PRINCIPAL VARIABLE CONTRACTS FUND INC, 497, 1999-05-04

PRINCIPAL VARIABLE CONTRACTS FUND INC
497, 1999-05-04

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PRINCIPAL VARIABLE CONTRACTS FUND, INC.

ACCOUNTS OF THE FUND

Blue Chip Account
Bond Account
Capital Value Account
International Account
LargeCap Growth Account
MidCap Account
MidCap Growth Account
MidCap Value Account
Money Market Account
SmallCap Account
SmallCap Growth Account
Stock Index 500 Account

This Prospectus describes a mutual fund organized by Principal Life Insurance
Company. The Fund provides a choice of investment objectives through the
accounts listed above.

The date of this Prospectus is May 1, 1999.

Neither the Securities and Exchange Commission nor any State Securities
Commission has approved or disapproved of these securities or determined if
this prospectus is accurate or complete. Any representation to the contrary
is a criminal offense.

TABLE OF CONTENTS

ACCOUNT DESCRIPTIONS .................................................. 4
Annual operating expenses.......................................... 4
Principal investment strategy...................................... 4
Day-to-day Account management...................................... 4
Account Performance................................................ 5

Blue Chip Account.................................................. 6
Bond Account....................................................... 8
Capital Value Account.............................................. 10
International Account.............................................. 12
LargeCap Growth Account............................................ 14
MidCap Account..................................................... 16
MidCap Growth Account.............................................. 18
MidCap Value Account............................................... 20
Money Market Account............................................... 22
SmallCap Account................................................... 24
SmallCap Growth Account............................................ 26
Stock Index 500 Account............................................ 28

CERTAIN INVESTMENT STRATEGIES AND RELATED RISKS......................... 30

PRICING OF ACCOUNT SHARES............................................... 34

DIVIDENDS AND DISTRIBUTIONS............................................. 35
Growth-Oriented and Income-Oriented Accounts....................... 35
Money Market Account............................................... 35

MANAGEMENT, ORGANIZATION AND CAPITAL STRUCTURE.......................... 36
The Manager........................................................ 36
The Sub-Advisors................................................... 36

GENERAL INFORMATION ABOUT AN ACCOUNT.................................... 38
Shareholders Rights................................................ 38
Purchase of Account Shares......................................... 39
Sale of Account Shares............................................. 39
Year 2000 Readiness Disclosure..................................... 40
Financial Statements............................................... 41

FINANCIAL HIGHLIGHTS.................................................... 42
Notes to Financial Highlights...................................... 46

ACCOUNT DESCRIPTIONS

The Principal Variable Contracts Fund is made up of several different Accounts.
Each Account has its own investment objective.

In the description for each Account, you will find important information about
the Account's:

Annual operating expenses
The annual operating expenses for each Account are deducted from Account assets
(stated as a percentage of Account assets) and are shown as of the end of the
most recent fiscal year. Estimates of the expenses are shown for the new
Accounts. The example is intended to help you compare the cost of investing in a
particular Account with the cost of investing in other mutual funds. The example
assumes you invest $10,000 in an Account for the time periods indicated. The
example also assumes that your investment has a 5% total return each year and
that the Account's operating expenses are the same as the most recent fiscal
year expenses (or estimated expenses for a new Account). Although your actual
costs may be higher or lower, based on these assumptions, your costs would be as
shown.

Principal investment strategy
This section summarizes how the Account intends to achieve its investment
objective. It identifies the Account's principal investment strategy (including
the type or types of securities in which the Account invests) and any policy to
concentrate in securities of issuers in a particular industry or group of
industries.

Day-to-day Account management
The people who manage the assets of each Account are listed with each Account.
Backed by their staffs of experienced securities analysts, they provide the
Accounts with professional investment management.

Principal Management Corporation serves as the manager for the Principal
Variable Contracts Fund. It has signed contracts with various Sub-Advisors under
which the Sub-Advisor provides portfolio management for certain Accounts (see
Management, Organization and Capital Structure).

Sub-Advisor Account
Berger ..Associates ("Berger") SmallCap Growth
Dreyfus Corporation ("Dreyfus") MidCap Growth
Invista Capital Management, LLC Blue Chip, Capital Value, International,
("Invista") MidCap, SmallCap, and Stock Index 500
Janus Capital Corporation ("Janus") LargeCap Growth
Neuberger Berman Management Inc. MidCap Value
.........("Neuberger Berman")

Account Performance
Included in most Account descriptions is a set of tables and a bar chart. As
certain Accounts have not been offered before, no historical information is
available for those Accounts. If historical data is available, the bar chart is
included to provide you with an indication of the risks involved when you
invest. The chart shows changes in the Account's performance from year to year.
As Account shares are sold without a sales charge, the performance reflected in
the chart does not include a sales charge.

If historical information is available for the Account, a table is also included
that compares the Account's average annual total returns for 1, 5 and 10 years
with a broad based securities market index and an average of mutual funds with a
similar investment objective and management style. If the Account has not been
in existence for 10 years, the information provided covers the life of the
Account. The averages used are prepared by Lipper, Inc. (an independent
statistical service). Another table for each Account provides the highest and
lowest quarterly return for that Account's shares during the last 10 years or a
shorter period if the Account has been in existence for less than 10 years.

An Account's past performance is not necessarily an indication of how the
Account will perform in the future.

You may call Principal Mutual Funds (1-800-247-4123) to get the current 7-day
yield for the Money Market Account.

Note: Investments in the Accounts are not deposits of a bank and are not insured
or guaranteed by the FDIC or any other government agency.

GROWTH-ORIENTED ACCOUNT

Blue Chip Account

The Blue Chip Account seeks to achieve growth of capital and growth of income.
It invests primarily in common stocks of well-capitalized, established
companies. The Sub-Advisor, Invista, selects the companies it believes to have
the potential for growth of capital, earnings and dividends. Under normal market
conditions, the Account invests at least 65% (and may invest up to 100%) of its
assets in blue chip companies. Blue chip companies are easily identified by:
o size (market capitalization of at least $1 billion)
o good industry position
o established history of earnings and dividends
o superior management structure
o easy access to credit

In addition, the large market of publicly held shares for these companies and
their generally high trading volume results in a relatively high degree of
liquidity for these stocks.

Invista may invest up to 35% of Account assets in equity securities, other than
common stocks, issued by blue chip companies and in equity securities of
companies that do not fit the blue chip definition. It may also invest up to 5%
of Account assets in securities of unseasoned issuers. Unseasoned issuers may be
developing or marketing new products or services for which markets are not yet
established and may never become established. While small, unseasoned companies
may offer greater opportunities for capital growth than larger, more established
companies, they also involve greater risks and should be considered speculative.

Up to 20% of Account assets may be invested in foreign securities. The issuers
of the foreign securities do not have to meet the criteria for blue chip
companies. Foreign stocks carry risks that are not generally found in stocks of
U.S. companies. These include the risk that a foreign security could lose value
as a result of political, financial and economic events in foreign countries. In
addition, foreign securities may be subject securities regulators with less
stringent accounting and disclosure standards than are required of U.S.
companies.

While stocks have historically been a leading choice of long-term investors,
they do fluctuate in price. The value of the stocks owned by the Account changes
on a daily basis. The current price reflects the activities of individual
companies and general market and economic conditions. In the short-term, stock
prices can fluctuate dramatically in response to these factors. As a result, the
value of your investment in the Account will go up and down. If you sell your
shares when their value is less than the price you paid, you will lose money.
Because different types of stocks tend to shift in and out of favor depending on
market and economic conditions, the Account's performance may sometimes be lower
or higher than that of other types of funds.

The Blue Chip Account is generally a suitable investment for investors seeking
long-term growth who are willing to accept the risks of investing in common
stocks but who prefer investing in larger, established companies.

Account Performance Information

The example shown below assumes 1) an investment of $10,000, 2) a 5% annual
return and 3) that expenses are the same as the most recent fiscal year
expenses.

- --------------------------------------------------------------------------------
Fund Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees...................... 0.60% $92 $288 N/A N/A
Other Expenses....................... 0.30%
-----
Total Account Operating Expenses 0.90%*

* Estimated
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since May 1999 Mark T. Williams, Portfolio Manager of Invista
(Account's inception) Capital Management, LLC since 1991.

INCOME-ORIENTED ACCOUNT

Bond Account

The Bond Account seeks to provide as high a level of income as is consistent
with preservation of capital and prudent investment risk. It invests in
fixed-income securities. Generally, the Account invests on a long-term basis but
may make short-term investments. Longer maturities typically provide better
yields but expose the Account to the possibility of changes in the values of its
securities as interest rates change. Generally, when interest rates fall, the
price per share rises, and when rates rise, the price per share declines.

The Bond Account has a rating limitation with regard to the quality of the bonds
that are held in its portfolio. The rating limitation applies when the Account
purchases a bond. If the rating on a bond changes while the Account owns it, the
Account is not required to sell the bond. The Statement of Additional
Information ("SAI") contains additional information about bond ratings by
Moody's Investors Service, Inc. ("Moody's") and Standard & Poor's Corporation
("S&P").

Under normal circumstances, the Account invests at least 65% of its assets in:
o debt securities and taxable municipal bonds;
o rated, at purchase, in one of the top four categories by S&P or Moody's, or
o if not rated, in the Manager's opinion are of comparable quality.
o similar Canadian, Provincial or Federal Government securities payable in
U.S. dollars; and
o securities issued or guaranteed by the U.S. Government or its agencies.

The rest of the Account's assets may be invested in securities that may be
convertible (may be exchanged for a fixed number of shares of common stock of
the same issuer) or nonconvertible including:
o domestic and foreign debt securities;
o preferred and common stock;
o foreign government securities; and
o securities rated less than the four highest grades of S&P or Moody's but
not lower BB- (S&P) or Ba3 (Moody's). Fixed income securities that are not
investment grade are commonly referred to as junk bonds or high yield
securities. These securities offer a higher yield than other, higher rated
securities, but they carry a greater degree of risk and are considered
speculative by the major credit rating agencies.

Under unusual market or economic conditions, the Account may invest up to 100%
of its assets in cash and cash equivalents. When doing so, the Account is not
investing to achieve its investment objectives.

The Bond Account is generally a suitable investment for an investor seeking
monthly dividends to produce income or to be reinvested in additional Account
shares to help achieve modest growth objectives without accepting the risks of
investing in common stocks. However, when interest rates fall, the price of a
bond rises and when interest rates rise, the price declines. In addition, the
value of the securities held by the Account may be affected by factors such as
credit rating of the entity that issued the bond and effective maturities of the
bond. Lower quality and longer maturity bonds will be subject to greater credit
risk and price fluctuations than higher quality and shorter maturity bonds. As
with all mutual funds, if you sell your shares when their value is less than the
price you paid, you will lose money.

Account Performance Information

------------------------------- ----------------------------------------
Annual Total Return Highest & lowest
------------------------------- quarterly total returns
1989 13.86% 1995 22.17% for the last 10 years
1990 5.22% 1996 2.36% ----------------------------------------
1991 16.72% 1997 10.60% Quarter Ended Return
1992 9.38% 1998 7.69% ----------------------------------------
1993 11.67% 6/30/89 8.76%
1994 -2.90% 9/30/96 (3.24%)
----------------------------------------
Calendar Years Ended December 31
---------------------------------------------
Average annual total returns
for the period ending December 31, 1998
---------------------------------------------
Past One Past Five Past Ten
Year Years Years
-------- --------- --------
Bond Account 7.69% 7.66% 9.46%

Lehman Brothers
BAA Corporate
Index 6.96 7.34 9.25
Lipper Corporate
Debt BBB Rated
Fund Average 6.25 7.00 9.19
---------------------------------------------

The bar chart and tables shown above provide some indication of the risks
of investing in the Account by showing changes in the Account's
performance from year to year and by showing how the Account's average
annual returns for compare with those of a broad measure of market
performance. The example shown below assumes 1) an investment of $10,000,
2) a 5% annual return and 3) that expenses are the same as the most
recent fiscal year expenses.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.49% $52 $164 $285 $640
Other Expenses........................ 0.02%
-----
Total Account Operating Expenses 0.51%
- --------------------------------------------------------------------------------

During the fiscal year ended December 31, 1998, the average ratings of the
Account's assets based on markte value at each mont-end, were as follows (all
ratings are by Moody's):

2.08% in securities rated Aaa
2.78% in securities rated Aa
24.00% in securities rated A
64.55% in securities rated Baa
6.59% in securities rated Ba

Day-to-day Account management:
Since November 1996 Scott A. Bennett, CFA. Assistant Director - Securities
Investment of Principal Capital Management LLC since
1996. Prior thereto, Investment Manager.

GROWTH-ORIENTED ACCOUNT

Capital Value Account

The Capital Value Account seeks to provide long-term capital appreciation and
secondarily growth of investment income. It invests primarily in common stocks
and may also invest in other equity securities. To achieve its investment
objective, the Sub-Advisor, Invista, invests in securities that have "value"
characteristics. This process is known as "value investing." Value stocks tend
to have higher yields and lower price to earnings (P/E) ratios than other
stocks.

Securities chosen for investment may include those of companies that Invista
believes can be expected to share in the growth of the nation's economy over the
long term. The current price of the Account's assets reflects the activities of
the individual companies and general market and economic conditions. In the
short term, stock prices can fluctuate dramatically in response to these
factors. Because of these fluctuations, principal values and investment returns
vary.

In making selections for the Account's investment portfolio, Invista uses an
approach described as "fundamental analysis." The basic steps are involved in
this analysis are:

o Research. Invista researches economic prospects over the next one to two
years rather than focusing on near term expectations. This approach is
designed to provide insight into a company's real growth potential.

o Valuation. The research findings allow Invista to identify the prospects
for the major industrial, commercial and financial segments of the economy.
Invista looks 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. It then uses this information to judge the prospects for each
industry for the near and intermediate term.

o Ranking. Invista then ranks the companies in each industry group according
to their relative value. The greater a company's estimated worth compared
to the current market price of its stock, the more undervalued the company.
Computer models help to quantify the research findings.

o Stock selection. Invista buys and sells stocks according to the Account's
own policies using the research and valuation ranking as a basis. In
general, Invista buys stocks that are identified as undervalued and
considers selling them when they appear overvalued. Along with attractive
valuation, other factors may be taken into account such as:
o events that could cause a stock's price to rise or fall;
o anticipation of high potential reward compared to potential risk; and
o belief that a stock is temporarily mispriced because of market
overreactions.

The Capital Value Account is generally a suitable investment for investors
seeking long-term growth who are willing to accept the risks of investing in
common stocks but also prefer investing in companies that appear to be
considered undervalued relative to similar companies. As with all mutual funds,
if you sell shares when their value is less than the price you paid, you will
lose money.

Account Performance Information

---------------------------------- -----------------------------------
Annual Total Returns Highest & lowest
---------------------------------- quarterly total returns
1989 16.18% 1994 0.49% for the last 10 years
1990 -9.86% 1995 31.91% -----------------------------------
1991 38.67% 1996 23.50% Quarter Ended Return
1992 9.52% 1997 28.53% -----------------------------------
1993 7.79% 1998 13.58% 3/31/91 17.85%
Calendar Years Ended December 31 9/30/90 (17.01%)
-----------------------------------
-----------------------------------------------------
Average annual total return
for the period ending December 31, 1998
-----------------------------------------------------
Past One Past Five Past Ten
Year Years Years
-------- -------- --------
Capital Value Account 13.58% 19.03% 15.15%

S&P 500 Stock Index 28.58 24.06 19.21
Lipper Growth and Income
Fund Average 15.61 18.53 15.76
-----------------------------------------------------

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.43% $45 $141 $246 $555
Other Expenses........................ 0.01%
-----
Total Account Operating Expenses 0.44%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since November 1996 Catherine A. Zaharis, CFA. Portfolio Manager of
Invista Capital Management, LLC since 1987.

GROWTH-ORIENTED ACCOUNT

International Account

The International Account seeks to provide long-term growth of capital by
investing in a portfolio of equity securities of companies domiciled in any of
the nations of the world. The Account has no limitation on the percentage of
assets that are invested in any one country or denominated in any one currency.
However under normal market conditions, the Account intends to have at least 65%
of its assets invested in companies of at least three countries. One of those
countries may be the U.S. though currently the Account does not intend to invest
in equity securities of U.S. companies.

Under unusual market or economic conditions, the Account may invest in
securities issued by domestic or foreign corporations, governments or
governmental agencies, instrumentalities or political subdivisions. The
securities may be denominated in U.S. dollars or other currencies.

Investments may be made anywhere in the world. Primary consideration is given to
securities of corporations of Western Europe, North America and Australasia
(Australia, Japan and Far East Asia). Changes in investments are made as
prospects change for particular countries, industries or companies.

In choosing investments for the Account, the Sub-Advisor, Invista, pays
particular attention to the long-term earnings prospects of the various
companies under consideration. Invista then weighs those prospects relative to
the price of the security.

The values of the stocks owned by the Account change on a daily basis. Stock
prices reflect the activities of individual companies as well as general market
and economic conditions. In the short term, stock prices and currencies can
fluctuate dramatically in response to these factors. In addition, there are
risks involved with any investment in foreign securities that are not generally
found in stocks of U.S. companies. These include the risk that a foreign
security could lose value as a result of political, financial and economic
events in foreign countries. In addition, foreign securities may be subject to
securities regulators with less stringent accounting and disclosure standards
than are required of U.S. companies.

The International Account is generally a suitable investment for investors who
seek long-term growth and who want to invest in non-U.S. companies. This Account
is not an appropriate investment for investors who are seeking either
preservation of capital or high current income. Suitable investors must be able
to assume the increased risks of higher price volatility and currency
fluctuations associated with investments in international stocks which trade in
non-U.S. currencies. As with all mutual funds, the value of the Account's assets
may rise or fall. If you sell your shares when their value is less than the
price you paid, you will lose money.

Account Performance Information

------------------------------- ----------------------------------------
Annual Total Return Highest & lowest
------------------------------- quarterly total returns
1995 14.17% for the last 5 years
1996 25.09% ----------------------------------------
1997 12.24% Quarter Ended Return
1998 9.98% ----------------------------------------
12/31/98 16.60%
9/30/98 (17.11%)
----------------------------------------
Calendar Years Ended December 31
----------------------------------------------
Average annual total returns
for the period ending December 31, 1989
----------------------------------------------
Past One Past Five
Year Years
-------- ---------
International Account 9.98% 12.09%*

Morgan Stanley Capital
International EAFE
(Europe, Australia and
Far East) Index 20.00 9.19
Lipper International Fund
Average 13.02 7.87
----------------------------------------------
* Period from May 1, 1994, date first
offered to the public, through
December 31, 1998.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.73% $79 $246 $428 $954
Other Expenses........................ 0.04%
-----
Total Account Operating Expenses 0.77%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since April 1994 Scott D. Opsal, CFA. Executive Vice President and
Chief Investment Officer of Invista Capital Management,
LLC since 1997. Vice President, 1986-1997.

GROWTH-ORIENTED ACCOUNT

LargeCap Growth Account

The LargeCap Growth Account seeks long-term growth of capital. It primarily
invests in stocks of growth-oriented companies. Under normal market conditions,
the Account invests at least 65% of its total assets in common stocks of growth
companies with a large market capitalization, generally greater than $10 billion
measured at the time of investment. The Sub-Advisor, Janus, selects stocks for
the Account's portfolio when it believes that the market environment favors
investment in those securities. Common stock investments are selected in
industries and companies that Janus believes are experiencing favorable demand
for their products and services or are operating in a favorable environment from
a competitive and regulatory standpoint.

Janus uses a bottom-up approach in building the portfolio.This approach seeks to
identify individual companies with earnings growth potential that may not be
recognized by the market at large. Although themes may emerge in the Account,
securities are generally selected without regard to any defined industry sector
or other similarly defined selection procedure.

It is the policy of the Account to purchase and hold securities for capital
growth. If Janus is satisfied with the performance of a security and anticipates
continued appreciation, the Account will generally retain the security. However,
changes in the Account are made if Janus believes they are advisable. This may
occur if a security reaches a price objective or if a change is warranted by
developments that were not foreseen at the time of the decision to buy the
security. Since investment decisions generally are made without reference to the
length of time the Account has held a security, a significant number of
short-term transactions may result. To a limited extent, the Account may also
purchase a security in anticipation of relatively short-term price gain. To the
extent that the Account engages in short-term trading, it may have increased
transaction costs.

Although Janus expects that under normal market conditions the assets of the
Account will be invested in common stocks, it may also invest in other
securities when Janus perceives an opportunity for capital growth from such
securities or to receive a return on idle cash. These may include: U.S.
Government obligations, corporate bonds and debentures, high grade commercial
paper, preferred stocks, convertible securities, warrants or other securities of
U.S. issuers. Pursuant to an exemptive order that Janus has received from the
SEC, the Account may also invest in money market funds managed by Janus as a
means of receiving a return on idle cash. The Account's cash position may
increase when Janus is unable to locate investment opportunities that it
believes have desirable risk/reward characteristics.

The Account may invest up to 5% of its assets in high-yield/high-risk bonds.
Such securities are sometimes referred to as "junk bonds" and are considered
speculative. These securities offer a higher yield than other, higher rated
securities, but they carry a greater degree of risk and are considered
speculative by the major credit rating agencies. The Account may also invest up
to 25% of its assets in securities of foreign companies. Foreign stocks carry
risks that are not generally found in stocks of U.S. companies. These include
the risk that a foreign security could lose value as a result of political,
financial and economic events in foreign countries. In addition, foreign
securities may be subject securities regulators with less stringent accounting
and disclosure standards than are required of U.S. companies.

The LargeCap Growth Account is designed for long-term investors for a portion of
their investments. It is not designed for investors seeking income or
conservation of capital.

Account Performance Information

The example shown below assumes 1) an investment of $10,000, 2) a 5%
annual return and 3) that expenses are the same as the most recent fiscal
year expenses.

- --------------------------------------------------------------------------------
*Estimated (Manager has agreed to reimburse
operating expenses so that total Account
operating expenses will not be greater than
1.20% for 1999.)

Day-to-day Account management:
Since April 1999 E. Marc Pinto, Vice President Janus Capital
(Account's inception) Corporation since 1994. Prior to that, Mr. Pinto was
employed by a family firm and as an Associate in the
Investment Banking Division of Goldman Sachs.

GROWTH-ORIENTED ACCOUNT

MidCap Account

The MidCap Account seeks to achieve capital appreciation by investing primarily
in securities of emerging and other growth-oriented companies. It primarily
invests in stocks of growth-oriented companies. Stocks that are chosen for the
Account by the Sub-Advisor, Invista, are thought to be responsive to changes in
the marketplace and have the fundamental characteristics to support growth. The
Account may invest for any period in any industry, in any kind of
growth-oriented company. Companies may range from well established, well known
to new and unseasoned. While small, unseasoned companies may offer greater
opportunities for capital growth than larger, more established companies, they
also involve greater risks and should be considered speculative.

Under normal market conditions, the Account invests at least 65% of its assets
in securities of companies with market capitalizations in the $1 billion to $10
billion range. Market capitalization is defined as total current market value of
a company's outstanding common stock.

The Account may invest up to 20% of its assets in securities of foreign
companies. Foreign stocks carry risks that are not generally found in stocks of
U.S. companies. These include the risk that a foreign security could lose value
as a result of political, financial and economic events in foreign countries. In
addition, foreign securities may be subject to securities regulators with less
stringent accounting and disclosure standards than are required of U.S.
companies.

The values of the stocks owned by the Account change on a daily basis. The
current share price reflects the activities of individual companies and general
market and economic conditions. The Account's share price may fluctuate more
than that of funds primarily invested in stocks of large companies. Mid-sized
companies may pose greater risk due to narrow product lines, limited financial
resources, less depth in management or a limited trading market for their
stocks. In the short term, stock prices can fluctuate dramatically in response
to these factors. Because of these fluctuations, principal values and investment
returns vary. As with all mutual funds, if you sell your shares when their value
is less than the price you paid, you will lose money.

The MidCap Account is generally a suitable investment for investors seeking
long-term growth and who are willing to accept the potential for short-term
fluctuations in the value of their investments. The Account is designed for
long-term investors for a portion of their investments and not designed for
investors seeking income or conservation of capital.

Account Performance Information

---------------------------------- -----------------------------------
Annual Total Returns Highest & lowest
---------------------------------- quarterly total returns
1989 21.84% 1994 0.78% for the last 10 years
1990 -12.50% 1995 29.01% -----------------------------------
1991 53.50% 1996 21.11% Quarter Ended Return
1992 14.94% 1997 22.75% -----------------------------------
1993 19.28% 1998 3.69% 3/31/91 25.86%
Calendar Years Ended December 31 9/30/90 (26.61%)
-----------------------------------
-----------------------------------------------------
Average annual total return
for the period ending December 31, 1998
-----------------------------------------------------
Past One Past Five Past Ten
Year Years Years
-------- -------- --------
MidCap Account 3.69% 14.92% 16.22%

S&P 500 Stock Index 28.58 24.06 19.21
Lipper Mid-Cap Fund Average 12.16 15.18 15.83
-----------------------------------------------------

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.61% $63 $199 $346 $774
Other Expenses........................ 0.01%
-----
Total Account Operating Expenses 0.62%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since December 1987 Michael R. Hamilton, Portfolio Manager of Invista
(Account's inception) Capital Management, LLC since 1987.

GROWTH-ORIENTED ACCOUNT

MidCap Growth Account

The MidCap Growth Account seeks long-term growth of capital. It invests
primarily 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:
o are in fast growing industries;
o offer superior earnings growth potential, and
o are characterized by strong balance sheets and high returns on equity.

Because companies in this market are smaller, prices of their stocks tend to be
more volatile than stocks of companies with larger capitalizations. Smaller
companies may be developing or marketing new products or services for which
markets are not yet established and may never become established. While small,
unseasoned companies may offer greater opportunities for capital growth than
larger, more established companies, they also involve greater risks and should
be considered speculative. The Account may also hold investments in large and
small capitalization companies, including emerging and cyclical growth
companies.

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
Standard & Poor's MidCap 400 Index (S&P MidCap). While it may maintain
investment characteristics similar to the S&P MidCap, the Account seeks to
invest in companies that in the aggregate will provide a higher total return
than the S&P MidCap. The Account is not an index fund and does not limit its
investments to the securities of issuers in the S&P MidCap.

Dreyfus uses valuation models designed to identify common stocks of companies
that have demonstrated consistent earnings momentum and delivered superior
results relative to market analyst expectations. Other 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.

Once such common stocks are identified, Dreyfus 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 decision to buy, sell or hold is made by
Dreyfus based primarily on output of the valuation model. However, that decision
may be modified due to subsequently available or other specific relevant
information about the security.

The MidCap Growth Account is generally a suitable investment for investors
seeking long-term growth and who are willing to accept the potential for
short-term fluctuations in the value of their investments. The Account's share
price may fluctuate more than that of funds primarily invested in stocks of
large companies. Mid-sized companies may pose greater risk due to narrow product
lines, limited financial resources, less depth in management or a limited
trading market for their stocks. The Account is designed for long term investors
for a portion of their investments and not designed for investors seeking income
or conservation of capital. As with all mutual funds, if you sell your shares
when their value is less than the price you paid, you will lose money.

"Standard & Poor's MidCap 400 Index" is a trademark of Standard & Poor's
Corporation (S&P). S&P is not affiliated with Principal Life Insurance Company
or with the Fund.

Account Performance Information

- ------------------------------------------ ------------------------------------
Average annual total return Highest & lowest
for the period ending December 31, 1998 quarterly total returns
- ------------------------------------------ for the last 3 quarters
Past One -----------------------------------
Year Quarter Ended Return
-------- ------------------------------------
MidCap Growth Account (3.40%)* 12/31/98 22.31%
9/30/98 (16.95%)
S&P 400 MidCap Index 19.12 ------------------------------------
Lipper MidCap Fund
Average 12.16
-----------------------------------------
* Period from May 1, 1998, date first
offered to the public, through
December 31, 1998.

The table shown above provides some indication of the risks of investing
in the Account by showing how the Account's average annual return
compares with those of a broad measure of market performance. The example
shown below assumes 1) an investment of $10,000, 2) a 5% annual return
and 3) that expenses are the same as the most recent fiscal year
expenses.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.90% $129 $403 $697 $1,534
Other Expenses........................ 0.37%
-----
Total Account Operating Expenses 1.27%*
- --------------------------------------------------------------------------------
*Manager has agreed to reimburse operating
expenses so that total Account operating
expenses will not be greater than 0.96%
for 1999.

Day-to-day Account management:
Since April 1998 John O'Toole, CFA. Portfolio Manager of The Dreyfus
(Account's inception) Corporation and Senior Vice President of Mellon
Equity Associates LLP (an affiliate of The Dreyfus
Corporation) since 1990.

GROWTH-ORIENTED ACCOUNT

MidCap Value Account

The MidCap Value Account seeks long-term growth of capital by investing
primarily in equity securities of companies with value characteristics and
market capitalizations in the $1 billion to $10 billion range.

Under normal market conditions, the Account invests at least 65% of its total
assets in common stocks of companies with a medium market capitalization.
Companies may range from the well established and well known to the new and
unseasoned. While small, unseasoned companies may offer greater opportunities
for capital growth than larger, more established companies, they also involve
greater risks and should be considered speculative. Smaller companies may also
be developing or marketing new products or services for which markets are not
yet established and may never become established.

The stocks are selected using a value-oriented investment approach by the
Sub-Advisor, Neuberger Berman Management Inc. Neuberger Berman identifies value
stocks in several ways. One of the most common identifiers is a low
price-to-earnings ratio (stocks selling at multiples of earnings per share that
are lower than that of the market as a whole). Other criteria are high dividend
yield, a strong balance sheet and financial position, a recent company
restructuring with the potential to realize hidden values, strong management and
low price-to-book value (net value of the company's assets). Neuberger Berman
also looks for companies with consistent cash flow, a sound track record through
all phases of the market cycle, a strong position relative to competitors, a
high level of management stock ownership and a recent sharp stock price decline
that appears to result from a short-term market overreaction to negative news.
Neuberger Berman believes that, over time, securities that are undervalued are
more likely to appreciate in price and are subject to less risk of price decline
than securities whose market prices have already reached their perceived
economic value.

This approach also involves selling portfolio securities when Neuberger Berman
believes they have reached their potential, when the securities fail to perform
as expected or when other opportunities appear more attractive. It is
anticipated that the annual portfolio turnover rate may be greater than 100%.
Turnover rates in excess of 100% generally result in higher transaction costs
and a possible increase in short-term capital gains (or losses).

The net asset value of the Account's shares is based on the value of the
securities it holds. The value of the stocks owned by the Account changes on a
daily basis. The current share price reflects the activities of individual
companies and general market and economic conditions. In the short term, stock
prices can fluctuate dramatically in response to these factors. The Account's
share price may fluctuate more than that of funds primarily invested in stocks
of large companies. Mid-sized companies may pose greater risk due to narrow
product lines, limited financial resources, less depth in management or a
limited trading market for their stocks. Because of these fluctuations,
principal values and investment returns vary. As with all mutual funds, if you
sell your shares when their value is less than the price you paid, you will lose
money.

Neuberger Berman also may invest in foreign securities. Foreign securities carry
risks that are not generally found in securities of U.S. companies. These
include the risk that a foreign security could lose value as a result of
political, financial and economic events in foreign countries. In addition,
foreign securities may be subject to securities regulators with less stringent
accounting and disclosure standards than are required of U.S. companies.

The MidCap Value Account is generally a suitable investment for investors
seeking long-term growth and who are willing to accept short-term fluctuations
in the value of their investments. It is designed for long term investors for a
portion of their investments and not designed for investors seeking income or
conservation of capital.

Account Performance Information

The example shown below assumes 1) an investment of $10,000, 2) a 5%
annual return and 3) that expenses are the same as the most recent fiscal
year expenses.

Total Account Operating Expenses 1.35%*

Day-to-day Account management:
Since April 1999 Co-Manager, Michael M. Kassen, Portfolio
(Account's inception) Manager, Neuberger Berman Management, Inc.,
since 1990.

Since April 1999 Co-Manager, Robert I. Gendelman, Portfolio
(Account's inception) Manager, Neuberger Berman Management, Inc.,
since 1994.

Since April 1999 Co-Manager, S. Basu Mullick, Portfolio
(Account's inception) Manager, Neuberger Berman Management, Inc.,
since 1998. Prior thereto, Portfolio
Manager, Ark Asset Management Co, Inc. from
1993-1998.

Money Market Account

The Money Market Account has an investment objective of as high a level of
current income available from investments in short-term securities as is
considered consistent with preservation of principal and maintenance of
liquidity. It invests its assets in a portfolio of money market instruments. The
investments are U.S. dollar denominated securities which the Manager believes
present minimal credit risks.

The Account maintains a dollar weighted average portfolio maturity of 90 days or
less. It intends to hold its investments until maturity. However, the Account
may sell a security before it matures:
o to take advantage of market variations;
o to generate cash to cover sales of Account shares by its shareholders; or
o upon revised valuation of the security's issuer.
The sale of a security by the Account before maturity may not be in the best
interest of the Account. The Account does have an ability to borrow money to
cover the sale of Accounts shares. The sale of portfolio securities is usually a
taxable event.

It is the policy of the Account to be as fully invested as possible to maximize
current income. Securities in which the Account invests include:
o U.S. Government securities which are issued or guaranteed by the U.S.
Government, including treasury bills, notes and bonds.
o U.S. Government agency securities which are issued or guaranteed by
agencies or instrumentalities of the U.S. Government. These are backed
either by the full faith and credit of the U.S. Government or by the credit
of the particular agency or instrumentality.
o Bank obligations consisting of:
o certificates of deposit which generally are negotiable certificates
against funds deposited in a commercial bank or
o bankers acceptances which are time drafts drawn on a commercial bank,
usually in connection with international commercial transactions.
o Commercial paper that is short-term promissory notes issued by U.S. or
foreign corporations primarily to finance short-term credit needs.
o Short-term corporate debt consisting of notes, bonds or debentures which at
the time of purchase by the Account has 397 days or less remaining to
maturity.
o Repurchase agreements under which securities are purchased with an
agreement by the seller to repurchase the security at the same price plus
interest at a specified rate. Generally these have a short duration (less
than a week) but may have a longer duration.
o Taxable municipal obligations that are short-term obligations issued or
guaranteed by state and municipal issuers that generate taxable income.

An investment in the Account is not insured or guaranteed by the FDIC or any
other government agency. Although the Account seeks to preserve the value of an
investment at $1.00 per share, it is possible to lose money by investing in the
Account.

The Money Market Account is generally a suitable investment for investors
seeking to invest without incurring much principal risk or for short-term needs.

Account Performance Information

Annual Total Returns

1989 8.98% 1994 3.76%
1990 8.01% 1995 5.59%
1991 5.92% 1996 5.07%
1992 3.48% 1997 5.04%
1993 2.69% 1998 5.20%

The bar chart shown above provides some indication of the risks of
investing in the Account by showing changes in the Account's performance
from year to year. The example shown below assumes 1) an investment of
$10,000, 2) a 5% annual return and 3) that expenses are the same as the
most recent fiscal year expenses.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.50% $53 $167 $291 $653
Other Expenses........................ 0.02%
-----
Total Account Operating Expenses 0.52%
- --------------------------------------------------------------------------------

GROWTH-ORIENTED ACCOUNT

SmallCap Account

The SmallCap Account seeks long-term growth of capital. It invests in equity
securities of companies in the U.S. with comparatively smaller market
capitalizations. Market capitalization is defined as total current market value
of a company's outstanding common stock. Under normal market conditions, the
Account invests at least 65% of its assets in securities of companies with
market capitalizations of $1 billion or less.

In selecting securities for investment, the Sub-Advisor, Invista, looks at
stocks with value and/or growth characteristics. In managing the assets of the
Account, Invista does not have a policy of preferring one of these categories to
the other. The value orientation emphasizes buying stocks at less than their
investment value and avoiding stocks whose price has been artificially built up.
The growth orientation emphasizes buying stocks of companies whose potential for
growth of capital and earnings is expected to be above average. Selection is
based on fundamental analysis of the company relative to other companies with
the focus being on Invista's estimation of forwarding looking rates of return.

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 developing or marketing
new products or services for which markets are not yet established and may never
become established. While small, unseasoned companies may offer greater
opportunities for capital growth than larger, more established companies, they
also involve greater risks and should be considered speculative.

The net asset value of the Account's shares is based on the values of the
securities it holds. The value of the stocks owned by the Account changes on a
daily basis. The current share price reflects the activities of individual
companies as well as general market and economic conditions. In the short term,
stock prices can fluctuate dramatically in response to these factors. The
Account's share price may fluctuate more than that of funds primarily invested
in stocks of mid-sized and large companies and may underperform as compared to
the securities of larger companies. Because of these fluctuations, principal
values and investment returns vary. As with all mutual funds, if you sell your
shares when their value is less than the price you paid, you will lose money.

The SmallCap Account is generally a suitable investment for investors seeking
long-term growth and who are willing to accept the potential for volatile
fluctuations in the value of their investment. This Account is designed for long
term investors for a portion of their investments. It is not designed for
investors seeking income or conservation of capital.

Account Performance Information

- ------------------------------------------- -----------------------------------
Average annual total returns Highest & lowest
for the period ending December 31, 1998 quarterly total returns
- ------------------------------------------- for the last 3 quarters
Past One -----------------------------------
Year Quarter Ended Return
-------- -----------------------------------
SmallCap Account (20.51%)* 12/31/98 21.10%
9/30/98 (24.33%)
-----------------------------------
S&P 600 Index (1.31)
Lipper SmallCap Fund Average (0.33)
--------------------------------------
*Period from May 1, 1998, date first
offered to the public, through
December 31, 1998.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.85% $100 $312 $542 $1,201
Other Expenses........................ 0.13%
-----
Total Account Operating Expenses 0.98%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since April 1998 Co-Manager, Mark T. Williams, Portfolio
(Account's inception) Manager of Invista Capital Management, LLC
since 1991.

Since April 1998 Co-Manager, John F. McClain, Portfolio
(Account's inception) Manager of Invista Capital Management, LLC
since 1995. Investment Officer, 1992-1995.

GROWTH-ORIENTED ACCOUNT

SmallCap Growth Account

The SmallCap Growth Account seeks long-term growth of capital. It invests
primarily in a diversified group of equity securities of small growth companies.
Generally, at the time of the Account's initial purchase of a security, the
market capitalization of the issuer is less than $1 billion. Growth companies
are generally those with sales and earnings growth that is expected to exceed
the growth rate of corporate profits of the S&P 500 Index. Investments in
companies with small market capitalizations carry their own risks. Historically,
small company securities have been more volatile in price than larger company
securities, especially over the short-term. Smaller companies may be developing
or marketing new products or services for which markets are not yet established
and may never become established. While small companies may offer greater
opportunities for capital growth than larger, more established companies, they
also involve greater risks and should be considered speculative.

Under normal market conditions, the Account invests at least 65% of its assets
in equity securities of small growth companies. The balance of the Account may
include equity securities of companies with market capitalizations in excess of
$1 billion, foreign securities, corporate fixed-income securities, government
securities and short term investments. Foreign stocks carry risks that are not
generally found in stocks of U.S. companies. These include the risk that a
foreign security could lose value as a result of political, financial and
economic events in foreign countries. In addition, foreign securities may be
subject to securities regulators with less stringent accounting and disclosure
standards than are required of U.S. companies.

In selecting securities for investment, the Sub-Advisor, Berger, places primary
emphasis on companies which it believes have favorable growth prospects. Berger
seeks to identify small growth companies that either:
o occupy a dominant position in an emerging industry, or
o has a growing market share in larger, fragmented industries.
While these companies may present above average risk, Berger believes that they
may have the potential to achieve long-term earnings growth substantially above
the earnings growth of other companies.

