Adviser"). Catherine C. Lawson is the sole shareholder of
Tregargus Holdings Ltd., a general partner of the Adviser, and is a co-founder
and the Chief Executive Officer and Chief Investment Officer of the Adviser.
Robert Lamb, III is the sole shareholder of Lamb Holdings Inc., a general
partner of the Adviser, and is a co-founder and the President of the Adviser. As
such, they control the Adviser. Pursuant to an Investment Advisory Agreement
entered into between the Company on behalf of each of the Funds and the Adviser
(the "Investment Advisory Agreement"), the Adviser provides continuous
investment advisory services to the Funds. The Adviser also
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<PAGE>
provides the Funds with office space, equipment and personnel necessary to
manage the Funds' assets. The Investment Advisory Agreement is dated as of March
14, 1997. The Investment Advisory Agreement has an initial term of 2 years and
thereafter is required to be approved annually by the Board of Trustees of the
Company or by vote of a majority of the respective Fund's outstanding voting
securities (as defined in the 1940 Act). The Investment Advisory Agreement is
terminable without penalty with respect to a Fund, on 60 days' written notice by
the Trustees, by vote of a majority of a Fund's outstanding voting securities,
or by the Adviser, and will terminate automatically in the event of its
assignment.
As compensation for its services, each Fund pays to the Adviser a monthly
advisory fee at the annual rate specified in the Prospectus. From time to time,
the Adviser may voluntarily waive all or a portion of its fee for one or more
Funds. The organizational expenses of the Funds were advanced by the Adviser and
will be reimbursed by each Fund over a period of not more than sixty months.
The Investment Advisory Agreement requires the Adviser to reimburse a Fund in
the event that the expenses and charges payable by the Fund in any fiscal year,
including the advisory fee but excluding taxes, interest, brokerage commissions,
and similar fees, exceed a percentage of the average net asset value of the Fund
for such year which is the most restrictive percentage provided by the state
laws of the various states in which the Funds' common stock is qualified for
sale. Additionally, the Adviser voluntarily agreed to reimburse each Fund to the
extent aggregate annual operating expenses as described above exceed 1.95% of
the average daily net assets of each Fund, for each Fund's first twelve months
of operation. The Adviser may voluntarily continue to waive all or a portion of
the advisory fees otherwise payable by the Funds. Such a waiver may be
terminated at any time in the Adviser's discretion. Reimbursement of expenses in
excess of the applicable limitation will be made on a monthly basis and will be
paid to each Fund by reducing the Adviser's fee, subject to later adjustment,
month by month, for the remainder of each Fund's fiscal year. The Adviser may
from time to time voluntarily absorb expenses for one or more Funds in addition
to the reimbursement of expenses in excess of the foregoing.
The Investment Advisory Agreement provides that the Adviser shall not be liable
to the respective Fund or its shareholders for any error of judgment or mistake
of law or for anything other than willful misfeasance, bad faith, gross
negligence or reckless disregard of its obligations or duties. The Investment
Advisory Agreement also provides that nothing therein shall limit the freedom of
the Adviser and its affiliates to render investment supervisory and corporate
administrative services to other investment companies, to act as investment
adviser or investment counselor to other persons, firms or corporations, or to
engage in other business activities.
ADMINISTRATOR. Forum Administrative Services, LLC (the "Administrator") provides
various administrative services to the Funds (which include clerical,
compliance, regulatory and other services) pursuant to an Administration
Agreement with the Company on behalf of the Funds. The Administration Agreement
continues in effect until April 14, 1998 and thereafter shall be in effect
indefinitely. Notwithstanding the foregoing, the Administration Agreement may be
terminated by the Board of Trustees or by the Administrator on not less than 60
days' written notice and is not assignable by either party thereto except by the
specific written consent of the other party. Forum Financial Corp., an affiliate
of Forum Administrative Services, LLC, provides fund accounting services to the
Funds.
CUSTODIAN, TRANSFER AGENT AND DIVIDEND PAYING AGENT. The First National Bank of
Boston serves as the custodian and Forum Financial Corp. serves as the transfer
and dividend paying agent for the Funds. Under the terms of the respective
agreements, The First National Bank of Boston, is responsible for the receipt
and delivery of each Fund's securities and cash, and Forum Financial Corp. is
responsible for processing purchase and redemption requests for the securities
of each Fund as well as the recordkeeping of ownership of each Fund's
securities, payment of dividends and the issuance of confirmations of
transactions and annual statements to shareholders. The First National Bank of
Boston and Forum Financial Corp. do not exercise any supervisory functions over
the management of the Funds or the purchase and sale of securities.
LEGAL COUNSEL. Bingham, Dana & Gould LLP, with offices at 150 Federal Street,
Boston, MA 02110, serves as counsel to the Funds.
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<PAGE>
INDEPENDENT ACCOUNTANTS. Coopers & Lybrand L.L.P., One Post Office Square,
Boston, MA 02109 are the independent accountants for the Funds. They are
responsible for performing an audit of each Fund's year-end financial statements
as well as providing accounting and tax advice to the management of the Funds.
DISTRIBUTION OF SHARES
Forum Financial Services, Inc. acts as distributor for the Funds pursuant to a
Distribution Agreement. Unless otherwise terminated, the Distribution Agreement
remains in effect from year to year upon annual approval by the Board of
Trustees, or by the vote of a majority of the outstanding voting securities of
the respective Fund and by the vote of a majority of the Board of Trustees who
are not parties to the Agreement or interested persons of any such party, cast
in person at a meeting called for the purpose of voting on such approval. The
Distribution Agreement will terminate in the event of its assignment, as defined
in the 1940 Act and may be terminated on not less than 60 days' written notice.
As set forth in the Prospectus, the Funds have adopted a Service and
Distribution Plan (the "Plan") pursuant to Rule 12b-1 under the 1940 Act. The
Plan authorizes payments by the Funds in connection with the distribution of
their shares at an annual rate, as determined from time to time by the Board of
Trustees, of up to .25% of each Fund's average daily net assets.
The Plan was adopted in anticipation that the Funds will benefit from the Plan
through increased sales of shares of each Fund, thereby reducing each Fund's
expense ratio and providing an asset size that allows the Adviser greater
flexibility in management. The Plan may be terminated at any time as to any Fund
by a vote of the Trustees of the Funds who are not interested persons of the
Funds and who have no direct or indirect financial interest in the Plan or any
agreement related thereto (the "Rule 12b-1 Trustees") or by a vote of a majority
of the outstanding shares of that Fund. Any change in the Plan that would
materially increase the distribution expenses of any Fund provided for in the
Plan requires approval of the shareholders of that Fund and the Board of
Trustees, including the Rule 12b-1 Trustees.
While the Plan is in effect, the selection and nomination of directors who are
not interested persons of the Funds will be committed to the discretion of the
Trustees of the Funds who are not interested persons of the Funds. The Board of
Trustees must review the amount and purposes of expenditures pursuant to the
Plan quarterly as reported to it by the officers of the Company. Unless
otherwise terminated, the Plan will continue in effect for as long as its
continuance is specifically approved at least annually by the Board of Trustees,
including the Rule 12b-1 Trustees.
