Registration No. 02-35570
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
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POST-EFFECTIVE AMENDMENT NO. 42 TO
FORM N-1A
REGISTRATION STATEMENT
under
THE SECURITIES ACT OF 1933
and
REGISTRATION STATEMENT
under
THE INVESTMENT COMPANY ACT OF 1940
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PRINCIPAL VARIABLE CONTRACTS FUND, INC.
(Exact name of Registrant as specified in Charter)
The Principal Financial Group
Des Moines, Iowa 50392
(Address of principal executive offices)
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Telephone Number (515) 248-3842
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MICHAEL D. ROUGHTON Copy to:
The Principal Financial Group JOHN W. BLOUCH, L.L.P.
Des Moines, Iowa 50392 Suite 405 West
1025 Thomas Jefferson Street, N.W.
Washington, DC 20007-0805
(Name and address of agent for service)
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It is proposed that this filing will become effective (check appropriate box)
immediately upon filing pursuant to paragraph (b)of Rule 485
X on May 1, 1998, pursuant to paragraph (b) of Rule 485
60 days after filing pursuant to paragraph (a)(1) of Rule 485
on (date) pursuant to paragraph (a)(1) of Rule 485
75 days after filing pursuant to paragraph (a)(2) of Rule 485
on (date) pursuant to paragraph (a)(2) of Rule 485
If appropriate, check the following box:
This post-effective amendment designates a new effective date for
a previously filed post-effective amendment.
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<PAGE>
The Principal Variable Contracts Fund, Inc. described in this prospectus is
a diversified, open-end management investment company which offers a variety of
Accounts each of which was formerly a separately incorporated investment
company. Together the Accounts provide the following range of investment
objectives:
Capital Value Account (formerly known as Principal Capital Accumulation Fund,
Inc.) seeks to achieve primarily long-term capital appreciation and secondarily
growth of investment income through the purchase primarily of common stocks, but
the Account may invest in other securities.
Government Securities Account (formerly known as Principal Government Securities
Fund, Inc.) seeks a high level of current income, liquidity and safety of
principal. The Account seeks to achieve its objective through the purchase of
obligations issued or guaranteed by the United States Government or its
agencies, with emphasis on Government National Mortgage Association Certificates
("GNMA Certificates"). Account shares are not guaranteed by the United States
Government.
Money Market Account (formerly known as Principal Money Market Fund, Inc.) seeks
as high a level of income available from short-term securities as is considered
consistent with preservation of principal and maintenance of liquidity by
investing all of its assets in a portfolio of money market instruments.
An investment in the Money Market Account is neither insured nor guaranteed
by the U.S. Government. There can be no assurance the Money Market Accounts will
be able to maintain a stable net asset value of $1.00 per share.
This Prospectus concisely states information about the Principal Variable
Contracts Fund, Inc. that an investor ought to know before investing. It should
be read and retained for future reference.
Additional information about the Fund has been filed with the Securities
and Exchange Commission, including documents called Statements of Additional
Information, dated May 1, 1998. The Statement of Additional Information is
incorporated by reference into this Prospectus. A copy of the Statement of
Additional Information can be obtained free of charge by writing or telephoning:
Principal Variable Contracts Fund, Inc.
a Member of
The Principal Financial Group
Des Moines, IA 50392
Telephone 1-800-247-4123
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
The date of this Prospectus is May 1, 1998
TABLE OF CONTENTS
Page
Summary ............................................................... 2
Financial Highlights.................................................... 4
Investment Objectives, Policies and Restrictions........................ 6
Certain Investment Policies and Restrictions............................ 9
Manager and Sub-Adivsor ................................................10
Duties Performed by the Manager and Sub-Advisor.........................11
Managers' Comments......................................................11
Determination of Net Asset Value of Account Shares......................13
Performance Calculation.................................................13
Income Dividends, Distributions and Tax Status..........................14
Eligible Purchasers and Purchase of Shares..............................15
Shareholder Rights .....................................................15
Redemption of Shares....................................................16
Additional Information..................................................16
This Prospectus does not constitute an offer to sell, or a solicitation of
an offer to buy, shares of the Accounts in any jurisdiction in which such sale,
offer to sell, or solicitation may not be lawfully made. No dealer, salesperson,
or other person has been authorized to give any information or to make any
representations, other than those contained in this Prospectus, in connection
with the offer contained in this Prospectus, and, if given or made, such other
information or representations must not be relied upon as having been authorized
by the Fund or the Fund's Manager.
SUMMARY
The following summarized information should be read in conjunction with the
detailed information appearing elsewhere in this Prospectus.
The Principal Variable Contracts Fund, Inc. ("Fund") is an open-end
diversified management investment company offering multiple Accounts.
Who may purchase shares of the Accounts?
Shares of the Accounts are available only to Eligible Purchasers which are
limited to: (a) separate accounts of Principal Mutual Life Insurance Company or
of other insurance companies; (b) Principal Mutual Life Insurance Company or any
subsidiary or affiliate thereof; (c) trustees or other managers of any qualified
profit sharing, incentive or bonus plan established by Principal Mutual Life
Insurance Company or any subsidiary or affiliate thereof for the employees of
such company, subsidiary or affiliate. The Board of Directors of the Fund
reserves the right to broaden or limit the designation of Eligible Purchasers.
What do the Accounts offer investors?
Professional Investment Management: Experienced securities analysts provide
each Account with professional investment management.
Diversification: Each Account will diversify by investing in securities
issued by a number of issuers doing business in a variety of industries, located
in different geographical regions and/or securities which have varying
maturities. Diversification reduces investment risk.
Economies of Scale: Pooling individual shareholder's investments in any of
the Accounts creates administrative efficiencies.
Redeemability: Upon request each Account will redeem its shares and
promptly pay the investor the current net asset value of the shares redeemed.
See Redemption of Shares.
What are the Accounts' investment objectives?
The investment objective of the Capital Value Account is long-term capital
appreciation and its secondary investment objective is growth of investment
income. The Account seeks to achieve its investment objectives through the
purchase primarily of common stocks but the Account may invest in other
securities.
The investment objective of the Government Securities Account is to seek a
high level of current income, liquidity and safety of principal. The Account
seeks to achieve its objective through the purchase of obligations issued or
guaranteed by the United States Government or its agencies, with emphasis on
Government National Mortgage Association Certificates ("GNMA Certificates").
Account shares are not guaranteed by the United States Government.
The investment objective of the Money Market Account is to seek as high a
level of current income available from short-term securities as is considered
consistent with preservation of principal and maintenance of liquidity by
investing all of its assets in a portfolio of money market instruments.
There can be no assurance that the investment objectives of any of the
Accounts will be realized. See Investment Objectives, Policies and Restrictions.
Who serves as Manager for the Accounts?
Principal Management Corporation (formerly known as Princor Management
Corporation)("Manager"), a corporation organized in 1969 by Principal Mutual
Life Insurance Company, is the Manager for each of the Accounts. It is also the
dividend disbursing and transfer agent for the Fund. In order to provide
investment advisory services for the Capital Value and Government Securities
Accounts the Manager has executed sub-advisory agreements with Invista Capital
Management, Inc. ("Invista" or "Sub-Advisor"). See Manager and Sub-Advisor.
What fees and expenses apply to ownership of shares of the Accounts?
The following table depicts fees and expenses applicable to the purchase
and ownership of shares of each of the Accounts.
ANNUAL ACCOUNT OPERATING EXPENSES
(As a Percentage of Average Net Assets)
Management Other Total Operating
Account Fee Expenses Expenses
------- ---------- -------- ---------------
Capital Value Account .46% .01% .47%
Government Securities Account .50% .02% .52%
Money Market Account .50% .05% .55%
EXAMPLE
You would pay the following expenses on a $1,000 investment, assuming (1)
5% annual return and (2) redemption at the end of each time period: Period
(in years)
Account 1 3 5 10
------- -- --- --- ---
Capital Value Account $5 $15 $26 $59
Government Securities Account $5 $17 $29 $65
Money Market Account $6 $18 $31 $69
This Example is based on the Annual Account Operating Expenses for each
Account described above. Please remember that the Example should not be
considered a representation of past or future expenses and that actual
expenses may be greater or less than those shown.
The purpose of the above table is to assist the investor in understanding
the various expenses that an investor in the Accounts will bear directly or
indirectly. The Fee Table and Example do not reflect expenses and charges of the
Separate Accounts that invest in the Accounts. See Duties Performed by the
Manager and Sub-Advisor.
FINANCIAL HIGHLIGHTS
The following financial highlights are derived from financial statements
which, for the five years in the period ended December 31, 1997, have been
audited by Ernst & Young LLP, independent auditors, whose report has been
incorporated by reference herein. The financial highlights should be read in
conjunction with the financial statements, related notes, and other financial
information incorporated by reference herein. Audited financial statements may
be obtained by shareholders, without charge, by telephoning 1-800-451-5447. See
page 6 for the Notes to Financial Highlights.
<TABLE>
<CAPTION>
For a Share Outstanding Throughout the Year Ended December 31,
--------------------------------------------------------------
(except as noted)
-----------------
CAPITAL VALUE ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c) 1988(c)
- --------------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $29.84 $27.80 $23.44 $24.61 $25.19 $26.03 $23.35 $22.48 $23.63 $23.23 $27.51
Income from Investment Operations:
Net Investment Income........... .68 .57 .60 .62 .61 .31 .65 .74 .79 .77 .60
Net Realized and Unrealized
Gain (Loss) on Investments.... 7.52 5.82 6.69 (.49) 1.32 1.84 2.70 1.22 .14 1.32 (1.50)
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 8.20 6.39 7.29 .13 1.93 2.15 3.35 1.96 .93 2.09 (.90)
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.67) (.58) (.60) (.61) (.60) (.64) (.67) (.79) (.81) (.68) (.69)
Distributions from Capital Gains (2.76) (3.77) (2.33) (.69) (1.91) (2.35) - (.30) (1.27) (1.01) (2.69)
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (3.43) (4.35) (2.93) (1.30) (2.51) (2.99) (.67) (1.09) (2.08) (1.69) (3.38)
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $34.61 $29.84 $27.80 $23.44 $24.61 $25.19 $26.03 $23.35 $22.48 $23.63 $23.23
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== =======
Total Return....................... 28.53% 23.50% 31.91% .49% 7.79% 8.81%(d) 14.53% 9.46% 3.94% 10.02% (2.67)%
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== =======
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................$285,231 $205,019 $135,640 $120,572 $128,515 $105,355 $94,596 $76,537 $74,008 $68,132 $62,696
Ratio of Expenses to
Average Net Assets............ .47% .49% .51% .51% .51% .55%(e) .54% .53% .56% .57% .60%
Ratio of Net Investment Income
to Average Net Assets......... 2.13% 2.06% 2.25% 2.36% 2.49% 2.56%(e) 2.65% 3.53% 3.56% 3.53% 2.76%
Portfolio Turnover Rate......... 23.4% 48.5% 49.2% 44.5% 25.8% 39.7%(e) 34.8% 14.0% 30.2% 23.5% 26.7%
Average Commission Rate......... $.0451 $.0426 N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
GOVERNMENT SECURITIES
- ---------------------
ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c) 1988(c)
- ------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $10.31 $10.55 $9.38 $10.61 $10.28 $10.93 $10.24 $10.05 $10.05 $9.37 $9.47
Income from Investment Operations:
Net Investment Income........... .66 .59 .60 .76 .71 .40 .80 .80 .78 .80 .78
Net Realized and Unrealized
Gain (Loss) on Investments.... .41 (.24) 1.18 (1.24) .33 .04 .71 .24 - .34 (.09)
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 1.07 .35 1.78 (.48) 1.04 .44 1.51 1.04 .78 1.14 .69
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.66) (.59) (.61) (.75) (.71) (.78) (.81) (.81) (.78) (.46) (.79)
Distributions from Capital Gains - - - - - - - - - - -
Excess Distributions from
Capital Gains(f) ............. - - - - - (.31) (.01) (.04) - - -
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (.66) (.59) (.61) (.75) (.71) (1.09) (.82) (.85) (.78) (.46) (.79)
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $10.72 $10.31 $10.55 $9.38 $10.61 $10.28 $10.93 $10.24 $10.05 $10.05 $9.37
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== ======
Total Return....................... 10.39% 3.35% 19.07% (4.53)% 10.07% 4.10%(d) 15.34% 10.94% 8.16% 12.61% 7.69%
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== ======
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................ $94,322 $85,100 $50,079 $36,121 $36,659 $31,760 $33,022 $26,021 $21,488 $15,890 $12,902
Ratio of Expenses to
Average Net Assets............ .52% .52% .55% .56% .55% .59%(e) .58% .59% .61% .63% .66%
Ratio of Net Investment Income
to Average Net Assets......... 6.37% 6.46% 6.73% 7.05% 7.07% 7.35%(e) 7.84% 8.31% 8.48% 8.68% 8.47%
Portfolio Turnover Rate......... 9.0% 8.4% 9.8% 23.2% 20.4% 34.5%(e) 38.9% 4.2% 18.7% 3.7% 2.7%
Average Commission Rate......... N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
MONEY MARKET ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c) 1988(c)
- -------------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000
Income from Investment Operations:
Net Investment Income........... .051 .049 .054 .037 .027 .016 .046 .070 .077 .083 .064
Net Realized and Unrealized
Gain (Loss) on Investments.... - - - - - - - - - - -
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations .051 .049 .054 .037 .027 .016 .046 .070 .077 .083 .064
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.051) (.049) (.054) (.037) (.027) (.016) (.046) (.070) (.077) (.083) (.064)
Distributions from Capital Gains - - - - - - - - - - -
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (.051) (.049) (.054) (.037) (.027) (.016) (.046) (.070) (.077) (.083) (.064)
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== ======
Total Return....................... 5.04% 5.07% 5.59% 3.76% 2.69% 1.54%(d) 4.64% 7.20% 8.37% 8.59% 6.61%
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== ======
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................ $47,315 $46,244 $32,670 $29,372 $22,753 $27,680 $25,194 $26,509 $26,588 $20,707 $14,571
Ratio of Expenses to
Average Net Assets............ .55% .56% .58% .60% .60% .59%(e) .57% .56% .57% .61% .64%
Ratio of Net Investment Income
to Average Net Assets......... 5.12% 5.00% 5.32% 3.81% 2.64% 3.10%(e) 4.54% 6.94% 8.05% 8.40% 6.39%
Portfolio Turnover Rate......... N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
Average Commission Rate......... N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
Notes to Financial Highlights
(a) Effective January 1, 1998, the following Fund names were changed:
Principal Capital Accumulation Fund, Inc. became Capital Value Account
Principal Government Securities Fund, Inc. became Government Securities
Account Principal Money Market Fund, Inc. became Money Market Account
(b) Effective July 1, 1992 the Account changed its fiscal year end from June 30
to December 31. This column represents the period July 1, 1992 to December
31, 1992.
(c) Fiscal year end June 30.
(d) Total return amounts have not been annualized.
(e) Computed on an annualized basis.
(f) Due to the timing of dividend distributions and the differences in
accounting for income and realized gains (losses) for financial statement
and federal income tax purposes, the fiscal year in which amounts are
distributed may differ from the year in which the income and realized gains
(losses) are recorded for financial statement purposes by the fund. The
differences between the income and gains distributed on a book versus tax
basis are shown in the Financial Highlights as excess distributions from
net investment income and from capital gains.
INVESTMENT OBJECTIVES, POLICIES AND RESTRICTIONS
The investment objectives and policies of each Account are described below.
There can be no assurance that the objectives of the Accounts will be realized.
Capital Value Account
The objective of Capital Value Account is long-term capital appreciation. A
secondary objective is growth of investment income.
The Account will invest primarily in common stocks, but may invest in other
securities. In making selections for the Account's investment portfolio, the
Sub-Advisor, Invista will use an approach described broadly as that of
fundamental analysis which is discussed in the Statement of Additional
Information. To achieve the investment objective, Invista will invest in
securities that have "value" characteristics. This process is known as "value
investing." Value investing is purchasing securities of companies with above
average dividend yields and below average price to earnings (P/E) ratios.
Securities chosen for investment may include those of companies which Invista
believes can reasonably be expected to share in the growth of the nation's
economy over the long term.
Government Securities Account
The objective of Government Securities Account is a high level of current
income, liquidity and safety of principal.
The Account will invest in obligations issued or guaranteed by the United
States Government or by its agencies or instrumentalities and in repurchase
agreements collateralized by such obligations. Such securities include
Government National Mortgage Association ("GNMA") Certificates of the modified
pass-through type, Federal National Mortgage Association ("FNMA") Obligations,
Federal Home Loan Mortgage Corporation ("FHLMC") Certificates and Student Loan
Marketing Association ("SLMA") Certificates and other U.S. Government
Securities. GNMA is a wholly-owned corporate instrumentality of the United
States whose securities and guarantees are backed by the full faith and credit
of the United States. FNMA, a federally chartered and privately-owned
corporation, FHLMC, a federal corporation, and SLMA, a government sponsored
stockholder-owned organization, are instrumentalities of the United States. The
securities and guarantees of FNMA, FHLMC and SLMA are not backed, directly or
indirectly, by the full faith and credit of the United States. Although the
Secretary of the Treasury of the United States has discretionary authority to
lend FNMA up to $2.25 billion outstanding at any time, neither the United States
nor any agency thereof is obligated to finance FNMA's or FHLMC's operations or
to assist FNMA or FHLMC in any other manner. The Account may maintain reasonable
amounts of cash or short-term debt securities for daily cash management purposes
or pending selection of particular long-term investments.
Cash equivalents in which the Account invests include corporate commercial
paper rated A-1+, A-1 or A-2 by S&P or P-1 or P-2 by Moody's, unrated commercial
paper issued by corporations with outstanding debt securities rated in the four
highest grades by S&P and Moody's and bank certificates of deposit and bankers'
acceptances issued or guaranteed by national or state banks and repurchase
agreements considered by the Account to have investment quality.
Depending on market conditions, up to 55% of the assets may be invested in
GNMA Certificates. GNMA Certificates are mortgage-backed securities representing
an interest in a pool of mortgage loans. Such loans are made by lenders such as
mortgage bankers, insurance companies, commercial banks and savings and loan
associations. Then, they are either insured by the Federal Housing
Administration (FHA) or they are guaranteed by the Veterans Administration (VA)
or Farmers Home Administration (FmHA). The lender or other prospective issuer
creates a specific pool of such mortgages, which it submits to GNMA for
approval. After approval, a GNMA Certificate is typically offered by the issuer
to investors through securities dealers.
GNMA Certificates differ from bonds in that the principal is scheduled to
be paid back by the borrower on a monthly basis over the life of the loan rather
than returned in a lump sum at maturity. Modified pass-through GNMA
certificates, which are the only kind in which the Account intends to invest,
entitle the holder to receive all interest and principal payments owed on the
mortgages in the pool (net of the issuer and GNMA fee of .5% prescribed by
regulation), regardless of whether or not the mortgagor has made such payment.
The timely payment of interest and principal is guaranteed by the full faith and
credit of the United States Government.
Although the payment of interest and principal is guaranteed, the guarantee
does not extend to the value of a GNMA Certificate or the value of the shares of
the Account. The market value of a GNMA Certificate typically will fluctuate to
reflect changes in prevailing interest rates. It falls when rates increase (as
does the market value of other debt securities) and it rises when rates decline
(but it may not rise on a comparable basis with other debt securities because of
its prepayment feature). Therefore, may be more or less than the face amount of
the GNMA Certificate, which reflects the aggregate principal amount of the
underlying mortgages.
As a result, the net asset value of Account shares will fluctuate as interest
rates change.
Mortgagors may pay off their mortgages at any time. Expected prepayments of
the mortgages can affect the market value of the GNMA Certificate, and actual
prepayments can affect the return ultimately received. Prepayments, like
scheduled payments of principal, are reinvested by the Account at prevailing
interest rates which may be less than the rate on the GNMA Certificate.
Prepayments are likely to increase as the interest rate for new mortgages moves
lower than the rate on the GNMA Certificate. Moreover, if the GNMA Certificate
had been purchased at a premium above principal because its rate exceeded
prevailing rates, the premium is not guaranteed and a decline in value to par
may result in a loss of the premium especially in the event of prepayment.
To the extent deemed appropriate by the Account's Sub-Advisor, Invista, the
Account intends to purchase GNMA Certificates directly from Principal Mutual
Life Insurance Company and other issuers as well as from securities dealers. The
Account will purchase directly from issuers only if it can obtain a price
advantage by not paying the commission or mark-up that would be required if the
Certificates were purchased from a securities dealer. The Securities and
Exchange Commission has issued an order under the Investment Company Act of 1940
that permits the Account to purchase GNMA Certificates directly from Principal
Mutual Life Insurance Company subject to certain conditions.
The FNMA and FHLMC securities in which the Account invests are very similar
to GNMA certificates as described above but are not guaranteed by the full faith
and credit of the United States but rather by the agency itself. FNMA and FHLMC
securities are rated Aaa by Moody's and AAA by Standard & Poor's. These ratings
reflect the status of FNMA and FHLMC as federal agencies as well as the
important role each plays in financing purchases of homes in the U.S.
Student Loan Marketing Association is a government sponsored
stockholder-owned organization whose goal is to provide liquidity to financial
and educational institutions. SLMA provides liquidity by purchasing student
loans, which are principally government guaranteed loans issued under the
Federal Guaranteed Student Loan Program and the Health Education Assistance Loan
Program. SLMA securities are not guaranteed by the U.S. Government but are
obligations solely of the agency. SLMA senior debt issues in which the Account
invests are rated AAA by Standard & Poor's and Aaa by Moody's.
There are other obligations issued or guaranteed by the United States
Government (such as U.S. Treasury securities) or by its agencies or
instrumentalities that are either supported by the full faith and credit of the
U.S. Treasury or the credit of a particular agency or instrumentality. Included
in the latter category are Federal Home Loan Bank and Farm Credit Banks.
Obligations not guaranteed by the United States Government are highly rated
because they are issued by indirect branches of government. Such paper is issued
as needs arise by the agency and is traded regularly in denominations similar to
those in which government obligations are traded.
The Account will not engage in the trading of securities for the purpose of
realizing short-term profits, but it will adjust its portfolio as considered
advisable in view of prevailing or anticipated market conditions and the
Account's investment objective. Accordingly, the Account may sell portfolio
securities in anticipation of a rise in interest rates and purchase securities
for inclusion in its portfolio in anticipation of a decline in interest rates.
As a hedge against changes in interest rates, the Account may enter into
contracts with dealers in GNMA Certificates whereby the Account agrees to
purchase or sell an agreed-upon principal amount of GNMA Certificates at a
specified price on a certain date. The Account may enter into similar purchase
agreements with issuers of GNMA Certificates other than Principal Mutual Life
Insurance Company. The Account may also purchase optional delivery standby
commitments which give the Account the right to sell particular GNMA
Certificates at a specified price on a specified date. Failure of the other
party to such a contract or commitment to abide by the terms thereof could
result in a loss to the Account. To the extent the Account engages in delayed
delivery transactions it will do so for the purpose of acquiring portfolio
securities consistent with its investment objective and policies and not for the
purpose of investment leverage or to speculate on interest rate changes.
Liability accrues to the Account at the time it becomes obligated to purchase
such securities, although delivery and payment occur at a later date. From the
time the Account becomes obligated to purchase securities on a delayed delivery
basis, the Account has all the rights and risks attendant to the ownership of a
security. At the time the Account enters into a binding obligation to purchase
such securities, Account assets of a dollar amount sufficient to make payment
for the securities to be purchased will be segregated. The availability of
liquid assets for this purpose and the effect of asset segregation on the
Account's ability to meet its current obligations, to honor requests for
redemption and to have its investment portfolio managed properly will limit the
extent to which the Account may engage in forward commitment agreements. Except
as may be imposed by these factors, there is no limit on the percent of the
Account's total assets that may be committed to transactions in such agreements.
Money Market Account
The Fund also includes an Account which invests primarily in short-term
securities, the Money Market Account. Securities in which this Account invests
may not yield as high a level of current income as securities of lower quality
and longer maturities which generally have less liquidity, greater market risk
and more fluctuation.
The Money Market Account will limit its portfolio investments to United
States dollar denominated instruments that the board of directors determines
present minimal credit risks and which at the time of acquisition are "Eligible
Securities" as that term is defined in regulations issued under the Investment
Company Act of 1940. Eligible Securities include:
(1) A security with the remaining maturity of 397 days or less that is
rated (or that has been issued by an issuer that is rated in respect to
a class of short-term debt obligations, or any security within that
class, that is comparable in priority and security with the security)
by a nationally recognized statistical rating organization in one of
the two highest rating categories for short-term debt obligations; or
(2) A security that at the time of issuance was a long-term security that
has a remaining maturity of 397 calendar days or less, and whose issuer
has received from a nationally recognized statistical rating
organization a rating, with respect to a class of short-term debt
obligations (or any security within that class) that is now comparable
in priority and security with the security, in one of the two highest
rating categories for short-term debt obligations; or
(3) an unrated security that is of comparable quality to a security meeting
the requirements of (1) or (2) above, as determined by the board of
directors.
The Account will not invest more than 5% of its total assets in the
following securities:
(1) Securities which, when acquired by the Account (either initially or
upon any subsequent rollover), are rated below the highest rating
category for short-term debt obligations;
(2) Securities which, at the time of issuance were long-term securities but
when acquired by the Account have a remaining maturity of 397 calendar
days or less, if the issuer of such securities is rated, with respect
to a class of comparable short-term debt obligations, below the highest
rating category for short-term obligations;
(3) Securities which are unrated but are determined by the Fund's board of
directors to be of comparable quality to securities rated below the
highest rating category for short-term debt obligations.
The Account will maintain a dollar-weighted average portfolio maturity of
90 days or less.
The objective of the Money Market Account is to seek as high a level of
income available from short-term securities as is considered consistent with
preservation of principal and maintenance of liquidity by investing all of its
assets in a portfolio of money market instruments. These money market
instruments are U.S. Government Securities, U.S. Government Agency Securities,
Bank Obligations, Commercial Paper, Short-term Corporate Debt and Repurchase
Agreements, which are described briefly below and in more detail in the
Statement of Additional Information.
U.S. Government Securities are securities issued or guaranteed by the U.S.
Government, including treasury bills, notes and bonds.
U.S. Government Agency Securities are obligations issued or guaranteed by
agencies or instrumentalities of the U.S. Government whether supported by the
full faith and credit of the U.S. Treasury or only by the credit of a particular
agency or instrumentality.
Bank Obligations consist of certificates of deposit which are generally
negotiable certificates issued against funds deposited in a commercial bank for
a definite period of time and earning a specified return and bankers acceptances
which are time drafts drawn on a commercial bank by a borrower, usually in
connection with international commercial transactions.
Commercial Paper is short-term promissory notes issued by corporations
primarily to finance short-term credit needs.
Short-term Corporate Debt consists of notes, bonds or debentures which at
the time of purchase have one year or less remaining to maturity.
Repurchase Agreements are transactions under which securities are purchased
from a bank or securities dealer with an agreement by the seller to repurchase
the securities at the same price plus interest at a specified rate. Generally,
Repurchase Agreements are of short duration, usually less than a week but on
occasion for longer periods.
The Account intends to hold its investments until maturity. However, it may
attempt from time to time to increase its yield by trading to take advantage of
market variations. Also, revised valuations of an issuer or redemptions may
result in sales of portfolio investments prior to maturity or at times when such
sales might otherwise not be desirable. The Account's right to borrow to
facilitate redemptions may reduce the need for such sales. It is the Account's
policy to be as fully invested as reasonably practical at all times to maximize
current income.
Since portfolio assets will consist of short-term instruments, replacement
of portfolio securities will occur frequently. However, since the Account
expects to usually transact purchases and sales of portfolio securities with
issuers or dealers on a net basis, it is not anticipated that the Account will
pay any significant brokerage commissions. The Account is free to dispose of
portfolio securities at any time, when changes in circumstances or conditions
make such a move desirable in light of the investment objective.
CERTAIN INVESTMENT POLICIES AND RESTRICTIONS
Following is a discussion of certain investment practices that the Accounts
may use in an effort to achieve their respective investment objectives.
Diversification
Each Account is subject to the diversification requirements of Section
817(h) of the Internal Revenue Code (the "Code") which must be met at the end of
each quarter of the year (or within 30 days thereafter). Regulations issued by
the Secretary of the Treasury have the effect of requiring the Account to invest
no more than 55% of its total assets in securities of any one issuer, no more
than 70% in the securities of any two issuers, no more than 80% in the
securities of any three issuers, and no more than 90% in the securities of any
four issuers. For this purpose, the United States Treasury and each U.S.
Government agency and instrumentality is considered to be a separate issuer.
Thus, the Government Securities Account intends to invest in U.S. Treasury
securities and in securities issued by at least four U.S. Government agencies or
instrumentalities in the amounts necessary to meet those diversification
requirements at the end of each quarter of the year (or within thirty days
thereafter).
In the event any of the Accounts do not meet the diversification
requirements of Section 817(h) of the Code, the contracts funded by shares of
the Accounts will not be treated as annuities or life insurance for Federal
income tax purposes and the owners of the Accounts will be subject to taxation
on their share of the dividends and distributions paid by the Accounts.
Foreign Securities
The Capital Value Account may invest up to 20% of its assets in foreign
securities. Debt securities issued in the United States pursuant to a
registration statement filed with the Securities and Exchange Commission are not
considered "foreign securities," for purposes of this investment limitation.
Investment in foreign securities presents certain risks including those
resulting from fluctuations in currency exchange rates, revaluation of
currencies, the imposition of foreign taxes, future political and economic
developments including war, expropriations, nationalization, the possible
imposition of currency exchange controls and other foreign governmental laws or
restrictions, reduced availability of public information concerning issuers, and
the fact that foreign issuers are not generally subject to uniform accounting,
auditing and financial reporting standards or to other regulatory practices and
requirements comparable to those applicable to domestic issuers. Moreover,
securities of many foreign issuers may be less liquid and their prices more
volatile than those of comparable domestic issuers. In addition, transactions in
foreign securities may be subject to higher costs, and the time for settlement
of transactions in foreign securities may be longer than the settlement period
for domestic issuers. The Account's investment in foreign securities may also
result in higher custodial costs and the costs associated with currency
conversions.
Investment Hedges
The Government Securities Account may purchase covered spread options,
which give the Account the right to sell a security that it owns at a fixed
dollar spread or yield spread in relationship to another security that the
Account does not own, but which is used as a benchmark. In addition, the Account
may write call and put options on securities and securities indices to generate
additional income, and it may purchase and sell those kinds of options,
financial futures contracts and options on financial futures contracts in
anticipation of a decline in the value of securities owned by the Account or an
increase in the price of securities the Account plans to purchase. Financial
futures contracts are commodities contracts based on financial instruments such
as U.S. Treasury bonds or bills or on securities indices such as the S&P 500
Index. The Account will not invest more than 5% of its assets in the purchase of
covered spread options and the purchase of put and call options on securities,
securities indices and financial futures contracts. The Account will also not
invest more than 5% of its assets in initial margin and premiums on financial
futures contracts and options thereon. Risks associated with options
transactions include the risk that movements in the market prices of underlying
securities could cause the Account to lose the amount of the premium paid for an
option or to have to sell securities for less than their current market price or
purchase securities for more than their current market price, and the risk that
trading markets could become illiquid thereby precluding closing transactions.
Futures contracts have similar risks and, in addition, are subject to the risk
of imperfect correlation between changes in the prices of futures contracts and
the securities being hedged. A more complete statement of these investment
practices and their associated risks is contained in the Fund's Statement of
Additional Information.
Other Investment Practices
Each of the Accounts may enter into repurchase agreements with, and the
Government Securities Account may lend its portfolio securities to, unaffiliated
broker-dealers and other unaffiliated qualified financial institutions. These
transactions must be fully collateralized at all times, but involve some credit
risk to the Account if the other party should default on its obligations, and
the Account is delayed or prevented from recovering on the collateral. See the
Fund's Statement of Additional Information for further information regarding the
credit risks associated with repurchase agreements and the standards adopted by
the Fund's Board of Directors to deal with those risks. None of the Accounts
intends either (i) to enter into repurchase agreements that mature in more than
seven days if any such investment, together with any other illiquid securities
held by the Account, would amount to more than 10% of its total assets or (ii)
to loan securities in excess of 30% of its total assets.
The Capital Value Account may invest in warrants up to 5% of its assets, of
which 2% may be invested in warrants that are not listed on the New York or
American Stock Exchange.
As a matter of fundamental policy, each of the Accounts may borrow money
only for temporary or emergency purposes. The Capital Value Account and Money
Market Account may borrow only from banks. The Government Securities Account may
borrow only in an amount not exceeding 5% of its assets. The Capital Value
Account may borrow only in an amount not exceeding the lesser of (i) 5% of the
value of the Account's assets less liabilities other than such borrowings, or
(ii) 10% of the Account's assets taken at cost at the time the borrowing is
made. The Money Market Account may borrow only in an amount not exceeding the
lesser of (i) 5% of the value of its assets, or (ii) 10% of the value of its net
assets taken at cost at the time the borrowing is made.
The Statement of Additional Information includes further information
concerning the Accounts' investment policies and applicable investment
restrictions. Each Account's investment objective and certain investment
restrictions designated as such in this Prospectus or the Statement of
Additional Information are fundamental policies that may not be changed without
shareholder approval. All other investment policies described in the Prospectus
and the Statement of Additional Information for an Account are not fundamental
and may be changed by the Board of Directors of the Fund without shareholder
approval.
MANAGER AND SUB-ADVISOR
The Manager for the Fund is Principal Management Corporation (formerly
known as Princor Management Corporation) (the "Manager"), which is an indirectly
wholly-owned subsidiary of Principal Mutual Life Insurance Company, a mutual
life insurance company organized in 1879 under the laws of the State of Iowa.
The address of the Manager is The Principal Financial Group, Des Moines, Iowa
50392. The Manager was organized on January 10, 1969, and since that time has
managed various mutual funds sponsored by Principal Mutual Life Insurance
Company. As of December 31, 1997, the Manager served as investment advisor for
30 such funds with assets totaling approximately $5.3 billion.
The Manager has executed an agreement with Invista Capital Management, Inc.
("Invista") under which Invista has agreed to assume the obligations of the
Manager to provide investment advisory services for the Capital Value and
Government Securities Accounts. The Manager will reimburse Invista for the cost
of providing these services. Invista, an indirectly wholly-owned subsidiary of
Principal Mutual Life Insurance company and an affiliate of the Manager, was
founded in 1985 and manages investments for institutional investors, including
Principal Mutual Life. Assets under management at December 31, 1997 were
approximately $26 billion. Invista's address is 1800 Hub Tower, 699 Walnut, Des
Moines, Iowa 50309.
The Manager or Invista has assigned certain individuals the primary
responsibility for the day-to-day management of each Account's portfolio. The
persons primarily responsible for the day-to-day management of each Account are
identified below:
<TABLE>
<CAPTION>
Primarily
Account Responsible Since Person Primarily Responsible
------- ----------------- ----------------------------
<S> <C> <C>
Capital Value November, 1996 Catherine A. Green, CFA, (MBA degree, Drake University). Vice
President, Invista Capital Management, Inc.
Government Securities April, 1987 Martin J. Schafer (BBA degree, University of Iowa). Vice President,
Invista (Account's inception) Capital Management, Inc.
</TABLE>
DUTIES PERFORMED BY THE MANAGER AND SUB-ADVISOR
Under Maryland law, the business and affairs of the Fund are managed under
the direction of its Board of Directors. The Manager or Invista advises the
Accounts on investment policies and on the composition of the Accounts'
portfolios. In this connection, the Manager or Invista furnishes to the Board of
Directors a recommended investment program consistent with each Account's
investment objective and policies. The Manager is authorized, within the scope
of the approved investment program, to determine which securities are to be
bought or sold, and in what amounts.
The Fund and the Manager have filed an application with the Securities and
Exchange Commission seeking an exemptive order that would permit the Manager to
appoint a Sub-Advisor or change a subadvisory agreement without approval by
shareholders. If the SEC issues the requested order, the Fund would be able to
change Sub-Advisors or the fees paid to Sub-Advisors from time to time without
the expense and delays associated with obtaining shareholder approval of the
change. The order would not permit the Manager to appoint a Sub-Advisor that is
an affiliate of the Manager or the Fund (other than by reason of serving as
Sub-Advisor to a portfolio) (an "Affiliated Sub-Advisor") or to change a
subadvisory fee of an Affiliated Sub-Advisor without the approval of
shareholders. Currently, Invista is an Affiliated Sub-Advisor. There is no
assurance that the SEC will grant the requested ruling.
The Fund would not rely on the requested SEC order as to any Account until
the operation of that Account in the manner described in the application is
approved by (1) contract owners who have allocated assets to that Account, or
(2) in the case of a new Account, the Account's sold initial shareholder before
the Account is made available to contract owners.
Each Account pays for certain corporate expenses incurred in its operation.
Among such expenses, the Account pays brokerage commissions on portfolio
transactions, transfer taxes and other charges and fees attributable to
investment transactions, any other local, state or federal taxes, fees and
expenses of all directors of the Fund who are not persons affiliated with the
Manager, interest, fees for Custodian of the Account, and the cost of meetings
of shareholders.
The investment services and certain other services referred to under the
heading "Cost of Manager's Services" in the Statements of Additional Information
are furnished to the Accounts under the terms of a Management Agreement between
the Fund and the Manager. The compensation paid by the Government Securities
Account and Money Market Account to the Manager for the year ended December 31,
1997 was equal to .50% of their respective average net assets. The compensation
paid by the Capital Value Account to the Manager for the fiscal year ended
December 31, 1997 was equal to .46% of the Account's average net assets. For the
fiscal year ended December 31, 1997, the fee paid by the Manager to the
Sub-Advisor of the Capital Value and Government Securities Accounts were .06%
and .03% respectively.Total expenses for the Accounts for the year ended
December 31, 1997 were equal to the following percentage of average net assets:
Capital Value Account, .47%; Government Securities Account, .52%; and Money
Market Account, .55%.
The Manager or Invista may purchase at their own expense statistical and
other information or services from outside sources, including Principal Mutual
Life Insurance Company. An Investment Service Agreement between the Fund, the
Manager and Principal Mutual Life Insurance Company provides that Principal
Mutual Life Insurance Company will furnish certain personnel, services and
facilities required by the Manager in connection with its performance of the
Management Agreement, and that the Manager will reimburse Principal Mutual Life
Insurance Company for its costs incurred in this regard.
Among the expenses paid by each Account are its taxes (if any), brokerage
commissions on portfolio transactions, interest, custodial fees, fees and
expenses of unaffiliated directors and the cost of shareholder meetings. The
Manager is the dividend disbursing and transfer agent for the Fund and also
serves as investment advisor and dividend disbursing and transfer agent for each
of the other funds sponsored by Principal Mutual Life Insurance Company.
MANAGERS' COMMENTS
Principal Management Corporation is staffed with investment professionals
who manage each individual Account. Comments by these individuals in the
following paragraphs summarize in capsule form the general strategy and results
of each Account through 1997. The accompanying graphs display results for the
past 10 years or the life of the Account, whichever is shorter. Average Annual
Total Return figures provided for each Account in the graphs below reflect all
expenses of the Account and assume all distributions are reinvested at net asset
value. The figures do not reflect expenses of the variable life insurance
contracts or variable annuity contracts that purchase Account shares;
performance figures for the divisions of the contracts would be lower than
performance figures for the Accounts due to the additional contract expenses.
Past performance is not predictive of future performance. Returns and net asset
values fluctuate. Shares are redeemable at current net asset value, which may be
more or less than original cost.
The various indices included in the following graphs are unmanaged and do
not reflect any commissions or fees which would be incurred by an investor
purchasing the securities included in the index. Investors cannot invest
directly into these or any indices.
CAPITAL VALUE ACCOUNT
Catherine A. Green
Total Returns *
As of December 31, 1997
- --------------------------------------------------
1 Year 5 Year 10 Year
28.53% 17.80% 15.23%
Comparison of Change in Value of $10,000 Investment in the
Capital Value Account, S&P 500 and Lipper Growth and Income Fund Average
----------------------------------------------------------------------------
Capital S&P 500 Lipper
Year Ended Value Stock Growth & Income
December 31, Account Index Fund Average
10,000 10,000 10,000
1988 11,442 11,661 11,601
1989 13,294 15,356 14,332
1990 11,983 14,877 13,694
1991 16,617 19,412 17,676
1992 18,199 20,891 19,264
1993 19,618 22,992 21,489
1994 19,714 23,294 21,287
1995 26,004 32,037 27,847
1996 32,114 39,388 33,634
1997 41,277 52,525 42,762
Note: Past performance is not predictive of future performance.
The Capital Value Account for 1997 was impacted by certain aspects of the market
that were common in many equity mutual funds. Although it underperformed the S&P
500 Index over the latest calendar year, it was able to outperform the average
Growth & Income Fund. The Account's exposure to the financial sector was a big
plus for its performance. These types of companies continue to provide stable,
strong earnings growth which has resulted in strong stock performance for these
names.
1997 was a year of fairly high volatility in the market. After the first four
months of the year the market was quite weak as concerns and fear of higher
interest rates kept a lid on returns. The period through August was one of
rebounding stocks and strong performance in certain sectors, including
Technology. The fourth quarter brought growing fears of the Asian crisis moving
to U.S. shores, and the subsequent stock activity was indeed quite dramatic.
Those funds with major tech exposure that enjoyed the late summer period found
themselves with stocks that had major reversals of fortune. Also, the third
quarter brought concerns that some of the major consumer staple stocks would not
be able to continue strong earnings growth without revenue growth to help out.
This impacted some names that had been market leaders for several years. Account
managers continue to monitor these economic and market changes both in the U.S.
and abroad to determine when any inflection points may require changes to the
portfolio.
Important Notes:
Standard and Poor's 500 Stock Index: an unmanaged index of 500 widely held
common stocks representing industrial, financial, utility and transportation
companies listed on the New York Stock Exchange, American Stock Exchange and the
Over-the-Counter market.
Lipper Growth and Income Fund Average: this average consists of mutual funds
which combine a growth of earnings orientation and an income requirement for
level and/or rising dividends. The one year average at December 31, 1997
contained 611 mutual funds.
GOVERNMENT SECURITIES ACCOUNT
Martin J. Schafer
Total Returns *
As of December 31, 1997
- --------------------------------------------------
1 Year 5 Year 10 Year
10.39% 7.38% 9.36%
Comparison of Change in Value of $10,000 Investment in the Government Securities
Account, Lehman Brothers Mortgage Index and Lipper U.S. Mortgage Fund Average
- --------------------------------------------------------------------------------
Gov't Lehman Lipper
Year Ended Securities Mortgage U.S. Mortgage
December 31, Account Index Index
10,000 10,000 10,000
1988 10,832 10,872 10,746
1989 12,521 12,552 12,098
1990 13,716 13,899 13,233
1991 16,041 16,082 15,190
1992 17,138 17,200 16,118
1993 18,865 18,376 17,319
1994 18,010 18,081 16,596
1995 21,444 21,118 19,290
1996 22,162 22,248 20,037
1997 24,464 24,359 21,756
Note: Past performance is not predictive of future performance.
Interest rates fell for most of 1997, which led to a very strong year for the
Government Securities Account. The Account outperformed both the Lehman Brothers
MBS Index as well as the Lipper U.S. Mortgage Fund Average, mostly due to its
slightly longer duration.
Managers added to results last year by identifying and selecting certain
undervalued sectors of mortgage-backed securities for a portion of the
portfolio. These securities have now become very popular with Wall Street and
other investors, resulting in an increase in value.
Managers believe the current portfolio is well positioned for the period ahead.
The Account has a number of securities that are "seasoned" (e.g., original 30
year loans that have been outstanding for three years or more) and therefore
valued more highly in the marketplace. The majority of the securities are priced
below par, so prepayment risk is negligible. The current strategy of staying
fully invested in generic MBS pass-throughs with a mix of coupons, supplemented
with government agencies, has served the Account well and should continue going
forward.
Important Notes:
Lehman Brothers Mortgage Index: an unmanaged index of 15- and 30-year fixed rate
securities backed by mortgage pools of the Government National Mortgage
Association (GNMA), Federal Home Loan Mortgage Corporation (FHLMC), and Federal
National Mortgage Association (FNMA).
Lipper U.S. Mortgage Fund Average: this average consists of mutual funds
investing at least 65% of their assets in mortgage/securities issued or
guaranteed as to principal and interest by the U.S. Government and certain
federal agencies. The one year average at December 31, 1997 contained 59 mutual
funds.
DETERMINATION OF NET ASSET VALUE OF ACCOUNT SHARES
The net asset value of each Account's shares is determined daily, Monday
through Friday, as of the close of trading on the New York Stock Exchange except
on days on which changes in the value of the Account's portfolio securities will
not materially affect the current net asset value of the Account's redeemable
securities, on days during which the Account receives no order for the purchase
or sale of its redeemable securities and no tender of such a security for
redemption, and on customary national business holidays. The net asset value per
share of each Account is determined by dividing the value of the Account's
securities plus all other assets, less all liabilities, by the number of Account
shares outstanding.
The portfolios of the Capital Value Account and Government Securities
Account are valued as follows. Securities for which market quotations are
readily available are valued using those quotations. Other securities are valued
by using market quotations, prices provided by market makers or estimates of
market values obtained from yield data and other factors relating to instruments
or securities with similar characteristics in accordance with procedures
established in good faith by the Board of Directors. Securities with remaining
maturities of 60 days or less are valued at amortized cost when it is determined
by the Board of Directors that amortized cost reflects fair value. Other assets
are valued at fair value as determined in good faith by the Board of Directors
of the Fund.
As previously described, the Capital Value Account may purchase foreign
securities, whose trading is substantially completed each day at various times
prior to the close of the New York Stock Exchange. The values of such securities
used in computing net asset value per share are usually determined as of such
times. Occasionally, events which affect the values of such securities and
foreign currency exchange rates may occur between the times at which they are
generally determined and the close of the New York Stock Exchange and would
therefore not be reflected in the computation of the Account's net asset value.
If events materially affecting the value of such securities occur during such
period, then these securities will be valued at their fair value as determined
in good faith by the Manager under procedures established and regularly reviewed
by the Board of Directors. To the extent the Account invests in foreign
securities listed on foreign exchanges which trade on days on which the Account
does not determine its net asset value, for example Saturdays and other
customary national U.S. Holidays, the Account's net asset value could be
significantly affected on days when shareholders have no access to the Account.
The Money Market Account values its securities at amortized cost. For a
description of this calculation procedure see the Statement of Additional
Information. The Money Market Account reserves the right to calculate or
estimate its net asset value more frequently than once per day if it deems it
desirable.
PERFORMANCE CALCULATION
From time to time, the Accounts may publish advertisements containing
information (including graphs, charts, tables and examples) about the
performance of one or more of the Accounts. The Accounts' yield and total return
figures described below will vary depending upon market conditions, the
composition of the Accounts' portfolios and operating expenses. These factors
and possible differences in the methods used in calculating yield and total
return should be considered when comparing the Accounts' performance figures to
performance figures published for other investment vehicles. The Accounts may
also quote rankings, yields or returns as published by independent statistical
services or publishers, and information regarding the performance of certain
market indices. Any performance data quoted for the Accounts represents only
historical performance and is not intended to indicate future performance of the
Accounts. The calculation of average annual total return and yield for the
Accounts does not include fees and charges of the separate accounts that invest
in the Accounts and, therefore, does not reflect the investment performance of
those separate accounts. For further information on how the Accounts calculate
yield and total return figures, see the Statement of Additional Information.
The Capital Value Account and Government Securities Account may advertise
their respective average annual total returns. Average annual total return for
each Account is computed by calculating the average annual compounded rate of
return over the stated period that would equate an initial $1,000 investment to
the ending redeemable value assuming the reinvestment of all dividends and
capital gains distributions at net asset value. The same assumptions are made
when computing cumulative total return by dividing the ending redeemable value
by the initial investment.
The Money Market Account may advertise its "yield" and "effective yield."
The "yield" of the Account refers to the income generated by an investment in
the Account over a seven-day period. This income is then "annualized." That is,
the amount of income generated by the investment during that week is assumed to
be generated each week over a 52-week period and is shown as a percentage of the
investment. The "effective yield" is calculated similarly but, when annualized,
the income earned by an investment in the Account is assumed to be reinvested.
The "effective yield" will be slightly higher than the "yield" because of the
compounding effect of this assumed reinvestment.
The yield for the Money Market Account will fluctuate daily as the income
earned on the investments of the Account fluctuates. Accordingly, there is no
assurance that the yield quoted on any given occasion will remain in effect for
any period of time. The Account is one of a series of Accounts issued by an
open-end investment company and there is no guarantee that the net asset value
or any stated rate of return will remain constant. A shareholder's investment in
the Account is not insured. Investors comparing results of the Account with
investment results and yields from other sources such as banks or savings and
loan associations should understand these distinctions. Historical and
comparative yield information may, from time to time, be presented by the
Account.
INCOME DIVIDENDS, DISTRIBUTIONS AND TAX STATUS
It is the policy of each Account to distribute substantially all net
investment income and net realized gains. Through such distributions, and by
satisfying certain other requirements, the Fund intends to qualify for the tax
treatment accorded to regulated investment companies under the applicable
provisions of the Internal Revenue Code. This means that in each year in which
the Fund so qualifies it will be exempt from federal income tax upon the amounts
so distributed to investors.
Any dividends from the net investment income of the Accounts (except the
Money Market Account) will normally be payable to the shareholders annually, and
any net realized gains will be distributed annually. All dividends and capital
gains distributions are applied to purchase additional Account shares at net
asset value as of the payment date without the imposition of any sales charge.
Each Account will notify shareholders of the portion of each distribution
which constitutes investment income or capital gain. In view of the complexity
of tax considerations, it is advisable for Eligible Purchasers considering the
purchase of shares of the Accounts to consult with tax advisors on the federal
and state tax aspects of their investments and redemptions.
Money Market Account
The Money Market Account declares dividends of all its daily net investment
income on each day the Account's net asset value per share is determined.
Dividends are declared and payable daily and are automatically reinvested in
full and fractional shares of the Account at the then current net asset value
unless a shareholder requests payment in cash.
Net investment income, for dividend purposes, consists of (1) accrued
interest income plus or minus accrued discount or amortized premium; plus or
minus (2) all net short-term realized gains and losses; minus (3) all accrued
expenses of the Account. Expenses of the Account are accrued each day. Net
income will be calculated immediately prior to the determination of net asset
value per share of the Account.
Since the Account's policy is, under normal circumstances, to hold
portfolio securities to maturity and to value portfolio securities at amortized
cost, it does not expect any capital gains or losses. If the Account does
experience gains, however, it could result in an increase in dividends. Capital
losses could result in a decrease in dividends. If for some extraordinary reason
the Account realizes net long-term capital gains, it will distribute them once
every 12 months.
Since the net income of the Account (including realized gains and losses on
the portfolio securities) is declared as a dividend each time the net income of
the Account is determined, the net asset value per share of the Account normally
remains at $1.00 immediately after each determination and dividend declaration.
Any increase in the value of a shareholder's investment in the Account,
representing reinvestment of dividend income, is reflected by an increase in the
number of shares of the Account in the account.
Normally the Account will have a positive net income at the time of each
determination thereof. Net income may be negative if an unexpected liability
must be accrued or a loss is realized. If the net income of the Account
determined at any time is a negative amount, the net asset value per share will
be reduced below $1.00. The Account may endeavor to restore the net asset value
per share to $1.00 by reducing the number of outstanding shares by redeeming
proportionately from shareholders without the payment of any monetary
consideration, such number of full and fractional shares as is necessary to
maintain a net asset value per share of $1.00. Each shareholder will be deemed
to have agreed to such a redemption in these circumstances by investing in the
Account. The Account may seek to achieve the same objective of restoring the net
asset value per share to $1.00 by not declaring dividends from net income on
subsequent days until restoration, with the result that the net asset value per
share would increase to the extent of positive net income which is not declared
as a dividend, or any other method approved by the Board of Directors.
The Board of Directors may revise the above dividend policy, or postpone
the payment of dividends, if the Account should have or anticipate any large
presently unexpected expense, loss or fluctuation in net assets which in the
opinion of the Board might have a significant adverse effect on shareholders.
ELIGIBLE PURCHASERS AND PURCHASE OF SHARES
Only Eligible Purchasers may purchase shares of the Accounts. Eligible
Purchasers are limited to (a) separate accounts of Principal Mutual Life
Insurance Company or of other insurance companies; (b) Principal Mutual Life
Insurance Company or any subsidiary or affiliate thereof; (c) trustees or other
managers of any qualified profit sharing, incentive or bonus plan established by
Principal Mutual Life Insurance Company or any subsidiary or affiliate thereof
for the employees of such company, subsidiary or affiliate. Such trustees or
managers may purchase Account shares only in their capacities as trustees or
managers and not for their personal accounts. The Board of Directors of the Fund
reserves the right to broaden or limit the designation of Eligible Purchasers.
Each Account serves as an underlying investment medium for variable annuity
contracts and variable life insurance policies that are funded in separate
accounts established by Principal Mutual Life Insurance Company. It is
conceivable that in the future it may be disadvantageous for variable life
insurance separate accounts and variable annuity separate accounts to invest in
the Accounts simultaneously. Although neither Principal Mutual Life Insurance
Company nor the Accounts currently foresee any such disadvantages either to
variable life insurance policy owners or to variable annuity contract owners,
the Board of Directors intends to monitor events in order to identify any
material conflicts between such policy owners and contract owners and to
determine what action, if any, should be taken in response thereto. Such action
could include the sale of Account shares by one or more of the separate
accounts, which could have adverse consequences. Material conflicts could result
from, for example, (1) changes in state insurance laws, (2) changes in Federal
income tax law, (3) changes in the investment management of the Account, or (4)
differences in voting instructions between those given by policy owners and
those given by contract owners.
Shares are purchased from Princor Financial Services Corporation, the
principal underwriter for the Fund. There are no sales charges on the Accounts'
shares. There are no restrictions on amounts to be invested in the Accounts'
shares.
Shareholder accounts for each Account will be maintained under an open
account system. Under this system, an account is automatically opened and
maintained for each new investor. Each investment is confirmed by sending the
investor a statement of account showing the current purchase and the total
number of shares then owned. The statement of account is treated by each Account
as evidence of ownership of Account shares in lieu of stock certificates. Stock
certificates will not be issued or delivered to investors. Certificates, which
can be stolen or lost, are unnecessary except for special purposes such as
collateral for a loan. Fractional interests in the Accounts' shares are
reflected to three decimal places in the statement of account.
If an offer to purchase shares is received by any of the Accounts before
the close of trading on the New York Stock Exchange, the shares will be issued
at the offering price (net asset value of Account shares) computed on that day.
If an offer is received after the close of trading or on a day which is not a
trading day, the shares will be issued at the offering price computed on the
first succeeding day on which a price is determined. Dividends on the Money
Market Account shares will be paid on the next day following the effective date
of a purchase order.
SHAREHOLDER RIGHTS
The following information is applicable to each Account of the Principal
Variable Contracts Fund, Inc. Each Account share is entitled to one vote either
in person or by proxy at all shareholder meetings for that Account. This
includes the right to vote for the election of directors, selection of
independent accountants and on other matters submitted to meetings of
shareholders of the Account. Each share of an Account has equal rights with
every other share of the Account as to dividends, earnings, voting, assets and
redemption. Shares are fully paid and non-assessable, and have no preemptive or
conversion rights. Shares may be issued as full or fractional shares, and each
fractional share has proportionately the same rights, including voting, as are
provided for a full share. Shareholders of the Fund may remove any director with
or without cause by the vote of a majority of the votes entitled to be cast at a
meeting of all Account shareholders.
The bylaws of the Fund provide that the Board of Directors of the Fund may
increase or decrease the aggregate number of shares which the Fund has authority
to issue without a shareholder vote.
The bylaws of the Fund also provide that the Fund need not hold an annual
meeting of shareholders in any year in which none of the following is required
to be acted on by shareholders under the Investment Company Act of 1940:
election of directors; approval of investment advisory agreement; ratification
of selection of independent public accountants; and approval of distribution
agreement. The Fund intends to hold shareholder meetings only when required by
law and at such other times as may be deemed appropriate by the Board of
Directors.
Shareholder inquiries should be directed to the Fund at The Principal
Financial Group, Des Moines, Iowa 50392.
NON-CUMULATIVE VOTING: The Fund's shares have non-cumulative voting rights
which means that the holders of more than 50% of the shares voting for the
election of directors of the Fund can elect 100% of the directors if they choose
to do so, and in such event, the holders of the remaining shares voting for the
election of directors will not be able to elect any directors.
Principal Mutual Life Insurance Company votes each Account's shares
allocated to each of its separate accounts registered under the Investment
Company Act of 1940 and attributable to variable annuity contracts or variable
life insurance policies participating therein in accordance with instructions
received from contract or policy holders, participants and annuitants. Other
shares of each Account held by each registered separate account, including those
for which no timely instructions are received, are voted in proportion to the
instructions that are received with respect to contracts or policies
participating in that separate account. Shares of each of the Accounts held in
the general account of Principal Mutual Life Insurance Company or in its
unregistered separate accounts are voted in proportion to the instructions that
are received with respect to contracts and policies participating in its
registered and unregistered separate accounts. If Principal Mutual determines
pursuant to applicable law that an Account's shares held in one or more separate
accounts or in its general account need not be voted pursuant to instructions
received with respect to participating contracts or policies, it then may vote
those Account shares in its own right.
REDEMPTION OF SHARES
Except for the third paragraph below, most of the following discussion of
redemption procedures is relevant only to Eligible Purchasers other than
variable annuity and variable life separate accounts of Principal Mutual Life
Insurance Company, and its wholly-owned subsidiaries.
Each Account will redeem shares upon request. There is no charge for
redemption. A shareholder simply writes a letter to the appropriate Account
requesting redemption of any part or all of the shares. The letter must be
signed exactly as the account is registered. If payment is to be made to the
registered shareholder or joint shareholders, the Account will not require a
signature guarantee as a part of a proper endorsement; otherwise the
shareholder's signature must be guaranteed by either a commercial bank, trust
company, credit union, savings and loan association, national securities
exchange member, or by a brokerage firm. The price at which the shares are
redeemed will be the net asset value per share as next computed after the
request is received by the Account in proper and complete form. The amount
received for shares upon redemption may be more or less than the cost of such
shares depending upon the net asset value at the time of redemption.
Redemption proceeds will be sent within three business days after receipt
of request for redemption in proper form. However, each Account may suspend the
right of redemption during any period when (a) trading on the New York Stock
Exchange is restricted as determined by the Securities and Exchange Commission
or such Exchange is closed for other than weekends and holidays; (b) an
emergency exists, as determined by the Securities and Exchange Commission, as a
result of which (i) disposal by the Account of securities owned by it is not
reasonably practicable, or (ii) it is not reasonably practicable for the Account
fairly to determine the value of its net assets; or (c) the Commission by order
so permits for the protection of security holders of the Account. An Account
will redeem only those shares for which it has good payment. To avoid the
inconvenience of such a delay, shares may be purchased with a certified check,
bank cashier's check or money order. During the period prior to the time a
redemption from the Money Market Account is effective, dividends on such shares
will accrue and be payable and the shareholder will be entitled to exercise all
other rights of beneficial ownership.
Restricted Transfer: Shares of each of the Accounts may be transferred to
an Eligible Purchaser. However, whenever any of the Accounts is requested to
transfer shares to other than an Eligible Purchaser, the Account has the right
at its election to purchase such shares at their net asset value next effective
following the time at which the request for transfer is presented; provided,
however, that the Account must notify the transferee or transferees of such
shares in writing of its election to purchase such shares within seven (7) days
following the date of such request and settlement for such shares shall be made
within such seven-day period.
ADDITIONAL INFORMATION
Organization: Effective January 1, 1998, certain Funds sponsored by
Principal Mutual Life Insurance Company were reorganized into a series of the
Principal Variable Contracts Fund, Inc., a corporation incorporated in the State
of Maryland on May 27, 1997. The new series adopted the assets and liabilities
of the corresponding Fund. Those Funds were incorporated in the state of
Maryland on the following dates: Capital Accumulation Fund - May 26, 1989
(effective November 1, 1989 succeeded to the business of a predecessor Fund that
had been incorporated in Delaware on February 6, 1969); Government Securities
Fund - June 7, 1985; and Money Market Fund - June 10, 1986.
Custodian: Bank of New York, 48 Wall Street, New York, New York 10286, is
custodian of the portfolio securities and cash assets of each of the Accounts.
The custodian performs no managerial or policymaking functions for the Accounts.
Capitalization: The authorized capital stock of each Account consists of
100,000,000 shares of common stock (500,000,000 for Money Market Account), $.01
par value.
Financial Statements: Copies of the financial statements of each Account
will be mailed to each shareholder of that Account semi-annually. At the close
of each fiscal year, each Account's financial statements will be audited by a
firm of independent auditors. The firm of Ernst & Young LLP has been appointed
to audit the financial statements of each Account for their respective present
fiscal years. Additional information about the performance of the Accounts is
contained in these Statements. Copies may be obtained free of charge from
Princor.
Registration Statement: This Prospectus omits some information contained in
the Statement of Additional Information (also known as Part B of the
Registration Statement) and Part C of the Registration Statements which the Fund
has filed with the Securities and Exchange Commission. The Fund's Statement of
Additional Information is hereby incorporated by reference into this Prospectus.
A copy of this Statement of Additional Information can be obtained upon request,
free of charge, by writing or telephoning the Fund. You may obtain a copy of
Part C of the Registration Statements filed with the Securities and Exchange
Commission, Washington, D.C. from the Commission upon payment of the prescribed
fees.
Principal Underwriter: Princor Financial Services Corporation, The
Principal Financial Group, Des Moines, Iowa 50392-0200, is the principal
underwriter for the Fund.
The Principal Variable Contracts Fund, Inc. described in this Prospectus is
a diversified, open-end management investment company which offers a variety of
Accounts each of which was formerly a separately incorporated investment
company. Together the Accounts provide the following range of investment
objectives:
Growth-Oriented Accounts
Balanced Account (formerly known as Principal Balanced Fund, Inc.) seeks to
generate a total return consisting of current income and capital appreciation
while assuming reasonable risks in furtherance of the investment objective.
Capital Value Account (formerly known as Principal Capital Accumulation Fund,
Inc.) seeks to achieve primarily long-term capital appreciation and secondary
growth of investment income through the purchase primarily of common stocks, but
the Account may invest in other securities.
MidCap Account (formerly known as Principal Emerging Growth Fund, Inc.) seeks to
achieve capital appreciation by investing primarily in securities of emerging
and other growth-oriented companies.
Income-Oriented Accounts
Bond Account (formerly known as Principal Bond Fund, Inc.) seeks to provide as
high a level of income as is consistent with preservation of capital and prudent
investment risk.
High Yield Account (formerly known as Principal High Yield Fund, Inc.) seeks
high current income. Capital growth is a secondary objective when consistent
with the objective of high current income. The Account seeks to achieve its
objective primarily through the purchase of high yielding, lower or non-rated
fixed income securities commonly referred to as "junk bonds." Bonds of this type
are considered to be speculative with regard to payment of interest and return
of principal. Purchasers should carefully assess the risks associated with an
investment in this Account.
Money Market Account
Money Market Account (formerly known as Principal Money Market Fund, Inc.) seeks
as high a level of income available from short-term securities as is considered
consistent with preservation of principal and maintenance of liquidity by
investing all of its assets in a portfolio of money market instruments.
An investment in any of the Accounts is neither insured nor guaranteed by
the U.S. Government. There can be no assurance the Money Market Account will be
able to maintain a stable net asset value of $1.00 per share.
This Prospectus concisely states information about the Principal Variable
Contracts Fund, Inc. that an investor ought to know before investing. It should
be read and retained for future reference.
Additional information about the Fund has been filed with the Securities
and Exchange Commission, including a document called Statement of Additional
Information, dated May 1, 1998. The Statement of Additional Information is
incorporated by reference into this Prospectus. A copy of the Statement of
Additional Information can be obtained free of charge by writing or telephoning:
Principal Variable Contracts Fund, Inc.
A Member of
The Principal Financial Group
Des Moines, IA 50392
Telephone 1-800-247-4123
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
The Date of this Prospectus is May 1, 1998.
TABLE OF CONTENTS
Page
Summary ............................................................... 2
Financial Highlights.................................................... 4
Investment Objectives, Policies and Restrictions........................ 8
Certain Investment Policies and Restrictions............................14
Manager and Sub-Advisor ...............................................15
Duties Performed by the Manager and Sub-Advisor.........................16
Managers' Comments......................................................16
Determination of Net Asset Value of Account Shares......................20
Performance Calculation.................................................20
Income Dividends, Distributions and Tax Status..........................21
Eligible Purchasers and Purchase of Shares..............................22
Shareholder Rights .....................................................22
Redemption of Shares....................................................23
Additional Information..................................................24
This Prospectus does not constitute an offer to sell, or a solicitation of
an offer to buy, shares of the Fund in any jurisdiction in which such sale,
offer to sell, or solicitation may not be lawfully made. No dealer, salesperson,
or other person has been authorized to give any information or to make any
representations, other than those contained in this Prospectus, in connection
with the offer contained in this Prospectus, and, if given or made, such other
information or representations must not be relied upon as having been authorized
by the Fund or the Fund's Managers.
SUMMARY
The following summarized information should be read in conjunction with the
detailed information appearing elsewhere in this Prospectus.
The Principal Variable Contracts Fund, Inc. ("Fund") is an incorporated,
open-end diversified management investment company offering multiple accounts.
Who may purchase shares of the Accounts?
Shares of the Accounts are available only to Eligible Purchasers which are
limited to: (a) separate accounts of Principal Mutual Life Insurance Company or
of other insurance companies; (b) Principal Mutual Life Insurance Company or any
subsidiary or affiliate thereof; (c) trustees or other managers of any qualified
profit sharing, incentive or bonus plan established by Principal Mutual Life
Insurance Company or any subsidiary or affiliate thereof for the employees of
such company, subsidiary or affiliate. The Board of Directors of the Fund
reserves the right to broaden or limit the designation of Eligible Purchasers.
What do the Accounts offer investors?
Professional Investment Management: Experienced securities analysts provide
each Account with professional investment management.
Diversification: Each Account will diversify by investing in securities
issued by a number of issuers doing business in a variety of industries and/or
located in different geographical regions. Diversification reduces investment
risk.
Economies of Scale: Pooling individual shareholder's investments in any of
the Accounts creates administrative efficiencies.
Redeemability: Upon request each Account will redeem its shares and
promptly pay the investor the current net asset value of the shares redeemed.
See Redemption of Shares.
What are the Accounts' investment objectives?
Growth-Oriented Accounts
The investment objective of Balanced Account is to seek to generate a total
return consisting of current income and capital appreciation while assuming
reasonable risks in furtherance of this objective. The Account intends to pursue
a flexible investment policy in seeking to achieve this investment objective.
The primary investment objective of Capital Value Account is long-term
capital appreciation and its secondary investment objective is growth of
investment income. The Account seeks to achieve its investment objectives
through the purchase primarily of common stocks, but the Account may invest in
other securities.
The investment objective of MidCap Account is to achieve capital
appreciation by investing primarily in securities of emerging and other
growth-oriented companies.
Income-Oriented Accounts
The investment objective of Bond Account is to provide as high a level of
income as is consistent with preservation of capital and prudent investment
risk.
The primary investment objective of High Yield Account is to seek high
current income. Capital growth is a secondary objective when consistent with the
objective of high current income. The Account will invest primarily in high
yielding, lower or non-rated fixed income securities.
Money Market Account
The investment objective of Money Market Account is to seek as high a level
of current income available from short-term securities as is considered
consistent with preservation of principal and maintenance of liquidity by
investing all of its assets in a portfolio of money market instruments.
There can be no assurance that the investment objectives of any of the
Accounts will be realized. See Investment Objectives, Policies and Restrictions.
Who serves as Manager for the Accounts?
Principal Management Corporation (formerly known as Princor Management
Corporation)("Manager"), a corporation organized in 1969 by Principal Mutual
Life Insurance Company, is the Manager for each of the Accounts. It is also the
dividend disbursing and transfer agent for the Fund. In order to provide
investment advisory services for the Balanced Account, Capital Value Account and
MidCap Account, the Manager has executed a sub-advisory agreement with Invista
Capital Management, Inc. ("Invista" or "Sub-Advisor"). See Manager and
Sub-Advisor.
What fees and expenses apply to ownership of shares of the Accounts?
The following table depicts fees and expenses applicable to the purchase
and ownership of shares of each of the Accounts.
ANNUAL ACCOUNT OPERATING EXPENSES
(As a Percentage of Average Net Assets)
Management Other Total Operating
Account Fee Expenses Expenses
------- ---------- -------- ---------------
Balanced Account .59% .02% .61%
Bond Account .50% .02% .52%
Capital Value Account .46% .01% .47%
High Yield Account .60% .08% .68%
MidCap Account .62% .02% .64%
Money Market Account .50% .05% .55%
EXAMPLE
You would pay the following expenses on a $1,000 investment, assuming (1)
5% annual return and (2) redemption at the end of each time period:
Period (in years)
-----------------------------------
Account 1 3 5 10
------- -- --- --- ---
Balanced Account $6 $20 $34 $76
Bond Account $5 $17 $29 $65
Capital Value Account $5 $15 $26 $59
High Yield Account $7 $22 $38 $85
MidCap Account $7 $20 $36 $80
Money Market Account $6 $18 $31 $69
This Example is based on the Annual Account Operating expenses for each
Account described above. Please remember that the Example should not be
considered a representation of past or future expenses and that actual
expenses may be greater or less than shown.
The purpose of the above table is to assist you in understanding the
various expenses that an investor in the Accounts will bear directly or
indirectly. See Duties Performed by the Manager.
FINANCIAL HIGHLIGHTS
The following financial highlights are derived from financial statements
which, for the five years in the period ended December 31, 1997, have been
audited by Ernst & Young LLP, independent auditors, whose report has been
incorporated by reference herein. The financial highlights should be read in
conjunction with the financial statements, related notes, and other financial
information incorporated by reference herein. Audited financial statements may
be obtained by shareholders, without charge, by telephoning 1-800-451-5447. See
page 8 for the Notes to Financial Highlights.
<TABLE>
<CAPTION>
For a Share Outstanding Throughout the Year Ended December 31,
(except as noted)
BALANCED ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c)1988(c)(d)
- ---------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............ $14.44 $13.97 $11.95 $12.77 $12.58 $12.93 $11.33 $10.79 $11.89 $11.75 $10.00
Income from Investment Operations:
Net Investment Income........... .46 .40 .45 .37 .42 .23 .47 .54 .60 .62 .27
Net Realized and Unrealized
Gain (Loss) on Investments.... 2.11 1.41 2.44 (.64) .95 .75 1.61 .59 (.48) .30 1.51
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 2.57 1.81 2.89 (.27) 1.37 .98 2.08 1.13 .12 .92 1.78
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.45) (.40) (.45) (.37) (.42) (.47) (.48) (.57) (.63) (.55) (.03)
Distributions from Capital Gains (1.05) (.94) (.42) (.18) (.76) (.86) - (.02) (.59) (.23) -
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (1.50) (1.34) (.87) (.55) (1.18) (1.33) (.48) (.59) (1.22) (.78) (.03)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $15.51 $14.44 $13.97 $11.95 $12.77 $12.58 $12.93 $11.33 $10.79 $11.89 $11.75
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== =========
Total Return....................... 17.93% 13.13% 24.58% (2.09)% 11.06% 8.00%(e) 18.78% 11.36% .87% 8.55% 17.70%(e)
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== =========
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................$133,827 $93,158 $45,403 $25,043 $21,399 $18,842 $17,344 $14,555 $13,016 $12,751 $11,469
Ratio of Expenses to
Average Net Assets.............. .61% .63% .66% .69% .69% .73%(f) .72% .73% .74% .74% .80%(f)
Ratio of Net Investment Income
to Average Net Assets........... 3.26% 3.45% 4.12% 3.42% 3.30% 3.71%(f) 3.80% 5.27% 5.52% 5.55% 4.96%(f)
Portfolio Turnover Rate............ 69.7% 22.6% 25.7% 31.5% 15.8% 38.4%(f) 26.6% 27.1% 33.1% 29.3% 41.7%(f)
Average Commission Rate............ $.0394 $.0417 N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
BOND ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c) 1988(c)(d)
- ------------ ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $11.33 $11.73 $10.12 $11.16 $10.77 $11.08 $10.64 $10.72 $10.92 $10.68 $10.00
Income from Investment Operations:
Net Investment Income........... .76 .68 .62 .72 .88 .45 .91 .94 .95 1.15 .32
Net Realized and Unrealized
Gain (Loss) on Investments.... .44 (.40) 1.62 (1.04) .38 .13 .46 (.06) (.21) .17 .40
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 1.20 .28 2.24 (.32) 1.26 .58 1.37 .88 .74 1.32 .72
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.75) (.68) (.63) (.72) (.87) (.89) (.93) (.96) (.94) (.96) (.04)
Distributions from Capital Gains - - - - - - - - - (.12) -
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (.75) (.68) (.63) (.72) (.87) (.89) (.93) (.96) (.94) (1.08) (.04)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $11.78 $11.33 $11.73 $10.12 $11.16 $10.77 $11.08 $10.64 $10.72 $10.92 $10.68
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== ========
Total Return....................... 10.60% 2.36% 22.17% (2.90)% 11.67% 5.33%(e) 13.57% 8.94% 7.15% 13.51% 6.06%(e)
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== ========
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................ $81,921 $63,387 $35,878 $17,108 $14,387 $12,790 $12,024 $10,552 $9,658 $9,007 $17,598
Ratio of Expenses to
Average Net Assets.............. .52% .53% .56% .58% .59% .62%(f) .62% .63% .64% .64% .58%(f)
Ratio of Net Investment Income
to Average Net Assets........... 6.85% 7.00% 7.28% 7.86% 7.57% 8.10%(f) 8.47% 9.17% 9.09% 9.18% 8.11%(f)
Portfolio Turnover Rate............ 7.3% 1.7% 5.9% 18.2% 14.0% 6.7%(f) 6.1% 2.7% 0.0% 12.2% 68.8%(f)
Average Commission Rate............ N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
For a Share Outstanding Throughout the Year Ended December 31,
(except as noted)
CAPITAL VALUE ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c) 1988(c)
- --------------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $29.84 $27.80 $23.44 $24.61 $25.19 $26.03 $23.35 $22.48 $23.63 $23.23 $27.51
Income from Investment Operations:
Net Investment Income........... .68 .57 .60 .62 .61 .31 .65 .74 .79 .77 .60
Net Realized and Unrealized
Gain (Loss) on Investments.... 7.52 5.82 6.69 (.49) 1.32 1.84 2.70 1.22 .14 1.32 (1.50)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 8.20 6.39 7.29 .13 1.93 2.15 3.35 1.96 .93 2.09 (.90)
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.67) (.58) (.60) (.61) (.60) (.64) (.67) (.79) (.81) (.68) (.69)
Distributions from Capital Gains (2.76) (3.77) (2.33) (.69) (1.91) (2.35) - (.30) (1.27) (1.01) (2.69)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (3.43) (4.35) (2.93) (1.30) (2.51) (2.99) (.67) (1.09) (2.08) (1.69) (3.38)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $34.61 $29.84 $27.80 $23.44 $24.61 $25.19 $26.03 $23.35 $22.48 $23.63 $23.23
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== =======
Total Return....................... 28.53% 23.50% 31.91% .49% 7.79% 8.81%(e) 14.53% 9.46% 3.94% 10.02% (2.67)%
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== =======
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................$285,231 $205,019 $135,640 $120,572 $128,515 $105,355 $94,596 $76,537 $74,008 $68,132 $62,696
Ratio of Expenses to
Average Net Assets............ .47% .49% .51% .51% .51% .55%(f) .54% .53% .56% .57% .60%
Ratio of Net Investment Income
to Average Net Assets......... 2.13% 2.06% 2.25% 2.36% 2.49% 2.56%(f) 2.65% 3.53% 3.56% 3.53% 2.76%
Portfolio Turnover Rate......... 23.4% 48.5% 49.2% 44.5% 25.8% 39.7%(f) 34.8% 14.0% 30.2% 23.5% 26.7%
Average Commission Rate......... $.0451 $.0426 N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
For a Share Outstanding Throughout the Year Ended December 31,
(except as noted)
HIGH YIELD ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c)1988(c)(d)
- ------------------ ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $8.72 $8.39 $7.91 $8.62 $8.38 $8.93 $8.28 $8.96 $10.37 $11.01 $10.00
Income from Investment Operations:
Net Investment Income........... .76 .80 .76 .77 .80 .45 .92 .99 1.21 1.23 .67
Net Realized and Unrealized
Gain (Loss) on Investments.... .18 .30 .51 (.72) .23 (.10) .66 (.53) (1.35) (.45) .49
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations .94 1.10 1.27 .05 1.03 .35 1.58 .46 (.14) .78 1.16
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.76) (.77) (.77) (.76) (.79) (.90) (.93) (1.14) (1.22) (1.21) (.15)
Excess Distributions from
Net Investment Income(g)...... - - (.02) - - - - - - - -
Distributions from Capital Gains - - - - - - - - (.05) (.21) -
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (.76) (.77) (.79) (.76) (.79) (.90) (.93) (1.14) (1.27) (1.42) (.15)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $8.90 $8.72 $8.39 $7.91 $8.62 $8.38 $8.93 $8.28 $8.96 $10.37 $11.01
====== ====== ====== ====== ====== ======== ====== ====== ======= ====== =========
Total Return....................... 10.75% 13.13% 16.08% .62% 12.31% 4.06%(e) 20.70% 6.35% (1.46)% 7.88% 11.25%(e)
====== ====== ====== ====== ====== ======== ====== ====== ======= ====== =========
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................ $15,837 $13,740 $11,830 $9,697 $9,576 $8,924 $8,556 $7,085 $6,643 $6,741 $6,703
Ratio of Expenses to
Average Net Assets.............. .68% .70% .73% .73% .74% .77%(f) .77% .82% .83% .95% .78%(f)
Ratio of Net Investment Income
to Average Net Assets........... 8.50% 9.21% 9.09% 9.02% 8.80% 10.33%(f) 11.00% 12.58% 13.07% 11.89% 11.71%(f)
Portfolio Turnover Rate............ 32.0% 32.0% 35.1% 30.6% 28.7% 20.6%(f) 31.3% 6.4% 24.2% 27.8% 58.2%(f)
Average Commission Rate............ N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
For a Share Outstanding Throughout the Year Ended December 31,
(except as noted)
MIDCAP ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c)1988(c)(d)
- -------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $29.74 $25.33 $19.97 $20.79 $18.91 $15.97 $13.93 $14.25 $13.35 $12.85 $10.00
Income from Investment Operations:
Net Investment Income........... .24 .22 .22 .14 .17 .10 .21 .20 .24 .16 .05
Net Realized and Unrealized
Gain (Loss) on Investments.... 6.48 5.07 5.57 .03 3.47 3.09 2.04 .50 .87 1.35 2.83
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 6.72 5.29 5.79 .17 3.64 3.19 2.25 .70 1.11 1.51 2.88
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.23) (.22) (.22) (.14) (.17) (.21) (.21) (.23) (.20) (.11) (.03)
Distributions from Capital Gains (.76) (.66) (.21) (.85) (1.59) (.04) - (.79) (.01) (.90) -
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (.99) (.88) (.43) (.99) (1.76) (.25) (.21) (1.02) (.21) (1.01) (.03)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $35.47 $29.74 $25.33 $19.97 $20.79 $18.91 $15.97 $13.93 $14.25 $13.35 $12.85
====== ====== ====== ====== ====== ========= ====== ====== ======= ====== =========
Total Return....................... 22.75% 21.11% 29.01% .78% 19.28% 20.12%(e) 16.19% 5.72% 8.32% 13.08% 28.72%(e)
====== ====== ====== ====== ====== ========= ====== ====== ======= ====== =========
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................$224,630 $137,161 $58,520 $23,912 $12,188 $9,693 $7,829 $6,579 $6,067 $5,509 $4,857
Ratio of Expenses to
Average Net Assets.............. .64% .66% .70% .74% .78% .81%(f) .82% .89% .88% .90% .94%(f)
Ratio of Net Investment Income
to Average Net Assets........... .79% 1.07% 1.23% 1.15% .89% 1.24%(f) 1.33% 1.70% 1.74% 1.31% .64%(f)
Portfolio Turnover Rate............ 7.8% 8.8% 13.1% 12.0% 22.4% 8.6%(f) 10.1% 11.1% 17.9% 21.4% 4.6%(f)
Average Commission Rate............ $.0371 $.0379 N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
MONEY MARKET ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c) 1988(c)
- -------------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000
Income from Investment Operations:
Net Investment Income........... .051 .049 .054 .037 .027 .016 .046 .070 .077 .083 .064
Net Realized and Unrealized
Gain (Loss) on Investments.... - - - - - - - - - - -
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations .051 .049 .054 .037 .027 .016 .046 .070 .077 .083 .064
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.051) (.049) (.054) (.037) (.027) (.016) (.046) (.070) (.077) (.083) (.064)
Distributions from Capital Gains - - - - - - - - - - -
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (.051) (.049) (.054) (.037) (.027) (.016) (.046) (.070) (.077) (.083) (.064)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== ======
Total Return....................... 5.04% 5.07% 5.59% 3.76% 2.69% 1.54%(e) 4.64% 7.20% 8.37% 8.59% 6.61%
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== ======
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................ $47,315 $46,244 $32,670 $29,372 $22,753 $27,680 $25,194 $26,509 $26,588 $20,707 $14,571
Ratio of Expenses to
Average Net Assets.............. .55% .56% .58% .60% .60% .59%(f) .57% .56% .57% .61% .64%
Ratio of Net Investment Income
to Average Net Assets........... 5.12% 5.00% 5.32% 3.81% 2.64% 3.10%(f) 4.54% 6.94% 8.05% 8.40% 6.39%
Portfolio Turnover Rate............ N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
Average Commission Rate............ N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
Notes to Financial Highlights
(a) Effective January 1, 1998, the following Fund names were changed:
Principal Balanced Fund, Inc. became Balanced Account
Principal Bond Fund, Inc. became Bond Account
Principal Capital Accumulation Fund, Inc. became Capital Value Account
Principal Emerging Growth Fund, Inc. became MidCap Account
Principal High Yield Fund, Inc. became High Yield Account
Principal Money Market Fund, Inc. became Money Market Account
(b) Effective July 1, 1992 the Account changed its fiscal year end from June 30
to December 31. This column represents the period July 1, 1992 to December
31, 1992.
(c) Fiscal year end June 30.
(d) Period from December 18, 1987, date shares first offered to eligible
purchasers, through June 30, 1988. Net investment income aggregating $.01
per share for the period from the initial purchase of shares on December
10, 1987 through December 17, 1987 was recognized, all of which was
distributed to the Account's sole stockholder, Principal Mutual Life
Insurance Company. This represented activity of the Account prior to the
initial offering of shares to eligible purchasers.
(e) Total return amounts have not been annualized.
(f) Computed on an annualized basis.
(g) Due to the timing of dividend distributions and the differences in
accounting for income and realized gains (losses) for financial statement
and federal income tax purposes, the fiscal year in which amounts are
distributed may differ from the year in which the income and realized gains
(losses) are recorded for financial statement purposes by the fund. The
differences between the income and gains distributed on a book versus tax
basis are shown in the Financial Highlights as excess distributions from
net investment income and from capital gains.
INVESTMENT OBJECTIVES, POLICIES AND RESTRICTIONS
The investment objectives and policies of each Account are described below.
There can be no assurance that the objectives of the Accounts will be realized.
GROWTH-ORIENTED ACCOUNTS
The Fund includes two Accounts which seek capital appreciation through
investments in equity securities (Capital Value Account and MidCap Account) and
one Account which seeks a total investment return including both capital
appreciation and income through investments in equity and debt securities
(Balanced Account). These three Accounts are collectively referred to as the
Growth-Oriented Accounts.
The Growth-Oriented Accounts may invest in the following equity securities:
common stocks; preferred stocks and debt securities that are convertible into
common stock, that carry rights or warrants to purchase common stock or that
carry rights to participate in earnings; rights or warrants to subscribe to or
purchase any of the foregoing securities; and American Depository Receipts based
on any of the foregoing securities. The Capital Value and MidCap Accounts will
seek to be fully invested under normal conditions in equity securities. When in
the opinion of the Manager current market or economic conditions warrant, a
Growth-Oriented Account may for temporary defensive purposes place all or a
portion of its assets in cash, on which the Account would earn no income, cash
equivalents, bank certificates of deposit, bankers acceptances, repurchase
agreements, commercial paper, commercial paper master notes which are floating
rate debt instruments without a fixed maturity, United States Government
securities, and preferred stocks and debt securities, whether or not convertible
into or carrying rights for common stock. A Growth-Oriented Account may also
maintain reasonable amounts in cash or short-term debt securities for daily cash
management purposes or pending selection of particular long-term investments.
Balanced Account
The investment objective of the Balanced Account is to generate a total
return consisting of current income and capital appreciation while assuming
reasonable risks in furtherance of the investment objective. The term
"reasonable risks" refers to investment decisions that in the Manager's judgment
do not present a greater than normal risk of loss in light of current or
anticipated future market and economic conditions, trends in yields and interest
rates, and fiscal and monetary policies.
In seeking to achieve the investment objective, the Account invests
primarily in growth and income-oriented common stocks (including securities
convertible into common stocks), corporate bonds and debentures and short-term
money market instruments. The Account may also invest in other equity
securities, and in debt securities issued or guaranteed by the United States
Government and its agencies or instrumentalities. The Account seeks to generate
real (inflation plus) growth during favorable investment periods and may
emphasize income and capital preservation strategies during uncertain investment
periods. The Manager will seek to minimize declines in the net asset value per
share. However, there is no guarantee that the Manager will be successful in
achieving this goal.
The portions of the Account's total assets invested in equity securities,
debt securities and short-term money market instruments are not fixed, although
ordinarily 40% to 70% of the Account's portfolio will be invested in equity
securities with the balance of the portfolio invested in debt securities. The
investment mix will vary from time to time depending upon the judgment of the
Manager as to general market and economic conditions, trends in investment
yields and interest rates and changes in fiscal or monetary policies.
The Account may invest in all types of common stocks and other equity
investments, without regard to any objective investment criteria such as size of
the issue or issuer, exchange listing or seasoning. The Account may invest in
both exchange-listed and over-the-counter securities, in small or large
companies, and in well-established or unseasoned companies. Also, the Account's
investments in corporate bonds and debentures and money market instruments are
not restricted by credit ratings or other objective investment criteria, except
with respect to bank certificates of deposit as set forth below. Some of the
fixed income securities in which the Account may invest may be considered to
include speculative characteristics and the Account may purchase such securities
that are in default but does not currently intend to invest more than 5% of its
assets in securities rated below BBB by Standard & Poor's or Baa by Moody's. See
the discussion of the High Yield Account for information concerning risks
associated with below-investment grade bonds. The Account will not concentrate
its investments in any industry.
In selecting common stocks, the Manager seeks companies which the Manager
believes have predictable earnings increases and which, based on their future
growth prospects, may be currently undervalued in the market place. During
periods when the Manager determines that general economic conditions are
favorable, it will generally purchase common stocks with the objective of
long-term capital appreciation. From time to time, and in periods of economic
uncertainty, the Manager may purchase common stocks with the expectation of
price appreciation over a relatively short period of time.
To achieve its investment objective, the Account may at times emphasize the
generation of interest income by investing in short, medium or long-term debt
securities. Investment in debt securities may also be made with a view to
realizing capital appreciation when the Manager believes that declining interest
rates may increase market values. The Account may also purchase "deep discount
bonds," i.e., bonds which are selling at a substantial discount from their face
amount, with a view to realizing capital appreciation.
The short-term money market investments in which the Account may invest
include the following: U.S. Treasury bills, bank certificates of deposit,
bankers' acceptances, repurchase agreements, commercial paper and commercial
paper master notes which are floating rate debt instruments without a fixed
maturity. The Account will only invest in domestic bank certificates of deposit
issued by banks which are members of the Federal Reserve System that have total
deposits in excess of one billion dollars.
The United States government securities in which the Account may invest
include U.S. Treasury obligations and obligations of certain agencies, such as
the Government National Mortgage Association, which are supported by the full
faith and credit of the United States, as well as obligations of certain other
Federal agencies or instrumentalities, such as the Federal National Mortgage
Association, Federal Land Banks and the Federal Farm Credit Administration,
which are backed only by the right of the issuer to borrow limited funds from
the U.S. Treasury, by the discretionary authority of the U.S. Government to
purchase such obligations or by the credit of the agency or instrumentality
itself.
Capital Value Account
The primary objective of the Capital Value Account is long-term capital
appreciation. A secondary objective is growth of investment income.
The Account will invest primarily in common stocks, but it may invest in
other securities. In making selections for the Account's investment portfolio,
the Sub-Advisor, Invista, will use an approach described broadly as that of
fundamental analysis, which is discussed in the Statement of Additional
Information. To achieve the investment objective, Invista will invest in
securities that have "value" characteristics. This process is known as "value
investing." Value investing is purchasing securities of companies with above
average dividend yields and below average price to earnings (P/E) ratios.
Securities chosen for investment may include those of companies which the
Invista believes can reasonably be expected to share in the growth of the
nation's economy over the long term.
MidCap Account
The objective of the MidCap Account is to achieve capital appreciation. The
strategy of this Account is to invest primarily in the common stocks and
securities (both debt and preferred stock) convertible into common stocks of
emerging and other growth-oriented companies that, in the judgment of the
Manager, are responsive to changes within the marketplace and have the
fundamental characteristics to support growth. In pursuing its objective of
capital appreciation, the MidCap Account may invest, for any period of time, in
any industry, in any kind of growth-oriented company, whether new and unseasoned
or well known and established. Under normal market conditions, the Account will
invest at least 65% of its assets in securities of companies with market
capitalizations in the $1 billion to $10 billion range. The Account may invest
up to 10% of its assets in securities of foreign issuers. For a description of
certain investment risks associated with foreign securities, see Certain
Policies and Restrictions - Foreign Securities.
There can be, of course, no assurance that the Account will attain its
objective. Investment in emerging and other growth-oriented companies may
involve greater risk than investment in other companies. The securities of
growth-oriented companies may be subject to more abrupt or erratic market
movements, and many of them may have limited product lines, markets, financial
resources or management. Because of these factors and of the length of time that
may be required for full development of the growth prospects of some of the
companies in which the Account invests, the Account believes that its shares are
suitable only for persons who are prepared to experience above-average
fluctuations in net asset value, to assume above-average investment risk in
search of above-average return, and to consider the Account as a long-term
investment and not as a vehicle for seeking short-term profits. Moreover, since
the Account will not be seeking current income, investors should not view a
purchase of Account shares as a complete investment program.
INCOME-ORIENTED ACCOUNTS
The Fund currently includes two Accounts which seek a high level of income
through investments in fixed-income securities (Bond Account and High Yield
Account) collectively referred to as the "Income-Oriented Accounts." An
investment in any of the Income-Oriented Accounts involves market risks
associated with movements in interest rates. The market value of the Accounts'
investments will fluctuate in response to changes in interest rates and other
factors. During periods of falling interest rates, the values of outstanding
long-term fixed-income securities generally rise. Conversely, during periods of
rising interest rates, the values of such securities generally decline. Changes
by recognized rating agencies in their ratings of any fixed-income security and
in the ability of an issuer to make payments of interest and principal may also
affect the value of these investments. Changes in the value of portfolio
securities will affect the Accounts' net asset values but will not affect cash
income derived from the securities unless a change results from a failure of an
issuer to pay interest or principal when due. Each Account's rating limitations
apply at the time of acquisition of a security, and any subsequent change in a
rating by a rating service will not require elimination of a security from the
Account's portfolio. The Statement of Additional Information contains
descriptions of ratings of Moody's Investors Service, Inc. ("Moody's") and
Standard and Poor's Corporation ("S&P").
Bond Account
The investment objective of the Bond Account is to provide as high a level
of income as is consistent with preservation of capital and prudent investment
risk.
In seeking to achieve the investment objective, the Account will
predominantly invest in marketable fixed-income securities. Investments will be
made generally on a long-term basis, but the Account may make short-term
investments from time to time as deemed prudent by the Manager. Longer
maturities typically provide better yields but will subject the Account to a
greater possibility of substantial changes in the values of its portfolio
securities as interest rates change.
Under normal circumstances, the Account will invest at least 65% of its
assets, exclusive of cash items, in one or more of the following kinds of
securities: (i) corporate debt securities and taxable municipal obligations,
which at the time of purchase have an investment grade rating within the four
highest grades used by Standard & Poor's Corporation (AAA, AA, A or BBB) or by
Moody's Investors Service, Inc. (Aaa, Aa, A or Baa) or which, if lower-rated or
nonrated, are comparable in quality in the opinion of the Account's Manager;
(ii) similar Canadian corporate, Provincial and Federal Government securities
payable in U.S. funds; and (iii) securities issued or guaranteed by the United
States Government or its agencies or instrumentalities. The balance of the
Account's assets may be invested in other fixed income securities, including
domestic and foreign corporate debt securities or preferred stocks, in common
stocks that provide returns that compare favorably with the yields on fixed
income investments, and in common stocks acquired upon conversion of debt
securities or preferred stocks or upon exercise of warrants acquired with debt
securities or otherwise and foreign government securities. The debt securities
and preferred stocks in which the Account invests may be convertible or
nonconvertible. The Account does not intend to purchase debt securities rated
lower than Ba3 by Moody's or BB - by S & P (bonds which are judged to have
speculative elements; their future cannot be considered as well-assured). See
the discussion of the High Yield Account for information concerning risks
associated with below investment grade bonds.
Cash equivalents in which the Account invests include corporate commercial
paper rated A-1+, A-1 or A-2 by Standard & Poor's or P-1 or P-2 by Moody's,
unrated commercial paper issued by corporations with outstanding debt securities
rated in the four highest grades by Standard & Poor's and Moody's and bank
certificates of deposit and bankers' acceptances issued or guaranteed by
national or state banks and repurchase agreements considered by the Account to
have investment quality. Under unusual market or economic conditions, the
Account may for temporary defense purposes invest up to 100% of its assets in
cash or cash equivalents.
High Yield Account
The High Yield Account's primary investment objective is high current
income. Capital growth is a secondary objective when consistent with the
objective of high current income. This Account is designed for investors willing
to assume additional risk in return for above average income.
In seeking to attain the Account's objective of high current income, the
Account invests primarily in high yielding, lower or non-rated (high risk)
fixed-income securities, commonly known as "junk bonds," constituting a
diversified portfolio which the Account Manager believes does not involve undue
risk to income or principal. Normally, at least 80% of the Account's assets will
be invested in debt securities, convertible securities (both debt and preferred
stock) or preferred stocks that are consistent with its primary investment
objective of high current income. The Account's remaining assets may be held in
cash or cash equivalents, or invested in common stocks and other equity
securities when these types of investments are consistent with the objective of
high current income.
The Account seeks to invest its assets in securities rated Ba1 or lower by
Moody's Investors Service, Inc. ("Moody's") or BB+ or lower by Standard & Poor's
Corporation ("S&P") or in unrated securities which the Account's Manager
believes are of comparable quality. These securities are regarded, on balance,
as predominantly speculative with respect to the issuer's capacity to pay
interest and to repay principal in accordance with the terms of the obligation.
The Account will not invest in securities rated Caa or lower by Moody's and CCC
or lower by S&P.
The rating services' descriptions of securities rating categories in which
the Account may normally invest are as follows:
Moody's Investors Service, Inc. Bond Ratings - Ba: Bonds which are rated Ba
are judged to have speculative elements; their future cannot be considered as
well-assured. Often the protection of interest and principal payments may be
very moderate and thereby not well safeguarded during both good and bad times
over the future. Uncertainty of position characterizes bonds in this class. B:
Bonds which are rated B generally lack characteristics of the desirable
investment. Assurance of interest and principal payments or of maintenance of
other terms of the contract over any long period of time may be small.
Caa: Bonds which are rated Caa are of poor standing. Such issues may be in
default or there may be present elements of danger with respect to principal or
interest.
Moody's may apply numerical modifiers, 1, 2 and 3 in each generic rating
classification from Aa through B in its bond rating system. The modifier 1
indicates that the security ranks in the high end of its generic rating
category; the modifier 2 indicates a mid-range ranking; and a modifier 3
indicates that the issue ranks in the lower end of its generic rating category.
Standard & Poor's Corporation Bond Ratings - BB, B, CCC, CC: Debt rated
"BB", "B", "CCC" and "CC" 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
"CC" 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.
Plus (+) or Minus (-): The ratings from "AA" to "BB" may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
The higher-yielding, lower-rated securities in which the High Yield Account
invests present special risks to investors. The market value of lower-rated
securities may be more volatile than that of higher-rated securities and
generally tends to reflect the market's perception of the creditworthiness of
the issuer and short-term market developments to a greater extent than more
highly rated securities, which reflect primarily fluctuations in general levels
of interest rates. Periods of economic uncertainty and change can be expected to
result in increased volatility in the market value of lower-rated securities.
Further, such securities may be subject to greater risks of loss of income and
principal, particularly in the event of adverse economic changes or increased
interest rates, because their issuers generally are not as financially secure or
as creditworthy as issuers of higher-rated securities. Additionally, to the
extent that there is not a national market system for secondary trading of
lower-rated securities, there may be a low volume of trading in such securities
which may make it more difficult to value or sell those securities than
higher-rated securities. Adverse publicity and investor perceptions, whether or
not based on fundamental analysis, may decrease the values and liquidity of high
yield securities, especially in a thinly traded market.
Investors should recognize that the market for higher yielding, lower-rated
securities is a relatively recent development that has not been tested by an
economic recession. An economic downturn may severely disrupt the market for
such securities and cause financial stress to the issuers which may adversely
affect the value of the securities held by the High Yield Account and the
ability of the issuers of the securities held by it to pay principal and
interest. A default by an issuer may result in the Account incurring additional
expenses to seek recovery of the amounts due it.
Some of the securities in which the Account invests contain call
provisions. If the issuer of such a security exercises a call provision in a
declining interest rate market, the Account would have to replace the security
with a lower-yielding security, resulting in a decreased return for investors.
Further, a higher-yielding security's value will decrease in a rising interest
rate market, which will be reflected in the Account's net asset value per share.
Investors should carefully consider their ability to assume the risks of
investing in lower-rated securities before making an investment in the High
Yield Account and should be prepared to maintain their investment during periods
of adverse market conditions.
Investors should not rely on the Account for their short-term financial needs.
