==============================
DECEMBER 30, 1999
PROSPECTUS
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THE FAIRHOLME FUND
(the "Fund")
A SERIES OF FAIRHOLME FUNDS, INC.
(the "Company")
51 JFK Parkway
Short Hills, NJ 07078
1-800-417-5525
- --------------------------------------------------------------------------------
AS WITH ALL MUTUAL FUNDS, THE SECURITIES AND EXCHANGE COMMISSION HAS NOT
APPROVED OR DISAPPROVED THESE SECURITIES OR PASSED ON THE ACCURACY OR ADEQUACY
OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
<PAGE>
TABLE OF CONTENTS
THE FUND
What is the Fund's Investment Objective?........................ 3
What are the Fund's Primary Investment Strategies?.............. 3
What are the Principal Risks of Investing in the Fund?.......... 4
How Has the Fund Performed in the Past?......................... 5
What are the Fund's Fees And Expenses?.......................... 5
An Example of Fund Expenses Over Time........................... 6
THE FUND'S INVESTMENT ADVISER
The Adviser..................................................... 7
The Portfolio Manager........................................... 7
HOW TO BUY AND SELL SHARES
INVESTING IN THE FUND............................................... 8
Determining Share Prices........................................ 8
Plan of Distribution............................................ 8
Minimum Investment Amounts...................................... 9
Opening and Adding To Your Account.............................. 9
Purchasing Shares By Mail....................................... 9
Purchasing Shares By Wire Transfer.............................. 10
Purchases through Financial Service Organizations............... 10
Purchasing Shares By Automatic Investment Plan.................. 11
Purchasing Shares By Telephone.................................. 11
Miscellaneous Purchase Information.............................. 11
HOW TO SELL (REDEEM) YOUR SHARES.................................... 12
By Mail......................................................... 12
Signature Guarantees............................................ 13
By Telephone.................................................... 13
By Wire......................................................... 14
Redemption At The Option Of The Fund............................ 14
DIVIDENDS AND DISTRIBUTIONS.............................................. 14
TAX CONSIDERATIONS....................................................... 14
GENERAL INFORMATION...................................................... 15
FOR MORE INFORMATION................................................. Back Cover
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THE FUND
WHAT IS THE FUND'S INVESTMENT OBJECTIVE?
The Fund's investment objective is long-term growth of capital.
WHAT ARE THE FUND'S PRINCIPAL INVESTMENT STRATEGIES?
The Adviser attempts to achieve the Fund's investment objective by:
o investing in common stocks without restrictions regarding market
capitalization;
o normally investing at least 75% of the Fund's total assets in US
common stocks; and
o holding a focused portfolio of no more than 25 stocks.
The Fund's Adviser believes that the Fund's investment objective is best
achieved by investing in companies that exhibit the potential for
significant growth over the long term. The Adviser defines long-term as a
time horizon of at least three years. To identify companies that have
significant growth potential, the Adviser generally employs fundamental
analytical techniques to determine the value of a company and then compares
those results to the company's current share price. Companies that are
trading at significant discounts to their perceived value are segregated
into a pool of qualifying companies. The Adviser will then choose not more
than 25 companies from that pool which exhibit some or all of the following
criteria:
o highly qualified management;
o strong franchise;
o consistent free cash flow;
o high returns on invested capital;
o excellent prospects for growth;
o low price-to-book value or tangible asset value; and
o low price-to-earnings ratio ("P/E").
By utilizing these analytical approaches, the Fund's Adviser plans to have
the Fund purchase shares of good businesses at reasonable prices.
The Fund may invest up to 25% of its total assets in foreign securities
that are traded on a U.S. exchange, either directly or in the form of
American Depository Receipts ("ADRs"). The Fund will only invest in ADRs
that are issuer sponsored. Sponsored ADRs typically are issued by a U.S.
bank or trust company and evidence ownership of underlying securities
issued by a foreign corporation.
Temporary Defensive Positions- Ordinarily, the Fund's portfolio will be
invested primarily in common stocks. However, the Fund is not required to
be fully invested in common stocks and, in fact, usually maintains some
portion of its total assets in cash and cash reserves. Under adverse market
conditions, cash and cash reserves may represent a significant percentage
of the Fund's total net assets. The Fund usually invests its cash and cash
reserves in U.S. Government
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debt instruments, other unaffiliated mutual funds (money market funds) and
repurchase agreements. During times when the Fund holds a significant
portion of its net assets in cash and cash reserves, it will not be
investing according to its investment objective, and the Fund's performance
may be negatively affected as a result.
WHAT ARE THE PRINCIPAL RISKS OF INVESTING IN THE FUND?
General Risks- All investments are subject to inherent risks, and the Fund
is no exception. Accordingly, you may lose money by investing in the Fund.
When you sell your Fund shares, they may be worth less than what you paid
for them because the value of the Fund's investments will vary from
day-to-day, reflecting changes in market conditions, interest rates and
numerous other factors.
Stock Market Risk- The stock market tends to trade in cyclical price
patterns, and prices generally may fall over sustained periods of time. The
Fund invests primarily in common stocks, so the Fund will be subject to the
risks associated with common stocks, including price volatility and the
creditworthiness of the issuing company.
Small To Medium-Cap Stock Risks- The Fund may invest in companies with
small to medium market capitalizations (generally less than $6 billion).
Because these companies are relatively small compared to large-cap
companies, may be engaged in business mostly within their own geographic
region, and may be less well-known to the investment community, they can
have more volatile share prices. Also, small companies often have less
liquidity, less management depth, narrower market penetrations, less
diverse product lines, and fewer resources than larger companies. As a
result, their stock prices often react more strongly to changes in the
marketplace.
Foreign Securities Risk- Investments in foreign securities involve greater
risks compared to domestic investments for the following reasons:
o Foreign companies are not subject to the regulatory requirements of
U.S. companies, so there may be less publicly available information
about foreign issuers than U.S. companies.
o Foreign companies generally are not subject to uniform accounting,
auditing and financial reporting standards.
o Dividends and interest on foreign securities may be subject to foreign
withholding taxes. Such taxes may reduce the net return to Fund
shareholders.
o Foreign securities are often denominated in a currency other than the
U.S. dollar. Accordingly, the Fund will be subject to the risks
associated with fluctuations in currency values.
o Although the Fund will only invest in foreign issuers that are
domiciled in nations considered to have stable and friendly
governments, there is the possibility of expropriation, confiscation,
taxation, currency blockage or political or social instability which
could negatively affect the Fund.
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Focused Portfolio Risk- The Fund is classified as "non-diversified" under
the federal securities laws. This means that the Fund has the ability to
concentrate a relatively high percentage of its investments in the
securities of a small number of companies. Investing in this manner makes
the Fund more susceptible to a single economic, political or regulatory
event than a more diversified fund might be. Also, a change in the value of
a single company will have a more pronounced effect on the Fund than such a
change would have on a more diversified fund.
Management Risk- Acting as investment adviser to the Fund is a new position
for the Adviser, and the Fund has no operating history.
Year 2000 Risks- As with other mutual funds, financial and business
organizations and individuals around the world, the Fund could be adversely
affected if the computer systems used by the Adviser and the Fund's other
service providers don't properly process and calculate date-related
information and data from and after January 1, 2000. This is commonly known
as the "Year 2000" or "Y2K" problem. The Adviser is taking steps to address
the Y2K problem with respect to the computer systems that it uses and to
obtain assurances that comparable steps are being taken by the Fund's other
major service providers. The Adviser will also monitor the companies in
which the Fund invests for evidence of their Y2K preparedness. However,
there can be no assurance that the Fund's portfolio will not be adversely
affected by the Y2K problem. Further, foreign issuers may not be as well
prepared for the Y2K problem as U.S. issuers, and this may pose additional
risk to the Fund.
HOW HAS THE FUND PERFORMED IN THE PAST?
Because this is a new Fund that does not yet have an operating history, a
performance bar chart and table describing the Fund's annual performance
and comparing that performance to appropriate indices is not yet available.
WHAT ARE THE FUND'S FEES AND EXPENSES?
This table describes the fees and expenses you may pay if you buy and hold
shares of the Fund.
===================================================
SHAREHOLDER FEES:
-----------------
(FEES PAID DIRECTLY FROM YOUR INVESTMENT)
MAXIMUM SALES CHARGE (LOAD)
IMPOSED ON PURCHASES NONE
MAXIMUM DEFERRED SALES NONE
CHARGE (LOAD)
MAXIMUM SALES CHARGE (LOAD) NONE
IMPOSED ON REINVESTED DIVIDENDS
AND OTHER DISTRIBUTIONS
REDEMPTION FEES NONE4
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===================================================
ANNUAL FUND OPERATING EXPENSES:
-------------------------------
(EXPENSES THAT ARE DEDUCTED FROM FUND ASSETS)
MANAGEMENT FEES1 1.00%
DISTRIBUTION (12B-1) FEES2 0.00%
OTHER EXPENSES3 0.00%
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TOTAL ANNUAL
FUND OPERATING EXPENSES 1.00%
===================================================
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1. Management fees include a fee of 0.50% for investment advisory services and
0.50% for administrative and other services. Both fees are paid to the
Fund's Adviser pursuant to separate agreements for each service.
