<PAGE> 1
CHESTNUT STREET EXCHANGE FUND
(A CALIFORNIA LIMITED PARTNERSHIP)
ROBERT R. FORTUNE
Chairman and President
February 19, 1999
Fellow Partner:
Enclosed is the Annual Report of Chestnut Street Exchange Fund for the year
ended December 31, 1998.
Our Fund earned $3.76 per share from net investment income for a share
outstanding throughout 1998, compared to $3.29 per share earned in 1997. Net
investment income increased principally because of the reduction of 1/10th of 1%
in the advisory fee, which is based on market value of the portfolio. (See Note
B to the financial statements.) Total distributions from net investment income
applicable to 1998, amounted to $3.77 per share including $1.52 per share
distributed in January 1999.
Long-term capital gains (federal income tax basis) realized in 1998
amounted to $3.01 per share. It is our policy, effective when the Fund adopted
regulated investment company status for federal income tax purposes as of
January 1, 1998, not to make cash distributions of capital gains. Instead, the
gains would be allocated to partners of record at year-end, together with a tax
credit representing the federal tax on the gains paid by the Fund. The tax basis
of each partner's interest in the Fund is increased by the retained capital gain
and reduced by the tax credit. Although capital gains must still be reported as
income in the partner's federal income tax return, the federal tax credit for
the taxes paid by the Fund can be used to reduce any income tax due.
With respect to 1998 capital gains, however, a variance from the new policy
is required. A capital gain of $2.95 per share was allocated to each partner
along with a tax credit of $1.03 per share. In addition, a capital gain
distribution of approximately $0.06 per share, arising from a 1998 transaction
will be paid to the partners (or reinvested if applicable) in 1999 and reported
as taxable in 1999.
After providing for the January 1999 distribution, the net asset value per
partnership share at the end of 1998 was $347.51 (a new quarter-end high)
compared to $293.03 at the end of 1997.
Since our last report, First Chicago NBD Corp. merged into BANC ONE
CORPORATION, NationsBank Corp. merged into BankAmerica Corp. (New), after
acquiring the old BankAmerica Corp. and Norwest Corp. changed its name to Wells
Fargo & Co., after acquiring Wells Fargo & Co. Our holdings in BetzDearborn,
Inc. were sold to Hercules, Inc. and 12.77% of our investment in AMP, Inc. was
tendered to the Company. The shares of Microsoft Corp. were purchased.
Data on the performance of our Fund since inception and comparisons to
leading stock market indices appear in the accompanying Investment Adviser's
Report.
Your questions or comments concerning Chestnut Street Exchange Fund are
welcomed.
Yours sincerely,
Robert R. Fortune signature
Robert R. Fortune
<PAGE> 2
INVESTMENT ADVISER'S REPORT
The stock market turned in another banner investment year. For the fourth
year, inflation was low, interest rates fell, and productivity increased, but
investment results heavily favored large capitalization stocks. In general,
small capitalization stocks posted losses for the year.
According to Lipper Analytical Services, the average U.S. equity mutual
fund last year returned 11.9%, significantly behind the market. Chestnut Street
Exchange Fund returned 20.3%.
COMPARATIVE DATA
<TABLE>
<CAPTION>
CSEF DJIA S&P 500
------- -------- --------
<S> <C> <C> <C>
Market Value 12/31/98............................... $347.51 $9181.43 $1229.23
Market Value 12/31/97............................... 293.03 7908.25 970.43
% Increase in 1998.................................. 18.6% 16.1% 26.7%
1998 Distributions.................................. $ 4.80* $ 151.13 $ 16.20
Total Return 1998................................... 20.3% 18.0% 28.4%
Market Value 12/29/76............................... $ 25.00 994.93 106.34
% Increase 1976-1998................................ 1290.0% 822.8% 1055.9%
Distributions 1976-1998............................. $ 56.21 $1856.23 $ 220.15
Total Return 1976-1998.............................. 1517.0% 1009.4% 1263.0%
</TABLE>
* Representing $3.77 actual distributions and $1.03 income tax credit.
