<PAGE> 1
LONG-TERM INVESTING IN A SHORT-TERM WORLD(SM)
ANNUAL REPORT TO
SHAREHOLDERS FOR THE YEAR
ENDED OCTOBER 31, 1998
[MORNINGSTAR RATINGS LOGO]
OFFERING INVESTORS THE OPPORTUNITY
FOR HIGH CURRENT RETURN
KEMPER DIVERSIFIED INCOME FUND
"... With the bias toward quality issues throughout the year--as a result of the
flight to quality ... ,
Treasuries played an important role during much
of the year in maintaining a high overall credit
rating for the fund. ..."
[KEMPER FUNDS LOGO]
<PAGE> 2
At A GLANCE
CONTENTS
3
ECONOMIC OVERVIEW
5
MANAGEMENT TEAM
6
PERFORMANCE UPDATE
7
TERMS TO KNOW
9
PORTFOLIO STATISTICS
10
PORTFOLIO OF
INVESTMENTS
18
REPORT OF
INDEPENDENT AUDITORS
19
FINANCIAL STATEMENTS
21
NOTES TO
FINANCIAL STATEMENTS
25
FINANCIAL HIGHLIGHTS
KEMPER DIVERSIFIED
INCOME FUND TOTAL RETURNS
FOR THE YEAR ENDED OCTOBER 31, 1998
(UNADJUSTED FOR ANY SALES CHARGE)
[BAR GRAPH]
- ----------------------------------------------------------
<TABLE>
<S> <C>
CLASS A 1.28
CLASS B 0.12
CLASS C 0.28
LIPPER GENERAL FUND FUNDS CATEGORY AVERAGE* -0.96
- ---------------------------------------------------------
</TABLE>
Returns and rankings are historical and do not guarantee future results.
Investment returns and principal values will fluctuate so that shares, when
redeemed, may be worth more or less than original cost.
*Lipper Analytical Services, Inc. returns and rankings are based upon changes in
net asset value with all dividends reinvested and do not include the effect of
sales charges and, if they had, results may have been less favorable.
<TABLE>
<CAPTION>
NET ASSET VALUE
AS OF AS OF
10/31/98 10/31/97
- -----------------------------------------------------------------------------------------
<S> <C> <C>
KEMPER DIVERSIFIED
INCOME FUND CLASS A $5.60 $5.96
- -----------------------------------------------------------------------------------------
KEMPER DIVERSIFIED
INCOME FUND CLASS B $5.59 $5.96
- -----------------------------------------------------------------------------------------
KEMPER DIVERSIFIED
INCOME FUND CLASS C $5.62 $5.99
- -----------------------------------------------------------------------------------------
</TABLE>
KEMPER DIVERSIFIED
INCOME FUND RANKINGS AS OF 10/31/98
COMPARED TO ALL OTHER FUNDS IN THE LIPPER MULTI-SECTOR INCOME CATEGORY*
<TABLE>
<CAPTION>
CLASS A CLASS B CLASS C
- ---------------------------------------------------------------
<S> <C> <C> <C>
1-YEAR #31 of #43 of #40 of
90 funds 90 funds 90 funds
- --------------------------------------------------------------
5-YEAR #6 of N/A N/A
23 funds
- -------------------------------------------------------------
10-YEAR #1 of N/A N/A
6 funds
- -------------------------------------------------------------
15-YEAR #2 of N/A N/A
2 funds
- -------------------------------------------------------------
20-YEAR #1 of N/A N/A
2 funds
- ------------------------------------------------------------
</TABLE>
DIVIDEND AND YIELD REVIEW
THE FOLLOWING TABLE SHOWS PER SHARE DIVIDEND AND YIELD INFORMATION FOR THE FUND
AS OF OCTOBER 31, 1998.
<TABLE>
<CAPTION>
CLASS A CLASS B CLASS C
- ---------------------------------------------------------------------------------------------
<S> <C> <C> <C>
ONE-YEAR INCOME: $.4480 $.3893 $.3989
- ---------------------------------------------------------------------------------------------
OCTOBER DIVIDEND: $.0365 $.0318 $.0325
- ---------------------------------------------------------------------------------------------
ANNUALIZED DISTRIBUTION RATE+: 7.82% 6.83% 6.94%
- ---------------------------------------------------------------------------------------------
SEC YIELD+: 7.26% 6.60% 6.73%
- ---------------------------------------------------------------------------------------------
</TABLE>
+Current annualized distribution rate is the latest monthly dividend shown as an
annualized percentage of net asset value on October 31, 1998 and does not
include any adjustment for sales charge. Distribution rate simply measures the
level of dividends and is not a complete measure of performance. The SEC yield
is net investment income per share earned over the month ended October 31, 1998,
shown as an annualized percentage of the maximum offering price on that date.
The SEC yield is computed in accordance with the standardized method prescribed
by the Securities and Exchange Commission. Yields and distribution rates are
historical and will fluctuate.
The fund may invest in lower-rated and non-rated securities which present
greater risk of loss to principal and interest than higher-rated securities. The
fund may also invest a significant portion of its assets in foreign securities
which present special risks including fluctuating exchange rates, government
regulation and differences in liquidity that may affect the volatility of your
investment.
YOUR FUND'S STYLE
- --------------------------------------------------------------------------------
MORNINGSTAR INCOME STYLE BOX
- --------------------------------------------------------------------------------
[MATURITY/QUALITY DIAGRAM]
Source: Data provided by Morningstar, Inc., Chicago, IL 312-696-6000. The
Income Style Box placement is based on a fund's average effective maturity or
duration and the average credit rating of the bond portfolio.
Please note that style boxes do not represent an exact asessment of risk and do
not represent future performance. The fund's portfolio changes from
day-to-day. A longer-term view is represented by the fund's Morningstar
catefory which is based on its actual investment style as measured by its
underlying portfolio holdings over the past three-years. Morningstar has
placed Kemper Diversified Income Fund in the Multisector Bond Category. Please
consult the prospectus for a description of investment policies.
<PAGE> 3
ECONOMIC OVERVIEW
[SILVIA PHOTO]
DR. JOHN E. SILVIA IS A MANAGING DIRECTOR OF SCUDDER KEMPER INVESTMENTS, INC.
HIS PRIMARY RESPONSIBILITIES INCLUDE ANALYSIS, MODELING AND FORECASTING OF
ECONOMIC DEVELOPMENTS AND FEDERAL RESERVE ACTIVITY THAT AFFECT FINANCIAL
MARKETS, ESPECIALLY INTEREST RATE TRENDS. THIS EFFORT INCLUDES CLOSE
COLLABORATION WITH BOTH INCOME AND EQUITY MUTUAL FUND MANAGERS AND PENSION FUND
MANAGERS.
SILVIA HOLDS A BACHELOR'S DEGREE AND PH.D. IN ECONOMICS FROM NORTHEASTERN
UNIVERSITY IN BOSTON AND A MASTER'S DEGREE IN ECONOMICS FROM BROWN UNIVERSITY IN
PROVIDENCE, R.I. PRIOR TO HIS CAREER AT SCUDDER KEMPER, HE WAS WITH THE HARRIS
BANK AND ALSO TAUGHT AT INDIANA UNIVERSITY.
SCUDDER KEMPER INVESTMENTS, INC. IS THE INVESTMENT MANAGER FOR KEMPER FUNDS. IT
IS ONE OF THE LARGEST AND MOST EXPERIENCED INVESTMENT MANAGEMENT ORGANIZATIONS
WORLDWIDE, MANAGING MORE THAN $245 BILLION IN ASSETS GLOBALLY FOR MUTUAL FUND
INVESTORS, RETIREMENT AND PENSION PLANS, INSTITUTIONAL AND CORPORATE CLIENTS,
INSURANCE COMPANIES, AND PRIVATE, FAMILY AND INDIVIDUAL ACCOUNTS.
DEAR SHAREHOLDERS,
If you're like most investors, you may be wondering if you should allow yourself
to breathe a sigh of relief as 1998 comes to a close. After several months of
generally declining stock prices and extreme volatility, the U.S. stock market
seems to have rediscovered its resiliency. In the fourth quarter, the Standard &
Poor's 500, an unmanaged index generally representative of the U.S. stock
market, bounced back into the 1100-point range, up nearly 20 percent from its
third-quarter low of 957. The blue chip Dow Jones Industrial Average enjoyed a
comparable rise. Investor confidence suddenly overtook the investor uncertainty
that had plagued the markets at summer's end. While financial volatility appears
to be continuing, the mood for investors definitely has improved.
To what can we attribute the change? Simply this -- the cumulative effect of
some good news, not the least of which was a long-awaited series of interest
rate reductions by the Federal Reserve Board. In September, the Fed reduced the
federal funds rate a modest quarter of a percentage point, however, this first
cut disappointed some investors who were expecting a more dramatic gesture. Two
weeks later, the Fed came back with an additional quarter of a percentage point
reduction. This was an unexpected cut that seemed to have a positive effect on
Wall Street. In November, a third rate cut of a quarter of a percentage point
also boosted investor confidence. Investors were further surprised by
better-than-expected corporate earnings reports early in the fourth quarter.
Finally, economic data regarding retail sales, employment and home sales
suggested continued economic growth and very little prospect of recession.
Although there was no good news to be garnered from the sensationalized
presidential scandal, as the shock of Kenneth Starr's report wore off, the
nation seemed to refocus its attention on other matters. In this sense, another
veil of despair was lifted.
In many ways, 1998's market activity provides a study in how investor
perceptions can upstage economic realities. Certainly, the tumultuous lessons of
Russia and Southeast Asia renewed investors' awareness of risk in 1998, which
was an important wake-up call. At all times, investors must understand and
consider risk. But over the course of 1998, U.S. economic fundamentals have
essentially remained strong. In fact, inflation has remained low for the entire
year. Economic growth has been solid. Our consumer confidence has remained
fairly high, although not quite as high as last year. The nation's budget
surplus for 1998 came in at $60 billion, with another budget surplus expected
for fiscal 1999.
Growth in the nation's gross domestic product (GDP), which represents the
total value of all goods and services produced within the U.S. economy, has
remained remarkably steady. GDP is expected to have grown at an annualized rate
of between 2.5 percent and 3.5 percent for the second half of 1998 and is
anticipated to hover around 2 percent for the first half of 1999. The consumer
price index (CPI) remains in a range of 1.5 percent to 2 percent.
While employment growth has slowed a bit, the slowdown in wage gains may
provide the Fed with an incentive to reduce interest rates even further. U.S.
corporate profits have generally been flat, so we may see a decrease in capital
spending. Banks appear to be only a little less willing to lend, so the threat
of a general credit crunch is minimal.
Investors may take comfort in the fact that the U.S. markets and economy have
withstood the test of 1998's tumultuous third quarter. Similarly, while certain
countries, such as Malaysia, Indonesia, Brazil and Russia, are still suffering
from economic crises, others, including the Philippines, South Korea, Thailand
and China, appear to have survived. As long as the Fed and the Group of Seven
leading industrial nations (G7) are committed to avoiding recession on national
and global levels respectively, investors have a good chance of experiencing a
more stable economic environment.