The Account seeks to minimize the risks of investing in lower-rated
securities through diversification, investment analysis and attention to current
developments in interest rates and economic conditions. Because the Account
invests primarily in securities in the lower rating categories, the achievement
of the Account's goals is more dependent on the Manager's ability than would be
the case if the Account were investing in securities in the higher rating
categories. Although the Account's Manager considers security ratings when
making investment decisions, it performs its own investment analysis and does
not rely principally on the ratings assigned by the rating services. There are
risks in applying credit ratings as a method for evaluating high yield
securities. For example, credit ratings evaluate the safety of principal and
interest payments, not the market value risk of high yield securities, and
credit rating agencies may fail to make timely changes in credit ratings to
reflect subsequent events. The Manager's analysis includes traditional security
analysis considerations such as the issuer's experience and managerial strength,
changing financial condition, borrowing requirements or debt maturity schedules,
and its responsiveness to changes in business conditions and interest rates. It
also considers relative values based on anticipated cash flow, interest or
dividend coverage, asset coverage and earnings prospects. In addition, the
Manager analyzes general business conditions and other factors such as
anticipated changes in economic activity and interest rates, the availability of
new investment opportunities, and the economic outlook for specific industries.
The Manager continuously monitors the issuers of portfolio securities to
determine if the issuers will have sufficient cash flow and profits to meet
required principal and interest payments and to assure the securities' liquidity
so the Account can meet redemption requests. During the year ended December 31,
1997 the percentage of the Account's portfolio securities invested in the
various ratings established by Moody's, based upon the weighted average ratings
of the portfolio, was as follows:
Moody's Rating Portfolio Percentage
-------------- --------------------
Baa .87%
Ba 31.92%
B 67.13%
C .08%
The above percentage for B rated securities included unrated securities in
the amount of .79% which has been determined by the Manager to be of comparable
quality.
There may be times when, in the Manager's judgment, unusual market or
economic conditions make pursuing the Account's basic investment strategy
inconsistent with the best interests of its shareholders. At such times the
Manager may employ alternative strategies, primarily seeking to reduce
fluctuations in the value of the Account's assets. In implementing these
"defensive" strategies, the Account may temporarily invest in money-market
instruments of all types, higher-rated fixed-income securities or any other
fixed-income securities that the Account considers consistent with such
strategy. The yield to maturity on these securities would generally be lower
than the yield to maturity on lower-rated fixed-income securities. It is
impossible to predict when, or for how long, such alternative strategies will be
utilized.
The Account's Manager buys and sells securities for the Account principally
in response to its evaluation of an issuer's continuing ability to meet its
obligations, the availability of better investment opportunities, and its
assessment of changes in business conditions and interest rates. From time to
time, consistent with its investment objectives, the Account may sell securities
that have appreciated in value because of declines in interest rates. It may
also trade securities for the purpose of seeking short-term profits. Securities
may be sold in anticipation of a market decline or bought in anticipation of a
market rise. They may also be traded for securities of comparable quality and
maturity to take advantage of perceived short-term disparities in market values
or yields.
MONEY MARKET ACCOUNT
The Fund also includes an Account which invests primarily in short-term
securities, Money Market Account. Securities in which the Money Market Account
will invest may not yield as high a level of current income as securities of low
quality and longer maturities which generally have less liquidity, greater
market risk and more fluctuation.
The Money Market Account will limit its portfolio investments to United
States dollar denominated instruments that the board of directors determines
present minimal credit risks and which are at the time of acquisition "Eligible
Securities" as that term is defined in regulations issued under the Investment
Company Act of 1940. Eligible Securities include:
(1) A security with the remaining maturity of 397 days or less that is
rated (or that has been issued by an issuer that is rated in respect to
a class of short-term debt obligations, or any security within that
class, that is comparable in priority and security with the security)
by a nationally recognized statistical rating organization in one of
the two highest rating categories for short-term debt obligations; or
(2) A security that at the time of issuance was a long-term security that
has a remaining maturity of 397 calendar days or less, and whose issuer
has received from a nationally recognized statistical rating
organization a rating, with respect to a class of short-term debt
obligations (or any security within that class) that is now comparable
in priority and security with the security, in one of the two highest
rating categories for short-term debt obligations; or
(3) An unrated security that is of comparable quality to a security meeting
the requirements of (1) or (2) above, as determined by the board of
directors.
The Account will not invest more than 5% of its total assets in the
following securities:
(1) Securities which, when acquired by the Account (either initially or
upon any subsequent rollover), are rated below the highest rating
category for short-term debt obligations;
(2) Securities which, at the time of issuance were long-term securities but
when acquired by the Account have a remaining maturity of 397 calendar
days or less, if the issuer of such securities is rated, with respect
to a class of comparable short-term debt obligations, below the highest
rating category for short-term obligations;
(3) Securities which are unrated but are determined by the board of
directors to be of comparable quality to securities rated below the
highest rating category for short-term debt obligations. The Account
will maintain a dollar-weighted average portfolio maturity of 90 days
or less.
The objective of Money Market Account is to seek as high a level of current
income available from short-term securities as is considered consistent with
preservation of principal and maintenance of liquidity by investing its assets
in a portfolio of money market instruments. These money market instruments are
U.S. Government Securities, U.S. Government Agency Securities, Bank Obligations,
Commercial Paper, Short-term Corporate Debt and Repurchase Agreements, which are
described briefly below and in more detail in the Statement of Additional
Information.
U.S. Government Securities are securities issued or guaranteed by the U.S.
Government, including treasury bills, notes and bonds.
U.S. Government Agency Securities are obligations issued or guaranteed by
agencies or instrumentalities of the U.S. Government whether supported by the
full faith and credit of the U.S. Treasury or only by the credit of a particular
agency or instrumentality.
Bank Obligations consist of certificates of deposit which are generally
negotiable certificates issued against funds deposited in a commercial bank for
a definite period of time and earning a specified return and bankers acceptances
which are time drafts drawn on a commercial bank by a borrower, usually in
connection with international commercial transactions.
Commercial Paper is short-term promissory notes issued by corporations
primarily to finance short-term credit needs.
Short-term Corporate Debt consists of notes, bonds or debentures which at
the time of purchase have one year or less remaining to maturity.
Repurchase Agreements are transactions under which securities are purchased
from a bank or securities dealer with an agreement by the seller to repurchase
the securities at the same price plus interest at a specified rate. Generally,
Repurchase Agreements are of short duration, usually less than a week but on
occasion for longer periods.
The Account intends to hold its investments until maturity, but may on
occasion trade securities to take advantage of market variations. Also, revised
valuations of an issuer or redemptions may result in sales of portfolio
investments prior to maturity or at times when such sales might otherwise not be
desirable. The Account's right to borrow to facilitate redemptions may reduce
the need for such sales. It is the Account's policy to be as fully invested as
reasonably practical at all times to maximize current income.
Since portfolio assets will consist of short-term instruments, replacement
of portfolio securities will occur frequently. However, since the Account
expects to usually transact purchases and sales of portfolio securities with
issuers or dealers on a net basis, it is not anticipated that the Account will
pay any significant brokerage commissions. The Account is free to dispose of
portfolio securities at any time, when changes in circumstances or conditions
make such a move desirable in light of the investment objective.
A shareholder's rate of return will vary with the general interest rate
levels applicable to the money market instruments in which the Account invests.
The rate of return and the net asset value will be affected by such other
factors as sales of portfolio securities prior to maturity and the Account's
operating expenses.
CERTAIN INVESTMENT POLICIES AND RESTRICTIONS
Following is a discussion of certain investment practices that the Accounts
may use in an effort to achieve their respective investment objectives.
Diversification
Each Account is subject to the diversification requirements of Section
817(h) of the Internal Revenue Code (the "Code") which must be met at the end of
each quarter of the year (or within 30 days thereafter). Regulations issued by
the Secretary of the Treasury have the effect of requiring each Account to
invest no more than 55% of its total assets in securities of any one issuer, no
more than 70% in the securities of any two issuers, no more than 80% in the
securities of any three issuers, and no more than 90% in the securities of any
four issuers. For this purpose, the United States Treasury and each U.S.
Government agency and instrumentality is considered to be a separate issuer.
In the event any of the Accounts do not meet the diversification
requirements of Section 817(h) of the Code, the contracts funded by shares of
the Accounts will not be treated as annuities or life insurance for Federal
income tax purposes and the owners of the Accounts will be subject to taxation
on their share of the dividends and distributions paid by the Accounts.
Foreign Securities
Each of the following Accounts has adopted investment restrictions that
limit its investments in foreign securities to the indicated percentage of its
assets: Bond, Capital Value and High Yield - 20%; Balanced and MidCap - 10%.
Debt securities issued in the United States pursuant to a registration statement
filed with the Securities and Exchange Commission are not considered "foreign
securities" for purposes of this investment limitation. Investment in foreign
securities presents certain risks including those resulting from fluctuations in
currency exchange rates, revaluation of currencies, the imposition of foreign
taxes, future political and economic developments including war, expropriations,
nationalization, the possible imposition of currency exchange controls and other
foreign governmental laws or restrictions, reduced availability of public
information concerning issuers, and the fact that foreign issuers are not
generally subject to uniform accounting, auditing and financial reporting
standards or to other regulatory practices and requirements comparable to those
applicable to domestic issuers. Moreover, securities of many foreign issuers may
be less liquid and their prices more volatile than those of comparable domestic
issuers. In addition, transactions in foreign securities may be subject to
higher costs, and the time for settlement of transactions in foreign securities
may be longer than the settlement period for domestic issuers. An Account's
investment in foreign securities may also result in higher custodial costs and
the costs associated with currency conversions.
Repurchase Agreements
Each of the Accounts, may enter into repurchase agreements with, and each
of the Accounts, except the Capital Value and Money Market Accounts, may lend
its portfolio securities to, unaffiliated broker-dealers and other unaffiliated
qualified financial institutions. These transactions must be fully
collateralized at all times, but involve some credit risk to the Account if the
other party should default on its obligations, and the Account is delayed or
prevented from recovering on the collateral. See the Fund's Statement of
Additional Information for further information regarding the credit risks
associated with repurchase agreements and the standards adopted by the Board of
Directors to deal with those risks. None of the Accounts intend either (i) to
enter into repurchase agreements that mature in more than seven days if any such
investment, together with any other illiquid securities held by the Account,
would amount to more than 10% of its total assets or (ii) to loan securities in
excess of 30% of its total assets.
Forward Commitments
From time to time, each of the Accounts may enter into forward commitment
agreements which call for the Account to purchase or sell a security on a future
date and at a price fixed at the time the Account enters into the agreement.
Each of these Accounts may also acquire rights to sell its investments to other
parties, either on demand or at specific intervals.
Warrants
Each of the Accounts, except the Money Market Account, may invest in
warrants up to 5% of its assets, of which not more than 2% may be invested in
warrants that are not listed on the New York or American Stock Exchange.
Borrowing
As a matter of fundamental policy, each Account may borrow money only for
temporary or emergency purposes. The Balanced, Bond, Capital Value, High Yield
and Money Market Accounts may borrow only from banks. Further, each may borrow
only in an amount not exceeding 5% of its assets, except the Capital Value
Account which may borrow only in an amount not exceeding the lesser of (i) 5% of
the value of its assets less liabilities other than such borrowings, or (ii) 10%
of its assets taken at cost at the time the borrowing is made, and the Money
Market Account which may borrow only in an amount not exceeding the lesser of
(i) 5% of the value of its assets, or (ii) 10% of the value of its net assets
taken at cost at the time the borrowing is made.
Options
The Balanced, Bond, High Yield and MidCap Accounts may purchase covered
spread options, which would give the Account the right to sell a security that
it owns at a fixed dollar spread or yield spread in relationship to another
security that the Account does not own, but which is used as a benchmark. These
same Accounts may also purchase and sell financial futures contracts, options on
financial futures contracts and options on securities and securities indices,
but will not invest more than 5% of their assets in the purchase of options on
securities, securities indices and financial futures contracts or in initial
margin and premiums on financial futures contracts and options thereon. The
Accounts may write options on securities and securities indices to generate
additional revenue and for hedging purposes and may enter into transactions in
financial futures contracts and options on those contracts for hedging purposes.
The Statement of Additional Information includes further information
concerning the Accounts' investment policies and applicable investment
restrictions. Each Account's investment objective and certain investment
restrictions designated as such in this Prospectus or the Statement of
Additional Information are fundamental policies that may not be changed without
shareholder approval. All other investment policies described in the Prospectus
and the Statement of Additional Information for an Account are not fundamental
and may be changed by the Board of Directors of the Fund without shareholder
approval.
MANAGER AND SUB-ADVISOR
The Manager for the Fund is Principal Management Corporation (the
"Manager"), an indirectly wholly-owned subsidiary of Principal Mutual Life
Insurance Company, a mutual life insurance company organized in 1879 under the
laws of the State of Iowa. The address of the Manager is The Principal Financial
Group, Des Moines, Iowa 50392. The Manager was organized on January 10, 1969,
and since that time has managed various mutual funds sponsored by Principal
Mutual Life Insurance Company. As of December 31, 1997, the Manager served as
investment advisor for 30 such funds with assets totaling approximately $5.3
billion.
The Manager has executed an agreement with Invista Capital Management, Inc.
("Invista") under which Invista has agreed to assume the obligations of the
Manager to provide investment advisory services for the Balanced, Capital Value
and MidCap Accounts. The Manager will reimburse Invista for the cost of
providing these services. Invista, an indirectly wholly-owned subsidiary of
Principal Mutual Life Insurance company and an affiliate of the Manager, was
founded in 1985 and manages investments for institutional investors, including
Principal Mutual Life. Assets under management at December 31, 1997 were
approximately $26 billion. Invista's address is 1800 Hub Tower, 699 Walnut, Des
Moines, Iowa 50309.
The Manager or Invista has assigned certain individuals the primary
responsibility for the day-to-day management of each Account's portfolio. The
persons primarily responsible for the day-to-day management of each Account are
identified in the table below:
<TABLE>
<CAPTION>
Primarily
Account Responsible Since Person Primarily Responsible
------- ----------------- ----------------------------
<S> <C> <C>
Balanced April, 1993 Judith A. Vogel, CFA (BA degree, Central College). Vice
President, Invista Capital Management, Inc. Co-Manager since December, 1997:
Martin J. Schafer (BBA degree, University of Iowa). Vice President, Invista
Capital Management, Inc.
Bond November, 1996 Scott A. Bennett, CFA (MBA degree, University of Iowa) Assistant Director
Investment Securities, Principal Mutual Life Insurance Company.
Capital Value November, 1996 Catherine A. Green, CFA, (MBA degree, Drake University). Vice President,
Invista Capital Management, Inc.
High Yield December, 1987 James K. Hovey, CFA (MBA degree University of Iowa). Director - Investment
(Account's inception) Securities, Principal Mutual Life Insurance Company.
MidCap December, 1987 Michael R. Hamilton, (BMBA degree, Bellarmine College). Vice President, Invista
(Account's inception) Capital Management, Inc.
</TABLE>
DUTIES PERFORMED BY THE MANAGER AND SUB-ADVISOR
Under Maryland law, the business and affairs of each of the Accounts are
managed under the direction of the Board of Directors. The investment services
and certain other services referred to under the heading "Cost of Manager's
Services" in the Statement of Additional Information are furnished to the
Accounts under the terms of a Management Agreement between the Fund and the
Manager, and for the Balanced, Capital Value and MidCap Accounts, a Sub-Advisory
Agreement between the Manager and Invista. The Manager, or Invista, advises the
Accounts on investment policies and on the composition of the Accounts'
portfolios. In this connection, the Manager, or Invista, furnishes to the Board
of Directors of the Fund a recommended investment program consistent with the
Account's investment objective and policies. The Manager, or Invista, is
authorized, within the scope of the approved investment program, to determine
which securities are to be bought or sold, and in what amounts.
The Fund and the Manager have filed an application with the Securities and
Exchange Commission seeking an exemptive order that would permit the Manager to
appoint a Sub-Advisor or change a subadvisory agreement without approval by
shareholders. If the SEC issues the requested order, the Fund would be able to
change Sub-Advisors or the fees paid to Sub-Advisors from time to time without
the expense and delays associated with obtaining shareholder approval of the
change. The order would not permit the Manager to appoint a Sub-Advisor that is
an affiliate of the Manager or the Fund (other than by reason of serving as
Sub-Advisor to a portfolio) (an "Affiliated Sub-Advisor") or to change a
subadvisory fee of an Affiliated Sub-Advisor without the approval of
shareholders. Currently, Invista is an Affiliated Sub-Advisor. There is no
assurance that the SEC will grant the requested ruling.
The Fund would not rely on the requested SEC order as to any Account until
the operation of that Account in the manner described in the application is
approved by (1) contract owners who have allocated assets to that Account, or
(2) in the case of a new Account, the Account's sold initial shareholder before
the Account is made available to contract owners.
Each Account pays for certain corporate expenses incurred in its operation.
Among such expenses, the Account pays brokerage commissions on portfolio
transactions, transfer taxes and other charges and fees attributable to
investment transactions, any other local, state or federal taxes, fees and
expenses of all directors of the Fund who are not persons affiliated with the
Manager, interest, fees for Custodian of the Account, and the cost of meetings
of shareholders.
The compensation paid by each Account to the Manager for the fiscal year
ended December 31, 1997 was, on an annual basis, equal to the following
percentage of average net assets:
Total
Manager's Annualized
Account Fee Expenses
------- --------- ----------
Balanced Account .59% .61%
Bond Account .50% .52%
Capital Value Account .46% .47%
High Yield Account .60% .68%
MidCap Account .62% .64%
Money Market Account .50% .55%
The Manager's Fee shown above includes a fee paid to the Account's
Sub-Advisor, if any. Fees paid to Sub-Advisors for the fiscal year ended
December 31, 1997 were as follows: Balanced - .06%; Capital Value - .06%; and
MidCap - .06%.
The Manager, or Invista, may purchase at its own expense statistical and
other information or services from outside sources, including Principal Mutual
Life Insurance Company. An Investment Service Agreement between the Fund, the
Manager and Principal Mutual Life Insurance Company provides that Principal
Mutual Life Insurance Company will furnish certain personnel, services and
facilities required by the Manager in connection with its performance of the
Management Agreements, and that the Manager will reimburse Principal Mutual Life
Insurance Company for its costs incurred in this regard.
The Accounts may from time to time execute transactions for portfolio
securities with, and pay related brokerage commissions to, Principal Financial
Securities, Inc., a broker-dealer that is an affiliate of the Distributor and
Manager for the Fund.
The Manager serves as investment advisor, dividend disbursing agent and,
directly and through an affiliate, as transfer agent for each of the Funds
sponsored by Principal Mutual Life Insurance Company.
MANAGERS' COMMENTS
Principal Management Corporation and Invista are staffed with investment
professionals who manage each individual Account. Comments by these individuals
in the following paragraphs summarize in capsule form the general strategy and
results of each Account through 1997. The accompanying charts display results
for the past 10 years or the life of the Account, whichever is shorter. Average
Annual Total Return figures provided for each Account in the graphs below
reflect all expenses of the Account and assume all distributions are reinvested
at net asset value. The figures do not reflect expenses of the variable life
insurance contracts or variable annuity contracts that purchase Account shares;
performance figures for the divisions of the contracts would be lower than
performance figures for the Accounts due to the additional contract expenses.
Past performance is not predictive of future performance. Returns and net asset
values fluctuate. Shares are redeemable at current net asset value, which may be
more or less than original cost.
The various indices included in the graphs below are unmanaged and do not
reflect any commissions or fees which would be incurred by an investor
purchasing the securities included in the index. Investors cannot invest
directly into these or any indices.
Growth-Oriented Accounts
Balanced Account
(Judith A. Vogel)
Total Returns *
As of December 31, 1997
---------------------------------------------------
1 Year 5 Year 10 Year
17.93% 12.57% 12.96%
Comparison of Change in Value of $10,000 Investment in the
Balanced Account, S&P 500, Lehman Brothers Government/Corporate
Bond Index and Lipper Balanced Fund Average
---------------------------------------------------------------
Lipper Lehman
Year Ended Balanced S&P 500 Mid Cap Govt Corp
December 31, Account Index Index Bond Index
10,000 10,000 10,000 10,000
1988 11,830 11,661 11,229 10,759
1989 13,198 15,356 13,429 12,290
1990 12,348 14,877 13,355 13,309
1991 16,592 19,412 16,930 15,455
1992 18,716 20,891 18,122 16,626
1993 20,786 22,992 20,066 18,464
1994 20,351 23,294 19,561 17,816
1995 25,355 32,037 24,482 21,246
1996 28,684 39,388 27,851 21,861
1997 33,826 52,525 33,143 23,993
Note: Past performance is not predictive of future performance.
1997 might best be described as a year of many moods in the financial markets.
The first half of the year was characterized by strength in the economy, low
inflation and phenomenal stock market results. The 25 largest companies in the
S&P 500 produced the best performance results among equity investments, making
the benchmark index a tough challenge for equity managers to beat. In 1997 the
Account had a return of 17.93% versus 19.00% for the Lipper Balanced Fund
Average, 9.75% for the Lehman Brothers Government/Corporate Bond Index and
33.35% for the S&P 500. Suffering from the impact of higher interest rates after
the Fed raised overnight bank lending rates in March, bond market returns were
much less robust. During the late summer and fall of the year concerns over
potential fallout from the Asian currency and market collapses caused a flight
to safety among U.S. Treasury bonds. Interest rates declined and, as investors
shunned large, multi-national companies having exposure to Asian economies in
favor of domestic common stocks, small caps registered double-digit quarterly
gains. In the final three months of the year the economy continued its upward
trend with no signs of developing inflationary pressures. Bond yields dipped
below 6% at the end of the year while a fresh round of earnings concerns kept
stock valuations from expanding further. All in all it was a very favorable
year. The U.S. stock market experienced an unprecedented third consecutive year
of annual returns in excess of 20%, and the bond market produced attractive
results approximating 10% as well.
With an asset mix of 60% equities and 40% fixed income, the Balanced Account
participated in the strong financial markets of 1997 producing a 17.9% return
which was well above long-run average results. The Account's strategy of holding
a diversified portfolio of high quality fixed income securities and reasonably
valued common stocks was maintained. The Account's objective is to produce both
capital appreciation and current income without taking on undue risk to
principal. Managers expect 1998 to be challenging as investors wrestle with an
aging economic expansion, strong global competition, high stock market
valuations and potential earnings disappointments. This Account's focus on
credit quality among bonds and a value orientation in the equity portfolio
should benefit long-term shareholders of the Balanced Account.
There is no independent market index against which to measure returns of
balanced portfolios, however, the S&P 500 Stock Index and the Lehman
Government/Corporate Bond Index are included in the accompanying graph for your
information.
Capital Value Account
(Catherine A. Green)
Total Returns *
As of December 31, 1997
- --------------------------------------------------
1 Year 5 Year 10 Year
28.53% 17.80% 15.23%
Comparison of Change in Value of $10,000 Investment in the
Capital Value Account, S&P 500 and Lipper Growth and Income Fund Average
----------------------------------------------------------------------------
Capital S&P 500 Lipper
Year Ended Value Stock Growth & Income
December 31, Account Index Fund Average
10,000 10,000 10,000
1988 11,442 11,661 11,601
1989 13,294 15,356 14,332
1990 11,983 14,877 13,694
1991 16,617 19,412 17,676
1992 18,199 20,891 19,264
1993 19,618 22,992 21,489
1994 19,714 23,294 21,287
1995 26,004 32,037 27,847
1996 32,114 39,388 33,634
1997 41,277 52,525 42,762
Note: Past performance is not predictive of future performance.
The Capital Value Account for 1997 was impacted by certain aspects of the market
that were common in many equity mutual funds. Although it underperformed the S&P
500 Index over the latest calendar year, it was able to outperform the average
Growth & Income Fund. The Account's exposure to the financial sector was a big
plus for its performance. These types of companies continue to provide stable,
strong earnings growth which has resulted in strong stock performance for these
names.
1997 was a year of fairly high volatility in the market. After the first four
months of the year the market was quite weak as concerns and fear of higher
interest rates kept a lid on returns. The period through August was one of
rebounding stocks and strong performance in certain sectors, including
Technology. The fourth quarter brought growing fears of the Asian crisis moving
to U.S. shores, and the subsequent stock activity was indeed quite dramatic.
Those funds with major tech exposure that enjoyed the late summer period found
themselves with stocks that had major reversals of fortune. Also, the third
quarter brought concerns that some of the major consumer staple stocks would not
be able to continue strong earnings growth without revenue growth to help out.
This impacted some names that had been market leaders for several years. Account
managers continue to monitor these economic and market changes both in the U.S.
and abroad to determine when any inflection points may require changes to the
portfolio.
MidCap Account
(Michael R. Hamilton)
Total Returns *
As of December 31, 1997
---------------------------------------------------
1 Year 5 Year 10 Years
22.75% 18.18% 18.29%
Comparison of Change in Value of $10,000 Investment
in the MidCap Account, S&P 500 and Lipper Mid Cap Fund Average
--------------------------------------------------------------
Lipper
Year Ended MidCap S&P 500 MID CAP
December 31, Account Index Index
10,000 10,000 10,000
1988 12,371 11,661 11,476
1989 15,073 15,356 14,586
1990 13,189 14,877 14,067
1991 20,244 19,412 21,275
1992 23,268 20,891 23,213
1993 27,755 22,992 26,625
1994 27,971 23,294 26,079
1995 36,086 32,037 34,469
1996 43,704 39,388 40,646
1997 53,649 52,525 48,624
Note: Past performance is not predictive of future performance.
Small company stocks suffered during the third quarter 1997 as investors chose
to avoid them in favor of large cap stocks given the Asian problems that
surfaced at the start of the quarter. This was a reversal from the prior
quarter. Once the magnitude of the Asian problems was assumed, its effects could
be anticipated. The largest 25 companies in the S&P 500 produced the best
performance results among equity investments, making the benchmark index a
challenge for equity managers to beat. The Account and the Lipper Average
trailed the S&P 500 Index because of their emphasis on small cap stocks.
As of now little impact is assumed on global economic growth. The withdrawal of
capital from many troubled markets and their implementation of more austere
measures in the troubled countries have lessened the threat of cheap imports
swamping the U.S. economy. Small cap stocks are once again on investors growth
stock shopping lists.
Account managers feel that even if Asia remains in a different mode, growth in
the United States will not be greatly affected and growth in Europe and South
America could offset the Asian slowdown. Still, it is prudent to stick with
those companies and industries with more visible growth in revenues and more
stable earnings. Financial stocks continue to benefit from consolidation and
expense control. Healthcare should benefit from the aging baby boomers as they
continue active lifestyles. Technology is one of the main factors enabling
companies to improve efficiency and requires continual investment to stay
competitive. The portfolio is well positioned to take advantage of these
opportunities.
Important Notes of the Growth-Oriented Accounts:
Standard & Poor's 500 Stock Index: an unmanaged index of 500 widely held common
stocks representing industrial, financial, utility and transportation companies
listed on the New York Stock Exchange, American Stock Exchange and the
Over-the-Counter market.
Lipper Balanced Fund Average: this average consists of mutual funds which
attempt to conserve principal by maintaining at all times a balanced portfolio
of both stocks and bonds. Typically, the stock/bond ratio ranges around 60%/40%.
The one year average at December 31, 1997 contained 350 mutual funds.
Lipper Growth & Income Fund Average: this average consists of funds which
combine a growth of earnings orientation and an income requirement for level
and/or rising dividends. The one year average contained 611 funds on December
31, 1997.
Lipper Mid Cap Fund Average: This average consists of funds which by prospectus
or portfolio practice, limit their investments to companies with average market
capitalizations and/or revenues between $800 million and the average market
capitalization of the Wilshire 4500 Index (as captured by the Vanguard Index
Extended Market Fund). The one-year average contained 249 funds on December 31,
1997.
Income-Oriented Accounts
Bond Account
(Scott A. Bennett)
Total Returns *
As of December 31, 1997
- --------------------------------------------------------------
1 Year 5 Year 10 Years
10.60% 8.44% 9.62%
Comparison of Change in Value of $10,000 Investment in the Bond Account, Lehman
Brothers BAA Corporate Index and Lipper Corporate Debt BBB Rated Fund Average
- -------------------------------------------------------------------------------
Lehman Lipper
Year Ended Bond BAA BBB
December 31, Account Index Avg
10,000 10,000 10,000
1988 10,927 10,923 10,900
1989 12,441 12,463 12,060
1990 13,090 13,343 12,751
1991 15,278 15,814 15,020
1992 16,711 17,187 16,258
1993 18,660 19,300 18,261
1994 18,120 18,360 17,447
1995 22,136 22,533 20,948
1996 22,659 23,439 21,616
1997 25,060 26,040 23,795
Note: Past performance is not predictive of future performance.
1997 was a year of high absolute levels of return for the fixed income market.
The Bond Account's total return for the year was 10.6%. This high level of
return was driven by the decline in Treasury yields through the final
three-quarters of the year on continued confidence that inflation would remain
low. The financial crisis in Asia in the fourth quarter also accelerated the
decline in Treasury yields as investors increased their purchases of Treasuries,
seeking a safe haven.
Although the Asian crisis was positive from a perspective of pushing down
interest rates, it increased the risk premium (spread) demanded by investors to
own corporate bonds as compared to owning Treasury bonds. The higher premium was
demanded on the threat of lower corporate profits because of Asia's influence on
the world's markets. Certain industries were hit harder than others, including
commodity industries, the technology sector, and construction industries such as
heavy equipment manufacturers. All of these factors influenced the 1997 returns
of the Bond Account. The Account's significant diversification by industry and
issuer helped it to avoid significant downside risk from the Asian crisis.
The Bond Account continues to outperform the Lipper Corporate Debt Fund
BBB-Rated Average and lag the Lehman BAA Corporate Index, which benefits from
the lack of fees. The long-term outperformance relative to the average BBB fund
is credited to remaining well diversified, fully invested and not guessing
interest rates.
High Yield Account
(James K. Hovey)
Total Returns *
As of December 31, 1997
---------------------------------------------------
1 Year 5 Year 10 Years
10.75% 10.45% 9.87%
Comparison of Change in Value of $10,000 Investment in the High Yield Account,
Lehman Brothers High Yield Index and Lipper High Current Yield Fund Average
------------------------------------------------------------------------------
High Lehman Lipper
Year Ended Yield High Yield Narrow
December 31, Account Index Index
10,000 10,000 10,000
1988 11,340 11,253 11,298
1989 11,579 11,347 11,239
1990 10,688 10,259 10,059
1991 13,605 14,985 13,876
1992 15,589 17,346 16,352
1993 17,508 20,314 19,500
1994 17,617 20,108 18,753
1995 20,450 23,971 21,844
1996 23,135 26,692 24,830
1997 25,621 30,097 28,048
Note: Past performance is not predictive of future performance.
The high yield market continued its strong performance in 1997. The High Yield
Account posted a total return of 10.75% for the year using its correlation to
both interest rates and the equity market to its advantage. This performance
trailed both the Lehman Brothers High Yield Index return of 12.76% and the
Lipper High Current Yield Fund Average of 12.96%. The relative underperformance
was driven by the Account's overexposure to Asia. The Account owned three
Indonesian bonds and one Philippine bond that were adversely impacted in the
fourth quarter. After seeing spreads narrow for the first three-quarters of the
year, spreads widened substantially in the fourth quarter as the financial
problems throughout Asia developed. This fourth quarter setback was more than
offset by other factors impacting the high yield market.
The high yield market was very active again in 1997. More participants were
involved in the market both as purchasers and issuers. New issuance set a record
in 1997 with approximately $120 billion of new deals brought to market. This new
issue volume combined with historically low default rates, low inflation and a
strong economy has continued to make the high yield market attractive for
purchasers. Net inflows into mutual funds were over $21 billion in 1997. This in
spite of a market where many fixed income counterparts were seeing net outflows.
The High Yield Account maintains a B+ average quality comprised of BB and B
bonds. This is a relatively conservative risk position compared to other funds
in the high yield market. At the end of 1997 the Account was well diversified
among 63 bonds of various sectors. Managers continue with a bottoms-up approach
to security selection in both the primary and secondary market. The High Yield
Account continues to demonstrate how it is a worthwhile asset class that can
enhance overall portfolio diversification and returns.
Important Notes of the Income-Oriented Accounts:
Lehman Brothers, BAA Corporate Index: an unmanaged index of all publicly issued
fixed rate nonconvertible, dollar-denominated, SEC-registered corporate debt
rated Baa or BBB by Moody's or S&P.
Lipper Corporate Debt BBB Rated Funds Average: this average consists of mutual
funds investing at least 65% of their assets in corporate and government debt
issues rated by S&P or Moody's in the top four grades. The one year average on
December 31, 1997 contained 102 mutual funds.
Lehman Brothers High Yield Index: an unmanaged index of all publicly issued
fixed, dollar-denominated, SEC-registered corporate debt rated Ba1 or lower with
at least $100 million outstanding and one-year or more to maturity.
Lipper High Current Yield Fund Average: this average consists of mutual funds
investing in high (relative) current yield fixed income securities with no
quality or maturity restrictions. The mutual funds tend to invest in lower grade
debt issues. The one year average on December 31, 1997 contained 181 mutual
funds.
Note: Mutual fund data from Lipper Analytical Services, Inc.
DETERMINATION OF NET ASSET VALUE OF ACCOUNT SHARES
The net asset value of each Account's shares is determined daily, Monday
through Friday, as of the close of trading on the New York Stock Exchange,
except on days on which changes in the value of the Account's portfolio
securities will not materially affect the current net asset value of the
Account's redeemable securities, on days during which an Account receives no
order for the purchase or sale of its redeemable securities and no tender of
such a security for redemption, and on customary national business holidays. The
net asset value per share of each Account is determined by dividing the value of
the Account's securities plus all other assets, less all liabilities, by the
number of Account shares outstanding.
Growth-Oriented and Income-Oriented Accounts
The following valuation information applies to the Growth-Oriented and
Income-Oriented Accounts. Securities for which market quotations are readily
available are valued using those quotations. Other securities are valued by
using market quotations, prices provided by market makers or estimates of market
values obtained from yield data and other factors relating to instruments or
securities with similar characteristics in accordance with procedures
established in good faith by the Board of Directors. Securities with remaining
maturities of 60 days or less are valued at amortized cost when it is determined
by the Board that amortized cost reflects fair value. Other assets are valued at
fair value as determined in good faith by the Board of Directors of the Fund.
As previously described, some of the Accounts may purchase foreign
securities whose trading is substantially completed each day at various times
prior to the close of the New York Stock Exchange. The values of such securities
used in computing net asset value per share are usually determined as of such
times. Occasionally, events which affect the values of such securities and
foreign currency exchange rates may occur between the times at which they are
generally determined and the close of the New York Stock Exchange and would
therefore not be reflected in the computation of the Account's net asset value.
If events materially affecting the value of such securities occur during such
period, then these securities will be valued at their fair value as determined
in good faith by the Manager under procedures established and regularly reviewed
by the Board of Directors. To the extent the Account invests in foreign
securities listed on foreign exchanges which trade on days on which the Account
does not determine its net asset value, for example Saturdays and other
customary national U.S. Holidays, the Account's net asset value could be
significantly affected on days when shareholders have no access to the Account.
Money Market Account
The Money Market Account values its securities at amortized cost. For a
description of this calculation procedure see the Fund's Statement of Additional
Information.
PERFORMANCE CALCULATION
From time to time, the Accounts may publish advertisements containing
information (including graphs, charts, tables and examples) about the
performance of one or more of the Accounts. The Accounts' yield and total return
figures described below will vary depending upon market conditions, the
composition of the Accounts' portfolios and operating expenses. These factors
and possible differences in the methods used in calculating yield and total
return should be considered when comparing the Accounts' performance figures to
performance figures published for other investment vehicles. The Accounts may
also quote rankings, yields or returns as published by independent statistical
services or publishers, and information regarding the performance of certain
market indices. Any performance data quoted for the Accounts represents only
historical performance and is not intended to indicate future performance of the
Accounts. The calculation of average annual total return and yield for the
Accounts does not include fees and charges of the separate accounts that invest
in the Accounts and, therefore, does not reflect the investment performance of
those separate accounts. For further information on how the Accounts calculate
yield and total return figures, see the Statement of Additional Information.
Average Annual Total Return
Each Account may advertise its respective average annual total return.
Average annual total return for each Account is computed by calculating the
average annual compounded rate of return over the stated period that would
equate an initial $1,000 investment to the ending redeemable value assuming the
reinvestment of all dividends and capital gains distributions at net asset
value. The same assumptions are made when computing cumulative total return by
dividing the ending redeemable value by the initial investment. The Accounts may
also quote rankings, yields or returns as published by independent statistical
services or publishers, and information regarding the performance of certain
market indices.
Yield and Effective Yield
From time to time the Money Market Account may advertise its respective
yield and effective yield. The yield of the Account refers to the income
generated by an investment in the Account over a seven-day period. This income
is then annualized. That is, the amount of income generated by the investment
during that week is assumed to be generated each week over a 52-week period and
is shown as a percentage of the investment. The effective yield is calculated
similarly but, when annualized, the income earned by an investment in the
Account is assumed to be reinvested. The effective yield will be slightly higher
than the yield because of the compounding effect of this assumed reinvestment.
The yield for the Money Market Account will fluctuate daily as the income
earned on the investments of the Account fluctuates. Accordingly, there is no
assurance that the yield quoted on any given occasion will remain in effect for
any period of time. There is no guarantee that the net asset value or any stated
rate of return will remain constant. A shareholder's investment in the Account
is not insured. Investors comparing results of the Account with investment
results and yields from other sources such as banks or savings and loan
associations should understand these distinctions. Historical and comparative
yield information may, from time to time, be presented by the Account.
INCOME DIVIDENDS, DISTRIBUTIONS AND TAX STATUS
It is the policy of each Account to distribute substantially all net
investment income and net realized gains. Through such distributions, and by
satisfying certain other requirements, the Fund intends to qualify for the tax
treatment accorded to regulated investment companies under the applicable
provisions of the Internal Revenue Code. This means that in each year in which
the Fund so qualifies it will be exempt from federal income tax upon the amounts
so distributed to investors.
Any dividends from the net investment income of the Accounts (except the
Money Market Account) will normally be payable to the shareholders annually, and
any net realized gains will be distributed annually. All dividends and capital
gains distributions are applied to purchase additional Account shares at net
asset value as of the payment date without the imposition of any sales charge.
Each Account will notify shareholders of the portion of each distribution
which constitutes investment income or capital gain. In view of the complexity
of tax considerations, it is advisable for Eligible Purchasers considering the
purchase of shares of the Accounts to consult with tax advisors on the federal
and state tax aspects of their investments and redemptions.
Money Market Account
The Money Market Account declares dividends of all its daily net investment
income on each day the Account's net asset value per share is determined.
Dividends are payable daily and are automatically reinvested in full and
fractional shares of the Account at the then current net asset value unless a
shareholder requests payment in cash.
Net investment income, for dividend purposes, consists of (1) accrued
interest income plus or minus accrued discount or amortized premium; plus or
minus (2) all net short-term realized gains and losses; minus (3) all accrued
expenses of the Account. Expenses of the Account are accrued each day. Net
income will be calculated immediately prior to the determination of net asset
value per share of the Account.
Since the Account's policy is, under normal circumstances, to hold
portfolio securities to maturity and to value portfolio securities at amortized
cost, it does not expect any capital gains or losses. If the Account does
experience gains, however, it could result in an increase in dividends. Capital
losses could result in a decrease in dividends. If for some extraordinary reason
the Account realizes net long-term capital gains, it will distribute them once
every 12 months.
Since the net income of the Account (including realized gains and losses on
the portfolio securities) is declared as a dividend each time the net income of
the Account is determined, the net asset value per share of the Account normally
remains at $1.00 immediately after each determination and dividend declaration.
Any increase in the value of a shareholder's investment in the Account,
representing reinvestment of dividend income, is reflected by an increase in the
number of shares of the Account .
Normally the Account will have a positive net income at the time of each
determination thereof. Net income may be negative if an unexpected liability
must be accrued or a loss is realized. If the net income of the Account
determined at any time is a negative amount, the net asset value per share will
be reduced below $1.00. If this happens, the Account may endeavor to restore the
net asset value per share to $1.00 by reducing the number of outstanding shares
by redeeming proportionately from shareholders without the payment of any
monetary consideration, such number of full and fractional shares as is
necessary to maintain a net asset value per share of $1.00. Each shareholder
will be deemed to have agreed to such a redemption in these circumstances by
investing in the Account. The Account may seek to achieve the same objective of
restoring the net asset value per share to $1.00 by not declaring dividends from
net income on subsequent days until restoration, with the result that the net
asset value per share would increase to the extent of positive net income which
is not declared as a dividend, or any other method approved by the Board of
Directors.
The Board of Directors may revise the above dividend policy, or postpone
the payment of dividends, if the Account should have or anticipate any large
presently unexpected expense, loss or fluctuation in net assets which in the
opinion of the Board might have a significant adverse affect on shareholders.
ELIGIBLE PURCHASERS AND PURCHASE OF SHARES
Only Eligible Purchasers may purchase shares of the Accounts. Eligible
Purchasers are limited to (a) separate accounts of Principal Mutual Life
Insurance Company or of other insurance companies; (b) Principal Mutual Life
Insurance Company or any subsidiary or affiliate thereof; (c) trustees or other
managers of any qualified profit sharing, incentive or bonus plan established by
Principal Mutual Life Insurance Company or any subsidiary or affiliate thereof
for the employees of such company, subsidiary or affiliate. Such trustees or
managers may purchase Account shares only in their capacities as trustees or
managers and not for their personal accounts. The Board of Directors of each
Account reserves the right to broaden or limit the designation of Eligible
Purchasers.
The Balanced, Bond, Capital Value, MidCap and Money Market Accounts each
serve as an underlying investment medium for variable annuity contracts and
variable life insurance policies that are funded in separate accounts
established by Principal Mutual Life Insurance Company. It is conceivable that
in the future it may be disadvantageous for variable life insurance separate
accounts and variable annuity separate accounts to invest in the Accounts
simultaneously. Although neither Principal Mutual Life Insurance Company nor the
Accounts currently foresee any such disadvantages either to variable life
insurance policy owners or to variable annuity contract owners, the Board of
Directors intends to monitor events in order to identify any material conflicts
between such policy owners and contract owners and to determine what action, if
any, should be taken in response thereto. Such action could include the sale of
Account shares by one or more of the separate accounts, which could have adverse
consequences. Material conflicts could result from, for example, (1) changes in
state insurance laws, (2) changes in Federal income tax law, (3) changes in the
investment management of the Account, or (4) differences in voting instructions
between those given by policy owners and those given by contract owners.
Shares are purchased from Princor Financial Services Corporation, the
principal underwriter for the Fund. There are no sales charges on the Accounts'
shares. There are no restrictions on amounts to be invested in the Accounts'
shares.
Shareholder accounts for each Account will be maintained under an open
account system. Under this system, an account is automatically opened and
maintained for each new investor. Each investment is confirmed by sending the
investor a statement of account showing the current purchase and the total
number of shares then owned. The statement of account is treated by each Account
as evidence of ownership of Account shares in lieu of stock certificates. Stock
certificates will not be issued or delivered to investors. Certificates, which
can be stolen or lost, are unnecessary except for special purposes such as
collateral for a loan. Fractional interests in the Account's shares are
reflected to three decimal places in the statement of account.
If an offer to purchase shares is received by any of the Accounts before
the close of trading on the New York Stock Exchange, the shares will be issued
at the offering price (net asset value of Account shares) computed on that day.
If an offer is received after the close of trading or on a day which is not a
trading day, the shares will be issued at the offering price computed on the
first succeeding day on which a price is determined. Dividends on the Money
Market Account shares will be paid on the next day following the effective date
of a purchase order.
SHAREHOLDER RIGHTS
The following information is applicable to each Account of the Principal
Variable Contracts Fund, Inc. Each Account share is entitled to one vote either
in person or by proxy at all shareholder meetings for that Account. This
includes the right to vote on the election of directors, selection of
independent accountants and other matters submitted to meetings of shareholders
of the Account. Each share has equal rights with every other share as to
dividends, earnings, voting, assets and redemption. Shares are fully paid and
non-assessable, and have no preemptive or conversion rights. Shares may be
issued as full or fractional shares, and each fractional share has
proportionately the same rights, including voting, as are provided for a full
share. Shareholders of each of these Accounts may remove any director with or
without cause by the vote of a majority of the votes entitled to be cast at a
meeting of all Account shareholders.
The bylaws of the Fund provide that the Board of Directors of the Fund may
increase or decrease the aggregate number of shares which the Fund has authority
to issue without a shareholder vote.
The bylaws of the Fund also provide that the Fund need not hold an annual
meeting of shareholders in any year in which none of the following is required
to be acted on by shareholders under the Investment Company Act of 1940:
election of directors; approval of investment advisory agreement; ratification
of selection of independent public accountants; and approval of distribution
agreement. The Fund intends to hold shareholder meetings only when required by
law and at such other times as may be deemed appropriate by their respective
Boards of Directors.
Shareholder inquiries should be directed to the Principal Variable
Contracts Fund, Inc. at The Principal Financial Group, Des Moines, Iowa 50392.
NON-CUMULATIVE VOTING: The Fund's shares have non-cumulative voting rights
which means that the holders of more than 50% of the shares voting for the
election of directors of the Fund can elect 100% of the directors if they choose
to do so, and in such event, the holders of the remaining shares voting for the
election of directors will not be able to elect any directors.
Principal Mutual Life Insurance Company votes each Account's shares
allocated to each of its separate accounts registered under the Investment
Company Act of 1940 and attributable to variable annuity contracts or variable
life insurance policies participating therein in accordance with instructions
received from contract or policy holders, participants and annuitants. Other
shares of each Account held by each registered separate account, including those
for which no timely instructions are received, are voted in proportion to the
instructions that are received with respect to contracts or policies
participating in that separate account. Shares of each of the Accounts held in
the general account of Principal Mutual Life Insurance Company or in its
unregistered separate accounts are voted in proportion to the instructions that
are received with respect to contracts and policies participating in its
registered and unregistered separate accounts. If Principal Mutual determines
pursuant to applicable law that an Account's shares held in one or more separate
accounts or in its general account need not be voted pursuant to instructions
received with respect to participating contracts or policies, it then may vote
those Account shares in its own right.
REDEMPTION OF SHARES
Except for the third paragraph below, most of the following discussion of
redemption procedures is relevant only to Eligible Purchasers other than
variable annuity and variable life separate accounts of Principal Mutual Life
Insurance Company, and its wholly-owned subsidiaries.
Each Account will redeem its shares upon request. There is no charge for
redemption. A shareholder simply writes a letter to the appropriate Account
requesting redemption of any part or all of the shares. The letter must be
signed exactly as the account is registered. If payment is to be made to the
registered shareholder or joint shareholders, the Account will not require a
signature guarantee as a part of a proper endorsement; otherwise the
shareholder's signature must be guaranteed by either a commercial bank, trust
company, credit union, savings and loan association, national securities
exchange member, or by a brokerage firm. The price at which the shares are
redeemed will be the net asset value per share as next computed after the
request is received by the Account in proper and complete form. The amount
received for shares upon redemption may be more or less than the cost of such
shares depending upon the net asset value at the time of redemption.
Redemption proceeds will be sent within three business days after receipt
of request for redemption in proper form. However, each Account may suspend the
right of redemption during any period when (a) trading on the New York Stock
Exchange is restricted as determined by the Securities and Exchange Commission
or such Exchange is closed for other than weekends and holidays; (b) an
emergency exists, as determined by the Securities and Exchange Commission, as a
result of which (i) disposal by the Account of securities owned by it is not
reasonably practicable, or (ii) it is not reasonably practicable for the Account
fairly to determine the value of its net assets; or (c) the Commission by order
so permits for the protection of security holders of the Account. An Account
will redeem only those shares for which it has good payment. To avoid the
inconvenience of such a delay, shares may be purchased with a certified check,
bank cashier's check or money order. During the period prior to the time a
redemption from the Money Market Account is effective, dividends on such shares
will accrue and be payable and the shareholder will be entitled to exercise all
other rights of beneficial ownership.
Restricted Transfer: Shares of each of the Accounts may be transferred to
an Eligible Purchaser. However, whenever any of the Accounts is requested to
transfer shares to other than an Eligible Purchaser, the Account has the right
at its election to purchase such shares at their net asset value next effective
following the time at which the request for transfer is presented; provided,
however, that the Account must notify the transferee or transferees of such
shares in writing of its election to purchase such shares within seven (7) days
following the date of such request and settlement for such shares shall be made
within such seven-day period.
ADDITIONAL INFORMATION
Custodian: Bank of New York, 48 Wall Street, New York, New York 10286, is
custodian of the portfolio securities and cash assets of each of the Accounts.
The custodian performs no managerial or policymaking functions for the Accounts.
Organization and Share Ownership: Effective January 1, 1998, certain Funds
sponsored by Principal Mutual Life Insurance Company were reorganized into a
series of the Principal Variable Contracts Fund, Inc., a corporation
incorporated in the State of Maryland on May 27, 1997. The new series adopted
the assets and liabilities of the corresponding Fund. Those Funds were
incorporated in the state of Maryland on the following dates: Balanced Fund -
November 26, 1986; Bond Fund - November 26, 1986; Capital Accumulation Fund -
May 26, 1989 (effective November 1, 1989 succeeded to the business of a
predecessor Fund that had been incorporated in Delaware on February 6, 1969);
Emerging Growth Fund - February 20, 1987; High Yield Fund - December 2, 1986;
and Money Market Fund - June 10, 1982. Principal Mutual Life Insurance Company
owns 100% of each Fund's outstanding shares.
Capitalization: The authorized capital stock of each Account consists of
100,000,000 shares of common stock (500,000,000 for Money Market Account), $.01
par value.
Financial Statements: Copies of the financial statements of each Account
will be mailed to each shareholder of that Account semi-annually. At the close
of each fiscal year, each Account's financial statements will be audited by a
firm of independent auditors. The firm of Ernst & Young LLP has been appointed
to audit the financial statements of each Account for their respective present
fiscal years. Additional information about the performance of the Accounts is
contained in these Statements. Copies may be obtained free of charge from
Princor.
Registration Statement: This Prospectus omits some information contained in
the Statement of Additional Information (also known as Part B of the
Registration Statement) and Part C of the Registration Statements which the Fund
has filed with the Securities and Exchange Commission. The Fund's Statement of
Additional Information is hereby incorporated by reference into this Prospectus.
A copy of the Statement of Additional Information can be obtained upon request,
free of charge, by writing or telephoning the Fund. You may obtain a copy of
Part C of the Registration Statements filed with the Securities and Exchange
Commission, Washington, D.C., from the Commission upon payment of the prescribed
fees.
Principal Underwriter: Princor Financial Services Corporation, The
Principal Financial Group, Des Moines, Iowa 50392-0200, is the principal
underwriter for the Fund.
The Principal Variable Contracts Fund, Inc. described in this Prospectus is
a diversified, open-end management investment company offering a variety of
Accounts each of which was formerly a separately incorporated investment
company. Together, the Accounts provide the following range of investment
objectives:
Growth-Oriented Accounts
Balanced Account (formerly known as Principal Balanced Fund, Inc.) seeks to
generate a total return consisting of current income and capital appreciation
while assuming reasonable risks in furtherance of the investment objective.
Capital Value Account (formerly known as Principal Capital Accumulation Fund,
Inc.) seeks to achieve primarily long-term capital appreciation and secondary
growth of investment income through the purchase primarily of common stocks, but
the Account may invest in other securities.
Growth Account (formerly known as Principal Growth Fund, Inc.) seeks growth of
capital through the purchase primarily of common stocks, but the Account may
invest in other securities.
International Account (formerly known as Principal World Fund, Inc.) seeks
long-term growth of capital by investing in a portfolio of equity securities of
companies domiciled in any of the nations of the world.
MidCap Account (formerly known as Principal Emerging Growth Fund, Inc.) seeks to
achieve capital appreciation by investing primarily in securities of emerging
and other growth-oriented companies.
Income-Oriented Accounts
Bond Account (formerly known as Principal Bond Fund, Inc.) seeks to provide as
high a level of income as is consistent with preservation of capital and prudent
investment risk.
Government Securities Account (formerly known as Principal Government Securities
Fund, Inc.) seeks a high level of current income, liquidity and safety of
principal. The Account seeks to achieve its objective through the purchase of
obligations issued or guaranteed by the United States Government or its
agencies, with emphasis on Government National Mortgage Association Certificates
("GNMA Certificates"). Account shares are not guaranteed by the United States
Government.
Money Market Account
Money Market Account (formerly known as Principal Money Market Fund, Inc.) seeks
as high a level of income available from short-term securities as is considered
consistent with preservation of principal and maintenance of liquidity by
investing all of its assets in a portfolio of money market instruments.
An investment in the Money Market Account is neither insured nor guaranteed
by the U.S. Government. There can be no assurance the Money Market Account will
be able to maintain a stable net asset value of $1.00 per share.
This Prospectus concisely states information about the Principal Variable
Contracts Fund, Inc. that an investor ought to know before investing. It should
be read and retained for future reference.
Additional information about the Fund has been filed with the Securities
and Exchange Commission, including a document called Statement of Additional
Information, dated May 1, 1998. The Statement of Additional Information is
incorporated by reference into this Prospectus. A copy of the Statement of
Additional Information can be obtained free of charge by writing or telephoning:
Principal Variable Contracts Fund, Inc.
The Principal Financial Group
Des Moines, IA 50392
Telephone 1-800-247-4123
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
The Date of this Prospectus is May 1, 1998.
TABLE OF CONTENTS
Page
Summary .............................................................. 3
Financial Highlights................................................... 4
Investment Objectives, Policies and Restrictions....................... 10
Certain Investment Policies and Restrictions........................... 16
Manager and Sub-Advisor .............................................. 18
Duties Performed by the Manager and Sub-Advisor........................ 19
Managers' Comments..................................................... 20
Determination of Net Asset Value of Account Shares..................... 24
Performance Calculation................................................ 25
Income Dividends, Distributions and Tax Status......................... 25
Eligible Purchasers and Purchase of Shares............................. 26
Shareholder Rights .................................................... 27
Redemption of Shares................................................... 27
Additional Information................................................. 28
This Prospectus does not constitute an offer to sell, or a solicitation of
an offer to buy, shares of the Account in any jurisdiction in which such sale,
offer to sell, or solicitation may not be lawfully made. No dealer, salesperson,
or other person has been authorized to give any information or to make any
representations, other than those contained in this Prospectus, in connection
with the offer contained in this Prospectus, and, if given or made, such other
information or representations must not be relied upon as having been authorized
by the Fund or the Fund's Manager.
SUMMARY
The following summarized information should be read in conjunction with the
detailed information appearing elsewhere in this Prospectus.
The Principal Variable Contracts Fund, Inc. is an open-end diversified
management investment company offering multiple Accounts.
Who may purchase shares of the Accounts?
Shares of the Accounts are available only to Eligible Purchasers which are
limited to: (a) separate accounts of Principal Mutual Life Insurance Company or
of other insurance companies; (b) Principal Mutual Life Insurance Company or any
subsidiary or affiliate thereof; (c) trustees or other managers of any qualified
profit sharing, incentive or bonus plan established by Principal Mutual Life
Insurance Company or any subsidiary or affiliate thereof for the employees of
such company, subsidiary or affiliate. The Board of Directors of the Fund
reserves the right to broaden or limit the designation of Eligible Purchasers.
What do the Accounts offer investors?
Professional Investment Management: Experienced securities analysts provide
each Account with professional investment management.
Diversification: Each Account will diversify by investing in securities
issued by a number of issuers doing business in a variety of industries and/or
located in different geographical regions. Diversification reduces investment
risk.
Economies of Scale: Pooling individual shareholder's investments in any of
the Accounts creates administrative efficiencies.
Redeemability: Upon request each Account will redeem its shares and
promptly pay the investor the current net asset value of the shares redeemed.
See Redemption of Shares.
What are the Accounts' investment objectives?
Growth-Oriented Accounts
The investment objective of the Balanced Account is to seek to generate a
total return consisting of current income and capital appreciation while
assuming reasonable risks in furtherance of this objective.
The primary investment objective of the Capital Value Account is long-term
capital appreciation and its secondary investment objective is growth of
investment income. The Account seeks to achieve its investment objectives
through the purchase primarily of common stocks, but the Account may invest in
other securities.
The investment objective of the Growth Account is growth of capital. The
Account seeks to achieve its objective through the purchase primarily of common
stocks, but the Account may invest in other securities.
The investment objective of the International Account is to seek long-term
growth of capital by investing in a portfolio of equity securities domiciled in
any of the nations of the world.
The investment objective of the MidCap Account is to achieve capital
appreciation by investing primarily in securities of emerging and other
growth-oriented companies.
Income-Oriented Accounts
The investment objective of the Bond Account is to provide as high a level
of income as is consistent with preservation of capital and prudent investment
risk.
The investment objective of the Government Securities Account is to seek a
high level of current income, liquidity and safety of principal. The Account
seeks to achieve its objective through the purchase of obligations issued or
guaranteed by the United States Government or its agencies, with emphasis on
Government National Mortgage Association Certificates ("GNMA Certificates").
Account shares are not guaranteed by the United States Government.
Money Market Account
The investment objective of the Money Market Account is to seek as high a
level of current income available from short-term securities as is considered
consistent with preservation of principal and maintenance of liquidity by
investing all of its assets in a portfolio of money market instruments.
There can be no assurance that the investment objectives of any of the
Accounts will be realized. See Investment Objectives, Policies and Restrictions.
Who serves as Manager for the Accounts?
Principal Management Corporation (formerly known as Princor Management
Corporation) ("Manager"), a corporation organized in 1969 by Principal Mutual
Life Insurance Company, is the Manager for each of the Accounts. It is also the
dividend disbursing and transfer agent for the Fund. In order to provide
investment advisory services for the Balanced, Capital Value, Government
Securities, Growth, International and MidCap Accounts the Manager has executed
sub-advisory agreements with Invista Capital Management, Inc. ("Invista" or
"Sub-Advisor"). See Manager and Sub-Advisor.
What fees and expenses apply to ownership of shares of the Accounts?
The following table depicts fees and expenses applicable to the purchase
and ownership of shares of each of the Accounts.
ANNUAL ACCOUNT OPERATING EXPENSES
(As a Percentage of Average Net Assets)
Management Other Total Operating
Account Fee Expenses Expenses
------- ---------- -------- ---------------
Balanced Account .59% .02% .61%
Bond Account .50% .02% .52%
Capital Value Account .46% .01% .47%
Government Securities Account .50% .02% .52%
Growth Account .49% .01% .50%
International Account .74% .13% .87%
MidCap Account .62% .02% .64%
Money Market Account .50% .05% .55%
EXAMPLE
You would pay the following expenses on a $1,000 investment, assuming (1)
5% annual return and (2) redemption at the end of each time period:
Period (in years)
----------------------------------
Account 1 3 5 10
------- -- --- --- ----
Balanced Account $6 $20 $34 $76
Bond Account $5 $17 $29 $65
Capital Value Account $5 $15 $26 $59
Government Securities Account $5 $17 $29 $65
Growth Account $5 $16 $28 $63
International Account $9 $28 $48 $107
MidCap Account $7 $20 $36 $80
Money Market Account $6 $18 $31 $69
This Example is based on the Annual Account Operating expenses for each
Account described above. Please remember that the Example should not be
considered a representation of past or future expenses and that actual
expenses may be greater or less than shown.
The purpose of the above table is to assist you in understanding the
various expenses that an investor in the Accounts will bear directly or
indirectly. See Duties Performed by the Manager and Sub-Advisor.
FINANCIAL HIGHLIGHTS
The following financial highlights are derived from financial statements
which, for the five years in the period ended December 31, 1997, have been
audited by Ernst & Young LLP, independent auditors, whose report has been
incorporated by reference herein. The financial highlights should be read in
conjunction with the financial statements, related notes, and other financial
information incorporated by reference herein. Audited financial statements may
be obtained by shareholders, without charge, by telephoning 1-800-451-5447. See
page 9 for the Notes to Financial Highlights.
<TABLE>
<CAPTION>
For a Share Outstanding Throughout the Year Ended December 31,
(except as noted)
BALANCED ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c)1988(c)(d)
- ---------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............ $14.44 $13.97 $11.95 $12.77 $12.58 $12.93 $11.33 $10.79 $11.89 $11.75 $10.00
Income from Investment Operations:
Net Investment Income........... .46 .40 .45 .37 .42 .23 .47 .54 .60 .62 .27
Net Realized and Unrealized
Gain (Loss) on Investments.... 2.11 1.41 2.44 (.64) .95 .75 1.61 .59 (.48) .30 1.51
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 2.57 1.81 2.89 (.27) 1.37 .98 2.08 1.13 .12 .92 1.78
Less Dividends and Distributions:
Dividends from
Net Investment Income........ (.45) (.40) (.45) (.37) (.42) (.47) (.48) (.57) (.63) (.55) (.03)
Distributions from Capital Gains (1.05) (.94) (.42) (.18) (.76) (.86) - (.02) (.59) (.23) -
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (1.50) (1.34) (.87) (.55) (1.18) (1.33) (.48) (.59) (1.22) (.78) (.03)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $15.51 $14.44 $13.97 $11.95 $12.77 $12.58 $12.93 $11.33 $10.79 $11.89 $11.75
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== =========
Total Return....................... 17.93% 13.13% 24.58% (2.09)% 11.06% 8.00%(e) 18.78% 11.36% .87% 8.55% 17.70%(e)
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== =========
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................$133,827 $93,158 $45,403 $25,043 $21,399 $18,842 $17,344 $14,555 $13,016 $12,751 $11,469
Ratio of Expenses to
Average Net Assets............ .61% .63% .66% .69% .69% .73%(f) .72% .73% .74% .74% .80%(f)
Ratio of Net Investment Income
to Average Net Assets......... 3.26% 3.45% 4.12% 3.42% 3.30% 3.71%(f) 3.80% 5.27% 5.52% 5.55% 4.96%(f)
Portfolio Turnover Rate......... 69.7% 22.6% 25.7% 31.5% 15.8% 38.4%(f) 26.6% 27.1% 33.1% 29.3% 41.7%(f)
Average Commission Rate......... $.0394 $.0417 N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
BOND ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c) 1988(c)(d)
- ------------ ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $11.33 $11.73 $10.12 $11.16 $10.77 $11.08 $10.64 $10.72 $10.92 $10.68 $10.00
Income from Investment Operations:
Net Investment Income........... .76 .68 .62 .72 .88 .45 .91 .94 .95 1.15 .32
Net Realized and Unrealized
Gain (Loss) on Investments.... .44 (.40) 1.62 (1.04) .38 .13 .46 (.06) (.21) .17 .40
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 1.20 .28 2.24 (.32) 1.26 .58 1.37 .88 .74 1.32 .72
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.75) (.68) (.63) (.72) (.87) (.89) (.93) (.96) (.94) (.96) (.04)
Distributions from Capital Gains - - - - - - - - - (.12) -
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (.75) (.68) (.63) (.72) (.87) (.89) (.93) (.96) (.94) (1.08) (.04)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $11.78 $11.33 $11.73 $10.12 $11.16 $10.77 $11.08 $10.64 $10.72 $10.92 $10.68
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== ========
Total Return....................... 10.60% 2.36% 22.17% (2.90)% 11.67% 5.33%(e) 13.57% 8.94% 7.15% 13.51% 6.06%(e)
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== ========
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................ $81,921 $63,387 $35,878 $17,108 $14,387 $12,790 $12,024 $10,552 $9,658 $9,007 $17,598
Ratio of Expenses to
Average Net Assets............ .52% .53% .56% .58% .59% .62%(f) .62% .63% .64% .64% .58%(f)
Ratio of Net Investment Income
to Average Net Assets......... 6.85% 7.00% 7.28% 7.86% 7.57% 8.10%(f) 8.47% 9.17% 9.09% 9.18% 8.11%(f)
Portfolio Turnover Rate......... 7.3% 1.7% 5.9% 18.2% 14.0% 6.7%(f) 6.1% 2.7% 0.0% 12.2% 68.8%(f)
Average Commission Rate......... N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
For a Share Outstanding Throughout the Year Ended December 31,
(except as noted)
CAPITAL VALUE ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c) 1988(c)
- --------------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $29.84 $27.80 $23.44 $24.61 $25.19 $26.03 $23.35 $22.48 $23.63 $23.23 $27.51
Income from Investment Operations:
Net Investment Income........... .68 .57 .60 .62 .61 .31 .65 .74 .79 .77 .60
Net Realized and Unrealized
Gain (Loss) on Investments.... 7.52 5.82 6.69 (.49) 1.32 1.84 2.70 1.22 .14 1.32 (1.50)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 8.20 6.39 7.29 .13 1.93 2.15 3.35 1.96 .93 2.09 (.90)
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.67) (.58) (.60) (.61) (.60) (.64) (.67) (.79) (.81) (.68) (.69)
Distributions from Capital Gains (2.76) (3.77) (2.33) (.69) (1.91) (2.35) - (.30) (1.27) (1.01) (2.69)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (3.43) (4.35) (2.93) (1.30) (2.51) (2.99) (.67) (1.09) (2.08) (1.69) (3.38)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $34.61 $29.84 $27.80 $23.44 $24.61 $25.19 $26.03 $23.35 $22.48 $23.63 $23.23
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== =======
Total Return....................... 28.53% 23.50% 31.91% .49% 7.79% 8.81%(e) 14.53% 9.46% 3.94% 10.02% (2.67)%
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== =======
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................$285,231 $205,019 $135,640 $120,572 $128,515 $105,355 $94,596 $76,537 $74,008 $68,132 $62,696
Ratio of Expenses to
Average Net Assets............ .47% .49% .51% .51% .51% .55%(f) .54% .53% .56% .57% .60%
Ratio of Net Investment Income
to Average Net Assets......... 2.13% 2.06% 2.25% 2.36% 2.49% 2.56%(f) 2.65% 3.53% 3.56% 3.53% 2.76%
Portfolio Turnover Rate......... 23.4% 48.5% 49.2% 44.5% 25.8% 39.7%(f) 34.8% 14.0% 30.2% 23.5% 26.7%
Average Commission Rate......... $.0451 $.0426 N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
GOVERNMENT SECURITIES
- ---------------------
ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c) 1988(c)
- ------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $10.31 $10.55 $9.38 $10.61 $10.28 $10.93 $10.24 $10.05 $10.05 $9.37 $9.47
Income from Investment Operations:
Net Investment Income........... .66 .59 .60 .76 .71 .40 .80 .80 .78 .80 .78
Net Realized and Unrealized
Gain (Loss) on Investments.... .41 (.24) 1.18 (1.24) .33 .04 .71 .24 - .34 (.09)
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 1.07 .35 1.78 (.48) 1.04 .44 1.51 1.04 .78 1.14 .69
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.66) (.59) (.61) (.75) (.71) (.78) (.81) (.81) (.78) (.46) (.79)
Distributions from Capital Gains - - - - - - - - - - -
Excess Distributions from
Capital Gains(f) ............. - - - - - (.31) (.01) (.04) - - -
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (.66) (.59) (.61) (.75) (.71) (1.09) (.82) (.85) (.78) (.46) (.79)
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $10.72 $10.31 $10.55 $9.38 $10.61 $10.28 $10.93 $10.24 $10.05 $10.05 $9.37
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== ======
Total Return....................... 10.39% 3.35% 19.07% (4.53)% 10.07% 4.10%(d) 15.34% 10.94% 8.16% 12.61% 7.69%
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== ======
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................ $94,322 $85,100 $50,079 $36,121 $36,659 $31,760 $33,022 $26,021 $21,488 $15,890 $12,902
Ratio of Expenses to
Average Net Assets............ .52% .52% .55% .56% .55% .59%(e) .58% .59% .61% .63% .66%
Ratio of Net Investment Income
to Average Net Assets......... 6.37% 6.46% 6.73% 7.05% 7.07% 7.35%(e) 7.84% 8.31% 8.48% 8.68% 8.47%
Portfolio Turnover Rate......... 9.0% 8.4% 9.8% 23.2% 20.4% 34.5%(e) 38.9% 4.2% 18.7% 3.7% 2.7%
Average Commission Rate......... N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
GROWTH ACCOUNT(a) 1997 1996 1995 1994(h)
- -------------- ---- ---- ---- ----
Net Asset Value,
Beginning of Period.................... $13.79 $12.43 $10.10 $9.60
Income from Investment Operations:
Net Investment Income.................. .18 .16 .17 .07
Net Realized and Unrealized
Gain (Loss) on Investments........... 3.53 1.39 2.42 .51
----- ----- ----- -----
Total from Investment Operations 3.71 1.55 2.59 .58
Less Dividends and Distributions:
Dividends from
Net Investment Income................ (.18) (.16) (.17) (.08)
Distributions from Capital Gains....... (.10) (.03) (.09) -
Excess Distributions from Capital Gains(g) (.01) - - -
----- ----- ----- -----
Total Dividends and Distributions (.29) (.19) (.26) (.08)
----- ----- ----- -----
Net Asset Value,
End of Period.......................... $17.21 $13.79 $12.43 $10.10
====== ====== ====== ========
Total Return.............................. 26.96% 12.51% 25.62% 5.42%(e)
====== ====== ====== ========
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)....................... $168,160 $99,612 $42,708 $13,086
Ratio of Expenses to
Average Net Assets................... .50% .52% .58% .75%(f)
Ratio of Net Investment Income
to Average Net Assets................ 1.34% 1.61% 2.08% 2.39%(f)
Portfolio Turnover Rate................ 15.4% 2.0% 6.9% 0.9%(f)
Average Commission Rate................ $.0366 $.0401 N/A N/A
INTERNATIONAL ACCOUNT(a) 1997 1996 1995 1994(h)
- --------------------- ---- ---- ---- ----
Net Asset Value,
Beginning of Period.................... $13.02 $10.72 $9.56 $9.94
Income from Investment Operations:
Net Investment Income.................. .23 .22 .19 .03
Net Realized and Unrealized
Gain (Loss) on Investments........... 1.35 2.46 1.16 (.33)
----- ----- ----- -----
Total from Investment Operations 1.58 2.68 1.35 (.30)
Less Dividends and Distributions:
Dividends from
Net Investment Income................ (.23) (.22) (.18) (.05)
Total Return of Capital Dividends...... (.02) - - -
Excess Distributions from
Net Investment Income(g)............. - - - (.02)
Distributions from Capital Gains....... (.45) (.16) (.01) (.01)
----- ----- ----- -----
Total Dividends and Distributions (.70) (.38) (.19) (.08)
----- ----- ----- -----
Net Asset Value,
End of Period.......................... $13.90 $13.02 $10.72 $9.56
====== ====== ====== ==========
Total Return.............................. 12.24% 25.09% 14.17% (3.37)%(e)
====== ====== ====== ==========
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)....................... $125,289 $71,682 $30,566 $13,746
Ratio of Expenses to
Average Net Assets................... .87% .90% .95% 1.24%(f)
Ratio of Net Investment Income
to Average Net Assets................ 1.92% 2.28% 2.26% 1.31%(f)
Portfolio Turnover Rate................ 22.7% 12.5% 15.6% 14.4%(f)
Average Commission Rate................ $.0199 $.0120 N/A N/A
<TABLE>
<CAPTION>
For a Share Outstanding Throughout the Year Ended December 31,
(except as noted)
MIDCAP ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c)1988(c)(d)
- -------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $29.74 $25.33 $19.97 $20.79 $18.91 $15.97 $13.93 $14.25 $13.35 $12.85 $10.00
Income from Investment Operations:
Net Investment Income........... .24 .22 .22 .14 .17 .10 .21 .20 .24 .16 .05
Net Realized and Unrealized
Gain (Loss) on Investments.... 6.48 5.07 5.57 .03 3.47 3.09 2.04 .50 .87 1.35 2.83
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 6.72 5.29 5.79 .17 3.64 3.19 2.25 .70 1.11 1.51 2.88
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.23) (.22) (.22) (.14) (.17) (.21) (.21) (.23) (.20) (.11) (.03)
Distributions from Capital Gains (.76) (.66) (.21) (.85) (1.59) (.04) - (.79) (.01) (.90) -
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (.99) (.88) (.43) (.99) (1.76) (.25) (.21) (1.02) (.21) (1.01) (.03)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $35.47 $29.74 $25.33 $19.97 $20.79 $18.91 $15.97 $13.93 $14.25 $13.35 $12.85
====== ====== ====== ====== ====== ========= ====== ====== ====== ====== =========
Total Return....................... 22.75% 21.11% 29.01% .78% 19.28% 20.12%(e) 16.19% 5.72% 8.32% 13.08% 28.72%(e)
====== ====== ====== ====== ====== ========= ====== ====== ====== ====== =========
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................$224,630 $137,161 $58,520 $23,912 $12,188 $9,693 $7,829 $6,579 $6,067 $5,509 $4,857
Ratio of Expenses to
Average Net Assets............ .64% .66% .70% .74% .78% .81%(f) .82% .89% .88% .90% .94%(f)
Ratio of Net Investment Income
to Average Net Assets......... .79% 1.07% 1.23% 1.15% .89% 1.24%(f) 1.33% 1.70% 1.74% 1.31% .64%(f)
Portfolio Turnover Rate......... 7.8% 8.8% 13.1% 12.0% 22.4% 8.6%(f) 10.1% 11.1% 17.9% 21.4% 4.6%(f)
Average Commission Rate......... $.0371 $.0379 N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
MONEY MARKET ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c) 1988(c)
- -------------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000
Income from Investment Operations:
Net Investment Income........... .051 .049 .054 .037 .027 .016 .046 .070 .077 .083 .064
Net Realized and Unrealized
Gain (Loss) on Investments.... - - - - - - - - - - -
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations .051 .049 .054 .037 .027 .016 .046 .070 .077 .083 .064
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.051) (.049) (.054) (.037) (.027) (.016) (.046) (.070) (.077) (.083) (.064)
Distributions from Capital Gains - - - - - - - - - - -
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (.051) (.049) (.054) (.037) (.027) (.016) (.046) (.070) (.077) (.083) (.064)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== ======
Total Return....................... 5.04% 5.07% 5.59% 3.76% 2.69% 1.54%(e) 4.64% 7.20% 8.37% 8.59% 6.61%
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== ======
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................ $47,315 $46,244 $32,670 $29,372 $22,753 $27,680 $25,194 $26,509 $26,588 $20,707 $14,571
Ratio of Expenses to
Average Net Assets............ .55% .56% .58% .60% .60% .59%(f) .57% .56% .57% .61% .64%
Ratio of Net Investment Income
to Average Net Assets......... 5.12% 5.00% 5.32% 3.81% 2.64% 3.10%(f) 4.54% 6.94% 8.05% 8.40% 6.39%
Portfolio Turnover Rate......... N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
Average Commission Rate......... N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
Notes to Financial Highlights
(a) Effective January 1, 1998, the following Fund names were changed:
Principal Balanced Fund, Inc. became Balanced Account
Principal Bond Fund, Inc. became Bond Account
Principal Capital Accumulation Fund, Inc. became Capital Value Account
Principal Emerging Growth Fund, Inc. became MidCap Account
Principal Government Securities Fund, Inc. became Government
Securities Account
Principal Growth Fund, Inc. became Growth Account
Principal Money Market Fund, Inc. became Money Market Account
Principal World Fund, Inc. became International Account
(b) Effective July 1, 1992 the Account changed its fiscal year end from June 30
to December 31. This column represents the period July 1, 1992 to December 31,
1992.
(c) Fiscal year end June 30.
(d) Period from December 18, 1987, date shares first offered to eligible
purchasers, through June 30, 1988. Net investment income aggregating $.01
per share for the period from the initial purchase of shares on December
10, 1987 through December 17, 1987 was recognized, all of which was
distributed to the Account's sole stockholder, Principal Mutual Life
Insurance Company. This represented activity of the Account prior to the
initial offering of shares to eligible purchasers.
(e) Total return amounts have not been annualized.
(f) Computed on an annualized basis.
(g) Due to the timing of dividend distributions and the differences in
accounting for income and realized gains (losses) for financial statement
and federal income tax purposes, the fiscal year in which amounts are
distributed may differ from the year in which the income and realized gains
(losses) are recorded for financial statement purposes by the fund. The
differences between the income and gains distributed on a book versus tax
basis are shown in the Financial Highlights as excess distributions from
net investment income and from capital gains.
(h) Period from May 1, 1994, date shares first offered to the public, through
December 31, 1994. Net investment income, aggregating $.01 per share for
the Growth Account and $.04 per share for the International Account for the
period from the initial purchase of shares on March 23, 1994 through April
30, 1994, was recognized, none of which was distributed to the sole
stockholder, Principal Mutual Life Insurance Company, during the period.
Additionally, the Growth Account and the International Account incurred
unrealized losses on investments of $.41 and $.10 per share, respectively,
during the initial interim period. This represented activities of each
Account prior to the initial public offering of Account shares.
INVESTMENT OBJECTIVES, POLICIES AND RESTRICTIONS
The investment objectives and policies of each Account are described below.
There can be no assurance that the objectives of the Accounts will be realized.
GROWTH-ORIENTED ACCOUNTS
The Fund includes four Accounts which seek capital appreciation through
investments in equity securities (Capital Value, Growth, International and
MidCap Accounts) and one Account which seeks a total investment return including
both capital appreciation and income through investments in equity and debt
securities (Balanced Account). These five Accounts are collectively referred to
as the Growth-Oriented Accounts.
The Growth-Oriented Accounts may invest in the following equity securities:
common stocks; preferred stocks and debt securities that are convertible into
common stock, that carry rights or warrants to purchase common stock or that
carry rights to participate in earnings; rights or warrants to subscribe to or
purchase any of the foregoing securities; and American Depository Receipts based
on any of the foregoing securities. The Capital Value, Growth, International and
MidCap Accounts will seek to be fully invested under normal conditions in equity
securities. When, in the opinion of the Manager or Sub-Advisor, current market
or economic conditions warrant, a Growth-Oriented Account may for temporary
defensive purposes place all or a portion of its assets in cash, on which the
Account would earn no income, cash equivalents, bank certificates of deposit,
bankers acceptances, repurchase agreements, commercial paper, commercial paper
master notes which are floating rate debt instruments without a fixed maturity,
United States Government securities, and preferred stocks and debt securities,
whether or not convertible into or carrying rights for common stock. A
Growth-Oriented Account may also maintain reasonable amounts in cash or
short-term debt securities for daily cash management purposes or pending
selection of particular long-term investments.
Balanced Account
The investment objective of Balanced Account is to generate a total return
consisting of current income and capital appreciation while assuming reasonable
risks in furtherance of the investment objective. The term "reasonable risks"
refers to investment decisions that in the judgment of the Sub-Advisor, Invista,
do not present a greater than normal risk of loss in light of current or
anticipated future market and economic conditions, trends in yields and interest
rates, and fiscal and monetary policies.
In seeking to achieve the investment objective, the Account invests
primarily in growth and income-oriented common stocks (including securities
convertible into common stocks), corporate bonds and debentures and short-term
money market instruments. The Account may also invest in other equity
securities, and in debt securities issued or guaranteed by the United States
Government and its agencies or instrumentalities. The Account seeks to generate
real (inflation plus) growth during favorable investment periods and may
emphasize income and capital preservation strategies during uncertain investment
periods. The Sub-Advisor will seek to minimize declines in the net asset value
per share. However, there is no guarantee that the Sub-Advisor will be
successful in achieving this goal.
The portions of the Account's total assets invested in equity securities,
debt securities and short-term money market instruments are not fixed, although
ordinarily 40% to 70% of the Account's portfolio will be invested in equity
securities with the balance of the portfolio invested in debt securities. The
investment mix will vary from time to time depending upon the judgment of the
Sub-Advisor as to general market and economic conditions, trends in investment
yields and interest rates and changes in fiscal or monetary policies.
The Account may invest in all types of common stocks and other equity
investments, without regard to any objective investment criteria such as size of
the issue or issuer, exchange listing or seasoning. The Account may invest in
both exchange-listed and over-the-counter securities, in small or large
companies, and in well-established or unseasoned companies. Also, the Account's
investments in corporate bonds and debentures and money market instruments are
not restricted by credit ratings or other objective investment criteria, except
with respect to bank certificates of deposit as set forth below. Some of the
fixed income securities in which the Account may invest may be considered to
include speculative characteristics and the Account may purchase such securities
that are in default but does not currently intend to invest more than 5% of its
assets in securities rated below BBB by Standard & Poor's or Baa by Moody's. See
Certain Investment Policies and Restrictions - Below Investment-Grade Bonds for
a discussion of the risks associated with these securities. The rating services'
descriptions of BBB or Baa securities are as follows: Moody's Investors Service,
Inc. Bond Ratings -- Baa: Bonds which are rated Baa are considered as medium
grade obligations, i.e., they are neither highly protected nor poorly secured.
Interest payments and principal security appear adequate for the present but
certain protective elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack outstanding investment
characteristics and in fact have speculative characteristics as well. Standard &
Poor's Corporation Bond Ratings -- 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. The Account will not concentrate its investments in any industry.
In selecting common stocks, the Sub-Advisor seeks companies which it
believes have predictable earnings increases and which, based on their future
growth prospects, may be currently undervalued in the market place. During
periods when the Sub-Advisor determines that general economic conditions are
favorable, it will generally purchase common stocks with the objective of
long-term capital appreciation. From time to time, and in periods of economic
uncertainty, the Sub-Advisor may purchase common stocks with the expectation of
price appreciation over a relatively short period of time.
To achieve its investment objective, the Account may at times emphasize the
generation of interest income by investing in short, medium or long-term debt
securities. Investment in debt securities may also be made with a view to
realizing capital appreciation when the Manager believes that declining interest
rates may increase market values. The Account may also purchase "deep discount
bonds," i.e., bonds which are selling at a substantial discount from their face
amount, with a view to realizing capital appreciation.
The short-term money market investments in which the Account may invest
include the following: U.S. Treasury bills, bank certificates of deposit,
bankers' acceptances, repurchase agreements, commercial paper and commercial
paper master notes which are floating rate debt instruments without a fixed
maturity. The Account will only invest in domestic bank certificates of deposit
issued by banks which are members of the Federal Reserve System that have total
deposits in excess of $1 billion.
The United States government securities in which the Account may invest
include U.S. Treasury obligations and obligations of certain agencies, such as
the Government National Mortgage Association, which are supported by the full
faith and credit of the United States, as well as obligations of certain other
Federal agencies or instrumentalities, such as the Federal National Mortgage
Association, Federal Land Banks and the Federal Farm Credit Administration,
which are backed only by the right of the issuer to borrow limited funds from
the U.S. Treasury, by the discretionary authority of the U.S. Government to
purchase such obligations or by the credit of the agency or instrumentality
itself.
Capital Value Account
The primary objective of Capital Value Account is long-term capital
appreciation. A secondary objective is growth of investment income.
The Account will invest primarily in common stocks, but it may invest in
other securities. In making selections for the Account's investment portfolio,
the Sub-Advisor, Invista, will use an approach described broadly as that of
fundamental analysis, which is discussed in the Statement of Additional
Information. To achieve the investment objective, Invista will invest in
securities that have "value" characteristics. This process is known as "value
investing." Value investing is purchasing securities of companies with above
average dividend yields and below average price to earnings (P/E) ratios.
Securities chosen for investment may include those of companies which Invista
believes can reasonably be expected to share in the growth of the nation's
economy over the long term.
Growth Account
The objective of Growth Account is growth of capital. Realization of
current income will be incidental to the objective of growth of capital.
The Account will invest primarily in common stocks, but it may invest in
other equity securities. In making selections for the Account's investment
portfolio, the Sub-Advisor, Invista, will use an approach described broadly as
that of fundamental analysis, which is discussed in the Statement of Additional
Information. In pursuit of the Account's investment objective, investments will
be made in securities which as a group appear to possess potential for
appreciation in market value. Common stocks chosen for investment may include
those of companies which have a record of sales and earnings growth that exceeds
the growth rate of corporate profits of the S&P 500 or which offer new products
or new services. The policy of investing in securities which have a high
potential for growth of capital can mean that the assets of the Account may be
subject to greater risk than securities which do not have such potential.
International Account
The investment objective of International Account is to seek long-term
growth of capital through investment in a portfolio of equity securities of
companies domiciled in any of the nations of the world. In choosing investments
in equity securities of foreign and United States corporations, the Sub-Advisor,
Invista, intends to pay particular attention to long-term earnings prospects and
the relationship of then-current prices to such prospects. Short-term trading is
not generally intended, but occasional investments may be made for the purpose
of seeking short-term or medium-term gain. The Account expects its investment
objective to be met over long periods which may include several market cycles.
For a description of certain investment risks associated with foreign
securities, see Certain Investment Policies and Restrictions - Foreign
Securities.
For temporary defensive purposes, the International Account may invest in
the same kinds of securities as the other Growth-Oriented Accounts whether
issued by domestic or foreign corporations, governments, or governmental
agencies, instrumentalities or political subdivisions and whether denominated in
United States dollars or some other currency.
The Account intends that its investments normally will be allocated among
various countries. Although there is no limitation on the percentage of assets
that may be invested in any one country or denominated in any one currency, the
Account intends under normal market conditions to have at least 65% of its
assets invested in securities issued by corporations of at least five countries,
one of which may be the United States (although the Account currently intends
not to invest in equity securities of United States companies). Investments may
be made anywhere in the world, but it is expected that primary consideration
will be given to investing in the securities issued by corporations of Western
Europe, North America and Australasia (Australia, Japan and Far East Asia) that
have developed economies. Changes in investments may be made as prospects change
for particular countries, industries or companies.
MidCap Account
The objective of MidCap Account is to achieve capital appreciation. The
strategy of this Account is to invest primarily in the common stocks and
securities (both debt and preferred stock) convertible into common stocks of
emerging and other growth-oriented companies that, in the judgment of the
Manager, are responsive to changes within the marketplace and have the
fundamental characteristics to support growth. In pursuing its objective of
capital appreciation, the MidCap Account may invest, for any period of time, in
any industry, in any kind of growth-oriented company, whether new and unseasoned
or well known and established. Under normal market conditions, the Account will
invest at least 65% of its assets in securities of companies with market
capitalizations in the $1 billion to $10 billion range. The Account may invest
up to 10% of its assets in securities of foreign issuers. For a description of
certain investment risks associated with foreign securities, see Certain
Investment Policies and Restrictions Foreign Securities.
There can be, of course, no assurance that the Account will attain its
objective. Investment in emerging and other growth-oriented companies may
involve greater risk than investment in other companies. The securities of
growth-oriented companies may be subject to more abrupt or erratic market
movements, and many of them may have limited product lines, markets, financial
resources or management. Because of these factors and of the length of time that
may be required for full development of the growth prospects of some of the
companies in which the Account invests, the Account believes that its shares are
suitable only for persons who are prepared to experience above-average
fluctuations in net asset value, to assume above-average investment risk in
search of above-average return, and to consider the Account as a long-term
investment and not as a vehicle for seeking short-term profits. Moreover, since
the Account will not be seeking current income, investors should not view a
purchase of Account shares as a complete investment program.
INCOME-ORIENTED ACCOUNTS
The Fund currently include two Accounts which seek a high level of income
through investments in fixed-income securities (Bond Account and Government
Securities Account) collectively referred to as the "Income-Oriented Accounts."
An investment in either of the Income-Oriented Accounts involves market risks
associated with movements in interest rates. The market value of the Accounts'
investments will fluctuate in response to changes in interest rates and other
factors. During periods of falling interest rates, the values of outstanding
long-term fixed-income securities generally rise. Conversely, during periods of
rising interest rates, the values of such securities generally decline. Changes
by recognized rating agencies in their ratings of any fixed-income security and
in the ability of an issuer to make payments of interest and principal may also
affect the value of these investments. Changes in the value of portfolio
securities will affect the Accounts' net asset values but will not affect cash
income derived from the securities unless a change results from a failure of an
issuer to pay interest or principal when due. Each Account's rating limitations
apply at the time of acquisition of a security, and any subsequent change in a
rating by a rating service will not require elimination of a security from the
Account's portfolio. The Statement of Additional Information contains
descriptions of ratings of Moody's Investors Service, Inc. ("Moody's") and
Standard and Poor's Corporation ("S&P").
Bond Account
The investment objective of the Bond Account is to provide as high a level
of income as is consistent with preservation of capital and prudent investment
risk.
In seeking to achieve the investment objective, the Account will
predominantly invest in marketable fixed-income securities. Investments will be
made generally on a long-term basis, but the Account may make short-term
investments from time to time as deemed prudent by the Manager. Longer
maturities typically provide better yields but will subject the Account to a
greater possibility of substantial changes in the values of its portfolio
securities as interest rates change.
Under normal circumstances, the Account will invest at least 65% of its
assets, exclusive of cash items, in one or more of the following kinds of
securities: (i) corporate debt securities and taxable municipal obligations,
which at the time of purchase have an investment grade rating within the four
highest grades used by Standard & Poor's Corporation (AAA, AA, A or BBB) or by
Moody's Investors Service, Inc. (Aaa, Aa, A or Baa) or which, if lower-rated or
nonrated, are comparable in quality in the opinion of the Account's Manager;
(ii) similar Canadian corporate, Provincial and Federal Government securities
payable in U.S. funds; and (iii) securities issued or guaranteed by the United
States Government or its agencies or instrumentalities. The balance of the
Account's assets may be invested in other fixed income securities, including
domestic and foreign corporate debt securities or preferred stocks, in common
stocks that provide returns that compare favorably with the yields on fixed
income investments, and in common stocks acquired upon conversion of debt
securities or preferred stocks or upon exercise of warrants acquired with debt
securities or otherwise and foreign government securities. The debt securities
and preferred stocks in which the Account invests may be convertible or
non-convertible. The Account does not intend to purchase debt securities rated
lower than Ba3 by Moody's or BB - by S&P (bonds which are judged to have
speculative elements; their future cannot be considered as well-assured). See
Certain Investment Policies and Restrictions - Below Investment-Grade Bonds for
a discussion of the risks associated with these securities. The rating services'
descriptions of BBB or Baa securities are as follows: Moody's Investors Service,
Inc. Bond Ratings -- Baa: Bonds which are rated Baa are considered as medium
grade obligations, i.e., they are neither highly protected nor poorly secured.
Interest payments and principal security appear adequate for the present but
certain protective elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack outstanding investment
characteristics and in fact have speculative characteristics as well. Standard &
Poor's Corporation Bond Ratings -- 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.
Cash equivalents in which the Account invests include corporate commercial
paper rated A-1+, A-1 or A-2 by Standard & Poor's or P-1 or P-2 by Moody's,
unrated commercial paper issued by corporations with outstanding debt securities
rated in the four highest grades by Standard & Poor's and Moody's and bank
certificates of deposit and bankers' acceptances issued or guaranteed by
national or state banks and repurchase agreements considered by the Account to
have investment quality. Under unusual market or economic conditions, the
Account may for temporary defense purposes invest up to 100% of its assets in
cash or cash equivalents.
Government Securities Account
The objective of Government Securities Account is a high level of current
income, liquidity and safety of principal.
The Account will invest in obligations issued or guaranteed by the United
States Government or by its agencies or instrumentalities and in repurchase
agreements collateralized by such obligations. Such securities include
Government National Mortgage Association ("GNMA") Certificates of the modified
pass-through type, Federal National Mortgage Association ("FNMA") Obligations,
Federal Home Loan Mortgage Corporation ("FHLMC") Certificates and Student Loan
Marketing Association ("SLMA") Certificates and other U.S. Government
Securities. GNMA is a wholly-owned corporate instrumentality of the United
States whose securities and guarantees are backed by the full faith and credit
of the United States. FNMA, a federally chartered and privately-owned
corporation, FHLMC, a federal corporation, and SLMA, a government sponsored
stockholder-owned organization, are instrumentalities of the United States. The
securities and guarantees of FNMA, FHLMC and SLMA are not backed, directly or
indirectly, by the full faith and credit of the United States. Although the
Secretary of the Treasury of the United States has discretionary authority to
lend FNMA up to $2.25 billion outstanding at any time, neither the United States
nor any agency thereof is obligated to finance FNMA's or FHLMC's operations or
to assist FNMA or FHLMC in any other manner. The Account may maintain reasonable
amounts of cash or short-term debt securities for daily cash management purposes
or pending selection of particular long-term investments.
Cash equivalents in which the Account invests include corporate commercial
paper rated A-1+, A-1 or A-2 by S&P or P-1 or P-2 by Moody's, unrated commercial
paper issued by corporations with outstanding debt securities rated in the four
highest grades by S&P and Moody's and bank certificates of deposit and bankers'
acceptances issued or guaranteed by national or state banks and repurchase
agreements considered by the Account to have investment quality.
Depending on market conditions, up to 55% of the assets may be invested in
GNMA Certificates. GNMA Certificates are mortgage-backed securities representing
an interest in a pool of mortgage loans. Such loans are made by lenders such as
mortgage bankers, insurance companies, commercial banks and savings and loan
associations. Then, they are either insured by the Federal Housing
Administration (FHA) or they are guaranteed by the Veterans Administration (VA)
or Farmers Home Administration (FmHA). The lender or other prospective issuer
creates a specific pool of such mortgages, which it submits to GNMA for
approval. After approval, a GNMA Certificate is typically offered by the issuer
to investors through securities dealers.
GNMA Certificates differ from bonds in that the principal is scheduled to
be paid back by the borrower on a monthly basis over the life of the loan rather
than returned in a lump sum at maturity. Modified pass-through GNMA
certificates, which are the only kind in which the Account intends to invest,
entitle the holder to receive all interest and principal payments owed on the
mortgages in the pool (net of the issuer and GNMA fee of .5% prescribed by
regulation), regardless of whether or not the mortgagor has made such payment.
The timely payment of interest and principal is guaranteed by the full faith and
credit of the United States Government.
Although the payment of interest and principal is guaranteed, the guarantee
does not extend to the value of a GNMA Certificate or the value of the shares of
the Account. The market value of a GNMA Certificate typically will fluctuate to
reflect changes in prevailing interest rates. It falls when rates increase (as
does the market value of other debt securities) and it rises when rates decline
(but it may not rise on a comparable basis with other debt securities because of
its prepayment feature). Therefore, the market value may be more or less than
the face amount of the GNMA Certificate, which reflects the aggregate principal
amount of the underlying mortgages. As a result, the net asset value of Account
shares will fluctuate as interest rates change.
Mortgagors may pay off their mortgages at any time. Expected prepayments of
the mortgages can affect the market value of the GNMA Certificate, and actual
prepayments can affect the return ultimately received. Prepayments, like
scheduled payments of principal, are reinvested by the Account at prevailing
interest rates which may be less than the rate on the GNMA Certificate.
Prepayments are likely to increase as the interest rate for new mortgages moves
lower than the rate on the GNMA Certificate. Moreover, if the GNMA Certificate
had been purchased at a premium above principal because its rate exceeded
prevailing rates, the premium is not guaranteed and a decline in value to par
may result in a loss of the premium especially in the event of prepayment.
To the extent deemed appropriate by the Account's Sub-Advisor, Invista, the
Account intends to purchase GNMA Certificates directly from Principal Mutual
Life Insurance Company and other issuers as well as from securities dealers. The
Account will purchase directly from issuers only if it can obtain a price
advantage by not paying the commission or mark-up that would be required if the
Certificates were purchased from a securities dealer. The Securities and
Exchange Commission has issued an order under the Investment Company Act of 1940
that permits the Account to purchase GNMA Certificates directly from Principal
Mutual Life Insurance Company subject to certain conditions.
The FNMA and FHLMC securities in which the Account invests are very similar
to GNMA certificates as described above but are not guaranteed by the full faith
and credit of the United States but rather by the agency itself. FNMA and FHLMC
securities are rated Aaa by Moody's and AAA by Standard & Poor's. These ratings
reflect the status of FNMA and FHLMC as federal agencies as well as the
important role each plays in financing purchases of homes in the U.S.
Student Loan Marketing Association is a government sponsored
stockholder-owned organization whose goal is to provide liquidity to financial
and educational institutions. SLMA provides liquidity by purchasing student
loans, which are principally government guaranteed loans issued under the
Federal Guaranteed Student Loan Program and the Health Education Assistance Loan
Program. SLMA securities are not guaranteed by the U.S. Government but are
obligations solely of the agency. SLMA senior debt issues in which the Account
invests are rated AAA by Standard & Poor's and Aaa by Moody's.
There are other obligations issued or guaranteed by the United States
Government (such as U.S. Treasury securities) or by its agencies or
instrumentalities that are either supported by the full faith and credit of the
U.S. Treasury or the credit of a particular agency or instrumentality. Included
in the latter category are Federal Home Loan Bank and Farm Credit Banks.
Obligations not guaranteed by the United States Government are highly rated
because they are issued by indirect branches of government. Such paper is issued
as needs arise by the agency and is traded regularly in denominations similar to
those in which government obligations are traded.
The Account will not engage in the trading of securities for the purpose of
realizing short-term profits, but it will adjust its portfolio as considered
advisable in view of prevailing or anticipated market conditions and the
Account's investment objective. Accordingly, the Account may sell portfolio
securities in anticipation of a rise in interest rates and purchase securities
for inclusion in its portfolio in anticipation of a decline in interest rates.
As a hedge against changes in interest rates, the Account may enter into
contracts with dealers in GNMA Certificates whereby the Account agrees to
purchase or sell an agreed-upon principal amount of GNMA Certificates at a
specified price on a certain date. The Account may enter into similar purchase
agreements with issuers of GNMA Certificates other than Principal Mutual Life
Insurance Company. The Account may also purchase optional delivery standby
commitments which give the Account the right to sell particular GNMA
Certificates at a specified price on a specified date. Failure of the other
party to such a contract or commitment to abide by the terms thereof could
result in a loss to the Account. To the extent the Account engages in delayed
delivery transactions it will do so for the purpose of acquiring portfolio
securities consistent with its investment objective and policies and not for the
purpose of investment leverage or to speculate on interest rate changes.
Liability accrues to the Account at the time it becomes obligated to purchase
such securities, although delivery and payment occur at a later date. From the
time the Account becomes obligated to purchase securities on a delayed delivery
basis the Account has all the rights and risks attendant to the ownership of a
security. At the time the Account enters into a binding obligation to purchase
such securities, Account assets of a dollar amount sufficient to make payment
for the securities to be purchased will be segregated. The availability of
liquid assets for this purpose and the effect of asset segregation on the
Account's ability to meet its current obligations, to honor requests for
redemption and to have its investment portfolio managed properly will limit the
extent to which the Account may engage in forward commitment agreements. Except
as may be imposed by these factors, there is no limit on the percent of the
Account's total assets that may be committed to transactions in such agreements.
MONEY MARKET ACCOUNT
The Fund also includes an Account which invests primarily in short-term
securities, the Money Market Account. Securities in which the Money Market
Account will invest may not yield as high a level of current income as
securities of low quality and longer maturities which generally have less
liquidity, greater market risk and more fluctuation.
The Money Market Account will limit its portfolio investments to United
States dollar denominated instruments that the board of directors determines
present minimal credit risks and which are at the time of acquisition "Eligible
Securities" as that term is defined in regulations issued under the Investment
Company Act of 1940. Eligible Securities include:
(1) A security with the remaining maturity of 397 days or less that is
rated (or that has been issued by an issuer that is rated in respect to
a class of short-term debt obligations, or any security within that
class, that is comparable in priority and security with the security)
by a nationally recognized statistical rating organization in one of
the two highest rating categories for short-term debt obligations; or
(2) A security that at the time of issuance was a long-term security that
has a remaining maturity of 397 calendar days or less, and whose issuer
has received from a nationally recognized statistical rating
organization a rating, with respect to a class of short-term debt
obligations (or any security within that class) that is now comparable
in priority and security with the security, in one of the two highest
rating categories for short-term debt obligations; or
(3) An unrated security that is of comparable quality to a security meeting
the requirements of (1) or (2) above, as determined by the board of
directors.