PORTFOLIO TRANSACTIONS AND BROKERAGE
The Adviser is responsible for decisions to buy and sell securities for each
Fund, for the placement of its portfolio business and the negotiation of the
commissions to be paid on such transactions, subject to the supervision of the
Company's Board of Trustees. It is the policy of the Adviser to seek the best
execution at the best security price available with respect to each transaction,
in light of the overall quality of brokerage and research services provided to
the Adviser.
The Adviser will place orders pursuant to its investment determination for the
Funds either directly with the issuer or with any broker or dealer. In executing
portfolio transactions and selecting brokers or dealers, the Adviser will use
its best effort to seek on behalf of a Fund the best overall terms available. In
selecting brokers and assessing the best overall terms available for any
transaction, the Adviser shall consider all factors that it deems relevant,
including the breadth of the market in the security, the price of the security,
the financial condition and execution capability of the broker or dealer, and
reasonableness of the commission, if any, both for the specific transaction and
on a continuing basis. The most favorable price to a Fund means the best net
price without regard to the mix between purchase or sale price and commission,
if any. Over-the-counter securities are generally purchased or sold directly
with principal market makers who retain the difference in their cost in the
security and its selling price. In some instances, the Adviser may determine
that better prices are available from non-principal market makers who are paid
commissions directly.
17
<PAGE>
In evaluating the best overall terms available, and in selecting the broker-
dealer to execute a particular transaction, the Adviser may also consider the
brokerage and research services (as those terms are defined in Section 28(e) of
the Securities Exchange Act of 1934) provided to the Funds and/or other accounts
over which the Adviser or an affiliate of the Adviser exercises investment
discretion. While the Adviser believes these services have substantial value,
they are considered supplemental to its own efforts in the performance of its
duties. Other clients of the Adviser may indirectly benefit from the
availability of these services to the Adviser, and the Funds may indirectly
benefit from services available to the Adviser as a result of transactions for
other clients. The Adviser is authorized to pay to a broker or dealer who
provides such brokerage and research services a commission for executing a
portfolio transaction for a Fund which is in excess of the amount of commission
another broker or dealer would have charged for effecting that transaction if,
but only if, the Adviser determines in good faith that such commission was
reasonable in relation to the value of the brokerage and research services
provided by such broker or dealer - viewed in terms of that particular
transaction or in terms of the overall responsibilities the Adviser has to the
Funds. In no instance, however, will portfolio securities be purchased from or
sold to the Adviser, or any affiliated person of either the Company or the
Adviser, acting as principal in the transaction, except to the extent permitted
by the Securities and Exchange Commission through rules, regulations, decisions
and no-action letters.
The Adviser may retain advisory clients in addition to the Funds and place
portfolio transactions for these accounts. Research services furnished by firms
through which the Funds effect their securities transactions may be used by the
Adviser in servicing all of its accounts; not all of such services may be used
by the Adviser in connection with the Funds. In the opinion of the Adviser, it
will not be possible to separately measure the benefits from research services
to each of the accounts (including the Funds) to be managed by the Adviser.
Because the volume and nature of the trading activities of the accounts will not
be uniform, the amount of commissions in excess of those charged by another
broker paid by each account for brokerage and research services will vary.
However, such costs to the Funds will not, in the opinion of the Adviser, be
disproportionate to the benefits to be received by the Funds on a continuing
basis.
The Adviser intends to seek to allocate portfolio transactions equitably among
its accounts whenever concurrent decisions are made to purchase or sell
securities by a Fund and another advisory account. In some cases, this procedure
could have an adverse effect on the price or the amount of securities available
to a Fund. In making such allocations between a Fund and other advisory
accounts, if any, the main factors to be considered by the Adviser will be the
respective investment objectives, the relative size of portfolio holdings of the
same or comparable securities, the availability of cash for investment, the size
of investment commitments generally held, and the opinions of the persons
responsible for recommending the investment.
TAXES
GENERAL. In order to qualify for treatment as a regulated investment company
("RIC") under the Code, each Fund must distribute to its shareholders for each
taxable year at least 90% of its investment company taxable income (consisting
generally of net investment income, net short-term capital gain and net gains
from certain foreign currency transactions) and must meet several additional
requirements.
Dividends and other distributions declared by a Fund in, and payable to
shareholders of record as of a date in, October, November or December of any
year will be deemed to have been paid by the Fund and received by the
shareholders on December 31 of that year if the distributions are paid by the
Fund during the following January. Accordingly, those distributions will be
taxed to shareholders for the year in which that December 31 falls.
A portion of the dividends from a Fund's investment company taxable income
(whether paid in cash or reinvested in additional Fund shares) may be eligible
for the dividends-received deduction allowed to corporations. The eligible
portion may not exceed the aggregate dividends received by a Fund from U.S.
corporations. However, dividends received by a corporate shareholder and
deducted by it pursuant to the dividends-received deduction are subject to the
alternative minimum tax.
If shares of a Fund are sold at a loss after being held for six months or less,
the loss will be treated as long-term, instead of short-term, capital loss to
the extent of any capital gain distributions received on those shares. Investors
18
<PAGE>
also should be aware that if shares are purchased shortly before the record date
for any distribution, the shareholder will pay full price for the shares and
receive some portion of the price back as a taxable dividend or capital gain
distribution.
FOREIGN TAXES. Dividends and interest received by the Funds may be subject to
income, withholding, or other taxes imposed by foreign countries that would
reduce the yield on each Fund's portfolio securities. Tax conventions between
certain countries and the United States may reduce or eliminate these foreign
taxes, however, and many foreign countries do not impose taxes on capital gains
in respect of investments by foreign investors. If more than 50% of the value of
a Fund's total assets at the close of its taxable year consists of securities of
foreign corporations, the Fund will be eligible to, and may, file an election
with the Internal Revenue Service that will enable its shareholders, in effect,
to receive the benefit of the foreign tax credit with respect to any foreign
income taxes paid by it. Pursuant to the election, the Fund will treat those
taxes as dividends paid to its shareholders and each shareholder will be
required to (1) include in gross income, and treat as paid by him, his
proportionate share of those taxes, (2) treat his share of those taxes and of
any dividend paid by the Fund that represents income from foreign sources as his
own income from those sources, and (3) either deduct the taxes deemed paid by
him in computing his taxable income or, alternatively, use the foregoing
information in calculating the foreign tax credit against his federal income
tax. Each Fund will report to its shareholders shortly after each taxable year
their respective shares of the Fund's income from sources within, and taxes paid
to, foreign countries if it makes this election.
