<PAGE>
<PAGE>
LIBERTY FLOATING RATE ADVANTAGE FUND PROSPECTUS, JANUARY 1, 2001
CLASS A, B AND C SHARES
Advised by Stein Roe & Farnham Incorporated
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TABLE OF CONTENTS
Prospectus Summary ........................................................ 4
Fund Expenses ............................................................. 8
Financial Highlights ...................................................... 10
The Fund .................................................................. 11
Use of Proceeds ........................................................... 11
Investment Objective and Policies ......................................... 11
How the Fund Invests ...................................................... 12
Principal Risks ........................................................... 19
Other Investment Practices ................................................ 23
Distributions and Income Taxes ............................................ 27
Management of the Fund .................................................... 29
How to Buy Shares ......................................................... 30
Multiple Share Classes .................................................... 31
Periodic Repurchase Offers ................................................ 35
Net Asset Value ........................................................... 37
Performance Information ................................................... 38
Organization and Description of Shares .................................... 40
Shareholder Reports ....................................................... 41
Financial Statements ...................................................... 41
Statement of Additional Information Table of Contents ..................... 42
Although these securities have been registered with the Securities and Exchange
Commission, the Commission has not approved or disapproved any shares offered in
this prospectus or determined whether this prospectus is truthful or complete.
Any representation to the contrary is a criminal offense.
----------------------------
Not FDIC May Lose Value
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Insured No Bank Guarantee
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<PAGE>
Liberty Floating Rate Advantage Fund is a non-diversified, closed-end management
investment company that is continuously offered.
Investment Objective. The Fund's investment objective is to provide a high level
of current income, consistent with preservation of capital. The Fund seeks to
achieve its objective by investing primarily (at least 80% of its total assets)
in adjustable rate senior loans (Senior Loans), the interest rates of which
float or vary periodically based upon a benchmark indicator of prevailing
interest rates. Senior Loans are business loans that have a senior right to
payment to most other debts of the borrower. Senior Loans are often secured by
specific assets of the borrower, although the Fund may also invest in Senior
Loans that are not secured by any collateral. All or substantially all of the
Fund's Senior Loans may be rated below investment grade. The Fund may
periodically borrow money for the purpose of financing long-term investments,
obtaining short-term liquidity and for temporary, emergency or extraordinary
purposes. To the extent the Fund borrows more money than it has cash or
short-term cash equivalents and invests the proceeds in Senior Loans, the Fund
will create financial leverage.
<TABLE>
<CAPTION>
Price to Public (1) Maximum Sales Load(2) Proceeds to Fund (3)
-----------------------------------------------------------------------------------------
<S> <C> <C> <C>
Per Class A Share $12.04 $0.42 $11.62
Per Class B Share $12.02 None $12.02
Per Class C Share $12.02 None $12.02
</TABLE>
(1) The shares are offered on a best efforts basis at a price equal to net
asset value. The shares are offered continuously. The minimum initial
purchase is $2,500. No arrangements have been made to place the funds
in an escrow, trust, or similar arrangement. As of November 30, 2000,
net asset value per share of the Fund was $12.04 for Class A, $12.02
for each of Class B and Class C shares.
(2) The maximum initial sales load on Class A shares is 3.5% of the public
offering price. Class B and C shares are not subject to an initial
sales load but are subject to an early withdrawal charge. Class A, B
and C shares are subject to a distribution fee and a service fee.
(3) Assumes the sale of all shares registered.
Periodic Repurchase Offers. To provide liquidity to shareholders, the Fund will
make quarterly repurchase offers for 5% to 25% of its outstanding shares. For
each Repurchase Offer, it is anticipated that the Repurchase Request Deadline
will be on the 15th day in each of the months of February, May, August and
November, or if the 15th day is not a business day, the next business day. It is
anticipated that normally the Repurchase Pricing Date will be the same date as
the Repurchase Request Deadline, and if so, the Repurchase Request Deadline will
be set for a time no later than the close of the NYSE on such date. The Fund has
determined that the Repurchase Pricing Date may occur no later than the 14th day
after the Repurchase Request Deadline, or the next business day if the 14th day
is not a business day. The Fund will repay a Repurchase Offer no later than
seven days after the Repurchase Pricing Date. (See "Periodic Repurchase
Offers.")
Not Exchange Listed. The Fund does not intend to list the shares on any national
securities exchange. SHARES OF THE FUND HAVE NO HISTORY OF PUBLIC TRADING AND
THERE IS NOT EXPECTED TO BE ANY SECONDARY TRADING MARKET IN THE SHARES. An
investment in the shares should be considered illiquid. (See "Principal Risks.")
INVESTMENT IN THE FUND INVOLVES RISKS, INCLUDING THE POSSIBLE LOSS OF SOME OR
ALL OF THE PRINCIPAL INVESTMENT, RISKS ASSOCIATED WITH LEVERAGE AND RISKS
ASSOCIATED WITH SECURITIES RATED BELOW INVESTMENT GRADE (OFTEN REFERRED TO AS
"JUNK BONDS"). (SEE "PRINCIPAL RISKS.")
2
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The Prospectus sets forth concisely the information that a prospective investor
should know before investing in Class A, B or C shares of the Fund. Please read
and retain this Prospectus for future reference. A Statement of Additional
Information regarding the Fund dated January 1, 2001, has been filed with the
Securities and Exchange Commission ("SEC") and can be obtained without charge by
calling 800-426-3750. A table of contents to the Statement of Additional
Information is located on the last page of this Prospectus. This Prospectus
incorporates by reference the entire Statement of Additional Information
(together with any supplement to it). The Statement of Additional Information
and other related materials are available at the SEC's internet web site
(http://www.sec.gov).
The Fund's investment advisor is Stein Roe & Farnham Incorporated (Stein Roe).
The address of the Fund is One Financial Center, Boston, Massachusetts 02111.
This prospectus applies to the offering of shares of beneficial interest of the
Fund, which may be continuously issued and sold from time to time by the Fund
through Liberty Funds Distributor, Inc., as distributor and principal
underwriter, and through your financial advisor. (See "How to Buy Shares.") The
Fund is authorized as a Massachusetts business trust to issue an unlimited
number of common shares and has registered 20,625,000 Class A and 10,625,000 for
each of Class B and C common shares.
The Fund's Class A shares are subject to a front-end sales charge and to a
distribution fee and other expenses. The Fund's Class B shares will not be
subject to a front-end sales charge, but will be subject to a declining early
withdrawal charge (EWC) over a five-year period and a distribution fee, as well
as other expenses. Class B shares will convert automatically to Class A shares
eight years from the end of the month in which the shares were purchased. The
Fund's Class C shares will not be subject to a front-end sales charge, but will
be subject to an EWC of 1% during the first year a shareholder owns Class C
shares and a distribution fee, as well as other expenses. The Fund may add
additional classes of shares in the future.
THE FUND HAS RECEIVED EXEMPTIVE RELIEF FROM THE SEC WITH RESPECT TO THE FUND'S
DISTRIBUTION FEE ARRANGEMENTS, EWCS AND MULTI-CLASS STRUCTURE. AS A CONDITION OF
SUCH RELIEF, THE FUND WILL BE REQUIRED TO COMPLY WITH REGULATIONS THAT WOULD NOT
OTHERWISE BE APPLICABLE TO THE FUND.
SHARES OF THE FUND ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR ENDORSED
BY, ANY BANK OR OTHER INSURED DEPOSITORY INSTITUTION, AND ARE NOT FEDERALLY
INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION, THE FEDERAL RESERVE BOARD
OR ANY OTHER GOVERNMENT AGENCY.
3
<PAGE>
PROSPECTUS SUMMARY
This is only a summary. You should review the more detailed information
contained in this prospectus and in the Statement of Additional Information.
THE FUND. The Fund is a continuously-offered non-diversified, closed-end
management investment company, organized as a Massachusetts business trust.
Prior to July 14, 2000, the Fund was known as Liberty-Stein Roe Advisor
Floating Rate Advantage Fund.
The Fund intends to offer its shares continuously through the Distributor,
as principal underwriter, and through financial advisors at a price equal
to the next determined net asset value per share. The minimum initial
investment is $2,500 ($25 for individual retirement accounts) and the
minimum subsequent investment is $50. The Fund reserves the right to change
the investment minimums and to refuse a purchase order for any reason.
CLASSES OF SHARES. The Fund offers three classes of shares in this prospectus,
with each class having its own sales charge and expense structure. Each
class has distinct advantages and disadvantages for different investors.
(See "Multiple Share Classes.")
INVESTMENT OBJECTIVE. The investment objective of the Fund is to provide a high
level of current income, consistent with preservation of capital. There can
be no assurance that the Fund will achieve its investment objective.
The Fund seeks to achieve its objective by investing primarily (at least
80% of its total assets) in a portfolio of Senior Loans to corporations,
partnerships and other entities (Borrowers) that operate in a variety of
industries and geographic regions (including domestic and foreign
entities).
INVESTMENT POLICIES. Under normal market conditions, at least 80% of the Fund's
total assets will be invested in Senior Loans of domestic Borrowers or
foreign Borrowers (so long as Senior Loans to such foreign Borrowers are
U.S. dollar denominated and payments of interest and repayments of
principal pursuant to such Senior Loans are required to be made in U.S.
dollars). Although most Senior Loans are secured, the Fund may invest up to
20% of its total assets in interests in Senior Loans that are not secured
by any collateral. During normal market conditions, the Fund may invest up
to 20% of its total assets (including assets maintained by the Fund as a
reserve against any additional loan commitments) in (i) high quality,
short-term debt securities with remaining maturities of one year or less
and (ii) warrants, equity securities and, in limited circumstances, junior
debt securities acquired in connection with the Fund's investments in
Senior Loans.
A maximum of 25% of the Fund's total assets (taken at current value) may be
invested in Senior Loans to Borrowers and securities of other issuers in
any one industry. However, the Fund may invest more than 25% of its total
assets in securities the issuer of which is engaged in the financial
services industry, which includes commercial banks, thrift institutions,
insurance companies and finance companies. The Fund invests at these levels
because it regards the issuers of Senior Loans in which the Fund may invest
to include the Borrower as well as any Agent that administers the Senior
Loans. Accordingly, the Fund may be more at risk to any single economic,
political or regulatory occurrence affecting such industries.
4
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The Fund may borrow money in an amount up to 33 1/3% of the Fund's total
assets (after giving effect to the amount borrowed). The Fund may borrow
for the purpose of financing long-term investments, obtaining short-term
liquidity and for temporary, extraordinary or emergency purposes. To the
extent the Fund borrows more money than it has cash or short-term cash
equivalents and invests the proceeds in Senior Loans, the Fund will create
financial leverage. It will do so only when it expects to be able to invest
the proceeds at a higher rate of return than its cost of borrowing.
HOW THE FUND INVESTS. Senior Loans generally are arranged through private
negotiations between a Borrower and several financial institutions
(Lenders) represented in each case by one or more such Lenders acting as
agent (Agent) of the several Lenders. On behalf of the several Lenders, the
Agent is primarily responsible for negotiating the loan agreement (Loan
Agreement) that establishes the relative terms and conditions of the Senior
Loan and rights of the Borrower and the several Lenders. The Fund may
invest all or substantially all of its assets in Senior Loans that are
rated below investment grade, or in comparable unrated securities. Senior
Loans in which the Fund will purchase interests generally pay interest at
rates that are periodically redetermined by reference to a base lending
rate plus a premium. The Fund may invest in participations (Participations)
in Senior Loans, may purchase assignments (Assignments) of portions of
Senior Loans from third parties, and may act as one of the group of Lenders
originating a Senior Loan (Primary Lender).
Stein Roe expects the Fund's policy of acquiring interests in floating or
variable rate Senior Loans to minimize the fluctuations in net asset value
as a result of changes in interest rates. However, the Fund is not a money
market fund and its net asset value will fluctuate.
PRINCIPAL RISKS. You should consider the following risk considerations before
investing in the Fund. As described below, the risks could cause you to
lose money as a result of investing in the Fund. See "Principal Risks" in
the Prospectus for more detailed information.
Non-Payment Risk. Senior Loans, like other corporate debt obligations, are
subject to the risk of non-payment of scheduled interest or principal. Such
non-payment would result in a reduction of income to the Fund, a reduction
in the value of the Senior Loan experiencing non-payment, and a potential
decrease in the net asset value of the Fund.
Below Investment Grade Securities. The Fund may invest all or substantially
all of its assets in Senior Loans or other securities that are rated below
investment grade, or in comparable unrated securities. These securities are
commonly referred to as high-yield debt or "junk debt." The purchase of
such Senior Loans exposes the Fund to financial, market, and interest-rate
risks and greater credit risks than would the purchase of higher-rated
Senior Loans. Such investments are also likely to result in increased
fluctuation in the Fund's net asset value, particularly in response to
economic downturns.
Restrictions on Resale of Senior Loans. Senior Loans, at present, generally
are not readily marketable and may be subject to restrictions on resale. As
a result, the ability of the Fund to dispose of its investments in a timely
fashion and at a fair price may be restricted.
5
<PAGE>
Borrowing. The Fund is authorized to borrow money in an amount up to
33 1/3% of the Fund's total assets (after giving effect to the amount
borrowed). The use of leverage for investment purposes creates
opportunities for greater total returns but at the same time involves
risks. Any investment income or gains earned with respect to the amounts
borrowed, which is in excess of the interest which is due on the borrowing,
will augment the Fund's income. Conversely, if the investment performance
with respect to the amounts borrowed fails to cover the interest on such
borrowings, the value of the Fund's shares may decrease more quickly than
would otherwise be the case and dividends on the shares would be reduced or
eliminated. Interest payments and fees incurred in connection with such
borrowings will reduce the amount of net income available for payment to
the holders of Shares.
Repurchase Offer Risks. The Fund, as a fundamental policy, will make
quarterly repurchases for 5% to 25% of shares outstanding at net asset
value. (See "Periodic Repurchase Offers" below for more information.)
However, shares are less liquid than shares of funds that trade on a stock
exchange, and Class B and Class C shareholders who offer for repurchase
shares held for less than five years and one year, respectively, will pay
an EWC. (See "How to Buy Shares.") Under limited circumstances, the Fund
may suspend or postpone a quarterly repurchase offer -- the Fund must meet
regulatory requirements to do so. There is no guarantee that shareholders
will be able to sell all of their shares that they desire to sell in a
quarterly repurchase offer.
Closed-End Fund Risks. The Fund is a closed-end investment company designed
primarily for long-term investors and not as a trading vehicle. The Fund
does not intend to list its shares for trading on any national securities
exchange. There is not expected to be any secondary trading market in the
shares and the shares should be considered illiquid. The shares are,
therefore, not readily marketable. The shares of closed-end investment
companies often trade at a discount from their net asset values and, in the
unlikely event that a secondary market for the shares were to develop, the
shares likewise may trade at a discount from net asset value.
Legislation; Restrictions. To the extent that legislation or state or
federal regulators impose additional requirements or restrictions with
respect to the ability of financial institutions to make loans in
connection with highly leveraged transactions, the availability of Senior
Loan interests for investment by the Fund may be adversely affected.
Financial Services Industry Concentration. The financial services
industries are subject to extensive government regulation which can limit
both the amounts and types of loans and other financial commitments they
can make, and the interest rates and fees they can charge. Profitability is
largely dependent on the availability and cost of capital funds, and can
fluctuate significantly when interest rates change. Credit losses resulting
from financial difficulties of borrowers can negatively affect the
financial services industries. The financial services industries are
currently undergoing relatively rapid change as existing distinctions
between financial service segments become less clear.
Prepayment Risk. Borrowers may pay back principal before the scheduled due
date. Borrowers may find it advantageous to prepay principal due to a
decline in interest rates or an excess in cash flow. Such prepayments may
require the Fund to replace a Senior
6
<PAGE>
Loan with a lower-yielding security. This may adversely affect the net
asset value of the Fund's shares.
Limited Information. The types of Senior Loans in which the Fund will
invest historically have not been rated by a nationally recognized
statistical rating organization, have not been registered with the SEC or
any state securities commission, and have not been listed on any national
securities exchange. Although the Fund will generally have access to
financial and other information made available to the Lenders in connection
with Senior Loans, the amount of public information available with respect
to Senior Loans will generally be less extensive than that available for
rated, registered or exchange listed securities. As a result, the Fund is
more dependent on the analytical ability of Stein Roe than other funds
which may be able to rely on more publicly available information.
Non-Diversification Risk. The Fund is not subject to the general
limitations under the Investment Company Act of 1940 (1940 Act) that, for
75% of its total assets, it not invest more than 5% of its total assets in
the securities of a single issuer. To the extent the Fund invests a
relatively high percentage of its assets in obligations of a limited number
of Borrowers, it will be more susceptible than a more widely diversified
investment company to the consequences of any single corporate, economic,
political or regulatory occurrence.
DISTRIBUTIONS. Income dividends are normally declared each business day, paid
monthly, and confirmed at least quarterly. Capital gains, if any, are
distributed at least annually, usually in December. Income dividends and
capital gains distributions may be received in cash or reinvested in
additional full and fractional shares of the Fund.
INVESTMENT ADVISOR. Stein Roe & Farnham Incorporated.
DISTRIBUTOR. Liberty Funds Distributor, Inc.
PERIODIC REPURCHASE OFFERS. The Fund has adopted a fundamental policy to offer
each calendar quarter to repurchase a specified percentage (between 5% and
25%) of the shares then outstanding at its net asset value. Such repurchase
offers are referred to as a Repurchase Offer. Repurchase Offers are
scheduled to occur on the 15th day (or the next business day if the 15th is
not a business day) in the months of February, May, August, and November.
(See "Periodic Repurchase Offers.")
7
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FUND EXPENSES
The following tables are intended to assist investors in understanding the
various costs and expenses directly or indirectly associated with investing in
Class A, B and C shares of the Fund.
<TABLE>
<CAPTION>
SHAREHOLDER TRANSACTION EXPENSES (1) Class A Class B (2) Class C
------- ------- -------
<S> <C> <C> <C>
Sales Load Imposed (as a percentage of offering price) 3.50% None None
Sales Load Imposed on Reinvested Dividends.................. None None None
Early Withdrawal Charge (3)................................. None(4) 3.25% 1.00%
Exchange Fee................................................ None None None
ANNUAL EXPENSES (as a percentage of average net assets
attributable to common shares) (5)
Management Fees(%) (6)...................................... 0.97 0.97 0.97
Distribution and Service Fees(%) ........................... 0.35 0.70 0.85
Interest Payments on Borrowed Funds(%)...................... 3.30 3.30 3.30
Other Expenses(%)(7)........................................ 1.24 1.24 1.24
---- ---- ----
Total Annual Expenses(%)(7) ................................ 5.86 6.21 6.36
==== ==== ====
</TABLE>
(1) Financial advisors may independently charge additional fees for shareholder
transactions or for advisory services. Please see their materials for
details.
(2) Class B shares will automatically convert to Class A shares eight years
after purchase.
(3) The maximum EWC on Class B shares applies for repurchases during the first
year. The charge is 3.25% for shares submitted and accepted for repurchase
during the first year after each purchase, 3.00% during the second year,
2.00% during the third year, 1.50% during the fourth year, and 1.00% during
the fifth year. There is no EWC on Class B shares thereafter. The EWC on
Class C shares is 1.00% within the first year from each purchase. There is
no EWC on Class C shares thereafter.
(4) Class A shares bought without an initial sales charge in accounts
aggregating $1 million to $25 million are subject to a 1.00% EWC if the
shares are sold within 18 months of the time of each purchase. The 18-month
period begins on the first day of the month following each purchase.
(5) Figures assume the Fund borrows an amount representing 33 1/3% of the
Fund's total assets (including the proceeds of such borrowing but not
reflecting the amount of the liability of the borrowing). If the Fund does
not utilize any leverage, the Fund estimates that annual operating expenses
would be approximately as follows:
<TABLE>
<CAPTION>
Class A Class B Class C
------- ------- -------
<S> <C> <C> <C>
Management Fees(%) 0.65 0.65 0.65
Distribution and Service Fees(%) 0.35 0.70 0.85
Interest Payments on Borrowed Funds(%) 0.00 0.00 0.00
Other Expenses(%)(7) 1.24 1.24 1.24
---- ---- ----
Total Annual Expenses(%)(7) 2.24 2.59 2.74
==== ==== ====
</TABLE>
(6) Management fees includes both the management fee and the administrative fee
charged to the Fund. Without giving effect to the assumed level leverage,
Stein Roe receives an annual management fee of 0.45% from the Fund and
Colonial Management Associates, Inc. (Colonial) receives an administrative
fee of 0.20% from the Fund. Giving effect to the assumed level leverage,
Stein Roe receives a management fee of 0.68% and Colonial receives an
administration fee of 0.29%.
(7) Stein Roe has voluntarily agreed to reimburse the Fund for its ordinary
operating expenses to the extent that such expenses exceed 0.15% (exclusive
of management fees, administrative fees, distribution and service fees and
interest expenses). After such reimbursement, Other Expenses would be 0.15%
for each class of shares and Total Annual Expenses, with and without
leverage, would be 4.77% and 1.15% for Class A shares, 5.12% and 1.50% for
Class B shares and 5.27% and 1.65% for Class C shares, respectively. This
arrangement may be modified or terminated by the Advisor at any time. Any
such reimbursement will lower the particular class's overall expense ratio
and increase its overall return to investors.
Service and distribution fees include an asset-based sales charge -- as a
result, if you hold your shares for a long period of time, then you may pay more
than the economic equivalent of the maximum front-end sales charges permitted by
the National Association of Securities Dealers, Inc. (See "Multiple Share
Classes.")
8
<PAGE>
EXAMPLE. This Example helps you compare the cost of investing in the Fund to the
cost of investing in other mutual funds. The Example assumes that (i) you invest
$1,000 in the Fund, (ii) your investment has a 5% return each year, (iii)
operating expenses remain the same, (iv) all income dividends and capital gains
distributions are reinvested in additional shares, and (v) expense reductions
are in effect for the first year in the periods below. The Example should not be
considered a representation of future expenses. Your actual costs may be higher
or lower.
<TABLE>
<CAPTION>
Class* 1 year 3 years 5 years 10 years
----- ------ ------- ------- --------
<S> <C> <C> <C> <C>
Class A $913 $2,023 $3,115 $5,764
Class B**
sold all your shares at the end
of the period $942 $2,028 $3,110 $5,785
did not sell your shares $617 $1,828 $3,010 $5,785
Class C
sold all your shares at the end
of the period $731 $1,868 $3,072 $5,941
did not sell your shares $631 $1,868 $3,072 $5,941
</TABLE>
---------
*The table assumes leverage representing 33 1/3% of total assets. In the
event that the Fund does not utilize any leverage an investor would pay
the following expenses based on the assumptions in the example:
<TABLE>
<CAPTION>
Class 1 year 3 years 5 years 10 years
----- ------ ------- ------- --------
<S> <C> <C> <C> <C>
Class A $569 $1,026 $1,508 $2,835
Class B**
sold all your shares at the end of the period $587 $1,005 $1,475 $2,840
did not sell your shares $262 $805 $1,375 $2,840
Class C
sold all your shares at the end of the period $377 $850 $1,450 $3,070
did not sell your shares $277 $850 $1,450 $3,070
</TABLE>
**Class B shares convert to Class A shares after eight years. The 10-year
expense example for Class B shares reflects Class B share expenses for
eight years and Class A expenses for two years.
9
<PAGE>
FINANCIAL HIGHLIGHTS
The financial highlights table explains the Fund's financial performance for
Class A, B, and C shares. The Fund's fiscal year runs from September 1 to August
31. The total returns in the table represent the return that investors earned
assuming that they reinvested all dividends and distributions. Certain
information in the table reflects the financial results for a single Fund share.
This information has been derived from the Fund's financial statements which
have been audited by PricewaterhouseCoopers LLP, independent accountants, whose
report, along with this information appears in the Fund's annual report. To
request the Fund's annual report, please call 800-422-3737.
PER SHARE DATA
<TABLE>
<CAPTION>
PERIOD ENDED
AUGUST 31, 2000(b)
CLASS A CLASS B CLASS C
----------------------------------------------------------------------------------------------------
----------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD ($) 12.000 12.000 12.000
INCOME FROM INVESTMENT OPERATIONS
Net investment income (a) 0.645 0.624 0.615
Net realized and unrealized gain 0.066 0.046 0.046
Total from investment operations 0.711 0.670 0.661
DISTRIBUTIONS
Net investment income (0.621) (0.600) (0.591)
-----------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD ($) 12.090 12.070 12.070
-----------------------------------------------------------------------------------------------------------
TOTAL RETURN (%) (c) (d) (e) 6.04 5.69 5.62
RATIOS/SUPPLEMENTAL DATA
Net assets, end of period ($) (000's) 54,402 19,964 13,013
Operating expenses(%)(f)(g) 1.01 1.36 1.51
Interest and commitment fees expenses(%)(g) 1.91 1.91 1.91
Total expenses(%)(f)(g) 2.92 3.27 3.42
Net investment income(%)(f)(g) 9.49 9.14 8.99
Fees and expenses waived or borne by the Advisor(%)(f)(g) 1.41 1.41 1.41
Portfolio turnover(%)(e) 8 8 8
(a) Net of fees and expenses waived or borne by the
Advisor/Administrator which amounted to ($): 0.046 0.046 0.046
</TABLE>
(b) The Fund commenced investment operations on January 13, 2000.
(c) Total return at net asset value assuming all distributions reinvested and
no initial sales charge or early withdrawal sales charge.
(d) Had the Advisor not waived or reimbursed a portion of expenses, total
return would have been reduced.
(e) Not annualized.
(f) The benefits derived from custody credits and directed brokerage
arrangements had no impact.
(g) Annualized.
10
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THE FUND
The Fund is a non-diversified, closed-end management investment company
organized as a Massachusetts business trust on June 8, 1999. The Fund is engaged
in a continuous public offering of shares at the next determined net asset value
per share. The Fund's principal office is located at One Financial Center,
Boston, Massachusetts 02111 and its telephone number is 1-800-345-6611.
USE OF PROCEEDS
The net proceeds from the sale of the shares offered hereby will be invested
typically within 30 days after receipt, in accordance with the Fund's investment
objective and policies. The Fund's actual investment timetable will depend on
the availability of Senior Loans and other market conditions. Pending investment
by the Fund, the proceeds may be invested in high quality, short-term
securities, and the Fund may not achieve its objective during this time.
INVESTMENT OBJECTIVE AND POLICIES
INVESTMENT OBJECTIVE. The Fund's investment objective is to provide a high level
of current income, consistent with preservation of capital. The Fund's
investment objective is a non-fundamental policy, which means that the Board of
Trustees can change it without shareholder approval.
The Fund seeks to achieve its objective through investment primarily (at least
80% of its total assets) in a professionally managed portfolio of interests in
Senior Loans to Borrowers that operate in a variety of industries and geographic
regions (including domestic and foreign entities). Although the Fund's net asset
value per share will vary, the Fund's policy of acquiring interests in floating
or variable rate Senior Loans is expected to minimize the fluctuations in the
Fund's net asset value per share as a result of changes in interest rates. The
Fund's net asset value may be affected by various factors, including changes in
the credit quality of Borrowers with respect to Senior Loan interests in which
the Fund invests.
An investment in the Fund may not be appropriate for all investors and is not
intended to be a complete investment program. No assurance can be given that the
Fund will achieve its investment objective. The Fund is appropriate for
investors seeking a high level of current income consistent with capital
preservation.
POLICIES. Under normal market conditions, the Fund will invest at least 80% of
its total assets (either as a Primary Lender or as a purchaser of an Assignment
or Participation) in Senior Loans of domestic Borrowers or foreign Borrowers (so
long as Senior Loans to such foreign Borrowers are U.S. dollar denominated and
payments of interest and repayments of principal pursuant to such Senior Loans
are required to be made in U.S. dollars). Although most Senior Loans are
collateralized, the Fund may invest up to 20% of its total assets (valued at
time of investment) in Senior Loans that are not secured by any collateral.
During normal market conditions, the Fund may invest up to 20% of its total
assets (including assets maintained by the Fund as a reserve against any
additional loan commitments) in (i) high quality, short-term debt securities
with remaining maturities of one year or less and (ii) warrants, equity
securities and junior debt securities acquired in connection with the Fund's
investments in Senior Loans. Such high quality, short-term securities may
include commercial paper rated at
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least Baa, P-3 or higher by Moody's Investors Service, Inc. (Moody's) or BBB,
A-3 or higher by Standard & Poor's (S&P) (or if unrated, determined by Stein Roe
to be of comparable quality), interests in short-term loans and short-term loan
participations of Borrowers having short-term debt obligations rated or a
short-term credit rating at least in such rating categories (or having no such
rating, determined by Stein Roe to be of comparable quality), certificates of
deposit and bankers' acceptances and securities issued or guaranteed by the U.S.
government, its agencies or instrumentalities. Such high quality, short-term
securities may pay interest at rates that are periodically redetermined or may
pay interest at fixed rates.
HOW THE FUND INVESTS
SENIOR LOANS. Senior Loans generally are arranged through private negotiations
between a Borrower and Lenders represented in each case by one or more Agents of
the several Lenders. On behalf of the several Lenders, the Agent, which is
frequently a commercial bank or other entity that originates the Senior Loan and
the person that invites other parties to join the lending syndicate, will be
primarily responsible for negotiating the Loan Agreement that establishes the
relative terms, conditions and rights of the Borrower and the several Lenders.
In larger transactions it is common to have several Agents; however, generally
only one such Agent has primary responsibility for documentation and
administration of a Senior Loan.
In a typical Senior Loan, the Agent administers the terms of the Loan Agreement
and is responsible for the collection of principal and interest and fee payments
from the Borrower and the apportionment of those payments to the credit of all
Lenders that are parties to the Loan Agreement. The Fund generally will rely on
the Agent to collect its portion of the payments on a Senior Loan. Furthermore,
the Fund will rely on the Agent to use appropriate creditor remedies against the
Borrower. Typically, under a Loan Agreement, the Agent is given broad discretion
in monitoring the Borrower's performance under the Loan Agreement and is
obligated to use only the same care it would use in the management of its own
property. Upon an event of default, the Agent typically will act to enforce the
Loan Agreement after instruction from Lenders holding a majority of the Senior
Loan. The Borrower compensates the Agent for the Agent's services. This
compensation may include special fees paid on structuring and funding the Senior
Loan and other fees paid on a continuing basis. The typical practice of an Agent
in relying exclusively or primarily on reports from the Borrower may involve a
risk of fraud by the Borrower.
It is anticipated that the proceeds of the Senior Loans in which the Fund will
acquire interests primarily will be used to finance leveraged buyouts,
recapitalizations, mergers, acquisitions, stock repurchases, and, to a lesser
extent, to finance internal growth and for other corporate purposes of
Borrowers. Senior Loans have the most senior position in a Borrower's capital
structure, although some Senior Loans may hold an equal ranking with other
senior securities and other obligations of the Borrower. The capital structure
of a Borrower may include Senior Loans, senior and junior subordinated debt
(which may include "junk bonds"), preferred stock and common stock issued by the
Borrower, typically in descending order of seniority with respect to claims on
the Borrower's assets. Senior and junior subordinated debt is collectively
referred to in this Prospectus as "junior debt securities." Senior Loans
generally are secured by specific collateral, which may include guarantees from
affiliates of the Borrower.
To the extent that the Fund invests a portion of its assets in Senior Loans that
are not secured by specific collateral, the Fund will not enjoy the benefits
associated with collateralization with respect to such Senior Loans and such
Senior Loans may pose a greater risk of nonpayment of interest or loss of
principal than do collateralized Senior Loans. As discussed below, the Fund
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may also acquire warrants, equity securities and junior debt securities issued
by the Borrower or its affiliates as part of a package of investments in the
Borrower or its affiliates. Warrants, equity securities, and junior debt
securities will not be treated as Senior Loans and thus assets invested in such
securities will not count toward the 80% of the Fund's total assets that
normally will be invested in Senior Loans. The Fund may acquire interests in
warrants, other equity securities or junior debt securities through a negotiated
restructuring of a Senior Loan or in a bankruptcy proceeding of the Borrower.
In order to borrow money pursuant to a collateralized Senior Loan, a Borrower
will typically, for the term of the Senior Loan, pledge as collateral assets,
including but not limited to, accounts receivable, inventory, buildings, other
real estate, trademarks, franchises and common and preferred stock in its
subsidiaries. In addition, in the case of some Senior Loans, there may be
additional collateral pledged in the form of guarantees by and/or securities of
affiliates of the Borrowers. In instances, a collateralized Senior Loan may be
secured only by stock in the Borrower or its subsidiaries. Collateral may
consist of assets that are not readily liquidated, and there is no assurance
that the liquidation of such assets would satisfy fully a Borrower's obligations
under a Senior Loan. Similarly, in the event of bankruptcy proceedings involving
the Borrower, the Lenders may be delayed or prevented from liquidating
collateral or may choose not to do so as part of their participation in a plan
of reorganization of the Borrower.
Loan Agreements may also include various restrictive covenants designed to limit
the activities of the Borrower in an effort to protect the right of the Lenders
to receive timely payments of interest on and repayment of principal of the
Senior Loans. Restrictive covenants may include mandatory prepayment provisions
related to excess cash flows and typically include restrictions on dividend
payments, specific mandatory minimum financial ratios, limits on total debt and
other financial tests. Breach of such a covenant, if not waived by the Lenders,
is generally an event of default under the applicable Loan Agreement and may
give the Lenders the right to accelerate principal and interest payments. Stein
Roe will consider the terms of restrictive covenants in deciding whether to
invest in Senior Loans for the Fund's investment portfolio. When the Fund holds
a Participation in a Senior Loan, it may not have the right to vote to waive
enforcement of a restrictive covenant breached by a Borrower. Lenders voting in
connection with a potential waiver of a restrictive covenant may have interests
different from those of the Fund and such Lenders will not consider the
interests of the Fund in connection with their votes.
Senior Loans in which the Fund will invest generally pay interest at rates that
are periodically redetermined by reference to a base lending rate plus a
premium. These base lending rates generally are the prime or base lending (Prime
Rate) rate offered by one or more major United States banks or other standard
lending rates used by commercial lenders, such as the London Inter-Bank Offered
Rate (LIBOR) or the certificate of deposit (CD) rate. LIBOR, as provided for in
Loan Agreements, is an average of the interest rates quoted by several
designated banks as the rates at which such banks would offer to pay interest to
major financial institutional depositors in the London interbank market on U.S.
dollar denominated deposits for a specified period of time. The CD rate, as
generally provided for in Loan Agreements, is the average rate paid on large
certificates of deposit traded in the secondary market. Senior Loans
traditionally have been structured so that Borrowers pay higher premiums when
they elect LIBOR, in order to permit Lenders to obtain generally consistent
yields on Senior Loans, regardless of whether Borrowers select the LIBOR option,
or the Prime Rate option. In recent years, however, the differential between the
lower LIBOR base rates and the higher Prime Rate base rates prevailing in the
commercial bank markets has widened to the point where the higher margins paid
by Borrowers for LIBOR pricing options do not currently outweigh the
differential between the
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Prime Rate and the LIBOR rate. Consequently, Borrowers have increasingly
selected the LIBOR-based pricing option, resulting in a yield on Senior Loans
that is consistently lower than the yield available from the Prime Rate-based
pricing option. This trend will significantly limit the ability of the Fund to
achieve a net return to shareholders that consistently approximates the average
published Prime Rate of leading U.S. banks.
PRIMARY LENDER TRANSACTIONS, ASSIGNMENTS, AND PARTICIPATIONS. The Fund may
invest in Participations in Senior Loans, may purchase Assignments of portions
of Senior Loans from third parties and may act as one of the group of Primary
Lenders. The Fund may invest up to 100% of its assets in Participations. The
selling Lenders and other persons interpositioned between such Lenders and the
Fund with respect to Participations will likely conduct their principal business
activities in the banking, finance and financial services industries. Although,
as discussed below, the Fund has taken measures that it believes significantly
reduce its exposure to risks associated with Participations, the Fund may be
more susceptible than an investment company that does not invest in
Participations in Senior Loans to any single economic, political or regulatory
occurrence affecting these industries. Persons engaged in these industries may
be more susceptible than are persons engaged in some other industries to, among
other things, fluctuations in interest rates, changes in the Federal Open Market
Committee's monetary policy, governmental regulations concerning such industries
and concerning capital raising activities generally and fluctuations in the
financial markets generally.
Participation by the Fund in a Lender's portion of a Senior Loan typically will
result in the Fund having a contractual relationship only with such Lender, not
with the Borrower. As a result, the Fund may have the right to receive payments
of principal, interest and any fees to which it is entitled only from the Lender
selling the Participation and only upon receipt by the Lender of payments from
the Borrower. In connection with purchasing Participations, the Fund generally
will have no right to enforce compliance by the Borrower with the terms of the
Loan Agreement, nor any rights with respect to any funds acquired by other
Lenders through set-off against the Borrower, and the Fund may not directly
benefit from the collateral supporting the Senior Loan in which it has purchased
the Participation. As a result, the Fund may assume the credit risk of both the
Borrower and the Lender selling the Participation. In the event of the
insolvency of the Lender selling a Participation, the Fund may be treated as a
general creditor of the Lender, and may not benefit from any set-off between the
Lender and the Borrower. In an effort to minimize such risks, the Fund will only
acquire Participations if the Lender selling the Participation, and any other
institution interpositioned between the Fund and the Lender, (i) at the time of
investment has outstanding debt or deposit obligations rated investment grade
(BBB or A-3 or higher by S&P or Baa or P-3 or higher by Moody's) or, if unrated,
determined by Stein Roe to be of comparable quality and (ii) has entered into an
agreement that provides for the holding of payments on the Senior Loan for the
benefit of, or the prompt disbursement of payments to, the Fund. Long-term debt
rated BBB by S&P is regarded by S&P as having adequate capacity to pay interest
and repay principal and debt rated Baa by Moody's is regarded by Moody's as a
medium grade obligation; i.e., it is neither highly protected nor poorly
secured. The Fund ordinarily will purchase a Participation only if, at the time
of the purchase, the Fund believes that the party from whom it is purchasing the
Participation is retaining an interest in the underlying Senior Loan. In the
event that the Fund does not so believe, it will only purchase a Participation
if, in addition to the requirements set forth above, the party from whom the
Fund is purchasing such Participation (i) is a bank, a member of a national
securities exchange or other entity designated in the 1940 Act as qualified to
serve as a custodian for a registered investment company and (ii) has been
approved as a custodian by the Board of the Fund.
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The Fund may also purchase Assignments from Lenders. The purchaser of an
Assignment typically succeeds to all the rights and obligations under the Loan
Agreement of the assigning Lender and becomes a Lender under the Loan Agreement
with the same rights and obligations as the assigning Lender.