2. Although the Fund's Board of Director's has adopted a Plan of Distribution
under Rule 12b-1 of the Investment Company Act of 1940, the Plan has not
been implemented and the Fund has no intention of implementing the Plan
during the Fund's first fiscal year.
3. The Fund's Adviser is responsible for paying all the Fund's expenses except
taxes, interest, litigation expenses and other extraordinary expenses.
Because the Fund believes that it will not incur any of these expenses
during its first fiscal year, no expenses are included in this category.
4. The Fund's Custodian may charge a fee of $20 on amounts redeemed and sent
to you by wire transfer.
AN EXAMPLE OF EXPENSES OVER TIME:
This Example below is intended to help you compare the cost of investing in the
Fund with the cost of investing in other mutual funds.
The Example assumes that you invest $10,000 in the Fund for the time periods
indicated, reinvest all dividends and distributions, and then redeem all your
shares at the end of those periods. The Example also assumes that your
investment has a 5% return each year and that the Fund's operating expenses
remain the same. Although your actual costs may be higher or lower, based on
these assumptions your costs would be:
ONE YEAR THREE YEARS
-------- -----------
$ 105 $ 328
THE FUND'S INVESTMENT ADVISER
The Adviser
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Fairholme Capital Management, LLC (the "Adviser"), 51 JFK Parkway, Short Hills,
NJ 07078 serves as investment adviser to the Fund. The Adviser is a Delaware
limited liability company and is registered with the Securities and Exchange
Commission as an investment adviser.
The Adviser's principal business and occupation is to provides financial
management and advisory services to individuals, corporations, and other
institutions throughout the United States. The Adviser has been investment
adviser to the Fund since its inception. The Adviser manages the investment
portfolio and business affairs of the Fund under an Investment Advisory
Agreement with the Fund, and manages, or arranges to manage, the daily
operations of the Fund under an Operating Services Agreement.
For its advisory and administrative services to the Fund, the Company pays to
the Adviser, on the last day of each month, annualized fees equal to 1.00%
(0.50% of which are investment advisory fees) of the average net assets of the
Fund, such fees to be computed daily based upon the daily average net assets of
the Fund.
The Portfolio Managers
- ----------------------
Mr. Bruce Berkowitz is Managing Director of the Adviser and acts as the
portfolio manager for the Fund. Mr. Berkowitz is also President of Fairholme
Funds, Inc. (the "Company"). Mr. Berkowitz
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has been Managing Director, and the Chief Investment Officer of the Adviser
since the Adviser's inception in 1994. As of September 30, 1999, the Adviser
managed in excess of $600 million in client assets.
Mr. Peter A. Russ is Senior Portfolio Manager of the Adviser and acts as
Co-Portfolio Manager of the Fund. Mr. Russ joined the Adviser in March, 1999 and
has more than 25 years of investment management experience. Other personnel
providing investment support to the Principal Portfolio Managers of the Fund are
Keith Trauner, Chief Research Analyst of the Adviser, who joined the Adviser in
January, 1999 and who has 20 years of investment management experience, and
Larry Pitkowsky and Seth Finkelstein, Assistant Portfolio Managers of the
Adviser, who joined the Adviser in June, 1999.
HOW TO BUY AND SELL SHARES OF THE FUND
INVESTING IN THE FUND
Determining Share Prices
- ------------------------
Shares of the Fund are offered at each share's net asset value ("NAV"). NAV per
share is calculated by (1) adding the value of Fund investments, cash and other
assets, (2) subtracting Fund liabilities, and then (3) dividing the result by
the number of shares outstanding. The Fund generally determines the total value
of its shares by using market prices for the securities comprising its
portfolio. Securities for which quotations are not available and any other
assets are valued at fair market value as determined in good faith by the
Adviser, subject to the review and supervision of the Board of Directors. The
Fund's per share NAV is computed on all days on which the New York Stock
Exchange ("NYSE") is open for business at the close of regular trading hours on
the Exchange, currently 4:00 p.m. Eastern time. In the event that the NYSE
closes early, the share price will be determined as of the time of closing.
Distribution Fees
- -----------------
The Fund has adopted a Plan of Distribution Pursuant to Rule 12b-1 under the
1940 Act (the "12b-1 Plan") for its shares, pursuant to which the Fund pays the
Adviser a monthly fee for shareholder servicing expenses of 0.25% per annum of
the Fund's average daily net assets. The Adviser may, in turn, pay such fees to
third parties for eligible services provided by those parties to the Fund.
The Fund has not implemented the 12b-1 Plan and does not foresee doing so during
its first fiscal year. The Board adopted the Plan so that, if and when
necessary, the Fund would have available to it sufficient resources to pay third
parties who provide eligible services to the Fund.
If the 12b-1 Plan is implemented in the future, you should be aware that if you
hold your shares for a substantial period of time afterwards, you may indirectly
pay more than the economic equivalent of the maximum front-end sales charge
allowed by the National Association of Securities Dealers due to the recurring
nature of Distribution (12b-1) fees.
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Minimum Investment Amounts
- --------------------------
Payments for Fund shares should be in U.S. dollars, and in order to avoid fees
and delays, should be drawn on a U.S. bank. Fund management may reject any
purchase order for Fund shares and may waive the minimum investment amounts in
its sole discretion.
Your purchase of Fund shares is subject to the following minimum investment
amounts:
MINIMUM MINIMUM
TYPE OF INVESTMENT SUBSEQUENT
ACCOUNT TO OPEN ACCOUNT INVESTMENTS
- --------------------------------------------------------------------------------
REGULAR $2,500 $1,000
IRAs $1,000 $ 100
- --------------------------------------------------------------------------------
AUTOMATIC INVESTMENT PLAN MEMBERS
MINIMUM MINIMUM
TYPE OF INVESTMENT SUBSEQUENT
ACCOUNT TO OPEN ACCOUNT INVESTMENTS
- --------------------------------------------------------------------------------
REGULAR $2,500 $100 per month minimum
IRAs $1,000 $100 per month minimum
- --------------------------------------------------------------------------------
Opening and Adding To Your Account
- ----------------------------------
You can invest in the Fund by mail, wire transfer and through participating
financial service professionals. After you have established your account and
made your first purchase, you may also make subsequent purchases by telephone.
You may also invest in the Fund through an automatic payment plan. Any questions
you may have can be answered by calling 1-800-417-5525.
Purchasing Shares By Mail
- -------------------------
To make your initial investment in the Fund, simply complete the Application
Form included with this Prospectus, make a check payable to the Fairholme Fund,
and mail the Form and check to:
Fairholme Funds, Inc.
c/o Mutual Shareholder Services
1301 East 9th Street, Suite 1005
Cleveland, OH 44114
To make subsequent purchases, simply make a check payable to the Fairholme Fund
and mail the check to the above-mentioned address. Be sure to note your Fund
account number on the check.
Your purchase order, if accompanied by payment, will be processed upon receipt
by Mutual Shareholder Services, the Fund's Transfer Agent. If the Transfer Agent
receives your order and payment by the close of regular trading on the NYSE
(currently 4:00 p.m. Eastern time), your shares will be purchased at the Fund's
NAV calculated at the close of regular trading on that day.
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Otherwise, your shares will be purchased at the NAV determined as of the close
of regular trading on the next business day.
Purchasing Shares by Wire Transfer
- ----------------------------------
To make an initial purchase of shares by wire transfer, you need to take the
following steps:
1. Call 1-800-417-5525 to inform us that a wire is being sent.
2. Obtain an account number from the Transfer Agent.
3. Fill out, fax (216-875-8992), then mail the Account Application to the
Transfer Agent
4. Ask your bank to wire funds to the account of:
Fifth Third Bank ABA #: 042000314
Credit: Fairholme Funds, Inc., Acct. #: 99943542
Further credit: The Fairholme Fund,
Acct # [Your Account number]
Include your name(s), address and taxpayer identification number or Social
Security number on the wire transfer instructions. The wire should state that
you are opening a new Fund account.
To make subsequent purchases by wire, ask your bank to wire funds using the
instructions listed above, and be sure to include your account number on the
wire transfer instructions.
If you purchase Fund shares by wire, you must complete and file an Application
Form with the Transfer Agent before any of the shares purchased can be redeemed.
