FIXED INCOME FUND
ANNUAL REPORT
IAI INSTITUTIONAL BOND FUND
NOVEMBER 30, 1996
[LOGO] IAI MUTUAL FUNDS
TABLE OF CONTENTS
IAI INSTITUTIONAL BOND FUND
ANNUAL REPORT
NOVEMBER 30, 1996
Chairman's Letter...............................2
Fund Managers' Review...........................4
Fund Portfolio..................................6
Notes to Fund Portfolio........................12
Statement of Assets and Liabilities............13
Statement of Operations........................14
Statements of Changes in Net Assets............15
Financial Highlights...........................16
Notes to Financial Statements..................17
Independent Auditors' Report...................22
Federal Tax Information........................23
IAI Mutual Fund Family.........................24
Adviser, Custodian, Legal Counsel,
Independent Auditors,
Directors.......................Inside Back Cover
CHAIRMAN'S LETTER
IAI INSTITUTIONAL BOND FUND
[PHOTO]
NOEL P. RAHN,
CHAIRMAN
BETTER DAYS FOR BONDS
For much of 1996, the bond market endured a bumpy ride, as interest rates rose
steadily, ignited by a spring quarter that was one of the strongest economic
periods in years. Indeed, for much of the spring and summer, the benchmark
30-year Treasury bond traded at about 7% as investors feared inflation and
action by the Federal Reserve Board to slow down the economy.
However, by the fall, the economy slowed down and the Fed chose not to tighten
credit, partly because it did not want to influence the presidential election in
November. Investors seemed to like the election results--a Democratic White
House and a Republican Congress--as the stock market surged to new highs and the
bond market recovered lost ground from earlier in the year.
As we begin 1997, there are many reasons to remain optimistic about the bond
market. Interest rates remain attractive relative to inflation--that is, a
30-year bond trading at 6.5% is a good yield compared to an inflation rate
beneath 3%. The federal budget deficit has fallen significantly for four
consecutive years. The rate of economic growth, although buoyant for a quarter
or two at a time, continues on a moderate course. And interest rates in foreign
countries are falling, particularly in Europe, where the economy is sluggish.
That's helpful to U.S. bond issuers, who don't have to compete quite as hard on
a worldwide basis for capital. As a result, the Federal Reserve Board, which
controls U.S. short-term interest rates, has kept a fairly low profile of late.
To be sure, Chairman Greenspan did manage to upset world markets in late
November with some comments in an after-dinner speech in which he suggested that
the U.S. stock market was overvalued. That incident just confirms a few points
about the markets that we've been stressing over the past several years. First,
global communication is instantaneous. Investors throughout the world reacted to
Greenspan's remarks as soon as exchanges opened in their time zones. Second, the
American markets lead the world; indeed, it is difficult to imagine a scenario
in which a foreign business leader could make a speech and send our markets down
2% in one day. Third, markets are interrelated. A Fed chairman's comments about
the U.S. stock market affects institutional investors around the world, many of
whom have watched in envy as the Dow Jones Industrials have soared past their
local markets. And fourth, volatility is inevitable and often fleeting. The 2%
decline that seemed like a major move around Thanksgiving was virtually
forgotten by Christmas.
If you're a long-term investor, then these news stories should be nothing more
than mildly amusing to you. Instead, you should be concerned that you've
properly diversified your portfolio among stocks and bonds, perhaps increasing
your focus on bonds as you approach retirement and require income. And you
should make sure that your investment portfolio generally reflects your
long-term investment goals for 1997 and beyond.
ECONOMIC OUTLOOK
A summary of economic outlook as provided by Larry Hill, IAI's Chief Fixed
Income Officer, is listed below.
Economic momentum has slowed appreciably since mid-year. Broad inflation
indicators continue to show little movement, with the GDP price deflator rising
by only 1.9% over the last four quarters. We expect the economy to slow further
and broad inflation to remain subdued. The United States has excess capacity in
just about everything--except labor. Foreign economies are sluggish, adding to
the availability of goods for sale in our markets. Pricing power is scarce at
the retail level and should remain so. Consumer spending will be slow until
spring when lower rates may encourage housing demand. The risk to our forecast
is that a softer economy unfolds early in 1997.
This outlook is generally favorable for the markets. Short-term interest rates
should fall, pulling long bond yields with them, although the drop should be
limited to 4.5% on Treasury bills and 6% on Treasury bonds. Liquidity will
continue to flow to stocks, providing an upward bias to prices. Lower rates and
stable inflation will help market valuations, but earnings uncertainty will
prevent substantial appreciation.
Please read the Fund Managers' Review which follows this letter for a detailed
perspective on the Fund's performance and our strategy going forward. We
appreciate your continued trust and confidence in IAI. If there is any way we
can serve you better, please let us know by calling our toll-free Investor
Services Hotline at 1-800-945-3863.
Sincerely,
/s/ Noel P. Rahn
- ----------------
Noel P. Rahn
Chairman
FUND MANAGERS' REVIEW
IAI INSTITUTIONAL BOND FUND
[PHOTO]
LARRY R. HILL, CFA
IAI INSTITUTIONAL BOND
FUND CO-MANAGER
[PHOTO]
TIMOTHY A. PALMER, CFA
IAI INSTITUTIONAL BOND
FUND CO-MANAGER
[PHOTO]
SCOTT A. BETTIN, CFA
IAI Institutional Bond
FUND CO-MANAGER
FUND MANAGERS' REVIEW
IAI Institutional Bond Fund
FUND OBJECTIVE
The IAI Institutional Bond Fund seeks to provide a high level of total return
derived from a combination of capital appreciation and current income. This
objective is pursued by investing primarily in a diversified portfolio of U.S.
Government securities and investment- and non-investment- grade bonds and other
debt securities of similar quality. The Fund invests in a variety of maturities
and sectors which are varied depending on relative values in the marketplace at
a given point in time.