The net asset value of the Account's shares is based on the values of the
securities it holds. The value of the stocks owned by the Account changes on a
daily basis. The current share price reflects the activities of individual
companies and general market and economic conditions. In the short term, stock
prices can fluctuate dramatically in response to these factors. Because of these
fluctuations, principal values and investment returns vary. As with all mutual
funds, if you sell your shares when their value is less than the price you paid,
you will lose money.

The SmallCap Growth Account is generally a suitable investment for investors
seeking long-term growth and who are willing to accept the potential for
volatile fluctuations in the value of their investment. The Account's share
price may fluctuate more than that of funds primarily invested in stocks of
mid-sized and large companies and may underperform as compared to the securities
of larger companies. This Account is designed for long term investors for a
portion of their investments. It is not designed for investors seeking income or
conservation of capital.

Account Performance Information

- ------------------------------------------- -----------------------------------
Average annual total return Highest & lowest
for the period ending December 31, 1998 quarterly total returns
- ------------------------------------------- for the last 3 quarters
Past One -----------------------------------
Year Quarter Ended Return
-------- -----------------------------------
SmallCap Growth Account 2.96%* 12/31/98 27.53%
9/30/98 (18.94%)
Russell 2000 Growth Index 1.23 -----------------------------------
Lipper SmallCap Fund Average (0.33)
- -------------------------------------------
* Period from May 1, 1998, date first
offered to the public, through
December 31, 1998.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 1.01% $133 $415 $718 $1,579
Other Expenses........................ 0.30%
-----
Total Account Operating Expenses 1.31%*
- --------------------------------------------------------------------------------
*Manager has agreed to reimburse operating
expenses so that total Account operating
expenses will not be greater than 1.06%
for 1999.

Day-to-day Account management:
Since November 1998 Amy K. Selner, Vice President and portfolio manager of
Berger Associates, Inc. since 1997. Senior Research
Analyst, 1996-1997. Prior thereto, Assistant Portfolio
Manager and Research Analyst with INVESCO Trust
Company, 1991-1996.

GROWTH-ORIENTED ACCOUNT

Stock Index 500 Account

The Stock Index 500 Account seeks long-term growth of capital. Under normal
market conditions, it invests at least 80% of its assets in common stocks of
companies that compose the S&P 500 Index. The Sub-Advisor, Invista, will attempt
to mirror the investment performance of the index by allocating the Account's
assets in approximately the same weightings as the S&P 500. Over the long-term,
Invista seeks a correlation between the Account, before expenses, and that of
the S&P 500. It is unlikely that a perfect correlation of 1.00 will be achieved.

The Account is not managed according to traditional methods of "active"
investment management. Active management would include buying and selling
securities based on economic, financial and investment judgement. Instead, the
Account uses a passive investment approach. Rather than judging the merits of a
particular stock in selecting investments, Invista focuses on tracking the S&P
500.

Because of the difficulty and expense of executing relatively small stock
trades, the Account may not always be invested in the less heavily weighted S&P
500 stocks. At times, the Account's portfolio may be weighted differently from
the S&P 500, particularly if the Account has a small level of assets to invest.
In addition, the Account's ability to match the performance of the S&P 500 is
effected to some degree by the size and timing of cash flows into and out of the
Account. The Account is managed to attempt to minimize such effects.

Invista reserves the right to omit or remove any of the S&P 500 stocks from the
Account if it determines that the stock is not sufficiently liquid. In addition,
a stock might be excluded or removed from the Account if extraordinary events or
financial conditions lead Invista to believe that it should not be a part of the
Account's assets.

While stocks have historically been a leading choice of long-term investors,
they do fluctuate in price. The value of your investment in the Account will go
up and down, which means that you could lose money. Because different types of
stocks tend to shift in and out of favor depending on market and economic
conditions, the Account's performance may sometimes be lower or higher than that
of other types of funds.

The Account uses an indexing strategy. It does not attempt to manage market
volatility, use defensive strategies or reduce the effects of any long-term
periods of poor stock performance. The correlation between Account and index
performance may be affected by the Account's expenses, changes in securities
markets, changes in the composition of the index and the timing of purchases and
sales of Account shares. The Account may invest in futures and options, which
could carry additional risks such as losses due to unanticipated market price
movements, and could also reduce the opportunity for gain.

The Stock Index 500 Account is generally a suitable investment for investors
seeking long-term growth who are willing to accept the risks of investing in
common stocks and prefer a passive rather than active management style.

* Standard & Poor's Corporation is not affiliated with Principal Variable
Contracts Fund, Inc., Invista Capital Management, LLC, or with Principal
Life Insurance Company.

Account Performance Information

The example shown below assumes 1) an investment of $10,000, 2) a 5%
annual return and 3) that expenses are the same as the most recent fiscal
year expenses.

Day-to-day Account management:
Since April 1999 Dean Roth, Portfolio Manager of Invista Capital
(Account's inception) Management, LLC since 1993.

<PAGE>

CERTAIN INVESTMENT STRATEGIES AND RELATED RISKS
The Statement of Additional Information (SAI) contains additional information
about investment strategies and their related risks.

Securities and Investment Practices
Equity securities include common stocks, preferred stocks, convertible
securities and warrants. Common stocks, the most familiar type, represent an
equity (ownership) interest in a corporation. Although equity securities have a
history of long term growth in value, their prices fluctuate based on changes in
a company's financial condition and on overall market and economic conditions.
Smaller companies are especially sensitive to these factors.

The Growth-Oriented Accounts invest primarily in common stocks. Under normal
market conditions, the Blue Chip, Capital Value, International, and MidCap
Accounts are fully invested in equity securities. Under unusual circumstances,
each of the Growth-Oriented Accounts may invest without limit in cash for
temporary or defensive purposes. The Accounts also maintain a portion of their
assets in cash while they are making long-term investment decisions and to cover
sell orders from shareholders.

The Bond Account invests primarily in fixed income securities. Fixed income
securities include bonds and other debt instruments that are used by issuers to
borrow money from investors. The issuer generally pays the investor a fixed,
variable or floating rate of interest. The amount borrowed must be repaid at
maturity. Some fixed income securities, such as zero coupon bonds, do not pay
current interest, but are sold at a discount from their face values.

Fixed income securities are sensitive to changes in interest rates. In general,
their prices rise when interest rates fall and fall when interest rates rise.
Longer term bonds and zero coupon bonds are generally more sensitive to interest
rate changes.

Bond prices are also affected by the credit quality of the issuer. Investment
grade fixed income securities are medium and high quality securities. Some bonds
may have speculative characteristics and be particularly sensitive to economic
conditions and the financial condition of the issuers.

Repurchase Agreements and Loaned Securities
Each of the Accounts may invest a portion of its assets in repurchase
agreements. Repurchase agreements typically involve the purchase of debt
securities from a financial institution such as a bank, savings and loan
association or broker-dealer. A repurchase agreement provides that the Account
sells back to the seller and that the seller repurchases the underlying
securities at a specified price on a specific date. Repurchase agreements may be
viewed as loans by an Account collateralized by the underlying securities. This
arrangement results in a fixed rate of return that is not subject to market
fluctuation while the Account holds the security. In the event of a default or
bankruptcy by a selling financial institution, the affected Account bears a risk
of loss. To minimize such risks, the Account enters into repurchase agreements
only with large, well-capitalized and well-established financial institutions.
In addition, the value of the collateral underlying the repurchase agreement is
always at least equal to the repurchase price, including accrued interest.

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.

Currency Contracts
The Accounts (except Money Market) may each enter into forward currency
contracts, currency futures contracts and options, and options on currencies. A
forward currency contract involves a privately negotiated obligation to purchase
or sell a specific currency at a future date at a price set in the contract. An
Account will not hedge currency exposure to an extent greater than the aggregate
market value of the securities held or to be purchased by the Account
(denominated in or exposed to or generally quoted or currently convertible into
the currency).

Hedging is a technique that may be used in an attempt to reduce risk. If an
Account's Manager or Sub-Advisor hedges market conditions incorrectly or employs
a strategy that does not correlate well with the Account's investment, these
techniques could result in a loss, regardless of whether the intent was to
reduce risk or to increase return. These techniques may increase the volatility
of an Account and may involve a small investment of cash relative to the
magnitude of the risk assumed. In addition, these techniques could result in a
loss if the other party to the transaction does not perform as promised.
Additionally, there is the risk of governmental action through exchange controls
that would restrict the ability of the Account to deliver or receive currency.

Forward Commitments
Each of the Accounts may enter into forward commitment agreements. These
agreements call for the Account to purchase or sell a security on a future date
at a fixed price. Each of these Accounts may also enter into contracts to sell
its investments either on demand or at a specific interval.

Warrants
Each of the Accounts (except Money Market) may invest up to 5% of its total
assets in warrants. A warrant is a certificate granting its owner the right to
purchase securities from the issuer at a specified price, normally higher than
the purchase current market price.

Risks of High Yield Securities
The Bond Account and MidCap Value Account (up to 15% of its net assets) and the
LargeCap Growth Account may invest in fixed income securities rated lower than
BBB by S&P or Baa by Moody's or, if not rated, determined to be of equivalent
quality by the Manager or Sub-Advisor. Such securities are sometimes referred to
as high yield or "junk bonds" and are considered speculative.

Investment in high yield bonds involves special risks in addition to the risks
associated with investment in high rated debt securities. High yield bonds may
be regarded as predominantly speculative with respect to the issuer's continuing
ability to meet principal and interest payments. Moreover, such securities may,
under certain circumstances, be less liquid than higher rated debt securities.

Analysis of the creditworthiness of issuers of high yield securities may be more
complex than for issuers of higher quality debt securities. The ability of an
Account to achieve its investment objective may, to the extent of its investment
in high yield bonds, be more dependent on such creditworthiness analysis than
would be the case if the Account were investing in higher quality bonds.

High yield bonds may be more susceptible to real or perceived adverse economic
and competitive industry conditions than higher-grade bonds. The prices of high
yield bonds have been found to be less sensitive to interest rate changes than
more highly rated investments, but more sensitive to adverse economic downturns
or individual corporate developments. If the issuer of high yield bonds
defaults, an Account may incur additional expenses to seek recovery.

The secondary market on which high yield bonds are traded may be less liquid
than the market for higher-grade bonds. Less liquidity in the secondary trading
market could adversely affect the price at which an Account could sell a high
yield bond and could adversely affect and cause large fluctuations in the daily
price of the Account's shares. Adverse publicity and investor perceptions,
whether or not based on fundamental analysis, may decrease the value and
liquidity of high yield bonds, especially in a thinly traded market.

The use of credit ratings for evaluating high yield bonds also involves certain
risks. For example, credit ratings evaluate the safety of principal and interest
payments, not the market value risk of high yield bonds. Also, credit rating
agencies may fail to change ratings in a timely manner to reflect subsequent
events. If a credit rating agency changes the rating of a portfolio security
held by an Account, the Account may retain the security if the Manager thinks it
is in the best interest of shareholders.

The Money Market Account does not invest in foreign securities other than those
that are United States dollar denominated. All principal and interest payments
for the security are payable in U.S. dollars. The interest rate, 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.

Investment in foreign securities presents certain risks including: 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. In addition, there may be reduced
availability of public information concerning issuers compared to domestic
issuers. Foreign issuers are not generally subject to uniform accounting,
auditing and financial reporting standards or to other regulatory practices and
requirements that apply to domestic issuers. Transactions in foreign securities
may be subject to higher costs. Each Account's investment in foreign securities
may also result in higher custodial costs and the costs associated with currency
conversions.

Securities of many foreign issuers may be less liquid and their prices more
volatile than those of comparable domestic issuers. Foreign securities markets,
particularly those in emerging market countries, are known to experience long
delays between the trade and settlement dates of securities purchased and sold.
Such delays may result in a lack of liquidity and greater volatility in the
price of securities on those markets. As a result of these factors, the Board of
Directors of the Fund has adopted Daily Pricing and Valuation Procedures for the
Fund. These procedures outline the steps to be followed by the Manager and/or
Sub-Advisor to establish a reliable market or fair value if a reliable market
value is not available through normal market quotations. The Executive Committee
of the Board of Directors oversees this process.

Options
Each of the Accounts (except Capital Value and money Market) may buy and sell
certain types of options. Each type is more fully discussed in the SAI.

Futures
Each Account may buy 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"). By buying and
selling futures contracts and related options, an Account seeks 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 buy 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.

Securities of Smaller Companies
The MidCap, MidCap Growth, MidCap Value, SmallCap and SmallCap Growth Accounts
invest in securities of companies with small- or mid-sized market
capitalizations. The LargeCap Growth Account may also, to a limited degree,
invest in securities of smaller companies. 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 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
The Accounts may invest in the securities of unseasoned issuers. Unseasoned
issuers are companies with a record of less than three years continuous
operation, including the operation of predecessors and parents. Unseasoned
issuers by their nature have only a limited operating history that can be used
for evaluating the company's 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 company's 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.

Temporary or Defensive Measures
For temporary or defensive purposes in times of unusual or adverse market
conditions, the Accounts may invest without limit in cash and cash equivalents.
For this purpose, cash equivalents include: bank certificates of deposit, bank
acceptances, repurchase agreements, commercial paper, and commercial paper
master notes which are floating rate debt instruments without a fixed maturity.
In addition, an Account may purchase U.S. Government securities, preferred
stocks and debt securities, whether or not convertible into or carrying rights
for common stock. The LargeCap Growth Account may invest in money market funds
sponsored by Janus.

Portfolio Turnover
"Portfolio Turnover" is the term used in the industry for measuring the amount
of trading that occurs in an Account's portfolio during the year. For example, a
100% turnover rate means that on average every security in the portfolio has
been replaced once during the year.

Accounts with high turnover rates (more than 100%) often have higher transaction
costs (which are paid by the Account) and may generate short-term capital gains.
You can find the turnover rate for each Account, except for the Money Market
Account, in the Account's Financial Highlights table.

Please consider all the factors when you compare the turnover rates of different
funds. A fund with consistently higher total returns and higher turnover rates
than another fund may actually be achieving better performance precisely because
the managers are active traders. You should also be aware that the "total
return" line in the Financial Highlights section already includes portfolio
turnover costs.

PRICING OF ACCOUNT SHARES

Each Account's shares are bought and sold at the current share price. The share
price of each Account is calculated each day the New York Stock Exchange is
open. The share price is determined as of the close of business of the Exchange
(normally at 3:00 p.m. Central Time). When the Fund receives orders to buy or
sell shares, the share price used to fill the order is the next price calculated
after the order is placed.

For all Accounts, except the Money Market Account, the share price is calculated
by:
o taking the current market value of the total assets of the Account
o subtracting liabilities of the Account, and
o dividing the remainder by the total number of shares owned by the
Account.

The securities of the Money Market Account are valued at amortized cost. The
calculation procedure is described in the Statement of Additional Information.
The Money Market Account reserves the right to determine a share price more than
once a day.

NOTES:
o If current market values are not readily available for a security, its fair
value is determined using a policy adopted by the Fund's Board of
Directors.

o An Account's securities may be traded on foreign securities markets that
generally complete trading at various times during the day prior to the
close of the New York Stock Exchange. The values of foreign securities used
in computing share price are determined at the time the foreign market
closes. Occasionally, events affecting the value of foreign securities
occur when the foreign market is closed and the New York Stock Exchange is
open. If the Manager believes the market value is materially affected, the
share price will be calculated using the policy adopted by the Fund.

o Foreign securities markets may trade on days when the New York Stock
Exchange is closed (such as customary U.S. holidays) and an Account's share
price is not calculated. As a result, the value of an Account's assets may
be significantly affected by such trading on days when you cannot purchase
or sell shares of the Fund.

DIVIDENDS AND DISTRIBUTIONS

The issuer of an equity security held by an Account may make a dividend payment.
When an Account receives a dividend, it increases the net asset value of a share
of the Account.

An Account accrues interest daily on its fixed income securities in anticipation
of an interest payment from the issuer of the security. This accrual increases
the net asset value of an Account.

The Money Market Account (or any other Account holding commercial paper)
amortizes the discount on commercial paper it owns on a daily basis. This
increases the net asset value of the Account.

NOTE:As the net asset value of a share of an Account increases, the unit value
of the corresponding division also reflects an increase. The number of
units you own in the Account are not increased.

MANAGEMENT, ORGANIZATION AND CAPITAL STRUCTURE

The Manager
Principal Management Corporation (the "Manager") serves as the manager for the
Principal Variable Contracts Fund, Inc. In its handling of the business affairs
of the Fund, the Manager provides clerical, recordkeeping and bookkeeping
services, and keeps the financial and accounting records required for the
Accounts.

The Manager is a subsidiary of Princor Financial Services Corporation and an
affiliate of Principal Life Insurance Company. It has managed mutual funds since
1969. As of March 31, 1999, the Funds it managed had assets of approximately
$6.2 billion. The Manager's address is Principal Financial Group, Des Moines,
Iowa 50392-0200.

The Sub-Advisors
The Manager has signed contracts with various Sub-Advisors. Under the
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: Blue Chip, Capital Value, International, MidCap, SmallCap and Stock
Index 500
Sub-Advisor: Invista Capital Management, LLC ("Invista"), an indirectly
wholly-owned subsidiary of Principal Life Insurance Company and an
affiliate of the Manager, was founded in 1985. It manages investments for
institutional investors, including Principal Life. Assets under management
as of December 31, 1998 were approximately $31 billion. Invista's address
is 1800 Hub Tower, 699 Walnut, Des Moines, Iowa 50309.

Account: LargeCap Growth
Sub-Advisor: Janus Capital Corporation ("Janus"), 100 Fillmore Street, Denver CO
80206-4928, was formed in 1970. Kansas City Southern Industries, Inc. owns
approximately 82% of the outstanding voting stock of Janus, most of which
it acquired in 1984. As of February 1, 1999, Janus managed or administered
over $120 billion in assets.

Account: MidCap Growth
Sub-Advisor: The Dreyfus Corporation, located at 200 Park Avenue, New York,
NY 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 December 31, 1998 the Dreyfus Corporation managed or
administered approximately $118.5 billion in assets for
approximately 1.7 million investor accounts nationwide.

Account: MidCap Value
Sub-Advisor: Neuberger Berman Management Inc. ("Neuberger Berman") is an
affiliate of Neuberger Berman, LLC. Neuberger Berman LLC is
located at 605 Third Avenue, 2nd Floor, New York, NY 10158-0180.
Together with Neuberger Berman, the firms manage more than $49
billion in total assets (as of September 30, 1998) and continue
an asset management history that began in 1939.

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. Assets under management for Berger as of December 31, 1998 were
approximately $3.4 billion.

Duties of the Manager and Sub-Advisor
The Manager or the Sub-Advisor provides the Board of Directors of the Fund a
recommended investment program. Each program must be consistent with the
Account's investment objective and policies. Within the scope of the approved
investment program, the Manager or the Sub-Advisor advises each Account on its
investment policies and determines which securities are bought and sold, and in
what amounts.

The Manager is paid a fee by each Account for its services, which includes any
fee paid to the Sub-Advisor. The fee paid by each Account (as a percentage of
the average daily net assets) for the fiscal year ended December 31, 1998 was:

Management Other Total Operating
Account Fees Expenses Expenses

Bond 0.49% 0.02% 0.51%
Capital Value 0.43 0.01 0.44
International 0.73 0.04 0.77
MidCap 0.61 0.01 0.62
MidCap Growth 0.90 0.37 1.27
Money Market 0.50 0.02 0.52
SmallCap 0.85 0.13 0.98
SmallCap Growth 1.01 0.30 1.31

The Fund and the Manager, under an order received from the SEC, are able to
change Sub-Advisors or the fees paid to a Sub-Advisor without the expense and
delay of a shareholder meeting. However, the order will not be relied upon by an
Account until the Fund receives approval from:
o contract owners who have assets in the Account, or
o in the case of a new Account, the Account's sole initial shareholder before
the Account is available to contract owners. (Before the Blue Chip,
LargeCap Growth, MidCap Growth, MidCap Value, SmallCap Growth and Stock
Index 500 Accounts were available to contractowners, the initial
shareholder of each of those Accounts approved their operation in the
manner described in the order.)

The order does not allow the Manager, without shareholder approval, to:
o appoint a Sub-Advisor that is an affiliate of the Manager or the Fund
(other than by reason of serving as Sub-Advisor to an Account) (an
"affiliated Sub-Advisor"), or
o change a subadvisory fee of an affiliated Sub-Advisor.

MANAGERS' COMMENTS

Principal Management Corporation and its 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 for 1998. 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
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

Capital Value Account
(Catherine A. Zaharis)

- --------------------------------------------
Total Returns
As of December 31, 1998
1 Year 5 Year 10 Year
- --------------------------------------------
13.58% 19.03% 15.15%
- --------------------------------------------

Comparison of Change in Value of $10,000 Investment in the Capital Value
Account, Lipper Growth & Income Fund Average and S&P 500 Stock Index

Capital S&P 500 Lipper
Value Stock Growth & Income
Year Ended December 31, Account Index Fund Average
---------------------- ------- ------ ------------
10,000 10,000 10,000
1989 11,618 13,168 12,354
1990 10,473 12,758 11,804
1991 14,522 16,647 15,237
1992 15,905 17,915 16,605
1993 17,145 19,717 18,523
1994 17,229 19,976 18,349
1995 22,726 27,474 24,004
1996 28,066 33,778 28,992
1997 36,074 45,043 36,861
1998 40,973 57,915 42,615

Note: Past performance is not predictive of future performance.

The Capital Value Account had an experience in 1998 very similar to other funds
in that the index was a benchmark nearly unattainable. There were several
factors that aided positive returns, but hindered the opportunity to keep pace
with the S&P 500.

The performance of the market was led by the technology sector which was
underrepresented in this value portfolio. Valuations of these companies have
reached heights that suggest that growth will be phenomenal for a very long
time. Due to the fact that very few companies in the technology sector could be
defined as "value" due to this market strength, the managers have avoided this
area.

Another interesting aspect of the markets in 1998 was the size factor. The
bigger the stock was, the better it seemed to do. Large cap indexes did much
better than mid-cap indexes which did better than those indexes representing
small cap names. Although the Account's holdings were primarily focused in the
large cap arena, some holdings were in the mid cap range as valuations continue
to get even more compelling. Although these companies did not perform well as a
whole in 1998, they did represent some excellent long term value opportunities.

The value companies the portfolio has focused on have been quite a bit different
than traditional "value" names. Although all of the new companies in the
portfolio were selling at a discount to the market at purchase, many of them had
much more traditional growth prospects. The deep cyclical and basic materials
companies have suffered from disinflation as well as a pullback in demand from
emerging markets. Due to these occurrences, managers have underweighted more
cyclical names in favor of consistent growth at a discount. This focus has
helped returns relative to other value portfolios.

The Account's focus throughout 1998 was one of quality value. That focus will be
continued into 1999 as economic and world events are closely monitored.

International Account
(Scott D. Opsal)

- ----------------------------------------------
Total Returns *
As of December 31, 1998
1 Year Since Inception Date 5/2/94 10 Year
- ----------------------------------------------
9.98% 12.09% --
- ----------------------------------------------

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
1998 17,034 14,389 14,221

Note: Past performance is not predictive of future performance.

The International Account's return of 9.98% in 1998 was below the EAFE Index
return of 20.00%. Most of the Account's shortfall occurred during the second
half of the year. Two investment themes dominated returns and performance during
the second half of 1998. The most significant theme was the third quarter
collapse of emerging markets, brought on by Russia's devaluation and debt
default and the simultaneous currency crisis in Brazil. These events shook
investor confidence which created a flight to quality, soaring risk premiums in
most stocks, and a slower economic growth outlook.

A secondary theme was the ongoing economic problems in Japan. Japan's economy is
in a serious recession and is undoubtedly the weakest economy of any developed
nation. Its banking crisis is far from being solved, and government policy has
created a fiscal budget deficit equal to 10% of GDP, an unheard of level for a
major economy.

These two themes influenced the positioning of the International Account. The
managers increased exposure to defensive, or lower risk stocks, and
underweighted the Japanese market. One of the main reasons for the
underperformance was the execution of moving the portfolio into a more defensive
position which was not fully effective. Several of the stocks were in low risk
businesses, but had exposure to poor performing emerging markets. The second
area of underperformance was the underweight position of the Japanese yen.
Although economic analysis of Japan proved to be right on the mark and Japan's
stock market continued to languish, the Japanese yen was very strong and
outpaced the other developed market currencies.

The Account continues to have a small weighting in the Japanese market and a
large weighting in Europe. The managers do not expect a severe recession in
Europe this year, but growth is slowing. Inflation does not appear to be a risk,
and therefore, interest rates should remain low helping to bolster stock prices.
Portfolio weightings in reasonably priced names with growth and/or defensive
characteristics will continue to be raised.

MidCap Account
(Michael R. Hamilton)

- --------------------------------------------
Total Returns *
As of December 31, 1998
1 Year 5 Year 10 Years
- --------------------------------------------
3.69% 14.92% 16.22%
- --------------------------------------------

Comparison of Change in Value of $10,000 Investment in the MidCap
Account, Lipper Mid Cap Fund Average and S&P 500 Stock Index

Lipper
MidCap S&P 500 Mid-Cap Fund
Year Ended December 31, Account Index Average
- ---------------------- ------- ------ -------
10,000 10,000 10,000
1989 12,184 13,168 12,710
1990 10,661 12,758 12,258
1991 16,364 16,647 18,538
1992 18,809 17,915 20,227
1993 22,436 19,717 23,201
1994 22,611 19,976 22,725
1995 29,171 27,474 30,035
1996 35,329 33,778 35,418
1997 43,368 45,043 42,370
1998 44,967 57,915 47,523

Note: Past performance is not predictive of future performance.

Stock market returns for 1998 were both volatile and divergent. Large caps
outdistanced their mid and small cap counterparts by a considerable margin as
investors gravitated to companies with assumed stable and visible earnings
streams. Also, market volatility seemed a constant during the year with large
price swings, especially occurring during the 3rd and 4th quarters. Much of this
activity was fueled by the Asian crisis that began in 1997 and investors'
concerns that growth rates and profitability of companies would be hurt as the
effects spread throughout the world. However, the U.S. economy performed quite
admirably due to low inflation, low interest rates, financial liquidity and high
consumer confidence.

The Midcap Account's performance trailed the S&P 500 Index primarily due to its
emphasis on smaller cap companies. Roughly 80% of the portfolio is invested in
companies with market capitalizations below $4 billion as compared to the Index
with only 4% invested in companies below $4 billion. The Financial, Consumer
Cyclical and Healthcare sectors were the largest contributors to
underperformance relative to the Index. The Technology sector was the primary
contributor to positive returns in the portfolio.

Looking ahead to 1999, the same factors driving the slow, sustainable growth in
the U.S. economy in 1998 appear to be very much in place. The account managers
continue to look for companies that possess competitive advantages, have the
potential for above average growth and can be purchased at a reasonable price.
The portfolio emphasizes the Technology, Financial, Consumer Cyclical and
Healthcare economic sectors. In the Technology sector, value is found in
companies that contribute to productivity enhancement. In the Financial sector,
the trend toward consolidation is allowing financial companies to manage their
capital more prudently. Attractive companies in the Consumer Cyclical sector are
those that will benefit from the low unemployment, low interest rate
environment. Finally, the Healthcare sector is a beneficiary of a growing
elderly population and the ever present desire for better healthcare.

MidCap Growth Account
(John O'Toole)

- -------------------------------------------------
Total Returns
As of December 31, 1998
1 Year 5 Year 10 Year
- -------------------------------------------------
-3.40%* -- --
- -------------------------------------------------
* - Since Inception Date 5/1/98

Comparison of Change in Value of $10,000 Investment in the MidCap Growth
Account, Lipper Mid-Cap Fund Average and S&P 400 MidCap Index

MidCap Lipper S&P
Growth Mid-Cap 400 MidCap
Year Ended December 31, Account Fund Average Index
---------------------- ------- ------------ ------
10,000 10,000 10,000
1998 9,660 9,814 10,538

Note: Past performance is not predictive of future performance.

The performance of the Account from inception date through December 31, 1998 was
below the performance benchmark (S&P MidCap 400 Index) and was obviously
disappointing. The primary factor negatively impacting performance was stock
selection, which was further impacted by some unique features of the performance
benchmark. Additionally, certain portfolio risk factors also contributed to the
underperformance.

The S&P MidCap 400 Index was dominated in 1998 by the performance of America
Online (AOL). At the beginning of the year, AOL was approximately 1.0% of the
benchmark, while by year end it was over 7% of the benchmark, at which time it
was moved into the S&P 500 Index. This one stock had a return of 585.64% for
1998, and thus greatly impacted the return of the Index. The account managers
did not initiate a position in AOL until midyear, and though the position was
held until the end of the year, for the most part the portfolio was either
equally weighted or underweighted to the company. Thus, the holdings of this one
name had a meaningful impact on relative performance.

In addition to these unique issues with the benchmark, the quantitative
valuation process used in the management of the Account did not perform up to
historical expectations. This problem was especially acute in September and
October, where negative stock selection impacted performance. There have been
previous time periods where the manager's process did not meet expectations, but
experience has shown that the model rebounded and allowed performance
expectations to be met.

As for portfolio risk characteristics that had a negative influence on return,
these would include the Account having a modestly smaller than benchmark market
capitalization. Even a modest position hurt performance, because 1998 was
categorized as a year where larger and mid sized companies outperformed smaller
capitalization firms. Finally, the performance was also negatively impacted by
the Account having a below benchmark price/earnings (P/E) ratio during a time
period when higher P/E stocks outperformed lower P/E issues.

In closing, the returns for the period under review were below our performance
expectations. Nonetheless, the managers remain committed to the quantitative
equity valuation process along with the fully invested and sector neutral
portfolio construction methods.

SmallCap Account
(Mark T. Williams and John F. McClain)

- -------------------------------------------------
Total Returns
As of December 31, 1998
1 Year 5 Year 10 Year
- -------------------------------------------------
-20.51%* -- --
- -------------------------------------------------
* - Since Inception Date 5/1/98

Comparison of Change in Value of $10,000 Investment in the SmallCap
Account, Lipper Small-Cap Fund Average and S&P 600 Index

Lipper S&P
SmallCap Small-Cap 600
Year Ended December 31, Account Fund Average Index
---------------------- ------- ------------ ------
10,000 10,000 10,000
1998 7,949 8,873 8,835

Note: Past performance is not predictive of future performance.

The SmallCap Account has not yet finished its first year of operation. The
Account's inception date was May 1, 1998. In reviewing the past year, it is
apparent that May 1 was near the peak for smallcap stock performance, as
measured by several indices. The remainder of the year was volatile, especially
the second half.

The Account's strategy is to take the best that smallcap growth has to offer and
combine it in a single portfolio with the best that smallcap value stocks have
to offer. By doing so, managers hope to provide superior results when compared
to other smallcap funds.

Initially, approximately 60% of the Account's assets were invested in growth
stocks with the balance in value stocks. The original allocation of 60/40 was
still in place at year end. This allocation was chosen for two reasons. First,
the smallcap value sector has outperformed the smallcap growth sector for
several measurement periods. Account managers believe the performance balance
going forward has a good chance of being reversed, or at least not expanded
further. Second, the opportunities for superior stock selection are greater in
the growth area at this time.

Performance for small companies since the Account's inception through September
was mostly negative. The companies in the Account's portfolio did not escape
this negative return. For the year ended December 31, 1998, the SmallCap Account
was below its benchmark with a return of -20.5% (net of expenses) versus that of
the Lipper Smallcap Fund Average at -11.27%. The Account's technology holdings
were under severe pressure during June as the Asian economic problems reignited
investor concerns. The months of July through September saw continued weakness
in our technology holdings. During this same time period, the Account's holdings
in sub-prime lenders also registered negative returns. This adversely impacted
the Account's entire Financial sector return. During the fourth quarter, the
Account's technology holdings redeemed themselves with strong absolute returns.
The Account's financial holdings saw continued weakness and ended the year as
the sector with the poorest relative returns. Other sectors that contributed to
underperformance, relative to the benchmark, were Consumer Cyclicals and
Healthcare.

Looking forward, small stocks are more attractive relative to large stocks than
at any time in the last twenty-five years. This is based on trailing and
projected profits. The account managers believe this is an opportunity.

SmallCap Growth Account
(Amy K. Selner)

- -------------------------------------
Total Returns
As of December 31, 1998
1 Year 5 Year 10 Year
- -------------------------------------
2.96%* -- --
- -------------------------------------
* - Since Inception Date 5/1/98

Comparison of Change in Value of $10,000 Investment in the SmallCap Growth
Account, Lipper Small-Cap Fund Average and Russell 2000 Growth Index

SmallCap Lipper Russell 2000
Growth Small-Cap Growth
Year Ended December 31, Account Fund Average Index
---------------------- ------- ------------ -------
10,000 10,000 10,000
1998 10,296 8,873 10,123

Note: Past performance is not predictive of future performance.

This is the first annual report on the SmallCap Growth Account since its
inception of April 4, 1998. For this nine month period the fund rose 2.96 %
versus the (10.23%) loss of the Russell 2000 Growth Index, outperforming it's
index by 13.19%.

During 1998, a year marked by the Asian financial crisis which spread through
the world, small cap stocks underperformed relative to the large cap stocks as
economic uncertainty caused volatility to soar and investors preferred the
liquidity and predictability of larger caps stocks. The Russell 2000 Growth
Index ended the year gaining 1.23% while the S&P 500 gained 26.79%. The market
ended its correction on October 8 and staged an impressive rebound through the
end of the fourth quarter. Small cap technology smartly outperforming other
industry groups in this fourth quarter snapback.

In 1998 the world markets were relatively volatile while factoring in the
financial crisis in Asia, rising risks in Brazil, rekindled military hostilities
in the Middle East, and the sharp depreciation of the dollar. Certainly the 75
basis point easing by the Fed from late September to mid-November allowed for a
stiff wind at the back of this market. That wind, however, is not present today
and looking forward, the managers feel the Fed will remain neutral. The
underlying trend in real income growth remains solid, consumer spending is
strong and the labor market remains tight. Corporate profits are slowing and
growth is expected to decelerate in 1999, while inflation remains suppressed.
The account managers continue to monitor Brazil's recession and possible effects
on Mexico, and eventually the U.S.

The Account's outperformance in this volatile market stemmed from strong
bottom-up stock picking. The Account's exposure to solid technology growth
stocks advanced performance in the Account, especially in the fourth quarter.
Internet stocks were the leaders, along with semiconductor holdings. Exposure to
the internet stocks was trimmed back after their explosive move following the
October 8 low through December. The managers are focusing on the highest quality
infrastructure leaders within the Account's internet exposure. The long-term
growth prospects for the software application integration industry and holdings
of New Era of Networks and TSI International Software continue to be viewed
favorably. Fundamentals within the semiconductor sector remained strong in 1998,
particularly within the suppliers to the communications infrastructure.

Within healthcare the managers continue to focus on drug companies with strong
pipelines and reasonable valuations. Biotechnology growth prospects remain
robust and outperformed nicely during 1998. The Account continues to be
underweighted in the energy sector, which has been abysmal. Although valuations
are at cyclical lows, the stocks are trading on inventory changes and there is
further downside to earnings. The Manager will wait until supply/demand
fundamentals improve and pricing stabilizes to increase exposure.

For small caps at the end of 1998, the .78 relative multiple on the Russell 2000
versus the S&P 500, is much below the 1.03 level reached in 1990, when small
caps outperformed their large cap brothers. Although this relative valuation
point is quite bullish for small caps, absolute valuations for both indexes are
not cheap. The account managers expect the market will move sideways over the
near term, digesting the gains of the fourth quarter. The high valuations of
stocks will allow for no margin of error in earnings estimates in 1999.

Important Notes of the Growth-Oriented Accounts:

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 currently contains 768 funds.

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 currently contains 527 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 currently contains 327 funds.

Lipper Small-Cap Fund Average: This average consists of funds which invest
primarily in companies with market capitalizations less than $1 billion at the
time of purchase. The one-year average currently contains 638 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.

Russell 2000 Growth Index: This index measures the performance of those Russell
2000 companies with higher price-to-book ratios and lower forecasted growth
values.

Standard & Poor's 500 Stock Index: This is 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.

Standard & Poor's 600 Index: This is a market-value weighted index consisting of
600 domestic stocks chosen for market size, liquidity and industry group
representation.

Standard & Poor's MidCap 400 Index: This index measures the performance of the
mid-size company segmant of the U.S. Market.

Income-Oriented Accounts:

Bond Account
(Scott A. Bennett)

- ------------------------------------------
Total Returns *
As of December 31, 1998
1 Year 5 Year 10 year
- ------------------------------------------
7.69% 7.66% 9.46%
- ------------------------------------------

Comparison of Change in Value of $10,000 Investment in the Bond Account, Lipper
Corporate Debt BBB Rated Fund Average and Lehman Brothers BAA Corporate Index

Lehman Lipper
Brothers Corporate Debt
Year Ended Bond BAA Corporate BBB Rated Fund
December 31, Account* Index Average
----------- ------- ------ --------
10,000 10,000 10,000
1989 11,386 11,366 11,064
1990 11,980 11,966 11,698
1991 13,982 14,277 13,780
1992 15,294 15,619 14,916
1993 17,078 17,638 16,753
1994 16,583 17,074 16,006
1995 20,259 20,953 19,219
1996 20,738 21,795 19,832
1997 22,935 24,215 21,831
1998 24,698 24,525 23,195

Note: Past performance is not predictive of future performance.

The Bond Account performed well in a tough market environment during 1998. The
Account outperformed the Lehman Brothers BAA Corporate Index as well as the
Lipper Corporate BBB average because of the relatively higher credit quality
emphasis and a somewhat longer duration.

Investors demanded quality in 1998 with U.S. Treasuries being in the unusual
position of posting the highest returns in the fixed income market. Corporate
bonds underperformed Treasuries but benefited from the decline in Treasury
yields during the year, resulting in relatively high absolute returns. The
markets returned to a more normal mode in the fourth quarter as investors began
to reconsider the impact of emerging market problems, hedge-fund difficulties
and were reassured by Federal Reserve interest rate cuts.

The managers positioned the Account with a quality emphasis during the year,
adding higher rated bonds and investing predominately in U.S., safe haven
sectors (agencies, communications, and utilities). The account manager's
long-term outlook for the global economy improved during the fourth quarter, as
did the condition of the fixed income markets. The Account was an active player
in a rejuvenated new issue market and was paid well to participate in industries
the managers favored (U.S., non-commodity industries) as the market regained its
footing. Strategy going into 1999 is to return to a more normal credit quality
mix and take advantage of still historically high premium for investing in
corporate bonds.

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
currently contains 99 mutual funds.

Note: Mutual fund data from Lipper Inc.

GENERAL INFORMATION ABOUT AN ACCOUNT

Eligible Purchasers
Only certain eligible purchasers may buy shares of the Accounts. Eligible
purchasers are limited to 1) separate accounts of Principal Life Insurance
Company or of other insurance companies, 2) Principal Life Insurance Company or
any of its subsidiaries or affiliates, 3) trustees of other managers of any
qualified profit sharing, incentive or bonus plan established by Principal Life
Insurance Company or any of its subsidiaries or affiliates for employees of such
company, subsidiary or affiliate. Such trustees or managers may buy 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 purchaser.