The Account will not invest more than 5% of its total assets in the
following securities:
(1) Securities which, when acquired by the Account (either initially or
upon any subsequent rollover), are rated below the highest rating
category for short-term debt obligations;
(2) Securities which, at the time of issuance were long-term securities but
when acquired by the Account have a remaining maturity of 397 calendar
days or less, if the issuer of such securities is rated, with respect
to a class of comparable short-term debt obligations, below the highest
rating category for short-term obligations;
(3) Securities which are unrated but are determined by the Account's board
of directors to be of comparable quality to securities rated below the
highest rating category for short-term debt obligations. The Account
will maintain a dollar-weighted average portfolio maturity of 90 days
or less.
The objective of the Money Market Account is to seek as high a level of
current income available from short-term securities as is considered consistent
with preservation of principal and maintenance of liquidity by investing its
assets in a portfolio of money market instruments. These money market
instruments are U.S. Government Securities, U.S. Government Agency Securities,
Bank Obligations, Commercial Paper, Short-term Corporate Debt and Repurchase
Agreements, which are described briefly below and in more detail in the
Statement of Additional Information.
U.S. Government Securities are securities issued or guaranteed by the U.S.
Government, including treasury bills, notes and bonds.
U.S. Government Agency Securities are obligations issued or guaranteed by
agencies or instrumentalities of the U.S. Government whether supported by the
full faith and credit of the U.S. Treasury or only by the credit of a particular
agency or instrumentality.
Bank Obligations consist of certificates of deposit which are generally
negotiable certificates issued against funds deposited in a commercial bank for
a definite period of time and earning a specified return and bankers acceptances
which are time drafts drawn on a commercial bank by a borrower, usually in
connection with international commercial transactions.
Commercial Paper is short-term promissory notes issued by corporations
primarily to finance short-term credit needs.
Short-term Corporate Debt consists of notes, bonds or debentures which at
the time of purchase have one year or less remaining to maturity.
Repurchase Agreements are transactions under which securities are purchased
from a bank or securities dealer with an agreement by the seller to repurchase
the securities at the same price plus interest at a specified rate. Generally,
Repurchase Agreements are of short duration, usually less than a week but on
occasion for longer periods.
The Account intends to hold its investments until maturity, but may on
occasion trade securities to take advantage of market variations. Also, revised
valuations of an issuer or redemptions may result in sales of portfolio
investments prior to maturity or at times when such sales might otherwise not be
desirable. The Account's right to borrow to facilitate redemptions may reduce
the need for such sales. It is the Account's policy to be as fully invested as
reasonably practical at all times to maximize current income.
Since portfolio assets will consist of short-term instruments, replacement
of portfolio securities will occur frequently. However, since the Account
expects to usually transact purchases and sales of portfolio securities with
issuers or dealers on a net basis, it is not anticipated that the Account will
pay any significant brokerage commissions. The Account is free to dispose of
portfolio securities at any time, when changes in circumstances or conditions
make such a move desirable in light of the investment objective.
A shareholder's rate of return will vary with the general interest rate
levels applicable to the money market instruments in which the Account invests.
The rate of return and the net asset value will be affected by such other
factors as sales of portfolio securities prior to maturity and the Account's
operating expenses.
CERTAIN INVESTMENT POLICIES AND RESTRICTIONS
Following is a discussion of certain investment practices that the Accounts
may use in an effort to achieve their respective investment objectives.
Diversification
Each Account is subject to the diversification requirements of Section
817(h) of the Internal Revenue Code (the "Code") which must be met at the end of
each quarter of the year (or within 30 days thereafter). Regulations issued by
the Secretary of the Treasury have the effect of requiring each Account to
invest no more than 55% of its total assets in securities of any one issuer, no
more than 70% in the securities of any two issuers, no more than 80% in the
securities of any three issuers, and no more than 90% in the securities of any
four issuers. For this purpose, the United States Treasury and each U.S.
Government agency and instrumentality is considered to be a separate issuer.
Thus, the Government Securities Account intends to invest in U.S. Treasury
securities and in securities issued by at least four U.S. Government agencies or
instrumentalities in the amounts necessary to meet those diversification
requirements at the end of each quarter of the year (or within thirty days
thereafter).
In the event any of the Accounts do not meet the diversification
requirements of Section 817(h) of the Code, the contracts funded by shares of
the Accounts will not be treated as annuities or life insurance for Federal
income tax purposes and the owners of the Accounts will be subject to taxation
on their share of the dividends and distributions paid by the Accounts.
Foreign Securities
Each of the following Accounts has adopted investment restrictions that
limit its investments in foreign securities to the indicated percentage of its
assets: International Account - 100%; `Bond and Capital Value Accounts - 20%;
Balanced, Growth and MidCap Accounts - 10%. Debt securities issued in the United
States pursuant to a registration statement filed with the Securities and
Exchange Commission are not considered "foreign securities" for purposes of this
investment limitation. Investment in foreign securities presents certain risks
including those resulting from fluctuations in currency exchange rates,
revaluation of currencies, the imposition of foreign taxes, future political and
economic developments including war, expropriations, nationalization, the
possible imposition of currency exchange controls and other foreign governmental
laws or restrictions, reduced availability of public information concerning
issuers, and the fact that foreign issuers are not generally subject to uniform
accounting, auditing and financial reporting standards or to other regulatory
practices and requirements comparable to those applicable to domestic issuers.
Moreover, securities of many foreign issuers may be less liquid and their prices
more volatile than those of comparable domestic issuers. In addition,
transactions in foreign securities may be subject to higher costs, and the time
for settlement of transactions in foreign securities may be longer than the
settlement period for domestic issuers. An Accounts investment in foreign
securities may also result in higher custodial costs and the costs associated
with currency conversions.
Currency Contracts
The International Account may enter into forward currency contracts,
currency futures contracts and options thereon and options on currencies for
hedging and other non-speculative purposes. A forward currency contract involves
a privately negotiated obligation to purchase or sell a specific currency at a
future date at a price set at the time of the contract. The Account will not
enter into a transaction to hedge currency exposure to an extent greater in
effect than the aggregate market value of the securities held or to be purchased
by the Account that are denominated or generally quoted in or currently
convertible into the currency. When the Account enters into a contract to buy or
sell a foreign currency, it generally will hold an amount of that currency,
liquid securities denominated in that currency or a forward contract for such
securities equal to the Account's obligation, or it will segregate liquid high
grade debt obligations equal to the amount of the Account's obligations. The use
of currency contracts involves many of the same risks as transactions in futures
contracts and options as well as the risk of government action through exchange
controls or otherwise that would restrict the ability of the Account to deliver
or receive currency.
Repurchase Agreements and Securities Loans
Each of the Accounts may enter into repurchase agreements with, and each of
the Accounts, except the Capital Value and Money Market Accounts, may lend its
portfolio securities to, unaffiliated broker-dealers and other unaffiliated
qualified financial institutions. These transactions must be fully
collateralized at all times, but involve some credit risk to the Account if the
other party should default on its obligations, and the Account is delayed or
prevented from recovering on the collateral. See the Fund's Statement of
Additional Information for further information regarding the credit risks
associated with repurchase agreements and the standards adopted by the Fund's
Board of Directors to deal with those risks. None of the Accounts intend either
(i) to enter into repurchase agreements that mature in more than seven days if
any such investment, together with any other illiquid securities held by the
Account, would amount to more than 10% of its total assets or (ii) to loan
securities in excess of 30% of its total assets.
Forward Commitments
From time to time, each of the Accounts may enter into forward commitment
agreements which call for the Accounts to purchase or sell a security on a
future date and at a price fixed at the time the Account enters into the
agreement. Each of the Accounts may also acquire rights to sell its investments
to other parties, either on demand or at specific intervals.
Warrants
Each of the Accounts, except the Money Market and Government Securities
Accounts, may invest in warrants up to 5% of its assets, of which not more than
2% may be invested in warrants that are not listed on the New York or American
Stock Exchange. For the International Account, the 2% limitation also does not
apply to warrants listed on the Toronto Stock Exchange or the Chicago Board
Options Exchange.
Borrowing
As a matter of fundamental policy, each Account may borrow money only for
temporary or emergency purposes. The Balanced, Bond, Capital Value and Money
Market Accounts may borrow only from banks. Further, each may borrow only in an
amount not exceeding 5% of its assets, except the Capital Value Account which
may borrow only in an amount not exceeding the lesser of (i) 5% of the value of
its assets less liabilities other than such borrowings, or (ii) 10% of its
assets taken at cost at the time the borrowing is made, and the Money Market
Account which may borrow only in an amount not exceeding the lesser of (i) 5% of
the value of its assets, or (ii) 10% of the value of its net assets taken at
cost at the time the borrowing is made.
Options
The Balanced, Bond, Government Securities, Growth, International, and
MidCap Accounts may each purchase covered spread options, which would give the
Account the right to sell a security that it owns at a fixed dollar spread or
yield spread in relationship to another security that the Account does not own,
but which is used as a benchmark. These same Accounts may also purchase and sell
financial futures contracts, options on financial futures contracts and options
on securities and securities indices, but will not invest more than 5% of their
assets in the purchase of options on securities, securities indices and
financial futures contracts or in initial margin and premiums on financial
futures contracts and options thereon. The Accounts may write options on
securities and securities indices to generate additional revenue and for hedging
purposes and may enter into transactions in financial futures contracts and
options on those contracts for hedging purposes.
Below Investment Grade Bonds
Below investment-grade bonds are securities rated Ba1 or lower by Moody's
Investors Service, Inc. ("Moody's") or BB+ or lower by Standard & Poor's
Corporation ("S&P") or unrated securities which the Account's Manager or
Sub-Advisor believes are of comparable quality. These securities are regarded,
on balance, as predominantly speculative with respect to the issuer's capacity
to pay interest and to repay principal in accordance with the terms of the
obligation. The Accounts do not intend to invest in securities rated lower than
Ba3 by Moody's or BB by S&P. The Bond Account may not invest more than 35% of
its assets in such securities. The Balanced Account does not intend to invest
more than 5% of its assets in such securities.
The rating services' descriptions of below investment grade securities
rating categories in which the Accounts may normally invest are as follows:
Moody's Investors Service, Inc. Bond Ratings - Ba: Bonds which are rated Ba
are judged to have speculative elements; their future cannot be considered as
well-assured. Often the protection of interest and principal payments may be
very moderate and thereby not well safeguarded during both good and bad times
over the future. Uncertainty of position characterizes bonds in this class.
Moody's may apply numerical modifiers, 1, 2 and 3 in each generic rating
classification from Aa through Ba in its bond rating system. The modifier 1
indicates that the security ranks in the high end of its generic rating
category; the modifier 2 indicates a mid-range ranking; and a modifier 3
indicates that the issue ranks in the lower end of its generic rating category.
Standard & Poor's Corporation Bond Ratings - BB: Debt rated "BB" 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. While such debt will likely
have some quality and protective characteristics, these are outweighed by large
uncertainties or major risk exposures to adverse conditions.
Plus (+) or Minus (-): The "BB" rating may be modified by the addition of a
plus or minus sign to show relative standing within the major rating categories.
Below investment-grade securities present special risks to investors. The
market value of lower-rated securities may be more volatile than that of
higher-rated securities and generally tends to reflect the market's perception
of the creditworthiness of the issuer and short-term market developments to a
greater extent than more highly rated securities, which reflect primarily
fluctuations in general levels of interest rates. Periods of economic
uncertainty and change can be expected to result in increased volatility in the
market value of lower-rated securities. Further, such securities may be subject
to greater risks of loss of income and principal, particularly in the event of
adverse economic changes or increased interest rates, because their issuers
generally are not as financially secure or as creditworthy as issuers of
higher-rated securities. Additionally, to the extent that there is not a
national market system for secondary trading of lower-rated securities, there
may be a low volume of trading in such securities which may make it more
difficult to value or sell those securities than higher-rated securities.
Adverse publicity and investor perceptions, whether or not based on fundamental
analysis, may decrease the values and liquidity of high yield securities,
especially in a thinly traded market.
Investors should recognize that the market for below investment-grade
securities is a relatively recent development that has not been tested by an
economic recession. An economic downturn may severely disrupt the market for
such securities and cause financial stress to the issuers which may adversely
affect the value of the securities held by the Accounts and the ability of the
issuers of the securities held by the Accounts to pay principal and interest. A
default by an issuer may result in an Account incurring additional expenses to
seek recovery of the amounts due it.
Some of the securities in which the Accounts invest may contain call
provisions. If the issuer of such a security exercises a call provision in a
declining interest rate market, the Account would have to replace the security
with a lower-yielding security, resulting in a decreased return for investors.
Further, a higher-yielding security's value will decrease in a rising interest
rate market, which will be reflected in the Account's net asset value per share.
The Statement of Additional Information includes further information
concerning the Accounts' investment policies and applicable investment
restrictions. Each Account's investment objective and certain investment
restrictions designated as such in this Prospectus or the Statement of
Additional Information are fundamental policies that may not be changed without
shareholder approval. All other investment policies described in the Prospectus
and the Statement of Additional Information for an Account are not fundamental
and may be changed by the Board of Directors of the Fund without shareholder
approval.
MANAGER AND SUB-ADVISOR
The Manager for the Fund is Principal Management Corporation (the
"Manager"), an indirectly wholly-owned subsidiary of Principal Mutual Life
Insurance Company, a mutual life insurance company organized in 1879 under the
laws of the State of Iowa. The address of the Manager is The Principal Financial
Group, Des Moines, Iowa 50392. The Manager was organized on January 10, 1969,
and since that time has managed various mutual funds sponsored by Principal
Mutual Life Insurance Company. As of December 31, 1997, the Manager served as
investment advisor for 30 such funds with assets totaling approximately $5.3
billion.
The Manager has executed an agreement with Invista Capital Management, Inc.
("Invista") under which Invista has agreed to assume the obligations of the
Manager to provide investment advisory services for the Balanced, Capital Value,
Government Securities, Growth, International and MidCap Accounts. The Manager
will reimburse Invista for the cost of providing these services. Invista, an
indirectly wholly-owned subsidiary of Principal Mutual Life Insurance company
and an affiliate of the Manager, was founded in 1985 and manages investments for
institutional investors, including Principal Mutual Life. Assets under
management at December 31, 1997 were approximately $26 billion. Invista's
address is 1800 Hub Tower, 699 Walnut, Des Moines, Iowa 50309.
The Manager or Invista has assigned certain individuals the primary
responsibility for the day-to-day management of each Account's portfolio. The
persons primarily responsible for the day-to-day management of each Account are
identified below:
<TABLE>
<CAPTION>
Primarily
Account Responsible Since Person Primarily Responsible
------- ----------------- ----------------------------
<S> <C> <C>
Balanced April, 1993 Judith A. Vogel, CFA (BA degree, Central College). Vice President, Invista
Capital Management, Inc. Co-Manager since December, 1997: Martin J. Schafer
(BBA degree, University of Iowa). Vice President,
Invista Capital Management, Inc.
Bond November, 1996 Scott A. Bennett, CFA (MBA degree, University of Iowa) Assistant
Director Investment Securities, Principal Mutual Life Insurance Company since
1996. Prior thereto, Investment Manager.
Capital Value November, 1996 Catherine A. Green, CFA, (MBA degree, Drake University). Vice President,
Invista Capital Management, Inc.
Government Securities April, 1987 Martin J. Schafer (BBA degree, University of Iowa). Vice President, Invista
(Account's inception) Capital Management, Inc.
Growth and MidCap May, 1994 Michael R. Hamilton, (BMBA degree, Bellarmine College). Vice President,
(Account's inception) Invista Capital Management, Inc.
and December, 1987
(Account's inception),
respectively
International April, 1994 Scott D. Opsal, CFA (MBA degree, University of Minnesota). Executive Vice
President, Invista Capital Management, Inc. since 1997; Vice President,
1986-1997.
</TABLE>
DUTIES PERFORMED BY THE MANAGER AND SUB-ADVISOR
Under Maryland law, the business and affairs of the Fund are managed under
the direction of its Board of Directors. The investment services and certain
other services referred to under the heading "Cost of Manager's Services" in the
Statement of Additional Information are furnished to the Fund under the terms of
a Management Agreement between the Fund and the Manager and, for some of the
Accounts, a Sub-Advisory Agreement between the Manager and Invista. The Manager,
or Invista, advises the Accounts on investment policies and on the composition
of the Accounts' portfolios. In this connection, the Manager, or Invista,
furnishes to the Board of Directors of the Fund a recommended investment program
consistent with the Account's investment objective and policies. The Manager, or
Invista, is authorized, within the scope of the approved investment program, to
determine which securities are to be bought or sold, and in what amounts.
The Fund and the Manager have filed an application with the Securities and
Exchange Commission seeking an exemptive order that would permit the Manager to
appoint a Sub-Advisor or change a subadvisory agreement without approval by
shareholders. If the SEC issues the requested order, the Fund would be able to
change Sub-Advisors or the fees paid to Sub-Advisors from time to time without
the expense and delays associated with obtaining shareholder approval of the
change. The order would not permit the Manager to appoint a Sub-Advisor that is
an affiliate of the Manager or the Fund (other than by reason of serving as
Sub-Advisor to a portfolio) (an "Affiliated Sub-Advisor") or to change a
subadvisory fee of an Affiliated Sub-Advisor without the approval of
shareholders. Currently, Invista is an Affiliated Sub-Advisor. There is no
assurance that the SEC will grant the requested ruling.
The Fund would not rely on the requested SEC order as to any Account until
the operation of that Account in the manner described in the application is
approved by (1) contract owners who have allocated assets to that Account, or
(2) in the case of a new Account, the Account's sold initial shareholder before
the Account is made available to contract owners.
Each Account pays for certain corporate expenses incurred in its operation.
Among such expenses, the Account pays brokerage commissions on portfolio
transactions, transfer taxes and other charges and fees attributable to
investment transactions, any other local, state or federal taxes, fees and
expenses of all directors of the Fund who are not persons affiliated with the
Manager, interest, fees for Custodian of the Account, and the cost of meetings
of shareholders.
The compensation paid by each Account to the Manager for the fiscal year
ended December 31, 1997 was, on an annual basis, equal to the following
percentage of average net assets:
Total
Manager's Annualized
Account Fee Expenses
------- --------- ----------
Balanced Account .59% .61%
Bond Account .50% .52%
Capital Value Account .46% .47%
Government Securities Account .50% .52%
Growth Account .49% .50%
International Account .74% .87%
MidCap Account .62% .64%
Money Market Account .50% .55%
The Manager's Fee shown above includes a fee paid to the Account's
Sub-Advisor, if any. Fees paid to Sub-Advisors for the fiscal year ended
December 31, 1997 were as follows: Balanced - .06%; Capital Value - .06%;
Government Securities - .03%; Growth - .06%; International - .09% and MidCap -
.06%. The compensation being paid by the International Account for investment
management services is higher than that paid by most funds to their advisor, but
it is not higher than the fees paid by many funds with similar investment
objectives and policies.
The Manager and Sub-Advisor may purchase at their own expense statistical
and other information or services from outside sources, including Principal
Mutual Life Insurance Company. An Investment Service Agreement between the
Manager, Principal Mutual Life Insurance Company and the Fund, provides that
Principal Mutual Life Insurance Company will furnish certain personnel, services
and facilities required by the Manager in connection with its performance of the
Management Agreements, and that the Manager will reimburse Principal Mutual Life
Insurance Company for its costs incurred in this regard.
The Accounts may from time to time execute transactions for portfolio
securities with, and pay related brokerage commissions to Principal Financial
Securities, Inc., a broker-dealer that is an affiliate of the Distributor and
Manager for the Fund.
The Manager serves as investment advisor, dividend disbursing agent and,
directly and through an affiliate, as transfer agent for each of the Funds
sponsored by Principal Mutual Life Insurance Company.
MANAGERS' COMMENTS
Principal Management Corporation and Invista are staffed with investment
professionals who manage each individual Account. Comments by these individuals
in the following paragraphs summarize in capsule form the general strategy and
results of each Account through 1997. The accompanying graphs display results
for the past 10 years or the life of the Account, whichever is shorter. Average
Annual Total Return figures provided for each Account in the graphs below
reflect all expenses of the Account and assume all distributions are reinvested
at net asset value. The figures do not reflect expenses of the variable life
insurance contracts or variable annuity contracts that purchase Account shares;
performance figures for the divisions of the contracts would be lower than
performance figures for the Accounts due to the additional contract expenses.
Past performance is not predictive of future performance. Returns and net asset
values fluctuate. Shares are redeemable at current net asset value, which may be
more or less than original cost.
The various indices included in the graphs below are unmanaged and do not
reflect any commissions or fees which would be incurred by an investor
purchasing the securities included in the index. Investors cannot invest
directly into these or any indices.
Growth-Oriented Accounts
Balanced Account
(Judith A. Vogel)
Total Returns *
As of December 31, 1997
---------------------------------------------------
1 Year 5 Year 10 Year
17.93% 12.57% 12.96%
Comparison of Change in Value of $10,000 Investment in the
Balanced Account, S&P 500, Lehman Brothers Government/Corporate
Bond Index and Lipper Balanced Fund Average
---------------------------------------------------------------
Lipper Lehman
Year Ended Balanced S&P 500 Mid Cap Govt Corp
December 31, Account Index Index Bond Index
10,000 10,000 10,000 10,000
1988 11,830 11,661 11,229 10,759
1989 13,198 15,356 13,429 12,290
1990 12,348 14,877 13,355 13,309
1991 16,592 19,412 16,930 15,455
1992 18,716 20,891 18,122 16,626
1993 20,786 22,992 20,066 18,464
1994 20,351 23,294 19,561 17,816
1995 25,355 32,037 24,482 21,246
1996 28,684 39,388 27,851 21,861
1997 33,826 52,525 33,143 23,993
1997 might best be described as a year of many moods in the financial markets.
The first half of the year was characterized by strength in the economy, low
inflation and phenomenal stock market results. The 25 largest companies in the
S&P 500 produced the best performance results among equity investments, making
the benchmark index a tough challenge for equity managers to beat. In 1997 the
Account had a return of 17.93% versus 19.00% for the Lipper Balanced Fund
Average, 9.75% for the Lehman Brothers Government/Corporate Bond Index and
33.35% for the S&P 500. Suffering from the impact of higher interest rates after
the Fed raised overnight bank lending rates in March, bond market returns were
much less robust. During the late summer and fall of the year concerns over
potential fallout from the Asian currency and market collapses caused a flight
to safety among U.S. Treasury bonds. Interest rates declined and, as investors
shunned large, multi-national companies having exposure to Asian economies in
favor of domestic common stocks, small caps registered double-digit quarterly
gains. In the final three months of the year the economy continued its upward
trend with no signs of developing inflationary pressures. Bond yields dipped
below 6% at the end of the year while a fresh round of earnings concerns kept
stock valuations from expanding further. All in all it was a very favorable
year. The U.S. stock market experienced an unprecedented third consecutive year
of annual returns in excess of 20%, and the bond market produced attractive
results approximating 10% as well.
With an asset mix of 60% equities and 40% fixed income, the Balanced Account
participated in the strong financial markets of 1997 producing a 17.9% return
which was well above long-run average results. The Account's strategy of holding
a diversified portfolio of high quality fixed income securities and reasonably
valued common stocks was maintained. The Account's objective is to produce both
capital appreciation and current income without taking on undue risk to
principal. Managers expect 1998 to be challenging as investors wrestle with an
aging economic expansion, strong global competition, high stock market
valuations and potential earnings disappointments. This Account's focus on
credit quality among bonds and a value orientation in the equity portfolio
should benefit long-term shareholders of the Balanced Account.
There is no independent market index against which to measure returns of
balanced portfolios, however, the S&P 500 Stock Index and the Lehman
Government/Corporate Bond Index are included in the accompanying graph for your
information.
Capital Value Account
(Catherine A. Green)
Total Returns *
As of December 31, 1997
- --------------------------------------------------
1 Year 5 Year 10 Year
28.53% 17.80% 15.23%
Comparison of Change in Value of $10,000 Investment in the
Capital Value Account, S&P 500 and Lipper Growth and Income Fund Average
----------------------------------------------------------------------------
Capital S&P 500 Lipper
Year Ended Value Stock Growth & Income
December 31, Account Index Fund Average
10,000 10,000 10,000
1988 11,442 11,661 11,601
1989 13,294 15,356 14,332
1990 11,983 14,877 13,694
1991 16,617 19,412 17,676
1992 18,199 20,891 19,264
1993 19,618 22,992 21,489
1994 19,714 23,294 21,287
1995 26,004 32,037 27,847
1996 32,114 39,388 33,634
1997 41,277 52,525 42,762
The Capital Value Account for 1997 was impacted by certain aspects of the market
that were common in many equity mutual funds. Although it underperformed the S&P
500 Index over the latest calendar year, it was able to outperform the average
Growth & Income Fund. The Account's exposure to the financial sector was a big
plus for its performance. These types of companies continue to provide stable,
strong earnings growth which has resulted in strong stock performance for these
names.
1997 was a year of fairly high volatility in the market. After the first four
months of the year the market was quite weak as concerns and fear of higher
interest rates kept a lid on returns. The period through August was one of
rebounding stocks and strong performance in certain sectors, including
Technology. The fourth quarter brought growing fears of the Asian crisis moving
to U.S. shores, and the subsequent stock activity was indeed quite dramatic.
Those funds with major tech exposure that enjoyed the late summer period found
themselves with stocks that had major reversals of fortune. Also, the third
quarter brought concerns that some of the major consumer staple stocks would not
be able to continue strong earnings growth without revenue growth to help out.
This impacted some names that had been market leaders for several years. Account
managers continue to monitor these economic and market changes both in the U.S.
and abroad to determine when any inflection points may require changes to the
portfolio.
Growth Account
(Michael R. Hamilton)
Total Returns *
As of December 31, 1997
-------------------------------------------------------
1 Year Since Inception Date 5/2/94 10 Year
26.96% 18.98% --
Comparison of Change in Value of $10,000 Investment in the
Growth Account, S&P 500 and Lipper Growth Fund Average
---------------------------------------------------------------
S&P 500
Broad Lipper
Year Ended Growth Based Growth
December 31, Account Index Index
10,000 10,000 10,000
1994 10,542 10,397 10,090
1995 13,243 14,299 13,197
1996 14,899 17,580 15,736
1997 18,916 23,443 19,717
Fourth quarter 1997 saw a slowdown in the broad stock market advances. The S&P
500 saw only a small advance from the third quarter while other major indexes
were down. Small company stocks saw a negative return for the quarter. This all
came about with the announcement that many Asian countries were faced with
financial problems that could require currency devaluation and other austere
measures for their economies. A reduction in Asian demand could cause U.S.
exports to decline with a corresponding increase in foreign imports. All this
could reduce growth in the United States economy. The S&P 500 Index was heavily
influenced by the top 25 holdings in the Index. These are vary large companies.
The Growth Account is more diversified than the Index and therefore its results
were more representative of the broader market.
While this news was not well received by the financial markets at the time, the
negative returns have been erased and the market has moved to new highs. The oil
price weakness has been a real help to all economies and the access to capital
by Asian countries has been limited which has prevented an all out production
and import rampage by them. This has lessened the impact on the U.S. economy.
Given the reduction in growth caused by Asian problems, managers still favor
companies with stable earnings and certain visibility. Healthcare and related
companies move to the front of the favored sectors along with financial
companies and technology companies focused on communication. Account managers
are still prudently constructive on the markets, as no real economic
disequalibrium is present. Low interest rates continue to be supportive of the
market.
International Account
(Scott D. Opsal)
Total Returns *
As of December 31, 1997
----------------------------------------------------
1 Year Since Inception Date 5/2/94 10 Year
12.24% 12.67% --
Comparison of Change in Value of $10,000 Investment in the
International Account, EAFE and Lipper International Fund Average
------------------------------------------------------------
Morgan Stanley Lipper
Year Ended International EAFE International
December 31, Account Index Index
10,000 10,000 10,000
1994 9,663 9,990 9,758
1995 11,032 11,110 10,676
1996 13,800 11,781 11,934
1997 15,488 11,991 12,583
The International Account's return of 12.24% in 1997 compared favorably with the
return generated by the EAFE Index of 1.78%. The Account benefited from its
overweight position in Europe. European markets were very strong in 1997 and
with all markets up for the year and only two markets, Norway and Austria, up
less than 10%. The environment for equities in Europe was very positive in 1997;
inflation remained low, interest rates were low and falling and economic growth
began to pick up. The strong U.S. dollar was another factor boosting the
performance of European equities because of its positive effect on the
profitability of exporters based in Europe.
While almost everything was going right in Europe, almost everything went wrong
in Asia. The currency crisis that started in Thailand in the third quarter
spread to other Asian countries employing a currency peg system in the months
that followed. The currency depreciation that these countries experienced had a
significant negative ripple effect on the profitability of their corporate
sector and on near-term economic growth prospects. Stock market performance
reflected those problems, with five markets (Thailand, South Korea, Indonesia,
Malaysia, Philippines) all down more than 60%. Hong Kong and Singapore were down
30% or less. The Account benefited from its underweight position in Asia
relative to the EAFE Index. A large portion of the Asian exposure in the Account
in 1997 resided in Hong Kong, another positive for relative performance.
The Account remains underweighted in the Japanese market, which was down 23.7%
in 1997, another reason the account outperformed. Valuations continue to be high
in Japan and the outlook for economic growth is not good given the continued
weakness of the Japanese economy and the subdued growth outlook of its Asian
neighbors.
The strong U.S. dollar had an equally negative effect on the returns of the
Account and the EAFE Index, reducing both by 10.5%.
MidCap Account
(Michael R. Hamilton)
Total Returns *
As of December 31, 1997
---------------------------------------------------
1 Year 5 Year 10 Years
22.75% 18.18% 18.29%
Comparison of Change in Value of $10,000 Investment
in the MidCap Account, S&P 500 and Lipper Mid Cap Fund Average
--------------------------------------------------------------
Lipper
Year Ended MidCap S&P 500 MID CAP
December 31, Account Index Index
10,000 10,000 10,000
1988 12,371 11,661 11,476
1989 15,073 15,356 14,586
1990 13,189 14,877 14,067
1991 20,244 19,412 21,275
1992 23,268 20,891 23,213
1993 27,755 22,992 26,625
1994 27,971 23,294 26,079
1995 36,086 32,037 34,469
1996 43,704 39,388 40,646
1997 53,649 52,525 48,624
Small company stocks suffered during the third quarter 1997 as investors chose
to avoid them in favor of large cap stocks given the Asian problems that
surfaced at the start of the quarter. This was a reversal from the prior
quarter. Once the magnitude of the Asian problems was assumed, its effects could
be anticipated. The largest 25 companies in the S&P 500 produced the best
performance results among equity investments, making the benchmark index a
challenge for equity managers to beat. The Account and the Lipper Average
trailed the S&P 500 Index because of their emphasis on small cap stocks.
As of now little impact is assumed on global economic growth. The withdrawal of
capital from many troubled markets and their implementation of more austere
measures in the troubled countries have lessened the threat of cheap imports
swamping the U.S. economy. Small cap stocks are once again on investors growth
stock shopping lists.
Account managers feel that even if Asia remains in a different mode, growth in
the United States will not be greatly affected and growth in Europe and South
America could offset the Asian slowdown. Still, it is prudent to stick with
those companies and industries with more visible growth in revenues and more
stable earnings. Financial stocks continue to benefit from consolidation and
expense control. Healthcare should benefit from the aging baby boomers as they
continue active lifestyles. Technology is one of the main factors enabling
companies to improve efficiency and requires continual investment to stay
competitive. The portfolio is well positioned to take advantage of these
opportunities.
Important Notes of the Growth-Oriented Accounts:
Standard & Poor's 500 Stock Index: an unmanaged index of 500 widely held common
stocks representing industrial, financial, utility and transportation companies
listed on the New York Stock Exchange, American Stock Exchange and the
Over-the-Counter market.
Lipper Growth Fund Average: This average consists of funds which normally invest
in companies whose long-term earnings are expected to grow significantly faster
than the earnings of the stocks represented in the major unmanaged stock
indices. The one-year average at December 31, 1997 contained 820 funds.
Lipper Flexible Portfolio Fund Average: This average consists of funds which
allocate their investments across various asset classes, including domestic
common stocks, bonds and money market instruments, with a focus on total return.
The one-year average at December 31, 1997 contained 196 funds.
Lipper Balanced Fund Average: this average consists of mutual funds which
attempt to conserve principal by maintaining at all times a balanced portfolio
of both stocks and bonds. Typically, the stock/bond ratio ranges around 60%/40%.
The one year average at December 31, 1997 contained 350 mutual funds.
Lipper Growth & Income Fund Average: this average consists of funds which
combine a growth of earnings orientation and an income requirement for level
and/or rising dividends. The one year average at December 31, 1997 contained 611
funds.
Lipper Mid Cap Fund Average: This average consists of funds which by prospectus
or portfolio practice, limit their investments to companies with average market
capitalizations and/or revenues between $800 million and the average market
capitalization of the Wilshire 4500 Index (as captured by the Vanguard Index
Extended Market Fund). The one-year average at December 31, 1997 contained 249
funds.
Morgan Stanley EAFE (Europe, Australia and Far East) Index: This average
reflects an arithmetic, market value weighted average of performance of more
than 900 securities which are listed on the stock exchanges of the following
countries: Australia, Austria, Belgium, Denmark, Netherlands, New Zealand,
Norway, Singapore/Malaysia, Spain, Sweden, Switzerland, and the United Kingdom.
Lipper International Fund Average: This average consists of funds which invest
in securities primarily traded in markets outside of the United States. The
one-year average at December 31, 1997 contained 421 funds.
Income-Oriented Accounts:
Bond Account
(Scott A. Bennett)
Total Returns *
As of December 31, 1997
- --------------------------------------------------------------
1 Year 5 Year 10 Years
10.60% 8.44% 9.62%
Comparison of Change in Value of $10,000 Investment in the Bond Account, Lehman
Brothers BAA Corporate Index and Lipper Corporate Debt BBB Rated Fund Average
- -------------------------------------------------------------------------------
Lehman Lipper
Year Ended Bond BAA BBB
December 31, Account Index Avg
10,000 10,000 10,000
1988 10,927 10,923 10,900
1989 12,441 12,463 12,060
1990 13,090 13,343 12,751
1991 15,278 15,814 15,020
1992 16,711 17,187 16,258
1993 18,660 19,300 18,261
1994 18,120 18,360 17,447
1995 22,136 22,533 20,948
1996 22,659 23,439 21,616
1997 25,060 26,040 23,795
1997 was a year of high absolute levels of return for the fixed income market.
The Bond Account's total return for the year was 10.6%. This high level of
return was driven by the decline in Treasury yields through the final
three-quarters of the year on continued confidence that inflation would remain
low. The financial crisis in Asia in the fourth quarter also accelerated the
decline in Treasury yields as investors increased their purchases of Treasuries,
seeking a safe haven.
Although the Asian crisis was positive from a perspective of pushing down
interest rates, it increased the risk premium (spread) demanded by investors to
own corporate bonds as compared to owning Treasury bonds. The higher premium was
demanded on the threat of lower corporate profits because of Asia's influence on
the world's markets. Certain industries were hit harder than others, including
commodity industries, the technology sector, and construction industries such as
heavy equipment manufacturers. All of these factors influenced the 1997 returns
of the Bond Account. The Account's significant diversification by industry and
issuer helped it to avoid significant downside risk from the Asian crisis.
The Bond Account continues to outperform the Lipper Corporate Debt Fund
BBB-Rated Average and lag the Lehman BAA Corporate Index, which benefits from
the lack of fees. The long-term outperformance relative to the average BBB fund
is credited to remaining well diversified, fully invested and not guessing
interest rates.
Government Securities Account
(Martin J. Schafer)
Total Returns *
As of December 31, 1997
- --------------------------------------------------
1 Year 5 Year 10 Year
10.39% 7.38% 9.36%
Comparison of Change in Value of $10,000 Investment in the Government Securities
Account, Lehman Brothers Mortgage Index and Lipper U.S. Mortgage Fund Average
- --------------------------------------------------------------------------------
Gov't Lehman Lipper
Year Ended Securities Mortgage U.S. Mortgage
December 31, Account Index Index
10,000 10,000 10,000
1988 10,832 10,872 10,746
1989 12,521 12,552 12,098
1990 13,716 13,899 13,233
1991 16,041 16,082 15,190
1992 17,138 17,200 16,118
1993 18,865 18,376 17,319
1994 18,010 18,081 16,596
1995 21,444 21,118 19,290
1996 22,162 22,248 20,037
1997 24,464 24,359 21,756
Interest rates fell for most of 1997, which led to a very strong year for the
Government Securities Account. The Account outperformed both the Lehman Brothers
MBS Index as well as the Lipper U.S. Mortgage Fund Average, mostly due to its
slightly longer duration.
Managers added to results last year by identifying and selecting certain
undervalued sectors of mortgage-backed securities for a portion of the
portfolio. These securities have now become very popular with Wall Street and
other investors, resulting in an increase in value.
Managers believe the current portfolio is well positioned for the period ahead.
The Account has a number of securities that are "seasoned" (e.g., original 30
year loans that have been outstanding for three years or more) and therefore
valued more highly in the marketplace. The majority of the securities are priced
below par, so prepayment risk is negligible. The current strategy of staying
fully invested in generic MBS pass-throughs with a mix of coupons, supplemented
with government agencies, has served the Account well and should continue going
forward.
Important Notes of the Income-Oriented Accounts:
Lehman Brothers, BAA Corporate Index: an unmanaged index of all publicly issued
fixed rate non-convertible, dollar-denominated, SEC-registered corporate debt
rated Baa or BBB by Moody's or S&P.
Lipper Corporate Debt BBB Rated Funds Average: this average consists of mutual
funds investing at least 65% of their assets in corporate and government debt
issues rated by S&P or Moody's in the top four grades. The one year average at
December 31, 1997 contained 102 mutual funds.
Lehman Brothers Mortgage Index: an unmanaged index of 15- and 30-year fixed rate
securities backed by mortgage pools of the Government National Mortgage
Association (GNMA), Federal Home Loan Mortgage Corporation (FHLMC), and Federal
National Mortgage Association (FNMA).
Lipper U.S. Mortgage Fund Average: this average consists of mutual funds
investing at least 65% of their assets in mortgages/securities issued or
guaranteed as to principal and interest by the U.S. Government and certain
federal agencies. The one year average at December 31, 1997 contained 59 mutual
funds.
Note: Mutual fund data from Lipper Analytical Services, Inc.
DETERMINATION OF NET ASSET VALUE OF ACCOUNT SHARES
The net asset value of each Account's shares is determined daily, Monday
through Friday, as of the close of trading on the New York Stock Exchange,
except on days on which changes in the value of the Account's portfolio
securities will not materially affect the current net asset value of the
Account's redeemable securities, on days during which an Account receives no
order for the purchase or sale of its redeemable securities and no tender of
such a security for redemption, and on customary national business holidays. The
net asset value per share of each Account is determined by dividing the value of
the Account's securities plus all other assets, less all liabilities, by the
number of Account shares outstanding.
Growth-Oriented and Income-Oriented Accounts
The following valuation information applies to the Growth-Oriented and
Income-Oriented Accounts. Securities for which market quotations are readily
available are valued using those quotations. Other securities are valued by
using market quotations, prices provided by market makers or estimates of market
values obtained from yield data and other factors relating to instruments or
securities with similar characteristics in accordance with procedures
established in good faith by the Board of Directors. Securities with remaining
maturities of 60 days or less are valued at amortized cost when it is determined
by the Board that amortized cost reflects fair value. Other assets are valued at
fair value as determined in good faith by the Board of Directors of the Fund.
As previously described, some of the Accounts may purchase foreign
securities whose trading is substantially completed each day at various times
prior to the close of the New York Stock Exchange. The values of such securities
used in computing net asset value per share are usually determined as of such
times. Occasionally, events which affect the values of such securities and
foreign currency exchange rates may occur between the times at which they are
generally determined and the close of the New York Stock Exchange and would
therefore not be reflected in the computation of the Account's net asset value.
If events materially affecting the value of such securities occur during such
period, then these securities will be valued at their fair value as determined
in good faith by the Manager or Sub-Advisor under procedures established and
regularly reviewed by the Board of Directors. To the extent the Account invests
in foreign securities listed on foreign exchanges which trade on days on which
the Account does not determine its net asset value, for example Saturdays and
other customary national U.S. Holidays, the Account's net asset value could be
significantly affected on days when shareholders have no access to the Account.
Money Market Account
The Money Market Account values its securities at amortized cost. For a
description of this calculation procedure see the Fund's Statement of Additional
Information.
PERFORMANCE CALCULATION
From time to time, the Accounts may publish advertisements containing
information (including graphs, charts, tables and examples) about the
performance of one or more of the Accounts. The Account's yield and total return
figures described below will vary depending upon market conditions, the
composition of the Account's portfolios and operating expenses. These factors
and possible differences in the methods used in calculating yield and total
return should be considered when comparing the Accounts' performance figures to
performance figures published for other investment vehicles. The Accounts may
also quote rankings, yields or returns as published by independent statistical
services or publishers, and information regarding the performance of certain
market indices. Any performance data quoted for the Accounts represents only
historical performance and is not intended to indicate future performance of the
Accounts. The calculation of average annual total return and yield for the
Accounts does not include fees and charges of the separate accounts that invest
in the Accounts and, therefore, does not reflect the investment performance of
those separate accounts. For further information on how the Accounts calculate
yield and total return figures, see the Statement of Additional Information.
Average Annual Total Return
Each Account may advertise its respective average annual total return.
Average annual total return for each Account is computed by calculating the
average annual compounded rate of return over the stated period that would
equate an initial $1,000 investment to the ending redeemable value assuming the
reinvestment of all dividends and capital gains distributions at net asset
value. The same assumptions are made when computing cumulative total return by
dividing the ending redeemable value by the initial investment. The Accounts may
also quote rankings, yields or returns as published by independent statistical
services or publishers, and information regarding the performance of certain
market indices.
Yield and Effective Yield
From time to time the Money Market Account may advertise its respective
yield and effective yield. The yield of the Account refers to the income
generated by an investment in the Account over a seven-day period. This income
is then annualized. That is, the amount of income generated by the investment
during that week is assumed to be generated each week over a 52-week period and
is shown as a percentage of the investment. The effective yield is calculated
similarly but, when annualized, the income earned by an investment in the
Account is assumed to be reinvested. The effective yield will be slightly higher
than the yield because of the compounding effect of this assumed reinvestment.
The yield for the Money Market Account will fluctuate daily as the income
earned on the investments of the Account fluctuates. Accordingly, there is no
assurance that the yield quoted on any given occasion will remain in effect for
any period of time. The Account is one of a Series of Accounts issued by an
open-end investment company and there is no guarantee that the net asset value
or any stated rate of return will remain constant. A shareholder's investment in
the Account is not insured. Investors comparing results of the Account with
investment results and yields from other sources such as banks or savings and
loan associations should understand these distinctions. Historical and
comparative yield information may, from time to time, be presented by the
Account.
INCOME DIVIDENDS, DISTRIBUTIONS AND TAX STATUS
It is the policy of each Account to distribute substantially all net
investment income and net realized gains. Through such distributions, and by
satisfying certain other requirements, the Fund intends to qualify for the tax
treatment accorded to regulated investment companies under the applicable
provisions of the Internal Revenue Code. This means that in each year in which
the Fund so qualifies it will be exempt from federal income tax upon the amounts
so distributed to investors.
Any dividends from the net investment income of the Accounts (except the
Money Market Account) will normally be payable to the shareholders annually, and
any net realized gains will be distributed annually. All dividends and capital
gains distributions are applied to purchase additional Account shares at net
asset value as of the payment date without the imposition of any sales charge.
Each Account will notify shareholders of the portion of each distribution
which constitutes investment income or capital gain. In view of the complexity
of tax considerations, it is advisable for Eligible Purchasers considering the
purchase of shares of the Accounts to consult with tax advisors on the federal
and state tax aspects of their investments and redemptions.
Money Market Account
The Money Market Account declares dividends of all its daily net investment
income on each day the Account's net asset value per share is determined.
Dividends are payable daily and are automatically reinvested in full and
fractional shares of the Account at the then current net asset value unless a
shareholder requests payment in cash.
Net investment income, for dividend purposes, consists of (1) accrued
interest income plus or minus accrued discount or amortized premium; plus or
minus (2) all net short-term realized gains and losses; minus (3) all accrued
expenses of the Account. Expenses of the Account are accrued each day. Net
income will be calculated immediately prior to the determination of net asset
value per share of the Account.
Since the Account's policy is, under normal circumstances, to hold
portfolio securities to maturity and to value portfolio securities at amortized
cost, it does not expect any capital gains or losses. If the Account does
experience gains, however, it could result in an increase in dividends. Capital
losses could result in a decrease in dividends. If for some extraordinary reason
the Account realizes net long-term capital gains, it will distribute them once
every 12 months.
Since the net income of the Account (including realized gains and losses on
the portfolio securities) is declared as a dividend each time the net income of
the Account is determined, the net asset value per share of the Account normally
remains at $1.00 immediately after each determination and dividend declaration.
Any increase in the value of a shareholder's investment in the Account,
representing reinvestment of dividend income, is reflected by an increase in the
number of shares of the Account.
Normally the Account will have a positive net income at the time of each
determination thereof. Net income may be negative if an unexpected liability
must be accrued or a loss is realized. If the net income of the Account
determined at any time is a negative amount, the net asset value per share will
be reduced below $1.00. If this happens, the Account may endeavor to restore the
net asset value per share to $1.00 by reducing the number of outstanding shares
by redeeming proportionately from shareholders without the payment of any
monetary consideration, such number of full and fractional shares as is
necessary to maintain a net asset value per share of $1.00. Each shareholder
will be deemed to have agreed to such a redemption in these circumstances by
investing in the Account. The Account may seek to achieve the same objective of
restoring the net asset value per share to $1.00 by not declaring dividends from
net income on subsequent days until restoration, with the result that the net
asset value per share would increase to the extent of positive net income which
is not declared as a dividend, or any other method approved by the Board of
Directors.
The Board of Directors may revise the above dividend policy, or postpone
the payment of dividends, if the Account should have or anticipate any large
presently unexpected expense, loss or fluctuation in net assets which in the
opinion of the Board might have a significant adverse affect on shareholders.
ELIGIBLE PURCHASERS AND PURCHASE OF SHARES
Only Eligible Purchasers may purchase shares of the Accounts. Eligible
Purchasers are limited to (a) separate accounts of Principal Mutual Life
Insurance Company or of other insurance companies; (b) Principal Mutual Life
Insurance Company or any subsidiary or affiliate thereof; (c) trustees or other
managers of any qualified profit sharing, incentive or bonus plan established by
Principal Mutual Life Insurance Company or any subsidiary or affiliate thereof
for the employees of such company, subsidiary or affiliate. Such trustees or
managers may purchase Account shares only in their capacities as trustees or
managers and not for their personal accounts. The Board of Directors of the Fund
reserves the right to broaden or limit the designation of Eligible Purchasers.
Each Account serves as an underlying investment medium for variable annuity
contracts and variable life insurance policies that are funded in separate
accounts established by Principal Mutual Life Insurance Company. It is
conceivable that in the future it may be disadvantageous for variable life
insurance separate accounts and variable annuity separate accounts to invest in
the Accounts simultaneously. Although neither Principal Mutual Life Insurance
Company nor the Accounts currently foresee any such disadvantages either to
variable life insurance policy owners or to variable annuity contract owners,
the Fund's Board of Directors intends to monitor events in order to identify any
material conflicts between such policy owners and contract owners and to
determine what action, if any, should be taken in response thereto. Such action
could include the sale of Account shares by one or more of the separate
accounts, which could have adverse consequences. Material conflicts could result
from, for example, (1) changes in state insurance laws, (2) changes in Federal
income tax law, (3) changes in the investment management of an Account, or (4)
differences in voting instructions between those given by policy owners and
those given by contract owners.
Shares are purchased from Princor Financial Services Corporation, the
principal underwriter for the Fund. There are no sales charges on the Accounts'
shares. There are no restrictions on amounts to be invested in the Accounts'
shares.
Shareholder accounts for each Account will be maintained under an open
account system. Under this system, an account is automatically opened and
maintained for each new investor. Each investment is confirmed by sending the
investor a statement of account showing the current purchase and the total
number of shares then owned. The statement of account is treated by each Account
as evidence of ownership of Account shares in lieu of stock certificates. Stock
certificates will not be issued or delivered to investors. Certificates, which
can be stolen or lost, are unnecessary except for special purposes such as
collateral for a loan. Fractional interests in the Account's shares are
reflected to three decimal places in the statement of account.
If an offer to purchase shares is received by any of the Accounts before
the close of trading on the New York Stock Exchange, the shares will be issued
at the offering price (net asset value of Account shares) computed on that day.
If an offer is received after the close of trading or on a day which is not a
trading day, the shares will be issued at the offering price computed on the
first succeeding day on which a price is determined. Dividends on the Money
Market Account shares will be paid on the next day following the effective date
of a purchase order.
SHAREHOLDER RIGHTS
The following information is applicable to each Account of the Principal
Variable Contracts Fund, Inc. Each Account share is entitled to one vote either
in person or by proxy at all shareholder meetings for that Account. This
includes the right to vote on the election of directors, selection of
independent accountants and other matters submitted to meetings of shareholders
of the Account. Each share has equal rights with every other share of the
Account as to dividends, earnings, voting, assets and redemption. Shares are
fully paid and non-assessable, and have no preemptive or conversion rights.
Shares of an Account may be issued as full or fractional shares, and each
fractional share has proportionately the same rights, including voting, as are
provided for a full share. Shareholders of the Fund may remove any director with
or without cause by the vote of a majority of the votes entitled to be cast at a
meeting of all Account shareholders.
The bylaws of the Fund provide that the Board of Directors of the Fund may
increase or decrease the aggregate number of shares which the Fund has authority
to issue without a shareholder vote.
The bylaws of the Fund also provide that the Fund need not hold an annual
meeting of shareholders in any year in which none of the following is required
to be acted on by shareholders under the Investment Company Act of 1940:
election of directors; approval of investment advisory agreement; ratification
of selection of independent public accountants; and approval of distribution
agreement. The Fund intends to hold shareholder meetings only when required by
law and at such other times as may be deemed appropriate by the Board of
Directors.
Shareholder inquiries should be directed to the Principal Variable
Contracts Fund, Inc. at The Principal Financial Group, Des Moines, Iowa 50392.
NON-CUMULATIVE VOTING: The Fund's shares have non-cumulative voting rights
which means that the holders of more than 50% of the shares voting for the
election of directors of the Fund can elect 100% of the directors if they choose
to do so, and in such event, the holders of the remaining shares voting for the
election of directors will not be able to elect any directors.
Principal Mutual Life Insurance Company votes each Account's shares
allocated to each of its separate accounts registered under the Investment
Company Act of 1940 and attributable to variable annuity contracts or variable
life insurance policies participating therein in accordance with instructions
received from contract or policy holders, participants and annuitants. Other
shares of each Account held by each registered separate account, including those
for which no timely instructions are received, are voted in proportion to the
instructions that are received with respect to contracts or policies
participating in that separate account. Shares of each of the Accounts held in
the general account of Principal Mutual Life Insurance Company or in its
unregistered separate accounts are voted in proportion to the instructions that
are received with respect to contracts and policies participating in its
registered and unregistered separate accounts. If Principal Mutual determines
pursuant to applicable law that an Account's shares held in one or more separate
accounts or in its general account need not be voted pursuant to instructions
received with respect to participating contracts or policies, it then may vote
those Account shares in its own right.
REDEMPTION OF SHARES
Except for the third paragraph below, most of the following discussion of
redemption procedures is relevant only to Eligible Purchasers other than
variable annuity and variable life separate accounts of Principal Mutual Life
Insurance Company, and its wholly-owned subsidiaries.
Each Account will redeem its shares upon request. There is no charge for
redemption. A shareholder simply writes a letter to the appropriate Account
requesting redemption of any part or all of the shares. The letter must be
signed exactly as the account is registered. If payment is to be made to the
registered shareholder or joint shareholders, the Account will not require a
signature guarantee as a part of a proper endorsement; otherwise the
shareholder's signature must be guaranteed by either a commercial bank, trust
company, credit union, savings and loan association, national securities
exchange member, or by a brokerage firm. The price at which the shares are
redeemed will be the net asset value per share as next computed after the
request is received by the Account in proper and complete form. The amount
received for shares upon redemption may be more or less than the cost of such
shares depending upon the net asset value at the time of redemption.
Redemption proceeds will be sent within three business days after receipt
of request for redemption in proper form. However, each Account may suspend the
right of redemption during any period when (a) trading on the New York Stock
Exchange is restricted as determined by the Securities and Exchange Commission
or such Exchange is closed for other than weekends and holidays; (b) an
emergency exists, as determined by the Securities and Exchange Commission, as a
result of which (i) disposal by the Account of securities owned by it is not
reasonably practicable, or (ii) it is not reasonably practicable for the Account
fairly to determine the value of its net assets; or (c) the Commission by order
so permits for the protection of security holders of the Account. An Account
will redeem only those shares for which it has received good payment. To avoid
the inconvenience of such a delay, shares may be purchased with a certified
check, bank cashier's check or money order. During the period prior to the time
a redemption from the Money Market Account is effective, dividends on such
shares will accrue and be payable and the shareholder will be entitled to
exercise all other rights of beneficial ownership.
Restricted Transfer: Shares of each of the Accounts may be transferred to
an Eligible Purchaser. However, whenever any of the Accounts is requested to
transfer shares to other than an Eligible Purchaser, the Account has the right
at its election to purchase such shares at their net asset value next effective
following the time at which the request for transfer is presented; provided,
however, that the Account must notify the transferee or transferees of such
shares in writing of its election to purchase such shares within seven (7) days
following the date of such request and settlement for such shares shall be made
within such seven-day period.
ADDITIONAL INFORMATION
Custodian: Bank of New York, 48 Wall Street, New York, New York 10286, is
custodian of the portfolio securities and cash assets of each of the Accounts
except the International Account. The custodian for the International Account is
Chase Manhattan Bank, Global Securities Services, Chase Metro Tech Center,
Brooklyn, New York 11245. The custodians perform no managerial or policymaking
functions for the funds.
Organization and Share Ownership: Effective January 1, 1998, certain Funds
sponsored by Principal Mutual Life Insurance Company were reorganized into a
series of the Principal Variable Contracts Fund, Inc., a corporation
incorporated in the State of Maryland on May 27, 1997. The new series adopted
the assets and liabilities of the corresponding Fund. Those Funds were
incorporated in the state of Maryland on the following dates: Balanced Fund -
November 26, 1986; Bond Fund - November 26, 1986; Capital Accumulation Fund -
May 26, 1989 (effective November 1, 1989 succeeded to the business of a
predecessor Fund that had been incorporated in Delaware on February 6, 1969);
Emerging Growth Fund - February 20, 1987; Government Securities Fund - June 7,
1985; Growth Fund - August 20, 1993; Money Market Fund - June 10, 1982; and
World Fund - August 20, 1993. Principal Mutual Life Insurance Company owns 100%
of each Fund's outstanding shares.
Capitalization: The authorized capital stock of each Account consists of
100,000,000 shares of common stock (500,000,000 for Money Market Account), $.01
par value.
Financial Statements: Copies of the financial statements of each Account
will be mailed to each shareholder of that Account semi-annually. At the close
of each fiscal year, each Account's financial statements will be audited by a
firm of independent auditors. The firm of Ernst & Young LLP has been appointed
to audit the financial statements of each Account for their respective present
fiscal years. Additional information about the performance of the Accounts is
contained in these Statements. Copies may be obtained free of charge from
Princor.
Registration Statement: This Prospectus omits some information contained in
the Statement of Additional Information (also known as Part B of the
Registration Statement) and Part C of the Registration Statements which the Fund
has filed with the Securities and Exchange Commission. The Funds' Statement of
Additional Information is hereby incorporated by reference into this Prospectus.
A copy of the Statement of Additional Information can be obtained upon request,
free of charge, by writing or telephoning the Fund. You may obtain a copy of
Part C of the Registration Statements filed with the Securities and Exchange
Commission, Washington, D.C., from the Commission upon payment of the prescribed
fees.
Principal Underwriter: Princor Financial Services Corporation, The
Principal Financial Group, Des Moines, Iowa 50392-0200, is the principal
underwriter for the Fund.
The Principal Variable Contracts Fund, Inc. described in this Prospectus is
a diversified, open-end management investment company offering a variety of
Accounts. Together, the Accounts provide the following range of investment
objectives:
Growth-Oriented Accounts
Aggressive Growth Account
Asset Allocation Account
Balanced Account
Capital Value Account
Growth Account
International Account
International SmallCap Account
MicroCap Account
MidCap Account
MidCap Growth Account
Real Estate Account
SmallCap Account
SmallCap Growth Account
SmallCap Value Account
Utilities Account
Income-Oriented Accounts
Bond Account
Government Securities Account
Money Market Accounts
Money Market Account
An investment in the Money Market fund is neither insured nor guaranteed by
the U.S. Government. There can be no assurance the Money Market Funds will be
able to maintain a stable net asset value of $1.00 per share.
This Prospectus concisely states information about the Principal Variable
Contracts Fund, Inc. that an investor ought to know before investing. It should
be read and retained for future reference.
Additional information about the Fund has been filed with the Securities
and Exchange Commission, including a document called Statement of Additional
Information, dated May 1, 1998. The Statement of Additional Information is
incorporated by reference into this Prospectus. A copy of the Statement of
Additional Information can be obtained free of charge by writing or telephoning:
Principal Variable Contracts Fund, Inc.
The Principal Financial Group
Des Moines, IA 50392
Telephone 1-800-247-4123
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
The Date of this Prospectus is May 1, 1998.
TABLE OF CONTENTS
Page
Summary ................................................. 2
Financial Highlights...................................... 4
Investment Objectives, Policies and Restrictions.......... 10
Certain Investment Policies and Restrictions.............. 19
Manager and Sub-Advisors ................................ 21
Duties Performed by the Manager and Sub-Advisors.......... 23
Managers' Comments........................................ 24
Determination of Net Asset Value of Account Shares........ 30
Performance Calculation................................... 30
Income Dividends, Distributions and Tax Status............ 31
Eligible Purchasers and Purchase of Shares................ 31
Shareholder Rights ....................................... 32
Redemption of Shares...................................... 32
Additional Information.................................... 33
This Prospectus does not constitute an offer to sell, or a solicitation of an
offer to buy, shares of the Account in any jurisdiction in which such sale,
offer to sell, or solicitation may not be lawfully made. No dealer, salesperson,
or other person has been authorized to give any information or to make any
representations, other than those contained in this Prospectus, in connection
with the offer contained in this Prospectus, and, if given or made, such other
information or representations must not be relied upon as having been authorized
by the Fund or the Fund's Manager.
SUMMARY
The following summarized information should be read in conjunction with the
detailed information appearing elsewhere in this Prospectus.
The Principal Variable Contracts Fund, Inc. is an open-end diversified
management investment company offering multiple accounts.
Who may purchase shares of the Accounts?
Shares of the Accounts are available only to Eligible Purchasers which are
limited to: (a) separate accounts of Principal Mutual Life Insurance Company or
of other insurance companies; (b) Principal Mutual Life Insurance Company or any
subsidiary or affiliate thereof; (c) trustees or other managers of any qualified
profit sharing, incentive or bonus plan established by Principal Mutual Life
Insurance Company or any subsidiary or affiliate thereof for the employees of
such company, subsidiary or affiliate. The Board of Directors of the Fund
reserves the right to broaden or limit the designation of Eligible Purchasers.
What does the Fund offer investors?
Professional Investment Management: Experienced securities analysts provide each
Account with professional investment management.
Diversification: Each Account will diversify by investing in securities issued
by a number of issuers doing business in a variety of industries and/or located
in different geographical regions. Diversification reduces investment risk.
Economies of Scale: Pooling individual shareholder's investments in any of the
Accounts creates administrative efficiencies.
Redeemability: Upon request each Account will redeem its shares and promptly pay
the investor the current net asset value of the shares redeemed. See "Redemption
of Shares."
What are the Accounts' investment objectives?
Growth-Oriented Accounts
Aggressive Growth Account -- to provide long-term capital appreciation by
investing primarily in growth-oriented common stocks of medium and large
capitalization U.S. corporations and, to a limited extent, foreign corporations.
Asset Allocation Account -- to generate a total investment return consistent
with the preservation of capital. The Account intends to pursue a flexible
investment policy in seeking to achieve this investment objective.
Balanced Account -- to generate a total return consisting of current income and
capital appreciation while assuming reasonable risks in furtherance of this
objective.
Capital Value Account --to provide long-term capital appreciation and
secondarily is growth of investment income. The Account seeks to achieve its
investment objectives through the purchase primarily of common stocks, but the
Account may invest in other securities.
Growth Account -- to seek growth of capital. The Account seeks to achieve its
objective through the purchase primarily of common stocks, but the Account may
invest in other securities.
International Account -- to seek long-term growth of capital by investing in a
portfolio of equity securities domiciled in any of the nations of the world.
International SmallCap Account -- seeks long-term growth of capital. The Account
will attempt to achieve its objective by investing primarily in equity
securities of non-United States companies with comparatively smaller market
capitalizations.
MicroCap Account -- seeks long-term growth of capital. The Account will attempt
to achieve its objective by investing primarily in value and growth oriented
companies with small market capitalizations, generally less than $700 million.
MidCap Account -- to achieve capital appreciation by investing primarily in
securities of emerging and other growth-oriented companies.
MidCap Growth Account -- seeks long-term growth of capital. The Account will
attempt to achieve its objective by investing primarily in growth stocks of
companies with market capitalizations in the $1 billion to $10 billion range.
Real Estate Account -- seeks to generate a high total return. The Account will
attempt to achieve its objective by investing primarily in equity securities of
companies principally engaged in the real estate industry.
SmallCap Account -- seeks long-term growth of capital. The Account will attempt
to achieve its objective by investing primarily in equity securities of both
growth and value oriented companies with comparatively smaller market
capitalizations.
SmallCap Growth Account -- seeks long-term growth of capital. The Account will
attempt to achieve its objective by investing primarily in equity securities of
small growth companies with market capitalization of less than $1 billion.
SmallCap Value Account -- seeks long-term growth of capital. The Account will
attempt to achieve its objective by investing primarily in equity securities of
small companies with value characteristics and market capitalizations of less
than $1 billion.
Utilities Account -- seeks to provide current income and long-term growth of
income and capital. The Account will attempt to achieve its objective by
investing primarily in equity and fixed-income securities of companies in the
public utilities industry.
Income-Oriented Accounts
Bond Account -- to provide as high a level of income as is consistent with
preservation of capital and prudent investment risk.
Government Securities Account -- to seek a high level of current income,
liquidity and safety of principal. The Account seeks to achieve its objective
through the purchase of obligations issued or guaranteed by the United States
Government or its agencies, with emphasis on Government National Mortgage
Association Certificates ("GNMA Certificates"). Account shares are not
guaranteed by the United States Government.
Money Market Account
Money Market Account -- to seek as high a level of current income available from
short-term securities as is considered consistent with preservation of principal
and maintenance of liquidity by investing all of its assets in a portfolio of
money market instruments.
There can be no assurance that the investment objectives of any of the Accounts
will be realized. See Investment Objectives, Policies and Restrictions.
Who serves as Manager for the Accounts?
Principal Management Corporation ("Manager"), a corporation organized in 1969 by
Principal Mutual Life Insurance Company, is the Manager for each of the
Accounts. It is also the dividend disbursing and transfer agent for the Fund. In
order to provide investment advisory services for certain Accounts the Manager
has executed sub-advisory agreements with Invista Capital Management, Inc.
("Invista") (Balanced, Capital Value, Government Securities, Growth,
International, International SmallCap, MidCap, SmallCap and Utilities Accounts),
Morgan Stanley Asset Management Inc. ("MSAM") (Aggressive Growth and Asset
Allocation Accounts), Berger Associates, Inc. ("Berger") (SmallCap Growth
Account), Dreyfus Corporation ("Dreyfus") (MidCap Growth Account), Goldman Sachs
Asset Management ("GSAM") (MicroCap Account) and J.P. Morgan Investment
Management, Inc. ("J.P. Morgan Investment") (SmallCap Value Account").
Subsequent references to these corporations may be as "Sub-Advisor". See Manager
and Sub-Advisors.
What fees and expenses apply to ownership of shares of the Accounts?
The following table depicts fees and expenses applicable to the purchase and
ownership of shares of each of the Accounts.
ANNUAL ACCOUNT OPERATING EXPENSES
(As a Percentage of Average Net Assets)
Management Other Total Operating
Account Fee Expenses Expenses
Aggressive Growth .80% .02% .82%
Asset Allocation .80 .09 .89
Balanced .59 .02 .61
Bond .50 .02 .52
Capital Value .46 .01 .47
Government Securities .50 .02 .52
Growth .49 .01 .50
International .74 .13 .87
International SmallCap 1.20 .06 1.26*
MicroCap 1.00 .06 1.06*
MidCap .62 .02 .64
MidCap Growth .90 .06 .96*
Money Market .50 .05 .55
Real Estate .90 .06 .96*
SmallCap .85 .06 .91*
SmallCap Growth 1.00 .06 1.06*
SmallCap Value 1.10 .06 1.16*
Utilities .60 .06 .66*
*Estimated Expenses
EXAMPLE You would pay the following expenses on a $1,000 investment, assuming
(1) 5% annual return and (2) redemption at the end of each time period: Period
(in years) Account 1 3 5 10
Aggressive Growth $8 $26 $46 $101
Asset Allocation $9 $28 $49 $110
Balanced $6 $20 $34 $76
Bond $5 $17 $29 $65
Capital Value $5 $15 $26 $59
Government Securities $5 $17 $29 $65
Growth $5 $16 $28 $63
International $9 $28 $48 $107
International SmallCap $13 $40 N/A N/A
MicroCap $11 $34 N/A N/A
MidCap $7 $20 $36 $80
MidCap Growth $10 $31 N/A N/A
Money Market $6 $18 $31 $69
Real Estate $10 $31 N/A N/A
SmallCap $9 $29 N/A N/A
SmallCap Growth $11 $34 N/A N/A
SmallCap Value $12 $37 N/A N/A
Utilities $7 $21 N/A N/A
This Example is based on the Annual Account Operating expenses for each Account
described above. Please remember that the Example should not be considered a
representation of past or future expenses and that actual expenses may be
greater or less than shown.
The purpose of the above table is to assist you in understanding the various
expenses that an investor in the Accounts will bear directly or indirectly. See
Duties Performed by the Manager and Sub-Advisors.
FINANCIAL HIGHLIGHTS
The following financial highlights are derived from financial statements which,
for the five years in the period ended December 31, 1997, have been audited by
Ernst & Young LLP, independent auditors, whose report has been incorporated by
reference herein. The financial highlights should be read in conjunction with
the financial statements, related notes, and other financial information
incorporated by reference herein. Audited financial statements may be obtained
by shareholders, without charge, by telephoning 1-800-451-5447. See page 9 for
the Notes to Financial Highlights.
For a Share Outstanding Throughout the Year Ended December 31,
(except as noted)
AGGRESSIVE GROWTH ACCOUNT(a) 1997 1996 1995 1994(b)
- ------------------------- ---- ---- ---- ----
Net Asset Value,
Beginning of Period.................... $14.52 $12.94 $10.11 $9.92
Income from Investment Operations:
Net Investment Income.................. .04 .11 .13 .05
Net Realized and Unrealized
Gain (Loss) on Investments........... 4.26 3.38 4.31 .24
Total from Investment Operations 4.30 3.49 4.44 .29
Less Dividends and Distributions:
Dividends from
Net Investment Income................ (.04) (.11) (.13) (.05)
Distributions from Capital Gains....... (2.48) (1.80) (1.48) (.05)
Total Dividends and Distributions (2.52) (1.91) (1.61) (.10)
Net Asset Value,
End of Period.......................... $16.30 $14.52 $12.94 $10.11
Total Return.............................. 30.86% 28.05% 44.19% 2.59%(c)
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)....................... $149,182 $90,106 $33,643 $13,770
Ratio of Expenses to
Average Net Assets................... .82% .85% .90% 1.03%(d)
Ratio of Net Investment Income
to Average Net Assets................ .29% 1.05% 1.34% 1.06%(d)
Portfolio Turnover Rate................ 172.6% 166.9% 172.9% 105.6%(d)
Average Commission Rate................ $.0571 $.0541 N/A N/A
ASSET ALLOCATION ACCOUNT(a) 1997 1996 1995 1994(b)
- ------------------------ ---- ---- ---- ------
Net Asset Value,
Beginning of Period.................... $11.48 $11.11 $9.79 $9.98
Income from Investment Operations:
Net Investment Income.................. .30 .36 .40 .23
Net Realized and Unrealized
Gain (Loss) on Investments........... 1.72 1.06 1.62 (.18)
Total from Investment Operations 2.02 1.42 2.02 .05
Less Dividends and Distributions:
Dividends from
Net Investment Income................ (.30) (.36) (.40) (.23)
Distributions from Capital Gains....... (1.26) (.69) (.30) -
Excess Distributions from Capital Gains(e) - - - (.01)
Total Dividends and Distributions (1.56) (1.05) (.70) (.24)
Net Asset Value,
End of Period.......................... $11.94 $11.48 $11.11 $9.79
Total Return.............................. 18.19% 12.92% 20.66% .52%(c)
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)....................... $76,804 $61,631 $41,074 $28,041
Ratio of Expenses to
Average Net Assets................... .89% .87% .89% .95%(d)
Ratio of Net Investment Income
to Average Net Assets................ 2.55% 3.45% 4.07% 4.27%(d)
Portfolio Turnover Rate................ 131.6% 108.2% 47.1% 60.7%(d)
Average Commission Rate................ $.0569 $.0497 N/A N/A
<TABLE>
<CAPTION>
For a Share Outstanding Throughout the Year Ended December 31,
(except as noted)
BALANCED ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c)1988(c)(d)
- ---------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............ $14.44 $13.97 $11.95 $12.77 $12.58 $12.93 $11.33 $10.79 $11.89 $11.75 $10.00
Income from Investment Operations:
Net Investment Income........... .46 .40 .45 .37 .42 .23 .47 .54 .60 .62 .27
Net Realized and Unrealized
Gain (Loss) on Investments.... 2.11 1.41 2.44 (.64) .95 .75 1.61 .59 (.48) .30 1.51
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 2.57 1.81 2.89 (.27) 1.37 .98 2.08 1.13 .12 .92 1.78
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.45) (.40) (.45) (.37) (.42) (.47) (.48) (.57) (.63) (.55) (.03)
Distributions from Capital Gains (1.05) (.94) (.42) (.18) (.76) (.86) - (.02) (.59) (.23) -
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (1.50) (1.34) (.87) (.55) (1.18) (1.33) (.48) (.59) (1.22) (.78) (.03)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $15.51 $14.44 $13.97 $11.95 $12.77 $12.58 $12.93 $11.33 $10.79 $11.89 $11.75
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== =========
Total Return....................... 17.93% 13.13% 24.58% (2.09)% 11.06% 8.00%(e) 18.78% 11.36% .87% 8.55% 17.70%(e)
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== =========
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................$133,827 $93,158 $45,403 $25,043 $21,399 $18,842 $17,344 $14,555 $13,016 $12,751 $11,469
Ratio of Expenses to
Average Net Assets.............. .61% .63% .66% .69% .69% .73%(f) .72% .73% .74% .74% .80%(f)
Ratio of Net Investment Income
to Average Net Assets........... 3.26% 3.45% 4.12% 3.42% 3.30% 3.71%(f) 3.80% 5.27% 5.52% 5.55% 4.96%(f)
Portfolio Turnover Rate............ 69.7% 22.6% 25.7% 31.5% 15.8% 38.4%(f) 26.6% 27.1% 33.1% 29.3% 41.7%(f)
Average Commission Rate............ $.0394 $.0417 N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
BOND ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c) 1988(c)(d)
- ------------ ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $11.33 $11.73 $10.12 $11.16 $10.77 $11.08 $10.64 $10.72 $10.92 $10.68 $10.00
Income from Investment Operations:
Net Investment Income........... .76 .68 .62 .72 .88 .45 .91 .94 .95 1.15 .32
Net Realized and Unrealized
Gain (Loss) on Investments.... .44 (.40) 1.62 (1.04) .38 .13 .46 (.06) (.21) .17 .40
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 1.20 .28 2.24 (.32) 1.26 .58 1.37 .88 .74 1.32 .72
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.75) (.68) (.63) (.72) (.87) (.89) (.93) (.96) (.94) (.96) (.04)
Distributions from Capital Gains - - - - - - - - - (.12) -
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (.75) (.68) (.63) (.72) (.87) (.89) (.93) (.96) (.94) (1.08) (.04)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $11.78 $11.33 $11.73 $10.12 $11.16 $10.77 $11.08 $10.64 $10.72 $10.92 $10.68
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== ========
Total Return....................... 10.60% 2.36% 22.17% (2.90)% 11.67% 5.33%(e) 13.57% 8.94% 7.15% 13.51% 6.06%(e)
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== ========
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................ $81,921 $63,387 $35,878 $17,108 $14,387 $12,790 $12,024 $10,552 $9,658 $9,007 $17,598
Ratio of Expenses to
Average Net Assets.............. .52% .53% .56% .58% .59% .62%(f) .62% .63% .64% .64% .58%(f)
Ratio of Net Investment Income
to Average Net Assets........... 6.85% 7.00% 7.28% 7.86% 7.57% 8.10%(f) 8.47% 9.17% 9.09% 9.18% 8.11%(f)
Portfolio Turnover Rate............ 7.3% 1.7% 5.9% 18.2% 14.0% 6.7%(f) 6.1% 2.7% 0.0% 12.2% 68.8%(f)
Average Commission Rate............ N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
For a Share Outstanding Throughout the Year Ended December 31,
--------------------------------------------------------------
(except as noted)
-----------------
CAPITAL VALUE ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c) 1988(c)
- --------------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $29.84 $27.80 $23.44 $24.61 $25.19 $26.03 $23.35 $22.48 $23.63 $23.23 $27.51
Income from Investment Operations:
Net Investment Income........... .68 .57 .60 .62 .61 .31 .65 .74 .79 .77 .60
Net Realized and Unrealized
Gain (Loss) on Investments.... 7.52 5.82 6.69 (.49) 1.32 1.84 2.70 1.22 .14 1.32 (1.50)
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 8.20 6.39 7.29 .13 1.93 2.15 3.35 1.96 .93 2.09 (.90)
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.67) (.58) (.60) (.61) (.60) (.64) (.67) (.79) (.81) (.68) (.69)
Distributions from Capital Gains (2.76) (3.77) (2.33) (.69) (1.91) (2.35) - (.30) (1.27) (1.01) (2.69)
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (3.43) (4.35) (2.93) (1.30) (2.51) (2.99) (.67) (1.09) (2.08) (1.69) (3.38)
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $34.61 $29.84 $27.80 $23.44 $24.61 $25.19 $26.03 $23.35 $22.48 $23.63 $23.23
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== =======
Total Return....................... 28.53% 23.50% 31.91% .49% 7.79% 8.81%(d) 14.53% 9.46% 3.94% 10.02% (2.67)%
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== =======
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................$285,231 $205,019 $135,640 $120,572 $128,515 $105,355 $94,596 $76,537 $74,008 $68,132 $62,696
Ratio of Expenses to
Average Net Assets............ .47% .49% .51% .51% .51% .55%(e) .54% .53% .56% .57% .60%
Ratio of Net Investment Income
to Average Net Assets......... 2.13% 2.06% 2.25% 2.36% 2.49% 2.56%(e) 2.65% 3.53% 3.56% 3.53% 2.76%
Portfolio Turnover Rate......... 23.4% 48.5% 49.2% 44.5% 25.8% 39.7%(e) 34.8% 14.0% 30.2% 23.5% 26.7%
Average Commission Rate......... $.0451 $.0426 N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
GOVERNMENT SECURITIES
- ---------------------
ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c) 1988(c)
- ------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $10.31 $10.55 $9.38 $10.61 $10.28 $10.93 $10.24 $10.05 $10.05 $9.37 $9.47
Income from Investment Operations:
Net Investment Income........... .66 .59 .60 .76 .71 .40 .80 .80 .78 .80 .78
Net Realized and Unrealized
Gain (Loss) on Investments.... .41 (.24) 1.18 (1.24) .33 .04 .71 .24 - .34 (.09)
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 1.07 .35 1.78 (.48) 1.04 .44 1.51 1.04 .78 1.14 .69
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.66) (.59) (.61) (.75) (.71) (.78) (.81) (.81) (.78) (.46) (.79)
Distributions from Capital Gains - - - - - - - - - - -
Excess Distributions from
Capital Gains(f) ............. - - - - - (.31) (.01) (.04) - - -
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (.66) (.59) (.61) (.75) (.71) (1.09) (.82) (.85) (.78) (.46) (.79)
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $10.72 $10.31 $10.55 $9.38 $10.61 $10.28 $10.93 $10.24 $10.05 $10.05 $9.37
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== ======
Total Return....................... 10.39% 3.35% 19.07% (4.53)% 10.07% 4.10%(d) 15.34% 10.94% 8.16% 12.61% 7.69%
====== ====== ====== ======= ====== ======== ====== ====== ====== ====== ======
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................ $94,322 $85,100 $50,079 $36,121 $36,659 $31,760 $33,022 $26,021 $21,488 $15,890 $12,902
Ratio of Expenses to
Average Net Assets............ .52% .52% .55% .56% .55% .59%(e) .58% .59% .61% .63% .66%
Ratio of Net Investment Income
to Average Net Assets......... 6.37% 6.46% 6.73% 7.05% 7.07% 7.35%(e) 7.84% 8.31% 8.48% 8.68% 8.47%
Portfolio Turnover Rate......... 9.0% 8.4% 9.8% 23.2% 20.4% 34.5%(e) 38.9% 4.2% 18.7% 3.7% 2.7%
Average Commission Rate......... N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
GROWTH ACCOUNT(a) 1997 1996 1995 1994(h)
- -------------- ---- ---- ---- ----
Net Asset Value,
Beginning of Period.................... $13.79 $12.43 $10.10 $9.60
Income from Investment Operations:
Net Investment Income.................. .18 .16 .17 .07
Net Realized and Unrealized
Gain (Loss) on Investments........... 3.53 1.39 2.42 .51
----- ----- ----- -----
Total from Investment Operations 3.71 1.55 2.59 .58
Less Dividends and Distributions:
Dividends from
Net Investment Income................ (.18) (.16) (.17) (.08)
Distributions from Capital Gains....... (.10) (.03) (.09) -
Excess Distributions from Capital Gains(g) (.01) - - -
----- ----- ----- -----
Total Dividends and Distributions (.29) (.19) (.26) (.08)
----- ----- ----- -----
Net Asset Value,
End of Period.......................... $17.21 $13.79 $12.43 $10.10
====== ====== ====== ========
Total Return.............................. 26.96% 12.51% 25.62% 5.42%(e)
====== ====== ====== ========
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)....................... $168,160 $99,612 $42,708 $13,086
Ratio of Expenses to
Average Net Assets................... .50% .52% .58% .75%(f)
Ratio of Net Investment Income
to Average Net Assets................ 1.34% 1.61% 2.08% 2.39%(f)
Portfolio Turnover Rate................ 15.4% 2.0% 6.9% 0.9%(f)
Average Commission Rate................ $.0366 $.0401 N/A N/A
INTERNATIONAL ACCOUNT(a) 1997 1996 1995 1994(h)
- --------------------- ---- ---- ---- ----
Net Asset Value,
Beginning of Period.................... $13.02 $10.72 $9.56 $9.94
Income from Investment Operations:
Net Investment Income.................. .23 .22 .19 .03
Net Realized and Unrealized
Gain (Loss) on Investments........... 1.35 2.46 1.16 (.33)
----- ----- ----- -----
Total from Investment Operations 1.58 2.68 1.35 (.30)
Less Dividends and Distributions:
Dividends from
Net Investment Income................ (.23) (.22) (.18) (.05)
Total Return of Capital Dividends...... (.02) - - -
Excess Distributions from
Net Investment Income(g)............. - - - (.02)
Distributions from Capital Gains....... (.45) (.16) (.01) (.01)
----- ----- ----- -----
Total Dividends and Distributions (.70) (.38) (.19) (.08)
----- ----- ----- -----
Net Asset Value,
End of Period.......................... $13.90 $13.02 $10.72 $9.56
====== ====== ====== ==========
Total Return.............................. 12.24% 25.09% 14.17% (3.37)%(e)
====== ====== ====== ==========
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)....................... $125,289 $71,682 $30,566 $13,746
Ratio of Expenses to
Average Net Assets................... .87% .90% .95% 1.24%(f)
Ratio of Net Investment Income
to Average Net Assets................ 1.92% 2.28% 2.26% 1.31%(f)
Portfolio Turnover Rate................ 22.7% 12.5% 15.6% 14.4%(f)
Average Commission Rate................ $.0199 $.0120 N/A N/A
<TABLE>
<CAPTION>
For a Share Outstanding Throughout the Year Ended December 31,
(except as noted)
MIDCAP ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c)1988(c)(d)
- -------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $29.74 $25.33 $19.97 $20.79 $18.91 $15.97 $13.93 $14.25 $13.35 $12.85 $10.00
Income from Investment Operations:
Net Investment Income........... .24 .22 .22 .14 .17 .10 .21 .20 .24 .16 .05
Net Realized and Unrealized
Gain (Loss) on Investments.... 6.48 5.07 5.57 .03 3.47 3.09 2.04 .50 .87 1.35 2.83
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations 6.72 5.29 5.79 .17 3.64 3.19 2.25 .70 1.11 1.51 2.88
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.23) (.22) (.22) (.14) (.17) (.21) (.21) (.23) (.20) (.11) (.03)
Distributions from Capital Gains (.76) (.66) (.21) (.85) (1.59) (.04) - (.79) (.01) (.90) -
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (.99) (.88) (.43) (.99) (1.76) (.25) (.21) (1.02) (.21) (1.01) (.03)
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $35.47 $29.74 $25.33 $19.97 $20.79 $18.91 $15.97 $13.93 $14.25 $13.35 $12.85
====== ====== ====== ====== ====== ========= ====== ====== ======= ====== =========
Total Return....................... 22.75% 21.11% 29.01% .78% 19.28% 20.12%(e) 16.19% 5.72% 8.32% 13.08% 28.72%(e)
====== ====== ====== ====== ====== ========= ====== ====== ======= ====== =========
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................$224,630 $137,161 $58,520 $23,912 $12,188 $9,693 $7,829 $6,579 $6,067 $5,509 $4,857
Ratio of Expenses to
Average Net Assets.............. .64% .66% .70% .74% .78% .81%(f) .82% .89% .88% .90% .94%(f)
Ratio of Net Investment Income
to Average Net Assets........... .79% 1.07% 1.23% 1.15% .89% 1.24%(f) 1.33% 1.70% 1.74% 1.31% .64%(f)
Portfolio Turnover Rate............ 7.8% 8.8% 13.1% 12.0% 22.4% 8.6%(f) 10.1% 11.1% 17.9% 21.4% 4.6%(f)
Average Commission Rate............ $.0371 $.0379 N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
MONEY MARKET ACCOUNT(a) 1997 1996 1995 1994 1993 1992(b) 1992(c) 1991(c) 1990(c) 1989(c) 1988(c)
- -------------------- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Net Asset Value,
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Beginning of Period............. $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000
Income from Investment Operations:
Net Investment Income........... .051 .049 .054 .037 .027 .016 .046 .070 .077 .083 .064
Net Realized and Unrealized
Gain (Loss) on Investments.... - - - - - - - - - - -
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Total from Investment Operations .051 .049 .054 .037 .027 .016 .046 .070 .077 .083 .064
Less Dividends and Distributions:
Dividends from
Net Investment Income......... (.051) (.049) (.054) (.037) (.027) (.016) (.046) (.070) (.077) (.083) (.064)
Distributions from Capital Gains - - - - - - - - - - -
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Total Dividends and Distributions (.051) (.049) (.054) (.037) (.027) (.016) (.046) (.070) (.077) (.083) (.064)
----- ----- ----- ------ ----- ----- ----- ----- ----- ----- -----
Net Asset Value,
End of Period................... $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000 $1.000
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== ======
Total Return....................... 5.04% 5.07% 5.59% 3.76% 2.69% 1.54%(d) 4.64% 7.20% 8.37% 8.59% 6.61%
====== ====== ====== ====== ====== ======== ====== ====== ====== ====== ======
Ratio/Supplemental Data:
Net Assets, End of Period
(in thousands)................ $47,315 $46,244 $32,670 $29,372 $22,753 $27,680 $25,194 $26,509 $26,588 $20,707 $14,571
Ratio of Expenses to
Average Net Assets............ .55% .56% .58% .60% .60% .59%(e) .57% .56% .57% .61% .64%
Ratio of Net Investment Income
to Average Net Assets......... 5.12% 5.00% 5.32% 3.81% 2.64% 3.10%(e) 4.54% 6.94% 8.05% 8.40% 6.39%
Portfolio Turnover Rate......... N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
Average Commission Rate......... N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A
</TABLE>
Notes to Financial Highlights
(a) Effective January 1, 1998, the following Fund names were changed:
Principal Aggressive Growth Fund, Inc. became Aggressive Growth Account
Principal Asset Allocation Fund became Asset Allocation Account
Principal Balanced Fund, Inc. became Balanced Account
Principal Bond Fund, Inc. became Bond Account
Principal Capital Accumulation Fund, Inc. became Capital Value Account
Principal Emerging Growth Fund, Inc. became MidCap Account
Principal Government Securities Fund, Inc. became Government Securities
Account
Principal Growth Fund, Inc. became Growth Account
Principal Money Market Fund, Inc. became Money Market Account
Principal World Fund, Inc. became International Account
(b) Period from June 1, 1994, date shares first offered to public, through
December 31, 1994. Net investment income, aggregating $.01 per share for
Aggressive Growth Account and $.01 per share for the Asset Allocation
Account for the period from the initial purchase of shares on May 23, 1994
through May 31, 1994, was recognized, none of which was distributed to the
sole stockholder, Principal Mutual Life Insurance Company, during the
period. Additionally, the Aggressive Growth Account and the Asset
Allocation Account incurred unrealized losses on investments of $.09 and
$.03 per share, respectively, during the initial interim period. This
represented activities of each Account prior to the initial public
offering of Account shares.
(c) Total return amounts have not been annualized.
(d) Computed on an annualized basis.
(e) Due to the timing of dividend distributions and the differences in
accounting for income and realized gains (losses) for financial statement
and federal income tax purposes, the fiscal year in which amounts are
distributed may differ from the year in which the income and realized
gains (losses) are recorded for financial statement purposes by the fund.
The differences between the income and gains distributed on a book versus
tax basis are shown in the Financial Highlights as excess distributions
from net investment income and from capital gains.
(f) Effective July 1, 1992 the Account changed its fiscal year end from June 30
to December 31. This column represents the period July 1, 1992 to December
31, 1992.
(g) Fiscal year end June 30.
(h) Period from December 18, 1987, date shares first offered to eligible
purchasers, through June 30, 1988. Net investment income aggregating $.01
per share for the period from the initial purchase of shares on December
10, 1987 through December 17, 1987 was recognized, all of which was
distributed to the Account's sole stockholder, Principal Mutual Life
Insurance Company. This represented activity of the Account prior to the
initial offering of shares to eligible purchasers.
(i) Period from May 1, 1994, date shares first offered to the public, through
December 31, 1994. Net investment income, aggregating $.01 per share for
the Growth Account and $.04 per share for the International Account for
the period from the initial purchase of shares on March 23, 1994 through
April 30, 1994, was recognized, none of which was distributed to the sole
stockholder, Principal Mutual Life Insurance Company, during the period.
Additionally, the Growth Account and the International Account incurred
unrealized losses on investments of $.41 and $.10 per share, respectively,
during the initial interim period. This represented activities of each
Account prior to the initial public offering of Account shares.
INVESTMENT OBJECTIVES, POLICIES AND RESTRICTIONS
The investment objectives and policies of each Account are described below.
There can be no assurance that the objectives of the Accounts will be realized.
Growth-Oriented Accounts
The Growth-Oriented Accounts have different approaches to achieving their
investment objectives. They seek:
-- long-term growth of capital through investments primarily in equity
securities of corporations established in the United States ("U.S.")
(Aggressive Growth, Capital Value, Growth, MicroCap, MidCap, MidCap
Growth, SmallCap, SmallCap Growth and SmallCap Value Accounts)
-- total investment return including both capital appreciation and income
through investments in equity and debt securities (Asset Allocation and
Balanced Accounts)
-- long-term growth of capital primarily through investments in equity
securities of corporations located outside of the U.S.
(International and International SmallCap Accounts)
-- long-term growth of income and capital through investment in equity
securities of companies principally engaged in the real estate industry
(Real Estate Account)
-- current income and long-term growth of income and capital through
investment in equity and fixed-income securities of public utilities
companies (Utilities Account)
The Growth-Oriented Accounts may invest in the following equity securities:
common stocks; preferred stocks and debt securities that are convertible into
common stock, that carry rights or warrants to purchase common stock or that
carry rights to participate in earnings; rights or warrants to subscribe to or
purchase any of the foregoing securities; and depository receipts based on any
of the foregoing securities. The Aggressive Growth, Capital Value, Growth,
International, MidCap and SmallCap Value Accounts will seek to be fully invested
under normal conditions in equity securities. When, in the opinion of the
Manager or Sub-Advisor, current market or economic conditions warrant, a
Growth-Oriented Account may for temporary defensive purposes place all or a
portion of its assets in cash, on which the Account would earn no income, cash
equivalents, bank certificates of deposit, bankers acceptances, repurchase
agreements, commercial paper, commercial paper master notes which are floating
rate debt instruments without a fixed maturity, United States Government
securities, and preferred stocks and debt securities, whether or not convertible
into or carrying rights for common stock. When investing for temporary defensive
purposes, a Growth-Oriented Account is not investing so as to achieve its
investment objective. A Growth-Oriented Account may also maintain reasonable
amounts in cash or short-term debt securities for daily cash management purposes
or pending selection of particular long-term investments.
Aggressive Growth Account
The Aggressive Growth Account's investment objective is to provide long-term
capital appreciation by investing primarily in growth-oriented common stocks of
medium and large capitalization U.S. corporations and, to a limited extent,
foreign corporations. Common stocks for this purpose include common stocks and
equivalents, such as securities convertible into common stocks and securities
having common stock characteristics, such as rights and warrants to purchase
common stocks. Under normal circumstances, the Account will invest at least 65%
of the value of its total assets in common stocks.
The Account employs a flexible and eclectic investment process in pursuit of its
investment objective. In selecting stocks for the Account, the Sub-Advisor,
MSAM, concentrates on a universe of rapidly growing, high quality companies and
lower but accelerating earnings growth situations. The Sub-Advisor's universe of
potential investments generally comprises companies with market capitalizations
of $750 million or more and is not restricted to specific market sectors. The
Sub-Advisor uses its research capabilities, analytical resources and judgment to
assess economic, industry and market trends, as well as individual company
developments, to select promising growth investments for the Account. The
Sub-Advisor concentrates on companies with strong, communicative managements and
clearly defined strategies for growth. In addition, the Sub-Advisor rigorously
assesses company developments, including changes in strategic direction,
management focus and current and likely future earnings results. Valuation is
important to the Sub-Advisor but is viewed in the context of prospects for
sustainable earnings growth and the potential for positive earnings surprises
vis-a-vis consensus expectations. The Account is free to invest in any common
stock which in the Sub-Advisor's judgment provides above average potential for
capital appreciation.
In selecting investments for the Account, the Sub-Advisor emphasizes individual
security selection. The Account's investments will generally be diversified by
industry but concentrated sector positions may result from the investment
process. The Account has a long-term investment perspective; however, the
Sub-Advisor may take advantage of short-term opportunities that are consistent
with its objective by selling recently purchased securities which have increased
in value.
The Account may invest in common stock and convertible securities of domestic
and foreign corporations. However, the Account does not expect to invest more
than 25% of its total assets at the time of purchase in securities of foreign
companies. The Account may invest in securities of foreign issuers directly or
in the form of depository receipts. The Account may enter into forward foreign
currency exchange contracts which provide for the purchase or sale of foreign
currencies in connection with the settlement of foreign securities transactions
or to hedge the underlying currency exposure related to foreign investments. The
Account will not enter into these commitments for speculative purposes.
Investors should recognize that investing in foreign companies involves certain
special considerations which are not typically associated with investing in U.S.
companies. See Certain Investment Policies and Restrictions - Foreign Securities
and Currency Contracts.
The Account may invest in convertible securities of domestic and, subject to the
above restrictions, foreign issuers on occasions when, due to market conditions,
it is more advantageous to purchase such securities than common stock.
Convertible securities entitle the holder to exchange the securities for a
specified number of shares of common stock, usually of the same company, at
specified prices within a certain period of time and to receive interest or
dividends until the holder elects to exercise the conversion privilege. Since
the Account invests in both common stocks and convertible securities, the risks
of investing in the general equity markets may be tempered to a degree by the
Account's investments in convertible securities which are often not as volatile
as equity securities.
Asset Allocation Account
The Asset Allocation Account seeks to generate a total investment return
consistent with preservation of capital. In seeking to achieve its objective,
the Account intends to pursue a flexible investment policy by investing
primarily in the common stock and other securities having common stock
characteristics of large and small domestic or foreign companies that appear to
be undervalued relative to their earnings results or potential, or whose
earnings growth prospects appear to be more attractive than the economy as a
whole, and domestic or foreign fixed-income securities, including high yield
securities when, in the judgement of the Sub-Advisor, MSAM, it is appropriate to
do so.
The securities in which the Account invests will be identified as belonging to
an "asset class." Asset classes may include, but are not limited to: small
capitalization (companies whose market value is less than $1 billion) growth and
value stocks; medium capitalization (companies whose market value is greater
than $1 billion but less than $7 billion) growth and value stocks; large
capitalization (companies whose market value is greater than $7 billion) growth
and value stocks; domestic real estate investment trusts; common stocks of
foreign corporations, domestic fixed-income securities; domestic high yield
fixed-income securities; foreign fixed-income securities; and money market (debt
securities maturing in one year or less). "Value" stocks are generally defined
as companies with distinctly below average stock price to earnings ratios and
stock price to book value ratios, and higher than average dividend yields.
"Growth" stocks are generally defined as those companies whose earnings are
expected to grow more rapidly than the economy as a whole.
The allocation among asset classes is designed to lessen overall investment risk
through participation in a variety of types of investments in several markets.
Reallocation among asset classes, or the elimination of an asset class for a
period of time, will occur when in the Sub-Advisor's judgement such shift offers
the investor better prospects of achieving the overall investment objective of
the Account. Under normal conditions, abrupt shifts among asset classes will not
occur and it is not the policy of the Sub-Advisor to attempt market timing. The
Sub-Advisor does not undertake to maintain a specific portion of the Account in
any asset class, but expects that over time the investment mix will be within
the following ranges: 25% to 75% in equities, 20% to 60% in fixed-income
securities and 0% to 40% in money market instruments. Factors involved with this
decision will depend upon the judgement of the Sub-Advisor as to general market
and economic conditions, trends and investment yields and interest rates and
changes in fiscal or monetary policies. The Sub-Advisor will seek to minimize
declines in the net asset value per share; however, there is no guarantee this
goal can be achieved.
The Account may invest in all types of common stocks and other equities and
investments, without regard to any objective investment criteria such as size of
the issue or issuer, exchange listing or seasoning. The Account may invest in
both exchange listed and over-the-counter securities, including American
Depository Receipts ("ADRs") and closed end mutual funds. The Account's
investments in corporate bonds and debentures and money market instruments are
not restricted by credit ratings or other objective investment criteria, except
with respect to bank certificates of deposit as set forth below. See
Below-Investment Grade Bonds for a discussion of the risks associated with these
securities. Normally, investments in below investment grade bonds are not
expected to exceed 20% of Account assets. Securities purchases may be either
U.S. dollar or non-U.S. dollar denominated.
To achieve its investment objective, the Account may at times emphasize the
generation of interest income by investing in short, medium or long-term
fixed-income securities. Investment in those securities may also be made with a
view to realizing capital appreciation when the Sub-Advisor believes that
declining interest rates may increase market values.
Money market instruments in which the Account may invest may include U.S.
Treasury bills, bank certificates of deposit, bankers acceptances, repurchase
agreements, commercial paper and commercial paper master notes which are
floating rate debt instruments without a fixed maturity, and non-U.S. dollar
denominated money market instruments. The Account will only invest in domestic
bank certificates of deposit issued by banks which are members of the Federal
Reserve System that have total deposits in excess of $1 billion.
The Account may invest in U.S. government securities including U.S. Treasury
obligations and obligations of certain agencies such as the Government National
Mortgage Association which are supported by the full faith and credit of the
United States, as well as obligations of certain other federal agencies or
instrumentalities which are backed only by the right of the issuer to borrow
limited funds from the U.S. Treasury, by the discretionary authority of the U.S.
government to purchase such obligations or by the credit of the agency or
instrumentality itself.
Balanced Account
The investment objective of Balanced Account is to generate a total return
consisting of current income and capital appreciation while assuming reasonable
risks in furtherance of the investment objective. The term "reasonable risks"
refers to investment decisions that in the judgment of the Sub-Advisor, Invista,
do not present a greater than normal risk of loss in light of current or
anticipated future market and economic conditions, trends in yields and interest
rates, and fiscal and monetary policies.
In seeking to achieve the investment objective, the Account invests primarily in
growth and income-oriented common stocks (including securities convertible into
common stocks), corporate bonds and debentures and short-term money market
instruments. The Account may also invest in other equity securities, and in debt
securities issued or guaranteed by the United States Government and its agencies
or instrumentalities. The Account seeks to generate real (inflation plus) growth
during favorable investment periods and may emphasize income and capital
preservation strategies during uncertain investment periods. The Sub-Advisor
will seek to minimize declines in the net asset value per share. However, there
is no guarantee that the Sub-Advisor will be successful in achieving this goal.
The portions of the Account's total assets invested in equity securities, debt
securities and short-term money market instruments are not fixed, although
ordinarily 40% to 70% of the Account's portfolio will be invested in equity
securities with the balance of the portfolio invested in debt securities. The
investment mix will vary from time to time depending upon the judgment of the
Sub-Advisor as to general market and economic conditions, trends in investment
yields and interest rates and changes in fiscal or monetary policies.