FACTORS AFFECTING THE
PAST YEAR'S PERFORMANCE
In the first half of 1996, erratic economic growth produced volatile bond market
returns. Early weakness of the economy in January and February was followed in
the second quarter by one of the strongest periods of growth since the expansion
began more than five years ago. Yields began rising in mid-February. For most of
the summer, long Treasury bond yields traded around 7% due to investor fear over
rising inflation and prospective Federal Reserve Bank (the Fed) tightening.
However, the Fed affirmed its outlook for lower growth and stable inflation on
three separate occasions over the summer and early fall period. In late
September, rates began to fall as investors grew to accept the Fed's point of
view.
The IAI Institutional Bond Fund benefited from several strategies. The Fund has
emphasized corporate bonds, asset-backed securities and selected international
and high yield issues. These sectors have added yield to the portfolio and have
enhanced returns as narrower spreads produced relative price gains.
Issue selection strategies also boosted returns. The Fund continues to invest in
100-year maturity bonds because their positive convexity characteristics improve
the price returns in a volatile interest rate environment. Holdings include
Dresser Industries and ABN-AMRO Bank, the large Dutch bank. Canadian government
bonds were also strong performers in the portfolio as Canadian bond yields
dropped in response to interest rate cuts by the Bank of Canada.
The Fund also took advantage of the new trust preferred securities that began to
be issued in November. Some of these initial issues were undervalued in the
initial offering and presented appreciation oppor-tunities as the market
recognized their value.
Portfolio duration was also extended in September as our fundamental benchmarks
indicated slower demand and a stable Fed policy for the remainder of the year.
Falling interest rates boosted the Fund's return after implementing this shift.
OUTLOOK
After a large spurt in the second quarter, growth has returned to its 2-21/2%
trend rate. Broad inflation measures are stable with the GDP price deflator
rising by only 1.9% over the last four quarters. Global economies remain soft.
Excess capacity has restricted pricing power at the retail level and foreign
liquidity has been a positive support for our bond market. These conditions are
likely to persist into the early part of 1997.
Short-term interest rates are still high relative to inflation. This acts as a
brake on economic activity and offers the prospect of lower rates should
inflation remain tame. The portfolio is fully invested and well positioned for
the fundamental conditions we see ahead.
VALUE OF $2,000,000 INVESTMENT+
[CHART]
IAI INSTITUTIONAL BOND FUND SALOMON BROAD INVESTMENT
(Inception 11/01/93) GRADE BOND INDEX
- --------------------------------------------------------------------------------
11/01/93 $ 2,000,000 $2,000,000
11/30/94 1,885,303 1,922,902
11/30/95 2,167,191 2,265,744
11/30/96 2,328,322 2,401,191
AVERAGE ANNUAL RETURNS+
THROUGH 11/30/96
Since Inception
1 Year 11/01/93
- --------------------------------------------------------------------------------
IAI INSTITUTIONAL BOND FUND 7.44% 5.06%
- --------------------------------------------------------------------------------
Salomon Broad Investment Grade Bond Index 5.98% 6.11%
+ PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE.
SECTORS
% OF PORTFOLIO AS OF 11/30/96
[GRAPH]
Corporate 41%
Foeign Dominated 5%
U.S. Government & Government Agency 13%
Asset-Backed 12%
Short-Term 4%
U.S. Government Agency Mortgage-Backed 23%
Preferred Stock 2%
EFFECTIVE MATURITY
% OF PORTFOLIO AS OF 11/30/96
[GRAPH]
YEARS
0-3 14%
3-5 12%
5-10 40%
10-20 5%
20+ 29%
NOTE TO CHAIRMAN'S LETTER & FUND MANAGERS' REVIEW
PERFORMANCE DATA FOR THE IAI INSTITUTIONAL BOND FUND INCLUDES CHANGES IN SHARE
PRICE AND REINVESTMENT OF ALL DIVIDENDS AND CAPITAL GAINS. PAST PERFORMANCE IS
NOT A GUARANTEE OF FUTURE RESULTS. THE FUND'S INVESTMENT RETURN, YIELD AND
PRINCIPAL MAY FLUCTUATE, SO THAT WHEN REDEEMED, SHARES MAY BE WORTH MORE OR LESS
THAN THE ORIGINAL COST. MORE COMPLETE INFORMATION ABOUT THE FUND, INCLUDING
CHARGES AND EXPENSES, IS AVAILABLE IN THE PRO SPECTUS. PLEASE READ THE FUND'S
PROSPECTUS CAREFULLY BEFORE INVESTING. ALL INDICES CITED ARE UNMANAGED, AND ARE
EITHER TRADEMARKS, REGISTERED TRADEMARKS OR COPYRIGHTS OF THEIR RESPECTIVE
SPONSORING COMPANIES.
CREDIT RATING
% OF PORTFOLIO AS OF 11/30/96
U.S.