Either fill out and mail the Application Form included with this prospectus, or
call the transfer agent and they will send you an application. You should
contact your bank (which will need to be a commercial bank that is a member of
the Federal Reserve System) for information on sending funds by wire, including
any charges that your bank may make for these services.
Purchases through Financial Service Organizations
- -------------------------------------------------
You may purchase shares of the Fund through participating brokers, dealers, and
other financial professionals. Simply call your investment professional to make
your purchase. If you are a client of a securities broker or other financial
organization, such organizations may charge a separate fee for administrative
services in connection with investments in Fund shares and may impose account
minimums and other requirements. These fees and requirements would be in
addition to those imposed by the Fund. If you are investing through a securities
broker or other financial organization, please refer to its program materials
for any additional special provisions or conditions that may be different from
those described in this Prospectus (for example, some or all of the services and
privileges described may not be available to you). Securities brokers and other
financial organizations have the responsibility of transmitting purchase orders
and funds, and of crediting their customers' accounts following redemptions, in
a timely manner in accordance with their customer agreements and this
Prospectus.
Purchasing Shares by Automatic Investment Plan
- ----------------------------------------------
You may purchase shares of the Fund through an Automatic Investment Plan
("Plan"). The Plan provides a convenient way for you to have money deducted
directly from your checking, savings,
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or other accounts for investment in shares of the Fund. You can take advantage
of the Plan by filling out the Automatic Investment Plan application included
with this Prospectus. You may only select this option if you have an account
maintained at a domestic financial institution which is an Automatic Clearing
House member for automatic withdrawals under the Plan. The Fund may alter,
modify, amend or terminate the Plan at any time, and will notify you at least 30
days in advance if it does so. For more information, call the Transfer Agent (
Mutual Shareholder Services, LLC) at 1-800-417-5525.
Purchasing Shares by Telephone
- ------------------------------
In order to be able to purchase shares by telephone, your account authorizing
such purchases must have been established prior to your call. Your initial
purchase of shares may not be made by telephone. Shares purchased by telephone
will be purchased at the per share NAV next determined after the Transfer Agent
receives your order for shares. Call the Transfer Agent for details.
You may make purchases by telephone only if you have an account at a bank that
is a member of the Automated Clearing House. Most transfers are completed within
three business days of your call. To preserve flexibility, the Company may
revise or eliminate the ability to purchase Fund shares by phone, or may charge
a fee for such service, although the Company does not currently expect to charge
such a fee.
The Fund's Transfer Agent employs certain procedures designed to confirm that
instructions communicated by telephone are genuine. Such procedures may include,
but are not limited to, requiring some form of personal identification prior to
acting upon telephonic instructions, providing written confirmations of all such
transactions, and/or tape recording all telephonic instructions. Assuming
procedures such as the above have been followed, neither the Transfer Agent nor
the Fund will be liable for any loss, cost, or expense for acting upon telephone
instructions that are believed to be genuine. The Company shall have authority,
as your agent, to redeem shares in your account to cover any such loss. As a
result of this policy, you will bear the risk of any loss unless the Fund has
failed to follow procedures such as the above. However, if the Fund fails to
follow such procedures, it may be liable for such losses.
Miscellaneous Purchase Information
- ----------------------------------
The Fund reserves the right to refuse to accept applications under circumstances
or in amounts considered disadvantageous to shareholders. Applications will not
be accepted unless they are accompanied by payment in U.S. funds. Payment must
be made by wire transfer, check or money order drawn on a U.S. bank, savings and
loan association or credit union. The Fund's custodian may charge a fee against
your account, in addition to any loss sustained by the Fund, for any payment
check returned to the custodian for insufficient funds. If you place an order
for Fund shares through a securities broker, and you place your order in proper
form before 4:00 p.m. Eastern time on any business day in accordance with their
procedures, your purchase will be processed at the NAV calculated at 4:00 p.m.
on that day, provided the securities broker transmits your order to the Transfer
Agent before 5:00 p.m. Eastern time. The securities broker must send to the
Transfer Agent immediately available funds in the amount of the purchase price
within three business days of placing the order.
10
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HOW TO SELL (REDEEM) YOUR SHARES
You may sell your shares at any time. You may request the sale of your shares
either by mail, by telephone or by wire.
By Mail
- -------
Sale requests should be mailed via U.S. mail or overnight courier service to:
Mutual Shareholder Services
1301 East 9th Street, Suite 1005
Cleveland, OH 44114
The redemption price you receive will be the Fund's per share NAV next
calculated after receipt of all required documents in "Good Order".
"Good order" means that your redemption request must include:
1. Your account number.
2. The number of shares to be sold (redeemed) or the dollar value of the
amount to be redeemed.
3. The signatures of all account owners exactly as they are registered on the
account.
4. Any required signature guarantees.
5. Any supporting legal documentation that is required in the case of estates,
trusts, corporations or partnerships and certain other types of accounts.
Payment of redemption proceeds will be made no later than the third business day
after the valuation date unless otherwise expressly agreed by the parties at the
time of the transaction. If you purchase your shares by check and then redeem
your shares before your check has cleared, the Fund may hold your redemption
proceeds until your check clears, or for 15 days, whichever comes first.
Signature Guarantees --
- --------------------
A signature guarantee of each owner is required to redeem shares in the
following situations, for all size transactions:
o if you change the ownership on your account;
o when you want the redemption proceeds sent to a different address than is
registered on the account;
o if the proceeds are to be made payable to someone other than the account's
owner(s);
o any redemption transmitted by federal wire transfer to your bank; and
o if a change of address request has been received by the Fund or the
Transfer Agent within 15 days previous to the request for redemption.
In addition, signature guarantees are required for all redemptions of $25,000 or
more from any Fund shareholder account. A redemption will not be processed until
the signature guarantee, if required, is received by the Transfer Agent.
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Signature guarantees are designed to protect both you and the Fund from fraud.
To obtain a signature guarantee, you should visit a bank, trust company, member
of a national securities exchange, other broker-dealer, or other eligible
guarantor institution. (Notaries public cannot provide signature guarantees.)
Guarantees must be signed by an authorized person at one of these institutions
and be accompanied by the words, "Signature Guarantee."
By Telephone
- ------------
You may redeem your shares in the Fund by calling the Transfer Agent at
1-800-417-5525 if you elected to use telephone redemption on your account
application when you initially purchased shares. Redemption proceeds must be
transmitted directly to you or to your pre-designated account at a domestic
bank. You may not redeem by telephone if a change of address request has been
received by the Fund or the Transfer Agent within 15 days prior to the request
for redemption. During periods of substantial economic or market changes,
telephone redemptions may be difficult to implement. If you are unable to
contact the Transfer Agent by telephone, shares may be redeemed by delivering
your redemption request in person or by mail. In addition, interruptions in
telephone service may mean that you will be unable to effect a redemption by
telephone exactly when desired.
By Wire
- -------
You may request the redemption proceeds be wired to your designated bank if it
is a member bank or a correspondent of a member bank of the Federal Reserve
System. The Fund's Custodian may charges a fee to your account for outgoing
wires.
Redemption At The Option Of The Fund
- ------------------------------------
If the value of the shares in your account falls to less than $2000, the Fund
may notify you that, unless your account is increased to $2000 in value, it will
redeem all your shares and close the account by paying you the redemption
proceeds and any dividends and distributions declared and unpaid at the date of
redemption. You will have thirty days after notice to bring the account up to
$2000 before any action is taken. This right of redemption shall not apply if
the value of your account drops below $2000 as the result of market action. The
Fund reserves this right because of the expense to the Fund of maintaining
relatively small accounts.
DIVIDENDS AND DISTRIBUTIONS
Dividends paid by the Fund are derived from its net investment income. Net
investment income will be distributed at least annually. The Fund's net
investment income is made up of dividends received from the stocks it holds, as
well as interest accrued and paid on any other obligations that might be held in
its portfolio.
The Fund realizes capital gains when it sells a security for more than it paid
for it. The Fund may make distributions of its net realized capital gains (after
any reductions for capital loss carry forwards), generally, once a year.
Unless you elect to have your distributions paid in cash, your distributions
will be reinvested in additional shares of the Fund. You may change the manner
in which your dividends are paid at any time by writing to the Transfer Agent.
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TAX CONSIDERATIONS
The Fund intends to qualify as a regulated investment company under Subchapter M
of the Internal Revenue Code of 1986, as amended, so as to be relieved of
federal income tax on its capital gains and net investment income currently
distributed to its shareholders.
Dividends from investment income and net short-term capital gains are generally
taxable to you as ordinary income. Distributions of long-term capital gains are
taxable as long-term capital gains regardless of the length of time shares in
the Fund have been held. Distributions are taxable, whether received in cash or
reinvested in shares of the Fund.