When the Fund is a Primary Lender, it will have a direct contractual
relationship with the Borrower, may enforce compliance by the Borrower with the
terms of the Loan Agreement and may under contractual arrangements among the
Lenders have rights with respect to any funds acquired by other Lenders through
set-off. A Lender also has full voting and consent rights under the applicable
Loan Agreement. Action subject to Lender vote or consent generally requires the
vote or consent of the holders of a majority or some greater specified
percentage of the outstanding principal amount of the Senior Loan. Certain
decisions, such as reducing the amount or increasing the time for payment of
interest on or repayment of principal of a Senior Loan, or releasing collateral
therefor, frequently require the unanimous vote or consent of all Lenders
affected. When the Fund is a Primary Lender originating a Senior Loan it may
share in a fee paid by the Borrower to the Primary Lenders. The Fund will never
act as the Agent, Originator, or principal negotiator or administrator of a
Senior Loan.
The Fund will purchase an Assignment or act as a Lender with respect to a
syndicated Senior Loan only where the Agent with respect to the Senior Loan at
the time of investment has outstanding debt or deposit obligations rated
investment grade (BBB or A-3 or higher by S&P or Baa or P-3 or higher by
Moody's) or determined by Stein Roe to be of comparable quality.
Loan Agreements typically provide for the termination of the Agent's agency
status in the event that it fails to act as required under the relevant Loan
Agreement, becomes insolvent, enters FDIC receivership, or if not FDIC insured,
enters into bankruptcy. Should an Agent, Lender or any other institution with
respect to an Assignment interpositioned between the Fund and the Borrower
become insolvent or enter FDIC receivership or bankruptcy, any interest in the
Senior Loan of any such interpositioned institution and any loan payment held by
any such interpositioned institution for the benefit of the Fund should not be
included in the estate of such interpositioned institution. If, however, any
such amount were included in such interpositioned institution's estate, the Fund
would incur costs and delays in realizing payment or could suffer a loss of
principal or interest. In such event, the Fund could experience a decrease in
net asset value.
PORTFOLIO MATURITY. The Fund is not subject to any restrictions with respect to
the maturity of Senior Loans held in its portfolio. It is currently anticipated
that the Fund's assets invested in Senior Loans will consist of Senior Loans
with stated maturities of between three and ten years, inclusive, and with rates
of interest that are redetermined either daily, monthly, quarterly, semiannually
or annually. Investment in Senior Loans with longer interest rate
redetermination periods may increase fluctuations in the Fund's net asset value
as a result of changes in interest rates. The Senior Loans in the Fund's
investment portfolio will at all times have a dollar-weighted average days to
reset until the next interest rate redetermination of 90 days or less. As a
result, as short-term interest rates increase, interest payable to the Fund from
its investments in Senior Loans should increase, and as short-term interest
rates decrease, interest payable to the Fund from its investments in Senior
Loans should decrease. The amount of time required to pass before the Fund will
realize the effects of changing short-term market interest rates on its
portfolio will vary with the dollar-weighted average time until the next
interest rate redetermination on the Senior Loans in the investment portfolio.
The Fund may utilize the investment practices described in this prospectus to,
among other things, shorten the effective
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interest rate redetermination period of Senior Loans in its portfolio. In such
event, the Fund will consider such shortened period to be the interest rate
redetermination period of the Senior Loan; provided, however, that the Fund will
not invest in Senior Loans that permit the Borrower to select an interest rate
redetermination period in excess of one year. Because most Senior Loans in the
investment portfolio will be subject to mandatory and/or optional prepayment and
there may be significant economic incentives for a Borrower to prepay its loans,
prepayments of Senior Loans in the Fund's investment portfolio may occur.
Accordingly, the economic maturity of the Fund's investment portfolio invested
in Senior Loans may vary substantially from the average stated maturity of the
Senior Loans held in the Fund's investment portfolio. As a result of anticipated
prepayments from time to time of Senior Loans in the investment portfolio, based
on historical experience, Stein Roe believes that the economic maturity of the
Senior Loans held in its portfolio will be approximately 18-24 months.
NET ASSET VALUE FLUCTUATION. When prevailing interest rates decline, the value
of a portfolio invested in fixed-rate obligations can be expected to rise.
Conversely, when prevailing interest rates rise, the value of a portfolio
invested in fixed-rate obligations can be expected to decline. Although the
Fund's net asset value will vary, Stein Roe expects the Fund's policy of
acquiring interests in floating or variable rate Senior Loans to minimize
fluctuations in net asset value as a result of changes in interest rates.
Accordingly, Stein Roe expects the value of the investment portfolio to
fluctuate significantly less than a portfolio of fixed-rate, longer term
obligations as a result of interest rate changes. However, changes in prevailing
interest rates can be expected to cause some fluctuation in the Fund's net asset
value. In addition to changes in interest rates, various factors, including
defaults by or changes in the credit quality of Borrowers, will also affect the
Fund's net asset value. A default or serious deterioration in the credit quality
of a Borrower could cause a prolonged or permanent decrease in the Fund's net
asset value.
DEBT RESTRUCTURING. The Fund may purchase and retain in its portfolio an
interest in a Senior Loan to a Borrower that has filed for protection under the
federal bankruptcy laws or has had an involuntary bankruptcy petition filed
against it by its creditors. Stein Roe's decision to purchase or retain such an
interest will depend on its assessment of the suitability of such investment for
the Fund, the Borrower's ability to meet debt service on Senior Loan interests,
the likely duration, if any, of a lapse in the scheduled repayment of principal,
and prevailing interest rates. At times, in connection with the restructuring of
a Senior Loan either outside of bankruptcy court or in the context of bankruptcy
court proceedings, the Fund may determine or be required to accept equity
securities or junior debt securities in exchange for all or a portion of a
Senior Loan interest. Depending upon, among other things, Stein Roe's evaluation
of the potential value of such securities in relation to the price that could be
obtained by the Fund at any given time upon sale thereof, the Fund may determine
to hold such securities in its portfolio. Any equity security or junior debt
security held by the Fund will not be treated as a Senior Loan and thus will not
count toward the 80% of assets that normally will be invested in Senior Loans.
BORROWER CREDIT RATINGS. Senior Loans historically have not been rated by
nationally recognized statistical rating organizations, such as S&P or Moody's.
Because of the senior capital structure position of Senior Loans and the
collateralized or guaranteed nature of most Senior Loans, the Fund and Stein Roe
believe that ratings of other securities issued by a Borrower do not necessarily
reflect adequately the relative quality of a Borrower's Senior Loans. Therefore,
although Stein Roe may consider such ratings in determining whether to invest in
a particular Senior Loan, Stein Roe is not required to consider ratings and
ratings will not be the determinative factor in Stein Roe's analysis. To the
extent that Senior Loans are rated, the Fund may invest in the lowest rated
loans, but does not intend to invest more than 5% of its assets in
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Senior Loans rated below B- or B3 by S&P or Moody's. The Fund may invest a
substantial portion of its assets in Senior Loans to Borrowers having
outstanding debt securities rated below investment grade by a nationally
recognized statistical rating organization (or unrated but of comparable quality
to such securities). Debt securities rated below investment grade (or unrated
but of comparable quality) commonly are referred to as "junk bonds." The Fund
will invest only in those Senior Loans with respect to which the Borrower, in
the judgment of Stein Roe, demonstrates one or more of the following
characteristics: sufficient cash flow to service debt; adequate liquidity;
successful operating history; strong competitive position; experienced
management; and, with respect to collateralized Senior Loans, collateral
coverage that equals or exceeds the outstanding principal amount of the Senior
Loan. In addition, Stein Roe will consider, and may rely in part, on the
analyses performed by the Agent and other Lenders, including such persons'
determinations with respect to collateral securing a Senior Loan.
FEES. The Fund may be required to pay or may receive various fees and
commissions in connection with purchasing, selling and holding interests in
Senior Loans. The fees normally paid by Borrowers may include three types:
facility fees, commitment fees and prepayment penalties. Facility fees are paid
to the Lenders upon origination of a Senior Loan. Commitment fees are paid to
Lenders on an ongoing basis based upon the undrawn portion committed by the
Lenders of the underlying Senior Loan. Lenders may receive prepayment penalties
when a Borrower prepays all or part of a Senior Loan. The Fund will receive
these fees directly from the Borrower if the Fund is a Primary Lender, or, in
the case of commitment fees and prepayment penalties, if the Fund acquires an
interest in a Senior Loan by way of Assignment. Whether or not the Fund receives
a facility fee from the Lender in the case of an Assignment, or any fees in the
case of a Participation, depends upon negotiations between the Fund and the
Lender selling such interests. When the Fund is an assignee, it may be required
to pay a fee, or forgo a portion of interest and any fees payable to it, to the
Lender selling the Assignment. Occasionally, the assignor will pay a fee to the
Fund based on the portion of the principal amount of the Senior Loan that is
being assigned. A Lender selling a Participation to the Fund may deduct a
portion of the interest and any fees payable to the Fund as an administrative
fee prior to payment thereof to the Fund. The Fund may be required to pay over
or pass along to a purchaser of an interest in a Senior Loan from the Fund a
portion of any fees that the Fund would otherwise be entitled to.
PREPAYMENTS. Pursuant to the relevant Loan Agreement, a Borrower may be
required, and may have the option at any time, to prepay the principal amount of
a Senior Loan, often without incurring a prepayment penalty. In the event that
like-yielding loans are not available in the marketplace, Stein Roe believes
that the prepayment of and subsequent reinvestment by the Fund in Senior Loans
could have a materially adverse impact on the yield on the Fund's investment
portfolio. Prepayments may have a beneficial impact on income due to receipt of
prepayment penalties, if any, and any facility fees earned in connection with
reinvestment.
COMMITMENTS TO MAKE ADDITIONAL PAYMENTS. A Lender may have obligations pursuant
to a Loan Agreement to make additional loans in certain circumstances. Such
circumstances may include, without limitation, obligations under revolving
credit facilities and facilities that provide for further loans to Borrowers
based upon compliance with specified financial requirements. The Fund currently
intends to reserve against any such contingent obligation by segregating a
sufficient amount of cash, liquid securities and liquid Senior Loans. The Fund
will not purchase interests in Senior Loans that would require the Fund to make
any such additional loans if the aggregate of such additional loan commitments
would exceed 20% of the Fund's total assets or would cause the Fund to fail to
meet the diversification requirements set forth under the heading "Investment
Restrictions" in the Statement of Additional Information.
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BRIDGE FINANCING. The Fund may acquire interests in Senior Loans that are
designed to provide temporary or "bridge" financing to a Borrower pending the
sale of identified assets or the arrangement of longer-term loans or the
issuance and sale of debt obligations. A Borrower's use of a bridge loan
involves a risk that the Borrower may be unable to locate permanent financing to
replace the bridge loan, which may impair the Borrower's perceived
creditworthiness.
BORROWING. The Fund may borrow money in an amount up to 33 1/3% of the Fund's
total assets (after giving effect to the amount borrowed). The Fund may borrow
for the purpose of financing long-term investments, obtaining short-term
liquidity and for temporary, extraordinary or emergency purposes. To the extent
the Fund borrows more money than it has cash or short-term cash equivalents and
invests the proceeds in Senior Loans, the Fund will create financial leverage.
It will do so only when it expects to be able to invest the proceeds at a higher
rate of return than its cost of borrowing.
OTHER SECURITIES. The Fund will acquire warrants, equity securities and junior
debt securities only as are incident to the purchase or intended purchase of
interests in collateralized Senior Loans. The Fund generally will acquire
interests in warrants, equity securities and junior debt securities only when
Stein Roe believes that the relative value being given by the Fund in exchange
for such interests is substantially outweighed by the potential value of such
instruments. Investment in warrants, equity securities and junior debt
securities entail risks in addition to those associated with investments in
Senior Loans. Warrants and equity securities have a subordinate claim on a
Borrower's assets as compared with debt securities, and junior debt securities
have a subordinate claim on such assets as compared with Senior Loans. As such,
the values of warrants and equity securities generally are more dependent on the
financial condition of the Borrower and less dependent on fluctuations in
interest rates than are the values of many debt securities. The values of
warrants, equity securities and junior debt securities may be more volatile than
those of Senior Loans and thus may have an adverse impact on the ability of the
Fund to minimize fluctuations in its net asset value. (See "Principal Risks.")
DEFENSIVE INVESTMENT POLICY. If Stein Roe determines that market conditions
temporarily warrant a defensive investment policy, the Fund may (but is not
required to) invest, subject to its ability to liquidate its relatively illiquid
portfolio of Senior Loans, up to 100% of its assets in cash and high quality,
short-term debt securities. The Fund may also lend its portfolio securities to
other parties and may enter into repurchase and reverse repurchase agreements
for securities. For further discussion of the Fund's investment objective and
policies and its investment practices and the associated considerations, see
"Other Investment Practices."
FUNDAMENTAL RESTRICTIONS AND POLICIES. The Fund has adopted a number of
fundamental investment restrictions and policies which may not be changed unless
authorized by a shareholder vote. These are set forth in the Statement of
Additional Information. Among these fundamental restrictions, the Fund may not
purchase any security if, as a result of the purchase, more than 25% of the
Fund's total assets (taken at current value) would be invested in the securities
of Borrowers and other issuers having their principal business activities in the
same industry (the electric, gas, water and telephone utility industries being
treated as separate industries for the purpose of this restriction). However,
the Fund may invest more than 25% of its total assets in securities the issuer
of which is deemed to be in the financial institutions industry, which includes
commercial banks, thrift institutions, insurance companies and finance
companies. There is no limitation with respect to obligations issued or
guaranteed by the U.S. government or any of its agencies or instrumentalities.
Except for the fundamental restrictions and policies set forth as such in the
Statement of Additional Information, the Fund's investment
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objective and policies are not fundamental policies and accordingly may be
changed by the Board without obtaining the approval of shareholders.
PRINCIPAL RISKS
You should consider the following Principal Risks before investing in the Fund.
As described below, these risks could cause you to lose money as a result of
investing in the Fund. The Fund is a closed-end investment company. The Fund is
designed primarily for long-term investors and not as a trading vehicle.
NON-PAYMENT. Senior Loans, like other corporate debt obligations, are subject to
the risk of non-payment of scheduled interest or principal. Non-payment would
result in a reduction of income to the Fund, a reduction in the value of the
Senior Loan experiencing non-payment and a potential decrease in the net asset
value of the Fund. The Fund generally will invest in collateralized Senior Loans
only if Stein Roe believes the value of the collateral, which may include
guarantees, exceeds the principal amount of the Senior Loan at the time of
initial investment. However, there can be no assurance that the liquidation of
any collateral would satisfy the Borrower's obligation in the event of
non-payment of scheduled interest or principal payments, or that such collateral
could be readily liquidated. Moreover, as a practical matter, most Borrowers
cannot satisfy their debts by selling their assets. Borrowers pay their debts
from the cash flow they generate. This is particularly the case for Borrowers
that are highly leveraged. Many of the Senior Loans purchased by the Fund will
be to highly leveraged Borrowers. If the Borrower's cash flow is insufficient to
pay its debts as they come due, the Borrower is far more likely to seek to
restructure its debts than it is to sell off assets to pay its Senior Loans.
Borrowers may try to restructure their debts either by seeking protection from
creditors under Chapter 11 of the federal Bankruptcy Code or negotiating a work
out. In the event of bankruptcy of a Borrower, the Fund could experience delays
or limitations with respect to its ability to realize the benefits of the
collateral securing a Senior Loan. To the extent that a Senior Loan is
collateralized by stock in the Borrower or its subsidiaries, such stock may lose
all or substantially all of its value in the event of bankruptcy of the
Borrower. The Agent generally is responsible for determining that the Lenders
have obtained a perfected security interest in the collateral securing the
Senior Loan. If a Borrower files for protection from creditors under Chapter 11
of the Bankruptcy Code, the Code will impose an automatic stay that prohibits
the Agent from liquidating collateral. The Agent may ask the bankruptcy court to
lift the stay. As a practical matter, the court is unlikely to lift the stay if
it concludes that the Borrower has a chance to emerge from the reorganization
proceedings and the collateral is likely to hold most of its value. If the
Lenders have a good security interest, the Senior Loan will be treated as a
separate class in the reorganization proceedings and will retain a priority
interest in the collateral. Chapter 11 reorganization plans typically are the
product of negotiation among the Borrower and the various creditor classes.
Successful negotiations may require the Lenders to extend the time for
repayment, change the interest rate or accept some consideration in the form of
junior debt or equity securities. A work out outside of bankruptcy may produce
similar concessions by senior lenders.
Some Senior Loans in which the Fund may invest are subject to the risk that a
court, pursuant to fraudulent conveyance or other similar laws, could
subordinate such Senior Loans to current or future indebtedness of the Borrower
or take other action detrimental to the holders of Senior Loans, such as the
Fund, including, under certain circumstances, invalidating such Senior Loans.
Lenders commonly have obligations pursuant to the Loan Agreement, which may
include the obligation to make additional loans or release collateral.
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BELOW INVESTMENT GRADE SECURITIES. Securities rated below investment grade are
commonly referred to as high-yield debt or "junk debt." They are regarded as
predominantly speculative with respect to the issuing company's continuing
ability to meet principal and interest payments. The prices of high-yield
securities have been found to be less sensitive to interest rate changes than
higher-rated investments, but more sensitive to adverse economic downturns or
individual corporate developments. A projection of an economic downturn or of a
period of rising interest rates, for example, could cause a decline in the
prices of high-yield securities.
The secondary market in which high-yield securities are traded is generally less
liquid than the market for higher-grade debt. Less liquidity in the secondary
trading market could adversely affect the price at which the Fund could sell a
high-yield Senior Loan, and could adversely affect the net asset value of the
Fund's shares. At times of less liquidity, it may be more difficult to value
high-yield Senior Loans because this valuation may require more research, and
elements of judgment may play a greater role in the valuation since there is
less reliable, objective data available.
Investments in high-yield Senior Loans may result in greater net asset value
fluctuation than if the Fund did not make such investments.
There is no limit on the percentage of assets that may be invested in Senior
Loans and other securities that are rated below investment grade or that are
unrated but of comparable quality.
RESTRICTIONS ON RESALE. Senior Loans, at present, generally are not readily
marketable and may be subject to restrictions on resale. Interests in Senior
Loans generally are not listed on any national securities exchange or automated
quotation system and no active market may exist for many of the Senior Loans in
which the Fund may invest. To the extent that a secondary market may exist for
the Senior Loans in which the Fund invests, such market may be subject to
irregular trading activity, wide bid/ask spreads and extended trade settlement
periods. The Fund has no limitation on the amount of its assets that may be
invested in Senior Loans that are not readily marketable or are subject to
restrictions on resale. Because a substantial portion of the Fund's assets may
be invested in Senior Loan interests, the ability of the Fund to dispose of its
investments in a timely fashion and at a fair price may be restricted, and the
Fund and shareholders may suffer capital losses as a result. However, many of
the Senior Loans in which the Fund expects to purchase interests are of a
relatively large principal amount and are held by a relatively large number of
owners which should, in Stein Roe's opinion, enhance the relative liquidity of
such interests. The risks associated with illiquidity are particularly acute in
situations where the Fund's operations require cash, such as when the Fund makes
a Repurchase Offer for its shares, and may result in borrowing to meet
short-term cash requirements.
BORROWING. The Fund is authorized to borrow money in an amount up to 33 1/3% of
the Fund's total assets (after giving effect to the amount borrowed). The Fund
is authorized to borrow money for the purpose of financing long-term
investments, obtaining short-term liquidity in connection with quarterly
repurchase offers and for temporary, extraordinary or emergency purposes. The
use of leverage for investment purposes creates opportunities for greater total
returns but at the same time involves risks. Any investment income or gains
earned with respect to the amounts borrowed, which is in excess of the interest
which is due on the borrowing, will augment the Fund's income. Conversely, if
the investment performance with respect to the amounts borrowed fails to cover
the interest on such borrowings, the value of the Fund's shares
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may decrease more quickly than would otherwise be the case and dividends on the
shares would be reduced or eliminated. Interest payments and fees incurred in
connection with such borrowings will reduce the amount of net income available
for payment to the holders of Shares.
REPURCHASE OFFER RISKS. The Fund, as a fundamental policy, will make quarterly
repurchases for 5% to 25% of shares outstanding at net asset value. (See
"Periodic Repurchase Offers" below for more information.) However, shares are
less liquid than shares of funds that trade on a stock exchange, and Class B and
Class C shareholders who offer for repurchase shares held for less than five
years and one year, respectively, will pay an EWC. (See "How to Buy Shares.")
Under limited circumstances, the Fund may suspend or postpone a quarterly
repurchase offer -- the Fund must meet regulatory requirements to do so. There
is no guarantee that shareholders will be able to sell all of their shares that
they desire to sell in a quarterly repurchase offer.
CLOSED-END FUND RISKS. The Fund is a closed-end investment company designed
primarily for long-term investors and not as a trading vehicle. The Fund does
not intend to list its shares for trading on any national securities exchange.
There is not expected to be any secondary trading market in the shares and the
shares should be considered illiquid. The shares are, therefore, not readily
marketable. The shares of closed-end investment companies often trade at a
discount from their net asset values and, in the unlikely event that a secondary
market for the shares were to develop, the shares likewise may trade at a
discount from net asset value.
LEGISLATION; RESTRICTIONS. To the extent that legislation or state or federal
regulators impose additional requirements or restrictions with respect to the
ability of financial institutions to make loans in connection with highly
leveraged transactions, the availability of Senior Loan interests for investment
by the Fund may be adversely affected. In addition, such requirements or
restrictions may reduce or eliminate sources of financing for affected
Borrowers. Further, to the extent that legislation or federal or state
regulators require such institutions to dispose of Senior Loan interests
relating to highly leveraged transactions or subject such Senior Loan interests
to increased regulatory scrutiny, such financial institutions may determine to
sell Senior Loan interests in a manner that results in a price that, in the
opinion of Stein Roe, is not indicative of fair value. Were the Fund to attempt
to sell a Senior Loan interest at a time when a financial institution was
engaging in such a sale with respect to the Senior Loan interest, the price at
which the Fund could consummate such a sale might be adversely affected.
FINANCIAL SERVICES INDUSTRY CONCENTRATION. The financial services industries are
subject to extensive government regulation which can limit both the amounts and
types of loans and other financial commitments they can make, and the interest
rates and fees they can charge. Profitability is largely dependent on the
availability and cost of capital funds, and can fluctuate significantly when
interest rates change. Credit losses resulting from financial difficulties of
borrowers can negatively affect the financial services industries. Insurance
companies can be subject to severe price competition. The financial services
industries are currently undergoing relatively rapid change as existing
distinctions between financial service segments become less clear. For instance,
recent business combinations have included insurance, finance, and securities
brokerage under single ownership. Some primarily retail corporations have
expanded into securities and insurance industries. Moreover, the federal laws
generally separating commercial and investment banking are currently being
studied by Congress.
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PREPAYMENT RISK. Borrowers may pay back principal before the scheduled due date.
Borrowers may find it advantageous to prepay principal due to a decline in
interest rates or an excess in cash flow. Such prepayments may require the Fund
to replace a Senior Loan with a lower-yielding security. This may adversely
affect the net asset value of the Fund's shares.
LIMITED INFORMATION. The types of Senior Loans in which the Fund will invest
historically have not been rated by a nationally recognized statistical rating
organization, have not been registered with the SEC or any state securities
commission, and have not been listed on any national securities exchange.
Although the Fund will generally have access to financial and other information
made available to the Lenders in connection with Senior Loans, the amount of
public information available with respect to Senior Loans will generally be less
extensive than that available for rated, registered or exchange listed
securities. As a result, the performance of the Fund and its ability to meet its
investment objective is more dependent on the analytical ability of Stein Roe
than would be the case for an investment company that invests primarily in
rated, registered or exchange listed securities.
To the extent that Senior Loans are rated, the Fund may invest in the lowest
rated loans, but does not intend to invest more than 5% of its assets in Senior
Loans rated below B- or B3 by S&P or Moody's.
NON-DIVERSIFICATION. The Fund has registered as a "non-diversified" investment
company so that, subject to its investment restrictions, it will be able to
invest more than 5% of the value of its assets in the obligations of any single
issuer, including Senior Loans of a single Borrower or Participations purchased
from a single Lender. (See "Investment Restrictions" in the Statement of
Additional Information.) The Fund does not intend, however, to invest more than
5% of the value of its assets in interests in Senior Loans of a single Borrower,
and the Fund intends to limit its investments so as to comply with the
diversification requirements imposed by the Internal Revenue Code for
qualification as a "regulated investment company." To the extent the Fund
invests a relatively high percentage of its assets in obligations of a limited
number of issuers, the Fund will be more susceptible than a more widely
diversified investment company to the consequences of any single corporate,
economic, political or regulatory occurrence.
ONGOING MONITORING. On behalf of the several Lenders, the Agent generally will
be required to administer and manage the Senior Loans and, with respect to
collateralized Senior Loans, to service or monitor the collateral. In this
connection, the valuation of assets pledged as collateral will reflect market
value and the Agent may rely on independent appraisals as to the value of
specific collateral. The Agent, however, may not obtain an independent appraisal
as to the value of assets pledged as collateral in all cases. The Fund normally
will rely primarily on the Agent (where the Fund is a Primary Lender or owns an
Assignment) or the selling Lender (where the Fund owns a Participation) to
collect principal of and interest on a Senior Loan. Furthermore, the Fund
usually will rely on the Agent (where the Fund is a Primary Lender or owns an
Assignment) or the selling Lender (where the Fund owns a Participation) to
monitor compliance by the Borrower with the restrictive covenants in the Loan
Agreement and notify the Fund of any adverse change in the Borrower's financial
condition or any declaration of insolvency. Collateralized Senior Loans will
frequently be secured by all assets of the Borrower that qualify as collateral,
which may include common stock of the Borrower or its subsidiaries.
Additionally, the terms of the Loan Agreement may require the Borrower to pledge
additional collateral to secure the Senior Loan, and enable the Agent, upon
proper authorization of the Lenders, to take possession of and liquidate the
collateral and to distribute the liquidation proceeds pro rata among the
Lenders. If the terms of a Senior Loan do not require the Borrower to pledge
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additional collateral in the event of a decline in the value of the original
collateral, the Fund will be exposed to the risk that the value of the
collateral will not at all times equal or exceed the amount of the Borrower's
obligations under the Senior Loan. Lenders that have sold Participation
interests in such Senior Loan will distribute liquidation proceeds received by
the Lenders pro rata among the holders of such Participations. Stein Roe will
also monitor these aspects of the Fund's investments and, where the Fund is a
Primary Lender or owns an Assignment, will be directly involved with the Agent
and the other Lenders regarding the exercise of credit remedies.
INVESTMENTS IN EQUITY SECURITIES. To the extent the Fund invests in equity
securities, the value of its portfolio will be affected by changes in the stock
markets, which may be the result of domestic or international political or
economic news, changes in interest rates, or changing investor sentiment. The
stock market can be volatile and stock prices can change substantially. The
equity securities of smaller companies are more sensitive to these changes than
those of larger companies. This market risk will affect the Fund's net asset
value, which will fluctuate as the value of the securities held by the Fund
changes. Not all stock prices change uniformly or at the same time and not all
stock markets move in the same direction at the same time. Other factors affect
a particular stock's prices, such as poor earnings reports by an issuer, loss of
major customers, major litigation against an issuer, or changes in governmental
regulations affecting an industry. Adverse news affecting one company can
sometimes depress the stock prices of all companies in the same industry. Not
all factors can be predicted.
INVESTMENTS IN NON-U.S. ISSUERS. Investment in non-U.S. issuers involves special
risks, including that non-U.S. issuers may be subject to less rigorous
accounting and reporting requirements than are U.S. issuers, less rigorous
regulatory requirements, differing legal systems and laws relating to creditors'
rights, the potential inability to enforce legal judgments, and the potential
for political, social and economic adversities.
OTHER PRACTICES. The Fund may use various investment practices that involve
special considerations, including engaging in interest rate and other hedging
transactions, lending its portfolio securities, entering into when-issued and
delayed-delivery transactions and entering into repurchase and reverse
repurchase agreements. For further discussion of these practices and associated
special considerations, see "Other Investment Practices."
OTHER INVESTMENT PRACTICES
Stein Roe may use some or all of the following investment practices when, in its
opinion, their use is appropriate. These investment practices involve special
risk considerations that are discussed below. Although Stein Roe believes that
these investment practices may further the investment objective, no assurance
can be given that the utilization of these investment practices will achieve
that result.
STRUCTURED NOTES. The Fund may invest up to 10% of its total assets in
structured notes, including "total rate of return swaps" with rates of return
determined by reference to the total rate of return on one or more loans
referenced in such notes. The rate of return on the structured note may be
determined by applying a multiplier to the rate of total return on the
referenced loan or loans. Application of a multiplier is comparable to the use
of financial leverage, a speculative technique. Leverage magnifies the potential
for gain and the risk of loss, because a relatively
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small decline in the value of a referenced loan could result in a relatively
large loss in the value of a structured note. Structured notes are treated as
Senior Loans for purposes of the Fund's policy of normally investing at least
80% of its total assets in Senior Loans.
INTEREST RATE SWAPS AND OTHER HEDGING TRANSACTIONS. The Fund may enter into
various interest rate hedging and risk management transactions. These interest
rate hedging and risk management transactions may be considered to involve
derivative instruments. A derivative is a financial instrument whose performance
is derived at least in part from the performance of an underlying index,
security or asset. The values of certain derivatives can be affected
dramatically by even small market movements, sometimes in ways that are
difficult to predict. There are many different types of derivatives with many
different uses. The Fund expects to enter into these transactions primarily to
seek to preserve a return on a particular investment or portion of its
portfolio, and may also enter into such transactions to seek to protect against
decreases in the anticipated rate of return on floating or variable rate Senior
Loans the Fund owns or anticipates purchasing at a later date, or for other risk
management strategies such as managing the effective dollar-weighted average
duration of the investment portfolio. In addition, the Fund may also engage in
hedging transactions, including entering into put and call options, to seek to
protect the value of its portfolio against declines in net asset value resulting
from changes in interest rates or other market changes. Market conditions will
determine whether and in what circumstances the Fund would employ any hedging
and risk management techniques. The Fund will not engage in any of these
transactions for speculative purposes and will use them only as a means to hedge
or manage the risks associated with assets held in, or anticipated to be
purchased for, the investment portfolio or obligations incurred by the Fund. The
successful utilization of hedging and risk management transactions requires
skills different from those needed in the selection of Senior Loans. The Fund
will incur brokerage and other costs in connection with its hedging
transactions.
The Fund may enter into interest rate swaps or purchase or sell interest rate
caps or floors. The Fund will not sell interest rate caps or floors that it does
not own. Interest rate swaps involve the exchange by the Fund with another party
of their respective obligations to pay or receive interest; e.g., an exchange of
an obligation to make floating rate payments for an obligation to make fixed
rate payments. For example, the Fund may seek to shorten the effective interest
rate redetermination period of a Senior Loan to a Borrower that has selected an
interest rate redetermination period of one year. The Fund could exchange the
Borrower's obligation to make fixed rate payments for one year for an obligation
to make payments that readjust monthly. In such event, the Fund would consider
the interest rate redetermination period of such Senior Loan to be the shorter
period.
The purchase of an interest rate cap entitles the purchaser, to the extent that
a specified index exceeds a predetermined interest rate, to receive payments of
interest at the difference between the index and the predetermined rate on a
notional principal amount (the reference amount with respect to which interest
obligations are determined although no actual exchange of principal occurs) from
the party selling such interest rate cap. The purchase of an interest rate floor
entitles the purchaser, to the extent that a specified index falls below a
predetermined interest rate, to receive payments of interest at the difference
between the index and the predetermined rate on a notional principal amount from
the party selling such interest rate floor. The Fund will not enter into swaps,
caps or floors if, on a net basis, the aggregate notional principal amount with
respect to such agreements exceeds the net assets of the Fund.
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In circumstances in which Stein Roe anticipates that interest rates will
decline, the Fund might, for example, enter into an interest rate swap as the
floating rate payor or, alternatively, purchase an interest rate floor. In the
case of purchasing an interest rate floor, if interest rates declined below the
floor rate, the Fund would receive payments from its counterparty which would
wholly or partially offset the decrease in the payments it would receive with
respect to the portfolio assets being hedged. In the case where the Fund
purchases such an interest rate swap, if the floating rate payments fell below
the level of the fixed rate payment set in the swap agreement, the Fund's
counterparty would pay the Fund amounts equal to interest computed at the
difference between the fixed and floating rates over the notional principal
amount. Such payments would offset or partially offset the decrease in the
payments the Fund would receive with respect to floating rate portfolio assets
being hedged.
The successful use of swaps, caps and floors to preserve the rate of return on a
portfolio of Senior Loans depends on Stein Roe's ability to predict correctly
the direction and extent of movements in interest rates. Although Stein Roe
believes that use of the hedging and risk management techniques described above
will benefit the Fund, if Stein Roe's judgment about the direction or extent of
the movement in interest rates is incorrect, the Fund's overall performance
would be worse than if it had not entered into any such transaction. For
example, if the Fund had purchased an interest rate swap or an interest rate
floor to hedge against its expectation that interest rates would decline but
instead interest rates rose, the Fund would lose part or all of the benefit of
the increased payments it would receive as a result of the rising interest rates
because it would have to pay amounts to its counterparty under the swap
agreement or would have paid the purchase price of the interest rate floor.
Inasmuch as these hedging transactions are entered into for good-faith risk
management purposes, Stein Roe and the Fund believe such obligations do not
constitute senior securities. The Fund will usually enter into interest rate
swaps on a net basis; i.e., where the two parties make net payments with the
Fund receiving or paying, as the case may be, only the net amount of the two
payments. The net amount of the excess, if any, of the Fund's obligations over
its entitlements with respect to each interest rate swap will be accrued and an
amount of cash or liquid securities having an aggregate net asset value at least
equal to the accrued excess will be maintained. If the Fund enters into a swap
on other than a net basis, the Fund will maintain the full amount of its
obligations under each such swap. Accordingly, the Fund does not treat swaps as
senior securities. The Fund may enter into swaps, caps and floors with member
banks of the Federal Reserve System, members of the New York Stock Exchange
(NYSE) or other entities determined to be creditworthy by Stein Roe, pursuant to
procedures adopted and reviewed on an ongoing basis by the Board. If a default
occurs by the other party to such transactions, the Fund will have contractual
remedies pursuant to the agreements related to the transaction, but such
remedies may be subject to bankruptcy and insolvency laws that could affect the
Fund's rights as a creditor. The swap market has grown substantially in recent
years with a large number of banks and financial services firms acting both as
principals and as agents utilizing standardized swap documentation. As a result,
the swap market has become relatively liquid. Caps and floors are more recent
innovations and they are less liquid than swaps. There can be no assurance,
however, that the Fund will be able to enter into interest rate swaps or to
purchase interest rate caps or floors at prices or on terms Stein Roe believes
are advantageous to the Fund. In addition, although the terms of interest rate
swaps, caps and floors may provide for termination, there can be no assurance
that the Fund will be able to terminate an interest rate swap or to sell or
offset interest rate caps or floors that it has purchased.
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New financial products continue to be developed and the Fund may invest in any
such products as may be developed to the extent consistent with its investment
objective and the regulatory and federal tax requirements applicable to
investment companies.
"WHEN-ISSUED" AND "DELAYED-DELIVERY" TRANSACTIONS. The Fund may also purchase
and sell interests in Senior Loans and other portfolio securities on a
"when-issued" and "delayed-delivery" basis. No income accrues to the Fund on
such Senior Loans in connection with such purchase transactions prior to the
date the Fund actually takes delivery of such Senior Loans. These transactions
are subject to market fluctuation; the value of the interests in Senior Loans
and other portfolio debt securities at delivery may be more or less than their
purchase price, and yields generally available on such Senior Loans when
delivery occurs may be higher or lower than yields on the Senior Loans obtained
pursuant to such transactions. Because the Fund relies on the buyer or seller,
as the case may be, to consummate the transaction, failure by the other party to
complete the transaction may result in the Fund missing the opportunity of
obtaining a price or yield considered to be advantageous. When the Fund is the
buyer in such a transaction, however, it will maintain cash or liquid securities
having an aggregate value equal to the amount of such purchase commitments until
payment is made. The Fund will make commitments to purchase such Senior Loans on
such basis only with the intention of actually acquiring these Senior Loans, but
the Fund may sell such Senior Loans prior to the settlement date if such sale is
considered to be advisable. To the extent the Fund engages in "when-issued" and
"delayed-delivery" transactions, it will do so for the purpose of acquiring
Senior Loans for its investment portfolio consistent with its investment
objective and policies and not for the purpose of investment leverage. No
specific limitation exists as to the percentage of the Fund's assets that may be
used to acquire securities on a "when-issued" or "delayed-delivery" basis.
REPURCHASE AGREEMENTS. The Fund may enter into repurchase agreements (a purchase
of, and a simultaneous commitment to resell, a financial instrument at an
agreed-upon price on an agreed-upon date) only with member banks of the Federal
Reserve System and member firms of the NYSE. When participating in repurchase
agreements, the Fund buys securities from a seller (e.g., a bank or brokerage
firm) with the agreement that the seller will repurchase the securities at a
higher price at a later date. Such transactions afford an opportunity for the
Fund to earn a return on available liquid assets at minimal market risk,
although the Fund may be subject to various delays and risks of loss if the
counterparty is unable to meet its obligation to repurchase. Under the 1940 Act,
repurchase agreements are deemed to be collateralized loans of money by the Fund
to the counterparty. In evaluating whether to enter into a repurchase agreement,
Stein Roe will consider carefully the creditworthiness of the counterparty. If
the member bank or member firm that is the party to the repurchase agreement
petitions for bankruptcy or otherwise becomes subject to the Bankruptcy Code,
the law regarding the rights of the Fund is unsettled. The securities underlying
a repurchase agreement will be marked to market every business day so that the
value of the collateral is at least equal to the value of the loan, including
the accrued interest thereon, and Stein Roe will monitor the value of the
collateral. No specific limitation exists as to the percentage of the Fund's
assets that may be used to participate in repurchase agreements.
REVERSE REPURCHASE AGREEMENTS. The Fund may enter into reverse repurchase
agreements with respect to debt obligations that could otherwise be sold by the
Fund. A reverse repurchase agreement is an instrument under which the Fund may
sell an underlying debt security and simultaneously obtain the commitment of the
purchaser (a commercial bank or a broker or dealer) to sell the security back to
the Fund at an agreed-upon price on an agreed-upon date. The Fund will maintain
cash or liquid securities in an amount sufficient to cover its obligations with
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respect to reverse repurchase agreements. The Fund receives payment for such
securities only upon physical delivery or evidence of book entry transfer by its
custodian. SEC regulations require either that securities sold by the Fund under
a reverse repurchase agreement be segregated pending repurchase or that the
proceeds be segregated on the Fund's books and records pending repurchase.
Reverse repurchase agreements could involve risks in the event of default or
insolvency of the other party, including possible delays or restrictions upon
the Fund's ability to dispose of the underlying securities. An additional risk
is that the market value of securities sold by the Fund under a reverse
repurchase agreement could decline below the price at which the Fund is
obligated to repurchase them. Reverse repurchase agreements will be considered
borrowings by the Fund and as such would be subject to the restrictions on
borrowing described in the Statement of Additional Information under "Investment
Restrictions." The Fund will not hold more than 5% of the value of its total
assets in reverse repurchase agreements as of the time the agreement is entered
into.