Government........ 40%
Aaa............... 16%
Aa................. 3%
A................. 12%
Baa............... 18%
Non-Investment
Grade............. 11%
<TABLE>
<CAPTION>
NOVEMBER 30, 1996
(PERCENTAGE FIGURES INDICATE PERCENTAGE OF TOTAL NET ASSETS)
CORPORATE BONDS - 40.9%
PRINCIPAL MARKET
RATE MATURITY AMOUNT VALUE(a)
- ---------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
FINANCE - 14.4%
ABN-AMRO Bank 7.13% 10/15/93 $ 2,700,000 $ 2,633,931
Aetna Services 6.75 08/15/01 20,000 20,412
Banc One 7.63 10/15/26 660,000 687,469
Conseco Finance Trust II 8.70 11/15/26 3,000,000 3,084,030
Continental 8.38 08/15/12 2,750,000 3,010,893
Countrywide Funding (MEDIUM-TERM NOTE) 6.28 01/15/03 50,000 49,085
Lehman Brothers Holdings (MEDIUM-TERM NOTE) 6.89 10/10/00 40,000 40,408
Nationwide CSN Trust (f) 9.88 02/15/25 2,000,000 2,310,100
Provident Bank 6.13 12/15/00 50,000 49,711
Salomon 7.25 05/01/01 80,000 81,938
Travelers Capital III 7.63 12/01/36(b) 2,000,000 2,000,000
--------------
13,967,977
- ---------------------------------------------------------------------------------------------------------------
INDUSTRIAL - 14.6%
Auburn Hills Trust 12.00 05/01/20 50,000 77,351
Buckeye Cellulose 9.25 09/15/08 750,000 772,500
Circus Circus 6.70 11/15/96 200,000 200,764
Dresser Industries 7.60 08/15/96 640,000 679,091
Federated Department Stores 8.50 06/15/03 1,500,000 1,585,995
Ford Motor 7.25 10/01/08 10,000 10,364
Freeport-McMoran C & G 7.20 11/15/26 3,000,000 3,022,578
HomeSide (f) 11.25 05/15/03 500,000 557,500
Levi Strauss (f) 6.80 11/01/03 1,000,000 1,014,600
Mitchell Energy 9.25 01/15/02 3,025,000 3,287,842
Newport News Ship (f) 8.63 12/01/06 350,000 356,125
RJR Nabisco 8.00 07/15/01 1,000,000 1,015,780
Tenneco 10.38 11/15/00 30,000 34,587
Triton Energy (STEP BOND) 9.58(d) 12/15/00 1,500,000 1,556,250
--------------
14,171,327
- ---------------------------------------------------------------------------------------------------------------
UTILITIES - 1.3%
California Energy (STEP BOND) 9.03%(d) 01/15/04 $ 900,000 $ 931,500
Commonwealth Edison 6.38 07/15/00 40,000 39,771
PSI Energy 6.35 11/15/06 260,000 261,472
--------------
1,232,743
- ---------------------------------------------------------------------------------------------------------------
YANKEE - 10.6%
Banco Nacional 9.63 11/15/03 2,000,000 2,010,000
Gulf Canada Resources 8.35 08/01/06 1,000,000 1,052,500
Hydro-Quebec 8.40 01/15/22 70,000 78,788
Hydro-Quebec 6.27 01/03/26 10,000 9,956
Hydro-Quebec 8.50 12/01/29 2,900,000 3,310,582
Pohang Iron & Steel 7.13 11/01/06 600,000 614,448
Quebec Province 9.13 03/01/00 50,000 54,239
Republic of Argentina 11.00 10/09/06 1,500,000 1,565,625
Republic of Indonesia 7.75 08/01/06 110,000 114,407
Tenaga Nasional (f) 7.50 01/15/96 1,500,000 1,489,710
--------------
10,300,255
- ---------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS IN CORPORATE BONDS
(COST: $38,066,162)...........................................................................$ 39,672,302
- ---------------------------------------------------------------------------------------------------------------
NOVEMBER 30, 1996
U.S. GOVERNMENT & GOVERNMENT AGENCY OBLIGATIONS - 12.8%
PRINCIPAL MARKET
RATE MATURITY AMOUNT VALUE(a)
- ---------------------------------------------------------------------------------------------------------------
U.S. TREASURY NOTES - 5.7%
6.25% 06/30/98 $ 1,000,000 $ 1,010,620
6.50 05/31/01 1,450,000 1,488,295
7.88 11/15/04 1,050,000 1,172,062
7.00 07/15/06 1,760,000 1,876,054
--------------
5,547,031
- ---------------------------------------------------------------------------------------------------------------
U.S. TREASURY BONDS - 3.6%
8.13 08/15/19 1,000,000 1,192,810
7.50 11/15/24 2,000,000 2,263,120
--------------
3,455,930
- ---------------------------------------------------------------------------------------------------------------
U.S. GOVERNMENT AGENCY OBLIGATIONS - 3.5%
Financing Corporation STRIPS (ZERO COUPON BOND) 7.04%(c) 05/11/06 6,200,000 3,401,320
- ---------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS IN U.S. GOVERNMENT & GOVERNMENT AGENCY OBLIGATIONS
(COST: $11,932,248)...........................................................................$ 12,404,281
- ---------------------------------------------------------------------------------------------------------------
NOVEMBER 30, 1996
U.S. GOVERNMENT AGENCY MORTGAGE-BACKED SECURITIES - 22.9%
PRINCIPAL MARKET
RATE MATURITY AMOUNT VALUE(a)
- ---------------------------------------------------------------------------------------------------------------
FEDERAL HOME LOAN MORTGAGE CORPORATION - 0.1%
8.00% 08/01/08 $ 62,172 $ 64,201
- ---------------------------------------------------------------------------------------------------------------
FEDERAL HOME LOAN MORTGAGE CORPORATION GOLD - 0.1%
9.50 12/01/22 46,190 50,008
- ---------------------------------------------------------------------------------------------------------------
FEDERAL NATIONAL MORTGAGE ASSOCIATION - 0.1%
6.00 09/01/24 151,987 144,909
- ---------------------------------------------------------------------------------------------------------------
GOVERNMENT NATIONAL MORTGAGE ASSOCIATION - 22.6%
8.00 09/15/08 551,150 572,005
8.00 09/15/17 2,738,204 2,857,645
8.00 11/15/17 2,969,069 3,102,678
9.00 11/15/17 2,679,158 2,902,680
9.00 12/15/17 2,485,163 2,681,616
6.50 11/15/23 311,994 305,171
7.00 12/15/23 1,591,363 1,588,864
6.50 01/15/24 2,848,462 2,786,166
6.50 04/15/24 752,847 736,382
6.50 05/15/24 147,800 144,728
6.50 06/15/24 993,866 970,877
6.50 08/15/26 3,368,635 3,290,719
--------------
21,939,531
- ---------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS IN U.S. GOVERNMENT AGENCY MORTGAGE-BACKED SECURITIES
