<PAGE>
As filed with the Securities and Exchange Commission on March 3, 1999
Securities Act File No. 333-70425
Investment Company Act File No. 811-09133
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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM N-2
[X] REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933
[X] PRE-EFFECTIVE AMENDMENT NO. 1
[_] POST-EFFECTIVE AMENDMENT NO.
AND/OR
[X] REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940
[X]
AMENDMENT NO. 4
(Check appropriate box or boxes)
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MuniHoldings Pennsylvania Insured Fund
(Exact Name of Registrant as Specified in Declaration of Trust)
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800 Scudders Mill Road
Plainsboro, New Jersey 08536
(Address of Principal Executive Offices)
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(609) 282-2800
(Registrant's Telephone Number, Including Area Code)
--------------
Arthur Zeikel
MuniHoldings Pennsylvania Insured Fund
800 Scudders Mill Road, Plainsboro, New Jersey 08536
Mailing Address: P.O. Box 9011, Princeton, New Jersey 08543-9011
(Name and Address of Agent for Service)
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Copies to:
Michael J. Hennewinkel, Esq. Frank P. Bruno, Esq.
Fund Asset Management, L.P. Brown & Wood LLP
P.O. Box 9011 One World Trade Center
Princeton, New Jersey 08543-9011 New York, New York 10048-0557
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Approximate date of proposed public offering: As soon as practicable after the
effective date of this Registration Statement.
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If any of the securities being registered on this form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, as amended (the "Securities Act"), other than securities offered only in
connection with dividend or interest reinvestment plans, check the following
box. [_]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following
box and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [_]
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration number of the earlier effective registration statement for the
same offering. [_]
If delivery of the prospectus is expected to be made pursuant to Rule 434
under the Securities Act, please check the following box. [X]
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CALCULATION OF REGISTRATION FEE UNDER THE SECURITIES ACT OF 1933
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<TABLE>
<CAPTION>
Proposed
Proposed Maximum
Title of Amount Maximum Aggregate Amount of
Securities Being Being Offering Price Offering Registration
Registered Registered(1) Per Unit(1) Price(1) Fee(2)
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<S> <C> <C> <C> <C>
Auction Market Preferred
Shares................ 820 Shares $25,000 $20,500,000 $5,699
</TABLE>
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(1) Estimated solely for the purpose of calculating the filing fee.
(2) Transmitted to the designated lockbox at Mellon Bank in Pittsburgh, PA.
$278 was previously paid. $5,421 was transmitted in connection with this
filing.
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<PAGE>
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
+The information contained in this prospectus is not complete and may be +
+changed. We may not sell these securities until the registration statement +
+filed with the Securities and Exchange Commission is effective. This +
+prospectus is not an offer to sell these securities and it is not soliciting +
+an offer to buy these securities in any State where the offer or sale is not +
+permitted. +
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
SUBJECT TO COMPLETION
PRELIMINARY PROSPECTUS DATED MARCH 3, 1999
PROSPECTUS
$20,500,000
MuniHoldings Pennsylvania Insured Fund
Auction Market Preferred Shares ["AMPS(R)"]
820 Shares, Series A
Liquidation Preference $25,000 Per Share
-----------
MuniHoldings Pennsylvania Insured Fund (the "Fund") is a recently organized,
non-diversified, closed-end management investment company that seeks to provide
shareholders with current income exempt from Federal income tax and
Pennsylvania personal income taxes. The Fund seeks to achieve its objective by
investing primarily in a portfolio of long-term, investment grade municipal
obligations the interest on which, in the opinion of bond counsel to the
issuer, is exempt from Federal income tax and Pennsylvania personal income
taxes. The Fund intends to invest in municipal obligations that are rated
investment grade or, if unrated, are considered by the Fund's investment
adviser to be of comparable quality. Under normal circumstances, at least 80%
of the Fund's assets will be invested in municipal obligations with remaining
maturities of one year or more that are covered by insurance guaranteeing the
timely payment of principal at maturity and interest.
-----------
This prospectus contains information you should know before investing,
including information about risks. Please read it before you invest and keep it
for future reference. This Fund's statement of additional information contains
further information about the Fund and is incorporated by reference (legally
considered to be part of this prospectus). You may request a free copy by
writing or calling the Fund at (800) 637-3863.
-----------
Investing in the AMPS involves certain risks, which are described in the
"Risk Factors and Special Considerations" section beginning on page 5 of this
prospectus.
<TABLE>
<CAPTION>
Per Share Total
--------- -----
<S> <C> <C>
Public Offering Price...................... $25,000 $20,500,000
Sales Load................................. $ $
Proceeds, before expenses, to Fund......... $ $
</TABLE>
The public offering price per share will be increased by the amount of
accumulated dividends, if any, from the date the shares are first issued.
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities or determined if
this prospectus is truthful or complete. Any representation to the contrary is
a criminal offence.
One certificate for the AMPS will be ready for delivery to the nominee of The
Depository Trust Company on or about March , 1999.
- -----
(R) Registered trademark of Merrill Lynch & Co., Inc.
-----------
Merrill Lynch & Co.
-----------
The date of this prospectus is March , 1999.
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
----
<S> <C>
Offering Summary........................................................... 3
Risk Factors and Special Considerations.................................... 5
The Fund................................................................... 7
Use of Proceeds............................................................ 7
Capitalization............................................................. 7
Portfolio Composition...................................................... 8
Investment Objective and Policies.......................................... 8
Description of AMPS........................................................ 14
The Auction................................................................ 19
Rating Agency Guidelines................................................... 27
Investment Advisory and Management Arrangements............................ 28
Taxes...................................................................... 29
Description of Capital Shares.............................................. 30
Custodian.................................................................. 32
Underwriting............................................................... 32
Transfer Agent, Dividend Disbursing Agent and Registrar.................... 33
Legal Opinions............................................................. 33
Experts.................................................................... 33
Year 2000 Issues........................................................... 33
Table of Contents of Statement of Additional Information................... 34
Glossary................................................................... 35
</TABLE>
----------------
Information about the Fund can be reviewed and copied at the SEC's Public
Reference Room in Washington, D.C. Call 1-800-SEC-0330 for information on the
operation of the public reference room. This information is also available on
the SEC's Internet site at http://www.sec.gov and copies may be obtained upon
payment of a duplicating fee by writing the Public Reference Section of the
SEC, Washington, D.C. 20549-6009.
----------------
You should rely only on the information contained in this prospectus. We have
not, and the underwriter has not, authorized any other person to provide you
with different information. If anyone provides you with different or
inconsistent information, you should not rely on it. We are not, and the
underwriter is not, making an offer to sell these securities in any
jurisdiction where the offer or sale is not permitted. You should assume that
the information appearing in this prospectus is accurate as of the date on the
front cover of this prospectus only. Our business, financial condition, results
of operations and prospects may have changed since that date.
2
<PAGE>
OFFERING SUMMARY
This summary is qualified in its entirety by reference to the detailed
information included in this prospectus and the statement of additional
information.
The Offering
The Fund is offering a total of 820 AMPS at a purchase price of
$25,000 per share plus accumulated dividends, if any, from the
date the shares are first issued. The AMPS are being offered by
Merrill Lynch, Pierce, Fenner & Smith Incorporated, as
underwriter.
The AMPS will be preferred shares of the Fund that entitle
their holders to receive cash dividends at an annual rate that
may vary for the successive dividend periods. In general,
except as described below, each dividend period following the
initial dividend period will be seven days. The applicable
dividend for a particular dividend period will be determined by
an auction conducted on the business day next preceding the
start of that dividend period.
Investors and potential investors in AMPS may participate in
auctions for the AMPS through their broker-dealers.
Generally, AMPS investors will not receive certificates
representing ownership of their shares. Ownership of AMPS will
be maintained in book-entry form by the securities depository
(The Depository Trust Company) or its nominee for the account
of the investor's agent member (generally the investor's
broker-dealer). The investor's agent member, in turn, will
maintain records of such investor's beneficial ownership of
AMPS.
Dividends and
Dividend Dividends on the AMPS will be cumulative from the date the
Periods shares are first issued and payable beginning on March , 1999.
Thereafter, in the case of dividend periods that are not
special dividend periods, dividends generally will be payable
on each succeeding Monday. After the initial dividend period,
each dividend period for the AMPS will generally consist of
seven days; provided, however, that before any auction, the
Fund may decide, subject to certain limitations and only if it
gives notice to holders, to declare a special dividend period
of up to five years.
Dividends for the AMPS will be paid through the securities
depository (The Depository Trust Company) on each dividend
payment date.
The cash dividend rate on the AMPS for the initial dividend
period ending March , 1999 will be % per year. For each
subsequent dividend period, the auction agent (IBJ Whitehall
Bank & Trust Company) will hold an auction to determine the
cash dividend rate on the AMPS.
Determination
of Maximum Generally, the applicable dividend rate for any dividend period
Dividend for AMPS will be subject to a maximum applicable rate. The
Rates maximum applicable rate for AMPS will depend on the credit
rating assigned to the shares and on the length of the dividend
period. There is no minimum applicable dividend rate for any
dividend period.
Asset Under the Fund's Certificate of Designation creating the AMPS,
Maintenance the Fund must maintain
. asset coverage of the AMPS as required by the rating agencies
rating the AMPS, and
. asset coverage of the AMPS of at least 200% as required by
the Investment Company Act of 1940.
3
<PAGE>
The Fund estimates that, based on the composition of its
portfolio at February 26, 1999, asset coverage of the AMPS as
required by the Investment Company Act of 1940 would be
approximately 236% immediately after the Fund issues the AMPS
offered by this prospectus representing approximately 42% of
the Fund's capital.
Mandatory
Redemption If the required asset coverage is not maintained or, when
necessary, restored, the Fund must redeem AMPS at the price of
$25,000 per share plus accumulated but unpaid dividends thereon
(whether or not earned or declared). The provisions of the
Investment Company Act of 1940 may restrict the Fund's ability
to make such a mandatory redemption.
Optional The Fund may, at its option, choose to redeem all or a portion
Redemption of the AMPS of each series on any dividend payment date at the
price of $25,000 per share, plus accumulated but unpaid
dividends thereon (whether or not earned or declared) plus any
applicable premium.
Liquidation
Preference The liquidation preference (that is, the amount the Fund must
pay to AMPS shareholders if the Fund is liquidated) of each
share of AMPS will be $25,000, plus an amount equal to
accumulated but unpaid dividends (whether or not earned or
declared).
Ratings The AMPS will be issued with a rating of "aaa" from Moody's
Investors Service, Inc. and AAA from Standard & Poor's.
Voting Rights
The Investment Company Act of 1940 requires that the holders of
AMPS and any other preferred shares, voting as a separate
class, have the right to elect at least two trustees at all
times and to elect a majority of the trustees at any time when
dividends on the AMPS or any other preferred shares are unpaid
for two full years. The Fund's Declaration of Trust and the
Investment Company Act of 1940 require holders of AMPS and any
other preferred shares to vote as a separate class on certain
other matters.
4
<PAGE>
RISK FACTORS AND SPECIAL CONSIDERATIONS
Pennsylvania Municipal Bonds. The Fund intends to invest the majority of its
portfolio in Pennsylvania municipal bonds. As a result, the Fund is more
exposed to risks affecting issuers of Pennsylvania municipal bonds than is a
municipal bond fund that invests more widely.
Interest Rate and Credit Risk. The Fund invests in municipal bonds, which are
subject to interest rate and credit risk. Interest rate is the risk that prices
of municipal bonds generally increase when interest rates decline and decrease
when interest rates increase. Prices of longer term securities generally change
more in response to interest rate changes than prices of shorter term
securities. Credit risk is the risk that the issuer will be unable to pay the
interest or principal when due. The degree of credit risk depends on both the
financial condition of the issuer and the terms of the obligation.
Non-diversification. The Fund is registered as a "non-diversified" investment
company. This means that the Fund may invest a greater percentage of its assets
in a single issuer than a diversified investment company. Even as a non-
diversified fund, the Fund must still meet the diversification requirements of
applicable Federal income tax laws. Since the Fund may invest a relatively high
percentage of its assets in a limited number of issuers, the Fund may be more
exposed to any single economic, political or regulatory occurrence than a more
widely-diversified fund.
Rating Categories. The Fund intends to invest in municipal bonds that are
rated investment grade by Standard & Poor's, Moody's Investors Service, Inc. or
Fitch IBCA, Inc. It may also invest in unrated municipal bonds that the Fund's
investment adviser believes are of comparable quality. Obligations rated in the
lowest investment grade category have certain speculative characteristics.
Private Activity Bonds. The Fund may invest in certain tax-exempt securities
classified as "private activity bonds." These bonds may subject certain
investors in the Fund to the alternative minimum tax.
Portfolio Insurance. The Fund will be subject to certain restrictions on
investments imposed by guidelines of the insurance companies issuing the
portfolio insurance. The Fund does not expect these guidelines to prevent the
Fund's investment adviser from managing the Fund's portfolio in accordance with
the Fund's investment objective and policies.
Indexed and Inverse Floating Rate Securities. The Fund may invest in
securities whose potential returns are directly related to changes in an
underlying index or interest rate, known as indexed securities. The return on
indexed securities will rise when the underlying index or interest rate rises
and fall when the index or interest rate falls. The Fund may also invest in
securities whose return is inversely related to changes in an interest rate
(inverse floaters). In general, income on inverse floaters will decrease when
short term interest rates increase and increase when short term interest rates
decrease. Investments in inverse floaters may subject the Fund to the risks of
reduced or eliminated interest payments and losses of principal. In addition,
certain indexed securities and inverse floaters may increase or decrease in
value at a greater rate than the underlying interest rate, which effectively
leverages the Fund's investment. As a result, the market value of such
securities will generally be more volatile than that of fixed rate, tax exempt
securities. Both indexed securities and inverse floaters are derivative
securities and can be considered speculative.
Options and Futures Transactions. The Fund may seek to hedge its portfolio
against changes in interest rates using options and financial futures
contracts. The Fund's hedging transactions are designed to reduce volatility,
but come at some cost. For example, the Fund may try to limit its risk of loss
from a decline in price of a portfolio security by purchasing a put option.
However, the Fund must pay for the option, and the price of the security may
not in fact drop. In large part, the success of the Fund's hedging activities
depends on its ability to forecast movements in securities prices and interest
rates. The Fund does not, however, intend to enter into options and futures
transactions for speculative purposes. The Fund is not required to hedge its
portfolio and may not do so.
5
<PAGE>
Antitakeover Provisions. The Fund's Declaration of Trust includes provisions
that could limit the ability of other entities or persons to acquire control of
the Fund or to change the composition of its Board of Trustees. Such provisions
could discourage a third party from seeking to obtain control of the Fund.
Investment Considerations. Investors in AMPS should consider the following
factors:
. The credit ratings of the AMPS could be reduced while an investor holds
the AMPS.
. Neither broker-dealers nor the Fund are obligated to purchase AMPS in an
auction or otherwise nor is the Fund required to redeem shares of AMPS in
the event of a failed auction.
. If sufficient bids do not exist in an auction, the applicable dividend
rate will be the maximum applicable dividend rate, and in such event,
owners of AMPS wishing to sell will not be able to sell all, and may not
be able to sell any, AMPS in the auction. As a result, investors may not
have liquidity of investment.
Secondary Market. The broker-dealers intend to maintain a secondary trading
market in the AMPS outside of auctions; however, they have no obligation to do
so and there can be no assurance that a secondary market for the AMPS will
develop or, if it does develop, that it will provide holders with a liquid
trading market. The AMPS will not be registered on any stock exchange or on any
automated quotation system. An increase in the level of interest rates likely
will have an adverse effect on the secondary market price of the AMPS, and a
selling shareholder may have to sell AMPS between auctions at a price per share
of less than $25,000.
6
<PAGE>
THE FUND
MuniHoldings Pennsylvania Insured Fund (the "Fund") is a recently organized,
non-diversified, closed-end management investment company. The Fund was
organized under the laws of the Commonwealth of Massachusetts on December 3,
1998, and has registered under the 1940 Act. The Fund's principal office is
located at 800 Scudders Mill Road, Plainsboro, New Jersey 08536, and its
telephone number is (609) 282-2800.
The Fund commenced operations on February 26, 1999 upon the closing of an
initial public offering of 1,875,000 of its common shares. The proceeds of such
offering were approximately $27,990,000 after the payment of offering expenses.
In connection with the initial public offering of the Fund's common shares, the
underwriter was granted an option to purchase up to an additional 281,250
shares to cover over-allotments.
USE OF PROCEEDS
The estimated net proceeds of this offering will be $20,206,250 after the
payment of offering expenses (estimated to be $140,000) and the sales load.
The net proceeds of the offering will be invested in accordance with the
Fund's investment objective and policies during a period estimated not to
exceed three months from the offer and sale of such shares of AMPS depending on
market conditions and the availability of appropriate securities. Pending such
investment, it is anticipated that the proceeds will be invested in short-term
tax-exempt securities. See "Investment Objective and Policies."
CAPITALIZATION
The following table sets forth the unaudited capitalization of the Fund as of
February 26, 1999 and as adjusted to give effect to the issuance of the AMPS
offered hereby.
<TABLE>
<CAPTION>
Actual As Adjusted
----------- -----------
<S> <C> <C>
Shareholders' equity:
Shares of Beneficial Interest (unlimited shares
authorized)
Preferred Shares, par value $.10 per share (no shares
issued; 820 AMPS issued and outstanding, as
adjusted, at $25,000 per share liquidation
preference)......................................... -- $20,500,000
Common Shares, par value $.10 per share (1,881,667
shares issued and outstanding)...................... $ 188,167 188,167
Capital in excess of par value attributable to Common
Shares.............................................. 27,908,611 27,614,861
Undistributed investment income--net................. 9 9
Unrealized appreciation on investments--net.......... 18,610 18,610
----------- -----------
Net assets........................................... $28,115,397 $48,321,647
=========== ===========
</TABLE>
7
<PAGE>
PORTFOLIO COMPOSITION
As of February 26, 1999, approximately 100% of the market value of the Fund's
portfolio was invested in long-term municipal obligations. The following table
sets forth certain information with respect to the composition of the Fund's
investment portfolio as of February 26, 1999.
<TABLE>
<CAPTION>
Number of Value
S&P* Moody's* Issues (in thousands) Percent
---- -------- --------- -------------- -------
<S> <C> <C> <C> <C>
AAA Aaa 8 $20,440 100.0%
--- ------- -----
Total............. 8 $20,440 100.0%
=== ======= =====
</TABLE>
- --------
* Ratings: Using the higher of Standard & Poor's ("S&P") or Moody's Investors
Service, Inc. ("Moody's") ratings on the Fund's municipal obligations. See
"Schedule of Investments." S&P rating categories may be modified further by a
plus (+) or minus (-) in AA, A, BBB, BB, B and C ratings. Moody's rating
categories may be modified further by a 1, 2 or 3 in Aa, A, Baa, Ba and B
ratings.
INVESTMENT OBJECTIVE AND POLICIES
The Fund's investment objective is to provide shareholders with current
income exempt from Federal income tax and Pennsylvania personal income taxes.
The Fund seeks to achieve its investment objective by investing primarily in a
portfolio of long-term, investment grade municipal obligations issued by or on
behalf of the Commonwealth of Pennsylvania, its political subdivisions,
agencies and instrumentalities, and other qualifying issuers, each of which
pays interest which, in the opinion of bond counsel to such issuer, is exempt
from Federal income tax and Pennsylvania personal income taxes ("Pennsylvania
Municipal Bonds"). The Fund intends to invest substantially all (at least 80%)
of its assets in Pennsylvania Municipal Bonds, except at times when the Fund's
investment adviser, Fund Asset Management, L.P. (the "Investment Adviser"),
considers that Pennsylvania Municipal Bonds of sufficient quality and quantity
are unavailable for investment at suitable prices by the Fund. To the extent
the Investment Adviser considers that suitable Pennsylvania Municipal Bonds are
not available for investment, the Fund may purchase other long-term municipal
obligations exempt from Federal income tax but not Pennsylvania personal income
taxes ("Municipal Bonds"). The Fund will maintain at least 65% of its assets in
Pennsylvania Municipal Bonds and at least 80% of its assets in Pennsylvania
Municipal Bonds and Municipal Bonds, except during interim periods pending
investment of the net proceeds of public offerings of the Fund's securities and
during temporary defensive periods. Under normal circumstances, at least 80% of
the Fund's assets will be invested in municipal obligations with remaining
maturities of one year or more that are covered by insurance guaranteeing the
timely payment of principal at maturity and interest. The Fund's investment
objective is a fundamental policy that may not be changed without a vote of a
majority of the Fund's outstanding voting securities, as defined in the
statement of additional information under "Investment Restrictions." There can
be no assurance that the investment objective of the Fund will be realized. At
times the Fund may seek to hedge its portfolio through the use of options and
futures transactions to reduce volatility in the net asset value of its shares
of common shares.
The Fund ordinarily does not intend to realize significant investment income
that is subject to Federal income tax and Pennsylvania personal income taxes.
The Fund may invest all or a portion of its assets in certain tax-exempt
securities classified as "private activity bonds" (in general, bonds that
benefit non-governmental entities) that may subject certain investors in the
Fund to an alternative minimum tax.
The Fund also may invest in securities not issued by or on behalf of a state
or territory or by an agency or instrumentality thereof, if the Fund
nevertheless believes such securities pay interest or distributions that are
exempt from Federal income taxation ("Non-Municipal Tax-Exempt Securities").
Non-Municipal Tax-Exempt Securities may include securities issued by other
investment companies that invest in Pennsylvania Municipal
8
<PAGE>
Bonds and Municipal Bonds, to the extent such investments are permitted by the
Investment Company Act of 1940, as amended (the "1940 Act"). Other Non-
Municipal Tax-Exempt Securities could include trust certificates or other
instruments evidencing interests in one or more long-term Pennsylvania
Municipal Bonds or Municipal Bonds. Certain Non-Municipal Tax-Exempt Securities
may be characterized as derivative instruments. Non-Municipal Tax-Exempt
Securities are considered "Pennsylvania Municipal Bonds" or "Municipal Bonds"
for purposes of the Fund's investment objective and policies.
The investment grade Pennsylvania Municipal Bonds and Municipal Bonds in
which the Fund will primarily invest are those Pennsylvania Municipal Bonds and
Municipal Bonds that are rated at the date of purchase in the four highest
rating categories of S&P, Moody's or Fitch IBCA, Inc. ("Fitch") or, if unrated,
are considered to be of comparable quality by the Investment Adviser. In the
case of long-term debt, the investment grade rating categories are AAA through
BBB for S&P, Aaa through Baa for Moody's and AAA through BBB for Fitch. In the
case of short-term notes, the investment grade rating categories are SP-l+
through SP-3 for S&P, MIG-1 through MIG-3 for Moody's and F-1+ through F-3 for
Fitch. In the case of tax-exempt commercial paper, the investment grade rating
categories are A-1+ through A-3 for S&P, Prime-1 through Prime-3 for Moody's
and F-l+ through F-3 for Fitch. Obligations ranked in the lowest investment
grade rating category (BBB, SP-3 and A-3 for S&P; Baa, MIG-3 and Prime-3 for
Moody's; and BBB and F-3 for Fitch), while considered "investment grade," may
have certain speculative characteristics. There may be sub-categories or
gradations indicating relative standing within the rating categories set forth
above. Appendix B to the statement of additional information contains a
description of S&P's, Moody's and Fitch's ratings of Pennsylvania Municipal
Bonds and Municipal Bonds. In assessing the quality of Pennsylvania Municipal
Bonds and Municipal Bonds with respect to the foregoing requirements, the
Investment Adviser will take into account the portfolio insurance as well as
the nature of any letters of credit or similar credit enhancement to which
particular Municipal Bonds are entitled and the creditworthiness of the
insurance company or financial institution that provided such insurance or
credit enhancement. Consequently, if Pennsylvania Municipal Bonds or Municipal
Bonds are covered by insurance policies issued by insurers whose claims-paying
ability is rated AAA by S&P or Fitch or Aaa by Moody's, the Investment Adviser
may consider such municipal obligations to be equivalent to AAA- or Aaa- rated
securities, as the case may be, even though such Pennsylvania Municipal Bonds
or Municipal Bonds would generally be assigned a lower rating if the rating
were based primarily upon the credit characteristics of the issuers without
regard to the insurance feature. The insured Pennsylvania Municipal Bonds and
Municipal Bonds must also comply with the standards applied by the insurance
carriers in determining eligibility for portfolio insurance.
The Fund's investments may also include variable rate demand obligations
("VRDOs") and VRDOs in the form of participation interests ("Participating
VRDOs") in variable rate tax-exempt obligations held by a financial
institution, typically a commercial bank. The VRDOs in which the Fund will
invest are tax-exempt obligations, in the opinion of counsel to the issuer,
that contain a floating or variable interest rate adjustment formula and an
unconditional right of demand on the part of the holder thereof to receive
payment of the unpaid principal balance plus accrued interest on a short notice
period not to exceed seven days. Participating VRDOs provide the Fund with a
specified undivided interest (up to 100%) in the underlying obligation and the
right to demand payment of the unpaid principal balance plus accrued interest
on the Participating VRDOs from the financial institution on a specified number
of days' notice, not to exceed seven days. There is, however, the possibility
that because of default or insolvency, the demand feature of VRDOs or
Participating VRDOs may not be honored. The Fund has been advised by its
counsel that the Fund should be entitled to treat the income received on
Participating VRDOs as interest from tax-exempt obligations for Federal income
tax purposes.
The average maturity of the Fund's portfolio securities will vary based upon
the Investment Adviser's assessment of economic and market conditions. The net
asset value of the common shares of a closed-end investment company, such as
the Fund, which invests primarily in fixed-income securities, changes as the
general levels of interest rates fluctuate. When interest rates decline, the
value of a fixed-income portfolio can be expected to rise. Conversely, when
interest rates rise, the value of a fixed-income portfolio can be expected
9
<PAGE>
to decline. Prices of longer-term securities generally fluctuate more in
response to interest rate changes than do short-term or medium-term securities.
These changes in net asset value are likely to be greater in the case of a fund
having a leveraged capital structure, such as that used by the Fund.
The Fund intends to invest primarily in long-term Pennsylvania Municipal
Bonds and Municipal Bonds with a maturity of more than ten years. Also, the
Fund may invest in intermediate-term Pennsylvania Municipal Bonds and Municipal
Bonds with a maturity of between three years and ten years. The Fund may invest
in short-term, tax-exempt securities, short-term U.S. Government securities,
repurchase agreements or cash. Such short-term securities or cash will not
exceed 20% of its total assets except during interim periods pending investment
of the net proceeds of public offerings of the Fund's securities or in
anticipation of the repurchase or redemption of the Fund's securities and
temporary periods when, in the opinion of the Investment Adviser, prevailing
market or economic conditions warrant. The Fund does not ordinarily intend to
realize significant interest income that is subject to Federal income tax and
Pennsylvania personal income taxes. For a more complete description of
Pennsylvania Municipal Bonds and Municipal Bonds, see "Investment Objective and
Policies" in the statement of additional information.
The Fund is classified as non-diversified within the meaning of the 1940 Act,
which means that the Fund is not limited by the 1940 Act in the proportion of
its assets that it may invest in securities of a single issuer. However, the
Fund's investments will be limited so as to qualify the Fund for special tax
treatment afforded regulated investment companies under the Federal tax laws.
See "Taxes" herein and in the statement of additional information. To qualify,
among other requirements, the Fund will limit its investments so that, at the
close of each quarter of the taxable year, (i) not more than 25% of the market
value of the Fund's total assets will be invested in the securities (other than
U.S. Government securities) of a single issuer, and (ii) with respect to 50% of
the market value of its total assets, not more than 5% of the market value of
its total assets will be invested in the securities (other than U.S. Government
securities) of a single issuer. A fund that elects to be classified as
"diversified" under the 1940 Act must satisfy the foregoing 5% requirement with
respect to 75% of its total assets. To the extent that the Fund assumes large
positions in the securities of a small number of issuers, the Fund's yield may
fluctuate to a greater extent than that of a diversified company as a result of
changes in the financial condition or in the market's assessment of the
issuers.
Portfolio Insurance
Under normal circumstances, at least 80% of the Fund's assets will be
invested in Pennsylvania Municipal Bonds and Municipal Bonds either (i) insured
under an insurance policy purchased by the Fund or (ii) insured under an
insurance policy obtained by the issuer thereof or any other party. The Fund
will seek to limit its investments to municipal obligations insured under
insurance policies issued by insurance carriers that have total admitted assets
(unaudited) of at least $75,000,000 and capital and surplus (unaudited) of at
least $50,000,000 and insurance claims-paying ability ratings of AAA from S&P
or Fitch or Aaa from Moody's. There can be no assurance that insurance from
insurance carriers meeting these criteria will be available. See Appendix C to
the statement of additional information for a brief description of S&P's,
Fitch's and Moody's insurance claims--paying ability ratings. Currently, it is
anticipated that a majority of the insured Pennsylvania Municipal Bonds and
Municipal Bonds in the Fund's portfolio will be insured by the following
insurance companies that satisfy the foregoing criteria: AMBAC Indemnity
Corporation, Financial Guaranty Insurance Company, Financial Security Assurance
and Municipal Bond Investors Assurance Corporation. The Fund also may purchase
Pennsylvania Municipal Bonds and Municipal Bonds covered by insurance issued by
any other insurance company that satisfies the foregoing criteria. It is
anticipated that initially a majority of insured Pennsylvania Municipal Bonds
and Municipal Bonds held by the Fund will be insured under policies obtained by
parties other than the Fund.
The Fund may purchase, but has no obligation to purchase, separate insurance
policies (the "Policies") from insurance companies meeting the criteria set
forth above that guarantee the payment of principal and interest on specified
eligible Pennsylvania Municipal Bonds and Municipal Bonds purchased by the
Fund. A Pennsylvania Municipal Bond or a Municipal Bond will be eligible for
coverage if it meets certain
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requirements of the insurance company set forth in a Policy. In the event
interest or principal on an insured Pennsylvania Municipal Bond or Municipal
Bond is not paid when due, the insurer will be obligated under its Policy to
make such payment not later than 30 days after it has been notified by, and
provided with documentation from, the Fund that such nonpayment has occurred.
The Policies will be effective only as to insured Pennsylvania Municipal
Bonds and Municipal Bonds beneficially owned by the Fund. In the event of a
sale of any Pennsylvania Municipal Bonds and Municipal Bonds held by the Fund,
the issuer of the relevant Policy will be liable only for those payments of
interest and principal that are then due and owing. The Policies will not
guarantee the market value of the insured Pennsylvania Municipal Bonds and
Municipal Bonds or the value of the shares of the Fund.
The insurer will not have the right to withdraw coverage on securities
insured by their Policies and held by the Fund so long as such securities
remain in the Fund's portfolio. In addition, the insurer may not cancel its
Policies for any reason except failure to pay premiums when due. The Board of
Trustees of the Fund will reserve the right to terminate any of the Policies if
it determines that the benefits to the Fund of having its portfolio insured
under such policy are not justified by the expense involved.
The premiums for the Policies are paid by the Fund and the yield on the
Fund's portfolio is reduced thereby. The Investment Adviser estimates that the
cost of the annual premiums for the Policies currently ranges from
approximately .02 of 1% to .15 of 1% of the principal amount of the
Pennsylvania Municipal Bonds and Municipal Bonds covered by such Policies. The
estimate is based on the expected composition of the Fund's portfolio of
Pennsylvania Municipal Bonds and Municipal Bonds. In instances in which the
Fund purchases Pennsylvania Municipal Bonds and Municipal Bonds insured under
policies obtained by parties other than the Fund, the Fund does not pay the
premiums for such policies; rather, the cost of such policies may be reflected
in the purchase price of the Pennsylvania Municipal Bonds and Municipal Bonds.
It is the intention of the Investment Adviser to retain any insured
securities that are in default or in significant risk of default and to place a
value on the insurance, which ordinarily will be the difference between the
market value of the defaulted security and the market value of similar
securities which are not in default. In certain circumstances, however, the
Investment Adviser may determine that an alternative value for the insurance,
such as the difference between the market value of the defaulted security and
its par value, is more appropriate. The Investment Adviser will be unable to
manage the portfolio to the extent it holds defaulted securities, which may
limit its ability in certain circumstances to purchase other Pennsylvania
Municipal Bonds and Municipal Bonds. See "Net Asset Value" in the statement of
additional information for a more complete description of the Fund's method of
valuing defaulted securities and securities that have a significant risk of
default.
There can be no assurance that insurance with the terms and issued by
insurance carriers meeting the criteria described above will continue to be
available to the Fund. In the event the Board of Trustees determines that such
insurance is unavailable or that the cost of such insurance outweighs the
benefits to the Fund, the Fund may modify the criteria for insurance carriers
or the terms of the insurance, or may discontinue its policy of maintaining
insurance for all or any of the Pennsylvania Municipal Bonds and Municipal
Bonds held in the Fund's portfolio. Although the Investment Adviser
periodically reviews the financial condition of each insurer, there can be no
assurance that the insurers will be able to honor their obligations under the
circumstances.
The portfolio insurance reduces financial or credit risk (i.e., the
possibility that the owners of the insured Pennsylvania Municipal Bonds or
Municipal Bonds will not receive timely scheduled payments of principal or
interest). However, the insured Pennsylvania Municipal Bonds or Municipal Bonds
are subject to market risk (i.e., fluctuations in market value as a result of
changes in prevailing interest rates).
Special Considerations Relating to Pennsylvania Municipal Bonds
The Fund ordinarily will invest substantially all of its assets in
Pennsylvania Municipal Bonds, and therefore it is more susceptible to factors
adversely affecting issuers of Pennsylvania Municipal Bonds than is a municipal
bond mutual fund that is not concentrated in issuers of Pennsylvania Municipal
Bonds to this degree.
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Many different social, environmental and economic factors may affect the
financial condition of Pennsylvania and its political subdivisions. From time
to time Pennsylvania and certain of its political subdivisions have encountered
financial difficulties which adversely affected their respective credit
standings. Other factors which may negatively affect economic conditions in
Pennsylvania include adverse changes in employment rates, Federal revenue
sharing or laws with respect to tax-exempt financing. The Investment Adviser
does not believe that the current economic conditions in Pennsylvania or other
factors described above will have a significant adverse effect on the Fund's
ability to invest in high quality Pennsylvania Municipal Bonds. As of December
1, 1998, Pennsylvania general obligation bonds were rated AA by Standard &
Poor's, AA by Fitch and Aa3 by Moody's. For a discussion of economic and other
conditions in the Commonwealth of Pennsylvania, see Appendix A, "Economic and
Financial Conditions in Pennsylvania" to the statement of additional
information.
Other Investment Policies
The Fund has adopted certain other policies as set forth below:
Borrowings. The Fund is authorized to borrow money in amounts of up to 5% of
the value of its total assets at the time of such borrowings; provided,
however, that the Fund is authorized to borrow moneys in amounts of up to 33
1/3% of the value of its total assets at the time of such borrowings to finance
the repurchase of its own common shares pursuant to tender offers or otherwise
to redeem or repurchase preferred shares or for temporary, extraordinary or
emergency purposes. Borrowings by the Fund (commonly known, as with the
issuance of preferred shares, as "leveraging") create an opportunity for
greater total return since the Fund will not be required to sell portfolio
securities to repurchase or redeem shares but, at the same time, increase
exposure to capital risk. In addition, borrowed funds are subject to interest
costs that may offset or exceed the return earned on the borrowed funds.
When-Issued Securities and Delayed Delivery Transactions. The Fund may
purchase or sell Pennsylvania Municipal Bonds and Municipal Bonds on a delayed
delivery basis or on a when-issued basis at fixed purchase or sale terms. These
transactions arise when securities are purchased or sold by the Fund with
payment and delivery taking place in the future. The purchase will be recorded
on the date the Fund enters into the commitment, and the value of the
obligation will thereafter be reflected in the calculation of the Fund's net
asset value. The value of the obligation on the delivery day may be more or
less than its purchase price. A separate account of the Fund will be
established with its custodian consisting of cash, cash equivalents or liquid
securities having a market value at all times at least equal to the amount of
the commitment.
Indexed and Inverse Floating Obligations. The Fund may invest in Pennsylvania
Municipal Bonds and Municipal Bonds yielding a return based on a particular
index of value or interest rates. For example, the Fund may invest in
Pennsylvania Municipal Bonds and Municipal Bonds that pay interest based on an
index of Municipal Bond interest rates. The principal amount payable upon
maturity of certain Pennsylvania Municipal Bonds and Municipal Bonds also may
be based on the value of an index. To the extent the Fund invests in these
types of Municipal Bonds, the Fund's return on such Pennsylvania Municipal
Bonds and Municipal Bonds will be subject to risk with respect to the value of
the particular index. Also, the Fund may invest in so-called "inverse floating
obligations" or "residual interest bonds" on which the interest rates typically
vary inversely with a short-term floating rate (which may be reset periodically
by a dutch auction, a remarketing agent, or by reference to a short-term tax-
exempt interest rate index). The Fund may purchase in the secondary market
synthetically-created inverse floating rate bonds evidenced by custodial or
trust receipts. Generally, income on inverse floating rate bonds will decrease
when short-term interest rates increase, and will increase when short-term
interest rates decrease. Such securities have the effect of providing a degree
of investment leverage, since they may increase or decrease in value in
response to changes, as an illustration, in market interest rates at a rate
that is a multiple (typically two) of the rate at which fixed-rate, long-term,
tax-exempt securities increase or decrease in response to such changes. As a
result, the market values of such securities generally will be more volatile
than the market values of fixed-rate tax-exempt securities. To seek to limit
the volatility of these securities, the Fund may purchase inverse floating
obligations with shorter-term maturities or limitations on the extent to which
the interest rate may vary. The Investment Adviser believes that indexed and
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<PAGE>
inverse floating obligations represent a flexible portfolio management
instrument for the Fund that allows the Investment Adviser to vary the degree
of investment leverage relatively efficiently under different market
conditions.
Call Rights. The Fund may purchase a Pennsylvania Municipal Bond or Municipal
Bond issuer's right to call all or a portion of such Pennsylvania Municipal
Bond or Municipal Bond for mandatory tender for purchase (a "Call Right"). A
holder of a Call Right may exercise such right to require a mandatory tender
for the purchase of related Pennsylvania Municipal Bonds or Municipal Bonds,
subject to certain conditions. A Call Right that is not exercised prior to the
maturity of the related Pennsylvania Municipal Bond or Municipal Bond will
expire without value. The economic effect of holding both the Call Right and
the related Pennsylvania Municipal Bond or Municipal Bond is identical to
holding a Pennsylvania Municipal Bond or Municipal Bond as a non-callable
security.
Repurchase Agreements. The Fund may invest in Pennsylvania Municipal Bonds,
Municipal Bonds and U.S. Government securities pursuant to repurchase
agreements. Repurchase agreements may be entered into only with a member bank
of the Federal Reserve System or a primary dealer in U.S. Government securities
or an affiliate thereof. Under such agreements, the seller agrees, upon
entering into the contract, to repurchase the security at a mutually agreed-
upon time and price, thereby determining the yield during the term of the
agreement. The Fund may not invest in repurchase agreements maturing in more
than seven days if such investments, together with all other illiquid
investments, would exceed 15% of the Fund's net assets. In the event of default
by the seller under a repurchase agreement, the Fund may suffer time delays and
incur costs or possible losses in connection with the disposition of the
underlying securities.
In general, for Federal income tax purposes, repurchase agreements are
treated as collateralized loans secured by the securities "sold." Therefore,
amounts earned under such agreements will not be considered tax-exempt
interest. Similarly, such amounts are not considered tax-exempt interest for
Pennsylvania tax purposes.
Options and Futures Transactions
The Fund may hedge all or a portion of its portfolio investments against
fluctuations in interest rates through the use of options and certain financial
futures contracts and options thereon. While the Fund's use of hedging
strategies is intended to reduce the volatility of the net asset value of the
common shares, the net asset value of the common shares will fluctuate. There
can be no assurance that the Fund's hedging transactions will be effective. For
so long as the AMPS are rated by Moody's and S&P, the Fund's use of options and
financial futures contracts will be subject to the limitations described under
"Rating Agency Guidelines" herein and in the statement of additional
information. Furthermore, the Fund may only engage in hedging activities from
time to time and may not necessarily be engaging in hedging activities when
movements in interest rates occur. The Fund has no obligation to enter into
hedging transactions and may not do so.
Certain Federal income tax requirements may limit the Fund's ability to
engage in hedging transactions. Gains from transactions in options and futures
contracts distributed to shareholders will be taxable as ordinary income or, in
certain circumstances, as long-term capital gains to shareholders. See "Taxes--
Tax Treatment of Options and Futures Transactions" in the statement of
additional information. In addition, in order to obtain ratings of the
preferred shares from one or more nationally recognized statistical rating
organizations ("NRSROs"), the Fund may be required to limit its use of hedging
techniques in accordance with the specified guidelines of such rating
organizations.
For a description of the options and futures transactions in which the Fund
may engage, limitations on the Fund's use of such transactions and risks
associated with these transactions, see "Investment Objective and Policies--
Options and Futures Transactions" in the statement of additional information.
The investment policies with respect to the hedging transactions of the Fund
are not fundamental policies and may be modified by the Board of Trustees of
the Fund without the approval of the Fund's shareholders.
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DESCRIPTION OF AMPS
General
Certain of the capitalized terms used herein are defined in the Glossary that
appears at the back of this prospectus.
The AMPS will be preferred shares that entitle their holders to receive
dividends when, as and if declared by the Board of Trustees, out of funds
legally available therefor, at a rate per annum that may vary for the
successive Dividend Periods. After the Initial Dividend Period, each Subsequent
Dividend Period for the AMPS generally will be a 7-Day Dividend Period;
provided, however, that prior to any Auction, the Fund may elect, subject to
certain limitations described herein, upon giving notice to holders thereof, a
Special Dividend Period. The Applicable Rate for a particular Dividend Period
will be determined by an Auction conducted on the Business Day before the start
of such Dividend Period. Beneficial Owners and Potential Beneficial Owners of
AMPS may participate in Auctions therefor, although, except in the case of a
Special Dividend Period, Beneficial Owners desiring to continue to hold all of
their AMPS regardless of the Applicable Rate resulting from Auctions need not
participate. For an explanation of Auctions and the method of determining the
Applicable Rate, see "The Auction" herein and in the statement of additional
information.
The following is a brief description of the terms of the AMPS. This
description does not purport to be complete and is subject to and qualified in
its entirety by reference to the Fund's Declaration of Trust and Certificate of
Designation, including the provisions thereof establishing the AMPS. The Fund's
Declaration of Trust and the form of Certificate of Designation establishing
the terms of the AMPS have been filed as exhibits to the Registration Statement
of which this prospectus is a part.
Dividends
General. The holders of AMPS will be entitled to receive, when, as and if
declared by the Board of Trustees of the Fund, out of funds legally available
therefor, cumulative cash dividends on their shares, at the Applicable Rate
determined as set forth below under "Determination of Dividend Rate," payable
on the respective dates set forth below. Dividends on the AMPS so declared and
payable shall be paid (i) in preference to and in priority over any dividends
so declared and payable on the Common Shares, and (ii) to the extent permitted
under the Code and to the extent available, out of net tax-exempt income earned
on the Fund's investments. Generally, dividends on AMPS, to the extent that
they are derived from interest paid on Municipal Bonds, will be exempt from
Federal income taxes, subject to possible application of the alternative
minimum tax. See "Taxes" in the statement of additional information.
Dividends on the AMPS will accumulate from the date on which the Fund
originally issues the shares of AMPS (the "Date of Original Issue") and will be
payable on the dates described below. Dividends on AMPS with respect to the
Initial Dividend Period shall be payable on the Initial Dividend Payment Date.
Following the Initial Dividend Payment Date for AMPS, dividends on AMPS will be
payable, at the option of the Fund, either (i) with respect to any 7-Day
Dividend Period and any Short Term Dividend Period of 35 or fewer days, on the
day next succeeding the last day thereof or (ii) with respect to any Short Term
Dividend Period of more than 35 days and with respect to any Long Term Dividend
Period, monthly on the first Business Day of each calendar month during such
Short Term Dividend Period or Long Term Dividend Period and on the day next
succeeding the last day thereof (each such date referred to in clause (i) or
(ii) being referred to herein as a "Normal Dividend Payment Date"), except that
if such Normal Dividend Payment Date is not a Business Day, the Dividend
Payment Date shall be the first Business Day next succeeding such Normal
Dividend Payment Date. Thus, following the Initial Dividend Payment Date for
AMPS, dividends generally will be payable (in the case of Dividend Periods
which are not Special Dividend Periods) on each succeeding Monday. Although any
particular Dividend Payment Date may not occur on the originally scheduled date
because of the exceptions discussed above, the next succeeding Dividend Payment
Date, subject to such exceptions, will occur on the next following originally
scheduled date. If for any reason a Dividend Payment Date cannot be fixed as
described above, then the Board of Trustees shall fix the Dividend Payment
Date. The Board of Trustees by resolution prior to authorization of a dividend
by the Board of Trustees may change a Dividend Payment Date
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if such change does not adversely affect the contract rights of the holders of
AMPS set forth in the Declaration of Trust. The Initial Dividend Period, 7-Day
Dividend Periods and Special Dividend Periods are hereinafter sometimes
referred to as "Dividend Periods." Each dividend payment date determined as
provided above is hereinafter referred to as a "Dividend Payment Date."
Prior to each Dividend Payment Date, the Fund is required to deposit with the
Auction Agent sufficient funds for the payment of declared dividends. The Fund
does not intend to establish any reserves for the payment of dividends.
Each dividend will be paid to the record holder of the AMPS, which holder is
expected to be the nominee of the Securities Depository. See "The Auction--
Securities Depository." The Securities Depository will credit the accounts of
the Agent Members of the Existing Holders in accordance with the Securities
Depository's normal procedures which provide for payment in same-day funds. The
Agent Member of an Existing Holder will be responsible for holding or
disbursing such payments on the applicable Dividend Payment Date to such
Existing Holder in accordance with the instructions of such Existing Holder.
Dividends in arrears for any past Dividend Period may be declared and paid at
any time, without reference to any regular Dividend Payment Date, to the
nominee of the Securities Depository. Any dividend payment made on AMPS first
shall be credited against the earliest declared but unpaid dividends
accumulated with respect to such shares.
Holders of AMPS will not be entitled to any dividends, whether payable in
cash, property or stock, in excess of full cumulative dividends except as
described under "Additional Dividends" and "Non-Payment Period; Late Charge."
No interest will be payable in respect of any dividend payment or payments on
the shares of AMPS which may be in arrears.
The amount of cash dividends per share of the AMPS payable (if declared) on
the Initial Dividend Payment Date, each 7-Day Dividend Period and each Dividend
Payment Date of each Short Term Dividend Period shall be computed by
multiplying the Applicable Rate for such Dividend Period by a fraction, the
numerator of which will be the number of days in such Dividend Period or part
thereof that such share was outstanding and for which dividends are payable on
such Dividend Payment Date and the denominator of which will be 365,
multiplying the amount so obtained by $25,000, and rounding the amount so
obtained to the nearest cent. During any Long Term Dividend Period, the amount
of cash dividends per share of AMPS payable (if declared) on any Dividend
Payment Date shall be computed by multiplying the Applicable Rate for such
Dividend Period by a fraction, the numerator of which will be such number of
days in such part of such Dividend Period that such share was outstanding and
for which dividends are payable on such Dividend Payment Date and the
denominator of which will be 360, multiplying the amount so obtained by
$25,000, and rounding the amount so obtained to the nearest cent.
Notification of Dividend Period. With respect to each Dividend Period that is
a Special Dividend Period, the Fund, at its sole option and to the extent
permitted by law, by telephonic and written notice (a "Request for Special
Dividend Period") to the Auction Agent and to each Broker-Dealer, may request
that the next succeeding Dividend Period for the AMPS will be a number of days
(other than seven), evenly divisible by seven, and not fewer than seven nor
more than 364 in the case of a Short Term Dividend Period or one whole year or
more but not greater than five years in the case of a Long Term Dividend
Period, specified in such notice, provided that the Fund may not give a Request
for Special Dividend Period (and any such request shall be null and void)
unless, for any Auction occurring after the initial Auction, Sufficient
Clearing Bids were made in the last occurring Auction and unless full
cumulative dividends, any amounts due with respect to redemptions, and any
Additional Dividends payable prior to such date have been paid in full. Such
Request for Special Dividend Period, in the case of a Short Term Dividend
Period, shall be given on or prior to the second Business Day but not more than
seven Business Days prior to an Auction Date for the AMPS and, in the case of a
Long Term Dividend Period, shall be given on or prior to the second Business
Day but not more than 28 days prior to an Auction Date for the AMPS. Upon
receiving such Request for Special Dividend Period, the Broker-Dealers jointly
shall determine whether, given the factors set forth below, it is advisable
that the Fund issue a Notice of Special Dividend Period for the AMPS as
contemplated by such Request for Special Dividend
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Period and the Optional Redemption Price of the AMPS during such Special
Dividend Period and the Specific Redemption Provisions and shall give the Fund
and the Auction Agent written notice (a "Response") of such determination by no
later than the second Business Day prior to such Auction Date. In the event the
Response indicates that it is advisable that the Fund give a notice of a
Special Dividend Period for the AMPS, the Fund, by no later than the second
Business Day prior to such Auction Date may give a notice (a "Notice of Special
Dividend Period") to the Auction Agent, the Securities Depository and each
Broker-Dealer. See "Description of AMPS--Dividends-- Notification of Dividend
Period" in the statement of additional information for a detailed description
of these procedures.
Determination of Dividend Rate. The dividend rate on AMPS during the period
from and including the Date of Original Issue to but excluding the Initial
Dividend Payment Date (the "Initial Dividend Period") will be the rate per
annum set forth above under "Offering Summary." Commencing on the Initial
Dividend Payment Date for AMPS, the Applicable Rate on the shares of AMPS for
each Subsequent Dividend Period, which Subsequent Dividend Period shall be a
period commencing on and including a Dividend Payment Date and ending on and
including the calendar day prior to the next Dividend Payment Date (or last
Dividend Payment Date in a Dividend Period if there is more than one Dividend
Payment Date), shall be equal to the rate per annum that results from the
Auction with respect to such Subsequent Dividend Period. The Initial Dividend
Period and Subsequent Dividend Period for AMPS is referred to herein as a
"Dividend Period." Cash dividends shall be calculated as set forth above under
"Dividends--General."
Restrictions on Dividends and Other Payments. Under the 1940 Act, the Fund
may not declare dividends or make other distributions on common shares or
purchase any such shares if, at the time of the declaration, distribution or
purchase, as applicable (and after giving effect thereto), asset coverage (as
defined in the 1940 Act) with respect to the outstanding AMPS would be less
than 200% (or such other percentage as in the future may be required by law).
The Fund estimates that, based on the composition of its portfolio at February
26, 1999, asset coverage with respect to AMPS would be approximately 236%
immediately after the issuance of the AMPS offered hereby. Under the Code, the
Fund, among other things, must distribute at least 90% of its investment
company taxable income each year in order to maintain its qualification for tax
treatment as a regulated investment company. The foregoing limitations on
dividends, distributions and purchases under certain circumstances may impair
the Fund's ability to maintain such qualification. See "Taxes" in the statement
of additional information.
Upon any failure to pay dividends on AMPS for two years or more, the holders
of the AMPS will acquire certain additional voting rights. See "Voting Rights"
below. Such rights shall be the exclusive remedy of the holders of AMPS upon
any failure to pay dividends on shares of the Fund.
Additional Dividends. If the Fund retroactively allocates any net capital
gains or other income subject to regular Federal income taxes to shares of AMPS
without having given advance notice thereof to the Auction Agent as described
under "The Auction--Auction Date; Advance Notice of Allocation of Taxable
Income; Inclusion of Taxable Income in Dividends" below, which may only happen
when such allocation is made as a result of the redemption of all or a portion
of the outstanding AMPS or the liquidation of the Fund (the amount of such
allocation referred to herein as a "Retroactive Taxable Allocation"), the Fund,
within 90 days (and generally within 60 days) after the end of the Fund's
fiscal year for which a Retroactive Taxable Allocation is made, will provide
notice thereof to the Auction Agent and to each holder of shares (initially
Cede as nominee of the Securities Depository) during such fiscal year at such
holder's address as the same appears or last appeared on the stock books of the
Fund. The Fund, within 30 days after such notice is given to the Auction Agent,
will pay to the Auction Agent (who then will distribute to such holders of
AMPS), out of funds legally available therefor, an amount equal to the
aggregate Additional Dividend (as defined below) with respect to all
Retroactive Taxable Allocations made to such holders during the fiscal year in
question. See "Taxes" in the statement of additional information.
An "Additional Dividend" means payment to a present or former holder of
shares of AMPS of an amount which, when taken together with the aggregate
amount of Retroactive Taxable Allocations made to such holder with respect to
the fiscal year in question, would cause such holder's dividends in dollars
(after Federal and
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Pennsylvania income tax consequences) from the aggregate of both the
Retroactive Taxable Allocations and the Additional Dividend to be equal to the
dollar amount of the dividends which would have been received by such holder if
the amount of the aggregate Retroactive Taxable Allocations had been excludable
from the gross income of such holder. Such Additional Dividend shall be
calculated (i) without consideration being given to the time value of money;
(ii) assuming that no holder of AMPS is subject to the Federal alternative
minimum tax with respect to dividends received from the Fund; and (iii)
assuming that each Retroactive Taxable Allocation would be taxable in the hands
of each holder of AMPS at the greater of: (a) the maximum combined marginal
regular Federal and Pennsylvania individual income tax rate applicable to
ordinary income or capital gains depending on the taxable character of the
distribution (including any surtax); or (b) the maximum combined marginal
regular Federal and Pennsylvania corporate income tax rate applicable to
ordinary income or capital gains depending on the taxable character of the
distribution (taking into account in both (a) and (b) the Federal income tax
deductibility of state taxes paid or incurred but not any phase out of, or
provision limiting, personal exemptions, itemized deductions, or the benefit of
lower tax brackets and assuming the taxability of Federally tax-exempt
dividends for corporations for Pennsylvania state capital stock/franchise tax
purposes). Although the Fund generally intends to designate any Additional
Dividend as an exempt-interest dividend to the extent permitted by applicable
law, it is possible that all or a portion of any Additional Dividend will be
taxable to the recipient thereof. See "Taxes--Tax Treatment of Additional
Dividends" in the statement of additional information. The Fund will not pay a
further Additional Dividend with respect to any taxable portion of an
Additional Dividend.
If the Fund does not give advance notice of the amount of taxable income to
be included in a dividend on AMPS in the related Auction, the Fund may include
such taxable income in a dividend on shares of AMPS if it increases the
dividend by an additional amount calculated as if such income were a
Retroactive Taxable Allocation and the additional amount were an Additional
Dividend and notifies the Auction Agent of such inclusion at least five days
prior to the applicable Dividend Payment Date. See "The Auction--Auction
Procedures--Auction Date; Advance Notice of Allocation of Taxable Income;
Inclusion of Taxable Income in Dividends" below.
Asset Maintenance
The Fund will be required to satisfy two separate asset maintenance
requirements under the terms of the Certificate of Designation. These
requirements are summarized below.
1940 Act AMPS Asset Coverage. The Fund will be required under the Certificate
of Designation to maintain, with respect to AMPS, as of the last Business Day
of each month in which any AMPS are outstanding, asset coverage of at least
200% with respect to senior securities which are stock, including the AMPS (or
such other asset coverage as in the future may be specified in or under the
1940 Act as the minimum asset coverage for senior securities which are stock of
a closed-end investment company as a condition of paying dividends on its
common stock) ("1940 Act AMPS Asset Coverage"). If the Fund fails to maintain
1940 Act AMPS Asset Coverage and such failure is not cured as of the last
Business Day of the following month (the "1940 Act Cure Date"), the Fund will
be required under certain circumstances to redeem certain of the AMPS. See
"Redemption" below.
The 1940 Act AMPS Asset Coverage immediately following the issuance of AMPS
offered hereby (after giving effect to the deduction of the sales load and
offering expenses for the AMPS) will be computed as follows:
<TABLE>
<S> <C> <C> <C> <C>
Value of Fund assets
less
liabilities not
constituting
senior securities = $48,321,647 = 236%
------------------------ -------------
Senior securities $20,500,000
representing
indebtedness
plus liquidation value
of the
AMPS
</TABLE>
17
<PAGE>
AMPS Basic Maintenance Amount. So long as AMPS are outstanding, the Fund will
be required under the Certificate of Designation to maintain as of each
Business Day (a "Valuation Date") S&P Eligible Assets and Moody's Eligible
Assets each having in the aggregate a Discounted Value at least equal to the
AMPS Basic Maintenance Amount. The AMPS Basic Maintenance Amount includes the
sum of (i) the aggregate liquidation value of AMPS then outstanding and (ii)
certain accrued and projected payment obligations of the Fund. See "Description
of AMPS--Asset Maintenance--AMPS Basic Maintenance Amount" in the statement of
additional information. If the Fund fails to meet such requirement as of any
Valuation Date and such failure is not cured on or before the sixth Business
Day after such Valuation Date (the "AMPS Basic Maintenance Cure Date"), the
Fund will be required under certain circumstances to redeem certain of the
AMPS. Upon any failure to maintain the required Discounted Value, the Fund will
use its best efforts to alter the composition of its portfolio to reattain a
Discounted Value at least equal to the AMPS Basic Maintenance Amount on or
prior to the AMPS Basic Maintenance Cure Date. See "Redemption" herein and in
the statement of additional information.
Redemption
Optional Redemption. To the extent permitted under the 1940 Act and under
Massachusetts law, upon giving a Notice of Redemption, as provided in the
statement of additional information, the Fund, at its option, may redeem AMPS,
in whole or in part, out of funds legally available therefor, at the Optional
Redemption Price per share on any Dividend Payment Date; provided that no share
of AMPS may be redeemed at the option of the Fund during (a) the Initial
Dividend Period with respect to such shares or (b) a Non-Call Period to which
such share is subject. "Optional Redemption Price" means $25,000 per share of
AMPS plus an amount equal to accumulated but unpaid dividends (whether or not
earned or declared) to the date fixed for redemption plus any applicable
redemption premium, if any, attributable to the designation of a Premium Call
Period. In addition, holders of AMPS may be entitled to receive Additional
Dividends in the event of redemption of such AMPS to the extent provided
herein. See "Dividends--Additional Dividends" above. The Fund has the authority
to redeem the AMPS for any reason and may redeem all or part of the outstanding
AMPS if it anticipates that the Fund's leveraged capital structure will result
in a lower rate of return to holders of common shares for any significant
period of time than that obtainable if the common shares were unleveraged.
Mandatory Redemption. The Fund will be required to redeem, out of funds
legally available therefor, at the Mandatory Redemption Price per share, AMPS
to the extent permitted under the 1940 Act and Massachusetts law, on a date
fixed by the Board of Trustees, if the Fund fails to maintain S&P Eligible
Assets and Moody's Eligible Assets each with an aggregate Discounted Value
equal to or greater than the AMPS Basic Maintenance Amount or to satisfy the
1940 Act AMPS Asset Coverage and such failure is not cured on or before the
AMPS Basic Maintenance Cure Date or the 1940 Act Cure Date (herein collectively
referred to as a "Cure Date"), as the case may be. "Mandatory Redemption Price"
means $25,000 per share of AMPS plus an amount equal to accumulated but unpaid
dividends (whether or not earned or declared) to the date fixed for redemption.
In addition, holders of AMPS may be entitled to receive Additional Dividends in
the event of redemption of such AMPS to the extent provided herein. See
"Dividends--Additional Dividends" above.
For a discussion of the allocation procedures to be used if fewer than all of
the outstanding AMPS are to be redeemed and for a discussion of other
redemption procedures, see "Description of AMPS--Redemption" in the statement
of additional information.
Liquidation Rights
Upon any liquidation, dissolution or winding up of the Fund, whether
voluntary or involuntary, the holders of AMPS will be entitled to receive, out
of the assets of the Fund available for distribution to shareholders, before
any distribution or payment is made upon any common shares or any other capital
shares of the Fund ranking junior in right of payment upon liquidation of AMPS,
$25,000 per share together with the amount of any dividends accumulated but
unpaid (whether or not earned or declared) thereon to the date of distribution,
and after such payment the holders of AMPS will be entitled to no other
payments except for any Additional
18
<PAGE>
Dividends. If such assets of the Fund shall be insufficient to make the full
liquidation payment on each outstanding series of AMPS and liquidation payments
on any other outstanding class or series of preferred shares of the Fund
ranking on a parity with the AMPS as to payment upon liquidation, then such
assets will be distributed among the holders of each such series of AMPS and
the holders of such other class or series ratably in proportion to the
respective preferential amounts to which they are entitled. After payment of
the full amount of liquidation distribution to which they are entitled, the
holders of AMPS will not be entitled to any further participation in any
distribution of assets by the Fund except for any Additional Dividends. A
consolidation, merger or share exchange of the Fund with or into any other
entity or entities or a sale, whether for cash, shares of stock, securities or
properties, of all or substantially all or any part of the assets of the Fund
shall not be deemed or construed to be a liquidation, dissolution or winding up
of the Fund.
Voting Rights
Except as otherwise indicated in this prospectus and the statement of
additional information and except as otherwise required by applicable law,
holders of AMPS will be entitled to one vote per share on each matter submitted
to a vote of shareholders and will vote together with holders of common shares
as a single class.
The 1940 Act and the Certificate of Designation require that the holders of
preferred shares, including the AMPS, voting as a separate class, have the
rights to elect two of the Fund's Trustees at all times and to elect a majority
of the Trustees at any time that two full years' dividends on the AMPS are
unpaid. The holders of AMPS will vote as a separate class or classes on certain
other matters as required under the Certificate of Designation, the 1940 Act
and Maryland law. See "Description of AMPS--Voting Rights" in the statement of
additional information.
THE AUCTION
General
Holders of the AMPS will be entitled to receive cumulative cash dividends on
their shares when, as and if declared by the Board of Trustees of the Fund, out
of funds legally available therefor, on the Initial Dividend Payment Date with
respect to the Initial Dividend Period and, thereafter, on each Dividend
Payment Date with respect to a Subsequent Dividend Period (generally a period
of seven days subject to certain exceptions set forth under "Description of
AMPS--Dividends--General") at the rate per annum equal to the Applicable Rate
for each such Dividend Period.
The provisions of the Certificate of Designation establishing the terms of
the AMPS offered hereby will provide that the Applicable Rate for AMPS for each
Dividend Period after the Initial Dividend Period therefor will be equal to the
rate per annum that the Auction Agent advises has resulted on the Business Day
preceding the first day of such Dividend Period due to implementation of the
auction procedures set forth in the Certificate of Designation (the "Auction
Procedures") in which persons determine to hold or offer to purchase or sell
AMPS. The Auction Procedures are attached as Appendix E to the statement of
additional information.
Each periodic operation of such procedures with respect to the AMPS is
referred to hereinafter as an "Auction." If, however, the Fund should fail to
pay or duly provide for the full amount of any dividend on AMPS or the
redemption price of AMPS called for redemption, the Applicable Rate for AMPS
will be determined as set forth under "Description of AMPS--Dividends--Non-
Payment Period; Late Charge" in the statement of additional information.
Auction Agent Agreement. The Fund will enter into an agreement (the "Auction
Agent Agreement") with IBJ Whitehall Bank & Trust Company (together with any
successor bank or trust company or other entity entering into a similar
agreement with this Fund, the "Auction Agent"), which provides, among other
things, that the Auction Agent will follow the Auction Procedures for the
purpose of determining the Applicable Rate for the AMPS. The Fund will pay the
Auction Agent compensation for its services under the Auction Agent Agreement.
19
<PAGE>
Broker-Dealer Agreements. The Auction Agent will enter into agreements with
Merrill Lynch, Pierce, Fenner & Smith Incorporated ("Merrill Lynch"), Goldman,
Sachs & Co., Lehman Government Securities Incorporated and Salomon Smith Barney
Inc. and may enter into similar agreements (collectively, the "Broker-Dealer
Agreements") with one or more other broker-dealers (collectively, the "Broker-
Dealers") selected by the Fund, which provide for the participation of such
Broker-Dealers in Auctions. Merrill Lynch is an affiliate of the Investment
Adviser in that they share a common parent, ML & Co.
Securities Depository. The Depository Trust Company initially will act as the
Securities Depository for the Agent Members with respect to the AMPS. One or
more registered certificates for all of the AMPS initially will be registered
in the name of Cede, as nominee of the Securities Depository. The certificate
will bear a legend to the effect that such certificate is issued subject to the
provisions restricting transfers of the AMPS in the Certificate of Designation.
Cede initially will be the holder of record of all AMPS, and Beneficial Owners
will not be entitled to receive certificates representing their ownership
interest in such shares. The Securities Depository will maintain lists of its
participants and will maintain the positions (ownership interests) of AMPS held
by each Agent Member, whether as the Beneficial Owner thereof for its own
account or as nominee for the Beneficial Owner thereof. Payments made by the
Fund to holders of AMPS will be duly made by making payments to the nominee of
the Securities Depository.
