<PAGE>
September 30, 1996
Dear Shareholder:
We are pleased to present this report on the Hilliard-Lyons Government Fund,
Inc. ("HLGF" or the "Fund") for the year ended August 31, 1996.
Net assets of the Fund reached a record level of $467 million in April and have
since settled around $425 million. This compares favorably to net assets of
$336 million one year ago. The average seven day yield ranged from 4.61% to
5.06% during the year. Distributions of $.048527 were paid which is equivalent
to a 4.85% yield; for those shareholders in the dividend reinvestment plan,
this equates to a compound annual yield of 4.96%. As of the date of this
letter, the current seven day yield was 4.80%.
The narrow yield spread of less than 50 basis points during the year is
indicative of the Federal Reserve's (the "Fed's") relative inaction during this
period. The federal funds rate and the discount rate were each cut one quarter
of a point at the end of January. Strong economic data and fears of inflation
led many to believe the Fed would raise rates several times this year. But a
rate increase has so far failed to materialize.
Two key economic reports recently released for August indicated less consumer
spending and lower inflation than expected. This economic data helped push the
Dow Jones Industrial Average (the "DJIA") and the Standard & Poor's 500 to
record high levels on September 13, 1996 and again on September 16, 1996. These
reports suggest an economic slow-down is occurring which would lessen the Fed's
impetus to raise short term interest rates. Many feel the Fed will not take any
action until after the November elections, if then.
With the congressional and presidential elections just about a month away,
investors will be hearing about each candidate's position on key economic
issues. Federal initiatives regarding taxes and spending do affect the economy
but growth is greatly influenced by the actions and policies of the Fed which
will be controlled by current chairman Alan Greenspan through most of the next
administration. His term runs through the spring of the year 2000. An important
question yet to be decided is whether the Fed will significantly raise interest
rates to control inflation.
Of the money market funds that report to IBC Financial Data, Inc., net assets
of taxable money market funds for the period August 1995-August 1996 increased
18% while net assets of funds that invest in government and agency securities
increased 14%. We feel HLGF's greater increase in net assets of 27% is
attributable to several factors of which HLGF's competitive yield and quality
conscious investment strategy are primary.
As shown on the enclosed Schedule of Investments, HLGF was 100% invested in
securities of the Federal Farm Credit Banks, the Federal Home Loan Banks and
the Student Loan Marketing Association at August 31, 1996. HLGF is one of only
a few money market funds to invest exclusively in such high quality securities.
In addition to credit quality, these securities allow the Fund to pass on
income to its shareholders which is exempt from state income tax in all states.
The percentage of dividends paid by HLGF that is exempt from state income tax
varies from year to year. While there is no guarantee, with just three months
remaining in calendar 1996, we anticipate that 100% of the dividends paid by
HLGF will be exempt from state income tax in all states. An insert with the
exact percentage for 1996 will be sent with your 1996 Form 1099-Div.
By now, you should have received notice that your HLGF account number has
changed. For those shareholders with checkwriting you will be receiving a new
supply of checks imprinted with your new account number. Upon receipt of your
new checks, please discard any unused checks you may have with your old account
number. Should you have any questions about this, please contact your Hilliard
Lyons financial consultant.
The coming year should be an interesting one for the financial markets and
their participants. We are currently in the longest bull market in this
century. In the last year and a half, the DJIA has advanced about 50%. Since
the beginning of 1988 (only eight years ago) it has tripled and since the end
of 1982 (14 years ago) it is up about six fold. This remarkable performance
seems unsustainable to us because it is running so far ahead of longer term
historical reality. Nonetheless, the world is continuing to grow, governments
are undisciplined and tend to follow inflationary policies, and the "numbers"
keep rising. Sooner or later, the general price level is likely to rise and
with it some elevation of interest rates.
/s/ DONALD F. KOHLER
DONALD F. KOHLER /s/ JOSEPH C. CURRY, JR. /s/ DIANNA P. WENGLER
Chairman JOSEPH C. CURRY, JR. DIANNA P. WENGLER
President Vice President and
Treasurer
<PAGE>
HILLIARD-LYONS GOVERNMENT FUND, INC.