(COST: $21,371,230)...........................................................................$ 22,198,649
- ---------------------------------------------------------------------------------------------------------------
NOVEMBER 30, 1996
ASSET-BACKED SECURITIES - 12.0%
PRINCIPAL MARKET
RATE MATURITY AMOUNT VALUE(a)
- ---------------------------------------------------------------------------------------------------------------
AUTO LOAN RELATED - 6.2%
Banc One Auto Grantor Trust 96-A A 6.10% 10/15/02 $ 42,672 $ 42,765
Chase Manhattan Grantor Trust 96-B A 6.61 09/15/02 1,156,109 1,168,387
Ford Credit Auto Lease Trust 96-1 A2 5.80 05/15/99 1,150,000 1,150,000
Ford Credit Auto Loan Master Trust 96-1 A 5.50 02/15/03 90,000 87,946
Ford Credit Grantor Trust 95-B A 5.90 10/15/00 1,554,054 1,553,557
Norwest Automobile Trust 96-A A3 5.90 03/15/00 2,000,000 2,002,860
--------------
6,005,515
- ---------------------------------------------------------------------------------------------------------------
CREDIT CARD RELATED - 3.4%
Chase Manhattan Credit Card Trust 96-4 A 6.73 02/15/02 1,600,000 1,631,488
Dayton Hudson Credit Card Master Trust 95-1 A 6.10 02/25/02 1,660,000 1,670,558
--------------
3,302,046
- ---------------------------------------------------------------------------------------------------------------
EQUIPMENT LOAN RELATED - 0.1%
Case Equipment Loan Trust 96-B A3 6.65 09/15/03 70,000 71,145
- ---------------------------------------------------------------------------------------------------------------
MANUFACTURED HOUSING - 2.3%
Associates Manufactured Housing 96-2 A3 6.35 06/15/27 (b) 2,220,000 2,222,081
- ---------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS IN ASSET-BACKED SECURITIES
(COST: $11,530,477)...........................................................................$ 11,600,787
- ---------------------------------------------------------------------------------------------------------------
NOVEMBER 30, 1996
FOREIGN DENOMINATED BONDS - 5.0%
PRINCIPAL MARKET
RATE MATURITY AMOUNT VALUE(a)
- ---------------------------------------------------------------------------------------------------------------
FOREIGN GOVERNMENT BONDS - 5.0%
Canadian Government (CANADIAN DOLLAR) 6.50% 06/01/04 700,000 $ 543,005
8.00 06/01/23 5,000,000 4,312,903
--------------
4,855,908
- ---------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS IN FOREIGN DENOMINATED BONDS
(COST: $4,473,203)............................................................................$ 4,855,908
- ---------------------------------------------------------------------------------------------------------------
NOVEMBER 30, 1996
NON-CONVERTIBLE PREFERRED STOCKS - 2.4%
PRINCIPAL MARKET
RATE MATURITY AMOUNT VALUE(a)
- ---------------------------------------------------------------------------------------------------------------
FINANCIAL - 2.4%
SI Financing Trust I 2.30% 90,000 $ 2,373,750
- ---------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS IN NON-CONVERTIBLE PREFERRED STOCKS
(Cost: $2,288,188)............................................................................$ 2,373,750
- ---------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS IN LONG-TERM SECURITIES
(COST: $89,661,508)...........................................................................$ 93,105,677
- ---------------------------------------------------------------------------------------------------------------
NOVEMBER 30, 1996
SHORT-TERM SECURITIES - 4.7%
PRINCIPAL MARKET
RATE MATURITY AMOUNT VALUE(a)
- ---------------------------------------------------------------------------------------------------------------
U.S. GOVERNMENT & GOVERNMENT AGENCY OBLIGATIONS - 4.7%
Federal Home Loan Bank (discount note) 5.70% 12/02/96 $ 2,300,000 $ 2,299,636
U.S. Treasury Bills 5.18 03/06/97 500,000 493,470
5.12 03/13/97 1,800,000 1,774,800
--------------
4,567,906
- ---------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS IN SHORT-TERM SECURITIES
(COST: $4,567,608)............................................................................$ 4,567,906
- ---------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS IN SECURITIES
(COST: $94,229,116) (g).......................................................................$ 97,673,583
- ---------------------------------------------------------------------------------------------------------------
OTHER ASSETS & LIABILITIES (NET) - (0.7%)
.........................................................................................$ (588,974)
- ---------------------------------------------------------------------------------------------------------------
TOTAL NET ASSETS
.........................................................................................$ 97,084,609
- ---------------------------------------------------------------------------------------------------------------
See accompanying Notes to Fund Portfolio
</TABLE>
NOTES TO FUND PORTFOLIO
IAI INSTITUTIONAL BOND FUND
NOVEMBER 30, 1996
(a)
Market value of securities is determined as described in Note 1 to the financial
statements, under "Security Valuation."
(b)
Purchased on a when-issued basis. At November 30, 1996, the total cost of
securities purchased on a when-issued basis was $4,217,572.
(c)
Interest rate shown represents yield-to-maturity at date of purchase.
(d)
The interest rate shown for step bonds represents effective yield at November
30, 1996, based upon the estimated timing and amount of future interest and
principal payments.
Stepbond- Security that remains zero-coupon until a predetermined date at which
time the stated coupon rate becomes payable at regular intervals.
(e)
Foreign security cost and market values are stated in U.S. dollars. Principal
amounts are denominated in the foreign currency indicated parenthetically.