Auction Procedures
The following is a brief discussion of the procedures to be used in
conducting Auctions. This summary is qualified by reference to the Auction
Procedures set forth in Appendix E to the statement of additional information.
The Settlement Procedures to be used with respect to Auctions are set forth in
Appendix D to the statement of additional information.
Auction Date; Advance Notice of Allocation of Taxable Income; Inclusion of
Taxable Income in Dividends. An Auction to determine the Applicable Rate for
the AMPS offered hereby for each Dividend Period (other than the Initial
Dividend Period therefor) will be held on the first Business Day (as
hereinafter defined) preceding the first day of such Dividend Period, which
first day is also the Dividend Payment Date for the preceding Dividend Period
(the date of each Auction being referred to herein as an "Auction Date").
"Business Day" means a day on which the New York Stock Exchange is open for
trading and which is not a Saturday, Sunday or other day on which banks in the
City of New York are authorized or obligated by law to close. Auctions for the
AMPS for Dividend Periods after the Initial Dividend Period normally will be
held every Friday after the preceding Dividend Payment Date, and each
subsequent Dividend Period normally will begin on the following Monday (also a
Dividend Payment Date). The Auction Date and the first day of the related
Dividend Period (both of which must be Business Days) need not be consecutive
calendar days. For example, in most cases, if the Friday that normally would be
an Auction Date for the AMPS is not a Business Day, then such Auction Date will
be the preceding Thursday and the first day of the related Dividend Period will
continue to be the following Monday. See "Description of AMPS--Dividends" for
information concerning the circumstances under which a Dividend Payment Date
may fall on a date other than the days specified above, which may affect the
Auction Date.
Except as noted below, whenever the Fund intends to include any net capital
gains or other income subject to regular Federal income taxes in any dividend
on AMPS, the Fund will notify the Auction Agent of the amount to be so included
at least five Business Days prior to the Auction Date on which the Applicable
Rate for such dividend is to be established. Whenever the Auction Agent
receives such notice from the Fund, in turn it will notify each Broker-Dealer,
who, on or prior to such Auction Date, in accordance with its Broker-Dealer
Agreement, will notify its customers who are Beneficial Owners and Potential
Beneficial Owners believed to be interested in submitting an Order in the
Auction to be held on such Auction Date. The Fund also may include such income
in a dividend on AMPS without giving advance notice thereof if it increases the
dividend by an additional amount calculated as if such income were a
Retroactive Taxable Allocation and the additional amount were an Additional
Dividend; provided that the Fund will notify the Auction Agent of the
additional amounts to be included in such dividend at least five Business Days
prior to the applicable Dividend Payment Date. See "Description of AMPS--
Dividends--Additional Dividends" above.
20
<PAGE>
Orders by Beneficial Owners, Potential Beneficial Owners, Existing Holders
and Potential Holders. On or prior to each Auction Date:
(a) each Beneficial Owner may submit to its Broker-Dealer by telephone a:
(i) Hold Order--indicating the number of outstanding AMPS, if any,
that such Beneficial Owner desires to continue to hold without regard
to the Applicable Rate for the next Dividend Period for such shares;
(ii) Bid--indicating the number of outstanding AMPS, if any, that
such Beneficial Owner desires to continue to hold, provided that the
Applicable Rate for the next Dividend Period for such shares is not
less than the rate per annum then specified by such Beneficial Owner;
and/or
(iii) Sell Order--indicating the number of outstanding AMPS, if any,
that such Beneficial Owner offers to sell without regard to the
Applicable Rate for the next Dividend Period for such shares; and
(b) Broker-Dealers will contact customers who are Potential Beneficial
Owners of AMPS to determine whether such Potential Beneficial Owners desire
to submit Bids indicating the number of AMPS which they offer to purchase
provided that the Applicable Rate for the next Dividend Period for such
shares is not less than the rates per annum specified in such Bids.
The communication by a Beneficial Owner or Potential Beneficial Owner to a
Broker-Dealer and the communication by a Broker-Dealer, whether or not acting
for its own account, to the Auction Agent of the foregoing information is
hereinafter referred to as an "Order" and collectively as "Orders." A
Beneficial Owner or a Potential Beneficial Owner placing an Order, including a
Broker-Dealer acting in such capacity for its own account, is hereinafter
referred to as a "Bidder" and collectively as "Bidders." Any Order submitted by
a Beneficial Owner or a Potential Beneficial Owner to its Broker-Dealer, or by
a Broker-Dealer to the Auction Agent, prior to the Submission Deadline on any
Auction Date shall be irrevocable.
In an Auction, a Beneficial Owner may submit different types of Orders with
respect to AMPS then held by such Beneficial Owner, as well as Bids for
additional AMPS. For information concerning the priority given to different
types of Orders placed by Beneficial Owners, see "Submission of Orders by
Broker-Dealers to Auction Agent" below.
The Maximum Applicable Rate for AMPS will be the Applicable Percentage of the
Reference Rate. The Auction Agent will round each applicable Maximum Applicable
Rate to the nearest one-thousandth (0.001) of one percent per annum, with any
such number ending in five ten-thousandths of one percent being rounded upwards
to the nearest one-thousandth (0.001) of one percent. The Auction Agent will
not round the applicable Reference Rate as part of its calculation of the
Maximum Applicable Rate.
The Maximum Applicable Rate for AMPS will depend on the credit rating or
ratings assigned to such shares. The Applicable Percentage will be determined
based on (i) the lower of the credit rating or ratings assigned on such date to
such shares by Moody's and S&P (or if Moody's or S&P or both shall not make
such rating available, the equivalent of either or both of such ratings by a
Substitute Rating Agency or two Substitute Rating Agencies or, in the event
that only one such rating shall be available, such rating) and (ii) whether the
Fund has provided notification to the Auction Agent prior to the Auction
establishing the Applicable Rate for any dividend that net capital gains or
other taxable income will be included in such dividend on shares of AMPS as
follows:
<TABLE>
<CAPTION>
Applicable Applicable
Credit Ratings Percentage of Percentage of
---------------------------------- Reference Rate-- Reference Rate--
Moody's S&P No Notification Notification
---------------- ------------- ---------------- ----------------
<S> <C> <C> <C>
"aa3" or higher AA- or Higher 110% 150%
"a3" or "a1" A- to A 125% 160%
"baa3" to "baa1" BBB- to BBB+ 150% 250%
Below "baa3" Below BBB- 200% 275%
</TABLE>
21
<PAGE>
There is no minimum Applicable Rate in respect of any Dividend Period.
The Fund will take all reasonable action necessary to enable S&P and Moody's
to provide a rating for the AMPS. If either S&P or Moody's, or both, shall not
make such a rating available, the Underwriter or its affiliates and successors,
after consultation with the Fund, will select another nationally recognized
statistical rating organization (a "Substitute Rating Agency") or two other
nationally recognized statistical rating organizations ("Substitute Rating
Agencies") to act as a Substitute Rating Agency or Substitute Rating Agencies,
as the case may be.
Any Bid by a Beneficial Owner specifying a rate per annum higher than the
Maximum Applicable Rate will be treated as a Sell Order, and any Bid by a
Potential Beneficial Owner specifying a rate per annum higher than the Maximum
Applicable Rate will not be considered. See "Determination of Sufficient
Clearing Bids, Winning Bid Rate and Applicable Rate" and "Acceptance and
Rejection of Submitted Bids and Submitted Sell Orders and Allocation of
Shares."
Neither the Fund nor the Auction Agent will be responsible for a Broker-
Dealer's failure to comply with the foregoing.
A Broker-Dealer also may hold AMPS in its own account as a Beneficial Owner.
A Broker-Dealer thus may submit Orders to the Auction Agent as a Beneficial
Owner or a Potential Beneficial Owner and therefore participate in an Auction
as an Existing Holder or Potential Holder on behalf of both itself and its
customers. Any Order placed with the Auction Agent by a Broker-Dealer as or on
behalf of a Beneficial Owner or a Potential Beneficial Owner will be treated in
the same manner as an Order placed with a Broker-Dealer by a Beneficial Owner
or a Potential Beneficial Owner. Similarly, any failure by a Broker-Dealer to
submit to the Auction Agent an Order in respect of any AMPS held by it or its
customers who are Beneficial Owners will be treated in the same manner as a
Beneficial Owner's failure to submit to its Broker-Dealer an Order in respect
of AMPS held by it, as described in the next paragraph. Inasmuch as a Broker-
Dealer participates in an Auction as an Existing Holder or a Potential Holder
only to represent the interests of a Beneficial Owner or Potential Beneficial
Owner, whether it be its customers or itself, all discussion herein relating to
the consequences of an Auction for Existing Holders and Potential Holders also
applies to the underlying beneficial ownership interests represented thereby.
For information concerning the priority given to different types of Orders
placed by Existing Holders, see "Submission of Orders by Broker-Dealers to
Auction Agent." Each purchase or sale in an Auction will be settled on the
Business Day next succeeding the Auction Date at a price per share equal to
$25,000. See "Notification of Results; Settlement" below.
If one or more Orders covering in the aggregate all of the outstanding AMPS
held by a Beneficial Owner are not submitted to the Auction Agent prior to the
Submission Deadline, either because a Broker-Dealer failed to contact such
Beneficial Owner or otherwise, the Auction Agent shall deem a Hold Order (in
the case of an Auction relating to a Dividend Period which is not a Special
Dividend Period of 28 days or more) and a Sell Order (in the case of an Auction
relating to a Special Dividend Period of 28 days or more) to have been
submitted on behalf of such Beneficial Owner covering the number of outstanding
AMPS held by such Beneficial Owner and not subject to Orders submitted to the
Auction Agent.
If all of the outstanding AMPS are subject to Submitted Hold Orders, the
Dividend Period next succeeding the Auction automatically shall be the same
length as the immediately preceding Dividend Period, and the Applicable Rate
for the next Dividend Period for all AMPS will be 40% of the Reference Rate on
the date of the applicable Auction (or 60% of such rate if the Fund has
provided notification to the Auction Agent prior to the Auction establishing
the Applicable Rate for any dividend that net capital gains or other taxable
income will be included in such dividend on AMPS).
For the purposes of an Auction, AMPS for which the Fund shall have given
notice of redemption and deposited moneys therefor with the Auction Agent in
trust or segregated in an account at the Fund's custodian bank for the benefit
of the Auction Agent, as set forth under "Description of AMPS--Redemption" in
the
22
<PAGE>
statement of additional information, will not be considered as outstanding and
will not be included in such Auction. Pursuant to the Certificate of
Designation of the Fund, the Fund will be prohibited from reissuing and its
affiliates (other than the Underwriter) will be prohibited from transferring
(other than to the Fund) any shares of AMPS they may acquire. Neither the Fund
nor any affiliate of the Fund (other than the Underwriter) may submit an Order
in any Auction, except that an affiliate of the Fund that is a Broker-Dealer
may submit an Order.
Submission of Orders by Broker-Dealers to Auction Agent. Prior to 1:00 p.m.,
Eastern time, on each Auction Date, or such other time on the Auction Date as
may be specified by the Auction Agent (the "Submission Deadline"), each Broker-
Dealer will submit to the Auction Agent in writing all Orders obtained by it
for the Auction to be conducted on such Auction Date, designating itself
(unless otherwise permitted by the Fund) as the Existing Holder or Potential
Holder in respect of the AMPS subject to such Orders. Any Order submitted by a
Beneficial Owner or a Potential Beneficial Owner to its Broker-Dealer, or by a
Broker-Dealer to the Auction Agent, prior to the Submission Deadline on any
Auction Date, shall be irrevocable.
If the rate per annum specified in any Bid contains more than three figures
to the right of the decimal point, the Auction Agent will round such rate per
annum up to the next highest one-thousandth (.001) of 1%.
If one or more Orders of an Existing Holder are submitted to the Auction
Agent and such Orders cover in the aggregate more than the number of
outstanding AMPS held by such Existing Holder, such Orders will be considered
valid in the following order of priority:
(i) any Hold Order will be considered valid up to and including the
number of outstanding AMPS held by such Existing Holder, provided that if
more than one Hold Order is submitted by such Existing Holder and the
number of AMPS subject to such Hold Orders exceeds the number of
outstanding AMPS held by such Existing Holder, the number of AMPS subject
to each of such Hold Orders will be reduced pro rata so that such Hold
Orders, in the aggregate, will cover exactly the number of outstanding AMPS
held by such Existing Holder;
(ii) any Bids will be considered valid, in the ascending order of their
respective rates per annum if more than one Bid is submitted by such
Existing Holder, up to and including the excess of the number of
outstanding AMPS held by such Existing Holder over the number of
outstanding AMPS subject to any Hold Order referred to in clause (i) above
(and if more than one Bid submitted by such Existing Holder specifies the
same rate per annum and together they cover more than the remaining number
of shares that can be the subject of valid Bids after application of clause
(i) above and of the foregoing portion of this clause (ii) to any Bid or
Bids specifying a lower rate or rates per annum, the number of shares
subject to each of such Bids will be reduced pro rata so that such Bids, in
the aggregate, cover exactly such remaining number of outstanding shares);
and the number of outstanding shares, if any, subject to Bids not valid
under this clause (ii) shall be treated as the subject of a Bid by a
Potential Holder; and
(iii) any Sell Order will be considered valid up to and including the
excess of the number of outstanding AMPS held by such Existing Holder over
the sum of the number of AMPS subject to Hold Orders referred to in clause
(i) above and the number of AMPS subject to valid Bids by such Existing
Holder referred to in clause (ii) above; provided that, if more than one
Sell Order is submitted by any Existing Holder and the number of AMPS
subject to such Sell Orders is greater than such excess, the number of AMPS
subject to each of such Sell Orders will be reduced pro rata so that such
Sell Orders, in the aggregate, will cover exactly the number of AMPS equal
to such excess.
If more than one Bid of any Potential Holder is submitted in any Auction,
each Bid submitted in such Auction will be considered a separate Bid with the
rate per annum and number of AMPS therein specified.
Determination of Sufficient Clearing Bids, Winning Bid Rate and Applicable
Rate. Not earlier than the Submission Deadline for each Auction, the Auction
Agent will assemble all Orders submitted or deemed submitted to it by the
Broker-Dealers (each such "Hold Order," "Bid" or "Sell Order" as submitted or
deemed submitted by a Broker-Dealer hereinafter being referred to as a
"Submitted Hold Order," a
23
<PAGE>
"Submitted Bid" or a "Submitted Sell Order," as the case may be, or as a
"Submitted Order") and will determine the excess of the number of outstanding
shares of AMPS over the number of outstanding AMPS subject to Submitted Hold
Orders (such excess being referred to as the "Available AMPS") and whether
Sufficient Clearing Bids have been made in such Auction. Sufficient Clearing
Bids will have been made if the number of outstanding AMPS that are the subject
of Submitted Bids of Potential Holders with rates per annum not higher than the
Maximum Applicable Rate equals or exceeds the number of outstanding shares that
are the subject of Submitted Sell Orders (including the number of shares
subject to Bids of Existing Holders specifying rates per annum higher than the
Maximum Applicable Rate).
If Sufficient Clearing Bids have been made, the Auction Agent will determine
the lowest rate per annum specified in the Submitted Bids (the "Winning Bid
Rate") which would result in the number of shares subject to Submitted Bids
specifying such rate per annum or a lower rate per annum being at least equal
to the Available AMPS. If Sufficient Clearing Bids have been made, the Winning
Bid Rate will be the Applicable Rate for the next Dividend Period for all AMPS
then outstanding.
If Sufficient Clearing Bids have not been made (other than because all
outstanding shares of AMPS are the subject of Submitted Hold Orders), the
Dividend Period next following the Auction automatically will be a 7-Day
Dividend Period, and the Applicable Rate for such Dividend Period will be equal
to the Maximum Applicable Rate. If Sufficient Clearing Bids have not been made,
Beneficial Owners that have Submitted Sell Orders will not be able to sell in
the Auction all, and may not be able to sell any, AMPS subject to such
Submitted Sell Orders. See "Acceptance and Rejection of Submitted Bids and
Submitted Sell Orders and Allocation of Shares." Thus, under some
circumstances, Beneficial Owners may not have liquidity of investment.
Acceptance and Rejection of Submitted Bids and Submitted Sell Orders and
Allocation of Shares. Based on the determinations described under
"Determination of Sufficient Clearing Bids, Winning Bid Rate and Applicable
Rate" and subject to the discretion of the Auction Agent to round as described
below, Submitted Bids and Submitted Sell Orders will be accepted or rejected in
the order of priority set forth in the Auction Procedures with the result that
Existing Holders and Potential Holders of AMPS will sell, continue to hold
and/or purchase AMPS as set forth below. Existing Holders that submit or are
deemed to have submitted Hold Orders will continue to hold the AMPS subject to
such Hold Orders.
If Sufficient Clearing Bids have been made:
(a) each Existing Holder that placed a Submitted Bid specifying a rate
per annum higher than the Winning Bid Rate or a Submitted Sell Order will
sell the outstanding AMPS subject to such Submitted Bid or Submitted Sell
Order;
(b) each Existing Holder that placed a Submitted Bid specifying a rate
per annum lower than the Winning Bid Rate will continue to hold the
outstanding AMPS subject to such Submitted Bid;
(c) each Potential Holder that placed a Submitted Bid specifying a rate
per annum lower than the Winning Bid Rate will purchase the number of AMPS
subject to such Submitted Bid;
(d) each Existing Holder that placed a Submitted Bid specifying a rate
per annum equal to the Winning Bid Rate will continue to hold the
outstanding AMPS subject to such Submitted Bids, unless the number of
outstanding AMPS subject to all such Submitted Bids of Existing Holders is
greater than the excess of the Available AMPS over the number of AMPS
accounted for in clauses (b) and (c) above, in which event each Existing
Holder with such a Submitted Bid will sell a number of outstanding AMPS
determined on a pro rata basis based on the number of outstanding AMPS
subject to all such Submitted Bids of such Existing Holders; and
(e) each Potential Holder that placed a Submitted Bid specifying a rate
per annum equal to the Winning Bid Rate will purchase any Available AMPS
not accounted for in clause (b), (c) or (d) above on a pro rata basis based
on the AMPS subject to all such Submitted Bids of Potential Holders.
24
<PAGE>
If Sufficient Clearing Bids have not been made (other than because all
outstanding shares of AMPS are the subject of Submitted Hold Orders):
(a) each Existing Holder that placed a Submitted Bid specifying a rate
per annum equal to or lower than the Maximum Applicable Rate will continue
to hold the outstanding AMPS subject to such Submitted Bid;
(b) each Potential Holder that placed a Submitted Bid specifying a rate
per annum equal to or lower than the Maximum Applicable Rate will purchase
the number of AMPS subject to such Submitted Bid; and
(c) each Existing Holder that placed a Submitted Bid specifying a rate
per annum higher than the Maximum Applicable Rate or a Submitted Sell Order
will sell a number of outstanding AMPS determined on a pro rata basis based
on the outstanding AMPS subject to all such Submitted Bids and Submitted
Sell Orders.
If as a result of the Auction Procedures described above any Existing Holder
would be entitled or required to sell, or any Potential Holder would be
entitled or required to purchase, a fraction of a share of AMPS, the Auction
Agent, in such manner as, in its sole discretion, it shall determine, will
round up or down the number of AMPS being sold or purchased on such Auction
Date so that each share sold or purchased by each Existing Holder or Potential
Holder will be a whole share of AMPS. If any Potential Holder would be entitled
or required to purchase less than a whole share of AMPS, the Auction Agent, in
such manner as, in its sole discretion, it shall determine, will allocate AMPS
for purchase among Potential Holders so that only whole shares of AMPS are
purchased by any such Potential Holder, even if such allocation results in one
or more of such Potential Holders not purchasing any AMPS.
Notification of Results; Settlement. The Auction Agent will advise each
Broker-Dealer who submitted a Bid or Sell Order in an Auction whether such Bid
or Sell Order was accepted or rejected in whole or in part and of the
Applicable Rate for the next Dividend Period for the related AMPS by telephone
at approximately 3:00 P.M., Eastern time, on the Auction Date for such Auction.
Each such Broker-Dealer that submitted an Order for the account of a customer
then will advise such customer whether such Bid or Sell Order was accepted or
rejected, will confirm purchases and sales with each customer purchasing or
selling AMPS as a result of the Auction and will advise each customer
purchasing or selling AMPS to give instructions to its Agent Member of the
Securities Depository to pay the purchase price against delivery of such shares
or to deliver such shares against payment therefor as appropriate. If a
customer selling AMPS as a result of an Auction shall fail to instruct its
Agent Member to deliver such shares, the Broker-Dealer that submitted such
customer's Bid or Sell Order will instruct such Agent Member to deliver such
shares against payment therefor. Each Broker-Dealer that submitted a Hold Order
in an Auction on behalf of a customer also will advise such customer of the
Applicable Rate for the next Dividend Period for the AMPS. The Auction Agent
will record each transfer of AMPS on the record book of Existing Holders to be
maintained by the Auction Agent.
In accordance with the Securities Depository's normal procedures, on the day
after each Auction Date, the transactions described above will be executed
through the Securities Depository, and the accounts of the respective Agent
Members at the Securities Depository will be debited and credited as necessary
to effect the purchases and sales of AMPS as determined in such Auction.
Purchasers will make payment through their Agent Members in same-day funds to
the Securities Depository against delivery through their Agent Members; the
Securities Depository will make payment in accordance with its normal
procedures, which now provide for payment in same-day funds. If the procedures
of the Securities Depository applicable to AMPS shall be changed to provide for
payment in next-day funds, then purchasers may be required to make payment in
next-day funds. If the certificates for AMPS are not held by the Securities
Depository or its nominee, payment will be made in same-day funds to the
Auction Agent against delivery of such certificates.
If any Existing Holder selling AMPS in an Auction fails to deliver such
shares, the Broker-Dealer of any person that was to have purchased AMPS in such
Auction may deliver to such person a number of whole
25
<PAGE>
AMPS that is less than the number of shares that otherwise was to be purchased
by such person. In such event, the number of AMPS to be so delivered will be
determined by such Broker-Dealer. Delivery of such lesser number of shares will
constitute good delivery. Each Broker-Dealer Agreement also will provide that
neither the Fund nor the Auction Agent will have responsibility or liability
with respect to the failure of a Potential Beneficial Owner, Beneficial Owner
or their respective Agent Members to deliver AMPS or to pay for AMPS purchased
or sold pursuant to an Auction or otherwise.
Broker-Dealers
General. The Broker-Dealer Agreements provide that a Broker-Dealer may submit
Orders in Auctions for its own account, unless the Fund notifies all Broker-
Dealers that they no longer may do so; provided that Broker-Dealers may
continue to submit Hold Orders and Sell Orders. If a Broker-Dealer submits an
Order for its own account in any Auction of any series of AMPS, it may have
knowledge of Orders placed through it in that Auction and therefore have an
advantage over other Bidders, but such Broker-Dealer would not have knowledge
of Orders submitted by other Broker-Dealers in that Auction.
Fees. The Auction Agent after each Auction will pay a service charge from
funds provided by the Fund to each Broker-Dealer on the basis of the purchase
price of AMPS placed by such Broker-Dealer at such Auction. The service charge
(i) for any 7-Day Dividend Period shall be payable at the annual rate of 0.25%
of the purchase price of the AMPS placed by such Broker-Dealer in any such
Auction and (ii) for any Special Dividend Period shall be determined by mutual
consent of the Fund and any such Broker-Dealer or Broker-Dealers and shall be
based upon a selling concession that would be applicable to an underwriting of
fixed or variable rate preferred shares with a similar final maturity or
variable rate dividend period, respectively, at the commencement of the
Dividend Period with respect to such Auction. For the purposes of the preceding
sentence, AMPS will be placed by a Broker-Dealer if such shares were (i) the
subject of Hold Orders deemed to have been made by Beneficial Owners that were
acquired by such Beneficial Owners through such Broker-Dealer or (ii) the
subject of the following Orders submitted by such Broker-Dealer: (A) a
Submitted Bid of a Beneficial Owner that resulted in such Beneficial Owner
continuing to hold such shares as a result of the Auction, (B) a Submitted Bid
of a Potential Beneficial Owner that resulted in such Potential Beneficial
Owner purchasing such shares as a result of the Auction or (C) a Submitted Hold
Order.
Secondary Trading Market. The Broker-Dealers intend to maintain a secondary
trading market in the AMPS outside of Auctions; however, they have no
obligation to do so and there can be no assurance that a secondary market for
the AMPS will develop or, if it does develop, that it will provide holders with
a liquid trading market (i.e., trading will depend on the presence of willing
buyers and sellers and the trading price is subject to variables to be
determined at the time of the trade by the Broker-Dealers). The AMPS will not
be registered on any stock exchange or on any automated quotation system. An
increase in the level of interest rates, particularly during any Long-Term
Dividend Period, likely will have an adverse effect on the secondary market
price of the AMPS, and a selling shareholder may sell AMPS between Auctions at
a price per share of less than $25,000.
26
<PAGE>
RATING AGENCY GUIDELINES
Certain of the capitalized terms used herein are defined in the Glossary that
appears at the end of this prospectus.
The Fund intends that, so long as AMPS are outstanding, the composition of
its portfolio will reflect guidelines established by Moody's and S&P in
connection with the Fund's receipt of a rating for such shares on or prior to
their Date of Original Issue of at least "aaa" from Moody's and AAA from S&P.
Moody's and S&P, which are NRSROs, issue ratings for various securities
reflecting the perceived creditworthiness of such securities. The guidelines
described below have been developed by Moody's and S&P in connection with
issuances of asset-backed and similar securities, including debt obligations
and variable rate preferred stock, generally on a case-by-case basis through
discussions with the issuers of these securities. The guidelines are designed
to ensure that assets underlying outstanding debt or preferred stock will be
varied sufficiently and will be of sufficient quality and amount to justify
investment-grade ratings. The guidelines do not have the force of law but have
been adopted by the Fund in order to satisfy current requirements necessary for
Moody's and S&P to issue the above-described ratings for AMPS, which ratings
generally are relied upon by institutional investors in purchasing such
securities. The guidelines provide a set of tests for portfolio composition and
asset coverage that supplement (and in some cases are more restrictive than)
the applicable requirements under the 1940 Act. See "Description of AMPS--Asset
Maintenance" herein and in the statement of additional information.
The Fund intends to maintain a Discounted Value for its portfolio at least
equal to the AMPS Basic Maintenance Amount. Moody's and S&P each has
established separate guidelines for determining Discounted Value. To the extent
any particular portfolio holding does not satisfy the applicable rating
agency's guidelines, all or a portion of such holding's value will not be
included in the calculation of Discounted Value (as defined by such rating
agency). The Moody's and S&P guidelines do not impose any limitations on the
percentage of Fund assets that may be invested in holdings not eligible for
inclusion in the calculation of the Discounted Value of the Fund's portfolio.
Upon any failure to maintain the required Discounted Value, the Fund will
seek to alter the composition of its portfolio to reattain a Discounted Value
at least equal to the AMPS Basic Maintenance Amount on or prior to the AMPS
Basic Maintenance Cure Date, thereby incurring additional transaction costs and
possible losses and/or gains on dispositions of portfolio securities. To the
extent any such failure is not cured in a timely manner, AMPS will be subject
to redemption. See "Description of AMPS--Asset Maintenance" and "Description of
AMPS--Redemption" herein and in the statement of additional information.
The Fund may, but is not required to, adopt any modifications to these
guidelines that hereafter may be established by Moody's or S&P. Failure to
adopt any such modifications, however, may result in a change in the ratings
described above or a withdrawal of ratings altogether. In addition, any rating
agency providing a rating for the AMPS, at any time, may change or withdraw any
such rating. As set forth in the Certificate of Designation, the Board of
Trustees, without shareholder approval, may modify certain definitions or
restrictions that have been adopted by the Fund pursuant to the rating agency
guidelines, provided the Board of Trustees has obtained written confirmation
from Moody's and S&P that any such change would not impair the ratings then
assigned by Moody's and S&P to the AMPS.
As described by Moody's and S&P, a preferred stock rating is an assessment of
the capacity and willingness of an issuer to pay preferred stock obligations.
The ratings on the AMPS are not recommendations to purchase, hold or sell AMPS,
inasmuch as the ratings do not comment as to market price or suitability for a
particular investor, nor do the rating agency guidelines described above
address the likelihood that a holder of AMPS will be able to sell such shares
in an Auction. The ratings are based on current information furnished to
Moody's and S&P by the Fund and the Investment Adviser and information obtained
from other sources. The ratings may be changed, suspended or withdrawn as a
result of changes in, or the unavailability of, such information. The common
shares have not been rated by a nationally recognized statistical rating
organization.
For additional information concerning the Moody's and S&P ratings guidelines,
see "Rating Agency Guidelines" in the statement of additional information.
27
<PAGE>
INVESTMENT ADVISORY AND MANAGEMENT ARRANGEMENTS
The Investment Adviser, which is owned and controlled by ML & Co., a
financial services holding company and the parent of Merrill Lynch, provides
the Fund with investment advisory and management services. The Merrill Lynch
Asset Management Group (which includes the Investment Adviser) acts as the
investment adviser to more than 100 other registered investment companies and
offers investment advisory services to individuals and institutional accounts.
As of January 1999, the Merrill Lynch Asset Management Group had a total of
approximately $507 billion in investment company and other portfolio assets
under management (approximately $39 billion of which were invested in municipal
securities). This amount includes assets managed for certain affiliates of the
Investment Adviser. The Investment Adviser is a limited partnership, the
partners of which are ML & Co. and Princeton Services. The principal business
address of the Investment Adviser is 800 Scudders Mill Road, Plainsboro, New
Jersey 08536.
The Investment Advisory Agreement provides that, subject to the supervision
of the Board of Trustees of the Fund, the Investment Adviser is responsible for
the actual management of the Fund's portfolio. The responsibility for making
decisions to buy, sell or hold a particular security rests with the Investment
Adviser, subject to review by the Board of Trustees.
The Investment Adviser provides the portfolio management for the Fund. Such
portfolio management will consider analyses from various sources (including
brokerage firms with which the Fund does business), make the necessary
investment decisions, and place orders for transactions accordingly. The
Investment Adviser will also be responsible for the performance of certain
administrative and management services for the Fund. William R. Bock and Robert
A. DiMella are the portfolio managers of the Fund and are primarily responsible
for the Fund's day-to-day management.
For the services provided by the Investment Adviser under the Investment
Advisory Agreement, the Fund will pay a monthly fee at an annual rate of 0.55
of 1% of the Fund's average weekly net assets (i.e., the average weekly value
of the total assets of the Fund, including proceeds from the issuance of
preferred shares, minus the sum of accrued liabilities of the Fund and
accumulated dividends on the preferred shares). For purposes of this
calculation, average weekly net assets are determined at the end of each month
on the basis of the average net assets of the Fund for each week during the
month. The assets for each weekly period are determined by averaging the net
assets at the last business day of a week with the net assets at the last
business day of the prior week.
The Investment Advisory Agreement obligates the Investment Adviser to provide
investment advisory services and to pay all compensation of and furnish office
space for officers and employees of the Fund connected with investment and
economic research, trading and investment management of the Fund, as well as
the compensation of all Trustees of the Fund who are affiliated persons of the
Investment Adviser or any of its affiliates. The Fund pays all other expenses
incurred in the operation of the Fund, including, among other things, expenses
for legal and auditing services, taxes, costs of printing proxies, listing
fees, if any, share certificates and shareholder reports, charges of the
custodian and the transfer and dividend disbursing agent and registrar, fees
and expenses with respect to the issuance of preferred shares, Securities and
Exchange Commission fees, fees and expenses of non-interested Trustees,
accounting and pricing costs, insurance, interest, brokerage costs, litigation
and other extraordinary or non-recurring expenses, mailing and other expenses
properly payable by the Fund. Accounting services are provided to the Fund by
the Investment Adviser, and the Fund reimburses the Investment Adviser for its
costs in connection with such services.
28
<PAGE>
TAXES
In general, dividends on the AMPS will be exempt from Federal income tax in
the hands of holders of such AMPS, subject to the possible application of the
Federal alternative minimum tax. However, the Fund is required to allocate net
capital gains and other taxable income, if any, proportionately among the
common shares and AMPS in accordance with the current position of the Internal
Revenue Service ("IRS") described under the heading "Taxes" in the statement of
additional information. The Fund may notify the Auction Agent of the amount of
any net capital gains or other anticipated taxable income to be included in any
dividend on the AMPS prior to the Auction establishing the Applicable Dividend
Rate for such dividend. The Auction Agent will in turn notify holders of the
AMPS and prospective purchasers. The amount of taxable income allocable to AMPS
will depend upon the amount of such income realized by the Fund and cannot be
determined with certainty prior to the end of the Fund's fiscal year, but it is
not generally expected to be significant.
The portion of exempt-interest dividends paid from interest received by the
Fund from Pennsylvania Municipal Bonds also will be exempt from Pennsylvania
personal income tax. In the case of Philadelphia residents, distributions
derived from interest on Pennsylvania Municipal Bonds or designated as capital
gain dividends for Federal income tax purposes will be exempt from the
Philadelphia School District investment income tax. A pronouncement by the
Pennsylvania Department of Revenue indicates that to the extent the Fund's
assets consist of Pennsylvania and/or United States Government Securities that
would be exempt assets if owned directly by a corporation such asset will
apparently qualify as exempt assets when computing the apportionment formula
for the Pennsylvania capital stock/foreign franchise tax. Additionally,
distributions to corporate shareholders which are excluded from taxable income
for Federal corporate income tax purposes (determined before net operating loss
carryovers and special deductions) will be exempt from the Pennsylvania
corporate net income tax. Shareholders subject to income taxation by states
other than Pennsylvania will realize a lower after-tax rate of return than
Pennsylvania shareholders since the dividends distributed by the Fund generally
will not be exempt, to any significant degree, from income taxation by such
other states.
Shares of the Fund will be exempt from Pennsylvania county personal property
taxes to the extent the Fund's portfolio securities consist of Pennsylvania
Municipal Bonds on the annual assessment date. It should be noted, however,
that at present, Pennsylvania counties generally have stopped assessing
personal property taxes. This is due, in part, to ongoing litigation
challenging the validity of the tax.
Generally, within 60 days after the end of the Fund's taxable year, the Fund
will tell you the amount of exempt-interest dividends and any capital gain
dividends you received that year. Capital gain dividends are taxable as long-
term capital gains to you for Federal income tax purposes regardless of how
long you have held your shares. The tax treatment of distributions from the
Fund is the same whether you choose to receive distributions in cash or to have
them reinvested in shares of the Fund.
If the Fund makes a Retroactive Taxable Allocation, it will pay Additional
Dividends to holders of AMPS who are subject to the Retroactive Taxable
Allocation. See "Description of AMPS--Dividends--Additional Dividends." The
Federal income tax consequences of Additional Dividends under existing law are
uncertain. The Fund intends to treat a holder as receiving a dividend
distribution in the amount of any Additional Dividend only as and when such
Additional Dividend is paid. An Additional Dividend generally will be
designated by the Fund as an exempt-interest dividend except as otherwise
required by applicable law. However, the IRS (or the Pennsylvania Department of
Revenue in the case of Pennsylvania taxes) may assert that all or part of an
Additional Dividend is a taxable dividend either in the taxable year for which
the Retroactive Taxable Allocation is made or in the taxable year in which the
Additional Dividend is paid.
Because the Fund may from time to time invest a substantial portion of its
portfolio in municipal securities bearing income that is taxable under the
Federal alternative minimum tax, the Fund would not ordinarily be a suitable
investment for investors who are subject to the alternative minimum tax.
If at any time when AMPS are outstanding the Fund does not meet the asset
coverage requirements of the 1940 Act, the Fund will be required to suspend
distributions to holders of common shares until the asset coverage is restored.
See "Description of AMPS--Restrictions on Dividends and Other Payments." This
may
29
<PAGE>
prevent the Fund from meeting certain distribution requirements for
qualification as a regulated investment company ("RIC"). If the Fund were to
fail to qualify as a RIC, some or all of its distributions would be fully
taxable for Federal and Pennsylvania income tax purposes. Upon any failure to
meet the asset coverage requirements of the 1940 Act, the Fund, in its sole
discretion, may, and under certain circumstances will be required to, redeem
AMPS in order to maintain or restore the requisite asset coverage and avoid the
adverse consequences to the Fund and its shareholders of failing to qualify as
a RIC. See "Description of AMPS--Redemption." There can be no assurance,
however, that any such action would achieve such objectives.
By law, the Fund must withhold 31% of your distributions and proceeds if you
have not provided a taxpayer identification number or social security number.
For more information regarding the tax treatment of an investment in AMPS, see
"Taxes" in the statement of additional information.
Shareholders are urged to consult their tax advisers regarding the
availability of any exemptions from state or local taxes and with specific
questions as to Federal, foreign, state or local taxes.
DESCRIPTION OF CAPITAL SHARES
The Fund is authorized to issue an unlimited number of shares of beneficial
interest, par value $.10 per share. The Board of Trustees may authorize
separate classes of shares together with such designations and powers,
preferences and rights, qualifications, limitations and restrictions as may be
determined from time to time by the Trustees. Pursuant to such authority, the
Trustees have authorized the issuance of an unlimited number of common shares
together with 1,000,000 preferred shares. In connection with the offering
described herein, the Trustees of the Fund have authorized the issuance of 820
AMPS. For a description of the AMPS, see "Description of AMPS" herein and in
the statement of additional information.
The Fund is an entity of the type commonly known as a "Massachusetts business
trust." Under Massachusetts law, shareholders of such a trust may, under
certain circumstances, be held personally liable as partners for its
obligations. However, the Declaration of Trust of the Fund contains an express
disclaimer of shareholder liability for acts or obligations of the Fund and
provides for indemnification and reimbursement of expenses out of the Fund's
property for any shareholder held personally liable for the obligations of the
Fund. Thus, the risk of a shareholder incurring financial loss on account of
shareholder liability is limited to circumstances in which the Fund itself
would be unable to meet its obligations. Given the nature of the Fund's assets
and operations, the possibility of the Fund being unable to meet its
obligations is remote and, in the opinion of Massachusetts counsel to the Fund,
the risk to Fund shareholders is remote.
The Declaration of Trust further provides that no Trustee, officer, employee
or agent of the Fund is liable to the Fund or to any shareholder, nor is any
Trustee, officer, employee or agent liable to any third persons in connection
with the affairs of the Fund, except as such liability may arise from his or
her own bad faith, willful misfeasance, gross negligence, or reckless disregard
of their duties. It also provides that all third persons shall look solely to
the Fund property for satisfaction of claims arising in connection with the
affairs of the Fund. With the exceptions stated, the Declaration of Trust
provides that a Trustee, officer, employee or agent is entitled to be
indemnified against all liability in connection with the affairs of the Fund.
The following table shows the amount of (i) capital shares authorized, (ii)
capital stock held by the Fund for its own account and (iii) capital shares
outstanding for each class of authorized securities of the Fund as of February
26, 1999.
<TABLE>
<CAPTION>
Amount
Outstanding
Amount held (exclusive of
by Fund amount held
Amount for its own by Fund for its
Title of Class Authorized account own account)
-------------- ---------- ----------- ---------------
<S> <C> <C> <C>
Common Shares........................ Unlimited -0- 1,881,667
Preferred Shares..................... 1,000,000 -0- -0-
Auction Market Preferred Shares.... 820 -0- -0-
</TABLE>
30
<PAGE>
Common Shares
Holders of common shares are entitled to share equally in dividends declared
by the Board of Trustees payable to holders of common shares and in the net
assets of the Fund available for distribution to holders of common shares after
payment of the preferential amounts payable to holders of any outstanding
preferred shares. Neither holders of common shares nor holders of preferred
shares have pre-emptive or conversion rights and shares of common shares are
not redeemable. The outstanding shares of common shares are fully paid and non-
assessable.
Holders of common shares are entitled to one vote for each share held and
will vote with the holders of any outstanding AMPS or other preferred shares on
each matter submitted to a vote of holders of common shares, except as
described under "Description of AMPS--Voting Rights" herein and in the
statement of additional information.
Shareholders are entitled to one vote for each share held. The common shares,
AMPS and any other preferred shares do not have cumulative voting rights, which
means that the holders of more than 50% of the common shares, AMPS and any
other preferred shares voting for the election of Trustees can elect all of the
Trustees standing for election by such holders, and, in such event, the holders
of the remaining common shares, AMPS and any other preferred shares will not be
able to elect any of such Trustees.
So long as any AMPS or any other preferred shares are outstanding, holders of
common shares will not be entitled to receive any dividends of or other
distributions from the Fund unless all accumulated dividends on outstanding
AMPS and any other preferred shares have been paid, and unless asset coverage
(as defined in the 1940 Act) with respect to such AMPS and any other preferred
shares would be at least 200% after giving effect to such distributions. See
"Description of AMPS--Restrictions on Dividends and Other Payments" herein and
in the statement of additional information.
The Fund will send unaudited reports at least semi-annually and audited
financial statements annually to all of its shareholders.
The common shares will commence trading on the American Stock Exchange on
March 8, 1999. At February 26, 1999, the net asset value per common share was
$14.94.
Preferred Shares
Pursuant to the Fund's Declaration of Trust, the Fund is authorized to issue
up to 1,000,000 preferred shares. Under the Certificate of Designation, the
Fund is authorized to issue an aggregate of 820 AMPS. See "Description of
AMPS." Under the 1940 Act, the Fund is permitted to have outstanding more than
one series of preferred shares as long as no single series has priority over
another series as to the distribution of assets of the Fund or the payment of
dividends. Neither holders of common shares nor holders of preferred shares
have pre-emptive rights to purchase any AMPS or any other preferred shares that
might be issued. It is anticipated that the net asset value per share of the
AMPS will equal its original purchase price per share plus accumulated
dividends per share.
Certain Provisions of the Declaration of Trust
The Fund's Declaration of Trust includes provisions that could have the
effect of limiting the ability of other entities or persons to acquire control
of the Fund or to change the composition of its Board of Trustees and could
have the effect of depriving shareholders of an opportunity to sell their
shares at a premium over prevailing market prices by discouraging a third party
from seeking to obtain control of the Fund. A Trustee may be removed from
office with or without cause but only by vote of the holders of at least 66
2/3% of the votes entitled to be voted on the matter. A Trustee elected by all
of the holders of capital shares may be removed only by action of such holders,
and a Trustee elected by the holders of AMPS and any other preferred shares may
be removed only by action of AMPS and any other preferred shares.
31
<PAGE>
In addition, the Declaration of Trust requires the favorable vote of the
holders of at least 66 2/3% of the Fund's outstanding shares, then entitled to
be voted, voting as a single class, to approve, adopt or authorize the
following:
. a merger or consolidation or statutory share exchange of the Fund with
any other corporation,
. a sale of all or substantially all of the Fund's assets (other than in
the regular course of the Fund's investment activities), or
. a liquidation or dissolution of the Fund,
unless such action has been approved, adopted or authorized by the affirmative
vote of at least two-thirds of the total number of Trustees fixed in accordance
with the by-laws, in which case the affirmative vote of a majority of all of
the votes entitled to be cast by shareholders of the Fund, voting as a single
class, is required. Such approval, adoption or authorization of the foregoing
would also require the favorable vote of at least a majority of the Fund's
preferred shares then entitled to be voted, including the AMPS, voting as a
separate class.
In addition, conversion of the Fund to an open-end investment company would
require an amendment to the Fund's Declaration of Trust. The amendment would
have to be declared advisable by the Board of Trustees prior to its submission
to shareholders. Such an amendment would require the favorable vote of the
holders of at least 66 2/3% of the Fund's outstanding capital shares (including
the AMPS and any other preferred shares) entitled to be voted on the matter,
voting as a single class (or a majority of such shares if the amendment was
previously approved, adopted or authorized by at least two-thirds of the total
number of Trustees fixed in accordance with the by-laws), and, the affirmative
vote of at least a majority of outstanding preferred shares of the Fund
(including the AMPS), voting as a separate class. Such a vote also would
satisfy a separate requirement in the 1940 Act that the change be approved by
the shareholders. Shareholders of an open-end investment company may require
the company to redeem their common shares at any time (except in certain
circumstances as authorized by or under the 1940 Act) at their net asset value,
less such redemption charge, if any, as might be in effect at the time of a
redemption. All redemptions will be made in cash. If the Fund is converted to
an open-end investment company, it could be required to liquidate portfolio
securities to meet requests for redemption. Conversion to an open-end
investment company would also require redemption of all outstanding preferred
shares (including the AMPS) and would require changes in certain of the Fund's
investment policies and restrictions, such as those relating to the issuance of
senior securities, the borrowing of money and the purchase of illiquid
securities.
The Board of Trustees has determined that the 66 2/3% voting requirements
described above, which are greater than the minimum requirements under
Massachusetts law or the 1940 Act, are in the best interests of shareholders
generally. Reference should be made to the Declaration of Trust on file with
the Commission for the full text of these provisions.
CUSTODIAN
The Fund's securities and cash are held under a custody agreement with The
Bank of New York, 90 Washington Street, New York, NY 10286.
UNDERWRITING
Merrill Lynch, Pierce, Fenner & Smith Incorporated (the "Underwriter") has
agreed, subject to the terms and conditions of a Purchase Agreement with the
Fund and the Investment Adviser, to purchase from the Fund all of the AMPS
offered hereby. The Underwriter is committed to purchase all of such shares if
any are purchased.
The Underwriter has advised the Fund that it proposes initially to offer the
AMPS to the public at the public offering price set forth on the cover page of
this prospectus, and to certain dealers at such price less a concession not in
excess of $ per share. The Underwriter may allow, and such dealers may
reallow, a discount not in excess of $ per share to other dealers. After the
initial public offering, the public offering price, concession and discount may
be changed. The sales load of $ per share is equal to % of the initial
public offering price. Investors must pay for any AMPS purchased in the initial
public offering on or before March , 1999.
32
<PAGE>
The Underwriter will act in Auctions as a Broker-Dealer as set forth under
"The Auction--General--Broker-Dealer Agreements" and will be entitled to fees
for services as a Broker-Dealer as set forth under "The Auction--Broker-
Dealers." The Underwriter also may provide information to be used in
ascertaining the Reference Rate.
The Fund anticipates that the Underwriter from time to time may act as a
broker in connection with the execution of the Fund's portfolio transactions.
The Fund has obtained exemptive orders permitting it to engage in certain
principal transactions with the Underwriter involving high quality, short-term,
tax-exempt securities, subject to certain conditions. See "Investment
Restrictions" and "Portfolio Transactions" in the statement of additional
information.
The Underwriter is an affiliate of the Investment Adviser.
The Fund and the Investment Adviser have agreed to indemnify the Underwriter
against certain liabilities including liabilities under the Securities Act of
1933, as amended.
TRANSFER AGENT, DIVIDEND DISBURSING AGENT AND REGISTRAR
The transfer agent, dividend disbursing agent and registrar for the shares of
AMPS will be IBJ Whitehall Bank & Trust Company, One State Street, New York,
New York 10004. The transfer agent, dividend disbursing agent and shareholder
servicing agent for the common shares is The Bank of New York, 101 Barclay
Street, New York, NY 10286.
LEGAL OPINIONS
Certain legal matters in connection with the AMPS offered hereby will be
passed upon for the Fund and the Underwriter by Brown & Wood LLP, One World
Trade Center, New York, New York 10048-0557.
EXPERTS
The statement of assets, liabilities and capital of the Fund as of January
13, 1999 included in the statement of additional information has been so
included in reliance on the report of Deloitte & Touche LLP, independent
auditors, and on their authority as experts in auditing and accounting. The
selection of independent auditors is subject to ratification by shareholders of
the Fund.
YEAR 2000 ISSUES
Many computer systems were designed using only two digits to designate years.
These systems may not be able to distinguish the Year 2000 from the Year 1900
(commonly known as the "Year 2000 Problem"). The Fund could be adversely
affected if the computer systems used by the Investment Adviser or other Fund
service providers do not properly address this problem before January 1, 2000.
The Investment Adviser expects to have addressed this problem before then, and
does not anticipate that the services it provides will be adversely affected.
The Fund's other service providers have told the Investment Adviser that they
also expect to resolve the Year 2000 Problem, and the Investment Adviser will
continue to monitor the situation as the Year 2000 approaches. However, if the
problem has not been fully addressed, the Fund could be negatively affected.
The Year 2000 Problem could also have a negative impact on the issuers of
securities in which the Fund invests, and this could hurt the Fund's investment
returns.
33
<PAGE>
TABLE OF CONTENTS OF STATEMENT OF ADDITIONAL INFORMATION
<TABLE>
<S> <C>
Investment Objective and Policies........................................... 3
Investment Restrictions..................................................... 7
Description of AMPS......................................................... 9
The Auction................................................................. 16
Rating Agency Guidelines.................................................... 17
Trustees and Officers....................................................... 25
Investment Advisory and Management Arrangements............................. 27
Portfolio Transactions...................................................... 28
Taxes....................................................................... 29
Net Asset Value............................................................. 34
Additional Information...................................................... 35
Independent Auditors' Report................................................ 36
Statement of Assets, Liabilities and Capital................................ 37
Schedule of Investments (Unaudited)......................................... 38
Financial Statements (Unaudited)............................................ 39
Appendix A--Economic and Financial Conditions in Pennsylvania............... A-1
Appendix B--Ratings of Municipal Bonds...................................... B-1
Appendix C--Portfolio Insurance............................................. C-1
Appendix D--Settlement Procedures........................................... D-1
Appendix E--Auction Procedures.............................................. E-1
</TABLE>
34
<PAGE>
GLOSSARY
"AA' (AA) Composite Commercial Paper Rate," on any Valuation Date, means (i)
the Interest Equivalent of the rate on commercial paper placed on behalf of
issuers whose corporate bonds are rated "AA" by S&P or "Aa" by Moody's or the
equivalent of such rating by another nationally recognized statistical rating
organization, as such rate is made available on a discount basis or otherwise
by the Federal Reserve Bank of New York for the Business Day immediately
preceding such date, or (ii) in the event that the Federal Reserve Bank of New
York does not make available such a rate, then the arithmetic average of the
Interest Equivalent of the rate on commercial paper placed on behalf of such
issuers, as quoted on a discount basis or otherwise by Merrill Lynch, Pierce,
Fenner & Smith Incorporated or its successors that are Commercial Paper
Dealers, to the Auction Agent for the close of business on the Business Day
immediately preceding such date. If one of the Commercial Paper Dealers does
not quote a rate required to determine the "AA" Composite Commercial Paper
Rate, the "AA" Composite Commercial Paper Rate will be determined on the basis
of the quotation or quotations furnished by any Substitute Commercial Paper
Dealer or Substitute Commercial Paper Dealers selected by the Fund to provide
such rate or rates not being supplied by the Commercial Paper Dealer. If the
number of Dividend Period days shall be (i) 7 or more but fewer than 49 days,
such rate shall be the Interest Equivalent of the 30-day rate on such
commercial paper; (ii) 49 or more but fewer than 70 days, such rate shall be
the Interest Equivalent of the 60-day rate on such commercial paper; (iii) 70
or more days but fewer than 85 days, such rate shall be the arithmetic average
of the Interest Equivalent of the 60-day and 90-day rates on such commercial
paper; (iv) 85 or more days but fewer than 99 days, such rate shall be the
Interest Equivalent of the 90-day rate on such commercial paper; (v) 99 or more
days but fewer than 120 days, such rate shall be the arithmetic average of the
Interest Equivalent of the 90-day and 120-day rates on such commercial paper;
(vi) 120 or more days but fewer than 141 days, such rate shall be the Interest
Equivalent of the 120-day rate on such commercial paper; (vii) 141 or more days
but fewer than 162 days, such rate shall be the arithmetic average of the
Interest Equivalent of the 120-day and 180-day rates on such commercial paper;
and (viii) 162 or more days but fewer than 183 days, such rate shall be the
Interest Equivalent of the 180-day rate on such commercial paper.
"Additional Dividend" has the meaning set forth on page 16 of this
prospectus.
"Agent Member" means the member of the Securities Depository that will act on
behalf of a Beneficial Owner of one or more shares of AMPS or on behalf of a
Potential Beneficial Owner.
"AMPS" means the Auction Market Preferred Shares, Series A, with a par value
of $.10 per share and a liquidation preference of $25,000 per share plus an
amount equal to accumulated but unpaid dividends thereon (whether or not earned
or declared), of the Fund.
"AMPS Basic Maintenance Amount" has the meaning set forth on page 18 of this
prospectus.
"AMPS Basic Maintenance Cure Date" has the meaning set forth on page 18 of
this prospectus.
"AMPS Basic Maintenance Report" has the meaning set forth on page 13 of the
statement of additional information.
"Anticipation Notes" means the following Pennsylvania Municipal Bonds:
revenue anticipation notes, tax anticipation notes, tax and revenue
anticipation notes, grant anticipation notes and bond anticipation notes.
"Applicable Percentage" has the meaning set forth on page 21 of this
prospectus.
"Applicable Rate" means the rate per annum at which cash dividends are
payable on shares of AMPS for any Dividend Period.
35
<PAGE>
"Auction" means a periodic operation of the Auction Procedures.
"Auction Agent" means IBJ Whitehall Bank & Trust Company unless and until
another commercial bank, trust company or other financial institution appointed
by a resolution of the Board of Trustees of the Fund or a duly authorized
committee thereof enters into an agreement with the Fund to follow the Auction
Procedures for the purpose of determining the Applicable Rate and to act as
transfer agent, registrar, dividend disbursing agent and redemption agent for
the AMPS.
"Auction Agent Agreement" means the agreement entered into between the Fund
and the Auction Agent which provides, among other things, that the Auction
Agent will follow the Auction Procedures for the purpose of determining the
Applicable Rate.
"Auction Date" has the meaning set forth on page 20 of this prospectus.
"Auction Procedures" means the procedures for conducting Auctions set forth
in Appendix E to the statement of additional information.
"Available AMPS" has the meaning set forth on page 24 of this prospectus.
"Beneficial Owner" means a customer of a Broker-Dealer who is listed on the
records of that Broker-Dealer (or if applicable, the Auction Agent) as a holder
of shares of AMPS or a Broker-Dealer that holds AMPS for its own account.
"Bid" has the meaning set forth on page 21 of this prospectus.
"Bidder" has the meaning set forth on page 21 of this prospectus.
"Board of Trustees" or "Board" means the Board of Trustees of the Fund.
"Broker-Dealer" means any broker-dealer, or other entity permitted by law to
perform the functions required of a Broker-Dealer in the Auction Procedures,
that has been selected by the Fund and has entered into a Broker-Dealer
Agreement with the Auction Agent that remains effective.
"Broker-Dealer Agreement" means an agreement entered into between the Auction
Agent and a Broker-Dealer, including Merrill Lynch, Pierce, Fenner & Smith
Incorporated, pursuant to which such Broker-Dealer agrees to follow the Auction
Procedures.
"Business Day" means a day on which the New York Stock Exchange is open for
trading and which is not a Saturday, Sunday or other day on which banks in The
City of New York are authorized or obligated by law to close.
"Cede" means Cede & Co., the nominee of DTC, and in whose name the shares of
AMPS initially will be registered.
"'Certificate of Designation" means the Certificate of Designation of the
Fund specifying the powers, preferences and rights of the AMPS.
"Code" means the Internal Revenue Code of 1986, as amended.
"Commercial Paper Dealers" means Merrill Lynch, Pierce, Fenner & Smith
Incorporated and such other commercial paper dealer or dealers as the Fund from
time to time may appoint or, in lieu thereof, their respective affiliates and
successors.
"Common shares" means the common shares, par value $.10 per share, of the
Fund.
"Date of Original Issue" means, with respect to each share of AMPS, the date
on which such share first is issued by the Fund.
36
<PAGE>
"Declaration of Trust" means the Declaration of Trust, as amended and
supplemented (including the Certificate of Designation), of the Fund.
"Deposit Securities" means cash and Pennsylvania Municipal Bonds and
Municipal Bonds rated at least A2 (having a remaining maturity of 12 months or
less), P-1, VMIG-1 or MIG-1 by Moody's or A (having a remaining maturity of 12
months or less), A-1+ or SP-1+ by S&P.
"Discount Factor" means a Moody's Discount Factor or an S&P Discount Factor,
as the case may be.
"Discounted Value" of any asset of the Fund means (i) with respect to an S&P
Eligible Asset, the quotient of the market value thereof divided by the
applicable S&P Discount Factor and (ii) with respect to a Moody's Eligible
Asset, the lower of par and the quotient of the market value thereof divided by
the applicable Moody's Discount Factor.
"Dividend Payment Date" has the meaning set forth on page 15 of this
prospectus.
"Dividend Period" has the meaning set forth on page 15 of this prospectus.
"DTC" means The Depository Trust Company.
"Eligible Assets" means Moody's Eligible Assets or S&P Eligible Assets, as
the case may be.
"Existing Holder" means a Broker-Dealer or any such other person as may be
permitted by the Fund that is listed as the holder of record of shares of AMPS
in the records of the Auction Agent.
"Fitch" means Fitch IBCA, Inc. or its successors.
"Forward Commitment" has the meaning set forth on page 24 of the statement of
additional information.
"Fund" means MuniHoldings Pennsylvania Insured Fund, a Massachusetts business
trust that is the issuer of the AMPS.
"Hold Order" has the meaning set forth on page 24 of this prospectus.
"Initial Dividend Payment Date" means the first Dividend Payment Date for the
AMPS as set forth on page 14 of this prospectus.
"Initial Dividend Period" means the period from and including the Date of
Original Issue to but excluding the Initial Dividend Payment Date.
"Initial Margin" means the amount of cash or securities deposited with a
broker as a margin payment at the time of purchase or sale of a financial
futures contract.
"Interest Equivalent" means a yield on a 360-day basis of a discount basis
security which is equal to the yield on an equivalent interest-bearing
security.
"Investment Adviser" means Fund Asset Management, L.P.
"IRS" means the United States Internal Revenue Service.
"Long Term Dividend Period" means a dividend period of one year or more but
not greater than five years.
"Mandatory Redemption Price" has the meaning set forth on page 18 of this
prospectus.
37
<PAGE>
"Marginal Tax Rate" means the maximum marginal regular Federal individual
income tax rate applicable to ordinary income or the maximum marginal regular
Federal corporate income tax rate, whichever is greater.
"Maximum Applicable Rate" has the meaning set forth on page 21 of this
prospectus.
"Maximum Potential Additional Dividend Liability" has the meaning set forth
on page 13 of the statement of additional information.
"Moody's" means Moody's Investors Service, Inc. or its successors.
"Moody's Discount Factor" has the meaning set forth on page 21 of the
statement of additional information.
"Moody's Eligible Assets" has the meaning set forth on page 22 of the
statement of additional information.
"Moody's Exposure Period" means a period that is the same length or longer
than the number of days used in calculating the cash dividend component of the
AMPS Basic Maintenance Amount and initially shall be the period commencing on
and including a given Valuation Date and ending 48 days thereafter.
"Moody's Hedging Transactions" has the meaning set forth on page 23 of the
statement of additional information.
"Moody's Volatility Factor" means 272% as long as there has been no increase
enacted to the Marginal Tax Rate. If such an increase is enacted but not yet
implemented, the Moody's Volatility Factor shall be as follows:
<TABLE>
<CAPTION>
% Change in Moody's
Marginal Tax Rate Volatility Factor
----------------- -----------------
<S> <C>
^ 5%............................ 292%
> 5% but ^ 10% .......................... 313%
> 10% but ^ 15%........................... 338%
> 15% but ^ 20%........................... 364%
> 20% but ^ 25%........................... 396%
> 25% but ^ 30%........................... 432%
> 30% but ^ 35%........................... 472%
> 35% but ^ 40%........................... 520%
</TABLE>
Notwithstanding the foregoing, the Moody's Volatility Factor may mean such
other potential dividend rate increase factor as Moody's advises the Fund in
writing is applicable.
"Municipal Bonds" has the meaning set forth on page 8 of this prospectus.
"Municipal Index" has the meaning set forth on page 20 of the statement of
additional information.
"1940 Act" means the Investment Company Act of 1940, as amended from time to
time.
"1940 Act AMPS Asset Coverage" has the meaning set forth on page 17 of this
prospectus.
"1940 Act Cure Date" has the meaning set forth on page 17 of this prospectus.
"Non-Call Period" has the meaning set forth under "Specific Redemption
Provisions" below.
"Non-Payment Period" has the meaning set forth on page 11 of the statement of
additional information.
38
<PAGE>
"Non-Payment Period Rate" has the meaning set forth on page 11 of the
statement of additional information.
"Notice of Revocation" has the meaning set forth on page 10 of the statement
of additional information.
"Notice of Special Dividend Period" has the meaning set forth on page 16 of
this prospectus.
"Optional Redemption Price" has the meaning set forth on page 18 of this
prospectus.
"Order" has the meaning set forth on page 21 of this prospectus.
"Pennsylvania Municipal Bonds" has the meaning set forth on page 8 of this
prospectus.
"Policy" means an insurance policy purchased by the Fund which guarantees the
payment of principal and interest on specified Pennsylvania Municipal Bonds or
Municipal Bonds during the period in which such Pennsylvania Municipal Bonds or
Municipal Bonds are owned by the Fund; provided, however, that, as long as the
AMPS are rated by Moody's and S&P, the Fund will not obtain any Policy unless
Moody's and S&P advise the Fund in writing that the purchase of such Policy
will not adversely affect their then-current rating on the AMPS.
"Potential Beneficial Owner" means a customer of a Broker-Dealer or a Broker-
Dealer that is not a Beneficial Owner of AMPS but that wishes to purchase such
shares, or that is a Beneficial Owner that wishes to purchase additional AMPS.
"Potential Holder" means any Broker-Dealer or any such other person as may be
permitted by the Fund, including any Existing Holder, who may be interested in
acquiring AMPS (or, in the case of an Existing Holder, additional shares of
AMPS).
"Preferred shares" means preferred shares, par value $.10 per share, of the
Fund.
"Premium Call Period" has the meaning set forth under "Specific Redemption
Provisions" below.
"Receivables for Pennsylvania Municipal Bonds Sold," for purposes of
determining S&P Eligible Assets, has the meaning set forth on page 18 of the
statement of additional information.
"Receivables for Pennsylvania Municipal Bonds or Municipal Bonds Sold," for
purposes of determining Moody's Eligible Assets, has the meaning set forth on
page 21 of the statement of additional information.
"Reference Rate" means: (i) with respect to a Dividend Period or a Short Term
Dividend Period having 28 or fewer days, the higher of the applicable "AA"
Composite Commercial Paper Rate and the Taxable Equivalent of the Short Term
Municipal Bond Rate, (ii) with respect to any Short Term Dividend Period,
having more than 28 but fewer than 183 days, the applicable "AA" Composite
Commercial Paper Rate, (iii) with respect to any Short Term Dividend Period
having 183 or more but fewer than 364 days, the applicable U.S. Treasury Bill
Rate and (iv) with respect to any Long Term Dividend Period, the applicable
U.S. Treasury Note Rate.
"Request for Special Dividend Period" has the meaning set forth on page 15 of
this prospectus.
"Response" has the meaning set forth on page 15 of this prospectus.
"Retroactive Taxable Allocation" has the meaning set forth on page 16 of this
prospectus.
"S&P" means Standard & Poor's, a division of The McGraw-Hill Companies, Inc.,
or its successors.
"S&P Discount Factor" has the meaning set forth on page 17 of the statement
of additional information.
39
<PAGE>
"S&P Eligible Assets" has the meaning set forth on page 18 of the statement
of additional information.
"S&P Exposure Period" means the maximum period of time following a Valuation
Date, including the Valuation Date and the AMPS Basic Maintenance Cure Date,
that the Fund has under the Certificate of Designation to cure any failure to
maintain, as of such Valuation Date, a Discounted Value for its portfolio at
least equal to the AMPS Basic Maintenance Amount.
"S&P Hedging Transactions" has the meaning set forth on page 20 of the
statement of additional information.
"S&P Volatility Factor" means 277% or such other potential dividend rate
increase factor as S&P advises the Fund in writing is applicable.
"Securities Depository" means The Depository Trust Company and its successors
and assigns or any successor securities depository selected by the Fund that
agrees to follow the procedures required to be followed by such securities
depository in connection with AMPS.
"Sell Order" has the meaning specified in Subsection 10(b)(i) of the Auction
Procedures.
"7-Day Dividend Period" means a Dividend Period consisting of seven days.
"Short Term Dividend Period" means a dividend period the number of days in
which are evenly divisible by seven, and not fewer than seven days nor more
than 364 days.
"Special Dividend Period" has the meaning set forth on page 15 of this
prospectus.
"Specific Redemption Provisions" means, with respect to a Special Dividend
Period, either, or any combination of, (i) a period (a "Non-Call Period")
determined by the Board of Trustees of the Fund, after consultation with the
Auction Agent and the Broker-Dealers, during which the AMPS subject to such
Dividend Period shall not be subject to redemption at the option of the Fund
and (ii) a period (a "Premium Call Period"), consisting of a number of whole
years and determined by the Board of Trustees of the Fund, after consultation
with the Auction Agent and the Broker-Dealers, during each year of which the
AMPS subject to such Dividend Period shall be redeemable at the Fund's option
at a price per share equal to $25,000 plus accumulated but unpaid dividends
plus a premium expressed as a percentage of $25,000, as determined by the Board
of Trustees of the Fund after consultation with the Auction Agent and the
Broker-Dealers.