DISTRIBUTIONS AND INCOME TAXES
DISTRIBUTIONS. Income dividends are declared each business day, paid monthly,
and confirmed at least quarterly. Capital gains, if any, are distributed at
least annually, usually in December. Shares accrue dividends as long as they are
issued and outstanding (i.e., from the date the payment for the purchase order
is received to the day before the repurchase settles).
Dividend payments are not guaranteed and may vary with each payment. The Fund
does not pay "interest" or guarantee any fixed rate of return.
If you do not indicate on your application your preferences for handling
distributions, the Fund will automatically reinvest all distributions in
additional shares of the Fund. You can choose one of the following options for
distributions when you open your account: (1) reinvest all distributions in
additional shares of the Fund; (2) reinvest all distributions in shares of
another fund; (3) receive dividends in cash and reinvest capital gains; or (4)
receive all distributions in cash. Distributions of $10 or less will
automatically be reinvested in additional shares. If you elect to receive
distributions by check and the check is returned as undeliverable, or if you do
not cash a distribution check within six months of the check date, the
distribution will be reinvested in additional shares.
The Fund is authorized to borrow money subject to restrictions. (See "How the
Fund Invests.") Under the 1940 Act, the Fund may not declare any dividend or
other distribution on its shares unless the Fund has, at the time of
declaration, asset coverage of at least 300% of its aggregate indebtedness,
after deducting the amount of the distribution. This limitation may impair the
Fund's ability to maintain its qualification for taxation as a regulated
investment company.
INCOME TAXES. The Fund intends to satisfy those requirements relating to the
sources of its income, the distribution of its income, and the diversification
of its assets necessary to qualify for the special tax treatment afforded to
regulated investment companies under the Internal Revenue Code (the "Code") and
thereby be relieved of federal income or excise taxes to the extent that it
distributes its net investment income and net realized capital gains to
shareholders in accordance with the timing requirements imposed by the Code. For
a detailed discussion of tax issues pertaining to the Fund, see "Additional
Income Tax Considerations" in the Statement of Additional Information.
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Your distributions will be taxable to you, under income tax law, whether
received in cash or reinvested in additional shares. For federal income tax
purposes, any distribution that is paid in January but was declared in the prior
calendar year is deemed paid in the prior calendar year.
You will be subject to federal income tax at ordinary rates on income dividends
and distributions of net short-term capital gains. Distributions of net
long-term capital gains will be taxable to you as long-term capital gains
regardless of the length of time you have held your shares.
You will be advised annually as to the source of distributions for tax purposes.
If you are not subject to tax on your income, you will not be required to pay
tax on these amounts.
A shareholder who, pursuant to a Repurchase Offer, offers all of his or her
shares for repurchase (and is not considered to own any other shares pursuant to
attribution rules contained in the Code) may realize a taxable gain or loss
depending upon the shareholder's basis in the shares. Such gain or loss realized
on the disposition of shares (whether pursuant to a Repurchase Offer or in
connection with a sale or other taxable disposition of shares in a secondary
market) generally will be treated as long-term capital gain or loss if the
shares have been held as a capital asset for more than one year and as
short-term capital gain or loss if held as a capital asset for one year or less.
Starting in 2001, net long-term capital gains realized upon the disposition of
shares held longer than five years will be subject to a lower maximum capital
gains tax rate than is currently available. If shares are sold at a loss after
being held for six months or less, the loss will be treated as long-term instead
of short-term capital loss to the extent of any capital gain distributions
received on those shares. All or a portion of any loss realized on a sale or
exchange of shares of the Fund will be disallowed if the shareholder acquires
other shares within 30 days before or after the disposition. In such a case, the
basis of the shares acquired will be adjusted to reflect the disallowed loss.
Different tax consequences may apply to shareholders whose shares are
repurchased (other than shareholders who do not offer all of their shares for
repurchase described in the previous paragraph) and to shareholders who do not
offer their shares for repurchase in connection with the Repurchase Offer. For
example, if a shareholder offers for repurchase fewer than all his shares, the
proceeds received could be treated as a taxable dividend, a return of capital,
or capital gain depending on the portion of shares repurchased, the Fund's
earnings and profits, and the shareholder's basis in the repurchased shares.
Moreover, when fewer than all shares owned by a shareholder are repurchased
pursuant to a Repurchase Offer, there is a remote possibility that shareholders
whose shares are not repurchased may be considered to have received a deemed
distribution that is taxable to them in whole or in part. You may wish to
consult your tax advisor prior to offering your shares for repurchase.
BACKUP WITHHOLDING. The Fund may be required to withhold federal income tax
("backup withholding") from certain payments to a shareholder generally
distribution payments and redemption proceeds. Backup withholding may be
required if:
- the shareholder fails to furnish its properly certified Social Security or
other tax identification number;
- the shareholder fails to certify that its tax identification number is
correct or that it is not subject to backup withholding due to the
underreporting of certain income;
- the Internal Revenue Service (IRS) informs the Fund that the shareholder's
tax identification number is incorrect.
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These certifications are contained in the application that you should complete
and return when you open an account. The Fund must promptly pay to the IRS all
amounts withheld. Therefore, it is usually not possible for the Fund to
reimburse you for amounts withheld. You may, however, claim the amount withheld
as a credit on your federal income tax return.
The federal income tax discussion set forth above is for general information
only. Prospective investors should consult their advisors regarding the specific
federal and state tax consequences of purchasing, holding and disposing of
shares, as well as the effects of other state, local and foreign tax laws and
any proposed tax law changes.
MANAGEMENT OF THE FUND
BOARD OF TRUSTEES AND INVESTMENT ADVISOR. The Board of Trustees of the Fund has
overall management responsibility for the Fund. See "Management" in the
Statement of Additional Information for the names of and other information about
the trustees, and officers.
The investment advisor, Stein Roe & Farnham Incorporated, One South Wacker
Drive, Chicago, IL 60606, is responsible for managing the investment portfolio
and the business affairs of the Fund, subject to the direction of the Board.
Stein Roe is registered as an investment advisor under the Investment Advisers
Act of 1940. Stein Roe is a wholly owned subsidiary of Liberty Funds Group,
which is a wholly owned subsidiary of Liberty Financial Services, Inc., which is
a wholly owned subsidiary of Liberty Financial Companies, Inc.(Liberty
Financial), which is a majority owned subsidiary of Liberty Corporate Holdings,
Inc., which is a wholly owned subsidiary of LFC Holdings, Inc., which is a
wholly owned subsidiary of Liberty Mutual Insurance Company. Stein Roe and its
predecessor have advised and managed mutual funds since 1949 and have been
providing investment advisory services since 1932.
Stein Roe's mutual funds and institutional investment advisory businesses are
part of a larger business unit known as Liberty Funds Group (LFG) that includes
several separate legal entities. LFG includes affiliates of Stein Roe, including
Colonial Management Associates, Inc. (Colonial). The LFG business unit is
managed by a single management team. Colonial and other LFG entities also share
personnel, facilities, and systems with Stein Roe that may be used in providing
administrative or operational services to the Funds. Colonial is a registered
investment advisor. Stein Roe also has a wealth management business that is not
part of LFG and is managed by a different team. Stein Roe and the other entities
that make up LFG are subsidiaries of Liberty Financial.
FEES AND EXPENSES. Stein Roe provides portfolio management services to the Fund
for a monthly management fee, computed and accrued daily, based on an annual
rate of 0.45% of Average Daily Managed Assets of the Fund. Colonial Management
Associates, Inc. provides administrative services to the Fund for a monthly fee,
computed and accrued daily, based on an annual rate of 0.20% of Average Daily
Managed Assets of the Fund. "Average Daily Managed Assets" of the Fund means the
average daily value of the total assets of the Fund less all accrued liabilities
of the Fund (other than the aggregate amount of any outstanding borrowings
constituting financial leverage).
Because the fee paid to the Advisor and the Administrator will be calculated on
the basis of the Fund's managed assets, which include the proceeds of leverage,
the dollar amount of the fees paid by the Fund to the Advisor and Administrator
will be higher (and the Advisor and Administrator will be benefited to that
extent) when leverage is utilized. The Advisor will utilize
29
<PAGE>
leverage only if it would result in a net benefit to the Fund shareholders after
taking into account the higher fees and expenses associated with leverage
(including higher management and administration fees).
Stein Roe provides office space and executive and other personnel to the Fund
and bears any sales or promotional expenses. The Fund pays all expenses other
than those paid by Stein Roe, including but not limited to printing and postage
charges, securities registration and custodian fees, and expenses incidental to
its organization.
PORTFOLIO MANAGERS. Brian W. Good and James R. Fellows, vice presidents of Stein
Roe, are primarily responsible for the day-to-day management of the Fund since
the Fund commenced operations. Mr. Fellows and Mr. Good have been employed by
Stein Roe since April 1998. Prior thereto, Mr. Good was vice president and
portfolio manager at Van Kampen American Capital since 1989 and Mr. Fellows was
vice president and senior credit analyst at Van Kampen American Capital since
1988.
TRANSFER AGENT. Liberty Funds Services, Inc. (Transfer Agent), P.O. Box 1722,
Boston, MA 02105-1722, a wholly owned subsidiary of Liberty Financial, is the
agent of the Fund for the transfer of shares, disbursement of dividends, and
maintenance of shareholder accounting records.
DISTRIBUTOR. Fund shares are offered for sale through Liberty Funds Distributor,
Inc. (Distributor). The Distributor is a wholly owned indirect subsidiary of
Liberty Financial. The business address of the Distributor is One Financial
Center, Boston, MA 02111.
CUSTODIAN. State Street Bank and Trust Company, 225 Franklin Street, Boston, MA
02101, is the custodian of the Fund. The custodian, among other things, attends
to the collection of principal and income and payment for and collection of
proceeds of securities bought and sold.
HOW TO BUY SHARES
Your financial advisor can help you establish an appropriate investment
portfolio, buy shares, and monitor your investments. When the Fund receives your
purchase request in "good form," your shares will be bought at the next
calculated net asset value. In "good form" means that you placed your order with
your brokerage firm or your payment has been received and your application is
complete, including all necessary signatures.
30
<PAGE>
Outlined below are various ways you can purchase shares:
METHOD INSTRUCTIONS
Through your financial Your financial advisor can help you establish your
advisor account and buy Fund shares on your behalf.
--------------------------------------------------------------------------------
By check For new accounts, send a completed application and
(new account) check made payable to the Fund to the transfer agent,
Liberty Funds Services, Inc., P.O. Box 1722, Boston,
MA 02105-1722.
--------------------------------------------------------------------------------
By check For existing accounts, fill out and return the
(existing account) additional investment stub included in your quarterly
statement, or send a letter of instruction, including
your Fund name and account number with a check made
payable to the Fund to Liberty Funds Services, Inc.,
P.O. Box 1722, Boston, MA 02105-1722.
--------------------------------------------------------------------------------
By exchange You or your financial advisor may acquire shares by
exchanging shares you own in one Fund for shares of
the same class of the Fund at no additional cost. To
exchange by telephone, call 1-800-422-3737. There may
be an additional charge when exchanging from a money
market fund.
--------------------------------------------------------------------------------
By wire You may purchase shares by wiring money from your bank
account to your Fund account. To wire funds to your
Fund account, call 1-800-422-3737 to obtain a control
number and the wiring instructions.
--------------------------------------------------------------------------------
By electronic funds You may purchase shares by electronically transferring
transfer money from your bank account to your Fund account by
calling 1-800-422-3737. Your money may take up to two
business days to be invested. You must set up this
feature prior to your telephone request. Be sure to
complete the appropriate section of the application.
--------------------------------------------------------------------------------
Automatic You can make monthly or quarterly investments
investment plan automatically from your bank account to your Fund
account. You can select a pre-authorized amount to be
sent via electronic funds transfer. Be sure to
complete the appropriate section of the application
for this feature.
--------------------------------------------------------------------------------
By dividend You may automatically invest dividends distributed by
diversification the Fund into the same class of shares of another fund
at no additional sales charge. To invest your
dividends in another fund, call 1-800-422-3737.
INVESTMENT MINIMUMS
<TABLE>
<S> <C>
Initial Investment............. $2,500
Subsequent Investments......... $50
Automatic Investment Plan...... $50
Retirement Plans............... $25
</TABLE>
The Fund reserves the right to change the investment minimums. The Fund also
reserves the right to refuse a purchase order for any reason, including if it
believes that doing so would be in the best interest of the Fund and its
shareholders.
MULTIPLE SHARE CLASSES
CHOOSING A SHARE CLASS. The Fund offers three classes of shares in this
prospectus -- Class A, B and C. Each share class has its own sales charge and
expense structure. Determining which share class is best for you depends on the
dollar amount you are investing and the number of years for which you are
willing to invest. Purchases of $1 million or more are automatically invested in
Class A shares. Based on your personal situation, your financial advisor can
help you decide which class of shares makes the most sense for you. The Fund
also offers Class Z shares, which are available only to institutional and other
investors through a separate prospectus.
31
<PAGE>
SALES CHARGES. You may be subject to an initial sales charge when you purchase
or an early withdrawal charge (EWC) when you offer your shares for repurchase.
These sales charges are described below. In certain circumstances, these sales
charges are waived, as described below and in the Statement of Additional
Information.
CLASS A SHARES. Your purchases of Class A shares generally are at the public
offering price. This price includes a sales charge that is based on the amount
of your investment. The sales charge you pay on additional investments is based
on the amount of your additional purchase, plus the current value of your
account. The amount of the sales charge differs depending on the amount you
invest as shown in the table below. The table below also shows the commission
paid to the financial advisor firm on sales of Class A shares.
<TABLE>
<CAPTION>
% OF OFFERING
AS A % OF THE PRICE PAID TO
AMOUNT OF PURCHASE PUBLIC OFFERING AS A % OF YOUR FINANCIAL
PRICE NET INVESTMENT ADVISOR FIRM
<S> <C> <C> <C>
Less than $100,000 3.50 3.63 3.25
------------------------------------------------------------------------------------------
$100,000 to less than $500,000 2.25 2.30 2.00
------------------------------------------------------------------------------------------
$500,000 to less than $1,000,000 1.25 1.27 1.00
------------------------------------------------------------------------------------------
$1,000,000 or more* 0.00 0.00 1.00
</TABLE>
*Class A shares bought without an initial sales charge in accounts
aggregating $1 million to $25 million at the time of purchase may be
subject to a 1.00% EWC if the shares are sold within 18 months of the time
of each purchase. Subsequent Class A share purchases that bring your
account value above $1 million are subject to a 1.00% EWC if redeemed
within 18 months of each purchase date. The 18-month period begins on the
first day of the month following each purchase. The EWC does not apply to
retirement plans purchased through a fee-based program.
CLASS A SHARES. For Class A share purchases of $1 million or more, financial
advisors receive a commission from the Distributor as follows:
<TABLE>
<CAPTION>
AMOUNT PURCHASED COMMISSION %
--------------------------------------------------------
<S> <C>
First $3 million 1.00
--------------------------------------------------------
$3 million to less than $5 million 0.80
--------------------------------------------------------
$5 million to less than $25 million 0.50
--------------------------------------------------------
$25 million or more 0.25*
</TABLE>
*Paid over 12 months but only to the extent the shares remain outstanding.
For Class A share purchases by participants in certain group retirement plans
offered through a fee-based program, financial advisors receive a 1.00%
commission from the Distributor on all purchases of less than $3 million.
REDUCED SALES CHARGES FOR LARGER INVESTMENTS. There are two ways for you to pay
a lower sales charge when purchasing Class A shares. The first is through Rights
of Accumulation. If the combined value of the Fund accounts maintained by you,
your spouse or your minor children reaches a discount level (according to the
above chart), your next purchase will receive the lower sales charge. The second
is by signing a Statement of Intent within 90 days of your purchase. By doing
so, you would be able to pay the lower sales charge on all purchases by agreeing
to invest a total of at least $100,000 within 13 months. If your Statement of
Intent purchases are
32
<PAGE>
not completed within 13 months, you will be charged the applicable sales charge.
In addition, certain investors may purchase Class A shares at a reduced sales
charge or net asset value, which is the value of a Fund share excluding any
sales charges. See the Statement of Additional Information for a description of
these situations.
CLASS B SHARES. Your purchases of Class B shares are at the Fund's net asset
value. Class B shares have no front-end sales charge, but carry an EWC that is
imposed only on shares sold prior to the completion of the periods shown in the
chart below. The EWC generally declines each year and eventually disappears over
time. Class B shares automatically convert to Class A shares after eight years.
The Distributor pays, from its own assets, the financial advisor firm an
up-front commission of 3.25% on sales of Class B shares.
<TABLE>
<CAPTION>
HOLDING PERIOD AFTER % DEDUCTED WHEN SHARES ARE
PURCHASE SOLD
---------------------------------------------------------------
<S> <C>
Through first year 3.25
---------------------------------------------------------------
Through second year 3.00
---------------------------------------------------------------
Through third year 2.00
---------------------------------------------------------------
Through fourth year 1.50
---------------------------------------------------------------
Through fifth year 1.00
---------------------------------------------------------------
Longer than five years 0.00
</TABLE>
CLASS C SHARES. Like Class B shares, your purchases of Class C shares are at the
Fund's net asset value. Although Class C shares have no front-end sales charge,
they carry an EWC of 1.00% that is applied to shares sold within the first year
after they are purchased. After holding shares for one year, you may sell them
at any time without paying an EWC. Class C shares do not convert into Class A
shares. The Distributor pays, from its own assets, the financial advisor firm an
up-front commission of 1.00% on sales of Class C shares.
DISTRIBUTION AND SERVICE FEES. In addition to an EWC, each class of shares is
authorized under a distribution plan (Plan) to use the assets attributable to a
class to finance activities relating to the distribution of shares to investors.
These include marketing and other activities to support the distribution of the
Class A, B, and C shares and the services provided to you by your financial
advisor. The Plan was approved and reviewed in a manner consistent with Rule
12b-1 under the 1940 Act, which regulates the manner in which an open-end
investment company may directly or indirectly bear the expenses of distributing
its shares. Although the Fund is not an open-end investment company, it has
undertaken to comply with the terms of Rule 12b-1 as a condition of an exemptive
order under the 1940 Act to permit it to have a multi-class structure, EWCs and
distribution fees.
Under the Plan, distribution and service fees paid by the Fund to the
Distributor may equal up to an annual rate of 0.35% of average daily net assets
attributable to Class A shares, 0.70% of average daily net assets attributable
to Class B shares, and 0.85% of average daily net assets attributable to Class C
shares, respectively. Since the distribution and service fees are payable
regardless of the Distributor's expenses, the Distributor may realize a profit
from the fees. The Plan authorizes any other payments by the Fund to the
Distributor and its affiliates to the extent that such payments might be
construed to be indirect financing of the distribution of Fund shares.
The trustees believe that the Plan could be a significant factor in the growth
and retention of Fund assets resulting in a more advantageous expense ratio and
increased investment flexibility
33
<PAGE>
which could benefit each class of Fund shareholders. The Plan will continue in
effect from year to year so long as continuance is specifically approved at
least annually by a vote of the trustees, including the trustees who are not
interested persons of the Fund and who have no direct or indirect financial
interest in the operation of the Plan or in any agreements related to the Plan
(Independent Trustees), cast in person at a meeting called for the purpose of
voting on the Plan. The Plan may not be amended to increase the fee materially
without approval by a vote of a majority of the outstanding voting securities of
the relevant class of shares and all material amendments of the Plan must be
approved by the trustees in the manner provided in the foregoing sentence. The
Plan may be terminated at any time by a vote of a majority of the Independent
Trustees or by a vote of a majority of the outstanding voting securities of the
relevant class of shares. The continuance of the Plan will only be effective if
the selection and nomination of the Independent Trustees is effected by such
Independent Trustees.
EARLY WITHDRAWAL CHARGES (EWCS). As described above, certain investments in
Class A, B and C shares are subject to an EWC. You will pay the EWC only on
shares you offer for repurchase within the prescribed amount of time after
purchase. The EWC generally declines each year until there is no charge for
shares repurchased. The EWC is applied to the net asset value at the time of
purchase or repurchase, whichever is lower. For purposes of calculating the EWC,
the start of the holding period is the first day of the month following each
purchase. Shares you purchase with reinvested dividends or capital gains are not
subject to an EWC. When shares are repurchased, the Fund will automatically
repurchase those shares not subject to an EWC and then those you have held the
longest. This policy helps reduce and possibly eliminate the potential impact of
the EWC. In certain circumstances, EWCs may be waived, as described in the
Statement of Additional Information.
CONVERSION FEATURE. Class B shares will automatically convert to Class A shares
after eight years and after that date, converted shares will no longer be
subject to the distribution fees applicable to Class B shares. Conversion will
be on the basis of the relative net asset values per share, without the
imposition of any sales charge, fee or other charge. The purpose of the
conversion feature is to relieve the holders of Class B shares from asset-based
distribution expenses applicable to such shares at such time as the Class B
shares have been outstanding for a duration sufficient for the Distributor to
have been substantially compensated for distribution-related expenses incurred
in connection with those shares. Class C shares do not convert to Class A
shares. Therefore, holders of Class C shares will continue to bear the
asset-based distribution fees on the Class C shares for as long as they hold
such shares.
HOW TO EXCHANGE SHARES. Shareholders of the Fund whose shares are repurchased
during a Repurchase Offer may exchange those shares for shares of the same class
of a fund distributed by Liberty Funds Distributor, Inc. at net asset value.
Fund shareholders will not be able to participate in this exchange privilege at
any time other than in connection with a Repurchase Offer. If your shares are
subject to an EWC, you will not be charged an EWC upon the exchange. However,
when you sell the shares acquired through the exchange, the shares sold may be
subject to a CDSC (a CDSC is the deferred sales charge applicable to the
open-end Liberty Funds) or EWC, depending upon when you originally purchased the
shares you exchanged. For purposes of computing the CDSC or EWC, the length of
time you have owned your shares will be computed from the date of your original
purchase and the applicable CDSC or EWC will be the EWC of the original Fund.
Unless your account is part of a tax-deferred retirement plan, an exchange is a
taxable event. Therefore, you may realize a gain or a loss for tax purposes. The
Fund may terminate your
34
<PAGE>
exchange privilege if Stein Roe determines that your exchange activity is likely
to adversely impact its ability to manage the Fund.
PERIODIC REPURCHASE OFFERS
The Board has adopted share repurchase policies as fundamental policies. Those
policies, which may not be changed without the vote of the holders of a majority
of the Fund's outstanding voting securities, provide that each calendar quarter,
the Fund intends to make a Repurchase Offer to repurchase a portion of the
outstanding shares from shareholders who request repurchases. The price of the
repurchases of shares normally will be the net asset value per share determined
as of the close of business (4 p.m., Eastern time) on the date the Repurchase
Offer ends or within a maximum of 14 days after the Repurchase Offer ends as
described below.
REPURCHASE PROCEDURE. At the beginning of each Repurchase Offer, shareholders
will be notified in writing about the Repurchase Offer, how they may request
that the Fund repurchase their shares and the deadline for shareholders to
provide their repurchase requests to the Distributor (the "Repurchase Request
Deadline"), which is the date the Repurchase Offer ends. The time between the
notification of the shareholders and the Repurchase Request Deadline may vary
from no more than six weeks to no less than three weeks. For each Repurchase
Offer, it is anticipated that each Repurchase Request Deadline will be on the
15th day in each of the months of February, May, August and November, or, if the
15th day is not a business day, the next business day. The repurchase price of
the shares will be the net asset value as of the close of the NYSE on the date
on which the repurchase price of shares will be determined (the "Repurchase
Pricing Date"). It is anticipated that normally the Repurchase Pricing Date will
be the same date as the Repurchase Request Deadline, and if so, the Repurchase
Request Deadline will be set for a time no later than the close of the NYSE on
such date. The Fund has determined that the Repurchase Pricing Date may occur no
later than the 14th day after the Repurchase Request Deadline or the next
business day if the 14th day is not a business day.
The Board may establish other policies for repurchases of shares that are
consistent with the 1940 Act and other pertinent laws. Shares offered for
repurchase by shareholders by any Repurchase Request Deadline will be
repurchased subject to the aggregate repurchase amounts established for that
Repurchase Request Deadline. Repurchase proceeds will be paid to shareholders in
cash within seven days after each Repurchase Pricing Date. The end of the seven
days is referred to as the "Repurchase Payment Deadline."
Repurchase offers and the need to fund repurchase obligations may affect the
ability of the Fund to be fully invested, which may reduce returns. Moreover,
diminution in the size of the Fund through repurchases without offsetting new
sales may result in untimely sales of Senior Loans and a higher expense ratio
and may limit the ability of the Fund to participate in new investment
opportunities. The Fund may borrow to meet repurchase obligations, which entails
risks and costs (see "Borrowing"). The Fund may also sell Senior Loans to meet
repurchase obligations which may adversely affect the market for Senior Loans
and reduce the Fund's value.
REPURCHASE AMOUNTS. The Board, in its sole discretion, will determine the number
of shares that the Fund will offer to repurchase (the "Repurchase Offer Amount")
for a given Repurchase Request Deadline. However, the Repurchase Offer Amount
will be at least 5% and no more than 25% of the total number of shares
outstanding on the Repurchase Request Deadline.
35
<PAGE>
If shareholders offer for repurchase more than the Repurchase Offer Amount for a
given Repurchase Offer, the Fund may repurchase an additional amount of shares
of up to 2% of the shares outstanding on the Repurchase Request Deadline. If the
Fund determines not to repurchase more than the Repurchase Offer Amount, or if
the Fund determines to repurchase the additional 2% of the shares outstanding,
but Fund shareholders offer shares for repurchase in excess of that amount, the
Fund will repurchase the shares on a pro rata basis. The Fund may, however,
accept all shares offered for repurchase by shareholders who own less than 100
shares and who offer all their shares, before accepting on a pro rata basis
shares offered by other shareholders. In the event there is an oversubscription
of a Repurchase Offer, shareholders may be unable to liquidate all or a given
percentage of their investment in the Fund at net asset value during the
Repurchase Offer.
NOTICES TO SHAREHOLDERS. Notice of each quarterly Repurchase Offer (and any
additional discretionary repurchase offers) will be given to each beneficial
owner of shares between 21 and 42 days before each Repurchase Request Deadline.
The notice will contain information shareholders should consider in deciding
whether or not to offer their shares for repurchase. The notice will also
include detailed instructions on how to offer shares for repurchase. The notice
will state the Repurchase Offer Amount. The notice will also identify the dates
of the Repurchase Request Deadline, scheduled Repurchase Pricing Date, and
scheduled Repurchase Payment Deadline. The notice will describe the risk of
fluctuation in the net asset value between the Repurchase Request Deadline and
the Repurchase Pricing Date, if such dates do not coincide, and the possibility
that the Fund may use an earlier Repurchase Pricing Date than the scheduled
Repurchase Pricing Date (if the scheduled Repurchase Pricing Date is not the
Repurchase Request Deadline). The notice will describe (i) the procedures for
shareholders to offer their shares for repurchase, (ii) the procedures for the
Fund to repurchase shares on a pro rata basis, (iii) the circumstances in which
the Fund may suspend or postpone a Repurchase Offer, and (iv) the procedures
that will enable shareholders to withdraw or modify their offers of shares for
repurchase until the Repurchase Request Deadline. The notice will set forth the
net asset value of the shares to be repurchased no more than seven days before
the date of notification, and how shareholders may as certain the net asset
value after the notification date.
REPURCHASE PRICE. The current net asset value of the shares is computed daily.
The Board has determined that the time at which the net asset value will be
computed will be as of the close of regular session trading on the NYSE. You may
call 1-800-345-6611 to learn the net asset value per share. The notice of the
Repurchase Offer will also provide information concerning the net asset value
per share, such as the net asset value as of a recent date or a sampling of
recent net asset values, and a toll-free number for information regarding the
Repurchase Offer.
SUSPENSION OR POSTPONEMENT OF REPURCHASE OFFER. The Fund may suspend or postpone
a repurchase offer only: (a) if making or effecting the repurchase offer would
cause the Fund to lose its status as a regulated investment company under the
Internal Revenue Code; (b) for any period during which the NYSE or any market on
which the securities owned by the Fund are principally traded is closed, other
than customary weekend and holiday closings, or during which trading in such
market is restricted; (c) for any period during which an emergency exists as a
result of which disposal by the Fund of securities owned by it is not reasonably
practicable, or during which it is not reasonably practicable for the Fund
fairly to determine the value of its net assets; or (d) for such other periods
as the SEC may by order permit for the protection of shareholders of the Fund.
36
<PAGE>
LIQUIDITY REQUIREMENTS. The Fund must maintain liquid assets equal to their
Repurchase Offer Amount from the time that the notice is sent to shareholders
until the Repurchase Pricing Date. The Fund will ensure that a percentage of
their respective net assets equal to at least 100% of the Repurchase Offer
Amount consists of assets (a) that can be sold or disposed of in the ordinary
course of business at approximately the price at which the Fund has valued the
investment within the time period between the Repurchase Request Deadline and
the Repurchase Payment Deadline; or (b) that mature by the Repurchase Payment
Deadline.
The Board of the Fund has adopted procedures that are reasonably designed to
ensure that the assets are sufficiently liquid so that the Fund can comply with
the Repurchase Offer and the liquidity requirements described in the previous
paragraph. If, at any time, the Fund falls out of compliance with these
liquidity requirements, their respective Boards will take whatever action they
deem appropriate to ensure compliance.
NET ASSET VALUE
The purchase or redemption price of shares is generally the net asset value per
share except for Class A share purchases at the public offering price. The Fund
determines the net asset value of its shares as of the close of regular session
trading on the NYSE (currently 4 p.m., Eastern time) by dividing the difference
between the values of its assets and liabilities by the number of shares
outstanding. Net asset value will not be determined on days when the NYSE is
closed unless, in the judgment of the Board of Trustees, the net asset value
should be determined on any such day, in which case the determination will be
made at 4 p.m., Eastern time.
The Senior Loans in which the Fund will invest generally are not listed on any
securities exchange. Certain Senior Loans are traded by institutional investors
in an over-the-counter secondary market for Senior Loan obligations that has
developed over the past several years. This secondary market for those Senior
Loans generally is comparatively illiquid relative to markets for other income
securities and no active trading market exists for many Senior Loans. In
determining net asset value, the Fund will utilize the valuations of Senior
Loans furnished to Stein Roe by an independent third-party pricing service. The
pricing service provider has no obligation to provide a valuation for a Senior
Loan if it believes that it cannot determine such a valuation. There can be no
assurance that the pricing service provider will continue to provide these
services or will provide a value for each Senior Loan held by the Fund. However,
Stein Roe believes that if the pricing service provider declines to continue to
act as such for the Fund, or does not provide values for a significant portion
of the Senior Loans in the Fund's portfolio, one or more alternative independent
third-party pricing service providers will be available to provide comparable
services on similar terms.
A pricing service provider typically will value Senior Loans at the mean of the
highest bona fide bid and lowest bona fide ask prices when current quotations
are readily available. Senior Loans for which current quotations are not readily
available are valued at a fair value as determined by the pricing service
provider using a wide range of market data and other information and analysis,
including credit considerations considered relevant by the pricing service
provider to determine valuations. The procedures of any pricing service provider
and its valuations will be reviewed by the officers of Stein Roe under the
general supervision of the Board. If Stein Roe believes that a value provided by
a pricing service provider does not represent a fair value as a result of
information, specific to that Senior Loan or Borrower or its affiliates, of
which Stein Roe believes that the pricing agent may not be aware, Stein Roe may
in its discretion value the Senior Loan subject to procedures approved by the
Board and reviewed on a periodic basis, and the Fund will
37
<PAGE>
utilize that price instead of the price as determined by the pricing service
provider. In addition to such information, Stein Roe will consider, among other
factors, (i) the creditworthiness of the Borrower and (ii) the current interest
rate, the period until next interest rate reset and maturity of such Senior Loan
interests in determining a fair value of a Senior Loan. If the pricing service
does not provide a value for a Senior Loan or if no pricing service provider is
then acting, a value will be determined by Stein Roe in the manner described
above.
It is expected that the Fund's net asset value will fluctuate as a function of
interest rate and credit factors. Although the Fund's net asset value will vary,
Stein Roe expects the Fund's policy of acquiring interests in floating or
variable rate Senior Loans to minimize fluctuations in net asset value as a
result of changes in interest rates. Accordingly, Stein Roe expects the value of
the investment portfolio to fluctuate significantly less than a portfolio of
fixed-rate, longer term obligations as a result of interest rate changes. Other
long-term debt securities for which market quotations are not readily available
are valued at fair value based on valuations provided by pricing services
approved by the Board, which may employ electronic data processing techniques,
including a matrix system, to determine valuations. The value of interest rate
swaps, caps, and floors will be determined in accordance with a formula and then
confirmed periodically by obtaining a quotation. Short-term debt securities with
remaining maturities of 60 days or less are valued at their amortized cost,
which does not take into account unrealized gains or losses. The Board believes
that the amortized cost represents a fair value for such securities. Short-term
debt securities with remaining maturities of more than 60 days for which market
quotations are not readily available are valued by use of a matrix prepared by
Stein Roe based on quotations for comparable securities. Other assets and
securities held by the Fund for which these valuation methods do not produce a
fair value are valued by a method that the Board believes will determine a fair
value.
PERFORMANCE INFORMATION
The Fund seeks to provide an effective yield that is higher than other
short-term instrument alternatives. From time to time, the Fund may include its
current and/or effective yield based on various specific time periods. Yields
will fluctuate from time to time and are not necessarily representative of
future results.
The current yield is calculated by annualizing the most recent monthly
distribution (i.e., multiplying the distribution amount by 365/31 for a 31 day
month) and dividing the product by the current maximum offering price. The
effective yield is calculated by dividing the current yield by 365/31 and adding
1. The resulting quotient is then taken to the 365/31st power and reduced by 1.
The result is the effective yield.
On occasion, the Fund may compare its yield to: (a) LIBOR, quoted daily in the
Wall Street Journal; (b) the CD Rate as quoted daily in the Wall Street Journal
as the average of top rates paid by major New York banks on primary new issues
of negotiable CDs, usually on amounts of $1 million or more; (c) the Prime Rate,
quoted daily in The Wall Street Journal as the base rate on corporate loans at
large U.S. money center commercial banks; (d) one or more averages compiled by
Donoghue's Money Fund Report, a widely recognized independent publication that
monitors the performance of money market mutual funds; (e) the average yield
reported by the Bank Rate Monitor National Index(TM) for money market deposit
accounts offered by the 100 leading banks and thrift institutions in the ten
largest standard metropolitan statistical areas; (f) yield data published by
Lipper, Inc.; (g) the yield on an investment in 90-day Treasury bills on a
rolling basis, assuming quarterly compounding; or (h) the yield on an index of
loan funds
38
<PAGE>
comprised of all continually offered closed-end bank loan funds, as categorized
by Lipper (the "loan fund index"). In addition, the Fund may compare the Prime
Rate, the Donoghue's averages and the other yield data described above to each
other. Yield comparisons should not be considered indicative of the Fund's yield
or relative performance for any future period.
From time to time advertisements and other sales materials for the Fund may
include information concerning the historical performance of the Fund. Any such
information may include a distribution rate and an average compounded
distribution rate of the Fund for specified periods of time. Such information
may also include performance rankings and similar information from independent
organizations such as Lipper, Inc., Business Week, Forbes or other industry
publications.
The Fund's distribution rate generally is determined on a monthly basis with
respect to the immediately preceding monthly distribution period. The
distribution rate is computed by first annualizing the Fund's distributions per
Share during such a monthly distribution period and dividing the annualized
distribution by the Fund's maximum offering price per Share on the last day of
such period. The Fund calculates the compounded distribution rate by adding one
to the monthly distribution rate, raising the sum to the power of 12 and
subtracting one from the product. In circumstances in which the Fund believes
that, as a result of decreases in market rates of interest, its expected monthly
distributions may be less than the distributions with respect to the immediately
preceding monthly distribution period, the Fund reserves the right to calculate
the distribution rate on the basis of a period of less than one month.
When utilized by the Fund, distribution rate and compounded distribution rate
figures are based on historical performance and are not intended to indicate
future performance. Distribution rate, compounded distribution rate and net
asset value per share can be expected to fluctuate over time.
Advertisements and communications to present or prospective shareholders also
may cite a total return for any period. Total return is calculated by
subtracting the net asset value of a single purchase of shares at a given date
from the net asset value of those shares (assuming reinvestment of
distributions) or a later date. The difference divided by the original net asset
value is the total return. The Fund may include information about the total
return on the Loan Fund Index, and compare that to the total return of the Fund
and other indices. In calculating the Fund's total return, all dividends and
distributions are assumed to be reinvested in additional shares of the Fund at
net asset value. Therefore, the calculation of the Fund's total return and
effective yield reflects the effect of compounding. The calculations of total
return, current yield and effective yield do not reflect the amount of any
shareholder income tax liability, which would reduce the performance quoted. If
the Fund's fees or expenses are waived or reimbursed, the Fund's performance
will be higher.
Finally, the Fund may include information on the history of its net asset value
per share and the net asset value per share of the Loan Fund Index, including
comparisons between them, in advertisements and other material furnished to
present and prospective shareholders. Information about the performance of the
Fund or other investments is not necessarily indicative of future performance
and should not be considered a representative of what an investor's yield or
total return may be in the future.
39
<PAGE>
ORGANIZATION AND DESCRIPTION OF SHARES
The Fund is a Massachusetts business trust organized under an Agreement and
Declaration of Trust (Declaration of Trust) dated June 8, 1999, which provides
that each shareholder shall be deemed to have agreed to be bound by the terms
thereof. The Declaration of Trust may be amended by a vote of either the Fund's
shareholders or its trustees. The Fund offers four classes of shares -- Class A,
Class B, Class C, and Class Z. Class Z shares are offered through a separate
prospectus to eligible investors.
Under Massachusetts law, shareholders of a Massachusetts business trust such as
the Fund could, in some circumstances, be held personally liable for unsatisfied
obligations of the trust. However, the Declaration of Trust provides that
persons extending credit to, contracting with, or having any claim against the
Fund shall look only to its assets for payment under such credit, contract or
claim, and that the shareholders, trustees and officers of the Fund shall have
no personal liability therefor. The Declaration of Trust requires that notice of
such disclaimer of liability be given in each contract, instrument or
undertaking executed or made on behalf of the Fund. Further, the Declaration of
Trust provides for indemnification of any shareholder against any loss and
expense arising from personal liability solely by reason of being or having been
a shareholder. Thus, the risk of a shareholder incurring financial loss on
account of shareholder liability is believed to be remote, because it would be
limited to circumstances in which the disclaimer was inoperative and the Fund
was unable to meet its obligations.
The shares are not, and are not expected to be, listed for trading on any
national securities exchange nor, to the Fund's knowledge, is there, or is there
expected to be, any secondary trading market in the shares.