The Account may invest in all types of common stocks and other equity
investments, without regard to any objective investment criteria such as size of
the issue or issuer, exchange listing or seasoning. The Account may invest in
both exchange-listed and over-the-counter securities, in small or large
companies, and in well-established or unseasoned companies. Also, the Account's
investments in corporate bonds and debentures and money market instruments are
not restricted by credit ratings or other objective investment criteria, except
with respect to bank certificates of deposit as set forth below. Some of the
fixed income securities in which the Account may invest may be considered to
include speculative characteristics and the Account may purchase such securities
that are in default but does not currently intend to invest more than 5% of its
assets in securities rated below BBB by Standard & Poor's or Baa by Moody's. See
Certain Investment Policies and Restrictions - Below Investment-Grade Bonds for
a discussion of the risks associated with these securities. The rating services'
descriptions of BBB or Baa securities are as follows: Moody's Investors Service,
Inc. Bond Ratings -- Baa: Bonds which are rated Baa are considered as medium
grade obligations, i.e., they are neither highly protected nor poorly secured.
Interest payments and principal security appear adequate for the present but
certain protective elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack outstanding investment
characteristics and in fact have speculative characteristics as well. Standard &
Poor's Corporation Bond Ratings -- 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. The Account will not concentrate its investments in any industry.
In selecting common stocks, the Sub-Advisor seeks companies which it believes
have predictable earnings increases and which, based on their future growth
prospects, may be currently undervalued in the market place. During periods when
the Sub-Advisor determines that general economic conditions are favorable, it
will generally purchase common stocks with the objective of long-term capital
appreciation. From time to time, and in periods of economic uncertainty, the
Sub-Advisor may purchase common stocks with the expectation of price
appreciation over a relatively short period of time.
To achieve its investment objective, the Account may at times emphasize the
generation of interest income by investing in short, medium or long-term debt
securities. Investment in debt securities may also be made with a view to
realizing capital appreciation when the Manager believes that declining interest
rates may increase market values. The Account may also purchase "deep discount
bonds," i.e., bonds which are selling at a substantial discount from their face
amount, with a view to realizing capital appreciation.
The short-term money market investments in which the Account may invest include
the following: U.S. Treasury bills, bank certificates of deposit, bankers'
acceptances, repurchase agreements, commercial paper and commercial paper master
notes which are floating rate debt instruments without a fixed maturity. The
Account will only invest in domestic bank certificates of deposit issued by
banks which are members of the Federal Reserve System that have total deposits
in excess of $1 billion.
The United States government securities in which the Account may invest include
U.S. Treasury obligations and obligations of certain agencies, such as the
Government National Mortgage Association, which are supported by the full faith
and credit of the United States, as well as obligations of certain other Federal
agencies or instrumentalities, such as the Federal National Mortgage
Association, Federal Land Banks and the Federal Farm Credit Administration,
which are backed only by the right of the issuer to borrow limited funds from
the U.S. Treasury, by the discretionary authority of the U.S. Government to
purchase such obligations or by the credit of the agency or instrumentality
itself.
Capital Value Account
The primary objective of Capital Value Account is long-term capital
appreciation. A secondary objective is growth of investment income.
The Account will invest primarily in common stocks, but it may invest in other
securities. In making selections for the Account's investment portfolio, the
Sub-Advisor, Invista, will use an approach described broadly as that of
fundamental analysis, which is discussed in the Statement of Additional
Information. To achieve the investment objective, Invista will invest in
securities that have "value" characteristics. This process is known as "value
investing." Value investing is purchasing securities of companies with above
average dividend yields and below average price to earnings (P/E) ratios.
Securities chosen for investment may include those of companies which Invista
believes can reasonably be expected to share in the growth of the nation's
economy over the long term.
Growth Account
The objective of Growth Account is growth of capital. Realization of current
income will be incidental to the objective of growth of capital.
The Account will invest primarily in common stocks, but it may invest in other
equity securities. In making selections for the Account's investment portfolio,
the Sub-Advisor, Invista, will use an approach described broadly as that of
fundamental analysis, which is discussed in the Statement of Additional
Information. In pursuit of the Account's investment objective, investments will
be made in securities which as a group appear to possess potential for
appreciation in market value. Common stocks chosen for investment may include
those of companies which have a record of sales and earnings growth that exceeds
the growth rate of corporate profits of the S&P 500 or which offer new products
or new services. The policy of investing in securities which have a high
potential for growth of capital can mean that the assets of the Account may be
subject to greater risk than securities which do not have such potential.
International Account
The investment objective of International Account is to seek long-term growth of
capital through investment in a portfolio of equity securities of companies
domiciled in any of the nations of the world. In choosing investments in equity
securities of foreign and United States corporations, the Sub-Advisor, Invista,
intends to pay particular attention to long-term earnings prospects and the
relationship of then-current prices to such prospects. Short-term trading is not
generally intended, but occasional investments may be made for the purpose of
seeking short-term or medium-term gain. The Account expects its investment
objective to be met over long periods which may include several market cycles.
For a description of certain investment risks associated with foreign
securities, see Certain Investment Policies and Restrictions - Foreign
Securities.
For temporary defensive purposes, the International Account may invest in the
same kinds of securities as the other Growth-Oriented Accounts whether issued by
domestic or foreign corporations, governments, or governmental agencies,
instrumentalities or political subdivisions and whether denominated in United
States dollars or some other currency.
The Account intends that its investments normally will be allocated among
various countries. Although there is no limitation on the percentage of assets
that may be invested in any one country or denominated in any one currency, the
Account intends under normal market conditions to have at least 65% of its
assets invested in securities issued by corporations of at least five countries,
one of which may be the United States (although the Account currently intends
not to invest in equity securities of United States companies). Investments may
be made anywhere in the world, but it is expected that primary consideration
will be given to investing in the securities issued by corporations of Western
Europe, North America and Australasia (Australia, Japan and Far East Asia) that
have developed economies. Changes in investments may be made as prospects change
for particular countries, industries or companies.
International SmallCap Account
The investment objective of International SmallCap Account is long-term growth
of capital. The strategy of this Account is to invest primarily in equity
securities of non-United States companies with comparatively smaller market
capitalizations. Under normal market conditions, the Account invests at least
65% of its assets in securities of companies having a total market
capitalization of $1 billion or less.
The Account diversifies its investments geographically. Although there is no
limitation on the percentage of assets that may be invested in any one country
or denominated in any one currency, the Account intends, under normal market
conditions, to have at least 65% of its assets invested in securities issued by
corporations of at least three countries. For a description of certain
investment risks associated with foreign securities, see Certain Investment
Policies and Restrictions - Foreign Securities.
For temporary defensive purposes, the International SmallCap Account may invest
in the same kinds of securities as the other Growth-Oriented Accounts whether
issued by domestic or foreign corporations, governments, or governmental
agencies, instrumentalities or political subdivisions and whether denominated in
United States dollars or some other currency.
MicroCap Account
The investment objective of MicroCap Account is long-term growth of capital.
Under normal market conditions, the Account invests at least 65% of its total
assets in equity securities of companies with market capitalizations of $700
million or less at the time of investment. Under normal circumstances, the
Account's investment horizon for ownership of equity securities will be two to
three years. Dividend income, if any, is an incidental consideration.
The Account invests in companies which the Sub-Advisor, GSAM, believes are well
managed niche businesses that have the potential to achieve high or improving
returns on capital and/or above average sustainable growth. The Sub-Advisor will
invest in companies that have what has become known in the investment industry
as "value" characteristics as well as companies that have "growth"
characteristics with no consistent preference between the two categories.
Companies with value characteristics may have above average dividend yields and
generally have below average price to book (P/B) and or price to earnings (P/E)
ratios. Growth companies are generally those whose sales and earnings growth is
expected to exceed the growth rate of corporation profits of the S&P 500 or
which offer new products or new services. The Account may invest in securities
of small market capitalization companies which may have experienced financial
difficulties. Investments may also be made in companies that are in the early
stages of their life and that the Sub-Advisor believes have significant growth
potential. The Sub-Advisor believes that the companies in which the Account may
invest offer greater opportunities for growth of capital than larger, more
mature, better known companies. However, investments in such small market
capitalization companies involve special risks. See Certain Investment Policies
and Restrictions - Securities of Smaller Companies and Unseasoned Issuers.
The Account may invest in the aggregate up to 35% of its total assets in the
equity securities of companies with market capitalizations in excess of $700
million at the time of investment and in fixed income securities. In addition,
although the Account will invest primarily in publicly traded U.S. securities,
it may invest up to 25% of its total assets in foreign securities, including
securities of issuers in emerging countries and securities quoted in foreign
currencies. See Certain Investment Policies and Restrictions - Foreign
Securities.
The Account may invest in real estate investment trusts ("REITs") which are
pooled investment vehicles that invest in either real estate or real estate
related loans. The value of a REIT is affected by changes in the value of the
underlying property owned by the trust, quality of any credit extended and the
ability of the trust's management. REITs are also subject to risks generally
associated with investments in real estate. The Account will indirectly bear its
proportionate share of any expenses, including management fees, paid by a REIT
in which it invests.
MidCap Account
The objective of MidCap Account is to achieve capital appreciation. The strategy
of this Account is to invest primarily in the common stocks and securities (both
debt and preferred stock) convertible into common stocks of emerging and other
growth-oriented companies that, in the judgment of the Sub-Advisor, Invista, are
responsive to changes within the marketplace and have the fundamental
characteristics to support growth. In pursuing its objective of capital
appreciation, the MidCap Account may invest, for any period of time, in any
industry, in any kind of growth-oriented company, whether new and unseasoned or
well known and established. Under normal market conditions, the Account will
invest at least 65% of its assets in securities of companies with market
capitalizations in the $1 billion to $10 billion range. The Account may invest
up to 10% of its assets in securities of foreign issuers. For a description of
certain investment risks associated with foreign securities, see Certain
Investment Policies and Restrictions Foreign Securities.
There can be, of course, no assurance that the Account will attain its
objective. Investment in emerging and other growth-oriented companies may
involve greater risk than investment in other companies. The securities of
growth-oriented companies may be subject to more abrupt or erratic market
movements, and many of them may have limited product lines, markets, financial
resources or management. Because of these factors and of the length of time that
may be required for full development of the growth prospects of some of the
companies in which the Account invests, the Account believes that its shares are
suitable only for persons who are prepared to experience above-average
fluctuations in net asset value, to assume above-average investment risk in
search of above-average return, and to consider the Account as a long-term
investment and not as a vehicle for seeking short-term profits. Moreover, since
the Account will not be seeking current income, investors should not view a
purchase of Account shares as a complete investment program.
MidCap Growth Account
The investment objective of MidCap Growth Account is long-term growth of
capital. The Account attempts to maintain a diversified holding in common stocks
of medium capitalization companies, generally firms with a market value between
$1 billion and $10 billion. In the view of the Sub-Advisor, Dreyfus, many
medium-sized companies are in fast-growing industries, offer superior earnings
growth potential, and are characterized by strong balance sheets and high
returns on equity. However, because the companies in this market are smaller,
prices of their stocks tend to be more volatile than stocks of companies with
larger capitalizations. The Account may also hold investments in large and small
capitalization companies, including emerging and cyclical growth companies.
Emerging and cyclical growth companies are firms, which while they may not have
a history of stable long-term growth, are nonetheless expected to represent
attractive investments. See Certain Investment Policies and Restrictions -
Securities of Smaller Companies and Unseasoned Issuers.
The Account may also invest in preferred stock and other securities having
equity features such as convertible bonds, warrants and rights (subject to
certain restrictions). In addition, the Account may hold foreign securities,
corporate fixed-income securities, government securities, and short-term
investments. Because income is not an objective of the Account, any income
produced will be a by-product of the effort to achieve the Account's objective
of long-term growth of capital. See Certain Investment Policies and Restrictions
- - Foreign Securities.
Common stocks are selected for the Account so that, in the aggregate, the
investment characteristics and risk profile of the Account are similar to the
S&P MidCap 400 Index ("S&P MidCap"). While it may maintain aggregate investment
characteristics similar to the S&P MidCap, the Account seeks to invest in common
stocks of companies which in the aggregate will provide a higher total return
than the S&P MidCap. The Account is not an index fund and its investments are
not limited to securities of issuers included in the S&P MidCap.
The Sub-Advisor uses valuation models designed to identify common stocks of
companies that have demonstrated consistent earnings momentum and delivered
superior results relative to market analyst expectation. Other evaluative
considerations include profit margins, growth in cash flow and other standard
balance sheet measures. The securities held are generally characterized by
strong earnings momentum measures and higher expected earnings per share growth
with an eye on the underlying asset value not fully reflected in the current
market price. Once such common stocks are identified, the Sub-Advisor constructs
a portfolio, that in the aggregate breakdown and risk profile resembles the S&P
MidCap, but is weighted toward the most attractive stocks. The valuation model
incorporates information about the relevant criteria as of the most recent
period for which data are available. Once ranked, the securities are categorized
under the headings "buy", "sell" or "hold." The Sub-Advisor decides whether to
buy, sell, or hold the security based principally on the model's categorization,
subject to modification based on subsequently available or other specific
relevant information about the security.
Real Estate Account
The investment objective of Real Estate Account is to generate total return. The
Account will attempt to achieve its objective by investing primarily in equity
securities of companies principally engaged in the real estate industry. The
Account will seek to achieve its objective by seeking, with approximately equal
emphasis, long-term capital growth and current income through the purchase of
equity securities.
Under normal circumstances the Account will invest at least 65 percent of its
assets in the equity securities of real estate companies. Equity securities
include common stock (including shares in real estate investment trusts),
preferred stock, rights and warrants. A real estate investment trust ("REIT") is
a corporation, or a business trust which, in satisfying certain Internal Revenue
Code requirements, is permitted to effectively eliminate corporate level federal
income taxes. Qualifying REITs must, among other things, derive substantially
all of their income from real estate assets and annually distribute to
shareholders 95 percent or more of their otherwise taxable income.
REITs are characterized as equity REITs, mortgage REITs and hybrid REITs. An
equity REIT invests primarily in the fee ownership of real estate and revenue is
primarily derived from rental income. A mortgage REIT primarily invests in real
estate mortgages and hybrid REITs combine the characteristics of both an equity
REIT and a mortgage REIT.
For purposes of the Account's investment policies, a real estate company is one
that has at least 50% of its assets, income or profits attributable to products
or services related to the real estate industry. Real estate companies include
REITs or other securitized real estate investments and companies with
substantial real estate holdings such as paper, lumber, hotel and entertainment
companies. Companies whose products and services relate to the real estate
industry include building supply manufacturers, mortgage lenders and mortgage
servicing companies. The Account may invest up to 25% of its total assets in
securities of foreign real estate companies, see Certain Investment Policies and
Restrictions - Foreign Securities.
Securities issued by real estate companies may be subject to risks similar to
those associated with the direct ownership of real estate (in addition to
securities market risks) because of its policy of concentration in the
securities of companies in the real estate industry. These include declines in
the value of real estate, risks related to general and local economic
conditions, dependency on management skills, heavy cash flow dependency,
possible lack of availability of mortgage funds, overbuilding, extended
vacancies in properties, increases in property taxes and operating expenses,
changes in zoning laws, losses due to costs resulting from the cleanup of
environmental problems, casualty or condemnation losses, changes in neighborhood
values and changes in interest rates.
In addition to these risks, equity REITS may be affected by changes in the value
of the underlying property owned by the trusts, while mortgage REITS may be
affected by the quality of any credit extended. Further, equity and mortgage
REITS are dependent upon management skills and generally may not be diversified.
Equity and mortgage REITS are also subject to heavy cash flow dependency,
defaults by borrowers and self-liquidation. In addition, equity or mortgage
REITS could possibly fail to qualify for tax free pass-through of income under
the Internal Revenue Code of 1986, as amended, or to maintain their exemptions
from registration under the Investment Company Act of 1940. The above factors
may also adversely affect a borrower's or lessee's ability to meet its
obligations to the REIT. In the event of a default by a borrower or lessee, the
REIT may experience delays in enforcing its rights as a mortgagee or lessor and
may incur substantial costs associated with protecting its investments.
SmallCap Account
The investment objective of SmallCap Account is long-term growth of capital. The
strategy of this Account is to invest primarily in equity securities of
companies domiciled in the United States with comparatively smaller market
capitalizations. Under normal market conditions, the Account invests at least
65% of its assets in securities of companies having a total market
capitalization of $1 billion or less.
In selecting securities for investment, the Sub-Advisor, Invista, will look at
stocks with both "growth" and "value" characteristics, with no consistent
preference between the two categories. The growth orientation emphasizes buying
stocks of companies whose potential for growth of capital and earnings is
expected to be above average. The value orientation emphasizes buying stocks at
less than their intrinsic value and avoiding those whose price has been
speculatively bid up.
SmallCap Growth Account
The investment objective of SmallCap Growth Account is long-term growth of
capital. In seeking to achieve its objective, the Account invests primarily in a
diversified group of equity securities of small growth companies with a market
capitalization of less than $1 billion at the time of initial purchase. Growth
companies are generally those whose sales and earnings growth is expected to
exceed the growth rate of corporate profits of the S&P 500 or which offer new
products or new services. Under normal market conditions, the Account will
invest at least 65% of its assets in equity securities of such companies,
consisting of common and preferred stock and other securities having equity
features such as convertible bonds, warrants and rights (subject to certain
restrictions). The balance of the Account may include equity securities of
companies with market capitalization in excess of $1 billion, foreign
securities, securities of unseasoned issuers, corporate fixed-income securities,
government securities, and short-term investments. Because income is not an
objective of the Account, any income produced will be a by-product of the effort
to achieve the Account's objective of long-term growth of capital. See Certain
Investment Policies and Restrictions - Foreign Securities and Unseasoned
Issuers.
In selecting securities for investment, the Account places primary emphasis on
companies which it believes have favorable growth prospects. The Sub-Advisor,
Berger, seeks to identify small growth companies that either occupy a dominant
position in an emerging industry or a growing market share in larger fragmented
industries. While these companies may present above average risk, the
Sub-Advisor believes that they may have the potential to achieve long-term
earnings growth substantially in excess of the growth of earning of other
companies. See Certain Investment Policies and Restrictions - Securities of
Smaller Companies.
SmallCap Value Account
The investment objective of SmallCap Value Account is long-term growth of
capital. In seeking to achieve its objective, the Account invests primarily in a
diversified group of equity securities of small U.S. companies with market
capitalizations of less than $1 billion at the time of initial purchase.
Emphasis will be given to those companies that exhibit "value" characteristics.
These characteristics are above average dividend yield and below average price
to earnings (P/E) ratios. Under normal market conditions, the Sub-Advisor, J.P.
Morgan Investment, intends to keep the Account fully invested with at least 65%
of its assets in equity securities. See Certain Investment Policies and
Restrictions - Securities of Smaller Companies.
The Sub-Advisor uses fundamental research, systematic stock valuation and a
disciplined portfolio construction process to seek to enhance returns and reduce
volatility in the market value of the Account relative to that of the U.S. small
company value universe, represented by the Russell 2000(R) Value Index. The
Sub-Advisor continuously screens the small company universe to identify for
further analysis those companies which exhibit favorable characteristics such as
significant and predictable cash flow and high quality management. Based on
fundamental research and using a dividend discount model, the Sub-Advisor ranks
these companies within economic sectors according to their relative value. The
Sub-Advisor then selects for purchase the companies it feels to be most
attractive within each economic sector.
The Sub-Advisor believes that under normal market conditions, the Account will
have sector weightings comparable to that of the U.S. small company value
universe, although it may under or over-weight selected economic sectors. In
addition, as a company moves out of the market capitalization range of the small
company universe, it generally becomes a candidate for sale by the Account.
The Account intends to manage its investments actively to accomplish its
investment objective. Since the Account has a long-term investment perspective,
it does not intend to respond to short-term market fluctuations or to acquire
securities for the purpose of short-term trading; however, it may take advantage
of short-term trading opportunities that are consistent with its objective. To
the extent that the Account engages in short-term trading, it may incur an
increase in transaction costs.
Utilities Account
The investment objective of Utilities Account is to provide current income and
long-term growth of income and capital. The Account seeks to achieve its
investment objective by investing primarily in equity and fixed-income
securities of companies engaged in the public utilities industry. The term
"public utilities industry" consists of companies engaged in the manufacture,
production, generation, transmission, sale and distribution of gas and electric
energy, as well as companies engaged in the communications field, including
telephone, telegraph, satellite, microwave and other companies providing
communication facilities for the public, but excluding public broadcasting
companies. For purposes of the Account, a company will be considered to be in
the public utilities industry if, during the most recent twelve-month period, at
least 50% of the company's gross revenues, on a consolidated basis, is derived
from the public utilities industry. Under normal market conditions, the Account,
as an investment policy, will invest at least 65%, and may invest up to 100%, of
its total assets in securities of companies in the public utilities industry. As
a non-fundamental policy, the Account may not own more than 5% of the
outstanding voting securities of more than one public utility company as defined
by the Public Utility Holding Company Act of 1935.
Income-Oriented Accounts
The Fund currently includes two Accounts which seek a high level of income
through investments in fixed-income securities (Bond Account and Government
Securities Account) collectively referred to as the "Income-Oriented Accounts."
An investment in either of the Income-Oriented Accounts involves market risks
associated with movements in interest rates. The market value of the Accounts'
investments will fluctuate in response to changes in interest rates and other
factors. During periods of falling interest rates, the values of outstanding
long-term fixed-income securities generally rise. Conversely, during periods of
rising interest rates, the values of such securities generally decline. Changes
by recognized rating agencies in their ratings of any fixed-income security and
in the ability of an issuer to make payments of interest and principal may also
affect the value of these investments. Changes in the value of portfolio
securities will affect the Accounts' net asset values but will not affect cash
income derived from the securities unless a change results from a failure of an
issuer to pay interest or principal when due. Each Account's rating limitations
apply at the time of acquisition of a security, and any subsequent change in a
rating by a rating service will not require elimination of a security from the
Account's portfolio. The Statement of Additional Information contains
descriptions of ratings of Moody's Investors Service, Inc. ("Moody's") and
Standard and Poor's Corporation ("S&P").
Bond Account
The investment objective of the Bond Account is to provide as high a level of
income as is consistent with preservation of capital and prudent investment
risk.
In seeking to achieve the investment objective, the Account will predominantly
invest in marketable fixed-income securities. Investments will be made generally
on a long-term basis, but the Account may make short-term investments from time
to time as deemed prudent by the Manager. Longer maturities typically provide
better yields but will subject the Account to a greater possibility of
substantial changes in the values of its portfolio securities as interest rates
change.
Under normal circumstances, the Account will invest at least 65% of its assets,
exclusive of cash items, in one or more of the following kinds of securities:
(i) corporate debt securities and taxable municipal obligations, which at the
time of purchase have an investment grade rating within the four highest grades
used by Standard & Poor's Corporation (AAA, AA, A or BBB) or by Moody's
Investors Service, Inc. (Aaa, Aa, A or Baa) or which, if lower-rated or
nonrated, are comparable in quality in the opinion of the Account's Manager;
(ii) similar Canadian corporate, Provincial and Federal Government securities
payable in U.S. funds; and (iii) securities issued or guaranteed by the United
States Government or its agencies or instrumentalities. The balance of the
Account's assets may be invested in other fixed income securities, including
domestic and foreign corporate debt securities or preferred stocks, in common
stocks that provide returns that compare favorably with the yields on fixed
income investments, and in common stocks acquired upon conversion of debt
securities or preferred stocks or upon exercise of warrants acquired with debt
securities or otherwise and foreign government securities. The debt securities
and preferred stocks in which the Account invests may be convertible or
nonconvertible. The Account does not intend to purchase debt securities rated
lower than Ba3 by Moody's or BB by S & P (bonds which are judged to have
speculative elements; their future cannot be considered as well-assured). See
Certain Investment Policies and Restrictions - Below Investment-Grade Bonds for
a discussion of the risks associated with these securities. The rating services'
descriptions of BBB or Baa securities are as follows: Moody's Investors Service,
Inc. Bond Ratings -- Baa: Bonds which are rated Baa are considered as medium
grade obligations, i.e., they are neither highly protected nor poorly secured.
Interest payments and principal security appear adequate for the present but
certain protective elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack outstanding investment
characteristics and in fact have speculative characteristics as well. Standard &
Poor's Corporation Bond Ratings -- 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.
Cash equivalents in which the Account invests include corporate commercial paper
rated A-1+, A-1 or A-2 by Standard & Poor's or P-1 or P-2 by Moody's, unrated
commercial paper issued by corporations with outstanding debt securities rated
in the four highest grades by Standard & Poor's and Moody's and bank
certificates of deposit and bankers' acceptances issued or guaranteed by
national or state banks and repurchase agreements considered by the Account to
have investment quality. Under unusual market or economic conditions, the
Account may for temporary defense purposes invest up to 100% of its assets in
cash or cash equivalents.
Government Securities Account
The objective of Government Securities Account is a high level of current
income, liquidity and safety of principal.
The Account will invest in obligations issued or guaranteed by the United States
Government or by its agencies or instrumentalities and in repurchase agreements
collateralized by such obligations. Such securities include Government National
Mortgage Association ("GNMA") Certificates of the modified pass-through type,
Federal National Mortgage Association ("FNMA") Obligations, Federal Home Loan
Mortgage Corporation ("FHLMC") Certificates and Student Loan Marketing
Association ("SLMA") Certificates and other U.S. Government Securities. GNMA is
a wholly-owned corporate instrumentality of the United States whose securities
and guarantees are backed by the full faith and credit of the United States.
FNMA, a federally chartered and privately-owned corporation, FHLMC, a federal
corporation, and SLMA, a government sponsored stockholder-owned organization,
are instrumentalities of the United States. The securities and guarantees of
FNMA, FHLMC and SLMA are not backed, directly or indirectly, by the full faith
and credit of the United States. Although the Secretary of the Treasury of the
United States has discretionary authority to lend FNMA up to $2.25 billion
outstanding at any time, neither the United States nor any agency thereof is
obligated to finance FNMA's or FHLMC's operations or to assist FNMA or FHLMC in
any other manner. The Account may maintain reasonable amounts of cash or
short-term debt securities for daily cash management purposes or pending
selection of particular long-term investments.
Cash equivalents in which the Account invests include corporate commercial paper
rated A-1+, A-1 or A-2 by S&P or P-1 or P-2 by Moody's, unrated commercial paper
issued by corporations with outstanding debt securities rated in the four
highest grades by S&P and Moody's and bank certificates of deposit and bankers'
acceptances issued or guaranteed by national or state banks and repurchase
agreements considered by the Account to have investment quality.
Depending on market conditions, up to 55% of the assets may be invested in GNMA
Certificates. GNMA Certificates are mortgage-backed securities representing an
interest in a pool of mortgage loans. Such loans are made by lenders such as
mortgage bankers, insurance companies, commercial banks and savings and loan
associations. Then, they are either insured by the Federal Housing
Administration (FHA) or they are guaranteed by the Veterans Administration (VA)
or Farmers Home Administration (FmHA). The lender or other prospective issuer
creates a specific pool of such mortgages, which it submits to GNMA for
approval. After approval, a GNMA Certificate is typically offered by the issuer
to investors through securities dealers.
GNMA Certificates differ from bonds in that the principal is scheduled to be
paid back by the borrower on a monthly basis over the life of the loan rather
than returned in a lump sum at maturity. Modified pass-through GNMA
certificates, which are the only kind in which the Account intends to invest,
entitle the holder to receive all interest and principal payments owed on the
mortgages in the pool (net of the issuer and GNMA fee of .5% prescribed by
regulation), regardless of whether or not the mortgagor has made such payment.
The timely payment of interest and principal is guaranteed by the full faith and
credit of the United States Government.
Although the payment of interest and principal is guaranteed, the guarantee does
not extend to the value of a GNMA Certificate or the value of the shares of the
Account. The market value of a GNMA Certificate typically will fluctuate to
reflect changes in prevailing interest rates. It falls when rates increase (as
does the market value of other debt securities) and it rises when rates decline
(but it may not rise on a comparable basis with other debt securities because of
its prepayment feature). Therefore, the market value may be more or less than
the face amount of the GNMA Certificate, which reflects the aggregate principal
amount of the underlying mortgages. As a result, the net asset value of Account
shares will fluctuate as interest rates change.
Mortgagors may pay off their mortgages at any time. Expected prepayments of the
mortgages can affect the market value of the GNMA Certificate, and actual
prepayments can affect the return ultimately received. Prepayments, like
scheduled payments of principal, are reinvested by the Account at prevailing
interest rates which may be less than the rate on the GNMA Certificate.
Prepayments are likely to increase as the interest rate for new mortgages moves
lower than the rate on the GNMA Certificate. Moreover, if the GNMA Certificate
had been purchased at a premium above principal because its rate exceeded
prevailing rates, the premium is not guaranteed and a decline in value to par
may result in a loss of the premium especially in the event of prepayment.
To the extent deemed appropriate by the Account's Sub-Advisor, Invista, the
Account intends to purchase GNMA Certificates directly from Principal Mutual
Life Insurance Company and other issuers as well as from securities dealers. The
Account will purchase directly from issuers only if it can obtain a price
advantage by not paying the commission or markup that would be required if the
Certificates were purchased from a securities dealer. The Securities and
Exchange Commission has issued an order under the Investment Company Act of 1940
that permits the Account to purchase GNMA Certificates directly from Principal
Mutual Life Insurance Company subject to certain conditions.
The FNMA and FHLMC securities in which the Account invests are very similar to
GNMA certificates as described above but are not guaranteed by the full faith
and credit of the United States but rather by the agency itself. FNMA and FHLMC
securities are rated Aaa by Moody's and AAA by Standard & Poor's. These ratings
reflect the status of FNMA and FHLMC as federal agencies as well as the
important role each plays in financing purchases of homes in the U.S.
Student Loan Marketing Association is a government sponsored stockholder-owned
organization whose goal is to provide liquidity to financial and educational
institutions. SLMA provides liquidity by purchasing student loans, which are
principally government guaranteed loans issued under the Federal Guaranteed
Student Loan Program and the Health Education Assistance Loan Program. SLMA
securities are not guaranteed by the U.S. Government but are obligations solely
of the agency. SLMA senior debt issues in which the Account invests are rated
AAA by Standard & Poor's and Aaa by Moody's.
There are other obligations issued or guaranteed by the United States Government
(such as U.S. Treasury securities) or by its agencies or instrumentalities that
are either supported by the full faith and credit of the U.S. Treasury or the
credit of a particular agency or instrumentality. Included in the latter
category are Federal Home Loan Bank and Farm Credit Banks. Obligations not
guaranteed by the United States Government are highly rated because they are
issued by indirect branches of government. Such paper is issued as needs arise
by the agency and is traded regularly in denominations similar to those in which
government obligations are traded.
The Account will not engage in the trading of securities for the purpose of
realizing short-term profits, but it will adjust its portfolio as considered
advisable in view of prevailing or anticipated market conditions and the
Account's investment objective. Accordingly, the Account may sell portfolio
securities in anticipation of a rise in interest rates and purchase securities
for inclusion in its portfolio in anticipation of a decline in interest rates.
As a hedge against changes in interest rates, the Account may enter into
contracts with dealers in GNMA Certificates whereby the Account agrees to
purchase or sell an agreed-upon principal amount of GNMA Certificates at a
specified price on a certain date. The Account may enter into similar purchase
agreements with issuers of GNMA Certificates other than Principal Mutual Life
Insurance Company. The Account may also purchase optional delivery standby
commitments which give the Account the right to sell particular GNMA
Certificates at a specified price on a specified date. Failure of the other
party to such a contract or commitment to abide by the terms thereof could
result in a loss to the Account. To the extent the Account engages in delayed
delivery transactions it will do so for the purpose of acquiring portfolio
securities consistent with its investment objective and policies and not for the
purpose of investment leverage or to speculate on interest rate changes.
Liability accrues to the Account at the time it becomes obligated to purchase
such securities, although delivery and payment occur at a later date. From the
time the Account becomes obligated to purchase securities on a delayed delivery
basis the Account has all the rights and risks attendant to the ownership of a
security. At the time the Account enters into a binding obligation to purchase
such securities, Account assets of a dollar amount sufficient to make payment
for the securities to be purchased will be segregated. The availability of
liquid assets for this purpose and the effect of asset segregation on the
Account's ability to meet its current obligations, to honor requests for
redemption and to have its investment portfolio managed properly will limit the
extent to which the Account may engage in forward commitment agreements. Except
as may be imposed by these factors, there is no limit on the percent of the
Account's total assets that may be committed to transactions in such agreements.
Money Market Accounts
The Fund also includes an Account which invests primarily in short-term
securities, the Money Market Account. Securities in which the Money Market
Account will invest may not yield as high a level of current income as
securities of low quality and longer maturities which generally have less
liquidity, greater market risk and more fluctuation.
The Money Market Account will limit its portfolio investments to United States
dollar denominated instruments that the board of directors determines present
minimal credit risks and which are at the time of acquisition "Eligible
Securities" as that term is defined in regulations issued under the Investment
Company Act of 1940. Eligible Securities include:
(1) A security with the remaining maturity of 397 days or less that is
rated (or that has been issued by an issuer that is rated in respect to
a class of short-term debt obligations, or any security within that
class, that is comparable in priority and security with the security)
by a nationally recognized statistical rating organization in one of
the two highest rating categories for short-term debt obligations; or
(2) A security that at the time of issuance was a long-term security that
has a remaining maturity of 397 calendar days or less, and whose issuer
has received from a nationally recognized statistical rating
organization a rating, with respect to a class of short-term debt
obligations (or any security within that class) that is now comparable
in priority and security with the security, in one of the two highest
rating categories for short-term debt obligations; or
(3) An unrated security that is of comparable quality to a security
meeting the requirements of (1) or (2) above, as determined by the
board of directors.
The Account will not invest more than 5% of its total assets in the
following securities:
(1) Securities which, when acquired by the Account (either initially or
upon any subsequent rollover), are rated below the highest rating
category for short-term debt obligations;
(2) Securities which, at the time of issuance were long-term securities but
when acquired by the Account have a remaining maturity of 397 calendar
days or less, if the issuer of such securities is rated, with respect
to a class of comparable short-term debt obligations, below the highest
rating category for short-term obligations;
(3) Securities which are unrated but are determined by the Account's board
of directors to be of comparable quality to securities rated below the
highest rating category for short-term debt obligations. The Account
will maintain a dollar-weighted average portfolio maturity of 90 days
or less.
The objective of the Money Market Account is to seek as high a level of current
income available from short-term securities as is considered consistent with
preservation of principal and maintenance of liquidity by investing its assets
in a portfolio of money market instruments. These money market instruments are
U.S. Government Securities, U.S. Government Agency Securities, Bank Obligations,
Commercial Paper, Short-term Corporate Debt and Repurchase Agreements, which are
described briefly below and in more detail in the Statement of Additional
Information.
U.S. Government Securities are securities issued or guaranteed by the U.S.
Government, including treasury bills, notes and bonds.
U.S. Government Agency Securities are obligations issued or guaranteed by
agencies or instrumentalities of the U.S. Government whether supported by the
full faith and credit of the U.S. Treasury or only by the credit of a particular
agency or instrumentality.
Bank Obligations consist of certificates of deposit which are generally
negotiable certificates issued against funds deposited in a commercial bank for
a definite period of time and earning a specified return and bankers acceptances
which are time drafts drawn on a commercial bank by a borrower, usually in
connection with international commercial transactions.
Commercial Paper is short-term promissory notes issued by corporations primarily
to finance short-term credit needs.
Short-term Corporate Debt consists of notes, bonds or debentures which at the
time of purchase have one year or less remaining to maturity.
Repurchase Agreements are transactions under which securities are purchased from
a bank or securities dealer with an agreement by the seller to repurchase the
securities at the same price plus interest at a specified rate. Generally,
Repurchase Agreements are of short duration, usually less than a week but on
occasion for longer periods.
The Account intends to hold its investments until maturity, but may on occasion
trade securities to take advantage of market variations. Also, revised
valuations of an issuer or redemptions may result in sales of portfolio
investments prior to maturity or at times when such sales might otherwise not be
desirable. The Account's right to borrow to facilitate redemptions may reduce
the need for such sales. It is the Account's policy to be as fully invested as
reasonably practical at all times to maximize current income.
Since portfolio assets will consist of short-term instruments, replacement of
portfolio securities will occur frequently. However, since the Account expects
to usually transact purchases and sales of portfolio securities with issuers or
dealers on a net basis, it is not anticipated that the Account will pay any
significant brokerage commissions. The Account is free to dispose of portfolio
securities at any time, when changes in circumstances or conditions make such a
move desirable in light of the investment objective.
A shareholder's rate of return will vary with the general interest rate levels
applicable to the money market instruments in which the Account invests. The
rate of return and the net asset value will be affected by such other factors as
sales of portfolio securities prior to maturity and the Account's operating
expenses.
CERTAIN INVESTMENT POLICIES AND RESTRICTIONS
Following is a discussion of certain investment practices that the Accounts may
use in an effort to achieve their respective investment objectives.
Diversification
Each Account is subject to the diversification requirements of Section 817(h) of
the Internal Revenue Code (the "Code") which must be met at the end of each
quarter of the year (or within 30 days thereafter). Regulations issued by the
Secretary of the Treasury have the effect of requiring each Account to invest no
more than 55% of its total assets in securities of any one issuer, no more than
70% in the securities of any two issuers, no more than 80% in the securities of
any three issuers, and no more than 90% in the securities of any four issuers.
For this purpose, the United States Treasury and each U.S. Government agency and
instrumentality is considered to be a separate issuer. Thus, the Government
Securities Account intends to invest in U.S. Treasury securities and in
securities issued by at least four U.S. Government agencies or instrumentalities
in the amounts necessary to meet those diversification requirements at the end
of each quarter of the year (or within thirty days thereafter).
In the event any of the Accounts do not meet the diversification requirements of
Section 817(h) of the Code, the contracts funded by shares of the Accounts will
not be treated as annuities or life insurance for Federal income tax purposes
and the owners of the Accounts will be subject to taxation on their share of the
dividends and distributions paid by the Accounts.
Foreign Securities
Each of the following Accounts has adopted investment restrictions that limit
its investments in foreign securities to the indicated percentage of its assets:
Asset Allocation, International and International SmallCap Accounts - 100%;
Aggressive Growth, MicroCap, Real Estate and SmallCap Growth Accounts - 25%;
Bond, Capital Value, SmallCap and Utilities Accounts - 20%; Balanced, Growth,
MidCap, MidCap Growth and SmallCap Value Accounts - 10%. Debt securities issued
in the United States pursuant to a registration statement filed with the
Securities and Exchange Commission are not considered "foreign securities" for
purposes of this investment limitation. Investment in foreign securities
presents certain risks including those resulting from fluctuations in currency
exchange rates, revaluation of currencies, the imposition of foreign taxes,
future political and economic developments including war, expropriations,
nationalization, the possible imposition of currency exchange controls and other
foreign governmental laws or restrictions, reduced availability of public
information concerning issuers, and the fact that foreign issuers are not
generally subject to uniform accounting, auditing and financial reporting
standards or to other regulatory practices and requirements comparable to those
applicable to domestic issuers. Moreover, securities of many foreign issuers may
be less liquid and their prices more volatile than those of comparable domestic
issuers. In addition, transactions in foreign securities may be subject to
higher costs, and the time for settlement of transactions in foreign securities
may be longer than the settlement period for domestic issuers. An Account's
investment in foreign securities may also result in higher custodial costs and
the costs associated with currency conversions.
Currency Contracts
The Accounts (except Government Securities and Money Market) may each enter into
forward currency contracts, currency futures contracts and options thereon and
options on currencies for hedging and other non-speculative purposes. A forward
currency contract involves a privately negotiated obligation to purchase or sell
a specific currency at a future date at a price set at the time of the contract.
The Accounts will not enter into a transaction to hedge currency exposure to an
extent greater in effect than the aggregate market value of the securities held
or to be purchased by the Accounts that are denominated or generally quoted in
or currently convertible into the currency. When the Account enters into a
contract to buy or sell a foreign currency, it generally will hold an amount of
that currency, liquid securities denominated in that currency or a forward
contract for such securities equal to the Account's obligation, or it will
segregate liquid high grade debt obligations equal to the amount of the
Account's obligations. The use of currency contracts involves many of the same
risks as transactions in futures contracts and options as well as the risk of
government action through exchange controls or otherwise that would restrict the
ability of the Account to deliver or receive currency.
Repurchase Agreements and Securities Loans
Each of the Accounts may enter into repurchase agreements with, and each of the
Accounts, except the Capital Value and Money Market Accounts, may lend its
portfolio securities to, unaffiliated broker-dealers and other unaffiliated
qualified financial institutions. In addition, the MicroCap Account, together
with other registered investment companies advised by GSAM or its affiliates,
may participate in a joint repurchase agreement account. These transactions must
be fully collateralized at all times, but involve some credit risk to the
Account if the other party should default on its obligations, and the Account is
delayed or prevented from recovering on the collateral. See the Fund's Statement
of Additional Information for further information regarding the credit risks
associated with repurchase agreements and the standards adopted by the Fund's
Board of Directors to deal with those risks. None of the Accounts intend either
(i) to enter into repurchase agreements that mature in more than seven days if
any such investment, together with any other illiquid securities held by the
Account, would amount to more than 10% of its total assets or (ii) to loan
securities in excess of 33 1/3% of its total assets.
Forward Commitments
From time to time, each of the Accounts may enter into forward commitment
agreements which call for the Accounts to purchase or sell a security on a
future date and at a price fixed at the time the Account enters into the
agreement. Each of the Accounts may also acquire rights to sell its investments
to other parties, either on demand or at specific intervals.
Warrants
Each of the Accounts, except the Money Market and Government Securities
Accounts, may invest in warrants up to 5% of its assets, of which not more than
2% may be invested in warrants that are not listed on the New York or American
Stock Exchange. For the International and International SmallCap Accounts, the
2% limitation also does not apply to warrants listed on the Toronto Stock
Exchange or the Chicago Board Options Exchange.
Borrowing
As a matter of fundamental policy, each Account may borrow money only for
temporary or emergency purposes. The Balanced, Bond, Capital Value and Money
Market Accounts may borrow only from banks. Further, each may borrow only in an
amount not exceeding 5% of its assets, except the Capital Value Account which
may borrow only in an amount not exceeding the lesser of (i) 5% of the value of
its assets less liabilities other than such borrowings, or (ii) 10% of its
assets taken at cost at the time the borrowing is made, and the Money Market
Account which may borrow only in an amount not exceeding the lesser of (i) 5% of
the value of its assets, or (ii) 10% of the value of its net assets taken at
cost at the time the borrowing is made.
As a matter of fundamental policy, the International SmallCap, MicroCap, MidCap
Growth, Real Estate, SmallCap, SmallCap Growth, SmallCap Value and Utilities
Accounts each are prohibited from borrowing money except each Account may (a)
borrow from banks (as defined in the Investment Company Act of 1940, as amended)
or through reverse repurchase agreements in amounts up to 33 1/3% of its total
assets (including the amount borrowed); (b) to the extent permitted by
applicable law, borrow up to an additional 5% of its total assets for temporary
purposes; (c) obtain such short-term credits as may be necessary for the
clearance of purchases and sales of portfolio securities, and (d) purchase
securities on margin to the extent permitted by applicable law. In addition, the
MicroCap Account may engage in transactions in mortgage dollar rolls which are
accounted for as financings.
Options
Each of the Accounts (except Capital Value and Money Market) may purchase
covered spread options, which would give the Account the right to sell a
security that it owns at a fixed dollar spread or yield spread in relationship
to another security that the Account does not own, but which is used as a
benchmark. These same Accounts may also purchase and sell financial futures
contracts, options on financial futures contracts and options on securities and
securities indices, but will not invest more than 5% of their assets in the
purchase of options on securities, securities indices and financial futures
contracts or in initial margin and premiums on financial futures contracts and
options thereon. The Accounts may write options on securities and securities
indices to generate additional revenue and for hedging purposes and may enter
into transactions in financial futures contracts and options on those contracts
for hedging purposes.
Below Investment Grade Bonds
Below investment-grade bonds are securities rated Ba1 or lower by Moody's
Investors Service, Inc. ("Moody's") or BB+ or lower by Standard & Poor's
Corporation ("S&P") or unrated securities which the Account's Manager or
Sub-Advisor believes are of comparable quality. These securities are regarded,
on balance, as predominantly speculative with respect to the issuer's capacity
to pay interest and to repay principal in accordance with the terms of the
obligation. The Accounts, except the Asset Allocation Account, do not intend to
invest in securities rated lower than Ba3 by Moody's or BB by S&P. The Asset
Allocation Account does not intend to invest in securities rated below Caa by
Moody's and below CCC by S&P. The Asset Allocation Account normally will not
invest more than 20% of its assets in below investment grade securities. The
Bond Account may not invest more than 35% of its assets in such securities. The
Balanced Account does not intend to invest more than 5% of its assets in such
securities.
The rating services' descriptions of below investment grade securities rating
categories in which the Accounts may normally invest are as follows:
Moody's Investors Service, Inc. Bond Ratings - Ba: Bonds which are rated Ba are
judged to have speculative elements; their future cannot be considered as
well-assured. Often the protection of interest and principal payments may be
very moderate and thereby not well safeguarded during both good and bad times
over the future. Uncertainty of position characterizes bonds in this class. B:
Bonds which are rated B generally lack characteristics of the desirable
investment. Assurance of interest and principal payments or of maintenance of
other terms of the contract over any long period of time may be small. Caa:
Bonds which are rated Caa are of poor standing. Such issues may be in default or
there may be present elements of danger with respect to principal or interest.
Moody's may apply numerical modifiers, 1, 2 and 3 in each generic rating
classification from Aa through B in its bond rating system. The modifier 1
indicates that the security ranks in the high end of its generic rating
category; the modifier 2 indicates a mid-range ranking; and a modifier 3
indicates that the issue ranks in the lower end of its generic rating category.
Standard & Poor's Corporation Bond Ratings - BB, B, CCC, CC: Debt rated "BB",
"B", "CCC" and "CC" 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
"CC" 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.
Plus (+) or Minus (-): The "BB" rating may be modified by the addition of a plus
or minus sign to show relative standing within the major rating categories.
Below investment-grade securities present special risks to investors. The market
value of lower-rated securities may be more volatile than that of higher-rated
securities and generally tends to reflect the market's perception of the
creditworthiness of the issuer and short-term market developments to a greater
extent than more highly rated securities, which reflect primarily fluctuations
in general levels of interest rates. Periods of economic uncertainty and change
can be expected to result in increased volatility in the market value of
lower-rated securities. Further, such securities may be subject to greater risks
of loss of income and principal, particularly in the event of adverse economic
changes or increased interest rates, because their issuers generally are not as
financially secure or as creditworthy as issuers of higher-rated securities.
Additionally, to the extent that there is not a national market system for
secondary trading of lower-rated securities, there may be a low volume of
trading in such securities which may make it more difficult to value or sell
those securities than higher-rated securities. Adverse publicity and investor
perceptions, whether or not based on fundamental analysis, may decrease the
values and liquidity of high yield securities, especially in a thinly traded
market.
Investors should recognize that the market for below investment-grade securities
is a relatively recent development that has not been tested by an economic
recession. An economic downturn may severely disrupt the market for such
securities and cause financial stress to the issuers which may adversely affect
the value of the securities held by the Accounts and the ability of the issuers
of the securities held by the Accounts to pay principal and interest. A default
by an issuer may result in an Account incurring additional expenses to seek
recovery of the amounts due it.
Some of the securities in which the Accounts invest may contain call provisions.
If the issuer of such a security exercises a call provision in a declining
interest rate market, the Account would have to replace the security with a
lower-yielding security, resulting in a decreased return for investors. Further,
a higher-yielding security's value will decrease in a rising interest rate
market, which will be reflected in the Account's net asset value per share.
Securities of Smaller Companies.
The International SmallCap, MicroCap, MidCap, MidCap Growth, SmallCap, SmallCap
Growth and SmallCap Value Accounts may invest in and be weighted toward,
securities of companies with small- or mid-sized market capitalizations. Market
capitalization is defined as total current market value of a company's
outstanding common stock. Investments in companies with smaller market
capitalizations may involve greater risks and price volatility (wide, rapid
fluctuations) than investments in larger, more mature companies. Smaller
companies may be less mature than older companies. At this earlier stage of
development, the companies may have limited product lines, reduced market
liquidity for their shares, limited financial resources or less depth in
management than larger or more established companies. Small companies also may
be less significant factors within their industries and may be at a competitive
disadvantage relative to their larger competitors. While smaller companies may
be subject to these additional risks, they may also realize more substantial
growth than larger or more established companies.
Unseasoned Issuers.
Each of the Accounts, except the Government Securities Account, may invest in
the securities of unseasoned issuers. The Aggressive Growth, Asset Allocation,
Balanced, Bond, Capital Value, Growth, International, MidCap and Money Market
Accounts each may invest not more than 5% of its total assets in the securities
of unseasoned issuers. Unseasoned issuers are companies with a record of less
than three years' continuous operation, including the operations of any
predecessors and parents. Unseasoned issuers by their nature have only a limited
operating history which can be used for evaluating the companies growth
prospects. As a result, investment decisions for these securities may place a
greater emphasis on current or planned product lines and the reputation and
experience of the companies management and less emphasis on fundamental
valuation factors than would be the case for more mature growth companies. In
addition, many unseasoned issuers also may be small companies and involve the
risks and price volatility associated with smaller companies.
The Statement of Additional Information includes further information concerning
the Accounts' investment policies and applicable investment restrictions. Each
Account's investment objective and certain investment restrictions designated as
such in this Prospectus or the Statement of Additional Information are
fundamental policies that may not be changed without shareholder approval. All
other investment policies described in the Prospectus and the Statement of
Additional Information for an Account are not fundamental and may be changed by
the Board of Directors of the Fund without shareholder approval.
MANAGER AND SUB-ADVISORS
The Manager for the Fund is Principal Management Corporation (the "Manager"), an
indirectly wholly-owned subsidiary of Principal Mutual Life Insurance Company, a
mutual life insurance company organized in 1879 under the laws of the State of
Iowa. The address of the Manager is The Principal Financial Group, Des Moines,
Iowa 50392. The Manager was organized on January 10, 1969, and since that time
has managed various mutual funds sponsored by Principal Mutual Life Insurance
Company. As of December 31, 1997, the Manager served as investment advisor for
30 such funds with assets totaling approximately $5.3 billion.
The Manager has executed agreements with various Sub-Advisors. Under those
Sub-Advisory agreements, the Sub-Advisor agrees to assume the obligations of the
Manager to provide investment advisory services for a specific Account. For
these services, each Sub-Advisor is paid a fee by the Manager.
Accounts: Balanced, Capital Value, Government Securities, Growth,
International, International SmallCap, MidCap, SmallCap and Utilities
Sub-Advisor:
Invista Capital Management, Inc. Invista, an indirectly wholly-owned
subsidiary of Principal Mutual Life Insurance Company and an affiliate of
the Manager, was founded in 1985. It manages investments for
institutional investors, including Principal Mutual Life Insurance
Company. Assets under management as of December 31, 1997 were
approximately $26 billion. Invista's address is 1800 Hub Tower, 699
Walnut, Des Moines, Iowa 50309.
Accounts:
Aggressive Growth and Asset Allocation
Sub-Advisor:
Morgan Stanley Asset Management Inc. MSAM, with principal offices at 1221
Avenue of the Americas, New York, NY 10020, provides a broad range of
portfolio management services to customers in the U.S. and abroad. At
December 31, 1997, MSAM managed investments totaling approximately $87.1
billion, including approximately $66.6 billion under active management
and $20.5 billion as Named Fiduciary or Fiduciary Adviser.
Account:
MicroCap
Sub-Advisor: Goldman Sachs Asset Management ("GSAM"), One New York
Plaza, New York, New York 10004, is a separate operating division of
Goldman, Sachs & Co. ("Goldman Sachs"). Goldman Sachs provides a wide
range of fully discretionary investment advisory services quantitatively
driven and actively managed U.S. and international equity portfolios,
U.S. and global fixed income portfolios, commodity and currency
products, and money market mutual funds.
Account:
MidCap Growth
Sub-Advisor:
The Dreyfus Corporation, located at 200 Park Avenue, New York, New York
10166, was formed in 1947. The Dreyfus Corporation is a wholly-owned
subsidiary of Mellon Bank, N.A., which is a wholly-owned subsidiary of
Mellon Bank Corporation ("Mellon"). As of September 30, 1997, The Dreyfus
Corporation managed or administered approximately $93 billion in assets
for approximately 1.7 million investor accounts nationwide.
Account:
SmallCap Growth
Sub-Advisor:
Berger Associates, Inc. Berger's address is 210 University Boulevard,
Suite 900, Denver, CO 80206. It serves as investment advisor,
sub-advisor, administrator or sub-administrator to mutual funds and
institutional investors. Berger is a wholly-owned subsidiary of Kansas
City Southern Industries, Inc. ("KCSI"). KCSI is a publicly traded
holding company with principal operations in rail transportation, through
its subsidiary The Kansas City Southern Railway Company, and financial
asset management businesses.
Account:
SmallCap Value
Sub-Advisor: J.P. Morgan Investment Management, Inc. J.P. Morgan
Investment, with principal offices at 522 Fifth Avenue, New York, NY
10036 is a wholly-owned subsidiary of J.P. Morgan & Co. Incorporated
("J.P. Morgan") a bank holding company. J.P. Morgan, through J.P. Morgan
Investment and other subsidiaries, offers a wide range of services to
governmental, institutional, corporate and individual customers and acts
as investment adviser to individual and institutional clients. As of
December 31, 1997, J.P.Morgan and its subsidiaries had total combined
assets under management of approximately $250 billion.
The Manager or Sub-Advisor has assigned certain individuals the primary
responsibility for the day-to-day management of each Account's portfolio. The
persons primarily responsible for each Account and the year they assumed the
responsibility are identified below:
Account: Year
Aggressive Growth
Kurt Feuerman - Managing Director, May, 1994
Morgan Stanley Asset Management Inc. (Account's inception)
and Morgan Stanley & Co. Incorporated
since 1993.
Asset Allocation
Francine J. Bovich - Principal, May, 1994
Morgan Stanley Asset Management Inc. (Account's inception)
and Morgan Stanley & Co. Incorporated
since 1993.
Kurt Feuerman - Managing Director, May, 1994
Morgan Stanley Asset Management Inc. (Account's inception)
and Morgan Stanley & Co. Incorporated
since 1993.
Stephen C. Sexauer - Principal, Morgan April, 1996
Stanley Asset Management Inc. and
Morgan Stanley & Co. Incorporated
since 1989.
Balanced
Co-Manager: Judith A. Vogel - April, 1993
Vice President, Invista Capital
Management, Inc. since 1987.
Co-Manager: Martin J. Schafer - December, 1997
Vice President, Invista Capital
Management, Inc. since 1992.
Bond
Scott A. Bennett - Assistant Director November, 1996
Investment Securities, Principal Mutual
Life Insurance Company since 1996.
Prior thereto, Investment Manager.
Capital Value
Catherine A. Green - Vice President, November, 1996
Invista Capital Management, Inc.
since 1987.
Government Securities
Martin J. Schafer - Vice President, April, 1987
Invista Capital Management, Inc. (Account's inception)
since 1992.
Growth and MidCap
Michael R. Hamilton - Vice President, May, 1994
Invista Capital Management, Inc. (Account's inception)
since 1987. and December, 1987
(Account's inception),
respectively
International
Scott D. Opsal - Executive Vice President, April, 1994
Invista Capital Management, Inc.
since 1997; Vice President, 1986 - 1997.
International SmallCap
Darren K. Sleister - Investment Officer, April, 1998
Invista Capital Management, Inc. (Account's inception)
since 1995. Prior thereto, Security Analyst.
MicroCap
Paul David Farrell - Vice President, April, 1998
GSAM, Matthew B. McLennan, Associate (Account's inception)
at GSAM and Eileen A. Aptman,
Vice President, GSAM. Mr. Farrell joined
GSAM in 1991. Mr. McLennan joined
GSAM in 1995. Prior to joining GSAM,
he worked at Queensland Investment
Corporation in Australia. Ms. Aptman joined
GSAM in 1993. Prior to 1993, she was an
equity analyst at Delphi Management.
MidCap Growth
John O'Toole CFA - Portfolio manager, April, 1998 The Dreyfus Corporation
and Senior (Account's inception) Vice President, Mellon Equity Associates
LLP (an affiliate of The Dreyfus Corporation) since 1990.
Real Estate
Kelly D. Rush - Assistant Director, April, 1998
Investment - Commercial Real Estate, (Account's Inception)
Principal Mutual Life Insurance
Company since 1996. Prior thereto,
Senior Administrator,
Investment - Commercial Real Estate.
SmallCap
Co-Manager: Mark T. Williams - April, 1998
Vice President, Invista Capital (Account's inception)
Management, Inc., since 1995.
Investment Officer, 1992-1995.
Co-Manager: John F. McClain, April, 1998
Vice President, Invista Capital (Account's inception)
Management, Inc. since 1995;
Investment Officer, 1992-1995.
SmallCap Growth
William R. Keithler - Senior Vice April, 1998
President, Investment Management (Account's inception)
Berger Associates since December 1993.
Prior thereto, Senior Vice President
INVESCO Trust Company
January 1993 - December 1993.
SmallCap Value
Stephen Rich - Vice President, April, 1998
J.P. Morgan Investment (Account's inception)
Management, Inc. since November 1997.
Employed by J.P. Morgan Investment
since November 1991.
Utilities
Catherine A. Green - Vice President, April, 1998
Invista Capital Management, Inc. (Account's inception)
since 1987.
DUTIES PERFORMED BY THE MANAGER AND
SUB-ADVISORS
Under Maryland law, the business and affairs of the Fund are managed under the
direction of its Board of Directors. The investment services and certain other
services referred to under the heading "Cost of Manager's Services" in the
Statement of Additional Information are furnished to the Fund under the terms of
a Management Agreement between the Fund and the Manager and, for some of the
Accounts, a Sub-Advisory Agreement. The Manager, or Sub-Advisor, advises the
Accounts on investment policies and on the composition of the Accounts'
portfolios. In this connection, the Manager, or Sub-Advisor, furnishes to the
Board of Directors of the Fund a recommended investment program consistent with
the Account's investment objective and policies. The Manager, or Sub-Advisor, is
authorized, within the scope of the approved investment program, to determine
which securities are to be bought or sold, and in what amounts.
The Fund and the Manager have filed an application with the Securities and
Exchange Commission seeking an exemptive order that would permit the Manager to
appoint a Sub-Advisor or change a subadvisory agreement without approval by
shareholders. If the SEC issues the requested order, the Fund would be able to
change Sub-Advisors or the fees paid to Sub-Advisors from time to time without
the expense and delays associated with obtaining shareholder approval of the
change. The order would not permit the Manager to appoint a Sub-Advisor that is
an affiliate of the Manager or the Fund (other than by reason of serving as
Sub-Advisor to a portfolio) (an "Affiliated Sub-Advisor") or to change a
subadvisory fee of an Affiliated Sub-Advisor without the approval of
shareholders. Currently, Invista is an Affiliated Sub-Advisor. There is no
assurance that the SEC will grant the requested ruling.
The Fund would not rely on the requested SEC order as to any Account until the
operation of that Account in the manner described in the application is approved
by (1) contract owners who have allocated assets to that Account, or (2) in the
case of a new Account, the Account's sold initial shareholder before the Account
is made available to contract owners. Before the International SmallCap,
MicroCap, MidCap Growth, Real Estate, SmallCap Growth, SmallCap Value and
Utilities Accounts were made available to contract owners, the initial
shareholder of those Accounts approved their operation in the manner described
in the application.
Each Account pays for certain corporate expenses incurred in its operation.
Among such expenses, the Account pays brokerage commissions on portfolio
transactions, transfer taxes and other charges and fees attributable to
investment transactions, any other local, state or federal taxes, fees and
expenses of all directors of the Fund who are not persons affiliated with the
Manager, interest, fees for Custodian of the Account, and the cost of meetings
of shareholders.
The compensation paid by each Account to the Manager for the fiscal year ended
December 31, 1997 was, on an annual basis, equal to the following percentage of
average net assets:
Total
Manager's Annualized
Account Fee Expenses
Aggressive Growth .80% .82%
Asset Allocation .80 .89
Balanced .59 .61
Bond .50 .52
Capital Value .46 .47
Government Securities .50 .52
Growth .49 .50
International .74 .87
MidCap .62 .64
Money Market .50 .55
The compensation being paid by the Aggressive Growth Account, Asset Allocation
Account and International Account for investment management services is higher
than that paid by most funds to their advisor, but it is not higher than the
fees paid by many funds with similar investment objectives and policies.
The Manager's Fee shown above includes a fee paid to the Account's Sub-Advisor,
if any. Fees paid to Sub-Advisors for the fiscal year ended December 31, 1997
were as follows: Aggressive Growth - .35%; Asset Allocation - .38%; Balanced -
.06%; Capital Value - .06%; Government Securities - .03%; Growth - .06%;
International - .09%; and MidCap - .06%.
The Manager and Sub-Advisors may purchase at their own expense statistical and
other information or services from outside sources, including Principal Mutual
Life Insurance Company. An Investment Service Agreement between the Manager,
Principal Mutual Life Insurance Company and the Fund provides that Principal
Mutual Life Insurance Company will furnish certain personnel, services and
facilities required by the Manager in connection with its performance of the
Management Agreement for each Account except the Aggressive Growth, Asset
Allocation MicroCap, MidCap Growth, SmallCap Growth and SmallCap Value Accounts,
and that the Manager will reimburse Principal Mutual Life Insurance Company for
its costs incurred in this regard.
The Accounts may from time to time execute transactions for portfolio securities
with, and pay related brokerage commissions to, certain affiliated
broker/dealers, to the extent and in the manner permitted by applicable law.
The Manager serves as investment advisor, dividend disbursing agent and,
directly and through an affiliate, as transfer agent for each of the Funds
sponsored by Principal Mutual Life Insurance Company.
MANAGERS' COMMENTS
Principal Management Corporation and Sub-Advisors are staffed with investment
professionals who manage each individual Account. Comments by these individuals
in the following paragraphs summarize in capsule form the general strategy and
results of each Account through 1997. The accompanying graphs display results
for the past 10 years or the life of the Account, whichever is shorter. Average
Annual Total Return figures provided for each Account in the graphs below
reflect all expenses of the Account and assume all distributions are reinvested
at net asset value. The figures do not reflect expenses of the variable life
insurance contracts or variable annuity contracts that purchase Account shares;
performance figures for the divisions of the contracts would be lower than
performance figures for the Accounts due to the additional contract expenses.
Past performance is not predictive of future performance. Returns and net asset
values fluctuate. Shares are redeemable at current net asset value, which may be
more or less than original cost.
The various indices included in the following graphs are unmanaged and do not
reflect any commissions or fees which would be incurred by an investor
purchasing the securities included in the index. Investors cannot invest
directly into these or any indices.
Growth-Oriented Accounts
Aggressive Growth Account
(Kurt Feuerman)
Total Returns *
As of December 31, 1997
1 Year Since Inception Date 6/1/94 10 Year
- -----------------------------------------------------
30.86% 28.83% --
Comparison of Change in Value of $10,000 Investment in the
Aggressive Growth Account, S&P 500, and Lipper Growth Fund Average
---------------------------------------------------------------
Aggressive Lipper
Growth Growth
Year Ended December 31, Account S&P 500 Average
10,000 10,000 10,000
1994 10,259 10,230 10,055
1995 14,793 14,069 13,151
1996 18,942 17,297 15,681
1997 24,788 23,066 19,649
Note: Past performance is not predictive of future performance.
Since it first became available on June 1, 1994, the Aggressive Growth Account
has generated an annualized return of 28.83% versus 26.26% for the S&P 500 and
16.82% for the Lipper Growth Fund Average. In 1997 the Account returned 30.86%
versus 33.37% for the S&P 500 and 25.30% for the Lipper Growth Fund Average.
The portfolio's mix of "low-flying" growth and higher beta growth issues
performed reasonably well throughout the year with the exception of the second
quarter during which two of the higher beta names underperformed (HFS and Boston
Chicken). Boston Chicken was sold but the Account held and added to the HFS
position which subsequently surged 59% off its lows in the June quarter to make
it one of the most important contributors to the Account's performance for the
year. Another important contributor to performance was Clear Channel
Communications, which doubled.
After three heady years for the market Wall Street futurists are divided firmly
in the bull and bear camps. This Account's managers are first and foremost
bottom up investors, focusing on companies, not markets, and tend not to care
which way the U.S. market moves in 1998. But if pushed managers are bullish
because the backdrop for financial assets is so positive: 1) inflation and
interest rates are at 30-year lows; 2) the U.S. budget is balanced and U.S.
companies seem as strong as ever in terms of global competitiveness; 3) the Fed
has enormous flexibility, due to dollar strength and low inflation, so that
short rates will come down quickly if the economy slows; and 4) company
managements are very focused on shareholder value creation, much more so than in
prior cycles.
There are some negatives in that the strong dollar and
disinflationary/deflationary trends are combining to put pressure on corporate
profits and valuations are high on an absolute basis.
In management's view this sets up a classic stockpickers' market. The Account
will take earnings risk over upward interest rate pressure. If companies can be
found that are able to rise above the profit pressures and achieve significant
earnings growth, the Account will be richly rewarded. However, the "safe growth"
part of the U.S. market--stocks like Coca Cola and General Electric--look
extended and pricey. We do not see why these stocks need to decrease in value,
but on the other hand they have gone up much more than their respective earnings
in recent years and should at some point enter a phase where the opposite is
true. We think there is much more money to be made in "unsafe growth,"--i.e.,
stocks of companies which have strong fundamentals but where investors still
have doubts.
We would divide the "unsafe growth" stocks we find compelling into two
categories: stocks infected with investor fears stemming from the turmoil in
Asia and stocks that should be insulated against the negative factors pressuring
U.S. corporate profits. In the first category we would put stocks such as United
Technologies where earnings are growing 17-18%, and Gulfstream Aerospace, the
leading producer of executive jets with a debt-free balance sheet and earnings
estimates on the rise. In the second category we would put Cendant, the new
company formed by the merger of HFS and CUC International, which should reap
tremendous revenue and margin gains from the combination of the country's
largest franchiser with the preeminent direct marketing company. We would also
include Cracker Barrel, the 300 unit chain of restaurant/gift shops which is
seeing margin improvement after several sluggish years and Lockheed Martin, the
largest defense company in the world after it closes the Northrop Grumman
acquisition, which is generating massive free cash flow.
Asset Allocation Account
(Francine J. Bovich)
Total Returns *
As of December 31, 1997
1 Year Since Inception Date 6/1/94 10 Year
18.19% 14.38% --
Comparison of Change in Value of $10,000 Investment in the Asset Allocation
Account, S&P 500 and Lipper Flexible Portfolio Fund Average
Asset Lipper
Allocation Flexible Portfolio
Year Ended December 31, Account S&P 500 Index
10,000 10,000 10,000
1994 10,052 10,230 10,008
1995 12,128 14,069 12,518
1996 13,696 17,297 14,220
1997 16,187 23,066 16,878
Note: Past performance is not predictive of future performance.
Despite the disastrous events unfolding in Asia, world equities produced strong
returns and global bonds produced modest gains in 1997. The fourth quarter
brought increased volatility in equity markets as a sharp correction was touched
off by concern over the spread of the Asian crisis. Bonds moved higher as
investors anticipated lower inflation and slower growth as a result of Asian
currency devaluations. Dollar strength diminished most of the impact from
international bond returns in local currencies.
Throughout the year, account managers maintained a diversified investment
policy. At the end of 1997, the Account was invested 34% domestic stocks, 23%
international stocks, 28% domestic bonds, 11% real estate investment trusts
("REITs"), and 4% short-term investments. The Account enjoyed another positive
year appreciating 18.2% relative to the Lipper Flexible Portfolio Fund Average
gain of 18.7%.
The Account's performance for the year was enhanced by its commitments to U.S.
equities which, on balance, outperformed the other major asset categories.
Within the U.S. large cap growth companies were the primary contributors to
portfolio returns as they appreciated +38.4% relative to the S&P gain of +33.1%.
Within the international markets, the year was characterized by the negative
volatility of the fourth quarter as the turmoil in Asia continued to rattle
investors around the globe. While the contagion continued to have its impact on
the nations in the Pacific Rim, investors in the more distant markets, such as
the U.S. and Europe, began to consider the effects of cheap Asian exports,
slower global growth and lower Asian demand on corporate earnings. Virtually no
country in the region escaped the debacle but there were some bright spots
through the year. European markets performed well in anticipation of the
benefits of European Economic and Monetary Union ("EMU") and the substantial
potential for corporate restructuring and government deregulation. Latin
American markets also benefited from a relatively stable economic environment
and declining interest rates. Led by the strength of Latin America, the
international segment (+13.6%) outperformed the EAFE Index benchmark gain of
+1.8%.
During 1997 the events in Asia sparked a flight to quality and safe haven
investing which benefited the U.S. market. As we begin 1998 reports of many U.S.
companies continue to be strong. This strength, coupled with low bond yields and
renewed confidence in financial markets, adds support to the bull market and
could push prices higher over the new few months. However, over the long term,
managers remain concerned that equity valuations are lofty and could be subject
to a correction if the "near perfect" environment erodes.
Balanced Account
(Judith A. Vogel and Martin J. Schafer)
Total Returns *
As of December 31, 1997
---------------------------------------------------
1 Year 5 Year 10 Year
17.93% 12.57% 12.96%
Comparison of Change in Value of $10,000 Investment in the
Balanced Account, S&P 500, Lehman Brothers Government/Corporate
Bond Index and Lipper Balanced Fund Average
---------------------------------------------------------------
Lipper Lehman
Year Ended Balanced S&P 500 Mid Cap Govt Corp
December 31, Account Index Index Bond Index
10,000 10,000 10,000 10,000
1988 11,830 11,661 11,229 10,759
1989 13,198 15,356 13,429 12,290
1990 12,348 14,877 13,355 13,309
1991 16,592 19,412 16,930 15,455
1992 18,716 20,891 18,122 16,626
1993 20,786 22,992 20,066 18,464
1994 20,351 23,294 19,561 17,816
1995 25,355 32,037 24,482 21,246
1996 28,684 39,388 27,851 21,861
1997 33,826 52,525 33,143 23,993
Note: Past performance is not predictive of future performance.
1997 might best be described as a year of many moods in the financial markets.
The first half of the year was characterized by strength in the economy, low
inflation and phenomenal stock market results. The 25 largest companies in the
S&P 500 produced the best performance results among equity investments, making
the benchmark index a tough challenge for equity managers to beat. In 1997 the
Account had a return of 17.93% versus 19.00% for the Lipper Balanced Fund
Average, 9.75% for the Lehman Brothers Government/Corporate Bond Index and
33.35% for the S&P 500. Suffering from the impact of higher interest rates after
the Fed raised overnight bank lending rates in March, bond market returns were
much less robust. During the late summer and fall of the year concerns over
potential fallout from the Asian currency and market collapses caused a flight
to safety among U.S. Treasury bonds. Interest rates declined and, as investors
shunned large, multi-national companies having exposure to Asian economies in
favor of domestic common stocks, small caps registered double-digit quarterly
gains. In the final three months of the year the economy continued its upward
trend with no signs of developing inflationary pressures. Bond yields dipped
below 6% at the end of the year while a fresh round of earnings concerns kept
stock valuations from expanding further. All in all it was a very favorable
year. The U.S. stock market experienced an unprecedented third consecutive year
of annual returns in excess of 20%, and the bond market produced attractive
results approximating 10% as well.
With an asset mix of 60% equities and 40% fixed income, the Balanced Account
participated in the strong financial markets of 1997 producing a 17.9% return
which was well above long-run average results. The Account's strategy of holding
a diversified portfolio of high quality fixed income securities and reasonably
valued common stocks was maintained. The Account's objective is to produce both
capital appreciation and current income without taking on undue risk to
principal. Managers expect 1998 to be challenging as investors wrestle with an
aging economic expansion, strong global competition, high stock market
valuations and potential earnings disappointments. This Account's focus on
credit quality among bonds and a value orientation in the equity portfolio
should benefit long-term shareholders of the Balanced Account.
There is no independent market index against which to measure returns of
balanced portfolios, however, the S&P 500 Stock Index and the Lehman
Government/Corporate Bond Index are included in the accompanying graph for your
information.
Capital Value Account
(Catherine A. Green)
Total Returns *
As of December 31, 1997
- --------------------------------------------------
1 Year 5 Year 10 Year
28.53% 17.80% 15.23%
Comparison of Change in Value of $10,000 Investment in the
Capital Value Account, S&P 500 and Lipper Growth and Income Fund Average
----------------------------------------------------------------------------
Capital S&P 500 Lipper
Year Ended Value Stock Growth & Income
December 31, Account Index Fund Average
10,000 10,000 10,000
1988 11,442 11,661 11,601
1989 13,294 15,356 14,332
1990 11,983 14,877 13,694
1991 16,617 19,412 17,676
1992 18,199 20,891 19,264
1993 19,618 22,992 21,489
1994 19,714 23,294 21,287
1995 26,004 32,037 27,847
1996 32,114 39,388 33,634
1997 41,277 52,525 42,762
Note: Past performance is not predictive of future performance.
The Capital Value Account for 1997 was impacted by certain aspects of the market
that were common in many equity mutual funds. Although it underperformed the S&P
500 Index over the latest calendar year, it was able to outperform the average
Growth & Income Fund. The Account's exposure to the financial sector was a big
plus for its performance. These types of companies continue to provide stable,
strong earnings growth which has resulted in strong stock performance for these
names.
1997 was a year of fairly high volatility in the market. After the first four
months of the year the market was quite weak as concerns and fear of higher
interest rates kept a lid on returns. The period through August was one of
rebounding stocks and strong performance in certain sectors, including
Technology. The fourth quarter brought growing fears of the Asian crisis moving
to U.S. shores, and the subsequent stock activity was indeed quite dramatic.
Those funds with major tech exposure that enjoyed the late summer period found
themselves with stocks that had major reversals of fortune. Also, the third
quarter brought concerns that some of the major consumer staple stocks would not
be able to continue strong earnings growth without revenue growth to help out.
This impacted some names that had been market leaders for several years. Account
managers continue to monitor these economic and market changes both in the U.S.
and abroad to determine when any inflection points may require changes to the
portfolio.
Growth Account
(Michael R. Hamilton)
Total Returns *
As of December 31, 1997
-------------------------------------------------------
1 Year Since Inception Date 5/2/94 10 Year
26.96% 18.98% --
Comparison of Change in Value of $10,000 Investment in the
Growth Account, S&P 500 and Lipper Growth Fund Average
---------------------------------------------------------------
S&P 500
Broad Lipper
Year Ended Growth Based Growth
December 31, Account Index Index
10,000 10,000 10,000
1994 10,542 10,397 10,090
1995 13,243 14,299 13,197
1996 14,899 17,580 15,736
1997 18,916 23,443 19,717
Note: Past performance is not predictive of future performance.
Fourth quarter 1997 saw a slowdown in the broad stock market advances. The S&P
500 saw only a small advance from the third quarter while other major indexes
were down. Small company stocks saw a negative return for the quarter. This all
came about with the announcement that many Asian countries were faced with
financial problems that could require currency devaluation and other austere
measures for their economies. A reduction in Asian demand could cause U.S.
exports to decline with a corresponding increase in foreign imports. All this
could reduce growth in the United States economy. The S&P 500 Index was heavily
influenced by the top 25 holdings in the Index. These are vary large companies.
The Growth Account is more diversified than the Index and therefore its results
were more representative of the broader market.
While this news was not well received by the financial markets at the time, the
negative returns have been erased and the market has moved to new highs. The oil
price weakness has been a real help to all economies and the access to capital
by Asian countries has been limited which has prevented an all out production
and import rampage by them. This has lessened the impact on the U.S. economy.
Given the reduction in growth caused by Asian problems, managers still favor
companies with stable earnings and certain visibility. Healthcare and related
companies move to the front of the favored sectors along with financial
companies and technology companies focused on communication. Account managers
are still prudently constructive on the markets, as no real economic
disequalibrium is present. Low interest rates continue to be supportive of the
market.
International Account
(Scott D. Opsal)
Total Returns *
As of December 31, 1997
----------------------------------------------------
1 Year Since Inception Date 5/2/94 10 Year
12.24% 12.67% --
Comparison of Change in Value of $10,000 Investment in the
International Account, EAFE and Lipper International Fund Average
------------------------------------------------------------
Morgan Stanley Lipper
Year Ended International EAFE International
December 31, Account Index Index
10,000 10,000 10,000
1994 9,663 9,990 9,758
1995 11,032 11,110 10,676
1996 13,800 11,781 11,934
1997 15,488 11,991 12,583
Note: Past performance is not predictive of future performance.
The International Account's return of 12.24% in 1997 compared favorably with the
return generated by the EAFE Index of 1.78%. The Account benefited from its
overweight position in Europe. European markets were very strong in 1997 and
with all markets up for the year and only two markets, Norway and Austria, up
less than 10%. The environment for equities in Europe was very positive in 1997;
inflation remained low, interest rates were low and falling and economic growth
began to pick up. The strong U.S. dollar was another factor boosting the
performance of European equities because of its positive effect on the
profitability of exporters based in Europe.
While almost everything was going right in Europe, almost everything went wrong
in Asia. The currency crisis that started in Thailand in the third quarter
spread to other Asian countries employing a currency peg system in the months
that followed. The currency depreciation that these countries experienced had a
significant negative ripple effect on the profitability of their corporate
sector and on near-term economic growth prospects. Stock market performance
reflected those problems, with five markets (Thailand, South Korea, Indonesia,
Malaysia, Philippines) all down more than 60%. Hong Kong and Singapore were down
30% or less. The Account benefited from its underweight position in Asia
relative to the EAFE Index. A large portion of the Asian exposure in the Account
in 1997 resided in Hong Kong, another positive for relative performance.
The Account remains underweighted in the Japanese market, which was down 23.7%
in 1997, another reason the account outperformed. Valuations continue to be high
in Japan and the outlook for economic growth is not good given the continued
weakness of the Japanese economy and the subdued growth outlook of its Asian
neighbors.
The strong U.S. dollar had an equally negative effect on the returns of the
Account and the EAFE Index, reducing both by 10.5%.
MidCap Account
(Michael R. Hamilton)
Total Returns *
As of December 31, 1997
---------------------------------------------------
1 Year 5 Year 10 Years
22.75% 18.18% 18.29%
Comparison of Change in Value of $10,000 Investment
in the MidCap Account, S&P 500 and Lipper Mid Cap Fund Average
--------------------------------------------------------------
Lipper
Year Ended MidCap S&P 500 MID CAP
December 31, Account Index Index
10,000 10,000 10,000
1988 12,371 11,661 11,476
1989 15,073 15,356 14,586
1990 13,189 14,877 14,067
1991 20,244 19,412 21,275
1992 23,268 20,891 23,213
1993 27,755 22,992 26,625
1994 27,971 23,294 26,079
1995 36,086 32,037 34,469
1996 43,704 39,388 40,646
1997 53,649 52,525 48,624
Note: Past performance is not predictive of future performance.
Small company stocks suffered during the third quarter 1997 as investors chose
to avoid them in favor of large cap stocks given the Asian problems that
surfaced at the start of the quarter. This was a reversal from the prior
quarter. Once the magnitude of the Asian problems was assumed, its effects could
be anticipated. The largest 25 companies in the S&P 500 produced the best
performance results among equity investments, making the benchmark index a
challenge for equity managers to beat. The Account and the Lipper Average
trailed the S&P 500 Index because of their emphasis on small cap stocks.
As of now little impact is assumed on global economic growth. The withdrawal of
capital from many troubled markets and their implementation of more austere
measures in the troubled countries have lessened the threat of cheap imports
swamping the U.S. economy. Small cap stocks are once again on investors growth
stock shopping lists.
Account managers feel that even if Asia remains in a different mode, growth in
the United States will not be greatly affected and growth in Europe and South
America could offset the Asian slowdown. Still, it is prudent to stick with
those companies and industries with more visible growth in revenues and more
stable earnings. Financial stocks continue to benefit from consolidation and
expense control. Healthcare should benefit from the aging baby boomers as they
continue active lifestyles. Technology is one of the main factors enabling
companies to improve efficiency and requires continual investment to stay
competitive. The portfolio is well positioned to take advantage of these
opportunities.
Important Notes of the Growth-Oriented Accounts:
Standard & Poor's 500 Stock Index: an unmanaged index of 500 widely held common
stocks representing industrial, financial, utility and transportation companies
listed on the New York Stock Exchange, American Stock Exchange and the
Over-the-Counter market.
Lipper Growth Fund Average: This average consists of funds which normally invest
in companies whose long-term earnings are expected to grow significantly faster
than the earnings of the stocks represented in the major unmanaged stock
indices. The one-year average at December 31, 1997 contained 820 funds.
Lipper Flexible Portfolio Fund Average: This average consists of funds which
allocate their investments across various asset classes, including domestic
common stocks, bonds and money market instruments, with a focus on total return.
The one-year average at December 31, 1997 contained 196 funds.
Lipper Balanced Fund Average: this average consists of mutual funds which
attempt to conserve principal by maintaining at all times a balanced portfolio
of both stocks and bonds. Typically, the stock/bond ratio ranges around 60%/40%.
The one year average at December 31, 1997 contained 350 mutual funds.
Lipper Growth & Income Fund Average: this average consists of funds which
combine a growth of earnings orientation and an income requirement for level
and/or rising dividends. The one year average at December 31, 1997 contained 611
funds.
Lipper Mid Cap Fund Average: This average consists of funds which by prospectus
or portfolio practice, limit their investments to companies with average market
capitalizations and/or revenues between $800 million and the average market
capitalization of the Wilshire 4500 Index (as captured by the Vanguard Index
Extended Market Fund). The one-year average at December 31, 1997 contained 249
funds.
Morgan Stanley EAFE (Europe, Australia and Far East) Index: This average
reflects an arithmetic, market value weighted average of performance of more
than 900 securities which are listed on the stock exchanges of the following
countries: Australia, Austria, Belgium, Denmark, Netherlands, New Zealand,
Norway, Singapore/Malaysia, Spain, Sweden, Switzerland, and the United Kingdom.
Lipper International Fund Average: This average consists of funds which invest
in securities primarily traded in markets outside of the United States. The
one-year average at December 31, 1997 contained 421 funds.
Income-Oriented Accounts:
Bond Account
(Scott A. Bennett)
Total Returns *
As of December 31, 1997
- --------------------------------------------------------------
1 Year 5 Year 10 Years
10.60% 8.44% 9.62%
Comparison of Change in Value of $10,000 Investment in the Bond Account, Lehman
Brothers BAA Corporate Index and Lipper Corporate Debt BBB Rated Fund Average
- -------------------------------------------------------------------------------
Lehman Lipper
Year Ended Bond BAA BBB
December 31, Account Index Avg
10,000 10,000 10,000
1988 10,927 10,923 10,900
1989 12,441 12,463 12,060
1990 13,090 13,343 12,751
1991 15,278 15,814 15,020
1992 16,711 17,187 16,258
1993 18,660 19,300 18,261
1994 18,120 18,360 17,447
1995 22,136 22,533 20,948
1996 22,659 23,439 21,616
1997 25,060 26,040 23,795
Note: Past performance is not predictive of future performance.
1997 was a year of high absolute levels of return for the fixed income market.
The Bond Account's total return for the year was 10.6%. This high level of
return was driven by the decline in Treasury yields through the final
three-quarters of the year on continued confidence that inflation would remain
low. The financial crisis in Asia in the fourth quarter also accelerated the
decline in Treasury yields as investors increased their purchases of Treasuries,
seeking a safe haven.
Although the Asian crisis was positive from a perspective of pushing down
interest rates, it increased the risk premium (spread) demanded by investors to
own corporate bonds as compared to owning Treasury bonds. The higher premium was
demanded on the threat of lower corporate profits because of Asia's influence on
the world's markets. Certain industries were hit harder than others, including
commodity industries, the technology sector, and construction industries such as
heavy equipment manufacturers. All of these factors influenced the 1997 returns
of the Bond Account. The Account's significant diversification by industry and
issuer helped it to avoid significant downside risk from the Asian crisis.
The Bond Account continues to outperform the Lipper Corporate Debt Fund
BBB-Rated Average and lag the Lehman BAA Corporate Index, which benefits from
the lack of fees. The long-term outperformance relative to the average BBB fund
is credited to remaining well diversified, fully invested and not guessing
interest rates.
Government Securities Account
(Martin J. Schafer)
Total Returns *
As of December 31, 1997
- --------------------------------------------------
1 Year 5 Year 10 Year
10.39% 7.38% 9.36%
Comparison of Change in Value of $10,000 Investment in the Government Securities
Account, Lehman Brothers Mortgage Index and Lipper U.S. Mortgage Fund Average
- --------------------------------------------------------------------------------
Gov't Lehman Lipper
Year Ended Securities Mortgage U.S. Mortgage
December 31, Account Index Index
10,000 10,000 10,000
1988 10,832 10,872 10,746
1989 12,521 12,552 12,098
1990 13,716 13,899 13,233
1991 16,041 16,082 15,190
1992 17,138 17,200 16,118
1993 18,865 18,376 17,319
1994 18,010 18,081 16,596
1995 21,444 21,118 19,290
1996 22,162 22,248 20,037
1997 24,464 24,359 21,756
Note: Past performance is not predictive of future performance.
Interest rates fell for most of 1997, which led to a very strong year for the
Government Securities Account. The Account outperformed both the Lehman Brothers
MBS Index as well as the Lipper U.S. Mortgage Fund Average, mostly due to its
slightly longer duration.
Managers added to results last year by identifying and selecting certain
undervalued sectors of mortgage-backed securities for a portion of the
portfolio. These securities have now become very popular with Wall Street and
other investors, resulting in an increase in value.
Managers believe the current portfolio is well positioned for the period ahead.
The Account has a number of securities that are "seasoned" (e.g., original 30
year loans that have been outstanding for three years or more) and therefore
valued more highly in the marketplace. The majority of the securities are priced
below par, so prepayment risk is negligible. The current strategy of staying
fully invested in generic MBS pass-throughs with a mix of coupons, supplemented
with government agencies, has served the Account well and should continue going
forward.
Important Notes of the Income-Oriented Accounts:
Lehman Brothers, BAA Corporate Index: an unmanaged index of all publicly issued
fixed rate nonconvertible, dollar-denominated, SEC-registered corporate debt
rated Baa or BBB by Moody's or S&P.
Lipper Corporate Debt BBB Rated Funds Average: this average consists of mutual
funds investing at least 65% of their assets in corporate and government debt
issues rated by S&P or Moody's in the top four grades. The one year average at
December 31, 1997 contained 102 mutual funds.
Lehman Brothers Mortgage Index: an unmanaged index of 15- and 30-year fixed rate
securities backed by mortgage pools of the Government National Mortgage
Association (GNMA), Federal Home Loan Mortgage Corporation (FHLMC), and Federal
National Mortgage Association (FNMA).
Lipper U.S. Mortgage Fund Average: this average consists of mutual funds
investing at least 65% of their assets in mortgages/securities issued or
guaranteed as to principal and interest by the U.S. Government and certain
federal agencies. The one year average at December 31, 1997 contained 59 mutual
funds.
Note: Mutual fund data from Lipper Analytical Services, Inc.
DETERMINATION OF NET ASSET VALUE OF ACCOUNT SHARES
The net asset value of each Account's shares is determined daily, Monday through
Friday, as of the close of trading on the New York Stock Exchange, except on
days on which changes in the value of the Account's portfolio securities will
not materially affect the current net asset value of the Account's redeemable
securities, on days during which an Account receives no order for the purchase
or sale of its redeemable securities and no tender of such a security for
redemption, and on customary national business holidays. The net asset value per
share of each Account is determined by dividing the value of the Account's
securities plus all other assets, less all liabilities, by the number of Account
shares outstanding.
Growth-Oriented and Income-Oriented Accounts
The following valuation information applies to the Growth-Oriented and
Income-Oriented Accounts. Securities for which market quotations are readily
available are valued using those quotations. Other securities are valued by
using market quotations, prices provided by market makers or estimates of market
values obtained from yield data and other factors relating to instruments or
securities with similar characteristics in accordance with procedures
established in good faith by the Board of Directors. Securities with remaining
maturities of 60 days or less are valued at amortized cost when it is determined
by the Board that amortized cost reflects fair value. Other assets are valued at
fair value as determined in good faith by the Board of Directors of the Fund.
As previously described, some of the Accounts may purchase foreign securities
whose trading is substantially completed each day at various times prior to the
close of the New York Stock Exchange. The values of such securities used in
computing net asset value per share are usually determined as of such times.
Occasionally, events which affect the values of such securities and foreign
currency exchange rates may occur between the times at which they are generally
determined and the close of the New York Stock Exchange and would therefore not
be reflected in the computation of the Account's net asset value. If events
materially affecting the value of such securities occur during such period, then
these securities will be valued at their fair value as determined in good faith
by the Manager or Sub-Advisor under procedures established and regularly
reviewed by the Board of Directors. To the extent the Account invests in foreign
securities listed on foreign exchanges which trade on days on which the Account
does not determine its net asset value, for example Saturdays and other
customary national U.S. Holidays, the Account's net asset value could be
significantly affected on days when shareholders have no access to the Account.
Money Market Account
The Money Market Account values its securities at amortized cost. For a
description of this calculation procedure see the Fund's Statement of Additional
Information.
PERFORMANCE CALCULATION
From time to time, the Accounts may publish advertisements containing
information (including graphs, charts, tables and examples) about the
performance of one or more of the Accounts. The Account's yield and total return
figures described below will vary depending upon market conditions, the
composition of the Account's portfolios and operating expenses. These factors
and possible differences in the methods used in calculating yield and total
return should be considered when comparing the Accounts' performance figures to
performance figures published for other investment vehicles. The Accounts may
also quote rankings, yields or returns as published by independent statistical
services or publishers, and information regarding the performance of certain
market indices. Any performance data quoted for the Accounts represents only
historical performance and is not intended to indicate future performance of the
Accounts. The calculation of average annual total return and yield for the
Accounts does not include fees and charges of the separate accounts that invest
in the Accounts and, therefore, does not reflect the investment performance of
those separate accounts. For further information on how the Accounts calculate
yield and total return figures, see the Statement of Additional Information.
Average Annual Total Return
Each Account may advertise its respective average annual total return. Average
annual total return for each Account is computed by calculating the average
annual compounded rate of return over the stated period that would equate an
initial $1,000 investment to the ending redeemable value assuming the
reinvestment of all dividends and capital gains distributions at net asset
value. The same assumptions are made when computing cumulative total return by
dividing the ending redeemable value by the initial investment. The Accounts may
also quote rankings, yields or returns as published by independent statistical
services or publishers, and information regarding the performance of certain
market indices.
Yield and Effective Yield
From time to time the Money Market Account may advertise its respective yield
and effective yield. The yield of the Account refers to the income generated by
an investment in the Account over a seven-day period. This income is then
annualized. That is, the amount of income generated by the investment during
that week is assumed to be generated each week over a 52-week period and is
shown as a percentage of the investment. The effective yield is calculated
similarly but, when annualized, the income earned by an investment in the
Account is assumed to be reinvested. The effective yield will be slightly higher
than the yield because of the compounding effect of this assumed reinvestment.
The yield for the Money Market Account will fluctuate daily as the income earned
on the investments of the Account fluctuates. Accordingly, there is no assurance
that the yield quoted on any given occasion will remain in effect for any period
of time. The Account is one of a Series of Accounts issued by an open-end
investment company and there is no guarantee that the net asset value or any
stated rate of return will remain constant. A shareholder's investment in the
Account is not insured. Investors comparing results of the Account with
investment results and yields from other sources such as banks or savings and
loan associations should understand these distinctions. Historical and
comparative yield information may, from time to time, be presented by the
Account.
INCOME DIVIDENDS, DISTRIBUTIONS AND TAX STATUS
It is the policy of each Account to distribute substantially all net investment
income and net realized gains. Through such distributions, and by satisfying
certain other requirements, the Fund intends to qualify for the tax treatment
accorded to regulated investment companies under the applicable provisions of
the Internal Revenue Code. This means that in each year in which the Fund so
qualifies it will be exempt from federal income tax upon the amounts so
distributed to investors.
Any dividends from the net investment income of the Accounts (except the Money
Market Account) will normally be payable to the shareholders annually, and any
net realized gains will be distributed annually. All dividends and capital gains
distributions are applied to purchase additional Account shares at net asset
value as of the payment date without the imposition of any sales charge.
Each Account will notify shareholders of the portion of each distribution which
constitutes investment income or capital gain. In view of the complexity of tax
considerations, it is advisable for Eligible Purchasers considering the purchase
of shares of the Accounts to consult with tax advisors on the federal and state
tax aspects of their investments and redemptions.
Money Market Account
The Money Market Account declares dividends of all its daily net investment
income on each day the Account's net asset value per share is determined.
Dividends are payable daily and are automatically reinvested in full and
fractional shares of the Account at the then current net asset value unless a
shareholder requests payment in cash.
Net investment income, for dividend purposes, consists of (1) accrued interest
income plus or minus accrued discount or amortized premium; plus or minus (2)
all net short-term realized gains and losses; minus (3) all accrued expenses of
the Account. Expenses of the Account are accrued each day. Net income will be
calculated immediately prior to the determination of net asset value per share
of the Account.
Since the Account's policy is, under normal circumstances, to hold portfolio
securities to maturity and to value portfolio securities at amortized cost, it
does not expect any capital gains or losses. If the Account does experience
gains, however, it could result in an increase in dividends. Capital losses
could result in a decrease in dividends. If for some extraordinary reason the
Account realizes net long-term capital gains, it will distribute them once every
12 months.
Since the net income of the Account (including realized gains and losses on the
portfolio securities) is declared as a dividend each time the net income of the
Account is determined, the net asset value per share of the Account normally
remains at $1.00 immediately after each determination and dividend declaration.
Any increase in the value of a shareholder's investment in the Account,
representing reinvestment of dividend income, is reflected by an increase in the
number of shares of the Account.
Normally the Account will have a positive net income at the time of each
determination thereof. Net income may be negative if an unexpected liability
must be accrued or a loss is realized. If the net income of the Account
determined at any time is a negative amount, the net asset value per share will
be reduced below $1.00. If this happens, the Account may endeavor to restore the
net asset value per share to $1.00 by reducing the number of outstanding shares
by redeeming proportionately from shareholders without the payment of any
monetary consideration, such number of full and fractional shares as is
necessary to maintain a net asset value per share of $1.00. Each shareholder
will be deemed to have agreed to such a redemption in these circumstances by
investing in the Account. The Account may seek to achieve the same objective of
restoring the net asset value per share to $1.00 by not declaring dividends from
net income on subsequent days until restoration, with the result that the net
asset value per share would increase to the extent of positive net income which
is not declared as a dividend, or any other method approved by the Board of
Directors.
The Board of Directors may revise the above dividend policy, or postpone the
payment of dividends, if the Account should have or anticipate any large
presently unexpected expense, loss or fluctuation in net assets which in the
opinion of the Board might have a significant adverse affect on shareholders.
ELIGIBLE PURCHASERS AND PURCHASE OF SHARES
Only Eligible Purchasers may purchase shares of the Accounts. Eligible
Purchasers are limited to (a) separate accounts of Principal Mutual Life
Insurance Company or of other insurance companies; (b) Principal Mutual Life
Insurance Company or any subsidiary or affiliate thereof; (c) trustees or other
managers of any qualified profit sharing, incentive or bonus plan established by
Principal Mutual Life Insurance Company or any subsidiary or affiliate thereof
for the employees of such company, subsidiary or affiliate. Such trustees or
managers may purchase Account shares only in their capacities as trustees or
managers and not for their personal accounts. The Board of Directors of the Fund
reserves the right to broaden or limit the designation of Eligible Purchasers.
Each Account serves an underlying investment medium for variable annuity
contracts and variable life insurance policies that are funded in separate
accounts established by Principal Mutual Life Insurance Company. It is
conceivable that in the future it may be disadvantageous for variable life
insurance separate accounts and variable annuity separate accounts to invest in
the Accounts simultaneously. Although neither Principal Mutual Life Insurance
Company nor the Accounts currently foresee any such disadvantages either to
variable life insurance policy owners or to variable annuity contract owners,
the Fund's Board of Directors intends to monitor events in order to identify any
material conflicts between such policy owners and contract owners and to
determine what action, if any, should be taken in response thereto. Such action
could include the sale of Account shares by one or more of the separate
accounts, which could have adverse consequences. Material conflicts could result
from, for example, (1) changes in state insurance laws, (2) changes in Federal
income tax law, (3) changes in the investment management of an Account, or (4)
differences in voting instructions between those given by policy owners and
those given by contract owners.
Shares are purchased from Princor Financial Services Corporation, the principal
underwriter for the Fund. There are no sales charges on the Accounts' shares.
There are no restrictions on amounts to be invested in the Accounts' shares.
Shareholder accounts for each Account will be maintained under an open account
system. Under this system, an account is automatically opened and maintained for
each new investor. Each investment is confirmed by sending the investor a
statement of account showing the current purchase and the total number of shares
then owned. The statement of account is treated by each Account as evidence of
ownership of Account shares in lieu of stock certificates. Stock certificates
will not be issued or delivered to investors. Certificates, which can be stolen
or lost, are unnecessary except for special purposes such as collateral for a
loan. Fractional interests in the Account's shares are reflected to three
decimal places in the statement of account.
If an offer to purchase shares is received by any of the Accounts before the
close of trading on the New York Stock Exchange, the shares will be issued at
the offering price (net asset value of Account shares) computed on that day. If
an offer is received after the close of trading or on a day which is not a
trading day, the shares will be issued at the offering price computed on the
first succeeding day on which a price is determined. Dividends on the Money
Market Account shares will be paid on the next day following the effective date
of a purchase order.
SHAREHOLDER RIGHTS
The following information is applicable to each Account of the Principal
Variable Contracts Fund, Inc. Each Account share is entitled to one vote either
in person or by proxy at all shareholder meetings for that Account. This
includes the right to vote on the election of directors, selection of
independent accountants and other matters submitted to meetings of shareholders
of the Account. Each share has equal rights with every other share of the
Account as to dividends, earnings, voting, assets and redemption. Shares are
fully paid and non-assessable, and have no preemptive or conversion rights.
Shares of an Account may be issued as full or fractional shares, and each
fractional share has proportionately the same rights, including voting, as are
provided for a full share. Shareholders of the Fund may remove any director with
or without cause by the vote of a majority of the votes entitled to be cast at a
meeting of all Account shareholders.
The bylaws of the Fund provide that the Board of Directors of the Fund may
increase or decrease the aggregate number of shares which the Fund has authority
to issue without a shareholder vote.
The bylaws of the Fund also provide that the Fund need not hold an annual
meeting of shareholders in any year in which none of the following is required
to be acted on by shareholders under the Investment Company Act of 1940:
election of directors; approval of investment advisory agreement; ratification
of selection of independent public accountants; and approval of distribution
agreement. The Fund intends to hold shareholder meetings only when required by
law and at such other times as may be deemed appropriate by the Board of
Directors.