Each Account serves as the underlying investment vehicle for variable annuity
contracts and variable life insurance policies that are funded through separate
accounts established by Principal Life. It is possible that in the future, it
may not be advantageous for variable life insurance separate accounts and
variable annuity separate accounts to invest in the Accounts at the same time.
Although neither Principal Life nor the Fund currently foresees any such
disadvantage, the Fund's Board of Directors monitors events in order to identify
any material conflicts between such policy owners and contract holders. Material
conflict 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 holders. Should it be necessary, the Board
would determine what action, if any, should be taken. Such action could include
the sale of Account shares by one or more of the separate accounts which could
have adverse consequences.

Shareholder Rights
The following information applies to each Account of the Principal Variable
Contracts Fund, Inc. Each Account share is eligible to 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 auditors 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, non-assessable
and have no preemptive or conversion rights. Shares of an Account are issued as
full or fractional shares. 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 case 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 that the Fund has the
authority to issue, without a shareholder vote.

The bylaws of the Fund also provide that the Fund does not need to hold an
annual meeting of shareholders unless one of the following is required to be
acted upon by shareholders under the Investment Company Act of 1940: election of
directors, approval of an investment advisory agreement, ratification of the
selection of independent auditors, and approval of the distribution agreement.
The Fund intends to hold shareholder meetings only when required by law and at
such other times when the Board of Directors deems it to be appropriate.

Shareholder inquiries should be directed to: Principal Variable Contracts Fund,
Inc., Principal Financial Group, Des Moines, Iowa 50392-0200.

Non-Cumulative Voting
The Fund's shares have non-cumulative voting rights. This means that the holders
of more than 50% if the shares voting for the election of directors of the Fund
can elect 100% of the directors if they choose to do so. In such event, the
holders of the remaining shares voting for the election of directors will not be
able to elect any directors.

Principal Life 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 in
the separate accounts. The shares are voted in accordance with instructions
received from contract holders, policy owners, participants and annuitants.
Other shares of each Account held by each separate account, including shares for
which no timely voting instructions are received, are voted in proportion to the
instructions that are received with respect to contracts or policies
participating that separate account. Shares of each of the Accounts held in the
general account of Principal Life or in the 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 Life determines, under applicable law, that an Account's
shares held in one or more separate accounts or in its general account need not
be voted according to the instructions that are received, it may vote those
Account shares in its own right.

Purchase of Account Shares
Shares are purchased from Princor Financial Services Corporation, the Fund's
principal underwriter. There are no sales charges on shares of the Accounts.
There are no restrictions on amounts to be invested in shares of the Accounts.

Shareholder accounts for each Account are maintained under an open account
system. Under this system, an account is opened and maintained for each
investor. Each investment is confirmed by sending the investor a statement of
account showing the current purchase and the total number of shares owned. The
statement of account is treated by each Account as evidence of ownership of
Account shares. Share certificates are not issued.

Sale of Account Shares
This section applies to eligible purchasers other than the separate accounts of
Principal Life and its subsidiaries.

Each Account sells its shares upon request. There is no charge for the sale. A
shareholder sends a written request to the Account requesting the sale 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
shareholder, the Account does not require a signature guarantee. If payment is
to be made to another party, the shareholder's signature(s) must be guaranteed
by a commercial bank, trust company, credit union, savings and loan association,
national securities exchange member or brokerage firm. Shares are redeemed at
the net asset value per share next computed after the required is received by
the Account in proper and complete form.

Sales proceeds are generally sent within three business days after the request
is received in proper form. However, the right to sell shares may be suspended
during any period when 1) trading on the New York Stock Exchange is restricted
as determined by the SEC or when the Exchange is closed for other than weekends
and holidays, or 2) an emergency exists, as determined by the SEC, as a result
of which i) disposal by a fund of securities owned by it is not reasonably
practicable, ii) it is not reasonably practicable for a fund to fairly determine
the value of its net assets; or iii) the SEC permits suspension for the
protection of security holders.

If payments are delayed and the instruction is not canceled by the shareholder's
written instruction, the amount of the transaction is determined as of the first
valuation date following the expiration of the permitted delay.
The transaction occurs five days thereafter.

In addition, payments on surrenders attributable to a premium payment made by
check may be delayed up to 15 days. This permits payment to be collected on the
check.

Restricted Transfers
Shares of each of the Accounts may be transferred to an eligible purchaser.
However, if an Account is requested to transfer shares to other than an eligible
purchaser, the Account has the right, at its election, to purchase the shares at
the net asset value next calculated after the receipt of the transfer request.
However, the Account must give written notification to the transferee(s) of the
shares of the election to buy the shares within seven days of the request.
Settlement for the shares shall be made within the seven day period.

Year 2000 Readiness Disclosure
The business operations of the Fund depend on computer systems that contain date
fields. These systems include securities transfer agent operations and
securities pricing systems. Many of these systems were constructed using a two
digit date field to represent the date. Unless these systems are changed or
modified, they may not be able to distinguish the Year 1900 from the Year 2000
(commonly referred to as the Year 2000 Problem).

When the Year 2000 arrives, the Fund's operations could be adversely affected if
the computer systems used by the Manager, the service providers and other third
parties it does business with are not Year 2000 compliant. For example, the
Accounts' portfolios and operational areas could be impacted, included
securities pricing, dividend and interest payments, shareholder account
servicing and reporting functions. In addition, an Account could experience
difficulties in transactions if foreign broker-dealers or foreign markets are
not Year 2000 compliant.

The Manager relies on public filings and other statements made by companies
about their Year 2000 readiness. Issuers in countries outside of the U.S.,
particularly in emerging countries, may not be required to make the same
disclosures about their readiness as are required in the U.S. It is likely that
if a company an Account invests in is adversely affected by Year 2000 problems,
the price of its securities will also be negatively impacted. A decrease in
value of one or more of an Account's securities will decrease that Account's
share price.

The Manager and affiliated service providers are working to identify their Year
2000 problems and taking steps they reasonably believe will address these
issues. This process began in 1996 with the identification of product vendors
and service providers as well as the internal systems that might be impacted.

At this time, testing of internal systems has been completed. The Manager is now
participating in a corporate-wide initiative lead by senior management
representatives of Principal Life. Currently they are engaged in regression
testing of internal programs. They are also participating in development of
contingency plans in the event that Year 2000 problems develop and/or persist on
or after January 1, 2000. The contingency plan calls for:
o identification of business risks;
o consideration of alternative approaches to critical business risks; and
o development of action plans to address problems.

Other important Year 2000 initiatives include:
o the service provider for the transfer agent system has renovated its code.
Client testing will occur in the first and second quarters of 1999. The
service provider is also participating in a securities industry wide
testing program;
o the securities pricing system has renovated its code and conducted client
testing in June 1998; o Facilities Management of Principal Life has
identified non-systems issues (heat, lights, water, phone, etc.) and is
working with these service providers to ensure continuity of service; and
o the Manager and other areas of Principal Life have contacted all vendors
with which they do business to receive assurances that they are able to
deal with any Year 2000 problems and continue to work with the vendors to
identify any areas of risk.

In its budget for 1999 and 2000, the Manager has estimated expenses of between
$100,000 and $500,000 to deal with Year 2000 issues.

Financial Statements
You will receive an annual financial statement for the Fund, examined by the
Fund's independent auditors, Ernst & Young LLP. That report is a part of this
prospectus. You will also receive a semiannual financial statement that is
unaudited. The following financial highlights are based on financial statements
that were audited by Ernst & Young LLP.

FINANCIAL HIGHLIGHTS

PRINCIPAL VARIABLE CONTRACTS FUND, INC.

Selected data for a share of Capital Stock outstanding throughout each year
ended December 31 (except as noted):
<TABLE>
<CAPTION>

BOND ACCOUNT(a) 1998 1997 1996 1995 1994
- ------------ ----------------- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period................... $11.78 $11.33 $11.73 $10.12 $11.16
Income from Investment Operations:
Net Investment Income............................... .66 .76 .68 .62 .72
Net Realized and Unrealized Gain (Loss) on Investments .25 .44 (.40) 1.62 (1.04)

Total from Investment Operations .91 1.20 .28 2.24 (.32)
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.66) (.75) (.68) (.63) (.72)
Excess Distributions from Capital Gains(b).......... (.01) -- -- -- --
Total Dividends and Distributions (.67) (.75) (.68) (.63) (.72)
Net Asset Value, End of Period......................... $12.02 $11.78 $11.33 $11.73 $10.12
Total Return........................................... 7.69% 10.60% 2.36% 22.17% (2.90)%
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $121,973 $81,921 $63,387 $35,878 $17,108
Ratio of Expenses to Average Net Assets............. .51% .52% .53% .56% .58%
Ratio of Net Investment Income to Average Net Assets 6.41% 6.85% 7.00% 7.28% 7.86%
Portfolio Turnover Rate............................. 26.7% 7.3% 1.7% 5.9% 18.2%

CAPITAL VALUE ACCOUNT(a) 1998 1997 1996 1995 1994
- --------------------- ----------------- ---- ---- ----
Net Asset Value, Beginning of Period................... $34.61 $29.84 $27.80 $23.44 $24.61
Income from Investment Operations:
Net Investment Income............................... .71 .68 .57 .60 .62
Net Realized and Unrealized Gain (Loss) on Investments 3.94 7.52 5.82 6.69 (.49)
Total from Investment Operations 4.65 8.20 6.39 7.29 .13
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.71) (.67) (.58) (.60) (.61)
Distributions from Capital Gains.................... (1.36) (2.76) (3.77) (2.33) (.69)
Total Dividends and Distributions (2.07) (3.43) (4.35) (2.93) (1.30)
Net Asset Value, End of Period......................... $37.19 $34.61 $29.84 $27.80 $23.44
Total Return........................................... 13.58% 28.53% 23.50% 31.91% .49%
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $385,724 $285,231 $205,019 $135,640 $120,572
Ratio of Expenses to Average Net Assets............. .44% .47% .49% .51% .51%
Ratio of Net Investment Income to Average Net Assets 2.07% 2.13% 2.06% 2.25% 2.36%
Portfolio Turnover Rate............................. 22.0% 23.4% 48.5% 49.2% 44.5%
</TABLE>

See accompanying notes.
<TABLE>

Selected data for a share of Capital Stock outstanding throughout each year
ended December 31 (except as noted):
<CAPTION>

INTERNATIONAL ACCOUNT(a) 1998 1997 1996 1995 1994(c)
- --------------------- ----------------- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period................... $13.90 $13.02 $10.72 $9.56 $9.94
Income from Investment Operations:
Net Investment Income............................... .26 .23 .22 .19 .03
Net Realized and Unrealized Gain (Loss) on Investments 1.11 1.35 2.46 1.16 (.33)
Total from Investment Operations 1.37 1.58 2.68 1.35 (.30)
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.25) (.23) (.22) (.18) (.05)
Excess Distributions from Net Investment Income(b).. -- -- -- -- (.02)
Distributions from Capital Gains.................... (.51) (.47) (.16) (.01) (.01)
Total Dividends and Distributions (.76) (.70) (.38) (.19) (.08)
Net Asset Value, End of Period......................... $14.51 $13.90 $13.02 $10.72 $9.56
Total Return........................................... 9.98% 12.24% 25.09% 14.17% (3.37)%(d)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $153,588 $125,289 $71,682 $30,566 $13,746
Ratio of Expenses to Average Net Assets............. .77% .87% .90% .95% 1.24%(e)
Ratio of Net Investment Income to Average Net Assets 1.80% 1.92% 2.28% 2.26% 1.31%(e)
Portfolio Turnover Rate............................. 33.9% 22.7% 12.5% 15.6% 14.4%(e)

MIDCAP ACCOUNT(a) 1998 1997 1996 1995 1994
- -------------- ----------------- ---- ---- ----
Net Asset Value, Beginning of Period................... $35.47 $29.74 $25.33 $19.97 $20.79
Income from Investment Operations:
Net Investment Income............................... .22 .24 .22 .22 .14
Net Realized and Unrealized Gain (Loss) on Investments .94 6.48 5.07 5.57 .03
Total from Investment Operations 1.16 6.72 5.29 5.79 .17
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.22) (.23) (.22) (.22) (.14)
Distributions from Capital Gains.................... (2.04) (.76) (.66) (.21) (.85)
Total Dividends and Distributions (2.26) (.99) (.88) (.43) (.99)
Net Asset Value, End of Period......................... $34.37 $35.47 $29.74 $25.33 $19.97
Total Return........................................... 3.69% 22.75% 21.11% 29.01% .78%
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $259,470 $224,630 $137,161 $58,520 $23,912
Ratio of Expenses to Average Net Assets............. .62% .64% .66% .70% .74%
Ratio of Net Investment Income to Average Net Assets .63% .79% 1.07% 1.23% 1.15%
Portfolio Turnover Rate............................. 26.9% 7.8% 8.8% 13.1% 12.0%
</TABLE>

FINANCIAL HIGHLIGHTS (Continued)

PRINCIPAL VARIABLE CONTRACTS FUND, INC.

Selected data for a share of Capital Stock outstanding throughout each year
ended December 31 (except as noted):

MIDCAP GROWTH ACCOUNT 1998(f)
- --------------------- ----
Net Asset Value, Beginning of Period................... $9.94
Income from Investment Operations:
Net Investment Income (Operating Loss).............. (.01)
Net Realized and Unrealized Gain (Loss) on Investments (.28)

Total from Investment Operations (.29)

Net Asset Value, End of Period......................... $9.65

Total Return........................................... (3.40%)(d)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $8,534
Ratio of Expenses to Average Net Assets............. 1.27%(e)
Ratio of Net Investment Income to Average Net Assets (.14)%(e)
Portfolio Turnover Rate............................. 91.9%(e)

MONEY MARKET ACCOUNT(a) 1998 1997 1996 1995 1994
- -------------------- ----------------- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period................... $1.000 $1.000 $1.000 $1.000 $1.000
Income from Investment Operations:
Net Investment Income............................... .051 .051 .049 .054 .037
Net Realized and Unrealized Gain (Loss) on Investments -- -- -- -- --
Total from Investment Operations .051 .051 .049 .054 .037
Less Dividends from Net Investment Income.............. (.051) (.051) (.049) (.054) (.037)

Net Asset Value, End of Period......................... $1.000 $1.000 $1.000 $1.000 $1.000

Total Return........................................... 5.20% 5.04% 5.07% 5.59% 3.76%
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $83,263 $47,315 $46,244 $32,670 $29,372
Ratio of Expenses to Average Net Assets............. .52% .55% .56% .58% .60%
Ratio of Net Investment Income to Average Net Assets 5.06% 5.12% 5.00% 5.32% 3.81%
</TABLE>

See accompanying notes.

Selected data for a share of Capital Stock outstanding throughout the periods
ended December 31 (except as noted):

SMALLCAP ACCOUNT 1998(f)
- ---------------- ----
Net Asset Value, Beginning of Period................... $10.27
Income from Investment Operations:
Net Investment Income............................... --
Net Realized and Unrealized Gain (Loss) on Investments (2.06)

Total from Investment Operations (2.06)

Net Asset Value, End of Period......................... $8.21

Total Return........................................... (20.51)%(d)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $12,094
Ratio of Expenses to Average Net Assets............. .98%(e)
Ratio of Net Investment Income to Average Net Assets (.05)%(e)
Portfolio Turnover Rate............................. 45.2%(e)

SMALLCAP GROWTH ACCOUNT 1998(f)
- ----------------------- ----
Net Asset Value, Beginning of Period................... $9.84
Income from Investment Operations:
Net Investment Income (Operating Loss).............. (.04)
Net Realized and Unrealized Gain (Loss) on Investments .30

Total from Investment Operations .26

Net Asset Value, End of Period......................... $10.10

Total Return........................................... 2.96%(d)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $8,463
Ratio of Expenses to Average Net Assets............. 1.31%(e)
Ratio of Net Investment Income to Average Net Assets (.80)%(e)
Portfolio Turnover Rate............................. 166.5%(e)

FINANCIAL HIGHLIGHTS (Continued)

Notes to Financial Highlights

(a) Effective January 1, 1998 the following mutual funds were reorganized into
the Principal Variable Contracts Fund, Inc. as follows:

Former Fund Name Current Account Name
Principal Bond Fund, Inc. Bond Account
Principal Capital Accumulation Fund, Inc. Capital Value Account
Principal World Fund, Inc. International Account
Principal Emerging Growth Fund, Inc. MidCap Account
Principal Money Market Fund, Inc. Money Market Account

(b) 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 tax return of capital
distributions.

(c) 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
shareholder, Principal 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.

(d) Total return amounts have not been annualized.

(e) Computed on an annualized basis.

(f) Period from May 1, 1998, date shares first offered to the public, through
December 31, 1998. Per share net investment income and realized and
unrealized gains (losses) for the period from the initial purchase of
shares through April 30, 1998, were recognized as follows, none of which
was distributed to the sole shareholder, Principal Life Insurance Company,
during the period. This represents activities of each account prior to the
initial public offering.

Date Net Per Share Realized
Operations Investment and Unrealized
Account Commenced Income Gains (Losses)

MidCap Growth Account April 23, 1998 .01 (.07)
SmallCap Account April 9, 1998 -- .27
SmallCap Growth Account April 2, 1998 -- (.16)

Additional information about the Fund is available in the Statement of
Additional Information dated May 1, 1999 and which is part of this prospectus.
Information about the Fund's investments is also available in the Fund's annual
and semi-annual reports to shareholders. In the Fund's annual report, you will
find a discussion of the market conditions and investment strategies that
significantly affected the Fund's performance during its last fiscal year. The
Statement of Additional Information and annual and semi-annual reports can be
obtained free of charge by writing or telephoning Princor Financial Services
Corporation, P.O. Box 10423, Des Moines, IA 50306.
Telephone 1-800-451-5447.

Information about the Fund can be reviewed and copied at the Securities and
Exchange Commission's Public Reference Room in Washington, D.C. Information on
the operation of the public reference room may be obtained by calling the
Commission at 800-SEC-0330. Reports and other information about the Fund are
available on the Commission's internet site at http://www.sec.gov. Copies of
this information may be obtained, upon payment of a duplicating fee, by writing
the Public Reference Section of the Commission, Washington, D.C. 20549-6009.

The U.S. Government does not insure or guarantee an investment in the Fund.

Shares of the Fund are not deposits or obligations of, or guaranteed or endorsed
by, any financial institution, nor are shares of the Fund federally insured by
the Federal Deposit Insurance Corporation, the Federal Reserve Board, or any
other agency.

Principal Variable Contracts Fund, Inc. SEC File 811-01944

PRINCIPAL VARIABLE CONTRACTS FUND, INC.

ACCOUNTS OF THE FUND

Balanced Account
Bond Account
Capital Value Account
High Yield Account
MidCap Account
Money Market Account

This Prospectus describes a mutual fund organized by Principal Life Insurance
Company. The Fund provides a choice of investment objectives through the
accounts listed above.

The date of this Prospectus is May 1, 1999.

TABLE OF CONTENTS

ACCOUNT DESCRIPTIONS ........................................... 3

Balanced Account............................................ 6
Bond Account................................................ 8
Capital Value Account....................................... 10
High Yield Account.......................................... 12
MidCap Account.............................................. 14
Money Market Account........................................ 16

CERTAIN INVESTMENT STRATEGIES AND RELATED RISKS.................. 18

PRICING OF ACCOUNT SHARES........................................ 22

DIVIDENDS AND DISTRIBUTIONS...................................... 23
Growth-Oriented and Income-Oriented Accounts................ 23
Money Market Account........................................ 23

MANAGEMENT, ORGANIZATION AND CAPITAL STRUCTURE................... 24
The Manager................................................. 24
The Sub-Advisors............................................ 24

GENERAL INFORMATION ABOUT AN ACCOUNT............................. 26
Shareholders Rights......................................... 26
Purchase of Account Shares.................................. 27
Sale of Account Shares...................................... 27
Year 2000 Readiness Disclosure.............................. 28
Financial Statements........................................ 29

FINANCIAL HIGHLIGHTS............................................. 30
Notes to Financial Highlights............................... 33

ACCOUNT DESCRIPTIONS

The Principal Variable Contracts Fund is made up of several different Accounts.
Each Account has its own investment objective.

The Balanced Account invests in a mix of equity and debt securities while the
Capital Value and MidCap Accounts invest primarily in common stocks. Under
normal market conditions the Capital Value and MidCap Accounts are fully
invested in equity securities. Under unusual circumstances, the Balanced,
Capital Value and MidCap Accounts each may invest without limit in cash for
temporary or defensive purposes. When doing so, the Account is not investing to
achieve its investment objective. The Accounts also maintain a portion of their
assets in cash while they are making long-term investment decisions and to cover
sell orders from shareholders.

The Bond and High Yield Accounts each has a rating limitation with regard to the
quality of the bonds that are held in its portfolio. The rating limitation
applies when the Account purchases a bond. If the rating on a bond changes while
the Account owns it the Account is not required to sell the bond. The SAI
contains additional information about bond ratings by Moody's Investor Services,
Inc. (Moody's) and Standard & Poor's Corporation (S&P).

In the description for each Account, you will find important information about
the Account's:

Primary investment strategy
This section summarizes how the Account intends to achieve its investment
objective. It identifies the Account's primary investment strategy (including
the type or types of securities in which the Account primarily invests) and any
policy to concentrate in securities of issuers in a particular industry or group
of industries.

Annual operating expenses
The annual operating expenses for each Account are deducted from Account assets
(stated as a percentage of Account assets) and are shown as of the end of the
most recent fiscal year. The examples are intended to help you compare the cost
of investing in a particular Account with the cost of investing in other mutual
funds. The examples assume you invest $10,000 in an Account for the time periods
indicated. The examples also assume that your investment has a 5% total return
each year and that the Account's operating expenses are the same as the most
recent fiscal year expenses. Although your actual costs may be higher or lower,
based on these assumptions, your costs would be as shown.

Day-to-day Account management
The investment professionals who manage the assets of each Account are listed
with each Account. Backed by their staffs of experienced securities analysts,
they provide the Accounts with professional investment management. Principal
Management Corporation serves as the manager for the Principal Variable
Contracts Fund. It has signed a sub-advisory agreement with Invista Capital
Management, LLC ("Invista") under which Invista provides portfolio management
for the Balanced, Capital Value and MidCap Accounts.

Account Performance
Included in each Account's description is a set of tables and a bar chart.
Together, these provide an indication of the risks involved when you invest. The
bar chart shows changes in the Account's performance from year to year.

One of the tables compares the Account's average annual total returns for 1, 5
and 10 years with a broad based securities market index (a broad measure of
market performance) and an average of mutual funds with a similar investment
objective and management style. The averages used are prepared by Lipper, Inc.
(an independent statistical service). The other table for each Account provides
the highest and lowest quarterly return for that Account's shares during the
last 10 years.

An Account's past performance is not necessarily an indication of how the
Account will perform in the future.

You may call Principal Mutual Funds (1-800-247-4123) to get the current 7-day
yield for the Money Market Account.

Investments in these Accounts are not deposits of a bank and are not insured or
guaranteed by the FDIC or any other government agency.

GROWTH-ORIENTED ACCOUNT

Balanced Account

The Balanced Account seeks to generate a total return consisting of current
income and capital appreciation. It invests primarily in common stocks and fixed
income securities. It may also invest in other equity securities, government
bonds and notes (obligations of the U.S. government or its agencies) and cash.
Though the percentages in each category are not fixed, common stocks generally
represent 40% to 70% of the Account's assets. The remainder of the Account's
assets is invested in bonds and cash.

In selecting common stocks, the Sub-Advisor, Invista, looks for companies that
have predictable earnings and which, based on growth prospects, are undervalued
in the marketplace. Invista buys stocks with the objective of long-term capital
appreciation. From time to time, Invista purchases stocks with the expectation
of price appreciation over the short term. In response to changes in economic
conditions, Invista may change the make-up of the portfolio and emphasize
different market sectors by buying and selling the portfolio's stocks.

The value of the stocks owned by the Account changes on a daily basis. Stock
prices reflect the activities of individual companies and general market and
economic conditions. In the short term, stock prices can fluctuate dramatically
in response to these factors.

The Account generates interest income by investing in bonds and notes. Bonds and
notes are also purchased for capital appreciation purposes when Invista thinks
that declining interest rates may increase market value. Deep discount bonds
(those which sell at a substantial discount from their face amount) may also be
purchased to generate capital appreciation. The Account may invest in bonds with
speculative characteristics but does not intend to invest more than 5% of its
assets in securities rated below BBB by S&P or Baa by Moody's. Fixed income
securities that are not investment grade are commonly referred to as junk bonds
or high yield securities. These securities offer a higher yield than other,
higher rated securities, but they carry a greater degree of risk and are
considered speculative by the major credit rating agencies.

Bond values change daily. Their prices reflect changes in interest rates, market
conditions and announcements of other economic, political or financial
information. When interest rates fall, the price of a bond rises and when
interest rates rise, the price declines.

The Balanced Account is generally a suitable investment for investors seeking
long-term growth but who are uncomfortable accepting the risks of investing
entirely in common stocks. However, as with all mutual funds, the value of the
Account's assets may rise or fall. If you sell your shares when their value is
less than the price you paid, you will lose money.

Account Performance Information

---------------------------------- -----------------------------------
Annual Total Returns Highest & lowest
---------------------------------- quarterly total returns
1989 11.56% 1994 -2.09% for the last 10 years
1990 -6.43% 1995 24.58% -----------------------------------
1991 34.36% 1996 13.13% Quarter Ended Return
1992 12.80% 1997 17.93% -----------------------------------
1993 11.06% 1998 11.91% 3/31/91 12.62%
Calendar Years Ended December 31 9/30/90 (11.70%)
-----------------------------------
-----------------------------------------------------
Average annual total return
for the period ending December 31, 1998
-----------------------------------------------------
Past One Past Five Past Ten
Year Years Years
-------- --------- --------
Balanced Account 11.91% 12.74% 12.33%

S&P 500 Stock Index 28.58 24.06 19.21
Lehman Brothers
Government/Corporate
Bond Index 9.47 7.30 9.33
Lipper Balanced Fund
Average 13.48 13.93 13.04
-----------------------------------------------------

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.57% $60 $189 $329 $738
Other Expenses........................ 0.02%
-----
Total Account Operating Expenses 0.59%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since April 1993 Co-Manager, Judith A. Vogel, CFA. Portfolio
Manager of Invista Capital Management, LLC
since 1987.

Since October 1998 Co-Manager, Douglas D. Herold, CFA.
Portfolio Manager of Invista Capital
Management, LLC since 1996. Prior thereto,
Securities Analyst from 1993-1996.

Since December 1997 Co-Manager, Martin J. Schafer, Portfolio
Manager of Invista Capital Management, LLC
since 1992.

INCOME-ORIENTED ACCOUNT

Bond Account

The Bond Account seeks to provide as high a level of income as is consistent
with preservation of capital and prudent investment risk. It invests in
fixed-income securities. Generally, the Account invests on a long-term basis but
may make short-term investments. Longer maturities typically provide better
yields but expose the Account to the possibility of changes in the values of its
securities as interest rates change. When interest rates fall, the price per
share rises, and when rates rise, the price per share declines.

Under normal circumstances, the Account invests at least 65% of its assets in:
o debt securities and taxable municipal bonds;
o rated, at purchase, in one of the top four categories by S&P or
Moody's, or
o if not rated, in the Manager's opinion are of comparable quality.
o similar Canadian, Provincial or Federal Government securities payable in
U.S. dollars; and
o securities issued or guaranteed by the U.S. Government or its agencies.

Account Performance Information

Lehman Brothers
BAA Corporate
Index 6.96 7.34 9.25
Lipper Corporate
Debt BBB Rated
Fund Average 6.25 7.00 9.19
---------------------------------------------

During the fiscal year ended December 31, 1998, the average ratings of the
Account's assets based on markte value at each mont-end, were as follows (all
ratings are by Moody's):

2.08% in securities rated Aaa
2.78% in securities rated Aa
24.00% in securities rated A
64.55% in securities rated Baa
6.59% in securities rated Ba

Day-to-day Account management:
Since November 1996 Scott A. Bennett, CFA. Assistant Director - Securities
Investment of Principal Capital Management LLC since
1996. Prior thereto, Investment Manager.

GROWTH-ORIENTED ACCOUNT

Capital Value Account

In making selections for the Account's investment portfolio, Invista uses an
approach described as "fundamental analysis." The basic steps are involved in
this analysis are:

o Stock selection. Invista buys and sells stocks according to the Account's
own policies using the research and valuation ranking as a basis. In
general, Invista buys stocks that are identified as undervalued and
considers selling them when they appear overvalued. Along with attractive
valuation, other factors may be taken into account such as: o events that
could cause a stock's price to rise or fall; o anticipation of high
potential reward compared to potential risk; and o belief that a stock is
temporarily mispriced because of market overreactions.

Account Performance Information

S&P 500 Stock Index 28.58 24.06 19.21
Lipper Growth and Income
Fund Average 15.61 18.53 15.76
-----------------------------------------------------

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.43% $45 $141 $246 $555
Other Expenses........................ 0.01%
-----
Total Account Operating Expenses 0.44%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since November 1996 Catherine A. Zaharis, CFA. Portfolio Manager of
Invista Capital Management, LLC since 1987.

INCOME-ORIENTED ACCOUNT

High Yield Account

The High Yield Account seeks a high current income. It invests in high yield,
lower or unrated fixed income securities commonly known as "junk bonds". The
Account invests its assets in securities rated Ba1 or lower by Moody's or BB+ or
lower by S&P. The Account may also invest in unrated securities that the Manager
believes to be of comparable quality. These securities are considered to be
speculative with respect to the issuer's ability to pay interest and repay
principal. The Account does not invest in securities rated below Caa (Moody's)
or below CCC (S&P) at the time of purchase. The SAI contains descriptions of the
securities rating categories.

Investors assume special risks when investing in the Account. Compared to higher
rated securities, lower rated securities may:
o have a more volatile market value, generally reflecting specific events
affecting the issuer;
o be subject to greater risk of loss of income and principal (issuers are
generally not as financially secure);
o have a lower volume of trading, making it more difficult to value or sell
the security;
o and be more susceptible to a change in value or liquidity based on adverse
publicity and investor perception, whether or not based on factual
analysis.

The market for higher-yielding, lower rated securities has not been tested by an
economic recession. An economic downturn may severely disrupt the market for
these securities. This could cause financial stress to the issuer negatively
affecting the issuer's ability to pay principal and interest. This may also
negatively affect the value of the Account's securities. In addition, if an
issuer defaults the Account may have additional expenses if it tries to recover
the amounts due it.

Some securities the Account buys have call provisions. A call provision allows
the issuer of the security to redeem it before its maturity date. If a bond is
called in a declining interest rate market, the Account would have to replace it
with a lower yielding security. This results in a decreased return for
investors. In addition, in a rising interest rate market, a higher yielding
security's value decreases. This is reflected in a lower share price for the
Account.

The Account tries to minimize the risks of investing in lower rated securities
by diversification, investment analysis and attention to current developments in
interest rates and economics conditions. Although the Account's Manager
considers securities ratings when making investment decisions, it performs its
own investment analysis. This analysis includes traditional security analysis
considerations such as: experience and managerial strength changing financial
condition borrowing requirements or debt maturity schedules responsiveness to
changes in business conditions relative value based on anticipated cash flow
earnings prospects

The Manager continuously monitors the issuers of the Account's securities to
determine if the issuers will have sufficient cash flow and profits to meet
required principal and interest payments. It also monitors each security to
assure the security's liquidity so the Account can meet requests for sales of
Account shares.

For defensive purposes, the Account may invest in other securities. During
periods of adverse market conditions, the Account may invest in all types of
money market instruments, higher rated fixed income securities or any other
fixed income securities consistent with the temporary defensive strategy. The
yield to maturity on these securities is generally lower than the yield to
maturity on lower rated fixed income securities.

The High Yield Account is generally a suitable investment for investors seeking
monthly divided to provide income or to be reinvested in Account shares for
growth. However, it is suitable only for that portion of the investor's
investments for which the investor is willing to accept potentially greater
risk. Investors should carefully consider their ability to assume the risks of
this Account before making an investment. Investors should be prepared to
maintain their investment in the Account during periods of adverse market
conditions. This Account should not be relied on to meet short-term financial
needs. As with all mutual funds, if you sell your shares when their value is
less than the price you paid, you will lose money.

Account Performance Information

------------------------------- ----------------------------------------
Annual Total Return Highest & lowest
------------------------------- quarterly total returns
1989 2.11% 1994 0.62% for the last 10 years
1990 -7.70% 1995 16.08% ----------------------------------------
1991 27.29% 1996 13.13% Quarter Ended Return
1992 14.58% 1997 10.75% ----------------------------------------
1993 12.31% 1998 -0.56% 3/31/91 9.96%
9/30/98 (6.31%)
----------------------------------------
Calendar Years Ended December 31
------------------------------------------------
Average annual total returns
for the period ending December 31, 1998
------------------------------------------------
Past One Past Five Past Ten
Year Years Years

High Yield Account (0.56%) 7.79% 8.43%

Lehman Brothers High
Yield Composite
Bond Index 1.87 8.57 10.55
Lipper High Current
Yield Fund Average (0.44) 7.42 9.40
------------------------------------------------

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.60% $69 $218 $379 $847
Other Expenses........................ 0.08%
-----
Total Account Operating Expenses 0.68%
- --------------------------------------------------------------------------------

During the fiscal year ended December 31, 1998, the average ratings of the
Account's assets based on market value at each month-end, were as
follows (all ratings are by Moody's):

35.61% in securities rated Ba
62.06% in securities rated B
2.28% in securities rated C
0.05% in securities rated Ca

The above percentages for B and C rated securities include unrated securities in
the 3.46% and 0.07%, respectively, which the Manager considers to be of
comparable quality.

Day-to-day Account management:
Since April 1998 Mark P. Denkinger, CFA. Assistant Director - Securities
Investment of Principal Capital Management LLC since
1998. Prior thereto, Investment Manager.

GROWTH-ORIENTED ACCOUNT

MidCap Account

The MidCap Account seeks to achieve capital appreciation by investing primarily
in securities of emerging and other growth-oriented companies. Stocks that are
chosen for the Account by the Sub-Advisor, Invista, are thought to be responsive
to changes in the marketplace and have the fundamental characteristics to
support growth. The Account may invest for any period in any industry, in any
kind of growth-oriented company. Companies may range from well established, well
known to new and unseasoned. While small, unseasoned companies may offer greater
opportunities for capital growth than larger, more established companies, they
also involve greater risks and should be considered speculative.

The net asset value of the Account's shares is based on the value of the
securities it holds. The values of the stocks owned by the Account change on a
daily basis. The current share price reflects the activities of individual
companies and general market and economic conditions. In the short term, stock
prices can fluctuate dramatically in response to these factors. Because of these
fluctuations, principal values and investment returns vary. As with all mutual
funds, if you sell your shares when their value is less than the price you paid,
you will lose money.

The MidCap Account is generally a suitable investment for investors seeking
long-term growth and who are willing to accept the potential for short-term
fluctuations in the value of their investments. The Account's share price may
fluctuate more than that of funds primarily invested in stocks of large
companies. Mid-sized companies may pose greater risk due to narrow product
lines, limited financial resources, less depth in management or a limited
trading market for their stocks. The Account is designed for long-term investors
for a portion of their investments and not designed for investors seeking income
or conservation of capital.

Account Performance Information

---------------------------------- -----------------------------------
Annual Total Returns Highest & lowest
---------------------------------- quarterly total returns
1989 21.84% 1994 0.78% for the last 10 years
1990 -12.50% 1995 29.01% -----------------------------------
1991 53.50% 1996 21.11% Quarter Ended Return
1992 14.94% 1997 22.75% -----------------------------------
1993 19.28% 1998 3.69% 3/31/91 25.86%
Calendar Years Ended December 31 9/30/90 (26.61%)
-----------------------------------
-----------------------------------------------------
Average annual total return
for the period ending December 31, 1998
-----------------------------------------------------
Past One Past Five Past Ten
Year Years Years
-------- -------- --------
MidCap Account 3.69% 14.92% 16.22%

S&P 500 Stock Index 28.58 24.06 19.21
Lipper Mid-Cap Fund Average 12.16 15.18 15.83
-----------------------------------------------------

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.61% $63 $199 $346 $774
Other Expenses........................ 0.01%
-----
Total Account Operating Expenses 0.62%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since December 1987 Michael R. Hamilton, Portfolio Manager of Invista
(Account's inception) Capital Management, LLC since 1987.

Money Market Account

The Money Market Account has an investment objective of as high a level of
current income available from investments in short-term securities as is
consistent with preservation of principal and maintenance of liquidity. It
invests its assets in a portfolio of money market instruments. The investments
are U.S. dollar denominated securities which the Manager believes present
minimal credit risks.

It is the policy of the Account to be as fully invested as possible to
maximize current income. Securities in which the Account invests include:
o U.S. Government securities which are issued or guaranteed by the U.S.
Government, including treasury bills, notes and bonds.
o U.S. Government agency securities which are issued or guaranteed by
agencies or instrumentalities of the U.S. Government. These are backed
either by the full faith and credit of the U.S. Government or by the credit
of the particular agency or instrumentality.
o Bank obligations consisting of:
o certificates of deposit which generally are negotiable certificates
against funds deposited in a commercial bank or
o bankers acceptances which are time drafts drawn on a commercial bank,
usually in connection with international commercial transactions.
o Commercial paper that is short-term promissory notes issued by U.S. or
foreign corporations primarily to finance short-term credit needs.
o Short-term corporate debt consisting of notes, bonds or debentures which at
the time of purchase by the Account has 397 days or less remaining to
maturity.
o Repurchase agreements under which securities are purchased with an
agreement by the seller to repurchase the security at the same price plus
interest at a specified rate. Generally these have a short duration (less
than a week) but may have a longer duration.
o Taxable municipal obligations that are short-term obligations issued or
guaranteed by state and municipal issuers that generate taxable income.

The Money Market Account is generally a suitable investment for investors
seeking monthly dividends to produce income without incurring much principal
risk or for investor's short-term needs.

Account Performance Information

Annual Total Returns

1989 8.98% 1994 3.76%
1990 8.01% 1995 5.59%
1991 5.92% 1996 5.07%
1992 3.48% 1997 5.04%
1993 2.69% 1998 5.20%

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.50% $53 $167 $291 $653
Other Expenses........................ 0.02%
-----
Total Account Operating Expenses 0.52%
- --------------------------------------------------------------------------------

CERTAIN INVESTMENT STRATEGIES AND RELATED RISKS
The Statement of Additional Information (SAI) contains additional information
about investment strategies and their related risks.

Fixed-income securities include bonds and other debt instruments that are used
by issuers to borrow money from investors. The issuer generally pays the
investor a fixed, variable or floating rate of interest. The amount borrowed
must be repaid at maturity. Some fixed-income securities, such as zero coupon
bonds, do not pay current interest, but are sold at a discount from their face
values.

Fixed-income securities are sensitive to changes in interest rates. In general,
bond prices rise when interest rates fall and fall when interest rates rise.
Longer term bonds and zero coupon bonds are generally more sensitive to interest
rate changes.

Bond prices are also affected by the credit quality of the issuer. Investment
grade debt securities are medium and high quality securities. Some bonds may
have speculative characteristics and be particularly sensitive to economic
conditions and the financial condition of the issuers.

Note:The Capital Value and MidCap Accounts invest primarily in equity
securities. The Balanced Account invests in a mix of equity and debt
securities. The Bond Account invests primarily in debt securities.

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.

Currency Contracts
The Accounts (except Money Market) may each enter into forward currency
contracts, currency futures contracts and options, 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 in the contract. An Account will not hedge currency
exposure to an extent greater than the aggregate market value of the securities
held or to be purchased by the Account (denominated or generally quoted or
currently convertible into the currency).