You will be advised annually of the source of distributions for federal income
tax purposes.
A redemption of shares is a taxable event and, accordingly, a capital gain or
loss may be recognized. You should consult a tax adviser regarding the effect of
federal, state, local, and foreign taxes on an investment in the Fund.
GENERAL INFORMATION
The Fund will not issue stock certificates evidencing shares. Instead, your
account will be credited with the number of shares purchased, relieving you of
responsibility for safekeeping of certificates and the need to deliver them upon
redemption. Written confirmations are issued for all purchases of shares.
In reports or other communications to investors, or in advertising material, the
Fund may describe general economic and market conditions affecting the Fund and
may compare its performance with other mutual funds as listed in the rankings
prepared by Lipper Analytical Services, Inc. or similar nationally recognized
rating services and financial publications that monitor mutual fund performance.
The Fund may also, from time to time, compare its performance to the one or more
appropriate indices.
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FOR MORE INFORMATION
Additional information about the Fund is available in the Fund's Statement of
Additional Information (SAI). The SAI contains more detailed information on all
aspects of the Fund. A current SAI, dated December 30, 1999, has been filed with
the SEC and is incorporated by reference into this prospectus.
To receive information concerning the Fund, or to request a copy of the SAI or
other documents relating to the Fund, please contact the Fund at:
Fairholme Funds, Inc.
c/o Mutual Shareholder Services
1301 East 9th Street, Suite 1005
Cleveland, OH 44114
1-800-417-5525
A copy of your requested document(s) will be sent to you within three days of
your request.
You may also receive information concerning the Fund, or request a copy of the
SAI or other documents relating to the Fund, by contacting the Securities and
Exchange Commission:
IN PERSON: at the SEC's Public Reference Room in Washington, D.C.
BY PHONE: 1-800-SEC-0330
BY MAIL: Public Reference Section, Securities and Exchange Commission,
Washington, D.C. 20549-6009 (duplicating fee required)
ON THE INTERNET: www.sec.gov
Investment Company Act No.
811-09607
<PAGE>
STATEMENT OF ADDITIONAL INFORMATION
Dated December 30, 1999
FAIRHOLME FUNDS, INC.
51 JFK Parkway
Short Hills, NJ 07078
1-800-417-5525
This Statement of Additional Information is not a prospectus and should be read
in conjunction with the Prospectus of the Fairholme Fund ("Fund"), dated
December 30, 1999. You may obtain a copy of the Prospectus, free of charge, by
writing to Fairholme Funds, Inc. ("Company") c/o Mutual Shareholder Services,
1301 East 9th Street, Cleveland, OH 44114, or by calling 1-800-417-5525.
TABLE OF CONTENTS
The Fund's Investment Policies, Objectives And Securities Options........... 2
Investment Restrictions..................................................... 6
Investment Adviser.......................................................... 7
Directors and Officers ................................................... 8
Performance Information..................................................... 9
Purchasing and Redeeming Shares............................................. 10
Tax Information............................................................. 10
Portfolio Transactions...................................................... 12
Custodian................................................................... 12
Transfer Agent.............................................................. 13
Administration.............................................................. 13
Distributor................................................................. 13
Independent Accountants..................................................... 14
Legal Counsel............................................................... 14
General Information......................................................... 14
Distribution Plan........................................................... 15
Financial Statements........................................................ 15
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THE FUND'S INVESTMENT POLICIES, OBJECTIVES AND SECURITIES OPTIONS
The Fund's investment objectives and the manner in which the Fund pursues its
investment objectives are generally discussed in the prospectus. This section
provides information concerning the Fund's additional investment policies,
objectives and securities in which the Fund may invest but which are not part of
the Fund's primary investment strategies.
The Fund is a non-diversified Fund, meaning that the Fund can concentrate its
investments in a smaller number of companies than a more diversified fund. The
Fund normally will invest at least 75% of total assets in common stock of U.S.
companies and ADRs of foreign companies, and will normally hold a focused
portfolio consisting of not more than 25 stocks. The Fund may also invest in a
variety of other securities. These other types of securities in which the Fund
may invest are listed below, along with any restrictions on such investments,
and, where necessary, a brief discussion of any risks unique to the particular
security.
REAL ESTATE INVESTMENT TRUSTS. The Fund may invest in real estate investment
trusts (REITs). Equity REITs invest directly in real property while mortgage
REITs invest in mortgages on real property. REITs may be subject to certain
risks associated with the direct ownership of real estate, including declines in
the value of real estate, risks related to general and local economic
conditions, overbuilding and increased competition, increases in property taxes
and operating expenses, and variations in rental income. REITs pay dividends to
their shareholders based upon available funds from operations. It is quite
common for these dividends to exceed the REITs taxable earnings and profits
resulting in the excess portion of such dividends being designated as a return
of capital. The Fund intends to include the gross dividends from such REITs in
its distribution to its shareholders and, accordingly, a portion of the Fund's
distributions may also be designated as a return of capital. The Fund will not
invest more than 20% of its assets in REITS.
FOREIGN SECURITIES. The Fund may invest up to 25% of its total net assets in the
common stock of foreign issuers traded on U.S. exchanges. The Fund may also
invest in foreign securities in the form of American Depository Receipts (ADRs).
The Fund will only invest in ADRs that are issuer sponsored. Sponsored ADRs
typically are issued by a U.S. bank or trust company and evidence ownership of
underlying securities issued by a foreign corporation.
Investments in foreign companies involve certain risks not typically associated
with investing in domestic companies. An investment may be affected by changes
in currency rates and in exchange control regulations. There may be less
publicly available information about a domestic company than about a domestic
company, because foreign companies are not subject to the regulatory
requirements of U.S. companies. Foreign companies generally are not subject to
uniform accounting, auditing and financial reporting standards. Dividends and
interest on foreign securities may be subject to foreign withholding taxes. Such
taxes may reduce the net return to Fund shareholders. Foreign securities are
often denominated in a currency other than the U.S. dollar. Accordingly, the
Fund will be subject to the risks associated with fluctuations in currency
values. Although the Fund will only invest in foreign issuers that are domiciled
in nations considered to have stable and friendly governments, there is the
possibility of expropriation, confiscation, taxation, currency blockage or
political or social instability which could negatively affect the Fund.
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PREFERRED STOCK. The Fund may invest in preferred stock. Preferred stock
generally pays dividends at a specified rate and generally has preference over
common stock in the payments of dividends and the liquidation of the issuer's
assets. Dividends on preferred stock are generally payable at the discretion of
the issuer's board of directors. Accordingly, shareholders may suffer a loss of
value if dividends are not paid. The market prices of preferred stocks are also
sensitive to changes in interest rates and in the issuer's creditworthiness.
Accordingly, shareholders may experience a loss of value due to adverse interest
rate movements or a decline in the issuer's credit rating.
CONVERTIBLE SECURITIES. Traditional convertible securities include corporate
bonds, notes and preferred stocks that may be converted into or exchanged for
common stock, and other securities that also provide an opportunity for equity
participation. These securities are generally convertible either at a stated
price or a stated rate (that is, for a specific number of shares of common stock
or other security). As with other fixed income securities, the price of a
convertible security to some extent varies inversely with interest rates. While
providing a fixed-income stream (generally higher in yield than the income
derivable from a common stock but lower than that afforded by a non-convertible
debt security), a convertible security also affords the investor an opportunity,
through its conversion feature, to participate in the capital appreciation of
the common stock into which it is convertible. As the market price of the
underlying common stock declines, convertible securities tend to trade
increasingly on a yield basis and so may not experience market value declines to
the same extent as the underlying common stock. When the market price of the
underlying common stock increases, the price of a convertible security tends to
rise as a reflection of the value of the underlying common stock. To obtain such
a higher yield, the Fund may be required to pay for a convertible security an
amount in excess of the value of the underlying common stock. Common stock
acquired by the Fund upon conversion of a convertible security will generally be
held for so long as the Advisor anticipates such stock will provide the Fund
with opportunities which are consistent with the Fund's investment objectives
and policies.
DEBT SECURITIES. The Fund may invest in U.S. Government debt securities. U.S.
Government securities include direct obligations of the U.S. Government and
obligations issued by U.S. Government agencies and instrumentalities. The market
value of such securities fluctuates in response to interest rates and the
creditworthiness of the issuer. In the case of securities backed by the full
faith and credit of the United States Government, shareholders are only exposed
to interest rate risk.
Credit Risk- A debt instrument's credit quality depends on the issuer's
ability to pay interest on the security and repay the debt: the lower the
credit rating, the greater the risk that the security's issuer will
default. The credit risk of a security may also depend on the credit
quality of any bank or financial institution that provides credit
enhancement for the security.