SCHEDULE OF INVESTMENTS
AUGUST 31, 1996
<TABLE>
<CAPTION>
PRINCIPAL PURCHASE MATURITY
AMOUNT YIELD DATE VALUE
----------- -------- -------- ----------
<C> <S> <C> <C> <C> <C>
U.S. GOVERNMENT AGENCY
OBLIGATIONS -- 100.2%
$ 8,500,000 Federal Farm Credit Bank 5.448% 09/03/96 $8,497,497
Student Loan Marketing
4,765,000 Association 5.249 09/03/96 4,763,634
8,000,000 Federal Home Loan Bank 5.390 09/04/96 7,996,513
9,000,000 Federal Home Loan Bank 5.390 09/05/96 8,994,770
6,000,000 Federal Home Loan Bank 5.313 09/06/96 5,995,658
7,500,000 Federal Farm Credit Bank 5.443 09/09/96 7,491,200
13,000,000 Federal Farm Credit Bank 5.444 09/10/96 12,982,775
6,000,000 Federal Home Loan Bank 5.465 09/11/96 5,991,150
Student Loan Marketing
12,000,000 Association 5.313 09/12/96 11,980,933
10,000,000 Federal Home Loan Bank 5.397 09/17/96 9,976,622
5,975,000 Federal Home Loan Bank 5.478 09/18/96 5,959,990
4,000,000 Federal Farm Credit Bank 5.440 09/18/96 3,989,989
5,000,000 Federal Farm Credit Bank 5.459 09/23/96 4,983,775
4,000,000 Federal Home Loan Bank 5.405 09/23/96 3,987,118
5,500,000 Federal Farm Credit Bank 5.299 09/24/96 5,481,798
11,000,000 Federal Home Loan Bank 5.246 09/25/96 10,962,233
10,000,000 Federal Farm Credit Bank 5.462 09/26/96 9,963,195
8,500,000 Federal Farm Credit Bank 5.462 09/27/96 8,467,464
8,000,000 Federal Farm Credit Bank 5.416 09/30/96 7,965,973
12,000,000 Federal Home Loan Bank 5.542 10/03/96 11,942,613
10,000,000 Federal Farm Credit Bank 5.476 10/07/96 9,946,900
10,000,000 Federal Home Loan Bank 5.517 10/08/96 9,945,014
10,000,000 Federal Home Loan Bank 5.518 10/09/96 9,943,528
5,000,000 Federal Farm Credit Bank 5.535 10/10/96 4,970,913
5,500,000 Federal Home Loan Bank 5.528 10/15/96 5,463,969
10,000,000 Federal Home Loan Bank 5.492 10/16/96 9,933,375
4,500,000 Federal Home Loan Bank 5.492 10/17/96 4,469,295
7,000,000 Federal Farm Credit Bank 5.507 10/18/96 6,951,290
7,500,000 Federal Home Loan Bank 5.493 10/21/96 7,444,479
5,000,000 Federal Farm Credit Bank 5.461 10/22/96 4,962,458
13,500,000 Federal Home Loan Bank 5.502 10/23/96 13,395,870
10,000,000 Federal Home Loan Bank 5.298 10/28/96 9,918,300
9,780,000 Federal Home Loan Bank 5.417 10/29/96 9,697,120
8,000,000 Federal Farm Credit Bank 5.395 10/30/96 7,931,298
7,700,000 Federal Home Loan Bank 5.397 11/01/96 7,631,372
8,000,000 Federal Farm Credit Bank 5.400 11/05/96 7,924,311
11,000,000 Federal Home Loan Bank 5.377 11/06/96 10,894,730
8,060,000 Federal Farm Credit Bank 5.352 11/07/96 7,981,847
13,000,000 Federal Farm Credit Bank 5.569 11/12/96 12,860,120
</TABLE>
2
<PAGE>
HILLIARD-LYONS GOVERNMENT FUND, INC.