DIVIDENDS, VOTING AND LIQUIDATION RIGHTS. Each common share of beneficial
interest of the Fund has one vote and shares equally with other shares of its
class in dividends and distributions when and if declared by the Fund and in the
Fund's net assets upon liquidation. All shares, when issued, are fully paid and
are non-assessable by the Fund. There are no preemptive or conversion rights
applicable to any of the common shares except for such conversion rights that
may be established by the Trustees in connection with the designation of a class
of shares including the conversion of Class B shares to Class A shares eight
years after purchase. Fund shares do not have cumulative voting rights and, as
such, holders of more than 50% of the shares voting for Trustees can elect all
Trustees and the remaining shareholders would not be able to elect any Trustees.
The Fund does not intend to hold annual meetings of shareholders.
ANTI-TAKEOVER PROVISIONS IN THE DECLARATION OF TRUST. The 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. In addition, in the event a
secondary market were to develop in the shares, such provisions could have the
effect of depriving holders of shares of an opportunity to sell their shares at
a premium over prevailing market prices.
The Declaration of Trust requires the favorable vote of the holders of not less
than three-fourths of the outstanding shares then entitled to vote to authorize
certain transactions, unless at least three-fourths of the members of the Board
then in office and at least three-fourths of the non-interested trustees who
have acted in such capacities for at least 12 months (or since commencement of
operation if that period is less than 12 months) authorize such transaction and
then only a vote of the majority of the holders of the outstanding shares then
entitled to vote is required.
40
<PAGE>
The Board has determined that the 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 SEC for the full text of these
provisions.
STATUS OF SHARES. The Board of Trustees may classify or reclassify any issued or
unissued shares of the Fund into shares of any class by redesignating such
shares or by setting or changing in any one or more respects, from time to time,
prior to the issuance of such shares, the preferences, conversion or other
rights, voting powers, restrictions, limitations as to dividends,
qualifications, or terms or conditions of repurchase of such shares. Any such
classification or reclassification will comply with the provisions of the 1940
Act.
As of November 30, 2000, the following shares of the Fund were outstanding:
<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------
(2) (3) (4)
(1) Amount Amount held by Fund or for Amount Outstanding Exclusive of
Title of Class Authorized its Account Amount Shown Under
------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Class A Unlimited 0 7,641,266.122
------------------------------------------------------------------------------------------------
Class B Unlimited 0 2,909,518.071
------------------------------------------------------------------------------------------------
Class C Unlimited 0 2,592,433.568
------------------------------------------------------------------------------------------------
Class Z Unlimited 0 225,667.843
------------------------------------------------------------------------------------------------
</TABLE>
SHAREHOLDER REPORTS
The Fund issues reports to its shareholders semi-annually that include financial
information.
FINANCIAL STATEMENTS
The Fund will furnish without charge, when available, copies of its Annual
Report and any subsequent Semi-Annual Report to shareholders upon request to the
Fund, One Financial Center, Boston, Massachusetts 02111, toll-free
1-800-422-3737.
41
<PAGE>
TABLE OF CONTENTS OF
STATEMENT OF ADDITIONAL INFORMATION
Page
The Fund.....................................................................2
Investment Policies..........................................................2
Portfolio Investments and Strategies.........................................3
Investment Restrictions.....................................................11
Other Investment Policies...................................................12
Repurchase Offer Fundamental Policy.........................................12
Management of the Fund......................................................13
Financial Statements........................................................16
Principal Shareholders......................................................17
Investment Advisory and Other Services......................................17
Distributor.................................................................18
Transfer Agent..............................................................21
Custodian...................................................................21
Independent Accountants.....................................................21
Programs for Reducing or Eliminating Sales Charges..........................22
Portfolio Transactions......................................................25
Additional Income Tax Considerations........................................30
Investment Performance......................................................31
Appendix -- Ratings.........................................................33
[LIBERTY FUNDS LOGO]
Liberty Funds Distributor, Inc. (C)2001
One Financial Center Boston, MA 02111-2621, 800-426-3750
www.libertyfunds.com
762-01/257E-1200
<PAGE>
LIBERTY FLOATING RATE ADVANTAGE FUND PROSPECTUS, JANUARY 1, 2001
CLASS Z SHARES
Advised by Stein Roe & Farnham Incorporated
--------------------------------------------------------------------------------
TABLE OF CONTENTS
Prospectus Summary ........................................................ 4
Fund Expenses ............................................................. 8
Financial Highlights ...................................................... 9
The Fund .................................................................. 10
Use of Proceeds ........................................................... 10
Investment Objective and Policies ......................................... 10
How the Fund Invests ...................................................... 12
Principal Risks ........................................................... 18
Other Investment Practices ................................................ 22
Distributions and Income Taxes ............................................ 26
Management of the Fund .................................................... 28
How to Buy Shares ......................................................... 29
Multiple Share Classes .................................................... 31
Periodic Repurchase Offers ................................................ 31
Net Asset Value ........................................................... 34
Performance Information ................................................... 35
Organization and Description of Shares .................................... 36
Shareholder Reports ....................................................... 38
Financial Statements ...................................................... 38
Statement of Additional Information Table of Contents ..................... 39
Although these securities have been registered with the Securities and Exchange
Commission, the Commission has not approved or disapproved any shares offered in
this prospectus or determined whether this prospectus is truthful or complete.
Any representation to the contrary is a criminal offense.
----------------------------
Not FDIC May Lose Value
-----------------
Insured No Bank Guarantee
----------------------------
<PAGE>
Liberty Floating Rate Advantage Fund is a non-diversified, closed-end management
investment company that is continuously offered.
Investment Objective. The Fund's investment objective is to provide a high level
of current income, consistent with preservation of capital. The Fund seeks to
achieve its objective by investing primarily (at least 80% of its total assets)
in adjustable rate senior loans (Senior Loans), the interest rates of which
float or vary periodically based upon a benchmark indicator of prevailing
interest rates. Senior Loans are business loans that have a senior right to
payment to most other debts of the borrower. Senior Loans are often secured by
specific assets of the borrower, although the Fund may also invest in Senior
Loans that are not secured by any collateral. All or substantially all of the
Fund's Senior Loans may be rated below investment grade. The Fund may
periodically borrow money for the purpose of financing long-term investments,
obtaining short-term liquidity and for temporary, emergency or extraordinary
purposes. To the extent the Fund borrows more money than it has cash or
short-term cash equivalents and invests the proceeds in Senior Loans, the Fund
will create financial leverage.
<TABLE>
<CAPTION>
Price to Maximum Proceeds to
Public(1) Sales Load Fund(2)
-----------------------------------------------------------------
<S> <C> <C> <C>
Per Class Z Share $12.03 None $12.03
</TABLE>
(1) The shares are offered on a best efforts basis at a price equal to net
asset value. The shares are offered continuously. The minimum initial
purchase is $2,500. No arrangements have been made to place the funds
in an escrow, trust, or similar arrangement. As of November 30, 2000,
net asset value per share of the Fund's Class Z shares was $12.03.
(2) Assumes the sale of all shares registered hereby.
Periodic Repurchase Offers. To provide liquidity to shareholders, the Fund will
make quarterly repurchase offers for 5% to 25% of its outstanding shares. For
each Repurchase Offer, it is anticipated that each Repurchase Request Deadline
will be on the 15th day in each of the months of February, May, August and
November, or if the 15th day is not a business day, the next business day. It is
anticipated that normally the Repurchase Pricing Date will be the same date as
the Repurchase Request Deadline, and if so, the Repurchase Request Deadline will
be set for a time no later than the close of the NYSE on such date. The Fund has
determined that the Repurchase Pricing Date may occur no later than the 14th day
after the Repurchase Request Deadline, or the next business day if the 14th day
is not a business day. The Fund will repay a Repurchase Offer no later than
seven days after the Repurchase Pricing Date. The first Repurchase Offer will be
May 15, 2000. (See "Periodic Repurchase Offers.")
Not Exchange Listed. The Fund does not intend to list the shares on any national
securities exchange. SHARES OF THE FUND HAVE NO HISTORY OF PUBLIC TRADING AND
THERE IS NOT EXPECTED TO BE ANY SECONDARY TRADING MARKET IN THE SHARES. An
investment in the shares should be considered illiquid. (See "Principal Risks.")
INVESTMENT IN THE FUND INVOLVES RISKS, INCLUDING THE POSSIBLE LOSS OF SOME OR
ALL OF THE PRINCIPAL INVESTMENT, RISKS ASSOCIATED WITH LEVERAGE AND RISKS
ASSOCIATED WITH SECURITIES RATED BELOW INVESTMENT GRADE (OFTEN REFERRED TO AS
"JUNK BONDS"). (SEE "PRINCIPAL RISKS.")
The Prospectus sets forth concisely the information that a prospective investor
should know before investing in shares of the Fund. Please read and retain this
Prospectus for future reference. A Statement of Additional Information regarding
the Fund dated January 1, 2001, has
<PAGE>
been filed with the Securities and Exchange Commission ("SEC") and can be
obtained without charge by calling 800-426-3750. A table of contents to the
Statement of Additional Information is located on the last page of this
Prospectus. This Prospectus incorporates by reference the entire Statement of
Additional Information (together with any supplement to it). The Statement of
Additional Information and other related materials are available at the SEC's
internet web site (http://www.sec.gov).
The Fund's investment advisor is Stein Roe & Farnham Incorporated (Stein Roe).
The address of the Fund is One Financial Center, Boston, Massachusetts 02111.
This prospectus applies to the offering of shares of beneficial interest of the
Fund, which may be continuously issued and sold from time to time by the Fund
through Liberty Funds Distributor, Inc., as distributor and principal
underwriter, and through your financial advisor. Only eligible investors may
purchase Class Z shares. See "How to Buy Shares." The Fund is authorized as a
business trust to issue an unlimited number of common shares and has registered
1,123,000 common shares for its Class Z shares.
THE FUND HAS RECEIVED EXEMPTIVE RELIEF FROM THE SEC WITH RESPECT TO THE FUND'S
DISTRIBUTION FEE ARRANGEMENTS, EWCS AND MULTI-CLASS STRUCTURE. AS A CONDITION OF
SUCH RELIEF, THE FUND WILL BE REQUIRED TO COMPLY WITH REGULATIONS THAT WOULD NOT
OTHERWISE BE APPLICABLE TO THE FUND.
SHARES OF THE FUND ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR ENDORSED
BY, ANY BANK OR OTHER INSURED DEPOSITORY INSTITUTION, AND ARE NOT FEDERALLY
INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION, THE FEDERAL RESERVE BOARD
OR ANY OTHER GOVERNMENT AGENCY.
3
<PAGE>
PROSPECTUS SUMMARY
This is only a summary. You should review the more detailed information
contained in this prospectus and in the Statement of Additional Information.
THE FUND. The Fund is a continuously-offered non-diversified, closed-end
management investment company, organized as a Massachusetts business trust.
Prior to July 14, 2000, the Fund was known as Liberty-Stein Roe Advisor
Floating Rate Advantage Fund.
The Fund intends to offer its shares continuously through the Distributor,
as principal underwriter, and through financial advisors at a price equal
to the next determined net asset value per share. The minimum initial
investment is $2,500 ($25 for individual retirement accounts) and the
minimum subsequent investment is $50. The Fund reserves the right to change
the investment minimums and to refuse a purchase order for any reason.
INVESTMENT OBJECTIVE. The investment objective of the Fund is to provide a high
level of current income, consistent with preservation of capital. There can
be no assurance that the Fund will achieve its investment objective.
The Fund seeks to achieve its objective by investing primarily (at least
80% of its total assets) in a portfolio of Senior Loans to corporations,
partnerships and other entities (Borrowers) that operate in a variety of
industries and geographic regions (including domestic and foreign
entities).
INVESTMENT POLICIES. Under normal market conditions, at least 80% of the Fund's
total assets will be invested in Senior Loans of domestic Borrowers or
foreign Borrowers (so long as Senior Loans to such foreign Borrowers are
U.S. dollar denominated and payments of interest and repayments of
principal pursuant to such Senior Loans are required to be made in U.S.
dollars). Although most Senior Loans are secured, the Fund may invest up to
20% of its total assets in interests in Senior Loans that are not secured
by any collateral. During normal market conditions, the Fund may invest up
to 20% of its total assets (including assets maintained by the Fund as a
reserve against any additional loan commitments) in (i) high quality,
short-term debt securities with remaining maturities of one year or less
and (ii) warrants, equity securities and, in limited circumstances, junior
debt securities acquired in connection with the Fund's investments in
Senior Loans.
A maximum of 25% of the Fund's total assets (taken at current value) may be
invested in Senior Loans to Borrowers and securities of other issuers in
any one industry. However, the Fund may invest more than 25% of its total
assets in securities the issuer of which is engaged in the financial
services industry, which includes commercial banks, thrift institutions,
insurance companies and finance companies. The Fund invests at these levels
because it regards the issuers of Senior Loans in which the Fund may invest
to include the Borrower as well as any Agent that administers the Senior
Loans. Accordingly, the Fund may be more at risk to any single economic,
political or regulatory occurrence affecting such industries.
The Fund may borrow money in an amount up to 33 1/3% of the Fund's total
assets (after giving effect to the amount borrowed). The Fund may borrow
for the purpose of financing long-term investments, obtaining short-term
liquidity and for temporary,
4
<PAGE>
extraordinary or emergency purposes. To the extent the Fund borrows more
money than it has cash or short-term cash equivalents and invests the
proceeds in Senior Loans, the Fund will create financial leverage. It will
do so only when it expects to be able to invest the proceeds at a higher
rate of return than its cost of borrowing.
HOW THE FUND INVESTS. Senior Loans generally are arranged through private
negotiations between a Borrower and several financial institutions
(Lenders) represented in each case by one or more such Lenders acting as
agent (Agent) of the several Lenders. On behalf of the several Lenders, the
Agent is primarily responsible for negotiating the loan agreement (Loan
Agreement) that establishes the relative terms and conditions of the Senior
Loan and rights of the Borrower and the several Lenders. The Fund may
invest all or substantially all of its assets in Senior Loans that are
rated below investment grade, or in comparable unrated securities. Senior
Loans in which the Fund will purchase interests generally pay interest at
rates that are periodically redetermined by reference to a base lending
rate plus a premium. The Fund may invest in participations (Participations)
in Senior Loans, may purchase assignments (Assignments) of portions of
Senior Loans from third parties, and may act as one of the group of Lenders
originating a Senior Loan (Primary Lender).
Stein Roe expects the Fund's policy of acquiring interests in floating or
variable rate Senior Loans to minimize the fluctuations in net asset value
as a result of changes in interest rates. However, the Fund is not a money
market fund and its net asset value will fluctuate.
PRINCIPAL RISKS. You should consider the following risk considerations before
investing in the Fund. As described below, the risks could cause you to
lose money as a result of investing in the Fund.
Non-Payment Risk. Senior Loans, like other corporate debt obligations, are
subject to the risk of non-payment of scheduled interest or principal. Such
non-payment would result in a reduction of income to the Fund, a reduction
in the value of the Senior Loan experiencing non-payment, and a potential
decrease in the net asset value of the Fund.
Below Investment Grade Securities. The Fund may invest all or substantially
all of its assets in Senior Loans or other securities that are rated below
investment grade, or in comparable unrated securities. These securities are
commonly referred to as high-yield debt or "junk debt." The purchase of
such Senior Loans exposes the Fund to financial, market, and interest-rate
risks and greater credit risks than would the purchase of higher-rated
Senior Loans. Such investments are also likely to result in increased
fluctuation in the Fund's net asset value, particularly in response to
economic downturns.
Restrictions on Resale of Senior Loans. Senior Loans, at present, generally
are not readily marketable and may be subject to restrictions on resale. As
a result, the ability of the Fund to dispose of its investments in a timely
fashion and at a fair price may be restricted.
Borrowing. The Fund is authorized to borrow money in an amount up to
33 1/3% of the Fund's total assets (after giving effect to the amount
borrowed). The use of leverage for investment purposes creates
opportunities for greater total returns but at the same time involves
risks. Any investment income or gains earned with respect to the amounts
5
<PAGE>
borrowed, which is in excess of the interest which is due on the borrowing,
will augment the Fund's income. Conversely, if the investment performance
with respect to the amounts borrowed fails to cover the interest on such
borrowings, the value of the Fund's shares may decrease more quickly than
would otherwise be the case and dividends on the shares would be reduced or
eliminated. Interest payments and fees incurred in connection with such
borrowings will reduce the amount of net income available for payment to
the holders of Shares.
Repurchase Offer Risks. The Fund, as a fundamental policy, will make
quarterly repurchases for 5% to 25% of shares outstanding at net asset
value. (See "Periodic Repurchase Offers" below for more information.)
However, shares are less liquid than shares of funds that trade on a stock
exchange, and Class B and Class C shareholders who offer for repurchase
shares held for less than five years and one year, respectively, will pay
an EWC. (See "How to Buy Shares.") Under limited circumstances, the Fund
may suspend or postpone a quarterly repurchase offer -- the Fund must meet
regulatory requirements to do so. There is no guarantee that shareholders
will be able to sell all of their shares that they desire to sell in a
quarterly repurchase offer.
Closed-End Fund Risks. The Fund is a closed-end investment company designed
primarily for long-term investors and not as a trading vehicle. The Fund
does not intend to list its shares for trading on any national securities
exchange. There is not expected to be any secondary trading market in the
shares and the shares should be considered illiquid. The shares are,
therefore, not readily marketable. The shares of closed-end investment
companies often trade at a discount from their net asset values and, in the
unlikely event that a secondary market for the shares were to develop, the
shares likewise may trade at a discount from net asset value.
Legislation; Restrictions. To the extent that legislation or state or
federal regulators impose additional requirements or restrictions with
respect to the ability of financial institutions to make loans in
connection with highly leveraged transactions, the availability of Senior
Loan interests for investment by the Fund may be adversely affected.
Financial Services Industry Concentration. The financial services
industries are subject to extensive government regulation which can limit
both the amounts and types of loans and other financial commitments they
can make, and the interest rates and fees they can charge. Profitability is
largely dependent on the availability and cost of capital funds, and can
fluctuate significantly when interest rates change. Credit losses resulting
from financial difficulties of borrowers can negatively affect the
financial services industries. The financial services industries are
currently undergoing relatively rapid change as existing distinctions
between financial service segments become less clear.
Prepayment Risk. Borrowers may pay back principal before the scheduled due
date. Borrowers may find it advantageous to prepay principal due to a
decline in interest rates or an excess in cash flow. Such prepayments may
require the Fund to replace a Senior Loan with a lower-yielding security.
This may adversely affect the net asset value of the Fund's shares.
6
<PAGE>
Limited Information. The types of Senior Loans in which the Fund will
invest historically have not been rated by a nationally recognized
statistical rating organization, have not been registered with the SEC or
any state securities commission, and have not been listed on any national
securities exchange. Although the Fund will generally have access to
financial and other information made available to the Lenders in connection
with Senior Loans, the amount of public information available with respect
to Senior Loans will generally be less extensive than that available for
rated, registered or exchange listed securities. As a result, the Fund is
more dependent on the analytical ability of Stein Roe.
Non-Diversification Risk. The Fund is not subject to the general
limitations under the Investment Company Act of 1940 (1940 Act) that, for
75% of its total assets, it not invest more than 5% of its total assets in
the securities of a single issuer. To the extent the Fund invests a
relatively high percentage of its assets in obligations of a limited number
of Borrowers, it will be more susceptible than a more widely diversified
investment company to the consequences of any single corporate, economic,
political or regulatory occurrence.
DISTRIBUTIONS. Income dividends are normally declared each business day, paid
monthly, and confirmed at least quarterly. Capital gains, if any, are
distributed at least annually, usually in December. Income dividends and
capital gains distributions may be received in cash or reinvested in
additional full and fractional shares of the Fund.
INVESTMENT ADVISOR. Stein Roe & Farnham Incorporated.
DISTRIBUTOR. Liberty Funds Distributor, Inc.
PERIODIC REPURCHASE OFFERS. The Fund has adopted a fundamental policy to offer
each calendar quarter to repurchase a specified percentage (between 5% and
25%) of the shares then outstanding at its net asset value. Such repurchase
offers are referred to as a Repurchase Offer. Repurchase Offers are
scheduled to occur on the 15th day (or the next business day if the 15th is
not a business day) in the months of February, May, August, and November.
(See "Periodic Repurchase Offers.")
7
<PAGE>
FUND EXPENSES
The following tables are intended to assist investors in understanding the
various costs and expenses directly or indirectly associated with investing in
Class Z shares of the Fund.
<TABLE>
<S> <C>
SHAREHOLDER TRANSACTION EXPENSES (1)
Sales Load Imposed (as a percentage of offering price) None
Sales Load Imposed on Reinvested Dividends................... None
Early Withdrawal Charge...................................... None
Exchange Fee................................................. None
ANNUAL EXPENSES (as a percentage of average net assets
attributable to common shares) (2)
Management Fees(%) (3)....................................... 0.97
Distribution and Service Fees(%) ............................ 0.00
Interest Payments on Borrowed Funds(%)....................... 3.30
Other Expenses(%)(4)......................................... 1.24
----
Total Annual Expenses(%)(4).................................. 5.51
====
</TABLE>
(1) Financial advisors may independently charge additional fees for shareholder
transactions or for advisory services. Please see their materials for
details.
(2) Figures assume the Fund borrows an amount representing 33 1/3% of the
Fund's total assets (including the proceeds of such borrowing but not
reflecting the amount of the liability of the borrowing). If the Fund does
not utilize any leverage, the Fund estimates that annual operating expenses
would be approximately as follows:
<TABLE>
<S> <C>
Management Fees(%) 0.65
Distribution and Service Fees(%) 0.00
Interest Payments on Borrowed Funds(%) 0.00
Other Expenses(%)(4) 1.24
----
Total Annual Expenses(%)(4) 1.89
====
</TABLE>
(3) Management fees include both the management fee and the administrative fee
charged to the Fund. Without leverage, Stein Roe receives an annual
management fee of 0.45% from the Fund and Colonial Management Associates,
Inc. (Colonial) receives an administrative fee of 0.20% from the Fund. With
leverage, Stein Roe receives a management fee of 0.68% and Colonial
receives an administration fee of 0.29%.
(4) Stein Roe has voluntarily agreed to reimburse the Fund for its ordinary
operating expenses to the extent that such expenses exceed 0.15% (exclusive
of management fees, administrative fees, distribution and service fees and
interest expenses). After such reimbursement, Other Expenses would be 0.15%
and Total Annual Expenses, with and without leverage, would be 4.42% and
0.80%, respectively. This arrangement may be modified or terminated by the
Advisor at anytime.
EXAMPLE. This Example helps you compare the cost of investing in the Fund to the
cost of investing in other mutual funds. The Example assumes that (i) you invest
$1,000 in the Fund, (ii) your investment has a 5% return each year, (iii)
operating expenses remain the same, (iv) all income dividends and capital gains
distributions are reinvested in additional shares, and (v) expense reductions
are in effect for the first year in the periods below. The Example should not be
considered a representation of future expenses. Your actual costs may be higher
or lower.
<TABLE>
<CAPTION>
Class* 1 year 3 years 5 years 10 years
----- ------ ------- ------- --------
<S> <C> <C> <C> <C>
Class Z $549 $1,639 $2,718 $5,368
</TABLE>
---------
*The table assumes leverage representing 33 1/3% of total assets. In
the event that the Fund does not utilize any leverage an investor would
pay the following expenses based on the assumptions in the example:
<TABLE>
<CAPTION>
Class 1 year 3 years 5 years 10 years
----- ------ ------- ------- --------
<S> <C> <C> <C> <C>
Class Z $192 $594 $1,021 $2,212
</TABLE>
8
<PAGE>
FINANCIAL HIGHLIGHTS
The financial highlights table explains the Fund's financial performance for
Class Z shares. The Fund's fiscal year runs from September 1 to August 31. The
total returns in the table represent the return that investors earned assuming
that they reinvested all dividends and distributions. Certain information in the
table reflects the financial results for a single Fund share. This information
has been derived from the Fund's financial statements which have been audited by
PricewaterhouseCoopers LLP, independent accountants, whose report, along with
this information appears in the Fund's annual report. To request the Fund's
annual report, please call 800-422-3737.
PER SHARE DATA
<TABLE>
<CAPTION>
PERIOD ENDED
AUGUST 31,
2000(b)
CLASS Z
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
<S> <C>
NET ASSET VALUE, BEGINNING OF PERIOD ($) 12.000
INCOME FROM INVESTMENT OPERATIONS
Net investment income (a) 0.667
Net realized and unrealized gain 0.056
Total from investment operations 0.723
DISTRIBUTIONS
Net investment income (0.643)
--------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD ($) 12.080
--------------------------------------------------------------------------------
TOTAL RETURN (%) (c) (d) (e) 6.11
RATIOS/SUPPLEMENTAL DATA
Net assets, end of period ($) (000's) 2,656
Operating expenses(%)(f)(g) 0.66
Interest and commitment fees expenses(%)(g) 1.91
Total expenses(%)(f)(g) 2.57
Net investment income(%)(f)(g) 9.84
Fees and expenses waived or borne by the Advisor(%)(f)(g) 1.41
Portfolio turnover(%)(e) 8
(a) Net of fees and expenses waived or borne by the
Advisor/Administrator which amounted to ($): 0.046
</TABLE>
(b) The Fund commenced investment operations on January 13, 2000.
(c) Total return at net asset value assuming all distributions reinvested and
no initial sales charge or early withdrawal sales charge.
(d) Had the Advisor not waived or reimbursed a portion of expenses, total
return would have been reduced.
(e) Not annualized.
(f) The benefits derived from custody credits and directed brokerage
arrangements had no impact.
(g) Annualized.
9
<PAGE>
THE FUND
The Fund is a non-diversified, closed-end management investment company
organized as a Massachusetts business trust on June 8, 1999. The Fund is engaged
in a continuous public offering of shares at the next determined net asset value
per share. The Fund's principal office is located at One Financial Center,
Boston, Massachusetts 02111 and its telephone number is 1-800-345-6611.
USE OF PROCEEDS
The net proceeds from the sale of the shares offered hereby will be invested
typically within 30 days after receipt, in accordance with the Fund's investment
objective and policies. The Fund's actual investment timetable will depend on
the availability of Senior Loans and other market conditions. Pending investment
by the Fund, the proceeds may be invested in high quality, short-term
securities, and the Fund may not achieve its objective during this time.
INVESTMENT OBJECTIVE AND POLICIES
INVESTMENT OBJECTIVE. The Fund's investment objective is to provide a high level
of current income, consistent with preservation of capital. The Fund's
investment objective is a non-fundamental policy, which means that the Board of
Trustees can change it without shareholder approval.
The Fund seeks to achieve its objective through investment primarily (at least
80% of its total assets) in a professionally managed portfolio of interests in
Senior Loans to Borrowers that operate in a variety of industries and geographic
regions (including domestic and foreign entities). Although the Fund's net asset
value per share will vary, the Fund's policy of acquiring interests in floating
or variable rate Senior Loans is expected to minimize the fluctuations in the
Fund's net asset value per share as a result of changes in interest rates. The
Fund's net asset value may be affected by various factors, including changes in
the credit quality of Borrowers with respect to Senior Loan interests in which
the Fund invests.
An investment in the Fund may not be appropriate for all investors and is not
intended to be a complete investment program. No assurance can be given that the
Fund will achieve its investment objective. The Fund is appropriate for
investors seeking a high level of current income consistent with capital
preservation.
POLICIES. Under normal market conditions, the Fund will invest at least 80% of
its total assets (either as a Primary Lender or as a purchaser of an Assignment
or Participation) in Senior Loans of domestic Borrowers or foreign Borrowers (so
long as Senior Loans to such foreign Borrowers are U.S. dollar denominated and
payments of interest and repayments of principal pursuant to such Senior Loans
are required to be made in U.S. dollars). Although most Senior Loans are
collateralized, the Fund may invest up to 20% of its total assets (valued at
time of investment) in Senior Loans that are not secured by any collateral.
During normal market conditions, the Fund may invest up to 20% of its total
assets (including assets maintained by the Fund as a reserve against any
additional loan commitments) in (i) high quality, short-term debt securities
with remaining maturities of one year or less and (ii) warrants, equity
securities and junior debt securities acquired in connection with the Fund's
investments in Senior Loans. Such high quality, short-term securities may
include commercial paper rated at
10
<PAGE>
least Baa, P-3 or higher by Moody's Investors Service, Inc. (Moody's) or BBB,
A-3 or higher by Standard & Poor's (S&P) (or if unrated, determined by Stein Roe
to be of comparable quality), interests in short-term loans and short-term loan
participations of Borrowers having short-term debt obligations rated or a
short-term credit rating at least in such rating categories (or having no such
rating, determined by Stein Roe to be of comparable quality), certificates of
deposit and bankers' acceptances and securities issued or guaranteed by the U.S.
government, its agencies or instrumentalities. Such high quality, short-term
securities may pay interest at rates that are periodically redetermined or may
pay interest at fixed rates.
HOW THE FUND INVESTS
SENIOR LOANS. Senior Loans generally are arranged through private negotiations
between a Borrower and Lenders represented in each case by one or more Agents of
the several Lenders. On behalf of the several Lenders, the Agent, which is
frequently a commercial bank or other entity that originates the Senior Loan and
the person that invites other parties to join the lending syndicate, will be
primarily responsible for negotiating the Loan Agreement that establishes the
relative terms, conditions and rights of the Borrower and the several Lenders.
In larger transactions it is common to have several Agents; however, generally
only one such Agent has primary responsibility for documentation and
administration of a Senior Loan.
In a typical Senior Loan, the Agent administers the terms of the Loan Agreement
and is responsible for the collection of principal and interest and fee payments
from the Borrower and the apportionment of those payments to the credit of all
Lenders that are parties to the Loan Agreement. The Fund generally will rely on
the Agent to collect its portion of the payments on a Senior Loan. Furthermore,
the Fund will rely on the Agent to use appropriate creditor remedies against the
Borrower. Typically, under a Loan Agreement, the Agent is given broad discretion
in monitoring the Borrower's performance under the Loan Agreement and is
obligated to use only the same care it would use in the management of its own
property. Upon an event of default, the Agent typically will act to enforce the
Loan Agreement after instruction from Lenders holding a majority of the Senior
Loan. The Borrower compensates the Agent for the Agent's services. This
compensation may include special fees paid on structuring and funding the Senior
Loan and other fees paid on a continuing basis. The typical practice of an Agent
in relying exclusively or primarily on reports from the Borrower may involve a
risk of fraud by the Borrower.
It is anticipated that the proceeds of the Senior Loans in which the Fund will
acquire interests primarily will be used to finance leveraged buyouts,
recapitalizations, mergers, acquisitions, stock repurchases, and, to a lesser
extent, to finance internal growth and for other corporate purposes of
Borrowers. Senior Loans have the most senior position in a Borrower's capital
structure, although some Senior Loans may hold an equal ranking with other
senior securities and other obligations of the Borrower. The capital structure
of a Borrower may include Senior Loans, senior and junior subordinated debt
(which may include "junk bonds"), preferred stock and common stock issued by the
Borrower, typically in descending order of seniority with respect to claims on
the Borrower's assets. Senior and junior subordinated debt is collectively
referred to in this Prospectus as "junior debt securities." Senior Loans
generally are secured by specific collateral, which may include guarantees from
affiliates of the Borrower.
To the extent that the Fund invests a portion of its assets in Senior Loans that
are not secured by specific collateral, the Fund will not enjoy the benefits
associated with collateralization with respect to such Senior Loans and such
Senior Loans may pose a greater risk of nonpayment of interest or loss of
principal than do collateralized Senior Loans. As discussed below, the Fund
11
<PAGE>
may also acquire warrants, equity securities and junior debt securities issued
by the Borrower or its affiliates as part of a package of investments in the
Borrower or its affiliates. Warrants, equity securities, and junior debt
securities will not be treated as Senior Loans and thus assets invested in such
securities will not count toward the 80% of the Fund's total assets that
normally will be invested in Senior Loans. The Fund may acquire interests in
warrants, other equity securities or junior debt securities through a negotiated
restructuring of a Senior Loan or in a bankruptcy proceeding of the Borrower.
In order to borrow money pursuant to a collateralized Senior Loan, a Borrower
will typically, for the term of the Senior Loan, pledge as collateral assets,
including but not limited to, accounts receivable, inventory, buildings, other
real estate, trademarks, franchises and common and preferred stock in its
subsidiaries. In addition, in the case of some Senior Loans, there may be
additional collateral pledged in the form of guarantees by and/or securities of
affiliates of the Borrowers. In instances, a collateralized Senior Loan may be
secured only by stock in the Borrower or its subsidiaries. Collateral may
consist of assets that are not readily liquidated, and there is no assurance
that the liquidation of such assets would satisfy fully a Borrower's obligations
under a Senior Loan. Similarly, in the event of bankruptcy proceedings involving
the Borrower, the Lenders may be delayed or prevented from liquidating
collateral or may choose not to do so as part of their participation in a plan
of reorganization of the Borrower.
Loan Agreements may also include various restrictive covenants designed to limit
the activities of the Borrower in an effort to protect the right of the Lenders
to receive timely payments of interest on and repayment of principal of the
Senior Loans. Restrictive covenants may include mandatory prepayment provisions
related to excess cash flows and typically include restrictions on dividend
payments, specific mandatory minimum financial ratios, limits on total debt and
other financial tests. Breach of such a covenant, if not waived by the Lenders,
is generally an event of default under the applicable Loan Agreement and may
give the Lenders the right to accelerate principal and interest payments. Stein
Roe will consider the terms of restrictive covenants in deciding whether to
invest in Senior Loans for the Fund's investment portfolio. When the Fund holds
a Participation in a Senior Loan, it may not have the right to vote to waive
enforcement of a restrictive covenant breached by a Borrower. Lenders voting in
connection with a potential waiver of a restrictive covenant may have interests
different from those of the Fund and such Lenders will not consider the
interests of the Fund in connection with their votes.
Senior Loans in which the Fund will invest generally pay interest at rates that
are periodically redetermined by reference to a base lending rate plus a
premium. These base lending rates generally are the prime or base lending (Prime
Rate) rate offered by one or more major United States banks or other standard
lending rates used by commercial lenders, such as the London Inter-Bank Offered
Rate (LIBOR) or the certificate of deposit (CD) rate. LIBOR, as provided for in
Loan Agreements, is an average of the interest rates quoted by several
designated banks as the rates at which such banks would offer to pay interest to
major financial institutional depositors in the London interbank market on U.S.
dollar denominated deposits for a specified period of time. The CD rate, as
generally provided for in Loan Agreements, is the average rate paid on large
certificates of deposit traded in the secondary market. Senior Loans
traditionally have been structured so that Borrowers pay higher premiums when
they elect LIBOR, in order to permit Lenders to obtain generally consistent
yields on Senior Loans, regardless of whether Borrowers select the LIBOR option,
or the Prime Rate option. In recent years, however, the differential between the
lower LIBOR base rates and the higher Prime Rate base rates prevailing in the
commercial bank markets has widened to the point where the higher margins paid
by Borrowers for LIBOR pricing options do not currently outweigh the
differential between the
12
<PAGE>
Prime Rate and the LIBOR rate. Consequently, Borrowers have increasingly
selected the LIBOR-based pricing option, resulting in a yield on Senior Loans
that is consistently lower than the yield available from the Prime Rate-based
pricing option. This trend will significantly limit the ability of the Fund to
achieve a net return to shareholders that consistently approximates the average
published Prime Rate of leading U.S. banks.
PRIMARY LENDER TRANSACTIONS, ASSIGNMENTS, AND PARTICIPATIONS. The Fund may
invest in Participations in Senior Loans, may purchase Assignments of portions
of Senior Loans from third parties and may act as one of the group of Primary
Lenders.
The Fund may invest up to 100% of its assets in Participations. The selling
Lenders and other persons interpositioned between such Lenders and the Fund with
respect to Participations will likely conduct their principal business
activities in the banking, finance and financial services industries. Although,
as discussed below, the Fund has taken measures that it believes significantly
reduce its exposure to risks associated with Participations, the Fund may be
more susceptible than an investment company that does not invest in
Participations in Senior Loans to any single economic, political or regulatory
occurrence affecting these industries. Persons engaged in these industries may
be more susceptible than are persons engaged in some other industries to, among
other things, fluctuations in interest rates, changes in the Federal Open Market
Committee's monetary policy, governmental regulations concerning such industries
and concerning capital raising activities generally and fluctuations in the
financial markets generally.
Participation by the Fund in a Lender's portion of a Senior Loan typically will
result in the Fund having a contractual relationship only with such Lender, not
with the Borrower. As a result, the Fund may have the right to receive payments
of principal, interest and any fees to which it is entitled only from the Lender
selling the Participation and only upon receipt by the Lender of payments from
the Borrower. In connection with purchasing Participations, the Fund generally
will have no right to enforce compliance by the Borrower with the terms of the
Loan Agreement, nor any rights with respect to any funds acquired by other
Lenders through set-off against the Borrower, and the Fund may not directly
benefit from the collateral supporting the Senior Loan in which it has purchased
the Participation. As a result, the Fund may assume the credit risk of both the
Borrower and the Lender selling the Participation. In the event of the
insolvency of the Lender selling a Participation, the Fund may be treated as a
general creditor of the Lender, and may not benefit from any set-off between the
Lender and the Borrower. In an effort to minimize such risks, the Fund will only
acquire Participations if the Lender selling the Participation, and any other
institution interpositioned between the Fund and the Lender, (i) at the time of
investment has outstanding debt or deposit obligations rated investment grade
(BBB or A-3 or higher by S&P or Baa or P-3 or higher by Moody's) or, if unrated,
determined by Stein Roe to be of comparable quality and (ii) has entered into an
agreement that provides for the holding of payments on the Senior Loan for the
benefit of, or the prompt disbursement of payments to, the Fund. Long-term debt
rated BBB by S&P is regarded by S&P as having adequate capacity to pay interest
and repay principal and debt rated Baa by Moody's is regarded by Moody's as a
medium grade obligation; i.e., it is neither highly protected nor poorly
secured. The Fund ordinarily will purchase a Participation only if, at the time
of the purchase, the Fund believes that the party from whom it is purchasing the
Participation is retaining an interest in the underlying Senior Loan. In the
event that the Fund does not so believe, it will only purchase a Participation
if, in addition to the requirements set forth above, the party from whom the
Fund is purchasing such Participation (i) is a bank, a member of a national
securities exchange or other entity designated in the 1940 Act as qualified to
serve as a custodian for a registered investment company and (ii) has been
approved as a custodian by the Board of the Fund.
13
<PAGE>
The Fund may also purchase Assignments from Lenders. The purchaser of an
Assignment typically succeeds to all the rights and obligations under the Loan
Agreement of the assigning Lender and becomes a Lender under the Loan Agreement
with the same rights and obligations as the assigning Lender.
When the Fund is a Primary Lender, it will have a direct contractual
relationship with the Borrower, may enforce compliance by the Borrower with the
terms of the Loan Agreement and may under contractual arrangements among the
Lenders have rights with respect to any funds acquired by other Lenders through
set-off. A Lender also has full voting and consent rights under the applicable
Loan Agreement. Action subject to Lender vote or consent generally requires the
vote or consent of the holders of a majority or some greater specified
percentage of the outstanding principal amount of the Senior Loan. Certain
decisions, such as reducing the amount or increasing the time for payment of
interest on or repayment of principal of a Senior Loan, or releasing collateral
therefor, frequently require the unanimous vote or consent of all Lenders
affected. When the Fund is a Primary Lender originating a Senior Loan it may
share in a fee paid by the Borrower to the Primary Lenders. The Fund will never
act as the Agent, Originator, or principal negotiator or administrator of a
Senior Loan.