"Submission Deadline" has the meaning set forth on page 23 of this
prospectus.
"Submitted Bid" has the meaning set forth on page 24 of this prospectus.
"Submitted Hold Order" has the meaning set forth on page 23 of this
prospectus.
"Submitted Order" has the meaning set forth on page 24 of this prospectus.
"Submitted Sell Order" has the meaning set forth on page 24 of this
prospectus.
"Subsequent Dividend Period" means each Dividend Period after the Initial
Dividend Period.
"Substitute Rating Agency" and "Substitute Rating Agencies" shall mean a
nationally recognized statistical rating organization or two nationally
recognized statistical rating organizations, respectively, selected by Merrill
Lynch, Pierce, Fenner & Smith Incorporated, or its respective affiliates and
successors, after consultation with the Fund, to act as a substitute rating
agency or substitute rating agencies, as the case may be, to determine the
credit ratings of the AMPS.
"Sufficient Clearing Bids" has the meaning set forth on page 24 of this
prospectus.
40
<PAGE>
"Taxable Equivalent of the Short-Term Municipal Bond Rate" on any date means
90% of the quotient of (A) the per annum rate expressed on an interest
equivalent basis equal to the Kenny S&P 30 day High Grade Index (the "Kenny
Index"), or any successor index made available for the Business Day immediately
preceding such date but in any event not later than 8:30 A.M., Eastern time, on
such date by Kenny Information Systems Inc. or any successor thereto, based
upon 30-day yield evaluations at par of bonds the interest on which is
excludable for regular Federal income tax purposes under the Code of "high
grade" component issuers selected by Kenny Information Systems Inc. or any such
successor from time to time in its discretion, which component issuers shall
include, without limitation, issuers of general obligation bonds but shall
exclude any bonds the interest on which constitutes an item of tax preference
under Section 57(a) (5) of the Code, or successor provisions, for purposes of
the "alternative minimum tax," divided by (B) 1.00 minus the Marginal Tax Rate
(expressed as a decimal); provided, however, that if the Kenny Index is not
made so available by 8:30 A.M., Eastern time, on such date by Kenny Information
Systems Inc. or any successor, the Taxable Equivalent of the Short-Term
Municipal Bond Rate shall mean the quotient of (A) the per annum rate expressed
on an interest equivalent basis equal to the most recent Kenny Index so made
available for any preceding Business Day, divided by (B) 1.00 minus the
Marginal Tax Rate (expressed as a decimal). The Fund may not utilize a
successor index to the Kenny Index unless Moody's and S&P provide the Fund with
written confirmation that the use of such successor index will not adversely
affect the then-current respective Moody's and S&P ratings of the AMPS.
"Treasury Bonds" has the meaning set forth on page 20 of the statement of
additional information.
"U.S. Treasury Bill Rate" on any date means (i) the Interest Equivalent of
the rate on the actively traded Treasury Bill with a maturity most nearly
comparable to the length of the related Dividend Period, as such rate is made
available on a discount basis or otherwise by the Federal Reserve Bank of New
York in its Composite 3:30 P.M. Quotations for U.S. Government Securities
report for such Business Day, or (ii) if such yield as so calculated is not
available, the Alternate Treasury Bill Rate on such date. "Alternate Treasury
Bill Rate" on any date means the Interest Equivalent of the yield as calculated
by reference to the arithmetic average of the bid price quotations of the
actively traded Treasury Bill with a maturity most nearly comparable to the
length of the related Dividend Period, as determined by bid price quotations as
of any time on the Business Day immediately preceding such date, obtained from
at least three recognized primary U.S. Government securities dealers selected
by the Auction Agent.
"U.S. Treasury Note Rate" on any date means (i) the yield as calculated by
reference to the bid price quotation of the actively traded, current coupon
Treasury Note with a maturity most nearly comparable to the length of the
related Dividend Period, as such bid price quotation is published on the
Business Day immediately preceding such date by the Federal Reserve Bank of New
York in its Composite 3:30 P.M. Quotations for U.S. Government Securities
report for such Business Day, or (ii) if such yield as so calculated is not
available, the Alternate Treasury Note Rate on such date. "Alternate Treasury
Note Rate" on any date means the yield as calculated by reference to the
arithmetic average of the bid price quotations of the actively traded, current
coupon Treasury Note with a maturity most nearly comparable to the length of
the related Dividend Period, as determined by the bid price quotations as of
any time on the Business Day immediately preceding such date, obtained from at
least three recognized primary U.S. Government securities dealers selected by
the Auction Agent.
"Valuation Date" has the meaning set forth on page 18 of this prospectus.
"Variation Margin" means, in connection with an outstanding financial futures
contract owned or sold by the Fund, the amount of cash or securities paid to or
received from a broker (subsequent to the Initial Margin payment) from time to
time as the price of such financial futures contract fluctuates.
"Winning Bid Rate" has the meaning set forth on page 24 of this prospectus.
41
<PAGE>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
$20,500,000
MuniHoldings Pennsylvania Insured Fund
Auction Market Preferred Shares(R) ["AMPS(R)"]
820 Shares, Series A
----------------
PROSPECTUS
----------------
Merrill Lynch & Co.
March , 1999
(R) Registered trademarks of Merrill Lynch & Co. Inc.______________________
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
+The information contained in this statement of additional information is not +
+complete and may be changed. We may not sell these securities until the +
+registration statement filed with the Securities and Exchange Commission is +
+effective. This statement of additional information is not an offer to sell +
+these securities and it is not soliciting an offer to buy these securities in +
+any State where the offer or sale is not permitted. +
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
SUBJECT TO COMPLETION
PRELIMINARY STATEMENT OF ADDITIONAL INFORMATION DATED MARCH 3, 1999
STATEMENT OF ADDITIONAL INFORMATION
$20,500,000
MuniHoldings Pennsylvania Insured Fund
Auction Market Preferred Shares ["AMPS(R)"]
820 Shares, Series A
Liquidation Preference $25,000 Per Share
------------
MuniHoldings Pennsylvania Insured Fund IV (the "Fund") is a recently
organized, non-diversified, closed-end management investment company that seeks
to provide shareholders with current income exempt from Federal income tax and
Pennsylvania personal income taxes. The Fund seeks to achieve its objective by
investing primarily in a portfolio of long-term, investment grade municipal
obligations the interest on which, in the opinion of bond counsel to the
issuer, is exempt from Federal income tax and Pennsylvania personal income
taxes. The Fund intends to invest in municipal obligations that are rated
investment grade or, if unrated, are considered by the Fund's investment
adviser to be of comparable quality. Under normal circumstances, at least 80%
of the Fund's assets will be invested in municipal obligations with remaining
maturities of one year or more that are covered by insurance guaranteeing the
timely payment of principal at maturity and interest. There can be no assurance
that the Fund's investment objective will be realized. For more information on
the Fund's investment objective and policies, see "Investment Objective and
Policies."
------------
Certain capitalized terms not otherwise defined in this statement of
additional information have the meaning provided in the Glossary included as
part of the prospectus.
This statement of additional information is not a prospectus, but should be
read in conjunction with the prospectus of the Fund, which has been filed with
the Securities and Exchange Commission (the "Commission") and can be obtained,
without charge, by calling (800) 637-3863. The prospectus is incorporated by
reference into this statement of additional information, and this statement of
additional information is incorporated by reference into the prospectus.
- ------
(R) Registered trademark of Merrill Lynch & Co., Inc.
------------
Merrill Lynch & Co.
------------
The date of this statement of additional information is March , 1999.
<PAGE>
TABLE OF CONTENTS OF STATEMENT OF ADDITIONAL INFORMATION
<TABLE>
<S> <C>
Investment Objective and Policies........................................... 3
Investment Restrictions..................................................... 7
Description of AMPS......................................................... 9
The Auction................................................................. 16
Rating Agency Guidelines.................................................... 17
Trustees and Officers....................................................... 25
Investment Advisory and Management Arrangements............................. 27
Portfolio Transactions...................................................... 28
Taxes....................................................................... 29
Net Asset Value............................................................. 34
Additional Information...................................................... 35
Independent Auditors' Report................................................ 36
Statement of Assets, Liabilities and Capital................................ 37
Schedule of Investments (Unaudited)......................................... 38
Financial Statements (Unaudited)............................................ 39
Appendix A--Economic and Financial Conditions in Pennsylvania............... A-1
Appendix B--Ratings of Municipal Bonds...................................... B-1
Appendix C--Portfolio Insurance............................................. C-1
Appendix D--Settlement Procedures........................................... D-1
Appendix E--Auction Procedures.............................................. E-1
</TABLE>
2
<PAGE>
INVESTMENT OBJECTIVE AND POLICIES
The Fund's investment objective is to provide shareholders with current
income exempt from Federal income tax and Pennsylvania personal income taxes.
The Fund seeks to achieve its investment objective by investing primarily in a
portfolio of long-term, investment grade municipal obligations issued by or on
behalf of the Commonwealth of Pennsylvania, its political subdivisions,
agencies and instrumentalities, and other qualifying issuers, each of which
pays interest which, in the opinion of bond counsel to such issuer, is exempt
from Federal income tax and Pennsylvania personal income taxes ("Pennsylvania
Municipal Bonds"). The Fund intends to invest substantially all (at least 80%)
of its assets in Pennsylvania Municipal Bonds, except at times when the Fund's
investment adviser, Fund Asset Management, L.P. (the "Investment Adviser"),
considers that Pennsylvania Municipal Bonds of sufficient quality and quantity
are unavailable for investment at suitable prices by the Fund. To the extent
the Investment Adviser considers that suitable Pennsylvania Municipal Bonds
are not available for investment, the Fund may purchase other long-term
municipal obligations exempt from Federal but not Pennsylvania income taxes
("Municipal Bonds"). The Fund will maintain at least 65% of its assets in
Pennsylvania Municipal Bonds and at least 80% of its assets in Pennsylvania
Municipal Bonds and Municipal Bonds, except during interim periods pending
investment of the net proceeds of public offerings of the Fund's securities
and during temporary defensive periods. Under normal circumstances, at least
80% of the Fund's assets will be invested in municipal obligations with
remaining maturities of one year or more that are covered by insurance
guaranteeing the timely payment of principal at maturity and interest. The
Fund's investment objective is a fundamental policy that may not be changed
without a vote of a majority of the Fund's outstanding voting securities, as
defined below under "Investment Restrictions." There can be no assurance that
the investment objective of the Fund will be realized. At times the Fund may
seek to hedge its portfolio through the use of options and futures
transactions to reduce volatility in the net asset value of its common shares.
The Fund ordinarily does not intend to realize significant investment income
that is subject to Federal income tax and Pennsylvania personal income taxes.
The Fund may invest all or a portion of its assets in certain tax-exempt
securities classified as "private activity bonds" (in general, bonds that
benefit non-governmental entities) that may subject certain investors in the
Fund to the alternative minimum tax.
The Fund also may invest in securities not issued by or on behalf of a state
or territory or by an agency or instrumentality thereof, if the Fund
nevertheless believes such securities pay interest or distributions that are
exempt from Federal income taxation ("Non-Municipal Tax-Exempt Securities").
Non-Municipal Tax-Exempt Securities may include securities issued by other
investment companies that invest in Pennsylvania Municipal Bonds and Municipal
Bonds, to the extent such investments are permitted by the Investment Company
Act of 1940, as amended (the "1940 Act"). Other Non-Municipal Tax-Exempt
Securities could include trust certificates or other instruments evidencing
interests in one or more long-term Pennsylvania Municipal Bonds or Municipal
Bonds. Certain Non-Municipal Tax-Exempt Securities may be characterized as
derivative instruments. Non-Municipal Tax-Exempt Securities are considered
"Pennsylvania Municipal Bonds" or "Municipal Bonds" for purposes of the Fund's
investment objective and policies.
Description of Pennsylvania Municipal Bonds and Municipal Bonds
Pennsylvania Municipal Bonds and Municipal Bonds include debt obligations
issued to obtain funds for various public purposes, including construction of
a wide range of public facilities, refunding of outstanding obligations and
obtaining funds for general operating expenses and loans to other public
institutions and facilities. In addition, certain types of industrial
development bonds ("IDBs") are issued by or on behalf of public authorities to
finance various privately operated facilities, including certain local
facilities for water supply, gas, electricity, sewage or solid waste disposal.
For purposes of this statement of additional information, such obligations are
considered Municipal Bonds if the interest paid thereon is exempt from Federal
income tax and as Pennsylvania Municipal Bonds if the interest thereon is
exempt from Federal income tax and Pennsylvania personal income taxes, even
though such bonds may be IDBs or "private activity bonds" as discussed below.
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The two principal classifications of Pennsylvania Municipal Bonds and
Municipal Bonds are "general obligation" bonds and "revenue" bonds, which
latter category includes IDBs and, for bonds issued after August 15, 1986,
private activity bonds. General obligation bonds are typically secured by the
issuer's pledge of faith, credit and taxing power for the repayment of
principal and the payment of interest. Revenue or special obligation bonds are
typically payable only from the revenues derived from a particular facility or
class of facilities or, in some cases, from the proceeds of a special excise
tax or other specific revenue source such as from the user of the facility
being financed. IDBs are in most cases revenue bonds and do not generally
constitute the pledge of the credit or taxing power of the issuer of such
bonds. The repayment of principal and the payment of interest on such
industrial development bonds depends solely on the ability of the user of the
facility financed by the bonds to meet its financial obligations and the
pledge, if any, of real and personal property so financed as security for such
payment. Pennsylvania Municipal Bonds and Municipal Bonds may also include
"moral obligation" bonds, which are normally issued by special purpose public
authorities. If an issuer of moral obligation bonds is unable to meet its
obligations, the repayment of such bonds becomes a moral commitment but not a
legal obligation of the state or municipality in question.
The Fund may purchase Pennsylvania Municipal Bonds and Municipal Bonds
classified as "private activity bonds" (in general, bonds that benefit non-
governmental entities). Interest received on certain tax-exempt securities
that are classified as "private activity bonds" may subject certain investors
in the Fund to a Federal alternative minimum tax. There is no limitation on
the percentage of the Fund's assets that may be invested in Pennsylvania
Municipal Bonds and Municipal Bonds that may subject certain investors to an
alternative minimum tax. See "Taxes--General." Also included within the
general category of Pennsylvania Municipal Bonds and/or Municipal Bonds are
participation certificates issued by government authorities or entities to
finance the acquisition or construction of equipment, land and/or facilities.
The certificates represent participations in a lease, an installment purchase
contract or a conditional sales contract (hereinafter collectively referred to
as "lease obligations") relating to such equipment, land or facilities.
Although lease obligations typically do not constitute general obligations of
the issuer for which the issuer's unlimited taxing power is pledged (nor do
they constitute bonded indebtedness), a lease obligation frequently is backed
by the issuer's covenant to budget for, appropriate and make the payments due
under the lease obligation. However, certain lease obligations contain "non-
appropriation" clauses which provide that the issuer has no obligation to make
lease or installment purchase payments in future years unless money is
appropriated for such purpose on a yearly basis. Although "non-appropriation"
lease obligations are typically secured by the lease property, disposition of
the property in the event of foreclosure might prove difficult. These
securities represent a relatively new type of financing that has not yet
developed the depth of marketability associated with more conventional
securities.
Federal tax legislation has limited the types and volume of bonds the
interest on which qualifies for a Federal income tax exemption. As a result,
this legislation and legislation that may be enacted in the future may affect
the availability of Pennsylvania Municipal Bonds and Municipal Bonds for
investment by the Fund.
Options and Futures Transactions
The following is a description of the options and futures transactions in
which the Fund may engage, limitations on the Fund's use of such transactions
and risks associated with these transactions. The investment policies with
respect to the hedging transactions of the Fund are not fundamental policies
and may be modified by the Board of Trustees of the Fund without the approval
of the Fund's shareholders.
Writing Covered Call Options. The Fund may write (i.e., sell) covered call
options with respect to Pennsylvania Municipal Bonds and Municipal Bonds it
owns, thereby giving the holder of the option the right to buy the underlying
security covered by the option from the Fund at the stated exercise price
until the option expires. The Fund writes only covered call options, which
means that so long as the Fund is obligated as the writer of a call option, it
will own the underlying securities subject to the option. The Fund may not
write covered call options on underlying securities in an amount exceeding 15%
of the market value of its total assets.
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The Fund will receive a premium from writing a call option, which increases
the Fund's return on the underlying security in the event the option expires
unexercised or is closed out at a profit. By writing a call, the Fund limits
its opportunity to profit from an increase in the market value of the
underlying security above the exercise price of the option for as long as the
Fund's obligation as a writer continues. Covered call options may serve as a
partial hedge against a decline in the price of the underlying security. The
Fund may engage in closing transactions in order to terminate outstanding
options that it has written.
Purchase of Options. The Fund may purchase put options in connection with
its hedging activities. By buying a put the Fund has a right to sell the
underlying security at the exercise price, thus limiting the Fund's risk of
loss through a decline in the market value of the security until the put
expires. The amount of any appreciation in the value of the underlying
security will be partially offset by the amount of the premium paid for the
put option and any related transaction costs. Prior to its expiration, a put
option may be sold in a closing sale transaction; profit or loss from the sale
will depend on whether the amount received is more or less than the premium
paid for the put option plus the related transaction costs. A closing sale
transaction cancels out the Fund's position as the purchaser of an option by
means of an offsetting sale of an identical option prior to the expiration of
the option it has purchased. In certain circumstances, the Fund may purchase
call options on securities held in its portfolio on which it has written call
options or on securities that it intends to purchase. The Fund will not
purchase options on securities if, as a result of such purchase, the aggregate
cost of all outstanding options on securities held by the Fund would exceed 5%
of the market value of the Fund's total assets.
Financial Futures Contracts and Options. The Fund is authorized to purchase
and sell certain financial futures contracts and options thereon solely for
the purpose of hedging its investments in Pennsylvania Municipal Bonds and
Municipal Bonds against declines in value and hedging against increases in the
cost of securities it intends to purchase. A financial futures contract
obligates the seller of a contract to deliver and the purchaser of a contract
to take delivery of the type of financial instrument covered by the contract
or, in the case of index-based financial futures contracts, to make and accept
a cash settlement, at a specific future time for a specified price. A sale of
financial futures contracts may provide a hedge against a decline in the value
of portfolio securities because such depreciation may be offset, in whole or
in part, by an increase in the value of the position in the financial futures
contracts. A purchase of financial futures contracts may provide a hedge
against an increase in the cost of securities intended to be purchased because
such appreciation may be offset, in whole or in part, by an increase in the
value of the position in the financial futures contracts.
The purchase or sale of a financial futures contract differs from the
purchase or sale of a security in that no price or premium is paid or
received. Instead, an amount of cash or securities acceptable to the broker
equal to approximately 5% of the contract amount must be deposited with the
broker. This amount is known as initial margin. Subsequent payments to and
from the broker, called variation margin, are made on a daily basis as the
price of the financial futures contract fluctuates making the long and short
positions in the financial futures contract more or less valuable.
The Fund may purchase and sell financial futures contracts based on The Bond
Buyer Municipal Bond Index, a price-weighted measure of the market value of 40
large tax-exempt issues, and purchase and sell put and call options on such
financial futures contracts for the purpose of hedging Pennsylvania Municipal
Bonds and Municipal Bonds which the Fund holds or anticipates purchasing
against adverse changes in interest rates. The Fund also may purchase and sell
financial futures contracts on U.S. Government securities and purchase and
sell put and call options on such financial futures contracts for such hedging
purposes. With respect to U.S. Government securities, currently there are
financial futures contracts based on long-term U.S. Treasury bonds, U.S.
Treasury notes, GNMA Certificates and three-month U.S. Treasury bills.
Subject to policies adopted by the Board of Trustees, the Fund also may
engage in transactions in other financial futures contracts, such as financial
futures contracts on other municipal bond indices that may become available,
if the Investment Adviser should determine that there is normally sufficient
correlation between the prices of such financial futures contracts and the
Pennsylvania Municipal Bonds and Municipal Bonds in which the Fund invests to
make such hedging appropriate.
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Over-The-Counter Options. The Fund may engage in options and futures
transactions on exchanges and in the over-the-counter markets. In general,
exchange-traded contracts are third-party contracts (i.e., performance of the
parties' obligations is guaranteed by an exchange or clearing corporation)
with standardized strike prices and expiration dates. Over-the-counter options
transactions ("OTC options") are two-party contracts with prices and terms
negotiated by the buyer and seller. See "Restrictions on OTC Options" below
for information as to restrictions on the use of OTC options.
Restrictions on OTC Options. The Fund will engage in transactions in OTC
options only with banks or dealers that have capital of at least $50 million
or whose obligations are guaranteed by an entity having capital of at least
$50 million. Certain OTC options and assets used to cover OTC options written
by the Fund may be considered to be illiquid. The illiquidity of such options
or assets may prevent a successful sale of such options or assets, result in a
delay of sale, or reduce the amount of proceeds that might otherwise be
realized.
Risk Factors in Options and Futures Transactions. Utilization of futures
transactions involves the risk of imperfect correlation in movements in the
price of financial futures contracts and movements in the price of the
security that is the subject of the hedge. If the price of the financial
futures contract moves more or less than the price of the security that is the
subject of the hedge, the Fund will experience a gain or loss that will not be
completely offset by movements in the price of such security. There is a risk
of imperfect correlation where the securities underlying financial futures
contracts have different maturities, ratings, geographic compositions or other
characteristics than the security being hedged. In addition, the correlation
may be affected by additions to or deletions from the index that serves as a
basis for a financial futures contract. Finally, in the case of financial
futures contracts on U.S. Government securities and options on such financial
futures contracts, the anticipated correlation of price movements between the
U.S. Government securities underlying the futures or options and Pennsylvania
Municipal Bonds and Municipal Bonds may be adversely affected by economic,
political, legislative or other developments which have a disparate impact on
the respective markets for such securities.
Under regulations of the Commodity Futures Trading Commission (the "CFTC"),
the futures trading activities described herein will not result in the Fund
being deemed a "commodity pool," as defined under such regulations, provided
that the Fund adheres to certain restrictions. In particular, the Fund may
purchase and sell financial futures contracts and options thereon (i) for bona
fide hedging purposes, without regard to the percentage of the Fund's assets
committed to margin and option premiums, and (ii) for non-hedging purposes if,
immediately thereafter, the sum of the amount of initial margin deposits on
the Fund's existing futures positions and option premiums entered into for
non-hedging purposes does not exceed 5% of the market value of the liquidation
value of the Fund's portfolio, after taking into account unrealized profits
and unrealized losses on any such transactions. Margin deposits may consist of
cash or securities acceptable to the broker and the relevant contract market.
When the Fund purchases a financial futures contract, or writes a put option
or purchases a call option thereon, it will maintain an amount of cash, cash
equivalents (e.g., commercial paper and daily tender adjustable notes) or
liquid securities in a segregated account with the Fund's custodian so that
the amount so segregated plus the amount of initial and variation margin held
in the account of its broker equals the market value of the financial futures
contract, thereby ensuring that the use of such financial futures contract is
unleveraged.
Certain risks are involved in options and futures transactions. The
Investment Adviser believes, however, that, because the Fund will engage in
options and futures transactions only for hedging purposes, the Fund's options
and futures portfolio strategies will not subject the Fund to those risks
associated with speculation in options and futures transactions.
The volume of trading in the exchange markets with respect to Pennsylvania
Municipal Bond or Municipal Bond options may be limited, and it is impossible
to predict the amount of trading interest that may exist in such options. In
addition, there can be no assurance that viable exchange markets will continue
to be available.
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The Fund intends to enter into options and futures transactions, on an
exchange or in the over-the-counter market, only if there appears to be a
liquid secondary market for such options or futures. There can be no
assurance, however, that a liquid secondary market will exist at any specific
time. Thus, it may not be possible to close an options or futures transaction.
The inability to close options and futures positions also could have an
adverse impact on the Fund's ability to effectively hedge its portfolio. There
is also the risk of loss by the Fund of margin deposits or collateral in the
event of bankruptcy of a broker with which the Fund has an open position in an
option or financial futures contract.
The liquidity of a secondary market in a financial futures contract may be
adversely affected by "daily price fluctuation limits" established by
commodity exchanges that limit the amount of fluctuation in a financial
futures contract price during a single trading day. Once the daily limit has
been reached in the contract, no trades may be entered into at a price beyond
the limit, thus preventing the liquidation of open futures positions. Prices
have in the past reached or exceeded the daily limit on a number of
consecutive trading days.
If it is not possible to close a financial futures position entered into by
the Fund, the Fund would continue to be required to make daily cash payments
of variation margin in the event of adverse price movements. In such a
situation, if the Fund has insufficient cash, it may have to sell portfolio
securities to meet daily variation margin requirements at a time when it may
be disadvantageous to do so.
The successful use of these transactions also depends on the ability of the
Investment Adviser to forecast correctly the direction and extent of interest
rate movements within a given time frame. To the extent these rates remain
stable during the period in which a financial futures contract is held by the
Fund or move in a direction opposite to that anticipated, the Fund may realize
a loss on the hedging transaction that is not fully or partially offset by an
increase in the value of portfolio securities. As a result, the Fund's total
return for such period may be less than if it had not engaged in the hedging
transaction. Furthermore, the Fund will only engage in hedging transactions
from time to time and may not necessarily be engaging in hedging transactions
when movements in interest rates occur. The Fund is not required to enter into
hedging transactions and may not do so.
INVESTMENT RESTRICTIONS
The following are fundamental investment restrictions of the Fund and may
not be changed without the approval of the holders of a majority of the Fund's
outstanding common shares and outstanding AMPS and any other preferred shares,
voting as a single class, and the majority of the outstanding AMPS and any
other preferred shares, voting as a separate class (which for this purpose and
under the 1940 Act means the lesser of (i) 67% of the shares of each class of
capital shares represented at a meeting at which more than 50% of the
outstanding shares of each class of capital shares are represented or (ii)
more than 50% of the outstanding shares of each class of capital shares). The
Fund may not:
1. Make investments for the purpose of exercising control or management.
2. Purchase or sell real estate, commodities or commodity contracts;
provided that the Fund may invest in securities secured by real estate or
interests therein or issued by entities that invest in real estate or
interest therein, and the Fund may purchase and sell financial futures
contracts and options thereon.
3. Issue senior securities or borrow money except as permitted by Section
18 of the 1940 Act.
4. Underwrite securities of other issuers except insofar as the Fund may
be deemed an underwriter under the Securities Act of 1933, as amended, in
selling portfolio securities.
5. Make loans to other persons, except that the Fund may purchase
Pennsylvania Municipal Bonds, Municipal Bonds and other debt securities and
enter into repurchase agreements in accordance with is investment
objective, policies and limitations.
6. Invest more than 25% of its total assets (taken at market value at the
time of each investment) in securities of issuers in a single industry;
provided that, for purposes of this restriction, states, municipalities and
their political subdivisions are not considered to be part of any industry.
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Additional investment restrictions adopted by the Fund, which may be changed
by the Board of Trustees without shareholder approval, provide that the Fund
may not:
a. Purchase securities of other investment companies, except to the
extent that such purchases are permitted by applicable law. Applicable law
currently prohibits the Fund from purchasing the securities of other
investment companies except if immediately thereafter not more than (i) 3%
of the total outstanding voting stock of such company is owned by the Fund,
(ii) 5% of the Fund's total assets, taken at market value, would be
invested in any one such company, (iii) 10% of the Fund's total assets,
taken at market value, would be invested in such securities, and (iv) the
Fund, together with other investment companies having the same investment
adviser and companies controlled by such companies, owns not more than 10%
of the total outstanding stock of any one closed-end investment company.
b. Mortgage, pledge, hypothecate or in any manner transfer, as security
for indebtedness, any securities owned or held by the Fund except as may be
necessary in connection with borrowings mentioned in investment restriction
(3) above or except as may be necessary in connection with transactions in
financial futures contracts and options thereon.
c. Purchase any securities on margin, except that the Fund may obtain
such short-term credit as may be necessary for the clearance of purchases
and sales of portfolio securities (the deposit or payment by the Fund of
initial or variation margin in connection with financial futures contracts
and options thereon is not considered the purchase of a security on
margin).
d. Make short sales of securities or maintain a short position or invest
in put, call, straddle or spread options, except that the Fund may write,
purchase and sell options and futures on Pennsylvania Municipal Bonds,
Municipal Bonds, U.S. Government obligations and related indices or
otherwise in connection with bona fide hedging activities and may purchase
and sell Call Rights to require mandatory tender for the purchase of
related Pennsylvania Municipal Bonds and Municipal Bonds.
If a percentage restriction on the investment or use of assets set forth
above is adhered to at the time a transaction is effected, later changes in
percentages resulting from changing values will not be considered a violation.
For so long as AMPS are rated by Moody's, the Fund will not change these
additional investment restrictions unless it receives written confirmation
from Moody's that engaging in such transactions would not impair the rating
then assigned to the AMPS by Moody's.
The Fund has no intention to file a voluntary application for relief under
Federal bankruptcy law or any similar application under state law for so long
as the Fund is solvent and does not foresee becoming insolvent.
The Investment Adviser of the Fund and Merrill Lynch are owned and
controlled by Merrill Lynch & Co. ("ML & Co."). Because of the affiliation of
Merrill Lynch with the Investment Adviser, the Fund is prohibited from
engaging in certain transactions involving Merrill Lynch except pursuant to an
exemptive order or otherwise in compliance with the provisions of the 1940 Act
and the rules and regulations thereunder. Included among such restricted
transactions will be purchases from or sales to Merrill Lynch of securities in
transactions in which it acts as principal. An exemptive order has been
obtained that permits the Fund to effect principal transactions with Merrill
Lynch in high quality, short-term, tax-exempt securities subject to conditions
set forth in such order. The Fund may consider in the future requesting an
order permitting other principal transactions with Merrill Lynch, but there
can be no assurance that such application will be made and, if made, that such
order would be granted.
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DESCRIPTION OF AMPS
Certain of the capitalized terms used herein are defined in the Glossary
that appears at the back of the prospectus.
The AMPS will be preferred shares that entitle their holders to receive
dividends when, as and if declared by the Board of Trustees, out of funds
legally available therefor, at a rate per year that may vary for the
successive Dividend Periods. After the Initial Dividend Period, each
Subsequent Dividend Period the AMPS generally will be a 7-Day Dividend Period;
provided, however, that prior to any Auction, the Fund may elect, subject to
certain limitations described herein, upon giving notice to holders thereof, a
Special Dividend Period. The Applicable Rate for a particular Dividend Period
will be determined by an Auction conducted on the Business Day before the
start of such Dividend Period. Beneficial Owners and Potential Beneficial
Owners of AMPS may participate in Auctions therefor, although, except in the
case of a Special Dividend Period, Beneficial Owners desiring to continue to
hold all of their AMPS regardless of the Applicable Rate resulting from
Auctions need not participate. For an explanation of Auctions and the method
of determining the Applicable Rate, see Appendix E--"Auction Procedures."
Except as otherwise required by law or unless there is no Securities
Depository, all outstanding AMPS will be represented by one or more
certificates registered in the name of the nominee of the Securities
Depository (initially expected to be Cede), and no person acquiring AMPS will
be entitled to receive a certificate representing such shares. See Appendix
E--"Auction Procedures." As a result, the nominee of the Securities Depository
is expected to be the sole holder of record of AMPS. Accordingly, each
purchaser of AMPS must rely on (i) the procedures of the Securities Depository
and, if such purchaser is not a member of the Securities Depository, such
purchaser's Agent Member, to receive dividends, distributions and notices and
to exercise voting rights (if and when applicable) and (ii) the records of the
Securities Depository and, if such purchaser is not a member of the Securities
Depository, such purchaser's Agent Member, to evidence its beneficial
ownership of AMPS.
When issued and sold, the AMPS will have a liquidation preference of $25,000
per share plus an amount equal to accumulated but unpaid dividends (whether or
not earned or declared) and will be fully paid and non-assessable. See
"Description of AMPS--Liquidation Rights" in the prospectus. The AMPS will not
be convertible into common shares or other capital shares of the Fund, and the
holders thereof will have no preemptive rights. The AMPS will not be subject
to any sinking fund but will be subject to redemption at the option of the
Fund at the Optional Redemption Price on any Dividend Payment Date (except
during the Initial Dividend Period and during a Non-Call Period) and, under
certain circumstances, will be subject to mandatory redemption by the Fund at
the Mandatory Redemption Price stated in the prospectus. See "Description of
AMPS--Redemption" in the prospectus.
In addition to serving as the Auction Agent in connection with the Auction
Procedures described in the prospectus, IBJ Whitehall Bank & Trust Company
will be the transfer agent, registrar, dividend disbursing agent and
redemption agent for the AMPS. The Auction Agent, however, will serve merely
as the agent of the Fund, acting in accordance with the Fund's instructions,
and will not be responsible for any evaluation or verification of any matters
certified to it.
Except in an Auction, the Fund will have the right (to the extent permitted
by applicable law) to purchase or otherwise acquire any AMPS so long as the
Fund is current in the payment of dividends on AMPS and on any other capital
shares of the Fund ranking on a parity with the AMPS with respect to the
payment of dividends or upon liquidation.
The following supplements the description of the terms of the AMPS set forth
in the prospectus. This description does not purport to be complete and is
subject to and qualified in its entirety by reference to the Fund's
Declaration of Trust and Certificate of Designation, including the provisions
thereof establishing the
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<PAGE>
AMPS. The Fund's Declaration of Trust and the form of Certificate of
Designation establishing the terms of the AMPS have been filed as exhibits to
the Registration Statement of which this statement of additional information
is a part.
Dividends
General. The holders of shares of AMPS will be entitled to receive, when, as
and if declared by the Board of Trustees of the Fund, out of funds legally
available therefor, cumulative cash dividends on their shares, at the
Applicable Rate determined as set forth below under "Determination of Dividend
Rate," payable on the respective dates set forth below. Dividends on AMPS so
declared and payable shall be paid (i) in preference to and in priority over
any dividends so declared and payable on the common shares, and (ii) to the
extent permitted under the Code and to the extent available, out of net tax-
exempt income earned on the Fund's investments. Generally, dividends on AMPS,
to the extent that they are derived from interest paid on Municipal Bonds,
will be exempt from Federal income taxes, subject to possible application of
the alternative minimum tax. See "Taxes."
Notification of Dividend Period. In determining whether the Fund should
issue a Notice of Special Dividend for the AMPS, the Broker-Dealers will
consider (i) existing short-term and long-term market rates and indices of
such short-term and long-term rates, (ii) existing market supply and demand
for short-term and long-term securities, (iii) existing yield curves for
short-term and long-term securities comparable to the AMPS, (iv) industry and
financial conditions which may affect the AMPS, (v) the investment objective
of the Fund and (vi) the Dividend Periods and dividend rates at which current
and potential beneficial holders of the AMPS would remain or become beneficial
holders. If the Broker-Dealers shall not give the Fund and the Auction Agent a
Response by such second Business Day or if the Response states that given the
factors set forth above it is not advisable that the Fund give a Notice of
Special Dividend Period for the AMPS, the Fund may not give a Notice of
Special Dividend Period in respect of such Request for Special Dividend
Period. In the event the Response indicates that it is advisable that the Fund
give a Notice of Special Dividend Period for the AMPS, the Fund, by no later
than the second Business Day prior to such Auction Date, may give a notice (a
"Notice of Special Dividend Period") to the Auction Agent, the Securities
Depository and each Broker-Dealer, which notice will specify (i) the duration
of the Special Dividend Period, (ii) the Optional Redemption Price as
specified in the related Response and (iii) the Specific Redemption
Provisions, if any, as specified in the related Response. The Fund also shall
provide a copy of such Notice of Special Dividend Period to Moody's and S&P.
The Fund shall not give a Notice of Special Dividend Period, and, if such
Notice of Special Dividend Period shall have been given already, shall give
telephonic and written notice of its revocation (a "Notice of Revocation") to
the Auction Agent, each Broker-Dealer, and the Securities Depository on or
prior to the Business Day prior to the relevant Auction Date if (x) either the
1940 Act AMPS Asset Coverage is not satisfied or the Fund shall fail to
maintain S&P Eligible Assets and Moody's Eligible Assets each with an
aggregate Discounted Value at least equal to the AMPS Basic Maintenance
Amount, in each case on each of the two Valuation Dates immediately preceding
the Business Day prior to the relevant Auction Date on an actual basis and on
a pro forma basis giving effect to the proposed Special Dividend Period (using
as a pro forma dividend rate with respect to such Special Dividend Period the
dividend rate which the Broker-Dealers shall advise the Fund is an
approximately equal rate for securities similar to the AMPS with an equal
dividend period), provided that, in calculating the aggregate Discounted Value
of Moody's Eligible Assets for this purpose, the Moody's Exposure Period shall
be deemed to be one week longer, (y) sufficient funds for the payment of
dividends payable on the immediately succeeding Dividend Payment Date have not
been irrevocably deposited with the Auction Agent by the close of business on
the third Business Day preceding the related Auction Date or (z) the Broker-
Dealers jointly advise the Fund that, after consideration of the factors
listed above, they have concluded that it is advisable to give a Notice of
Revocation. The Fund also shall provide a copy of such Notice of Revocation to
Moody's and S&P. If the Fund is prohibited from giving a Notice of Special
Dividend Period as a result of the factors enumerated in clause (x), (y) or
(z) above or if the Fund gives a Notice of Revocation with respect to a Notice
of Special Dividend Period, the next succeeding Dividend Period for that
series will be a 7-Day Dividend Period. In addition, in the event Sufficient
Clearing Bids are not made in any Auction or an Auction is not held for any
reason, the next succeeding Dividend Period will be a 7-Day Dividend Period,
and the Fund may not again give a Notice of
10
<PAGE>
Special Dividend Period (and any such attempted notice shall be null and void)
until Sufficient Clearing Bids have been made in an Auction with respect to a
7-Day Dividend Period.
Non-Payment Period; Late Charge. A Non-Payment Period will commence if the
Fund fails to (i) declare, prior to the close of business on the second
Business Day preceding any Dividend Payment Date, for payment on or (to the
extent permitted as described below) within three Business Days after such
Dividend Payment Date to the persons who held such shares as of 12:00 noon,
Eastern time, on the Business Day preceding such Dividend Payment Date, the
full amount of any dividend on shares of AMPS payable on such Dividend Payment
Date or (ii) deposit, irrevocably in trust, in same-day funds, with the
Auction Agent by 12:00 noon, Eastern time, (A) on such Dividend Payment Date
the full amount of any cash dividend on such shares (if declared) payable on
such Dividend Payment Date or (B) on any redemption date for AMPS called for
redemption, the Mandatory Redemption Price per share of such AMPS or, in the
case of an optional redemption, the Optional Redemption Price per share. Such
Non-Payment Period will consist of the period commencing on and including the
aforementioned Dividend Payment Date or redemption date, as the case may be,
and ending on and including the Business Day on which, by 12:00 noon, Eastern
time, all unpaid cash dividends and unpaid redemption prices shall have been
so deposited or otherwise shall have been made available to the applicable
holders in same-day funds, provided that a Non-Payment Period for the AMPS
will not end unless the Fund shall have given at least five days' but no more
than 30 days' written notice of such deposit or availability to the Auction
Agent, the Securities Depository and all holders of AMPS. Notwithstanding the
foregoing, the failure by the Fund to deposit funds as provided for by clauses
(ii) (A) or (ii) (B) above within three Business Days after any Dividend
Payment Date or redemption date, as the case may be, in each case to the
extent contemplated below, shall not constitute a "Non-Payment Period."
The Applicable Rate for each Dividend Period for AMPS, commencing during a
Non-Payment Period, will be equal to the Non-Payment Period Rate; and each
Dividend Period commencing after the first day of, and during, a Non-Payment
Period shall be a 7-Day Dividend Period. Any dividend on AMPS due on any
Dividend Payment Date for such shares (if, prior to the close of business on
the second Business Day preceding such Dividend Payment Date, the Fund has
declared such dividend payable on such Dividend Payment Date to the persons
who held such shares as of 12:00 noon, Eastern time, on the Business Day
preceding such Dividend Payment Date) or redemption price with respect to such
shares not paid to such persons when due may be paid to such persons in the
same form of funds by 12:00 noon, Eastern time, on any of the first three
Business Days after such Dividend Payment Date or due date, as the case may
be, provided that such amount is accompanied by a late charge calculated for
such period of non-payment at the Non-Payment Period Rate applied to the
amount of such non-payment based on the actual number of days comprising such
period divided by 365. In the case of a willful failure of the Fund to pay a
dividend on a Dividend Payment Date or to redeem any AMPS on the date set for
such redemption, the preceding sentence shall not apply and the Applicable
Rate for the Dividend Period commencing during the Non-Payment Period
resulting from such failure shall be the Non-Payment Period Rate. For the
purposes of the foregoing, payment to a person in same-day funds on any
Business Day at any time will be considered equivalent to payment to that
person in New York Clearing House (next-day) funds at the same time on the
preceding Business Day, and any payment made after 12:00 noon, Eastern time,
on any Business Day shall be considered to have been made instead in the same
form of funds and to the same person before 12:00 noon, Eastern time, on the
next Business Day.
The Non-Payment Period Rate initially will be 200% of the applicable
Reference Rate (or 275% of such rate if the Fund has provided notification to
the Auction Agent prior to the Auction establishing the Applicable Rate for
any dividend that net capital gains or other taxable income will be included
in such dividend on AMPS), provided that the Board of Trustees of the Fund
shall have the authority to adjust, modify, alter or change from time to time
the initial Non-Payment Period Rate if the Board of Trustees of the Fund
determines and Moody's and S&P (and any Substitute Rating Agency in lieu of
Moody's or S&P in the event either of such parties shall not rate the AMPS)
advise the Fund in writing that such adjustment, modification, alteration or
change will not adversely affect their then-current ratings on the AMPS.
11
<PAGE>
Restrictions on Dividends and Other Payments. For so long as any AMPS are
outstanding, the Fund will not declare, pay or set apart for payment any
dividend or other distribution (other than a dividend or distribution paid in
shares of, or options, warrants or rights to subscribe for or purchase, common
shares or other shares, if any, ranking junior to AMPS as to dividends or upon
liquidation) in respect of common shares or any other shares of the Fund
ranking junior to or on a parity with AMPS as to dividends or upon
liquidation, or call for redemption, redeem, purchase or otherwise acquire for
consideration any common shares or any other such junior shares (except by
conversion into or exchange for shares of the Fund ranking junior to AMPS as
to dividends and upon liquidation) or any such parity shares (except by
conversion into or exchange for shares of the Fund ranking junior to or on a
parity with AMPS as to dividends and upon liquidation), unless (A) immediately
after such transaction, the Fund would have S&P Eligible Assets and Moody's
Eligible Assets each with an aggregate Discounted Value equal to or greater
than the AMPS Basic Maintenance Amount, and the 1940 Act AMPS Asset Coverage
(see "Asset Maintenance" and "Redemption" below) would be satisfied, (B) full
cumulative dividends on AMPS due on or prior to the date of the transaction
have been declared and paid or shall have been declared and sufficient funds
for the payment thereof deposited with the Auction Agent, (C) any Additional
Dividend required to be paid on or before the date of such declaration or
payment has been paid and (D) the Fund has redeemed the full number of AMPS
required to be redeemed by any provision for mandatory redemption contained in
the Certificate of Designation.
Asset Maintenance
1940 Act AMPS Asset Coverage. The Fund will be required under the
Certificate Designation to maintain, with respect to AMPS, as of the last
Business Day of each month in which any AMPS are outstanding, asset coverage
of at least 200% with respect to senior securities which are shares, including
the AMPS (or such other asset coverage as in the future may be specified in or
under the 1940 Act as the minimum asset coverage for senior securities which
are stock of a closed-end investment company as a condition of paying
dividends on its common stock) ("1940 Act AMPS Asset Coverage"). If the Fund
fails to maintain 1940 Act AMPS Asset Coverage and such failure is not cured
as of the last Business Day of the following month (the "1940 Act Cure Date"),
the Fund will be required under certain circumstances to redeem certain of the
AMPS. See "Redemption" in the prospectus and below.
AMPS Basic Maintenance Amount. So long as AMPS are outstanding, the Fund
will be required under the Certificate of Designation to maintain as of each
Business Day (a "Valuation Date") S&P Eligible Assets and Moody's Eligible
Assets each having in the aggregate a Discounted Value at least equal to the
AMPS Basic Maintenance Amount. If the Fund fails to meet such requirement as
of any Valuation Date and such failure is not cured on or before the sixth
Business Day after such Valuation Date (the "AMPS Basic Maintenance Cure
Date"), the Fund will be required under certain circumstances to redeem
certain of the AMPS. Upon any failure to maintain the required Discounted
Value, the Fund will use its best efforts to alter the composition of its
portfolio to reattain a Discounted Value at least equal to the AMPS Basic
Maintenance Amount on or prior to the AMPS Basic Maintenance Cure Date. See
"Redemption" in the prospectus and below.
The AMPS Basic Maintenance Amount as of any Valuation Date is defined as the
dollar amount equal to (i) the sum of (A) the product of the number of AMPS
outstanding on such Valuation Date multiplied by the sum of $25,000 and any
applicable redemption premium attributable to the designation of a Premium
Call Period; (B) the aggregate amount of cash dividends (whether or not earned
or declared) that will have accumulated for each share of AMPS outstanding to
(but not including) the end of the current Dividend Period that follows such
Valuation Date in the event the then-current Dividend Period will end within
49 calendar days of such Valuation Date or through the 49th day after such
Valuation Date in the event the then-current Dividend Period for the AMPS will
not end within 49 calendar days of such Valuation Date; (C) in the event the
then-current Dividend Period will end within 49 calendar days of such
Valuation Date, the aggregate amount of cash dividends that would accumulate
at the Maximum Applicable Rate applicable to a Dividend Period of 28 or fewer
days on any AMPS outstanding from the end of such Dividend Period through the
49th day after such Valuation Date, multiplied by the larger of the Moody's
Volatility Factor and the S&P Volatility Factor determined from time to
12
<PAGE>
time by Moody's and S&P, respectively (except that if such Valuation Date
occurs during a Non-Payment Period, the cash dividend for purposes of
calculation would accumulate at the then-current Non-Payment Period Rate); (D)
the amount of anticipated Fund expenses for the 90 days subsequent to such
Valuation Date (including any premiums payable with respect to a Policy); (E)
the amount of the Fund's Maximum Potential Additional Dividend Liability as of
such Valuation Date; and (F) any current liabilities as of such Valuation Date
to the extent not reflected in any of (i) (A) through (i) (E) (including,
without limitation, and immediately upon determination, any amounts due and
payable by the Fund pursuant to repurchase agreements, any amounts payable for
Pennsylvania Municipal Bonds or Municipal Bonds purchased as of such Valuation
Date) less (ii) either (A) the Discounted Value of any Fund assets, or (B) the
face value of any of the Fund's assets if such assets mature prior to or on
the date of redemption of AMPS or payment of a liability and are either
securities issued or guaranteed by the United States Government or Deposit
Securities, in both cases irrevocably deposited by the Fund for the payment of
the amount needed to redeem AMPS subject to redemption or to satisfy any of
(i) (B) through (i) (F). For Moody's and S&P the Fund shall include as a
liability an amount calculated semi-annually equal to 150% of the estimated
cost of obtaining other insurance guaranteeing the timely payment of interest
on a Moody's Eligible Asset or S&P Eligible Asset and principal thereof to
maturity with respect to Moody's Eligible Assets and S&P Eligible Assets that
(i) are covered by a Policy which provides the Fund with the option to obtain
such other insurance and (ii) are discounted by a Moody's Discount Factor or
S&P Discount Factor, as the case may be, determined by reference to the
insurance claims-paying ability rating of the issuer of such Policy. For
purposes of the foregoing, "Maximum Potential Additional Dividend Liability,"
as of any Valuation Date, means the aggregate amount of Additional Dividends
that would be due if the Fund were to make Retroactive Taxable Allocations,
with respect to any fiscal year, estimated based upon dividends paid and the
amount of undistributed realized net capital gains and other taxable income
earned by the Fund, as of the end of the calendar month immediately preceding
such Valuation Date and assuming such Additional Dividends are fully taxable.
The Discount Factors and guidelines for determining the market value of the
Fund's portfolio holdings have been based on criteria established in
connection with rating the AMPS. These factors include, but are not limited
to, the sensitivity of the market value of the relevant asset to changes in
interest rates, the liquidity and depth of the market for the relevant asset,
the credit quality of the relevant asset (for example, the lower the rating of
a debt obligation, the higher the related discount factor) and the frequency
with which the relevant asset is marked to market. In no event shall the
Discounted Value of any asset of the Fund exceed its unpaid principal balance
or face amount as of the date of calculation. The Discount Factor relating to
any asset of the Fund and the AMPS Basic Maintenance Amount, the assets
eligible for inclusion in the calculation of the Discounted Value of the
Fund's portfolio and certain definitions and methods of calculation relating
thereto may be changed from time to time by the Fund, without shareholder
approval, but only in the event the Fund receives written confirmation from
S&P, Moody's and any Substitute Rating Agency that any such changes would not
impair the ratings then assigned to the AMPS by S&P or Moody's or any
Substitute Rating Agency.
On or before the third Business Day after a Valuation Date on which the Fund
fails to maintain S&P Eligible Assets and Moody's Eligible Assets each with an
aggregate Discounted Value equal to or greater than the AMPS Basic Maintenance
Amount, the Fund is required to deliver to the Auction Agent, Moody's and S&P
a report with respect to the calculation of the AMPS Basic Maintenance Amount
and the value of its portfolio holdings as of the date of such failure (an
"AMPS Basic Maintenance Report"). Additionally, on or before the third
Business Day after the first day of a Special Dividend Period, the Fund will
deliver an AMPS Basic Maintenance Report to S&P and the Auction Agent. The
Fund also will deliver an AMPS Basic Maintenance Report as of the twenty-first
day of the last month of each fiscal quarter of the Fund (or, if such day is
not a Business Day, the next succeeding Business Day) on or before the third
Business Day after such day. Within ten Business Days after delivery of such
report relating to the twenty-first day of the last month of each fiscal
quarter of the Fund, the Fund will deliver a letter prepared by the Fund's
independent accountants regarding the accuracy of the calculations made by the
Fund in its most recent AMPS Basic Maintenance Report. Also, on or before 5:00
p.m., Eastern time, on the first Business Day after common shares are
repurchased by the Fund, the Fund will complete and deliver to S&P and Moody's
an AMPS Basic Maintenance Report as of the close of business on such date
13
<PAGE>
that common shares are repurchased. If any such letter prepared by the Fund's
independent accountants shows that an error was made in the most recent AMPS
Basic Maintenance Report, the calculation or determination made by the Fund's
independent accountants will be conclusive and binding on the Fund.
Redemption
Mandatory Redemption. The number of AMPS to be redeemed will be equal to the
lesser of (a) the minimum number of AMPS the redemption of which, if deemed to
have occurred immediately prior to the opening of business on the Cure Date,
together with all other preferred shares subject to redemption or retirement,
would result in the Fund having S&P Eligible Assets and Moody's Eligible
Assets each with an aggregate Discounted Value equal to or greater than the
AMPS Basic Maintenance Amount or satisfaction of the 1940 Act AMPS Asset
Coverage, as the case may be, on such Cure Date (provided that, if there is no
such minimum number of shares the redemption of which would have such result,
all AMPS then outstanding will be redeemed), and (b) the maximum number of
AMPS, together with all other preferred shares subject to redemption or
retirement, that can be redeemed out of funds expected to be legally available
therefor on such redemption date. In determining the number of AMPS required
to be redeemed in accordance with the foregoing, the Fund shall allocate the
number required to be redeemed which would result in the Fund having S&P
Eligible Assets and Moody's Eligible Assets each with an aggregate Discounted
Value equal to or greater than the AMPS Basic Maintenance Amount or
satisfaction of the 1940 Act AMPS Asset Coverage, as the case may be, pro rata
among AMPS and other preferred shares subject to redemption pursuant to
provisions similar to those set forth below; provided that, AMPS which may not
be redeemed at the option of the Fund due to the designation of a Non-Call
Period applicable to such shares (A) will be subject to mandatory redemption
only to the extent that other shares are not available to satisfy the number
of shares required to be redeemed and (B) will be selected for redemption in
an ascending order of outstanding number of days in the Non-Call Period (with
shares with the lowest number of days to be redeemed first) and by lot in the
event of shares having an equal number of days in such Non-Call Period. The
Fund is required to effect such a mandatory redemption not later than 35 days
after such Cure Date, except that if the Fund does not have funds legally
available for the redemption of all of the required number of AMPS which are
subject to mandatory redemption or the Fund otherwise is unable to effect such
redemption on or prior to 35 days after such Cure Date, the Fund will redeem
those AMPS which it was unable to redeem on the earliest practicable date on
which it is able to effect such redemption.
Notice of Redemption. If AMPS are to be redeemed, a notice of redemption
will be mailed to each record holder of such AMPS (initially Cede as nominee
of the Securities Depository) and to the Auction Agent not less than 17 nor
more than 30 days prior to the date fixed for the redemption thereof. Each
notice of redemption will include a statement setting forth: (i) the
redemption date, (ii) the aggregate number of AMPS to be redeemed, (iii) the
redemption price, (iv) the place or places where AMPS are to be surrendered
for payment of the redemption price, (v) a statement that dividends on the
shares to be redeemed will cease to accumulate on such redemption date (except
that holders may be entitled to Additional Dividends) and (vi) the provision
of the Certificate of Designation pursuant to which such shares are being
redeemed. The notice also will be published in The Wall Street Journal. No
defect in the notice of redemption or in the mailing or publication thereof
will affect the validity of the redemption proceedings, except as required by
applicable law.
In the event that less than all of the outstanding shares of AMPS are to be
redeemed, the shares to be redeemed will be selected by lot or such other
method as the Fund shall deem fair and equitable, and the results thereof will
be communicated to the Auction Agent. The Auction Agent will give notice to
the Securities Depository, whose nominee will be the record holder of all
AMPS, and the Securities Depository will determine the number of shares to be
redeemed from the account of the Agent Member of each Existing Holder. Each
Agent Member will determine the number of shares to be redeemed from the
account of each Existing Holder for which it acts as agent. An Agent Member
may select for redemption shares from the accounts of some Existing Holders
without selecting for redemption any shares from the accounts of other
Existing Holders. Notwithstanding the foregoing, if neither the Securities
Depository nor its nominee is the record holder of all of the shares, the
particular shares to be redeemed shall be selected by the Fund by lot or by
such other method as the Fund shall deem fair and equitable.
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<PAGE>
If the Fund gives notice of redemption, and concurrently or thereafter
deposits in trust with the Auction Agent, or segregates in an account at the
Fund's custodian bank for the benefit of the Auction Agent, Deposit
Securities(with a right of substitution) having an aggregate Discounted Value
(utilizing in the case of S&P and S&P Exposure Period of 22 Business Days)
equal to the redemption payment for AMPS as to which notice of redemption has
been given, with irrevocable instructions and authority to pay the redemption
price to the record holders thereof, then upon the date of such deposit or, if
no such deposit is made, upon such date fixed for redemption (unless the Fund
shall default in making payment of the redemption price), all rights of the
holders of such shares called for redemption will cease and terminate, except
the right of such holders to receive the redemption price thereof and any
Additional Dividends, but without interest, and such shares no longer will be
deemed to be outstanding. The Fund will be entitled to receive, from time to
time, the interest, if any, earned on such Deposit Securities deposited with
the Auction Agent, and the holders of any shares so redeemed will have no
claim to any such interest. Any funds so deposited which are unclaimed at the
end of one year from such redemption date will be repaid, upon demand, to the
Fund, after which the holders of AMPS so called for redemption may look only
to the Fund for payment thereof.
So long as any AMPS are held of record by the nominee of the Securities
Depository (initially Cede), the redemption price for such shares will be paid
on the redemption date to the nominee of the Securities Depository. The
Securities Depository's normal procedures now provide for it to distribute the
amount of the redemption price to Agent Members who, in turn, are expected to
distribute such funds to the persons for whom they are acting as agent.
Notwithstanding the provisions for redemption described above, no AMPS shall
be subject to optional redemption (i) unless all dividends in arrears on the
outstanding AMPS, and all capital shares of the Fund ranking on a parity with
the AMPS with respect to the payment of dividends or upon liquidation, have
been or are being contemporaneously paid or declared and set aside for payment
and (ii) if redemption thereof would result in the Fund's failure to maintain
Moody's Eligible Assets or S&P Eligible Assets with an aggregate Discounted
Value equal to or greater than the AMPS Basic Maintenance Amount.
Voting Rights
In connection with the election of the Fund's Trustees, holders of AMPS and
any other preferred shares, voting as a separate class, shall be entitled at
all times to elect two of the Fund's Trustees, and the remaining Trustees will
be elected by holders of common shares and AMPS and any other preferred
shares, voting together as a single class. In addition, if at any time
dividends on outstanding AMPS shall be unpaid in an amount equal to at least
two full years' dividends thereon or if at any time holders of any preferred
shares are entitled, together with the holders of AMPS, to elect a majority of
the Trustees of the Fund under the 1940 Act, then the number of Trustees
constituting the Board of Trustees automatically shall be increased by the
smallest number that, when added to the two Trustees elected exclusively by
the holders of AMPS and any other preferred shares as described above, would
constitute a majority of the Board of Trustees as so increased by such
smallest number, and at a special meeting of shareholders which will be called
and held as soon as practicable, and at all subsequent meetings at which
Trustees are to be elected, the holders of AMPS and any other preferred
shares, voting as a separate class, will be entitled to elect the smallest
number of additional Trustees that, together with the two Trustees which such
holders in any event will be entitled to elect, constitutes a majority of the
total number of Trustees of the Fund as so increased. The terms of office of
the persons who are Trustees at the time of that election will continue. If
the Fund thereafter shall pay, or declare and set apart for payment in full,
all dividends payable on all outstanding AMPS and any other preferred shares
for all past Dividend Periods, the additional voting rights of the holders of
AMPS and any other preferred shares as described above shall cease, and the
terms of office of all of the additional Trustees elected by the holders of
AMPS and any other preferred shares (but not of the Trustees with respect to
whose election the holders of common shares were entitled to vote or the two
Trustees the holders of AMPS and any other preferred shares have the right to
elect in any event) will terminate automatically.
15
<PAGE>
The affirmative vote of a majority of the votes entitled to be cast by
holders of outstanding AMPS and any other preferred shares, voting as a
separate class, will be required to (i) authorize, create or issue any class
or series of shares ranking prior to the AMPS or any other series of preferred
shares with respect to the payment of dividends or the distribution of assets
on liquidation, or (ii) amend, alter or repeal the provisions of the
Declaration of Trust, whether by merger, consolidation or otherwise, so as to
adversely affect any of the contract rights expressly set forth in the
Declaration of Trust of holders of AMPS or any other preferred shares. To the
extent permitted under the 1940 Act, in the event shares of more than one
series of AMPS are outstanding, the Fund shall not approve any of the actions
set forth in clause (i) or (ii) which adversely affects the contract rights
expressly set forth in the Declaration of Trust of a holder of shares of a
series of AMPS differently than those of a holder of shares of any other
series of AMPS without the affirmative vote of at least a majority of votes
entitled to be cast by holders of the AMPS of each series adversely affected
and outstanding at such time (each such adversely affected series voting
separately as a class). The Board of Trustees, however, without shareholder
approval, may amend, alter or repeal any or all of the various rating agency
guidelines described herein in the event the Fund receives confirmation from
the rating agencies that any such amendment, alteration or repeal would not
impair the ratings then assigned to AMPS. Unless a higher percentage is
provided for under "Description of Capital Shares--Certain Provisions of the
Declaration of Trust" in the prospectus, the affirmative vote of a majority of
the votes entitled to be cast by holders of outstanding AMPS and any other
preferred shares, voting as a separate class, will be required to approve any
plan of reorganization (including bankruptcy proceedings) adversely affecting
such shares or any action requiring a vote of security holders under Section
13(a) of the 1940 Act including, among other things, changes in the Fund's
investment objective or changes in the investment restrictions described as
fundamental policies under "Investment Objective and Policies." The class vote
of holders of AMPS and any other preferred shares described above in each case
will be in addition to a separate vote of the requisite percentage of shares
of common shares and shares of AMPS and any other preferred shares, voting
together as a single class, necessary to authorize the action in question.
The foregoing voting provisions will not apply to any AMPS if, at or prior
to the time when the act with respect to which such vote otherwise would be
required shall be effected, such shares shall have been (i) redeemed or (ii)
called for redemption and sufficient funds shall have been deposited in trust
to effect such redemption.
THE AUCTION
Auction Agent Agreement
The Auction Agent will act as agent for the Fund in connection with
Auctions. In the absence of bad faith or negligence on its part, the Auction
Agent will not be liable for any action taken, suffered or omitted, or for any
error of judgment made, by it in the performance of its duties under the
Auction Agent Agreement, and will not be liable for any error of judgment made
in good faith unless the Auction Agent shall have been negligent in
ascertaining the pertinent facts. Pursuant to the Auction Agent Agreement, the
Fund is required to indemnify the Auction Agent for certain losses and
liabilities incurred by the Auction Agent without negligence or bad faith on
its part in connection with the performance of its duties under such
agreement.
The Auction Agent may terminate the Auction Agent Agreement upon notice to
the Fund, which termination may be no earlier than 60 days following delivery
of such notice. If the Auction Agent resigns, the Fund will use its best
efforts to enter into an agreement with a successor Auction Agent containing
substantially the same terms and conditions as the Auction Agent Agreement.
The Fund may terminate the Auction Agent Agreement, provided that prior to
such termination the Fund shall have entered into such an agreement with
respect thereto with a successor Auction Agent.
Broker-Dealer Agreements
The Auctions require the participation of one or more broker-dealers. A
Broker-Dealer Agreement may be terminated by the Auction Agent or a Broker-
Dealer on five days' notice to the other party, provided that the Broker-
Dealer Agreement with Merrill Lynch may not be terminated without the prior
written consent of the Fund, which consent may not be unreasonably withheld.
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<PAGE>
Auction Procedures
The Auction Procedures are set forth in Appendix E to this statement of
additional information. The Settlement Procedures to be used with respect to
Auctions are set forth in Appendix D to this statement of additional
information.
RATING AGENCY GUIDELINES
S&P AAA Rating Guidelines
The Discounted Value of the Fund's S&P Eligible Assets is calculated on each
Valuation Date. See "Description of AMPS--Asset Maintenance--AMPS Basic
Maintenance Amount." S&P Eligible Assets include cash, Receivables for
Pennsylvania Municipal Bonds Sold (as defined below) and Pennsylvania
Municipal Bonds or Municipal Bonds eligible for consideration under S&P's
current guidelines. For purposes of calculating the Discounted Value of the
Fund's portfolio under current S&P guidelines, the fair market value of
Pennsylvania Municipal Bonds or Municipal Bonds eligible for consideration
under such guidelines must be discounted by the applicable S&P Discount Factor
set forth in the table below. The Discounted Value of a Pennsylvania Municipal
Bond or Municipal Bond eligible for consideration under S&P guidelines is the
fair market value thereof divided by the S&P Discount Factor. The S&P Discount
Factor used to discount a particular Pennsylvania Municipal Bond or Municipal
Bond will be determined by reference to (a)(i) the rating by S&P, Moody's or
Fitch on such Bond or (ii) in the event the Pennsylvania Municipal Bond is
insured under a Policy and the terms of the Policy permit the Fund, at its
option, to obtain other permanent insurance guaranteeing the timely payment of
interest on such Pennsylvania Municipal Bond and principal thereof to
maturity, the S&P insurance claims-paying ability rating of the issuer of the
Policy or (iii) in the event the Pennsylvania Municipal Bond is insured under
an insurance policy which guarantees the timely payment of interest on such
Pennsylvania Municipal Bond and principal thereof to maturity, the S&P
insurance claims-paying ability rating of the issuer of the insurance policy
and (b) the S&P Exposure Period. The S&P Exposure Period is the maximum period
of time following a Valuation Date, including the Valuation Date and the AMPS
Basic Maintenance Cure Date, that the Fund has to cure any failure to
maintain, as of such Valuation Date, a Discounted Value for its portfolio at
least equal to the AMPS Basic Maintenance Amount.