At home, there has been somewhat of a slowdown in manufacturing, as reduced
U.S. exports reflect foreign economic turmoil. But the global impact of the
Asian crisis still has not hit the U.S. as hard as was expected. Indeed, Asian
turmoil has not affected U.S. trade as much as it has lowered import prices and
helped reduce global interest rates.
3
<PAGE> 4
ECONOMIC OVERVIEW
- --------------------------------------------------------------------------------
ECONOMIC GUIDEPOSTS
- --------------------------------------------------------------------------------
Economic activity is a key influence on investment performance and shareholder
decision-making. Periods of recession or boom, inflation or deflation, credit
expansion or credit crunch have a significant impact on mutual fund performance.
The following are some significant economic guideposts and their investment
rationale that may help your investment decision-making. The 10-year treasury
rate and the prime rate are prevailing interest rates. The other data report
year-to-year percentage changes.
[BAR GRAPH]
<TABLE>
<CAPTION>
NOV 98 6 MONTHS AGO 1 YEAR AGO 2 YEARS AGO
<S> <C> <C> <C> <C>
10-YEAR TREASURY RATE(1)* 4.53 5.64 6.03 6.53
PRIME RATE(2)* 8.12 8.50 8.50 8.25
INFLATION RATE(3)* 1.49 1.50 2.08 2.99
THE U.S. DOLLAR(4) 0.83 6.86 9.65 3.46
CAPITAL GOODS ORDERS(5)* 2.51 7.47 10.64 9.19
INDUSTRIAL PRODUCTION(5)* 2.12 4.97 6.72 4.93
EMPLOYMENT GROWTH(6) 2.28 2.65 2.70 2.33
</TABLE>
(1) FALLING INTEREST RATES IN RECENT YEARS HAVE BEEN A BIG PLUS FOR FINANCIAL
ASSETS.
(2) THE INTEREST RATE THAT COMMERCIAL LENDERS CHARGE THEIR BEST BORROWERS.
(3) INFLATION REDUCES AN INVESTOR'S REAL RETURN. IN THE LAST FIVE YEARS,
INFLATION HAS BEEN AS HIGH AS 6 PERCENT. THE LOW, MODERATE INFLATION OF THE
LAST FEW YEARS HAS MEANT HIGH REAL RETURNS.
(4) CHANGES IN THE EXCHANGE VALUE OF THE DOLLAR IMPACT U.S. EXPORTERS AND THE
VALUE OF U.S. FIRMS' FOREIGN PROFITS.
(5) THESE INFLUENCE CORPORATE PROFITS AND EQUITY PERFORMANCE.
(6) AN INFLUENCE ON FAMILY INCOME AND RETAIL SALES.
* DATA AS OF OCTOBER 31, 1998.
SOURCE: ECONOMICS DEPARTMENT, SCUDDER KEMPER INVESTMENTS, INC.
In Europe, the much anticipated Economic and Monetary Union (EMU) is on the
move, with a focus on more flexibility and growth potential for the region.
European equities may be the beneficiaries of increased spending, as governments
seek to foster growth and reduce unemployment.
If you're a long-term investor in today's short-term world, go ahead and
breathe that sigh of relief as 1998 comes to an end -- but get ready for 1999.
It's going to be an interesting year as the EMU emerges, the race for the next
presidency heats up and the year 2000 approaches. And, remember: Investors don't
like uncertainty, be it economic or political. The threat of impeachment, new
acts of terrorism or any other hints of crisis could prompt a downward spike in
our markets in the short run. In the long run, the keys to investment
performance remain moderate growth, low inflation and limited taxation and
regulation.
I would like to take this opportunity to thank you for choosing to invest with
Kemper Funds. We appreciate the opportunity to serve your investment needs.
Sincerely,
/s/ John E. Silvia
JOHN E. SILVIA
MANAGING DIRECTOR
SCUDDER KEMPER INVESTMENTS, INC
THE INFORMATION CONTAINED IN THIS PIECE HAS BEEN TAKEN FROM SOURCES BELIEVED TO
BE RELIABLE, BUT THE ACCURACY OF THE INFORMATION IS NOT GUARANTEED. THE OPINIONS
AND FORECASTS EXPRESSED ARE THOSE OF DR. JOHN SILVIA AS OF DECEMBER 2, 1998, AND
MAY NOT ACTUALLY COME TO PASS. THIS INFORMATION IS SUBJECT TO CHANGE. NO PART OF
THIS MATERIAL IS INTENDED AS AN INVESTMENT RECOMMENDATION.
4
<PAGE> 5
MANAGEMENT TEAM
KEMPER DIVERSIFIED INCOME FUND
PORTFOLIO MANAGEMENT TEAM
[BEIMFORD PHOTO]
J. Patrick Beimford, Jr., joined the organization in 1976 and is a managing
director of Scudder Kemper Investments, Inc. and lead portfolio manager of
Kemper Diversified Income Fund. Beimford received a bachelor of science degree
in industrial management from Purdue University and earned an M.B.A. from the
University of Chicago.
[CESSINE PHOTO]
Robert Cessine is a managing director of Scudder Kemper Investments and
portfolio manager of Kemper Diversified Income Fund. He joined the company in
1993. Cessine received a B.S. and M.S. from the University of Wisconsin.
[McNAMARA PHOTO]
Mike McNamara has been with the organization since 1972 and is a managing
director of Scudder Kemper Investments and a portfolio manager of Kemper
Diversified Income Fund. McNamara graduated with a B.S. in business
administration from the University of Missouri and earned an M.B.A. from Loyola
University.
[RESIS PHOTO]
Harry Resis is a managing director of Scudder Kemper Investments. He joined the
company in 1988 and is a portfolio manager of Kemper Diversified Income Fund.
Resis received a B.A. in finance from Michigan State University.
[SALTZMAN PHOTO]
M. Isabel Saltzman, a managing director of Scudder Kemper Investments and
portfolio manager of the Kemper Diversified Income Fund, is also the senior
portfolio manager for the firm's Emerging Markets Bond Group. Saltzman joined
the organization in 1990. She received a bachelor's degree in political science
and economics from Tufts University and an M.I.A. degree from the School of
International Affairs, Columbia University.
The views expressed in this report reflect those of the portfolio managers only
through the end of the period of the report, as stated on the cover. The
managers' views are subject to change at any time, based on market and other
conditions.
5
<PAGE> 6
PERFORMANCE UPDATE
DURING KEMPER DIVERSIFIED INCOME FUND'S FISCAL YEAR -- NOVEMBER 1, 1997 THROUGH
OCTOBER 31, 1998 -- THE VARIOUS BOND SECTORS ENJOYED PROMISING GAINS BUT ALSO
SUSTAINED DISCOURAGING LOSSES. THE FUND'S PORTFOLIO MANAGEMENT TEAM MEMBERS
EXPLAIN HOW THEY NAVIGATED THE MARKETS DURING THE YEAR TO END ON A POSITIVE
NOTE.
Q BEFORE WE DISCUSS THE SPECIFICS OF KEMPER DIVERSIFIED INCOME FUND, WOULD
YOU PLEASE HELP US UNDERSTAND THE ECONOMIC ENVIRONMENT IN WHICH THE FUND EXISTED
DURING ITS FISCAL YEAR?
A To understand the markets for the period beginning November 1, 1997, we'll
need to start actually with October 27, 1997, right before the fund's current
reporting period began. That is the day, now referred to as 'Gray Monday' that
severe declines were registered in world markets as a result of economic crisis
in Southeast Asia. The uncertainty in the markets drove many investors to U.S.
Treasuries and mortgage securities. This was called a 'flight to quality.'
Foreign bonds became very cheap, and even high yield investors were opting for
the higher-rated of the below-investment-grade bonds.
The result of the flight to quality was a Treasury rally in December, pushing
the benchmark 30-year Treasury yield to new lows, which meant their prices were
at new highs since a bond's yield and price are inversely related.
For a period during the first part of 1998, confidence returned to the markets
and equities and emerging market investments returned to the spotlight.
Continued strong economic growth turned fears toward inflation and rising
interest rates. These fears were squashed, however, as it became clear Asia's
financial crisis was having adjunct affects on the U.S. economy. For one,
devalued currencies in other parts of the world caused imported goods to sell
for far below what domestic manufacturers could charge. Also, domestic
manufacturing slowed somewhat due to decreased demand overseas for U.S.
products, and the strike at General Motors in the spring and early summer.
Uncertainty returned to the markets when economic problems in Russia and Latin
America came to the world's attention in August. The tottering of the equity and
bond markets moved the Federal Reserve Board (the Fed) to do something twice
within one month that it had not done since 1996 -- cut interest rates, by 0.25
percent September 29 and by the same amount October 16. The second cut finally
had the effect the Fed was looking for -- appeasing markets and showing
America's commitment to supporting economies worldwide. Global financial markets
rebounded with the second cut.
Q IN A YEAR THAT SAW SIGNIFICANT HIGHS AND LOWS IN THE SECURITIES MARKETS,
HOW WOULD YOU EXPLAIN KEMPER DIVERSIFIED INCOME FUND'S OUTPERFORMANCE TO ITS
PEER GROUP?
A The fund gained 1.28 percent (Class A shares, unadjusted for any sales
charge) for the one-year period ended October 31, 1998, versus its Lipper
Analytical Services Multi-Sector Income category average of a 0.96 percent loss.
While we manage the fund with long-term investors in mind, we're pleased to see
our strategies paid off this year. For the periods ended October 31, 1998, the
fund's Class A shares rank 31 of 90 funds for the one-year period; six of 23
funds for the five-year period; one of six funds for the 10-year period and one
of two funds for the 20-year period (Lipper Multi-Sector Income Category). We
actively managed the fund to take advantage of sectors that we felt could help
us meet the fund's objective of earning high current income, but with low
volatility of principal.
Q WHAT WAS THE MOST SIGNIFICANT ADJUSTMENT YOU MADE TO THE FUND DURING THE
YEAR?
A The biggest change was adding foreign currency bonds to the portfolio. We
allocated about 29 percent of the portfolio to foreign currency bonds in July
and August, up from zero. We felt the U.S. dollar had run its course and that
the growth potential was in foreign currency.
Q HOW DID THAT WORK OUT FOR THE FUND?
A Up until October, the move worked well for us. We held a significant
position in German bonds, which proved to be a good move July through September.
We like German bonds because they should be closely correlated to the future
European Economic and Monetary Union. But in October, the dollar strengthened
following the two interest rate cuts by the Fed, and German position hurt the
fund that month.
6
<PAGE> 7
PERFORMANCE UPDATE
TERMS TO KNOW
Q WHAT OTHER ADJUSTMENTS DID YOU MAKE TO THE FUND?
