<PAGE>
October 7, 1997
Dear Shareholder:
We are pleased to provide this annual report on the Hilliard-Lyons Government
Fund, Inc. ("HLGF" or the "Fund") for the year ended August 31, 1997.
This has been an eventful year for the Fund. Net assets at the end of the year
were a record $587 million. That compares to net assets of $427 million one
year ago and $519 million six months ago. The average seven day yield ranged
from a low of 4.60% to a high of 5.03% and as of the date of this letter was
5.00%. HLGF's yield this past year has consistently been above the average
yield of money market funds which invest only in U.S. government and agency
securities. Distributions of $.048529 were paid, equivalent to a 4.85% yield;
those shareholders reinvesting income received a compound annual yield of
4.96%.
This has been an interesting year for financial markets generally. The Dow
Jones Industrial Average (DJIA) closed above 4000 for the first time in 1995.
In the two years since then, the DJIA has surpassed the 8000 level, reaching a
record closing high of 8299 on August 7, 1997. Other widely quoted, broader
indices such as the NASDAQ Composite Index and the S & P 500 Stock Index have
also reached record levels in 1997. Bond markets have also been active but the
short term market has been less affected by the activity in other markets.
Short term interest rates have been relatively stable. The spread between the
Fund's high and low yields ranged only 1/2 of 1%. The Federal Reserve (the
"Fed") raised the Federal Funds rate by 1/4 of 1% to 5.50% in March while the
discount rate has remained unchanged. Actions by the Fed have a great impact
on financial markets and the issue of when and what action it will take is
widely debated. The Fed has sought to control inflation through monetary
policy and has been successful. Many believe there will be no further Fed
action this year.
Long term interest rates as evidenced by the yield on the 30 year Treasury
bond have fluctuated more than short term rates. Any economic report hinting
at an increase in inflation causes the yield on longer issues to rise. The
yield on the 30 year Treasury hit a yearly low of 6.29% in July only to rise
to 6.67% during August after several reports suggested increased economic
activity in July. This volatility creates significant price fluctuation in
long bonds.
Because the U.S. government is the largest borrower in the capital markets,
there is no scarcity of its debt instruments. Consequently, rates it has to
pay are constantly under pressure and thus government bonds provide returns
which are only slightly less than those available in less liquid and less safe
money market instruments. Federal agency paper rates key off direct government
rates. Thus we are able to provide both high quality and high yield to our
shareholders. As shown on the enclosed Schedule of Investments, at August 31,
1997, HLGF was 100% invested in short term discount notes issued by the
Federal Farm Credit Banks and the Federal Home Loan Banks. The Fund's expense
ratio, shown in the Financial Highlights, was only .57% for the year, the
lowest expense ratio we have ever had. The Fund's greater asset size and
longevity and experience of Fund management has contributed to these lower
expenses.
We expect that the distributions paid for the calendar year 1997 will be 100%
exempt from state income tax in all states. This will be the third consecutive
year that dividends paid by the Fund will be 100% exempt from state income
tax. You will receive information verifying the percentage with your 1997 form
1099-Div. For the first time this year, your dividend information for HLGF
will be included on your Hilliard Lyons form 1099-Div. You will not receive a
separate form from the Fund. As it has in past years, the Fund, in order to
comply with requirements of the Tax Reform Act of 1986, will pay all December
1997 dividends on December 31st rather than on the regular dividend date of
the 15th of the month. This change is for the month of December ONLY.
/s/ DONALD F. KOHLER /s/ JOSEPH C. CURRY, JR. /s/ DIANNA P. WENGLER
DONALD F. KOHLER JOSEPH C. CURRY, JR. DIANNA P. WENGLER
Chairman President Vice President and
Treasurer
<PAGE>
HILLIARD-LYONS GOVERNMENT FUND, INC.