S&P Discount Factors applicable to Pennsylvania Municipal Bonds for a range
of S&P Exposure Periods are set forth below:
<TABLE>
<CAPTION>
S&P Discount
Factors Rating
Category
------------------
Exposure Period AAA AA A BBB
--------------- --- --- --- ---
<S> <C> <C> <C> <C>
45 Business Days....................................... 210% 215% 230% 270%
25 Business Days....................................... 190 195 210 250
10 Business Days....................................... 175 180 195 235
7 Business Days....................................... 170 175 190 230
3 Business Days....................................... 150 155 170 210
</TABLE>
Since the S&P Exposure Period currently applicable to the Fund is seven
Business Days, the S&P Discount Factors currently applicable to Municipal
Bonds eligible for consideration under S&P guidelines will be determined by
reference to the factors set forth opposite the exposure period line entitled
"7 Business Days." Notwithstanding the foregoing, (i) the S&P Discount Factor
for short-term Pennsylvania Municipal Bonds will be 115%, so long as such
Pennsylvania Municipal Bonds are rated A-1+ or SP-1+ by S&P and mature or have
a demand feature exercisable in 30 days or less, or 120% so long as such
Pennsylvania Municipal Bonds are rated A-1 or SP-1 by S&P and mature or have a
demand feature exercisable in 30 days or less, or 125% if such Pennsylvania
Municipal Bonds are not rated by S&P but are rated VMIG-1, P-1 or MIG-1 by
Moody's or F-1+ by Fitch; provided, however, such short-term Pennsylvania
Municipal Bonds rated by Moody's or Fitch but not rated by S&P having a demand
feature exercisable in 30 days or less must be backed by a letter of credit,
liquidity facility or guarantee from a bank or other financial institution
having a short-term rating of at least A-1+ from S&P; and further provided
that such short-term Pennsylvania Municipal Bonds rated by Moody's or
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<PAGE>
Fitch but not rated by S&P may comprise no more than 50% of short-term
Pennsylvania Municipal Bonds that qualify as S&P Eligible Assets, (ii) the S&P
Discount Factor for Receivables for Pennsylvania Municipal Bonds Sold that are
due in more than five Business Days from such Valuation Date will be the S&P
Discount Factor applicable to the Pennsylvania Municipal Bonds sold, and (iii)
no S&P Discount Factor will be applied to cash or to Receivables for
Pennsylvania Municipal Bonds Sold if such receivables are due within five
Business Days of such Valuation Date. "Receivables for Pennsylvania Municipal
Bonds Sold," for purposes of calculating S&P Eligible Assets as of any
Valuation Date, means the book value of receivables for Pennsylvania Municipal
Bonds sold as of or prior to such Valuation Date. The Fund may adopt S&P
Discount Factors for Municipal Bonds other than Pennsylvania Municipal Bonds
provided that S&P advises the Fund in writing that such action will not
adversely affect its then current rating on the AMPS. For purposes of the
foregoing, Anticipation Notes rated SP-1 or, if not rated by S&P, rated VMIG-1
by Moody's or F-1+ by Fitch, which do not mature or have a demand feature
exercisable in 30 days and which do not have a long-term rating, shall be
considered to be short-term Pennsylvania Municipal Bonds.
The S&P guidelines require certain minimum issue size and geographical
diversification and impose other requirements for purposes of determining S&P
Eligible Assets. In order to be considered S&P Eligible Assets, Municipal
Bonds must:
(i) be interest bearing and pay interest at least semi-annually;
(ii) be payable with respect to principal and interest in U.S. dollars;
(iii) be publicly rated BBB or higher by S&P or, except in the case of
Anticipation Notes that are grant anticipation notes or bond anticipation
notes, which must be rated by S&P to be included in S&P Eligible Assets, if
not rated by S&P but rated by Moody's or Fitch, be rated at least A by
Moody's or Fitch (provided that such Moody's-rated or Fitch-rated
Pennsylvania Municipal Bonds will be included in S&P Eligible Assets only
to the extent the fair market value of such Pennsylvania Municipal Bonds
does not exceed 50% of the aggregate fair market value of the S&P Eligible
Assets. For purposes of determining the S&P Discount Factors applicable to
any such Moody's-rated or Fitch-rated Municipal Bonds, such Pennsylvania
Municipal Bonds will be deemed to have an S&P rating that is one full
rating category lower than its Moody's rating or Fitch rating);
(iv) not be subject to a covered call or covered put option written by
the Fund;
(v) except for inverse floating obligations, not be part of a private
placement of Municipal Bonds; and
(vi) except for inverse floating obligations, be part of an issue with an
original issue size of at least $10 million or, if of an issue with an
original issue size below $10 million (but in no event below $5 million),
be either (a) issued by an issuer with a total of at least $25 million of
securities outstanding or (b) rated at least A by S&P with all such
Pennsylvania Municipal Bonds not constituting more than 20% of the
aggregate market value of S&P Eligible Assets.
Notwithstanding the foregoing:
(i) Pennsylvania Municipal Bonds of any one issuer or guarantor
(excluding bond insurers) will be considered S&P Eligible Assets only to
the extent the fair market value of such Bonds does not exceed 10% of the
aggregate fair market value of the S&P Eligible Assets, provided that 2% is
added to the applicable S&P Discount Factor for every 1% by which the fair
market value of such Pennsylvania Municipal Bonds exceeds 5% of the
aggregate fair market value of the S&P Eligible Assets;
(ii) Pennsylvania Municipal Bonds of any one issue type category (as
described below) will be considered S&P Eligible Assets only to the extent
the market value of such Pennsylvania Municipal Bonds does not exceed 25%
of the aggregate market value of S&P Eligible Assets, except that
Pennsylvania Municipal Bonds falling within the utility issue type category
will be broken down into three sub-categories (as described below) and such
Pennsylvania Municipal Bonds will be considered S&P Eligible Assets to the
extent the market value of such Pennsylvania Municipal Bonds in each such
sub-category does not exceed 25% of the aggregate market value of S&P
Eligible Assets, except that Pennsylvania Municipal Bonds falling within
the transportation issue type category will be broken down into two sub-
categories (as described below) and such Pennsylvania Municipal Bonds will
be considered S&P Eligible Assets to the
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<PAGE>
extent the market value of such Bonds in both sub-categories combined (as
described below) does not exceed 40% of the aggregate market value of S&P
Eligible Assets and except that Pennsylvania Municipal Bonds falling within
the general obligation issue type category will be considered S&P Eligible
Assets to the extent the market value of such Pennsylvania Municipal Bonds
does not exceed 50% of the aggregate market value of S&P Eligible Assets.
For purposes of the issue type category requirement described above,
Pennsylvania Municipal Bonds will be classified within one of the following
categories: health care issues, housing issues, educational facilities
issues, student loan issues, transportation issues, industrial development
bond issues, utility issues, general obligation issues, lease obligations,
escrowed bonds and other issues not falling within one of the
aforementioned categories. The general obligation issue type category
includes any issuer that is directly or indirectly guaranteed by the
Commonwealth of Pennsylvania or its political subdivisions. Utility issuers
are included in the general obligation issue type category if the issuer is
directly or indirectly guaranteed by the Commonwealth of Pennsylvania or
its political subdivisions. For purposes of the issue type category
requirement described above, Pennsylvania Municipal Bonds in the utility
issue type category will be classified within one of the three following
sub-categories: (1) electric, gas and combination issues (if the
combination issue includes an electric issue), (2) water and sewer
utilities and combination issues (if the combination issue does not include
an electric issue), and (3) irrigation, resource recovery, solid waste and
other utilities, provided that Pennsylvania Municipal Bonds included in
this sub-category (iii) must be rated by S&P in order to be included in S&P
Eligible Assets. For purposes of the issue type category requirement
described above, Pennsylvania Municipal Bonds in the transportation issue
type category will be classified within one of the two following sub-
categories: (i) streets and highways, toll roads, bridges and tunnels,
airports and multi-purpose port authorities (multiple revenue streams
generated by toll roads, airports, real estate, bridges), (ii) mass
transit, parking, seaports and others. Exposure to transportation sub-
category (1) in the preceding sentence is limited to 25% of the aggregate
market value of S&P Eligible Assets, provided, however, exposure to
transportation sub-category (2) in the preceding sentence can exceed the
25% limit to the extent that exposure to transportation sub-category (2) is
reduced, for a total exposure up to and not exceeding 40% of the aggregate
market value of S&P Eligible Assets for the transportation issue type
category; and
(iii) Pennsylvania Municipal Bonds which are escrow bonds or defeased
bonds may compose up to 100% of the aggregate market value of S&P Eligible
Assets if such Pennsylvania Municipal Bonds initially are assigned a rating
by S&P in accordance with S&P's legal defeasance criteria or rerated by S&P
as economic defeased escrow bonds and assigned an AAA rating. Pennsylvania
Municipal Bonds may be rated as escrow bonds by another nationally
recognized rating agency or rerated as an escrow bond and assigned the
equivalent of an S&P AAA rating, provided that such equivalent rated
Pennsylvania Municipal Bonds are limited to 50% of the aggregate market
value of S&P Eligible Assets and are deemed to have an AA S&P rating for
purposes of determining the S&P Discount Factor applicable to such
Pennsylvania Municipal Bonds. The limitations on Pennsylvania Municipal
Bonds of any one issuer in clause (i) above is not applicable to escrow
bonds, however, economically defeased bonds that are either initially rated
or rerated by S&P or another nationally recognized rating agency and
assigned the same rating level as the issuer of the Pennsylvania Municipal
Bonds will remain in its original issue type category set forth in clause
(ii) above. Pennsylvania Municipal Bonds that are legally defeased and
secured by securities issued or guaranteed by the United States Government
are not required to meet the minimum issuance size requirement set forth
above.
The Fund may include Municipal Bonds other than Pennsylvania Municipal Bonds
as S&P Eligible Assets pursuant to guidelines and restrictions to be
established by S&P, provided that S&P advises the Fund in writing that such
action will not adversely affect its then-current rating on the AMPS.
As discussed in the prospectus, the Fund may engage in options or futures
transactions. For so long as any AMPS are rated by S&P, the Fund will not
purchase or sell financial futures contracts, write, purchase or sell options
on financial futures contracts or write put options (except covered put
options) or call options (except covered call options) on portfolio securities
unless it receives written confirmation from S&P that engaging in such
transactions will not impair the ratings then assigned to the AMPS by S&P,
except that the Fund
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<PAGE>
may purchase or sell financial futures contracts based on the Bond Buyer
Municipal Bond Index (the "Municipal Index") or United States Treasury Bonds
or Notes ("Treasury Bonds") and write, purchase or sell put and call options
on such contracts (collectively "S&P Hedging Transactions"), subject to the
following limitations:
(i) the Fund will not engage in any S&P Hedging Transaction based on the
Municipal Index (other than transactions that terminate a financial futures
contract or option held by the Fund by the Fund's taking an opposite
position thereto ("Closing Transactions")), that would cause the Fund at
the time of such transaction to own or have sold the least of (A) more than
1,000 outstanding financial futures contracts based on the Municipal Index,
(B) outstanding financial futures contracts based on the Municipal Index
exceeding in number 25% of the quotient of the fair market value of the
Fund's total assets divided by $1,000 or (C) outstanding financial futures
contracts based on the Municipal Index exceeding in number 10% of the
average number of daily traded financial futures contracts based on the
Municipal Index in the 30 days preceding the time of effecting such
transaction as reported by The Wall Street Journal;
(ii) the Fund will not engage in any S&P Hedging Transaction based on
Treasury Bonds (other than Closing Transactions) that would cause the Fund
at the time of such transaction to own or have sold the lesser of (A)
outstanding financial futures contracts based on Treasury Bonds exceeding
in number 50% of the quotient of the fair market value of the Fund's total
assets divided by $100,000 ($200,000 in the case of the two-year United
States Treasury Note) or (B) outstanding financial futures contracts based
on Treasury Bonds exceeding in number 10% of the average number of daily
traded financial futures contracts based on Treasury Bonds in the 30 days
preceding the time of effecting such transaction as reported by The Wall
Street Journal;
(iii) the Fund will engage in Closing Transactions to close out any
outstanding financial futures contract that the Fund owns or has sold or
any outstanding option thereon owned by the Fund in the event (A) the Fund
does not have S&P Eligible Assets with an aggregate Discounted Value equal
to or greater than the AMPS Basic Maintenance Amount on two consecutive
Valuation Dates and (B) the Fund is required to pay Variation Margin on the
second such Valuation Date;
(iv) the Fund will engage in a Closing Transaction to close out any
outstanding financial futures contract or option thereon in the month prior
to the delivery month under the terms of such financial futures contract or
option thereon unless the Fund holds the securities deliverable under such
terms; and
(v) when the Fund writes a financial futures contract or an option
thereon, it will either maintain an amount of cash, cash equivalents or
high grade (rated A or better by S&P) fixed-income securities in a
segregated account with the Fund's custodian, so that the amount so
segregated plus the amount of Initial Margin and Variation Margin held in
the account of or on behalf of the Fund's broker with respect to such
financial futures contract or option equals the fair market value of the
financial futures contract or option, or, in the event the Fund writes a
financial futures contract or option thereon that requires delivery of an
underlying security, it shall hold such underlying security in its
portfolio.
For purposes of determining whether the Fund has S&P Eligible Assets with a
Discounted Value that equals or exceeds the AMPS Basic Maintenance Amount, the
Discounted Value of cash or securities held for the payment of Initial Margin
or Variation Margin shall be zero and the aggregate Discounted Value of S&P
Eligible Assets shall be reduced by an amount equal to (i) 30% of the
aggregate settlement value, as marked to market, of any outstanding financial
futures contracts based on the Municipal Index that are owned by the Fund plus
(ii) 25% of the aggregate settlement value, as marked to market, of any
outstanding financial futures contracts based on Treasury Bonds which
contracts are owned by the Fund.
Moody's "aaa" Rating Guidelines
The Discounted Value of the Fund's Moody's Eligible Assets is calculated on
each Valuation Date. See "Description of AMPS--Asset Maintenance--AMPS Basic
Maintenance Amount" herein. Moody's Eligible Assets include cash, Receivables
for Pennsylvania Municipal Bonds or Municipal Bonds (as defined below), and
Pennsylvania Municipal Bonds or Municipal Bonds eligible for consideration
under Moody's guidelines. For
20
<PAGE>
purposes of calculating the Discounted Value of the Fund's portfolio under
current Moody's guidelines, the fair market value of Municipal Bonds eligible
for consideration under such guidelines must be discounted by the applicable
Moody's Discount Factor set forth in the table below. The Discounted Value of
a Municipal Bond eligible for consideration under Moody's guidelines is the
lower of par and the quotient of the fair market value thereof divided by the
Moody's Discount Factor. The Moody's Discount Factor used to discount a
particular Pennsylvania Municipal Bond or Municipal Bond will be determined by
reference to (a) (i) the rating by Moody's or S&P on such Bond or (ii) in the
event the Moody's Eligible Asset is insured under a Policy and the terms of
the Policy permit the Fund, at its option, to obtain other insurance
guaranteeing the timely payment of interest on such Moody's Eligible Asset and
principal thereof to maturity, the Moody's insurance claims-paying ability
rating of the issuer of the Policy or (iii) in the event the Moody's Eligible
Asset is insured under an insurance policy which guarantees the timely payment
of interest on such Moody's Eligible Asset and principal thereof to maturity,
the Moody's insurance claims-paying ability rating of the issuer of the
insurance policy (provided that for purposes of clauses (ii) and (iii) if the
insurance claims-paying ability of an issuer of a Policy or insurance policy
is not rated by Moody's but is rated by S&P, such issuer shall be deemed to
have a Moody's insurance claims-paying ability rating which is two full
categories lower than the S&P insurance claims-paying ability rating) and (b)
the Moody's Exposure Period. Moody's Discount Factors for a range of Moody's
Exposure Periods are set forth below:
<TABLE>
<CAPTION>
Moody's Discount Factors Rating Category
-----------------------------------------------------
Moody's Exposure Period Aaa(1) Aa(1) A(1) Baa(1) Other(2) VMIG-1(3) SP-1+(3)
----------------------- ------ ----- ---- ------ -------- --------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
7 weeks or less......... 151% 159% 168% 202% 229% 136% 148%
8 weeks or less but
greater than seven
weeks.................. 154 164 173 205 235 137 149
9 weeks or less but
greater than eight
weeks.................. 158 169 179 209 242 138 150
</TABLE>
- --------
(1) Moody's rating.
(2) Pennsylvania Municipal Bonds and Municipal Bonds not rated by Moody's but
rated BBB or BBB+ by S&P.
(3) Pennsylvania Municipal Bonds and Municipal Bonds rated MIG-1, VMIG-1 or P-
1 or, if not rated by Moody's, rated SP-1+ or A-1+ by S&P which do not
mature or have a demand feature at par exercisable within the Moody's
Exposure Period and which do not have a long-term rating. For the purposes
of the definition of Moody's Eligible Assets, these securities will have
an assumed rating of A by Moody's.
provided, however, in the event a Moody's Discount Factor applicable to a
Moody's Eligible Asset is determined by reference to an insurance claims-
paying ability rating in accordance with clause (a)(ii) or (a)(iii), such
Moody's Discount Factor shall be increased by an amount equal to 50% of the
difference between (a) the percentage set forth in the foregoing table under
the applicable rating category and (b) the percentage set forth in the
foregoing table under the rating category which is one category lower than the
applicable rating category.
Since the Moody's Exposure Period currently is 49 days, the Moody's Discount
Factors currently applicable to Municipal Bonds eligible for consideration
under Moody's guidelines will be determined by reference to the factors set
forth opposite the exposure period line entitled "7 weeks or less."
Notwithstanding the foregoing, (i) a 102% Moody's Discount Factor will be
applied to short-term Pennsylvania Municipal Bonds and short-term Municipal
Bonds, so long as such Pennsylvania Municipal Bonds and Municipal Bonds are
rated at least MIG-1, VMIG-1 or P-1 by Moody's and mature or have a demand
feature at par exercisable within the Moody's Exposure Period, and the Moody's
Discount Factor for such Bonds will be 125% if such Bonds are not rated by
Moody's but are rated A-1+, SP-1+ or AA by S&P and mature or have a demand
feature at par exercisable within the Moody's Exposure Period, and (ii) no
Moody's Discount Factor will be applied to cash or to Receivables for
Pennsylvania Municipal Bonds or Municipal Bonds Sold. "Receivables for
Pennsylvania Municipal Bonds or Municipal Bonds Sold," for purposes of
calculating Moody's Eligible Assets as of any Valuation Date, means no more
than the aggregate of the following: (i) the book value of receivables for
Pennsylvania Municipal Bonds or Municipal Bonds sold as of or prior to such
Valuation Date if such receivables are due within five Business Days of such
Valuation Date, and if the trades which generated such receivables are (A)
settled through clearing house firms with respect to which the Fund has
received prior written authorization
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<PAGE>
from Moody's or (B) with counterparties having a Moody's long-term debt rating
of at least Baa3; and (ii) the Moody's Discounted Value of Pennsylvania
Municipal Bonds or Municipal Bonds sold as of or prior to such Valuation Date
that generated receivables, if such receivables are due within five Business
Days of such Valuation Date but do not comply with either of conditions (A) or
(B) of the preceding clause (i).
The Moody's guidelines impose certain requirements as to minimum issue size,
issuer diversification and geographical concentration, as well as other
requirements for purposes of determining whether Pennsylvania Municipal Bonds
or Municipal Bonds constitute Moody's Eligible Assets, as set forth in the
table below:
<TABLE>
<CAPTION>
Maximum Maximum State
Minimum Maximum Issue Type Maximum County Or Territory
Issue Size Underlying Concentration Concentration Concentration
Rating ($ Millions) Obligor (%)(1) (%)(1)(3) (%)(1)(4) (%)(1)(5)
- ------ ------------ -------------- ------------- -------------- -------------
<S> <C> <C> <C> <C> <C>
Aaa..................... 10 100 100 100 100
Aa...................... 10 20 60 60 60
A....................... 10 10 40 40 40
Baa..................... 10 6 20 20 20
Other(2)................ 10 4 12 12 12
</TABLE>
- --------
(1) The referenced percentages represent maximum cumulative totals for the
related rating category and each lower rating category.
(2) Pennsylvania Municipal Bonds and Municipal Bonds not rated by Moody's but
rated BBB or BBB+ by S&P.
(3) Does not apply to general obligation bonds.
(4) Applicable to general obligation bonds only.
(5) Does not apply to Pennsylvania Municipal Bonds. Territorial bonds (other
than those issued by Puerto Rico and counted collectively) are each
limited to 10% of Moody's Eligible Assets. For diversification purposes,
Puerto Rico will be treated as a state.
For purposes of the maximum underlying obligor requirement described above,
any Pennsylvania Municipal Bond or Municipal Bond backed by the guaranty,
letter of credit or insurance issued by a third party will be deemed to be
issued by such third party if the issuance of such third party credit is the
sole determinant of the rating on such Bond. For purposes of the issue type
concentration requirement described above, Pennsylvania Municipal Bonds and
Municipal Bonds will be classified within one of the following categories:
health care issues (teaching and non-teaching hospitals, public and private),
housing issues (single-and multi-family), educational facilities issues
(public and private schools), student loan issues, resource recovery issues,
transportation issues (mass transit, airport and highway bonds), industrial
revenue/pollution control bond issues, utility issues (including water, sewer
and electricity), general obligation issues, lease obligations/certificates of
participation, escrowed bonds and other issues ("Other Issues") not falling
within one of the aforementioned categories (includes special obligations to
crossover, excise and sales tax revenue, recreation revenue, special
assessment and telephone revenue bonds). In no event shall (a) more than 10%
of Moody's Eligible Assets consist of student loan issues, (b) more than 10%
of Moody's Eligible Assets consist of recovery issues or (c) more than 10% of
Moody's Eligible Assets consist of Other Issues.
Current Moody's guidelines also require that Pennsylvania Municipal Bonds or
Municipal Bonds constituting Moody's Eligible Assets pay interest in cash, be
publicly rated Baa or higher by Moody's or, if not rated by Moody's but rated
by S&P, that they be rated at least BBB by S&P, not have suspended ratings by
Moody's and be part of an issue of Pennsylvania Municipal Bonds or Municipal
Bonds of at least $10,000,000. For purposes of determining the Moody's
Discount Factors applicable to any such S&P-rated Pennsylvania Municipal Bonds
or S&P-rated Municipal Bonds, such Pennsylvania Municipal Bonds or Municipal
Bonds (excluding any short-term Municipal Bonds) will be deemed to have a
Moody's rating that is one full rating category lower than its S&P rating.
When the Fund sells a Pennsylvania Municipal Bond or Municipal Bond and agrees
to repurchase it at a future date, the Discounted Value of such Municipal Bond
will constitute a Moody's Eligible Asset and the amount the Fund is required
to pay upon repurchase of such bond will count as a liability for purposes of
calculating the AMPS Basic Maintenance Amount. For so long as the AMPS are
rated by Moody's, the Fund will not enter into any such reverse repurchase
agreements unless it has received written
22
<PAGE>
confirmation from Moody's that such transactions would not impair the rating
then assigned the AMPS by Moody's. When the Fund purchases a Pennsylvania
Municipal Bond or Municipal Bond and agrees to sell it at a future date to
another party, cash receivable by the Fund thereby will constitute a Moody's
Eligible Asset if the long-term debt of such other party is rated at least A2
by Moody's and such agreement has a term of 30 days or less; otherwise the
Discounted Value of such Bond will constitute a Moody's Eligible Asset.
Notwithstanding the foregoing, an asset will not be considered a Moody's
Eligible Asset if it is (i) held in a margin account, (ii) subject to any
material lien, mortgage, pledge, security interest or security agreement of
any kind, (iii) held for the purchase of a security pursuant to a Forward
Commitment or (iv) irrevocably deposited by the Fund for the payment of
dividends or redemption.
For so long as AMPS are rated by Moody's, in managing the Fund's portfolio,
the Investment Adviser will not alter the composition of the Fund's portfolio
if, in the reasonable belief of the Investment Adviser, the effect of any such
alteration would be to cause the Fund to have Moody's Eligible Assets with an
aggregate Discounted Value, as of the immediately preceding Valuation Date,
less than the AMPS Basic Maintenance Amount as of such Valuation Date;
provided, however, that in the event that, as of the immediately preceding
Valuation Date, the aggregate Discounted Value of Moody's Eligible Assets
exceeded the AMPS Basic Maintenance Amount by five percent or less, the
Investment Adviser will not alter the composition of the Fund's portfolio in a
manner reasonably expected to reduce the aggregate Discounted Value of Moody's
Eligible Assets unless the Fund shall have confirmed that, after giving effect
to such alteration, the aggregate Discounted Value of Moody's Eligible Assets
would exceed the AMPS Basic Maintenance Amount.
For so long as any AMPS are rated by Moody's, the Fund will not buy or sell
financial futures contracts, write, purchase or sell call options on financial
futures contracts or purchase put options on financial futures contracts or
write call options (except covered call options) on portfolio securities
unless it receives written confirmation from Moody's that engaging in such
transactions would not impair the ratings then assigned to AMPS by Moody's,
except that the Fund may purchase or sell exchange-traded financial futures
contracts based on the Municipal Index or Treasury Bonds, and purchase, write
or sell exchange-traded put options on such financial futures contracts, and
purchase, write or sell exchange-traded call options on such financial futures
contracts (collectively "Moody's Hedging Transactions"), subject to the
following limitations:
(i) the Fund will not engage in any Moody's Hedging Transaction based on
the Municipal Index (other than Closing Transactions) that would cause the
Fund at the time of such transaction to own or have sold (A) outstanding
financial futures contracts based on the Municipal Index exceeding in
number 10% of the average number of daily traded financial futures
contracts based on the Municipal Index in the 30 days preceding the time of
effecting such transaction as reported by The Wall Street Journal or (B)
outstanding financial futures contracts based on the Municipal Index having
a fair market value exceeding 50% of the fair market value of all Municipal
Bonds constituting Moody's Eligible Assets owned by the Fund (other than
Moody's Eligible Assets already subject to a Moody's Hedging Transaction);
(ii) the Fund will not engage in any Moody's Hedging Transaction based on
Treasury Bonds (other than Closing Transactions) that would cause the Fund
at the time of such transaction to own or have sold (A) outstanding
financial futures contracts based on Treasury Bonds having an aggregate
Market Value exceeding 20% of the aggregate Market Value of Moody's
Eligible Assets owned by the Fund and rated Aa by Moody's (or, if not rated
by Moody's but rated by S&P, rated AAA by S&P) or (B) outstanding financial
futures contracts based on Treasury Bonds having an aggregate fair market
value exceeding 40% of the aggregate fair market value of all Municipal
Bonds constituting Moody's Eligible Assets owned by the Fund (other than
Moody's Eligible Assets already subject to a Moody's Hedging Transaction)
and rated Baa or A by Moody's (or, if not rated by Moody's but rated by
S&P, rated A or AA by S&P) (for purposes of the foregoing clauses (i) and
(ii), the Fund shall be deemed to own the number of financial futures
contracts that underlie any outstanding options written by the Fund);
(iii) the Fund will engage in Closing Transactions to close out any
outstanding financial futures contract based on the Municipal Index if the
amount of open interest in the Municipal Index as reported by The Wall
Street Journal is less than 5,000;
23
<PAGE>
(iv) the Fund will engage in a Closing Transaction to close out any
outstanding financial futures contract by no later than the fifth Business
Day of the month in which such contract expires and will engage in a
Closing Transaction to close out any outstanding option on a financial
futures contract by no later than the first Business Day of the month in
which such option expires; (v) the Fund will engage in Moody's Hedging
Transactions only with respect to financial futures contracts or options
thereon having the next settlement date or the settlement date immediately
thereafter;
(v) the Fund will not engage in options and futures transactions for
leveraging or speculative purposes and will not write any call options or
sell any financial futures contracts for the purpose of hedging the
anticipated purchase of an asset prior to completion of such purchase; and
(vi) the Fund will not enter into an option or futures transaction
unless, after giving effect thereto, the Fund would continue to have
Moody's Eligible Assets with an aggregate Discounted Value equal to or
greater than the AMPS Basic Maintenance Amount.
For purposes of determining whether the Fund has Moody's Eligible Assets
with an aggregate Discounted Value that equals or exceeds the AMPS Basic
Maintenance Amount, the Discounted Value of Moody's Eligible Assets that the
Fund is obligated to deliver or receive pursuant to an outstanding futures
contract or option shall be as follows: (i) assets subject to call options
written by the Fund that are either exchange-traded and "readily reversible"
or that expire within 49 days after the date as of which such valuation is
made shall be valued at the lesser of (A) Discounted Value and (B) the
exercise price of the call option written by the Fund; (ii) assets subject to
call options written by the Fund not meeting the requirements of clause (i) of
this sentence shall have no value; (iii) assets subject to put options written
by the Fund shall be valued at the lesser of (A) the exercise price and (B)
the Discounted Value of the subject security; (iv) futures contracts shall be
valued at the lesser of (A) settlement price and (B) the Discounted Value of
the subject security, provided that, if a contract matures within 49 days
after the date as of which such valuation is made, where the Fund is the
seller the contract may be valued at the settlement price and where the Fund
is the buyer the contract may be valued at the Discounted Value of the subject
securities; and (v) where delivery may be made to the Fund with any security
of a class of securities, the Fund shall assume that it will take delivery of
the security with the lowest Discounted Value.
For purposes of determining whether the Fund has Moody's Eligible Assets
with an aggregate Discounted Value that equals or exceeds the AMPS Basic
Maintenance Amount, the following amounts shall be subtracted from the
aggregate Discounted Value of the Moody's Eligible Assets held by the Fund:
10% of the exercise price of a written call option; (ii) the exercise price of
any written put option; (iii) where the Fund is the seller under a financial
futures contract, 10% of the settlement price of the financial futures
contract; (iv) where the Fund is the purchaser under a financial futures
contract, the settlement price of assets purchased under such financial
futures contract; (v) the settlement price of the underlying financial futures
contract if the Fund writes put options on a financial futures contract; and
(vi) 105% of the fair market value of the underlying financial futures
contracts if the Fund writes call options on a financial futures contract and
does not own the underlying contract.
For so long as any shares of AMPS are rated by Moody's, the Fund will not
enter into any contract to purchase securities for a fixed price at a future
date beyond customary settlement time (other than such contracts that
constitute Moody's Hedging Transactions), except that the Fund may enter into
such contracts to purchase newly-issued securities on the date such securities
are issued ("Forward Commitments"), subject to the following limitations:
(i) the Fund will maintain in a segregated account with its custodian
cash, cash equivalents or short term, fixed-income securities rated P-1,
MIG-1 or VMIG-1 by Moody's and maturing prior to the date of the Forward
Commitment with a fair market value that equals or exceeds the amount of
the Fund's obligations under any Forward Commitments to which it is from
time to time a party or long-term, fixed income securities with a
Discounted Value that equals or exceeds the amount of the Fund's
obligations under any Forward Commitment to which it is from time to time a
party, and
24
<PAGE>
(ii) the Fund will not enter into a Forward Commitment unless, after
giving effect thereto, the Fund would continue to have Moody's Eligible
Assets with an aggregate Discounted Value equal to or greater than the AMPS
Basic Maintenance Amount.
For purposes of determining whether the Fund has Moody's Eligible Assets
with an aggregate Discounted Value that equals or exceeds the AMPS Basic
Maintenance Amount, the Discounted Value of all Forward Commitments to which
the Fund is a party and of all securities deliverable to the Fund pursuant to
such Forward Commitments shall be zero.
For so long as AMPS are rated by S&P or Moody's, the Fund, unless it has
received written confirmation from S&P and/or Moody's, as the case may be,
that such action would not impair the ratings then assigned to the AMPS by S&P
and/or Moody's, as the case may be, will not (i) borrow money except for the
purpose of clearing transactions in portfolio securities (which borrowings
under any circumstances shall be limited to the lesser of $10 million and an
amount equal to 5% of the fair market value of the Fund's assets at the time
of such borrowings and which borrowings shall be repaid within 60 days and not
be extended or renewed and shall not cause the aggregate Discounted Value of
Moody's Eligible Assets and S&P Eligible Assets to be less than the AMPS Basic
Maintenance Amount), (ii) engage in short sales of securities, (iii) lend any
securities, (iv) issue any class or series of shares ranking prior to or on a
parity with the AMPS with respect to the payment of dividends or the
distribution of assets upon dissolution, liquidation or winding up of the
Fund, (v) reissue any AMPS previously purchased or redeemed by the Fund, (vi)
merge or consolidate into or with any other corporation or entity, (vii)
change the Fund's pricing service or (viii) engage in reverse repurchase
agreements.
TRUSTEES AND OFFICERS
Information about the Trustees, executive officers and the portfolio
managers of the Fund, including their ages and their principal occupations
during the last five years is set forth below. Unless otherwise noted, the
address of each Trustee, executive officer and the portfolio manager is 800
Scudders Mill Road, Plainsboro, New Jersey 08536.
Arthur Zeikel (66)--President and Trustee (1)(2)--Chairman of the Investment
Adviser and MLAM (which terms, as used herein, include their corporate
predecessors) since 1997; President of the Investment Adviser and MLAM from
1977 to 1997; Chairman of Princeton Services, Inc. ("Princeton Services")
since 1997, and Director thereof since 1993; President of Princeton Services
from 1993 to 1997; Executive Vice President of ML & Co. since 1990.
James H. Bodurtha (54)--Trustee (2)--36 Popponesset Road, Cotuit,
Massachusetts 02635. Director and Executive Vice President, The China Business
Group, Inc. since 1996; Chairman and Chief Executive Officer, China Enterprise
Management Corporation from 1993 to 1996; Chairman, Berkshire Corporation
since 1980; Partner, Squire, Sanders & Dempsey from 1980 to 1993.
Herbert I. London (59)--Trustee (2)--113-115 University Place, New York, New
York 10003. John M. Olin Professor of Humanities, New York University since
1993 and Professor thereof since 1980; President, Hudson Institute since 1997
and Trustee since 1980; Dean, Gallatin Division of New York University from
1976 to 1993; Distinguished Fellow, Herman Kahn Chair, Hudson Institute from
1984 to 1985; Director, Damon Corporation from 1991 to 1995; Overseer, Center
for Naval Analyses from 1983 to 1993; Limited Partner, Hypertech LP in 1996.
Robert R. Martin (71)--Trustee (2)--513 Grand Hill, St. Paul, Minnesota
55102. Chairman and Chief Executive Officer, Kinnard Investments, Inc. from
1990 to 1993; Executive Vice President, Dain Bosworth from
25
<PAGE>
1974 to 1989; Director, Carnegie Capital Management from 1977 to 1985 and
Chairman thereof in 1979; Director, Securities Industry Association from 1981
to 1982 and Public Securities Association from 1979 to 1980; Chairman of the
Board, WTC Industries, Inc. in 1994; Trustee, Northland College since 1992.
Joseph L. May (69)--Trustee (2)--424 Church Street, Suite 2000, Nashville,
Tennessee 37219. Attorney in private practice since 1984; President, May and
Athens Hosiery Mills Division, Wayne-Gossard Corporation from 1954 to 1983;
Vice President, Wayne-Gossard Corporation from 1972 to 1983; Chairman, The May
Corporation (personal holding company) from 1972 to 1983; Director, Signal
Apparel Co. from 1972 to 1989.
Andre F. Perold (46)--Trustee (2)--Morgan Hall, Soldiers Field, Boston,
Massachusetts 02163. Professor, Harvard Business School since 1989 and
Associate Professor from 1983 to 1989; Trustee, The Common Fund since 1989;
Director, Quantec Limited since 1991 and TIBCO from 1994 to 1996.
Terry K. Glenn (58)--Executive Vice President (1)(2)--Executive Vice
President of the Investment Adviser and MLAM since 1983; Executive Vice
President and Director of Princeton Services since 1993; President of
Princeton Funds Distributor, Inc. ("PFD") since 1986 and Director thereof
since 1991; President of Princeton Administrators, L.P. since 1988.
Vincent R. Giordano (54)--Senior Vice President (1)(2)--Senior Vice
President of the Investment Adviser and MLAM since 1984; Senior Vice President
of Princeton Services since 1993.
Kenneth A. Jacob (47)--Vice President (1)(2)--First Vice President of MLAM
since 1997; Vice President of MLAM from 1984 to 1997; Vice President of the
Manager since 1984.
Robert A. DiMella, CFA (32)--Vice President and Portfolio Manager (1)(2)--
Vice President of MLAM since 1997; Assistant Vice President of MLAM from 1995
to 1997; Assistant Portfolio Manager of MLAM from 1993 to 1995.
William R. Bock (62)--Vice President and Portfolio Manager (1)(2)--Vice
President of MLAM since 1989.
Donald C Burke (38)--Vice President and Treasurer (1)(2)--Senior Vice
President and Treasurer of the Investment Adviser and MLAM since 1999; Senior
Vice President and Treasurer of Princeton Services since 1999; Vice President
of PFD since 1999; First Vice President of MLAM from 1997 to 1999; Vice
President of MLAM from 1990 to 1997; Director of Taxation of MLAM since 1990.
Alice A. Pellegrino (38)--Secretary (1)(2)--Vice President of MLAM since
1999; Attorney with MLAM since 1997; Associate with Kirkpatrick & Lockhart LLP
from 1992 to 1997.
- --------
(1) Interested person, as defined in the 1940 Act, of the Fund.
(2) Such Trustee or officer is a director, trustee or officer of one or more
additional investment companies for which the Investment Adviser or its
affiliate, MLAM, acts as investment adviser or manager.
In connection with the election of the Fund's Trustees, holders of AMPS and
other preferred shares, voting as a separate class, are entitled to elect two
of the Fund's Trustees, and the remaining Trustees will be elected by holders
of common shares and preferred shares voting together as a single class.
Messrs. May and Perold have been designated as the Trustees to be elected by
holders of the preferred shares. See "Description of Capital Shares" in the
prospectus.
26
<PAGE>
Compensation of Trustees
Pursuant to an Investment Advisory Agreement with the Fund, the Investment
Adviser pays all compensation of officers and employees of the Fund as well as
the fees of all Trustees who are affiliated persons of ML & Co. or its
subsidiaries.
The Fund pays each Trustee not affiliated with the Investment Adviser (each
a "non-affiliated Trustee") a fee of $2,500 per year plus $250 per meeting
attended, and pays all Trustees' out-of-pocket expenses relating to attendance
at meetings. The Fund also pays members of the Board's audit and nominating
committee (the "Committee"), which consists of all the non-affiliated
Trustees, an annual fee of $500 per year plus $125 per Committee Meeting
attended.
The following table sets forth compensation to be paid by the Fund to the
non-affiliated Trustees projected through the end of the Fund's first full
fiscal year and for the calendar year ended December 31, 1998 the aggregate
compensation paid by all investment companies advised by the Investment
Adviser and its affiliate, MLAM ("FAM/MLAM Advised Funds"), to the non-
affiliated Trustees.
<TABLE>
<CAPTION>
Total Compensation
Pension or From Fund and
Aggregate Retirement Benefits FAM/MLAM Advised
Compensation Accrued as part of Funds Paid to
Name of Trustee from Fund Fund Expense Trustees
- --------------- ------------ ------------------- ------------------
<S> <C> <C> <C>
James H. Bodurtha(1)........ $4,500 None $163,500
Herbert I. London(1)........ $4,500 None $163,500
Robert R. Martin(1)......... $4,500 None $163,500
Joseph L. May(1)............ $4,500 None $163,500
Andre F. Perold(1).......... $4,500 None $163,500
</TABLE>
- --------
(1) The Trustees serve on the boards of MLAM/FAM Advised Funds as follows: Mr.
Bodurtha (28 registered investment companies consisting of 46 portfolios);
Mr. London (28 registered investment companies consisting of 46
portfolios); Mr. Martin (28 registered investment companies consisting of
46 portfolios); Mr. May (28 registered investment companies consisting of
46 portfolios); and Mr. Perold (28 registered investment companies
consisting of 46 portfolios).
INVESTMENT ADVISORY AND MANAGEMENT ARRANGEMENTS
The Fund has entered into an Investment Advisory Agreement with the
Investment Adviser. The Fund pays the Investment Adviser a monthly fee at an
annual rate of 0.55 of 1% of the Fund's average weekly net assets (i.e., the
average weekly value of the total assets of the Fund, including proceeds from
the issuance of preferred shares, minus the sum of accrued liabilities of the
Fund and accumulated dividends on the preferred shares).
The Investment Advisory Agreement obligates the Investment Adviser to
provide investment advisory services and to pay all compensation of and
furnish office space for officers and employees of the Fund connected with
investment and economic research, trading and investment management of the
Fund, as well as the compensation of all Trustees of the Fund who are
affiliated persons of the Investment Adviser or any of its affiliates. The
Fund pays all other expenses incurred in the operation of the Fund, including,
among other things, expenses for legal and auditing services, taxes, costs of
printing proxies, listing fees, if any, share certificates and shareholder
reports, charges of the custodian and the transfer and dividend disbursing
agent and registrar, fees and expenses with respect to the issuance of
preferred shares, Securities and Exchange Commission fees, fees and expenses
of non-interested Trustees, accounting and pricing costs, insurance, interest,
brokerage costs, litigation and other extraordinary or non-recurring expenses,
mailing and other expenses properly payable by the Fund. Accounting services
are provided to the Fund by the Investment Adviser, and the Fund reimburses
the Investment Adviser for its costs in connection with such services.
27
<PAGE>
Unless earlier terminated as described below, the Investment Advisory
Agreement will remain in effect for a period of two years from the date of
execution and will remain in effect from year to year thereafter if approved
annually (a) by the Board of Trustees of the Fund or by a majority of the
outstanding the Fund and (b) by a majority of the Trustees who are not parties
to such contract or interested persons (as defined in the 1940 Act) of any
such party. Such contract is not assignable and may be terminated without
penalty on 60 days' written notice at the option of either party thereto or by
the vote of the shareholders of the Fund.
Securities held by the Fund may also be held by, or be appropriate
investments for, other funds or investment advisory clients for which the
Investment Adviser or its affiliates act as an adviser. Because of different
objectives or other factors, a particular security may be bought for an
advisory client when other clients are selling the same security. If purchases
or sales of securities by the Investment Adviser for the Fund or other funds
for which it acts as investment adviser or for other advisory clients arise
for consideration at or about the same time, transactions in such securities
will be made, insofar as feasible, for the respective funds and clients in a
manner deemed equitable to all. Transactions effected by the Investment
Adviser (or its affiliates) on behalf of more than one of its clients during
the same period may increase the demand for securities being purchased or the
supply of securities being sold, causing an adverse effect on price.
Code of Ethics
The Board of Trustees of the Fund has adopted a Code of Ethics pursuant to
Rule 17j-1 under the 1940 Act that incorporates the Code of Ethics of the
Investment Adviser (together, the "Codes"). The Codes significantly restrict
the personal investing activities of all employees of the Investment Adviser
and, as described below, impose additional, more onerous, restrictions on Fund
investment personnel.
The Codes require that all employees of the Investment Adviser preclear any
personal securities investment (with limited exceptions, such as U.S.
Government securities). The preclearance requirement and associated procedures
are designed to identify any substantive prohibition or limitation applicable
to the proposed investment. The substantive restrictions applicable to all
employees of the Investment Adviser include a ban on acquiring any securities
in a "hot" initial public offering and a prohibition from profiting on short-
term trading securities. In addition, no employee may purchase or sell any
security that at the time is being purchased or sold (as the case may be), or
to the knowledge of the employee is being considered for purchase or sale, by
any fund advised by the Investment Adviser. Furthermore, the Codes provide for
trading "blackout periods" that prohibit trading by investment personnel of
the Fund within periods of trading by the Fund in the same (or equivalent)
security (15 or 30 days depending upon the transaction).
PORTFOLIO TRANSACTIONS
Subject to policies established by the Board of Trustees of the Fund, the
Investment Adviser is primarily responsible for the execution of the Fund's
portfolio transactions. In executing such transactions, the Investment Adviser
seeks to obtain the best results for the Fund, taking into account such
factors as price (including the applicable brokerage commission or dealer
spread), size of order, difficulty of execution and operational facilities of
the firm involved and the firm's risk in positioning a block of securities.
While the Investment Adviser generally seeks reasonably competitive commission
rates, the Fund does not necessarily pay the lowest commission or spread
available.
The Fund has no obligation to deal with any broker or dealer in the
execution of transactions in portfolio securities. Subject to providing the
best price and execution, securities firms that provide investment research to
the Investment Adviser, including Merrill Lynch, may receive orders for
transactions by the Fund. Research information provided to the Investment
Adviser by securities firms is supplemental. It does not replace or reduce the
level of service performed by the Investment Adviser and the expenses of the
Investment Adviser will not necessarily be reduced because it receives
supplemental research information.
28
<PAGE>
The Fund invests in securities traded in the over-the-counter markets, and
the Fund intends to deal directly with dealers who make markets in the
securities involved, except in those circumstances where better prices and
execution are available elsewhere. Under the 1940 Act, except as permitted by
exemptive order, persons affiliated with the Fund, including Merrill Lynch,
are prohibited from dealing with the Fund as principal in the purchase and
sale of securities. Since transactions in the over-the-counter market usually
involve transactions with dealers acting as principals for their own accounts,
the Fund does not deal with Merrill Lynch and its affiliates in connection
with such transactions except that, pursuant to exemptive orders obtained by
the Investment Adviser, the Fund may engage in principal transactions with the
Underwriter in high quality, short-term, tax-exempt securities. See
"Investment Restrictions." However, affiliated persons of the Fund, including
Merrill Lynch, may serve as its brokers in certain over-the-counter
transactions conducted on an agency basis.
The Fund also may purchase tax-exempt debt instruments in individually
negotiated transactions with the issuer. Because an active trading market may
not exist for such securities, the prices that the Fund may pay for these
securities or receive on their resale may be lower than that for similar
securities with a more liquid market.
Portfolio Turnover
The Fund may dispose of securities without regard to the time they have been
held when such action, for defensive or other reasons, appears advisable to
the Investment Adviser. While it is not possible to predict turnover rates
with any certainty, presently it is anticipated that the Fund's annual
portfolio turnover rate, under normal circumstances should be less than 100%.
(The portfolio turnover rate is calculated by dividing the lesser of purchases
or sales of portfolio securities for the particular fiscal year by the monthly
average of the value of the portfolio securities owned by the Fund during the
particular fiscal year. For purposes of determining this rate, all securities
whose maturities at the time of acquisition are one year or less are
excluded.) A high portfolio turnover rate has certain tax consequences and
results in greater transaction costs, which are borne directly by the Fund.
TAXES
General
The Fund intends to elect and to qualify for the special tax treatment
afforded regulated investment companies ("RICs") under the Internal Revenue
Code of 1986, as amended (the "Code"). As long as it so qualifies, in any
taxable year in which it distributes at least 90% of its taxable net income
and 90% of its tax-exempt net income (see below), the Fund (but not its
shareholders) will not be subject to Federal income tax to the extent that it
distributes its net investment income and net realized capital gains. The Fund
intends to distribute substantially all of such income.
The Code requires a RIC to pay a nondeductible 4% excise tax to the extent
the RIC does not distribute, during each calendar year, 98% of its ordinary
income, determined on a calendar year basis, and 98% of its capital gains,
determined, in general, on an October 31 year-end, plus certain undistributed
amounts from previous years. The required distributions, however, are based
only on the taxable income of a RIC. The excise tax, therefore, generally will
not apply to the tax-exempt income of a RIC, such as the Fund, that pays
exempt-interest dividends.
The Internal Revenue Service (the "IRS"), in a revenue ruling, held that
certain auction rate preferred stock would be treated as stock for Federal
income tax purposes. The terms of the AMPS are substantially similar, but not
identical, to the auction rate preferred stock discussed in the revenue
ruling, and in the opinion of Brown & Wood LLP, counsel to the Fund, the AMPS
will constitute stock of the Fund and distributions with respect to AMPS
(other than distributions in redemption of AMPS subject to Section 302(b) of
the Code) will constitute dividends to the extent of the Fund's current and
accumulated earnings and profits as calculated for Federal income tax
purposes. Nevertheless, it is possible that the IRS might take a contrary
position, asserting, for example, that the AMPS constitute debt of the Fund.
If this position were upheld, the discussion of the treatment of distributions
below would not apply. Instead, distributions by the Fund to holders of AMPS
would constitute
29
<PAGE>
interest, whether or not they exceeded the earnings and profits of the Fund,
would be included in full in the income of the recipient and would be taxed as
ordinary income. Counsel believes that such a position, if asserted by the
IRS, would be unlikely to prevail. Similarly, if the Pennsylvania (and/or
Philadelphia) Department of Revenue took such a position, the discussion of
Pennsylvania (and/or Philadelphia) tax consequences discussed below would not
apply and distributions from the Fund would constitute interest and be fully
taxable for purposes of the Pennsylvania personal and corporate net income
taxes (and, possibly, the Philadelphia School District investment income tax),
and an investment in the Fund would be a taxable asset for purposes of the
Pennsylvania capital stock/foreign franchise tax and the county personal
property tax.
The Fund intends to qualify to pay "exempt-interest dividends" as defined in
Section 852(b)(5) of the Code. Under such section if, at the close of each
quarter of its taxable year, at least 50% of the value of its total assets
consists of obligations exempt from Federal income tax ("tax-exempt
obligations") under Section 103(a) of the Code (relating generally to
obligations of a state or local governmental unit), the Fund shall be
qualified to pay exempt-interest dividends to its shareholders. Exempt-
interest dividends are dividends or any part thereof paid by the Fund which
are attributable to interest on tax-exempt obligations and designated by the
Fund as exempt-interest dividends in a written notice mailed to the Fund's
shareholders within 60 days after the close of its taxable year. To the extent
that the dividends distributed to the Fund's shareholders are derived from
interest income exempt from tax under Code Section 103(a) and are properly
designated as exempt-interest dividends, they will be excludable from a
shareholder's gross income for Federal tax purposes. Exempt-interest dividends
are included, however, in determining the portion, if any, of a person's
social security and railroad retirement benefits subject to Federal income
taxes. Each shareholder is advised to consult a tax adviser with respect to
whether exempt-interest dividends retain the exclusion under Code Section
103(a) if such shareholder would be treated as a "substantial user" or
"related person" under Code Section 147(a) with respect to property financed
with the proceeds of an issue of "industrial development bonds" or "private
activity bonds," if any, held by the Fund.
The portion of dividends paid from interest received by the Fund from
Pennsylvania Municipal Bonds also will be exempt from Pennsylvania personal
income tax. However, distributions attributable to capital gains derived by
the Fund as well as distributions derived from income from investments other
than Pennsylvania Municipal Bonds will be taxable for purposes of the
Pennsylvania personal income tax. In the case of residents of the City of
Philadelphia, distributions which are derived from interest received by the
Fund from Pennsylvania Municipal Bonds or which are designated as capital gain
dividends for Federal income tax purposes will be exempt from the Philadelphia
School District investment income tax. Interest on indebtedness incurred or
continued to purchase or carry shares of a RIC paying exempt interest
dividends, such as the Fund, will not be deductible by the investor for
Federal or Pennsylvania income tax purposes to the extent attributable to
exempt interest dividends (the Pennsylvania personal income tax is a tax on
specified classes of income, so that expenses and deductions are generally not
permitted).
Shareholders subject to income taxation by states other than Pennsylvania
will realize a lower after tax rate of return than Pennsylvania shareholders
since the dividends distributed by the Fund generally will not be exempt, to
any significant degree, from income taxation by such other states. The Fund
will inform shareholders annually regarding the portion of the Fund's
distributions which constitutes exempt-interest dividends and the portion
which is exempt from Pennsylvania personal income taxes.
As a result of a pronouncement by the Pennsylvania Department of Revenue, an
investment in the Fund by a corporate shareholder will apparently qualify as
an exempt asset for purposes of the single asset apportionment fraction
available in computing the Pennsylvania capital stock/foreign franchise tax to
the extent that the portfolio securities of the Fund comprise investments in
Pennsylvania and/or United States Government Securities that would be exempt
assets if owned directly by the corporation. To the extent exempt-interest
dividends are excluded from taxable income for Federal corporate income tax
purposes (determined before net operating loss carryovers and special
deductions), they will not be subject to the Pennsylvania corporate net income
tax. An investment in or distributions from investment income and capital
gains of the Fund, including exempt-interest
30
<PAGE>
dividends, may be subject to state taxes in states other than Pennsylvania
(and, possibly, in Pennsylvania) and to local taxes imposed by municipalities
in states other than Pennsylvania (and, possibly, municipalities in
Pennsylvania). Accordingly, investors in the Fund should consult their tax
advisors with respect to the application of such taxes to an investment in the
Fund, to the receipt of Fund dividends and to their Pennsylvania tax situation
in general.
Shares of the Fund will be exempt from Pennsylvania county personal property
taxes to the extent the Fund's portfolio securities consist of Pennsylvania
Municipal Bonds on the annual assessment date. It should be noted, however,
that at present, Pennsylvania counties generally have stopped assessing
personal property taxes. This is due, in part, to ongoing litigation
challenging the validity of the tax.
To the extent that the Fund's distributions are derived from interest on its
taxable investments or from an excess of net short-term capital gains over net
long-term capital losses ("ordinary income dividends"), such distributions are
considered ordinary income for Federal income tax purposes. Distributions, if
any, from an excess of net long-term capital gains over net short-term capital
losses derived from the sale of securities or from certain transactions in
futures or options ("capital gain dividends") are taxable as long-term capital
gains for Federal income tax purposes, regardless of the length of time the
shareholder has owned Fund shares. Certain categories of capital gains are
taxable at different rates. Generally not later than 60 days after the close
of its taxable year, the Fund will provide its shareholders with a written
notice designating the amounts of any exempt-interest dividends and capital
gain dividends, as well as any amount of capital gain dividends in the
different categories of capital gain referred to above. Distributions by the
Fund, whether from exempt-interest income, ordinary income or capital gains,
are not eligible for the dividends received deduction allowed to corporations
under the Code.
All or a portion of the Fund's gain from the sale or redemption of tax-
exempt obligations purchased at a market discount will be treated for Federal
income tax purposes as ordinary income rather than capital gain. This rule may
increase the amount of ordinary income dividends received by shareholders.
Distributions in excess of the Fund's earnings and profits will first reduce
the adjusted tax basis of a holder's shares and, after such adjusted tax basis
is reduced to zero, will constitute capital gains to such holder (assuming the
shares are held as a capital asset). Any loss upon the sale or exchange of
Fund shares held for six months or less will be disallowed to the extent of
any exempt-interest dividends received by the shareholder. In addition, any
such loss that is not disallowed under the rule stated above will be treated
as long-term capital loss to the extent of any capital gain dividends received
by the shareholder. If the Fund pays a dividend in January which was declared
in the previous October, November or December to shareholders of record on a
specified date in one of such months, then such dividend will be treated for
tax purposes as being paid by the Fund and received by its shareholders on
December 31 of the year in which such dividend was declared.
The IRS has taken the position in a revenue ruling that if a RIC has two or
more classes of shares, it may designate distributions made to each class in
any year as consisting of no more than such class's proportionate share of
particular types of income, including exempt interest and net long-term
capital gains. A class's proportionate share of a particular type of income is
determined according to the percentage of total dividends paid by the RIC
during such year that was paid to such class. Thus, the Fund is required to
allocate a portion of its net capital gains and other taxable income to the
AMPS of each series. The Fund generally will notify the Auction Agent of the
amount of any net capital gains and other taxable income to be included in any
dividend on AMPS prior to the Auction establishing the Applicable Rate for
such dividend. Except for the portion of any dividend that it informs the
Auction Agent will be treated as capital gains or other taxable income, the
Fund anticipates that the dividends paid on the AMPS will constitute exempt-
interest dividends. The amount of net capital gains and ordinary income
allocable to AMPS (the "taxable distribution") will depend upon the amount of
such gains and income realized by the Fund and the total dividends paid by the
Fund on common shares and shares of AMPS during a taxable year, but the
taxable distribution generally is not expected to be significant.
In the opinion of Brown & Wood LLP, counsel to the Fund, under current law
the manner in which the Fund intends to allocate items of tax-exempt income,
net capital gains, and other taxable income, if any, among
31
<PAGE>
common shares and shares of AMPS will be respected for Federal income tax
purposes. However, the tax treatment of Additional Dividends may affect the
Fund's calculation of each class' allocable share of capital gains and other
taxable income. See "Tax Treatment of Additional Dividends." In addition,
there is currently no direct guidance from the IRS or other sources
specifically addressing whether the Fund's method for allocating tax-exempt
income, net capital gains, and other taxable income among common shares and
shares of AMPS will be respected for Federal income tax purposes, and it is
possible that the IRS could disagree with counsel's opinion and attempt to
reallocate the Fund's net capital gains or other taxable income. In the event
of a reallocation, some of the dividends identified by the Fund as exempt-
interest dividends to holders of AMPS may be recharacterized as additional
capital gains or other taxable income. In the event of such
recharacterization, the Fund would not be required to make payments to such
shareholders to offset the tax effect of such reallocation. In addition, a
reallocation may cause the Fund to be liable for income tax and excise tax on
any reallocated taxable income. Brown & Wood LLP has advised the Fund that, in
its opinion, if the IRS were to challenge in court the Fund's allocations of
income and gain, the IRS would be unlikely to prevail. A holder should be
aware, however, that the opinion of Brown & Wood LLP represents only its best
legal judgment and is not binding on the IRS or the courts. In addition, a
similar reallocation could be made by the Pennsylvania (and/or Philadelphia)
Department of Revenue which would result in the taxation of such additional
capital gains or other taxable income for purposes of the Pennsylvania
personal and corporate net income taxes (and, possibly, the Philadelphia
School District investment income tax).
The Code subjects interest received on certain otherwise tax-exempt
securities to an alternative minimum tax. The alternative minimum tax will
apply to interest received on "private activity bonds" issued after August 7,
1986. Private activity bonds are bonds which, although tax-exempt, are used
for purposes other than those generally performed by governmental units and
which benefit non-governmental entities (e.g., bonds used for industrial
development or housing purposes). Income received on such bonds is classified
as an item of "tax preference" which could subject certain investors in such
bonds, including shareholders of the Fund, to an alternative minimum tax. The
Fund intends to purchase such "private activity bonds" and will report to
shareholders within 60 days after calendar year-end the portion of its
dividends declared during the year which constitutes an item of tax preference
for alternative minimum tax purposes. The Code further provides that
corporations are subject to an alternative minimum tax based, in part, on
certain differences between taxable income as adjusted for other tax
preferences and the corporation's "adjusted current earnings", which more
closely reflect a corporation's economic income. Because an exempt-interest
dividend paid by the Fund will be included in adjusted current earnings, a
corporate shareholder may be required to pay an alternative minimum tax on
exempt-interest dividends paid by the Fund.
The Fund may invest in instruments the return on which includes
nontraditional features such as indexed principal or interest payments
("nontraditional instruments"). These instruments may be subject to special
tax rules under which the Fund may be required to accrue and distribute income
before amounts due under the obligations are paid. In addition, it is possible
that all or a portion of the interest payments on such nontraditional
instruments could be recharacterized as taxable ordinary income.
If at any time when AMPS are outstanding the Fund does not meet the asset
coverage requirements of the 1940 Act, the Fund will be required to suspend
distributions to holders of common shares until the asset coverage is
restored. See "Description of AMPS--Dividends--Restrictions on Dividends and
Other Payments." This may prevent the Fund from distributing at least 90% of
its net income, and may, therefore, jeopardize the Fund's qualification for
taxation as a RIC. If the Fund were to fail to qualify as a RIC, some or all
of the distributions paid by the Fund would be fully taxable for Federal and
Pennsylvania income tax purposes. Upon any failure to meet the asset coverage
requirements of the 1940 Act, the Fund, in its sole discretion, may, and under
certain circumstances will be required to, redeem shares of AMPS in order to
maintain or restore the requisite asset coverage and avoid the adverse
consequences to the Fund and its shareholders of failing to qualify as a RIC.
See "Description of AMPS--Redemption." There can be no assurance, however,
that any such action would achieve such objectives.
32
<PAGE>
As noted above, the Fund must distribute annually at least 90% of its net
taxable and tax-exempt interest income. A distribution will only be counted for
this purpose if it qualifies for the dividends paid deduction under the Code.
Some types of preferred shares that the Fund currently contemplates issuing may
raise an issue as to whether distributions on such preferred shares are
"preferential" under the Code and therefore not eligible for the dividends paid
deduction. The Fund intends to issue preferred shares that counsel advises will
not result in the payment of a preferential dividend and may seek a private
letter ruling from the IRS to that effect. If the Fund ultimately relies solely
on a legal opinion when it issues such preferred shares, there is no assurance
that the IRS would agree that dividends on the preferred shares are not
preferential. If the IRS successfully disallowed the dividends paid deduction
for dividends on the preferred shares, the Fund could lose the benefit of the
special treatment afforded RICs under the Code. In this case, dividends paid by
the Fund would not be exempt from Federal and, possibly, Pennsylvania and
Philadelphia income taxes. Additionally, the Fund would be subject to the
alternative minimum tax.
Under certain Code provisions, some taxpayers may be subject to a 31%
withholding tax on certain ordinary income dividends and on capital gain
dividends and redemption payments ("backup withholding"). Generally,
shareholders subject to backup withholding will be those for whom no certified
taxpayer identification number is on file with the Fund or who, to the Fund's
knowledge, have furnished an incorrect number. When establishing an account, an
investor must certify under penalty of perjury that such number is correct and
that such investor is not otherwise subject to backup withholding.
Ordinary income dividends paid to shareholders who are nonresident aliens or
foreign entities will be subject to a 30% United States withholding tax under
existing provisions of the Code applicable to foreign individuals and entities
unless a reduced rate of withholding or a withholding exemption is provided
under applicable treaty law. Nonresident shareholders are urged to consult
their own tax advisers concerning the applicability of the United States
withholding tax.
The Code provides that every shareholder required to file a tax return must
include for information purposes on such return the amount of exempt-interest
dividends received from all sources (including the Fund) during the taxable
year.
Tax Treatment of Additional Dividends
If the Fund makes a Retroactive Taxable Allocation, it will pay Additional
Dividends to holders of AMPS who are subject to the Retroactive Taxable
Allocation. See "Description of AMPS--Dividends--Additional Dividends" in the
prospectus. The Federal income tax consequences of Additional Dividends under
existing law are uncertain. The Fund intends to treat a holder as receiving a
dividend distribution in the amount of any Additional Dividend only as and when
such Additional Dividend is paid. An Additional Dividend generally will be
designated by the Fund as an exempt-interest divided except as otherwise
required by applicable law. However, the IRS may assert that all or part of an
Additional Dividend is a taxable dividend either in the taxable year for which
the Retroactive Taxable Allocation is made or in the taxable year in which the
Additional Dividend is paid. A similar assertion by the Pennsylvania (and/or
Philadelphia) Department of Revenue would result in all or a part of such
Additional Dividend being taxable in such years for purposes of the
Pennsylvania personal and corporate net income taxes (and, possibly, the
Philadelphia School District investment income tax).
Tax Treatment of Options and Futures Transactions
The Fund may purchase or sell municipal bond index financial futures
contracts and interest rate financial futures contracts on U.S. Government
securities. The Fund may also purchase and write call and put options on such
financial futures contracts. In general, unless an election is available to the
Fund or an exception applies, such options and financial futures contracts that
are "Section 1256 contracts" will be "marked to market" for Federal income tax
purposes at the end of each taxable year, i.e., each such option or financial
futures contract will be treated as sold for its fair market value on the last
day of the taxable year, and any gain or loss attributable to Section 1256
contracts will be 60% long-term and 40% short-term capital gain or loss.
Application of these
33
<PAGE>
rules to Section 1256 contracts held by the Fund may alter the timing and
character of distributions to shareholders. The mark-to-market rules outlined
above, however, will not apply to certain transactions entered into by the Fund
solely to reduce the risk of changes in price or interest rates with respect to
its investments.
Code Section 1092, which applies to certain "straddles," may affect the
taxation of the Fund's sales of securities and transactions in financial
futures contracts and related options. Under Section 1092, the Fund may be
required to postpone recognition for tax purposes of losses incurred in certain
sales of securities and certain closing transactions in financial futures
contracts or the related options.
----------------
The foregoing is a general and abbreviated summary of the applicable
provisions of the Code and Treasury Regulations and Pennsylvania tax laws
presently in effect. For the complete provisions, reference should be made to
the pertinent Code sections, the Treasury Regulations promulgated thereunder
and Pennsylvania tax laws. The Code and the Treasury Regulations, as well as
the Pennsylvania tax laws, are subject to change by legislative, judicial or
administrative action either prospectively or retroactively.
Shareholders are urged to consult their tax advisers regarding specific
questions as to Federal, foreign, state or local taxes.
NET ASSET VALUE
Net asset value per common share is determined as of 15 minutes after the
close of business on the New York Stock Exchange (the "NYSE") (generally, the
NYSE closes at 4:00 p.m. Eastern time) on the last Business Day of each week.
For purposes of determining the net asset value of a common share, the value of
the securities held by the Fund plus any cash or other assets (including
interest accrued but not yet received) minus all liabilities (including accrued
expenses) and the aggregate liquidation value of the outstanding AMPS is
divided by the total number of common shares outstanding at such time.
Expenses, including the fees payable to the Investment Adviser, are accrued
daily.
The Pennsylvania Municipal Bonds and Municipal Bonds in which the Fund
invests are traded primarily in the over-the-counter markets. In determining
net asset value, the Fund utilizes the valuations of portfolio securities
furnished by a pricing service approved by the Board of Trustees. The pricing
service typically values portfolio securities at the bid price or the yield
equivalent when quotations are readily available. Pennsylvania Municipal Bonds
and Municipal Bonds for which quotations are not readily available are valued
at fair market value on a consistent basis as determined by the pricing service
using a matrix system to determine valuations. The procedures of the pricing
service and its valuations are reviewed by the officers of the Fund under the
general supervision of the Board of Trustees. The Board of Trustees has
determined in good faith that the use of a pricing service is a fair method of
determining the valuation of portfolio securities. Positions in futures
contracts are valued at closing prices for such contracts established by the
exchange on which they are traded, or if market quotations are not readily
available, are valued at fair value on a consistent basis using methods
determined in good faith by the Board of Trustees.