Shareholder inquiries should be directed to the Principal Variable Contracts
Fund, Inc. at The Principal Financial Group, Des Moines, Iowa 50392.
NON-CUMULATIVE VOTING: The Fund's shares have non-cumulative voting rights which
means that the holders of more than 50% of the shares voting for the election of
directors of the Fund can elect 100% of the directors if they choose to do so,
and in such event, the holders of the remaining shares voting for the election
of directors will not be able to elect any directors.
Principal Mutual Life Insurance Company votes each Account's shares allocated to
each of its separate accounts registered under the Investment Company Act of
1940 and attributable to variable annuity contracts or variable life insurance
policies participating therein in accordance with instructions received from
contract or policy holders, participants and annuitants. Other shares of each
Account held by each registered separate account, including those for which no
timely instructions are received, are voted in proportion to the instructions
that are received with respect to contracts or policies participating in that
separate account. Shares of each of the Accounts held in the general account of
Principal Mutual Life Insurance Company or in its unregistered separate accounts
are voted in proportion to the instructions that are received with respect to
contracts and policies participating in its registered and unregistered separate
accounts. If Principal Mutual determines pursuant to applicable law that an
Account's shares held in one or more separate accounts or in its general account
need not be voted pursuant to instructions received with respect to
participating contracts or policies, it then may vote those Account shares in
its own right.
REDEMPTION OF SHARES
Except for the third paragraph below, most of the following discussion of
redemption procedures is relevant only to Eligible Purchasers other than
variable annuity and variable life separate accounts of Principal Mutual Life
Insurance Company, and its wholly-owned subsidiaries.
Each Account will redeem its shares upon request. There is no charge for
redemption. A shareholder simply writes a letter to the appropriate Account
requesting redemption of any part or all of the shares. The letter must be
signed exactly as the account is registered. If payment is to be made to the
registered shareholder or joint shareholders, the Account will not require a
signature guarantee as a part of a proper endorsement; otherwise the
shareholder's signature must be guaranteed by either a commercial bank, trust
company, credit union, savings and loan association, national securities
exchange member, or by a brokerage firm. The price at which the shares are
redeemed will be the net asset value per share as next computed after the
request is received by the Account in proper and complete form. The amount
received for shares upon redemption may be more or less than the cost of such
shares depending upon the net asset value at the time of redemption.
Redemption proceeds will be sent within three business days after receipt of
request for redemption in proper form. However, each Account may suspend the
right of redemption during any period when (a) trading on the New York Stock
Exchange is restricted as determined by the Securities and Exchange Commission
or such Exchange is closed for other than weekends and holidays; (b) an
emergency exists, as determined by the Securities and Exchange Commission, as a
result of which (i) disposal by the Account of securities owned by it is not
reasonably practicable, or (ii) it is not reasonably practicable for the Account
fairly to determine the value of its net assets; or (c) the Commission by order
so permits for the protection of security holders of the Account. An Account
will redeem only those shares for which it has received good payment. To avoid
the inconvenience of such a delay, shares may be purchased with a certified
check, bank cashier's check or money order. During the period prior to the time
a redemption from the Money Market Account is effective, dividends on such
shares will accrue and be payable and the shareholder will be entitled to
exercise all other rights of beneficial ownership.
Restricted Transfer: Shares of each of the Accounts may be transferred to an
Eligible Purchaser. However, whenever any of the Accounts is requested to
transfer shares to other than an Eligible Purchaser, the Account has the right
at its election to purchase such shares at their net asset value next effective
following the time at which the request for transfer is presented; provided,
however, that the Account must notify the transferee or transferees of such
shares in writing of its election to purchase such shares within seven (7) days
following the date of such request and settlement for such shares shall be made
within such seven-day period.
ADDITIONAL INFORMATION
Custodian: Bank of New York, 48 Wall Street, New York, New York 10286, is
custodian of the portfolio securities and cash assets of each of the Accounts
except the International and International SmallCap Accounts. The custodian for
the International and International SmallCap Accounts is Chase Manhattan Bank,
Global Securities Services, Chase Metro Tech Center, Brooklyn, New York 11245.
The custodians perform no managerial or policymaking functions for the Fund.
Organization and Share Ownership: Effective January 1, 1998, certain Funds
sponsored by Principal Mutual Life Insurance Company were reorganized into a
series of the Principal Variable Contracts Fund, Inc., a corporation
incorporated in the State of Maryland on May 27, 1997. The new series adopted
the assets and liabilities of the corresponding Fund. Those Funds were
incorporated in the state of Maryland on the following dates: Aggressive Growth
Fund - August 20, 1993; Asset Allocation Fund - August 20, 1993; Balanced Fund -
November 26, 1986; Bond Fund - November 26, 1986; Capital Accumulation Fund -
May 26, 1989 (effective November 1, 1989 succeeded to the business of a
predecessor Fund that had been incorporated in Delaware on February 6, 1969);
Emerging Growth Fund - February 20, 1987; Government Securities Fund - June 7,
1985; Growth Fund - August 20, 1993; Money Market Fund - June 10, 1982; and
World Fund August 20, 1993. The Articles of Incorporation for the Principal
Variable Contracts Fund, Inc. were amended on February 13, 1998 to reflect the
addition of the following new Accounts: International SmallCap; MicroCap; MidCap
Growth; Real Estate; SmallCap; SmallCap Growth; SmallCap Value; and Utilities.
Principal Mutual Life Insurance Company owns 100% of each Account's outstanding
shares.
Capitalization: The authorized capital stock of each Account consists of
100,000,000 shares of common stock (500,000,000 for Money Market Account), $.01
par value.
Financial Statements: Copies of the financial statements of each Account will be
mailed to each shareholder of that Account semi-annually. At the close of each
fiscal year, each Account's financial statements will be audited by a firm of
independent auditors. The firm of Ernst & Young LLP has been appointed to audit
the financial statements of the Fund for the present fiscal year. Additional
information about the performance of the Accounts is contained in these
Statements. Copies may be obtained free of charge from Princor.
Registration Statement: This Prospectus omits some information contained in the
Statement of Additional Information (also known as Part B of the Registration
Statement) and Part C of the Registration Statements which the Fund has filed
with the Securities and Exchange Commission. The Fund's Statement of Additional
Information is hereby incorporated by reference into this Prospectus. A copy of
the Fund's Statement of Additional Information can be obtained upon request,
free of charge, by writing or telephoning the Fund. You may obtain a copy of
Part C of the Registration Statements filed with the Securities and Exchange
Commission, Washington, D.C., from the Commission upon payment of the prescribed
fees.
Principal Underwriter: Princor Financial Services Corporation, The Principal
Financial Group, Des Moines, Iowa 50392-0200, is the principal underwriter for
the Principal Variable Contracts Fund, Inc.
PART B
PRINCIPAL VARIABLE CONTRACTS FUND, INC.
Statement of Additional Information
dated May 1, 1998
This Statement of Additional Information provides information about the
Fund in addition to the information that is contained in the Fund's
Prospectus, dated May 1, 1998.
This Statement of Additional Information is not a prospectus. It should
be read in conjunction with the Fund's Prospectus, a copy of which can be
obtained free of charge by writing or telephoning:
Principal Variable Contracts Fund, Inc.
The Principal Financial Group
Des Moines, Iowa 50392-0200
Telephone: 1-800-247-4123
TABLE OF CONTENTS
Investment Policies and Restrictions of the Fund............ 3
Growth-Oriented Accounts............................. 3
Income-Oriented Accounts............................. 8
Money Market Account................................. 11
Account Investments......................................... 13
Directors and Officers of the Fund.......................... 22
Manager and Sub-Advisors ................................... 24
Cost of Manager's Services ................................. 25
Brokerage on Purchases and Sales of Securities.............. 27
Determination of Net Asset Value of Account Shares.......... 30
Performance Calculation..................................... 31
Tax Status.................................................. 33
General Information and History............................. 33
Financial Statements........................................ 34
Appendix A.................................................. 34
INVESTMENT POLICIES AND RESTRICTIONS OF THE FUND
The following information about the Principal Variable Contracts Fund,
Inc. an incorporated, diversified, open-end management investment company,
commonly called a mutual fund, supplements the information provided in the
Prospectus under the caption "Investment Objectives, Policies and Restrictions."
The Fund offers multiple Accounts.
There are three categories of Accounts: Growth-Oriented Accounts, which
include: Accounts which seek primarily capital appreciation through investments
in equity securities (Aggressive Growth, Capital Value, Growth, MicroCap,
MidCap, MidCap Growth, SmallCap, SmallCap Growth and SmallCap Value); and two
Accounts which seek a total investment return including both capital
appreciation and income through investments in equity and debt securities (Asset
Allocation and Balanced); two Accounts which seek long-term growth of capital
primarily through investments in equity securities of corporations located
outside of the U.S. (International and International SmallCap Accounts); one
account seeking long-term growth of income and capital through investment in
equity securities of real estate companies (Real Estate Account); and one
Account seeking to generate current income and long-term growth of income and
capital through investment in equity and fixed-income securities of public
utilities companies (Utilities Account); Income-Oriented Accounts, which include
three Accounts which seek primarily a high level of income through investments
in debt securities (Bond, Government Securities and High Yield) and a Money
Market Account, which seeks primarily a high level of income through investments
in short-term debt securities.
In seeking to achieve its investment objective, each Account has adopted
as matters of fundamental policy certain investment restrictions which cannot be
changed without approval by the holders of the lesser of: (i) 67% of the
Account's shares present or represented at a shareholders' meeting at which the
holders of more than 50% of such shares are present or represented by proxy; or
(ii) more than 50% of the outstanding shares of the Account. Similar shareholder
approval is required to change the investment objective of each of the Accounts.
The following discussion provides for each Account a statement of its investment
objective, a description of its investment restrictions that are matters of
fundamental policy and a description of any investment restrictions it may have
adopted that are not matters of fundamental policy and may be changed without
shareholder approval. For purposes of the investment restrictions, all
percentage and rating limitations apply at the time of acquisition of a
security, and any subsequent change in any applicable percentage resulting from
market fluctuations or in a rating by a rating service will not require
elimination of any security from the portfolio. Unless specifically identified
as a matter of fundamental policy, each investment policy discussed in the
Prospectus or the Statement of Additional Information is not fundamental and may
be changed by the Fund's Board of Directors.
GROWTH-ORIENTED ACCOUNTS
Investment Objectives
Aggressive Growth Account seeks to provide long-term capital
appreciation by investing primarily in growth oriented common stocks of
medium and large capitalization U.S. corporations and, to a limited
extent, foreign corporations.
Asset Allocation Account seeks to generate a total investment return
consistent with the preservation of capital.
Balanced Account seeks to generate a total investment return consisting
of current income and capital appreciation while assuming reasonable
risks in furtherance of the investment objective.
Capital Value Account seeks to achieve primarily long-term capital
appreciation and secondarily growth of investment income through the
purchase primarily of common stocks, but the Account may invest in
other securities.
Growth Account seeks growth of capital through the purchase primarily
of common stocks, but the Account may invest in other securities.
International Account seeks long-term growth of capital by investing in
a portfolio of equity securities of companies domiciled in any of the
nations of the world.
International SmallCap Account seeks long-term growth of capital. The
Account will attempt to achieve its objective by investing primarily in
equity securities of non-United States companies with comparatively
smaller market capitalizations.
MicroCap Account seeks long-term growth of capital. The Account will
attempt to achieve its objective by investing primarily in value and
growth oriented companies with small market capitalizations, generally
less than $700 million.
MidCap Account seeks to achieve capital appreciation by investing
primarily in securities of emerging and other growth-oriented
companies.
MidCap Growth Account seeks long-term growth of capital. The Account
will attempt to achieve its objective by investing primarily in growth
stocks of companies with market capitalizations in the $1 billion to
$10 billion range.
Real Estate Account seeks to generate a high total return. The Account
will attempt to achieve its objective by investing primarily in equity
securities of companies principally engaged in the real estate
industry.
SmallCap Account seeks long-term growth of capital. The Account will
attempt to achieve its objective by investing primarily in equity
securities of both growth and value oriented companies with
comparatively smaller market capitalizations.
SmallCap Growth Account seeks long-term growth of capital. The Account
will attempt to achieve its objective by investing primarily in equity
securities of small growth companies with market capitalization of less
than $1 billion.
SmallCap Value Account seeks long-term growth of capital. The Account
will attempt to achieve its objective by investing primarily in equity
securities of small companies with value characteristics and market
capitalizations of less than $1 billion.
Utilities Account seeks to provide current income and long-term growth
of income and capital. The Account will attempt to achieve its
objective by investing primarily in equity and fixed-income securities
of companies in the public utilities industry.
Investment Restrictions
Aggressive Growth Account, Asset Allocation Account, Balanced Account,
Growth Account, International Account and MidCap Account.
Each of the following numbered restrictions is a matter of fundamental
policy and may not be changed without shareholder approval. The Aggressive
Growth, Asset Allocation, Balanced, Growth, International and MidCap Accounts
each may not:
(1) Issue any senior securities as defined in the Investment Company Act of
1940. Purchasing and selling securities and futures contracts and
options thereon and borrowing money in accordance with restrictions
described below do not involve the issuance of a senior security.
(2) Purchase or retain in its portfolio securities of any issuer if those
officers or directors of the Account or the Manager owning beneficially
more than one-half of 1% (0.5%) of the securities of the issuer
together own beneficially more than 5% of such securities.
(3) Invest in commodities or commodity contracts, but it may purchase and
sell financial futures contracts and options on such contracts.
(4) Invest in real estate, although it may invest in securities which are
secured by real estate and securities of issuers which invest or deal
in real estate.
(5) Borrow money, except for temporary or emergency purposes, in an amount
not to exceed 5% of the value of the Account's total assets at the time
of the borrowing. The Balanced Account may borrow only from banks.
(6) Make loans, except that the Account may (i) purchase and hold debt
obligations in accordance with its investment objective and policies,
(ii) enter into repurchase agreements, and (iii) lend its portfolio
securities without limitation against collateral (consisting of cash or
securities issued or guaranteed by the United States Government or its
agencies or instrumentalities) equal at all times to not less than 100%
of the value of the securities loaned.
(7) Invest more than 5% of its total assets in the securities of any one
issuer (other than obligations issued or guaranteed by the United
States Government or its agencies or instrumentalities) except that
this limitation shall apply only with respect to 75% of the total
assets of the Aggressive Growth Account, Asset Allocation Account,
Growth Account and International Account; or purchase more than 10% of
the outstanding voting securities of any one issuer.
(8) Act as an underwriter of securities, except to the extent the Account
may be deemed to be an underwriter in connection with the sale of
securities held in its portfolio.
(9) Concentrate its investments in any particular industry or industries,
except that the Account may invest not more than 25% of the value of
its total assets in a single industry.
(10) Sell securities short (except where the Account holds or has the right
to obtain at no added cost a long position in the securities sold that
equals or exceeds the securities sold short) or purchase any securities
on margin, except it may obtain such short-term credits as are
necessary for the clearance of transactions. The deposit or payment of
margin in connection with transactions in options and financial futures
contracts is not considered the purchase of securities on margin.
(11) Invest in interests in oil, gas or other mineral exploration or
development programs, although the Account may invest in securities of
issuers which invest in or sponsor such programs.
Each of these Accounts has also adopted the following restrictions which
are not fundamental policies and may be changed without shareholder approval. It
is contrary to each Account's present policy to:
(1) Invest more than 15% of its total assets in securities not readily
marketable and in repurchase agreements maturing in more than seven
days. The value of any options purchased in the Over-the-Counter
market, including all covered spread options and the assets used as
cover for any options written in the Over-the-Counter market are
included as part of this 15% limitation.
(2) Purchase warrants in excess of 5% of its total assets, of which 2% may
be invested in warrants that are not listed on the New York or American
Stock Exchange. The 2% limitation for the International Account does
not apply to warrants listed on the Toronto Stock Exchange or the
Chicago Board Options Exchange.
(3) Purchase securities of any issuer having less than three years'
continuous operation (including operations of any predecessors) if such
purchase would cause the value of the Account's investments in all such
issuers to exceed 5% of the value of its total assets.
(4) Pledge, mortgage or hypothecate its assets, except to secure permitted
borrowings. The deposit of underlying securities and other assets in
escrow and other collateral arrangements in connection with
transactions in put and call options, futures contracts and options on
futures contracts are not deemed to be pledges or other encumbrances.
(5) Invest in companies for the purpose of exercising control or
management.
(6) Invest more than 10% (25% for the Aggressive Growth Account) of its
total assets in securities of foreign issuers. This restriction does
not pertain to the International Account or the Asset Allocation
Account.
(7) Invest more than 5% of its total assets in the purchase of covered
spread options and the purchase of put and call options on securities,
securities indices and financial futures contracts. Options on
financial futures contracts and options on securities indices will be
used solely for hedging purposes, not for speculation.
(8) Invest more than 5% of its assets in initial margin and premiums
on financial futures contracts and options on such contracts.
(9) Invest in arbitrage transactions.
(10) Invest in real estate limited partnership interests.
The Balanced and MidCap Accounts each have also adopted the following
restrictions which are not fundamental policies and may be changed without
shareholder approval. It is contrary to each such Account's present policy to:
(1) Purchase securities of other investment companies except in connection
with a merger, consolidation, or plan of reorganization or by purchase
in the open market of securities of closed-end companies where no
underwriter or dealer's commission or profit, other than a customary
broker's commission, is involved, and if immediately thereafter not
more than 10% of the value of the Account's total assets would be
invested in such securities.
The Aggressive Growth, Asset Allocation, Growth and International Accounts
have also adopted the following restriction which is not a fundamental policy
and may be changed without shareholder approval. It is contrary to each such
Account's present policy to:
(1) Invest its assets in the securities of any investment company except
that the Account may invest not more than 10% of its assets in
securities of other investment companies, invest not more than 5% of
its total assets in the securities of any one investment company, or
acquire not more than 3% of the outstanding voting securities of any
one investment company except in connection with a merger,
consolidation or plan of reorganization, and the Account may purchase
securities of closed-end companies in the open market where no
underwriter or dealer's commission or profit, other than a customary
broker's commission, is involved.
Capital Value Account
Each of the following numbered restrictions is a matter of fundamental
policy and may not be changed without shareholder approval. The Capital Value
Account may not:
(1) Concentrate its investments in any one industry. No more than 25% of
the value of its total assets will be invested in any one industry.
(2) Purchase the securities of any issuer if the purchase will cause more
than 5% of the value of its total assets to be invested in the
securities of any one issuer (except U. S. Government securities).
(3) Purchase the securities of any issuer if the purchase will cause more
than 10% of the voting securities, or any other class of securities of
the issuer, to be held by the Account.
(4) Underwrite securities of other issuers, except that the Account may
acquire portfolio securities under circumstances where if sold the
Account might be deemed an underwriter for purposes of the Securities
Act of 1933.
(5) Purchase securities of any company with a record of less than three
years' continuous operation (including that of predecessors) if the
purchase would cause the value of the Account's aggregate investments
in all such companies to exceed 5% of the Account's total assets.
(6) Engage in the purchase and sale of illiquid interests in real estate.
For this purpose, readily marketable interests in real estate
investment trusts are not interests in real estate.
(7) Engage in the purchase and sale of commodities or commodity contracts.
(8) Purchase or retain in its portfolio securities of any issuer if those
officers and directors of the Fund or the Manager owning beneficially
more than one-half of one percent (0.5%) of the securities of the
issuer together own beneficially more than 5% of such securities.
(9) Purchase securities on margin, except it may obtain such short-term
credits as are necessary for the clearance of transactions. The
Account will not issue or acquire put and call options.
(10) Invest in companies for the purpose of exercising control or
management.
(11) Invest more than 5% of its assets at the time of purchase in rights
and warrants (other than those that have been acquired in units or
attached to other securities).
(12) Invest more than 20% of its total assets in securities of foreign
issuers.
In addition:
(13) The Account may make loans through the purchase in private offerings
of debentures or other evidences of indebtedness of types customarily
purchased by institutional investors.
(14) The Account does not propose to borrow money except for temporary or
emergency purposes from banks in an amount not to exceed the lesser of
(i) 5% of the value of the Account's assets, less liabilities other
than such borrowings, or (ii) 10% of the Account's assets taken at
cost at the time such borrowing is made. The Account may not pledge,
mortgage, or hypothecate its assets (at value) to an extent greater
than 15% of the gross assets taken at cost.
(15) It is contrary to the Account's present policy to purchase warrants in
excess of 5% of its total assets of which 2% may be invested in
warrants that are not listed on the New York or American Stock
Exchange.
The Account has also adopted the following restrictions which are not
fundamental policies and may be changed without shareholder approval. It is
contrary to the Account's present policy to:
(1) Invest its assets in the securities of any investment company except
that the Account may invest not more than 10% of its assets in
securities of other investment companies, invest not more than 5% of
its total assets in the securities of any one investment company, or
acquire not more than 3% of the outstanding voting securities of any
one investment company except in connection with a merger,
consolidation, or plan of reorganization, and the Account may purchase
securities of closed-end companies in the open market where no
underwriter or dealer's commission or profit, other than a customary
broker's commission, is involved.
(2) Invest more than 15% of its total assets in securities not readily
marketable and in repurchase agreement maturing in more than seven
days.
Investment Restrictions
International SmallCap Account, MicroCap Account, MidCap Growth Account,
Real Estate Account, SmallCap Account, SmallCap Growth Account, SmallCap
Value Account and Utilities Account.
Each of the following numbered restrictions is a matter of fundamental
policy and may not be changed without shareholder approval. The International
SmallCap Account, MicroCap Account, MidCap Growth Account, Real Estate Account,
SmallCap Account, SmallCap Growth Account, SmallCap Value Account and Utilities
Accounts each may not:
(1) Issue any senior securities as defined in the Investment Company Act
of 1940, as amended. Purchasing and selling securities and futures
contracts and options thereon and borrowing money in accordance with
restrictions described below do not involve the issuance of a senior
security.
(2) Invest in commodities or commodity contracts, but it may purchase and
sell financial futures contracts and options on such contracts.
(3) Invest in real estate, although it may invest in securities which are
secured by real estate and securities of issuers which invest or deal
in real estate.
(4) Borrow money, except it may (a) borrow from banks (as defined in the
Investment Company Act of 1940, as amended) or other financial
institutions or through reverse repurchase agreements in amounts up to
331/3% of its total assets (including the amount borrowed); (b) to the
extent permitted by applicable law, borrow up to an additional 5% of
its total assets for temporary purposes; (c) obtain such short-term
credits as may be necessary for the clearance of purchases and sales
of portfolio securities, and (d) purchase securities on margin to the
extent permitted by applicable law. In addition, the MicroCap Account
may engage in transactions in mortgage dollar rolls which are
accounted for as financings.
(5) Make loans, except that the Account may (i) purchase and hold debt
obligations in accordance with its investment objective and policies,
(ii) enter into repurchase agreements, and (iii) lend its portfolio
securities without limitation against collateral (consisting of cash
or securities issued or guaranteed by the United States Government or
its agencies or instrumentalities) equal at all times to not less than
100% of the value of the securities loaned.
(6) Invest more than 5% of its total assets in the securities of any one
issuer (other than obligations issued or guaranteed by the United
States Government or its agencies or instrumentalities) or purchase
more than 10% of the outstanding voting securities of any one issuer,
except that this limitation shall apply only with respect to 75% of
the total assets of each Account.
(7) Act as an underwriter of securities, except to the extent the Account
may be deemed to be an underwriter in connection with the sale of
securities held in its portfolio.
(8) Concentrate its investments in any particular industry*, except that
the Account may invest not more than 25% of the value of its total
assets in a single industry.
The Real Estate Account may not invest less than 25% of its total
assets in securities of companies in the real estate industry, and the
Utilities Account may not invest less than 25% of its total assets in
securities of companies in the public utilities industry except that
each may, for temporary defensive purposes, place all of its assets in
cash, cash equivalents, bank certificates of deposit, bankers
acceptances, repurchase agreements, commercial paper, commercial paper
master notes, United States government securities, and preferred
stocks and debt securities, whether or not convertible into or
carrying rights for common stock.
(9) Sell securities short (except where the Account holds or has the right
to obtain at no added cost a long position in the securities sold that
equals or exceeds the securities sold short) or purchase any
securities on margin, except to the extent permitted by applicable law
and except that the Account may obtain such short-term credits as are
necessary for the clearance of transactions. The deposit or payment of
margin in connection with transactions in options and financial
futures contracts is not considered the purchase of securities on
margin.
Each of these Accounts has also adopted the following restrictions which
are not fundamental policies and may be changed without shareholder approval. It
is contrary to each Account's present policy to:
(1) Invest more than 15% of its total assets in securities not readily
marketable and in repurchase agreements maturing in more than seven
days.
(2) Pledge, mortgage or hypothecate its assets, except to secure permitted
borrowings. The deposit of underlying securities and other assets in
escrow and other collateral arrangements in connection with
transactions in put and call options, futures contracts and options on
futures contracts are not deemed to be pledges or other encumbrances.
(3) Invest in companies for the purpose of exercising control or
management.
(4) Invest more than 25% (20% for each of the SmallCap and Utilities
Accounts, 10% for each of the MidCap Growth and SmallCap Value
Accounts) of its total assets in securities of foreign issuers. This
restriction does not apply to the International SmallCap Account.
(5) Invest more than 5% of its assets in initial margin and premiums on
financial futures contracts and options on such contracts.
(6) Invest in real estate limited partnership interests or real estate
investment trusts except that this restriction shall not apply to
either the MicroCap or Real Estate Accounts.
(7) Acquire securities of other investment companies, except as permitted
by the Investment Company Act of 1940, as amended or any rule, order
or interpretation thereunder, or in connection with a merger,
consolidation, reorganization, acquisition of assets or an offer of
exchange. The Account may purchase securities of closed-end investment
companies in the open market where no underwriter or dealer's
commission or profit, other than a customary broker's commission, is
involved.
INCOME-ORIENTED ACCOUNTS
Investment Objectives
Bond Account seeks to provide as high a level of income as is
consistent with preservation of capital and prudent investment risk.
Government Securities Account seeks a high level of current income,
liquidity and safety of principal by purchasing obligations issued or guaranteed
by the United States Government or its agencies, with emphasis on Government
National Mortgage Association Certificates ("GNMA Certificates"). The guarantee
by the United States Government extends only to principal and interest; Account
shares are not guaranteed by the United States Government. There are certain
risks unique to GNMA Certificates.
High Yield Account seeks high current income primarily by purchasing
high yielding, lower or non-rated fixed income securities which are believed to
not involve undue risk to income or principal. Capital growth is a secondary
objective when consistent with the objective of high current income.
Investment Restrictions
Bond Account and High Yield Account
Each of the following numbered restrictions is a matter of fundamental
policy and may not be changed without shareholder approval. The Bond Account and
High Yield Account each may not:
(1) Issue any senior securities as defined in the Investment Company Act
of 1940. Purchasing and selling securities and futures contracts and
options thereon and borrowing money in accordance with restrictions
described below do not involve the issuance of a senior security.
(2) Purchase or retain in its portfolio securities of any issuer if those
officers or directors of the Account or the Manager owning
beneficially more than one-half of 1% (0.5%) of the securities of the
issuer together own beneficially more than 5% of such securities.
(3) Invest in commodities or commodity contracts, but it may purchase and
sell financial futures contracts and options on such contracts.
(4) Invest in real estate, although it may invest in securities which are
secured by real estate and securities of issuers which invest or deal
in real estate.
(5) Borrow money, except for temporary or emergency purposes, in an amount
not to exceed 5% of the value of the Account's total assets at the
time of the borrowing. The Bond Account and High Yield Account may
borrow only from banks.
(6) Make loans, except that the Account may (i) purchase and hold debt
obligations in accordance with its investment objective and policies,
(ii) enter into repurchase agreements, and (iii) lend its portfolio
securities without limitation against collateral (consisting of cash
or securities issued or guaranteed by the United States Government or
its agencies or instrumentalities) equal at all times to not less than
100% of the value of the securities loaned.
(7) Invest more than 5% of its total assets in the securities of any one
issuer (other than obligations issued or guaranteed by the United
States Government or its agencies or instrumentalities); or purchase
more than 10% of the outstanding voting securities of any one issuer.
(8) Act as an underwriter of securities, except to the extent the Account
may be deemed to be an underwriter in connection with the sale of
securities held in its portfolio.
(9) Concentrate its investments in any particular industry or industries,
except that the Bond Account and High Yield Account each may invest
not more than 25% of the value of its total assets in a single
industry.
(10) Sell securities short (except where the Account holds or has the right
to obtain at no added cost a long position in the securities sold that
equals or exceeds the securities sold short) or purchase any
securities on margin, except it may obtain such short-term credits as
are necessary for the clearance of transactions. The deposit or
payment of margin in connection with transactions in options and
financial futures contracts is not considered the purchase of
securities on margin.
(11) Invest in interests in oil, gas or other mineral exploration or
development programs, although the Account may invest in securities of
issuers which invest in or sponsor such programs.
Each of these Accounts has also adopted the following restrictions which
are not fundamental policies and may be changed without shareholder approval. It
is contrary to each Account's present policy to:
(1) Invest more than 15% of its total assets in securities not readily
marketable and in repurchase agreements maturing in more than seven
days. The value of any options purchased in the Over-the-Counter
market, including all covered spread options and the assets used as
cover for any options written in the Over-the-Counter market are
included as part of this 15% limitation.
(2) Purchase warrants in excess of 5% of its total assets, of which 2% may
be invested in warrants that are not listed on the New York or
American Stock Exchange.
(3) Purchase securities of any issuer having less than three years'
continuous operation (including operations of any predecessors) if
such purchase would cause the value of the Account's investments in
all such issuers to exceed 5% of the value of its total assets.
(4) Purchase securities of other investment companies except in connection
with a merger, consolidation, or plan of reorganization or by purchase
in the open market of securities of closed-end companies where no
underwriter or dealer's commission or profit, other than a customary
broker's commission, is involved, and if immediately thereafter not
more than 10% of the value of the Account's total assets would be
invested in such securities.
(5) Pledge, mortgage or hypothecate its assets, except to secure permitted
borrowings. The deposit of underlying securities and other assets in
escrow and other collateral arrangements in connection with
transactions in put and call options, futures contracts and options on
futures contracts are not deemed to be pledges or other encumbrances.
(6) Invest in companies for the purpose of exercising control or
management.
(7) Invest more than 20% of its total assets in securities of foreign
issuers.
(8) Invest more than 5% of its total assets in the purchase of covered
spread options and the purchase of put and call options on securities,
securities indices and financial futures contracts. Options on
financial futures contracts and options on securities indices will be
used solely for hedging purposes; not for speculation.
(9) Invest more than 5% of its assets in initial margin and premiums on
financial futures contracts and options on such contracts.
(10) Invest in arbitrage transactions.
(11) Invest in real estate limited partnership interests.
Government Securities Account
Each of the following numbered restrictions is a matter of fundamental
policy and may not be changed without shareholder approval. The Government
Securities Account may not:
(1) Issue any senior securities as defined in the Act except insofar as
the Account may be deemed to have issued a senior security by reason
of (a) purchasing any securities on a standby, when-issued or delayed
delivery basis; or (b) borrowing money in accordance with restrictions
described below.
(2) Purchase any securities other than obligations issued or guaranteed by
the U.S. Government or its agencies or instrumentalities, except that
the Account may maintain reasonable amounts in cash or commercial
paper or purchase short-term debt securities not issued or guaranteed
by the U.S. Government or its agencies or instrumentalities for daily
cash management purposes or pending selection of particular long-term
investments.
(3) Act as an underwriter of securities, except to the extent the Account
may be deemed to be an underwriter in connection with the sale of GNMA
certificates held in its portfolio.
(4) Engage in the purchase and sale of interests in real estate, including
interests in real estate investment trusts (although it will invest in
securities secured by real estate or interests therein, such as
mortgage-backed securities) or invest in commodities or commodity
contracts, oil and gas interests, or mineral exploration or
development programs.
(5) Purchase or retain in its portfolio securities of any issuer if those
officers and directors of the Fund or the Manager owning beneficially
more than one-half of 1% (0.5%) of the securities of the issuer
together own beneficially more than 5% of such securities.
(6) Sell securities short or purchase any securities on margin, except it
may obtain such short-term credits as are necessary for the clearance
of transactions. The deposit or payment of margin in connection with
transactions in options and financial futures contracts is not
considered the purchase of securities on margin.
(7) Invest in companies for the purpose of exercising control or
management.
(8) Make loans, except that the Account may purchase or hold debt
obligations in accordance with the investment restrictions set forth
in paragraph (2) and may enter into repurchase agreements for such
securities, and may lend its portfolio securities without limitation
against collateral consisting of cash, or securities issued or
guaranteed by the United States Government or its agencies or
instrumentalities, which is equal at all times to 100% of the value of
the securities loaned.
(9) Borrow money, except for temporary or emergency purposes, in an amount
not to exceed 5% of the value of the Account's total assets at the
time of the borrowing.
(10) Enter into repurchase agreements maturing in more than seven days if,
as a result thereof, more than 10% of the value of the Account's total
assets would be invested in such repurchase agreements and other
assets without readily available market quotations.
(11) Invest more than 5% of its total assets in the purchase of covered
spread options and the purchase of put and call options on securities,
securities indices and financial futures contracts.
(12) Invest more than 5% of its assets in initial margin and premiums on
financial futures contracts and options on such contracts.
The Government Securities Account has also adopted the following
restrictions which are not a fundamental policy and may be changed without
shareholder approval. It is contrary to the Government Securities Account's
present policy to:
(1) Pledge, mortgage or hypothecate its assets, except to secure permitted
borrowings. The deposit of underlying securities and other assets in
escrow and other collateral arrangements in connection with
transactions in put and call options, futures contracts and options on
future contracts are not deemed to be pledges or other encumbrances.
(2) Invest its assets in the securities of any investment company except
that the Account may invest not more than 10% of its assets in
securities of other investment companies, invest not more than 5% of
its total assets in the securities of any one investment company, or
acquire not more than 3% of the outstanding voting securities of any
one investment company except in connection with a merger,
consolidation, or plan of reorganization, and the Account may purchase
securities of closed-end companies in the open market where no
underwriter or dealer's commission or profit, other than a customary
broker's commission, is involved.
MONEY MARKET ACCOUNT
Investment Objective
Money Market Account seeks as high a level of income available from
short-term securities as is considered consistent with preservation of
principal and maintenance of liquidity by investing in a portfolio of
money market instruments.
Investment Restrictions
Money Market Account
Each of the following numbered restrictions is a matter of fundamental
policy and may not be changed without shareholder approval. The Money Market
Account may not:
(1) Concentrate its investments in any one industry. No more than 25% of
the value of its total assets will be invested in securities of issuers
having their principal activities in any one industry, other than
securities issued or guaranteed by the U.S. Government or its agencies
or instrumentalities, or obligations of domestic branches of U.S. banks
and savings institutions. (See "Bank Obligations").
(2) Purchase the securities of any issuer if the purchase will cause more
than 25% of the value of its total assets to be invested in the
securities of any one issuer (except securities issued or guaranteed by
the U.S. Government, its agencies or instrumentalities).
(3) Purchase the securities of any issuer if the purchase will cause more
than 10% of the outstanding voting securities of the issuer to be held
by the Account (other than securities issued or guaranteed by the U.S.
Government, its agencies or instrumentalities).
(4) Invest a greater percentage of its total assets in securities not
readily marketable than is allowed by federal securities rules or
interpretations.
(5) Act as an underwriter except to the extent that, in connection with the
disposition of portfolio securities, it may be deemed to be an
underwriter under the federal securities laws.
(6) Purchase securities of any company with a record of less than 3 years
continuous operation (including that of predecessors) if the purchase
would cause the value of the Account's aggregate investments in all
such companies to exceed 5% of the value of the Account's total assets.
(7) Engage in the purchase and sale of illiquid interests in real estate,
including interests in real estate investment trusts (although it may
invest in securities secured by real estate or interests therein) or
invest in commodities or commodity contracts, oil and gas interests, or
mineral exploration or development programs.
(8) Purchase or retain in its portfolio securities of any issuer if those
officers and directors of the Fund or the Manager owning beneficially
more than one-half of 1% (0.5%) of the securities of the issuer
together own beneficially more than 5% of such securities.
(9) Purchase securities on margin, except it may obtain such short-term
credits as are necessary for the clearance of transactions. The Account
will not issue or acquire put and call options, straddles or spreads or
any combination thereof.
(10) Invest in companies for the purpose of exercising control or
management.
(11) Make loans to others except through the purchase of debt obligations in
which the Account is authorized to invest and by entering into
repurchase agreements (see "Account Investments").
(12) Borrow money, except from banks for temporary or emergency purposes,
including the meeting of redemption requests which might otherwise
require the untimely disposition of securities, in an amount not to
exceed the lesser of (i) 5% of the value of the Account's assets, or
(ii) 10% of the value of the Account's net assets taken at cost at the
time such borrowing is made. The Account will not issue senior
securities except in connection with such borrowings. The Account may
not pledge, mortgage, or hypothecate its assets (at value) to an extent
greater than 10% of the net assets.
(13) Invest in uncertificated time deposits maturing in more than seven
days; uncertificated time deposits maturing from two business days
through seven calendar days may not exceed 10% of the value of the
Account's total assets.
(14) Enter into repurchase agreements maturing in more than seven days if,
as a result thereof, more than 10% of the value of the Account's total
assets would be invested in such repurchase agreements and other assets
(excluding time deposits) without readily available market quotations.
The Money Market Account has also adopted the following restriction which
is not a fundamental policy and may be changed without shareholder approval. It
is contrary to the Money Market Account's present policy to: invest its assets
in the securities of any investment company except that the Account may invest
not more than 10% of its assets in securities of other investment companies,
invest not more than 5% of its total assets in the securities of any one
investment company, or acquire not more than 3% of the outstanding voting
securities of any one investment company except in connection with a merger,
consolidation, or plan of reorganization, and the Account may purchase
securities of closed-end companies in the open market where no underwriter or
dealer's commission or profit, other than a customary broker's commission, is
involved.
ACCOUNT INVESTMENTS
The following information further supplements the discussion of the
Account's investment objectives and policies in the Prospectus under the caption
"INVESTMENT OBJECTIVES, POLICIES AND RESTRICTIONS."
Although the Accounts may pursue the investment practices described under
the captions Restricted Securities, Foreign Securities, Spread Transactions,
Options on Securities and Securities Indices, and Futures Contracts and Options
on Futures Contracts, Currency Contracts, Repurchase Agreements, Lending of
Portfolio Securities and When Issued and Delay of Delivery Securities, none of
the Accounts either committed during the last fiscal year or currently intends
to commit during the present fiscal year more than 5% of its net assets to any
of the practices, except as noted. Investments in foreign securities by the
Aggressive Growth, Asset Allocation, International, International SmallCap, and
MicroCap Accounts are expected to exceed 5% of each Account's net assets, and
investments in foreign securities by the SmallCap Growth Account may at times
exceed 5% of its net assets.
Fundamental Analysis
Selections of equity securities for the Accounts, except the Aggressive
Growth, Asset Allocation, MicroCap, MidCap Growth and SmallCap Value Accounts,
are made based upon an approach described broadly as that of fundamental
analysis. Three basic steps are involved in this analysis. First is the
continuing study of basic economic factors in an effort to conclude what the
future general economic climate is likely to be over the next one to two years.
Second, given some conviction as to the likely economic climate, the Account
attempts to identify the prospects for the major industrial, commercial and
financial segments of the economy, by looking at such factors as demand for
products, capacity to produce, operating costs, pricing structure, marketing
techniques, adequacy of raw materials and components, domestic and foreign
competition, and research productivity, to ascertain prospects for each industry
for the near and intermediate term. Finally, determinations are made regarding
earnings prospects for individual companies within each industry by considering
the same types of factors described above. These earnings prospects are then
evaluated in relation to the current price of the securities of each company.
This analysis process is often referred to as "top-down" fundamental analysis.
In selecting equity securities for the SmallCap Growth Account, these same three
basic steps are followed, but in the reverse order. This process is often
referred to as "bottom-up" fundamental analysis.
Restricted Securities
Each of the following Accounts has adopted investment restrictions as
non-fundamental policies that limit its investments in restricted securities and
other illiquid securities to 15% of its assets: Aggressive Growth, Asset
Allocation, Balanced, Bond, Capital Value, Growth, High Yield, International,
International SmallCap, MicroCap, MidCap, MidCap Growth, Real Estate, SmallCap,
SmallCap Growth, SmallCap Value and Utilities Accounts.
Generally, restricted securities are not readily marketable because they
are subject to legal or contractual restrictions upon resale. They may be sold
only in a public offering with respect to which a registration statement is in
effect under the Securities Act of 1933 or in a transaction which is exempt from
the registration requirements of that act. When registration is required, an
Account may be obligated to pay all or part of the registration expenses and a
considerable period may elapse between the time of the decision to sell and the
time the Account may by permitted to sell a security under an effective
registration statement. If, during such a period, adverse market conditions were
to develop, the Account might obtain a less favorable price than prevailed when
it decided to sell. Restricted securities and other securities not readily
marketable will be priced at fair value as determined in good faith by or under
the direction of the Board of Directors.
Foreign Securities
Each of the following Accounts has adopted investment restrictions as
non-fundamental policies that limit its investments in foreign securities to the
indicated percentage of its assets: Asset Allocation, International and
International SmallCap Accounts - 100% ; Aggressive Growth, MicroCap, Real
Estate and SmallCap Growth Accounts - 25%; Bond, Capital Value, High Yield,
SmallCap and Utilities Accounts - 20%; Balanced, Growth, MidCap, MidCap Growth
and SmallCap Value Accounts - 10%. The Money Market Account does not invest in
foreign securities other than those that are United States dollar denominated.
United States dollar denominated means that all principal and interest payments
for the security are payable in U.S. dollars and that the interest rate of, the
principal amount to be repaid and the timing of payments related to the
securities do not vary or float with the value of a foreign currency, the rate
of interest on foreign currency borrowings or with any other interest rate or
index expressed in a currency other than U.S. dollars. Debt securities issued in
the United States pursuant to a registration statement filed with the Securities
and Exchange Commission are not considered "foreign securities" for purposes of
this investment limitation.
Investment in foreign securities presents certain risks, including those
resulting from fluctuations in currency exchange rates, revaluation of
currencies, the imposition of foreign taxes, future political and economic
developments including war, expropriations, nationalization, the possible
imposition of currency exchange controls and other foreign governmental laws or
restrictions, reduced availability of public information concerning issuers, and
the fact that foreign issuers are not generally subject to uniform accounting,
auditing and financial reporting standards or to other regulatory practices and
requirements comparable to those applicable to domestic issuers. Moreover,
securities of many foreign issuers may be less liquid and their prices more
volatile than those of comparable domestic issuers. In addition, transactions in
foreign securities may be subject to higher costs, and the time for settlement
of transactions in foreign securities may be longer than the settlement period
for domestic issuers. Each Account's investment in foreign securities may also
result in higher custodial costs and the costs associated with currency
conversions.
Spread Transactions, Options on Securities and Securities Indices, and Futures
Contracts and Options on Futures Contracts
The Aggressive Growth, Asset Allocation, Balanced, Bond, Government
Securities, Growth, High Yield, International, International SmallCap, MicroCap,
MidCap, MidCap Growth, Real Estate, SmallCap, SmallCap Growth, SmallCap Value
and Utilities Accounts may each engage in the practices described under this
heading. None of the Accounts will invest more than 5% of its assets in the
purchase of call and put options on individual securities, securities indices
and futures contracts. In the following discussion, the terms "the Account,"
"each Account" or "the Accounts" refer to each of these Accounts.
Spread Transactions
Each Account may purchase from securities dealers covered spread options.
Such covered spread options are not presently exchange listed or traded. The
purchase of a spread option gives the Account the right to put, or sell, a
security that it owns at a fixed dollar spread or fixed yield spread in
relationship to another security that the Account does not own, but which is
used as a benchmark. The risk to the Account in purchasing covered spread
options is the cost of the premium paid for the spread option and any
transaction costs. In addition, there is no assurance that closing transactions
will be available. The purchase of spread options can be used to protect each
Account against adverse changes in prevailing credit quality spreads, i.e., the
yield spread between high quality and lower quality securities. The security
covering the spread option will be maintained in a segregated account by each
Account's custodian. The Accounts do not consider a security covered by a spread
option to be "pledged" as that term is used in the Accounts' policy limiting the
pledging or mortgaging of assets.
Options on Securities and Securities Indices
Each Account may write (sell) and purchase call and put options on
securities in which it may invest and on securities indices based on securities
in which the Account may invest. The Accounts may write call and put options to
generate additional revenue, and may write and purchase call and put options in
seeking to hedge against a decline in the value of securities owned or an
increase in the price of securities which the Account plans to purchase.
Writing Covered Call and Put Options. When an Account writes a call
option, it gives the purchaser of the option, in return for the premium it
receives, the right to buy from the Account the underlying security at a
specified price at any time before the option expires. When an Account writes a
put option, it gives the purchaser of the option, in return for the premium it
receives, the right to sell to the Account the underlying security at a
specified price at any time before the option expires.
The premium received by an Account, when it writes a put or call option,
reflects, among other factors, the current market price of the underlying
security, the relationship of the exercise price to the market price, the time
period until the expiration of the option and interest rates. The premium will
generate additional income for the Account if the option expires unexercised or
is closed out at a profit. By writing a call, an Account limits its opportunity
to profit from any increase in the market value of the underlying security above
the exercise price of the option, but it retains the risk of loss if the price
of the security should decline. By writing a put, an Account assumes the risk
that it may have to purchase the underlying security at a price that may be
higher than its market value at time of exercise.
The Accounts write only covered options and will comply with applicable
regulatory and exchange cover requirements. The Accounts usually will own the
underlying security covered by any outstanding call option that it has written.
With respect to an outstanding put option that it has written, each Account will
deposit and maintain with its custodian cash, U.S. Government securities or
other liquid securities with a value at least equal to the exercise price of the
option.
Once an Account has written an option, it may terminate its obligation,
before the option is exercised, by effecting a closing transaction, which is
accomplished by the Account's purchasing an option of the same series as the
option previously written. The Accounts will have a gain or loss depending on
whether the premium received when the option was written exceeds the closing
purchase price plus related transaction costs.
Purchasing Call and Put Options. When an Account purchases a call
option, it receives, in return for the premium it pays, the right to buy from
the writer of the option the underlying security at a specified price at any
time before the option expires. The Account may purchase call options in
anticipation of an increase in the market value of securities that it intends
ultimately to buy. During the life of the call option, the Account would be able
to buy the underlying security at the exercise price regardless of any increase
in the market price of the underlying security. In order for a call option to
result in a gain, the market price of the underlying security must rise to a
level that exceeds the sum of the exercise price, the premium paid and
transaction costs.
When an Account purchases a put option, it receives, in return for the
premium it pays, the right to sell to the writer of the option the underlying
security at a specified price at any time before the option expires. The Account
may purchase put options in anticipation of a decline in the market value of the
underlying security. During the life of the put option, the Account would be
able to sell the underlying security at the exercise price regardless of any
decline in the market price of the underlying security. In order for a put
option to result in a gain, the market price of the underlying security must
decline, during the option period, below the exercise price sufficiently to
cover the premium and transaction costs.
Once an Account has purchased an option, it may close out its position by
selling an option of the same series as the option previously purchased. The
Account will have a gain or loss depending on whether the closing sale price
exceeds the initial purchase price plus related transaction costs.
Options on Securities Indices. Each Account may purchase and sell put
and call options on any securities index based on securities in which the
Account may invest. Securities index options are designed to reflect price
fluctuations in a group of securities or segment of the securities market rather
than price fluctuations in a single security. Options on securities indices are
similar to options on securities, except that the exercise of securities index
options requires cash payments and does not involve the actual purchase or sale
of securities. The Accounts would engage in transactions in put and call options
on securities indices for the same purposes as they would engage in transactions
in options on securities. When an Account writes call options on securities
indices, it will hold in its portfolio underlying securities which, in the
judgment of the Manager or the Sub-Advisor, correlate closely with the
securities index and which have a value at least equal to the aggregate amount
of the securities index options.
Risks Associated with Options Transactions. An options position may be
closed out only on an exchange which provides a secondary market for an option
of the same series. Although the Accounts will generally purchase or write only
those options for which there appears to be an active secondary market, there is
no assurance that a liquid secondary market on an exchange will exist for any
particular option, or at any particular time. For some options, no secondary
market on an exchange or elsewhere may exist. If an Account is unable to effect
closing sale transactions in options it has purchased, the Account would have to
exercise its options in order to realize any profit and may incur transaction
costs upon the purchase or sale of underlying securities pursuant thereto. If an
Account is unable to effect a closing purchase transaction for a covered option
that it has written, it will not be able to sell the underlying securities, or
dispose of the assets held in a segregated account, until the option expires or
is exercised. An Account's ability to terminate option positions established in
the over-the-counter market may be more limited than for exchange-traded options
and may also involve the risk 35 that broker-dealers participating in such
transactions might fail to meet their obligations.
Futures Contracts and Options on Futures
Each Account may purchase and sell financial futures contracts and options
on those contracts. Financial futures contracts are commodities contracts based
on financial instruments such as U.S. Treasury bonds or bills, foreign
currencies, or on securities indices such as the S&P 500 Index. Futures
contracts, options on futures contracts and the commodity exchanges on which
they are traded are regulated by the Commodity Futures Trading Commission
("CFTC"). Through the purchase and sale of futures contracts and related
options, an Account may seek to hedge against a decline in securities owned by
the Account or an increase in the price of securities which the Account plans to
purchase. An Account may also purchase and sell futures contracts and related
options to maintain cash reserves while simulating full investment in equity
securities and to keep substantially all of its assets exposed to the market.
Futures Contracts. When an Account sells a futures contract based on a
financial instrument, the Account becomes obligated to deliver that kind of
instrument at a specified future time for a specified price. When an Account
purchases that kind of contract, it becomes obligated to take delivery of the
instrument at a specified time and to pay the specified price. In most
instances, these contracts are closed out by entering into an offsetting
transaction before the settlement date, thereby canceling the obligation to make
or take delivery of specific securities. The Account realizes a gain or loss
depending on whether the price of an offsetting purchase plus transaction costs
are less or more than the price of the initial sale or on whether the price of
an offsetting sale is more or less than the price of the initial purchase plus
transaction costs. Although the Account will usually liquidate futures contracts
on financial instruments in this manner, they may instead make or take delivery
of the underlying securities whenever it appears economically advantageous to do
so.
A futures contract based on a securities index provides for the purchase or
sale of a group of securities at a specified future time for a specified price.
These contracts do not require actual delivery of securities, but result in a
cash settlement based upon the difference in value of the index between the time
the contract was entered into and the time it is liquidated, which may be at its
expiration or earlier if it is closed out by entering into an offsetting
transaction.
When a futures contract is purchased or sold a brokerage commission is
paid, but unlike the purchase or sale of a security or option, no price or
premium is paid or received. Instead, an amount of cash or U.S. Government
securities, which varies, but is generally about 5% of the contract amount, is
deposited by the Account with its custodian for the benefit of the futures
commission merchant through which the Account engages in the transaction. This
amount is known as "initial margin." It does not involve the borrowing of funds
by the Account to finance the transaction, but instead represents a "good faith"
deposit assuring the performance of both the purchaser and the seller under the
futures contract. It is returned to the Account upon termination of the futures
contract, if all the Account's contractual obligations have been satisfied.
Subsequent payments to and from the broker, known as "variation margin,"
are required to be made on a daily basis as the price of the futures contract
fluctuates, making the long or short positions in the futures contract more or
less valuable, a process known as "marking to market." If the position is closed
out by taking an opposite position prior to the settlement date of the futures
contract, a final determination of variation margin is made, additional cash is
required to be paid to or released by the broker, and the Account realizes a
loss or gain.
In using futures contracts, the Accounts will seek to establish more
certainly than would otherwise be possible the effective price of or rate of
return on portfolio securities or securities that the Account proposes to
acquire. An Account, for example, may sell futures contracts in anticipation of
a rise in interest rates which would cause a decline in the value of its debt
investments. When this kind of hedging is successful, the futures contracts
should increase in value when the Account's debt securities decline in value and
thereby keep the Account's net asset value from declining as much as it
otherwise would. An Account may also sell futures contracts on securities
indices in anticipation of or during a stock market decline in an endeavor to
offset a decrease in the market value of its equity investments. When an Account
is not fully invested and anticipates an increase in the cost of securities it
intends to purchase, it may purchase financial futures contracts. When increases
in the prices of equities are expected, an Account may purchase futures
contracts on securities indices in order to gain rapid market exposure that may
partially or entirely offset increases in the cost of the equity securities it
intends to purchase.
Options on Futures. The Accounts may also purchase and write call and
put options on futures contracts. A call option on a futures contract gives the
purchaser the right, in return for the premium paid, to purchase a futures
contract (assume a long position) at a specified exercise price at any time
before the option expires. A put option gives the purchaser the right, in return
for the premium paid, to sell a futures contract (assume a short position), for
a specified exercise price, at any time before the option expires.
Upon the exercise of a call, the writer of the option is obligated to sell
the futures contract (to deliver a long position to the option holder) at the
option exercise price, which will presumably be lower than the current market
price of the contract in the futures market. Upon exercise of a put, the writer
of the option is obligated to purchase the futures contract (deliver a short
position to the option holder) at the option exercise price, which will
presumably be higher than the current market price of the contract in the
futures market. However, as with the trading of futures, most options are closed
out prior to their expiration by the purchase or sale of an offsetting option at
a market price that will reflect an increase or a decrease from the premium
originally paid.
Options on futures can be used to hedge substantially the same risks as
might be addressed by the direct purchase or sale of the underlying futures
contracts. For example, if an Account anticipated a rise in interest rates and a
decline in the market value of the debt securities in its portfolio, it might
purchase put options or write call options on futures contracts instead of
selling futures contracts.
If an Account purchases an option on a futures contract, it may obtain
benefits similar to those that would result if it held the futures position
itself. But in contrast to a futures transaction, the purchase of an option
involves the payment of a premium in addition to transaction costs. In the event
of an adverse market movement, however, the Account will not be subject to a
risk of loss on the option transaction beyond the price of the premium it paid
plus its transaction costs.
When an Account writes an option on a futures contract, the premium paid by
the purchaser is deposited with the Account's custodian, and the Account must
maintain with its custodian all or a portion of the initial margin requirement
on the underlying futures contract. The Account assumes a risk of adverse
movement in the price of the underlying futures contract comparable to that
involved in holding a futures position. Subsequent payments to and from the
broker, similar to variation margin payments, are made as the premium and the
initial margin requirement are marked to market daily. The premium may partially
offset an unfavorable change in the value of portfolio securities, if the option
is not exercised, or it may reduce the amount of any loss incurred by the
Account if the option is exercised.
Risks Associated with Futures Transactions. There are a number of risks
associated with transactions in futures contracts and related options. An
Account's successful use of futures contracts is subject to the Manager's and
the Sub-Advisor's ability to predict correctly the factors affecting the market
values of the Account's portfolio securities. For example, if an Account was
hedged against the possibility of an increase in interest rates which would
adversely affect debt securities held by the Account and the prices of those
debt securities instead increased, the Account would lose part or all of the
benefit of the increased value of its securities which it hedged because it
would have offsetting losses in its futures positions. Other risks include
imperfect correlation between price movements in the financial instrument or
securities index underlying the futures contract, on the one hand, and the price
movements of either the futures contract itself or the securities held by the
Account, on the other hand. If the prices do not move in the same direction or
to the same extent, the transaction may result in trading losses.
Prior to exercise or expiration, a position in futures may be terminated
only by entering into a closing purchase or sale transaction. This requires a
secondary market on the relevant contract market. The Account will enter into a
futures contract or related option only if there appears to be a liquid
secondary market therefor. There can be no assurance, however, that such a
liquid secondary market will exist for any particular futures contract or
related option at any specific time. Thus, it may not be possible to close out a
futures position once it has been established. Under such circumstances, the
Account would continue to be required to make daily cash payments of variation
margin in the event of adverse price movements. In such situations, if the
Account has insufficient cash, it may be required to sell portfolio securities
to meet daily variation margin requirements at a time when it may be
disadvantageous to do so. In addition, the Account may be required to perform
under the terms of the futures contracts it holds. The inability to close out
futures positions also could have an adverse impact on the Account's ability
effectively to hedge its portfolio.
Most United States futures exchanges limit the amount of fluctuation
permitted in futures contract prices during a single trading day. This daily
limit establishes the maximum amount that the price of a futures contract may
vary either up or down from the previous day's settlement price at the end of a
trading session. Once the daily limit has been reached in a particular type of
contract, no more trades may be made on that day at a price beyond that limit.
The daily limit governs only price movements during a particular trading day and
therefore does not limit potential losses because the limit may prevent the
liquidation of unfavorable positions. Futures contract prices have occasionally
moved to the daily limit for several consecutive trading days with little or no
trading, thereby preventing prompt liquidation of futures positions and
subjecting some futures traders to substantial losses.
Limitations on the Use of Futures and Options on Futures. Each Account
intends to come within an exclusion from the definition of "commodity pool
operator" provided by CFTC regulations by complying with certain limitations on
the use of futures and related options prescribed by those regulations.
None of the Accounts will purchase or sell futures contracts or options to
seek to increase total return thereon except for closing purchase and sale
transactions if immediately thereafter the aggregate initial margin and premiums
exceed 5% of the fair market value of the Account's assets, after taking into
account unrealized profits and unrealized losses on any such contracts it has
entered into (except that in the case of an option that is in-the-money at the
time of purchase, the in-the-money amount generally may be excluded in computing
the 5%).
The Accounts will enter into futures contracts and related options
transactions for bona fide hedging purposes as permitted by the CFTC and to seek
to increase total return to the extent permitted by the CFTC so long as an
Account would be excluded from the regulations governing commodity pool
operators. The Accounts are not permitted to engage in speculative futures
trading. Each Account will determine that the price fluctuations in the futures
contracts and options on futures used for hedging or risk management purposes
are substantially related to price fluctuations in securities held by the
Account or which it expects to purchase. In pursuing traditional hedging
activities, each Account will sell futures contracts or acquire puts to protect
against a decline in the price of securities that the Account owns, and each
Account will purchase futures contracts or calls on futures contracts to protect
the Account against an increase in the price of securities the Account intends
to purchase before it is in a position to do so.
When an Account purchases a futures contract, or purchases a call option on
a futures contract, it will place any asset, including equity securities and
non-investment grade debt, in a segregated account, so long as the asset is
liquid and marked to the market daily. The amount so segregated plus the amount
of initial margin held for the account of its broker equals the market value of
the futures contract.
The Accounts will not maintain open short positions in futures contracts,
call options written on futures contracts, and call options written on
securities indices if, in the aggregate, the value of the open positions (marked
to market) exceeds the current market value of that portion of its securities
portfolio being hedged by those futures and options plus or minus the unrealized
gain or loss on those open positions, adjusted for the historical volatility
relationship between that portion of the portfolio and the contracts (i.e., the
Beta volatility factor). To the extent an Account has written call options on
specific securities in that portion of its portfolio, the value of those
securities will be deducted from the current market value of that portion of the
securities portfolio. If this limitation should be exceeded at any time, the
Account will take prompt action to close out the appropriate number of open
short positions to bring its open futures and options positions within this
limitation.
Currency Contracts
The Accounts (except Government Securities and Money Market) each may
engage in currency transactions with securities dealers, financial institutions
or other parties that are deemed creditworthy by the Account's Sub-Advisor to
hedge the value of portfolio securities denominated in particular currencies
against fluctuations in relative value. Currency transactions include forward
currency contracts, exchange-listed currency futures contracts and options
thereon and exchange-listed and over-the-counter options on currencies. A
forward currency contract involves a privately negotiated obligation to purchase
or sell (with delivery generally required) a specific currency at a future date,
which may be any fixed number of days from the date of the contract agreed upon
by the parties, at a price set at the time of the contract.
The Accounts will engage in currency transactions only for hedging and
other non-speculative purposes, including transaction hedging and position
hedging. Transaction hedging is entering into a currency transaction with
respect to specific assets or liabilities of the Account, which will generally
arise in connection with the purchase or sale of the Account's portfolio
securities or the receipt of income from them. Position hedging is entering into
a currency transaction with respect to portfolio securities positions
denominated or generally quoted in that currency. The Accounts will not enter
into a transaction to hedge currency exposure to an extent greater, after
netting all transactions intended wholly or partially to offset other
transactions, than the aggregate market value (at the time of entering into the
transaction) of the securities held by the Account that are denominated or
generally quoted in or currently convertible into the currency, other than with
respect to proxy hedging as described below.
The Accounts may cross-hedge currencies by entering into transactions to
purchase or sell one or more currencies that are expected to increase or decline
in value relative to other currencies to which the Account has or in which the
Account expects to have exposure. To reduce the effect of currency fluctuations
on the value of existing or anticipated holdings of its securities, the Account
may also engage in proxy hedging. Proxy hedging is often used when the currency
to which an Account's holding is exposed is difficult to hedge generally or
difficult to hedge against the dollar. Proxy hedging entails entering into a
forward contract to sell a currency, the changes in the value of which are
generally considered to be linked to a currency or currencies in which some or
all of an Account's securities are or are expected to be denominated, and to buy
dollars. The amount of the contract would not exceed the market value of the
Account's securities denominated in linked currencies.
Except when an Account enters into a forward contract in connection with
the purchase or sale of a security denominated in a foreign currency or for
other non-speculative purposes, which requires no segregation, a currency
contract that obligates the Account to buy or sell a foreign currency will
generally require the Account to hold an amount of that currency or liquid
securities denominated in that currency equal to the Account's obligations or to
segregate liquid high grade debt obligations equal to the amount of the
Account's obligations.
Currency hedging involves some of the same risks and considerations as
other transactions with similar instruments. Currency transactions can result in
losses to an Account if the currency being hedged fluctuates in value to a
degree or in a direction that is not anticipated. Further, the risk exists that
the perceived linkage between various currencies may not be present or may not
be present during the particular time that an Account is engaging in proxy
hedging. Currency transactions are also subject to risks different from those of
other portfolio transactions. Because currency control is of great importance to
the issuing governments and influences economic planning and policy, purchases
and sale of currency and related instruments can be adversely affected by
government exchange controls, limitations or restrictions on repatriation of
currency, and manipulations or exchange restrictions imposed by governments.
These forms of governmental actions can result in losses to an Account if it is
unable to deliver or receive currency or monies in settlement of obligations and
could also cause hedges it has entered into to be rendered useless, resulting in
full currency exposure as well as incurring transaction costs. Currency exchange
rates may also fluctuate based on factors extrinsic to a country's economy.
Buyers and sellers of currency futures contracts are subject to the same risks
that apply to the use of futures contracts generally. Further, settlement of a
currency futures contract for the purchase of most currencies must occur at a
bank based in the issuing nation. Trading options on currency futures contracts
is relative new, and the ability to establish and close out positions on these
options is subject to the maintenance of a liquid market that may not always be
available.
Repurchase Agreements
All the Accounts may invest in repurchase agreements. None of the Accounts
will enter into repurchase agreements that do not mature within seven days if
any such investment, together with other illiquid securities held by the
Account, would amount to more than 15% of its assets. The MicroCap Account,
together with other registered investment companies having management agreements
with GSAM or its affiliates, may transfer univested cash balances into a single
joint account, the daily aggregate balance of which will be invested in one or
more repurchase agreements. Repurchase agreements will typically involve the
acquisition by the Account of debt securities from a selling financial
institution such as a bank, savings and loan association or broker-dealer. A
repurchase agreement provides that the Account will sell back to the seller and
that the seller will repurchase the underlying securities at a specified price
and at a fixed time in the future. Repurchase agreements may be viewed as loans
by an Account collateralized by the underlying securities ("collateral"). This
arrangement results in a fixed rate of return that is not subject to market
fluctuation during the Account's holding period. Although repurchase agreements
involve certain risks not associated with direct investments in debt securities,
each of the Accounts follows procedures established by the Board of Directors
which are designed to minimize such risks. These procedures include entering
into repurchase agreements only with large, well-capitalized and
well-established financial institutions, which the Manager believes present
minimum credit risks. In addition, the value of the collateral underlying the
repurchase agreement will always be at least equal to the repurchase price,
including accrued interest. In the event of a default or bankruptcy by a selling
financial institution, the affected Account bears a risk of loss. In seeking to
liquidate the collateral, an Account may be delayed in or prevented from
exercising its rights and may incur certain costs. Further to the extent that
proceeds from any sale upon a default of the obligation to repurchase were less
than the repurchase price, the Account could suffer a loss.
Lending of Portfolio Securities
All the Accounts may lend their portfolio securities. None of the Accounts
intends to lend its portfolio securities if as a result the aggregate of such
loans made by the Account would exceed 33 1/3% of its total assets. Portfolio
securities may be loaned to unaffiliated broker-dealers and other unaffiliated
qualified financial institutions provided that such loans are callable at any
time on not more than five business days' notice and that cash or government
securities equal to at least 100% of the market value of the securities loaned,
determined daily, is deposited by the borrower with the Account and is
maintained each business day in a segregated account. While such securities are
on loan, the borrower will pay the Account any income accruing thereon, and the
Account may invest any cash collateral, thereby earning additional income, or
may receive an agreed upon fee from the borrower. Borrowed securities must be
returned when the loan is terminated. Any gain or loss in the market price of
the borrowed securities which occurs during the term of the loan inures to the
Account and its shareholders. An Account may pay reasonable administrative,
custodial and other fees in connection with such loans and may pay a negotiated
portion of the interest earned on the cash or government securities pledged as
collateral to the borrower or placing broker. An Account does not vote
securities that have been loaned, but it will call a loan of securities in
anticipation of an important vote.
When-Issued and Delayed Delivery Securities
Each of the Accounts may from time to time purchase securities on a
when-issued basis and may purchase or sell securities on a delayed delivery
basis. The price of such a transaction is fixed at the time of the commitment,
but delivery and payment take place on a later settlement date, which may be a
month or more after the date of the commitment. No interest accrues to the
purchaser during this period, and the securities are subject to market
fluctuation, which involves the risk for the purchaser that yields available in
the market at the time of delivery may be higher than those obtained in the
transaction. Each Account will only purchase securities on a when-issued or
delayed delivery basis with the intention of acquiring the securities, but an
Account may sell the securities before the settlement date, if such action is
deemed advisable. At the time an Account makes the commitment to purchase
securities on a when-issued or delayed delivery basis, it will record the
transaction and thereafter reflect the value, each day, of the securities in
determining its net asset value. Each Account will also establish a segregated
account with its custodian bank in which it will maintain cash or cash
equivalents, United States Government securities and other high grade debt
obligations equal in value to the Account's commitments for such when-issued or
delayed delivery securities. The availability of liquid assets for this purpose
and the effect of asset segregation on an Account's ability to meet its current
obligations, to honor requests for redemption and to have its investment
portfolio managed properly will limit the extent to which the Account may engage
in forward commitment agreements. Except as may be imposed by these factors,
there is no limit on the percent of an Account's total assets that may be
committed to transactions in such agreements.
Securities of Smaller Companies
The International SmallCap, MicroCap, MidCap, MidCap Growth, SmallCap,
SmallCap Growth and SmallCap Value Accounts may invest in and be weighted
toward, securities of companies with small- or mid-sized market capitalizations.
Market capitalization is defined as total current market value of a company's
outstanding common stock. Investments in companies with smaller market
capitalizations may involve greater risks and price volatility (wide, rapid
fluctuations) than investments in larger, more mature companies. Smaller
companies may be less mature than older companies. At this earlier stage of
development, the companies may have limited product lines, reduced market
liquidity for their shares, limited financial resources or less depth in
management than larger or more established companies. Small companies also may
be less significant factors within their industries and may be at a competitive
disadvantage relative to their larger competitors. While smaller companies may
be subject to these additional risks, they may also realize more substantial
growth than larger or more established companies.
Unseasoned Issuers
Each of the Accounts, except the Government Securities Account, may invest
in the securities of unseasoned issuers. The Aggressive Growth, Asset
Allocation, Balanced, Bond, Capital Value, Growth, International, MidCap and
Money Market Accounts each may invest not more than 5% of its total assets in
the securities of unseasoned issuers. Unseasoned issuers are companies with a
record of less than three years' continuous operation, including the operations
of any predecessors and parents. Unseasoned issuers by their nature have only a
limited operating history which can be used for evaluating the companies growth
prospects. As a result, investment decisions for these securities may place a
greater emphasis on current or planned product lines and the reputation and
experience of the companies management and less emphasis on fundamental
valuation factors than would be the case for more mature growth companies. In
addition, many unseasoned issuers also may be small companies and involve the
risks and price volatility associated with smaller companies.
Industry Concentrations
Each of the Accounts, except the Real Estate and Utilities Accounts, may
not concentrate its investments in any particular industry. For purposes of
applying the SmallCap Growth Account's industry concentration restriction, the
Account uses the industry groups used in the Data Monitor Portfolio Monitoring
System of William O'Neill & Co. Incorporated. The other Accounts use industry
classifications based on the "Directory of Companies Filing Annual Reports with
the Securities and Exchange Commission."
Money Market Instruments
The Money Market Account will invest all of its available assets in money
market instruments maturing in 397 days or less. The types of instruments which
this Account may purchase are described below.
(1) U.S. Government Securities -- Securities issued or guaranteed by the
U.S. Government, including treasury bills, notes and bonds.
(2) U.S. Government Agency Securities -- Obligations issued or guaranteed
by agencies or instrumentalities of the U.S. Government. U.S. agency
obligations include, but are not limited to, the Student Loan Marketing
Association, Federal Intermediate Credit Banks, and the Federal
National Mortgage Association. U.S. instrumentality obligations
include, but are not limited to, the Export-Import Bank and Farmers
Home Administration. Some obligations issued or guaranteed by U.S.
Government agencies and instrumentalities, such as those issued by
Federal Intermediate Credit Banks, are supported by the right of the
issuer to borrower from the Treasury, others such as those issued by
the Federal National Mortgage Association, by discretionary authority
of the U.S. Government to purchase certain obligations of the agency or
instrumentality, and others, such as those issued by the Student Loan
Marketing Association, only by the credit of the agency or
instrumentality.
(3) Bank Obligations -- Certificates of deposit, time deposits and bankers'
acceptances of U.S. commercial banks having total assets of at least
one billion dollars, and of the overseas branches of U.S. commercial
banks and foreign banks, which in the Manager's opinion, are of
comparable quality, provided each such bank with its branches has total
assets of at least five billion dollars, and certificates, including
time deposits of domestic savings and loan associations having at least
one billion dollars in assets which are insured by the Federal Savings
and Loan Insurance Corporation. The Account may acquire obligations of
U.S. banks which are not members of the Federal Reserve System or of
the Federal Deposit Insurance Corporation. Any obligations of foreign
banks shall be denominated in U.S. dollars. Obligations of foreign
banks and obligations of overseas branches of U.S. banks are subject to
somewhat different regulations and risks than those of U.S. domestic
banks. For example, an issuing bank may be able to maintain that the
liability for an investment is solely that of the overseas branch which
could expose the Account to a greater risk of loss. In addition,
obligations of foreign banks or of overseas branches of U.S. banks may
be affected by governmental action in the country of domicile of the
branch or parent bank. Examples of adverse foreign governmental actions
include the imposition of currency controls, the imposition of
withholding taxes on interest income payable on such obligations,
interest limitations, seizure or nationalization of assets, or the
declaration of a moratorium. Deposits in foreign banks or foreign
branches of U.S. banks are not covered by the Federal Deposit Insurance
Corporation. The Account will only buy short-term instruments where the
risks of adverse governmental action are believed by the Manager to be
minimal. The Account will consider these factors along with other
appropriate factors in making an investment decision to acquire such
obligations and will only acquire those which, in the opinion of
management, are of an investment quality comparable to other debt
securities bought by the Account. The Account may invest in
certificates of deposit of selected banks having less than one billion
dollars of assets providing the certificates do not exceed the level of
insurance (currently $100,000) provided by the applicable government
agency.
A certificate of deposit is issued against funds deposited in a bank or
savings and loan association for a definite period of time, at a
specified rate of return. Normally they are negotiable. However, the
Account may occasionally invest in certificates of deposit which are
not negotiable. Such certificates may provide for interest penalties in
the event of withdrawal prior to their maturity. A bankers' acceptance
is a short-term credit instrument issued by corporations to finance the
import, export, transfer or storage of goods. They are termed
"accepted" when a bank guarantees their payment at maturity and reflect
the obligation of both the bank and drawer to pay the face amount of
the instrument at maturity.
(4) Commercial Paper -- Short-term promissory notes issued by corporations
which at time of purchase are rated A-1 or better by Standard and
Poor's ("S&P") or Prime-1 or better by Moody's Investors Service, Inc.
("Moody's") or, if not rated, issued or guaranteed by a corporation
with outstanding debt rated AA or better by S&P or Aa or better by
Moody's. The Account will not invest in master demand notes. (See
Appendix A.)
(5) Short-term Corporate Debt -- Corporate notes, bonds and debentures
which at the time of purchase are rated AA or better by S&P or Aa or
better by Moody's provided such securities have one year or less
remaining to maturity. (See Appendix A.)
(6) Repurchase Agreements -- Instruments under which securities are
purchased from a bank or securities dealer with an agreement by the
seller to repurchase the securities at the same price plus interest at
a specified rate. (See "ACCOUNT INVESTMENTS Repurchase Agreements.")
The ratings of Moody's and S&P, which are described in Appendix A,
represent their opinions as to the quality of the money market instruments which
they undertake to rate. It should be emphasized, however, that ratings are
general and are not absolute standards of quality. These ratings are the initial
criteria for selection of portfolio investments, but the Manager will further
evaluate these securities.
Portfolio Turnover
Portfolio turnover will normally differ for each Account, may vary from
year to year, as well as within a year, and may be affected by portfolio sales
necessary to meet cash requirements for redemptions of Account shares. The
portfolio turnover rate for an Account is calculated by dividing the lesser of
purchases or sales of its portfolio securities during the fiscal year by the
monthly average of the value of its portfolio securities (excluding from the
computation all securities, including options, with maturities at the time of
acquisition of one year or less). A high rate of portfolio turnover generally
involves correspondingly greater brokerage commission expenses, which must be
borne directly by the Account. No portfolio turnover rate can be calculated for
the Money Market Account because of the short maturities of the securities in
which it invests. The portfolio turnover rates for each of the other Accounts
for its most recent and immediately preceding fiscal periods, respectively, were
as follows: Aggressive Growth - 172.6% and 166.9%; Asset Allocation - 131.6% and
108.2%; Balanced - 69.7% and 22.6%; Bond - 7.3% and 1.7%; Capital Value 23.4%
and 48.5%; Government Securities - 9.0% and 8.4%; Growth - 15.4% and 2.0%; High
Yield - 32.0% and 32.0%; International - 22.7% and 12.5%; MidCap - 7.8% and
8.8%.
DIRECTORS AND OFFICERS OF THE FUNDS
The following listing discloses the principal occupations and other
principal business affiliations of the Fund's Officers and Directors during the
past five years. All mailing addresses are The Principal Financial Group, Des
Moines, Iowa 50392, unless otherwise indicated.
@James D. Davis, 64, Director. 4940 Center Court, Bettendorf, Iowa.
Attorney. Vice President, Deere and Company, Retired.
Pamela A. Ferguson, 54, Director. 4112 River Oaks Drive, Des Moines, Iowa.
Professor of Mathematics, Grinnell College since 1998. Prior thereto, President,
Grinnell College.
@Richard W. Gilbert, 57, Director. 1357 Asbury Avenue, Winnetka, IL.
President, Gilbert Communications, Inc. since 1993.
*&J. Barry Griswell, 49, Director and Chairman of the Board. President,
Principal Mutual Life Insurance Company since 1998. Executive Vice President,
1996-1998. Senior Vice President 1991-1996. Director and Chairman of the Board,
Principal Management Corporation, Princor Financial Services Corporation.
*&Stephan L. Jones, 62, Director and President. Vice President, Principal
Mutual Life Insurance Company since 1986. Director and President, Princor
Financial Services Corporation and Principal Management Corporation.
*Ronald E. Keller, 62, Director. Executive Vice President, Principal Mutual
Life Insurance Company since 1992. Director, Princor Financial Services
Corporation and Principal Management Corporation. Director and Chairman, Invista
Capital Management, Inc.
@Barbara A. Lukavsky, 57, Director. 3920 Grand Avenue, Des Moines, Iowa.
President and CEO, Barbican Enterprises, Inc. since 1977. President and CEO, Lu
San ELITE USA, L.C 1985-1998.
&Richard G. Peebler, 68, Director. 1916 79th Street, Des Moines, Iowa. Dean
and Professor Emeritus, Drake University, College of Business and Public
Administration, since 1996. Prior thereto, Professor, Drake University, College
of Business and Public Administration.
*Craig L. Bassett, 46, Treasurer. Second Vice President and Treasurer,
Principal Mutual Life Insurance Company since 1998. Director - Treasury
1996-1998. Prior thereto, Associate Treasurer.
*Michael J. Beer, 37, Financial Officer. Senior Vice President and Chief
Operating Officer, Princor Financial Services Corporation and Principal
Management Corporation, since 1997. Prior thereto, Vice President and Chief
Operating Officer 1995-1997. Prior thereto, Financial Officer.
*David J. Brown, 38, Assistant Counsel. Counsel, Principal Mutual Life
Insurance Company since 1995. Attorney 1994-1995. Prior thereto, Attorney,
Dickinson, Mackaman, Tyler & Hogan, P.C. 1986-1994.
*Michael W. Cumings, 46, Assistant Counsel. Counsel, Principal Mutual Life
Insurance Company since 1989.
* Arthur S. Filean, 59, Vice President and Secretary. Vice President,
Princor Financial Services Corporation since 1990. Vice President, Principal
Management Corporation since 1996.
* Ernest H. Gillum, 42, Assistant Secretary. Assistant Vice President,
Registered Products, Princor Financial Services Corporation and Principal
Management Corporation, since 1995. Prior thereto, Product Development and
Compliance Officer.
Jane E. Karli, 41, Assistant Treasurer. Assistant Treasurer, Principal
Mutual Life Insurance Company since 1998. Senior Accounting and Custody
Administrator 1994-1998; Prior thereto, Senior Investment Cost Accountant
1993-1994.
*Michael D. Roughton, 46, Counsel. Counsel, Principal Mutual Life Insurance
Company since 1994. Prior thereto, Assistant Counsel. Counsel, Invista Capital
Management, Inc., Princor Financial Services Corporation, Principal Investors
Corporation and Principal Management Corporation.
@ Member of Audit and Nominating Committee.
* Affiliated with the Manager of the Fund or its parent and considered an
"Interested Person," as defined in the Investment Company Act of 1940, as
amended.
& Member of the Executive Committee. The Executive Committee is elected by
the Board of Directors and may exercise all the powers of the Board of
Directors, with certain exceptions, when the Board is not in session and shall
report its actions to the Board.
All Directors and Officers listed above hold similar positions with
nineteen mutual funds sponsored by Principal Mutual Life Insurance Company. In
addition, James D. Davis, Pamela A. Ferguson, Stephan L. Jones, J. Barry
Griswell, Barbara A. Lukavsky, and all of the officers hold similar positions
with one other Fund sponsored by Principal Mutual Life Insurance Company.
The following information relates to compensation paid by the Fund during
the fiscal year ended December 31, 1997.
Director Compensation
-------- ------------
James D. Davis $51,450
Roy W. Ehrle $32,350
Pamela A. Ferguson $50,700
Richard W. Gilbert $58,800
Barbara A. Lukavsky $53,100
Richard G. Peebler $47,550
The Fund does not provide retirement benefits for any of the directors.
Total compensation from the investment companies included in the fund complex
for the fiscal year ended December 31, 1997 was as follows:
James D. Davis $52,217 Richard W. Gilbert $60,145
Roy W. Ehrle $32,350 Barbara A. Lukavsky $55,134
Pamela A. Ferguson $50,700 Richard G. Peebler $52,275
All of the outstanding shares of the Fund are owned by Principal Mutual
Life Insurance Company and its Separate Accounts B and C and Variable Life
Separate Account. As of December 31, 1997, the Officers and Directors as a group
owned none of the outstanding shares of the Fund.
MANAGER AND SUB-ADVISORS
The Manager of each of the Accounts is Principal Management Corporation
(the "Manager"), a wholly-owned subsidiary of Princor Financial Services
Corporation which is a wholly-owned subsidiary of Principal Holding Company.
Principal Holding Company is a holding company which is a wholly-owned
subsidiary of Principal Mutual Life Insurance Company, a mutual life insurance
company organized in 1879 under the laws of the state of Iowa. The address of
the Manager is The Principal Financial Group, Des Moines, Iowa 50392. The
Manager was organized on January 10, 1969 and since that time has managed
various mutual funds sponsored by Principal Mutual Life Insurance Company.
The Manager has executed agreements with various Sub-Advisors. Under those
Sub-Advisory agreements, the Sub-Advisor agrees to assume the obligations of the
Manager to provide investment advisory services for a specific Account. For
these services, each Sub-Advisor is paid a fee by the Manager.
Accounts: Balanced, Capital Value, Government Securities, Growth,
International, International SmallCap, MidCap, SmallCap and Utilities
Sub-Advisor: Invista Capital Management, Inc. ("Invista"). Invista, an
indirectly wholly-owned subsidiary of Principal Mutual Life Insurance
Company and an affiliate of the Manager, was founded in 1985. It
manages investments for institutional investors, including Principal
Mutual Life Insurance Company. Assets under management as of December
31, 1997 were approximately $26 billion. Invista's address is 1800 Hub
Tower, 699 Walnut, Des Moines, Iowa 50309.
Accounts: Aggressive Growth and Asset Allocation
Sub-Advisor: Morgan Stanley Asset Management Inc. ("MSAM"). MSAM, with
principal offices at 1221 Avenue of the Americas, New York, NY 10020,
provides a broad range of portfolio management services to customers
in the U.S. and abroad. At December 31, 1997, MSAM managed investments
totaling approximately $87.1 billion, including approximately $66.6
billion under active management and $20.5 billion as Named Fiduciary
or Fiduciary Adviser.
Account: MicroCap
Sub-Advisor: Goldman Sachs Asset Management ("GSAM"), One New York Plaza,
New York, NY 10004, is a separate operating division of
Goldman, Sachs & Co. ("Goldman Sachs"). Goldman Sachs provides
a wide range of fully discretionary investment advisory
services including quantitatively driven and actively managed
U.S. and international equity portfolios and global
fixed-income portfolios, commodity and currency products, and
money market mutual funds.
Account: MidCap Growth
Sub-Advisor: The Dreyfus Corporation ("Dreyfus")., located at 200 Park
Avenue, New York, New York 10166, was formed in 1947. The
Dreyfus Corporation is a wholly-owned subsidiary of Mellon
Bank, N.A., which is a wholly-owned subsidiary of Mellon Bank
Corporation ("Mellon"). As of September 30, 1997, The Dreyfus
Corporation managed or administered approximately $93 billion
is assets for approximately 1.7 million investor accounts
nationwide.
Account: SmallCap Growth
Sub-Advisor: Berger Associates, Inc. ("Berger"). Berger's address is 210
University Boulevard, Suite 900, Denver, CO 80206. It serves as
investment advisor, sub-advisor, administrator or sub-administrator to
mutual funds and institutional investors. Berger is a wholly-owned
subsidiary of Kansas City Southern Industries, Inc. ("KCSI"). KCSI is
a publicly traded holding company with principal operations in rail
transportation, through its subsidiary The Kansas City Southern
Railway Company, and financial asset management businesses.
Account: SmallCap Value
Sub-Advisor: J.P. Morgan Investment Management, Inc. ("J.P. Morgan
Investment"). J.P. Morgan Investment, with principal offices at 522
Fifth Avenue, New York, NY 10036 is a wholly-owned subsidiary of
J.P.Morgan & Co. Incorporated ("J.P.Morgan") a bank holding company.
J.P.Morgan, through J.P.Morgan Investment and other subsidiaries,
offers a wide range of services to governmental, institutional,
corporate and individual customers and acts as investment adviser to
individual and institutional clients. As of December 31, 1997,
J.P.Morgan and its subsidiaries had total combined assets under
management of approximately $250 billion.
Each of the persons affiliated with the Fund who is also an affiliated
person of the Manager or a Sub-Advisor is named below, together with the
capacities in which such person is affiliated:
<TABLE>
Office Held With Office Held With
Name The Fund The Manager/Invista
<S> <C> <C>
Craig BassettTreasurer Treasurer (Manager)
Michael J. Beer Financial Officer Senior Vice President & Chief
Operating Officer (Manager)
Arthur S. Filean Vice President and Secretary Vice President (Manager)
Ernest H. Gillum Assistant Secretary Assistant Vice President, Registered
Products (Manager)
J. Barry Griswell Director and Chairman Director and Chairman of
of the Board the Board (Manager)
Stephan L. Jones Director and Director and President
President (Manager)
Ronald E. Keller Director Director (Manager)
Director and Chairman of
the Board (Invista)
Michael D. Roughton Counsel Counsel (Manager; Invista)
</TABLE>
COST OF MANAGER'S SERVICES
For providing the investment advisory services, and specified other
services, the Manager, under the terms of the Management Agreement for the Fund,
is entitled to receive a fee computed and accrued daily and payable monthly, at
the following annual rates:
<TABLE>
<CAPTION>
Net Asset Value of Fund
First Next Next Next Over
Account $100 million $100 million $100 million $100 million $400 million
- --------------------------------------------------------------------------- ------------ ------------ ------------
Aggressive Growth and
<S> <C> <C> <C> <C> <C>
Asset Allocation .80% .75% .70% .65% .60%
Balanced, High Yield and Utilities .60% .55% .50% .45% .40%
International .75% .70% .65% .60% .55%
International SmallCap 1.20% 1.15% 1.10% 1.05% 1.00%
MicroCap and SmallCap Growth 1.00% .95% .90% .85% .80%
MidCap .65% .60% .55% .50% .45%
MidCap Growth and Real Estate .90% .85% .80% .75% .70%
Small Cap .85% .80% .75% .70% .65%
Small Cap Value 1.10% 1.05% 1.00% .95% .90%
All Other .50% .45% .40% .35% .30%
</TABLE>
<TABLE>
<CAPTION>
Management Fee
Net Assets as of For Year Ended
Account December 31, 1997 December 31, 1997
------ ----------- ----------------- --------------------------------------
<S> <C> <C>
Aggressive Growth $149,182,003 80%
Asset Allocation 76,804,444 80
Balanced 133,827,107 59
Bond 81,920,668 50
Capital Value 285,231,209 46
Government Securities 94,322,460 50
Growth 168,160,393 49
High Yield 15,836,783 60
International 125,288,774 74
MidCap 224,629,639 62
Money Market 47,314,918 50
</TABLE>
Under a Sub-Advisory Agreement between Invista and the Manager, Invista
performs all the investment advisory responsibilities of the Manager under the
Management Agreement for the Balanced, Capital Value, Government Securities,
Growth, International, International SmallCap, MidCap, SmallCap and Utilities
Accounts and is reimbursed by the Manager for the cost of providing such
services.
Under a Sub-Advisory Agreement between MSAM and the Manager, MSAM performs
all the investment advisory responsibilities of the Manager under the Management
Agreement for the Aggressive Growth and Asset Allocation Accounts. The Manager
pays MSAM a fee that is accrued daily and payable monthly. The fee is based on
the net asset value of each Account as follows: first $40 million of net assets
- - the fee is 0.45%; next $160 million - 0.30%; next $100 million - 0.25%; and
net assets over $300 million - 0.20%. Invest in real estate limited partnership
interests except that this restriction shall not apply to either the MicroCap or
Real Estate Accounts.
Under a Sub-Advisory Agreement between Berger and the Manager, Berger
performs all the investment advisory responsibilities of the Manager under the
Management Agreement for the SmallCap Growth Account. The Manager pays Berger a
fee that is accrued daily and payable monthly. The fee is based on the net asset
value of the Account as follows: first $100 million of net assets - the fee is
0.50%; next $200 million - 0.45%; and net assets over $300 million - 0.40%.
Under a Sub-Advisory Agreement between Dreyfus and the Manager, Dreyfus
performs all the investment advisory responsibilities of the Manager under the
Management Agreement for the MidCap Growth Account. The Manager pays Dreyfus a
fee that is accrued daily and payable monthly. The fee is based on the net asset
value of the Account as follows: first $50 million of net assets - the fee is
0.40%; and net assets over $50 million - 0.35%.
Under a Sub-Advisory Agreement between GSAM and the Manager, GSAM performs
all the investment advisory responsibilities of the Manager under the Management
Agreement for the MicroCap Account. The Manager pays GSAM a fee that is accrued
daily and payable monthly. The fee is based on the net asset value of the
Account as follows: first $50 million of net assets - the fee is 0.50%; next
$150 million - 0.45%; and net assets over $200 million - 0.40%.
Under a Sub-Advisory Agreement between J.P.Morgan Investment and the
Manager, J.P.Morgan Investment performs all the investment advisory
responsibilities of the Manager under the Management Agreement for the SmallCap
Value Account. The Manager pays J.P.Morgan Investment a fee that is accrued
daily and payable monthly. The fee is based on the net asset value of the
Account as follows: first $50 million of net assets - the fee is 0.60%; next
$250 million - 0.55%; and net assets over $300 million - 0.50%.
Except for certain Fund expenses set out below, the Manager is responsible
for expenses, administrative duties and services including the following:
Expenses incurred in connection with the registration of the Fund and Fund
shares with the Securities and Exchange Commission and state regulatory
agencies; office space, facilities and costs of keeping the books of the Fund;
compensation of personnel and officers and any directors who are also affiliated
with the Manager; fees for auditors and legal counsel; preparing and printing
Fund prospectuses; administration of shareholder accounts, including issuance,
maintenance of open account system, dividend disbursement, reports to
shareholders, and redemption. However, some or all of these expenses may be
assumed by Principal Mutual Life Insurance Company and some or all of the
administrative duties and services may be delegated by the Manager to Principal
Mutual Life Insurance Company or affiliate thereof.
Each Account pays for certain corporate expenses incurred in its operation.
Among such expenses, the Account pays brokerage commissions on portfolio
transactions, transfer taxes and other charges and fees attributable to
investment transactions, any other local, state or federal taxes, fees and
expenses of all directors of the Fund who are not persons affiliated with the
Manager, interest, fees for Custodian of the Account, and the cost of meetings
of shareholders.
Fees paid for investment management services during the periods indicated
were as follows:
Management Fees For Year Ended December 31,
1997 1996 1995
Aggressive Growth $907,800 $491,699 $180,022
Asset Allocation 566,727 425,427 272,724
Balanced 665,902 420,010 206,614
Bond 358,818 260,242 122,783
Capital Value 1,124,855 816,437 591,891
Government Securities 426,977 360,968 202,554
Growth 650,659 357,833 137,029
High Yield 87,845 75,111 64,422
International 768,332 376,123 172,258
MidCap 1,145,372 606,697 264,411
Money Market 224,424 208,822 140,895
The Management Fees shown above include the fee paid to the Account's
Sub-Advisor, if any. Fees paid to each Sub-Advisor for the most recent and
immediately preceding fiscal periods were as follows: Aggressive Growth
$403,710, $243,337, $101,557; Asset Allocation $272,596, $219,613, $153,832;
Balanced $65,013, $35,655, $34,669; Capital Value $138,908, $76,181, $74,074;
Government Securities $23,421, $12,845, $12,489; Growth $84,191, $46,173,
$44,896; International $91,476, $50,168, $48,780; and MidCap $112,374, $61,629,
$59,924.
The Management Agreements, Sub-Advisory Agreements and Investment Service
Agreements, pursuant to which Principal Mutual Life Insurance Company has agreed
to furnish certain personnel, services and facilities required by the Manager to
enable it to fulfill its investment advisory responsibilities for the Accounts
(except the Aggressive Growth, Asset Allocation, MicroCap, MidCap Growth,
SmallCap Growth and SmallCap Value Accounts) were last approved by the
shareholders of each Account on November 24, 1997. The First Amendment to the
Management Agreement, the First Amendment to the Sub-Advisory Agreement between
Principal Management and Invista (adding the International SmallCap, SmallCap
and Utilities Accounts), the Sub-Advisory Agreement between Principal Management
and Berger, the Sub-Advisory Agreement between Principal Management and Dreyfus,
the Sub-Advisory Agreement between Principal Management and GSAM, and the
Sub-Advisory Agreement between Principal Management and J.P.Morgan Investment
were approved by the Fund's Board of Directors on December 8, 1997. Each of
these agreements provides for continuation in effect from year to year only so
long as such continuation is specifically approved at least annually either by
the Board of Directors of the Fund or by vote of a majority of the outstanding
voting securities of an Account of the Fund, provided that in either event such
continuation shall be approved by vote of a majority of the Directors who are
not "interested persons" (as defined in the Investment Company Act of 1940) of
the Manager, Principal Mutual Life Insurance Company or its subsidiaries, the
Fund and, in the case of the Sub-Advisory Agreement for each of the Balanced,
Capital Value, Government Securities, Growth, International, International
SmallCap, MidCap, SmallCap and Utilities Accounts, Invista; in the case of the
Sub-Advisory Agreement for each of the Aggressive Growth and Asset Allocation
Accounts, MSAM; for the Sub-Advisory Agreement for the MicroCap Account, GSAM,
for the Sub-Advisory Agreement for the MidCap Growth Account, Dreyfus, for the
Sub-Advisory Agreement for the SmallCap Growth Account, Berger, and for the
Sub-Advisory Agreement for the SmallCap Value Account, J.P.Morgan Investment
cast in person at a meeting called for the purpose of voting on such approval.
The Agreements may be terminated at any time on 60 days written notice to the
Manager by the Board of Directors of the Fund or by a vote of a majority of the
outstanding securities of the Fund and by the Manager, Berger, Dreyfus, GSAM,
Invista, J.P. Morgan Investment, MSAM or Principal Mutual Life Insurance
Company, as the case may be, on 60 days written notice to the Fund. The
Agreements will automatically terminate in the event of their assignment.
BROKERAGE ON PURCHASES AND SALES OF SECURITIES
In distributing brokerage business arising out of the placement of orders
for the purchase and sale of securities for any Account, the objective of the
Accounts' Manager or Sub-Advisor is to obtain the best overall terms. In
pursuing this objective, the Manager, or Sub-Advisor, considers all matters it
deems relevant, including the breadth of the market in the security, the price
of the security, the financial condition and executing capability of the broker
or dealer and the reasonableness of the commission, if any (for the specific
transaction and on a continuing basis). This may mean in some instances that the
Manager, or Sub-Advisor, will pay a broker commissions that are in excess of the
amount of commission another broker might have charged for executing the same
transaction when the Manager, or Sub-Advisor, believes that such commissions are
reasonable in light of (a) the size and difficulty of transactions (b) the
quality of the execution provided and (c) the level of commissions paid relative
to commissions paid by other institutional investors. (Such factors are viewed
both in terms of that particular transaction and in terms of all transactions
that broker executes for accounts over which the Manager, or Sub-Advisor,
exercises investment discretion. The Manager, or Sub-Advisor, may purchase
securities in the over-the-counter market, utilizing the services of principal
market matters, unless better terms can be obtained by purchases through brokers
or dealers, and may purchase securities listed on the New York Stock Exchange
from non-Exchange members in transactions off the Exchange.) The Manager, or
Sub-Advisor, gives consideration in the allocation of business to services
performed by a broker (e.g. the furnishing of statistical data and research
generally consisting of information of the following types: analyses and reports
concerning issuers, industries, economic factors and trends, portfolio strategy
and performance of client accounts). If any such allocation is made, the primary
criteria used will be to obtain the best overall terms for such transactions.
The Manager, or Sub-Advisor, may pay additional commission amounts for research
services but generally does not do so. Such statistical data and research
information received from brokers or dealers may be useful in varying degrees
and the Manager, or Sub-Advisor, may use it in servicing some or all of the
accounts it manages. Some statistical data and research information may not be
useful to the Manager, or Sub-Advisor, in managing the client account, brokerage
for which resulted in the Manager's, or Sub-Advisor's, receipt of the
statistical data and research information. However, in the Manager's, or
Sub-Advisor's, opinion, the value thereof is not determinable and it is not
expected that the Manager's, or Sub-Advisor's, expenses will be significantly
reduced since the receipt of such statistical data and research information is
only supplementary to the Manager's, or Sub-Advisor's, own research efforts. The
Manager, or Sub-Advisor, allocated portfolio transactions for the Aggressive
Growth Account, Asset Allocation Account, Balanced Account, Capital Value
Account and International Account to certain brokers during the fiscal year
ended December 31, 1997 due to research services provided by such brokers. These
portfolio transactions resulted in commissions paid to such brokers by the Funds
in the amounts of $17,999, $2,704, $6,825, $15,660 and $9,960, respectively.
Purchases and sales of debt securities and money market instruments usually
will be principal transactions; portfolio securities will normally be purchased
directly from the issuer or from an underwriter or marketmaker for the
securities. Such transactions are usually conducted on a net basis with the
Account paying no brokerage commissions. Purchases from underwriters will
include a commission or concession paid by the issuer to the underwriter, and
the purchases from dealers serving as marketmakers will include the spread
between the bid and asked prices.
The following table shows the brokerage commissions paid during the periods
indicated. In each year, 100% of the commissions paid by each Account went to
broker-dealers which provided research, statistical or other factual
information.
Total Brokerage Commissions Paid
Fiscal Year Ended
December 31,
Account 1997 1996 1995
- -----------------------------------------------------------------
Aggressive Growth $418,468 $250,591 $102,404
Asset Allocation 164,992 109,360 35,476
Balanced 58,053 46,458 18,780
Capital Value 135,417 183,156 142,577
Growth 33,836 45,131 28,870
International 230,351 156,842 78,939
MidCap 54,019 63,355 31,588
Brokerage commissions paid to affiliates during the periods indicated were
as follows:
<TABLE>
<CAPTION>
Commissions Paid to Principal Financial Securities, Inc.
Total Dollar As Percent of As Percent of Dollar Amount
Account Year Amount Total Commissions of Commissionable Transactions
<S> <C> <C> <C> <C>
Balanced 1997 $18,197 31.34% 43.17%
1995 219 1.17 1.88
Capital Value 1997 2,310 1.71 2.03
1996 6,612 3.61 7.92
1995 3,750 2.63 3.37
Growth 1997 4,747 14.03 16.38
1996 438 .97 .86
1995 4,022 13.86 17.06
MidCap 1995 660 2.08 3.02
</TABLE>
<TABLE>
<CAPTION>
Commissions Paid to Morgan Stanley and Co.
Total Dollar As Percent of As Percent of Dollar Amount
Account Year Amount Total Commissions of Commissionable Transactions
- -------------- -------------------- ----------------- ------------------------------
<S> <C> <C> <C> <C>
Asset Allocation 1997 $ 2,974 1.80% 1.29%
Balanced 1996 1,300 2.80 1.82
Capital Value 1997 7,155 5.28 6.12
1996 3,650 1.99 1.48
1995 135 .09 .12
Growth 1997 1,250 3.69 3.83
1995 250 .87 .67
International 1997 10,411 4.37 4.20
1996 3,176 2.02 1.78
1995 2,207 2.80 2.91
MidCap 1997 2,250 4.17 2.54
1995 250 .79 1.53
</TABLE>
Morgan Stanley and Co. is with Morgan Stanley Asset Management, Inc., which
acts as a sub-advisor to two Accounts included in the Fund.