SCHEDULE OF INVESTMENTS
AUGUST 31, 1997
<TABLE>
<CAPTION>
PRINCIPAL PURCHASE MATURITY
AMOUNT YIELD DATE VALUE
----------- -------- -------- -----------
<C> <S> <C> <C> <C> <C>
U.S. GOVERNMENT AGENCY
OBLIGATIONS -- 100.2%
$ 5,990,000 Federal Home Loan Bank 5.346% 09/02/97 $ 5,989,123
10,000,000 Federal Home Loan Bank 5.606 09/02/97 9,998,485
8,000,000 Federal Home Loan Bank 5.622 09/03/97 7,997,569
4,000,000 Federal Home Loan Bank 5.634 09/03/97 3,998,782
11,000,000 Federal Farm Credit Bank 5.473 09/04/97 10,995,077
13,000,000 Federal Home Loan Bank 5.621 09/05/97 12,992,099
10,000,000 Federal Farm Credit Bank 5.483 09/08/97 9,989,539
6,000,000 Federal Farm Credit Bank 5.461 09/09/97 5,992,853
5,000,000 Federal Farm Credit Bank 5.592 09/09/97 4,993,956
6,000,000 Federal Home Loan Bank 5.623 09/10/97 5,991,795
5,000,000 Federal Farm Credit Bank 5.578 09/11/97 4,992,458
5,000,000 Federal Home Loan Bank 5.579 09/12/97 4,991,704
7,550,000 Federal Farm Credit Bank 5.559 09/15/97 7,534,086
7,000,000 Federal Farm Credit Bank 5.504 09/16/97 6,984,250
13,000,000 Federal Home Loan Bank 5.571 09/17/97 12,968,685
9,000,000 Federal Farm Credit Bank 5.567 09/18/97 8,976,965
11,000,000 Federal Home Loan Bank 5.460 09/19/97 10,970,630
13,000,000 Federal Farm Credit Bank 5.568 09/22/97 12,958,898
11,000,000 Federal Farm Credit Bank 5.509 09/23/97 10,963,700
4,450,000 Federal Home Loan Bank 5.567 09/24/97 4,434,591
5,000,000 Federal Farm Credit Bank 5.540 09/25/97 4,982,033
9,000,000 Federal Home Loan Bank 5.559 09/26/97 8,966,188
12,000,000 Federal Farm Credit Bank 5.578 09/29/97 11,949,413
10,000,000 Federal Farm Credit Bank 5.501 09/30/97 9,956,500
8,000,000 Federal Home Loan Bank 5.582 10/01/97 7,963,800
10,000,000 Federal Home Loan Bank 5.527 10/03/97 9,952,178
11,000,000 Federal Home Loan Bank 5.502 10/06/97 10,942,678
6,000,000 Federal Home Loan Bank 5.508 10/08/97 5,966,947
9,000,000 Federal Home Loan Bank 5.493 10/09/97 8,949,175
6,000,000 Federal Home Loan Bank 5.499 10/10/97 5,965,225
6,000,000 Federal Farm Credit Bank 5.481 10/14/97 5,961,658
9,000,000 Federal Home Loan Bank 5.508 10/15/97 8,941,040
16,000,000 Federal Home Loan Bank 5.469 10/16/97 15,893,400
15,000,000 Federal Home Loan Bank 5.496 10/17/97 14,897,458
4,000,000 Federal Home Loan Bank 5.493 10/20/97 3,970,872
10,000,000 Federal Home Loan Bank 5.495 10/21/97 9,925,417
15,000,000 Federal Farm Credit Bank 5.489 10/22/97 14,886,525
6,000,000 Federal Farm Credit Bank 5.523 10/23/97 5,953,287
</TABLE>
See notes to financial statements.
2
<PAGE>
HILLIARD-LYONS GOVERNMENT FUND, INC.