The Fund determines and makes available for publication the net asset value
of its common shares weekly. Currently, the net asset values of shares of
publicly traded closed-end investment companies investing in debt securities
are published in Barron's, the Monday edition of The Wall Street Journal, and
the Monday and Saturday editions of The New York Times.
34
<PAGE>
ADDITIONAL INFORMATION
The Fund is subject to the informational requirements of the Securities
Exchange Act of 1934 and the 1940 Act and in accordance therewith is required
to file reports, proxy statements and other information with the Commission.
Any such reports, proxy statements and other information can be inspected and
copied at the public reference facilities of the Commission at Room 1024,
Judiciary Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549, and at the
following regional offices of the Commission: Regional Office, at Seven World
Trade Center, Suite 1300, New York, New York 10048; Pacific Regional Office, at
5670 Wilshire Boulevard, 11th Floor, Los Angeles, California 90036; and Midwest
Regional Office, at Northwestern Atrium Center, 500 West Madison Street, Suite
1400, Chicago, Illinois 60661-2511. Copies of such materials can be obtained
from the public reference section of the Commission at 450 Fifth Street, N.W.,
Washington, D.C. 20549, at prescribed rates. The Commission maintains a Web
site at http://www.sec.gov containing reports, proxy and information statements
and other information regarding registrants, including the Fund, that file
electronically with the Commission. Reports, proxy statements and other
information concerning the Fund can also be inspected at the offices of the New
York Stock Exchange, 20 Broad Street, New York, New York 10005.
Additional information regarding the Fund and the AMPS is contained in the
Registration Statement on Form N-2, including amendments, exhibits and
schedules thereto, relating to such shares filed by the Fund with the
Commission in Washington, D.C. This statement of additional information and the
Prospectus do not contain all of the information set forth in the Registration
Statement, including any amendments, exhibits and schedules thereto. For
further information with respect to the Fund and the shares offered hereby,
reference is made to the Registration Statement. Statements contained in this
statement of additional information and the Prospectus as to the contents of
any contract or other document 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, each such statement being
qualified in all respects by such reference. A copy of the Registration
Statement may be inspected without charge at the Commission's principal office
in Washington, D.C., and copies of all or any part thereof may be obtained from
the Commission upon the payment of certain fees prescribed by the Commission.
35
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Trustees and Shareholder,
MuniHoldings Pennsylvania Insured Fund
We have audited the accompanying statement of assets, liabilities and capital
of MuniHoldings Pennsylvania Insured Fund as of January 13, 1999. 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, the statement of assets, liabilities and capital presents
fairly, in all material respects, the financial position of MuniHoldings
Pennsylvania Insured Fund as of January 13, 1999, in conformity with generally
accepted accounting principles.
Deloitte & Touche LLP
Princeton, New Jersey
January 21, 1999
36
<PAGE>
MuniHoldings Pennsylvania Insured Fund
Statement of Assets, Liabilities and Capital
January 13, 1999
<TABLE>
<S> <C>
ASSETS
Cash................................................................ $100,005
Offering costs (Note 1)............................................. 139,000
--------
Total assets...................................................... 239,005
Less liabilities and accrued expenses (Note 1)...................... 139,000
--------
NET ASSETS............................................................ $100,005
========
CAPITAL
Common Shares, par value $.10 per share; unlimited shares
authorized; 6,667 shares issued and outstanding (Note 1)........... $ 667
Paid-in Capital in excess of par.................................... 99,338
--------
Total Capital-Equivalent to $15.00 net asset value per Common Share
(Note 1)........................................................... $100,005
========
</TABLE>
Notes to Financial Statements
Note 1. Organization
The Fund was organized under the laws of the Commonwealth of Massachusetts
on December 3, 1998 as a closed-end, non-diversified management investment
company and has had no operations other than the sale to Fund Asset
Management, L.P. (the "Investment Adviser") of an aggregate of 6,667 Common
Shares for $100,005 on January 13, 1999. The General Partner of the Investment
Adviser is an indirectly wholly owned subsidiary of Merrill Lynch & Co., Inc.
The Investment Adviser, on behalf of the Fund, will incur organization costs
estimated at $11,250. Direct costs relating to the public offering of the
Fund's shares will be charged to capital at the time of issuance of shares.
Note 2. Management Arrangements
The Fund has engaged the Investment Adviser to provide investment advisory
and management services to the Fund. The Investment Adviser will receive a
monthly fee, at an annual rate of 0.55 of 1% of the average weekly net assets
of the Fund, including any proceeds from the issuance of Preferred Shares. The
Investment Adviser or an affiliate will pay Merrill Lynch, Pierce, Fenner &
Smith Incorporated a commission in the amount of 2.00% of the price to the
public per share in connection with the initial public offering of the Fund's
Common Shares.
Note 3. Federal Income Taxes
The Fund intends to qualify as a "regulated investment company" and as such
(and by complying with the applicable provisions of the Internal Revenue Code
of 1986, as amended) will not be subject to Federal income tax on taxable
income (including realized capital gains) that is distributed to shareholders.
37
<PAGE>
MUNIHOLDINGS PENNSYLVANIA INSURED FUND
SCHEDULE OF INVESTMENTS (Unaudited)
FEBRUARY 26, 1999
(in Thousands)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
S&P Moody's Face Value
Ratings Ratings Amount Issue (Note 1a)
- -------------------------------------------------------------------------------
Pennsylvania--72.7% ---
- -------------------------------------------------------------------------------
<C> <C> <C> <S> <C> <C> <C>
NR* Aaa $4,000 Delaware County, Pennsylvania, $ 3,915
University Authority Revenue
Bonds (Villanova University),
Series A, 5% due 12/01/2028(d)
- -------------------------------------------------------------------------------
AAA Aaa 3,000 Lancaster County, Pennsylvania, 3,118
Solid Waste Management Authority,
Resource Recovery Revenue
Refunding Bonds, Series B, 5.375%
due 12/15/2015(a)
- -------------------------------------------------------------------------------
AAA Aaa 2,500 Pennsylvania State Higher 2,416
Educational Facilities
Authorities Revenue Bonds (UPMC
Health System), Series A, 5% due
8/01/2029(c)
- -------------------------------------------------------------------------------
AAA NR* 1,300 Pennsylvania State Public School 1,281
Building Authority, School
Revenue Refunding Bonds (Pittston
Area School District), Series P,
5% due 7/15/2021(c)
- -------------------------------------------------------------------------------
AAA Aaa 2,500 Pennsylvania State Turnpike 2,365
Commission, Oil Franchise Tax
Revenue Bonds, Senior Series A,
4.75% due 12/01/2027(a)
- -------------------------------------------------------------------------------
AAA Aaa 3,000 Philadelphia, Pennsylvania, 2,940
Authority for Industrial
Development, Airport Revenue
Bonds (Philadelphia Airport
System Project), AMT, Series A,
5.125% due 7/01/2028(b)
- -------------------------------------------------------------------------------
AA Aaa 2,500 Philadelphia, Pennsylvania, GO, 2,447
5% due 3/15/2028(c)
Total Investments (Cost--$20,421)--72.7% 20,440
Other Assets Less Liabilities--27.3% 7,675
-------
Net Assets--100% $28,115
=======
</TABLE>
- --------------------------------------------------------------------------------
AA Aaa 2,000 Philadelphia, Pennsylvania, Gas 1,958
Works Revenue Bonds, First Series
B, 5% due 7/01/2028(c)
- --------------------------------------------------------------------------------
(a) AMBAC Insured.
(b) FGIC Insured.
(c) FSA Insured.
(d) MBIA Insured.
* Not Rated.
Portfolio
Abbreviations
To simplify the listings of MuniHoldings Pennsylvania Insured
Fund's portfolio holdings in the Schedule of Investments, we have
abbreviated the names of many of the securities according to the
list below.
AMTAlternative Minimum Tax (subject to)
GOGeneral Obligation Bonds
See Notes to Financial Statements.
38
<PAGE>
MUNIHOLDINGS PENNSYLVANIA INSURED FUND
STATEMENT OF ASSETS, LIABILITIES AND CAPITAL
As of February 26, 1999 (Unaudited)
<TABLE>
<S> <C> <C>
Assets:
Investments, at value (identified cost--$20,421,459)
(Note 1a)............................................ $20,440,069
Cash.................................................. 100,005
Receivables:
Beneficial interest sold............................ $28,125,000
Interest............................................ 212,590
Investment adviser (Note 2)......................... 1,041 28,338,631
-----------
Other assets.......................................... 18,250
-----------
Total assets.......................................... 48,896,955
-----------
Liabilities:
Payable for securities purchased...................... 20,634,040
Accrued expenses and other liabilities................ 147,518
-----------
Total liabilities..................................... 20,781,558
-----------
Net Assets:
Net assets............................................ $28,115,397
===========
Capital:
Capital Shares (unlimited number of shares of
beneficial interest authorized) (Note 4):
Common Shares, par value $.10 per share (1,881,667
shares issued and outstanding)..................... $ 188,167
Paid-in capital in excess of par...................... 27,908,611
Undistributed investment income--net.................. 9
Unrealized appreciation on investments--net........... 18,610
-----------
Total capital--Equivalent to $14.94 net asset value
per Common Share..................................... $28,115,397
===========
</TABLE>
See Notes to Financial Statements.
39
<PAGE>
MUNIHOLDINGS PENNSYLVANIA INSURED FUND
Notes to Financial Statements (Unaudited)
1. Significant Accounting Policies:
MuniHoldings Pennsylvania Insured Fund (the "Fund") is registered under the
Investment Company Act of 1940 as a non-diversified, closed-end management
investment company. Prior to commencement of operations on February 26, 1999
the Fund had no operations other than those relating to organizational matters
and the sale of 6,667 Common Shares on January 13, 1999, to Fund Asset
Management, L.P. ("FAM") for $100,005. The Fund determines and makes available
for publication the net asset value of its Common Shares on a weekly basis.
The Fund's Common Shares are listed on the American Stock Exchange under the
symbol MPI. The Fund's financial statements are prepared in accordance with
generally accepted accounting principles which may require the use of
management accrual and estimates. The following is a summary of significant
accounting policies followed by the Fund.
(a) Valuation of investments--Municipal bonds are traded primarily in the
over-the-counter markets and are valued at the most recent bid price or yield
equivalent as obtained by the Fund's pricing service from dealers that make
markets in such securities. Financial futures contracts and options thereon,
which are traded on exchanges, are valued at their closing prices as of the
close of such exchanges. Options, which are traded on exchanges, are valued at
their last sale price as of the close of such exchanges or, lacking any sales,
at the last available bid price. Securities with remaining maturities of sixty
days or less are valued at amortized cost, which approximates market value.
Securities and assets for which market quotations are not readily available
are valued at fair value as determined in good faith by or under the direction
of the Board of Trustees of the Fund, including valuations furnished by a
pricing service retained by the Fund, which may utilize a matrix system for
valuations. The procedures of the pricing service and its valuations are
reviewed by the officers of the Fund under the general supervision of the
Board of Trustees.
(b) Derivative financial instruments--The Fund may engage in various
portfolio strategies to seek to increase its return by hedging its portfolio
against adverse movements in the debt markets. Losses may arise due to changes
in the value of the contract or if the counterparty does not perform under the
contract.
. Financial futures contracts--The Fund may purchase or sell financial
futures contracts and options on such futures contracts for the purpose
of hedging the market risk on existing securities or the intended
purchase of securities. Futures contracts are contracts for delayed
delivery of securities at a specific future date and at a specific price
or yield. Upon entering into a contract, the Fund deposits and maintains
as collateral such initial margin as required by the exchange on which
the transaction is effected. Pursuant to the contract, the Fund agrees to
receive from or pay to the broker an amount of cash equal to the daily
fluctuation in value of the contract. Such receipts or payments are known
as variation margin and are recorded by the Fund as unrealized gains or
losses. When the contract is closed, the Fund records a realized gain or
loss equal to the difference between the value of the contract at the
time it was opened and the value at the time it was closed.
. Options--The Fund is authorized to write covered call options and
purchase call and put options. When the Fund writes an option, an amount
equal to the premium received by the Fund is reflected as an asset and an
equivalent liability. The amount of the liability is subsequently marked
to market to reflect the current market value of the option written. When
a security is purchased or sold through an exercise of an option, the
related premium paid (or received) is added to (or deducted from) the
basis of the security acquired or deducted from (or added to) the
proceeds of the security sold. When an option expires (or the Fund enters
into a closing transaction), the Fund realizes a gain or loss on the
option to the extent of the premiums received or paid (or gain or loss to
the extent the cost of the closing transaction exceeds the premium paid
or received).
Written and purchased options are non-income producing investments.
(c) Income taxes--It is the Fund's policy to comply with the requirements of
the Internal Revenue Code applicable to regulated investment companies and to
distribute substantially all of its taxable income to its shareholders.
Therefore, no Federal income tax provision is required.
40
<PAGE>
MUNIHOLDINGS PENNSYLVANIA INSURED FUND
Notes to Financial Statements (Unaudited)
(d) Security transactions and investment income--Security transactions are
recorded on the dates the transactions are entered into (the trade dates).
Interest income is recognized on the accrual basis. Discounts and market
premiums are amortized into interest income. Realized gains and losses on
security transactions are determined on the identified cost basis.
(e) Deferred organization and offering expenses--Deferred organization
expenses are amortized on a straight-line basis over a period not exceeding
five years. In accordance with Statement of Position 98-5, any unamortized
organization expenses will be expensed on the first day of the next fiscal
year beginning after December 15, 1998. This charge will not have any material
impact on the operations of the Fund. Direct expenses relating to the public
offering of the Fund's common shares were charged to capital at the time of
issuance of the shares.
(f) Dividends and distributions--Dividends from net investment income are
declared and paid monthly. Distributions of capital gains are recorded on the
ex-dividend dates.
2. Investment Advisory Agreement and Transactions with Affiliates:
The Fund has entered into an Investment Advisory Agreement with FAM. The
general partner of FAM is Princeton Services, Inc. ("PSI"), an indirect
wholly-owned subsidiary of Merrill Lynch & Co., Inc. ("ML & Co."), which is
the limited partner.
FAM is responsible for the management of the Fund's portfolio and provides
the necessary personnel, facilities, equipment and certain other services
necessary to the operations of the Fund. For such services, the Fund pays a
monthly fee at an annual rate of 0.55% of the Fund's average weekly net assets
including proceeds from the sale of preferred shares. For the period ended
February 26, 1999, FAM earned fees of $1,276, all of which was voluntarily
waived. FAM also reimbursed the Fund additional expenses of $1,041.
Accounting services are provided to the Fund by FAM at cost.
Certain officers and/or Trustees of the Fund are officers and/or directors
of FAM, PSI, and/or ML & Co.
3. Investments:
Purchases of investments, excluding short-term securities, for the period
ended February 26, 1999 were $20,421,459. There were no long-term sales.
Net unrealized gains for the period ended February 26, 1999 were as follows:
<TABLE>
<CAPTION>
Unrealized
Gains
----------
<S> <C>
Long-term investments............. $18,610
-------
Total............................. $18,610
=======
</TABLE>
As of February 26, 1999, net unrealized appreciation for Federal income tax
purposes aggregated $18,610, of which $47,898 related to appreciated
securities and $29,288 related to depreciated securities. The aggregate cost
of investments at February 26, 1999 for Federal income tax purposes was
$20,421,459.
41
<PAGE>
MUNIHOLDINGS PENNSYLVANIA INSURED FUND
Notes to Financial Statements (Unaudited)--(Concluded)
4. Beneficial Interest Transactions:
The Fund is authorized to issue an unlimited number of Common Shares and
1,000,000 Preferred Shares, par value $.10 per share, all of which were
initially classified as Common Shares. The Board of Trustees is authorized,
however, to reclassify any unissued shares of capital without approval of
holders of Common Shares.
Common Shares
Shares issued and outstanding during the period ended February 26, 1999
increased by 1,875,000 as a result of the initial offering.
5. General:
As of February 26, 1999, the Fund had only one day of investment operations
and had not yet declared dividends (whereas it will ordinarily do so on a
monthly basis). As a result, the Fund believes that more extensive interim
financial statements would not be indicative of the Fund's current and ongoing
operations. The Fund believes that such financial statements may be misleading
to potential investors and, accordingly, believes that inclusion of such
financial statements would be inappropriate. For the period ended February 26,
1999, the Fund had net investment income of $9.00. FAM voluntarily waived all
expenses.
42
<PAGE>
APPENDIX A
ECONOMIC AND FINANCIAL CONDITIONS IN PENNSYLVANIA
The following information is a brief summary of factors affecting the
economy of the Commonwealth of Pennsylvania and does not purport to be a
complete description of such factors. Other factors will affect issuers. The
summary is based upon one or more of the most recent publicly available
offering statements relating to debt offerings of Pennsylvania issuers. The
Fund has not independently verified the information.
Many factors affect the financial condition of the Commonwealth of
Pennsylvania (also referred to herein as the "Commonwealth") and its political
subdivisions, such as social, environmental and economic conditions, many of
which are not within the control of such entities. Pennsylvania and certain of
its counties, cities and school districts and public bodies (most notably the
City of Philadelphia, sometimes referred to herein as the "City") have from
time to time in the past encountered financial difficulties which have
adversely affected their respective credit standings. Such difficulties could
affect outstanding obligations of such entities, including obligations held by
the Fund.
The General Fund, the Commonwealth's largest fund, receives all tax
revenues, non-tax revenues and Federal grants and entitlements that are not
specified by law to be deposited elsewhere. The majority of the Commonwealth's
operating and administrative expenses are payable from the General Fund. Debt
service on all bonded indebtedness of the Commonwealth, except that issued for
highway purposes or for the benefit of other special revenue funds, is payable
from the General Fund.
The period from fiscal year 1993 through fiscal 1997 was a time of steady,
modest economic growth and low rates of inflation. These economic conditions,
together with tax reductions in the several years following the tax rate
increases and tax base expansions enacted in fiscal 1991 for the General Fund,
produced tax revenue gains averaging 4.1% per year during the period. Total
revenues during the same period increased at a 4.7% average rate.
Intergovernmental revenue recorded the largest percentage gain during this
period, averaging 8.1% (due, in part, to an accounting change). Expenditures
and other uses during the fiscal 1993 through fiscal 1997 period rose at a
3.8% rate, led by and average 13.8% annual increase for protection of persons
and property program costs. This high rate of increase reflects the costs to
acquire, staff and operate expanded prison facilities to house a larger prison
population. Public health and welfare program costs expanded an average 5.4%
annually during this period, the second largest rate of increase for program
categories.
The fund balance at June 30, 1997 (determined on a "Generally Accepted
Accounting Principals" basis) totaled $1,364.9 million, a $729.7 million
increase over the $635.2 million balance at June 30, 1996.
The unappropriated balance of Commonwealth revenues increased during the
1997 fiscal year by $432.9 million to $591.4 million (prior to reserves for
transfer to the Tax Stabilization Reserve Fund) at the close of the fiscal
year. Higher than estimated revenues and slightly lower expenditures than
budgeted caused the increase. Transfers to the Tax Stabilization Reserve Fund
for fiscal 1997 operations were $88.7 million representing the normal fifteen
percent of the ending unappropriated balance, plus an additional $100 million
authorized by the General Assembly when it enacted the fiscal 1998 budget.
Commonwealth revenues (prior to tax refunds) during the fiscal year totaled
$17,320.6 million, $576.1 million (3.4%) above the estimate made at the time
the budget was enacted. Revenue from taxes was the largest contributor to
higher than estimated receipts. Tax revenue in fiscal 1997 grew 6.1% over tax
revenues in fiscal 1996. This rate of increase was not adjusted for legislated
tax reductions that affected receipts during both of those fiscal years and
therefore understates the actual underlying rate of growth of tax revenue
during fiscal 1997. Non-tax revenues were $19.8 million (5.8%) over estimate
mostly due to higher than anticipated interest earnings.
Expenditures from Commonwealth revenues (excluding pooled financing
expenditures) during fiscal 1997 totaled $16,347.7 million and were close to
the estimate made in February 1997 with the presentation of the Governor's
fiscal 1998 budget request. Total expenditures represent an increase over
fiscal 1996 expenditures of
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1.7%. Lapses of appropriation authority during the fiscal year totaled $200.6
million compared to an estimate of $100 million. The higher amount of
appropriation lapses was used to support $79.8 million in fiscal 1997
supplemental appropriations over the February 1997 estimate. Supplemental
appropriations for fiscal 1997 totaled $169.3 million.
For GAAP purposes, assets increased $563.4 million and liabilities declined
$166.3 million to produce a $729.7 million increase in the fund balance at
June 30, 1997. Total revenues and other sources rose 3.5% for fiscal 1997. An
increase of 5.5% in tax revenue aided by an improving state economy was
partially offset by a $175.2 million decline in intergovernmental revenues.
Expenditures and other uses increased by 1% for this fiscal year.
Operations during the 1998 fiscal year increased the unappropriated balance
of Commonwealth revenues during that period by $86.4 million to $488.7 million
at June 30, 1998 (prior to reserves for transfer to the Tax Stabilization
Reserve Fund). Higher than estimated revenues, offset in part by increased
reserves for tax refunds, and slightly lower expenditures than budgeted were
responsible for the increase. Transfers to the Tax Stabilization Reserve Fund
for fiscal 1998 operations will total $223.3 million consisting of $73.3
million representing the required transfer of fifteen percent of the ending
unappropriated surplus balance, plus an additional $150 million authorized by
the General Assembly when it enacted the fiscal 1999 budget. With these
transfers, the balance in the Tax Stabilization Reserve Fund will exceed $664
million and represent 3.7% of fiscal 1998 revenues.
Commonwealth revenues (prior to tax refunds) during the fiscal year totaled
$18,123.2 million, $676.1 million (3.9%) above the estimate made at the time
the budget was enacted. Tax revenue received in fiscal 1998 grew 4.8% over tax
revenues received during fiscal 1997. This rate of increase includes the
effect of legislated tax reductions that affected receipts during both fiscal
years and therefore understates the actual underlying rate of growth of tax
revenue during fiscal 1998. Receipts from the personal income tax produced the
largest single component of higher revenues during fiscal 1998.
Expenditures from all fiscal 1998 appropriations of Commonwealth revenues
totaled $17,229.8 million (excluding pooled financing expenditures and net of
current year lapses). This amount represents an increase of 4.5% over fiscal
1997 appropriation expenditures. Lapses of appropriation authority during the
fiscal year totaled $161.8 million including $58.8 million from fiscal 1998
appropriations. These appropriation lapses were used to fund $120.5 million of
supplemental fiscal 1998 appropriations.
Reserves established during fiscal 1998 for tax refunds totaled $910
million. This amount is a $370 million increase over tax refund reserves for
fiscal 1997 representing an increase of 68.5%. The fiscal 1998 amount includes
a one-time addition intended to fund all fiscal 1998 tax refund liabilities,
including that portion to be paid during fiscal 1999. In prior fiscal years,
tax refunds generally were budgeted for the year in which the disbursement was
anticipated to occur. This change in the recognition of tax refund liabilities
on a budgetary basis is expected to reduce the difference between the
budgetary basis unappropriated balance and the GAAP basis unreserved and
undesignated balance (when computed) for the 1998 fiscal year.
The budget for fiscal 1999 was enacted in April 1998 at which time the
official revenue estimate for the 1999 fiscal year was established at
$18,456.6 million. The estimate was reduced by 1.1 million in November 1998
due to passage of tax legislation. Only Commonwealth funds are included in the
official revenue estimate. The official revenue estimate is based on an
economic forecast for national gross domestic product, on a year-over-year
basis, to slow from an estimated annualized 3.9% rate in the fourth quarter of
1997 to a projected 1.8% annualized growth rate by the second quarter of 1999.
The forecast of slowing economic activity is based on the expectation that
consumers will reduce their pace of spending, particularly on motor vehicles,
housing and other durable goods. Business is also expected to trim its
spending on fixed investments. Foreign demand for domestic goods is expected
to decline in reaction to economic difficulties in Asia and Latin America,
while an economic recovery in Europe is expected to proceed slowly. The
underlying growth rate, excluding any effect of scheduled or proposed tax
changes, for the General Fund fiscal 1999 official revenue estimate is 3.0%
over
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actual fiscal 1998 revenues. When adjusted to include the estimated effect of
enacted tax changes, fiscal 1999 Commonwealth revenues are projected to
increase by 1.66% over actual Commonwealth revenues for fiscal 1998.
Tax reductions included in the enacted 1999 fiscal year budget totaled an
estimated $241.0 million for fiscal 1999. The major tax changes were enacted
with January 1, 1998 effective dates. Consequently, the first year's cost of
these changes may be above the expected annualized cost.
Reserves for tax refunds for fiscal 1999 total $603.9 million. This amount
includes $33.1 million of tax refunds anticipated to be due to the enacted
fiscal 1999 tax changes and included in the estimated cost of those changes.
Reserves for tax refunds for fiscal 1999 are $306.1 million below the reserve
established for fiscal 1998. The fiscal 1998 amount (described above) includes
a one-time addition intended to fund all fiscal 1998 tax refund liabilities,
including that portion to be paid during fiscal 1999. Without the necessity to
pay fiscal 1998 tax refund liabilities from fiscal 1999 reserves, the fiscal
1999 reserve need only be in an amount equal to the estimated fiscal 1999
estimate for tax refund liabilities.
Appropriations enacted for fiscal 1999 are 4.1% ($705.1 million) above the
appropriations enacted for fiscal 1998 (including supplemental
appropriations).
The enacted fiscal 1999 budget assumes the drawn down of the $265.4 million
beginning budgetary balance by $143.9 million to an estimated closing balance,
prior to transfer of the required portion to the Tax Stabilization Reserve
Fund, of $124.3 million. The amount of the anticipated drawn down does not
consider the availability of appropriation lapses normally occurring during a
fiscal year that are used to fund supplemental appropriations or increase
unappropriated surplus.
For the fiscal year through October 1998, Commonwealth revenues were $69.2
million (1.3%) above estimate.
On February 2, 1999, Pennsylvania Governor Ridge presented a proposed $18.6
billion General Fund budget which includes, among other things, proposed tax
reductions (relating principally to business taxes) totalling an estimated
$273 million.
Pennsylvania has historically been identified as a heavy industry state
although that reputation has changed over the last thirty years as the coal,
steel and railroad industries declined and the Commonwealth's business
environment readjusted to reflect a more diversified industrial base. This
economic readjustment was a direct result of a long-term shift in jobs,
investment and workers away from the northeast part of the nation. Currently,
the major sources of growth in Pennsylvania are in the service sector,
including trade, medical and the health services, education and financial
institutions.
Nonagricultural employment in Pennsylvania over the ten year period that
ended in 1997 increased at an annual rate of 0.76%. This compares to a 0.17%
rate for the Middle Atlantic region and a 1.69% rate for the United States as
a whole during the period 1988 through 1997. For the five years ended with
1997, employment in the Commonwealth has increased 5.4%. The growth in
employment during this period is higher than the 4.8% growth in the Middle
Atlantic region. The unemployment rate in Pennsylvania for October 1998 stood
at a seasonably adjusted rate of 4.7%. The seasonably adjusted national
unemployment rate for October 1998 was 4.6%.
The current Constitutional provisions pertaining to Commonwealth debt permit
the issuance of the following types of debt: (i) debt to suppress insurrection
or rehabilitate areas affected by disaster, (ii) electorate-approved debt,
(iii) debt for capital projects subject to an aggregate debt limit of 1.75
times the annual average tax revenues of the preceding five fiscal years and
(iv) tax anticipation notes payable in the fiscal year of issuance. All debt
except tax anticipation notes must be amortized in substantial and regular
amounts.
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Debt service on all bonded indebtedness of Pennsylvania, except that issued
for highway purposes or the benefit of other special revenue funds, is payable
from Pennsylvania's General Fund, which receives all Commonwealth revenues
that are not specified by law to be deposited elsewhere. As of June 30, 1998,
the Commonwealth had $4,724.5 million of general obligation debt outstanding.
Other state-related obligations include "moral obligations." Moral
obligation indebtedness may be issued by the Pennsylvania Housing Finance
Agency (the "PHFA"), a state-created agency which provides financing for
housing for lower and moderate income families, and The Hospitals and Higher
Education Facilities Authority of Philadelphia, a municipal authority
organized by the City of Philadelphia to, among other things, acquire and
prepare various sites for use as intermediate care facilities for the mentally
retarded. PHFA's bonds, but not its notes, are partially secured by a capital
reserve fund required to be maintained by PHFA in an amount equal to the
maximum annual debt service on its outstanding bonds in any succeeding
calendar year. PHFA is not permitted to borrow additional funds as long as any
deficiency exists in the capital reserve fund.
The Commonwealth, through several of its departments and agencies, has
entered into various agreements to lease, as lessee, certain real property and
equipment, and to make lease payments for the use of such property and
equipment. Some of those leases and their respective lease payments are, with
the Commonwealth's approval, pledged as security for debt obligations issued
by certain public authorities or other entities within the state. All lease
payments due from Commonwealth departments and agencies are subject to and
dependent upon an annual spending authorization approved through the
Commonwealth's annual budget process. The Commonwealth is not required by law
to appropriate or otherwise provide monies from which the lease payments are
to be made. The obligations to be paid from such lease payments are not bonded
debt of the Commonwealth.
Certain Commonwealth-created organizations have statutory authorization to
issue debt for which Commonwealth appropriations to pay debt service thereon
are not required. The debt of these agencies is funded by assets of, or
revenues derived from, the various projects financed and is not a statutory or
moral obligation of the Commonwealth. Some of these agencies, however, are
indirectly dependent on Commonwealth operating appropriations. In addition,
the Commonwealth may choose to take action to financially assist these
organizations. The Commonwealth also maintains pension plans covering all
state employees, public school employees and employees of certain state-
related organizations.
The City of Philadelphia is the largest city in the Commonwealth with an
estimated population of 1,585,577 according to the 1990 Census. Legislation
providing for the establishment of Pennsylvania Intergovernmental Cooperation
Authority (the "PICA") to assist Philadelphia in remedying fiscal emergencies
was enacted by the Pennsylvania General Assembly and approved by the Governor
in June 1991. PICA is designed to provide assistance through the issuance of
funding debt and to make factual findings and recommendations to Philadelphia
concerning its budgetary and fiscal affairs. At this time, Philadelphia is
operating under a five year fiscal plan approved by PICA on June 9, 1998.
PICA has issued $1.76 billion of its Special Tax Revenue Bonds. This
financial assistance has included the refunding of certain city general
obligation bonds, funding of capital projects and the liquidation of the
cumulative General Fund balance deficit as of June 30, 1992 of $224.9 million.
The audited General Fund balance of Philadelphia as of June 30, 1997 shows a
surplus of approximately $128.8 million.
No further bonds are to be issued by PICA for the purpose of financing a
capital project or deficit as the authority for such bond sales expired
December 31, 1994. PICA's authority to issue debt for the purpose of financing
a cash flow deficit expired on December 31, 1996. Its ability to refund
existing outstanding debt is unrestricted. PICA had $1,055 million in Special
Revenue bonds outstanding as of June 30, 1998.
There is various litigation pending against the Commonwealth, its officers
and employees. In 1978, the Pennsylvania General Assembly approved a limited
waiver of sovereign immunity. Damages for any loss are limited to $250,000 for
each person and $1 million for each accident. The Supreme Court held that this
limitation is constitutional. Approximately 3,500 suits against the
Commonwealth are pending.
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The following are among the cases with respect to which the Office of
Attorney General and the Office of General Counsel have determined that an
adverse decision may have a material effect on government operations of the
Commonwealth:
Baby Neal v. Commonwealth, et al.
In 1990, the American Civil Liberties Union and other various named
plaintiffs filed an action against the Commonwealth, the City of Philadelphia
and others in federal court seeking an order that, among other things, would
require the Commonwealth to provide additional funding for child welfare
services. No figures for the amount of funding sought are available. A similar
lawsuit filed in the Commonwealth Court of Pennsylvania was resolved through a
court approved settlement which provides, among other things, for more
Commonwealth funding for such services in fiscal year 1991 and a commitment to
pay Pennsylvania counties $30 million over five years. The Commonwealth sought
dismissal of the federal action based, among other things, on the settlement
of the Commonwealth Court case. In December 1994, the Third Circuit Court of
Appeals reversed the District Court's denial of the plaintiff's motion for
class certification. As a result, the District Court has recently certified
the class and the parties have resumed discovery. In July 1998, the plaintiffs
entered into a settlement agreement with the City of Philadelphia and related
parties and submitted the agreement to the district court for approval. The
district court has preliminarily approved the settlement. Recently, the
remaining parties, including the Commonwealth, have agreed to settle the
claims made against them. The Commonwealth has agreed to pay $100,000 to
settle plaintiffs' $1.4 million claim for attorneys' fees and to take other
actions in exchange for a full and final release and dismissal of the case
against the Commonwealth parties. The settlement has been presented to the
court for approval, and the court has scheduled a hearing for February 1999.
County of Allegheny v. Commonwealth of Pennsylvania
On December 7, 1987, the Supreme Court of Pennsylvania held that the
statutory scheme for county funding of the judicial system is in conflict with
the Pennsylvania Constitution. However, judgment was stayed in order to afford
the General Assembly an opportunity to enact appropriate funding legislation
consistent with its opinion. On December 7, 1992, the State Association of
County Commissioners filed a new action in mandamus seeking to compel the
Commonwealth to comply with the Supreme Court's decision in County of
Allegheny. The Court in Pennsylvania State Association of County Commissioners
v. Commonwealth of Pennsylvania issued the writ on July 26, 1996, and
appointed a special master to devise and submit a plan for implementation.
Following the issuance of the writ, the President Pro Tempore of the Senate
and the Speaker of the House filed a petition seeking reconsideration from the
Court. The Court has not acted on the petition. On January 28, 1997, the
Supreme Court granted an extension of time within which the special master
must file his report and announced the establishment of a committee comprised
of members of the Executive Department, the Legislative Department and the
special master, to develop an implementation plan. On July 26, 1997, the
"Interim Report of the Master" was filed setting forth a state funding
proposal. Numerous objections to the report were filed, but the Court has
taken no action on them.
On April 22, 1998, the Pennsylvania General Assembly enacted legislation
appropriating approximately $12 million to the Supreme Court for the purpose
of funding county court administrators. The appropriation was designed to
enable the Commonwealth to implement Phase I of the special master's plan.
However, the legislation also provides that no funds from the appropriation
may be expended until legislation has been approved by the General Assembly
providing for the payment of Commonwealth compensation of county court
administrators. Because no such legislation has yet been enacted, the $12
million appropriated to the Judicial Department cannot be used.
On May 11, 1998, the Administrative Governing Board of the First Judicial
District (comprising the Court of Common Pleas of Philadelphia, the
Philadelphia Municipal Court, and the Traffic Court of Philadelphia) filed an
action in mandamus in the Commonwealth Court of Pennsylvania against the City
of Philadelphia and several City officials, claiming that the City government
had failed to provide adequate funds for the operation of the
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courts of the First Judicial District. The petitioners have demanded that the
court order the City of Philadelphia to disburse all funds reasonably
necessary for the continued operation of the courts during fiscal year 1998-99
in an amount totaling at least $110 million. The case is captioned Alex
Bonavitacola, et al. v. Edward G. Rendell, et al.
Also on May 11, 1998, the City of Philadelphia and related respondents in
Bonavitacola filed a complaint joining the Commonwealth of Pennsylvania, the
General Assembly and its elected leadership as additional respondents. In
their complaint, the City respondents assert that under the Supreme Court's
order issued July 26, 1996 in Pa. State Ass'n of County Commissioners v.
Commonwealth of Pennsylvania, the General Assembly was obligated to enact a
funding scheme for a unified court system no later than January 1, 1998.
Because the General Assembly has not done so, the City respondents allege, the
Commonwealth has failed to comply with the Supreme Court's order. Thus, the
City respondents have requested Commonwealth Court to require the General
Assembly to comply with the Supreme Court's mandamus order and to order the
Commonwealth to pay whatever sums are necessary to fund the cost of operating
the courts in fiscal 1998-99. The First Judicial District Governing Board
joined in the City respondents' request as an alternative to its demanded
relief against the City defendants.
On July 15, 1998, the Supreme Court of Pennsylvania assumed extraordinary
jurisdiction over the case and directed Commonwealth Court, on an expedited
basis, to prepare proposed findings of fact and conclusions of law. Acting
pursuant to the Supreme Court's June 15, 1998 order, President Judge James
Gardner Colins of Commonwealth Court on June 17, 1998 issued findings of fact,
conclusions of law and a proposed order. In his proposed order, President
Judge Colins recommended that the Supreme Court order the President of the
Philadelphia Council immediately to introduce legislation to fund the courts
of the First Judicial District for fiscal year 1998-99 and to take all
necessary steps to ensure its passage. President Judge Colins also recommended
that the Supreme Court order the General Assembly to pass legislation, prior
to June 30, 1999, to fund the entire state judicial system. By order entered
June 23, 1998, Commonwealth Court forwarded its findings of fact and
conclusions of law and proposed order to the Supreme Court for final
disposition. The Commonwealth and the General Assembly have objected to
President Judge Colins' proposed order.
Subsequent to Commonwealth Court's issuance of its findings of fact,
conclusions of law and proposed order, the City Council and Mayor of
Philadelphia acceded (at least temporarily) to President Judge Colins'
proposed mandate that the City fund the First Judicial District's courts for
fiscal year 1998-99, thus obviating the First Judicial District's request for
emergency relief. However, the First Judicial District petitioners and the
City of Philadelphia respondents continue to press their demands that the
General Assembly be required to enact legislation providing for state funding
of the courts. In addition, the County of Allegheny has petitioned the Supreme
Court for leave to intervene in the Bonavitacola case to secure the same
relief against the Commonwealth -- an order requiring Commonwealth to fund its
courts. The Bonavitacola case remains pending before the Supreme Court for
disposition.
On November 25, 1998, the First Judicial District Governing Board filed with
the Supreme Court a renewed motion for entry of an order providing emergency
relief. In their renewed motion, the Bonavitacola plaintiffs asked the court
to order the City of Philadelphia to provide funds to the First Judicial
District's courts sufficient to maintain necessary judicial operations through
the end of the fiscal year.
Bank Shares Tax Litigation
On November 30, 1989, the Fidelity Bank, N.A. ("Fidelity") filed an action
in challenging the constitutional validity of a 1989 amendment increasing the
bank shares tax and related legislation. The Commonwealth Court ruled in favor
of the Commonwealth finding no constitutional deficiencies in the tax
increase, but invalidating one element of the legislation which provided a
credit to new banks (the "new bank tax credit"). Fidelity, the Commonwealth
and certain investment intervener banks appealed to the Pennsylvania Supreme
Court. However, pursuant to a Settlement Agreement dated as of April 21, 1995,
the Commonwealth
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agreed to enter a credit in favor of Fidelity in the amount of $4,100,000 in
settlement of the constitutional and non-constitutional issues. The credit
represents approximately 5% of the potential claim of Fidelity, had the
constitutional issues been resolved in its favor.
Pursuant to a separate Settlement Agreement dated as of April 21, 1995, the
Commonwealth also settled with the intervening banks with respect to issues
concerning the new bank tax credit.
Notwithstanding the foregoing settlements, other banks have filed petitions
challenging the validity of the 1989 tax increase. One of these banks, Royal
Bank of Pennsylvania, has filed a Stipulation of Facts and is in effect
proceeding forward on behalf of the other banks. Their appeals raise the
issues that were advanced by Fidelity, although not brought to resolution by
the Pennsylvania Supreme Court. By decision dated January 8, 1998, a panel of
the Commonwealth Court ruled in favor of the Commonwealth, finding no
constitutional violation. Royal Bank filed exceptions which were denied by the
Commonwealth Court on July 30, 1998. Royal Bank has appealed to the
Pennsylvania Supreme Court.
Pennsylvania Association of Rural and Small Schools (PARSS) v. Casey
In January 1991, an association of rural and small schools and several
parties filed a lawsuit against then Governor Robert P. Casey and former
Secretary of Education, Donald M. Carroll challenging the constitutionality of
the Commonwealth system for funding local school districts. The litigation
consists of two parallel cases, one in the Commonwealth Court of Pennsylvania
and one in the United States District Court for the Middle District of
Pennsylvania. The federal court case has been indefinitely stayed pending
resolution of the state court case. On July 9, 1998, Commonwealth Court Judge
Dan Pellegrini issued an opinion and decree nisi dismissing the petitioners'
claims in its entirety, holding that Pennsylvania's system for funding public
schools is constitutional under both the education clause and the equal
protection clause of the Pennsylvania Constitution.
On July 20, 1998, the petitioners filed a motion for post-trial relief,
taking exception to many of Judge Pellegrini's findings of fact and
conclusions of law, and again asking the Common wealth Court to declare
Pennsylvania's public school funding system to be unconstitutional. Also, the
petitioners on July 21, 1998 filed an application asking the Supreme Court of
Pennsylvania to assume extraordinary, plenary jurisdiction over the case to
decide one legal issue -- whether the petitioners' constitutional claims are
justiciable in the courts of the Commonwealth. The petitioners have asked the
court to consider the issue in conjunction with a separate appeal pending in
another case, Marrerro v. Commonwealth of Pennsylvania, involving the same
provisions of the Constitution and a similar issue of justiciability. On
September 2, 1998, the Supreme Court granted petitioners' application and
directed the filing of briefs. Recently, the respondents asked the Supreme
Court to clarify its assumption of jurisdiction. Specifically, the respondents
have asked the Court to state expressly that it will consider only the issue
of justiciability, as requested in the petitioners' application and not other
issues presented in petitioners' motion for post-trial relief pending in the
Commonwealth Court.
Pennsylvania Human Relations Commission v. School District of Philadelphia,
et al. v. Commonwealth of Pennsylvania, et al.
On November 3, 1995, the Commonwealth of Pennsylvania and the Governor of
Pennsylvania, along with the City of Philadelphia and the Mayor of
Philadelphia, were joined as addition respondents in an enforcement action
commenced in Commonwealth Court in 1973 by the Pennsylvania Human Relations
Commission against the School District of Philadelphia pursuant to the
Pennsylvania Human Relations Act. The enforcement action was pursued to remedy
unintentional conditions of segregation in the public schools of Philadelphia.
The Commonwealth and the City were joined in the "remedial phase" of the
proceeding "to determine their liability, if any, to pay additional costs
necessary to remedy the unlawful conditions found to exist in the Philadelphia
public schools."
On February 28, 1996, the School District of Philadelphia filed a third-
party complaint against the Commonwealth of Pennsylvania asking Commonwealth
Court to require the Commonwealth to "supply such
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funding as is necessary for full compliance with the November 28, 1994 and
other remedial orders of the Commonwealth Court." In addition, a group of
interveners on March 4, 1996 filed a third-party complaint against the
Commonwealth of Pennsylvania and the City of Philadelphia requesting
Commonwealth Court to declare that "it is the obligation of the Commonwealth
and the City to supply the additional funds identified as necessary for the
District to comply with the orders of the Commonwealth Court," and to require
the Commonwealth and the City to supply such additional funding as is
necessary for the District to comply with the orders.
On April 30, 1996, Commonwealth Court Judge Doris A. Smith overruled the
Commonwealth's and City's preliminary objections seeking dismissal of the
claims against them. The Commonwealth and the City thereafter filed answers to
the complaints, asserting numerous defenses. The Commonwealth also asserted a
cross-claim against the City of Philadelphia claiming that if any party is
liable, sole liability rests with the City; in the alternative, the
Commonwealth argued that if it is held to be liable, it has a right of
indemnity of contribution against the City.
Trial commenced on May 30, 1996. During the course of the trial, upon motion
of the Commonwealth, the Pennsylvania Supreme Court on July 3, 1996 assumed
extraordinary plenary jurisdiction and directed Judge Smith to concluded the
proceedings within 60 days and to file with the Supreme Court findings of
fact, conclusions of law and a final opinion.
On August 20, 1996, Judge Smith issued an Opinion and Order pursuant to
which judgment was entered in favor of the School District of Philadelphia and
the interveners and against the Commonwealth of Pennsylvania and the Governor
of Pennsylvania. Judgment was also entered in favor of the City of
Philadelphia and the Mayor of Philadelphia with respect to the intervener's
claim and on the cross-claim filed by the Commonwealth and Governor. The Judge
ordered the Commonwealth and Governor to submit a plan to the Court within
thirty days detailing the means by which the Commonwealth will effectuate the
transfer of additional funds payable to the School District of Philadelphia to
enable it to comply with the remedial order during fiscal year 1996-1997 and
any future years during which the School District establishes its fiscal
incapacity to fund the remedial programs. Judge Smith specifically found that
"[b]ecause of the lack of adequate funds to comply with the remedial order,
the School District is entitled to additional resources for 1996-1997 of $45.1
million."
On August 30, 1996, the Commonwealth filed exceptions to the Findings of
Fact, Conclusions of Law and Opinion and Order of Judge Smith along with a
Motion to Vacate the purported Order and a Notice of Appeal and Jurisdictional
Statement.
On September 10, 1996, the Pennsylvania Supreme Court issued an order
granting the Commonwealth's Motion to Vacate and directed its Prothonotary to
establish a briefing schedule and date for oral argument. It also issued a
further order limiting the issues to be addressed and stated that the
Commonwealth Court is divested of jurisdiction of the matter and all further
proceedings in the Commonwealth Court are stayed pending further order of the
Supreme Court. The Supreme Court retained jurisdiction in the matter. On
January 28, 1997, the Supreme Court issued an Order directing the parties to
brief certain specific issues relative to the lower court proceedings. The
Supreme Court heard oral argument on February 3, 1998 and took the matter
under advisement.
Ridge v. State Employees' Retirement Board
On December 29, 1993, Joseph H. Ridge, a former judge of the Allegheny Court
of Common Pleas, filed in the Commonwealth Court a Petition for Review in the
Nature of Complaint in Mandamus and for a Declaratory Judgment against the
State Employees' Retirement Board alleging that the use of gender distinct
actuarial factors for benefits based upon his pre-August 1, 1983 service
violates the equal protection and equal rights clauses of the Pennsylvania
Constitution. The lawsuit requests that the petitioner's benefits be "topped
up" to equal those that a similarly situated female would be receiving. A
decision adverse to the Retirement Board could be applicable to other members
of the State Employees' Retirement System and Public School Employees'
Retirement System. The Commonwealth Court granted the Retirement Board's
preliminary objection to Judge
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Ridge's claims for punitive damages, attorney's fees and compensatory damages
(other than a recalculation of his pension benefits should he prevail). On
November 20, 1996, the Commonwealth Court heard oral arguments en banc on
Judge Ridge's motion for judgment on the pleadings. On February 13, 1997, the
Commonwealth Court denied Judge Ridge's motion for judgment on the pleadings.
The case is currently in discovery.
Yesenia Marrerro, et al. v. Commonwealth, et al.
On February 24, 1997, five residents of the City of Philadelphia, on their
own behalf, and on behalf of their school-age children, joined by the City of
Philadelphia, the School District of Philadelphia, and two non-profit
organizations, filed in the Commonwealth Court a civil action for declaratory
judgment against the Commonwealth of Pennsylvania, the General Assembly of
Pennsylvania, the presiding officers of the General Assembly, the Governor of
Pennsylvania, the State Board of Education, the Department of Education, and
the Secretary of Education, claiming that the statutory education financing
system is unconstitutional as applied to the School District of Philadelphia
and the system of funding public education violates the constitutional mandate
to provide a thorough and efficient system of education in the City of
Philadelphia. The lawsuit also alleges that the scheme for financing public
education precludes the Commonwealth from providing the constitutionally
required "thorough and efficient system of public education" in the
circumstances faced by the School District of Philadelphia, and that the
defendants have failed to provide the School District of Philadelphia with
resources and other assistance necessary to provide all of its students with
the quality of education to which they are constitutionally entitled. Among
other things, the petitioners seek a declaration that the legislature must
amend the present or enact new education legislation so as to assure that
education funding for the School District of Philadelphia accounts and makes
adequate provision for the greater and special educational challenges and
needs of students in the School District in order to address their
disadvantage. The respondents filed preliminary objections seeking dismissal
of the action. On March 2, 1998, Commonwealth Court sustained the respondents'
preliminary objections and dismissed the case on the grounds that the issues
presented are not justiciable. An appeal to the Supreme Court of Pennsylvania
is pending and briefing is complete, but the Court has not scheduled oral
argument.
Powell v. Ridge
On March 9, 1998, several residents of the City of Philadelphia on behalf of
themselves and their school-aged children, along with the School District of
Philadelphia, the Philadelphia Superintendent of Schools, the chairman of the
Philadelphia Board of Education, the City of Philadelphia, the Mayor of
Philadelphia, and several membership organizations interested in the
Philadelphia public schools, brought suit in the United States District Court
for the Eastern District of Pennsylvania against the Governor, the Secretary
of Education, the chairman of the State Board of Education, and the State
Treasurer. The plaintiffs claimed that the defendants are violating a
regulation of the U.S. Department of Education promulgated under Title VI of
the Civil Rights Act of 1964 in that the Commonwealth's system for funding
public schools has the effect of discriminating on the basis of race. The
plaintiffs asked the court to declare the funding system to be illegal, to
enjoin the defendants from violating the regulation in the future, to award
counsel fees and costs, and to grant such other relief as the court might find
just and proper.
The Philadelphia Federation of Teachers intervened on the side of the
plaintiffs, while several leaders of the Pennsylvania General Assembly
intervened on the side of the defendants. In addition, the U.S. Department of
Justice intervened to defend against a claim made by the legislator
intervenors that a statute waiving states' immunity under the Eleventh
Amendment to the U.S. Constitution for Title VI claims is unconstitutional.
On November 18, 1998, the district court granted in part and denied in part
various motions by the parties. However, because the court found ultimately
that the plaintiffs had failed to state a claim under the Title VI regulation
at issue or under 42 U.S.C. (S)1983, the court dismissed the action in its
entirety with prejudice. An appeal is expected.
A-9
<PAGE>
Rite Aid of Pennsylvania, Inc. v. Houstoun
On March 24, 1997, Rite Aid of Pennsylvania, Inc. (Rite Aid) filed in the
U.S. District Court for the Eastern District of Pennsylvania a civil action
against the Secretary of Public Welfare (Secretary). In its complaint, Rite
Aid alleged that in promulgating regulations on October 1, 1995 governing
payment rates for prescription drugs and related services provided to
recipients of benefits under the Pennsylvania Medical Assistance Program
(Medicaid), the Secretary violated various provisions of Title XIX of the
Social Security Act (commonly known as the Medicaid Act) and regulations of
the U.S. Department of Health and Human Services, as well as provisions of
state law and federal constitutional due process.
On November 3, 1997, the district court granted in part and denied in part
the parties' cross-motions for judgment on the pleadings. The court granted
judgement in favor of the secretary on Rite Aid's federal due process claim
and Rite Aid's claim that the secretary had violated a federal regulation (42
CFR (S)447.205) requiring public notice 60 days prior to revising the
reimbursement rates. However, the court denied the Secretary's motion for
judgment on the pleadings regarding Rite Aid's procedural claim under 42
U.S.C. (S)1396(a)(30)(A). The court also granted judgment on the pleadings in
favor of Rite Aid on its claim that the Secretary violated a federal
regulation (42 CFR (S)447.205(c)(4)) requiring the Secretary to identify a
local agency where the proposed reimbursement changes were available for
public view.
After allowing the Pennsylvania Pharmacists Association (PPA) to intervene
as a plaintiff, the district court on May 8, 1998 granted a motion filed by
Rite Aid and PPA to limit its review of the Secretary's compliance with 42
U.S.C. (S)1396(a)(30)(A) "to the information before [the Secretary] at the
time [she] made [her] decision to lower" the reimbursement rates.
On August 31, 1998, the district court granted the motions of Rite Aid and
PPA for summary judgment and denied the cross-motion of the Secretary. The
court declared that the pharmacy reimbursement rates made effective after
October 1, 1995, were adopted by the Secretary in violation of section
1396(a)(30)(A) of the Medicaid Act and enjoined the Secretary from using those
rates to reimburse for any prescription drugs and related services provided to
Medicaid recipients on and after October 1, 1998. The court held that the
Secretary acted arbitrarily and capriciously by failing to consider whether
the revised rates were consistent with the statutory standards of efficiency,
economy, and quality of care.
The Secretary timely appealed the district court's orders, and Rite Aid and
PPA filed cross-appeals. The Secretary filed motions to stay the district
court's injunction order pending appeal. However, the district court denied
the motion on September 18, 1998, and the court of appeals denied the
application for stay on October 26, 1998. However, the court of appeals did
grant the Secretary's motion for expedited appeal, and briefing should have
been concluded by early January. The court has not scheduled oral argument. In
the meantime, the Department of Public Welfare has altered its reimbursement
rates consistent with the district court's ruling. The estimated annualized
cost of paying the higher reimbursement rates is $106 million.
As of December 1, 1998, Pennsylvania general obligation bonds were rate AA
by Standard & Poor's, AA by Fitch and Aa3 by Moody's. There can be no
assurance that the economic conditions on which these ratings are based will
continue or that particular bond issues will not be adversely affected by
changes in economic or political conditions.
A-10
<PAGE>
APPENDIX B
RATINGS OF MUNICIPAL BONDS
Description of Moody's Investors Service, Inc.'s ("Moody's") Municipal Bond
Ratings
Aaa Bonds which are rated Aaa are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally
referred to as "gilt edge." 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 risks appear somewhat larger than in Aaa securities.
A Bonds which are rated A possess many favorable investment attributes
and are to be considered as upper medium grade obligations. Factors
giving security to principal and interest are considered adequate, but
elements may be present which suggest a susceptibility to impairment
sometime 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.
Note: These bonds in the Aa, A, Baa, Ba and B groups which Moody's believes
possess the strongest investment attributes are designated by the symbols Aa1,
Al, Baal, Bal and B1.
Short-term Notes: The three ratings of Moody's for short-term notes are MIG
1/VMIG 1, MIG 2/VMIG 2, and MIG 3/VMIG 3; MIG 1/VMIG 1 denotes "best quality,
enjoying strong protection from established cash flows"; MIG 2/VMIG 2 denotes
"high quality" with "ample margins of protection"; MIG 3/VMIG 3 instruments
are of "favorable quality . . . but . . . lacking the undeniable strength of
the preceding grades."
B-1
<PAGE>
Description of Moody's Commercial Paper Ratings
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 nine months. Moody's employs the following three designations, all
judged to be investment grade, to indicate the relative repayment capacity of
rated issuers:
Issuers rated Prime-1 (or supporting institutions) have a superior ability
for repayment of short-term promissory obligations. Prime-l repayment capacity
will often be evidenced by the following characteristics: 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 with established
access to a range of financial markets and assured sources of alternate
liquidity.
Issuers rated Prime-2 (or supporting institutions) have a strong ability 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 alternate liquidity is maintained.
Issuers rated Prime-3 (or supporting institutions) have an acceptable
ability for repayment of short-term promissory obligations. The effects of
industry characteristics and market composition may be more pronounced.
Variability in earnings and profitability may result in changes to the level
of debt protection measurements and the requirement for relatively high
financial leverage. Adequate alternate liquidity is maintained.
Issuers rated Not Prime do not fall within any of the Prime rating
categories.
Description of Standard & Poor's, a Division of The McGraw-Hill Companies,
Inc. ("Standard & Poor's"), Municipal Debt Ratings
A Standard & Poor's municipal debt rating is a current assessment of the
creditworthiness of an obligor with respect to a specific financial
obligation, a specific class of financial obligations or a specific program.
It takes into consideration the creditworthiness of guarantors, insurers, or
other forms of credit enhancement on the obligation.
The debt rating is not a recommendation to purchase, sell or hold a
financial obligation, 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 Standard & Poor's from other sources Standard & Poor's considers
reliable. Standard & Poor's 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 based on other circumstances.
The ratings are based, in varying degrees, on the following considerations:
I. 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;
II. Nature of and provisions of the obligation;
III. Protection afforded to, 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.
AAA Debt rated "AAA" has the highest rating assigned by Standard &
Poor's. Capacity of the obligor to meet its financial commitment on
the obligation is extremely strong.
AA Debt rated "AA" differs from the highest-rated issues only in small
degree. The obligor's capacity to meet its financial commitment on
the obligation is very strong.
B-2
<PAGE>
A
Debt rated "A" is somewhat more susceptible to the adverse effects
of changes in circumstances and economic conditions than debt in
higher-rated categories. However, the obligor's capacity to meet
its financial commitment on the obligation is still strong.
BBB Debt rated "BBB" exhibits adequate protection parameters. However,
adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity of the obligor to meet its
financial commitment on the obligation.
BB Debt rated "BB," "B," "CCC," "CC" and "C" are regarded as having B
significant speculative characteristics. "BB" indicates the least
CCC degree of speculation and "C" the highest degree of
speculation. While CC such debt will likely have some quality and
protective characteristics, C these may be outweighed by large
uncertainties or major risk exposures to adverse conditions.
D Debt rated "D" is in payment default. The "D" rating category is
used when payments on an obligation are not made on the date due
even if the applicable grace period has not expired, unless
Standard & Poor's believes that such payments will be made during
such grace period. The "D" rating also will be used upon the filing
of a bankruptcy petition or the taking of similar action if
payments on an obligation are jeopardized.
Plus (+) or Minus (-): The ratings from "AA" to "CCC" may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
Description of Standard & Poor's 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. Ratings are graded into several categories, ranging from "A-l"
for the highest quality obligations to "D" for the lowest. These categories
are as follows:
A-1 This designation indicates that the degree of safety regarding
timely payment is strong. Those issues determined to possess
extremely strong safety characteristics are denoted with a plus
sign (+) designation.
A-2 Capacity for timely payment on issues with this designation is
satisfactory. However, the relative degree of safety is not as high
as for issues designated "A-1."
A-3 Issues carrying this designation have adequate capacity for timely
payment. They are, however, more vulnerable to the adverse effects
of changes in circumstances than obligations carrying the higher
designations.
B Issues rated "B" are regarded as having only speculative capacity
for timely payment.
C This rating is assigned to short-term debt obligations with a
doubtful capacity for payment.
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 Standard & Poor's believes that such payments will be made
during such grace period.
A commercial paper rating is not a recommendation to purchase or sell a
security. The ratings are based on current information furnished to Standard &
Poor's by the issuer or obtained by Standard & Poor's from other sources it
considers reliable. The ratings may be changed, suspended, or withdrawn as a
result of changes in, or unavailability of, such information.
A Standard & Poor's note rating reflects the liquidity factors and market
access risks unique to such notes. Notes due in three years or less will
likely receive a note rating. Notes maturing beyond three years will most
likely receive a long-term debt rating. The following criteria will be used in
making that assessment.
--Amortization schedule--the larger the final maturity relative to other
maturities, the more likely it will be treated as a note.
--Source of payment--the more dependent the issue is on the market for its
refinancing, the more likely it will be treated as a note.
B-3
<PAGE>
Note rating symbols are as follows:
SP-1 Strong capacity to pay principal and interest. An issue determined
to possess a very strong capacity to pay debt service is given a
plus (+) designation.
SP-2 Satisfactory capacity to pay principal and interest with some
vulnerability to adverse financial and economic changes over the
term of the notes.
SP-3 Speculative capacity to pay principal and interest.
Description of Fitch IBCA, Inc.'s ("Fitch") Investment Grade Bond Ratings
Fitch investment grade bond ratings provide a guide to investors in
determining the credit risk associated with a particular security. The rating
represents 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 guarantees 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.
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 or 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 these 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.
B-4
<PAGE>
Plus (+) or Minus (-): Plus and minus signs are used with a rating symbol to
indicate the relative position of a credit within the rating category. Plus
and minus signs, however, are not used in the "AAA" category.
NR Indicates that Fitch does not rate the specific issue.
Conditional A conditional rating is premised on the successful completion of
a project or the occurrence of a specific event.
Suspended A rating is suspended when Fitch deems the amount of information
available from the issuer to be inadequate for rating purposes.
Withdrawn A rating will be withdrawn when an issue matures or is called or
refinanced and, at Fitch's discretion, when an issuer fails to
furnish proper and timely information.
FitchAlert Ratings are placed on FitchAlert to notify investors of an
occurrence that is likely to result in a rating change and the
likely direction of such change. These are designated as
"Positive," indicating a potential upgrade, "Negative," for
potential downgrade, or "Evolving," where ratings may be raised
or lowered. FitchAlert is relatively short-term, and should be
resolved within three to 12 months.
Ratings An outlook is used to describe the most likely direction of any
Outlook rating change over thentermediate term. It is described as
"Positive" or "Negative." The absence of a designation indicates
a stable outlook.
Description of Fitch's Speculative Grade Bond 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 rating are of similar but not necessarily identical
credit quality since rating categories cannot fully reflect the differences in
degrees of credit risk.
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.
DDD Bonds are in default on interest and/or principal payments. Such
DD bonds are extremely speculative and should be valued on the
basis D of their ultimate recovery value in liquidation or
reorganization of the obligor. "DDD" represents the highest
potential for recovery on these bonds, and "D" represents the
lowest potential for recovery.
B-5
<PAGE>
Plus (+) or Minus (-): Plus and minus signs are used with a rating symbol to
indicate the relative position of a credit within the rating category. Plus
and minus signs, however, are not used in the "DDD," "DD," or "D" categories.
Description of Fitch's Short-Term Ratings
Fitch's short-term ratings apply to debt obligations that are payable on
demand or have original maturities of up to three years, including commercial
paper, certificates of deposit, medium-term notes, and municipal and
investment notes.
The short-term rating places greater emphasis than a long-term rating on the
existence of liquidity necessary to meet the issuer's obligations in a timely
manner.
Fitch short-term ratings are as follows:
F-1+ Exceptionally Strong Credit Quality. Issues assigned this rating
are regarded as having the strongest degree of assurance for timely
payment.
F-1 Very Strong Credit Quality. Issues assigned this rating reflect an
assurance of timely payment only slightly less in degree than
issues rated "F-1+."
F-2 Good Credit Quality. Issues assigned this rating have a
satisfactory degree of assurance for timely payment, but the margin
of safety is not as great as for issues assigned "F-1+" and "F-1"
ratings.
F-3
Fair Credit Quality. Issues assigned this rating have
characteristics suggesting that the degree of assurance for timely
payment is adequate; however, near-term adverse changes could cause
these securities to be rated below investment grade.
F-S Weak Credit Quality. Issues assigned this rating have
characteristics suggesting a minimal degree of assurance for timely
payment and are vulnerable to near-term adverse changes in
financial and economic conditions.
D Default. Issues assigned this rating are in actual or imminent
payment default.
LOC The symbol "LOC" indicates that the rating is based on a letter of
credit issued by a commercial bank.
B-6
<PAGE>
APPENDIX C
PORTFOLIO INSURANCE
Set forth below is further information with respect to the insurance
policies (the "Policies") that the Fund may obtain from several insurance
companies with respect to insured Pennsylvania Municipal Bonds and Municipal
Bonds held by the Fund. The Fund has no obligation to obtain any such
Policies, and the terms of any Policies actually obtained may vary
significantly from the terms discussed below.
In determining eligibility for insurance, insurance companies will apply
their own standards. These standards correspond generally to the standards
such companies normally use in establishing the insurability of new issues of
Pennsylvania Municipal Bonds and Municipal Bonds and are not necessarily the
criteria that would be used in regard to the purchase of such bonds by the
Fund. The Policies do not insure (i) municipal securities ineligible for
insurance and (ii) municipal securities no longer owned by the Fund.
The Policies do not guarantee the market value of the insured Pennsylvania
Municipal Bonds and Municipal Bonds or the value of the shares of the Fund. In
addition, if the provider of an original issuance insurance policy is unable
to meet its obligations under such policy or if the rating assigned to the
insurance claims-paying ability of any such insurer deteriorates, the
insurance company will not have any obligation to insure any issue held by the
Fund that is aversely affected by either of the above described events. In
addition to the payment of premium, the policies may require that the Fund
notify the insurance company as to all Pennsylvania Municipal Bonds and
Municipal Bonds in the Fund's portfolio and permit the insurance company to
audit their records. The insurance premiums will be payable monthly by the
Fund in accordance with a premium schedule to be furnished by the insurance
company at the time the Policies are issued. Premiums are based upon the
amounts covered and the composition of the portfolio.
The Fund will seek to utilize insurance companies that have insurance
claims-paying ability ratings of AAA from Standard & Poor's ("S&P") or Fitch
IBCA, Inc. ("Fitch") or Aaa from Moody's Investors Service ("Moody's"). There
can be no assurance however, that insurance from insurance carriers meeting
these criteria will be at all times available.
An S&P insurance claims-paying ability rating is an assessment of an
operating insurance company's financial capacity to meet obligations under an
insurance policy in accordance with the terms. An insurer with an insurance
claims-paying ability rating of AAA has the highest rating assigned by S&P.