Hedging is a technique used in an attempt to reduce risk. If an Account's
Manager or Sub-Advisor hedges market conditions incorrectly or employs a
strategy that does not correlate well with the Account's investment, these
techniques could result in a loss, regardless of whether the intent was to
reduce risk or to increase return. These techniques may increase the volatility
of an Account and may involve a small investment of cash relative to the
magnitude of the risk assumed. In addition, these techniques could result in a
loss if the other party to the transaction does not perform as promised.
Additionally, there is the risk of governmental action through exchange controls
that would restrict the ability of the Account to deliver or receive currency.

Warrants
Each of the Accounts (except Money Market) may invest up to 5% of its total
assets in warrants. Up to 2% of an Account's total assets may be invested in
warrants that are not listed on either the New York or American Stock Exchanges.

Risks of High Yield Securities
The Balanced, Bond, and High Yield Accounts may, to varying degrees, invest in
debt securities rated lower than BBB by S&P or Baa by Moody's or, if not rated,
determined to be of equivalent quality by the Manager. Such securities are
sometimes referred to as high yield or "junk bonds" and are considered
speculative.

Options
Each of the Accounts (except Capital Value and Money Market) may buy and sell
certain types of options. Each type is more fully discussed in the SAI.

Foreign Securities
Each of the following Accounts may invest in foreign securities to the indicated
percentage of its assets (debt securities issued in the United States pursuant
to a registration statement filed with the Securities and Exchange Commission
are not treated as foreign securities for purposes of these limitations.):
o Bond, Capital Value and High Yield Accounts - 20%.
o Balanced and MidCap Accounts - 10%.
o The Money Market Account does not invest in foreign securities other than
those that are United States dollar denominated. All principal and interest
payments for the security are payable in U.S. dollars. The interest rate,
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.

Securities of many foreign issuers may be less liquid and their prices more
volatile than those of comparable domestic issuers. Foreign securities markets,
particularly those in emerging market countries, are known to experience long
delays between the trade and settlement dates of securities purchased and sold.
Such delays may result in a lack of liquidity and greater volatility in the
price of securities on those markets. As a result of these factors, the Board of
Directors of the Fund has adopted Daily Pricing and Valuation Procedures for the
Fund. These procedures outline the steps to be followed by the Manager and
Sub-Advisor to establish a reliable market or fair value if a reliable market
value is not available through normal market quotations. The Executive Committee
of the Board of Directors oversees this process.

Securities of Smaller Companies
The MidCap Account invests in 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 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.

PRICING OF ACCOUNT SHARES

For all Accounts, except the Money Market Account, the share price is calculated
by:
o taking the current market value of the total assets of the Account
o subtracting liabilities of the Account
o dividing the remainder by the total number of shares owned by the Account.

NOTES:
o If current market values are not readily available for a security, its fair
value is determined using a policy adopted by the Fund's Board of
Directors.
o An Account's securities may be traded on foreign securities markets that
generally complete trading at various times during the day prior to the
close of the New York Stock Exchange. The values of foreign securities used
in computing share price are determined at the time the foreign market
closes. Occasionally, events affecting the value of foreign securities
occur when the foreign market is closed and the New York Stock Exchange is
open. If the Manager believes the market value is materially affected, the
share price will be calculated using the policy adopted by the Fund.
o Foreign securities markets may trade on days when the New York Stock
Exchange is closed (such as customary U.S. holidays) and an Account's share
price is not calculated. As a result, the value of an Account's assets may
be significantly affected by such trading on days when you cannot purchase
or sell shares of the Fund.

DIVIDENDS AND DISTRIBUTIONS

The issuer of an equity security held by an Account may make a dividend payment.
When an Account receives a dividend, it increases the net asset value of a share
of the Account.

An Account accrues interest daily on its fixed income securities in anticipation
of an interest payment from the issuer of the security. This accrual increases
the net asset value of an Account.

The Money Market Account (or any other Account holding commercial paper)
amortizes the discount on commercial paper it owns on a daily basis. This
increases the net asset value of the Account.

NOTE:As the net asset value of a share of an Account increases, the unit value
of the corresponding division also reflects an increase. The number of
units you own in the Account are not increased.

MANAGEMENT, ORGANIZATION AND CAPITAL STRUCTURE

The Manager is a subsidiary of Princor Financial Services Corporation, and an
affiliate of Principal Life Insurance Company. It has managed mutual funds since
1969. As of March 31, 1999, the Funds it managed had assets of approximately
$6.2 billion. The Manager's address is Principal Financial Group, Des Moines,
Iowa 50392-0200.

The Sub-Advisors
The Manager has signed contracts with various Sub-Advisors. Under the
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 and MidCap
Sub-Advisor: Invista Capital Management, LLC ("Invista"), an indirectly
wholly-owned subsidiary of Principal Life Insurance Company
and an affiliate of the Manager was founded in 1985. It
manages investments for institutional investors, including
Principal Life. Assets under management as of December 31,
1998 were approximately $31 billion. Invista's address is
1800 Hub Tower, 699 Walnut, Des Moines, Iowa 50309.

Management Other Total Operating
Account Fees Expenses Expenses
Balanced 0.57% 0.02% 0.59%
Bond 0.49 0.02 0.51
Capital Value 0.43 0.01 0.44
High Yield 0.60 0.08 0.68
MidCap 0.61 0.01 0.62
Money Market 0.50 0.02 0.52

The Fund and the Manager, under an order received from the SEC, are able to
change Sub-Advisors or the fees paid to a Sub-Advisor, without the expense and
delay of a shareholder meeting. However, the order will not be relied upon by an
Account until the Fund receives approval from:
o contract owners who have assets in the Account, or
o in the case of a new Account, the Account's sole initial shareholder before
the Account is available to contract owners.
The order does not permit the Manager, without shareholder approval, to:
o appoint a Sub-Advisor that is an affiliate of the Manager or the Fund
(other than by reason of serving as a Sub-Advisor to an Account)(an
"affiliated Sub-Advisor"), or
o change a sub-advisory fee of an affiliated Sub-Advisor.

MANAGERS' COMMENTS

Growth-Oriented Accounts

Balanced Account
(Judith A. Vogel, Douglas D. Herold and Martin J. Schafer)

- --------------------------------------------
Total Returns *
As of December 31, 1998
1 Year 5 Year 10 Year
11.91% 12.74% 12.33%
- --------------------------------------------

Lehman
Standard & Brothers
Poor's Lipper Government/
Balanced 500 Balanced Corporate
Year Ended December 31, Account Stock Index Fund Avg Bond Index
- ---------------------- ------- ----------- -------- ----------
10,000 10,000 10,000 10,000
1989 11,156 13,168 11,959 11,423
1990 10,438 12,758 11,893 12,369
1991 14,025 16,647 15,077 14,364
1992 15,820 17,915 16,138 15,453
1993 17,570 19,717 17,870 17,157
1994 17,203 19,976 17,420 16,555
1995 21,432 27,474 21,803 19,740
1996 24,246 33,778 24,803 20,313
1997 28,593 45,043 29,515 22,295
1998 31,999 57,915 33,494 24,406

Note: Past performance is not predictive of future performance.

Characterize the reasons as you like, but 1998 will be remembered as The Year of
the Mega-Cap Stock. Whether spurred by a flight to quality, the search for
scarce earnings growth, a market awash in liquidity, or momentum-driven
investors, large market capitalization stocks were the clear winners in the
performance game this year. The very biggest of the big, such as Microsoft,
General Electric, Intel, Lucent, and Wal-Mart drove the market cap-weighted
indices upward on the order of +28% for the year. Mid- to small-cap stocks and
companies reporting anything less than stellar sales and earnings growth
couldn't keep up with the big guys. Small cap stocks in general were actually
down by -2% in 1998. Investors paid up for size and positive earnings surprises.
Period.

In the U.S. good, fundamental reasons for the markets to advance were present,
particularly in the fourth quarter of 1998. Stronger than anticipated consumer
spending, a robust housing market, the virtual absence of inflation, and
significantly lower interest rates all rightfully powered valuations upward.
However, the huge disparity of returns between the "haves" and the "have-nots,"
as described above, could not be ignored. The "haves" were afforded prices of 40
to 60+ times earnings, P/E multiples reminiscent of the Nifty-Fifty era of the
early 1970's, while small cap stocks were at best ignored and at worst pummeled.

In the fixed income arena two influences shaped the markets. First, Russia's
debt default in the third quarter awoke investors to the fact that one could
indeed lose principal in the bond market. Almost immediately risk premiums, or
interest rate spreads vs. U.S. government bonds, expanded to very high levels as
investors clamored for the safety of U.S. Treasuries. The Federal Reserve Board,
in response to the global financial crisis and hoping to ward off a domestic
downturn, reduced interest rates three times before the end of the year. As a
result, intermediate bonds returned 8% - 10% for their owners in 1998; long
government bonds produced mid-teens type returns. Very attractive performance in
the absolute, but uninspiring relative to the 25% gains or better that large cap
growth stocks generated.

The Balanced Account produced a double-digit return of 11.9% in 1998. The
Account's strategy of holding a diversified portfolio of high quality fixed
income securities and reasonably valued common stocks was maintained.
Unfortunately the market did not recognize the merits of paying attention to
valuation and the Account's lack of exposure to the handful of mega-cap,
high-priced common stocks that moved the markets proved to be a detriment to
performance. The Balanced Account's objective is to produce both long-term
capital appreciation and current income without taking on undue risk to
principal. Looking ahead to 1999 the global economy is far from stable. It is
likely that uncertainty and market volatility will be the order of the day.
While the Balanced Account may not produce the very highest returns in this
environment, its conservative nature should prevent it from sinking to extreme
lows relative to other balanced funds. The Account's focus on credit quality
among bonds and paying reasonable prices for expected earnings in the equity
portfolio should benefit long-term shareholders.

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 shown for your information.

Capital Value Account
(Catherine A. Zaharis)

Comparison of Change in Value of $10,000 Investment in the Capital Value
Account, Lipper Growth & Income Fund Average and S&P 500 Stock Index

Capital S&P 500 Lipper
Value Stock Growth & Income
Year Ended December 31, Account Index Fund Average
- ----------------------- ------- ------ ------------
10,000 10,000 10,000
1989 11,618 13,168 12,354
1990 10,473 12,758 11,804
1991 14,522 16,647 15,237
1992 15,905 17,915 16,605
1993 17,145 19,717 18,523
1994 17,229 19,976 18,349
1995 22,726 27,474 24,004
1996 28,066 33,778 28,992
1997 36,074 45,043 36,861
1998 40,973 57,915 42,615

Note: Past performance is not predictive of future performance.

The Account's focus throughout 1998 was one of quality value. That focus will be
continued into 1999 as economic and world events are closely monitored.

MidCap Account
(Michael R. Hamilton)

Comparison of Change in Value of $10,000 Investment in the MidCap Account,
Lipper Mid-Cap Fund Average and S&P 500 Stock Index

Lipper
MidCap S&P 500 Mid-Cap Fund
Year Ended December 31, Account Index Average
- ---------------------- ------- ----- -------
10,000 10,000 10,000
1989 12,184 13,168 12,710
1990 10,661 12,758 12,258
1991 16,364 16,647 18,538
1992 18,809 17,915 20,227
1993 22,436 19,717 23,201
1994 22,611 19,976 22,725
1995 29,171 27,474 30,035
1996 35,329 33,778 35,418
1997 43,368 45,043 42,370
1998 44,967 57,915 47,523

Note: Past performance is not predictive of future performance.

Important Notes of the Growth-Oriented Accounts:

Lehman Brothers Government/Corporate Bond Index: This index consists of publicly
issued securities from the Government Index and the Corporate Index. The
Government Index includes U.S. Treasuries and Agencies. The Corporate Index
includes U.S. Corporate and Yankee debentures and secured notes from the
Industrial, Utility, Finance, and Yankee categories.

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 currently contains 409 mutual funds.

Income-Oriented Accounts:

Bond Account
(Scott A. Bennett)

Comparison of Change in Value of $10,000 Investment in the Bond Account, Lipper
Corporate Debt BBB Rated Fund Average and Lehman Brothers BAA Corporate Index

Lehman Lipper
Brothers Corporate Debt
Year Ended Bond BAA Corporate BBB Rated Fund
December 31, Account* Index Avgerage
----------- ------- ----- --------
10,000 10,000 10,000
1989 11,386 11,366 11,064
1990 11,980 11,966 11,698
1991 13,982 14,277 13,780
1992 15,294 15,619 14,916
1993 17,078 17,638 16,753
1994 16,583 17,074 16,006
1995 20,259 20,953 19,219
1996 20,738 21,795 19,832
1997 22,935 24,215 21,831
1998 24,698 24,525 23,195

Note: Past performance is not predictive of future performance.

High Yield Account
(Mark P. Denkinger)

- ------------------------------------------
Total Returns *
As of December 31, 1998
1 Year 5 Year 10 Year
-0.56% 7.79% 8.43%
- ------------------------------------------

Comparison of Change in Value of $10,000 Investment in the High Yield Account,
Lipper High Current Yield Fund Average and Lehman Brothers High Yield Index

High Lehman Lipper
Year Ended Yield High Yield High Current
December 31, Account Index Yield Average
10,000 10,000 10,000
1989 10,211 10,083 9,948
1990 9,425 9,116 8,903
1991 11,997 13,327 12,281
1992 13,747 15,426 14,474
1993 15,439 18,067 17,260
1994 15,535 17,880 16,599
1995 18,034 21,308 19,334
1996 20,401 23,727 21,977
1997 22,593 26,754 24,826
1998 22,466 27,254 24,716

Note: Past performance is not predictive of future performance.

Although economic conditions in the U.S. showed no signs of a slowdown,
continual problems around the world put significant pressure on the high yield
market. The High Yield Account posted a total return of -.56% for the year,
slightly trailing the Lipper High Current Yield Fund Average of -.44% and the
Lehman Brothers High Yield Index return of 1.87%. The relative underperformance
was driven by large negative returns from several bonds that experienced
financial difficulties during the fourth quarter. Continual problems in Asia
combined with problems in Russia and Latin America led investors to Treasuries.
This flight to quality impacted all fixed income asset classes but none more
than high yield. Spreads on high yield debt widened significantly, as investors
required a higher risk/return for lower quality or less liquid issues.

The high yield market was very active again in 1998. New issuance set another
record in 1998 with approximately $141 billion of new deals brought to market.
The high yield market grew to $580 billion at year-end as more and more
participants entered the market. Historically low default rates moved slightly
higher in 1998, but are still well below historical averages. Net inflows into
mutual funds were nearly $20 billion again in 1998, as the market continued to
attract investors.

The High Yield Account maintains a BB- average quality. Approximately 93% of the
portfolio is comprised of BB and B bonds. This is a relatively conservative risk
position compared to other funds in the high yield market. The Account is well
diversified with 47 bonds of various sectors. The managers are currently
overweighting the Telecom and Media sectors due to their domestic, non-cyclical
characteristics. They continue a disciplined approach to security selection in
both the primary and secondary market. With the significant widening of spreads
during the 4th quarter of 1998, high yield offers attractive total return
prospects. A low correlation with both interest rates and equity markets make
high yield an effective tool for enhancing 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.

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 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 currently contains 246 mutual funds.

Note: Mutual fund data from Lipper Inc.

GENERAL INFORMATION ABOUT AN ACCOUNT

The bylaws of the Fund provide that the Board of Directors of the Fund may
increase or decrease the aggregate number of shares that the Fund has the
authority to issue, without a shareholder vote.

Shareholder inquiries should be directed to: Principal Variable Contracts Fund,
Inc., Principal Financial Group, Des Moines, Iowa 50392-0200.

Purchase of Account Shares
Shares are purchased from Princor Financial Services Corporation, the Fund's
principal underwriter. There are no sales charges on shares of the Accounts.
There are not restrictions on amounts to be invested in shares of the Accounts.

Sale of Account Shares
This section applies to eligible purchasers other than the separate accounts of
Principal Life and its subsidiaries.

In addition, payments on surrenders attributable to a premium payment made by
check may be delayed up to 15 days. This permits payment to be collected on the
check.

Other important Year 2000 initiatives include:
o the service provider for our transfer agent system has renovated its code.
Client testing will occur in the first and second quarters of 1999. The
service provider is also participating in a securities industry wide
testing program;
o the securities pricing system we use has renovated its code and conducted
client testing in June 1998;
o Facilities Management of Principal Life has identified non-systems issues
(heat, lights, water, phone, etc.) and is working with these service
providers to ensure continuity of service; and
o the Manager and other areas of Principal Life have contacted all vendors
with which we do business to receive assurances that they are able to deal
with any Year 2000 problems. We continue to work with the vendors to
identify any areas of risk.

In its budget for 1999 and 2000, the Manager has estimated expenses of between
$100,000 and $500,000 to deal with Year 2000 issues.

FINANCIAL HIGHLIGHTS

PRINCIPAL VARIABLE CONTRACTS FUND, INC.
<TABLE>

Selected data for a share of Capital Stock outstanding throughout each year
ended December 31 (except as noted):

<CAPTION>
BALANCED ACCOUNT(a) 1998 1997 1996 1995 1994
- ---------------- ----------------------------------------------------------- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period................... $15.51 $14.44 $13.97 $11.95 $12.77
Income from Investment Operations:
Net Investment Income............................... .49 .46 .40 .45 .37
Net Realized and Unrealized Gain (Loss) on Investments 1.33 2.11 1.41 2.44 (.64)
Total from Investment Operations 1.82 2.57 1.81 2.89 (.27)
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.49) (.45) (.40) (.45) (.37)
Distributions from Capital Gains.................... (.59) (1.05) (.94) (.42) (.18)
Total Dividends and Distributions (1.08) (1.50) (1.34) (.87) (.55)
Net Asset Value, End of Period......................... $16.25 $15.51 $14.44 $13.97 $11.95
Total Return........................................... 11.91% 17.93% 13.13% 24.58% (2.09)%
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $198,603 $133,827 $93,158 $45,403 $25,043
Ratio of Expenses to Average Net Assets............. .59% .61% .63% .66% .69%
Ratio of Net Investment Income to Average Net Assets 3.37% 3.26% 3.45% 4.12% 3.42%
Portfolio Turnover Rate............................. 24.2% 69.7% 22.6% 25.7% 31.5%

BOND ACCOUNT(a) 1998 1997 1996 1995 1994
- ------------ ----------------- ---- ---- ----
Net Asset Value, Beginning of Period................... $11.78 $11.33 $11.73 $10.12 $11.16
Income from Investment Operations:
Net Investment Income............................... .66 .76 .68 .62 .72
Net Realized and Unrealized Gain (Loss) on Investments .25 .44 (.40) 1.62 (1.04)
Total from Investment Operations .91 1.20 .28 2.24 (.32)
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.66) (.75) (.68) (.63) (.72)
Excess Distributions from Capital Gains(b).......... (.01) -- -- -- --
Total Dividends and Distributions (.67) (.75) (.68) (.63) (.72)
Net Asset Value, End of Period......................... $12.02 $11.78 $11.33 $11.73 $10.12
Total Return........................................... 7.69% 10.60% 2.36% 22.17% (2.90)%
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $121,973 $81,921 $63,387 $35,878 $17,108
Ratio of Expenses to Average Net Assets............. .51% .52% .53% .56% .58%
Ratio of Net Investment Income to Average Net Assets 6.41% 6.85% 7.00% 7.28% 7.86%
Portfolio Turnover Rate............................. 26.7% 7.3% 1.7% 5.9% 18.2%
</TABLE>

See accompanying notes.
<TABLE>
Selected data for a share of Capital Stock outstanding throughout each year
ended December 31 (except as noted):

<CAPTION>
CAPITAL VALUE ACCOUNT(a) 1998 1997 1996 1995 1994
- --------------------- ----------------- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period................... $34.61 $29.84 $27.80 $23.44 $24.61
Income from Investment Operations:
Net Investment Income............................... .71 .68 .57 .60 .62
Net Realized and Unrealized Gain (Loss) on Investments 3.94 7.52 5.82 6.69 (.49)
Total from Investment Operations 4.65 8.20 6.39 7.29 .13
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.71) (.67) (.58) (.60) (.61)
Distributions from Capital Gains.................... (1.36) (2.76) (3.77) (2.33) (.69)
Total Dividends and Distributions (2.07) (3.43) (4.35) (2.93) (1.30)
Net Asset Value, End of Period......................... $37.19 $34.61 $29.84 $27.80 $23.44
Total Return........................................... 13.58% 28.53% 23.50% 31.91% .49%
Net Assets, End of Period (in thousands)............ $385,724 $285,231 $205,019 $135,640 $120,572
Ratio of Expenses to Average Net Assets............. .44% .47% .49% .51% .51%
Ratio of Net Investment Income to Average Net Assets 2.07% 2.13% 2.06% 2.25% 2.36%
Portfolio Turnover Rate............................. 22.0% 23.4% 48.5% 49.2% 44.5%

HIGH YIELD ACCOUNT(a) 1998 1997 1996 1995 1994
- ------------------ ----------------- ---- ---- ----
Net Asset Value, Beginning of Period................... $8.90 $8.72 $8.39 $7.91 $8.62
Income from Investment Operations:
Net Investment Income............................... .80 .76 .80 .76 .77
Net Realized and Unrealized Gain (Loss) on Investments (.85) .18 .30 .51 (.72)
Total from Investment Operations (.05) .94 1.10 1.27 .05
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.79) (.76) (.77) (.77) (.76)
Excess Distributions from Net Investment Income(b).. -- -- -- (.02) --
Total Dividends and Distributions (.79) (.76) (.77) (.79) (.76)

Net Asset Value, End of Period......................... $8.06 $8.90 $8.72 $8.39 $7.91

Total Return........................................... (.56)% 10.75% 13.13% 16.08% .62%
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $14,043 $15,837 $13,740 $11,830 $9,697
Ratio of Expenses to Average Net Assets............. .68% .68% .70% .73% .73%
Ratio of Net Investment Income to Average Net Assets 8.68% 8.50% 9.21% 9.09% 9.02%
Portfolio Turnover Rate............................. 87.8% 32.0% 32.0% 35.1% 30.6%
</TABLE>

FINANCIAL HIGHLIGHTS (Continued)

PRINCIPAL VARIABLE CONTRACTS FUND, INC.
<TABLE>

Selected data for a share of Capital Stock outstanding throughout each year
ended December 31 (except as noted):

<CAPTION>
MIDCAP ACCOUNT(a) 1998 1997 1996 1995 1994
- -------------- ----------------- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period................... $35.47 $29.74 $25.33 $19.97 $20.79
Income from Investment Operations:
Net Investment Income............................... .22 .24 .22 .22 .14
Net Realized and Unrealized Gain (Loss) on Investments .94 6.48 5.07 5.57 .03
Total from Investment Operations 1.16 6.72 5.29 5.79 .17
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.22) (.23) (.22) (.22) (.14)
Distributions from Capital Gains.................... (2.04) (.76) (.66) (.21) (.85)
Total Dividends and Distributions (2.26) (.99) (.88) (.43) (.99)
Net Asset Value, End of Period......................... $34.37 $35.47 $29.74 $25.33 $19.97

Total Return........................................... 3.69% 22.75% 21.11% 29.01% .78%
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $259,470 $224,630 $137,161 $58,520 $23,912
Ratio of Expenses to Average Net Assets............. .62% .64% .66% .70% .74%
Ratio of Net Investment Income to Average Net Assets .63% .79% 1.07% 1.23% 1.15%
Portfolio Turnover Rate............................. 26.9% 7.8% 8.8% 13.1% 12.0%

MONEY MARKET ACCOUNT(a) 1998 1997 1996 1995 1994
- -------------------- ----------------- ---- ---- ----
Net Asset Value, Beginning of Period................... $1.000 $1.000 $1.000 $1.000 $1.000
Income from Investment Operations:
Net Investment Income............................... .051 .051 .049 .054 .037
Net Realized and Unrealized Gain (Loss) on Investments -- -- -- -- --
Total from Investment Operations .051 .051 .049 .054 .037
Less Dividends from Net Investment Income.............. (.051) (.051) (.049) (.054) (.037)
Net Asset Value, End of Period......................... $1.000 $1.000 $1.000 $1.000 $1.000

See accompanying notes.
Notes to Financial Highlights

(a) Effective January 1, 1998 the following mutual funds were reorganized into
the Principal Variable Contracts Fund, Inc. as follows:

Former Fund Name Current Account Name
- --------------------------------------------------------------------------------
Principal Balanced Fund, Inc. Balanced Account
Principal Bond Fund, Inc. Bond Account
Principal Capital Accumulation Fund, Inc. Capital Value Account
Principal High Yield Fund, Inc. High Yield Account
Principal Emerging Growth Fund, Inc. MidCap Account
Principal Money Market Fund, Inc. Money Market Account

The U.S. Government does not insure or guarantee an investment in the Fund.

Principal Variable Contracts Fund, Inc. SEC File 811-01944

PRINCIPAL VARIABLE CONTRACTS FUND, INC.

ACCOUNTS OF THE FUND

Aggressive Growth Account MidCap Account
Asset Allocation Account MidCap Growth Account
Balanced Account Money Market Account
Bond Account Real Estate Account
Capital Value Account SmallCap Account
Government Securities Account SmallCap Growth Account
Growth Account SmallCap Value Account
International Account Stock Index 500 Account
International SmallCap Account Utilities Account
MicroCap Account

This Prospectus describes a mutual fund organized by Principal Life Insurance
Company. The Fund provides a choice of investment objectives through the
accounts listed above.

The date of this Prospectus is May 1, 1999.

TABLE OF CONTENTS

ACCOUNT DESCRIPTIONS ............................................. 3
GROWTH-ORIENTED ACCOUNTS........................................... 3
INCOME-ORIENTED ACCOUNTS........................................... 4
MONEY MARKET ACCOUNT............................................... 4

Aggressive Growth Account.......................................... 6
Asset Allocation Account........................................... 8
Balanced Account................................................... 10
Bond Account....................................................... 12
Capital Value Account.............................................. 14
Government Securities Account...................................... 16
Growth Account..................................................... 18
International Account.............................................. 20
International SmallCap Account..................................... 22
MicroCap Account................................................... 24
MidCap Account..................................................... 26
MidCap Growth Account.............................................. 28
Money Market Account............................................... 30
Real Estate Account................................................ 32
SmallCap Account................................................... 34
SmallCap Growth Account............................................ 36
SmallCap Value Account............................................. 38
Stock Index 500 Account............................................ 40
Utilities Account.................................................. 42

CERTAIN INVESTMENT STRATEGIES AND RELATED RISKS.................... 44

PRICING OF ACCOUNT SHARES.......................................... 48

DIVIDENDS AND DISTRIBUTIONS........................................ 49
Growth-Oriented and Income-Oriented Accounts.................. 49
Money Market Account.......................................... 49

MANAGEMENT, ORGANIZATION AND CAPITAL STRUCTURE..................... 50
The Manager................................................... 50
The Sub-Advisors.............................................. 50

GENERAL INFORMATION ABOUT AN ACCOUNT............................... 53
Shareholders Rights........................................... 53
Purchase of Account Shares.................................... 54
Sale of Account Shares........................................ 54
Year 2000 Readiness Disclosure................................ 55
Financial Statements.......................................... 55

FINANCIAL HIGHLIGHTS............................................... 56
Notes to Financial Highlights................................. 64

ACCOUNT DESCRIPTIONS
The Principal Variable Contracts Fund is made up of several different Accounts.
Each Account has its own investment objective.

The Growth-Oriented Accounts (except the Balanced and Utilities Accounts that
invest in a mix of equity and debt securities) invest primarily in common
stocks. Under normal market conditions the Growth-Oriented Accounts (except
Balanced and Utilities) are fully invested in equity securities. Under unusual
circumstances, each of the Growth-Oriented Accounts may invest without limit in
cash for temporary or defensive purposes. The Accounts also maintain a portion
of their assets in cash while they are making long-term investment decisions and
to cover sell orders from shareholders.

The Income-Oriented Accounts each have a rating limitation with regard to the
quality of the securities that are held in its portfolio. The rating limitation
applies when the Account purchases a bond. If the rating on a bond changes while
the Account owns it the Account is not required to sell the bond. The Statement
of Additional Information (SAI) contains additional information about bond
ratings by Moody's Investor Services, Inc. (Moody's) and Standard & Poor's
Corporation (S&P).

In the description for each Account, you will find important information about
the Account's:

Annual operating expenses
The annual operating expenses for each Account are deducted from Account assets
(stated as a percentage of Account assets) and are shown as of the end of the
most recent fiscal year. Estimates of the expenses are shown for the new
Account. The example is intended to help you compare the cost of investing in a
particular Account with the cost of investing in other mutual funds. The example
assumes you invest $10,000 in an Account for the time periods indicated. The
example also assumes that your investment has a 5% total return each year and
that the Account's operating expenses are the same as the most recent fiscal
year expenses (or estimated expenses for the new Account). Although your actual
costs may be higher or lower, based on these assumptions, your costs would be as
shown.

Principal Management Corporation (the "Manager") serves as the manager for the
Principal Variable Contracts Fund. It has signed contracts with various
Sub-Advisors under which the Sub-Advisor provides portfolio management for
certain Accounts (see Management, Organization and Capital Structure).

Sub-Advisor Account
Berger Associates ("Berger") SmallCap Growth
Dreyfus Corporation ("Dreyfus") MidCap Growth
Goldman Sachs Asset Management ("Goldman") MicroCap
Invista Capital Management, LLC ("Invista") Balanced, Capital Value,
Government Securities,
Growth, International,
International SmallCap,
MidCap, SmallCap, Stock
Index 500 and Utilities
J.P. Morgan Investment Management, Inc. ("Morgan") SmallCap Value
Morgan Stanley Asset Management ("Morgan Stanley") Aggressive Growth and
Asset Allocation

Account Performance
Included in each Account's, (except the Stock Index 500) description is a set of
tables and a bar chart. Together, these provide an indication of the risks
involved when you invest. They show changes in the Account's performance from
year to year.

An Account's past performance is not necessarily an indication of how the
Account will perform in the future.

You may call Principal Mutual Funds (1-800-247-4123) to get the current 7-day
yield for the Money Market Account.

NOTE:Investments in these Accounts are not deposits of a bank and are not
insured or guaranteed by the FDIC or any other government agency.

GROWTH-ORIENTED ACCOUNT

Aggressive Growth Account

The Aggressive Growth Account seeks to provide long-term capital appreciation.
It invests primarily in growth-oriented stocks of medium and large
capitalization U.S. corporations and to a limited extent, foreign corporations
that exhibit strong accelerating earnings growth. Under normal circumstances,
the Account invests at least 65% of the value of its assets in common stocks.

The Account uses a flexible investment process in pursuit of its investment
objective. In selecting stocks for the Account, the Sub-Advisor, Morgan Stanley,
concentrates on companies with consistent or rising earnings growth records and
compelling business strategies. Morgan Stanley focuses on companies with market
capitalizations of $1 billion or more and is not limited to specific market
sectors.

Morgan Stanley continually and rigorously studies company developments,
including business strategy, management focus and financial results, to identify
companies with earnings growth and business momentum. In addition, Morgan
Stanley closely monitors analysts' expectations to identify issuers that have
the potential for positive earnings surprises versus consensus expectations.
Valuation is of secondary importance and is viewed in the context of prospects
for sustainable earnings growth and the potential for positive earnings
surprises in relation to consensus expectations. The Account considers selling
securities of issuers that no longer meet Morgan Stanley criteria.

When it selects a security for the Account, Morgan Stanley emphasizes individual
security selection. Account investments are generally diversified by industry
but concentrated sector positions may result from the selection process.

The Account has a long-term investment approach. However, Morgan Stanley may
take advantage of short-term opportunities that are consistent with its
objective by selling recently purchased securities that have increased in value.
To the extent that the Account engages in short-term trading, it may have
increased transactions costs.

The Account may invest up to 25% of its assets in securities of foreign
companies. Foreign stocks carry risks that are not generally found in stocks of
U.S. companies. These include the risk that a foreign security could lose value
as a result of political, financial and economic events in foreign countries. In
addition, foreign securities may be subject to securities regulators with less
stringent accounting and disclosure standards than are required of U.S.
companies.

The Aggressive Growth Account is generally a suitable investment for investors
who want long-term growth. The investor must be willing to accept the risks of
investing in common stocks that may have greater risks than stocks of companies
with lower potential for earnings growth. In addition, prices of equity
securities are more volatile than prices of debt securities. The prices of
equity securities will rise and fall in response to a number of different
factors. In particular, prices of equity securities will respond to events that
affect entire financial markets or industries (changes in inflation or consumer
demand, for example) and to events that affect particular issuers (news about
the success or failure of a new product, for example). In addition, at times the
Account's market sector, mid- to large-capitalization growth-oriented equity
securities, may underperform relative to other sectors.

As the value of the stocks owned by the Account changes, the Account share price
changes. In the short term, the share price can fluctuate dramatically. As with
all mutual funds, if you sell your shares when their value is less than the
price you paid, you will lose money.

Account Performance Information

---------------------------------- -----------------------------------
Annual Total Returns Highest & lowest
---------------------------------- quarterly total returns
1995 44.19% for the last 5 years
1996 28.05% -----------------------------------
1997 30.86% Quarter Ended Return
1998 18.95% -----------------------------------
12/31/98 22.68%
Calendar Years Ended December 31 9/30/98 (16.05%)
-----------------------------------
-----------------------------------------------------
Average annual total return
for the period ending December 31, 1998
-----------------------------------------------------
Past One Past Five
Year Years
-------- ---------
Aggressive Growth Account 18.95% 26.61%*

S&P 500 Stock Index 28.58 24.06
Lipper Growth Fund Average 22.86 19.03
-----------------------------------------------------
* Period from June 1, 1994, date first offered
to the public, through December 31, 1998.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.77% $80 $249 $433 $966
Other Expenses........................ 0.01%
-----
Total Account Operating Expenses 0.78%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since October 1998 Co-Manager, Philip W. Friedman, Managing
Director of Morgan Stanley & Co.
Incorporated and Morgan Stanley Dean Witter
Investment Management Inc. since 1997.
Director of Research, Morgan Stanley Dean
Witter & Co. since 1995. Prior thereto,
Assistant to the Controller and Chief
Financial Officer, Arthur Andersen &
Company.

Since May 1994 Co-Manager, Margaret K. Johnson, Portfolio
(Account's inception) Manager and Principal of Morgan Stanley &
Co. Incorporated since 1989 and Morgan
Stanley Dean Witter Investment Management
Inc. since 1995.

Since October 1998 Co-Manager, William S. Auslander, Portfolio
Manager and Principal of Morgan Stanley &
Co. Incorporated and Morgan Stanley Dean
Witter Investment Management Inc. Prior
thereto, equity analyst since 1995. Equity
analyst at Icahn & Co., 1986-1995.

GROWTH-ORIENTED ACCOUNT

Asset Allocation Account

The Asset Allocation Account seeks to generate a total investment return
consistent with preservation of capital. It uses a flexible investment policy to
establish a diversified global portfolio that will invest in equities and fixed
income securities. The Sub-Advisor, Morgan Stanley, will invest in equity
securities of domestic and foreign corporations that appear to be undervalued
relative to their earnings results or potential, or whose earnings growth
prospectus appear to be more attractive than the economy as a whole. In
addition, Morgan Stanley will invest in debt securities to provide income and to
moderate the overall portfolio risk. Typically Morgan Stanley will invest in
high quality fixed income securities but may invest up to 20% of the Account's
assets in high yield securities.

The securities which the Account purchases are identified as belonging to an
asset class which include:
o stocks of growth-oriented companies (companies with earnings that are
expected to grow more rapidly than the economy as a whole), both foreign
and domestic;
o stocks of value oriented companies (companies with distinctly below average
stock price to earnings ratios and stock price to book value ratios, and
higher than average dividend yields), both foreign and domestic;
o domestic real estate investment trusts;
o fixed income securities, both foreign and domestic; and
o domestic high yield fixed-income securities.

As with any security, the securities in which the Account invests have
associated risks. These include risks of:
o High yield securities. Fixed income securities that are not investment
grade are commonly referred to as junk bonds or high yield securities.
These securities offer a higher yield than other, higher rated securities,
but they carry a greater degree of risk and are considered speculative by
the major credit rating agencies.
o Foreign securities. These have risks that are not generally found in
securities of U.S. companies. For example, the risk that a foreign security
could lose value as a result of political, financial and economic events in
foreign countries. In addition, foreign securities may be subject to
securities regulators with less stringent accounting and disclosure
standards than are required of U.S. companies.
o Securities of smaller companies. Historically, small company securities
have been more volatile in price than larger company securities, especially
over the short-term. While small companies may offer greater opportunities
for capital growth than larger, more established companies, they also
involve greater risks and should be considered speculative.

Allocation among asset classes is designed to lessen overall investment risk by
diversifying the Account's assets among different types of investments in
different markets. Morgan Stanley reallocates among asset classes and eliminates
asset classes for a period of time, when in it's judgment the shift offers
better prospects of achieving the investment objective of the Account. Under
normal market conditions, abrupt shifts among asset classes will not occur.

Morgan Stanley does not allocate a specific percentage of the Account's assets
to a class. Over time, it expects the asset mix to be within the following
ranges:
o 25% to 75% in equity securities;
o 20% to 60% in debt securities; and
o 0% to 40% in money market instruments.
The allocation is based on Morgan Stanley's judgement as to the general market
and economic conditions, trends and investment yields, interest rates, and
changes in fiscal or monetary policies.

The net asset value of the Account's shares is effected by changes in the value
of the securities it owns. The prices of equity securities held by the Account
may decline in response to certain events including those directly involving
issuers of these securities, adverse conditions affecting the general economy,
or overall market declines. In the short term, stock prices can fluctuate
dramatically in response to these factors. The value of debt securities held by
the Account may be affected by factors such as changing interest rates, credit
rating, and effective maturities. When interest rates fall, the price of a bond
rises and when interest rates rise, the price declines. Lower quality and longer
maturity bonds will be subject to greater credit risk and price fluctuations
than higher quality and shorter maturity bonds. Money market instruments held by
the Account may be affected by unfavorable political, economic, or governmental
developments that could affect the repayment of principal or the payment of
interest.

The Asset Allocation Account is generally a suitable investment for investors
who are seeking a moderate risk approach towards long-term growth. As with all
mutual funds, if you sell your shares when their value is less than the price
you paid, you will lose money.

Account Performance Information

---------------------------------- -----------------------------------
Annual Total Returns Highest & lowest
---------------------------------- quarterly total returns
1995 20.66% for the last 5 years
1996 12.92% -----------------------------------
1997 18.19% Quarter Ended Return
1998 9.18% -----------------------------------
12/31/98 11.00%
Calendar Years Ended December 31 9/30/98 (8.16%)
-----------------------------------
-----------------------------------------------------
Average annual total return
for the period ending December 31, 1998
-----------------------------------------------------
Past One Past Five
Year Years
-------- ---------
Asset Allocation Account 9.18% 13.23%*

S&P 500 Stock Index 28.58 24.06
Lipper Flexible Portfolio
Fund Average 14.16 14.54
-----------------------------------------------------
* Period from June 1, 1994, date first offered
to the public, through December 31, 1998.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.80% $91 $284 $493 $1,096
Other Expenses........................ 0.09%
-----
Total Account Operating Expenses 0.89%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since May 1994 Co-Manager, Francine J. Bovich, Managing
(Account's inception) Director of Morgan Stanley Dean Witter
Investment Management Inc. and Morgan
Stanley & Co. Incorporated since 1997.
Principal 1993-1996.

Since October 1998 Co-Manager, Philip W. Friedman, Managing
Director of Morgan Stanley & Co.
Incorporated and Morgan Stanley Dean Witter
Investment Management Inc. since 1997.
Director of Research, Morgan Stanley Dean
Witter & Co. since 1995. Prior thereto,
Assistant to the Controller and Chief
Financial Officer, Arthur Andersen &
Company.