During 1998, large capitalization stocks again significantly outperformed
mid-sized and smaller stocks, topping a weaker relative third quarter with a
strong finish in the fourth quarter. International stocks significantly
outperformed domestic stocks, although emerging markets were again negative for
the year.
Within the various investing styles, growth stocks significantly
outperformed value stocks in all three size categories. The Russell 1000 Growth
Index gained 38.71% for the year versus 15.63% for the Russell 1000 Value Index.
The performance gap for the Russell Mid-Cap Growth and Value Indices was also
wide, while the Russell 2000 Growth and Value Indices were closer, through
returns were far below the larger indices at 1.23% for the Growth Index versus
- -6.45% for Value.
Chestnut Street Exchange Fund's overweight in technology helped the Fund's
performance in 1998; technology was the best performing sector in the market.
The Fund's overweight in consumer cyclicals, the market's second best performing
sector, also helped as did the Fund's underweight in energy, the market's second
worst sector. However, the Fund's overweight in basic materials hurt
performance; basic materials were the market's worst sector in 1998. An
overweight in poor-performing transportation stocks also hurt, as did an
overweight in poor performing finance stocks.
January 14, 1999 BLACKROCK INSTITUTIONAL MANAGEMENT CORPORATION
2
<PAGE> 3
CHESTNUT STREET EXCHANGE FUND
(A CALIFORNIA LIMITED PARTNERSHIP)
STATEMENT OF NET ASSETS
DECEMBER 31, 1998
<TABLE>
<CAPTION>
SHARES VALUE
- ---------- ------------
<C> <S> <C>
COMMON STOCKS--98.7%
AUTO & AUTO PARTS--0.5%
61,948 Genuine Parts Company..... $ 2,071,386
------------
BANKS--9.2%
49,826 BANC ONE CORPORATION...... 2,544,240
208,286 BankAmerica Corp. (New)... 12,523,196
97,200 First Union Corp.......... 5,910,975
40,000 Morgan (J.P.) Co., Inc.... 4,202,500
314,532 Wells Fargo & Co.......... 12,561,622
------------
37,742,533
------------
BUILDING MATERIALS &
FOREST PRODUCTS--1.2%
45,130 Armstrong World
Industries, Inc......... 2,721,903
45,830 Weyerhaeuser Company...... 2,328,737
------------
5,050,640
------------
BUSINESS PRODUCTS &
SERVICES--1.7%
4,355* ACNielsen Corporation..... 123,028
50,647 Dun & Bradstreet
Corporation............. 1,598,546
68,416 Harland (John H.) Co...... 1,081,828
52,000 Minnesota Mining &
Manufacturing Company... 3,698,500
16,882 Nielsen Media
Research Inc............ 303,876
10,129 R. H. Donnelley Corp...... 147,504
------------
6,953,282
------------
CAPITAL GOODS--0.1%
4,800 Newport News Shipbuilding,
Inc..................... 160,500
------------
CHEMICALS--3.3%
193,400 Air Products &
Chemicals, Inc.......... 7,736,000
208,000 Cabot Corporation......... 5,811,000
------------
13,547,000
------------
CONSUMER NON-DURABLES &
SERVICES--5.2%
118,953* Cendant Corp.............. 2,267,541
283,411 Coca-Cola (The) Company... 18,953,111
------------
21,220,652
------------
CONTAINERS--0.5%
67,148 Crown Cork & Seal Company,
Inc..................... 2,068,998
------------
</TABLE>
<TABLE>
<CAPTION>
SHARES VALUE
- ---------- ------------
<C> <S> <C>
DIVERSIFIED
COMPANIES--0.1%
34,180 Ikon Office Solutions,
Inc. ................... $ 292,666
DRUGS & MEDICAL--22.2%
243,928 Abbott Laboratories,
Inc..................... 11,952,472
39,177 Baxter International,
Inc..................... 2,519,571
50,647 IMS Health, Inc........... 3,820,683
403,668 Johnson & Johnson, Inc.... 33,857,653
203,995 Merck & Company, Inc...... 30,127,511
124,000 SmithKline Beecham p.l.c.