A We increased and decreased our position in Treasuries as the markets
reacted to global economic news. We increased the fund's Treasury allocation, to
as high as 30 percent in April, to take advantage of strong performance. With
the bias toward quality issues throughout the year -- as a result of the flight
to quality we discussed earlier -- Treasuries played an important role during
much of the year in maintaining a high overall credit rating for the fund.
Q WERE YOU DISAPPOINTED IN ANY SECTORS OR SPECIFIC ISSUES IN THE FUND'S
PORTFOLIO?
A With the market favored higher-quality issues during much of the year, our
significant allocation to high yield bonds hurt us in a few of the months. But
that wasn't the case every month; in fact, the fund's high yield allocation was
beneficial several times during the year. The fundamentals of the high yield
market were not at fault for the downturn in the high yield market in August,
and we feel strongly that high yield bonds add significant value to this fund.
The other sector that was somewhat disappointing was emerging markets. While
our emerging market bonds performed well for part of the year, particularly the
first quarter of 1998, they were hit hard by the global economic concerns
throughout the rest of the year. We cut our allocation to as low as 4 percent in
June, but ramped it back up as we saw value return to the sector.
Q WHAT IS YOUR OUTLOOK FOR THE BOND MARKET?
A As of October 31, 1998, there is talk of another Federal Reserve cut
before the end of 1998. That would affect the bond market, as well as the stock
market. Right now, we realize investors are paying increased attention to the
relatively safer bond market, and regardless of what happens in the stock
market, I think that will continue. Overall, we remain optimistic, cautiously
so, as we wait to see how international leaders resolve their economies'
problems.
GRAY MONDAY On October 27, 1997, concerns about Asia's economic stability
triggered a one-day slide of 7 percent in the U.S. equity markets.
FLIGHT - TO - QUALITY BUYING A term describing investors who increase their
allocation to U.S. Treasuries and other high quality securities from riskier
securities in times of global economic uncertainty.
THE FEDERAL RESERVE BOARD (FRB) The governing board of the Federal Reserve
System. Its seven members are appointed by the President of the United States,
subject to Senate confirmation, and serve 14-year terms. The Board establishes
Federal Reserve System policies on such key matters as reserve requirements and
other bank regulations, sets the discount rate, tightens or loosens the
availability of credit in the economy, and regulates the purchase of securities
on margin.
7
<PAGE> 8
PERFORMANCE UPDATE
- --------------------------------------------------------------------------------
AVERAGE ANNUAL TOTAL RETURNS*
- --------------------------------------------------------------------------------
FOR PERIODS ENDED OCTOBER 31, 1998 (ADJUSTED FOR THE MAXIMUM SALES CHARGE)
<TABLE>
<CAPTION>
1-YEAR 5-YEAR 10-YEAR LIFE OF CLASS
- ----------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
KEMPER DIVERSIFIED INCOME FUND
CLASS A -3.26% 5.65% 10.10% 9.95% (since 6/23/77)
......................................................................................................
KEMPER DIVERSIFIED INCOME FUND
CLASS B -2.69 N/A N/A 6.05 (since 5/31/94)
......................................................................................................
KEMPER DIVERSIFIED INCOME FUND
CLASS C 0.28 N/A N/A 6.58 (since 5/31/94)
......................................................................................................
</TABLE>
[LINE GRAPH]
- --------------------------------------------------------------------------------
KEMPER DIVERSIFIED INCOME FUND CLASS A
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
LEHMAN BROTHERS CONSUMER
KEMPER DIVERSIFIED GOVERNMENT/CORPORATE PRICE
INCOME FUND CLASS A1 BOND INDEX' INDEX"
-------------------- -------------------- ---------------------
<S> <C> <C> <C>
6/23/77 9548.00 10000.00 10000.00
9451.00 10082.00 10115.00
9565.00 10077.00 10231.00
9434.00 10126.00 10445.00
9939.00 10096.00 10741.00
10439.00 10360.00 10956.00
10087.00 10196.00 11153.00
10626.00 10461.00 11499.00
10917.00 10871.00 11911.00
11553.00 10755.00 12290.00
11835.00 10431.00 12636.00
11599.00 9561.00 13196.00
12787.00 11288.00 13624.00
13927.00 10588.00 13839.00
14800.00 10751.00 14217.00
15404.00 10824.00 14580.00
15284.00 10826.00 14926.00
14383.00 10455.00 15354.00
15209.00 11531.00 15486.00
14694.00 11940.00 15568.00
14836.00 12270.00 15980.00
15698.00 13959.00 16129.00
17560.00 15116.00 16079.00
18812.00 15592.00 16129.00
20022.00 15845.00 16392.00
20051.00 16089.00 16590.00
20471.00 16325.00 16689.00
20409.00 16408.00 16903.00
20294.00 16129.00 17084.00
21383.00 17475.00 17298.00
12/31/84 21644.00 18777.00 17348.00
22785.00 19179.00 17529.00
23549.00 20759.00 17727.00
23191.00 21174.00 17842.00
24954.00 22776.00 18007.00
25799.00 24719.00 17924.00
25901.00 25046.00 18040.00
24843.00 25550.00 18155.00
25642.00 26334.00 18204.00
29236.00 26723.00 18468.00
30125.00 26219.00 18699.00
30396.00 25453.00 18946.00
23578.00 26938.00 19012.00
25910.00 27902.00 19193.00
27846.00 28178.00 19440.00
27003.00 28703.00 19736.00
27729.00 28980.00 19852.00
29333.00 29300.00 20148.00
30626.00 31656.00 20445.00
30715.00 31952.00 20593.00
29937.00 33106.00 20774.00
29210.00 32726.00 21203.00
31249.00 33905.00 21400.00
27019.00 34110.00 21862.00
26165.00 35848.00 22043.00
32723.00 36814.00 22241.00
34910.00 37370.00 22405.00
37849.00 39519.00 22603.00
39691.00 41628.00 22718.00
43890.00 41004.00 22949.00
44957.00 42664.00 23097.00
46217.00 44749.00 23278.00
12/31/92 46754.00 44784.00 23377.00
49863.00 46867.00 23657.00
52427.00 48274.00 23789.00
53178.00 49870.00 23904.00
56515.00 49725.00 24020.00
55351.00 48168.00 24250.00
55007.00 47569.00 24382.00
55553.00 47804.00 24613.00
54350.00 47980.00 24662.00
57643.00 50371.00 24942.00
60910.00 53639.00 25124.00
62303.00 54666.00 25239.00
65037.00 57213.00 25288.00
64627.00 55874.00 25651.00
65566.00 56137.00 25816.00
68343.00 57127.00 25997.00
70612.00 58873.00 26129.00
70158.00 58366.00 26359.00
72501.00 60489.00 26409.00
75140.00 62609.00 26557.00
76458.00 64618.00 26573.00
79136.00 65597.00 26722.00
79131.00 67313.00 26853.00
77936.00 70648.00 26952.00
10/31/98 75740.00 70149.00 26952.00
</TABLE>
[LINE GRAPH]
- --------------------------------------------------------------------------------
KEMPER DIVERSIFIED INCOME FUND CLASS B
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
LEHMAN BROTHERS CONSUMER
KEMPER DIVERSIFIED GOVERNMENT/CORPORATE PRICE
INCOME FUND CLASS B1 BOND INDEX' INDEX"
-------------------- -------------------- ---------------------
<S> <C> <C> <C>
5/31/94 10000.00 10000.00 10000.00
9964.00 9977.00 10034.00
10040.50 10026.00 10129.00
9793.99 10063.00 10149.00
10371.90 10564.00 10264.00
10934.10 11250.00 10339.00
11158.10 11465.00 10386.00
12/31/95 11611.70 11999.00 10407.00
11521.00 11718.00 10556.00
11660.90 11774.00 10624.00
12126.40 11981.00 10698.00
12/31/96 12490.80 12347.00 10753.00
12392.40 12241.00 10847.00
12776.20 12686.00 10868.00
13187.70 13131.00 10929.00
13386.60 13552.00 10936.00
13824.50 13758.00 10997.00
13790.50 14118.00 11051.00
13569.50 14817.00 11092.00
10/31/98 12963.80 14712.00 11092.00
</TABLE>
[LINE GRAPH]
- --------------------------------------------------------------------------------
KEMPER DIVERSIFIED INCOME FUND CLASS C
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
LEHMAN BROTHERS CONSUMER
KEMPER DIVERSIFIED GOVERNMENT/CORPORATE PRICE
INCOME FUND CLASS C1 BOND INDEX' INDEX"
-------------------- -------------------- ---------------------
<S> <C> <C> <C>
5/31/94 10000.00 10000.00 10000.00
9966.00 9977.00 10034.00
10042.00 10026.00 10129.00
9816.00 10063.00 10149.00
10376.00 10564.00 10264.00
10959.00 11250.00 10339.00
11188.00 11465.00 10386.00
12/31/95 11648.00 11999.00 10407.00
11558.00 11718.00 10556.00
11701.00 11774.00 10624.00
12169.00 11981.00 10698.00
12/31/96 12559.00 12347.00 10753.00
12463.00 12241.00 10847.00
12850.00 12686.00 10868.00
13265.00 13131.00 10929.00
13490.00 13552.00 10936.00
13932.00 13758.00 10997.00
13903.00 14118.00 11051.00
13667.00 14817.00 11092.00
10/31/98 13250.00 14712.00 11092.00
</TABLE>
PAST PERFORMANCE IS NOT A GUARANTEE OF FUTURE RESULTS. INVESTMENT RETURNS AND
PRINCIPAL VALUES WILL FLUCTUATE SO THAT SHARES, WHEN REDEEMED, MAY BE WORTH MORE
OR LESS THAN ORIGINAL COST.
* AVERAGE ANNUAL TOTAL RETURN AND TOTAL RETURN MEASURE NET INVESTMENT
INCOME AND CAPITAL GAIN OR LOSS FROM PORTFOLIO INVESTMENTS OVER THE PERIODS
SPECIFIED, ASSUMING REINVESTMENT OF DIVIDENDS AND, WHERE INDICATED,
ADJUSTMENT FOR THE MAXIMUM SALES CHARGE. THE MAXIMUM SALES CHARGE FOR CLASS
A SHARES IS 4.5%. FOR CLASS B SHARES, THE MAXIMUM CONTINGENT DEFERRED SALES
CHARGE IS 4%. CLASS C SHARES HAVE NO SALES CHARGE ADJUSTMENT, BUT
REDEMPTIONS WITHIN ONE YEAR OF PURCHASE MAY BE SUBJECT TO A CONTINGENT
DEFERRED SALES CHARGE OF 1%. SHARE CLASSES INVEST IN THE SAME UNDERLYING
PORTFOLIO. AVERAGE ANNUAL TOTAL RETURN REFLECTS ANNUALIZED CHANGE WHILE
TOTAL RETURN REFLECTS AGGREGATE CHANGE. DURING THE PERIODS NOTED,
SECURITIES PRICES FLUCTUATED. FOR ADDITIONAL INFORMATION, SEE THE
PROSPECTUS AND STATEMENT OF ADDITIONAL INFORMATION AND THE FINANCIAL
HIGHLIGHTS AT THE END OF THIS REPORT.