Since April 1996 Co-Manager, Stephen C. Sexauer, Principal of
Morgan Stanley Dean Witter Investment
Management Inc. and Morgan Stanley & Co.
Incorporated since 1989.

GROWTH-ORIENTED ACCOUNT

Balanced Account

Account Performance Information

---------------------------------- -----------------------------------
Annual Total Returns Highest & lowest
---------------------------------- quarterly total returns
1989 11.56% 1994 -2.09% for the last 10 years
1990 -6.43% 1995 24.58% -----------------------------------
1991 34.36% 1996 13.13% Quarter Ended Return
1992 12.80% 1997 17.93% -----------------------------------
1993 11.06% 1998 11.91% 3/31/91 12.62%
Calendar Years Ended December 31 9/30/90 (11.70%)
-----------------------------------
-----------------------------------------------------
Average annual total return
for the period ending December 31, 1998
-----------------------------------------------------
Past One Past Five Past Ten
Year Years Years
-------- --------- --------
Balanced Account 11.91% 12.74% 12.33%

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.57% $60 $189 $329 $738
Other Expenses........................ 0.02%
-----
Total Account Operating Expenses 0.59%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since April 1993 Co-Manager, Judith A. Vogel, CFA. Portfolio
Manager of Invista Capital Management, LLC
since 1987.

Since October 1998 Co-Manager, Douglas D. Herold, CFA.
Portfolio Manager of Invista Capital
Management, LLC since 1996. Prior thereto,
Securities Analyst from 1993-1996.

Since December 1997 Co-Manager, Martin J. Schafer, Portfolio
Manager of Invista Capital Management, LLC
since 1992.

INCOME-ORIENTED ACCOUNT

Bond Account

The Bond Account seeks to provide as high a level of income as is consistent
with preservation of capital and prudent investment risk. It invests in
fixed-income securities. Generally, the Account invests on a long-term basis but
may make short-term investments. Longer maturities typically provide better
yields but expose the Account to the possibility of changes in the values of its
securities as interest rates change. When interest rates fall, the price per
share rises, and when rates rise, the price per share declines.

Under normal circumstances, the Account invests at least 65% of its assets in:
o debt securities and taxable municipal bonds;
o rated, at purchase, in one of the top four categories by S&P or
Moody's, or
o if not rated, in the Manager's opinion are of comparable quality.
o similar Canadian, Provincial or Federal Government securities payable in
U.S. dollars; and
o securities issued or guaranteed by the U.S. Government or its agencies.

Account Performance Information

Lehman Brothers
BAA Corporate
Index 6.96 7.34 9.25
Lipper Corporate
Debt BBB Rated
Fund Average 6.25 7.00 9.19
---------------------------------------------

During the fiscal year ended December 31, 1998, the average ratings of the
Account's assets based on markte value at each mont-end, were as follows (all
ratings are by Moody's):

2.08% in securities rated Aaa
2.78% in securities rated Aa
24.00% in securities rated A
64.55% in securities rated Baa
6.59% in securities rated Ba

Day-to-day Account management:
Since November 1996 Scott A. Bennett, CFA. Assistant Director - Securities
Investment of Principal Capital Management LLC since
1996. Prior thereto, Investment Manager.

GROWTH-ORIENTED ACCOUNT

Capital Value Account

In making selections for the Account's investment portfolio, Invista uses an
approach described as "fundamental analysis." The basic steps are involved in
this analysis are:

Account Performance Information

S&P 500 Stock Index 28.58 24.06 19.21
Lipper Growth and Income
Fund Average 15.61 18.53 15.76
-----------------------------------------------------

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.43% $45 $141 $246 $555
Other Expenses........................ 0.01%
-----
Total Account Operating Expenses 0.44%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since November 1996 Catherine A. Zaharis, CFA. Portfolio Manager of
Invista Capital Management, LLC since 1987.

INCOME -ORIENTED ACCOUNT

Government Securities Account

The Government Securities Account seeks a high level of current income,
liquidity and safety of principal. It invests in securities supported by:
o full faith and credit of the U.S. Government (e.g. GNMA certificates); or
o credit of a U.S. Government agency or instrumentality (e.g. bonds issued by
the Federal Home Loan Bank).
In addition, the account may invest in money market investments.

Although some of the securities the Account purchases are backed by the U.S.
government and its agencies, shares of the Account are not guaranteed. When
interest rates fall, the value of the Account's shares rises, and when rates
rise, the value declines. As with all mutual funds, if you sell your shares when
their value is less than the price you paid, you will lose money.

U.S. Government securities do not involve the degree of credit risk associated
with investments in lower quality fixed-income securities. As a result, the
yields available from U.S. Government securities are generally lower than the
yields available from many other fixed-income securities. Like other
fixed-income securities, the values of U.S. Government securities change as
interest rates fluctuate. Fluctuations in the value of the Account's securities
do not affect interest income on securities already held by the Account, but are
reflected in the Account's price per share. Since the magnitude of these
fluctuations generally is greater at times when the Account's average maturity
is longer, under certain market conditions the Account may invest in short term
investments yielding lower current income rather than investing in higher
yielding longer term securities.

GNMA Certificates are mortgage-backed securities representing an interest in a
pool of mortgage loans. Various lenders make loans that are then insured (by the
Federal Housing Administration) or loans that are guaranteed (by Veterans
Administration or Farmers Home Administration). The lender or other security
issuer creates a pool of mortgages that it submits to GNMA for approval.

The Account invests in modified pass-through GNMA Certificates. Owners of
Certificates receive all interest and principal payments owed on the mortgages
in the pool, regardless of whether or not the mortgagor has made the payment.
Timely payment of interest and principal is guaranteed by the full faith and
credit of the U.S.
Government.

Mortgage-backed securities are subject to prepayment risk. Prepayments,
unscheduled principal payments, may result from voluntary prepayment,
refinancing or foreclosure of the underlying mortgage. When interest rates
decline, significant unscheduled prepayments may result. These prepayments must
then be reinvested at lower rates. Prepayments may also shorten the effective
maturities of these securities, especially during periods of declining interest
rates. On the other hand, during period of rising interest rates, a reduction in
prepayments may increase the effective maturities of these securities,
subjecting them to the risk of decline in market value in response to rising
interest and potentially increasing the volatility of the Account.

In addition, prepayments may cause losses on securities purchased at a premium
(dollar amount by which the price of the bond exceeds its face value). At times,
mortgage-backed securities may have higher than market interest rates and are
purchased at a premium. Unscheduled prepayments are made at par and cause the
Account to experience a loss of some or all of the premium.

The Government Securities Income Account is generally a suitable investment for
investors who want monthly dividends to provide income or to be reinvested in
additional Account shares to produce growth. Such investors prefer to have the
repayment of principal and interest on most of the securities in which the
Account invests to be backed by the U.S. Government or its agencies.

Account Performance Information

----------------------------- ---------------------------------------
Annual Total Returns Highest & lowest
----------------------------- quarterly total returns
1989 15.59% 1994 -4.53% for the last 10 years
1990 9.54% 1995 19.07% ---------------------------------------
1991 16.95% 1996 3.35% Quarter Ended Quarterly Return
1992 6.84% 1997 10.39% ---------------------------------------
1993 10.07% 1998 8.27% 6/30/89 8.92%
3/31/94 (3.94%)
---------------------------------------
Calendar Years Ending December 31
------------------------------------------------
Average annual total returns
for the period ending December 31, 1998
------------------------------------------------
Past One Past Five Past Ten
Year Years Years
-------- --------- --------
Government Securities
Account 8.27% 7.02% 9.35%

Lehman Brothers
Mortgage Index 6.96 7.23 9.13
Lipper U.S. Mortgage
Fund Average 6.08 5.98 8.04
------------------------------------------------

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.49% $51 $160 $280 $628
Other Expenses........................ 0.01%
-----
Total Account Operating Expenses 0.50%
- --------------------------------------------------------------------------------

Day-to-day Account Management:
Since May 1985 Martin J. Schafer, CFA. Portfolio Manager of Invista
(Account's inception) Capital Management, LLC since 1992.

GROWTH-ORIENTED ACCOUNT

Growth Account

The Growth Account primarily invests in common stocks. It may also invest in
other equity securities. In seeking the Account's objective of capital growth,
the Sub-Advisor, Invista, uses an approach described as "fundamental analysis."
The basic steps involved in this analysis are:

o Stock selection. Invista then purchases securities of issuers that appear
to have high growth potential. Common stocks selected for the Account may
include securities of companies that:
o have a record of sales and earnings growth that exceeds the growth
rate of corporate profits of the S&P 500, or
o offer new products or new services.

These securities present greater opportunities for capital growth because of
high potential earnings growth, but may also involve greater risk than
securities that do not have the same potential. The companies may have limited
product lines, markets or financial resources, or may depend on a limited
management group. Their securities may trade less frequently and in limited
volume. As a result, these securities may change in value more than those of
larger, more established companies.

The Growth Account is generally a suitable investment for investors who want
long-term growth. Additionally, the investor must be willing to accept the risks
of investing in common stocks that may have greater risks than stocks of
companies with lower potential for earnings growth. As the value of the stocks
owned by the Account changes, the Account share price changes. In the short
term, the share price can fluctuate dramatically. As with all mutual funds, if
you sell your shares when their value is less than the price you paid, you will
lose money.

Account Performance Information

------------------------------- ----------------------------------------
Annual Total Return Highest & lowest
------------------------------- quarterly total returns
1995 25.62% for the last 5 years
1996 12.51% ----------------------------------------
1997 26.96% Quarter Ended Return
1998 21.36% ----------------------------------------
12/31/98 21.35%
9/30/98 (14.63%)
----------------------------------------
Calendar Years Ended December 31
---------------------------------------------
Average annual total returns
for the period ending December 31, 1998
---------------------------------------------
Past One Past Five
Year Years
-------- ---------
Growth Account 21.36% 19.48%*

S&P 500 Stock Index 28.58 24.06
Lipper Growth Fund Average 22.86 19.03
---------------------------------------------
* Period from May 1, 1994, date first
offered to the public, through
December 31, 1998.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.47% $49 $154 $269 $604
Other Expenses........................ 0.01%
-----
Total Account Operating Expenses 0.48%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since August 1987 Michael R. Hamilton, Portfolio Manager of Invista
(Account's inception) Capital Management, LLC since 1987.

GROWTH-ORIENTED ACCOUNT

International Account

The International Account seeks long-term growth of capital by investing in a
portfolio of equity securities of companies established outside of the U.S. The
Account has no limitation on the percentage of assets that are invested in any
one country or denominated in any one currency. However under normal market
conditions, the Account intends to have at least 65% of its assets invested in
companies of at least three countries. One of those countries may be the U.S.
though currently the Account does not intend to invest in equity securities of
U.S. companies.

Account Performance Information

------------------------------- ----------------------------------------
Annual Total Return Highest & lowest
------------------------------- quarterly total returns
1995 14.17% for the last 5 years
1996 25.09% ----------------------------------------
1997 12.24% Quarter Ended Return
1998 9.98% ----------------------------------------
12/31/98 16.60%
9/30/98 (17.11%)
----------------------------------------
Calendar Years Ended December 31
----------------------------------------------
Average annual total returns
for the period ending December 31, 1989
----------------------------------------------
Past One Past Five
Year Years
-------- ---------
International Account 9.98% 12.09%*

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.73% $79 $246 $428 $954
Other Expenses........................ 0.04%
-----
Total Account Operating Expenses 0.77%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since April 1994 Scott D. Opsal, CFA. Executive Vice President and
Chief Investment Officer of Invista Capital Management,
LLC since 1997. Vice President, 1986-1997.

GROWTH-ORIENTED ACCOUNT

International SmallCap Account

The International SmallCap Account seeks long-term growth of capital. It invests
in stocks of non-U.S. companies with comparatively smaller market
capitalizations. Market capitalization is defined as total current market value
of a company's outstanding common stock. Under normal market conditions, the
Account invests at least 65% of its assets in securities of companies having
market capitalizations of $1 billion or less.

Foreign stocks carry risks that are not generally found in stocks of U.S.
companies. These include the risk that a foreign security could lose value as a
result of political, financial and economic events in foreign countries. In
addition, foreign securities may be subject to securities regulators with less
stringent accounting and disclosure standards than are required of U.S.
companies.

Investments in companies with small market capitalizations carry their own
risks. Historically, small company securities have been more volatile in price
than larger company securities, especially over the short-term. While small
companies may offer greater opportunities for capital growth than larger, more
established companies, they also involve greater risks and should be considered
speculative.

The Account diversifies its investments geographically. There is no limitation
of the percentage of assets that may be invested in one country or denominated
in any one currency. However, under normal market circumstances, the Account
intends to have at least 65% of its assets invested in securities of companies
of at least three countries.

This Account is not an appropriate investment for investors seeking either
preservation of capital or high current income. Investors must be able to assume
the increased risks of higher price volatility and currency fluctuations
associated with investments in international stocks which trade in non-U.S.
currencies. The International SmallCap Account is generally a suitable
investment for investors seeking long-term growth who want to invest a portion
of their assets in smaller, non-U.S. companies. As with all mutual funds, the
value of the Account's assets may rise or fall. If you sell your shares when
their value is less than the price you paid, you will lose money.

Account Performance Information

- ------------------------------------------ ------------------------------------
Average annual total return Highest & lowest
for the period ending December 31, 1998 quarterly total returns
- ------------------------------------------ for the last 3 quarters
Past One ------------------------------------
Year Quarter Ended Return
-------- ------------------------------------
12/31/98 13.68%
International SmallCap Account (10.37)%* 9/30/98 (19.31%)
------------------------------------
Morgan Stanley Capital
International EAFE (Europe,
Australia and Far East Index 20.00
Lipper International SmallCap
Fund Average 13.02
-----------------------------------------
* Period from May 1, 1998, date first
offered to the public, through
December 31, 1998.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 1.21% $136 $425 $734 $1,613
Other Expenses........................ 0.13%
-----
Total Account Operating Expenses 1.34%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since April 1998 Darren K. Sleister, Portfolio Manager of Invista
(Account's inception) Capital Management, LLC since 1995. Prior thereto,
Securities Analyst.

GROWTH-ORIENTED ACCOUNT

MicroCap Account

The MicroCap Account seeks to achieve long-term growth of capital. Under normal
market conditions, it 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 is two to three years.

The Account invests in companies that the Sub-Advisor, Goldman, believes are
well managed niche businesses that have the potential to achieve high or
improving returns on capital and/or above average sustainable growth. Goldman
invests in companies that have value characteristics as well as those with
growth characteristics with no consistent preference between the two categories.
Growth stocks are considered to be those with potential for growth of capital
and earnings which is expected to be above average. Value stocks tend to have
higher yields and lower price to earnings (P/E) ratios than other stocks.

The Account may invest in securities of small market capitalization companies
that have experienced financial difficulties. Investments may also be made in
companies that are in the early stages of their life and that Goldman believes
have significant growth potential. Goldman 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. Historically, small
company securities have been more volatile in price than larger company
securities, especially over the short-term. Smaller companies may also be
developing or marketing new products or services for which markets are not yet
established and may never become established. While small, unseasoned companies
may offer greater opportunities for capital growth than larger, more established
companies, they also involve greater risks and should be considered speculative.

The Account may invest up to 35% of its total assets in equity securities of
companies with market capitalizations of more than $700 million at the time of
the investment and in fixed income securities. In addition, although the Account
invests primarily in securities of domestic corporations, it may invest up to
25% of its total assets in foreign securities. These may include securities of
issuers in emerging countries and securities denominated in foreign currencies.
Foreign stocks and those denominated in foreign currencies carry risks that are
not generally found in stocks of U.S. companies. These include the risk that a
foreign security could lose value as a result of political, financial and
economic events in foreign countries. In addition, foreign securities may be
subject to securities regulators with less stringent accounting and disclosure
standards than are required of U.S. companies.

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 (a more complete discussion of these risks is
found in the description of the Real Estate Account). The Account will
indirectly bear its proportionate share of any expenses, including management
fees, paid by a REIT in which it invests.

The MicroCap Account is generally a suitable investment for investors who want
longer-term growth of capital. Additionally, the investor must be willing to
accept the risks of investing in securities that may have greater risks than
stocks of companies with lower potential for growth. The Account's share price
may fluctuate more than that of funds primarily invested in stocks of mid-sized
and large companies. Occasionally, small company securities may underperform as
compared to the securities of larger companies. As the value of the stocks owned
by the Account changes, the Account's share price changes. In the short-term,
the share price can fluctuate dramatically. As with all mutual funds, if you
sell your shares when their value is less than the price you paid, you will lose
money.

Account Performance Information

- ----------------------------------------- ------------------------------------
Average annual total return Highest & lowest
for the period ending December 31, 1998 quarterly total returns
- ----------------------------------------- for the last 3 quarters
Past One ------------------------------------
Year Quarter Ended Return
-------- ------------------------------------
MicroCap Account (18.42%)* 12/31/98 15.11%
9/30/98 (26.11%)
Russell 2000 Index (2.55) ------------------------------------
Lipper Micro-Cap Fund
Average 1.36
- -----------------------------------------
* Period from May 1, 1998, date first
offered to the public, through
December 31, 1998.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 1.00% $140 $437 $755 $1,657
Other Expenses........................ 0.38%
-----
Total Account Operating Expenses 1.38%*
- --------------------------------------------------------------------------------
* Manager has agreed to reimburse operating
expenses so that total Account operating
expenses will not be greater than 1.06%
for 1999.

Day-to-day Account management:
Since April 1998 Co-Manager, Paul D. Farrell, Vice President
(Account's inception) of Goldman since 1991.

Since April 1998 Co-Manager, Matthew B. McLennan, Associate
(Account's inception) of Goldman since 1995. Prior thereto,
Queensland Investment Corporation in
Australia.

Since April 1998 Co-Manager, Eileen A. Aptman, Vice President
(Account's inception) of Goldman since 1993.

GROWTH-ORIENTED ACCOUNT

MidCap Account

The MidCap Account is generally a suitable investment for investors seeking
long-term growth and who are willing to accept the potential for short-term
fluctuations in the value of their investments. It is designed for long-term
investors for a portion of their investments and is not designed for investors
seeking income or conservation of capital.

Account Performance Information

---------------------------------- -----------------------------------
Annual Total Returns Highest & lowest
---------------------------------- quarterly total returns
1989 21.84% 1994 0.78% for the last 10 years
1990 -12.50% 1995 29.01% -----------------------------------
1991 53.50% 1996 21.11% Quarter Ended Return
1992 14.94% 1997 22.75% -----------------------------------
1993 19.28% 1998 3.69% 3/31/91 25.86%
Calendar Years Ended December 31 9/30/90 (26.61%)
-----------------------------------
-----------------------------------------------------
Average annual total return
for the period ending December 31, 1998
-----------------------------------------------------
Past One Past Five Past Ten
Year Years Years
-------- -------- --------
MidCap Account 3.69% 14.92% 16.22%

S&P 500 Stock Index 28.58 24.06 19.21
Lipper Mid-Cap Fund Average 12.16 15.18 15.83
-----------------------------------------------------

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.61% $63 $199 $346 $774
Other Expenses........................ 0.01%
-----
Total Account Operating Expenses 0.62%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since December 1987 Michael R. Hamilton, Portfolio Manager of Invista
(Account's inception) Capital Management, LLC since 1987.

GROWTH-ORIENTED ACCOUNT

MidCap Growth Account

"Standard & Poor's MidCap 400 Index" is a trademark of Standard & Poor's
Corporation (S&P). S&P is not affiliated with Principal Life Insurance Company
or with the Fund.

Account Performance Information

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.90% $129 $403 $697 $1,534
Other Expenses........................ 0.37%
-----
Total Account Operating Expenses 1.27%*
- --------------------------------------------------------------------------------
*Manager has agreed to reimburse operating
expenses so that total Account operating
expenses will not be greater than 0.96%
for 1999.

Money Market Account

The Money Market Account is generally a suitable investment for investors
seeking monthly dividends to produce income without incurring much principal
risk or for investor's short-term needs.

Account Performance Information

Annual Total Returns

1989 8.98% 1994 3.76%
1990 8.01% 1995 5.59%
1991 5.92% 1996 5.07%
1992 3.48% 1997 5.04%
1993 2.69% 1998 5.20%

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.50% $53 $167 $291 $653
Other Expenses........................ 0.02%
-----
Total Account Operating Expenses 0.52%
- --------------------------------------------------------------------------------

GROWTH-ORIENTED ACCOUNT

Real Estate Account

The Real Estate Account seeks to generate a high total return. It invests
primarily in equity securities of companies engaged in the real estate industry.
For purposes of the Account's investment policies, a real estate company has at
least 50% of its assets, income or profits derived from products or services
related to the real estate industry. Real estate companies include real estate
investment trusts 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 assets in securities of foreign real
estate companies. These include the risk that a foreign security could lose
value as a result of political, financial and economic events in foreign
countries. In addition, foreign securities may be subject to securities
regulators with less stringent accounting and disclosure standards than are
required of U.S. companies.

Real estate investment trusts ("REITs") are corporations or business trusts that
are effectively permitted to eliminate corporate level federal income taxes if
they meet certain requirements of the Internal Revenue Code. The Account focuses
on equity REITs. REITs are characterized as:
o equity REITs, which primarily own property and generate revenue from rental
income;
o mortgage REITs, which invest in real estate mortgages; and
o hybrid REITs, which combine the characteristics of both equity and mortgage
REITs.

Securities of real estate companies are subject to securities market risks
similar those of direct ownership of real estate. These include:
o declines in the value of real estate o risks related to general and
local economic conditions
o dependency on management skills
o heavy cash flow dependency
o possible lack of available mortgage funds
o overbuilding
o extended vacancies in properties
o increases in property taxes and operating expenses
o changes in zoning laws
o expenses incurred in the cleanup of environmental problems
o casualty or condemnation losses
o changes in interest rates

In addition to the risks listed above, equity REITs are affected by the changes
in the value of the properties owned by the trust. Mortgage REITs are affected
by the quality of the credit extended. Both equity and mortgage REITs:
o are dependent upon management skills and may not be diversified;
o are subject to cash flow dependency and defaults by borrowers; and
o could fail to qualify for tax-free pass through of income under the Code.

Because of these factors, the values of the securities held by the Account, and
in turn the net asset value of the shares of the Account, change on a daily
basis. In addition, the prices of the equity securities held by the Account may
decline in response to certain events including those directly involving issuers
of these securities, adverse conditions affecting the general economy, or
overall market declines. In the short term, share prices can fluctuate
dramatically in response to these factors. Because of these fluctuations,
principal values and investment returns vary. When shares of the Account are
sold, they may be worth more or less than the amount paid for them.

The Real Estate Account is generally a suitable investment for investors seeking
long-term growth, who want to invest in companies engaged in the real estate
industry and who are willing to accept fluctuations in the value of their
investment.

Account Performance Information

- ------------------------------------------ ------------------------------------
Average annual total return Highest & lowest
for the period ending December 31, 1998 quarterly total returns
- ------------------------------------------ for the last 3 quarters
Past One ------------------------------------
Year Quarter Ended Return
-------- ------------------------------------
Real Estate Account (6.56%)* 12/31/98 0.35%
9/30/98 (7.72%)
------------------------------------
Morgan Stanley REIT Index (16.90)
Lipper Real Estate
Fund Average (15.46)
-----------------------------------------
* Period from May 1, 1998, date first
offered to the public, through
December 31, 1998.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.90% $102 $318 $552 $1,225
Other Expenses........................ 0.10%
-----
Total Account Operating Expenses 1.00%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since April 1998 Kelly D. Rush, Assistant Director of Commercial Real
(Account's inception) Estate, Principal Capital Management LLC since 1996.
Prior thereto, Senior Administrator, Investment -
Commercial Real Estate.

GROWTH-ORIENTED ACCOUNT

SmallCap Account

Account Performance Information

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.85% $100 $312 $542 $1,201
Other Expenses........................ 0.13%
-----
Total Account Operating Expenses 0.98%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since April 1998 Co-Manager, Mark T. Williams, Portfolio
(Account's inception) Manager of Invista Capital Management, LLC
since 1991.

Since April 1998 Co-Manager, John F. McClain, Portfolio
(Account's inception) Manager of Invista Capital Management, LLC
since 1995. Investment Officer, 1992-1995.

GROWTH-ORIENTED ACCOUNT

SmallCap Growth Account

The SmallCap Growth Account seeks long-term growth of capital. It invests
primarily in a diversified group of equity securities of small growth companies.
Generally, at the time of the Account's initial purchase of a security, the
market capitalization of the issuer is less than $1 billion. Growth companies
are generally those with sales and earnings growth that is expected to exceed
the growth rate of corporate profits of the S&P 500. Investments in companies
with small market capitalizations carry their own risks. Historically, small
company securities have been more volatile in price than larger company
securities, especially over the short-term. Smaller companies may be developing
or marketing new products or services for which markets are not yet established
and may never become established. While small companies may offer greater
opportunities for capital growth than larger, more established companies, they
also involve greater risks and should be considered speculative.

In selecting securities for investment, the Sub-Advisor, Berger, places primary
emphasis on companies which it believes have favorable growth prospects. Berger
seeks to identify small growth companies that either:
o occupy a dominant position in an emerging industry, or
o have a growing market share in larger, fragmented industries.
While these companies may present above average risk, Berger believes that they
may have the potential to achieve long-term earnings growth substantially above
the earnings growth of other companies.

The net asset value of the Account's shares is based on the values of the
securities it holds. The value of the stocks owned by the Account changes on a
daily basis. The current share price reflects the activities of individual
companies and general market and economic conditions. In the short term, stock
prices can fluctuate dramatically in response to these factors. Because of these
fluctuations, principal values and investment returns vary. As with all mutual
funds, if you sell your shares when their value is less than the price you paid,
you will lose money.

Account Performance Information

- ------------------------------------------- -----------------------------------
Average annual total return Highest & lowest
for the period ending December 31, 1998 quarterly total returns
- ------------------------------------------- for the last 3 quarters
Past One -----------------------------------
Year Quarter Ended Return
-------- -----------------------------------
SmallCap Growth Account 2.96%* 12/31/98 27.53%
9/30/98 (18.94%)
Russell 2000 Growth Index 1.23 -----------------------------------
Lipper SmallCap Fund Average (0.33)
- -------------------------------------------
* Period from May 1, 1998, date first
offered to the public, through
December 31, 1998.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 1.01% $133 $415 $718 $1,579
Other Expenses........................ 0.30%
-----
Total Account Operating Expenses 1.31%*
- --------------------------------------------------------------------------------
*Manager has agreed to reimburse operating
expenses so that total Account operating
expenses will not be greater than 1.06%
for 1999.

GROWTH-ORIENTED ACCOUNT

SmallCap Value Account

The SmallCap Value Account seeks long-term growth of capital. It invests
primarily in a diversified group of equity securities of small U.S. companies
with a market capitalization of less than $1 billion at the time of the initial
purchase. Under normal market conditions, the Account invests at least 65% of
its assets in equity securities of such companies. Emphasis is given to those
companies that exhibit value characteristics. These characteristics are above
average dividend yield and below average price to earnings (P/E) ratios.

The Sub-Advisor, Morgan, uses fundamental research, systematic stock valuation
and a disciplined portfolio construction process. It seeks to enhance returns
and reduce the volatility in the value of the Account relative to that of the
U.S. small company value universe, represented by the Russell 2000(R) Value
Index. Morgan continuously screens the small company universe to identify for
further analysis those companies that exhibit favorable characteristics. Such
characteristics include significant and predictable cash flow and high quality
management. Based on fundamental research and using a dividend discount model,
Morgan ranks these companies within economic sectors according to their relative
values. Morgan then selects for purchase the companies it feels to be most
attractive within each economic sector.

Under normal market conditions, the Account will have sector weightings
comparable to that of the U.S. small company value universe though 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. The Account may however 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
have increased transactions costs.

As with any security, the securities in which the Account invests have
associated risks. These include risks of:
o Securities of smaller companies. Historically, small company securities
have been more volatile in price than larger company securities, especially
over the short-term. While small companies may offer greater opportunities
for capital growth than larger, more established companies, they also
involve greater risks and should be considered speculative.
o Unseasoned issuers. Smaller companies may be developing or marketing new
products or services for which markets are not yet established and may
never become established.
o Foreign securities. These have risks that are not generally found in
securities of U.S. companies. For example, the risk that a foreign security
could lose value as a result of political, financial and economic events in
foreign countries. In addition, foreign securities may be subject to
securities regulators with less stringent accounting and disclosure
standards than are required of U.S. companies.

The SmallCap Value Account is generally a suitable investment for investors
seeking long-term growth and who are willing to accept volatile fluctuations in
the value of their investment. The Account's share price may fluctuate more than
that of funds primarily invested in stocks of mid-sized and large companies and
may underperform as compared to the securities of larger companies. The Account
is not designed for investors seeking income or conservation of capital. As with
all mutual funds, if you sell your shares when their value is less than the
price you paid, you will lose money.

Account Performance Information

- ------------------------------------------- -----------------------------------
Average annual total returns Highest & lowest
for the period ending December 31, 1998 quarterly total returns
- ------------------------------------------- for the last 3 quarters
Past One -----------------------------------
Year Quarter Ended Return
--------- -----------------------------------
SmallCap Value Account (15.06%)* 12/31/98 11.37%
9/30/98 (19.14%)
Russell 2000 Value Index (6.45) -----------------------------------
Lipper SmallCap Fund Average (0.33)
- -------------------------------------------
* Period from May 1, 1998, date first
offered to the public, through
December 31, 1998.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 1.10% $159 $493 $850 $1,856
Other Expenses........................ 0.46%
-----
Total Account Operating Expenses 1.56%*
- --------------------------------------------------------------------------------
*Manager has agreed to reimburse operating
expenses so that total Account operating
expenses will not be greater than 1.16%
for 1999.

Day-to-day Account management:
Since April 1998 Co-Manager, Stephen Rich, Vice President of
(Account's inception) J.P. Morgan Investment Management, Inc.
since 1997. Prior thereto, held positions in
J.P. Morgan's structured equity and
balanced/equity groups.

Since April 1998 Co-Manager, Denise Higgins, Vice President
(Account's inception) of J.P. Morgan Investment Management, Inc.
since 1998. Balanced and equity portfolio
manager at J.P. Morgan Investment
Management, Inc., 1994-1998. Prior thereto,
portfolio manager at Lord Abbett & Company.

GROWTH-ORIENTED ACCOUNT

Stock Index 500 Account

The Stock Index 500 Account seeks long-term growth of capital. Under normal
market conditions, the Account invests at least 80% of its assets in common
stocks of companies that compose the S&P 500 Index. The Sub-Advisor, Invista,
will attempt to mirror the investment performance of the index by allocating the
Account's assets in approximately the same weightings as the S&P 500. Over the
long-term, Invista seeks a correlation between the Account, before expenses, and
that of the S&P 500. It is unlikely that a perfect correlation of 1.00 will be
achieved.

* Standard & Poor's Corporation is not affiliated with Principal Variable
Contracts Fund, Inc., Invista Capital Management, LLC, or with Principal
Life Insurance Company.

Account Performance Information

The example shown below assumes 1) an investment of $10,000, 2) a 5%
annual return and 3) that expenses are the same as the most recent fiscal
year expenses.

Day-to-day Account management:
Since April 1999 Dean Roth, Portfolio Manager of Invista Capital
(Account's inception) Management, LLC since 1993.

GROWTH-ORIENTED ACCOUNT

Utilities Account

The Utilities Account seeks to provide current income and long-term growth of
income and capital. It invests in securities issued by companies in the public
utilities industry. These companies include:
o companies engaged in the manufacture, production, generation, sale or
distribution of electric or gas energy or other types of energy, and
o companies engaged in telecommunications, including telephone, telegraph,
satellite, microwave and other communications media (but not public
broadcasting or cable television).

The Sub-Advisor, Invista, considers a company to be in the public utilities
industry if, at the time of investment, at least 50% of the company's assets,
revenues or profits are derived from one or more of those industries.

Under normal market conditions, at least 65% (and up to 100%) of the assets of
the Account are invested in equity securities and fixed-income securities in the
public utilities industry. The Account does not have any policy to concentrate
its assets in any segment of the utilities industry. The portion of Account
assets invested in equity securities and fixed-income securities varies from
time to time. When determining how to invest the Account's assets to achieve its
investment objective, Invista considers:
o changes in interest rates,
o prevailing market conditions, and
o general economic and financial conditions.

The Account invests in fixed income securities, which at the time of purchase,
are
o rated in one of the top four categories by S&P or Moody's, or
o if not rated, in the Manager's opinion are of comparable quality.

Since the Account's investments are concentrated in the utilities industry, the
value of its shares changes in response to factors affecting those industries.
Many utility companies have been subject to risks of:
o increase in fuel and other operating costs;
o changes in interests rates on borrowings for capital improvement programs;
o changes in applicable laws and regulations;
o changes in technology which render existing plants, equipment or products
obsolete;
o effects of conservation; and
o increase in costs and delays associated with environmental regulations.

Generally, the prices charged by utilities are regulated with the intention of
protecting the public while ensuring that utility companies earn a return
sufficient to attract capital to grow and provide appropriate services. However,
due to political and regulatory factors, rate changes ordinarily occur following
a change in financing costs. This delay tends to favorably affect a utility
company's earnings and dividends when costs are decreasing but also adversely
affects earnings and dividends when costs are rising. In addition, the value of
the utility company bonds rise when interest rates fall and fall when interest
rates rise. Certain states are adopting deregulation plans. These plans
generally allow for the utility company to set the amount of their earnings
without regulatory approval.

The Utilities Account is generally a suitable investment for investors seeking
quarterly dividends for income or to be reinvested for growth. Suitable
investors are those who want to invest in companies in the utilities industry
and are willing to accept fluctuations in the value of their investment. The
share price of the Account may fluctuate more widely than the value of shares of
a fund that invests in a broader range of industries. Because of these
fluctuations, principal values and investment returns vary. As with all mutual
funds, if you sell your shares when their value is less than the price you paid,
you will lose money.

Account Performance Information

- ---------------------------------------- ------------------------------------
Average annual total returns Highest & lowest
for the period ending December 31, 1998 quarterly total returns
- ---------------------------------------- for the last 3 quarters
Past One ------------------------------------
Year Quarter Ended Return
-------- ------------------------------------
Utilities Account 15.36%* 12/31/98 10.65%
9/30/98 3.83%
S&P 500 Stock Index 28.58 ------------------------------------
Lipper Utilities Fund Average 18.30
- ----------------------------------------
* Period from May 1, 1998, date first
offered to the public, through
December 31, 1998.

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.60% $70 $221 $384 $859
Other Expenses........................ 0.09%
-----
Total Account Operating Expenses 0.69%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since April 1998 Catherine Zaharis, CFA. Portfolio Manager of Invista
(Account's inception) Capital Management, LLC since 1987.

CERTAIN INVESTMENT STRATEGIES AND RELATED RISKS
The Statement of Additional Information (SAI) contains additional information
about investment strategies and their related risks.

Accounts that focus their investments in equity securities include: Aggressive
Growth, Capital Value, Growth, International, International SmallCap, MicroCap,
MidCap, MidCap Value, SmallCap, SmallCap Growth, SmallCap Value, Stock Index 500
and Utilities. The Asset Allocation and Balanced Accounts invest in a mix of
equity and fixed income securities.

Fixed income securities include bonds and other debt instruments that are used
by issuers to borrow money from investors. The issuer generally pays the
investor a fixed, variable or floating rate of interest. The amount borrowed
must be repaid at maturity. Some debt securities, such as zero coupon bonds, do
not pay current interest, but are sold at a discount from their face values.

Fixed income securities are sensitive to changes in interest rates. In general,
bond prices rise when interest rates fall and fall when interest rates rise.
Longer term bonds and zero coupon bonds are generally more sensitive to interest
rate changes.

Accounts that focus their investments in fixed income securities include the
Bond and Government Securities Accounts.

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.

Currency Contracts
The Accounts (except Government Securities and Money Market) may each enter into
forward currency contracts, currency futures contracts and options, 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 in the contract. An Account
will not hedge currency exposure to an extent greater than the aggregate market
value of the securities held or to be purchased by the Account (denominated or
generally quoted or currently convertible into the currency).

Warrants
Each of the Accounts (except Government Securities and Money Market) may invest
up to 5% of its total assets in warrants. Up to 2% of an Account's total assets
may be invested in warrants that are not listed on either the New York or
American Stock Exchanges. For the International and International SmallCap
Accounts, the 2% limitation also applies to warrants not listed on the Toronto
Stock Exchange and Chicago Board Options Exchange.

Risks of High Yield Securities
The Asset Allocation, Balanced, and Bond Accounts may, to varying degrees,
invest in debt securities rated lower than BBB by S&P or Baa by Moody's or, if
not rated, determined to be of equivalent quality by the Manager. Such
securities are sometimes referred to as high yield or "junk bonds" and are
considered speculative.

Options
Each of the Accounts (except Capital Value and Money Market) may buy and sell
certain types of options. Each type is more fully discussed in the SAI.

Foreign Securities
Each of the following Accounts may invest in foreign securities to the indicated
percentage of its assets (debt securities issued in the United States pursuant
to a registration statement filed with the Securities and Exchange Commission
are not treated as foreign securities for purposes of these limitations.):
o Asset Allocation, International and International SmallCap Accounts - 100%;
o Aggressive Growth, MicroCap, Real Estate and SmallCap Growth Accounts -
25%;
o Bond, Capital Value, SmallCap and Utilities Accounts - 20%.
o Balanced, Growth, MidCap, MidCap Growth, SmallCap Value and Stock Index 500
Accounts - 10%.
o The Money Market Account does not invest in foreign securities other than
those that are United States dollar denominated. All principal and interest
payments for the security are payable in U.S. dollars. The interest rate,
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.

Securities of many foreign issuers may be less liquid and their prices more
volatile than those of comparable domestic issuers. Foreign securities markets,
particularly those in emerging market countries, are known to experience long
delays between the trade and settlement dates of securities purchased and sold.
Such delays may result in a lack of liquidity and greater volatility in the
price of securities on those markets. As a result of these factors, the Board of
Directors of the Fund has adopted Daily Pricing and Valuation Procedures for the
Fund. These procedures outline the steps to be followed by the Manager and
Sub-Advisor to establish a reliable market or fair value if a reliable market
value is not available through normal market quotations. The Executive Committee
of the Board of Directors oversees this process.

Securities of Smaller Companies
The Asset Allocation, International SmallCap, MicroCap, MidCap, MidCap Growth,
SmallCap, SmallCap Growth and SmallCap Value Accounts invest in 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 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
The Accounts (except Government Securities) may invest in the securities of
unseasoned issuers. Unseasoned issuers are companies with a record of less than
three years continuous operation, including the operation of predecessors and
parents. Unseasoned issuers by their nature have only a limited operating
history that can be used for evaluating the company's 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
company's 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.

Temporary or Defensive Measures
For temporary or defensive purposes in times of unusual or adverse market
conditions, the Growth-Oriented Accounts, the Bond and Limited Term Bond
Accounts, may invest without limit in cash and cash equivalents. For this
purpose, cash equivalents include: bank certificates of deposit, bank
acceptances, repurchase agreements, commercial paper, and commercial paper
master notes which are floating rate debt instruments without a fixed maturity.
In addition, an Account may purchase U.S. Government securities, preferred
stocks and debt securities, whether or not convertible into or carrying rights
for common stock.

PRICING OF ACCOUNT SHARES

For all Accounts, except the Money Market Account, the share price is calculated
by:
o taking the current market value of the total assets of the Account
o subtracting liabilities of the Account
o dividing the remainder by the total number of shares owned by the Account.