Interest Rate Risk- All debt securities face the risk that their principal
value will decline because of a change in interest rates. Generally,
investments subject to interest rate risk will decrease in value when
interest rates rise and will rise in value when interest rates decline.
Also, the longer a security has until it matures, the more pronounced will
be a change in its value when interest rates change.
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MONEY MARKET MUTUAL FUNDS. The Fund may invest in securities issued by other
registered investment companies. As a shareholder of another registered
investment company, the Fund would bear its pro rata portion of that company's
advisory fees and other expenses. Such fees and expenses will be borne
indirectly by the Fund's shareholders.
REPURCHASE AGREEMENTS. The Fund may invest a portion of its assets in repurchase
agreements ("Repos") with broker-dealers, banks and other financial
institutions, provided that the Fund's custodian at all times has possession of
the securities serving as collateral for the Repos or has proper evidence of
book entry receipt of said securities. In a Repo, the Fund purchases securities
subject to the seller's simultaneous agreement to repurchase those securities
from the Fund at a specified time (usually one day) and price. The repurchase
price reflects an agreed-upon interest rate during the time of investment. All
Repos entered into by the Fund must be collateralized by U.S. Government
Securities, the market values of which equal or exceed 102% of the principal
amount of the money invested by the Fund. If an institution with whom the Fund
has entered into a Repo enters insolvency proceedings, the resulting delay, if
any, in the Fund's ability to liquidate the securities serving as collateral
could cause the Fund some loss if the securities declined in value prior to
liquidation. To minimize the risk of such loss, the Fund will enter into Repos
only with institutions and dealers considered creditworthy.
Repurchase Agreement Risk- A repurchase agreement exposes the Fund to the
risk that the party that sells the securities will default on its
obligation to repurchase those securities. If that happens the Fund can
lose money because: (i) it may not be able to sell the securities at the
agreed-upon time and price; and (ii) the securities may lose value before
they can be sold.
CASH RESERVES. The Fund may hold a significant portion of its net assets in
cash, either to maintain liquidity or for temporary defensive purposes. The Fund
will normally invest its remaining assets in cash and cash equivalents, such as
U.S. government debt instruments, other money market funds, and repurchase
agreements.
RESTRICTED AND ILLIQUID SECURITIES. The Fund will not invest more than 15% of
its net assets in securities that the Adviser determines to be illiquid.
Illiquid securities are securities that may be difficult to sell promptly at an
acceptable price because of a lack of an available market and other factors. The
sale of some illiquid and other types of securities may be subject to legal
restrictions. Because illiquid and restricted securities may present a greater
risk of loss than other types of securities, the Fund will not invest in such
securities in excess of the limits set forth above.
The Fund may also invest in securities acquired in a privately negotiated
transaction from the issuer or a holder of the issuer's securities and which may
not be distributed publicly without registration under the Securities Act of
1933.
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Restricted and illiquid securities are valued in such manner as the Fund's Board
of Directors ("Board" or "Directors") in good faith deems appropriate to reflect
the fair market value of such securities.
SPECIAL SITUATIONS. The Fund intends to invest in special situations from time
to time. A special situation arises when, in the opinion of Fund management, the
securities of a company will, within a reasonably estimated time period, be
accorded market recognition at an appreciated value solely by reason of a
development particularly or uniquely applicable to that company and regardless
of general business conditions or movements of the market as a whole. Such
developments and situations include, but are not limited to: liquidations,
reorganizations, recapitalizations or mergers, material litigation,
technological breakthroughs, and new management or management policies. Although
large and well-known companies may be involved, special situations often involve
much greater risk than is found in the normal course of investing. To minimize
these risks, the Fund will not invest in special situations unless the target
company has at least three years of continuous operations (including
predecessors), or unless the aggregate value of such investments is not greater
than 25% of the Fund's total net assets (valued at the time of investment).
WHEN-ISSUED SECURITIES AND DELAYED-DELIVERY TRANSACTIONS. The Fund may purchase
securities on a when-issued basis, and it may purchase or sell securities for
delayed-delivery. These transactions occur when securities are purchased or sold
by the Fund with payment and delivery taking place at some future date. The Fund
may enter into such transactions when, in the Adviser's opinion, doing so may
secure an advantageous yield and/or price to the Fund that might otherwise be
unavailable. The Fund has not established any limit on the percentage of assets
it may commit to such transactions, but to minimize the risks of entering into
these transactions, the Fund will maintain a segregated account with its
custodian consisting of cash, or other high-grade liquid debt securities,
denominated in U.S. dollars or non-U.S. currencies, in an amount equal to the
aggregate fair market value of its commitments to such transactions.
MASTER-FEEDER OPTION. Notwithstanding its other investment policies, the Fund
may seek to achieve its investment objective by investing all of its investable
net assets in another investment company having the same investment objective
and substantially the same investment policies and restrictions as those of the
Fund. Although such an investment may be made in the sole discretion of the
Directors, the Fund's shareholders will be given 30 days prior notice of any
such investment. There is no current intent to make such an investment.
PORTFOLIO TURNOVER. The Fund has no operating history and therefore has no
annual reportable portfolio turnover. The Fund will generally purchase and sell
securities without regard to the length of time the security has been held.
Accordingly, it can be expected that the rate of portfolio turnover may be
substantial. The Fund expects that its annual portfolio turnover rate will not
exceed 100% under normal conditions. However, there can be no assurance that the
Fund will not exceed this rate, and the portfolio turnover rate may vary from
year to year.
High portfolio turnover in any year will result in the payment by the Fund of
above-average transaction costs and could result in the payment by shareholders
of above-average amounts of taxes on realized investment gains. Distributions to
shareholders of such investment gains, to the extent they consist of short-term
capital gains, will be considered ordinary income for federal income tax
purposes.
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Portfolio turnover rate is calculated by dividing (1) the lesser of purchases or
sales of portfolio securities for the for the fiscal year by (2) the monthly
average of the value of portfolio securities owned during the fiscal year. A
100% turnover rate would occur if all the securities in the Fund's portfolio,
with the exception of securities whose maturities at the time of acquisition
were one year or less, were sold and either repurchased or replaced within one
year.
INVESTMENT RESTRICTIONS
The restrictions listed below are fundamental policies and may be changed only
with the approval of a "majority of the outstanding voting securities" of the
Fund as defined in the Investment Company Act of 1940 (the "1940 Act"). As
provided in the 1940 Act, a vote of a "majority of the outstanding voting
securities" of the Fund means the affirmative vote of the lesser of (1) more
than 50% of the outstanding shares of the Fund, or (2) 67% or more of the shares
of the Fund present at a meeting, if more than 50% of the shares are represented
at the meeting in person or by proxy. Except with respect to borrowing, changes
in values of the Fund's assets as a whole will not cause a violation of the
following investment restrictions so long as percentage restrictions are
observed by the Fund at the time it purchases any security.
The Fund will not:
1. With respect to 75% of its assets (valued at time of investment), normally
invest in not more than 25 issuers.
2. Acquire securities of any one issuer that at the time of investment
represent more than 10% of the voting securities of the issuer.
3. Invest more than 25% of its assets (valued at time of investment) in the
securities of any one issuer.
4. Borrow money, except from banks for temporary or emergency purposes in
amounts not exceeding 5% (valued at time of investment) of the value of the
Fund's assets at the time of borrowing.
5. Underwrite the distribution of securities of other issuers.
6. Invest in companies for the purpose of management or the exercise of
control.
7. Lend money (but this restriction shall not prevent the Fund from investing
in debt securities or repurchase agreements, or lend its portfolio
securities).
8. Issue senior securities.
9. Invest in commodities, futures contracts or options contracts.
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10. Invest in oil, gas or other mineral exploration or development programs,
although it may invest in marketable securities of companies engaged in
oil, gas or mineral exploration.
11. Purchase or sell real estate or real estate loans or real estate limited
partnerships, although it may invest in marketable securities of companies
that invest in real estate or interests in real estate.
The Fund has also adopted the following non-fundamental restrictions that may be
changed by the Board without shareholder approval:
The Fund may not:
1. Make margin purchases.
2. Invest more than 15% of its net assets (valued at time of investment) in
securities that are not readily marketable.
3. Acquire securities of other investment companies except as permitted by the
Investment Company Act of 1940.
4. Pledge, mortgage or hypothecate its assets, except for temporary or
emergency purposes and then to an extent not greater than 5% of its total
assets (valued at time of investment).
5. Invest more than 5% of the Fund's assets (valued at time of investment) in
securities of companies with less than 3 years continuous operations,
including predecessors.
INVESTMENT ADVISER
Information on the Fund's investment adviser, Fairholme Capital Management, LLC
(the "Adviser"), is set forth in the prospectus. This section contains
additional information concerning the Adviser.