Capacity to honor insurance contracts is considered by S&P to be extremely
strong and highly likely to remain so over a long period of time. A Fitch
insurance claims-paying ability rating provides an assessment of an insurance
company's financial strength and, therefore, its ability to pay policy and
contract claims under the terms indicated. An insurer with an insurance
claims-paying ability rating of AAA has the highest rating assigned by Fitch.
The ability to pay claims is adjudged by Fitch to be extremely strong for
insurance companies with this highest rating. In the opinion of Fitch,
foreseeable business and economic risk factors should not have any material
adverse impact on the ability of these insurers to pay claims. In Fitch's
opinion, profitability, overall balance sheet strength, capitalization and
liquidity are all at very secure levels and are unlikely to be affected by
potential adverse underwriting, investment or cyclical events. A Moody's
insurance claims-paying ability rating is an opinion of the ability of an
insurance company to repay punctually senior policyholder obligations and
claims. An insurer with an insurance claims-paying ability rating of Aaa is
considered by Moody's to be of the best quality. In the opinion of Moody's,
the policy obligations of an insurance company with an insurance claims-paying
ability rating of Aaa carry the smallest degree of credit risk and, while the
financial strength of these companies is likely to change, such changes as can
be visualized are most unlikely to impair the company's fundamentally strong
position.
An insurance claims-paying ability rating of S&P, Fitch or Moody's does not
constitute an opinion on any specific contract in that such an opinion can
only be rendered upon the review of the specific insurance contract.
Furthermore, an insurance claims-paying ability rating does not take into
account deductibles, surrender or
C-1
<PAGE>
cancellation penalties or the timeliness of payment; nor does it address the
ability of a company to meet nonpolicy obligations (i.e., debt contracts).
The assignment of ratings by S&P, Fitch or Moody's to debt issues that are
fully or partially supported by insurance policies, contracts or guarantees is
a separate process from the determination of claims-paying ability ratings.
The likelihood of a timely flow of funds from the insurer to the trustee for
the bondholders is a key element in the rating determination for such debt
issues.
C-2
<PAGE>
APPENDIX D
SETTLEMENT PROCEDURES
The following summary of Settlement Procedures sets forth the procedures
expected to be followed in connection with the settlement of each Auction and
will be incorporated by reference in the Auction Agent Agreement and each
Broker-Dealer Agreement. Nothing contained in this Appendix D constitutes a
representation by the Fund that in each Auction each party referred to herein
actually will perform the procedures described herein to be performed by such
party. Capitalized terms used herein shall have the respective meanings
specified in the glossary of this Prospectus or Appendix E hereto, as the case
may be.
(a) On each Auction Date, the Auction Agent shall notify by telephone or
through the Auction Agent's Processing System the Broker-Dealers that
participated in the Auction held on such Auction Date and submitted an Order
on behalf of any Beneficial Owner or Potential Beneficial Owner of:
(i) the Applicable Rate fixed for the next succeeding Dividend Period;
(ii) whether Sufficient Clearing Bids existed for the determination of
the Applicable Rate;
(iii) if such Broker-Dealer (a "Seller's Broker-Dealer") submitted a Bid
or a Sell Order on behalf of a Beneficial Owner, the number, if any, of
AMPS to be sold by such Beneficial Owner;
(iv) if such Broker-Dealer (a "Buyer's Broker-Dealer") submitted a Bid on
behalf of a Potential Beneficial Owner, the number, if any, of AMPS to be
purchased by such Potential Beneficial Owner;
(v) if the aggregate number of AMPS to be sold by all Beneficial Owners
on whose behalf such Broker-Dealer submitted a Bid or a Sell Order exceeds
the aggregate number of AMPS to be purchased by all Potential Beneficial
Owners on whose behalf such Broker-Dealer submitted a Bid, the name or
names of one or more Buyer's Broker-Dealers (and the name of the Agent
Member, if any, of each such Buyer's Broker-Dealer) acting for one or more
purchasers of such excess number of AMPS and the number of such shares to
be purchased from one or more Beneficial Owners on whose behalf such
Broker-Dealer acted by one or more Potential Beneficial Owners on whose
behalf each of such Buyer's Broker-Dealers acted;
(vi) if the aggregate number of AMPS to be purchased by all Potential
Beneficial Owners on whose behalf such Broker-Dealer submitted a Bid
exceeds the aggregate number of AMPS to be sold by all Beneficial Owners on
whose behalf such Broker-Dealer submitted a Bid or a Sell Order, the name
or names of one or more Seller's Broker-Dealers (and the name of the Agent
Member, if any, of each such Seller's Broker-Dealer) acting for one or more
sellers of such excess number of AMPS and the number of such shares to be
sold to one or more Potential Beneficial Owners on whose behalf such
Broker-Dealer acted by one or more Beneficial Owners on whose behalf each
of such Seller's Broker-Dealers acted; and
(vii) the Auction Date of the next succeeding Auction with respect to the
AMPS.
(b) On each Auction Date, each Broker-Dealer that submitted an Order on
behalf of any Beneficial Owner or Potential Beneficial Owner shall:
(i) in the case of a Broker-Dealer that is a Buyer's Broker-Dealer,
instruct each Potential Beneficial Owner on whose behalf such Broker-Dealer
submitted a Bid that was accepted, in whole or in part, to instruct such
Potential Beneficial Owner's Agent Member to pay to such Broker-Dealer (or
its Agent Member) through the Securities Depository the amount necessary to
purchase the number of AMPS to be purchased pursuant to such Bid against
receipt of such shares and advise such Potential Beneficial Owner of the
Applicable Rate for the next succeeding Dividend Period;
(ii) in the case of a Broker-Dealer that is a Seller's Broker-Dealer,
instruct each Beneficial Owner on whose behalf such Broker-Dealer submitted
a Sell Order that was accepted, in whole or in part, or a Bid that was
accepted, in whole or in part, to instruct such Beneficial Owner's Agent
Member to deliver to such Broker-Dealer (or its Agent Member) through the
Securities Depository the number of AMPS to be sold pursuant to such Order
against payment therefor and advise any such Beneficial Owner that will
continue to hold AMPS of the Applicable Rate for the next succeeding
Dividend Period;
D-1
<PAGE>
(iii) advise each Beneficial Owner on whose behalf such Broker-Dealer
submitted a Hold Order of the Applicable Rate for the next succeeding
Dividend Period;
(iv) advise each Beneficial Owner on whose behalf such Broker-Dealer
submitted an Order of the Auction Date for the next succeeding Auction; and
(v) advise each Potential Beneficial Owner on whose behalf such Broker-
Dealer submitted a Bid that was accepted, in whole or in part, of the
Auction Date for the next succeeding Auction.
(c) On the basis of the information provided to it pursuant to (a) above,
each Broker-Dealer that submitted a Bid or a Sell Order on behalf of a
Potential Beneficial Owner or a Beneficial Owner shall, in such manner and at
such time or times as in its sole discretion it may determine, allocate any
funds received by it pursuant to (b)(i) above and any AMPS received by it
pursuant to (b)(ii) above among the Potential Beneficial Owners, if any, on
whose behalf such Broker-Dealer submitted Bids, the Beneficial Owners, if any,
on whose behalf such Broker-Dealer submitted Bids that were accepted or Sell
Orders, and any Broker-Dealer or Broker-Dealers identified to it by the
Auction Agent pursuant to (a)(v) or (a)(vi) above.
(d) On each Auction Date:
(i) each Potential Beneficial Owner and Beneficial Owner shall instruct
its Agent Member as provided in (b)(i) or (ii) above, as the case may be;
(ii) each Seller's Broker-Dealer which is not an Agent Member of the
Securities Depository shall instruct its Agent Member to (A) pay through
the Securities Depository to the Agent Member of the Beneficial Owner
delivering shares to such Broker-Dealer pursuant to (b)(ii) above the
amount necessary to purchase such shares against receipt of such shares,
and (B) deliver such shares through the Securities Depository to a Buyer's
Broker-Dealer (or its Agent Member) identified to such Seller's Broker-
Dealer pursuant to (a)(v) above against payment therefor; and
(iii) each Buyer's Broker-Dealer which is not an Agent Member of the
Securities Depository shall instruct its Agent Member to (A) pay through
the Securities Depository to a Seller's Broker-Dealer (or its Agent Member)
identified pursuant to (a)(vi) above the amount necessary to purchase the
shares to be purchased pursuant to (b)(i) above against receipt of such
shares, and (B) deliver such shares through the Securities Depository to
the Agent Member of the purchaser thereof against payment therefor.
(e) On the day after the Auction Date:
(i) each Bidder's Agent Member referred to in (d)(i) above shall instruct
the Securities Depository to execute the transactions described in (b)(i)
or (ii) above, and the Securities Depository shall execute such
transactions;
(ii) each Seller's Broker-Dealer or its Agent Member shall instruct the
Securities Depository to execute the transactions described in (d)(ii)
above, and the Securities Depository shall execute such transactions; and
(iii) each Buyer's Broker-Dealer or its Agent Member shall instruct the
Securities Depository to execute the transactions described in (d)(iii)
above, and the Securities Depository shall execute such transactions.
(f) If a Beneficial Owner selling AMPS in an Auction fails to deliver
such shares (by authorized book-entry), a Broker-Dealer may deliver to the
Potential Beneficial Owner on behalf of which it submitted a Bid that was
accepted a number of whole AMPS that is less than the number of shares that
otherwise was to be purchased by such Potential Beneficial Owner. In such
event, the number of AMPS to be so delivered shall be determined solely by
such Broker-Dealer. Delivery of such lesser number of shares shall
constitute good delivery. Notwithstanding the foregoing terms of this
paragraph (f), any delivery or non-delivery of shares which shall represent
any departure from the results of an Auction, as determined by the Auction
Agent, shall be of no effect unless and until the Auction Agent shall have
been notified of such delivery or non-delivery in accordance with the
provisions of the Auction Agent Agreement and the Broker-Dealer Agreements.
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APPENDIX E
AUCTION PROCEDURES
The following procedures will be set forth in provisions of the Certificate
of Designation relating to the AMPS, and will be incorporated by reference in
the Auction Agent Agreement and each Broker-Dealer Agreement. The terms not
defined below are defined in the forepart of this Prospectus. Nothing
contained in this Appendix E constitutes a representation by the Fund that in
each Auction each party referred to herein actually will perform the
procedures described herein to be performed by such party.
Paragraph 10(a) Certain Definitions.
As used in this Paragraph 10, the following terms shall have the following
meanings, unless the context otherwise requires:
(i) "AMPS" shall mean the shares of AMPS being auctioned pursuant to this
Paragraph 10.
(ii) "Auction Date" shall mean the first Business Day preceding the first
day of a Dividend Period.
(iii) "Available AMPS" shall have the meaning specified in Paragraph
10(d)(i) below.
(iv) "Bid" shall have the meaning specified in Paragraph 10(b)(i) below.
(v) "Bidder" shall have the meaning specified in Paragraph 10(b)(i)
below.
(vi) "Hold Order" shall have the meaning specified in Paragraph 10(b)(i)
below.
(vii) "Maximum Applicable Rate" for any Dividend Period will be the
Applicable Percentage of the Reference Rate. The Applicable Percentage will
be determined based on (i) the lower of the credit rating or ratings
assigned on such date to such shares by Moody's and S&P (or if Moody's or
S&P or both shall not make such rating available, the equivalent of either
or both of such ratings by a Substitute Rating Agency or two Substitute
Rating Agencies or, in the event that only one such rating shall be
available, such rating) and (ii) whether the Fund has provided modification
to the Auction Agent prior to the Auction establishing the Applicable Rate
for any dividend that net capital gains or other taxable income will be
included in such dividend on AMPS as follows:
<TABLE>
<CAPTION>
Applicable
Percentage of Applicable
Credit Ratings Reference Rate-- Percentage of
---------------------------------- No Reference Rate--
Moody's S&P Notification Notification
---------------- ------------- ---------------- ----------------
<S> <C> <C> <C>
"aa3" or higher AA- or Higher 110% 150%
"a3" or "a1" A- to A+ 125% 160%
"baa3" to "baa1" BBB- to BBB+ 150% 250%
Below "baa3" Below BBB- 200% 275%
</TABLE>
The Fund shall take all reasonable action necessary to enable S&P and
Moody's to provide a rating for the AMPS. If either S&P or Moody's shall not
make such a rating available, or if neither S&P nor Moody's shall make such a
rating available, Merrill Lynch, Pierce, Fenner & Smith Incorporated or its
affiliates and successors, after consultation with the Fund, shall select a
nationally recognized statistical rating organization or two nationally
recognized statistical rating organizations to act as a Substitute Rating
Agency or Substitute Rating Agencies, as the case may be.
(viii) "Order" shall have the meaning specified in Paragraph 10(b)(i)
below.
(ix) "Sell Order" shall have the meaning specified in Paragraph 10(b)(i)
below.
(x) "Submission Deadline" shall mean 1:00 p.m., Eastern time, on any
Auction Date or such other time on any Auction Date as may be specified by
the Auction Agent from time to time as the time by which each Broker-Dealer
must submit to the Auction Agent in writing all Orders obtained by it for
the Auction to be conducted on such Auction Date.
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(xi) "Submitted Bid" shall have the meaning specified in Paragraph
10(d)(i) below.
(xii) "Submitted Hold Order" shall have the meaning specified in
Paragraph 10(d)(i) below.
(xiii) "Submitted Order" shall have the meaning specified in Paragraph
10(d)(i) below.
(xiv) "Submitted Sell Order" shall have the meaning specified in
Paragraph 10(d)(i) below.
(xv) "Sufficient Clearing Bids" shall have the meaning specified in
Paragraph 10(d)(i) below.
(xvi) (xvi) "Winning Bid Rate" shall have the meaning specified in
Paragraph 10(d)(i) below.
Paragraph 10(b) Orders by Beneficial Owners, Potential Beneficial Owners,
Existing Holders and Potential Holders.
(i) Unless otherwise permitted by the Fund, Beneficial Owners and Potential
Beneficial Owners may only participate in Auctions through their Broker-
Dealers. Broker-Dealers will submit the Orders of their respective customers
who are Beneficial Owners and Potential Beneficial Owners to the Auction
Agent, designating themselves as Existing Holders in respect of shares subject
to Orders submitted or deemed submitted to them by Beneficial Owners and as
Potential Holders in respect of shares subject to Orders submitted to them by
Potential Beneficial Owners. A Broker-Dealer may also hold AMPS in its own
account as a Beneficial Owner. A Broker-Dealer may thus submit Orders to the
Auction Agent as a Beneficial Owner or a Potential Beneficial Owner and
therefore participate in an Auction as an Existing Holder or Potential Holder
on behalf of both itself and its customers. On or prior to the Submission
Deadline on each Auction Date:
(A) each Beneficial Owner may submit to its Broker-Dealer information as
to:
(1) the number of outstanding AMPS, if any, held by such Beneficial
Owner which such Beneficial Owner desires to continue to hold without
regard to the Applicable Rate for the next succeeding Dividend Period;
(2) the number of outstanding AMPS, if any, held by such Beneficial
Owner which such Beneficial Owner desires to continue to hold, provided
that the Applicable Rate for the next succeeding Dividend Period shall
not be less than the rate per annum specified by such Beneficial Owner,
and/or
(3) the number of outstanding AMPS, if any, held by such Beneficial
Owner which such Beneficial Owner offers to sell without regard to the
Applicable Rate for the next succeeding Dividend Period; and
(B) each Broker-Dealer, using a list of Potential Beneficial Owners that
shall be maintained in good faith for the purpose of conducting a
competitive Auction, shall contact Potential Beneficial Owners, including
Persons that are not Beneficial Owners, on such list to determine the
number of outstanding AMPS, if any, which each such Potential Beneficial
Owner offers to purchase, provided that the Applicable Rate for the next
succeeding Dividend Period shall not be less than the rate per annum
specified by such Potential Beneficial Owner.
For the purposes hereof, the communication by a Beneficial Owner or
Potential Beneficial Owner to a Broker-Dealer, or the communication by a
Broker-Dealer acting for its own account to the Auction Agent, of information
referred to in clause (A) or (B) of this Paragraph 10(b)(i) is hereinafter
referred to as an "Order" and each Beneficial Owner and each Potential
Beneficial Owner placing an Order, including a Broker-Dealer acting in such
capacity for its own account, is hereinafter referred to as a "Bidder"; an
Order containing the information referred to in clause (A)(1) of this
Paragraph 10(b)(i) is hereinafter referred to as a "Hold Order"; an Order
containing the information referred to in clause (A)(2) or (B) of this
Paragraph 10(b)(i) is hereinafter referred to as a "Bid"; and an Order
containing the information referred to in clause (A)(3) of this Paragraph
10(b)(i) is hereinafter referred to as a "Sell Order." Inasmuch as a Broker-
Dealer participates in an Auction as an Existing Holder or a Potential Holder
only to represent the interests of a Beneficial Owner or Potential Beneficial
Owner, whether it be its customers or itself, all discussion herein relating
to the consequences of an Auction for Existing Holders and Potential Holders
also applies to the underlying beneficial ownership interests represented.
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<PAGE>
(ii) (A) A Bid by an Existing Holder shall constitute an irrevocable offer
to sell:
(1) the number of outstanding AMPS specified in such Bid if the
Applicable Rate determined on such Auction Date shall be less than the rate
per annum specified in such Bid; or
(2) such number or a lesser number of outstanding AMPS to be determined
as set forth in Paragraph 10(e)(i)(D) if the Applicable Rate determined on
such Auction Date shall be equal to the rate per annum specified therein;
or
(3) a lesser number of outstanding AMPS to be determined as set forth in
Paragraph 10(e)(ii)(C) if such specified rate per annum shall be higher
than the Maximum Applicable Rate and Sufficient Clearing Bids do not exist.
(B) A Sell Order by an Existing Holder shall constitute an irrevocable offer
to sell:
(1) the number of outstanding AMPS specified in such Sell Order, or
(2) such number or a lesser number of outstanding AMPS to be determined
as set forth in Paragraph 10(e)(ii)(C) if Sufficient Clearing Bids do not
exist.
(C) A Bid by a Potential Holder shall constitute an irrevocable offer to
purchase:
(1) the number of outstanding AMPS specified in such Bid if the
Applicable Rate determined on such Auction Date shall be higher than the
rate per annum specified in such Bid; or
(2) such number or a lesser number of outstanding AMPS to be determined
as set forth in Paragraph 10(e)(i)(E) if the Applicable Rate determined on
such Auction Date shall be equal to the rate per annum specified therein.
Paragraph 10(c) Submission of Orders By Broker-Dealers to Auction Agent.
(i) Each Broker-Dealer shall submit in writing or through the Auction
Agent's Auction Processing System to the Auction Agent prior to the Submission
Deadline on each Auction Date all Orders obtained by such Broker-Dealer,
designating itself (unless otherwise permitted by the Fund) as an Existing
Holder in respect of shares subject to Orders submitted or deemed submitted to
it by Beneficial Owners and as a Potential Holder in respect of shares subject
to Orders submitted to it by Potential Beneficial Owners, and specifying with
respect to each Order:
(A) the name of the Bidder placing such Order (which shall be the Broker-
Dealer unless otherwise permitted by the Fund);
(B) the aggregate number of outstanding AMPS that are the subject of such
Order;
(C) to the extent that such Bidder is an Existing Holder
(1) the number of outstanding AMPS, if any, subject to any Hold Order
placed by such Existing Holder;
(2) the number of outstanding AMPS, if any, subject to any Bid placed
by such Existing Holder and the rate per annum specified in such Bid;
and
(3) the number of outstanding AMPS, if any, subject to any Sell Order
placed by such Existing Holder; and
(D) to the extent such Bidder is a Potential Holder, the rate per annum
specified in such Potential Holder's Bid.
(ii) If any rate per annum specified in any Bid contains more than three
figures to the right of the decimal point, the Auction Agent shall round such
rate up to the next highest one-thousandth (.001) of 1%.
(iii) If an Order or Orders covering all of the outstanding AMPS held by an
Existing Holder are not submitted to the Auction Agent prior to the Submission
Deadline, the Auction Agent shall deem a Hold Order
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(in the case of an Auction relating to a Dividend Period which is not a
Special Dividend Period of 28 days or more) and a Sell Order (in the case of
an Auction relating to a Special Dividend Period of 28 days or more) to have
been submitted on behalf of such Existing Holder covering the number of
outstanding AMPS held by such Existing Holder and not subject to Orders
submitted to the Auction Agent.
(iv) If one or more Orders on behalf of an Existing Holder covering in the
aggregate more than the number of outstanding AMPS held by such Existing
Holder are submitted to the Auction Agent, such Orders shall be considered
valid as follows and in the following order of priority:
(A) any Hold Order submitted on behalf of such Existing Holder shall be
considered valid up to and including the number of outstanding AMPS held by
such Existing Holder; provided that if more than one Hold Order is
submitted on behalf of such Existing Holder and the number of AMPS subject
to such Hold Orders exceeds the number of outstanding AMPS held by such
Existing Holder, the number of AMPS subject to each of such Hold Orders
shall be reduced pro rata so that such Hold Orders, in the aggregate, cover
exactly the number of outstanding AMPS held by such Existing Holder;
(B) any Bids submitted on behalf of such Existing Holder shall be
considered valid, in the ascending order of their respective rates per
annum if more than one Bid is submitted on behalf of such Existing Holder,
up to and including the excess of the number of outstanding AMPS held by
such Existing Holder over the number of AMPS subject to any Hold Order
referred to in Paragraph 10(c)(iv)(A) above (and if more than one Bid
submitted on behalf of such Existing Holder specifies the same rate per
annum and together they cover more than the remaining number of shares that
can be the subject of valid Bids after application of Paragraph
10(c)(iv)(A) above and of the foregoing portion of this Paragraph
10(c)(iv)(B) to any Bid or Bids specifying a lower rate or rates per annum,
the number of shares subject to each of such Bids shall be reduced pro rata
so that such Bids, in the aggregate, cover exactly such remaining number of
shares); and the number of shares, if any, subject to Bids not valid under
this Paragraph 10(c)(iv)(B) shall be treated as the subject of a Bid by a
Potential Holder; and
(C) any Sell Order shall be considered valid up to and including the
excess of the number of outstanding AMPS held by such Existing Holder over
the number of AMPS subject to Hold Orders referred to in Paragraph
10(c)(iv)(A) and Bids referred to in Paragraph 10(c)(iv)(B); provided that
if more than one Sell Order is submitted on behalf of any Existing Holder
and the number of AMPS subject to such Sell Orders is greater than such
excess, the number of AMPS subject to each of such Sell Orders shall be
reduced pro rata so that such Sell Orders, in the aggregate, cover exactly
the number of AMPS equal to such excess.
(v) If more than one Bid is submitted on behalf of any Potential Holder,
each Bid submitted shall be a separate Bid with the rate per annum and number
of AMPS therein specified.
(vi) Any Order submitted by a Beneficial Owner or a Potential Beneficial
Owner to its Broker-Dealer, or by a Broker-Dealer to the Auction Agent, prior
to the Submission Deadline on any Auction Date shall be irrevocable.
Paragraph 10(d) Determination of Sufficient Clearing Bids, Winning Bid Rate
and Applicable Rate.
(i) Not earlier than the Submission Deadline on each Auction Date, the
Auction Agent shall assemble all Orders submitted or deemed submitted to it by
the Broker-Dealers (each such Order as submitted or deemed submitted by a
Broker-Dealer being hereinafter referred to individually as a "Submitted Hold
Order," a "Submitted Bid" or a "Submitted Sell Order," as the case may be, or
as a "Submitted Order") and shall determine:
(A) the excess of the total number of outstanding shares of AMPS over the
number of outstanding AMPS that are the subject of Submitted Hold Orders
(such excess being hereinafter referred to as the "Available AMPS");
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<PAGE>
(B) from the Submitted Orders whether the number of outstanding AMPS that
are the subject of Submitted Bids by Potential Holders specifying one or
more rates per annum equal to or lower than the Maximum Applicable Rate
exceeds or is equal to the sum of:
(1) the number of outstanding AMPS that are the subject of Submitted
Bids by Existing Holders specifying one or more rates per annum higher
than the Maximum Applicable Rate, and
(2) the number of outstanding AMPS that are subject to Submitted Sell
Orders (if such excess or such equality exists (other than because the
number of outstanding AMPS in clauses (1) and (2) above are each zero
because all of the outstanding AMPS are the subject of Submitted Hold
Orders), such Submitted Bids by Potential Holders hereinafter being
referred to collectively as "Sufficient Clearing Bids"); and
(C) if Sufficient Clearing Bids exist, the lowest rate per annum
specified in the Submitted Bids (the "Winning Bid Rate") that if:
(1) each Submitted Bid from Existing Holders specifying the Winning
Bid Rate and all other submitted Bids from Existing Holders specifying
lower rates per annum were rejected, thus entitling such Existing
Holders to continue to hold AMPS that are the subject of such Submitted
Bids, and
(2) each Submitted Bid from Potential Holders specifying the Winning
Bid Rate and all other Submitted Bids from Potential Holders specifying
lower rates per annum were accepted, thus entitling the Potential
Holders to purchase AMPS that are the subject of such Submitted Bids,
would result in the number of shares subject to all Submitted Bids
specifying the Winning Bid Rate or a lower rate per annum being at
least equal to the Available AMPS.
(ii) Promptly after the Auction Agent has made the determinations pursuant
to Paragraph 10(d)(i), the Auction Agent shall advise the Fund of the Maximum
Applicable Rate and, based on such determinations, the Applicable Rate for the
next succeeding Dividend Period as follows:
(A) if Sufficient Clearing Bids exist, that the Applicable Rate for the
next succeeding Dividend Period shall be equal to the Winning Bid Rate;
(B) if Sufficient Clearing Bids do not exist (other than because all of
the outstanding AMPS are the subject of Submitted Hold Orders), that the
Applicable Rate for the next succeeding Dividend Period shall be equal to
the Maximum Applicable Rate; or
(C) if all of the outstanding AMPS are the subject of Submitted Hold
Orders, that the Dividend Period next succeeding the Auction automatically
shall be the same length as the immediately preceding Dividend Period and
the Applicable Rate for the next succeeding Dividend Period shall be equal
to 40% of the Reference Rate (or 60% of such rate if the Fund has provided
notification to the Auction Agent prior to the Auction establishing the
Applicable Rate for any dividend that net capital gains or other taxable
income will be included in such dividend on the AMPS) on the date of the
Auction.
Paragraph 10(e) Acceptance and Rejection of Submitted Bids and Submitted Sell
Orders And Allocation of Shares.
Based on the determinations made pursuant to Paragraph 10(d)(i), the
Submitted Bids and Submitted Sell Orders shall be accepted or rejected and the
Auction Agent shall take such other action as set forth below:
(i) If Sufficient Clearing Bids have been made, subject to the provisions
of Paragraph 10(e)(iii) and Paragraph 10(e)(iv), Submitted Bids and
Submitted Sell Orders shall be accepted or rejected in the following order
of priority and all other Submitted Bids shall be rejected:
(A) the Submitted Sell Orders of Existing Holders shall be accepted
and the Submitted Bid of each of the Existing Holders specifying any
rate per annum that is higher than the Winning Bid Rate shall be
accepted, thus requiring each such Existing Holder to sell the
outstanding AMPS that are the subject of such Submitted Sell Order or
Submitted Bid;
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<PAGE>
(B) the Submitted Bid of each of the Existing Holder specifying any
rate per annum that is lower than the Winning Bid Rate shall be
rejected, thus entitling each such Existing Holder to continue to hold
the outstanding AMPS that are the subject of such Submitted Bid;
(C) the Submitted Bid of each of the Potential Holders specifying any
rate per annum that is lower than the Winning Bid Rate shall be
accepted;
(D) the Submitted Bid of each of the Existing Holders specifying a
rate per annum that is equal to the Winning Bid Rate shall be rejected,
thus entitling each such Existing Holder to continue to hold the
outstanding AMPS that are the subject of such Submitted Bid, unless the
number of outstanding AMPS subject to all such Submitted Bids shall be
greater than the number of outstanding AMPS ("Remaining Shares") equal
to the excess of the Available AMPS over the number of outstanding AMPS
subject to Submitted Bids described in Paragraph 10(e)(i)(B) and
Paragraph 10(e)(i)(C), in which event the Submitted Bids of each such
Existing Holder shall be accepted, and each such Existing Holder shall
be required to sell outstanding AMPS, but only in an amount equal to
the difference between (1) the number of outstanding AMPS then held by
such Existing Holder subject to such Submitted Bid and (2) the number
of AMPS obtained by multiplying (x) the number of Remaining Shares by
(y) a fraction the numerator of which shall be the number of
outstanding shares of AMPS held by such Existing Holder subject to such
Submitted Bid and the denominator of which shall be the sum of the
numbers of outstanding AMPS subject to such Submitted Bids made by all
such Existing Holders that specified a rate per annum equal to the
Winning Bid Rate; and
(E) the Submitted Bid of each of the Potential Holders specifying a
rate per annum that is equal to the Winning Bid Rate shall be accepted
but only in an amount equal to the number of outstanding AMPS obtained
by multiplying (x) the difference between the Available AMPS and the
number of outstanding AMPS subject to Submitted Bids described in
Paragraph 10(e)(i)(B), Paragraph 10(e)(i)(C) and Paragraph 10(e)(i)(D)
by (y) a fraction the numerator of which shall be the number of
outstanding AMPS subject to such Submitted Bid and the denominator of
which shall be the sum of the number of outstanding AMPS subject to
such Submitted Bids made by all such Potential Holders that specified
rates per annum equal to the Winning Bid Rate.
(ii) If Sufficient Clearing Bids have not been made (other than because
all of the outstanding AMPS are subject to Submitted Hold Orders), subject
to the provisions of Paragraph 10(e)(iii), Submitted Orders shall be
accepted or rejected as follows in the following order of priority and all
other Submitted Bids shall be rejected:
(A) the Submitted Bid of each Existing Holder specifying any rate per
annum that is equal to or lower than the Maximum Applicable Rate shall
be rejected, thus entitling such Existing Holder to continue to hold
the outstanding AMPS that are the subject of such Submitted Bid;
(B) the Submitted Bid of each Potential Holder specifying any rate
per annum that is equal to or lower than the Maximum Applicable Rate
shall be accepted, thus requiring such Potential Holder to purchase the
outstanding AMPS that are the subject of such Submitted Bid; and
(C) the Submitted Bids of each Existing Holder specifying any rate
per annum that is higher than the Maximum Applicable Rate shall be
accepted and the Submitted Sell Orders of each Existing Holder shall be
accepted, in both cases only in an amount equal to the difference
between (1) the number of outstanding AMPS then held by such Existing
Holder subject to such Submitted Bid or Submitted Sell Order and (2)
the number of AMPS obtained by multiplying (x) the difference between
the Available AMPS and the aggregate number of outstanding AMPS subject
to Submitted Bids described in Paragraph 10(e)(ii)(A) and Paragraph
10(e)(ii)(B) by (y) a fraction the numerator of which shall be the
number of outstanding AMPS held by such Existing Holder subject to such
Submitted Bid or Submitted Sell Order and the denominator of which
shall be the number of outstanding AMPS subject to all such Submitted
Bids and Submitted Sell Orders.
(iii) If, as a result of the procedures described in Paragraph 10(e)(i)
or Paragraph 10(e)(ii), any Existing Holder would be entitled or required
to sell, or any Potential Holder would be entitled or required to
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purchase, a fraction of a share of AMPS on any Auction Date, the Auction
Agent shall, in such manner as in its sole discretion it shall determine,
round up or down the number of shares of AMPS to be purchased or sold by
any Existing Holder or Potential Holder on such Auction Date so that each
outstanding AMPS purchased or sold by each Existing Holder or Potential
Holder on such Auction Date shall be a whole share of AMPS.
(iv) If, as a result of the procedures described in Paragraph 10(e)(i),
any Potential Holder would be entitled or required to purchase less than a
whole share of AMPS on any Auction Date, the Auction Agent, in such manner
as in its sole discretion it shall determine, shall allocate shares of AMPS
for purchase among Potential Holders so that only whole shares of AMPS are
purchased on such Auction Date by any Potential Holder, even if such
allocation results in one or more of such Potential Holders not purchasing
any AMPS on such Auction Date.
(v) Based on the results of each Auction, the Auction Agent shall
determine, with respect to each Broker-Dealer that submitted Bids or Sell
Orders on behalf of Existing Holders or Potential Holders, the aggregate
number of the outstanding AMPS to be purchased and the aggregate number of
outstanding AMPS to be sold by such Potential Holders and Existing Holders
and, to the extent that such aggregate number of outstanding shares to be
purchased and such aggregate number of outstanding shares to be sold
differ, the Auction Agent shall determine to which other Broker-Dealer or
Broker-Dealers acting for one or more purchasers such Broker-Dealer shall
deliver, or from which other Broker-Dealer or Broker-Dealers acting for one
or more sellers such Broker-Dealer shall receive, as the case may be,
outstanding AMPS.
Paragraph 10(f) Miscellaneous.
The Fund may interpret the provisions of this Paragraph 10 to resolve any
inconsistency or ambiguity, remedy any formal defect or make any other change
or modification that does not substantially adversely affect the rights of
Beneficial Owners of AMPS. A Beneficial Owner or an Existing Holder (A) may
sell, transfer or otherwise dispose of AMPS only pursuant to a Bid or Sell
Order in accordance with the procedures described in this Paragraph 10 or to
or through a Broker-Dealer, provided that in the case of all transfers other
than pursuant to Auctions such Beneficial Owner or Existing Holder, its
Broker-Dealer, if applicable, or its Agent Member advises the Auction Agent of
such transfer and (B) except as otherwise required by law, shall have the
ownership of the AMPS held by it maintained in book entry form by the
Securities Depository in the account of its Agent Member, which in turn will
maintain records of such Beneficial Owner's beneficial ownership. Neither the
Fund nor any Affiliate (other than Merrill Lynch, Pierce, Fenner & Smith
Incorporated) shall submit an Order in any Auction. Any Beneficial Owner that
is an Affiliate (other than Merrill Lynch, Pierce, Fenner & Smith
Incorporated) shall not sell, transfer or otherwise dispose of AMPS to any
Person other than the Fund. All of the outstanding AMPS of a Series shall be
represented by a single certificate registered in the name of the nominee of
the Securities Depository unless otherwise required by law or unless there is
no Securities Depository. If there is no Securities Depository, at the Fund's
option and upon its receipt of such documents as it deems appropriate, any
AMPS may be registered in the Stock Register in the name of the Beneficial
Owner thereof and such Beneficial Owner thereupon will be entitled to receive
certificates therefor and required to deliver certificates thereof or upon
transfer or exchange thereof.
E-7
<PAGE>
PART C
OTHER INFORMATION
Item 24. Financial Statements And Exhibits.
(1) Financial Statements
Independent Auditors' Report
Statement of Assets, Liabilities and Capital as of January 13, 1999
Schedule of Investments as of February 26, 1999 (unaudited)
Financial Statements as of February 26, 1999 (unaudited)
(2) Exhibits:
<TABLE>
<C> <S>
(a)(1) --Declaration of Trust of the Registrant.(a)
(2) --Form of Certificate of Designation creating the Series A AMPS.
(b) --By-Laws of the Registrant.(a)
(c) --Not applicable.
(d)(1) --Portions of the Articles of Incorporation, By-Laws and the
Articles Supplementary of the Registrant defining the rights of
holders of shares of the Registrant.(b)
(2) --Form of specimen certificate for the AMPS of the Registrant.(d)
(e) --Form of Automatic Dividend Reinvestment Plan.(c)
(f) --Not applicable.
(g) --Form of Investment Advisory Agreement between the Registrant and
Fund Asset Management, L.P.(c)
(h)(1) --Form of Purchase Agreement for the AMPS.(d)
(2) --Merrill Lynch Standard Dealer Agreement.(c)
(i) --Not applicable.
(j) --Form of Custodian Contract between the Registrant and The Bank of
New York.(c)
(k)(1) --Form of Transfer Agency, Dividend Disbursing Agency and
Shareholder Servicing Agency Agreement between the Registrant and
The Bank of New York.(c)
(2) --Form of Auction Agent Agreement between the Registrant and IBJ
Whitehall Bank & Trust Company.(d)
(3) --Form of Broker-Dealer Agreement.(d)
(4) --Form of Letter of Representations.(d)
(l) --Opinion and Consent of Brown & Wood LLP, counsel to the
Registrant.
(m) --Not applicable.
(n) --Consent of Deloitte & Touche LLP, independent auditors for the
Registrant.
(o) --Not applicable.
(p) --Certificate of Fund Asset Management, L.P.(c)
(q) --Not applicable.
(r) --Financial Data Schedule.
</TABLE>
- --------
(a) Reference is made to the Registrant's registration statement on Form N-2,
File No. 333-68451 and 811-09133 (the "Common Share Registration
Statement") filed with the Securities and Exchange Commission (the "SEC")
on December 7, 1998.
(b) Reference is made to Section 3.4, Article V, Article VI (sections 1, 2, 3,
4, 5 and 7), Article VIII, Article IX and Article X of the Registrant's
Declaration of Trust, previously filed as Exhibit (a)(1) to the Common
Shares Registration Statement; and to Article II, Article III (sections 1,
2, 3, 5 and 17), Article VI, Article VII, Article XII, Article XIII and
Article XIV of the Registrant's By-Laws, previously filed as Exhibit (b)
to the Common Shares Registration Statement. Reference is also made to the
Form of Certificate of Designation filed hereto as Exhibit (a)(4).
(c) Reference is made to the Pre-Effective No. 1 to Registrant's Common Share
Registration Statement filed with the SEC on December 15, 1998.
(d) Reference is made to Registrant's Registration Statement on Form N-2 filed
with the Securities and Exchange Commission on January 11, 1999.
C-1
<PAGE>
Item 25. Marketing Arrangements.
See Exhibit (h).
Item 26. Other Expenses of Issuance and Distribution.
The following table sets forth the estimated expenses to be incurred in
connection with the offering described in this Registration Statement:
<TABLE>
<S> <C>
Registration fees................................................ $ 5,699
Printing......................................................... 54,000
Legal fees and expenses.......................................... 35,000
Accounting fees and expenses..................................... 7,000
Rating Agency fees............................................... 35,000
Miscellaneous.................................................... 3,301
--------
Total.......................................................... $140,000
========
</TABLE>
- --------
Item 27. Persons Controlled By or Under Common Control with Registrant.
The information in the Prospectus under the captions "Investment Advisory
and Management Arrangements" and "Description of Capital Shares--Common
Shares" and in Note 1 to the Statement of Assets, Liabilities and Capital is
incorporated herein by reference.
Item 28. Number of Holders of Securities.
<TABLE>
<CAPTION>
Number of
Record Holders
Title Of Class at February 26, 1999
-------------- --------------------
<S> <C>
Common Shares, $.10 par value......................... 2
Preferred Shares, $.10 par value...................... 0
</TABLE>
Item 29. Indemnification.
Section 5.3 of the Registrant's Declaration of Trust provides as follows:
"The Trust shall indemnify each of its Trustees, officers, employees, and
agents (including persons who serve at its request as directors, officers or
trustees of another organization in which it has any interest as a
shareholder, creditor or otherwise) against all liabilities and expenses
(including amounts paid in satisfaction of judgments, in compromise, as fines
and penalties, and as counsel fees) reasonably incurred by him in connection
with the defense or disposition of any action, suit or other proceeding,
whether civil or criminal, in which he may be involved or with which he may be
threatened, while in office or thereafter, by reason of his being or having
been such a trustee, officer, employee or agent, except with respect to any
matter as to which he shall have been adjudicated to have acted in bad faith,
willful misfeasance, gross negligence or reckless disregard of his duties;
provided, however, that as to any matter disposed of by a compromise payment
by such person, pursuant to a consent decree or otherwise, no indemnification
either for said payment or for any other expenses shall be provided unless the
Trust shall have received a written opinion from independent legal counsel
approved by the Trustees to the effect that if either the matter of willful
misfeasance, gross negligence or reckless disregard of duty, or the matter of
good faith and reasonable belief as to the best interests of the Trust, had
been adjudicated, it would have been adjudicated in favor of such person. The
rights accruing to any person under these provisions shall not exclude any
other right to which he may be lawfully entitled; provided that no person may
satisfy any right of indemnity or reimbursement granted herein or in Section
5.1 or to which he may be otherwise entitled except out of the property of the
Trust, and no Shareholder shall be personally liable to any person with
respect to any claim for indemnity or reimbursement or otherwise. The Trustees
may make advance payments in connection with indemnification under this
Section 5.3, provided that the indemnified person shall have given a written
undertaking to reimburse the Trust in the event it is subsequently determined
that he is not entitled to such indemnification."
C-2
<PAGE>
The Registrant's By-Laws provide that insofar as the conditional advancing
of indemnification moneys pursuant to Section 5.3 of the Declaration of Trust
for actions based upon the Investment Company Act of 1940 may be concerned,
such payments will be made only on the following conditions: (i) the advances
must be limited to amounts used, or to be used, for the preparation or
presentation of a defense to the action, including costs connected with the
preparation of a settlement; (ii) advances may be made only upon receipt of a
written promise by, or on behalf of, the recipient to repay that amount of the
advance which exceeds the amount to which it is ultimately determined he is
entitled to receive from the Registrant by reason of indemnification; and
(iii) (a) such promise must be secured by a surety bond, other suitable
insurance or an equivalent form of security which assures that any repayments
may be obtained by the Registrant without delay or litigation, which bond,
insurance or other form of security must be provided by the recipient of the
advance, or (b) a majority of a quorum of the Registrant's disinterested, non-
party Trustees, or an independent legal counsel in a written opinion, shall
determine, based upon a review of readily available facts, that the recipient
of the advance ultimately will be found entitled to indemnification.
In Section 8 of the Distribution Agreement relating to the securities being
offered hereby, the Registrant agrees to indemnify the Distributor and each
person, if any, who controls the Distributor within the meaning of the
Securities Act of 1933 (the "1933 Act"), against certain types of civil
liabilities arising in connection with the Registration Statement or
Prospectus.
Insofar as indemnification for liabilities arising under the Securities Act
of 1933, as amended (the "1933 Act") may be provided to trustees, officers and
controlling persons of the Fund, pursuant to the foregoing provisions or
otherwise, the Fund has been advised that in the opinion of the Securities and
Exchange Commission, such indemnification is against public policy as
expressed in the Act and is, therefore, unenforceable. In the event that a
claim for indemnification against such liabilities (other than the payment by
the Fund of expenses incurred or paid by a trustee, officer or controlling
person of the Fund in connection with any successful defense of any action,
suit or proceeding) is asserted by such director, officer or controlling
person in connection with the securities being registered, the Fund will,
unless in the opinion of its counsel the matter has been settled by
controlling precedent, submit to a court of appropriate jurisdiction the
question whether such indemnification by it is against public policy as
expressed in the Act and will be governed by the final adjudication of such
issue.
Reference is made to Section Six of the Purchase Agreement, a form of which
will be filed as Exhibit (h)(1) hereto, for provisions relating to the
indemnification of the underwriter.
Item 30. Business and Other Connections of The Investment Adviser.
Fund Asset Management, L.P. (the "Investment Adviser"), an affiliate of MLAM
acts as investment adviser for the following open-end registered investment
companies: CBA Money Fund, CMA Government Securities Fund, CMA Money Fund, CMA
Multi-State Municipal Series Trust, CMA Tax-Exempt Fund, CMA Treasury Fund,
The Corporate Fund Accumulation Program, Inc., Financial Institutions Series
Trust, Merrill Lynch Basic Value Fund, Inc., Merrill Lynch California
Municipal Series Trust, Merrill Lynch Corporate Bond Fund, Inc., Merrill Lynch
Corporate High Yield Fund, Inc., Merrill Lynch Emerging Tigers Fund, Inc.,
Merrill Lynch Federal Securities Trust, Merrill Lynch Funds for Institutions
Series, Merrill Lynch Multi-State Limited Maturity Municipal Series Trust,
Merrill Lynch Multi-State Municipal Series Trust, Merrill Lynch Municipal Bond
Fund, Inc., Merrill Lynch Phoenix Fund, Inc., Merrill Lynch Special Value
Fund, Inc., Merrill Lynch World Income Fund, Inc., and The Municipal Fund
Accumulation Program, Inc., and for the following closed-end registered
investment companies: Apex Municipal Fund, Inc., Corporate High Yield Fund,
Inc., Corporate High Yield Fund II, Inc., Corporate High Yield Fund III, Inc.,
Debt Strategies Fund, Inc., Debt Strategies Fund II, Inc., Debt Strategies
Fund III, Inc., Income Opportunities Fund 1999, Inc., Income Opportunities
Fund 2000, Inc., Merrill Lynch Municipal Strategy Fund, Inc., MuniAssets Fund,
Inc., MuniEnhanced Fund, Inc., MuniHoldings Fund, Inc., MuniHoldings Fund II,
Inc., MuniHoldings California Insured Fund, Inc., MuniHoldings California
Insured Fund II, Inc., MuniHoldings California Insured Fund III, Inc.,
MuniHoldings California Insured Fund IV, Inc.,
C-3
<PAGE>
MuniHoldings Florida Insured Fund, MuniHoldings Florida Insured Fund II,
MuniHoldings Florida Insured Fund III, MuniHoldings Florida Insured Fund IV,
MuniHoldings Insured Fund, Inc., MuniHoldings Insured Fund II, Inc.,
MuniHoldings Michigan Insured Fund, Inc., MuniHoldings New Jersey Insured
Fund, Inc., MuniHoldings New Jersey Insured Fund II, Inc., MuniHoldings New
Jersey Insured Fund III, Inc., MuniHoldings New York Fund, Inc., MuniHoldings
New York Insured Fund, Inc., MuniHoldings New York Insured Fund II, Inc.,
MuniHoldings New York Insured Fund III, Inc., MuniHoldings Pennsylvania
Insured Fund, MuniInsured Fund, Inc., MuniVest Florida Fund, MuniVest Fund,
Inc., MuniVest Fund II, Inc., MuniVest Michigan Insured Fund, Inc., MuniVest
New Jersey Fund, Inc., MuniVest Pennsylvania Insured Fund, MuniYield Arizona
Fund, Inc., MuniYield California Fund, Inc., MuniYield California Insured
Fund, Inc., MuniYield California Insured Fund II, Inc., MuniYield Florida
Fund, MuniYield Florida Insured Fund, MuniYield Fund, Inc., MuniYield Insured
Fund, Inc., MuniYield Michigan Fund, Inc., MuniYield Michigan Insured Fund,
Inc., MuniYield New Jersey Fund, Inc., MuniYield New Jersey Insured Fund,
Inc., MuniYield New York Insured Fund, Inc., MuniYield New York Insured Fund
II, Inc., MuniYield Pennsylvania Fund, MuniYield Quality Fund, Inc., MuniYield
Quality Fund II, Inc., Senior High Income Portfolio, Inc., and Worldwide
DollarVest Fund, Inc.
Merrill Lynch Asset Management, L.P. ("MLAM"), an affiliate of the
Investment Adviser, acts as the investment adviser for the following open-end
registered investment companies: Merrill Lynch Adjustable Rate Securities
Fund, Inc., Merrill Lynch Americas Income Fund, Inc., Merrill Lynch Asset
Builder Program, Inc., Merrill Lynch Asset Growth Fund, Inc., Merrill Lynch
Asset Income Fund, Inc., Merrill Lynch Capital Fund, Inc., Merrill Lynch
Convertible Fund, Inc., Merrill Lynch Developing Capital Markets Fund, Inc.,
Merrill Lynch Dragon Fund, Inc., Merrill Lynch EuroFund, Merrill Lynch
Fundamental Growth Fund, Inc., Merrill Lynch Global Bond Fund for Investment
and Retirement, Merrill Lynch Global Allocation Fund, Inc., Merrill Lynch
Global Growth Fund, Inc., Merrill Lynch Global Holdings, Merrill Lynch Global
Resources Trust, Merrill Lynch Global SmallCap Fund, Inc., Merrill Lynch
Global Technology Fund, Inc., Merrill Lynch Global Utility Fund, Inc., Merrill
Lynch Global Value Fund, Inc., Merrill Lynch Growth Fund, Merrill Lynch
Healthcare Fund, Inc., Merrill Lynch Intermediate Government Bond Fund,
Merrill Lynch International Equity Fund, Merrill Lynch Latin America Fund,
Inc., Merrill Lynch Middle East/Africa Fund, Inc., Merrill Lynch Municipal
Series Trust, Merrill Lynch Pacific Fund, Inc., Merrill Lynch Ready Assets
Trust, Merrill Lynch Real Estate Fund, Inc., Merrill Lynch Retirement Series
Trust, Merrill Lynch Series Fund, Inc., Merrill Lynch Short-Term Global Income
Fund, Inc., Merrill Lynch Strategic Dividend Fund, Merrill Lynch Technology
Fund, Inc., Merrill Lynch U.S. Treasury Money Fund, Merrill Lynch U.S.A.
Government Reserves, Merrill Lynch Utility Income Fund, Inc., Merrill Lynch
Variable Series Funds, Inc. and Hotchkis and Wiley Funds (advised by Hotchkis
and Wiley, a division of MLAM); and for the following closed-end registered
investment companies: Merrill Lynch High Income Municipal Bond Fund, Inc. and
Merrill Lynch Senior Floating Rate Fund, Inc. MLAM also acts as sub-adviser to
Merrill Lynch World Strategy Portfolio and Merrill Lynch Basic Equity
Portfolio, two investment portfolios of EQ Advisors Trust.
The address of each of these registered investment companies is P.O. Box
9011, Princeton, New Jersey 08543-9011, except that the address of Merrill
Lynch Funds for Institutions Series and Merrill Lynch Intermediate Government
Bond Fund is One Financial Center, 23rd Floor, Boston, Massachusetts 02111-
2665. The address of the Investment Adviser, MLAM, Princeton Services, Inc.
("Princeton Services") and Princeton Administrators, L.P. is also P.O. Box
9011, Princeton, New Jersey 08543-9011. The address of Princeton Funds
Distributor, Inc. ("PFD") and of Merrill Lynch Funds Distributor ("MLFD") is
P.O. Box 9081, Princeton, New Jersey 08543-9081. The address of Merrill Lynch,
Pierce, Fenner & Smith Incorporated ("Merrill Lynch") and Merrill Lynch & Co.,
Inc. ("ML & Co.") is World Financial Center, North Tower, 250 Vesey Street,
New York, New York 10281-1201.
C-4
<PAGE>
Set forth below is a list of each executive officer and partner of the
Investment Adviser indicating each business, profession, vocation or
employment of a substantial nature in which each such person or entity has
been engaged for the past two years for his or her or its own account or in
the capacity of director, officer, employee, partner or trustee. In addition,
Mr. Zeikel is President, Mr. Burke is Treasurer and Mr. Glenn is Executive
Vice President of all or substantially all of the investment companies
described in the first two paragraphs of this Item 30 and also hold the same
positions with all or substantially all of the investment companies advised by
MLAM as they do with those advised by the Investment Adviser. Messrs. Giordano
and Monagle are officers of one or more of such companies.
<TABLE>
<CAPTION>
Position with Other Substantial Business Profession,
Name Investment Adviser Vocation of Employment
---- ------------------ --------------------------------------
<C> <C> <S>
ML & Co. ................ Limited Partner Financial Services Holding Company;
Limited Partner of MLAM
Princeton Services....... General Partner General Partner of MLAM
Arthur Zeikel............ Chairman Chairman of MLAM; President of the
Investment Adviser and MLAM from 1977 to
1997; Chairman and Director of Princeton
Services; President of Princeton Services
from 1993 to 1997; Executive Vice
President of ML & Co.
Jeffrey M. Peek.......... President President of MLAM; President and Director
of Princeton Services; Executive Vice
President of ML & Co.; Managing Director
and Co-Head of the Investment Banking
Division of Merrill Lynch in 1997; Senior
Vice President and Director of the Global
Securities and Economics Division of
Merrill Lynch from 1995 to 1997.
Terry K. Glenn........... Executive Vice President Executive Vice President of MLAM;
Executive Vice President and Director of
Princeton Services; President and
Director of PFD; Director of Financial
Data Services, Inc.; President of
Princeton Administrators, L.P.
Donald C. Burke.......... Senior Vice President Senior Vice President, Treasurer and
and Treasurer Director of Taxation of MLAM; Senior Vice
President and Treasurer of Princeton
Services; Vice President of PFD; First
Vice President of MLAM from 1997 to 1999;
Vice President of MLAM from 1990 to 1997.
Michael G. Clark......... Senior Vice President Senior Vice President of MLAM; Senior
Vice President of Princeton Services;
Director and Treasurer of PFD; First Vice
President of MLAM from 1997 to 1999; Vice
President of MLAM from 1996 to 1997.
Mark A. Desario.......... Senior Vice President Senior Vice President of MLAM; Senior
Vice President of Princeton Services
Linda L. Federici........ Senior Vice President Senior Vice President of MLAM; Senior
Vice President of Princeton Services
Vincent R. Giordano...... Senior Vice President Senior Vice President of MLAM; Senior
Vice President of Princeton Services
Michael J. Hennewinkel... Senior Vice President,
General Counsel Senior Vice President, General Counsel
and Secretary and Secretary of MLAM; Senior Vice
President of Princeton Services
Philip L. Kirstein....... Senior Vice President Senior Vice President of MLAM; Senior
Vice President, Director and Secretary of
Princeton Services
Ronald M. Kloss.......... Senior Vice President Senior Vice President of MLAM; Senior
Vice President of Princeton Services
Debra W. Landsman-Yaros.. Senior Vice President Senior Vice President of MLAM; Senior
Vice President of Princeton Services;
Vice President of PFD
Stephen M. M. Miller..... Senior Vice President Executive Vice President of Princeton
Administrators, L.P.; Senior Vice
President of Princeton Services
Joseph T. Monagle, Jr. .. Senior Vice President Senior Vice President of MLAM; Senior
Vice President of Princeton Services
Brian A. Murdock......... Senior Vice President Senior Vice President of MLAM; Senior
Vice President of Princeton Services
Gregory D. Upah.......... Senior Vice President Senior Vice President of MLAM; Senior
Vice President of Princeton Services
Ronald L. Welburn........ Senior Vice President Senior Vice President of MLAM; Senior
Vice President of Princeton Services
</TABLE>
Item 31. Location of Account and Records.
All accounts, books and other documents required to be maintained by Section
31(a) of the Investment Company Act of 1940, as amended, and the Rules
promulgated thereunder are maintained at the offices of the Registrant (800
Scudders Mill Road, Plainsboro, New Jersey 08536), its investment adviser (800
Scudders Mill Road, Plainsboro, New Jersey 08536), and its custodian and
transfer agent.
C-5
<PAGE>
Item 32. Management Services.
Not applicable.
Item 33. Undertakings.
Registrant undertakes:
(1) For the purpose of determining any liability under the Securities Act
of 1933, the information omitted from the form of prospectus filed as a
part of a registration statement in reliance upon Rule 430A under the
Securities Act of 1933 and contained in the form of prospectus filed by the
Registrant pursuant to Rule 497(h) under the Securities Act of 1933 shall
be deemed to be part of the registration statement as of the time it was
declared effective.
(2) For the purpose of determining any liability under the Securities Act
of 1933, each post-effective amendment that contains a form of prospectus
shall be deemed to be a new registration statement relating to the
securities offered therein, and the offering of such securities at that
time shall be deemed to be the initial bona fide offering thereof.
C-6
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933 and the
Investment Company Act of 1940, the Registrant has duly caused this
Registration Statement to be signed on its behalf by the undersigned,
thereunto duly authorized, in the Township of Plainsboro, and State of New
Jersey, on the 2nd day of March, 1999.
MuniHoldings Pennsylvania Insured
Fund
(Registrant)
/s/ Arthur Zeikel
By
-----------------------------------
(Arthur Zeikel, President)
Each person whose signature appears below hereby authorizes Arthur Zeikel,
Terry K. Glenn or Gerald M. Richard, or any of them, as attorney-in-fact, to
sign on his or her behalf, individually and in each capacity stated below, any
amendment to this Registration Statement (including post-effective amendments)
and to file the same, with all exhibits thereto, with the Securities and
Exchange Commission.
Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed below by the following person in the
capacities and on the dates indicated.
<TABLE>
<S> <C>
</TABLE>
Signatures Title Date
/s/ Arthur Zeikel President (Principal
- ------------------------------------- Executive Officer) March 2, 1999
(Arthur Zeikel) and Trustee
/s/ Donald C. Burke Vice President and March 2, 1999
- ------------------------------------- Treasurer
(Donald C. Burke) (Principal
Financial and
Accounting Officer)
/s/ James H. Bodurtha Trustee
- ------------------------------------- March 2, 1999
(James H. Bodurtha)
/s/ Herbert I. London Trustee
- ------------------------------------- March 2, 1999
(Herbert I. London)
/s/ Robert R. Martin Trustee
- ------------------------------------- March 2, 1999
(Robert R. Martin)
/s/ Joseph L. May Trustee
- ------------------------------------- March 2, 1999
(Joseph L. May)
/s/ Andre F. Perold Trustee
- ------------------------------------- March 2, 1999
(Andre F. Perold)
C-7
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibits Description
-------- -----------
<C> <S>
(a)(2) Form of Certificate of Designation
(l) Opinion and Consent of Brown & Wood LLP, Counsel to Registrant
Consent of Deloitte & Touche LLP, independent auditors for the
(n) Registrant
(r) Financial Data Schedule
</TABLE>
<PAGE>
Exhibit 99(a)(2)
MUNIHOLDINGS PENNSYLVANIA INSURED FUND
CERTIFICATE OF DESIGNATION DATED MARCH, 1999
ESTABLISHING POWERS, QUALIFICATIONS, RIGHTS
AND PREFERENCES OF ONE SERIES OF AUCTION MARKET
PREFERRED SHARES ("AMPS(R)")
WHEREAS the Board of Trustees of MuniHoldings Pennsylvania Insured Fund
(the "Trust") is expressly empowered pursuant to Section 6.1 of the Trust's
Declaration of Trust to authorize the issuance of preferred shares of the Trust
in one or more series, with such preferences, powers, restrictions, limitations
or qualifications as determined by the Board of Trustees and as set forth in the
resolution or resolutions providing for the issuance of such preferred shares.
AND WHEREAS the Board of Trustees has determined that it is in the best
interests of the Trust to issue one series of such preferred shares.
NOW THEREFORE, the Board of Trustees does hereby authorize the issuance
of one series of preferred shares, par value $0.10 per share, liquidation
preference $25,000 per share plus an amount equal to accumulated but unpaid
dividends thereon (whether or not earned or declared), to be designated
respectively: Auction Market Preferred Shares, Series A.
The preferences, voting powers, restrictions, limitations as to
dividends, qualifications, and terms and conditions of redemption, of the
preferred shares are as follows:
DESIGNATION
Series A: A series of 820 preferred shares, par value $.10 per share,
liquidation preference $25,000 per share plus an amount equal to accumulated but
unpaid dividends (whether or not earned or declared) thereon, is hereby
designated "Auction Market Preferred Shares, Series A." Each Auction Market
Preferred Share, Series A (sometimes referred to herein as "Series A AMPS")
shall be issued on a date to be determined by the Board of Trustees of the Trust
or pursuant to their delegated authority; have an Initial Dividend Rate and an
Initial Dividend Payment Date as shall be determined in advance of the issuance
thereof by the Board of Trustees of the Trust or pursuant to their delegated
authority; and have such other preferences, voting powers, limitations as to
dividends, qualifications and terms and conditions of redemption
- ------------------------------
(R) Registered trademark of Merrill Lynch & Co., Inc.
<PAGE>
as are set forth in this Certificate of Designation. The Auction Market
Preferred Shares, Series A shall constitute a separate series of preferred
shares of the Trust, and each Auction Market Preferred Share, Series A shall be
identical.
1. Definitions. (a) Unless the context or use indicates another or
-----------
different meaning or intent, in this Certificate of Designation the following
terms have the following meanings, whether used in the singular or plural:
"AA" Composite Commercial Paper Rate," on any date of determination,
means (i) the Interest Equivalent of the rate on commercial paper placed on
behalf of issuers whose corporate bonds are rated "AA" by S&P or "Aa" by Moody's
or the equivalent of such rating by another nationally recognized rating agency,
as such rate is made available on a discount basis or otherwise by the Federal
Reserve Bank of New York for the Business Day immediately preceding such date,
or (ii) in the event that the Federal Reserve Bank of New York does not make
available such a rate, then the arithmetic average of the Interest Equivalent of
the rate on commercial paper placed on behalf of such issuers, as quoted on a
discount basis or otherwise by Merrill Lynch, Pierce, Fenner & Smith
Incorporated or its successors that are Commercial Paper Dealers, to the Auction
Agent for the close of business on the Business Day immediately preceding such
date. If one of the Commercial Paper Dealers does not quote a rate required to
determine the "AA" Composite Commercial Paper Rate, the "AA" Composite
Commercial Paper Rate will be determined on the basis of the quotation or
quotations furnished by any Substitute Commercial Paper Dealer or Substitute
Commercial Paper Dealers selected by the Trust to provide such rate or rates not
being supplied by the Commercial Paper Dealer. If the number of Dividend Period
days shall be (i) 7 or more but fewer than 49 days, such rate shall be the
Interest Equivalent of the 30-day rate on such commercial paper; (ii) 49 or more
but fewer than 70 days, such rate shall be the Interest Equivalent of the 60-day
rate on such commercial paper; (iii) 70 or more days but fewer than 85 days,
such rate shall be the arithmetic average of the Interest Equivalent on the
60-day and 90-day rates on such commercial paper; (iv) 85 or more days but fewer
than 99 days, such rate shall be the Interest Equivalent of the 90-day rate on
such commercial paper; (v) 99 or more days but fewer than 120 days, such rate
shall be the arithmetic average of the Interest Equivalent of the 90-day and
120-day rates on such commercial paper; (vi) 120 or more days but fewer than 141
days, such rate shall be the Interest Equivalent of the 120-day rate on such
commercial paper; (vii) 141 or more days but fewer than
2
<PAGE>
162 days, such rate shall be the arithmetic average of the Interest Equivalent
of the 120-day and 180-day rates on such commercial paper; and (viii) 162 or
more days but fewer than 183 days, such rate shall be the Interest Equivalent of
the 180-day rate on such commercial paper.
"Accountant's Confirmation" has the meaning set forth in paragraph 7(c) of
this Certificate of Designation.
"Additional Dividend" has the meaning set forth in paragraph 2(e) of this
Certificate of Designation.
"Adviser" means the Trust's investment adviser which initially shall be
Fund Asset Management, L.P.
"Affiliate" means any Person, other than Merrill Lynch, Pierce, Fenner &
Smith Incorporated or its successors, known to the Auction Agent to be
controlled by, in control of, or under common control with, the Trust.
"Agent Member" means a member of the Securities Depository that will act on
behalf of a Beneficial Owner of one or more AMPS or a Potential Beneficial
Owner.
"AMPS" means the Auction Market Preferred Shares, Series A.
"AMPS Basic Maintenance Amount," as of any Valuation Date, means the dollar
amount equal to (i) the sum of (A) the product of the number of AMPS of each
series and Other AMPS Outstanding on such Valuation Date multiplied by the sum
of (a) $25,000 and (b) any applicable redemption premium attributable to the
designation of a Premium Call Period; (B) the aggregate amount of cash dividends
(whether or not earned or declared) that will have accumulated for each share of
AMPS and Other AMPS Outstanding, in each case, to (but not including) the end of
the current Dividend Period that follows such Valuation Date in the event the
then current Dividend Period will end within 49 calendar days of such Valuation
Date or through the 49th day after such Valuation Date in the event the then
current Dividend Period will not end within 49 calendar days of such Valuation
Date; (C) in the event the then current Dividend Period will end within 49
calendar days of such Valuation Date, the aggregate amount of cash dividends
that would accumulate at the Maximum Applicable Rate applicable to a Dividend
Period of 28 or fewer days on any AMPS and Other AMPS Outstanding from the end
of such Dividend Period through the 49th day after such Valuation Date,
multiplied by the larger of the Moody's
3
<PAGE>
Volatility Factor and the S&P Volatility Factor, determined from time to time by
Moody's and S&P, respectively (except that if such Valuation Date occurs during
a Non-Payment Period, the cash dividend for purposes of calculation would
accumulate at the then current Non-Payment Period Rate); (D) the amount of
anticipated expenses of the Trust for the 90 days subsequent to such Valuation
Date (including any premiums payable with respect to a Policy); (E) the amount
of the Trust's Maximum Potential Additional Dividend Liability as of such
Valuation Date; and (F) any current liabilities as of such Valuation Date to the
extent not reflected in any of (i)(A) through (i)(E) (including, without
limitation, and immediately upon determination, any amounts due and payable by
the Trust pursuant to repurchase agreements and any amounts payable for
Pennsylvania Municipal Bonds or Municipal Bonds purchased as of such Valuation
Date) less (ii) either (A) the Discounted Value of any of the Trust's assets, or
(B) the face value of any of the Trust's assets if such assets mature prior to
or on the date of redemption of AMPS or payment of a liability and are either
securities issued or guaranteed by the United States Government or Deposit
Securities, in both cases irrevocably deposited by the Trust for the payment of
the amount needed to redeem AMPS subject to redemption or to satisfy any of
(i)(B) through (i)(F). For Moody's and S&P, the Trust shall include as a
liability an amount calculated semi-annually equal to 150% of the estimated cost
of obtaining other insurance guaranteeing the timely payment of interest on a
Moody's Eligible Asset or S&P Eligible Asset and principal thereof to maturity
with respect to Moody's Eligible Assets and S&P Eligible Assets that (i) are
covered by a Policy which provides the Trust with the option to obtain such
other insurance and (ii) are discounted by a Moody's Discount Factor or an S&P
Discount Factor determined, as the case may be, by reference to the insurance
claims-paying ability rating of the issuer of such Policy.