(f)
Represents security sold within terms of a private placement memorandum exempt
from registration under Section 144A of the Securities Act of 1993. These issues
may only be sold to other qualified institutional buyers, and are considered
liquid under guidelines established by the Board of Directors.
(g)
At November 30, 1996, the cost of securities for federal income tax purposes and
the aggregate gross unrealized appreciation and depreciation based on that cost
were as follows:
Cost for federal income tax purposes ............$ 94,235,695
===========
Gross unrealized appreciation ...................$ 3,449,006
Gross unrealized depreciation ...................$ (11,118)
-----------
Net unrealized appreciation .....................$ 3,437,888
===========
<TABLE>
<CAPTION>
STATEMENT OF ASSETS AND LIABILITIES
IAI INSTITUTIONAL BOND FUND
NOVEMBER 30, 1996
- -------------------------------------------------------------------------------------------------------
<S> <C> <C>
ASSETS
Investments in securities, at market
(Cost: $94,229,116) (see Fund Portfolio) $ 97,673,583
Cash in bank on demand deposit 132,425
Receivable for investment securities sold 4,365,656
Accrued interest and dividends receivable 1,127,007
-------------
TOTAL ASSETS 103,298,671
-------------
LIABILITIES
Payable for investment securities purchased 6,214,062
-------------
TOTAL LIABILITIES 6,214,062
-------------
NET ASSETS APPLICABLE TO OUTSTANDING CAPITAL STOCK $ 97,084,609
=============
REPRESENTED BY:
Capital stock $ 101,718
Additional paid-in capital 95,518,921
Undistributed net investment income 241,062
Accumulated net realized losses on investments (2,221,852)
Unrealized appreciation or depreciation on:
Investment securities $ 3,444,467
Other assets and liabilities denominated in foreign currency 293
-------------
3,444,760
-------------
TOTAL - REPRESENTING NET ASSETS APPLICABLE TO OUTSTANDING CAPITAL STOCK $ 97,084,609
=============
Shares of capital stock outstanding; authorized 10 billion shares
of $0.01 par value stock 10,171,815
-------------
NET ASSET VALUE PER SHARE OF OUTSTANDING CAPITAL STOCK $ 9.54
=============
See accompanying Notes to Financial Statements
</TABLE>
<TABLE>
<CAPTION>
STATEMENT OF OPERATIONS
IAI INSTITUTIONAL BOND FUND
YEAR ENDED NOVEMBER 30, 1996
- ----------------------------------------------------------------------------------------------------
<S> <C> <C>
NET INVESTMENT INCOME
INCOME
Interest (net of foreign income taxes withheld of $12,076) $ 7,074,872
Dividends 119,800
-----------
Total Income 7,194,672
-----------
EXPENSES
Management fees 496,348
Compensation of Directors 6,480
-----------
TOTAL EXPENSES 502,828
Less fees reimbursed by Adviser
(6,480)
-----------
NET EXPENSES 496,348
-----------
NET INVESTMENT INCOME 6,698,324
-----------
NET REALIZED AND UNREALIZED GAINS (LOSSES)
Net realized gains (losses) on:
Investment securities $ (339,480)
Foreign currency transactions (23,285)
Futures contracts (140,947)
Written option contracts closed or expired 10,750
-----------
(492,962)
Net change in unrealized appreciation or depreciation on:
Investment securities $ 874,023
Other assets and liabilities denominated in foreign currency 37,038
-----------
911,061
-----------
NET GAIN ON INVESTMENTS AND FOREIGN CURRENCY 418,099
-----------
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS $ 7,116,423
===========
See accompanying Notes to Financial Statements
</TABLE>
<TABLE>
<CAPTION>
STATEMENTS OF CHANGES IN NET ASSETS
IAI INSTITUTIONAL BOND FUND
YEAR ENDED YEAR ENDED
NOVEMBER 30, 1996 NOVEMBER 30, 1995
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C>
OPERATIONS
Net investment income $ 6,698,324 $ 6,045,626
Net realized gains (losses) (492,962) 1,325,599
Net change in unrealized appreciation or depreciation 911,061 4,993,096
------------- -------------
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 7,116,423 12,364,321
------------- -------------
DISTRIBUTIONS TO SHAREHOLDERS FROM:
Net investment income (6,725,675) (6,077,806)
------------- -------------
TOTAL DISTRIBUTIONS (6,725,675) (6,077,806)
------------- -------------
CAPITAL SHARE TRANSACTIONS
Net proceeds from sale of 2,647,688 and 3,431,177 shares 24,310,364 31,579,054
Net asset value of 727,591 and 657,760 shares issued to
shareholders in reinvestment of distributions 6,725,675 6,059,953
Cost of 3,880,061 and 1,742,824 shares redeemed (35,771,090) (16,220,253)
------------- -------------
INCREASE (DECREASE) IN NET ASSETS FROM CAPITAL SHARE TRANSACTIONS (4,735,051) 21,418,754
------------- -------------
TOTAL INCREASE (DECREASE) IN NET ASSETS (4,344,303) 27,705,269
NET ASSETS AT BEGINNING OF PERIOd 101,428,912 73,723,643
------------- -------------
NET ASSETS AT END OF PERIOD $ 97,084,609 $ 101,428,912
============= =============
INCLUDING UNDISTRIBUTED NET INVESTMENT INCOME OF: $ 241,062 $ 900,679
============= =============
See accompanying Notes to Financial Statements
</TABLE>
<TABLE>
<CAPTION>
FINANCIAL HIGHLIGHTS
IAI INSTITUTIONAL BOND FUND
PER SHARE DATA FOR A SHARE OF CAPITAL STOCK OUTSTANDING THROUGHOUT EACH PERIOD
AND SELECTED INFORMATION FOR EACH PERIOD INDICATED ARE AS FOLLOWS:
YEARS ENDED
NOVEMBER 30, PERIOD FROM PERIOD FROM
----------------------- APRIL 1, 1994 TO NOVEMBER 1, 1993***
1996 1995 NOVEMBER 30, 1994+ TO MARCH 31, 1994
- --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
NET ASSET VALUE
Beginning of period $ 9.50 $ 8.85 $ 9.36 $ 10.00
---------- ----------- ---------- ----------
OPERATIONS
Net investment income .63 .62 .38 .22
Net realized and unrealized gains (losses) .04 .66 (.51) (.65)
---------- ----------- ---------- ----------
TOTAL FROM OPERATIONS .67 1.28 (.13) (.43)