ADR..................... 8,618,000
------------
90,895,890
------------
ELECTRICAL EQUIPMENT--6.3%
202,185 Emerson Electric
Company................. 12,649,199
128,000 General Electric
Company................. 13,064,000
------------
25,713,199
------------
ELECTRONICS--23.5%
92,056 AMP, Inc.................. 4,792,666
44,596 Hewlett-Packard Company... 3,046,464
539,676 Intel Corp................ 63,985,335
42,130 Lucent Technologies,
Inc..................... 4,634,300
27,700* Microsoft Corp............ 3,841,644
119,118 Motorola, Incorporated.... 7,273,643
159,207 Raytheon Company.......... 8,477,773
------------
96,051,825
------------
ENTERTAINMENT--1.5%
204,000 Walt Disney Company....... 6,120,000
------------
FOOD PROCESSING &
DISTRIBUTION--3.8%
97,500 Hershey Foods Corp........ 6,063,281
174,000 Philip Morris Cos.,
Inc..................... 9,309,000
------------
15,372,281
------------
INSURANCE &
FINANCIAL--4.7%
44,000 Aetna, Inc................ 3,459,500
43,930 American Express
Company................. 4,491,843
36,084 CIGNA Corp................ 2,789,744
70,000 Fannie Mae................ 5,180,000
58,176 Marsh & McLennan
Companies, Inc.......... 3,399,660
------------
19,320,747
------------
LODGING & RESTAURANT--1.9%
101,234 McDonald's Corporation.... 7,757,055
------------
</TABLE>
See Accompanying Notes to Financial Statements
3
<PAGE> 4
STATEMENT OF NET ASSETS (CONCLUDED)
<TABLE>
<CAPTION>
SHARES VALUE
- ---------- ------------
<C> <S> <C>
COMMON STOCKS (CONTINUED)
NATURAL GAS
TRANSMISSION--0.2%
24,000 Tenneco, Inc.............. $ 817,500
------------
OFFICE EQUIPMENT--0.9%
20,942 International Business
Machines Corporation.... 3,869,035
------------
PAPER--0.7%
49,638 Consolidated Papers,
Inc..................... 1,365,045
55,432 Westvaco Corp............. 1,486,271
------------
2,851,316
------------
PETROLEUM--2.1%
27,000 Atlantic Richfield Co..... 1,761,750
35,886 Burlington Resources,
Inc..................... 1,285,167
77,648 Exxon Corp................ 5,678,010
------------
8,724,927
------------
PETROLEUM EQUIPMENT &
SERVICES--0.7%
60,432 Schlumberger, Ltd......... 2,787,426
------------
POLLUTION CONTROL--0.8%
114,556 Browning Ferris
Industries, Inc......... 3,257,686
------------
RETAIL--GENERAL &
SPECIALTY--4.2%
116,772 Albertson's, Inc.......... 7,436,917
117,200 CVS Corp.................. 6,446,000
16,870* Footstar, Inc............. 421,750
60,000 Penney (J.C.)