"AMPS Basic Maintenance Cure Date," with respect to the failure by the
Trust to satisfy the AMPS Basic Maintenance Amount (as required by paragraph
7(a) of this Certificate of Designation) as of a given Valuation Date, means the
sixth Business Day following such Valuation Date.
"AMPS Basic Maintenance Report" means a report signed by any of the
President, Treasurer, any Senior Vice President or any Vice President of the
Trust which sets forth, as of the related Valuation Date, the assets of the
Trust, the Market Value and the Discounted Value thereof (seriatim and in
aggregate), and the AMPS Basic Maintenance Amount.
4
<PAGE>
"Anticipation Notes" shall mean the following Pennsylvania Municipal Bonds:
revenue anticipation notes, tax anticipation notes, tax and revenue anticipation
notes, grant anticipation notes and bond anticipation notes.
"Applicable Percentage" has the meaning set forth in paragraph 10(a)(vii)
of this Certificate of Designation.
"Applicable Rate" means the rate per annum at which cash dividends are
payable on the AMPS or Other AMPS, as the case may be, for any Dividend Period.
"Auction" means a periodic operation of the Auction Procedures.
"Auction Agent" means IBJ Whitehall Bank & Trust Company unless and until
another commercial bank, trust company or other financial institution appointed
by a resolution of the Board of Trustees of the Trust or a duly authorized
committee thereof enters into an agreement with the Trust to follow the Auction
Procedures for the purpose of determining the Applicable Rate and to act as
transfer agent, registrar, dividend disbursing agent and redemption agent for
the AMPS and Other AMPS.
"Auction Procedures" means the procedures for conducting Auctions set forth
in paragraph 10 of this Certificate of Designation.
"Beneficial Owner" means a customer of a Broker-Dealer who is listed on the
records of that Broker-Dealer (or, if applicable, the Auction Agent) as a holder
of AMPS or a Broker-Dealer that holds AMPS for its own account.
"Broker-Dealer" means any broker-dealer, or other entity permitted by law
to perform the functions required of a Broker-Dealer in paragraph 10 of this
Certificate of Designation, that has been selected by the Trust and has entered
into a Broker-Dealer Agreement with the Auction Agent that remains effective.
"Broker-Dealer Agreement" means an agreement between the Auction Agent and
a Broker-Dealer pursuant to which such Broker-Dealer agrees to follow the
procedures specified in paragraph 10 of this Certificate of Designation.
"Business Day" means a day on which the New York Stock Exchange, Inc. is
open for trading and which is not a Saturday, Sunday or other day on which banks
in The City of New York are authorized or obligated by law to close.
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<PAGE>
"Code" means the Internal Revenue Code of 1986, as amended.
"Commercial Paper Dealers" means Merrill Lynch, Pierce, Fenner & Smith
Incorporated and such other commercial paper dealer or dealers as the Trust may
from time to time appoint, or, in lieu of any thereof, their respective
affiliates or successors.
"Common Shares" means the common shares of beneficial interest, par value
$.10 per share, of the Trust.
"Date of Original Issue" means, with respect to any share of AMPS or Other
AMPS, the date on which the Trust originally issues such share.
"Declaration" means the Declaration of Trust, as amended and supplemented
(including this Certificate of Designation), of the Trust on file with the
office of the Secretary of State of the Commonwealth of Massachusetts.
"Deposit Securities" means cash and Pennsylvania Municipal Bonds and
Municipal Bonds rated at least A2 (having a remaining maturity of 12 months or
less), P-1, VMIG-1 or MIG-1 by Moody's or A (having a remaining maturity of 12
months or less), A-1+ or SP-1+ by S&P.
"Discounted Value" means (i) with respect to an S&P Eligible Asset, the
quotient of the Market Value thereof divided by the applicable S&P Discount
Factor and (ii) with respect to a Moody's Eligible Asset, the lower of par and
the quotient of the Market Value thereof divided by the applicable Moody's
Discount Factor.
"Dividend Payment Date," with respect to AMPS, has the meaning set forth in
paragraph 2(b)(i) of this Certificate of Designation and, with respect to Other
AMPS, has the equivalent meaning.
"Dividend Period" means the Initial Dividend Period, any 7-Day Dividend
Period and any Special Dividend Period.
"Existing Holder" means a Broker-Dealer or any such other Person as may be
permitted by the Trust that is listed as the holder of record of AMPS in the
Share Books.
"Fitch" means Fitch IBCA, Inc. or its successors.
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<PAGE>
"Forward Commitment" has the meaning set forth in paragraph 8(c) of this
Certificate of Designation.
"Holder" means a Person identified as a holder of record of AMPS in the
Share Register.
"Independent Accountant" means a nationally recognized accountant, or firm
of accountants, that is, with respect to the Trust, an independent public
accountant or firm of independent public accountants under the Securities Act of
1933, as amended.
"Initial Dividend Payment Date" means the Initial Dividend Payment Date as
determined by the Board of Trustees of the Trust with respect to each series of
AMPS or Other AMPS, as the case may be.
"Initial Dividend Period," with respect to each series of AMPS, has the
meaning set forth in paragraph 2(c)(i) of this Certificate of Designation and,
with respect to Other AMPS, has the equivalent meaning.
"Initial Dividend Rate," with respect to each series of AMPS, means the
rate per annum applicable to the Initial Dividend Period for such series of AMPS
and, with respect to Other AMPS, has the equivalent meaning.
"Initial Margin" means the amount of cash or securities deposited with a
broker as a margin payment at the time of purchase or sale of a futures
contract.
"Interest Equivalent" means a yield on a 360-day basis of a discount basis
security which is equal to the yield on an equivalent interest-bearing security.
"Inverse Floaters" means trust certificates or other instruments evidencing
interests in one or more Pennsylvania Municipal Bonds that are S&P Eligible
Assets the interest rates on which are adjusted at short term intervals on a
basis that is inverse to the simultaneous readjustment of the interest rates on
corresponding floating rate trust certificates or other instruments issued by
the same issuer, provided that the ratio of the aggregate dollar amount of
floating rate instruments to inverse floating rate instruments issued by the
same issuer does not exceed one to one at their time of original issuance unless
the floating instruments have only one reset remaining until maturity.
"Long Term Dividend Period" means a Special Dividend Period consisting of a
specified period of one whole year or more but not greater than five years.
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<PAGE>
"Mandatory Redemption Price" means $25,000 per share of AMPS plus an amount
equal to accumulated but unpaid dividends (whether or not earned or declared) to
the date fixed for redemption and excluding Additional Dividends.
"Marginal Tax Rate" means the maximum marginal regular Federal individual
income tax rate applicable to ordinary income or the maximum marginal regular
Federal corporate income tax rate, whichever is greater.
"Market Value" of any asset of the Trust shall be the market value
thereof determined by the Pricing Service. Market Value of any asset shall
include any interest accrued thereon. The Pricing Service shall value portfolio
securities at the quoted bid prices or the mean between the quoted bid and asked
price or the yield equivalent when quotations are not readily available.
Securities for which quotations are not readily available shall be valued at
fair value as determined by the Pricing Service using methods which include
consideration of: yields or prices of municipal bonds of comparable quality,
type of issue, coupon, maturity and rating; indications as to value from
dealers; and general market conditions. The Pricing Service may employ
electronic data processing techniques and/or a matrix system to determine
valuations. In the event the Pricing Service is unable to value a security, the
security shall be valued at the lower of two dealer bids obtained by the Trust
from dealers who are members of the National Association of Securities Dealers,
Inc. and who make a market in the security, at least one of which shall be in
writing. Futures contracts and options are valued at closing prices for such
instruments established by the exchange or board of trade on which they are
traded, or if market quotations are not readily available, are valued at fair
value on a consistent basis using methods determined in good faith by the Board
of Trustees.
"Maximum Applicable Rate," with respect to AMPS, has the meaning set forth
in paragraph 10(a)(vii) of this Certificate of Designation and, with respect to
Other AMPS, has the equivalent meaning.
"Maximum Potential Additional Dividend Liability," as of any Valuation
Date, means the aggregate amount of Additional Dividends that would be due if
the Trust were to make Retroactive Taxable Allocations, with respect to any
fiscal year, estimated based upon dividends paid and the amount of undistributed
realized net capital gains and other taxable income earned
8
<PAGE>
by the Trust, as of the end of the calendar month immediately preceding such
Valuation Date and assuming such Additional Dividends are fully taxable.
"Moody's" means Moody's Investors Service, Inc. or its successors.
"Moody's Discount Factor" means, for purposes of determining the Discounted
Value of any Pennsylvania Municipal Bond or Municipal Bond which constitutes a
Moody's Eligible Asset, the percentage determined by reference to (a)(i) the
rating by Moody's or S&P on such Bond or (ii) in the event the Moody's Eligible
Asset is insured under a Policy and the terms of the Policy permit the Trust, at
its option, to obtain other insurance guaranteeing the timely payment of
interest on such Moody's Eligible Asset and principal thereof to maturity, the
Moody's insurance claims-paying ability rating of the issuer of the Policy or
(iii) in the event the Moody's Eligible Asset is insured under an insurance
policy which guarantees the timely payment of interest on such Moody's Eligible
Asset and principal thereof to maturity, the Moody's insurance claims-paying
ability rating of the issuer of the insurance policy (provided that for purposes
of clauses (ii) and (iii) if the insurance claims-paying ability of an issuer of
a Policy or insurance policy is not rated by Moody's but is rated by S&P, such
issuer shall be deemed to have a Moody's insurance claims-paying ability rating
which is two full categories lower than the S&P insurance claims-paying ability
rating) and (b) the Moody's Exposure Period, in accordance with the table set
forth below:
<TABLE>
<CAPTION>
Rating Category
----------------------------------------------------------
Moody's Exposure Period Aaa* Aa* A* Baa* Other** VMIG-1*** SP-1+***
----------------------- ---- --- -- ---- ------- --------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
7 weeks or less.......................... 151% 159% 168% 202% 229% 136% 148%
8 weeks or less but
greater than seven weeks................. 154 164 173 205 235 137 149
9 weeks or less but
greater than eight weeks................. 158 169 179 209 242 138 150
</TABLE>
* Moody's rating.
** Pennsylvania Municipal Bonds and Municipal Bonds not rated by Moody's but
rated BBB or BBB+ by S&P.
*** Pennsylvania Municipal Bonds and Municipal Bonds rated MIG-1, VMIG-1 or P-1
or, if not rated by Moody's, rated SP-1+ or A-1+ by S&P which do not mature
or have a demand feature at par exercisable within the Moody's Exposure
Period and which do not have a long-term rating. For the purposes of the
definition of Moody's Eligible Assets, these securities will have an
assumed rating of "A" by Moody's.
; provided, however, in the event a Moody's Discount Factor applicable to a
Moody's Eligible Asset is determined by reference to an insurance
claims-paying ability rating in accordance with clause (a)(ii) or (a)(iii),
such Moody's Discount Factor shall be increased by an amount equal to 50%
of the difference between (a) the percentage set forth in the foregoing
table under the
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<PAGE>
applicable rating category and (b) the percentage set forth in the foregoing
table under the rating category which is one category lower than the applicable
rating category.
Notwithstanding the foregoing, (i) no Moody's Discount Factor will be
applied to short-term Pennsylvania Municipal Bonds and short-term Municipal
Bonds, so long as such Pennsylvania Municipal Bonds and Municipal Bonds are
rated at least MIG-1, VMIG-1 or P-1 by Moody's and mature or have a demand
feature at par exercisable within the Moody's Exposure Period, and the Moody's
Discount Factor for such Bonds will be 125% if such Bonds are not rated by
Moody's but are rated A-1+ or SP-1+ or AA by S&P and mature or have a demand
feature at par exercisable within the Moody's Exposure Period, and (ii) no
Moody's Discount Factor will be applied to cash or to Receivables for
Pennsylvania Municipal Bonds or Municipal Bonds Sold. "Receivables for
Pennsylvania Municipal Bonds or Municipal Bonds Sold," for purposes of
calculating Moody's Eligible Assets as of any Valuation Date, means no more than
the aggregate of the following: (i) the book value of receivables for
Pennsylvania Municipal Bonds or Municipal Bonds sold as of or prior to such
Valuation Date if such receivables are due within five Business Days of such
Valuation Date, and if the trades which generated such receivables are (x)
settled through clearing house firms with respect to which the Trust has
received prior written authorization from Moody's or (y) with counterparties
having a Moody's long-term debt rating of at least Baa3; and (ii) the Moody's
Discounted Value of Pennsylvania Municipal Bonds or Municipal Bonds sold as of
or prior to such Valuation Date which generated receivables, if such receivables
are due within five Business Days of such Valuation Date but do not comply with
either of conditions (x) or (y) of the preceding clause (i).
"Moody's Eligible Asset" means cash, Receivables for Pennsylvania
Municipal Bonds or Municipal Bonds Sold, a Pennsylvania Municipal Bond or a
Municipal Bond that (i) pays interest in cash, (ii) is publicly rated Baa or
higher by Moody's or, if not rated by Moody's but rated by S&P, is rated at
least BBB by S&P (provided that, for purposes of determining the Moody's
Discount Factor applicable to any such S&P-rated Pennsylvania Municipal Bond or
S&P-rated Municipal Bond, such Pennsylvania Municipal Bond or Municipal Bond
(excluding any short-term Pennsylvania Municipal Bond or Municipal Bond) will be
deemed to have a Moody's rating which is one full rating category lower than its
S&P rating), (iii) does not have its Moody's rating suspended by Moody's; and
(iv) is part of an issue of Pennsylvania Municipal
10
<PAGE>
Bonds or Municipal Bonds of at least $10,000,000. In addition, Pennsylvania
Municipal Bonds and Municipal Bonds in the Trust's portfolio must be within the
following diversification requirements in order to be included within Moody's
Eligible Assets:
<TABLE>
<CAPTION>
Maximum
Minimum Maximum Maximum Maximum State or
Issue Size Underlying Issue Type County Territory
Rating ($ Millions) Obligor (%)(1) Concentration (%)(1)(3) Concentration (%)(1)(4) Concentration(1)(5)
- ------ ------------ -------------- ----------------------- ----------------------- -------------------
<S> <C> <C> <C> <C> <C>
Aaa............... 10 100 100 100 100
Aa................ 10 20 60 60 60
A................. 10 10 40 40 40
Baa............... 10 6 20 20 20
Other(2).......... 10 4 12 12 12
</TABLE>
- -------------------------
(1) The referenced percentages represent maximum cumulative totals for the
related rating category and each lower rating category.
(2) Pennsylvania Municipal Bonds and Municipal Bonds not rated by Moody's but
rated BBB or BBB+ by S&P.
(3) Does not apply to general obligation bonds.
(4) Applicable to general obligation bonds only.
(5) Does not apply to Pennsylvania Municipal Bonds. Territorial bonds (other
than those issued by Puerto Rico and counted collectively) are each limited
to 10% of Moody's Eligible Assets. For diversification purposes, Puerto
Rico will be treated as a state.
For purposes of the maximum underlying obligor requirement described above, any
Pennsylvania Municipal Bond or Municipal Bond backed by the guaranty, letter of
credit or insurance issued by a third party will be deemed to be issued by such
third party if the issuance of such third party credit is the sole determinant
of the rating on such Bond. For purposes of the issue type concentration
requirement described above, Pennsylvania Municipal Bonds and Municipal Bonds
will be classified within one of the following categories: health care issues
(teaching and non-teaching hospitals, public and private), housing issues
(single- and multi-family), educational facilities issues (public and private
schools), student loan issues, resource recovery issues, transportation issues
(mass transit, airport and highway bonds), industrial revenue/pollution control
bond issues, utility issues (including water, sewer and electricity), general
obligation issues, lease obligations/certificates of participation, escrowed
bonds and other issues ("Other Issues") not falling within one of the
aforementioned categories (includes special obligations to crossover, excise and
sales tax revenue, recreation revenue, special assessment and telephone revenue
bonds). In no event shall (a) more than 10% of Moody's Eligible Assets consist
of student loan issues, (b) more than 10% of Moody's Eligible Assets consist of
resource recovery issues or (c) more than 10% of Moody's Eligible Assets consist
of Other Issues.
When the Trust sells a Pennsylvania Municipal Bond or Municipal Bond
and agrees to repurchase it at a future date, the Discounted Value of such Bond
will constitute a Moody's Eligible Asset and the amount the Trust is required to
pay upon repurchase of such Bond will
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<PAGE>
count as a liability for purposes of calculating the AMPS Basic Maintenance
Amount. When the Trust purchases a Pennsylvania Municipal Bond or Municipal Bond
and agrees to sell it at a future date to another party, cash receivable by the
Trust thereby will constitute a Moody's Eligible Asset if the long-term debt of
such other party is rated at least A2 by Moody's and such agreement has a term
of 30 days or less; otherwise the Discounted Value of such Bond will constitute
a Moody's Eligible Asset.
Notwithstanding the foregoing, an asset will not be considered a
Moody's Eligible Asset if it is (i) held in a margin account, (ii) subject to
any material lien, mortgage, pledge, security interest or security agreement of
any kind, (iii) held for the purchase of a security pursuant to a Forward
Commitment or (iv) irrevocably deposited by the Trust for the payment of
dividends or redemption.
"Moody's Exposure Period" means a period that is the same length or
longer than the number of days used in calculating the cash dividend component
of the AMPS Basic Maintenance Amount and shall initially be the period
commencing on and including a given Valuation Date and ending 48 days
thereafter.
"Moody's Hedging Transactions" has the meaning set forth in paragraph
8(b) of this Certificate of Designation.
"Moody's Volatility Factor" means 272% as long as there has been no
increase enacted to the Marginal Tax Rate. If such an increase is enacted but
not yet implemented, the Moody's Volatility Factor shall be as follows:
% Change in
Marginal Tax Moody's Volatility
Rate Factor
------------ ------
less than or equal to 5% 292%
greater than 5% but less than or equal to 10% 313%
greater than 10% but less than or equal to 15% 338%
greater than 15% but less than or equal to 20% 364%
greater than 20% but less than or equal to 25% 396%
greater than 25% but less than or equal to 30% 432%
greater than 30% but less than or equal to 35% 472%
greater than 35% but less than or equal to 40% 520%
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<PAGE>
Notwithstanding the foregoing, the Moody's Volatility Factor may mean such other
potential dividend rate increase factor as Moody's advises the Trust in writing
is applicable.
"Municipal Bonds" means "Municipal Bonds" as defined in the Trust's
Registration Statement on Form N-2 (File No. 333-70425) relating to the AMPS on
file with the Securities and Exchange Commission, as such Registration Statement
may be amended from time to time, as well as short-term municipal obligations
and Inverse Floaters.
"Municipal Index" has the meaning set forth in paragraph 8(a) of this
Certificate of Designation.
"1940 Act" means the Investment Company Act of 1940, as amended from time
to time.
"1940 Act AMPS Asset Coverage" means asset coverage, as defined in section
18(h) of the 1940 Act, of at least 200% with respect to all outstanding senior
securities of the Trust which are shares of beneficial interest, including all
outstanding AMPS and Other AMPS (or such other asset coverage as may in the
future be specified in or under the 1940 Act as the minimum asset coverage for
senior securities which are stock of a closed-end investment company as a
condition of paying dividends on its common stock).
"1940 Act Cure Date," with respect to the failure by the Trust to maintain
the 1940 Act AMPS Asset Coverage (as required by paragraph 6 of this Certificate
of Designation) as of the last Business Day of each month, means the last
Business Day of the following month.
"Non-Call Period" has the meaning set forth under the definition of
"Specific Redemption Provisions."
"Non-Payment Period" means, with respect to the AMPS, any period commencing
on and including the day on which the Trust shall fail to (i) declare, prior to
the close of business on the second Business Day preceding any Dividend Payment
Date, for payment on or (to the extent permitted by paragraph 2(c)(i) of this
Certificate of Designation) within three Business Days after such Dividend
Payment Date to the Holders as of 12:00 noon, New York City time, on the
Business Day preceding such Dividend Payment Date, the full amount of any
dividend on AMPS payable on such Dividend Payment Date or (ii) deposit,
irrevocably in trust, in same-day funds,
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<PAGE>
with the Auction Agent by 12:00 noon, New York City time, (A) on such Dividend
Payment Date the full amount of any cash dividend on such shares payable (if
declared) on such Dividend Payment Date or (B) on any redemption date for any
AMPS called for redemption, the Mandatory Redemption Price per share of such
AMPS or, in the case of an optional redemption, the Optional Redemption Price
per share, and ending on and including the Business Day on which, by 12:00 noon,
New York City time, all unpaid cash dividends and unpaid redemption prices shall
have been so deposited or shall have otherwise been made available to Holders in
same-day funds; provided that, a Non-Payment Period shall not end unless the
Trust shall have given at least five days' but no more than 30 days' written
notice of such deposit or availability to the Auction Agent, all Existing
Holders (at their addresses appearing in the Share Books) and the Securities
Depository. Notwithstanding the foregoing, the failure by the Trust to deposit
funds as provided for by clauses (ii)(A) or (ii)(B) above within three Business
Days after any Dividend Payment Date or redemption date, as the case may be, in
each case to the extent contemplated by paragraph 2(c)(i) of this Certificate of
Designation, shall not constitute a "Non-Payment Period."
"Non-Payment Period Rate" means, initially, 200% of the applicable
Reference Rate (or 275% of such rate if the Trust has provided notification to
the Auction Agent prior to the Auction establishing the Applicable Rate for any
dividend pursuant to paragraph 2(f) hereof that net capital gains or other
taxable income will be included in such dividend on AMPS), provided that the
Board of Trustees of the Trust shall have the authority to adjust, modify, alter
or change from time to time the initial Non-Payment Period Rate if the Board of
Trustees of the Trust determines and Moody's and S&P (and any Substitute Rating
Agency in lieu of Moody's or S&P in the event either of such parties shall not
rate the AMPS) advise the Trust in writing that such adjustment, modification,
alteration or change will not adversely affect their then-current ratings on the
AMPS.
"Normal Dividend Payment Date" has the meaning set forth in paragraph
2(b)(i) of this Certificate of Designation.
"Notice of Redemption" means any notice with respect to the redemption of
AMPS pursuant to paragraph 4 of this Certificate of Designation.
"Notice of Revocation" has the meaning set forth in paragraph 2(c)(iii) of
this Certificate of Designation.
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<PAGE>
"Notice of Special Dividend Period" has the meaning set forth in paragraph
2(c)(iii) of this Certificate of Designation.
"Optional Redemption Price" means $25,000 per share plus an amount equal to
accumulated but unpaid dividends (whether or not earned or declared) to the date
fixed for redemption and excluding Additional Dividends plus any applicable
redemption premium attributable to the designation of a Premium Call Period.
"Other AMPS" means the auction rate preferred shares of the Trust, other
than the AMPS.
"Outstanding" means, as of any date (i) with respect to AMPS, AMPS
theretofore issued by the Trust except, without duplication, (A) any AMPS
theretofore cancelled or delivered to the Auction Agent for cancellation, or
redeemed by the Trust, or as to which a Notice of Redemption shall have been
given and Deposit Securities shall have been deposited in trust or segregated by
the Trust pursuant to paragraph 4(c) and (B) any AMPS as to which the Trust or
any Affiliate thereof shall be a Beneficial Owner, provided that AMPS held by an
Affiliate shall be deemed outstanding for purposes of calculating the AMPS Basic
Maintenance Amount and (ii) with respect to other Preferred Shares, has the
equivalent meaning.
"Parity Shares" means the AMPS and each other outstanding series of
Preferred Shares the holders of which, together with the holders of the AMPS,
shall be entitled to the receipt of dividends or of amounts distributable upon
liquidation, dissolution or winding up, as the case may be, in proportion to the
full respective preferential amounts to which they are entitled, without
preference or priority one over the other.
"Pennsylvania Municipal Bonds" means Municipal Bonds issued by or on behalf
of the Commonwealth of Pennsylvania, its political subdivisions, agencies and
instrumentalities and by other qualifying issuers that pay interest which, in
the opinion of bond counsel to the issuer, is exempt from Federal and
Pennsylvania income taxes, and includes Inverse Floaters.
"Person" means and includes an individual, a partnership, a corporation, a
trust, an unincorporated association, a joint venture or other entity or a
government or any agency or political subdivision thereof.
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<PAGE>
"Policy" means an insurance policy purchased by the Trust which
guarantees the payment of principal and interest on specified Pennsylvania
Municipal Bonds or Municipal Bonds during the period in which such Pennsylvania
Municipal Bonds or Municipal Bonds are owned by the Trust; provided, however,
that, as long as the AMPS are rated by Moody's and S&P, the Trust will not
obtain any Policy unless Moody's and S&P advise the Trust in writing that the
purchase of such Policy will not adversely affect their then-current rating on
the AMPS.
"Potential Beneficial Owner" means a customer of a Broker-Dealer or a
Broker-Dealer that is not a Beneficial Owner of AMPS but that wishes to purchase
such shares, or that is a Beneficial Owner that wishes to purchase additional
AMPS.
"Potential Holder" means any Broker-Dealer or any such other Person as may
be permitted by the Trust, including any Existing Holder, who may be interested
in acquiring AMPS (or, in the case of an Existing Holder, additional AMPS).
"Preferred Shares" means the preferred shares of beneficial interest, par
value $.10 per share, of the Trust, and includes AMPS and Other AMPS.
"Premium Call Period" has the meaning set forth under the definition of
"Specific Redemption Provisions."
"Pricing Service" means J.J. Kenny or any pricing service designated by the
Board of Trustees of the Trust provided the Trust obtains written assurance from
S&P and Moody's that such designation will not impair the rating then assigned
by S&P and Moody's to the AMPS.
"Quarterly Valuation Date" means the twenty-first day of the last month of
each fiscal quarter of the Trust (or, if such day is not a Business Day, the
next succeeding Business Day) in each fiscal year of the Trust, commencing
June 21, 1999.
"Receivables for Pennsylvania Municipal Bonds Sold" has the meaning set
forth under the definition of S&P Discount Factor.
"Receivables for Pennsylvania Municipal Bonds or Municipal Bonds Sold"
has the meaning set forth under the definition of Moody's Discount Factor.
"Reference Rate" means: (i) with respect to a Dividend Period or a
Short Term Dividend Period having 28 or fewer days, the higher of the applicable
"AA" Composite Commercial Paper Rate and the Taxable Equivalent of the
Short-Term Municipal Bond Rate, (ii) with respect to any
16
<PAGE>
Short Term Dividend Period having more than 28 but fewer than 183 days, the
applicable "AA" Composite Commercial Paper Rate, (iii) with respect to any Short
Term Dividend Period having 183 or more but fewer than 364 days, the applicable
U.S. Treasury Bill Rate and (iv) with respect to any Long Term Dividend Period,
the applicable U.S. Treasury Note Rate.
"Request for Special Dividend Period" has the meaning set forth in
paragraph 2(c)(iii) of this Certificate of Designation.
"Response" has the meaning set forth in paragraph 2(c)(iii) of this
Certificate of Designation.
"Retroactive Taxable Allocation" has the meaning set forth in paragraph
2(e) of this Certificate of Designation.
"Right," with respect to each series of AMPS, has the meaning set forth in
paragraph 2(e) of this Certificate of Designation and, with respect to Other
AMPS, has the equivalent meaning.
"S&P" means Standard & Poor's, a division of the McGraw-Hill Companies, or
its successors.
"S&P Discount Factor" means, for purposes of determining the Discounted
Value of any Pennsylvania Municipal Bond which constitutes an S&P Eligible
Asset, the percentage determined by reference to (a)(i) the rating by S&P,
Moody's or Fitch on such Bond or (ii) in the event the Pennsylvania Municipal
Bond is insured under a Policy and the terms of the Policy permit the Trust, at
its option, to obtain other permanent insurance guaranteeing the timely payment
of interest on such Pennsylvania Municipal Bond and principal thereof to
maturity, the S&P insurance claims-paying ability rating of the issuer of the
Policy or (iii) in the event the Pennsylvania Municipal Bond is insured under an
insurance policy which guarantees the timely payment of interest on such
Pennsylvania Municipal Bond and principal thereof to maturity, the S&P insurance
claims-paying ability rating of the issuer of the insurance policy and (b) the
S&P Exposure Period, in accordance with the tables set forth below:
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For Pennsylvania Municipal Bonds:
- ---------------------------------
<TABLE>
<CAPTION>
Rating Category
--------------------------------------------------------
S&P Exposure Period AAA* AA* A* BBB*
- ------------------- --------------------------------------------------------
<S> <C> <C> <C> <C>
45 Business Days............................... 210% 215% 230% 270%
25 Business Days............................... 190 195 210 250
10 Business Days............................... 175 180 195 235
7 Business Days............................... 170 175 190 230
3 Business Days............................... 150 155 170 210
</TABLE>
- --------------
* S&P rating.
Notwithstanding the foregoing, (i) the S&P Discount Factor for
short-term Pennsylvania Municipal Bonds will be 115%, so long as such
Pennsylvania Municipal Bonds are rated A-1+ or SP-1+ by S&P and mature or have a
demand feature exercisable in 30 days or less, or 120% so long as such
Pennsylvania Municipal Bonds are rated A-1 or SP-1 by S&P and mature or have a
demand feature exercisable in 30 days or less, or 125% if such Pennsylvania
Municipal Bonds are not rated by S&P but are rated VMIG-1, P-1 or MIG-1 by
Moody's or F-1 + by Fitch; provided, however, such short-term Pennsylvania
Municipal Bonds rated by Moody's or Fitch but not rated by S&P having a demand
feature exercisable in 30 days or less must be backed by a letter of credit,
liquidity facility or guarantee from a bank or other financial institution
having a short-term rating of at least A-1+ from S&P; and further provided that
such short-term Pennsylvania Municipal Bonds rated by Moody's or Fitch but not
rated by S&P may comprise no more than 50% of short-term Pennsylvania Municipal
Bonds that qualify as S&P Eligible Assets, (ii) the S&P Discount Factor for
Receivables for Pennsylvania Municipal Bonds Sold that are due in more than five
Business Days from such Valuation Date will be the S&P Discount Factor
applicable to the Pennsylvania Municipal Bonds sold, and (iii) no S&P Discount
Factor will be applied to cash or to Receivables for Pennsylvania Municipal
Bonds Sold if such receivables are due within five Business Days of such
Valuation Date. "Receivables for Pennsylvania Municipal Bonds Sold," for
purposes of calculating S&P Eligible Assets as of any Valuation Date, means the
book value of receivables for Pennsylvania Municipal Bonds sold as of or prior
to such Valuation Date. The Trust may adopt S&P Discount Factors for Municipal
Bonds other than Pennsylvania Municipal Bonds provided that S&P advises the
Trust in writing that such action will not adversely affect its then current
rating on the AMPS. For purposes of the foregoing, Anticipation Notes rated SP-1
or, if not rated by S&P, rated VMIG-1 by Moody's
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<PAGE>
or F-1 + by Fitch, which do not mature or have a demand feature exercisable in
30 days and which do not have a long-term rating, shall be considered to be
short-term Pennsylvania Municipal Bonds.
"S&P Eligible Asset" means cash, Receivables for Pennsylvania Municipal
Bonds Sold or a Pennsylvania Municipal Bond that (i) is interest bearing and
pays interest at least semi-annually; (ii) is payable with respect to principal
and interest in United States Dollars; (iii) is publicly rated BBB or higher by
S&P or, except in the case of Anticipation Notes that are grant anticipation
notes or bond anticipation notes which must be rated by S&P to be included in
S&P Eligible Assets, if not rated by S&P but rated by Moody's or Fitch, is rated
at least A by Moody's or Fitch (provided that such Moody's-rated or Fitch-rated
Pennsylvania Municipal Bonds will be included in S&P Eligible Assets only to the
extent the Market Value of such Pennsylvania Municipal Bonds does not exceed 50%
of the aggregate Market Value of the S&P Eligible Assets; and further provided
that, for purposes of determining the S&P Discount Factor applicable to any such
Moody's-rated or Fitch-rated Pennsylvania Municipal Bond, such Pennsylvania
Municipal Bond will be deemed to have an S&P rating which is one full rating
category lower than its Moody's rating or Fitch rating); (iv) is not subject to
a covered call or covered put option written by the Trust; (v) except for
Inverse Floaters, is not part of a private placement of Pennsylvania Municipal
Bonds; and (vi) except for Inverse Floaters, is part of an issue of Pennsylvania
Municipal Bonds with an original issue size of at least $10 million or, if of an
issue with an original issue size below $10 million (but in no event below $5
million), is either (a) issued by an issuer with a total of at least $25 million
of securities outstanding or (b) rated at least A by S&P with all such
Pennsylvania Municipal Bonds not constituting more than 20% of the aggregate
Market Value of S&P Eligible Assets. Notwithstanding the foregoing:
(1) Pennsylvania Municipal Bonds of any one issuer or guarantor
(excluding bond insurers) will be considered S&P Eligible Assets only to
the extent the Market Value of such Pennsylvania Municipal Bonds does not
exceed 10% of the aggregate Market Value of the S&P Eligible Assets,
provided that 2% is added to the applicable S&P Discount Factor for every
1% by which the Market Value of such Pennsylvania Municipal Bonds exceeds
5% of the aggregate Market Value of the S&P Eligible Assets;
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<PAGE>
(2) Pennsylvania Municipal Bonds of any one issue type category (as
described below) will be considered S&P Eligible Assets only to the extent
the Market Value of such Bonds does not exceed 25% of the aggregate Market
Value of S&P Eligible Assets, except that Pennsylvania Municipal Bonds
falling within the utility issue type category will be broken down into
three sub-categories (as described below) and such Pennsylvania Municipal
Bonds will be considered S&P Eligible Assets to the extent the Market Value
of such Bonds in each such sub-category does not exceed 25% of the
aggregate Market Value of S&P Eligible Assets, except that Pennsylvania
Municipal Bonds falling within the transportation issue type category will
be broken down into two sub-categories (as described below) and such
Pennsylvania Municipal Bonds will be considered S&P Eligible Assets to the
extent the Market Value of such Bonds in both sub-categories combined (as
described below) does not exceed 40% of the aggregate Market Value of S&P
Eligible Assets and except that Pennsylvania Municipal Bonds falling within
the general obligation issue type category will be considered S&P Eligible
Assets to the extent the Market Value of such Bonds does not exceed 50% of
the aggregate Market Value of S&P Eligible Assets. For purposes of the
issue type category requirement described above, Pennsylvania Municipal
Bonds will be classified within one of the following categories: health
care issues, housing issues, educational facilities issues, student loan
issues, transportation issues, industrial development bond issues, utility
issues, general obligation issues, lease obligations, escrowed bonds and
other issues not falling within one of the aforementioned categories. The
general obligation issue type category includes any issuer that is directly
or indirectly guaranteed by the Commonwealth of Pennsylvania or its
political subdivisions. Utility issuers are included in the general
obligation issue type category if the issuer is directly or indirectly
guaranteed by the Commonwealth of Pennsylvania or its political
subdivisions. For purposes of the issue type category requirement described
above, Pennsylvania Municipal Bonds in the utility issue type category will
be classified within one of the three following sub-categories: (i)
electric, gas and combination issues (if the combination issue includes an
electric issue), (ii) water and sewer utilities and combination issues (if
the combination issue does not include an electric issue), and (iii)
irrigation, resource recovery, solid waste and other utilities, provided
that Pennsylvania Municipal Bonds included in this sub-category
20
<PAGE>
(iii) must be rated by S&P in order to be included in S&P Eligible Assets.
For purposes of the issue type category requirement described above,
Pennsylvania Municipal Bonds in the transportation issue type category will
be classified within one of the two following sub-categories: (i) streets
and highways, toll roads, bridges and tunnels, airports and multi-purpose
port authorities (multiple revenue streams generated by toll roads,
airports, real estate, bridges), (ii) mass transit, parking, seaports and
others. Exposure to transportation sub-category (i) in the preceding
sentence is limited to 25% of the aggregate Market Value of S&P Eligible
Assets, provided, however, exposure to transportation sub-category (ii) in
the preceding sentence can exceed the 25% limit to the extent that exposure
to transportation sub-category (ii) is reduced, for a total exposure up to
and not exceeding 40% of the aggregate Market Value of S&P Eligible Assets
for the transportation issue type category; and
(3) Pennsylvania Municipal Bonds which are escrow bonds or defeased
bonds may compose up to 100% of the aggregate Market Value of S&P Eligible
Assets if such Bonds initially are assigned a rating by S&P in accordance
with S&P's legal defeasance criteria or rerated by S&P as economic defeased
escrow bonds and assigned an AAA rating. Pennsylvania Municipal Bonds may
be rated as escrow bonds by another nationally recognized rating agency or
rerated as an escrow bond and assigned the equivalent of an S&P AAA rating,
provided that such equivalent rated Bonds are limited to 50% of the
aggregate Market Value of S&P Eligible Assets and are deemed to have an AA
S&P rating for purposes of determining the S&P Discount Factor applicable
to such Pennsylvania Municipal Bonds. The limitations on Pennsylvania
Municipal Bonds of any one issuer in clause (1) above are not applicable to
escrow bonds, however, economically defeased bonds that are either
initially rated or rerated by S&P or another nationally recognized rating
agency and assigned the same rating level as the issuer of the Bonds will
remain in its original issue type category set forth in clause (2) above.
Pennsylvania Municipal Bonds that are legally defeased and secured by
securities issued or guaranteed by the United States Government are not
required to meet the minimum issuance size requirement set forth above.
The Trust may include Municipal Bonds other than Pennsylvania Municipal
Bonds as S&P Eligible Assets pursuant to guidelines and restrictions to be
established by S&P provided
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<PAGE>
that S&P advises the Trust in writing that such action will not adversely affect
its then current rating on the AMPS.
"S&P Exposure Period" means the maximum period of time following a
Valuation Date, including the Valuation Date and the AMPS Basic Maintenance Cure
Date, that the Trust has under this Certificate of Designation to cure any
failure to maintain, as of such Valuation Date, the Discounted Value for its
portfolio at least equal to the AMPS Basic Maintenance Amount (as described in
paragraph 7(a) of this Certificate of Designation).
"S&P Hedging Transactions" has the meaning set forth in paragraph 8(a) of
this Certificate of Designation.
"S&P Volatility Factor" means 277% or such other potential dividend
rate increase factor as S&P advises the Trust in writing is applicable.
"Securities Depository" means The Depository Trust Company or any
successor company or other entities elected by the Trust as securities
depository for the AMPS that agrees to follow the procedures required to be
followed by such securities depository in connection with the AMPS.
"Service" means the United States Internal Revenue Service.
"7-Day Dividend Period" means a Dividend Period consisting of seven days.
"Share Books" means the books maintained by the Auction Agent setting forth
at all times a current list, as determined by the Auction Agent, of Existing
Holders of the AMPS.
"Share Register" means the register of Holders maintained on behalf of the
Trust by the Auction Agent in its capacity as transfer agent and registrar for
the AMPS.
"Short Term Dividend Period" means a Special Dividend Period consisting of
a specified number of days (other than seven), evenly divisible by seven and not
fewer than seven nor more than 364.
"Special Dividend Period" means a Dividend Period consisting of (i) a
specified number of days (other than seven), evenly divisible by seven and not
fewer than seven nor more than 364 or (ii) a specified period of one whole year
or more but not greater than five years (in each case subject to adjustment as
provided in paragraph 2(b)(i)).
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"Specific Redemption Provisions" means, with respect to a Special Dividend
Period either, or any combination of, (i) a period (a "Non-Call Period")
determined by the Board of Trustees of the Trust, after consultation with the
Auction Agent and the Broker-Dealers, during which the AMPS subject to such
Dividend Period shall not be subject to redemption at the option of the Trust
and (ii) a period (a "Premium Call Period"), consisting of a number of whole
years and determined by the Board of Trustees of the Trust, after consultation
with the Auction Agent and the Broker-Dealers, during each year of which the
AMPS subject to such Dividend Period shall be redeemable at the Trust's option
at a price per share equal to $25,000 plus accumulated but unpaid dividends plus
a premium expressed as a percentage of $25,000, as determined by the Board of
Trustees of the Trust after consultation with the Auction Agent and the
Broker-Dealers.
"Subsequent Dividend Period," with respect to AMPS, has the meaning set
forth in paragraph 2(c)(i) of this Certificate of Designation and, with respect
to Other AMPS, has the equivalent meaning.
"Substitute Commercial Paper Dealers" means such Substitute Commercial
Paper Dealer or Dealers as the Trust may from time to time appoint or, in lieu
of any thereof, their respective affiliates or successors.
"Substitute Rating Agency" and "Substitute Rating Agencies" mean a
nationally recognized statistical rating organization or two nationally
recognized statistical rating organizations, respectively, selected by Merrill
Lynch, Pierce, Fenner & Smith Incorporated or its affiliates and successors,
after consultation with the Trust, to act as the substitute rating agency or
substitute rating agencies, as the case may be, to determine the credit ratings
of the AMPS.
"Taxable Equivalent of the Short-Term Municipal Bond Rate" on any date
means 90% of the quotient of (A) the per annum rate expressed on an interest
equivalent basis equal to the Kenny S&P 30-day High Grade Index (the "Kenny
Index") or any successor index, made available for the Business Day immediately
preceding such date but in any event not later than 8:30 A.M., New York City
time, on such date by Kenny Information Systems Inc. or any successor thereto,
based upon 30-day yield evaluations at par of bonds the interest on which is
excludable for regular Federal income tax purposes under the Code of "high
grade" component issuers selected by Kenny Information Systems Inc. or any such
successor from time to time in
23
<PAGE>
its discretion, which component issuers shall include, without limitation,
issuers of general obligation bonds but shall exclude any bonds the interest on
which constitutes an item of tax preference under Section 57(a)(5) of the Code,
or successor provisions, for purposes of the "alternative minimum tax," divided
by (B) 1.00 minus the Marginal Tax Rate (expressed as a decimal); provided,
however, that if the Kenny Index is not made so available by 8:30 A.M., New York
City time, on such date by Kenny Information Systems Inc. or any successor, the
Taxable Equivalent of the Short-Term Municipal Bond Rate shall mean the quotient
of (A) the per annum rate expressed on an interest equivalent basis equal to the
most recent Kenny Index so made available for any preceding Business Day,
divided by (B) 1.00 minus the Marginal Tax Rate (expressed as a decimal). The
Trust may not utilize a successor index to the Kenny Index unless Moody's and
S&P provide the Trust with written confirmation that the use of such successor
index will not adversely affect the then-current respective Moody's and S&P
ratings of the AMPS.
"Treasury Bonds" has the meaning set forth in paragraph 8(a) of this
Certificate of Designation.
"U.S. Treasury Bill Rate" on any date means (i) the Interest Equivalent of
the rate on the actively traded Treasury Bill with a maturity most nearly
comparable to the length of the related Dividend Period, as such rate is made
available on a discount basis or otherwise by the Federal Reserve Bank of New
York in its Composite 3:30 P.M. Quotations for U.S. Government Securities report
for such Business Day, or (ii) if such yield as so calculated is not available,
the Alternate Treasury Bill Rate on such date. "Alternate Treasury Bill Rate" on
any date means the Interest Equivalent of the yield as calculated by reference
to the arithmetic average of the bid price quotations of the actively traded
Treasury Bill with a maturity most nearly comparable to the length of the
related Dividend Period, as determined by bid price quotations as of any time on
the Business Day immediately preceding such date, obtained from at least three
recognized primary U.S. Government securities dealers selected by the Auction
Agent.
"U.S. Treasury Note Rate" on any date means (i) the yield as calculated by
reference to the bid price quotation of the actively traded, current coupon
Treasury Note with a maturity most nearly comparable to the length of the
related Dividend Period, as such bid price quotation is published on the
Business Day immediately preceding such date by the Federal Reserve Bank of
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<PAGE>
New York in its Composite 3:30 P.M. Quotations for U.S. Government
Securities report for such Business Day, or (ii) if such yield as so calculated
is not available, the Alternate Treasury Note Rate on such date. "Alternate
Treasury Note Rate" on any date means the yield as calculated by reference to
the arithmetic average of the bid price quotations of the actively traded,
current coupon Treasury Note with a maturity most nearly comparable to the
length of the related Dividend Period, as determined by the bid price quotations
as of any time on the Business Day immediately preceding such date, obtained
from at least three recognized primary U.S. Government securities dealers
selected by the Auction Agent.
"Valuation Date" means, for purposes of determining whether the Trust is
maintaining the AMPS Basic Maintenance Amount, each Business Day commencing with
the Date of Original Issue.
"Variation Margin" means, in connection with an outstanding futures
contract owned or sold by the Trust, the amount of cash or securities paid to or
received from a broker (subsequent to the Initial Margin payment) from time to
time as the price of such futures contract fluctuates.
(b) The foregoing definitions of Accountant's Confirmation, AMPS Basic
Maintenance Amount, AMPS Basic Maintenance Cure Date, AMPS Basic Maintenance
Report, Deposit Securities, Discounted Value, Independent Accountant, Initial
Margin, Inverse Floaters, Market Value, Maximum Potential Additional Dividend
Liability, Moody's Discount Factor, Moody's Eligible Asset, Moody's Exposure
Period, Moody's Hedging Transactions, Moody's Volatility Factor, S&P Discount
Factor, S&P Eligible Asset, S&P Exposure Period, S&P Hedging Transactions, S&P
Volatility Factor, Valuation Date and Variation Margin have been determined by
the Board of Trustees of the Trust in order to obtain a "aaa" rating from
Moody's and a AAA rating from S&P on the AMPS on their Date of Original Issue;
and the Board of Trustees of the Trust shall have the authority, without
shareholder approval, to amend, alter or repeal from time to time the foregoing
definitions and the restrictions and guidelines set forth thereunder if Moody's
and S&P or any Substitute Rating Agency advises the Trust in writing that such
amendment, alteration or repeal will not adversely affect their then current
ratings on the AMPS.
2. Dividends. (a) The Holders shall be entitled to receive, when, as and if
----------
declared by the Board of Trustees of the Trust, out of funds legally available
therefor, cumulative dividends each consisting of (i) cash at the Applicable
Rate, (ii) a Right to receive cash as set forth in
25
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paragraph 2(e) below, and (iii) any additional amounts as set forth in paragraph
2(f) below, and no more, payable on the respective dates set forth below.
Dividends on the AMPS so declared and payable shall be paid (i) in preference to
and in priority over any dividends declared and payable on the Common Shares,
and (ii) to the extent permitted under the Code and to the extent available, out
of net tax-exempt income earned on the Trust's investments. To the extent
permitted under the Code, dividends on AMPS will be designated as
exempt-interest dividends. For the purposes of this section, the term "net
tax-exempt income" shall exclude capital gains of the Trust.
(b) (i) Cash dividends on AMPS shall accumulate from the Date of Original
Issue and shall be payable, when, as and if declared by the Board of Trustees,
out of funds legally available therefor, commencing on the Initial Dividend
Payment Date with respect to each series of AMPS. Following the Initial Dividend
Payment Date for the AMPS, dividends on each series of AMPS will be payable, at
the option of the Trust, either (i) with respect to any 7-Day Dividend Period
and any Short Term Dividend Period of 35 or fewer days, on the day next
succeeding the last day thereof or (ii) with respect to any Short Term Dividend
Period of more than 35 days and with respect to any Long Term Dividend Period,
monthly on the first Business Day of each calendar month during such Short Term
Dividend Period or Long Term Dividend Period and on the day next succeeding the
last day thereof (each such date referred to in clause (i) or (ii) being herein
referred to as a "Normal Dividend Payment Date"), except that if such Normal
Dividend Payment Date is not a Business Day, then the Dividend Payment Date
shall be the first Business Day next succeeding such Normal Dividend Payment
Date. Although any particular Dividend Payment Date may not occur on the
originally scheduled date because of the exceptions discussed above, the next
succeeding Dividend Payment Date, subject to such exceptions, will occur on the
next following originally scheduled date. If for any reason a Dividend Payment
Date cannot be fixed as described above, then the Board of Trustees shall fix
the Dividend Payment Date. The Board of Trustees by resolution prior to
authorization of a dividend by the Board of Trustees may change a Dividend
Payment Date if such change does not adversely affect the contract rights of the
Holders of AMPS set forth in the Declaration. The Initial Dividend Period, 7-Day
Dividend Periods and Special Dividend Periods are hereinafter sometimes referred
to as Dividend Periods. Each dividend payment date determined as provided above
is hereinafter referred to as a "Dividend Payment Date."
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<PAGE>
(ii) Each dividend shall be paid to the Holders as they appear in the Share
Register as of 12:00 noon, New York City time, on the Business Day preceding the
Dividend Payment Date. Dividends in arrears for any past Dividend Period may be
declared and paid at any time, without reference to any regular Dividend Payment
Date, to the Holders as they appear on the Share Register on a date, not
exceeding 15 days prior to the payment date therefor, as may be fixed by the
Board of Trustees of the Trust.
(c) (i) During the period from and including the Date of Original Issue to
but excluding the Initial Dividend Payment Date (the "Initial Dividend Period"),
the Applicable Rate shall be the Initial Dividend Rate. Commencing on the
Initial Dividend Payment Date for each series of AMPS, the Applicable Rate for
each subsequent dividend period (hereinafter referred to as a "Subsequent
Dividend Period"), which Subsequent Dividend Period shall commence on and
include a Dividend Payment Date and shall end on and include the calendar day
prior to the next Dividend Payment Date (or last Dividend Payment Date in a
Dividend Period if there is more than one Dividend Payment Date), shall be equal
to the rate per annum that results from implementation of the Auction
Procedures.
The Applicable Rate for each Dividend Period commencing during a
Non-Payment Period shall be equal to the Non-Payment Period Rate; and each
Dividend Period, commencing after the first day of, and during, a Non-Payment
Period shall be a 7-Day Dividend Period. Except in the case of the willful
failure of the Trust to pay a dividend on a Dividend Payment Date or to redeem
any AMPS on the date set for such redemption, any amount of any dividend due on
any Dividend Payment Date (if, prior to the close of business on the second
Business Day preceding such Dividend Payment Date, the Trust has declared such
dividend payable on such Dividend Payment Date to the Holders of such AMPS as of
12:00 noon, New York City time, on the Business Day preceding such Dividend
Payment Date) or redemption price with respect to any AMPS not paid to such
Holders when due may be paid to such Holders in the same form of funds by 12:00
noon, New York City time, on any of the first three Business Days after such
Dividend Payment Date or due date, as the case may be, provided that, such
amount is accompanied by a late charge calculated for such period of non-payment
at the Non-Payment Period Rate applied to the amount of such non-payment based
on the actual number of days comprising such period divided by 365. In the case
of a willful failure of the Trust to pay a dividend on a Dividend Payment Date
or to redeem any AMPS on the date set for such
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<PAGE>
redemption, the preceding sentence shall not apply and the Applicable Rate for
the Dividend Period commencing during the Non-Payment Period resulting from such
failure shall be the Non-Payment Period Rate. For the purposes of the foregoing,
payment to a person in same-day funds on any Business Day at any time shall be
considered equivalent to payment to such person in New York Clearing House
(next-day) funds at the same time on the preceding Business Day, and any payment
made after 12:00 noon, New York City time, on any Business Day shall be
considered to have been made instead in the same form of funds and to the same
person before 12:00 noon, New York City time, on the next Business Day.
(ii) The amount of cash dividends per share of AMPS payable (if declared)
on the Initial Dividend Payment Date, each 7-Day Dividend Period and each
Dividend Payment Date of each Short Term Dividend Period shall be computed by
multiplying the Applicable Rate for such Dividend Period by a fraction, the
numerator of which will be the number of days in such Dividend Period or part
thereof that such share was outstanding and the denominator of which will be
365, multiplying the amount so obtained by $25,000, and rounding the amount so
obtained to the nearest cent. During any Long Term Dividend Period, the amount
of cash dividends per share of AMPS payable (if declared) on any Dividend
Payment Date shall be computed by multiplying the Applicable Rate for such
Dividend Period by a fraction, the numerator of which will be such number of
days in such part of such Dividend Period that such share was outstanding and
for which dividends are payable on such Dividend Payment Date and the
denominator of which will be 360, multiplying the amount so obtained by $25,000,
and rounding the amount so obtained to the nearest cent.
(iii) With respect to each Dividend Period that is a Special Dividend
Period, the Trust may, at its sole option and to the extent permitted by law, by
telephonic and written notice (a "Request for Special Dividend Period") to the
Auction Agent and to each Broker-Dealer, request that the next succeeding
Dividend Period for the AMPS be a number of days (other than seven), evenly
divisible by seven, and not fewer than seven nor more than 364 in the case of a
Short Term Dividend Period or one whole year or more but not greater than five
years in the case of a Long Term Dividend Period, specified in such notice,
provided that the Trust may not give a Request for Special Dividend Period of
greater than 28 days (and any such request shall be null and void) unless, for
any Auction occurring after the initial Auction, Sufficient Clearing Bids were
made in the last occurring Auction and unless full cumulative dividends, any
amounts due
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with respect to redemptions, and any Additional Dividends payable prior to such
date have been paid in full. Such Request for Special Dividend Period, in the
case of a Short Term Dividend Period, shall be given on or prior to the second
Business Day but not more than seven Business Days prior to an Auction Date for
the AMPS and, in the case of a Long Term Dividend Period, shall be given on or
prior to the second Business Day but not more than 28 days prior to an Auction
Date for the AMPS. Upon receiving such Request for Special Dividend Period, the
Broker-Dealer(s) shall jointly determine whether, given the factors set forth
below, it is advisable that the Trust issue a Notice of Special Dividend Period
for the AMPS as contemplated by such Request for Special Dividend Period and the
Optional Redemption Price of the AMPS during such Special Dividend Period and
the Specific Redemption Provisions and shall give the Trust and the Auction
Agent written notice (a "Response") of such determination by no later than the
second Business Day prior to such Auction Date. In making such determination the
Broker-Dealer(s) will consider (1) existing short-term and long-term market
rates and indices of such short-term and long-term rates, (2) existing market
supply and demand for short-term and long-term securities, (3) existing yield
curves for short-term and long-term securities comparable to the AMPS, (4)
industry and financial conditions which may affect the AMPS, (5) the investment
objective of the Trust, and (6) the Dividend Periods and dividend rates at which
current and potential beneficial holders of the AMPS would remain or become
beneficial holders. If the Broker-Dealer(s) shall not give the Trust and the
Auction Agent a Response by such second Business Day or if the Response states
that given the factors set forth above it is not advisable that the Trust give a
Notice of Special Dividend Period for the series of AMPS, the Trust may not give
a Notice of Special Dividend Period in respect of such Request for Special
Dividend Period. In the event the Response indicates that it is advisable that
the Trust give a Notice of Special Dividend Period for the AMPS, the Trust may
by no later than the second Business Day prior to such Auction Date give a
notice (a "Notice of Special Dividend Period") to the Auction Agent, the
Securities Depository and each Broker-Dealer which notice will specify (i) the
duration of the Special Dividend Period, (ii) the Optional Redemption Price as
specified in the related Response and (iii) the Specific Redemption Provisions,
if any, as specified in the related Response. The Trust also shall provide a
copy of such Notice of Special Dividend Period to Moody's and S&P. The Trust
shall not give a Notice of Special Dividend Period and, if the Trust has given a
Notice of Special Dividend Period, the Trust is required to
29
<PAGE>
give telephonic and written notice of its revocation (a "Notice of Revocation")
to the Auction Agent, each Broker-Dealer, and the Securities Depository on or
prior to the Business Day prior to the relevant Auction Date if (x) either the
1940 Act AMPS Asset Coverage is not satisfied or the Trust shall fail to
maintain S&P Eligible Assets and Moody's Eligible Assets each with an aggregate
Discounted Value at least equal to the AMPS Basic Maintenance Amount, in each
case on each of the two Valuation Dates immediately preceding the Business Day
prior to the relevant Auction Date on an actual basis and on a pro forma basis
giving effect to the proposed Special Dividend Period (using as a pro forma
dividend rate with respect to such Special Dividend Period the dividend rate
which the Broker-Dealers shall advise the Trust is an approximately equal rate
for securities similar to the AMPS with an equal dividend period), provided
that, in calculating the aggregate Discounted Value of Moody's Eligible Assets
for this purpose, the Moody's Exposure Period shall be deemed to be one week
longer, (y) sufficient funds for the payment of dividends payable on the
immediately succeeding Dividend Payment Date have not been irrevocably deposited
with the Auction Agent by the close of business on the third Business Day
preceding the related Auction Date or (z) the Broker-Dealer(s) jointly advise
the Trust that after consideration of the factors listed above they have
concluded that it is advisable to give a Notice of Revocation. The Trust also
shall provide a copy of such Notice of Revocation to Moody's and S&P. If the
Trust is prohibited from giving a Notice of Special Dividend Period as a result
of any of the factors enumerated in clause (x), (y) or (z) above or if the Trust
gives a Notice of Revocation with respect to a Notice of Special Dividend Period
for the AMPS, the next succeeding Dividend Period will be a 7-Day Dividend
Period. In addition, in the event Sufficient Clearing Bids are not made in the
applicable Auction or such Auction is not held for any reason, such next
succeeding Dividend Period will be a 7-Day Dividend Period and the Trust may not
again give a Notice of Special Dividend Period for the AMPS (and any such
attempted notice shall be null and void) until Sufficient Clearing Bids have
been made in an Auction with respect to a 7-Day Dividend Period.
(d) (i) Holders shall not be entitled to any dividends, whether payable in
cash, property or shares, in excess of full cumulative dividends and applicable
late charges, as herein provided, on the AMPS (except for Additional Dividends
as provided in paragraph 2(e) hereof and additional payments as provided in
paragraph 2(f) hereof). Except for the late charge payable
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<PAGE>
pursuant to paragraph 2(c)(i) hereof, no interest, or sum of money in lieu of
interest, shall be payable in respect of any dividend payment on the AMPS that
may be in arrears.
(ii) For so long as any share of AMPS is Outstanding, the Trust shall not
declare, pay or set apart for payment any dividend or other distribution (other
than a dividend or distribution paid in shares of, or options, warrants or
rights to subscribe for or purchase, Common Shares or other shares of beneficial
interest, if any, ranking junior to the AMPS as to dividends or upon
liquidation) in respect of the Common Shares or any other shares of the Trust
ranking junior to or on a parity with the AMPS as to dividends or upon
liquidation, or call for redemption, redeem, purchase or otherwise acquire for
consideration any shares of the Common Shares or any other such junior shares of
beneficial interest (except by conversion into or exchange for shares of the
Trust ranking junior to the AMPS as to dividends and upon liquidation) or any
other such Parity Shares (except by conversion into or exchange for shares of
the Trust ranking junior to or on a parity with the AMPS as to dividends and
upon liquidation), unless (A) immediately after such transaction, the Trust
shall have S&P Eligible Assets and Moody's Eligible Assets each with an
aggregate Discounted Value equal to or greater than the AMPS Basic Maintenance
Amount and the Trust shall maintain the 1940 Act AMPS Asset Coverage, (B) full
cumulative dividends on AMPS and shares of Other AMPS due on or prior to the
date of the transaction have been declared and paid or shall have been declared
and sufficient funds for the payment thereof deposited with the Auction-Agent,
(C) any Additional Dividend required to be paid under paragraph 2(e) below on or
before the date of such declaration or payment has been paid and (D) the Trust
has redeemed the full number of AMPS required to be redeemed by any provision
for mandatory redemption contained herein.
(e) Each dividend shall consist of (i) cash at the Applicable Rate, (ii) an
uncertificated right (a "Right") to receive an Additional Dividend (as defined
below), and (iii) any additional amounts as set forth in paragraph 2(f) below.
Each Right shall thereafter be independent of the AMPS on which the dividend was
paid. The Trust shall cause to be maintained a record of each Right received by
the respective Holders. A Right may not be transferred other than by operation
of law. If the Trust retroactively allocates any net capital gains or other
income subject to regular Federal income taxes to AMPS without having given
advance notice thereof to the Auction Agent as described in paragraph 2(f)
hereof solely by reason of the fact that such allocation is made as a result of
the redemption of all or a portion of the outstanding AMPS or
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<PAGE>
the liquidation of the Trust (the amount of such allocation referred to herein
as a "Retroactive Taxable Allocation"), the Trust will, within 90 days (and
generally within 60 days) after the end of the Trust's fiscal year for which a
Retroactive Taxable Allocation is made, provide notice thereof to the Auction
Agent and to each holder of a Right applicable to such AMPS (initially Cede &
Co. as nominee of The Depository Trust Company) during such fiscal year at such
holder's address as the same appears or last appeared on the Share Books of the
Trust. The Trust will, within 30 days after such notice is given to the Auction
Agent, pay to the Auction Agent (who will then distribute to such holders of
Rights), out of funds legally available therefor, an amount equal to the
aggregate Additional Dividend with respect to all Retroactive Taxable
Allocations made to such holders during the fiscal year in question.
An "Additional Dividend" means payment to a present or former holder of
AMPS of an amount which, when taken together with the aggregate amount of
Retroactive Taxable Allocations made to such holder with respect to the fiscal
year in question, would cause such holder's dividends in dollars (after Federal
and Pennsylvania income tax consequences) from the aggregate of both the
Retroactive Taxable Allocations and the Additional Dividend to be equal to the
dollar amount of the dividends which would have been received by such holder if
the amount of the aggregate Retroactive Taxable Allocations would have been
excludable from the gross income of such holder. Such Additional Dividend shall
be calculated (i) without consideration being given to the time value of money;
(ii) assuming that no holder of AMPS is subject to the Federal alternative
minimum tax with respect to dividends received from the Trust; and (iii)
assuming that each Retroactive Taxable Allocation would be taxable in the hands
of each holder of AMPS at the greater of: (x) the maximum combined marginal
regular Federal and Pennsylvania individual income tax rate applicable to
ordinary income or capital gains depending on the taxable character of the
distribution (including any surtax); or (y) the maximum combined marginal
regular Federal and Pennsylvania corporate income tax rate applicable to
ordinary income or capital gains depending on the taxable character of the
distribution (taking into account in both (x) and (y) the Federal income tax
deductibility of state taxes paid or incurred but not any phase out of, or
provision limiting, personal exemptions, itemized deductions, or the benefit of
lower tax brackets and assuming the taxability of Federally tax-exempt dividends
for corporations for Pennsylvania income tax purposes).
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<PAGE>
(f) Except as provided below, whenever the Trust intends to include any net
capital gains or other income subject to regular Federal income taxes in any
dividend on AMPS, the Trust will notify the Auction Agent of the amount to be so
included at least five Business Days prior to the Auction Date on which the
Applicable Rate for such dividend is to be established. The Trust may also
include such income in a dividend on AMPS without giving advance notice thereof
if it increases the dividend by an additional amount calculated as if such
income was a Retroactive Taxable Allocation and the additional amount was an
Additional Dividend, provided that the Trust will notify the Auction Agent of
the additional amounts to be included in such dividend at least five Business
Days prior to the applicable Dividend Payment Date.
(g) No fractional AMPS shall be issued.
3. Liquidation Rights. Upon any liquidation, dissolution or winding up of
------------------
the Trust, whether voluntary or involuntary, the Holders shall be entitled to
receive, out of the assets of the Trust available for distribution to
shareholders, before any distribution or payment is made upon any Common Shares
or any other shares of beneficial interest ranking junior in right of payment
upon liquidation to the AMPS, the sum of $25,000 per share plus accumulated but
unpaid dividends (whether or not earned or declared) thereon to the date of
distribution, and after such payment the Holders will be entitled to no other
payments other than Additional Dividends as provided in paragraph 2(e) hereof.
If upon any liquidation, dissolution or winding up of the Trust, the amounts
payable with respect to the AMPS and any other Outstanding class or series of
Preferred Shares of the Trust ranking on a parity with the AMPS as to payment
upon liquidation are not paid in full, the Holders and the holders of such other
class or series will share ratably in any such distribution of assets in
proportion to the respective preferential amounts to which they are entitled.
After payment of the full amount of the liquidating distribution to which they
are entitled, the Holders will not be entitled to any further participation in
any distribution of assets by the Trust except for any Additional Dividends. A
consolidation, merger or statutory share exchange of the Trust with or into any
other corporation or entity or a sale, whether for cash, shares of stock,
securities or properties, of all or substantially all or any part of the assets
of the Trust shall not be deemed or construed to be a liquidation, dissolution
or winding up of the Trust.