DIVIDENDS AND DISTRIBUTIONS

The issuer of an equity security held by an Account may make a dividend payment.
When an Account receives a dividend, it increases the net asset value of a share
of the Account.

An Account accrues interest daily on its fixed income securities in anticipation
of an interest payment from the issuer of the security. This accrual increases
the net asset value of an Account.

The Money Market Account (or any other Account holding commercial paper)
amortizes the discount on commercial paper it owns on a daily basis. This
increases the net asset value of the Account.

NOTE:As the net asset value of a share of an Account increases, the unit value
of the corresponding division also reflects an increase. The number of
units you own in the Account are not increased.

MANAGEMENT, ORGANIZATION AND CAPITAL STRUCTURE

The Sub-Advisors
The Manager has signed contracts with various Sub-Advisors. Under the
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: Aggressive Growth and Asset Allocation
Sub-Advisor: Morgan Stanley Asset Management ("Morgan Stanley"), 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. As of December 31, 1998, Morgan Stanley managed
investments totaling approximately $163.4 billion as named fiduciary or
fiduciary adviser. On December 1, 1998 Morgan Stanley Asset Management
Inc. changed its name to Morgan Stanley Dean Witter Investment
Management Inc. but continues to do business in certain instances using
the name Morgan Stanley Asset Management.

Accounts: Balanced, Capital Value, Government Securities, Growth,
International, International SmallCap, MidCap, SmallCap, Stock Index
500, and Utilities
Sub-Advisor: Invista Capital Management, LLC
("Invista"), an indirectly wholly-owned subsidiary of Principal Life
Insurance Company and an affiliate of the Manager, was founded in 1985.
It manages investments for institutional investors, including Principal
Life. Assets under management as of December 31, 1998 were
approximately $31 billion. Invista's address is 1800 Hub Tower, 699
Walnut, Des Moines, Iowa 50309.

Account: MicroCap
Sub-Advisor: Goldman Sachs Assets Management ("Goldman"), 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 for 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. As of December 31, 1998,
Goldman, together with its affiliates, managed assets in excess of $195
billion.

Account: MidCap Growth
Sub-Advisor: The Dreyfus Corporation, located at 200 Park Avenue, New
York, NY 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 December 31,
1998, The Dreyfus Corporation managed or administered approximately
$118.5 billion in assets for approximately 1.7 million investor
accounts nationwide.

Account: SmallCap Growth
Sub-Advisor: Berger Associates. 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. Assets under management
for Berger as of December 31, 1998 were approximately $3.4
billion.

Account: SmallCap Value
Sub-Advisor: J.P. Morgan Investment Management, Inc. Morgan, 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 Morgan and
its other subsidiaries, offers a wide range of services to
governmental, institutional, corporate and individual customers
and acts as investment advisor to individual and institutional
clients. As of December 31, 1998, J.P. Morgan and its
subsidiaries had total combined assets under management of
approximately $300 billion.

Management Other Total Operating
Account Fees Expenses Expenses

Aggressive Growth 0.77% 0.01% 0.78%
Asset Allocation 0.80 0.09 0.89
Balanced 0.57 0.02 0.59
Bond 0.49 0.02 0.51
Capital Value 0.43 0.01 0.44
Government Securities 0.49 0.01 0.50
Growth 0.47 0.01 0.48
International 0.73 0.04 0.77
International SmallCap 1.21 0.13 0.34
MicroCap 1.00 0.38 1.38
MidCap 0.61 0.01 0.62
MidCap Growth 0.90 0.37 1.27
Money Market 0.50 0.02 0.52
Real Estate 0.90 0.10 1.00
SmallCap 0.85 0.13 0.98
SmallCap Growth 1.01 0.30 1.31
SmallCap Value 1.10 0.46 1.56
Utilities 0.60 0.09 0.69

The Fund and the Manager, under an order received from the SEC, are able to
change Sub-Advisors or the fees paid to a Sub-Advisor, without the expense and
delay of a shareholder meeting. However, the order will not be relied upon by an
Account until the Fund receives approval from:
o contract owners who have assets in the Account, or
o in the case of a new Account, the Account's sole initial shareholder before
the Account is available to contract owners. (Before the International
SmallCap, MicroCap, MidCap Growth, Real Estate, SmallCap Growth, SmallCap
Value, Stock Index 500 and Utilities Accounts were available to contract
owners, the initial shareholder of each of those Accounts approved their
operation in the manner described in the order.)
The order does not permit the Manager, without shareholder approval, to:
o appoint a Sub-Advisor that is an affiliate of the Manager or the Fund
(other than by reason of serving as a Sub-Advisor to an Account) (an
"affiliated Sub-Advisor"), or
o change a subadvisory fee of an affiliated Sub-Advisor.

MANAGERS' COMMENTS

Growth-Oriented Accounts

Aggressive Growth Account
(Philip W. Friedman, Margaret K. Johnson and William S. Auslander)

- -----------------------------------------------
Total Returns *
As of December 31, 1998
1 Year Since Inception Date 6/1/94 10 Year

18.95% 26.61% --
- -----------------------------------------------

Comparison of Change in Value of $10,000 Investment in the Aggressive Growth
Account, Lipper Growth Fund Average and S&P 500 Stock Index

Standard & Poor's
Aggressive 500 Lipper
Growth Stock Growth Fund
Year Ended December 31, Account Index 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
1998 29,486 29,657 24,140

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 total return of 26.61% versus 26.76% for the S&P 500
and 19.03% for the Lipper Growth Fund Average. In 1998 the Account returned
18.95% versus 28.58% for the S&P 500 and 22.86% for the Lipper Growth Fund
Average.

While 1998 was a disappointing year for the portfolio, the managers were
encouraged by the fourth quarter return. For the fourth quarter the portfolio
rose 22.68% versus 21.30% for the S&P 500 and 22.61% for the Lipper Growth Fund
Average. The early part of the quarter was spent reducing cyclical and medium
capitalization exposure and adding to larger capitalization technology and
health care holdings. This strategy laid the foundation for the performance in
the quarter and positions the Account well for 1999.

But one quarter does not a year make and the return for calendar year 1998 was
clearly disappointing relative to previous periods of outperformance. While some
of the large positions performed well in 1998 (notably United Technologies,
America Online, Microsoft and Cisco) these gains were not enough to offset the
disappointing performance of positions such as Cendant and Continental Airlines,
earlier in the year.

From a macro-perspective, 1998 was certainly a year to be invested in a select
number of large capitalization growth names. For the full year, while the S&P
capitalization weighted index climbed 28.7%, the S&P equal weighted index rose
only 12.8%. Breadth increased somewhat in the fourth quarter, when the S&P 500
capitalization weighted index returned 21.3% and the S&P 500 equal weighted
index gained 17.4%.

Looking out into 1999, against a backdrop of continued low inflation, more
modest GDP growth and ongoing fears of emerging markets slowdowns (Latin
American taking over for Asia in 1999) it is easy to imagine the U.S. stock
market continuing to favor some of the same high growth, mega-cap companies
which performed so well in 1998. Clearly, the U.S. is not pumping on all
cylinders and some U.S. based companies with global exposure are somewhat
precariously positioned. The managers view this as a "glass half full"
opportunity. A number of the growth companies currently invested in either have
minimal exposure to weak international markets, or have demonstrated an ability
to withstand these pressures. The account managers believe this will be a
continued period of outperformance by high quality growth companies that can
continue to meet or beat expectations.

Asset Allocation Account
(Francine J. Bovich, Philip W. Friedman and Stephan C. Sexauer)

- ------------------------------------------------------
Total Returns *
As of December 31, 1998
1 Year Since Inception Date 6/1/94 10 Year
9.18% 13.23% --
- ------------------------------------------------------

Comparison of Change in Value of $10,000 Investment in the Asset Allocation
Account, Lipper Flexible Portfolio Fund Average and S&P 500 Stock Index

Asset Lipper Standard &
Allocation Flexible Portfolio Poor's 500
Year Ended December 31, Account Fund Average Stock Index
- ---------------------- ------- ------------ -----------
10,000 10,000 10,000
1994 10052 10230 10008
1995 12128 14069 12518.01
1996 13696 17297 14220.46
1997 16187 23066 16878.26
1998 17673 29657 19268

Note: Past performance is not predictive of future performance.

Major global market indexes finished 1998 with strong gains, overcoming a
volatile and, at times, precarious market environment. The S&P 500 Index
extended its bull market run into a fourth year, rising 28.6% in 1998. Foreign
stocks also performed well, with MSCI EAFE rising 20%, led by European markets'
euphoria over monetary union. Although bond returns were much less impressive,
the asset class showed strong and steady gains. The Lehman Aggregate Index rose
8.7% for the year.

Despite the strong numbers produced by major market indexes, capital market
strength was not experienced broadly or equally. Although EAFE posted strong
gains, most of the positive news came only from Europe, as the Pacific markets
performed poorly. Japan returned 5.0% while the MSCI Pacific ex-Japan Index
returned -5.5%. Value stocks and smaller capitalization stocks in the U.S. and
in Europe grossly underperformed growth stocks and large cap stocks. In the
U.S., the Russell 2500 Index (a mid and small cap index) rose a mere 0.4% for
the year, while in Europe, the MSCI Europe Small Cap Index rose 1.0% compared to
MSCI Europe's rise of 28.5%. Even within U.S. fixed income, performance was very
disparate between sectors, with Treasuries (+10%) outperforming corporate bonds
(+8.6%), mortgages (+6.8%) and high yield debt (+3.6%). Emerging equity markets
experienced another disappointing year, down 25.3%.

The investment environment in 1998 vacillated between periods of extreme
optimism and extreme pessimism. The first half of the year was marked primarily
by optimism, as markets bounced from the lows of the Asian financial crisis at
the end of 1997. Economic growth in the U.S. and Europe remained resilient, and
inflation was almost non-existent. European and U.S. stock markets soared to new
highs through mid-July, driven by strong economic undertones, liquidity, and
investor optimism. However, the second half of 1998 has proven to be a much more
challenging and highly volatile period. Markets came under severe pressure,
amidst a deepening of the Russian financial crisis, lower earnings expectations,
and the failure of Long Term Capital, a large U.S. based hedge fund. European
and U.S. equity markets fell as much as 20% before stabilizing at the end of
September, and credit spreads widened dramatically, as investors sought refuge
in safe-haven Treasuries.

The tide turned in early October, after two preemptive easings by the Federal
Reserve, including a surprise action in between official Fed meetings. The
ensuing global easing by central banks in Europe and Asia in a concerted effort
to inject liquidity into markets and defend the world economy against
deflationary forces helped lift equity markets strongly off their lows. By the
end of the fourth quarter, all developed markets had shown tremendous gains, led
by the Asia-Pacific (non-Japan) region, which benefited most from the easing.
Many markets finished the year near their highs, as liquidity and optimism
returned to the financial environment.

Throughout the year, the Account maintained a diversified investment strategy.
At the end of 1998, the Account was invested 37% domestic stocks, 18%
international stocks, 39% domestic bonds, 3% real estate investment trusts
("REITs"), and 3% short-term investments. The Account enjoyed positive returns
for the year of 9.2%, but failed to outperform the Lipper Flexible Portfolio
Fund Average gain of 14.2%.

On balance, the account manager's asset allocation decision to overweight
equities relative to fixed income throughout the year was positive, as equities
outperformed fixed income. Security selection within U.S. large cap equities was
the major source of underperformance. The portfolio's orientation toward
value-based, mid- and large-cap securities failed to be rewarded in the
marketplace, as risk-averse investors sought the safety and liquidity of
mega-cap companies.

Balanced Account
(Judith A. Vogel, Douglas D. Herold and Martin J. Schafer)

- --------------------------------------------
Total Returns *
As of December 31, 1998
1 Year 5 Year 10 Year
11.91% 12.74% 12.33%
- --------------------------------------------

Note: Past performance is not predictive of future performance.

Capital Value Account
(Catherine A. Zaharis)

Comparison of Change in Value of $10,000 Investment in the Capital Value
Account, Lipper Growth & Income Fund Average and S&P 500 Stock Index

Note: Past performance is not predictive of future performance.

The Account's focus throughout 1998 was one of quality value. That focus will be
continued into 1999 as economic and world events are closely monitored.

Growth Account
(Michael R. Hamilton)

- ---------------------------------------------------------
Total Returns *
As of December 31, 1998
1 Year Since Inception Date 5/2/94 10 Year
21.36% 19.48% --
- ---------------------------------------------------------

Comparison of Change in Value of $10,000 Investment in the Growth Account,
Lipper Growth Fund Average and S&P 500 Stock Index

S&P
500 Lipper
Growth Stock Growth
Year Ended December 31, Account Index Fund Avgerage
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
1998 22,956 30,142 24,224

Note: Past performance is not predictive of future performance.

The fundamental factors that have been the foundation of this bull market helped
drive the market to new highs in 1998. The five factors are: slow but
sustainable economic growth, low inflation, low interest rates, financial
liquidity and corporate profit growth. 1998 was a year of good news on four of
the five factors. Economic growth in the U.S. was been slightly stronger than
expected, inflation continued to drop, interest rates fell and financial
liquidity increased with the Fed cutting short-term interest rates. The only
non-positive fundamental was corporate earnings which were flat, but are
expected to be positive in 1999.

The market showed a strong bias for large cap stocks over small cap stocks. The
largest two-thirds of the S&P 500 by market cap (over $20 billion) returned over
35% in 1998. In contrast, the smallest one-third of the S&P 500 by market cap
returned slightly over 12% in 1998. While one-third of the S&P 500 is in
companies under $20 billion market cap, the Account had 50% of holdings in such
companies. This size bias explains 85% of the Account's discrepancy to the S&P
500. The account managers have been relatively insensitive to what size of
market cap a company is in the security selection process and continue to
believe that investors should focus on each company's underlying business
fundamentals and valuation when selecting a stock and not on the company's size.

Sectors where the Account outperformed the S&P 500 Index include: capital goods,
communication services, consumer staples, energy, transportation, and utilities.
Sectors where the Account underperformed the S&P 500 Index include: basic
materials, consumer cyclicals, financials, healthcare and technology. While
technology holdings did very well, gaining over 61% on the year, they failed to
keep pace with the S&P 500's technology sector, which gained 73%. The Account's
large position in healthcare did well, gaining 31% on the year. While these were
great absolute returns, they were not good relative returns since the S&P 500's
healthcare sector gained over 43%.

Going forward the managers continue to find the healthcare and financial sectors
attractive. Healthcare companies are benefiting from strong demand as the
population ages and from spectacular new products that make life better. In
financials, the manager's see companies that are more prudently managing their
capital, taking advantage of deregulation and can be purchased at very
reasonable valuations. Few opportunities are found in the utility, energy and
transportation sectors and thus the Account has little to no exposure in these
sectors. As always, account managers continue to pursue companies that possess
competitive advantages, have the potential for good growth and can be purchased
at a reasonable price.

International Account
(Scott D. Opsal)

Comparison of Change in Value of $10,000 Investment in the
International Account, Lipper International Fund Average and MSCI EAFE Index

Morgan Stanley Lipper
Year Ended International Capital International International
December 31, Account EAFE Index Fund Average
----------- ------- ---------- ------------
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
1998 17,034 14,389 14,221

Note: Past performance is not predictive of future performance.

International SmallCap Account
(Darren K. Sleister)

- -------------------------------------------------
Total Returns
As of December 31, 1998
1 Year 5 Year 10 Year
- -------------------------------------------------
-10.37%* -- --

- -------------------------------------------------
* - Since Inception Date 5/1/98

Comparison of Change in Value of $10,000 Investment in the International
SmallCap Account, Lipper International Small-Cap Fund Average and MSCI EAFE
Index

Lipper
International Morgan Stanley International
Year Ended SmallCap Capital International Small-Cap
December 31, Account EAFE Index Fund Average
----------- ------- ---------- ------------
10,000 10,000 10,000
1998 8,963 10,379 9,320

Note: Past performance is not predictive of future performance.

The Account's overweighting in Europe and its low exposure to Asia contributed
to its outperformance relative to its benchmark. The past year has shown the
volatility inherent with the international small cap asset class. Last fall
returns fell significantly in response to the Asian crisis and surprised many
investors who had underestimated the impact it had on other economies. The
beginning of 1998 saw a dramatic recovery in Asian areas, taking the markets to
valuations above the pre-crisis level. However, this fall the markets hovered on
the brink of collapse as several events sparked a growing global concern of the
impact these events would have on the financial markets. These events included
the Russian default on debt, whether the Latin American currencies would
devalue, the slowdown of growth in the emerging economies and the strength of
the dollar relative to the rest of the world economies, calling for a lowering
of interest rates. Resource-based countries, Australia, New Zealand and Canada,
lagged as commodity price deflation placed pressure on the macroeconomic
conditions in these countries.

Currency weakness helped U.S.-based international investors to slightly offset
the overall equity market decline. There is a question as to whether the dollar
is resuming its historic weakness or if this is a temporary adjustment. The Euro
block currencies are likely to be of Germanic influence in warding off inflation
and, as such, be strong. Even though there remains a large burden of proof,
recent movements indicate investors are beginning to price this expectation into
the Euro.

The Account managers are noticing a some stabilization of stock prices in Asia
and believe the bottom is forming in equities. Thus it is possible the Account's
exposure will increase in the Asian region. Europe has corrected to attractive
levels and the Account continues to focus on quality growth at average or below
average prices. At the margin, holdings in Canada are declining given macro
concerns and several instances of highly questionable management practices. In
short, the managers favor higher levels of cash generation and stability of
earnings over exceptional growth or deep value situations at this time.

MicroCap Account
(Paul D. Farrell, Matthew B. McLennan and Eileen A. Aptman)

- -------------------------------------------------
Total Returns
As of December 31, 1998
1 Year 5 Year 10 Year
- -------------------------------------------------
-18.42%* -- --

- -------------------------------------------------
* - Since Inception Date 5/1/98

Comparison of Change in Value of $10,000 Investment in the MicroCap Account,
Lipper Micro-Cap Fund Average and Russell 200 Index

Lipper
Russell Micro-Cap
Year Ended MicroCap 200 Fund
December 31, Account Index Average
----------- ------- ---------- ------------
10,000 10,000 10,000
1998 8,158 8,806 8,468

Note: Past performance is not predictive of future performance.

Small cap stocks suffered in the volatile stock market of 1998. Prompted by
economic turmoil in Asia and Russia and a slowing U.S. manufacturing sector,
risk premiums expanded and investors overwhelmingly favored the perceived safety
and liquidity of blue-chip, large cap names within the U.S. stock market. Even
as the market stabilized and rebounded in the fourth quarter, small cap stocks
continued to lag behind their larger counterparts. The MicroCap Account declined
17.9% since its inception in April 1998. The Russell 2000 Index ("Russell 2000")
declined 11.4% during the same period. During 1998, the MicroCap Account was
broadly diversified across different industry sectors such that no one sector
unduly hurt or assisted the Account's performance relative to the Russell 2000.

The account managers believe that being both small in size and deep in value
(seeking long term capital appreciation through investment in companies that are
under valued due to investor uncertainty or obscurity) were the two factors that
most significantly impacted the performance of the MicroCap Account in 1998.
First, the market favored large capitalization securities over small
capitalization securities as investors sought liquidity and visible growth. The
S&P 500 Index ("S&P 500") returned 28.6% in 1998 while the Russell 2000 declined
2.6%. This size trend was evident even within the small cap universe as defined
by the Russell 2000. Of the 2000 companies in the Index, the largest 200
companies declined 9% while the smallest 200 declined over 20% in 1998. The
MicroCap Account is designed to invest in smaller companies and the resultant
portfolio has a median market cap below those of its peers and the Russell 2000,
which hurt performance during the year. Second, the value style of investing was
similarly out of favor in 1998. Growth style indices across all market
capitalizations outperformed in 1998: the S&P/Barra Growth Index return exceeded
the S&P/Barra Value Index return by 27.5%, and the Russell 2000 Growth Index
declined only 1.6% relative to a 9.1% decline of the Russell 2000 Value Index.

The managers remain confident in the future prospects of the MicroCap Account
for several reasons:

1. Value strategies have demonstrated strong results in small cap investing. Low
P/E and P/B strategies have been shown to outperform over the long term,
particularly in small caps. For the period from 1978 (the inception of Russell's
style indices) through 1998, the annualized return of the Russell 2000 Value
Index is 3% higher than that of the Russell 2000 Growth Index. The account
managers believe this demonstrates a disciplined approach to value investing
will reward investors over time.

2. Small cap securities are cheap versus large cap securities. The managers also
believe there is significant merit to focusing on small cap securities, as small
cap stocks reached a tremendous discount relative to larger cap issues during
the year. At year end, the Russell 2000 was valued at 19.5x 1999 earnings and
2.5x book value versus the S&P 500 value of 24.8x 1999 earnings and 4.9x book.
The account managers remain particularly enthusiastic about the long-term value
offered by the portfolio, which is priced at an even deeper discount than the
Russell 2000. It is believed that the discounted valuation of small caps will
reattract capital to the asset class and drive a return to more normal
valuations. Historically the Russell 2000 has sold at a valuation premium to the
S&P 500.

3. Small cap securities provide the most scope for value-added research. In all
market environments, the account managers perform rigorous, first-hand research
into small cap stocks trading at a discount to the market and their peers due to
obscurity or uncertainty. Account managers believe that holding between 60 to 80
stocks allows for sufficient diversification while allowing value to be added
through research. With each manager responsible for in-depth coverage of a
limited number of companies in the portfolio, managers can exploit the research
opportunity which makes small cap companies such an appealing investment
universe.

MidCap Account
(Michael R. Hamilton)

Comparison of Change in Value of $10,000 Investment in the MidCap Account,
Lipper Mid-Cap Fund Average and S&P 500 Stock Index

Note: Past performance is not predictive of future performance.

MidCap Growth Account
(John O'Toole)

Comparison of Change in Value of $10,000 Investment in the MidCap Growth
Account, Lipper Mid-Cap Fund Average and S&P 400 MidCap Index

MidCap Lipper S&P
Growth Mid-Cap 400 MidCap
Year Ended December 31, Account Fund Average Index
---------------------- ------- ------------ ------
10,000 10,000 10,000
1998 9,660 9,814 10,538

Note: Past performance is not predictive of future performance.

Real Estate Account
(Kelly D. Rush)

- -------------------------------------------------
Total Returns
As of December 31, 1998
1 Year 5 Year 10 Year
-6.56%* -- --

* - Since Inception Date 5/1/98
- -------------------------------------------------

Comparison of Change in Value of $10,000 Investment in the Real Estate
Account, Lipper Real Estate Fund Average and Morgan Stanley REIT Index

Lipper Morgan Stanley
Real Estate Real Estate REIT
Year Ended December 31, Account Fund Average Index
---------------------- ------- ------------ ------
10,000 10,000 10,000
1998 9,344 8,250 8,677

Note: Past performance is not predictive of future performance.

The Real Estate Account began operations in May 1998. The Account invests
primarily in equity securities of companies engaged principally in the real
estate industry. The account managers have available the resources of real
estate professionals within the Principal Financial Group to identify companies
possessing the attributes considered essential for successful real estate
investing.

Real estate markets enjoyed a strong year in 1998, and real estate companies
experienced record earnings growth. While the operating environment was robust,
the prices of real estate company stocks were falling. Several factors have
contributed to the decline. The most predominant reason for the decline has been
the fear of deteriorating conditions in 1999 and beyond. For the period ended
December 31, 1998 the Real Estate Account performed slightly better than the
Morgan Stanley REIT Index and the Lipper Real Estate Fund Average because of its
underweighting in the hotel sector and overweighting in companies which have
proven to be resilient in the face of market pressure.

Declining earnings growth from the record setting levels of 1998 is inevitable.
The transition from abnormally high earnings growth to a lower sustainable
earnings growth level caused investor nervousness and price declines in 1998.
This drop provided an attractive price entry point, in the Manager's opinion,
for patient investors in search of value opportunities supported by an above
average level of current income.

SmallCap Account
(Mark T. Williams and John F. McClain)

* - Since Inception Date 5/1/98

Comparison of Change in Value of $10,000 Investment in the SmallCap
Account, Lipper Small-Cap Fund Average and S&P 600 Index

Lipper S&P
SmallCap Small-Cap 600
Year Ended December 31, Account Fund Average Index
---------------------- ------- ------------ -----
10,000 10,000 10,000
1998 7,949 8,873 8,835

Note: Past performance is not predictive of future performance.

SmallCap Growth Account
(Amy K. Selner)

Comparison of Change in Value of $10,000 Investment in the SmallCap Growth
Account, Lipper Small-Cap Fund Average and Russell 2000 Growth Index

SmallCap Lipper Russell 2000
Growth Small-Cap Growth
Year Ended December 31, Account Fund Average Index
---------------------- ------- ------------ -----
10,000 10,000 10,000
1998 10,296 8,873 10,123

Note: Past performance is not predictive of future performance.

SmallCap Value Account
(Stephen Rich and Denise Higgins)

- -------------------------------------------
Total Returns
As of December 31, 1998
1 Year 5 Year 10 Year
-15.06%* -- --

* - Since Inception Date 5/1/98
- -------------------------------------------

Comparison of Change in Value of $10,000 Investment in the SmallCap Value
Account, Lipper Small-Cap Fund Average and Russell 2000 Value Index

SmallCap Lipper Russell 2000
Value Small-Cap Value
Year Ended December 31, Account Fund Average Index
---------------------- ------- ------------ -----
10,000 10,000 10,000
1998 8,494 8,873 8,592

Note: Past performance is not predictive of future performance.

This is an eight month review of the SmallCap Value Account as the inception of
the Account was May 1, 1998. The past eight months have been an extremely
challenging environment to manage small cap portfolios. After peaking in
mid-April, the small cap market declined over 21% from May to September. By many
estimations small cap stocks were truly in a bear market. In was not until
October, that the small cap market showed signs of recovering after sinking to a
27 month low on October 8. At that point, the Russell 2000 Value Index staged
one of its strongest rallies in recent history and finished the quarter up 9.1%.
The rally was widespread and stimulated by four events; (1) the Federal
Reserve's unexpected interest rate cut, (2) perceived cheap valuations, (3)
decent earnings prospects for small cap companies, and (4) seasonal buying
patterns of investors.

The SmallCap Value Account invests primarily in small and medium sized U.S.
companies whose market capitalizations are greater than $100 million and less
than $1.5 billion. Industry by industry, the Account's sector weights are
similar to those of the Russell 2000 Value Index. The Account can moderately
overweight or underweight industries when it believes it will benefit
performance. However, the primary source of added value is through stock
selection. J.P. Morgan has 23 industry analysts who conduct fundamental research
on over 450 companies in the small cap universe. Within each sector, stocks are
ranked using a Dividend Discount Model. The Account purchases the stocks that
are most undervalued and sells the stocks that are most overvalued. In addition,
the Account will sell stocks that have become to large to hold in a small cap
portfolio.

For the eight months ending December 31, 1998 the Account (net of fees)
marginally trailed the Russell 2000 Value index. It was during the volatile
period of May to September the Account encountered the most difficulty. During
this period, many small cap managers experienced difficulties as investors
indiscriminately sold the asset class and moved to the safety of large cap
stocks. In this environment, it did not matter if you held "good or bad" small
cap companies because they were all painted with the same brush. This actually
provided the managers with an opportunity to "upgrade" the Account with some
high quality stocks that had appeared overvalued earlier in the year. This
strategy seemed to pay off in the fourth quarter as investors re-entered the
small cap market. As a result, in the fourth quarter, the Account outperformed
the benchmark by a wide margin making up most of the ground lost earlier in the
year. The best performing sectors for the Account over this eight month period
were Basic Industry, Technology Hardware, and Reits. The worst performing
sectors included Consumer Cyclical, Capital Good, and Multi-Industry. Individual
stocks contributing the most included Universal Forest Products (+13%) and D.R.
Horton (+25%) while Mueller Industries (-40%) and Colonial Bancgroup (-32%)
detracted. Going forward, the account managers feel the portfolio is well
balanced and positioned to deal with the volatile markets while providing
consistent exposure to the small cap value market.

Given the prolonged underperformance of the small cap market and relative
valuation, the managers continue to believe that small cap stocks are attractive
absolutely and relatively to large cap stocks.

Utilities Account
(Catherine A. Zaharis)

- -------------------------------------------------
Total Returns
As of December 31, 1998
1 Year 5 Year 10 Year
15.36%* -- --

* - Since Inception Date 5/1/98
- -------------------------------------------------

Comparison of Change in Value of $10,000 Investment in the Utilities Account,
Lipper Utilities Fund Average and Dow Jones Utilities Index with Income Fund
Average

Lipper Dow Jones Utilities
Utilities Utilities Index with Income
Year Ended December 31, Account Fund Average Fund Average
---------------------- ------- ------------ ------------
10,000 10,000 10,000
1998 11,536 10,957 10,250

Note: Past performance is not predictive of future performance.

The Utilities Account enjoyed a strong year where performance was enhanced by
the strong performance of both electric and telephone companies. During the
market gyrations of the third quarter, utilities stocks led the way providing
some of the stronger sector returns for the quarter. Continuing consolidation in
this industry as a key driver of returns has also been seen.

The telephone industry has been a story of continued strong unit growth. The
usage of all aspects of telecommunications is growing and has aided relative
return. This is true for both local and long distance companies, as well as
newer entrants into this industry.

The Account's portfolio continues to focus on certain companies in both areas of
the utilities industry. The managers are looking for those companies where a
strategy has been determined to move the company forward in a competitive
environment. The managers look at the strategy, the company's strengths and
weaknesses, and determine whether the company has the strengths and skills to
reach its goals. Valuations are then looked at to determine whether these
companies can be purchased at attractive prices. The account manager's goal is
to find the winners in this new environment.

Important Notes of the Growth-Oriented Accounts:

Dow Jones Utility Index with Income: This average is a price-weighted average of
15 utility companies that are listed on the New York Stock Exchange and are
involved in the production of electrical energy.

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 currently contains 208 funds.

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 currently contains 980 funds.

Lipper International Small-Cap Funds Average: This average consists of funds
which invest at least 65% of their assets in equity securities of non-United
States companies with market capitalizations less than U.S. $1 billion at the
time of purchase. The one-year average currently contains 59 funds.

Lipper Micro-Cap Fund Average: This average consists of funds which invest
primarily in companies with a market captalization of less than $300 million at
the time of purchase. The one-year average currently contains 45 funds.

Lipper Real Estate Fund Average: This average consists of funds which invest 65%
of their equity portfolio in equity securities of domestic and foreign companies
engaged in the real estate industry. The one-year average currently contains 100
funds.

Lipper Utilities Fund Average: This average consists of funds which invest 65%
of their equity portfolio in utility shares. The one-year average currently
contains 102 funds.

Morgan Stanley REIT Index: This is a capitalization-weighted index of the most
actively traded real estate investment trusts, and is designed to be a measure
of real estate equity performance.

Russell 200 Index: This index measures the performance of the 200 largest
companies in the Russell 1000 Index, which represents approximately 65% of the
total market capitalization of the Russell 1000 Index.

Russell 2000 Growth Index: This index measures the performance of those Russell
2000 companies with higher price-to-book ratios and lower forecasted growth
values.

Russell 2000 Value Index measures the performance of those Russell 2000
companies with lower price-to-book ratios and lower forecasted growth values.

Standard & Poor's 600 Index: This is a market-value weighted index consisting of
600 domestic stocks chosen for market size, liquidity and industry group
representation.

Standard & Poor's MidCap 400 Index: This index measures the performance of the
mid-size company segmant of the U.S. Market.

Income-Oriented Accounts:

Bond Account
(Scott A. Bennett)

Comparison of Change in Value of $10,000 Investment in the Bond Account, Lipper
Corporate Debt BBB Rated Fund Average and Lehman Brothers BAA Corporate Index

Note: Past performance is not predictive of future performance.

Government Securities Account
(Martin J. Schafer)

- --------------------------------------------
Total Returns *
As of December 31, 1998
1 Year 5 Year 10 Year
8.27% 7.02% 9.35%
- --------------------------------------------

Comparison of Change in Value of $10,000 Investment in the Government Securities
Account, Lipper U.S. Mortgage Fund Average and Lehman Brothers Mortgage Index

Lehman Lipper
Government Brothers U.S. Mortgage
Securities Mortgage Fund
Year Ended December 31, Account Index Average
- ---------------------- ------- ------ -------
10,000 10,000 10,000
1989 11,559 11,535 11,258
1990 12,663 12,772 12,314
1991 14,809 14,779 14,135
1992 15,822 15,809 14,999
1993 17,416 16,891 16,116
1994 16,626 16,619 15,444
1995 19,797 19,411 17,951
1996 20,460 20,449 18,646
1997 22,585 22,390 20,245
1998 24,453 23,948 21,476

Note: Past performance is not predictive of future performance.

Interest rates declined significantly over the last twelve months, with medium
and long rates down about 1%. Bond prices, which move in the opposite direction
of interest rates, moved up, which led to another 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.

The key to 1998 was the U.S. Federal Reserve. By decisively reducing the Federal
Funds rate from 5.50% to 4.75% during the pinnacle of global risk, then holding
rates steady in December, the Fed demonstrated its commitment to maintaining
reasonable growth in the U.S. The actions of the Federal Reserve restored a
certain amount of calm and order to a very volatile and illiquid market. By
staying pat on rates in December, the Fed also signaled that the U.S. economy
was still very strong, with modest growth, low inflation and low unemployment.

Portfolio management views the economic outlook as range-bound for U.S. interest
rates. With the absolute level of interest rates being relatively low, the
managers are moving the duration of this account closer to the Lehman MBS Index
and are shortening as opportunities present themselves.

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.

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 currently contains 73 mutual funds.

Note: Mutual fund data from Lipper Inc.

GENERAL INFORMATION ABOUT AN ACCOUNT

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 the
authority to issue, without a shareholder vote.

Shareholder inquiries should be directed to: Principal Variable Contracts Fund,
Inc., Principal Financial Group, Des Moines, Iowa 50392-0200.

Purchase of Account Shares
Shares are purchased from Princor Financial Services Corporation, the Fund's
principal underwriter. There are no sales charges on shares of the Accounts.
There are not restrictions on amounts to be invested in shares of the Accounts.

Sale of Account Shares
This section applies to eligible purchasers other than the separate accounts of
Principal Life and its subsidiaries.

In addition, payments on surrenders attributable to a premium payment made by
check may be delayed up to 15 days. This permits payment to be collected on the
check.

In its budget for 1999 and 2000, the Manager has estimated expenses of between
$100,000 and $500,000 to deal with Year 2000 issues.

<TABLE>

FINANCIAL HIGHLIGHTS

PRINCIPAL VARIABLE CONTRACTS FUND, INC.

Selected data for a share of Capital Stock outstanding throughout each year
ended December 31 (except as noted):

<CAPTION>
AGGRESSIVE GROWTH ACCOUNT(a) 1998 1997 1996 1995 1994(b)
- ------------------------- ------------------ ---- ---- ----
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period................... $16.30 $14.52 $12.94 $10.11 $9.92
Income from Investment Operations:
Net Investment Income............................... .04 .04 .11 .13 .05
Net Realized and Unrealized Gain (Loss) on Investments 2.99 4.26 3.38 4.31 .24
Total from Investment Operations 3.03 4.30 3.49 4.44 .29
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.04) (.04) (.11) (.13) (.05)
Distributions from Capital Gains.................... (.96) (2.48) (1.80) (1.48) (.05)
Total Dividends and Distributions (1.00) (2.52) (1.91) (1.61) (.10)
Net Asset Value, End of Period......................... $18.33 $16.30 $14.52 $12.94 $10.11

Total Return........................................... 18.95% 30.86% 28.05% 44.19% 2.59%(c)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $224,058 $149,182 $90,106 $33,643 $13,770
Ratio of Expenses to Average Net Assets............. .78% .82% .85% .90% 1.03%(d)
Ratio of Net Investment Income to Average Net Assets .22% .29% 1.05% 1.34% 1.06%(d)
Portfolio Turnover Rate............................. 155.6% 172.6% 166.9% 172.9% 105.6%(d)

ASSET ALLOCATION ACCOUNT(a) 1998 1997 1996 1995 1994(b)
- ------------------------ ------------------ ---- ---- ----
Net Asset Value, Beginning of Period................... $11.94 $11.48 $11.11 $9.79 $9.98
Income from Investment Operations:
Net Investment Income............................... .31 .30 .36 .40 .23
Net Realized and Unrealized Gain (Loss) on Investments .76 1.72 1.06 1.62 (.18)
Total from Investment Operations 1.07 2.02 1.42 2.02 .05
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.31) (.30) (.36) (.40) (.23)
Distributions from Capital Gains.................... (.40) (1.26) (.69) (.30) --
Excess Distributions from Capital Gains(e).......... -- -- -- -- (.01)
Total Dividends and Distributions (.71) (1.56) (1.05) (.70) (.24)
Net Asset Value, End of Period......................... $12.30 $11.94 $11.48 $11.11 $9.79

Total Return........................................... 9.18% 18.19% 12.92% 20.66% .52%(c)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $84,089 $76,804 $61,631 $41,074 $28,041
Ratio of Expenses to Average Net Assets............. .89% .89% .87% .89% .95%(d)
Ratio of Net Investment Income to Average Net Assets 2.51% 2.55% 3.45% 4.07% 4.27%(d)
Portfolio Turnover Rate............................. 162.7% 131.6% 108.2% 47.1% 60.7%(d)
</TABLE>

See accompanying notes.

<TABLE>
Selected data for a share of Capital Stock outstanding throughout each
year ended December 31:

Total Return........................................... 11.91% 17.93% 13.13% 24.58% (2.09)%
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $198,603 $133,827 $93,158 $45,403 $25,043
Ratio of Expenses to Average Net Assets............. .59% .61% .63% .66% .69%
Ratio of Net Investment Income to Average Net Assets 3.37% 3.26% 3.45% 4.12% 3.42%
Portfolio Turnover Rate............................. 24.2% 69.7% 22.6% 25.7% 31.5%

Total Return........................................... 7.69% 10.60% 2.36% 22.17% (2.90)%
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $121,973 $81,921 $63,387 $35,878 $17,108
Ratio of Expenses to Average Net Assets............. .51% .52% .53% .56% .58%
Ratio of Net Investment Income to Average Net Assets 6.41% 6.85% 7.00% 7.28% 7.86%
Portfolio Turnover Rate............................. 26.7% 7.3% 1.7% 5.9% 18.2%
</TABLE>

FINANCIAL HIGHLIGHTS (Continued)

<TABLE>
PRINCIPAL VARIABLE CONTRACTS FUND, INC.

Selected data for a share of Capital Stock outstanding throughout each
year ended December 31:

Total Return........................................... 13.58% 28.53% 23.50% 31.91% .49%
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $385,724 $285,231 $205,019 $135,640 $120,572
Ratio of Expenses to Average Net Assets............. .44% .47% .49% .51% .51%
Ratio of Net Investment Income to Average Net Assets 2.07% 2.13% 2.06% 2.25% 2.36%
Portfolio Turnover Rate............................. 22.0% 23.4% 48.5% 49.2% 44.5%

GOVERNMENT SECURITIES ACCOUNT(a) 1998 1997 1996 1995 1994
- ----------------------------- ----------------- ---- ---- ----
Net Asset Value, Beginning of Period................... $10.72 $10.31 $10.55 $9.38 $10.61
Income from Investment Operations:
Net Investment Income............................... .60 .66 .59 .60 .76
Net Realized and Unrealized Gain (Loss) on Investments .28 .41 (.24) 1.18 (1.24)
Total from Investment Operations .88 1.07 .35 1.78 (.48)
Less Dividends from Net Investment Income.............. (.59) (.66) (.59) (.61) (.75)
Net Asset Value, End of Period......................... $11.01 $10.72 $10.31 $10.55 $9.38

Total Return........................................... 8.27% 10.39% 3.35% 19.07% (4.53)%
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $141,317 $94,322 $85,100 $50,079 $36,121
Ratio of Expenses to Average Net Assets............. .50% .52% .52% .55% .56%
Ratio of Net Investment Income to Average Net Assets 6.15% 6.37% 6.46% 6.73% 7.05%
Portfolio Turnover Rate............................. 11.0% 9.0% 8.4% 9.8% 23.2%
</TABLE>

See accompanying notes.