(1) PERFORMANCE INCLUDES REINVESTMENT OF DIVIDENDS AND ADJUSTMENT FOR THE
MAXIMUM SALES CHARGE FOR CLASS A SHARES AND THE CONTINGENT DEFERRED SALES
CHARGE IN EFFECT AT THE END OF THE PERIOD FOR CLASS B SHARES. IN COMPARING
THE PERFORMANCE OF KEMPER DIVERSIFIED INCOME FUND CLASS A SHARES TO THAT OF
THE LEHMAN BROTHERS GOVERNMENT/CORPORATE BOND INDEX AND THE CONSUMER PRICE
INDEX, YOU SHOULD ALSO NOTE THAT THE FUND'S PERFORMANCE REFLECTS THE
MAXIMUM SALES CHARGE, WHILE NO SUCH CHARGES ARE REFLECTED IN THE
PERFORMANCE OF THE INDICES.
THE FUND MAY INVEST IN LOWER-RATED AND NON-RATED SECURITIES WHICH PRESENT
GREATER RISK OF LOSS TO PRINCIPAL AND INTEREST THAN HIGHER-RATED
SECURITIES. THE FUND MAY ALSO INVEST A SIGNIFICANT PORTION OF ASSETS IN
FOREIGN SECURITIES WHICH PRESENT SPECIAL RISKS INCLUDING FLUCTUATING
EXCHANGE RATES, GOVERNMENT REGULATION AND DIFFERENCES IN LIQUIDITY THAT MAY
AFFECT YOUR INVESTMENT.
+ THE LEHMAN BROTHERS GOVERNMENT/CORPORATE BOND INDEX IS AN UNMANAGED INDEX
COMPRISED OF INTERMEDIATE AND LONG-TERM GOVERNMENT AND INVESTMENT GRADE
CORPORATE DEBT SECURITIES. SOURCE IS TOWERSDATA.
++ THE CONSUMER PRICE INDEX IS A STATISTICAL MEASURE OF CHANGE, OVER TIME, IN
THE PRICES OF GOODS AND SERVICES IN MAJOR EXPENDITURE GROUPS FOR ALL URBAN
CONSUMERS. SOURCE IS TOWERSDATA.
8
<PAGE> 9
PORTFOLIO STATISTICS
PORTFOLIO COMPOSITION*
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------
ON 10/31/98 ON 10/31/97
- ------------------------------------------------------------------------------------------------------
<S> <C> <C>
HIGH YIELD CORPORATES 50% 42%
- ------------------------------------------------------------------------------------------------------
EMERGING MARKETS 4 5
- ------------------------------------------------------------------------------------------------------
FOREIGN CURRENCY BONDS 30 5
- ------------------------------------------------------------------------------------------------------
HIGH GRADE CORPORATES -- 7
- ------------------------------------------------------------------------------------------------------
MORTGAGES -- 7
- ------------------------------------------------------------------------------------------------------
TREASURY NOTES & BONDS -- 29
- ------------------------------------------------------------------------------------------------------
CASH EQUIVALENTS 16 5
- ------------------------------------------------------------------------------------------------------
100% 100%
</TABLE>
[PIE CHART]
YEARS TO MATURITY
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
ON 10/31/98 ON 10/31/97
- --------------------------------------------------------------------------------
<S> <C> <C>
1-10 YEARS 71% 51%
- --------------------------------------------------------------------------------
11-21 YEARS 5 28
- --------------------------------------------------------------------------------
21+ YEARS 8 16
- --------------------------------------------------------------------------------
CASH AND EQUIVALENTS 16 5
- --------------------------------------------------------------------------------
100% 100%
</TABLE>
[PIE CHART]
AVERAGE MATURITY
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
ON 10/31/98 ON 10/31/97
- --------------------------------------------------------------------------------
<S> <C> <C>
AVERAGE MATURITY 8.7 years 10.9 years
- --------------------------------------------------------------------------------
</TABLE>
*PORTFOLIO COMPOSITION AND HOLDINGS ARE SUBJECT TO CHANGE.
9
<PAGE> 10
PORTFOLIO OF INVESTMENTS
KEMPER DIVERSIFIED INCOME FUND
PORTFOLIO OF INVESTMENTS AT OCTOBER 31, 1998
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------
PRINCIPAL
FOREIGN GOVERNMENT OBLIGATIONS--33.3% AMOUNT VALUE
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
(principal amount (a)Federal Republic of Brazil,
in U.S. dollars) 10.80%, 2008 $ 15,000 $ 10,350
Republic of Bulgaria,
6.562%, 2011 22,500 14,920
German Bundesrepublic
3.637%, 2007 286,000 193,866
3.401%, 2028 91,500 58,551
Kingdom of Morocco,
6.562%, 2009 7,500 5,621
-------------------------------------------------------------------------------
TOTAL FOREIGN GOVERNMENT OBLIGATIONS
(Cost: $285,928) 283,308
-------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------------------
CORPORATE OBLIGATIONS--49.6%
AEROSPACE--.4% BE Aerospace, Inc., 9.50%, 2008 640 654
DeCrane Aircraft Holdings, Inc., 12.00%, 2008 2,410 2,338
-------------------------------------------------------------------------------
2,992
- -------------------------------------------------------------------------------------------------------------------------
BROADCASTING, Affinity Group, Inc., 11.50%, 2003 1,480 1,524
CABLESYSTEMS AND American Banknote Corp., 11.25%, with warrants,
PUBLISHING--5.9% 2007
(b)American Lawyer Media, Inc., 12.25%, 2008
CSC Holdings, Inc. 1,300 975
8.125%, 2009 230 138
10.50%, 2016
9.875%, 2023 1,370 1,411
Capstar Broadcasting Corp. 1,200 1,371
9.25%, 2007 1,000 1,093
(b) 12.75%, 2009
Chancellor Media Corp., 9.00%, 2008 1,150 1,139
(b)Charter Communications, Inc., 14.00%, 2007 3,330 2,531
Charter Communications, L.P., 11.25%, 2006 440 444
(b)Comcast UK Cable Partners Ltd., 11.20%, 2007 2,555 2,197
(b)DIVA Systems Corp., 12.625%, 2008 490 529
(b)Diamond Cable Communications, PLC, 13.25%, 4,200 3,213
2004 1,860 558
Falcon Holding Group, L.P.
8.375%, 2010 2,025 1,883
(b) 9.285%, 2010
Frontiervision 3,020 3,005
11.00%, 2006 1,740 1,166
(b) 11.875%, 2007
Interep National Radio Sales, Inc., 10.00%, 1,200 1,326
2008 2,560 2,061
Intermedia Capital Partners, 11.25%, 2006
(b)International Cabletel, Inc., 12.75%, 2005 840 823
Mediacom, LLC, 8.50%, 2008 1,360 1,482
NTL, Inc. 1,270 1,105
11.50%, 2008 3,080 3,049
(b) 12.375%, 2008
Newsquest Capital, PLC, 11.00%, 2006 2,475 2,562
(b)PX Escrow Corp., 9.625%, 2006 1,040 585
Price Communications, Inc., 9.125%, 2006 114 127
(b)Radio Unica Corp., 11.75%, 2006 1,615 872
Salem Communications, Corp., 9.50%, 2007 790 790
Sinclair Broadcasting Group, Inc., 8.75%, 2007 1,180 590
Star Choice, 13.00%, with warrants, 2005 980 1,000
830 778
875 827
</TABLE>
10
<PAGE> 11
PORTFOLIO OF INVESTMENTS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------
PRINCIPAL
AMOUNT VALUE
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
TeleWest Communications, PLC
(b) 11.00%, 2007 $ 2,395 $ 1,892
11.25%, 2008 1,250 1,312
(b)Transwestern Holdings, L.P., 11.875%, 2008 3,100 1,922
Transwestern Publishing, 9.625%, 2007 1,340 1,347
(b)21st Century Telecom Group, Inc., 12.25%,
with warrants, 2008 4,100 1,688
(b)United International Holdings, Inc., 10.75%,
2008 2,700 1,269
-------------------------------------------------------------------------------
50,584
- -------------------------------------------------------------------------------------------------------------------------
BUSINESS SERVICES--1.2% Allied Waste North America, Inc.
10.25%, 2006 600 657
(b) 11.30%, 2007 2,350 1,768
CEX Holdings, Inc., 9.625%, 2008 730 701
Corporate Express, Inc., 4.50%, 2000 1,500 1,328
DIMAC Corp., 12.50%, 2008 3,080 2,995
Intertek Finance, 10.25%, 2006 650 598
Outdoor Systems, Inc., 9.375%, 2006 2,410 2,567
-------------------------------------------------------------------------------
10,614
- -------------------------------------------------------------------------------------------------------------------------
CHEMICALS AND Agriculture, Mining and Chemicals, Inc.,
AGRICULTURE--1.2% 10.75%, 2003 950 950
Atlantis Group, Inc., 11.00%, 2003 1,328 1,328
Hines Horticulture, Inc., 11.75%, 2005 1,748 1,783
Huntsman Polymers Corp., 11.75%, 2004 1,900 2,000
Terra Industries, Inc., 10.50%, 2005 680 680
Texas Petrochemicals Corp., 11.125%, 2006 2,370 2,157
UCC Investors Holdings, Inc., 10.50%, 2002 1,460 1,642
-------------------------------------------------------------------------------
10,540
- -------------------------------------------------------------------------------------------------------------------------
COMMUNICATIONS--10.4% Allegiance Telecom, Inc.
(b) 11.75%, 2008 1,090 474
12.875%, 2008 1,470 1,382
American Cellular Corp., 10.50%, 2008 2,930 2,769
Birch Telecom, Inc., 14.00%, 2008 640 544
(b)Call-Net Enterprises, Inc.
13.25%, 2004 370 355
9.27%, 2007 1,080 686
8.94%, 2008 1,080 610
Comcast Cellular Holdings, Inc., 9.50%, 2007 110 113
(b)Communications Cellular, 13.125%, 2003 160 98
(b)Crown Castle International Corp., 10.625%,
2007 3,850 2,195
Dobson Communications Corp., 11.75%, 2007 2,000 1,940
Econophone, Inc.
13.50%, with warrants, 2007 1,340 1,403
(b) 11.00%, 2008 530 265
Esprit Telecom
11.50%, 2007 2,195 1,932
10.875%, 2008 800 680
(b)Focal Communications Corp., 12.125%, 2008 4,820 2,386
(b)ICG Holdings, 13.50%, 2005 5,085 3,915
(b)IPC Information Systems, 10.875%, 2008 1,900 1,121
Impsat, S.A., 12.375%, 2008 2,285 1,645
(b)Intermedia Communications, 12.25%, 2006 1,490 1,125
Intermedia Communications of Florida, Inc.