The Adviser manages the investment portfolio and the general business affairs of
the Fund pursuant to an investment services agreement with the Fund dated
December 15, 1999. Mr. Bruce R. Berkowitz is Managing Director and Chief
Investment Officer of the Adviser, Mr. Michael J. Senior is Chief Operating
Officer of the Adviser. Both persons serve as Directors and Officers of the
Company. Mr. Berkowitz is portfolio manager for the Fund.
The Investment Advisory Agreement.
- ---------------------------------
The Company has entered into an Investment Advisory Agreement ("Advisory
Agreement") with the Adviser. Under the terms of the Advisory Agreement, the
Adviser manages the investment operations of the Fund in accordance with the
Fund's investment policies and restrictions. The Adviser furnishes an investment
program for the Fund, determines what investments should be purchased, sold and
held, and makes changes on behalf of the Company in the investments of the Fund.
At all times the Adviser's actions on behalf of the Fund are subject to the
overall supervision and review of the Board.
The Advisory Agreement provides that the Adviser shall not be liable for any
loss suffered by the Fund or its shareholders as a consequence of any act or
omission in connection with services
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under the Advisory Agreement, except by reason of the Adviser's willful
misfeasance, bad faith, gross negligence, or reckless disregard of its
obligations and duties.
The Advisory Agreement has a term of two years, but may be continued thereafter
from year to year so long as its continuance is approved at least annually (a)
by the vote of a majority of the Directors of the Fund who are not "interested
persons" of the Fund or the Adviser cast in person at a meeting called for the
purpose of voting on such approval, and (b) by the Board of Directors as a whole
or by the vote of a majority (as defined in the 1940 Act) of the outstanding
shares of the Fund.
The Advisory Agreement will terminate automatically in the event of its
assignment (as defined in the 1940 Act).
For its investment advisory services to the Fund, the Company pays to the
Adviser, on the last day of each month, an annualized fee equal to 0.50% of
average net assets of the Fund, such fee to be computed daily based upon the
daily average net assets of the Fund.
The Operating Services Agreement
- --------------------------------
The Company has also entered into an Operating Services Agreement with the
Adviser ("Services Agreement"). Under the terms of the Services Agreement, the
Adviser provides, or arranges to provide, day-to-day operational services to the
Fund including, but not limited to:
1. accounting 6. custodial
2. administrative 7. fund share distribution
3. legal (except litigation) 8. shareholder reporting
4. dividend disbursing and transfer agent 9. sub-accounting, and
5. registrar 10. record keeping services
For its services to the Fund under the Services Agreement, the Fund pays to the
Adviser, on the last day of each month, an annualized fee equal to 0.50% of
average net asset value of the Fund, such fee to be computed daily based upon
the net asset value of the Fund.
Under the Services Agreement, the Adviser may, with the Company's permission,
employ third parties to assist it in performing the various services required of
the Fund. The Adviser is responsible for compensating such parties.
The effect of the Advisory Agreement and the Operating Services Agreement
together is to place a "cap" on the Fund's normal operating expenses at 1.00%.
The only other expenses which may be incurred by the Fund are brokerage fees,
taxes, legal fees relating to Fund litigation, and other extraordinary expenses.
DIRECTORS AND OFFICERS
The Board Of Directors ("Board" or "Directors") has overall responsibility for
conduct of the Company's affairs. The day-to-day operations of the Fund are
managed by the Adviser, subject
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to the Bylaws of the Company and review by the Board. The Directors of the
Company, including those Directors who are also officers, are listed below.
<TABLE>
<CAPTION>
Position Principal Occupation for
Name, Age with Fund The Last Five Years
- -----------------------------------------------------------------------------------------------------------
<S> <C> <C>
Bruce R. Berkowitz*; President, Managing Member, Fairholme Capital
(Age 41) Director Management, LLC, a registered investment
51 JFK Parkway adviser, since October, 1997. Managing
Short Hills, NJ 07078 Director, Smith Barney Asset Management,
12/93 through 10/97. BA degree, University of
Massachusetts at Amherst, 1980.
Michael J. Senior* Secretary/Treasurer Chief Operating Officer, Fairholme Capital
(Age 49) Director Management, LLC, a registered investment
51 JFK Parkway adviser, since May, 1998. Michael J. Senior
Short Hills, NJ 07078 Inc., a financial consulting firm, from 5/89
through 4/98. BBA degree, City College of New
York, 1972.
Joel L. Uchenick Director Senior Partner, the marketing firm of
(Age 50) Sherbrooke Associates. BA degree, University
52 Waltham Street of Massachusetts at Amherst, 1970. MBA,
Topsfield, MA McGill University of Montreal, 1979.
Avivith Oppenheim, Esq. Director Privately practicing Attorney at Law. BSW
(Age 49 ) degree, McGill University of Montreal, 1971.
140 Mountain Ave. MSW degree, McGill, University, Montreal,
Springfield, NJ. 1972. JD degree, Yeshiva University, New
York, NY, 1988.
Leigh Walters Director Director, Vice President, Valcor Engineering
(Age 53 ) Corp., and engineering Firm. BA degree,
2 Lawrence Road Temple University, Philadelphia, PA, 1968. JD
Springfield, NJ degree, John Marshall School of Law, Chicago,
IL 1973.
</TABLE>
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* Indicates an "interested person" as defined in the 1940 Act.
The table below sets forth the compensation anticipated to be paid by the
Company to each of the directors of the Company during the fiscal year ending
November 30, 2000.*
Name of Director Compensation Pension Annual Total Compensation
from Corp Benefits Benefits Paid to Director
- --------------------------------------------------------------------------------
Bruce R. Berkowitz $0.00 $0.00 $0.00 $0.00
Micheal J. Senior $0.00 $0.00 $0.00 $0.00
Joel L. Uchenick $600.00 $0.00 $0.00 $600.00
Avivith Oppenheim $600.00 $0.00 $0.00 $600.00
Leigh Walters $600.00 $0.00 $0.00 $600.00
* Pursuant to its obligations to the Company under the Services Agreement, the
Adviser is responsible for paying compensation, if any, to each of the Company's
Independent Directors during the fiscal year ending November 30, 2000.
Control Persons and Shareholders Owning in Excess of 5% of Fund Shares
- ----------------------------------------------------------------------
The Adviser intends to purchase all of the outstanding shares of the Fund prior
to the Fund's effective date, and will accordingly be deemed to then control the
Fund.
PERFORMANCE INFORMATION
From time to time the Fund may quote total return figures. "Total Return" for a
period is the percentage change in value during the period of an investment in
Fund shares, including the value of shares acquired through reinvestment of all
dividends and capital gains distributions. "Average Annual Total Return" is the
average annual compounded rate of change in value represented by the Total
Return Percentage for the period.
[n]
Average Annual Total Return is computed as follows: P(1+T) = ERV
Where: P = a hypothetical initial investment of $1000]
T = average annual total return
n = number of years
ERV = ending redeemable value of shares at the end of the period
The Fund's performance is a function of conditions in the securities markets,
portfolio management, and operating expenses. Although information such as that
shown above is useful in reviewing the Fund's performance and in providing some
basis for comparison with other investment alternatives, it should not be used
for comparison with other investments using different reinvestment assumptions
or time periods.
In sales literature, the Fund's performance may be compared with that of market
indices and other mutual funds. In addition to the above computations, the Fund
might use comparative performance as computed in a ranking determined by Lipper
Analytical Services, Morningstar, Inc., or that of another service.
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PURCHASING AND REDEEMING SHARES
Purchases and redemptions of the Fund's shares will be made at net asset value
("NAV"). The Fund's NAV is determined on days on which the New York Stock
Exchange ("NYSE") is open for trading. For purposes of computing the NAV of a
share of the Fund, securities traded on security exchanges, or in the
over-the-counter market in which transaction prices are reported, are valued at
the last sales price at the time of valuation or, lacking any reported sales on
that day, at the most recent bid quotations. Securities for which quotations are
not available and any other assets are valued at a fair market value as
determined in good faith by the Adviser, subject to the review and supervision
of the Board. The price per share for a purchase order or redemption request is
the NAV next determined after receipt of the order.
The Fund is open for business on each day that the NYSE is open. The Fund's
share price or NAV is normally determined as of 4:00 p.m., Eastern time. The
Fund's share price is calculated by subtracting its liabilities from the closing
fair market value of its total assets and dividing the result by the total
number of shares outstanding on that day. Fund liabilities include accrued
expenses and dividends payable, and its total assets include the market value of
the portfolio securities as well as income accrued but not yet received. Since
the Fund generally does not charge sales or redemption fees, the NAV is the
offering price for shares of the Fund.