SCHEDULE OF INVESTMENTS (CONTINUED)
AUGUST 31, 1997
<TABLE>
<CAPTION>
PRINCIPAL PURCHASE MATURITY
AMOUNT YIELD DATE VALUE
----------- -------- -------- ------------
<C> <S> <C> <C> <C>
$ 6,170,000 Federal Farm Credit Bank 5.489% 10/24/97 $ 6,121,494
4,000,000 Federal Home Loan Bank 5.569 10/24/97 3,968,200
11,000,000 Federal Home Loan Bank 5.513 10/27/97 10,908,113
13,000,000 Federal Farm Credit Bank 5.507 10/28/97 12,889,262
16,000,000 Federal Home Loan Bank 5.530 10/29/97 15,861,316
12,000,000 Federal Home Loan Bank 5.521 10/30/97 11,894,193
10,000,000 Federal Home Loan Bank 5.530 10/31/97 9,910,333
10,000,000 Federal Farm Credit Bank 5.532 11/03/97 9,905,500
10,000,000 Federal Home Loan Bank 5.508 11/05/97 9,903,222
7,690,000 Federal Home Loan Bank 5.530 11/05/97 7,615,300
5,000,000 Federal Farm Credit Bank 5.635 11/07/97 4,949,285
10,000,000 Federal Home Loan Bank 5.501 11/10/97 9,896,361
10,000,000 Federal Home Loan Bank 5.540 11/12/97 9,892,200
13,000,000 Federal Home Loan Bank 5.511 11/13/97 12,859,232
4,000,000 Federal Home Loan Bank 5.537 11/14/97 3,955,682
7,000,000 Federal Home Loan Bank 5.572 11/14/97 6,922,012
7,800,000 Federal Home Loan Bank 5.555 11/17/97 7,710,411
9,000,000 Federal Home Loan Bank 5.520 11/18/97 8,895,285
10,000,000 Federal Home Loan Bank 5.520 11/19/97 9,882,158
5,000,000 Federal Home Loan Bank 5.540 11/20/97 4,940,111
11,000,000 Federal Home Loan Bank 5.521 11/21/97 10,867,093
10,000,000 Federal Home Loan Bank 5.572 11/26/97 9,870,522
4,000,000 Federal Home Loan Bank 5.540 12/03/97 3,944,717
10,000,000 Federal Home Loan Bank 5.532 12/03/97 9,861,533
10,000,000 Federal Home Loan Bank 5.519 12/04/97 9,860,567
10,000,000 Federal Farm Credit Bank 5.546 12/08/97 9,853,817
10,000,000 Federal Home Loan Bank 5.608 01/02/98 9,816,183
10,000,000 Federal Home Loan Bank 5.618 01/05/98 9,811,350
5,000,000 Federal Home Loan Bank 5.585 01/09/98 4,902,861
------------
TOTAL U. S. GOVERNMENT AGENCY
OBLIGATIONS (amortized cost --
$588,407,352) 588,407,352
------------
TOTAL INVESTMENTS (100.2%) (cost --
$588,407,352*) $588,407,352
============
</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, 1997
<TABLE>
<S> <C>
ASSETS
Investments in money market instruments, at value:
United States Government Agency Obligations, at value (amortized
cost--$588,407,352)............................................. $588,407,352
------------
Total Investments.............................................. 588,407,352
Cash............................................................. 147,519
Prepaid expenses................................................. 3,517
------------
TOTAL ASSETS................................................... 588,558,388
LIABILITIES
Dividends payable................................................ 1,276,010
Due to J. J. B. Hilliard, W. L. Lyons, Inc. -- Note B............ 176,700
Miscellaneous accrued expenses................................... 25,835
------------
TOTAL LIABILITIES.............................................. 1,478,545
------------
NET ASSETS (equivalent to $1.00 per share; 800,000,000 shares
authorized and 587,079,843 shares issued and outstanding)--Note
C............................................................... $587,079,843
============
HILLIARD-LYONS GOVERNMENT FUND, INC.
STATEMENT OF OPERATIONS
FOR THE YEAR ENDED
AUGUST 31, 1997
INVESTMENT INCOME
Interest income.................................................. $ 27,276,344
EXPENSES
Investment Advisory fee--Note B.................................. 1,880,981
Transfer agent fees.............................................. 712,000
Custodian fees................................................... 99,160
Printing and other expenses...................................... 48,648
Filing fees...................................................... 45,690
Insurance expense................................................ 36,193
Legal and audit fees............................................. 33,093
Directors' fees.................................................. 11,003
------------
Total expenses.................................................. 2,866,768
------------
Net investment income........................................... 24,409,576
------------
Net increase in net assets resulting from operations............ $ 24,409,576
============
</TABLE>
See notes to financial statements.