Selected data for a share of Capital Stock outstanding throughout each year
ended December 31 (except as noted):
<TABLE>

<CAPTION>
GROWTH ACCOUNT(a) 1998 1997 1996 1995 1994(f)
- -------------- ----------------- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period................... $17.21 $13.79 $12.43 $10.10 $9.60
Income from Investment Operations:
Net Investment Income............................... .21 .18 .16 .17 .07
Net Realized and Unrealized Gain (Loss) on Investments 3.45 3.53 1.39 2.42 .51
Total from Investment Operations 3.66 3.71 1.55 2.59 .58
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.21) (.18) (.16) (.17) (.08)
Distributions from Capital Gains.................... (.20) (.10) (.03) (.09) --
Excess Distributions from Capital Gains(e).......... -- (.01) -- -- --
Total Dividends and Distributions (.41) (.29) (.19) (.26) (.08)
Net Asset Value, End of Period......................... $20.46 $17.21 $13.79 $12.43 $10.10

Total Return........................................... 21.36% 26.96% 12.51% 25.62% 5.42%(c)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $259,828 $168,160 $99,612 $42,708 $13,086
Ratio of Expenses to Average Net Assets............. .48% .50% .52% .58% .75%(d)
Ratio of Net Investment Income to Average Net Assets 1.25% 1.34% 1.61% 2.08% 2.39%(d)
Portfolio Turnover Rate............................. 9.0% 15.4% 2.0% 6.9% 0.9%(d)

INTERNATIONAL ACCOUNT(a) 1998 1997 1996 1995 1994(f)
- --------------------- ----------------- ---- ---- ----
Net Asset Value, Beginning of Period................... $13.90 $13.02 $10.72 $9.56 $9.94
Income from Investment Operations:
Net Investment Income............................... .26 .23 .22 .19 .03
Net Realized and Unrealized Gain (Loss) on Investments 1.11 1.35 2.46 1.16 (.33)
Total from Investment Operations 1.37 1.58 2.68 1.35 (.30)
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.25) (.23) (.22) (.18) (.05)
Excess Distributions from Net Investment Income(e).. -- -- -- -- (.02)
Distributions from Capital Gains.................... (.51) (.47) (.16) (.01) (.01)
Total Dividends and Distributions (.76) (.70) (.38) (.19) (.08)
Net Asset Value, End of Period......................... $14.51 $13.90 $13.02 $10.72 $9.56

Total Return........................................... 9.98% 12.24% 25.09% 14.17% (3.37)%(c)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $153,588 $125,289 $71,682 $30,566 $13,746
Ratio of Expenses to Average Net Assets............. .77% .87% .90% .95% 1.24%(d)
Ratio of Net Investment Income to Average Net Assets 1.80% 1.92% 2.28% 2.26% 1.31%(d)
Portfolio Turnover Rate............................. 33.9% 22.7% 12.5% 15.6% 14.4%(d)
</TABLE>

FINANCIAL HIGHLIGHTS (Continued)

PRINCIPAL VARIABLE CONTRACTS FUND, INC.

Selected data for a share of Capital Stock outstanding throughout each year
ended December 31 (except as noted):

INTERNATIONAL SMALLCAP ACCOUNT 1998(g)
- ------------------------------ ----
Net Asset Value, Beginning of Period................... $9.97
Income from Investment Operations:
Net Investment Income............................... .01
Net Realized and Unrealized Gain (Loss) on Investments (.95)
Total from Investment Operations (.94)
Less Dividends from Net Investment Income.............. (.03)
Net Asset Value, End of Period......................... $9.00

Total Return........................................... (10.37)%(c)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $13,075
Ratio of Expenses to Average Net Assets............. 1.34%(d)
Ratio of Net Investment Income to Average Net Assets .24%(d)
Portfolio Turnover Rate............................. 60.3%(d)

MICROCAP ACCOUNT 1998(g)
- ---------------- ----
Net Asset Value, Beginning of Period................... $10.04
Income from Investment Operations:
Net Investment Income............................... .03
Net Realized and Unrealized Gain (Loss) on Investments 1.86)
Total from Investment Operations (1.83)
Less Dividends from Net Investment Income.............. (.04)
Net Asset Value, End of Period......................... $8.17

Total Return........................................... (18.42)%(c)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $5,384
Ratio of Expenses to Average Net Assets............. 1.38%(d)
Ratio of Net Investment Income to Average Net Assets 0.57%(d)
Portfolio Turnover Rate............................. 55.3%(d)

See accompanying notes.

Selected data for a share of Capital Stock outstanding throughout each year
ended December 31 (except as noted):

<TABLE>

MIDCAP GROWTH ACCOUNT 1998(g)
- --------------------- ----
Net Asset Value, Beginning of Period................... $9.94
Income from Investment Operations:
Net Investment Income (Operating Loss).............. (.01)
Net Realized and Unrealized Gain (Loss) on Investments (.28)
Total from Investment Operations (.29)
Net Asset Value, End of Period......................... $9.65

Total Return........................................... (3.40%)(c)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $8,534
Ratio of Expenses to Average Net Assets............. 1.27%(d)
Ratio of Net Investment Income to Average Net Assets (.14)%(d)
Portfolio Turnover Rate............................. 91.9%(d)

FINANCIAL HIGHLIGHTS (Continued)

<TABLE>
PRINCIPAL VARIABLE CONTRACTS FUND, INC.

Selected data for a share of Capital Stock outstanding throughout each year
ended December 31 (except as noted):

<CAPTION>
MONEY MARKET ACCOUNT(a) 1998 1997 1996 1995 1994
- -------------------- ----------------- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period................... $1.000 $1.000 $1.000 $1.000 $1.000
Income from Investment Operations:
Net Investment Income............................... .051 .051 .049 .054 .037
Net Realized and Unrealized Gain (Loss) on Investments -- -- -- -- --
Total from Investment Operations .051 .051 .049 .054 .037
Less Dividends from Net Investment Income.............. (.051) (.051) (.049) (.054) (.037)
Net Asset Value, End of Period......................... $1.000 $1.000 $1.000 $1.000 $1.000

REAL ESTATE ACCOUNT 1998(g)
- ------------------- ----
Net Asset Value, Beginning of Period................... $10.01
Income from Investment Operations:
Net Investment Income............................... .32
Net Realized and Unrealized Gain (Loss) on Investments (.97)
Total from Investment Operations (.65)
Less Dividends from Net Investment Income.............. (.29)
Net Asset Value, End of Period......................... $9.07

Total Return........................................... (6.56)%(c)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $10,909
Ratio of Expenses to Average Net Assets............. 1.00%(d)
Ratio of Net Investment Income to Average Net Assets 5.40%(d)
Portfolio Turnover Rate............................. 5.6%(d)

SMALLCAP ACCOUNT 1998(g)
- ---------------- ----
Net Asset Value, Beginning of Period................... $10.27
Income from Investment Operations:
Net Investment Income............................... --
Net Realized and Unrealized Gain (Loss) on Investments (2.06)
Total from Investment Operations (2.06)
Net Asset Value, End of Period......................... $8.21

Total Return........................................... (20.51)%(c)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $12,094
Ratio of Expenses to Average Net Assets............. .98%(d)
Ratio of Net Investment Income to Average Net Assets (.05)%(d)
Portfolio Turnover Rate............................. 45.2%(d)

See accompanying notes.

Selected data for a share of Capital Stock outstanding throughout each year
ended December 31 (except as noted):

SMALLCAP GROWTH ACCOUNT 1998(g)
- ----------------------- ----
Net Asset Value, Beginning of Period................... $9.84
Income from Investment Operations:
Net Investment Income (Operating Loss).............. (.04)
Net Realized and Unrealized Gain (Loss) on Investments .30
Total from Investment Operations .26
Net Asset Value, End of Period......................... $10.10

Total Return........................................... 2.96%(c)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $8,463
Ratio of Expenses to Average Net Assets............. 1.31%(d)
Ratio of Net Investment Income to Average Net Assets (.80)%(d)
Portfolio Turnover Rate............................. 166.5%(d)

SMALLCAP VALUE ACCOUNT 1998(g)
- ---------------------- ----
Net Asset Value, Beginning of Period................... $9.84
Income from Investment Operations:
Net Investment Income............................... .03
Net Realized and Unrealized Gain (Loss) on Investments (1.50)
Total from Investment Operations (1.47)
Less Dividends from Net Investment Income.............. (.03)
Net Asset Value, End of Period......................... $8.34

Total Return........................................... (15.06)%(c)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $6,895
Ratio of Expenses to Average Net Assets............. 1.56%(d)
Ratio of Net Investment Income to Average Net Assets .73%(d)
Portfolio Turnover Rate............................. 53.4%(d)

UTILITIES ACCOUNT 1998(g)
- ----------------- ----
Net Asset Value, Beginning of Period................... $9.61
Income from Investment Operations:
Net Investment Income............................... .15
Net Realized and Unrealized Gain (Loss) on Investments 1.35
Total from Investment Operations 1.50
Less Dividends from Net Investment Income.............. (.18)
Net Asset Value, End of Period......................... $10.93

Total Return........................................... 15.36%(c)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $18,298
Ratio of Expenses to Average Net Assets............. .69%(d)
Ratio of Net Investment Income to Average Net Assets 2.93%(d)
Portfolio Turnover Rate............................. 9.5%(d)

FINANCIAL HIGHLIGHTS (Continued)

Notes to Financial Highlights

(a) Effective January 1, 1998 the following mutual funds were reorganized into
the Principal Variable Contracts Fund, Inc. as follows:

Former Fund Name Current Account Name
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 Government Securities Fund, Inc. Government Securities Account
Principal Growth Fund, Inc. Growth Account
Principal High Yield Fund, Inc. High Yield Account
Principal World Fund, Inc. International Account
Principal Emerging Growth Fund, Inc. MidCap Account
Principal Money Market Fund, Inc. Money Market 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
the 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 shareholder, Principal 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.

(d) Computed on an annualized basis.

(e) 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 tax return of capital
distributions.

(f) 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
shareholder, Principal 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.

(g) Period from May 1, 1998, date shares first offered to the public, through
December 31, 1998. Per share net investment income and realized and
unrealized gains (losses) for the period from the initial purchase of
shares through April 30, 1998, were recognized as follows, none of which
was distributed to the sole shareholder, Principal Life Insurance Company,
during the period. This represents activities of each account prior to the
initial public offering.

Date Net Per Share Realized
Operations Investment and Unrealized
Account Commenced Income Gains (Losses)

International SmallCap Account April 16, 1998 $.02 $(.05)
MicroCap Account April 9, 1998 .01 .03
MidCap Growth Account April 23, 1998 .01 (.07)
Real Estate Account April 23, 1998 .01 --
SmallCap Account April 9, 1998 -- .27
SmallCap Growth Account April 2, 1998 -- (.16)
SmallCap Value Account April 16, 1998 .01 (.17)
Utilities Account April 2, 1998 .04 (.43)

The U.S. Government does not insure or guarantee an investment in the Fund.

Principal Variable Contracts Fund, Inc. SEC File 811-01944

PRINCIPAL VARIABLE CONTRACTS FUND, INC.

ACCOUNTS OF THE FUND

Balanced Account
Bond Account
Capital Value Account
Government Securities Account
Growth Account
International Account
MidCap Account
Money Market Account

This Prospectus describes a mutual fund organized by Principal Life Insurance
Company. The Fund provides a choice of investment objectives through the
accounts listed above.

The date of this Prospectus is May 1, 1999.

TABLE OF CONTENTS

ACCOUNT DESCRIPTIONS ......................................... 4
Primary investment strategy............................... 4
Annual operating expenses................................. 4
Day-to-day Account management............................. 5
Account Performance....................................... 5

Balanced Account.......................................... 6
Bond Account.............................................. 8
Capital Value Account.................................... 10
Government Securities Account............................. 12
Growth Account............................................ 14
International Account..................................... 16
MidCap Account............................................ 18
Money Market Account...................................... 20

CERTAIN INVESTMENT STRATEGIES AND RELATED RISKS................ 22

PRICING OF ACCOUNT SHARES...................................... 26

DIVIDENDS AND DISTRIBUTIONS.................................... 27
Growth-Oriented and Income-Oriented Accounts.............. 27
Money Market Account...................................... 27

MANAGEMENT, ORGANIZATION AND CAPITAL STRUCTURE................. 28
The Manager............................................... 28
The Sub-Advisors.......................................... 28

GENERAL INFORMATION ABOUT AN ACCOUNT........................... 30
Shareholders Rights....................................... 30
Purchase of Account Shares................................ 31
Sale of Account Shares.................................... 31
Year 2000 Readiness Disclosure............................ 32
Financial Statements...................................... 33

FINANCIAL HIGHLIGHTS........................................... 34
Notes to Financial Highlights............................. 38

ACCOUNT DESCRIPTIONS
The Principal Variable Contracts Fund is made up of several different Accounts.
Each Account has its own investment objective.

The Growth-Oriented Accounts (except the Balanced Account that invests in a mix
of equity and debt securities) invest primarily in common stocks. Under normal
market conditions the Growth-Oriented Funds (except Balanced) are fully invested
in equity securities. Under unusual circumstances, each of the Growth-Oriented
Accounts may invest without limit in cash for temporary or defensive purposes.
When doing so, the Account is not investing to achieve its investment objective.
The Accounts also maintain a portion of their assets in cash while they are
making long-term investment decisions and to cover sell orders from
shareholders.

The Bond Account has a rating limitation with regard to the quality of the bonds
that are held in its portfolio. The rating limitation applies when the Account
purchases a bond. If the rating on a bond changes while the Account owns it, the
Account is not required to sell the bond. The SAI contains additional
information about bond ratings by Moody's Investors Service, Inc. ("Moody's")
and Standard & Poor's Corporation (S&P).

In the description for each Account, you will find important information about
the Account's:

Annual operating expenses
The annual operating expenses for each Account are deducted from Account assets
(stated as a percentage of Account assets) and are shown as of the end of the
most recent fiscal year. The examples are intended to help you compare the cost
of investing in a particular Account with the cost of investing in other mutual
funds. The examples assume you invest $10,000 in an Account for the time periods
indicated. The examples also assume that your investment has a 5% total return
each year and that the Account's operating expenses are the same as the most
recent fiscal year expenses. Although your actual costs may be higher or lower,
based on these assumptions, your costs would be as shown.

Principal Management Corporation (the "Manager") serves as the manager for the
Principal Variable Contracts Fund. It has signed a sub-advisory agreement with
Invista Capital Management, LLC ("Invista") under which Invista provides
portfolio management for the Balanced, Capital Value, Government Securities, and
MidCap Accounts (see Management, Organization and Capital Structure).

Account Performance
Included in each Account's description is a set of tables and a bar chart.
Together, these provide an indication of the risks involved when you invest.

The bar chart shows changes in the Account's performance from year to year.

An Account's past performance is not necessarily an indication of how the
Account will perform in the future.

You may call Principal Mutual Funds (1-800-247-4123) to get the current 7-day
yield for the Money Market Account.

Investments in these Accounts are not deposits of a bank and are not insured or
guaranteed by the FDIC or any other government agency.

GROWTH-ORIENTED ACCOUNT

Balanced Account

Account Performance Information

---------------------------------- -----------------------------------
Annual Total Returns Highest & lowest
---------------------------------- quarterly total returns
1989 11.56% 1994 -2.09% for the last 10 years
1990 -6.43% 1995 24.58% -----------------------------------
1991 34.36% 1996 13.13% Quarter Ended Return
1992 12.80% 1997 17.93% -----------------------------------
1993 11.06% 1998 11.91% 3/31/91 12.62%
Calendar Years Ended December 31 9/30/90 (11.70%)
-----------------------------------
-----------------------------------------------------
Average annual total return
for the period ending December 31, 1998
-----------------------------------------------------
Past One Past Five Past Ten
Year Years Years
-------- --------- --------
Balanced Account 11.91% 12.74% 12.33%

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.57% $60 $189 $329 $738
Other Expenses........................ 0.02%
-----
Total Account Operating Expenses 0.59%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since April 1993 Co-Manager, Judith A. Vogel, CFA. Portfolio
Manager of Invista Capital Management, LLC
since 1987.

Since October 1998 Co-Manager, Douglas D. Herold, CFA.
Portfolio Manager of Invista Capital
Management, LLC since 1996. Prior thereto,
Securities Analyst from 1993-1996.

Since December 1997 Co-Manager, Martin J. Schafer, Portfolio
Manager of Invista Capital Management, LLC
since 1992.

INCOME-ORIENTED ACCOUNT

Bond Account

The Bond Account seeks to provide as high a level of income as is consistent
with presentation of capital and prudent investment risk. It invests in
fixed-income securities. Generally, the Account invests on a long-term basis but
may make short-term investments. Longer maturities typically provide better
yields but expose the Account to the possibility of changes in the values of its
securities as interest rates change. When interest rates fall, the price per
share rises, and when rates rise, the price per share declines.

Under normal circumstances, the Account invests at least 65% of its assets in:
o debt securities and taxable municipal bonds;
o rated, at purchase, in one of the top four categories by S&P or
Moody's, or
o if not rated, in the Manager's opinion are of comparable quality.
o similar Canadian, Provincial or Federal Government securities payable in
U.S. dollars; and
o securities issued or guaranteed by the U.S. Government or its agencies.

Account Performance Information

Lehman Brothers
BAA Corporate
Index 6.96 7.34 9.25
Lipper Corporate
Debt BBB Rated
Fund Average 6.25 7.00 9.19
---------------------------------------------

During the fiscal year ended December 31, 1998, the average ratings of the
Account's assets based on markte value at each mont-end, were as follows (all
ratings are by Moody's):

2.08% in securities rated Aaa
2.78% in securities rated Aa
24.00% in securities rated A
64.55% in securities rated Baa
6.59% in securities rated Ba

Day-to-day Account management:
Since November 1996 Scott A. Bennett, CFA. Assistant Director - Securities
Investment of Principal Capital Management LLC since
1996. Prior thereto, Investment Manager.

GROWTH-ORIENTED ACCOUNT

Capital Value Account

In making selections for the Account's investment portfolio, Invista uses an
approach described as "fundamental analysis." The basic steps are involved in
this analysis are:

Account Performance Information

S&P 500 Stock Index 28.58 24.06 19.21
Lipper Growth and Income
Fund Average 15.61 18.53 15.76
-----------------------------------------------------

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.43% $45 $141 $246 $555
Other Expenses........................ 0.01%
-----
Total Account Operating Expenses 0.44%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since November 1996 Catherine A. Zaharis, CFA. Portfolio Manager of
Invista Capital Management, LLC since 1987.

INCOME-ORIENTED ACCOUNT

Government Securities Account

The Government Securities Account seeks a high level of current income,
liquidity and safety of principal. It invests in securities supported by:
o full faith and credit of the U.S. Government (e.g. GNMA certificates); or
o credit of a U.S. Government agency or instrumentality (e.g. bonds issued by
the Federal Home Loan Bank).
The Account may also invest in money market instruments.

Account Performance Information

Lehman Brothers
Mortgage Index 6.96 7.23 9.13
Lipper U.S. Mortgage
Fund Average 6.08 5.98 8.04
------------------------------------------------

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.49% $51 $160 $280 $628
Other Expenses........................ 0.01%
-----
Total Account Operating Expenses 0.50%
- --------------------------------------------------------------------------------

Day-to-day Account Management:
Since May 1985 Martin J. Schafer, CFA. Portfolio Manager of Invista
(Account's inception) Capital Management, LLC since 1992.

GROWTH-ORIENTED ACCOUNT

Growth Account

Account Performance Information

------------------------------- ----------------------------------------
Annual Total Return Highest & lowest
------------------------------- quarterly total returns
1995 25.62% for the last 5 years
1996 12.51% ----------------------------------------
1997 26.96% Quarter Ended Return
1998 21.36% ----------------------------------------
12/31/98 21.35%
9/30/98 (14.63%)
----------------------------------------
Calendar Years Ended December 31
---------------------------------------------
Average annual total returns
for the period ending December 31, 1998
---------------------------------------------
Past One Past Five
Year Years
-------- ---------
Growth Account 21.36% 19.48%*

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.47% $49 $154 $269 $604
Other Expenses........................ 0.01%
-----
Total Account Operating Expenses 0.48%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since August 1987 Michael R. Hamilton, Portfolio Manager of Invista
(Account's inception) Capital Management, LLC since 1987.

GROWTH-ORIENTED ACCOUNT

International Account

Account Performance Information

------------------------------- ----------------------------------------
Annual Total Return Highest & lowest
------------------------------- quarterly total returns
1995 14.17% for the last 5 years
1996 25.09% ----------------------------------------
1997 12.24% Quarter Ended Return
1998 9.98% ----------------------------------------
12/31/98 16.60%
9/30/98 (17.11%)
----------------------------------------
Calendar Years Ended December 31
----------------------------------------------
Average annual total returns
for the period ending December 31, 1989
----------------------------------------------
Past One Past Five
Year Years
-------- ---------
International Account 9.98% 12.09%*

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.73% $79 $246 $428 $954
Other Expenses........................ 0.04%
-----
Total Account Operating Expenses 0.77%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since April 1994 Scott D. Opsal, CFA. Executive Vice President and
Chief Investment Officer of Invista Capital Management,
LLC since 1997. Vice President, 1986-1997.

GROWTH-ORIENTED ACCOUNT

MidCap Account

The MidCap Account is generally a suitable investment for investors seeking
long-term growth and who are willing to accept the potential for short-term
fluctuations in the value of their investments. It is designed for long-term
investors for a portion of their investments and is not designed for investors
seeking income or conservation of capital.

Account Performance Information

---------------------------------- -----------------------------------
Annual Total Returns Highest & lowest
---------------------------------- quarterly total returns
1989 21.84% 1994 0.78% for the last 10 years
1990 -12.50% 1995 29.01% -----------------------------------
1991 53.50% 1996 21.11% Quarter Ended Return
1992 14.94% 1997 22.75% -----------------------------------
1993 19.28% 1998 3.69% 3/31/91 25.86%
Calendar Years Ended December 31 9/30/90 (26.61%)
-----------------------------------
-----------------------------------------------------
Average annual total return
for the period ending December 31, 1998
-----------------------------------------------------
Past One Past Five Past Ten
Year Years Years
-------- -------- --------
MidCap Account 3.69% 14.92% 16.22%

S&P 500 Stock Index 28.58 24.06 19.21
Lipper Mid-Cap Fund Average 12.16 15.18 15.83
-----------------------------------------------------

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.61% $63 $199 $346 $774
Other Expenses........................ 0.01%
-----
Total Account Operating Expenses 0.62%
- --------------------------------------------------------------------------------

Day-to-day Account management:
Since December 1987 Michael R. Hamilton, Portfolio Manager of Invista
(Account's inception) Capital Management, LLC since 1987.

Money Market Account

The Account maintains a dollar weighted average portfolio maturity of 90 days or
less. It intends to hold its investments until maturity. However, the Account
may sell a security before it matures:
o to take advantage of market variations;
o to generate cash to cover sales of Account shares by its shareholders; or o
upon revised valuation of the security's issuer.
The sale of a security by the Account before maturity may not be in the best
interest of the Account. The Account does have an ability to borrow money to
cover the sale of Accounts shares. The sale of portfolio securities is usually a
taxable event.

The Money Market Account is generally a suitable investment for investors
seeking monthly dividends to produce income without incurring much principal
risk or for investor's short-term needs.

Account Performance Information

Annual Total Returns

1989 8.98% 1994 3.76%
1990 8.01% 1995 5.59%
1991 5.92% 1996 5.07%
1992 3.48% 1997 5.04%
1993 2.69% 1998 5.20%

- --------------------------------------------------------------------------------
Account Operating Expenses Examples
- --------------------------------------------------------------------------------
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
Management Fees....................... 0.50% $53 $167 $291 $653
Other Expenses........................ 0.02%
-----
Total Account Operating Expenses 0.52%
- --------------------------------------------------------------------------------

CERTAIN INVESTMENT STRATEGIES AND RELATED RISKS
The Statement of Additional Information (SAI) contains additional information
about investment strategies and their related risks.

Note:The Capital Value, Growth, International and MidCap Accounts invest
primarily in equity securities. The Balanced Account invests in a mix of
equity and debt securities. The Bond and Government Securities Accounts
invest primarily in debt securities.

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.

Risks of High Yield Securities
The Balanced and Bond Accounts may, to varying degrees, invest in debt
securities rated lower than BBB by S&P or Baa by Moody's or, if not rated,
determined to be of equivalent quality by the Manager. Such securities are
sometimes referred to as high yield or "junk bonds" and are considered
speculative.

Options
Each of the Accounts (except Capital Value and Money Market) may buy and sell
certain types of options. Each type is more fully discussed in the SAI.

Foreign Securities
Each of the following Accounts may invest in foreign securities to the indicated
percentage of its assets (debt securities issued in the United States pursuant
to a registration statement filed with the Securities and Exchange Commission
are not treated as foreign securities for purposes of these limitations.):
o International - 100%;
o Bond and Capital Value Accounts - 20%.
o Balanced, Growth and MidCap Accounts - 10%.
o The Money Market Account does not invest in foreign securities other than
those that are United States dollar denominated. All principal and interest
payments for the security are payable in U.S. dollars. The interest rate,
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.

Securities of many foreign issuers may be less liquid and their prices more
volatile than those of comparable domestic issuers. Foreign securities markets,
particularly those in emerging market countries, are known to experience long
delays between the trade and settlement dates of securities purchased and sold.
Such delays may result in a lack of liquidity and greater volatility in the
price of securities on those markets. As a result of these factors, the Board of
Directors of the Fund has adopted Daily Pricing and Valuation Procedures for the
Fund. These procedures outline the steps to be followed by the Manager and
Sub-Advisor to establish a reliable market or fair value if a reliable market
value is not available through normal market quotations. The Executive Committee
of the Board of Directors oversees this process.

Temporary or Defensive Measures
For temporary or defensive purposes in times of unusual or adverse market
conditions, the Growth-Oriented Accounts and Bond Account, may invest without
limit in cash and cash equivalents. For this purpose, cash equivalents include:
bank certificates of deposit, bank acceptances, repurchase agreements,
commercial paper, and commercial paper master notes which are floating rate debt
instruments without a fixed maturity. In addition, an Account may purchase U.S.
Government securities, preferred stocks and debt securities, whether or not
convertible into or carrying rights for common stock.

PRICING OF ACCOUNT SHARES

For all Accounts, except the Money Market Account, the share price is calculated
by:
o taking the current market value of the total assets of the Account
o subtracting liabilities of the Account
o dividing the remainder by the total number of shares owned by the Account.

DIVIDENDS AND DISTRIBUTIONS

The issuer of an equity security held by an Account may make a dividend payment.
When an Account receives a dividend, it increases the net asset value of a share
of the Account.

An Account accrues interest daily on its fixed income securities in anticipation
of an interest payment from the issuer of the security. This accrual increases
the net asset value of an Account.

The Money Market Account (or any other Account holding commercial paper)
amortizes the discount on commercial paper it owns on a daily basis. This
increases the net asset value of the Account.

NOTE:As the net asset value of a share of an Account increases, the unit value
of the corresponding division also reflects an increase. The number of
units you own in the Account are not increased.

MANAGEMENT, ORGANIZATION AND CAPITAL STRUCTURE

The Sub-Advisors
The Manager has signed contracts with various Sub-Advisors. Under the
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 and MidCap
Sub-Advisor: Invista Capital Management, LLC ("Invista"), an indirectly
wholly-owned subsidiary of Principal Life Insurance Company and an
affiliate of the Manager, was founded in 1985. It manages investments
for institutional investors, including Principal Life. Assets under
management as of December 31, 1998 were approximately $31 billion.
Invista's address is 1800 Hub Tower, 699 Walnut, Des Moines, Iowa
50309.

Management Other Total Operating
Account Fees Expenses Expenses

Balanced 0.57 0.02 0.59
Bond 0.49 0.02 0.51
Capital Value 0.43 0.01 0.44
Government Securities 0.49 0.01 0.50
Growth 0.47 0.01 0.48
International 0.73 0.04 0.77
MidCap 0.61 0.01 0.62
Money Market 0.50 0.02 0.52

MANAGERS' COMMENTS

Growth-Oriented Accounts

Balanced Account
(Judith A. Vogel, Douglas D. Herold and Martin J. Schafer)

- --------------------------------------------
Total Returns *
As of December 31, 1998
1 Year 5 Year 10 Year
11.91% 12.74% 12.33%
- --------------------------------------------

Note: Past performance is not predictive of future performance.

Capital Value Account
(Catherine A. Zaharis)

Comparison of Change in Value of $10,000 Investment in the Capital Value
Account, Lipper Growth & Income Fund Average and S&P 500 Stock Index

Note: Past performance is not predictive of future performance.

The Account's focus throughout 1998 was one of quality value. That focus will be
continued into 1999 as economic and world events are closely monitored.

Growth Account
(Michael R. Hamilton)

- -----------------------------------------------
Total Returns *
As of December 31, 1998
1 Year Since Inception Date 6/1/94 10 Year

18.95% 26.61% --
- -----------------------------------------------

Comparison of Change in Value of $10,000 Investment in the Aggressive Growth
Account, Lipper Growth Fund Average and S&P 500 Stock Index

Note: Past performance is not predictive of future performance.

International Account
(Scott D. Opsal)

Comparison of Change in Value of $10,000 Investment in the
International Account, Lipper International Fund Average and MSCI EAFE Index

Note: Past performance is not predictive of future performance.

MidCap Account
(Michael R. Hamilton)

Comparison of Change in Value of $10,000 Investment in the MidCap Account,
Lipper Mid-Cap Fund Average and S&P 500 Stock Index

Note: Past performance is not predictive of future performance.

Important Notes of the Growth-Oriented Accounts:

Income-Oriented Accounts:

Bond Account
(Scott A. Bennett)

Comparison of Change in Value of $10,000 Investment in the Bond Account, Lipper
Corporate Debt BBB Rated Fund Average and Lehman Brothers BAA Corporate Index

Note: Past performance is not predictive of future performance.

Government Securities Account
(Martin J. Schafer)

- --------------------------------------------
Total Returns *
As of December 31, 1998
1 Year 5 Year 10 Year
8.27% 7.02% 9.35%
- --------------------------------------------

Comparison of Change in Value of $10,000 Investment in the Government Securities
Account, Lipper U.S. Mortgage Fund Average and Lehman Brothers Mortgage Index

Note: Past performance is not predictive of future performance.

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.

Note: Mutual fund data from Lipper Inc.

GENERAL INFORMATION ABOUT AN ACCOUNT

The bylaws of the Fund provide that the Board of Directors of the Fund may
increase or decrease the aggregate number of shares that the Fund has the
authority to issue, without a shareholder vote.

Shareholder inquiries should be directed to: Principal Variable Contracts Fund,
Inc., Principal Financial Group, Des Moines, Iowa 50392-0200.

Purchase of Account Shares
Shares are purchased from Princor Financial Services Corporation, the Fund's
principal underwriter. There are no sales charges on shares of the Accounts.
There are not restrictions on amounts to be invested in shares of the Accounts.

Sale of Account Shares
This section applies to eligible purchasers other than the separate accounts of
Principal Life and its subsidiaries.

In addition, payments on surrenders attributable to a premium payment made by
check may be delayed up to 15 days. This permits payment to be collected on the
check.

In its budget for 1999 and 2000, the Manager has estimated expenses of between
$100,000 and $500,000 to deal with Year 2000 issues.

FINANCIAL HIGHLIGHTS

<TABLE>
PRINCIPAL VARIABLE CONTRACTS FUND, INC.

Selected data for a share of Capital Stock outstanding throughout each year
ended December 31 (except as noted):

See accompanying notes.

<TABLE>
Selected data for a share of Capital Stock outstanding throughout each
year ended December 31:

FINANCIAL HIGHLIGHTS

<TABLE>
PRINCIPAL VARIABLE CONTRACTS FUND, INC.

Selected data for a share of Capital Stock outstanding throughout each year
ended December 31 (except as noted):

<CAPTION>
GROWTH ACCOUNT(a) 1998 1997 1996 1995 1994(c)
- -------------- ----------------- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period................... $17.21 $13.79 $12.43 $10.10 $9.60
Income from Investment Operations:
Net Investment Income............................... .21 .18 .16 .17 .07
Net Realized and Unrealized Gain (Loss) on Investments 3.45 3.53 1.39 2.42 .51
Total from Investment Operations 3.66 3.71 1.55 2.59 .58
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.21) (.18) (.16) (.17) (.08)
Distributions from Capital Gains.................... (.20) (.10) (.03) (.09) --
Excess Distributions from Capital Gains(b).......... -- (.01) -- -- --
Total Dividends and Distributions (.41) (.29) (.19) (.26) (.08)
Net Asset Value, End of Period......................... $20.46 $17.21 $13.79 $12.43 $10.10

Total Return........................................... 21.36% 26.96% 12.51% 25.62% 5.42%(d)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $259,828 $168,160 $99,612 $42,708 $13,086
Ratio of Expenses to Average Net Assets............. .48% .50% .52% .58% .75%(e)
Ratio of Net Investment Income to Average Net Assets 1.25% 1.34% 1.61% 2.08% 2.39%(e)
Portfolio Turnover Rate............................. 9.0% 15.4% 2.0% 6.9% 0.9%(e)

INTERNATIONAL ACCOUNT(a) 1998 1997 1996 1995 1994(c)
- --------------------- ----------------- ---- ---- ----
Net Asset Value, Beginning of Period................... $13.90 $13.02 $10.72 $9.56 $9.94
Income from Investment Operations:
Net Investment Income............................... .26 .23 .22 .19 .03
Net Realized and Unrealized Gain (Loss) on Investments 1.11 1.35 2.46 1.16 (.33)
Total from Investment Operations 1.37 1.58 2.68 1.35 (.30)
Less Dividends and Distributions:
Dividends from Net Investment Income................ (.25) (.23) (.22) (.18) (.05)
Excess Distributions from Net Investment Income(b).. -- -- -- -- (.02)
Distributions from Capital Gains.................... (.51) (.47) (.16) (.01) (.01)
Total Dividends and Distributions (.76) (.70) (.38) (.19) (.08)
Net Asset Value, End of Period......................... $14.51 $13.90 $13.02 $10.72 $9.56

Total Return........................................... 9.98% 12.24% 25.09% 14.17% (3.37)%(d)
Ratio/Supplemental Data:
Net Assets, End of Period (in thousands)............ $153,588 $125,289 $71,682 $30,566 $13,746
Ratio of Expenses to Average Net Assets............. .77% .87% .90% .95% 1.24%(e)
Ratio of Net Investment Income to Average Net Assets 1.80% 1.92% 2.28% 2.26% 1.31%(e)
Portfolio Turnover Rate............................. 33.9% 22.7% 12.5% 15.6% 14.4%(e)
</TABLE>

See accompanying notes.

<TABLE>
Selected data for a share of Capital Stock outstanding throughout each
year ended December 31:

Notes to Financial Highlights

(a) Effective January 1, 1998 the following mutual funds were reorganized into
the Principal Variable Contracts Fund, Inc. as follows:

Former Fund Name Current Account Name
Principal Balanced Fund, Inc. Balanced Account
Principal Bond Fund, Inc. Bond Account
Principal Capital Accumulation Fund, Inc. Capital Value Account
Principal Government Securities Fund, Inc. Government Securities Account
Principal Growth Fund, Inc. Growth Account
Principal World Fund, Inc. International Account
Principal Emerging Growth Fund, Inc. MidCap Account
Principal Money Market Fund, Inc. Money Market Account

(d) Total return amounts have not been annualized.

(e) Computed on an annualized basis.

The U.S. Government does not insure or guarantee an investment in the Fund.

Principal Variable Contracts Fund, Inc. SEC File 811-01944

Part B

PRINCIPAL VARIABLE CONTRACTS FUND, INC.

STATEMENT OF ADDITIONAL INFORMATION

dated May 1, 1999

This Statement of Additional Information is not a prospectus but is a
part of the prospectus for the Fund. The most recent Fund prospectus,
dated May 1, 1999, and shareholder report are available without charge.
Please call 1-800-247-4123 to request a copy.

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 Accounts.....................
Growth-Oriented Accounts............................................
Income-Oriented Accounts............................................
Money Market Account................................................

Account Investments......................................................

Directors and Officers of the Fund.......................................

Manager and Sub-Advisors.................................................

Cost of Manager's Service................................................

Brokerage on Purchases and Sales of Securities...........................

Determination of Net Asset Value of Account Shares.......................

Performance Calculation..................................................

Tax Status...............................................................

General Information and History..........................................

Financial Statements.....................................................

Appendix A...............................................................

INVESTMENT POLICIES AND RESTRICTIONS OF THE FUND

The following information is about the Principal Variable Contracts Fund, Inc.
which is an incorporated, diversified, open-end management investment company,
commonly called a mutual fund. It supplements the information provided in the
Prospectus under the caption CERTAIN INVESTMENT STRATEGIES AND RELATED RISKS.
The Fund offers multiple Accounts.

There are three categories of Accounts: Growth-Oriented Accounts, which include
Accounts seeking:
o primarily capital appreciation through investments in equity securities
(Aggressive Growth, Blue Chip, Capital Value, Growth, LargeCap Growth,
MicroCap, MidCap, MidCap Growth, MidCap Value, SmallCap, SmallCap Growth
and SmallCap Value);
o total investment return including both capital appreciation and income
through investments in equity and debt securities (Asset Allocation and
Balanced);
o long-term growth of capital primarily through investments in equity
securities of corporations located outside of the U.S. (International and
International SmallCap);
o long-term growth of income and capital through investment in equity
securities of real estate companies (Real Estate);
o to approximate the performance of the Standard & Poor's 500 Composite Stock
Price Index (Stock Index 500); and
o current income and long-term growth of income and capital through
investment in equity and fixed-income securities of public utilities
companies (Utilities).

Income-Oriented Accounts, which include Accounts seeking primarily a high level
of income through investments in debt securities (Bond, Government Securities
and High Yield).

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:
o 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
o 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:
o a statement of its investment objective;
o a description of its investment restrictions that are matters of
fundamental policy; and
o 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. Any subsequent
change in any applicable percentage resulting from market fluctuations or in a
rating by a rating service does 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

o 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.
o Asset Allocation Account seeks to generate a total investment return
consistent with the preservation of capital.
o 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.
o Blue Chip Account seeks to achieve growth of capital and income. The
Account attempts to achieve its objective by investing primarily in common
stocks of well capitalized, established companies.
o 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.
o Growth Account seeks growth of capital through the purchase primarily of
common stocks, but the Account may invest in other securities.
o 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.
o 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.
o LargeCap Growth seeks long-term growth of capital. The Account attempts to
achieve its objective by investing primarily in growth stocks of companies
with market capitalizations over $10 billion measured at the time of
investment.
o 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.
o MidCap Account seeks to achieve capital appreciation by investing primarily
in securities of emerging and other growth-oriented companies.
o 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.
o MidCap Value seeks long-term growth of capital. The Account attempts to
achieve its objective by investing primarily in equity securities of
companies with value characteristics and market capitalizations in the $1
billion to $10 billion range.
o 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.
o 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.
o 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 at the time of initial purchase.
o 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.
o Stock Index 500 seeks long-term growth of capital. The Account attempts to
mirror the investment results of the Standard & Poor's 500 Stock Index.
o 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 that
are secured by real estate and securities of issuers that 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 that invest in or sponsor such programs.