8.875%, with warrants, 2007 770 797
(b) 11.25%, 2007 2,080 1,373
(b)KMC Telecom Holdings, Inc., 12.50%, with
warrants, 2008 2,100 993
</TABLE>
11
<PAGE> 12
]PORTFOLIO OF INVESTMENTS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------
PRINCIPAL
AMOUNT VALUE
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Level 3 Communications, 9.125%, 2008 $ 3,490 $ 3,289
Long Distance International, 12.25%, 2008 1,300 1,092
MGC Communication,
13.00%, with warrants, 2004 1,500 1,041
McLeod, Inc.
9.25%, 2007 550 556
(b) 10.50%, 2007 3,300 2,343
9.50%, 2008 370 377
Metronet Communications
(b) 10.75%, 2007 700 420
12.00%, 2007 560 588
(b) 9.95%, with warrants, 2008 2,505 1,382
(b)Millicom International Cellular, S.A.,
13.50%, 2006 1,890 1,125
Netia Holdings
10.25%, 2007 300 234
(b) 11.25%, 2007 875 429
(b)Nextel Communications
9.75%, 2004 2,420 2,257
9.75%, 2007 955 525
10.65%, 2007 1,825 1,059
9.95%, 2008 1,600 864
Nextlink Communications
12.50%, 2006 2,545 2,698
9.00%, 2008 270 244
(b) 9.45%, 2008 930 488
(b)PTC International Finance, B.V., 10.75%,
2007 8,390 4,740
(b)Pinnacle Holdings, 10.00%, 2008 4,800 2,064
Primus Telecommunications Group, 11.75%, with
warrants, 2004 2,160 1,983
PSINet, Inc.
10.00%, 2005 880 862
11.50%, 2008 910 937
RCN Corp.
10.00%, 2007 3,680 3,257
(b) 11.00%, 2008 880 422
Rogers Cantel
9.375%, 2008 2 ,550 2,563
9.75%, 2016 460 469
(b)SBA Communication, 12.00%, 2008 3,000 1,320
Satelites Mexicanos, S.A. de C.V., 10.125%,
2004 860 585
(b)Spectrasite Holdings, Inc., 12.00%, 2008 1,760 686
Teligent, Inc.
11.50%, 2007 5,000 4,150
(b) 11.50%, 2008 1,100 459
(b)Triton Communications, 11.00%, 2008 8,050 3,139
USA Mobile Communications, Inc. II, 14.00%,
2004 2,510 2,384
US Xchange, LLC., 15.00%, 2008 1,090 1,090
Versatel Telecom, 13.25%, with warrants, 2008 930 855
Viatel, Inc.
11.25%, 2008 2,980 2,742
(b) 12.50%, 2008 1,740 887
Winstar Communications, 15.00%, 2007 740 666
Winstar Equipment, 12.50%, 2004 230 216
Winstar Equipment II Corp., 12.50%, 2004 2,400 2,256
-------------------------------------------------------------------------------
88,544
</TABLE>
12
<PAGE> 13
PORTFOLIO OF INVESTMENTS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------
PRINCIPAL
AMOUNT VALUE
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
CONSTRUCTION (b)Building Materials Corporation of America,
MATERIALS--2.2% 11.75%, 2004 $ 1,450 $ 1,450
Congoleum Corp., 8.625%, 2008 3,160 3,042
Desa International, 9.875%, 2007 1,900 1,487
Falcon Building Products, Inc., 9.50%, 2007 2,600 2,080
Imperial Home Decor Group, Inc., 11.00%, 2008 1,400 1,232
Kevco, 10.375%, 2007 2,180 1,842
MMI Products, Inc., 11.25%, 2007 2,250 2,340
Nortek, Inc.
9.125%, 2007 2,390 2,348
8.875%, 2008 420 408
(b)Waxman Industries, Inc.,
12.75%, with warrants, 2004 370 285
Werner Holdings, 10.00%, 2007 2,850 2,508
-------------------------------------------------------------------------------
19,022
- -------------------------------------------------------------------------------------------------------------------------
CONSUMER PRODUCTS AMF Bowling World
AND SERVICES--5.1%
10.875%, 2006 2,160 1,642
(b) 12.25%, 2006 405 194
Cinemark USA, Inc., 9.625%, 2008 3,030 3,091
Clearview Cinema Group, Inc., 10.875%, 2008 2,965 3,098
Coinmach Corp., 11.75%, 2005 4,170 4,316
Doskocil Manufacturing Co., 10.125%, 2007 1,150 1,047
Galey & Lord, 9.125%, 2008 3,500 3,115
Hedstrom Corp., 10.00%, 2007 2,860 2,660
Herff Jones, Inc., 11.00%, 2005 1,050 1,124
Jafra Cosmetics International, Inc., 11.75%,
2008 1,275 1,084
Kinder-Care Learning Centers, 9.50%, 2009 1,720 1,660
La Petite Academy, Inc., 10.00%, 2008 2,900 2,820
Nine West Group, 9.00%, 2007 2,652 2,254
Premier Parks, Inc., 12.00%, 2003 660 706
Riddell Sports, Inc., 10.50%, 2007 3,190 2,871
SFX Entertainment, Inc., 9.125%, 2008 1,985 1,836
Sealy Mattress,
9.875%, 2007 180 164
(b) 10.875%, 2007 1,465 820
Six Flags Theme Park, 12.25%, 2005 2,980 3,248
(b)Spin Cycle, 12.75%, 2005 4,010 2,005
United Artists Theatre Co., 9.75%, 2008 4,210 3,831
-------------------------------------------------------------------------------
43,586
- -----------------------------------------------------------------------------------------------------------------------------
DRUGS AND HEALTH Abbey Healthcare Group, Inc., 9.50%, 2002 2,430 2,187
CARE--2.0% (b)ALARIS Medical Systems, Inc., 11.25%, 2008 4,910 2,234
Cole National Group, 9.875%, 2006 860 890
Dade International, Inc., 11.125%, 2006 1,000 1,070
Magellan Health Services, 9.00%, 2008 2,880 2,434
(b)Mariner Post-Acute Network, Inc., 10.50%, 2007 5,020 2,410
Mediq, Inc., 11.00%, 2008 3,000 2,670
Paracelsus Healthcare, 10.00%, 2006 2,210 1,945
Vencor, 9.875%, 2005 1,620 1,280
-------------------------------------------------------------------------------
17,120
</TABLE>
13
<PAGE> 14
PORTFOLIO OF INVESTMENTS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------
PRINCIPAL
AMOUNT VALUE
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
ENERGY AND RELATED Bellweather Exploration Co., 10.875%, 2007 $ 2,150 $ 2,053
SERVICES--2.3% Benton Oil & Gas Co.
11.625%, 2003 2,510 1,983
9.375%, 2007 600 390
Chesapeake Energy Corp.
9.625%, 2005 2,000 1,680
9.125%, 2006 100 83
Continental Resources, Inc., 10.25%, 2008 1,310 1,035
Dailey International, 9.50%, 2008 200 90
Denbury Management, 9.00%, 2008 160 134
Forcenergy Gas Exploration, 8.50%, 2007 3,510 2,580
GulfMark Offshore, Inc., 8.75%, 2008 770 712
Mariner Energy, 10.50%, 2006 3,310 3,012
Michael Petroleum Corp., 11.50%, 2005 120 91
Ocean Energy, 10.375%, 2005 760 794
Pacalta Resources, Ltd., 10.75%, 2004 2,000 1,700
Parker Drilling Corp., 9.75%, 2006 820 746
Pen Holdings, Inc., 9.875%, 2008 1,205 1,085
RAM Energy, 11.50%, 2008 600 420
Rutherford-Moran Oil Corp., 10.75%, 2004 740 592
Seven Seas Petroleum, Inc., 12.50%, 2005 640 522
-------------------------------------------------------------------------------
19,702
- -------------------------------------------------------------------------------------------------------------------------
FINANCIAL SERVICES, Beazer Homes, 8.875%, 2008 495 450
HOME BUILDERS Del Webb Corp., 9.375%, 2009 3,640 3,422
AND REAL ESTATE--1.0% Forecast Group, L.P., 11.375%, 2000 1,125 1,069
Fortress Group, 13.75%, 2003 2,560 2,611
Hovnanian Enterprises
11.25%, 2002 374 376
9.75%, 2005 230 210
-------------------------------------------------------------------------------
8,138
- -------------------------------------------------------------------------------------------------------------------------
FOOD AND TOBACCO--1.8% AFC Enterprises, Inc., 10.25%, 2007 3,120 3,151
Advantica Restaurant Co., 11.25%, 2008 2,985 2,791
Ameriking, 10.75%, 2006 2,099 2,151
Grupo Azucarero Mexico, S.A. de C.V., 11.50%,
2005 710 192
Krystal Co., 10.25%, 2007 2,620 2,568
NE Restaurant Co., Inc., 10.75%, 2008 2,990 2,841
Perkins Finance, L.P., 10.125%, 2007 700 714
(b)Restaurant Co., 11.25%, 2008 1,420 689
-------------------------------------------------------------------------------
15,097
- -------------------------------------------------------------------------------------------------------------------------
HOTELS AND GAMING--1.2% Eldorado Resorts, 10.50%, 2006 1,120 1,165
Empress River Casino, 10.75%, 2002 810 869
HMH Properties, 7.875%, 2008 1,620 1,563
Harvey's Casino Resorts, 10.625%, 2006 2,630 2,768
Players International, 10.875%, 2005 1,585 1,672
Station Casinos, Inc.
10.125%, 2006 650 650
9.75%, 2007 940 916
Trump Atlantic City, 11.25%, 2006 370 311
-------------------------------------------------------------------------------
9,914
</TABLE>
14
<PAGE> 15
PORTFOLIO OF INVESTMENTS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------
PRINCIPAL
AMOUNT VALUE
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
MANUFACTURING, METALS Accuride Corp., 9.25%, 2008 $ 1,240 $ 1,116
AND MINING--5.6% Aftermarket Technology, 12.00%, 2004 845 862
Alvey Systems, 11.375%, 2003 1,555 1,664
Axiohm Transaction Solutions, Inc., 9.75%, 2007 1,060 954
Bar Technologies, 13.50%, 2001 2,030 2,172
Day International Group, Inc., 11.125%, 2005 2,660 2,713
Eagle-Picher Holdings, Inc., 9.375%, 2008 2,320 2,071
Earle M. Jorgensen Co., 9.50%, 2005 1,860 1,646
Euramax International, PLC, 11.25%, 2006 4,165 3,832
Foamex, L.P.