The Manager acts as investment advisor for each of the funds sponsored by
Principal Mutual Life Insurance Company and places orders to trade portfolio
securities for the funds and the Bond, Money Market and Real Estate Accounts.
Orders to trade portfolio securities for the other Accounts are placed by the
sub-advisor for the specific Account. If, in carrying out the investment
objectives of the Accounts, occasions arise when purchases or sales of the same
equity securities are to be made for two or more of the Accounts or Funds at the
same time, (or, in the case of Accounts managed by Invista, for two or more
Funds and any other accounts managed by Invista), the Manager or Invista may
submit the orders to purchase or, whenever possible, to sell, to a broker/dealer
for execution on an aggregate or "bunched" basis. The Manager (or, in the case
of Accounts managed by Invista, Invista) may create several aggregate or
"bunched" orders relating to a single security at different times during the
same day. On such occasion, the Manager (or, in the case of Accounts managed by
Invista, Invista) will employ a computer program to randomly order the Accounts
whose individual orders for purchase or sale make up each aggregate or "bunched"
order. Securities purchased or proceeds of sales received on each trading day
with respect to each such aggregate or "bunched" orders shall be allocated to
the various Accounts (or, in the case of Invista, the various Accounts or Funds
and other client accounts) whose individual orders for purchase or sale make up
the aggregate or "bunched" order by filling each Account's or Fund's (or, in the
case of Invista, each Account's or Fund's or other client account's) order, in
the sequence arrived at by the random ordering. Securities purchased for funds
(or, in the case of Invista, Accounts, Funds and other clients accounts)
participating in an aggregate or "bunched" order will be placed into those
Accounts and, where applicable, other client accounts at a price equal to the
average of the prices achieved in the course of filling that aggregate or
"bunched" order.
If purchases or sales of the same debt securities are to be made for two or
more of the Accounts or Funds at the same time, the securities will be purchased
or sold proportionately in accordance with the amount of such security sought to
be purchased or sold at that time for each Account or Fund. If the purchase or
sale of securities consistent with the investment objectives of the Accounts or
one or more of the other clients for which Berger, Dreyfus, GSAM, J.P. Morgan
Investment or MSAM acts as investment sub-advisor or advisor is to be made at
the same time, the securities will be purchased or sold proportionately in
accordance with the amount of such security sought to be purchased or sold at
that time for each Account or client.
DETERMINATION OF NET ASSET VALUE OF ACCOUNT SHARES
Growth-Oriented and Income-Oriented Accounts
The net asset values of the shares of each of the Growth-Oriented and
Income-Oriented Accounts are determined daily, Monday through Friday, as of the
close of trading on the New York Stock Exchange, except on days on which changes
in the value of an Account's portfolio securities will not materially affect the
current net asset value of that Account's redeemable securities, on days during
which an Account receives no order for the purchase or sale of its redeemable
securities and no tender of such a security for redemption, and on customary
national business holidays. The Accounts treat as customary national business
holidays those days on which the New York Stock Exchange is closed for New
Year's Day, Martin Luther King, Jr. Day, Presidents' Day, Good Friday, Memorial
Day, Independence Day, Labor Day, Thanksgiving Day and Christmas Day. The net
asset value per share for each Account is determined by dividing the value of
securities in the Account's investment portfolio plus all other assets, less all
liabilities, by the number of Account shares outstanding. Securities for which
market quotations are readily available, including options and futures traded on
an exchange, are valued at market value, which is currently determined using the
last reported sale price or, if no sales are reported, as is regularly the case
for some securities traded over-the-counter, the last reported bid price. When
reliable market quotations are not considered to be readily available, which may
be the case, for example, with respect to certain debt securities, preferred
stocks, foreign securities and over-the-counter options, the investments are
valued by using market quotations, prices provided by market makers, which may
include dealers with which the Account has executed transactions, or estimates
of market values obtained from yield data and other factors relating to
instruments or securities with similar characteristics in accordance with
procedures established in good faith by the Board of Directors. Securities with
remaining maturities of 60 days or less are valued at amortized cost. Other
assets are valued at fair value as determined in good faith by the Board of
Directors.
Generally, trading in foreign securities is substantially completed each
day at various times prior to the close of the New York Stock Exchange. The
values of such securities used in computing net asset value per share are
usually determined as of such times. Occasionally, events which affect the
values of such securities and foreign currency exchange rates may occur between
the times at which they are generally determined and the close of the New York
Stock Exchange and would therefore not be reflected in the computation of the
Account's net asset value. If events materially affecting the value of such
securities occur during such period, then these securities will be valued at
their fair value as determined in good faith by the Manager under procedures
established and regularly reviewed by the Board of Directors. To the extent the
Account invests in foreign securities listed on foreign exchanges which trade on
days on which the Account does not determine its net asset value, for example
Saturdays and other customary national U.S. holidays, the Account's net asset
value could be significantly affected on days when shareholders have no access
to the Account.
Certain securities issued by companies in emerging market countries may
have more than one quoted valuation at any given point in time, sometimes
referred to as a "local" price and a "premium" price. The premium price is often
a negotiated price which may not consistently represent a price at which a
specific transaction can be effected. It is the policy of International Account
to value such securities at prices at which it is expected those shares may be
sold, and the Manager or any Sub-Advisor, is authorized to make such
determinations subject to such oversight by the Fund's Board of Directors as may
from time to time be necessary.
Money Market Account
The net asset value of shares of the Money Market Account is determined at
the same time and on the same days as each of the Growth-Oriented Accounts and
Income-Oriented Accounts as described above. The net asset value per share for
the Account is computed by dividing the total value of the Account's securities
and other assets, less liabilities, by the number of Account shares outstanding.
All securities held by the Money Market Account will be valued on an
amortized cost basis. Under this method of valuation, a security is initially
valued at cost; thereafter, the Account assumes a constant proportionate
amortization in value until maturity of any discount or premium, regardless of
the impact of fluctuating interest rates on the market value of the security.
While this method provides certainty in valuation, it may result in periods
during which value, as determined by amortized cost, is higher or lower than the
price that would be received upon sale of the security. Use of the amortized
cost valuation method by the Money Market Account requires the Account to
maintain a dollar weighted average maturity of 90 days or less and to purchase
only obligations that have remaining maturities of 397 days or less or have a
variable or floating rate of interest. In addition, the Account can invest only
in "Eligible Securities" as that term is defined in Regulations issued under the
Investment Company Act of 1940 (see the Fund's Prospectus for a more complete
description) determined by the Board of Directors to present minimal credit
risks.
The Board of Directors has established procedures designed to stabilize, to
the extent reasonably possible, the Account's price per share as computed for
the purpose of sales and redemptions at $1.00. Such procedures include a
directive to the Manager to test price the portfolio or specific securities
thereof upon certain changes in the Treasury Bill auction interest rate for the
purpose of identifying possible deviations in the net asset value per share
calculated by using available market quotations or equivalents from $1.00 per
share. If such deviation exceeds 1/2 of 1%, the Board of Directors will promptly
consider what action, if any, will be initiated. In the event the Board of
Directors determines that a deviation exists which may result in material
dilution or other unfair results to shareholders, the Board will take such
corrective action as it regards as appropriate, including: the sale of portfolio
instruments prior to maturity; the withholding of dividends; redemptions of
shares in kind; the establishment of a net asset value per share based upon
available market quotations; or splitting, combining or otherwise recapitalizing
outstanding shares. The Account may also reduce the number of shares outstanding
by redeeming proportionately from shareholders, without the payment of any
monetary compensation, such value at $1.00 per share.
PERFORMANCE CALCULATION
Each of the Accounts may from time to time advertise its performance in
terms of total return. The figures used for total return and yield are based on
the historical performance of an Account, or its corresponding, predecessor
mutual fund, show the performance of a hypothetical investment and are not
intended to indicate future performance. Total return and yield will vary from
time to time depending upon market conditions, the composition of an Account's
portfolio and operating expenses. These factors and possible differences in the
methods used in calculating performance figures should be considered when
comparing an Account's performance to the performance of some other kind of
investment. The calculations of total return and yield for the Accounts do not
include the fees and charges of the separate accounts that invest in the
Accounts and, therefore, do not reflect the investment performance of those
separate accounts.
Each Account may also include in its advertisements performance rankings
and other performance-related information published by independent statistical
services or publishers, such as Lipper Analytical Services, Weisenberger
Investment Companies Services, Money Magazine, Forbes, The Wall Street Journal,
Barron's and Changing Times, and comparisons of the performance of an Account to
that of various market indices, such as the S&P 500 Index, Lehman Brothers GNMA
Index, Dow Jones Industrials Index, and the Salomon Brothers Investment Grade
Bond Index.
Total Return
When advertising total return figures, each of the Growth-Oriented Accounts
and Income-Oriented Accounts will include its average annual total return for
each of the one, five and ten year periods (or if shorter, the period during
which its corresponding predecessor fund's registration statement has been in
effect) that end on the last day of the most recent calendar quarter. Average
annual total return is computed by calculating the average annual compounded
rate of return over the stated period that would equate an initial $1,000
investment to the ending redeemable value assuming the reinvestment of all
dividends and capital gains distributions at net asset value. In its
advertising, an Account may also include average annual total return for some
other period or cumulative total return for a specified period. Cumulative total
return is computed by dividing the ending redeemable value (assuming the
reinvestment of all dividends and capital gains distributions at net asset
value) by the initial investment.
The following table shows as of December 31, 1997 average annual total
return for each of the Accounts for the periods indicated:
Account 1-Year 5-Year 10-Year
- -------------------------- ------- -------- -------
Aggressive Growth 30.86% 28.83%(2) N/A
Asset Allocation 18.19% 14.38%(2) N/A
Balanced 17.93% 12.57% 12.96%
Bond 10.60% 8.44% 9.62%
Capital Value 28.53% 17.80% 15.23%
Government Securities 10.39% 7.38% 9.36%
Growth 26.96% 18.98%(1) N/A
High Yield 10.75% 10.45% 9.87%
International 12.24% 12.67%(1) N/A
MidCap 22.75% 18.18% 18.29%
(1) Period beginning May 1, 1994 and ending December 31, 1997.
(2) Period beginning June 1, 1994 and ending December 31, 1997.
Yield
Money Market Account
The Money Market Account may advertise its yield and its effective yield.
Yield is computed by determining the net change, exclusive of capital
changes, in the value of a hypothetical pre-existing account having a balance of
one share at the beginning of the period, subtracting a hypothetical charge
reflecting deductions from shareholder accounts, and dividing the difference by
the value of the account at the beginning of the base period to obtain the base
period return, and then multiplying the base period return by (365/7) with the
resulting yield figure carried to at least the nearest hundredth of one percent.
As of December 31, 1997, the Money Market Account's yield was 5.32%. Because
realized capital gains or losses in an Account's portfolio are not included in
the calculation, the Account's net investment income per share for yield
purposes may be different from the net investment income per share for dividend
purposes, which includes net short-term realized gains or losses on the
Account's portfolio.
Effective yield is computed by determining the net change, exclusive of
capital changes, in the value of a hypothetical pre-existing account having a
balance of one share at the beginning of the period, subtracting a hypothetical
charge reflecting deductions from shareholder accounts, and dividing the
difference by the value of the account at the beginning of the base period to
obtain the base period return, and then compounding the base period return by
adding 1, raising the sum to a power equal to 365 divided by 7, and subtracting
1 from the result. The resulting effective yield figure is carried to at least
the nearest hundredth of one percent. As of December 31, 1997, the Money Market
Account's effective yield was 5.46%.
The yield quoted at any time for the Money Market Account represents the
amount that was earned during a specific, recent seven-day period and is a
function of the quality, types and length of maturity of instruments in the
Account's portfolio and the Account's operating expenses. The length of maturity
for the portfolio is the average dollar weighted maturity of the portfolio. This
means that the portfolio has an average maturity of a stated number of days for
its issues. The calculation is weighted by the relative value of each
investment.
The yield for the Money Market Account will fluctuate daily as the income
earned on the investments of the Account fluctuates. Accordingly, there is no
assurance that the yield quoted on any given occasion will remain in effect for
any period of time. There is no guarantee that the net asset value or any stated
rate of return will remain constant. A shareholder's investment in the Account
is not insured. Investors comparing results of the Money Market Account with
investment results and yields from other sources such as banks or savings and
loan associations should understand these distinctions. Historical and
comparative yield information may, from time to time, be presented by the
Account.
TAX STATUS
It is the policy of each Account to distribute substantially all net
investment income and net realized gains. Through such distributions, and by
satisfying certain other requirements, the Fund intends to qualify for the tax
treatment accorded to regulated investment companies under the applicable
provisions of the Internal Revenue Code. This means that in each year in which
the Fund so qualifies, it will be exempt from federal income tax upon the amount
so distributed to investors.
For federal income tax purposes, capital gains and losses on futures
contracts or options thereon, index options or options traded on qualified
exchanges are generally treated at 60% long-term and 40% short-term. In
addition, an Account must recognize any unrealized gains and losses on such
positions held at the end of the fiscal year. An Account may elect out of such
tax treatment, however, for a futures or options position that is part of an
"identified mixed straddle" such as a put option purchased by the Account with
respect to a portfolio security. Gains and losses on figures and options
included in an identified mixed straddle will be considered 100% short-term and
unrealized gain or loss on such positions will not be realized at year end. The
straddle provisions of the Code may require the deferral of realized losses to
the extent that the Account has unrealized gains in certain offsetting positions
at the end of the fiscal year, and may also require recharacterization of all or
a part of losses on certain offsetting positions from short-term to long-term,
as well as adjustment of the holding periods of straddle positions.
The 1986 Tax Reform Act imposes an excise tax on mutual funds which fail to
distribute net investment income and capital gains by the end of the calendar
year in accordance with the provisions of the Act. The Fund intends to comply
with the Act's requirements and to avoid this excise tax.
GENERAL INFORMATION AND HISTORY
On December 31, 1997, certain Funds sponsored by Principal Mutual Life Insurance
Company were reorganized into Accounts of the Principal Variable Contracts Fund,
Inc., a corporation incorporated in the State of Maryland. The new series
adopted the assets and liabilities of the corresponding Fund. The old Fund names
and the corresponding Account are shown below:
Fund Account
---- -------
Principal Aggressive Growth Fund, Inc. Aggressive Growth Account
Principal Asset Allocation Fund, Inc. Asset Allocation Account
Principal Balanced Fund, Inc. Balanced Account
Principal Bond Fund, Inc. Bond Account
Principal Capital Accumulation Fund, Inc. Capital Value Account
Principal Emerging Growth Fund, Inc. MidCap Account
Principal Government Securities Fund, Inc. Government Securities Account
Principal Growth Fund, Inc. Growth Account
Principal High Yield Fund, Inc. High Yield Account
Principal Money Market Fund, Inc. Money Market Account
Principal World Fund, Inc. International Account
The Articles of Incorporation for the Principal Variable Contracts Fund, Inc.
were amended on February 13, 1998 to reflect the addition of the following new
Accounts:
International SmallCap Account SmallCap Account
MicroCap Account SmallCap Growth Account
MidCap Growth Account SmallCap Value Account
Real Estate Account Utilities Account
FINANCIAL STATEMENTS
The financial statements for the Accounts for the fiscal period ended
December 31, 1997 appearing in the Annual Report to Shareholders and the report
thereon of Ernst and Young LLP, independent auditors, 801 Grand Avenue, Des
Monies, Iowa 50309, appearing therein are incorporated by reference in this
Statement of Additional Information. The Annual Report will be furnished,
without charge, to investors who request copies of the Statement of Additional
Information.
APPENDIX A
Description of Bond Ratings:
Moody's Investors Service, Inc. Bond Ratings
Aaa: Bonds which are rated Aaa are judged to be of the best quality. They carry
the smallest degree of investment risk and are generally referred to as
"gilt edge." Interest payments are protected by a large or by an
exceptionally stable margin and principal is secure. While the various
protective elements are likely to change, such changes as can be visualized
are most unlikely to impair the fundamentally strong position of such
issues.
Aa: Bonds which are rated Aa are judged to be of high quality by all standards.
Together with the Aaa group they comprise what are generally known as high
grade bonds. They are rated lower than the best bonds because margins of
protection may not be as large as in Aaa securities or fluctuation of
protective elements may be of greater amplitude or there may be other
elements present which make the long-term risks appear somewhat larger than
in Aaa securities.
A: Bonds which are rated A possess many favorable investment attributes and
are to be considered as upper medium grade obligations. Factors giving
security to principal and interest are considered adequate, but elements
may be present which suggest a susceptibility to impairment sometime in the
future.
Baa: Bonds which are rated Baa are considered as medium grade obligations, i.e.,
they are neither highly protected nor poorly secured. Interest payments and
principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any
great length of time. Such bonds lack outstanding investment
characteristics and in fact have speculative characteristics as well.
Ba: Bonds which are rated Ba are judged to have speculative elements; their
future cannot be considered as well-assured. Often the protection of
interest and principal payments may be very moderate and thereby not well
safeguarded during both good and bad times over the future. Uncertainty of
position characterizes bonds in this class.
B: Bonds which are rated B generally lack characteristics of the desirable
investment. Assurance of interest and principal payments or of maintenance
of other terms of the contract over any long period of time may be small.
Caa: Bonds which are rated Caa are of poor standing. Such issues may be in
default or there may be present elements of danger with respect to
principal or interest.
Ca: Bonds which are rated Ca represent obligations which are speculative in a
high degree. Such issues are often in default or have other marked
shortcomings.
C: Bonds which are rated C are the lowest rated class of bonds and issues so
rated can be regarded as having extremely poor prospects of ever attaining
any real investment standing.
CONDITIONAL RATING: Bonds for which the security depends upon the completion of
some act or the fulfillment of some condition are rated conditionally.
These bonds secured by (a) earnings of projects under construction, (b)
earnings of projects unseasoned in operation experience, (c) rentals
which begin when facilities are completed, or (d) payments to which
some other limiting condition attaches. Parenthetical rating denotes
probable credit stature upon completion of construction or elimination
of basis of condition.
RATING REFINEMENTS: Moody's may apply numerical modifiers, 1, 2 and 3 in each
generic rating classification from Aa through B in its 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 a modifier 3 indicates that the issue ranks in
the lower end of its generic rating category.
SHORT-TERM NOTES: The four ratings of Moody's for short-term notes are MIG 1,
MIG 2, MIG 3 and MIG 4; MIG 1 denotes "best quality, enjoying strong
protection from established cash flows"; MIG 2 denotes "high quality"
with "ample margins of protection"; MIG 3 notes are of "favorable
quality...but lacking the undeniable strength of the preceding grades";
MIG 4 notes are of "adequate quality, carrying specific risk for having
protection...and not distinctly or predominantly speculative."
Description of Moody's Commercial Paper Ratings
Moody's Commercial Paper ratings are opinions of the ability to repay
punctually promissory obligations not having an original maturity in
excess of nine months. Moody's employs the following three
designations, all judged to be investment grade, to indicate the
relative repayment capacity of rated issuers:
Issuers rated Prime-1 (or related supporting institutions) have a superior
capacity for repayment of short-term promissory obligations.
Issuers rated Prime-2 (or related supporting institutions) have a strong
capacity for repayment of short-term promissory obligations.
Issuers rated Prime-3 (or related supporting institutions) have an acceptable
capacity for repayment of short-term promissory obligations.
Issuers rated Not Prime do not fall within any of the Prime rating categories.
Description of Standard & Poor's Corporation's Debt Ratings:
A Standard & Poor's debt rating is a current assessment of the creditworthiness
of an obligor with respect to a specific obligation. This assessment may take
into consideration obligors such as guarantors, insurers, or lessees.
The debt rating is not a recommendation to purchase, sell or hold a security,
inasmuch as it does not comment as to market price or suitability for a
particular investor.
The ratings are based on current information furnished by the issuer or obtained
by Standard & Poor's from other sources Standard & Poor's considers reliable.
Standard & Poor's does not perform an audit in connection with any rating and
may, on occasion, rely on unaudited financial information. The ratings may be
changed, suspended or withdrawn as a result of changes in, or unavailability of,
such information, or for other circumstances.
The ratings are based, in varying degrees, on the following considerations:
I. Likelihood of default -- capacity and willingness of the obligor as to the
timely payment of interest and repayment of principal in accordance with
the terms of the obligation;
II. Nature of and provisions of the obligation;
III. Protection afforded by, and relative position of, the obligation in the
event of bankruptcy, reorganization or other arrangement under the laws of
bankruptcy and other laws affecting creditor's rights.
AAA: Debt rated "AAA" has the highest rating assigned by Standard & Poor's.
Capacity to pay interest and repay principal is extremely strong.
AA: Debt rated "AA" has a very strong capacity to pay interest and repay
principal and differs from the highest-rated issues only in small degree.
A: Debt rated "A" has a strong capacity to pay interest and repay principal
although they are 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: Debt rated "BB", "B", "CCC" and "CC" 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 "CC" 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.
C: The rating "C" is reserved for income bonds on which no interest is being
paid.
D: Debt rated "D" is in default, and payment of interest and/or repayment of
principal is in arrears.
Plus (+) or Minus (-): The ratings from "AA" to "B" may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
Provisional Ratings: The letter "p" indicates that the rating is provisional. A
provisional rating assumes the successful completion of the project being
financed by the bonds being rated and indicates that payment of debt
service requirements is largely or entirely dependent upon the successful
and timely completion of the project. This rating, however, while
addressing credit quality subsequent to completion of the project, makes no
comment on the likelihood of, or the risk of default upon failure of, such
completion. The investor should exercise his own judgment with respect to
such likelihood and risk.
NR: Indicates that no rating has been requested, that there is insufficient
information on which to base a rating or that Standard & Poor's does not
rate a particular type of obligation as a matter of policy.
Standard & Poor's, Commercial Paper Ratings
A Standard & Poor's Commercial Paper Rating is a current assessment of
the likelihood of timely payment of debt having an original maturity of
no more than 365 days. Ratings are graded into four categories, ranging
from "A" for the highest quality obligations to "D" for the lowest.
Ratings are applicable to both taxable and tax-exempt commercial paper.
The four categories are as follows:
A: Issues assigned the highest rating are regarded as having the greatest
capacity for timely payment. Issues in this category are delineated with
the numbers 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 either overwhelming or very strong. Issues that possess
overwhelming safety characteristics will be given a "+" designation.
A-2 Capacity for timely payment on issues with this designation is strong.
However, the relative degree of safety is not as high as for issues
designated "A-1".
A-3 Issues carrying this designation have a satisfactory capacity for timely
payment. They are, however, somewhat more vulnerable to the adverse effects
of changes in circumstances than obligations carrying the highest
designations.
B: Issues rated "B" are regarded as having only an adequate capacity for
timely payment. However, such capacity may be damaged by changing
conditions or short-term adversities.
C: This rating is assigned to short-term debt obligations with a doubtful
capacity for payment.
D: This rating indicates that the issue is either in default or is expected to
be in default upon maturity.
The Commercial Paper Rating is not a recommendation to purchase or sell a
security. The ratings are based on current information furnished to
Standard & Poor's by the issuer and obtained by Standard & Poor's from
other sources it considers reliable. The ratings may be changed, suspended,
or withdrawn as a result of changes in or unavailability of, such
information.
Standard & Poor's rates notes with a maturity of less than three years as
follows:
SP-1 A very strong, or strong, capacity to pay principal and interest. Issues
that possess overwhelming safety characteristics will be given a "+"
designation.
SP-2 A satisfactory capacity to pay principal and interest.
SP-3 A speculative capacity to pay principal and interest.
<PAGE>
PART C
OTHER INFORMATION
Item 24. Financial Statements and Exhibits
(a) Financial Statements included in the Registration Statement
(1) Part A:
Financial Highlights
(2) Part B:
Annual Report dated 12/31/97 incorporated by
reference
(b) Exhibits
(1) Amendment and Restatement of the Articles
of Incorporation (Filed 2/13/98)
(2) Bylaws (Filed 10/23/97)
(5a) Management Agreement (Filed 10/23/97)
(5a1) First Amendment to Management Agreement
(Filed 2/13/98)
(5b) Investment Service Agreement (Filed 10/23/97)
(5c) Sub-Advisory Agreement - Invista Capital
Management, Inc. (Filed 10/23/97)
(5c1) First Amendment to Sub-Advisory Agreement
(Filed 2/13/98)
(5d) Sub-Advisory Agreement - Morgan Stanley Asset
Management, Inc. (Filed 10/23/97)
(5e) Sub-Advisory Agreement - Berger
Associates, Inc.
(5f) Sub-Advisory Agreement - Dreyfus Corporation
(5g) Sub-Advisory Agreement - Goldman Sachs Asset
Management
(5h) Sub-Advisory Agreement - J.P. Morgan
Investment Management, Inc.
(8a) Domestic Custody Agreement (Filed 10/23/97)
(8b) Global Custody Agreement (Filed 10/23/97)
(9) Agreement and Plan of Reorganization and
Liquidation (Filed 10/23/97)
(11) Consent of Independent Auditors
(12) Audited Financial Statements as of
December 31, 1997, including the Report of
Ernst & Young LLP, independent auditors for
the Registrant.
(16) Total Return Performance Quotation
(Filed 4/12/96)
(27) Financial Data Schedules
Item 25. Persons Controlled by or Under Common Control with Depositor
Principal Mutual Life Insurance Company (incorporated as a
mutual life insurance company under the laws of Iowa);
Sponsored the organization of the following mutual funds,
some of which it controls by virtue of owning voting
securities:
Principal Balanced Fund, Inc.(a Maryland Corporation) 0.74% of
shares outstanding owned by Principal Mutual Life Insurance
Company (including subsidiaries and affiliates) on January 30,
1998.
Principal Blue Chip Fund, Inc.(a Maryland Corporation) 0.95% of
shares outstanding owned by Principal Mutual Life Insurance
Company (including subsidiaries and affiliates) on January 30,
1998.
Principal Bond Fund, Inc.(a Maryland Corporation) 1.35% of shares
outstanding owned by Principal Mutual Life Insurance Company
(including subsidiaries and affiliates) on January 30, 1998.
Principal Capital Value Fund, Inc. (a Maryland Corporation)
27.36% of outstanding shares owned by Principal Mutual Life
Insurance Company (including subsidiaries and affiliates) on
January 30, 1998.
Principal Cash Management Fund, Inc. (a Maryland Corporation)
2.34% of outstanding shares owned by Principal Mutual Life
Insurance Company (including subsidiaries and affiliates) on
January 30, 1998.
Principal Government Securities Income Fund, Inc. (a Maryland
Corporation) 0.40% of shares outstanding owned by Principal
Mutual Life Insurance Company (including subsidiaries and
affiliates) on January 30, 1998.
Principal Growth Fund, Inc. (a Maryland Corporation) 0.48% of
outstanding shares owned by Principal Mutual Life Insurance
Company (including subsidiaries and affiliates) on January 30,
1998.
Principal High Yield Fund, Inc. (a Maryland Corporation) 16.72%
of shares outstanding owned by Principal Mutual Life Insurance
Company (including subsidiaries and affiliates) on January 30,
1998.
Principal International Emerging Markets Fund, Inc. (a Maryland
Corporation) 66.10% of shares outstanding owned by Principal
Mutual Life Insurance Company (including subsidiaries and
affiliates) on January 30, 1998.
Principal International Fund, Inc. (a Maryland Corporation)
23.63% of shares outstanding owned by Principal Mutual Life
Insurance Company (including subsidiaries and affiliates) on
January 30, 1998.
Principal International SmallCap Fund, Inc. (a Maryland
Corporation) 61.51% of shares outstanding owned by Principal
Mutual Life Insurance Company (including subsidiaries and
affiliates) on January 30, 1998.
Principal Limited Term Bond Fund, Inc. (a Maryland Corporation)
45.48% of shares outstanding owned by Principal Mutual Life
Insurance Company(including subsidiaries and affiliates) on
January 30, 1998.
Principal MidCap Fund, Inc. (a Maryland Corporation) 0.60% of
shares outstanding owned by Principal Mutual Life Insurance
Company (including subsidiaries and affiliates) on January 30,
1998
Principal Real Estate Fund, Inc. (a Maryland Corporation) 95.34%
of shares outstanding owned by Principal Mutual Life Insurance
Company (including subsidiaries and affiliates) on January 30,
1998
Principal SmallCap Fund, Inc.(a Maryland Corporation) 88.70% of
shares outstanding owned by Principal Mutual Life Insurance
Company (including subsidiaries and affiliates) on January 30,
1998
Principal Special Markets Fund, Inc. (a Maryland Corporation)
96.92% of shares outstanding of the International Emerging
Markets Portfolio, 50.28% of the shares outstanding of the
International Securities Portfolio, 96.87% of shares outstanding
of the International SmallCap Portfolio and 100% of the shares
outstanding of the Mortgage-Backed Securities Portfolio were
owned by Principal Mutual Life Insurance Company (including
subsidiaries and affiliates) on January 30, 1998
Principal Tax-Exempt Bond Fund, Inc. (a Maryland Corporation)
0.56% of shares outstanding owned by Principal Mutual Life
Insurance Company (including subsidiaries and affiliates) on
January 30, 1998.
Principal Tax-Exempt Cash Management Fund, Inc. (a Maryland
Corporation) 0.99% of shares outstanding owned by Principal
Mutual Life Insurance Company (including subsidiaries and
affiliates) on January 30, 1998.
Principal Utilities Fund, Inc. (a Maryland Corporation) 1.45% of
shares outstanding owned by Principal Mutual Life Insurance
Company (including subsidiaries and affiliates) on January 30,
1998.
Principal Variable Contracts Fund, Inc. (a Maryland Corporation)
100% of shares outstanding of the following Accounts owned by
Principal Mutual Life Insurance Company and its Separate Accounts
on January 30, 1998: Aggressive Growth, Asset Allocation,
Balanced, Bond, Capital Value, Government Securities, Growth,
High Yield, International, MidCap and Money Market.
Subsidiaries organized and wholly-owned by Principal Mutual Life
Insurance Company:
a. Principal Holding Company (an Iowa Corporation) A holding
company wholly-owned by Principal Mutual Life Insurance
Company.
b. PT Asuransi Jiwa Principal Egalita Indonesia (an Indonesia
Corporation)
Subsidiaries wholly-owned by Principal Holding Company:
a. Petula Associates, Ltd. (an Iowa Corporation) a real estate
development company.
b. Patrician Associates, Inc. (a California Corporation) a real
estate development company.
c. Principal Development Associates, Inc. (a California
Corporation) a real estate development company.
d. Princor Financial Services Corporation (an Iowa Corporation)
a registered broker-dealer.
e. Invista Capital Management, Inc. (an Iowa Corporation) a
registered investment adviser.
f. Principal Marketing Services, Inc. (a Delaware Corporation)
a corporation formed to serve as an interface between
marketers and manufacturers of financial services products.
g. The Principal Financial Group, Inc. (a Delaware corporation)
a general business corporation established in connection
with the new corporate identity. It is not currently active.
h. Delaware Charter Guarantee & Trust Company (a Delaware
Corporation) a nondepository trust company.
i. The Admar Group, Inc. (a Florida Corporation) a national
managed care service organization that developes and manages
preferred provider organizations.
j. Principal Health Care, Inc. (an Iowa Corporation) a
developer and administrator of managed care systems.
k. Principal Financial Advisors, Inc. (an Iowa Corporation) a
registered investment advisor.
l. Principal Asset Markets, Inc. (an Iowa Corporation) a
residential mortgage loan broker.
m. Principal Portfolio Services, Inc. (an Iowa Corporation) a
mortgage due diligence company.
n. Principal International, Inc. (an Iowa Corporation) a
company formed for the purpose of international business
development.
o. Principal Spectrum Associates, Inc. (a California
Corporation) a real estate development company.
p. Principal Commercial Advisors, Inc. (an Iowa Corporation) a
company that purchases, manages and sells commercial real
estate assets.
q. Principal FC, Ltd. (an Iowa Corporation) a limited purpose
investment corporation.
r. Principal Residential Mortgage, Inc. (an Iowa Corporation) a
residential mortgage loan broker.
s. Equity FC, Ltd. (an Iowa Corporation) engaged in investment
transactions including limited partnership and limited
liability companies.
t. Principal Bank (a Federal Corporation) a Federally chartered
direct delivery savings bank.
u. HealthRisk Resource Group, Inc. (an Iowa Corporation) a
management services organization.
Subsidiaries organized and wholly-owned by Princor Financial Services
Corporation:
a. Principal Management Corporation (an Iowa Corporation) a
registered investment advisor.
b. Principal Investors Corporation (a New Jersey Corporation) a
registered broker-dealer with the Securities Exchange
Commission. It is not currently active.
Subsidiary wholly owned by Delaware Charter Guarantee & Trust Company:
a. Trust Consultants, Inc. (a California Corporation) a
Consulting and Administration of Employee Benefit Plans.
Subsidiary organized and wholly-owned by Principal Health Care, Inc.:
a. Principal Health Care of Texas, Inc. ( a Texas Corporation)
a health maintenance organization.
Subsidiaries owned by The Admar Group, Inc.:
a. Admar Corporation (a California Corporation) a managed care
services organization.
b. Admar Insurance Marketing, Inc. (a California Corporation) a
managed care services organization.
c. Benefit Plan Administrators, Inc. (a Colorado Corporation) a
managed care services organization.
d. SelectCare Management Co., Inc. (a California Corporation) a
managed care services organization.
e. Image Financial & Insurance Services, Inc. (a California
Corporation) a managed care services organization.
f. WM. G. Hofgard & Co., Inc. (a California Corporation) a
managed care services organization.
Subsidiaries owned by Principal International, Inc.:
a. Principal Insurance Company (Hong Kong) Limited (a Hong Kong
Corporation) group life and group pension products.
b. Principal International Argentina, S.A. (an Argentina
services corporation).
c. Principal International Asia Limited (a Hong Kong
Corporation) a corporation operating as a regional
headquarters for Asia.
d. Principal International de Chile, S.A. (a Chile
Corporation) a holding company.
e. Principal International Espana, S.A. de Seguros de Vida (a
Spain Corporation) a life insurance company (individual
group), annuities and pension.
f. Principal Mexico Compania de Seguros, S.A. de C.V. (a Mexico
Corporation) a life insurance company (individual and
group), personal accidents.
g. Qualitas Medica, S.A. (an Argentina HMO) a health
maintenance organization.
h. Afore Confia-Principal, S.a. de C.V. (a Mexico Corporation),
pension.
i. Zao Principal International (a Russia Corporation) inactive.
j. Principal Trust Company (Asia) Limited (an Asia trust
company).
Subsidiaries owned by Principal International Argentina, S.A.:
a. Ethika Administradora de Fondos de Jubilaciones y Pensions
S.A. (an Argentina company) a pension company.
b. Principal Compania de Seguros de Retiro, S.A. (an Argentina
Corporation) an individual annuity/employee benefit company.
c. Principal Life Compania de Seguros, S.A. (an Argentina
Corporation) a life insurance company.
Subsidiary owned by Principal International de Chile, S.A.:
a. BanRenta Compania de Seguros de Vida, S.A. (a Chile
Corporation) group life and supplemental health, individual
annuities.
Subsidiary owned by Principal International Espana, S.A. de Seguros de
Vida:
a. Princor International Espana Sociedad Anonima de Agencia de
Seguros (a Spain Corporation) an insurance agency.
Subsidiary owned by Afore Confia-Principal, S.A. de C.V.:
a. Siefore Confia-Principal, S.A. de C.V. (a Mexico
Corporation) an investment fund company.
Item 26. Number of Holders of Securities - As of: March 31, 1998
(1) (2)
Title of Class Number of Holders
Common-Principal Variable Contracts Fund, Inc.
Aggressive Growth Account 1
Asset Allocation Account 1
Balanced Account 1
Bond Account 1
Capital Value Account 1
Government Securities Account 1
Growth Account 1
High Yield Account 1
International Account 1
MidCap Account 1
Money Market Account 1
Item 27. Indemnification
Under Section 2-418 of the Maryland General Corporation Law, with respect
to any proceedings against a present or former director, officer, agent or
employee (a "corporate representative") of the Registrant, the Registrant may
indemnify the corporate representative against judgments, fines, penalties, and
amounts paid in settlement, and against expenses, including attorneys' fees, if
such expenses were actually incurred by the corporate representative in
connection with the proceeding, unless it is established that:
(i) The act or omission of the corporate representative was
material to the matter giving rise to the proceeding; and
1. Was committed in bad faith; or
2. Was the result of active and deliberate dishonesty; or
(ii) The corporate representative actually received an improper
personal benefit in money, property, or services; or
(iii) In the case of any criminal proceeding, the corporate
representative had reasonable cause to believe that the act or
omission was unlawful.
If a proceeding is brought by or on behalf of the Registrant, however, the
Registrant may not indemnify a corporate representative who has been adjudged to
be liable to the Registrant. Under the Registrant's Articles of Incorporation
and Bylaws, directors and officers of Registrant are entitled to indemnification
by the Registrant to the fullest extent permitted under Maryland law and the
Investment Company Act of 1940. Reference is made to Article VI, Section 7 of
the Registrant's Articles of Incorporation, Article 12 of Registrant's Bylaws
and Section 2-418 of the Maryland General Corporation Law.
The Registrant has agreed to indemnify, defend and hold the Distributor,
its officers and directors, and any person who controls the Distributor within
the meaning of Section 15 of the Securities Act of 1933, free and harmless from
and against any and all claims, demands, liabilities and expenses (including the
cost of investigating or defending such claims, demands or liabilities and any
counsel fees incurred in connection therewith) which the Distributor, its
officers, directors or any such controlling person may incur under the
Securities Act of 1933, or under common law or otherwise, arising out of or
based upon any untrue statement of a material fact contained in the Registrant's
registration statement or prospectus or arising out of or based upon any alleged
omission to state a material fact required to be stated in either thereof or
necessary to make the statements in either thereof not misleading, except
insofar as such claims, demands, liabilities or expenses arise out of or are
based upon any such untrue statement or omission made in conformity with
information furnished in writing by the Distributor to the Registrant for use in
the Registrant's registration statement or prospectus: provided, however, that
this indemnity agreement, to the extent that it might require indemnity of any
person who is also an officer or director of the Registrant or who controls the
Registrant within the meaning of Section 15 of the Securities Act of 1933, shall
not inure to the benefit of such officer, director or controlling person unless
a court of competent jurisdiction shall determine, or it shall have been
determined by controlling precedent that such result would not be against public
policy as expressed in the Securities Act of 1933, and further provided, that in
no event shall anything contained herein be so construed as to protect the
Distributor against any liability to the Registrant or to its security holders
to which the Distributor would otherwise be subject by reason of willful
misfeasance, bad faith, or gross negligence, in the performance of its duties,
or by reason of its reckless disregard of its obligations under this Agreement.
The Registrant's agreement to indemnify the Distributor, its officers and
directors and any such controlling person as aforesaid is expressly conditioned
upon the Registrant being promptly notified of any action brought against the
Distributor, its officers or directors, or any such controlling person, such
notification to be given by letter or telegram addressed to the Registrant.
Item 28. Business or Other Connection of Investment Adviser
A complete list of the officers and directors of the investment adviser,
Principal Management Corporation, is set out below. This list includes some of
the same people (designated by an *), who are serving as officers and directors
of the Registrant. For these people the information set out in the Statement of
Additional Information (See Part B) under the caption "Directors and Officers of
the Fund" is incorporated by reference. The principal business address for these
individuals is The Principal Financial Group, Des Moines, Iowa 50392.
Name and Position Position or Office Held with
or Office Held with Registrant or Other Substantial
Investment Adviser Business Affiliation
------------------- -------------------------------
John E. Aschenbrenner Senior Vice President
Director Principal Mutual Life
Insurance Company
Craig R. Barnes President and Director
Vice President Invista Capital
Management, Inc.
*Craig L. Bassett See Part B
Treasurer
*Michael J. Beer See Part B
Senior Vice President and
Chief Operating Officer
Mary L. Bricker Counsel & Assistant
Assistant Corporate Corporate Secretary
Secretary Principal Mutual Life
Insurance Company
David J. Drury Chief Executive Officer
Director and Chairman of the Board
Principal Mutual Life
Insurance Company
*Arthur S. Filean See Part B
Vice President
Paul N. Germain Vice President
Vice President - Mutual Fund Operations
- Mutual Fund Operations Princor Financial Services
Corporation
*Ernest H. Gillum See Part B
Assistant Vice President
- Registered Products
Thomas J. Graf Senior Vice President
Director Principal Mutual Life
Insurance Company
*J. Barry Griswell See Part B
Chairman of the Board
and Director
Joyce N. Hoffman Vice President and
Vice President and Corporate Secretary
Corporate Secretary Principal Mutual Life
Insurance Company
*Stephan L. Jones See Part B
Director and President
Ronald E. Keller Executive Vice President
Director Principal Mutual Life
Insurance Company
Ellen Z. Lamale Vice President & Chief Actuary
Director Principal Mutual Life
Insurance Company
Gregg R. Narber Senior Vice President &
Director General Counsel
Principal Mutual Life
Insurance Company
Richard L. Prey Senior Vice President
Director Principal Mutual Life
Insurance Company
Layne A. Rasmussen Controller
Controller - Mutual Funds Princor Financial Services
Corporation
Elizabeth R. Ring Controller
Controller Princor Financial Services
Corporation
*Michael D. Roughton See Part B
Counsel
Jean B. Schustek Product Compliance Officer
Product Compliance Officer Princor Financial Services
- Registered Products Corporation
Dewain A. Sparrgrove Vice President- Investment
Vice President Securities
Principal Mutual Life
Insurance Company
Principal Management Corporation serves as investment adviser and dividend
disbursing and transfer agent for, Principal Balanced Fund, Inc., Principal Blue
Chip Fund, Inc., Principal Bond Fund, Inc., Principal Capital Value Fund, Inc.,
Principal Cash Management Fund, Inc., Principal Government Securities Income
Fund, Inc., Principal Growth Fund, Inc., Principal High Yield Fund, Inc.,
Principal International Emerging Markets Fund, Inc., Principal International
Fund, Inc., Principal International SmallCap Fund, Inc., Principal Limited Term
Bond Fund, Inc., Principal MidCap Fund, Inc., Principal Real Estate Fund, Inc.,
Principal SmallCap Fund, Inc., Principal Special Markets Fund, Inc., Principal
Tax-Exempt Bond Fund, Inc., Principal Tax-Exempt Cash Management Fund, Inc.,
Principal Utilities Fund, Inc. and Principal Variable Contracts Fund, Inc. -
funds sponsored by Principal Mutual Life Insurance Company.
Item 29. Principal Underwriters
(a) Princor Financial Services Corporation, principal underwriter for
Registrant, acts as principal underwriter for, Principal Balanced Fund, Inc.,
Principal Blue Chip Fund, Inc., Principal Bond Fund, Inc., Principal Capital
Value Fund, Inc., Principal Cash Management Fund, Inc., Principal Government
Securities Income Fund, Inc., Principal Growth Fund, Inc., Principal High Yield
Fund, Inc., Principal International Emerging Markets Fund, Inc., Principal
International Fund, Inc., Principal International SmallCap Fund, Inc., Principal
Limited Term Bond Fund, Inc., Principal MidCap Fund, Inc., Principal Real Estate
Fund, Inc., Principal SmallCap Fund, Inc., Principal Special Markets Fund, Inc.,
Principal Tax-Exempt Bond Fund, Inc., Principal Tax-Exempt Cash Management Fund,
Inc., Principal Utilities Fund, Inc., Principal Variable Contracts Fund, Inc.
and for variable annuity contracts participating in Principal Mutual Life
Insurance Company Separate Account B, a registered unit investment trust for
retirement plans adopted by public school systems or certain tax-exempt
organizations pursuant to Section 403(b) of the Internal Revenue Code, Section
457 retirement plans, Section 401(a) retirement plans, certain non- qualified
deferred compensation plans and Individual Retirement Annuity Plans adopted
pursuant to Section 408 of the Internal Revenue Code, and for variable life
insurance contracts issued by Principal Mutual Life Insurance Company Variable
Life Separate Account, a registered unit investment trust.
(b) (1) (2) (3)
Positions
and offices Positions and
Name and principal with principal offices with
business address underwriter registrant
John E. Aschenbrenner Director None
The Principal
Financial Group
Des Moines, IA 50392
Robert W. Baehr Marketing Services None
The Principal Officer
Financial Group
Des Moines, IA 50392
Craig L. Bassett Treasurer Treasurer
The Principal
Financial Group
Des Moines, IA 50392
Michael J. Beer Senior Vice President and Vice President
The Principal Chief Operating Officer
Financial Group
Des Moines, IA 50392
Mary L. Bricker Assistant Corporate None
The Principal Secretary
Financial Group
Des Moines, IA 50392
Lynn A. Brones Vice President - None
The Principal Investment Network
Financial Group
Des Moines, IA 50392
David J. Drury Director None
The Principal
Financial Group
Des Moines, IA 50392
Arthur S. Filean Vice President Vice President
The Principal and Secretary
Financial Group
Des Moines, IA 50392
Paul N. Germain Vice President None
The Principal - Mutual Fund Operations
Financial Group
Des Moines, IA 50392
Ernest H. Gillum Assistant Vice President - Assistant
The Principal Registered Products Secretary
Financial Group
Des Moines, IA 50392
William C. Gordon Insurance License Officer None
The Principal
Financial Group
Des Moines, IA 50392
Thomas J. Graf Director None
The Principal
Financial Group
Des Moines, IA 50392
J. Barry Griswell Director and Director and
The Principal Chairman of the Chairman of the
Financial Group Board Board
Des Moines, IA 50392
Joyce N. Hoffman Vice President and None
The Principal Corporate Secretary
Financial Group
Des Moines, IA 50392
Stephan L. Jones Director and Director and
The Principal President President
Financial Group
Des Moines, IA 50392
Ronald E. Keller Director Director
The Principal
Financial Group
Des Moines, IA 50392
Ellen Z. Lamale Director None
The Principal
Financial Group
Des Moines, IA 50392
John R. Lepley Senior Vice None
The Principal President - Marketing
Financial Group and Distribution
Des Moines, IA 50392
Gregg R. Narber Director None
The Principal
Financial Group
Des Moines, IA 50392
Mark M. Oswald Compliance Officer None
The Principal
Financial Group
Des Moines, IA 50392
Kelly A. Paul Systems/Technology - None
The Principal Officer
Financial Group
Des Moines, IA 50392
Richard L. Prey Director None
The Principal
Financial Group
Des Moines, IA 50392
Layne A. Rasmussen Controller - None
The Principal Mutual Funds
Financial Group
Des Moines, IA 50392
Martin R. Richardson Operations Officer - None
The Principal Broker/Dealer Services
Financial Group
Des Moines, IA 50392
Elizabeth R. Ring Controller None
The Principal
Financial Group
Des Moines, IA 50392
Michael D. Roughton Counsel Counsel
The Principal
Financial Group
Des Moines, IA 50392
Jean B. Schustek Product Compliance Officer - None
The Principal Registered Products
Financial Group
Des Moines, IA 50392
Kyle R. Selberg Vice President-Marketing None
The Principal
Financial Group
Des Moines, IA 50392
Susan R. Sorensen Marketing Officer None
The Principal
Financial Group
Des Moines, IA 50392
Roger C. Stroud Assistant Director - None
The Principal Marketing
Financial Group
Des Moines, IA 50392
(c) Inapplicable.
Item 30. Location of Accounts and Records
All accounts, books or other documents of the Registrant are located at the
offices of the Registrant and its Investment Adviser in the Principal Mutual
Life Insurance Company home office building, The Principal Financial Group, Des
Moines, Iowa 50392.
Item 31. Management Services
Inapplicable.
Item 32. Undertakings
Indemnification
Reference is made to Item 27 above, which discusses circumstances under
which directors and officers of the Registrant shall be indemnified by the
Registrant against certain liabilities and expenses incurred by them by reason
of being a director or officer of the Registrant.
Notwithstanding the provisions of Registrant's Articles of Incorporation
and Bylaws, the Registrant hereby makes the following undertaking:
Insofar as indemnification for liabilities arising under the Securities Act
of 1933 may be permitted to directors, officers and controlling persons of the
Registrant, pursuant to the foregoing provisions or otherwise, the Registrant
has been advised that in the opinion of the Securities and Exchange Commission
such indemnification is against public policy as expressed in the Act and is,
therefore, unenforceable. In the event that a claim for indemnification against
such liabilities (other than the payment by the Registrant of expenses incurred
or paid by a director, officer or controlling person of the Registrant, in the
successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person of the Registrant, in connection with
the securities being registered, the Registrant will, unless in the opinion of
its counsel the matter has been settled by controlling precedent, submit to a
court of appropriate jurisdiction the question whether such indemnification by
it is against public policy as expressed in the Act and will be governed by the
final adjudication of such issue
Shareholder Communications
Registrant hereby undertakes to 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 the holders of at least 10% of the Registrant's
outstanding shares of common stock and in connection with such meeting to comply
with the provisions of Section 16(c) of the Investment Company Act of 1940
relating to shareholder communications
Delivery of Annual Report to Shareholders
The registrant hereby undertakes to furnish each person to whom a
prospectus is delivered a copy of the registrant's latest annual report to
shareholders, upon request and without charge.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933 and the
Investment Company Act of 1940 the Registrant certifies that it meets all of the
requirments for effectiveness of this Registration Statement and has duly caused
this Amendment to the Registration Statement to be signed on its behalf by the
undersigned, thereunto duly authorized in the City of Des Moines and State of
Iowa, on the 13th day of April, 1998.
Principal Variable Contracts Fund, Inc.
(Registrant)
By /s/ S. L. Jones
______________________________________
S. L. Jones
President and Director
Attest:
/s/ A. S. Filean
______________________________________
A. S. Filean
Vice President and Secretary
<PAGE>
Pursuant to the requirement of the Securities Act of 1933, this Amendment
to the Registration Statement has been signed below by the following persons in
the capacities and on the dates indicated.
Signature Title Date
/s/ S. L. Jones
_____________________________ President and Director April 13, 1998
S. L. Jones (Principal Executive _________________
Officer)
(J. B. Griswell)*
_____________________________ Director and April 13, 1998
J. B. Griswell Chairman of the Board _________________
/s/ M. J. Beer
_____________________________ Financial Officer April 13, 1998
M. J. Beer (Principal Financial _________________
and Accounting Officer)
(J. D. Davis)*
_____________________________ Director April 13, 1998
J. D. Davis _________________
(P. A. Ferguson)*
_____________________________ Director April 13, 1998
P. A. Ferguson _________________
(R. W. Gilbert)*
_____________________________ Director April 13, 1998
R. W. Gilbert _________________
(R. E. Keller)*
_____________________________ Director April 13, 1998
R. E. Keller _________________
(B. A. Lukavsky)*
_____________________________ Director April 13, 1998
B. A. Lukavsky _________________
(R. G. Peebler)*
_____________________________ Director April 13, 1998
R. G. Peebler _________________
*By /s/ S. L. Jones
_____________________________________
S. L. Jones
President and Director
Pursuant to Powers of Attorney
Previously Filed or Included
PRINCIPAL VARIABLE CONTRACTS FUND, INC.
SUB-ADVISORY AGREEMENT
SMALLCAP GROWTH SERIES
AGREEMENT executed as of the 1st day of March, 1998, by and between PRINCIPAL
MANAGEMENT CORPORATION, an Iowa Corporation (hereinafter called "the Manager")
and BERGER ASSOCIATES, INC., a Delaware Corporation (hereinafter called "the
Sub-Advisor").
W I T N E S S E T H:
WHEREAS, the Manager is the manager and investment adviser to each series of
Principal Variable Contracts Fund, Inc., (the "Fund"), an open-end management
investment company registered under the Investment Company Act of 1940, as
amended (the "1940 Act"); and
WHEREAS, the Manager desires to retain the Sub-Advisor to furnish it with
portfolio selection and related research and statistical services in connection
with the investment advisory services which the Manager has agreed to provide to
the Fund, and the Sub-Advisor desires to furnish such services; and
WHEREAS, The Manager has furnished the Sub-Advisor with copies properly
certified or authenticated of each of the following and will promptly provide
the Sub-Advisor with copies properly certified or authenticated of any amendment
or supplement thereto:
(a) Management Agreement (the "Management Agreement") with the Fund;
(b) The Fund's registration statement and financial statements as filed
with the Securities and Exchange Commission;
(c) The Fund's Articles of Incorporation and By-laws;
(d) Policies, procedures or instructions adopted or approved by the Board
of Directors of the Fund relating to obligations and services provided
by the Sub-Advisor.
NOW, THEREFORE, in consideration of the premises and the terms and conditions
hereinafter set forth, the parties agree as follows:
1. Appointment of Sub-Advisor
In accordance with and subject to the Management Agreement, the Manager
hereby appoints the Sub-Advisor to perform the services described in
Section 2 below for investment and reinvestment of the securities and
other assets of the SmallCap Growth Series of the Fund (hereinafter
called "the Series"), subject to the control and direction of the
Fund's Board of Directors, for the period and on the terms hereinafter
set forth. The Sub-Advisor accepts such appointment and agrees to
furnish the services hereinafter set forth for the compensation herein
provided. The Sub-Advisor shall for all purposes herein be deemed to be
an independent contractor and shall, except as expressly provided or
authorized, have no authority to act for or represent the Fund or the
Manager in any way or otherwise be deemed an agent of the Fund or the
Manager.
2. Obligations of and Services to be Provided by the Sub-Advisor
(a) Provide investment advisory services, including but not limited
to research, advice and supervision for the Series.
(b) Furnish to the Board of Directors of the Fund for approval (or any
appropriate committee of such Board), and revise from time to time
as economic conditions require, a recommended investment program
for the Series consistent with the Series' investment objective
and policies.
(c) Implement the approved investment program by placing orders for
the purchase and sale of securities without prior consultation
with the Manager and without regard to the length of time the
securities have been held, the resulting rate of portfolio
turnover or any tax considerations, subject always to the
provisions of the Fund's Certificate of Incorporation and Bylaws
and the requirements of the 1940 Act, as each of the same shall be
from time to time in effect.
(d) Advise and assist the officers of the Fund in taking such steps as
are necessary or appropriate to carry out the decisions of its
Board of Directors, and any appropriate committees of such Board,
regarding the general conduct of the investment business of the
Series.
(e) Report to the Board of Directors of the Fund at such times and in
such detail as the Board of Directors may reasonably deem
appropriate in order to enable it to determine that the investment
policies, procedures and approved investment program of the Series
are being observed.
(f) Provide assistance and recommendations for the determination of
the fair value of certain securities when reliable market
quotations are not readily available for purposes of calculating
net asset value in accordance with procedures and methods
established by the Fund's Board of Directors.
(g) Furnish, at its own expense, (i) all necessary investment and
management facilities, including salaries of clerical and other
personnel required for it to execute its duties faithfully, and
(ii) administrative facilities, including bookkeeping, clerical
personnel and equipment necessary for the efficient conduct of the
investment advisory affairs of the Series.
(h) Select brokers and dealers to effect all transactions for the
Series, place all necessary orders with brokers, dealers, or
issuers, and negotiate brokerage commissions if applicable. To
the extent consistent with applicable law, purchase or sell
orders for the Series may be aggregated with contemporaneous
purchase or sell orders of other clients of the Sub- Advisor. The
Sub-Advisor shall use its best efforts to obtain execution of
transactions for the Series at prices which are advantageous to
the Series and at commission rates that are reasonable in
relation to the benefits received. However, the Sub-Advisor may
select brokers or dealers on the basis that they provide
brokerage, research or other services or products to the Series
and/or other accounts serviced by the Sub-Advisor. To the extent
consistent with applicable law, the Sub-Advisor may pay a broker
or dealer an amount of commission for effecting a securities
transaction in excess of the amount of commission or dealer
spread another broker or dealer would have charged for effecting
that transaction if the Sub-Advisor determines in good faith that
such amount of commission is reasonable in relation to the value
of the brokerage and research products and/or services provided
by such broker or dealer. This determination, with respect to
brokerage and research services or products, may be viewed in
terms of either that particular transaction or the overall
responsibilities which the Sub-Advisor and its affiliates have
with respect to the Series or to accounts over which they
exercise investment discretion. Not all such services or products
need be used by the Sub-Advisor in managing the Series.
(i) Maintain all accounts, books and records with respect to the
Series as are required of an investment advisor of a registered
investment company pursuant to the 1940 Act and Investment
Advisers Act of 1940 (the "Investment Advisors Act") and the rules
thereunder.
3. Compensation
As full compensation for all services rendered and obligations assumed
by the Sub-Advisor hereunder with respect to the Series, the Manager
shall pay the compensation specified in Appendix A to this Agreement.
4. Liability of Sub-Advisor
Neither the Sub-Advisor nor any of its directors, officers or employees
shall be liable to the Manager, the Fund or its shareholders for any
loss suffered by the Manager or the Fund resulting from any error of
judgment made in the good faith exercise of the Sub-Advisor's
investment discretion in connection with selecting investments for the
Series except for losses resulting from willful misfeasance, bad faith
or gross negligence of, or from reckless disregard of, the duties of
the Sub-Advisor or any of its directors, officers or employees.
5. Supplemental Arrangements
The Sub-Advisor may enter into arrangements with other persons
affiliated with the Sub-Advisor or with unaffiliated third parties to
better enable the Sub-Advisor to fulfill its obligations under this
Agreement for the provision of certain personnel and facilities to the
Sub-Advisor, subject to written notification to and approval of the
Manager and the Board of Directors of the Fund.
6. Regulation
The Sub-Advisor shall submit to all regulatory and administrative
bodies having jurisdiction over the services provided pursuant to this
Agreement any information, reports or other material which any such
body may request or require pursuant to applicable laws and
regulations.
7. Duration and Termination of This Agreement
This Agreement shall become effective on the latest of (i) the date of
its execution, (ii) the date of its approval by a majority of the Board
of Directors of the Fund, including approval by the vote of a majority
of the Board of Directors of the Fund who are not interested persons of
the Manager, Principal Mutual Life Insurance Company or the Fund cast
in person at a meeting called for the purpose of voting on such
approval or (iii) if required by the 1940 Act, the date of its approval
by a majority of the outstanding voting securities of the Series. It
shall continue in effect thereafter from year to year provided that the
continuance is specifically approved at least annually either by the
Board of Directors of the Fund or by a vote of a majority of the
outstanding voting securities of the Fund and in either event by a vote
of a majority of the Board of Directors of the Fund who are not
interested persons of the Manager, Principal Mutual Life Insurance
Company, the Sub-Advisor or the Fund cast in person at a meeting called
for the purpose of voting on such approval.
If the shareholders of the Series fail to approve the Agreement or any
continuance of the Agreement in accordance with the requirements of the
1940 Act, the Sub-Advisor will continue to act as Sub-Advisor with
respect to the Series pending the required approval of the Agreement or
its continuance or of any contract with the Sub-Advisor or a different
manager or sub-advisor or other definitive action; provided, that the
compensation received by the Sub-Advisor in respect to the Series
during such period is in compliance with Rule 15a-4 under the 1940 Act.
This Agreement may, on sixty days written notice, be terminated at any
time without the payment of any penalty, by the Board of Directors of
the Fund, the Sub-Advisor or the Manager or by vote of a majority of
the outstanding voting securities of the Series. This Agreement shall
automatically terminate in the event of its assignment. In interpreting
the provisions of this Section 7, the definitions contained in Section
2(a) of the 1940 Act (particularly the definitions of "interested
person," "assignment" and "voting security") shall be applied.
8. Amendment of this Agreement
No material amendment of this Agreement shall be effective until
approved, if required by the 1940 Act or the rules, regulations,
interpretations or orders issued thereunder, by vote of the holders of
a majority of the outstanding voting securities of the Series and by
vote of a majority of the Board of Directors of the Fund who are not
interested persons of the Manager, the Sub-Advisor, Principal Mutual
Life Insurance Company or the Fund cast in person at a meeting called
for the purpose of voting on such approval.
9. General Provisions
(a) Each party agrees to perform such further reasonable acts and
execute such further reasonable documents as are necessary to
effectuate the purposes hereof. This Agreement shall be construed
and enforced in accordance with and governed by the laws of the
State of Iowa. The captions in this Agreement are included for
convenience only and in no way define or delimit any of the
provisions hereof or otherwise affect their construction or
effect.
(b) Any notice under this Agreement shall be in writing, addressed and
delivered or mailed postage pre-paid to the other party at such
address as such other party may designate for the receipt of such
notices. Until further notice to the other party, it is agreed
that the address of the Manager for this purpose shall be The
Principal Financial Group, Des Moines, Iowa 50392-0200, and the
address of the Sub-Advisor shall be 210 University Blvd., Suite
900, Denver, Colorado 80206, ATTN: Kevin Fay.
(c) The Sub-Advisor will promptly notify the Manager in writing of the
occurrence of any of the following events:
(1) the Sub-Advisor fails to be registered as an investment
adviser under the Investment Advisers Act or under the laws of
any jurisdiction in which the Sub-Advisor is required to be
registered as an investment advisor in order to perform its
obligations under this Agreement.
(2) the Sub-Advisor is served or otherwise receives notice of any
action, suit, proceeding, inquiry or investigation, at law or
in equity, before or by any court, public board or body,
involving the affairs of the Series.
(d) The Manager shall provide (or cause the Series custodian to
provide) timely information to the Sub-Advisor regarding such
matters as the composition of the assets of the Series, cash
requirements and cash available for investment in the Series, and
all other reasonable information as may be necessary for the
Sub-Advisor to perform its duties and responsibilities hereunder.
(e) This Agreement contains the entire understanding and agreement of
the parties.
IN WITNESS WHEREOF, the parties have duly executed this Agreement on the
date first above written.
PRINCIPAL MANAGEMENT CORPORATION
By /S/ A.S. FILEAN
A. S. Filean, Vice President
BERGER ASSOCIATES, INC.
By /S/ GERARD M. LAVIN
Gerard M. Lavin, President
<PAGE>
APPENDIX A
The Sub-Advisor shall serve as investment sub-advisor for the Smallcap
Growth Series of the Fund. The Manager will pay the Sub-Advisor, as full
compensation for all services provided under this Agreement, a fee computed at
an annual rate as follows (the "Sub-Advisor Percentage Fee"):
First $100,000,000 of Assets........................ 0.50%
Next $200,000,000 of Assets......................... 0.45%
Assets above $300,000,000........................... 0.40%
The Sub-Advisor Percentage Fee shall be accrued for each calendar day and
the sum of the daily fee accruals shall be paid monthly to the Sub-Advisor. The
daily fee accruals will be computed by multiplying the fraction of one over the
number of calendar days in the year by the applicable annual rate described
above and multiplying this product by the net assets of the Series as determined
in accordance with the Series' prospectus and statement of additional
information as of the close of business on the previous business day on which
the Series was open for business.
PRINCIPAL VARIABLE CONTRACTS FUND, INC.
SUB-ADVISORY AGREEMENT
MIDCAP GROWTH SERIES
AGREEMENT executed as of the 1st day of March, 1998, by and between PRINCIPAL
MANAGEMENT CORPORATION, an Iowa Corporation (hereinafter called "the Manager")
and THE DREYFUS CORPORATION, a New York Corporation (hereinafter called "the
Sub-Advisor").
W I T N E S S E T H:
WHEREAS, the Manager is the manager and investment adviser to each Series of
Principal Variable Contracts Fund, Inc., (the "Fund"), an open-end management
investment company registered under the Investment Company Act of 1940, as
amended (the "1940 Act"); and
WHEREAS, the Manager desires to retain the Sub-Advisor to furnish it with
portfolio selection and related research and statistical services in connection
with the investment advisory services which the Manager has agreed to provide to
the Fund's MidCap Growth Series (the "Series"), and the Sub-Advisor desires to
furnish such services; and
WHEREAS, The Manager has furnished the Sub-Advisor with copies properly
certified or authenticated of each of the following and will promptly provide
the Sub-Advisor with copies properly certified or authenticated of any amendment
or supplement thereto:
(a) Management Agreement (the "Management Agreement") with the Fund;
(b) The Fund's registration statement and financial statements as filed
with the Securities and Exchange Commission;
(c) The Fund's Articles of Incorporation and By-laws;
(d) Policies, procedures or instructions adopted or approved by the Board
of Directors of the Fund relating to obligations and services provided
by the Sub-Advisor.
NOW, THEREFORE, in consideration of the premises and the terms and conditions
hereinafter set forth, the parties agree as follows:
1. Appointment of Sub-Advisor
In accordance with and subject to the Management Agreement, the Manager
hereby appoints the Sub-Advisor to perform the services described in
Section 2 below for investment and reinvestment of the securities and
other assets of the Series, subject to the control and direction of the
Fund's Board of Directors, for the period and on the terms hereinafter
set forth. The Sub-Advisor accepts such appointment and agrees to
furnish the services hereinafter set forth for the compensation herein
provided. The Sub-Advisor shall for all purposes herein be deemed to be
an independent contractor and shall, except as expressly provided or
authorized, have no authority to act for or represent the Fund or the
Manager in any way or otherwise be deemed an agent of the Fund or the
Manager.
2. Obligations of and Services to be Provided by the Sub-Advisor
(a) Provide investment advisory services, including but not limited
to research, advice and supervision for the Series.
(b) Furnish to the Board of Directors of the Fund for approval (or any
appropriate committee of such Board), and revise from time to time
as economic conditions require, a recommended investment program
for the Series consistent with the Series' investment objective
and policies.
(c) Implement the approved investment program by opening accounts and
placing orders for the purchase and sale of securities without
prior consultation with the Manager and without regard to the
length of time the securities have been held, the resulting rate
of portfolio turnover or any tax considerations, subject always to
the provisions of the Fund's Certificate of Incorporation and
Bylaws and the requirements of the 1940 Act, as each of the same
shall be from time to time in effect.
(d) Advise and assist the officers of the Fund in taking such steps as
are necessary or appropriate to carry out the decisions of its
Board of Directors, and any appropriate committees of such Board,
regarding the general conduct of the investment business of the
Series.
(e) Report to the Board of Directors of the Fund at such times and in
such detail as the Board of Directors may reasonably deem
appropriate in order to enable it to determine that the investment
policies, procedures and approved investment program of the Series
are being observed.
(f) Provide assistance and recommendations for the determination of
the fair value of certain securities when reliable market
quotations are not readily available for purposes of calculating
net asset value in accordance with procedures and methods
established by the Fund's Board of Directors.
(g) Furnish, at its own expense, (i) all necessary investment and
management facilities, including salaries of clerical and other
personnel required for it to execute its duties faithfully, and
(ii) administrative facilities, including bookkeeping, clerical
personnel and equipment necessary for the efficient conduct of
the investment advisory affairs of the Series.
(h) Select brokers and dealers to effect all transactions for the
Series, place all necessary orders with brokers, dealers, or
issuers, and negotiate brokerage commissions if applicable. To
the extent consistent with applicable law, purchase or sell
orders for the Series may be aggregated with contemporaneous
purchase or sell orders of other clients of the Sub- Advisor. The
Sub-Advisor shall use its best efforts to obtain execution of
transactions for the Series at prices which are advantageous to
the Series and at commission rates that are reasonable in
relation to the benefits received. However, the Sub-Advisor may
select brokers or dealers on the basis that they provide
brokerage, research or other services or products to the Series
and/or other accounts serviced by the Sub-Advisor. To the extent
consistent with applicable law, the Sub-Advisor may pay a broker
or dealer an amount of commission for effecting a securities
transaction in excess of the amount of commission or dealer
spread another broker or dealer would have charged for effecting
that transaction if the Sub-Advisor determines in good faith that
such amount of commission is reasonable in relation to the value
of the brokerage and research products and/or services provided
by such broker or dealer. This determination, with respect to
brokerage and research services or products, may be viewed in
terms of either that particular transaction or the overall
responsibilities which the Sub-Advisor and its affiliates have
with respect to the Series or to accounts over which they
exercise investment discretion. Not all such services or products
need be used by the Sub-Advisor in managing the Series.
(i) Maintain all accounts, books and records with respect to the
Series as are required of an investment advisor of a registered
investment company pursuant to the 1940 Act and Investment
Advisers Act of 1940 (the "Investment Advisors Act") and the rules
thereunder.
3. Compensation
As full compensation for all services rendered and obligations assumed
by the Sub-Advisor hereunder with respect to the Series, the Manager
shall pay the compensation specified in Appendix A to this Agreement.
4. Liability of Sub-Advisor
Neither the Sub-Advisor nor any of its directors, officers, employees
or affiliates shall be liable to the Manager, the Fund or its
shareholders for any loss suffered by the Manager or the Fund resulting
from the Sub-Advisor's provision of services under this Agreement
except for losses resulting from willful misfeasance, bad faith or
gross negligence of, or from reckless disregard of, the duties of the
Sub-Advisor or any of its directors, officers, employees or affiliates.
5. Supplemental Arrangements
The Sub-Advisor may enter into arrangements with other persons
affiliated with the Sub-Advisor or with unaffiliated third parties to
better enable the Sub-Advisor to fulfill its obligations under this
Agreement for the provision of certain personnel and facilities to the
Sub-Advisor, subject to written notification to and approval of the
Manager and the Board of Directors of the Fund.
6. Regulation
The Sub-Advisor shall submit to all regulatory and administrative
bodies having jurisdiction over the services provided pursuant to this
Agreement any information, reports or other material which any such
body may reasonably request or require pursuant to applicable laws and
regulations.
7. Duration and Termination of This Agreement
This Agreement shall become effective on the latest of (i) the date of
its execution, (ii) the date of its approval by a majority of the Board
of Directors of the Fund, including approval by the vote of a majority
of the Board of Directors of the Fund who are not interested persons of
the Manager, Principal Mutual Life Insurance Company or the Fund cast
in person at a meeting called for the purpose of voting on such
approval or (iii) if required by the 1940 Act, the date of its approval
by a majority of the outstanding voting securities of the Series. It
shall continue in effect thereafter from year to year provided that the
continuance is specifically approved at least annually either by the
Board of Directors of the Fund or by a vote of a majority of the
outstanding voting securities of the Fund and in either event by a vote
of a majority of the Board of Directors of the Fund who are not
interested persons of the Manager, Principal Mutual Life Insurance
Company, the Sub-Advisor or the Fund cast in person at a meeting called
for the purpose of voting on such approval.
If the shareholders of the Series fail to approve the Agreement or any
continuance of the Agreement in accordance with the requirements of the
1940 Act, the Sub-Advisor will continue to act as Sub-Advisor with
respect to the Series pending the required approval of the Agreement or
its continuance or of any contract with the Sub-Advisor or a different
manager or sub-advisor or other definitive action; provided, that the
compensation received by the Sub-Advisor in respect to the Series
during such period is in compliance with Rule 15a-4 under the 1940 Act.
This Agreement may, on sixty days written notice, be terminated at any
time without the payment of any penalty, by the Board of Directors of
the Fund, the Sub-Advisor or the Manager or by vote of a majority of
the outstanding voting securities of the Series. This Agreement shall
automatically terminate in the event of its assignment. In interpreting
the provisions of this Section 7, the definitions contained in Section
2(a) of the 1940 Act (particularly the definitions of "interested
person," "assignment" and "voting security") shall be applied.
8. Amendment of this Agreement
No material amendment of this Agreement shall be effective until
approved, if required by the 1940 Act or the rules, regulations,
interpretations or orders issued thereunder, by vote of the holders of
a majority of the outstanding voting securities of the Series and by
vote of a majority of the Board of Directors of the Fund who are not
interested persons of the Manager, the Sub-Advisor, Principal Mutual
Life Insurance Company or the Fund cast in person at a meeting called
for the purpose of voting on such approval.
9. General Provisions
(a) Each party agrees to perform such further acts and execute such
further documents as are necessary to effectuate the purposes
hereof. This Agreement shall be construed and enforced in
accordance with and governed by the laws of the State of Iowa. The
captions in this Agreement are included for convenience only and
in no way define or delimit any of the provisions hereof or
otherwise affect their construction or effect.
(b) Any notice under this Agreement shall be in writing, addressed and
delivered or mailed postage pre-paid to the other party at such
address as such other party may designate for the receipt of such
notices. Until further notice to the other party, it is agreed
that the address of the Manager for this purpose shall be The
Principal Financial Group, Des Moines, Iowa 50392-0200, and the
address of the Sub-Advisor shall be 200 Park Avenue, New York, New
York 10166, ATTN: General Counsel.
(c) The Sub-Advisor will promptly notify the Manager in writing of the
occurrence of any of the following events:
(1) the Sub-Advisor fails to be registered as an investment
adviser under the Investment Advisers Act or under the laws of
any jurisdiction in which the Sub-Advisor is required to be
registered as an investment advisor in order to perform its
obligations under this Agreement.
(2) the Sub-Advisor is served or otherwise receives notice of any
action, suit, proceeding, inquiry or investigation, at law or
in equity, before or by any court, public board or body,
involving the affairs of the Series.
(d) The Manager shall provide (or cause the Series' custodian to
provide) timely information to the Sub-Advisor regarding such
matters as the composition of the assets of the Series, cash
requirements and cash available for investment in the Series, and
all other reasonable information as may be necessary for the
Sub-Advisor to perform its duties and responsibilities hereunder.
(e) This Agreement contains the entire understanding and agreement of
the parties.
IN WITNESS WHEREOF, the parties have duly executed this Agreement on the
date first above written.
PRINCIPAL MANAGEMENT CORPORATION
By /S/ A.S. FILEAN
A. S. Filean, Vice President
THE DREYFUS CORPORATION
By /S/ LAWRENCE S. KASH
<PAGE>
APPENDIX A
The Sub-Advisor shall serve as investment sub-advisor for the MidCap Growth
Series of the Fund. The Manager will pay the Sub-Advisor, as full compensation
for all services provided under this Agreement, a fee computed at an annual rate
as follows (the "Sub-Advisor Percentage Fee"):
First $50,000,000 of Assets............................ 0.40%
Assets above $50,000,000............................... 0.35%
The Sub-Advisor Percentage Fee shall be accrued for each calendar day and
the sum of the daily fee accruals shall be paid monthly to the Sub-Advisor. The
daily fee accruals will be computed by multiplying the fraction of one over the
number of calendar days in the year by the applicable annual rate described
above and multiplying this product by the net assets of the Series as determined
in accordance with the Series' prospectus and statement of additional
information as of the close of business on the previous business day on which
the Series was open for business.
If this Agreement becomes effective or terminates before the end of any
month, the fee (if any) for the period from the effective date to the end of
such month or from the beginning of such month to the date of termination, as
the case may be, shall be prorated according to the proportion which such period
bears to the full month in which such effectiveness or termination occurs.
PRINCIPAL VARIABLE CONTRACTS FUND, INC.
SUB-ADVISORY AGREEMENT
MICROCAP SERIES
AGREEMENT executed as of the 1st day of March, 1998, by and between PRINCIPAL
MANAGEMENT CORPORATION, an Iowa Corporation (hereinafter called "the Manager")
and GOLDMAN SACHS ASSET MANAGEMENT, a separate operating division of Goldman
Sachs & Co., a New York limited partnership (hereinafter called "the
Sub-Advisor").
W I T N E S S E T H:
WHEREAS, the Manager is the manager and investment adviser to each Series of
Principal Variable Contracts Fund, Inc., (the "Fund"), an open-end management
investment company registered under the Investment Company Act of 1940, as
amended (the "1940 Act"); and
WHEREAS, the Manager desires to retain the Sub-Advisor to furnish it with
portfolio selection and related research and statistical services in connection
with the investment advisory services which the Manager has agreed to provide to
the Fund, and the Sub-Advisor desires to furnish such services; and
WHEREAS, The Manager has furnished the Sub-Advisor with copies properly
certified or authenticated of each of the following and will promptly provide
the Sub-Advisor with copies properly certified or authenticated of any amendment
or supplement thereto:
(a) Management Agreement (the "Management Agreement") with the Fund;
(b) The Fund's registration statement and financial statements as filed
with the Securities and Exchange Commission;
(c) The Fund's Articles of Incorporation and By-laws;
(d) Policies, procedures or instructions adopted or approved by the Board
of Directors of the Fund relating to obligations and services provided
by the Sub-Advisor.
NOW, THEREFORE, in consideration of the premises and the terms and conditions
hereinafter set forth, the parties agree as follows:
1. Appointment of Sub-Advisor
In accordance with and subject to the Management Agreement, the Manager
hereby appoints the Sub-Advisor to perform the services described in
Section 2 below for investment and reinvestment of the securities and
other assets of the MicroCap Series of the Fund (hereinafter called
"the Series"), subject to the control and direction of the Fund's Board
of Directors, for the period and on the terms hereinafter set forth.
The Sub-Advisor accepts such appointment and agrees to furnish the
services hereinafter set forth for the compensation herein provided.
The Sub-Advisor shall for all purposes herein be deemed to be an
independent contractor and shall, except as expressly provided or
authorized, have no authority to act for or represent the Fund or the
Manager in any way or otherwise be deemed an agent of the Fund or the
Manager.
2. Obligations of and Services to be Provided by the Sub-Advisor
(a) Provide investment advisory services, including but not limited to
research, advice and supervision for the Series.
(b) Furnish to the Board of Directors of the Fund for approval (or any
appropriate committee of such Board), and revise from time to time
as economic conditions require, a recommended investment program
for the Series consistent with the Series' investment objective
and policies.
(c) Implement the approved investment program by placing orders for
the purchase and sale of securities without prior consultation
with the Manager and without regard to the length of time the
securities have been held, the resulting rate of portfolio
turnover or any tax considerations, subject always to the
provisions of the Fund's Certificate of Incorporation and Bylaws
and the requirements of the 1940 Act, as each of the same shall be
from time to time in effect.
(d) Advise and assist the officers of the Fund in taking such steps as
are necessary or appropriate to carry out the decisions of its
Board of Directors, and any appropriate committees of such Board,
regarding the general conduct of the investment business of the
Series.
(e) Report to the Board of Directors of the Fund at such times and in
such detail as the Board of Directors may reasonably deem
appropriate in order to enable it to determine that the investment
policies, procedures and approved investment program of the Series
are being observed.
(f) Provide assistance and recommendations for the determination of
the fair value of certain securities when reliable market
quotations are not readily available for purposes of calculating
net asset value in accordance with procedures and methods
established by the Fund's Board of Directors.
(g) Furnish, at its own expense, (i) all necessary investment and
management facilities, including salaries of clerical and other
personnel required for it to execute its duties faithfully, and
(ii) administrative facilities, including bookkeeping, clerical
personnel and equipment necessary for the efficient conduct of the
investment advisory affairs of the Series.
(h) Select brokers and dealers to effect all transactions for the
Series, place all necessary orders with brokers, dealers or
issuers (including affiliated broker-dealers), and negotiate
brokerage commissions if applicable. To the extent consistent
with applicable law, purchase or sell orders for the Series may
be aggregated with contemporaneous purchase or sell orders of
other clients of the Sub-Advisor. The Sub-Advisor shall use its
best efforts to obtain execution of transactions for the Series
at prices which are advantageous to the Series and at commission
rates that are reasonable in relation to the benefits received.
However, the Sub-Advisor may select brokers or dealers on the
basis that they provide brokerage, research or other services or
products to the Series and/or other accounts serviced by the
Sub-Advisor. To the extent consistent with applicable law, the
Sub-Advisor may pay a broker or dealer an amount of commission
for effecting a securities transaction in excess of the amount of
commission or dealer spread another broker or dealer would have
charged for effecting that transaction if the Sub-Advisor
determines in good faith that such amount of commission is
reasonable in relation to the value of the brokerage and research
products and/or services provided by such broker or dealer. This
determination, with respect to brokerage and research services or
products, may be viewed in terms of either that particular
transaction or the overall responsibilities which the Sub-Advisor
and its affiliates have with respect to the Series or to accounts
over which they exercise investment discretion. Not all such
services or products need be used by the Sub-Advisor in managing
the Series. In addition, joint repurchase or other accounts may
not be utilized by the Series except to the extent permitted
under any exemptive order obtained by the Sub-Advisor provided
that all conditions of such order are complied with.
(i) Maintain all accounts, books and records with respect to the
Series as are required of an investment advisor of a registered
investment company pursuant to the 1940 Act and Investment
Advisers Act of 1940 (the "Investment Advisors Act") and the rules
thereunder.
3. Compensation
As full compensation for all services rendered and obligations assumed
by the Sub-Advisor hereunder with respect to the Series, the Manager
shall pay the compensation specified in Appendix A to this Agreement.
4. Liability of Sub-Advisor
Neither the Sub-Advisor nor any of its managing directors, officers,
employees, agents or affiliates shall be liable to the Manager, the
Fund or its shareholders for any loss suffered by the Manager or the
Fund resulting from any error of judgment made in the good faith
exercise of the Sub-Advisor's investment discretion in connection with
selecting investments for the Series or as a result of the failure by
the Manager or any of its affiliates to comply with the terms of this
Agreement and/or any insurance laws and rules, except for losses
resulting from willful misfeasance, bad faith or gross negligence of,
or from reckless disregard of, the duties of the Sub-Advisor or any of
its directors, officers or employees.
5. Supplemental Arrangements
The Sub-Advisor may enter into arrangements with other persons
affiliated with the Sub-Advisor or with unaffiliated third parties to
better enable the Sub-Advisor to fulfill its obligations under this
Agreement for the provision of certain personnel and facilities to the
Sub-Advisor, subject to written notification to and approval of the
Manager and the Board of Directors of the Fund.
6. Regulation
The Sub-Advisor shall submit to all regulatory and administrative
bodies having jurisdiction over the services provided pursuant to this
Agreement any information, reports or other material which any such
body may request or require pursuant to applicable laws and
regulations.
7. Duration and Termination of This Agreement
This Agreement shall become effective on the latest of (i) the date of
its execution, (ii) the date of its approval by a majority of the Board
of Directors of the Fund, including approval by the vote of a majority
of the Board of Directors of the Fund who are not interested persons of
the Manager, Principal Mutual Life Insurance Company or the Fund cast
in person at a meeting called for the purpose of voting on such
approval or (iii) if required by the 1940 Act, the date of its approval
by a majority of the outstanding voting securities of the Series. It
shall continue in effect thereafter from year to year provided that the
continuance is specifically approved at least annually either by the
Board of Directors of the Fund or by a vote of a majority of the
outstanding voting securities of the Fund and in either event by a vote
of a majority of the Board of Directors of the Fund who are not
interested persons of the Manager, Principal Mutual Life Insurance
Company, the Sub-Advisor or the Fund cast in person at a meeting called
for the purpose of voting on such approval.
If the shareholders of the Series fail to approve the Agreement or any
continuance of the Agreement in accordance with the requirements of the
1940 Act, the Sub-Advisor will continue to act as Sub-Advisor with
respect to the Series pending the required approval of the Agreement or
its continuance or of any contract with the Sub-Advisor or a different
manager or sub-advisor or other definitive action; provided, that the
compensation received by the Sub-Advisor in respect to the Series
during such period is in compliance with Rule 15a-4 under the 1940 Act.
This Agreement may, on sixty days written notice, be terminated at any
time without the payment of any penalty, by the Board of Directors of
the Fund, the Sub-Advisor or the Manager or by vote of a majority of
the outstanding voting securities of the Series. This Agreement shall
automatically terminate in the event of its assignment. In interpreting
the provisions of this Section 7, the definitions contained in Section
2(a) of the 1940 Act (particularly the definitions of "interested
person," "assignment" and "voting security") shall be applied.
8. Amendment of this Agreement
No material amendment of this Agreement shall be effective until
approved, if required by the 1940 Act or the rules, regulations,
interpretations or orders issued thereunder, by vote of the holders of
a majority of the outstanding voting securities of the Series and by
vote of a majority of the Board of Directors of the Fund who are not
interested persons of the Manager, the Sub-Advisor, Principal Mutual
Life Insurance Company or the Fund cast in person at a meeting called
for the purpose of voting on such approval.
9. General Provisions
(a) Each party agrees to perform such further acts and execute such
further documents as are necessary to effectuate the purposes
hereof. This Agreement shall be construed and enforced in
accordance with and governed by the laws of the State of Iowa. The
captions in this Agreement are included for convenience only and
in no way define or delimit any of the provisions hereof or
otherwise affect their construction or effect.
(b) Any notice under this Agreement shall be in writing, addressed and
delivered or mailed postage pre-paid to the other party at such
address as such other party may designate for the receipt of such
notices. Until further notice to the other party, it is agreed
that the address of the Manager for this purpose shall be The
Principal Financial Group, Des Moines, Iowa 50392-0200, and the
address of the Sub-Advisor shall be One New York Plaza, 41st
Floor, New York, New York 10004.
(c) The Sub-Advisor will promptly notify the Manager in writing of the
occurrence of any of the following events:
(1) the Sub-Advisor fails to be registered as an investment
adviser under the Investment Advisers Act or under the laws of
any jurisdiction in which the Sub-Advisor is required to be
registered as an investment advisor in order to perform its
obligations under this Agreement.
(2) the Sub-Advisor is served or otherwise receives notice of any
action, suit, proceeding, inquiry or investigation, at law or
in equity, before or by any court, public board or body,
involving the affairs of the Series.
(d) The Manager shall provide (or cause the Series custodian to
provide) timely information to the Sub-Advisor regarding such
matters as the composition of the assets of the Series, cash
requirements and cash available for investment in the Series, any
applicable investment restrictions imposed by state insurance
laws and regulations, reports covering the classification of
securities for purposes of Subchapter M of the Internal Revenue
Code and Treasury Regulations Section 1.817, and all other
reasonable information as may be necessary for the Sub-Advisor to
perform its duties and responsibilities hereunder.
(e) Neither the Manager, Principal Mutual Life Insurance Company, nor
the Fund will publish or distribute any information, including
but not limited to registration statements, advertising or
promotional material, regarding the provision of investment
advisory services by the Sub-Adviser pursuant to this Agreement,
or use in advertising, publicity or otherwise the name of the
Sub-Adviser or any of its affiliates, or any trade name,
trademark, trade device, service mark, symbol or any
abbreviation, contraction or simulation thereof of the
Sub-Adviser or its affiliates without the prior written consent
of the Sub-Adviser. Notwithstanding the foregoing, the Manager
may distribute information regarding the provision of investment
advisory services by the Sub-Adviser to the Fund's board of
Directors ("Board Materials") without the prior written consent
of the Sub- Adviser.
(f) The Manager shall perform quarterly and annual tax compliance
tests to ensure that the Series is in compliance with Subchapter
M of the Internal Revenue Code ("IRC") and Section 817(h) of the
IRC. In connection with such compliance tests, the Manager shall
prepare and provide reports to the Sub-Advisor within 10 business
days of a calendar quarter end relating to the diversification of
the Series under Subchapter M and Section 817(h). The Sub-Advisor
shall review such reports for purposes of determining compliance
with such diversification requirements. If it is determined that
the Series is not in compliance with the requirements noted
above, the Sub-Advisor, in consultation with the Manager, will
take prompt action to bring the Series back into compliance
within the time permitted under the IRC.
(g) This Agreement contains the entire understanding and agreement of
the parties.
IN WITNESS WHEREOF, the parties have duly executed this Agreement on the
date first above written.
PRINCIPAL MANAGEMENT CORPORATION
By /S/ A.S. FILEAN
A.S. Filean, Vice President
GOLDMAN SACHS ASSET
MANAGEMENT, a separate
operating division of
Goldman Sachs & Co.
By /S/ DAVID B FORD
<PAGE>
APPENDIX A
The Sub-Advisor shall serve as investment sub-advisor for the MicroCap
Series of the Fund. The Manager will pay the Sub-Advisor, as full compensation
for all services provided under this Agreement, a fee computed at an annual rate
as follows (the "Sub-Advisor Percentage Fee"):
First $50,000,000 of Assets.......................... 0.50%
Next $150,000,000 of Assets.......................... 0.45%
Assets above $200,000,000............................ 0.40%
The Sub-Advisor Percentage Fee shall be accrued for each calendar day and
the sum of the daily fee accruals shall be paid monthly to the Sub-Advisor. The
daily fee accruals will be computed by multiplying the fraction of one over the
number of calendar days in the year by the applicable annual rate described
above and multiplying this product by the net assets of the Series as determined
in accordance with the Series' prospectus and statement of additional
information as of the close of business on the previous business day on which
the Series was open for business.
If this Agreement becomes effective or terminates before the end of any
month, the fee (if any) for the period from the effective date to the end of
such month or from the beginning of such month to the date of termination, as
the case may be, shall be prorated according to the proportion which such period
bears to the full month in which such effectiveness or termination occurs.
PRINCIPAL VARIABLE CONTRACTS FUND, INC.
SUB-ADVISORY AGREEMENT
SMALLCAP VALUE SERIES
AGREEMENT executed as of the 1st day of March, 1998, by and between PRINCIPAL
MANAGEMENT CORPORATION, an Iowa Corporation (hereinafter called "the Manager")
and J.P. MORGAN INVESTMENT MANAGEMENT INC., a Delaware Corporation (hereinafter
called "the Sub-Advisor").
W I T N E S S E T H:
WHEREAS, the Manager is the manager and investment adviser to each Series of
Principal Variable Contracts Fund, Inc., (the "Fund"), an open-end management
investment company registered under the Investment Company Act of 1940, as
amended (the "1940 Act"); and
WHEREAS, the Manager desires to retain the Sub-Advisor to furnish it with
portfolio selection and related research and statistical services in connection
with the investment advisory services which the Manager has agreed to provide to
the Fund, and the Sub-Advisor desires to furnish such services; and
WHEREAS, The Manager has furnished the Sub-Advisor with copies properly
certified or authenticated of each of the following and will promptly provide
the Sub-Advisor with copies properly certified or authenticated of any amendment
or supplement thereto:
(a) Management Agreement (the "Management Agreement") with the Fund;
(b) The Fund's registration statement and financial statements as filed
with the Securities and Exchange Commission;
(c) The Fund's Articles of Incorporation and By-laws;
(d) Policies, procedures or instructions adopted or approved by the Board
of Directors of the Fund relating to obligations and services provided
by the Sub-Advisor.
NOW, THEREFORE, in consideration of the premises and the terms and conditions
hereinafter set forth, the parties agree as follows:
1. Appointment of Sub-Advisor
In accordance with and subject to the Management Agreement, the Manager
hereby appoints the Sub-Advisor to perform the services described in
Section 2 below for investment and reinvestment of the securities and
other assets of the SmallCap Value Series of the Fund (hereinafter
called "the Series"), subject to the control and direction of the
Fund's Board of Directors, for the period and on the terms hereinafter
set forth. The Sub-Advisor accepts such appointment and agrees to
furnish the services hereinafter set forth for the compensation herein
provided. The Sub-Advisor shall for all purposes herein be deemed to be
an independent contractor and shall, except as expressly provided or
authorized, have no authority to act for or represent the Fund or the
Manager in any way or otherwise be deemed an agent of the Fund or the
Manager.
2. Obligations of and Services to be Provided by the Sub-Advisor
(a) Provide investment advisory services, including but not limited to
research, advice and supervision of the investments of the Series.
(b) Furnish to the Board of Directors of the Fund for approval (or any
appropriate committee of such Board), and revise from time to time
as economic conditions require, a recommended investment program
that describes the broad strategy for the Series consistent with
the Series' investment objective and policies.
(c) Implement the approved investment program by placing orders for
the purchase and sale of securities without prior consultation
with the Manager and without regard to the length of time the
securities have been held, the resulting rate of portfolio
turnover or any tax considerations, subject always to the
provisions of the Fund's Certificate of Incorporation and Bylaws
and the requirements of the 1940 Act, as each of the same shall be
from time to time in effect.
(d) Advise and assist the officers of the Fund in taking such steps as
are necessary or appropriate to carry out the decisions of its
Board of Directors, and any appropriate committees of such Board,
regarding the general conduct of the investment business of the
Series.
(e) Report to the Board of Directors of the Fund at such times and in
such detail as the Board of Directors may reasonably deem
appropriate in order to enable it to determine that the investment
policies, procedures and approved investment program of the Series
are being observed.
(f) Provide assistance in the determination of the fair value of
certain securities when reliable market quotations are not readily
available for purposes of calculating net asset value in
accordance with procedures and methods established by the Fund's
Board of Directors.
(g) Furnish, at its own expense, (I) all necessary investment and
management facilities, including salaries of clerical and other
personnel required for it to execute its duties faithfully, and
(ii) administrative facilities, including bookkeeping, clerical
personnel and equipment necessary for the efficient conduct of its
duties under this Agreement.
(h) Select brokers and dealers to effect all transactions for the
Series, place all necessary orders with brokers, dealers, or
issuers, and negotiate brokerage commissions if applicable. To
the extent consistent with applicable law, purchase or sell
orders for the Series may be aggregated with contemporaneous
purchase or sell orders of other clients of the Sub- Advisor. The
Manager recognizes that, in some cases, this procedure may limit
the size of the position that may be acquired or sold for the
Series. The Sub-Advisor shall use its best efforts to obtain
execution of transactions for the Series at prices which are
advantageous to the Series and at commission rates that are
reasonable in relation to the benefits received. However, the
Sub-Advisor may select brokers or dealers on the basis that they
provide brokerage, research or other services or products to the
Series and/or other accounts serviced by the Sub-Advisor. To the
extent consistent with applicable law, the Sub-Advisor may pay a
broker or dealer an amount of commission for effecting a
securities transaction in excess of the amount of commission or
dealer spread another broker or dealer would have charged for
effecting that transaction if the Sub-Advisor determines in good
faith that such amount of commission is reasonable in relation to
the value of the brokerage and research products and/or services
provided by such broker or dealer. This determination, with
respect to brokerage and research services or products, may be
viewed in terms of either that particular transaction or the
overall responsibilities which the Sub-Advisor and its affiliates
have with respect to the Series or to accounts over which they
exercise investment discretion. Not all such services or products
need be used by the Sub-Advisor in managing the Series.
(i) Maintain all accounts, books and records with respect to the
Series as are required of an investment advisor of a registered
investment company pursuant to the 1940 Act and Investment
Advisers Act of 1940 (the "Investment Advisors Act") and the rules
thereunder.
3. Compensation
As full compensation for all services rendered and obligations assumed
by the Sub-Advisor hereunder with respect to the Series, the Manager
shall pay the compensation specified in Appendix A to this Agreement.
4. Liability of Sub-Advisor
Neither the Sub-Advisor nor any of its directors, officers or employees
shall be liable to the Manager, the Fund or its shareholders for any
loss suffered by the Manager or the Fund resulting from any error of
judgment made in the good faith exercise of the Sub-Advisor's duties
under this Agreement except for losses resulting from willful
misfeasance, bad faith or gross negligence of, or from reckless
disregard of, the duties of the Sub-Advisor or any of its directors,
officers or employees under this Agreement.
5. Indemnification
The Manager agrees to indemnify and hold harmless the Sub-Adviser from
and against any and all claims, losses, liabilities or damages
(including reasonable attorneys' fees and other related expenses),
("Losses") howsoever arising, from or in connection with this Agreement
or the performance by the Sub-Adviser of its duties hereunder, so long
as the Sub-Advisor shall, after receipt of notice of any claim or
commencement of any action, promptly notify the Manager in writing of
the claim or commencement of such action. The Manager shall not be
liable for any settlement of any claim or action effected without its
written consent. Nothing contained herein shall require the Manager to
indemnify the Sub-Advisor for Losses resulting from the Sub-Advisor's
willful misfeasance, bad faith or gross negligence in the performance
of its duties or from its reckless disregard of its obligations and
duties under this Agreement.
6. Disclosure
Neither the Fund nor the Manager shall, without the prior written
consent of the Sub-Adviser, make representations regarding or reference
to the Sub-Adviser or any affiliates in any disclosure document,
advertisement, sales literature or other promotional materials.
7. Supplemental Arrangements
The Sub-Advisor may enter into arrangements with other persons
affiliated with the Sub-Advisor or with unaffiliated third parties to
better enable the Sub-Advisor to fulfill its obligations under this
Agreement for the provision of certain personnel and facilities to the
Sub-Advisor, subject to written notification to and approval of the
Manager and the Board of Directors of the Fund.
8. Regulation
The Sub-Advisor shall submit to all regulatory and administrative
bodies having jurisdiction over the services provided pursuant to this
Agreement any information, reports or other material which any such
body may request or require pursuant to applicable laws and
regulations.
9. Duration and Termination of This Agreement
This Agreement shall become effective on the latest of (i) the date of
its execution, (ii) the date of its approval by a majority of the Board
of Directors of the Fund, including approval by the vote of a majority
of the Board of Directors of the Fund who are not interested persons of
the Manager, Principal Mutual Life Insurance Company or the Fund cast
in person at a meeting called for the purpose of voting on such
approval or (iii) if required by the 1940 Act, the date of its approval
by a majority of the outstanding voting securities of the Series. It
shall continue in effect thereafter from year to year provided that the
continuance is specifically approved at least annually either by the
Board of Directors of the Fund or by a vote of a majority of the
outstanding voting securities of the Fund and in either event by a vote
of a majority of the Board of Directors of the Fund who are not
interested persons of the Manager, Principal Mutual Life Insurance
Company, the Sub-Advisor or the Fund cast in person at a meeting called
for the purpose of voting on such approval.
If the shareholders of the Series fail to approve the Agreement or any
continuance of the Agreement in accordance with requirements of the
1940 Act, the Sub-Advisor will continue to act as Sub-Advisor with
respect to the Series pending the required approval of the Agreement or
its continuance or of any contract with the Sub-Advisor or a different
manager or sub-advisor or other definitive action; provided, that the
compensation received by the Sub-Advisor in respect to the Series
during such period is in compliance with Rule 15a-4 under the 1940 Act.
This Agreement may, on sixty days written notice, be terminated at any
time without the payment of any penalty, by the Board of Directors of
the Fund, the Sub-Advisor or the Manager or by vote of a majority of
the outstanding voting securities of the Series. This Agreement shall
automatically terminate in the event of its assignment. In interpreting
the provisions of this Section 7, the definitions contained in Section
2(a) of the 1940 Act (particularly the definitions of "interested
person," "assignment" and "voting security") shall be applied.
10. Amendment of this Agreement
No material amendment of this Agreement shall be effective until
approved, if required by the 1940 Act or the rules, regulations,
interpretations or orders issued thereunder, by vote of the holders of
a majority of the outstanding voting securities of the Series and by
vote of a majority of the Board of Directors of the Fund who are not
interested persons of the Manager, the Sub-Advisor, Principal Mutual
Life Insurance Company or the Fund cast in person at a meeting called
for the purpose of voting on such approval.
11. General Provisions
(a) Each party agrees to perform such further acts and execute such
further documents as are necessary to effectuate the purposes
hereof. This Agreement shall be construed and enforced in
accordance with and governed by the laws of the State of Iowa. The
captions in this Agreement are included for convenience only and
in no way define or delimit any of the provisions hereof or
otherwise affect their construction or effect.