Each of these Accounts has also adopted the following restrictions that 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 that 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 that 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 investment 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)TheAccount may make loans through the purchase in private
offerings of debentures or other evidences of indebtedness of
types customarily purchased by institutional investors.

(14)TheAccount 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 that 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,
MicroCap, MidCap Growth, Real Estate, SmallCap, SmallCap Growth, SmallCap Value
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 physical commodities or commodity contracts (other
than foreign currencies), 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 that
are secured by real estate and securities of issuers that 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 that 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 illiquid securities
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.

Blue Chip Account, LargeCap Growth Account, MidCap Value Account and Stock Index
500 Account

Each of the following numbered restrictions is a matter of fundamental policy
and may not be changed without shareholder approval. The Blue Chip, Large Cap
Growth, MidCap Value and Stock Index 500 Accounts each may not:

(2) Invest in physical commodities or commodity contracts (other
than foreign currencies), but it may purchase and sell financial
futures contracts and options on such contracts, swaps and
securities backed by physical commodities.

(3) Invest in real estate, although it may invest in securities that
are secured by real estate and securities of issuers that invest
or deal in real estate.

(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, provided that, when the
Account has adopted a temporary defensive posture, there shall
be no limitation on the purchase of obligations issued or
guaranteed by the U.S. Government, its agencies or
instrumentalities. This restriction applies to the Stock Index
500 Account except to the extent that the Standard & Poor's 500
Stock Index also is so concentrated.

Each of these Accounts has also adopted the following restrictions that 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 illiquid securities
and in repurchase agreements maturing in more than seven days.

(3) Invest in companies for the purpose of exercising control or
management.

(4) Invest more than 25% (20% for the Blue Chip Account, 10% for the
Stock Index 500 Account) of its total assets in securities of
foreign issuers.

(5) enter into (i) any futures contracts and related options for
purposes other than bona fide hedging transactions within the
meaning of Commodity Futures Trading Commission ("CFTC")
regulations if the aggregate initial margin and premiums
required to establish positions in futures contracts and related
options that do not fall within the definition of bona fide
hedging transactions will exceed 5% of the fair market value of
an Account's net assets, after taking into account unrealized
profits and unrealized losses on any such contracts it has
entered into; and (ii) any futures contracts if the aggregate
amount of such Account's commitments under outstanding futures
contracts positions would exceed the market value of its total
assets.

(6) Invest in real estate limited partnership interests or real
estate investment trusts except that this restriction shall not
apply to the LargeCap Growth Account.

(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:

(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.

(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.

(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.

(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
that 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 that 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.

ACCOUNTS' INVESTMENTS

The following information supplements the discussion of the Accounts" investment
objectives and policies in the Prospectus under the caption "CERTAIN INVESTMENT
STRATEGIES AND RELATED RISKS."

Fundamental Analysis

Selections of equity securities for the Accounts, except the Aggressive Growth,
Asset Allocation, LargeCap Growth, MicroCap, MidCap Growth , MidCap Value 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.
o 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.
o Second, given some conviction as to the likely economic climate, the
Sub-Advisor 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,
the Sub-Advisor evaluates the prospects for each industry for the near and
intermediate term.
o 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. The Sub-Advisor primarily uses
a bottom-up approach in selecting securities for the MidCap Value Account,
although a limited top-down analysis will be used as well.

The LargeCap Growth Account uses a bottom-up approach in building its portfolio
that seeks to identify individual companies with earnings growth potential that
may not be recognized by the market at large. Although themes may emerge in the
Account, securities are generally selected without regard to any defined
industry sector or other similarly defined selection procedure.

Restricted Securities

Each of the Accounts (except Government Securities and Money Market) has adopted
investment restrictions that limit its investments in illiquid securities to 15%
of its assets. The Board of Directors of each of the Growth-Oriented and
Income-Oriented Accounts has adopted procedures to determine the liquidity of
Rule 4(2) short-term paper and of restricted securities under Rule 144A.
Securities determined to be liquid under these procedures are excluded from this
limit when applying the preceding investment restrictions.

Generally, restricted securities are not readily marketable because they are
subject to legal or contractual restrictions upon resale. They are sold only in
a public offering with an effective registration statement or in a transaction
that is exempt from the registration requirements of the Securities Act of 1933.
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 be permitted to sell a
security. If, during such a period, adverse market conditions were to develop,
the Account might obtain a less favorable price than existed when it decided to
sell. Restricted securities and other securities not readily marketable are
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 may invest in foreign securities to the indicated
percentage of its assets (debt securities issued in the United States pursuant
to a registration statement filed with the Securities and Exchange Commission
are not treated as foreign securities for purposes of these limitations.):
o International and International SmallCap Accounts - 100%;
o Aggressive Growth, LargeCap Growth, MicroCap, Real Estate and
SmallCap Growth Accounts - 25%;
o Bond, Capital Value, High Yield, SmallCap and Utilities
Accounts - 20%.
o Balanced, Growth, MidCap, MidCap Growth, MidCap Value, SmallCap
Value and Stock Index 500 Accounts - 10%.
o The Money Market Account does not invest in foreign securities
other than those that are United States dollar denominated. All
principal and interest payments for the security are payable in
U.S. dollars. The interest rate, 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.

Securities of many foreign issuers may be less liquid and their prices more
volatile than those of comparable domestic issuers. Foreign securities markets,
particularly those in emerging market countries, are known to experience long
delays between the trade and settlement dates of securities purchased and sold.
Such delays may result in a lack of liquidity and greater volatility in the
price of securities on those markets. As a result of these factors, the Board of
Directors of the Fund has adopted Daily Pricing and Valuation Procedures for the
Accounts that set forth the steps to be followed by the Manager and/or
Sub-Advisor to establish a reliable market or fair value if a reliable market
value is not available through normal market quotations. Oversight of this
process is provided by the Executive Committee of the Board of Directors.

Securities of Smaller Companies

The International SmallCap, LargeCap Growth, MicroCap, MidCap, MidCap Growth,
MidCap Value, SmallCap, SmallCap Growth, SmallCap Value and Stock Index 500
Accounts invest in 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 Government Securities Account) may invest in the
securities of unseasoned issuers. Unseasoned issuers are companies with a record
of less than three years continuous operation, including the operation of
predecessors and parents. Unseasoned issuers by their nature have only a limited
operating history that can be used for evaluating the company's 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 company's 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.

Spread Transactions, Options on Securities and Securities Indices, and Futures
Contracts and Options on Futures Contracts

Each of the Accounts (except the Capital Value and Money Market Accounts) may
engage in the practices described under this heading. In the following
discussion, the terms "the Account," "each Account" or "the Accounts" refer to
each of the Accounts that may engage in these transactions.

Spread Transactions
Each Account may purchase 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 relation 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 is 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 invests and on securities indices based on securities in which the
Account invests. 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 the right to buy a specific 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 the right to sell to the
Account a specific security at a specified price at any time before the option
expires. In both situations, the Account receives a premium from the purchaser
of the option.

The premium received by an Account 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 generates 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 comply with applicable regulatory
and exchange cover requirements. The Accounts usually own the underlying
security covered by any outstanding call option. With respect to an outstanding
put option, each Account deposits and maintains 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. The Account executes a closing transaction by
purchasing an option of the same series as the option previously written. The
Account has 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. An Account purchases call options in anticipation of an increase
in the market value of securities that it ultimately intends to buy. During the
life of the call option, the Account is 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 exceed 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. An Account purchases
put options in anticipation of a decline in the market value of the underlying
security. During the life of the put option, the Account is 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 enough to cover the premium and
transaction costs.

Once an Account purchases an option, it may close out its position by selling an
option of the same series as the option previously purchased. The Account has 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 engage in transactions in put and call options on
securities indices for the same purposes as they engage in transactions in
options on securities. When an Account writes call options on securities
indices, it holds 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 that provides a secondary market for an option of the
same series. The Accounts generally purchase or write only those options for
which there appears to be an active secondary market. However, there is no
assurance that a liquid secondary market on an exchange exists for any
particular option, or at any particular time. If an Account is unable to effect
closing sale transactions in options it has purchased, it has to exercise its
options in order to realize any profit and may incur transaction costs upon the
purchase or sale of underlying securities. If an Account is unable to effect a
closing purchase transaction for a covered option that it has written, it is not
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 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 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 seeks to hedge against a
decline in securities owned by the Account or an increase in the price of
securities that the Account plans to purchase. An Account may also purchase and
sell futures contracts and related options to maintain cash reserves while
stimulating 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 is 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 is 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. 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
Accounts usually liquidate futures contracts on financial instruments in this
manner, they may make or take delivery of the underlying securities when 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. The amount of the settlement is based on the difference in value of
the index between the time the contract was entered into and the time it is
liquidated (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.
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 (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. It
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, a process known as "marking to market." The fluctuations make the
long or short positions in the futures contract more or less valuable. 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.
Any 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 Account seeks to establish more accurately 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, sells futures contracts in anticipation of a rise in
interest rates that would cause a decline in the value of its debt investments.
When this kind of hedging is successful, the futures contract increases 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 also sells 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 purchases 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 reflects an increase or a decrease from the premium originally paid.
Options on futures can be used to hedge substantially the same risks addressed
by the direct purchase or sale of the underlying futures contracts. For example,
if an Account anticipates 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 is not 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. The Account must maintain
with its custodian all or a portion of the initial margin requirement on the
underlying futures contract. It 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 and
Sub-Advisor's ability to predict correctly the factors affecting the market
values of the Account's portfolio securities. For example, if an Account is
hedged against the possibility of an increase in interest rates that would
adversely affect debt securities held by the Account and the prices of those
debt securities instead increases, the Account loses part or all of the benefit
of the increased value of its securities it hedged because it has 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 enters into a futures
contract or related option only if there appears to be a liquid secondary
market. There can be no assurance, however, that such a liquid secondary market
exists 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 continues 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.

The Accounts are required to operate within certain guidelines and restrictions
with respect to their use of futures and options thereon which have been
established by the CFTC. In particular, an Account is excluded from registration
as a "commodity pool operator" if it complies with Rule 4.5 adopted by the CFTC.
This Rule does not limit the percentage of an Account's assets that may be used
for futures margin and related options premiums for a bona fide hedging
position. However, under the Rule each Account must limit its aggregate initial
futures margin and related option premiums to no more than 5% of the Account's
net assets for hedging strategies that are not considered bona fide hedging
strategies under the Rule.

The Accounts may enter into futures contracts and related options transactions
only for bona fide hedging purposes as permitted by the CFTC and to a limited
extent to enhance returns. Each Account determines 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 may sell futures contracts or
acquire puts to protect against a decline in the price of securities that the
Account owns. Each Account may 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 places 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.

Forward Foreign Currency Exchange Contracts
The Accounts (except the Government Securities and Money Market Accounts) may,
but are not obligated to, enter into forward foreign currency exchange contracts
with securities dealers, financial institutions or other parties deemed credit
worthy by the Account's Sub-Advisor to hedge the value of portfolio securities
denominated in or exposed to foreign currencies. MidCap Value can also engage in
foreign currency exchange transactions on a spot basis. Currency transactions
include forward currency contracts, exchange listed currency futures contracts
and options thereon, and exchange listed or 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 specified future date at a price set at the time of the contract.

The Accounts enter into forward foreign currency exchange contracts only for the
purpose of "hedging," that is limiting the risks associated with changes in the
relative rates of exchange between the U.S. dollar and foreign currencies in
which securities owned by an Account are denominated or exposed. It should be
noted that the use of forward foreign currency exchange contracts does not
eliminate fluctuations in the underlying prices of the securities. It simply
establishes a rate of exchange between the currencies that can be achieved at
some future point in time. Additionally, although such contracts tend to
minimize the risk of loss due to a decline in the value of the hedged currency,
they also tend to limit any potential gain that might result if the value of the
currency increases.

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 sales 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.
They could also cause hedges the Account 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 of the Accounts may invest in repurchase agreements. None of the Accounts
may enter into repurchase agreements that do not mature within seven days if any
such investment, together with other illiquid securities held by the Account,
amount to more than 15% of its total assets. The MicroCap Account (together with
other registered investment companies having management agreements with Goldman
or its affiliates) may transfer uninvested cash balances into a single joint
account, the daily aggregate balance of which will be invested in one or more
repurchase agreements. The LargeCap Growth Account (together with other
registered investment companies having management agreements with Janus or its
affiliates) may transfer uninvested cash balances into a single joint account,
the daily aggregate balance of which will be invested in one or more repurchase
agreements. Repurchase agreements 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 sells back to the seller and that the seller repurchases 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. 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 that are designed to minimize such risks.
These procedures include entering into repurchase agreements only with large,
well-capitalized and well-established financial institutions that the Account's
Manager or Sub-Advisor believes present minimum credit risks. In addition, the
value of the collateral underlying the repurchase agreement is always 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 default of the
obligation to repurchase are less than the repurchase price, the Account could
suffer a loss.

Lending of Portfolio Securities

All of 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 lent 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 pays the Account any income accruing thereon. 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 that occurs during the term of the loan belongs to the
Account and its shareholders. An Account pays 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. The securities are subject to market fluctuations that involve the
risk for the purchaser that yields available in the market at the time of
delivery are higher than those obtained in the transaction. Each Account only
purchases securities on a when-issued or delayed delivery basis with the
intention of acquiring the securities. However, an Account may sell the
securities before the settlement date, if such action is deemed advisable. At
the time an Account commits to purchase securities on a when-issued or delayed
delivery basis, it records the transaction and reflects the value of the
securities in determining its net asset value. Each Account also establishes a
segregated account with its custodian bank in which it maintains cash or liquid
assets equal in value to the Account's commitments for 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 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.

Industry Concentrations
Each of the Accounts, except the Real Estate and Utilities Accounts, may not
concentrate its investments in any particular industry. The Stock Index 500
Account may concentrate its investments in a particular industry only to the
extent that the S&P 500 Stock Index is concentrated. 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 LargeCap Growth Account uses Bloomberg
L.P. industry classifications. 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 invests all of its available assets in money market
instruments maturing in 397 days or less. The types of instruments that the
Account purchases 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.

o U.S. agency obligations include, but are not limited
to, the Bank for co-operatives, Federal Home Loan
Banks, Federal Intermediate Credit Banks, and the
Federal National Mortgage Association.
o 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 are supported by the full faith and credit of
the U.S. Treasury. Others, such as those issued by the Federal
National Mortgage Association, are supported by discretionary
authority of the U.S. Government to purchase certain obligations of
the agency or instrumentality. Still others, such as those issued
by the Student Loan Marketing Association, are supported 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 overseas branches of U.S.
commercial banks and foreign banks, which in the Manager's opinion,
are of comparable quality. However, 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 that are
insured by the Federal Savings and Loan Insurance Corporation. The
Account may acquire obligations of U.S. banks that are not members
of the Federal Reserve System or of the Federal Deposit Insurance
Corporation.

Any obligations of foreign banks must 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 only buys
short-term instruments where the risks of adverse governmental
action are believed by the Manager to be minimal. The Account
considers these factors along with other appropriate factors in
making an investment decision to acquire such obligations. It only
acquires those which, in the opinion of management, are of an
investment quality comparable to other debt securities bought by
the Account. The Account invests 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 occasionally invests in certificates of
deposit that 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 U.S.
or foreign corporations.

(5) Short-term Corporate Debt -- Corporate notes, bonds and
debentures that at the time of purchase have 397 days or less
remaining to maturity.

(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 "FUND INVESTMENTS - Repurchase
Agreements.")

The ratings of nationally recognized statistical rating organization (NRSRO),
such as Moody's Investor Services, Inc. ("Moody's") and Standard and Poor's
("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, including ratings of NRSROs other than Moody's and
S&P, are the initial criteria for selection of portfolio investments, but the
Manager further evaluates these securities.

Portfolio Turnover

Portfolio turnover normally differs for each Account, varies from year to year
(as well as within a year) and is affected by portfolio sales necessary to meet
cash requirements for redemptions of Account shares. This requirement may in
some cases limit the ability of an Account to effect certain portfolio
transactions. 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 that are paid 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 were as follows (annualized when reporting
period is less than one year):

Aggressive Growth - 155.6% and 172.6%
Asset Allocation - 162.7% and 131.6%
Balanced - 24.2% and 69.7%
Bond - 26.7% and 7.3%
Capital Value - 22.0% and 23.4%
Government Securities - 11.0% and 9.0%
Growth - 9.0% and 15.4%
High Yield - 87.8% and 32.0%
International - 33.9% and 22.7%
International SmallCap - 60.3%
MicroCap - 55.3%
MidCap - 26.9% and 7.8%
MidCap Growth - 91.9%
Real Estate - 4.4%
SmallCap - 45.2%
SmallCap Growth - 166.5%
SmallCap Value - 53.4%
Utilities - 9.5%

Fund History

Organization and Share Ownership: Effective January 1, 1998, certain Funds
sponsored by Principal 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. Each of the Accounts of 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.
The Articles of Incorporation were also amended on February 1, 1999 to reflect
the addition of the Blue Chip, LargeCap Growth, MidCap Value and Stock Index 500
Accounts. Principal Life Insurance Company owns 100% of each Account's
outstanding shares.

MANAGEMENT OF THE FUND

Board of Directors

Under Maryland law, a Board of Directors oversees the Fund. The Directors have
financial or other relevant experience and meet several times during the year to
review contracts, Fund activities and the quality of services provided to the
Fund. Other than serving as Directors, most of the Board members have no
affiliation with the Fund or service providers.

The current Directors and Officers are shown below. Each person also has the
same position with other mutual funds that are also sponsored by Principal Life
Insurance Company. Unless an address is shown, the mailing address for the
Directors and Officers is Principal Financial Group, Des Moines, Iowa 50392.

* John E. Aschenbrenner, 49, Director. Senior Vice President, Principal Life
Insurance Company since 1996; Vice President - Individual Markets
1990-1996. Director, Principal Management Corporation and Princor Financial
Services Corporation.

@ James D. Davis, 64, Director. 4940 Center Court, Bettendorf, Iowa.
Attorney. Vice President, Deere and Company, Retired.

*# Ralph C. Eucher, 46, Director and President. Vice President, Principal Life
Insurance Company since 1999. Director and Executive Vice President,
Princor Financial Services Corporation and Director and President,
Principal Management Corporation.

Pamela A. Ferguson, 55, Director. 4112 River Oaks Drive, Des Moines, Iowa.
Professor of Mathematics, Grinnell College since 1998. Prior thereto,
President, Grinnell College.

* Dennis P. Francis, 55, Director. Senior Vice President, Principal Life
Insurance Company since 1998; Vice President - Commercial Real Estate
1990-1998.

@ Richard W. Gilbert, 58, Director. 1357 Asbury Avenue, Winnetka, Illinois.
President, Gilbert Communications, Inc. since 1993. Prior thereto,
President and Publisher, Pioneer Press.

*# J. Barry Griswell, 49, Director and Chairman of the Board. President,
Principal Life Insurance Company since 1998; Executive Vice President,
1996-1998; Senior Vice President, 1991-1996. Director and Chairman of the
Board, Principal Management Corporation and Princor Financial Services
Corporation.

Barbara A. Lukavsky, 58, Director. 13731 Bay Hill Court, Clive, Iowa.
President and CEO, Barbican Enterprises, Inc. since 1997. President and
CEO, Lu San ELITE USA, L.C. 1985-1998.

@# Richard G. Peebler, 69, 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 Life Insurance Company since 1998. Director - Treasury 1996-1998.
Prior thereto, Associate Treasurer.

* Michael J. Beer , 38, 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.

Michael W. Cumings, 47, Assistant Counsel. Counsel, Principal Life
Insurance Company since 1989.

* Arthur S. Filean, 60, Vice President and Secretary. Vice President, Princor
Financial Services Corporation, since 1990. Vice President, Principal
Management Corporation, since 1996.

* Ernest H. Gillum, 43, Assistant Secretary. Vice President - Compliance and
Product Development, Princor Financial Services Corporation and Principal
Management Corporation, since 1998. Prior thereto, Assistant Vice
President, Registered Products, 1995-1998. Prior thereto, Product
Development and Compliance Officer.

Jane E. Karli, 41, Assistant Treasurer. Assistant Treasurer, Principal Life
Insurance Company since 1998; Senior Accounting and Custody Administrator
1994-1998; Prior thereto, Senior Investment Cost Accountant.

* Michael D. Roughton, 47, Counsel. Counsel, Principal 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.

* Considered to be "Interested Persons" as defined in the Investment
Company Act of 1940, as amended, because of current or former
affiliation with the Manager or Principal Life.
@ Member of Audit and Nominating Committee
# Member of Executive Committee (which is selected by the Board and which
may exercise all the powers of the Board, with certain exceptions, when
the Board is not in session. The Committee must report its actions to
the Board.)

COMPENSATION TABLE
fiscal year ended December 31, 1998

Compensation from Compensation from
Director the Fund Fund Complex*

James D. Davis $24,225 $53,375
Pamela A. Ferguson $22,800 $46,250
Richard W. Gilbert $24,225 $51,525
Barbara A. Lukavsky $24,225 $50,675
Richard G. Peebler** $24,600 $48,900

The Fund did not provide retirement benefits for any of the directors.

* Total compensation from the 20 investment companies included in the fund
complex for the fiscal year ended December 31, 1998.

** Richard Peebler received $1,800 from the Fund due to his participation in the
executive committee.

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 Financial Services, Inc. The
Manager is an affiliate of Principal 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 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, Blue Chip, Capital Value, Government Securities, Growth,
International, International SmallCap, MidCap, SmallCap, Stock Index 500
and Utilities
Sub-Advisor: Invista Capital Management, LLC ("Invista"). Invista, an indirectly
wholly-owned subsidiary of Principal Life Insurance Company and an
affiliate of the Manager, was founded in 1985. It manages investments for
institutional investors, including Principal Life Insurance Company. Assets
under management as of December 31, 1998 were approximately $31 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.("Morgan Stanley"). Morgan
Stanley, 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. As of December 31, 1998, Morgan Stanley
managed investments totaling approximately $163.4 billion as named
fiduciary or fiduciary adviser. On December 1, 1998 Morgan Stanley Asset
Management Inc. changed its name to Morgan Stanley Dean Witter Investment
Management Inc. but continues to do business in certain instances using the
name Morgan Stanley Asset Management.

Account: MicroCap
Sub-Advisor: Goldman Sachs Asset Management ("Goldman"), 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. As of December 31, 1998, Goldman, together with its
affiliates managed assets in excess of $195 billion.

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 December 31, 1998,
The Dreyfus Corporation managed or administered approximately $118.5
billion in assets for approximately 1.7 million investor accounts
nationwide.

Account: MidCap Value
Sub-Advisor: Neuberger Berman Management, Inc. ("Neuberger Berman") is an
affiliate of Neuberger Berman LLC. Neuberger Berman is located at 605 Third
Avenue, 2nd Floor, New York, NY 10158-0180. Together with Neuberger Berman,
the firms manage more than $49 billion in total assets (as of September 30,
1998) and continue an asset management history that began in 1939.

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. Assets under management for Berger as of December
31, 1998 were approximately $3.4 billion.

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, 1998, J.P. Morgan and its subsidiaries had total combined
assets under management of approximately $300 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>
<CAPTION>

Office Held With Office Held With
Name The Fund The Manager/Invista
<S> <C> <C>

John E. Aschenbrenner Director Director (Manager)
Craig Bassett Treasurer Treasurer (Manager)
Michael J. Beer Financial Officer Executive Vice President
& Chief Operating Officer (Manager)
Ralph C. Eucher Director and Director and President
President (Manager)
Arthur S. Filean Vice President and Secretary Vice President (Manager)
Dennis P. Francis Director Director and Chairman of
the Board (Invista)
Ernest H. Gillum Assistant Secretary Vice President, Compliance and
Product Development (Manager)
J. Barry Griswell Director and Chairman Director and Chairman of
of the Board the Board (Manager)
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 Account

First Next Next Next
Account $250 million $250 million $250 million $250 million Thereafter
--------------- ------------ ------------ ------------ -----------------------------
<S> <C> <C> <C> <C> <C>

Blue Chip 0.60% 0.55% 0.50% 0.45% 0.40%
LargeCap Growth 1.10 1.05 1.00 0.95 0.90
MidCap Value 1.05 1.00 0.95 0.90 0.85
Overall Fee
Stock Index 500 0.35%
</TABLE>
<TABLE>
<CAPTION>

First Next Next Next Over
Account $100 million $100 million $100 million $100 million $400 million
------- ------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>

Aggressive Growth and
Asset Allocation 0.80% 0.75% 0.70% 0.65% 0.60%
Balanced, High Yield and Utilities 0.60 0.55 0.50 0.45 0.40
International 0.75 0.70 0.65 0.60 0.55
International SmallCap 1.20 1.15 1.10 1.05 1.00
MicroCap and SmallCap Growth 1.00 0.95 0.90 0.85 0.80
MidCap 0.65 0.60 0.55 0.50 0.45
MidCap Growth and Real Estate 0.90 0.85 0.80 0.75 0.70
Small Cap 0.85 0.80 0.75 0.70 0.65
Small Cap Value 1.10 1.05 1.00 0.95 0.90
All Other 0.50 0.45 0.40 0.35 0.30
</TABLE>

Management Fee
Net Assets as of For Year Ended
Account December 31, 1998 December 31, 1998
------- ----------------- -----------------
Aggressive Growth $224,058,066 0.77%
Asset Allocation 84,089,285 0.80
Balanced 198,603,294 0.57
Bond 121,972,775 0.49
Capital Value 385,723,793 0.43
Government Securities 141,317,226 0.49
Growth 259,827,613 0.47
High Yield 14,042,632 0.60
International 153,587,915 0.73
International SmallCap 13,075,152 1.20
MicroCap 5,383,599 1.00
MidCap 259,470,208 0.61
MidCap Growth 8,533,511 0.90
Money Market 83,262,822 0.50
Real Estate 10,908,756 0.90
SmallCap 12,094,305 0.85
SmallCap Growth 8,462,628 1.00
SmallCap Value 6,895,386 1.10
Utilities 18,298,074 0.60

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, Blue Chip, Capital Value, Government Securities,
Growth, International, International SmallCap, MidCap, SmallCap, Stock Index 500
and Utilities Accounts. The Manager compensates Invista for its sub-advisory
services as provided in the Sub-Advisory Agreement. The Manager may periodically
reallocate management fees between itself and Invista.

Under a Sub-Advisory Agreement between Morgan Stanley and the Manager, Morgan
Stanley performs all the investment advisory responsibilities of the Manager
under the Management Agreement for the Aggressive Growth and Asset Allocation
Accounts. The Manager pays Morgan Stanley 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 Goldman and the Manager, Goldman performs
all the investment advisory responsibilities of the Manager under the Management
Agreement for the MicroCap Account. The Manager pays Goldman 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 Janus Capital and the Manager, Janus
performs all the investment advisory responsibilities of the Manager under the
Management Agreement for the LargeCap Growth Account. The Manager pays Janus a
fee that is accrued daily and payable monthly. The fee is based on the net asset
value of the Account as follows: first $250 million of net assets - the fee is
1.10%; next $250 million - 1.05%; next $250 million - 1.00%; next $250 million -
0.95%; and thereafter - 0.90%.

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%.

Under a Sub-Advisory Agreement between Neuberger Berman Management Inc. and the
Manager, Neuberger Berman performs all the investment advisory responsibilities
of the Manager under the Management Agreement for the MidCap Value Account. The
Manager pays Neuberger Berman a fee that is accrued daily and payable monthly.
The fee is based on the net asset value of the Account as follows: first $250
million of net assets - the fee is 1.05%; next $250 million - 1.00%; next $250
million - 0.95%; next $250 million - 0.90%; and thereafter - 0.85%.

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 Life Insurance Company and some or all of the
administrative duties and services may be delegated by the Manager to Principal
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,
1998 1997 1996
Aggressive Growth $1,436,590 $907,800 $491,699
Asset Allocation 650,963 566,727 425,427
Balanced 958,526 665,902 420,010
Bond 488,898 358,818 260,242
Capital Value 1,480,275 1,124,855 816,437
Government Securities 576,926 426,977 360,968
Growth 989,512 650,659 357,833
High Yield 87,806 87,845 75,111
International 1,045,627 768,332 376,123
International SmallCap 94,388
MicroCap 36,591
MidCap 1,504,567 1,145,372 606,697
MidCap Growth 36,858
Money Market 306,233 224,424 208,822
Real Estate 64,493
SmallCap 60,975
SmallCap Growth 42,319
SmallCap Value 42,234
Utilities 56,185

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 Account
$534,127, $403,710 and $243,337; Asset Allocation Account $375,391, $272,596 and
$219,613; Balanced Account $154,678, $65,013 and 35,655; Capital Value Account
$189,590, $138,908 and $76,181; Government Securities Account $30,334, $23,421
and $12,845; Growth Account $111,780, $84,191 and $46,173; International Account
$68,263, $91,476 and $50,168; International SmallCap Account $21,431; MidCap
Account $134,225, $112,374 and $61,629; SmallCap Account $16,533; and Utilities
Account $7,405.

Note: The Manager voluntarily waived a portion of its fee for the MicroCap
Account. It intends to continue the waiver and, if necessary, pay
expenses normally payable by the Account through December 31, 1999 in
an amount that will maintain total operating expenses at a level that
will not exceed 1.06%.

Note: The Manager voluntarily waived a portion of its fee for the MidCap
Growth Account. It intends to continue the waiver and, if necessary,
pay expenses normally payable by the Account through December 31, 1999
in an amount that will maintain total operating expenses at a level
that will not exceed 0.96%.

Note: The Manager voluntarily waived a portion of its fee for the SmallCap
Growth Account. It intends to continue the waiver and, if necessary,
pay expenses normally payable by the Account through December 31, 1999
in an amount that will maintain total operating expenses at a level
that will not exceed 1.06%.

Note: The Manager voluntarily waived a portion of its fee for the SmallCap
Value Account. It intends to continue the waiver and, if necessary, pay
expenses normally payable by the Account through December 31, 1999 in
an amount that will maintain total operating expenses at a level that
will not exceed 1.16%.

Note: The Manager intends to waive a portion of its fee for the LargeCap
Growth Account and, if necessary, pay expenses normally payable by the
Account through December 31, 1999 in an amount that will maintain total
operating expenses at a level that will not exceed 1.20%.

Note: The Manager intends to waive a portion of its fee for the MidCap Value
Account and, if necessary, pay expenses normally payable by the Account
through December 31, 1999 in an amount that will maintain total
operating expenses at a level that will not exceed 1.20%.

Note: The Manager intends to waive a portion of its fee for the Stock Index
500 Account and, if necessary, pay expenses normally payable by the
Account through December 31, 1999 in an amount that will maintain total
operating expenses at a level that will not exceed 0.40%.

The Management Agreement and Investment Service Agreement under which Principal
Capital Management, a subsidiary of Principal Life Insurance Company, has agreed
to furnish certain personnel, services and facilities required by the Manager to
enable it to fulfill its responsibilities for the Accounts were last approved by
the Fund's Board of Directors on September 14, 1998. The Sub-Advisory Agreements
between the Manager and Berger, the Manager and Dreyfus, the Manager and
Goldman, the Manager and Invista the Manager and J.P. Morgan Investment, and the
Manager and Morgan Stanley were also approved by the Fund's Board of Directors
on September 14, 1998.

The Second Amendment to the Management Agreement, the Second Amendment to the
Sub-Advisory Agreement between Principal Management and Invista (adding the Blue
Chip and Stock Index 500 Accounts), the Sub-Advisory Agreement between Principal
Management and Janus and the Sub-Advisory Agreement between Principal Management
and Neuberger Berman were approved by the Fund's Board of Directors on December
14, 1998.

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. In either event
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 Life Insurance Company or its subsidiaries, the Fund and

1) in the case of the Sub-Advisory Agreement for each of the Balanced,
Blue Chip, Capital Value, Government Securities, Growth,
International, International SmallCap, MidCap, SmallCap, Stock Index
500, and Utilities Accounts, Invista;
2) in the case of the Sub-Advisory Agreement for each of Aggressive
Growth and Asset Allocation, Morgan Stanley;
3) for the Sub-Advisory Agreement for LargeCap Growth, Janus;
4) for the Sub-Advisory Agreement for MicroCap, Goldman;
5) for the Sub-Advisory Agreement for MidCap Growth, Dreyfus;
6) for the Sub-Advisory Agreement for MidCap Value, Neuberger Berman;
7) for the Sub-Advisory Agreement for SmallCap Growth, Berger; and
8) for the Sub-Advisory Agreement for SmallCap Value, J.P. Morgan
Investment.
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, Goldman,
Invista, J.P. Morgan Investment, Janus, Morgan Stanley, Neuberger Berman or
Principal 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 Balanced
Account, Capital Value Account, Growth Account and International Account to
certain brokers during the fiscal year ended December 31, 1998 due to research
services provided by such brokers. These portfolio transactions resulted in
commissions paid to such brokers by the Fund in the amounts of $19,864.00,
$16,090.00, $15,756.25 and $4,965.86 respectively.

Subject to the rules promulgated by the SEC, as well as other regulatory
requirements, a Sub-Advisor also may allocate orders to broker-dealers
affiliated with the Sub-Advisor. The Sub-Advisor shall determine the amounts and
proportions of orders allocated to the Sub-Advisor or affiliate. The Board of
Directors of the Fund will receive quarterly reports on these transactions.

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 that provided research, statistical or other factual information.

Total Brokerage Commissions Paid
Fiscal Year Ended
December 31,

Account 1998 1997 1996
------- ---- ---- ----
Aggressive Growth $606,022 $418,468 $250,591
Asset Allocation 214,204 164,992 109,360
Balanced 80,504 58,053 46,458
Capital Value 237,630 135,417 183,156
Growth 101,607 33,836 45,131
International 303,293 230,351 156,842
International SmallCap 52,240
MicroCap 21,437
MidCap 137,283 54,019 63,355
MidCap Growth 12,242
Real Estate 24,283
SmallCap 33,400
SmallCap Growth 8,899
SmallCap Value 8,292
Utilities 23,668

Brokerage commissions paid to affiliates during the periods indicated were as
follows:
<TABLE>
Commissions Paid to Goldman Sachs
<CAPTION>

Total Dollar As Percent of As Percent of Dollar Amount
Account Year Amount Total Commissions of Commissionable Transactions
------- ---- ------ ----------------- ------------------------------
<S> <C> <C> <C> <C>
Aggressive Growth 1998 $30,744 5.07% 4.97%
Asset Allocation 1998 11,868 5.54 4.62
Balanced 1998 3,630 4.51 1.72
Growth 1998 4,620 4.55 5.03
International 1998 25,436 8.39 14.38
International SmallCap 1998 1,424 2.73 3.32
MicroCap 1998 2,737 12.77 17.07
MidCap 1998 640 0.47 0.59
MidCap Growth 1998 3,853 31.47 36.02
SmallCap 1998 300 0.90 1.44
SmallCap Growth 1998 325 3.65 5.03
</TABLE>
<TABLE>

Commissions Paid to J. P. Morgan Securities
<CAPTION>

Total Dollar As Percent of As Percent of Dollar Amount
Account Year Amount Total Commissions of Commissionable Transactions
------- ---- ------ ----------------- ------------------------------
<S> <C> <C> <C> <C>
Aggressive Growth 1998 $34,133 5.63% 6.32%
Asset Allocation 1998 10,678 4.98 5.47
Balanced 1998 1,330 1.65 2.41
Capital Value 1998 4,375 1.84 1.95
Growth 1998 3,496 3.44 2.41
International 1998 1,261 0.42 0.73
MicroCap 1998 827 3.86 2.29
MidCap 1998 1,040 0.76 0.62
MidCap Growth 1998 78 0.64 0.31
Real Estate 1998 2,355 9.70 8.86
SmallCap 1998 120 0.36 0.91
</TABLE>
<TABLE>
Commissions Paid to Morgan Stanley and Co.
<CAPTION>

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 1998 $ 751 0.35% 0.27%
1997 2,974 1.80 1.29
Balanced 1998 3,155 3.92 2.11
1996 1,300 2.80 1.82
Capital Value 1998 4,620 1.94 1.77
1997 7,155 5.28 6.12
1996 3,650 1.99 1.48
Growth 1998 6,598 6.49 5.30
1997 1,250 3.69 3.83
International 1998 25,872 8.53 8.46
1997 10,411 4.37 4.20
1996 3,176 2.02 1.78
International SmallCap 1998 5,697 10.91 15.49
MicroCap 1998 30 0.14 0.14
MidCap 1998 2,248 1.64 2.19
1997 2,250 4.17 2.54
MidCap Growth 1998 210 1.72 1.15
Real Estate 1998 4,600 18.94 15.04
SmallCap 1998 220 0.66 0.86
SmallCap Value 1998 158 1.90 0.75
</TABLE>

Morgan Stanley and Co. is affiliated 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 Life Insurance Company and places orders to trade portfolio securities
for the funds and the Bond, High Yield, 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 are 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 are 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, Goldman, J.P. Morgan
Investment, Janus, Morgan Stanley, or Neuberger Berman acts as investment
sub-advisor or advisor is to be made at the same time, the securities are
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 do 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 considered reliable, prices provided by market
makers, that 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 that 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 that 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 are 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, 1998 average annual total return
for each of the Accounts for the periods indicated:

Account 1-Year 5-Year 10-Year
------- ------ ------ -------
Aggressive Growth 18.95% 26.61%(1) N/A
Asset Allocation 9.18% 13.23%(1) N/A
Balanced 11.91% 12.74% 12.33%
Bond 7.69% 7.66% 9.46%
Capital Value 13.58% 19.03% 15.15%
Government Securities 8.27% 7.02% 9.35%
Growth 21.36% 19.48%(2) N/A
High Yield -.56% 7.79% 8.43%
International 9.98% 12.09%(2) N/A
International SmallCap -10.37%(3)
MicroCap -18.42%(3)
MidCap 3.69% 14.92% 16.22%
MidCap Growth Account -3.40%(3)
Real Estate -6.56%(3)
SmallCap -20.51%(3)
SmallCap Growth 2.96%(3)
SmallCap Value -15.06%(3)
Utilities 15.36%(3)

(1) Period beginning June 1, 1994 and ending December 31, 1998. (2) Period
beginning May 1, 1994 and ending December 31, 1998. (3) Period beginning
May 1, 1998 and ending December 31, 1998.

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, 1998, the Money Market Account's yield was 4.90%. 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, that 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, 1998, the Money Market Account's
effective yield was 5.02%.

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 fluctuates 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 is 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 that 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 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

The Articles of Incorporation for the Principal Variable Contracts Fund, Inc.
were amended on February 1, 1999 to reflect the addition of the following new
Accounts:

Blue Chip Account MidCap Value Account
LargeCap Growth Account Stock Index 500 Account

FINANCIAL STATEMENTS

The financial statements for the Accounts for the fiscal period ended December
31, 1998 appearing in the Annual Report to Shareholders and the report thereon
of Ernst and Young LLP, independent auditors, 801 Grand Avenue, Des Moines, 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 that 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 that 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 that make the
long-term risks appear somewhat larger than in Aaa securities.

A: Bonds that 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: Bondsthat 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 that 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 that 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: Bondsthat 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 that are rated Ca represent obligations that are speculative in
a high degree. Such issues are often in default or have other marked
shortcomings.

C: Bonds that 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-1A very strong, or strong, capacity to pay principal and interest.
Issues that possess overwhelming safety characteristics will be
given a "+" designation.

SP-2A satisfactory capacity to pay principal and interest.

SP-3A speculative capacity to pay principal and interest.