SCHEDULE OF INVESTMENTS (CONTINUED)
AUGUST 31, 1996
<TABLE>
<CAPTION>
PRINCIPAL PURCHASE MATURITY
AMOUNT YIELD DATE VALUE
---------- -------- -------- ------------
<C> <S> <C> <C> <C>
6,000,000 Federal Home Loan Bank 5.347 11/13/96 5,936,855
5,000,000 Federal Home Loan Bank 5.348 11/15/96 4,945,938
10,000,000 Federal Home Loan Bank 5.325 11/20/96 9,885,111
10,000,000 Federal Farm Credit Bank 5.349 11/21/96 9,883,225
3,000,000 Federal Farm Credit Bank 5.330 11/25/96 2,963,379
6,000,000 Federal Farm Credit Bank 5.368 11/26/96 5,925,323
7,000,000 Federal Farm Credit Bank 5.338 11/27/96 6,912,372
5,000,000 Federal Home Loan Bank 5.432 12/03/96 4,932,188
8,500,000 Federal Farm Credit Bank 5.332 12/11/96 8,376,948
6,500,000 Federal Home Loan Bank 5.613 12/23/96 6,389,825
7,500,000 Federal Home Loan Bank 5.713 01/02/97 7,359,831
9,000,000 Federal Home Loan Bank 5.682 01/09/97 8,822,875
8,000,000 Federal Home Loan Bank 5.424 01/10/97 7,848,040
12,000,000 Federal Home Loan Bank 5.449 01/15/97 11,762,453
6,000,000 Federal Home Loan Bank 5.476 01/27/97 5,870,500
------------
TOTAL U. S. GOVERNMENT AGENCY
OBLIGATIONS (amortized cost --
$428,455,952) 428,455,952
------------
TOTAL INVESTMENTS (100.2%) (cost --
$428,455,952*) $428,455,952
============
</TABLE>
* Also represents cost for federal income tax purposes.
The percentage shown for each investment category is the total value of that
category as a percentage of the total net assets of the Fund.
See notes to financial statements.
3
<PAGE>
HILLIARD-LYONS GOVERNMENT FUND, INC.
STATEMENT OF ASSETS AND LIABILITIES
AUGUST 31, 1996
<TABLE>
<S> <C>
ASSETS
Investments in money market instruments, at value:
United States Government Agency Obligations, at value (amortized
cost--$428,455,952)............................................ $428,455,952
------------
Total Investments.............................................. 428,455,952
Cash............................................................. 117,203
Prepaid expenses................................................. 2,222
------------
TOTAL ASSETS................................................... 428,575,377
LIABILITIES
Dividends payable................................................ 900,472
Due to J.J.B. Hilliard, W.L. Lyons, Inc.--Note B................. 144,425
Miscellaneous accrued expenses................................... 36,096
------------
TOTAL LIABILITIES.............................................. 1,080,993
------------
NET ASSETS (equivalent to $1.00 per share; 800,000,000 shares
authorized and 427,494,384 shares issued and outstanding)--Note
C............................................................... $427,494,384
============
HILLIARD-LYONS GOVERNMENT FUND, INC.
STATEMENT OF OPERATIONS
YEAR ENDED AUGUST 31, 1996
INVESTMENT INCOME
Interest income.................................................. $ 22,473,524
EXPENSES
Investment Advisory fee--Note B.................................. 1,660,231
Transfer agent fees.............................................. 581,335
Custodian fees................................................... 91,305
Filing fees...................................................... 81,840
Legal and Audit fees............................................. 35,768
Insurance expense................................................ 33,611
Printing and other expenses...................................... 27,069
Directors' fees.................................................. 13,604
------------
Total expenses.................................................. 2,524,763
------------
Net investment income........................................... 19,948,761
------------
Net increase in net assets resulting from operations............ $ 19,948,761
============
</TABLE>
See notes to financial statements.
4
<PAGE>
HILLIARD-LYONS GOVERNMENT FUND, INC.
STATEMENTS OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
INCREASE IN NET ASSETS: YEAR ENDED AUGUST 31,
1996 1995
------------- -------------
<S> <C> <C>
FROM OPERATIONS
Net investment income............................ $ 19,948,761 $ 13,049,588
------------- -------------
Net increase in net assets resulting from
operations..................................... 19,948,761 13,049,588
Dividends to shareholders ($.048527 and $.049286
per share, respectively)........................ ( 19,948,761) ( 13,049,588)
------------- -------------
Undistributed net investment income.............. 0 0
------------- -------------
FROM CAPITAL SHARE TRANSACTIONS
Net capital share transactions (at $1.00 per
share)--Note C.................................. 91,717,907 125,124,834
NET ASSETS
Beginning of year................................ 335,776,477 210,651,643
------------- -------------
End of year...................................... $427,494,384 $335,776,477
============= =============
</TABLE>
FINANCIAL HIGHLIGHTS
The following table includes selected data for a share of capital stock
outstanding throughout each year and other performance information derived from
the financial statements. It should be read in conjunction with the financial
statements and notes thereto.