4
<PAGE>
HILLIARD-LYONS GOVERNMENT FUND, INC.
STATEMENTS OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
FOR THE YEAR ENDED AUGUST 31,
1997 1996
-------------- --------------
<S> <C> <C>
INCREASE IN NET ASSETS:
FROM OPERATIONS
Net investment income.......................... $ 24,409,576 $ 19,948,761
-------------- --------------
Net increase in net assets resulting from
operations................................... 24,409,576 19,948,761
Dividends to shareholders ($.048529 and
$.048527 per share, respectively)............. ( 24,409,576) ( 19,948,761)
-------------- --------------
Undistributed net investment income............ 0 0
-------------- --------------
FROM CAPITAL SHARE TRANSACTIONS
Net capital share transactions (at $1.00 per
share)--Note C................................ 159,585,459 91,717,907
NET ASSETS
Beginning of year.............................. 427,494,384 335,776,477
-------------- --------------
End of year.................................... $ 587,079,843 $ 427,494,384
============== ==============
</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>
FOR THE YEAR ENDED AUGUST 31,
1997 1996 1995 1994 1993
-------- -------- -------- -------- --------
<S> <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 .05 .03 .03
-------- -------- -------- -------- --------
Total From Investment
Operations................. .05 .05 .05 .03 .03
Less Distributions:
Dividend Distributions...... ( .05) ( .05) ( .05) ( .03) ( .03)
-------- -------- -------- -------- --------
Total Distributions.......... ( .05) ( .05) ( .05) ( .03) ( .03)
-------- -------- -------- -------- --------
Net asset value, End of Year. $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00
======== ======== ======== ======== ========
Number of shares outstanding
(000's omitted)............. 587,080 427,494 335,776 210,652 221,050
Total Investment Return...... 4.96% 4.96% 5.04% 2.85% 2.54%
SIGNIFICANT RATIOS AND
SUPPLEMENTAL DATA
Net assets, End of Year
(000's omitted)............ $587,080 $427,494 $335,776 $210,652 $221,050
Operating expenses to
average net assets......... .57% .61% .72% .75% .71%
Net investment income to
average net assets......... 4.86% 4.84% 4.97% 2.80% 2.51%
</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 October 1, 1996, the Fund renewed its investment advisory agreement with the
Adviser. Under the investment advisory agreement, the Adviser supervises in-
vestment operations of the Fund and the composition of its portfolio, and fur-
nishes advice and recommendations with respect to investments and the purchase
and sale of securities in accordance with the Fund's investment objectives,
policies and restrictions; subject, however, to the general supervision and
control of the Fund's Board of Directors. For the services the Adviser renders,
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 as-
sets in excess of $300 million. Such fee is accrued daily and paid monthly. 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 reimbursement
required for the year ended August 31, 1997.
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, 1997, there were 800,000,000 shares of $.01 par value Common
Stock authorized, and capital paid in aggregated $581,209,045. Transactions in
Fund shares at $1.00 per share were as follows:
<TABLE>
<CAPTION>
FOR THE YEAR ENDED AUGUST 31,
1997 1996
-------------- --------------
<S> <C> <C>
Shares sold 1,740,443,413 1,341,481,777
Shares issued to shareholders in reinvestment
of dividends 23,618,228 19,471,857
-------------- --------------
1,764,061,641 1,360,953,634
Less shares repurchased (1,604,476,182) (1,269,235,727)
-------------- --------------
Net increase in capital shares 159,585,459 91,717,907
============== ==============
</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, 1997 and the related statement of operations for the year
then ended, and 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, 1997, 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, 1997, 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 12, 1997
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
HILLIARD-LYONS
GOVERNMENT FUND, INC.
ANNUAL REPORT
AUGUST 31, 1997
[HILLIARD-LYONS LOGO APPEARS HERE]