13.50%, with warrants, 2005 890 1,065
9.875%, 2007 640 685
GS Technologies
12.00%, 2004 330 243
12.25%, 2005 650 465
(b)Grove Holdings LLC, 11.625% 2009 340 136
Grove Investors, PIK, 14.50%, 2010 674 584
Grove Worldwide LLC, 9.25%, 2008 320 282
JPS Automotive Products Corp., 11.125%, 2001 1,530 1,607
Jackson Products, Inc., 9.50%, 2005 830 793
Knoll, Inc., 10.875%, 2006 1,638 1,810
Metal Management, Inc., 10.00%, 2008 1,000 610
Motors and Gears, Inc., 10.75%, 2006 1,620 1,604
Neenah Corp., 11.125%, 2007 2,790 2,853
Park-Ohio Industries, 9.25%, 2007 350 338
Prestolite Electric, Inc., 9.625%, 2008 975 877
Renco Steel Holdings, 10.875%, 2005 1,260 1,071
Scovill Fasteners, 11.25%, 2007 2,200 1,947
Spinnaker Industries, Inc., 10.75%, 2006 5,110 3,986
Terex Corp., 8.875%, 2008 2,430 2,211
Venture Holdings, 9.50%, 2005 1,190 1,101
Weirton Steel Corp., 11.375%, 2004 300 267
Wells Aluminum Corp., 10.125%, 2005 2,970 2,762
Wheeling-Pittsburgh Corp., 9.25%, 2007 3,670 3,303
-------------------------------------------------------------------------------
47,630
- -------------------------------------------------------------------------------------------------------------------------
PAPER, FOREST AEP Industries, Inc., 9.875%, 2007 650 608
PRODUCTS AND BPC Holding Corp., 12.50%, 2006 2,810 2,810
CONTAINERS--3.0% Berry Plastics Corp., 12.25%, 2004 505 510
Doman Industries, Ltd.
8.75%, 2004 570 405
9.25%, 2007 1,510 989
Fonda Group, 9.50%, 2007 2,000 1,640
Gaylord Container Corp.
9.75%, 2007 520 390
9.875%, 2008 4,210 2,063
Graham Packaging Co.
8.75%, 2008 60 59
(b) 10.75%, 2009 610 378
IMPAC Group, Inc., 10.125%, 2008 3,140 3,030
Millar Western Forest Products, Ltd., 9.875%,
2008 1,400 924
Norampac, 9.50%, 2008 1,830 1,711
</TABLE>
15
<PAGE> 16
PORTFOLIO OF INVESTMENTS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------
PRINCIPAL
AMOUNT VALUE
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Pindo Deli Finance Mauritius, Ltd., 10.75%,
2007 $ 70 $ 32
Plainwell, Inc., 11.00%, 2008 2,200 1,672
Printpack, Inc.
9.875%, 2004 170 170
10.625%, 2006 1,700 1,700
Repap Enterprises, Inc., 10.625%, 2005 260 172
Riverwood International
10.25%, 2006 910 846
10.625%, 2007 1,035 973
10.875%, 2008 2,435 1,918
(b)SF Holdings Group, Inc., 12.75%, 2008 1,000 350
Stone Container Corp.
12.25%, 2002 190 173
11.50%, 2006 950 879
U.S. Can Corp., 10.125%, 2006 1,030 1,030
-------------------------------------------------------------------------------
25,432
- -------------------------------------------------------------------------------------------------------------------------
RETAILING--1.3% Finlay Enterprises, Inc., 9.00%, 2008 2,000 1,540
Finlay Fine Jewelry Corp., 8.375%, 2008 110 91
Guitar Center Management, 11.00%, 2006 307 316
Iron Age Holdings, Corp.
9.875%, 2008 630 529
(b) 12.125%, 2009 570 242
(b)J. Crew Group, Inc., 13.125%, 2008 4,820 1,735
J. Crew Operating Corp., 10.375%, 2007 1,040 790
MTS Systems Corp., 9.375%, 2005 1,000 908
National Vision Associates, 12.75%, 2005 2,970 3,000
Pamida Holdings, 11.75%, 2003 310 298
Phillips-Van Heusen Corp., 9.50%, 2008 990 970
Specialty Retailers, 9.00%, 2007 460 414
-------------------------------------------------------------------------------
10,833
- -------------------------------------------------------------------------------------------------------------------------
TECHNOLOGY---.4% Communication and Power Industry, Inc., 12.00%,
2005 550 579
Viasystems, Inc., 9.75%, 2007 2,700 2,403
-------------------------------------------------------------------------------
2,982
- -------------------------------------------------------------------------------------------------------------------------
TRANSPORTATION--1.3% Airxcel, 11.00%, 2007 3,430 3,121
Canadian Airlines Corp., 10.00%, 2005 1,000 800
Petro Stopping Centers, 10.50%, 2007 2,200 2,156
TFM, S.A. de C.V., 10.25%, 2007 1,700 1,394
Trans World Airlines, Inc., 11.375%, 2006 960 734
(b)Transtar Holdings, L.P., 13.375%, 2003 670 596
TravelCenters America, Inc., 10.25%, 2007 2,040 1,999
-------------------------------------------------------------------------------
10,800
- -------------------------------------------------------------------------------------------------------------------------
OTHER--3.3% Riverside Group
7.00%, 2008 12,490 12,490
7.437%, 2008 17,510 15,441
-------------------------------------------------------------------------------
27,931
-------------------------------------------------------------------------------
TOTAL CORPORATE OBLIGATIONS
(Cost: $461,085) 421,461
-------------------------------------------------------------------------------
</TABLE>
16
<PAGE> 17
PORTFOLIO OF INVESTMENTS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------
NUMBER OF SHARES
OR PRINCIPAL AMOUNT VALUE
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
COMMON AND
PREFERRED STOCK--.7%
(c)Capital Pacific Holdings 4,345shs. $ 4
Clark USA, Inc., PIK, preferred 3,701 310
Crown American Realty Trust, preferred 24,970 1,247
Dobson Communication, PIK, preferred 864 778
(c)Eagle-Picher Holdings, Inc., preferred 180 864
(c)Empire Gas Corp., warrants 2,208 1
(c)Intelcom Group, Inc. 4,026 49
Nextel, PIK, preferred 667 603
SF Holdings Group, Inc., PIK, preferred 30 202
(c)SF Holdings Group, Inc. 3,110 6
Sinclair Capital, preferred 13,500 1,333
21st Century Telecom Group, Inc., preferred 228 170
Viatel, Inc., PIK, preferred 1,337 67
-------------------------------------------------------------------------------
TOTAL COMMON AND PREFERRED STOCK--.7%
(Cost: $6,054) 5,634
-------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------------------
MONEY MARKET Yield--5.29% to 6.20%
INSTRUMENTS--2.8% Due--November 1998
(Cost: $24,243) $ 24,300 24,243
-------------------------------------------------------------------------------
TOTAL INVESTMENTS--86.4%
(Cost: $777,310) 734,646
-------------------------------------------------------------------------------
CASH AND OTHER ASSETS, LESS LIABILITIES--13.6% 115,882
-------------------------------------------------------------------------------
NET ASSETS--100% $850,528
-------------------------------------------------------------------------------
</TABLE>
- --------------------------------------------------------------------------------
NOTES TO PORTFOLIO OF INVESTMENTS
- --------------------------------------------------------------------------------
(a) Variable rate security. Rate shown is the effective rate on October 31, 1998
and date shown represents the final maturity of the obligation.
(b) Deferred interest obligation; currently zero coupon under the terms of the
initial offering.
(c) Non-income producing security.
PIK denotes that interest or dividend is paid in kind.
Based on the cost of investments of $777,310,000 for federal income tax purposes
at October 31, 1998, the gross unrealized appreciation was $7,500,000, the gross
unrealized depreciation was $50,164,000 and the net unrealized depreciation on
investments was $42,664,000.
See accompanying Notes to Financial Statements.
17
<PAGE> 18
REPORT OF INDEPENDENT AUDITORS
THE BOARD OF TRUSTEES AND SHAREHOLDERS
KEMPER DIVERSIFIED INCOME FUND
We have audited the accompanying statement of assets and liabilities,
including the portfolio of investments, of Kemper Diversified Income Fund as of
October 31, 1998, the related statements of operations for the year then ended
and changes in net assets for each of the two years in the period then ended,
and the financial highlights for each of the fiscal periods since 1994. These
financial statements and financial highlights are the responsibility of the
Fund's management. Our responsibility is to express an opinion on these
financial statements and financial highlights based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of investments owned as of
October 31, 1998, by correspondence with the custodian. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of Kemper
Diversified Income Fund at October 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 the financial highlights for each of the fiscal
periods since 1994, in conformity with generally accepted accounting principles.
ERNST & YOUNG LLP
Chicago, Illinois
December 16, 1998
18
<PAGE> 19
FINANCIAL STATEMENTS
STATEMENT OF ASSETS AND LIABILITIES
OCTOBER 31, 1998
(IN THOUSANDS)
<TABLE>
<S> <C>
- --------------------------------------------------------------------------
ASSETS
- --------------------------------------------------------------------------
Investments, at value
(Cost: $777,310) $ 734,646
- --------------------------------------------------------------------------
Cash 54,455
- --------------------------------------------------------------------------
Receivable for:
Investments sold 225,908
- --------------------------------------------------------------------------
Interest 19,303
- --------------------------------------------------------------------------
Fund shares sold 1,927
- --------------------------------------------------------------------------
Due from Adviser 105
- --------------------------------------------------------------------------
TOTAL ASSETS 1,036,344
- --------------------------------------------------------------------------
- --------------------------------------------------------------------------
LIABILITIES AND NET ASSETS
- --------------------------------------------------------------------------
Payable for:
Investments purchased 183,923
- --------------------------------------------------------------------------
Fund shares redeemed 729
- --------------------------------------------------------------------------
Management fee 398
- --------------------------------------------------------------------------
Distribution services fee 187
- --------------------------------------------------------------------------
Administrative services fee 169
- --------------------------------------------------------------------------
Custodian and transfer agent fees and related expenses 323
- --------------------------------------------------------------------------
Trustees' fees 87
- --------------------------------------------------------------------------
Total liabilities 185,816
- --------------------------------------------------------------------------
NET ASSETS $ 850,528
- --------------------------------------------------------------------------
- --------------------------------------------------------------------------
ANALYSIS OF NET ASSETS
- --------------------------------------------------------------------------
Paid-in capital $ 946,503
- --------------------------------------------------------------------------
Accumulated net realized loss on investments and foreign
currency transactions (55,105)
- --------------------------------------------------------------------------
Net unrealized depreciation on investments (42,664)
- --------------------------------------------------------------------------
Undistributed net investment income 1,794
- --------------------------------------------------------------------------
NET ASSETS APPLICABLE TO SHARES OUTSTANDING $ 850,528
- --------------------------------------------------------------------------
- --------------------------------------------------------------------------
THE PRICING OF SHARES
- --------------------------------------------------------------------------
CLASS A SHARES
Net asset value and redemption price per share
($549,857 / 98,183 shares outstanding) $5.60
- --------------------------------------------------------------------------
Maximum offering price per share
(net asset value, plus 4.71% of
net asset value or 4.50% of offering price) $5.86
- --------------------------------------------------------------------------
CLASS B SHARES
Net asset value and redemption price
(subject to contingent deferred sales charge) per share
($271,162 / 48,490 shares outstanding) $5.59
- --------------------------------------------------------------------------
CLASS C SHARES
Net asset value and redemption price
(subject to contingent deferred sales charge) per share
($29,509 / 5,246 shares outstanding) $5.62
- --------------------------------------------------------------------------
</TABLE>
See accompanying Notes to Financial Statements.