<TABLE>
<CAPTION>
YEAR ENDED AUGUST 31,
1996 1995 1994 1993 1992
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
Net asset value,
Beginning of Year...... $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00
-------- -------- -------- -------- --------
Net Investment income... .05 .05 .03 .03 .04
-------- -------- -------- -------- --------
Total From Investment
Operations............ .05 .05 .03 .03 .04
Less Distributions:
Dividend Distributions. ( .05) ( .05) ( .03) ( .03) ( .04)
-------- -------- -------- -------- --------
Total Distributions.... ( .05) ( .05) ( .03) ( .03) ( .04)
-------- -------- -------- -------- --------
Net asset value, End of
Year................... $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00
======== ======== ======== ======== ========
Number of shares
outstanding (000's
omitted)............... 427,494 335,776 210,652 221,050 234,600
Total Investment Return. 4.96% 5.04% 2.85% 2.54% 3.87%
SIGNIFICANT RATIOS AND
SUPPLEMENTAL DATA
Net assets, End of Year
(000's omitted)....... $427,494 $335,776 $210,652 $221,050 $234,600
Operating expenses to
average net assets.... .61% .72% .75% .71% .68%
Net investment income
to average net assets. 4.84% 4.97% 2.80% 2.51% 3.80%
</TABLE>
See notes to financial statements.
5
<PAGE>
HILLIARD-LYONS GOVERNMENT FUND, INC.
NOTES TO FINANCIAL STATEMENTS
NOTE A--ACCOUNTING POLICIES
Hilliard-Lyons Government Fund, Inc. (the "Fund") is a diversified open-end
management investment company registered under the Investment Company Act of
1940, as amended. The following is a summary of significant accounting policies
followed by the Fund in the preparation of its financial statements.
SECURITY VALUATION: The Fund employs the amortized cost method of security val-
uation for U.S. Government securities which, in the opinion of the Board of Di-
rectors, represents fair value of the particular security. The Board monitors
deviations between net asset value per share as determined by using available
market quotations and the amortized cost method of security valuation. If the
deviation in the aggregate is significant, the Board considers what action, if
any, should be initiated to provide fair valuation.
The Fund values repurchase agreements at cost and accrues interest into inter-
est receivable. Normally, repurchase agreements are not subject to trading. Re-
purchase agreements are fully collateralized by U.S. Treasury and U.S. Govern-
ment Agency obligations valued at bid prices plus accrued interest. U.S. Trea-
sury and U.S. Government Agency obligations pledged as collateral for repur-
chase agreements are held by the Fund's custodian bank until maturity of the
repurchase agreements. Provisions of the agreements provide that the market
value of the collateral plus accrued interest on the collateral is greater than
or equal to the repurchase price plus accrued interest at all times. In the
event of default or bankruptcy by the other party to the agreements, the Fund
maintains the right to sell the underlying securities at market value; however,
realization and/or retention of the collateral may be subject to legal proceed-
ings.
FEDERAL INCOME TAXES: It is the policy of the Fund to continue to qualify under
the Internal Revenue Code as a regulated investment company and to distribute
all of its taxable income to shareholders, thereby relieving the Fund of fed-
eral income tax liability.
DIVIDENDS TO SHAREHOLDERS: The net investment income of the Fund is determined
on each business day and is declared as a dividend payable to shareholders of
record immediately prior to the time of determination of net asset value on
each such day. Dividends declared since the preceding dividend payment date are
distributed monthly.
The Fund's net investment income for dividend purposes includes accrued inter-
est and accretion of original issue and market discounts earned and amortiza-
tion of premiums, plus or minus any net realized gain or loss on portfolio se-
curities, if any, occurring since the previous dividend declaration, less the
accrued expenses of the Fund for such period.
INVESTMENT TRANSACTIONS: Investment transactions are accounted for on the date
the securities are bought or sold. Net realized gains and losses on sales of
investments, if any, are determined on the basis of identified cost.
The Fund may enter into repurchase agreements with financial institutions,
deemed to be credit worthy by J.J.B. Hilliard, W.L. Lyons, Inc. (the "Advis-
er"), subject to the seller's agreement to repurchase and the Fund's agreement
to sell such security at a mutually agreed upon date and price.