(b) Any notice under this Agreement shall be in writing, addressed and
delivered or mailed postage pre-paid to the other party at such
address as such other party may designate for the receipt of such
notices. Until further notice to the other party, it is agreed
that the address of the Manager for this purpose shall be The
Principal Financial Group, Des Moines, Iowa 50392-0200, and the
address of the Sub-Advisor shall be 530 Fifth Avenue, Eighth
Floor, New York, New York 10036.
(c) The Sub-Advisor will promptly notify the Manager in writing of the
occurrence of any of the following events:
(1) the Sub-Advisor fails to be registered as an investment
adviser under the Investment Advisers Act or under the laws of
any jurisdiction in which the Sub-Advisor is required to be
registered as an investment advisor in order to perform its
obligations under this Agreement.
(2) the Sub-Advisor is served or otherwise receives notice of any
action, suit, proceeding, inquiry or investigation, at law or
in equity, before or by any court, public board or body,
involving the affairs of the Series.
(d) The Manager shall provide (or cause the Series custodian to
provide) timely information to the Sub-Advisor regarding such
matters as the composition of the assets of the Series, cash
requirements and cash available for investment in the Series, and
all other reasonable information as may be necessary for the
Sub-Advisor to perform its duties and responsibilities hereunder.
(e) This Agreement contains the entire understanding and agreement of
the parties.
IN WITNESS WHEREOF, the parties have duly executed this Agreement on the
date first above written.
PRINCIPAL MANAGEMENT CORPORATION
By /S/ A.S. FILEAN
A. S. Filean, Vice President
J.P. MORGAN INVESTMENT MANAGEMENT INC.
By /S/ DIANE J. MINARDI
<PAGE>
APPENDIX A
The Sub-Advisor shall serve as investment sub-advisor for the SmallCap
Value Series of the Fund. The Manager will pay the Sub-Advisor, as full
compensation for all services provided under this Agreement, a fee computed at
an annual rate as follows (the "Sub-Advisor Percentage Fee"):
First $50,000,000 of Assets............................. 0.60%
Next $250,000,000 of Assets............................. 0.55%
Assets above $300,000,000............................... 0.50%
The Sub-Advisor Percentage Fee shall be accrued for each calendar day and
the sum of the daily fee accruals shall be paid monthly to the Sub-Advisor. The
daily fee accruals will be computed by multiplying the fraction of one over the
number of calendar days in the year by the applicable annual rate described
above and multiplying this product by the net assets of the Series as determined
in accordance with the Series' prospectus and statement of additional
information as of the close of business on the previous business day on which
the Series was open for business.
If this Agreement becomes effective or terminates before the end of any
month, the fee (if any) for the period from the effective date to the end of
such month or from the beginning of such month to the date of termination, as
the case may be, shall be prorated according to the proportion which such period
bears to the full month in which such effectiveness or termination occurs.
ERNST & YOUNG LLP Suite 3400 Phone: 515 243 2727
801 Grand Avenue
Des Moines, Iowa 50309-2764
Consent of Independent Auditors
The Board of Directors and Shareholders
Principal Variable Contracts Fund, Inc.
(formerly known individually as
Principal Aggressive Growth Fund, Inc.,
Principal Asset Allocation Fund, Inc.,
Principal Balanced Fund, Inc.,
Principal Bond Fund, Inc.,
Principal Capital Accumulation Fund, Inc.,
Principal Emerging Growth Fund, Inc.,
Principal Government Securities Fund, Inc.,
Principal Growth Fund, Inc.,
Principal High Yield Fund, Inc.,
Principal Money Market Fund, Inc.,
and Principal World Fund, Inc.)
We consent to the reference to our firm under the captions "Financial
Highlights" and "Additional Information Financial Statements" in the
Prospectuses in Part A and "Financial Statements" in Part B and to the
incorporation by reference in Part B of our report dated January 16, 1998 on the
financial statements and the financial highlights of Principal Aggressive Growth
Fund, Inc., Principal Asset Allocation Fund, Inc., Principal Balanced Fund,
Inc., Principal Bond Fund, Inc., Principal Capital Accumulation Fund, Inc.,
Principal Emerging Growth Fund, Inc., Principal Government Securities Fund,
Inc., Principal Growth Fund, Inc., Principal High Yield Fund, Inc., Principal
Money Market Fund, Inc., and Principal World Fund, Inc., in this Post Effective
Amendment No. 42 to Form N-1A Registration Statement under the Securities Act of
1933 (No. 02-35570) and Registration Statement under the Investment Company Act
of 1940 (No. 811-1944) of Principal Variable Contracts Fund, Inc.
/s/ Ernst & Young LLP
Des Moines, Iowa
April 14, 1998
Ernst & Young LLP is a member of Ernst & Young International, Ltd.
A MESSAGE FROM THE PRESIDENT
To Principal Mutual Life Insurance Company Customers
Stock and bond markets began the second half of the 1997 quite strong. After
reaching record levels, U.S. and foreign equity markets experienced a dramatic
market correction in late October. Fortunately, investors rapidly reevaluated
the situation and returned most markets to near predecline levels.
Though domestic and international markets continue to experience volatility,
given a continued strong U.S. economy, low interest rates and few inflationary
signs, the long-term outlook for investors remains positive.
The Principal Mutual Funds have been reorganized into a series fund, known as
Principal Variable Contracts Fund, Inc., after receiving shareholder approval in
a proxy vote held last summer. Each fund is now identified as an "account" of
the Variable Contracts Fund.
In addition, three of the accounts had their "descriptive" names changed, as
well. Principal Capital Accumulation, Principal Emerging Growth and Principal
World funds are now referred to as Capital Value Account, MidCap Account and
International Account, respectively. These name changes were made to provide a
clearer description of the accounts and their investment objectives.
As we begin 1998, we want to thank our contract owners for their loyalty.
Principal Mutual Life Insurance Company remains committed to delivering the
quality financial products and services they deserve.
Sincerely,
/S/STEPHAN L JONES
Stephan L. Jones
President
CONTENTS
Page
Financial Statements and Financial Highlights
Statements of Assets and Liabilities................................. 2
Statements of Operations ............................................ 4
Statements of Changes in Net Assets.................................. 6
Notes to Financial Statements........................................ 10
Schedules of Investments
Principal Aggressive Growth Fund, Inc............................ 18
Principal Asset Allocation Fund, Inc............................. 19
Principal Balanced Fund, Inc..................................... 25
Principal Bond Fund, Inc......................................... 29
Principal Capital Accumulation Fund, Inc......................... 31
Principal Emerging Growth Fund, Inc.............................. 33
Principal Government Securities Fund, Inc........................ 35
Principal Growth Fund, Inc....................................... 36
Principal High Yield Fund, Inc................................... 38
Principal Money Market Fund, Inc................................. 41
Principal World Fund, Inc........................................ 42
Financial Highlights................................................. 46
Report of Independent Auditors....................................... 51
Shareholder Meeting Results............................................... 52
<PAGE>
December 31, 1997
<TABLE>
<CAPTION>
STATEMENTS OF ASSETS AND LIABILITIES
Principal Principal
Aggressive Asset Principal Principal
Growth Allocation Balanced Bond
Fund, Inc. Fund, Inc. Fund, Inc. Fund, Inc.
<S> <C> <C> <C> <C>
Investment in securities -- at cost..................... $124,172,552 $65,945,023 $119,061,278 $76,521,903
Assets
Investment in securities -- at value (Note 4)........... $143,304,561 $71,997,444 $132,685,999 $80,200,282
Cash ................................................... 5,050,523 3,762,667 20,001 20,000
Receivables:
Dividends and interest............................. 135,909 374,331 953,484 1,646,557
Investment securities sold......................... 2,408,712 1,280,981 -- --
Capital Stock sold................................. 428,642 68,595 260,405 91,203
Net receivable for foreign currency contract (Note 5)... -- -- -- --
Total Assets 151,328,347 77,484,018 133,919,889 81,958,042
Liabilities
Accrued expenses........................................ 110,513 60,737 70,569 37,374
Payables:
Investment securities purchased.................... 2,035,831 618,837 -- --
Capital Stock reacquired........................... -- -- 22,213 --
Total Liabilities 2,146,344 679,574 92,782 37,374
Net Assets Applicable to Outstanding Shares............. $149,182,003 $76,804,444 $133,827,107 $81,920,668
Net Assets Consist of:
Capital Stock........................................... $ 91,532 $ 64,344 $ 86,287 $ 69,560
Additional paid-in capital.............................. 127,241,260 69,715,693 118,221,875 78,328,162
Accumulated undistributed net investment income......... 10,859 26,450 95,943 52,223
Accumulated undistributed net realized
gain (loss) from:
Investment transactions ........................... 2,706,343 945,536 1,798,281 (207,656)
Foreign currency transactions...................... -- -- -- --
Net unrealized appreciation of investments.............. 19,132,009 6,052,421 13,624,721 3,678,379
Net unrealized (depreciation) on translation of
assets and liabilities in foreign currencies....... -- -- -- --
Total Net Assets $149,182,003 $76,804,444 $133,827,107 $81,920,668
Capital Stock (par value: $.01 a share):
Shares authorized....................................... 100,000,000 100,000,000 100,000,000 100,000,000
Shares issued and outstanding........................... 9,153,229 6,434,402 8,628,659 6,955,978
Net Asset Value Per Share............................... $16.30 $11.94 $15.51 $11.78
See accompanying notes.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
STATEMENTS OF ASSETS AND LIABILITIES
Principal Principal Principal
Capital Emerging Government Principal
Accumulation Growth Securities Growth
Fund, Inc. Fund, Inc. Fund, Inc. Fund, Inc.
<S> <C> <C> <C> <C>
Investment in securities -- at cost..................... $209,649,466 $166,346,096 $92,635,914 $126,951,745
Assets
Investment in securities -- at value (Note 4)........... $284,582,052 $224,204,235 $96,354,192 $167,787,447
Cash ................................................... 23,955 25,912 21,823 32,496
Receivables:
Dividends and interest............................. 399,666 106,732 846,518 124,080
Investment securities sold......................... -- -- -- --
Capital Stock sold................................. 370,617 416,069 93,232 288,936
Net receivable for foreign currency contract (Note 5)... -- -- -- --
Total Assets 285,376,290 224,752,948 97,315,765 168,232,959
Liabilities
Accrued expenses........................................ 113,521 123,304 44,319 72,557
Payables:
Investment securities purchased.................... -- -- 2,945,000 --
Capital Stock reacquired........................... 31,560 5 3,986 9
Total Liabilities 145,081 123,309 2,993,305 72,566
Net Assets Applicable to Outstanding Shares............. $285,231,209 $224,629,639 $94,322,460 $168,160,393
Net Assets Consist of:
Capital Stock........................................... $ 82,422 $ 63,332 $ 88,005 $ 97,693
Additional paid-in capital.............................. 209,228,930 166,644,654 90,833,882 127,276,961
Accumulated undistributed net investment income......... 76,658 26,884 53,935 3,164
Accumulated undistributed net realized
gain (loss) from:
Investment transactions ........................... 910,613 36,630 (371,640) (53,127)
Foreign currency transactions...................... -- -- -- --
Net unrealized appreciation of investments.............. 74,932,586 57,858,139 3,718,278 40,835,702
Net unrealized (depreciation) on translation of
assets and liabilities in foreign currencies....... -- -- -- --
Total Net Assets $285,231,209 $224,629,639 $94,322,460 $168,160,393
Capital Stock (par value: $.01 a share):
Shares authorized....................................... 100,000,000 100,000,000 100,000,000 100,000,000
Shares issued and outstanding........................... 8,242,195 6,333,224 8,800,476 9,769,331
Net Asset Value Per Share............................... $34.61 $35.47 $10.72 $17.21
See accompanying notes.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
STATEMENTS OF ASSETS AND LIABILITIES
Principal Principal
High Money Principal
Yield Market World
Fund, Inc. Fund, Inc. Fund, Inc.
<S> <C> <C> <C>
Investment in securities -- at cost..................... $15,018,545 $47,444,285 $110,109,640
Assets
Investment in securities -- at value (Note 4)........... $15,452,959 $47,444,285 $124,912,216
Cash ................................................... 29,910 8,630 24,695
Receivables:
Dividends and interest............................. 357,306 228,497 251,280
Investment securities sold......................... -- -- 126,699
Capital Stock sold................................. 5,778 58,757 224,978
Net receivable for foreign currency contract (Note 5)... -- -- 31,656
Total Assets 15,845,953 47,740,169 125,571,524
Liabilities
Accrued expenses........................................ 9,170 25,500 119,244
Payables:
Investment securities purchased.................... -- 126,885 160,842
Capital Stock reacquired........................... -- 272,866 2,664
Total Liabilities 9,170 425,251 282,750
Net Assets Applicable to Outstanding Shares............. $15,836,783 $47,314,918 $125,288,774
Net Assets Consist of:
Capital Stock........................................... $ 17,796 $ 473,149 $ 90,166
Additional paid-in capital.............................. 16,101,145 46,841,769 110,091,448
Accumulated undistributed net investment income......... 13,326 -- 61,967
Accumulated undistributed net realized
gain (loss) from:
Investment transactions ........................... (729,898) -- 290,242
Foreign currency transactions...................... -- -- (46,872)
Net unrealized appreciation of investments.............. 434,414 -- 14,802,576
Net unrealized (depreciation) on translation of
assets and liabilities in foreign currencies....... -- -- (753)
Total Net Assets $15,836,783 $47,314,918 $125,288,774
Capital Stock (par value: $.01 a share):
Shares authorized....................................... 100,000,000 500,000,000 100,000,000
Shares issued and outstanding........................... 1,779,603 47,314,918 9,016,636
Net Asset Value Per Share............................... $8.90 $1.000 $13.90
See accompanying notes.
</TABLE>
<PAGE>
Year Ended December 31, 1997
<TABLE>
<CAPTION>
STATEMENTS OF OPERATIONS
Principal Principal
Aggressive Asset Principal Principal
Growth Allocation Balanced Bond
Fund, Inc. Fund, Inc. Fund, Inc. Fund, Inc.
Net Investment Income
Income:
<S> <C> <C> <C> <C>
Dividends.......................................... $ 1,089,953 $ 1,031,755 $ 1,352,216 $ --
Withholding tax on foreign dividends............... -- -- -- --
Interest........................................... 186,886 1,407,596 2,985,729 5,296,081
Total Income 1,276,839 2,439,351 4,337,945 5,296,081
Expenses:
Management and investment advisory
fees (Note 3).................................. 907,800 566,727 665,902 335,818
Custodian fees..................................... 14,072 54,388 3,398 2,843
Directors' fees.................................... 7,852 7,805 7,781 7,852
Other.............................................. 12,800 3,502 7,916 5,118
Total Net Expenses 942,524 632,422 684,997 374,631
Net Investment Income 334,315 1,806,929 3,652,948 4,921,450
Net Realized and Unrealized Gain (Loss) on
Investments and Foreign Currencies
Net realized gain (loss) from:
Investment transactions............................ 18,939,200 7,276,506 9,950,708 63,897
Foreign currency transactions...................... -- -- -- --
Change in unrealized appreciation/depreciation of:
Investments ....................................... 11,334,210 2,460,767 4,838,411 2,497,226
Translation of assets and liabilities in
foreign currencies............................ -- -- -- --
Net Realized and Unrealized Gain (Loss) on
Investments and Foreign Currencies 30,273,410 9,737,273 14,789,119 2,561,123
Net Increase in Net Assets
Resulting from Operations $30,607,725 $11,544,202 $18,442,067 $7,482,573
See accompanying notes.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
STATEMENTS OF OPERATIONS
Principal Principal Principal
Capital Emerging Government Principal
Accumulation Growth Securities Growth
Fund, Inc. Fund, Inc. Fund, Inc. Fund, Inc.
Net Investment Income
Income:
<S> <C> <C> <C> <C>
Dividends.......................................... $ 5,969,682 $ 1,193,912 $ -- $ 1,389,293
Withholding tax on foreign dividends............... -- -- -- --
Interest........................................... 376,777 1,428,479 5,884,916 1,071,395
Total Income 6,346,459 2,622,391 5,884,916 2,460,688
Expenses:
Management and investment advisory
fees (Note 3).................................. 1,124,855 1,145,372 426,977 650,659
Custodian fees..................................... 3,253 5,647 4,624 5,403
Directors' fees.................................... 7,852 7,852 7,873 7,831
Other.............................................. 15,442 12,501 7,530 9,206
Total Net Expenses 1,151,402 1,171,372 447,004 673,099
Net Investment Income 5,195,057 1,451,019 5,437,912 1,787,589
Net Realized and Unrealized Gain (Loss) on
Investments and Foreign Currencies
Net realized gain (loss) from:
Investment transactions............................ 13,829,214 4,081,051 245,732 952,935
Foreign currency transactions...................... -- -- -- --
Change in unrealized appreciation/depreciation of:
Investments ....................................... 42,661,757 30,028,222 2,856,039 28,003,238
Translation of assets and liabilities in
foreign currencies............................ -- -- -- --
Net Realized and Unrealized Gain (Loss) on
Investments and Foreign Currencies 56,490,971 34,109,273 3,101,771 28,956,173
Net Increase in Net Assets
Resulting from Operations $61,686,028 $35,560,292 $8,539,683 $30,743,762
See accompanying notes.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
STATEMENTS OF OPERATIONS
Principal Principal
High Money Principal
Yield Market World
Fund, Inc. Fund, Inc. Fund, Inc.
Net Investment Income
Income:
<S> <C> <C> <C>
Dividends.......................................... $ -- $ -- $2,672,045
Withholding tax on foreign dividends............... -- -- (293,400)
Interest........................................... 1,344,159 2,544,059 507,025
Total Income 1,344,159 2,544,059 2,885,670
Expenses:
Management and investment advisory
fees (Note 3).................................. 87,845 224,424 768,332
Custodian fees..................................... 2,794 8,790 111,651
Directors' fees.................................... 7,830 7,365 7,811
Other.............................................. 967 4,375 7,269
Total Net Expenses 99,436 244,954 895,063
Net Investment Income 1,244,723 2,299,105 1,990,607
Net Realized and Unrealized Gain (Loss) on
Investments and Foreign Currencies
Net realized gain (loss) from:
Investment transactions............................ 265,486 -- 3,794,896
Foreign currency transactions...................... -- -- (46,872)
Change in unrealized appreciation/depreciation of:
Investments ....................................... (25,873) -- 3,040,783
Translation of assets and liabilities in
foreign currencies............................ -- -- (1,727)
Net Realized and Unrealized Gain (Loss) on
Investments and Foreign Currencies 239,613 -- 6,787,080
Net Increase in Net Assets
Resulting from Operations $1,484,336 $2,299,105 $8,777,687
See accompanying notes.
</TABLE>
<PAGE>
Years Ended December 31
<TABLE>
<CAPTION>
STATEMENTS OF CHANGES IN NET ASSETS
Principal Principal
Aggressive Growth Asset Allocation
Fund, Inc. Fund, Inc.
1997 1996 1997 1996
Operations
<S> <C> <C> <C> <C>
Net investment income................................................... $ 334,315 $ 647,024 $ 1,806,929 $ 1,836,334
Net realized gain from investment transactions.......................... 18,939,200 10,016,661 7,276,506 4,149,766
Change in unrealized appreciation/depreciation
of investments ..................................................... 11,334,210 5,099,753 2,460,767 715,006
Net Increase in Net Assets
Resulting from Operations 30,607,725 15,763,438 11,544,202 6,701,106
Dividends and Distributions to Shareholders
From net investment income.............................................. (323,456) (642,821) (1,780,479) (1,837,566)
From net realized gain on investments .................................. (19,132,644) (8,672,973) (7,456,569) (3,447,188)
(19,456,100) (9,315,794) (9,237,048) (5,284,754)
Capital Share Transactions (Note 6)
Shares sold............................................................. 52,190,051 54,678,368 13,556,305 20,370,526
Shares issued in reinvestment of dividends
and distributions................................................... 18,759,779 7,733,190 5,515,569 2,730,827
Shares redeemed......................................................... (23,025,001) (12,396,594) (6,205,722) (3,960,605)
Net Increase in Net Assets from
Capital Share Transactions 47,924,829 50,014,964 12,866,152 19,140,748
Total Increase 59,076,454 56,462,608 15,173,306 20,557,100
Net Assets
Beginning of year....................................................... 90,105,549 33,642,941 61,631,138 41,074,038
End of year (including undistributed net
investment income as set forth below)............................... $149,182,003 $90,105,549 $76,804,444 $61,631,138
Undistributed Net Investment Income..................................... $ 10,859 $ 4,793 $ 26,450 $ 18,594
See accompanying notes.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
STATEMENTS OF CHANGES IN NET ASSETS
Principal Principal
Balanced Bond
Fund, Inc. Fund, Inc.
1997 1996 1997 1996
Operations
<S> <C> <C> <C> <C>
Net investment income................................................... $ 3,652,948 $ 2,416,667 $ 4,921,450 $ 3,648,701
Net realized gain from investment transactions.......................... 9,950,708 4,291,386 63,897 24,994
Change in unrealized appreciation/depreciation
of investments ..................................................... 4,838,411 3,030,866 2,497,226 (1,454,206)
Net Increase in Net Assets
Resulting from Operations 18,442,067 9,738,919 7,482,573 2,219,489
Dividends and Distributions to Shareholders
From net investment income.............................................. (3,557,005) (2,404,163) (4,869,227) (3,612,230)
From net realized gain on investments .................................. (8,195,329) (5,078,241) -- --
(11,752,334) (7,482,404) (4,869,227) (3,612,230)
Capital Share Transactions (Note 6)
Shares sold............................................................. 43,172,395 51,227,505 21,482,406 38,212,107
Shares issued in reinvestment of dividends
and distributions................................................... 11,645,810 6,103,434 4,476,033 2,979,214
Shares redeemed......................................................... (20,838,500) (11,833,111) (10,037,678) (12,289,678)
Net Increase in Net Assets from
Capital Share Transactions 33,979,705 45,497,828 15,920,761 28,901,643
Total Increase 40,669,438 47,754,343 18,534,107 27,508,902
Net Assets
Beginning of year....................................................... 93,157,669 45,403,326 63,386,561 35,877,659
End of year (including undistributed net
investment income as set forth below)............................... $133,827,107 $93,157,669 $81,920,668 $63,386,561
Undistributed Net Investment Income..................................... $ 95,943 $ 23,644 $ 52,223 $ 36,471
See accompanying notes.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
STATEMENTS OF CHANGES IN NET ASSETS
Principal
Capital Accumulation
Fund, Inc.
1997 1996
Operations
<S> <C> <C>
Net investment income................................................... $ 5,195,057 $ 3,517,895
Net realized gain from investment transactions.......................... 13,829,214 26,628,772
Change in unrealized appreciation/depreciation
of investments ..................................................... 42,661,757 6,846,493
Net Increase in Net Assets
Resulting from Operations 61,686,028 36,993,160
Dividends and Distributions to Shareholders
From net investment income.............................................. (5,118,399) (3,541,996)
From net realized gain on investments .................................. (20,307,620) (22,300,640)
(25,426,019) (25,842,636)
Capital Share Transactions (Note 6)
Shares sold............................................................. 72,054,366 81,833,141
Shares issued in reinvestment of dividends
and distributions................................................... 25,282,153 25,659,931
Shares redeemed......................................................... (53,383,847) (49,264,748)
Net Increase in Net Assets from
Capital Share Transactions 43,952,672 58,228,324
Total Increase 80,212,681 69,378,848
Net Assets
Beginning of year....................................................... 205,018,528 135,639,680
End of year (including undistributed net
investment income as set forth below)............................... $285,231,209 $205,018,528
Undistributed Net Investment Income..................................... $ 76,658 $ 35,319
See accompanying notes.
</TABLE>
<PAGE>
Years Ended December 31
<TABLE>
<CAPTION>
STATEMENTS OF CHANGES IN NET ASSETS (Continued)
Principal Principal Principal
Emerging Growth Government Securities Growth
Fund, Inc. Fund, Inc. Fund, Inc.
1997 1996 1997 1996 1997 1996
Operations
<S> <C> <C> <C> <C> <C> <C>
Net investment income.......................... $ 1,451,019 $ 1,008,977 $ 5,437,912 $ 4,677,723 $ 1,787,589 $ 1,156,675
Net realized gain (loss) from:
Investment transactions.................... 4,081,051 1,954,051 245,732 98,466 952,935 242,899
Foreign currency transactions.............. -- -- -- -- -- --
Change in unrealized appreciation/depreciation
of investments and translation of assets
and liabilities in foreign currencies...... 30,028,222 15,461,368 2,856,039 (1,337,219) 28,003,238 7,550,339
Net Increase in Net Assets
Resulting from Operations 35,560,292 18,424,396 8,539,683 3,438,970 30,743,762 8,949,913
Dividends and Distributions to
Shareholders
From net investment income..................... (1,424,135) (1,000,544) (5,429,722) (4,644,240) (1,784,426) (1,148,740)
Tax return of capital distribution............. -- -- -- -- -- --
From net realized gain on investments
and foreign currency transactions.......... (4,499,721) (2,245,806) -- -- (955,318) (240,516)
Excess distribution of net realized gain
on investments............................. -- -- -- -- (50,744) --
(5,923,856) (3,246,350) (5,429,722) (4,644,240) (2,790,488) (1,389,256)
Capital Share Transactions (Note 6)
Shares sold.................................... 59,474,006 78,710,392 14,071,280 47,002,706 40,230,411 55,634,083
Shares issued in reinvestment of dividends
and distributions.......................... 5,886,597 3,177,572 5,369,352 4,589,974 2,766,751 1,373,493
Shares redeemed................................ (7,528,281) (18,425,569) (13,327,991) (15,367,021) (2,401,953) (7,663,844)
Net Increase in Net Assets from
Capital Shares Transactions 57,832,322 63,462,395 6,112,641 36,225,659 40,595,209 49,343,732
Total Increase 87,468,758 78,640,441 9,222,602 35,020,389 68,548,483 56,904,389
Net Assets
Beginning of year.............................. 137,160,881 58,520,440 85,099,858 50,079,469 99,611,910 42,707,521
End of year (including undistributed
net investment income as set forth below) $224,629,639 $137,160,881 $94,322,460 $85,099,858 $168,160,393 $99,611,910
Undistributed Net Investment Income........... $ 26,884 $ 13,018 $ 53,935 $ 45,745 $ 3,164 $ 7,936
See accompanying notes.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
STATEMENTS OF CHANGES IN NET ASSETS (Continued)
Principal Principal Principal
High Yield Money Market World
Fund, Inc. Fund, Inc. Fund, Inc.
1997 1996 1997 1996 1997 1996
Operations
<S> <C> <C> <C> <C> <C> <C>
Net investment income.......................... $ 1,244,723 $ 1,153,201 $ 2,299,105 $ 2,089,089 $ 1,990,607 $ 1,145,766
Net realized gain (loss) from:
Investment transactions.................... 265,486 210,672 -- -- 3,794,896 875,641
Foreign currency transactions.............. -- -- -- -- (46,872) (9,568)
Change in unrealized appreciation/depreciation
of investments and translation of assets
and liabilities in foreign currencies...... (25,873) 218,620 -- -- 3,039,056 9,715,294
Net Increase in Net Assets
Resulting from Operations 1,484,336 1,582,493 2,299,105 2,089,089 8,777,687 11,727,133
Dividends and Distributions to
Shareholders
From net investment income..................... (1,242,776) (1,116,648) (2,299,105) (2,089,089) (1,943,735) (1,149,902)
Tax return of capital distribution............. -- -- -- -- (146,989) --
From net realized gain on investments
and foreign currency transactions.......... -- -- -- -- (3,741,391) (750,235)
Excess distribution of net realized gain
on investments............................. -- -- -- -- -- --
(1,242,776) (1,116,648) (2,299,105) (2,089,089) (5,832,115) (1,900,137)
Capital Share Transactions (Note 6)
Shares sold.................................... 986,023 437,560 70,744,074 119,544,896 47,871,924 38,889,383
Shares issued in reinvestment of dividends
and distributions.......................... 1,242,776 1,116,648 2,250,232 1,914,643 5,772,912 1,849,921
Shares redeemed................................ (373,919) (109,643) (71,923,637) (107,885,209) (2,983,649) (9,449,905)
Net Increase in Net Assets from
Capital Shares Transactions 1,854,880 1,444,565 1,070,669 13,574,330 50,661,187 31,289,399
Total Increase 2,096,440 1,910,410 1,070,669 13,574,330 53,606,759 41,116,395
Net Assets
Beginning of year.............................. 13,740,343 11,829,933 46,244,249 32,669,919 71,682,015 30,565,620
End of year (including undistributed
net investment income as set forth below) $15,836,783 $13,740,343 $47,314,918 $ 46,244,249 $125,288,774 $71,682,015
Undistributed Net Investment Income........... $ 13,326 $ 11,449 $ -- $ -- $ 61,967 $ 24,004
See accompanying notes.
</TABLE>
<PAGE>
December 31, 1997
NOTES TO FINANCIAL STATEMENTS
Principal Aggressive Growth Fund, Inc.
Principal Asset Allocation Fund, Inc.
Principal Balanced Fund, Inc.
Principal Bond Fund, Inc.
Principal Capital Accumulation Fund, Inc.
Principal Emerging Growth Fund, Inc.
Principal Government Securities Fund, Inc.
Principal Growth Fund, Inc.
Principal High Yield Fund, Inc.
Principal Money Market Fund, Inc.
Principal World Fund, Inc.
Note 1 -- Significant Accounting Policies
Principal Aggressive Growth Fund, Inc., Principal Asset Allocation Fund, Inc.,
Principal Balanced Fund, Inc., Principal Bond Fund, Inc., Principal Capital
Accumulation Fund, Inc., Principal Emerging Growth Fund, Inc., Principal
Government Securities Fund, Inc., Principal Growth Fund, Inc., Principal High
Yield Fund, Inc., Principal Money Market Fund, Inc. and Principal World Fund,
Inc. (the "Funds") are registered under the Investment Company Act of 1940, as
amended, as open-end diversified management investment companies and operate in
the mutual fund industry.
The Funds (with the exception of Principal Money Market Fund, Inc.) value
securities for which market quotations are readily available at market value,
which is determined using the last reported sale price or, if no sales are
reported, as is regularly the case for some securities traded over-the-counter,
the last reported bid price. When reliable market quotations are not considered
to be readily available, which may be the case, for example, with respect to
certain debt securities, preferred stocks and foreign securities, the
investments are valued by using market quotations, prices provided by market
makers or estimates of market values obtained from yield data and other factors
relating to instruments or securities with similar characteristics in accordance
with procedures established in good faith by each fund's Board of Directors.
Securities with remaining maturities of 60 days or less are valued at amortized
cost, which approximates market.
Generally, trading in foreign securities is substantially completed each day at
various times prior to the close of the New York Stock Exchange. The values of
such securities used in computing net asset value per share are usually
determined as of such times. Occasionally, events which affect the values of
such securities and foreign currency exchange rates may occur between the times
at which they are generally determined and the close of the New York Stock
Exchange and would therefore not be reflected in the computation of the Fund's
net asset value. If events materially affecting the value of such securities
occur during such period, then these securities are valued at their fair value
as determined in good faith by the Manager under procedures established and
regularly reviewed by the Board of Directors. To the extent the Fund invests in
foreign securities listed on foreign exchanges which trade on days on which the
Fund does not determine its net asset value, for example Saturdays and other
customary national U.S. holidays, the Fund's net asset value could be
significantly affected on days when shareholders have no access to the Fund.
Certain securities issued by companies in emerging market countries may have
more than one quoted valuation at any given point in time, sometimes referred to
as a "local" price and a "premium" price. The premium price is often a
negotiated price which may not consistently represent a price at which a
specific transaction can be effected. It is the policy of the Principal World
Fund to value such securities at prices at which it is expected those shares may
be sold, and the Manager or any sub-adviser is authorized to make such
determinations subject to such oversight by the Fund's Board of Directors as may
from time to time be necessary.
Principal Money Market Fund, Inc. values its securities at amortized cost, which
approximates market. Under the amortized cost method, a security is valued by
applying a constant amortization to maturity of the difference between the
principal amount due at maturity and the cost of the security to the fund.
With respect to Principal World Fund, Inc., the value of foreign securities in
foreign currency amounts is expressed in U.S. dollars at the closing daily rate
of exchange. The identified cost of the portfolio holdings is translated at
approximate rates prevailing when acquired. Income and expense amounts are
translated at approximate rates prevailing when received or paid, with daily
accruals of such amounts reported at approximate rates prevailing at the date of
valuation. Since the carrying amount of the foreign securities is determined
based on the exchange rate and market values at the close of the period, it is
not practicable to isolate that portion of the results of operations arising as
a result of changes in the foreign exchange rates from the fluctuations arising
from changes in the market prices of securities during the period.
The Funds record investment transactions generally one day after the trade date,
except for short-term investment transactions which are generally recorded on
the trade date. The identified cost basis has been used in determining the net
realized gain or loss from investment transactions and unrealized appreciation
or depreciation of investments. The Funds record dividend income on the
ex-dividend date, except dividend income from foreign securities whereby the
ex-dividend date has passed; such dividends are recorded as soon as the Funds
are informed of the ex-dividend date. Interest income is recognized on an
accrual basis.
With respect to Principal World Fund, Inc., reported net realized foreign
exchange gains or losses arise from sales of foreign currencies, currency gains
or losses realized between the trade and settlement dates on security
transactions, and the difference between the amount of dividends and foreign
withholding taxes recorded on the fund's books and the U.S. dollar equivalent of
the amounts actually received or paid. Net unrealized appreciation on
translation of assets and liabilities in foreign currencies arise from changes
in the exchange rate relating to assets and liabilities, other than investments
in securities, purchased and held in non-U.S. denominated currencies.
The Funds (with the exception of Principal Capital Accumulation Fund, Inc.,
Principal Government Securities Fund, Inc. and Principal Money Market Fund,
Inc.) may, pursuant to an exemptive order issued by the Securities and Exchange
Commission, transfer uninvested funds into a joint trading account. The order
permits the participating Funds' cash balances to be deposited into a single
joint account along with the cash of other registered investment companies
managed by Princor Management Corporation. These balances may be invested in one
or more short-term instruments.
With respect to Principal Money Market Fund, Inc., all net investment income and
any realized gains and losses from investment transactions are declared as
dividends daily to shareholders of record as of that day. Dividends and
distributions to shareholders of the other funds are recorded on the ex-dividend
date.
Dividends and distributions to shareholders from net investment income and net
realized gain from investments and foreign currency transactions are determined
in accordance with federal income tax regulations, which may differ from
generally accepted accounting principles. Permanent book and tax basis
differences are reclassified within the capital accounts based on their federal
tax-basis treatment; temporary differences do not require reclassification.
Reclassifications made for Principal World Fund, Inc. for the year ended
December 31, 1997 aggregated $137,926. Other reclassifications made for the
years ended December 31, 1997 and 1996 were not material. Dividends and
distributions which exceed net investment income and net realized capital gains
for financial reporting purposes but not for tax purposes are reported as
dividends in excess of net investment income or distributions in excess of net
realized capital gains. To the extent distributions exceed current and
accumulated earnings and profits for federal income tax purposes, they are
reported as distributions of paid-in-capital.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Note 2 -- Federal Income Taxes
No provision for federal income taxes is considered necessary because each fund
is qualified as a "regulated investment company" under the Internal Revenue Code
and intends to distribute each year, substantially all of its net investment
income and realized capital gains to shareholders. The cost of investments is
approximately the same for both federal income tax and financial reporting
purposes.
At December 31, 1997, the following funds had approximate net capital loss
carryforwards which expire as follows:
<TABLE>
<CAPTION>
Principal Bond Principal Government Principal High Yield
Year Ending December 31 Fund, Inc. Securities Fund, Inc. Fund, Inc.
- ----------------------- -------------- --------------------- --------------------
<S> <C> <C> <C> <C>
1998 $ -- $ -- $184,000
1999 -- -- 123,000
2000 -- -- 14,000
2001 -- -- 246,000
2002 -- 331,000 114,000
2003 -- 41,000 49,000
2004 128,000 -- --
$128,000 $372,000 $730,000
</TABLE>
Note 3 -- Management Agreement and Transactions With Affiliates
The Funds have agreed to pay investment advisory and management fees to Princor
Management Corporation (wholly owned by Princor Financial Services Corporation,
a subsidiary of Principal Mutual Life Insurance Company) (the "Manager"),
computed at an annual percentage rate of each fund's average daily net assets.
The annual rate used in this calculation for the Funds is as follows:
<TABLE>
<CAPTION>
Net Assets Value of Funds
(in millions)
--------------------------------------------------------------------------
First Next Next Next Over
$100 $100 $100 $100 $400
----- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Principal Aggressive Growth Fund, Inc. .80% .75% .70% .65% .60%
Principal Asset Allocation Fund, Inc. .80 .75 .70 .65 .60
Principal Balanced Fund, Inc. .60 .55 .50 .45 .40
Principal Bond Fund, Inc. .50 .45 .40 .35 .30
Principal Capital Accumulation Fund, Inc. .50 .45 .40 .35 .30
Principal Emerging Growth Fund, Inc. .65 .60 .55 .50 .45
Principal Government Securities Fund, Inc. .50 .45 .40 .35 .30
Principal Growth Fund, Inc. .50 .45 .40 .35 .30
Principal High Yield Fund, Inc. .60 .55 .50 .45 .40
Principal Money Market Fund, Inc. .50 .45 .40 .35 .30
Principal World Fund, Inc. .75 .70 .65 .60 .55
</TABLE>
No brokerage commissions were paid by the Funds to Princor Financial Services
Corporation during the years ended December 31, 1997 and 1996. Brokerage
commissions were paid to other affiliates by the following funds:
Year Ended Year Ended
December 31, December 31,
1997 1996
------------ ------------
Principal Asset Allocation Fund, Inc. $ 2,974 $ --
Principal Balanced Fund, Inc. 18,197 1,300
Principal Capital Accumulation Fund, Inc. 9,465 10,262
Principal Emerging Growth Fund, Inc. 2,250 --
Principal Growth Fund, Inc. 5,997 438
Principal World Fund, Inc. 10,411 3,176
All of the shares of the Funds are owned by Principal Mutual Life Insurance
Company and/or one or more Separate Accounts sponsored by Principal Mutual Life
Insurance Company.
Note 4 -- Investment Transactions
For the year ended December 31, 1997, the cost of investment securities
purchased and proceeds from investment securities sold (not including short-term
investments and U.S. government securities) by the Funds were as follows:
Purchases Sales
------------- ------------
Principal Aggressive Growth Fund, Inc. $216,787,226 $189,993,786
Principal Asset Allocation Fund, Inc. 73,407,871 77,857,783
Principal Balanced Fund, Inc. 85,446,683 28,414,679
Principal Bond Fund, Inc. 20,577,780 4,238,825
Principal Capital Accumulation Fund, Inc. 75,212,875 55,085,306
Principal Emerging Growth Fund, Inc. 59,970,761 12,273,018
Principal Government Securities Fund, Inc. 9,303,782 3,934,759
Principal Growth Fund, Inc. 39,063,715 17,612,561
Principal High Yield Fund, Inc. 6,592,468 4,402,637
Principal World Fund, Inc. 59,718,924 21,472,974
At December 31, 1997, net unrealized appreciation of investments by the Funds
was composed of the following:
<TABLE>
<CAPTION>
Gross Unrealized Net Unrealized
------------------------------ Appreciation
Appreciation (Depreciation) of Investments
------------ -------------- --------------
<S> <C> <C> <C>
Principal Aggressive Growth Fund, Inc. $ 20,949,322 $ (1,817,313) $19,132,009
Principal Asset Allocation Fund, Inc. 9,018,224 (2,965,803) 6,052,421
Principal Balanced Fund, Inc. 16,337,268 (2,712,547) 13,624,721
Principal Bond Fund, Inc. 4,207,940 (529,561) 3,678,379
Principal Capital Accumulation Fund, Inc. 78,521,075 (3,588,489) 74,932,586
Principal Emerging Growth Fund, Inc. 71,697,059 (13,838,920) 57,858,139
Principal Government Securities Fund, Inc. 3,782,378 (64,100) 3,718,278
Principal Growth Fund, Inc. 43,292,099 (2,456,397) 40,835,702
Principal High Yield Fund, Inc. 641,825 (207,411) 434,414
Principal World Fund, Inc. 23,453,502 (8,650,926) 14,802,576
</TABLE>
Principal Government Securities Fund, Inc. may trade portfolio securities on a
"to-be-announced" (TBA) basis. In a TBA transaction, the fund commits to
purchase or sell securities for which all specific information is not known at
the time of the trade. Securities purchased on a TBA basis are not settled until
they are delivered to the fund, normally 15 to 30 days later. These transactions
are subject to market fluctuations and their current value is determined in the
same manner as for other portfolio securities. As of December 31, 1997, TBA
purchase commitments involved securities with a face amount of $3,000,000, cost
of $2,945,000 and market value of $2,963,730. Principal Government Securities
Fund, Inc. has set aside investment securities and other assets in excess of the
commitments to serve as collateral.
At December 31, 1997, the Funds held the following securities which were
purchased in a private placement transaction and may require registration in
order to effect a sale in the ordinary course of business.
<TABLE>
<CAPTION>
Value at Value as a
Date of Dec. 31, Percentage of
Security Description Acquisition Cost 1997 Net Assets
--------------------------------------- ----------- -------- --------- -------------
<S> <C> <C> <C> <C> <C>
Principal Asset BankAmerica Institute Series B Notes 8/27/97 $242,318 $ 257,982 .34%
Allocation Fund, Inc.
Fomento Economico Mexicano 5/31/96 12,620 33,271 .04
2/19/97 29,700 63,266 .08
2/21/97 24,025 49,527 .06
3/13/97 24,766 46,332 .06
Grupo Financiero Bancomer SA ADR 4/25/97 3,482 6,694 .01
4/29/97 16,576 30,783 .04
Israel Electric Corp. Senior Notes 12/11/96 249,525 258,783 .34
Lojas Arapua SA GDR 2/7/97 11,125 1,792 .00
2/14/97 16,087 2,365 .00
2/26/97 73,954 10,896 .02
Rossi Residencial SA GDR 7/16/97 47,110 18,091 .02
9/15/97 9,600 5,161 .01
Wellsford Real Properties, Inc. 6/2/97 161,471 244,953 .32
6/18/97 1,115 1,563 .00
1,031,459 1.34
Principal Bond John Hancock Mutual Life Insurance Co.
Fund, Inc. Surplus Notes 1/8/97 958,440 1,034,783 1.26
Principal Emerging Ciba-Geigy Corp. Exchangeable Subordinated
Growth Fund, Inc. Debentures 3/20/91 150,000 164,250 .07
Sierra On Line Convertible Subordinated
Debentures 8/17/94 100,375 489,913 .22
654,163 .29
</TABLE>
<TABLE>
<CAPTION>
Value at Value as a
Date of Dec. 31, Percentage of
Security Description Acquisition Cost 1997 Net Assets
--------------------------------------- ----------- -------- --------- -------------
<S> <C> <C> <C> <C> <C>
Principal High Yield Calpine Corp. Senior Notes 7/2/97 $199,271 $ 204,000 1.29%
Fund, Inc.
Flextronics International Ltd. 10/9/97 100,000 99,250 .63
Senior Subordinated Notes 10/14/97 100,625 99,250 .63
FWT, Inc. Senior Subordinated Notes 11/12/97 200,000 205,000 1.29
Indah Kiat Finance Mauritius Ltd.
Guaranteed Senior Notes 6/26/97 198,694 168,000 1.06
Integrated Health Services, Inc.
Senior Subordinated Notes 9/8/97 200,000 203,500 1.28
Paperboard Industries International, Inc.
Senior Notes 9/18/97 25,000 24,750 .16
Riviera Holdings Corp. First Mortgage Notes 8/8/97 98,770 99,250 .63
The DII Group Senior Subordinated Notes 9/16/97 50,250 49,000 .31
9/16/97 50,000 49,000 .31
Trico Marine Services Senior Notes, Series E 12/18/97 200,500 202,750 1.28
Zale Corp. Senior Notes 9/23/97 99,530 100,000 .63
1,503,750 9.50
Principal World Alfa SA Convertible Subordinated 9/25/95 398,000 572,000 .46
Fund, Inc. Debentures 11/20/96 329,254 429,000 .34
Fokus Bank 6/25/96 347,410 594,667 .47
Hyundai Motor Co. Ltd. GDR 9/3/96 307,688 41,875 .03
Kemira OY 12/9/96 314,077 245,892 .20
12/10/96 131,955 100,247 .08
12/11/96 241,385 183,473 .15
2/26/97 322,301 264,807 .21
4/10/97 294,742 264,807 .21
Voest-Alpine Stahl 10/30/95 280,007 354,158 .28
3/27/96 146,558 173,230 .14
6/25/96 256,094 296,415 .24
6/26/96 145,930 165,530 .13
3,686,102 2.94
</TABLE>
The Fund's investments are with various issuers in various industries. The
Schedules of Investments contained herein summarize concentrations of credit
risk by issuer and industry.
Note 5 -- Foreign Currency Contracts
At December 31, 1997, Principal World Fund, Inc. owned a forward contract to
sell Hong Kong Dollars ("HKD") at a specified future date at a fixed exchange
rate. The forward foreign currency contract is valued at the forward rate, and
is marked-to-market daily. The change in market value is recorded by the fund as
an unrealized gain or loss. When the contract is closed, the fund will record a
realized gain or loss equal to the difference between the value of the contract
at the time it was opened and the value at the time it was closed.
<TABLE>
<CAPTION>
Value at
Contracts In Exchange Settlement December 31, Net Unrealized
to Deliver For Date 1997 Appreciation
---------- ----------- ---------- ------------ --------------
<S> <C> <C> <C> <C> <C>
Principal World Fund, Inc. 7,950,000 HKD $1,000,000 4/30/98 $968,344 $31,656
</TABLE>
The use of forward foreign currency contracts does not eliminate fluctuations in
underlying prices of the fund's portfolio securities, but it does establish a
rate of exchange that can be achieved in the future. Although a forward foreign
currency contract limits the risk of loss due to a decline in the value of the
hedged currency, it also limits any potential gain that might result should the
value of the currency increase. In addition, the fund could be exposed to risks
if the counterparties to the contract are unable to meet the terms of their
contract.
Note 6 -- Capital Share Transactions
Transactions in Capital Stock by fund were as follows:
<TABLE>
<CAPTION>
Principal Aggressive Principal Asset Principal Balanced
Growth Fund, Inc. Allocation Fund, Inc. Fund, Inc.
-------------------- --------------------- ------------------
<S> <C> <C> <C>
Year Ended December 31, 1997:
Shares sold................................... 3,229,319 1,086,950 2,742,809
Shares issued in reinvestment of
dividends and distributions.................. 1,197,848 473,612 758,805
Shares redeemed............................... (1,478,619) (495,530) (1,325,111)
Net Increase 2,948,548 1,065,032 2,176,503
Year Ended December 31, 1996:
Shares sold................................... 3,918,263 1,770,239 3,602,550
Shares issued in reinvestment of
dividends and distributions.................. 547,658 239,060 424,022
Shares redeemed............................... (860,656) (337,801) (825,489)
Net Increase 3,605,265 1,671,498 3,201,083
</TABLE>
<TABLE>
<CAPTION>
Principal Principal Capital Principal Emerging
Bond Fund, Inc. Accumulation Fund, Inc. Growth Fund, Inc.
--------------- ----------------------- -------------------
Year Ended December 31, 1997:
<S> <C> <C> <C>
Shares sold................................... 1,818,413 2,210,809 1,770,659
Shares issued in reinvestment of
dividends and distributions.................. 380,615 777,056 172,918
Shares redeemed............................... (839,651) (1,615,306) (222,142)
Net Increase 1,359,377 1,372,559 1,721,435
Year Ended December 31, 1996:
Shares sold................................... 3,340,011 2,763,121 2,884,710
Shares issued in reinvestment of
dividends and distributions.................. 262,934 868,606 110,728
Shares redeemed............................... (1,065,373) (1,641,040) (693,851)
Net Increase 2,537,572 1,990,687 2,301,587
</TABLE>
<TABLE>
<CAPTION>
Principal Government Principal Growth Principal High
Securities Fund, Inc. Fund, Inc. Yield Fund, Inc.
--------------------- ---------------- ----------------
Year Ended December 31, 1997:
<S> <C> <C> <C>
Shares sold................................... 1,306,805 2,535,060 105,429
Shares issued in reinvestment of
dividends and distributions.................. 501,475 163,713 139,336
Shares redeemed............................... (1,263,266) (151,784) (40,585)
Net Increase 545,014 2,546,989 204,180
Year Ended December 31, 1996:
Shares sold................................... 4,520,032 4,289,963 50,390
Shares issued in reinvestment of
dividends and distributions.................. 445,172 99,697 128,056
Shares redeemed............................... (1,457,956) (604,413) (12,523)
Net Increase 3,507,248 3,785,247 165,923
</TABLE>
<TABLE>
<CAPTION>
Principal Money Principal World
Market Fund, Inc. Fund, Inc.
----------------- ---------------
Year Ended December 31, 1997:
<S> <C> <C>
Shares sold................................... 70,744,074 3,295,232
Shares issued in reinvestment of
dividends and distributions.................. 2,250,232 422,856
Shares redeemed............................... (71,923,637) (205,446)
Net Increase 1,070,669 3,512,642
Year Ended December 31, 1996:
Shares sold................................... 119,544,896 3,308,501
Shares issued in reinvestment of
dividends and distributions.................. 1,914,643 144,196
Shares redeemed............................... (107,885,209) (800,955)
Net Increase 13,574,330 2,651,742
</TABLE>
Note 7 -- Line of Credit
The Funds participate with other funds and portfolios managed by Princor
Management Corporation in an unsecured joint line of credit with a bank, which
allows them to borrow up to $40,000,000 collectively. Borrowings are made solely
to facilitate the handling of unusual and/or unanticipated short-term cash
requirements. Interest is charged to each participant, based on its borrowings,
at a rate equal to the Fed Funds Rate plus .50%. Additionally, a commitment fee
is charged at the annual rate of .08% on the average unused portion of the line
of credit. The commitment fee is allocated among the participating funds and
portfolios in proportion to their average net assets during each quarter. At
December 31, 1997, the Funds had no outstanding borrowings under the line of
credit.
Note 8 -- Year 2000 Problem (unaudited)
Like other mutual funds, financial and business organizations and individuals
around the world, the Funds could be adversely affected if the computer system
used by the Manager and other service providers do not properly process and
calculate date-related information and data from and after January 1, 2000. This
is commonly known as the "Year 2000 Problem." The Manager is taking steps that
it believes are reasonably designed to address the Year 2000 Problem with
respect to computer systems that it uses and to obtain reasonable assurances
that comparable steps are being taken by each Fund's other major service
providers. At this time, however there can be no assurance that these steps will
be sufficient to avoid any adverse impact to the funds.
<PAGE>
December 31, 1997
SCHEDULES OF INVESTMENTS
PRINCIPAL AGGRESSIVE GROWTH FUND, INC.
Shares
Held Value
Common Stocks (96.06%)
Aerospace Industries (0.72%)
Thiokol Corp. 13,200 $ 1,072,500
Air Transportation, Scheduled (2.07%)
AMR Corp. 10,500(a) 1,349,250
US Air Group, Inc. 27,900(a) 1,743,750
3,093,000
Aircraft & Parts (19.83%)
Avteam, Inc. 24,700(a) 219,212
Gulfstream Aerospace Corp. 91,300(a) 2,670,525
Lockheed Martin Corp. 108,500 10,687,250
Northrop Gruman Corp. 1,500 172,500
Textron, Inc. 26,900 1,681,250
United Technologies Corp. 194,300 14,147,469
29,578,206
Auto & Home Supply Stores (0.25%)
O'Reilly Automotive, Inc. 14,300(a) 375,375
Beverages (1.14%)
Coca-Cola Enterprises 47,700 1,696,331
Cigars (0.51%)
Consolidated Cigar Holdings, Inc. 27,500(a) 757,969
Cogeneration - Small Power
Producer (0.53%)
AES Corp. 16,900(a) 787,963
Commercial Banks (3.40%)
Bankamerica Corp. 9,800 715,400
Chase Manhattan Corp. 11,512 1,260,564
Citicorp 10,700 1,352,881
MBNA Corp. 16,400 447,925
Wells Fargo & Co. 3,833 1,301,064
5,077,834
Communications Equipment (1.14%)
ADC Telecommunications, Inc. 9,700(a) 404,975
Associated Group, Inc., Class B 11,400(a) 332,025
Lucent Technologies 4,600 367,425
Tellabs, Inc. 11,400(a) 602,775
1,707,200
Computer & Data Processing
Services (3.16%)
America Online, Inc. 8,300(a) 740,256
Compuware Corp. 6,800(a) 217,600
GTECH Holdings Corp. 37,900(a) 1,210,431
Microsoft Corp. 17,500(a) 2,261,875
Oracle Systems Corp. 12,700(a) 283,369
4,713,531
Computer & Office Equipment (3.97%)
Cisco Systems 32,250(a) 1,797,938
Compaq Computer Corp. 7,500 423,281
Dell Computer Corp. 8,200(a) 688,800
Hewlett-Packard Co. 2,600 162,500
International Business
Machines Corp. 14,700 1,537,069
International Game Technology 52,200 1,318,050
5,927,638
Consumer Products (3.70%)
Philip Morris Cos., Inc. 101,700 $ 4,608,281
RJR Nabisco Holdings Corp. 24,300 911,250
5,519,531
Drugs (2.10%)
American Home Products Corp. 5,700 436,050
Lilly (Eli) & Co. 11,700 814,612
Merck & Co., Inc. 12,600 1,338,750
Pfizer, Inc. 7,200 536,850
3,126,262
Eating & Drinking Places (2.34%)
Brinker International, Inc. 60,400 966,400
Cracker Barrel Old Country Store, Inc.75,700 2,526,488
3,492,888
Electronic Components &
Accessories (1.95%)
Intel Corp. 12,000 843,000
Linear Technology Corp. 18,600 1,071,825
Maxim Integrated Products, Inc. 28,600(a) 986,700
2,901,525
Engines & Turbines (1.41%)
CBS Corp. 71,600 2,107,725
Federal & Federally Sponsored
Credit (2.57%)
Federal Home Loan Mortgage 7,300 306,144
SLM Holding Corp. 25,400 3,533,775
3,839,919
Finance Services (0.23%)
Cincinnati Financial Corp. 2,400 337,800
Fire, Marine, & Casualty
Insurance (9.61%)
American Bankers Insurance Group 47,500 2,182,031
Berkshire Hathaway, Inc. 77(a) 3,542,000
CNA Financial Corp. 9,400(a) 1,200,850
Loews Corp. 44,300 4,701,338
NAC RE Corp. 9,000 439,313
Progressive Corp. 6,100 731,237
Travelers, Inc. 28,500 1,535,437
14,332,206
Grain Mill Products (1.45%)
Kellogg Co. 16,000 794,000
Ralston-Ralston Purina Group 14,800 1,375,475
2,169,475
Household Audio & Video
Equipment (0.53%)
Time Warner, Inc. 12,700 787,400
Iron & Steel Foundries (0.42%)
Howmet International, Inc. 41,800(a) 624,388
Life Insurance (0.87%)
Hartford Life, Inc. 12,300 557,344
Nationwide Financial Services 20,400 736,950
1,294,294
Lumber & Other Building
Materials (1.21%)
Home Depot, Inc. 30,650 1,804,519
Miscellaneous Equipment Rental &
Leasing (0.87%)
Avis Rent A Car, Inc. 40,700(a) 1,299,856
Miscellaneous Investing (7.70%)
Cendant Corp. 334,205(a) $ 11,488,281
Motion Picture Production &
Services (0.63%)
Viacom, Inc. 22,800(a) 944,775
Motor Vehicles & Equipment (3.64%)
Borg Warner Automotive, Inc. 28,000 1,456,000
General Motors Corp. 24,200 1,467,125
ITT Industries, Inc. 79,800 2,503,725
5,426,850
Newspapers (0.52%)
Gannett Co. 12,500 772,656
Oil & Gas Field Services (1.36%)
Diamond Offshore Drilling 26,600 1,280,125
Schlumberger Ltd. 9,300 748,650
2,028,775
Periodicals (1.67%)
Primedia, Inc. 197,300(a) 2,490,912
Personal Credit Institutions (1.45%)
American Express Co. 24,300 2,168,775
Photographic Equipment &
Supplies (1.07%)
Xerox Corp. 21,700 1,601,731
Plastic Materials & Synthetics (0.43%)
DuPont (E.I.) De Nemour 10,700 642,669
Professional & Commercial
Equipment (0.58%)
Ingram Micro, Inc. 29,800(a) 867,925
Radio & Television Broadcasting (3.62%)
Clear Channel Communications 68,000(a) 5,401,750
Search & Navigation Equipment (1.65%)
Litton Industries, Inc. 42,700(a) 2,455,250
Raytheon Co. 1 15
2,455,265
Security Brokers & Dealers (1.26%)
Freidman Billings Ramsey Group, Inc. 32,700(a) 586,556
Merrill Lynch & Co., Inc. 17,700 1,290,994
1,877,550
Surety Insurance (3.21%)
Ace Ltd. 22,600 2,180,900
CMAC Investment Corp. 17,700 1,068,637
ESG RE Ltd. 3,600(a) 84,600
MGIC Investment Corp. 21,800 1,449,700
4,783,837
Telephone Communications (1.29%)
Associated Group, Inc., Class A 13,400(a) 396,975
AT&T Corp. 11,900 728,875
Worldcom, Inc. 26,500(a) 801,625
1,927,475
Total Portfolio Investments (96.06%) 143,304,561
Cash and receivables, net of liabilities (3.94%) $ 5,877,442
Total Net Assets (100.00%) $149,182,003
(a) Non-income producing security - No dividend paid during the past twelve
months.
<PAGE>
PRINCIPAL ASSET ALLOCATION FUND, INC.
Shares
Held Value
Common Stocks (66.39%)
Adverstising (0.03%)
Lamar Advertising Co. 600(a) $ 23,850
Aerospace Industries (0.19%)
Thiokol Corp. 1,800 146,250
Air Transportation, Scheduled (1.01%)
AMR Corp. 700(a) 89,950
British Airways PLC ADR 1,400 131,163
Cathay Pacific Airways ADR 8,500 34,556
Continental Airlines, Inc. 1,900(a) 91,437
KLM Royal Dutch Airlines 7,471 282,030
US Air Group, Inc. 2,400(a) 150,000
779,136
Aircraft & Parts (7.47%)
Avteam, Inc. 4,000(a) 35,500
Gulfstream Aerospace Corp. 15,600(a) 456,300
Lockheed Martin Corp. 20,700 2,038,950
United Technologies Corp. 44,200 3,218,312
5,749,062
Auto & Home Supply Stores (0.01%)
O'Reilly Automotive, Inc. 300(a) 7,875
Automotive Rentals, No Drivers (0.12%)
Ryder Systems, Inc. 2,900 94,975
Beverages (1.02%)
Bass PLC ADR 5,000 155,000
CIA Cervecerias Unidas ADR 3,010 88,419
Coca-Cola Enterprises 4,700 167,144
Fomento Economico Mexicano 24,085(b) 192,396
Kirin Brewery 2,300 168,762
Panamerican Beverages ADR 416 13,572
785,293
Blast Furnace & Basic Steel
Products (0.14%)
Australian National Industries 8,960 32,926
British Steel PLC ADR 3,500 75,031
107,957
Business Credit Institutions (0.01%)
Finova Group, Inc. 200 9,938
Cement, Hydraulic (0.26%)
Brasileiros SA GDR 6,175(a) 198,758
Chemicals & Allied Products (0.82%)
Asahi Chemical Industry Co. ADR 4,100 $ 139,377
Bayer AG Sponsored ADR 10,735 401,209
Mitsubishi Chemical Corp. ADR 6,100 87,731
628,317
Combination Utility Services (0.34%)
CIA Energetica de Minas Cemig ADR 2,615 113,619
NIPSCO Industries, Inc. 3,050 150,784
264,403
Commercial Banks (4.77%)
ABN-AMRO Holdings NV ADR 30,429 593,365
Allied Irish Banks ADR 2,900 168,200
Banc One Corp. 1,600 86,900
Banco Central ADR 6,500 156,000
Banco Galicia Y Buenos ADR 1,250 32,186
Banco Rio de la Plata ADR 3,140(a) 43,960
Banco Wiese Ltd. ADR 3,545 17,725
BankAmerica Corp. 1,800 131,400
BankBoston Corp. 1,300 122,119
Banker's Trust 1,450 163,034
Barclays PLC ADR 5,571 608,284
Brierly Investments Ltd. ADR 5,550 79,276
Chase Manhattan 1,240 135,780
Commerzbank AG ADR 3,600 141,754
Compass Bancshares, Inc. 100 4,375
First of America Bank Corp. 2,500 192,813
Fleet Financial Group, Inc. 900 67,444
HSBC Holdings ADR 600 147,904
Mellon Bank Corp. 2,400 145,500
Mercantile Bancorp, Inc. 200 12,300
National Westminster ADR 1,900 190,000
PNC Financial Corp. 2,400 136,950
Wells Fargo & Co. 400 135,775
Westpac Banking ADR 4,900 155,575
3,668,619
Commercial Printing (0.27%)
DAI Nippon Printing Co. 1,100 207,274
Communications Equipment (0.83%)
ADC Telecommunications, Inc. 1,200(a) 50,100
Advanced Fibre Communication 800(a) 23,300
Alcatel Alsthom ADR 4,700 118,969
Associated Group, Inc., Class B 1,300(a) 37,862
Ciena Corp. 600(a) 36,675
Excel Switching Corp. 200(a) 3,575
Harris Corp. 3,100 142,212
Inter-Tel, Inc. 200 3,875
Matsushita Electrical ADR 800 121,600
Premisys Communication, Inc. 400(a) 10,450
Tekelec, Inc. 200(a) 6,100
Tellabs, Inc. 1,500(a) 79,313
634,031
Communications Services (0.05%)
China Telecommunications ADR 200(a) 6,713
Globalstar Telecommunication Ltd. 600(a) 29,475
36,188
Computer & Data Processing
Services (1.06%)
America Online, Inc. 400(a) $ 35,675
Autodesk, Inc. 200 7,400
Bisys Group, Inc. 400(a) 13,300
Broderbund software, Inc. 400(a) 10,250
Cadence Design Systems, Inc. 400(a) 9,800
Citrix Systems, Inc. 300(a) 22,800
Compuware Corp. 1,000(a) 32,000
Ecsoft Group PLC ADR 300(a) 5,400
Electronic Arts 400(a) 15,125
FlexiInternational Software 900(a) 13,950
GTECH Holdings Corp. 700 22,356
ICG Communications, Inc. 200(a) 5,450
International Network Services 400(a) 9,250
Intersolv, Inc. 100(a) 2,025
Learnings Co., Inc. 200(a) 3,212
Medquist, Inc. 400(a) 13,900
Metacreations Corp. 300(a) 3,338
Microsoft Corp. 3,100(a) 400,675
Peoplesoft, Inc. 1,700(a) 66,300
Progress Software Corp. 500(a) 10,813
PSW Technologies, Inc. 200(a) 2,900
Quadramed Corp. 500(a) 13,750
Sungard Data Systems, Inc. 1,400(a) 43,400
Sybase, Inc. 700(a) 9,319
Symantec Corp. 300(a) 6,581
USCS International, Inc. 1,500(a) 25,500
Yahoo, Inc. 100(a) 6,925
811,394
Computer & Office Equipment (1.00%)
Ascend Communications 1,200(a) 29,400
Fore Systems, Inc. 1,600(a) 24,400
Hitachi Ltd. ADR 2,900 200,644
International Business Machines Corp. 3,200 334,600
International Game Technology 6,100 154,025
Proxim, Inc. 800(a) 9,050
Syquest Technology, Inc. 1,300(a) 4,347
Videoserver, Inc. 500(a) 7,937
764,403
Concrete, Gypsum & Plaster
Products (0.24%)
Cementos de Mexico ADR 6,800(a) 61,658
Cemex SA ADR B 2,711(a) 28,635
Italcementi Fabriche SPA ADR 13,000 90,661
180,954
Concrete Work (0.09%)
Pioneer International Ltd. ADR 25,000 68,250
Construction & Related
Machinery (0.30%)
Camco International 250 15,922
Cooper Cameron Corp. 150(a) 9,150
EVI, Inc. 400(a) 20,700
Kajima Corp. ADR 2,900 73,380
Komatsu Ltd. ADR 5,500 110,828
229,980
Consumer Products (1.43%)
Consolidated Cigar Holdings, Inc. 3,500(a) 96,469
General Cigar Holdings, Inc. 200(a) 4,263
Philip Morris Cos., Inc. 13,550 613,984
RJR Nabisco Holdings Corp. 10,200 382,500
1,097,216
Crude Petroleum & Natural Gas (0.55%)
Barrett Resources Corp. 200(a) $ 6,050
Broken Hill Proprietary Ltd. ADR 2,200 40,700
Chesapeake Energy Corp. 1,500 11,344
Dril-Quip, Inc. 200(a) 7,025
Forcenergy Inc. 200(a) 5,238
Newfield Exploration Co. 500(a) 11,656
Ocean Energy, Inc. 100(a) 4,931
Petrofina SA ADR 2,900 108,025
Societe Generale ADR 3,600 98,140
Unit Corp. 1,400(a) 13,475
USX-Marathon Group, Inc. 3,200 108,000
Vintage Petroleum, Inc. 400 7,600
422,184
Department Stores (0.34%)
Marui Corp. ADR 2,800 87,432
Penney (J.C.) Co. 2,900 174,906
262,338
Drugs (1.36%)
Dura Pharmaceuticals, Inc. 300(a) 13,763
Elan Corp. PLC ADR 400(a) 20,475
Genzyme Corp. - General Division 200(a) 5,550
Human Genome Sciences, Inc. 200(a) 7,950
Inhale Therapeutic Systems 500(a) 13,000
Jones Medical Industries, Inc. 400 15,300
Medicis Pharmaceutical Corp. 400(a) 20,450
Medimmune, Inc. 200(a) 8,575
Mirvant Medical Technology 200(a) 8,000
Novartis AG Sponsored ADR 2,879 233,904
Novo Nordisk ADR 3,200 231,600
Nycomed Amersham PLC ADR 8,569 313,839
Ortec International, Inc. 300(a) 3,919
Sangstat Medical Corp. 700(a) 28,350
Smithkline Beecham PLC ADR 2,200 113,162
Transkaryotic Therapies, Inc. 100(a) 3,513
1,041,350
Drugs, Proprietaries & Sundries (0.08%)
Amway Japan Ltd. ADR 6,833 63,205
Eating & Drinking Places (0.97%)
Brinker International, Inc. 6,700(a) 107,200
Cracker Barrel Old Country Store, Inc. 8,200 273,675
Host Marriott Corp. 18,200(a) 357,175
Papa John's International, Inc. 300(a) 10,463
748,513
Electric Services (1.12%)
Chilectra SA 2,857 72,975
Companhia Paranaense de Enersis ADR 1,615 22,105
Enersis SA ADR 5,600 101,850
EVN Energie-Vansorgung Nied ADR 3,600 94,476
GPU, Inc. 2,100 88,463
National Power ADR 3,300 130,763
Pinnacle West Capital Corp. 4,100 173,737
Shandong Huaneng Power
Development Ltd. ADR 8,000 55,000
Texas Utilities Holdings 2,900 120,531
859,900
Electrical Goods (0.35%)
CBS Corp. 9,100 267,881
Electronic Components &
Accessories (0.89%)
Altera Corp. 800(a) 26,500
Flextronics International 200(a) 6,900
Kyocera Corp. ADR 1,500 $ 135,750
Lattice Semiconductor Corp. 400(a) 18,950
Level One Communications 450(a) 12,713
Linear Technology Corp. 3,400 195,925
Maxim Integrated Products, Inc. 2,400(a) 82,800
Molex, Inc. 750 21,562
PMC Sierra, Inc. 600(a) 18,600
Rambus, Inc. 100(a) 4,575
Semtech Corp. 100(a) 3,913
Texas Instruments 2,248 101,160
Transwitch Corp. 700(a) 5,250
Triumph Group, Inc. 200(a) 6,650
Vitesse Semiconductor Corp. 300(a) 11,325
Xilinx, Inc. 900(a) 31,556
684,129
Electronic Distribution
Equipment (0.65%)
Phillips NV ADR 8,269 500,275
Elementary & Secondary
Schools (0.04%)
Computer Learning Centers, Inc. 200(a) 12,250
Devry, Inc. 500(a) 15,938
28,188
Engineering & Architectural
Services (0.07%)
Paychex, Inc. 1,000 50,625
Fabricated Structural Metal
Products (0.01%)
Aavid Thermal Technologies 300(a) 7,200
Farm & Garden Machinery (0.23%)
Case Corp. 1,100 66,481
Deere & Co. 1,900 110,794
177,275
Federal & Federally Sponsored
Credit (0.95%)
Federal Agricultural Mortgage Corp. 100(a) 6,100
SLM Holding Corp. 5,200 723,450
729,550
Finance Services (0.45%)
Cincinnati Financial Corp. 300 42,225
Grupo Financiero Bancomer SA ADR 2,883(a)(b) 37,477
Nomura Securities Co. Ltd. ADR 2,000 267,649
347,351
Fire Marine & Casualty
Insurance (2.81%)
American Bankers Insurance Group 5,200 238,875
Berkshire Hathaway, Inc. 13(a) 598,000
Loews Corp. 6,700 711,037
St. Paul Cos., Inc. 1,700 139,506
Tokio Marine & Fire Insurance ADR 4,600 265,650
Travelers, Inc. 3,750 202,031
2,155,099
Footwear, Except Rubber (0.20%)
Olivetti Ing. Co. & Cos. 253,968 153,549
Furniture & Home Furnishings (0.03%)
Bed Bath & Beyond, Inc. 600(a) 23,100
General Industrial Machinery (0.49%)
AmerGroup Ltd. ADR 5,500 $ 52,773
SKF AB ADR 15,370 322,770
375,543
Grain Mill Products (0.18%)
Ralston-Ralston Purina Group 1,500 139,406
Groceries & Related Products (0.04%)
Fleming Cos., Inc. 2,550 34,266
Grocery Stores (0.44%)
Cifra Unsponsored ADR 65,240 160,231
Koninklijke Bijenkorf
Beheer NV ADR 2,400 75,176
Santa Isabella SA ADR 4,777 83,598
Whole Foods Market, Inc. 300(a) 15,337
334,342
Health & Allied Services, NEC (0.03%)
Healthsouth Corp. 300(a) 8,325
Total Renal Care Holdings, Inc. 566(a) 15,565
23,890
Heavy Construction, Except
Highway (0.02%)
J Ray McDermott 300(a) 12,900
Holding Offices (0.22%)
Jardine Strategic Holdings Ltd. ADR 10,000 52,800
Trizec Hahn Corp. 4,934 114,407
167,207
Hospitals (0.02%)
American Healthcorp, Inc. 400(a) 2,800
Health Management Association, Inc. 500(a) 12,625
15,425
Hotels & Motels (0.52%)
Extended Stay of America 8,900(a) 110,694
John Q. Hammons Hotels, Inc. 9,300(a) 83,700
Ladbroke Group ADR 37,000 160,721
Suburban Lodges of America 1,800(a) 23,962
Vail Resorts, Inc. 900(a) 23,344
402,421
Household Audio & Video
Equipment (0.30%)
Amazoncom, Inc. 100(a) 6,025
Sony Corp. ADR 2,500 226,875
232,900
Industrial Inorganic Chemicals (0.57%)
AKZO ADR 4,283 372,085
Nova Corp. ADR 6,700 64,069
436,154
Iron & Steel Foundries (0.23%)
Kawasaki Steel Corp. ADR 7,900 108,151
Kubota Corp. ADR 850 45,900
Siderar S.A.I.C. Sponsored ADR 605 20,574
174,625
Iron Ores (0.18%)
Cia Vale Do Rio Doce 6,945 139,706
Life Insurance (0.55%)
American General Corp. 2,400 $ 129,750
Lincoln National Corp. 2,400 187,500
Nationwide Financial Services 2,900 104,763
422,013
Management & Public Relations (0.22%)
Corrections Corp. of America 200(a) 7,413
Ogden Corp. 3,900 109,931
Whitman-Hart, Inc. 1,500(a) 51,375
168,719
Measuring & Controlling Devices (0.03%)
Chromatics Color Sciences, Inc. 800(a) 12,000
Uniphase Corp. 200(a) 8,275
20,275
Meat Products (0.50%)
Groupe Danone 10,764 384,813
Medical Instruments & Supplies (0.03%)
Arterial Vascular Engingeering 300(a) 19,500
Mentor Corp. 200 7,300
26,800
Men's & Boy's Clothing Stores (0.03%)
Abercrombie & Fitch Company 800 25,000
Metal Mining Services (0.01%)
Metals USA, Inc. 400(a) 6,100
Metalworking Machinery (0.19%)
JLK Direct Distribution 700(a) 19,600
Makita Corp. ADR 13,000 123,500
143,100
Millwork, Plywood & Structural
Members (0.06%)
Georgia-Pacific Corp. 800 48,600
Miscellaneous Amusement,
Recreation Service (0.01%)
American Coin Merchandising 300(a) 5,288
Miscellaneous Apparel &
Accessory Stores (0.02%)
Pier 1 Imports, Inc. 800 18,100
Miscellaneous Business Services (0.01%)
Teletech Holdings, Inc. 600(a) 6,825
Miscellaneous Converted Paper
Products (0.31%)
Kimberly Clark Mexico ADR 9,870 233,839
P. T. Inti Indorayon Utama ADR 10,000(a) 3,002
236,841
Miscellaneous Electrical Equipment &
Supplies (0.27%)
TDK Corp. ADR 2,800 205,800
Miscellaneous Equipment Rental &
Leasing (0.45%)
Avis Rent A Car, Inc. 10,700(a) 341,731
Xtra, Corp. 100 5,863
347,594
Miscellaneous Fabricated Metal
Products (0.10%)
Parker-Hannifin Corp. 1,600 73,400
Miscellaneous Food & Kindred
Products (0.20%)
Nestle Reg. ADR 2,000 $ 150,080
Miscellaneous Investing (10.64%)
American General Hospitality Corp. 2,300 61,525
AMLI Residential Property Trust 700 15,575
Avalon Properties, Inc. 7,400 228,937
Bay Apartments Communities, Inc. 9,300 362,700
Bedford Property Investors 10,200 223,125
Brandywine Realty Trust 12,900 324,112
Brookfield Properties I/R 6,200(a) 73,654
Burnham Pacific Properties, Inc. 10,100 154,656
Capstar Hotel Co. 7,800(a) 267,637
Carramerica Realty Corp. 9,200 291,525
CBL & Associates Properties, Inc. 8,200 202,437
Cendant Corp. 59,501(a) 2,045,346
Chateau Properties 10,953 345,020
Crescent Real Estate Equities Co. 400 15,750
Equity Office Properties Trust 4,641 146,475
Essex Property Trust, Inc. 9,600 336,000
Federal Realty Investments Trust 11,600 298,700
First Union Real Estate 5,200 84,500
Great Lakes REIT, Inc. 8,500 165,219
Irvine Apartement Communities, Inc. 1,400 44,538
Manufactured Home Communities, Inc. 7,400 199,800
Oasis Residential, Inc. 8,500 189,656
Omega Healthcare Investors 4,000 154,500
Pan Pacific Retail Properties, Inc. 4,600 98,325
Pennsylvania Real Estate 2,400 58,950
Prime Group Realty Trust, Inc. 8,400 170,100
Public Storage, Inc. 2,000 58,750
Ramco-Gershenson Properties 100 1,969
Reckson Associates Realty Corp. 1,500 38,063
Republic Industries, Inc. 400(a) 9,325
Security Capital Atlantic, Inc. 10,752 227,136
Shurgard Storage Center 7,900 229,100
Taubman Centers, Inc. 37,500 487,500
Urban Shopping Centers 3,000 104,625
Walden Residential Properties, Inc. 6,600 168,300
Wellsford Real Properties, Inc. 15,777(a)(b) 246,516
Western Investment Real Estate Trust 3,500 48,125
8,178,171
Miscellaneous Non-Durable
Goods (0.23%)
Mitsubishi Corp. ADR 11,000 174,279
Miscellaneous Shopping Goods
Stores (0.03%)
Dollar Tree Stores, Inc. 500(a) 20,688
Miscellaneous Special Trade
Contractors (0.09%)
Hang Lung Development Co. ADR 9,400 66,118
Miscellaneous Textile Goods (0.01%)
Gymboree, Corp. 400(a) 10,950
Motion Picture Production &
Services (0.13%)
Viacom, Inc. 2,500(a) 103,594
Motor Vehicles & Equipment (2.21%)
Borg Warner Automotive, Inc. 4,600 $ 239,200
Fiat SPA ADR 5,170 76,258
General Motors Corp. 4,700 284,937
ITT Industries, Inc. 9,600 301,200
Meritor Automotive, Inc. 6,266 131,978
Siderurgica Venezuelana Saica ADR 2,140 8,954
Toyota Motor Corp. ADR 8,600 493,425
Volkswagen AG ADR 1,400 157,593
1,693,545
Non-Classifiable Establishments (0.04%)
Keppel Corp. Ltd. ADR 5,375 30,879
Non-Store Retailers (0.04%)
Henry Schein, Inc. 300(a) 10,500
U.S. Office Products Co. 300(a) 5,888
Viking Office Products, Inc. 500(a) 10,906
27,294
Offices & Clinics of Medical
Doctors (0.10%)
American Oncology Resources 1,500(a) 24,000
Amsurg Corp., Class A 36(a) 270
Amsurg Corp., Class B 237(a) 1,837
Concentra Managed Care, Inc. 835 28,181
Horizon Health Corp. 500(a) 11,625
Phycor, Inc. 500(a) 13,500
79,413
Oil & Gas Field Services (0.59%)
Bayard Drilling Technologies, Inc. 500(a) 8,125
Diamond Offshore Drilling 3,300 158,812
Ensco International, Inc. 400 13,400
Falcon Drilling Company, Inc. 400(a) 14,025
Grey Wolf, Inc. 2,200(a) 11,825
Noble Drilling Corp. 300(a) 9,188
Patterson Energy, Inc. 500(a) 19,344
Petroleo Brasileiro SA 5,340 124,884
Precision Drilling Corp. 600(a) 14,625
Schlumberger Ltd. 1,000 80,500
454,728
Ophthalmic Goods (0.19%)
Bausch & Lomb 3,250 128,781
Cooper Cos., Inc. 400(a) 16,350
145,131
Periodicals (0.37%)
Primedia, Inc. 22,500(a) 284,063
Personal Credit Institutions (0.39%)
American Express Co. 3,300 294,525
Firstplus Financial Group 200(a) 7,675
302,200
Personal Services (0.02%)
G & K Services, Inc. 300 12,600
Personnel Supply Services (0.18%)
Data Processing Resources 600(a) 15,300
Robert Half International, Inc. 1,100(a) 44,000
Romac International, Inc. 2,000(a) 48,875
Volt Information Sciences 600(a) 32,325
140,500
Petroleum Refining (0.97%)
Ashland, Inc. 4,600 $ 246,962
Atlantic Richfield Co. 1,600 128,200
Mobil Corp. 1,900 137,156
Total SA IE Francaise ADR 2,800 155,400
YPF Sociedad Anonima ADR 2,345 80,170
747,888
Photographic Equipment &
Supplies (0.63%)
Fuji Photo Film 8,800 336,050
OCE NV 1,400 151,550
487,600
Pipelines, Exept Natural Gas (0.00%)
Transcoastal Marine Services 200(a) 2,850
Plastic Materials & Synthetics (0.22%)
Du Pont (E.I.) De Nemour 2,100 126,131
Shanghai Petrochemical Co. Ltd. ADR 2,600 40,463
166,594
Primary Nonferrous Metals (0.14%)
Phelps Dodge Corp. 1,750 108,938
Professional & Commercial
Equipment (0.02%)
Tech Data Corp. 400(a) 15,550
Radio, Television & Computer
Stores (0.05%)
Compusa, Inc. 700(a) 21,700
Lojas Arapua SA GDR 4,200(b) 15,053
36,753
Radio & Television Broadcasting (1.41%)
American Radio System, Inc. 1,600(a) 85,300
Clear Channel Communications 8,600(a) 683,163
Grupo Televisa SA GDR 4,092(a) 158,309
HSN, Inc. 200(a) 10,300
TV Azteca SA DE CV ADR 6,381(a) 143,971
1,081,043
Railroads (0.13%)
Nagoya Railroad Co. Ltd. 2,900 99,922
Real Estate Agents & Managers (0.09%)
Atlantic Gulf Communities Co. 15,900(a) 71,550
Real Estate Operators & Lessors (1.98%)
Arden Realty Group, Inc. 13,000 399,750
Brookfield Properties Corp. 12,300 204,996
Catellus Dev. Corp. 1,900(a) 38,000
Nationwide Health Properties 15,800 402,900
Pacific Gulf Properties 13,700 325,375
Sekisui House Ltd. ADR 2,300 148,414
1,519,435
Research & Testing Services (0.01%)
Parexel International Corp. 200(a) 7,400
Residential Building
Construction (0.03%)
Rossi Residencial SA GDR 4,325(a)(b) 23,252
Sanitary Services (0.01%)
Allied Waste Industries, Inc. 400(a) 9,325
Savings Institutions (0.09%)
Astoria Financial Corp. 200 $ 11,150
Charter One Financial, Inc. 100 6,313
Dime Bancorp, Inc. 300 9,075
Firstfed Financial Corp. 300(a) 11,625
Golden State Bancorp, Inc. 200(a) 7,475
Ocwen Financial Corp. 400(a) 10,175
TCF Financial Corp. 300 10,181
65,994
Sawmills & Planning Mills (0.15%)
Louisiana Pacific Corp. 5,900 112,100
Search & Navigation Equipment (0.61%)
Litton Industries, Inc. 7,900(a) 454,250
Orbital Sciences Corp. 200(a) 5,950
Raytheon Co. 95 4,685
464,885
Security & Commodity Services (0.01%)
Price (T. Rowe) Associates 100 6,288
Security Brokers & Dealers (0.11%)
Edwards (A.G.), Inc. 150 5,963
Freidman Billings Ramsey Group, Inc. 3,900(a) 69,956
Legg Mason 100 5,594
81,513
Soap, Cleaners & Toilet Goods (0.61%)
KAO Corp. ADR 2,200 318,102
Shiseido Co. Ltd. ADR 11,000 150,590
468,692
Special Industry Machinery (0.01%)
Integrated Process Equipment 400(a) 6,300
Subdividers & Developers (0.03%)
Singapore Land ADR 11,600 25,472
Sugar & Confectionary Products (0.05%)
Perlis Plantations ADR 25,000 35,325
Surety Insurance (0.04%)
CMAC Investment Corp. 400 24,150
Triad Guaranty, Inc. 200(a) 5,800
29,950
Telephone Communications (4.08%)
Associated Group, Inc., Class A 1,500(a) 44,438
AT&T Corp. 3,300 202,125
BCE, Inc. 17,180 572,308
Compania Anonima Telefonos
de Venezuela 990 41,209
Intermedia Communications, Inc. 100(a) 6,075
Mobile Telecommunications
Technologies 1,800(a) 39,600
Motorola, Inc. 900 51,356
Sprint Corp. 2,000 117,250
Telecom Argentina Stet 1,195 42,721
Telecommunicacoes Brasileiras SA ADR 9,848 1,146,675
Telefonica de Argentina ADR 3,360 125,160
Telefonica de Espana SA ADR 2,500 227,656
Telefonica Del Peru ADR 2,693 62,781
Telefonos de Mexico SA ADR 5,090 285,358
Teleport Communication 500(a) 27,438
Teligent, Inc. 200(a) 4,925
U.S. West Communications Group 2,700 121,838
Winstar Communications, Inc. 500(a) 12,469
3,131,382
Tires & Inner Tubes (0.31%)
Bridgestone ADR 1,100 $ 239,423
Variety Stores (0.34%)
Wal-Mart Stores, Inc. 2,500 98,594
Woolworth Corp. 7,850(a) 159,944
258,538
Vocational Schools (0.02%)
Apollo Group, Inc. 400(a) 18,900
Water Transportation of Freight,
NEC (0.17%)
Penninsular & Oriental
Steamships ADR 5,720 130,728
Women's Accessory &
Specialty Stores (0.01%)
Intimate Brands, Inc. 300 7,219
Women's Clothing Stores (0.01%)
Dress Barn, Inc. 400(a) 11,350
Total Common Stocks 50,990,280
Preferred Stock (0.17%)
Miscellaneous Investing (0.10%)
First Washington Realty Trust; Series A2,300 77,050
Periodicals (0.01%)
Time Warner; Series M 3 3,453
Real Estate Agents & Managers (0.06%)
Atlantic Gulf Communities 4,809(a) 48,099
Total Preferred Stocks 128,602
Principal
Amount Value
Bonds (3.23%)
Business Credit Institutions (0.43%)
AT&T Capital Corp. Medium-Term
Notes; 5.85%; 1/5/99 $ 330,000 $ 329,502
Commercial Banks (0.78%)
NationsBank Corp. Senior Notes;
5.70%; 2/9/01 250,000 247,003
First Union - Lehman Brothers
Commercial, Class 2 A1;
Collateralized Mortgage Obligations;
6.48%; 3/18/04 347,047 349,108
596,111
Electronic Distribution
Equipment (0.34%)
Israel Electric Corp. Senior Notes;
7.25%; 12/15/06 250,000(b) 258,783
Finance Services (0.67%)
BankAmerica Institute Series B Notes;
7.70%; 12/31/26 $ 250,000(b) $ 257,982
Team Fleet Finance Corp. Notes;
7.35%; 5/15/03 250,000 259,870
517,852
Mortgage Bankers & Brokers (0.20%)
First Plus Home Loan Trust Notes;
7.60%; 4/10/30 150,000 153,632
Personal Credit Institutions (0.32%)
GMAC Medium-Term Notes;
6.10%; 12/06/00 250,000 249,212
Trusts (0.49%)
Mid-State Trust Series 4 Class A
Pass Through; 8.33%; 4/1/30 345,742 374,347
Total Bonds 2,479,439
U.S. Government Treasury Notes (23.31%)
7.25%; 8/15/04 3,350,000 3,621,142
6.25%; 5/31/00 2,000,000 2,025,000
6.50%; 8/15/05 1,000,000 1,043,438
6.25%; 4/30/01 1,750,000 1,777,344
6.38%; 5/15/99 1,500,000 1,513,595
6.25%; 2/15/07 1,250,000 1,290,235
6.63%; 4/30/02 2,000,000 2,066,876
6.38%; 5/15/00 4,500,000 4,567,500
Total U.S. Government Treasury Notes 17,905,130
Principal
Type Rate Maturity Amount Value
Federal National Mortgage Association (FNMA)
Certificates (0.64%)
FNMA 8.00% 2/1/12 $ 478,017 $ 493,993
Total Portfolio Investments (93.74%) 71,997,444
Cash and receivables, net of liabilities (6.26%) 4,807,000
Total Net Assets (100.00%) $76,804,444
(a) Non-income producing security - No dividend paid during the past twelve
months.
(b) Restricted security - See Note 4 to the financial statements.
<PAGE>
PRINCIPAL BALANCED FUND, INC.
Shares
Held Value
Common Stocks (57.83%)
Auto & Home Supply Stores (0.91%)
Autozone, Inc. 42,000(a) $ 1,218,000
Bakery Products (0.58%)
Sara Lee Corp. 13,800 $ 777,113
Beverages (1.12%)
Pepsico, Inc. 28,400 1,034,825
Universal Foods Corp. 11,000 464,750
1,499,575
Commercial Banks (4.74%)
BankBoston Corp. 14,500 1,362,094
CoreStates Financial Corp. 13,400 1,072,838
First of America Bank Corp. 5,900 455,037
Fleet Financial Group, Inc. 16,000 1,199,000
NationsBank Corp. 16,500 1,003,406
PNC Financial Corp. 22,000 1,255,375
6,347,750
Commercial Printing (0.58%)
R. R. Donnelley & Sons Co. 20,700 771,075
Communications Equipment (1.27%)
Allen Telecom, Inc. 13,000(a) 239,688
DSC Communications Corp. 24,000(a) 576,000
Nextlevel Systems 49,800(a) 890,175
1,705,863
Computer & Data Processing
Services (3.26%)
Adobe Systems, Inc. 21,500 886,875
Computer Sciences Corp. 12,300(a) 1,027,050
Electronic Data Systems Corp. 39,100 1,717,956
First Data Corp. 24,800 725,400
Siebel Systems, Inc. 71(a) 2,969
4,360,250
Computer & Office Equipment (2.01%)
Cabletron Systems, Inc. 12,400(a) 186,000
Hewlett-Packard Co. 12,400 775,000
International Business
Machines Corp. 13,700 1,432,506
3Com Corp. 8,300(a) 289,981
2,683,487
Consumer Products (1.96%)
Fortune Brands, Inc. 36,600 1,356,487
Philip Morris Cos., Inc. 9,000 407,813
UST, Inc. 23,300 860,644
2,624,944
Crude Petroleum & Natural Gas (1.24%)
Texaco, Inc. 30,600 1,663,875
Department Stores (0.71%)
Dillard, Inc., Class A 26,900 948,225
Drug Stores & Proprietary
Stores (0.42%)
Rite Aid Corp. 9,600 563,400
Drugs (4.61%)
Abbott Labs 8,300 544,169
American Home Products Corp. 15,900 1,216,350
Johnson & Johnson 21,500 1,416,313
Merck & Co., Inc. 16,000 1,700,000
Pharmacia & Upjohn, Inc. 35,300 1,292,862
6,169,694
Eating & Drinking Places (0.06%)
Tricon Global Restaurants, Inc. 2,800 $ 81,375
Electric Services (2.64%)
Central & Southwest 57,200 1,547,975
Dominion Resources, Inc. 16,200 689,512
Houston Industries, Inc. 32,200 859,338
Potomac Electric Power Co. 16,400 423,325
3,520,150
Electrical Industrial Apparatus (0.88%)
Emerson Electric Co. 20,900 1,179,544
Electronic Distribution
Equipment (0.52%)
General Electric Co. 9,500 697,062
Fats & Oils (0.92%)
Archer Daniels Midland Co. 56,824 1,232,371
Federal & Federally Sponsored
Credit (0.61%)
Federal National Mortgage Association 14,400 821,700
Fire, Marine & Casualty
Insurance (0.55%)
General Re Corp. 3,500 742,000
General Industrial Machinery (0.61%)
Pall Corp. 39,500 817,156
Grain Mill Products (0.97%)
Ralston-Ralston Purina Group 13,900 1,291,831
Greeting Cards (0.87%)
American Greetings Corp. 29,800 1,165,925
Grocery Stores (3.93%)
Albertson's, Inc. 47,500 2,250,313
American Stores Co. 50,700 1,042,519
Sysco Corp. 43,300 1,972,856
5,265,688
Household Furniture (0.89%)
Masco Corp. 23,500 1,195,562
Industrial Inorganic Chemicals (0.84%)
Dow Chemical Co. 7,900 801,850
Eastman Chemical Co. 5,450 324,616
1,126,466
Jewelry, Silverware & Plated
Ware (0.17%)
Jostens, Inc. 9,700 223,706
Life Insurance (0.91%)
Lincoln National Corp. 15,600 1,218,750
Management & Public
Relations (1.43%)
Cognizant Corp. 24,400 1,087,325
Dun & Bradstreet Corp. 26,600 822,937
1,910,262
Meat Products (0.83%)
Tyson Foods, Inc. 54,300 1,113,150
Medical Instruments & Supplies (0.90%)
St. Jude Medical, Inc. 39,550(a) 1,206,275
Medical Service & Health
Insurance (1.62%)
AON Corp. 13,125 $ 769,453
Foundation Health Systems, Inc.,
Class A 32,340(a) 723,608
Pacificare Health Systems, Inc.,
Class B 12,900(a) 675,637
2,168,698
Metal Forgings & Stampings (0.56%)
Newell Co. 17,600 748,000
Miscellaneous Shopping Goods
Stores (1.37%)
Toys 'R' Us, Inc. 58,500(a) 1,839,094
Motor Vehicles, Parts & Supplies (1.18%)
Grainger (W. W.), Inc. 16,200 1,574,437
Motor Vehicles and Equipment (1.19%)
Ford Motor Co. 32,654 1,589,842
Paper Mills (1.18%)
Kimberly Clark Corp. 32,100 1,582,931
Petroleum Refining (3.02%)
Amoco Corp. 7,700 655,462
Atlantic Richfield Co. 19,700 1,578,463
Exxon Corp. 29,600 1,811,150
4,045,075
Plastic Materials & Synthetics (0.11%)
Wellman, Inc. 7,400 144,300
Rubber & Plastics Footwear (0.51%)
Nike, Inc. 17,400 682,950
Sanitary Services (1.41%)
Browning-Ferris Industries, Inc. 14,300 529,100
Waste Management, Inc. 49,100 1,350,250
1,879,350
Security Brokers & Dealers (0.32%)
Bear Stearns Cos. 8,900 422,750
Telephone Communications (2.03%)
AT&T Corp. 16,100 986,125
GTE Corp. 21,800 1,139,050
Motorola, Inc. 10,300 587,744
2,712,919
Toys & Sporting Goods (0.68%)
Hasbro, Inc. 29,100 916,650
Variety Stores (0.71%)
Wal-Mart Stores, Inc. 24,000 946,500
Total Common Stocks 77,395,720
Principal
Amount Value
Bonds (33.22%)
Asset Backed Securities (1.51%)
Chase Manhattan Credit Card Master
Trust Asset-Backed Certificates,
Series 97-2 CL A;
6.30%; 4/15/03 $2,000,000 $ 2,015,320
Beverages (0.75%)
Seagram Co., Ltd. Notes;
6.50%; 4/1/03 $1,000,000 $ 1,003,498
Blast Furnace & Basic Steel
Products (0.16%)
Quanex Corp. Convertible
Subordinated Debentures;
6.88%; 6/30/07 200,000 208,000
Business Credit Institutions (3.04%)
CIT Group Holdings Senior
Medium-Term Notes;
6.38%; 10/1/02 1,500,000 1,506,500
Ford Motor Credit Co. Notes;
7.75%; 3/15/05 1,000,000 1,073,538
Heller Financial, Inc. Notes;
6.44%; 10/6/02 1,500,000 1,484,644
4,064,682
Commercial Banks (1.24%)
NationsBank Corp. Subordinated
Notes; 7.80%; 9/15/16 1,500,000 1,656,616
Communications Equipment (0.84%)
Motorola, Inc. Debentures;
7.50%; 5/15/25 1,000,000 1,119,076
Computer & Office
Equipment (1.55%)
IBM Corp. Debentures;
7.00%; 10/30/25 1,500,000 1,551,825
Seagate Technology, Inc. Senior Notes;
7.37%; 3/1/07 500,000 521,822
2,073,647
Consumer Products (0.77%)
Philip Morris Cos. Notes;
7.25%; 9/15/01 1,000,000 1,029,152
Department Stores (1.24%)
Dillards Department Stores, Inc.
Notes; 7.38%; 6/01/06 600,000 640,941
Sears Roebuck & Co. Medium-Term
Notes; 8.00%; 2/15/99 1,000,000 1,020,378
1,661,319
Electric Services (1.90%)
Louisiana Power & Light 1st
Mortgage Bonds;
6.00%; 3/1/00 500,000 497,834
Texas Utilities Electric Co.
Medium-Term Notes,
Series D 1st Mortgage Bond;
6.25%; 1/31/00 1,000,000 1,001,748
Virginia Electric & Power Co.
1st Mortgage Bond;
7.38%; 7/1/02 1,000,000 1,046,019
2,545,601
Forest Products (1.12%)
Weyerhaeuser Co. Debentures;
6.95%; 10/1/27 1,500,000 1,505,362
Functions Closely Related
to Banking (0.76%)
J.P. Morgan & Co. Subordinated
Notes; 6.70%; 11/1/07 1,000,000 1,013,381
General Government, NEC (0.78%)
Province of Quebec, Canada
Debentures; 7.00%; 1/30/07 $1,000,000 $ 1,038,920
Miscellaneous Investing (0.74%)
Kimco Realty Corp. Senior Notes;
6.50%; 10/1/03 1,000,000 991,407
Mortgage Bankers & Brokers (1.28%)
Countrywide Funding Corp.
Medium-Term Notes;
6.54%; 4/14/00 1,700,000 1,714,644
Motion Picture Production &
Services (0.76%)
Viacom, Inc. Guaranteed Senior Notes;
7.75%; 6/1/05 500,000 510,092
Walt Disney Co. Global Notes;
6.38%; 3/30/01 500,000 504,401
1,014,493
Motor Vehicles & Equipment (1.83%)
Chrysler Corp. Debentures;
7.45%; 3/1/27 1,000,000 1,064,908
General Motors Corp. Debentures;
7.70%; 4/15/16 1,250,000 1,377,496
2,442,404
Paper Mills (0.76%)
International Paper Co. Notes;
6.88%; 7/10/00 1,000,000 1,016,716
Personal Credit Institutions (3.39%)
American General Finance Corp.
Notes; 5.88%; 7/1/00 1,000,000 993,737
Associates Corp. of North America
Senior Notes; 6.45%; 10/15/01 1,500,000 1,510,676
General Electric Capital Corp. Notes;
6.50%; 11/1/26 1,000,000 1,014,160
General Motors Acceptance Corp.
Notes; 7.00%; 3/1/00 1,000,000 1,018,060
4,536,633
Petroleum & Petroleum
Products (1.13%)
Enron Corp. Notes;
6.75%; 9/1/04 1,500,000 1,515,333
Petroleum Refining (0.28%)
Pennzoil Co. Senior Exchangeable
Debentures; 6.50%; 1/15/03 200,000 374,500
Primary Nonferrous Metals (0.82%)
Reynolds Metals Co. Medium-Term
Notes; 9.31%; 1/3/02 1,000,000 1,103,653
Railroads (2.15%)
Norfolk Southern Debentures;
9.00%; 3/1/21 1,500,000 1,866,861
Union Pacific Corp. Notes;
7.00%; 6/15/00 1,000,000 1,016,060
2,882,921
Security Brokers & Dealers (2.33%)
Lehman Brothers, Inc. Senior
Subordinated Notes;
6.13%; 2/1/01 1,000,000 993,852
Merrill Lynch & Co. Notes;
7.00%; 1/15/07 $1,000,000 $ 1,036,471
Morgan Stanley Group, Inc.