19
<PAGE> 20
FINANCIAL STATEMENTS
STATEMENT OF OPERATIONS
YEAR ENDED OCTOBER 31, 1998
(IN THOUSANDS)
<TABLE>
<S> <C>
- -----------------------------------------------------------------------
NET INVESTMENT INCOME
- -----------------------------------------------------------------------
Interest income $75,001
- -----------------------------------------------------------------------
Expenses:
Management fee 4,986
- -----------------------------------------------------------------------
Distribution services fee 2,383
- -----------------------------------------------------------------------
Administrative services fee 2,021
- -----------------------------------------------------------------------
Custodian and transfer agent fees and related expenses 2,592
- -----------------------------------------------------------------------
Professional fees 55
- -----------------------------------------------------------------------
Reports to shareholders 227
- -----------------------------------------------------------------------
Trustees' fees and other 51
- -----------------------------------------------------------------------
Total expenses 12,315
- -----------------------------------------------------------------------
NET INVESTMENT INCOME 62,686
- -----------------------------------------------------------------------
- -----------------------------------------------------------------------
NET REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS
- -----------------------------------------------------------------------
Net realized gain on sales of investments and foreign
currency transactions 10,853
- -----------------------------------------------------------------------
Net realized loss from futures transactions (10,207)
- -----------------------------------------------------------------------
Net realized gain 646
- -----------------------------------------------------------------------
Change in net unrealized depreciation on investments and
assets and liabilities in foreign currencies (55,916)
- -----------------------------------------------------------------------
Net loss on investments (55,270)
- -----------------------------------------------------------------------
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS $ 7,416
- -----------------------------------------------------------------------
</TABLE>
STATEMENT OF CHANGES IN NET ASSETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31,
1998 1997
- --------------------------------------------------------------------------------------------
OPERATIONS, DIVIDENDS AND CAPITAL SHARE ACTIVITY
- --------------------------------------------------------------------------------------------
<S> <C> <C>
Net investment income $ 62,686 61,302
- --------------------------------------------------------------------------------------------
Net realized gain 646 7,102
- --------------------------------------------------------------------------------------------
Change in net unrealized depreciation (55,916) (5,336)
- --------------------------------------------------------------------------------------------
Net increase in net assets resulting from operations 7,416 63,068
- --------------------------------------------------------------------------------------------
Dividends to shareholders from net investment income (63,792) (66,506)
- --------------------------------------------------------------------------------------------
Net increase from capital share transactions 45,361 86,229
- --------------------------------------------------------------------------------------------
TOTAL INCREASE (DECREASE) IN NET ASSETS (11,015) 82,791
- --------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------
NET ASSETS
- --------------------------------------------------------------------------------------------
Beginning of year 861,543 778,752
- --------------------------------------------------------------------------------------------
END OF YEAR
(including undistributed net investment income of
$1,794 and $2,812, respectively) $850,528 861,543
- --------------------------------------------------------------------------------------------
</TABLE>
20
<PAGE> 21
NOTES TO FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
1 DESCRIPTION OF THE
FUND Kemper Diversified Income Fund is an open-end
management investment company organized as a
business trust under the laws of Massachusetts. The
fund offers three classes of shares. Class A shares
are sold to investors subject to an initial sales
charge. Class B shares are sold without an initial
sales charge but are subject to higher ongoing
expenses than Class A shares and a contingent
deferred sales charge payable upon certain
redemptions. Class B shares automatically convert
to Class A shares six years after issuance. Class C
shares are sold without an initial sales charge but
are subject to higher ongoing expenses than Class A
shares and a contingent deferred sales charge
payable upon certain redemptions within one year of
purchase. Class C shares do not convert into
another class. Class I shares are no longer
offered. Differences in class expenses will result
in the payment of different per share income
dividends by class. All shares of the fund have
equal rights with respect to voting, dividends and
assets, subject to class specific preferences.
- --------------------------------------------------------------------------------
2 SIGNIFICANT
ACCOUNTING POLICIES SECURITY VALUATION. Investments are stated at
value. Portfolio debt securities are valued by
pricing agents approved by the officers of the
fund, which quotations reflect broker/dealer
supplied valuations and electronic data processing
techniques. If the pricing agents are unable to
provide such quotations, the most recent bid
quotation supplied by a bona fide market maker
shall be used. Financial futures are valued at the
most recent settlement price. Forward foreign
currency contracts are valued at the prevailing
forward exchange rate of the underlying currencies
on that day. All other securities are valued at
their fair market value as determined in good faith
by the Valuation Committee of the Board of
Trustees.
FOREIGN CURRENCY TRANSLATIONS. The books and
records of the fund are maintained in U.S. dollars.
All assets and liabilities initially expressed in
foreign currency values are converted into U.S.
dollar values at the mean between the bid and
offered quotations of such currencies against U.S.
dollars as last quoted by a recognized dealer. If
such quotations are not readily available, the rate
of exchange is determined in good faith by the
Board of Trustees. Income and expenses and
purchases and sales of investments are translated
into U.S. dollars at the rates of exchange
prevailing on the respective dates of such
transactions. The fund includes that portion of the
results of operations resulting from changes in
foreign exchange rates with net realized and
unrealized gain (loss) on investments, as
appropriate.
INVESTMENT TRANSACTIONS AND INVESTMENT INCOME.
Investment transactions are accounted for on the
trade date (date the order to buy or sell is
executed). Dividend income is recorded on the
ex-dividend date and interest income is recorded on
the accrual basis and includes discount
amortization on fixed income securities. Realized
gains and losses from investment transactions are
reported on an identified cost basis.
FUND SHARE VALUATION. Fund shares are sold and
redeemed on a continuous basis at net asset value
(plus an initial sales charge on most sales of
Class A shares). Proceeds payable on redemption of
Class B and Class C shares will be reduced by the
amount of any applicable contingent deferred sales
charge. On each day the New York Stock Exchange is
open for trading, the net asset value per share is
determined as of the close of the Exchange. The net
asset value per share is
21
<PAGE> 22
NOTES TO FINANCIAL STATEMENTS
determined separately for each class by dividing
the fund's net assets attributable to that class by
the number of shares of the class outstanding.
FEDERAL INCOME TAXES. The fund's policy is to
comply with the requirements of the Internal
Revenue Code, as amended, which are applicable to
regulated investment companies, and to distribute
all of its taxable income to its shareholders.
Accordingly, the fund paid no federal income taxes
and no federal income tax provision was required.
At October 31, 1998, the fund had a tax basis net
loss carryforward of approximately $54,943,000,
which may be applied against any realized net
taxable gains of each succeeding year until fully
utilized or it will expire during the period 2002
through 2006.
DIVIDENDS TO SHAREHOLDERS. The fund declares and
pays dividends of net investment income monthly and
any net realized capital gains annually, which are
recorded on the ex-dividend date. Dividends are
determined in accordance with income tax principles
which may treat certain transactions differently
from generally accepted accounting principles.
EQUALIZATION ACCOUNTING. Prior to November 1, 1997,
the fund used equalization accounting to keep a
continuing shareholder's per share interest in
undistributed net investment income unaffected by
shareholder activity. This was accomplished by
allocating a portion of the proceeds from sales and
the cost of redemptions of fund shares to
undistributed net investment income. As of November
1, 1997, the fund discontinued using equalization.
This change has no effect on the fund's net assets,
net asset value per share or distributions to
shareholders. Discontinuing the use of equalization
accounting will result in simpler financial
statements. The cumulative effect of the
discontinuance of equalization accounting was to
decrease undistributed net investment income and
increase paid-in-capital previously reported
through October 31, 1997 by $3,080,000.
- --------------------------------------------------------------------------------
3 TRANSACTIONS WITH
AFFILIATES MANAGEMENT AGREEMENT. The fund has a management
agreement with Scudder Kemper Investments, Inc.
(Scudder Kemper) and pays a monthly investment
management fee of 1/12 of the annual rate of .58%
of the first $250 million of average daily net
assets declining to .42% of average daily net
assets in excess of $12.5 billion. The fund
incurred a management fee of $4,986,000 for the
year ended October 31, 1998. During the year ended
October 31, 1998, Scudder Kemper agreed to
reimburse the fund $105,000 for a loss incurred in
connection with fixed income securities trading.
ZURICH/B.A.T MERGER. On September 7, 1998, Zurich
Insurance Company (Zurich), majority owner of
Scudder Kemper, entered into an agreement with
B.A.T. Industries p.l.c. (B.A.T) pursuant to which
the financial services businesses of B.A.T were
combined with Zurich's businesses to form a new
global insurance and financial services company
known as Zurich Financial Services. Upon
consummation of the transaction, the fund's
investment management agreement with Scudder Kemper
was deemed to have been assigned and, therefore,
terminated. The Board of Trustees of the fund has
approved a new investment management agreement with
Scudder Kemper, which is substantially identical to
the former investment management agreement, except
for the dates of execution and termination.
Shareholders approved a new investment
22
<PAGE> 23
NOTES TO FINANCIAL STATEMENTS
management agreement through a proxy solicitation
that concluded in mid-December.
UNDERWRITING AND DISTRIBUTION SERVICES AGREEMENT.
The fund has an underwriting and distribution
services agreement with Kemper Distributors, Inc.
(KDI). Underwriting commissions paid in connection
with the distribution of Class A shares are as
follows:
<TABLE>
<CAPTION>
COMMISSIONS COMMISSIONS ALLOWED
RETAINED BY KDI BY KDI TO FIRMS
--------------- -------------------
<S> <C> <C>
Year ended October 31, 1998 $151,000 1,236,000
</TABLE>
For services under the distribution services
agreement, the fund pays KDI a fee of .75% of
average daily net assets of the Class B and Class C
shares pursuant to separate Rule 12b-1 plans for
Class B and Class C shares. Pursuant to the
agreement, KDI enters into related selling group
agreements with various firms at various rates for
sales of Class B and Class C shares. In addition,
KDI receives any contingent deferred sales charges
(CDSC) from redemptions of Class B and Class C
shares. Distribution fees, CDSC and commissions
related to Class B and Class C shares as follows:
<TABLE>
<CAPTION>
DISTRIBUTION FEES COMMISSIONS AND
AND CDSC DISTRIBUTION FEES
RECEIVED BY KDI PAID BY KDI TO FIRMS
------------------ ---------------------
<S> <C> <C>
Year ended October 31, 1998 $2,901,000 3,164,000
</TABLE>
ADMINISTRATIVE SERVICES AGREEMENT. The fund has an
administrative services agreement with KDI. For
providing information and administrative services
to shareholders, the fund pays KDI a fee at an
annual rate of up to .25% of average daily net
assets of each class. KDI in turn has various
agreements with financial services firms that
provide these services and pays these firms based
on assets of fund accounts the firms service.