Company, Inc............ 2,812,500
------------
17,117,167
------------
TELEPHONE UTILITIES--2.0%
124,355 GTE Corp.................. 8,083,075
------------
</TABLE>
<TABLE>
<CAPTION>
SHARES VALUE
- ---------- ------------
TRANSPORTATION--1.4%
119,796 Burlington Northern,
Inc..................... $ 4,043,115
40,000 Union Pacific Corp........ 1,802,500
------------
5,845,615
------------
Total Common Stocks
(Cost
$51,920,994)............ 403,692,401
------------
PAR
- ----------
<C> <S> <C>
SHORT-TERM OBLIGATIONS--1.9%
$7,900,000 Federal Home Loan Bank
Commercial Paper, 4.30%,
01/04/99
(Cost $7,897,170)....... $ 7,897,170
------------
TOTAL INVESTMENT IN SECURITIES
(Cost $59,818,164).............100.6% 411,589,571
Other liabilities in excess of other
assets........................... (.6%) (2,570,706)
----- ------------
NET ASSETS (Applicable to 1,176,990
partnership shares
outstanding).....................100.0% $409,018,865
====== ============
NET ASSET VALUE PER SHARE.............. $ 347.51
============
NET ASSETS APPLICABLE TO SHARES OWNED BY:
Limited partners
(1,171,604 shares)
</TABLE>
<TABLE>
SHARES VALUE
- ---------- ------------
<C> <S> <C>
$407,147,162
Managing general partners (5,386
shares)................................ 1,871,703
------------
Total net assets
(1,176,990 shares)
$409,018,865
============
</TABLE>
- ---------------
* Non-Income Producing
See Accompanying Notes to Financial Statements
4
<PAGE> 5
CHESTNUT STREET EXCHANGE FUND
(A CALIFORNIA LIMITED PARTNERSHIP)
STATEMENT OF OPERATIONS
YEAR ENDED DECEMBER 31, 1998
<TABLE>
<S> <C> <C>
INVESTMENT INCOME:
Dividends............................... $ 5,557,888
Interest................................ 303,071
-----------
Total Income...................... 5,860,959
-----------
Expenses:
Investment advisory fee................. 1,230,253
Managing general partners' compensation
and officer's salary.................. 57,520
Legal................................... 40,000
Custodian fees.......................... 25,929
Audit................................... 25,200
Transfer Agent.......................... 14,958
Insurance............................... 1,109
Printing................................ 16,502
Miscellaneous........................... 8,001
Taxes................................... 929
-----------
Total Expenses...................... 1,420,401
-----------
Net Investment Income............. 4,440,558
-----------
REALIZED AND UNREALIZED GAIN ON
INVESTMENTS:
Realized gain from security
transactions: distributed upon
redemption of partnership shares...... 5,281,796
Realized gain on investment securities
not distributed to partnership 3,474,553
shares................................
Unrealized appreciation of investments:
Beginning of year....... $294,570,111
End of year............. 351,771,407
------------
57,201,296
-----------
Net realized and unrealized gain
on investments.................. 65,957,645
-----------
Federal income tax on realized gain
not distributed to partnership (1,216,094)
shares..............................
-----------
Net increase in net assets resulting
from operations..................... $69,182,109
===========
</TABLE>
STATEMENTS OF CHANGES IN NET ASSETS
YEARS ENDED DECEMBER 31,
<TABLE>
<CAPTION>
1998 1997
------------ ------------
<S> <C> <C>
INCREASE IN NET ASSETS:
OPERATIONS:
Net investment income.. $ 4,440,558 $ 3,998,930
Net realized gain from
security transactions
(for federal income
tax purposes net gain
is $3,538,300 and
$635,794)............ 3,474,553 635,807
Excess of market value
over book value of
securities
distributed upon
redemption of
partnership shares... 5,281,796 11,356,550
Increase in unrealized
appreciation of
investments.......... 57,201,296 50,408,603
Federal income tax on
realized gain not
distributed to
partnership shares... (1,216,094) 0
------------ ------------
Net increase in net
assets resulting from
operations........... 69,182,109 66,399,890
------------ ------------
DISTRIBUTIONS TO PARTNERS
FROM:
Net investment income.. (4,453,148) (3,987,287)
Net realized gains
(federal income tax
basis)............... 0 (191,984)
------------ ------------
Total distributions to
partners............. (4,453,148) (4,179,271)
------------ ------------
CAPITAL SHARE
TRANSACTIONS:
Net asset value of
1,206 and 3,501
shares subscribed or
issued in lieu of
cash distributions... 365,991 872,908
Cost of 24,026 and
51,856 shares
repurchased.......... (7,658,499) (14,706,454)
------------ ------------
Decrease in net assets
from capital share
transactions......... (7,292,508) (13,833,546)
------------ ------------