TAX INFORMATION
The Fund intends to qualify as a regulated investment company ("RIC") under
Subchapter M of the Internal Revenue Code of 1986, as amended, so as to be
relieved of federal income tax on its capital gains and net investment income
currently distributed to its shareholders. To qualify as a RIC, the Fund must,
among other things, derive at least 90% of its gross income from dividends,
interest, payments with respect to securities loans, gains from the sale or
other disposition of stock, securities, or other income derived with respect to
its business of investing in such stock or securities.
If the Fund qualifies as a RIC and distributes at least 90% of its net
investment income, the Fund will not be subject to Federal income tax on the
income so distributed. However, the Fund would be subject to corporate income
tax on any undistributed income other than tax-exempt income from municipal
securities.
The Fund intends to distribute to shareholders, at least annually, substantially
all net investment income and any net capital gains realized from sales of the
Fund's portfolio securities. Dividends from net investment income and
distributions from any net realized capital gains are reinvested in additional
shares of the Fund unless the shareholder has requested in writing to have them
paid by check.
If shares are purchased shortly before a record date for a distribution, the
shareholder will, in effect, receive a return of a portion of his investment,
but the distribution will be taxable to him even if the net asset value of the
shares is reduced below the shareholder's cost. However, for federal income tax
purposes the original cost would continue as the tax basis.
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If a shareholder fails to furnish his social security or other tax
identification number or to certify properly that it is correct, the Fund may be
required to withhold federal income tax at the rate of 31% (backup withholding)
from dividend, capital gain and redemption payments to him. Dividend and capital
gain payments may also be subject to backup withholding if the shareholder fails
to certify properly that he is not subject to backup withholding due to the
under-reporting of certain income.
Taxation of the Shareholder. Taxable distributions generally are included in a
shareholder's gross income for the taxable year in which they are received.
However, dividends declared in October, November and December and made payable
to shareholders of record in such month will be deemed to have been received on
December 31st if paid by the Fund during the following January.
Distributions by the Fund will result in a reduction in the fair market value of
the Fund's shares. Should a distribution reduce the fair market value below a
shareholder's cost basis, such distribution would be taxable to the shareholder
as ordinary income or as a long-term capital gain, even though, from an
investment standpoint, it may constitute a partial return of capital. In
particular, investors should be careful to consider the tax implications of
buying shares of the Fund just prior to a distribution. The price of such shares
include the amount of any forthcoming distribution so that those investors may
receive a return of investment upon distribution which will, nevertheless, be
taxable to them.
Dividends. A portion of the Fund's income may qualify for the dividends-received
deduction available to corporate shareholders to the extent that the Fund's
income is derived from qualifying dividends. Because the Fund may earn other
types of income, such as interest, income from securities loans, non-qualifying
dividends, and short-term capital gains, the percentage of dividends from the
Fund that qualifies for the deduction generally will be less than 100%. The Fund
will notify corporate shareholders annually of the percentage of Fund dividends
that qualifies for the dividend received deductions.
A portion of the Fund's dividends derived from certain U.S. Government
obligations may be exempt from state and local taxation. Short-term capital
gains are distributed as dividend income. The Fund will send each shareholder a
notice in January describing the tax status of dividends and capital gain
distributions for the prior year.
PORTFOLIO TRANSACTIONS
Decisions to buy and sell securities for the Fund are made by the Adviser. In
placing purchase and sale orders for portfolio securities for the Fund, it is
the policy of the Adviser to seek the best execution of orders at the most
favorable price. In selecting brokers to effect portfolio transactions, the
determination of what is expected to result in the best execution at the most
favorable price involves a number of largely judgmental considerations. Among
these are the Adviser's evaluation of the broker's efficiency in executing and
clearing transactions, the rate of commission or the size of the broker-dealer's
"spread", the size and difficulty of the order, the nature of the market for the
security, operational capabilities of the broker-dealer, and the research and
other services provided.
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The Adviser may purchase or sell portfolio securities on behalf of the Fund in
agency or principal transactions. In agency transactions, the Fund generally
pays brokerage commissions. In principal transactions, the Fund generally does
not pay commissions. However, the price paid for the security may include an
undisclosed commission or "mark-up" or selling concessions. The Adviser normally
purchases fixed-income securities on a net basis from primary market makers
acting as principals for the securities. The Adviser may purchase certain money
market instruments directly from an issuer without paying commissions or
discounts. Over-the-counter securities are generally purchased and sold directly
with principal market makers who retain the difference in their cost in the
security and its selling price. In some instances, the Adviser feels that better
prices are available from non-principal market makers who are paid commissions
directly.
The Adviser may combine transaction orders placed on behalf of the Fund with
orders placed on behalf of any other fund or private account managed by the
Adviser for the purpose of obtaining a more favorable transaction price. If an
aggregated trade is not completely filled, then the Adviser typically allocates
the trade among the funds or accounts, as applicable, on a pro rata basis based
upon account size. Exemptions are permitted on a case-by-case basis when judged
by the Adviser to be fair and reasonable to the funds or accounts involved.
Trading by the Portfolio Manager
- --------------------------------
Pursuant to Section 17(j) of the 1940 Act and Rule 17j-1 thereunder, the Fund,
the Adviser, and the Distributor have adopted Codes of Ethics restricting
personal securities trading by the Fund's Portfolio Manager. These Codes are on
public file, and are available from the Securities and Exchange Commission.
While the Codes permit personal transactions by the Portfolio Manager in
securities held or to be acquired by the Fund, the Codes prohibit and are
designed to prevent fraudulent activity in connection with such personal
transactions.
CUSTODIAN
UMB Bank, N.A., 1010 Grand Boulevard, Kansas City, Missouri 64106 ("UMB"), acts
as custodian for the Fund. As such, UMB holds all securities and cash of the
Fund, delivers and receives payment for securities sold, receives and pays for
securities purchased, collects income from investments and performs other
duties, all as directed by officers of the Company. UMB does not exercise any
supervisory function over management of the Fund, the purchase and sale of
securities or the payment of distributions to shareholders.
TRANSFER AGENT
Mutual Shareholder Services, 123 Main Street, Cleveland, OH 44114 ("MSS") acts
as transfer, dividend disbursing, and shareholder servicing agent for the Fund
pursuant to a written agreement with the Company and the Adviser. Under the
agreement, MSS is responsible for administering and performing transfer agent
functions, dividend distribution, shareholder administration, and maintaining
necessary records in accordance with applicable rules and regulations.
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For the services to be rendered as transfer agent, the Adviser shall pay MSS an
annual fee, paid monthly, based on the average net assets of the Fund, as
determined by valuations made as of the close of each business day of the month.
ADMINISTRATION
MSS also performs certain administrative tasks administrator for the Fund
pursuant to a written agreement with the Company and Adviser. MSS supervises all
aspects of the operations of the Fund except those reserved by the Fund's
investment adviser under it's service agreements with the Company. MSS is
responsible for:
(a) calculating the Fund's net asset value;
(b) preparing and maintaining the books and accounts specified in Rule 31a-1;
and 31a-2 of the Investment Company Act of 1940;
(c) preparing financial statements contained in reports to stockholders of the;
Fund
(d) preparing the Fund's federal and state tax returns;
(e) preparing reports and filings with the Securities and Exchange Commission;
(f) preparing filings with state Blue Sky authorities; and
(g) maintaining the Fund's financial accounts and records.
For the services to be rendered as administrator, the Adviser shall pay MSS an
annual fee, paid monthly, based on the average net assets of the Fund, as
determined by valuations made as of the close of each business day of the month.
DISTRIBUTOR
B/D Holdings, Inc. ("BDH"), 1301 East 9th Street, Cleveland, OH 44114, acts as
the principal underwriter of the Fund's shares pursuant to a written agreement
with the Fund and the Adviser ("Distribution Agreement").
Pursuant to the Distribution Agreement, BDH facilitates the registration of the
Funds' shares under state securities laws and assists in the sale of shares. For
providing underwriting services to the Fund, BDH is paid an annual fixed fee by
the Adviser.
The Adviser shall bear the expense of all filing or registration fees incurred
in connection with the registration of the Fund's shares under state securities
laws.
The Distribution Agreement may be terminated by either party upon 60 days' prior
written notice to the other party.
INDEPENDENT ACCOUNTANTS
McCurdy & Associates CPA's, Inc., 27955 Clemens Road, Westlake, OH 44145, will
serve as the Company's independent auditors for its first fiscal year.
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LEGAL COUNSEL
David Jones & Assoc., P.C., 4747 Research Forest Drive, Suite 180, # 303, The
Woodlands, TX 77381, has passed on certain matters relating to this registration
statement and acts as counsel to the Company.
GENERAL INFORMATION
Fairholme Funds, Inc., an open-end diversified management investment company,
was incorporated in Maryland on September 30, 1999. The Fund is a
non-diversified series of the Company. The affairs of the Company are managed by
a Board of Directors. The Board has delegated the day-to-day operations of the
Fund to the Adviser, which operates the Fund under the Board's general
supervision.