Administrative services fees (ASF) paid are as
follows:
<TABLE>
<CAPTION>
ASF PAID BY KDI
ASF PAID BY -----------------------------
THE FUND TO KDI TO ALL FIRMS TO AFFILIATES
---------------- ------------- -------------
<S> <C> <C> <C>
Year ended October 31, 1998 $2,021,000 2,074,000 7,000
</TABLE>
SHAREHOLDER SERVICES AGREEMENT. Pursuant to a
services agreement with the fund's transfer agent,
Kemper Service Company (KSvC) is the shareholder
service agent of the fund. Under the agreement,
KSvC received shareholder services fees of
$1,944,000 for the year ended October 31, 1998.
OFFICERS AND TRUSTEES. Certain officers or trustees
of the fund are also officers or directors of
Scudder Kemper. For the year ended October 31,
1998, the fund made no payments to its officers and
incurred trustees' fees of $31,000 to independent
trustees.
- --------------------------------------------------------------------------------
4 INVESTMENT
TRANSACTIONS For the year ended October 31, 1998, investment
transactions (excluding short-term instruments) are
as follows (in thousands):
Purchases $6,320,407
Proceeds from sales 6,377,365
23
<PAGE> 24
NOTES TO FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
5 CAPITAL SHARE
TRANSACTIONS The following table summarizes the activity in
capital shares of the fund (in thousands):
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31,
1998 1997
----------------------- -----------------------
SHARES AMOUNT SHARES AMOUNT
--------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
SHARES SOLD
Class A 18,405 $ 111,129 21,099 $ 125,985
--------------------------------------------------------------------------------
Class B 16,699 99,712 19,403 116,147
--------------------------------------------------------------------------------
Class C 3,606 21,649 1,933 11,608
--------------------------------------------------------------------------------
Class I 1 2 1 8
--------------------------------------------------------------------------------
SHARES ISSUED IN REINVESTMENT OF DIVIDENDS
Class A 4,474 26,626 4,612 27,529
--------------------------------------------------------------------------------
Class B 2,192 13,033 2,401 14,136
--------------------------------------------------------------------------------
Class C 188 1,122 92 564
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
SHARES REDEEMED
Class A (24,547) (147,027) (23,040) (137,971)
--------------------------------------------------------------------------------
Class B (12,394) (74,303) (11,474) (68,173)
--------------------------------------------------------------------------------
Class C (1,105) (6,571) (597) (3,595)
--------------------------------------------------------------------------------
Class I (2) (11) (2) (9)
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
CONVERSION OF SHARES
Class A 7,838 47,017 4,260 25,490
--------------------------------------------------------------------------------
Class B (7,849) (47,017) (4,266) (25,490)
--------------------------------------------------------------------------------
NET INCREASE
FROM CAPITAL
SHARE TRANSACTIONS $ 45,361 $ 86,229
--------------------------------------------------------------------------------
</TABLE>
24
<PAGE> 25
FINANCIAL HIGHLIGHTS
<TABLE>
<CAPTION>
CLASS A
YEAR ENDED OCTOBER 31,
-----------------------------------
1998 1997 1996 1995 1994
- --------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
- ---------------------------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE
- ---------------------------------------------------------------------------------------
Net asset value, beginning of year $5.96 5.99 5.98 5.77 6.23
- ---------------------------------------------------------------------------------------
Income from investment operations:
Net investment income .44 .46 .46 .55 .52
- ---------------------------------------------------------------------------------------
Net realized and unrealized gain (loss) on
investments and foreign currency (.35) .01 .12 .16 (.45)
- ---------------------------------------------------------------------------------------
Total from investment operations .09 .47 .58 .71 .07
- ---------------------------------------------------------------------------------------
Less distribution from net investment income .45 .50 .57 .50 .53
- ---------------------------------------------------------------------------------------
Net asset value, end of year $5.60 5.96 5.99 5.98 5.77
- ---------------------------------------------------------------------------------------
TOTAL RETURN 1.28% 8.13 10.27 12.90 1.02
- ---------------------------------------------------------------------------------------
RATIOS TO AVERAGE NET ASSETS
- ---------------------------------------------------------------------------------------
Expenses 1.04% 1.03 1.03 1.09 1.12
- ---------------------------------------------------------------------------------------
Net investment income 7.36% 7.68 7.72 9.43 8.81
- ---------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
-----------------------------------------
CLASS B
-----------------------------------------
YEAR ENDED
OCTOBER 31, MAY 31 TO
-------------------------- OCTOBER 31,
1998 1997 1996 1995 1994
- -----------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
- -----------------------------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE
- -----------------------------------------------------------------------------------------
Net asset value, beginning of period $5.96 5.99 5.98 5.77 5.94
- -----------------------------------------------------------------------------------------
Income from investment operations:
Net investment income .38 .40 .41 .49 .19
- -----------------------------------------------------------------------------------------
Net realized and unrealized gain (loss) on
investments and foreign currency (.36) .01 .12 .16 (.17)
- -----------------------------------------------------------------------------------------
Total from investment operations .02 .41 .53 .65 .02
- -----------------------------------------------------------------------------------------
Less distribution from net investment income .39 .44 .52 .44 .19
- -----------------------------------------------------------------------------------------
Net asset value, end of period $5.59 5.96 5.99 5.98 5.77
- -----------------------------------------------------------------------------------------
TOTAL RETURN (NOT ANNUALIZED) .12% 7.13 9.23 11.87 .35
- -----------------------------------------------------------------------------------------
RATIOS TO AVERAGE NET ASSETS (ANNUALIZED)
- -----------------------------------------------------------------------------------------
Expenses 2.01% 1.98 1.96 2.04 1.97
- -----------------------------------------------------------------------------------------
Net investment income 6.39% 6.73 6.79 8.48 8.01
- -----------------------------------------------------------------------------------------
</TABLE>
25
<PAGE> 26
FINANCIAL HIGHLIGHTS
<TABLE>
<CAPTION>
---------------------------------------------------------
CLASS C
---------------------------------------------------------
YEAR ENDED OCTOBER 31, MAY 31 TO
-------------------------------------- OCTOBER 31,
1998 1997 1996 1995 1994
- ----------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
PER SHARE OPERATING PERFORMANCE
- ----------------------------------------------------------------------------------------------------
Net asset value, beginning of period $5.99 6.01 6.00 5.79 5.95
- ----------------------------------------------------------------------------------------------------
Income from investment operations:
Net investment income .39 .42 .41 .50 .20
- ----------------------------------------------------------------------------------------------------
Net realized and unrealized gain (loss)
on investments and foreign currency (.36) .01 .12 .16 (.17)
- ----------------------------------------------------------------------------------------------------
Total from investment operations .03 .43 .53 .66 .03
- ----------------------------------------------------------------------------------------------------
Less distribution from net investment
income .40 .45 .52 .45 .19
- ----------------------------------------------------------------------------------------------------
Net asset value, end of period $5.62 5.99 6.01 6.00 5.79
- ----------------------------------------------------------------------------------------------------
TOTAL RETURN (NOT ANNUALIZED) .28% 7.37 9.33 11.95 .55
- ----------------------------------------------------------------------------------------------------
RATIOS TO AVERAGE NET ASSETS (ANNUALIZED)
- ----------------------------------------------------------------------------------------------------
Expenses 1.84% 1.85 1.86 1.86 1.96
- ----------------------------------------------------------------------------------------------------
Net investment income 6.56% 6.86 6.89 8.68 8.02
- ----------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------
SUPPLEMENTAL DATA FOR ALL CLASSES
- ----------------------------------------------------------------------------------------------------
YEAR ENDED OCTOBER 31,
---------------------------------------------------------
1998 1997 1996 1995 1994
- ----------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net assets at end of year (in thousands) $850,528 861,543 778,752 754,222 738,014
- ----------------------------------------------------------------------------------------------------
Portfolio turnover rate 751% 347 310 286 179
- ----------------------------------------------------------------------------------------------------
</TABLE>
NOTE: Total return does not reflect the effect of any sales charges. Per share
data was determined based on average shares outstanding during the year ended
October 31, 1998.
TAX INFORMATION
Please consult a tax adviser if you have questions about federal or state income
tax laws, or on how to prepare your tax returns. If you have specific questions
about your Kemper Fund account, please call 1-800-621-1048.
26
<PAGE> 27
27
NOTES
<PAGE> 28
LONG-TERM INVESTING IN A SHORT-TERM WORLD(SM)
TRUSTEES & OFFICERS
<TABLE>
<CAPTION>
<S><C>
TRUSTEES OFFICERS
DANIEL PIERCE MARK S. CASADY KATHRYN L. QUIRK
Chairman and Trustee President Vice President
DAVID W. BELIN PHILIP J. COLLORA HARRY E. RESIS, JR.
Trustee Vice President and Vice President
Secretary
LEWIS A. BURNHAM RICHARD L. VANDENBERG
Trustee JOHN R. HEBBLE Vice President
Treasurer
DONALD L. DUNAWAY LINDA J. WONDRACK
Trustee J. PATRICK BEIMFORD, JR. Vice President
Vice President
ROBERT B. HOFFMAN MAUREEN E. KANE
Trustee ROBERT S. CESSINE Assistant Secretary
Vice President
DONALD R. JONES CAROLINE PEARSON
Trustee THOMAS W. LITTAUER Assistant Secretary
Vice President
SHIRLEY D. PETERSON ELIZABETH C. WERTH
Trustee ANN M. MCCREARY Assistant Secretary
Vice President
WILLIAM P. SOMMERS BRENDA LYONS
Trustee MICHAEL A. MCNAMARA Assistant Treasurer
Vice President
EDMOND D. VILLANI
Trustee ROBERT C. PECK, JR.
Vice President
</TABLE>
- ----------------------------------------------------------------------------
LEGAL COUNSEL VEDDER, PRICE, KAUFMAN & KAMMHOLZ
222 North LaSalle Street
Chicago, IL 60601
- ----------------------------------------------------------------------------
SHAREHOLDER SERVICE AGENT KEMPER SERVICE COMPANY
P.O. Box 419557
Kansas City, MO 64141
- ----------------------------------------------------------------------------
CUSTODIAN AND TRANSFER AGENT INVESTORS FIDUCIARY TRUST COMPANY
801 Pennsylvania Avenue
Kansas City, MO 64105
- ----------------------------------------------------------------------------
INDEPENDENT AUDITORS ERNST & YOUNG LLP
233 South Wacker Drive
Chicago, IL 60606
- ----------------------------------------------------------------------------
PRINCIPAL UNDERWRITER KEMPER DISTRIBUTORS, INC.
222 South Riverside Plaza Chicago, IL 60606
www.kemper.com
Long-term investing in a short-term world(SM)
Printed on recycled paper in the U.S.A.
This report is not to be distributed unless preceded
or accompanied by a Kemper Income Funds prospectus.
KDIF-2 (12/98) 1061680 [KEMPER FUNDS LOGO]