The Fund will purchase an Assignment or act as a Lender with respect to a
syndicated Senior Loan only where the Agent with respect to the Senior Loan at
the time of investment has outstanding debt or deposit obligations rated
investment grade (BBB or A-3 or higher by S&P or Baa or P-3 or higher by
Moody's) or determined by Stein Roe to be of comparable quality.
Loan Agreements typically provide for the termination of the Agent's agency
status in the event that it fails to act as required under the relevant Loan
Agreement, becomes insolvent, enters FDIC receivership, or if not FDIC insured,
enters into bankruptcy. Should an Agent, Lender or any other institution with
respect to an Assignment interpositioned between the Fund and the Borrower
become insolvent or enter FDIC receivership or bankruptcy, any interest in the
Senior Loan of any such interpositioned institution and any loan payment held by
any such interpositioned institution for the benefit of the Fund should not be
included in the estate of such interpositioned institution. If, however, any
such amount were included in such interpositioned institution's estate, the Fund
would incur costs and delays in realizing payment or could suffer a loss of
principal or interest. In such event, the Fund could experience a decrease in
net asset value.
PORTFOLIO MATURITY. The Fund is not subject to any restrictions with respect to
the maturity of Senior Loans held in its portfolio. It is currently anticipated
that the Fund's assets invested in Senior Loans will consist of Senior Loans
with stated maturities of between three and ten years, inclusive, and with rates
of interest that are redetermined either daily, monthly, quarterly, semiannually
or annually. Investment in Senior Loans with longer interest rate
redetermination periods may increase fluctuations in the Fund's net asset value
as a result of changes in interest rates. The Senior Loans in the Fund's
investment portfolio will at all times have a dollar-weighted average days to
reset until the next interest rate redetermination of 90 days or less. As a
result, as short-term interest rates increase, interest payable to the Fund from
its investments in Senior Loans should increase, and as short-term interest
rates decrease, interest payable to the Fund from its investments in Senior
Loans should decrease. The amount of time required to pass before the Fund will
realize the effects of changing short-term market interest rates on its
portfolio will vary with the dollar-weighted average time until the next
interest rate redetermination on the Senior Loans in the investment portfolio.
The Fund may utilize the investment practices described in this prospectus to,
among other things, shorten the effective
14
<PAGE>
interest rate redetermination period of Senior Loans in its portfolio. In such
event, the Fund will consider such shortened period to be the interest rate
redetermination period of the Senior Loan; provided, however, that the Fund will
not invest in Senior Loans that permit the Borrower to select an interest rate
redetermination period in excess of one year. Because most Senior Loans in the
investment portfolio will be subject to mandatory and/or optional prepayment and
there may be significant economic incentives for a Borrower to prepay its loans,
prepayments of Senior Loans in the Fund's investment portfolio may occur.
Accordingly, the economic maturity of the Fund's investment portfolio invested
in Senior Loans may vary substantially from the average stated maturity of the
Senior Loans held in the Fund's investment portfolio. As a result of anticipated
prepayments from time to time of Senior Loans in the investment portfolio, based
on historical experience, Stein Roe believes that the economic maturity of the
Senior Loans held in its portfolio will be approximately 18-24 months.
NET ASSET VALUE FLUCTUATION. When prevailing interest rates decline, the value
of a portfolio invested in fixed-rate obligations can be expected to rise.
Conversely, when prevailing interest rates rise, the value of a portfolio
invested in fixed-rate obligations can be expected to decline. Although the
Fund's net asset value will vary, Stein Roe expects the Fund's policy of
acquiring interests in floating or variable rate Senior Loans to minimize
fluctuations in net asset value as a result of changes in interest rates.
Accordingly, Stein Roe expects the value of the investment portfolio to
fluctuate significantly less than a portfolio of fixed-rate, longer term
obligations as a result of interest rate changes. However, changes in prevailing
interest rates can be expected to cause some fluctuation in the Fund's net asset
value. In addition to changes in interest rates, various factors, including
defaults by or changes in the credit quality of Borrowers, will also affect the
Fund's net asset value. A default or serious deterioration in the credit quality
of a Borrower could cause a prolonged or permanent decrease in the Fund's net
asset value.
DEBT RESTRUCTURING. The Fund may purchase and retain in its portfolio an
interest in a Senior Loan to a Borrower that has filed for protection under the
federal bankruptcy laws or has had an involuntary bankruptcy petition filed
against it by its creditors. Stein Roe's decision to purchase or retain such an
interest will depend on its assessment of the suitability of such investment for
the Fund, the Borrower's ability to meet debt service on Senior Loan interests,
the likely duration, if any, of a lapse in the scheduled repayment of principal,
and prevailing interest rates. At times, in connection with the restructuring of
a Senior Loan either outside of bankruptcy court or in the context of bankruptcy
court proceedings, the Fund may determine or be required to accept equity
securities or junior debt securities in exchange for all or a portion of a
Senior Loan interest. Depending upon, among other things, Stein Roe's evaluation
of the potential value of such securities in relation to the price that could be
obtained by the Fund at any given time upon sale thereof, the Fund may determine
to hold such securities in its portfolio. Any equity security or junior debt
security held by the Fund will not be treated as a Senior Loan and thus will not
count toward the 80% of assets that normally will be invested in Senior Loans.
BORROWER CREDIT RATINGS. Senior Loans historically have not been rated by
nationally recognized statistical rating organizations, such as S&P or Moody's.
Because of the senior capital structure position of Senior Loans and the
collateralized or guaranteed nature of most Senior Loans, the Fund and Stein Roe
believe that ratings of other securities issued by a Borrower do not necessarily
reflect adequately the relative quality of a Borrower's Senior Loans. Therefore,
although Stein Roe may consider such ratings in determining whether to invest in
a particular Senior Loan, Stein Roe is not required to consider ratings and
ratings will not be the determinative factor in Stein Roe's analysis. To the
extent that Senior Loans are rated, the Fund may invest in the lowest rated
loans, but does not intend to invest more than 5% of its assets in
15
<PAGE>
Senior Loans rated below B- or B3 by S&P or Moody's. The Fund may invest a
substantial portion of its assets in Senior Loans to Borrowers having
outstanding debt securities rated below investment grade by a nationally
recognized statistical rating organization (or unrated but of comparable quality
to such securities). Debt securities rated below investment grade (or unrated
but of comparable quality) commonly are referred to as "junk bonds." The Fund
will invest only in those Senior Loans with respect to which the Borrower, in
the judgment of Stein Roe, demonstrates one or more of the following
characteristics: sufficient cash flow to service debt; adequate liquidity;
successful operating history; strong competitive position; experienced
management; and, with respect to collateralized Senior Loans, collateral
coverage that equals or exceeds the outstanding principal amount of the Senior
Loan. In addition, Stein Roe will consider, and may rely in part, on the
analyses performed by the Agent and other Lenders, including such persons'
determinations with respect to collateral securing a Senior Loan.
FEES. The Fund may be required to pay or may receive various fees and
commissions in connection with purchasing, selling and holding interests in
Senior Loans. The fees normally paid by Borrowers may include three types:
facility fees, commitment fees and prepayment penalties. Facility fees are paid
to the Lenders upon origination of a Senior Loan. Commitment fees are paid to
Lenders on an ongoing basis based upon the undrawn portion committed by the
Lenders of the underlying Senior Loan. Lenders may receive prepayment penalties
when a Borrower prepays all or part of a Senior Loan. The Fund will receive
these fees directly from the Borrower if the Fund is a Primary Lender, or, in
the case of commitment fees and prepayment penalties, if the Fund acquires an
interest in a Senior Loan by way of Assignment. Whether or not the Fund receives
a facility fee from the Lender in the case of an Assignment, or any fees in the
case of a Participation, depends upon negotiations between the Fund and the
Lender selling such interests. When the Fund is an assignee, it may be required
to pay a fee, or forgo a portion of interest and any fees payable to it, to the
Lender selling the Assignment. Occasionally, the assignor will pay a fee to the
Fund based on the portion of the principal amount of the Senior Loan that is
being assigned. A Lender selling a Participation to the Fund may deduct a
portion of the interest and any fees payable to the Fund as an administrative
fee prior to payment thereof to the Fund. The Fund may be required to pay over
or pass along to a purchaser of an interest in a Senior Loan from the Fund a
portion of any fees that the Fund would otherwise be entitled to.
PREPAYMENTS. Pursuant to the relevant Loan Agreement, a Borrower may be
required, and may have the option at any time, to prepay the principal amount of
a Senior Loan, often without incurring a prepayment penalty. In the event that
like-yielding loans are not available in the marketplace, Stein Roe believes
that the prepayment of and subsequent reinvestment by the Fund in Senior Loans
could have a materially adverse impact on the yield on the Fund's investment
portfolio. Prepayments may have a beneficial impact on income due to receipt of
prepayment penalties, if any, and any facility fees earned in connection with
reinvestment.
COMMITMENTS TO MAKE ADDITIONAL PAYMENTS. A Lender may have obligations pursuant
to a Loan Agreement to make additional loans in certain circumstances. Such
circumstances may include, without limitation, obligations under revolving
credit facilities and facilities that provide for further loans to Borrowers
based upon compliance with specified financial requirements. The Fund currently
intends to reserve against any such contingent obligation by segregating a
sufficient amount of cash, liquid securities and liquid Senior Loans. The Fund
will not purchase interests in Senior Loans that would require the Fund to make
any such additional loans if the aggregate of such additional loan commitments
would exceed 20% of the Fund's total assets or would cause the Fund to fail to
meet the diversification requirements set forth under the heading "Investment
Restrictions" in the Statement of Additional Information.
16
<PAGE>
BRIDGE FINANCING. The Fund may acquire interests in Senior Loans that are
designed to provide temporary or "bridge" financing to a Borrower pending the
sale of identified assets or the arrangement of longer-term loans or the
issuance and sale of debt obligations. A Borrower's use of a bridge loan
involves a risk that the Borrower may be unable to locate permanent financing to
replace the bridge loan, which may impair the Borrower's perceived
creditworthiness.
BORROWING. The Fund may borrow money in an amount up to 33 1/3% of the Fund's
total assets (after giving effect to the amount borrowed). The Fund may borrow
for the purpose of financing long-term investments, obtaining short-term
liquidity and for temporary, extraordinary or emergency purposes. To the extent
the Fund borrows more money than it has cash or short-term cash equivalents and
invests the proceeds in Senior Loans, the Fund will create financial leverage.
It will do so only when it expects to be able to invest the proceeds at a higher
rate of return than its cost of borrowing.
OTHER SECURITIES. The Fund will acquire warrants, equity securities and junior
debt securities only as are incident to the purchase or intended purchase of
interests in collateralized Senior Loans. The Fund generally will acquire
interests in warrants, equity securities and junior debt securities only when
Stein Roe believes that the relative value being given by the Fund in exchange
for such interests is substantially outweighed by the potential value of such
instruments. Investment in warrants, equity securities and junior debt
securities entail risks in addition to those associated with investments in
Senior Loans. Warrants and equity securities have a subordinate claim on a
Borrower's assets as compared with debt securities, and junior debt securities
have a subordinate claim on such assets as compared with Senior Loans. As such,
the values of warrants and equity securities generally are more dependent on the
financial condition of the Borrower and less dependent on fluctuations in
interest rates than are the values of many debt securities. The values of
warrants, equity securities and junior debt securities may be more volatile than
those of Senior Loans and thus may have an adverse impact on the ability of the
Fund to minimize fluctuations in its net asset value. (See "Principal Risks.")
DEFENSIVE INVESTMENT POLICY. If Stein Roe determines that market conditions
temporarily warrant a defensive investment policy, the Fund may (but is not
required to) invest, subject to its ability to liquidate its relatively illiquid
portfolio of Senior Loans, up to 100% of its assets in cash and high quality,
short-term debt securities. The Fund may also lend its portfolio securities to
other parties and may enter into repurchase and reverse repurchase agreements
for securities. For further discussion of the Fund's investment objective and
policies and its investment practices and the associated considerations, see
"Other Investment Practices."
FUNDAMENTAL RESTRICTIONS AND POLICIES. The Fund has adopted a number of
fundamental investment restrictions and policies which may not be changed unless
authorized by a shareholder vote. These are set forth in the Statement of
Additional Information. Among these fundamental restrictions, the Fund may not
purchase any security if, as a result of the purchase, more than 25% of the
Fund's total assets (taken at current value) would be invested in the securities
of Borrowers and other issuers having their principal business activities in the
same industry (the electric, gas, water and telephone utility industries being
treated as separate industries for the purpose of this restriction). However,
the Fund may invest more than 25% of its total assets in securities the issuer
of which is deemed to be in the financial institutions industry, which includes
commercial banks, thrift institutions, insurance companies and finance
companies. There is no limitation with respect to obligations issued or
guaranteed by the U.S. government or any of its agencies or instrumentalities.
Except for the fundamental restrictions
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and policies set forth as such in the Statement of Additional Information, the
Fund's investment objective and policies are not fundamental policies and
accordingly may be changed by the Board without obtaining the approval of
shareholders.
PRINCIPAL RISKS
You should consider the following Principal Risks before investing in the Fund.
As described below, these risks could cause you to lose money as a result of
investing in the Fund. The Fund is a closed-end investment company. The Fund is
designed primarily for long-term investors and not as a trading vehicle.
NON-PAYMENT. Senior Loans, like other corporate debt obligations, are subject to
the risk of non-payment of scheduled interest or principal. Non-payment would
result in a reduction of income to the Fund, a reduction in the value of the
Senior Loan experiencing non-payment and a potential decrease in the net asset
value of the Fund. The Fund generally will invest in collateralized Senior Loans
only if Stein Roe believes the value of the collateral, which may include
guarantees, exceeds the principal amount of the Senior Loan at the time of
initial investment. However, there can be no assurance that the liquidation of
any collateral would satisfy the Borrower's obligation in the event of
non-payment of scheduled interest or principal payments, or that such collateral
could be readily liquidated. Moreover, as a practical matter, most Borrowers
cannot satisfy their debts by selling their assets. Borrowers pay their debts
from the cash flow they generate. This is particularly the case for Borrowers
that are highly leveraged. Many of the Senior Loans purchased by the Fund will
be to highly leveraged Borrowers. If the Borrower's cash flow is insufficient to
pay its debts as they come due, the Borrower is far more likely to seek to
restructure its debts than it is to sell off assets to pay its Senior Loans.
Borrowers may try to restructure their debts either by seeking protection from
creditors under Chapter 11 of the federal Bankruptcy Code or negotiating a work
out. In the event of bankruptcy of a Borrower, the Fund could experience delays
or limitations with respect to its ability to realize the benefits of the
collateral securing a Senior Loan. To the extent that a Senior Loan is
collateralized by stock in the Borrower or its subsidiaries, such stock may lose
all or substantially all of its value in the event of bankruptcy of the
Borrower. The Agent generally is responsible for determining that the Lenders
have obtained a perfected security interest in the collateral securing the
Senior Loan. If a Borrower files for protection from creditors under Chapter 11
of the Bankruptcy Code, the Code will impose an automatic stay that prohibits
the Agent from liquidating collateral. The Agent may ask the bankruptcy court to
lift the stay. As a practical matter, the court is unlikely to lift the stay if
it concludes that the Borrower has a chance to emerge from the reorganization
proceedings and the collateral is likely to hold most of its value. If the
Lenders have a good security interest, the Senior Loan will be treated as a
separate class in the reorganization proceedings and will retain a priority
interest in the collateral. Chapter 11 reorganization plans typically are the
product of negotiation among the Borrower and the various creditor classes.
Successful negotiations may require the Lenders to extend the time for
repayment, change the interest rate or accept some consideration in the form of
junior debt or equity securities. A work out outside of bankruptcy may produce
similar concessions by senior lenders.
Some Senior Loans in which the Fund may invest are subject to the risk that a
court, pursuant to fraudulent conveyance or other similar laws, could
subordinate such Senior Loans to current or future indebtedness of the Borrower
or take other action detrimental to the holders of Senior Loans, such as the
Fund, including, under certain circumstances, invalidating such Senior Loans.
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Lenders commonly have obligations pursuant to the Loan Agreement, which may
include the obligation to make additional loans or release collateral.
BELOW INVESTMENT GRADE SECURITIES. Securities rated below investment grade are
commonly referred to as high-yield debt or "junk debt." They are regarded as
predominantly speculative with respect to the issuing company's continuing
ability to meet principal and interest payments. The prices of high-yield
securities have been found to be less sensitive to interest rate changes than
higher-rated investments, but more sensitive to adverse economic downturns or
individual corporate developments. A projection of an economic downturn or of a
period of rising interest rates, for example, could cause a decline in the
prices of high-yield securities.
The secondary market in which high-yield securities are traded is generally less
liquid than the market for higher-grade debt. Less liquidity in the secondary
trading market could adversely affect the price at which the Fund could sell a
high-yield Senior Loan, and could adversely affect the net asset value of the
Fund's shares. At times of less liquidity, it may be more difficult to value
high-yield Senior Loans because this valuation may require more research, and
elements of judgment may play a greater role in the valuation since there is
less reliable, objective data available.
Investments in high-yield Senior Loans may result in greater net asset value
fluctuation than if the Fund did not make such investments.
There is no limit on the percentage of assets that may be invested in Senior
Loans and other securities that are rated below investment grade or that are
unrated but of comparable quality.
RESTRICTIONS ON RESALE. Senior Loans, at present, generally are not readily
marketable and may be subject to restrictions on resale. Interests in Senior
Loans generally are not listed on any national securities exchange or automated
quotation system and no active market may exist for many of the Senior Loans in
which the Fund may invest. To the extent that a secondary market may exist for
the Senior Loans in which the Fund invests, such market may be subject to
irregular trading activity, wide bid/ask spreads and extended trade settlement
periods. The Fund has no limitation on the amount of its assets that may be
invested in Senior Loans that are not readily marketable or are subject to
restrictions on resale. Because a substantial portion of the Fund's assets may
be invested in Senior Loan interests, the ability of the Fund to dispose of its
investments in a timely fashion and at a fair price may be restricted, and the
Fund and shareholders may suffer capital losses as a result. However, many of
the Senior Loans in which the Fund expects to purchase interests are of a
relatively large principal amount and are held by a relatively large number of
owners which should, in Stein Roe's opinion, enhance the relative liquidity of
such interests. The risks associated with illiquidity are particularly acute in
situations where the Fund's operations require cash, such as when the Fund makes
a Repurchase Offer for its shares, and may result in borrowing to meet
short-term cash requirements.
BORROWING. The Fund is authorized to borrow money in an amount up to 33 1/3% of
the Fund's total assets (after giving effect to the amount borrowed). The Fund
is authorized to borrow money for the purpose of financing long-term
investments, obtaining short-term liquidity in connection with quarterly
repurchase offers and for temporary, extraordinary or emergency purposes. The
use of leverage for investment purposes creates opportunities for greater total
returns but at the same time involves risks. Any investment income or gains
earned with respect to the amounts borrowed, which is in excess of the interest
which is due on the borrowing, will augment the Fund's income. Conversely, if
the investment performance with respect to the
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amounts borrowed fails to cover the interest on such borrowings, the value of
the Fund's shares may decrease more quickly than would otherwise be the case and
dividends on the shares would be reduced or eliminated. Interest payments and
fees incurred in connection with such borrowings will reduce the amount of net
income available for payment to the holders of Shares.
REPURCHASE OFFER RISKS. The Fund, as a fundamental policy, will make quarterly
repurchases for 5% to 25% of shares outstanding at net asset value. (See
"Periodic Repurchase Offers" below for more information.) However, shares are
less liquid than shares of funds that trade on a stock exchange, and Class B and
Class C shareholders who offer for repurchase shares held for less than five
years and one year, respectively, will pay an EWC. (See "How to Buy Shares.")
Under limited circumstances, the Fund may suspend or postpone a quarterly
repurchase offer -- the Fund must meet regulatory requirements to do so. There
is no guarantee that shareholders will be able to sell all of their shares that
they desire to sell in a quarterly repurchase offer.
CLOSED-END FUND RISKS. The Fund is a closed-end investment company designed
primarily for long-term investors and not as a trading vehicle. The Fund does
not intend to list its shares for trading on any national securities exchange.
There is not expected to be any secondary trading market in the shares and the
shares should be considered illiquid. The shares are, therefore, not readily
marketable. The shares of closed-end investment companies often trade at a
discount from their net asset values and, in the unlikely event that a secondary
market for the shares were to develop, the shares likewise may trade at a
discount from net asset value.
LEGISLATION; RESTRICTIONS. To the extent that legislation or state or federal
regulators impose additional requirements or restrictions with respect to the
ability of financial institutions to make loans in connection with highly
leveraged transactions, the availability of Senior Loan interests for investment
by the Fund may be adversely affected. In addition, such requirements or
restrictions may reduce or eliminate sources of financing for affected
Borrowers. Further, to the extent that legislation or federal or state
regulators require such institutions to dispose of Senior Loan interests
relating to highly leveraged transactions or subject such Senior Loan interests
to increased regulatory scrutiny, such financial institutions may determine to
sell Senior Loan interests in a manner that results in a price that, in the
opinion of Stein Roe, is not indicative of fair value. Were the Fund to attempt
to sell a Senior Loan interest at a time when a financial institution was
engaging in such a sale with respect to the Senior Loan interest, the price at
which the Fund could consummate such a sale might be adversely affected.
FINANCIAL SERVICES INDUSTRY CONCENTRATION. The financial services industries are
subject to extensive government regulation which can limit both the amounts and
types of loans and other financial commitments they can make, and the interest
rates and fees they can charge. Profitability is largely dependent on the
availability and cost of capital funds, and can fluctuate significantly when
interest rates change. Credit losses resulting from financial difficulties of
borrowers can negatively affect the financial services industries. Insurance
companies can be subject to severe price competition. The financial services
industries are currently undergoing relatively rapid change as existing
distinctions between financial service segments become less clear. For instance,
recent business combinations have included insurance, finance, and securities
brokerage under single ownership. Some primarily retail corporations have
expanded into securities and insurance industries. Moreover, the federal laws
generally separating commercial and investment banking are currently being
studied by Congress.
PREPAYMENT RISK. Borrowers may pay back principal before the scheduled due date.
Borrowers may find it advantageous to prepay principal due to a decline in
interest rates or an
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excess in cash flow. Such prepayments may require the Fund to replace a Senior
Loan with a lower-yielding security. This may adversely affect the net asset
value of the Fund's shares.
LIMITED INFORMATION. The types of Senior Loans in which the Fund will invest
historically have not been rated by a nationally recognized statistical rating
organization, have not been registered with the SEC or any state securities
commission, and have not been listed on any national securities exchange.
Although the Fund will generally have access to financial and other information
made available to the Lenders in connection with Senior Loans, the amount of
public information available with respect to Senior Loans will generally be less
extensive than that available for rated, registered or exchange listed
securities. As a result, the performance of the Fund and its ability to meet its
investment objective is more dependent on the analytical ability of Stein Roe
than would be the case for an investment company that invests primarily in
rated, registered or exchange listed securities.
To the extent that Senior Loans are rated, the Fund may invest in the lowest
rated loans, but does not intend to invest more than 5% of its assets in Senior
Loans rated below B- or B3 by S&P or Moody's.
NON-DIVERSIFICATION. The Fund has registered as a "non-diversified" investment
company so that, subject to its investment restrictions, it will be able to
invest more than 5% of the value of its assets in the obligations of any single
issuer, including Senior Loans of a single Borrower or Participations purchased
from a single Lender. (See "Investment Restrictions" in the Statement of
Additional Information.) The Fund does not intend, however, to invest more than
5% of the value of its assets in interests in Senior Loans of a single Borrower,
and the Fund intends to limit its investments so as to comply with the
diversification requirements imposed by the Internal Revenue Code for
qualification as a "regulated investment company." To the extent the Fund
invests a relatively high percentage of its assets in obligations of a limited
number of issuers, the Fund will be more susceptible than a more widely
diversified investment company to the consequences of any single corporate,
economic, political or regulatory occurrence.
ONGOING MONITORING. On behalf of the several Lenders, the Agent generally will
be required to administer and manage the Senior Loans and, with respect to
collateralized Senior Loans, to service or monitor the collateral. In this
connection, the valuation of assets pledged as collateral will reflect market
value and the Agent may rely on independent appraisals as to the value of
specific collateral. The Agent, however, may not obtain an independent appraisal
as to the value of assets pledged as collateral in all cases. The Fund normally
will rely primarily on the Agent (where the Fund is a Primary Lender or owns an
Assignment) or the selling Lender (where the Fund owns a Participation) to
collect principal of and interest on a Senior Loan. Furthermore, the Fund
usually will rely on the Agent (where the Fund is a Primary Lender or owns an
Assignment) or the selling Lender (where the Fund owns a Participation) to
monitor compliance by the Borrower with the restrictive covenants in the Loan
Agreement and notify the Fund of any adverse change in the Borrower's financial
condition or any declaration of insolvency. Collateralized Senior Loans will
frequently be secured by all assets of the Borrower that qualify as collateral,
which may include common stock of the Borrower or its subsidiaries.
Additionally, the terms of the Loan Agreement may require the Borrower to pledge
additional collateral to secure the Senior Loan, and enable the Agent, upon
proper authorization of the Lenders, to take possession of and liquidate the
collateral and to distribute the liquidation proceeds pro rata among the
Lenders. If the terms of a Senior Loan do not require the Borrower to pledge
additional collateral in the event of a decline in the value of the original
collateral, the Fund will be exposed to the risk that the value of the
collateral will not at all times equal or exceed the
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amount of the Borrower's obligations under the Senior Loan. Lenders that have
sold Participation interests in such Senior Loan will distribute liquidation
proceeds received by the Lenders pro rata among the holders of such
Participations. Stein Roe will also monitor these aspects of the Fund's
investments and, where the Fund is a Primary Lender or owns an Assignment, will
be directly involved with the Agent and the other Lenders regarding the exercise
of credit remedies.
INVESTMENTS IN EQUITY SECURITIES. To the extent the Fund invests in equity
securities, the value of its portfolio will be affected by changes in the stock
markets, which may be the result of domestic or international political or
economic news, changes in interest rates, or changing investor sentiment. The
stock market can be volatile and stock prices can change substantially. The
equity securities of smaller companies are more sensitive to these changes than
those of larger companies. This market risk will affect the Fund's net asset
value, which will fluctuate as the value of the securities held by the Fund
changes. Not all stock prices change uniformly or at the same time and not all
stock markets move in the same direction at the same time. Other factors affect
a particular stock's prices, such as poor earnings reports by an issuer, loss of
major customers, major litigation against an issuer, or changes in governmental
regulations affecting an industry. Adverse news affecting one company can
sometimes depress the stock prices of all companies in the same industry. Not
all factors can be predicted.
INVESTMENTS IN NON-U.S. ISSUERS. Investment in non-U.S. issuers involves special
risks, including that non-U.S. issuers may be subject to less rigorous
accounting and reporting requirements than are U.S. issuers, less rigorous
regulatory requirements, differing legal systems and laws relating to creditors'
rights, the potential inability to enforce legal judgments, and the potential
for political, social and economic adversities.
OTHER PRACTICES. The Fund may use various investment practices that involve
special considerations, including engaging in interest rate and other hedging
transactions, lending its portfolio securities, entering into when-issued and
delayed-delivery transactions and entering into repurchase and reverse
repurchase agreements. For further discussion of these practices and associated
special considerations, see "Other Investment Practices."
OTHER INVESTMENT PRACTICES
Stein Roe may use some or all of the following investment practices when, in its
opinion, their use is appropriate. These investment practices involve special
risk considerations that are discussed below. Although Stein Roe believes that
these investment practices may further the investment objective, no assurance
can be given that the utilization of these investment practices will achieve
that result.
STRUCTURED NOTES. The Fund may invest up to 10% of its total assets in
structured notes, including "total rate of return swaps" with rates of return
determined by reference to the total rate of return on one or more loans
referenced in such notes. The rate of return on the structured note may be
determined by applying a multiplier to the rate of total return on the
referenced loan or loans. Application of a multiplier is comparable to the use
of financial leverage, a speculative technique. Leverage magnifies the potential
for gain and the risk of loss, because a relatively small decline in the value
of a referenced loan could result in a relatively large loss in the value of a
structured note. Structured notes are treated as Senior Loans for purposes of
the Fund's policy of normally investing at least 80% of its total assets in
Senior Loans.
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INTEREST RATE SWAPS AND OTHER HEDGING TRANSACTIONS. The Fund may enter into
various interest rate hedging and risk management transactions. These interest
rate hedging and risk management transactions may be considered to involve
derivative instruments. A derivative is a financial instrument whose performance
is derived at least in part from the performance of an underlying index,
security or asset. The values of certain derivatives can be affected
dramatically by even small market movements, sometimes in ways that are
difficult to predict. There are many different types of derivatives with many
different uses. The Fund expects to enter into these transactions primarily to
seek to preserve a return on a particular investment or portion of its
portfolio, and may also enter into such transactions to seek to protect against
decreases in the anticipated rate of return on floating or variable rate Senior
Loans the Fund owns or anticipates purchasing at a later date, or for other risk
management strategies such as managing the effective dollar-weighted average
duration of the investment portfolio. In addition, the Fund may also engage in
hedging transactions, including entering into put and call options, to seek to
protect the value of its portfolio against declines in net asset value resulting
from changes in interest rates or other market changes. Market conditions will
determine whether and in what circumstances the Fund would employ any hedging
and risk management techniques. The Fund will not engage in any of these
transactions for speculative purposes and will use them only as a means to hedge
or manage the risks associated with assets held in, or anticipated to be
purchased for, the investment portfolio or obligations incurred by the Fund. The
successful utilization of hedging and risk management transactions requires
skills different from those needed in the selection of Senior Loans. The Fund
will incur brokerage and other costs in connection with its hedging
transactions.
The Fund may enter into interest rate swaps or purchase or sell interest rate
caps or floors. The Fund will not sell interest rate caps or floors that it does
not own. Interest rate swaps involve the exchange by the Fund with another party
of their respective obligations to pay or receive interest; e.g., an exchange of
an obligation to make floating rate payments for an obligation to make fixed
rate payments. For example, the Fund may seek to shorten the effective interest
rate redetermination period of a Senior Loan to a Borrower that has selected an
interest rate redetermination period of one year. The Fund could exchange the
Borrower's obligation to make fixed rate payments for one year for an obligation
to make payments that readjust monthly. In such event, the Fund would consider
the interest rate redetermination period of such Senior Loan to be the shorter
period.
The purchase of an interest rate cap entitles the purchaser, to the extent that
a specified index exceeds a predetermined interest rate, to receive payments of
interest at the difference between the index and the predetermined rate on a
notional principal amount (the reference amount with respect to which interest
obligations are determined although no actual exchange of principal occurs) from
the party selling such interest rate cap. The purchase of an interest rate floor
entitles the purchaser, to the extent that a specified index falls below a
predetermined interest rate, to receive payments of interest at the difference
between the index and the predetermined rate on a notional principal amount from
the party selling such interest rate floor. The Fund will not enter into swaps,
caps or floors if, on a net basis, the aggregate notional principal amount with
respect to such agreements exceeds the net assets of the Fund.
In circumstances in which Stein Roe anticipates that interest rates will
decline, the Fund might, for example, enter into an interest rate swap as the
floating rate payor or, alternatively, purchase an interest rate floor. In the
case of purchasing an interest rate floor, if interest rates declined below the
floor rate, the Fund would receive payments from its counterparty which would
wholly or partially offset the decrease in the payments it would receive with
respect to the
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portfolio assets being hedged. In the case where the Fund purchases such an
interest rate swap, if the floating rate payments fell below the level of the
fixed rate payment set in the swap agreement, the Fund's counterparty would pay
the Fund amounts equal to interest computed at the difference between the fixed
and floating rates over the notional principal amount. Such payments would
offset or partially offset the decrease in the payments the Fund would receive
with respect to floating rate portfolio assets being hedged.
The successful use of swaps, caps and floors to preserve the rate of return on a
portfolio of Senior Loans depends on Stein Roe's ability to predict correctly
the direction and extent of movements in interest rates. Although Stein Roe
believes that use of the hedging and risk management techniques described above
will benefit the Fund, if Stein Roe's judgment about the direction or extent of
the movement in interest rates is incorrect, the Fund's overall performance
would be worse than if it had not entered into any such transaction. For
example, if the Fund had purchased an interest rate swap or an interest rate
floor to hedge against its expectation that interest rates would decline but
instead interest rates rose, the Fund would lose part or all of the benefit of
the increased payments it would receive as a result of the rising interest rates
because it would have to pay amounts to its counterparty under the swap
agreement or would have paid the purchase price of the interest rate floor.
Inasmuch as these hedging transactions are entered into for good-faith risk
management purposes, Stein Roe and the Fund believe such obligations do not
constitute senior securities. The Fund will usually enter into interest rate
swaps on a net basis; i.e., where the two parties make net payments with the
Fund receiving or paying, as the case may be, only the net amount of the two
payments. The net amount of the excess, if any, of the Fund's obligations over
its entitlements with respect to each interest rate swap will be accrued and an
amount of cash or liquid securities having an aggregate net asset value at least
equal to the accrued excess will be maintained. If the Fund enters into a swap
on other than a net basis, the Fund will maintain the full amount of its
obligations under each such swap. Accordingly, the Fund does not treat swaps as
senior securities. The Fund may enter into swaps, caps and floors with member
banks of the Federal Reserve System, members of the New York Stock Exchange
(NYSE) or other entities determined to be creditworthy by Stein Roe, pursuant to
procedures adopted and reviewed on an ongoing basis by the Board. If a default
occurs by the other party to such transactions, the Fund will have contractual
remedies pursuant to the agreements related to the transaction, but such
remedies may be subject to bankruptcy and insolvency laws that could affect the
Fund's rights as a creditor. The swap market has grown substantially in recent
years with a large number of banks and financial services firms acting both as
principals and as agents utilizing standardized swap documentation. As a result,
the swap market has become relatively liquid. Caps and floors are more recent
innovations and they are less liquid than swaps. There can be no assurance,
however, that the Fund will be able to enter into interest rate swaps or to
purchase interest rate caps or floors at prices or on terms Stein Roe believes
are advantageous to the Fund. In addition, although the terms of interest rate
swaps, caps and floors may provide for termination, there can be no assurance
that the Fund will be able to terminate an interest rate swap or to sell or
offset interest rate caps or floors that it has purchased.
New financial products continue to be developed and the Fund may invest in any
such products as may be developed to the extent consistent with its investment
objective and the regulatory and federal tax requirements applicable to
investment companies.
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"WHEN-ISSUED" AND "DELAYED-DELIVERY" TRANSACTIONS. The Fund may also purchase
and sell interests in Senior Loans and other portfolio securities on a
"when-issued" and "delayed-delivery" basis. No income accrues to the Fund on
such Senior Loans in connection with such purchase transactions prior to the
date the Fund actually takes delivery of such Senior Loans. These transactions
are subject to market fluctuation; the value of the interests in Senior Loans
and other portfolio debt securities at delivery may be more or less than their
purchase price, and yields generally available on such Senior Loans when
delivery occurs may be higher or lower than yields on the Senior Loans obtained
pursuant to such transactions. Because the Fund relies on the buyer or seller,
as the case may be, to consummate the transaction, failure by the other party to
complete the transaction may result in the Fund missing the opportunity of
obtaining a price or yield considered to be advantageous. When the Fund is the
buyer in such a transaction, however, it will maintain cash or liquid securities
having an aggregate value equal to the amount of such purchase commitments until
payment is made. The Fund will make commitments to purchase such Senior Loans on
such basis only with the intention of actually acquiring these Senior Loans, but
the Fund may sell such Senior Loans prior to the settlement date if such sale is
considered to be advisable. To the extent the Fund engages in "when-issued" and
"delayed-delivery" transactions, it will do so for the purpose of acquiring
Senior Loans for its investment portfolio consistent with its investment
objective and policies and not for the purpose of investment leverage. No
specific limitation exists as to the percentage of the Fund's assets that may be
used to acquire securities on a "when-issued" or "delayed-delivery" basis.
REPURCHASE AGREEMENTS. The Fund may enter into repurchase agreements (a purchase
of, and a simultaneous commitment to resell, a financial instrument at an
agreed-upon price on an agreed-upon date) only with member banks of the Federal
Reserve System and member firms of the NYSE. When participating in repurchase
agreements, the Fund buys securities from a seller (e.g., a bank or brokerage
firm) with the agreement that the seller will repurchase the securities at a
higher price at a later date. Such transactions afford an opportunity for the
Fund to earn a return on available liquid assets at minimal market risk,
although the Fund may be subject to various delays and risks of loss if the
counterparty is unable to meet its obligation to repurchase. Under the 1940 Act,
repurchase agreements are deemed to be collateralized loans of money by the Fund
to the counterparty. In evaluating whether to enter into a repurchase agreement,
Stein Roe will consider carefully the creditworthiness of the counterparty. If
the member bank or member firm that is the party to the repurchase agreement
petitions for bankruptcy or otherwise becomes subject to the Bankruptcy Code,
the law regarding the rights of the Fund is unsettled. The securities underlying
a repurchase agreement will be marked to market every business day so that the
value of the collateral is at least equal to the value of the loan, including
the accrued interest thereon, and Stein Roe will monitor the value of the
collateral. No specific limitation exists as to the percentage of the Fund's
assets that may be used to participate in repurchase agreements.
REVERSE REPURCHASE AGREEMENTS. The Fund may enter into reverse repurchase
agreements with respect to debt obligations that could otherwise be sold by the
Fund. A reverse repurchase agreement is an instrument under which the Fund may
sell an underlying debt security and simultaneously obtain the commitment of the
purchaser (a commercial bank or a broker or dealer) to sell the security back to
the Fund at an agreed-upon price on an agreed-upon date. The Fund will maintain
cash or liquid securities in an amount sufficient to cover its obligations with
respect to reverse repurchase agreements. The Fund receives payment for such
securities only upon physical delivery or evidence of book entry transfer by its
custodian. SEC regulations require either that securities sold by the Fund under
a reverse repurchase agreement be segregated pending repurchase or that the
proceeds be segregated on the Fund's books and
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records pending repurchase. Reverse repurchase agreements could involve risks in
the event of default or insolvency of the other party, including possible delays
or restrictions upon the Fund's ability to dispose of the underlying securities.
An additional risk is that the market value of securities sold by the Fund under
a reverse repurchase agreement could decline below the price at which the Fund
is obligated to repurchase them. Reverse repurchase agreements will be
considered borrowings by the Fund and as such would be subject to the
restrictions on borrowing described in the Statement of Additional Information
under "Investment Restrictions." The Fund will not hold more than 5% of the
value of its total assets in reverse repurchase agreements as of the time the
agreement is entered into.
DISTRIBUTIONS AND INCOME TAXES
DISTRIBUTIONS. Income dividends are declared each business day, paid monthly,
and confirmed at least quarterly. Capital gains, if any, are distributed at
least annually, usually in December. Shares accrue dividends as long as they are
issued and outstanding (i.e., from the date the payment for the purchase order
is received to the day before the repurchase settles).