PASSIVE FOREIGN INVESTMENT COMPANIES. If a Fund acquires stock in certain non-
U.S. corporations that receive at least 75% of their annual gross income from
passive sources (such as sources that produce interest, dividends, rental,
royalty or capital gain income) or hold at least 50% of their assets in such
passive sources ("passive foreign investment companies"), the Fund could be
subject to federal income tax and additional interest charges on "excess
distributions" received from such companies or gains from the sale of stock in
such companies, even if all income or gain actually received by the Fund is
timely distributed to its shareholders. The Fund would not be able to pass
through to its shareholders any credit or deduction for such tax. In some cases,
elections may be available that would ameliorate these adverse tax consequences,
but such elections would require the Fund to include certain amounts as income
or gain (subject to the distribution requirements described above) without a
concurrent receipt of cash and could result in the conversion of capital gain to
ordinary income. A Fund may limit its investments in passive foreign investment
companies or dispose of such investments if potential adverse tax consequences
are deemed material in particular situations.
NON U.S. SHAREHOLDERS. Distributions of net investment income by a Fund to a
shareholder who, as to the United States, is a nonresident alien individual,
nonresident alien fiduciary of a trust or estate, foreign corporation, or
foreign partnership ("foreign shareholder") will be subject to U.S. withholding
tax at a rate of 30% (or lower treaty rate). Withholding will not apply if a
dividend paid by a Fund to a foreign shareholder is "effectively connected with
the conduct of a U.S. trade or business," in which case the reporting and
withholding requirements applicable to domestic taxpayers will apply.
Distributions of net capital gain are not subject to withholding, but in the
case of a foreign shareholder who is a nonresident alien individual, such
distributions ordinarily will be subject to U.S. income tax at a rate of 30% (or
lower treaty rate) if the individual is physically present in the United States
for more than 182 days during the taxable year and the distributions are
attributable to a fixed place of business maintained by an individual in the
United States.
The foregoing is a general and abbreviated summary of certain U.S. federal
income tax considerations affecting such Fund and its shareholders. Investors
are urged to consult their own tax advisers for more detailed information and
for information regarding any foreign, state and local taxes applicable to
distributions received from a Fund.
DESCRIPTION OF SHARES
The Company's Declaration of Trust permits the Board of Trustees to issue an
unlimited number of full and fractional Shares of Beneficial Interest ($0.0001
par value) of each series and to divide or combine the shares of any series into
a greater or lesser number of shares of that series without thereby changing the
proportionate beneficial
19
<PAGE>
interests in that series. Currently, the Funds are the only two series of shares
of the Company. Each share represents an equal proportionate interest in a Fund
with each other share.
Upon liquidation or dissolution of a Fund, the Fund's shareholders are entitled
to share pro rata in the Fund's net assets available for distribution to its
shareholders. The Company reserves the right to create and issue additional
series of shares. Shares of each series participate equally in the earnings,
dividends and distribution of net assets of the particular series upon the
liquidation or dissolution of the series. Shares of each series are entitled to
vote separately to approve advisory agreements or changes in investment policy,
but shares of all series may vote together in the election or selection of
Trustees and accountants for the Company. In matters affecting only a particular
Fund, only shares of that Fund are entitled to vote.
Shareholders are entitled to one vote for each share held on matters on which
they are entitled to vote. Shareholders in the Company do not have cumulative
voting rights, and shareholders owning more than 50% of the outstanding shares
of the Company may elect all of the Trustees of the Company if they choose to do
so and in such event the other shareholders in the Company would not be able to
elect any Trustee. The Company is not required and has no present intention of
holding annual meetings of shareholders but the Company will hold special
meetings of a Fund's shareholders when in the judgment of the Company's Trustees
it is necessary or desirable to submit matters for a shareholder vote.
Shareholders have under certain circumstances (e.g., upon application and
submission of certain specified documents to the Trustees by a specified number
of shareholders) the right to communicate with other shareholders in connection
with requesting a meeting of shareholders for the purpose of removing one or
more Trustees. Shareholders also have the right to remove one or more Trustees
without a meeting by a declaration in writing by a specified number of
shareholders. No material amendment may be made to the Company's Declaration of
Trust without the affirmative vote of the holders of a majority of its
outstanding shares.
The Company may enter into a merger or consolidation, or sell all or
substantially all of its assets (or all or substantially all of the assets
belonging to any series of the Company), if approved by the vote of the holders
of two-thirds of the Company's outstanding shares voting as a single class, or
of the affected series of the Company, as the case may be, except that if the
Trustees of the Company recommend such sale of assets, merger or consolidation,
the approval by vote of the holders of a majority of the Company's or the
affected series' outstanding shares would be sufficient. The Company or any
series of the Company, as the case may be, may be terminated (i) by a vote of a
majority of the outstanding voting securities of the Company or the affected
series or (ii) by the Trustees by written notice to the shareholders of the
Company or the affected series. If not so terminated, the Company will continue
indefinitely.
Share certificates will not be issued.
The Company is an entity of the type commonly known as a "Massachusetts business
trust." Under Massachusetts law, shareholders of such a business trust may,
under certain circumstances, be held personally liable as partners for its
obligations and liabilities. However, the Declaration of Trust contains an
express disclaimer of shareholder liability for acts or obligations of the
Company and provides for indemnification and reimbursement of expenses out of
Company property for any shareholder held personally liable for the obligations
of the Company. The Declaration of Trust also provides that the Company may
maintain appropriate insurance (e.g., fidelity bonding and errors and omissions
insurance) for the protection of the Company, its shareholders, Trustees,
officers, employees and agents covering possible tort and other liabilities.
Thus, the risk of a shareholder incurring financial loss on account of
shareholder liability is limited to circumstances in which both inadequate
insurance existed and the Company itself was unable to meet its obligations.
The Company's Declaration of Trust further provides that obligations of the
Company are not binding upon the Trustees individually but only upon the
property of the Company and that the Trustees will not be liable for any action
or failure to act, but nothing in the Declaration of Trust protects a Trustee
against any liability to which he or she would otherwise be subject by reason of
willful misfeasance, bad faith, gross negligence, or reckless disregard of the
duties involved in the conduct of his or her office.
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<PAGE>
INDIVIDUAL RETIREMENT ACCOUNTS
Individuals who receive compensation or earned income, even if they are active
participants in a qualified retirement plan (or certain similar retirement
plans), may establish their own tax-sheltered Individual Retirement Account
("IRA"). The Funds offer a prototype IRA plan which may be adopted by
individuals. There is currently no charge for establishing an account, although
there is an annual maintenance fee.
Earnings on amounts held in an IRA are not taxed until withdrawal. However, the
amount of deduction, if any, allowed for IRA contributions is limited for
individuals who are active participants in an employer-maintained retirement
plan and whose incomes exceed specific limits.
A description of applicable service fees and certain limitations on
contributions and withdrawals, as well as application forms, are available from
the transfer agent upon request by calling, toll free, 1-888-557-3200. The IRA
documents contain a disclosure statement which the Internal Revenue Service
requires to be furnished to individuals who are considering adopting the IRA.
Because a retirement program involves commitments covering future years, it is
important that the investment objective of the Funds be consistent with the
participant's retirement objectives. Premature withdrawals from a retirement
plan will result in adverse tax consequences. Consultation with a competent
financial and tax adviser regarding the foregoing retirement plans is
recommended.
PERFORMANCE INFORMATION
The Funds may from time to time advertise performance data such as "average
annual total return" and "total return." To facilitate the comparability of
historical performance data from one mutual fund to another, the SEC has
developed guidelines for the calculation of average annual total return.