Total increase in net
assets............... 57,436,453 48,387,073
NET ASSETS:
Beginning of year...... 351,582,412 303,195,339
------------ ------------
End of year............ $409,018,865 $351,582,412
============ ============
</TABLE>
See Accompanying Notes to Financial Statements
5
<PAGE> 6
CHESTNUT STREET EXCHANGE FUND
FINANCIAL HIGHLIGHTS
(FOR A SHARE OF THE FUND OUTSTANDING THROUGHOUT EACH PERIOD)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------------
1998 1997 1996 1995 1994
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year........... $ 293.03 $ 242.91 $ 194.26 $ 144.43 $ 142.79
-------- -------- -------- -------- --------
Income From Investment Operations:
Net investment income...................... 3.76 3.29 3.36 3.22 3.07
Net gains on securities (both realized and
unrealized).............................. 54.49 50.27 51.18 49.82 4.27
-------- -------- -------- -------- --------
Total from investment operations...... 58.25 53.56 54.54 53.04 7.34
-------- -------- -------- -------- --------
Less Distributions:
Distributions from net investment income... (3.77) (3.28) (3.36) (3.21) (3.07)
Distributions from realized gains
(federal income tax basis)............... 0.00 (0.16) (2.53) 0.00 (2.63)
-------- -------- -------- -------- --------
Total distributions................... (3.77) (3.44) (5.89) (3.21) (5.70)
-------- -------- -------- -------- --------
Net Asset Value, End of Year................. $ 347.51 $ 293.03 $ 242.91 $ 194.26 $ 144.43
======== ======== ======== ======== ========
Total Return................................. 20.25% 22.11% 28.09% 36.88% 5.19%
Ratios/Supplemental Data:
Net Assets, End of Year (000's)............ $409,019 $351,582 $303,195 $251,995 $191,348
Ratios to average net assets:
Operating expenses....................... 0.38% 0.50% 0.51% 0.52% 0.54%
Net investment income.................... 1.18% 1.17% 1.55% 1.84% 2.11%
Portfolio Turnover Rate.................... 0.76% 1.26% 3.92% 0.00% 3.88%
</TABLE>
See Accompanying Notes to Financial Statements.
6
<PAGE> 7
NOTES TO FINANCIAL STATEMENTS
(A) Chestnut Street Exchange Fund (the "Fund") is registered under the
Investment Company Act of 1940, as amended, as a diversified open-end
management company. Significant accounting policies are as follows:
Investments are stated at value in the accompanying financial statements.
Securities listed on a securities exchange are valued at the close of
trading on December 31, 1998 for each security. Securities not so listed or
not traded on that date are valued at the latest bid price. Short-term
obligations are valued at amortized cost which approximates market. Security
transactions are accounted for on the trade date. The cost of investments
sold or redeemed in kind is determined by the use of the specific
identification method for both financial reporting and income tax purposes.
For securities received in the Exchange at inception of the Fund in 1976,
cost for financial reporting purposes is the value of the securities as used
in the Exchange and for income tax purposes, the tax basis of the individual
investor. Interest income is recorded on an accrual basis; dividend income
is recorded on ex-dividend date. It is the Fund's policy to continue to
comply with the requirements of the Internal Revenue Code applicable to
regulated investment companies and to make the requisite distribution of
taxable investment income and capital gains to its shareholders which will
relieve it from all or substantially all federal income and excise taxes.
However, commencing in 1998, the Fund does not intend to distribute
long-term capital gains, but expects instead to retain such gains
($3,474,553 in 1998), if any, and to pay the corporate income tax rate then
applicable to net long-term capital gains (35% in 1998) . On the last day of
the year, common shareholders will be entitled to a proportionate credit of
such tax payments, and their basis for the common shares will be increased
by the amount of the undistributed gains less the tax paid by the Fund.
Federal income taxes of $1,216,094 were accrued for the year ended December
31, 1998.
In a variance from the above-stated policy, a capital gain distribution of
$63,747 representing additional 1998 capital gains and equivalent to
approximately $0.06 per share will be paid to the partners (or reinvested if
applicable) in 1999 and reported as taxable in 1999.
The preparation of financial statements in conformity with generally
accepted principles requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from these
estimates.