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. Estimates also affect the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
NOTE B--INVESTMENT ADVISORY AGREEMENT
On September 21, 1995, the Fund renewed its investment advisory agreement with
the Adviser. Under the investment advisory agreement, the Adviser supervises
investment operations of the Fund and the composition of its portfolio, and
furnishes advice and recommendations with respect to investments and the pur-
chase and sale of securities in accordance with the Fund's investment objec-
tives, policies and restrictions; subject, however, to the general supervision
and control of the Fund's Board of Directors. For the services the Adviser ren-
ders, the Fund has agreed to pay the Adviser an annual advisory fee of 1/2 of
1% of the first $200 million of average daily net assets, 3/8 of 1% of the next
$100 million of average daily net assets, and 1/4 of 1% of the average daily
net assets in excess of $300 million. Such fee is accrued daily and paid month-
ly. The Adviser has agreed to reimburse the Fund if total operating expenses of
the Fund, excluding taxes, interest and extraordinary expenses (as defined),
exceed on an annual basis 1 1/2% of the first $30 million of average daily net
assets and 1% of average daily net assets over $30 million. There was no reim-
bursement required for the year ended August 31, 1996.
No compensation is paid by the Fund to officers of the Fund and Directors who
are affiliated with the Adviser. The Fund pays each unaffiliated director an
annual retainer of $2,000, a fee of $500 for each Board of Directors or commit-
tee meeting attended, and all expenses the Directors incur in attending meet-
ings.
NOTE C--CAPITAL STOCK
The Fund was incorporated in June 1980 under the laws of the state of Maryland.
At August 31, 1996, there were 800,000,000 shares of $.01 par value Common
Stock authorized, and capital paid in aggregated $427,494,384. Transactions in
Fund shares at $1.00 per share were as follows:
<TABLE>
<CAPTION>
YEAR ENDED AUGUST 31, ---
1996 1995
-------------- --------------
<S> <C> <C> <C>
Shares sold 1,341,481,777 1,027,556,685
Shares issued to
shareholders
in reinvestment of
dividends 19,471,857 12,403,090
-------------- --------------
1,360,953,634 1,039,959,775
Less shares
repurchased (1,269,235,727) ( 914,834,941)
-------------- --------------
Net increase in capital shares 91,717,907 125,124,834
============== ==============
</TABLE>
6
<PAGE>
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
To the Directors and Shareholders
Hilliard-Lyons Government Fund, Inc.
We have audited the accompanying statement of assets and liabilities of
Hilliard-Lyons Government Fund, Inc., including the schedule of investments, as
of August 31, 1996, the related statement of operations for the year then
ended, the statements of changes in net assets for each of the two years in the
period then ended, and the financial highlights for each of the five years in
the period then ended. 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 securities owned as of
August 31, 1996, 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
Hilliard-Lyons Government Fund, Inc. at August 31, 1996, 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 five years in the period then ended, in conformity with generally
accepted accounting principles.
/s/ Ernst & Young LLP
Louisville, Kentucky
September 13, 1996
7
<PAGE>
HILLIARD-LYONS GOVERNMENT FUND, INC.
Hilliard Lyons Center
Louisville, Kentucky 40202
(502) 588-8400
INVESTMENT ADVISER AND DISTRIBUTOR
J.J.B. Hilliard, W.L. Lyons, Inc.
Hilliard Lyons Center
Louisville, Kentucky 40202
(502) 588-8400
CUSTODIAN AND TRANSFER AGENT
State Street Bank and Trust Company
225 Franklin Street
P.O. Box 1912
Boston, Massachusetts 02105
INDEPENDENT AUDITORS
Ernst & Young LLP
400 West Market Street
Louisville, Kentucky 40202
LEGAL COUNSEL
Brown, Todd & Heyburn PLLC
3200 Providian Center
Louisville, Kentucky 40202
DIRECTORS AND OFFICERS
BOARD OF DIRECTORS
Joseph C. Curry, Jr.
J. Henning Hilliard
Donald F. Kohler
Samuel G. Miller
Gilbert L. Pamplin
Dillman A. Rash
J. Robert Shine
OFFICERS
Donald F. Kohler - Chairman
Joseph C. Curry, Jr. - President
Dianna P. Wengler - Vice President and Treasurer
Michael L. Howard - Secretary
HILLIARD-LYONS
GOVERNMENT FUND, INC.
ANNUAL REPORT
AUGUST 31, 1996
[HILLIARD-LYONS LOGO APPEARS HERE]