The average annual total return for a Fund for a specific period is found by
first taking a hypothetical $1,000 investment ("initial investment") in the
Fund's shares on the first day of the period and computing the "redeemable
value" of that investment at the end of the period. The redeemable value is then
divided by the initial investment, and this quotient is taken to the Nth root (N
representing the number of years in the period) and 1 is subtracted from the
result, which is then expressed as a percentage. The calculation assumes that
all income and capital gains dividends paid by the Fund have been reinvested at
net asset value on the reinvestment dates during the period. This calculation
can be expressed as follows:
N
P(1 + T) = ERV
Where: T = average annual total return.
ERV = ending redeemable value at the end of the period
covered by the computation of a hypothetical $1,000
payment made at the beginning of the period.
P = hypothetical initial payment of $1,000.
N = number of years.
Total return performance for a specific period is calculated by first taking an
investment ("initial investment") in a Fund's shares on the first day of the
period and computing the "ending value" of that investment at the end of the
period. The total return percentage is then determined by subtracting the
initial investment from the ending value and dividing the remainder by the
initial investment and expressing the result as a percentage. The calculation
assumes that all income and capital gains dividends paid by the Fund have been
reinvested at net asset value on the reinvestment dates during the period. Total
return may also be shown as the increased dollar value of the investment
21
<PAGE>
over the period or as a cumulative total return which represents the change in
value of an investment over a stated period and may be quoted as a percentage or
as a dollar amount.
The calculations of average annual total return and aggregate total return
assume the reinvestment of all dividends and capital gain distributions on the
reinvestment dates during the period. The ending redeemable value is determined
by assuming complete redemption of the hypothetical investment and the deduction
of all nonrecurring charges at the end of the period covered by the
computations.
The Funds' performance figures will be based upon historical results and will
not necessarily be indicative of future performance. The Funds' returns and net
asset value will fluctuate and the net asset value of shares when sold may be
more or less than their original cost. Any additional fees charged by a dealer
or other financial services firm would reduce the returns described in this
section.
From time to time, in marketing and other literature, the Funds' performance may
be compared to the performance of other mutual funds in general or to the
performance of particular types of mutual funds with similar investment goals,
as tracked by independent organizations. Among these organizations, Lipper
Analytical Services, Inc. ("Lipper"), a widely used independent research firm
which ranks mutual funds by overall performance, investment objective and
assets, may be cited. Lipper performance figures are based on changes in net
asset value, with all income and capital gains dividends reinvested. Such
calculations do not include the effect of any sales charges imposed by other
funds. The Funds will be compared to Lipper's appropriate fund category, that
is, by fund objective and portfolio holdings.
The Funds' performance may also be compared to the performance of other mutual
funds by Morningstar, Inc., which ranks funds on the basis of historical risk
and total return. Morningstar's rankings range from five stars (highest) to one
star (lowest) and represent Morningstar's assessment of the historical risk
level and total return of a fund as a weighted average for 3, 5, and 10 year
periods. Ranking are not absolute or necessarily predictive of future
performance.
Evaluations of Fund performance made by independent sources may also be used in
advertisements concerning the Funds, including reprints of or selections from,
editorials or articles about the Funds. Sources for Fund performance and
articles about the Funds may include publications such as Money, Forbes,
Kiplinger's, Financial World, Business Week, U.S. News and World Report, the
Wall Street Journal, Barron's and a variety of investment newsletters.
The Funds may compare their performance to a wide variety of indices and
measures of inflation including the Standard & Poor's Index of 500 Stocks and
the NASDAQ Over-the-Counter Composite Index. There are differences and
similarities between the investments that the Funds may purchase for their
respective portfolios and the investments measured by these indices.
Occasionally statistics may be used to specify a Fund's volatility or risk.
Measures of volatility or risk are generally used to compare a Fund's net asset
value or performance relative to a market index. One measure of volatility is
beta. Beta is the volatility of a fund relative to the total market as
represented by the Standard & Poor's 500 Stock Index. A beta of more than 1.00
indicates volatility greater than the market, and a beta of less than 1.00
indicates volatility less than the market. Another measure of volatility or risk
is standard deviation. Standard deviation is used to measure variability of net
asset value or total return around an average, over a specified period of time.
The premise is that greater volatility connotes greater risk undertaken in
achieving performance.
Marketing and other Company literature may include a description of the
potential risks and rewards associated with an investment in the Funds. The
description may include a "risk/return spectrum" which compares a Fund to other
Highland Funds or broad categories of funds, such as money market, bond or
equity funds, in terms of potential risks and returns. Risk/return spectrums
also may depict funds that invest in both domestic and foreign securities or a
combination of bond and equity securities. Money market funds are designed to
maintain a constant $1.00 share price and have a fluctuating yield. Share price,
yield and total return of a bond fund will fluctuate. The share price and return
of an equity fund also will fluctuate. The description may also compare a Fund
to bank products, such as
22
<PAGE>
certificates of deposit. Unlike mutual funds, certificates of deposit are
insured up to $100,000 by the U.S. government and offer a fixed rate of return.
PURCHASE, EXCHANGE AND REDEMPTION OF SHARES; DETERMINATION OF NET ASSET VALUE
As set forth in the Prospectus, the net asset value of the Funds will be
determined as of the close of trading on each day the New York Stock Exchange is
open for trading. The New York Stock Exchange is open for trading Monday through
Friday except New Year's Day, Presidents' Day, Good Friday, Memorial Day,
Independence Day, Labor Day, Thanksgiving Day, and Christmas Day. Additionally,
if any of the aforementioned holidays falls on a Saturday, the New York Stock
Exchange will not be open for trading on the preceding Friday, and when any such
holiday falls on a Sunday, the New York Stock Exchange will not be open for
trading on the following Monday unless unusual business conditions exist, such
as the ending of a monthly or the yearly accounting period.
OTHER INFORMATION
It is possible that conditions may exist in the future which would, in the
opinion of the Board of Directors, make it undesirable for a Fund to pay for
redemptions in cash. In such cases the Board may authorize payment to be made in
portfolio securities of a Fund. Securities delivered in payment of redemptions
are valued at the same value assigned to them in computing the net asset value
per share. Shareholders receiving such securities generally will incur brokerage
costs when selling such securities.
The Prospectus and this Statement of Additional Information do not contain all
the information included in the Registration Statement filed with the Commission
under the Securities Act with respect to the securities offered by the Funds'
Prospectus. Certain portions of the Registration Statement have been omitted
from the Prospectus and this Statement of Additional Information, pursuant to
the rules and regulations of the Commission. The Registration Statement
including the exhibits filed therewith may be examined at the office of the
Commission in Washington, D.C.
Statements contained in the Prospectus or in this Statement of Additional
Information as to the contents of any contract or other documents referred to
are not necessarily complete, and in each instance reference is made to the copy
of such contract or other document filed as an exhibit to the Registration
Statement of which the Prospectus and this Statement of Additional Information
form a part, each such statement being qualified in all respects by such
reference.