The Company's Articles of Incorporation permit the Board to issue 100,000,000
shares of common stock. The Board has the power to designate one or more
separate and distinct series and/or classes of shares of common stock and to
classify or reclassify any unissued shares with respect to such series.
Currently, the Fund is the only series of shares being offered by the Company.
Shareholders are entitled to: one vote per full share; to such distributions as
may be declared by the Company's Board of Directors out of funds legally
available; and upon liquidation, to participate ratably in the assets available
for distribution.
There are no conversion or sinking fund provisions applicable to the shares, and
shareholders have no preemptive rights and may not cumulate their votes in the
election of directors. The shares are redeemable and are fully transferable. All
shares issued and sold by the Fund will be fully paid and nonassessable.
According to the law of Maryland under which the Company is incorporated, and
the Company's Bylaws, the Company is not required to hold an annual meeting of
shareholders unless required to do so under the Investment Company Act of 1940.
Accordingly, the Company will not hold annual shareholder meetings unless
required to do so under the Act. Shareholders do have the right to call a
meeting of shareholders for the purpose of voting to remove directors. The
Company will call a meeting of shareholders for the purpose of voting upon the
question of removal of a director or directors when requested in writing to do
so by record holders of at least 10% of the Fund's outstanding common shares.
DISTRIBUTION PLAN
As noted in the Fund's Prospectus, the Fund has adopted a plan pursuant to Rule
12b-1 under the 1940 Act (collectively, the "Plan") whereby the Fund may pay a
fee of 0.25% per annum of the Fund's average daily net assets to the Adviser and
others for providing personal service and/or maintaining shareholder accounts
relating to the distribution of the Fund's shares. The fees are paid on a
monthly basis, based on the Fund's average daily net assets.
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<PAGE>
Pursuant to the Plan, the Adviser receives from the Fund a fee each month equal
to 0.25% per annum of average net assets. The Adviser uses such fees to pay for
expenses incurred in the distribution and promotion of the Fund's shares,
including but not limited to, printing of prospectuses and reports used for
sales purposes, preparation and printing of sales literature and related
expenses, advertisements, and other distribution-related expenses as well as any
distribution or service fees paid to securities dealers or others who have
executed a dealer agreement with the distributor. Any expense of distribution in
excess of 0.25% per annum will be borne by the Adviser without any additional
payments by the Fund. You should be aware that it is possible that Plan accruals
will exceed the actual expenditures by the Adviser for eligible services.
Accordingly, such fees are not strictly tied to the provision of such services.
The Plan also provides that to the extent that the Fund, the Adviser, or other
parties on behalf of the Fund, or the Adviser make payments that are deemed to
be payments for the financing of any activity primarily intended to result in
the sale of shares issued by the Fund within the context of Rule 12b-1, such
payments shall be deemed to be made pursuant to the Plans. In no event shall the
payments made under the Plan, plus any other payments deemed to be made pursuant
to the Plan, exceed the amount permitted to be paid pursuant to the Conduct
Rules of the National Association of Securities Dealers, Inc.
The Board of Directors has determined that a consistent cash flow resulting from
the sale of new shares is necessary and appropriate to meet redemptions and to
take advantage of buying opportunities without having to make unwarranted
liquidations of portfolio securities. The Board therefore believes that it will
likely benefit the Fund to have monies available for the direct distribution
activities of the Adviser in promoting the sale of the Fund's shares, and to
avoid any uncertainties as to whether other payments constitute distribution
expenses on behalf of the Fund. The Board of Directors, including the non-
interested Directors, has concluded that in the exercise of their reasonable
business judgment and in light of their fiduciary duties, there is a reasonable
likelihood that the Plan will benefit the Fund and its shareholders.
The Plan has been approved by the Funds' Board of Directors, including all of
the Directors who are non-interested persons as defined in the 1940 Act. The
Plan must be renewed annually by the Board of Directors, including a majority of
the Directors who are non-interested persons of the Fund and who have no direct
or indirect financial interest in the operation of the Plan. The votes must be
cast in person at a meeting called for that purpose. It is also required that,
during the period in which the Plan is in effect, the selection and nomination
of non-interested Directors be done only by the non-interested Directors. The
Plan and any related agreements may be terminated at any time, without any
penalty:
(1) by vote of a majority of the non-interested Directors on not more than 60
days' written notice,
(2) by the Adviser on not more than 60 days' written notice,
(3) by vote of a majority of the Fund's outstanding shares, on 60 days' written
notice, and
(4) automatically by any act that terminates the Advisory Agreement with the
Adviser.
The Adviser or any dealer or other firm may also terminate their respective
agreements at any time upon written notice.
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<PAGE>
The Plan and any related agreement may not be amended to increase materially the
amounts to be spent for distribution expenses without approval by a majority of
the Fund's outstanding shares, and all material amendments to the Plan or any
related agreements shall be approved by a vote of the non-interested Directors,
cast in person at a meeting called for the purpose of voting on any such
amendment.
The Adviser is required to report in writing to the Board of Directors of the
Fund, at least quarterly, on the amounts and purposes of any payment made under
the Plans, as well as to furnish the Board with such other information as may
reasonably be requested in order to enable the Board to make an informed
determination of whether the Plans should be continued.
Although the Plan has been adopted by the Board of Directors, the Board has
decided not to implement the Plan for at least the Fund's first fiscal year, in
order to minimize the ongoing expenses of the Fund during the Fund's start-up
phase. The Board will implement the Plan when and if circumstances so warrant.
FINANCIAL STATEMENTS
FAIRHOLME FUNDS, INC.
STATEMENT OF ASSETS AND LIABILITIES
DECEMBER 27, 1999
The Fairholme Fund
------------------
ASSETS:
Cash in Bank $100,000
--------
Total Assets $100,000
--------
LIABILITIES: $ 0
--------
Total Liabilities $ 0
--------
NET ASSETS $100,000
--------
NET ASSETS CONSIST OF:
Capital Paid In $100,000
--------
OUTSTANDING SHARES
100 Million Authorized at .0001 par 10,000
NET ASSET VALUE PER SHARE $ 10.00
OFFERING PRICE PER SHARE $ 10.00
See Accountants' Audit Report
17
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FAIRHOLME FUNDS, INC.
NOTES TO FINANCIAL STATEMENTS
December 27, 1999
1. ORGANIZATION
Fairholme Funds, Inc. (the "Trust") is an open-end management investment
company organized as a corporation under the laws of the State of Maryland
on September 30, 1999. The corporation provides for 100 million authorized
shares at .0001 par value, which may, without shareholder approval, be
divided into an unlimited number of series of such shares, and which
presently consist of one series of shares for the The Fairholme Fund (the
"Fund").
The primary investment objective of the Fund is long term growth of
capital.
The Fund uses an independent custodian and transfer agent. No transactions
other than those relating to organizational matters and the sale of 10,000
shares of The Fairholme Fund have taken place to date.
2. RELATED PARTY TRANSACTIONS
As of December 27, 1999, all of the outstanding shares of the Fund were
owned by Fairholme Capital Management, LLC. A shareholder who beneficially
owns, directly or indirectly, more than 25% of the Fund's voting securities
may be deemed a "control person" (as defined in the 1940 Act) of the Fund.
Fairholme Capital Management, LLC., the Fund's investment adviser and
administrator, is registered as an investment adviser under the Investment
Advisers Act of 1940. Certain directors and officers of Fairholme Funds,
Inc. are also directors and officers of Fairholme Capital Management, LLC.
As adviser and administrator, Fairholme Capital Management, LLC. receives
from the Fund as compensation for its services to the Fund a total combined
annual fee of 1.00% of the Fund's net assets. This fee is higher than that
paid by most other investment companies. The fee is paid monthly and
calculated on the average daily closing net asset value of the Fund.
The adviser pays all expenses incident to the Fund's operations and
business except litigation expenses, brokerage fees, taxes, interest, and
other extraordinary charges.
3. DISTRIBUTION PLAN
The Fund has adopted a distribution plan in accordance with Rule 12b-1
under the 1940 Act. The plan has not been implemented and the Fund has no
intention of implementing the plan during the Fund's first fiscal year.
4. CAPITAL STOCK AND DISTRIBUTION
At December 27, 1999, 100 million shares were authorized and paid in
capital amounted to $100,000 for The Fairholme Fund. Transactions in
capital stock were as follows:
Shares Sold:
The Fairholme Fund 10,000
Shares Redeemed:
The Fairholme Fund 0
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Net Increase:
The Fairholme Fund 10,000
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Shares Outstanding:
The Fairholme Fund 10,000
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