---------- ----------- ---------- ----------
DISTRIBUTIONS TO SHAREHOLDERS FROM:
Net investment income (.63) (.63) (.38) (.21)
---------- ----------- ---------- ----------
TOTAL DISTRIBUTIONS (.63) (.63) (.38) (.21)
---------- ----------- ---------- ----------
NET ASSET VALUE
End of period $ 9.54 $ 9.50 $ 8.85 $ 9.36
========== =========== ========== ==========
Total investment return* 7.44% 14.95% (1.44%) (4.35%)
Net assets at end of period (000's omitted) $ 97,085 $ 101,429 $ 73,724 $ 31,478
RATIOS
Expenses to average daily net assets 0.50% 0.50% 0.50%** 0.50%**
Net investment income to average
daily net assets 6.75% 6.76% 6.42%** 5.84%**
Portfolio turnover rate
(excluding short-term securities) 323.0% 358.8% 235.1% 127.1%
* TOTAL INVESTMENT RETURN IS BASED ON THE CHANGE IN NET ASSET VALUE OF A
SHARE DURING THE PERIOD AND ASSUMES REINVESTMENT OF ALL DISTRIBUTIONS AT
NET ASSET VALUE.
** ANNUALIZED
*** COMMENCEMENT OF OPERATIONS
+ REFLECTS FISCAL YEAR-END CHANGE FROM MARCH 31 TO NOVEMBER 30.
</TABLE>
NOTES TO FINANCIAL STATEMENTS
IAI INSTITUTIONAL BOND FUND
NOVEMBER 30, 1996
[1] SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The IAI Mutual Funds are registered under the Investment Company Act of 1940 (as
amended) as diversified, open-end management investment companies. IAI
Institutional Bond Fund is a separate portfolio of IAI Investment Funds I, Inc.,
and commenced operations on November 1, 1993. The Fund's investment objective is
to provide shareholders with a high level of total return derived from a
combination of capital appreciation and current income. The Fund pursues its
objective by investing primarily in a diversified portfolio of investment grade
bonds and other debt securities of similar quality. This report covers only the
IAI Institutional Bond Fund (the Fund).
Significant accounting policies followed by the Fund are summarized below:
SECURITY VALUATION
Investments in securities traded on national securities or international
exchanges are valued at the last reported sales price at the close of each
business day. Securities traded on the over-the-counter market are valued at the
last reported sales price or if the last sales price is not available, the last
reported bid price.
Debt securities for which quotations are not readily available are valued
primarily using dealer-supplied valuations or at their fair value as determined
in good faith using consistently applied procedures under the general
supervision of the Board of Directors.
Short-term securities with maturities of 60 days or less from the date of
initial acquisition are valued at amortized cost. Those with maturities greater
than 60 days from the date of initial acquisition are marked-to-market on a
daily basis.
SECURITIES PURCHASED ON A
WHEN-ISSUED BASIS
Delivery and payment for securities which have been purchased by the Fund on a
forward commitment or when-issued basis can take place a month or more after the
transaction date. During this period, such securities are subject to market
fluctuations and the Fund maintains, in a segregated account with its custodian,
assets with a market value equal to the amount of its purchase commitments. The
cost of securities purchased on a when issued basis at November 30, 1996
totalled $4,217,572.
The fund may enter into transactions to sell its purchase commitments to third
parties at the current market values and concurrently acquire other purchase
commitments for similar securities at later dates, commonly referred to as a
"dollar-roll." As an inducement for a fund to "rollover" its purchase
commitments, the Fund receives negotiated fees. For the year ended November 30,
1996 the Fund did not enter into any dollar-roll transactions.
FUTURES AND OPTIONS
CONTRACTS
In order to increase exposure to and hedge against changes in the market, the
Fund may buy and sell futures contracts and options. The risk of entering into
futures and option contracts include the possibility that changes in the value
of these contracts may not correlate with changes in the underlying security.
Futures contracts are valued at the settlement price of the exchange on which
they are traded. Upon entering into a futures contract, the Fund is required to
deposit either cash or securities into a segregated account, which represents
the initial margin, which is equal to a certain percentage of the contract
value. Subsequent changes in the value of the contract, or variation margin, are
recorded daily as unrealized gains or losses. Variation margin is paid or
received in cash daily by the Fund. The Fund realizes a gain or loss when the
contract is closed or expires.
Options traded on an exchange are valued using the last sale price, and those
traded over-the-counter are valued using dealer-supplied valuations, resulting
in unrealized appreciation or depreciation being recorded. The Fund will realize
a gain or loss upon expiration or closing of the option transaction. When an
option is exercised, the proceeds on sales for a written call option, the
purchase cost for a written put option or the cost of a security for a purchased
put or call option is adjusted by the amount of premium received or paid.
FOREIGN CURRENCY
TRANSLATIONS AND FOREIGN
CURRENCY CONTRACTS
The Fund invests in foreign securities. The market value of securities
and other assets and liabilities denominated in foreign currencies is translated
daily into U.S. dollars at the closing rate of exchange. Purchases and sales of
securities, income and expenses are translated at the exchange rate on the
transaction date and are recorded in realized and unrealized appreciation or
depreciation on foreign currency contracts.