SHAREHOLDINGS
As of September 30, 1997, the officers and Trustees of the Trust as a group
owned 12,286.4 or 27.9% of the outstanding shares of the Highland Growth Fund.
Also as of that date, the shareholders listed below owned more than 5% of the
Fund. Shareholders owning 25% or more of the shares of a Fund or of the Trust as
a whole may be deemed to be controlling persons. By reason of their substantial
holdings of shares, these persons may be able to require the Trust to hold a
shareholder meeting to vote on certain issues and may be able to determine the
outcome of any shareholder vote. As noted, certain of these shareholders are
known to the Trust to hold their shares of record only and have no beneficial
interest, including the right to vote, in the shares.
23
<PAGE>
PERCENTAGE OF
SHAREHOLDER HIGHLAND GROWTH
- ----------- FUND SHARES OWNED
-----------------
Bank of Boston IRA Custody
FBO Robert Lamb III
9 Cedar Hills
Weston, Connecticut 06883 22.8%
Perry W. Skjelbred
One Baldwin Place
Westport, Connecticut 06880 22.65%
Bank of Boston IRA Custody
FBO Stephen Smith
14 Ferncliff Road
Cos Cob, Connecticut 06807 13.11%
FINANCIAL STATEMENTS
The unaudited financial statements of the Highland Growth Fund for the period
May 13, 1997 through August 31, 1997, including Statement of Assets and
Liabilities, Statement of Operations, Statement of Changes in Net Assets, Notes
thereto and Financial Highlights, are set forth in Appendix B to this SAI.
Also set forth in appendix B to this SAI are the audited Statement of Assets and
Liabilities of the Fund as of March 26, 1997, notes thereto and the Independent
Auditors Report of Coopers & Lybrand L.L.P., dated March 27, 1997.
As the Highland Aggressive Growth Fund had not as of the date hereof commenced
operations, no financial statements are available.
24
<PAGE>
APPENDIX A
Commercial Paper Ratings
A Standard & Poor's commercial paper rating is a current assessment of the
likelihood of timely payment of debt having an original maturity of no more than
365 days. The following summarizes the rating categories used by Standard &
Poor's for commercial paper in which the Funds may invest:
"A-1" - Issue's degree of safety regarding timely payment is strong. Those
issues determined to possess extremely strong safety characteristics are denoted
"A-1+."
"A-2" - Issue's capacity for timely payment is satisfactory. However, the
relative degree of safety is not as high as for issues designated "A-1."
Moody's commercial paper ratings are opinions of the ability of issuers to repay
punctually promissory obligations not having an original maturity in excess of 9
months. The following summarizes the rating categories used by Moody's for
commercial paper in which the Funds may invest:
"Prime-1" - Issuer or related supporting institutions are considered to have a
superior capacity for repayment of short-term promissory obligations. Prime-1
repayment capacity will normally be evidenced by the following capacities:
leading market positions in well-established industries; high rates of return on
funds employed; conservative capitalization structures with moderate reliance on
debt and ample asset protection; broad margins in earning coverage of fixed
financial charges and high internal cash generation; and well-established access
to a range of financial markets and assured sources of alternate liquidity.
"Prime-2" - Issuer or related supporting institutions are considered to have a
strong capacity for repayment of short-term promissory obligations. This will
normally be evidenced by many of the characteristics cited above but to a lesser
degree. Earnings trends and coverage ratios, while sound, will be more subject
to variation. Capitalization characteristics, while still appropriate, may be
more affected by external conditions. Ample alternative liquidity is maintained.
The three rating categories of Duff & Phelps for investment grade commercial
paper are "Duff 1," "Duff 2" and "Duff 3." Duff & Phelps employs three
designations, "Duff 1+," "Duff 1" and "Duff 1-," within the highest rating
category. The following summarizes the rating categories used by Duff & Phelps
for commercial paper in which the Funds may invest:
"Duff 1+" - Debt possesses highest certainty of timely payment. Short-term
liquidity, including internal operating factors and/or access to alternative
sources of funds, is outstanding, and safety is just below risk-free U.S.
Treasury short-term obligations.
"Duff 1" - Debt possesses very high certainty of timely payment. Liquidity
factors are excellent and supported by good fundamental protection factors. Risk
factors are minor.
"Duff 1-" - Debt possesses high certainty of timely payment. Liquidity factors
are strong and supported by good fundamental protection factors. Risk factors
are very small.
"Duff 2" - Debt possesses good certainty of timely payment. Liquidity factors
and company fundamentals are sound. Although ongoing funding need may enlarge
total financing requirements, access to capital markets is good.
Fitch short-term ratings apply to debt obligations that are payable on demand or
have original maturities of up to three years. The highest rating category of
Fitch for short-term obligations is "F-1." Fitch employs two designations, "F-
1+" and "F-1," within the highest category. The following summarizes the rating
categories used by Fitch for short-term obligations in which the Funds may
invest:
A-1
<PAGE>
"F-1+" - Securities possess exceptionally strong credit quality. Issues assigned
this rating are regarded as having the strongest degree of assurance for timely
payment.
"F-1" - Securities possess very strong credit quality. Issues assigned this
rating reflect an assurance of timely payment only slightly less in degree than
issues rated "F-1+."
Fitch may also use the symbol "LOC" with its short-term ratings to indicate that
the rating is based upon a letter of credit issued by a commercial bank.
Thomson BankWatch short-term ratings assess the likelihood of an untimely or
incomplete payment of principal or interest of unsubordinated instruments having
a maturity of one year or less which are issued by a bank holding company or an
entity within the holding company structure. The following summarizes the
ratings used by Thomson BankWatch in which the Funds may invest:
"TBW-1" - This designation represents Thomson BankWatch's highest rating
category and indicates a very high degree of likelihood that principal and
interest will be paid on a timely basis.
"TBW-2" - this designation indicates that while the degree of safety regarding
timely payment of principal and interest is strong, the relative degree of
safety is not as high as for issues rated "TBW-1."
IBCA assesses the investment quality of unsecured debt with an original maturity
of less than one year which is issued by bank holding companies and their
principal bank subsidiaries. The following summarizes the rating categories used
by IBCA for short-term debt ratings in which the Funds may invest:
"A1" - Obligations are supported by the highest capacity for timely repayment.
Where issues possess a particularly strong credit feature, a rating of A1+ is
assigned.
"A2" - Obligations are supported by a good capacity for timely repayment.
Corporate Long-Term Debt Ratings
Standard & Poor's Debt Ratings
A Standard & Poor's corporate or municipal debt rating is a current assessment
of the creditworthiness of an obligor with respect to a specific obligation.
This assessment may take into consideration obligors such as guarantors,
insurers, or lessees. The debt rating is not a recommendation to purchase, sell,
or hold a security, inasmuch as it does not comment as to market price or
suitability for a particular investor.
The ratings are based on current information furnished by the issuer or obtained
by S&P from other sources it considers reliable. S&P does not perform an audit
in connection with any rating and may, on occasion, rely on unaudited financial
information. The ratings may be changed, suspended, or withdrawn as a result of
changes in, or unavailability of, such information, or for other circumstances.