Debentures; 8.88%; 10/15/01 1,000,000 1,086,113
3,116,436
Surety Insurance (0.77%)
MBIA, Inc. Debentures;
7.00%; 12/15/25 1,000,000 1,029,448
Telephone Communication (1.22%)
AT&T Corp. Senior Notes;
7.75%; 3/1/07 1,500,000 1,638,874
Trucking & Courier Services,
Except Air (0.10%)
Builders Transport, Inc. Convertible
Subordinated Debentures;
6.50%; 5/1/11 306,000(b) 148,410
Total Bonds 44,460,446
Principal
Type Rate Maturity Amount Value
Federal Home Loan Mortgage Corporation (FHLMC)
Certificates (3.73%)
FHLMC 6.50% 9/1/27 $3,000,000 $ 2,965,740
FHLMC 7.00 12/1/27 2,000,000 2,017,940
Total FHLMC Certificates 4,983,680
Government National Mortgage Association (GNMA)
Certificates (1.56%)
GNMA II 6.00 9/20/26-12/20/27 2,172,242 2,089,730
Principal
Amount Value
Commercial Paper (2.81%)
Personal Credit Institutions (2.81%)
Investment in Joint Trade Account;
Associates Corp.;
6.75%; 1/2/98 $3,756,423 $ 3,756,423
Total Portfolio Investments (99.15%) 132,685,999
Cash and receivables, net of liabilities (0.85%) 1,141,108
Total Net Assets (100.00%) $133,827,107
(a) Non-income producing security - No dividend paid during the past twelve
months.
(b) Non-income producing security - Security in default.
<PAGE>
PRINCIPAL BOND FUND, INC.
Principal
Amount Value
Bonds (96.30%)
Air Transportation, Scheduled (1.03%)
Federal Express Corp.,
Pass-Through Cert.;
7.96%; 3/28/17 $ 282,311 $ 312,086
7.58%; 7/2/19 500,000 529,670
841,756
Aircraft & Parts (0.40%)
Textron, Inc. Medium-Term Notes,
Series C; 9.55%; 3/19/01 300,000 328,946
Auto & Home Supply Stores (0.75%)
Pep Boys-Manny, Moe & Jack Notes;
7.00%; 6/1/05 600,000 615,416
Bakery Products (1.19%)
Nabisco, Inc. Notes;
7.05%; 7/15/07 950,000 976,515
Beverages (2.21%)
Joseph E. Seagram & Sons
Guaranteed Debentures;
8.88%; 9/15/11 1,500,000 1,809,275
Broadwoven Fabric Mills,
Cotton (1.86%)
Burlington Industries, Inc. Notes;
7.25%; 9/15/05 1,500,000 1,527,807
Cable & Other Pay TV
Services (1.31%)
TCI Communications, Inc. Senior
Notes; 8.00%; 8/1/05 1,000,000 1,070,021
Combination Utility Services (0.35%)
Public Service Electric & Gas
Medium-Term Notes;
8.16%; 5/26/09 250,000 282,839
Computer & Office Equipment (2.55%)
Seagate Technology, Inc.
Senior Notes;
7.37%; 3/1/07 2,000,000 2,087,288
Consumer Products (1.01%)
Philip Morris Cos. Notes;
6.80%; 12/1/03 500,000 506,082
RJR Nabisco Capital Corp. Senior
Notes; 8.75%; 4/15/04 300,000 318,750
824,832
Copper Ores (0.38%)
Asarco, Inc. Notes; 7.38%; 2/1/03 300,000 313,589
Crude Petroleum & Natural Gas (1.00%)
Occidental Petroleum Corp.
Medium-Term Notes;
9.73%; 6/15/01 250,000 276,031
Union Oil of California
Medium-Term Notes;
7.77%; 4/19/05 500,000 539,750
815,781
Department Stores (3.03%)
Harcourt General, Inc. Subordinated
Notes; 9.50%; 3/15/00 $ 350,000 $ 371,917
J. C. Penney Co., Inc. Medium-
Term Notes, Series A;
6.88%; 10/15/15 1,500,000 1,496,232
Sears Roebuck Co. Medium-Term
Notes; 9.05%; 2/6/12 500,000 615,411
2,483,560
Drug Stores & Proprietary
Stores (1.84%)
Rite Aid Corp. Senior Debentures;
6.88%; 8/15/13 1,500,000 1,510,494
Eating & Drinking Places (1.96%)
Marriott International, Inc.
Notes; 6.75%; 12/15/03 200,000 202,725
Senior Notes; 7.88%; 4/15/05 1,300,000 1,401,777
1,604,502
Electric Services (1.71%)
Cleveland Electric Illuminating Co.
First Mortgage Bonds;
8.75%; 11/15/05 400,000 403,215
Southern California Edison Co.
Notes; 6.38%; 1/15/06 1,000,000 996,590
1,399,805
Engines & Turbines (1.28%)
Brunswick Corp. Debentures;
7.38%; 9/1/23 1,000,000 1,045,654
Fabricated Rubber Products,
NEC (0.35%)
M. A. Hanna Co. Senior Notes;
9.38%; 9/15/03 250,000 284,364
Farm & Garden Machinery (1.91%)
Case Corp. Notes; 7.25%; 1/15/16 1,500,000 1,566,128
Gas Production & Distribution (0.95%)
Enron Corp. Notes;
7.13%; 5/15/07 750,000 776,144
General Government, NEC (1.37%)
Ontario Hydro Debentures;
7.45%; 3/31/13 500,000 549,405
Province of Saskatchewan, Canada
Global Notes; 8.00%; 2/1/13 500,000 573,325
1,122,730
Gold & Silver Ores (0.95%)
Placer Dome, Inc. Notes;
7.13%; 6/15/07 750,000 778,365
Grain Mill Products (1.33%)
Ralston Purina Co. Debentures;
7.75%; 10/1/15 1,000,000 1,091,924
Groceries & Related Products (1.83%)
Supervalu, Inc. Medium-Term Notes,
Series B; 6.49%; 12/12/05 1,500,000 1,497,494
Grocery Stores (2.65%)
American Stores Co. Bond;
8.00%; 6/1/26 $1,000,000 $ 1,132,109
Food Lion, Inc. Notes;
7.55%; 4/15/07 1,000,000 1,043,841
2,175,950
Highway & Street Construction (2.33%)
Foster Wheeler Corp. Notes;
6.75%; 11/15/05 1,900,000 1,906,815
Hospitals (0.68%)
Columbia/HCA Healthcare Corp.
Medium-Term Notes;
8.70%; 2/10/10 500,000 554,567
Hotels & Motels (1.90%)
Hilton Hotels Corp. Notes;
7.70%; 7/15/02 1,500,000 1,557,506
Household Appliances (0.70%)
Maytag Corp. Medium-Term Notes;
8.62%; 11/15/07 500,000 576,740
Household Furniture (0.65%)
Masco Corp. Debentures;
7.13%; 8/15/13 500,000 532,010
Industrial Inorganic Chemicals (2.89%)
FMC Corp.
Debentures; 7.75%; 7/1/11 1,500,000 1,631,541
Senior Notes; 6.38%; 9/1/03 200,000 199,261
Grace (W.R.) & Co. Guaranteed
Notes; 8.00%; 8/15/04 500,000 540,141
2,370,943
Life Insurance (1.26%)
John Hancock Mutual Life Insurance
Co. Surplus Notes;
7.38%; 2/15/24 1,000,000(a) 1,034,783
Lumber & Construction
Materials (2.06%)
Crane Co. Notes; 8.50%; 3/15/04 1,524,000 1,684,848
Machinery, Equipment &
Supplies (0.92%)
AAR Corp. Notes; 7.25%; 10/15/03 750,000 754,946
Millwork, Plywood & Structural
Members (1.45%)
Georgia-Pacific Corp.
Debentures; 9.50%; 12/1/11 100,000 124,112
Senior Debentures;
7.70%; 6/15/15 1,000,000 1,062,876
1,186,988
Miscellaneous Amusement, Recreation
Services (1.79%)
Circus Circus Enterprises Senior
Notes; 6.45%; 2/1/06 1,500,000 1,469,967
Miscellaneous Chemical
Products (2.41%)
Ferro Corp. Senior Debentures;
7.63%; 5/1/13 $ 400,000 $ 433,438
Smith International, Inc. Senior Notes;
7.00%; 9/15/07 1,500,000 1,543,968
1,977,406
Miscellaneous Investing (4.67%)
First Industrial LP Medium-Term
Notes; 7.00%; 12/1/06 2,000,000 2,000,876
Washington Real Estate Investment
Trust Senior Notes;
7.25%; 8/13/06 1,000,000 1,034,047
Weingarten Realty Investors
Medium-Term Notes;
7.29%; 5/23/05 750,000 791,653
3,826,576
Miscellaneous Metal Ores (1.32%)
Cyprus Amax Minerals Notes;
7.38%; 5/15/07 650,000 679,755
Cyprus Minerals Co. Notes;
10.13%; 4/1/02 350,000 397,519
1,077,274
Motion Picture Production &
Services (0.43%)
Columbia Pictures Entertainment, Inc.
Senior Subordinated Notes;
9.88%; 2/1/98 350,000 350,898
Motor Vehicles & Equipment (1.08%)
TRW, Inc. Medium-Term Notes;
9.25%; 12/30/11 700,000 881,158
Newpapers (2.01%)
News America Holdings, Inc.
Guaranteed Senior Notes;
8.50%; 2/15/05 1,500,000 1,643,822
Oil & Gas Field Services (2.60%)
Petroleum Geo-Services ASA
Notes; 7.50%; 3/31/07 2,000,000 2,129,794
Operative Builders (2.59%)
Pulte Corp. Senior Notes;
8.38%; 8/15/04 1,000,000 1,086,875
7.63%; 10/15/17 1,000,000 1,036,991
2,123,866
Paper Mills (2.50%)
Bowater, Inc. Debentures;
9.38%; 12/15/21 200,000 254,200
Champion International Corp. Notes;
9.88%; 6/1/00 250,000 270,361
7.10%; 9/1/05 875,000 906,348
Potlatch Corp. Medium-Term Notes;
8.75%; 1/14/22 500,000 611,899
2,042,808
Personal Credit Institutions (1.28%)
General Motors Acceptance Corp.
Medium-Term Notes;
8.25%; 2/24/04 500,000 546,668
Notes; 6.63%; 10/15/05 500,000 505,452
1,052,120
Petroleum Refining (5.54%)
Ashland, Inc. Medium-Term Notes;
7.71%; 5/11/07 $ 500,000 $ 543,309
Ashland Oil, Inc. Medium-Term Notes;
7.73%; 7/15/13 250,000 275,407
Series F; 8.54%; 1/13/05 250,000 280,423
Pennzoil Co. Debentures;
10.13%; 11/15/09 325,000 413,908
Phillips Petroleum Co. Notes;
9.38%; 2/15/11 500,000 628,621
Sun Co., Inc.
Debentures; 9.00%; 11/1/24 500,000 615,200
Notes; 7.13%; 3/15/04 200,000 206,661
Tosco Corp. Notes; 7.25%; 1/1/07 1,500,000 1,575,711
4,539,240
Plastic Materials &
Synthetics (2.46%)
Geon Co. Notes;
6.88%; 12/15/05 2,000,000 2,017,264
Primary Nonferrous Metals (0.85%)
Reynolds Metals Co.
Medium-Term Notes;
8.34%; 5/22/07 500,000 561,998
7.65%; 2/4/08 125,000 134,881
696,879
Pulp Mills (0.27%)
International Paper Co. Medium-Term
Notes; 9.70%; 8/15/00 200,000 217,229
Railroads (2.43%)
Union Pacific Corp.
Debentures; 7.00%; 2/1/16 1,000,000 1,006,786
Notes; 6.40%; 2/1/06 1,000,000 982,984
1,989,770
Refrigeration & Service
Machinery (0.45%)
Westinghouse Electric Corp.
Debentures; 8.63%; 8/1/12 350,000 370,080
Rental of Railroad Cars (1.33%)
Gatx Capital Corp. Medium-Term
Notes, Series C; 6.86%; 10/13/05 1,000,000 1,021,640
Signal Capital Corp. Equipment Trust
Cert.; 9.95%; 2/1/06 64,000 66,207
1,087,847
Sanitary Services (2.00%)
Laidlaw, Inc. Senior Notes;
7.88%; 4/15/05 1,045,000 1,127,717
WMX Technologies, Inc. Notes;
7.00%; 10/15/06 500,000 507,832
1,635,549
Sawmills & Planning Mills (0.99%)
MacMillan Bloedel Delaware
Guaranteed Notes; 8.50%; 1/15/04 750,000 814,612
Security Brokers & Dealers (2.53%)
Lehman Brothers, Inc.
Senior Subordinated Notes;
7.38%; 1/15/07 2,000,000 2,074,684
Telephone Communications (4.51%)
Korea Telecom Notes;
7.63%; 4/15/07 1,500,000 1,103,911
Sprint Corp. Notes; 8.13%; 7/15/02 500,000 536,493
U.S. West Capital Funding, Inc.
Medium-Term Notes;
6.83%; 11/15/07 $1,000,000 $ 1,018,089
Notes; 7.30%; 1/15/07 1,000,000 1,037,118
3,695,611
Variety Stores (0.22%)
Dayton-Hudson Corp. Debentures;
9.63%; 2/1/08 150,000 182,637
Total Bonds 78,888,416
Commercial Paper (1.60%)
Personal Credit Institutions (1.60%)
Investment in Joint Trade Account;
Associates Corp.;
6.75%; 1/2/98 1,311,866 1,311,866
Total Portfolio Investments (97.90%) 80,200,282
Cash and receivables, net of liabilities (2.10%) 1,720,386
Total Net Assets (100.00%) $81,920,668
(a) Restricted security - See Note 4 to the financial statements.
<PAGE>
PRINCIPAL CAPITAL ACCUMULATION FUND, INC.
Shares
Held Value
Common Stocks (97.87%)
Beverages (2.96%)
Anheuser Busch Cos., Inc. 135,000 $ 5,940,000
Pepsico, Inc. 49,000 1,785,438
Universal Foods Corp. 17,200 726,700
8,452,138
Combination Utility Services (1.62%)
Cinergy Corp. 58,200 2,229,788
Montana Power Co. 75,000 2,385,938
4,615,726
Commercial Banks (21.70%)
Banc One Corp. 123,940 6,731,491
BankBoston Corp. 38,300 3,597,806
Chase Manhattan 40,000 4,380,000
Comerica, Inc. 95,000 8,573,750
CoreStates Financial Corp. 91,000 7,285,688
First of America Bank Corp. 43,050 3,320,231
First Union Corp. 105,000 5,381,250
KeyCorp 103,000 7,293,688
NationsBank Corp. 36,800 2,237,900
Summit Bancorp. 150,000 7,987,500
Union Planters Corp. 75,000 5,095,312
61,884,616
Commercial Printing (1.13%)
R. R. Donnelley & Sons Co. 87,000 3,240,750
Communications Equipment (0.10%)
Allen Telecom, Inc. 16,000(a) 295,000
Computer & Office Equipment (2.27%)
Hewlett-Packard Co. 33,400 $ 2,087,500
International Business
Machines Corp. 42,000 4,391,625
6,479,125
Crude Petroleum & Natural Gas (1.50%)
Texaco, Inc. 78,800 4,284,750
Drug Stores & Proprietary
Stores (0.74%)
Rite Aid Corp. 36,000 2,112,750
Drugs (6.96%)
Abbott Labs 32,000 2,098,000
American Home Products Corp. 95,000 7,267,500
Merck & Co., Inc. 37,000 3,931,250
Pharmacia & Upjohn, Inc. 179,000 6,555,875
19,852,625
Electric Services (4.03%)
Dominion Resources, Inc. 44,400 1,889,775
FPL Group, Inc. 38,500 2,278,719
Houston Industries, Inc. 231,000 6,164,813
Potomac Electric Power Co. 45,000 1,161,562
11,494,869
Electrical Industrial Apparatus (1.07%)
Emerson Electric Co. 54,180 3,057,784
Electronic Distribution
Equipment (0.64%)
General Electric Co. 25,000 1,834,375
Farm & Garden Machinery (1.96%)
Tenneco, Inc. 141,600 5,593,200
Fats & Oils (1.48%)
Archer Daniels Midland Co. 194,260 4,213,014
General Industrial Machinery (2.03%)
Pall Corp. 280,100 5,794,569
Grain Mill Products (0.93%)
Ralston-Ralston Purina Group 28,600 2,658,013
Greeting Cards (2.45%)
American Greetings Corp. 179,000 7,003,375
Grocery Stores (2.87%)
Albertson's, Inc. 40,600 1,923,425
American Stores Co. 120,000 2,467,500
Sysco Corp. 83,400 3,799,912
8,190,837
Household Furniture (2.64%)
Masco Corp. 148,200 7,539,675
Industrial Inorganic
Chemicals (1.09%)
Dow Chemical Co. 22,000 2,233,000
Eastman Chemical Co. 14,900 887,481
3,120,481
Jewelry, Silverware & Plated
Ware (0.26%)
Jostens, Inc. 31,700 $ 731,081
Life Insurance (2.43%)
American General Corp. 128,000 6,920,000
Management & Public
Relations (2.98%)
Cognizant Corp. 44,900 2,000,856
Dun & Bradstreet Corp. 209,900 6,493,781
8,494,637
Meat Products (0.95%)
Tyson Foods, Inc. 132,000 2,706,000
Medical Instruments &
Supplies (0.57%)
St. Jude Medical, Inc. 53,100(a) 1,619,550
Medical Service & Health
Insurance (1.34%)
AON Corp. 46,575 2,730,459
Foundation Health Systems, Inc.,
Class A 48,620(a) 1,087,873
3,818,332
Metal Cans & Shipping
Containters (0.79%)
Crown Cork & Seal Co., Inc. 45,000 2,255,625
Metal Forgings & Stampings (0.95%)
Newell Co. 64,000 2,720,000
Miscellaneous Converted
Paper Products (1.29%)
Avery Dennison Corp. 82,000 3,669,500
Miscellaneous Shopping Goods
Stores (1.20%)
Toys 'R' Us, Inc. 108,700(a) 3,417,256
Motor Vehicles, Parts &
Supplies (1.24%)
Grainger (W. W.), Inc. 36,400 3,537,625
Paper Mills (1.09%)
Kimberly Clark Corp. 62,800 3,096,825
Petroleum Refining (6.39%)
Atlantic Richfield Co. 94,000 7,531,750
Chevron Corp. 80,000 6,160,000
Exxon Corp. 74,000 4,527,875
18,219,625
Photographic Equipment &
Supplies (2.24%)
Eastman Kodak Co. 105,000 6,385,312
Rental of Railroad Cars (2.80%)
GATX Corp. 110,000 7,981,875
Sanitary Services (2.58%)
Browning-Ferris Industries, Inc. 198,900 7,359,300
Soap, Cleaners, & Toilet Goods (0.79%)
Avon Products 36,600 2,246,325
Telephone Communications (6.66%)
AT&T Corp. 52,000 $ 3,185,000
Motorola, Inc. 31,400 1,791,762
Southern New England Telecom 125,000 6,289,063
US West Communications Group 171,000 7,716,375
18,982,200
Variety Stores (1.15%)
Wal-Mart Stores, Inc. 83,000 3,273,312
Total Common Stocks 279,152,052
Principal
Amount Value
Commercial Paper (1.90%)
Personal Credit Institutions (1.90%)
Associates Corp. of North America
Notes; 6.60%; 1/2/98 $5,430,000 $ 5,430,000
Total Portfolio Investments (99.77%) 284,582,052
Cash and receivables, net of liabilities (0.23%) 649,157
Total Net Assets (100.00%) $285,231,209
(a) Non-income producing security - No dividend paid during the past twelve
months.
<PAGE>
PRINCIPAL EMERGING GROWTH FUND, INC.
Shares
Held Value
Common Stocks (88.98%)
Blast Furnace & Basic Steel
Products (0.91%)
Lukens, Inc. 71,500 $ 2,042,219
Carpets & Rugs (0.54%)
Shaw Industries, Inc. 105,500 1,226,438
Chemicals & Allied Products (0.38%)
Sigma-Aldrich Corp. 21,300 846,675
Commercial Banks (10.58%)
Associated Banc Corp. 69,347 3,822,753
First Commerce Corp. 18,700 1,257,575
First Federal Capital Corp. 64,797 2,194,998
Independent Bank Corp. Michigan 44,299 1,794,110
Mercantile Bancorp., Inc. 33,390 2,053,485
Merchants Bancorp., Inc. 45,800 1,299,575
National City Corp. 21,400 1,407,050
NationsBank Corp. 7,960 484,068
North Fork Bancorp., Inc. 125,480 4,211,423
Peoples Heritage Financial
Group, Inc. 51,000 2,346,000
Princeton National Bancorp., Inc. 36,000 954,000
Summit Bancorp. 36,450 1,940,962
23,765,999
Commercial Printing (0.49%)
Merrill Corp. 47,400 1,102,050
Computer & Data Processing
Services (9.34%)
American Management Systems, Inc. 53,100(a) $ 1,035,450
Bitstream 102,000(a) 191,250
Cadence Design Systems, Inc. 170,000(a) 4,165,000
Cerner Corp. 123,500(a) 2,608,938
Choicepoint, Inc. 6,310(a) 301,302
HBO & Co. 71,000 3,408,000
Microsoft Corp. 31,500(a) 4,071,375
National Processing, Inc. 21,300(a) 210,338
Sunquest Information Systems, Inc. 103,400(a) 1,008,150
Synopsys, Inc. 111,600(a) 3,989,700
20,989,503
Computer & Office Equipment (4.57%)
3COM Corp. 43,000(a) 1,502,313
Ascend Communications 76,400(a) 1,871,800
Cabletron Systems, Inc. 70,000(a) 1,050,000
EMC Corp. 173,600(a) 4,763,150
Optika Imaging Systems 75,000(a) 257,812
Seagate Technology 4,000(a) 77,000
SystemSoft Corp. 116,900(a) 745,237
10,267,312
Construction & Related
Machinery (2.81%)
EVI, Inc. 122,000(a) 6,313,500
Crude Petroleum & Natural
Gas (1.09%)
Devon Energy Corp. 63,800 2,456,300
Dairy Products (0.41%)
Dreyer's Grand Ice Cream, Inc. 38,600 931,225
Department Stores (1.31%)
Saks Holding 142,000(a) 2,937,625
Drugs (1.63%)
Alliance Pharmaceutical Corp. 30,000(a) 217,500
Forest Laboratories, Inc. 18,500(a) 912,281
Genzyme Corp. - General Division 7,182(a) 199,301
Genzyme Corp. - Tissue Repair 215(a) 1,478
Merck & Co., Inc. 10,000 1,062,500
Pharmacia & Upjohn, Inc. 34,400 1,259,900
Seragen, Inc. 20,000(a) 6,000
3,658,960
Electronic Components &
Accessories (5.52%)
Altera Corp. 50,000(a) 1,656,250
Intel Corp. 45,300 3,182,325
Linear Technology Corp. 49,700 2,863,962
Solectron Corp. 112,800(a) 4,688,250
12,390,787
Engineering & Architectural
Services (1.09%)
Paychex, Inc. 48,500 2,455,313
Fire, Marine, & Casualty
Insurance (1.51%)
Berkley W.R. Corp. 77,400 3,395,925
Footwear, Except Rubber (0.64%)
Nine West Group, Inc. 55,700(a) 1,444,719
General Industrial Machinery (4.22%)
Flow International Corp. 101,500(a) $ 951,562
Kaydon Corp. 97,000 3,164,625
Pentair, Inc. 58,000 2,084,375
Roper Industries, Inc. 115,800 3,271,350
9,471,912
Grocery Stores (0.73%)
Casey's General Stores, Inc. 64,500 1,636,688
Holding Offices (0.74%)
ISB Financial Corp. 55,700 1,664,037
Hose, Belting, Gaskets &
Packing (0.86%)
Mark IV Industries 88,218 1,929,769
Hospitals (1.80%)
Humana, Inc. 66,200(a) 1,373,650
Universal Health Services, Inc.,
Class B 53,100(a) 2,674,913
4,048,563
Household Appliances (1.24%)
Maytag Corp. 74,400 2,776,050
Industrial Inorganic
Chemicals (0.29%)
ICN Pharmaceuticals, Inc. 13,564 662,093
Industrial Machinery, NEC (1.56%)
Coltec Industries 151,300(a) 3,508,269
Insurance Agents, Brokers &
Services (1.62%)
Equifax, Inc. 103,000 3,650,062
Investment Offices (1.53%)
AMVESCAP PLC Sponsored ADR 39,960 3,446,550
Iron & Steel Foundries (0.23%)
Atchison Casting Corp. 31,900(a) 518,375
Knitting Mills (1.18%)
Russell Corp. 100,000 2,656,250
Laundry, Cleaning & Garment
Services (0.74%)
G & K Services, Inc. 39,525 1,660,050
Measuring & Controlling
Devices (0.99%)
ISCO, Inc. 22,513 199,798
Millipore Corp. 52,200 1,771,538
Photon Dynamics 73,600(a) 248,400
2,219,736
Meat Products (1.10%)
Michael Foods, Inc. 101,200 2,466,750
Medical Instruments &
Supplies (1.99%)
Boston Scientific Corp. 35,200(a) 1,614,800
Steris Corp. 59,200(a) 2,856,400
4,471,200
Medical Service & Health
Insurance (4.27%)
Alternative Living Services 99,600(a) $ 2,944,425
Foundation Health Systems, Inc.,
Class A 111,450(a) 2,493,694
Orthofix International NV 77,600(a) 911,800
Pacificare Health Systems, Inc.,
Class A 20,598(a) 1,078,820
Pacificare Health Systems, Inc.,
Class B 190(a) 9,547
Patient InfoSystems, Inc. 59,000(a) 154,875
United Healthcare Corp. 40,000 1,987,500
9,580,661
Metal Services, NEC (0.63%)
BMC Industries, Inc. 87,100 1,404,488
Miscellaneous Chemical
Products (1.61%)
Cytec Industries 51,200(a) 2,403,200
H. B. Fuller Co. 24,400 1,207,800
3,611,000
Mortgage Bankers & Brokers (0.75%)
Money Store, Inc. 79,700 1,673,700
Non-Store Retailers (0.98%)
U.S. Office Products Co. 111,600(a) 2,190,150
Office Furniture (0.87%)
Chromcraft Revington, Inc. 38,500(a) 1,232,000
Kimball International, Inc., Class B 38,600 711,687
1,943,687
Office & Clinics of Medical
Doctors (1.01%)
Phycor, Inc. 83,700(a) 2,259,900
Oil & Gas Field Services (1.67%)
Diamond Offshore Drilling 78,000 3,753,750
Operative Builders (1.48%)
D. R. Horton, Inc. 159,500 2,771,312
Pulte Corp. 13,421 561,166
3,332,478
Paints & Allied Products (0.65%)
RPM, Inc. 95,250 1,452,562
Plastic Materials & Synthetics (0.61%)
A. Schulman, Inc. 54,200 1,361,775
Plumbing, Heating,
Air-Conditioning (0.66%)
Apogee Enterprises, Inc. 121,200 1,439,250
Metalclad Corp. 45,600(a) 49,875
1,489,125
Public Building & Related
Furniture (0.89%)
BE Aerospace, Inc. 75,000(a) 2,006,250
Refrigeration & Service
Machinery (0.33%)
Tecumseh Products Co., Class A 15,300 745,875
Sanitary Services (0.92%)
Browning-Ferris Industries, Inc. 49,500 1,831,500
USA Waste Services, Inc. 5,847(a) 229,495
2,060,995
Savings Institutions (1.73%)
Greenpoint Financial Corp. 35,000 $ 2,539,687
Sterling Financial Corp. 62,000(a) 1,348,500
3,888,187
Screw Machine Products, Bolts,
Etc. (0.94%)
TriMas Corp. 61,100 2,100,312
Security Brokers & Dealers (0.96%)
Jefferies Group, Inc. 52,800 2,161,500
Telephone Communications (2.46%)
Brooks Fiber Properties 50,100(a) 2,755,500
McLeod USA, Inc. 86,600(a) 2,771,200
5,526,700
Toys & Sporting Goods (0.91%)
Mattel, Inc. 55,000 2,048,750
Trucking & Courier Services,
Except Air (0.47%)
J. B. Hunt Transport Services, Inc. 56,900 1,066,875
Women's & Children's
Undergarments (0.54%)
Warnaco Group 38,556 1,209,695
Total Common Stocks 199,879,319
Preferred Stock (0.09%)
Medical Service & Health
Insurance (0.09%)
Pacificare Health Systems, Inc.
Series A Convertible 10,000 212,500
Principal
Amount Value
Bonds (0.74%)
Computer & Data Processing
Services (0.22%)
Sierra On Line Convertible
Subordinated Debentures;
6.50%; 4/1/01 $ 110,000(b) $ 489,913
Industrial Inorganic
Chemicals (0.07%)
Ciba-Geigy Corp. Exchangeable
Subordinated Debentures;
6.25%; 3/15/16 150,000(b) 164,250
Management & Public
Relations (0.45%)
Complete Management, Inc.
Convertible Debentures;
8.00%; 12/15/03 1,000,000 1,005,000
Total Bonds 1,659,163
Commercial Paper (10.00%)
Business Credit Institutions (1.56%)
American Express Credit Corp.;
6.00%; 1/7/98 $ 755,000 $ 754,355
CIT Group Holdings, Inc. Notes;
6.05%; 1/12/98 2,750,000 2,745,378
3,499,733
Personal Credit Institutions (8.44%)
Ford Motor Credit Co.;
5.86%; 1/5/98 1,085,000 1,084,470
6.05%; 1/5/98 6,480,000 6,476,733
5.54%; 1/7/98 240,000 239,802
Investment in Joint Trade Account;
Associates Corp.;
6.75%; 1/2/98 11,152,515 11,152,515
18,953,520
Total Commercial Paper 22,453,253
Total Portfolio Investments (99.81%) 224,204,235
Cash and receivables, net of liabilities (0.19%) 425,404
Total Net Assets (100.00%) $224,629,639
(a) Non-income producing security - No dividend paid during the past twelve
months.
(b) Restricted security - See Note 4 to the financial statements.
<PAGE>
PRINCIPAL GOVERNMENT SECURITIES FUND, INC.
Principal
Type Rate Maturity Amount Value
Government National Mortgage Association (GNMA)
Certificates (31.14%)
GNMA I 6.00% 3/20/27 $ 633,645 $ 609,643
GNMA I 6.50 5/15/26 970,298 960,828
GNMA I 7.00 1/15/24-2/15/27 1,759,069 1,776,247
GNMA I 7.50 1/15/27-2/15/27 1,959,122 2,012,234
GNMA I 8.00 10/15/16-6/15/17 1,291,381 1,357,839
GNMA II 6.00 4/20/24-1/1/28 20,617,566 19,868,761
GNMA II 6.00 12/20/25-2/20/26 2,822,530 2,787,079
Total GNMA Certificates 29,372,631
Federal National Mortgage Association (FNMA)
Certificates (19.42%)
FNMA 5.50 5/1/24 1,155,416 1,073,093
FNMA 6.00 11/1/23-3/1/26 3,805,617 3,677,700
FNMA 6.50 11/1/23-6/1/26 6,081,911 6,025,479
FNMA 7.00 8/1/23-11/1/27 4,672,680 4,715,146
FNMA 7.50 4/1/22-7/1/27 1,889,026 1,939,998
FNMA GL 6.50 8/1/25 894,586 886,892
Total FNMA Certificates 18,318,308
Federal Home Loan Mortgage Corporation (FHLMC)
Certificates (17.72%)
FHLMC 5.50% 2/1/24 $ 953,147 $ 898,637
FHLMC 6.00 12/1/23-1/1/26 2,699,337 2,609,241
FHLMC 6.50 4/1/24-12/9/27 4,134,880 4,098,640
FHLMC 7.00 1/1/24-2/1/28 1,749,888 1,771,041
FHLMC 7.50 8/1/27-12/1/27 1,944,827 1,992,936
FHLMC GOLD 5.50 3/1/24 423,349 407,448
FHLMC GOLD 6.50 10/1/25-5/1/26 1,812,608 1,796,951
FHLMC GOLD 7.00 9/1/23-12/1/23 1,639,003 1,661,900
FHLMC GOLD 7.50 2/1/22-6/1/24 1,252,501 1,288,350
FHLMC G/L 7.50 3/1/23 179,017 184,259
Total FHLMC Certificates 16,709,403
Principal
Amount Value
Student Loan Marketing Association (SLMA)
Certificates (15.51%)
Student Loan Marketing Association
Debentures;
7.30%; 8/1/12 $10,000,000 $11,068,610
8.47%; 12/1/08 1,000,000 1,186,532
9.15%; 12/1/04 1,200,000 1,408,746
Notes; 6.13%; 12/1/05 560,000 561,324
Notes; 9.25%; 6/1/04 350,000 409,213
Total SLMA Certificates 14,634,425
Private Export Funding Corporation (PEFCO)
Certificates (15.64%)
Private Export Funding Corp.
Secured Notes;
6.62%; 10/1/05 2,000,000 2,069,000
9.45%; 12/31/99 4,500,000 4,810,140
Series SS, Senior Secured Notes;
5.50%; 3/15/01 3,325,000 3,287,228
5.80%; 2/1/04 2,200,000 2,190,144
7.03%; 10/31/03 2,275,000 2,392,913
Total PEFCO Certificates 14,749,425
Federal Agency Short-Term Obligations (2.72%)
Federal & Federally Sponsored
Credit (2.72%)
Federal Home Loan Mortgage Corp.;
4.75%; 1/2/98 2,570,000 2,570,000
Total Portfolio Investments (102.15%) 96,354,192
Liabilities, net of cash and receivables (-2.15%) $(2,031,732)
Total Net Assets (100.00%) $94,322,460
<PAGE>
PRINCIPAL GROWTH FUND, INC.
Shares
Held Value
Common Stocks (84.59%)
Advertising (1.22%)
Interpublic Group of Cos., Inc. 41,350 $ 2,059,747
Beverages (1.68%)
Coca-Cola Co. 9,600 639,600
Pepsico, Inc. 59,900 2,182,606
2,822,206
Blast Furnace & Basic Steel
Products (0.57%)
Lukens, Inc. 33,600 959,700
Carpets & Rugs (0.38%)
Shaw Industries, Inc. 54,800 637,050
Cash Grains (1.91%)
Pioneer Hi-Bred International, Inc. 29,900 3,206,775
Commercial Banks (8.45%)
Banc One Corp. 31,000 1,683,688
BankBoston Corp. 22,000 2,066,625
Barnett Banks Inc. 10,900 783,437
Chase Manhattan 15,000 1,642,500
First of America Bank Corp. 19,150 1,476,944
Firstar Corp. 32,700 1,387,706
FirstMerit Corp. 31,800 902,325
NationsBank Corp. 26,602 1,617,734
Norwest Corp. 50,000 1,931,250
Princeton National Bancorp., Inc. 27,300 723,450
14,215,659
Communications Equipment (3.13%)
Commscope, Inc. 27,566(a) 370,418
Lucent Technologies 20,000 1,597,500
Nextlevel Systems 82,700(a) 1,478,263
Northern Telecom Ltd. 20,400 1,815,600
5,261,781
Computer & Data Processing
Services (2.36%)
GTECH Holdings Corp. 52,100(a) 1,663,944
Microsoft Corp. 17,800(a) 2,300,650
3,964,594
Computer & Office Equipment (4.28%)
Automatic Data Processing, Inc. 21,800 1,337,975
Ceridian Corp. 40,800(a) 1,869,150
Digital Equipment Corp. 33,600(a) 1,243,200
Hewlett-Packard Co. 30,000 1,875,000
Pitney Bowes, Inc. 9,600 863,400
7,188,725
Department Stores (1.96%)
Federated Department Stores 40,000(a) $ 1,722,500
May Department Stores 30,000 1,580,625
3,303,125
Drugs (8.35%)
Bristol-Myers Squibb Co. 21,800 2,062,825
Forest Laboratories, Inc. 35,600(a) 1,755,525
Genzyme Corp. - General Division 26,300(a) 729,825
Genzyme Corp. - Tissue Repair 285(a) 1,959
Johnson & Johnson 21,800 1,436,075
Lilly (Eli) & Co. 43,600 3,035,650
Merck & Co., Inc. 15,900 1,689,375
Pharmacia & Upjohn, Inc. 30,000 1,098,750
Smithkline Beecham PLC ADR 43,600 2,242,675
14,052,659
Eating & Drinking Places (1.42%)
Marriott International, Inc. 27,300 1,890,525
McDonald's Corp. 7,600 362,900
Tricon Global Restaurants, Inc. 4,590 133,397
2,386,822
Electrical Goods (0.53%)
Avnet, Inc. 13,600 897,600
Electronic Components &
Accessories (2.96%)
General Semiconductors 20,675(a) 239,055
Intel Corp. 33,800 2,374,450
Linear Technology Corp. 41,200 2,374,150
4,987,655
Electronic Distribution
Equipment (0.48%)
General Electric Co. 10,900 799,788
Federal & Federally Sponsored
Credit (1.02%)
Federal National Mortgage Association 30,000 1,711,875
Fire, Marine, & Casualty
Insurance (1.21%)
Travelers, Inc. 37,798 2,036,367
Footwear, Except Rubber (1.32%)
Stride Rite Corp. 184,700 2,216,400
Forest Products (0.21%)
Georgia Timber Group 15,300 347,119
General Industrial Machinery (2.83%)
Ingersoll-Rand Co. 33,450 1,354,725
Tyco International Ltd. 75,200 3,388,700
4,743,425
Grain Mill Products (1.73%)
General Mills, Inc. 20,000 1,432,500
Ralston-Ralston Purina Group 15,900 1,477,706
2,910,206
Grocery Stores (0.32%)
Casey's General Stores, Inc. 21,200 537,950
Hose, Belting, Gaskets &
Packing (0.87%)
Mark IV Industries 67,025 1,466,172
Hospitals (1.59%)
Humana, Inc. 49,600(a) $ 1,029,200
Universal Health Services, Inc.,
Class B 32,700(a) 1,647,263
2,676,463
Household Furniture (1.15%)
Masco Corp. 38,100 1,938,337
Investment Offices (1.41%)
AMVESCAP PLC Sponsored ADR 27,500 2,371,875
Lumber & Other Building
Materials (1.57%)
Home Depot, Inc. 44,800 2,637,600
Medical Instruments &
Supplies (1.77%)
Becton, Dickinson & Co. 21,800 1,090,000
Boston Scientific Corp. 41,100(a) 1,885,463
2,975,463
Medical Service & Health
Insurance (3.10%)
AON Corp. 19,150 1,122,669
Foundation Health Systems, Inc.,
Class A 90,000(a) 2,013,750
Pacificare Health Systems, Inc.,
Class B 11,011(a) 576,701
United Healthcare Corp. 30,000 1,490,625
5,203,745
Millwork, Plywood & Structural
Members (0.55%)
Georgia-Pacific Corp. 15,300 929,475
Miscellaneous Converted Paper
Products (0.35%)
Minnesota Mining & Mfg. Co. 7,100 582,644
Miscellaneous Fabricated Metal
Products (1.08%)
Parker-Hannifin Corp. 39,750 1,823,531
Miscellaneous Investing (1.72%)
Cendant Corp. 84,108(a) 2,891,213
Miscellaneous Plastics Products,
NEC (0.16%)
Rubbermaid, Inc. 10,900 272,500
Miscellaneous Shopping Goods
Stores (0.40%)
Toys 'R' Us, Inc. 21,500(a) 675,906
Motor Vehicles & Equipment (2.65%)
Chrysler Corp. 65,700 2,311,819
Dana Corp. 45,100 2,142,250
4,454,069
Paints & Allied Products (0.31%)
RPM, Inc. 34,125 520,406
Petroleum Refining (1.79%)
Atlantic Richfield Co. 12,700 1,017,588
Exxon Corp. 32,300 1,976,356
2,993,944
Plastic Materials & Synthetics (0.50%)
A. Schulman, Inc. 33,600 $ 844,200
Preserved Fruits & Vegetables (0.78%)
CPC International, Inc. 12,100 1,303,775
Radio, Television & Computer
Stores (0.23%)
Tandy Corp. 10,000 385,625
Radio & Television
Broadcasting (1.06%)
Sinclair Broadcast Group 38,200(a) 1,781,075
Refrigeration & Service
Machinery (0.49%)
Tecumseh Products Co., Class A 16,800 819,000
Rubber & Plastics Footwear (0.51%)
Nike, Inc. 21,800 855,650
Sanitary Services (0.97%)
Browning-Ferris Industries, Inc. 32,000 1,184,000
Waste Management, Inc. 16,400 451,000
1,635,000
Soap, Cleaners & Toilet Goods (2.78%)
Colgate-Palmolive Co. 25,500 1,874,250
Ecolab, Inc. 50,600 2,805,138
4,679,388
Sugar & Confectionary
Products (1.18%)
Wrigley Wm. Jr. Co. 25,000 1,989,062
Telephone Communications (4.63%)
MCI Communications Corp. 50,000 2,140,625
Motorola, Inc. 29,800 1,700,462
Teleport Communication 45,000(a) 2,469,375
WorldCom, Inc. 49,100(a) 1,485,275
7,795,737
Toys & Sporting Goods (0.87%)
Mattel, Inc. 39,250 1,462,062
Variety Stores (0.38%)
Wal-Mart Stores, Inc. 16,400 646,775
Women's & Children's
Undergarments (1.42%)
Warnaco Group, Class A 76,100 2,387,637
Total Common Stocks 142,245,557
Preferred Stock (0.08%)
Medical Service & Health
Insurance (0.08%)
Pacificare Health Systems, Inc.,
Series A Convertible 6,091 129,434
Principal
Amount Value
Commercial Paper (15.11%)
Business Credit Institutions (4.66%)
American Express Credit Corp.;
6.00%; 1/7/98 $ 600,000 $ 599,500
CIT Group Holdings, Inc. Notes;
6.05%; 1/12/98 7,250,000 7,237,816
7,837,316
Personal Credit Institutions (10.45%)
American General Finance Corp.;
5.85%; 1/5/98 500,000 499,756
Associates First Capital Corp.;
6.17%; 1/7/98 570,000 569,511
Ford Motor Credit Co.;
6.05%; 1/5/98 7,165,000 7,161,388
5.95%; 1/7/98 270,000 269,777
Household Finance Corp.;
6.08%; 1/5/98 695,000 694,648
Investment in Joint Trade Account;
Associates Corp.;
6.75%; 1/2/98 8,380,060 8,380,060
17,575,140
Total Commercial Paper 25,412,456
Total Portfolio Investments (99.78%) 167,787,447
Cash and receivables, net of liabilities (0.22%) 372,946
Total Net Assets (100.00%) $168,160,393
(a) Non-income producing security - No dividend paid during the past twelve
months.
<PAGE>
PRINCIPAL HIGH YIELD FUND, INC.
Principal
Amount Value
Bonds (93.91%)
Advertising (2.67%)
Lamar Advertising Co.
Senior Subordinated Notes;
9.63%; 12/1/06 $200,000 $ 215,250
Outdoor Systems
Senior Subordinated Notes;
8.88%; 6/15/07 200,000 208,000
423,250
Aircraft & Parts (1.94%)
Rohr Industries, Inc. Subordinated
Debentures; 9.25%; 3/1/17 300,000 307,500
Blast Furnace & Basic Steel
Products (3.92%)
Titan Wheel International Senior
Subordinated Notes; 8.75%; 4/1/07 300,000 314,250
Weirton Steel Corp. Senior Notes;
10.75%; 6/1/05 300,000 306,750
621,000
Broadwoven Fabric Mills,
Cotton (1.95%)
J.P. Stevens & Co., Inc. Sinking Fund
Debentures; 9.00%; 3/1/17 $300,000 $ 309,750
Cable & Other Pay TV
Services (2.68%)
Century Communications Senior
Notes; 8.75%; 10/1/07 100,000 102,250
Jones Intercable, Inc. Senior Notes;
9.63%; 3/15/02 300,000 322,500
424,750
Cogeneration - Small Power
Producer (2.55%)
AES Corp. Senior Subordinated
Notes; 8.38%; 8/15/07 200,000 199,500
Calpine Corp. Senior Notes;
8.75%; 7/15/07 200,000(a) 204,000
403,500
Communication Equipment (1.29%)
FWT, Inc. Senior Subordinated Notes;
9.88%; 11/15/07 200,000(a) 205,000
Computer & Data Processing
Services (0.65%)
Decisionone Corp. Senior
Subordinated Notes;
9.75%; 8/1/07 100,000 102,750
Crude Petroleum &
Natural Gas (6.56%)
Chesapeake Energy Corp. Senior Notes;
8.50%; 3/15/12 200,000 198,500
Nuevo Energy Co. Senior Subordinated
Notes; 9.50%; 4/15/06 400,000 426,000
Ocean Energy, Inc. Senior Subordianted
Notes; 8.88%; 7/15/07 200,000 212,000
Snyder Oil Co. Senior Subordinated
Notes; 8.75%; 6/15/07 200,000 203,000
1,039,500
Dairy Farms (1.84%)
Fage Dairy Industry S.A. Senior Notes;
9.00%; 2/1/07 300,000 291,750
Deep Sea Foreign Transportation
of Freight (1.28%)
Trico Marine Services
Senior Notes, Series E;
8.50%; 8/1/05 200,000(a) 202,750
Electrical Industrial Apparatus (1.34%)
Motors & Gears, Inc., Series B Senior
Notes; 10.75%; 11/15/06 200,000 212,500
Electronic Components &
Accessories (4.12%)
Advanced Micro Devices, Inc.;
Senior Secured Notes;
11.00%; 8/1/03 300,000 321,000
Fairchild Semiconductor Corp.
Senior Subordinated Notes;
10.13%; 3/15/07 125,000 132,188
Flextronics International Ltd.
Senior Subordinated Notes;
8.75%; 10/15/07 $200,000(a) $ 198,500
651,688
Engines & Turbines (1.80%)
Outboard Marine Corp. Debentures;
9.13%; 4/15/17 300,000 285,000
Family Clothing Stores (0.64%)
Specialty Retailers, Inc.
Senior Notes;
8.50%; 7/15/05 100,000 102,000
Finance Services (1.32%)
DVI, Inc. Senior Notes;
9.88%; 2/1/04 200,000 208,500
Footwear, Except Rubber (1.32%)
Brown Group, Inc. Senior Notes;
9.50%; 10/15/06 200,000 209,000
Forest Products (1.86%)
Doman Industries, Ltd. Senior Notes;
8.75%; 3/15/04 300,000 294,000
Fuel Dealers (1.88%)
Petroleum Heat & Power Co., Inc.
Subordinated Notes; 10.13%; 4/1/03 300,000 297,000
Groceries & Related Products (1.96%)
Rykoff-Sexton, Inc. Senior
Subordinated Notes; 8.88%; 11/1/03 300,000 309,750
Grocery Stores (1.36%)
Quality Food Centers Senior
Subordinated Notes; 8.70%; 3/15/07 200,000 216,000
Hotels & Motels (3.89%)
HMH Properties, Inc. Senior Notes;
8.88%; 7/15/07 200,000 210,500
John Q. Hammons Hotels, L.P. &
Finance Corp. First Mortgage
Notes; 8.88%; 2/15/04 300,000 306,000
Riviera Holdings Corp. First Mortgage
Notes; 10.00%; 8/15/04 100,000(a) 99,250
615,750
Industrial Inorganic
Chemicals (0.69%)
PT Tri Polyta Indonesia TBK
Guaranteed Secured Notes;
11.38%; 12/1/03 200,000 110,000
Knitting Mills (1.96%)
Tultex Corp. Senior Notes;
10.63%; 3/15/05 300,000 310,500
Miscellaneous Amusement,
Recreation Service (3.30%)
Rio Hotel & Casino, Inc. Senior
Subordinated Notes;
9.50%; 4/15/07 300,000 317,250
Station Casinos, Inc. Senior
Subordinated Notes, Series B
9.63%; 6/1/03 200,000 206,000
523,250
Miscellaneous Electrical Equipment &
Supplies (0.62%)
The DII Group Senior Subordinated
Notes; 8.50%; 9/15/07 $100,000(a) $ 98,000
Miscellaneous Plastics Products,
NEC (1.92%)
Congoleum Corp. Senior Notes;
9.00%; 2/1/01 300,000 303,750
Miscellaneous Shopping Goods
Stores (0.63%)
Zale Corp. Senior Notes;
8.50%; 10/1/07 100,000(a) 100,000
Motion Picture Production &
Services (1.29%)
Viacom, Inc. Guaranteed Senior
Notes; 7.75%; 6/1/05 200,000 204,036
Newspapers (1.31%)
Hollinger International Publishing, Inc.
Senior Notes; 8.63%; 3/15/05 200,000 207,000
Nursing & Personal Care
Facilities (3.25%)
Integrated Health Services, Inc.
Senior Subordinated Notes;
9.25%; 1/15/08 200,000(a) 203,500
Mariner Health Group, Inc. Senior
Subordinated Notes; 9.50%; 4/1/06 300,000 310,500
514,000
Oil & Gas Field Services (2.91%)
Dawson Production Services Senior
Notes; 9.38%; 2/1/07 300,000 316,125
Polysindo International Finance Co.
B.V. Guaranteed Secured Notes;
9.38%; 7/30/07 200,000 144,000
460,125
Paper Mills (1.06%)
Indah Kiat Finance Mauritius Ltd.
Guaranteed Senior Notes;
10.00%; 7/1/07 200,000(a) 168,000
Paperboard Containers &
Boxes (0.16%)
Paperboard Industries International, Inc.
Senior Notes; 8.38%; 9/15/07 25,000(a) 24,750
Petroleum Refining (2.01%)
Crown Central Petroleum Corp.
Senior Notes; 10.88%; 2/1/05 300,000 318,000
Pulp Mills (1.21%)
Pen-Tab Industries, Inc. Senior
Subordinated Debentures;
10.88%; 2/1/07 200,000 192,000
Radio, Television & Computer
Stores (1.93%)
CompUSA, Inc. Senior Subordinated
Notes; 9.50%; 6/15/00 $300,000 $ 306,000
Radio & Television
Broadcasting (2.66%)
American Radio Systems Senior
Subordinated Notes; 9.00%; 2/1/06 300,000 321,000
Antenna TV S.A. Senior Notes;
9.00%; 8/1/07 100,000 100,000
421,000
Retail Stores, NEC (1.35%)
Cole National Group, Inc. Senior
Subordinated Notes;
9.88%; 12/31/06 200,000 214,000
Search & Navigation
Equipment (1.97%)
AMRESCO, Inc. Senior Subordinated
Notes; 10.00%; 3/15/04 300,000 311,250
Soap, Cleaners & Toilet Goods (2.01%)
Coty, Inc. Senior Subordinated Notes;
10.25%; 5/1/05 300,000 318,750
Telephone Communication (8.81%)
Lenfest Communications Senior Notes;
8.38%; 11/1/05 200,000 206,250
Paging Network, Inc. Senior
Debentures; 8.88%; 2/1/06 300,000 294,000
Rogers Cablesystems, Ltd. Senior
Secured Second Priority Notes;
9.63%; 8/1/02 250,000 266,250
Rogers Cantel, Inc. Senior Secured
Debentures; 9.75%; 6/1/16 300,000 320,250
Vanguard Cellular Systems, Inc.
Senior Debentures; 9.38%; 4/15/06 300,000 309,000
1,395,750
Textile Finishing, Except Wool (2.12%)
Dominion Textile (USA), Inc.
Guaranteed Senior Notes;
9.25%; 4/1/06 300,000 335,250
Water Supply (1.92%)
California Energy Casecnan Water &
Energy Co., Inc. Senior Secured
Bonds, Series B; 11.95%; 11/15/10 300,000 304,500
Total Bonds 14,872,599
Commercial Paper (3.67%)
Personal Credit Institutions (3.67%)
Investment in Joint Trade Account;
Associates Corp.; 6.75%; 1/2/98 580,360 580,360
Total Portfolio Investments (97.58%) 15,452,959
Cash and receivables, net of liabilities (2.42%) 383,824
Total Net Assets (100.00%) $15,836,783
(a) Restricted security - See Note 4 to the financial statements.
<PAGE>
PRINCIPAL MONEY MARKET FUND, INC.
Principal
Amount Value
Commercial Paper (79.30%)
Asset Backed Securities (6.43%)
Retailer Funding Corp.;
5.74%; 1/6/98 $ 400,000 $ 399,745
6.05%; 1/7/98 250,000 249,790
Sheffield Receivables Corp.;
5.90%; 1/13/98 550,000 549,009
5.75%; 1/14/98 400,000 399,233
5.90%; 1/23/98 450,000 448,451
5.80%; 2/6/98 1,000,000 994,361
3,040,589
Business Credit Institutions (1.05%)
General Electric Capital Corp.;
5.85%; 1/23/98 500,000 498,294
Commercial Banks (4.89%)
Norwest Corporation;
5.78%; 1/27/98 1,100,000 1,095,585
5.76%; 1/30/98 1,225,000 1,219,512
2,315,097
Computer & Office
Equipment (3.24%)
Xerox Corp.;
5.75%; 2/13/98 1,544,000 1,533,642
Department Stores (4.90%)
Sears Roebuck Acceptance Corp.;
5.81%; 1/16/98 525,000 523,814
5.59%; 1/21/98 900,000 897,345
5.59%; 1/22/98 900,000 897,205
2,318,364
Electric Services (8.34%)
AES Shady Point, Inc.;
LOC Bank of
Tokyo-Mitsubishi, Ltd.;
5.65%; 1/20/98 475,000 473,658
Florida Power Corp.;
6.75%; 1/2/98 1,725,000 1,725,000
5.85%; 1/5/98 500,000 499,756
Wisconsin Power & Light Co.;
5.84%; 1/9/98 1,250,000 1,248,581
3,946,995
Finance Services (4.90%)
Mitsubishi International Corp.;
5.77%; 1/12/98 750,000 748,798
5.73%; 1/13/98 550,000 549,037
5.81%; 1/16/98 525,000 523,814
5.75%; 1/22/98 500,000 498,403
2,320,052
Foreign Banks, Branches &
Agencies (5.11%)
Barclays U.S. Funding Corp.;
5.81%; 1/2/98 350,000 350,000
5.70%; 1/21/98 575,000 573,270
5.70%; 1/26/98 1,500,000 1,494,300
2,417,570
Gas Production & Distribution (3.25%)
Chevron USA, Inc.;
5.65%; 1/28/98 1,275,000 1,269,797
Washington Gas Light Co.;
5.70%; 2/2/98 $ 270,000 $ 268,675
1,538,472
Investment Offices (4.80%)
Morgan Stanley Group, Inc.;
5.72%; 1/12/98 1,250,000 1,248,014
5.72%; 1/13/98 275,000 274,519
5.80%; 1/20/98 750,000 747,825
2,270,358
Mortgage Bankers & Brokers (3.27%)
Countrywide Home Loan, Inc.;
5.87%; 1/6/98 550,000 549,641
5.70%; 1/13/98 500,000 499,129
5.80%; 1/21/98 500,000 498,470
1,547,240
Personal Credit Institutions (16.44%)
Associates First Capital Corp.;
6.17%; 1/2/98 750,000 750,000
5.57%; 1/16/98 275,000 274,404
5.70%; 1/16/98 200,000 199,557
5.76%; 1/28/98 525,000 522,816
Beneficial Corp.;
5.88%; 1/22/98 375,000 373,775
Comoloco, Inc.;
5.70%; 5/29/98 250,000 244,181
5.66%; 6/12/98 500,000 487,344
5.62%; 9/8/98 375,000 360,423
5.62%; 9/15/98 350,000 336,012
Ford Motor Credit Co.;
5.71%; 1/6/98 500,000 499,683
5.95%; 1/7/98 150,000 149,879
5.71%; 1/12/98 225,000 224,643
General Motors Acceptance Corp.;
5.80%; 1/8/98 1,175,000 1,173,864
5.82%; 1/30/98 275,000 273,755
5.56%; 4/3/98 500,000 492,973
5.59%; 5/26/98 400,000 391,056
Transamerica Finance Corp.
5.70%; 1/5/98 1,025,000 1,024,513
7,778,878
Security Brokers & Dealers (9.52%)
Bear Stearns Cos., Inc.;
5.72%; 1/9/98 1,000,000 998,888
Goldman Sachs Group, L.P.;
5.80%; 1/7/98 1,000,000 999,194
5.80%; 1/14/98 700,000 698,646
5.73%; 1/23/98 500,000 498,329
Merrill Lynch & Co., Inc.;
5.70%; 1/14/98 450,000 449,145
5.80%; 2/2/98 500,000 497,503
5.63%; 9/1/98 375,000 360,808
4,502,513
Sugar & Confectionary
Products (2.11%)
Hershey Foods Corp.;
5.80%; 1/29/98 1,000,000 995,650
Telephone Communications (1.05%)
Bell Atlantic Financial Services, Inc.;
5.90%; 1/30/98 500,000 497,705
Total Commercial Paper 37,521,419
Bank Notes (3.27%)
Commercial Banks (3.27%)
Bankboston, N.A.;
5.97%; 10/23/98 $ 250,000 $ 250,000
Morgan Guaranty Trust Co.;
5.93%; 8/31/98 300,000 299,990
Morgan Guaranty Trust Co.
Certificate of Deposit;
5.84%; 7/28/98 1,000,000 999,783
Total Bank Notes 1,549,773
Bonds (17.70%)
Beverages (1.78%)
Coca-Cola Co. Notes;
7.88%; 9/15/98 340,000 344,534
Pepsico, Inc. Notes;
6.13%; 1/15/98 500,000 500,034
844,568
Business Credit Institutions (5.04%)
Associates Corp., N.A. Senior Notes;
8.80%; 8/1/98 125,000 126,885
CIT Group Holdings, Inc.
Debentures; 8.75%; 4/15/98 750,000 755,600
Medium-Term Notes;
5.63%; 4/1/98 500,000 499,580
6.20%; 4/15/98 500,000 500,095
Senior Notes; 5.85%; 3/16/98 500,000 500,189
2,382,349
Consumer Products (1.27%)
Philip Morris Cos. Notes;
6.38%; 1/15/98 600,000 600,069
Electric Services (0.42%)
Southern California Edison Co.
Notes; 5.88%; 2/1/98 200,000 200,008
Finance Services (1.06%)
PHH Corp. Medium-Term
Bonds; 6.00%; 10/27/98 500,000 499,837
Personal Credit Instituons (8.13%)
American General Finance Corp.
Senior Notes; 8.25%; 1/15/98 500,000 500,375
Associates Corp. of North America
Senior Notes;
8.38%; 1/15/98 455,000 455,357
6.38%; 8/15/98 300,000 300,732
5.25%; 9/1/98 350,000 348,355
6.50%; 9/9/98 200,000 200,794
Commercial Credit Co. Notes;
8.50%; 2/15/98 800,000 802,394
5.50%; 5/15/98 600,000 598,690
General Electric Capital Corp. Notes;
8.00%; 1/15/98 200,000 200,123
Norwest Financial, Inc. Senior Notes;
8.50%; 8/15/98 433,000 439,442
3,846,262
Total Bonds 8,373,093
Total Portfolio Investments (100.27%) $47,444,285
Liabilities, net of cash and receivables (-0.27%) (129,367)
Total Net Assets (100.00%) $47,314,918
<PAGE>
PRINCIPAL WORLD FUND, INC.
Shares
Held Value
Common Stocks (88.85%)
Advertising (1.73%)
WPP Group PLC 488,100 $ 2,164,411
Beverages (2.01%)
Lion Nathan 205,000 459,472
Panamerican Beverages ADR 63,100 2,058,637
2,518,109
Blast Furnace & Basic Steel
Products (0.79%)
Voest-Alpine Stahl 25,700(b) 989,333
Central Reserve Depositories (3.88%)
Banco Totta & Acores 39,000 766,659
Dao Heng Bank Group Ltd. 28,500 71,174
National Westminster Bank 156,421 2,598,206
Union Bank of Norway 12,800 456,635
Wing Hang Bank 343,200 970,034
4,862,708
Combination Utility Services (0.81%)
ABB AG 805 1,012,769
Commercial Banks (11.06%)
ABN-AMRO Holdings NV 102,522 1,997,615
Bank of Ireland 186,833 2,868,188
Barclays PLC 64,748 1,720,565
Fokus Bank 64,000(b) 594,667
Instituto Mobiliare Italiano 141,000 1,674,777
National Australia Bank Ltd. 91,986 1,284,405
Royal Bank of Canada Montreal, Quebec 36,000 1,901,862
Svenska Handelsbanken AB Free 56,500 1,819,397
13,861,476
Communications Equipment (0.71%)
ECI Telecommunications Ltd. ADR 35,000 892,500
Communications Services, NEC (0.88%)
KPN Royal PTT Nederland 26,450 1,103,808
Computer & Office Equipment (0.07%)
Canon, Inc. 4,000 93,523
Construction & Related
Machinery (0.46%)
Powerscreen International PLC 58,100 580,757
Consumer Products (2.81%)
Imasco Ltd. 56,101 1,979,778
Imperial Tobacco Group PLC 243,500 1,538,517
3,518,295
Crude Petroleum & Natural
Gas (0.32%)
Hardy Oil & Gas 86,200 $ 405,644
Deap Sea Foreign Transportation
of Freight (0.60%)
Van Ommeren NV 22,288 747,614
Department Stores (0.56%)
Vendex International 12,658 698,703
Drugs (6.08%)
Elan Corp. PLC ADR 34,400(a) 1,760,850
Novartis AG 1,668 2,710,334
Pharmacia & Upjohn, Inc. 46,500 1,703,062
Teva Pharmaceutical ADR 30,600 1,447,763
7,622,009
Electric Light & Wiring
Equipment (0.03%)
Clipsal Industries Holdings 25,000 32,000
Electric Services (0.74%)
Enersis SA ADR 32,000 928,000
Electronic Components &
Accessories (1.29%)
Amtek Engineering 221,250 133,937
Elec & Eltek International 294,800 1,350,184
Murata Mfg. 1,000 25,227
Varitronix 63,000 108,140
1,617,488
Electronic Distribution
Equipment (1.72%)
Phillips Electronics 25,000 1,499,585
Techtronic Industries Co. 2,800,000 650,468
2,150,053
Engines & Turbines (1.79%)
Mabuchi Motor 1,400 71,388
PT United Tractors 285,000 33,714
RHI AG 31,000 1,065,937
Scapa Group PLC 281,000 1,068,047
2,239,086
Farm & Garden Machinery (1.81%)
New Holland NV 86,000 2,273,625
Finance Services (0.04%)
MBF Capital Berhad 195,000 45,339
Functions Closely Related to
Banking (0.61%)
Liechtenstein Global Trust AG 1,225 760,087
Gas Production & Distribution (1.56%)
OMV AG 14,150 1,957,379
General Industrial Machinery (0.60%)
SKF AB 'B' Free 35,300 751,882
Holding Offices (0.38%)
First Pacific Co., Ltd. 978,382 473,517
Hose, Belting, Gaskets &
Packing (0.49%)
Phoenix AG 34,500 $ 614,001
Industrial Inorganic Chemicals (1.74%)
Bayer AG 30,100 1,117,423
Kemira OY 112,000(b) 1,059,226
2,176,649
Investment Offices (1.55%)
AMVESCAP PLC 226,800 1,946,120
Life Insurance (1.20%)
QBE Insurance Group Ltd. 332,685 1,497,205
Meat Products (4.92%)
AFFCO Holdings 1,147,266 253,143
Danisco AS 44,700 2,480,718
Davomas ABADI 780,000 141,951
Orkla B 21,300 1,658,422
Unilever NV 26,520 1,635,239
6,169,473
Metal Services, NEC (0.79%)
Philip Services Corp. ADR 69,000(a) 991,875
Miscellaneous Chemical
Products (1.16%)
Hoechst AG 41,800 1,448,319
Miscellaneous Converted Paper
Products (1.47%)
Bunzl PLC 472,000 1,840,613
Miscellaneous Food & Kindred
Products (1.26%)
Greencore Group PLC 328,000(a) 1,575,901
Miscellaneous Manufacturers (0.22%)
Carter Holt Harvey Ltd. 181,000 279,562
Miscellaneous Non-Durable
Goods (1.58%)
Diageo PLC 215,516 1,980,500
Miscellaneous Textile Goods (0.60%)
Espirit Holdings Ltd. 2,298,000 748,871
Miscellaneous Transportation
Equipment (0.75%)
Autoliv AB 28,700 939,925
Miscellaneous Wood Products (0.14%)
Enso OY 22,300 172,815
Motor Vehicles & Equipment (3.74%)
E.C.I.A. Equipment and Composants 8,300 1,669,420
Hyndai Motor Co. Ltd. GDR 25,000(b) 41,875
Mayflower Corp. PLC 617,000 1,878,145
Swedish Match Co. 284,000 948,532
UMW Holdings Berhad 196,000 148,547
4,686,519
Newspapers (1.05%)
Investec-Consultadoria
Internacional SA 8,600 $ 254,944
Publishing & Broadcasting Ltd. 240,000 1,063,356
1,318,300
Oil & Gas Field Services (1.10%)
ENI SPA 243,000 1,378,561
Petroleum Refining (4.34%)
Repsol Petroleo SA 39,860 1,699,894
Sasol Ltd. 135,000 1,412,043
YPF Sociedad Anonima ADR 68,000 2,324,750
5,436,687
Plastic Materials & Synthetics (1.13%)
Astra AB 84,000 1,413,346
Pulp Mills (2.38%)
Lassila & Tikanoja Ltd. OY 73,200 1,700,455
UPM-Kymmene OY 64,140 1,283,864
2,984,319
Radio & Television
Broadcasting (1.35%)
Carlton Communications PLC 220,000 1,694,106
Security Brokers & Dealers (0.39%)
Peregrine Investment Holdings 685,000(c) 486,238
Peregrine Investment - Warrants 38,800(a)(c) 50
486,288
Soap, Cleaners, & Toilet Goods (2.80%)
Benckiser NV, B Shares 36,150(a) 1,496,125
Reckitt & Colman PLC 127,945 2,011,528
3,507,653
Special Industry Machinery (1.77%)
Cookson Group 565,000 1,817,471
IHC Caland NV 7,700 399,580
2,217,051
Sugar & Confectionary Products (1.85%)
Nestle 1,545 2,318,743
Telephone Communications (5.18%)
Nokia Corp., Class A ADR 23,800 1,666,000
Telecom Corp. of New Zealand Ltd. 289,000 1,401,206
Telecom Italia-DI 260,575 1,149,598
Telefonica de Espana SA 79,700 2,274,672
6,491,476
Trusts (0.03%)
Fairfax Trust 240,000(a) 40,658
Watches, Clocks, Watchcases &
Parts (0.53%)
Tag Heur International SA 7,600(a) 661,753
Total Common Stocks 111,317,404
Preferred Stock (0.92%)
Commercial Banks (0.92%)
National Australia Bank ECU 40,500 1,151,719
Bonds (0.80%)
Fire, Marine & Casualty
Insurance (0.80%)
Alfa SA Convertible Subordinated
Debentures; 8.00%; 9/15/00 $ 700,000(b) $ 1,001,000
Commercial Paper (9.13%)
Asset Backed Securities (2.59%)
CXC Incorporated;
5.97%; 1/5/98 3,250,000 3,248,383
Business Credit Institutions (3.59%)
General Electric Capital Co.;
6.50%; 1/2/98 4,500,000 4,500,000
Personal Credit Institutions (2.95%)
Associates Corp.;
6.12%; 1/12/98 3,700,000 3,693,710
Total Commercial Paper 11,442,093
Total Portfolio Investments (99.70%) 124,912,216
Cash and receivables, net of liabilities (0.30%) 376,558
Total Net Assets (100.00%) $125,288,774
(a) Non-income producing security - No dividend paid during the period.
(b) Restricted security - See Note 4 to the financial statements.
(c) On January 12, 1998 Peregrine Investment Holdings filed a plan of
liquidation.
<PAGE>
Principal World Fund, Inc. Investments by Country
Total Percentage of Total
Country Value Value
Argentina $ 2,324,750 1.86%
Australia 5,037,343 4.03
Austria 4,012,649 3.21
Canada 4,873,515 3.90
Chile 928,000 0.74
Denmark 2,480,718 1.99
Finland 5,882,360 4.71
France 1,669,420 1.34
Germany 3,179,743 2.55
Hong Kong 3,508,491 2.81
Indonesia 175,665 0.14
Israel 2,340,263 1.87
Italy 4,202,936 3.36
Japan 190,138 0.15
Malaysia 193,886 0.16
Mexico 3,059,638 2.45
Netherlands 11,851,895 9.49
New Zealand 2,393,382 1.92
Norway 2,709,724 2.17
Portugal 1,021,603 0.82
Singapore 1,516,121 1.21
South Africa 1,412,043 1.13
South Korea 41,875 0.03
Spain 3,974,566 3.18
Sweden 5,873,081 4.70
Switzerland 7,463,685 5.98
United Kingdom 29,449,570 23.58
United States 13,145,156 10.52
Total $124,912,216 100.00%
<PAGE>
<TABLE>
<CAPTION>
FINANCIAL HIGHLIGHTS
Selected data for a share of Capital Stock outstanding throughout each period:
Income from
Investment Operations Less Distributions
Net Realized
and Excess
Net Asset Net Unrealized Total Dividends Distributions
Value at Invest- Gain from from Net Distributions from
Beginning ment (Loss) on Investment Investment from Capital
of Period Income Investments Operations Income Capital Gains Gains(a)
PRINCIPAL AGGRESSIVE GROWTH FUND INC.
Year Ended December 31,
<S> <C> <C> <C> <C> <C> <C> <C> <C>
1997 $14.52 $.04 $4.26 $4.30 $(.04) $(2.48) $ --
1996 12.94 .11 3.38 3.49 (.11) (1.80) --
1995 10.11 .13 4.31 4.44 (.13) (1.48) --
Period Ended December 31, 1994(d) 9.92 .05 .24 .29 (.05) (.05) --
PRINCIPAL ASSET ALLOCATION FUND, INC.
Year Ended December 31,
1997 11.48 .30 1.72 2.02 (.30) (1.26) --
1996 11.11 .36 1.06 1.42 (.36) (.69) --
1995 9.79 .40 1.62 2.02 (.40) (.30) --
Period Ended December 31, 1994(d) 9.98 .23 (.18) .05 (.23) -- (.01)
PRINCIPAL BALANCED FUND, INC.
Year Ended December 31,
1997 14.44 .46 2.11 2.57 (.45) (1.05) --
1996 13.97 .40 1.41 1.81 (.40) (.94) --
1995 11.95 .45 2.44 2.89 (.45) (.42) --
1994 12.77 .37 (.64) (.27) (.37) (.18) --
1993 12.58 .42 .95 1.37 (.42) (.76) --
PRINCIPAL BOND FUND, INC.
Year Ended December 31,
1997 11.33 .76 .44 1.20 (.75) -- --
1996 11.73 .68 (.40) .28 (.68) -- --
1995 10.12 .62 1.62 2.24 (.63) -- --
1994 11.16 .72 (1.04) (.32) (.72) -- --
1993 10.77 .88 .38 1.26 (.87) -- --
PRINCIPAL CAPITAL ACCUMULATION FUND, INC.
Year Ended December 31,
1997 29.84 .68 7.52 8.20 (.67) (2.76) --
1996 27.80 .57 5.82 6.39 (.58) (3.77) --
1995 23.44 .60 6.69 7.29 (.60) (2.33) --
1994 24.61 .62 (.49) .13 (.61) (.69) --
1993 25.19 .61 1.32 1.93 (.60) (1.91) --
PRINCIPAL EMERGING GROWTH FUND, INC.
Year Ended December 31,
1997 29.74 .24 6.48 6.72 (.23) (.76) --
1996 25.33 .22 5.07 5.29 (.22) (.66) --
1995 19.97 .22 5.57 5.79 (.22) (.21) --
1994 20.79 .14 .03 .17 (.14) (.85) --
1993 18.91 .17 3.47 3.64 (.17) (1.59) --
See accompanying notes.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
FINANCIAL HIGHLIGHTS
Selected data for a share of Capital Stock outstanding throughout each period:
Less Distributions Ratios/Supplemental Data
Ratio of Net
Net Asset Ratio of Investment
Value at Net Assets at Expenses to Income to Portfolio
Total End of Total End of Period Average Average Turnover
Distributions Period Return (in thousands) Net Assets Net Assets Rate
PRINCIPAL AGGRESSIVE GROWTH FUND INC.
Year Ended December 31,
<S> <C> <C> <C> <C> <C> <C> <C> <C>
1997 $(2.52) $16.30 30.86% $149,182 .82% .29% 172.6%
1996 (1.91) 14.52 28.05 90,106 .85 1.05 166.9
1995 (1.61) 12.94 44.19 33,643 .90 1.34 172.9
Period Ended December 31, 1994(d) (.10) 10.11 2.59(b) 13,770 1.03(c) 1.06(c) 105.6(c)
PRINCIPAL ASSET ALLOCATION FUND, INC.
Year Ended December 31,
1997 (1.56) 11.94 18.19 76,804 .89 2.55 131.6
1996 (1.05) 11.48 12.92 61,631 .87 3.45 108.2
1995 (.70) 11.11 20.66 41,074 .89 4.07 47.1
Period Ended December 31, 1994(d) (.24) 9.79 .52(b) 28,041 .95(c) 4.27(c) 60.7(c)
PRINCIPAL BALANCED FUND, INC.
Year Ended December 31,
1997 (1.50) 15.51 17.93 133,827 .61 3.26 69.7
1996 (1.34) 14.44 13.13 93,158 .63 3.45 22.6
1995 (.87) 13.97 24.58 45,403 .66 4.12 25.7
1994 (.55) 11.95 (2.09) 25,043 .69 3.42 31.5
1993 (1.18) 12.77 11.06 21,399 .69 3.30 15.8
PRINCIPAL BOND FUND, INC.
Year Ended December 31,
1997 (.75) 11.78 10.60 81,921 .52 6.85 7.3
1996 (.68) 11.33 2.36 63,387 .53 7.00 1.7
1995 (.63) 11.73 22.17 35,878 .56 7.28 5.9
1994 (.72) 10.12 (2.90) 17,108 .58 7.86 18.2
1993 (.87) 11.16 11.67 14,387 .59 7.57 14.0
PRINCIPAL CAPITAL ACCUMULATION FUND, INC.
Year Ended December 31,
1997 (3.43) 34.61 28.53 285,231 .47 2.13 23.4
1996 (4.35) 29.84 23.50 205,019 .49 2.06 48.5
1995 (2.93) 27.80 31.91 135,640 .51 2.25 49.2
1994 (1.30) 23.44 .49 120,572 .51 2.36 44.5
1993 (2.51) 24.61 7.79 128,515 .51 2.49 25.8
PRINCIPAL EMERGING GROWTH FUND, INC.
Year Ended December 31,
1997 (.99) 35.47 22.75 224,630 .64 .79 7.8
1996 (.88) 29.74 21.11 137,161 .66 1.07 8.8
1995 (.43) 25.33 29.01 58,520 .70 1.23 13.1
1994 (.99) 19.97 .78 23,912 .74 1.15 12.0
1993 (1.76) 20.79 19.28 12,188 .78 .89 22.4
See accompanying notes.
</TABLE>
<PAGE>
FINANCIAL HIGHLIGHTS
Selected data for a share of Capital Stock outstanding throughout each period:
Ratios/Supplemental Data
Average
Commission
Rate
PRINCIPAL AGGRESSIVE GROWTH FUND INC.
Year Ended December 31,
1997 $.0571
1996 .0541
1995 N/A
Period Ended December 31, 1994(d) N/A
PRINCIPAL ASSET ALLOCATION FUND, INC.
Year Ended December 31,
1997 .0569
1996 .0497
1995 N/A
Period Ended December 31, 1994(d) N/A
PRINCIPAL BALANCED FUND, INC.
Year Ended December 31,
1997 .0394
1996 .0417
1995 N/A
1994 N/A
1993 N/A
PRINCIPAL BOND FUND, INC.
Year Ended December 31,
1997 N/A
1996 N/A
1995 N/A
1994 N/A
1993 N/A
PRINCIPAL CAPITAL ACCUMULATION FUND, INC.
Year Ended December 31,
1997 .0451
1996 .0426
1995 N/A
1994 N/A
1993 N/A
PRINCIPAL EMERGING GROWTH FUND, INC.
Year Ended December 31,
1997 .0371
1996 .0379
1995 N/A
1994 N/A
1993 N/A
See accompanying notes.
<PAGE>
<TABLE>
<CAPTION>
FINANCIAL HIGHLIGHTS (Continued)
Income from
Investment Operations Less Distributions
Net Realized
and Excess
Net Asset Net Unrealized Total Dividends Total Distributions
Value at Invest- Gain from from Net Return from Net
Beginning ment (Loss) on Investment Investment of Capital Investment
of Period Income Investments Operations Income Dividends(a) Income(a)
PRINCIPAL GOVERNMENT SECURITIES FUND, INC.
Year Ended December 31,
<S> <C> <C> <C> <C> <C> <C> <C> <C>
1997 $10.31 $.66 $ .41 $1.07 $(.66) $ -- $ --
1996 10.55 .59 (.24) .35 (.59) -- --
1995 9.38 .60 1.18 1.78 (.61) -- --
1994 10.61 .76 (1.24) (.48) (.75) -- --
1993 10.28 .71 .33 1.04 (.71) -- --
PRINCIPAL GROWTH FUND, INC.
Year Ended December 31,
1997 13.79 .18 3.53 3.71 (.18) -- --
1996 12.43 .16 1.39 1.55 (.16) -- --
1995 10.10 .17 2.42 2.59 (.17) -- --
Period Ended December 31, 1994(f) 9.60 .07 .51 .58 (.08) -- --
PRINCIPAL HIGH YIELD FUND, INC.
Year Ended December 31,
1997 8.72 .76 .18 .94 (.76) -- --
1996 8.39 .80 .30 1.10 (.77) -- --
1995 7.91 .76 .51 1.27 (.77) -- (.02)
1994 8.62 .77 (.72) .05 (.76) -- --
1993 8.38 .80 .23 1.03 (.79) -- --
PRINCIPAL MONEY MARKET FUND, INC.
Year Ended December 31,
1997 1.000 .051 -- .051 (.051) -- --
1996 1.000 .049 -- .049 (.049) -- --
1995 1.000 .054 -- .054 (.054) -- --
1994 1.000 .037 -- .037 (.037) -- --
1993 1.000 .027 -- .027 (.027) -- --
PRINCIPAL WORLD FUND, INC.
Year Ended December 31,
1997 13.02 .23 1.35 1.58 (.23) (.02) --
1996 10.72 .22 2.46 2.68 (.22) -- --
1995 9.56 .19 1.16 1.35 (.18) -- --
Period Ended December 31, 1994(f) 9.94 .03 (.33) (.30) (.05) -- (.02)
See accompanying notes.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
FINANCIAL HIGHLIGHTS (Continued)
Less Distributions Ratios/Supplemental Data
Excess Net Asset Ratio of
Distributions Distribution Value at Net Assets at Expenses to
from from Capital Total End of Total End of Period Average
Capital Gains Gains(a) Distributions Period Return (in thousands) Net Assets
PRINCIPAL GOVERNMENT SECURITIES FUND, INC.
Year Ended December 31,
<S> <C> <C> <C> <C> <C> <C> <C> <C>
1997 $-- $ -- $ (.66) $10.72 10.39% $94,322 .52%
1996 -- -- (.59) 10.31 3.35 85,100 .52
1995 -- -- (.61) 10.55 19.07 50,079 .55
1994 -- -- (.75) 9.38 (4.53) 36,121 .56
1993 -- -- (.71) 10.61 10.07 36,659 .55
PRINCIPAL GROWTH FUND, INC.
Year Ended December 31,
1997 (.10) (.01) (.29) 17.21 26.96 168,160 .50
1996 (.03) -- (.19) 13.79 12.51 99,612 .52
1995 (.09) -- (.26) 12.43 25.62 42,708 .58
Period Ended December 31, 1994(f) -- -- (.08) 10.10 5.42(b) 13,086 .75(c)
PRINCIPAL HIGH YIELD FUND, INC.
Year Ended December 31,
1997 -- -- (.76) 8.90 10.75 15,837 .68
1996 -- -- (.77) 8.72 13.13 13,740 .70
1995 -- -- (.79) 8.39 16.08 11,830 .73
1994 -- -- (.76) 7.91 .62 9,697 .73
1993 -- -- (.79) 8.62 12.31 9,576 .74
PRINCIPAL MONEY MARKET FUND, INC.
Year Ended December 31,
1997 -- -- (.051) 1.000 5.04 47,315 .55
1996 -- -- (.049) 1.000 5.07 46,244 .56
1995 -- -- (.054) 1.000 5.59 32,670 .58
1994 -- -- (.037) 1.000 3.76 29,372 .60
1993 -- -- (.027) 1.000 2.69 22,753 .60
PRINCIPAL WORLD FUND, INC.
Year Ended December 31,
1997 (.45) -- (.70) 13.90 12.24 125,289 .87
1996 (.16) -- (.38) 13.02 25.09 71,682 .90
1995 (.01) -- (.19) 10.72 14.17 30,566 .95
Period Ended December 31, 1994(f) (.01) -- (.08) 9.56 (3.37)(b) 13,746 1.24(c)
</TABLE>
<PAGE>
FINANCIAL HIGHLIGHTS
Ratios/Supplement Data
Ratio of Net
Investment
Income to Portfolio Average
Average Turnover Commission
Net Assets Rate Rate(e)
PRINCIPAL GOVERNMENT SECURITIES FUND, INC.
Year Ended December 31,
1997 6.37% 9.0% N/A
1996 6.46 8.4 N/A
1995 6.73 9.8 N/A
1994 7.05 23.2 N/A
1993 7.07 20.4 N/A
PRINCIPAL GROWTH FUND, INC.
Year Ended December 31,
1997 1.34 15.4 $.0366
1996 1.61 2.0 .0401
1995 2.08 6.9 N/A
Period Ended December 31, 1994(f) 2.39(c) 0.9%c) N/A
PRINCIPAL HIGH YIELD FUND, INC.
Year Ended December 31,
1997 8.50 32.0 N/A
1996 9.21 32.0 N/A
1995 9.09 35.1 N/A
1994 9.02 30.6 N/A
1993 8.80 28.7 N/A
PRINCIPAL MONEY MARKET FUND, INC.
Year Ended December 31,
1997 5.12 N/A N/A
1996 5.00 N/A N/A
1995 5.32 N/A N/A
1994 3.81 N/A N/A
1993 2.64 N/A N/A
PRINCIPAL WORLD FUND, INC.
Year Ended December 31,
1997 1.92 22.7 .0199
1996 2.28 12.5 .0120
1995 2.26 15.6 N/A
Period Ended December 31, 1994(f) 1.31(c) 14.4(c) N/A
See accompanying notes.
Notes to Financial Highlights
(a) Dividends and distributions which exceed net investment income and net
realized gains for financial reporting purposes but not for tax purposes
are reported as dividends in excess of net investment income or
distributions in excess of net realized gains on investments. To the extent
distributions exceed current and accumulated earnings and profits for
federal income tax purposes, they are reported as distributions of
paid-in-capital.
(b) Total return amounts have not been annualized.
(c) Computed on an annualized basis.
(d) Period from June 1, 1994, date shares first offered to public, through
December 31, 1994. Net investment income, aggregating $.01 per share for
Principal Aggressive Growth Fund, Inc. and $.01 per share for Principal
Asset Allocation Fund, Inc. for the period from the initial purchase of
shares on May 23, 1994 through May 31, 1994, was recognized, none of which
was distributed to the sole stockholder, Principal Mutual Life Insurance
Company, during the period. Additionally, Principal Aggressive Growth Fund,
Inc. and Principal Asset Allocation Fund, Inc. incurred unrealized losses
on investments of $.09 and $.03 per share, respectively, during the initial
interim period. This represented activities of each fund prior to the
initial public offering of fund shares.
(e) The Principal World Fund, Inc. identified the cost of commissions paid on
purchases and sales of portfolio securities charged in the local currency
of the respective country involved. The value of the commissions are
translated into U.S. dollars at approximate rates when acquired or sold.
This translation can give the appearance that the Principal World Fund,
Inc. average commissions rate is substantially different from the other
funds.
(f) Period from May 1, 1994, date shares first offered to public, through
December 31, 1994. Net investment income, aggregating $.01 per share for
Principal Growth Fund, Inc. and $.04 per share for Principal World Fund,
Inc. for the period from the initial purchase of shares on March 23, 1994
through April 30, 1994, was recognized, none of which was distributed to
the sole stockholder, Principal Mutual Life Insurance Company, during the
period. Additionally, Principal Growth Fund, Inc. and Principal World Fund,
Inc. incurred unrealized losses on investments of $.41 and $.10 per share,
respectively, during the initial interim period. This represented
activities of each fund prior to the initial public offering of fund
shares.
<PAGE>
REPORT OF INDEPENDENT AUDITORS
The Boards of Directors and Shareholders
Principal Aggressive Growth Fund, Inc.
Principal Asset Allocation Fund, Inc.
Principal Balanced Fund, Inc.
Principal Bond Fund, Inc.
Principal Capital Accumulation Fund, Inc.
Principal Emerging Growth Fund, Inc.
Principal Government Securities Fund, Inc.
Principal Growth Fund, Inc.
Principal High Yield Fund, Inc.
Principal Money Market Fund, Inc.
Principal World Fund, Inc.
We have audited the accompanying statements of assets and liabilities, including
the schedules of investments, of Principal Aggressive Growth Fund, Inc.,
Principal Asset Allocation Fund, Inc., Principal Balanced Fund, Inc., Principal
Bond Fund, Inc., Principal Capital Accumulation Fund, Inc., Principal Emerging
Growth Fund, Inc., Principal Government Securities Fund, Inc., Principal Growth
Fund, Inc., Principal High Yield Fund, Inc., Principal Money Market Fund, Inc.,
and Principal World Fund, Inc., as of December 31, 1997, and the related
statements of operations for the year then ended, the statements of changes in
net assets for each of the two years in the period then ended and the financial
highlights for each of the periods indicated therein. These financial statements
and financial highlights are the responsibility of the Funds' management. Our
responsibility is to express an opinion on these financial statements and
financial highlights based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements and financial highlights. Our procedures included confirmation of
securities owned as of December 31, 1997, by correspondence with the custodians
and brokers. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of
Principal Aggressive Growth Fund, Inc., Principal Asset Allocation Fund, Inc.,
Principal Balanced Fund, Inc., Principal Bond Fund, Inc., Principal Capital
Accumulation Fund, Inc., Principal Emerging Growth Fund, Inc., Principal
Government Securities Fund, Inc., Principal Growth Fund, Inc., Principal High
Yield Fund, Inc., Principal Money Market Fund, Inc., and Principal World Fund,
Inc. at December 31, 1997, and the results of their operations for the year then
ended, the changes in their net assets for each of the two years in the period
then ended and the financial highlights for each of the periods indicated
therein, in conformity with generally accepted accounting principles.
/S/ERNST & YOUNG LLP
Des Moines, Iowa
January 16, 1998
<PAGE>
SPECIAL MEETING OF SHAREHOLDERS PRINCIPAL AGGRESSIVE GROWTH FUND, INC.
HELD SEPTEMBER 16, 1997
1. Election of the Board of Directors.
For Withheld
Davis 6,772,393 152,665
Ehrle 6,761,712 163,347
Ferguson 6,774,012 151,046
Gilbert 6,773,378 151,680
Griswell 6,771,258 153,801
Jones 6,777,464 147,594
Keller 6,769,398 155,660
Lukavsky 6,765,761 159,297
Peebler 6,772,299 152,760
2. Ratification of selection of Ernst & Young LLP as independent public
auditors.
In Favor Opposed Abstain
6,647,271 27,026 250,761
3. Approval of change of fund structure. Name changed to Principal Variable
Contract Fund, Inc. Aggressive Growth Account effective 1/1/98.
In Favor Opposed Abstain
6,449,578 103,126 322,355
SPECIAL MEETING OF SHAREHOLDERS PRINCIPAL ASSET ALLOCATION FUND, INC.
HELD SEPTEMBER 16, 1997
1. Election of the Board of Directors.
For Withheld
Davis 5,695,591 30,121
Ehrle 5,682,709 43,003
Ferguson 5,695,591 30,121
Gilbert 5,682,489 43,223
Griswell 5,686,518 39,194
Jones 5,695,591 30,121
Keller 5,691,600 34,113
Lukavsky 5,686,391 39,321
Peebler 5,680,994 44,719
2. Ratification of selection of Ernst & Young LLP as independent public
auditors.
In Favor Opposed Abstain
5,656,348 6,155 63,209
3. Approval of change of fund structure. Name changed to Principal Variable
Contract Fund, Inc. Asset Allocation Account effective 1/1/98.
In Favor Opposed Abstain
5,534,208 90,568 100,936
SPECIAL MEETING OF SHAREHOLDERS PRINCIPAL BALANCED FUND, INC.
HELD SEPTEMBER 16, 1997
1. Election of the Board of Directors.
For Withheld
Davis 7,031,051 180,927
Ehrle 7,019,402 192,575
Ferguson 7,041,259 170,718
Gilbert 7,044,287 167,691
Griswell 7,042,899 169,079
Jones 7,042,104 169,874
Keller 7,023,408 188,570
Lukavsky 7,037,630 174,348
Peebler 7,031,391 180,587
2. Ratification of selection of Ernst & Young LLP as independent public
auditors.
In Favor Opposed Abstain
7,005,644 48,697 157,637
3. Approval of change of fund structure. Name changed to Principal Variable
Contract Fund, Inc. Balanced Account effective 1/1/98.
In Favor Opposed Abstain
6,760,251 123,654 328,072
SPECIAL MEETING OF SHAREHOLDERS PRINCIPAL BOND FUND, INC.
HELD SEPTEMBER 16, 1997
1. Election of the Board of Directors.
For Withheld
Davis 6,130,456 95,320
Ehrle 6,115,736 110,040
Ferguson 6,130,841 94,934
Gilbert 6,114,483 111,293
Griswell 6,130,841 94,934
Jones 6,123,621 102,154
Keller 6,124,863 100,912
Lukavsky 6,124,980 100,795
Peebler 6,125,793 99,983
2. Ratification of selection of Ernst & Young LLP as independent public
auditors.
In Favor Opposed Abstain
6,115,835 34,790 75,151
3. Approval of change of fund structure. Name changed to Principal Variable
Contract Fund, Inc. Bond Account effective 1/1/98.
In Favor Opposed Abstain
5,857,779 208,982 159,015
SPECIAL MEETING OF SHAREHOLDERS PRINCIPAL CAPITAL ACCUMULATION FUND, INC.
HELD SEPTEMBER 16, 1997
1. Election of the Board of Directors.
For Withheld
Davis 7,339,623 129,278
Ehrle 7,313,601 155,299
Ferguson 7,340,841 128,060
Gilbert 7,340,640 128,261
Griswell 7,347,206 121,695
Jones 7,344,301 124,600
Keller 7,344,960 123,941
Lukavsky 7,327,340 141,560
Peebler 7,335,895 133,006
2. Ratification of selection of Ernst & Young LLP as independent public
auditors.
In Favor Opposed Abstain
7,287,315 50,753 130,833
3. Approval of change of fund structure. Name changed to Principal Variable
Contract Fund, Inc. Capital Value Account effective 1/1/98.
In Favor Opposed Abstain
7,045,780 180,804 242,316
4. Approval of elimination of the fundamental investment restriction regarding
the purchase of shares of other investment companies.
In Favor Opposed Abstain
7,052,550 194,550 221,801
5. Approval of elimination of the fundamental investment restriction
prohibiting joint participation in any securities trading account.
In Favor Opposed Abstain
7,033,564 189,251 246,086
6. Approval of change to investment restrictions regarding purchase of
illiquid securities and investment in repurchase agreements, and
reclassification of these restrictions from fundamental to non-fundamental.
In Favor Opposed Abstain
6,745,602 455,544 267,754
SPECIAL MEETING OF SHAREHOLDERS PRINCIPAL EMERGING GROWTH FUND, INC.
HELD SEPTEMBER 16, 1997
1. Election of the Board of Directors.
For Withheld
Davis 5,412,764 87,079
Ehrle 5,405,141 94,699
Ferguson 5,415,939 83,901
Gilbert 5,417,426 82,414
Griswell 5,417,863 81,977
Jones 5,420,913 78,927
Keller 5,417,884 81,956
Lukavsky 5,409,215 90,625
Peebler 5,412,828 87,012
2. Ratification of selection of Ernst & Young LLP as independent public
auditors.
In Favor Opposed Abstain
5,339,041 38,545 122,254
3. Approval of change of fund structure. Name changed to Principal Variable
Contract Fund, Inc. MidCap Account effective 1/1/98.
In Favor Opposed Abstain
5,183,548 122,191 194,101
SPECIAL MEETING OF SHAREHOLDERS PRINCIPAL GOVERNMENT SECURITIES FUND, INC.
HELD SEPTEMBER 16, 1997
1. Election of the Board of Directors.
For Withheld
Davis 7,822,261 109,034
Ehrle 7,809,752 121,542
Ferguson 7,821,375 109,919
Gilbert 7,666,246 265,048
Griswell 7,824,132 107,162
Jones 7,680,346 250,949
Keller 7,680,346 250,949
Lukavsky 7,804,434 126,861
Peebler 7,814,432 116,863
2. Ratification of selection of Ernst & Young LLP as independent public
auditors.
In Favor Opposed Abstain
7,805,147 60,006 66,141
3. Approval of change of fund structure. Name changed to Principal Variable
Contract Fund, Inc. Government Securities Account effective 1/1/98.
In Favor Opposed Abstain
7,562,506 218,677 150,111
4. Approval of elimination of the fundamental investment restriction regarding
the purchase of shares of other investment companies.
In Favor Opposed Abstain
7,429,480 360,691 141,124
5. Approval of elimination of the fundamental investment restriction
prohibiting joint participation in any securities trading account.
In Favor Opposed Abstain
7,436,533 353,433 141,328
6. Approval of change to the fundamental investment restriction with respect
to purchase of securities other than government securities.
In Favor Opposed Abstain
7,504,155 331,893 95,246
SPECIAL MEETING OF SHAREHOLDERS PRINCIPAL GROWTH FUND, INC.
HELD SEPTEMBER 16, 1997
1. Election of the Board of Directors.
For Withheld
Davis 8,394,071 142,382
Ehrle 8,364,573 171,880
Ferguson 8,391,825 144,628
Gilbert 8,396,290 140,163
Griswell 8,397,219 139,234
Jones 8,394,289 142,164
Keller 8,390,043 146,410
Lukavsky 8,376,195 160,258
Peebler 8,380,317 156,137
2. Ratification of selection of Ernst & Young LLP as independent public
auditors.
In Favor Opposed Abstain
8,339,898 49,400 147,155
3. Approval of change of fund structure. Name changed to Principal Variable
Contract Fund, Inc. Growth Account effective 1/1/98.
In Favor Opposed Abstain
8,024,781 232,565 279,107
SPECIAL MEETING OF SHAREHOLDERS PRINCIPAL HIGH YIELD FUND, INC.
HELD SEPTEMBER 16, 1997
1. Election of the Board of Directors.
For Withheld
Davis 1,536,058 45,880
Ehrle 1,536,058 45,880
Ferguson 1,561,979 19,959
Gilbert 1,561,979 19,959
Griswell 1,561,979 19,959
Jones 1,561,979 19,959
Keller 1,561,979 19,959
Lukavsky 1,561,979 19,959
Peebler 1,561,979 19,959
2. Ratification of selection of Ernst & Young LLP as independent public
auditors.
In Favor Opposed Abstain
1,545,224 0 36,714
3. Approval of change of fund structure. Name changed to Principal Variable
Contract Fund, Inc. High Yield Account effective 1/1/98.
In Favor Opposed Abstain
1,485,001 87,699 9,238
SPECIAL MEETING OF SHAREHOLDERS PRINCIPAL MONEY MARKET FUND, INC.
HELD SEPTEMBER 16, 1997
1. Election of the Board of Directors.
For Withheld
Davis 42,302,140 386,652
Ehrle 42,132,552 556,240
Ferguson 42,395,818 292,974
Gilbert 42,242,211 446,581
Griswell 42,398,065 290,727
Jones 42,242,211 446,581
Keller 42,241,105 447,686
Lukavsky 42,370,943 317,849
Peebler 42,273,229 415,562
2. Ratification of selection of Ernst & Young LLP as independent public
auditors.
In Favor Opposed Abstain
41,920,881 345,708 422,204
3. Approval of change of fund structure. Name changed to Principal Variable
Contract Fund, Inc. Money Market Account effective 1/1/98.
In Favor Opposed Abstain
40,961,885 1,144,958 581,948
4. Approval of elimination of the fundamental investment restriction regarding
the purchase of shares of other investment companies.
In Favor Opposed Abstain
40,903,699 1,312,169 472,924
5. Approval of elimination of the fundamental investment restriction
prohibiting joint participation in any securities trading account.
In Favor Opposed Abstain
40,633,345 1,111,963 943,484
6. Approval of change to the fundamental investment restriction with respect
to diversification requirements.
In Favor Opposed Abstain
40,453,876 1,724,711 510,205
7. Approval of change to the fundamental investment restriction with respect
to purchase of securities of a single issuer.
In Favor Opposed Abstain
40,423,874 1,703,641 534,278
8. Approval of change to the fundamental investment restriction prohibiting
the purchase of restricted securities.
In Favor Opposed Abstain
40,329,737 1,806,422 552,633
SPECIAL MEETING OF SHAREHOLDERS PRINCIPAL WORLD FUND, INC.
HELD SEPTEMBER 16, 1997
1. Election of the Board of Directors.
For Withheld
Davis 7,146,215 138,622
Ehrle 7,127,024 157,814
Ferguson 7,133,164 151,673
Gilbert 7,132,327 152,511
Griswell 7,143,716 141,122
Jones 7,137,003 147,835
Keller 7,137,003 147,835
Lukavsky 7,134,739 150,099
Peebler 7,127,675 157,163
2. Ratification of selection of Ernst & Young LLP as independent public
auditors.
In Favor Opposed Abstain
6,982,470 35,609 266,758
3. Approval of change of fund structure. Name changed to Principal Variable
Contract Fund, Inc. International Account effective 1/1/98.
In Favor Opposed Abstain
6,766,206 166,459 352,172
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.
<TABLE> <S> <C>
<ARTICLE> 6
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> DEC-31-1997
<INVESTMENTS-AT-COST> 65945023
<INVESTMENTS-AT-VALUE> 71997444
<RECEIVABLES> 1723907
<ASSETS-OTHER> 0
<OTHER-ITEMS-ASSETS> 3762667
<TOTAL-ASSETS> 77484018
<PAYABLE-FOR-SECURITIES> 618837
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 60737
<TOTAL-LIABILITIES> 679574
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 69780037
<SHARES-COMMON-STOCK> 6434402
<SHARES-COMMON-PRIOR> 5369370
<ACCUMULATED-NII-CURRENT> 26450
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> 945536
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> 6052421
<NET-ASSETS> 76804444
<DIVIDEND-INCOME> 1031755
<INTEREST-INCOME> 1407596
<OTHER-INCOME> 0
<EXPENSES-NET> (632422)
<NET-INVESTMENT-INCOME> 1806929
<REALIZED-GAINS-CURRENT> 7276506
<APPREC-INCREASE-CURRENT> 2460767
<NET-CHANGE-FROM-OPS> 11544202
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> (1780479)
<DISTRIBUTIONS-OF-GAINS> (7456569)
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 1086950
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