Exchange gains (losses) may also be realized between the trade and settlement
dates on security and foreign currency contract transactions. The Fund does not
isolate that portion of the results of operations resulting from changes in
foreign exchange rates on investments from the fluctuations arising from changes
in market prices of securities held. Such fluctuations are included with the net
realized and unrealized gain or loss from investments.
The Fund may enter into forward foreign currency exchange contracts for
operational purposes and to protect against adverse exchange rate fluctuations.
The net U.S. dollar value of foreign currency underlying all contractual
commitments held by the Fund and the resulting unrealized appreciation or
depreciation are determined using foreign currency exchange rates from an
independent pricing service. The Fund is subject to the credit risk that the
other party will not complete the obligations of the contract.
FEDERAL TAXES
Since it is the Fund's policy to comply with the provisions of the Internal
Revenue Code applicable to regulated investment companies and to distribute all
of its taxable income to its shareholders, no provision for income taxes is
required. In order to avoid the payment of any federal excise taxes, the Fund is
required to distribute substantially all of its net investment income and net
realized gains on a calendar year basis.
Net investment income and net realized gains differ for financial statement and
tax purposes primarily because of recognition of certain foreign currency gains
and losses as ordinary income and the deferral of "wash sale" losses for tax
purposes. The character of distributions made during the year for net investment
income or net realized gains may also differ from its ultimate characterization
for tax purposes.
On the statement of assets and liabilities, as a result of permanent book-to-tax
differences, undistributed net investment income has been decreased by $632,266
and accumulated net realized losses have been decreased by $632,266.
For federal income tax purposes, the Fund has a capital loss carryover of
approximately $2,215,000 at November 30, 1996 which, if not offset by subsequent
capital gains, will expire in 2002. It is unlikely the Board of Directors will
authorize a distribution of any net realized gains until the available capital
loss carryover is offset or expires.
SECURITY TRANSACTIONS AND
INVESTMENT INCOME
The Fund records security transactions on trade date, the date the securities
are purchased or sold. Dividend income is recorded on the ex-dividend date.
Interest income is accrued daily. The Fund amortizes discount purchased on
long-term bonds using the level yield method of amortization. Security gains and
losses are determined on the basis of identified cost, which is the same basis
used for federal income tax purposes.
DISTRIBUTIONS TO SHAREHOLDERS
Distributions to shareholders are recorded on the record date. Distributions
from net investment income are made monthly. Capital gains, if any, are
primarily distributed as of the end of the calendar year. Additional capital
gains distributions as needed to comply with federal tax regulations are
distributed during the year.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported results of operations during the reporting period. Actual results
could differ from those estimates.
[2] COMMITMENTS AND CONTINGENCIES
For purposes of obtaining certain types of insurance coverage for the Fund and
its officers and directors, the Fund is a policyholder in an industry-sponsored
mutual insurance company (the Company). Also, the Fund is committed to make
capital contributions, if requested by the Company.
The Fund has available a $15,000,000 line of credit with a bank at the prime
interest rate. To the extent funds are drawn against the line, securities are
held in a segregated account. No compensating balances or commitment fees are
required under the line of credit. During the year ended November 30, 1996, the
Fund paid $7,109 in interest on the line of credit at an average annual rate
ranging from 8.25% to 8.75% and is included in interest income in the State-ment
of Operations. There were no borrowings outstanding at November 30, 1996.
[3] FEES AND EXPENSES
Under the terms of the Fund's Management Agreement, the Adviser is required to
pay for all expenses of the Fund, except certain costs (primarily those incurred
in the purchase and sale of assets, taxes, interest and extraordinary expenses),
in return for the Fund paying an all inclusive management fee (unified fee) to
Advisers. The Management Agreement further provides that IAI will either
reimburse the Fund for the fees and expenses it pays to directors who are not
"interested persons" of the Fund or reduce its fee by an equivalent amount. This
fee is paid monthly and is equal to an annual rate of 0.50% of the Fund's
average daily net assets.
[4] PURCHASES AND SALES OF SECURITIES
For the year ended November 30, 1996, purchases of securities and sales
proceeds, other than investments in short-term securities, for the Fund
aggregated $316,128,301 and $326,248,795, respectively.
[5] OPTIONS CONTRACTS WRITTEN
During the year ended November 30, 1996, Institutional Bond Fund wrote the
following options on futures. There were no outstanding contracts at November
30, 1996.
CALL OPTIONS
- -------------------------------------------------------------------------------
NUMBER OF CONTRACTS PREMIUM
- -------------------------------------------------------------------------------
Oustanding at 11/30/95 -- $ --
Opened 70 25,881
Expired -- --
Closed -- --
Exercised (70) (25,881)
- -------------------------------------------------------------------------------
Outstanding at 11/30/96 -- $ --
- -------------------------------------------------------------------------------
PUT OPTIONS
- -------------------------------------------------------------------------------
NUMBER OF CONTRACTS PREMIUM
- -------------------------------------------------------------------------------
Oustanding at 11/30/95 -- $ --
Opened 25 10,750
Expired (25) (10,750)
Closed -- --
Exercised -- --
- -------------------------------------------------------------------------------
Outstanding at 11/30/96 -- $ --
- -------------------------------------------------------------------------------
INDEPENDENT AUDITORS' REPORT
IAI INSTITUTIONAL BOND FUND
The Board of Directors and Shareholders
IAI Investment Funds I, Inc.:
We have audited the accompanying statement of assets and liabilities, including
the fund portfolio, of IAI Institutional Bond Fund (a portfolio within IAI
Investment Funds I, Inc.) as of November 30, 1996 and the related statement of
operations for the year then ended, the statements of changes in net assets for
each of the years in the two-year period then ended, and the financial
highlights for the periods presented on page 16 of the annual report. These
financial statements and the financial highlights are the responsibility of the
Fund's management. Our responsibility is to express an opinion on these
financial statements and the 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 the 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. Investment securities held in custody are confirmed to us by the
custodian. As to securities purchased and sold but not received or delivered, we
request confirmations from brokers and where replies are not received or
delivered, we carry out other appropriate auditing procedures. 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 the financial highlights referred
to above present fairly, in all material respects, the financial position of IAI
Institutional Bond Fund at November 30, 1996, and the results of its operations,
the changes in its net assets and the financial highlights for the periods
stated in the first paragraph above, in conformity with generally accepted
accounting principles.