The ratings are based, in varying degrees, on the following considerations:
1. Likelihood of default - capacity and willingness of the obligor as to the
timely payment of interest and repayment of principal in accordance with the
terms of the obligation.
2. Nature of and provisions of the obligation.
3. Protection afforded by, and relative position of, the obligation in the event
of bankruptcy, reorganization, or other arrangement under the laws of bankruptcy
and other laws affecting creditors' rights.
Investment Grade
A-2
<PAGE>
AAA - Debt rated 'AAA' has the highest rating assigned by Standard & Poor's.
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 highest rated issues only in small degree.
A - Debt rated 'A' has a 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 in higher rated categories.
Speculative Grade
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 risk 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 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 - Debt rated 'CC' typically is applied to debt subordinated to senior debt
that is assigned an actual or implied 'CCC' rating.
C - Debt rated 'C' typically is applied to debt subordinated to senior debt
which is assigned an actual or implied 'CCC-' debt rating. The 'C' rating may be
used to cover a situation where a bankruptcy petition has been filed, but debt
service payments are continued.
CI - The rating 'CI' 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 period. The 'D' rating also will be used upon the
filing of a bankruptcy petition if debt service payments are jeopardized.
Moody's Long-Term Debt Ratings
A-3
<PAGE>
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 fluctuation of protective elements
may be of greater amplitude or there may be other elements present which make
the long-term risk 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.
Fitch Investors Service, Inc. Bond Ratings
Fitch investment grade bond ratings provide a guide to investors in determining
the credit risk associated with a particular security. The ratings represent
Fitch's assessment of the issuer's ability to meet the obligations of a specific
debt issue or class of debt in a timely manner.
The rating takes into consideration special features of the issue, its
relationship to other obligations of the issuer, the current and prospective
financial condition and operating performance of the issuer and any guarantor,
as well as the economic and political environment that might affect the issuer's
future financial strength and credit quality.
Fitch ratings do not reflect any credit enhancement that may be provided by
insurance policies or financial guaranties unless otherwise indicated.
Bonds that have the same rating are of similar but not necessarily identical
credit quality since the rating categories do not fully reflect small
differences in the degrees of credit risk.
A-4
<PAGE>
Fitch ratings are not recommendations to buy, sell, or hold any security.
Ratings do not comment on the adequacy of market price, the suitability of any
security for a particular investor, or the tax-exempt nature of taxability of
payments made in respect of any security.
Fitch ratings are based on information obtained from issuers, other obligors,
underwriters, their experts, and other sources Fitch believes to be reliable.
Fitch does not audit or verify the truth or accuracy of such information.
Ratings may be changed, suspended, or withdrawn as a result of changes in, or
the unavailability of, information or for other reasons.
AAA Bonds considered to be investment grade and of the highest credit quality.
The obligor has an exceptionally strong ability to pay interest and repay
principal, which is unlikely to be affected by reasonably foreseeable events.
AA Bonds considered to be investment grade and of very high credit quality. The
obligor's ability to pay interest and repay principal is very strong, although
not quite as strong as bonds rated 'AAA.' Because bonds rated in the 'AAA' and
'AA' categories are not significantly vulnerable to foreseeable future
developments, short-term debt of the issuers is generally rated 'F-1+.'
A Bonds considered to be investment grade and of high credit quality. The
obligor's ability to pay interest and repay principal is considered to be
strong, but may be more vulnerable to adverse changes in economic conditions and
circumstances than bonds with higher ratings.
BBB Bonds considered to be investment grade and of satisfactory credit quality.
The obligor's ability to pay interest and repay principal is considered to be
adequate. Adverse changes in economic conditions and circumstances, however, are
more likely to have adverse impact on these bonds, and therefore impair timely
payment. The likelihood that the ratings of these bonds will fall below
investment grade is higher than for bonds with higher ratings.
Fitch speculative grade bond ratings provide a guide to investors in determining
the credit risk associated with a particular security. The ratings ('BB to 'C')
represent Fitch's assessment of the likelihood of timely payment of principal
and interest in accordance with the terms of obligation for bond issues not in
default. For defaulted bonds, the rating ('DDD' to 'D') is an assessment of the
ultimate recovery value through reorganization or liquidation.
The rating takes into consideration special features of the issue, its
relationship to other obligations of the issuer, the current and prospective
financial condition and operating performance of the issuer and any guarantor,
as well as the economic and political environment that might affect the issuer's
future financial strength.
Bonds that have the same rating are of similar but not necessarily identical
credit quality since the rating categories cannot fully reflect the differences
in the degrees of credit risk. Moreover, the character of the risk factor varies
from industry to industry and between corporate, health care and municipal
obligations.
BB Bonds are considered speculative. The obligor's ability to pay interest and
repay principal may be affected over time by adverse economic changes. However,
business and financial alternatives can be identified which could assist the
obligor in satisfying its debt service requirements.
B Bonds are considered highly speculative. While bonds in this class are
currently meeting debt service requirements, the probability of continued timely
payment of principal and interest reflects the obligor's limited margin of
safety and the need for reasonable business and economic activity throughout the
life of the issue.
CCC Bonds have certain identifiable characteristics which, if not remedied, may
lead to default. The ability to meet obligations requires an advantageous
business and economic environment.
CC Bonds are minimally protected. Default in payment of interest and/or
principal seems probable over time.
C Bonds are in imminent default in payment of interest or principal.
A-5
<PAGE>
DDD, DD and D Bonds are in default on interest and/or principal payments. Such
bonds are extremely speculative and should be valued on the basis of their
ultimate recovery value in liquidation or reorganization of the obligor.
Duff & Phelps, Inc. Long-Term Debt Ratings
These ratings represent a summary opinion of the issuer's long-term fundamental
quality. Rating determination is based on qualitative and quantitative factors
which may vary according to the basic economic and financial characteristics of
each industry and each issuer. Important considerations are vulnerability to
economic cycles as well as risks related to such factors as competition,
government action, regulation, technological obsolescence, demand shifts, cost
structure, and management depth and expertise. The projected viability of the
obligor at the trough of the cycle is a critical determination.
Each rating also takes into account the legal form of the security (e.g., first
mortgage bonds, subordinated debt, preferred stock, etc.). The extent of rating
dispersion among the various classes of securities is determined by several
factors including relative weightings of the different security classes in the
capital structure, the overall credit strength of the issuer, and the nature of
covenant protection. Review of indenture restrictions is important to the
analysis of a company's operating and financial constraints.
The Credit Rating Committee formally reviews all ratings once per quarter (more
frequently, if necessary). Ratings of BBB- and higher fall within the definition
of investment grade securities, as defined by bank and insurance supervisory
authorities.
Rating Scale Definition
AAA Highest credit quality. The risk factors are
negligible, being only slightly more than for
risk-free U.S. Treasury debt.
AA+ High credit quality. Protection factors are AA
strong. Risk is modest, but may vary slightly
from AA-time to time because of economic
conditions.
A+ Protection factors are average but adequate. A
However, risk factors are more variable and
greater A-in periods of economic areas.