Dividend payments are not guaranteed and may vary with each payment. The Fund
does not pay "interest" or guarantee any fixed rate of return.
If you do not indicate on your application your preferences for handling
distributions, the Fund will automatically reinvest all distributions in
additional shares of the Fund. You can choose one of the following options for
distributions when you open your account: (1) reinvest all distributions in
additional shares of the Fund; (2) reinvest all distributions in shares of
another fund; (3) receive dividends in cash and reinvest capital gains; or (4)
receive all distributions in cash. Distributions of $10 or less will
automatically be reinvested in additional shares. If you elect to receive
distributions by check and the check is returned as undeliverable, or if you do
not cash a distribution check within six months of the check date, the
distribution will be reinvested in additional shares.
The Fund is authorized to borrow money subject to restrictions. (See "How the
Fund Invests.") Under the 1940 Act, the Fund may not declare any dividend or
other distribution on its shares unless the Fund has, at the time of
declaration, asset coverage of at least 300% of its aggregate indebtedness,
after deducting the amount of the distribution. This limitation may impair the
Fund's ability to maintain its qualification for taxation as a regulated
investment company.
INCOME TAXES. The Fund intends to satisfy those requirements relating to the
sources of its income, the distribution of its income, and the diversification
of its assets necessary to qualify for the special tax treatment afforded to
regulated investment companies under the Internal Revenue Code (the "Code") and
thereby be relieved of federal income or excise taxes to the extent that it
distributes its net investment income and net realized capital gains to
shareholders in accordance with the timing requirements imposed by the Code. For
a detailed discussion of tax issues pertaining to the Fund, see "Additional
Income Tax Considerations" in the Statement of Additional Information.
Your distributions will be taxable to you, under income tax law, whether
received in cash or reinvested in additional shares. For federal income tax
purposes, any distribution that is paid in January but was declared in the prior
calendar year is deemed paid in the prior calendar year.
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<PAGE>
You will be subject to federal income tax at ordinary rates on income dividends
and distributions of net short-term capital gains. Distributions of net
long-term capital gains will be taxable to you as long-term capital gains
regardless of the length of time you have held your shares.
You will be advised annually as to the source of distributions for tax purposes.
If you are not subject to tax on your income, you will not be required to pay
tax on these amounts.
A shareholder who, pursuant to a Repurchase Offer, offers all of his or her
shares for repurchase (and is not considered to own any other shares pursuant to
attribution rules contained in the Code) may realize a taxable gain or loss
depending upon the shareholder's basis in the shares. Such gain or loss realized
on the disposition of shares (whether pursuant to a Repurchase Offer or in
connection with a sale or other taxable disposition of shares in a secondary
market) generally will be treated as long-term capital gain or loss if the
shares have been held as a capital asset for more than one year and as
short-term capital gain or loss if held as a capital asset for one year or less.
Starting in 2001, net long-term capital gains realized upon the disposition of
shares held longer than five years will be subject to a lower maximum capital
gains tax rate than is currently available. If shares are sold at a loss after
being held for six months or less, the loss will be treated as long-term instead
of short-term capital loss to the extent of any capital gain distributions
received on those shares. All or a portion of any loss realized on a sale or
exchange of shares of the Fund will be disallowed if the shareholder acquires
other shares within 30 days before or after the disposition. In such a case, the
basis of the shares acquired will be adjusted to reflect the disallowed loss.
Different tax consequences may apply to shareholders whose shares are
repurchased (other than shareholders who do not offer all of their shares for
repurchase described in the previous paragraph) and to shareholders who do not
offer their shares for repurchase in connection with the Repurchase Offer. For
example, if a shareholder offers for repurchase fewer than all his shares, the
proceeds received could be treated as a taxable dividend, a return of capital,
or capital gain depending on the portion of shares repurchased, the Fund's
earnings and profits, and the shareholder's basis in the repurchased shares.
Moreover, when fewer than all shares owned by a shareholder are repurchased
pursuant to a Repurchase Offer, there is a remote possibility that shareholders
whose shares are not repurchased may be considered to have received a deemed
distribution that is taxable to them in whole or in part. You may wish to
consult your tax advisor prior to offering your shares for repurchase.
BACKUP WITHHOLDING. The Fund may be required to withhold federal income tax
("backup withholding") from certain payments to a shareholder generally
distribution payments and redemption proceeds. Backup withholding may be
required if:
- the shareholder fails to furnish its properly certified Social Security or
other tax identification number;
- the shareholder fails to certify that its tax identification number is
correct or that it is not subject to backup withholding due to the
underreporting of certain income;
- the Internal Revenue Service (IRS) informs the Fund that the shareholder's
tax identification number is incorrect.
These certifications are contained in the application that you should complete
and return when you open an account. The Fund must promptly pay to the IRS all
amounts withheld. Therefore, it is usually not possible for the Fund to
reimburse you for amounts withheld. You may, however, claim the amount withheld
as a credit on your federal income tax return.
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<PAGE>
The federal income tax discussion set forth above is for general information
only. Prospective investors should consult their advisors regarding the specific
federal and state tax consequences of purchasing, holding and disposing of
shares, as well as the effects of other state, local and foreign tax laws and
any proposed tax law changes.
MANAGEMENT OF THE FUND
BOARD OF TRUSTEES AND INVESTMENT ADVISOR. The Board of Trustees of the Fund has
overall management responsibility for the Fund. See "Management" in the
Statement of Additional Information for the names of and other information about
the trustees, and officers.
The investment advisor, Stein Roe & Farnham Incorporated, One South Wacker
Drive, Chicago, IL 60606, is responsible for managing the investment portfolio
and the business affairs of the Fund, subject to the direction of the Board.
Stein Roe is registered as an investment advisor under the Investment Advisors
Act of 1940. Stein Roe is a wholly owned subsidiary of Liberty Funds Group,
which is a wholly owned subsidiary of Liberty Financial Services, Inc., which is
a wholly owned subsidiary of Liberty Financial Companies, Inc.(Liberty
Financial), which is a majority owned subsidiary of Liberty Corporate Holdings,
Inc., which is a wholly owned subsidiary of LFC Holdings, Inc., which is a
wholly owned subsidiary of Liberty Mutual Insurance Company. Stein Roe and its
predecessor have advised and managed mutual funds since 1949 and have been
providing investment advisory services since 1932.
Stein Roe's mutual funds and institutional investment advisory businesses are
part of a larger business unit known as Liberty Funds Group (LFG) that includes
several separate legal entities. LFG includes affiliates of Stein Roe, including
Colonial Management Associates, Inc. (Colonial). The LFG business unit is
managed by a single management team. Colonial and other LFG entities also share
personnel, facilities, and systems with Stein Roe that may be used in providing
administrative or operational services to the Funds. Colonial is a registered
investment advisor. Stein Roe also has a wealth management business that is not
part of LFG and is managed by a different team. Stein Roe and the other entities
that make up LFG are subsidiaries of Liberty Financial.
FEES AND EXPENSES. Stein Roe provides portfolio management services to the Fund
for a monthly management fee, computed and accrued daily, based on an annual
rate of 0.45% of Average Daily Managed Assets of the Fund. Colonial Management
Associates, Inc. provides administrative services to the Fund for a monthly fee,
computed and accrued daily, based on an annual rate of 0.20% of Average Daily
Managed Assets of the Fund. "Average Daily Managed Assets" of the Fund means the
average daily value of the total assets of the Fund less all accrued liabilities
of the Fund (other than the aggregate amount of any outstanding borrowings
constituting financial leverage).
Because the fee paid to the Advisor and the Administrator will be calculated on
the basis of the Fund's managed assets, which include the proceeds of leverage,
the dollar amount of the fees paid by the Fund to the Advisor and Administrator
will be higher (and the Advisor and Administrator will be benefited to that
extent) when leverage is utilized. The Advisor will utilize leverage only if it
would result in a net benefit to the Fund shareholders after taking into account
the higher fees and expenses associated with leverage (including higher
management and administration fees).
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<PAGE>
Stein Roe provides office space and executive and other personnel to the Fund
and bears any sales or promotional expenses. The Fund pays all expenses other
than those paid by Stein Roe, including but not limited to printing and postage
charges, securities registration and custodian fees, and expenses incidental to
its organization.
PORTFOLIO MANAGERS. Brian W. Good and James R. Fellows, vice presidents of Stein
Roe, are primarily responsible for the day-to-day management of the Fund. Mr.
Fellows and Mr. Good have been employed by Stein Roe since April 1998. Prior
thereto, Mr. Good was vice president and portfolio manager at Van Kampen
American Capital since 1989 and Mr. Fellows was vice president and senior credit
analyst at Van Kampen American Capital since 1988.
TRANSFER AGENT. Liberty Funds Services, Inc. (Transfer Agent), P.O. Box 1722,
Boston, MA 02105-1722, a wholly owned subsidiary of Liberty Financial, is the
agent of the Fund for the transfer of shares, disbursement of dividends, and
maintenance of shareholder accounting records.
DISTRIBUTOR. Fund shares are offered for sale through Liberty Funds Distributor,
Inc. (Distributor). The Distributor is a wholly owned indirect subsidiary of
Liberty Financial. The business address of the Distributor is One Financial
Center, Boston, MA 02111.
CUSTODIAN. State Street Bank and Trust Company, 225 Franklin Street, Boston, MA
02101, is the custodian of the Fund. The custodian, among other things, attends
to the collection of principal and income and payment for and collection of
proceeds of securities bought and sold.
HOW TO BUY SHARES
Your financial advisor can help you establish an appropriate investment
portfolio, buy shares, and monitor your investments. When the Fund receives your
purchase request in "good form," your shares will be bought at the next
calculated net asset value. In "good form" means that you placed your order with
your brokerage firm or your payment has been received and your application is
complete, including all necessary signatures.
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<PAGE>
Outlined below are various ways you can purchase shares:
METHOD INSTRUCTIONS
Through your financial Your financial advisor can help you establish your
advisor account and buy Fund shares on your behalf.
--------------------------------------------------------------------------------
By check For new accounts, send a completed application and
(new account) check made payable to the Fund to the transfer agent,
Liberty Funds Services, Inc., P.O. Box 1722, Boston, MA
02105-1722.
--------------------------------------------------------------------------------
By check For existing accounts, fill out and return the
(existing account) additional investment stub included in your quarterly
statement, or send a letter of instruction, including
your Fund name and account number with a check made
payable to the Fund to Liberty Funds Services, Inc.,
P.O. Box 1722, Boston, MA 02105-1722.
--------------------------------------------------------------------------------
By exchange You or your financial advisor may acquire shares by
exchanging shares you own in one Fund for shares of the
same class of the Fund at no additional cost. To
exchange by telephone, call 1-800-422-3737. There may
be an additional charge when exchanging from a money
market fund.
--------------------------------------------------------------------------------
By wire You may purchase shares by wiring money from your bank
account to your Fund account. To wire funds to your
Fund account, call 1-800-422-3737 to obtain a control
number and the wiring instructions.
--------------------------------------------------------------------------------
By electronic funds You may purchase shares by electronically transferring
transfer money from your bank account to your Fund account by
calling 1-800-422-3737. Your money may take up to two
business days to be invested. You must set up this
feature prior to your telephone request. Be sure to
complete the appropriate section of the application.
--------------------------------------------------------------------------------
Automatic You can make monthly or quarterly investments
investment plan automatically from your bank account to your Fund
account. You can select a pre-authorized amount to be
sent via electronic funds transfer. Be sure to complete
the appropriate section of the application for this
feature.
--------------------------------------------------------------------------------
By dividend You may automatically invest dividends distributed by
diversification the Fund into the same class of shares of another fund
at no additional sales charge. To invest your dividends
in another fund, call 1-800-422-3737.
INVESTMENT MINIMUMS
<TABLE>
<S> <C>
Initial Investment................ $100,000
Subsequent Investments............ $50
Automatic Investment Plan......... $50
Retirement Plans.................. $25
</TABLE>
The Fund reserves the right to change the investment minimums. The Fund also
reserves the right to refuse a purchase order for any reason, including if it
believes that doing so would be in the best interest of the Fund and its
shareholders.
The following investors are eligible to purchase Class Z shares: (i) clients of
broker-dealers or registered investment advisors that both recommend the
purchase of Fund shares and charge such clients an asset-based fee; (ii) a
retirement plan (or the custodian for such plan) with aggregate plan assets of
at least $5 million at the time of purchase and which purchases shares directly
from Liberty Funds Distributor, Inc., the Fund's distributor, or through a third
party broker-dealer; (iii) any insurance company, trust company or bank
purchasing shares for its own account; (iv) any endowment, investment company or
foundation; (v) clients of investment advisory affiliates of the distributor
provided that the clients meet certain criteria established by the distributor
and its affiliates; (vi) any shareholder (or family member of such shareholder)
who owned shares of any of the funds of Liberty Acorn Trust on September 29,
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<PAGE>
2000 (when all of the then outstanding shares of Liberty Acorn Trust were
re-designated Class Z shares) and who has since then continued to own shares of
any funds distributed by Liberty Funds Distributor, Inc.; (vii) any person
investing all or part of the proceeds of a distribution, roll over or transfer
of assets into a Liberty IRA, from any deferred compensation plan which was a
shareholder of any of the funds of Liberty Acorn Trust on September 29, 2000, in
which the investor was a participant and through which the investor invested in
one or more of the funds of Liberty Acorn Trust immediately prior to the
distribution, transfer or roll over; (viii) any trustee of Liberty Acorn Trust,
any employee of Liberty Wanger Asset Management, L.P., or a member of the family
of such trustee or employee; and (ix) any person or entity listed in the account
registration for any account (such as joint owners, trustees, custodians, and
designated beneficiaries) that held shares of any of the funds of Liberty Acorn
Trust on September 29, 2000 and that has since then continued to hold shares of
any fund distributed by Liberty Funds Distributor, Inc.
Initial purchases of Class Z shares are subject to a minimum purchase amount of
$100,000, except that purchases by (a) retirement plans described in clause (ii)
above are not subject to any initial investment minimum, and (b) investors
described in clauses (vi), (viii) and (ix) above are subject to a minimum
purchase amount of $1,000. The Fund reserves the right to change the investment
minimums.
MULTIPLE SHARE CLASSES
CHOOSING A SHARE CLASS. The Fund offers one class of shares in this prospectus
-- Class Z shares. Class Z shares are available to institutional and other
investors at net asset value without a sales charge or early withdrawal charge.
The Fund also offers Class A, B and C shares through a separate prospectus.
HOW TO EXCHANGE SHARES. Shareholders of the Fund whose shares are repurchased
during a Repurchase Offer may exchange those shares for shares of the same class
of a fund distributed by Liberty Funds Distributor, Inc. at net asset value.
Fund shareholders will not be able to participate in this exchange privilege at
any time other than in connection with a Repurchase Offer. If your shares are
subject to an EWC, you will not be charged an EWC upon the exchange. However,
when you sell the shares acquired through the exchange, the shares sold may be
subject to a CDSC (a CDSC is the deferred sales charge applicable to the
open-end Liberty Funds) or EWC, depending upon when you originally purchased the
shares you exchanged. For purposes of computing the CDSC or EWC, the length of
time you have owned your shares will be computed from the date of your original
purchase and the applicable CDSC or EWC will be the EWC of the original Fund.
Unless your account is part of a tax-deferred retirement plan, an exchange is a
taxable event. Therefore, you may realize a gain or a loss for tax purposes. The
Fund may terminate your exchange privilege if Stein Roe determines that your
exchange activity is likely to adversely impact its ability to manage the Fund.
PERIODIC REPURCHASE OFFERS
The Board has adopted share repurchase policies as fundamental policies. Those
policies, which may not be changed without the vote of the holders of a majority
of the Fund's outstanding
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<PAGE>
voting securities, provide that each calendar quarter, the Fund intends to make
a Repurchase Offer to repurchase a portion of the outstanding shares from
shareholders who request repurchases. The price of the repurchases of shares
normally will be the net asset value per share determined as of the close of
business (4 p.m., Eastern time) on the date the Repurchase Offer ends or within
a maximum of 14 days after the Repurchase Offer ends as described below.
REPURCHASE PROCEDURE. At the beginning of each Repurchase Offer, shareholders
will be notified in writing about the Repurchase Offer, how they may request
that the Fund repurchase their shares and the deadline for shareholders to
provide their repurchase requests to the Distributor (the "Repurchase Request
Deadline"), which is the date the Repurchase Offer ends. The time between the
notification of the shareholders and the Repurchase Request Deadline may vary
from no more than six weeks to no less than three weeks. For each Repurchase
Offer, it is anticipated that each Repurchase Request Deadline will be on the
15th day in each of the months of February, May, August and November, or, if the
15th day is not a business day, the next business day. The repurchase price of
the shares will be the net asset value as of the close of the NYSE on the date
on which the repurchase price of shares will be determined (the "Repurchase
Pricing Date"). It is anticipated that normally the Repurchase Pricing Date will
be the same date as the Repurchase Request Deadline, and if so, the Repurchase
Request Deadline will be set for a time no later than the close of the NYSE on
such date. The Fund has determined that the Repurchase Pricing Date may occur no
later than the 14th day after the Repurchase Request Deadline or the next
business day if the 14th day is not a business day.
The Board may establish other policies for repurchases of shares that are
consistent with the 1940 Act and other pertinent laws. Shares offered for
repurchase by shareholders by any Repurchase Request Deadline will be
repurchased subject to the aggregate repurchase amounts established for that
Repurchase Request Deadline. Repurchase proceeds will be paid to shareholders in
cash within seven days after each Repurchase Pricing Date. The end of the seven
days is referred to as the "Repurchase Payment Deadline."
Repurchase offers and the need to fund repurchase obligations may affect the
ability of the Fund to be fully invested, which may reduce returns. Moreover,
diminution in the size of the Fund through repurchases without offsetting new
sales may result in untimely sales of Senior Loans and a higher expense ratio
and may limit the ability of the Fund to participate in new investment
opportunities. The Fund may borrow to meet repurchase obligations, which entails
risks and costs (see "Borrowing"). The Fund may also sell Senior Loans to meet
repurchase obligations which may adversely affect the market for Senior Loans
and reduce the Fund's value.
REPURCHASE AMOUNTS. The Board, in its sole discretion, will determine the number
of shares that the Fund will offer to repurchase (the "Repurchase Offer Amount")
for a given Repurchase Request Deadline. However, the Repurchase Offer Amount
will be at least 5% and no more than 25% of the total number of shares
outstanding on the Repurchase Request Deadline.
If shareholders offer for repurchase more than the Repurchase Offer Amount for a
given Repurchase Offer, the Fund may repurchase an additional amount of shares
of up to 2% of the shares outstanding on the Repurchase Request Deadline. If the
Fund determines not to repurchase more than the Repurchase Offer Amount, or if
the Fund determines to repurchase the additional 2% of the shares outstanding,
but Fund shareholders offer shares for repurchase in excess of that amount, the
Fund will repurchase the shares on a pro rata basis. The Fund may, however,
accept all shares offered for repurchase by shareholders who own less than 100
shares and who offer all their shares, before accepting on a pro rata basis
shares offered by other
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<PAGE>
shareholders. In the event there is an oversubscription of a Repurchase Offer,
shareholders may be unable to liquidate all or a given percentage of their
investment in the Fund at net asset value during the Repurchase Offer.
NOTICES TO SHAREHOLDERS. Notice of each quarterly Repurchase Offer (and any
additional discretionary repurchase offers) will be given to each beneficial
owner of shares between 21 and 42 days before each Repurchase Request Deadline.
The notice will contain information shareholders should consider in deciding
whether or not to offer their shares for repurchase. The notice will also
include detailed instructions on how to offer shares for repurchase. The notice
will state the Repurchase Offer Amount. The notice will also identify the dates
of the Repurchase Request Deadline, scheduled Repurchase Pricing Date, and
scheduled Repurchase Payment Deadline. The notice will describe the risk of
fluctuation in the net asset value between the Repurchase Request Deadline and
the Repurchase Pricing Date, if such dates do not coincide, and the possibility
that the Fund may use an earlier Repurchase Pricing Date than the scheduled
Repurchase Pricing Date (if the scheduled Repurchase Pricing Date is not the
Repurchase Request Deadline). The notice will describe (i) the procedures for
shareholders to offer their shares for repurchase, (ii) the procedures for the
Fund to repurchase shares on a pro rata basis, (iii) the circumstances in which
the Fund may suspend or postpone a Repurchase Offer, and (iv) the procedures
that will enable shareholders to withdraw or modify their offers of shares for
repurchase until the Repurchase Request Deadline. The notice will set forth the
net asset value of the shares to be repurchased no more than seven days before
the date of notification, and how shareholders may as certain the net asset
value after the notification date.
REPURCHASE PRICE. The current net asset value of the shares is computed daily.
The Board has determined that the time at which the net asset value will be
computed will be as of the close of regular session trading on the NYSE. You may
call 1-800-345-6611 to learn the net asset value per share. The notice of the
Repurchase Offer will also provide information concerning the net asset value
per share, such as the net asset value as of a recent date or a sampling of
recent net asset values, and a toll-free number for information regarding the
Repurchase Offer.
SUSPENSION OR POSTPONEMENT OF REPURCHASE OFFER. The Fund may suspend or postpone
a repurchase offer only: (a) if making or effecting the repurchase offer would
cause the Fund to lose its status as a regulated investment company under the
Internal Revenue Code; (b) for any period during which the NYSE or any market on
which the securities owned by the Fund are principally traded is closed, other
than customary weekend and holiday closings, or during which trading in such
market is restricted; (c) for any period during which an emergency exists as a
result of which disposal by the Fund of securities owned by it is not reasonably
practicable, or during which it is not reasonably practicable for the Fund
fairly to determine the value of its net assets; or (d) for such other periods
as the SEC may by order permit for the protection of shareholders of the Fund.
LIQUIDITY REQUIREMENTS. The Fund must maintain liquid assets equal to their
Repurchase Offer Amount from the time that the notice is sent to shareholders
until the Repurchase Pricing Date. The Fund will ensure that a percentage of
their respective net assets equal to at least 100% of the Repurchase Offer
Amount consists of assets (a) that can be sold or disposed of in the ordinary
course of business at approximately the price at which the Fund has valued the
investment within the time period between the Repurchase Request Deadline and
the Repurchase Payment Deadline; or (b) that mature by the Repurchase Payment
Deadline.
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<PAGE>
The Board of the Fund has adopted procedures that are reasonably designed to
ensure that the assets are sufficiently liquid so that the Fund can comply with
the Repurchase Offer and the liquidity requirements described in the previous
paragraph. If, at any time, the Fund falls out of compliance with these
liquidity requirements, their respective Boards will take whatever action they
deem appropriate to ensure compliance.
NET ASSET VALUE
The purchase or redemption price of shares is generally the net asset value per
share except for Class A share purchases at the public offering price. The Fund
determines the net asset value of its shares as of the close of regular session
trading on the NYSE (currently 4 p.m., Eastern time) by dividing the difference
between the values of its assets and liabilities by the number of shares
outstanding. Net asset value will not be determined on days when the NYSE is
closed unless, in the judgment of the Board of Trustees, the net asset value
should be determined on any such day, in which case the determination will be
made at 4 p.m., Eastern time.
The Senior Loans in which the Fund will invest generally are not listed on any
securities exchange. Certain Senior Loans are traded by institutional investors
in an over-the-counter secondary market for Senior Loan obligations that has
developed over the past several years. This secondary market for those Senior
Loans generally is comparatively illiquid relative to markets for other income
securities and no active trading market exists for many Senior Loans. In
determining net asset value, the Fund will utilize the valuations of Senior
Loans furnished to Stein Roe by an independent third-party pricing service. The
pricing service provider has no obligation to provide a valuation for a Senior
Loan if it believes that it cannot determine such a valuation. There can be no
assurance that the pricing service provider will continue to provide these
services or will provide a value for each Senior Loan held by the Fund. However,
Stein Roe believes that if the pricing service provider declines to continue to
act as such for the Fund, or does not provide values for a significant portion
of the Senior Loans in the Fund's portfolio, one or more alternative independent
third-party pricing service providers will be available to provide comparable
services on similar terms.
A pricing service provider typically will value Senior Loans at the mean of the
highest bona fide bid and lowest bona fide ask prices when current quotations
are readily available. Senior Loans for which current quotations are not readily
available are valued at a fair value as determined by the pricing service
provider using a wide range of market data and other information and analysis,
including credit considerations considered relevant by the pricing service
provider to determine valuations. The procedures of any pricing service provider
and its valuations will be reviewed by the officers of Stein Roe under the
general supervision of the Board. If Stein Roe believes that a value provided by
a pricing service provider does not represent a fair value as a result of
information, specific to that Senior Loan or Borrower or its affiliates, of
which Stein Roe believes that the pricing agent may not be aware, Stein Roe may
in its discretion value the Senior Loan subject to procedures approved by the
Board and reviewed on a periodic basis, and the Fund will utilize that price
instead of the price as determined by the pricing service provider. In addition
to such information, Stein Roe will consider, among other factors, (i) the
creditworthiness of the Borrower and (ii) the current interest rate, the period
until next interest rate reset and maturity of such Senior Loan interests in
determining a fair value of a Senior Loan. If the pricing service does not
provide a value for a Senior Loan or if no pricing service provider is then
acting, a value will be determined by Stein Roe in the manner described above.
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<PAGE>
It is expected that the Fund's net asset value will fluctuate as a function of
interest rate and credit factors. Although the Fund's net asset value will vary,
Stein Roe expects the Fund's policy of acquiring interests in floating or
variable rate Senior Loans to minimize fluctuations in net asset value as a
result of changes in interest rates. Accordingly, Stein Roe expects the value of
the investment portfolio to fluctuate significantly less than a portfolio of
fixed-rate, longer term obligations as a result of interest rate changes.
Other long-term debt securities for which market quotations are not readily
available are valued at fair value based on valuations provided by pricing
services approved by the Board, which may employ electronic data processing
techniques, including a matrix system, to determine valuations. The value of
interest rate swaps, caps, and floors will be determined in accordance with a
formula and then confirmed periodically by obtaining a quotation. Short-term
debt securities with remaining maturities of 60 days or less are valued at their
amortized cost, which does not take into account unrealized gains or losses. The
Board believes that the amortized cost represents a fair value for such
securities. Short-term debt securities with remaining maturities of more than 60
days for which market quotations are not readily available are valued by use of
a matrix prepared by Stein Roe based on quotations for comparable securities.
Other assets and securities held by the Fund for which these valuation methods
do not produce a fair value are valued by a method that the Board believes will
determine a fair value.
PERFORMANCE INFORMATION
The Fund seeks to provide an effective yield that is higher than other
short-term instrument alternatives. From time to time, the Fund may include its
current and/or effective yield based on various specific time periods. Yields
will fluctuate from time to time and are not necessarily representative of
future results.
The current yield is calculated by annualizing the most recent monthly
distribution (i.e., multiplying the distribution amount by 365/31 for a 31 day
month) and dividing the product by the current maximum offering price. The
effective yield is calculated by dividing the current yield by 365/31 and adding
1. The resulting quotient is then taken to the 365/31st power and reduced by 1.
The result is the effective yield.
On occasion, the Fund may compare its yield to: (a) LIBOR, quoted daily in the
Wall Street Journal; (b) the CD Rate as quoted daily in the Wall Street Journal
as the average of top rates paid by major New York banks on primary new issues
of negotiable CDs, usually on amounts of $1 million or more; (c) the Prime Rate,
quoted daily in The Wall Street Journal as the base rate on corporate loans at
large U.S. money center commercial banks; (d) one or more averages compiled by
Donoghue's Money Fund Report, a widely recognized independent publication that
monitors the performance of money market mutual funds; (e) the average yield
reported by the Bank Rate Monitor National Index(TM) for money market deposit
accounts offered by the 100 leading banks and thrift institutions in the ten
largest standard metropolitan statistical areas; (f) yield data published by
Lipper, Inc.; (g) the yield on an investment in 90-day Treasury bills on a
rolling basis, assuming quarterly compounding; or (h) the yield on an index of
loan funds comprised of all continually offered closed-end bank loan funds, as
categorized by Lipper (the "loan fund index"). In addition, the Fund may compare
the Prime Rate, the Donoghue's averages and the other yield data described above
to each other. Yield comparisons should not be considered indicative of the
Fund's yield or relative performance for any future period.
35
<PAGE>
From time to time advertisements and other sales materials for the Fund may
include information concerning the historical performance of the Fund. Any such
information may include a distribution rate and an average compounded
distribution rate of the Fund for specified periods of time. Such information
may also include performance rankings and similar information from independent
organizations such as Lipper, Inc., Business Week, Forbes or other industry
publications.
The Fund's distribution rate generally is determined on a monthly basis with
respect to the immediately preceding monthly distribution period. The
distribution rate is computed by first annualizing the Fund's distributions per
Share during such a monthly distribution period and dividing the annualized
distribution by the Fund's maximum offering price per Share on the last day of
such period. The Fund calculates the compounded distribution rate by adding one
to the monthly distribution rate, raising the sum to the power of 12 and
subtracting one from the product. In circumstances in which the Fund believes
that, as a result of decreases in market rates of interest, its expected monthly
distributions may be less than the distributions with respect to the immediately
preceding monthly distribution period, the Fund reserves the right to calculate
the distribution rate on the basis of a period of less than one month.
When utilized by the Fund, distribution rate and compounded distribution rate
figures are based on historical performance and are not intended to indicate
future performance. Distribution rate, compounded distribution rate and net
asset value per share can be expected to fluctuate over time.
Advertisements and communications to present or prospective shareholders also
may cite a total return for any period. Total return is calculated by
subtracting the net asset value of a single purchase of shares at a given date
from the net asset value of those shares (assuming reinvestment of
distributions) or a later date. The difference divided by the original net asset
value is the total return. The Fund may include information about the total
return on the Loan Fund Index, and compare that to the total return of the Fund
and other indices. In calculating the Fund's total return, all dividends and
distributions are assumed to be reinvested in additional shares of the Fund at
net asset value. Therefore, the calculation of the Fund's total return and
effective yield reflects the effect of compounding. The calculations of total
return, current yield and effective yield do not reflect the amount of any
shareholder income tax liability, which would reduce the performance quoted. If
the Fund's fees or expenses are waived or reimbursed, the Fund's performance
will be higher.
Finally, the Fund may include information on the history of its net asset value
per share and the net asset value per share of the Loan Fund Index, including
comparisons between them, in advertisements and other material furnished to
present and prospective shareholders. Information about the performance of the
Fund or other investments is not necessarily indicative of future performance
and should not be considered a representative of what an investor's yield or
total return may be in the future.
ORGANIZATION AND DESCRIPTION OF SHARES
The Fund is a Massachusetts business trust organized under an Agreement and
Declaration of Trust (Declaration of Trust) dated June 8, 1999, which provides
that each shareholder shall be deemed to have agreed to be bound by the terms
thereof. The Declaration of Trust may be amended by a vote of either the Fund's
shareholders or its trustees. The Fund offers four classes
36
<PAGE>
of shares -- Class A, Class B, Class C, and Class Z. Class A, B and C shares are
offered through a separate prospectus.
Under Massachusetts law, shareholders of a Massachusetts business trust such as
the Fund could, in some circumstances, be held personally liable for unsatisfied
obligations of the trust. However, the Declaration of Trust provides that
persons extending credit to, contracting with, or having any claim against the
Fund shall look only to its assets for payment under such credit, contract or
claim, and that the shareholders, trustees and officers of the Fund shall have
no personal liability therefor. The Declaration of Trust requires that notice of
such disclaimer of liability be given in each contract, instrument or
undertaking executed or made on behalf of the Fund. Further, the Declaration of
Trust provides for indemnification of any shareholder against any loss and
expense arising from personal liability solely by reason of being or having been
a shareholder. Thus, the risk of a shareholder incurring financial loss on
account of shareholder liability is believed to be remote, because it would be
limited to circumstances in which the disclaimer was inoperative and the Fund
was unable to meet its obligations.
The shares are not, and are not expected to be, listed for trading on any
national securities exchange nor, to the Fund's knowledge, is there, or is there
expected to be, any secondary trading market in the shares.
DIVIDENDS, VOTING AND LIQUIDATION RIGHTS. Each common share of beneficial
interest of the Fund has one vote and shares equally with other shares of its
class in dividends and distributions when and if declared by the Fund and in the
Fund's net assets upon liquidation. All shares, when issued, are fully paid and
are non-assessable by the Fund. There are no preemptive or conversion rights
applicable to any of the common shares except for such conversion rights that
may be established by the Trustees in connection with the designation of a class
of shares including the conversion of Class B shares to Class A shares eight
years after purchase. Fund shares do not have cumulative voting rights and, as
such, holders of more than 50% of the shares voting for Trustees can elect all
Trustees and the remaining shareholders would not be able to elect any Trustees.
The Fund does not intend to hold annual meetings of shareholders.
ANTI-TAKEOVER PROVISIONS IN THE DECLARATION OF TRUST. The 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. In addition, in the event a
secondary market were to develop in the shares, such provisions could have the
effect of depriving holders of shares of an opportunity to sell their shares at
a premium over prevailing market prices.
The Declaration of Trust requires the favorable vote of the holders of not less
than three-fourths of the outstanding shares then entitled to vote to authorize
certain transactions, unless at least three-fourths of the members of the Board
then in office and at least three-fourths of the non-interested trustees who
have acted in such capacities for at least 12 months (or since commencement of
operation if that period is less than 12 months) authorize such transaction and
then only a vote of the majority of the holders of the outstanding shares then
entitled to vote is required.
The Board has determined that the 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 SEC for the full text of these
provisions.
37
<PAGE>
STATUS OF SHARES. The Board of Trustees may classify or reclassify any issued or
unissued shares of the Fund into shares of any class by redesignating such
shares or by setting or changing in any one or more respects, from time to time,
prior to the issuance of such shares, the preferences, conversion or other
rights, voting powers, restrictions, limitations as to dividends,
qualifications, or terms or conditions of repurchase of such shares. Any such
classification or reclassification will comply with the provisions of the 1940
Act.
As of November 30, 2000, the following shares of the Fund were outstanding:
<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------
(2) (3) (4)
(1) Amount Amount held by Fund or for Amount Outstanding Exclusive of
Title of Class Authorized its Account Amount Shown Under
------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Class A Unlimited 0 7,641,266.122
------------------------------------------------------------------------------------------------
Class B Unlimited 0 2,909,518.071
------------------------------------------------------------------------------------------------
Class C Unlimited 0 2,592,433.568
------------------------------------------------------------------------------------------------
Class Z Unlimited 0 225,667.843
------------------------------------------------------------------------------------------------
</TABLE>
SHAREHOLDER REPORTS
The Fund issues reports to its shareholders semi-annually that include financial
information.
FINANCIAL STATEMENTS
The Fund will furnish without charge, when available, copies of its Annual
Report and any subsequent Semi-Annual Report to shareholders upon request to the
Fund, One Financial Center, Boston, Massachusetts 02111, toll-free
1-800-422-3737.
38
<PAGE>
TABLE OF CONTENTS OF
STATEMENT OF ADDITIONAL INFORMATION
Page
The Fund....................................................................2
Investment Policies.........................................................2
Portfolio Investments and Strategies........................................3
Investment Restrictions....................................................11
Other Investment Policies..................................................12
Repurchase Offer Fundamental Policy........................................12
Management of the Fund.....................................................13
Financial Statements.......................................................16
Principal Shareholders.....................................................17
Investment Advisory and Other Services.....................................17
Distributor................................................................18
Transfer Agent.............................................................21
Custodian..................................................................21
Independent Accountants....................................................21
Programs for Reducing or Eliminating Sales Charges.........................22
Portfolio Transactions.....................................................25
Additional Income Tax Considerations.......................................30
Investment Performance.....................................................31
Appendix -- Ratings........................................................33
[LIBERTY FUNDS LOGO]
Liberty Funds Distributor, Inc. (C)2001
One Financial Center, Boston, MA 02111-2621, 800-426-3750
www.libertyfunds.com
762-01/256E-1200
<PAGE>
<PAGE>
STATEMENT OF ADDITIONAL INFORMATION DATED JANUARY 1, 2001
LIBERTY FLOATING RATE ADVANTAGE FUND
One Financial Center, Boston, Massachusetts 02111
800-345-6611
This Statement of Additional Information is not a prospectus but provides
additional information that should be read in conjunction with the Fund's
Prospectus dated January 1, 2001 and any supplements thereto. A Prospectus may
be obtained at no charge by telephoning 800-426-3750.
TABLE OF CONTENTS
Page
The Fund ...................................................................2
Investment Policies.........................................................2
Portfolio Investments and Strategies........................................3
Investment Restrictions....................................................11
Other Investment Policies..................................................12
Repurchase Offer Fundamental Policy........................................12
Management of the Fund.....................................................13
Financial Statements.......................................................16
Principal Shareholders.....................................................17
Investment Advisory and Other Services.....................................17
Distributor................................................................18
Transfer Agent.............................................................21
Custodian..................................................................21
Independent Accountants....................................................21
Programs for Reducing or Eliminating Sales Charges.........................22
Portfolio Transactions.....................................................25
Additional Income Tax Considerations.......................................30
Investment Performance.....................................................31
Appendix -- Ratings........................................................33
762-16/258-1200
<PAGE>
THE FUND
Liberty Floating Rate Advantage Fund ("Fund") is a non-diversified,
closed-end management investment company. The Fund is engaged in a continuous
public offering of its shares. The Fund makes Repurchase Offers on a quarterly
basis to repurchase between 5% and 25% of its outstanding shares at the then
current net asset value of the shares. Capitalized terms used in this Statement
of Additional Information and not otherwise defined have the meanings given them
in the Fund's Prospectus. The Fund offers four classes of shares -- Classes A,
B, C, and Z. On July 14, 2000, the Fund's name was changed from Liberty-Stein
Roe Advisor Floating Rate Advantage Fund to Liberty Floating Rate Advantage
Fund.
Stein Roe & Farnham Incorporated ("Stein Roe") provides investment advisory
services to the Fund. Colonial Management Associates, Inc. ("Colonial") provides
administrative, accounting and recordkeeping services to the Fund.
Code of Ethics. The Fund, the Advisor, and LFD have adopted Codes of Ethics
pursuant to the requirements of the Act. These Codes of Ethics permit personnel
subject to the Codes to invest in securities, including securities that may be
purchased or held by the funds.
INVESTMENT POLICIES
The following information supplements the discussion of the investment
objectives and policies of the Fund described in the Prospectus. In pursuing its
objective, the Fund will invest as described below and may employ the investment
techniques described in the Prospectus and elsewhere in this Statement of
Additional Information. The investment objective is a non-fundamental policy and
may be changed by the Board without the approval of a "majority of the
outstanding voting securities"(1) of the Fund.
The investment objective of the Fund is to provide a high level of current
income, consistent with preservation of capital. To achieve this objective the
Fund invests primarily (at least 80% of its total assets) in a portfolio of
Senior Loans to Borrowers that operate in a variety of industries and geographic
regions (including domestic and foreign entities).