KPMG Peat Marwick LLP
Minneapolis, Minnesota
January 8, 1997
FEDERAL TAX INFORMATION
IAI INSTITUTIONAL BOND FUND
We are required by federal tax regulations to provide shareholders with certain
information regarding dividend distributions paid during our fiscal year. The
figures provided are for informational purposes only and should not be used for
reporting to federal or state revenue agencies. You will receive all necessary
tax information on Form 1099-DIV, Dividends and Distributions, in January of
each year.
TAX INFORMATION:
- -------------------------------------------------------
PAYABLE DATE ORDINARY INCOME (a)
- -------------------------------------------------------
DECEMBER 1995 $ .1295
JANUARY 1996 .0430
FEBRUARY 1996 .0520
MARCH 1996 .0400
APRIL 1996 .0420
MAY 1996 .0420
JUNE 1996 .0460
JULY 1996 .0270
AUGUST 1996 .0460
SEPTEMBER 1996 .0530
OCTOBER 1996 .0530
NOVEMBER 1996 .0530
- -------------------------------------------------------
$ .6265
(a) INCLUDES DISTRIBUTIONS OF SHORT-TERM CAPITAL GAINS, IF ANY, WHICH ARE
TAXABLE AS ORDINARY INCOME. 2.06% OF ORDINARY INCOME DISTRIBUTIONS QUALIFY FOR
DEDUCTION BY CORPORATIONS.
<TABLE>
<CAPTION>
IAI MUTUAL FUND FAMILY
TO DIVERSIFY YOUR PORTFOLIO, PLEASE CONSIDER ALL OF THE
MUTUAL FUNDS IN OUR FUND FAMILY
Secondary
IAI FUND Primary Objective Objective Portfolio Composition
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
IAI DEVELOPING Capital Appreciation -- Equity securities of companies
COUNTRIES FUND in developing countries
- -----------------------------------------------------------------------------------------------------------------------------------
IAI INTERNATIONAL FUND Capital Appreciation Income Equity securities of non-U.S. companies
- -----------------------------------------------------------------------------------------------------------------------------------
IAI EMERGING GROWTH FUND Capital Appreciation -- Common stocks of small- to medium-sized
(CLOSED TO NEW INVESTORS AS OF 2/1/96) emerging growth companies
- -----------------------------------------------------------------------------------------------------------------------------------
IAI CAPITAL Capital Appreciation -- Common stocks of small- to medium-sized
APPRECIATION FUND growth companies
- -----------------------------------------------------------------------------------------------------------------------------------
IAI MIDCAP GROWTH FUND Capital Appreciation -- Common stocks of medium-sized growth
companies
- -----------------------------------------------------------------------------------------------------------------------------------
IAI REGIONAL FUND Capital Appreciation -- Common stocks of Upper Midwest companies
- -----------------------------------------------------------------------------------------------------------------------------------
IAI GROWTH FUND Capital Appreciation -- Common stocks with potential for above-
average growth and appreciation
- -----------------------------------------------------------------------------------------------------------------------------------
IAI VALUE FUND Capital Appreciation -- Common stocks which are considered to
be undervalued
- -----------------------------------------------------------------------------------------------------------------------------------
IAI GROWTH AND INCOME FUND Capital Appreciation Income Common stocks with potential for long-term
appreciation, and common stocks that are
expected to produce income
- -----------------------------------------------------------------------------------------------------------------------------------
IAI BALANCED FUND Total Return Income Common stocks, investment-grade bonds and
[CAPITAL APPRECIATION + INCOME] short-term instruments
- -----------------------------------------------------------------------------------------------------------------------------------
IAI BOND FUND Income Capital Preservation Investment-grade bonds
- -----------------------------------------------------------------------------------------------------------------------------------
IAI GOVERNMENT FUND Income Capital Preservation U.S. Government securities
- -----------------------------------------------------------------------------------------------------------------------------------
IAI RESERVE FUND Stability/Liquidity Income The portfolio has a maximum average maturity
of 25 months, investing primarily in
investment-grade bonds
- -----------------------------------------------------------------------------------------------------------------------------------
IAI MONEY MARKET FUND Stability/Liquidity Income The portfolio's average dollar-weighted
maturity is less than 90 days, investing in
high quality, money market securities
- -----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
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INVESTMENT ADVISER
AND MANAGER
Investment Advisers, Inc.
P.O. Box 357
Minneapolis, MN 55440-0357 USA
800.945.3863
612.376.2700
http://networth.galt.com/iai
CUSTODIAN
Norwest Bank Minnesota, N.A.
Sixth and Marquette
Minneapolis, MN 55479
LEGAL COUNSEL
Dorsey & Whitney LLP
220 South Sixth Street
Minneapolis, MN 55402
INDEPENDENT AUDITORS
KPMG Peat Marwick LLP
4200 Norwest Center
Minneapolis, MN 55402
DIRECTORS
Madeline Betsch
W. William Hodgson
George R. Long
Noel P. Rahn
Richard E. Struthers
J. Peter Thompson
Charles H. Withers
[LOGO]
IAI
MUTUAL FUNDS
3700 FIRST BANK PLACE, P.O. BOX 357,
MINNEAPOLIS, MINNESOTA 55440-0357 USA FAX 612.376.2737
800.945.3863
612.376.2700