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<PAGE>
4. Redemption. (a) Shares of AMPS shall be redeemable by the Trust as
----------
provided below:
(i) To the extent permitted under the 1940 Act and Massachusetts law,
upon giving a Notice of Redemption, the Trust at its option may redeem
AMPS, in whole or in part, out of funds legally available therefor, at the
Optional Redemption Price per share, on any Dividend Payment Date; provided
that no share of AMPS may be redeemed at the option of the Trust during (A)
the Initial Dividend Period with respect to a series of shares or (B) a
Non-Call Period to which such share is subject. In addition, holders of
AMPS which are redeemed shall be entitled to receive Additional Dividends
to the extent provided herein. The Trust may not give a Notice of
Redemption relating to an optional redemption as described in this
paragraph 4(a)(i) unless, at the time of giving such Notice of Redemption,
the Trust has available Deposit Securities with maturity or tender dates
not later than the day preceding the applicable redemption date and having
a value not less than the amount due to Holders by reason of the redemption
of their AMPS on such redemption date.
(ii) The Trust shall redeem, out of funds legally available therefor,
at the Mandatory Redemption Price per share, AMPS to the extent permitted
under the 1940 Act, on a date fixed by the Board of Trustees, if the Trust
fails to maintain S&P Eligible Assets and Moody's Eligible Assets each with
an aggregate Discounted Value equal to or greater than the AMPS Basic
Maintenance Amount as provided in paragraph 7(a) or to satisfy the 1940 Act
AMPS Asset Coverage as provided in paragraph 6 and such failure is not
cured on or before the AMPS Basic Maintenance Cure Date or the 1940 Act
Cure Date (herein collectively referred to as a "Cure Date"), as the case
may be. In addition, holders of AMPS so redeemed shall be entitled to
receive Additional Dividends to the extent provided herein. The number of
AMPS to be redeemed shall be equal to the lesser of (i) the minimum number
of AMPS the redemption of which, if deemed to have occurred immediately
prior to the opening of business on the Cure Date, together with all shares
of other Preferred Shares subject to redemption or retirement, would result
in the Trust having S&P Eligible Assets and Moody's Eligible Assets each
with an aggregate Discounted Value equal to or greater than the AMPS Basic
Maintenance Amount or satisfaction of the 1940 Act AMPS Asset Coverage, as
the case may be, on such Cure
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<PAGE>
Date (provided that, if there is no such minimum number of AMPS and of
other Preferred Shares the redemption of which would have such result, all
AMPS and other Preferred Shares then Outstanding shall be redeemed), and
(ii) the maximum number of AMPS, together with all other Preferred Shares
subject to redemption or retirement, that can be redeemed out of funds
expected to be legally available therefor on such redemption date. In
determining the number of AMPS required to be redeemed in accordance with
the foregoing, the Trust shall allocate the number required to be redeemed
which would result in the Trust having S&P Eligible Assets and Moody's
Eligible Assets each with an aggregate Discounted Value equal to or greater
than the AMPS Basic Maintenance Amount or satisfaction of the 1940 Act AMPS
Asset Coverage, as the case may be, pro rata among AMPS, Other AMPS and
other Preferred Shares subject to redemption pursuant to provisions similar
to those contained in this paragraph 4(a)(ii); provided that, AMPS which
may not be redeemed at the option of the Trust due to the designation of a
Non-Call Period applicable to such shares (A) will be subject to mandatory
redemption only to the extent that other shares are not available to
satisfy the number of shares required to be redeemed and (B) will be
selected for redemption in an ascending order of outstanding number of days
in the Non-Call Period (with shares with the lowest number of days to be
redeemed first) and by lot in the event of shares having an equal number of
days in such Non-Call Period. The Trust shall effect such redemption on a
Business Day which is not later than 35 days after such Cure Date, except
that if the Trust does not have funds legally available for the redemption
of all of the required number of AMPS and other Preferred Shares which are
subject to mandatory redemption or the Trust otherwise is unable to effect
such redemption on or prior to 35 days after such Cure Date, the Trust
shall redeem those AMPS which it is unable to redeem on the earliest
practicable date on which it is able to effect such redemption out of funds
legally available therefor.
(b) Notwithstanding any other provision of this paragraph 4, no AMPS may be
redeemed pursuant to paragraph 4(a)(i) of this Certificate of Designation (i)
unless all dividends in arrears on all remaining outstanding Parity Shares shall
have been or are being contemporaneously paid or declared and set apart for
payment and (ii) if redemption thereof would result in the Trust's failure to
maintain Moody's Eligible Assets or S&P Eligible Assets with an aggregate
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<PAGE>
Discounted Value equal to or greater than the AMPS Basic Maintenance Amount. In
the event that less than all the outstanding AMPS are to be redeemed and there
is more than one Holder, the AMPS to be redeemed shall be selected by lot or
such other method as the Trust shall deem fair and equitable.
(c) Whenever AMPS are to be redeemed, the Trust, not less than 17 nor more
than 30 days prior to the date fixed for redemption, shall mail a notice
("Notice of Redemption") by first-class mail, postage prepaid, to each Holder of
AMPS to be redeemed and to the Auction Agent. The Trust shall cause the Notice
of Redemption to also be published in the eastern and national editions of The
---
Wall Street Journal. The Notice of Redemption shall set forth (i) the redemption
- -------------------
date, (ii) the amount of the redemption price, (iii) the aggregate number of
AMPS to be redeemed, (iv) the place or places where AMPS are to be surrendered
for payment of the redemption price, (v) a statement that dividends on the
shares to be redeemed shall cease to accumulate on such redemption date (except
that holders may be entitled to Additional Dividends) and (vi) the provision of
this Certificate of Designation pursuant to which such shares are being
redeemed. No defect in the Notice of Redemption or in the mailing or publication
thereof shall affect the validity of the redemption proceedings, except as
required by applicable law.
If the Notice of Redemption shall have been given as aforesaid and,
concurrently or thereafter, the Trust shall have deposited in trust with the
Auction Agent, or segregated in an account at the Trust's custodian bank for the
benefit of the Auction Agent, Deposit Securities (with a right of substitution)
having an aggregate Discounted Value (utilizing in the case of S&P an S&P
Exposure Period of 22 Business Days) equal to the redemption payment for the
AMPS as to which such Notice of Redemption has been given with irrevocable
instructions and authority to pay the redemption price to the Holders of such
shares, then upon the date of such deposit or, if no such deposit is made, then
upon such date fixed for redemption (unless the Trust shall default in making
the redemption payment), all rights of the Holders of such shares as
shareholders of the Trust by reason of the ownership of such shares will cease
and terminate (except their right to receive the redemption price in respect
thereof and any Additional Dividends, but without interest), and such shares
shall no longer be deemed outstanding. The Trust shall be entitled to receive,
from time to time, from the Auction Agent the interest, if any, on such Deposit
Securities deposited with it and the Holders of any shares so redeemed shall
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<PAGE>
have no claim to any of such interest. In case the Holder of any shares so
called for redemption shall not claim the redemption payment for his shares
within one year after the date of redemption, the Auction Agent shall, upon
demand, pay over to the Trust such amount remaining on deposit and the Auction
Agent shall thereupon be relieved of all responsibility to the Holder of such
shares called for redemption and such Holder thereafter shall look only to the
Trust for the redemption payment.
5. Voting Rights. (a) General. Except as otherwise provided in the
------------- -------
Declaration or By-Laws, each Holder of AMPS shall be entitled to one vote for
each share held on each matter submitted to a vote of shareholders of the Trust,
and the holders of outstanding Preferred Shares, including AMPS, and of Common
Shares vote together as a single class; provided that, at any meeting of the
shareholders of the Trust held for the election of trustees, the holders of
outstanding Preferred Shares, including AMPS, shall be entitled, as a class, to
the exclusion of the holders of all other securities and classes of shares of
beneficial interest of the Trust, to elect two trustees of the Trust. Subject to
paragraph 5(b) hereof, the holders of outstanding shares of beneficial interest
of the Trust, including the holders of outstanding Preferred Shares, including
AMPS, voting as a single class, shall elect the balance of the trustees.
(b) Right to Elect Majority of Board of Trustees. During any period in
--------------------------------------------
which any one or more of the conditions described below shall exist (such period
being referred to herein as a "Voting Period"), the number of trustees
constituting the Board of Trustees shall be automatically increased by the
smallest number that, when added to the two trustees elected exclusively by the
holders of Preferred Shares, would constitute a majority of the Board of
Trustees as so increased by such smallest number; and the holders of Preferred
Shares shall be entitled, voting separately as one class (to the exclusion of
the holders of all other securities and classes of shares of beneficial interest
of the Trust), to elect such smallest number of additional trustees, together
with the two trustees that such holders are in any event entitled to elect. A
Voting Period shall commence:
(i) if at any time accumulated dividends (whether or not earned or
declared, and whether or not funds are then legally available in an amount
sufficient therefor) on the outstanding AMPS equal to at least two full
years' dividends shall be due and unpaid
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<PAGE>
and sufficient cash or specified securities shall not have been deposited
with the Auction Agent for the payment of such accumulated dividends; or
(ii) if at any time holders of any other Preferred Shares are entitled
to elect a majority of the trustees of the Trust under the 1940 Act.
Upon the termination of a Voting Period, the voting rights described in
this paragraph 5(b) shall cease, subject always, however, to the reverting of
such voting rights in the Holders upon the further occurrence of any of the
events described in this paragraph 5(b).
(c) Right to Vote with Respect to Certain Other Matters. So long as any
---------------------------------------------------
AMPS are outstanding, the Trust shall not, without the affirmative vote of the
holders of a majority of the Preferred Shares Outstanding at the time, voting
separately as one class: (i) authorize, create or issue any class or series of
shares ranking prior to the AMPS or any other series of Preferred Shares with
respect to payment of dividends or the distribution of assets on liquidation, or
(ii) amend, alter or repeal the provisions of the Declaration, whether by
merger, consolidation or otherwise, so as to adversely affect any of the
contract rights expressly set forth in the Declaration of holders of AMPS or any
other Preferred Shares. To the extent permitted under the 1940 Act, in the event
shares of more than one series of AMPS are outstanding, the Trust shall not
approve any of the actions set forth in clause (i) or (ii) which adversely
affects the contract rights expressly set forth in the Declaration of a Holder
of shares of a series of AMPS differently than those of a Holder of shares of
any other series of AMPS without the affirmative vote of the holders of at least
a majority of the AMPS of each series adversely affected and outstanding at such
time (each such adversely affected series voting separately as a class). The
Trust shall notify Moody's and S&P ten Business Days prior to any such vote
described in clause (i) or (ii). Unless a higher percentage is provided for
under the Declaration, the affirmative vote of the holders of a majority of the
outstanding Preferred Shares, including AMPS, voting together as a single class,
will be required to approve any plan of reorganization (including bankruptcy
proceedings) adversely affecting such shares or any action requiring a vote of
security holders under Section 13(a) of the 1940 Act. The class vote of holders
of Preferred Shares, including AMPS, described above will in each case be in
addition to a separate vote of the requisite percentage of shares of beneficial
interest and Preferred Shares, including AMPS, voting together as a single class
necessary to authorize the action in question.
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<PAGE>
(d) Voting Procedures.
-----------------
(i) As soon as practicable after the accrual of any right of the holders of
Preferred Shares to elect additional trustees as described in paragraph 5(b)
above, the Trust shall call a special meeting of such holders and instruct the
Auction Agent to mail a notice of such special meeting to such holders, such
meeting to be held not less than 10 nor more than 20 days after the date of
mailing of such notice. If the Trust fails to send such notice to the Auction
Agent or if the Trust does not call such a special meeting, it may be called by
any such holder on like notice. The record date for determining the holders
entitled to notice of and to vote at such special meeting shall be the close of
business on the fifth Business Day preceding the day on which such notice is
mailed. At any such special meeting and at each meeting held during a Voting
Period, such Holders, voting together as a class (to the exclusion of the
holders of all other securities and classes of shares of beneficial interest of
the Trust), shall be entitled to elect the number of trustees prescribed in
paragraph 5(b) above. At any such meeting or adjournment thereof in the absence
of a quorum, a majority of such holders present in person or by proxy shall have
the power to adjourn the meeting without notice, other than by an announcement
at the meeting, to a date not more than 120 days after the original record date.
(ii) For purposes of determining any rights of the Holders to vote on any
matter or the number of shares required to constitute a quorum, whether such
right is created by this Certificate of Designation, by the other provisions of
the Declaration, by statute or otherwise, a share of AMPS which is not
Outstanding shall not be counted.
(iii) The terms of office of all persons who are trustees of the Trust at
the time of a special meeting of Holders and holders of other Preferred Shares
to elect trustees shall continue, notwithstanding the election at such meeting
by the Holders and such other holders of the number of trustees that they are
entitled to elect, and the persons so elected by the Holders and such other
holders, together with the two incumbent trustees elected by the Holders and
such other holders of Preferred Shares and the remaining incumbent trustees
elected by the holders of the Common Shares and Preferred Shares, shall
constitute the duly elected trustees of the Trust.
(iv) Simultaneously with the expiration of a Voting Period, the terms of
office of the additional trustees elected by the Holders and holders of other
Preferred Shares pursuant to paragraph 5(b) above shall terminate, the remaining
trustees shall constitute the trustees of the
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<PAGE>
Trust and the voting rights of the Holders and such other holders to elect
additional trustees pursuant to paragraph 5(b) above shall cease, subject to the
provisions of the last sentence of paragraph 5(b).
(e) Exclusive Remedy. Unless otherwise required by law, the Holders of AMPS
----------------
shall not have any rights or preferences other than those specifically set forth
herein. The Holders of AMPS shall have no preemptive rights or rights to
cumulative voting. In the event that the Trust fails to pay any dividends on the
AMPS, the exclusive remedy of the Holders shall be the right to vote for
trustees pursuant to the provisions of this paragraph 5.
(f) Notification to S&P and Moody's. In the event a vote of Holders of AMPS
-------------------------------
is required pursuant to the provisions of Section 13(a) of the 1940 Act, the
Trust shall, not later than ten Business Days prior to the date on which such
vote is to be taken, notify S&P and Moody's that such vote is to be taken and
the nature of the action with respect to which such vote is to be taken and, not
later than ten Business Days after the date on which such vote is taken, notify
S&P and Moody's of the result of such vote.
6. 1940 Act AMPS Asset Coverage. The Trust shall maintain, as of the last
----------------------------
Business Day of each month in which any AMPS is outstanding, the 1940 Act AMPS
Asset Coverage.
7. AMPS Basic Maintenance Amount. (a) The Trust shall maintain, on each
-----------------------------
Valuation Date, and shall verify to its satisfaction that it is maintaining on
such Valuation Date, (i) S&P Eligible Assets having an aggregate Discounted
Value equal to or greater than the AMPS Basic Maintenance Amount and (ii)
Moody's Eligible Assets having an aggregate Discounted Value equal to or greater
than the AMPS Basic Maintenance Amount. Upon any failure to maintain the
required Discounted Value, the Trust will use its best efforts to alter the
composition of its portfolio to reattain a Discounted Value at least equal to
the AMPS Basic Maintenance Amount on or prior to the AMPS Basic Maintenance Cure
Date.
(b) On or before 5:00 p.m., New York City time, on the third Business Day
after a Valuation Date on which the Trust fails to satisfy the AMPS Basic
Maintenance Amount, the Trust shall complete and deliver to the Auction Agent,
and Moody's and S&P, as the case may be, a complete AMPS Basic Maintenance
Report as of the date of such failure, which will be deemed to have been
delivered to the Auction Agent if the Auction Agent receives a copy or telecopy,
telex or other electronic transcription thereof and on the same day the Trust
mails to the
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<PAGE>
Auction Agent for delivery on the next Business Day the complete AMPS Basic
Maintenance Report. The Trust will deliver an AMPS Basic Maintenance Report to
the Auction Agent and Moody's and S&P, as the case may be, on or before 5:00
p.m., New York City time, on the third Business Day after a Valuation Date on
which the Trust cures its failure to maintain Moody's Eligible Assets or S&P
Eligible Assets, as the case may be, with an aggregate Discounted Value equal to
or greater than the AMPS Basic Maintenance Amount or on which the Trust fails to
maintain Moody's Eligible Assets or S&P Eligible Assets, as the case may be,
with an aggregate Discounted Value which exceeds the AMPS Basic Maintenance
Amount by 5% or more. The Trust will also deliver an AMPS Basic Maintenance
Report to the Auction Agent, Moody's and S&P as of each Quarterly Valuation Date
on or before the third Business Day after such date. Additionally, on or before
5:00 p.m., New York City time, on the third Business Day after the first day of
a Special Dividend Period, the Trust will deliver an AMPS Basic Maintenance
Report to S&P and the Auction Agent. The Trust shall also provide Moody's and
S&P with an AMPS Basic Maintenance Report when specifically requested by either
Moody's or S&P. A failure by the Trust to deliver an AMPS Basic Maintenance
Report under this paragraph 7(b) shall be deemed to be delivery of an AMPS Basic
Maintenance Report indicating the Discounted Value for S&P Eligible Assets and
Moody's Eligible Assets of the Trust is less than the AMPS Basic Maintenance
Amount, as of the relevant Valuation Date.
(c) Within ten Business Days after the date of delivery of an AMPS Basic
Maintenance Report in accordance with paragraph 7(b) above relating to a
Quarterly Valuation Date, the Independent Accountant will confirm in writing to
the Auction Agent, S&P and Moody's (i) the mathematical accuracy of the
calculations reflected in such Report (and in any other AMPS Basic Maintenance
Report, randomly selected by the Independent Accountant, that was delivered by
the Trust during the quarter ending on such Quarterly Valuation Date), (ii)
that, in such Report (and in such randomly selected Report), the Trust correctly
determined the assets of the Trust which constitute S&P Eligible Assets or
Moody's Eligible Assets, as the case may be, at such Quarterly Valuation Date in
accordance with this Certificate of Designation, (iii) that, in such Report (and
in such randomly selected Report), the Trust determined whether the Trust had,
at such Quarterly Valuation Date (and at the Valuation Date addressed in such
randomly selected Report) in accordance with this Certificate of Designation,
S&P Eligible Assets of an aggregate Discounted Value at least equal to the AMPS
Basic Maintenance Amount and Moody's Eligible
41
<PAGE>
Assets of an aggregate Discounted Value at least equal to the AMPS Basic
Maintenance Amount, (iv) with respect to the S&P ratings on Pennsylvania
Municipal Bonds or Municipal Bonds, the issuer name, issue size and coupon rate
listed in such Report, that the Independent Accountant has requested that S&P
verify such information and the Independent Accountant shall provide a listing
in its letter of any differences, (v) with respect to the Moody's ratings on
Pennsylvania Municipal Bonds or Municipal Bonds, the issuer name, issue size and
coupon rate listed in such Report, that such information has been verified by
Moody's (in the event such information is not verified by Moody's, the
Independent Accountant will inquire of Moody's what such information is, and
provide a listing in its letter of any differences), (vi) with respect to the
bid or mean price (or such alternative permissible factor used in calculating
the Market Value) provided by the custodian of the Trust's assets to the Trust
for purposes of valuing securities in the Trust's portfolio, the Independent
Accountant has traced the price used in such Report to the bid or mean price
listed in such Report as provided to the Trust and verified that such
information agrees (in the event such information does not agree, the
Independent Accountant will provide a listing in its letter of such differences)
and (vii) with respect to such confirmation to Moody's, that the Trust has
satisfied the requirements of paragraph 8(b) of this Certificate of Designation
(such confirmation is herein called the "Accountant's Confirmation").
(d) Within ten Business Days after the date of delivery to the Auction
Agent, S&P and Moody's of an AMPS Basic Maintenance Report in accordance with
paragraph 7(b) above relating to any Valuation Date on which the Trust failed to
maintain S&P Eligible Assets with an aggregate Discounted Value and Moody's
Eligible Assets with an aggregate Discounted Value equal to or greater than the
AMPS Basic Maintenance Amount, and relating to the AMPS Basic Maintenance Cure
Date with respect to such failure, the Independent Accountant will provide to
the Auction Agent, S&P and Moody's an Accountant's Confirmation as to such AMPS
Basic Maintenance Report.
(e) If any Accountant's Confirmation delivered pursuant to subparagraph (c)
or (d) of this paragraph 7 shows that an error was made in the AMPS Basic
Maintenance Report for a particular Valuation Date for which such Accountant's
Confirmation as required to be delivered, or shows that a lower aggregate
Discounted Value for the aggregate of all S&P Eligible Assets or Moody's
Eligible Assets, as the case may be, of the Trust was determined by the
Independent Accountant, the calculation or determination made by such
Independent Accountant shall be
42
<PAGE>
final and conclusive and shall be binding on the Trust, and the Trust shall
accordingly amend and deliver the AMPS Basic Maintenance Report to the Auction
Agent, S&P and Moody's promptly following receipt by the Trust of such
Accountant's Confirmation.
(f) On or before 5:00 p.m., New York City time, on the first Business Day
after the Date of Original Issue of the AMPS, the Trust will complete and
deliver to S&P and Moody's an AMPS Basic Maintenance Report as of the close of
business on such Date of Original Issue. Within five Business Days of such Date
of Original Issue, the Independent Accountant will confirm in writing to S&P and
Moody's (i) the mathematical accuracy of the calculations reflected in such
Report and (ii) that the aggregate Discounted Value of S&P Eligible Assets and
the aggregate Discounted Value of Moody's Eligible Assets reflected thereon
equals or exceeds the AMPS Basic Maintenance Amount reflected thereon. Also, on
or before 5:00 p.m., New York City time, on the first Business Day after Common
Shares are repurchased by the Trust, the Trust will complete and deliver to S&P
and Moody's an AMPS Basic Maintenance Report as of the close of business on such
date that Common Shares are repurchased.
(g) For so long as AMPS are rated by Moody's, in managing the Trust's
portfolio, the Adviser will not alter the composition of the Trust's portfolio
if, in the reasonable belief of the Adviser, the effect of any such alteration
would be to cause the Trust to have Moody's Eligible Assets with an aggregate
Discounted Value, as of the immediately preceding Valuation Date, less than the
AMPS Basic Maintenance Amount as of such Valuation Date; provided, however, that
in the event that, as of the immediately preceding Valuation Date, the aggregate
Discounted Value of Moody's Eligible Assets exceeded the AMPS Basic Maintenance
Amount by five percent or less, the Adviser will not alter the composition of
the Trust's portfolio in a manner reasonably expected to reduce the aggregate
Discounted Value of Moody's Eligible Assets unless the Trust shall have
confirmed that, after giving effect to such alteration, the aggregate Discounted
Value of Moody's Eligible Assets would exceed the AMPS Basic Maintenance Amount.
8. Certain Other Restrictions and Requirements. (a) For so long as any AMPS
--------------------------------------------
are rated by S&P, the Trust will not purchase or sell futures contracts, write,
purchase or sell options on futures contracts or write put options (except
covered put options) or call options (except covered call options) on portfolio
securities unless it receives written confirmation from S&P
43
<PAGE>
that engaging in such transactions will not impair the ratings then assigned to
the AMPS by S&P, except that the Trust may purchase or sell futures contracts
based on the Bond Buyer Municipal Bond Index (the "Municipal Index") or United
States Treasury Bonds or Notes ("Treasury Bonds") and write, purchase or sell
put and call options on such contracts (collectively, "S&P Hedging
Transactions"), subject to the following limitations:
(i) the Trust will not engage in any S&P Hedging Transaction based
on the Municipal Index (other than transactions which terminate a futures
contract or option held by the Trust by the Trust's taking an opposite
position thereto ("Closing Transactions")), which would cause the Trust at
the time of such transaction to own or have sold the least of (A) more than
1,000 outstanding futures contracts based on the Municipal Index, (B)
outstanding futures contracts based on the Municipal Index exceeding in
number 25% of the quotient of the Market Value of the Trust's total assets
divided by $1,000 or (C) outstanding futures contracts based on the
Municipal Index exceeding in number 10% of the average number of daily
traded futures contracts based on the Municipal Index in the 30 days
preceding the time of effecting such transaction as reported by The Wall
--------
Street Journal;
--------------
(ii) the Trust will not engage in any S&P Hedging Transaction based
on Treasury Bonds (other than Closing Transactions) which would cause the
Trust at the time of such transaction to own or have sold the lesser of (A)
outstanding futures contracts based on Treasury Bonds exceeding in number
50% of the quotient of the Market Value of the Trust's total assets divided
by $100,000 ($200,000 in the case of the two-year United States Treasury
Note) or (B) outstanding futures contracts based on Treasury Bonds
exceeding in number 10% of the average number of daily traded futures
contracts based on Treasury Bonds in the 30 days preceding the time of
effecting such transaction as reported by The Wall Street Journal;
-----------------------
(iii) the Trust will engage in Closing Transactions to close out any
outstanding futures contract which the Trust owns or has sold or any
outstanding option thereon owned by the Trust in the event (A) the Trust
does not have S&P Eligible Assets with an aggregate Discounted Value equal
to or greater than the AMPS Basic Maintenance
44
<PAGE>
Amount on two consecutive Valuation Dates and (B) the Trust is required to
pay Variation Margin on the second such Valuation Date;
(iv) the Trust will engage in a Closing Transaction to close out any
outstanding futures contract or option thereon in the month prior to the
delivery month under the terms of such futures contract or option thereon
unless the Trust holds the securities deliverable under such terms; and
(v) when the Trust writes a futures contract or option thereon, it
will either maintain an amount of cash, cash equivalents or high grade
(rated A or better by S&P), fixed-income securities in a segregated account
with the Trust's custodian, so that the amount so segregated plus the
amount of Initial Margin and Variation Margin held in the account of or on
behalf of the Trust's broker with respect to such futures contract or
option equals the Market Value of the futures contract or option, or, in
the event the Trust writes a futures contract or option thereon which
requires delivery of an underlying security, it shall hold such underlying
security in its portfolio.
For purposes of determining whether the Trust has S&P Eligible Assets with
a Discounted Value that equals or exceeds the AMPS Basic Maintenance Amount, the
Discounted Value of cash or securities held for the payment of Initial Margin or
Variation Margin shall be zero and the aggregate Discounted Value of S&P
Eligible Assets shall be reduced by an amount equal to (i) 30% of the aggregate
settlement value, as marked to market, of any outstanding futures contracts
based on the Municipal Index which are owned by the Trust plus (ii) 25% of the
aggregate settlement value, as marked to market, of any outstanding futures
contracts based on Treasury Bonds which contracts are owned by the Trust.
(b) For so long as any AMPS are rated by Moody's, the Trust will not buy or
sell futures contracts, write, purchase or sell call options on futures
contracts or purchase put options on futures contracts or write call options
(except covered call options) on portfolio securities unless it receives written
confirmation from Moody's that engaging in such transactions would not impair
the ratings then assigned to the AMPS by Moody's, except that the Trust may
purchase or sell exchange-traded futures contracts based on the Municipal Index
or Treasury Bonds and purchase, write or sell exchange-traded put options on
such futures contracts and purchase, write
45
<PAGE>
or sell exchange-traded call options on such futures contracts (collectively,
"Moody's Hedging Transactions"), subject to the following limitations:
(i) the Trust will not engage in any Moody's Hedging Transaction
based on the Municipal Index (other than Closing Transactions) which would
cause the Trust at the time of such transaction to own or have sold (A)
outstanding futures contracts based on the Municipal Index exceeding in
number 10% of the average number of daily traded futures contracts based on
the Municipal Index in the 30 days preceding the time of effecting such
transaction as reported by The Wall Street Journal or (B) outstanding
-----------------------
futures contracts based on the Municipal Index having a Market Value
exceeding 50% of the Market Value of all Municipal Bonds constituting
Moody's Eligible Assets owned by the Trust (other than Moody's Eligible
Assets already subject to a Moody's Hedging Transaction);
(ii) the Trust will not engage in any Moody's Hedging Transaction
based on Treasury Bonds (other than Closing Transactions) which would cause
the Trust at the time of such transaction to own or have sold (A)
outstanding futures contracts based on Treasury Bonds having an aggregate
Market Value exceeding 20% of the aggregate Market Value of Moody's
Eligible Assets owned by the Trust and rated Aa by Moody's (or, if not
rated by Moody's but rated by S&P, rated AAA by S&P) or (B) outstanding
futures contracts based on Treasury Bonds having an aggregate Market Value
exceeding 40% of the aggregate Market Value of all Municipal Bonds
constituting Moody's Eligible Assets owned by the Trust (other than Moody's
Eligible Assets already subject to a Moody's Hedging Transaction) and rated
Baa or A by Moody's (or, if not rated by Moody's but rated by S&P, rated A
or AA by S&P) (for purposes of the foregoing clauses (i) and (ii), the
Trust shall be deemed to own the number of futures contracts that underlie
any outstanding options written by the Trust);
(iii) the Trust will engage in Closing Transactions to close out any
outstanding futures contract based on the Municipal Index if the amount of
open interest in the Municipal Index as reported by The Wall Street Journal
-----------------------
is less than 5,000;
(iv) the Trust will engage in a Closing Transaction to close out any
outstanding futures contract by no later than the fifth Business Day of the
month in which such
46
<PAGE>
contract expires and will engage in a Closing Transaction to close out any
outstanding option on a futures contract by no later than the first
Business Day of the month in which such option expires;
(v) the Trust will engage in Moody's Hedging Transactions only with
respect to futures contracts or options thereon having the next settlement
date or the settlement date immediately thereafter;
(vi) the Trust will not engage in options and futures transactions
for leveraging or speculative purposes and will not write any call options
or sell any futures contracts for the purpose of hedging the anticipated
purchase of an asset prior to completion of such purchase; and
(vii) the Trust will not enter into an option or futures transaction
unless, after giving effect thereto, the Trust would continue to have
Moody's Eligible Assets with an aggregate Discounted Value equal to or
greater than the AMPS Basic Maintenance Amount.
For purposes of determining whether the Trust has Moody's Eligible Assets
with an aggregate Discounted Value that equals or exceeds the AMPS Basic
Maintenance Amount, the Discounted Value of Moody's Eligible Assets which the
Trust is obligated to deliver or receive pursuant to an outstanding futures
contract or option shall be as follows: (i) assets subject to call options
written by the Trust which are either exchange-traded and "readily reversible"
or which expire within 49 days after the date as of which such valuation is made
shall be valued at the lesser of (a) Discounted Value and (b) the exercise price
of the call option written by the Trust; (ii) assets subject to call options
written by the Trust not meeting the requirements of clause (i) of this sentence
shall have no value; (iii) assets subject to put options written by the Trust
shall be valued at the lesser of (A) the exercise price and (B) the Discounted
Value of the subject security; (iv) futures contracts shall be valued at the
lesser of (A) settlement price and (B) the Discounted Value of the subject
security, provided that, if a contract matures within 49 days after the date as
of which such valuation is made, where the Trust is the seller the contract may
be valued at the settlement price and where the Trust is the buyer the contract
may be valued at the Discounted Value of the subject securities; and (v) where
delivery may be made to the Trust with
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<PAGE>
any security of a class of securities, the Trust shall assume that it will take
delivery of the security with the lowest Discounted Value.
For purposes of determining whether the Trust has Moody's Eligible Assets
with an aggregate Discounted Value that equals or exceeds the AMPS Basic
Maintenance Amount, the following amounts shall be subtracted from the aggregate
Discounted Value of the Moody's Eligible Assets held by the Trust: (i) 10% of
the exercise price of a written call option; (ii) the exercise price of any
written put option; (iii) where the Trust is the seller under a futures
contract, 10% of the settlement price of the futures contract; (iv) where the
Trust is the purchaser under a futures contract, the settlement price of assets
purchased under such futures contract; (v) the settlement price of the
underlying futures contract if the Trust writes put options on a futures
contract; and (vi) 105% of the Market Value of the underlying futures contracts
if the Trust writes call options on a futures contract and does not own the
underlying contract.
(c) For so long as any AMPS are rated by Moody's, the Trust will not enter
into any contract to purchase securities for a fixed price at a future date
beyond customary settlement time (other than such contracts that constitute
Moody's Hedging Transactions that are permitted under paragraph 8(b) of this
Certificate of Designation), except that the Trust may enter into such contracts
to purchase newly-issued securities on the date such securities are issued
("Forward Commitments"), subject to the following limitations:
(i) the Trust will maintain in a segregated account with its
custodian cash, cash equivalents or short-term, fixed-income securities
rated P-1, MIG-1 or VMIG-1 by Moody's and maturing prior to the date of the
Forward Commitment with a Market Value that equals or exceeds the amount of
the Trust's obligations under any Forward Commitments to which it is from
time to time a party or long-term fixed income securities with a Discounted
Value that equals or exceeds the amount of the Trust's obligations under
any Forward Commitment to which it is from time to time a party; and
(ii) the Trust will not enter into a Forward Commitment unless, after
giving effect thereto, the Trust would continue to have Moody's Eligible
Assets with an aggregate Discounted Value equal to or greater than the AMPS
Basic Maintenance Amount.
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<PAGE>
For purposes of determining whether the Trust has Moody's Eligible Assets
with an aggregate Discounted Value that equals or exceeds the AMPS Basic
Maintenance Amount, the Discounted Value of all Forward Commitments to which the
Trust is a party and of all securities deliverable to the Trust pursuant to such
Forward Commitments shall be zero.
(d) For so long as AMPS are rated by S&P or Moody's, the Trust will not,
unless it has received written confirmation from S&P and/or Moody's, as the case
may be, that such action would not impair the ratings then assigned to AMPS by
S&P and/or Moody's, as the case may be, (i) borrow money except for the purpose
of clearing transactions in portfolio securities (which borrowings shall under
any circumstances be limited to the lesser of $10 million and an amount equal to
5% of the Market Value of the Trust's assets at the time of such borrowings and
which borrowings shall be repaid within 60 days and not be extended or renewed
and shall not cause the aggregate Discounted Value of Moody's Eligible Assets
and S&P Eligible Assets to be less than the AMPS Basic Maintenance Amount), (ii)
engage in short sales of securities, (iii) lend any securities, (iv) issue any
class or series of shares ranking prior to or on a parity with the AMPS with
respect to the payment of dividends or the distribution of assets upon
dissolution, liquidation or winding up of the Trust, (v) reissue any AMPS
previously purchased or redeemed by the Trust, (vi) merge or consolidate into or
with any other corporation or entity, (vii) change the Pricing Service or (viii)
engage in reverse repurchase agreements.
9. Notice. All notices or communications, unless otherwise specified in
------
the By-Laws of the Trust or this Certificate of Designation, shall be
sufficiently given if in writing and delivered in person or mailed by first-
class mail, postage prepaid. Notice shall be deemed given on the earlier of the
date received or the date seven days after which such notice is mailed.
10. Auction Procedures.
------------------
(a) Certain definitions. As used in this paragraph 10, the following terms
-------------------
shall have the following meanings, unless the context otherwise requires:
(i) "AMPS" means the AMPS being auctioned pursuant to this paragraph
10.
(ii) "Auction Date" means the first Business Day preceding the first
day of a Dividend Period.
(iii) "Available AMPS" has the meaning specified in paragraph 10(d)(i)
below.
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(iv) "Bid" has the meaning specified in paragraph 10(b)(i) below.
(v) "Bidder" has the meaning specified in paragraph 10(b)(i) below.
(vi) "Hold Order" has the meaning specified in paragraph 10(b)(i)
below.
(vii) "Maximum Applicable Rate" for any Dividend Period will be the
Applicable Percentage of the Reference Rate. The Applicable Percentage will
be determined based on (i) the lower of the credit rating or ratings
assigned on such date to such shares by Moody's and S&P (or if Moody's or
S&P or both shall not make such rating available, the equivalent of either
or both of such ratings by a Substitute Rating Agency or two Substitute
Rating Agencies or, in the event that only one such rating shall be
available, such rating) and (ii) whether the Trust has provided
notification to the Auction Agent prior to the Auction establishing the
Applicable Rate for any dividend pursuant to paragraph 2(f) hereof that net
capital gains or other taxable income will be
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included in such dividend on AMPS as follows:
<TABLE>
<CAPTION>
Applicable Applicable
Percentage of Percentage of
Credit Ratings Reference Reference
- ---------------------------------------------------------------- Rate - Rate -
Moody's S&P No Notification Notification
- -------------------------------- ------------------------------- --------------- ------------
<S> <C> <C> <C>
"aa3" or higher AA- or higher 110% 150%
"a3" to "a1" A- to A+ 125% 160%
"baa3" to "baa1" BBB- to BBB+ 150% 250%
Below "baa3" Below BBB- 200% 275%
</TABLE>
The Trust shall take all reasonable action necessary to enable S&P and
Moody's to provide a rating for the AMPS. If either S&P or Moody's shall not
make such a rating available, or neither S&P nor Moody's shall make such a
rating available, Merrill Lynch, Pierce, Fenner & Smith Incorporated or its
affiliates and successors, after consultation with the Trust, shall select a
nationally recognized statistical rating organization or two nationally
recognized statistical rating organizations to act as a Substitute Rating Agency
or Substitute Rating Agencies, as the case may be.
(viii) "Order" has the meaning specified in paragraph 10(b)(i) below.
(ix) "Sell Order" has the meaning specified in paragraph 10(b)(i)
below.
(x) "Submission Deadline" means 1:00 P.M., New York City time, on
any Auction Date or such other time on any Auction Date as may be specified
by the Auction Agent from time to time as the time by which each Broker-
Dealer must submit to the Auction Agent in writing all Orders obtained by
it for the Auction to be conducted on such Auction Date.
(xi) "Submitted Bid" has the meaning specified in paragraph 10(d)(i)
below.
(xii) "Submitted Hold Order" has the meaning specified in paragraph
10(d)(i) below.
(xiii) "Submitted Order" has the meaning specified in paragraph
10(d)(i) below.
(xiv) "Submitted Sell Order" has the meaning specified in paragraph
10(d)(i) below.
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(xv) "Sufficient Clearing Bids" has the meaning specified in
paragraph 10(d)(i) below.
(xvi) "Winning Bid Rate" has the meaning specified in paragraph
10(d)(i) below.
(b) Orders by Beneficial Owners, Potential Beneficial Owners, Existing
------------------------------------------------------------------
Holders and Potential Holders.
- -----------------------------
(i) Unless otherwise permitted by the Trust, Beneficial Owners and
Potential Beneficial Owners may only participate in Auctions through their
Broker-Dealers. Broker-Dealers will submit the Orders of their respective
customers who are Beneficial Owners and Potential Beneficial Owners to the
Auction Agent, designating themselves as Existing Holders in respect of
shares subject to Orders submitted or deemed submitted to them by
Beneficial Owners and as Potential Holders in respect of shares subject to
Orders submitted to them by Potential Beneficial Owners. A Broker-Dealer
may also hold AMPS in its own account as a Beneficial Owner. A
Broker-Dealer may thus submit Orders to the Auction Agent as a Beneficial
Owner or a Potential Beneficial Owner and therefore participate in an
Auction as an Existing Holder or Potential Holder on behalf of both itself
and its customers. On or prior to the Submission Deadline on each Auction
Date:
(A) each Beneficial Owner may submit to its Broker-Dealer
information as to:
(1) the number of Outstanding shares, if any, of AMPS held by
such Beneficial Owner which such Beneficial Owner desires to continue
to hold without regard to the Applicable Rate for the next succeeding
Dividend Period;
(2) the number of Outstanding shares, if any, of AMPS held by
such Beneficial Owner which such Beneficial Owner desires to continue
to hold, provided that the Applicable Rate for the next succeeding
Dividend Period shall not be less than the rate per annum specified by
such Beneficial Owner; and/or
(3) the number of Outstanding shares, if any, of AMPS held by
such Beneficial Owner which such Beneficial Owner offers to sell
without regard to the Applicable Rate for the next succeeding Dividend
Period; and
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(B) each Broker-Dealer, using a list of Potential Beneficial Owners
that shall be maintained in good faith for the purpose of conducting a
competitive Auction, shall contact Potential Beneficial Owners, including
Persons that are not Beneficial Owners, on such list to determine the
number of Outstanding shares, if any, of AMPS which each such Potential
Beneficial Owner offers to purchase, provided that the Applicable Rate for
the next succeeding Dividend Period shall not be less than the rate per
annum specified by such Potential Beneficial Owner.
For the purposes hereof, the communication by a Beneficial Owner or
Potential Beneficial Owner to a Broker-Dealer, or the communication by a
Broker-Dealer acting for its own account to the Auction Agent, of information
referred to in clause (A) or (B) of this paragraph 10(b)(i) is hereinafter
referred to as an "Order" and each Beneficial Owner and each Potential
Beneficial Owner placing an Order, including a Broker-Dealer acting in such
capacity for its own account, is hereinafter referred to as a "Bidder"; an Order
containing the information referred to in clause (A)(1) of this paragraph
10(b)(i) is hereinafter referred to as a "Hold Order"; an Order containing the
information referred to in clause (A)(2) or (B) of this paragraph 10(b)(i) is
hereinafter referred to as a "Bid"; and an Order containing the information
referred to in clause (A)(3) of this paragraph 10(b)(i) is hereinafter referred
to as a "Sell Order." Inasmuch as a Broker-Dealer participates in an Auction as
an Existing Holder or a Potential Holder only to represent the interests of a
Beneficial Owner or Potential Beneficial Owner, whether it be its customers or
itself, all discussion herein relating to the consequences of an Auction for
Existing Holders and Potential Holders also applies to the underlying beneficial
ownership interests represented.
(ii) (A) A Bid by an Existing Holder shall constitute an irrevocable
offer to sell:
(1) the number of Outstanding AMPS specified in such Bid if
the Applicable Rate determined on such Auction Date shall be
less than the rate per annum specified in such Bid; or
(2) such number or a lesser number of Outstanding AMPS to
be determined as set forth in paragraph 10(e)(i)(D) if the
Applicable Rate determined on such Auction Date shall be equal
to the rate per annum specified therein; or
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(3) a lesser number of Outstanding AMPS to be determined as
set forth in paragraph 10(e)(ii)(C) if such specified rate per
annum shall be higher than the Maximum Applicable Rate and
Sufficient Clearing Bids do not exist.
(B) A Sell Order by an Existing Holder shall constitute an
irrevocable offer to sell:
(1) the number of Outstanding AMPS specified in such Sell
Order; or
(2) such number or a lesser number of Outstanding AMPS to
be determined as set forth in paragraph 10(e)(ii)(C) if
Sufficient Clearing Bids do not exist.
(C) A Bid by a Potential Holder shall constitute an irrevocable
offer to purchase:
(1) the number of Outstanding AMPS specified in such Bid if
the Applicable Rate determined on such Auction Date shall be
higher than the rate per annum specified in such Bid; or
(2) such number or a lesser number of Outstanding AMPS to
be determined as set forth in paragraph 10(e)(i)(E) if the
Applicable Rate determined on such Auction Date shall be equal
to the rate per annum specified therein.
(c) Submission of Orders by Broker-Dealers to Auction Agent.
-------------------------------------------------------
(i) Each Broker-Dealer shall submit in writing or through the
Auction Agent's Auction Processing System to the Auction Agent prior to the
Submission Deadline on each Auction Date all Orders obtained by such
Broker-Dealer, designating itself (unless otherwise permitted by the Trust)
as an Existing Holder in respect of shares subject to Orders submitted or
deemed submitted to it by Beneficial Owners and as a Potential Holder in
respect of shares subject to Orders submitted to it by Potential Beneficial
Owners, and specifying with respect to each Order:
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<PAGE>
(A) the name of the Bidder placing such Order (which shall be
the Broker-Dealer unless otherwise permitted by the Trust);
(B) the aggregate number of Outstanding AMPS that are the
subject of such Order;
(C) to the extent that such Bidder is an Existing Holder:
(1) the number of Outstanding shares, if any, of AMPS
subject to any Hold Order placed by such Existing Holder;
(2) the number of Outstanding shares, if any, of AMPS
subject to any Bid placed by such Existing Holder and the rate
per annum specified in such Bid; and
(3) the number of Outstanding shares, if any, of AMPS
subject to any Sell Order placed by such Existing Holder; and
(D) to the extent such Bidder is a Potential Holder, the rate
per annum specified in such Potential Holder's Bid.
(ii) If any rate per annum specified in any Bid contains more
than three figures to the right of the decimal point, the Auction
Agent shall round such rate up to the next highest one-thousandth
(.001) of 1%.
(iii) If an Order or Orders covering all of the Outstanding AMPS
held by an Existing Holder are not submitted to the Auction Agent
prior to the Submission Deadline, the Auction Agent shall deem a Hold
Order (in the case of an Auction relating to a Dividend Period which
is not a Special Dividend Period of 28 days or more) and a Sell Order
(in the case of an Auction relating to a Special Dividend Period of 28
days or more) to have been submitted on behalf of such Existing Holder
covering the number of Outstanding AMPS held by such Existing Holder
and not subject to Orders submitted to the Auction Agent.
(iv) If one or more Orders on behalf of an Existing Holder
covering in the aggregate more than the number of Outstanding AMPS
held by such Existing Holder are submitted to the Auction Agent, such
Order shall be considered valid as follows and in the following order
of priority:
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<PAGE>
(A) any Hold Order submitted on behalf of such Existing Holder
shall be considered valid up to and including the number of Outstanding
AMPS held by such Existing Holder; provided that if more than one Hold
Order is submitted on behalf of such Existing Holder and the number of
AMPS subject to such Hold Orders exceeds the number of Outstanding AMPS
held by such Existing Holder, the number of AMPS subject to each of
such Hold Orders shall be reduced pro rata so that such Hold Orders, in
the aggregate, will cover exactly the number of Outstanding AMPS held
by such Existing Holder;
(B) any Bids submitted on behalf of such Existing Holder shall
be considered valid, in the ascending order of their respective rates
per annum if more than one Bid is submitted on behalf of such Existing
Holder, up to and including the excess of the number of Outstanding
AMPS held by such Existing Holder over the number of AMPS subject to
any Hold Order referred to in paragraph 10(c)(iv)(A) above (and if more
than one Bid submitted on behalf of such Existing Holder specifies the
same rate per annum and together they cover more than the remaining
number of shares that can be the subject of valid Bids after
application of paragraph 10(c)(iv)(A) above and of the foregoing
portion of this paragraph 10(c)(iv)(B) to any Bid or Bids specifying a
lower rate or rates per annum, the number of shares subject to each of
such Bids shall be reduced pro rata so that such Bids, in the
aggregate, cover exactly such remaining number of shares); and the
number of shares, if any, subject to Bids not valid under this
paragraph 10(c)(iv)(B) shall be treated as the subject of a Bid by a
Potential Holder; and
(C) any Sell Order shall be considered valid up to and
including the excess of the number of Outstanding AMPS held by such
Existing Holder over the number of AMPS subject to Hold Orders referred
to in paragraph 10(c)(iv)(A) and Bids referred to in paragraph
10(c)(iv)(B); provided that if more than one Sell Order is submitted on
behalf of any Existing Holder and the number of AMPS subject to such
Sell Orders is greater than such excess, the number of AMPS subject to
each of such Sell Orders shall be reduced pro rata so that such Sell
Orders, in the aggregate, cover exactly the number of AMPS equal to
such excess.
56
<PAGE>
(v) If more than one Bid is submitted on behalf of any Potential
Holder, each Bid submitted shall be a separate Bid with the rate per annum
and number of AMPS therein specified.
(vi) Any Order submitted by a Beneficial Owner as a Potential
Beneficial Owner to its Broker-Dealer, or by a Broker-Dealer to the Auction
Agent, prior to the Submission Deadline on any Auction Date shall be
irrevocable.
(d) Determination of Sufficient Clearing Bids, Winning Bid Rate and
---------------------------------------------------------------
Applicable Rate.
- ---------------
(i) Not earlier than the Submission Deadline on each Auction Date,
the Auction Agent shall assemble all Orders submitted or deemed submitted
to it by the Broker-Dealers (each such Order as submitted or deemed
submitted by a Broker-Dealer being hereinafter referred to individually as
a "Submitted Hold Order," a "Submitted Bid" or a "Submitted Sell Order," as
the case may be, or as a "Submitted Order") and shall determine:
(A) the excess of the total number of Outstanding AMPS over the
number of Outstanding AMPS that are the subject of Submitted Hold Orders
(such excess being hereinafter referred to as the "Available AMPS");
(B) from the Submitted Orders whether the number of Outstanding
AMPS that are the subject of Submitted Bids by Potential Holders specifying
one or more rates per annum equal to or lower than the Maximum Applicable
Rate exceeds or is equal to the sum of:
(1) the number of Outstanding AMPS that are the subject of
Submitted Bids by Existing Holders specifying one or more rates per
annum higher than the Maximum Applicable Rate, and
(2) the number of Outstanding AMPS that are subject to
Submitted Sell Orders (if such excess or such equality exists (other
than because the number of Outstanding AMPS in clause (1) above and
this clause (2) are each zero because all of the Outstanding AMPS are
the subject of Submitted Hold Orders), such Submitted Bids by
Potential Holders being hereinafter referred to collectively as
"Sufficient Clearing Bids"); and
57
<PAGE>
(C) if Sufficient Clearing Bids exist, the lowest rate per annum
specified in the Submitted Bids (the "Winning Bid Rate") that if:
(1) each Submitted Bid from Existing Holders specifying the
Winning Bid Rate and all other Submitted Bids from Existing Holders
specifying lower rates per annum were rejected, thus entitling such
Existing Holders to continue to hold the AMPS that are the subject of
such Submitted Bids, and
(2) each Submitted Bid from Potential Holders specifying the
Winning Bid Rate and all other Submitted Bids from Potential Holders
specifying lower rates per annum were accepted, thus entitling the
Potential Holders to purchase the AMPS that are the subject of such
Submitted Bids, would result in the number of shares subject to all
Submitted Bids specifying the Winning Bid Rate or a lower rate per
annum being at least equal to the Available AMPS.
(ii) Promptly after the Auction Agent has made the determinations
pursuant to paragraph 10(d)(i), the Auction Agent shall advise the Trust of
the Maximum Applicable Rate and, based on such determinations, the
Applicable Rate for the next succeeding Dividend Period as follows:
(A) if Sufficient Clearing Bids exist, that the Applicable Rate for
the next succeeding Dividend Period shall be equal to the Winning Bid Rate;
(B) if Sufficient Clearing Bids do not exist (other than because
all of the Outstanding AMPS are the subject of Submitted Hold Orders), that
the Applicable Rate for the next succeeding Dividend Period shall be equal
to the Maximum Applicable Rate; or
(C) if all of the Outstanding AMPS are the subject of Submitted
Hold Orders, that the Dividend Period next succeeding the Auction shall
automatically be the same length as the immediately preceding Dividend
Period and the Applicable Rate for the next succeeding Dividend Period
shall be equal to 40% of the Reference Rate (or 60% of such rate if the
Trust has provided notification to the Auction Agent prior to the Auction
establishing the Applicable Rate for any dividend pursuant to paragraph
2(f) hereof that
58
<PAGE>
net capital gains or other taxable income will be included in such dividend
on AMPS) on the date of the Auction.
(e) Acceptance and Rejection of Submitted Bids and Submitted Sell Orders
--------------------------------------------------------------------
and Allocation of Shares. Based on the determinations made pursuant to paragraph
- ------------------------
10(d)(i), the Submitted Bids and Submitted Sell Orders shall be accepted or
rejected and the Auction Agent shall take such other action as set forth below:
(i) If Sufficient Clearing Bids have been made, subject to the
provisions of paragraph 10(e)(iii) and paragraph 10(e)(iv), Submitted Bids
and Submitted Sell Orders shall be accepted or rejected in the following
order of priority and all other Submitted Bids shall be rejected:
(A) the Submitted Sell Orders of Existing Holders shall be accepted
and the Submitted Bid of each of the Existing Holders specifying any rate
per annum that is higher than the Winning Bid Rate shall be accepted, thus
requiring each such Existing Holder to sell the Outstanding AMPS that are
the subject of such Submitted Sell Order or Submitted Bid;
(B) the Submitted Bid of each of the Existing Holders specifying
any rate per annum that is lower than the Winning Bid Rate shall be
rejected, thus entitling each such Existing Holder to continue to hold the
Outstanding AMPS that are the subject of such Submitted Bid;
(C) the Submitted Bid of each of the Potential Holders specifying
any rate per annum that is lower than the Winning Bid Rate shall be
accepted;
(D) the Submitted Bid of each of the Existing Holders specifying a
rate per annum that is equal to the Winning Bid Rate shall be rejected,
thus entitling each such Existing Holder to continue to hold the
Outstanding AMPS that are the subject of such Submitted Bid, unless the
number of Outstanding AMPS subject to all such Submitted Bids shall be
greater than the number of Outstanding AMPS ("Remaining Shares") equal to
the excess of the Available AMPS over the number of Outstanding AMPS
subject to Submitted Bids described in paragraph 10(e)(i)(B) and paragraph
10(e)(i)(C), in which event the Submitted Bids of each such Existing Holder
shall be accepted, and each such
59
<PAGE>
Existing Holder shall be required to sell Outstanding AMPS, but only in an
amount equal to the difference between (1) the number of Outstanding AMPS
then held by such Existing Holder subject to such Submitted Bid and (2) the
number of AMPS obtained by multiplying (x) the number of Remaining Shares
by (y) a fraction the numerator of which shall be the number of Outstanding
AMPS held by such Existing Holder subject to such Submitted Bid and the
denominator of which shall be the sum of the number of Outstanding AMPS
subject to such Submitted Bids made by all such Existing Holders that
specified a rate per annum equal to the Winning Bid Rate; and
(E) the Submitted Bid of each of the Potential Holders specifying a
rate per annum that is equal to the Winning Bid Rate shall be accepted but
only in an amount equal to the number of Outstanding AMPS obtained by
multiplying (x) the difference between the Available AMPS and the number of
Outstanding AMPS subject to Submitted Bids described in paragraph
10(e)(i)(B), paragraph 10(e)(i)(C) and paragraph 10(e)(i)(D) by (y) a
fraction the numerator of which shall be the number of Outstanding AMPS
subject to such Submitted Bid and the denominator of which shall be the sum
of the number of Outstanding AMPS subject to such Submitted Bids made by
all such Potential Holders that specified rates per annum equal to the
Winning Bid Rate.
(ii) If Sufficient Clearing Bids have not been made (other than
because all of the Outstanding AMPS are subject to Submitted Hold Orders),
subject to the provisions of paragraph 10(e)(iii), Submitted Orders shall
be accepted or rejected as follows in the following order of priority and
all other Submitted Bids shall be rejected:
(A) the Submitted Bid of each Existing Holder specifying any rate
per annum that is equal to or lower than the Maximum Applicable Rate shall
be rejected, thus entitling such Existing Holder to continue to hold the
Outstanding AMPS that are the subject of such Submitted Bid;
(B) the Submitted Bid of each Potential Holder specifying any rate
per annum that is equal to or lower than the Maximum Applicable Rate shall
be accepted, thus requiring such Potential Holder to purchase the
Outstanding AMPS that are the subject of such Submitted Bid; and
60
<PAGE>
(C) the Submitted Bids of each Existing Holder specifying any rate
per annum that is higher than the Maximum Applicable Rate shall be accepted
and the Submitted Sell Orders of each Existing Holder shall be accepted, in
both cases only in an amount equal to the difference between (1) the number
of Outstanding AMPS then held by such Existing Holder subject to such
Submitted Bid or Submitted Sell Order and (2) the number of AMPS obtained
by multiplying (x) the difference between the Available AMPS and the
aggregate number of Outstanding AMPS subject to Submitted Bids described in
paragraph 10(e)(ii)(A) and paragraph 10(e)(ii)(B) by (y) a fraction the
numerator of which shall be the number of Outstanding AMPS held by such
Existing Holder subject to such Submitted Bid or Submitted Sell Order and
the denominator of which shall be the number of Outstanding AMPS subject to
all such Submitted Bids and Submitted Sell Orders.
(iii) If, as a result of the procedures described in paragraph
10(e)(i) or paragraph 10(e)(ii), any Existing Holder would be entitled or
required to sell, or any Potential Holder would be entitled or required to
purchase, a fraction of a share of AMPS on any Auction Date, the Auction
Agent shall, in such manner as in its sole discretion it shall determine,
round up or down the number of AMPS to be purchased or sold by any Existing
Holder or Potential Holder on such Auction Date so that each Outstanding
share of AMPS purchased or sold by each Existing Holder or Potential Holder
on such Auction Date shall be a whole share of AMPS.
(iv) If, as a result of the procedures described in paragraph
10(e)(i), any Potential Holder would be entitled or required to purchase
less than a whole share of AMPS on any Auction Date, the Auction Agent
shall, in such manner as in its sole discretion it shall determine,
allocate AMPS for purchase among Potential Holders so that only whole AMPS
are purchased on such Auction Date by any Potential Holder, even if such
allocation results in one or more of such Potential Holders not purchasing
any AMPS on such Auction Date.
(v) Based on the results of each Auction, the Auction Agent shall
determine, with respect to each Broker-Dealer that submitted Bids or Sell
Orders on behalf of Existing Holders or Potential Holders, the aggregate
number of Outstanding AMPS to be
61
<PAGE>
purchased and the aggregate number of the Outstanding AMPS to be sold by
such Potential Holders and Existing Holders and, to the extent that such
aggregate number of Outstanding shares to be purchased and such aggregate
number of Outstanding shares to be sold differ, the Auction Agent shall
determine to which other Broker-Dealer or Broker-Dealers acting for one or
more purchasers such Broker-Dealer shall deliver, or from which other
Broker-Dealer or Broker-Dealers acting for one or more sellers such
Broker-Dealer shall receive, as the case may be, Outstanding AMPS.
(f) Miscellaneous. The Trust may interpret the provisions of this paragraph
-------------
10 to resolve any inconsistency or ambiguity, remedy any formal defect or make
any other change or modification that does not substantially adversely affect
the rights of Beneficial Owners of AMPS. A Beneficial Owner or an Existing
Holder (A) may sell, transfer or otherwise dispose of AMPS only pursuant to a
Bid or Sell Order in accordance with the procedures described in this paragraph
10 or to or through a Broker-Dealer, provided that in the case of all transfers
other than pursuant to Auctions such Beneficial Owner or Existing Holder, its
Broker-Dealer, if applicable, or its Agent Member advises the Auction Agent of
such transfer and (B) except as otherwise required by law, shall have the
ownership of the AMPS held by it maintained in book entry form by the Securities
Depository in the account of its Agent Member, which in turn will maintain
records of such Beneficial Owner's beneficial ownership. Neither the Trust nor
any Affiliate shall submit an Order in any Auction. Any Beneficial Owner that is
an Affiliate shall not sell, transfer or otherwise dispose of AMPS to any Person
other than the Trust. All of the Outstanding AMPS of a series shall be
represented by a single certificate registered in the name of the nominee of the
Securities Depository unless otherwise required by law or unless there is no
Securities Depository. If there is no Securities Depository, at the Trust's
option and upon its receipt of such documents as it deems appropriate, any AMPS
may be registered in the Share Register in the name of the Beneficial Owner
thereof and such Beneficial Owner thereupon will be entitled to receive
certificates therefor and required to deliver certificates therefor upon
transfer or exchange thereof.
11. Securities Depository; Share Certificates. (a) If there is a Securities
-----------------------------------------
Depository, one certificate for all of the AMPS shall be issued to the
Securities Depository and registered in the name of the Securities Depository or
its nominee. Additional certificates may be issued as necessary to represent
AMPS. All such certificates shall bear a legend to the effect that such
62
<PAGE>
certificates are issued subject to the provisions restricting the transfer of
AMPS contained in this Certificate of Designation. Unless the Trust shall have
elected, during a Non-Payment Period, to waive this requirement, the Trust will
also issue stop-transfer instructions to the Auction Agent for the AMPS. Except
as provided in paragraph (b) below, the Securities Depository or its nominee
will be the Holder, and no Beneficial Owner shall receive certificates
representing its ownership interest in such shares.
(b) If the Applicable Rate applicable to all AMPS of a series shall be the
Non-Payment Period Rate or there is no Securities Depository, the Trust may at
its option issue one or more new certificates with respect to such shares
(without the legend referred to in paragraph 11(a)) registered in the names of
the Beneficial Owners or their nominees and rescind the stop-transfer
instructions referred to in paragraph 11(a) with respect to such shares.
12. Personal Liability. The Declaration of Trust establishing MuniHoldings
------------------
Pennsylvania Insured Fund, dated December 3, 1998, a copy of which, together
with all amendments thereto, is on file in the office of the Secretary of the
Commonwealth of Massachusetts, provides that the name "MuniHoldings Pennsylvania
Insured Fund" refers to the trustees under the Declaration collectively as
trustees, but not as individuals or personally; and no trustee, shareholder,
officer, employee or agent of the Trust shall be held to any personal liability,
nor shall resort be had to their private property for the satisfaction of any
obligation or claim or otherwise in connection with the affairs of the Trust,
but the "Trust Property" only shall be liable.
63
<PAGE>
MUNIHOLDINGS PENNSYLVANIA INSURED FUND
CERTIFICATE
The undersigned hereby certifies that she is the Secretary of MuniHoldings
Pennsylvania Insured Fund, an unincorporated business trust organized and
existing under the laws of The Commonwealth of Massachusetts (the "Trust"), that
annexed hereto is the Certificate of Designation dated , 1999,
establishing the powers, qualifications, rights and preferences of the Auction
Market Preferred Shares, Series A of the Trust, which Certificate has been
adopted by the Board of Trustees of the Trust in a manner provided in the
Trust's Declaration of Trust.
Dated this 26th day of January, 1999.
/s/ Alice A. Pellegrino
-----------------------------------
Alice A. Pellegrino
Secretary
<PAGE>
Exhibit 99(l)
BROWN & WOOD LLP
One World Trade Center
New York, New York 10048-0557
Telephone (212) 839-5300
Facsimile (212) 839-5599
March 3, 1999
MuniHoldings Pennsylvania Insured Fund
800 Scudders Mill Road
Plainsboro, New Jersey 08536
Dear Sirs:
This opinion is being furnished in connection with the registration by
MuniHoldings Pennsylvania Insured Fund, a Massachusetts business trust (the
"Fund"), of Auction Market Preferred Shares, par value $0.10 per share,
(the "Shares"), under the Securities Act of 1933, as amended (the "Securities
Act"), pursuant to the Fund's registration statement on Form N-2, as amended
(the "Registration Statement"), under the Securities Act. The Shares will be
issued pursuant to the Certificate of Designation to be filed with the Secretary
of State of the Commonwealth of Massachusetts.
As counsel for the Fund, we are familiar with the proceedings taken by
it in connection with the authorization, issuance and sale of the Shares. In
addition, we have examined and are familiar with the Declaration of Trust, as
amended, of the Fund, the By-Laws of the Fund, and such other documents as we
have deemed relevant to the matters referred to in this opinion.
Based upon the foregoing, we are of the opinion that the Shares, upon
issuance and sale in the manner referred to in the Registration Statement, will
be legally issued, fully paid and non-assessable shares of preferred stock of
the Fund.
<PAGE>
We hereby consent to the filing of this opinion as an exhibit to the
Registration Statement and to the use of our name in the Prospectus constituting
a part thereof.
Very truly yours,
/s/ Brown & Wood LLP
2
<PAGE>
EXHIBIT (n)
INDEPENDENT AUDITORS' CONSENT
MuniHoldings Pennsylvania Insured Fund:
We consent to the use in Pre-Effective Amendment No. 1 to Registration Statement
No. 333-70425 of our report dated January 21, 1999 appearing in the Statement of
Additional Information, which is a part of such Registration Statement, and to
the reference to us under the caption "Experts" appearing in the Prospectus,
which also is a part of such Registration Statement.
/s/Deloitte & Touche LLP
Deloitte & Touche LLP
Princeton, New Jersey
March 1, 1999
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 6
<S> <C>
<PERIOD-TYPE> OTHER
<FISCAL-YEAR-END> SEP-30-1999
<PERIOD-START> FEB-26-1999
<PERIOD-END> FEB-26-1999
<INVESTMENTS-AT-COST> 20421459
<INVESTMENTS-AT-VALUE> 20440069
<RECEIVABLES> 28338631
<ASSETS-OTHER> 118255
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 48896955
<PAYABLE-FOR-SECURITIES> 20634040
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 147518
<TOTAL-LIABILITIES> 20781558
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 28096778
<SHARES-COMMON-STOCK> 1881667
<SHARES-COMMON-PRIOR> 6667
<ACCUMULATED-NII-CURRENT> 9
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> 0
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> 18610
<NET-ASSETS> 28115397
<DIVIDEND-INCOME> 0
<INTEREST-INCOME> 0
<OTHER-INCOME> 0
<EXPENSES-NET> 0
<NET-INVESTMENT-INCOME> 0
<REALIZED-GAINS-CURRENT> 0
<APPREC-INCREASE-CURRENT> 0
<NET-CHANGE-FROM-OPS> 0
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> 0
<DISTRIBUTIONS-OF-GAINS> 0
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 1875000
<NUMBER-OF-SHARES-REDEEMED> 0
<SHARES-REINVESTED> 0
<NET-CHANGE-IN-ASSETS> 28015392
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> 0
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR> 0
<GROSS-ADVISORY-FEES> 0
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 0
<AVERAGE-NET-ASSETS> 28115397
<PER-SHARE-NAV-BEGIN> 14.94
<PER-SHARE-NII> 0
<PER-SHARE-GAIN-APPREC> 0
<PER-SHARE-DIVIDEND> 0
<PER-SHARE-DISTRIBUTIONS> 0
<RETURNS-OF-CAPITAL> 0
<PER-SHARE-NAV-END> 14.94
<EXPENSE-RATIO> 0
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0
</TABLE>