Under normal market conditions, at least 80% of the Fund's total assets
will be invested in Senior Loans of domestic Borrowers or foreign Borrowers (so
long as Senior Loans to such foreign Borrowers are U.S. dollar denominated and
payments of interest and repayments of principal pursuant to such Senior Loans
are required to be made in
-------------------
(1) A "majority of the outstanding voting securities" means the approval of the
lesser of (i) 67% or more of the shares at a meeting if the holders of more than
50% of the outstanding shares are present or represented by proxy or (ii) more
than 50% of the outstanding shares.
2
<PAGE>
U.S. dollars). Although most Senior Loans are secured, the Fund may invest up to
20% of its total assets in interests in Senior Loans that are not secured by any
collateral and in other permitted investments (as described below).
In addition, during normal market conditions, the Fund may invest up to 20%
of its total assets (including assets maintained by the Fund as a reserve
against any additional loan commitments) in (i) high quality, short-term debt
securities with remaining maturities of one year or less and (ii) warrants,
equity securities and, in limited circumstances, junior debt securities acquired
in connection with the Fund's investments in Senior Loans. Such high quality,
short-term securities may include commercial paper rated at least Baa, P-3 or
higher by Moody's or BBB, A-3 or higher by S&P (or if unrated, determined by
Stein Roe to be of comparable quality), interests in short-term loans and
short-term loan participations of Borrowers having short-term debt obligations
rated or a short-term credit rating at least in such rating categories (or
having no such rating, determined by Stein Roe to be of comparable quality),
certificates of deposit and bankers' acceptances and securities issued or
guaranteed by the U.S. government, its agencies or instrumentalities. Such high
quality, short-term securities may pay interest at rates that are periodically
redetermined or may pay interest at fixed rates. For more information, please
refer to the Prospectus under the caption "Investment Objectives and Policies."
PORTFOLIO INVESTMENTS AND STRATEGIES
The following sets forth information about the investment policies of the
Fund and the types of securities the Fund may buy. Please read this information
together with information in the Prospectus under the caption "How the Fund
Invests."
Senior Loans. Senior Loans generally are arranged through private
negotiations between a Borrower and the Lenders represented in each case by one
or more Agents of the several Lenders. Senior Loans in which the Fund will
purchase interests generally pay interest at rates that are periodically
redetermined by reference to a base lending rate plus a premium. These base
lending rates are generally Prime Rate, LIBOR, the CD rate or other base lending
rates used by commercial lenders. The Senior Loans in the Fund's investment
portfolio will at all times have a dollar-weighted average time until next
interest rate redetermination of 90 days or less. Because of prepayment
provisions, the economic maturity of Senior Loans may vary substantially from
the stated maturity of such loans. As a result of anticipated prepayments from
time to time of Senior Loans in the investment portfolio, based on historical
experience, Stein Roe believes that the economic maturity of Senior Loans in the
portfolio will be approximately 18-24 months.
Participations and Assignments. The Fund may invest in Participations in
Senior Loans, may purchase Assignments of portions of Senior Loans from third
parties and may act as one of the group of Primary Lenders.
3
<PAGE>
When the Fund purchases a Participation, the Fund will typically enter into
a contractual relationship with the Lender selling the Participation, but not
with the Borrower. As a result, the Fund will assume the credit risk of both the
Borrower and the Lender selling the Participation, and the Fund may not directly
benefit from the collateral supporting the Senior Loan in which it has purchased
the Participation. The Fund will purchase a Participation only when the Lender
selling the Participation, and any other institution interpositioned between
such Lender and the Fund at the time of investment have outstanding debt
obligations rated investment grade (BBB or A-3 or higher by S&P or Baa or P-3 or
higher by Moody's) or, if unrated, determined by Stein Roe to be of comparable
quality. The rights of the Fund when it acquires a Participation may be
different from, and more limited than, the rights of Primary Lenders or of
persons who acquire an Assignment. The Fund may pay a fee or forgo a portion of
interest payments to the Lender selling a Participation or Assignment pursuant
to the terms of such Participation or Assignment.
Debt Restructuring. The Fund may purchase and retain in its portfolio an
interest in a Senior Loan to a Borrower that has filed for protection under the
federal bankruptcy laws or has had an involuntary bankruptcy petition filed
against it by its creditors. Stein Roe's decision to purchase or retain such an
interest will depend on its assessment of the likelihood that the Fund
ultimately will receive full repayment of the principal amount of the Senior
Loan interests, the likely duration, if any, of a lapse in the scheduled
repayment of principal, and prevailing interest rates. At times, in connection
with the restructuring of a Senior Loan either outside of bankruptcy court or in
the context of bankruptcy court proceedings, the Fund may determine or be
required to accept equity securities or junior debt securities in exchange for
all or a portion of a Senior Loan interest. Depending upon, among other things,
Stein Roe's evaluation of the potential value of such securities in relation to
the price that could be obtained by the Fund at any given time upon sale
thereof, the Fund may determine to hold such securities in its portfolio. Any
equity security or junior debt security held by the Fund will not be treated as
a Senior Loan and thus will not count toward the 80% of total assets that
normally will be invested in Senior Loans.
Bridge Financing. The Fund may acquire interests in Senior Loans that are
designed to provide temporary or "bridge" financing to a Borrower pending the
sale of identified assets or the arrangement of longer-term loans or the
issuance and sale of debt obligations. A Borrower's use of a bridge loan
involves a risk that the Borrower may be unable to locate permanent financing to
replace the bridge loan, which may impair the Borrower's perceived
creditworthiness.
Other Securities. The Fund will acquire warrants, equity securities and
junior debt securities only as are incident to the purchase or intended purchase
of interests in collateralized Senior Loans. The Fund generally will acquire
interests in warrants, equity securities and junior debt securities only when
Stein Roe believes that the relative value being given by the Fund in exchange
for such interests is substantially outweighed by the potential value of such
instruments.
4
<PAGE>
Investment in warrants, equity securities and junior debt securities
entails certain risks in addition to those associated with investments in Senior
Loans. Warrants and equity securities have a subordinate claim on a Borrower's
assets as compared with debt securities, and junior debt securities have a
subordinate claim on such assets as compared with Senior Loans. As such, the
values of warrants and equity securities generally are more dependent on the
financial condition of the Borrower and less dependent on fluctuations in
interest rates than are the values of many debt securities. The values of
warrants, equity securities and junior debt securities may be more volatile than
those of Senior Loans and thus may have an adverse impact on the ability of the
Fund to minimize fluctuations in its net asset value.
Defensive Investment Policy. If Stein Roe determines that market conditions
temporarily warrant a defensive investment policy, the Fund may (but is not
required to) invest, subject to its ability to liquidate its relatively illiquid
portfolio of Senior Loans, up to 100% of its assets in cash and high quality,
short-term debt securities. The Fund may also engage in interest rate and other
hedging transactions, lend portfolio holdings, purchase and sell interests in
Senior Loans and other portfolio debt securities on a "when-issued" or
"delayed-delivery" basis, and enter into repurchase and reverse repurchase
agreements. These investment practices involve certain special risk
considerations. Stein Roe may use some or all of the following investment
practices when, in the opinion of Stein Roe, their use is appropriate. Although
Stein Roe believes that these investment practices may further the Fund's
investment objective, no assurance can be given that the utilization of these
investment practices will achieve that result.
Structured Notes. The Fund may invest up to 10% of its total assets in
structured notes, including "total rate of return swaps" with rates of return
determined by reference to the total rate of return on one or more loans
referenced in such notes. The rate of return on the structured note may be
determined by applying a multiplier to the rate of total return on the
referenced loan or loans. Application of a multiplier is comparable to the use
of financial leverage, which is a speculative technique. Leverage magnifies the
potential for gain and the risk of loss, because a relatively small decline in
the value of a referenced note could result in a relatively large loss in the
value of a structured note. Structured notes are treated as Senior Loans for
purposes of the Fund's policy of normally investing at least 80% of its assets
in Senior Loans.
Derivatives. The Fund may enter into various interest rate hedging and risk
management transactions. Certain of these interest rate hedging and risk
management transactions may be considered to involve derivative instruments. A
derivative is a financial instrument whose performance is derived at least in
part from the performance of an underlying index, security or asset. The values
of certain derivatives can be affected dramatically by even small market
movements, sometimes in ways that are difficult to predict. There are many
different types of derivatives with many different uses. The Fund expects to
enter into these transactions primarily to seek to preserve a return on a
particular investment or portion of its portfolio, and may also enter into such
5
<PAGE>
transactions to seek to protect against decreases in the anticipated rate of
return on floating or variable rate financial instruments the Fund owns or
anticipates purchasing at a later date, or for other risk management strategies
such as managing the effective dollar-weighted average duration of the Fund's
investment portfolio.
Hedging Transactions. In addition, the Fund may also engage in hedging
transactions, including entering into put and call options, to seek to protect
the value of its portfolio against declines in net asset value resulting from
changes in interest rates or other market changes. Market conditions will
determine whether and in what circumstances the Fund would employ any hedging
and risk management techniques. The Fund will not engage in any of the
transactions for speculative purposes and will use them only as a means to hedge
or manage the risks associated with assets held in, or anticipated to be
purchased for, the investment portfolio or obligations incurred by the Fund. The
successful utilization of hedging and risk management transactions requires
skills different from those needed in the selection of portfolio securities. The
Fund will incur brokerage and other costs in connection with its hedging
transactions.
Interest Rate Swaps, Caps and Floors. The Fund may enter into interest rate
swaps or purchase or sell interest rate caps or floors. The Fund will not sell
interest rate caps or floors that it does not own. Interest rate swaps involve
the exchange by the Fund with another party of their respective obligations to
pay or receive interest; e.g., an exchange of an obligation to make floating
rate payments for an obligation to make fixed rate payments. For example, the
Fund may seek to shorten the effective interest rate redetermination period of a
Senior Loan to a Borrower that has selected an interest rate redetermination
period of one year. The Fund could exchange the Borrower's obligation to make
fixed rate payments for one year for an obligation to make payments that
readjust monthly. In such event, the Fund would consider the interest rate
redetermination period of such Senior Loan to be the shorter period.
The purchase of an interest rate cap entitles the purchaser, to the extent
that a specified index exceeds a predetermined interest rate, to receive
payments of interest at the difference between the index and the predetermined
rate on a notional principal amount (the reference amount with respect to which
interest obligations are determined although no actual exchange of principal
occurs) from the party selling such interest rate cap. The purchase of an
interest rate floor entitles the purchaser, to the extent that a specified index
falls below a predetermined interest rate, to receive payments of interest at
the difference between the index and the predetermined rate on a notional
principal amount from the party selling such interest rate floor. The Fund will
not enter into swaps, caps or floors, if, on a net basis, the aggregate notional
principal amount with respect to such agreements exceeds the net assets of the
Fund.
In circumstances in which Stein Roe anticipates that interest rates will
decline, the Fund might, for example, enter into an interest rate swap as the
floating rate payor or, alternatively, purchase an interest rate floor. In the
case of purchasing an interest rate floor, if interest rates declined below the
floor rate, the Fund would receive payments
6
<PAGE>
from its counterparty that would wholly or partially offset the decrease in the
payments it would receive with respect to the portfolio assets being hedged. In
the case where the Fund purchases such an interest rate swap, if the floating
rate payments fell below the level of the fixed rate payment set in the swap
agreement, the Fund's counterparty would pay the Fund amounts equal to interest
computed at the difference between the fixed and floating rates over the
notional principal amount. Such payments would offset or partially offset the
decrease in the payments the Fund would receive with respect to floating rate
portfolio assets being hedged.
The successful use of swaps, caps and floors to preserve the rate of return
on a portfolio of Senior Loans depends on Stein Roe's ability to predict
correctly the direction and extent of movements in interest rates. Although
Stein Roe believes that use of the hedging and risk management techniques
described above will benefit the Fund, if Stein Roe's judgment about the
direction or extent of the movement in interest rates is incorrect, the Fund's
overall performance could be worse than if it had not entered into any such
transaction. For example, if the Fund had purchased an interest rate swap or an
interest rate floor to hedge against its expectation that interest rates would
decline but instead interest rates rose, the Fund would lose part or all of the
benefit of the increased payments it would receive as a result of the rising
interest rates because it would have to pay amounts to its counterparty under
the swap agreement or would have paid the purchase price of the interest rate
floor.
Inasmuch as these hedging transactions are entered into for good-faith risk
management purposes, Stein Roe and the Fund believe such obligations do not
constitute senior securities. The Fund will usually enter into interest rate
swaps on a net basis; i.e., where the two parties make net payments with the
Fund receiving or paying, as the case may be, only the net amount of the two
payments. The net amount of the excess, if any, of the Fund's obligations over
its entitlements with respect to each interest rate swap will be accrued and an
amount of cash or liquid securities having an aggregate net asset value at least
equal to the accrued excess will be maintained. If the Fund enters into a swap
on other than a net basis, the Fund will maintain the full amount of its
obligations under each such swap. Accordingly, the Fund does not treat swaps as
senior securities. The Fund may enter into swaps, caps and floors with member
banks of the Federal Reserve System, members of the New York Stock Exchange
(NYSE) or other entities determined to be creditworthy by Stein Roe, pursuant to
procedures adopted and reviewed on an ongoing basis by the Board. If a default
occurs by the other party to such transactions, the Fund will have contractual
remedies pursuant to the agreements related to the transaction, but such
remedies may be subject to bankruptcy and insolvency laws that could affect the
Fund's rights as a creditor. The swap market has grown substantially in recent
years with a large number of banks and financial services firms acting both as
principals and as agents utilizing standardized swap documentation. As a result,
the swap market has become relatively liquid. Caps and floors are more recent
innovations and they are less liquid than swaps. There can be no assurance,
however, that the Fund will be able to enter into interest rate swaps or to
purchase interest rate caps or floors at prices or on terms Stein Roe believes
are advantageous to the Fund. In addition, although the terms of
7
<PAGE>
interest rate swaps, caps and floors may provide for termination, there can be
no assurance that the Fund will be able to terminate an interest rate swap or to
sell or offset interest rate caps or floors that it has purchased.
New Financial Products. New financial products continue to be developed and
the Fund may invest in any such products as may be developed to the extent
consistent with its investment objective and the regulatory and federal tax
requirements applicable to investment companies.
Borrowing. The Fund is authorized to borrow money in an amount up to
33 1/3% of the Fund's total assets (after giving effect to the amount borrowed).
The Fund is authorized to borrow money for the purpose of financing long-term
investments, obtaining short-term liquidity in connection with quarterly
repurchase offers and for temporary, extraordinary or emergency purposes. The
use of leverage for investment purposes creates opportunities for greater total
returns but at the same time involves certain risks. Any investment income or
gains earned with respect to the amounts borrowed, which is in excess of the
interest which is due on the borrowing, will augment the Fund's income.
Conversely, if the investment performance with respect to the amounts borrowed
fails to cover the interest on such borrowings, the value of the Fund's shares
may decrease more quickly than would otherwise be the case and dividends on the
shares would be reduced or eliminated. Interest payments and fees incurred in
connection with such borrowings will reduce the amount of net income available
for distribution to the holders of Shares.
Lending of Portfolio Holdings. The Fund may seek to increase its income by
lending financial instruments in its portfolio in accordance with present
regulatory policies, including those of the Board of Governors of the Federal
Reserve System and the SEC. Such loans may be made, without limit, to brokers,
dealers, banks or other recognized institutional Borrowers of financial
instruments and would be required to be secured continuously by collateral,
including cash, cash equivalents or U.S. Treasury bills maintained on a current
basis at an amount at least equal to the market value of the financial
instruments loaned. The Fund would have the right to call a loan and obtain the
financial instruments loaned at any time on five days' notice. For the duration
of a loan, the Fund would continue to receive the equivalent of the interest
paid by the issuer on the financial instruments loaned and also would receive
compensation from the investment of the collateral. The Fund would not have the
right to vote any financial instruments having voting rights during the
existence of the loan, but the Fund could call the loan in anticipation of an
important vote to be taken among holders of the financial instruments or in
anticipation of the giving or withholding of their consent on a material matter
affecting the financial instruments. As with other extensions of credit, such
loans entail risks of delay in recovery or even loss of rights in the collateral
should the Borrower of the financial instruments fail financially. However, the
loans would be made only to borrowers deemed by Stein Roe to be of good standing
and when, in the judgment of Stein Roe, the consideration that can be earned
currently from loans of this type justifies the attendant risk. The
creditworthiness of firms to which the Fund lends its portfolio
8
<PAGE>
holdings will be monitored on an ongoing basis by Stein Roe pursuant to
procedures adopted and reviewed, on an ongoing basis, by the Board. No specific
limitation exists as to the percentage of the Fund's assets that the Fund may
lend.
"When-Issued" and "Delayed-Delivery" Transactions. The Fund may also
purchase and sell interests in Senior Loans and other portfolio securities on a
"when-issued" and "delayed-delivery" basis. No income accrues to the Fund on
such Senior Loans in connection with such purchase transactions prior to the
date the Fund actually takes delivery of such Senior Loans. These transactions
are subject to market fluctuation, the value of the interests in Senior Loans
and other portfolio debt securities at delivery may be more or less than their
purchase price, and yields generally available on such Senior Loans when
delivery occurs may be higher or lower than yields on the Senior Loans obtained
pursuant to such transactions. Because the Fund relies on the buyer or seller,
as the case may be, to consummate the transaction, failure by the other party to
complete the transaction may result in the Fund missing the opportunity of
obtaining a price or yield considered to be advantageous. When the Fund is the
buyer in such a transaction, however, it will maintain cash or liquid securities
having an aggregate value at least equal to the amount of such purchase
commitments until payment is made. The Fund will make commitments to purchase
such Senior Loans on such basis only with the intention of actually acquiring
these Senior Loans, but the Fund may sell such Senior Loans prior to the
settlement date if such sale is considered to be advisable. To the extent the
Fund engages in "when-issued" and "delayed-delivery" transactions, it will do so
for the purpose of acquiring Senior Loans for its investment portfolio
consistent with its investment objective and policies and not for the purpose of
investment leverage. No specific limitations exist as to the percentage of the
Fund's assets that may be used to acquire securities on a "when-issued" or
"delayed-delivery" basis.
Repurchase Agreements. The Fund may enter into repurchase agreements (a
purchase of, and simultaneous commitment to resell, a financial instrument at an
agreed upon price on an agreed upon date) only with member banks of the Federal
Reserve System and member firms of the NYSE. In entering into a repurchase
agreement, the Fund buys securities from the bank or broker-dealer, with the
agreement that the seller will repurchase the securities at a higher price at a
later date. Such transactions afford an opportunity for the Fund to earn a
return on available liquid assets at minimal market risk, although the Fund may
be subject to various delays and risks of loss if the counterparty is unable to
meet its obligation to repurchase. Under the 1940 Act, repurchase agreements are
deemed to be collateralized loans of money by the Fund to the counterparty. In
evaluating whether to enter into a repurchase agreement, Stein Roe will consider
carefully the creditworthiness of the counterparty. If the bank or broker-dealer
that is the seller petitions for bankruptcy or otherwise becomes subject to the
U.S. Bankruptcy Code, the law regarding the rights of the Fund is unsettled. The
securities underlying a repurchase agreement will be marked to market every
business day and adjusted in amount so that the value of the collateral is at
least equal to the value of the loan, including the accrued interest thereon,
and Stein Roe will monitor the value of the collateral. No specific
9
<PAGE>
limitation exists as to the percentage of the Fund's assets that may be invested
in repurchase agreements.
Reverse Repurchase Agreements. The Fund may enter into reverse repurchase
agreements with respect to debt obligations that could otherwise be sold by the
Fund. Under a reverse repurchase agreement, the Fund sells a debt security and
simultaneously obtain the commitment of the purchaser (a commercial bank or a
broker-dealer) to sell the security back to the Fund at an agreed upon price on
an agreed upon date. The Fund will maintain cash or liquid securities in an
amount sufficient to cover its obligations with respect to reverse repurchase
agreements. The Fund receives payment for such securities only upon physical
delivery or evidence of book entry transfer by its custodian. SEC regulations
require either that securities sold by the Fund under a reverse repurchase
agreement be segregated pending repurchase or that the proceeds be segregated on
the Fund's books and records pending repurchase. Reverse repurchase agreements
could involve certain risks in the event of default or insolvency of the other
party, including possible delays or restrictions upon the Fund's ability to
dispose of the underlying securities. An additional risk is that the market
value of securities sold by the Fund under a reverse repurchase agreement could
decline below the price at which the Fund is obligated to repurchase them.
Reverse repurchase agreements are considered borrowings by the Fund and as such
are subject to the restrictions on borrowing described below under "Investment
Restrictions." The Fund will not hold more than 5% of the value of its total
assets in reverse repurchase agreements as of the time the agreement is entered
into.
Rated Securities. For a description of the ratings applied by Moody's and
S&P to short-term securities, please refer to the Appendix. The rated short-term
securities described under Investment Policies above include securities given a
rating conditionally by Moody's or provisionally by S&P. If the rating of a
security held by the Fund is withdrawn or reduced, the Fund is not required to
sell the security, but Stein Roe will consider such fact in determining whether
the Fund should continue to hold the security.
Portfolio Turnover. The frequency and amount of portfolio purchases and
sales (known as the "turnover rate") will vary from year to year. It is
anticipated that the Fund's turnover rate will be between 50% and 100%. The
portfolio turnover rate is not expected to exceed 100%, but may vary greatly
from year to year and will not be a limiting factor when Stein Roe deems
portfolio changes appropriate. Although the Fund generally does not intend to
trade for short-term profits, the securities held by the Fund will be sold
whenever Stein Roe believes it is appropriate to do so, without regard to the
length of time a particular security may have been held. Higher portfolio
turnover involves correspondingly greater brokerage commissions and other
transaction costs that the Fund will bear directly.
10
<PAGE>
INVESTMENT RESTRICTIONS
The Fund operates under the following fundamental investment restrictions.
The Fund may:
(1) issue senior securities or borrow money to the extent permitted by the
1940 Act;
(2) only own real estate acquired as a result of owning securities;
(3) purchase and sell futures contracts and related options;
(4) underwrite securities issued by others only when disposing of
portfolio securities;
(5) make loans through lending of securities, through the purchase of debt
instruments or similar evidence of indebtedness typically sold to
financial institutions and through repurchase agreements;
(6) not concentrate more than 25% of its total assets in any one industry;
provided that this limitation shall not apply with respect to
obligations issued or guaranteed by the U.S. government or by its
agencies or instrumentalities; and provided further that the fund will
invest more than 25% and may invest up to 100% of its assets in
securities of issuers in the industry group consisting of financial
institutions and their holding companies, including commercial banks,
thrift institutions, insurance companies and finance companies. For
purposes of this restriction, the term "issuer" includes the Borrower
and the Agent (as defined under "Prospectus Summary" in the
Prospectus); and
(7) not purchase or sell commodities or commodities contracts, except
that, consistent with its investment policies, the Fund may purchase
and sell financial futures contracts and options and may enter into
swap agreements, foreign exchange contracts and other financial
transactions not requiring the delivery of physical commodities.
The above restrictions are fundamental policies and may not be changed
without the approval of a "majority of the outstanding voting securities," as
defined under "Investment Policies" above. The restrictions and other
limitations set forth above will apply only at the time of purchase of
securities and will not be considered violated unless an excess or deficiency
occurs or exists immediately after and as a result of an acquisition of
securities. Notwithstanding the investment policies and restrictions of the
Fund, the Fund may invest all or a portion of its investable assets in
investment companies with substantially the same investment objective, policies
and restrictions as the Fund.
11
<PAGE>
OTHER INVESTMENT POLICIES
As non-fundamental investment policies which may be changed by the Trust
without a shareholder vote, the Fund may not:
1. purchase securities on margin, but it may receive short-term credit to
clear securities transactions and may make initial or maintenance
margin deposits in connection with futures transactions; and
2. invest in interests in oil, gas or other mineral exploration or
development programs, including leases.
REPURCHASE OFFER FUNDAMENTAL POLICY
The Board has adopted a resolution setting forth the Fund's fundamental
policy that it will conduct quarterly Repurchase Offers (the "Repurchase Offer
Fundamental Policy").
The Repurchase Offer Fundamental Policy sets the interval between each
Repurchase Offer at one quarter and provides that the Fund shall conduct a
Repurchase Offer each quarter (unless suspended or postponed in accordance with
regulatory requirements). The Repurchase Request Deadline will be established by
the Fund and will be based on factors such as market conditions, liquidity of
the Fund's assets and shareholder servicing conditions. The Repurchase Offer
Fundamental Policy also provides that the repurchase pricing shall occur not
later than the fourteenth day after the Repurchase Request Deadline or the next
business day if the fourteenth day is not a business day.
The Repurchase Offer Fundamental Policy may be changed only by a majority
vote of the outstanding voting securities. For more information, please refer to
the Prospectus under the caption "Periodic Repurchase Offers."
12
<PAGE>
MANAGEMENT OF THE FUND
TRUSTEES AND OFFICERS
---------------------
<TABLE>
<S> <C> <C> <C>
Tom Bleasdale 70 Trustee Retired (formerly Chairman of the Board and Chief
102 Clubhouse Drive #275 Executive Officer, Shore Bank & Trust Company from 1992
Naples, Florida 34105 to 1993); Director of Empire Co.
Lora S. Collins 64 Trustee Attorney (formerly Attorney, Kramer, Levin, Naftalis &
1175 Hill Road Frankel from September, 1986 to November, 1996).
Southold, NY 11971
James E. Grinnell 71 Trustee Private Investor since November, 1988.
63 Leicester Road
Marblehead, MA 01945
Richard W. Lowry 64 Trustee Private Investor since August, 1987.
10701 Charleston Drive
Vero Beach, FL 32963
Salvatore Macera 69 Trustee Private Investor (formerly Executive Vice President and
26 Little Neck Lane Director of Itek Corporation (electronics) from 1975 to
New Seabury, MA 02649 1981).
William E. Mayer* 60 Trustee Partner, Park Avenue Equity Partners (venture capital)
500 Park Avenue, 5th Floor (formerly Dean, College of Business and Management,
New York, NY 10022 University of Maryland from October, 1992 to November,
1996); Director, Johns Manville; Director, Lee
Enterprises; Director, WR Hambrecht & Co.
James L. Moody, Jr. 68 Trustee Retired (formerly Chairman of the Board, Hannaford Bros.
16 Running Tide Road Co. (food retailer) from May, 1984 to May, 1997, and
Cape Elizabeth, ME 04107 Chief Executive Officer, Hannaford Bros. Co. from May,
1973 to May, 1992).
John J. Neuhauser 57 Trustee Academic Vice President and Dean of Faculties since
84 College Road August, 1999, Boston College (formerly Dean, Boston
Chestnut Hill, MA 02467-3838 College School of Management from September, 1977 to
September, 1999).
Joseph R. Palombo* 47 Trustee Chief Operations Officer of Mutual Funds, Liberty
Financial Companies, Inc. since August, 2000; Executive
Vice President and Director of the Advisor since April,
1999; Executive Vice President and Chief Administrative
Officer of LFG since April, 1999; Director of Stein Roe &
Farnham Incorporated (SR&F) since September 1, 2000;
Trustee and Chairman of the Board of the Stein Roe Mutual
Funds since October, 2000; Manager of Stein Roe Floating
Rate Limited Liability Company since October, 2000
(formerly Vice President of the Funds from April, 1999 to
August, 2000 and Chief Operating Officer, Putnam Mutual
Funds from 1994 to 1998).
Thomas E. Stitzel 64 Trustee Business Consultant (formerly Professor of Finance from
2208 Tawny Woods Place 1975 to 1999 and Dean from 1977 to 1991, College of
Boise, ID 83706 Business, Boise State University); Chartered Financial
Analyst.
</TABLE>
13
<PAGE>
<TABLE>
<S> <C> <C> <C>
Anne-Lee Verville 55 Trustee Consultant (formerly General Manager, Global Education
359 Stickney Hill Road Industry from 1994 to 1997, and President, Applications
Hopkinton, NH 03229 Solutions Division from 1991 to 1994, IBM Corporation
(global education and global applications)).
J. Kevin Connaughton 36 Treasurer, Chief Treasurer, Chief Financial Officer and Chief Accounting
Financial Officer of the Funds and of the Liberty All-Star Funds
Officer and since December, 2000 (formerly Controller and Chief
Chief Accounting Accounting Officer of the Funds from February, 1998 to
Officer October, 2000); Vice President of the Advisor since
February, 1998 (formerly Senior Tax Manager, Coopers &
Lybrand, LLP from April, 1996 to January, 1998; Vice
President, 440 Financial Group/First Data Investor Services
Group from March, 1994 to April, 1996).
Michael G. Clarke 31 Controller Controller of the Funds and of the Liberty All-Star Funds
since December, 2000, Assistant Vice President of the
Advisor since August, 1999; Assistant Vice President of
LFG since April, 2000 (formerly Audit Manager from May,
1997 to August, 1999, Audit Senior Accountant from
September, 1995 to May, 1997 and Audit Staff Accountant
from September, 1993 to September, 1995 of Deloitte &
Touche LLP).
Stephen E. Gibson 47 President President of the Liberty Funds since June, 1998;
President of Liberty-Stein Roe Mutual Funds since
November, 1999; Chairman of the Board since July, 1998,
Chief Executive Officer and President since December,
1996 and Director, since July, 1996 of the Advisor
(formerly Executive Vice President from July, 1996 to
December, 1996); Director, Chief Executive Officer and
President of LFG since December, 1998 (formerly Director,
Chief Executive Officer and President of The Colonial
Group, Inc. (TCG) from December, 1996 to December, 1998);
Director since September 1, 2000, President and Vice
Chairman of SR&F since January, 2000 (formerly Assistant
Chairman from August, 1998 to January, 2000) (formerly
Managing Director of Marketing of Putnam Investments from
June, 1992 to July, 1996).
William J. Ballou 35 Secretary Secretary of the Liberty Funds and of the Liberty
All-Star Funds since October, 2000 (formerly Assistant
Secretary from October, 1997 to October, 2000); Secretary
of the Liberty-Stein Roe Mutual Funds since November,
2000 (formerly Assistant Secretary from May, 2000 to
October, 2000); Vice President, Assistant Secretary and
Counsel of Colonial since October, 1997; Vice President
and Counsel since April, 2000, and Assistant Secretary
since December, 1998 of LFG (formerly Associate Counsel,
Massachusetts Financial Services Company from May, 1995
to September, 1997).
Kevin M. Carome 44 Executive Vice Executive Vice President of Liberty Funds and of the
President Liberty All-Star Funds since October, 2000; Executive
Vice President of the Liberty-Stein Roe Mutual Funds
since May, 1999 (formerly Vice President from
April, 1998 to May, 1999, Assistant Secretary from
April, 1998 to February, 2000 and Secretary from
February, 2000 to May, 2000); Chief Legal Officer of
Liberty Financial Companies, Inc. (Liberty Financial)
since August, 2000; Senior Vice President, Legal
since January, 1999 of LFG; General Counsel and
Secretary of Stein Roe & Farnham, Inc. since January,
1998; Associate General Counsel and Vice President of
Liberty Financial through January, 1999.
</TABLE>
14
<PAGE>
-------------------
*Denotes those Trustees who are "interested persons" (as defined in the
Investment Company Act of 1940, as amended (the "1940 Act")) of the Fund or
Stein Roe. Mr. Palombo is an "interested person" as defined in the 1940 Act
because of his affiliation with Liberty Financial Companies, Inc., an indirect
parent company of the Advisor. Mr. Mayer is an "interested person" as defined in
the 1940 Act because he is a director of Hambrecht & Quist Incorporated, a
registered broker-dealer.
The Trustees of the Fund are also directors or trustees, as the case may be, of
Liberty Funds Trust I, Liberty Funds Trust II, Liberty Funds Trust III, Liberty
Funds Trust IV, Liberty Funds Trust V, Liberty Funds Trust VI, Liberty Funds
Trust VII, Liberty Funds Trust VIII, Liberty Variable Investment Trust ("LVIT"),
Colonial Municipal Income Trust, Colonial High Income Municipal Trust, Colonial
Investment Grade Municipal Trust, Colonial California Insured Municipal Fund,
Colonial Insured Municipal Fund, Colonial New York Insured Municipal Fund,
Colonial Intermediate High Income Fund, and Colonial InterMarket Income Trust I
(collectively, each trust or any series thereof termed the "Liberty Funds").
The Trustees serve as trustees of all Liberty Funds for which each Trustee
(except Mr. Palombo) receives an annual retainer of $45,000 and attendance fees
of $8,000 for each regular joint meeting and $1,000 for each special joint
meeting. Committee chairs and the lead Trustee receive an annual retainer of
$1,000 and Committee chairs receive $1,000 for each special meeting attended on
a day other than a regular joint meeting day. Committee members receive an
annual retainer of $1,000 and $1,000 for each special meeting attended on a day
other than a regular joint meeting day. Two-thirds of the Trustee fees are
allocated among the Liberty Funds based on each Liberty Fund's relative net
assets, and one-third of the fees are divided equally among the Liberty Funds.
TRUSTEES AND TRUSTEES' FEES
The Trustees received the amounts set forth below for the fiscal year ended
August 31, 2000. For the calendar year ended December 31, 1999, the Trustees
received the compensation set forth below for serving as trustees of the Liberty
Funds.(a)
<TABLE>
<CAPTION>
TOTAL COMPENSATION FROM THE FUND
COMPENSATION FROM THE FUND COMPLEX PAID TO THE TRUSTEES FOR
FOR THE FISCAL YEAR ENDED THE CALENDAR YEAR ENDED
TRUSTEE AUGUST 31, 2000 DECEMBER 31, 1999(b)
------- --------------- --------------------
<S> <C> <C>
Tom Bleasdale $239(c) $103,000(d)
John V. Carberry (e)(f) N/A N/A
Lora S. Collins 204 96,000
James E. Grinnell 216 100,000
Richard W. Lowry 221 97,000
Salvatore Macera 210 95,000
William E. Mayer 213 101,000
James L. Moody, Jr. 233(g) 91,000(h)
John J. Neuhauser 217 101,252
Joseph R. Palombo (i)(j) N/A N/A
Thomas E. Stitzel 210 95,000
Robert L. Sullivan(k) 44 104,100
Anne-Lee Verville 207(l) 96,000(m)
</TABLE>
(a) Neither the Fund nor the Fund Complex currently provides pension or
retirement plan benefits to the Trustees.
(b) At December 31, 1999, the complex consisted of 63 open-end and 10
closed-end management investment portfolios in the Liberty Funds (together,
the "Fund Complex").
(c) Include $77 payable in later years as deferred compensation.
(d) Includes $52,000 payable in later years as deferred compensation.
15
<PAGE>
(e) Did not receive compensation because he is an affiliated Trustee and
employee of Liberty Financial Companies, Inc. ("Liberty Financial").
(f) Resigned as Trustee of the Trust on August 4, 2000.
(g) Total compensation of $233 for the fiscal year ended August 31, 2000, will
be payable in later years as deferred compensation.
(h) Total compensation of $91,000 for the calendar year ended December 31,
1999, will be payable in later years as deferred compensation.
(i) Elected by the Trustees of the Liberty Funds on August 23, 2000.
(j) Does not receive compensation because he is an affiliated Trustee and
employee of the Advisor.
(k) Retired as a Trustee of the Liberty Funds on April 30, 2000.
(l) Total compensation of $207 for the fiscal year ended August 31, 2000, will
be payable in later years as deferred compensation.
(m) Total compensation of $96,000 for the calendar year ended December 31,
1999, will be payable in later years as deferred compensation.
For the fiscal year ended December 31, 1999, some of the Trustees received the
following compensation in their capacities as trustees or directors of Liberty
All-Star Equity Fund, Liberty All-Star Growth Fund, Inc. and Liberty Funds Trust
IX (together, the "Liberty All-Star Funds").
<TABLE>
<CAPTION>
TOTAL COMPENSATION FROM
LIBERTY ALL-STAR FUNDS FOR THE
CALENDAR YEAR ENDED
TRUSTEE DECEMBER 31, 1999(n)
------- --------------------
<S> <C>
John V. Carberry(o)(p) N/A
James E. Grinnell $25,000
Richard W. Lowry 25,000
William E. Mayer 25,000
John J. Neuhauser 25,000
</TABLE>
(n) The Liberty All-Star Funds are advised by Liberty Asset Management Company
("LAMCO"). LAMCO is an indirect wholly owned subsidiary of Liberty
Financial (an intermediate parent of the Advisor).
(o) Did not receive compensation because he was an affiliated trustee and
employee of Liberty Financial.
(p) Resigned as a Trustee/Director of the Liberty All-Star Funds on August 4,
2000.
FINANCIAL STATEMENTS
Please refer to the Fund's August 31, 2000 Financial Statements (statement
of assets and liabilities and schedules of investments as of August 31, 2000 and
the statement of operations, changes in net assets, and notes thereto) and the
report of independent accountants contained in the August 31, 2000 Annual Report
of the Fund. The Financial Statements and the report of independent accountants
(but no other material from the Annual Report) are incorporated herein by
reference. The Annual Report may be obtained at no charge by telephoning
800-422-3737.
16
<PAGE>
PRINCIPAL SHAREHOLDERS
As of November 30, 2000, the only person(s) known by the Fund to own of
record or "beneficially" 5% or more of its outstanding shares within the
definition of that term as contained in Rule 13d-3 under the Securities Exchange
Act of 1934 were as follows:
<TABLE>
<CAPTION>
PERCENTAGE & NUMBER OF
NAME AND ADDRESS OUTSTANDING SHARES HELD
---------------- -----------------------
CLASS A CLASS B CLASS C CLASS Z
------- ------- ------- -------
<S> <C> <C> <C> <C>
Keyport Life Insurance Company
125 High Street 889,248.8400 887,271.0150 222,149.3120 223,433.5060
Boston, MA 02110-2704 (11.68%) (30.91%) (8.69%) (99.01%)
</TABLE>
INVESTMENT ADVISORY AND OTHER SERVICES
Stein Roe provides portfolio management services to the Fund. Stein Roe is
a wholly owned subsidiary of Stein Roe Services Inc., which is a wholly owned
subsidiary of Liberty Financial Companies, Inc. ("Liberty Financial"), which is
a majority owned subsidiary of Liberty Corporate Holdings, Inc., which is a
wholly owned subsidiary of LFC Holdings, Inc., which is a wholly owned
subsidiary of Liberty Mutual Equity Corporation, which is a wholly owned
subsidiary of Liberty Mutual Insurance Company. Liberty Mutual Insurance Company
is a mutual insurance company, principally in the property/casualty insurance
field, organized under the laws of Massachusetts in 1912. As of September 30,
2000, Stein Roe managed over $24.2 billion in assets.
On November 1, 2000, Liberty Financial announced that it had retained CS
First Boston to help it explore strategic alternatives, including the possible
sale of Liberty Financial.
The directors of Stein Roe are C. Allen Merritt, Jr., J. Andrew Hilbert,
Stephen E. Gibson and Joseph R. Palombo. Mr. Merritt is Chief Operating Officer
of Liberty Financial. Mr. Hilbert is Senior Vice President and Chief Financial
Officer of Liberty Financial. The positions held by Messrs. Gibson and Palombo
are listed above. The business address of Messrs. Merritt and Hilbert is Federal
Reserve Plaza, Boston, MA 02210. The business address of Messrs. Gibson and
Palombo is One Financial Center, Boston, MA 02111.