BBB+ Below average protection factors but still BBB
considered sufficient for prudent investment.
BBB-Considerable variability in risk during
economic cycles.
BB+ Below investment grade but deemed likely to meet
BB obligations when due. Present or prospective
BB-financial protection factors fluctuate
according to industry conditions or company
fortunes. Overall quality may move up or down
frequently within this
category.
B+ Below investment grade and possessing risk that
B obligations will not be met when due.
Financial B-protection factors will fluctuate
widely according to economic cycles.
A-6
<PAGE>
CCC Well below investment grade securities.
Considerable uncertainty exists as to timely
payment of principal, interest or preferred
dividends. Protection factors are narrow and risk
can be substantial with unfavorable
economic/industry conditions, and/or with
unfavorable company developments.
DD Default debt obligations. Issuer failed to meet
scheduled principal and/or interest payments.
DP Preferred stock with dividend arrearages.
A-7
<PAGE>
APPENDIX B
UNAUDITED FINANCIAL STATEMENTS -- HIGHLAND GROWTH FUND
AUGUST 31, 1997
FOUR TO SIX MONTH UPDATE
B-1
<PAGE>
HIGHLAND GROWTH FUND
STATEMENT OF ASSETS AND LIABILITIES
AUGUST 31, 1997 (UNAUDITED)
- --------------------------------------------------------------------------------
<TABLE>
<S> <C>
ASSETS:
Investments (Note 2):
Investments at cost $ 431,121
Net unrealized appreciation (depreciation) 30,755
-------------------
Total investments at value 461,876
Interest, dividends and other receivables 141
Receivable from investment adviser (Note 3) 61,313
Organization costs, net of amortization (Note 2) 46,241
-------------------
Total Assets 569,571
-------------------
LIABILITIES:
Payable to related parties (Note 3) 12,045
Accrued expenses and other liabilities 97,283
-------------------
Total Liabilities 109,328
-------------------
NET ASSETS $ 460,243
===================
COMPONENTS OF NET ASSETS
Paid in capital $ 429,324
Undistributed net investment income (loss) (631)
Accumulated net realized gain (loss) 795
Unrealized appreciation (depreciation) on investments 30,755
-------------------
NET ASSETS $ 460,243
===================
SHARES OF BENEFICIAL INTEREST 41,023
===================
NET ASSET VALUE AND REDEMPTION PRICE PER SHARE $ 11.22
===================
</TABLE>
B-2
<PAGE>
HIGHLAND GROWTH FUND
STATEMENT OF OPERATIONS
FOR THE PERIOD MAY 13, 1997 THROUGH AUGUST 31, 1997 (UNAUDITED)
- --------------------------------------------------------------------------------
<TABLE>
<S> <C>
INVESTMENT INCOME:
Interest income $ 862
Dividend income 281
--------------------
Total investment income 1,143
--------------------
EXPENSES:
Investment advisory (Note 3) 1,050
Management (Note 3) 12,045
Custody 746
Transfer agent (Note 3) 9,667
Insurance 22,000
Registration 20,107
Accounting (Note 3) 10,839
Legal 6,850
Audit 13,000
Directors fees and expenses 4,500
Reporting 4,189
Amortization of organization costs (Note 3) 2,963
Miscellaneous 2,852
--------------------
Total expenses 110,808
Fees waived and expenses reimbursed (Note 5) (109,034)
--------------------
Net expenses 1,774
--------------------
NET INVESTMENT INCOME (LOSS) (631)
--------------------
REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS
Net realized gain (loss) on investments 795
Net unrealized gain (loss) on investments 30,755
--------------------
NET REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS 31,550
--------------------
NET INCREASE (DECREASE) IN NET ASSETS RESULTING
FROM OPERATIONS $ 30,919
====================
</TABLE>
B-3
<PAGE>
HIGHLAND GROWTH FUND
STATEMENT OF CHANGES IN NET ASSETS
FOR THE PERIOD ENDED AUGUST 31, 1997 (UNAUDITED)
- --------------------------------------------------------------------------------
<TABLE>
<S> <C>
NET ASSETS - BEGINNING OF PERIOD (A) $ 100,000
- ------------------------------------
-------------------
OPERATIONS:
Net investment income (loss) $ (631)
Net realized gain (loss) on investments 795
Net change in unrealized appreciation (depreciation)
on investments 30,755
-------------------
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 30,919
-------------------
CAPITAL SHARE TRANSACTIONS (B):
Sale of shares 329,424
Redemption of shares (100)
-------------------
NET INCREASE (DECREASE) FROM CAPITAL TRANSACTIONS 329,324
-------------------
NET INCREASE (DECREASE) IN NET ASSETS 360,243
-------------------
NET ASSETS - AUGUST 31, 1997 (INCLUDING LINE C) $ 460,243
- -----------------------------------------------
===================
(a) See Note 1 of Notes to Financial Statements for date of commencement of
operations.
(b) Shares Issued (Redeemed)
Sale of shares 31,032
Redemption of shares (9)
-------------------
Net increase (decrease) in shares outstanding 31,023
===================
(c) Undistributed Net Investment Income (Loss) $ (631)
===================
</TABLE>
B-4
<PAGE>
HIGHLAND GROWTH FUND
FINANCIAL HIGHLIGHTS
FOR THE PERIOD ENDED AUGUST 31, 1997 (UNAUDITED)
- --------------------------------------------------------------------------------
SELECTED PER SHARE DATA AND RATIOS
FOR A SHARE OUTSTANDING
<TABLE>
<S> <C>
Net Asset Value, Beginning of Period $10.00(a)
-----------
Investment Operations
Net Investment Income (Loss) (0.02)
Net Realized and Unrealized Gain (Loss) on Investments 1.24
-----------
Total from Investment Operations 1.22
-----------
Net Asset Value, End of Period $11.22
===========
Total Return 12.20%(b)
Ratio/Supplementary Data:
Net Assets at End of Period (000's omitted) $460
Ratios to Average Net Assets:
Expenses including reimbursement/waiver 1.95%(c)
Expenses excluding reimbursement/waiver 121.41%(c)
Net investment income (loss) including reimbursement/waiver (0.69%(c))
Average Commission Rate (d) $ 0.2337
Portfolio Turnover Rate 1.43%
- ------------------------
</TABLE>
(a) See Note 1 of Notes to Financial Statements for date of commencement of
operations.
(b) Not annualized.
(c) Annualized.
(d) Amount represents the average commission per share paid to brokers on the
purchase or sale of equity securities.
B-5
<PAGE>
HIGHLAND GROWTH FUND
NOTES TO FINANCIAL STATEMENTS
AUGUST 31, 1997 (UNAUDITED)
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NOTE 1. ORGANIZATION
The Highland Family of Funds ("Company") is a diversified, open end, management
investment company registered under the Investment Company Act of 1940. The
Company is organized as a Massachusetts business trust pursuant to a Declaration
of Trust dated October 7, 1996. The Highland Growth Fund ("Fund") is a separate
series of the Company and currently the Company's only active series. The Fund
commenced operations on May 13, 1997.