(B) Effective January 1, 1998, the Fund changed its tax status from a
partnership to a regulated investment company. The change results from the
enactment of the "Publicly Traded Partnership" rules to the Internal Revenue
Code in 1987, which first applied to the Fund after 1997. In connection with
the change in tax status, effective January 1, 1998, PNC Bank N.A. ("PNC
Bank") is no longer obligated to provide a non-managing general partner. A
new Advisory Agreement, approved by the partners on December 18, 1997,
effective January 1, 1998, provides for an advisory fee at the annual rate
of 4/10ths of 1% of the first $100,000,000 of the Fund's average daily net
assets plus 3/10ths of 1% of net assets exceeding $100,000,000. The annual
rate of the advisory fee was formerly 5/10ths of 1% of the first
$100,000,000 of the average daily net assets plus 4/10ths of 1% of net
assets exceeding $100,000,000.
PNC Bank and BlackRock Institutional Management Corporation ("BIMC" formerly
known as PNC Institutional Management Corporation), a majority-owned
subsidiary of PNC Bank, are co-investment advisers to the Fund pursuant to
an Advisory Agreement dated January 1, 1998. In June 1998, PNC Bank and BIMC
restructured their operations and BlackRock Financial Management ("BFM"), a
majority-owned subsidiary of PNC Bank, assumed the rights and
7
<PAGE> 8
obligations of PNC Bank under the Advisory Agreement. The Fund pays BIMC the
investment advisory fee stated above for the services of BIMC and BFM. The
managing general partners each receive a fixed fee as compensation for their
services. PFPC Inc., an affiliate of PNC Bank, is the Fund's transfer agent.
(C) The aggregate cost of investments for federal income tax purposes at
December 31, 1998 was $48,509,500. The aggregate gross unrealized
appreciation for all securities is as follows: excess of value over tax cost
$363,080,071.
(D) For the period ended December 31, 1998 purchases and sales of investment
securities (Excluding short-term obligations) were $2,816,745 and $3,751,200
respectively.
(E) At December 31, 1998, net assets consisted of:
<TABLE>
<S> <C>
Undistributed net investment income.................... $ 5,721
Net unrealized appreciation on investments............. 351,771,407
Other capital--paid-in or reinvested................... 57,241,737
------------
$409,018,865
============
</TABLE>
8
<PAGE> 9
REPORT OF INDEPENDENT ACCOUNTANTS
To the Partners
of Chestnut Street Exchange Fund:
In our opinion, the accompanying statement of net assets of Chestnut Street
Exchange Fund, (the "Fund"), and the related statements of operations and of
changes in net assets, and the financial highlights present fairly, in all
material respects, the financial position of Chestnut Street Exchange Fund at
December 31, 1998, the results of its operations for the year then ended, the
changes in its net assets for each of the two years in the period then ended and
its financial highlights for each of the five years presented, in conformity
with generally accepted accounting principles. These financial statements and
financial highlights (hereafter referred to as "financial statements") are the
responsibility of the Fund's management; our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these financial statements in accordance with generally accepted
auditing standards, which require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits, which included confirmation of securities at December 31, 1998 by
correspondence with the custodian, provide a reasonable basis for the opinion
expressed above.
PricewaterhouseCoopers LLP
2400 Eleven Penn Center
Philadelphia, Pennsylvania
January 29, 1999
9
<PAGE> 10
[This Page Intentionally Left Blank.]
<PAGE> 11
[This Page Intentionally Left Blank.]
<PAGE> 12
- ---------------------------------------------------
- ---------------------------------------------------
MANAGING GENERAL PARTNERS
Richard C. Caldwell
Robert R. Fortune
G. Willing Pepper
Langhorne B. Smith
David R. Wilmerding, Jr.
INVESTMENT ADVISERS
BlackRock Financial Management
and
BlackRock Institutional
Management Corporation
400 Bellevue Parkway
Wilmington, Delaware 19809
TRANSFER AGENT
PFPC Inc.
P.O. Box 8950
Wilmington, Delaware 19899
(800) 852-4750
(302) 791-1043 (Delaware)
- ---------------------------------------------------
- ---------------------------------------------------
- ---------------------------------------------------
- ---------------------------------------------------
CHESTNUT STREET EXCHANGE FUND LOGO
Annual Report
December 31, 1998
Chestnut Street Exchange
Fund
400 Bellevue Parkway
Wilmington, Delaware 19809
(302) 792-2555
Edward J. Roach, Treasurer
- ---------------------------------------------------
- ---------------------------------------------------