Please refer to the descriptions of Stein Roe, the management and
administrative agreements, fees, expense limitation, and transfer agency
services under "Management of the Fund" and "Fund Expenses" in the Prospectus,
which are incorporated herein by reference. For the period ended August 31,
2000, the Fund paid Stein Roe $142 (in thousands) in management fees.
17
<PAGE>
Stein Roe provides office space and executive and other personnel to the
Fund and bears any sales or promotional expenses. The Fund pays all expenses
other than those paid by Stein Roe, including but not limited to printing and
postage charges, securities registration and custodian fees, and expenses
incidental to its organization.
The management agreement provides that neither Stein Roe nor any of its
directors, officers, stockholders (or partners of stockholders), agents, or
employees shall have any liability to the Fund or any shareholder of the Fund
for any error of judgment, mistake of law or any loss arising out of any
investment, or for any other act or omission in the performance by Stein Roe of
its duties under the agreement, except for liability resulting from willful
misfeasance, bad faith or gross negligence on its part in the performance of its
duties or from reckless disregard by Stein Roe of its obligations and duties
under the agreement.
Any expenses that are attributable solely to the organization, operation,
or business of the Fund shall be paid solely out of the Fund's assets. Any
expenses incurred by the Fund that are not solely attributable to the Fund are
apportioned in such manner as Stein Roe determines is fair and appropriate,
unless otherwise specified by the Board.
ADMINISTRATIVE SERVICES
Pursuant to a separate agreement with the Fund, Colonial provides
administrative and accounting services to the Fund. For these services, Colonial
receives an annual fee of 0.20% of average net assets, including assets
representing leverage. For the period ended August 31, 2000, the Fund paid
Colonial $64 (in thousands) for services performed under this agreement.
BOOKKEEPING AND ACCOUNTING
Pursuant to a separate agreement with the Fund, Colonial receives a fee for
performing certain bookkeeping and accounting services. For these services,
Colonial receives an annual fee of $27,000 plus .035% of average net assets over
$50 million. For the period ended August 31, 2000, the Fund paid Colonial $15
(in thousands) for services performed under this agreement.
DISTRIBUTOR
Shares of the Fund are distributed by Liberty Funds Distributor, Inc.
("Distributor" or "LFD"), One Financial Center, Boston, MA 02111, under a
Distribution Agreement (the "Agreement"). The Distributor is a subsidiary of
Colonial, which is an indirect subsidiary of Liberty Financial. The Agreement
continues in effect from year to year, provided such continuance is approved
annually (1) by a majority of the Board or by a majority of the outstanding
voting securities of the Fund, and (2) by a majority of the trustees who are not
parties to the Agreement or interested persons of any such party. The Fund has
agreed to pay all expenses in connection with registration of its shares with
the Securities and Exchange Commission and auditing and filing fees in
connection with
18
<PAGE>
registration of its shares under the various state blue sky laws and assumes the
cost of preparation of the prospectus and other expenses.
SALES-RELATED EXPENSES (in thousands) of the Distributor relating to the Fund
for the period ended August 31, 2000 were:
<TABLE>
<CAPTION>
CLASS A CLASS B CLASS C
------- ------- -------
<S> <C> <C> <C>
Fees to FSFs $425 $1,024 $35
Cost of sales material relating to the Fund
(including printing and mailing expenses) 233 46 54
Allocated travel, entertainment and other
promotional expenses (including advertising) 219 43 51
</TABLE>
DISTRIBUTION AND SERVICE FEES
In addition to an early withdrawal charge, each of Class A, B, and C of
shares is authorized under a distribution plan (Plan) to use the assets
attributable to a class to finance certain activities relating to the
distribution of shares to investors. These include marketing and other
activities to support the distribution of the Class A, B, and C shares and the
services provided to you by your financial advisor. The Plan was approved and
reviewed in a manner consistent with Rule 12b-1 under the 1940 Act, which
regulates the manner in which an open-end investment company may directly or
indirectly bear the expenses of distributing its shares. Although the Fund is
not an open-end investment company, it has undertaken to comply with the terms
of Rule 12b-1 as a condition of an exemptive order under the 1940 Act to permit
it to have a multi-class structure, early withdrawal charges, and distribution
fees.
Under the Plan, distribution and service fees paid by the Fund to the
Distributor may equal up to an annual rate of 0.35% of average daily net assets
attributable to Class A shares, 0.70% of average daily net assets attributable
to Class B shares, and 0.85% of average daily net assets attributable to Class C
shares, respectively. Since the distribution and service fees are payable
regardless of the Distributor's expenses, the Distributor may realize a profit
from the fees. The Plan authorizes any other payments by the Fund to the
Distributor and its affiliates to the extent that such payments might be
construed to be indirect financing of the distribution of Fund shares.
The trustees believe that the Plan could be a significant factor in the
growth and retention of Fund assets resulting in a more advantageous expense
ratio and increased investment flexibility which could benefit each class of
Fund shareholders. The Plan will continue in effect from year to year so long as
continuance is specifically approved at least annually by a vote of the
trustees, including the trustees who are not interested persons of the Fund and
who have no direct or indirect financial interest in the operation of the Plan
or in any agreements related to the Plan (Independent Trustees), cast in person
at a meeting called for the purpose of voting on the Plan. The Plan may not be
amended to increase the fee materially without approval by a vote of a majority
of the outstanding
19
<PAGE>
voting securities of the relevant class of shares and all material amendments of
the Plan must be approved by the trustees in the manner provided in the
foregoing sentence. The Plan may be terminated at any time by a vote of a
majority of the Independent Trustees or by a vote of a majority of the
outstanding voting securities of the relevant class of shares. The continuance
of the Plan will only be effective if the selection and nomination of the
Independent Trustees is effected by such Independent Trustees. For the period
ended August 31, 2000, the Fund paid the following fees (in thousands) to the
Distributor:
<TABLE>
<CAPTION>
DISTRIBUTION FEES SERVICE FEES
----------------- ------------
<S> <C> <C>
Class A $12 $31
Class B $34 $16
Class C $20 $8
Class Z N/A N/A
</TABLE>
EARLY WITHDRAWAL CHARGES (EWCS). Certain investments in Class A, B and C
shares are subject to an EWC. You will pay the EWC only on shares you submit for
repurchase within a certain amount of time after purchase. The EWC generally
declines each year until there is no charge for repurchased shares. The EWC is
applied to the net asset value at the time of purchase or repurchase, whichever
is lower. For purposes of calculating the EWC, the start of the holding period
is the first day of the month following each purchase. Shares you purchase with
reinvested dividends or capital gains are not subject to an EWC. When shares are
repurchased, the Fund will automatically repurchase those shares not subject to
an EWC and then those you have held the longest. This policy helps reduce and
possibly eliminate the potential impact of the EWC. In certain circumstances,
EWCs may be waived, as described in the Statement of Additional Information. For
the period ended August 31, 2000, the Fund paid $0 (Class A), $488 (Class B) and
$370 (Class C) to the Distributor on share redemptions.
CONVERSION FEATURE. Class B shares will automatically convert to Class A
shares after eight years and after that date converted shares will no longer be
subject to the distribution fees applicable to Class B shares. Conversion will
be on the basis of the relative net asset values per share, without the
imposition of any sales charge, fee or other charge. The purpose of the
conversion feature is to relieve the holders of Class B shares from asset-based
distribution expenses applicable to such shares at such time as the Class B
shares have been outstanding for a duration sufficient for the Distributor to
have been substantially compensated for distribution-related expenses incurred
in connection with those shares. Class C shares do not convert to Class A
shares. Therefore, holders of Class C shares will continue to bear the
asset-based distribution fees on the Class C shares for as long as they hold
such shares.
20
<PAGE>
TRANSFER AGENT
Liberty Funds Services, Inc. ("LFS") performs certain transfer agency
services for the Fund, as described under "Management of the Fund" in the
Prospectus. Under the Fund's shareholders' servicing and transfer agency
agreement, the Fund pays LFS a monthly fee at the annual rate of 0.07% of the
average daily closing value of the total net assets of the Fund for such month.
In addition, total compensation, the Fund pays LFS the following fees:
1. A transaction fee of $1.18 per transaction occurring in Fund accounts
during any month; PLUS
2. An account fee for open accounts of $4.00 per annum, payable on a monthly
basis, in an amount equal to 1/12 the per annum charge; PLUS
3. An account fee for closed accounts of $1.50 per annum, payable on a monthly
basis, in an amount equal to 1/12 the per annum charge; PLUS
The Fund's allocated share of LFS reimbursement out-of-pocket expenses.
The Board believes the charges by LFS to the Fund are comparable to those of
other companies performing similar services. (See "Investment Advisory
Services.") Under a separate agreement, SSI also provides certain investor
accounting services to the Fund.
CUSTODIAN
State Street Bank and Trust Company (the "Bank"), 225 Franklin Street,
Boston, MA 02101, is the custodian for the Fund. It is responsible for holding
all securities and cash, receiving and paying for securities purchased,
delivering against payment securities sold, receiving and collecting income from
investments, making all payments covering expenses, and performing other
administrative duties, all as directed by authorized persons. The Bank does not
exercise any supervisory function in such matters as purchase and sale of
portfolio securities, payment of dividends, or payment of expenses.
The Fund may invest in obligations of the Bank and may purchase or sell
securities from or to the Bank.
INDEPENDENT ACCOUNTANTS
The independent accountants for the Fund are PricewaterhouseCoopers LLP,
160 Federal Street, Boston, MA 02110. The independent accountants audit and
report on the annual financial statements, review certain regulatory reports and
the federal income tax returns, and perform other professional accounting,
auditing, tax and advisory services when engaged to do so.
21
<PAGE>
PROGRAMS FOR REDUCING OR ELIMINATING SALES CHARGES
RIGHT OF ACCUMULATION AND STATEMENT OF INTENT (CLASS A SHARES ONLY).
Reduced sales charges on Class A shares can be effected by combining a current
purchase with prior purchases of Class A, B, C and Z shares of the funds
distributed by LFD. The applicable sales charge is based on the combined total
of:
1. the current purchase; and
2. the value at the public offering price at the close of business on the
previous day of all funds' Class A shares held by the shareholder
(except shares of any money market fund, unless such shares were
acquired by exchange from Class A shares of another fund other than a
money market fund and Class B, C and Z shares).
LFD must be promptly notified of each purchase which entitles a shareholder
to a reduced sales charge. Such reduced sales charge will be applied upon
confirmation of the shareholder's holdings by LFS. A fund may terminate or amend
this Right of Accumulation.
Any person may qualify for reduced sales charges on purchases of Class A
shares made within a thirteen-month period pursuant to a Statement of Intent
("Statement"). A shareholder may include, as an accumulation credit toward the
completion of such Statement, the value of all Class A, B, C and Z shares held
by the shareholder on the date of the Statement in funds (except shares of any
money market fund, unless such shares were acquired by exchange from Class A
shares of another non-money market fund). The value is determined at the public
offering price on the date of the Statement. Purchases made through reinvestment
of distributions do not count toward satisfaction of the Statement.
During the term of a Statement, LFS will hold shares in escrow to secure
payment of the higher sales charge applicable to Class A shares actually
purchased. Dividends and capital gains will be paid on all escrowed shares and
these shares will be released when the amount indicated has been purchased. A
Statement does not obligate the investor to buy or a fund to sell the amount of
the Statement.
If a shareholder exceeds the amount of the Statement and reaches an amount
which would qualify for a further quantity discount, a retroactive price
adjustment will be made at the time of expiration of the Statement. The
resulting difference in offering price will purchase additional shares for the
shareholder's account at the applicable offering price. As a part of this
adjustment, the financial service firm ("FSF") shall return to LFD the excess
commission previously paid during the thirteen-month period.
If the amount of the Statement is not purchased, the shareholder shall
remit to LFD an amount equal to the difference between the sales charge paid and
the sales charge that
22
<PAGE>
should have been paid. If the shareholder fails within twenty days after a
written request to pay such difference in sales charge, LFS will redeem that
number of escrowed Class A shares to equal such difference. The additional
amount of FSF discount from the applicable offering price shall be remitted to
the shareholder's FSF of record.
Additional information about and the terms of Statements of Intent are
available from your FSF, or from LFS at 1-800-426-3750.
REINSTATEMENT PRIVILEGE. An investor who has redeemed Class A, B or C
shares may, upon request, reinstate within one year a portion or all of the
proceeds of such sale in shares of the same Class of any fund at the NAV next
determined after LFSI receives a written reinstatement request and payment. Any
EWC paid at the time of the redemption will be credited to the shareholder upon
reinstatement. The period between the redemption and the reinstatement will not
be counted in aging the reinstated shares for purposes of calculating any EWC or
conversion date. Investors who desire to exercise this privilege should contact
their FSF or LFS. Shareholders may exercise this Privilege an unlimited number
of times. Exercise of this privilege does not alter the Federal income tax
treatment of any capital gains realized on the prior sale of fund shares, but to
the extent any such shares were sold at a loss, some or all of the loss may be
disallowed for tax purposes. Consult your tax advisor.
PRIVILEGES OF LIBERTY ACORN FUNDS SHAREHOLDERS. Any shareholder who owned
shares of any fund of Liberty Acorn Trust on September 29, 2000 (when all of the
then outstanding shares of Liberty Acorn Trust were re-designated Class Z
shares) and who since that time has remained a shareholder of any fund
distributed by LFD, may purchase Class A shares of any fund distributed by LFD
at NAV in those cases where a Liberty Fund Class Z share is not available.
Qualifying shareholders will not be subject to Class A initial or contingent
deferred sales charges; however, they will be subject to the annual 12b-1
service fee.
PRIVILEGES OF STEIN ROE EMPLOYEES OR FINANCIAL SERVICE FIRM EMPLOYEES.
Class A shares of certain funds may be sold at NAV to the following individuals
whether currently employed or retired: Trustees of funds advised or administered
by the Advisor; directors, officers and employees of the Advisor, LFD and other
companies affiliated with the Advisor; registered representatives and employees
of FSFs (including their affiliates) that are parties to dealer agreements or
other sales arrangements with LFD; and such persons' families and their
beneficial accounts.
SPONSORED ARRANGEMENTS. Class A shares may be purchased at reduced or no
sales charge pursuant to sponsored arrangements, which include programs under
which an organization makes recommendations to, or permits group solicitation
of, its employees, members or participants in connection with the purchase of
shares of the Fund on an individual basis. The amount of the sales charge
reduction will reflect the anticipated reduction in sales expense associated
with sponsored arrangements. The reduction in sales expense, and therefore the
reduction in sales charge, will vary depending on factors
23
<PAGE>
such as the size and stability of the organization's group, the term of the
organization's existence and certain characteristics of the members of its
group. The Fund reserves the right to revise the terms of or to suspend or
discontinue sales pursuant to sponsored plans at any time.
Class A shares may also be purchased at reduced or no sales charge by
clients of dealers, brokers or registered investment advisors that have entered
into agreements with LFD pursuant to which the Fund is included as investment
options in programs involving fee-based compensation arrangements, and by
participants in certain retirement plans.
WAIVER OF EARLY WITHDRAWAL CHARGES (EWCS). EWCs may be waived on
redemptions in the following situations with the proper documentation:
1. Death. EWCs may be waived on redemptions within one year following the
death of (i) the sole shareholder on an individual account, (ii) a joint
tenant where the surviving joint tenant is the deceased's spouse, or (iii)
the beneficiary of a Uniform Gifts to Minors Act (UGMA), Uniform Transfers
to Minors Act (UTMA) or other custodial account. If, upon the occurrence of
one of the foregoing, the account is transferred to an account registered
in the name of the deceased's estate, the EWC will be waived on any
redemption from the estate account occurring within one year after the
death. If the Class B shares are not redeemed within one year of the death,
they will remain subject to the applicable EWC, when redeemed from the
transferee's account. If the account is transferred to a new registration
and then a redemption is requested, the applicable EWC will be charged.
2. Disability. EWCs may be waived on redemptions occurring within one year
after the sole shareholder on an individual account or a joint tenant on a
spousal joint tenant account becomes disabled (as defined in Section
72(m)(7) of the Internal Revenue Code). To be eligible for such waiver, (i)
the disability must arise after the purchase of shares and (ii) the
disabled shareholder must have been under age 65 at the time of the initial
determination of disability. If the account is transferred to a new
registration and then a redemption is requested, the applicable EWC will be
charged.
3. Death of a trustee. EWCs may be waived on redemptions occurring upon
dissolution of a revocable living or grantor trust following the death of
the sole trustee where (i) the grantor of the trust is the sole trustee and
the sole life beneficiary, (ii) death occurs following the purchase and
(iii) the trust document provides for dissolution of the trust upon the
trustee's death. If the account is transferred to a new registration
(including that of a successor trustee), the applicable EWC will be charged
upon any subsequent redemption.
4. Returns of excess contributions. EWCs may be waived on redemptions required
to return excess contributions made to retirement plans or individual
retirement accounts, so long as the FSF agrees to return the applicable
portion of any commission paid by Colonial.
24
<PAGE>
5. Qualified Retirement Plans. EWCs may be waived on redemptions required to
make distributions from qualified retirement plans following normal
retirement (as stated in the Plan document). EWCs also will be waived on
SWP redemptions made to make required minimum distributions from qualified
retirement plans that have invested in funds distributed by LFDI for at
least two years.
The EWC also may be waived where the FSF agrees to return all or an agreed
upon portion of the commission earned on the sale of the shares being redeemed.
For the period ended August 31, 2000, the Fund paid the following sales
charges:
<TABLE>
<S> <C>
Sales Charge (in thousands):
Aggregate initial sales charges on Fund share sales $479
Initial sales charge retained by the Distributor 7
</TABLE>
<TABLE>
<CAPTION>
CLASS A CLASS B CLASS C
------- ------- -------
<S> <C> <C> <C>
Sales Charge:
Aggregate contingent deferred sales charge $0 $488 $370
</TABLE>
PORTFOLIO TRANSACTIONS
Stein Roe places the orders for the purchase and sale of portfolio
securities and options and futures contracts for its clients, including private
clients and mutual fund clients ("Clients"). Purchases and sales of portfolio
securities are ordinarily transacted with the issuer or with a primary market
maker acting as principal or agent for the securities on a net basis, with no
brokerage commission. Transactions placed through dealers reflect the spread
between the bid and asked prices. Occasionally, the Fund may make purchases of
underwritten issues at prices that include underwriting discounts or selling
concessions.
Stein Roe's overriding objective in selecting brokers and dealers to effect
portfolio transactions is to seek the best combination of net price and
execution. The best net price, giving effect to brokerage commissions, if any,
is an important factor in this decision; however, a number of other judgmental
factors may also enter into the decision. These factors include Stein Roe's
knowledge of negotiated commission rates currently available and other current
transaction costs; the nature of the security being purchased or sold; the size
of the transaction; the desired timing of the transaction; the activity existing
and expected in the market for the particular security; confidentiality; the
execution, clearance and settlement capabilities of the broker or dealer
selected and others considered; Stein Roe's knowledge of the financial condition
of the broker or dealer selected and such other brokers and dealers; and Stein
Roe's knowledge of actual or apparent operation problems of any broker or
dealer.
Recognizing the value of these factors, Stein Roe may cause a Client to pay
a brokerage commission in excess of that which another broker may have charged
for
25
<PAGE>
effecting the same transaction. Stein Roe has established internal policies for
the guidance of its trading personnel, specifying minimum and maximum
commissions to be paid for various types and sizes of transactions and effected
for Clients in those cases where Stein Roe has discretion to select the broker
or dealer by which the transaction is to be executed. Stein Roe has discretion
for all trades of the Fund. Transactions which vary from the guidelines are
subject to periodic supervisory review. These guidelines are reviewed and
periodically adjusted, and the general level of brokerage commissions paid is
periodically reviewed by Stein Roe. Evaluations of the reasonableness of
brokerage commissions, based on the factors described in the preceding
paragraph, are made by Stein Roe's trading personnel while effecting portfolio
transactions. The general level of brokerage commissions paid is reviewed by
Stein Roe, and reports are made annually to the Board of Trustees.
Stein Roe maintains and periodically updates a list of approved brokers and
dealers which, in Stein Roe's judgment, are generally capable of providing best
price and execution and are financially stable. Stein Roe's traders are directed
to use only brokers and dealers on the approved list, except in the case of
Client designations of brokers or dealers to effect transactions for such
Clients' accounts. Stein Roe generally posts certain Client information on the
"Alert" broker database system as a means of facilitating the trade affirmation
and settlement process.
It is Stein Roe's practice, when feasible, to aggregate for execution as a
single transaction orders for the purchase or sale of a particular security for
the accounts of several Clients, in order to seek a lower commission or more
advantageous net price. The benefit, if any, obtained as a result of such
aggregation generally is allocated pro rata among the accounts of Clients which
participated in the aggregated transaction. In some instances, this may involve
the use of an "average price" execution wherein a broker or dealer to which the
aggregated order has been given will execute the order in several separate
transactions during the course of a day at differing prices and, in such case,
each Client participating in the aggregated order will pay or receive the same
price and commission, which will be an average of the prices and commissions for
the several separate transactions executed by the broker or dealer.
Stein Roe sometimes makes use of an indirect electronic access to the New
York Stock Exchange's "SuperDOT" automated execution system, provided through a
NYSE member floor broker, W&D Securities, Inc., a subsidiary of Jeffries & Co.,
Inc., particularly for the efficient execution of smaller orders in NYSE listed
equities. Stein Roe sometimes uses similar arrangements through Billings & Co.,
Inc. and Driscoll & Co., Inc., floor broker members of the Chicago Stock
Exchange, for transactions to be executed on that exchange. In using these
arrangements, Stein Roe must instruct the floor broker to refer the executed
transaction to another brokerage firm for clearance and settlement, as the floor
brokers do not deal with the public. Transactions of this type sometimes are
referred to as "step-in" or "step-out" transactions. The brokerage firm to which
the executed transaction is referred may include, in the case of transactions
effected through W&D Securities, brokerage firms which provide Stein Roe
investment research or related services.
26
<PAGE>
Stein Roe places certain trades for the Fund through its affiliate
AlphaTrade, Inc. ("ATI"). ATI is a wholly owned subsidiary of Colonial
Management Associates, Inc. ATI is a fully disclosed introducing broker that
limits its activities to electronic execution of transactions in listed equity
securities. The Fund pays ATI a commission for these transactions. The Fund and
the Fund have adopted procedures consistent with Investment Company Act Rule
17e-1 governing such transactions. Certain of Stein Roe's officers also serve as
officers, directors and/or employees of ATI.
CONSISTENT WITH THE RULES OF FAIR PRACTICE OF NATIONAL ASSOCIATION OF
SECURITIES DEALERS, INC. AND SUBJECT TO SEEKING BEST EXECUTING AND SUCH OTHER
POLICIES AS THE TRUSTEES OF THE FUND MAY DETERMINE, STEIN ROE MAY CONSIDER SALES
OF SHARES OF THE FUND AS A FACTOR IN THE SELECTION OF BROKER-DEALERS TO EXECUTE
SUCH MUTUAL FUND SECURITIES TRANSACTIONS.
INVESTMENT RESEARCH PRODUCTS AND SERVICES FURNISHED BY BROKERS AND DEALERS
Stein Roe engages in the long-standing practice in the money management
industry of acquiring research and brokerage products and services ("research
products") from broker-dealer firms in return for directing trades for Client
accounts to those firms. In effect, Stein Roe is using the commission dollars
generated from these Client accounts to pay for these research products. The
money management industry uses the term "soft dollars" to refer to this industry
practice. Stein Roe may engage in soft dollar transactions on trades for those
Client accounts for which Stein Roe has the discretion to select the
broker-dealer.
The ability to direct brokerage for a Client account belongs to the Client
and not to Stein Roe. When a Client grants Stein Roe the discretion to select
broker-dealers for Client trades, Stein Roe has a duty to seek the best
combination of net price and execution. Stein Roe faces a potential conflict of
interest with this duty when it uses Client trades to obtain soft dollar
products. This conflict exists because Stein Roe is able to use the soft dollar
products in managing its Client accounts without paying cash ("hard dollars")
for the product. This reduces Stein Roe's expenses.
Moreover, under a provision of the federal securities laws applicable to
soft dollars, Stein Roe is not required to use the soft dollar product in
managing those accounts that generate the trade. Thus, the Client accounts that
generate the brokerage commission used to acquire the soft dollar product may
not benefit directly from that product. In effect, those accounts are cross
subsidizing Stein Roe's management of the other accounts that do benefit
directly from the product. This practice is explicitly sanctioned by a provision
of the Securities Exchange Act of 1934, which creates a "safe harbor" for soft
dollar transactions conducted in a specified manner. Although it is inherently
difficult, if not impossible, to document, Stein Roe believes that over time
most, if not all, Clients benefit from soft dollar products such that cross
subsidizations even out.
27
<PAGE>
Stein Roe attempts to reduce or eliminate this conflict by directing Client
trades for soft dollar products only if Stein Roe concludes that the
broker-dealer supplying the product is capable of providing a combination of the
best net price and execution on the trade. As noted above, the best net price,
while significant, is one of a number of judgmental factors Stein Roe considers
in determining whether a particular broker is capable of providing the best net
price and execution. Stein Roe may cause a Client account to pay a brokerage
commission in a soft dollar trade in excess of that which another broker-dealer
might have charged for the same transaction.
Stein Roe acquires two types of soft dollar research products: (i)
proprietary research created by the broker-dealer firm executing the trade and
(ii) other products created by third parties that are supplied to Stein Roe
through the broker-dealer firm executing the trade.
Proprietary research consists primarily of traditional research reports,
recommendations and similar materials produced by the in house research staffs
of broker-dealer firms. This research includes evaluations and recommendations
of specific companies or industry groups, as well as analyses of general
economic and market conditions and trends, market data, contacts and other
related information and assistance. Stein Roe's research analysts periodically
rate the quality of proprietary research produced by various broker-dealer
firms. Based on these evaluations, Stein Roe develops target levels of
commission dollars on a firm-by-firm basis. Stein Roe attempts to direct trades
to each firm to meet these targets.
Stein Roe also uses soft dollars to acquire products created by third
parties that are supplied to Stein Roe through broker-dealers executing the
trade (or other broker-dealers who "step in" to a transaction and receive a
portion of the brokerage commission for the trade). These products include the
following:
- Database Services -- comprehensive databases containing current and/or
historical information on companies and industries. Examples include
historical securities prices, earnings estimates, and SEC filings. These
services may include software tools that allow the user to search the
database or to prepare value-added analyses related to the investment
process (such as forecasts and models used in the portfolio management
process).
- Quotation/Trading/News Systems -- products that provide real time market
data information, such as pricing of individual securities and information
on current trading, as well as a variety of news services.
- Economic Data/Forecasting Tools -- various macro economic forecasting
tools, such as economic data and economic and political forecasts for
various countries or regions.
- Quantitative/Technical Analysis -- software tools that assist in
quantitative and technical analysis of investment data.
- Fundamental Industry Analysis -- industry-specific fundamental investment
research.
- Fixed Income Security Analysis -- data and analytical tools that pertain
specifically to fixed income securities. These tools assist in creating
financial models, such as cash
28
<PAGE>
flow projections and interest rate sensitivity analyses, that are relevant
to fixed income securities.
- Other Specialized Tools -- other specialized products, such as specialized
economic consulting analyses and attendance at investment oriented
conferences.
Many third-party products include computer software or on-line data feeds.
Certain products also include computer hardware necessary to use the product.
Certain of these third party services may be available directly from the
vendor on a hard dollar basis. Others are available only through broker-dealer
firms for soft dollars. Stein Roe evaluates each product to determine a cash
("hard dollars") value of the product to Stein Roe. Stein Roe then on a
product-by-product basis targets commission dollars in an amount equal to a
specified multiple of the hard dollar value to the broker-dealer that supplies
the product to Stein Roe. In general, these multiples range from 1.25 to 1.85
times the hard dollar value. Stein Roe attempts to direct trades to each firm to
meet these targets. (For example, if the multiple is 1.5:1.0, assuming a hard
dollar value of $10,000, Stein Roe will target to the broker-dealer providing
the product trades generating $15,000 in total commissions.)
The targets that Stein Roe establishes for both proprietary and for third
party research products typically will reflect discussions that Stein Roe has
with the broker-dealer providing the product regarding the level of commissions
it expects to receive for the product. However, these targets are not binding
commitments, and Stein Roe does not agree to direct a minimum amount of
commissions to any broker-dealer for soft dollar products. In setting these
targets, Stein Roe makes a determination that the value of the product is
reasonably commensurate with the cost of acquiring it. These targets are
established on a calendar year basis. Stein Roe will receive the product whether
or not commissions directed to the applicable broker-dealer are less than, equal
to or in excess of the target. Stein Roe generally will carry over target
shortages and excesses to the next year's target. Stein Roe believes that this
practice reduces the conflicts of interest associated with soft dollar
transactions, since Stein Roe can meet the non-binding expectations of
broker-dealers providing soft dollar products over flexible time periods. In the
case of third party products, the third party is paid by the broker-dealer and
not by Stein Roe. Stein Roe may enter into a contract with the third party
vendor to use the product. (For example, if the product includes software, Stein
Roe will enter into a license to use the software from the vendor.)
In certain cases, Stein Roe uses soft dollars to obtain products that have
both research and non-research purposes. Examples of non-research uses are
administrative and marketing functions. These are referred to as "mixed use"
products. As of the date of this Statement of Additional Information, Stein Roe
acquires two mixed use products. These are (i) a fixed income security data
service and (ii) a mutual fund performance ranking service. In each case, Stein
Roe makes a good faith evaluation of the research and non-research uses of these
services. These evaluations are based upon the time spent
29
<PAGE>
by Firm personnel for research and non-research uses. Stein Roe pays the
provider in cash ("hard dollars") for the non-research portion of its use of
these products.
Stein Roe may use research obtained from soft dollar trades in the
management of any of its discretionary accounts. Thus, consistent with industry
practice, Stein Roe does not require that the Client account that generates the
trade receive any benefit from the soft dollar product obtained through the
trade. As noted above, this may result in cross subsidization of soft dollar
products among Client accounts. As noted therein, this practice is explicitly
sanctioned by a provision of the Securities Exchange Act of 1934, which creates
a "safe harbor" for soft dollar transactions conducted in a specified manner.
In certain cases, Stein Roe will direct a trade to one broker-dealer with
the instruction that it execute the trade and pay over a portion of the
commission from the trade to another broker-dealer who provides Stein Roe with a
soft dollar research product. The broker-dealer executing the trade "steps out"
of a portion of the commission in favor of the other broker-dealer providing the
soft dollar product. Stein Roe may engage in step out transactions in order to
direct soft dollar commissions to a broker-dealer which provides research but
may not be able to provide best execution. Brokers who receive step out
commissions typically are brokers providing a third party soft dollar product
that is not available on a hard dollars basis. Stein Roe has not engaged in step
out transactions as a manner of compensating broker-dealers that sell shares of
investment companies managed by Stein Roe.
For the period ended August 31, 2000, the Fund did not pay brokerage
commissions on any transactions.
ADDITIONAL INCOME TAX CONSIDERATIONS
The Fund intends to comply with the special provisions of the Internal
Revenue Code that relieve the Fund of federal income tax to the extent of their
respective net investment income and capital gains currently distributed to
their respective shareholders.
Because capital gain distributions reduce net asset value, if a shareholder
purchases shares shortly before a record date, he will, in effect, receive a
return of a portion of his investment in such distribution. The distribution
would nonetheless be taxable to him, even if the net asset value of shares were
reduced below his cost. However, for federal income tax purposes the
shareholder's original cost would continue as his tax basis.
The Fund expects that none of its dividends will qualify for the deduction
for dividends received by corporate shareholders.
30
<PAGE>
INVESTMENT PERFORMANCE
The Fund may quote yield figures from time to time. The "Yield" of the Fund
is computed by dividing the net investment income per share earned during a
30-day period (using the average number of shares entitled to receive dividends)
by the net asset value per share on the last day of the period. The Yield
formula provides for semiannual compounding which assumes that net investment
income is earned and reinvested at a constant rate and annualized at the end of
a six-month period.
The Yield formula is as follows: YIELD = 2[((a-b/cd) +1)(6) -1].
Where: a = dividends and interest earned during the period. (For this
purpose, the Fund will recalculate the yield to maturity
based on market value of each portfolio security on each
business day on which net asset value is calculated.)
b = expenses accrued for the period (net of reimbursements).
c = the average daily number of shares outstanding during the
period that were entitled to receive dividends.
d = the ending net asset value of the Fund for the period.
The 30-day yields as of August 31, 2000 were:
<TABLE>
<CAPTION>
YIELD
-----
<S> <C>
Class A 9.23%
Class B 9.00%
Class C 8.85%
Class Z 9.70%
</TABLE>
The Fund may quote total return figures from time to time. A "Total Return"
on a per share basis is the amount of dividends received per share plus or minus
the change in the net asset value per share for a period. A "Total Return
Percentage" may be calculated by dividing the value of a share at the end of a
period (including reinvestment of distributions) by the value of the share at
the beginning of the period and subtracting one. For a given period, an "Average
Annual Total Return" may be computed by finding the average annual compounded
rate that would equate a hypothetical initial amount invested of $1,000 to the
ending redeemable value.
Average Annual Total Return is computed as follows: ERV = P(1+T)(n)
Where: P = a hypothetical initial payment of $1,000
T = average annual total return
n = number of years
ERV = ending redeemable value of a hypothetical $1,000
payment made at the beginning of the period at the
end of the period (or fractional portion).
31
<PAGE>
For example, for a $1,000 investment in the Fund, the "Total Return," the
"Total Return Percentage," and the "Average Annual Total Return" at August 31,
2000 were:
<TABLE>
<CAPTION>
ENDING REDEEMABLE TOTAL RETURN AVERAGE ANNUAL
VALUE($) PERCENTAGE(%) TOTAL RETURN(%)
-------- -------------- ---------------
<S> <C> <C> <C>
Class A
Life of the Fund* $1,060.45 6.04% None
Class B
Life of the Fund* $1,056.93 5.69% None
Class C
Life of the Fund* $1,056.17 5.62% None
Class Z
Life of the Fund* $1,061.11 6.11% None
</TABLE>
*Since commencement of operations on January 13, 2000.
Performance results reflect any waiver of reimbursement by the Advisor of
expenses. Absent this waiver or reimbursement arrangement, performance results
would have been lower. See Prospectus for details. The Fund may provide
information about the Advisor and its affiliates and other related funds in
sales material or advertisements provided to investors or prospective investors.
Sales materials or advertisements also may provide information on the use of
investment professionals by investors. For further information, see "Performance
Information" in the Prospectus.
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APPENDIX -- RATINGS
RATINGS IN GENERAL. A rating of a rating service represents the service's
opinion as to the credit quality of the security being rated. However, the
ratings are general and are not absolute standards of quality or guarantees as
to the creditworthiness of an issuer. Consequently, the Adviser believes that
the quality of debt securities should be continuously reviewed and that
individual analysts give different weightings to the various factors involved in
credit analysis. A rating is not a recommendation to purchase, sell or hold a
security because it does not take into account market value or suitability for a
particular investor. When a security has received a rating from more than one
service, each rating should be evaluated independently. Ratings are based on
current information furnished by the issuer or obtained by the rating services
from other sources that they consider reliable. Ratings may be changed,
suspended or withdrawn as a result of changes in or unavailability of such
information, or for other reasons. The following is a description of the
characteristics of ratings used by Moody's Investors Service, Inc. ("Moody's")
and Standard & Poor's Corporation ("S&P").
CORPORATE BOND RATINGS
Ratings By Moody's. Aaa. Bonds rated Aaa are judged to be 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 an exceptionally
stable margin and principal is secure. Although the various protective elements
are likely to change, such changes as can be visualized are more unlikely to
impair the fundamentally strong position of such bonds.
Aa. Bonds 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 bonds 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 bonds.
A. Bonds 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 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
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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: Moody's applies numerical modifiers 1, 2 and 3 in each generic rating
classification from Aa through B in its corporate bond rating system. The
modifier 1 indicates that the security ranks in the higher end of its generic
rating category; the modifier 2 indicates a mid-range ranking; and the modifier
3 indicates that the issue ranks in the lower end of its generic rating
category.
Ratings by S&P. AAA. Debt rated AAA has the highest rating. Capacity to pay
interest and repay principal is extremely strong.
AA. Debt rated AA has a very strong capacity to pay interest and repay
principal and differs from the highest rated issues only in small degree.
A. Debt rated A has a strong capacity to pay interest and repay principal
although it is somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions than debt in higher rated categories.
BBB. Debt rated BBB is regarded as having an adequate capacity to pay
interest and repay principal. Whereas it normally exhibits adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay interest and repay principal for
debt in this category than for debt in higher rated categories.
BB, B, CCC, CC and C. Debt rated BB, B, CCC, CC, or C is regarded, on
balance, as predominantly speculative with respect to capacity to pay interest
and repay principal in accordance with the terms of the obligation. BB indicates
the lowest degree of speculation and C the highest degree of speculation. While
such debt will likely have some quality and protective characteristics, these
are outweighed by large uncertainties or major risk exposures to adverse
conditions.
C1. This rating is reserved for income bonds on which no interest is being
paid.
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D. Debt rated D is in default, and payment of interest and/or repayment of
principal is in arrears. The D rating is also used upon the filing of a
bankruptcy petition if debt service payments are jeopardized.
NOTES: 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 ratings
categories. Foreign debt is rated on the same basis as domestic debt measuring
the creditworthiness of the issuer; ratings of foreign debt do not take into
account currency exchange and related uncertainties.
The "r" is attached to highlight derivative, hybrid, and certain other
obligations that S&P believes may experience high volatility or high variability
in expected returns due to non-credit risks. Examples of such obligations are:
securities whose principal or interest return is indexed to equities,
commodities, or currencies; certain swaps and options; and interest only and
principal only mortgage securities. The absence of an "r" symbol should not be
taken as an indication that an obligation will exhibit no volatility or
variability in total return.
COMMERCIAL PAPER RATINGS
Ratings by Moody's. Moody's employs the following three designations, all
judged to be investment grade, to indicate the relative repayment capacity of
rated issuers:
Prime-1 Highest Quality
Prime-2 Higher Quality
Prime-3 High Quality
If an issuer represents to Moody's that its commercial paper obligations
are supported by the credit of another entity or entities, Moody's, in assigning
ratings to such issuers, evaluates the financial strength of the indicated
affiliated corporations, commercial banks, insurance companies, foreign
governments or other entities, but only as one factor in the total rating
assessment.
Ratings By S&P. A brief description of the applicable rating symbols and
their meaning follows:
A. Issues assigned this highest rating are regarded as having the greatest
capacity for timely payment. Issues in this category are further refined with
the designations 1, 2, and 3 to indicate the relative degree of safety.
A-1. This designation indicates that the degree of safety regarding timely
payment is very strong. Those issues determined to possess overwhelming safety
characteristics will be denoted with a plus (+) sign designation.
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