NOTE 2. SIGNIFICANT ACCOUNTING POLICIES
These financial statements are prepared in accordance with generally accepted
accounting principles, which require management to make estimates and
assumptions that affect the reported amounts of assets and liabilities,
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of increase and decrease in net assets from
operations during the fiscal period. Actual results could differ from those
estimates.
The following represent significant accounting policies of the Fund:
SECURITY VALUATION - Securities held by the Fund for which market quotations are
readily available are valued using the last reported sales price provided by
independent pricing services. If no sales are reported, the mean of the last bid
and asked price is used. In the absence of readily available market quotations,
securities are valued at fair value as determined by the Board of Trustees.
Securities with a maturity of 60 days or less are valued at amortized cost.
INVESTMENT INCOME - Dividend income is recorded on the ex-dividend date.
Interest income is recorded on an accrual basis.
DISTRIBUTIONS TO SHAREHOLDERS - Dividends from net investment income and capital
gain distributions, if any, are distributed to shareholders at least annually.
Distributions are based on amounts calculated in accordance with applicable
federal income tax regulations.
FEDERAL TAXES - The Fund intends to qualify each year as a regulated investment
company and distribute all of its taxable income. In addition, by distributing
in each calendar year substantially all of its net investment income, capital
gain and certain other amounts, if any, the Fund will not be subject to a
federal excise tax.
Therefore, no federal income or excise tax provision is required.
REALIZED GAIN AND LOSS - Security transactions are recorded on a trade date
basis. Realized gain and loss on investments sold are recorded on the basis of
identified cost.
ORGANIZATIONAL COST - Costs incurred by the Fund in connection with its
organization and the initial offering of its shares have been deferred and will
be amortized on a straight-line basis over a period of five years from the date
the Fund commenced its investment activities. If any of the initial shares of
the Fund are redeemed during the amortization period, the redemption proceeds
will be reduced by any unamortized organization and registration expenses in the
same proportion as the number of shares being redeemed bears to the number of
initial shares outstanding at the time of such redemption.
B-6
<PAGE>
HIGHLAND GROWTH FUND
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
AUGUST 31, 1997 (UNAUDITED)
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NOTE 3. INVESTMENT ADVISORY AND OTHER SERVICES
INVESTMENT ADVISER - The investment adviser is Highland Investment Group L.P.
(the "Adviser"). Pursuant to an Investment Advisory Agreement, the Adviser
receives an advisory fee at an annual rate of 1.15% of the Fund's average daily
net assets.
ADMINISTRATION - Pursuant to an Administration Agreement, Forum Administrative
Services, Limited Liability Company ("FAS") acts as administrator for the Fund.
The Fund pays FAS an administration fee equal to 0.10% of the Fund's first $100
million and 0.05% thereafter on the average daily net assets. The minimum annual
fee payable for administration is $40,000.
DISTRIBUTION - Forum Financial Services, Inc.(R) ("FFSI") acts as the
distributor for the Fund pursuant to a Distribution Agreement.
OTHER SERVICES - Forum Financial Corp.(R) ("FFC") an affiliate of FAS and FFSI,
acts as the transfer agent and dividend disbursing agent for the Fund. FFC also
provides fund accounting services to the Fund pursuant to a Fund Accounting
Agreement.
NOTE 4. PURCHASES AND SALES OF SECURITIES
The cost of securities purchased and the proceeds from sales of securities
(excluding short-term investments) for the period ended August 31, 1997,
aggregated $444,388 and $16,358 respectively.
For federal income tax purposes, the tax basis of investment securities owned as
of August 31, 1997, was $431,121. The aggregate gross unrealized appreciation
for all securities in which there was an excess of market value over tax cost
was $42,990, and aggregate gross unrealized depreciation for all securities in
which there was an excess of tax cost over market value was $12,235.
NOTE 5. WAIVER OF FEES AND REIMBURSEMENT OF EXPENSES
The Adviser has agreed to waive a portion of its fee and/or assume certain
expenses of the Fund so that the total operating expenses of the Fund do not
exceed 1.95% of its average daily net assets until January 1, 1998. FAS and FFC
may waive voluntarily all or a portion of their fees, from time to time. For the
period ended August 31, 1997, the Adviser waived fees and reimbursed expenses of
$1,050 and $107,984, respectively.
B-7
<PAGE>
THE HIGHLAND FAMILY OF FUNDS
HIGHLAND GROWTH FUND
STATEMENT OF ASSETS AND LIABILITIES
MARCH 26, 1997
ASSETS:
Cash $100,000
Deferred organization expenses (Note 1B). 47,473
--------
Total assets 147,473
LIABILITIES:
Accrued organization expenses (Note 1B) 47,473
--------
NET ASSETS $100,000
--------
Shares Outstanding 10,000
--------
Net Asset Value, offering and redemption price per share
($100,000/10,000 shares outstanding) $10.00
------
The accompanying notes are an integral part of this statement.
<PAGE>
NOTES TO STATEMENT OF ASSETS AND LIABILITIES
Note 1 - Significant Accounting Policies:
(A) General: The Highland Family of Funds (the "Company") is a diversified, open
end management investment company registered under the Investment Company Act of
1940, as amended. The Company was established as a Massachusetts business trust
organized pursuant to a Declaration of Trust dated October 7, 1996. The Highland
Growth Fund (the "Fund") is a separate series of the Company. As of March 26,
1997, the Fund had no operations other than organizational matters and the
issuance and sale of initial shares to Robert Lamb III, President of Highland
Investment Group L.P., the Fund's investment adviser, on March 26, 1997.
(B) Organizational Expenses: Costs incurred by the Fund in connection with its
organization and the initial offering of its shares have been deferred and will
be amortized on a straight-line basis from the date upon which the Fund will
commence its investment activities, over a period of five years. In the event
that any of the initial shares of the Fund are redeemed during the amortization
period, the redemption proceeds will be reduced by any unamortized organization
and registration expenses in the same proportion as the number of shares being
redeemed bears to the number of initial shares outstanding at the time of such
redemption.
(C) Federal Taxes: The Fund intends to qualify for treatment as a regulated
investment company under the Internal Revenue Code and distribute all its
taxable income. In addition, by distributing in each calendar year substantially
all its net investment income, capital gains and certain other amounts, if any,
the Fund will not be subject to Federal excise tax. Therefore, no Federal income
or excise tax provision will be required.
<PAGE>
INDEPENDENT AUDITOR'S REPORT
To the Shareholders and Board of Trustees of The Highland Family of Funds:
We have audited the accompanying statement of assets and liabilities of the
Highland Growth Fund (the "Fund") (one of the funds constituting The Highland
Family of Funds) as of March 26, 1997. This financial statement is the
responsibility of the Fund's management. Our responsibility is to express an
opinion on this financial statement 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 statement is free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statement. 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 statement of assets and liabilities presents fairly, in all
material respects, the financial position of the Highland Growth Fund of The
Highland Family of Funds, as of March 26, 1997, in conformity with generally
accepted accounting principles.
Coopers & Lybrand L.L.P.
Boston, Massachusetts
March 27, 1997
